As noted in this previous post, the mining of claims in regard to the widespread corporate practice of backdating options as a method of executive compensation is in full gear despite the relatively straightforward nature of the legal issues related to the practice. So, what’s driving this litigation freight train?
In this lucid post regarding the allegedly dastardly practice of granting options after the stock market dropped on the heels of the 9/11 attacks, Larry Ribstein observes that the scandal reflects a journalistic cooking of the books:

The whole backdating/springloading story has had the aspect of the mutual fund “scandal” — leveraging a bunch of tangentially related stories involving quite disparate practices into one big scandal that keeps the readers coming back and buying newspapers. The last thing the journalists want is the sort of analytical clarity that we need for useful public policymaking. Rather, they want to obfuscate differences to enlarge the apparent, though not actual, size of the story. With respect to the 9/11 “scandal,” the reporters can add to the usual book-cooking large dollops of greed-and-resentment-mongering curried in sanctimony.

But now, the WSJ’s Peter Lattman — author of the popular Law Blog — weighs in with this WSJ ($) article that reports on another powerful driver of the latest business scandal de jure — big law firms:

For public companies, investigations of possible stock-option backdating have become a huge headache. But for big law firms, they’re the latest full employment act, generating hour after billable hour of work across practice areas, from tax and executive compensation to securities and white-collar defense.[. . .]
Because cases of backdating can require restating earnings, there is tremendous pressure on companies to address any problems immediately. And even as backdating touches myriad legal disciplines, individual players — from the company itself to a board committee to individuals — often require their own separate counsel. [. . .]
Some law firms are marketing themselves aggressively in the area. Earlier this month, [law firm] Proskauer [Rose] issued a press release saying it had formed a “Stock Options Task Force,” bringing together more than 20 lawyers across practice areas. Mr. Cleary says that when he and his partners began to work on options-timing matters they asked themselves, “Why are we doing this all discretely? We can be much more efficient, much more nimble and much more effective in handling these issues collaboratively.”

Ah, the synergistic power of the media and big law firms! ;^)

First, federal prosecutors heavy-handed tactics generated a political firestorm with one of America’s closest allies over the NatWest Three case. Now this:

In a sharp escalation of their crackdown on Internet gambling, United States prosecutors said yesterday that they were pressing charges against the chief executive of BetOnSports, a prominent Internet gambling company that is publicly traded in Britain, and against several other current and former company officers.
Federal authorities arrested the chief executive, David Carruthers, late Sunday as he was on layover at Dallas-Fort Worth International Airport on his way from Britain to Costa Rica. In a hearing yesterday in Federal District Court in Fort Worth, he was charged with racketeering conspiracy for participating in an illegal gambling enterprise.

Let me get this straight. Carruthers is a UK citizen, legally runs a UK-based company with a UK-based website, and he gets arrested in the US because US citizens are gambling on his website?
Here’s hoping that the UK raises hell with the Bush Administration over this latest incident as well as the handling of the NatWest Three case (which, by the way, has not generated even a civil case in the UK, much less a criminal one). As Larry Ribstein has pointed out on many occasions, the remedy of granting federal prosecutors broad latitude to criminalize business interests is generating a wave of prosecutorial abuse that is far more troubling than the original “problem” that the remedy is supposed to address. Christine Hurt has more.

