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Understanding Wal-Mart

Tuesday, May 1st, 2012

Prior posts here and here discussed and analyzed the New York Times April 21st article regarding Wal-Mart and its potential FCPA exposure. As noted in the prior posts, the New York Times article was both unremarkable and remarkable at the same time. Wal-Mart has dominated the news cycle not because it is under FCPA scrutiny (this was known since December 2011 when Wal-Mart disclosed its FCPA scrutiny joining a list of approximately 100 companies known to be under FCPA investigation). Rather, Wal-Mart has dominated the news cycle because of how the company acted, or failed to act, since learning of potential FCPA issues in approximately 2005. Thus, Wal-Mart is mostly a corporate governance story.

Even so, there are some core and fundamental FCPA issues worthy of exploration. This post discusses many of the same issues I’ve discussed with journalists and others over the past week. Given the space constraints of media outlets, the below was understandably reduced to one or two sentences. It is in instances like this when I particularly enjoy having my own website and having the ability to go long and deep.

So long and deep we shall go and the issues discussed below are informed by, among other things, my review of the FCPA’s entire legislative history and my years as an FCPA practitioner. Although focused on the FCPA’s “foreign official” element, a thorough and comprehensive review of the FCPA’s legislative history can be found here (my “foreign official” declaration used in connection with several recent judicial challenges). My article “The Story of the Foreign Corrupt Practices Act” is forthcoming in the Ohio State Law Journal.

Do the Wal-Mart Mexico payments at issue violate the FCPA’s anti-bribery provisions? From a practical standpoint, does it even matter?

The FCPA’s Anti-Bribery Provisions

Two distinct and important questions can be asked about many instances of FCPA scrutiny, including Wal-Mart’s, in this new era of FCPA enforcement.

The first question is whether, given the DOJ and SEC’s current enforcement theories, the Mexican payments at issue - allegedly in connection with permitting, licensing and inspection issues - can expose Wal-Mart to an FCPA enforcement action? The answer is likely yes and in the past several years the enforcement agencies have brought several FCPA enforcement actions premised on payments to obtain foreign licenses, permits and the like. For instance see here (and embedded posts therein) for the numerous Panalpina related enforcement actions in 2010. See here at pages 972-975 for a listing of such cases 2007-2009.

The second (and from my perspective more important) question is whether Congress, in passing the FCPA, intended the law to capture payments occurring outside the context of foreign government procurement and involving ministerial and clerical acts by foreign officials. The answer from the FCPA’s legislative history is no.

In the mid-1970′s Congress learned of a variety of foreign corporate payments to a variety of recipients and for a variety of reasons. Congress accepted and acknowledged in passing the FCPA that it was capturing only a narrow range of foreign payments. For instance the relevant Senate Report in May 1977 specifically notes that “the committee has recognized that the bill would not reach all corrupt overseas payments.” Likewise, the relevant House Report in September 1977 also states that “the proposed law will not reach all corrupt payments overseas.”

Of note, in November 1977 (a month prior to passage of the FCPA in December 1977), Representative Robert Eckhardt (D-TX, a Congressional leader on the foreign payments issue) stated on the House floor as follows. “Payments to a [foreign official with ministerial or clerical duties] for instance, to complete a form that ought, in equity, to be completed, to give everybody equal treatment, to move the goods off a dock which he will not move without a tip, a mordida, I think, as they call it in the Spanish language, a facilitating payment, or a grease payment would not constitute a bribe.”

Thus, when the FCPA was passed in December 1977 it specifically excluded from the definition of “foreign official” “any employee of a foreign government or any department, agency, or instrumentality thereof whose duties are essentially ministerial or clerical.” This was the FCPA’s original (albeit indirect) facilitating payment or grease exception. The relevant House Report states in pertinent part as follows: “… a gratuity paid to a customs official to speed the processing of a customs document would not be reached by this bill. Nor would it reach payments made to secure permits, licenses, or the expeditious performance of similar duties of an essentially ministerial or clerical nature which must be performed in any event.”

When Congress amended the FCPA in 1988 it, among other things, amended the definition of foreign official by removing this indirect facilitating payment exception from the “foreign official” definition by creating a stand-alone facilitating payment exception currently found in the statute. The relevant House Report indicates that Congress did not seek to disturb Congress’s original intent. “The policy adopted by Congress in 1977 remains valid, in terms of both U.S. law enforcement and foreign relations considerations. Any prohibition under U.S. law against this type of petty corruption would be exceedingly difficult to enforce, not only by U.S. prosecutors but by company officials themselves. Thus while such payments should not be condoned, they may appropriately be excluded from the reach of the FCPA. U.S. enforcement resources should be devoted to activities have much greater impact on foreign policy.”

Even if a payment does not meet the FCPA’s facilitation payments exception, in order for there to be a violation of the FCPA’s anti-bribery provisions, all statutory elements must be met including the “obtain or retain business” element.

To my knowledge, the enforcement theory that payments outside the context of foreign government procurement fall under the FCPA’s anti-bribery provisions has been subjected to judicial scrutiny three times. These three judicial decisions are summarized below.

Kay Trial Court

In 2001, David Kay and Douglas Murphy (“Defendants”), the president and vice president of Houston-based American Rice, Inc. (“ARI”), were criminally indicted. The indictment charged FCPA anti-bribery violations and alleged that the defendants made improper payments to Haitian “foreign officials” for the purpose of reducing customs duties and sales taxes owed by ARI to the Haitian government. The indictment, while specific as to other items, merely tracked the FCPA’s “obtain or retain business” language and did not specifically allege how the alleged payments assisted ARI in obtaining or retaining business in Haiti or what business was obtained or retained. As stated by the court: “In other words, the indictment recite[d] no facts that could demonstrate an actual or intended cause-and-effect nexus between reduced taxes and obtaining identified business or retaining identified business opportunities.”

