Around the time that Jones Day signed on with RJR, the firm began a marketing campaign. It didn’t involve TV ads or radio spots or highway billboards. This was a much more discreet, narrowly targeted pitch, and it represented a principal way that the Supreme Court’s Bates decision had revolutionized the legal industry. No longer were law firms content to stick with their clients and to field incoming calls from companies looking for new representation (as had happened with RJR). Passivity was passé. Now it was possible to be proactive, to go out and promote yourself and solicit business.
The consequences of this were more than just opportunities to make money. Law firms had long been able to justify doing business with dodgy companies that were long-standing clients or had come seeking representation. Now they were in a different position. Firms were able—arguably required—to make value judgments when they solicited companies or industries or people. If a firm had moral or ethical qualms about representing, say, gun companies, well, it shouldn’t start marketing itself to gun companies.
This Jones Day marketing campaign was aimed at the savings-and-loans industry. S&Ls—also known as thrifts—were a type of bank that took customer deposits and lent them out, often to finance real estate purchases. With the housing market red-hot, and the Reagan administration having loosened restrictions on thrifts’ size and practices, the industry was booming. Yet regulators were getting nervous about the dubious business practices—ranging from reckless lending to illicit insider transactions—that were rampant in the industry.
When Rick Kneipper conducted his strategic planning at Dick Pogue’s behest, he had homed in on these savings banks as a promising place for Jones Day to trawl for clients. With its rare national footprint and decades-old presence in Washington, the firm could pitch itself as ideally suited to help S&Ls traverse the treacherous regulatory terrain.1 Jones Day began luring federal regulators to the firm with generous salaries and signing bonuses. The more the firm hired, the easier it was to recruit their government colleagues—and to impress prospective clients with the firm’s roster of former feds. In a matter of years, about two hundred2 thrifts would hire Jones Day. It was a remarkable success, except for one thing: The firm’s envelope-pushing work for some of these clients would land Jones Day in deep trouble with the U.S. government.
One new recruit was William Schilling. Immediately before arriving at Jones Day in January 1986,3 he had been the chief examiner at the Federal Home Loan Bank Board, which was responsible for regulating thrifts. One of his last official acts was to write a memo to his government superiors alerting them to problems at a large thrift called Lincoln Savings & Loan. The memo warned that Lincoln was making risky investments in apparent breach of federal banking regulations, “the same type of violations that have led to some of the worst failure in [the regulator’s] history.”4
Pogue had persuaded Schilling to operate out of Jones Day’s Los Angeles office, which had been losing money ever since it opened. His hope was that Schilling could help the L.A. outpost make inroads with thrifts in the western United States.5 Schilling was a hardworking, straightforward guy, eager to show his new colleagues that he could be an asset in the private sector.6 An opportunity soon appeared. Lincoln and its parent company, American Continental, were owned by a politically connected businessman named Charles Keating. Word had reached Jones Day that Keating was looking for lawyers.7 Kneipper wrote an eleven-page letter to Keating touting Jones Day’s experience advising thrifts and its bench of former regulators like Schilling.8
Keating invited Schilling and Kneipper to Phoenix for lunch. Their pitch was that Jones Day could scrub Lincoln’s books to prepare for upcoming government audits.9 Kneipper was impressed with the articulate and personable Keating. Yes, he was a bit “on the aggressive side,” but that’s what it took to compete in the cutthroat S&L business. “I didn’t see any red flags going up,” Kneipper told me. (Schilling, of course, in his time as a regulator, had spotted plenty of those flags at Lincoln.)
