Andersen Verdict Signals New Government Crackdown

The Andersen guilty verdict will prove to be only the first of many prosecutions in the government’s version of a police crackdown on unethical business practices.

Former executives of Enron Corp. are expected to be charged with fraud, perjury and obstruction of justice after a federal grand jury in Houston completes its work. Last week saw the indictment of Tyco International Ltd.’s chief executive on tax evasion and the arrest of ImClone Systems Inc.’s founder on suspicion of violating insider trading laws.

Chief executives of half a dozen companies have lost their jobs in the last few months, pushed out by boards of directors newly energized by threats of shareholder lawsuits and calls from prominent businesspeople for reform of corporate America.

But more is needed. Fired executives walking away with multimillion-dollar severance packages and sermons from business leaders are not likely to restore public confidence in U.S. business and the stock market.

Too much has come out in the last year about shoddy ethics and dishonest behavior in business, from cheating in the California energy market to spurious accounting and overstated profits by a broad swath of U.S. industry.

Yet despite numerous disclosures and evidence of investor disgust, Congress is unlikely to pass legislation governing business because it is in thrall to business lobbying and dependent on campaign contributions.

So the shock treatment of government police action will force reform and change. The aggressive move on Andersen--indicting the whole company and penalizing thousands of partners and employees--has been criticized for driving the firm practically out of business. But it got the attention of the firm and the rest of the accounting industry.

Recent Securities and Exchange Commission investigations of disclosure at firms such as Xerox Corp. and Dynegy Inc. typify a new activism at a regulatory agency that never questioned a single one of Enron’s hundreds of financial filings over the last decade.

Some substantial reforms are underway. The New York Stock Exchange is likely to implement new requirements for corporate boards this summer. Directors will have to be independent of ties to corporate management and enforce stricter auditing standards and control of stock options. Any firm not complying with the new requirements would be delisted.

Ira Millstein, a prominent attorney and expert on directors and corporations, praised the Big Board’s action as a “historic step forward in promotion of good corporate governance.”

On Monday, Samuel DiPiazza, CEO of PricewaterhouseCoopers--the world’s largest accounting firm--called for corporations to adopt broader and more truthful standards of reporting their condition to shareholders.

But clearly there is division within the accounting profession. A reform bill that Sen. Paul S. Sarbanes (D-Md.), chairman of the Senate Banking Committee, hopes to move to the Senate floor today, for example, faces strong industry opposition.

That’s why government’s enforcement powers are needed, even though police crackdowns can be messy. U.S. business has been here many times.

At the end of each boom period, distortions and finagling abound. The roaring ‘20s were followed by regulation in the ‘30s, when tough securities laws were adopted.

But the consequences aren’t always so neat. In the late 1980s, after a decade of unrestrained corporate takeovers financed by high-yield, or junk, bonds and a misuse of savings and loan associations, government prosecutions put the firm Drexel Burnham Lambert out of business and its most important officer, Michael Milken, in prison.

S&Ls; were closed and legislatures forbade state agencies from holding junk bonds. But that led to more unintended consequences than long-lasting reforms. Wealthy investors and financially astute firms, such as GE Capital, picked up S&L; real estate and junk bonds at bargain prices and prospered on such holdings through the ‘90s.

Will the results of this new reform period be different? Yes, reforms of disclosure and corporate governance may well be more effective because the offenses of the ‘90s hit directly at so many Americans. Those corporate offenses lay in overstating profits and distorting stock markets, in which almost all Americans now have a stake through corporate and personal pension accounts.

“Lack of business ethics is a long-term threat to U.S. equity markets,” says Robert Arnott of First Quadrant, a Pasadena-based investment management firm.

But if lack of ethics is a threat, reforms that reinforce a structure of rules and regulations backed by such government agencies as the SEC are a guarantor of fair and honest markets.

That guarantee is what the original reforms of the 1930s brought to U.S. stock and bond markets, which then flourished after World War II. And that is the hope behind government actions today.

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James Flanigan can be reached at [email protected].