The Court set out five (non-exclusive) characteristics that would suggest that a state-owned corporation was in fact an instrumentality for FCPA purposes:
- It provides service to citizens of the jurisdiction.
- The key officers and directors are, or are appointed by, government officials.
- It is financed, at least largely, by government appropriations or government mandated taxes, licenses, fees or royalties.
- It is vested with and exercises exclusive or controlling power to administer its designated functions.
- It is widely perceived and understood to be performing official, that is governmental, functions.
Since the CFE satisfied all of these criteria, the Court found it to be a government instrumentality.
Industry "Sweeps." The SEC and DOJ have disclosed publicly their focus, also know as "sweep investigations," in several industry areas including the oil and gas business and pharmaceutical industry to crack down on public companies and third parties who are paying bribes in violation of the FCPA. In November 2010, the SEC and the DOJ reached settlements with several freight forwarding companies and touted the actions as the first results of the sweep investigations.22 The majority of the SEC and DOJ actions were filed in the Southern District of Texas. The SEC alleged that the freight forwarding companies paid over $30 million in bribes to customs officials in more than 10 countries in exchange for such perks as avoiding applicable customs duties on imported goods, expediting the importation of goods and equipment, extending drilling contracts, and lowering tax assessments. The companies also paid bribes to obtain false documentation related to temporary import permits for oil drilling rigs, and enable the release of drilling rigs and other equipment from customs officials. The companies agreed to pay a total of $156.5 million in criminal penalties and to pay in settlements with the SEC disgorgement, interest and civil penalties totaling approximately $80 million. The matters stem from an investigation that focused on allegations of foreign bribery in the oil field services industry.
Fraud Actions. The SEC and DOJ on April 8, 2011, charged Johnson and Johnson ("J&J"), a global pharmaceutical, consumer product, and medical device company, with violations of the FCPA involving payments of bribes to illegally obtain business.23 The SEC's complaint alleges that J&J subsidiaries, employees, and agents paid bribes to public doctors and administrators in Greece, Poland, and Romania. Doctors who ordered or prescribed J&J products were rewarded in a variety of ways, including cash and inappropriate travel. The SEC alleges that a variety of schemes were used to carry-out the bribery, including the use of slush funds, sham civil contracts with doctors, and off-shore companies in the Isle of Man. According to the complaint, a J&J executive was involved in the Greek conduct, and executives at a J&J subsidiary in Poland for three business lines oversaw the creation of sham contracts, travel documents, and the creation of slush funds in Poland. The SEC's complaint also alleges that J&J's agent paid secret kickbacks to Iraq to obtain 19 Oil for Food contracts. J&J agreed to pay more than $48.6 million in disgorgement and prejudgment interest to settle the SEC's charges and to pay a $21.4 million fine to DOJ to settle criminal charges. Additionally, J&J is under investigation by the United Kingdom Serious Fraud Office where J&J is also expected to enter into a settlement. Although the numbers are still quite large, the amount of penalties against J&J has been viewed by many as an example of a "lesser sanction" designed to recognize the company's cooperation and the compliance program it did have in place prior to the violations.
Also in February 2011, the SEC charged Tyson Foods, Inc. with violations of the FCPA. According to the SEC's complaint, Tyson Foods' subsidiary, Tyson de Mexico, made improper payments during fiscal years 2004 to 2006 to two Mexican government veterinarians responsible for certifying its chicken products for export sales.24 The SEC alleges that Tyson de Mexico initially concealed the improper payments by putting the veterinarians' wives on its payroll although they performed no services for the company. The wives were later removed from the payroll and payments were then reflected in invoices submitted to Tyson de Mexico by one of the veterinarians for "services." Tyson de Mexico paid the two veterinarians a total of $100,311. Tyson Foods agreed to settle the SEC charges and was ordered to pay disgorgement plus pre-judgment interest of more than $1.2 million. Tyson Foods entered into a deferred prosecution agreement and paid a $4 million criminal penalty. The SEC alleged that it was more than two years after Tyson Foods' officials first learned about the subsidiary's illicit payments before its counsel instructed Tyson de Mexico to cease making the payments.