In a case of first impression in the federal courts, the court granted Defendants’ motion to dismiss the indictment and held, as a matter of law based on the FCPA’s legislative history, that the alleged payments were not payments made to “obtain or retain business” and thus did not fall within the scope of the FCPA’s anti-bribery provisions. See 200 F.Supp.2d 681 (S.D. Tex. 2002).

Mattson / Harris

A few months after the trial court decision in Kay, the Southern District of Texas again considered whether payments made outside the context of foreign government procurement fall under the FCPA’s anti-bribery provisions. As noted in this previous post, the Mattson and Harris enforcement action (a civil enforcement action brought by the SEC) involved alleged goodwill payments to an Indonesian tax official for a reduction in a tax assessment. The SEC claimed that the FCPA’s unambiguous language plainly encompassed the goodwill payment and the issue before the court was whether the plain language of the FCPA prohibited goodwill payments for the purpose of reducing a tax assessment. The court noted that U.S. v. Kay had already dismissed that case finding that the plain language of the FCPA does not prohibit goodwill payments to foreign government officials to reduce a tax obligation. However, the SEC attempted to distinguish the trial court’s Kay ruling by arguing that in the civil enforcement context, the Court should interpret the FCPA’s language more liberally than in criminal cases. The court rejected the SEC’s arguments and followed the trial court’s analysis in Kay that the payments at issue to the Indonesian tax official did not violate the FCPA because it did not help Mattson’s and Harris’s employer (Baker Hughes) “obtain or retain business.” See this Memorandum and Order (Sept. 9, 2002). As noted in this release, the SEC dropped its appeal in July 2004.

Of interest is that Mattson’s lawyers, Martin Weinstein and Robert Meyer of Willkie Farr & Gallagher, were the lawyers identified in the New York Times articles who advised Wal-Mart in 2005 on an investigative work plan that was apparently rejected by Wal-Mart.

Kay Fifth Circuit Ruling

The DOJ appealed the 2002 decision of the Southern District of Texas dismissing the indictment and one issue on appeal was whether payments to “foreign officials” to obtain favorable tax and customs treatment can come within the scope of the FCPA’s anti-bribery provisions.

The Fifth Circuit, like the trial court, concluded that the FCPA’s “obtain or retain business” element was ambiguous and it thus analyzed the FCPA’s legislative history. See 359 F.3d 738 (5th Cir. 2004). The Fifth Circuit focused specifically on the U.S. Senate’s 1977 sponsored bill and the SEC report on which the Senate’s proposal was based. According to the court, the SEC report “exhibited concern about a wide range of questionable payments [including those at issue in Kay] that were resulting in millions of dollars being recorded falsely in corporate books and records.” Although the Fifth Circuit recognized that the Senate’s proposal did not expressly cover payments that seek to influence the administration of tax laws or seek a favorable tax treatment, the Senate, in the words of the court, “was mindful of bribes that influence legislative or regulatory actions, and those that maintain established business opportunities.”

In short, the Fifth Circuit was convinced that Congress intended to prohibit a range of payments wider than those that only directly influence the acquisition or retention of government contracts or similar arrangements. The Fifth Circuit held that making payments to a “foreign official” to lower taxes and custom duties in a foreign country can provide an unfair advantage to the payer over competitors and thereby assist the payer in obtaining and retaining business. The court concluded that there was “little difference” between these type of payments and traditional FCPA violations in which a company makes payments to a “foreign official” to influence or induce the official to award a government contract.

However, the Kay court empathically stated that not all such payments to a “foreign official” outside the context of directly securing a foreign government contract violate the FCPA; it merely held that such payments “could” violate the FCPA. According to the court, the key question of whether Defendants’ alleged payments constituted an FCPA violation depended on whether the payments were intended to lower ARI’s costs of doing business in Haiti enough to assist ARI in obtaining or retaining business in Haiti. The court then listed several hypothetical examples of how a reduction in custom and tax liabilities could assist a company in obtaining or retaining business in a foreign country. On the other hand, the court also recognized that “there are bound to be circumstances” in which a custom or tax reduction merely increases the profitability of an existing profitable company and thus, presumably, does not assist the payer in obtaining or retaining business.

The court specifically stated: “[I]f the government is correct that anytime operating costs are reduced the beneficiary of such advantage is assisted in getting or keeping business, the FCPA’s language that expresses the necessary element of assisting in obtaining or retaining business would be unnecessary, and thus surplusage – a conclusion that we are forbidden to reach.”

In short, the enforcement theory that payments outside the context of foreign government procurement satisfy the FCPA’s “obtain or retain business” has been subjected to judicial scrutiny three times.

The scorecard: US – 1; Defendants – 2; or if you prefer US – .5; Defendants – 2.5 (recognizing that the 5th Circuit decision is equivocal).

Contrary to popular misperception, Kay thus does not hold that all payments to a “foreign official” outside the context of foreign government procurement fall within the FCPA’s scope. Rather, the decision merely holds that Congress intended for the FCPA to apply broadly to payments intended to assist the payer, directly or indirectly, in obtaining or retaining business and that payments to a “foreign official” outside the context of foreign government procurement can, under appropriate circumstances, fall within the statute. Given the facts and circumstances the Kay court found relevant, it is highly fact-dependant analysis whether a payment to a “foreign official” satisfies the “obtain or retain business” element outside of the context of foreign government procurement.

