While the Foreign Corrupt Practices Act (“FCPA” or the “Act”) was enacted in 1977 to prevent the bribery of foreign officials, early enforcement was relatively limited with only a handful of actions announced annually. However, the increase in FCPA enforcement actions by the Department of Justice (“DOJ”) and the Securities and Exchange Commission (“SEC”) since 2007 has made FCPA compliance a critical issue for corporations, whether publicly or privately held, that conduct business overseas.
Recent enforcement actions have demonstrated how important it is for corporations to understand potential FCPA exposure when making global acquisitions or considering international joint ventures. In 2007, undiscovered FCPA violations caused eLandia International Inc. (“eLandia”), which acquired Latin Node Inc., to write off its entire investment of over $20 million in addition to paying a $2 million fine. In the eLandia example, the corrupt payments were not discovered until after closing and did not occur under eLandia’s watch, yet eLandia was held responsible for prior violations of the acquired company, Latin Node Inc.
In a separate and more recent matter, in July 2010 the SEC reached a $23.4 million settlement agreement with General Electric Co. (“GE”) over alleged FCPA violations, some of which took place at entities only recently acquired by GE. The SEC argued that, even though the violations occurred prior to GE’s ownership, in acquiring the entities, GE acquired not only their assets, but also their liabilities. Also in July 2010, a $240 million fine was levied by the DOJ against Saipem to resolve FCPA violations that occurred at an acquired company, even though the conduct at issue occurred over two years prior to the acquisition. Such actions clearly demonstrate the importance of conducting pre-transaction due diligence relative to FCPA compliance.
FCPA Overview
Understanding the basic premise of the FCPA is essential in determining the appropriate level of pre-transaction due diligence. Generally, the FCPA prohibits the bribery of foreign government officials as a means of obtaining or retaining business. To more specifically understand what constitutes a violation of the FCPA, it is helpful to be familiar with the five elements of the Act:
1 Who
2 Corrupt Intent
3 Payment
4 Recipient
5 Business Purpose Test
The “Who” element provides guidance to whom the FCPA applies. Both individuals and corporations are liable under the FCPA, and corporations can be either privately or publicly held, domestic or foreign-owned or domiciled.
The “Corrupt Intent” element requires that, “The person making or authorizing the payment must have a corrupt intent, and the payment must be intended to induce the recipient to misuse his official position to direct business wrongfully to the payer or to any other person.”1 It is important to note that only the intent is necessary; the corrupt act need not be successful.
The “Payment” element includes an offer, promise to pay, or actual payment of money or anything of value. While the Act does not define “anything of value,” it has been broadly interpreted to include not only cash and cash equivalents, but also travel and entertainment, discounts, promises of future employment, supplies and equipment, etc.
The “Recipient” element prohibits corrupt payments to a foreign official, a foreign political party or party official, or any candidate for foreign political office, regardless of rank or position. Judicial rulings and FCPA Opinion Procedures seem to indicate that the term “foreign official” includes state-owned business enterprises, whether the government’s ownership interest is full or partial (e.g., state universities, hospitals, etc.).
Finally, the “Business Purpose Test” prohibits payments that assist a corporation in obtaining or retaining business. This not only includes bribes to induce the direct award of business to a corporation, but also bribes that would give a corporation a competitive advantage in retaining business, such as bribes to reduce foreign taxes or other fees.
A New Era of Enforcement
As mentioned previously, FCPA enforcement actions have increased dramatically since 2007. As part of this increase, the SEC, DOJ, and even FBI are refining the tactics utilized historically to investigate and prosecute FCPA violations. For instance, the DOJ’s fraud section is entering new territory by focusing on small and middle market companies, and both the SEC and DOJ are working more collaboratively with the Internal Revenue Service’s Criminal Investigation Division.
A focus on individual prosecutions is another tactic the DOJ is pursuing, as evidenced by an increase in the number of individual prosecutions from 16 in 2008 to 46 in 2009. In fact, in his comments at the National Forum on Foreign Corrupt Practices Act in late 2009, Lanny Breuer, Assistant Attorney General for the DOJ, stated, “Put simply, the prospect of significant prison sentences for individuals should make clear to every corporate executive, every board member, and every sales agent that we will seek to hold you personally accountable for FCPA violations.”
Finally, the DOJ is enhancing its resources so that it can more aggressively pursue FCPA violators. The special FBI squad created in 2007 as a dedicated resource for FCPA investigations continues to expand, along with the use of more traditional law enforcement investigative techniques, such as wire-tapping and the use of undercover agents.
