JURIST Guest Columnist Michael Macchiarola, an adjunct professor at CUNY Law School and Seton Hall University School of Law, says that the Securities and Exchange Commission's recent complaint against Countrywide Financial offers several lessons for those who would repair our ailing financial services industry…

The recent SEC complaint alleging that three former Countrywide Financial executives engaged in securities fraud makes for some very important reading for our nation’s lawyers and law students. Aside from an insider trading claim aimed at Angelo Mozilo, the founder and former chief executive of Countrywide, the crux of the SEC’s civil charges concern the actions of Mozilo and two of his lieutenants, David Sambol and Eric Sieracki. Whether or not the allegations are proven true, the environment described in the complaint will be eerily familiar to too many swept up in the last decade’s euphoric rise of the financial industry. We can only improve our nation and repair the soul of financial services if we learn certain lessons that the complaint can teach. Here are five lessons to be gleaned immediately:

Don’t change your stripes

SEC Enforcement Director Robert Khuzami described the charges as “a tale of two companies.” While on the one hand the executives had grown increasingly worried about the risks that Countrywide was assuming in its aggressive pursuit of market share, on the other they continued to describe an environment of tight controls and responsible risk management to investors. In life, it is rarely a good idea to have a different story depending on your audience. More specifically, it is difficult to do right by your shareholders and abide by the disclosure requirements at the foundation of the federal securities laws if you do.

Don’t copy last year’s disclosure

The complaint alleges that the composition of Countrywide’s mortgage portfolio changed significantly as the company offered riskier products and increased the “exceptions” to its credit guidelines. At the same time, many of the descriptions of the Company’s products and controls remained remarkably unchanged from those offered in last year’s public disclosures. While most professionals are guilty of starting from a precedent document, it is generally a good idea to deviate from precedent as things change — especially when those changes are material.

It’s difficult to stand in the way of a money train

Bernie Madoff aside, very few businesspeople start out with malice in their heart. The siren song of money and continually increasing profits can be tough to resist, however. Here in-house counsel and regulators can play a meaningful role — perhaps ratcheting up oversight as a company gets more and more enamored with its own success. In hindsight, we know that each failed to assert a strong enough role as a healthy skeptic. Going forward, it is clear that we need aggressive, no-nonsense in-house counsel as well as financial regulators who are willing to ask tough questions.

Don’t let others define your business decisions

One of the complaint’s most damning allegations is its description of Countrywide’s “supermarket” business model which made available any product offered by at least one competitor (including subprime) and which expanded the risk guidelines to match other lenders. To even the untrained eye, this model amounts to little more than a cobbled together collection of the riskiest standards for each product in the mortgage universe. Not surprisingly, it didn’t end well for Countrywide. All too often in business, companies “outsource” their own decision making function to their competitors. Whether in hiring, pricing or risk management, it is generally a better idea to do your own homework.

Very often, there are no rewards for laudable behavior

Perhaps the most interesting part of the complaint is the description of the behavior of a Countrywide employee that the SEC inadvertently fails to properly introduce. Simply referred to as "McMurray" throughout, these passages most likely refer to former Senior Managing Director and Chief Risk Officer at Countrywide, John McMurray. Throughout the complaint, the SEC describes Mr. McMurray as the voice of reason within the organization – constantly warning colleagues of the risks of the portfolio and, more importantly, of their obligations to accurately disclose those risks. Ultimately, Mr. McMurray took the extraordinary step of qualifying his certification to the company’s Sarbanes-Oxley officer. Perhaps it is telling that the most upstanding actor to be found in the bunch doesn’t even warrant a proper introduction. Oh well, I guess President Truman was right: “If you want a friend . . . get a dog.”

Michael C. Macchiarola is an adjunct professor at CUNY Law School and Seton Hall University School of Law
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