Author: Doug Cornelius

You can find out more about Doug on the About Doug page

Cash, Ash or Crash – Nobody Rides for Free

Iceland has been a sources of trouble.

In October of 2008 their banking system crashed after ill-advised over-expansion. Proportionally, Iceland’s financial meltdown made the US failure look quaint. The three biggest banks in Iceland, a country of only 310,000, made loans totaling over 850% of Iceland’s Gross Domestic Product.

In April, Iceland’s Eyjafjallajökull volcano erupted from its glacial hibernation. The result was the biggest shutdown in the history of aviation. (This included the flight for my planned vacation.)

Last week Iceland’s Glitnir Bank announced that it has commenced legal action in the Supreme Court of the State of New York against Jon Asgeir Johannesson, formerly its principal shareholder, Larus Welding, previously Glitnir’s Chief Executive, Thorsteinn Jonsson, its former Chairman, and other former directors, shareholders and third parties associated with Johannesson, for fraudulently and unlawfully draining more than $2 billion out of the Bank.

They are also suing the bank’s auditors PricewaterhouseCoopers for malpractice and negligence. The bank claims that PwC helped conceal the fraudulent transactions that lead to Glitnir’s collapse. “The Individual Defendants could not have succeeded in their conspiracy to loot Glitnir without the complicity of Glitnir’s outside auditors at PricewaterhouseCoopers hf.”

It’s curious that the action was filed in New York state court. I assume there will be a big battle over jurisdiction. After all, it’s an Icelandic bank, Icelandic defendants, and even claims under Icelandic statutory law.

The bank is claiming jurisdiction in New York because Glitnir sold $1 billion in medium term notes to US investors in September 2007. Plus Johannesson and his wife reside in New York (I don’t think that helps much with the other defendants.) The complaint also points out that many of the contracts involved in the fraud had New York choice of law provisions.

The question will be whether Icelend’s volcanic will prevent the defendants from traveling to New York.

The title of this post comes from Jim Peterson as his update of the 1970s hitchhiker bumper sticker.

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Interact 2010:Governing Social Media

The folks at Mitratech were nice enough to send me to Miami to talk at their annual Interact 2010 conference to talk about social media and compliance. This was the session description:

Governing Social Media: How to Monitor, Manage and Make the Most of Employee Use of Social Media

  • Doug Cornelius, Chief Compliance Officer, Beacon Capital Partners, LLC (that’s me)
  • Kathleen Edmond, Chief Ethics Officer, Best Buy
  • Scott Giordano, Director, Product Marketing, Mitratech
  • Janice Innis-Thompson, SVP & Chief Compliance Officer, TIAA-CREF

Corporate Communication takes on a whole new meaning in a world of social media, where employees can freely post their views and spread documents, photographs and even videos across the globe with a click of a mouse. Companies that are ahead of the curve not only have established policies regarding use of social media sites by their executives and employees, but also are finding ways to use social media to their competitive advantage. Join our panel to hear about the risks and rewards that a well managed approach to social media can bring.

Here is the slide deck from our panel discussion:

Governing Social Media

Interact Conference

I’m in Miami today for Interact 2010. I will try to post my notes from some of the sessions. Here is my agenda for the day:

Innovations in Legal and Compliance Technologies

Afshin Behnia, President & CEO, Mitratech. The session will review the state of the legal and compliance industries and present new trends and technologies.

Collaborative Accountability Strategies For The High-Performance Legal Department

Steven Harmon, Director of Legal Services, Cisco Systems, will present the state of technology within the legal industry and its role in enabling the in-house legal department to provide exemplary service to its clients while building deep, lasting relationships with outside counsel advisors. Mr. Harmon will explore how to balance collaboration requirements for modern teamwork interaction with internal and extraprise groups with the critical need to enforce accountability, traceability, and security of all legal and regulatory work.

