Publications: Corporate Governance After Enron

Corporate governance is the process by which a corporation’s management is held accountable to its residual owners—the stockholders. Because of Enron, WorldCom and scores of other corporations currently embroiled in accounting and managerial scandals, the New York Stock Exchange (NSYE) and the NASDAQ Stock Market (NASDAQ) have approved sweeping new listing standards and Congress has enacted wide-ranging federal legislation—the Sarbanes-Oxley Act of 2002¹—that will profoundly affect the nature of and control over corporate governance in the United States. This column briefly traces the development of the modern conception of best practice with respect to corporation governance and then discusses the key requirements that will be imposed by the new listing standards and Sarbanes-Oxley.

The Strong Corporate Board

Because of collective-action problems, free-riding temptations and the so-called “Wall Street Rule”—it’s always easier to sell than fight—a corporation’s stockholders have neither the incentive nor the practical ability to act as the enterprise’s ultimate monitors.² Over the past 30 years, a broad and deep consensus has developed that this monitoring function can be, and can best be, performed by the board of directors. As one leading corporate scholar expresses the point, the monitoring of management is “of critical importance to the corporation and uniquely suited for performance by the board.”³ For William Allen, then Chancellor of the Delaware Court of Chancery, the basic responsibility of the board is “to monitor the performance of senior management in an informed way.”⁴ And yet another prominent corporate scholar states flatly that “[t]he heart of corporate governance has been the imposition of the so-called monitoring model [on the board of directors].”⁵

In this “consensus” view, best practice for dealing with the problems caused by the separation of ownership from control or, as contemporary corporate scholars would put it, of reducing corporate agency costs,⁶ is the establishment of what is variously called a “monitoring board,”⁷ “certifying board”⁸ or “empowered board.”⁹ However labeled, the basic characteristics of this strong board of directors are generally understood to include having directors who are all, or a majority of whom are, independent; an active audit committee composed entirely of independent and adequately informed directors; other specialized committees (nomination and compensation, in particular) also composed entirely (or almost entirely) of independent directors; a formal charter setting out the board’s authority and responsibility to monitor the corporation’s performance, compliance and financial reporting; and a style of operation characterized by independence from management, skepticism with respect to unsupported assertions made to them and dogged loyalty to shareholder interests.¹⁰

The consensus view that a strong board of directors constitutes “best practice” with respect to corporate governance is of relatively recent origin. When Myles Mace published his landmark study of boards of directors in 1970, he concluded that boards did not manage corporations or monitor corporate management, but served solely as advisors and counselors to the CEO.¹¹ And as Ira Millstein has observed, at this time, “[corporate] boards were the parsley on the fish ... usually composed of a group of friends or acquaintances of the CEO who could be counted on to support management.”¹² Audit committees, despite having been recommended by the Securities and Exchange Commission (SEC) in 1940¹³ and the NYSE in 1939,¹⁴ had spread slowly and had received relatively little public attention.¹⁵ Yet, between 1970 and 1980, the United States witnessed what can only be described as a revolution in the concept of best practice for corporate governance.

Indeed, by 1980, the strong corporate board had come to be seen by most observers as the critical and only realistically available check on management opportunism. As the SEC expressed the point:     

[A] new consensus is emerging with respect to the vital monitoring role to be played by the board of directors in the corporate accountability process and the most desirable and appropriate composition and structure of a board designed to play such an enhanced oversight role. The consensus is moving strongly towards greater participation by directors independent of management, currently calling for a board composed of at least a majority of independent directors, with properly functioning independent audit, compensation, and nominating committees, as essential to enhanced and effective corporate accountability.¹⁶

Over the next 20 years, this consensus view grew sharper. The concept of “independence,” for example, became increasingly specific, and far less flexible in its application—one “size” of corporate governance was increasingly seen to fit all corporations. Yet through this entire period, the changes in the consensus view were by and large evolutionary and incremental. As a result of Enron, the changes demanded of the strong board and its relations to management changed in a decidedly nonevolutionary manner.

Enron and WorldCom

Despite an ever-increasing emphasis on the necessity for strong independent boards of directors, disclosure of high-profile corporate scandals and management abuses continued through the 1990s. In 2000, 156 public companies restated their financial statements,¹⁷ compared with an average of less than 50 per year over the previous 10 years.¹⁸ And of the 201 securities fraud class action lawsuits filed in 1999 and 2000, over half were based on allegations of accounting fraud.¹⁹ By 2001, public belief in the integrity of corporate management and the ability of boards of directors to control managerial opportunism was extremely low.²⁰ Yet nothing had prepared the public, the regulators or Congress for the spectacular implosion of, and revelations of fraud by, Enron Corp.

