Category: China

Misuse Of Visa Invitation Letters In China Travel

Today’s guest post is from Eric Carlson. Carlson is a Shanghai-based partner of Covington & Burling LLP. He specializes in anti-corruption compliance and internal investigations, with a particular focus on China and other regions of Asia. He speaks Mandarin and Cantonese and can be contacted here.

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In recent years, some 17 settled FCPA enforcement actions involved, in whole or in part, allegations of improper travel benefits to Chinese citizens, often involving leisure travel to the United States.[1]

This post outlines travel restrictions imposed by the Chinese government on its citizens and how companies may inadvertently facilitate leisure travel through visa invitation letters.

Qualcomm Caves – Pays $7.5 Million In Connection With Alleged Improper Hiring And Other Practices In China

It was a “two for Tuesday” yesterday as the DOJ announced a Foreign Corrupt Practices Act (and related) enforcement action against Olympus Latin America Inc. and related entities and the SEC announced an FCPA enforcement action against Qualcomm.

This post highlights the Qualcomm action and a future post will highlight the Olympus action.

FCPA Professor has been following Qualcomm’s FCPA scrutiny since it was announced in January 2012 (see here).

Qualcomm maintained then that it “believes that it is in compliance with the requirements of the FCPA.” As highlighted in this prior post, things escalated in March 2014 when Qualcomm disclosed that it had received a Wells Notice from the SEC. As noted in the prior post, Wells Notices are rare in the the FCPA context for the simple reason that few issuers actually publicly push back against the SEC. Shortly after receiving the Wells Notice, Qualcomm disclosed that it responded to the SEC “explaining why the Company believes it has not violated the FCPA and therefore enforcement action is not warranted.”

As highlighted in this prior post, Qualcomm disclosed in November 2015 that “the DOJ notified the Company that it was terminating its [related] investigation and would not pursue charges in this matter.” As to the SEC investigation, Qualcomm continued to maintain that it had not violated the FCPA and that an enforcement action was not warranted.

However, when push came to shove the party holding the stick prevailed and Qualcomm caved by agreeing to pay a $7.5 million civil penalty via an SEC administrative order in which the company neither admitted nor denied the SEC’s findings.

PTC Inc. And Related Entities Pay $28 Million In Yet Another FCPA Enforcement Action Involving Travel And Entertainment Provided To Alleged “Foreign Officials”

Approximately 5-10 years ago, foreign subsidiaries of PTC Inc. (a software company formerly known as Parametric Technology Corp.) arranged for alleged Chinese “foreign officials” to travel often to the U.S. to visit PTC’s facilities. The trips morphed to include non-business leisure travel to places such as New York, Las Vegas, Honolulu and included activities such as guided tours, golfing and other leisure activities. In addition, the foreign subsidiaries sometimes provided gifts (such as iPods, gift cards, wine and clothing) ranging from $50 to $600 to the alleged “foreign officials.”

The end result is that approximately $28 million is flowing into the U.S. treasury in the latest corporate FCPA enforcement action involving travel and entertainment of alleged “foreign officials”

The enforcement action, which has been expected for some time, involved:

• a DOJ non-prosecution agreement against Parametric Technology (Shanghai) Software Co. Ltd. and Parametric Technology (Hong Kong) Limited (collectively the “Companies”), but not PTC Inc., in which the Companies agreed to a criminal penalty of $14,540,000;
• an SEC administrative order against PTC Inc. which the company agreed to resolve through a payment of approximately $13.7 million ($11.9 million in disgorgement and $1.8 in prejudgment interest); and
• an SEC DPA against Yu Kai Yuan (A Chinese citizen who resides in Shanghai and a former employee of the PTC China entities) in what the SEC called “its first DPA with an individual in an FCPA case.”

DOJ

The conduct focused on the following entities as described in the NPA.

“Parametric Technology (Shanghai) Software Company Ltd. and Parametric Technology (Hong Kong) Ltd. are wholly owned, separate subsidiaries ofPTC through which PTC’s Chinese operations, including sales to Chinese customers, are managed. While the two entities comprising PTC China are structured separately, during the relevant period they conducted business as a single unit.”

According to the NPA:

“Many of PTC China’s customers were Chinese state-owned entities (“SOEs”) that were controlled by the government of China and performed functions that the Chinese government treated as its own, and thus were instrumentalities of the Chinese government as that term is used in the Foreign Corrupt Practices Act (“FCPA”) […] PTC China employees were aware that many of its customers were Chinese SOEs whose employees were Chinese government officials.”

