Top Menu

The FCPA’s Long Tentacles

There are numerous reasons to comply with the Foreign Corrupt Practices Act.

One reason is that mere existence of an FCPA inquiry can significantly throw a wrench into a company’s ability to sell itself. Another reason is that mere existence of an FCPA inquiry can cause an analyst to downgrade a company’s stock.

Both are discussed in this post starting with a real-world case study.

The case study involves Allied Defense Group, Inc. (here).

It turns out that Smith & Wesson (see here) is not the only publicly traded company affected by the Africa Sting case (see here for prior posts).

Also affected is ADG – a “multinational defense business focused on the manufacture and sale of ammunition and ammunition related products for use by the U.S. and foreign governments.” According to its website, ADG has “has two operating units in the Weapons & Ammunition industry: Mecar, S.A. and Mecar USA.”

On January 19, 2010, ADG agreed to be acquired by Chemring Group PLC (see here). See here for the release.

January 19, 2010 turned out to be an eventful day at ADG because on that same day, the company received a subpoena from the DOJ requesting that it produce documents relating to its dealings with foreign governments. ADG learned that the subpoena was related to an employee of Mecar USA being indicted in the Africa Sting case. The employee (reportedly Mark Frederick Morales) was terminated the next day and ADG stated that Mecar USA transacted business, either directly or indirectly, with six individuals indicted in the Africa Sting case.

In a June 2010 press release (see here), ADG stated as follows:

“The DOJ recently advised ADG that it is conducting an industry-wide review, and therefore the DOJ’s investigation of ADG will be ongoing. As a result, Chemring indicated that it was unwilling to consummate the merger pursuant to the terms of the merger agreement.”

Cherming Group noted (see here) that because of the DOJ’s expanded review “it could not complete the acquisition of ADG pursuant to the Merger Agreement.”

Instead, Cherming “entered into a new conditional agreement with ADG to acquire ADG’s two principal operating businesses – Mecar S.A., based in Nivelles, Belgium and Mecar US, based in Marshall, Texas (collectively “Mecar”). Pursuant to this new agreement, Chemring agreed to acquire the entire issued share capital of Mecar S.A. and the business and assets of Mecar US for a total cash consideration of $59 million.

Fast forward to last week.

ADG filed its definitive proxy statement regarding the merger.

In pertinent part it stated as follows:

“ADG’s audit committee, with the assistance of independent outside counsel, is conducting an internal review of the matters raised by the DOJ’s subpoena and the related indictment of Mecar USA’s former employee. ADG has been cooperating with the DOJ and is working to comply with the DOJ’s subpoena. ADG has also been providing regular updates to Chemring on the progress of the internal review and has been responding to Chemring’s requests for additional information.”

“As a result of the DOJ subpoena, the special meeting of stockholders to adopt the Merger Agreement with Chemring, originally scheduled for April 8, 2010, was postponed twice and then adjourned several times, most recently to June 30, 2010. As discussed below, our board of directors determined that these postponements and adjournments were desirable, for among other reasons, to continue ADG’s internal review, to respond to requests from Chemring for additional information and, with respect to the later adjournments, to provide additional time for ADG and Chemring to discuss restructuring Chemring’s acquisition of ADG.”

Restructuring did indeed occur.

As stated in the proxy materials:

“After Chemring indicated it would not complete the originally contemplated merger pursuant to the Merger Agreement, we entered into the Sale Agreement to restructure the acquisition as a purchase of our assets in order to address Chemring’s concerns about the uncertainties arising out of the DOJ subpoena. This revised transaction structure allows us to complete the sale of our operating assets to Chemring while retaining liabilities and expenses associated with the DOJ subpoena.”

[Note – in an asset sale an acquirer ordinarily does not acquire the selling entity’s liabilities, in a stock sale or merger the acquirer ordinarily does]

“Our board of directors’ original decision to enter into the Merger Agreement, and its subsequent decision to restructure the acquisition as the proposed Asset Sale, were the result of a decision-making process that evaluated ADG’s strategic alternatives, including its prospects of continuing as a stand-alone company, and that followed a market test process with the assistance of our financial advisor.”

The proxy materials then state:

“Our board of directors recommends that you vote FOR the authorization of the Asset Sale.”

The special meeting of shareholders is currently scheduled for August 31, 2010.

