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

Exxon ValdezBefore there was the BP oil well blow out in the gulf, the greatest US environmental disaster was the Exxon Valdez, which ran aground on a reef in Prince William Sound in southern Alaska, some 27 years ago on this date. According to estimates, approximately 11 million gallons of oil eventually spilled into the water. Attempts to contain the massive spill were unsuccessful, and wind and currents spread the oil more than 100 miles from its source, eventually polluting more than 700 miles of coastline. Hundreds of thousands of birds and animals were adversely affected by the environmental disaster.

Exxon itself was condemned by the National Transportation Safety Board (NTSB) and in early 1991 agreed under pressure from environmental groups to pay a penalty of $100 million and provide $1 billion over a 10-year period for the cost of the cleanup. However, later in the year, both Alaska and Exxon rejected the agreement, and in October 1991 the oil giant settled the matter by paying $25 million, less than 4 percent of the cleanup aid promised by Exxon earlier that year.

I thought about this environmental disaster as I have continued to read about the burgeoning scandal in Malaysia around its state owned sovereign wealth fund, 1 Malaysia Development Bhd., known as 1MBD. There have been allegations that the Prime Minister (PM) of Malaysia, Najib Razak, and his cronies looted the fund for their own personal gain. They have all denied any such allegations. Of course there was the $681MM which was deposited into the PM’s personal account that he claimed was a gift from the deceased King of Saudi Arabia. Of that amount, $620MM has been returned leaving a piddling $61MM not accounted for, but, hey, what is $61MM between friends.

Yet another chapter in this ongoing saga presented itself when Bradley Hope, Justin Baer and Tom Wright, reporting in a Wall Street Journal (WSJ) article, entitled “U.S. Probes Goldman 1MDB Deals”, wrote about Goldman Sachs Group Inc. (Goldman) in connection with a $3 bn bond transaction which Goldman underwrote for 1MDB. They reported, “As part of an inquiry being examined by a U.S. grand jury, investigators are trying to determine if Goldman’s employees had reason to believe that some of the proceeds from bond deals done for the fund, 1Malaysia Development Bhd., known as 1MDB, weren’t being used for their intended purpose, the person said. Federal authorities also are exploring whether Goldman’s hiring practices in the region violated U.S. anticorruption laws, the person said.”

As a part of an ongoing Grand Jury investigation, “investigators subpoenaed Goldman’s former top banker in Southeast Asia, Tim Leissner, who left the firm last month after being suspended for allegedly violating firm policies. Mr. Leissner, who is cooperating with investigators, has been told by authorities that he isn’t the subject of the U.S. government investigation at this stage, said another person familiar with the matter.” The piece also noted, “Mr. Leissner hasn’t been accused of wrongdoing in connection with the 1MDB deals.”

The transactions at issue provided quite a financial gain to Goldman, who “advised the fund on three acquisitions and arranged the sale of three bonds valued at a total of $6.5 billion that brought in $650 million for the firm.” The final of these three deals was for funds, which were designated to “finance a real-estate-development project in the center of Kuala Lumpur designed to spur economic development.” Goldman bought all $3bn of this final offering up, underwriting the entire offering and then resold the securities for higher prices.

In what can only be termed an unusual twist “1MDB officials directed the Wall Street firm to wire the proceeds from the deal to the fund’s account at BSI SA, a small Swiss private bank, according to people familiar with the matter. Private banks don’t typically receive transfers of that size, and the unusual step caught the attention of lawyers at Linklaters, Goldman’s legal counsel on the transactions. Kevin Wong, a partner at the law firm, sent a note to bankers at Goldman alerting them to the fact that the money was being sent to a private bank, according to a person familiar with the matter. Goldman executives approved the transaction and believed they were contractually obligated to send the money to the account their client had specified, according to people familiar with the matter. Linklaters ultimately signed off on the transaction, said the person.”

Apparently not only has the construction not gone through but there are questions about this transfer of funds to the private bank in Switzerland. Indeed Swiss authorities are investigating at their end. However, the WSJ piece also noted, “U.S. investigators also are looking into Goldman’s hiring practices in relation to 1MDB. Goldman hired the daughter of a close aide to Mr. Najib and explored bringing the prime minister’s own daughter to the firm as well, people familiar with the matter said. Mr. Leissner recommended Goldman hire both women, and when his Goldman colleagues shot down the idea of hiring the prime minister’s daughter, Mr. Leissner recommended Nooryana Najwa Najib to private-equity firm TPG, these people said. She went through a normal interview process and worked at TPG in a low-level marketing position from 2011 to 2014, in both London and Hong Kong, the people said.”

