In 2014, Avon resolved a Foreign Corrupt Practices Act enforcement based in large part on obtaining a direct selling permit in China. (See here for the prior post).
In 2016, Nu Skin Enterprises resolved an FCPA enforcement action based in large part on obtaining a direct selling permit in China. (See here for the prior post).
In the latest enforcement action involving another company in the same general industry involving the same general conduct, the DOJ and SEC recently announced (here and here) that Herbalife agreed to pay approximately $123 million to resolve a parallel DOJ and SEC enforcement action. The corporate action follows the DOJ and SEC’s November 2019 enforcement action against former Herbalife China executives Yanliang Li (a citizen of China and former Managing Director of a Chinese division of Herbalife) and Hongwei Yang (a citizen of China and former head the External Affairs Department of a Chinese division of Herbalife).
As highlighted below, the enforcement action involved: (i) a DOJ component in which Herbalife was criminally charged with one count of conspiracy to violate the FCPA’s books and records provisions resolved through a deferred prosecution agreement in which the company agreed to pay approximately $55.7 million; and (ii) an SEC component involving an administrative order finding violations of the FCPA’s books and records and internal controls provisions in which Herbalife agreed to pay approximately $67.3 million.
The criminal information alleges, under the heading “Overview of the Scheme” as follows:
“Beginning in or about at least 2007 through in or about 2016, the Company, through Li and others, engaged in a scheme to falsify books and records and provide corrupt payments and benefits to Chinese government officials, including officials of Chinese Government Agencies 1 [described as being responsible for issuing licenses required for companies to conduct direct selling in China] and 2 [described as being responsible for enforcing compliance with Chinese laws applicable to direct selling companies and having the authority to conduct investigations into direct selling companies and to pursue and impose fines and other penalties against direct selling companies that it deemed non-compliant with applicable laws] and State-Owned Media Outlet [described as a media company that published articles about business and other issues in China], for the purpose of obtaining, retaining, and increasing Herbalife’s business in China by, among other things, (1) obtaining and retaining certain of Herbalife China’s direct selling licenses; (2) improperly influencing certain Chinese governmental investigations into Herbalife China’s compliance with Chinese laws applicable to its business; and (3) improperly influencing certain Chinese state-owned and state-controlled media for the purpose of removing negative media reports about Herbalife China.
During this timeframe, in order to conceal these improper payments and benefits, Herbalife, the defendant, through Li and others, knowingly and willfully conspired and agreed with others to maintain false accounting records that did not accurately and fairly reflect the transactions and dispositions of Herbalife’s assets, by, among other things, falsely recording certain improper payments and benefits as “travel and entertainment expenses” and maintaining false Sarbanes-Oxley sub-certification letters in Herbalife’s books, records, and accounts.”
According to the information, “during the time period that Herbalife China’s application for its first direct selling-license was pending – from at least in or about December 2006 through in or about March 2007 – the company provided improper payments and benefits to officials of Chinese Government Agencies 1 and 2, and falsely recorded and booked them.”
As alleged in the information:
“For example, in or about December 2006, Chinese Government Agency 2 officials closed an Herbalife China store in a provincial capital. A few days later, during a telephone call in or about December 2006, two sales managers at Herbalife China discussed paying provincial officials in order to lower the fine amount associated with the closing of the store. One of them said to the other: “I told Mary [Yang] that we should start negotiation at 80 and then lower it down to 70. I told the district bureau director that I would give 3 yuan for every 10 yuan lowered.”
In or about December 2006, Li and Yang discussed Li’s approval of giving “red envelopes”—i.e., cash payments—to Chinese Government Agency 2 officials, and obtaining reimbursement from Herbalife China for these red envelopes through reimbursement requests that falsely represented the expenditure.
In or about January 2007, Li and Yang discussed that Yang had “taken care of” a Chinese Government Agency 1 official before Yang had to address questions from that official related to Herbalife China’s pending direct selling license application for the Province. Li stated, “[T]he money works well on him!”
In or about March 2007, Li asked Yang if she agreed with making cash payments totaling 35,000 yuan to various Chinese Government Agency 2 officials, including 10,000 yuan to an official whom Li identified as a deputy director, for the purpose of minimizing future penalties against Herbalife China. Yang responded, “Okay,” so long as their colleague could “guarantee this . . . to be effective.” Li then said, “I was thinking it would be better to spend money beforehand than spend money afterwards. This money is a small sum after all, and if we were to be penalized, the figure will be much greater.”
