Developments in Government Investigations

Transcription

1 Mark J. Stein, Paul Curnin & Jamie Gamble Simpson Thacher & Bartlett LLP Developments in Government Investigations December 6, 2006

2 2 Recent Government Investigations

3 Industry Wide Investigations IPO allocation cases Research analyst conflicts of interest Market timing/late trading Insurance brokerage payments/bid-rigging Finite reinsurance Floor brokers investigation 3

4 Stock Options Investigations A stock options is backdated when a grant date is assigned that predates the issuing date Not per se illegal but can result in improper disclosure and tax violations if not accounted for properly Examples Brocade Comverse 4

5 DOJ Private Equity Collusion Probe Preliminary inquiry initiated by the Justice Department s antitrust division in Manhattan. Several leading private-equity funds have received an informal request to answer general questions about bidding history, bidding partners and the timing and nature of pricing changes in auctions. 5

6 Facilitator Cases Aiding and abetting a business partner or counterparty to a contract in manipulating financial statements Often brought when traffic reveals: A side agreement to the documented transactions; or Recognition that sole purpose of the transaction is for counterparty to recognize revenue or defer an expense Examples: Merrill Lynch/Enron General Reinsurance/AIG Vendor Rebates or Allowances 6

7 Attorney Liability SEC Statements November 18, 2005 An attorney is the person best able to stop the fraud from occurring Focus on cases where the lawyer knows something is wrong, but went in the wrong direction Typical case Attorney involved in structuring alleged fraud Example: Hollinger International 7

8 Attorney Liability (cont d) Trend: cases brought by the SEC appear to allege conduct based on negligence or inaction Google s General Counsel (2005) (allegedly failed to inform board of registration requirement in connection with the issuance of stock options) Electro Scientific s General Counsel (D. Or. 2004) (allegedly failed to inform board of legal issue in connection with decision to eliminate an expense item) 8

9 Outside Directors Chairman Cox 1/31/06 Speech - We bring actions whenever we find that a director fails to live up to his or her role as guardian of the shareholders interests. 2003: Apparent SEC initiative targeting directors who acted recklessly by ignoring red flags SEC v. Chancellor Corp (D. Mass. 2003) 10(b)(5) action against outside directors for ignoring stated views of dismissed outside auditors In Re Rockies Fund, Inc. (2003) action against outside directors based on failure to take appropriate steps to value the fund s securities 9

10 Outside Directors (cont d) In addition to direct or aiding and abetting liability, (which require at least recklessness), SEC has also pursued causing violations Section 21C Authorizes SEC to obtain cease and desist order against any person that is, was or would be a cause of the violation, due to an act or omission the person knew or should have known would contribute to such violation Indications are that SEC s next step might be actions against purely negligent outside directors 10

11 11 Obstruction of Justice

12 Overview Provides Government with easy road to prosecution In some cases, underlying events may be difficult or impossible to prove Martha Stewart / Scooter Libby No indictment in either case for any underlying substantive offense 12

13 Destruction of Documents May Have Serious Consequences Arthur Anderson v. United States, 125 S.Ct (2005) Use of pre Sarbanes-Oxley statutes to indict company for corruptly persuading employees to destroy or alter documents with intent to impair their availability for use in an official proceeding Destruction occurred before any subpoena or request for documents Supreme Court endorsed the appropriate use of document retention policies (reversed on narrow grounds) 13

14 Recent cases (cont d) United States v. Quattrone (S.D.N.Y. 2003) Former CSFB investment banker Frank Quattrone convicted of encouraging colleagues to destroy documents after CSFB received SEC and grand jury subpoenas Second Circuit overturned conviction based on jury instructions, but found evidence sufficient for jury to convict Case speaks to importance of promptly issuing a document preservation memo 14

15 New Obstruction Provisions under Sarbanes- Oxley Obstruction of Justice Post Sarbanes-Oxley 18 U.S.C Whoever knowingly alters, destroys, mutilates, conceals, covers up, falsifies, or makes a false entry in any record... with the intent to impede, obstruct, or influence the investigation or proper administration of any matter within the jurisdiction of any department or agency of the United States... or in relation to or in contemplation of any such matter or case will face imprisonment of up to 20 years. 15

16 Other Obstruction Issues: Making False Statements to Internal Investigators Computer Associates (E.D.N.Y. 2004) The former CEO and five other senior executives were charged with, and pled guilty to, obstruction of justice for making false statements to Company counsel conducting an internal investigation into the Company s accounting issues Rite Aid Corporation (M.D. Pa. 2002) Three former executives indicted for conspiracy to obstruct justice based in part on actions they took to mislead internal investigators 16

