Most folks learn in elementary school the concept of the ‘lowest common denominator’. A non-mathematical definition might be something along the lines of meaning the most basic or lowest of something among a group. Conversely, there exists the concept of ‘highest common denominator” which might have the opposite definition of the uppermost or maximum of something among a group. The concept of highest common denominator may now by applicable to Private Equity companies and the Foreign Corrupt Practices Act (FCPA).
What are some of the ways liability can attach itself to a Private Equity company for the actions of a Portfolio Company? Although not yet tested in this context, the Nature’s Sunshine case and the theory of ‘control person liability’ could certainly be one way. Under this theory, if a person has the “power to direct or cause the direction of the management and policies to a person whether through the ownership of voting securities, by contract or otherwise.” It certainly would not take much expansion to get to a Private Equity owner of a Portfolio Company under that theory.
However, there may be a more direct route which is through one or more of the following: actual knowledge, willful blindness, conscious disregard or deliberate ignorance. It is through one of these mechanisms that the ‘highest common denominator’ comes into play. Typically Private Equity entities have a variety of Portfolio Companies. This variety can reach across several industries and equal a large number of Portfolio Companies. The Private Equity owners may reach down to exercise a large amount of control over each Portfolio Company. This could lead to actual knowledge of each Portfolio Company’s compliance program.
Nevertheless, a Private Equity company may allow its individual Portfolio Companies to develop their own compliance programs. This could lead, through the ‘highest common denominator’, to a charge of willful blindness, conscious disregard or deliberate ignorance. How would it work? Along the following lines: If a Private Equity entity had 10 Portfolio Companies and one had a best practices compliance program and the others had something less than best practices, I believe that the Private Equity entity would be held to the standard of the highest or best compliance program of any entity in its portfolio. This would put the Private Equity entity on actual knowledge of a best practices compliance program and then the Private Equity owner would be consciously disregarding or deliberately ignoring such best practices for the remainder of its portfolio.
This does not mean that if the Private Equity had one multi-billion dollar entity and several others in the range of $250 to $750 MM in value, that it would be held to the standard of the compliance program in the multi-billion entity but if there are several in the lesser range, it could well be held to the highest standard of the companies in that lesser range. That means that if the Private Equity entity is allowing the Portfolio Companies to implement their own compliance solutions, it may be setting itself up for liability.
So what is the answer? The first thing that the Private Equity owner must do is have an assessment of each Portfolio Company’s compliance program. If one has a best practices compliance program such a program may well need to be implemented across the spectrum of Portfolio Companies. If not, there may be an action based upon the highest common denominator.
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© Thomas R. Fox, 2011