Archive for the ‘Third Parties’ Category

Friday Roundup

Friday, June 7th, 2013

Survey says, an editorial, I’ll second that, and spot-on.  It’s all here in the Friday roundup.

Survey Says

The recently issued Kroll / Compliance Week Anti-Bribery and Corruption Benchmarking Report was based on responses from “nearly 300 executives” and “participants hailed from all manner of industry.”

Survey findings of note.

“Was the FCPA Guidance any help?  Nearly 53 percent rated the guidance as “a good read, but it didn’t tell me anything new.” Another 23.5 percent deemed it very helpful, 18.8 percent didn’t know, and 4.6 percent said the guidance actually left them more confused.”

Regarding third parties:

  • “The average respondent reports that his/her company conducts business with more than 3,500 third parties”
  • “Most companies (79 percent) will drop a potential third party even upon rumor of bribery without any hard proof”
  • “47 percent of all respondents said they conduct no anti-corruption training with their third parties at all”

Financial Times Editorial on Bribery Act

I was pleased to speak to the Financial Times in connection with its recent Bribery Act editorial.  It stated in full as follows.

Government Needs to Clarify Application of Bribery Act

Britain was once considered a laggard in the international battle against corruption. The Bribery Act, which came into force in 2011, was the first overhaul of anti-corruption laws in almost a century. Two years on, the government wants to review it. This is sensible, as new legislation can have unintended consequences. But any review should not result in a weaker law. That would only allow greater scope for graft.

The government is responding to complaints from small and medium-sized businesses that the costs of compliance are too high. In particular, they are worried about the ban on facilitation payments, small amounts paid to officials to expedite services such as visas or customs checks. Businesses argue that Britain holds its companies to a higher standard than other countries – particularly the US, where such payments are not banned. They say this puts them at a disadvantage.

These concerns are understandable, but exaggerated. Facilitation payments have always been illegal in the UK. Yet conflicting signals from the authorities have sown confusion. Moreover, the absence of case law leaves companies in the dark as to how the law will be applied and what defence is valid. This has created a climate in which companies easily fall prey to firms peddling overly-prescriptive and costly advice on compliance.

More can and should be done to clarify the circumstances under which a company will be pursued. This will help to counter the scaremongering that has led some businesses to pass up export opportunities. To be fair, the guidelines already allow some flexibility for smaller businesses. They are not expected to use the same procedures as big multinationals. When choosing an agent to open a new market, for example, it might be sufficient to verify business references, conduct an internet search and refer to the local chamber of commerce or UK embassy, as long as the anti-corruption policy is widely enough disseminated. The government’s duty is to ensure resources are sufficient to meet such requests.

Authorities must also be consistent. Businesses will not respond to demands that breaches be reported if they fear they will be prosecuted for any and all transgressions.

British companies have other competitive advantages to win business with than bribery. Graft is an evil that blights developing economies and the companies which resort to it. The Bribery Act does not need changing. It just needs supporting.

I’ll Second That

Earlier this week in a Wall Street Journal editorial titled “Mum’s the Word About SEC Defeats”  Russ Ryan (Partner, King & Spalding and former Assistant Director of the SEC Enforcement Division) stated as follows.  “Like other federal agencies, the SEC has long been good at publicizing its initial accusations of wrongdoing – which is fair enough – but not so good at letting the public know when those accusations turn out to be unfounded or an overreach.”  As Ryan rightly noted, in this internet age, “SEC publicity is permanent and widely dispersed.  The regulator’s accusations can persist indefinitely among the top search-engine results for the names of those accused.”

I’ll second that and have previousy written about the same dynamics Ryan highlights under the heading ”Writer’s Cramp at the DOJ.”  See prior posts here and here.

Spot On

Colleen Conry (Ropes Gray) stated as follows in a recent Law360 interview.

Q: What aspects of your practice area are in need of reform and why?

A: The government’s attempts to hold foreign companies accountable for having compliance programs that are on par with those we see at companies that are headquartered in the United States are challenging. Foreign companies often lack notice of that expectation and as a result suffer the consequences. Over time, I hope the government will at least consider as one factor the compliance standards that are the norm in the country in which the foreign entity operates.

*****

A good weekend to all.

Does The DOJ Really Believe That A Significant Percentage Of Issuers Are Engaged In Criminal Acts?

Wednesday, June 5th, 2013

The DOJ has stated that non-prosecution and deferred prosecution agreements “benefit the public and industries by providing guidance on what constitutes improper conduct.”  (See here).

With that in mind, consider the recent Total enforcement action (see here for the prior post).  The DOJ alleged, in support of criminal FCPA internal controls violations, as follows.

“Total:  (a) failed to implement adequate anti-bribery compliance policies and procedures; (b) failed to maintain an adequate system for the selection and approval of consultants; (c) failed to conduct adequate audits of payments to purported consultants; (d) failed to establish a sufficiently empowered and competent corporate compliance office; (e) failed to take reasonable steps to ensure the company’s compliance and ethics program was followed; (f) failed to evaluate regularly the effectiveness of the company’s compliance and ethics program; (g) failed to provide appropriate incentives to perform in accordance with the compliance and ethics program; (h) concealed the consulting agreements’ true nature and true participants; (i) performed no due diligence concerning the named or unnamed parties to these agreements; and (j) lacked controls sufficient to provide reasonable assurances that the consulting agreements complied with applicable laws.”

If the DOJ believes that each of the above constitutes a criminal violation of the internal controls provisions, then a significant percentage of issuers are engaged in criminal acts.