In or about March 2007, Yang told an Herbalife China EA [External Affairs Department] employee to distribute gift cards to Chinese government officials, including Chinese Government Agency 1 officials who were involved in Herbalife China’s pending direct selling license application in the Province, and one non-government official potentially involved in media relations. Yang instructed, “Grab a pen and write down the gift list. Tell [another Herbalife China employee] you will go and pick up the money this afternoon. . . . Ask for 260,000 [yuan]. It will be sufficient.” Yang directed that 200,000 yuan be provided to the non-government official, with the remaining amount distributed in gift cards to the government officials.
That same day, Herbalife China Executive 1 and Li discussed making payments to Chinese government officials in connection with Herbalife China’s pending direct selling application in the Province. Herbalife China Executive 1 told Li that he was calling to talk about “what I spent to take care of things for our license.” Herbalife China Executive 1 added that “[Yang] is pressing me about that. I already took 10 out of the bank and gave it to her.”
The following day, Herbalife Executive 1, who was then an officer and high-level executive of Herbalife, the defendant, had a telephone call with Herbalife China Executive 1. During the call, which occurred in English, Herbalife China Executive 1 described to Herbalife Executive 1 how Herbalife China had obtained a license from Chinese Government Agency 1 for two cities in the Province and the plan to obtain licenses in other provinces. Herbalife China Executive 1 then raised concerns regarding an addendum to the “Improper Payments and Related Actions” policy—which had been enacted just three days earlier—that required approval from Herbalife’s senior management in Los Angeles for Herbalife China personnel to entertain any Chinese government official more than six times per year. In response to these concerns, Herbalife Executive 1 suggested that Herbalife China personnel falsify the details of the requests and the associated expense reimbursement documents.
That same day, Herbalife China Executive 1 and Yang discussed a meeting between Yang and a Chinese government official. Herbalife China Executive A asked Yang, “did you pay him off today?” Yang responses, “definitely.” Also on that day, Chinese Government Agency 1 issued to Herbalife China its first direct selling license for two cities in the Province.”
Under the heading “Further Improper Payments and Benefits to Government Officials and Further Falsification of Books and Records”
“After Herbalife China obtained its first direct selling license, the Company, through Li and others, continued to provide improper payments and benefits to Chinese government officials, and to falsely record them. The foreign officials who benefited from this scheme included officials of Chinese Government Agencies 1 and 2 and State-Owned Media Outlet. For example:
a. In or about May 2007, Yang had a telephone call with Herbalife China Executive 1 during which they discussed paying 10,000 yuan to a Chinese government official to reduce a government fine to the equivalent of $100,000 or less. About one week later, in or about June 2007, Herbalife China Executive 1 told Herbalife Executive 2, who was then an officer and a high-level executive of Herbalife, the defendant,”So it looks like it’s going to be less than or close to a 100,000 fine and that’s it. The rest of it, you know, the consultants are taking care of this.”
b. In or about January 2012, an EA Assistant Director spoke during a telephone call with an EA Assistant Manager responsible for processing reimbursement requests, and the EA Assistant Manager proposed that the EA Assistant Director submit false reimbursement requests related to the submission of approximately $87,000 of fake meal and gift invoices.
c. In or about September 2012, Yang told Li during a telephone call about an issue that Herbalife China was facing with Chinese Government Agency 2 in a particular municipality. Yang then told Li that EA had several months earlier spent approximately 20,000 yuan on a shopping trip and a spa visit for a senior Chinese Government Agency 2 official in the municipality, his daughter, and her classmates.
d. In or about November 2012, Yang told Li during a telephone call: “[T]he son of [a senior municipal Chinese Government Agency 2 official] is studying at [a Chinese University]. They have a thing about going to a work unit for an internship, they require reviews from the places where he did the internships. Our company is on his list of internships. I don’t know why. His dad saw that and asked us if our company could help him out and provide his son with a review … and affix our company’s stamp.” Li responded, “Sure, no big deal.”
e. In or about January 2013, Li and Herbalife China Executive 2 agreed during a telephone call to open a bank account at a Chinese bank for the purpose of benefiting the son of a Chinese Government Agency 2 official, who had recently begun working at the bank. Li and Herbalife China Executive 2 agreed to do so even though there was no legitimate business purpose for Herbalife China to open the new account.
f. In or about April 2013, Yang told Li during a telephone call that she had met with an official at State-Owned Media Outlet who previously had refused to withdraw certain articles about Herbalife China. Yang told Li that the official “ate what he should eat, drank what he should drink, and used what he should use.” Yang further told Li that after she said to the official, “[I]f you destroy us, where could you get money?”, the official had agreed to withdraw the articles. Li responded, “You have done a great job!”
g. In or about March 2014, an EA Assistant Director and another EA employee, during a call, discussed falsifying a reimbursement request in the amount of 20,000 yuan related to expenditures involving deputy directors of an unspecified government agency.