Enron was classified as the seventh largest corporation in the United States, with over $100 billion in gross revenue and more than 20,000 employees worldwide.²¹ For the six years immediately prior to its collapse, FORTUNE magazine had named Enron the most innovative company in America.²² And in February 2001, Enron’s then-Chairman, Kenneth L. Lay, and its CEO, Jeffrey K. Skilling, wrote to stockholders:

Enron has built unique and strong businesses that have tremendous opportunities for growth. …The 10-year return to Enron shareholders was 1,415 percent compared with 383 percent for the S&P 500. …Our results put us in the top tier of the world’s corporations. …We plan to leverage all of [Enron’s] competitive advantages to create significant value for our shareholders.²³

Less than eight months later, Enron announced a $544 million after-tax charge to earnings and a $1.2 billion reduction of stockholders’ equity, both the result of inappropriately accounted for transactions with an affiliated partnership. On November 19, 2001, Enron filed a further restatement of its financial statements with the SEC, which, among other matters, reduced stockholders equity by $258 million in 1997, $391 million in 1998, $710 million in 1999 and $754 million in 2000. Three weeks later, Enron filed for bankruptcy protection, the largest filing in history—until then.²⁴ Thus, in “a span of less than two months during the autumn of 2001, [Enron] fell from business idol to congressional doormat, or somewhat more importantly, from the new business model to a model of business greed and ultimate failure.”²⁵

Discussions of Enron and its collapse are now legion.²⁶ According to the report released by Enron’s Special Investigation Committee of its Board of Directors, the board had “failed” in its duty of “oversight” with respect to “the related-party transactions” that brought the company down.²⁷ The Senate Permanent Subcommittee on Investigations found that “much of what was wrong at Enron was not concealed from its Board of Directors. … The Subcommittee investigation…found a Board that routinely relied on Enron management and Andersen representations with little or no effort to verify the information provided, that readily approved new business ventures and complex transactions, and that exercised weak oversight of company operations.”²⁸ And the Business Roundtable (BRT), hardly a corporate gadfly, ascribed Enron’s failure to “a massive breach of trust” involving “a pervasive breakdown in the norms of ethical behavior, corporate governance, and corporate responsibility to external and internal stockholders.”²⁹ Nevertheless, an even more dramatic and widely publicized occurrence was needed to spur Congress to the full-blown and broadly based legislative effort that would result in the passage of federal legislation.

WorldCom, Inc. was the second largest long-distance carrier in the United States. It had 20 million consumer customers, thousands of corporate clients and 80,000 employees on six continents.³⁰ Its CEO, Bernard J. Ebbers, was “an icon of the business world.”³¹ Its common stock, listed on NASDAQ, had hit its high of $64.50 in June 1999, giving it a market capitalization of $191 billion.

On April 22, 2002, WorldCom reduced its revenue projections for 2002 by “at least” $1 billion.³² Seven days later Ebbers resigned as President, CEO and a director “under pressure from outside directors frustrated with the company’s sinking stock price, controversy over Mr. Ebber’s $366 million [the May 20, 2000, WorldCom Proxy Statement revealed that the true amount was $408.2 million] personal loan from the company and the wide-range investigation of the firm by the Securities and Exchange Commission.”³³ On June 25, 2002, WorldCom announced that as a result of an internal audit, it had determined that approximately $3.8 billion of expenditures were improperly capitalized rather than expensed.³⁴ What then followed was the uncovering of “one of the largest accounting frauds in history.”³⁵ The day of the announcement, WorldCom stock closed at $0.83, representing a decline from its high of over 98 percent and a loss of investor wealth of more than $188 billion. The next day, the SEC filed suit against WorldCom alleging “a massive accounting fraud totaling more than $3.8 billion.”³⁶ On July 21, 2002, WorldCom filed for bankruptcy protection, listing assets valued at $107 billion, making its filing by far the largest in U.S. corporate history. Enron, which had previously held that distinction, had listed assets of only $63.4 billion.³⁷

On August 8, 2002, WorldCom announced that its “on going internal review of its financial statements” had uncovered an additional $3.3 billion of “improperly reported earnings.”³⁸ And on August 28, 2002, Scott Sullivan, the former CEO of WorldCom, was indicted in New York for engaging “in an illegal scheme to inflate artificially WorldCom’s publicly reported earnings by falsely and fraudulently reducing … expenses.”³⁹

But the accounting misadventures and managerial self-dealing at WorldCom and other corporations that occurred after July 30, 2002, had become largely irrelevant to further corporate governance reform, for on that date, President Bush signed Sarbanes-Oxley into law. It took only 28 days for WorldCom to collapse after its management’s accounting fraud was discovered. It took only two days longer for the Senate to pass the new reform legislation, the Conference Committee to reach agreement, both houses of Congress to vote on the compromise bill and the President to sign it.