A key portion from the Kay ruling likely relevant in Wal-Mart is the following: “there are bound to be circumstances” in which payments outside the context of foreign government procurement merely increase the profitability of an existing profitable company and thus, presumably, does not assist the payer in obtaining or retaining business.

Despite the equivocal nature of the Kay holding, (and the enforcement agencies overall losing record on the issue) the decision clearly energized the enforcement agencies and post-Kay there has been a significant increase in FCPA enforcement actions where the alleged improper payments involve customs duties and tax payments or are otherwise alleged to have assisted the payer in securing foreign government licenses, permits, and certifications which assisted the payer in generally doing business in a foreign country. For a listing of many such cases, see my scholarship, “The Facade of FCPA Enforcement” – here. None of the enforcement actions profiled therein were challenged or subjected to judicial scrutiny.

It thus remains an open question whether payments outside the context of foreign government procurement, in any particular case if subjected to judicial scrutiny, (i) would satisfy the FCPA’s “obtain or retain business” element; or (ii) are too attenuated to obtaining or retaining business (such as merely increasing the profitability of an existing profitable business) and thus, per the Kay holding, not a violation of this key FCPA anti-bribery element.

Does It Even Matter?

A logical and practical question then becomes, does it even matter? As in most FCPA enforcement actions, the answer in any future Wal-Mart FCPA enforcement action is likely no. At the end of the day it will not matter if Wal-Mart’s payments, if subjected to judicial scrutiny, would result in FCPA violations.

The short reason is that while Wal-Mart’s counsel can make valid and legitimate legal and factual arguments around conference room tables behind closed doors in Washington D.C., to truly challenge the DOJ in an instance of FCPA scrutiny, and to put the DOJ to its high burden of proof at trial, first requires that the company be criminally indicted, something few corporate leaders are willing to let happen. It is simply easier, more cost-efficient, and more certain to resolve FCPA scrutiny notwithstanding aggressive (and dubious) enforcement theories or the existence of valid and legitimate defenses. Also relevant to this issue is the existence of the “carrots” and “sticks” relevant to resolving FCPA enforcement actions. To learn more about these “carrots” and “sticks” please read my article ”The Facade of FCPA Enforcement” – here.

To my knowledge, in the FCPA’s 35 year history, only two corporate defendants have put the DOJ to its high burden of proof in trial. Wal-Mart will not become the third. Even so, it is instructive to learn about the two instances in which corporate defendants have put the DOJ to its high burden of proof at trial.

The DOJ’s ultimate record? 0-2.

As noted in this prior post, in 1990, Harris Corporation (“Harris” – a publicly traded telecom provider), along with certain of its executives, were charged in a criminal indictment concerning conduct in Colombia. In 1991, the court, after hearing the prosecution’s case, granted a defense motion for a verdict of acquittal. The San Francisco Chronicle stated as follows. “Shortly after the government rested its case, U.S. District Judge Charles Legge of San Francisco ruled from the bench that ‘no reasonable jury’ could convict the company nor its executives on any of the five bribery-related counts for which they were indicted. Citing insufficient evidence, Legge said the government had failed to show any intent by the defendants to enter into a criminal conspiracy. Legge also said it was the first time in his six years on the federal bench that he had dismissed a criminal case at mid-trial for lack of evidence.”

As noted in this prior post, in December 2011 (after the DOJ had secured trial court jury verdicts convicting privately held Lindsey Manufacturing Company and its CEO and CFO of FCPA offenses), Judge Howard Matz (C.D. Cal). vacated the convictions and dismissed the indictment based on numerous prosecutorial misconduct issues that together added “up to an unusual and extreme picture of a prosecution gone badly awry.” In addition to prosecutorial misconduct, Judge Matz noted the “weakness of the Government’s case” and that the “case against the Lindsey Defendants was far from compelling.”

Wal-Mart’s FCPA Scrutiny Grows

Saturday, April 21st, 2012

In December 2011, Wal-Mart made the following generic disclosure in a 10-K filing.

“During fiscal 2012, the Company began conducting a voluntary internal review of its policies, procedures and internal controls pertaining to its global anti-corruption compliance program. As a result of information obtained during that review and from other sources, the Company has begun an internal investigation into whether certain matters, including permitting, licensing and inspections, were in compliance with the U.S. Foreign Corrupt Practices Act. The Company has engaged outside counsel and other advisors to assist in the review of these matters and has implemented, and is continuing to implement, appropriate remedial measures. The Company has voluntarily disclosed its internal investigation to the U.S. Department of Justice and the Securities and Exchange Commission. We cannot reasonably estimate the potential liability, if any, related to these matters. However, based on the facts currently known, we do not believe that these matters will have a material adverse effect on our business, financial condition, results of operations or cash flows.”

Today, the New York Times ran a major story (here) titled “Vast Mexico Bribery Case Hushed Up by Wal-Mart After Top-Level Struggle” that relates to Wal-Mart’s prior disclosure. Was Wal-Mart’s disclosure to the DOJ, as stated in its December 10-K filing “voluntary”? According to the Times article, “in December, after learning of The Times’s reporting in Mexico, Wal-Mart informed the Justice Department that it had begun an internal investigation into possible violations of the Foreign Corrupt Practices Act.” (emphasis added).

The conduct at issue in the Times article relates to Wal-Mart’s largest foreign subsidiary, Wal-Mart de Mexico (“Wal-Mart Mexico), and suggests that Wal-Mart Mexico “orchestrated a campaign of bribery to win market dominance” and that the entity “paid bribes to obtain permits in virtually every corner” of Mexico.