Yang and other EA employees routinely falsified expense reports and receipts. For example, in the six-month period between in or about July 2012 and in or about December 2012, Yang received approximately (a) $772,433 in reimbursement for purportedly entertaining 4,312 government officials and media personnel at 239 meals, or more than one meal per day, and (b) $248,622 in reimbursement for purported gifts to Chinese officials and media personnel. Herbalife, the defendant, employees and executives, including Li, Herbalife Executive 1, and others, regularly received and reviewed reports from Herbalife’s Internal Audit department showing the purported expenditures by Yang and EA on entertaining government officials and media personnel, including these purported meals and gifts.
In another example, between in or about September 2015 and in or about October 2016, Li, Yang, and others approved reimbursement of 920,000 yuan for the purported purchase of gifts from a particular vendor. These gifts, which were purportedly for Chinese government officials and media personnel, were fruits and vegetables from a farm near the city where Li and Yang were from. Li, and in some instances Yang, approved reimbursement to Yang and other EA employees for receipts showing more than 30 tons of purported produce purchases without any documentation indicating that any produce was actually shipped.
In or about November 2007, Herbalife Executive 3, who was then an officer and a high-level executive of Herbalife, the defendant, told Li: “I kind of want to live in Shanghai, but for legal reasons … if I live in Shanghai, it’s too risky for me …. There’s something called the FCPA, the Foreign Corrupt Practices Act and all of that stuff.”
Between in or about 2007 and in or about 2016, the books of Herbalife, the defendant, reflected that Herbalife China reimbursed EA employees more than $25 million for purportedly entertaining and giving gifts to Chinese government officials and Chinese media personnel, including Chinese state-owned media personnel, some of which was used for improper purposes.”
Under the heading “Herbalife’s False Books and Records” the information alleges in pertinent part:
“Herbalife China’s books, records, and accounts were consolidated into Herbalife’s financial statements, including the financial statements that Herbalife filed with the SEC. Herbalife, through Li and others, knowingly and willfully conspired and agreed with others to falsely record in the Company’s internal accounting records reimbursement of the improper payments and benefits that were provided in association with the schemes described above. By recording reimbursements for these payments and benefits as legitimate expenses, such as travel and entertainment expenses, the Company, through Li and others, concealed the true nature of these payments and benefits and maintained false books, records, and accounts that did not accurately and fairly reflect the transactions and dispositions of its assets.
Furthermore, as part of the conspiracy, from at least in or about 2008 to in or about February 2017, on a quarterly and annual basis, Li, who participated in the scheme to falsify books and records and provide improper payments and benefits to Chinese government officials, signed and transmitted false Sarbanes-Oxley sub-certification letters in connection with the Company’s quarterly and annual filings with the SEC (“SOX Sub-Certifications”). These false SOX Sub-Certifications were maintained by Herbalife, the defendant as part of its books, records, and accounts.”
The information then alleges:
“Herbalife provided corrupt payments and benefits to Chinese government officials, including officials of Chinese Government Agencies 1 and 2 and State-Owned Media Outlet, for the purpose of obtaining, retaining, and increasing Herbalife’s business in China by, among other things, (1) obtaining and retaining certain of Herbalife China’s direct selling licenses; (2) improperly influencing certain Chinese governmental investigations into Herbalife China’s compliance with Chinese laws applicable to its business; and (3) improperly influencing certain Chinese state-owned and state-controlled media for the purpose of removing negative media reports about Herbalife China.
Herbalife, in order to conceal these payments and benefits, maintained false accounting records that did not accurately and fairly reflect the transactions and dispositions of Herbalife’s assets, by, among other things, falsely recording certain improper payments and benefits as “travel and entertainment expenses” and maintaining false Sarbanes-Oxley subcertification letters in Herbalife’s books, records, and accounts.”
Based on the above, the information charges one count of conspiracy to violate the FCPA’s books and records provisions.