As we now know from the Bank of New York Mellon and Qualcomm Foreign Corrupt Practices Act (FCPA) actions the hiring of a close family member of a foreign government official or an employee of a state owned enterprise can be a FCPA violation. Further, since it is the mere offer of anything of value that invokes the FCPA, offering a job could well be a FCPA violation. Additionally, if such violation came in through an accounting provision violation, either through the books and records or violations of internal controls, it could lead to the Securities and Exchange Commission (SEC) remedy of profit disgorgement. As the WSJ piece noted, Goldman made $650MM for its work on the three bond offerings.

Exxon took the lessons it learned from the Exxon Valdez incident and used them to completely change its culture around safety. Many energy companies followed Exxon’s lead (although sadly not all) and made safety priority number 1. The ongoing 1MDB scandal may well lead to a similar change in dealings with sovereign wealth funds.

 

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

Keith EmersonWelcome back my friend; To the show that never ends.

Except it did last week, when Keith Emerson died. He was the Emerson in Emerson, Lake & Palmer aka ELP. Emerson was one of the greatest keyboardists of his or any other generation. David Kreps, writing in Rolling Stone, said, “After discovering the Hammond and Moog in his teenage years, Emerson grew into one of the greatest keyboardists of his generation, first as a member of the Nice before founding the prog rock supergroup Emerson, Lake and Palmer. ELP formed in 1970 after Emerson, guitarist Greg Lake (formerly of King Crimson) and drummer Carl Palmer… joined together for a project that would better showcase their musicianship.” In the space of less than two months, rock and roll has now lost David Bowie, Paul Kantner and now Keith Emerson.

Bob Lefsetz spoke for many of us when he wrote, “The act was so successful that it was rewarded with its own label, Manticore, with its own colorful majordomo, Mario Medius. We knew all this, because the musicians were our heroes, and we followed them, knew everything about them, they were testing limits, challenging precepts, making it up as they went along. Imagine if Jeff Bezos were cool. Mark Zuckerberg too…whoever played, whoever channeled the gods, whoever dominated our consciousness, was revered. Music was our religion. And Keith Emerson was one of the deities.”

Emerson was one of the few rock music stars who was not the lead singer or the lead guitarist. He slogged away leading the technological revolution in rock and roll. Emerson gave the following explanation for his views on what constituted Progressive Rock, “Pop songs are about repetition and riffs and simplicity,” Emerson explained to one interviewer. “Progressive music takes a riff, turns it inside out, plays it upside down [and] the other way around, and explores its potential.” In other words, it was about expanding not only the boundaries but also even the possibilities.

This expansion seems to be an appropriate place to consider our old friends at Volkswagen (VW). There has certainly been a complete lack of any good news for the company over the past several weeks. The expansion of the multiple and international investigations is widening and the US government has opened up a front which, down the line, may be something that even the Foreign Corrupt Practices Act (FCPA) practitioner will need to consider.

On the international front, French prosecutors have opened a formal probe into the carmaker’s actions. As reported by Peter Campbell and Michael Stothard in a Financial Times (FT) article, entitled “Prosecutors widen probes into VW”, France was looking into the “aggravated fraud” at the company after it had tested some 100 cars in October 2014. The piece quoted Nathalie Homobono, the head of the French national agency that looks at fraud. She said that it has been determined that the company cheated “with intent”.

As bad as it might seem to have the French national prosecutor in charge of corporate fraud breathing down your corporate neck, there was a development reported in a Wall Street Journal (WSJ) article, entitled “U.S. Expands VW Probe with Novel Tack” by Devlin Barrett and Aruna Viswanatha, that may be the more ominous for the anti-corruption practitioner going forward.

The article stated the Department of Justice (DOJ) recently “issued a subpoena under the Financial Institutions Reform, Recovery and Enforcement Act, or Firrea, to pursue possible wrongdoing at Volkswagen.” The article went on to explain that this is “a novel use of the civil financial fraud law that the Obama administration deployed to extract record-setting multibillion-dollar settlements from big banks in the wake of the 2008 financial crisis. It suggests the car maker faces another potential source of penalties after admitting it used illegal software that allowed diesel-powered vehicles to pollute more on the road than during government emissions tests.”

