In FCPA Enforcement Sometimes Truth is Stranger than Fiction – The Cilnis Complaint

I often marvel at some of the stories which come up in the context of Foreign Corrupt Practices Act (FCPA) investigations and enforcement. If you made up some of the things which are reported, I fear that people might find you simply crazy. One of these stranger than fiction stories now appears to be playing out in the US District Court for the Southern District of New York, where a Complaint was recently filed by the US government against one Frederic Cilnis, for obstruction of justice into an ongoing FCPA investigation.

Cilnis was arrested on April 14, 2013 in Jacksonville, Florida and charged with obstruction of justice for attempting to persuade an individual who is a Cooperating Witness (CW), to destroy documents which purport to show the bribery scheme engaged in to obtain mining concessions. In the Complaint filed in the US District Court for the Southern District of New York, a Special Agent with the Federal Bureau of Investigation (FBI) detailed five contracts which Cilnis sought to obtain from the CW and destroy. As reported by the Financial Times (FT), in an article entitled “Contracts link BSGR to alleged bribes”, Tom Burgis, Misha Glenny and Cynthia O’Murchu, reported documents related to allegations that “The resources arm of Beny Steinmetz Group agreed to pay $2m to the wife of an African president to help it secure rights to one of the world’s richest untapped mineral deposits”. The contracts “set out agreements for the company to make payments and transfer shares to Mamadie Touré, wife of the then president Lansana Conté.” As the quid pro quo for these commission payments, “Ms Touré would take “all necessary steps” to advance its efforts to win rights to the Simandou deposit, a February 2008 contract says. A further $2m would be dispersed among other people to facilitate the acquisition of the rights.”

In the Complaint the CW is only identified as “the former wife of a now deceased high-ranking official in the government of Guinea”. Mamadie Touré’s former husband, the then president Lansana Conté is now deceased. Cilnis is identified in the Complaint but his business relationship is only identified as “Entity”. In an article in the Wall Street Journal (WSJ), entitled “BSGR Confirms Engaging Man in Guinea Charged with Obstruction”, Sam Rubenfeld reported that the company BSG Resources, Ltd. now says that it worked with Frederic Cilnis, although Cilnis was never an employee of the company.

The Complaint detailed five separate contracts which are alleged to show the efforts of Cilnis and his business relations to pay bribes and engage in corruption to obtain the mining concession. The Compliant specifies that Cilnis requested the CW produce original copies of the contracts and that he personally witness their destruction. In addition to the five contracts, Cilnis prepared for and had the CW sign an Attestation denying any involvement with him or helping his company obtain the mining rights in Guinea.

Protocol-1

This contract was dated June 20, 2007, and was between the CW and the Guinean subsidiary of the Entity. For her assistance in obtaining permits, the Entity’s Guinean subsidiary would transfer 5% of its shares to a company controlled by the  CW.

Protocol-2

This contract was dated February 28, 2008 and stated that the Entity “commits to giving 5% of the shares of stock of blocks 1 and 2 of Simadou [the mining concession]” to the CW.

Commission Contract

This contract is dated February 27, 2008. In this agreement, the CW’s company commits to “taking all necessary steps from the authorities the signature for the obtaining of the aforementioned blocks”. For this consideration, a $2MM would be made available for the distribution “among persons of good will who may have contributed to facilitating the granting of the blocks”.

Engagement Letter

This is an undated document. In it the Guinean subsidiary proposed to allow the CW up to a 5% shareholding stake in the Guinean subsidiary. There would be a further transfer of 17.65% of the capital by the Guinean subsidiary as well.

August 3, 2010 Contract

This is a contract dated August 3, 2010. In it the Entity’s holding company agrees to pay to the CW the additional amount of $5MM, in two tranches. The first payment of $2.5MM was to be paid at contract execution and the second to be paid 24 months later. Interestingly, the Compliant stated that this contract “required the CW to conceal the CW’s relationship with the Holding Company, reciting that the CW and the CW’s company ‘commit herewith to make no use of the document, in any manner, directly or indirectly, and not to use this document against the [Holding Company] and/or its partner and/or its associates in Guinea or elsewhere.’”

The Attestation

In addition to the documents that Cilnis sought to have destroyed, he prepared and presented to the CW a document entitled “Attestation”. The CW signed this Attestation and copies were made. According to the Complaint, the Attestation was drafted as if it was written and prepared by the CW herself and in it were the following statements:

1. I have never signed a single contract with the Entity, neither directly or indirectly through anyone else.
2. I never intervened with Guinean officials in favor of [the Entity]…
3. I have never received any money from [the Entity], neither directly or indirectly… [The Entity] never gave…any money, neither directly to me nor to anyone else on by behalf. They did not promise to pay me anything, neither to me, nor to anyone else on my behalf.

Destruction of Documents

The Complaint specified that Cilnis told the CW several times that the documents need to be destroyed urgently. Moreover, “they need to find a place to burn all of them, adding that they cannot do it at the CW’s house.” When the CW suggested that she could destroy the documents, Cilnis repeated that “Cilnis was instructed to see it happen in person and that Cilnis cannot lie when he is asked whether he, Cilnis, saw the papers being burned.”

For the destruction of the documents, the Complaint notes that Cilnis offered the CW $1MM. $200,000 of this total would be paid now and “$800,000 at a later date.” Further, Cilnis is alleged to have proposed an additional $5MM fee “if the group is not forced out” of Guinea but that the CW will receive “the $1million regardless of the outcome.”

I guess Cilnis has nothing on John Connally who once advised President Nixon to burn the White House tapes on the front lawn of the White House, in the full view of the American people. The WSJ article reported that BSGR said that “allegations of any improper conduct relating to how the company obtained a mining license in Guinea “are entirely baseless and motivated by an ongoing campaign to seize the assets” of the company.” Then BSGR claimed it is the real victim here as it has become “the victim of extortion attempts by individuals who are seeking economic gains.” Further, “The modus operandi of these attempts involved at times the use of forged documentation, blackmail and harassment.” No word from BSGR if anyone has asked them to burn documents.

Like I said, in the world of FCPA enforcement, sometimes truth is stranger than fiction.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

Three Compliance Interviews on April 3

I attended the Dow Jones Global Compliance Symposium over the past couple of days. It was a great conference and kudos to the entire Dow Jones team for putting on a truly memorable event. Day 2 had some interesting speakers and I thought that I might highlight some of the note-worthy things that they said. I should initially note that they did not present prepared remarks but were interviewed by Wall Street Journal (WSJ) reporters. Frustratingly, all three were very good at not answering some of the more pointed questions they were posed but they did have some thought-provoking answers to some of the questions posed to them.

Jeff Benjamin

Benjamin was retired and living in Cape Cod, when he was lured out of retirement to take over as the Senior Vice President (SVP) and General Counsel (GC) for Avon Products, Inc., in September of last year. He used this late entry into the company as a way not to answer questions about the ongoing investigation or the company’s amount of legal and investigative fees incurred to-date. He did answer a question generally around the company using two law firms which I found fascinating. He said that more law firms do not necessarily mean more lawyers working on an assignment or project. He said that by using two law firms, he can use “the best people in the best roles” rather than simply the best people. For all you Chief Compliance Officers (CCO’s) or GC’s out there you might want to think about that concept.

I was a bit frustrated that he was cut off when answering the question of his thoughts on what differentiated an elite compliance program from merely a functional one. The first point was that the compliance program seeks continual improvement. The second is that each of a company’s employees takes personal responsibility for establishing and retaining a culture of compliance and ethics in a company. I wish he had been able to give us the final two but he got side-tracked on another point.

