Monthly Archives: February 2008

Criminalizing Capitalism

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handcuffs%20121308.gifIf I didn’t know better, I’d say that Nicole Gelinas has been reading (H/T Professor Bainbridge) my blog over the past several years:

[I]n the end, Sarbanes-Oxley has just made it easier for ambitious government attorneys to criminalize bad business judgment and complex accounting in hindsight. Further, in their focus on strengthening legal enforcement, the feds have passed up opportunities to create commonsense protections for investors. Worse still, the government has instilled investors with false confidence by implying that they can rely on prosecutors, not prudence, to protect their market holdings. Now the housing and mortgage meltdownówhich could hurt the economy far more than Enron didóis reminding investors that no law or regulation can protect them from economic disruption. [. . .]
As the economy heads into a possible downturn, calls will grow for someone to pay for the pain of another burst bubbleóand for yet more onerous rules, regulations, and prosecutions of businesses to prevent future crises. But no government mandate or punishment, however harsh, will stop companies and markets from being imperfect collections of fallible human beings. At the end of a decade of financial surprises, that may be the most enduring lesson of all.

As I noted here almost three years ago and have reiterated many times, the truth about Enron is that no massive conspiracy existed, that Jeff Skilling and Ken Lay were not intending to mislead anyone and that the company was simply a highly-leveraged, trust-based business with a relatively low credit rating and a booming commodities trading operation. Although there is nothing inherently wrong with such a business model, it turned out it to be the wrong one to survive amidst the perilous post-tech bubble, post-9/11 market conditions. Thus, when the markets were spooked by revelations of the embezzlement of several millions by Enron’s CFO and his relative few minions, the company failed.
However, Gelinas is spot on in observing that Enron’s failure was not a market failure. That Jeff Skilling failed to predict that Enron would fail is not a crime. Unlike his main accusers Andy Fastow and Ben Glisan, Skilling didn’t embezzle a dime from Enron. Did he tirelessly advocate on behalf of this innovative company? Sure, but since when is it a crime for a CEO to be optimistic — even overly-optimistic — about his company?
The primary justification for the absurdly-long sentence handed to Skilling is the plight of the innocent employees and investors who lost their nest eggs when Enron went bankrupt. But the main reason that those nest eggs ever had value in the first place was because Skilling had transformed Enron into the world’s leading energy risk management company through the creative use of futures and options contracts to hedge price risk for natural gas producers and industrial consumers.
Although nothing is wrong with compassion for folks who lose money on an investment, rarely is it mentioned in the Enron morality play that many of those investors who lost their nest egg when Enron failed were imprudent in their investment strategy. They should have diversified their Enron holdings or bought a put on their Enron shares that would have allowed them to enjoy the rise in Enron’s stock price while being protected by a floor in that share price if things did not go as planned. Even though virtually all of those innocent Enron investors carry insurance on their homes and cars, one can only speculate why they didn’t attempt to hedge the risk of their investment in Enron stock. Most likely, many of the investors simply did not understand how Enron’s risk management services created their wealth in the first place.
Beyond the shattered lives, families and careers, the real tragedy of the post-Enron demonization of business is that it has distracted us from examining the tougher issues of what really causes the demise of a company such as Enron and understanding how such a company can be structured to survive in even the worst market conditions. It’s easy to throw a good and decent man such as Jeff Skilling in prison for most of the rest of his life, throw away the keys and simply attribute Enron’s failure to him. It’s a lot harder to try and understand what really happened.

On the DeGeurin-DeGuerin brothers and Houston’s G-man

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texas%20flag%20021208.jpgA couple of interesting stories have popped up over the past several days regarding Houston lawyers.
First, there was Mary Flood’s profile of the DeGuerin (or was that DeGeurin?) brothers, Mike and Dick, two of the best in Houston’s formidable criminal defense bar. The criminal defense bar in Houston has essentially branched out from two extraordinary criminal defense lawyers, the late Percy Foreman and Richard “Racehorse” Haynes. Mike and Dick are from the Foreman tree, while such excellent Houston criminal defense lawyers as Dan Cogdell and Jack Zimmermann stem from the Haynes tree. A good follow-up story for Flood would be to track the number of first-rate criminal defense lawyers in Houston who have been influenced by Foreman, Haynes and their many acolytes.
Meanwhile, not to be outdone, this ABA Journal article profiles Houston’s $1,100-per-hour lawyer, Stephen Susman. As noted earlier here, Susman has long contended that that he charges in excess of a grand per hour “to discourage anyone hiring me” on an hourly basis. As they say in legal circles, Susman prefers cases with a bit more meat on the bone.

