August 19th, 2014

The Odd Dynamic Persists

What happens when Congress passes a law with various provisions that generically apply to any securities law violations without thinking through, on a micro level, the intersection of such provisions?

The answer is this recent Second Circuit decision in the Liu Meng-Lin v. Siemens.

This observation is the same as it was in 2012 concerning Khaled Asadi v. GE Energy (see here for the prior post) and as it was in 2013 concerning the trial court decision in the Liu case (see here for the prior post).

To repeat, an odd dynamic exists when a foreign national is unable to maintain a private cause of action under Dodd-Frank’s anti-retaliation provisions based on allegations that his foreign employer retaliated against him for internally reporting conduct that could implicate the Foreign Corrupt Practices Act, yet that same foreign national can be awarded a whistleblower bounty under Dodd-Frank should the SEC bring an enforcement action based on the information the foreign national provided to it.

In Liu, the Second Circuit held, consistent with the trial court, that the anti-retaliation provisions of Dodd-Frank do not apply extraterritorially because “a statute is presumed, in the absence of clear congressional intent, to apply only domestically.”

Thus, the Second Circuit dismissed Liu’s complaint because Liu alleged that he was a non-citizen (a citizen and resident of Taiwan), employed by a foreign company (a former compliance officer of Siemens China, a Chinese corporation that is a wholly owned subsidiary of Siemens, a German corporation with shares listed on the New York Stock Exchange), and that all the events allegedly giving rise to liability occurred outside the United States (Liu alleged that Siemens employees were indirectly making improper payments to officials in North Korea and China in connection with the sale of medical equipment in those countries).

Consistent with the odd dynamic referenced above, Liu argued that Dodd-Frank’s anti-retaliation provisions should have extraterritorial application because Dodd-Frank’s whistleblower bounty provisions seemingly do citing to SEC guidance and regulations for support.

As to Liu’s argument regarding the whistleblower bounty provisions, the Second Circuit initially observed in dicta that “it is far from clear that [the SEC's] assertion that a statute has extraterritorial effect, unmoored from any plausible statutory basis for rebutting the presumption against extraterritoriality, should be given deference.”

More to the point, the Second Court concluded as to the anti-retailiation provisions follows.

“[E]ven if we assume that the [SEC regulations] clearly apply the bounty program to whistleblowers located abroad and that some deference would be due such an agency interpretation, it would not follow that Congress intended the anti-retailiation provision to apply similarly.  [...] [A] regulation addressing the bounty provision cannot be taken to support the proposition that the anti-retailiation provision should apply extraterritoriality. [...]  [E]xtraterritorial application of the bounty and anti-retailiation provisions have far different international ramifications.  Providing rewardings to persons, foreign or domestic, who supply information about lawbreaking is far less intrusive into other countries’ sovereignity than seeking to regulate the employment practices of foreign companies with respect to the foreign nationals they employ in foreign countries.  Applying the anti-retaliation provision in circumstances such as Liu’s would effect such an intrusion.  Thus, whatever their merits, none of the arguments that the bounty provision is meant to have extraterritorial reach provide any support for Liu’s claim that the anti-retaliation provision is meant to have extraterritorial reach.”  (emphasis is original).

From my perspective, the most interesting aspect of the Second Circuit’s decision is the above dicta statement which calls into question whether Dodd-Frank’s bounty provisions have extraterritorial application.

This will be an interesting issue to follow and once again the current odd dynamic (as well as potential future odd dynamics) are the direct result of Congress being sloppy in passing a law with various provisions that generically apply to any securities law violations without thinking through, on a micro level, the intersection of such provisions.

Posted by Mike Koehler at 12:03 am. Post Categories: Whistleblowers




August 18th, 2014

This And That

What Others Are Saying About the “Foreign Official” Cert Petition

From this Law360 article.

Rita Glavin, a partner at Seward & Kissel who previously served as head of the DOJ’s criminal division, called [the cert petition] “tremendously significant.”  “The definition of what constitutes a foreign official has been expanding into the abyss,” Glavin said. “That’s a real problem for companies. Instrumentality pretty much becomes whatever the DOJ says it is.” Glavin compared the expansion of the foreign official provision to that of the “honest services fraud” statute — a provision that served for years as a blunt legal instrument in public corruption cases but was curtailed in the Supreme Court’s 2010 decision in Skilling v. United States. “The government was pushing that statute in cases where people could not have comfort as to where the line was drawn and conduct crossed into criminality,” Glavin said. “The Supreme Court finally put a stop to it.”

Morgan Lewis & Bockius partner George Terwilliger, who served as a top Justice Department official under presidents Ronald Reagan and George H.W. Bush, noted that companies have spent large sums of money policing activities that fall into a legal gray area under the FCPA. He said a ruling on the instrumentality language would provide helpful guidance. “To have a statute of this scope and geographical reach, where some of the key terms remain subject to legitimate debate among legal experts, is unconscionable,” said Terwilliger, who co-chairs Morgan Lewis’ white collar litigation and government investigations practice. “It’s not an appropriate way to administer the law.”

Larry Urgenson, a partner at Mayer Brown, … called [last week's] petition “a useful landmark” for FCPA attorneys. He previously served in several leadership positions at the DOJ, including as acting deputy assistant attorney general and chief of the FCPA unit.  “It is very important in terms of whether the government is properly executing its prosecutorial powers to the right subjects and the right targets,” Urgenson said.

