The Greek Conference - Mykonos, September 2005 Papers

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LEGAL ENFORCEMENT OF CORPORATE AND PROFESSIONAL MORALITY

DEAN LETCHER, QC*

“(Holmes was) an isolated phenomenon, a brain without a heart, as deficient in human sympathy as he was pre-eminent in intelligence”.

Dr. Watson in “The Greek Interpreter” by Conan Doyle1 expressing a view commonly held about business corporations and some lawyers.

INTRODUCTION:

A society may not be able to legislate morality but any just society will try to have laws encouraging equity and discouraging inequity. The role of legal sanctions in promoting the one and punishing the other is examined in the context of the corporate and professional life of 21st century Australia with recent examples. Some sanctions are contained in legislation while others arise from a new emphasis given by the Judges. Usually moral pressure is assumed to emanate from the public and that will put pressure on public figures. Legal sanctions represent “top down” pressure towards a just society.

Two examples of legal sanctions having an effect on business morality:

1) Bankrupt barristers operated at the highest levels of Australian law without any difficulty. Sir Garfield Barwick as a barrister went bankrupt in the 1930s and later became Chief Justice of the High Court without a murmur.

However, when it became known within the past few years that barristers were failing to file tax returns for 20 years, and going serially bankrupt 2 or 3 times yet were still free to make millions of tax free dollars in their profession, the Bar Council acted. It was legal but morally repugnant. The New South Wales Legal Profession Act was later amended2.

It is now commonly accepted that compliance with tax obligations is a professional responsibility.

2) A publicly listed company, James Hardie Industries Limited made millions from selling asbestos materials while it knew there was a risk to health for the users of the goods. It paid judgments in successful cases. The James Hardie Group decided to restructure and move offshore to the United States supposedly to save withholding tax, but this also had the effect of cutting off funds for claims of future asbestos victims. In proceedings before the New South Wales Supreme Court to approve the scheme, a judge was informed by counsel for the company that sufficient provision had been made for a trust fund sufficient to pay all likely future claims.

That assertion was later shown to be quite false. Actuaries were asked the wrong question and the nature of the answer was wilfully misinterpreted. The provision was about one quarter of what may be an adequate figure.

The State Government in New South Wales set up an enquiry, proposed legislation to lift the corporate veil and trace the funds not because of the original sin, but because of the corporate shuffle. More pointedly, the Chief Executive Officer and Chief Financial Officer were recommended for criminal prosecutions. Is an outcome that is a mere populist witch-hunt or an expression of public morality?

One thing is certain. Once it is proved that a judge has been misled by untruths or misstatements from professionals, the public gives the professionals a hard time. James Hardie Group lost all the public and political support it had attracted before its manoeuvre was revealed. There are a number of truisms that are not so true these days:

1. MORALITY CANNOT BE ENFORCED BY LAW.

ANSWER

1) The enforcement of a law changes the public’s perception of the behaviour from morally neutral to immoral, disapproved or reprehensible. Because it is punished, people will think it is punishable e.g. drink driving, collecting child porn off the net.

2) Ninety percent of the community is law abiding and it will abide by the law if it is enforced even if they perceive the law as unnecessary or silly, e.g., 50 k.p.h. traffic zones, quarterly Business Activity Statements for the tax office.

If it is not enforced then a law will be seen increasingly as obsolete and not to be observed, e.g., until recently harbourside jetties and drivers using mobile phones

3) If there is a carrot as well as a stick, the community will make a virtue out of a necessity.

If there is a benefit shown from compliance as well as a detriment from not complying, the public may conceive it as a good and virtuous thing to do, e.g. smoke free zones, car seat belts, "insider" trading in listed securities.

2. PROFIT RULES ALL.

ANSWER

1) The Jeremy Bentham principle that man exists to maximize pleasure and minimize pain and will act logically towards that goal means that profit will be maximized only to the extent that the profit taker does not suffer adverse consequences at the same time. However, some studies of human decision making tend to undermine the theory that people act logically in making economic decisions.

People are keener to avoid a loss than they are to make an equivalent gain. This explains why money share traders keep their bad shares rather than crystallize the loss. This applies to companies just as much as individuals.

2) “He took my cheese.” A whole book3 was written about nursing a hurt rather than moving on and mitigating the loss. Just as true for corporations.

3) Very often the impulse is to minimize loss rather than maximize gain. A lot more money is laid each way on the favourite rather than straight out on the outsider.

4) If the probable gain is very small but the possible loss likely to be occasioned is very large, then profit will not be seen as the most important factor.

3. THE ENFORCEMENT/PUNISHMENT MATRIX.

By this I mean that a high likelihood of being caught but a minor punishment resulting may be just as discouraging to a potential wrongdoer as a low likelihood of being caught but then a severe punishment being inflicted. This sort of matrix is used in policing around the world so that in some south east Asian and Middle Eastern countries the likelihood of being caught is very small but the punishments are very severe, whereas in western European countries the likelihood of being caught is high but the punishments are much less onerous. On a 2x2 matrix low risk high penalty may be equivalent to high risk low penalty objectively and possibly also subjectively

ANSWER

1) In practice we define our own significance of particular punishments and the awareness of the consequences tends to vary with individuals. The “Bali Nine” drug mules were objectively aware of capital punishment if they were caught for drug smuggling yet were prepared to risk it for a tangible free holiday and a payment of about $10,000.00.