Survey after survey indicates that a significant percentage of companies, including issuer’s subject to the FCPA’s internal controls provisions, fail to maintain an adequate system for selection and approval of consultants, fail to conduct audits of payments to consultants, fail to conduct due diligence of third-parties, and fail to regularly evaluate the effectiveness of its compliance and ethics program.

For instance, the recently issued Kroll / Compliance Week Anti-Bribery and Corruption Benchmarking Report found “that 47 percent of all respondents say they conduct no anti-corruption training with their third parties” and  “of the remainder who do train their third parties on anti-corruption, only 30 percent of that group believe their efforts are effective.”

Likewise, as noted in this recent post, according to a recent survey “only 30% of all survey respondents say their companies always conduct a risk review of existing business relationships and ties to agents in foreign countries.”

Further, as noted in this prior post, a survey found as follows.  “Despite the significant risks and specified demands of regulators [as to third parties], our survey suggests that the corporate response to mitigating third-party risks is still inadequate. Many companies are failing to adopt even the most basic controls to manage their third-party relationships.”  “Effective third-party management does not end at the performance of due diligence. Third parties also should be monitored on an ongoing basis, including regular compliance assessments and audits. It is therefore worrying that only 45% of respondents identified audit rights or regular audits of the third party as a process in place to monitor the relationship.”

Indeed, as even the DOJ and SEC recognized in the November 2012 FCPA guidance, “64% of general counsel whose companies are subject to the FCPA say there is room for improvement in their FCPA training and compliance programs.”  (See here for the prior post).

The DOJ’s allegations in the Total enforcement action are all the more alarming given that the time period relevant to the conduct at issue was between 1995 to 2004.  Is the DOJ suggesting that nearly every issuer during this time period was engaged in criminal acts given that issuers during that time period likely failed to engage in all of the compliance practices identified in the Total enforcement action?

Perhaps the Total enforcement action is the product of vague and sloppy pleading.  Because there is little chance that the DOJ will ever have to prove its allegations, this tends to happen in many FCPA enforcement actions.  Yet, if the DOJ truly believes that all of the above generic allegations in the Total enforcement action represent issuer criminal violations, then the DOJ is suggesting that a significant percentage of issuers are engaged in criminal acts.

If so, this is troubling.

In my article “Grading the Foreign Corrupt Practices Act Guidance” and in this prior post, I detailed how DOJ officials stated that the legal community can have confidence that the enforcement agencies will act consistently with the Guidance.  I then observed that the FCPA Guidance can serve as a useful measuring stick for future enforcement agency activity and detailed various statements in the Guidance that can serve this purpose.

Certain statements concerned the FCPA’s book and records and internal controls provisions, including that the FCPA “does not specify a particular set of controls that companies are required to implement” and that the concept of reasonableness (a key statutory element) “of necessity contemplates the weighing of a number of relevant factors, including the costs of compliance.”

Next Up – Eli Lilly

Thursday, December 27th, 2012

First it was Johnson & Johnson (see here – $70 million in combined fines and penalties in April 2011).  Then it was Smith & Nephew (see here - $22 million in combined fines and penalties in February 2012).  Then it was Biomet (see here – $22.8 million in combined fines and penalties in March 2012).  Then it was Pfizer / Wyeth (see here  – $60 million in combined fines and penalties in August 2012).

Next up is Eli Lilly in a Foreign Corrupt Practices Act enforcement action announced last week by the SEC.   This post goes long and deep as to the SEC’s allegations which resulted in a $29 million settlement.

In summary, the SEC alleges in a civil complaint (here) as follows.

“Eli Lilly and Company violated the Foreign Corrupt Practices Act in connection with the activities of its subsidiaries in China, Brazil, Poland, and Russia.  Between 2006 and 2009, employees of Lilly’s China subsidiary falsified expense reports in order to provide improper gifts and cash payments to government-employed physicians. In 2007, a pharmaceutical distributor hired by Lilly in Brazil paid bribes to government health officials in a Brazilian state in order to assure sales of a Lilly product to state government institutions. In Poland, between 2000 and 2003, Lilly’s subsidiary made eight payments totaling approximately $39,000 to a small charitable foundation that was founded and administered by the head of one of the regional government health authorities at the same time that the subsidiary was seeking the official’s support for placing Lilly drugs on the government reimbursement list. Finally, Lilly’s subsidiary in Russia paid millions of dollars to off-shore entities for alleged “services” beginning as early as 1994 and continuing through 2005 in order for pharmaceutical distributors and government entities to purchase Lilly’s drugs. In some instances, the off-shore entities appear to have been used to funnel money to government officials or others with influence in the government in order to obtain business for the subsidiary. These off-shore entities rarely provided the contracted-for services. Moreover, between 2005 and 2008, contemporaneous with requests to government officials to support the government’s purchase or reimbursement of Lilly’s products, the subsidiary in Russia made proposals to government officials about how the company could donate to, or otherwise support, various initiatives that were affiliated with, or important to, the government officials.  As a result of this conduct, Lilly violated [the FCPA's internal controls provisions] by failing to have an adequate internal controls system in place to detect and prevent illicit payments.  Lilly violated [the FCPA's books and records provisions] by improperly recording each of those payments in its accounting books and records.  Lilly also violated the [FCPA's anti-bribery provisions] in connection with certain activities of its subsidiary in Russia.”

As indicated by the above paragraph, conduct in Poland, China, and Brazil gave rise to FCPA books and records and internal controls violations only.

Poland

The SEC’s allegations relating to Poland are substantively identical to allegations made against Schering-Plough in this 2004 FCPA enforcement action.

