Accepting Corporate Responsibility
By Stephen Murdoch
Photographs by Patrice Gilbert
In the wake of recent financial scandals in the corporate world, the legal profession is reexamining what actions lawyers should take in the face of client misconduct.
Who would have thought during the heady nineties
that we would be where we are today: hand-wringing, finger-pointing, and soul-searching, thanks to the greed evinced at Enron, WorldCom, Adelphia, and the other companies composing the financial scandals? Whether or not corporate executives and their accountants should have foreseen the calamity they wrought, they have received the bulk of Congress’s and the news media’s blame and attention. To be sure, the likes of Andrew Fastow of Enron and David Duncan of Arthur Andersen are easy targets for their scorn.
At first lawyers remained relatively free from public condemnation. When the Enron skein began to unravel, though, we discovered that lawyers helped create ethically dubious (if not necessarily illegal) business partnerships and deals. Dozens of law firms were served with subpoenas during Enron’s bankruptcy discovery, and even highly esteemed firms, such as Vinson & Elkins and Kirkland & Ellis, have had their reputation tarnished by Enron associations. Some corporate lawyers, too, began to make front-page news alongside management, such as Tyco’s general counsel, Mark Belnick, who was charged with covering up $14 million in improper loans to himself.
Over the summer the legal profession could not avoid congressional scrutiny of their role in the financial debacles entirely. As Congress worked on Sarbanes-Oxley—a bill that in part established an oversight board to monitor the accounting industry—legislators felt that lawyers needed ethics standards codified as well.
“As we beat up on accountants a little bit, one of the thoughts that occurred to me was that probably in almost every transaction there was a lawyer who drew up the documents involved in that procedure,” the New York Times quoted Wyoming Senator Michael Enzi as saying. “It seemed only right there ought to be some kind of an ethical standard put in place for the attorneys as well.”
Corporate professionals have been here before, and not so long ago. After the savings and loan crisis in the late 1980s, Judge Stanley Sporkin, in his famous opinion Lincoln Savings & Loan Association v. Wall, 743 F. Supp. 901, 919–20 (D.D.C. 1990), wondered what role the outside accountants and lawyers had played: “What is difficult to understand is that with all the professional talent involved (both accounting and legal), why at least one professional would not have blown the whistle. . . .”
Corporate counsel are likely to be too protective of their clients’ confidences to blow whistles, but the magnitude of recent misbehavior—and the threat of greater federal oversight—has forced the legal profession to reexamine what actions corporate lawyers should take in the face of client misconduct. If lawyers balk at reporting client wrongdoing to law enforcement or the Securities and Exchange Commission, what role should they play to protect investors and the integrity of the market? The Washington Lawyer decided to find out by discussing the state of ethics after the financial scandals with esteemed corporate lawyers, academics, and ethics counsel.
Revealing Client Confidences
Lawyers are not police officers or informants. Blowing the whistle—in the sense of going public or to the authorities—on their clients is anathema to the profession’s traditional credo, which emphasizes zealous advocacy and confidentiality. If corporate attorneys were forced to reveal client confidences, lawyers argue, attorney–client communications would be “chilled.”
“If the client thinks you are going to go turn everything over to a court or to a prosecutor, they are going to lie to you,” says Ernest Lindberg, director of legal ethics at the District of Columbia Bar.
At times, not revealing client confidences may run counter to society’s interest in knowing the truth, one of the classic reasons why practicing law can be so stressful and conflicting. Confidentiality is so important to the law that possibly innocent persons have been sent to prison to protect it. In State v. Macumber, 544 P.2d 1084 (Ariz. 1976), the defendant in a murder trial wanted to include testimony from lawyers whose client had admitted to the crime but had since died. The Arizona Supreme Court affirmed the trial court’s refusal to admit the attorneys’ testimony about the confession, holding that it was privileged and confidential, even after the client’s death.
“And it’s not a totally stupid decision, right?” says Paul Rosenzweig, senior legal research fellow at the Heritage Foundation and an adjunct professor at George Mason University. If clients think their lawyers can reveal their confidences, even after death, they will stop telling their lawyers the truth. “The principle of confidentiality is something that we lawyers hold very highly and people in the public have internalized,” says Rosenzweig.
Many lawyers wonder if their profession
is overly protective of corporate client confidences. Especially in
the aftermath of the financial scandals, these lawyers feel that a
recalibration of the balance between confidentiality and the public
good is necessary. The ethics rules already prohibit lawyers from assisting
clients in fraudulent acts, but jurisdictions vary on whether a lawyer
may disclose fraud likely to cause financial harm if the client insists
on going forward.
