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The appointment of corporate monitors has become a much favored, but little analyzed, means of imposing remedial measures on recalcitrant companies and extending the government’s reach into corporate offices and boardrooms for significant periods of time. As a practical matter, a monitor or examiner can wield enormous powers that can easily expand beyond the strict limits of the order appointing him or her. Yet little has been written on the burgeoning role of monitors and examiners in the Securities Exchange commission’s (“SEC’s”) and the Department of Justice’s (“DOJ’s”‘) evolving efforts to respond to corporate fraud and corruption. Unlike the typical receiver appointed in a civil litigation, 1but like so many remedies developed by the SEC, corporate monitors are creatures of settlements, not typically the result of contested hearings. There has, therefore, been essentially no court challenge to the use of monitors and little public analysis of the pros and cons of this enforcement device. What are the origins and uses of this device? What are the legal and practical limits of a monitor’s role? How, if at all, may a corporation facing possible indictment or SEC action avoid the imposition of such a “remedy” or narrow the monitor’s function? How does one know when the monitor’s function has been fulfilled? These are all questions that are currently being worked out on a case-by-case basis as the government expands the number of tools at its disposal to fight corporate fraud. And behind each is a more fundamental issue: when, if at all, is it appropriate for prosecutors and regulators, or in this case their private representatives, to invite themselves into the corporate offices and boardrooms of public companies for an extended look around? The Origins of the Role of Monitor Courts have long exercised the power to monitor and even control the affairs of companies through the appointment of receivers and trustees. Over the last 30 years, the SEC has, in relatively rare cases, exploited this judicial power by asking courts to appoint receivers, typically where broker-dealers were likely to go out of business as a result of an SEC action. 2In 1970, Congress passed the Securities Investor Protection Act which, among other things, provided for the appointment of trustees with special powers to more effectively oversee the operations of a broker-dealer and protect its customers as it passed through bankruptcy, often following actions by the SEC or the NASD. See 15 U.S.C. �78fff. And in cases that were not expected to lead to bankruptcies the commission would sometimes appoint a “special counsel” to monitor the conduct of a company as part of an SEC action or settlement. 3 The current role of monitor or examiner can be traced back to the government’s first use of a deferred prosecution agreement (“DPA”) to resolve a case against a public company. 4Until that case, the Department of Justice had agreed to defer the prosecutions of criminal defendants only when the defendant was an individual who, but for the criminal charge at issue, had lived a truly exemplary life. The device was reserved, for example, for the letter carrier who in an aberrational moment had taken a single U.S. Treasury check from his mailbag, and such a defendant would qualify for a deferral only if he could demonstrate that he had otherwise devoted himself to good works and been an example to others throughout his life. The defendant would be required to stay out of trouble for typically about six months – serving a kind of pre-indictment probation – in order to avoid charges. 5It was not a device used to resolve investigations of corporations. However, for the first time in 1994 the U.S. Attorney in Manhattan used the DPA device to facilitate the resolution of an investigation of a corporation. Faced with the prospect that an indictment of Prudential Securities would likely put that company and its many innocent employees out of business, the U.S. Attorney in the Southern District of New York decided instead to defer the prosecution of the company and to seek the appointment of a monitor with significant powers to investigate the company and make recommendations for changes in the way it did business over a three year term of service. 6 Since Prudential Securities, the same approach has been used in a number of cases either as part of a deferred prosecution or a non-prosecution agreement and an SEC consent decree. 7In each, the corporation was faced with a choice between possible indictment and a settlement that would include an extended term for a corporate monitor. For each, the choice was simple. Again, it was thought that an indictment in each case could have been fatal. 8 Legal and Practical Limits In the years since the Prudential Securities settlement, there have been approximately 79 corporate DPAs and, of those, 32 monitors and examiners have been appointed in cases involving the DOJ, the SEC and other agencies. The responsibilities and powers of those appointees have varied widely both in terms of their legal description and their practical application. For example, the monitor in WorldCom was granted the power to review the adequacy and effectiveness of WorldCom’s corporate governance systems and required to prepare a public report on his findings. 