All things come in cycles, and we are now far enough into the current cycle of corporate prosecutions and related regulatory enforcement actions to be able to reflect meaningfully on the amplification of major resolutions in the multi-billion dollar range. Perhaps we are even able to discern some principles. As lawyers handling government investigations, we are accustomed to having to derive principles in an important area of the law with undeveloped case law. On some of the most important issues that lawyers both for defendant companies and for the government confront, there is very little neutral guidance as to appropriate outcomes. Historically, the surest and most relevant guide has been to look to the major negotiated resolutions to determine the contours of the law on issues from sales of mortgages, to cartel conduct, to foreign corruption, to the extent of economic sanctions. But those guides are becoming less and less helpful.
In the study of statistics, the “Law of Large Numbers” dictates that as the sample size in an experiment grows, the mean of the results will approach the average of the whole population. In the context of the law itself in government enforcement cases, the Law of Large Numbers means something closer to the opposite. When resolutions involve very large penalties to corporate defendants, the result is not regression to the mean, but a ratcheting effect in absolute numbers and an erratic effect in substance. Large numbers involved in fines and restitution exert an apparently irresistible pressure on the law: changing it, displacing it and ultimately cleaving it from the facts of a given case. In a real sense, large numbers become the law.
Some history helps to understand this point – the size of enforcement penalties has become significantly larger in both absolute and relative terms. In 1999, Bankers Trust pled guilty to a fraud crime and was forced to pay a criminal fine of $60 million and enter into a $3.5 million settlement with state banking authorities. That was seen as a major punishment for the bank and led to its swift acquisition by Deutsche Bank.
As impressive as those numbers are, the financial punishment for banks has increased by several orders of magnitude in less than two decades with penalties totaling many billions of dollars for sanctions violations (for example, BNP Paribas – almost $9 billion), antitrust, tax and other crimes. The enormous size of the fines is not by any means limited to financial firms, with penalties over $1 billion for contractors, numerous pharmaceutical companies, energy companies, automobile manufacturers and others in recent years. Moreover, it is important to add to these figures the massive multi-billion dollar amounts paid in RMBS settlements in the last few years which, although not criminal, were achieved on fraud theories under FIRREA and with the specter of criminal enforcement lurking in the background.
At work here is a combination of three factors – each of which has been written about extensively, but the effect of their combination has not been widely understood.
- First, little relevant legal precedent exists because corporations, especially public companies and companies in regulated industries, can rarely challenge a government enforcement agency determined to make a criminal case or a civil case founded on fraud allegations.
- Second, the statutory and regulatory guides to penalty amounts have enough flexibility to produce remarkably large penalty amounts – so large, in fact, that the notional penalty range ceases to be reasonably related to the conduct at issue.
- Third, government agencies are increasingly willing to demand penalty amounts based on the defendants’ ability to pay rather than through a traditional analysis of harm to victims coupled with the sentencing guidelines (in criminal cases) or references to precedent in like cases (for civil regulatory matters).
This is an explosive combination whose effects are detailed daily in the financial pages. Less detailed, though, are the precedential effects. The main result seems to be a ratcheting effect that makes the former ceilings in terms of penalty amounts the new floors, where each successive resolution is compared mainly by amount to prior resolutions rather than the much more difficult analysis of comparison by conduct. As the numbers become larger, they provide less guidance to companies because it becomes less possible to connect bad conduct with degrees of punishment. As in medieval England where the punishment for crimes ranging from minor thefts to homicide were punishable by death, the degree of punishment ceases to say much about the society’s values and does not meaningfully add to the deterrence effect.
Andrew Hruska is a litigation partner in King & Spalding’s New York office and a member of the firm’s Special Matters and Government Investigations Practice Group. Mr. Hruska’s practice focuses on criminal and regulatory litigation and investigations, complex civil and bankruptcy litigation, and internal investigations.
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