Former SEC Staffers Mull Impact Of High-Profile Exits

If you’ve read the financial headlines during the past few months, you may have noticed a string of some rather significant departures or planned departures at the Securities and Exchange Commission. While a turnover rate that evokes the image of a revolving door isn’t particularly unusual at the government agency, some observers say the recent exodus could have an impact on public companies.

In addition to the departure of Chairman William Donaldson, notable exits at the Commission in recent months have included David Kornblau, chief litigation counsel of the agency’s enforcement division; Joseph Hall, managing executive for policy; Peter Derby, managing executive for operations and management; and Division of Enforcement director Stephen Cutler, among others. In addition, Commissioner Harvey Goldschmid, one of the SEC's two Democrats, is slated to leave the agency this summer to return to teaching at Columbia University.

Insiders have mixed views on how the influx of new leaders at the agency, and in particular, how the expected confirmation of conservative California Republican Rep. Christopher Cox, will impact public companies.

Unger

Some say the turnover isn’t anything out of the ordinary. “I wouldn’t read much into it,” said Laura Unger, a former SEC commissioner and ex-acting chair, now the JP Morgan Independent Consultant for research and an independent director on three boards. “The time between chairmen is a good time for a senior staff person to leave. It’s a graceful exit.”

Russell Ryan, a former assistant director in the SEC’s enforcement division, agreed. “With a new chairman coming in, it’s a logical time for senior staff people to consider whether they want to do something different or whether they’ve been there long enough,” said Ryan, now a partner in the Washington office of King & Spalding.

Van Dorn

“I don’t think it’s greater than usual turnover there,” said Walter G. Van Dorn Jr., a former SEC attorney and a partner in the New York office of Thacher Proffitt & Wood. While the departure of high-profile names such as Donaldson and Cutler have been in the news, Van Dorn said, “at the lower levels, turnover isn’t greater than usual; SOX has increased the SEC’s staffing levels and reduced turnover.”

Donaldson’s 28-month tenure was marked by the filing of more than 1,700 enforcement actions, the implementation of portions of Sarbanes-Oxley, as well as controversial measures to increase mutual fund disclosures to shareholders and a push for greater oversight of hedge funds. Praised by many for demonstrating what was viewed as an independent streak, Donaldson was equally criticized by others, who viewed him as being too heavy-handed.

New Perspective, Priorities

So, what can public companies expect if Congressman Cox takes the helm, as anticipated? Observers have a few guesses as to what may await corporate America when a new SEC chairman is confirmed.

“It’s clear that both tenor of regulation and tenor of leadership will change,” said Unger. “The President made it clear when he announced his nomination of Chris Cox that the time for over-regulation is over. During the last two years, the balance of power tipped from fair and efficient markets balanced with investor protection to investor protection rulemaking at any cost.”

Ryan

“Every commissioner brings his or her own perspective and set of priorities, so a change at the top can really make a difference,” said King & Spalding’s Ryan. “It can change the policies that are emphasized.”

However, Ryan doesn’t expect the changes to have impact across-the-board. “Having said that, I think it will have an effect on only a small number of close and controversial enforcement cases,” he said, noting that “the vast majority are approved by the Commission unanimously.”

Still, Unger said any slowdown in enforcement “would be the result of a shift in the environment and a natural reduction in the number of cases,” rather than the result of a shift in enforcement strategy. Unger said the large number of enforcement cases during Donaldson’s tenure was by design. “As we’ve seen, when the market declines, there are more enforcement cases,” she said. “After WorldCom, investor confidence was still noticeably low; the only way to improve confidence was to take a strong stand on regulation and enforcement.”

Impact On Penalties

One area in which Ryan and others say a change is likely is in the penalties levied against companies by the SEC. “During the last few years, the fines against companies have increased in both frequency and magnitude,” said Ryan. “There’s a chance that trend will slow with the changes at the commission level.”

In fact, Ryan says the change—if it happens—shouldn’t be a surprise to public issuers. “It’s fairly well known that two commissioners, Atkins and Glassman, are less enthusiastic [than the other commissioners] about imposing monetary penalties against public companies; with Donaldson having left, they are now in a position to block or reduce those penalties in cases where they feel strongly,” he said. “If the new chairman’s views on monetary penalties align with Atkins and Glassman, which is more likely than not, you could have a situation where you have three commissioners who are reluctant to have public companies ordered to pay fines,” Ryan added.

Meisner

Derek Meisner, a former branch chief in the SEC’s Washington headquarters, agrees with Ryan’s prediction. “With chairman Cox presumably coming aboard, I think we may see a shift toward individual culpability as opposed to corporate culpability,” said Meisner, now an attorney in the Boston office of Kirkpatrick & Lockhart Nicholson Graham.

“Corporations have been paying outsized fines and penalties. I think that with a Republican commissioner coming in, we may see that yes, corporations can be held responsible for the actions of their employees, but that the employees themselves should also be held responsible,” added Meisner. “So we may see an increase in the amount of fines and penalties levied on individuals.”

“It wouldn’t surprise me to see a slight slowdown in the trend of seeking director and officer bars,” said Ryan at King & Spalding. “I think the SEC will still seek them in cases of egregious fraud, but in recent years, there’s been a trend toward seeking them in almost every fraud case, and that trend may slow.”

Nuts, Bolts & Backlash

Referring to speculation that the incoming chairman could move to rollback some of the controversial rulemaking during Donaldson’s reign, Unger said that if Cox is confirmed, she’d expect to see “more fine-tuning than a complete abdication” of rulemaking initiatives. “He might take a fresh look at some controversial rulemaking where the benefit hasn’t been as clear,” said Unger. She said Cox “might do some deeper digging” on rulemaking in areas such as mutual funds, proxy access and hedge fund regulation. “I’d expect to see more deep thinking about technology and the impact on the marketplace, and on the implications for security in the global marketplace,” said Unger.

According to Meisner, another factor may affect enforcement more than any personnel change. “Separate and apart from the replacement of a commissioner, there’s starting to be a general backlash against aggressive regulatory enforcement,” Meisner said. “That backlash has been spurred in part by the recent acquittals of some high-profile defendants and by a general displeasure over the amount of fines and penalties imposed by regulators. That may have a greater affect on the SEC enforcement program than the replacement of any commissioners.”

Still, companies shouldn’t expect a sea change in the SEC’s enforcement efforts. “Generally speaking, the appointment of a chairman has no effect on the nuts and bolts of the Commission’s enforcement program,” said Meisner. “The SEC will still seek to bring the standard cases—insider trading, financial fraud—the cases it’s always brought. The hallmarks of the enforcement program aren’t going to change.”

“The SEC staff is fairly immune to political pressures,” agreed Ryan. “They go about their business pretty much the same way no matter who the Commissioners are. I wouldn’t expect to see fewer enforcement actions or any perceivable let up in the aggressiveness with which the staff will pursue its investigations.”