The psychotherapist-patient privilege

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Gabe%20Bryne.jpgGosh, as if Paul the psychotherapist, Gabe Byrne’s character in the new HBO series, In Treatment, didn’t have enough to worry about.
The Fifth Circuit Court of Appeals has just issued this interesting opinion on the psychotherapist-patient privilege in the case of former Austin police officer, John Auster (H/T Robert Loblaw).
Auster suffers from paranoia, anger, and depression, so the stress of the impending termination of his workerís comp benefits was not exactly conducive to improvement of those conditions. Auster proceeded to tell two of his therapists that he was prepared to undertake a campaign of violence if his benefits were terminated. Inasmuch as the therapists had a duty under state law to report the threats, the U.S. Attorney’s office indicted Auster for extortion.
On a defense motion to suppress Auster’s threatening statements, the District Court threw out Austerís threats on the grounds that they were protected by the psychotherapist-patient privilege and not admissible at trial. The government appealed and the Fifth Circuit reversed, reasoning that Auster knew that his therapists had to report the threats and so he had no expectation that the threats would remain confidential. Accordingly, the Fifth Circuit concluded that such threats are not privileged. As Loblaw points out, there is now a split among the circuit courts over the the psychotherapist-patient privilege, with the Fifth joining the Tenth Circuit in not recognizing the privilege, while the Sixth and Ninth Circuits recognize the privilege.

Lerach’s sentence

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Lerach%20021208.jpgFormer plaintiff’s class action securities lawyer Bill Lerach was sentenced yesterday to two years in prison, fined $250,000 and ordered to complete 1,000 hours of community service (Peter Lattman’s W$J interview of Lerach is here and more W$J coverage of blawgosphere reaction is here). Lerach pled guilty last September to a felony count of conspiring to obstruct justice and to submit false testimony in federal judicial proceedings after being investigated by the Department of Justice for the better part of a decade.
My posts from over the years on Lerach and the investigation into his practice are here, and my latest posts summarizing my views on his plea deal are here and here. Along similar lines to the thoughts expressed in this post from yesterday, Larry Ribstein cautions those who take satisfaction in watching Lerach’s fall from the pinnacle of the plaintiff’s class action securities bar:

What many call their ìgreedî is what moves the marketís invisible hand and what has . . . generated so much public good for our financial markets. Both financial innovations and legal innovations may be taken too far, but this doesnít negate their positive aspects and the need to encourage them.
Thatís not an excuse for wrongdoing. If laws have been broken the violators should be sent away. But we should be aware that the excesses of prosecutors can cause at least as much, and possibly more, harm than the excesses of financial speculators.

Bill King’s “Let’em ride free plan”

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metrocar%20021208.jpgLongtime Houstonian Bill King is a common sense fellow who serves on the Transportation Council, a group of elected officials and agency staffers that sets priorities for transportation spending in the 13-county Gulf Coast region. In this Chronicle op-ed from over the weekend, he reviews the Metro light rail system’s horrific ridership numbers (previous posts here) and concludes that — given the massive sunk costs invested in the light rail system — the ridership numbers are so bad that it makes economic sense to attempt to increase ridership by simply allowing riders to use the system free-of-charge:

