Unfit For Duty: The Officer and Director Bar as a Remedy for Fraud

The following post comes to us from Renee M. Jones, Professor at Boston College Law School. It is based on her recent paper entitled “Unfit for Duty: The Officer and Director Bar as a Remedy for Fraud,”  which is forthcoming in the University of Cincinnati Law Review and is available here.

In my forthcoming article, Unfit For Duty: The Officer and Director Bar as Remedy for Fraud, I focus on an underutilized weapon in the SEC’s enforcement arsenal: the power to bar individuals from serving as officers or directors of public companies.  The SEC has long had authority to obtain such bar orders against individuals who violate the securities law’s antifraud provisions, if they are deemed unfit to serve.  Despite this longstanding power, the SEC rarely seeks to bar senior executives or directors of large firms.  The article argues that the SEC should pursue bar orders more regularly to better motivate executives and directors to heed their obligations under the federal securities laws.

My proposal for increased use of the officer and director bar sidesteps concerns many commentators express about the fairness of liability schemes under corporate and securities laws.  Some scholars argue, for example, that it is unfair to hold directors liable for fraud spearheaded by the managers they oversee.  They claim the mere prospect of such liability would deter capable directors from serving.  Such concerns have prompted judges and legislators to erect a veritable bulwark against director liability under state and federal law.

These standard arguments against director liability do not apply with equal force to the proposed policy of barring culpable officers and directors from positions in which they might cause further harm to investors.  Indeed, a common argument against director liability is that the fair and natural consequence for oversight failures is the loss of future professional opportunities that stems from one’s association with corporate mismanagement or fraud.  Anecdotal and empirical data suggest, however, that such purported reputational harm does not prevent directors from continuing to occupy fiduciary positions at public companies.

A policy that bars directors whose oversight failures lead to significant financial harm seems an appropriate means for imposing the natural consequence that market forces have failed to effect.  After laying out the case for the increased use of bar orders, the article recommends changes to the SEC’s enforcement strategies that could help the agency improve its success rate when seeking bar orders in court.  It urges the SEC to publish guidance on the factors it considers important in seeking bar orders.  It also recommends the agency limit requests for permanent bars to the most egregious offenses.

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