Sunday, January 25, 2009

Why the SEC is probing Steve Jobs

NEW YORK (Fortune) -- Apple and its CEO-on-leave-but-still-active-sort-of Steve Jobs practically forced the Securities and Exchange Commission to look into the adequacy of the company¹s disclosures about Jobs's medical problems. But the investigation may have less to do with Jobs's health than with the SEC's.

The SEC, trying to reestablish its credibility after years of ignoring explicit and apparently dead-on warnings that Bernard Madoff was running a massive Ponzi scheme, could hardly afford to ignore Apple's latest in-your-face flip-flop concerning Jobs's battles with a rare form of pancreatic cancer, a subject that Jobs and the company's board have generally considered Jobs's personal, private matter and none of investors' business.

Though the precise scope of the probe, reported yesterday by Bloomberg and the Wall Street Journal, is still unclear, it was obviously triggered by Jobs's announcement last week that he would be taking a six-month medical leave notwithstanding a press statement just nine days earlier in which he reassured investors that his gaunt appearance was the result of a mere "hormonal imbalance" whose remedy would be "simple and straightforward." An Apple spokesman declined to comment on the media reports of an SEC inquiry.

Jobs was first diagnosed with the disease in October 2003, but disclosed nothing until Aug. 1, 2004, the day after his surgery, when he publicly pronounced himself "cured." Then, after Jobs's emaciated appearance last June spurred press inquiries over whether the cancer had returned, an Apple spokesman claimed Jobs was suffering from "a common bug." A month later the New York Times reported that Jobs had recently undergone more surgery to address nutritional problems apparently stemming from his cancer surgery.

Fears were stoked again - and Apple's (AAPL, Fortune 500) stock price began plunging - when Apple announced in December that Jobs would not be delivering his traditional keynote address at Macworld. Finally, on the morning of Jan. 5, in an effort to stanch the death-bed rumors, Apple issued its upbeat, now-infamous claim that, after conducting a "sophisticated" battery of blood tests, Jobs's doctors now believed he had an easily treatable "hormonal imbalance." Apple stock jumped more than 4% that day.

Columbia law professor Jack Coffee told Fortune last week that corporate executives' medical conditions, like any condition potentially affecting a company¹s performance, are subject to two general disclosure principles.

First, the company has a quarterly duty to disclose "any known risk, event, trend, or uncertainty" that could affect "future results of operations." Whether any given officer's medical condition rises to that level is a very difficult call, he said, hinging both upon the indispensability of the officer to the company and the severity of his or her medical condition.

Pancreatic cancer in Steve Jobs has to get a you awfully close to the trigger point, one would think. (The securities laws make no explicit exception for privacy rights. While most lawyers assume that officers of public corporations do have some legitimate privacy concerns that enter into this analysis, those concern don't trump investors' right to know what¹s going on.)

The second disclosure principle is easier to understand and apply, Coffee continued. Once the company does decide to disclose anything about an executive's health, that information has to be the truth, and the whole truth. "You can't lie," as the professor put it.

In Apple's case, the board of directors and CEO Jobs may be in slightly different legal postures. Though both have disclosure obligations, it is quite possible, due to medical confidentiality rules, that all the board's information about Jobs's medical condition comes entirely from Jobs.

Hypothetically, if a CEO were to mislead a board about his medical condition and the board then, relying upon the CEO's information, released a misleading account of the CEO's health status, the CEO would be committing securities fraud while the board would not be. That's because mere negligent false statements don't constitute securities fraud. To be fraud, the statements have to be made intentionally or recklessly.

(This writer has no reason to believe Jobs did mislead Apple's board, of course. It's quite possible that between Jan. 5 and Jan. 14 new information came to the attention of Jobs's doctors causing them to alter their evaluations. That's doubtless the main question the SEC wants to have answered.)

As frustrating as Apple's disclosures have been for its shareholders, I doubt we'll see much will come of this SEC inquiry. The strength of any case against Jobs or the Apple board is directly proportional to how much mortal danger Jobs is now in. And nobody wants to launch an enforcement action against a beloved American business icon who's fighting for his life.

Which is not to say that the SEC inquiry was ill-advised. On the contrary, the SEC needed to do one both to remind corporations that there are pertinent disclosure rules that apply here and, more important, to show dubious investors that someone really is still awake and stirring at the SEC.

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