9However, in the Symbol Technologies case, notwithstanding the breadth of the issues raised by the investigation of that company, the examiner there was limited to reviewing accounting practices at the company and issuing periodic confidential reports. 10 It is obviously in the company’s interest to negotiate the narrowest possible set of powers where a monitor is being required. No matter how narrow the monitor’s legal assignment, however, it is often difficult for a company to deny him or her access to a broad range of corporate information and the ability to require changes in policies and procedures. Otherwise, the monitor can always threaten to turn any perceived problems over to the courts or the government. So, in the end, the breadth of a monitor’s assignment may be determined more by the approach of the monitor than by the language of the order appointing him or her. Whether the monitor is charged with making public or private reports can, however, make an enormous difference. Where the monitor is obliged to make reports public, certain employees will naturally be reticent in their dealings with the monitor, and the obligation to publicize reports places extra burdens on the monitor to edit himself for fear of creating unintended problems for the company. Private reports, on the other hand, encourage the company and its employees to deal openly with the monitor and make the job of providing candid reports much easier. Because everything depends on the particular corporate conditions that justify the appointment of a monitor, it is difficult to generalize about the function and benefits of such an appointment. However, by definition, a monitor brings with him or her the credibility of an independent outside observer and the power that accompanies anyone who has the government’s or the court’s ear. As a consequence of this power, the monitor accomplishes something just by showing up often enough at corporate meetings so that saying and doing the right thing becomes a corporate habit. In addition, mere suggestions from the monitor carry great weight with any corporate officers who understand the monitor’s powers. In some cases, little else need be done. In harder cases – where senior management itself needs a compliance education – the monitor may need to be more aggressive. But it is never enough for the monitor to formulate and dictate reforms. Reforms imposed by the monitor will simply wither when the monitor’s term is up. Rather than dictate, the monitor must develop and advocate with the government and the corporation in a way that insures the longevity of reforms. Involving the Board of Directors in this process can also be enormously helpful. Negotiating Monitor’s Powers In the most serious cases of corporate misconduct, the appointment of monitors or examiners are essentially impossible for the company to resist, and, indeed, in many cases the appointment is even welcomed by new management, especially where there is a perception that the causes of the previous illegal behavior were deep-seated in the corporate culture. In those cases, the government simply has too much bargaining power because, as noted above, an indictment alone is the virtual equivalent of a guilty verdict. But those are also the cases where the need for change and the opportunity for the monitor to add real value is typically greatest. Therefore, it is not surprising that many, if not most, companies in this position end up acknowledging, at least by the end of the monitorship, that their dealings with the examiner or monitor were positive. However, there is some evidence that the government is expanding its use of monitors to cases involving lesser infractions. As it does, the question of the need for, and scope of, the monitor’s assignment becomes much more pressing. For example, an examiner was recently appointed in an action against a hedge fund for violations of the SEC’s “uptick rule” for short sales of stock over the course of only two days – an apparently isolated infraction that did not suggest a pattern or practice of illegal behavior or a corporate culture in fundamentally serious trouble. 11The examiner there was given the simple duty of studying the firm’s compliance with the uptick rule and its practices in covering short sales with borrowed stock – issues that did not seem to raise serious concerns about the broader culture of compliance in the firm. 12 The question is, of course, whether the SEC will persist in efforts to obtain monitors in such smaller matters and, thus, whether defense counsel must prepare to argue against such appointments even when the issues do not suggest a corporate culture in crisis. Plainly, the use of monitors can be an extremely effective way of insuring that fundamental changes are made in the defendant company’s policies and practices. At the same time, it is beyond peradventure that such an appointment represents a dramatic incursion by the government into a company’s affairs. The various arguments that may be marshaled against such appointments are too great in number to cover in this brief discussion. Plainly, where issues have been independently addressed by the board or by company managers who are beyond suspicion – and especially where independent lawyers and accountants have been hired by the company to investigate and offer ideas on how to remediate the issues in question – there are compelling arguments supporting the conclusion that the appointment of a private government representative would