According to the article, in 2005, “Wal-Mart dispatched investigators to Mexico City, and within days they unearthed evidence of widespread bribery. They found a paper trail of hundreds of suspect payments totaling more than $24 million. They also found documents showing that Wal-Mart de Mexico’s top executives not only knew about the payments, but had taken steps to conceal them from Wal-Mart’s headquarters in Bentonville, Ark.” According to the Times, Wal-Mart’s lead investigator, a former FBI agent, “recommended that Wal-Mart expand the investigation” but its own examination found that ”Wal-Mart’s leaders shut it down.” The article states that “in one meeting where the bribery case was discussed, H. Lee Scott Jr., then Wal-Mart’s chief executive, rebuked internal investigators for being overly aggressive.”

The Times examination included more than 15 hours of interviews with Sergio Cicero Zapata a former executive who resigned from Wal-Mart Mexico in 2004 after nearly a decade in the company’s real estate department. The article states as follows. “In the interviews, Mr. Cicero recounted how he had helped organize years of payoffs. He described personally dispatching two trusted outside lawyers to deliver envelopes of cash to government officials. They targeted mayors and city council members, obscure urban planners, low-level bureaucrats who issued permits — anyone with the power to thwart Wal-Mart’s growth. The bribes, he said, bought zoning approvals, reductions in environmental impact fees and the allegiance of neighborhood leaders.”

Elsewhere, the Times article states as follows. “The idea, [Cicero] said, was to build hundreds of new stores so fast that competitors would not have time to react. Bribes, he explained, accelerated growth. They got zoning maps changed. They made environmental objections vanish. Permits that typically took months to process magically materialized in days. ‘What we were buying was time,’ he said. ” The article states that Cicero’s “allegations were all the more startling because he implicated himself” and ”helped funnel bribes through trusted fixers, known as ‘gestores.’”

The times article contains several internal documents including Willkie Farr & Gallagher’s 2005 ”investigative work plan” that called for tracing all payments to anyone who helped Wal-Mart Mexico obtain permits for the previous five years. The Times article states as follows. “In short, Willkie Farr recommended the kind of independent, spare-no-expense investigation major corporations routinely undertake when confronted with allegations of serious wrongdoing by top executives. Wal-Mart’s leaders rejected this approach. Instead, records show, they decided Wal-Mart’s lawyers would supervise a far more limited ‘preliminary inquiry’ by in-house investigators.”

According to the Times article, in 2006, Wal-Mart again considered a full investigation of the conduct in Mexico, but that in the end, the company largely delegated responsibility for the investigation to Wal-Mart Mexico. The Times article quotes a person with knowledge of the thinking of Wal-Mart executives as follows. “It’s a Mexican issue; it’s better to let it be a Mexican response.”

The Times article contains a detailed statement by Wal-Mart. Among other things, the Wal-Mart statement notes that “many of the alleged activities in the New York Times article are more than six years old” and that “in a large global enterprise such as Walmart, sometimes issues arise despite our best efforts and intentions.” The statement continues as follows. ”When they do, we take them seriously and act quickly to understand what happened. We take action and work to implement changes so the issue doesn’t happen again. That’s what we’re doing today.”

See here for Wal-Mart’s video response to the New York Times article.

*****

The New York Times article paints a troubling picture for Wal-Mart that will likely occupy the company for years to come. In addition to the Mexico conduct, the DOJ and SEC will surely be interested in the response (or lack thereof) by company executives in Arkansas as well as the results of Wal-Mart’s worldwide review of its operations.

The DOJ and SEC frequently bring FCPA enforcement actions premised on payments to obtain foreign licenses, permits and the like. For instance see here (and embedded posts therein) for the numerous Panalpina related enforcement actions in 2010. See here at pages 972-975 for a listing of such cases 2007-2009.

This despite the following relevant history.

The FCPA’s original definition of “foreign official” was as follows. “… any officer or employee of a foreign government or any department, agency, or instrumentality thereof, or any person acting in an official capacity for or on behalf of such government or department, agency or instrumentality. Such terms do not include any employee of a foreign government or any department, agency, or instrumentality thereof whose duties are essentially ministerial or clerical.”

This last sentence was the FCPA’s original (albeit indirect) facilitating payment or grease exception. The relevant House Report states in pertinent part as follows: “… a gratuity paid to a customs official to speed the processing of a customs document would not be reached by this bill. Nor would it reach payments made to secure permits, licenses, or the expeditious performance of similar duties of an essentially ministerial or clerical nature which must be performed in any event.”

The relevant House Report indicates that Congress did not seek to disturb Congress’s original intent. “The policy adopted by Congress in 1977 remains valid, in terms of both U.S. law enforcement and foreign relations considerations. Any prohibition under U.S. law against this type of petty corruption would be exceedingly difficult to enforce, not only by U.S. prosecutors but by company officials themselves. Thus while such payments should not be condoned, they may appropriately be excluded from the reach of the FCPA. U.S. enforcement resources should be devoted to activities have much greater impact on foreign policy.”

Also relevant is the holding of U.S. v. Kay, the only appellate court decision to directly address payments outside the context of directly securing a foreign government contract. In Kay, the 5th Circuit said that such payments “could” violate the FCPA, but that “there are bound to be circumstances” in which such payments merely increase the profitability of an existing profitable company and thus, presumably does not assist the payer in obtaining or retaining business. The court specifically stated as follows. “If the government is correct that anytime operating costs are reduced the beneficiary of such advantage is assisted in getting or keeping business, the FCPA’s language that expresses the necessary element of assisting in obtaining or retaining business would be unnecessary, and thus surplusage – a conclusion that we are forbidden to reach.”

Wall Street Journal Goes On Offense

Tuesday, July 19th, 2011

It is not everyday FCPA details are dissected on the editorial page of a major newspaper. But then again, it is not everyday that the parent company of a major newspaper is embroiled in a major scandal that has an FCPA element to it.

