Ten Myths of FCPA Compliance

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1 WHITE COLLAR CRIME ALERT April 2008 Ten Myths of FCPA Compliance By: Charles S. Leeper and Billy J. Smith By all accounts, 2007 was a monumental year in Foreign Corrupt Practice Act enforcement. The Department of Justice (DOJ) and Securities and Exchange Commission (SEC) filed an ever-increasing number of criminal and civil FCPA actions, respectively. One of those criminal cases was resolved with the imposition of a record-setting fine ($26 million), and parallel criminal and civil cases filed against another defendant resulted in the largest combined fine and civil penalty ever ($44 million). The past year was also remarkable for the manner in which many FCPA investigations were initiated. More companies self-reported FCPA violations discovered through compliance audits and internal investigations. The DOJ, apparently pursuing a policy initiative to encourage corporate detection and voluntary disclosure of FCPA violations, displayed an increased willingness to resolve the reported violations with deferred prosecution or non-prosecution agreements. In these agreements, as well as in the plea agreements negotiated by the government where the circumstances of the violations warranted prosecution, the government required the implementation of even more expansive compliance and self-policing measures by companies operating abroad. Given these FCPA enforcement trends, it would be a mistake of monumental proportions to engage in outdated rationalizations, or uninformed assessments, regarding the risk that employees may be conducting business abroad in violation of the FCPA, and the adequacy of the compliance measures that have been implemented to reduce that risk. In order to provoke further assessment of this risk, we have listed ten common myths embraced by many executives responsible for oversight of foreign marketing and sales operations. We also discuss recent case authority and enforcement actions that expose the fallacy of these myths. 1. I am honest, use common sense, and instill the same values in my subordinates. Therefore, my company need not worry about FCPA violations. 2. As the U.S. parent company, we are not liable for bribes paid by foreign subsidiaries or joint ventures. 3. We are not responsible for the actions of our vendors or suppliers. 4. So long as none of the parties or agents that receive bribes are actual government officials, my company has nothing to worry about. 5. Payments to foreign officials that are not directly related to an existing or proposed contract will not expose my company to FCPA liability. 6. Marketing and promotional expenses to educate employees of foreign companies about our products and acquaint them with our U.S. personnel are not covered by the FCPA. 7. Payments made to foreign charities are acceptable under the FCPA. 8. Small payments to foreign officials are not an FCPA enforcement priority. 9. Everyone is making customary or facilitating payments to keep business moving. To remain competitive we must make them as well. 10. Facilitating payments are an exception to the anti-bribery provisions of the FCPA, so errors or omissions in documenting them do not violate the FCPA. White Collar Crime and Corporate Investigations Practice Group

2 Myth #1: I am honest, use common sense, and instill the same values in my subordinates. Therefore, my company need not worry about FCPA violations. Fact: Good intentions and honesty in day-to-day interactions with the government do not satisfy the requirements of the FCPA. A company engaged in cross-border transactions must have a comprehensive FCPA compliance program that is documented, strictly enforced and frequently updated. Because the government may deem the lack of oversight and accounting controls to represent conscious avoidance by management of knowledge of wrongdoing by subordinates or agents, failure to implement a compliance program may prompt the DOJ or SEC to take enforcement action in marginally questionable circumstances. Where enforcement action is taken, the presence of an effective compliance program may significantly reduce a corporation s penalty, in some cases by as much as 95%, while the absence of a compliance protocol will almost certainly result in increased penalties. Example: SEC v. Titan Corporation (D.D.C 2005) The government alleged that at least one former senior Titan Corporation (Titan) official authorized payments totaling $3.5 million to the re-election campaign of Benin s incumbent president to assist in securing future development of Titan s business in the country. In settling the allegations, Titan agreed to pay a