Conflicts of Interest

<p>What an eerie experience it was for all of us in the bankruptcy field to listen to
the stories about Enron and its various officers, directors and outside professionals.
All of us were gripped by the drama, the greed, the real stories behind the
compelling congressional testimony. We know that in the not-so-distant future, a movie
will be made revealing what "really happened." Of course, that part of the experience
is one we shared with everyone else. Not everyone saw Enron the way bankruptcy
professionals did, however.

</p><p>First, there was the story that so many lawyers, accountants, turnaround
specialists—even judges!—saw coming long before the actual bankruptcy filing. I
recall being at a conference in November, where some judges wondered whether the
filing would be that week, in their court, and whether they really wanted such a
monumental case, as we all knew it would be even before the filing. Then there were
the lawyers whose firms were obviously already in the running to handle some piece of
the case when it was filed. (There was, interestingly enough, no question that it
would file; there was only a question of precisely when and where.) Bankruptcy
professionals saw the signs well in advance: the desperate effort to find a buyer,
the equally desperate reach for cash, the obvious disconnect between how high-flying
the stock had been so very recently and how great was the sudden need for cash to
stem the hemmoraghing.

</p><p>What we did not know at that time were the reasons why. Yet to be revealed were
the internal memoranda to the chief executive officer, sounding the alarm about the
internal vehicles then being used to disguise liabilities, the impropriety of using
one's own stock to bolster the value of related entities, and so perhaps misleading
investors and regulators.

</p><p>What struck me as I watched the news stories unfold and listened to the explanations
from those at the center of the storm was that, for the first time, in a glaringly
public forum, commentators began to talk about the need for reducing or eliminating
conflicts of interest. And they spoke as though they were discovering a new atomic
element. Some editorialists suggested that, out of the debacle, Congress might be
moved to enact a raft of new rules about conflicts, a corporate version of
post-Watergate legislation, as though such rules had never before been used in this
environment (and wasn't it about high time that they were, etc., etc.).

</p><blockquote><blockquote>
<hr>
<big><i><center>
[W]e the investing public do not always know
who in fact really is solvent, who really is
healthy out there.
</center></i></big>
<hr>
</blockquote></blockquote>

<p>In some ways, maybe the commentators and editorialists were right in their
observations. For years now, we've all been told (often with the patience that a
parent uses to explain adult subjects to children) by the wheeler-dealer wags of Wall
Street that we just didn't understand about these things; everyone was, in fact,
being very professional and were simply devising new methods, means, devices and
strategies to efficiently develop capital to fuel the American engine of capitalism.
Never mind that investment banks first designed the securitization vehicle, then marketed
it to their other customers. Never mind that the self-same accounting firm did the
audits and offered a broad array of other (and profitable) consulting services for
their client corporations. Never mind that law firms offered the opinion letters that
investors and banks had to have to put their money into these bankruptcy-remote
devices, then investigated (for the Board) transactions they themselves had helped to
put together.

</p><p>The conflicts were there all along—and still are. What is more, the conflicts may
be more deeply embedded than even Congress is comfortable with. The watchdog
designed to protect investors and to assure transparency draws substantial guidance
from accounting principles that are developed within the accounting profession. Boards
of directors of corporations are selected only superficially by the stockholders—in
fact, it is precisely because the shares of most public companies are so widely
held that the real power in selecting directors lies with the officers of the
company: The supervised hand-pick their supervisors. Small wonder then that the
Enron Board did not see this coming. They came from far-flung locations, and
being a director was not a full-time job for most of them. They relied on the
information that was fed to them by the officers of the company, and the most
important information they used as a barometer was earnings and stock price.

</p><p>For those of us who do bankruptcy regularly, try this simple test. Apply the
bankruptcy prism to the kinds of relationships that we have seen exposed in the media
for the last four months or so. Use the conflict-of-interest rules that bankruptcy
demands for the employment of professional persons. Would any of my colleagues
comfortably approve hiring the same accounting firm to do the annual audit and provide
other consulting services at the same time? Many of my colleagues would not permit
such a retention, even <i>seriatim.</i> Would a law firm that helped to design some of the
partnerships or affiliated securitization vehicles be permitted later to serve as counsel
for the debtor-in-possession?

</p><p>I do not here suggest any actual liability on the part of the firms that represented
Enron before the bankruptcy was filed; after all, their retention and services may
very well have been consistent with <i>existing</i> rules for companies that are not in
bankruptcy. What I <i>do</i> suggest, however, is that we bankruptcy professionals have
always been sensitive to the dangers inherent in conflicts of interest, and routinely
submit ourselves to a set of standards that, for the most part, preserves the
integrity of our system. Occasionally, someone tries to introduce non-bankruptcy rules
of engagement into the bankruptcy arena. Usually, it blows up and further exposes
what's wrong—not here inside the bankruptcy arena, but out there in the marketplace.

</p><p>I have a modest suggestion for Congress and the federal agencies that are already
hard at work crafting new rules to insure greater transparency and accountability in the
marketplace. Take a look at what we are doing over here in bankruptcy, where
transparency and accountability have been watchwords for decades. Over here, professionals
who transgress the conflict-of-interest rules (even if the transgression is nothing
more than failing to disclose the existence of the conflict) risk not only losing
their fees but having to repay whatever fees they've already received. Over here, the
bonus rules are quite a bit more strict. Here, transparency begins with schedules
and statements of affairs that do not require an accounting professional or investment
analyst to decipher. Over here, the heavy scrutiny of creditors, shareholders and the
court exposes flaws in management much more quickly: Little wonder that the average
tenure of senior management for public companies that enter bankruptcy is an estimated
six months of the filing. And corporate self-dealing? The smallest sanction is losing
one's job. From there, the stakes go up dramatically: Examiners get appointed,
trustees get appointed and letters get written to federal investigatory agencies.

</p><p>Of course, the rules are different in bankruptcy because the rules are always different
for insolvent enterprises. Solvent enterprises are a different story and have the
privilege of operating by different rules. Yet the lesson of the past few months is
that, precisely because of the laxity of those rules, we the investing public do not
always know who in fact really is solvent, who really is healthy out there. I would
not apply wholesale the conflict-of-interest rules we use in bankruptcy to the
marketplace. But there are lessons to be learned, analogies to be drawn. And isn't
it ironic, at the end of the day, that the bankruptcy system has so much to say
to the larger marketplace about integrity, transparency and accountability?

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