Under the heading “Improper Payments,” the NPA states:

“PTC China routinely engaged the services of local “business partners,” Chinese companies that helped PTC China find prospective contracts, assisted PTC China in the sales process with Chinese SOEs, and provided additional services to PTC China’s customers that had been outsourced by PTC China, including information technology services. Business Partner 1 [described as a Chinese company that worked with PTC on contracts with Chinese SOEs, providing sales assistance and certain outsourcing services] and Business Partner 2 [described the same way as Business Partner 1] were the primary business partners used by PTC China. PTC China failed to conduct meaningful due diligence of its Chinese business partners, notably with respect to corruption risks or anti-corruption controls of these Chinese business partners.

PTC China’s senior sales staff had wide discretion in setting the fee arrangements with Chinese business partners. Generally, commissions to business partners were set as a percentage of the contract price if PTC China won the contract in question. These commissions were typically referred to as “influence fees” to help PTC China win contracts. If the business partner was to provide subcontracted services such as information technology services, those services might either be included in the total commission or itemized separately using a line item referred to as “COD,” for “completely outsourced deals.”

PTC had a corporate theatre at its headquarters in Massachusetts that is designed for demonstrations of its products, and PTC headquarters is also equipped to provide customer training on its products. According to PTC policy, PTC should not pay for customer travel to its headquarters for such training. However, during contract negotiations, Chinese SOE customers frequently requested that PTC China provide employees with travel to the United States, nominally for training at PTC headquarters in Massachusetts, but primarily for recreational travel to other parts of the United States. PTC China, its business partner, and the SOE would determine a travel budget, which was then added into the contract price. In some cases, the overseas travel costs were specifically itemized in the initial contract documents for approval by senior PTC China sales staff; however, the overseas travel costs line item was removed from the final contract documents that were signed by PTC and the SOEs. Instead, for a time, the money budgeted for overseas travel was disguised using the COD line item to make it appear as though the travel expenses were subcontracting payments to the business partner, or simply included in the business partner’s overall commission.

Following PTC’s discovery that the COD line item was being improperly used in certain instances, travel costs were included in the business partner commissions by PTC China to avoid detection by PTC. The business partners, often Business Partner 1 or Business Partner 2, then paid for the overseas trips using the funds received from PTC China. The business partners provided PTC China with false documents indicating that they had performed subcontracted services even though there were no such services contemplated or performed and even though the funds were in fact used for, in part, improper recreational travel for Chinese SOE employees. For some of the more expensive trips for important Chinese SOE customers, the payments to the business partners were spread among and hidden within several contracts.

Some of the overseas travel expenses paid for by the business partners were tracked by PTC China sales staff on spreadsheets that they maintained separately from PTC China’s electronic accounting records to help PTC China better understand the composition of, and negotiate, fees with the Chinese business partners.

Generally, the trips included one or two days of business activities at PTC headquarters in order to justify the trips, preceded or followed by several days of sightseeing that lacked any business purpose and that was in fact the primary reason for the trip.

For example, in April 2008, two PTC China sales employees accompanied six employees of a Chinese SOE, including its president, on a trip to the United States. In addition to a one-day stop at PTC headquarters in Massachusetts, the group went on sightseeing visits to New York, Las Vegas, Los Angeles, and Honolulu. Travel records, e-mails, and photographs confirm that the additional stops on the trip were recreational and included tours of landmarks in New York, including Rockefeller Center, the Statue of Liberty, the United Nations, and the Empire State Building, a tour of the Grand Canyon in Las Vegas, and golfing and a tour of Pearl Harbor in Honolulu. Documents indicate that the trip cost over $50,000, which was paid for by Business Partner 1 at PTC China’s direction, and for which PTC China paid Business Partner 1. Within a year of the trip, PTC booked several contracts with the SOE totaling over $1 million.

In May 2010, a PTC China employee accompanied two employees of a Chinese SOE, including its information technology vice director and information technology project supervisor, on a trip to the United States. The trip included one day at PTC headquarters in Massachusetts, but also included sightseeing stops in New York, Atlanta, Las Vegas, and Los Angeles. These additional stops included shopping at an outlet mall and other stores, a Grand Canyon tour in Las Vegas, and a Universal Studios tour in Los Angeles. Subsequently, in July 2010, another PTC China employee accompanied seven employees of the same Chinese SOE on a second visit to the United States. In addition to stopping at PTC’s headquarters in Massachusetts, the trip included sightseeing visits to New York, Washington, DC, Las Vegas, San Diego, and Los Angeles, with recreational trips to various museums, the Empire State Building in New York, and Universal Studios in Los Angeles. Both trips were paid for by Business Partner 2 at PTC China’s direction, and for which PTC China paid Business Partner 2. The SOE entered into over $9 million worth of contracts with PTC.

