PPaaccee UUnniivveerrssiittyy DDiiggiittaallCCoommmmoonnss@@PPaaccee Pace Law Faculty Publications School of Law 1-1-2006 CCrriimmee,, WWaarr && RRoommaannttiicciissmm:: AArrtthhuurr AAnnddeerrsseenn aanndd tthhee NNaattuurree ooff EEnnttiittyy GGuuiilltt David N. Cassuto Elisabeth Haub School of Law at Pace University Follow this and additional works at: https://digitalcommons.pace.edu/lawfaculty Part of the Business Organizations Law Commons, and the Law and Society Commons RReeccoommmmeennddeedd CCiittaattiioonn David N. Cassuto, Crime, War & Romanticism: Arthur Andersen and the Nature of Entity Guilt, 13 Va. J. Soc. Pol’y & L. 179 (2006), http://digitalcommons.pace.edu/lawfaculty/295/. This Article is brought to you for free and open access by the School of Law at DigitalCommons@Pace. It has been accepted for inclusion in Pace Law Faculty Publications by an authorized administrator of DigitalCommons@Pace. For more information, please contact [email protected]. CRIME, WAR & ROMANTICISM: ARTHUR ANDERSEN AND THE NATURE OF ENTITY GUILT David N. Cassuto * "Our law has not gone so far in accepting that any antisocial attitude is sufficient to justify criminal punishment."' "Did you ever expect a corporation to have a conscience, when it has no soul to be damned, and no body to be ki~ked?"~ In 2002, Arthur Andersen, LLP stood trial for obstruction of justice. The prosecution offered several theories as to who at the firm had committed the crime but no one theory satisfied all twelve jurors. In an attempt to break its deadlock, the jury asked whether it could convict if some jurors thought Person A at Andersen had done it and some thought it was Person B. Following argument, the judge ruled that it could convict. This article argues that the court's response to the jury's query was wrong as a matter of law and policy. The ruling misconstrues the nature of corporate criminal intent and effectively treats a domestic corporate entity as if it were a rogue nation facing trialf or war crimes. Part I offers a brief history of Andersen's rise and fall. Part 11 examines Andersen 's association with Enron and the events that led to Andersen 's indictment and trial. Part 111 analyzes the court's Associate Professor of Law, Pace University School of Law, B.A., Wesleyan University, J.D., University of California - Berkeley, Boalt Hall School of Law, PhD, Indiana University. Thanks go to Bridget Crawford, Don Doernberg & Ben Gershman for their insights and comments. Jessica Astrof, Bill McNamara and Brenna Zortman provided stellar and invaluable research assistance, as did Emily Collins. My beloved, Elizabeth Downes, made this article both possible and better. If this is any good, it is because she is so wonderful. Finally, my son and most appreciative reader, Jesse Yates Cassuto, makes it all worth doing. 1 Sanford Kadish & Stephen Schulhofer, Case of Lady Eldon's French Lace 2 Edward, First Baron Thurlow, Lord Chancellor of England Heinonline -- 13 Va. J. Soc. Pol'y & L. 179 2005-2006 180 Virginia Journal of Social Policy & the Law [Vol. 13: 2 ruling on the jury's question and situates it within the nature of entity guilt. Part IV contextualizes the dispute over collective responsibility within a larger cultural context, including the "War on Crime." The Conclusion and Postscript offer some thoughts on the dangers - both present and future of our national obsession with war. - INTRODUCTION The War on Crime has wrought considerable collateral damage. Arthur Andersen, LLP ("Andersen"), former accounting giant and scandal-rocked auditor of scandal-rocked corporations, hardly qualifies as an innocent victim. A storied member of the "Big ~ive,"A~nd ersen was Enron7sa uditor, providing both auditing, and consulting services to the giant, Texas-based energy company. When Enron collapsed amidst massive accounting fraud, Andersen faced investigation and public excoriation. When it was later revealed that a group of people at Andersen had engaged in a massive shredding operation, and that millions of Enron-related documents had been destroyed, the firm faced criminal charges. This hardly seems like a resume for victimhood. Yet, the firm's 2002 trial for criminal obstruction of justice was marred by serious procedural errors. The jury instructions contained several crucial flaws, only one of which was addressed on appeal.4 It is another major procedural error that forms the focus of this article. Though it did not ultimately affect the verdict, the error nevertheless has The "Big Eight," global accounting firms had compressed to five following a string of mergers. When Andersen imploded, the remaining firms became known as "The Final Four." See John P. Lucci, Enron-The Bankruptcy Heard Around the World and the International Ricochet of Sarbanes-Oxley, 67 ALB.L . REV. 2 1 1,21 4 (2003). 