The article reported, “the Volkswagen subpoena marks the first known instance of the government using a banking law to pursue potential wrongdoing that is not directly linked to financial misconduct.” The article quoted John Coffee, a law professor at Columbia University who studies white-collar prosecutions, who said that the use of the law “is pushing the legal theory to its outermost limits, against a defendant that is not particularly sympathetic.”

In addition to simply putting more pressure on VW, the use of the law offers tactical considerations for the DOJ. As noted, “A Firrea-based investigation adds a front that could pose new issues because the statute allows the Justice Department’s civil division lawyers to look back at conduct over 10 years, twice as far as many fraud statutes allow.” It also allows the DOJ to consider whether lenders were harmed by financing VW cars that had fraudulently listed values because the company lied when it said those cars met diesel emissions-testing standards.

Finally, it provides the government greater flexibility as it allows sharing of information by criminal and civil prosecutors. Most generally, information obtained by prosecutors through grand jury subpoenas cannot be shared with “their civil counterparts.” This use of this law unties those knots.

How does all of this relate to a FCPA enforcement action? Consider the now standard Securities and Exchange Commission (SEC) remedy of profit disgorgement. You do not find this listed as available to the SEC as a remedy under the text of the FCPA, however it is listed as a remedy according to the FCPA Guidance, “under Section 21B of the Exchange Act”. To finally link all this together, it was not an amendment to the FCPA which added this remedy to the SEC’s arsenal but the amendment came through the passage of a law called The Penny Stock Reform Act of 1990, which amended the Securities Exchange Act of 1934 to: allow the SEC to …(2) enter an order requiring an accounting and disgorgement;”.

It is axiomatic that bad facts make bad law. The WSJ quote from Coffee reminds us that pushing laws to their unintended uses against a defendant, who on the one hand admits the conduct occurred but then continually backs off these admissions, can also lead to the expansive use of a law to bring such a recalcitrant corporation to heel.

What happens if the DOJ or SEC decides to consider the effect of bribery and corruption in connection with bank loans or other financing a corporation may have secured? How about if a company’s loan covenants require it to not only not break the law but also have an effective compliance program in place? What if a bank provides project financing for a multi-billion dollar natural gas plant in Nigeria or gas platforms offshore Brazil for Petrobras?

While you are considering all of above, go check out the first hit from ELP, Lucky Man, from the album entitled Emerson Lake & Palmer in this YouTube clip.

 

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

Head ScratchingLast week the Securities and Exchange Commission (SEC) concluded a Foreign Corrupt Practices Act (FPCA) enforcement action against Qualcomm Inc. for violations on the Accounting Provisions of the FCPA, including both the books and records and internal controls provisions. The enforcement action presented an interesting mix of clear FPCA violations of not having proper internal controls in place, a demonstration of the growing trend towards strict liability for violations of the Accounting Provisions and, finally, one head scratcher which would seem to point towards internal controls which did work. Taken together there are several important lessons to be learned for the compliance practitioner.

Hiring and Internal Controls Violations

In the Princeling enforcement category, first seen the Bank of New York Mellon FCPA enforcement action from 2014, we see how widely Qualcomm varied from its standard hiring protocols to hire the sons and daughters of officials of a state owned enterprise in China. Consider these business justifications for hiring a daughter of an official, as set out in the SEC Cease and Desist Order (Order):

  • “We received a request from the GM of [the telecom company’s subsidiary] to help find an internship position for her daughter (currently studying in the U.S.) within QC. I discussed this with [high level official] and determined that it would be important for us to support given our cooperation with [the subsidiary].”
  • Qualcomm employees understood that the daughter’s “parents are [SOE 2 subsidiary] Dept. GM level and gave us great help for Q.C. new business development.” Because “[the regional branch] is our strategic partner in China and plays an important role in leading all [the telecom company] adopting Qualcomm’s technologies,”
  • Qualcomm employees believed that the internship “would be important for us to support given our cooperation with [the subsidiary].” Specifically, the internship “would be good because we are doing quite a bit with [the subsidiary]”.