Yesterday, in a lengthy and wide-ranging editorial (here), the Wall Street Journal had this to say about the FCPA implications of the News Corp. scandal.

“The political mob has been quick to call for a criminal probe into whether News Corp. executives violated the U.S. Foreign Corrupt Practices Act with payments to British security or government officials in return for information used in news stories. Attorney General Eric Holder quickly obliged last week, without so much as a fare-thee-well to the First Amendment.”

“The foreign-bribery law has historically been enforced against companies attempting to obtain or retain government business. But U.S. officials have been attempting to extend their enforcement to include any payments that have nothing to do with foreign government procurement. This includes a case against a company that paid Haitian customs officials to let its goods pass through its notoriously inefficient docks, and the drug company Schering-Plough for contributions to a charitable foundation in Poland.”

“Applying this standard to British tabloids could turn payments made as part of traditional news-gathering into criminal acts. The Wall Street Journal doesn’t pay sources for information, but the practice is common elsewhere in the press, including in the U.S.”

With the WSJ now suggesting that payments to police officers are “part of traditional news-gathering” – at least in certain countries – and it suggesting that paying sources for information is “common,” it may be possible that the next FCPA industry sweep will be of the media industry. Previous industry sweeps have included the oil and gas industry, a current sweep of the pharmaceutical / medical device industry that has been active for some time, and a recently initiated sweep of the financial services industry.

The remainder of this post details the two FCPA enforcement actions referenced in the WSJ’s editorial.

For starters, the WSJ is correct when its stated as follows. “The foreign-bribery law has historically been enforced against companies attempting to obtain or retain government business. But U.S. officials have been attempting to extend their enforcement to include any payments that have nothing to do with foreign government procurement.”

During the FCPA’s first 20 years, every FCPA enforcement action concerned allegations that payments to a “foreign official” assisted the payor in “obtaining or retaining business” with a foreign government or alleged foreign government “department, agency, or instrumentality.”

FCPA enforcement then changed – most notably with the U.S. v. Kay prosecution.

U.S. v. Kay

In 2001, David Kay and Douglas Murphy (the “Defendants”), the president and vice president of Houston-based American Rice, Inc. (“ARI”), were criminally indicted. The indictment charged FCPA anti-bribery violations and alleged that the defendants made improper payments to Haitian “foreign officials” for the purpose of reducing customs duties and sales taxes owed by ARI to the Haitian government.

The indictment, while specific as to other items, merely tracked the FCPA’s “obtain or retain business” language and did not specifically allege how the alleged payments assisted ARI in obtaining or retaining business in Haiti or what business was obtained or retained. “In other words, the indictment recite[d] no facts that could demonstrate an actual or intended cause-and-effect nexus between reduced taxes and obtaining identified business or retaining identified business opportunities.”

The trial court granted Defendants’ motion to dismiss the indictment and held, as a matter of law based on the FCPA’s legislative history, that the alleged payments were not payments made to “obtain or retain business” and thus did not fall within the scope of the FCPA’s anti-bribery provisions. The DOJ appealed the decision and one issue on appeal was whether payments to “foreign officials” to obtain favorable tax and customs treatment can come within the scope of the FCPA’s anti-bribery provisions.

The Fifth Circuit, like the trial court, concluded that the FCPA’s “obtain or retain business” element was ambiguous and it thus analyzed the FCPA’s legislative history. The Fifth Circuit focused specifically on the U.S. Senate’s 1977 sponsored bill and the SEC report on which the Senate’s proposal was based. According to the court, the SEC report “exhibited concern about a wide range of questionable payments [including those at issue in Kay] that were resulting in millions of dollars being recorded falsely in corporate books and records.” Although the Fifth Circuit recognized that the Senate’s proposal did not expressly cover payments that seek to influence the administration of tax laws or seek a favorable tax treatment, the Senate, in the words of the court, “was mindful of bribes that influence legislative or regulatory actions, and those that maintain established business opportunities.” In short, the Fifth Circuit was convinced that Congress intended to prohibit a range of payments wider than those that only directly influence the acquisition or retention of government contracts or similar arrangements. The Fifth Circuit held that making payments to a “foreign official” to lower taxes and custom duties in a foreign country can provide an unfair advantage to the payer over competitors and thereby assist the payer in obtaining and retaining business. The court concluded that there was “little difference” between these type of payments and traditional FCPA violations in which a company makes payments to a “foreign official” to influence or induce the official to award a government contract.

However, the Kay court emphatically stated that not all such payments to a “foreign official” outside the context of directly securing a foreign government contract violate the FCPA; it merely held that such payments “could” violate the FCPA. According to the court, the key question of whether Defendants’ alleged payments constituted an FCPA violation depended on whether the payments were intended to lower ARI’s costs of doing business in Haiti enough to assist ARI in obtaining or retaining business in Haiti. The court then listed several hypothetical examples of how a reduction in custom and tax liabilities could assist a company in obtaining or retaining business in a foreign country. On the other hand, the court also recognized that “there are bound to be circumstances” in which a custom or tax reduction merely increases the profitability of an existing profitable company and thus, presumably, does not assist the payer in obtaining or retaining business.

The court specifically stated:

“[I]f the government is correct that anytime operating costs are reduced the beneficiary of such advantage is assisted in getting or keeping business, the FCPA’s language that expresses the necessary element of assisting in obtaining or retaining business would be unnecessary, and thus surplusage – a conclusion that we are forbidden to reach.”