Tackling the Complexity of Compliance: How Integrating Compliance Silos Drives Business Performance

  • Robert H. Brewer, Senior Vice President and Chief Compliance Officer, Office Depot
  • Jay G. Martin, Vice President, Chief Compliance Officer, and Senior Deputy General Counsel, Baker Hughes
  • Jason Mefford, VP, Business Process Assurance, Ventura Foods, LLC
  • Carole Stern Switzer, President, Open Compliance & Ethics Group (OCEG)

Global legal and regulatory requirements continue to grow and information needs are expanding right along with them. How do we manage the depth and breadth of compliance while ensuring that we know all the risks and have the right controls in place?  Today’s forward thinking companies are gaining the control they need, enhancing transparency and enabling compliance efforts to serve the company’s objectives rather than impede them. In this session you will learn tips and techniques for taking compliance from the “Department of No” to the “Department of Know.”

Governing Social Media: How to Monitor, Manage and Make the Most of Employee Use of Social Media

  • Doug Cornelius, Chief Compliance Officer, Beacon Capital Partners, LLC (that’s me)
  • Kathleen Edmond, Chief Ethics Officer, Best Buy
  • Scott Giordano, Director, Product Marketing, Mitratech
  • Janice Innis-Thompson, SVP & Chief Compliance Officer, TIAA-CREF

Corporate Communication takes on a whole new meaning in a world of social media, where employees can freely post their views and spread documents, photographs and even videos across the globe with a click of a mouse. Companies that are ahead of the curve not only have established policies regarding use of social media sites by their executives and employees, but also are finding ways to use social media to their competitive advantage. Join our panel to hear about the risks and rewards that a well managed approach to social media can bring.

Legal Hold Management – 7 Steps to Success

  • David Cambria, Director of Operations, Law Department, Aon Corporation
  • Amanda Heldt, Senior Manager, Implementation Consulting, Kiersted Systems
  • John Jablonski, Partner, Goldberg Segalla
  • Karen Jones, Office Manager, CenterPoint Energy, Inc.

This panel session explores trends and current best practices to develop and implement a defensible and controlled strategy for legal hold management from both the corporate legal and law firm perspectives.

Implementing an Effective FCPA Program

  • Brady K. Long, Vice President, General Counsel & Secretary, Pride International, Inc.
  • Ryan Morgan, FCPA Specialist, WorldCompliance
  • Marcia Narine, Vice President and Deputy General Counsel, Vice President, Global Compliance and Business Standards and Chief Privacy Officer,  Ryder System, Inc.
  • Kevin J. Rooney, Senior Compliance Officer and Associate General Counsel, Cerberus Capital Management, L.P.

In recent years the United States has greatly increased efforts to investigate and prosecute FCPA violations, a trend which will likely not change in 2010.  As a result, companies must continue to identify high-risk relationships with agents, vendors, and partners as well as focus on the detection, mitigation and prevention of unethical activity. How will recent FCPA violations impact compliance programs? How do companies know if they have implemented effective anti-corruption programs?  How will due diligence programs be augmented to include FCPA compliance?

During this session we will review recent FCPA violations and discuss developments in FCPA enforcement. The panelists will give their perspectives on recent developments as well as discuss their experiences and challenges in developing and implementing effective global anti-corruption programs.

Cultural Impact on Global Security, Privacy and Compliance Strategies

Scott Giordano, Director of Product Marketing, Mitratech. As companies seek to comprehend and comply with the global proliferation of complex security, privacy and compliance regimes, too often they focus exclusively on specific regulations, standards, laws, and local or industry initiatives. Lost or forgotten are the cultural and business issues that can make or break a program: How do differences in the cultural values of other nations affect program success? How does communication flow throughout the enterprise? How do business requirements drive policy? What education, training and awareness programs work, and how can the company’s strategies leverage those strengths? This panel, led by Scott Giordano of Mitratech, will explore the cultural and business drivers that affect the impact of global security, privacy and compliance program strategies.