4 While Andersen's conviction was overturned by the Supreme Court in May, 2005, the reversible error differs from the issue treated herein. Arthur Andersen, LLP v. United States, 125 S. Ct. 2129 (2005). According to the instructions, jurors did not have to believe that the guilty agent consciously knew that her corrupt persuasion amounted to an act of wrongdoing. The Court held that this instruction fundamentally misinterpreted the statute. In my view, the Court correctly found that the jury was improperly instructed as to how to interpret the phrase "knowingly in conjunction with "corruptly " persuade" in 18 U.S.C.A. 1512 (2005). Andersen, 125 S. Ct. at 2135-36. However, this article focuses on the related but discrete issue of whether the jury was properly instructed that it did not need to unanimously agree on the identity of the guilty corporate agent. As a practical matter, the Court's decision amounted to little more than a pyrrhic victory for the company, which had long since ceased to operate in any significant capacity. Heinonline -- 13 Va. J. Soc. Pol'y & L. 180 2005-2006 20061 Arthur Andersen and the Nature of Entity Guilt 181 far-reaching implications for future criminal prosecutions of corporations. The error arose in response to the jury's query as to whether it had to unanimously agree upon the identity of the Andersen agent who obstructed justice. The court ruled that it did not. That ruling effectively negated the requirement for jury unanimity that is the right of every federal criminal defendant.' It further revealed a fundamental misapprehension by both the judge and the prosecution regarding the nature of corporate criminal intent. As a result, Andersen found itself facing the possibility of a criminal conviction without a unanimous verdict. Though this prospect was averted by the jury's eventual consensus, the ruling created a disturbing precedent for future corporate prosecutions and for due process in general. This article argues that the court's response to the jury's question was wrong as a matter of law and policy. It consists of four parts. Part I offers a brief history of Andersen. Part I1 examines the circumstances leading up to the trial and the events of the trial itself. Part I11 focuses on Jury Note # 9, which requested the court's guidance on unanimity. Part IV contextualizes the dispute over they jury's query within a larger discussion of collective responsibility and its role in the "War on Crime." The Conclusion and Postscript offer some thoughts on the dangers-both present and future--of our national obsession with war. See FED. R. CRIMP. . 31 (stating that a jury in a federal criminal case cannot convict unless it unanimously finds that the Government has proved each element of the crime); see Johnson v. Louisiana, 406 U.S. 366, 369 (1972) (Powell, J., concurring) ("[Tlhe Justices of this Court have recognized, virtually without dissent, that unanimity is one of the indispensable features of federal jury trial."); Andres v. United States, 333 U.S. 740, 748 (1948) ("Unanimity in jury verdicts is required where the Sixth and Seventh Amendments apply"). Heinonline -- 13 Va. J. Soc. Pol'y & L. 181 2005-2006 182 Virginia Journal of Social Policy & the Law [Vol. 13:2 The willingness of the prosecution and the court to treat Andersen, the incorporeal legal entity,6 as an entified, malevolent actor and its agents like automata made strategic sense at the time. It also fits within the rhetoric of war, which tends to entify nations and attribute to them a malevolence that can only truly be found within the minds of individuals. This bellicose rhetoric depicts the opponent as not just a defendant but an enemy threatening the motherland. And, when dealing with enemies of state, the niceties of due process often dwindle in importance. Personifying ideas and/or corporate entities in this manner resembles the phenomenon of Associated Will-Rousseau's characterization of the process by which a single entity is abstracted from a group of individuals, usually citizens of a nati~n.~O ne most often encounters Associated Will in times of war and, indeed, much of international criminal law is based on the notion of national identity and collective guilt.8 As discussed below, Associated Will plays an important role in wars between nations and international adjudications but has (or should have) little applicability to internal conflicts. Incorporating it into domestic criminal prosecutions undermines the rights and safeguards that protect society against excesses of state vigilance. Though Andersen was organized as a limited partnership rather than a corporation, prosecutors treated it, for all intents and purposes, as a corporation. This approach is congruent with the United States Code, 1 U.S.C. 5 1 (2000), the Federal Sentencing Guidelines, U.S. SENTENCINGGU IDELINEMS ANUAL5 8Al.l n.1 (1991), and legal precedent; see United States v. AP Trucking Co., 358 U.S. 121, 123 (1958). See also Sterling