Jones Day got the job—a big win for the flailing L.A. office. An internal memo noted that Keating “does not care” about how much he spent in legal fees. “It appears to us that [American Continental] is made for us and we for them,” the memo gloated.10 To reinforce to associates just how important this assignment was, a Jones Day partner at one point showed off the $250,000 check that Keating had written the firm as a retainer. (A second $250,000 check, this one unsolicited, would arrive a few weeks later.)11
In the spring of 1986, Schilling and about thirty colleagues12 deployed to Lincoln’s offices in Arizona and Southern California. It was a round-the-clock operation.13 Jones Day had somehow learned that regulators would be showing up any day for an intensive on-site examination,14 presumably at least in part because of Schilling’s warning to his government colleagues months earlier. Jones Day’s mission was to conduct a dry run of the regulatory investigation. It was a slightly paranoid operation. Convinced that the feds might have planted listening devices inside Lincoln’s black-glass building, the lawyers spoke in whispers. Outside the offices, they referred to Lincoln only as “the client.”15
Within three weeks,16 the lawyers had identified serious holes in the bank’s financial paperwork; there were missing documents, and dozens of large loans had been made without anyone at Lincoln gauging their risks. Jones Day found that a Lincoln employee, apparently trying to rectify those deficiencies, had backdated documentation and forged board members’ signatures on meeting minutes. Upon seeing this, the lawyers told their client to cut it out.17
The trouble was that Lincoln’s problems stemmed in part from self-dealing by executives. In one transaction, a Lincoln subsidiary had sold a hotel to an entity controlled by Keating and members of Lincoln’s legal department—in other words, the same group that Jones Day was urging to stop messing around.18 “They reported the crimes and corporate wrongdoing to the very people who were committing them,” a federal regulator would later say.19
In any case, despite its instructions to stop tampering with documents, Jones Day soon learned that documents were still being tampered with; a bank employee told the lawyers that she’d been asked to backdate more paperwork.20 At this point, Jones Day could have resigned or escalated the issue to regulators or to the board of directors of American Continental, Lincoln’s parent. The firm did neither. Instead, it helped craft documents for Lincoln’s board that essentially ratified the backdated documents. The retroactive cleanup would allow the thrift to tell federal regulators, accurately but deceptively, that its board had signed off on everything.21
When the regulators showed up to conduct their examination, they found some of the same problems the Jones Day lawyers had identified—but not all of them. It would take the government another two years to recognize the full scope of the misconduct.22
While Jones Day lawyers were sifting through Lincoln’s loan files, Keating made a strange request. He was a prolific contributor to political campaigns, and he had used that largesse to curry favor in Washington. Five senators in particular had been his beneficiaries and then pushed federal regulators to go easy on Lincoln. (This would eventually explode into the “Keating Five” scandal.) But Keating wanted to be able to influence state politics as well as federal, and he apparently wished to do it in a way that would remain under the public radar.
Jones Day at the time had three political action committees that contributed money to candidates. One, the Good Government Fund, focused on federal campaigns, while the other two supported state candidates. They reflected Jones Day’s flirtation with building a serious lobbying and political practice in Washington. By 1988, the Good Government Fund was the largest PAC run by a law firm, doling out more than $300,000 to candidates nationwide—a significant sum in an era of relatively low-budget campaigns.23
In June 1986, a Keating representative asked Jones Day to have one of its state PACs donate $10,000 to a candidate for governor of Arizona. In exchange, “we could bill liberally in future with recognition of this,” Kneipper explained in a handwritten internal memo. In other words, the Jones Day PAC would make the $10,000 payment, but the law firm could recoup that and more from its client.24 Once again, Jones Day was going far beyond the call of lawyerly duty, this time to help a client covertly influence an election. “Shame on them,” an expert on legal ethics told the Los Angeles Times when the scheme came to light. “It’s not the kind of thing people of honor do.”25*
Jones Day wasn’t done. After another law firm was hired to handle Lincoln’s compliance issues, Jones Day got a new assignment. The real estate market had cooled, and regulators were getting tougher, and that combination was shoving hundreds of thrifts into a death spiral. Lincoln and its parent company were hemorrhaging money. If American Continental could find a way to raise funds, it might be able to ride out the storm. But the industry’s woes were becoming so well-known that it was hard to find anyone willing to invest.
That is where Jones Day came in. Someone came up with the idea that American Continental could issue bonds and sell them to Lincoln’s customers, who tended to be elderly and not very financially savvy. This was a fraught area; regulators frowned upon companies hawking any securities to unsophisticated customers, but especially when the company had a direct financial stake in those instruments. It was a recipe for rip-offs. Nonetheless, in early 1987, Lincoln’s bank branches began peddling American Continental’s bonds. In short: The parent company was borrowing money from its subsidiary’s customers. Jones Day prepared the necessary legal paperwork to issue the bonds. The bonds, which came in $1,000 denominations, offered much higher interest rates than ordinary Lincoln savings accounts.26 To a discerning investor, there were neon warning signs. The bonds had not been underwritten by a reputable investment bank. Nobody was attesting to their riskiness or value. But few of the customers who showed up at the branches’ teller windows were all that discerning.