In September 2010, a PTC China employee accompanied nine employees of three Chinese SOEs on a trip to the United States. The group spent one day at PTC’s headquarters in Massachusetts. The two-week long trip also included sightseeing stops in New York, Los Angeles, Las Vegas, and Honolulu and included tours of the Empire State Building, Universal Studios, and Pearl Harbor. An internal e-mail from the time one of the Chinese SOE customers entered into a contract with PTC prior to the trip actually taking place stated that “the customer just want sightseeing instead of the overseas training.” The Chinese SOEs whose employees went on the trip collectively entered into more than $3.5 million in contracts with PTC.

Overall, PTC China, through its business partners, paid over $1.1 million to fund, directly or indirectly, 24 trips for over 100 Chinese SOE employees that included a recreational component. In addition to the recreational trips, between in or around 2009 and in or around 2011, PTC China employees also provided over $250,000 in improper gifts and entertainment directly to Chinese SOE employees, in contravention of PTC policies imposing monetary limits and approval requirements for gifts and entertainment for government officials. PTC China’s sales staff’s longstanding practice of providing gifts to Chinese government officials was done at least in part to obtain or retain SOE business for and on behalf of PTC.”

The three-year NPA states:

“The [DOJ] enters into this Non-Prosecution Agreement based on the individual facts and circumstances presented by this case and the Companies. Among the factors considered in deciding what credit the Companies should receive were the following: (a) the Companies did not receive voluntary disclosure credit because, although the Companies, through their parent corporation PTC Inc., reported to the Office in 2011 certain misconduct identified through a then-ongoing internal investigation, they did not voluntarily disclose relevant facts known to PTC Inc. at the time of the initial disclosure until the Office uncovered salient facts regarding the Companies’ responsibility for the improper travel and entertainment expenditures at issue independently and brought them to the Companies’ attention, after which the Companies disclosed information that they had learned as part of an earlier internal investigation; (b) the Companies received partial cooperation credit of 15% off the bottom of the Sentencing Guidelines fine range for their cooperation with the Office’s investigation, including collecting, analyzing, and organizing voluminous evidence and information for the Office, but did not receive full cooperation credit for the reasons described in (a) above; (c) by the conclusion of the investigation, the Companies had provided to the Office all relevant facts known to them, including information about individuals involved in the FCP A misconduct; (d) the Companies engaged in extensive remedial measures, including a review and enhancement of the Companies’ and PTC Inc.’s compliance program, the establishment of a dedicated compliance team at the corporate level and at PTC China and enhanced policies for business partners, the termination of the business partners involved in the misconduct described in the Statement of Facts attached hereto as Attachment A, and the implementation of new customer travel policies and additional controls around expense reimbursement; (e) the Companies have committed to continue to enhance their compliance program and internal controls, including ensuring that their compliance program satisfies the minimum elements set forth in Attachment B to this Agreement; (f) based on the Companies’ remediation and the state of their compliance program, and that of their parent company PTC Inc., and the Companies’ agreement to report to the Office as set forth in Attachment C to this Agreement, the Office determined that an independent compliance monitor was unnecessary; (g) the nature and seriousness of the offense; (h) the Companies have no prior criminal history; and (i) the Companies have agreed to continue to cooperate with the Office in any ongoing investigation of the conduct of the Companies and their officers, directors, employees, agents, business partners, and consultants relating to violations of the Foreign Corrupt Practices Act (“FCPA”).”

In the NPA, the Companies admitted, accepted and acknowledged responsibility for the above conduct and, as standard in corporate FCPA enforcement actions, agreed to a so-called “muzzle clause.”

Pursuant to the NPA, the Companies agreed to pay a monetary penalty of approximately $14.5 million. In the NPA, the Companies agreed to report to the DOJ periodically, at no less than 12 month intervals during the three year term of the NPA “regarding regarding remediation and implementation of the compliance program and internal controls, policies and procedures” described in Attachment B of the NPA.

SEC

This administrative order, finding that PTC violated the FCPA’s anti-bribery, books and records and internal control provisions, is based on the same core conduct described in the DOJ NPA.

In summary fashion, the order states:

“This matter concerns violations of the anti-bribery, books and records and internal accounting controls provisions of the Foreign Corrupt Practices Act (“FCPA”) by PTC. From at least 2006 into 2011, two wholly-owned PTC subsidiaries (collectively, “PTC-China”) provided improper payments totaling nearly $1.5 million to government officials (“Chinese government officials” or “officials”) who were employed by Chinese state owned entities (“SOEs”) that were PTC customers. These payments were made to obtain or retain business from the SOEs. Specifically, PTC-China provided non-business travel, primarily sightseeing and tourist activities, as well as improper gifts and entertainment, to the Chinese government officials. PTC earned approximately $11.85 million in profits from sales contracts with SOEs whose officials received the improper payments.