criminal penalty of $13 million, and civil penalties and disgorgement of $15.5 million. Notably, the SEC Settlement Agreement specifically referenced Titan s failure to implement FCPA compliance measures in the then 23 year history of the formation of the company. The government later used this fact to exact a fine at the high end of the Federal Sentencing Guidelines, effectively doubling the penalty. Myth #2: As the U.S. parent company, we are not liable for bribes paid by foreign subsidiaries or joint ventures. Fact: Foreign subsidiaries and joint ventures of any company that is subject to the registration or reporting requirements of the Securities Exchange Act of 1934 are also subject to the FCPA. Example: SEC v. ABB Ltd. (D.D.C. 2004) From 1998 through 2003, two wholly-owned subsidiaries of ABB Ltd., made illicit payments totaling over $1.1 million to government officials, in order to obtain and retain business in Nigeria, Angola and Kazakhstan. In the DOJ enforcement action, the ABB subsidiaries and the parent companies plead guilty to two felony counts of violating the FCPA and agreed to pay a $10.5 million fine. Separately, the SEC brought an enforcement action against ABB Ltd., the parent company whose shares are traded in the U.S. through American Depository Receipts, alleging that the parent company was responsible under the anti-bribery, books and records, and accounting control provisions of the FCPA for the violations of its subsidiaries. ABB Ltd. agreed to pay $5.9 million in disgorgement and to retain an outside FCPA consultant at its own cost. Myth # 3: We are not responsible for the actions of our vendors or suppliers. Fact: For purposes of assessing compliance with the FCPA, a company must not only consider whether its employees have actual knowledge of illegal payments in overseas markets, but also whether diligent inquiry would have revealed such wrongdoing on the part of the company s business partners. Example: SEC v. Chevron Corporation (S.D.N.Y. 2007) The SEC brought charges against Chevron relating to its purchases of crude oil from oil traders that acquired the oil from Iraq under the U.N. Oil For Food Program. The government alleged that these oil traders used a portion of the funds received from Chevron to pay Iraqi officials, and that Chevron could have known that these oil traders were operating in violation of both the Oil For Food Program and Chevron s own FCPA compliance program, had Chevron performed adequate checks on the identity, experience and reputation of the traders. In one instance, Chevron s credit check on a prospective supplier revealed no experiwww.drinkerbiddle.com

3 ence in the oil business, no real business operations, and no assets. Chevron agreed to settle the charges by disgorging $25 million in profits, paying penalties of $5 million, and consenting to a permanent injunction. Myth # 4: So long as none of the parties or agents that receive bribes are actual government officials, my company has nothing to worry about. Fact: The definition of a government official under the FCPA is very broad. It includes political party candidates, employees of government owned enterprises, political party officials (even if out of office), as well as some officers in quasi-public enterprises. Example: SEC v. Syncor International Corporation (D.D.C. 2002) The SEC charged that, from at least the mid-1980s through September 2002, Syncor s foreign subsidiaries in Taiwan, Mexico, Belgium, Luxembourg and France made a total of at least $600,000 in illegal payments to doctors employed by state-controlled hospitals. The SEC further alleged that these payments were intended to influence the doctors decisions regarding product usage within the hospitals, and referrals of patients to medical imaging centers owned by Syncor. Without admitting or denying the allegations in the SEC complaint, Syncor consented to pay a civil penalty of $500,000 and consented to an administrative order requiring the retention of an independent consultant to audit the company s FCPA compliance policies. Myth #5: Payments to foreign officials that are not directly related to an existing or proposed contract will not expose my company to FCPA liability. Fact: Payments to foreign officials to obtain more favorable treatment under tax, customs, and other regulatory regimes violate the FCPA when intended to secure an improper competitive advantage that assists in obtaining or retaining business. Example: United States v. Kay (5th Cir. 2004) The government indicted David Kay (Kay), vice president of Houston-based rice exporter American Rice, Inc. (ARI) and Douglas Murphy (Murphy), president of ARI, for sanctioning