I asked Benjamin the role that compliance plays in reconstituting employee morale after a catastrophic compliance failure that (apparently) occurred at Avon. Benjamin initially noted that he believes that the compliance function has a large role to play in rebuilding employee morale. He said a key for Avon was to look at the compliance failures and to use those as teaching moments for the work force. He coupled this with a very intensive construction of the compliance architecture for the company, communicated thoroughly to all employees. He ended with some out of the box thinking like bringing in Cynthia Cooper, the employee who blew the whistle at WorldCom, to speak to company employees on the need to ‘Speak Up and Speak Out’.

Gerson Zweifach

Zweifach is the General Counsel and Chief Compliance Officer for News Corp. He is former federal prosecutor and holds himself very much with that bearing and demeanor. He was asked about his dual roles as GC and CCO and he said that given where the company is, in the middle of a multi-jurisdiction, multi-law investigation, he believed that combining both roles was appropriate, at least for the next couple of years. He also noted that he was told by the News Corp’s Chief Executive Officer (CEO) that “I don’t want this to happen again” and he took that as another reason that the roles should be combined, at least for the foreseeable future.

Zweifach said the biggest change that he had to effect on the company was to elevate problems to the corporate headquarters, if they involved “the core integrity” of the company. News Corp is a very decentralized business with assets all over the world. Prior to their current legal imbroglio, they did not handle such problems in the US but Zweifach has learned that this must be done to help ensure that the company gets a full picture of the facts as soon as possible. Further, any core integrity issue can become global very quickly so there needs to be central management of this issue as soon as possible.

As a former prosecutor and white collar defense lawyer, he was not too familiar with the concept of risk assessments as a corporate tool, so he had a fair amount to learn on the subject. But he learned something very interesting and that was simply because a business is located in a high-risk country it may not be high risk. Conversely, simply because a business is in a perceived low risk country, such as the UK, the business may be high risk. I found this to be a very interesting insight and  something that Foreign Corrupt Practices Act (FCPA) compliance practitioners could consider when doing their overall risk assessments.

Alberto Gonzales

Gonzales is the former Attorney General of the United States and is currently Of Counsel to the law firm of Waller Lansden Dortch & Davis LLP. Gonzales spoke about the FCPA and potential change of the law. Initially he noted that reform of the FCPA in Congress is dead, although he tried to blame it on the Democratic administration, forgetting perhaps that the greatest increase in FCPA enforcement occurred while he was Attorney General (oops!). But he did say that perhaps there could be some different interpretations by regulators, such as the Department of Justice (DOJ) and Securities and Exchange Commission (SEC). Leaving aside the subtle distinction that the DOJ are prosecutors and not regulators (oops again!) he said that he believed business groups were right to continue to clamor for additional FCPA guidance, as he clearly demeaned the November-released FCPA Guidance as “so-called guidance”.

He also said that greater transparency would be of assistance to the compliance practitioner and here he talked about further information on declinations. He said that he believed the DOJ could strip out the indemnity markers but the key information would be for the DOJ to itemize the information which went into their decision making calculus as to why a declination was granted as opposed to an enforcement action. This is certainly something that I do agree with Gonzales on.

The Dow Jones Global Compliance Symposium continues to be one of the premier compliance events annually. If you did not attend this year and can do so next year, I urge you to try and get yourself up to DC for the conference.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

McNulty’s Maxim No. 3 and Response to Allegations of Bribery

In a Wall Street Journal (WSJ) article by Chris Matthews, Joe Palazzolo and Shira Ovide, entitled “U.S. Probes Microsoft Bribery Allegations”, they reported that the Department of Justice (DOJ) and Securities and Exchange Commission (SEC) were investigating “kickback allegations made by a former Microsoft representative in China, as well as the company’s relationship with certain resellers and consultants in Romania and Italy”. A whistleblower alleged that an executive of Microsoft’s China subsidiary had told the whistleblower “to offer kickbacks to Chinese officials in return for signing off on software contracts”. Additionally, they reported that “investigators are also reviewing whether Microsoft had a role in allegations that resellers offered bribes to secure software deals with Romania’s Ministry of Communications”.

Interestingly, as reported by Chris Matthews in a WSJ post in Corruption Currents, entitled “Microsoft Responds to FCPA Allegations”, Microsoft publicly responded to the reports. Matthews reported that Deputy General Counsel (GC) John Frank wrote in a blog post “As our company has grown and expanded around the world, one of the things that has been constant has been our commitment to the highest legal and ethical standards wherever we do business”. Frank also said that “The matters raised in the Wall Street Journal are important, and it is appropriate that both Microsoft and the government review them.”

Commenting on this situation with Microsoft, Alexandra Wrage, President of Trace International, wrote an article on Forbes.com, entitled “Microsoft And The Rising Federal Scrutiny Of Bribery”, where she said, “All of this should not be discouraging to companies worried about complying with anti-bribery laws. Strong compliance programs, even those that fail to prevent all forms of bribery, do provide protection from liability. “[A] company’s failure to prevent every single violation does not necessarily mean that a particular company’s compliance program was not generally effective,” write the DOJ and SEC in their recently published Resource Guide to the FCPA. “[The] DOJ and SEC…do not hold companies to a standard of perfection,” the Guide continues. This may not be enough to guarantee corporate compliance officers a full night’s rest, but it should provide some comfort.”

Wrage also noted that the Microsoft investigation underscores that fact that with any company that does business internationally you cannot watch all the people, or indeed all the third parties, all the time and that violations of anti-corruption laws such as the FCPA or anti-bribery laws, such as the UK Bribery Act, are a constant risk in worldwide business operations. She believes that Microsoft, by all accounts, would appear a robust anti-bribery compliance program. She understands that Microsoft’s Standards of  Business Conduct intones a strict policy against bribes, quoting it for the following:

“Microsoft prohibits corruption of government officials and the payments of bribes or kickbacks of any kind, whether in dealings with public officials or individuals in the private sector. Microsoft is committed to observing the standards of conduct set forth in the United States Foreign Corrupt Practices Act and the applicable anti-corruption and anti-money laundering laws of the countries in which we operate.”

The company also requires all outside vendors to read and comply with the Microsoft Vendor Code of Conduct, which also prohibits incentives such as kickbacks or bribes.

But, as she says, for a large multinational like Microsoft, which has offices in more than 100 countries, it does not always mean that thousands of business partners all across the globe will be compliant all of the time. Indeed, as admitted by Microsoft Deputy GC Frank in his blog post, “In a company of our size, allegations of this nature will be made from time to time. It is also possible there will sometimes be individual employees or business partners who violate our policies and break the law. In a community of 98,000 people and 640,000 partners, it isn’t possible to say there will never be wrongdoing.”

I think the final quote from Frank above, points to the specific usefulness of the Guidance, which states, “In the end, if designed carefully, implemented earnestly, and enforced fairly, a company’s compliance program—no matter how large or small the organization—will allow the company generally to prevent violations, detect those that do occur, and remediate them promptly and appropriately.” These three clauses point to Paul McNulty’s three maxims but the Microsoft response points to McNulty Maxim No. 3, “What did you do about it?

I have asked Paul what he meant by this which he broke down into two parts. The first part is did you investigate it thoroughly and did you remediate those factors which led to the underlying issue? As reported by Matthews, Palazzolo and Ovide “The allegations in China were also the subject of a 10-month internal investigation that Microsoft concluded in 2010, according to people briefed on the internal investigation. The probe, conducted by an outside law firm, found no evidence of wrongdoing, these people said.” As noted above, DOJ and SEC lawyers are now looking at these allegations, as well as those issues in Romania and Italy.

