FCPA Compliance and Ethics Blog

November 9, 2012

The Red Scare: Knowledge and the Importance of Due Diligence

 Ed. Note-we continue our series of guest posts from our colleague Mary Shaddock Jones, who today looks at the importance of due diligence.

At midnight on November 9, 1989, East Germany’s rulers gave permission for the Berlin Wall, separating East and West Berlin, to be opened up.  Ecstatic crowds immediately began to clamber on top of the Wall and hack large chunks out of the 28-mile barrier.  I remember viewing the scene on T.V.  It was a momentous moment in world history.  For those of you who may not know, while East Germany never officially adopted a “red flag” for its country, on most official buildings, the national flag (black-red-gold with hammer and circle) was flown with a solid red flag flown next to it!  Twenty-two years later the “fall of the Red Flag of East Berlin”, seems like distant memory.  However, for businesses doing business internationally the “red flag” has once again come to represent a warning or a threat in terms of liability under the FCPA

The Lay Person’s guide to the FCPA published by the Department of Justice warns U.S. firms about their choice of overseas partners and agents. A bad choice is someone who is likely to make corrupt payments. That likelihood, the DOJ says, is usually indicated by warning signs called “red flags.” If there are red flags to start with, and if the intermediary does bribe a foreign official to help the business, the company will have trouble arguing it shouldn’t be responsible for an FCPA violation based on an indirect corrupt payment.

Red flags, as the name suggests are easy to spot, and include such things as: (1) unusual payment patterns or financial arrangements;  (2) a history of corruption in the country;  (3) a refusal by the foreign joint venture partner or representative to certify that it will not take any action that would cause the U.S. firm to be in violation of the FCPA; (4) unusually high commissions; (5) Lack of transparency in expenses and accounting records; (6) An apparent lack of qualifications or resources on the part of the joint venture partner or  representative to perform the services offered; and, (7) a recommendation from the local government of the intermediary to hire this particular third party.

Although red flags are often relatively easy to discover, the failure to look may result in a company being subject to severe penalties.  As a result,  prior to dealing with any third party, companies should conduct Due Diligence in an  attempt to discover whether the third party is involved in any prohibited corrupt practices or has some connection to a foreign government official that you may not be aware of.  Due diligence is thus an essential tool, as it allows one to acquire knowledge of any existing or potential “red flags”, thus enabling entities to make informed decisions on whether or not to interact with or transact business with certain persons and entities.

The practical pointer for today’s blog is this- The undeniable truth is that Companies must know who they are doing business with and, as importantly, why they are choosing to do business with this particular entity.  This requires the accumulation of information! In order to collect adequate information concerning prospective third-party Agents or Business Partners, many companies are now using a consistent set of tools, for example: (1) questionnaires requiring the person within the company who is recommending the retention of a third party to provide basic information such as the reasons for engagement, the specific services required, how prospective third-party individuals or companies were selected for possible service, relevant experience and capabilities of the prospective third party, whether the prospective third-party would need to interact with government officials, how much and in what manner the third party should be compensated, etc.; (2) a questionnaire submitted to the prospective third party requesting significant information regarding the ownership, physical location, management, experience, relationship to foreign government officials, references of the third party and an assurance by the third party that it understands and is willing to comply with anti-corruption laws and regulations; (3) some method of vetting the reputation and background of the prospective third-party representative or business partner. Ultimately,  the level of due diligence required will generally be commensurate with the level of perceived risk.

When conducting due diligence of high-risk third parties, one should typically employ the services of  third party professionals.  These professionals can help insure that the high risk third party does not pose potential FCPA liability through the use of various means such as: checks of corporate filings and business records, legal proceedings, Internet searches, and adverse media checks.  Furthermore,  many emerging markets and developing countries pose such a great risk of FCPA liability, that additional due diligence procedures including “in-country” (a/k/a “boots on the ground”) searches may be required such as: conducting searches of localized public records, phone interviews, site visits, and reference checks.

Consider the following policy language:

Under the U.S. FCPA,  the Company and its Personnel could be liable for indirect offers, promises of payments, or payments to any Government Official (or to private entity if the UK Bribery Act is involved) if such offers, promises, or payments are made through an Agent or Partner with the knowledge that a Government Official will be the ultimate recipient. As a result, it is important that the Company, through the Company Compliance Officer, consider the necessity of conducting anti-corruption due diligence on a prospective Agent or Partner. If after performing a risk assessment the Company concludes that a due diligence investigation should be conducted, then the extent of the investigation must be determined.  The degree of due diligence the Company will perform depends upon a lot of factors, including the dollar value of the arrangement, the expected contact with government officials, and the country at risk.  In making the determination, the Company will consider whether the transaction raises “red flags”.

Examples of common “red flags” with third parties are as follows:

  • The prospective acquisition target, Agent, or Partner insists that its identity remain confidential or refuses to divulge the identity of its owners, directors, or officers.
  • Family, business or other ‘special’ ties with government or political officials.
  • Reputation for violation of local law or company policy, such as prohibitions on commissions, or currency or tax law violations. Also negative press, rumors, allegations, investigations or sanctions.
  • The transaction or the prospective acquisition target, Agent, or Partner is or operates in a country where there is widespread corruption or a history of bribes and kickbacks
  • Requests from government officials or agencies to engage or hire specific third parties.
  • Inadequate credentials for the nature of the engagement or lack of an office or an established place of business.
  • Missing or inadequate documentation to support services and invoices. Unsupported charges or expenses, requests for payment of non-contracted amounts.
  • Convoluted or complex payment requests, such as payment to a third party or to accounts in other countries, requests for payments in cash or requests for upfront payment for expenses or other fees.
  • Requests for political, charitable contributions or other favors as a way of influencing official action.
  • Third party has a reputation for getting ‘things done’ regardless of circumstances or suggests that for a certain amount of money, he can fix the problem or “make it go away”.