The ADG – Chemring saga is an interesting case study of the FCPA’s long tentacles.

It is particularly relevant given the recent General Electric settlement of a SEC FCPA enforcement action for $23.4 million. As noted in this prior post, GE’s exposure was primarily based on the conduct of two entities GE acquired after the conduct at issue occurred. Yet, as the SEC alleged, GE acquired the liabilities of these entities, along with assets, in the acquisition and that GE is the successor to the liability of these entities.

ADG – Chemring is not the only deal in which the FCPA is an issue.

For another real-world example look no further than The PBSJ Corporation – WS Atkins merger.

Remember PBSJ?

In January, the company disclosed the existence of an internal investigation to “determine whether any laws, including the Foreign Corrupt Practices Act (“FCPA”), may have been violated in connection with certain projects undertaken by PBS&J International, Inc., one of our subsidiaries with revenue of $4.3 million in fiscal year 2008 and $3.9 million in fiscal year 2009, in certain foreign countries.” (See here).

In its May 10-Q filing (see here) PBSJ stated that the “udit Committee completed the internal investigation in May 2010. The results of that investigation suggest that FCPA violations may have occurred.”

According to this recent filing, the company has spent $7 million on the FCPA investigation … that’s nearly twice the FY 2009 revenue of the relevant subsidiary!

Yesterday, PBSJ announced (see here) “that it has entered into a definitive merger agreement by which WS Atkins plc, [headquartered in the United Kingdom] the world’s 11th largest design firm, will acquire PBSJ in an all-cash transaction for $17.137 per share of PBSJ.”

The merger agreement (see here) states that PBSJ “has fully disclosed to [WS Atkins] all information that would be material to a purchaser’s assessment of the FCPA Investigation or that has been prepared or gathered in connection with the FCPA Investigation that could reasonably be expected to have a Company Material Adverse Effect.” The agreement further states that the parties “agree that neither the existence of the FCPA Investigation nor any particular development in the FCPA Investigation shall, in and of itself, constitute a Company Material Adverse Effect, but any significant effect, event, development or change relating to the FCPA Investigation may be considered in determining whether there has been a Company Material Adverse Effect.”

One more example of the FCPA’s long tentacles?

Analysts may downgrade a company because of FCPA issues.

That is exactly what Cowen & Co. recently did with Raytheon Company.

Among the reasons for the downgrade to neutral from outperform was the FCPA.

In a report authored by Cai von Rumohr, Gautam Khanna, and Mark Hokanson the authors state:

“Since second-quarter 2009, Raytheon has conducted ‘a self-initiated review’ of FCPA issues with ‘possible areas of concern’ regarding ‘a jurisdiction where we do business.’ It’s unclear when the review might end or if it’s related to early retirement of D. Smith, president of IDS when Raytheon signed the $3.3 billion UAE Patriot order. FCPA issues are a risk given: (1) increased Department of Justice priority; (2) rising size of FCPA fines (top four year-to-date average equals $300 million-plus); (3) noncompliance is fined even with voluntary disclosure and strict ethics programs; and (4) whistleblower provision in Financial Reform Law.”

The company’s most recent 10-Q filing (see here) states as follows:

“We are currently conducting a self-initiated internal review of certain of our international operations, focusing on compliance with the Foreign Corrupt Practices Act. In the course of the review, we have identified several possible areas of concern relating to payments made in connection with certain international operations related to a jurisdiction where we do business. We have voluntarily contacted the SEC and the Department of Justice to advise both agencies that an internal review is underway. Because the internal review is ongoing, we cannot predict the ultimate consequences of the review. Based on the information available to date, we do not believe that the results of this review will have a material adverse effect on our financial position, results of operations or liquidity.”

Raytheon “is a technology and innovation leader specializing in defense, homeland security and other government markets throughout the world.” The company is one of the largest defense contractors to the U.S. government and the majority of its revenue comes from U.S. government contracts.

Smith & Wesson’s Recent Disclosures

In January, Amaro Goncalves was one of the individuals indicted in the Africa Sting case.

Goncalves is described in the indictment as “the Vice President of Sales for Company A, a United States company headquartered in Springfield, Massachusetts. Company A was a world-wide leader in the design and manufacture of firearms, firearm safety/security products, rifles, firearms systems, and accessories. The shares of Company A were publicly traded on the NASDAQ stock exchange.”

