What real justice looks like.

Crossposted from The Stars Hollow Gazette

I don’t know if you woke up as horribly depressed today as I did, but I spent a long time looking for a single nugget of good news; that someone, somewhere still believed in Justice and The Rule of Law.

JP Morgan Hit by Ripple Effects of Rakoff Decisions Nixing SEC No Admission Settlements

Yves Smith, Naked Capitalism

Wednesday, December 14, 2011

Alison Frankel at Reuters highlights a new New York appellate court decision where JP Morgan is being hoist on the Rakoff petard. Bear Stearns, which is now owned by JP Morgan, entered into a $250 million settlement in 2006 over allegations that it cheated customers by engaging in impermissible market timing. The agreement contained standard SEC “without admitting wrongdoing or denying” language. The payment broke down into $160 million of disgorgement and $90 million of penalties.

What may surprise many readers is that the $160 million disgorgment was covered by insurance, or at least JP Morgan thought it was.

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The insurers said no dice, and JP Morgan took them to court to try to force them to pay. The lower court decided in favor of JP Morgan, but the appeals court reversed.

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Putting on a public policy, rather than a legal hat, insurance that has the effect of letting companies and boards buy their way out of the economic consequences of bad conduct is a terrible idea. Even though it is widely accepted that no one would become a director of a public company ex directors and officers insurance, the consequences are detrimental. Why should, for instance, the directors of Lehman not be sued into penury? If we didn’t have D&O insurance, companies would have to pay directors a prince’s ransom to do the job, and a director would have to work really really hard at oversight. That would mean he could probably only sit on one board (ending the board as high level social club phenomenon, another plus) and would do a vastly better job. You’d also see an end to directors who serve as mere decoration (nice enough people, say college presidents or heads of heavyweight not for profits) but add bupkis in terms of monitoring management.

Now I’ll admit we have not seen all the implications of the Rakoff decision, but this first one seems entirely salutary. I suspect on balance, the effect will be to give companies fewer “get out of jail free” cards, which is something that everyone but the SEC and public company executive should welcome.