In pertinent part, the SEC alleges in its complaint against Eli Lilly as follows.

“During 2000 through 2003, Lilly’s wholly-owned subsidiary in Poland (“Lilly- Poland”) made eight payments totaling approximately $39,000 to the Chudow Castle Foundation (“Chudow Foundation”), a small charitable foundation in Poland that was founded and administered by the Director of the Silesian Health Fund (“Director”). The Director established the Chudow Foundation in 1995 to restore the Chudow Castle in the town of Chudow and other historic sites in the Silesian region of Poland.

The Silesian Health Fund (“Health Fund”) was one of sixteen regional government health authorities in Poland during the period. Among other things, the Health Fund reimbursed hospitals and healthcare providers for the purchase of certain approved products.  The Health Fund, through the allocation of public money, exercised considerable influence over which pharmaceutical products local hospitals and other healthcare providers in the region purchased.

Beginning in early 2000 and into 2002, Lilly-Poland was in negotiations with the Health Fund over, among other things, the Heath Fund’s financing of the purchase of Gemzar, one of Lilly’s cancer drugs, by public hospitals and other healthcare providers. Those negotiations occurred primarily between a team manager at Lilly-Poland (“Lilly Manager”) and the Director. Continuing at intervals throughout these negotiations, the Director asked that Lilly Poland contribute to the Chudow Foundation. The initial request came directly from the Director and the subsequent requests came from the Chudow Foundation.

The Lilly-Poland Manager knew that the Director had established the Chudow Foundation and that it was a project to which he was devoted and lent much effort. The Manager requested the approval of payments to the Chudow Foundation. The Manager falsely described the first payment as being for the purchase of computers for the Chudow Foundation. The second Lilly-Poland payment request falsely characterized the proposed payment as “[t]o support foundation in its goal to develop activities in [Chudow Castle].” That request documentation also noted that the “value of the request” was “[i]ndirect support of educational efforts of foundation settled by Silesia [Health Fund].” Similarly, the remaining payments were mischaracterized as monies paid by Lilly-Poland to secure the use of the Chudow Castle for conferences after its renovation. No such conferences took place.

Lilly-Poland eventually made a total of eight payments to the Chudow Foundation, starting in June 2000 and ending in January 2003.  [...]  The Manager requested the approval of the payments to the Chudow Foundation with the intent of inducing the Health-Fund Director to allocate public monies to hospitals and other health care providers in the Health Fund for the purpose of purchasing Gemzar.

China

As to China, the SEC alleges, in full, as follows.

“Lilly’s wholly-owned subsidiary through which it does business in China (“Lilly- China”) employs more than one-thousand sales representatives whose main focus is on marketing Lilly products to government-employed health-care providers. During the relevant period, the sales representatives worked from regional offices and traveled throughout the country, interacting with the health-care providers in order to convince them to prescribe Lilly products. The sales representatives were directly supervised by District Sales Managers who, in tum, were supervised by Regional Managers. Sales representatives paid out-of-pocket for their travel expenses and submitted receipts and other documentation to the company for reimbursement.

Between 2006 and 2009, various sales representatives and their supervisors abused the system by submitting, or instructing subordinates to submit, false expense reports. In some instances, Lilly-China personnel used reimbursements from those false reports to purchase gifts and entertainment for government-employed physicians in order to encourage the physicians to look favorably upon Lilly and prescribe Lilly products.

In one sales area, in 2006 and 2007, a District Sales Manager for Lilly’s diabetes products instructed subordinates to submit false expenses reports and provide the reimbursement money to her. She then used the reimbursements to purchase gifts, such as wine, specialty foods and a jade bracelet, for government-employed physicians. At least five sales representatives in the oncology sales group submitted false expense reports and then used those reimbursements to provide meals, visits to bath houses, and card games to government-employed physicians.

Similarly, in three other provinces, three sales representatives submitted false expense reports and then used the reimbursements to provide government-employed physicians with visits to bath houses and karaoke bars. In another city, five sales representatives submitted false reimbursements and then their Regional Manager used the money to provide door prizes and publication fees to government-employed physicians. In another city, seven sales representatives and the District Sales Manager for the diabetes sales team used reimbursements to buy meals and cosmetics for government-employed physicians.

Between 2008 and 2009, members of Lilly-China’s “Access Group,” which was responsible for expanding access to Lilly products in China by, among other things, convincing government officials to list Lilly products on government reimbursement lists, engaged in similar misconduct. At least six members of the sixteen-member Access Group, including two associate access directors, falsified expense reports and used the proceeds to provide gifts and entertainment to government officials in China. The gifts included: spa treatments, meals, and cigarettes.

Although the dollar amount of each gift was generally small, the improper payments were wide-spread throughout the subsidiary. Lilly has terminated, or otherwise disciplined, the various employees who submitted false expense reports and/or used the proceeds to provide gifts and services to government officials.”

Brazil

As to Brazil, the SEC alleges, in full, as follows.

“Between 2007 and 2009, Lilly-Brazil distributed drugs in Brazil through third party distributors who then resold those products to both private and government entities. As a general rule, Lilly-Brazil sold the drugs to the distributors at a discount; the distributors then resold the drugs to the end users at a higher price and took the discount as their compensation.  Lilly-Brazil negotiated the amount of the discount with the distributor based on the distributor’s anticipated sale. The discount to the distributors generally ranged between 6.5% and 15%, with the majority of distributors in Brazil receiving a 10% discount.