From this Global Investigations Review article:

Steven Michaels at Debevoise & Plimpton in New York said the petition involves issues which the current Supreme Court Justices are potentially keen to examine. “The Justices may find this case attractive, as they would hear arguments about statutory interpretation and whether the standard set forth by the Eleventh Circuit improperly encourage over-reaching by the government,” he said. “The Supreme Court likes to see criminal liability based on precision and clarity, and given the uncertainty in the law governing FCPA enforcement they may be willing to hear this case.” FCPA cases are also rarely litigated, Michaels said. This may encourage the court to grant the petition, as the court may have to wait a long time before the issue is litigated again in a court of appeals. The Supreme Court typically expects to see a split between US appeals courts before it hears a case, but such a split is also unlikely to occur soon.

John Chesley at Gibson Dunn & Crutcher in Washington, DC said the lack of a circuit split is “the main uphill battle” the petitioners will have to fight. ”The lack of clarity in the FCPA’s definition of instrumentality could get the justices interested, especially Justice Antonin Scalia who has written extensively in this area, but the petitioners will nevertheless have a hard time overcoming the court’s preference for only acting when there is a split.” Chesley said the Esquenazi decision was controversial, as the Eleventh Circuit’s complex, multi-factored test for determining whether a company is a government instrumentality makes it difficult to determine whether the recipient of an alleged bribe is a foreign official. “There’s certainly a lot of concern about vagueness,” he said. “For example, one of the factors in the Esquenazi test revolves around whether companies are perceived as government entities in their home jurisdiction. How do you advise a client on that?”

Jessie Liu at Jenner & Block in Washington, DC, said Supreme Court guidance on instrumentality would be “fantastic”, but also said such guidance is unlikely in the near future. ”The Eleventh Circuit’s reasoning was pretty robust,” she said. “We would probably need to see another appeals court go the opposite way for the Supreme Court to get involved, but there’s a good chance the Eleventh Circuit’s reasoning will dissuade future litigants from fighting the issue.”

Wal-Mart’s Pre-Enforcement Action Professional Fees and Expenses

In its August 14th second quarter earnings call, Wal-Mart disclosed:

“FCPA and compliance-related costs were approximately $43 million, which represented approximately $31 million for the ongoing inquires and investigations and roughly $12 million related to our global compliance program and organizational enhancements.”

Doing the math, that is approximately $662,000 in FCPA-related expenses per working day.

Over the past approximate two years, I have tracked Wal-Mart’s quarterly disclosed pre-enforcement action professional fees and expenses. While some pundits have ridiculed me for doing so, such figures are notable because, as has been noted in prior posts and in my article “Foreign Corrupt Practices Act Ripples,” settlement amounts in an actual FCPA enforcement action are often only a relatively minor component of the overall financial consequences that can result from corporate FCPA scrutiny.  Pre-enforcement action professional fees and expenses are typically the largest (in many cases to a degree of 3, 5, 10 or higher than settlement amounts) financial hit to a company under FCPA scrutiny.

While $662,000 per working day remains eye-popping, Wal-Mart’s recent figure suggests that the company’s pre-enforcement action professional fees and expenses have crested as the figures for the past three quarters were approximately $855,000, $1.1 million and $1.3 million per working day.

In the aggregate, Wal-Mart’s disclosed pre-enforcement professional fees and expenses are as follows.

FY 2013 = $157 million.

FY 2014 = $282 million.

FY 2015 (first two quarters) = $96 million.

Scrutiny Alerts and Updates

Layne Christensen Company

Layne Christensen Company has been under FCPA scrutiny since 2010 concerning conduct in Africa (see here for the prior post).  As noted in this November 2013 post, the company disclosed that it was “engaged in discussions with the DOJ and the SEC regarding a potential negotiated resolution” of the matter.

However, last week the company issued this release stating:

“The DOJ has decided to not file any charges against the Company in connection with the previously disclosed investigation into potential violations of the FCPA.  The DOJ has notified Layne that it considers the matter closed.

As previously reported by Layne, in connection with updating its FCPA policy, questions were raised internally in September 2010 about, among other things, the legality of certain payments by Layne to agents and other third parties interacting with government officials in certain countries in Africa.  The audit committee of the board of directors engaged outside counsel to conduct an internal investigation to review these payments with assistance from outside accounting firms.  Layne has been consistent and forthcoming in providing voluntary disclosure to the DOJ and the SEC regarding the results of the investigation, and has cooperated fully with those agencies in connection with their review of the matter.  The parallel investigation by the SEC remains open and the Company is actively engaged in settlement discussions with the SEC to resolve this matter.

Layne had previously accrued a reserve of $10.4 million for the settlement of the investigations. Based on the decision by the DOJ, the Company will reduce the accrual related to this investigation by approximately $5.3 million, which will be reflected in Layne’s results of operations for the second fiscal quarter ended July 31, 2014.

David A.B. Brown, President & CEO, commented, “We are very pleased to conclude the DOJ investigation without any charges being brought against Layne and we hope to settle the SEC investigation in the near future. From the very beginning, we have maintained a position of full disclosure and complete cooperation with the authorities and have worked diligently to implement remedial measures to enhance our internal controls and compliance efforts. Based on conversations with the DOJ, we understand that our voluntary disclosure, cooperation and remediation efforts have been recognized and appreciated by the staff of the DOJ and that the resolution of the investigation reflects these matters.”