The charge against Herbalife was resolved through a three year deferred prosecution agreement. The DPA contains the following “relevant considerations”:
a. the Company did not receive voluntary disclosure credit pursuant to the FCPA Corporate Enforcement Policy in the Department of Justice Manual or pursuant to the United States Sentencing Guidelines because it did not voluntarily disclose to the United States the conduct described in the Statement of Facts
b. the Company received full credit for its cooperation with the United States’ independent investigation, which has included: making regular factual presentations to the United States and, after taking steps that the Company and its affiliates determined complied with applicable foreign data privacy, confidentiality, and discovery laws, voluntarily making employees available for interviews in the United States; producing documents and information located outside of the United States; providing translations of foreign language materials; proactively disclosing certain conduct of which the United States was previously unaware; and providing to the United States all relevant facts known to it;
c. the Company engaged in extensive remedial measures, including taking disciplinary actions against, and separating from, employees involved in the misconduct; enhancing its anti-corruption compliance program by, among other things, significantly increasing the personnel and resources devoted to compliance; bolstering the Company’s annual risk assessment process; strengthening accounting controls for various forms of expenditures; implementing additional testing, monitoring, and auditing procedures; and improving policies related to entertaining and giving gifts to foreign officials;
d. the Company has enhanced and has committed to continuing to enhance its compliance program and internal accounting controls, including ensuring that its compliance program satisfies the minimum elements set forth in Attachment C to this Agreement (Corporate Compliance Program);
e. based on the Company’s remediation and the state of its compliance program, and the Company’s agreement to report to the United States as set forth in Attachment D to the Agreement (Reporting Requirements), the United States determined that an independent compliance monitor is unnecessary;
f. the nature and seriousness of the offense conduct, including the falsification of books and records to conceal improper payments and benefits to Chinese officials by a Senior Vice President of the Company and others, as well as the duration of the misconduct;
g. the Company has agreed to resolve with the U.S. Securities and Exchange Commission (“SEC”) through a civil complaint and injunction that will be filed on August 27, 2020, relating to the conduct described in the Statement of Facts, and has agreed to pay $58,669,993.00 in disgorgement and pre-judgment interest of $8,643,504.50;
h. the Company has no prior criminal history; and
i. the Company has agreed to continue to cooperate with the United States in any ongoing investigation
j. Accordingly, after considering (a) through (i) above, the United States believes that the appropriate resolution in this case is a deferred prosecution agreement with the Company; a criminal monetary penalty of $55,743,093, which reflects an aggregate discount of 25 percent off the bottom of the otherwise-applicable Sentencing Guidelines fine range; and the Company’s agreement to report to the United States.”
The DPA sets forth an advisory Sentencing Guidelines range of $74.3 million – $148.6 million. As stated in the DPA: “The Company agrees to pay a total monetary penalty in the amount of $55.7 million which reflects a 25% discount off of the bottom of the applicable U.S. Sentencing Guidelines.”
As a condition of settlement, Herbalife “agrees that it will report to the [DOJ] annually during the [three year term of the DPA] regarding remediation and implementation of the compliance measures” detailed in the DPA.
In the DOJ’s release, Acting Assistant Attorney General Brian Rabbitt stated:
“By engaging in a decade-long scheme to falsify its books and records to conceal corrupt and other improper payments to Chinese officials and state-owned entities, Herbalife misrepresented important information made available to investors. The integrity of our financial markets depends on the timely and accurate disclosure of material information about companies’ operations. Today’s resolution reflects the department’s ongoing commitment to combating international corruption and ensuring that investors can trust the accuracy of the financial statements of publicly traded companies.”
Acting U.S. Attorney Audrey Strauss of the Southern District of New York stated:
“As admitted in the deferred prosecution agreement entered into today, Herbalife approved the extensive and systematic corrupt payments to Chinese government officials over a 10-year period to promote and expand Herbalife’s business in China. Moreover, in an effort to conceal this widespread corruption scheme, Herbalife maintained false accounting records to mischaracterize these improper payments as permissible business expenses. In addition to admitting its criminal conduct, Herbalife has agreed to pay combined penalties of more than $123 million. This case signifies this Office’s commitment to ensuring that companies operating in the United States do not gain an unfair advantage through corruption and illegal bribes of foreign officials.”
Based on the same core conduct alleged in the DOJ action, this SEC administrative order states in summary fashion:
“This matter concerns violations of the books and records and internal accounting controls provisions of the FCPA by Herbalife, a direct selling company incorporated in the Cayman Islands with headquarters in the United States.