Corporate Governance Post-Enron

Overview. Sarbanes-Oxley has now been enacted, the first direct federal regulation since the 1930s of matters of internal corporate governance—matters historically governed by state law and private contract. Yet this legislation did not come about because the American business community (as represented by its most prominent spokesmen) ignored the corporate accountability scandals and management abuses of the past 30 years. To the contrary, over that period of time, a voluntary consensus view of best practice with respect to corporate governance was continually promoted and refined. Indeed, Sarbanes-Oxley, to the extent it addresses audit committee matters, is based directly on this consensus view and is an expression, not of Congress’ disagreement with the consensus recommendations, but of its frustration with the corporate community’s inability voluntarily and comprehensively to impose these consensus recommendations on itself.⁴⁰

Yet, significantly, Sarbanes-Oxley imposes on public corporations only a small part of the full set of best practice standards embraced by the consensus developed after Enron. This view, expressed in the proposed new listing standards at the NYSE⁴¹ and endorsed by the American Bar Association’s Task Force on Corporate Responsibility (“Task Force”)⁴² and the BRT,⁴³ goes well beyond the requirements in Sarbanes-Oxley and constitutes the most comprehensive, specific and rigorous articulation to date of the consensus model of corporate governance best practices. But if the Task Force is correct and “substantial uniformity of governance standards applicable to [all] public companies is desirable,”⁴⁴ then Sarbanes-Oxley will achieve that uniformity for only certain key consensus standards—primarily with respect to the composition and authority of the audit committee. Left unaffected and decidedly nonuniform are many other important components of the new consensus view, including the composition, selection and authority of the board of directors as a whole, the composition and authority of other board committees and committee charters.

Sarbanes-Oxley. Most of the press coverage of Sarbanes-Oxley45 has focused on its creation of a new Public Company Accounting Board⁴⁶ and its establishment of new standards of auditor independence.⁴⁷ One title of this act, however, is entitled “Corporate Responsibility,” and four features of Sarbanes-Oxley’s approach to corporate governance are worthy of careful note.

First, as pointed out above,⁴⁸ the only part of the consensus view of corporate governance that Sarbanes-Oxley enacted into federal law concerns the composition and authority of the audit committee. To an extent, this limited federalization of corporate structure is entirely understandable. Matters of internal corporate structure have been historically the province of state law and private contract, and Congress is surely correct to legislate in the area only with great deference. Furthermore, the impetus for Sarbanes-Oxley was the “recent corporate failures [that highlighted the need] to improve the responsibility of public companies for their financial disclosure.”⁴⁹ It was, therefore, logical for Congress to have limited its incursion into the area of corporate governance simply to assure that all public companies have “strong, competent audit
committees with real authority.”⁵⁰

Nevertheless, despite the limited federalization of the consensus view of best practice, Congress was prepared to ignore such best practice notions and rely on an entirely different model of corporate governance when it saw a clear need to control specific types of management opportunism. Thus, for example, Sarbanes-Oxley (1) prohibits outright any publicly held corporation from making a loan to any of its directors or officers;⁵¹ (2) forces the CEO and CFO of any publicly held corporation that is required to file a financial restatement “due to the material noncompliance of the issuer, as a result of misconduct, with any financial reporting requirement under the securities laws” to reimburse the corporation for any bonuses received or profits from stock sales realized during the 12 months following the filing of the inaccurate financial report;⁵² (3) requires CEOs and CFOs to certify that all financial statements filed by their corporations with the SEC “fairly present in all material respects the financial conditions and results of operations of the issuer”⁵³ and makes it a federal crime to do so “knowing” that the financial statements do not;⁵⁴ (4) prohibits directors and executive officers from selling company stock during benefits plan “blackout periods;⁵⁵ and (5) makes it unlawful for any officer or director to take any action “to fraudulently influence, coerce, manipulate, or mislead” the corporation’s auditor.⁵⁶

In the consensus view, a strong independent board can and will protect stockholders from management’s temptation to direct profits into their own pockets and run the corporation primarily in their personal interest, rather than in the interest of the stockholders. But, at least in the five areas identified above, Sarbanes-Oxley reflects Congress’ serious doubts as to the ability of the board of directors, however independent, to effectively perform that function.