PTC-China made these improper payments in two primary ways: 1) by providing at least $1,179,912 to third party agents, disguised as commission payments or sub-contracting fees, which were then used to pay for non-business related foreign travel for Chinese government officials; and 2) by allowing its sales staff to provide Chinese government officials with gifts and excessive entertainment of over $274,313. The payments were recorded as legitimate commissions and business expenses in PTC-China’s books and records, when in fact they were improper payments designed to benefit the Chinese government officials. PTC-China’s books and records were consolidated into PTC’s books and records, thereby causing PTC’s books and records to be inaccurate. PTC failed to devise and maintain an adequate system of internal accounting controls sufficient to prevent and detect these improper payments that occurred over several years.”

In pertinent part, the order states as follows regarding the leisure travel:

“PTC-China employees and the business partners typically arranged the overseas sightseeing trips in conjunction with a visit to a PTC facility. Most often, PTC-China sales staff arranged for Chinese government officials to visit PTC’s corporate headquarters in Massachusetts, for PTC to market and demonstrate the company’s products and services. The trips typically consisted of one day of business activities at PTC’s facility, followed or preceded by additional days of sightseeing visits that lacked any business purpose, all of which were paid for by the business partners using funds from their grossed up success fees and subcontracting payments. Some PTC employees in the United States generally understood that SOE officials were spending additional days in the country, including for tourist activities. And certain PTC employees based in China were aware that PTC-China employees were accompanying Chinese government officials to tourist destinations.

Typical travel destinations in the United States included New York, Las Vegas, San Diego, Los Angeles, and Honolulu, and involved guided tours, golfing, and other leisure activities. PTC-China sales staff usually accompanied the Chinese government officials on these trips. The Chinese government officials who went on the trips in turn were often signatories on the purchase agreements with PTC.

[…]

Overall, from 2006 into 2011, PTC-China, through its business partners, paid at least $1,179,912 to fund at least 10 trips for Chinese government officials that included significant non-business travel. The costs of these trips were improperly recorded in PTC’s books and records as COD or business partner related commissions or subcontracting payments, without any indication that they were primarily for sightseeing and other non-business related activities. PTC improperly profited by at least $11,858,000 from contracts obtained from the SOEs whose government officials participated on these trips.”

In pertinent part, the order states as follows regarding the “gifts and excessive entertainment”:

“From 2009 through 2011, PTC-China sales staff corruptly provided at least $274,313 in improper gifts and entertainment directly to Chinese government officials. The value of the gifts and entertainment generally ranged from $50 to $600, and often included small electronics (e.g., cell phones, iPods, and GPS systems), gift cards, wine, and clothing. PTC-China sales staff’s long standing practice of providing the gifts to Chinese government officials was done at least in part to obtain or retain SOE business.

By providing these gifts, PTC-China violated PTC’s corporate governance and internal controls policies. These policies included: $50 monetary limits on the provision of gifts and business entertainment to government officials; requiring PTC-China sales staff to obtain preapprovals for business expenses over $500; and requiring that PTC-China sales staff document the date, place, attendees, and purpose of business entertainment and the recipient. These gifts were improperly recorded as legitimate business expenses.”

Under the heading “PTC Failed to Devise and Maintain a System of Internal Accounting Controls,” the order states:

“From at least 2006 through 2011, PTC failed to devise and maintain an adequate internal accounting controls system to address the potential FCPA problems posed by its ownership of, and control over, PTC-China. Notably, during 2006, 2008, and 2010, PTC investigated compliance issues at PTC-China, including possible corruption involving its business partners. However, PTC failed to identify and stop the ongoing and systemic illicit payments to Chinese government officials by PTC-China personnel as described above and did not undertake effective remedial actions.

Despite these compliance issues, PTC failed to undertake periodic comprehensive risk assessments for PTC-China and to ensure that its internal accounting controls procedures were suited to PTC-China’s particular circumstances (in particular, its ongoing dealings with Chinese government officials). PTC’s Code of Ethics and Anti-Bribery policies for the provision of business entertainment were vague (i.e., stating that employees should use “good taste” and consider the “customary business standards in the community” when providing business entertainment) and not risk-based to China. And PTC did not have independent compliance staff or an internal audit function that had authority to review and test its internal accounting controls processes or intervene into management decisions and, if appropriate, take remedial actions.

As a result, PTC failed to identify and correct corporate governance and compliance breakdowns at PTC-China. Notably, PTC failed to: properly vet PTC-China’s business partners, which played a significant role for PTC-China as described above; police for corrupt payments by its business partners; monitor and supervise PTC-China’s senior sales staff to ensure that they enforced anti-corruption policies and kept accurate records concerning gifts to Chinese government officials; properly scrutinize travel related expenses to prevent reimbursement for employees’ airfare, lodging, and other expenses that were either personal in nature or gifts for customers; limit the number or total value of gifts PTC-China’s sales staff could provide to any single individual or entity; and provide sufficient FCPA training for its employees.”

