SECYesterday, I used a quotation from the Oscar winning animator, Chuck Jones who described two of his well-known creations, Roadrunner and Wily E. Coyote, by referring to philosopher George Santayana’s description of fanaticism when he articulated these cartoon characters as “redoubling your effort after you’ve forgotten your aim”. That would seem to be an excellent description for the pharmaceutical giant Novartis who recently settled a Foreign Corrupt Practices Act (FCPA) enforcement action for approximately $25MM. Yesterday I reviewed the underlying facts and today, I want to consider what the company did after it discovered the illegal conduct, what its obligations may be going forward and the lessons to be learned for the compliance practitioner.

As noted in the Securities and Exchange Commission (SEC) Cease and Desist Order (the Order), Novartis began its investigation based on an ongoing SEC investigation and “in response to media reports concerning a competitor in August 2013”. Based on this information the company “instituted an expansive review of its relationships in China with travel and event planning vendors.” Novartis actions should be well considered by every Chief Compliance Officer (CCO) and compliance professional going forward. If a competitor gets into FCPA hot water, whether through an investigation or enforcement action, this is clear signal for you to consider your company’s actions in the same area, whether that competition is in products, services or, in the case of Novartis, the same geographic area. Moreover, at this point in the history of FCPA enforcements if you are doing business in China you should take a deep review into your own operations and if you are looking to do business in China, you should put the appropriate anti-corruption protections and compliance internal controls in place.

Novartis’ internal investigation identified not only several weaknesses but also clear violations. The company found (1) “the vast majority of these vendors were retained in connection with events in which HCPs [health care providers] attended.” (2) There were a significant percentage of events that did not comply with existing compliance policies and procedures. The Order noted, “This included events for which no record existed to verify it had occurred, events for which inconsistent records existed, and events that could not be verified from available information.” (3) The company also determined through the internal investigation that its Chinese subsidiaries were using the mechanism of “travel agencies and similar vendors to plan events, funds were generated that were used to provide improper payments and other inducements to HCPs in order to increase sales of Novartis products.” Implicit in this find was that the company had not properly recorded these payments by and through travel agencies in its books and records.

In the Order section entitled, “Undertakings”, the SEC laid out what the company agreed to do on a go forward basis. Over a two-year period, they agreed to “(1) conduct an initial review and submit an initial report, and (2) conduct and prepare at least two follow-up reviews and reports”. This Initial Report is to be presented within six months after the entry of the Order and is to set 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”. The Follow Up Reports are “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”.

In an interesting limitation and one no doubt in response to HSBC Deferred Prosecution Agreement (DPA), where the US District Judge overseeing the terms of the DPA ruled that “the public has a First Amendment right to see the monitor’s report”. This was over the objections of HSBC, the Department of Justice (DOJ) and the Monitor. The Order reads, “The periodic reviews and reports submitted by Respondent will likely include proprietary, financial, confidential, and competitive business information. Public disclosure of the reports could discourage cooperation, impede pending or potential government investigations and thus undermine the objectives of the reporting requirement. For these reasons, among others, the reports and the contents thereof are intended to remain and shall remain non-public, except (a) pursuant to court order, (b) as agreed by the parties in writing, (c) to the extent that the Commission staff determines in its sole discretion that disclosure would be in furtherance of the Commission’s discharge of its duties and responsibilities, or (d) is otherwise required by law.”

While the both the SEC and Novartis recognize that these reports can (always) be released if compelled by court order, as this enforcement action was resolved in the SEC Administrative Process, there would seem less likelihood that an interested citizen or even John Q. Public would seek release of this information. Further, the reporting agreed to in this Order could arguably have some attorney-client privilege as opposed to an outside third party Monitor as was selected in the HSBC matter, who could not even argue attorney-client privilege.

Even with these key differences, it is interesting to see such language in this Order and it could well be a manner for companies and the government to use going forward to help to keep follow up reports to the government post settlement confidential and away from disgruntled shareholders or their lawyers who might want to use the information in follow-on shareholder litigation. Finally, this could be one more reason companies agree to the SEC Administrative Process, to keep such information out of the public eye.

 

Remember the quote “redoubling your effort after you’ve forgotten your aim” as this would certainly seem to be an apt way to think about doing business in China, particularly under any type of FCPA analysis. Yet Novartis clearly got the message and moved to investigate, remediate, self-report and then work to make sure such issues do not arise in the future. They are to be commended for their work in this area. It would benefit the CCO and compliance practitioner to review the                                                           solid lessons from the Novartis FCPA enforcement action, especially in these key areas: (1) fraud schemes to develop monies to pay bribes; (2) weaknesses in compliance internal controls; (3) the clear benefits of self-reporting; (4) robust and effective internal investigations; (4) remediation during the pendency of an investigation; and (5) creating a process to test the effectiveness of your compliance program going forward.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2016

SantayanaThe philosopher George Santayana is usually best remembered for the pithy saying, ‘Those who cannot remember the past are condemned to repeat it.” Santayana was an essayist, poet, professor and novelist. According to Wikipedia, Santayana was Spanish-born but was raised and educated in the United States. He wrote in English and is generally considered an American man of letters. At the age of forty-eight, Santayana left his position at Harvard, where he had been a Professor of Philosophy for over 20 years and returned to Europe, never to return to the United States.

While Santayana inspires what begins a two-part blog series, the lead quotation to theme these posts comes from the Oscar winning animator, Chuck Jones who, in describing two of his well-known creations, Roadrunner and Wily E. Coyote, used Santayana’s description of fanaticism when he articulated these cartoon characters as “redoubling your effort after you’ve forgotten your aim”.