In early 2007, at the request of one of Lilly-Brazil’s sales and marketing managers at the time, Lilly-Brazil granted a nationwide pharmaceutical distributor, unusually large discounts of 17% and 19% for two of the distributor’s purchases of a Lilly drug, which the distributor then sold to the government of one of the Brazilian states. Lilly-Brazil’s pricing committee approved the discounts without further inquiry. The policies and procedures in place to flag unusual distributor discounts were deficient. They relied on the representations of the sales and marketing manager without adequate verification and analysis of the surrounding circumstances of the transactions. In May 2007, Lilly sold 3,200 milligrams of the drug to the distributor for resale to the Brazilian state; in August 2007, Lilly-Brazil sold 13,500 milligrams of the drug to the distributor for resale to the Brazilian state. Together the sales were valued at approximately $1.2 million.

The distributor used approximately 6% of the purchase price (approximately $70,000) to bribe government officials from the Brazilian state so that the state would purchase the Lilly product. The Lilly-Brazil sales and marketing manager who requested the discount knew about this arrangement.”

Russia

As to Russia, in pertinent part, the SEC complaint alleges as follows.

“From 1994 through 2005, Lilly-Vostok, a wholly-owned subsidiary of Lilly, sold pharmaceutical products either directly to government entities in the former Soviet Union or through various distributors, often selected by the government, who would then resell the products to the government entities. Along with the underlying purchase contract with the government entity or distributor, Lilly-Vostok sometimes entered into another agreement with a third-party selected by a government official or by the government-chosen pharmaceutical distributor. Generally, these third-parties, which had addresses and bank accounts located outside of Russia, were paid a flat fee or a percentage of the sale. These agreements were referred to as “marketing” or “service” agreements.  In total, Lilly-Vostok entered into over 96 such agreements with over 42 third-party entities between 1994 and 2004.

Lilly-Vostok had little information about these third-party entities, beyond their addresses and bank accounts. Rarely did Lilly-Vostok know who owned them or whether the entities were actual businesses that could provide legitimate services. Senior management employees in Lilly-Vostok’s Moscow branch assisted in the negotiation of these agreements. The contracts themselves were derived from a Lilly-Vostok-created template and enumerated various broadly-defined services, such as ensuring “immediate customs clearance” or “immediate delivery” of the products; or assisting Lilly-Vostok in “obtaining payment for the sales transaction,” “the promotion of the products,” and “marketing research.”

Contrary to what was recorded in the company’s books and records, there is little evidence that any services were actually provided under any of these third-party agreements. Indeed, in many instances, the “services” identified in the contract were already being provided by the distributor, a third-party handler (such as an international shipping handler) or Lilly itself. To the extent services such as expedited customs clearance or other services requiring interaction with government officials were provided, Lilly-Vostok did not know or inquire how the third party intended to perform their services.

Contemporaneous documents reflect that Lilly-Vostok employees viewed the payments as necessary to obtain the business from the distributor or government entity, and not as payment for legitimate services.

The SEC also alleges that in 1997 and in 1999 Lilly conducted a business review of Lilly-Vostok.  According to the SEC, the reports raised concerns about Lilly-Vostok’s business practices and the reports “recommended that Lilly-Vostok modify its internal controls to ensure that [certain third-party] services were documented” and to “assure itself that [certain third-party] agreements accurately and fairly reflect the services to be provided.”

However, the SEC alleged as follows.

“Lilly did not curtail the use of marketing agreements by its subsidiary or make any meaningful efforts to ensure that the marketing agreements were not being used as a method to funnel money to government officials, despite recognition that the marketing agreements were being used to “create sales potential” or “to ‘support’ activities leading to agreement-signing” with government entities. In fact, during the 2000-2004 period — after the above-described reports, but prior to the company ending use of the agreements– Lilly-Vostok entered into the three most expensive of these arrangements.”

The three arrangements are as follows.

First, the SEC alleged that in response to a 2002 Russian Ministry of Health tender, the ministry selected a “large Russian pharmaceutical distributor” for which to purchase the products and the distributor in turn negotiated with Lilly-Vostok for the purchase of diabetes products.  According to the SEC, the distributor required Lilly-Vostok, “as a condition of their agreement” to enter into various agreements with an entity incorporated in Cyprus.

According to the SEC.

“Lilly’s due diligence regarding the entity in Cyprus was limited to ordering a Dun and Bradstreet report and conducting a search using an internet service to scan publicly available information. Neither the Dun and Bradstreet report nor the internet search revealed the Cyprus entity’s beneficial owner or anything about its business. Nonetheless, pursuant to the terms of its arrangement with the distributor, Lilly-Vostok paid the entity in Cyprus over $3.8 million in early 2003.

The Cyprus entity was, in fact, owned by the Russian businessman who was the owner of the distributor. There is no evidence of services provided to Lilly-Vostok by the Cyprus entity in consideration for Lilly-Vostok’s $3.8 million in payments. Lilly’s books and records improperly reflected these payments as payments for services.”

Second, the SEC alleges “at least two instances” involving foreign government officials and alleges as follows.

“Between 2000 and 2005, Lilly-Vostok sold significant amounts of pharmaceutical products to a major Russian pharmaceutical distributor for resale to the Russian Ministry of Health. The pharmaceutical distributor was owned and controlled by an individual who, at the beginning of the distributor’s relationship with Lilly-Vostok, was a close adviser to a member of Russia’s Parliament. In 2003, this official became a member of the upper house of Russia’s Parliament. Throughout the period, this official exercised considerable influence over government decisions relating to the pharmaceutical industry in Russia.

