SEC's Lawyer Rule Draws Fire From CEOs, Judges, European Union
By Neil Roland
Washington, Jan. 3 (Bloomberg) -- A federal proposal to make corporate lawyers report suspicions of securities fraud may discourage companies from seeking legal advice and violate client confidentiality, according to comment letters from hundreds of critics of the plan.
The Securities and Exchange Commission's rule proposal drew opposition from J.P. Morgan Chase & Co., Charles Schwab Corp., Fidelity Investments and the European Union as well as law firms, state judges and corporate executives.
The SEC plan ``could trigger profound changes in the relationship between companies and their legal counsel,'' Pfizer Inc. Chairman Henry McKinnell wrote in a letter from the Business Roundtable, a group of 145 chief executive officers at the largest public companies in the U.S. ``The proposal could deter officers, directors and employees from seeking advice from counsel on sensitive matters.''
The core of the SEC proposal, issued for public comment in November, was mandated by a new law responding to scandals at Enron Corp., Tyco International Ltd. and other companies where lawyers were accused of contributing to accounting irregularities.
The corporate-governance law gave the SEC until Jan. 26 to adopt rules making in-house and outside lawyers report evidence of misconduct to top corporate executives. At the urging of SEC Chairman Harvey Pitt, the commission added a provision requiring lawyers to notify the SEC if companies don't correct abuses, a process known as ``reporting out'' or ``noisy withdrawal.''
Broad Opposition
Because of the broad opposition to this provision, Southern Methodist University law professor Alan Bromberg said the five- member SEC is likely to drop the ``reporting-out'' requirement or will face legal challenges if the rule is approved.
``The opposition has legitimate concerns that the SEC proposal will jigger, and possibly destroy, the stability of relations between lawyers and clients,'' Bromberg said in an interview.
Asked about the critical comment letters today, SEC Commissioner Harvey Goldschmid said he hasn't been convinced to back off the proposed rule.
``While I am carefully reviewing comments, there's a strong case for reporting out where there's ongoing, serious financial fraud,'' Goldschmid said.
One of the few comment letters supporting the SEC's ``reporting-out'' proposal came from a group of law professors led by Susan Koniak of Boston University, Roger Cramton of Cornell Law School and George M. Cohen of the University of Virginia.
Lessons Learned
``If the recent scandals and those of the past have taught us anything, it is that the boards of some companies are either kept in the dark by management or are reluctant to oppose management actions that are or may be illegal,'' said the letter from 54 professors.
``In those situations,'' the professors' letter said, ``illegal conduct will be stopped or rectified if everyone knows that the company's attorneys will have to exit noisily.''
Scores of law firms have criticized the ``reporting-out'' section, including Fried Frank Harris Shriver & Jacobson, where Pitt, a Republican, was a partner before joining the SEC, and Weil Gotshal & Manges, where Democrat Goldschmid worked.
The Conference of Chief Justices, the top judges in each state, opposed the provision on the grounds it encroaches on the authority of state chief justices to regulate lawyers and thus ``raises serious federalism issues.''
Overseas Opposition
The SEC proposal, which applies to all companies whose stock trades in the U.S., has been criticized, too, by legal and government organizations in Europe, Japan and other countries. The European Union said the SEC proposal conflicts with rules in European nations that require company lawyers to respect their clients' confidentiality.
``Either (European lawyers) will be sanctioned by the SEC if they do not report to the SEC, or they will face sanctions from their home courts or bars for breaching client confidentiality if they do report to the SEC,'' wrote Alexander Schaub, director- general of the European Commission, the regulatory arm of the 15- nation European Union.
Schaub's letter asked the SEC to exempt European lawyers from the ``reporting-out'' requirement.
At a roundtable discussion on the proposed rule last month, Pitt told European and other non-U.S. regulators that the SEC was committed to following ``the letter and spirit'' of the new U.S. corporate-governance law, known as the Sarbanes-Oxley Act.
Pitt, who tendered his resignation on Nov. 5, is staying on until his successor is confirmed by the U.S. Senate, which is scheduled to reconvene next week. President George W. Bush has named William Donaldson, former chairman of the New York Stock Exchange, to replace Pitt.
In reaction to Enron's bankruptcy in December 2001, shareholders sued the company's law firm, Vinson & Elkins LLP. An Enron board committee said the Houston law firm should have urged company executives to disclose more about off-the-books partnerships that hid $1 billion in company losses. Vinson & Elkins has denied misconduct.
At Tyco, former general counsel Mark Belnick was charged with falsifying records to hide $14 million in company loans. He has pleaded not guilty. |