Qualcomm

As noted in this previous post, in April 2014 Qualcomm disclosed:

“As previously disclosed, the Company discovered, and as a part of its cooperation with these investigations informed the SEC and the DOJ of, instances in which special hiring consideration, gifts or other benefits (collectively, benefits) were provided to several individuals associated with Chinese state-owned companies or agencies. Based on the facts currently known, the Company believes the aggregate monetary value of the benefits in question to be less than $250,000, excluding employment compensation.

On March 13, 2014, the Company received a Wells Notice from the SEC’s Los Angeles Regional Office indicating that the staff has made a preliminary determination to recommend that the SEC file an enforcement action against the Company for violations of the anti-bribery, books and records and internal control provisions of the FCPA. The bribery allegations relate to benefits offered or provided to individuals associated with Chinese state-owned companies or agencies.

[...]

On April 4, 2014, the Company made a Wells submission to the staff of the Los Angeles Regional Office explaining why the Company believes it has not violated the FCPA and therefore enforcement action is not warranted.”

Is this recent New York Times article the reason for Qualcomm’s FCPA scrutiny?  The article states that “an adviser to a Chinese government antitrust committee has been dismissed, accused of accepting payments from Qualcomm, an American technology company under investigation in China on suspicion of antitrust violations.”  According to the article, Qualcomm “had made ‘large payments’ to Zhang Xinzhu, an economist at the Chinese Academy of Social Sciences, while he also was an adviser on an antimonopoly committee under the State Council, China’s cabinet.”  As noted in this Reuters article, Qualcomm said “it had no direct financial links with an antitrust expert sacked from a government advisory post after state media reported he had received payments from the firm.”

Derwick Associates / ProEnergy Services

This August 2013 post predicted FCPA scrutiny for Derwick Associates based on a civil RICO lawsuit filed alleging conduct in Venezuela.

Sure enough.  This recent Wall Street Journal article reports:

“The U.S. Department of Justice and the Manhattan district attorney’s office are probing Derwick Associates … a company awarded hundreds of millions of dollars in contracts in little more than a year to build power plants in Venezuela, shortly after the country’s power grid began to sputter in 2009.  [...]  ProEnergy Services, a Sedalia, Mo.-based engineering, procurement and construction company that sold dozens of turbines to Derwick and helped build the plants, is also under investigation …”.

Cubist Pharmaceuticals

This previous post highlighted the FCPA scrutiny of Optimer Pharmaceuticals.  The company has since been acquired by Cubist Pharmaceutical which recently disclosed as follows.

Optimer U.S. Governmental Investigations

We are continuing to cooperate with the investigations by the SEC and the U.S. Department of Justice in their review of potential violations by Optimer of certain applicable laws, which occurred prior to our acquisition of Optimer. The investigations relate to an attempted share grant by Optimer and certain related matters in 2011, including a potentially improper payment to a research laboratory involving an individual associated with the share grant, that may have violated certain applicable laws, including the Foreign Corrupt Practices Act (FCPA). Optimer had already taken remedial steps in response to its internal investigation of these matters; nonetheless, these events could result in lawsuits being filed against us or Optimer and certain of Optimer’s former employees and directors, or certain of our employees. Such persons could also be the subject of criminal or civil enforcement proceedings and we may be required to indemnify such persons for any costs or losses incurred in connection with such proceedings. We cannot predict the ultimate resolution of these matters, whether we or such persons will be charged with violations of applicable civil or criminal laws, or whether the scope of the investigations will be extended to new issues. We also cannot predict what potential penalties or other remedies, if any, the authorities may seek against us, any of our employees, or any of Optimer’s former employees and directors, or what the collateral consequences may be of any such government actions. We do not have any amounts accrued related to potential penalties or other remedies related to these matters as of June 30, 2014, and cannot estimate a reasonably possible range of loss. In the event any such lawsuit is filed or enforcement proceeding is initiated, we could be subject to a variety of risks and uncertainties that could have material adverse effects on our business, results of operations and financial condition.”

Quotable

Returning to a theme previously explored in the “The Bribery Racket” (Forbes) and “FCPA Inc. and the Business of Bribery” (Wall Street Journal), not to mention my own article “The Facade of FCPA Enforcement,” Robert Amsterdam writes in this Forbes piece titled “When Anti-Corruption Becomes Corrupted,” as follows.

“Like many laws born out of politics, anti-corruption has become alarmingly mired in ambiguity, abuse, and misapplication. In the United Kingdom, the introduction of the Bribery Act, in conjunction with the U.S. Foreign Corrupt Practices Act (FCPA), means that now essentially the globe is covered with a bundle of vague principles and unfettered prosecutorial discretions that leaves multinational businesses dangerously exposed. Not only are the laws vague, but they are accompanied by incredible powers on behalf of prosecutors, who can issue orders to freeze assets, cripple business operations, harass employees, and destroy reputations, all before you’ve even had a chance to defend yourself in court. This ambiguity is heightened by the outsourcing of prosecutorial responsibilities to white collar criminal “defense” lawyers, who have embraced emerging regimes of “self reporting,” placing the onus on corporate decisions to avoid the stigma of criminal charges, requiring them to inform on themselves or their own senior employees, often in the absence of any substance.