As part of most of the sales arrangements with the distributor, the official demanded that Lilly-Vostok enter into separate “marketing” agreements with entities with addresses and bank accounts in Cyprus. Under the arrangement, Lilly-Vostok paid the Cypriot entities up to thirty percent of the sales price of the underlying sales contracts in return for the Cypriot entities entering into an agreement “to offer all assistance necessary” in various areas like storage, importation and payment.

In conjunction with outside counsel, Lilly-Vostok conducted limited due diligence on these third-parties. However, the due diligence did not identify the beneficial owners of these third-parties or determine whether the third-parties were able to provide the contracted-for assistance. Nonetheless, Lilly-Vostok concluded that it could proceed with the transactions and paid the Cypriot entities over $5.2 million. In fact, the Cypriot entities were owned by an individual associated with the distributor controlled by the member of the upper house of Russia Parliament. The Cypriot entity transferred the payments from Lilly-Vostok to other off-shore entities.”

Third, the SEC alleges “in connection another series of contracts, from 2000 through 2004, Lilly-Vostok sold products to a distributor, headquartered in Moscow, which was wholly-owned by a Russian government entity.

The SEC alleged as follows.

 ”The purchase agreements were signed on the government-owned distributor’s behalf by its General Director. As part of the arrangement, the government-owned distributor selected a third-party entity with an address in the British Virgin Islands (“the BVI entity”) with which Lilly-Vostok entered into agreements for the broadly defined “services” enumerated in the Lilly-Vostok template (see above). Under the terms of the agreements between Lilly-Vostok and the BVI entity, Lilly-Vostok was to pay the BVI entity up to 15% of the price of the product purchased by the government-owned distributor. Accordingly, from 2000 through 2005, Lilly-Vostok made approximately 65 payments to the BVI entity totaling approximately $2 million.

There is no evidence that the BVI entity performed any of the services listed in its agreement with Lilly-Vostok. There is also no evidence that Lilly-Vostok performed any due diligence or inquiry as to whether the BVI entity was able or did perform the contracted-for services. Lastly, there is no evidence that Lilly-Vostok performed any due diligence or inquiry into the identity of the beneficial owner of the BVI entity. In fact, the beneficial owner of the BVI entity was the General Director of the government-owned distributor, and he ultimately received the payments from the BVI entity.”

As to these various arrangements, the SEC alleges as follows.  “Lilly did not direct Lilly-Vostok to cease entering into these third-party agreements until 2004. However, Lilly permitted the subsidiary to continue making payments under already existing third-party contracts as late as 2005.”

As to the above Russian conduct, the complaint charges violations of the FCPA’s anti-bribery provisions.  Of note, the complaints specifically pleads as follows regarding knowledge.  “When knowledge of the existence of a particular circumstance is required for an offense, such knowledge is established if a person is aware of a high probability of the existence of such circumstances, unless the person actually believes that the circumstance does not exist.”

The SEC complaint also contains the following allegation.

“From 2005 through 2008, Lilly-Vostok made various proposals to government officials in Russia regarding how Lilly-Vostok could donate to 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. Examples included their personal participation or the participation of people from their institutions in clinical trials and international and regional conferences and the support of charities and educational events associated with the institutes. At times, these proposals to government officials were made in a communication that also included a request for assistance in getting a product reimbursed or purchased by the government. Generally, Lilly-Vostok personnel believed these proposals were proper because of their relevance to public health issues and many of the proposals were reviewed by counsel. Nonetheless, Lilly-Vostok did not have in place internal controls through which such proposals were vetted to ascertain whether Lilly-Vostok was offering something of value to a government official for a purpose of influencing or inducing him or her to assist Lilly-Vostok in obtaining or retaining business.”

As to Lilly’s books and records, the SEC alleges as follows.

“[S]ubsidiaries of Eli Lilly made numerous payments that were incorrectly described in the company’s books and records. In China, payments were falsely described as reimbursement of expenses when, in fact, the money was used to provide gifts to government-employed physicians. In Brazil, money that was described in company records as a “discount” for a pharmaceutical distributor was, in actuality, a bribe for government officials. In Poland, payments classified as charitable donations were not intended for a genuine charitable purpose but rather to induce a government official to assent to the purchase of a Lilly product. Finally, in Russia, millions of dollars in payments, described in the company’s books and records as for various services, were actually payments to assure that Lilly was able to conduct business with certain pharmaceutical distributors.”

As to Lilly’s internal controls, the SEC alleges as follows.

“During the relevant period, Lilly and its subsidiaries failed to devise and maintain an adequate system of internal accounting sufficient to provide reasonable assurance that the company maintained accountability for its assets and transactions were executed in accordance with management’s authorization. Particularly, Lilly did not adequately verify that intermediaries with which the company was doing government-related business would not provide a benefit to a government official on Lilly’s behalf in order to obtain or retain business. Lilly and its subsidiaries primarily relied on assurances and information provided in the paperwork by these intermediaries or by Lilly personnel rather than engaging in adequate verification and analyzing the surrounding circumstances of the transaction. Lilly and its subsidiaries’ employees considered and offered benefits to government officials at the same time they were asking those government officials to assist with the reimbursement or purchase of Lilly’s products with inadequate safeguards to assure that its employees were not offering items of values to a government official with a purpose to assist Lilly in retaining or obtaining business.

Moreover, despite an understanding that certain emerging markets were most vulnerable to FCPA violations, Lilly’s audit department, based out of Indianapolis, had no procedures specifically designed to assess the FCPA or bribery risks of sales and purchases. Accordingly, transactions with off-shore entities or with government-affiliated entities did not receive specialized or closer review for possible FCPA violations.  In assessing these transactions, the auditors relied upon the standard accounting controls which primarily assured the soundness of the paperwork. There was little done to assess whether, despite the existence of facially acceptable paperwork, the surrounding circumstances or terms of a transaction suggested the possibility of an FCPA violation or bribery.