Despite the equivocal nature of the Kay holding, the decision clearly energized the enforcement agencies and post-Kay there has been an explosion in FCPA enforcement actions where the alleged improper payments have nothing to do with obtaining or retaining foreign government business. Many of these enforcement actions are profiled in my article “The Façade of FCPA Enforcement” (here at pages 971-976). None of these enforcement actions were challenged or subjected to meaningful judicial scrutiny and the Kay decision remains the only caselaw on the FCPA’s key “obtain or retain business” element.

For original source documents related to the Kay enforcement action see here.

Schering-Plough

The other FCPA enforcement action referenced by the WSJ is the 2004 enforcement action against Schering-Plough. Notably this was only an SEC civil enforcement action and only charged FCPA books and records and internal control violations.

The SEC civil complaint (here) alleged that Schering-Plough violated the FCPA when its wholly-owned Polish subsidiary (“S-P Poland”) improperly recorded a bona fide charitable donation to a Polish foundation where the founder/president of the foundation was also the director of a government health fund (the “Director”) that provided money to hospitals throughout Poland for the purchase of pharmaceutical products. According to the SEC, “during thc period in which the payments were being made to the foundation, S-P Poland’s sales two of its oncology products, increased disproportionately compared with sales of those products in other regions of Poland.” As is typical in SEC FCPA enforcement actions, there was no meaningful judicial scrutiny of this action and the company settled the charges without admitting or denying the SEC’s allegations.

News Corp And The FCPA

Monday, July 18th, 2011

On July 7th the U.K. Guardian reported (here) that “up to five [U.K. police] officers were paid between them a total of at least £100,000 in cash from the News of the World.” The next day, Dominic Rushe and Jill Treanor of the U.K. Guardian made the link (see here) between these payments and the Foreign Corrupt Practices Act.

What followed over the next 10 days was the most intense worldwide media coverage of the FCPA in its nearly 35 year history.

Last Wednesday, in a development seldom – if ever – seen in the FCPA context, Senator Barbara Boxer (D-CA) and John Rockefeller (D-WV) wrote Attorney General Eric Holder and SEC Chairman Mary Schapiro (see here) requesting “that the U.S. Department of Justice and the Securities and Exchange Commission investigate whether News Corporation, a U.S.-based corporation, has violated United States law – specifically the Foreign Corrupt Practices Act of 1977.” Separately, Senator Frank Lautenberg (D-NJ) wrote Holder and Schapiro (see here). Senator Lautenberg stated as follows. “The limited information already reported in this case raises serious questions about the legality of the conduct of News Corporation and its subsidiaries under the FCPA. Further investigation may reveal that current reports only scratch the surface of the problem at News Corporation. Accordingly, I am requesting that DOJ and the SEC examine these circumstances and determine whether U.S. laws have been violated.”

Public interest groups (see here for one example) also began demanding an FCPA inquiry into the News of the World scandal.

Soon thereafter, it was reported that the FBI (an agency that investigates allegations of criminal violations of the FCPA under the supervision of the Fraud Section of the DOJ Criminal Division) opened an investigation of News Corp. Among others, Congressmen John Conyers “applaud[ed] Attorney General Eric Holder’s announcement that the Justice Department has opened a formal investigation into allegations that News Corp. may have violated both federal wiretapping statutes and the Foreign Corrupt Practices Act.” (See here).

The News Corp. scandal is wide in scope potentially implicating several laws both here in the U.S. and the U.K. This post focuses on News Corp.’s potential FCPA exposure.

Can the FCPA apply to News Corp. even if the improper conduct took place outside of the U.S.?

Yes. News Corp. is a U.S. company and as such the FCPA has extraterritorial application meaning it can face FCPA liability even if the conduct at issue takes places entirely outside of the U.S. Indeed, in most FCPA enforcement actions the conduct at issue takes place outside of the U.S. Further, it is very common in FCPA enforcement actions for parent companies to be held legally responsible for the acts of subsidiary employees on the theory that such employees acted as “agents” of the parent company and that the parent company ultimately derived the financial benefit from the improper conduct at issue.

Indeed, even News Corp.’s FCPA policies and procedures (here) states as follows. “The Foreign Corrupt Practices Act (FCPA) is a U.S. law that forbids bribery of foreign (meaning non-U.S.) government officials, whether elected or appointed, even if the bribe takes place outside the United States. Because News Corporation is a U.S. corporation, the FCPA may apply to all Company employees everywhere in the world, regardless of their nationality or where they reside or do business.”

Why do the London police payments implicate the FCPA’s anti-bribery provisions?

As a general matter, the FCPA’s anti-bribery provisions prohibit the payment of money or anything of value to a “foreign official” to “obtain or retain business.” London police officers are “foreign officials” under the FCPA. For instance, in this 2006 FCPA enforcement action the DOJ asserted that an Iraqi police officer was a “foreign official” under the FCPA.

As to “obtain or retain business,” for most of its history FCPA enforcement actions focused on payments to “foreign officials” to “obtain or retain business” with a foreign government. However, during the past decade, the DOJ has brought numerous FCPA enforcement actions premised on payments to customs officials, tax officials, immigration officials and the like where the payments have nothing to do with “obtaining or retaining business” with a foreign government. Rather, the payments were alleged to have assisted the payor in “obtaining or retaining” business in the general sense.

The leading court decision on this issue is U.S. v. Kay. 359 F.3d 738, 740 (5th Cir. 2004). As further explained in this piece (pages 917-921), in Kay, a U.S. circuit court (one step below the U.S. Supreme Court) concluded that payments to a “foreign official” to lower taxes and custom duties in a foreign country can provide an unfair advantage to the payer over competitors and thereby assist the payer in obtaining and retaining business. The court concluded that there was “little difference” between these type of payments and traditional FCPA violations in which a company makes payments to a “foreign official” to influence or induce the official to award a government contract. Even so, the court stated that not all such payments to a “foreign official” outside the context of directly securing a foreign government contract violate the FCPA; it merely held that such payments “could” violate the FCPA. The court recognized that “there are bound to be circumstances” in which a custom or tax reduction merely increases the profitability of an existing profitable company and thus, presumably, does not assist the payer in obtaining or retaining business.