Today, the Metropolitan Transit Authority reports slightly under 300,000 daily “boardings.” Because of transfers, it is a little bit of guesswork to determine how many commuters are actually using transit. But it is probably something in the 120,000-130,000 range. For every commuter we can convince to take a train or bus to work, we get one car off our roads. That means less congestion and fewer emissions and collisions. Clearly a good thing.
Metro has developed a far-ranging, multibillion-dollar plan dubbed Metro Solutions that it hopes will increase transit ridership. Phase 2 of that plan consists of five light rail lines and will cost about $2.2 billion. The ultimate cost will undoubtedly be higher. Metro projects that its Phase 2 lines will have about 140,000 daily boardings. However, these lines will replace existing bus service along the same routes, so not all of the boardings will represent an increase in transit ridership. The net increase on the Main Street line from switching to light rail has been about 19 percent.
If this ratio holds on the Phase 2 lines, we should pick up an increase in daily boardings of about 20,000 to 30,000 or something like 10,000 to 12,000 new transit riders. This is a very small increase compared to well over 1 million daily commuters in Houston.
The traffic models indicate that this relatively small increase will be about offset by the lost street lanes the rail lines will use and the scores of new street level crossings. As a result, there will be no meaningful reduction in traffic congestion from the Phase 2 lines. [. . .]
. . . Metro recovers a very small percentage of its costs through fares. In fiscal year 2006, Metro only collected about $54 million in fares compared to $435 million in operating expenses, or only about 12 percent. That is because Metro gets the overwhelming majority of its funds from a 1 percent sales tax. And Metro is currently enjoying a boom in its sales tax revenues. In the past two years, sale tax receipts have increased by approximately $84 million and are on track this year to increase almost another $40 million. Metro currently is sitting on nearly $400 million in cash, receivables and short term investments.
Also, Metro spends about $5 million a year collecting its fares and advertising, expenses that could be dramatically reduced if fares were eliminated. So eliminating fares would probably only cost us around $50 million annually. [. . .]
Elimination of fares is not an end game solution. There is still a pressing need for expanded transit service throughout the region. But going to a fare free system may be a way to jump-start a new transit paradigm. With a larger transit constituency, public support for new programs may grow.
The nice thing about the idea is that it is not irrevocable. If it does not result in the hoped for benefits, we can always reverse course and try something else. Houston’s transit program has been log-jammed for years with no end in sight. Personally, I am ready to try something different, even if it is a little “out of the box.”

Bill King is a good sport and I give him credit for attempting to make the best of a terrible investment. He is not attempting to justify the construction of Phase 2 of the light rail system by eliminating fares (that would be impossible); he simply references Phase 2 to make the point that eliminating fares would have a bigger impact on ridership at a much lower cost. Most of the benefit of his proposal would probably come from eliminating fares on the Park & Ride system and using the system’s unused bus capacity.
However, thinking “outside the box” in the face of these numbers (10-12,000 more daily light rail transit riders in return for a $2.5 billion investment?) calls for something far more than just “let’em ride free.” Indeed, you could quadruple that increase in daily ridership and it would still be an extremely poor return on investment of public funds.
A more appropriate response in the face of such a poor cost/benefit ratio is to cut the losses altogether, halt the light rail project where it stands and either return the public capital at Metro to the taxpayers or use the funds on something that will truly benefit a substantial portion of the area citizens (flood control or more flexible area-wide bus transit, maybe?). Just how much money will Houston’s political leaders allow Houston-area residents to blow before exhibiting true leadership on the colossal light rail boondoggle?
Update: The Chronicle’s transit columnist, Rad Sadlee, comments here on King’s op-ed.

Guilty verdict in the latest natural gas trader case

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natural%20gas%20trading%20021208.jpgWe in Houston have become so jaded by dubious prosecutions of businesspeople that the guilty verdict in the latest natural gas trader case passed almost unnoticed late last week. The Department of Justice’s press release on the verdict is here, and the article of Tom Fowler — the Chron reporter who has done a good job of following these the trader cases — is here. My previous posts on the natural gas trader cases are here.
What is particularly troubling about the result in this particular case is that three relatively young men (the oldest of the three defendants is 48) with families and (at least up to this trial) excellent careers are now facing effective life prison sentences for essentially lying to a magazine. The prosecution’s alleged that the three traders provided false information to natural gas industry publications such as the Inside FERC Gas Market Report, which uses data from traders to calculate the index price of natural gas. Inasmuch as movement in index prices can theoretically affect the level of profits that traders can generate, the government’s theory was that the defendants provided false information so that they and their employer — El Paso Natural Gas Co. — could reap higher profits.
However, it remains unclear whether the magazines actually used the false information that the defendants provided to them or that the false trades actually affected the markets at all. No problem for the prosecution, though. The government contended that the market effect of providing the false information was irrelevant and that it only needed to prove that false information was reported to the magazines in order to make a case against the defendants.
So, key point to all of you businesspeople out there — don’t ever provide any false information to a publication. It really doesn’t make any difference whether the false information affects your business. The transmittal of false info is the crime.
I wonder if that applies to movie stars and tabloids, too? ;^)
As Fowler reports in his article, this was the second trial in what has been a five-year investigation of natural gas trading practices by Houston-based federal prosecutors and the Commodity Futures Trading Commission. A dozen Houston-area traders have been criminally charged in the trader cases and half of those have plea guilty. Two others — former Dynegy trader Michelle Valencia and former El Paso trader Greg Singleton — were convicted on several wire fraud counts but were acquitted on false reporting charges in 2006. They are still awaiting sentencing.