The second part is what remediation did you do? At this point it is not clear what remediation, if any, will be appropriate so we may have to leave that prong open at this time. However, there is one other matter brought up by the Guidance that is certainly raised in the context of this Microsoft matter that should be looked at. It is government involvement. One of the nine factors listed in the US Sentencing Guidelines state, “the corporation’s timely and voluntary disclosure of wrongdoing and its willingness to cooperate in the investigation of its agents”. Further, the Guidance makes clear throughout that a company benefits from self-disclosing and cooperating with the government. While it is not clear if Microsoft self-disclosed anything back in 2010 when it conducted its internal investigation, it does appear that it is cooperating with the DOJ and SEC at this time.

While several commentators have pointed to this Microsoft matter as an example of how difficult it might be to do business in full compliance with the US Foreign Corrupt Practices Act (FCPA) all the time, I draw a different lesson from this matter. I believe that an aggressive approach to McNulty Maxim No. 3 shows that it is not about how hard it is to do business internationally, or that the FCPA is too difficult to follow; but it is the strength of your compliance program and your response to allegations which should be the determinative factor for compliance. I think McNulty’s advice was good when I initially heard and I think it is good now. Moreover, it is a part of the FCPA Guidance which shows it is not just how McNulty might think through these issues but how the DOJ and SEC do so as well.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

Money, Money, Money

I tried. I really tried. I tried not to rant about the Houston Astros during Spring Training, because as they say ‘hope springs eternal’ as all teams are tied at this point in the season (0-0). So when the Astros announced they were considering moving their Triple-A affiliate from Oklahoma City to The Woodlands, a town just north of Houston, I did not write a post which complained that such a move would bring competition to an already existing Triple-A team in Houston, the aforementioned Houston Astros.

The Astros owner Jim Crane was interviewed by Brian Costa for a Wall Street Journal (WSJ) article, entitled “Houston School of Economics”, which Costa ended with the following quotes from Crane, “I didn’t make $100 million by making a lot of dumb mistakes,” and “We’re not going to get everything right, but we’re going to get a lot right”; I did not write asking what part they were going to “get a lot right” about this year.

Crane had another interesting quote in the WSJ piece, “It doesn’t bother me that people want us to spend more money,” Crane said. “But it’s not their money. This is a private company, even though it’s got a public flair to it. If they want to write a check for 10 million bucks, they can give me a call.” How about that for dedication to your fan base, “a public flair to it”; I did not write an article asking that maybe the fact that the Astros play in a publicly funded stadium might have something to do with it.

But this week, Peter Gammons, one of the most respected baseball writers around tweeted his thoughts on the Astros; I could not take it anymore. Gammons tweeted the following three tweets:

Tweet 1: If I’m an ALE or ALC owner, Houston’s plan to have no payroll, lose, get the 1-2 pick 4 years in a row and still steal revenue-sharing $

Tweet 2: –may guarantee 3 teams in the AL West win 90 games and make the playoffs, and spit on the integrity of the sport. Fellow big market teams who

Tweet 3: have payrolls under $40M should 1.not get revenue-sharing and 2. be out of the protected pick business. Rewarding trying to lose is wrong.

Chip Bailey writing in the Blogsite Ultimate Astros, in a piece entitled “For $10 million, you can get your two cents in with Astros”, had the following observation, “that kind of comment will only stir the pot further with conspiracy theories about the possible back-room deal to lower the sale price and move the team to the American League. It will only confirm to some that Crane is in it for the money. And it will undoubtedly support the idea that Crane will continue to strip the organization, never spend money and be content with a Royals or Pirates approach. I can hear the comments before they’re written and almost predict the adjectives, adverbs and other unprintable words. The fact that the Astros will have a historically low payroll while doubling their TV revenues over 2013 will only stoke the volatile fires further.”

So I guess that with his $25MM payroll and his $80MM from the Astros television network contract, Brother Crane sure will not be losing any money. What about the fans? Well, we may see a team finally break the 1962 Mets record for ultimate futility by losing more that the Mets record of 120 losses in a season. Do not think that the Astros are penny pinching just on the team, as the service inside the stadium rivals that of their overall payroll. From the first game of the 2012 season when I bought two hot dogs and the hot dog buns had clearly been left over from the 2011 season; to the last game where the first two hamburgers my wife bought were inedible (she finally gave up and bought chicken tenders); the service at Minute Maid Park rivaled a team which had two consecutive 100 loss seasons.

What do we fans get out of this great deal? Apparently for $10MM we could get some input. Beyond that we do get to see the New York Yankees, Boston Red Sox, Texas Rangers and other winning teams that are willing to spend money. Of course with Albert Pujols playing for our new division rival, the Anaheim Angels, perhaps we can see him send some more towering home runs out of the park,. Finally, we will get to see the best AAA roster the Astros can muster. Of course one thing we will NOT see are ticket prices commensurate with the quality of the products on the field and in the stadium.

So the compliance angle here? I once worked for a company which was under a Deferred Prosecution Agreement (DPA) for its prior Foreign Corrupt Practices Act (FCPA) violations. The DPA was quite robust and one of the things the company decided was that if a vendor or customer had engaged in conduct which violated the FCPA and had not remediated the situation; my company did not want to engage in business with them. My company only wanted to do business with other ethical companies. While most folks think that as long as the color of your money is green (or color appropriate for your jurisdiction) they will do business with you and your company. But not my employer; in other words, reputation can matter in the business world, around bribery and corruption.

So what does this mean for the reputation of the Astros? The Vegas betting line for the over/under in Astros losses this year is 115 and if I were a betting man, I would certainly take the over.

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Ed. Note-The original post identified The Woodlands as a town within the incorporated limits of Houston. It is a town just north of Houston.

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This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

What To Do If Your Gut Says It’s Wrong: Lessons from Project Alpha

I often write about what can happen to companies who run afoul of the Foreign Corrupt Practices Act (FCPA). Usually enforcement actions focus on companies and not individuals. However, as is often pointed out by commentators other than Mitt Romney, corporations are not humans but consist of people. It is individuals who engage in conduct that violates the FCPA, just as it is individuals who engage in conduct which violates other US securities laws.

I was reminded of this in an article by Loren Steffy, of the Houston Chronicle, entitled “She offers cautionary tale for corporate employees”. In this article Steffy writes about Helen Sharkey, who worked for Dynegy Inc, a Houston company which was involved in energy trading and gas transportation. Sharkey was an accountant who worked on an assignment known as Project Alpha, which Steffy wrote was “a $300 million scheme that inflated Dynegy’s cash flow.”

In an interview with Steffy she told him that she was the lowest of seven employees assigned to the project. According to the Securities and Exchange Commission (SEC) Sharkey and others disregarded the company’s external auditor’s advice that certain forms of risk-hedging involving derivative instruments, such as commodity price swaps and interest rate swaps, would defeat Dynegy’s goal of accounting for Alpha as an ordinary operating contract and require recording it as a financing. As reported by Steffy, “If the banks didn’t have risk, it meant the deal was a loan and required different accounting treatment.”

While the Enron Corporation is the poster child for corporate fraud in Houston, three Dynegy employees went to jail over Project Alpha: Sharkey; Gene Foster, who was Dynegy’s Vice President of Taxation during the relevant period; and Jamie Olis, who was Dynegy’s Senior Director, Tax Planning and International. Foster received a sentence of 15 months in jail. Olis, who went to trial, received a whopping sentence of 24 years by the trial judge, although this was later reduced to six years.

What did Sharkey think about the deal at the time? As quoted by Steffy, “Did I feel in my gut that it was wrong? Absolutely. Did I think it was illegal? No way.” Unfortunately Sharkey did not apparently have a mechanism that she could use to raise this concern that was in her gut.

What are some of the lessons that current compliance practitioners can draw from Sharkey, Dynegy and Project Alpha?