Second, in the audit committee area, Sarbanes-Oxley does follow the consensus model of corporate governance by requiring every publicly listed corporation⁵⁷ to have an audit committee composed entirely of independent directors, defined as individuals who are not in any way “affiliated” with the corporation⁵⁸ or receive “any compensatory fee” from the corporation other than for serving on the board of directors.⁵⁹ Every public corporation must disclose whether at least one member of its audit committee is a “financial expert” and, if not, why not.⁶⁰ The audit committee must be “directly responsible for the appointment, compensation, and oversight” of the corporation’s outside auditor⁶¹ and pre-approve any “non-audit services” that the outside auditor provides to the corporation.⁶² The audit committee is required to receive from the outside auditor reports as to “all critical accounting policies … and all alternative treatments of financial information … discussed with management.”⁶³ And the audit committee must have “the authority to engage independent counsel and other advisers” and to compensate these advisers through such corporate funding as it determines appropriate^.64

Third, the method by which Congress chose to impose the new audit committee requirements on publicly “listed” corporations is precisely that recommended by the Task Force.⁶⁵ That is, Sarbanes-Oxley does not impose these requirements directly, but rather requires the SEC to “direct” the exchanges and NASDAQ to “prohibit the listing” of a corporation that is “not in compliance with these requirements.”⁶⁶ The significance of this apparently convoluted approach generally has gone unnoticed, but by structuring the audit committee requirements in this way, corporations, their boards of directors and their audit committee members are not faced with liability in the event the audit committee requirements, for whatever reason, are not adhered to.⁶⁷

Fourth, Sarbanes-Oxley creates new financial crimes^,68 increases the criminal penalties for many existing financial crimes⁶⁹ and gives the SEC substantial new enforcement authority.⁷⁰ It does not, however, except for extending the statute of limitations for fraud,⁷¹ in any way facilitate stockholders’ ability to sue for a breach of the securities laws or any new requirement imposed by the act. Indeed, as noted above, even an intentional breach of the new audit committee requirements will not be actionable. And enforcement of the new prohibition against fraudulently influencing an auditor is specifically limited to the SEC.⁷² Thus, while Congress sought through Sarbanes-Oxley “to increase corporate responsibility,”⁷³ it most clearly did not want to use increased stockholder litigation as a means for accomplishing that objective.

NYSE Listing Standards. In February 2002, at the request of the Chairman of the SEC, the NYSE appointed a special Corporate Accountability and Listing Standards Committee (“Accountability Committee”) to review the NYSE’s listing standards in light of Enron. On June 6, 2002, the Accountability Committee issued its report declaring a need “in the aftermath of the ‘meltdown’ of significant companies due to failures of diligence, ethics, and controls, [for] the NYSE … once again [to use its authority] to raise corporate governance and disclosure standards.”⁷⁴ The recommendations of the Accountability Committee have, in all significant respects, been incorporated in proposed rule changes filed by the NYSE with the SEC on August 1, 2002.⁷⁵ These recommendations are unquestionably the most far-reaching and rigorous expression of the consensus view of corporate governance ever promulgated.⁷⁶ A brief summary of certain key provisions of the new listing standards should illustrate their boldness.

The starting point is hardly surprising. All listed companies must have a majority of independent directors.⁷⁷ Interestingly, a director does not qualify as independent unless the board of directors affirmatively determines that the director has no material relationship with the corporation, and that determination (and its basis) is “disclosed in the company’s annual proxy statement.”⁷⁸ In addition, regardless of any board determination, no director may be considered to be independent until five years after he or she ceases to be an employee of, affiliated with the auditor for, been part of an interlocking directorate involving, or is a member of the immediate family of someone who is not independent of the listed company.⁷⁹

It is, however, in the powers and authority of the independent directors that the recommendations of the Accountability Committee take the corporate governance paradigm of the strong board of directors to what must be regarded as its apotheosis. First, with the explicit objective of “empower[ing] nonmanagement directors to serve as a more efficient check on management,” these directors must “meet at regularly scheduled executive sessions without management.”⁸⁰ Second, each listed company must have three committees comprised solely of independent directors: a nominating/corporate governance committee, a compensation committee and an audit committee. The nominating committee must have the authority “to select, or to recommend that the board select,” the future director nominees and the responsibility to prepare a “written charter” addressing, among any other matters, “a set of corporate governance principles applicable to the corporation.”⁸¹ The compensation committee must “review and approve corporate goals and objectives relevant to CEO compensation, evaluate the CEO’s performance in light of those goals and objectives, and set the CEO’s compensation level based on this evaluation.”⁸² With respect to the audit committee, no member of the audit committee may receive any “compensation” from the corporation other than director’s fees; the committee must have “the sole authority to hire and fire independent auditors; and it must pre-approve any significant non-audit relationship with the independent auditors.”⁸³ In addition, the audit committee is empowered “without seeking board approval” to “obtain advice and assistance from outside legal, accounting or other advisors.”⁸⁴

