Can the SEC Handle All This Scandal?

Its chief enforcer faces a swelling caseload and a frozen budget

The first chairman of the Securities & Exchange Commission, William O. Douglas, once said that the agency should always keep "a well-oiled shotgun in the corner" to use on miscreants. Douglas' embattled 25th successor, Harvey L. Pitt, has more reason than most to remember that. For Pitt, Stephen M. Cutler is that shotgun.

As director of the SEC's Enforcement Div., Cutler is the top cop on what's now Washington's highest-profile beat. But his toughest task isn't just catching those responsible for such high-profile financial failures as Enron Corp. and Global Crossing Ltd. Cutler also has to convince skeptical investors and hang-'em-high lawmakers that the SEC can restore confidence in Corporate America. That means overcoming the strong impression--created by Pitt's stumbling start and the Bush White House's stinginess--that his bosses would rather let the SEC's shotgun rust.

Is Cutler up to that job? The 41-year-old lawyer is far more of a crusader than his boss: After graduating from Yale Law School, Cutler spent a year working with Bill Lann Lee, who later headed the Justice Dept.'s Civil Rights Div. under Bill Clinton. Those who have come up against him say Cutler, who assumed the top job in October after three years as deputy, is a daunting strategist. "You don't face off with Steve Cutler--it's more like a chess match," says Ralph C. Ferrara of Debevoise & Plimpton, who defended MicroStrategy Inc. in 2000 when the SEC collected $11 million in penalties and restitution from execs of the McLean (Va.) software company for using aggressive accounting. Ferrara adds: "You won't get a lot of table-pounding from Steve--but you will see a lot of sanctions against people who violated the law."

The sorry state of accounting is Cutler's priority. In the first eight weeks of 2002, Enforcement has launched accounting inquiries into 45 companies, a 165% jump in a caseload that has been rising since 1998. Post-Enron, "we're getting lots of cards and letters, and more of them from people with firsthand knowledge of misconduct," Cutler says.

But to turn tips into fines and penalties, Cutler needs resources and backing--and the picture is worrisome on both fronts. The Bush Administration froze the SEC's 2003 budget--which Pitt O.K.'d. The chairman won't say if he'll ask Congress for more. For this year, Cutler sees no increase in his team of 775 lawyers, accountants, and market-watchers despite the growing caseload. "We're stretched thin," he says.

Pitt's rhetoric hasn't helped. After a career defending accountants, brokers, and executives against SEC charges, Pitt launched his tenure with a speech promising accountants a "kinder and gentler" SEC than under his predecessor, Arthur Levitt Jr. Then came an SEC report spelling out how companies with bookkeeping woes that turn themselves in might win lighter penalties. And Pitt has been slow to respond to Enron Corp. "In most corporate scandals, the SEC chairman is the drum major in front of the reform parade," says John C. Coffee Jr., a securities law professor at Columbia University. "This time, the band marched over the drum major, and he's had to catch up with the parade."

Pitt talks a lot tougher now. He wants "real-time enforcement," he says, forcing companies to restate their books sooner and speeding cases. The chairman also wants harsher penalties. He would strip executives of bonuses and option rewards that were based on inflated stock prices. And the SEC is calling in the Justice Dept. to seek criminal charges on more cases: "Nothing speaks as loudly to Corporate America as the prospect of jail time," Cutler says. The agency also wants more power to bar offenders from serving as officers or directors of public companies.

Still, Pitt's main tool for restoring the SEC's credibility is Cutler, who has free rein to investigate Enron, Global Crossing, and their auditor, Arthur Andersen. "I've told my staff, `We've got to bring a tough prosecutorial attitude, but also a sense of justice,"' Cutler says. A few more shells for his shotgun wouldn't hurt, either.

By Mike McNamee, with Amy Borrus, in Washington

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