Hotlines

One of the results from the actions that companies like Dynegy, Enron and others was the passage of Sarbanes-Oxley (SOX). SOX required publicly traded companies to set up anonymous hotlines to allow employees to report company wrong-doing. This is enshrined in the FCPA world as one of the Ten Hallmarks of an Effective Compliance Program as set out in the Department of Justice (DOJ)/ SEC FCPA Guidance. Under the section entitled “Confidential Reporting and Internal Investigation”, it states, “An effective compliance program should include a mechanism for an organization’s employees and others to report suspected or actual misconduct or violations of the company’s policies on a confidential basis and without fear of retaliation. Companies may employ, for example, anonymous hotlines or ombudsmen.”

Generally, employees tend to trust hotlines maintained by third parties more than they do internally maintained systems. By submitting reports through an external hotline there is a perceived extra layer of anonymity and impartiality compared to a system developed in-house. This is because there can be a fear of retaliation by employees. This fear can destroy the effectiveness of the internal reporting process and poison the corporate culture. The hotline must be seen to offer the highest levels of protection and anonymity. To encourage employee participation, the hotline should allow them to bring their concerns directly to someone outside their immediate chain of command or workplace environment – especially when the complaint concerns an immediate superior. A third party provider is also more likely to bring specialist expertise that’s difficult to match within the organization.

Failure to Escalate

In almost every circumstance where a significant FCPA compliance violation has arisen, if the issue had been reported or at least sent up the chain for consideration, there is a good chance that the incident would not have exploded into a full FCPA compliance violation. Matthew King, Group Head of Internal Audit at HSBC, calls this concept “escalation” and he believes that one of the more key features of any successful compliance program is to escalate compliance concerns up the chain for consideration and/or resolution.

This means that in almost every circumstance regarding a compliance issue he had been involved with, at some point a situation arose where an employee did not report a situation or event up to an appropriate level for additional review. This failure to escalate leads to the issue not reaching the right people in the company for review/action/resolution and the issue later becomes more difficult and more expensive to deal with in the company. A company needs to have a culture in place to not only allow escalation but to actively encourage escalation. This requires that both a structure and process for this must exist. Then the company must train, train and train all of its employees. Lastly, while a whistleblower process or hotlines are necessary these should not be viewed as the only systems which allow an employee to escalate a concern.

The starkest example of which I am aware of this failure to escalate in the FCPA arena is the Hewlett-Packard (HP) matter involving its German subsidiary and allegation of bribery to receive a contract for the sale of hardware into Russia. The Wall Street Journal (WSJ) has reported that at least one witness has said that the transactions in question were internally approved by HP through its then existing, contract approval process. That witness, Dieter Brunner, a contract employee who was working as an accountant on the group that approved the transaction, said in an interview that he was surprised when, as a temporary employee of HP, he first saw an invoice from an agent in 2004. “It didn’t make sense,” because there was no apparent reason for HP to pay such big sums to accounts controlled by small-businesses, Mr. Brunner said. He then proceeded to say he processed the transactions anyway because he was the most junior employee handling the file, “I assumed the deal was OK, because senior officials also signed off on the paperwork”.

Training

Why is training of employees regarding a hotline and the ability to escalate important in the context of an anti-corruption/anti-bribery compliance program? Training is recognized as one of the points in the Ten Hallmarks of an Effective Compliance Program and one of the elements under the US Sentencing Guideline’s Seven Elements of an Effective Compliance Program. It is also recognized in Principle 5 of the Six Principles of an Adequate Procedures compliance program as set out by the UK Ministry of Justice (MOJ). Lastly, it is recognized by the OECD in its 13 Good Practices for Internal Controls, Ethics and Compliance.

In the case of HP, think what position the company might be in today if Brunner had been trained on the company’s system for internally reporting compliance issues? If Brunner had escalated his concern that the payment to the agent “didn’t make sense” perhaps HP would not have been under investigation by governmental authorities in Germany and Russia. In the United States, both the DOJ and SEC have announced they are investigating the transaction, for potential FCPA violations. Further, HP is now investigating other international operations to ascertain if other commissions paid involved similar allegations of bribery and corruption as those in this German subsidiary’s transaction.

Dénouement

Steffy penultimate paragraph states, “her story lends insight into one of the most enduring questions that linger from a decade ago – how corrupt corporate cultures encouraged so many who considered themselves law-abiding citizens, to commit crimes, often without realizing it.” One of the things that I emphasize in training to employees is that if their guts turns in knots, the hair on the back of their neck stands up or if something doesn’t smell right, just raise your hand. You don’t have to know the ins and outs of the FCPA, but if something does not feel right, raise your hand and get the matter to someone who does know the ins and outs of the FCPA and who can thoroughly investigate the issue that you do not feel right about. If you do not do so, you may end up like Sharkey and, as Steffy writes as the final sentence of his piece, “The one time she wavered became a mistake she’ll regret the rest of her life.”

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

The HP Acquisition of Autonomy – Lessons Learned for Doing Compliance ‘By the Book’

Doing something ‘by the book’ means more than following a process. It means following that process during high stress times. One of the things that I think gets missed when discussing compliance programs is the need for rigor in the process. By this not only do I mean that your process needs to be robust but that you need to follow that process even in very extraordinary circumstances. Further, if you deviate from your compliance process you should document the reason for doing so. During a compliance emergency is not the time to depart from your well-thought out process that you use at all other times. One of the things that appear to have gotten Wal-Mart into trouble over its Mexican subsidiary’s actions is that when allegations of bribery and corruption bubbled up to its corporate office, the standard investigation protocol was over-ridden and a completely new and different investigation protocol was put into place. A protocol which had the persons accused of bribery and corruption investigating themselves. Can you guess what the result was?

Similarly, the ongoing news about the Hewlett-Packard Co’s (HP) acquisition of Autonomy Corp., (Autonomy) and its attendant fall-out can provide similar lessons for the compliance professional. As reported by Ben Worthen and Justin Scheck in the Wall Street Journal (WSJ) article entitled “Inside H-P’s Missed Chance To Avoid a Disastrous Deal”, HP did not follow its own internal protocol for acquisitions during the time that led up to its purchase of the British company Autonomy. Additionally, HP’s actions and decisions before and after the acquisition probably steered the deal in to, at a minimum, a very difficult path to success.

New Leadership

In 2010, HP made the decision to bring in someone, who was little known in Silicon Valley, to run the company, that person being Leo Apotheker, who had headed the German company, SAP. However, little noted at the time was the change in the Board of Directors, where “H-P simultaneously got a new board chairman, also a software specialist: Ray Lane, a venture capitalist and former president of Oracle Corp. Soon after, four H-P board members didn’t stand for re-election, and five new members arrived.” In other words, a majority of the top leadership positions in the company changed in a very short time.

Apotheker immediately made clear his desire to purchase one or more software companies. However, the Board of Director’s “finance committee scotched one, and negotiations to buy the other fell apart over price. A frustrated Mr. Apotheker told Mr. Lane, “I’m running out of software companies,” said a person familiar with the conversation.” This led HP to take a look at Autonomy.

Board Protocol

Another change for HP in the pre-acquisition process regarding the Autonomy deal related to Board of Director oversight. It came about because Apotheker had two major initiatives early in his tenure. One was to divest the company of its PC-manufacturing business. The second was to purchase Autonomy. These initiatives were considered so large and complex that the Board of Directors split itself into two separate groups to evaluate each proposal. So only half the Board was looking into the details of the Autonomy deal. Further, “H-P’s normal procedures require the board’s finance committee to review and approve deal proposals before they reach the full board. That didn’t happen with the proposal to acquire Autonomy, said people familiar with how the board proceeded.” While the split of the Board of Directors provided some ease of coordinating some logistical issues such as scheduling meetings, it provided Apotheker, with “more opportunities to lobby for a deal, said people familiar with the board’s activities.”

