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When Companies Investigate Themselves

The investigations have become so widespread, Polkes said, that big law firms are trying to get in the action. "Lots of places are trying to do it. It's a growth industry."

But while increasingly popular, internal investigations are extremely delicate undertakings that present directors with a number of tough questions: Should the results be disclosed to the public? Should directors confess to regulators if they find questionable, but not clearly illegal, practices? Do the investigations simply provide powerful ammunition, free of charge, to aggressive plaintiffs' lawyers?

The results of Enron's internal investigation provided information on wrongdoing to prosecutors. (Richard Carson -- Reuters)

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Subjects of the investigations also sometimes bite back. At Hollinger, former chief executive Conrad M. Black filed a libel suit after the release of the company's internal review, which was conducted by former SEC chairman Richard C. Breeden. Black said the report amounted to a gossipy novel filled with nuggets that, while perhaps titillating, reflected no wrongdoing. He also accused investigators of leaking information to the press.

"If you were reading coverage of the investigation, you would have thought that at any minute they were going to lead him away in handcuffs," said Black spokesman James Badenhausen.

Former New York Stock Exchange chairman Dick Grasso, who was sued by New York state Attorney General Eliot L. Spitzer over his $139.5 million compensation package, filed a $50 million countersuit against the exchange and Chairman John S. Reed in July alleging breach of contract and defamation of character. And he hired one of the nation's top litigators, Brendan V. Sullivan Jr., to press his case.

The issue of whether to disclose is always sensitive and generally depends on how much trouble a company is in. For instance, Tyco directors, facing criminal indictments of former top executives, never seriously considered keeping private the results of an internal investigation conducted by lawyer David Boies. Failure to disclose, they believed, would enrage investors and suggest that wrongdoing at the company spread well beyond the actions of former chief executive L. Dennis Kozlowski and former chief financial officer Mark H. Swartz. A criminal case against Kozlowski and Swartz ended in mistrial in April, and the two are scheduled to be retried on conspiracy, grand larceny and securities fraud charges next month.

"There was never any debate," said Eric M. Pillmore, who was brought in by Kozlowski's successor, Edward D. Breen, to overhaul Tyco's corporate governance policies. "[Breen's] commitment to shareholders was that he was going to be entirely transparent. . . . We understood the potential downside. But the commitment we had made didn't allow us to do anything different."

At mortgage-finance giant Freddie Mac, which hired former SEC chief counsel James R. Doty of the law firm Baker Botts LLP to conduct an investigation, the board members also thought they had no choice but to make Doty's report public. They reasoned it was the only way to assure public debt markets there were no further problems lurking in connection with the company's $5 billion restatement of earnings. Rattling the debt markets would have raised the company's cost of borrowing, a problem potentially more damaging to earnings than any lawsuit.

But the NYSE, which is not publicly traded, kept its Grasso investigation by former prosecutor Daniel K. Webb under wraps because of concerns that it would be too "embarrassing" to directors who approved the pay, according to Reed.

Regulators and prosecutors generally applaud internal investigations -- as long as they are truly independent, thorough and objective. Paid for by the company, the investigations often save the government time and money.

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