Pitt faces two major obstacles as he sets off to tackle executive wrongdoing: overcoming his own politically tone-deaf mistakes, as well as the controversy surrounding members of the Bush administration, and re-energizing an agency that is inadequately staffed, poorly paid and undermined by the power politics that surround its budget and its regulatory domain. Neither task is easy, especially for a bureaucrat who has approached his job with a plea-bargain mentality.

Thus far, Pitt's response to detractors has amounted to "Don't hate me because I am a lawyer," which misses the problem. Right now, investors don't want someone who's simply not guilty on technicalities. They want someone who is above reproach and willing to go to the mat to make sure the problems are really corrected and not just papered over with legal settlements. Pitt came under the gun after disclosures that he met privately–in one case, against the advice of SEC attorneys–with the heads of both Xerox Corp. and KPMG while the SEC was in the middle of investigations into both companies for alleged violations of accounting laws. Earlier this year, Xerox paid a record fine of $10 million to settle with the agency.

What makes matters worse are the many questions over conflicts of interest and possible malfeasance being raised about other members of the Bush administration. Most recently, the SEC has said it is investigating Halliburton Co. for the way it accounted for cost overruns on construction jobs while Vice President Dick Cheney was CEO. Deputy Attorney General Larry D. Thompson, whom Bush appointed to head up a task force on corporate accountability, faces his own inquiry about how much he knew as a member of the board of directors and chairman of the audit and compliance committee about problems at Providian Financial Corp., which paid $500 million to settle complaints by state and federal regulators that it charged excessive fees of poorer cardholders. Army Secretary Thomas White may have to step down because of his connections with Enron. And then, of course, there is Bush himself, who is being asked to produce information on a 1991 stock sale that the SEC investigated for possible insider trading violations–and passed on–while his father was president.

Rebuilding The SEC

But Pitt's problems go far beyond the criticism of the Bush administration's and his own alleged indiscretions. He must try to rebuild confidence in the SEC itself.

For years, the SEC has had a hard time getting Congress to give it sufficient resources to oversee the ever-expanding scope of the U.S. capital markets and corporate activity. The obvious answer at which both Congress and the Bush administration have arrived is "Give the SEC more money." Currently before Congress is a bill that would raise the SEC's fiscal 2003 budget to $776 million, 66% more than the $467 million the Bush administration initially called for, 38% more than the $563 million Pitt requested in congressional testimony this past March and 77% more than the SEC's FY 2002 budget of $438 million. In the House version, at least $326 million–a sum almost equal to the SEC's entire 1999 budget–would be allocated for enforcement.

"I've never thought the SEC had a sufficient budget to do the job it was supposed to do ?? 1/2 All chairmen have sought greater resources," says David Ruder, SEC chairman from 1987 to 1989 and now a Northwestern University law professor. "Even by 1980 standards, the commission has not had the resources it needs" to handle increased filings.

Supplemental to FY 2002 funding, there is a proposal for $20 million to hire 100 more staffers, which Bush signed off on. The SEC has also requested another $76 million to grant long-overdue pay raises to its professional staffers, who are paid significantly less than those at other regulatory bodies, such as the Federal Reserve and the Federal Deposit Insurance Corp. The Office of Management and Budget has not OK'd this idea, and the White House had once before cut out congressionally authorized funds for this pay hike.

So let's say the SEC gets all the money it has asked for, plus the additional funds Congress seems ready to hand the agency. Is it enough? Some critics aren't so sure. Shyam Sunder, professor of accounting, economics and finance at Yale School of Management, believes it will take a "huge amount of money" to build SEC staffing to a level at which it can review a sufficient portion of the flood of financial statements. At this point, "there's nobody at the SEC who has time to look at these [filings]," Sunder says. "Doubling or tripling or making the number [of staffers] ten times bigger isn't going to do it. To examine even 10% of the documents filed with the SEC, you will need a few thousand accountants."

More May Not Be Enough

Sunder is not alone in this dire assessment. For years, the SEC has relied on a somewhat arbitrary system of random calls from disgruntled employees or badly burned investors to set its investigation priorities. This makes the SEC more of a reactive agency rather than one geared toward using the expertise of its accounting staff to sift through corporate filings and ferret out problems. "The SEC needs hundreds of millions of dollars more–above what the House just approved–to handle the cases now and that are expected and to hire more people and to keep experienced people," notes Marc Beauchamp, executive director of the North American Securities Administrators Association. "We are spending hundreds of billions to fight the war on terrorism abroad–we need to fight the war against corporate crime at home."

A special four-month study conducted by the SEC that was to be released in July is expected to lay out resource needs for the agency, and it wouldn't surprise securities lawyers to see the agency asking in the report for even more money and staff to handle the spike in cases. Based on 2001 figures, there are more than 1,000 corporate finance filings annually for each staff accountant, according to one former SEC official. Now, Pitt has called for more frequent filings, which will only add to the workload. "Last year there was a record pace of investigations and now, this year, the SEC is far exceeding that," says Charles Niemeier, the head of accounting in the SEC's enforcement division.