Despite Kay’s equivocal holding, there has been a significant increase in FCPA enforcement actions since the decision concerning payments to “foreign officials” that better position the payor to “obtain or retain business” in the general sense. (See for instance the “CustomsGate” category under the Search page of this site).

Thus, payments to London police officers that allowed News of the World to obtain non-public information to write sensational news stories – and thus sell more newspapers – would seem to fit the type of FCPA enforcement common post-Kay. Given that News Corp. is a media company and its product is information, such payments are similar to an oil and gas company making payments to a “foreign official” to obtain non-public information concerning the location of oil and gas deposits.

What about the FCPA’s books and records and internal control provisions?

In addition to its anti-bribery provisions, the FCPA also contains books and records and internal control provisions applicable to U.S. listed companies such as News Corp. The books and records provision requires that “issuers” (the statutory term for U.S. listed companies) “make and keep books, records, and accounts, which, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the issuer.” The internal controls provision require that “issuers” “devise and maintain a system of internal accounting controls sufficient to provide reasonable assurances that:” among other things, “transactions are executed in accordance with management’s general or specific authorization;” “access to assets is permitted only in accordance with management’s general or specific authorization;” and “transactions are recorded as necessary to permit a preparation of financial statements in conformity with generally accepted accounting principles … and to maintain accountability for assets.”

These provisions, despite being part of the FCPA, are generic in scope. Thus, if other payments part of News Corp.’s wide-ranging scandal – such as “hush” settlement payments to phone hacking victims are misrecorded on the company’s books and records, such entries would provide the basis for independent FCPA books and records violations – even if such conduct does not directly implicate the FCPA’s anti-bribery provisions. As to the London police payments, such payments, if not recorded accurately on the company’s books and records, would of course also give rise to an independent FCPA books and records violation. Both the DOJ and the SEC (which also has FCPA jurisdiction over U.S. listed companies) frequently hold parent companies liable for the books and records violations of subsidiaries on the theory that subsidiary books and records are consolidated with the parent company’s books and records for purposes of financial reporting.

As to the FCPA’s internal control provisions, the enforcement agencies often take the rather simplistic position that because the payments were made or because corporate expenses were not accurately recorded, the company did not have effective internal controls.

If News Corp. faces FCPA liability does that mean that executive officers will as well?

Not necessarily. Under U.S. legal principles, a corporate entity such as News Corp. can face legal liability based on the conduct of any employee or agent to the extent the employee or agent was acting within the scope of their authority and the conduct was intended to benefit, at least in part, the organization. Many FCPA enforcement actions against corporate entities result from the improper conduct of low to mid-ranking employees in the absence of any allegation that executive officers or board members knew about the conduct at issue or participated in the conduct at issue. Thus, just because News Corp. may face FCPA liability under these principles does not necessarily mean that executive officers will as well.

As to individuals (whether high-ranking executives or otherwise) there needs to be some evidence of culpable conduct – which in the FCPA criminal context – often means participating in the improper conduct, authorizing the improper conduct, or knowing of the improper conduct but failing to put a stop to it.

Will U.S. authorities defer to British authorities in investigating the London police payments?

Some have suggested that U.S. authorities are unlikely to bring an enforcement action because the U.K. has strong anti-corruption laws and is capable of handling this matter domestically. I disagree. The U.K. Bribery Act went live on July 1st, but it only covers conduct that occurs after that date. Prior to the Bribery Act, the U.K. had a hodgepodge of antiquated bribery and corruption statutes. However, the problem with those statutes is they required a “controlling mind” of the corporate to be involved in the conduct at issue in order to prosecute the entity. The weakness of these pre-Bribery Act laws was clearly evident in the U.K. BAE enforcement action from 2010. As the Serious Fraud Office stated in court papers “a serious evidential difficulty had been identified in respect of potential corruption charges, namely the difficulty of proving the involvement of a ‘controlling mind’ in the offending.” Thus, if there is no evidence of “controlling minds” being involved in the London police payments, pre-Bribery Act laws will be insufficient to bring bribery charges as occurred in the BAE matter. This evidentiary difficulty is one of the reasons the U.K. passed the Bribery Act.

U.S. enforcement agencies have a good relationship with their U.K. counterparts and cooperation between the agencies is likely to occur, but there is little reason to believe that the U.S. will stand down and not bring an enforcement action if that is what the evidence warrants. In fact, there have been several FCPA enforcement actions concerning U.K. business entities, based on conduct occurring in the U.K.,and/or involving U.K. citizens. See here for the 2010 FCPA enforcement action relating to Innospec, here for the FCPA enforcement action concerning employees of Pacific Consolidated Industries and here for the FCPA enforcement action against U.K. citizen Jeffrey Tesler.

What is likely to happen next?

There are multiple reasons why News Corp. will cooperate, if it is not already, in the DOJ’s FCPA investigation. The DOJ has substantial discretion (some would argue too much) in resolving corporate criminal matters. Under the DOJ’s Principles of Prosecution of Business Organizations (see here), one of the factors DOJ will consider in deciding how to resolve any potential action is the company’s cooperation. Cooperation in the FCPA context often means conducting an internal, independent review of the conduct at issue and sharing the results, witness statements, key documents, etc. with the enforcement agencies on a near real-time basis. Cooperation is also a mitigating factor under the advisory U.S. Sentencing Guidelines which provide a monetary penalty range for all FCPA criminal actions.