Books and Records and Internal Controls. Several of the recent FCPA cases by the SEC were settled without charges under the anti-bribery provisions and without simultaneous charges by DOJ. For example, in March 2011, the SEC charged International Business Machines Corporation ("IBM") with violating the books and records and internal control provisions of the FCPA for allegedly providing improper cash payments, gifts, and travel and entertainment to government officials in South Korea and China.25 According to the SEC's complaint, from 1998 to 2003, employees of IBM Korea, Inc., an IBM subsidiary, and LG IBM PC Co., Ltd., a joint venture in which IBM held a majority interest, paid cash bribes and provided improper gifts and payments of travel and entertainment expenses to various government officials in South Korea in order to secure the sale of IBM products. The SEC also alleged that that, from at least 2004 to early 2009, employees of IBM (China) Investment Company Limited and IBM Global Services (China) Co., Ltd., both wholly-owned IBM subsidiaries, engaged in a widespread practice of providing overseas trips, entertainment, and improper gifts to Chinese government officials. In settlement, IBM agreed to pay disgorgement plus interest of $8 million and a $2 million civil penalty.
The SEC also charged only violations of the books and records and internal controls provisions of the FCPA against Comverse Technology, Inc.26 The SEC alleges that between 2003 and 2006, Comverse Limited, an Israeli operating subsidiary of Comverse, made improper payments of approximately $536,000 to individuals connected to OTE, a telecommunications provider based in Athens, Greece that is partially owned by the Greek Government. According to the complaint, Comverse Limited employed a third-party agent to establish an offshore entity in Cyprus which, after taking 15% off the top of these payments, funneled the improper payments to Comverse Limited's customers. The SEC alleges that the payments resulted in contracts worth approximately $10 million in revenues and ill-gotten gain of approximately $1.2 million. Comverse settled the SEC charges by agreeing to pay $1.6 million in disgorgement and interest. Simultaneous with the SEC's filing, the DOJ announced that Comverse had entered into a non-prosecution agreement and agreed to pay a $1.2 million penalty.27
The SEC's complaint against Comverse notes that at the time of the conduct, the company had an omnibus anti-corruption policy to prohibit improper payments but did not circulate it widely and had not provided employee training on it. In the complaint, the SEC also states that at the time of the conduct, neither Comverse nor its subsidiary, had a process for conducting due diligence of sales agents or for the independent review of agent contracts outside the sales departments. Finally, the SEC asserts that Comverse and its subsidiary did not have any policies or controls requiring the head of security to notify any executives of conduct by any agents on behalf of the subsidiary. Each of these statements gives signals to companies regarding the type of internal procedures expected under an effective FCPA compliance policy. While the SEC does not outline the reasons for the lesser penalty in the Comverse action than other similar FCPA cases, the DOJ release recognizes the company's thorough self-investigation, voluntary disclosure, full cooperation with the government, and extensive remedial efforts including training programs and new accounting controls.
Charges Against Individuals. The SEC is frequently faulted for failing to bring significant FCPA cases against the individuals who caused or participated in the bribery conduct. However, one such case was brought by the SEC in early 2011. The SEC charged Paul W. Jennings, who was CFO and later CEO of Innospec, Inc., with FCPA violations based on his approval of bribes paid to foreign officials to obtain or retain business.28 The SEC previously charged Innospec, a manufacturer and distributor of fuel additives and other specialty chemicals, with routinely paying bribes to government officials between 2000 and 2008 in order to sell TEL, a fuel additive, which boosts the octane value of gasoline, to government owned refineries and oil companies in Iraq and Indonesia. The SEC alleged that Jennings was copied on emails outlining the payments and that he, along with other managers, specifically knew of their purpose when approving them. The SEC also alleged that Jennings signed annual and quarterly certifications containing false statement of his compliance with the code of ethics and concerning the company's books and records and internal controls. Jennings settled the SEC action by agreeing to pay disgorgement and interest of approximately $129,000 and a civil penalty of $100,000 that, according to the SEC's release, takes into consideration his cooperation.
