Eliot Spitzer: friend or foe

US Chamber of Commerce president Tom Donohue lambasted Spitzer in early July, saying the attorney general had exceeded his authority and trampled on individual rights in his campaign to stomp out financial malfeasance. ‘He is the investigator, the prosecutor, the judge, the jury and the executioner,’ Donohue
said of Spitzer. ‘It is the most egregious and unacceptable form of intimidation that we have seen in this country in modern times,’ Donohue added at a recent public event.
 
Others in the business community say the attorney general’s office is usurping the rights of shareholders when he takes steps to force out senior executives as part of settlement discussions. Still others complain that the threat of criminal and civil actions against corporations is an abuse of prosecutorial power. 

When Spitzer announced in January that he would run for governor of New York his critics said this proved his actions were always political. Anonymous Wall Street executives were quoted, asking where they could sign up to contribute money to Spitzer’s opponent – regardless of whom that might be.

Corporate America seems genuinely vexed by Spitzer – but should it be? Critics say Spitzer, in filing cases that focus not only on illegal activities, but also on the so-called ‘gray areas’ of corporate behavior, is taking a hard line. This, they say, is inherently an anti-business stance. But the gray areas, it turns out, have almost always been examples of corporate practices that distort the free market, disadvantage investors and/or hurt consumers. It seems odd, therefore, to argue that it is ‘anti-business’ to strive to ensure the smooth operation of the capitalist system.

In the 2002 equity research case, in which ten of the largest US investment banks settled with Spitzer for $1.4 bn, the attorney general came down hard on a practice that was long the worst-kept secret on Wall Street. CEOs and CFOs of US companies knew full well that if they wanted better and more sell-side coverage, they would have to ante up with significant investment banking fees. 

In the extreme, the deal was ‘no investment banking fees, no sell-side coverage’. The attorney general discovered in the course of due diligence that some equity analysts were touting stocks they privately castigated as ‘dogs’. This was simply the icing on the cake for Spitzer.

In Spitzer’s numerous settlements with mutual funds, the trading community had long known that after-hours trading was not as transparent as it should be, but the illegal preferences given to some institutional investors were news to many people. In the insurance industry, back-end commissions were a long-time practice other regulatory agencies had failed to examine closely. But it wasn’t common knowledge that these commission payments were not entirely transparent and seemingly made a mockery of ‘objective’ insurance broker searches for the best coverage for their clients. 

Once Spitzer’s office had uncovered ‘smoking e-mails’ that allegedly demonstrated the illegal practice of bid-rigging, the threat of criminal indictment hung over the heads of Marsh & McLennan executives. This is just another reason for corporate directors, who should remember how obstruction of justice charges resulted in the collapse of Arthur Anderson, to sit up and take notice of the New York attorney general.

It’s virtually impossible to make a case that these practices, aggressively targeted by Spitzer, were good for business. On the contrary, suborning such behavior simply undermines America’s free market economy. How can competition produce the best alternatives for customers when the process is tainted by back room deals and improper pay-offs? How can investors make informed decisions about where to put their money when the supposedly objective research upon which they rely is more akin to marketing material, not even believed by its own authors? And how can the capital markets function smoothly and efficiently when select investors trade after the markets close on information they have ahead of time? 

Truth, justice and the American way

One of the most important ingredients in the mix that makes the American financial system the envy of the world is the confidence it inspires in investors and potential investors. Any action – long-tolerated or not – that weakens this confidence threatens the environment in which business prospers, wealth is created and society advances.
 
Spitzer’s effort to shine a light on the gray areas of doing business is a shot across the bows of corporate boardrooms. It’s not only a reminder that, in the post-Enron, post-Sarbanes-Oxley world, directors have enhanced responsibilities for transparency and ethical behavior. It’s also a call to stand up and root out – before the attorney general does – unethical business practices that undermine the free market. 

Senior managers and directors know better than any regulator the gray areas in their own industries. They know the practices that, although long-standing and often ignored by regulatory agencies, can withstand neither public scrutiny nor the test of their own corporate mission statements. Before companies and their boards find themselves confronting the unwelcome attention of newly energized state attorneys general, they should get their own houses in order.

In the end, Spitzer is doing corporate America a great favor – though it may well feel like the type of favor a dentist does when he pulls an infected tooth. Yet people have long accepted that they may have to endure some short-term pain in order to have a more healthy set of teeth. 

Instead of railing against the regulator who has pointed out the flaws in the system, the leadership of corporate America should recognize that adherence to ethical business practices inevitably has a salutary effect on the markets. Then perhaps all those mission statements, printed on the inside cover of hundreds of thousands of annual reports, could mean something after all. 

Richard Wolff is the CEO of the Global Consulting Group (GCG). He advises companies on how to deal with corporate and financial crises. Geraldine Ferraro is senior managing director of GCG and head of the global public affairs practice. She is also a former Congresswoman and one time candidate for the US vice presidency.