Red Flag Raised (or not)

One of the things that HP’s Board of Directors were surprised about during the due diligence process was “how little detail about the target firm’s finances became available. Autonomy allowed a review of financial statements and about 25 sales contracts. H-P also wanted the “working papers,” or original financial material, underlying Autonomy’s audits. Autonomy declined to provide them, citing U.K. corporate-takeover rules that require companies to disclose the same documents to all potential suitors.” While understanding that it is never the case that an acquiring company gets to review everything that it wants to during due diligence, reviewing only 25 sales contracts for a company that you are about to spend over $8 bn on does seem a bit of an under-representation of financial data to review. Moreover, some of the members of the HP due-diligence team “said they were reassured, to some extent, by Autonomy’s being a public company that had been audited for years.” Autonomy’s UK audit firm was Deloitte.

But even Deloitte raised red flags with HP, however weakly. At one point, people from HP and KPMG, HPs audit team in the acquisition of Autonomy, spoke by telephone with the Deloitte team. Someone at Deloitte “mentioned that about a year earlier, an Autonomy finance executive had alleged improper accounting at Autonomy, according to people familiar with the call. Three of these people  said Deloitte mentioned the issue briefly and added that a review had found the allegation to be baseless. The H-P team didn’t investigate further, one of the people said, and didn’t share the information with either Mr. Apotheker or H-P’s board.” The articles claims that “Neither Mr. Apotheker nor the directors ever heard such an allegation during negotiations, according to several people either close to the CEO or knowledgeable about the board. Said one: “There were zero red flags raised about this company during the whole process.””

Loss of Steam

The WSJ article referred to the lack of enthusiasm that some members of senior management at HP had over the Autonomy transaction. For instance, “Chief Financial Officer Cathie Lesjak said an acquisition would batter H-P’s balance sheet, using up its cash and incurring debt, said people familiar with the conversations.” Pretty profound when you think about it now. But beyond simply the Autonomy debacle, the Board of Directors was becoming equally uneasy with Apotheker’s desire to cut the heart out of the company by getting rid of the PC-manufacturing business. So just after the Autonomy purchase, the Chairman of the Board Mr. Lane “spoke to senior H-P executives and found a near-universal view that their CEO wasn’t right for the job. In late September, 35 days after the agreement to buy Autonomy and 11 months into Mr. Apotheker’s tenure, the board dismissed him.”

This meant that the person who had shepherded the deal through the company was gone. Apotheker had not only pushed for the deal but said he had plans on how to integrate Autonomy into HP and make it work. He was quoted in the WSJ article as saying, “”We had concrete and ambitious plans on how to integrate and leverage the Autonomy acquisition,” Mr. Apotheker said. “But I was gone by the time the deal closed.”” This led to claims by the head of Autonomy, Mike Lynch to claim that the intention for HP to integrate and sell Autonomy software after the transaction never came to pass. “Within weeks, Mr. Lynch told the new H-P CEO, Ms. Whitman, in an email that when he discussed with H-P’s server unit the idea of selling Autonomy software along with H-P hardware, he received a “very negative response.””

The End

Whitman and other HP executives went to the UK to try and figure out what went wrong with the transaction, the integration or both, and two weeks later Lynch was fired by HP. Within weeks of the Lynch firing, HP said that “the company heard an allegation from an Autonomy executive that Autonomy manipulated its numbers. That set in train the process that led to H-P’s November write-down and allegation of improper accounting by the software firm.” Now the US Department of Justice (DOJ), the Securities and Exchange Commission (SEC) and the UK Serious Fraud Office (SFO) are all investigating the allegations that Autonomy manipulated its books and records.

Lessons Learned

I understand that you never have enough time to perform all the pre-acquisition due diligence that you might like to, whether it is financial or compliance. However, several clear lessons standout for the compliance practitioner from this matter. The first, and foremost, is to establish your pre-acquisition protocol, not during the time you are acquiring a company but before so. If you normally require approval from the full Board of Directors keep that requirement in place and do not cut your approval to one-half because you have two large matters to digest. Second, if a red flag is raised, you should clear it, not the person or entity that brings you the information. The third is to have a post-acquisition plan in place and, to the extent you can do so under the circumstances presented, follow it.

All three of the above suggestions would seem to be the perfect description of ‘by the book’. My father was in the US Navy during World War II and Korea. He is also an engineer. Those two backgrounds would seem to make him as strong a candidate for as ‘by the book’ as possible. But he was also a believer in information, analysis and documentation. The reason, he believed that if you did not study it, you could not document it; if you did not document it, you could not analyze it; and if you did not analyze it, you could not improve it. So document, document and then document everything you do from the compliance perspective and use that information to create a better book, but only if the information and your analysis thereof warrants it.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

How Does Your Organization Treat Whistleblowers?

As almost everyone knows, Lance Armstrong spoke for the first time about his performance enhancing drug (PED) use recently on Oprah. On the first night he admitted for the first time that he used PEDs during his seven wins at the Tour De France. The title of my colleague Doug Cornelius’ piece in Compliance Building really said it all in his article “Lance Armstrong – A Lying Liar Just Like Madoff”. Cornelius said “What caught my attention about the Armstrong interview was the window into the mind of a pathological liar. Armstrong had been telling the lie over and over and over. He lied to the public. He lied to the press. He lied to cancer survivors. He lied under oath.”

One of the areas which came up for me was how the people who blew the whistle on Armstrong’s use of PEDs before his admission were treated and how Armstrong subsequently treated them. Armstrong admitted that he was a ‘bully’ to those who said, hinted, or even implied that he had taken PEDs. He attacked ex-teammates; wives of ex-teammates and even a masseur who saw him take such substances. He put on an aggressive PR campaign for the better part of the past decade, to which the wife of ex-Tour De France winner Greg LeMond said “I can’t describe to you the level of fear that he brings to a family.”

While I would hope that most American and European companies have moved past the situation where whistleblowers are ostracized or worse threatened, one can certainly remember the GlaxoSmithKline (GSK) whistleblower Cheryl Eckard. A 2010 article in the Guardian by Graeme Wearden, entitled “GlaxoSmithKline whistleblower awarded $96m payout”, he reported that Eckard was fired by the company “after repeatedly complaining to GSK’s management that some drugs made at Cidra were being produced in a non-sterile environment, that the factory’s water system was contaminated with micro-organisms, and that other medicines were being made in the wrong doses.” She later was awarded $96MM as her share of the settlement of a Federal Claims Act whistleblower lawsuit. Eckard was quoted as saying, “It’s difficult to survive this financially, emotionally, you lose all your friends, because all your friends are people you have at work. You really do have to understand that it’s a very difficult process but very well worth it.”

More recently there was the example of NCR Corp., as reported in the Wall Street Journal (WSJ) by Christopher M. Matthews and Samuel Rubenfeld, in an article entitled “NCR Investigates Alleged FCPA Violations”, who stated that NCR spokesperson Lou Casale said “While NCR has certain concerns about the veracity and accuracy of the allegations, NCR takes allegations of this sort very seriously and promptly began an internal investigation that is ongoing,” regarding whistleblowers claims of Foreign Corrupt Practices Act (FCPA) violations. In a later WSJ article by Matthews, entitled “NCR Discloses SEC Subpoena Related to Whistleblower”, he reported that NCR also said “NCR has certain concerns about the motivation of the purported whistleblower and the accuracy of the allegations it received, some of which appear to be untrue.”