G. Regulation FD
The SEC has a renewed focus on enforcement of Regulation FD, the rule aimed at preventing publicly traded companies from disclosing material information to select analysts, investors, or other private parties prior to disclosing it to the public. Although two enforcement actions for the year seem meager, the fact that they follow only one action in the previous five years demonstrates that Regulation FD is back on the Commission's agenda. As discussed more fully in the attached article, "SEC's Regulation FD Enforcement Actions Bring Compliance Lessons to Light," company counsel should review these recent actions under Regulation FD to determine whether enhanced procedures and training are appropriate.
In March 2010, the SEC charged Presstek, Inc., and its former CEO, Edward Marino, with Regulation FD violations based on communications Marino had had at quarter-end with an investment adviser whose funds held a large number of Presstek shares.29 The SEC's complaint alleged that Marino informed the adviser that the previous months had not been "as vibrant as [] expected" and that performance was a "mixed picture." This differed from the previous, more positive expectations Presstek issued to the public. Presstek issued a public statement the next day and later revamped its compliance policies. While the SEC took these remedial measures into consideration when imposing penalties, it nonetheless maintained its position that the information should have been publicly disclosed simultaneously with the analyst conversation. The company paid $400,000 to settle the charges against it; Marino is currently litigating.
Presstek, much like a predecessor action involving the former CFO of American Commercial Lines, Inc., Christopher A. Black,30 was based on somewhat clear violations of Regulation FD. However, the SEC charged only the former CFO in the Black action, rather than both the executive and the company. The SEC credited American Commercial Lines with "cultivat[ing] an environment of compliance" prior to the violation, which demonstrates that the SEC views companies with preventative measures in place less culpable than those that simply implement remedial measures.
In October 2010, the SEC charged Office Depot, Inc. and two of its executives with violations of Regulation FD for communicating implicit warnings about declining earnings to analysts.31 The SEC alleged that company executives made telephone calls to analysts in an attempt to encourage them to lower previous estimates, which company executives deemed no longer feasible. The executives did not directly provide information about the company's declining performance, but instead reminded the analysts of the company's prior cautionary statements and directed them to the earnings statements of similar companies that recently had experienced downturns due to the weakening economy. Notably, the two executives charged did not participate directly in the calls. However, they developed the talking points and encouraged the calls even after analysts voiced surprise that the information had not been disclosed publicly. Office Depot and both executives settled the charges. The company agreed to pay a $1 million penalty and each of the executives agreed to pay $50,000 penalties and sign cease-and-desist orders.
Company liability for violations of Regulation FD can be prevented or substantially decreased by a strong compliance policy and training prior to any indications of concern. Among other things: 1) consider prohibiting calls with analysts or investors regarding company performance at or near quarter-end; 2) stick to regular schedules of calls whenever possible and be cautious when making any non-routine calls to analysts; 3) provide training to all executives, including those who do not speak directly with investors or analysts, so that they understand the personal accountability and individual penalties that the SEC may impose on them; and 4) emphasize the need to refrain from "winks," "nods," "hints," or other subtext from any analyst or investor calls.
III. PROCESS, PRACTICE AND PROCEDURE CHANGES
A. Cooperation Issues and the Non-Prosecution Agreement
In January 2010, the SEC introduced an initiative designed to encourage greater cooperation in the agency's investigations and enforcement actions. Through the initiative, the Division of Enforcement was authorized to use several new tools to encourage cooperation from corporations and individuals. One such tool was the new authority to offer non-prosecution agreements to those who report securities violations and provide substantial assistance in the SEC's investigations and enforcement actions. Based largely on the non-prosecution agreements used by the Department of Justice in criminal cases, a non-prosecution agreement is a written agreement between the SEC and a cooperating entity that provides that the Commission will not pursue an enforcement action against the entity if the entity agrees to "cooperate truthfully and fully" with the Commission.
