U.S. Markets open in 1 hr 44 mins

Big Fines, but Business as Usual?

Yahoo! Finance
The Exchange

By Vera H-C Chan

Claiming your hazlenut chocolate spread is a healthy breakfast treat: $3 million. Inadvertently sneaking past browser privacy settings: $22.5 million. Falsely claiming a shoe will tone your buttocks: $40 million.

Companies have been paying hefty fines and negotiating high-profile settlements, among them GlaxoSmithKline's $3 billion charge — the largest health care fraud settlement in U.S. history. HSBC, which just copped to money laundering, might see a $10 billion penalty.

These are staggering figures to an ordinary person — but do they make would-be violators think twice? Or do companies easily absorb penalties as the cost of doing business? A $22.5 million charge may be a Federal Trade Commission record, but Google can pay that in five hours. (See chart, below.) Plus, during a time when citizens rail against big government and too-big businesses, there can be a split sentiment over large-penalty cases and class-action settlements.


Landmark civil-rights cases have resulted in stronger protection for consumers, employees and certain groups (e.g., the disabled). But tracing the connection between payouts in, say, fraud cases and industry behavior is no longer so clear. The failures at Enron, Tyco and Worldcom triggered the Sarbanes-Oxley Act and studies showed blow to reputation, but this didn't prevent Wall Street's meltdown years later.

The research in this area is limited and contradictory, says James Anderson, a RAND Institute social/behavioral scientist. Plus, there's no effective way to study what would happen if there were no penalties. Anecdotal evidence abounds about compliance programs tuned up after the fact, but it's difficult
to track whether companies feel a fine is cheaper than enforcing an "onerous" compliance program.

"Our work indicates large fines in over half the cases do not appear to be a deterrent. This finding was exactly opposite what we thought we would find," says John Nugent, an associate professor at the School of Management, Texas Woman's University.

Shareholder Pays, Culprits Scot-Free?

A study by Nugent of Texas Woman's University notes that the institution may pay the fine, but the bad players escape personal responsibility. A fraud charge is often close to impossible because "intent on the part of the defendant to deceive the alleged victim" is hard to prove.

And these days, the marketplace doesn't shun sinners: In Nugent's review of 27 companies fined $30 million and higher in the past eight years, the penalized companies' stock prices didn't suffer as a direct result. That's a shift from earlier studies, which showed " long term erosions of enterprise value and reputation" after a company was fined.

Nugent recommends going after the actual people responsible for the crimes at each corporation and the corporate officers. Until those legal changes can be made, the market will have to police itself. JPMorgan was the first major corporation to "claw back" pay without the government pushing them to do so. The company took back about two-years' pay from three former managers, and the former CIO manager volunteered past compensation.

Government Crackdown, Class-Action Slowdown

The federal government, starting with the Bush administration, has been increasingly cracking down on health care fraud. In April, an antitrust U.S. attorney from the Department of Justice spoke to the Brookings Institution about the current administration's pledge "to reinvigorate antitrust enforcement."

As eyebrow-raising as government fines have been, usually the big payouts come from class-action lawsuits, a uniquely American phenomenon. The class suits initially bundled civil rights claims, but now are often a consumer tool, addressing "small harms in a mass production society," as Stephen Yeazell, professor of law at the University of California Los Angeles, describes it.

Class-action lawsuits, though, have slowed to a steady pace. Nick Pace, a RAND Institute social scientist, says that products liability "dominated the conversation in the legal community 10 or 20 years ago, now not so much. There was steady growth in insurance class actions in the 1990s, but they've leveled off considerably."

One notorious objection to class suits is over attorney fees: Attorneys sometimes pocket more than the individual consumer. The Visa-Mastercard settlement, which took seven years to litigate, could mean a record $600 million paycheck. Payoffs like that get the U.S. Chamber Institute for Legal Reform bristling: "In the typical class action, plaintiffs really have no control," senior vice-president for legal reform Matthew Webb told Reuters."That's where the largest amount of abuse occurs, because there's nobody there watching." But class-suit bonanzas aren't guaranteed and aren't standard.

More Litigation, Less Regulation

What high-profile fines and settlements do, Samuel Issacharoff, a constitutional law professor at New York University School of Law, says, is "reinforce the message that you can't act in disregard of the law with great impunity." The message may have registered late for Barclays, but the bank did raise its hand in the Libor scandal. Despite widespread savaging for poor public-relations moves, its early admission could stave off more lawsuits or criminal proceedings that other guilty banks might face.

After decades of watching Americans wrangle for their individual rights through the court system, other countries may finally adopt that model. In the past 10 years, Mexico, Chile, South Korea, Italy and even France — notorious for legislative regulations — are treading the class-action route.

"Everyone's trying to deal with the fact that we live in the
world of mass markets and mass marketing," Issacharoff says. "In my view, we rely in this country heavily on proactive action for private markets to work without a lot of heavy-handed regulation." The trade-off is more litigation, less regulation. "Our balance is actually pretty healthy."