As it happened, there was a Lincoln branch on the ground floor of Jones Day’s L.A. office building. Signs in its window noted that Lincoln’s deposits were federally insured and also advertised the sale of American Continental bonds. A passerby might well have gotten the impression that the bonds themselves were government-guaranteed, which they were not. When a secretary at Jones Day noticed the ads and asked a lawyer whether she should buy the bonds, the lawyer pointed out the risks and steered her away, according to a 1994 investigation by the journalist Rita Jensen.27
More than twenty thousand Lincoln customers28 didn’t have the benefit of that advice. They moved their life savings from federally insured bank accounts into the supposedly safe bonds.
The real estate market soon went into free fall. Borrowers defaulted on loans. Thrifts collapsed. The S&L industry began melting down. Recriminations over who was responsible ricocheted back and forth. The government would conclude that Jones Day deserved a substantial share of the blame, and not only because of its work for Keating.
In fact, the problems had begun more than a year before Lincoln was even a Jones Day client. The firm’s newly opened office in Austin, Texas, had signed up a couple of local thrifts—which were attracted to Jones Day in part because of its roster of former regulators—and they quickly became cash cows. So prized were these two clients that Dick Pogue flew down to Texas to woo one’s chairman over an expensive lunch at the city’s University Club.29
These two banks were involved in what regulators later would describe as fraudulent, self-serving transactions designed to paper over each other’s losses and to create fake profits in order to pay millions to their owners. And Jones Day, according to the regulators, went along with it. Between 1984 and 1986, the law firm collected as much as $10 million in fees, a former bank employee told the American Lawyer in 1991.30
Regulators eventually opened an investigation. Jones Day dispatched a partner (another former bank regulator) to Capitol Hill to meet with the House majority leader, who urged regulators to ease up. That delayed the action, but it didn’t prevent it. In September 1988, the government seized both teetering banks.
It was about seven months later that the government shut down Lincoln, in what at the time was one of the largest bank failures ever. American Continental filed for bankruptcy; customers who had bought its bonds were out of luck. (So was Keating, who was convicted of racketeering and fraud and sentenced to ten years in prison.) Then came the lawsuits. In 1990, the Federal Deposit Insurance Corporation sued Jones Day for negligence, malpractice, and having “aided and abetted” executives in illegal transactions at the two Texas thrifts.31 Another federal agency, the Resolution Trust Corporation, soon filed its own lawsuit. It accused Jones Day of concealing the improper practices at Lincoln and American Continental. If Jones Day had loudly blown the whistle, regulators said, they would have forcefully entered the picture, and billions of dollars in losses, ultimately borne by taxpayers, might have been averted.32
It was rare for a major law firm—supposedly a bastion of ethics and legal rule-following—to end up in the government’s crosshairs. Now, in the space of barely five months, one of the country’s largest, most esteemed firms had been sued twice.
Pogue was furious; he felt the feds were trying to cover up for their own ineptitude.33 There was probably at least a kernel of truth to that—not that it excused Jones Day’s conduct.
Ironically, the firm had only recently hired another former federal regulator, Rosemary Stewart, to join its Washington office. As a top regulator, Stewart had been involved in the investigations of Lincoln—fellow regulators and lawmakers criticized her for not having acted swiftly to shut it down34—and the two Texas thrifts.35 Now she worked for Steve Brogan in Jones Day’s D.C. office. Her hiring was controversial; a Republican congressman decried it as “an example of the legal ethics problem we have in Washington today.” Brogan noted that Stewart wouldn’t work on cases related to her old job. “This type of thing happens all the time in Washington,” he said.36
Pogue wasn’t slowing down—he would keep working twelve-hour days for the next two decades—but he knew his tenure as managing partner was nearing its end. In 1991, he asked Pat McCartan to craft a plan for Jones Day in the twenty-first century. McCartan was perhaps the country’s most gifted trial lawyer. More than anyone else, he had helped build Jones Day into a litigation powerhouse. The sheer size of its litigation department—hundreds of lawyers, hundreds of millions of dollars in annual revenue—and its impressive track record were more than enough to intimidate those who considered suing a Jones Day client. That kind of success built on itself. Big companies that polluted or lied to investors or evaded taxes or sold faulty products or sold products (like cigarettes) that worked exactly as intended and still killed people flocked to the firm.
