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The U.S. Securities and Exchange Commission last month settled with Royal Ahold for alleged securities violations related to a $30 billion overstatement in net sales from 2000 to 2002. It also charged several former executives with accounting fraud and other wrongdoing. The SEC described the case as “yet another deplorable example of a massive, multifaceted fraud at a major corporation.” However, it did not seek a penalty against the Dutch food retailer, largely due to the company’s cooperation with the investigation. The SEC’s reaction is a signal that it will reward cooperation. It also underscores two important issues for a company under SEC investigation: the balance it must strike in meeting the government’s demands while trying to shield itself against shareholder suits, and exactly what the SEC considers to be genuine cooperation. SENDING A MESSAGE When Ahold discovered accounting irregularities, it acted quickly, said its chief outside counsel on the matter, Lawrence Byrne, a partner at White & Case. White & Case, which historically represented Ahold on securities matters, worked with Ahold’s general counsel and supervisory board to come up with a strategy, said Byrne. Ahold began an internal investigation encompassing all of its divisions conducted by outside accountants and a handful of independent law firms including Washington, D.C.’s Wilmer Cutler Pickering and Boston’s Hale and Dorr. The company also voluntarily disclosed its problems to the SEC and the U.S. Attorney’s Office in the Southern District of New York before telling the public, Byrne said. “In the past few years, cooperation has been a key element in responding to any SEC investigation,” said Robert Giuffra, a partner from Sullivan & Cromwell, which was not involved in the Ahold matter. The greater the cooperation, the lesser the penalties, he said. These were the first of several moves made by Ahold to satisfy the SEC. The company also waived the attorney-client privilege, handed over documents covered by the attorney work-product doctrine, made employees here and abroad available for interviews and handed over the findings of its own investigations. Ahold officials delivered all of this as quickly as the SEC demanded it, said Thomas Newkirk, associate enforcement director at the commission, who worked on the Ahold case. It was “exemplary cooperation,” he said. The SEC issued a set of standards in what is called the Seaboard memorandum in 2001 listing the criteria it would use to mete out penalties at the end of an investigation. Among the weightier factors is a company’s cooperation with government investigators. “The SEC sent the message that if you cooperate with us, we will be lenient,” said John F.X. Peloso, a senior counsel at Morgan, Lewis & Bockius. The Department of Justice and corporate sentencing guidelines apply similar criteria when seeking to punish companies, Peloso said. The commission’s Newkirk explained that the SEC had two more considerations in this case. Ahold inherited many of its problems when it recently acquired a subsidiary at the heart of the accounting discrepancies. Dutch authorities, he added, had also imposed a $10 million fine on the company. But the message was clear. “This case is … an example of the clear corporate advantage to conducting a comprehensive internal investigation and fully cooperating with the SEC,” the commission said in a statement. THE LUCENT EXAMPLE Lucent’s settlement with the SEC in May exemplified the commission’s dissatisfaction with companies it deemed uncooperative. The settlement, which involved an infraction in which Lucent allegedly improperly recognized $1.14 billion in revenue, included a $25 million penalty for Lucent’s lack of cooperation. The SEC pointed out in a press release that Lucent outside counsel, Cravath, Swaine & Moore partner Paul Saunders, was quoted in a Fortune magazine article saying that Lucent’s actions related to a transaction under scrutiny were not fraudulent, but simply a “failure of communication.” The SEC also reprimanded Lucent for indemnifying employees under investigation. A Lucent spokesman said the company accepted responsibility for any shortcomings in its cooperation and wanted to put the matter behind it. “The question is, has the government gone too far,” asked Peloso. Some states like Delaware, where many corporations are incorporated, require companies to pay for the legal expenses incurred by employees. “Where is the balance between helping the SEC root out problems in one hand and still maintain a legal system,” where those “who may be innocent have a chance to defend themselves?” Peloso asked. STRIKING A BALANCE Peloso’s point pointed out the tension between companies and their lawyers when dealing with investigators. “You’re sort of between a rock and a hard place,” said Giuffra. While companies want to cooperate, waiving the attorney-client privilege — often the simplest and fastest way to cooperate — has consequences for future private litigation. The documents handed over to regulators often make their way to class actions lawyers. These documents would be otherwise unavailable to them in most cases, said Giuffra. The payouts for these cases can far outweigh the penalties paid to the government. Lucent doled out $563 million to settle securities class actions. A lengthy government investigation, however, is a pall over a company, holding down its stock price and creating anxiety among important constituents like employees, suppliers, and creditors, said Giuffra. “Boards of directors want to conclude a government investigation as quickly as possible,” to minimize damage, said Giuffra. At the end, “you have to balance what the government regulators can do with the potential downside with private litigation,” he said. IS IT GENUINE All companies say they are cooperating with regulators but the key is to convince the SEC that it is genuine. The SEC looks at a company’s “attitude and what they do,” explained the commission’s Newkirk. “Good intentions aren’t enough. They’re a start,” he said. In Ahold’s case, he said the company conducted a “genuine investigation” that did not steer away from problem areas. The internal investigation covered not just the division involved in the alleged wrongdoing but the entire company, he said. Whatever the SEC asked of the company, “they gave and did it as fast as humanly possible,” he said. “We became convinced by this conduct that this was bona fide.” Some attorneys said they worried that the level of cooperation demanded by regulators had reached unreasonable heights. “What was considered cooperation in the last case is considered ordinary” in this one, said Giuffra. With each case, he said, regulators seem to be raising the ante of what they expect. “The issue is not so much does a corporation do all of these things,” Peloso said. “The issue is are they getting credit for it” as the demands from regulators grow ever larger. “Every public company says they want to cooperate,” answered Newkirk. “But we know the difference.” John F.X. Peloso, who is quoted above, is a Law Journal columnist.

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