Lastly, is the situation of two whistleblowers from the British company EADS. As reported by Carola Hoyos in a Financial Times (FT) article, entitled “Emails tell of fears over EADS payments”, Hoyos told the story of two men who notified company officials of allegations of bribery and corruption at the company and who suffered for their actions. The first, Mike Paterson, the then financial controller for an EADS subsidiary GPT, internally reported “unexplained payments to the Cayman Island bank accounts for Simec International and Duranton International, which totaled £11.5M between 2007 and 2009.” Hoyos reported that Paterson was so marginalized in his job that he was basically twiddling his thumbs all day at work.

The second whistleblower was Ian Foxley, a retired British lieutenant-colonel, who had joined the company in the spring of 2010 stationed in Saudi Arabia, to oversee a £2M contract between the British Ministry of Defence (MOD) and the Saudi Arabian National Guard. In December 2010, Foxley discovered some of the concerns which Mike Paterson had raised. According to Hoyos, “The morning after he discovered Mr. Paterson’s concerns he assessed the emails that Mr. Paterson had told him he had written over the previous three years.” This led Foxley to flee Saudi Arabia with documents of these suspicious payments, which he has turned over to the Institute of Chartered Accountants and the UK Serious Fraud Office (SFO).

What does the response of any of these three companies say about the way that it treats whistleblowers? Is it significantly different from the bullying Armstrong admitted he engaged in during his campaign to stop anyone who claimed that he was doping? While I doubt that companies will ever come to embrace whistleblowers, the US Department of Justice’s (DOJ’s) recent FCPA Guidance stated that “An effective compliance program should include a mechanism for an organization’s employees and others to report suspected or actual misconduct or violations of the company’s policies on a confidential basis and without fear of retaliation.” However, by marginalizing, attacking or even making a whistleblower fear for their life, such actions can drive a whistleblower to go the DOJ, Securities and Exchange Commission (SEC) or SFO. The Guidance recognized that “Assistance and information from a whistleblower who knows of possible securities law violations can be among the most powerful weapons in the law enforcement arsenal.”

So what is the compliance professional to make of the Armstrong confession and how can it be used for a compliance program? A recent White Paper, entitled “Blowing the Whistle on Workplace Misconduct”, released by the Ethics Resource Center (ERC) detailed several findings that the ERC had determined through surveys, interviews and dialogues. One of the key findings in this White Paper was that that a culture of ethics within a company does matter. Such a culture should start with a strong commitment to ethics at the top, however it is also clear that this message must be reinforced throughout all levels of management, and that employees must understand that their company has the expectation that ethical standards are vital in the business’ day-to-day operations. If employees have this understanding, they are more likely to conduct themselves with integrity and report misconduct by others when they believe senior management has a genuine and long-term commitment to ethical behavior. Additionally, those employees who report misconduct are often motivated by the belief that their reports will be properly investigated. Conversely, most employees are less concerned with the particular outcome than in knowing that their report was seriously considered.

This is the ‘Fair Process Doctrine’. This Doctrine generally recognizes that there are fair procedures, not arbitrary ones, in a process involving rights. Considerable research has shown that people are more willing to accept negative, unfavorable, and non-preferred outcomes when they are arrived at by processes and procedures that are perceived as fair. Adhering to the Fair Process Doctrine in two areas of your Compliance Program is critical for you, as a compliance specialist or for your Compliance Department, to have credibility with the rest of the workforce.

In this area is that of internal company investigations, if your employees do not believe that the investigation is fair and impartial, then it is not fair and impartial. Furthermore, those involved must have confidence that any internal investigation is treated seriously and objectively. One of the key reasons that employees will go outside of a company’s internal hotline process is because they do not believe that the process will be fair.

This fairness has several components. One would be the use of outside counsel, rather than in-house counsel, to handle the investigation. Moreover, if company uses a regular firm, it may be that other outside counsel should be brought in, particularly if regular outside counsel has created or implemented key components which are being investigated. Further, if the company’s regular outside counsel has a large amount of business with the company, then that law firm may have a very vested interest in maintaining the status quo. Lastly, the investigation may require a level of specialization which in-house or regular outside counsel does not possess.

Phrasing it in another way, Mike Volkov, writing in his blog Corruption, Crime and Compliance, in an article entitled “How to Prevent Whistleblower Complaints”, had these suggestions: (1) Listen to the Whistleblower – In dealing with a whistleblower, it is critical to listen to the whistleblowers concerns. (2) Do Not Overpromise – At the conclusion of an initial meeting with a whistleblower, the company representative should inform the whistleblower that the company will review the allegations, conduct a “preliminary” investigation and report back to the whistleblower during, or at the conclusion of, any investigation. (3) Conduct a Fair Investigation – Depending on the nature of the allegations, a follow up inquiry should be conducted. The steps taken in the investigation should be documented.

I would add that after your investigation is complete, the Fair Process Doctrine demands that any discipline must not only be administered fairly but it must be administered uniformly across the company for the violation of any compliance policy. Simply put if you are going to fire employees in South America for lying on their expense reports, you have to fire them in North America for the same offense. It cannot matter that the North American employee is a friend of yours or worse yet a ‘high producer’. Failure to administer discipline uniformly will destroy any vestige of credibility that you may have developed.

Lance Armstrong has and will continue to provide the ethics and compliance practitioner with many lessons. You can use his treatment of whistleblowers as an opportunity to review how your company treats such persons who make notifications of unethical or illegal conduct. With the increasing number of financial incentives available to persons to blow the whistle to government agencies, such as the SEC under the Dodd-Frank Act, it also makes very good business sense to do so.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

Amnesty for Armstrong? Lessons for the Compliance Practitioner

The Lance Armstrong saga continues to provide many lessons for the compliance practitioner. A recent article on ESPN.com, entitled “Lance calls for amnesty program”, reported that Armstrong has come out in favor of those who openly speak about the doping culture of cycling, of course most notably him. The article stated “Now that doping has become such a big problem, Armstrong said a truth and reconciliation program is the “only way” to rid cycling of performance-enhancing drugs, and the sport’s governing body should have no role in the process.” In an interview given to Cyclingnews, it was reported that Armstrong said that the “best way forward is a truth and reconciliation process offering amnesty to riders and officials who detail doping in the sport.”

When asked which anti-doping agency should give this amnesty and which one should take such testimony Armstrong answered that “the program should be run by the World Anti-Doping Agency and not the U.S. Anti-Doping Agency (USADA), the body that produced a scathing report detailing systematic doping by Armstrong and his teams. The USADA report led to Armstrong being stripped of his seven Tour titles and banned from elite sport for life.” Not too surprising that Armstrong does not want to get anywhere near USADA given the report they released on him last summer. Armstrong stated that complete amnesty must be given “otherwise no one will show up.” Any chance that ‘no one’ he refers to would be himself?

While Armstrong’s idea of a ‘Truth and Reconciliation’ program may seem, well shall we say, a tad self-serving, the use of a suspended or lessened sentence has been successfully used to elicit testimony in the cycling world.According to the New York Times, USADA had “the ability to offer other cyclists reduced suspensions if they provided information about Armstrong’s doping. Similar to how prosecutors try to persuade lower-level drug dealers to share information about their superiors, the anti-doping agency sat down one by one with cyclists from Armstrong’s teams. Ultimately, 11 agreed to cooperate.” So I guess people will show up if you offer them some type of amnesty, just not the top banana.

What is the compliance angle to amnesty programs? Siemens used an amnesty program to help it investigate its worldwide bribery scheme. In November 2007, Siemens began an amnesty program relating to possible violations of anti-public-corruption laws in order to expedite the independent investigation and facilitate clarification. According to an article in the FCPA Blog, entitled “Siemens’ Employees Come In From The Cold”, Siemens began this amnesty program because its “internal investigation reportedly had stalled because of stonewalling by managers in various countries.”