As to Lilly’s remedial efforts, the SEC complaint states as follows.

“Since the time of the conduct noted in this Complaint, Lilly has made improvements to its global anti-corruption compliance program, including: enhancing anticorruption due diligence requirements for relationships with third parties; implementing compliance monitoring and corporate auditing specifically tailored to anti-corruption; enhancing financial controls and governance; and expanding anti-corruption training throughout the organization.”

As noted in this SEC release,  Lilly, without admitting or denying the allegations, agreed to pay disgorgement of $13,955,196, prejudgment interest of $6,743,538, and a penalty of $8.7 million for a total payment of $29,398,734.  The release also notes that “Lilly also agreed to comply with certain undertakings including the retention of an independent consultant to review and make recommendations about its foreign corruption policies and procedures.”

In Lilly’s release (below) the retention period of the consultant is identified as 60 days and in the SEC’s proposed final judgement, the consultant is identified as FTI Consulting which has been assisting Lilly in connection with a previous Corporate Integrity Agreement.

The case has been assigned to Judge Beryl A. Howell (U.S. District Court, District of Columbia).

William Baker III (Latham & Watkins) represented Lilly.

In the SEC’s release, Kara Novaco Brockmeyer (Chief of the SEC Enforcement Division’s Foreign Corrupt Practices Unit) stated as follows. “Eli Lilly and its subsidiaries possessed a ‘check the box’ mentality when it came to third-party due diligence. Companies can’t simply rely on paper-thin assurances by employees, distributors, or customers. They need to look at the surrounding circumstances of any payment to adequately assess whether it could wind up in a government official’s pocket.”  In the same release, Antonia Chion (Associate Director in the SEC Enforcement Division) stated as follows.  “When a parent company learns tell-tale signs of a bribery scheme involving a subsidiary, it must take immediate action to assure that the FCPA is not being violated.  We strongly caution company officials from averting their eyes from what they do not wish to see.”

This Lilly release quotes Anne Nobles (Lilly’s Chief Ethics and Compliance Officer and Senior VP of Enterprise Risk Management) as follows.  “Lilly requires our employees to act with integrity with all external parties and in accordance with all applicable laws and regulations.  Since ours is a business based on trust, we strive to conduct ourselves in an ethical way that is beyond reproach. We have cooperated with the U.S. government throughout this investigation and have strengthened our internal controls and compliance program globally, including significant investment in our global anti-corruption program.”  The Lilly release further states as follows.  “The SEC noted that since the time of the conduct alleged in its complaint, Lilly has made improvements to its global anti-corruption compliance program, including: enhancing anti-corruption due diligence requirements for relationships with third parties; implementing compliance monitoring and corporate auditing specifically tailored to anti-corruption; enhancing financial controls and governance; and expanding anti-corruption training throughout the organization.”  The release further notes that “Lilly was first notified of the investigation in August 2003″ and describes the independent compliance consultant as conducting a ”60-day review of the company’s internal controls and compliance program related to the FCPA.”

Friday Roundup

Friday, June 8th, 2012

Chevron and others get the front-page treatment, the Aguilar prosecution is officially over as well, some additional FCPA compliance survey data, Wal-Mart civil suits continue to pile up, and Chinese state-owned enterprises continue their global M&A push, it’s all here in the Friday roundup.

Kazakhstan Customs Inquiry

In yesterday’s Wall Street Journal, Christopher Matthews and Joe Palazzolo broke a story (“Oil Giants Launch Bribe Probes”) about an apparent investigation regarding Kazakh customs issues involving members of Karachaganka Petroleum Operating BV (“KPO”) including Chevron Corp. and Eni SpA, as well as a logistics arm of Deutsche Post AG, DHL, which handles freight shipments for the group.  (For more on KPO see here).  According to tips discussed in the WSJ article, the “KPO joint venture authorized DHL to bribe Kazakh customs officials to ignore paperwork irregularities that could have delayed shipments.”  The WSJ article discusses “the difficult choices companies face operating in developing countries” and notes that, according to a knowledgeable source, when KPO logistics officials ordered DHL representatives to “stop payments to customs officials” in March 2011 the “customs inspectors found problems with virtually very KPO shipment” and “nothing was cleared to pass” until DHL resumed the payments.

Payments in connection with foreign customs, licenses, permits and the like have been fertile ground for FCPA enforcement activity, although as noted in this recent post in connection with Wal-Mart’s potential FCPA exposure, it is an open question in many cases whether the conduct at issue is the type of conduct Congress sought to capture in passing the FCPA.

In 2007, Chevron resolved an enforcement action (here) involving Iraqi Oil for Food conduct and in 2010 Eni (and related entities) resolved an enforcement action (see here for the prior post) involving Bonny Island, Nigeria conduct.  In addition, as highlighted in this recent post, Eni is also reportedly under investigation concerning its conduct in Libya.

Aguilar Conviction Vacated

This recent post highlighted the official end to the Lindsey Manufacturing prosecution.  The prosecution of Angela Maria Gomez Aguilar, who was tried along with the Lindsey defendants, is officially over as well.  As noted in this previous post, Aguilar (a purported agent of Lindsey Manufacturing) was granted a judgment of acquittal after the DOJ’s case as to one substantive count of money laundering, but the jury convicted her of one count of money laundering conspiracy.  After the conviction, Aguilar negotiated an agreement with the DOJ for a time-served sentence and immediate release from custody.  Following Judge Matz’s dismissal of the indictment last December based on numerous instances of prosecutorial misconduct (see here for the prior post), Aguilar obtained an agreement from the DOJ to stipulate to a motion vacating the one count of conviction, an agreement which took effect upon the DOJ’s recent decision not to further pursue its appeal.