Most business executives involved in trade practices’ breaches cared little about public revelation of wrongdoing or the potential of jail if that potential did not appear to be great. However, in recent times we have seen both the likelihood of being caught (risk) and the likelihood of severe punishment (penalty) both rising dramatically in this area. This is so In Australia and the United States of America.

4. “WHERE THERE IS MUCK, THERE IS BRASS”.

ANSWER

This old English saying used to mean that if you got down and got your hands dirty then money could be made. More recently, this has meant that wrongdoing was profitable, e.g. illegal discharges to the environment, "insider" trading in listed securities. The days when dirty dealing was profitable appear to be coming to an end. I wrote this before the Steve Vizard4 case came to light but I would still maintain it is correct. Vizard, while a director of Telstra Corporation Limited, set up an investment company, which dealt in securities based on his knowledge of intended Telstra deals.

This time the Australian Securities & Investments Commission ("ASIC") acted, but only to seek a civil penalty rather than a criminal prosecution (a decision which was highly criticised in political and business circles as well as in the media and wider community).

It was true in the days when white collar crime was barely enforceable and modestly punished but the mood has changed and a lot of companies are now seeing practical profit in being good moral citizens. This is partly because major purchasers of their shares are superannuation or other funds whose fund managers are amenable to pressure from activist groups.

The high point in freedom from liability of companies for their subsidiaries and freedom for directors from liability for the company’s acts has been reached and in fact overtaken. Doctors have always had direct liability but now company directors are increasingly held to account directly for the misdeeds of their companies. They are gradually sliding into jeopardy and becoming dangerously close to strict liability for the company’s debts.

There is still a great reluctance by Courts to lift the corporate veil but this is changing. Class actions in the Federal Court of Australia against GIO Australia and its directors, against the directors and lawyers of Australian Mineral Explorations and against HIH directors signal a shift in sentiment.

CONCLUSION:

ENFORCEMENT CHANGES PERCEPTION:

Company directorships were once largely risk free sinecures but recently ASIC has taken:

Returning to the James Hardie Group, views have been expressed that Meredith Hellicar (Chairman of James Hardie Industries Limited) could be sued to the limit of her assets for her role in the off-shoring and that criminal prosecutions could be taken against the ex-managing director, Mr. McDonald. In Australia these are still threats in the future but the American experience is altering the perception of how close these possibilities may be to reality.

Governments are intervening on a moral basis in the James Hardie saga. The New South Wales government has taken a leading role enforcing a revision of the trust fund while the Federal Treasurer was highly critical of the company in public and in private discussed particular mechanisms which could be used to disadvantage the company.

“ECONOMIC” HUMAN RIGHTS:

As well as formal human rights, economic justice is a value in society so that shareholders do not see their savings wiped out and small traders are not coerced into unfair agreements or bullied out of competition by large corporations. Not so long ago directorships were valued because of the insider trading opportunities given and the “in club” information about risky companies exchanged in confidence.

Today, there is a determined effort to change this situation. The duty of “continuous disclosure” of financial prospects to the market means telling the Australian Stock Exchange ("ASX") of any unexpected downturns – e.g., Multiplex, Telstra. It is now being considered a breach of law to fail to keep the ASX informed.

Section 674 of the Corporations Law5 requires continuous disclosure of information that could have a material effect on the price of listed shares or debentures. Under section 1311(1) failure to do so is a criminal offence and under section1317E such failure can also attract a civil penalty.

Now, such provisions are seen as being important and morally significant. This affects the Authority which enforces the law as well. The adverse public response to the way in which the Steve Vizard matter was handled means that the Australian Federal DPP is highly unlikely to make another Steve Vizard decision to accept a civil penalty instead of taking a criminal prosecution.

SUMMATION:

Legal enforcement alters public perception. Business and professional life were once seen as divorced from usual rules of personal morality. This seems to be undergoing a shift with an increasing emphasis on taking into account wider public interests whether economic, environmental or social. The impact on public life is an element of growing importance in law enforcement.

The cynical 19th Century saying still has an element of truth but (to up-date to the words of Bob Dylan), the times they are a changing:

The law doth punish man or woman
that steals the goose from off the common
but lets the greater felon loose
who steals the common from the goose.

Footnotes

*DEAN LETCHER, QC, Barrister-at-Law, New South Wales, Australia.

1 The Memoirs of Sherlock Holmes - The Adventure of the Greek Interpreter. Sir Arthur Conan- Doyle, published in "The Strand", London 1892-3 Series.

2 New South Wales, Legal Practice Act, 2004 No 112, with particular reference to Division 7 of Part 2.4.

3 Who Moved My Cheese. Dr Spencer Johnson. Spencer Johnson Publications, New York, 1998.

4 Australian Securities and Investments Commission v Vizard - Federal Court of Australia - Finkelstein J - 28 Jul 2005 [2005] FCA 1037.

5 Corporations Act (2001), Commonwealth of Australia.

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Copyright 2005. Greek Legal and Medical Conference