17 17 Considerations During A Government/Internal Investigation

18 Agency Guidance Overarching considerations governed by agency documents Thompson Memo (DOJ) Seaboard 21(a) Report (SEC) NYSE Information Memorandum (Sept. 14, 2005) Organizational Sentencing Guidelines 18

19 Governing Principles Issues outside of company control Nature and circumstances of offense Prior disciplinary history 19

20 Governing Principles (cont d) Issues within company control Culture of compliance Appropriate policies; employee training; monitoring compliance Company s response when alerted to problem Remediation Cooperation/voluntary self-reporting 20

21 Issues to Address at Outset of Investigation 1. General Approach: Don t need to choose between cooperation and defense Regulators expect full and accurate recitation of facts Not inconsistent with cooperation to present defenses and mitigating circumstances Frivolous positions = lack of cooperation 2. Preserve and collect documents 21

22 Issues to Address at Outset of Investigation (cont d) 3. Find the facts Internal inquiry demonstrates that company is taking investigation seriously Fact-finding allows for cooperation and accurate portrayal of facts to regulators and avoids later allegation that senior management ignored red flags 22

23 Issues to Address at Outset of Investigation (cont d) 4. Structure of Internal Investigation Who should conduct the investigation? Primary goal to avoid perceived or actual conflict of interest To whom should investigating counsel report? Should management receive reports? Should anyone in legal be walled off? Should the investigation be undertaken on behalf of Board, Audit Committee, or Special Committee? Determine and define scope and timing Know what your hired consultants are doing HP 23

24 Issues to Address at Outset of Investigation (cont d) 5. Control rumors about investigation Regularly caution involved employees about extraneous conversations Plan for press inquiries Recognize that leaks from Government are possible 24

25 Issues to Address at Outset of Investigation (cont d) 6. Consider Sarbanes-Oxley up-the-ladder reporting requirement If material violation occurs, attorney must report it to CLO or CEO If CLO or CEO does not respond appropriately, must report issue to Board or appropriate committee 25

26 Issues to Address at Outset of Investigation (cont d) 7. Consider obligation to report violation to company auditors Sarbanes-Oxley Requirements Auditors must be informed of fraud Company must disclose to auditors all significant deficiencies Auditors will have their own series of demands for company action items 26

27 Issues to Address at Outset of Investigation (cont d) 8. Consider whether there are any public disclosure requirements An internal or government investigation does not automatically require disclosure Must consider whether facts revealed during the investigation make any prior disclosure materially misleading or omissive Must also consider Reg SK requirements 27

28 Issues to Address at Outset of Investigation (cont d) 9. Remediation Modify procedures to insure that improper conduct does not continue Consider other appropriate action; may include dismissal of culpable employees Consider whistleblower protection 10. Voluntary Disclosure Address issue of when and whether to inform the Government 28

29 Considerations Re: Interview and Representation of Employees Upjohn warnings Counsel represents employer; not employee 29 Conversation is privileged and confidential Company alone will decide whether to disclose information provided by employee to Government or anyone else Warnings can be uncomfortable but necessary Failure to give warnings could result in finding of attorney-client relationship with employee Example: AOL internal investigation In re Grand Jury Subpoena (4 th Cir. 2005)

30 Legal Representation for Employees Joint Representation of Company and Employees (the disinterested lawyer test) Advantages Reduced costs Well-versed counsel Avoids suggestion of diversion of interests Allows company counsel to be present at government interview 30

31 Legal Representation for Employees (cont d) Joint Representation of Company and Employees (cont d) Potential risks In the event of a conflict, counsel may have to withdraw Potential loss of credibility for employee Potential constraint in corporate representation 31

32 Legal Representation for Employees (cont d) Joint Representation of Company and Employees (cont d) Ways to ameliorate risks Use of shadow counsel Written waiver of conflicts 32

33 Legal Representation for Employees (cont d) Providing separate representation at initial interview Not required Often helpful in obtaining accurate factual recollections Must provide considered response to question from employee about need for separate representation 33

34 Should A Company Indemnify Employees? Sometimes required by bylaws Usually in company s interest Allows for participation in counsel selection Communicates to employee that he/she is not abandoned Leads to additional communication between company counsel and employee Primary downside: cost 34