Based on the above findings, the order finds that PTC violated the FCPA’s anti-bribery provisions, books and records provisions and internal control provisions. As to the anti-bribery findings, the order states:

“PTC-China used third party business partners to pay bribes in the form of travel, gifts and entertainment to Chinese government officials to obtain and retain business. PTC exercised substantial control over PTC-China by, among other things, creating functional reporting lines, approving PTC-China’s key decisions, and setting PTC-China’s business and financial goals. PTC entered into contracts directly with the SOEs as a result of the bribes paid through PTCChina’s business partners, and earned significant income from these contracts. Under applicable agency principles, PTC-China and its employees acted as agents of PTC during the relevant time and were acting within the scope of their authority and for the benefit of PTC when participating in the bribery scheme.”

Under the heading “PTC’s Self-Disclosure and Remedial Efforts,” the order states:

“PTC only discovered the improper payments to or for the benefit of Chinese government officials in 2011, while investigating complaints concerning a senior PTC-China salesperson. Upon learning this information, PTC, with the oversight of the Audit Committee of the Board of Directors, engaged independent counsel and an independent forensic consulting firm to undertake an investigation. PTC voluntarily self-reported the results of its internal investigation to the Commission and responded to information requests from the Commission staff. PTC did not, however, uncover or disclose the full scope and extent of PTC-China’s FCPA issues until 2014.

As part of its internal review and investigation, PTC undertook significant remedial measures including terminating the senior staff at PTC-China implicated in the FCPA violations. PTC also revised its pre-existing compliance program, updated and enhanced its financial accounting controls and its compliance protocols and policies worldwide, and implemented additional specific enhancements in China. These steps included: (1) reviewing and enhancing its anti-bribery policy, code of ethics, and gifts and entertainment policies to correct previous deficiencies; (2) establishing a dedicated compliance team, including a chief compliance officer and a new compliance director in China; (3) expanding its other compliance resources in China, including hiring a new vice president of finance for Asia and adding additional legal staff in China; (4) hiring a new management team in China, including a new China President; (5) enhancing its FCPA training for employees; (6) severing its relationships with the business partners that were implicated in the FCPA violations and discontinuing the use of COD partners or business referral partners generally; (7) implementing a comprehensive due diligence program for all other business partners that includes a risk-scoring system operated by a third party vendor and that includes FCPA training as part of the onboarding process; (8) obtaining quarterly anti-corruption certifications from sales staff; and (9) undertaking periodic compliance audits.”

The order states, under the heading “Non-Imposition of a Civil Penalty” as follows:

“[PTC] acknowledges that the Commission is not imposing a civil penalty based upon its payment of a $14,540,000 criminal fine as part of [PTC’s] subsidiaries’ settlement with the United States Department of Justice.”

As noted in this SEC release, PTC agreed to pay $11.858 million in disgorgement and $1.764 million in prejudgment interest. In the release, (Kara Brockmeyer, Chief of the SEC Enforcement Division’s FCPA Unit) stated:

“PTC failed to stop illicit payments despite indications of potential corruption by agents working with its Chinese subsidiaries, and the misconduct continued unabated for several years.”

Yuan DPA

Based on the same core conduct alleged above, the DPA alleges that Yuan caused violations of the FCPA’s books and records and internal controls provisions. Without admitting or denying the SEC’s allegations, Yuan agreed to refrain from violating the securities laws and agreed to a so-called “muzzle clause.”

Roger Witten (Wilmer Cutler) represented the PTC entities.

Elizabeth Gray (Willkie Farr) represented Yuan.

In this release PTC stated that the enforcement action involved “expenditures by certain former employees and business partners in China between 2006 and 2011.” The company further stated:

“The company is pleased to have resolved this matter. In connection with the agreements, PTC and its China subsidiaries will pay $28.2 million in penalties and interest to these agencies. PTC has implemented extensive remedial measures related to these matters, including the termination of the responsible employees and business partners, the establishment of an entirely new leadership team in China, the establishment of a dedicated compliance function, and other enhancements to compliance programs.”

PTC’s stock closed yesterday up .1%

Issues To Consider From The SciClone Enforcement Action

This recent post highlighted the SEC’s $12.8 million Foreign Corrupt Practices Act enforcement action against SciClone Pharmaceuticals.

The action was based on the marketing and promotional activities of a subsidiary that provided various things of value to healthcare professionals employed by state-owned hospitals in China including weekend trips, foreign language classes, “golf in the morning and beer drinking in the evening,” and travel to the Grand Canyon and Disneyland.