[...]

[P]art of the problem is the proliferation of Deferred Prosecution Agreements (DPAs) and Non-Prosecution Agreements (NPAs), which entail the company surrendering its rights to defense and admitting to a series of accusations that are not subjected to exhaustive judicial scrutiny.

[...]

Many big law firms now feature celebrity prosecutors who formerly worked in enforcement, so they see their new job as a continuation of their old job, specializing in negotiating NDAs and DPAs.

In several cases that we are familiar with, the self-reporting doctrine has ended up causing much more damage than benefit. Particularly with respect to non-public companies, a better strategy would be to fight against any untrue or exaggerated accusation, uphold basic rights to defense, take internal measures to address any issues, but above all else, refuse to be bullied into a position of confessing to actions that the company has not committed or destroying the careers and personal lives of a handful of executives to serve as the sacrifice to save the company.

We do fear that if this trend of prosecutorial hubris is not checked, we may face a very dangerous future. The potential consequences of these laws, which include lengthy periods of incarceration, could morph beyond big business and impact other areas of society, where the accused are always guilty, where rights to defense do not exist, and dirty deals replace due process.

The philosophy of self reporting, impacting as it does the lives and reputations of executives in major corporations, requires a dramatic rethink. We must carefully examine the incentives driving prosecutors and how they choose their targets, review sentencing guidelines in both the United States and United Kingdom, and reinforce the core values of the presumption of innocence and due process in order to effectively address genuine issues of corruption practices abroad while sparing compliant businesses from the burden of unnecessary harassment.”

In-House Position

Avon Products, Inc., is looking for an attorney to join the Ethics & Compliance team.

The Regional Legal & Compliance Counsel (RLCC), Latam, reports to the Regional Ethics & Compliance Director for compliance matters and V.P. & General Counsel, Legal, Ethics & Compliance, Latam for legal matters.  The position resides in Miami.  The RLCC plays an active role in the execution of the Global Ethics & Compliance program and provides legal support to the region.  The Company’s Ethics & Compliance program seeks to minimize exposure of corporate and regulatory risks through company guidance and controls.  Working with Legal Department colleagues, especially the legal leadership and Compliance Counsels in the markets and the Regional Compliance Director, the RLCC counsels on compliance-related questions, implementation and execution of policies and procedures, with a particular focus on the anti-corruption policy, as well as assists with the design and implementation of compliance enhancements, as necessary.  The RLCC may spend appreciable time implementing anti-corruption policy controls, such as those concerning third party engagements, gift giving, and donations, thereby facilitating legitimate commercial activities while mitigating risk exposure.

Interested candidates may send their CV directly to Gregory Bates (Director, Ethics & Compliance, Latam) (gregory.bates@avon.com)  and should also apply via the http://www.avoncompany.com/aboutavon/careers/index.html.





August 15th, 2014

“Foreign Official” Cert Petition Filed In Supreme Court

As highlighted in this previous post, in May the 11th Circuit affirmed the FCPA (and related) convictions of Joel Esquenazi and Carlos Rodriguez.  Numerous previous posts have analyzed the 11th Circuit’s “foreign official” decision (see here for the key language of the decision; here for “foreign official” – the current landscape; here for a “foreign official roundup; here for the 193 different meanings of foreign official; and here for why the meaning of “foreign official” matters).

Perhaps most importantly, this previous post highlighted the 11th Circuit’s flawed reasoning.

Yesterday, Esquenazi and Rodriguez (through their counsel Markus Funk of Perkins Coie and David Simon of Foley & Lardner and others) filed this petition for certiorari in the Supreme Court.

The cert petition is believed to be the first substantive FCPA cert petition in FCPA history.  (As noted in this prior post, the Frederic Bourke FCPA enforcement action did result in a cert petition to the Supreme Court.  However, the issues presented were not FCPA specific. The Supreme Court denied cert.  Prior to Bourke’s cert petition, David Kay and Douglas Murphy filed a cert petition in the Supreme Court.  Again, the issues presented were not FCPA specific.  The Supreme Court denied cert.)  

The Supreme Court, which decides its own docket, has never substantively addressed any FCPA issue.

The petition states, in pertinent part, as follows.

“Few, if any, laws match the FCPA when it comes to the chasm between its profitability for the Government and the near-universal confusion concerning how far the statute actually reaches. The Eleventh Circuit’s ruling below only amplified the problem by providing a  purported “definition” of key FCPA provisions that differs from all provided previously and deepens the confusion over the term “foreign official.”

Under the heading, “Reasons for Granting the Petition” the petition states, in full, as follows.

The FCPA leaves open the pivotal question of who qualifies as a “foreign official” by not defining what “instrumentality [of a foreign government]” means.  Without a clear definition of “instrumentality,” the scope of the term “foreign official” cannot be understood. So it comes as no surprise that, though the statute was enacted in 1977, persistent questions about the correct interpretations of these terms have plagued it in this case and others.

