The Foreign Corrupt Practices Act has always been a law much broader than its name suggests. Sure, the FCPA contains anti-bribery provisions which concern foreign bribery. Sure, the FCPA’s books and records and internal controls provisions can be implicated in foreign bribery schemes.
However, the fact remains that most FCPA enforcement actions (that is enforcement actions that charge or find violations of the FCPA’s books and records and internal controls provisions) have nothing to do with foreign bribery and these provisions are among the most generic legal provisions one can possibly find.
The latest example to demonstrate this point is yesterday’s announcement by the SEC that Healthcare Services Group, Inc. has agreed to pay $6 million to settle charges that the company engaged in accounting and disclosure violations that enabled the company to report inflated quarterly earnings per share (EPS) that met research analysts’ consensus estimates for multiple quarters.
In summary fashion, the SEC’s order found:
“This matter involves the failure of Healthcare Services Group, Inc. (“HCSG”) to properly accrue for or disclose loss contingencies relating to pending civil litigation in violation of generally accepted accounting principles (“GAAP”), resulting in the reporting of inflated net income and earnings per share (“EPS”) in certain periods. From 2014 to 2015, HCSG was facing a series of large class- and collective-action lawsuits filed on behalf of HCSG employees in state and federal courts, alleging the company had violated state and federal wage-and-hour labor laws. HCSG agreed to seek out-of-court settlements with plaintiffs in these lawsuits, and ultimately submitted settlement agreements to the applicable courts for preliminary and final approval. However, John C. Shea (“Shea”), HCSG’s then-Chief Financial Officer, did not direct the accrual for and disclosure of the loss contingencies for those settlements as required by GAAP, resulting in HCSG’s misstatement of net income and EPS that did not accurately reflect the company’s underlying performance in multiple quarters.
Had HCSG properly recorded the financial impact of the loss contingencies at the time they were probable and reasonably estimable, the company would have reported lower EPS and missed research analysts’ consensus EPS estimates in many of the applicable quarters, including by as little as a penny. The company also would not have been able to report multiple quarters of EPS growth, including then-record-high EPS. For the quarters when HCSG eventually accrued for the loss contingencies, the accruals contributed to the company’s reporting of a net loss and loss per share, or reporting EPS that missed consensus estimates by a wide margin. Consequently, HCSG’s financial statements filed with the Commission were materially misleading during these periods.
Also, in certain quarters, Derya D. Warner (“Warner”), HCSG’s Controller, made journal entries during the closing process without adequate supporting documentation as required by HCSG’s policies and procedures.
HCSG failed to devise and maintain sufficient internal accounting controls to prevent and detect such improper accounting and unsupported, period-end journal entries described herein, resulting in the underlying violations of the federal securities laws.”
Based on the above, the SEC found that HCSG violated, among other things, the FCPA’s books and records and internal controls provisions.
Under the heading “HCSG Lacked Accurate Books and Records and Sufficient Internal Accounting Controls, and Failed to Maintain Internal Control Over Financial Reporting,” the Order finds:
“HCSG’s accounting for litigation loss contingencies and other accounting entries that impacted net income and EPS as described above were made in part because HCSG lacked sufficient internal accounting controls over (a) accruals for litigation loss contingencies, (b) manual journal entries, and (c) period-end adjustments made during the closing process. Although HCSG had policies and procedures requiring accounting entries to have adequate supporting documentation, its finance staff regularly recorded manual journal entries with no or inadequate supporting documentation. Further, while HCSG had a Disclosure Control Committee that met each quarter to ensure that adequate disclosure controls and procedures were developed, documented, and implemented to ensure that HCSG’s financial statements and disclosures were complete and accurate, the committee’s procedures were insufficient in identifying and addressing material inaccuracies in HCSG’s financial statements, especially relating to the accounting for and disclosure of litigation loss contingencies. Moreover, HCSG’s accounting system did not have an audit trail or time stamp function that enabled the finance staff to identify when certain manual journal entries or adjustments were made during the closing process.
As a result, HCSG’s internal accounting controls were not designed or maintained to provide reasonable assurance that HCSG’s financial statements would be presented in conformity with GAAP, and it further failed to maintain internal control over financial reporting. HCSG’s books, records, and accounts also did not accurately and fairly reflect, in reasonable detail, HCSG’s transactions and disposition of assets.”
Based on the same core conduct, the SEC also found that John Shea (HCSG’s Chief Financial Officer during the relevant period) caused HCSG’s violations of the books and records and internal controls provisions and that Derya Warner (HCSG’s Controller during the relevant time period) also caused HCSG’s violations of the books and records and internal controls provisions.
As stated in the SEC’s release: “Without admitting or denying the SEC’s findings, HCSG, Shea, and Warner have agreed to cease and desist from future violations of the charged provisions and pay civil penalties of $6 million, $50,000, and $10,000, respectively.”
