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Professor Douglas Branson
University of Pittsburgh School of Law
JURIST Guest Columnist

October has brought a Florida Marlins victory in the World Series and the first two of what may be a series of high profile white collar criminal prosecutions in New York.

News coverage of those two trials has focused on trial tactics and strategies, both of prosecution and defense. The overarching question each day has been "who will win?" Will the prosecution prevail? Or will either Frank Quattrone, or Dennis Kozlowski (the two high profile defendants), or both, dodge the prosecutor's bullet?

But, what about the larger questions, beyond findings of guilt or innocence? Are these defendants blameworthy in a moral sense? Or have they merely been caught up in violation of technical regulations? If they are blameworthy in a moral sense, whose is the greatest transgression, the most grievous sin? Who has the blackest heart? Quattrone or Kozlowski?

In federal district court in Manhattan, the U.S. Attorney has prosecuted a high profile investment banker, Frank Quattrone, of Credit Suisse First Boston (CSFB). Quattrone, who specialized in high tech companies and their stock offerings, and made $120 million per year in annual compensation (more than double the Marlins' payroll), sent an email to subordinates and co-workers urging them to purge their files. Documents in those files could demonstrate Quattrone's complicity in allocation of hot IPOs to favored clients, thus providing those anointed ones (mostly corporate CEOs) with "sure things" and large, almost instantaneous, stock market profits. In the main, those anointed ones would have been senior executives of companies from whom Quattrone might seek future investment banking business, or to whom he doled out share allocations as favors for business given in the past.

The feds charged Quattrone with obstruction of both regulatory and grand jury inquiries into hot issue IPO allocations. After two weeks' trial, and four days' deliberation, the jury reported itself unable to agree on either conviction or acquittal on obstruction of justice charges. Judge Owen dutifully found the jury hung, declaring a mistrial. The federal prosecutors are now confabbing over whether to re-try Quattrone.

L. Dennis Kozlowski, a man of humble background, and an accountant by training, is the principal defendant in the second matter. Kozlowski rose to become CEO of a New Hampshire based conglomerate, Tyco International. During his journey upward, Kozlowski shed his first wife. He also shed his penurious and thrifty ways. Once he had risen to the CEO suite, Kozlowski underwent a transformation, spending millions of corporate dollars on re-locations for himself, his former mistress (a Tyco employee), and his CFO (co-defendant Mark Swartz), first to New York from New Hampshire, and then to Boca Raton, Florida. He caused Tyco to pay to the same three individuals $38.5 million in 1999 bonuses alone.

Currently, the jury in New York state court is hearing about a birthday party Kozlowski hosted for his new wife's 40th birthday. The week long party, in Sardinia, featured music (live) by Jimmy Buffett, rides on Kozlowski's yacht, and risque ice sculptures. Needless to say, Tyco bore the lion's share of the $2 million cost.

Kozlowski caused Tyco to purchase $57,000 in gift certificates from a Boca Raton restaurant his wife owned. He paid for his daughter's apartment and school expenses in Spain out of Tyco executive loan funds. Overall, prosecutors are accusing Kozlowski and Swartz of looting Tyco to the tune of $600 million.

Kozlowski first came to the attention of New York authorities when he purchased expensive art works for his New York home. To avoid the 8.65 percent New York sales tax, Kozlowski purchased the art using a New Hampshire address. Boxes were addressed and then sent to Tyco and Kozlowski addresses in New Hampshire (which has no sales tax). The boxes, however, were empty. The art itself traveled by foot, or by taxi, a few blocks to Kozlowski's Manhattan cooperative apartment.

Throughout these two judicial proceedings the media have provided daily blow-by-blow coverage. We have had the financial equivalent of Judge Ito and the O.J. trial. Pundits discuss the tactical moves of either side. Commentators divine the grand strategy, often suggesting the alternative strategy they would pursue had they prosecuted or defended.

Whether or not Frank Quattrone should, or should not, have taken the witness stand in his own defense was a much vexed question. In his direct testimony, Quattrone told how his department at CSFB had nothing to do with hot issue IPO allocation. On cross examination, the U.S. attorney was able to make Quattrone out as a liar. Through a string of emails on behalf of no less than Michael Dell, CEO of Dell Computers, Quattrone tried to get Dell and entities affiliated with Dell 250,000 shares of Corvis, a hot issue underwritten by CSFB. For the most part, Quattrone succeeded. Dell took down 150,000 shares on which he made hefty profits.

Backbenchers at the Quattrone trial also speculated on whether the defense itself should have first introduced the string of David Dell emails, thus permitting Quattrone to explain them away, or at least take some of the incriminating bite out of them.

Kozlowski's defense seems to be that a somnambulant Tyco board of directors approved everything he did, thus immunizing him from any criminal charges.

The media are caught up, as they are with any court trial they report, on tactics, strategy, defense, and who will win. Will Kozlowski wind up in Sing Sing? Will Quattrone do time in one of those minimum security federal prisons that have only nine hole golf courses? Stay tuned.

What no one seems to care about, let alone discuss, is the moral blameworthiness of either man. In our winner's culture, we seem to think court vindication equivalent to moral vindication. "Winning isn't everything; it's the only thing," to paraphrase Vince Lombardi.