P.A. Darling, Jr., Note, Mitigating the Impressionability of the Incorporeal Mind: Reassessing Unanimity Following the Obstruction of Justice Case of United States v. Arthur Andersen, L.L.P., 40 AM. CRIM.L . REV. 1625, 1642-3 & n.109 (2003) (noting same). Indeed, Andersen, the legal entity, fits within the broader definition of a corporation as "[A] group or succession of persons established in accordance with legal rules into a legal or juristic person that has legal personality distinct from the natural persons who make it up. . . ." BLACK'SL AWD ICTIONAR3Y65 (8th ed. 2004). See GEORGEP . FLETCHERR,O MANTICAST WAR 36-37 (2002); George P. Fletcher, The Storrs Lectures: Liberals and Romantics at War: The Problem of Collective Guilt, 11 1 YALEL .J. 1499, 1509 (2002). This article owes a tremendous intellectual debt to Professor Fletcher. My attempt in Part IV to describe the theory of collective guilt that emerged from the Andersen trial as the product of a rhetorical strategy derived from a neo-Romantic worldview draws heavily on Fletcher's elegant contrast between the Romantic and Liberal visions of selfhood and their respective relationships to the notion of collective guilt. See MARCELLUDSO NALDA .R. VON REDLICHT,H EL AWO F NATIONS14 (1 937) (The law of nations, is concerned only with States, and not with the individual citizens or subjects thereof and these States are considered to have "rights" and "duties."). Heinonline -- 13 Va. J. Soc. Pol'y & L. 182 2005-2006 20061 Arthur Andersen and the Nature of Entity Guilt I. A BRIEF HISTORY OF ANDERSEN Arthur Andersen founded the firm with partner Clarence DeLany in 1913. DeLany left in 1918 and was replaced by Andersen's brother, Walter, who departed in 1932. During the firm's early years, Arthur Andersen, the individual, emerged as a powerful voice for probity and candor in public accounting. The firm's burgeoning reputation as a company that placed duty to the public above all else derived primarily from the personality and pronouncements of its founder. Stories about Arthur Andersen's uncompromising honesty became legend, told and retold for decades following his death in 1947. One oft- repeated story related how a client had demanded that Andersen alter its audit certification to cover up the client's distortion of his company's earnings. Andersen refused, replying: "There is not enough money in the city of Chicago to induce me to change the report."9 Other stories abounded, each testifying to Andersen's rigid allegiance to the highest business ethics. As the firm emerged as the gold standard for integrity among public auditing companies, its fame (and that of its founder) eclipsed even that of Jake "Greasy Thumb" Guzik, Chicago's other famous accountant, whose notoriety derived primarily from his principal client, A1 capone.'' One of Arthur Andersen's signature innovations was to indoctrinate people into the firm early in their careers. The goal was to turn them into "Androids"-as they later became known-for life. The fm recruited people right out of college and trained them at an Andersen training facility, schooling them in how to live as well as initiating them into the accounting profession. It instructed them on what to wear, where to eat, how to behave, and most importantly, how to conduct public audits in the Andersen way." Arthur Andersen quoted in SUSANE . SQUIRESE, T AL., INSIDE ARTHUR ANDERSEN: SHIFTINGV ALUESU, NEXPECTECDO NSEQUENC3E2 S(2 003). 10 See BARBARLAE YT OFFLERF,I NALA CCOUNTINAG:M BITIONG,R EEDA ND THE FALLO F ARTHURA NDERSE1N4 - 15 (Broadway Books 2003). Andersen's reputation also received a major boost when he and his firm were hired to audit the books of the legendary utilities magnate, Samuel Insull. See DAVIDS KEEL,I CARUSIN THE BOARDROO8M8 (2005). Insull, who had started out as Thomas Edison's amanuensis, rose to become one of the most powerful businessmen in the country. Id. at 81. As it turned out, much of the fuel for his rapid rise lay in sketchy business practices that led to his downfall. Id. at 88. Andersen's brilliant and forthright job of auditing Insull's companies in the aftermath of their collapse solidified his and the firm's reputation for integrity. Id. 1 I See TOFFLERsu, pra note 8, at 25-33. Heinonline -- 13 Va. J. Soc. Pol'y & L. 183 2005-2006 Virginia Journal of Social Policy & the Law [Vol. 13:2 The idea was that companies would hire Arthur Andersen, LLP, not individuals at the firm. It did not matter who actually conducted the audit; every member of the firm performed audits in the same way. The quality of service, like the color of employees' shirts, was uniform throughout the world. In addition, when Androids left the firm, they retained a powerful institutional loyalty that created new relationships throughout the business world.'