From 2006 to 2016, Herbalife’s Chinese subsidiaries (“Herbalife China”) engaged in a scheme to offer corrupt payments and other improper benefits to Chinese government officials. Between 2012 and 2016, Herbalife China employees, including Herbalife China’s then-Managing Director (“Managing Director”) and Herbalife China’s then-Director of External Affairs (“EA Director”), provided improper benefits of cash, gifts, travel, alcohol, meals, and entertainment to Chinese government officials. Certain Herbalife executives received reports of high travel and entertainment spending in China and violations of Herbalife’s internal FCPA policies, but failed to detect and prevent improper payments and benefits and falsifications of expense reports. By 2016, Herbalife China was responsible for approximately twenty percent of Herbalife’s worldwide net sales. The improper benefits provided by Herbalife China were not accurately reflected in Herbalife’s books and records, and Herbalife failed to devise and maintain a sufficient system of internal accounting controls.
As a result, Herbalife violated [the books and records and internal controls provisions of the FCPA].”
Under the heading “Herbalife China Provided Improper Benefits to Chinese Government Officials In Connection with Licenses,” the order finds:
“From at least 2006, External Affairs, headed by EA Director [Yang], was responsible for obtaining direct selling licenses from the Chinese government – a prerequisite for Herbalife China to conduct its direct selling business in China. External Affairs was also responsible for promoting Herbalife China’s interests to the Chinese government, responding to inquiries and investigative requests from the Chinese government, and marketing Herbalife China through the Chinese media.
In late 2006, Herbalife China submitted an application to the Chinese government for its first direct selling license, which was ultimately granted for two cities in one province (the “Province”). To facilitate approval of its license application, Herbalife China provided improper benefits, including payments, to government officials including those employed by Chinese Government Agency 1, the agency responsible for awarding direct selling licenses in China. For example, in a January 10, 2007 telephone call, Managing Director (serving then as the Director of Sales for Herbalife China) [[Li] asked EA Director whether Herbalife China had “taken care of” an official at Chinese Government Agency 1 (“Official 1”). Managing Director then asked, “We have given the money to [Official 1], haven’t we?” to which EA Director replied, “Of course we have.” Managing Director then stated, “The money works well on him.”
In March 2007, Chinese government officials informed Herbalife China that it would receive its first direct selling license for the two cities in the Province. During a March 22, 2007 telephone call, Herbalife China’s Managing Director at the time (“Former MD”) congratulated EA Director on acquiring the license. EA Director told Former MD, “I will take care of those people. I will still have to invite them out for dinner next time I come anyway.” Former MD responded, “Right, good idea. We will talk later about how you are going to take care of them.” Later that day, during a call, EA Director spoke with a senior manager of External Affairs (“Senior Manager”). EA Director told Senior Manager to “grab a pen and write down the gift list.” After listing the names of 17 individuals, including Chinese Government Agency 1 officials who were involved in application process for Herbalife China’s pending direct selling license application, EA Director told Senior Manager to “go and get 260,000 yuan (approximately $33,700) and then divide the money among them, with a total of approximately 60,000 yuan (approximately $7,800) distributed to 16 Chinese Government Agency 1 officials.”
During a telephone call later that same day, Former MD told Managing Director (serving then as the Director of Sales for Herbalife China) that Former MD wanted to talk “about what I spent to take care of things for our license.” Managing Director told Former MD that Managing Director had withdrawn over 200,000 yuan, and Former MD responded that EA Director “is pressing me about that. I already took [100,000 yuan] out of the bank and gave it to [EA Director].”
The following day, on March 23, 2007, Former MD spoke with a (now former) senior Herbalife executive in the U.S. (“Senior Executive”). During that call, Former MD complained about Herbalife’s internal policy of limiting dinners with any Chinese government official to six dinners per year. Former MD said that he was concerned about this limitation “because the people that does [sic] your license are those people, okay. You have far more than just six dinners.” Former MD told Senior Executive that this policy will put the onus on U.S. executives to approve any dinners in excess of six times per year, “I can always write back to you folks and ask for approvals but then it’s like putting the onus back on you folks to answer future questions.” Former MD stated that he “disagree[d] that having dinners with officials, that you will influence them but it’s just part of the way of doing business.” Senior Executive told Former MD that “I am sure there are a lot of government officials, you can put different names down…but I didn’t tell you that.” After Former MD explained that “with the license process, you know, it is tough for me to use all the names,” Senior Executive responded, “How would anybody ever know?” Former MD said he understood, and Senior Executive told Former MD, “All an auditor is going to do is pick up your receipts, your expense report, oh he did Mr. X, Mr. A, Mr. B, Mr. C, Mr. D., and if he did a few of these guys a couple times but that was it.”