Company A is Smith & Wesson, a fact quickly acknowledged by the company in this press release.

I noted in January:

“At present, this case only involves individuals.

However, as indicated by Assistant Attorney General Breuer in yesterday’s DOJ release (here) the investigation is “ongoing” and you can bet that many of the companies which employ these individuals are “lawyering up” as past FCPA enforcement actions demonstrate that corporate enforcement actions or investigations often, but not always, precede or follow individual enforcement actions.”

Indeed, the companies indirectly implicated in the Africa Sting by their employees alleged conduct did “lawyer up.”

Because Smith & Wesson is a public company, the public is provided a better glimpse of how the Africa Sting case is affecting this company compared to the many other companies indirectly implicated – many of which are small, private businesses.

On June 30th, Smith & Wesson reported its Fourth Quarter and Full Year 2010 Financial Results Ended April 30, 2010 (see here). The company release contains this paragraph:

“Operating expenses of $89.1 million, or 21.9% of sales, for fiscal 2010 decreased versus operating expenses of $170.5 million, or 50.9% of sales, for fiscal 2009. Excluding the impact of the impairment charge recorded in the second quarter of fiscal 2009 and $9.7 million of operating expense at USR not contained in prior year results, operating expenses increased $7.1 million for the current fiscal year. This increase included $3.2 million in legal and consulting fees related to allegations against one of our employees under the Foreign Corrupt Practices Act (FCPA).”

If nothing more, Amaro Goncalves is probably not on the short-list for employee of the month because of his alleged conduct.

Yesterday, Smith & Wesson filed its annual report (see here). The report contained the following:

Foreign Corrupt Practices Act (FCPA)

On January 19, 2010, the U.S. Department of Justice (“DOJ”) unsealed indictments of 22 individuals from the law enforcement and military equipment industries, one of whom was our Vice President−Sales, International & U.S. Law Enforcement. We were not charged in the indictment. We also were served with a Grand Jury subpoena for the production of documents. We have always taken, and continue to take seriously, our obligation as an industry leader to foster a responsible and ethical culture, which includes adherence to laws and industry regulations in the United States and abroad. Although we are cooperating fully with the DOJ in this matter and have undertaken a comprehensive review of company policies and procedures, the DOJ may determine that we have violated FCPA laws. We cannot predict when this investigation will be completed or its outcome. There could be additional indictments of our company, our officers, or our employees. If the DOJ determines that we violated FCPA laws, or if our employee is convicted of FCPA violations, we may face sanctions, including significant civil and criminal penalties. In addition, we could be prevented from bidding on domestic military and government contracts, and could risk debarment by the U.S. Department of State. We also face increased legal expenses and could see an increase in the cost of doing international business. We could also see private civil litigation arising as a result of the outcome of the investigation. In addition, responding to the investigation may divert the time and attention of our management from normal business operations. Regardless of the outcome of the investigation, the publicity surrounding the investigation and the potential risks associated with the investigation could negatively impact the perception of our company by investors, customers, and others.

SEC Investigation

Subsequent to the end of fiscal 2010, we received a letter from the staff of the SEC giving notice that the SEC is conducting a non−public, fact−finding inquiry to determine whether there have been any violations of the federal securities laws. It appears this civil inquiry was triggered in part by the DOJ investigation into potential FCPA violations. We have always taken, and continue to take seriously, our obligation as an industry leader to foster a responsible and ethical culture, which includes adherence to laws and industry regulations in the United States and abroad. Although we are cooperating fully with the SEC in this matter, the SEC may determine that we have violated federal securities laws. We cannot predict when this inquiry will be completed or its outcome. If the SEC determines that we have violated federal securities laws, we may face injunctive relief, disgorgement of ill−gotten gains, and sanctions, including fines and penalties, or may be forced to take corrective actions that could increase our costs or otherwise adversely affect our business, results of operations, and liquidity. We also face increased legal expenses and could see an increase in the cost of doing business. We could also see private civil litigation arising as a result of the outcome of this inquiry. In addition, responding to the inquiry may divert the time and attention of our management from normal business operations. Regardless of the outcome of the inquiry, the publicity surrounding the inquiry and the potential risks associated with the inquiry could negatively impact the perception of our company by investors, customers, and others.”