The SEC uses four key measures to determine whether a corporation qualifies for a non-prosecution agreement:
- Self-policing and compliance efforts prior to the discovery of the misconduct;
- Prompt self-reporting of the misconduct;
- Appropriate remediation; and
- Cooperation with enforcement authorities
Additionally, the SEC considers whether there are alternative means of obtaining the desired cooperation. If the SEC determines that a non-prosecution agreement is warranted, then it will require continued cooperation. "Cooperation" is not defined, and the SEC has discretion in fashioning its demands.
On December 20, 2010, the SEC entered into its first ever non-prosecution agreement. The agreement was with Carter's, Inc., an Atlanta-based provider of children's clothing.32 In 2009, Carter's had discovered that its Executive Vice President of Sales had been cooking the books for at least five years by granting undisclosed discounts to one of Carter's largest customers. The executive hid his conduct by submitting false authorizations to the accounting group. Because of the undisclosed discounts totaling more than $18 million, Carter's was required to issue restated financials.
According to the SEC's press release, Carter's promptly reported the issue to the SEC, undertook extensive remedial measures, conducted a thorough internal investigation, and provided the SEC with "exemplary and extensive cooperation." Although the press release does not specifically describe the extent of Carter's cooperation, it presumably shared the results of the internal investigation with the SEC staff. In light of Carter's efforts, the SEC determined that a non-prosecution agreement was warranted. Pursuant to the agreement, Carter's agreed to provide continuing cooperation, including the prompt production of all non-privileged documents requested by the Commission and the use of best efforts to ensure the cooperation of its officers, directors, employees, and agents. Carter's agreed to produce the individuals, at its expense, for interviews and testimony, as requested by the staff.
The Carter's example will not be the last time the SEC uses a non-prosecution agreement. Companies can expect the Commission to continue using this tool in the future. It is likely that fewer companies will find themselves with a complete "pass" in which no charges are levied pursuant to the "Seaboard" report on investigation issued in 2001.33 But, the non-prosecution agreement offers the potential for certainty and resolution without a costly and lengthy enforcement action that would or could have collateral consequences and complications for a public company. As a result, companies and individuals have an equally strong motivation to assist the SEC.
Companies should revisit their internal controls to ensure that they are adequately policing for misconduct and put compliance procedures in place in key areas – before any indications of potential wrongdoing. Upon discovering issues that could lead to SEC enforcement action, companies should respond immediately and investigate promptly. With those facts, a company will be poised to obtain a non-prosecution agreement in exchange for cooperation.
B. Process Changes Enacted in the Dodd-Frank Wall Street Reform and Consumer Protection Act
The Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank" or the "Act") became law in July 2010 and was touted as the most sweeping regulatory overhaul of the financial markets since the Great Depression. Currently, there are bills pending to repeal some or all of the Act but, presently, it remains in tact. The Act provides the SEC with additional enforcement powers that may have consequences for public companies and their officers and directors.
1. New Whistleblower Bounties and Protections.
Whistleblowers are given expanded incentives and protections under the Act. Previously, the SEC had the ability to provide bounties to informants who provided information regarding insider trading violations under certain circumstances. The new provisions are significantly broader in two respects:
A. The SEC is directed to pay whistleblowers an award in any judicial or administrative action in which the sanctions, including penalties, disgorgement and interest, exceed $1 million. Payments can be made in connection with any substantive violation, including the financial and disclosure, FCPA, Regulation FD, and other actions discussed above. Previously, the SEC had the authority to make payments to whistleblowers only in cases involving insider trading violations.
B. The amount of a whistleblower award is directed to be between 10 and 30 percent of the total sanction collected in any action, but the SEC is given discretion to determine the amount of an award using specified criteria. This represents a significant payoff to whistleblowers and, obviously, a motivation to provide information to the SEC.
Internal and external auditors and attorneys are specifically excluded from claiming a whistleblower award as are employees of regulatory agencies, self-regulatory organizations, and law enforcement agencies. Dodd-Frank also provided new protections for Whistleblowers against retaliation by their employers. The Act establishes a cause of action by whistleblowers who are subjected to harassment, demotion, threats or other misconduct from their employers which action can be filed directly in a U.S. District Court. Whistleblowers are entitled to receive reinstatement, two times their back pay, and all litigation expenses if they prevail in any action under this section. Dodd-Frank also prohibits companies from impeding any individual from becoming a whistleblower.