Thereafter, Herbalife China provided improper benefits to a Chinese government official in connection with a license. On September 8, 2009, Managing Director spoke with an official from a government agency responsible, at least in part, for enforcing compliance with Chinese laws applicable to direct selling licenses (“Official 2”). Managing Director thanked Official 2 for helping Herbalife China in connection with a license: “You have certainly helped us to get this done.” Official 2 asked to be a “consultant” for Herbalife to help pay for his “son’s house purchasing fund,” but Official 2 also said that he did not “want to discuss too much [ ] over the phone.”
Herbalife China employees continued to influence government officials through lavish meals and gifts. Consistent with the lack of commitment to compliance and accurate record keeping demonstrated by Senior Executive, Herbalife China employees funded those meals and gifts through falsified expense reimbursements until 2016.”
Under the heading “Herbalife China Provided Chinese Government Officials With Improper Benefits Including Cash, Gifts, Meals, and Entertainment,” the order finds:
“Herbalife China provided improper benefits of cash, gifts, meals, and entertainment to Chinese government officials. For example, during a call on March 15, 2007, Managing Director (serving then as the Director of Sales for Herbalife China) and EA Director discussed paying certain provincial officials. Managing Director told EA Director that he had been told to pay 35,000 yuan (approximately $4,500) to the officials. Managing Director then asked, “Do you think we should give more?” EA Director responded that, “Okay. But he has to guarantee this…to be effective.” Managing Director explained that “we need to build the connection…I was thinking it is better to spend money beforehand than spending money afterwards. This money is a small sum after all, and if we were to be penalized, the figure will be much greater.”
Herbalife China continued to influence Chinese government officials with improper gifts of meals and entertainment. An Herbalife China External Affairs manager (“EA Manager”) developed a relationship with a municipal government official (“Official 3”). During telephone conversations, EA Manager and Official 3 discussed treating Chinese government officials to expensive meals, alcohol, karaoke, and luxury gifts. For example, on January 11, 2012, EA Manager told Official 3 that EA Manager had entertained several government officials with dinners, karaoke, and alcohol. EA Manager said that one government official who coordinated a dinner had been direct about his expectations: “He was straight forward to me, because I’m not going to go invite people for dinner empty-handed…He said, ‘you be prepared.’ I said I understood. I can’t leave him empty-handed.” EA Manager also said that he had “taken care” of other Chinese government officials.
On March 31, 2012, EA Manager told Official 3 that EA Manager treated Chinese government officials to expensive meals with alcohol. EA Manager said that one evening was “so expensive, my hands were shaky.” Later, EA Manager asked Official 3 for names of government officials that EA Manager could write on his expense reports because he spent so much money that he needed to add names to get under the company’s per head spending limitation.
Other Herbalife China External Affairs employees also falsified expense reports to collect reimbursement for purported gifts and meals to Chinese government officials. For example, on January 11, 2012, an External Affairs employee spoke with the External Affairs assistant manager responsible for processing expense reimbursement requests (“EA Assistant Manager”). EA Assistant Manager asked the employee to submit falsified reimbursement requests supported by false meal and gift invoices totaling 577,000 yuan (approximately $91,000).
Herbalife China also provided improper benefits, including payments, to Chinese government officials, to curtail government investigations of Herbalife China and to prevent or reduce fines issued to Herbalife China by the Chinese government. For example, on August 8, 2012, Managing Director and EA Director discussed an investigation in Nanjing. EA Director told Managing Director that a Chinese government official had helped stop an investigation involving Herbalife China, and that EA Director was going to obtain the interview records and police report for the investigation. Managing Director told EA Director to thank the government official, and she responded that she had already done so when he came to Beijing. Managing Director told EA Director to give the government official the money that the company otherwise would have paid as a penalty, “Let’s give the fine to him.” EA Director responded that they should not discuss this over the phone.
The above-described conduct by External Affairs employees continued until 2016. According to internal audit reports, Herbalife China employees continued excessive spending on gifts, meals, and entertainment for Chinese government officials.”