This post continues the analysis of the enforcement action by highlighting various issues to consider.

Time Line

In August 2010, SciClone disclosed that the SEC had issued the company a subpoena inquiring about its business practices in China.

If the SEC wants the public to have confidence in its SEC enforcement program, it must resolve instances of FCPA scrutiny much quicker. 5.5 years is simply inexcusable.

For instance, SciClone previously disclosed that in “July 2015, SciClone reached an agreement in principle with the staff of the US Securities and Exchange Commission (SEC) for a proposed settlement” and its disclosure specified the exact amount in last week’s settlement.

Should it really take 7 months to finalize an agreement in principle to settle?

Nearing 20

According to my figures, SciClone is the 18th corporate FCPA enforcement action based on the enforcement theory that employees of certain foreign health care systems are “foreign officials” under the FCPA.

This enforcement theory has never been subjected to any meaningful judicial scrutiny and, perhaps most telling as to its validity and legitimacy, is that none of the corporate enforcement actions based on this theory have resulted in related charges against an individual.

Initial Disclosure of Settlement Amount

In March 2014, SciClone disclosed, in connection with its FCPA scrutiny, “that a payment of $2.0 million to the government in penalties, fines and/or other remedies is probable.”

As highlighted above, the final settlement was $12.8 million.

Anything of Value

The enforcement action contains the following list of things of value.

• “weekend trips, vacations, gifts, expensive meals, foreign language classes, and entertainment”
• attendance at “the annual Qingdao Beer Festival consisting of golf in the morning and beer-drinking in the evening”
• “vacations to Anji, China”
• “paying for family vacations and regular family dinners”
• “$8,600 in lavish gifts”
• non-business “travel to Las Vegas and Los Angeles with tours of the Grand Canyon or Disneyland.”
• “sightseeing and [travel to] tourist locations such as Mt. Fuji.”
• “a weekend stay on the island of Hainan, a resort destination”

Chinese Travel Companies

Purported travel companies, as well as the fapiao’, are well-known compliance risks in China. On these issues, the SEC’s order states:

“Local Chinese travel companies were routinely hired to provide services (such as arranging transportation, accommodations, and meals for HCPs) in connection with what were ostensibly legitimate conferences, seminars, and other events. In addition to a lack of due diligence for these third party vendors … there was a lack of controls over the events to ensure they had an appropriate business purpose and that the events actually occurred. Many events did not include a legitimate educational purpose or the educational activities were minimal in comparison to the sightseeing or recreational activities.”

[…]

As part of its remedial efforts, SciClone conducted a detailed, comprehensive internal review of promotion expenses of employees … This review found high exception rates indicating violations of corporate policy that ranged from fake fapiao, inconsistent amounts or dates with fapiao, excessive gift or meal amounts, unverified events, doctored honoraria agreements, and duplicative meetings.”

Professional Fees and Expenses

Even though SciClone, in its March 2015 annual report, disclosed for the FY ended December 31, 2013 “$5.3 million related to legal matters associated with the ongoing government investigation and our ongoing improvements to our FCPA compliance efforts,” the company’s other disclosures over its long period of FCPA scrutiny lack specifics regarding pre-enforcement action professional fees and expenses.

Nevertheless, it is a safe assumption that the aggregate of such fees and expenses exceeded the $12.8 million settlement amount. Add to this SciClone’s post-enforcement action reporting obligations and the biggest “winner” of SciClone’s FCPA journey would appear to be the law firm representing SciClone.

Other Ripples

FCPA Professor has followed SciClone’s FCPA scrutiny since day one in August 2010 (see here).

As chronicled on FCPA Professor, the biggest storyline was how SciClone’s disclosure of the SEC subpoena triggered a nearly 40% drop in the company stock price, resulting in an absolute feeding frenzy of plaintiff lawyers filing FCPA-related civil claims. (See here and here).

Indeed, SciClone’s FCPA scrutiny is prominently featured in the article “Foreign Corrupt Practices Act Ripples“ which highlights how settlement amounts in an actual FCPA enforcement action are often only a relatively minor component of the overall financial consequences that can result from FCPA scrutiny or enforcement in this new era.

Nevertheless, savvy investors know that FCPA-induced dips often present buying opportunities and SciClone’s stock closed last Friday (the first day of trading after announcement of the FCPA enforcement action) up 8% and substantially higher compared to its August 2010 close (recognizing of course that a number of factors can influence a company’s stock price over the course of nearly 6 years).

For Your Viewing Pleasure

In this 2014 video, SciClone’s CEO talks about the company’s FCPA scrutiny and, more generally, compliance.