As noted in this recent release, Judge Matz this week signed an order vacating Aguilar’s conviction.  In the release, Aguilar’s counsel, Stephen Larson (Arent Fox – here) stated as follows.  “The government overreached in its efforts to press this case.  It is bittersweet whenever a prosecution is terminated for misconduct.  Although Ms. Aguilar is greatly relieved by Judge Matz’s decision to end this ordeal, it is tragic that it was permitted to go this far.  I am pleased that the Department of Justice has recognized as much by opting not to pursue its appeal in this case.”

Kroll’s 2012 FCPA Benchmarking Report

This post discussed recent FCPA survey data.  Add Kroll’s recent FCPA Benchmarking Report (here) to the list.

As noted in the Report, the study was “designed to take the pulse of corporate compliance officers at U.S. based multinationals and to provide benchmarks for the current state of anti-bribery preparedness.”

Survey results that caught my eye include the following.

“Sixty-nine percent of all respondents said their companies were either moderately or highly exposed to bribery risk; this number jumps to 100 percent in the pharmaceutical industry and drops to 46 percent in the financial services industry.  [...] 85 percent believe [such risk] will increase or stay the same in the future.”

“Fifty-three percent of respondents said their compliance departments have increased their budgets in the last year; 49 percent said they have increased hiring; and 22 percent said they have experienced a centralization of compliance decision-making.”

“The most frequently cited challenges to anti-bribery compliance include the inability to anticipate regulators’ next moves (21 percent) and ensuring that employee training is taken seriously and is used when a risky situation presents itself (20 percent).”

“Seventy-nine percent of respondents characterized their compliance efforts as a strategic advantage in addition to being a strong defensive tactic.”

“[T]he weakest link among survey respondents was how they handled third party relationships.  While 99 percent of respondents said they had anti-bribery provisions for employees in their companies’ codes of conduct, that number fell to 73 percent when compliance officers were asked about anti-bribery provisions for third parties.  [...] The scope of [FCPA risk by using third parties] is exacerbated by the fact that approximately three in four U.S. companies (77 percent) report that they partner with foreign companies to do business abroad.  Thirty-seven percent of respondents said they do business with between 100 and 1,000 third parties; 27 percent said they work with between 1,000 and 10,000 third parties; and 17 percent said they work with between 10,000 and 100,000 different third parties.  A small number said they worked with more than 100,000 different third parties.”

It’s a third-party world.

The Report was based on responses from “139 senior corporate compliance executives from companies ranging in size from $100 million to over $10 billion in revenues per year” who were interviewed by phone from July 2011 to February 2012.  Survey respondents were drawn mainly from four industries:  financial services, IT/telecommunications, energy, and pharmaceuticals.

The report was published by Kroll Advisory Solutions (here), a company that assists clients mitigate and respond to risks, including FCPA issues.

Wal-Mart Civil Suits

One of my earliest Wal-Mart posts (here) noted that not only will the DOJ and SEC likely be examining the conduct of Wal-Mart executives, but so too will plaintiff law firms representing shareholders who will likely scour Wal-Mart’s SEC filings and other statements to the market in bringing derivative claims alleging breach of fiduciary duty and potential Section 10(b) claims based on material omissions concerning Wal-Mart Mexico.

Sure enough.

Wal-Mart’s recent quarterly SEC filing stated as follows.

“The Company is a defendant in several recently-filed lawsuits in which the complaints closely track the allegations set forth in a news story that appeared in the New York Times on April 21, 2012.  One of these is a securities lawsuit that was filed on May 7, 2012 in the United States District Court for the Middle District of Tennessee, in which the plaintiff alleges various violations of the U.S. Foreign Corrupt Practices Act (the “FCPA”) beginning in 2005, and asserts violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, relating to certain prior disclosures of the Company. The plaintiff seeks to represent a class of shareholders who purchased or acquired stock of the Company between December 8, 2011, and April 20, 2012, and seeks damages and other relief based on allegations that the defendants’ conduct affected the value of such stock. In addition, eleven derivative complaints were filed in April and May 2012, in Delaware and Arkansas, also tracking the allegations of the Times story, and naming various current and former officers and directors as additional defendants. The plaintiffs in the derivative suits (in which the Company is a nominal defendant) allege, among other things, that the defendants who are or were directors or officers of the Company breached their fiduciary duties in connection with oversight of FCPA compliance. While management cannot predict the outcome of these matters, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.”

Chinese SOEs

This recent post focused on China SOEs and provided links to data and analysis concerning the ever increasing global push of Chinese SOEs.  Yesterday, the Wall Street Journal ran an article titled “China Buys Overseas Assets” that discusses a recent report from A Capital, a private equity firm based in China and Paris (see here for A Capital’s report).  As indicated in the article, “China’s overseas investment surged in the first quarter [of 2012] to $21.4 billion as state-owned companies snapped up resource-related assets around the globe.”  According to the report, state-owned companies accounted for 98% of all deal value in the first quarter, a new high.

*****

A good weekend to all.

Friday Roundup

Friday, March 30th, 2012

This week’s disclosure, Jefferson’s non-FCPA appeal, statistics of note, and an update on Brazil’s “FCPA”.  It’s all here in the Friday roundup.