35 Should A Company Indemnify Employees? Recent trend: Prosecutors pressure company to cut off legal support for specified employees Possible reversal of this trend following Judge Kaplan s decision in KPMG tax case. Examples: KPMG deferred prosecution agreement (KPMG given credit for consulting with Government on indemnification issues) Lucent (fine imposed, in part, as a result of Company decision to indemnify employees under investigation) 35

36 Joint Defense/Information Sharing Agreements Trends: Government has opposed agreements between companies and employees KPMG - received credit for declining to enter agreements Former Deputy AG Jim Comey: It is hard for me to understand why a corporation would even enter into a joint defense agreement 36

37 KPMG Decision Judge Kaplan found it unconstitutional for the government to require KPMG in its deferred prosecution agreement to refuse to pay legal fees for its employees. Kaplan subsequently suppressed statements from two employees who testified that their fear of getting fired and having to pay their own legal fees compelled them to waive their Fifth Amendment rights against self-incrimination and to speak with prosecutors. 37

38 38 Relationship with Government During the Investigation

39 Initial Meeting Consider meeting with Government upon receiving initial communication Counsel s credibility can have a significant impact on the course of the investigation Clearly uninvolved senior in-house legal representative should consider attending At first meeting: Give pledge of cooperation Determine focus of investigation and concerns Negotiate scope and priority of document production 39

40 Provide Regular Updates to the Government Helps maintain trust and credibility Provides forum for open discussion of document production issues, including reasons for delays Provides strategic opportunities to present the company's perspective on relevant issues Factual information should not be provided prematurely; relevant witnesses and documents must factually support the presentation 40

41 Government Request for Company Witness Rarely helpful to nominate a key witness before the Government is ready Company Counsel can represent employees identified purely as witnesses But Government often requests that witnesses obtain their own counsel 41

42 Waiver of Attorney-Client and Work Product Privilege 42 Once an extraordinary step for a company, now considered standard for a cooperating corporation Trend: toward more restraint in seeking a waiver McCallum Memo (DOJ) requires formalized process by U.S. Attorney s office before seeking waiver SEC has sought ways to avoid broad waiver following cooperative disclosure Sentencing Guidelines amendment NYSE Information Memo (2005) Law of Selective Waiver

43 43 Developments in Parallel Investigations

44 SEC as a Front for the Department of Justice US Attorney s Office and SEC were recently found to have violated the Constitutional rights of several former officers of a public company Indictment dismissed because government deliberately concealed a parallel criminal investigation during an investigation by the SEC U.S. v. Stringer, 408 F. Supp. 2d 1083 (D. Or. 2006) 44

45 Cooperative or Competitive Investigations Competitive investigations present difficulties for companies seeking to cooperate with all parties Must make determination of which regulators/states to include in potential settlement 45

46 46 Negotiating a Resolution Developments/Trends

47 DOJ - Deferred Prosecution Agreements Deferred prosecution agreements used with a number of companies, including: KPMG AIG Computer Associates AOL/Time Warner 47

48 Deferred Prosecution Agreements (cont d) Typically include: Filed criminal charges Two to three year terms Admission of wrongdoing by company and agreement to stipulated facts Imposition of a variety of remedial measures Requirement of cooperation Financial payment-restitution and fines Imposition of a monitor 48

49 Deferred Prosecution Agreements (cont d) 49 Benefits: Allows company to end disruptive lengthy criminal investigation with certainty Avoid consequence of a criminal conviction Company can report that investigation against it is over Downside: Potential collateral consequences of filed indictment Collateral estoppel effect of stipulated facts Potential disruption caused by monitor with broad mandate

50 Securities and Exchange Commission SEC s New Guidelines on Corporate Fines Drafted in response to SEC s recent imposition of large corporate fines Provides that the appropriateness of a penalty on a corporation turns principally on two considerations: whether the corporation received a direct benefit as a result of the violation the degree to which the penalty will compensate or further harm the injured shareholders 50

51 SEC s Guidelines on Corporate Fines (cont d) Statement coincided with the SEC s settlement of two enforcement actions on the same day: SEC v. McAfee, Inc. paid $50 million civil penalty In the Matter of Applix, Inc. paid no monetary penalty 51

52 Rationale for Differences: Direct benefit from violation McAfee: used overvalued stock to acquire two other companies; great benefit to shareholders Applix: shareholders were harmed when restatement of net losses announced; shareholders received no benefit from fraud Compensation of shareholders McAfee: penalty monies could be effectively distributed to injured shareholders Applix: difficult to impose a penalty that would meaningfully compensate victims without harming company 52

53 Questions? 53

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