Based on long-standing and straight-forward principles of statutory interpretation, Petitioners argued that instrumentalities should either be an actual part of the foreign government, or, at a bare minimum, perform core traditional governmental functions. The Government has lobbied for, and received from the Eleventh Circuit, an unacceptably broad interpretation of the term “instrumentality” that expands the reach of the statute to include partially state-owned or state-controlled enterprises that are not a part of any foreign  government, but whose employees could be considered “foreign officials” under the FCPA if they somehow fall into one or more of the court’s open-ended definitional options. Demonstrating the illogic of the Eleventh Circuit’s approach, consider that under its statutory construction, a janitor working for U.S. Government subsidized General Motors could qualify as a “foreign official” if General Motors were located overseas.

Prosecutorial discretion is one thing, but permitting the Government to take a “we-know-it-when-we-see it” approach to FCPA enforcement violates basic constitutional protections. In fact, the scope of the Government’s enforcement efforts have broadened to the point that even former Assistant Attorney General Breuer conceded the uncertainty—and the breadth of the Government’s interpretation—of who is a “foreign official” under the FCPA:

[C]onsider the possible range of ‘foreign officials’ who are covered by the FCPA: Some are obvious, like health ministry and customs officials of other countries. But some others may not be, such as the doctors, pharmacists, lab technicians and other health professionals who are employed by state-owned facilities. Indeed, it is entirely possible, under certain circumstances and in certain countries, that nearly every aspect of the approval, manufacture, import, export, pricing, sale and marketing of a drug product in a foreign country  will involve a ‘foreign official’ within the meaning of the FCPA.

The Government’s excessively broad (and now judicially sanctioned) interpretation of who is considered to be a “foreign official” stands in direct contrast to the stated purpose of the FCPA, namely, to prohibit payments to a “narrow recipient category of traditional government officials performing official or public functions.” Decl. of Professor Michael J. Koehler In Support of Defendants’ Motion to Dismiss Counts One Through Ten of the Indictment in United States v. Carson, No. 8:09-cr-00077, ¶ 16(b) (C.D. Cal. Feb. 21, 2011).

Recognizing this untenable state of affairs, there has been widespread commentary and concern about the Government’s pursuit of “an increasingly expansive view of what makes an enterprise an ‘instrumentality’ of a foreign government, and, therefore, what makes employees of such enterprises ‘foreign officials.’” [...]  Professor Koehler, for his part, has noted that no FCPA element “is more urgently in need of judicial scrutiny than the FCPA’s ‘foreign official’ element.” Michael J. Koehler, The Façade of FCPA Enforcement, 41 Geo. J. Int’l L. 907, 916 (2010).”

Elsewhere, the petition states, in pertinent part, as follows.

“In light of the Government’s recent increased enforcement action, and the span of time it has taken for just one federal appellate court to interpret this core statutory term, the time is now ripe for this Court to settle the meaning of instrumentality under the FCPA. This Court should not defer answering the question presented in this Petition until additional federal appellate courts reach conflicting decisions regarding whether state-owned enterprises are instrumentalities under the FCPA. By that time, the Government will have brought many more prosecutions or enforcement actions involving payments made, or benefits provided, to individuals who are not traditional government officials. Individuals and companies around the globe will be left to wonder whether the Government will unilaterally declare their conduct criminal. This Court should, therefore, settle the question of the meaning of “instrumentality” to clarify which of those enforcement actions Congress intended to sanction under the FCPA, and which it did not.

What is more, an acceptable answer to the definitional challenge lies near at hand. Congress is certainly capable of enacting language that applies to state-owned or state-controlled enterprises when it intends to do so. When Congress enacted the Foreign Sovereign Immunities Act (FSIA), for example, it specifically included within the definition of “agency or instrumentality of a foreign state” entities a “majority of whose shares or other ownership interest is owned by a foreign state or political subdivisions.” 28 U.S.C. § 1603(b). The presence of such an explicit definition in FSIA indicates that Congress knew how to include such language in the FCPA, but chose not to include it.

[...]

That absence is significant here and warrants construing “instrumentality” as excluding state-owned or state-controlled enterprises that are not political subdivisions and that do not perform core, traditional governmental functions. See Dole Food Co. v. Patrickson, 538 U.S. 468, 475-76 (2003) (contrasting the absence of language in FSIA with that used in other statutes and concluding that the absence of language was instructive). With regard to the FCPA, “[i]f Congress desires to go further . . . it must speak more clearly than it has.”

*****

A previously disclosed, I have provided pro bono expert services to pro bono defense counsel in this case.

Posted by Mike Koehler at 12:05 am. Post Categories: Carlos RodriguezForeign OfficialJoel EsquenaziSupreme Court




August 14th, 2014

FCPA Related Auditor – Client Disputes

Knowledge of the Foreign Corrupt Practices Act is a fundamental skill set for a variety of lawyers as well as accountants.

But what about auditors?  How does the FCPA impact the day-to-day job functions of auditors including relationships with clients?

This post highlights two recent examples of FCPA related auditor – client disputes.

Kallo Inc.

The FCPA, with increasing frequency, is popping up in all sorts of corporate disclosures.  Yet, Kallo Inc.’s recent FCPA related disclosure is downright strange.  Last week the healthcare delivery services company with corporate headquarters in Canada and shares traded on U.S. exchanges disclosed in an SEC filing as follows.