Smith & Wesson’s disclosure is hardly surprising. Anytime a company’s employee is criminally indicted for an FCPA violation, it is reasonable to assume that the DOJ will wonder “who knew what and when” and will seek to discover whether the employee’s alleged conduct is isolated or evidence of broader, more systemic conduct. When that employee is the “Vice President−Sales, International & U.S. Law Enforcement” it is virtually guaranteed that the DOJ will ask such questions.

It is unlikely that Smith & Wesson is the only company implicated in the Africa Sting case under investigation. However, as stated above, because Smith & Wesson is a public company, the public is provided a better glimpse of how the Africa Sting case is affecting this company compared to the many other companies implicated – many of which are small, private businesses. These companies are “domestic concerns” and thus subject to the FCPA, it’s just that FCPA inquiries of non-public companies generate less attention that FCPA inquiries of public companies.

Nor is it surprising that Smith & Wesson disclosed the existence of an SEC investigation.

I noted in January:

“Given that one of the individuals indicted is employed by a public-company issuer, the SEC may also be interested in that company from, at the very least, an FCPA books and records and internal control perspective.”

Even if Smith & Wesson is never charged with violating the FCPA’s antibribery provisions, it is likely that the company could face some exposure under the FCPA’s books and records and internal control provisions.

The SEC’s analysis would likely be as follows.

Goncalves, if the alleged conduct is true, no doubt, while a Smith & Wesson employee, made entries on the company’s books and records that did not accurately or fairly represent the transactions at issue. That, in and of itself, would be an FCPA books and records violation. Further, the SEC will take the position that if Smith & Wesson had effective internal controls, Goncalves could not have engaged in the conduct he is alleged to have engaged in. If he did, this in and of itself, is evidence that Smith & Wesson lacked effective internal controls.

A bit simplistic, yes. But this is perhaps how the Smith & Wesson inquiry will play out.

A final point.

Smith & Wesson is a supplier to numerous government customers and military installations. Under guidelines issued by the Office of Management and Budget, a person or firm found in violation of the FCPA may be barred from doing business with the Federal government. Add this issue to the list of issues to follow as the Smith & Wesson FCPA inquiry escalates. However, this sanction (to my knowledge) has never been used against an FCPA violator.

Disconnected … Another Telecommunications Company Settles An FCPA Enforcement Action

Yesterday, Veraz Networks, Inc. (see here) joined a long list of telecommunications companies to recently settle an FCPA enforcement action. Veraz, a California-based telecommunications provider, went public in April 2007 and sells its telecommunication products through both direct and indirect sales channels with a majority of its revenue coming from sales outside of the U.S.

Other telecommunications companies, or individuals employed in that industry, to recently resolve FCPA enforcement actions include: UTStarcom (see here and here for the enforcement action), Latin Node, Inc. (see here for the enforcement action), Lucent Technologies (see here and here for the enforcement action), Siemens (in part, see here for the enforcement action), various individuals in connection with the Haiti Teleco matter (see here for the enforcement action), and various employees of ITXC Corporation (see here for the enforcement action). Pending FCPA enforcement actions against telecommunications companies presumably include: Magygar Telekom (see here) and Global Crossing Limited (see here).

That’s a long list.

Back to Veraz.

According to the SEC release (see here), Veraz violated the FCPA’s books and records and internal control provisions in connection with “improper payments made by Veraz to foreign officials in China and Vietnam after the company went public in 2007.”

The SEC complaint (see here) alleges that “from 2007 to 2008, Veraz resellers, consultants, and employees made and offered payments to employees of government-controlled telecommunications companies in China and Vietnam with the purpose and effect of improperly influencing these foreign officials to award or continue to do business with Veraz.” According to the complaint, a Veraz supervisor referred to certain of these payments as the “gift scheme.” The complaint further alleges that “Veraz failed to accurately record these improper payments on the Company’s books and records, and failed to implement or maintain a system of effective internal accounting controls to prevent them in violation of the FCPA […] and to put in place internal controls that are reasonably designed to ensure that their books and records are accurate.”

The SEC’s sparse factual allegations fall under two headings: “Veraz Made Improper Payments to Chinese Government Officials” and “Veraz Made Improper Payments to Vietnamese Government Officials.”