The Accountability Committee’s report and the NYSE’s actual proposed new listing standards contain many more specific requirements designed to “give the legions of diligent directors better tools to empower them and encourage excellence.”⁸⁵ The question, of course, to which we now turn, is whether such a fully empowered, independent board of directors will have the disposition, incentive and resolution “to serve as a more effective check on management.”⁸⁶

Conclusion
Virtually all of the significant developments in corporate governance over the past 30 years flow from a paradigm shift in the general view of the role of the board of directors that occurred in the 1970s. At the start of that decade, boards of directors were seen as operating best through consensus, not conflict, and the outside directors’ principal value was understood to be that of experienced, constructive advisors to the CEO, offering knowledgeable and objective perspectives on the company’s competitive challenges. As the decade progressed, however, scholarly and regulatory concern was expressed increasingly that such consensus-operated, conflict-avoiding boards were little more than rubber stamps for CEOs. Thus, a consensus developed that such boards should be replaced by monitoring boards, characterized by independence, skepticism and unflinching commitment to stockholders interests. As corporate “scandals” and “flagrant abuses” continued through the 1980s and 1990s, the consensus view of the monitoring board as best practice spread and sharpened, culminating ultimately in Sarbanes-Oxley’s audit committee requirements and the NYSE’s new listing standards.

The validity of the consensus view, in general, and of these recent corporate governance initiatives, in particular, rests entirely on the assumption that increases in director independence and empowerment lead to decreases in instances of management opportunism. While it may be difficult to disprove (or prove) this assumption,⁸⁷ some brief, but skeptical, comments may be in order with respect to the wisdom of the apparently ever-increasing reliance on it.

First, boards of directors in the later 1990s and early 2000s are undoubtedly far more independent than those in the early 1970s. But surely no one would argue that the managerial misdeeds leading to passage of the Foreign Corrupt Practices Act in 1977⁸⁸ were worse than those leading to passage of Sarbanes-Oxley. Enron, WorldCom, Adelphia, Tyco and Global Crossing were all listed on the NYSE or NASDAQ. These companies appear to have been in full compliance, formally at least, with all applicable requirements for board and audit committee independence, yet it would be hard to find any corporation management in the 1970s that behaved with comparable piracy.

Second, if independent directors are to perform an effective monitoring role, they need “to bring a high degree of rigor and skeptical objectivity to the evaluation of company management and its plans and proposals.”⁸⁹ But these characteristics are likely to be far different from the characteristics of directors valued by a CEO for their strategic insights and business acumen. At a minimum, therefore, the consensus demand for a monitoring board forces a tradeoff of strategic vision for skeptical objectivity—without any demonstration of the cost and benefits one way or the other. More fundamentally, the success of the monitoring board would appear to depend on the recruitment of directors with profiles very different from those of the directors who now oversee our major corporations. Without exaggeration, the rhetoric used by the NYSE’s Accountability Committee and the ABA’s Task Force—and the apparent objective of Act Sec. 301 of Sarbanes-Oxley—suggests that in recruiting members for their boards of directors, public companies should be looking not for successful executives at other companies, investment bankers with broad industry expertise or professional consultants with detailed knowledge of business processes and operations, but rather, for former staff members of the SEC’s Division of Enforcement. Surely, this cannot be right.

Third, if the premise of the monitoring board is correct—that is, if the stockholders are, in fact, to rely on the independent directors to prevent management opportunism—then one would expect that when such a board fails to prevent such opportunism, through negligence or worse, it should be possible to call the board to account for its failure. But that is not the case. “On the contrary … many prominent features of corporate law [are] designed for the express purpose of making it difficult for shareholders to hold the board … legally responsible, except in the most provocative circumstances. … [And it would be] dangerously optimistic [to] assum[e] that the level of judicial supervision of business can be dramatically increased without unforeseeable and incalculable consequences for the efficiency with which businesses make necessary adaptive decisions.”⁹⁰ Yet, as we assign more and more responsibilities to the independent directors at public corporations, but do not in any way attend to the legal consequences of their negligent
performance of these responsibilities, we are, in effect, putting cops on the beat without supervision or risk of sanction. Neither Sarbanes-Oxley nor the NYSE’s new listing standards acknowledge this anomaly, but surely the disconnect between director responsibility and director accountability is far too large to remain unaddressed.

Fourth, and finally, the consensus model of best practice in the area of corporate governance represents an attempt to control corporate opportunism through private initiatives, thereby avoiding federal intervention into matters of internal corporate organization and management. Over the last 30 years, the pattern has been for the consensus to recommend independence on corporate boards to prevent further scandals or flagrant abuses. When more scandals and flagrant abuses occur, the consensus recommends even more independence, and then when scandals and flagrant abuses continue, it recommends yet more independence, and so on and so on. In Sarbanes-Oxley, Congress showed its impatience with this continual ratcheting up of the standards for, and powers of, the independent directors by imposing federal bans on such matters as corporate loans to executives and forced executive repayments of bonuses and stock gains before corporate restatements. In doing so, Congress was testing a new approach to corporate governance.