Some gadflies argue that the problem is not only how much the SEC is given to spend, but how the SEC is funded. Unlike other financial service industry regulators, the SEC is a political animal that gets its sustenance from other political animals–namely, the President and Congress–who are lobbied vigorously by companies and Wall Street to keep the SEC under its peak fighting weight. The Fed, the Treasury Department's Office of the Comptroller of the Currency and the FDIC have no such opposition to contend with since they are largely self-funded through membership fees, transactions and FDIC insurance premiums. Those agencies have budgets that dwarf even the increased funding proposed for the SEC. For instance, the FDIC's 2002 budget is more than $1.1 billion and the OCC's is $2.8 billion.

To be sure, SEC self-funding would be possible. Between fiscal years 1982 and 2001, it collected in fees generated from filings, transactions and enforcement fines $8.6 billion more than was appropriated to it during the same period. In fiscal 2001 alone, the SEC raked in $2 billion in fees, while its budget stood at $412 million. Currently, those monies are simply handed over to the U.S. Treasury. Going forward, those figures are expected to fall thanks to the Investor and Capital Markets Fee Relief Act, passed last summer, which lowered the fees paid for transactions and filings.

But Congress and the White House aren't anxious to see an independent SEC in the mold of the Fed, given the interest in SEC actions from many high-rolling campaign contributors. Common Cause estimates that lobbyists from the securities and accounting/consulting industries donated $40 million in soft money in 2000–a presidential election year–and another $11 million in 2001. "The real problem is the fact that the SEC is subject to considerable political pressure. Take the issue of employee stock options–Congress put pressure on the SEC to do nothing because Congress was pandering to special interests," says Robert Verrecchia, accounting professor at the University of Pennsylvania's Wharton School.

For proof, one doesn't have to look any further than the chairman Pitt followed. An activist who called for many reforms that some say might have averted the corporate scandals tripping up the market today, Arthur Levitt was hamstrung by a Republican-controlled Congress that thwarted nearly every reform effort. "Over the prior eight years of Arthur Levitt's chairmanship, Congress said, 'Pass all the rules you want, Mr. Levitt, we're not going to give you the resources to enforce them,'" says one securities lawyer. And these, of course, were the years in which accounting gymnastics graduated to Olympic-level competition.

Three key Levitt-proposed initiatives: 1) including stock compensation to executives as an expense on income statements; 2) severing audit functions from an accounting firm's consulting business and 3) requiring audit committees to disclose their suspicions of suspect or missing material information from financial statements. On this last proposal, perhaps Levitt himself said it best: "Sadly, stories abound of committees whose members lack expertise in basic principles of financial reporting as well as the mandate to ask probing questions. There is no reason why every public company in America shouldn't have an audit committee made up of the right people, doing the right things and asking the right questions." That was in October 1999.

In August 2000, a Public Oversight Board panel, formed at Levitt's request, also called for a comprehensive review of how independent audits were conducted and made the controversial recommendation that a forensic-style approach be adopted. That involves auditors taking a more adversarial role with clients by suspending their neutrality and auditing against what they finds. But, as expected, the idea was torpedoed by the industry, which counted among its legal advisors Pitt himself. "I'd like to think that if this had been in place, this [accounting crisis] wouldn't have happened," notes panel chairman Shaun O'Malley, who is also chairman emeritus of the accounting firm that became PriceWaterhouseCoopers. A former SEC official concurs: "Enron wouldn't have happened" if O'Malley's panel reforms had been adopted before "shenanigans" began.

Watered-Down Reform

Pitt threw out the recommendations when he arrived at the SEC in 2001, and the POB dissolved several months later. Pitt's own proposal for an independent Public Accountability Board, with a raft of disciplinary options short of subpoena power, has more teeth than the POB did. But some critics say it is still a watered-down version of the sort of meaningful enforcement required on the auditing side.

Another smaller structural problem facing the SEC is the fact that it cannot file its own criminal cases and must depend on support from U.S. Attorney's offices across the country. When a charge is referred to New York's southern district in Manhattan, where there is considerable expertise handling financial crimes, there is less difficulty getting the U.S. Attorney to sign on. But in other areas of the country that lack the in-house expertise, the SEC has encountered foot-dragging by U.S. Attorneys, who see these kinds of cases as time-consuming and difficult to explain to juries. Ross Albert, a former SEC Senior Special Counsel now with the Atlanta law firm of Morris, Manning & Martin LLP, says that "the high profile nature" of the Enron, Andersen and WorldCom scandals may make U.S. Attorneys "more receptive to pursuing [SEC] referrals."

Beyond these, the agency also suffers from a morale problem. Despite the SEC's charge, staff has felt that up until now the agency ranked low on the administration's list of concerns. One piece of evidence: Two of five seats on the commission remain vacant during such a crucial period.

Clearly, the problems facing Pitt are huge, given the exponentially escalating scope of corporate lawlessness. And unfortunately for him, there is a good chance people will suspect his motives regardless of what he recommends. "I continue to believe that Harvey Pitt should resign–not that he is a bad person, but his career is intimately tied to the industry and he may well return to it," says Larry Mitchell, a corporate law professor at George Washington University. "Short of him remaking the rules, I am suspicious that anything he does would be adequate."