In connection with negotiations over its non-prosecution agreement with the Justice Department in the KPMG tax shelter case, KPMG decided to give in to a DOJ “suggestion” and revoke in the tax shelter case its longstanding policy of paying defense costs of the firm’s partners who were accused of wrongdoing in the course of firm’s business. U.S. District Judge Lewis Kaplan issued a blistering decision condemning the DOJ’s tactic, but stopped short of dismissing the case. Rather, he directed the former KPMG partners to sue KPMG to reimburse them for the defense costs.
As noted in this earlier post, I’m skeptical that attempting to force KPMG to pay the defense costs through another legal action is a sufficient remedy for the prosecutorial misconduct and, according to this Lynne Browning/NY Times article, it’s looking as if my skepticism is warranted — KPMG is contesting any obligation to pay its former partners’ defense costs in the tax shelter case.
Frankly, despite Judge Kaplan’s belief that KPMG should pay the defense costs, KPMG’s position is a smart one. If the firm voluntarily paid the costs, then it faces the risk that the DOJ would view that action as a lack of cooperation, which could damage KPMG’s prospects of avoiding a criminal prosecution in a future case. On the other hand, if the firm continues to stiff its former partners, then it does not run the risk of being perceived as being uncooperative by the DOJ and besides — even if it loses the former partners’ civil action for reimbursement of the defense costs — the firm will only have to pay about the same amount that it would if it paid the defense costs voluntarily.
However, the more interesting question is whether KPMG’s continued refusal to pay the defense costs will ultimately persuade Judge Kaplan that dismissal of the criminal case is the only effective remedy to the Justice Department’s improper interference with the financing of the defendants’ legal defense. Judge Kaplan is already perturbed with the prosecution’s foot-dragging on other issues in the case, and the financial plight faced by the defendants as a result of KPMG’s refusal to pay their defense costs may be enough to push Judge Kaplan toward dismissal of the charges against the former KPMG partners. If so, then KPMG’s tough stance on refusing to pay its former partners’ defense costs could turn out to be better for its former partners than if the firm had simply paid the defense costs after issuance of Judge Kaplan’s earlier decision.

As noted in a number of these previous posts, the Russian government’s dismemberment and effective nationalization of the assets of OAO Yukos last year has dire implications generally for Western business interests hoping to engage in reasonably free commercial investment in Russia, the recent Rosneft IPO notwithstanding.
In this WSJ ($) op-ed, former Carter and Clinton admnistration official Stuart Eizenstat observes that the Yukos affair has had broad and negative implications to the world economy, and contends that the Bush Administration and other free-market governments’ failure to call Russian Prime Minister Putin to task for his trashing of free-market business interests has contributed substantially to that negative impact. Eisenstat makes a number of good points, including the following:

Mr. Putin should also be put on notice that . . . the continued incarceration of Messrs. [former Yukos CEO Michael] Khodorkovsky and [Russian financier Platon] Lebedev, who is ill and suffering unnecessarily in a prison north of the Artic Circle, limits Russia’s prospects of being viewed as a member in good standing of the world’s group of leading nations.

Unfortunately, based on this and this, Mr. Putin could quite appropriately respond “say what?” to such a notice.

Former Enron Broadband executive Kevin Howard’s motion for new trial in the re-trial of the Enron Broadband criminal case is based on serious allegations of juror misconduct and ex parte communications between the trial judge and the jury during deliberations.

In its filed earlier this week, the Enron Task Force takes the expected position that the allegations of juror misconduct were “internal” and not the product of “external forces” and, thus, do not justify a new trial.

However, in response to Howard’s allegations that U.S. District Judge Vanessa Gilmore had at least two sessions in which she improperly discussed the case with jurors outside the earshot of Howard and the attorneys involved in the trial, the Task Force contends only that such communications constitute “harmless error.”

A trial judge discussing the case ex parte with jurors while the jury in a highly-publicized, related trial is delivering its verdict amidst a media firestorm is “harmless error?”

Looks to me as if Mr. Howard has a pretty good shot at reversal if that’s the best the Task Force can come up with on that issue.

