Corporate Governance

Free Enterprise Fund v. PCAOB: Regulation, the Free Market, and the Constitution (The Legal Issues Involved) (Part 3)

By J. Robert Brown

The case has produced a nice volume of paper but few truly interesting issues. The PCAOB brief (and the one filed by the SEC Commissioners as amicus) contends that the case is a renewed attack on independent federal agencies, a fight that was quelled long ago, with the Supreme Court giving up the ghost on that issue in Morrison v. Olson, 487 U.S. 654 (1988).   It is actually an attack on a form of self regulation that relies on market forces but leaves governance largely in the hands of the government.   

One issue involves challenges under the Appointments Clause.  The Appointments Clause of the Constitution accedes to the President the power to:

• appoint Ambassadors, other public Ministers and Consuls, Judges of the supreme Court, and all other Officers of the United States, whose Appointments are not herein otherwise provided for, and which shall be established by Law:

Article II, Section 2.  To the extent, therefore, the appointment is a Principal Officer of the United States, the President has plenary right to appoint.  Inferior officers are treated differently.  The Constitution provides that "Congress may by Law vest the Appointment of such inferior Officers, as they think proper, in the President alone, in the Courts of Law, or in the Heads of Departments."  The right to appoint inferior officers can, therefore, be vested in persons other than the President. 

Plaintiffs assert that the members of the PCAOB are Principal Officers and the authority to appoint cannot be given to the Securities and Exchange Commission.  Moreover, they argue that even if Inferior, the SEC is not a department and the Commission, as a group, is not the head of the department. 

Trying to separate Principal from Inferior can be a law professor's dream exam question.  But this case is not the difficult one.  The sin qua non of “inferior” is, as the word suggests, primarily the need for hierarchy.  The official must have someone to report to and must essentially lack final authority over regulatory matters.  Despite prodigious efforts to the contrary, Plaintiffs have not succeeded in overcoming this test.  Almost everything the PCAOB does is subject to review by the Commission. 

As for the SEC not constituting a department, that argument might have had some credence in the era of Humphrey’s Executor, when independent agencies were described as quasi-judicial, quasi-legislative, quasi-executive, located in the interstices of the branches, so to speak.  In other words, there was a basis for arguing that departments meant executive branch and these agencies were somewhere else.  But Morrison put paid to that idea.  So called “independent” agencies are in the executive branch.  As such, to exclude a functional unit from the definition of “department” is silly, and frankly a position that would probably mean a number of current employees of the Commission were improperly appointed.

The idea that it is the Chairman rather than the entire Commission that constitutes the “head” of the department would seem equally off base were it not for the fact that the trial court agreed with this interpretation. See FEF v. PCAOB, 2007 U.S. Dist. LEXIS 24310 (D DC March 21, 2007) ("Multi-member bodies may, on occasion, properly constitute heads of departments for Appointments Clause purposes, but the SEC is not one of them.").  Plaintiffs seem to suggest that this is a matter of constitutional interpretation.  In fact, it is a matter of statutory interpretation. 

There is nothing in the term "head" that precludes a collective body.  The only issue is who Congress designated as the head of the agency.  In fact, the district court in finding that the "head" was the Chairman seemed to rely on congressional intent.  The district court provided no real basis for concluding that the Commission as a whole was not the head of the agency.  The court did not conduct an examination of the Commission's authority or the language of the relevant statute (see 14 USC 78d) (stating that the head of the agency was a five person commission).  The court merely noted that the body lacked the power to replace the Chairman or to revoke authority delegated to the Commission as a whole.

The Chairman of the SEC has some unique authority.  Most matters, including those governing the SROs, however, require resolution by "the Commission."  This in turn is only possible after a collective decision, not a unilateral decision by the Chairman.  Indeed, when the Commission was created in 1934, it was the Commission that collectively determined the Chairman, not the President.  This is certainly a strong indication that in 1934 Congress intended the entire Commission to be the "head" of the agency. See SEC v. Blinder, Robinson & Co., 855 F.2d 677, 681 (10th Cir. 1988) ("The statute does not provide for a chairman. Until 1950, the Chairman was elected annually.").   It is a factual determination that turns on congressional intent.  The better reasoned view is that the entire Commission rather than the Chairman is the "head" of the SEC. 

We have posted on the DU Corporate Governance web site most if not all of the important documents on the case, including the assorted amicus filed in the appellate case.

Full post as published by The Race to the Bottom on July 01, 2008 (boomark / email).