“On June 3, 2014, we terminated Schwartz Levitsky Feldman LLP [...] as our independent registered accounting firm.  The decision to dismiss Schwartz Levitsky Feldman LLP as our independent registered public accounting firm was approved by our board of directors on June 3, 2014.  Except as noted in the paragraph immediately below, the reports of Schwartz Levitsky Feldman LLP’s financial statements for the years ended December 31, 2012 and 2011 and for the period January 1, 2013 through March 31, 2014 did not contain an adverse opinion or disclaimer of opinion, and such reports were not qualified or modified as to uncertainty, audit scope, or accounting principle.

The reports of Schwartz Levitsky Feldman LLP on our financial statements as of and for the years ended December 31, 2012 and 2011 and for the period January 1, 2013 through March 31, 2014 contained an explanatory paragraph which noted that there was substantial doubt as to our ability to continue as a going concern as we had suffered negative working capital, had experienced negative cash flows from continuing operating activities and also due to uncertainty with respect to our ability to meet short-term cash requirements.

During the years ended December 31, 2012 and 2011 and for the period January 1, 2013 through March 31, 2014 and through June 3, 2014,  we have not had any disagreements with Schwartz Levitsky Feldman LLP on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which disagreements, if not resolved to Schwartz Levitsky Feldman LLP’s satisfaction, would have caused it to make reference to the subject matter of the disagreements in its reports on our consolidated financial statements for such years or in connection with its reports in any subsequent interim period through the date of dismissal with the exception of the following:

Schwartz Levitsky Feldman LLP failed to timely audit our financial statements for the period ended December 31, 2013.  The auditor requested an opinion to the affect that there were no violations of the Foreign Corrupt Practices Act.  We complied and had our securities attorney issue an opinion that there were no violations of the Foreign Corrupt Practices Act.  Then, after receiving the requested opinion, the auditor decided that it would require a second opinion from an “independent” attorney.  Again, we complied having retained a law firm in New York City, which specialized in the Foreign Corrupt Practices Act.   Again, the opinion reflected there was no violation of the Foreign Corrupt Practices Act.  After that, the auditor wanted the opinion from the New York City firm to contain additional language, which the independent lawyer felt that Schwartz Levitsky Feldman LLP was trying to influence the attorney’s independent opinion.  By this time, we were frantic.  The auditor could not give us a definitive date or specific conditions which would result in the issuance of its audit opinion of the December 31, 2013 financial statements.

Under the circumstances we had no choice but to obtain the services of a new auditor.  After retaining MaloneBailey LLP, MaloneBailey LLP was able to render an unqualified audit opinion.  We have authorized Schwartz Levitsky Feldman LLP to respond fully to the inquiries of MaloneBailey LLP concerning the disagreement.  Schwartz Levitsky Feldman LLP alleged that it did not receive an unqualified opinion by independent legal counsel to confirm that that there were no violations of the Foreign Corrupt Practices Act.  However, Schwartz Levitsky Feldman LLP fail[ed] to disclose that in fact it received two opinions from two law firms that there were no violations.  Further, Schwartz Levitsky Feldman LLP did not conduct any independent investigation or retain their own counsel with respect to the matter.

Thereafter, Malone Bailey issued an unqualified audit opinion after having access to the same information that Schwartz Levitsky Feldman had access to and audited our financial statements for the year ended December 31, 2013 and reviewed our Form 10-Q for the period ended March 31, 2014.”

Most recently in this strange auditor – client dispute, Kallo included in an SEC filing earlier this week this response from Schwartz Levitsky Feldman LLP which states:

“We are the former independent auditors for Kallo Inc. (the “Company”). We have read the Company’s disclosure … dated August 8, 2014. Insofar as it pertains to our firm, we have to advise as follows:

During the conduct of our audit of the Company’s financial statements for the year ended December 31, 2013, we expressed concerns to the Company related to certain acts and transactions that may have violated the U.S. Foreign Corrupt Practices Act (“FCPA”).

As a necessary component of alleviating our concerns and completing the Company’s audit and issuing an opinion on the Company’s financial statements for the year ended December 31, 2013 and for the subsequent period through March 31, 2014, we requested that the Company provide us with an unqualified opinion by independent legal counsel, which confirmed that the acts and transactions in question did not violate the FCPA.

In response to our request, the Company provided a two page legal opinion that concluded that the acts and transactions in question did not violate the FCPA. This initial response was insufficient to alleviate our concerns, in part because the issuing attorney was not sufficiently independent.

Thereafter, the Company provided us with a letter from a New York-based law firm. Although this letter was issued by an apparently independent attorney, the letter did not contain an unqualified legal opinion that the acts and transactions in question did not violate the FCPA. Upon receipt of this letter, we once again requested an unqualified opinion by independent legal counsel that confirmed that the acts and transactions in question did not violate the FCPA.

After following up numerous times as to the status of this opinion, the Company indicated that the New York-based firm was conducting an investigation of the facts and circumstances that would allow it to issue the requested opinion. To date of our termination, the Company had not provided us with this unqualified opinion by an independent legal counsel stating that the acts and transactions in question did not violate the FCPA, despite their numerous assurances that they would do so.

We had not received such an opinion and as a result, we were unable to alleviate our concerns of a potential violation of the FCPA and the potential liability in respect thereof.