Neil Coulbeck, former chief of North American financial markets for NatWestís corporate bank who provided evidence to the F.B.I. and the Justice Department about Enron-related transactions involving three former NatWest Bank colleagues, was found dead in an East London park Tuesday less than two days before the politically-charged extradition of his former colleagues to Houston to stand trial. Although the death is still under investigation, early speculation is that Coulbeck committed suicide. Previous posts on the case of the NatWest Three are here.
Earlier today, American marshals took the NatWest Three ó David Bermingham, Giles Darby and Gary Mulgrew ó into custody in London in preparation for flying them to the Houston. The Enron Task Force indicted the three over a transaction involving the sale of NatWestís stake in an Enron-related asset that prosecutors contend was structured by the former bankers to give NatWest less profit than it should have had while personally benefiting the bankers and several former Enron executives, principally former CFO Andrew Fastow. The three former bankers deny any criminal conduct and the successor to NatWest Bank ó Royal Bank of Scotland ó has not pressed either criminal or civil charges against the men.
The fate of the bankers has generated a political firestorm in the UK over the past year as British politicians and business executives have criticized their extraditon to the United States as the product of overzealous American prosecution of business interests after the bursting of the late 1990’s stock market bubble. The political controversy centers on a treaty between the US and UK that was signed soon after the 9/11 attacks to facilitate the extradition of suspected terrorists. The treaty permits either country to extradite citizens of the other on more limited evidence than previously required, and US is now using the treaty to facilitate prosecutions against business interests rather than just suspected terrorists despite the fact that the US has not ratified the treaty (the UK ratified it 2004). On Tuesday, the House of Lords passed a resolution to overturn the treaty and the treaty was debated Wednesday in Parliament.
Interestingly, during the Wednesday debate in Parliament, British Prime Minister Tony Blair ó who supports the extradition ó stated that the three bankers would probably to be granted bail in Houston. Given the strict conditions for release on bail that has been required in previous Enron-related prosecutions, I wonder if Mr. Blair knows something that we don’t?

This Tom Fowler/Houston Chronicle article reports on the trial that begins Monday in U.S. District Judge Nancy Atlas’ federal court in which former Dynegy trader Michelle Valencia and former El Paso trader Greg Singleton (previous posts here) face charges of conspiracy and fraud under the rarely-used Commodities Exchange Act for allegedly submitting false gas trading data and withholding data to trade publications between 2000 and 2002.
The criminal case against Valencia and Singleton is the highest profile case of over a dozen of such cases that the Justice Department has been pursuing in Houston and San Francisco against former natural gas traders over alleged manipulation of natural gas trading indexes, which the trading industry uses to used to value billions of dollars in gas contracts and derivatives. Industry publications such as Inside FERC use data from traders to calculate the index price of natural gas, which can affect the level of profits that traders can generate. However, one of the key issues in in each of these cases is in what context the allegedly false information was transmitted or whether the publication even used any the false information. The government’s theory of criminal liability is that it needs only to prove that fake trades were reported to the publications and not that the trades were actually published or affected the markets. Most of the traders charged in these cases have pled guilty under cooperation agreements with the DOJ, but Valencia and Singleton have been fighting the charges from the beginning, so no last-minute plea deal is expected.

Federal judges and prosecutors often have a cozy relationship. So, it was not particularly surprising that Southern District of New York U.S. Attorney Michael Garcia requested that U.S. District Judge Lewis Kaplan delete the names of federal prosecutors and his sharp criticism of those prosecutors in his June 26 opinion in the KPMG tax shelter case, which found that prosecutors had improperly pressured KPMG to abrogate its long-standing policy of paying the defense costs of over a dozen KPMG former partners charged in the case. While Judge Kaplan responded professionally to US Attorney Garcia’s request, he firmly denied it and included the following language in his ruling on the request:

[The Court] views the actions of the U.S. Attorney’s office that evoked criticism more as a disappointment borne of the ordinarily exceptional performance of the office that this Court has come to expect than as anything else. The Department of Justice policy that the office dutifully carried out, on the other hand, is more than a disappointment — it is unconstitutional.