As to payments to “Chinese Government Officials,” the SEC alleges that Veraz engaged a consultant in China to assist Veraz sell products “to a telecommunications company controlled by the government of China.” The complaint further alleges that the consultant “provided approximately $4,500 worth of gifts to officials” of the telecommunications company “in an attempt to secure a business deal for Veraz.” The complaint further alleges that the consultant “also offered a separate improper payment to officials” at the telecommunications company “to secure a deal for Veraz valued at approximately $233,000.” According to the complaint, “Veraz discovered this improper offer of payment prior to receiving any money from the transaction and cancelled the sale.”

As to payments to “Vietnamese Government Officials,” the SEC alleges that “Veraz sold products to a telecommunications company controlled by the government of Vietnam through a Singapore-based reseller.” According to the complaint, a “Veraz employee, through the Singapore-based reseller, at times made or offered illicit payments to the CEO” of the telecommunications company “in order to win business for Veraz.” The complaint further alleges that Veraz “approved of and reimbursed its employee for questionable expenses related” to the telecommunications company “including gifts and entertainment” for employees of the company and “flowers for the wife of the CEO” of the company.

In both instances, according to the complaint: (i) Veraz did not make or keep books, records, and accounts which, in reasonable detail, accurately and fairly reflected the improper gifts or payments provided by Veraz; and (ii) Veraz failed to devise and maintain an effective system of internal controls to prevent or detect violations of the FCPA.

Based on these allegations, the SEC charged Veraz with violating the FCPA’s books and records and internal control provisions.

According to the SEC’s release, Veraz, without admitting or denying the SEC’s allegations, consented to entry of a final judgment permanently enjoining Veraz from future FCPA violations and ordering Veraz to pay a $300,000 civil penalty.

In an article to be published later this summer titled “The Facade of FCPA Enforcement,” I highlight four pillars which contribute to the facade of FCPA enforcement.

The first pillar highlights the frequency in which FCPA enforcement actions are resolved based on uninformative, bare-bones, and legal conclusory statements of facts or allegations. Check as to the Veraz enforcement action. Just who were those Chinese and Vietnamese Government officials? The SEC complaint contains these wonderfully descriptive allegations: “a telecommunications company controlled by the government of China” and a “telecommunications company controlled by the government of Vietnam.” What was the nature of the “illicit payments” made or offered to the CEO of the Vietnamese telecommunications company and what were the “questionable expenses” related to the same company? The complaint does not elaborate.

The second pillar highlights the increasing and alarming trend of FCPA enforcement actions being resolved based on tenuous, dubious and untested legal theories. Check as to the Veraz enforcement action. True, the enforcement action does not allege antibribery violations, but let’s face it, if Veraz’s books and records did not adequately reflect sales and marketing expenses associated with domestic customers and if Veraz did not have sufficient internal controls to prevent and detect such expenses, we would not be reading about this case as an “FCPA enforcement action” even though such conduct would similarly violate the FCPA’s books and records and internal control provisions. Rather, this is an FCPA enforcement action (in the traditional sense) because the improperly recorded payments were directed at “foreign officials” – so alleges the SEC under the theory, never accepted by a court, that employees of state-owned or state-controlled enterprises are “foreign officials” under the FCPA.

The third pillar highlights highlights the opaque nature of FCPA enforcement and how similar enforcement actions, based on the government’s own allegations, are resolved with materially different charges and penalties. Check as to the Veraz enforcement action. If ever there were carbon copy FCPA enforcement actions, it would seem to be Veraz, UTStarcom and Lucent. All principally involved providing things of value to Chinese “foreign officials” (employees of alleged state-owned enterprises). One would expect then that the charges would be similar as well. Wrong. Veraz appears to be only an SEC enforcement action charging only FCPA books and records and internal control violations. UTStarcom involved a DOJ non-prosecution agreement and an SEC enforcement action charging FCPA antibribery as well as books and records and internal control violations. Lucent also involved a DOJ non-prosecution agreement and an SEC enforcement action charging only FCPA books and records and internal control violations. Thus, three similar cases resolved three distinct ways.