In the first three months 66 employees came forward in connection with the amnesty program. In addition, a large number of employees received information about the program. “The amnesty program has been very successful” Peter Y. Solmssen, member of the Managing Board and General Counsel of Siemens AG said. He went on to say “We’re pleased that so many employees have made use of the program and are thereby expediting clarification.” By mid-January, 2008, Siemens’ counsel, Debevoise & Plimpton, said that “[s]ince November 28, 2007, we have obtained significant new information and developed very substantial leads from participants in Siemens’ amnesty program, as well as other sources, regarding topics relevant to our investigation.” Siemens itself said that information provided by the employees who ‘came in from the cold’ through this amnesty program gave it new leads to pursue in its internal investigation. At the end of the day, the Department of Justice (DOJ) lauded Siemens amnesty program, which it characterized as “innovative” in helping to further Siemens internal investigation.

Further, The Wall Street Journal (WSJ) reported in March 2008, in an article entitled “Siemens Amnesty Plan Assists Bribery Probe”, that the amnesty program “was offered to all employees except 300 of Siemens’s top executives and expired at the end of February [2008], prompted about 110 employees to offer information about alleged wrongdoing.” Under the amnesty program, the company did not make claims for damages or unilaterally terminate employee relationships. However, Siemens reserved the right to impose lesser disciplinary measures.

So what about Armstrong and his ‘Truth and Reconciliation’ idea? In the ESPN.com article, he intones that he is really the victim here. First of all, he feels that he is really the fall guy for the sport of cycling, because you know, everybody was doing it. He just did it better. He also said it was unfair that those who testified against him had received “minor off-seasons sanctions versus the death penalty” for himself. He was quoted as saying, “What is relevant is that everyone is treated equally and fairly. We all made the mess, let’s all fix the mess, and let’s all be punished equally.” That certainly sounds like someone who is repentant, doesn’t it?

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

Fu Manchu and the Wal-Mart FCPA Investigation Water Torture

Today we celebrate Fu Manchu. No not the facial accouterments but the fictional character who was introduced to the world in a series of novels by British author Sax Rohmer during the first half of the 20th century. He has become an archetype of the evil criminal genius while also lending his moniker to the Fu Manchu moustache. I thought of Fu Manchu and his infamous drip, drip, drip water torture when I read the latest news about the ongoing Wal-Mart Foreign Corrupt Practices Act (FCPA) investigation.

Yesterday, I read three articles about the most recent revelations in Wal-Mart’s ongoing PR nightmare. Renee Dudley, reporting in Bloomberg, in an article entitled “Wal-Mart CEO Knew of Mexico Bribery, Congressmen Say”, wrote that “Democratic Representatives Henry Waxman of California and Elijah Cummings of Maryland said today in a statement that documents obtained by their staffs show that Duke and senior Wal-Mart officials were informed about allegations of corruption regarding a store in Teotihuacan.” The documents referenced were emails, which Waxman and Cummings said contradicted “the company’s earlier statements that senior executives had no knowledge of the bribery allegations”.

I.                   The Emails

One of the emails, from the then General Counsel (GC) of Wal-Mart International, Maritza Munich, sent to the Chief Executive Officer (CEO) Michael Duke and other senior Wal-Mart officials in November 2005 was “about specific bribes paid for permits and accelerated openings for stores in Teotihuacan and other locations, according to the correspondence released by the congressmen.” Aruna Viswanatha and Jessica Wohl, reporting in Reuters, in an article entitled “Lawmakers: Wal-Mart CEO knew of Mexico bribe claim”, went even further writing that in one email from Wal-Mart GC Thomas Mars in October 2005, sent to CEO Duke, said “You’ll want to read this. I’m available to discuss next steps.” This email also allegedly attached an email which summarized the bribery allegations for the CEO.

If you look closely at the quoted emails, they provide some tantalizing information. In the Munich email, the information appears provocatively close to the analysis done set out by New York Times (NYT) in its second article on the Wal-Mart FCPA matter where the reporters matched up the specific bribe payments for permits and permit granting’s. Munich seems to have matched up the specific bribes and accelerated store openings. The Mars GC email is also quite interesting. If he indeed did summarize the bribery allegations as of the date listed in the story of October, 2005, either the CEO had actual knowledge or decided it would be better if he ignored the advice of his GC that you will “want to read this.”

II.                Comments of Waxman and Cummings

As you might guess, Democratic Representatives Waxman and Cummings did not have many complimentary things to say about these latest allegations regarding Wal-Mart. Shelly Banjo, reporting in the Wall Street Journal (WSJ), in an article entitled “Lawmakers Claim Wal-Mart Knew of Bribery Allegations in 2005”, quoted from a letter released by Waxman and Cummings which said, in part, “It would be a serious matter if the CEO of one of our nation’s largest companies failed to address allegations of a bribery scheme.” Quoting further from the letter, reporter Dudley wrote that the e-mails “cast a new and unfavorable light on Wal-Mart’s continued unwillingness to provide our investigators with access to Ms. Munich, who appears to be a key witness who would know about your knowledge of the Teotihuacan bribes.”

III.             Wal-Mart Response

Wal-Mart basically said that the hoo-ha was much ado about nothing. Dudley reported that Brooke Buchanan, a Wal-Mart spokesperson, emailed a statement regarding this information. Dudley quoted from the statement as follows, “This information has been part of the company’s ongoing investigation of potential violations of the U.S. Foreign Corrupt Practices Act for more than a year and has been the subject of two New York Times articles,” she said.” As to the charge that Wal-Mart had earlier wrongfully said that its CEO was not made aware of these allegations of bribery involving the company’s Mexico subsidiary, Banjo reported that “Wal-Mart quickly rebutted the claim, saying that the lawmakers misinterpreted its prior remarks.” Oops.

IV.              Between Scylla and Charybdis?

Representatives Waxman and Cummings complained that Wal-Mart was frustrating their investigation by not fully cooperating with them. They specifically pointed to Wal-Mart’s failure to make the former GC of Wal-Mart International, Maritza Munich, available to them for an interview. Dudley reported that “Wal-Mart attorneys told the members in June that they were “working through a protocol” that would allow Munich to speak to government investigators” but such interview has not yet been forthcoming. Dudley also quoted from the email by Wal-Mart spokesperson Buchanan who said, “We have provided extensive documentation to the Department of Justice and the Securities and Exchange Commission, including the documents released today, as part of our ongoing cooperation with the appropriate law enforcement agencies on this matter. We want to provide Members of Congress with whatever appropriate information we can to help them and we have already provided committee staff with multiple briefings.”

Wal-Mart seems to be stuck between a rock and a very hard place. Or perhaps, to mix fictional references they are trying to navigate between Scylla and Charybdis. The company certainly needs to perform a thorough investigation and share those results with the Department of Justice (DOJ) but I am also certain that it desires to cooperate with the Waxman and Cummings investigation. However, to do so, it may be quite difficult and it may not allow Wal-Mart the flexibility that it needs with the variety of legal obligations that it has in this matter.

One unusual aspect of this matter is the release of information during the ongoing internal investigation. It is not release of information from the internal investigation but from investigations running in parallel, the Times investigative reporting and the Waxman and Cummings investigation. Typically during the pendency of any US public company FCPA internal investigation the only information released appears in a 10K or other mandated release of information. However, in the Wal-Mart matter, there have been at least these two other sources to release information to the public. This is certainly requiring Wal-Mart to fight a protracted PR battle and it is providing lots of fodder for critics of the company. I think that Fu Manchu would be smiling for all the torture…

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2013

The Lilly FCPA Enforcement Action Part I – Key Lessons Learned on Sportsmanlike Conduct

As you see from today’s picture I am enthusiastically wearing a New England Patriots (classic) shirt. You may ask yourself why am I wearing this shirt? The reason is because of a rather rash wager I made with Jay Rosen, Vice President of Merrill Brink, earlier this month on the Patriots/Texans football game. (I also made the same wager with Matt Kelly, Editor of Compliance Week, who says he will use the photo for marketing Compliance Week 2013, good luck with that!) I can’t quite seem to remember the final score but I do recall that it was what we in Texas might call a full ‘butt-whoopin’. Up until that game, the Patriots were 19-1 at home in the month of December over the past ten years, after beating the Texans, they became 20-1. The key lesson I learned from this experience is to evaluate your risk and then manage that risk accordingly.

