A Short Guide for MNCs to Avoid FCPA Violation in China

Date:2021/07/23 Views:660

 

Many multinational corporations (“MNC”) investing and operating in China fall under the jurisdiction of the Foreign Corrupt Practices Act of the United States (“FCPA”). As of July 2021, China has already seen 68 FCPA enforcement actions, significantly higher than other countries and regions. ① In a record-breaking enforcement action last year, Airbus agreed to pay over $294 million to the department of Justice of the United States (“DOJ” ) for its bribery conducted in China and other countries. ② Just recently, Deutsche Bank agreed to pay $130 million to DOJ and $43 million to the Security Exchange Commission (“SEC”) in order to settle the FCPA charges brought by the two enforcement authorities. Deutsche bank was alleged, among other things, having engaged foreign officials in China to obtain and retain business. ③ Given the intense FCPA enforcement carried out by DOJ and SEC despite the effect of the Covid-19 pandemic, we believe MNCs operating in China and falling under the jurisdiction of the FCPA should expect a continuously robust FCPA enforcement in a postpandemic era.


This short guide is intended to briefly explore the FCPA’s impact on MNCs doing business in China and advise on how MNCs can proactively avoid triggering FCPA enforcement.

 

The Anti-bribery Provision and its Jurisdiction

Enacted by the US Congress in 1977, the FCPA was a direct result of the Water Gate Scandal and the first comprehensive law regulating transnational commercial bribery. The FCPA contains anti-bribery provisions and accounting provisions. The anti-bribery provisions prohibit improper payments to “foreign officials” in order to obtain or retain business, and apply to “issuer” ④ , “domestic concern” ⑤ and those acting on behalf of issuers and domestic concerns.


Specifically, the anti-bribery provision of the FCPA prohibits the payment, offer, gift, or authorization of giving money or anything of value to foreign officials. ⑥ In enforcement practice, the scope of anything of value has been broadly construed to include but not limited to discount, transportation, entertainment, lodging and employment.

 

The term “foreign official” is broadly defined by the FPCA and include any officer or employee of a foreign government, or any department, agency and instrumentality of a foreign government, as well as a public international organization. ⑦ An issuer is a company which registered under Section 12 of the Exchange Act or is required to file reports with the SEC under Section 15(d)of the Exchange Act. “Domestic Concern” broadly covers any citizen, national or resident of the United States or business entities that is organized under the law of the United States or has its principal place of business in the United States. The FCPA also has territorial jurisdiction over foreign persons and entities that engage corrupt payment while in the territory of the United States. The accounting provisions impose record keeping and internal control requirements on issuers and those acting on their behalf.

 

An Overview of FCPA Enforcement in China

China’s vast consumer market and cheap labor has long made itself an attractive place for MNCs. China’s state-owned or state-controlled entities have often been identified under the FCPA as government instrumentalities, and any improper payment made to officers or employees of those entities will risk violating the FCPA.

Adding to the economic structure, the common business practice in China has traditionally tolerated some forms of corrupt payment in doing business. A survey regrading commercial bribery in China once showed that 77% of the participants acknowledged that they would agree to provide kickbacks or other forms of commission if they were considered essential to facilitate a business opportunity. The deeply rooted culture of “Guanxi” has played an important role in Chinese business culture, and has resulted in many MNCs feeling pressured to engage in corrupt payment, thus avoid a major disadvantage with their competitors.

Based on the record of China-related FCPA enforcements, MNCs in certain industries should particularly be aware of their risks associated with FCPA violation. For example, the pharmaceutical industry has long been a focus point of FCPA enforcement in China. Doctors employed by Chinese public hospitals are identified as foreign officials under the FCPA. Many international pharmaceutical MNCs, including Novartis, GSK, Eli Lilly, and Pfizer have been struggling with corrupt payment in the pursuit of greater market dominance in China.

In a typical case of FCPA violation in the pharmaceutical industry, GSK, the Switzerland headquartered company paid a $20 million civil penalty to SEC, as its China-based subsidiary had engaged in pay-to-prescribe schemes and provided money, gifts and other things of value to health care professionals. ⑧ Although details of the SEC investigation were not disclosed to the public, the case was widely reported and triggered investigation by Chinese authorities. GSK was found colluding with a travel agency in Shanghai to funnel money to doctors using fraudulent invoices and was eventually fined by a Chinese court for a record $489 million. Several of GSK China’s senior executives faced criminal prosecution and were sentenced to different fixed term imprisonment.