The SEC proposed rules for implementing some of the whistleblower provisions in November 2010 and the SEC has received hundreds of comment letters. The rules have come under fire by public companies because they have the potential for undermining a company's internal audit and compliance processes. The SEC's new proposed rules do not require whistleblowers to report wrongdoing internally before reporting it to the SEC; the SEC has proposed only a procedure under which a whistleblower may report internally to the company and preserve that complaint date, under certain circumstance, to qualify as the "first in line" for the SEC bounty. The proposed rules were expected to become final sometime in the first quarter of 2011 but, according to the SEC, have been postponed due to budget constraints. Dodd-Frank requires the SEC to establish a new whistleblower office in the Office of Market Intelligence to handle whistleblower complaints. The creation and staffing of this office, however, is also on hold due to Congress' failure to provide the SEC with the funding necessary to staff the office.
Despite the lack of SEC rulemaking, it is likely that whistleblowers will be able to claim bounties for any complaint made after the passage of Dodd-Frank. In response, and in preparation for the anticipated rules, companies should begin considering options for training to employees on the internal reporting of potential violations, including identifying the avenues and reasons for internal reporting. Moreover, companies may want to consider incentives which, although not likely to be as large as any available through the SEC's program, allow employees to profit in addition to helping the company and remaining loyal to their employer. Most significantly, companies should provide anti-retaliation training, in particular to management employees and should review personnel documents and agreements to ensure that the company cannot be viewed as impeding an employee from whistleblowing.
2. SEC Enforcement Power and Procedure.
In the Dodd-Frank Act, Congress attempted to both empower the SEC to do a better job as well as hold the SEC more accountable for progress in its investigations. Of particular note are the provisions that give the SEC additional legal options.
First, the SEC is given authority to bring actions for aiding and abetting violations of the Securities Act of 1933, the Investment Advisers Act of 1940, and the Investment Company Act of 1940, in addition to the previously existing authority under the Exchange Act. Moreover, the act settles the mixed standards in the circuit courts for the knowledge required for aiding and abetting; the Act specifies that liability for aiding and abetting is specified to include reckless, in addition to knowing, conduct.
Next, the Act gives the SEC to issue subpoenas and compel appearances in judicial actions in any place in the United States. The SEC sought this nationwide service of process provision for many years to enable it to compel witnesses to appear even if they are not within the jurisdiction of the court in which an action is filed. This will allow the SEC to present more witnesses live at trial rather than, as was previously the case, using substantial amounts of video testimony or, worse yet, the reading of testimony transcripts at trial.
But, the most stunning change with likely the largest impact on public companies is the SEC's new authority to impose civil penalties in cease-and-desist proceedings brought under the federal securities laws. The SEC will now have the option to charge companies and their officers, directors and employees in administrative proceedings held before an administrative law judge ("ALJ"). While not every ALJ evidences conduct suggesting that the government will always be successful in enforcement actions, those decisions by the ALJ are appealed to the SEC – the same five Commissioners who authorized the Division of Enforcement to bring the case.34
The process in a cease-and-desist proceeding can be difficult for defense counsel. The defendants, called respondents, have limited subpoena rights, and except in rare circumstances, cannot take depositions to prepare for trial. Also, the SEC's rules of practice require an administrative law judge to issue an initial decision within prescribed time frames, the longest of which is 300 days from the Order Instituting Proceedings. This will result in trial dates that will likely be only six months or so from the initiation of the litigation providing very little time for discovery and trial preparation.
While the Act gave the SEC new enforcement tools and powers, it also established new guidelines to keep the SEC under Congress' watchful eye. Congress has imposed deadlines for the completion of SEC enforcement investigations and examinations. Within 180 days after sending a Wells notice to any party, the SEC staff must file an action unless the Director of the Division of Enforcement grants an extension and notifies the SEC Chairman. Similarly, within 180 days after completing the on-site portion of an examination, the SEC staff must provide the registered entity being examined with a written notification of the exam's conclusion and findings if any. The Director for the staff conducting the examination may extend the deadline in complex matters upon notice to the SEC Chairman.