payments by an ARI subsidiary in Haiti to local officials who accepted bills of lading understating the quantity of rice shipments into Haiti. The government alleged that this activity, in effect, improperly reduced the amount of customs duties and sales taxes due on rice products shipped to the ARI plant in Haiti. On considering Kay s pre-trial challenge to the sufficiency of the indictment, the Fifth Circuit agreed with the government s theory that such payments violate the FCPA, even though made to officials without any role in awarding contracts to ARI, because the payments were intended to give ARI an unfair advantage in obtaining or keeping business. At trial, the government presented testimony that Kay believed the payments to Haitian customs officials were necessary in order to compete with other companies that paid lower or no taxes on similar imports. Kay was convicted of violating the FCPA and sentenced to 37 months in prison. Murphy was also convicted and sentenced to 63 months in prison. Myth #6: Marketing and promotional expenses to educate employees of foreign companies about our products and acquaint them with our U.S. personnel are not covered by the FCPA. Fact: The FCPA includes an affirmative defense that excepts from its anti-bribery provisions payment or reimbursement of expenses to foreign officials (which includes employees of government owned companies) that are directly related to the promotion, demonstration, or explanation of products or services. However, when such payments are unreasonable in amount or otherwise not directly related to legitimate training or promotional opportunities, FCPA enforcement action should be expected. Example: SEC v. Lucent Technologies (D.D.C. 2007) The SEC and DOJ alleged that from , Lucent financed over 300 trips to the U.S. by more than 3

4 1,000 employees of Chinese companies. Lucent obtained contracts to sell switching equipment to these companies, many of which were state-owned or statecontrolled enterprises. The SEC and DOJ alleged that the foreign officials spent a disproportionate amount of time on sightseeing, entertainment and leisure activities, that Lucent failed to monitor the purpose and content of the trips, and that its Chinese subsidiary failed to accurately document the expenses incurred. In settlement agreements with the DOJ and SEC, Lucent admitted the charged conduct, agreed to pay $2.5 million in penalties, and further agreed to implement rigorous compliance, training and accounting control measures. Myth #7: Payments made to foreign charities are acceptable under the FCPA. Fact: Careful due diligence is required prior to making any charitable contribution in overseas markets. Due diligence is necessary to assure that the beneficiary organization is not linked to government officials who have the ability to influence the award of business to the donor. Example: SEC v. Schering-Plough Corporation (D.D.C. 2004) In June 2004, Schering-Plough Corporation settled an SEC enforcement action alleging violations of the books and records and accounting controls provisions of the FCPA. Between February 1999 and March 2002, Schering Plough s Polish subsidiary paid approximately $76,000 to the Chudoz Castle Foundation (the Foundation). The Foundation, a charitable organization, was headed by a Polish government official who belonged to a government health fund with influence over pharmaceutical product purchases in the country. To reconcile this matter, Schering-Plough agreed to employ an independent consultant to evaluate Schering-Plough s FCPA compliance program and internal accounting controls, to make any changes recommended by the independent consultant, and to pay a $500,000 civil penalty. Myth #8: Small payments to foreign officials are not an FCPA enforcement priority. Fact: No payment, regardless of how small, can lawfully be made to a foreign official to influence or attempt to influence the acquisition or retention of business. Moreover, in determining whether to bring criminal charges on account of small payments, the DOJ will consider their cumulative net effect. Example: United States v. Vetco Gray Controls, Inc., et al. (S.D. Tex. 2007) From 2002 to 2005, four Vetco International, Ltd. subsidiaries allegedly made at least 378 illegal payments totaling $2.1 million to Nigerian customs officials. Most of the payments were relatively small; few exceeded $5,000 and many were as low as $100. Three of the subsidiaries pleaded guilty to violations of the FCPA anti-bribery provisions and agreed collectively to pay a fine of $26 million. Moreover, the plea agreement also required the subsidiaries to: (1) hire an independent monitor to create and