Business Brief: The Big Lie

Last week, the prosecution put ex–Hollinger accountant Fred Creasey on the stand to testify that Black and co-defendants had snuck the non-compete agreements into various documents without proper disclosure. The defence must have thought it was fishing in a barrel when it was able to show Creasey document after document and have him confirm time and again that, oops, he was wrong; the non-compete agreements had been approved by the board, vetted by the lawyers, blessed by the accountants, and shown clearly in regulatory filings.

So who should be on trial for fraud? Should it be the board that approved the non-compete agreements? The lawyers that vetted them? The accountants that blessed the disclosure of them? The regulators, like the SEC, in whose required filings the agreements were fully laid out? Nope. None of them. They may all have been fairly pathetic and useless, but they were hardly perpetrators of fraud.

The real fraud artists are the governance theorists who have spent decades trying to convince gullible shareholders that, in combination, boards, lawyers, accountants and security regulators can and will protect them from badly behaved executives. This is, plain and simply, a myth. Boards, lawyers, accountants and security regulators work just fine in the presence of well-behaved executives—when shareholders don’t actually need protection. But in the face of smart, bloody-minded executives—who have as their top priority the extraction of value from the outside shareholders—the appointed watchdogs are seriously outgunned. Executives strongly influence board composition, lawyer selection and accountant selection. In addition, executives establish the nature of the relationship with board, lawyers and accountants. And security regulators tend to accept as legitimate materials vetted and approved by boards, lawyers and accountants. Executives also have a huge information advantage over boards, lawyers and accountants, who unlike them don’t live in the company on a day-to-day basis. Anyone interested enough in governance to delve deeper can find my four-year-old analysis of the fundamental problems with corporate governance here.

The only good thing that I hope will come out of this trial is that shareholders will better understand that nobody is well-equipped to protect them from ill-intentioned executives. As a consequence, they need to take into consideration the moral character of the executives, especially the CEO, of the companies in which they consider investing. Seen in this light, it’s not surprising that a CEO who has no respect for shareholders would attempt to extract the magnitude of value that Black and his associates did from the shareholders of Hollinger. In fact, it’s almost inevitable.