In another instance, the company provided the following for a son of an official:

  • support from a $75,000 research grant to an American university where he was studying, allowing him to retain his position in a PhD program and renew his student visa;
  • a Qualcomm internship;
  • subsequent permanent employment despite interviewers concluding that he did not meet Qualcomm’s hiring standards for the position; and
  • a business trip to China followed by leave to visit his parents over the Chinese New Year, despite other employees expressing concern regarding his qualifications for the assignment. The EVP also personally provided this employee with a $70,000 loan to buy a home.

What is even more amazing about the hiring of the son is that after the initial hiring interview he was rated as a “No Hire” because not only was he not a “skill match” for the company but he did not even “meet the minimum requirements for moving forward with an offer”. Finally, among the Qualcomm team involved in the interview process, “there was an agreement that he would be a drain (not even neutral) on teams he would join.” Yet he was offered a job as a “special favor”. [Emphasis supplied]. If someone is so unqualified that employing them will negatively impact the company, there must be another very good reason to hire them, such as providing a benefit to their father, who is an official under the FCPA.

Both of these instances demonstrate clear violations of internal controls around the company’s hiring process. If a candidate does not make it out of the initial interview with anything more that a “No Hire” rating that should be the end of the decision making process around compliance, full stop. Do not pass Go, do not Collect $200. As the Order succinctly noted, “FCPA compliance, however, was not considered in Qualcomm’s hiring process.” A fine and penalty for this transgression was clearly warranted, as it was a clear violation of internal controls around the company’s hiring process.

Books and Records and Strict Liability

In summary fashion, the Order states “when it provided things of value and engaged in transactions that caused the company to fail to make and keep books, records, and accounts, which, in reasonable detail accurately and fairly reflected the transactions and disposition of assets of the company.” The recordation was done in a “generic and non-descript manner that obscured their purpose.” The items and other things of value included un-named and undesignated gifts, travel and entertainment, with the specific notation that “meals, gifts and entertainments were repeatedly noted as missing from Qualcomm’s gift logs.”

This portion of the Qualcomm enforcement action points towards a growing trend of a strict liability standard in FCPA enforcement under the Accounting Provisions. While there may well be wide disagreement as to whether such a standard is warranted under the FCPA, I think it is coming and it is something every Chief Compliance Officer (CCO) and compliance practitioner needs to be ready to address if and when the day comes that your company is under the shadow of a FCPA investigation.

This means if your books and records comes under investigation, you will have to demonstrate that it meets some minimum standard that satisfies the SEC. The FCPA Guidance states, “under the “books and records” pro­vision, issuers must make and keep books, records, and accounts that, in reasonable detail, accurately and fairly reflect an issuer’s transactions and dispositions of an issu­er’s assets.” Moreover, “the accounting provisions ensure that all public companies account for all of their assets and liabilities accurately and in reasonable detail”. Obviously, the question is what is ‘reasonable detail’? This enforcement action does not provide much guidance.

The Head-Scratcher

There was one instance of the alleged failure of internal controls that seems so anomalous that it needs to be explored. I quote in full from the Order:

  1. For example, Qualcomm offered at least 15 foreign officials lavish hospitality packages worth approximately $95,000 per couple for the 2008 Beijing Olympics. Then, in mid to late-July 2008, a member of Qualcomm’s finance department raised FCPA issues related to the Olympics with Qualcomm counsel. In August 2008, just days before the Olympics began, Qualcomm rescinded the five hospitality invitations that had been accepted due to Qualcomm’s FCPA-related concerns. The disinvited guests were from three Chinese state-owned enterprises.

 Why does this seem so anomalous? It is because the company’s internal controls stopped this seeming violation. The internal controls did what they were supposed to do, detect a potential violation and even prevent it before it happened. Even if the local business folks started down this road, it is clear that the corporate office stopped it. If a compliance program is now going to be criticized in the form of an enforcement action for doing what it is supposed to do, detecting and then preventing FCPA violations, it may be will nigh impossible for any company to be in compliance with the FCPA.

Of course, this Order was the product of negotiations between the SEC and Qualcomm so there may be additional facts around this, questionable at best, hospitality play by Qualcomm. However, if there was more to this story, the SEC needs to use those facts to educate and inform companies on their obligations and not hold them liable for actually stopping bribery and corruption.

The Qualcomm FCPA enforcement action reinforces the need for robust internal controls around the hiring process. It should be studied by both the compliance function and your company’s Human Resources (HR) function. The lessons you can learn from this enforcement action can help you to forestall a similar fate for your company.

 

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© Thomas R. Fox, 2016