In view of our inability to satisfy ourselves, as to this issue we were not, on the date of our termination, in a position to release our audit report on the Company’s financial statements for the year ended December 31, 2013.”

To say the least, it will be interesting to follow Kallo’s alleged or perceived FCPA issues.

DAP Partners

As highlighted in this previous post, in May 2013 various executives of broker-dealer Direct Access Partners (“DAP”) were criminally and civilly charged in connection with an alleged bribery scheme involving an official of an alleged Venezuelan state-owned banking entity that acted as the financial agent of the state to finance economic development projects.  Thereafter, as highlighted here and here, additional individuals associated with DAP were also charged, certain defendants pleaded guilty, and the firm went defunct.

In connection with its demise, DAP filed a civil lawsuit in New Jersey state court alleging that its auditor (Rothstein Kass & Co – an entity recently acquired by KPMG) was negligent due to its failure to spot the alleged conduct at issue.  In summarizing DAP’s complaint, this recent Law360 article states:

“DAP accused Rothstein Kass of deviating from general accounting standards and principles during its dealings with the company, leading to multiple missed chances to uncover the scheme. Among the specific allegations DAP asserts is that Rothstein failed to dedicate adequate resources to its audits, delegated critical responsibilities to inexperienced staff members and failed to conduct mandatory analytical procedures in order to meet deadlines, thus exposing the brokerage to the fraud.”
As highlighted in the same Law360 article, Rothstein Kass recently filed a motion to dismiss and the article states as follows.
“To state claims … DAP is required to do more than simply allege that RK audited DAP and DAP suffered damages as a result of a bribery and kickback scheme perpetrated by its own senior executives,” Rothstein Kass’s brief said. “DAP, however, has not done so. Instead, DAP offers only incomplete, conclusory and factually unsupported allegations that fail to state any actionable claims against RK, for several reasons.” Defending its work, Rothstein Kass — which acted as DAP’s auditor for 2009, 2010 and 2011 — said evidence now suggests that it was provided with false and fraudulent documents to hide the alleged scheme. However, the claims themselves have other flaws, the Roseland, New Jersey-based firm contends. Because DAP’s senior executives, managers and principal employees carried out the scheme, the fraud can be attributed to DAP and its claims fall victim to the doctrine of in pari delicto, according to Rothstein Kass. That doctrine bars courts from resolving disputes between two wrongdoers and should prevent DAP from recovering for its own officers’ misconduct, the firm said …”.
*****

As highlighted by the two examples above, the FCPA intersects a variety of professional disciplines and auditors, as well as other obvious professionals, need a pair of FCPA goggles in going about their daily tasks.

Moreover, in terms of FCPA ripples (see here for my recent article of the same name), FCPA related auditor-client disputes are yet another example of the many ripples that result from FCPA scrutiny or enforcement.

Posted by Mike Koehler at 12:03 am. Post Categories: Auditing IssuesDirect Access PartnersFCPA Related ChargesKallo Inc.Uncategorized




August 13th, 2014

Hong Kong Court Rules on Extraterritorial Limits to the Territory’s Anti-Corruption Law

Today’s post is from Philip Rohlik and Sebastian Ko (both attorneys in the Hong Kong office of Debevoise & Plimpton LLP).

Hong Kong Court Rules on Extraterritorial Limits to the Territory’s Anti-Corruption Law

By Philip Rohlik and Sebastian Ko

Hong Kong has a very strict and successful anti-corruption regime that has made it one of the cleanest jurisdictions in the world.  Hong Kong serves as a model for many other jurisdictions seeking to eradicate corruption and the Hong Kong Independent Commission Against Corruption has been copied in a number of jurisdictions and provides training to anti-corruption police from dozens of countries.  Despite being an international role-model, there has long been a question as to whether and to what extent the Prevention of Bribery Ordinance (POBO) extends beyond the borders of Hong Kong.  In the recent case of HKSAR v. Krieger & Anor. (06/08/2014, FAMC1/2014), the Court of Final Appeal (CFA) (the highest court in Hong Kong) confirmed that the extraterritorial reach of the law is limited.

Anti-Corruption Law in Hong Kong

The POBO dates from the 1970s, when the then-British colony was notoriously corrupt.  The ordinance defines a number of offenses including: giving bribes, receiving bribes, bribing a public servant, specific offenses relating to public tenders and the crime of “possession of unexplained property” by certain high-ranking public servants.  Section 4 prohibits bribing a “public servant.”  “Public servant” is defined to include only Hong Kong public servants.

Hong Kong is not a party to the OECD Convention and the POBO contains no explicit prohibition on bribing foreign officials.  However, bribing a foreign official could still meet the standards of Section 9(2), the offense most applicable to private bribery.  Under Section 9(2) it is an offense to offer an advantage to an “agent” with the intent of encouraging the agent to act against the interest of his or her principal’s affairs.  In the case of bribery of a foreign official, the official would be the agent and the foreign government or instrumentality would be the principal.

Section 4 contains explicit extraterritorial language, making it an offense to offer a bribe to a “public servant” “whether in Hong Kong or elsewhere.”  Section 9 contains no such explicit extraterritorial language.  The question before the court was whether a conspiracy to offer a bribe to a Macau official, in Macau, [1] violated Section 9(2) in a case in which most of the underlying acts of the conspiracy took place in Hong Kong.  The Court of Appeal held that the operative provision of a charge of conspiracy to bribe was Section 9(2) of the POBO through the “making of the offer.”  Since the offer was communicated outside of Hong Kong and the provision did not have extraterritorial application, there was no offense.  The CFA refused to grant leave to appeal against this ruling.

