Crime and the Corporation: Making the Punishment Fit the Corporation.

• Author: Coffee, John C.

1. OLD MYTHS AND NEW REALITIES: WHO IS BEHIND THE CORPORATE CURTAIN? 966 A. Shareholders Today 967 B. Senior Managers 969 C. Criminal vs. Civil Offenses 970 II. HOW WELL DO FINANCIAL PENALTIES DETER AND ENFORCE LAW COMPLIANCE? 974 A. The Limited Available Evidence 974 B. Are Corporations Overdeterred? 976 III. MAKING THE PUNISHMENT FIT THE CORPORATION 977 A. The "Group" Penalty of Reduced Incentive Compensation 977 B. The Equity Fine 981 C. Reforming the Deferred Prosecution Agreement 983 D. Sentencing Credits: When Does Leniency Work? 985 E. An Initial Summary 987 IV. CONCLUSION 987 Corporate criminal liability has been controversial since its inception. Given the ability of law professors to debate issues interminably, this debate will likely continue for as long as law professors do. Yet, even the doctrine's harshest critics recognize that "corporate criminal liability is probably here to stay." (1) Nonetheless, no better way exists for a criminal law scholar to establish a reputation as innovative and iconoclastic than to attack corporate criminal liability. Both the great and the not-so-great have engaged in this pastime, usually asserting that holding legal fictions criminally liable is an absurdity. For example, a major scholar of criminal law, Professor Albert Alschuler, opens his critique of corporate criminal liability by comparing it in his first sentence to "two ancient legal practices--[D]eodand (the punishment of animals and objects that have produced harm) and [F]rankpledge (the punishment of all members of a group when one member of the group has avoided apprehension for a crime)." (2) The implication here is that those who accept corporate criminal liability have to be prepared to accept either the Deodand or the Frankpledge. Actually, I agree--to an extent: group liability makes sense and can be structured so that it imposes non-criminal sanctions on the senior managerial team at a convicted corporation. Such a step does nothing more than what a criminal sentence does to the corporation's shareholders, and it is needed because the corporation's senior managers are both the least deterred constituency and the one that can best monitor and modify corporate behavior.

   Most critics assert in common that corporate criminal liability "punishes the innocent." (3) But their specific criticisms then subdivide: The earlier and larger group objects that imposing criminal liability on the corporation is inconsistent with the fundamental precepts of criminal law, particularly its emphasis on intent and mens rea. In contrast to this first group that wants to debate the philosophy of the criminal law, a second--and more recent--group has framed arguments that are largely economic in character: imposing harsh penalties on the corporation is counterproductive, they argue, because it is likely to result in lesser monitoring and lower investment in corporate internal compliance efforts (in part, because discovering and reporting a crime becomes far more costly). (4)

   This brief Article will leave the "philosophical" objections to corporate criminal liability to others (who have already debunked many of the standard objections (5)) and instead focus on the more empirical critiques of the economists. Generally, the debate has been between those who believe the corporation is already adequately deterred (or even excessively deterred) and those (including this author) who doubt this. In this light, this Article cannot accept the view that the corporation is only a legal fiction. Public corporations share three critical characteristics: (i) they are elaborate informational networks in which decision-making is shared within a decentralized management team; (ii) they can (and do) suffer reputational loss that often exceeds the cash fines that have been imposed to date; and (iii) they trade in public markets where their share price may be subjected to economic penalties that can be better designed to deter than our existing system of cash fines. These characteristics should shape our search for the optimal corporate penalty. All recognize that the corporate entity is not the ultimate cost bearer, but few have focused on the possibility that senior managers may make better cost bearers than shareholders.

   Critiques of corporate criminal liability tend to rely on a misdrawn map of the incentives of the participants in corporate governance. In particular, the following assumptions need to be re-examined and restated more accurately:

   Criminal law, it is asserted, imposes far harsher sanctions than the civil law. Because the penalties are greater, it is unjust for the criminal to follow the civil law's norm of respondeat superior (which makes the principal liable for the misconduct of its agents).