Perhaps after 30 years of ratching up independence and empowerment, enough is now enough. By turning the corporate board into the monitor of corporate management, we do not appear to have been able to stop the scandals and flagrant abuses, and we do appear to be losing the vision, advice and competitive perceptiveness that a good board should be providing the CEO. Perhaps the time has come to think outside the “consensus” box.

Endnotes

¹ Sarbanes-Oxley Act of 2002 (P.L. 107-204).
² ROBERT C. CLARK, CORPORATE LAW, at 390–92 (1986); Armen A. Alchian and Harold
Domsetz, Production Information Costs and Economic Organizations, 62 AM. ECONOMIC REV. 777 (1972).
³ MELVIN A. EISENBERG, THE STRUCTURE OF THE CORPORATION: A LEGAL ANALYSIS (1976).
⁴ William T. Allen, Corporate Governance in an Age of Global Competition, Address Before the Ray Garrett, Jr. Securities and Corporate Law Institute, (Northwestern University Law School, Apr. 1992).
⁵ Douglas M. Bronson, Countertrends in Corporation Law, 68 MINN. L. REV. 53–91 (1983).
⁶ Michael C. Jensen and William H. Meckling, Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure, 3 J. FIN. ECONOMICS 305 (1976).
⁷ Supra note 3, at 140–48.
⁸ Ira M. Millstein, The Evolution of the Certifying Board, 48 BUS. LAW. 1485 (1993).
⁹ Jay W. Lorsch, Empowering the Board, HARVARD BUS. REV., Jan.–Feb. 1995, at 107.
¹⁰ See, e.g., Jeffrey N. Gordon, What Enron Means for the Management and Control of the Modern Business Corporation: Some Initial Reflections, 69 U. CHI. L. REV. 1233 (2002); ROBERT A.G. MONKS & NELL MINOW, CORPORATE GOVERNANCE, at 203–10 (2d ed. 2001); Martin Lipton and Jay W. Lorsch, A Modest Proposal for Improved Corporate Governance, 48 BUS. LAW. 59.
¹¹ MYLES MACE, DIRECTORS: MYTH AND REALITY (1970).
¹² Supra note 8.
¹³ In the Matter of McKesson & Robbins, Accounting Series Release No. 19, Exchange Act Release No. 2707 (Dec. 5, 1940).
¹⁴ Report of the Subcommittee on Independent Audits and Procedure of NYSE Committee on Stock List 7 (1939).
¹⁵ R.K. MAUTZ & F.I. NEWMAN, CORPORATE AUDIT COMMITTEES: POLICIES & PRACTICE (1977).
¹⁶ STAFF OF SENATE COMM. ON BANKING, HOUSING AND URBAN AFFAIRS, 96TH CONG., REPORT ON CORPORATE ACCOUNTABILITY 8–9 (Comm. Print 1980).
¹⁷ Mu Min, Quantitative Measures of the Quality of Financial Reporting, FEI Research Foundation (2001).
¹⁸ Steve Liesman, Heard on the Street, Deciphering the Black Box—Many Accounting Practices, Not Just Enron’s, Are Hard to Penetrate, WALL ST. J., Jan. 23, 2002, at C1.
¹⁹ PricewaterhouseCoopers Securities Update 2001.
²⁰ In December 2000, 30 percent of Americans had no, or very little, confidence in large corporations and only nine percent had a great deal of confidence. By comparison, the comparable percentages for Congress were 24 percent and 10 percent. NBC NEWS/WALL STREET JOURNAL Poll conducted by Hart-Teeter. http://online.wsj.com/documents/poll-20020724.html.
²¹ Enron Corp., Form 10-K for Fiscal Year Ended 2000.
²² DIRK J. BARREVELD, THE ENRON COLLAPSE: CREATIVE ACCOUNTING, WRONG ECONOMICS OR CRIMINAL ACTS, at 10 (2002).
²³ ENRON CORP., 2000 ANNUAL REPORT (2001).
²⁴ Report of Investigation by the Special Investigative Committee of the Board of Directors of Enron Corp., at 2–3 (Feb. 1, 2002).
²⁵ Ronnie J. Clayton, William Scroggins and Christopher Westley, Enron: Market Exploitation and Correction, FIN. DECISIONS, Spring 2002, at 1.
²⁶ In addition to materials cited elsewhere in this column, see PETER C. FUSARO & ROSS M. MILLER, WHAT WENT WRONG AT ENRON, (2002); International Swaps and Derivatives Association, Enron; Corporate Failure, Market Success, Address at the 17th Annual General Meeting, Berlin (Apr. 17, 2002), available at www.isda.org/whatsnew/pdf/EnronFinal4121.pdf; and William W. Bratton, Does Corporate Law Protect the Interests of Shareholders and Other Stakeholders? Enron and the Dark Side of Shareholder Value, 76 TULANE L. REV. 1275 (June 2002). News stories, court developments, reports and SEC filings with respect to Enron are available at http://news.findlaw.com/legalnews/lit/enron/index.html.
