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After the Supreme Court's Free Enterprise Fund Decision, Could NERC's Level of Autonomy Face a Constitutional Challenge?
July 1, 2010
In Free Enterprise Fund et al. v. Public Company Accounting Oversight Board et al., No. 08-861 (U.S. June 28, 2010), the Supreme Court articulated limits on the extent to which officers of organizations carrying out federal executive functions pursuant to a Congressional mandate may be insulated from Presidential oversight and dismissal. The decision raises interesting questions about Congress' constitutional authority to create executive sub-agencies that are not directly responsible to the President, and whose officers may not be removed by the President. While Free Enterprise Fund dealt with the Public Company Accounting Oversight Board ("PCAOB"), created pursuant to the Sarbanes-Oxley Act under the limited oversight of the Securities and Exchange Commission ("SEC"), the questions addressed might also apply to the North American Electric Reliability Corporation ("NERC"), which was granted a regulatory mandate pursuant to the Energy Policy Act of 2005 ("EPAct 2005") under the limited oversight of the Federal Energy Regulatory Commission ("FERC"). While the parallels between the PCAOB and NERC are by no means exact, the Supreme Court's analysis of the constitutionality of the PCAOB vis-a-vis the Article II powers of the federal executive may raise questions about NERC's exercise of federal executive power and the extent to which its trustees and officers are insulated from dismissal at the will of the President.
The Free Enterprise Fund Decision
In Free Enterprise Fund, the Court held that Congress, through the Sarbanes-Oxley Act of 2002, infringed on the Article II authority of the executive branch by impermissibly insulating the members of the PCAOB from direct removal by the President. While acknowledging that Congress may create executive agencies with officers that the President may not remove at will (such as the SEC), and that Congress may similarly restrict the power of executive branch officers to remove their own inferiors (e.g. the power of the SEC to remove members of the PCAOB), the Court held that the combination of these layers of protection from dismissal for an officer of a congressionally-mandated executive agency ran counter to Article II's vesting of the executive power in the President.
The PCAOB was created by the Sarbanes-Oxley Act of 2002 in reaction to what the Court termed "a series of celebrated accounting debacles." Composed of five members appointed by the SEC, the PCAOB was granted expansive powers to regulate accounting firms who audit public companies under the federal securities laws. Specifically, the PCAOB was charged, under Sarbanes-Oxley, with promulgating auditing standards and performing inspections and investigations of accounting firms. Importantly, the PCAOB was granted the power to issue sanctions for violations of its standards, and all of its activities, including the issuance of standards and sanctions, were made subject to SEC oversight, approval and alteration. The Court characterized the PCAOB as a "Government-created, Government-appointed entity" that is part of the federal government with members that are "Officers of the United States" for constitutional purposes.1 The majority had no doubt that the members of the PCAOB were carrying out important functions of the executive branch. However, the members of the PCAOB could not be removed by the SEC at will; rather, the members could only be removed "for good cause shown" and in accordance with certain stipulated procedures under Sarbanes-Oxley. The Commissioners of the SEC, in turn, cannot be removed by the President except for inefficiency, neglect of duty, or malfeasance in office. Thus, it is conceivable that a member of the PCAOB could not effectively be removed at the will of the President even where he or she decides that the member is ineffectual, since that decision is left to the SEC, the members of which cannot be removed at the will of the President.
Confronted with this layered insulation securing the executive branch positions of the PCAOB members, the majority found that this arrangement , established by Sarbanes-Oxley, could not stand in light of Article II's mandate that the President "take Care that the Laws be faithfully executed." It is well-settled that in order to fulfill this Article II obligation, the President must be able to dismiss his subordinates in the executive branch; therefore, for the majority, the Constitution will not permit a situation where the President is restricted in his ability to dismiss the members of the SEC, who are in turn restricted in their ability to dismiss the members of the PCAOB. In other words, under Free Enterprise Fund, it is constitutionally untenable to have an entity like the PCAOB exercising such significant federal executive authority while being so removed from the possibility that its authority (more precisely, that of its individual officers) might be taken away by the chief federal executive.
The Court remanded the case after having decided that the autonomy of the members of the PCAOB with respect to the SEC and the executive branch proved too much under the Constitution; barring further legislative action, the Court's decision will sever the restrictions on removal of the members of the PCAOB with the apparent result that the members of the board are removable by the SEC at will. The Court did suggest, however, that Congress may fashion a legislative fix to the situation. While the Court did not, predictably, recommend a definite solution to the constitutional problem it identified, it did suggest that the responsibilities of the members of the PCAOB could be curtailed enough that they would no longer be "Officers of the United States" and thus might no longer be subject to the appointments clause of Article II. Alternatively, the Court intimated that the powers of the PCAOB might be restricted to make its actions mere recommendations to be acted upon or discarded by the SEC. The Court also suggested that the PCAOB members might be made removable by the President to remedy the constitutional problem. It remains to be seen how the implications of Free Enterprise Fund will play out, as the Court made clear that the "editorial freedom" to revise Sarbanes-Oxley in light of the decision belongs to Congress.