* For most of the firm's existence, Arthur Andersen, LLP stood proudly atop the auditing world as a paragon of business ethics and rigid adherence to law. The firm was also famous for its strong hierarchy and insular culture that demanded conformity to secure advancement. Over time, however, the firm devolved into a profit-driven, unscrupulous enterprise that privileged client satisfaction and revenue generation over safeguarding the public trust. 1. Business Consulting Comes Into Its Own As Andersen grew into a worldwide partnership and the largest of the public accounting firms, the Android tradition began showing signs l2 For example, "[flrom 1989-2001, eighty-six people left Andersen to work for Enron. Andersen alumni at Enron included . . . its chief accounting officer; . . . Enron's treasurer; and Sherron Smith Watkins, the vice president who unsuccessfully tried to blow the whistle on Enron's aggressive accounting." Matthew J. Barrett, Enron and Andersen-What Went Wrong and Why Similar Audit Failures Could Happen Again, in ENRONC: ORPORATFEI ASCOSA ND THEIR IMPLICATION1S5 5, 160 (Nancy B. Rapoport & Bala G. Dharan eds. Foundation Press 2004) (footnote omitted). This was typical of Andersen's relationships with its clients. The continual exchange of personnel between audit firms and their clients has been partially addressed by the Sarbanes-Oxley Act, which bars audit firms from performing audit services for any public company whose "chief executive officer, controller, chief financial officer, chief accounting officer, or any person serving in an equivalent position for the issuer, was employed by that registered independent public accounting firm and participated in any capacity in the audit of that issuer during the 1-year period preceding the date of the initiation of the audit." 15 U.S.C. 5 78j-l(1) (2002). However, while the Act also requires that the lead auditor on audit engagements rotate every five years (15 U.S.C. 78Cj-I)), it does not (and arguably cannot) address the unconscious bias that auditors likely feel for companies staffed by their alumni. See SKEEL,s upra note 8, at 188 (citing study showing that when a company chooses an auditor, the auditor's judgment is distorted if she considers the company to be her client; auditors were 30% more likely to find that a company's accounting conformed with GAAP if they believed that the company rather than a third party had hired them to do the audit). Heinonline -- 13 Va. J. Soc. Pol'y & L. 184 2005-2006 20061 Arthur Andersen and the Nature of Entity Guilt 185 of strain. A schism emerged in the 1950s between the firm's consulting group, which helped companies organize their financial and accounting systems, and the firm's auditors, who determined whether a company's accounting systems were accurate and trustworthy. The resulting tension was both financial and philosophical. Simply juxtaposing the two groups' respective missions highlights their inevitable conflict. For an audit firm pledged to impartially evaluate the finances of public companies to help those same companies design their financial management systems makes the firm both author and evaluator of its clients' accounting systems. All of the major accounting f m s wrestled with this embedded conflict and it became a potent source of contention with the SEC. By openly and vociferously opposing the efforts of the SEC to rein in consulting services offered by audit firm^,'^ Andersen and its sister firms successfully blocked meaningful reform of the auditorlclient relationship until the passage of the Sarbanes-Oxley Act in 2002.'~ In the view of the Andersen partnership, the chief conflict between audits and consulting lay in the parceling of profits. By the 1970s, the consulting wing of the firm was generating more profits per partner than the audit branch.'* Much haggling ensued as the firm acclimated to a new era where audits no longer formed the firm's profit center.16 Adapting to this new reality required a seismic shift in the firm's self- image and culture. Ultimately, that shift proved too much and, in 1997, Andersen Consulting (later, "Accenture") separated from Andersen in an l3 See SQUIRESE,T . AL, supra note 7, at 1 15-18; TOFFLERsu, pra note 8. l4 See Sarbanes-Oxley Act of 2002, Pub. L. No. 107204, 116 Stat. 745 (codified in scattered sections of 11, 15, 18, 28, 29 U.S.C.A. (West Supp. 2003)). Among other reforms, the Act bars accounting firms from performing consulting and audit work for the same client. The effectiveness of the Act has yet to be hlly assessed, although many commentators feel that it did not do enough to change the systemic problems within the public accounting sphere. For detailed analysis of the both the law and its implications, see Lucci, supra note 1. l5 See TOFFLERs,u pra note 8, at 73. l6 This shift in revenue generation was not solely an Andersen phenomenon; it was occurring industry-wide. SKEELs,u pra note 8, at 166. In 1976, more than 70% of the major accounting