How long is this FCPA gray cloud likely to hang over News Corp?

Likely for a few years. It is typical for an FCPA enforcement inquiry to begin based on a certain set of limited and discrete facts – here the London police payments. However, before the enforcement agencies (DOJ or SEC) will agree to resolve an FCPA matter, it is typical for the agencies to ask the “where else” question. In other words, the question will be – if News Corp. employees (broadly speaking) made the London police payments, did other News Corp. employees around the world make similar payments to “foreign officials” to “obtain or retain business.” To answer this question, and because News Corp. is likely in cooperation mode and because the company has an incentive to learn this information itself, News Corp. will likely conduct a targeted world-wide review of its operations. Such a review takes time and often costs tens of millions of dollars in professional fees and expenses. Because of these dynamics, it is typical for FCPA scrutiny – from the point of investigation to the point of enforcement action – to last between 2-4 years.

Troubling Trends and Problematic Patterns

Monday, January 31st, 2011

That is the alternate title I’ve given to Shearman & Sterling’s “Recent Trends and Patterns in FCPA Enforcement” (here).

The periodic publication is always in my “must-read” category. The author group is first-rate and includes noted FCPA practitioners Philip Urofsky (former Assistant Chief of the DOJ Fraud Section responsible for FCPA enforcement) and Danforth Newcomb (a dean of the FCPA bar).

The Shearman & Sterling piece raises particularly pointed questions as to the Panalpina-related enforcement actions and the seemingly vanishing “obtain or retain business” element of an FCPA anti-bribery violation.

I have covered these issues extensively as well – see here for several posts on the Panalpina-related enforcement actions and here (pg. 971 “Just How Was that Business Obtained or Retained”) as to questions about the enforcement agencies’ “obtain or retain business” allegations or interpretations.

The Shearman & Sterling piece states that “some of the government’s cases appear to blur the lines or muddy the waters when it comes to the limits of the statute.” The authors state as follows:

“In several cases, such as Pride International, Panalpina, and Royal Dutch Shell, the theories used to hold parents accountable for the acts of subsidiaries and vice versa appear to be unclear. In others, such as Pride International and Tidewater, the connection of the alleged conduct to “obtaining or retaining business,” a critical element of the statute was not pleaded or, worse, was pled in a way that suggests that virtually any bribe that improves a company’s profitability is sufficient – a result that is not consistent with established precedent and the language of the statute.”

Under the heading “Enforcement Strategies” the authors state:

“As in years past, the enforcement actions brought in 2010 provide insight, albeit sometimes clouded, into the DOJ’s and the SEC’s views of the scope and meaning of certain aspects of the statute, as well as their enforcement priorities and strategies. In doing so they are at times helpful and at other times opaque or, even worse, disturbing. As always, however, it is important to remember that although these agreements may have been hotly negotiated, in the end each of the companies and individuals settled. Thus, none of the government’s interpretations, or its view of how the law applied to the facts, has been subjected to a searching judicial examination in the context of a contested adversary proceeding.”

Under the heading “The Business Nexus” the author state:

“The Panalpina cases and certain allegations in other cases are likely to reopen the debate as to the meaning of the “obtain or retain business” element. This element is recognized as a critical factor in narrowing the scope of the FCPA. How much it does so, however, has long been a matter of debate. In its 2004 decision in U.S. v. Kay, the Fifth Circuit appeared to have ended the debate, holding that the FCPA was not limited to bribes to obtain business from a foreign government or even to bribes that led “directly to the award or renewal of contracts.” Analyzing the indictment in that case, the court held that “bribes paid to foreign officials in consideration for unlawful evasion of customs duties and sales taxes could fall within the purview of the FCPA’s proscription.” (emphasis in original). The court warned, however, that the scope of the statute was not limitless, stating, “We hasten to add, however, that this conduct does not automatically constitute a violation of the FCPA: It still must be shown that the bribery was intended to produce an effect – here, through tax savings – that would ‘assist in obtaining or retaining business.’”

Although some of the bribes in the Panalpina cases were made to obtain contracts and other specific business advantages, most of the payments were made to customs or tax officials to reduce duties and taxes, to expedite customs clearances, or to evade import regulations. In the latter cases, the government made very little effort to link such payments to obtaining or retaining business. For example, in Pride International, the DOJ alleged a number of what it termed “bribery schemes,” including payments to a Mexican Customs Official “to avoid taxes and penalties for alleged violations of Mexican customs regulations relating to a vessel leased by Pride International.” Similarly, in GlobalSantaFe, the SEC alleged that through a number of “suspicious payments” the company “avoided costs and gained revenue.” Without more explanation, such barebones allegations create the impression that the government equates gaining revenue or reducing costs generally with “obtaining or retaining business.” That, however, is the very opposite of the holding in Kay [...].”

“Reading between the lines of the pleadings, we can, in many cases, construct some theory of how certain of the payments might have fallen within the Kay rule, e.g., some payments appear to have allowed the importers to bring in equipment and rigs without which they could not perform new or existing contracts. It is even possible that, similar to the facts in Kay, the importers could not have competed for existing or new business had they paid the full duties or taxes or complied with other local requirements. The pleadings, however, for the most part only hint at such an underlying rationale, leaving us to wonder exactly what does the government think the business nexus means today?”

When an author group including a former DOJ official responsible for enforcing the FCPA (in a more measured and disciplined era) uses words such as “disturbing” and phrases such as “not consistent with established precedent and the language of the statute” – well, I think we all should take notice.