“Golf In The Morning And Beer-Drinking In the Evening” – SciClone Pharmaceuticals Resolves $12.8 Million FCPA Enforcement Action For Subsidiary’s Marketing And Promotional Activities

Yesterday, the SEC released this administrative action finding that SciClone Pharmaceuticals (a California pharmaceutical company with a China-focused business) violated the FCPA’s anti-bribery, books and records and internal controls provisions.

The conduct at issue related to the marketing and promotional activities of SciClone Pharmaceuticals International Ltd., a wholly-owned subsidiary of SciClone incorporated in the Cayman Islands with an affiliate in Hong Kong.

Among other things of value provided to healthcare professionals employed by state-owned hospitals in China were weekend trips, foreign language classes, “golf in the morning and beer drinking in the evening,” and travel to the Grand Canyon and Disneyland.

In summary fashion, the SEC’s order states:

“From at least 2007 to 2012, employees of SciClone subsidiaries, who acted as agents of SciClone in conducting business in China, gave money, gifts and other things of value to foreign officials, including healthcare professionals (“HCPs”) who were employed by state-owned hospitals in China, in order to obtain sales of SciClone pharmaceutical products. Various means were employed, and these schemes were known to and condoned by various managers within SciClone’s China-based corporate structure. The related transactions were falsely recorded in SciClone’s books and records as legitimate business expenses, such as sponsorships, travel and entertainment, conferences, honoraria, and promotion expenses. During this period, SciClone also failed to devise and maintain a sufficient system of internal accounting controls and lacked an effective anti-corruption compliance program.”

The conduct at issue largely focused on SciClone Pharmaceuticals International Ltd. (“SPIL”) which is described as a wholly-owned subsidiary of SciClone that is incorporated in the Cayman Islands with an affiliate in Hong Kong. According to the order:

“SciClone operates internationally primarily through subsidiaries, including SPIL and SPIL’s wholly-owned subsidiaries that sell and promote SciClone’s products in China. SciClone directs the relevant operations of SPIL and its subsidiaries and oversees SPIL’s operations through various means including through the appointment of directors and officers of SPIL, review and approval of its annual budget, business and financial goals, and oversight of its legal, audit, and compliance functions. SciClone also reviews and approves annual marketing and promotion budgets of SPIL and its subsidiaries. During relevant periods, some SciClone officers also served as officers and/or directors of SPIL, traveled frequently to China to participate in the management of SPIL, and were responsible for negotiating its contracts with its Chinese distributors. SPIL’s books and records are consolidated by SciClone and reported in its financial statements.”

Under the heading “Facts,” the order states:

“Although SciClone has local distributor relationships in China, its sales and marketing activities there are conducted through SPIL. Sales representatives in China regularly reported to senior management of SPIL on their efforts to increase sales. In these reports, sales representatives openly referred to instances in which they provided weekend trips, vacations, gifts, expensive meals, foreign language classes, and entertainment to HCPs in order to obtain an increase in prescriptions from those HCPs. As described by one sales manager, this was “luring them with the promise of profit.”

Some sales representatives referred to those HCPs with the greatest impact on their sales volume as VIP clients, and provided details on their volume of prescriptions when reporting to SPIL. This practice was known and encouraged by certain former SPIL managers at the time SPIL and SciClone had overlapping officers and/or directors. These reports included such things as:

• In August 2005, numerous surgical VIP clients including several hospital presidents attended the annual Qingdao Beer Festival consisting of golf in the morning and beer-drinking in the evening. In later years, SPIL continued to sponsor VIPs to the annual festival.
• In February 2007, VIP clients were provided with vacations to Anji, China.
• In November 2007, a sales representative recounted the experience of recruiting a VIP client by paying for family vacations and regular family dinners through an employee expense account. The sales representative attributed a nearly four-fold sales increase to that VIP as a result.

In 2007, SciClone submitted a license application to the State Food and Drug Administration for a new medical device product and had a renewal pending for its largest product. SciClone hired a well-connected regulatory affairs specialist (“Specialist”) to facilitate that licensing.

The Specialist arranged trips for two foreign officials to attend an academic conference in Greece at SciClone’s expense. The conference was solely related to the new medical device. One of the foreign officials had oversight over new product approvals, and the other foreign official had oversight over renewals for existing licensed products. At the time the trip was arranged, both SciClone’s renewal application and its application for a new license were pending.

As the foreign officials were unable to obtain travel visas in time to attend the conference in Greece, the Specialist instead provided them at least $8,600 in lavish gifts. The Specialist submitted two expense reimbursements for the gifts, the first of which was approved by the senior vice president of SPIL.

After learning of the gifts, SciClone terminated the Specialist and conducted an internal investigation related to the Specialist’s conduct and practices in China. The review did not look more broadly at sales and marketing practices in China. No further action or remedial measures were taken by SciClone or SPIL after the conclusion of the internal investigation in 2008.