Both of these two Santayana revelations are appropriate to introduce the Novartis Foreign Corrupt Practices Act (FCPA) enforcement action brought last week by the Securities and Exchange Commission (SEC). As noted by the FCPA Professor, this was the 22nd FCPA enforcement action brought against health care companies involving health care professionals. You might think those companies would begin to get the message that their conduct would be scrutinized for FCPA violations. Yet once again we see with Novartis, “redoubling your effort after you’ve forgotten your aim”. Even if the Chuck Jones observation is too ethereal for your company, if you do not study the past, you are condemned to repeat your mistakes.

Over the next two days I will explore at length the Novartis FCPA enforcement action. In today’s blog post, I will review the underlying conduct that got the company into FCPA hot water. Tomorrow I will look at what the company did in response to the revelations of FCPA misconduct and present some lessons to be learned by the compliance practitioner.

As noted in the SEC Cease and Desist Order (the Order), “From at least 2009 to 2013, certain employees and agents of Novartis subsidiaries conducting business in China engaged in transactions and provided things of value to foreign officials, principally healthcare professionals (“HCPs”). These payments took varied forms and were intended to influence the HCPs and thereby increase sales of Novartis pharmaceutical products. Employees and managers in the involved subsidiaries attempted to conceal the true nature of the transactions through the use of complicit third parties and by improperly recording the relevant transactions on the books and records of the respective subsidiaries, which were consolidated in the financial reports of Novartis. Examples include improperly recording the payments as legitimate expenses for travel and entertainment, conferences, lecture fees, marketing events, educational seminars, and medical studies. Novartis also failed to devise and maintain an effective system of internal accounting controls or an effective anti-corruption compliance program.”

Novartis fell afoul of the FCPA through two of its subsidiaries doing business in China, Shanghai Novartis Trading Ltd. (Sandoz China) and Beijing Novartis Pharma Co, Ltd. (Novartis China). The actions of each subsidiary are instructive for the compliance practitioner so they will be taken up separately.

Sandoz China

Sandoz China’s plan was to increase sales of generic products. They endeavored to do so by targeting selected HCPs to “influence”. To accomplish this influence “certain sales representatives provided HCPs with such things as cash and gifts, which were funded through the submission of false expense reports.” The false expense reports were created to create a pot of money to pay for gifts and entertainment. Needless to say, these expenses were not booked properly in the company’s books and records.

This was not a situation where an individual, rogue employee or even a group of nefarious actors hid a bribery scheme from management but a focused, targeted campaign approved by the management of Sandoz China. The Order goes on to state, “certain employees maintained projections in spreadsheets that directly linked a certain cash value to be provided to HCPs in exchange for a certain number of prescriptions per month. In certain instances, these planned amounts were referred to as “investments,” between several hundred and several thousand dollars annually, and the HCPs were in some instances categorized into and tracked by different tiers, including one tier described as “money worshippers.””

But it was far more than simply the purchase of a few gifts for targeteddecision- makers. Sandoz China used travel to the US as another excuse to provide illegal benefits. The company claimed these trips were “educational events” but the Order noted, “in many instances, the actual trips did not include an educational purpose or the scientific/educational components were minimal in comparison to the sightseeing or recreational activities, and were instead a method of influencing the HCPs. The related expenses were approved and paid with little or no supporting documentation.”

A prime example set out was an alleged conference in Chicago, yet there was a side trip to Niagara Falls, a mere 530 miles away from the conference site. Sandoz China paid the travel expenses for spouses too.. And in one of the great compliance notations of all time, the company paid for “cover charges at a strip club.” I guess we can assume the Chinese entertained were male. There were also instances were Sandoz China simply billed the corporate office approximately $25K for events and there was no evidence the events ever occurred.

Sandoz China even came up with a new mechanism to engage in illegal bribery and corruption. They paid monies to officials “to collect and analyze patient medical data for the stated purpose of better understanding the use and reaction of a particular Novartis drug among patients.” Leaving aside the issue of whether this action violated any patient privacy rights in China, the Order said, “the studies did not provide any legitimate medical data, but rather were used to financially reward HCPs who had prescribed the drug.” These payments totaled over $500K in 2009-2010.

Novartis China

This entity appears to have used the well-known Chinese vehicle of ‘travel agencies’ to further its bribery and corruption schemes. The Order stated, “The payments were made through event planning and travel companies retained by Novartis China ostensibly to arrange transportation, accommodations and meals for HCPs in connection with educational conferences and other business activities. Through the use of these complicit vendors, HCPs were provided with improper inducements to prescribe or recommend Novartis products. The subsidiary recorded these payments as legitimate selling and marketing costs in its books.” These events were both inside and out of China. In addition to the use of travel agencies to engage in corrupt activities, there was no due diligence or even rudimentary compliance review of these third parties from a compliance perspective.

Finally there were insufficient compliance internal controls around both subsidiaries in China. There was insufficient training of the Chinese staff in both hiring and retention of third parties and in managing these relationships after their contracts were signed. These controls were not “sufficient and appropriate support for the selling and marketing expenses submitted by these vendors.”

Tomorrow I will continue my review of the Novartis FCPA enforcement action to see what the company did when it found out about these deficiencies and what lessons can be gleaned by the compliance practitioner.

 

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication. The Author gives his permission to link, post, distribute, or reference this article for any lawful purpose, provided attribution is made to the author. The author can be reached at tfox@tfoxlaw.com.

© Thomas R. Fox, 2016