Lisa Lerman, a law professor at the Catholic University of America, believes a lawyer who knows that a client intends to make a “serious misrepresentation” that will cause financial harm has a responsibility to the public and the justice system to take actions to prevent it. “The justice system,” she says, “should require that some action be taken. Not necessarily blowing the whistle, at least not at first, but the lawyer should insist that the client not include that information [in his public documents].”
The legal profession has long debated what actions lawyers should take in the face of client fraud. Recently, the American Bar Association’s Ethics 2000 Commission recommended that its House of Delegates rewrite Model Rule of Professional Conduct 1.6, which prohibits (with certain exceptions) lawyers from revealing clients’ confidences without their informed consent. In part the commission urged the delegates to permit lawyers to reveal a client’s fraud or crime when it would cause substantial injury to someone’s financial interests or property. The delegates, however, rejected the language last February.
If it were not for the rash of financial scandals, the legal profession might have laid the question of fraud and confidentiality once more to rest after the Ethics 2000 vote. Just one month later, however, American Bar Association (ABA) President Robert Hirshon created the Task Force on Corporate Responsibility, which in a preliminary report proposed far-reaching changes to the Model Rules in hopes of shoring up investor confidence.
In the case of Rule 1.6, the task force
recommended that lawyers be required to disclose client crime, including
violations of federal securities laws and regulations that are likely
to injure someone financially. The proposal is not likely to create
a groundswell of support in the legal community. One legal ethics expert
was quoted in the Washington Post as saying that the ABA proposals
force lawyers to be in the “surveillance and whistle-blowing
mode. . . . We do more good by assuring our clients confidentiality
and remonstrating them to do the right thing than we ever will do good
by turning on them. When you get to the point where the confidentiality
rules require you to read Miranda rights to your client, the benefits
of confidentiality are lost.”
One of the reasons for supporting a strict rule against revealing confidences is to prevent lawyers from substituting their ethical views for the views of their clients. Nevertheless, Rosenzweig believes “that to a large degree the disregard with which lawyers have come to be viewed is a product of our warped sense of overzealous loyalty to a client and his confidences. There are any number of areas where we allow the particular duty to the client to trump broader societal values.”
Unlike the ethics rules of many states, the D.C. Rules of Professional Conduct do not allow lawyers to reveal client fraud. D.C. Rule 1.6 permits, but does not require, lawyers to reveal client confidences only if not doing so is likely to lead to death or serious bodily harm, or the corruption of a tribunal’s judicial process. According to Rosenzweig, the D.C. Bar Legal Ethics Committee discusses issues of confidentiality all of the time, “and in almost every situation the responsibility to the client’s confidentiality trumps more generalized feelings of ethics and rightness.”
Lindberg says Washington is probably more client-protection-oriented than many jurisdictions. “The Court of Appeals and the people who drafted or approved the rules . . . made a conscious decision—and I think it’s an appropriate one—to protect clients’ confidences.”
Washington is not alone in its client-friendly position, but it is in the minority. According to the ABA’s Task Force on Corporate Responsibility, “Forty-one states [including Maryland and Virginia] either permit or require disclosure to prevent a client from perpetrating a fraud that constitutes a crime, and eighteen states permit or require disclosure to rectify substantial loss resulting from client crime or fraud in which the client used the lawyer’s services.”
Organizations as Clients
Many lawyers are not even aware of their clients’ wrongdoing. The murderer might not tell his defense about the extent of his crimes and, similarly, chief executive officers might not inform their lawyers of corporate wrongdoing. Some business people even perceive their own lawyers as impediments to action, and thereby avoid contact with them.
“The question or issue addressed to the lawyer might be so narrow that they don’t understand or they don’t appreciate the kinds of things that are happening [in the company],” says Lindberg. For this reason, lawyers at WorldCom may or may not have known that management had overestimated earnings by $3.8 billion. Of course, at least some of Enron’s and Tyco’s lawyers will not have this argument at their disposal, as they played an integral role in the questionable conduct.
When corporate lawyers do know of client misconduct, the law and ethics rules require lawyers to consider various remedial actions. Lawyers may ask the corporate employee to reconsider her inappropriate or illegal actions, or inform a higher authority in the organization of the misconduct. In extreme instances the lawyer must resign from representation when the client persists in the fraudulent or criminal acts or, where required or allowed by the jurisdiction, disclose confidential client information to a third party.
These are not easy steps for corporate counsel to take. If the misconduct is egregious enough, what good will asking the officer to reconsider her actions do? Lawyers may also be reluctant to go above the officer’s head for fear of retaliation, or because the infrastructure of the corporation does not give them easy access to the board or audit committee. In-house lawyers could lose their jobs for taking such action, and outside counsel might hesitate to upset relations with a client that supplies a significant revenue stream.
