Is There a Role for Lawyers in Preventing Future Enrons?

Abstract

Following the collapse of Enron Corporation, the ethical obligations of corporate attorneys have received increased scrutiny. The Sarbanes-Oxley Act of 2002, enacted in response to calls for corporate reform, specifically requires the Securities and Exchange Commission to address the lawyer's role by requiring covered attorneys to report up evidence of corporate wrongdoing to key corporate officers, and, in some circumstances, to the board of directors. Failure to report up subjects a lawyer to liability under federal law.

This article argues that the reporting up requirement reflects a second-best approach to corporate governance reform. Rather than focusing on the actors that traditionally control a corporation's activities, the statute attempts to solve governance problems indirectly by assigning to the lawyer the role of corporate gatekeeper and information intermediary. We demonstrate that the reporting up requirement fails to address the incentives that motivate corporate attorneys, directors, and managers. At the same time, the provision threatens to undermine the flow of information between lawyers and corporate actors. As a consequence, we suggest that the requirement is unlikely to achieve its objective of providing key corporate decisionmakers with early information about potential misconduct. Moreover, attorney and manager responses to the reporting up requirement are likely to reduce the quality of legal services provided to the corporation.

Based on this cost-benefit analysis, we conclude that the Sarbanes-Oxley approach to corporate governance reform is flawed. Instead, we argue that a demand side approach is most likely to realign corporate attorney incentives and to reinvigorate the business lawyer's important role in promoting good corporate governance. Toward that end, we identify specific reforms tailored to increasing the incentives for corporate officers and directors to demand and obtain better legal advice.

Keywords: Sarbanes-Oxley, ethics, lawyer regulation