The fact that Pogue had entrusted this plotting to McCartan strongly suggested that McCartan would one day succeed him as managing partner.37 And sure enough, Pogue typed up a secret memo naming him as his successor. The memo was stashed in a safe deposit box, “in case I was hit by a truck,” Pogue told me.
Under the firm’s retirement policy, managing partners had to step down at the end of the year in which they turned sixty-five. That was 1993 for Pogue. But McCartan was not a young man, and Pogue decided that the right thing to do was to step down a year early so that his successor would get a solid eight or nine years.38 He invited McCartan to lunch at the Union Club and delivered the good news. McCartan was all smiles, and he thanked Pogue for the graciousness of leaving early.
In 1992, Jones Day agreed to pay $16 million to settle the FDIC’s lawsuit about the firm’s work for the Texas thrifts. The payment barely made a dent in the nearly $1 billion cost of bailing out the two lenders.39 Jones Day that year also agreed to pay $24 million to settle allegations, by the unfortunate customers who bought American Continental’s bonds, that the law firm had duped them into purchasing the doomed securities. Jones Day was not apologetic. “There was an increasing risk that jury sympathy for the [victims] . . . would overwhelm the facts concerning the correctness of our actions,” Pogue stated.40
But the ongoing Resolution Trust lawsuit about Jones Day’s work for Keating posed a serious long-term threat. McCartan had taken the reins on January 1, 1993, and this would be one of his first tests as managing partner. There had been on-again, off-again settlement talks, but the government appeared perfectly willing to let the case go to trial. McCartan had plenty of experience with brinkmanship, but this was a scary prospect for Jones Day partners. The government was seeking up to $500 million in damages. The partners themselves—as owners of the firm—would be on the hook for most of that money.*41
The trial was set to begin in Tucson. A jury was selected. Opening arguments were scheduled for a Monday in April 1993. When the day came, the judge, his voice raspy with allergies, called in sick. The start was delayed a week.42 McCartan now had seven days to find a way to avoid having the firm’s fate hang on an unpredictable jury.
After a week of frenzied negotiations, a settlement was reached minutes before the trial was set to begin. Jones Day agreed to pay $51 million, while denying any wrongdoing. At the time, it was the most ever paid by a law firm to resolve a malpractice suit—and the largest penalty levied during the S&L crisis.43 As part of the settlement, Jones Day had to sign a “cease and desist” order and was forced into the embarrassing position of agreeing to conduct additional reviews before bringing on new banking clients. The deal made the front page of the New York Times. “This is really an instance of lawyers, who knew better, making an affirmative decision to chase the riches,” an attorney for the government said.44
The deal left a bitter taste in McCartan’s mouth. Settling was not his style. But this was what leadership meant: putting aside your pride, and doing the right thing, the safe thing, the humbling thing, for the sake of your thousands of employees. And the reality was that this was a pretty easy pill to swallow. Most of the settlement would be covered by insurance; the remainder would be paid in six annual installments of $3.25 million. It was an average of $8,125 for each of the firm’s four hundred or so partners—or, as one Jones Day lawyer smirked, less than what the firm spent in a year on photocopying.45 (Jones Day’s revenue in 1993 was $395 million.46) Even so, McCartan was pissed. “If it was me alone, I would have tried it,” he grumped to a Plain Dealer reporter a few hours after signing the deal. He stabbed a pencil into a legal pad as he spoke.47
The Lincoln episode became a teachable moment for the legal profession—a powerful reminder that lawyers should not do whatever it takes to please a client.* “The oft-heard justification . . . is that the client is entitled to undivided loyalty and zealous representation,” Keith Fisher, a law professor, wrote in 2004. “That argument, of course, fallaciously conflates the duties of a trial lawyer, operating in a system of procedural checks and balances that offset zealous advocacy, with those of a business lawyer providing services to clients that desperately need sound, dispassionate, and, above all, independent advice and counsel.”48
The role, in other words, was not so much to be an agent of a client as to be a wise counselor, to be willing to say no as well as yes.