[The fourth pillar highlights how seemingly clear-cut instances of corporate bribery and corruption (per the government’s own allegations) are resolved without FCPA antibribery charges. Veraz is not BAE, Siemens, or Daimler – and thus this pillar is of little significance here].

One final point demonstrated by the Veraz enforcement action: resolution fines/penalties represent merely the “tip of the iceberg” in terms of the costs associated with an FCPA inquiry.

The final fine amount, $300,000, is 1/10 the amount of expenses incurred by the company in connection with the SEC investigation. As stated in the company’s most recent 10-Q filing (May 2010) (see here) “as of March 31, 2010, the Company has incurred expenses relating to the SEC investigation of approximately $3 million.”

No wonder Forbes (see here) recently termed the increase in FCPA enforcement the “bribery racket.” No wonder the Wall Street Journal Law Blog (see here) recently posed the question – “is the FCPA Just a Full-Employment Act for the Private Bar?”

The Bribery Racket

Those are the words on the cover of the current issue of Forbes Magazine.

The feature article (here) by Nathan Vardi is “How Federal Crackdown on Bribery Hurts Business And Enriches Insiders.”

Given my soon to be published piece, “The Facade of FCPA Enforcement” and my other comments on FCPA Inc., the FCPA’s revolving door, voluntary disclosure and the role of FCPA counsel, etc. (see here, here, here and here), Vardi’s article resonates with me, and perhaps with you as well.

Below are a few snippets from Vardi’s article:

“[FCPA is” nice work if you can get it–and to the tune of billions of dollars, lawyers, accountants and consultants, many with past ties to the Justice Department, are getting it. In the last few years, as the feds cranked up enforcement of the 33-year-old Foreign Corrupt Practices Act, a thriving and lucrative anti-bribery complex has emerged. Whether it’s having any impact on reducing bribery is another matter. Instead, companies can find themselves getting extorted in foreign lands, only to get extorted again by Washington. It works generally like this: A company that suspects bribery overseas hires a battery of lawyers, accountants and investigators who may then report any findings to Justice in hopes of some undefined leniency. More likely, the company pays out huge fines and then hires more lawyers as government-mandated compliance monitors, a job that can stretch into years of legal billing.”

“This is good business for law firms,” says Joseph Covington, who headed the Justice Department’s FCPA efforts in the 1980s and is now codirector of white-collar defense at Jenner & Block. “This is good business for accounting firms, it’s good business for consulting firms, the media–and Justice Department lawyers who create the marketplace and then get yourself a job.”

“[Mark] Mendelsohn declines to comment on his new job other than to note that it is routine for lawyers who leave the Justice Department to do white-collar defense work for corporations.” (For more on Mendelsohn see here and here)

“What are these prosecutors accomplishing? Maybe they are fighting for truth and justice. Maybe, that is, it makes sense for the U.S. to hold its corporations to a higher standard of integrity than the French or Chinese outfits they compete against when trying to win business abroad. The prosecutors, though, are doing something else at the same time. They are creating a lucrative industry–FCPA defense work–in which they will someday be prime candidates for the cushy assignments. A former prosecutor, to be sure, does not work on the defense of the same case he had as a government lawyer. But there is nothing to stop prosecutors from ginning up cases that will feed the lawyers who used to have their jobs or from looking forward to a payday in the private sector that will be made possible by their busy successors at Justice.”

“Many of the 150 pending cases will probably end with so-called deferred prosecution agreements. These involve the government threatening to bring an indictment against a company–which could effectively put the firm out of business–unless it agrees to adhere to certain practices. This hammer gives the feds immense power–for one thing, they don’t have to prove their legal theories of bribery in court.” (For more on non-prosecution and deferred prosecution agreements and the FCPA see here).

“The scope of things companies have to worry about is enlarging all the time as the government asserts violations in circumstances where it’s unclear if they would prevail in court,” says Lucinda Low, who has helped companies deal with the FCPA for years. “You don’t have the checks and balances you would normally have if you had more litigation.”

“The FCPA provides moneymaking opportunities even after a case is resolved. Following settlements the Justice Department often requires companies to hire a compliance monitor, whose job is to review a company’s continuing anti-bribery efforts. It seems that an important qualification for these gigs is having previously worked at the Justice Department–as 7 of the 13 FCPA monitors have done. When it came time for Daimler to pick a government-mandated compliance monitor for three years, the company hired former fbi director Louis Freeh.” (For more see here and here).