Weekend Book Review: Money for Nothing

The subtitle of Money for Nothing lets you know what’s coming: How the Failure of Corporate Boards Is Ruining American Business and Costing Us Trillions. If you’ve had your pitchfork and torch at the ready for a march on corporate malfeasance, then this is the book for you.

John Gillespie and David Zweig spend the first half of the book bashing on the easy targets: Countrywide, Lehman Brothers, Tyco, Fannie Mae, GM, Chesapeake, and AIG.

The role of the board of directors

The board of directors of a corporation is supposed to oversee senior management, approve key strategic decisions and nominate directors for appointment by shareholders. That part is the legal framework.

Strong governance would have the board members contribute their business knowledge and long-term vision for the company to help guide the executives in running the business operations. They should be a check on executive power and act as a watchdog for long-term shareholder value.

For some companies, the board is merely a tool to lend legitimacy to the fiction that shareholders’ interests are being taken into consideration.

Testing board governance

How do you measure or identify poor corporate boards? One measuring stick is executive compensation. It does make sense that an over-compensated CEOs should be an indication that the board is not willing to stand up to the CEO. That may also lead you to conclude they are not paying attention to succession, ethics or risk management. The authors don’t reference any studies or empirical evidence that their conclusion is correction.

Board failure

Clearly shareholders should want a board of directors that contribute to the leadership of the corporation. They should not want simple rubber stamps for approving the decisions made by the CEOs.

A director who speaks out risks being ignored or being thrown off the board in the next election cycle. After all, shareholders have little or no input on who gets nominated to be a director.

Chesapeake

One example in the book is Chesapeake Energy Corp. They cite the work of Michelle Leder of Footnoted in digging through the company’s filings to discover excessive executive compensation and naming the worst footnote of 2009. In addition to his excessive salary as the company was under-performing, the company purchased CEO Aubrey McClendon’s antique map collection for $12.1 million (that was $8 million over its valuation).

Separating CEO and Chairman

Is it the structure of the board? One change that makes a lot of sense is splitting the Chairman and CEO positions. The authors cited a study by Lucian Bebchuk and Jesse Friedin in Pay without Performance. Bebchuk and Friedin found that CEO pay is 20% to 40% higher if the CEO is also Chairman of the Board.

Let the CEO run the company with the board of directors as the CEO’s boss. Let the chairman run the board of directors. They are different tasks with different needs.

How does excessive CEO compensation happen?

Zweig and Gillespie mention one reason when they discuss a conversation they have with Dennis Kozlowski, the imprisoned former CEO of Tyco.  Kozlowski said he thought his compensation was justified in relation to what hedge fund managers were getting for creating considerably less value.

The second reason is one I like to call the Lake Wobegon Effect. It’s hard for a board to say that a CEO is below average without firing him. If you set the pay and compensation to be below average, then you are making a negative statement. As a result most CEO pay gets set at the average or above average. That has the effect of moving the average upward when next year’s round of compensation consultants look at average salaries.

An Economic Policy Institute study showed that CEO compensation has risen to become about 10% of all corporate profits. That’s nearly double the level it was in the min-1990s. (See The State of Working America)

How much does the board affect performance?

It’s easy to attack the failures of Lehman, Bear Stearns and Merrill Lynch. If you are going to blame some of the failure on their boards, shouldn’t there be some credit given to the boards of Goldman Sachs and Morgan Stanley?  Goldman and Morgan survived and the others didn’t. Perhaps the causation is not as strong at the authors think.

The authors criticize the board of Exxon-Mobil.  I agree with the criticism. On the other hand, the company has experience remarkable success as one of the world’s biggest companies.

(I do own stock in Exxon and Goldman.)

The gatekeepers

The authors don’t just stop at the board.  They have plenty of harsh words for the auditors, lawyers, compensation consultants and other professionals hired by boards.  These gatekeepers have a “vested interest in preventing the boat from rocking.”