²⁷ Supra note 24.
²⁸ The Role of the Board of Directors in Enron’s Collapse. Report prepared by the Permanent Subcommittee on Investigations of the Committee on Governmental Affairs United States, S. REP. NO. 107-70, 107th Congress,2d Sess., (2002).
²⁹ Press Release, BRT, Business Roundtable Calls Enron Failure “Massive Breach Of Trust,” Task Force Chair Raises Outlines Principles for Corporate Governance Before House Panel (Mar. 3, 2002).
³⁰ WorldCom, Form 10-K for the fiscal year ended December 31, 2001.
³¹ Rebecca Blumenstein and Jared Sandberg, Worldcom CEO Quits Amid Probe of Firm’s Finances, WALL ST. J., Apr. 30, 2002, at A1.
³² Shawn Young, WorldCom Slashes Revenue Outlook; Qwest Is Pressured to Reduce Debt, WALL ST. J. ONLINE, Apr. 22, 2002.
³³ Supra note 31.
³⁴ Press Release, WorldCom, WorldCom Announces Intention to Restate 2001 and 22 First Quarter 2002 Financial Statements (June 25, 2002).
³⁵ Jared Sandberg, Rebecca Blumenstein and Shawn Young, WorldCom Internal Probe Uncovers Massive Fraud, WALL ST. J. ONLINE, June 26, 2002.
³⁶ Securities and Exchange Commission v. WorldCom, Inc., Civil Action No. 02 CV4963 (S.D.N.Y.) Litigation Release No. 17588 (June 27, 2002).
³⁷ Shawn Young, Corrick Mollenkamp, Jared Sandberg and Henry Sender, WorldCom Seeks Court Protection From Creditors Under Chapter 11, WALL ST. J., July 22, 2002.
³⁸ Press Release, WorldCom, WorldCom Announces Additional Changes to Reported Income For Prior Periods, (Aug. 8, 2002).
³⁹ United States of America v. Scott D. Sullivan and Buford Yates, Jr., Indictment 20.
⁴⁰ Sarbanes-Oxley also contains provisions—blanket prohibitions of loans to corporate executives, recapture of profits from stock sales in the event of an earnings restatement, executive certification of financial statements and prohibition of executive stock sales during “blackout periods”—that reflect substantial skepticism with respect to the consensus view that strong boards of directors can effectively control management opportunism.
⁴¹ Corporate Governance Rule Proposals Reflecting Recommendations from the NYSE Corporation Accountability and Listing Standards Committee as Approved by the NYSE Board of Directors (Aug. 1, 2002), available at www.nyse.com. On August 21, 2002, NASDAQ’s Board of Directors approved a comprehensive package of corporate governance reforms that basically tracks the NYSE’s new listing standards. Because the full text of the NASDAQ proposals is not yet available, we will cite hereafter only to the NYSE Standards. A summary of the NASDAQ CorporateGovernance proposal is available at www.nasdaqnews.com /about/corpgov/Corp_Gov_Summary082802.pdf.
⁴² Preliminary Report of The American Bar Association Task Force on Corporate Responsibility (July 16, 2002).
⁴³ Press Release, BRT, The Business Roundtable Praises the New Listing Standards of the New York Stock Exchange (Aug. 1, 2002), available at www.brtable.org/press.cfm/751.
⁴⁴ Supra note 42, at 14.
⁴⁵ Supra note 1.
⁴⁶ Id., at Title I.
⁴⁷ Id., at Title II.
⁴⁸ Supra notes 41, 42, 43 and accompanying text.
⁴⁹ Report of the S. Comm. on Banking, Housing and Urban Affairs on Public Company Accounting Reform and Investor Protection Act of 2002, to accompany S. 2673, S. REP. NO. 107-205, at 23 (2002).
⁵⁰ Id.
⁵¹ Act Sec. 402 of P.L. 107-204, supra note 1. This provision could well have far-reaching implications for several well-established corporate employee benefit programs. Tracie Rozhon and Joseph B. Treaster, Insurance Plans of Top Executives May Violate Law N.Y. TIMES, Aug. 29, 2002, at A1; Joseph B. Treaster and Tracie Rozhon, Another Blow To Executives On Options, N.Y. TIMES, Aug. 30, 2002, at C1.
