|November 6, 2013|
Previously published on November 1, 2013
In January 2011, Maxwell Technologies, Inc., a San Diego-based manufacturer of energy storage and power-delivery products, entered into a deferred prosecution agreement and paid $13.65 million in penalties to the Department of Justice and the Securities & Exchange Commission in connection with bribes paid by Maxwell’s Swiss subsidiary to officials of state-owned companies in China between 2002 and 2009. Surely, the company hoped at the time that the deferred prosecution agreement would provide some closure and allow the company to move on. Several weeks ago, however, nearly three year after the deferred prosecution agreement was signed, the case made headlines again when the DOJ indicted Alain Riedo, the former general manager of the Swiss subsidiary. Mr. Riedo’s indictment reflects one of the consequences of companies getting caught in the government’s crosshairs: fallout from FCPA violations can last for a very long time.
Background on the Maxwell Case and the “Padded Invoice” Scheme
The Maxwell case is a good FCPA case study, since Mr. Riedo and his co-conspirators allegedly used one of the most common schemes to circumvent internal controls and generate the funds used to pay bribes: the so-called “padded invoice” scheme. Specifically, the government alleges that Maxwell’s sales agent in China would give quotes to Maxwell’s Chinese customers that included a secret markup of approximately 20% of the sales price. The employees of the Chinese customers agreed to pay the inflated prices to Maxwell. The sales agent would then invoice Maxwell for the extra 20%, describing the amounts as supposedly legitimate “commissions” or “special arrangement” fees owed to the sales agent. Once the “extra funds” were in the hands of the sales agent, the funds were paid directly to the employees of the Chinese companies who authorized the original purchases at the inflated prices in the first place.
This case also exemplifies how the funds used to pay bribes almost invariably come from the company’s coffers after employees have circumvented internal controls and created the impression that a legitimate transaction (such as the “commission” in the Maxwell case) occurred. The case is also a reminder to those charged with developing and implementing internal controls that weak internal controls are invitations for misconduct to employees intent on acting unethically, and that the methods put in place to detect improper conduct must anticipate very aggressive and creative bad actors.
The Risks of Doing Business in China
The Maxwell case also demonstrates the DOJ’s focus on bribery by U.S. companies or their affiliates in China. That focus exists in part because the “gift-giving” culture in China can provide easy cover for bribes. From an operational perspective, companies doing business in China must navigate the risk that comes with often having to do business through third-party agents or brokers, as was the case in Maxwell. These third parties oftentimes pay little attention to U.S. companies’ anti-corruption policies. Also, companies need to be especially wary, in light of the realities on the ground in China, that their employees and agents are often put under immense pressure to bend or break corporate policies. For example, Mr. Riedo’s indictment reflects that Maxwell purportedly lost business to competitors when it refused to pay “extra amounts” to the Chinese officials, and that its sales agents were constantly pressured by their Chinese customers to pay a percentage of sales as a “kickback.”
In order to prevent employees from succumbing to such pressure, companies need to (1) educate employees on the legal and business risks of conducting business unethically, (2) have very strict internal controls that employees anticipate will detect bribery, and (3) make sure employees and agents understand that any unethical or unlawful conduct will lead to severe consequences. Put another way, companies’ goal should be to have employees who are faced with paying a potential bribe forego the improper conduct because the reward does not justify the risk.
The Long-Term Collateral Damage of FCPA Violations
One of the big-picture lessons that business executives and their counsel can take away from the Maxwell case is that it is extremely difficult for companies to completely close the book on an FCPA enforcement action and move on. It is not as simple as presenting the DOJ with the results of an internal investigation, entering into a deferred prosecution agreement, and writing a check to the United States Treasury. Rather, cooperation obligations (and the large legal fees that go with them) often last for years and, as the Maxwell case demonstrates, people affiliated with the company are subject to later prosecution - even if the company itself reached a settlement and assumed responsibility for the wrongdoing. In such cases, the company is faced with its dirty laundry being aired in a public courtroom, which is exactly what the company wanted to avoid in the first place when it settled the case.
With respect to cooperation obligations, Maxwell’s three-year deferred prosecution agreement required the company to (1) implement enhanced compliance programs and internal controls, (2) report periodically to the DOJ about the company’s compliance efforts, and (3) to cooperate with the DOJ in connection with its ongoing investigations. While these provisions may not sound particularly onerous on their face, they can be. For example, the DOJ may require officers and employees to be interviewed, the company may be required to respond to frequent document requests, and the DOJ may mandate that specific compliance measures be implemented until it is satisfied the company’s internal controls are sufficient. Also, during the “deferral period,” companies are essentially put in the position of helping the DOJ build cases against its current or former employees, as was apparently the case with Mr. Riedo. In short, while the deferred prosecution agreement is in place, the government wields an immense amount of power over the company, which is something companies need to consider (and attempt to mitigate) when they are negotiating a settlement with the DOJ.
The Maxwell case evidences the DOJ’s emphasis on prosecuting individuals for FCPA offenses, as well as the DOJ’s focus on bribery committed by U.S. companies (or their affiliates) in China. Additionally, the case reflects that FCPA enforcement actions can drag on for years - and they can be an expensive distraction long after the day the company settles and pays a financial penalty. The long-lasting collateral damage posed by FCPA enforcement actions should serve as a reminder that it is well worth the time and expense of implementing policies and internal controls that are as airtight as possible in order to prevent and detect potential bribery before it occurs.