They have a rant worthy of Francine McKenna on auditors:

“Accountants and auditors in America seem to have spent the last century dodging five major terrors: regulation, financial liability, legal liability, the imposition of uniform accounting practices, and offending current and future corporate customers by making audit rules and processes more rigorous and accurate.”

What to do?

For retail investors I think the answer is very easy. Sell the stock and buy stock in a different company. Its a bigger issue for institutional investors. Their ownership interest may be so large that selling their position would bring down the share price even further resulting in an even bigger loss.

After 200+ pages of pointing out board failures the authors turn to a chapter full of solutions and ways to fix boards. If you are a student of corporate governance you’re not going to find anything particularly new or innovative in the author’s proposed solutions.

The real question is how to get them implemented. As the authors tell throughout the book, it’s not in the short-term interests of the board or senior executives to implement these changes. It will be up to the exchanges, regulators and big investors.

Thanks

I want to thank the book publisher for providing a review copy of the book and Jerod Morris of Corporate Compliance Insights for directing it my way.

Compliance Bits and Pieces for May 14

Here are some interesting articles from the past week:

When Investors Say Bad Things on Pay by Matt Kelly in Compliance Week‘s The Big Picture

Shareholders had their say on pay at two U.S. corporations last week—and for the first time ever in this country, the answer was “no.” Motorola held its annual meeting on May 3, where only 45 percent of shareholders cast votes in favor of its executive compensation plan; 44 percent voted against it, and 10 percent abstained. Occidental Petroleum then held its meeting last Friday. The company won’t disclosed precise results until later this week, but confirmed in a press release that its shareholders also gave management’s compensation plans the thumbs-down.

Creating a Dynamic Investment Management Regulatory Scheme by Andrew J. Donohue, Director of the Division of Investment Management at the Securities and Exchange Commission in Harvard Law School Forum on Corporate Governance and Financial Regulation

This year, not only is Congress considering comprehensive legislation that could impact even the most fundamental aspects of how our financial markets are governed, but we also saw last week the Supreme Court deliver a landmark decision concerning the regulation of investment companies. You just don’t see that every day (I guess thankfully, although in this case, it was gratifying to see the Court affirm a long-held approach regarding fund Boards’ review of advisory fees).

What Business is Wall Street In? by Mark Cuban in Business Insider

The best analogy for traders? They are hackers. Just as hackers search for and exploit operating system and application shortcomings, traders do the same thing. A hacker wants to jump in front of your shopping cart and grab your credit card and then sell it. A high frequency trader wants to jump in front of your trade and then sell that stock to you. A hacker will tell you that they are serving a purpose by identifying the weak links in your system. A trader will tell you they deserve the pennies they are making on the trade because they provide liquidity to the market.

The Hard Timers from The FCPA Blog

Compliance officers will want to keep a copy of the table below close at hand. What better way to answer those who insist that the FCPA is small potatoes, after all, when you look at the relatively few enforcement actions over the past 33 years. Each name on this list represents a terrible tragedy, often with permanent damage extending to families. Here are the 22 men (no women so far), most of them former company executives, who’ve spent time in prison for FCPA-related convictions.

A Glimpse Into SEC Enforcement, by Way of Goldman by Bruce Carton in Securities Docket

In a time of ongoing heightened scrutiny for the Securities and Exchange Commission, many current and former leaders of the SEC’s Division of Enforcement met recently for an extraordinary panel discussion at the National Press Club in Washington, D.C. The panel consisted of SEC legend (and former Enforcement Division director and federal judge) Stanley Sporkin; his son, Thomas Sporkin, who now leads the SEC’s new Office of Market Intelligence (OMI); George Curtis, a former Enforcement deputy director; and John Stark, former chief of the SEC’s Office of Internet Enforcement. That legal firepower was arguably matched by the audience, which included current SEC Associate Enforcement Director Scott Friestad, former Enforcement boss Linda Chatman Thomsen, and several dozen other leading SEC practitioners and followers.

Gold To Go

Don’t settle for getting just cash from your ATM. Insist on gold.

