Cox's SEC Hindered Probes, Slowed Cases, Shrank Fines, GAO Says

By Jesse Westbrook and David Scheer
Bloomberg News
May 5, 2009


May 6 (Bloomberg) -- The U.S. Securities and Exchange Commission was plagued by internal conflicts before the regulator drew fire for missing Bernard Madoff's $65 billion Ponzi scheme, a U.S. government watchdog said.

Under former SEC Chairman Christopher Cox, the agency instituted policies that slowed cases and led enforcement-unit lawyers to conclude commissioners opposed fining companies, the Government Accountability Office said in a report today. An unidentified attorney said it was "widely felt" commissioners prevented the division from "doing its job," according to the report.

"Some investigative attorneys came to see the commission as less of an ally in bringing enforcement actions and more of a barrier," the GAO said. Cox's policies "contributed to an adversarial relationship between enforcement and the commission."

The SEC failed to detect Madoff's fraud, which dated to at least the 1980s. Mary Schapiro, who succeeded Cox in January, has tried to restore the SEC's clout by replacing senior staff and reversing decisions made by her predecessor.

"The report will help draw the curtain down on an era and investors are better off for it," said James Cox, a law professor at Duke University in Durham, North Carolina, who isn't related to the former SEC chairman. "Enforcement's presentations to the commission had gotten brutal and a lot of pushback was occurring."

Clash Over Fines

When Cox became chairman in August 2005, he stepped into a partisan dispute among SEC commissioners over whether it was appropriate to sanction public companies for violating securities laws. Democratic commissioners argued that fines helped deter misconduct. Republicans countered that shareholders ultimately paid SEC penalties.

The SEC issued guidelines in January 2006, stipulating that the agency would consider how much an alleged fraud benefited the company and the impact on shareholders before imposing a fine.

Cox, now 56, set up a procedure in 2007 that required enforcement attorneys to seek approval from commissioners before negotiating corporate penalties. Previously, SEC investigators could enter into settlement talks without obtaining permission.

"The pilot program was designed to test ways to speed up cases and improve oversight, and was tried in only nine of more than 1,000 cases that were all approved by the commission," Cox wrote yesterday in an e-mailed statement. "The GAO analysis supports the chairman's decision to end the pilot and pursue other approaches."

Poor Management

At the time of its review, the GAO said eight cases had been settled in accordance with the policy. A former SEC commissioner who wasn't identified told the government watchdog that poor management caused enforcement's failings, not policies implemented under Cox.

The enforcement division's management and attorneys agreed that the policies led to "fewer and smaller" corporate fines, reduced incentives for corporations to cooperate with SEC investigations and generated a backlog of cases, the GAO said.

In fiscal 2008, the agency extracted about $1 billion of fines and illegal profits from companies and individuals after garnering $1.6 billion in 2007. Penalties exceeded $3 billion in each of the three years preceding 2007.

Schapiro, 53, in February scrapped the policy that required SEC attorneys to get authorization from commissioners before negotiating fines.

In a letter responding to the GAO's findings, she said it sent the "wrong message to enforcement staff and to the public at a time when the SEC needs to be sending a message that corporate wrongdoing will not be tolerated." Schapiro said she's also examining the 2006 policy on corporate fines.

Barred From Meetings

The GAO report found that case resolutions became less transparent. During Cox's tenure, commissioners increasingly barred enforcement personnel from meetings while considering sanctions or legal action, according to the report. The so- called executive sessions were limited either to investigators on the case or the SEC's enforcement chief, its general counsel and secretary.

In 2008, commissioners called executive sessions on 40 percent of the days they met to vote on enforcement actions, according to the report. That is three times the rate in 2005 when Cox became chairman.

U.S. Senator Jack Reed, a Rhode Island Democrat who requested the GAO report last year, scheduled a hearing tomorrow to examine the SEC's enforcement unit. Witnesses include SEC Enforcement Director Robert Khuzami, who took the division's helm at the end of March.

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