Aug 6 (Reuters) - My hat is off to the four authors of a new
study called "Does the Revolving Door Affect the SEC's Enforcement Outcomes?" which was to be presented Monday at the
American Accounting Association. As The New York Times was the
first to report, researchers from Emory, Rutgers, the University
of Washington and Singapore's Nanyang Technological University
set out to reach a quantitative answer to a question everyone
thinks they already know the answer to. Instead, the study found
that there's no measurable impact on enforcement from lawyers
moving in and out of the SEC.
I wasn't surprised that there's scant statistical evidence
of ambitious lawyers at the Securities and Exchange Commission
punting on cases to curry favor with future clients; most SEC
lawyers expect to go work for law firms, and firms like to hire
regulators with a reputation for toughness, not laxity.
(Remember the bidding wars for former Enron prosecutors?) But I
was taken aback by a secondary finding in the study: Firms with
a high concentration of SEC alumni don't achieve measurably
better results than other firms for clients in enforcement
actions. That should cause some eyebrows to rise among the
clientele of firms like Wilmer Cutler Pickering Hale and Dorr
and Paul, Weiss, Rifkind, Wharton & Garrison, which pride
themselves on offering clients counsel based on the collective
experience of their corps of SEC alums. If clients really aren't
faring any better when they hire firms with specialized SEC
enforcement defense practices, why bother to pay for their
experience?
But there's one big reason to take that aspect of the study
with a grain of salt. It comes down to the inability of even the
most nuanced statistical analysis to measure the unmeasurable.
Here's why. The study was based on data collected from 284
SEC enforcement actions for fraudulent financial reporting,
spanning 17 years (between 1990 and 2007) and involving 336 SEC
lawyers. As a proxy for aggressive enforcement, the authors
looked at four factors: the monetary value of the damages
the SEC collected as a percentage of shareholder losses from the
misconduct; whether the SEC tried and won the case, rather than
settling; whether regulators referred the case to the Justice
Department for criminal prosecution; and whether the SEC brought
claims against the CEO as well as the firm. Of the 336 SEC
lawyers who tried the 284 enforcement actions, 196 were still
working at the SEC at the end of the study's time frame. Another
37 didn't join law firms, which means there were 103 so-called
"revolvers" who left the SEC to join firms.
The researchers compared the enforcement results of the
revolver lawyers to those who didn't go to big firms and found
no difference, which undercuts the so-called "rent-seeking
hypothesis" that SEC lawyers compromise enforcement to enhance
their future career prospects. In fact, the study found that the
lawyers with the toughest enforcement records on damages,
criminal referrals and charging the CEO were the likeliest to
join law firms with specialized SEC practices. That supports
what the study calls the "human capital hypothesis," which
theorizes that SEC lawyers aim to impress future employers with
their expertise and competence.
To check the prevailing human capital theory -- which seems
to upend conventional wisdom on the deleterious effect of the
revolving door -- the study also examined the impact of SEC
alums once they've left the agency and gone into private
practice. Researchers looked at whether firms with a
concentration of former SEC lawyers "are able to extract milder
enforcement outcomes for the clients they represent against the
SEC," and found "no evidence of such an influence." According to
the study, that l a ck of influence "further supports the earlier
inference that revolving doors are not associated with lax
enforcement outcomes."
But an analysis last year by the Project on Government Oversight suggests that SEC alums may exert a much more subtle
influence at their old agency when they begin to represent
clients in private practice. According to POGO, companies
frequently hire SEC alums long before a matter becomes an
enforcement action, to write no-action letters or represent
potential defendants in examinations and investigations. The
POGO paper doesn't have the statistical underpinnings of the new
study but cited "several recent reports and studies that point
to instances in which former SEC employees appear to have
exerted undue influence on current commission staff," including
four investigations by the SEC's own inspector general. As
evidence of the frequency with which former SEC lawyers appear
before their old colleagues, POGO has a "revolving door" database of reports by agency alums disclosing their
representation of clients appearing before the SEC; 219 former
SEC lawyers filed at least 789 such letters between 2006 and
2010.
Without some accounting for the influence of former SEC
lawyers at the pre-enforcement stage, said POGO investigator
Michael Smallberg, the new study may be too quick to minimize
the impact of the revolving door. "I don't think one could fully
'alleviate concerns' about the revolving door without
researching the interactions between current and former SEC
staffers in these other areas," Smallberg told me in an email.
He also pointed to a recent academic paper asserting that
the entire regulatory process -- from rule-making to enforcement
-- is affected by the cultural affinity between agencies and
their alumni. "Regulators are more likely to have personal
connections with industry lobbyists or to envision themselves in
their shoes," wrote James Kwak, a law professor at the
University of Connecticut. "This may not directly affect their
ideological sympathies or their assessment of the merits of an
issue, but it could easily affect their identification -- which
side they consciously or unconsciously perceive as their
in-group."
I challenge the four authors of this week's accounting study
to come up with a measure of that influence. Then we can have a
fully informed discussion about the revolving door.
I emailed one of the study's authors, Rutgers professor Simi
Kedia, but didn't hear back.
(Reporting by Alison Frankel)
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