The Emirates Palace hotel in Abu Dhabi has installed an ATM that spits out gold instead of the local currency.

The ATM monitors the hourly price of gold and offers small gold bars. In addition to 1 g, 5 g and 10 g bars of gold, the machine also dispenses gold coins bearing designs such as the Krugerrand, Maple Leaf and Kangaroo, which are sold in gift boxes.

The ATM first debuted last year, with press previews and test runs in Germany. The Emirates Palace ATM is the first permanent installation.

The machine only takes cash. No credit cards. If you fear a currency devaluation. First you have to go a conventional ATM, get a big wad of cash and then come back to the Gold-to-Go ATM.

I doubt that I’ll see one of these ATMs on the streets of Boston anytime soon.

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Images are courtesy of Gold to Go

SEC Censure for Failing to Conduct Due Diligence

sec-seal

The SEC censured and fined an investment adviser for due diligence lapses. Yosemite Capital Management, LLC and its managing director, Paul H. Heckler, got a wrist slap for failing to disclose to clients that they had encountered substantial problems when attempting to perform the due diligence.

The big problem is that Yosemite had made a promise to at least two clients prior to placing his clients into the investment. They had promised to conduct due diligence. We saw a similar action by the SEC against the Hennessee Group for their failure to conduct their promised due diligence.

Yosemite ended up putting their clients’ money into a Ponzi scheme. Yosemite placed $3.25 million of four clients’ funds through a feeder fund, Ashton Investments LLC which was supposed to make bridge loans arranged by Norman Hsu and Next Components, Ltd. Heckler’s clients’ funds became part of a Hsu’s $60 million Ponzi scheme.

Yosemite missed some bright red flags:

  • The business cards from Ashton’s representatives that listed their position as “Represenative” [sic].
  • Ashton gave Yosemite a brochure riddled with spelling errors and mostly general, unverified information.
  • In addition to the business cards and the brochure, the only other written information concerning Ashton and Hsu that Yosemite received were emails, without any identifying information, that summarized a few of the loans.
  • Heckler was told that he could not contact Hsu’s lawyers or accountants because Hsu was a  private person.
  • Heckler was told that the bridge loans were safer than stocks or bonds.
  • When Heckler requested a disclaimer in the loan agreement, he was told that it was unnecessary because the investment was not risky.
  • Because Ashton had no offices, Heckler met the Ashton representatives at local restaurants to discuss the investment.

Heckler and Yosemite willfully violated Section 206(2) of the Advisers Act, which prohibits any investment adviser from engaging in any transaction, practice, or course of business, which operates as a fraud or deceit on any client or prospective client, and Heckler caused Yosemite’s violations of Section 206(2) of the Advisers Act.

The “wrist slap” was a disgorgement of the fee earned ($26,000), prejudgment interest and a $50,000 fine. Heckler invested $275,000 of his own money in the scheme and lost $150,000 of it.

Of the $3.25 million of the clients’ money invested, they lost $1.95 million when Hsu’s Ponzi scheme collapsed.

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SEC Attacks the Rating Agencies

The SEC took its first swing at the failure of credit rating agencies by serving a Wells Notice on Moody’s Investor Service.

At issue, according to the Moody’s filing, is the determination in 2007 that members of one of its European rating committees “engaged in conduct contrary to Moody’s Code of Professional Conduct.”  Members of a credit committee knew that some of the products had been given inflated ratings because of a problem in the company’s risk modeling software.

Moody’s is one of only 10 Nationally Recognized Statistical Rating Organizations under the Credit Rating Agency Reform Act of 2006.

The disclosure in Moody’s 10-Q states that the SEC “is considering recommending that the SEC institute administrative and cease-and-desist proceedings against MIS in connection with MIS’s initial June 2007 application on SEC Form NRSRO to register as a nationally recognized statistical rating organization under the Credit Rating Agency Reform Act of 2006.” The theory is that Moody’s description of its procedures and principles were “rendered false and misleading” as of the time the application because of the Company’s finding that a rating committee policy had been violated.