oversee an FCPA compliance program; and (2) investigate the subsidiaries conduct in countries other than Nigeria to identify similar unlawful payments. Myth #9: Everyone is making customary or facilitating payments to keep business moving. To remain competitive we must make them as well. Fact: Facilitating or expediting payments, also commonly referred to as grease payments, are exempted from FCPA enforcement so long as the payments are made only to expedite the performance of routine, non-discretionary governmental action. The fact that the payments are made to regulatory officials who have no procurement or contract award authority does not assure the payments will be viewed as the lawful facilitating kind permitted by the Act. Example: SEC v. Delta and Pine Land Company, et al. (D.D.C. 2007) Delta & Pine Land Company, a U.S. based cotton seed producer, and its subsidiary operating in Turkey, paid approximately $43,000 to Turkish government officials during a five year period to obtain a series of certifications and reports. The SEC charged that these payments were made in violation of the FCPA antibribery provisions and that Delta & Pine did not accurately record the payments in its books and records. 4

5 Delta and its subsidiary consented to the entry of a final judgment and imposition of a $300,000 penalty. Myth #10: Facilitating payments are an exception to the anti-bribery provisions of the FCPA, so errors or omissions in documenting them do not violate the FCPA. Fact: The FCPA requires that all publicly held U.S. companies (issuers) devise and maintain a system of internal accounting controls that are sufficient to provide reasonable assurances that(:) (1) transactions are executed with management s authorization and recorded as necessary to permit preparation of financial statements in conformity with Generally Accepted Accounting Principals or other applicable criteria and to maintain accountability for assets; (2) access to assets is allowed only with management authorization; and (3) the recorded accountability for assets is compared with the existing assets at reasonable intervals. Example: SEC v. Chiquita Brands International, Inc. (D.D.C. 2001) The SEC alleged that a wholly-owned subsidiary for Chiquita Brands International, Inc. (Chiquita), in breach of Chiquita s internal policies, and without any knowledge or consent from Chiquita, authorized a broker to pay Colombian customs officials $30,000 to renew a port facility license, then booked the payment in the subsidiary s records as a discretionary expense. The SEC did not treat the payment as a violation of the anti-bribery provisions of the FCPA, but it did charge Chiquita with violations of the books and records and accounting controls provisions of the statute. Chiquita settled the charges by agreeing to pay a civil penalty in the amount of $100,000 and consenting to a cease and desist order. The existence of this order proved costly for Chiquita when, in 2004, it discovered and disclosed to the SEC the occurrence of similar questionable payments by a Greek subsidiary. Conclusion Recent enforcement trends require that companies become as aggressive in preventing FCPA violations by employees, agents and suppliers as the government has become in enforcing the Act. Implementation of an effective compliance program must be an urgent priority for those companies operating without a program to prevent FCPA violations. Companies with compliance programs already in place must upgrade training and accounting controls provisions to take account of the changing landscape of FCPA enforcement. For more information, please contact one of the lawyers listed below or your regular contact in the White Collar Crime and Corporate Investigations Practice Group: Charles S. Leeper Charles.Leeper@dbr.com Barry Gross Barry.Gross@dbr.com William M. McSwain William.McSwain@dbr.com Michael R. Miner Michael.Miner@dbr.com Gordon B. Nash, Jr Gordon.Nash@dbr.com Paul G. Nittoly Paul.Nittoly@dbr.com Gregory P. Miller Gregory.Miller@dbr.com Billy J. Smith Billy.Smith@dbr.com law offices california delaware illinois new jersey new york pennsylvania washington DC wisconsin 2008 Drinker Biddle & Reath LLP. All rights reserved. A Delaware limited liability partnership Jonathan I. Epstein and Edward A. Gramigna, Jr., Partners in Charge of the Princeton and Florham Park, New Jersey offices, respectively. This Drinker Biddle & Reath LLP communication is intended to inform our clients and friends of developments in the law and to provide information of general interest. It is not intended to constitute advice regarding any client s legal problems and should not be relied upon as such.