SEC puts teeth in ‘duty of care’ — how it could bite you now

A Securities and Exchange Commission insider told The New York Times that the 24-hour period between Thursday and Friday of last week was “rare” for the SEC, and indeed, it validated the new zero-tolerance posture being taken by the agency’s tough incoming chairwoman, Mary Jo White. During that brief period, the SEC (surprisingly) rejected a settlement with billionaire hedge fund manager Philip A. Falcone and then charged Steven A. Cohen, another billionaire trader, with administrative wrongdoing.

Before the end of the working day on Friday, it also formally accused the city of Miami of securities fraud. Most people can’t imagine being professionally caught up in any of that drama, but it’s the charge against Cohen that could have ramifications for all business managers everywhere.

Cohen’s situation is this: Two of his SAC Capital Advisors portfolio managers are facing trial in November on charges stemming from a 10-year investigation of the hedge fund for trading on insider knowledge. Mathew Martoma is accused of improperly acting on data about a clinical drug trial while Michael S. Steinberg allegedly traded on confidential information about Dell’s financial performance. The pair will face trial in November. Unfortunately for Cohen, the SEC is now intending to bar him from overseeing outside investor funds in the future, which would essentially shut him out — though he, himself, was never formally accused of insider trading or fraud and has vehemently denied knowing anything about it. The charge against him is that he failed to properly supervise the activities of his underlings.

“Failure to supervise employees” is a fatal but common “duty of care” mistake. The subtext of the duty of care expectation is that all managers (and that definition now extends even to team leaders) are held accountable for knowing and enforcing proper company policy and doing so in compliance with all local, state, and federal laws. Duty of care is a legal expectation that applies to every manager in every workplace, requiring that they act with the watchfulness, attention, caution, and prudence that would be shown by a reasonable person to stay within policy boundaries. Ignorance of duty of care tort law does not release a manager from liability for failure to act when necessary, or for supervision of employees who act outside of accepted policy.

For example, Cohen is held to a standard, as a manager, to make sure money is spent correctly and also to ensure fraud is avoided, inappropriate spending does not occur, transparency and accounting records are valid, and steps are taken quickly to rectify problems when found. Short of that due diligence and reasonable expectation, he is chargeable under civil law for fiscal negligence. And now, it appears, with the charging of his agents under criminal law (remember, he was never personally shown to have any responsibility that rose to that level of culpability), he is chargeable under administrative law for a duty of care failure.



Duty of care applies to both organizations and individuals. Schools, for example, have a legal duty of care to provide for the safety of their students. Teachers, as a school’s agents, then have a duty of care in how they deliver services to students. One or both may be found liable if the safety standard isn’t upheld and a student is injured. The higher the mantle of responsibility within the organization, or the closer one is to the situation, the higher the level of scrutiny and assessed liability, since everything begins with policy and then moves to the enforcement of that policy.

Why you should care

This year in particular, we are seeing a shift in courts toward entertaining more and more duty of care cases, and in addition to company liability, personal liability is now being assigned to managers who fail in some regard to properly supervise all the employees and processes in the company. It’s a growing trend in employment litigation, and failure to prepare for that possibility or eventuality is negligence in itself.

I hardly ever “should” on a CEO or business owner, but the bottom line (and it very well could mean everything to a company’s bottom line) is that duty of care training should be an annual requirement for all managers inside your company. This is easily done by making sure managers and team leaders are familiar with federal employment laws that prohibit sexual harassment, discrimination, etc. Then move to state laws, if they hold the business to a higher or different standard, and local expectations. On that, you overlay your company policies about alcohol, personal cell phone use, etc., so that all managers understand and equally administer company policy. Then have the managers sign a statement that they understand the policies and put that signed statement in company HR files.

Managers should request duty of care training (in the same way that board members should require board insurance policies be put into place) to protect themselves. If a company doesn’t have the inside expertise to do it, consider hiring a third-party consulting company that offers the training. Not having it is not a defense in court; in fact, not asking for it or failing to put it into place could be evidence of a manager’s disregard for policy.

A two-hour workshop isn’t a firewall for future suits if there is gross mismanagement or a pronounced failure to supervise activities within the organization, but it is an eye-opening exercise for all involved and sets a tone of expectation that the company will act in compliance with all enforceable policies and laws — and that is your best defense in court.

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