S.E.C. v. Worldcom, Inc., 02 Civ. 4963(JSR).
| Decision Date | 07 July 2003 |
| Docket Number | No. 02 Civ. 4963(JSR).,02 Civ. 4963(JSR). |
| Citation | 273 F.Supp.2d 431 |
| Parties | SECURITIES AND EXCHANGE COMMISSION, Plaintiff, v. WORLDCOM, INC., Defendant. |
| Court | U.S. District Court — Southern District of New York |
Robert Blackburn, SEC-NERO, New York City, Arthur S. Lowry, William R. Baker, III, Peter H. Bresnan, Division of Enforcement, U.S. S.E.C., Washington, DC, for Plaintiff.
Paul C. Curnin, Simpson, Thacher & Bartlett, New York City, Richard C. Breeden, Richard C. Breeden & Co., Greenwich, CT, for Defendant.
This case raises fundamental questions about how market regulators, and the courts, should respond when criminals use the vehicle of a public company to commit a massive fraud. While the persons who perpetrated the fraud can be criminally prosecuted, the exposure of the fraud often creates liquidity pressures that can drive the company into bankruptcy, leaving unsecured creditors with little and shareholders with nothing. Innocent employees may find their jobs in jeopardy, and, if the company is very large, entire segments of the market may be disrupted. In a situation where immense financial suffering is therefore likely, is there nothing government regulators can do to restore equilibrium?
In the case of WorldCom, Inc., we have perhaps the largest accounting fraud in history, with the company's income overstated by an estimated $11 billion, its balance sheet overstated by more than $75 billion, and the loss to shareholders estimated at as much as $200 billion. Those individuals who allegedly perpetrated the fraud are either under indictment or being criminally investigated by the Department of Justice; creditors are seeking recompense in the Bankruptcy Court (in the matters before Judge Gonzalez); and shareholders and employees are seeking through private class actions (in the matters before Judge Cote) to recover what they can, if not from the company (which is in bankruptcy), then from other alleged participants in the effectuation of the fraud. These are the traditional responses.
In the instant lawsuit, however, the Securities and Exchange Commission (the "Commission"), with the full cooperation of the company's new management and significant encouragement from the Court-appointed Corporate Monitor (Richard C. Breeden, Esq.), has sought something different:
— not just to clean house but to put the company on a new and positive footing;
— not just to enjoin future violations but to create models of corporate governance and internal compliance for this and other companies to follow;
— not just to impose penalties but to help stabilize and reorganize the company and thereby help preserve more than 50,000 jobs and obtain some modest, if inadequate, recompense for those shareholder victims who would otherwise recover nothing whatever from the company itself.
The first step in this journey, taken at the very outset of the litigation, was the joint decision of the parties to have the Court appoint a Corporate Monitor to oversee the proposed transformation. While the Corporate Monitor's efforts were initially directed at preventing corporate looting and document destruction, his role and duties have steadily expanded, with the parties' full consent, to the point where he now acts not only as financial watchdog (in which capacity he has saved the company tens of millions of dollars) but also as an overseer who has initiated vast improvements in the company's internal controls and corporate governance. Few if any companies have ever been subject to such wide-ranging internal oversight imposed from without; but to the company's credit it has fully supported the Corporate Monitor's efforts and the strict discipline thereby imposed.
Under the Corporate Monitor's watchful eye, the company has replaced its entire board of directors, hired a new and dynamic chief executive officer and begun recruiting other senior managers from without, fired or accepted the resignation of every employee accused by either the board's own Special Investigative Committee or the Bankruptcy Examiner of having participated in the fraud, and terminated even those employees who, while not accused of personal misconduct, are alleged to have been insufficiently attentive in preventing the fraud. In this connection, the company has already spent more than $50 million of its own money to fund unrestricted investigations by both the Special Investigative Committee and the Bankruptcy Examiner, and their detailed reports have been given wide publicity.
The company has also consented to a permanent injunction authorizing the Corporate Monitor to undertake a complete overhaul of the company's corporate governance and authorizing a group of highly-qualified independent consultants to ascertain that the company has fully eliminated the many defects in the company's internal controls detected after a comprehensive review by the company's new outside auditors. The new corporate governance strictures will, among much else, mandate an active, informed, and highly independent board, prohibit related-party transactions and conflicts of interest, require a unique shareholder role in the nomination of directors, and impose significant restrictions on executive compensation packages. Moreover, even though not all of the specific changes in corporate governance and internal controls have yet been formulated, the company has committed in advance to adopt and adhere to all corporate governance and internal control recommendations made by the Corporate Monitor and the independent consultants, subject only to appeal to this Court. Finally, the company has agreed to impose all internal controls required by section 404 of the Sarbanes-Oxley Act by no later than June 30, 2004, a full year earlier than the Act requires.
The permanent injunction also requires the company to provide a large segment of its employees with specialized training in accounting principles, public reporting obligations, and business ethics, in accordance with programs being specially developed for the company by New York University and the University of Virginia. At the behest of the Corporate Monitor, the Court also obtained from the new Chief Executive Officer a sworn "Ethics Pledge," requiring, on pain of dismissal, a degree of transparency well beyond S.E.C. requirements. The company has since required its senior management to sign a similar pledge, and has plans to obtain similar pledges from virtually all employees.
The Court is aware of no large company accused of fraud that has so rapidly and so completely divorced itself from the misdeeds of the immediate past and undertaken such extraordinary steps to prevent such misdeeds in the future. While the Court, at the parties' express request, will continue to retain jurisdiction for however long it takes to make certain that these new controls and procedures are fully implemented and secured, the Court is satisfied that the steps already taken have gone a very long way toward making the company a good corporate citizen.
This is not to say that the sins of the past can be forgotten or wholly forgiven. No matter how much the company has transformed itself, no matter how different a company it is now from the company that was used as a vehicle to commit the aforementioned frauds, those frauds were still colossal and must be punished.
The best punishment, unquestionably, is the criminal prosecution of those persons found to have perpetrated the frauds. Such punishment, however, is not within the...
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