be unnecessarily intrusive. The narrower the issues the more compelling are those arguments. Similarly, the appointment of an examiner would seem to be appropriate only when the misconduct in question was that of the company’s most senior officers, or where those senior officers responded inappropriately to reports of the misconduct. When the company has replaced such senior officers, however, it can muster helpful arguments against the appointment of a monitor, unless, of course, employees who participated or were aware of the misconduct remain at the firm or its corporate ethical culture is otherwise in doubt. Where the issues rise to the top of management or suggest serious cultural issues, the involvement of a monitor can, along with a number of measures, effect real change. For this reason, as noted above, executives and general counsel who have dealt with such monitors have often come away from the experience convinced that the monitor played an important and constructive role in righting their corporate ships. Because of their position and independence, monitors can identify and raise issues and make suggestions that an employee of the company, no matter how senior, may not be able to. A monitor can become the “bad cop” using his power to promote important but painful changes. However, for such changes to be effective over the long haul, they must be embraced by, rather than imposed on, the senior managers of the company, and this requires that, wherever possible, the monitor or examiner must resist the temptation to dictate or take credit for important changes. Notwithstanding the extraordinary power that such government or court appointees enjoy, it is critical that, whenever possible, they work from within, urging company officials to understand and accept change. Rather than succumbing to the sense of power inherent in dictating or taking credit for reforms, monitors must seek to persuade rather than proscribe. Indeed, their role should be to convince corporate officers that the needed reforms were their ideas, rather than the monitors’. Of course, there will be times when the monitor must exert his or her power firmly and overtly. But, in order to be truly effective, monitors must recognize that the exertion of such power should be reserved only for those occasions when management has remained unpersuaded by the monitor’s arguments. When Is the Monitor Done? The orders appointing monitors and examiners always provide a time frame for the accomplishment of their work. However, they also often provide a mechanism for extending that time frame where appropriate, typically where change at the company has not proceeded quickly enough to suit either the monitor or the government. Those mechanisms are rarely employed but do obviously mean that a monitor’s term can last for considerably longer than originally anticipated. The question is what standard should be applied in deciding whether the conditions set out in a deferred prosecution agreement or SEC consent decree have been satisfied. Orders appointing monitors do not typically articulate the test to be applied; so, once again, this issue is being resolved on a case-by-case basis. The answer involves a determination not only regarding the quality of changes made in company policies and procedures, but also a judgment about whether those changes will be lasting – subjective decisions, indeed. Again, where the monitor has been working from within the company to recommend and advocate change, this question regarding the test to be applied has almost inevitably been the subject of a continuing dialogue between the parties to a deferred prosecution agreement. On the other hand, where the monitor has been simply “examining” and proscribing reforms without the proper dialogue with the company, there is a greater chance that the final test for the completion of his or her work will be the subject of misunderstandings and even disagreement. Conclusion The recent trend to appoint monitors and examiners poses both important opportunities for dramatic corporate reform in significant cases and the danger of governmental over-intrusiveness in corporate affairs in others. Indeed, in some sense one cannot have one without the other. Whether the reforms will be realized in a particular case without crossing the line into government overreaching depends on the seriousness of the corporate misconduct in question and its pervasiveness within the company, as well as the approach of the monitor and the company he or she is monitoring. For its part, the government must draw the line between those cases where a monitor is and isn’t necessary exceedingly carefully. As for the companies facing the appointment of a monitor, management would be well-advised to consider the opportunities for helpful change afforded by such an appointment rather than simply resisting it. And, of course, the monitor will, by definition, be in the best position to police the line between reform measures and intrusiveness. In the right case, a monitorship can be an extremely constructive means to the end of a healthy, productive corporate culture. A monitor can pitch in and help a corporation in crisis regain credibility and pull itself out of the morass created by scandal. That process depends on the proper balance between the monitor’s power to effect change and the need for that change to be truly accepted by the company. Some will say