firms' revenue came from profits. By 1998, this number had plummeted to 38%. Accounting firms that had achieved prominence by developing an international reputation for their audits . . . started to look like consulting companies that did a little auditing on the side. Heinonline -- 13 Va. J. Soc. Pol'y & L. 185 2005-2006 186 Virginia Journal of Social Policy & the Law [Vol. 13:2 acrimonious split that catapulted the firm from the largest in the Big 5 to the smallest and least profitable.'7 As Andersen scrambled to recreate its in-house business consulting arm, revenue issues became more and more urgent. Cross-selling services and maximizing billables became a mandatory part of every partner's client relations.I8 Partners were rewarded with points, which translated into money, regardless of the risky nature of the client services they sold.I9 Disaster did not tarry long in coming. By the late 1990s, the headlines regularly featured Andersen clients engulfed in major fraud investigations. 2. Andersen Clients Embroiled in Accounting Fraud During the period surrounding the turn of the millennium, Andersen's clients seemed to follow one another into high-profile collapse. Some examples include: Baptist Foundation of America Baptist Foundation of America ("BFA"), a non-profit charitable organization and Andersen client, imploded in 1999. Thousands of elderly investors lost millions of dollars in savings. Despite multiple warnings that the organization was operating an enormous Ponzi scheme, Andersen had continued to endorse BFA's accounting.20 In 1996, one of BFA's accountants even wrote the CEO that he "[did] not believe that our Lord and Savior, Jesus Christ, would have us conduct His business in a manner that withholds important information from our investor^."^' Approximately 13,000 elderly investors lost $590 million in retirement savings. For its failure to properly manage the company's I' See John R. Kroger, Enron, Fraud & Securities Reform: An Enron Prosecutor's Perspective, 76 U.C OLOL. . REV. 57,89-90 (2005) ("By 1999, Andersen had the smallest auditing business of the Big Five accounting firms, with the slowest rate of growth."). I8 See generally TOFFLERsu, pra note 8, at 123-24. *l'9 ~ee,ida.t 111 -12. The same Andersen partner responsible for BFA had also supervised audits of one of Charles Keating's failed savings and loans in the late 1980s, an engagement for which Andersen paid a $24 million dollar settlement. See TOFFLERsu, pra note 8, at 153. '' See id. at 152-53. Heinonline -- 13 Va. J. Soc. Pol'y & L. 186 2005-2006 20061 Arthur Andersen and the Nature of Entity Guilt 187 audits, Andersen paid a civil penalty and $2 17 million to settle lawsuits brought by defrauded investors.22 Sunbeam Corporation "Chainsaw Al" Dunlap took over Sunbeam Corporation ("Sunbeam") in 1996 ostensibly to restructure the business and restore it to profitability. According to the SEC, Dunlap created an illusion of success through fraudulent accounting.23 Sunbeam restated its earnings for 1997 and 1998 and reduced its earnings from $109.4 million to $38.3 million. Sunbeam's stockholders filed suit against several company officials as well as an Andersen partner who had managed the account. According to Deloitte & Touche, which did the forensic accounting following the restatements, Dunlap overstated Sunbeam's losses in 1996 and then overstated the company's gains in 1997-98. The SEC opined that Andersen should never have signed off on Sunbeam's flawed financial statements-statements which in its view amounted to fraud.24 Andersen maintained that it had acted appropriately. The firm settled civil claims with Sunbeam shareholders by agreeing to a $1 10 million dollar settlement." Waste Mana~ementI,n c. Waste Management, Inc. ("WMI"), a rollup collection of garbage disposal companies was a blue chip corporate success story during the 1970s and 1980s. Andersen had served as the company's auditor since before it went public in 1971 Over time, WMI overextended itself and .26 began inflating the value of its assets and undervaluing expenses. Andersen auditors suggested but did not insist that the company correct its accounting errors. WMI declined. A subsequent SEC investigation in 1997-98 led WMI to restate $1.5 billion in revenues. At the time it was "the largest earnings restatement 22 See SQUIREEST,. AL, supra note 7, at 1 18. 23 See Jennifer G. Hill, Deconstructing Sunbeam-Contemporaly Issues in Corporate Governance, 67 U.C IN.L.REV1. 099, 1124-25 (1999). 24 See Cease-and-Desist Order, Accounting & Audit Enforcement Act Release No. 1393, 2001 WL 616627 (May 15, 2001); see also Ira L. Konel et al., The Interplay Between Intellectual Property (IP) and Sarbanes-Oxley, 824 PRACTISINGL AWI NST. 477, 619 (Mar. - May, 2005). 25 See SQUIREEST AL., supra note 7, at 119-20. 26 See TOFFLEsRu,p ra note 8, at 145. Heinonline -- 13 Va. J. Soc. Pol'y & L. 187 2005-2006