   Imposing harsh penalties on the corporation punishes the "innocent" and is indefensible because the stakeholders in corporate governance are either ignorant of the misconduct or too dispersed and powerless to prevent it.

   Overdeterrence is a real danger and is best addressed by giving corporations a substantial sentencing credit (or even immunity) if the corporation has adopted a minimally acceptable compliance plan (which, in this view, should produce internal monitoring that is better at preventing corporate crime than state-created penalties).

   Some of these assumptions may have once been true but are inaccurate today. Others are a matter of faith or ideology without real empirical evidence to support them. Part I of this Article will examine these assumptions in light of current data, and our focus will be on the public corporation. Part II will then turn to the question of overdeterrence: Does the expected penalty typically exceed the expected gain? Does it seem likely that current penalties deter corporate offenders? Or is the likely penalty simply an acceptable cost of doing business? Although conclusive evidence is lacking (primarily because we know little about the volume of undetected violations of law by corporations), it is easy to find cases where the gain vastly exceeded the penalty imposed, suggesting that fines in such cases can be absorbed as a cost of doing business. Part III will then suggest means that enable us to focus the penalty on the key actors in corporate governance (and thereby avoid punishing at least most of the "innocent").

   One last introductory point: I am skeptical of the overused term "innocent" as applied to shareholders, managers, and other stakeholders. Civil liability also punishes the innocent in the corporate context, and civil courts probably impose the vast majority of the penalties imposed on corporations (as well as the largest). Moreover, this rhetoric about innocence misses half the picture: Because shareholders have limited liability, they do not face any risk of personal liability. I agree that we should not punish the powerless because that achieves nothing, but I argue that public policy should focus its legal threats on those who could have detected and prevented the crime (and might do so in the future). Who are they? That is an under-examined issue that is the subject of Part I below.

1. OLD MYTHS AND NEW REALITIES: WHO IS BEHIND THE CORPORATE CURTAIN?

   One traditional truth remains valid: Corporations may not be sent to prison. Possibly, they can be sent to a "reformatory" (at least in a metaphorical sense), but this author is as skeptical of the feasibility of rehabilitation in the corporate setting as he is of its feasibility in the individual setting. Thus, as a practical matter, let us assume corporations can only be subjected to financial and reputational sanctions. (6) The fact that the corporation cannot be incarcerated (and is unlikely to be rehabilitated) supplies the first reason why the "punishing the innocent" theme, so stressed by opponents of corporate criminal liability, needs to be greatly discounted. To the shareholders who bear the costs imposed on the corporation (by public or private enforcers), there is little economic difference between a criminal fine, a civil penalty, or punitive damages imposed by private enforcement. Indeed, unless we are willing to say that the common law rule of respondeat superior is also unjust, it is hard to consider the fact that shareholders ultimately bear the penalties imposed on the corporation as evidencing injustice. On the other side of the coin, unsurprisingly, some evidence does suggest that criminal penalties deter better than civil ones. (7) In this light, public policy should focus on whether the shareholders (or others who bear the cost) could have conceivably prevented the criminal conduct.

   In that light, we next focus on the contemporary position of shareholders and managers in corporate governance.

   1. Shareholders Today.

      Since at least the time of Adolf Berle and Gardiner Means, it has been assumed that shareholders lacked the power to control management because they were too dispersed, and the exercise of control was too costly for them. (8) This assessment, of course, was summarized in their famous phrase about the "separation of ownership and control," which they dated to the early 20th Century. (9) The federal securities laws, enacted in the 1930s, sought to reduce this separation but probably had only modest success.

      What later changed was not the law, but the economics. Institutional investors arose, from a modest beginning in the 1950s to the current era in which they dominate corporate ownership. (10) In the case of large public corporations (such as those in the S&P 500), institutions today hold, on average, over 70% of the stock. (11) Even more importantly, this ownership has become highly concentrated, with the Big Three (the three largest asset managers in the United States) now owning over 23% of the equity in large corporations. (12) Add a few more mutual funds and pension funds to the Big Three, and absolute voting control has been assembled. (13) Until relatively recently, these...