Vardi also discusses the recent NATCO matter (see here) – a case that resulted in a $65,000 SEC civil monetary penalty. Vardi states, “Natco reported the issue to the government and paid outside lawyers and accountants $11 million to investigate, causing Natco cash-flow problems.” (For additional voluntary disclosure cases that have seemingly gotten out-of-hand see here).

There’s alot in Vardi’s article.

So, what do you think?

As always, comments (even if anonymous) are welcome.

Ready, Set, Go …

The 2010 FCPA enforcement year has begun.

Yesterday, the SEC announced (here) resolution of an FCPA books and records and internal controls action against NATCO Group Inc. – a Houston based “worldwide leader in design, manufacture, and service” of oil and gas process equipment (see here).

The SEC complaint (here) alleges that TEST Automation & Controls, Inc., a wholly-owned subsidiary of NATCO Group, “created and accepted false documents while paying extorted immigration fines and obtaining immigration visas in the Republic of Kazakhstan.” According to the complaint, “NATCO’s system of internal accounting controls failed to ensure that TEST recorded the true purpose of the payments, and NATCO’s consolidated books and records did not accurately reflect these payments.”

According to the complaint, TEST maintained a branch office in Kazakhstan and in June 2005 it won a contract which required it to hire both expatriates and local Kazakh workers. Pursuant to Kazakh law, TEST needed to obtain immigration documentation before an expatriate worker could enter the country. Thereafter, Kazakh immigration authorities claimed that TEST’s expatriate workers were working without proper documentation and the authorities threatened to fine, jail, or deport the workers if TEST did not pay cash fines.

According to the complaint, TEST employees believed the threats to be genuine and, after consulting with U.S. TEST management who authorized the payments, paid the officials approximately $45,0000 using their personal funds for which the employees were reimbursed by TEST.

The complaint alleges that when reimbursing the employees for these payments, TEST inaccurately described the money as: (i) being an advance on a bonus; and (ii) visa fines.

The complaint further alleges that TEST used consultants in Kazakhstan to assist in obtaining immigration documentation for its expatriate employees and that “one of these consultants did not have a license to perform visa services, but maintained close ties to an employee working at the Kazakh Ministry of Labor, the entity issuing the visas.” According to the complaint, the consultant twice requested cash from TEST to help him obtain the visas and the complaint alleges that the consultant provided TEST with bogus invoices to support the payments.

Based on the above allegations, the SEC charged NATCO with FCPA books and records and internal control violations even though the complaint is completely silent as to any involvement or knowledge by NATCO in the conduct at issue. This action is thus the latest example of an issuer being strictly liable for a subsidiary’s books and records violations (see here for a prior post).

Without admitting or denying the SEC’s allegations, NATCO agreed to pay a $65,000 civil penalty. According to the SEC’s findings in a related cease and desist order (here), during a routine internal audit review, NATCO discovered potential issues involving payments at TEST, conducted an internal investigation, and voluntarily disclosed the results to the SEC. The order also lists several other remedial measures NATCO implemented.

I’ve noted in prior posts that one of the effects of voluntary disclosure is that it sets into motion a whole series of events including, in many cases, a much broader review of the company’s operations so that the company can answer the enforcement agencies’ “where else may this have occurred” question.

On this issue, the SEC order states that NATCO “expanded its investigation to examine TEST’s other worldwide operations, including Nigeria, Angola, and China, geographic locations with historic FCPA concerns.” However, the SEC order notes that “NATCO’s expanded internal investigation of TEST uncovered no wrongdoing.”

According to the complaint, at all times relevant to the complaint, NATCO’s stock was listed on the NYSE, but in November 2009 NATCO became a subsidiary of Cameron International Corporation (here) (an NYSE listed company) and NATCO’s NYSE listing ended.

The NATCO enforcement action is “as garden variety” of an FCPA enforcement action as perhaps one will find. Not only does moving product into and out of a country expose a company to FCPA risk, but so too does moving employees into and out of a country.

The NATCO civil penalty also demonstrates that in certain cases, the smallest “cost” of an alleged FCPA violation are the fines or penalties, figures which are so dwarfed by investigative, remedial and resolution costs.

Powered by WordPress. Designed by WooThemes