Under the heading “Herbalife China Provided Improper Benefits to Chinese State-Owned Media to Remove Negative Media Coverage of Herbalife China,” the order finds:
“Herbalife China also provided improper benefits to government officials at state-owned media outlets in China to delete negative media coverage of Herbalife China. For example, in January 2013, a state-owned media outlet (“Media Outlet 1”) published a negative article about Herbalife China. In an April 22, 2013 telephone call, EA Director told Managing Director that she had met with an official of Media Outlet 1 (“Media Official 1”) and asked him to remove the negative article. EA Director told Managing Director: “He already took what he should take, ate what he should eat, drank what he should drink, and used what he should use. It’s up to him.” Managing Director responded: “It is time for him to get to work, right?” EA Director told Managing Director that she told Media Official 1 that “if you destroyed us, where could you get money?” to which Media Official 1 laughed and agreed to remove the negative articles. Managing Director praised EA Director: “You have done a great job!”
In 2013, another state-owned media outlet (“Media Outlet 2”) published several negative articles about Herbalife China. In an August 28, 2013 telephone call, EA Manager told Managing Director that he had met with a senior editor of Media Outlet 2 (“Media Outlet 2 Editor”), who “had agreed that they would stop after publishing two articles and we would start to negotiate collaboration.” EA Manager told Managing Director that when Media Outlet 2 Editor escorted him out, EA Manager “put our ‘goodwill’ on the desk. He pretended he did not see it. This should not be a problem.”
Under the heading “Herbalife China Employees Submitted and Approved False Expenses,” the order finds:
“External Affairs employees submitted fake invoices and false expense reports to get reimbursed for improper benefits they provided to government officials. For example, on January 31, 2012, EA Manager asked Official 3 for names of government officials that EA Manager could list on a falsified expense report. EA manager told Official 3 that a local government official had called EA Manager to ask EA Manager to pay for a meal for the official and his family during a family road trip. EA Manager explained that the official “knows that [EA Manager] can arrange for any place all over the country.” EA Manager said that the official “has helped [EA Manager] a lot before.” EA Manager asked for names of officials that he could list on the expense report because “it’s not appropriate for [EA Manager] to write down [the official’s] name too many times.”
During a telephone call on April 6, 2012, EA Manager told Official 3 that he went to buy fake receipts “to cover the gifts” for government officials, bags that were “very expensive by Prada.” During a call on August 1, 2013, EA Manager and EA Director discussed whether to purchase fake meal invoices or fake gift invoices to best avoid internal audit oversight. They also discussed how EA Manager’s usual fake invoice supplier was no longer available and his other sources could not provide enough fake invoices.
During a telephone call on March 21, 2014, two External Affairs employees discussed how to submit falsified expense reports for 20,000 yuan for claimed expenses regarding gifts to government officials. The two employees discussed splitting the gift expenses into two applications and revising the list of purported participants because the original list of 20 supposed deputy directors was not realistic.
In 2015 and 2016, Managing Director approved several expense applications submitted by an External Affairs employee for a reimbursement of approximately $150,000 claimed to have been paid to a farm, purportedly for shipping fruit and vegetable gifts to Chinese government officials and media, including state-owned media officials. The amount of produce purportedly purchased at the farm would have weighed approximately 34.5 metric tons, or 135 pounds per purported gift recipient, and, thus, could not have been the actual purpose of the $150,000 reimbursed. The expense applications and attached invoices were false, and the expenditures was improperly recorded in Herbalife’s financial records.
Between 2012 and 2016, Herbalife China failed to accurately record gifts, meals, entertainment, and other expenditures provided for government officials on its books, records and accounts.
Herbalife China’s financial statements were consolidated into Herbalife’s reported financial statements, which were filed in the United States. Therefore, these falsified and/or fake expenses recorded by Herbalife China were incorporated into Herbalife’s financial statements.”
Under the heading “Herbalife Executives Received Internal Audit Reports Showing High Spending in China and Violations of Internal Policies,” the order finds:
“At all relevant times, Herbalife’s Internal Audit department (“IA”) was headed by Herbalife’s Senior Vice President, Internal Audit (“IA Director”), who reported directly to Herbalife’s Audit Committee. The IA in China (“China IA”), which reported directly to IA Director, audited External Affairs’ expenses approximately twice a year. At the conclusion of each audit, China IA reported its results to IA, which then circulated a revised version of this report to Managing Director and Herbalife’s management (“EA Audit Report”). The EA Audit Reports showed large expenses and identified violations of Herbalife China’s internal policies regarding compliance with FCPA, including fake receipts and verbal approval of expenses when prior, written approval had been required.