HKSAR v. Krieger

The defendants were two executives of a Macau waste management company that was a joint venture between Hong Kong and Macau companies.  They were also board members of the Hong Kong parent.  They were accused of conspiring with a Macau-based ex-director of the joint venture to offer a bribe to the then-Secretary of Transport and Public Works of Macau.  (The ex-Secretary and the Macau-based ex-director were convicted of bribery in Macau and are serving prison sentences.)  The evidence at trial was that the defendants and their co-conspirator came to agreement on offering the bribe while in Hong Kong.  The wife of the Macau-based co-conspirator had a Hong Kong company, into which the defendants (while in Hong Kong) transferred funds (by means of checks and wire transfers drawn on a Hong Kong bank) to be used to pay a bribe in Macau.  The District Court convicted both men and sentenced each to more than three years imprisonment.  In doing so, the District Court noted that the men could also be seen as “victims” as the ex-Secretary solicited bribes from them and “the jobs of some 500-odd employees” of their joint venture were threatened by the prospect of losing the contracts. [2]

The defendants appealed and the Court of Appeals quashed the convictions.  An important question on appeal was whether the operative act was the agreement between the conspirators to offer the bribe or the offer itself.  Defendants were charged under Section 159A of the Crimes Ordinance allowing multiple individuals to be charged where they have an agreement to commit a crime.  Section 159A does not, however, create a separate offense; Section 9(2) provided the underlying offense.  The court held that, under the POBO, an offer of advantage is not made until it is communicated to the “agent.” [3]  Although the proposal to bribe was hatched in Hong Kong and numerous steps were taken in Hong Kong after the offer was made, the offer was “made” when the then-Secretary received the proposal from the defendants’ Macau-based co-conspirator in Macau.

The court compared Section 9(2) with its public bribery equivalent provision, Section 4(1).  Section 4(1) specifically defines the bribery of a public official as offering an advantage “whether in Hong Kong or elsewhere.”  Section 9 contains no such language.  The Court of Appeal cited the English case of Cox v. Army Council [1963] AC 48, invoking the doctrine of statutory interpretation presuming that criminal offenses are not extraterritorial unless specifically provided in the offense-creating provisions (comparable with the U.S. doctrine of presumption against extraterritoriality). [4] Because it lacks the extraterritorial language, the court held, Section 9(2) is limited to offers made in Hong Kong, regardless of the fact that the defendants were Hong Kong residents and acted mostly in Hong Kong, through Hong Kong companies, ultimately for the benefit of their Hong Kong employer.

The Hong Kong Government applied to the CFA for leave to appeal the Court of Appeal’s decision.  Appeal of the decision in the CFA was not as of right, and the Government and the defendants submitted arguments in an application hearing to test whether an appellate hearing before the CFA’s full bench was merited.  The Government argued that the Court of Appeal took too narrow a view of “offer” as defined in the POBO.  Section 2(2) of which provides that “a person offers an advantage if he, or any other person acting on his behalf, directly or indirectly gives, affords or holds out, or agrees, undertakes or promises to give, afford or hold out, any advantage to or for the benefit of or in trust for any other person.”  The Government, while not disputing the lack of extraterritoriality, argued that Section 2(2)’s definition of “offer” was broad enough to encompass acts short of the communication.  The CFA held that under Section 9(2), the offer had to be made “to any agent,” which can only occur upon communication, regardless of the language of Section 2(2).  The CFA held that the Government’s case was not “reasonably arguable” (the standard for a grant of appeal) and denied a full appellate hearing.

Conclusion

HKSAR v. Krieger clarified the extraterritorial reach of the private bribery offense in the POBO, which had been used to prosecute bribery of foreign officials in Hong Kong.  As the POBO lacks an explicit offense of bribing a foreign official, the use of the private bribery provisions to create one would have been a stretch where the operative conduct occurred outside of Hong Kong.  It should be noted, Section 9(2) will continue to apply to offers made to foreign officials in Hong Kong and, as the Court of Appeal took pains to point out, the prosecution had limited its arguments by focusing on a narrow set of facts at trial.  Finally, prosecutors in Hong Kong, like prosecutors elsewhere, have a number of arrows in their quiver (for example, anti-money laundering laws) to potentially criminalize much of the activity underlying bribery.

The above summary was prepared for general information purposes and does not constitute legal advice and should not be acted on as such.


[1] Hong Kong and Macau are part of the People’s Republic of China (PRC), although they enjoy high autonomy as special administrative regions and are separate jurisdictions.  For most practical purposes, Macau and the PRC are treated as if they were “foreign” jurisdictions under Hong Kong law.

[2] HKSAR v. Krieger & Anor. (Feb. 29, 2012, DCCC316/2010) at ¶¶ 6-7.

[3] HKSAR v. Krieger & Anor. (Dec. 18, 2012, CACC99/2012) at ¶¶ 101-102.

[4] Ibid. at ¶¶ 79 and 96.

Posted by Mike Koehler at 12:04 am. Post Categories: Guest PostsHong KongJurisdiction