“There is a lot of pressure on in-house lawyers to give the client the answer the client wants to hear. With outside counsel, too, there is so much money at stake,” says Lisa Lerman.
In part there are inherent strains in representing an entity—the corporation—rather than the individual officers corporate attorneys work with on a regular basis. But how much career and monetary pressure affects an attorney depends upon his or her personality.
Former Securities and Exchange Commission (SEC) enforcement chief and longtime securities lawyer John Fedders does not understand why he, or any other corporate attorney, would risk his career covering up someone else’s misdeeds. “The responsibility is to be tough, to make hard decisions, to draw a line,” he says. “If you don’t have that kind of personality to draw lines and set standards, then you’re not up for the task. You ought to go and sell shoes.”
James Doty, a former general counsel of the SEC and now a partner with Baker Botts L.L.P., thinks conversations with clients can be difficult, but not in the sense that they are emotionally wrenching. “The difficulty of the situation is not that the lawyer is afraid that he is going to get fired [or] dismissed. It’s not that the lawyer thinks the client is going to be mad at him.”
According to Doty, the conversations are hard because the lawyer knows how much is at stake for the client and how difficult the client’s decisions are. The lawyer who appreciates the complexity of the situation is most valuable to the client. Lawyers who do not see the difficulty of corporate client decisions may be good advocates, he says, but they do not make good advisers.
Congress Weighs In
Representing corporations has always had its particular difficulties, but since the financial scandals Congress has taken especial interest in how lawyers respond to organizational misconduct. By passing the Sarbanes-Oxley Act of 2002, Congress essentially codified the requirement that lawyers report wrongdoing to higher-ups in the company, all the way to the board of directors, if necessary. There was no mention of requiring corporate attorneys to reveal client financial fraud, though, as the ABA’s Task Force on Corporate Responsibility suggests doing. Therefore although the SEC has not yet promulgated the rules as required by Sarbanes-Oxley, the law is unlikely to require lawyers to do more with client misconduct than what is already expected of them.
Nevertheless, corporate lawyers are concerned about the legislation. The ABA complained that it is redundant and potentially contradictory to have the SEC regulate lawyers when the state courts and bar associations already have codes of professional conduct. “We face overlapping mandates,” the New York Times quoted Robert Hirshon as saying.
Doty, however, believes lawyers should not overreact. “I think it’s a mistake for any of us to suggest shock or horror at what Sarbanes-Oxley did in this area,” he says. “Sarbanes-Oxley codifies what most lawyers would have thought was their duty [already].”
At root some lawyers are worried that the bill signifies more federal regulation to come. Before Sarbanes-Oxley the accounting profession was self-regulated, subject only to state licensing requirements, but now it has an oversight board. What’s to prevent the same thing happening to lawyers? “There’s a fear that as with medical doctors, as with accountants, the lawyers themselves will have the way in which they practice law regulated,” Doty says.
Complicated regulations, argues Paul Rosenzweig, simply lead people to believe that their only requirement is to follow the letter of the law, rather than to act morally or ethically. “The one thing I know,” he says, “is that our current efforts to have new boards with new standards and all that is just more of the same.” While we promulgate new rules, “there is a whole constellation of morality out there that just doesn’t get addressed.”
The Role of Corporate Attorney
There is a limit to what corporate attorneys can do about client misconduct. Ultimately, lawyers are not moral advisers and they do not make business decisions: they advise on the law.
Nevertheless, Brenda Smith, a professor of ethics at American University, believes the recent scandals will allow for broader conversations between attorneys and their clients. For a long time, she says, many corporate clients have simply relied on lawyers to help them achieve their goals. “Now, hopefully, there will be more value placed [on a lawyer] who says, Yes, you can do this, but these are all of the pitfalls . . . these are the things that look questionable.”
Most lawyers are not satisfied by simply doling out legal opinions on complex business and legal matters like an automaton. John Fedders believes lawyers should not contain themselves to law or ethics, but should judge themselves by the highest possible standard. “I would like to think that we live by the highest Judeo-Christian standards,” he says.
James Doty thinks effective lawyers do not simply provide their clients with the best legal advice possible, but also feel a broader “social responsibility” and a duty to their law partners to act responsibly. It is not always easy balancing these three interests, he says, and at times a lawyer’s advice might appear inexpedient to the client. The client may worry that he is missing business opportunities or giving an edge to his competitors.
Doty says thoughtful advice that takes these factors into account is what makes a lawyer valuable. “The only thing we bring to bear that our clients really think is valuable is our judgment in balancing these factors—these three elements—and not being simplistic in our view of [them].”