IV. CONCLUSION
Speaking in Dallas on April 8, 2011, before the Society of American Business Editors and Writers, SEC Chairman, Mary L. Schapiro said:
"We now know that a functioning and effective financial system demands an effective and committed referee. We must be that referee."
The SEC's Division of Enforcement had a relatively successful 2010 in light of the changes and restructuring during that time. In the first six months of fiscal 2011, the Enforcement Division has demonstrated by some key cases that it intends to be an active referee for the securities laws and aggressively penalize violators. Many of the areas watched closely by the Enforcement Division are those involving public companies and their officials. Company counsel can best prevent the violations, and protect the company, by staying familiar with the SEC's latest cases, periodically testing and revising policies, and engaging in education and training of company directors, officers and employees.
Footnotes
22. See, e.g., SEC v. Panalpina, Inc., No. 4:10-cv-4334 (S.D. Tex.), Lit. Rel. No. 21727 (Nov. 4, 2010), available at http://sec.gov/litigation/litreleases/2010/lr21727.htm.
23. SEC v. Johnson & Johnson, No. CV-11-0708 (N.D. Cal.), Lit. Rel. No. 21922 (April 8, 2011) available at http://sec.gov/litigation/litreleases/2011/lr21922.htm .
24. SEC v. Tyson Foods, Inc., No. 1:11-CV-00350 (D.D.C.), Lit. Rel. No. 21851 (Feb. 10, 2011) available at http://sec.gov/litigation/litreleases/2011/lr21851.htm.
25. SEC v. International Business Machines Corp., No. 01:11-cv-00563 (D.D.C.), Lit. Rel. No. 21889 (March 18, 2011) available at http://sec.gov/litigation/litreleases/2011/lr21889.htm .
26. SEC v. Comverse Technology, Inc., No. 11-CV-1704 (E.D.N.Y.), Lit. Rel. No. 21920 (April 7, 2011) available at http://sec.gov/litigation/litreleases/2011/lr21920.htm .
27. DOJ release 11-438 (April 7, 2011), available at http://www.justice.gov/opa/pr/2011/April/11-crm-438.html.
28. SEC v. Jennings, No. 1:11-CV-00144 (D.D.C.), Lit. Rel. No. 21822 (Jan. 24, 2011) available at http://sec.gov/litigation/litreleases/2011/lr21822.htm .
29. SEC v. Presstek, Inc., No. 1:10-cv-10406 (D. Mass. Mar. 9, 2010), Lit. Rel. No. 21443 (Mar. 9, 2010), available at http://sec.gov/litigation/litreleases/2010/lr21443.htm .
30. SEC v. Black, No. 09-cv-0128 (S.D. Ind., Sept. 24, 2009), Lit. Rel. No. 21222 (Sept. 24, 2009), available at http://sec.gov/litigation/litreleases/2009/lr21222.htm.
31. SEC v. Office Depot, Inc., No. 9:10-cv-81239 (S.D. Fla. Oct. 21, 2010), Lit. Rel. No. 21703 (Oct. 21, 2010), available at http://sec.gov/litigation/litreleases/2010/lr21703.htm.
32. Press Release 2010-252, Securities and Exchange Commission, SEC Charges Former Carter's Executive With Fraud and Insider Trading (December 20, 2010), available at http://www.sec.gov/news/press/2010/2010-252.htm ; see also http://www.sec.gov/litigation/cooperation/2010/carters1210.pdf (Carter's, Inc. Non-Prosecution Agreement).
33. Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934 and Commission Statement on the Relationship of Cooperation to Agency Enforcement Decisions (October 23, 2001), available at http://www.sec.gov/litigation/investreport/34-44969.htm.
34. The Commission's decision and ruling on the ALJ's initial decision is then appealed to either the Washington, D.C. Circuit or the Circuit Court in which the respondent is based or resides.
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