For example, in 2014, an EA Audit Report covering expenses for the last six months of 2012 found that, during this six-month period, EA Director had been reimbursed over $1 million on claimed meals and gifts for Chinese government officials and media, including state-owned media officials. According to the report, EA Director submitted expenses claiming to have attended 239 such meals, with a total of 4,312 participants, averaging $3,232 per meal. These numbers were extraordinarily high, as there were only 184 days (including weekends) during those six months. According to the EA Audit Report, during those six months, External Affairs, as a whole, submitted expenses claiming to have treated 30,076 Chinese government officials and media members to meals, and was reimbursed, as a whole, a total of approximately $3.7 million for claimed meals, gifts, and entertainment of government officials and media, including state-owned media officials.
In March 2016, another EA Audit Report covering expenses for the first six months of 2015 stated that EA Director submitted expenses claiming to have attended 115 restaurant meals with Chinese government officials and media, including state-owned media officials, during that six-month period. The average cost per meal was $1,472. During that same period, according to the EA Audit Report, EA Director submitted expenses claiming to have provided gifts to 828 government officials and media, including state-owned media officials, totaling $146,485. The report stated that “vendor receipts were replaced when problems were found,” highlighting Herbalife China’s practice of allowing External Affairs to replace problematic receipts, and failing to highlight those problems on the final reports. Despite this practice of replacing problematic receipts, the report still found violations, such as restaurant receipts submitted by different employees with very close transaction times in the same restaurant. The report also found that External Affairs had expended a total of $811,465 without the corporate approvals required for those particular expenses, and that seven External Affairs employees (including EA Director) had relied solely upon verbal approvals for more than 50% of their expense applications, despite Herbalife China’s internal policy that such verbal approval could be used only for emergency expenditures.
After receiving the March 2016 IA report, a member of Herbalife’s Board of Directors emailed the Audit Committee and IA Director asking whether the high spending by China EA was reasonable. Another Board member responded: “Please note I have questioned this every year I have been on the board, and the company has defended its position that these are reasonable within FCPA guidelines.” IA Director responded that “the findings are the typical issues in these audits” and are within “tolerance.”
Between 2012 and 2016, Herbalife reimbursed External Affairs employees for over $7.2 million in questionable External Affairs meal and gift expenditures in connection with Chinese officials and media, including state-owned media officials. Herbalife obtained approximately $58.7 million in benefit based on the conduct described above.”
Based on the above, the SEC found that Herbalife violated the FCPA’s books and records and internal controls provisions. To resolve the matter, Herbalife agreed to pay approximately $67.3 million (approximately $58.7 million in disgorgement and approximately $8.6 million in prejudgment interest).
Under the heading “Herbalife’s Cooperation and Remedial Efforts,” the order states:
“In determining to accept the Offer, the Commission considered remedial acts promptly undertaken by Respondent and cooperation afforded the Commission staff. Herbalife’s remediation included terminating employees involved in the violative conduct, hiring a dedicated Chief Compliance Officer, enhancing internal accounting controls and compliance functions, and adopting a new compliance structure. Herbalife’s cooperation included timely sharing of facts developed during the course of an internal investigation and voluntarily producing documents.”
The order further states that the SEC is not imposing a civil penalty based “upon the imposition of a $55,743,093 criminal fine as part of its resolution with the DOJ.”
As a condition of settlement, Herbalife agreed to report to the SEC “periodically, during a three year term, the status of its remediation and implementation of compliance measures, particularly as to the areas of due diligence on prospective and existing third-party consultants and vendors, FCPA training, and the testing of relevant controls including the collection and analysis of compliance data.”
In the SEC’s release, Sanjay Wadhwa (Senior Associate Director of the SEC’s New York Regional Office) stated:
“Herbalife’s inadequate internal accounting controls allowed an environment of corruption to exist in its Chinese subsidiaries for more than a decade. A strong system of internal controls is vital for issuers, especially those with operations around the globe.”
Herbalife was represented by Gibson Dunn attorneys Patrick Stokes (former DOJ FCPA Unit Chief), Barry Goldsmith, and Jonathan Seibald as well as Sidely Austin attorney Stephen Cohen (former Associate Director in the SEC Enforcement Division).
On the day of the enforcement action, Herbalife’s stock closed down .3%
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