Ultimately, how much lawyers discuss issues beyond the law with their clients is a personal decision that depends upon the dynamics of the relationship. Paul Rosenzweig notes that a law degree does not confer special ethical and moral wisdom on attorneys. Business people know right from wrong just as well as lawyers do. “I have no special take on what is moral in terms of the distribution of wealth, or the appropriate dividend to pay, whether or not a company’s policies in constructing shoes in Thailand are right or wrong,” he says. He may have opinions, but they are not worth more than everyone else’s in the company.
Certain conversations lend themselves to discussions of morality, but corporate legal questions sometimes lurk in gray areas of ethics, morality, and the law.
Rosenzweig uses the example of a CEO who wants to reincorporate the company in Bermuda to avoid American taxes. “It’s perfectly legal. It will save the company a trillion dollars. It will be bad for America basically because it will mean less tax money and a higher tax burden. But what’s a lawyer supposed to do? Say that’s un-American, it’s not patriotic?” As long as Congress says reincorporating in Bermuda is legal, who is the lawyer, Rosenzweig asks, to say a corporation shouldn’t do it?
For Brenda Smith, though, the financial scandals may promote discussions of ethics between lawyers and their clients. “We were in a situation,” she says, “where lawyers and corporations were rewarded about how creative they could get and how close to the edge they could skate without actually falling over the edge. Hopefully what will happen now is that there will be a correction, where issues around not only…the legality but the ethics of a particular transaction and the ethics of the parties will come into play.”
The Changing Legal Culture
No doubt, over the past year, many good lawyers lost sleep over questionable client decisions. In fact, lawyers have a longstanding proclivity to worry about ethics. “This is the profession that invented ethics,” says Doty. Classical philosophers aside, most of the people throughout history who wrote about ethics seriously were lawyers.
Despite the history, many unscrupulous lawyers contributed to the financial miasma of 2002. This is not surprising. As in every profession, lawyers will forever struggle with the immoral and unethical fringe among them. But corporate law, with its access to large amounts of money, may pose particular problems for attorneys who lack moral compasses.
Lisa Lerman studies “cowboys,” unethical corporate attorneys who do not feel obligated to follow the rules the rest of the profession does. She cites the example of Scott Wolas, a former partner at the Richmond, Virginia–based Hunton & Williams, who ran a Ponzi scheme and made away with millions of other people’s dollars. “If there were only one or two stories like this,” she says, “it wouldn’t really say anything about the profession.” But there are a surprising number.
Part of the problem is that partners in law firms are often autonomous and independent of one another, working without knowing what other partners are up to. “Almost like solo practitioners working in groups,” says Lerman. Therefore it is often the less powerful—the legal staff and young associates—who find out about misconduct first and have to struggle with what to do about it. In the Scott Wolas example, associates were complaining for a year and a half about his activity before action was taken. Eventually, Hunton & Williams had to pay out millions in damages as a result of Wolas’s Ponzi scheme.
Law firms are becoming aware that this lack of communication is no longer viable. “I think the firms are changing,” says Lerman. “If I were a partner in a law firm and I knew about the number of disasters that have happened within highly respected law firms, I would be looking over my partners’ shoulders and trying to set up structures that would create more accountability and more monitoring, especially of financial behavior.”
The bigger law firms in Washington, D.C., are becoming savvier about ethics. They now have in-house ethics experts and a few have lawyers sitting on the Bar’s Legal Ethics Committee. Lawyers say that this, coupled with continuing legal education, has helped improve ethics standards in the profession.
Law schools, too, are teaching ethics better than they did in the past, although, according to Brenda Smith, this varies greatly from school to school. “In many places legal ethics is taught as a throwaway class,” she says. “It’s just two or three credits.” At other institutions ethics is woven throughout the curriculum, giving students a more thorough ethics education.
Recent events, Smith hopes, will cause professors to raise ethics in a range of classes, such as corporate and securities law. Previously, there was a perception among law students that the study of ethics was mainly for future litigators.
“If nothing else,” says Smith, “[the financial scandals] will send a wake-up call to law students and to law schools that the discussion of ethics really needs to be threaded through the transactional courses as well.”
The financial scandals are a wake-up call that is being felt throughout corporate law. Although accountants and corporate officers have borne the brunt of scrutiny, Congress has called the self-regulation of corporate attorneys into question by passing the Sarbanes-Oxley Act. If corporate lawyers are to remain self-regulating and worthy of the public’s trust, they must look afresh at their most valuable commodity: their ethics.
“The only thing we have as a profession, ultimately, to rest our authority on, and our credibility on, is our ethics,” says James Doty. “Our practical judgment about what clients should do in a given situation ultimately comes back to our own firm grounding in our own sense of what our duties are, our ethics are.”
Stephen Murdoch wrote about the politics of judicial confirmation in the September issue.