Earlier this month, the Securities and Exchange Commission (SEC) announced the settlement of the Eli Lilly and Company’s (Lilly) violations of the Foreign Corrupt Practices Act (FCPA). The enforcement action details a number of bribery schemes that Lilly had engaged in for many years in multiple countries. Indeed Lilly used four different styles of bribery schemes in four separate countries; all of which violated the FCPA. In China, corrupt payments were falsely called reimbursement of expenses; in Brazil, money that was characterized as a discount for distributor was used to pay a bribe; in Poland, charitable donations were falsely labeled and used to induce a Polish government official to approve the purchase of Lilly products; and, finally, Lilly’s subsidiary in Russia, paid bribes to Offshore Agents who were domiciled outside Russia and who performed no services for which they were compensated.

I think the most noteworthy information found in this enforcement action is that it provides significant guidance to the compliance practitioner on not only the different types of bribery schemes used, but more importantly, by reading into the types of conduct the DOJ and SEC finds violates the FCPA, it is valuable as a lesson on how to structure tools to manage FCPA risks going forward. In this post I will detail the bribery schemes that Lilly engaged in and in Part II, I will discuss how the Lilly enforcement action should inform your FCPA compliance program.

I.                   China – Use of False Expense Reports to Cover Improper Gifts and Cash Payments

In China, Lilly employees used the classic system of submitting inflated expense reports and using the excess reimbursements to pay bribes. More ominously, not only did the sales representatives engage in this tactic but their supervisors did and also instructed subordinates to do so as well. The list of gifts that were provided to Chinese government officials was as wide ranging as it was creative. There were gifts consisting of specialty foods, wines and a jade bracelet. There were paid trips to bath houses, karaoke bars and spas. There was money paid to purchase “door prizes and publication fees to government employed physicians.” It was even noted that bribes were paid consisting of cigarettes. In the SEC complaint it stated that “Although the dollar amount of each gift was generally small, the improper payments were wide-spread across the [China] subsidiary.”

II.                Brazil – Use of Distributor Discounts to Fund Bribes

In Brazil, Lilly sold drugs to distributors who then resold the products to both public and private entities. It was the classic distributor model where Lilly sold the drugs to the distributors at a discount and then the distributors would resell the products “at a higher price and then took their discount as compensation.” There was a fairly standard discount given to the distributors which generally ranged “between 6.5% and 15%, with the majority of distributors in Brazil receiving a 10% discount.”

However in early 2007, at the request of a Lilly sales manager, the company awarded an unusually high discount of between 17% and 19% to a distributor for the sale of a Lilly drug to the government of one of the states of Brazil. The distributor used approximately 6% of this additional discount to create a fund to pay Brazilian government representatives to purchase the Lilly drugs from him. Further, the Lilly sales manager who requested this unusual discount was aware of the bribery scheme. Moreover, this increase in the discount was approved by the company with no further inquiry as to the reason for the request or to substantiate the basis for such an unusually high discount. If there were any internal controls they were not followed.

III.             Poland – Use of Charitable Donations to Obtain Sales of Drugs

In Poland we see our old friend the Chudow Castle Foundation (Foundation). You may remember this charity as it was the subject of a prior SEC enforcement action involving Schering-Plough Corporation. The thing that got both Lilly and Schering-Plough into trouble was that the Foundation was controlled by the Director of the Silesian Health Fund (Director) and with this position he was able to exercise “considerable influence over the pharmaceutical products local hospitals and other health care providers in the region purchased.”

Just how did this bribery scheme camouflaged as a charitable donation work? Initially it started while Lilly was in negotiations with the Director for the purchase of one of Lilly’s cancer drugs for public hospitals and other health care providers in the region. The Director actually made a request for a donation directly to representatives of Lilly. Thereafter, the Foundation itself made “subsequent requests” for donations.

In addition to this obvious red flag, Lilly did no due diligence on the Foundation and falsely described the nature of the payments not once but three separate times with three separate descriptions. Lilly turned some of the monies over not to the Foundation, but to the Director for use at his “discretion”. Interestingly, the donations were not only made at or near the time of a contract execution, with one donation being made two days after the Director authorized the purchase of the drugs from Lilly.  Internally Lilly even discussed the size of a donation, calling it a “rebate” and said “it will depend on the purchases of medicines.”

IV.              Russia – Use of Offshore Agents Who Performed No Services

As with Brazil, Lilly used a distributor sales model in Russia. However, there was a further twist which got Lilly into FCPA hot water. Lilly would enter into an agreement with a third party other than the distributor who was selected by the government official making decisions on the purchase of Lilly products. The other third parties were usually not domiciled in Russia, nor did they have bank accounts in Russia. In other words, they were Offshore Agents who were paid a flat fee or percentage of the total sales with no discernible work or services performed.

There was little to no due diligence performed on these Offshore Agents. In one instance, detailed in the SEC Complaint, Lilly ran a Dun and Bradstreet report on a third party agent, coupled with an internet search on a third party domiciled in Cyprus. There was no determination of the beneficial ownership of this Offshore Agent nor was there any determination of the business services which this Offshore Agent would provide, subsequently this . This Offshore Agent was paid approximately $3.8MM. An additional  Offshore Agent, again in Cyprus, which Lilly conducted little to no due diligence on, received a $5.2MM commission. Under another such agreement, yet another Cypriot Offshore Agent received a commission rate of 30% of the total sale.

What about the services that these Offshore Agents provided to Lilly? First and foremost, they all had their own special “Marketing Agreement” which was actually a template contract prepared by Lilly. The services allegedly provided by these Offshore Agents included “immediate customs clearance” or “immediate delivery” of the product. There were other equally broad and vague descriptions such as “promotion of the products” and “marketing research”. But not only was there little if no actual evidence that these Offshore Agents provided such services; Lilly, or its regular in-country distributors, actually performed these services.

Unlike their experience in Poland, officials from Lilly simply inquired directly from government officials with whom it was negotiating if it could “donate or otherwise support various initiatives that were affiliated with public or private institutions headed by the government officials or otherwise important to the government officials.” As noted in the SEC Complaint, Lilly had neither the internal controls in place nor performed any vetting to determine whether it “was offering something of value to a government official for the purpose of influencing or inducing him or her to assist Lilly-Vostok in obtaining or retaining business.”

In my next post I will discuss how the compliance practitioner can use the information and facts presented in the Lilly enforcement action as teaching points to evaluate and enhance a company’s compliance program.

Although I rarely agree with Peggy Noone, I always read her Saturday column in the Wall Street Journal (WSJ) and would like to end my blogging year with the closing paragraph, which I quote in full, from her article entitled “About Those 2012 Political Predictions”:

Lesson? For writers it’s always the same. Do your best, call it as you see it, keep the past in mind but keep your eyes open for the new things of the future. And say what you’re saying with as much verve as you can. Life shouldn’t be tepid and dull. It’s interesting—try to reflect the aliveness in your work. If you’re right about something, good. If you’re wrong, try to see what you misjudged and figure out why. And, always, “Wait ’til next year.”

A safe and Happy New Year to all.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2012