⁵² Act Sec. 304 of P.L. 107-204, supra note 1. Presumably, this provision can be enforced in the same manner as the current prohibition on short-swing profits in Act Sec. 16(b) of the Securities Exchange Act of 1934, that is, through stockholder derivative action.
⁵³ Act Sec. 302 of P.L.107-204, supra note 1. The SEC has now adopted rules implementing Act Sec. 302 of Sarbanes-Oxley as well as imposing extensive additional requirements regarding internal controls for both
disclosure and financial reporting. SEC, Rel. No. 33-8124, Certification of Disclosure in Companies’ Quarterly and Annual Reports, 67 FR 57276 (Aug. 29, 2002).
⁵⁴ Act Sec. 906 of P.L. 107-204, supra note 1.
⁵⁵ Act Sec. 306, id.
⁵⁶ Act Sec. 303, id.
⁵⁷ This is a narrower universe than that of all public corporations because it includes only corporations
“listed” on NASDAQ or an exchange.
⁵⁸ This is a defined term and includes any person directly or indirectly controlling, controlled by or under common control with the corporation. See Act Sec. 3(a)(19) of Securities and Exchanges Act of 1934.
⁵⁹ Act Sec. 301, P.L. 107-204, supra note 1.
⁶⁰ Act Sec. 407, id. This provision applies to all “public” companies even though the requirement to have an audit committee in Act Sec. 303 is limited to “listed” companies.
⁶¹ Act Sec. 407 of P.L. 107-204, supra note 1.
⁶² Act Sec. 202, id.
⁶³ Id.
⁶⁴ Act Sec. 301, id.
⁶⁵ Supra note 42.
⁶⁶ Act Sec. 301 of P.L. 107-204, supra note 1.
⁶⁷ The generally accepted legal doctrine is that there is no private right of action for violation of a rule of a self-regulatory organization.
⁶⁸ Act Secs. 802, 807, 1102 and 1107 of P.L. 107-204, supra note 1.
⁶⁹ Act Secs. 902, 903, 904 and 1106, id.
⁷⁰ Act Secs. 305, 602 and 1105, id.
⁷¹ Act Sec. 804, id.
⁷² Act Sec. 303, id.
⁷³ Supra note 49, at 1.
⁷⁴ Report of New York Stock Exchange Corporate Accountability and Listing Standards Committee (June 6, 2002).
⁷⁵ Corporate Governance Rule Proposals Reflecting Recommendations from the NYSE Corporate Accountability and Listing Standards Committee as Approved by the NYSE Board of Directors (Aug. 1, 2002), available at www.nyse.com.
⁷⁶ While the NYSE’s actual proposed rule changes were approved after enactment of Sarbanes-Oxley, the Corporate Accountability Committee’s recommendations on which they were based were made almost two months before the act was signed into law and several weeks before Senator Sarbanes’ Senate Banking Committee reported the bill. The NASDAQ Stock Market has proposed somewhat similar requirements. Press Release, NASDAQ (June 5, 2002).
⁷⁷ Supra note 75, at 1. The NYSE had previously only required a listed company to have three independent directors, all of whom were to serve on the audit committee. NYSE LISTED COMPANY MANUAL, §303.01 (B)(2)(a).
⁷⁸ Supra note 75, at 2(a) and Commentary.
⁷⁹ Id., at 2(b).
⁸⁰ Id., at 3.
⁸¹ Id., at 4.
⁸² Id., at 5.
⁸³ Id., at 7(a).
⁸⁴ Id., at 7(b)(ii)(E) and Commentary.
⁸⁵ Id., at 1.
⁸⁶ Supra note 74, at 8.
⁸⁷ But see Sanjai Bhagat and Bernard Black, The Uncertain Relationship Between Board Composition and Firm Performance, 54 BUS. LAW. 921, 950 (1999). “[Evidence suggests] the opposite—that firms with supermajorityindependent boards perform worse than other firms, and that firms with more inside than independent directors perform about as well as firms with majority (but not supermajority) independent boards.”
⁸⁸ Foreign Corrupt Practices Act of 1977 (P.L.
95-213).
⁸⁹ Donald C. Langevoort, The Human Nature of Corporate Boards: Law, Norms, and the Unintended Consequences of Independence and Accountability, 89 GEO. L. J. 797 (Apr. 2001).
⁹⁰ Michael P. Dooley, Two Models of Corporate Governance, 47 BUS. LAW. 461 (Feb. 1992).

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