Sometimes we can’t help but feel like Goldilocks, particularly when it comes to the contentious issue of holding directors accountable for corporate misbehavior. We’ve tasted porridge too cold, and porridge too hot. So far, we’re still looking for the porridge that’s just right.

Consider the recently announced Enron and WorldCom settlements. In the Enron situation, 10 former directors will pay $13 million from their own pockets. In the WorldCom case, a different 10 ex-directors of WorldCom will pay $18 million.

To some investors, the Enron settlement seems far too lenient. As Harvard Law professor Lucian Bebchuk noted in a New York Times opinion piece, the 10 ex-directors are merely forfeiting 10 percent of the pre-tax profits they made trading Enron stock. Huh? Shouldn’t they have to at least disgorge all their profits? Better yet, shouldn’t they pay some penalty above and beyond that? After all, the settlement still leaves the 10 with some $117 million in trading profits from Enron, while the rest of the country continues to suffer with the aftereffects of a $60 billion implosion in market value.

In other words, the Enron porridge is much too cold to make much of a difference.

Hevesi

By contrast, in the Worldcom settlement, the payment represents some 20 percent of the ex-director’s net worth (excluding their primary residence, retirement accounts and some joint marital property). New York State Comptroller Alan Hevesi, the lead plaintiff, said that his intent was to send “a strong message to the directors of every publicly traded company that they must be vigilant guardians for the shareholders they represent. We will hold them personally liable if they allow management of the companies on whose boards they sit to commit fraud.” Our belief is that he succeeded, and the settlement marks the most poignant manifestation to date of personal accountability—and its associated personal liability—for directors. That, in our opinion, is an appropriate standard for the conflicted directors, such as the former head of the compensation committee who negotiated a secret, sweetheart deal for use of the corporate plane while extending corporate loans to former CEO Bernard Ebbers. We even think it may be appropriate for long-term directors serving on key committees whose failure to oversee enabled the fraud.

Elson

But the porridge is slightly too hot for us to feel totally comfortable. By establishing the same 20 percent punishment for all the directors, the agreement establishes rough justice; but at what cost? “[Punishing] conflicted directors is easy; it’s the non-conflicted ones where there’s a problem,” contends Charles Elson, director of the University of Delaware’s Weinberg Corporate Governance Center. Elson said he believes that if independent directors can be punished even if they try to act in shareholders’ interests, are not conflicted, and rely on the business judgment rule, then “the risk is that board meetings will be staged around legal standards rather than directors doing what they think is right—a triumph of form over substance.”

Surprisingly, even some long-time shareholder activists agree with Elson, though they point out that the risk he identifies is overshadowed by the sea change of holding directors accountable. “Charles has a point,” concedes Bill Patterson, director of the Office of Investment at the AFL-CIO, “but this is…a key moment where director responsibility is acknowledged. There may have been imperfections in how [that accountability was accomplished], but, against a backdrop of no directors being held accountable until now; [the settlement] is very striking and very important.”

In other words, for the first time, individual directors are facing real accountability for the jobs they do in the boardroom.

Still, how that accountability is measured, rewarded and punished will matter. As Patterson explains, institutional investors want “directors who will step forward when a company is in a crunch.” The WorldCom settlement, a huge improvement from the status quo ante, is all stick and no carrot in motivating directors to step forward. True, drawing distinctions between directors who act appropriately and those who don’t is difficult; board deliberations tend to be private, and investors normally don’t see minutes or results of formal votes. Indeed, WorldCom may have been the best chance to draw such fine lines, given that thousands of pages of public investigative reports from the Corporate Monitor and Corporate Examiner provided insight into the boardroom. The fact that those lines are absent even in this example evidences just how difficult it is to fine tune degrees of individual director accountability.

Nevertheless, difficult or not, institutional investors, regulators, directors, insurance companies, lawyers and judges should put at the top of our agendas the creation of a Goldilocks “just right” level of individual director accountability. The list of potential mitigations is long, from changing the way boards are elected (see our November Compliance Week column on proxy access above, right), to releasing board minutes and/or formal votes.

Another simple step would be improving the communications from individual board members. Indeed, Patterson at the ALF-CIO gives a surprising answer when asked for a board that communicates well. His answer: Intel. The AFL-CIO is a leading proponent of expensing stock options, something that Intel has opposed. However, Patterson notes that each Intel director reports at the Intel annual meeting. “So we have a completely different sense about how that board works [compared to boards where only the CEO speaks]. It does buy good will. We disagree on the issue, but at least we talk.”

Editor's Note: Co-author Lukomnik worked for Mr. Hevesi when he was comptroller of the City of New York, and, independently of that engagement, later served on the WorldCom official creditors’ committee.

This column solely reflects the views of its authors, and should not be regarded as legal advice. It is for general information and discussion only, and is not a full analysis of the matters presented.

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