Who has the blackest heart of these two men? To borrow from my Catholic upbringing, and my Baltimore Catechism days, is each guilty of mortal sin? Venial sin? Is one a mortal and the other only a venial sinner? Or is one, the other, or both without moral fault?

I find hot issue IPO allocation practices to be reprehensible. Meg Whitman, the CEO of E-Bay, received over 85 hot issue allocations on which she profited, yet she did not even know it. She needs those marginal dollars like a hole in the head. She earns nearly one million per year in direct cash compensation. She has made hundreds of millions through exercise of stock options and sales of Ebay shares.

Through IPO allocations, the rich get richer. The average investor is crowded out, denied any realistic possibility of participating in popular IPOs. The notion of "shirt sleeve" and "participatory" capitalism, long held up as a moral foundation which legitimates our brand of capitalism, has become more and more of a charade. Offerings denominated as "public" are not public. They are the province of the anointed. The label public on them is an actionable misrepresentation under our securities laws.

The hot issue IPO allocation, or "spinning," scandal is only one in a series of scandals that seem to indicate that Wall Street, and much of the rest of our financial services industry, is rotten to the core. We have witnessed allegedly unbiased securities "research" prepared by analysts who earn millions of dollars recommending with "buys" and "strong buys" securities which in private they label as "junk" or worthless. They prostitute themselves so that their firm's investment bankers can garner more and more underwriting business from the companies whose shares the analysts tout. One analyst, who made over $30 million per year, fudged his recommendation on a widely held stock in order to obtain a favorable outcome on the application he had pending for his four year old sons to a fashionable day care center in Manhattan.

Most recently, we have seen late day trading permitted by mutual fund complexes. Late day traders profit from rising markets without having to undergo commensurate risks. They are permitted to buy at 4:00 PM prices even though activity in foreign markets signals them that they will be locking in a sure thing. The Massachusetts authorities have sought indictment of Putnam Investment, a Boston based mutual fund company. It is estimated that over 40 of the 80 largest mutual fund sponsoring companies have permitted hedge funds and other wealthy (but not rank-and-file) mutual fund investors to engage in late day trading.

In the CEO suites and boardrooms of U.S. corporations, in the last several years we have often seen that the "fish rots at the head," if not to the core. Enron, WorldCom, Adephia Communications, Rite Aid, and Tyco, to name a few, form an "A to Z Role of Dishonor" for U.S. corporations. The last three involve venality of the worst sort, with senior executives looting the companies they manage in order to line their own pockets. In all of these corporate governance fiasco's, we have seen "directors who do not direct," who let themselves be lead blindfolded by the CEO "corporate savior"and by other senior managers intent on personal gain (Andrew Fastow at Enron), all at the corporation's and its shareholders' expense. Directors have ignored, or even signed off on, some of the most incredible rip offs of all time.

So who does have the blackest heart? Quattrone took something to which the public, but not any identifiable member thereof, was entitled, bestowing that thing (an inchoate right of participation in IPOs) upon the most privileged and powerful class in our society, namely, the corporate CEO class. The public is entitled to participate in a "public" offering of securities but the public has no identifiable property right in the shares to be offered.

By contrast, Kozlowski took from what others, namely Tyco shareholders, already own, but have no entitlement to use, for his own enrichment. He wrongfully converted to his own use the property of others, namely, that of the corporation and, indirectly, of its shareholders. In some cases he came into control of the property rightfully but then converted it to his own use. In other cases, he simply "smashed and grabbed," taking what he had no right to take. One who does those things is a thief.

Denying the public its potential right to participate in an IPO, as Quattrone and his confederates are alleged to have done, is not thievery. I do not know what it may be, although I am certain that the feds would have been able to make out another crime had they charged Quattrone with what he actually did wrong, rather than relying on adjective charges such as obstruction of justice. Underestimating juries, the feds thought that the factual issues involved in the underlying wrongdoing too difficult for a jury to understand.

Who has the blackest heart? I think Dennis Kozlowski does. But, on Wall Street and in some CEO suites these days, I think that we have the physically impossible, shades of black. In my opinion, Quattrone has a black heart, too, but of a lighter shade.

Douglas Branson holds the W. Edward Sell Chair in Business Law at the University of Pittsburgh and is the author of Corporate Governance (Lexis Law. Pub. 1993).

November 3, 2003


JURIST Guest Columnist Douglas Branson holds the W. Edward Sell Chair in Business Law at the University of Pittsburgh School of Law, where he teaches Corporations and Corporate Governance. Considered one of the top corporate law experts in the country, he is a prolific writer whose work has been described as the best "traditional" corporate scholarship currently being done. The most recent book on his impressive bibliography is the widely and favorably reviewed 1993 treatise, Corporate Governance.

Professor Branson's reputation as one of the country's most productive and thoughtful business law scholars has earned him an especially influential role in framing the highly prestigious American Law Institute's recommendations for corporate governance. In addition, he is considered the world's leading expert on the corporate law aspects of Alaska native corporations.

Professor Branson is a graduate of the University of Notre Dame, Northwestern University School of Law and the University of Virginia School of Law.