Tuesday, January 13, 2009

US Supreme Court Asked to Rule PCAOB Unconstitutional

A small audit firm has asked the US Supreme Court to declare the PCAOB unconstitutional because Sarbanes-Oxley Act provisions creating the Board violated the separations of powers and Appointments Clause by stripping the President of all powers to appoint or remove or otherwise supervise Board members. In its petition, the firm said that the Board is a congressional attempt to create a ``Fifth Branch’’ of the federal government over which the President has less control than over ``Fourth Branch’’ agencies like the SEC which currently reflect the outermost constitutional limits of congressional restrictions on the executive. (Free Enterprise Fund v. PCAOB, Dkt No 08-861).

A split federal appeals court panel had ruled that the PCAOB is constitutional and rejected claims that SEC rather than presidential selection of Board members violates the Appointments Clause. The panel concluded that Board members are inferior officers of the United States within the meaning of the Appointments Clause; and thus properly appointed by the SEC. The fact that the Sarbanes-Oxley Act limited the SEC’s authority by providing that Board members can only removed for cause did not elevate Board members to the status of principal officers of the US worthy of presidential appointment. Despite the for-cause removal, said the panel, the fact remained that the Act gave the SEC comprehensive and pervasive control of the PCAOB, including the approval of the Board’s budget. Free Enterprise Fund v. PCAOB, No. 07-5127, DC Circuit Court of Appeals).

The US Court of Appeals for the DC Circuit, by a 5-4 vote, denied full or en banc review of the split panel decision. Given the fact that four circuit judges wanted a full review of the constitutional issues surrounding the Board’s creation made it almost certain that Supreme Court review would be sought.

The full circuit court denied the rehearing en banc in a one page order, with no written opinions. Judge Kavanaugh, who dissented in the panel opinion, would have granted review. He was joined by Circuit Judges Ginsburg and Griffith, and Chief Judge Sentelle. Voting to deny full court review were Judges Brown and Rogers, who were the majority on the panel decision, and Judges Henderson, Tatel, and Garland.

The Appointments Clause empowers the President to appoint officers of the U.S., while allowing Congress to vest the appointment of inferior officers in Heads of Departments. The audit firm argued that PCAOB members are not inferior officers since they are neither appointed nor supervised on a daily basis by principal officers directly accountable to the President. Rejecting this argument, the appeals court held that the SEC is a Department; that the commissioners are Heads of a Department under the Appointments Clause; and that PCAOB members are inferior officers subject to appointment and removal by the SEC. Thus, the Sarbanes-Oxley Act provisions creating the PCAOB did not violate the Appointments Clause.

The SEC’s power over the PCAOB is broad and complete, noted the court, since no Board rule or standard is promulgated and no Board sanction is imposed without the Commission’s stamp of approval. Further, all Board adjudications are subject to Commission review. Indeed, any policy decision of the Board is subject to SEC oversight.

The SEC can also relieve the Board of any enforcement authority. Audit firms inspected by the Board can seek SEC review of their inspection report. The SEC can modify the Board’s investigative authority as it sees fit and may mandate that all decisions regarding enforcement actions be approved by the Commission.

The audit firm’s argument that the SEC is not a constitutional Department of the federal government capable of appointing Board members was also rejected. The court said that the Commission is “Cabinet-like” because it exercises executive authority over a major aspect of government policy, and its principal officers are appointed by the President with the advice and consent of the Senate. The SEC is not a subordinate body attached to an executive department, noted the court, but is in itself an independent division of the Executive Branch with certain independent duties and functions.

Moreover, the commissioners are heads of a Department under the Appointments Clause because they, as a group, exercise the same final authority as is vested in a single head of an executive department. Congress gave the SEC rulemaking, investigative, and adjudicatory authority. And, emphasized the court, Congress can authorize multi-member commissions to appoint inferior officers.

Finally, the appeals panel rejected the argument that the legislative creation of the PCAOB violated the separation of powers doctrine by directly encroaching on the Executive Branch’s appointment, removal, or decision making authority. The court said that the double for-cause limitation on removal of Board members did not constitute an excessive attenuation of Presidential control of the Board.

The President is not completely stripped of his ability to remove Board members. Like-minded SEC Commissioners can be appointed by the President, noted the panel, and they can be removed by the President for cause; and Board members can be appointed and removed for cause by the commissioners. Although the level of Presidential control over the Board reflects Congress’s intention to insulate the Board from partisan forces, acknowledged the court, this statutory scheme preserves sufficient executive influence over the Board through the Commission so as not to render the President unable to perform his or her constitutional duties.

Further, there is no thought that the Board’s creation represents an unprecedented congressional innovation. The SEC’s wide-ranging oversight over the Board was modeled after the rules regarding Commission authority over self-regulatory organizations in the securities industry, which has existed for over seventy years.

But the audit firm argued that allowing the panel opinion to stand would permit Congress to dramatically alter the rules governing the organization of the federal government by reducing the President to the symbolic role of appointing bipartisan independent commissioners with defined tenure who, in turn, would appoint independent Boards that do the actual governing, but cannot be removed by the President in any circumstance or even by the independent agency absent offenses which would justify impeachment.

While the panel found that the President had influence over the SEC, said the audit firm, it did not suggest that such influence could coerce the SEC to exercise its discretion to remove Board members. Thus, since the President cannot order the SEC to remove a Board member, the Act strips the President of any power to remove and violates constitutional separation of powers.

A President facing an SEC reluctant to remove a Board member would have only the avenue of removing all the recalcitrant commissioners and nominating new ones that he or she hoped would effectuate the removal; and then the Senate would have to confirm the new commissioners. The audit firm concluded that this unrealistic removal scenario, itself hostage to Senate concurrence, violates separation of powers. The firm said that earlier Supreme Court decisions recognized that the President’s removal authority is a necessary element of executive power and cannot be subject to plenary congressional control.

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