MTS Systems Corp. Disclosure

Minnesota-based MTS Systems Corp. (here), a global supplier of test systems and industrial position sensors, disclosed earlier this week (here) as follows.

“MTS Systems Corporation (the “Company”) is investigating certain gift, travel, entertainment and other expenses that may have been improperly incurred in connection with some of the Company’s operations in the Asia Pacific region.  The investigation has focused on possible violations of Company policy, corresponding internal control issues and any possible violations of applicable law, including the Foreign Corrupt Practices Act.  Though the investigation is not complete, the Company has taken remedial actions, including changes to internal control procedures and removing certain persons formerly employed in its Korea office. The Company believes, however, that the amount of the expenses in question is not material to its reported consolidated financial statements. The Company has voluntarily disclosed this matter to the U.S. Department of Justice and the U.S. Securities and Exchange Commission.  Additionally, the Company has disclosed this matter to the U.S. Air Force pursuant to its Administrative Agreement.  The Company cannot predict the outcome of this matter at this time or whether it will have a materially adverse impact on its business prospects, financial condition, operating results or cash flows.”

MTS’s FCPA disclosure marks the fourth time in the last five weeks that a company has newly disclosed FCPA scrutiny.  See here for the prior post “The Sun Rose, a Dog Barked, and a Company Disclosed FCPA Scrutiny.”

Jefferson’s Non-FCPA Appeal

I respectfully disagree with others who have recently stated that the 4th Circuit upheld former Congressman William Jefferson’s FCPA conspiracy conviction.  Yes, the 4th Circuit did affirm Jefferson’s conviction of Count 1, as well as other charges.  Count 1 was a conspiracy charge to solicit bribes, commit honest services wire fraud, and violate the FCPA in violation of 18 USC 371; however, as even the 4th Circuit noted in its opinion – here, this count charged a conspiracy with multiple objects and the jury was instructed that it only had to find that Jefferson conspired to commit one of the substantive offenses identified.  In announcing the jury verdict the court did not specify which object of the conspiracy the jury agreed on and in fact the jury found Jefferson not guilty of a substantive FCPA charge, a charge principally based on allegations that Jefferson attempted to bribe Nigerian officials (including the former Nigerian Vice President) to assist himself and others obtain or retain business for a Nigerian telecommunications joint venture.

As stated in the 4th Circuit’s opinion, Jefferson appealed his convictions on the following grounds: “(1) that an erroneous instruction was given to the jury with respect to the bribery statute’s definition of an ‘official act’; (2) that another erroneous instruction was given with respect to the ‘quid pro quo’ element of the bribery-related offenses; (3) that Jefferson’s schemes to deprive citizens of honest services do not constitute federal crimes; and (4) that venue was improper on one of his wire fraud offenses.”  [Reference to the "bribery statute" is to 18 USC 201 - the domestic bribery statute, not the FCPA].  In short, Jefferson’s 4th Circuit appeal had nothing to do with the FCPA.

Statistics of Note

In “Revisiting a Foreign Corrupt Practices Act Compliance Defense” (see here), I argue that a compliance defense will better incentivize corporate compliance, reduce improper conduct, and thereby advance the FCPA’s objective of preventing bribery of foreign officials.  Sure, business organizations at present have at least two incentives (the DOJ’s Principles of Prosecution of Business Organizations and the U.S. Sentencing Guidelines) to implement FCPA compliance policies and procedures.  I argue that these incentives are not well known by a meaningful segment of the business community and, even if they were, despite these incentives (incentives which merely lessen the impact of legal exposure vs. reduce legal exposure), few business organizations operating in a world of finite resources are sufficiently implementing comprehensive FCPA policies and procedures.  Various survey data is cited in support.

Add Deloitte’s recent third-party business relationships poll (see here) to the list.  Despite the fact that a significant majority of corporate FCPA enforcement actions are based on the conduct of foreign third parties (such as agents, representatives, distributors, joint venture partners)  the poll found the following.

On what percentage of your organization’s third-party business partners do you estimate it performs due diligence and risk assessments?
Votes Received: 1,339

None 5%
Up to 25% 23.4%
26–50% 14.5%
51–75% 12.4%
76-100% 13.4%
NA/Don’t know 31.3%

An FCPA compliance defense surely will not cause 100% of business organizations to perform due diligence and risk assessment of all foreign third parties, but it is reasonable to conclude that an FCPA compliance defense will better incentivize more robust FCPA compliance policies and procedures, including as to third-parties.

Another statistic of note.  A recent Global Anti-Corruption Survey by AlixPartners found that 95% of survey participants believe their industry is exposed to business practices that may constitute corruption.  Southeast Asia and Africa presented the most significant risk according to survey participants. Survey participants were in-house legal counsel or compliance officers at North American multinational companies with annual revenues of $250 million or greater (with 90% of respondents working for companies with annual revenues exceeding $1 billion).

Brazil Update

In this prior post, Matteson Ellis (founder and Principal of Matteson Ellis Law, PLLC, who also writes the FCPAmericas Blog), provided an overview of a draft bill making its way through the Brazilian Congress that would strengthen its “FCPA-like” law.  In this recent post on his FCPAmericas Blog, Ellis provides an update on the draft bill.  Ellis reports as follows.  “A Special Committee created by the Brazilian Congress to analyze [the draft bill] has recently presented a revised draft that bolsters certain key provisions and keeps other significant ones the same. The House aims to vote on the legislation before July 2012.”  In his post, Ellis provides various highlights of the revised draft bill as to corporate liability, sanctions, voluntary disclosure, and compliance programs.

*****

A good weekend to all.