Local Chinese travel companies were routinely hired to provide services (such as arranging transportation, accommodations, and meals for HCPs) in connection with what were ostensibly legitimate conferences, seminars, and other events. In addition to a lack of due diligence for these third party vendors, prior to 2012, there was a lack of controls over the events to ensure they had an appropriate business purpose and that the events actually occurred. Many events did not include a legitimate educational purpose or the educational activities were minimal in comparison to the sightseeing or recreational activities. For example:

• Between at least 2008 and 2010, SciClone sponsored dozens of Chinese HCPs to attend liver and oncology conferences in the United States. While a portion of the travel was devoted to educational purposes, it also consisted of significant sightseeing that involved, for example, travel to Las Vegas and Los Angeles with tours of the Grand Canyon or Disneyland.
• In April 2010, SPIL sponsored Chinese HCPs to attend a seminar in Japan regarding Zadaxin, its principle product. While a portion of the meeting appeared to involve half a day of educational activities, the remaining six days involved sightseeing and tourist locations such as Mt. Fuji.
• In March 2010, SPIL held its annual sales meeting in China on the island of Hainan, a resort destination. The sales meeting was attended by the sales representatives and senior management from SPIL. The weekend before the sales meeting, SPIL hosted VIP clients to a weekend stay on Hainan. There was no educational component to the VIP clients’ stay.

As part of its remedial efforts, SciClone conducted a detailed, comprehensive internal review of promotion expenses of employees from 2011 to early 2013. This review found high exception rates indicating violations of corporate policy that ranged from fake fapiao, inconsistent amounts or dates with fapiao, excessive gift or meal amounts, unverified events, doctored honoraria agreements, and duplicative meetings. A portion of the funds generated through the reimbursements were used as part of the sales practices described above that continued through at least 2012.”

Based on the above, the SEC found as follows:

“SciClone through SPIL violated [the anti-bribery provisions] by providing things of value to foreign officials, including healthcare professionals (“HCPs”) who were employed by state-owned hospitals in China, in order to obtain sales of SciClone pharmaceutical products. SciClone violated [the books and records provisions] by improperly recording the payments to health care providers as sales, marketing, and promotion expenses. The false entries were initially recorded by SPIL which were then consolidated and reported by SciClone in its consolidated financial statements. SciClone violated [the internal controls provisions] by failing to devise and maintain a sufficient system of internal accounting controls to detect and prevent the making of improper payments to foreign officials.”

Without admitting or denying the SEC’s findings, SciClone is required to cease and desist from committing future FCPA violations and agreed to pay approximately $12.8 million ($9,426,000 in disgorgement and prejudgment interest of $900,000 as well as a $2.5 million civil penalty).

In resolving the action, SciClone agreed to “report to the Commission staff periodically, at no less than nine-month intervals during a three-year term, the status of its remediation and implementation of compliance measures.” Specifically, SciClone is required to “submit to the Commission staff a written report within 180 calendar days of the entry of this Order setting forth a complete description of its Foreign Corrupt Practices Act (“FCPA”) and anti-corruption related remediation efforts to date, its proposals reasonably designed to improve the policies and procedures of Respondent for ensuring compliance with the FCPA and other applicable anticorruption laws, and the parameters of the subsequent reviews.” In addition, SciClone is required to “undertake at least three follow-up reviews, incorporating any comments provided by the Commission staff on the previous report, to further monitor and assess whether the policies and procedures of Respondent are reasonably designed to detect and prevent violations of the FCPA and other applicable anti-corruption laws.”

Under the heading “Remedial Efforts,” the order states:

“SciClone has taken steps to improve its internal accounting controls and to create a dedicated compliance function. These include the following: (1) hiring a compliance officer for its China operations; (2) undertaking an extensive review of the policies and procedures surrounding employee travel and entertainment reimbursements; (3) substantially reducing the number of suppliers providing third-party travel and event planning services; (4) improving its policies and procedures around third-party due diligence and payments; (5) incorporating anticorruption provisions in its third-party contracts; (6) providing anti-corruption training to its third-party travel and event planning vendors; (7) disciplining employees (and their managers) who violate SciClone’s policies; and (8) creating an internal audit department and compliance department.”

In this release, SciClone’s Chief Executive Officer (Friedhelm Blobel) commented: “We are very pleased to have reached a final settlement with the SEC and DOJ that is in line with our previous expectations and brings this matter to conclusion. We believe that we have established an industry-leading compliance program, including a commitment to constant improvement, which is a key business asset. We look forward to continuing to focus on providing high quality medicines to patients, growing our business and creating value for our shareholders.”

John Dwyer and Jessica Valenzuela Santamaria (Cooley) represented SciClone.