Meanwhile, Larry Ribstein lucidly analyzes Judge Kaplan’s decision in this TCS Daily op-ed and sums up the underlying importance of Judge Kaplan’s decision:

This case isn’t going to solve all of the problems of corporate criminal liability. The government retains considerable leverage in prosecuting corporations and their employees. This problem is inherent in cases involving common business practices such as the structuring and sale of tax shelters, where the very criminality of the conduct is an extremely complex issue. The problem is compounded in this case by the haziness of the line between merely wrong and criminal interpretations of the tax code. The court must determine whether the tax shelters in this case were illegal rather than simply aggressive and ultimately unsuccessful tax planning that was not sharply distinguishable from what tax advisers do everyday. [. . .]
Real relief from undue burdens of criminal prosecution will come only when courts face up to these underlying problems of corporate criminal liability. Judge Kaplan’s opinion is important for its recognition that fundamental fairness in a criminal trial may turn on the parties’ contract and property rights, as well as on business realities. It is to be hoped other courts will follow the principle Judge Kaplan has established to restore balance in white collar crime cases.

Interestingly, the importance of Judge Kaplan’s opinion in the KPMG case is readily apparent in the Enron-related Nigerian Barge case. In the barge case, the government threatened Merrill Lynch with an indictment, ultimately resulting in a settlement in which Merrill tossed four of its executives to the wolves in return for a non-prosecution agreement for the firm. Inasmuch as that deal was cut relatively early in the current trend of federal corporate crime prosecutions, the government did not require as a part of the non-prosecution agreement that Merrill abrogate its policy of paying the defense costs of the four former executives. Although rumors circulated in legal circles after the executives were convicted that the government was “suggesting” to Merrill that the firm should not pay the legal cost of the executives’ appeals, Merrill has continued to pay those costs, which are certainly in the several million dollar range by now.
As this earlier series of posts reflects, the Nigerian Barge case involves a particularly odious prosecution in which the Enron Task Force effectively prosecuted the four former Merrill executives for doing their jobs in connection with Enron’s sale of an asset for which Enron may have improperly accounted, although even that issue was never proven at trial. Given the adverse climate in Houston for anyone that has had anything to do with the social pariah Enron, the Task Force was able to obtain convictions of the Merrill Four, although at least three out of the four convictions are now unraveling and will almost certainly be reversed (see here and here). But for Merrill’s payment of the defense costs of its former executives, it is doubtful that these out-of-work executives and their families would have been able to afford the extraordinary cost of attempting to correct the stark injustice of their convictions on appeal.
Finally, if you want to see what happens when a company sacrifices a former executive in connection with cutting a deal with prosecutors and then does not pay that executive’s legal defense costs, then read this.

Wall Street Journal reporters Carrick Mollenkamp, Ian McDonald and Peter A. McKay have authored this article of the day ($) in updating the fascinating story on the bankrupt, New York-based brokerage firm. Refco, Inc. (prior posts here). This WSJ report focuses on Refco’s unregulated Bermuda unit, which Refco allegedly used as sort of a piggy bank to make loans to customers on high-risk bets and to cover up losses on those bets. When Refco went into the tank after an Enronesque experience, the Bermuda unit — called Refco Capital Markets — was supposed to have at least $3.7 billion in customer account assets, but had only $1.9 billion in such assets. Now the customers who played such high-stakes poker with Refco are scrambling to pick up some scraps on their gambling losses in Refco’s bankruptcy case.
As an “exempt” Bermuda company, Refco Capital Markets wasn’t required to keep customers’ money seperate from Refco’s company funds, so customer and company money was routinely commingled in the Bermuda unit’s accounts and commonly used by various Refco entities to pay bills, make loans and finance investments. Apparently, even other Refco units routinely sent funds to the Bermuda unit to invest. According to the article, some investors are contending in the bankruptcy court that they were surprised by the Bermuda unit’s practices:

“That is not a business model of which I am familiar with,” Mr. [Richard] Deitz, the Moscow-based hedge-fund manager, said at a bankruptcy-court hearing. “It’s something that I think is more in common with three-card monte.”

I would suggest that Mr. Dietz was playing the equivalent of three card monte with Refco and that he knew it.

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