All due diligence investigations conducted by the Company will include an analysis of potential “red flag” issues.  Investigations of potential “red flag” issues should be carefully documented and relevant documents, such as due diligence, questionnaires, reports, and compliance certificates, should be maintained by the Company Compliance Officer or his or her designee.

On Monday, we will examine contractual language to consider when contracting with approved Agents and Partners.  Stay tuned.

 Mary Shaddock Jones has practiced law for 25 years in Texas and Louisiana primarily in the international marine and oil service industries.  She was of the first individuals in the United States to earn TRACE Anti-bribery Specialist Accreditation (TASA).  She can be reached at msjones@msjllc.com or 337-513-0335. Her associate, Miller M. Flynt, assisted in the preparation of this series.  He can be reached at mmflynt@msjllc.com.

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.

 

October 12, 2012

Dracula, Greg Smith and Goldman Sachs

I always enjoy the month of October leading up to Halloween. It is not because I particularly enjoy Halloween, dressing up in costume or even Trick or Treating; no I absolutely love the classic horror films from the 1930s and 1940s. As there is not yet a Classic Horror cable channel, the month of October is usually the only month the genre is presented on TMC. So I record and re-watch them with joy all month long. My favorite of such movies are the Universal classics from the 30s and 40s; Dracula, Frankenstein, the Wolf Man and the Mummy. So between now and Halloween I will write a series of posts tying these beloved old classics as introductions into some ongoing issues of compliance and ethics.

Today we start with the first of the Universal classic movie monsters, Dracula. I could probably write several posts on the Count and his portrayal by Bela Lugosi in 1931 but I will just mention three things. First, the production values set an atmosphere that was both terrifying and compelling. The second was the performance of the leading man, Bela Lugosi, a Hungarian actor who spoke broken English at best, his delivery was perfect when he first intoned, “I am Dracula.” Finally, and here is the compliance angle, the work of Professor Van Helsig to prevent, detect and finally remedy Count Dracula before he managed to do in England what he had accomplished in Transylvania.

I thought about how a bad situation could be faced when reading an unattributed ‘news analysis’ in the October 11 edition of the Financial Times (FT), entitled “Goldman braced for more revelations”. (I assuredly did not think of Goldman as a blood-sucking vampire so please understand that is not the analogy in this post.) The article was about Gregg Smith, the former Goldman Sachs employee who resigned in very public manner last March and penned an Op-Ed piece in the New York Times (NYT) entitled “Why I am Leaving Goldman Sachs.”As noted in the FT article, Smith’s piece “made headlines around the world and sent shockwaves through the investment bank.” Apparently Goldman Sachs is now on edge because Smith is coming out with follow up book which will be released sometime this fall.

The FT listed several of the reactions by Goldman Sachs as an institution and by individual employees. One banker was quoted as saying “It feels like a drive-by shooting for people here.” Another quote was that “People feel really betrayed.” In no doubt an attempt to “Swift Boat” Smith, others said that either (1) he never raised any of the concerns to management that he stated in his NYT piece or (2) he was just disgruntled because he did not get the big bucks that he thought he was entitled to receive.

One thing that Goldman Sachs has not talked about is whether they have engaged in the Paul McNulty trichotomy: What did you do to prevent it? What did you do to detect it? And finally, What did you do when you found out about it? I hope that Goldman Sachs has been doing a serious risk assessment of the claims made by Smith in his March NYT Op-Ed piece. The recent Pfizer Deferred Prosecution Agreement (DPA) laid out a program for a very detailed plan for a risk-based program of annual proactive anti-corruption reviews of high-risk markets. Pfizer will assess at least five markets which are at high risk for corruption because of the business and location. The specifics for each visit will be a useful guide for the compliance practitioner to compare with similar work done by his compliance group. It includes (a) On-site visits by a Foreign Corrupt Practices (FCPA) review team comprised of qualified personnel from the Compliance, Audit and Legal functions who have received FCPA and anti-corruption training; (b) Review of a representative sample, appropriately adjusted for the risks of the market, of contracts with, and payments, to individual foreign government officials or health care providers, as well as other high-risk transactions in the market; (c) Creation of action plans resulting from issues identified during the proactive reviews; these action plans will be shared with appropriate senior management and should contain mandatory remedial steps designed to enhance anti-corruption compliance, repair process weaknesses, and deter violations; and (d) a review of the books and records of a sample of distributors which, in the view of the FCPA proactive review team, may present corruption risk.

The FT piece concluded that Smith’s book is scheduled to be published in “a dozen days” and “there is a nervous air of anticipation at the bank’s New York equities floor.” In the movie version of Dracula, Professor Van Helsing detected that Count Dracula was indeed a vampire and worked to remedy the situation. I can only hope Goldman Sachs has worked to assess the risks they faced based upon the claims brought up by Greg Smith in his NYT Op-Ed piece.

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

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