Free Enterprise Fund Begs the Question: What About NERC?
There are many important differences between the PCAOB and NERC that make a direct comparison impractical; for one thing, unlike the PCAOB, NERC was not created by Congressional action (although an Electric Reliability Organization - "ERO" - was), nor is it organized as a commission with individual members appointed by an existing federal agency. It has a board of trustees responsible for ultimate decision-making, but it arguably lacks a discreet set of policy-making quasi-commissioners like those on the PCAOB who could be "hired" and "fired" by executive branch officials. Rather the trustees are elected by a committee representative of the NERC members, and officers are in turn selected by the board. However, a brief look at the parallels between the organizations and their regulatory mandates raises questions about the future applicability of Free Enterprise Fund to the constitutional status of NERC and its Congressional mandate under EPAct 2005.
The Electricity Modernization Act of 2005, part of EPAct 2005, requires a FERC-certified ERO to develop and enforce mandatory reliability standards subject to FERC's review and approval. In February 2006, FERC issued Order No. 672 implementing the provisions of the Electricity Modernization Act of 2005, and later that year certified NERC as the ERO. Under EPAct 2005, FERC has jurisdiction over the ERO, both in order to certify a particular entity (i.e. NERC) as the ERO, and in general, and may remand reliability standards proposed by the ERO of which FERC disapproves. The ERO is also granted authority to impose penalties on users, owners or operators of the bulk-power system for violations of the FERC-approved reliability standards, although such penalties are subject to review and potential remand by FERC.
Like the PCAOB, NERC, in its capacity as the FERC-certified ERO, is carrying out executive functions by promulgating reliability standards under the purview of FERC's jurisdiction and meting out penalties for violations. Like the SEC with respect to the PCAOB, FERC has significant oversight authority over NERC and can remand both reliability standards and penalties with which it finds fault. However, EPAct 2005 does not grant FERC the power to appoint or dismiss NERC officers or trustees with whom it has policy disagreements, nor can FERC summarily dismiss NERC from its role as the ERO. Rather, FERC has promulgated regulations under EPAct 2005 under which it may, after notice and opportunity for a hearing, suspend or revoke its certification of a given entity as the ERO. Unlike the members of the PCAOB, NERC's trustees and officers are largely insulated from direct dismissal by the supervising executive agency, taking into account certain independence requirements and other criteria set forth by FERC for the governing body of an ERO. However, these independence requirements do not indicate that FERC may dismiss board members "at will." Moreover, the second layer of insulation from executive branch oversight and dismissal is also found in the case of FERC; just like the members of the SEC, FERC commissioners may be removed by the President only for inefficiency, neglect of duty, or malfeasance in office.
It is far from clear that a federal court would find that trustees or officers of NERC are acting in the capacity of "Officers of the United States" for constitutional purposes, and unlike the PCAOB and a generic ERO, NERC itself was not created by Congress for an express regulatory purpose. However, the parallels between the two organizations, both of which are acting under a Congressional mandate to promulgate and enforce standards under federal regulatory jurisdiction, may raise constitutional questions in light of the Supreme Court's decision in Free Enterprise Fund. Like the PCAOB, NERC can be viewed as a quasi-regulatory agency outside of the direct executive branch "chain of command"; neither the organization nor its trustees or officers can be "fired at will" by FERC, and like the SEC, the members of FERC cannot be "fired at will" by the President. The members of the NERC board and NERC personnel are also exercising significant regulatory oversight, albeit under the supervision of FERC, in promulgating reliability standards and imposing significant penalties upon entities it finds to be in violation of the standards.
In light of the discussion in Free Enterprise Fund regarding the constitutional position of the PCAOB, it is fair to ask whether NERC is "exercising significant authority pursuant to the laws of the United States," and whether its trustees and officers are therefore Officers of the United States subject to the same constitutional restrictions that the Court found with respect to the PCAOB. If they are, what would be the remedy, given that there is no evident mechanism by which FERC, much less the President, can easily dismiss those trustees and officers from their positions? The decision thus raises some intriguing, and likely unanticipated, questions about the constitutional status of NERC in its role as the ERO. How this issue will play out, if at all, remains to be seen.
1 The Court stated that the parties agreed that the members of the PCAOB were "Officers of the United States" as that term is described in Buckley v. Valeo, 424 U.S. 1, 125-126 (1976) (per curiam); that is, they "exercise[d] significant authority pursuant to the laws of the United States" and must therefore be appointed in the manner prescribed in Article II of the Constitution.