Spitzer calls for greater institutional investor involvement

New York Attorney General Elliot Spitzer, widely known on Wall Street for having led recent legal attacks on conflicts of interest between underwriting and stock analysis at investment banks, told attendees of the PRMIA 2003 summit today that institutional investors would have “re-engage” and “exercise voice” as shareholders to improve corporate governance revealed as flawed during 2001 and 2002’s corporate scandals.

“The single most important piece of work we have yet to do relates to institutional shareholders,” Spitzer said. “Institutional shareholders ultimately are the ones who have to resurrect corporate governance,” he added.

Spitzer said recent statistics showed that the holding periods of individual stocks by large shareholders had fallen and suggested that active trading was not helping to close the gap between stockholders’ interests and those of the figure of the “imperial CEO” who arose in the late 1990s. Spitzer added that tax incentives to encourage longer equity holding periods could help address the issue, and later said that legal reform in the US to allow institutional investors to sit on corporate boards could also help.

Spitzer described the 1990s as a period in which regulators and other corporate observers like corporate boards, accountants and institutional investors had ‘defined deviancy down’, or allowed small infractions to go unaccounted for, thereby making it more like likely that larger infractions would follow. “Just as one barnacle suddenly aggregates into 100 or a thousand, making the boat un-seaworthy, so one off-balance-sheet partnership at Enron…became 5, 10, 1000 and suddenly the entire ship foundered,” he said.

Spitzer said that the US corporate reform law Sarbanes-Oxley, which requires ceo’s at US public companies to legally attest the accuracy of their companies’ financial statements, may have desirable effects, though it was in some respects too early to tell.

Asked by an audience member whether criminal punishment would have been a stronger deterrent to investment banks against engaging in deceptive practices in the future, Spitzer replied the answer wouldn’t be known for five or ten years. He said that he and other regulators had chosen not to criminally indict banks after uncovering evidence of conflicts of interest because the damage to the financial system would have been too great.

Spitzer did, however, offer a warning: “I told them [investment banks] very clearly that the sword of Damocles will fall next time on whatever inhibitions I had about simply bringing the indictments that we could have brought that would have led to people being in prison.”