FCPA Considerations in M&A Transactions
The eLandia, Saipem, and GE cases mentioned previously certainly underscore the importance of conducting pre-transaction FCPA due diligence as a means of avoiding potential successor liability. In addition, such due diligence can also provide insights into additional potential revenue or cost impacts that need to be considered when evaluating a transaction or structuring a deal. For instance, if an acquisition target is not currently operating with a compliance program or is operating a compliance program that is not consistent with the acquiring company’s policies and procedures, what costs and resources will be necessary to ensure the target is compliant with the acquirer’s policies and procedures going forward?
There is also the question of whether any portion of the target’s current revenue stream and profitability could be at risk if it was attained via business practices that violate the FCPA. Consider the target that received its largest contract as a result of a bribe or the target that is able to maximize profitability by paying a lower import fee than its competitors as a result of a bribe. Is the value of these targets the same when adjusting earnings on a go-forward basis, assuming FCPA compliance will be required?
What to Look For
When considering an acquisition, conducting due diligence in the following areas will provide guidance as to potential FCPA exposure and provide an indication of any areas where a “deeper dive” may be necessary:
Nature of the Business
Policies and Procedures
History of Investigations
Hospitality and Entertainment Spending
Nature of the Business
When conducting due diligence of the nature of the business of the target, it is first important to understand where the target conducts its business. If a target has significant international operations or foreign customers, the next step is to determine whether or not the operations or customers are located in countries or regions with a history of corruption or bribery problems, such as Southeast Asia and the Middle East. The depth of the due diligence activities should be structured to appropriately account for the relative probability of corrupt business activities occurring. Similarly, aside from the geographic location where the target is conducting business, the industry in which the target operates should also be considered. Certain industries such as defense, energy, engineering, construction, and healthcare have a history of corruption, and the business practices of targets operating in such industries should be thoroughly evaluated.
For targets with identified international customers or operations, specific relationships must be investigated. For example, do any target company employees hold foreign government positions or serve on the Boards of any government-owned or -operated entities? Alternatively, does the target conduct business transactions with foreign officials or political parties and candidates? If yes, a detailed transaction history for any such customers should be obtained and evaluated to identify potential suspicious activity.
Finally, does the target utilize third-party agents or consultants to facilitate business activities? Companies can be held liable for the actions of third-party agents or consultants acting on their behalf, with or without specific knowledge of activities that violate the FCPA.
Policies and Procedures
The existing policies and procedures in place at the target can provide critical insight into not only the time and monetary investment that will be required to integrate the target into any existing compliance programs of the acquirer, but also into the acquirer’s potential exposure to future liabilities as a result of the target’s compliance deficiencies. On a basic level, an acquirer should understand whether the target has any foreign bribery, anti-money laundering, or anti-kickback policies in place. Policies relating to the conduct of any agents, consultants, suppliers, distributors, or third-party intermediaries utilized by the target should also be investigated. Finally, if the target has compliance programs in place, does the target have written internal audit policies and procedures that are consistently implemented to test adherence to such programs and effective employee training programs in place that are conducted at consistent, regular intervals?
History of Investigations
The history of any anti-bribery, money laundering, or anti-kickback investigations at the target, whether internal or external, is an important component of the due diligence process. Any records or results of such investigations should be carefully reviewed. As part of the due diligence process the acquirer should also request any records maintained by the target relating to allegations of impropriety, whether or not such allegations resulted in any type of investigation or formal action. While a history of numerous investigations is concerning, even more concerning is a history of failing to address potentially corrupt activities.
Aside from simply asking the target for self-maintained records, independent public record and media searches should be conducted to validate any information provided. Public record and media searches should also be utilized to evaluate the reputation of not only the target, but also its key executives, compliance personnel (if any), and sales and marketing staff.
Hospitality and Entertainment Spending
Hospitality and entertainment spending can be a good indicator of potential FCPA liability. When reviewing hospitality and entertainment spending, it is important to determine the following:
Whether the target provides anything of value, such as hospitality, entertainment, or gifts to foreign officials, members of political parties, or candidates for foreign office
Whether the target sponsors travel for foreign officials
Whether the target engages foreign officials to provide products or services
Whether the target makes charitable, social, or political contributions in the countries where it operates
Positive indications in any of the above areas will require a more thorough assessment of specific transactions to identify any potential FCPA exposure.
Conclusion
Companies that are considering an international merger, acquisition, or joint venture need to be aware of the risks that come with compliance with the FCPA. If the recent SEC and DOJ enforcement actions are any indication, these transactions will continue to come under heavy regulatory scrutiny. The costs associated with fines, internal investigations, potential corporate monitors, and increased compliance can wipe out the benefits of potential deals.
1 http://www.justice.gov/criminal/fraud/fcpa/docs/lay-persons-guide.pdf
