On April 17, 2006, the Securities and Exchange Commission issued Litigation Release No. 19657, which states that the SEC and Tyco have settled terms over this fraud. In its civil complaint, the SEC alleges that Tyco undervalued assets and overvalued liabilities acquired in business combinations, inflated operating income and cash flows from operating activities, and bribed foreign officials in Brazil. The SEC also contends that Tyco covered up these activities with false and misleading financial reports. In the usual fashion of these decrees, Tyco neither admits nor denies the charges; nevertheless, it consents to the judgment. In this case, Tyco must pay a $50 million penalty.

But, just a minute! Who is really paying this $50 million fine? It's not management, neither Kozlowski nor Schwartz (the SEC continues its investigation of them, and they may receive additional fines), nor Tyco's present management team. The board of directors is not paying the fine either. Given the firm itself is paying this ticket, it implies that the real payers are the investors of Tyco, who in effect must cough up $50,000,000. So this raises the question -- why should the investors get ripped off twice?

Let's go back to basics: civil penalties and criminal sentences serve two purposes in our society. First, they satisfy, however partially, our collective sense of justice. Kozlowski and Schwartz defrauded many investors, and these aggrieved investors seek justice, but they seek justice against the perpetrators of the conspirators, not the victims. Not themselves. Second, society issues civil penalties and criminal sentences to deter future crimes. The idea is that if the disincentives are sufficiently obnoxious and if the probably of enforcement is sufficiently high, then future managers are less likely to follow suit with their own crimes against investors. In this case too, the argument is persuasive as long as the courts levy fines and punishment against the malefactors and not against the victims.

The SEC has for a long time engaged in these civil judgments against firms that have experienced accounting and securities fraud. It would do well for the SEC to re-examine this policy, realize that its effects are pernicious and counterproductive, and then repeal the strategy. It is silly for the investors to suffer for the wrongdoing by corporate thieves masquerading as managers.

As an aside, the reader may remember the infamous committee headed by David Boies, on behalf of Tyco's board of directors, to examine the Tyco situation and determine whether Tyco had engaged in an accounting scam. Tyco issued this report in an 8-K filed on December 30, 2002. That committee kept its eyes closed and found that "there was no significant or systemic fraud." I wonder what excuse David Boies or the other members of the committee could provide today for their wanting analysis.

If the SEC really desires to deter future accounting frauds, it must align its punishment with the scoundrels who carry out these misdeeds. The SEC also must enforce the securities laws to the fullest extent possible. If today's managers see other managers hauled off to prison or paying huge fines, they will be less apt to steal from and cheat investors. If today's managers see the corporation fined and thus feel little or no impact themselves, well, the firm becomes one's personal piggy bank.