that the recent trend against indicting corporations in favor of deferred prosecutions is proof that the government has gone soft on corporate crime. Others will argue that monitorships represent another example of governmental overreaching. If the government, the corporations it targets and the monitors it appoints remain sensitive to the issues discussed in this article, there is good reason to believe that both groups of critics will be proven wrong in the future. Lee S. Richard III is a partner at Richards Kibbe & Orbe. He recently served as the independent examiner in ‘United States v. Computer Associates Int’l Inc.’, Crim. Docket No. 04-837 (ILG) (EDNY), and has served as counsel to the audit committee or defense counsel in other cases cited in this article. Tamala Newbold assisted in the preparation of this article. Endnotes: 1. In analyzing the appointment and role of special masters, the authors of a recent law review article on this subject have chosen another useful comparison in their understanding of the origins of the monitor concept. See Vikramaditya Khanna and Timothy L. Dickinson, ” The Corporate Monitor: The New Corporate Czar?” 105 Mich. L. Rev. 1713 (June 2007). 2. In a different context, the DOJ and the Department of Health and Human Services have often sought the appointment of Independent Review Organizations (“IRO”) in connection with the Corporate Integrity Agreements executed as part of corporate pleas in Medicare and Medicaid fraud cases. Those IROs play a similar role to monitors in securities cases. See Corporate Integrity Agreement Between the Office of the Inspector General of the Department of Health and Human Services and Novartis Nutrition Corp., at 9-12 (Feb. 11, 2005); Corporate Integrity Agreement Between the Office of the Inspector General of the Department of Health and Human Services and Schering-Plough Corp., at 16-21 (July 29, 2004); see also Vikramaditya Khanna and Timothy L. Dickinson, “The Corporate Monitor: The New Corporate Czar?” 105 Mich. L. Rev. 1713, 1716 and n.13 (June 2007) (tracing predecessors to and history of corporate monitorships); James B. Jacobs et al., “The RICO Trusteeships After Twenty Years: A Progress Report,” 19 Lab. Law. 419, 452 (2004) (noting that trustees, who performed functions similar to monitors, have been appointed under RICO). 3. See, e.g., International Controls Corp. v. Vesco,490 F.2d 1334, 1339-40 (2d Cir.), cert. denied, 417 U.S. 932 (1974); SEC v. Mattel Inc., Fed. Sec. L. Rep. (CCH) �94,807, 1974 WL 449, at *7-8 (SEC Oct. 1, 1974); SEC v. Charter Diversified Serv.,SEC Lit. Rel. No. 6507, 1974 WL 161618, at *2 (SEC Sept. 9, 1974); SEC v. Canadian Javelin, SEC Lit. Rel. No. 6441, 1974 WL 162478, at *1-2 (SEC July 19, 2004); SEC v. Holiday Magic Inc., Fed. Sec. L. Rep. (CCH) �94,526, 1974 WL 390, at *2-3 (N.D. Cal. April 2, 1974). 4. Letter from Mary Jo White, U.S. Attorney for the Southern District of New York, to Scott W. Muller, counsel for Prudential Securities Group (Oct. 27, 1994). 5. See U.S. Attorney Criminal Resource Manual, Section 712, Pretrial Diversion (Oct. 1997); Sample Pretrial Diversion Agreement, 715 USA Form 186, Criminal Resource Manual Section 715 (Oct. 1997). 6. See Deferred Prosecution Agreement, United States v. Prudential Sec. Inc.(Oct. 27, 1994). 7. See Letter from U.S. Attorney David Kelley to Charles P. Scheeler, Counsel to MCI, successor entity to WorldCom Inc. (Aug. 30, 2005); Letter from the Enron Task Force to Robert Morvillo and Charles Stillman, counsel to Merrill Lynch & Co. Inc. (Sept. 17, 2003); Agreement Between Symbol Technologies Inc. and the U.S. Attorney’s Office for the Eastern District of New York (EDNY June 3, 2004); Deferred Prosecution Agreement, United States v. Computer Associates Int’l Inc.(EDNY Sept. 22, 2004). 8. The U.S. Attorney for the District of New Jersey entered a deferred prosecution agreement with the University of Medicine and Dentistry of New Jersey (“UMDNJ”) which required UMDNJ to retain an independent monitor, selected by the USAO, to review and evaluate UMDNJ’s policies concerning, among other things, corporate structure and governance, and Medicare and Medicaid billing. The agreement also required the monitor to review and evaluate training programs related to billing, ethics and compliance. The monitor was required to track compliance with the agreement, and to report UMDNJ’s compliance to the USAO on a quarterly basis. The agreement required the monitor to review and approve the engagement of all outside counsel, and required the monitor to conduct a nationwide search for a new general counsel and for the newly created position of chief compliance officer. See Deferred Prosecution Agreement between United States Attorney’s Office for the District of New Jersey and the University of Medicine and Dentistry of New Jersey (Dec. 30, 2005). 9. SEC v. WorldCom Inc., No. 02 CV 4963 (JSR), 2002 WL 1788032 (SDNY Aug. 02, 2002). 10. See Agreement Between Symbol Technologies Inc. and the U.S. Attorney’s Office for the Eastern District of New York (EDNY June 3, 2004). 11. In the Matter of Sandell Asset Management Corp.,Rel. No. 33-8857, Admin. Proc. File No. 3-12865 (SEC Oct. 10, 2007). In Sandell Asset Management, the SEC actually appointed an “independent consultant,” rather than a “monitor.” The titles appear to be a distinction without a difference. 12. Id. at 7.

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