A Case Study in Securities Law: SEC v. Baker

Published date01 August 2017
DOIhttp://doi.org/10.1111/jlse.12063
Date01 August 2017
Journal of Legal Studies Education
Volume 34, Issue 2, 273–315, Summer 2017
A Case Study in Securities Law:
SEC v. Baker
Edward J. Schoen,Diane Y. Hughes,∗∗
and Michelle A. Kowalsky∗∗∗
I. INTRODUCTION
There are two overarching goals to this case study. First, the authors want to
introduce students as early as possible in their study of business to the perils of
deliberate misstatements of income in financial statement and the significant
consequences that await those who do. Given the recent business scandals
involving mortgage-backed securities and their contribution to the devastat-
ing 2007–2009 financial crisis,1the authors hope the significant penalties
imposed on the executives in the ArthroCare Corporation may provide a les-
son to students and perhaps dissuade them from engaging in security fraud
activities in their careers.
Second, the authors seek to demonstrate to their students how the
materials in Legal Environment of Business and Principles of Accounting
I are interconnected. Introducing students to the illegal practice of “chan-
nel stuffing” not only makes the study of generally accepted accounting
principles (GAAP) more understandable, but also shows that fraudulent
violations of those principles can have profound legal consequence. The
Professor of Management, Rohrer College of Business, Rowan University, Glassboro, New Jer-
sey. Professor Schoen teaches Legal Environment of Business, a core course in the undergraduate
business programs, and Professional, Legal and Managerial Responsibilities, a core course in
the MBA program.
∗∗Associate Professor of Accounting, Rohrer College of Business, Rowan University, Glassboro,
New Jersey. Professor Hughes teaches Principles of Accounting I and II and Law for Accountants.
∗∗∗
Business Librarian, Rowan University, Glassboro, New Jersey. Librarian Kowalsky teaches
information literacy skills in multiple disciplines to undergraduate and graduate students.
1See Edward J. Schoen, The 2007–2009 Financial Crisis: An Erosion of Ethics: A Case Study,J.
BUS.ETHICS 1 (2016). This article was published with open access at Springerlink.com,
http://link.springer.com/article/10.1007/s10551-016-3052-7.
C2017 The Authors
Journal of Legal Studies Education C2017 Academy of Legal Studies in Business
273
274 Vol. 34 / The Journal of Legal Studies Education
case study guides students through the multiple legal actions pursued by the
Department of Justice (DOJ) and the Securities Exchange Commission (SEC)
against ArthroCare executives. Using the pleadings from these actions, stu-
dents see firsthand how improper accounting practices and security law viola-
tions are deeply intertwined. Furthermore, the authors’ experience as faculty
members has taught them that many students approach their courses in the
business curriculum as silos and too frequently do not appreciate their inter-
connectedness. By demonstrating how Legal Environment of Business and
Principles of Accounting I reinforce each other, students will gain a deeper
learning of the course materials and hopefully look for such connections in
their other courses.
Part II of this case study provides a brief literature review that demon-
strates the significant benefits that interdisciplinary education, particularly
the use of case studies, confer on students, by showing them that business
challenges do not fall within a single business discipline and by assisting them
to analyze complex problems as they are encountered in the field. Part III
describes how business law professors can use the case study by partnering
with accounting faculty members or simply using the case independently in
their business law or legal environment courses. Part IV presents the case
itself. The case begins with a description of the business of ArthroCare Cor-
poration, a manufacturer of surgical devices, and its executive officers, and
the scheme those officers executed to falsely inflate ArthroCare’s earnings.
The case next examines the criminal proceedings the DOJ and SEC brought
against those officers in response to their misstatements of earnings. The
case finally examines the successful clawback action brought against those
officers to recover their incentive-based compensation earned while Arthro-
Care’s financial statements were noncompliant with financial reporting
requirements.
Part V provides discussion questions and suggested responses to assist
the instructor and students in the exploration of several important provi-
sions of securities law such as the personal liability and clawback provisions
of the Sarbanes-Oxley Act, the antifraud provisions of sections 10(b) and
18(a) of the 1934 Securities Exchange Act, the liability of outside business or-
ganizations that assist executive officers to carry out their fraudulent scheme
to misstate earnings, and the liability of the outside accountants who failed
to uncover the financial statement misrepresentations. As explained more
fully below, the answers to the discussion questions are designed to facilitate
faculty members’ use of the case and should also be made available to the
students when they are assigned the case.
2017 / A Case Study in Securities Law 275
II. LITERATURE REVIEW
Calls for revision of business curricula to include interdisciplinary efforts
have been ongoing in response to employer requirements, accreditation
outcomes, and our own field’s requests for innovation.2Convergence of
multiple objectives and assurances of learning may therefore be the natural
outcomes of interdisciplinary efforts. If it is true that “all individuals who
enter into business, regardless of their choice of major and occupation, will
find it necessary to be fluent in all aspects of business,”3then finding ways to
integrate multiple disciplines at any College of Business is clearly a worthwhile
goal.
Interdisciplinary curricula, and their attendant teaching structures and
student assignments, have gained popularity in recent years. Evidence of the
value of interdisciplinarity for building depth of student understanding is
abundant and well documented.4Various combinations of business subject
content are reported in the literature in nearly every business field, including
marketing education,5legal education,6finance education,7and economics
education.8
Classroom exercises and activities that help undergraduates integrate
their learning from multiple subject areas may help to improve student
engagement as well as provide evidence of complex thinking in core
2See,e.g., Raef A. Lawson et al., Thoughts on Competency Integration in Accounting Education,30
ISSUES IN ACCT.EDUC. 149 (2015); Chunhui Liu et al., Improving Ethics Education in Accounting:
Lessons from Medicine and Law,27I
SSUES IN ACCT.EDUC. 671(2012).
3Lawrence B. Chonko, Business School Education: Some Thoughts and Recommendations,31MKTG.
EDUC.REV. 1, 1–9 (1993), 9.
4For an overview, see Lana Ivanitskaya et al., Interdisciplinary Learning: Process and Outcomes,27
INNOVATIVE HIGHER EDUC. 95 (2002).
5See, e.g., Sigfredo A. Hernandez, Team Learning in a Marketing Principles Course: Cooperative Struc-
tures That Facilitate Active Learning and Higher Level Thinking,24J.M
ARKETING EDUC. 73 (2002).
6See, e.g., Michelle M. Harner & Robert J. Rhee, Deal Deconstructions, Case Studies, and Case Simu-
lations: Toward Practice Readiness with New Pedagogies in Teaching Business and Transactional Law,3
AM.U.BUS.L.REV.81 (2014).
7See, e.g., Grainne Oates & Roshanthi Dias, Including Ethics in Banking and Finance Programs:
Teaching “WeShouldn’t Win at Any Cost,” 58 EDUC.+TRAINING 94 (2016).
8See, e.g., Dmitriy Chulkov & Kokomo Dmitri Nizovtsev, Problem-Based Learning in Managerial
Economics with an Integrated Case Study,16J.E
CON.&ECON.EDUC.RES. 188 (2015).

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