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February 11, 2005



PAUL GIGOT: Welcome to THE JOURNAL EDITORIAL REPORT. Corporate scandal -- three former stars in the corporate world were on trial this week in three separate cases, raising lots of questions about corporate ethics, individual behavior and responsibility, and about the way the rest of society responds.

The defendants are: Dennis Kozlowski, the former boss of Tyco, charged with first degree grand larceny and securities fraud for allegedly looting about 600 million dollars from his company; Richard Scrushy, the former chief executive of Health South, charged with conspiracy, money laundering, obstruction of justice, fraud, and perjury, in connection with a 2.6 billion dollar accounting fraud at his company. And Bernie Ebbers, the former head of WorldCom, charged with fraud, conspiracy, and false accounting for his role in driving the company 11 billion dollars into debt and leading it into collapse. All three men face long prison terms if they are found guilty -- sentences that were made tougher in the public uproar over corporate scandals. But is this good for American business, and for the country?

Here to discuss all this are: Dan Henninger, a columnist and deputy editor of THE WALL STREET JOURNAL editorial board; Melanie Kirkpatrick, associate editor of the editorial page; and Holman Jenkins, columnist and member of the editorial board.

Dan, it's pretty unusual to have three high-profile cases like this with CEOs on trial, and Ken Lay of Enron coming soon to a courtroom near you. Do these cases tell us anything about the state of the business ethics and culture nowadays?

DAN HENNINGER: Frankly, I don't think they tell us very much. I think the headline over this story should be, "CEOs gone wild," just like those late-night videos, "Co-eds gone wild." The fact is, most co-eds don't run around with their tops off, and most CEOs aren't crooks. It's hard enough to run a business, it's exhausting enough, without running it simultaneously as a crook. I think what these really are, are stories about individual failure and weakness, not a systemic collapse of American business ethics.

HOLMAN JENKINS: But still, you have to think that just the example of Kozlowski or Scrushy going to trial has to put the fear of God in a lot of CEOs who are going to say, "I don't want to be like him; I'm going to be extra careful and be extra scrupulous about how I keep the books." I think that's a good effect. I think that's what the criminal courts are for.

PAUL GIGOT: Holding individuals responsible instead of business as a class?

HOLMAN JENKINS: Exactly. That's the best way to change the behavior of the other people who are out there.

PAUL GIGOT: Melanie, do you think that these CEOs nowadays are reflecting a decline in overall business ethics? Or is this the kind of thing we periodically have seen through American history, where we have had in the past -- and this isn't the first time we've had business scandals.

MELANIE KIRKPATRICK: Well let me quote Peter Drucker, the management guru and frequent contributor to our pages. He's now 95 years old, and when he was asked this question a couple of years ago his answer was, well, he had lived through four periods of financial scandals since the 1920s, and he thinks the worst is yet probably to come.

PAUL GIGOT: We do tend to see this kind of thing though, don't we, Holman, when we have a period like we had in the late nineties, where it was not just animal spirits but irrational exuberance, to quote Chairman Greenspan, that some people just seemed to get carried away.

HOLMAN JENKINS: Well, there is that element. You have companies with very high valuations in relation to their earnings. If your stock is valued at 100 multiple, then a dollar of earnings is worth 100 dollars of stock price. That's a great incentive to invent a dollar of earning. And that is part of what did this thing. You had these very high-flying, fragile stock prices, and CEOs put out all the stuff to keep them up.

DAN HENNINGER: Well, it was a very weird period. I mean, those nineties valuations created the illusion that there was a pot of gold at the end of the rainbow. And a lot of people took leave of their senses, from CEOs down to individual investors. And some of these guys committed crimes.

PAUL GIGOT: So executive compensation did have something to do with this as a motivation, at least in some cases.

HOLMAN JENKINS: Well the Kozlowski case is all about compensation, whether he took money he wasn't entitled to. But in the other cases, yes, you would pay the CEO in stock. You teach him that the stock price is important. That doesn't mean that he's allowed to break the rules to keep the stock price up, but the temptation is there.