The case reminds me of the Hennessee Group action where the SEC brought an action against a hedge fund for failing to conduct adequate diligence. The reason was that the hedge fund claimed that they had a particular due diligence program, but failed to follow the program. The diligence failure by itself was not actionable, but failing to live up to your self-professed standards made it actionable.

It sounds the SEC is making a similar case against Moody’s. In their application, they claimed to have a certain procedure but failed to follow it. We all know that credit agencies did a poor job of rating CDOs. That by itself caused damages but may not be actionable. So the SEC is going after them for failing to follow their own self-professed standards and policies.

It’s too early to tell what may happen. A worst case scenario would be removing Moody’s status as a NRSRO.  Obviously that would be a nuclear option that would destroy the company. The SEC action sounds like it is related to Moody’s ratings of just one type credit product, so the effects might be minimal.

Will the SEC go after the other rating agencies? or will Moody’s be the sacrificial lamb to warn the others?

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Trust and Compliance

To some extent, compliance programs are about the opposite of trust. A compliance professional wants to check on the status of a person’s actions to make sure rules are not being broken. Theoretically, you wouldn’t need to check on the status if you trusted that the person would not break the rules.

There are two big reasons that you can’t rely on trust and should have a compliance program.

The rules can be complex

Depending on the industry, a company can be subject to hundreds, thousands or even millions of separate rules affecting its internal and external behavior. Some rules are clear and simple to understand. Other rules are very complex and require the organization to interpret how it wants to act in relation to the rule.

I think the vast majority of non-compliance comes from misunderstanding the rules.

An important part of compliance is educating the people in your organization about the rules. They are less likely to inadvertently break a rule if they know the rule exists and what it requires. Also, there are some studies that show intentional non-compliance can be reduced by regular exposure to education about the rules.

There are bad actors

There may be people in your organization who are bad actors. You hope that everyone you’ve hired will act in the best interests of the organization. They were probably trust-worthy when you hired them. But behavior changes.

A role of compliance is to find the bad actors and either change their behavior or get them out of your organization.

Compliance is Pixie Dust

As Peter Pan said: “What’s the matter with you. All it takes is faith and trust. …  And something I forgot, dust. Just a little bit of pixie dust.” A good compliance program is the pixie dust.

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Image is by m-c: Trust

You know you’ve failed as a CCO when you get barred by FINRA

finra

The Financial Industry Regulatory Authority permanently barred Tod Bretton, former chief compliance officer and head trader for Prestige Financial Center, Inc.

“FINRA found that, from at least September 2006 through June 2009, Bretton, working from the firm’s New York office, engaged in a fraudulent trading scheme in which he took advantage of customers placing large orders (generally 1,000 shares or more) to buy or sell stocks. Rather than effecting the trades in the customers’ accounts, FINRA found, Bretton first placed the orders in a firm proprietary account. He would then increase the price per share for securities purchased by approximately $.02 to $.05 above the market price before allocating the shares to the customers’ accounts. Similarly, he would decrease the price per share for securities sold by approximately $.02 to $.05 below the market price before allocating the proceeds to the customers’ accounts. This improper price change was not disclosed to or authorized by the customers.”

In settling this matter, Bretton neither admitted nor denied the charges, but consented to the entry of FINRA’s findings. Regardless of whether he admits the charges, he is barred from associating with any FINRA member in any capacity.

It seems that Mr. Bretton was a bad choice for CCO at his former firm.

I was also disappointed to see that the BrokerCheck did not throw up a bigger red flag for this type of discipline. After all, this is a permanent bar. The BrokerCheck webpage for Tod Bretton just states that there are events disclosed in the Detailed Report. You have to get to the ninth page to find out that he is under a permanent bar.

I understand the difficult issues with disclosing disciplinary actions, since some may be unfounded or of little merit. Bretton got the nuclear discipline, ending his career with securities. Such a definitive and absolute result should be made more obvious.

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