The winds of prosecutorial power

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Ben%20kuehne.jpgWhen the Department of Justice decided to prosecute Arthur Andersen out of business despite a manifestly weak case, that confirmed that the creation of enormous wealth for thousands of employees and an impeccable reputation built over decades of fine work provide no insulation these days from the excesses of an rapacious prosecutor’s judgment.
Then, the DOJ decided to misapply a criminal law to prosecute several former executives of the social pariah Enron, which a vacuous mainstream media applauded without nary a mention of the dreadful implications that such a misuse of the state’s overwhelming prosecutorial power portends.
Given this backdrop, it was not particularly surprising that the government threatened to put large employers out of business unless they served up a few employees for the government to prosecute. Or that the government turned its prosecutorial power on the business news media as well as almost everything else. In the meantime, some of the leading purveyors of this prosecutorial campaign of abuse were being rewarded for their actions and competing for the highest offices in the land.
But now the government is turning its prosecutorial power toward pillars of the legal profession, first with regard to a Mayer Brown partner who performed work for Refco and more recently with regard to Ben Kuehne, who has long been one of the most-admired lawyers in the Miami legal community. Ellen Podgor analyzes the implications of the Kuehne indictment and Ashby Jones adds more context here.
So, after much of the legal profession has stood by for years while prosecutors trampled the rule of law in criminalizing unpopular business executives, where does the profession now “hide [with] the laws all being flat?.” Will the profession be able to stand upright in the winds of prosecutorial abuse that are blowing now? Stay tuned.

Comparing Tiger’s swing with Hogan’s

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Woods%20Hogan.jpgIn comparing the swing of Tiger Woods with that of Ben Hogan in this Links Magazine article, long-time golf teacher Bob Toski makes the following observation about how changes in the nature of golf have prompted swing changes:

One year at the Masters, Hogan drove the ball over a hill to a small flat spot tucked in the corner of the fairway, not visible from the tee but providing a perfect angle to the green. Hogan placed his drive in that tiny area all four days. Most tour pros today would have trouble hitting that spot four days in a row with a wedge.

Toski concludes that Hogan’s swing is superior to Woods, but that Woods is such a good athlete that he doesn’t need a Hogan-pure swing to dominate the PGA Tour. Check out the entire article.

Vetting the Trans-Texas Corridor

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Trans%20texas%20Corridor.jpgThis Ralph Blumenthal/NY Times article does a good job of summarizing the massive scale that is the proposed Trans-Texas Corridor project:

. . . the Trans-Texas Corridor, a public-private partnership unrivaled in the stateís ó or probably any stateís ó history, that would stretch well into the century and, if completed in full, end up costing around $200 billion. [. . .]
The plan envisions a 4,000-mile network of new toll roads, with car and truck lanes, rail lines, and pipeline and utilities zones, to bypass congested cities and speed freight to and from Mexico. [. . .]
The corridor project grew out of the 2002 governorís race when [Governor] Rick Perry, . . . surprised transportation experts by taking ideas they had discussed a decade earlier, to little interest, and ìsupersizing them,î as one recalled.
The project grew to consist of four ìpriority segments:î new multimodal toll roads up to 1,200 feet wide paralleling Interstates 35 and 37 from Denison in North Texas to the Rio Grande Valley; a proposed I-69 from Texarkana to Houston and Laredo; I-45 from Dallas-Fort Worth to Houston; and I-10 from El Paso to Orange on the Louisiana border. But the exact routes are years away from being designated.

Pictures from Houston’s neighborhoods

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mapofhouston.jpgRobert Boyd is a Houston-based blogger who regularly tours Houston neighborhoods and posts interesting pictures and comments on his adventures. His latest tour is the neighborhood just north of downtown, and his dozen or so other tours are here. Check them out and learn a bit more about some of the hidden treasures of this fascinating city.