MELANIE KIRKPATRICK: I might also add, the CEOs don't have a long time nowadays to make an impact. We quoted a study on our page this week that showed that the average tenure for CEOs today is three years.

HOLMAN JENKINS: And the average effect of a CEO on a stock price ends after two years. He comes in and does what he or she is going to do. Then, after that, it's someone else's job to decide what the next agenda item is.

PAUL GIGOT: What about this issue of criminal intent, which is under our laws, at least federal laws. You have to prove somebody intended to create a crime. And that's what these CEOs are basically asking with their defense attorneys for the jury to prove. Isn't there some use to that in demonstrating that these guys actually did intend this, instead of sitting atop something where maybe they might have been inattentive, they might have been bad managers, but they really didn't mean to create a crime.

HOLMAN JENKINS: Well that's the defense in every one of these cases. It was, "I trusted my subordinates to do the right thing and follow the rules."

PAUL GIGOT: Right. Some may be correct, though. And Kozlowski, who if you ask me looks to be certainly suspicious, he did manage to get a hung jury in the first case because somebody said, "I don't think he did it." But is there a kind of social utility, broader public utility, enforcing the criminal justice system to actually prove to 12 members of our peers, even if somebody is a rich CEO, that you know what, he did intend to commit that crime.

DAN HENNINGER: Oh, I agree completely with that, Paul, especially in our time. I used to think these sorts of trials were circuses. But I've come to think they're actually very useful in the way we cover them. It's like a Henry James novel. It isn't merely the defense trying to defend a Kozlowski. You've got the whole country watching all of this information on the polls, and deciding whether this is something that we approve of or not. In other words, it isn't just the law that has an impact here, but it's public mores. And I think people in business watch that and respond accordingly.

PAUL GIGOT: It's a contrast to what Eliot Spitzer, the New York Attorney General, has done, which is he really has not put many high profile people in the dock, on trial. He's instead used the Martin Act, which doesn't require criminal intent, for settlement -- which requires some kind of broader settlement of payment of fine, usually. But if everybody at a firm is guilty, then maybe nobody is guilty. Isn't individual responsibility the way to go?

HOLMAN JENKINS: Well, there's a lot of law in this country where you're responsible because you didn't know that something happened. And that's what they've tried to do in a lot of these cases. But in these three cases, I think they're not going to have any trouble deciding it on the question of whether the CEO knew and had criminal intentions or not.

PAUL GIGOT: I think you're right about that. Now finally, it's really been three years, a little more, since these scandals broke open with the Enron case. How well do you think, Melanie, the political and business classes have responded to these? Have we done a good job of cleaning up the mess and setting a new direction? Or how well have we done?

MELANIE KIRKPATRICK: Well, I think maybe we've gone overboard in regulation. And I agree with the point that was made earlier, that these trials provide a useful lesson in civic and business responsibility. And you can't legislate fairness or honesty. You can maybe tinker with it around the edges, and you can shine some light on it through regulation. But you can't create honesty by passing a law.

PAUL GIGOT: No, but you can teach ethics, I think. And that may be the lesson of these trials is, that you have to pay attention to that sort of thing. On the regulation side, we have Sarbanes-Oxley, which is supposed to solve the accounting problem.

HOLMAN JENKINS: I don't know anybody who thinks it has or will.

PAUL GIGOT: I agree with that.

DAN HENNINGER: I think it probably has to be revisited. It's too costly for middle-sized companies. European companies are trying to pull themselves out of the United States rather than being exposed to it. And I think they're going to have to take another look at it. It was a wake-up call, but it needs to be re-looked at.

PAUL GIGOT: What about corporate boards? They do seem to actually be paying a little more attention now. They just ousted this week -- and not for any criminal activity, but just for a strategic mistake -- Carly Fiorina of Hewlett-Packard. They do seem to be paying a lot more attention, particularly audit committees and compensation committees. And that's probably a good thing.

HOLMAN JENKINS: It's good up to a point. But they're also being held personally, criminally and financially liable, sometimes for just business judgment calls, which makes it harder to get people to take those important jobs.

PAUL GIGOT: Okay. All right, Holman, you get the last word. Thank you. Next subject.