Judge Clears Raines

September 23, 2012

Eight years after leaving Fannie Mae under a cloud of accusations that he manipulated earnings and knowingly violated accounting rules to enrich himself and others at the expense of shareholders, Judge Richard J. Leon of the US District Court for the District of Columbia cleared former Chairman and CEO Frank Raines of the allegations by granting a motion for summary judgment to dismiss the shareholder class action led by the Ohio Public Employees Retirement System and the state's Teachers Retirement System.  In dismissing the suit, Judge Leon wrote that

"There is  not only no direct evidence that Raines intended to deceive Fannie Mae's investors, there is no evidence that he even knew his statements were false....Additionally, plaintiffs fail to offer sufficient evidence to conclude that Raines's statements that they specifically identify as misrepresentations are even false.  Instead, plaintiffs merely carve up Raines's statements to fit their story."

The judge's acerbic and detailed dismissal of the  accusations leveled against Raines -- and in companion suits that have not yet been resolved, against former CFO Timothy Howard and Controller Leanne Spencer -- is a great relief to him, of course.  But it is also to those of us who worked at Fannie Mae when the company's accounting rules were questioned first by our regulator, OFHEO, and later ruled improper by the SEC.  To be clear, those facts are not in dispute:  the company misapplied generally accepted accounting rules in a number of areas.  The resulting earnings restatement cost millions of dollars, upended the company, ended careers, tarnished many reputations, and brought on significant changes in senior leadership, culture and focus within the company.  But the company had made a mistake.  It had to be rectified.  It was.

It's just a shame that the company's mistakes became the center of a feeding frenzy in which the integrity of everyone in the company -- from Frank on down -- was questioned.  Fannie wasn't the only large US company forced to restate earnings because of accounting rules.  It won't be the last.  But the eagerness with which the errors were blamed on deliberate attempts to manipulate earnings stands out.  Many of us spent long evenings trying to explain the intricacies of the actual accounting problems to friends and colleagues.  All of you said you hadn't heard them in the media.  Some of you were gracious and accepted that the errors were real, but the motivations ascribed to Frank and others were not.  Many others simply dismissed the explanations and concluded the worst about Frank and the company.

Leon writes in his decision that 

"At bottom, plaintiffs make much ado about earnings management, but plaintiffs present no evidence that Raines was ever aware that these transactions may have violated GAAP or, more importantly, were being used for an improper purpose....plaintiffs have not identified any evidence that Raines knew or, indeed, had any reason to know, that Fannie Mae's accounting violated GAAP. Further, plaintiffs have not identified any evidence that Raines intentionally misled investors through his statements concerning the implementation and operation of these accounting policies."

Leon has yet to rule on the other class actions involving other Fannie Mae executives.  I look forward to reading them when published, and I hope for the best for all of them.  But the dismissal of the class action against Raines hopefully offers strong caution against leaping to conclusions or attributing evil intent when people or organizations make mistakes or misapply complicated rules.  Raines released a statement after the ruling in which he noted that

“Today’s decision puts to rest unwarranted allegations that I have spent eight years refuting.  These reckless charges have wreaked untold damage on me, my family, my career ,and  my reputation.  But I cannot help but echo the question asked by former Labor Secretary Ray Donovan when he asked ‘which office do I go to to get my reputation back.’”

As Leon concludes,

"A failure to understand, or even negligent behavior, is not the equivalent of the necessary intent to deceive or conscious disregard of obvious risks."

In this season of increasing hyperbole and name-calling, it's judicial advice worth keeping in mind.