In a recent paper,[1] I argue that the criminal law needs what I call a functional approach to corporate knowledge.  When the law treats corporations as though they know things, it affects how they manage information.  Knowledge, in one form or another, is an element of the most frequent corporate crimes—false claims,[2] money laundering,[3] tax evasion,[4] etc.  Doctrines for attributing knowledge to corporations vary by jurisdiction and sweep different types of information within their scope.  The control test is the most restrictive, and attributes knowledge to corporations when high-ranking personnel are involved.[5]  Respondeat superior goes further and attributes to corporations knowledge of facts known by any single employee, regardless of rank.[6]  The collective knowledge doctrine goes further still and allows attribution of knowledge aggregated across different employees.[7]  Expanding or contracting the scope of information the knowledge of which is attributable to corporations affects the extent to which corporations will be held accountable for things their employees know.  The extent of liability, in turn, influences how much corporations invest to develop and maintain systems to collect and process that information.

There is an optimal level of investment in compliance.[8]  Corporate crime is socially costly, and each dollar invested in compliance, if well spent, reduces that cost.  If corporations invest too little, social gains are left unrealized—another dollar spent could have prevented more than a dollar’s worth of criminal externalities.  While the end goal of perfect compliance is unreachable,[9] corporations can get closer to it with each additional dollar spent.  As a corporation invests more and more in compliance, the marginal social returns in terms of prevented crime must eventually start to decline.[10]  At some point, the marginal return for an additional dollar invested in compliance becomes less than a dollar.  Beyond that point, further investment would be socially wasteful.[11]

Many judges, prosecutors, and scholars agree that one purpose of criminal law is to induce corporations to invest in compliance at that optimal level.  What they seem to have largely overlooked is that there is not just one socially optimal level of investment.  The public and private costs of corporate knowledge and ignorance can vary dramatically from one corporation to the next.[12]  In some industries, like those that have an obvious impact on the environment, the public costs of criminal conduct could be very high while the private costs of internal monitoring could be relatively low.  In other industries, the public and private costs could be reversed.  These same costs also vary with a corporation’s size—lower private costs of compliance and lower public costs of crime for smaller corporations, the opposite for large corporations.  This means that the socially optimal level of investment in knowledge-generating compliance mechanisms varies among corporations, as does the sort of inducement needed to get corporations to invest at that level.

If all that is right, then none of the available doctrines for attributing corporate knowledge seems particularly well suited to the job.  While the public and private costs and benefits of compliance vary, the control test, respondeat superior, and the collective knowledge doctrine apply in the same way to all corporations.  Part of the problem is that knowledge is treated in corporate law as just another mental state, subject to the same rules of attribution as other mental states, like intent or negligence.  But knowledge has a unique role to play in corporate accountability and compliance, and so it warrants separate treatment.

As I argue in my paper, a functional approach to corporate knowledge would change how such knowledge applies, depending on various features of a corporation like its industry, size, and complexity.  While functional approaches could be keyed to many different variables, I propose that two are most important.  One is “effort,” the cost to a particular corporation of designing and implementing an information system that would put a single employee with sufficient authority in a position to know the information in question.  The other is “obviousness,” the extent to which peer corporations gather and process the same type of information.  When effort is lower and obviousness is higher with respect to some information for a particular corporation, courts should be more likely to treat the corporation as knowing it.  Conversely, when effort is higher and obviousness lower, courts should be less likely to do so.  The resulting theory is flexible enough to fine tune incentives for corporations of all sizes and industries, or at least get the law closer to the optimal mark than the presently available alternatives.

ENDNOTES

[1] Mihailis E. Diamantis, The Corporation and the Epistemologist (Aug. 21, 2018), https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3236254.

[2] 18 U.S.C. 287 (criminalizing knowingly presenting a false claim to the government).

[3] 18 U.S.C. 1957a (criminalizing transactions in property the defendant knew was derived from unlawful activity).

[4] 26 U.S.C. § 7201 (“Any person who willfully attempts in any manner to evade or defeat any tax imposed by this title or the payment thereof shall . . . be guilty of a felony”); Cheek v. United States, 498 U.S. 192, 201 (1991) (interpreting “willfully” in tax fraud to require knowledge of tax provisions alleged to have been violated).

[5] See Model Penal Code § 2.07(4)(c).

[6] 18B Am. Jur. 2d Corporations § 1841; N.Y. Cent. & Hudson River R.R. Co. v. United States, 212 U.S. 481, 496 (1909) (applying respondeat superior to corporations in criminal law).

[7] United States v. Bank of New England, N.A., 821 F.2d 844, 855 (1st Cir. 1987) (“[I]f Employee A knows one facet of [a legal] reporting requirement, B knows another facet of it, and C a third facet of it, the bank knows them all.” (quoting and approving jury instructions given at trial)).

[8] John C. Coffee, Jr., Does Unlawful Mean Criminal: Reflections on the Disappearing Tort/Crime Distinction in American Law, 71 B.U. L. Rev. 193, 196 (1991) (“Once it is conceded that some level of monitoring could be excessive, then the cost to the corporation must be compared to the benefit to society.”).

[9] See Irwin Schwartz, Toward Improving the Law and Policy of Corporate Criminal Liability and Sanctions, 51 Am. Crim. L. Rev. 99, 112 (2014) (“No organization—private or government—can prevent all misconduct by all employees, all the time.”).

[10] Geoffrey P. Miller, An Economic Analysis of Effective Compliance Programs, in Research Handbook on Corporate Crime and Financial Misdealing (Jennifer Arlen ed., forthcoming 2019), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2533661 (explaining that a firm’s probability of avoiding penalty increases with each dollar it spends on compliance, but at a decreasing rate per each additional dollar).

[11] See Daniel R. Fischel & Alan O. Sykes, Corporate Crime, 25 J. Leg. Stud. 319, 324 (1996) (“It is plainly undesirable for firms to invest infinite resources to prevent their agents’ parties from committing crimes, even if those crimes themselves are clearly unproductive.  Rather, monitoring is desirable, as a first approximation, up to the point at which the marginal cost would exceed the marginal social gain in the form of reduced social harm from criminal activity.”).

[12] Sean J. Griffith, Corporate Governance in an Era of Compliance 57 Wm. & Mary L. Rev. 2075, 2100-01 (2016) (“Having mapped the common core of compliance, the question of how companies operationalize the basic structure remains.  This is where differences emerge among firms, especially among firms in different industry categories. For example, firms in some industries—most notably financial services, pharmaceuticals, and defense/aerospace—are often seen as having more highly developed compliance functions.”).

This post comes to us from Professor Mihailis E. Diamantis at the University of Iowa College of Law. It is based on his recent paper, “The Corporation and the Epistemologist,” available here.