Following the pharmaceutical industry, DOJ and SEC have also brought a number of actions against MNCs in China’s manufacturing and technology sector, and the list has included Qualcoomm, IBM, Daimler, and GE. In an enforcement action arising out of corrupt payment made to Chinese officials by technology company, Qualcoomm, the California based chip manufacturer paid a $7.5 Million penalty to SEC for providing things of value to Chinese government officials in exchange of favorable regulatory decisions and executives from SOEs to expand Qualcoomm’s market. Qualcoomm was also alleged hiring relatives of Chinese officials and providing gifts and entertainment to those officials or their relatives. ⑨


How to avoid FCPA Violation in China?

A. Government Instrumentality

As FCPA prohibits corrupt payment to “foreign officials”, any MNC developing policies to avoid FCPA violation in China should consider it a priority to identify whether a person they deal with is a “foreign official”. However, this is particularly a challenge for MNCs that are not familiar with China’s state-owned economy.

In US v. Carson, the defendant Carson company was charged by DOJ for making corrupt payment to employees of Chinese government instrumentalities including China National Offshore Oil Corporation, Guohua Electric Power, China Petroleum Materials and Equipment. The company submitted to the court a 61-page document arguing that those companies should not be identified as government instrumentalities. However, like nearly all of the courts that have considered this issue, the district court denied the defendant’s motion.

In one of most important cases regarding the definition of government instrumentality. The Eleventh Circuit Court of the US in United States v. Esquenazi defined an instrumentality under the FCPA as an entity controlled by the government of a foreign country that perform a function the controlling government treats as its own, the court additionally provided a list of factors to determine whether the government controls an entity, including a foreign government’s formal designation of entity; whether the government has a majority interest in the entity; the government’s ability to hire and fire the entity’s principals; and whether the profit of the entity goes to the government and the government subsidies the entity. ⑩

Factors to determine whether an entity is performing a function government treats as its own include whether the entity has a monopoly over the functions it carries out, whether the government subsidies the entity; whether the entity provides services to the public at large; and whether the public and government generally perceive the entity to be performing a government function. ⑪

MNCs should have a comprehensive understanding of the above factors that could make a foreign entity a government instrumentality under the FCPA, and pay special attention in areas which are characterized by China’s state-controlled economic structure.

For example, if an MNC plans to invite journalists for a product launch in the Chinese market. The PR department may need to be careful when sending out invitations and “red envelopes” to the invited journalists. Unlike the media industry in the United States, many media organizations in China are wholly or partially owned by the government. Journalists from state-owned media will be identified as foreign officials under the FCPA and the act of giving “small gifts” will constitute a contravention of the anti-bribery provision. In a typical FCPA violation of carrying out corrupt payment to media in China, DOJ alleged that Avon China paid $77500 to become a sponsor of a state-owned newspaper, so that the newspaper would not run a negative article regarding Avon China’s improper recruiting practice. ⑫

In general, court rulings so far have given DOJ a broad range of grounds to argue that an entity controlled by a foreign government constitutes a government instrumentality, and employee of such entity is a “foreign official” under the FCPA. It is therefore critical for MNCs doing business in China to be familiar with the scope of government instrumentality and proactively identify foreign officials in their daily operation. A timely and accurate identification mechanism will help MNCs lower the risk of FCPA violation.

 

B. Successor Liability

MNCs will be subject to successor liability if they merge with or acquire another company which violated the FCPA prior to the transaction. ⑬ FCPA violations by a target company may have a substantial impact on M&A transaction in which the acquirer falls under the jurisdiction of the FCPA.

In United States v. Titan Corp, Titan Corporation made several improper payments to an official who was close to the then president of Benin in securing local business. Titan also allegedly made improper payments to directly support the campaign of the president. ⑭ These FCPA violations were discovered by Lockheed Martin Corporation, a major U.S defense company, in its preacquisition due diligence for a proposed merger with Titan. The two companies together disclosed the findings to the enforcement agencies and the closing date of the merger was postponed twice to give Titan time to reach a settlement with DOJ and SEC. However, Lockheed Martin eventually walked away from the transaction when Titan failed to reach a settlement with the government before a deadline. The failure of this transaction sufficiently demonstrated the deterrence of successor liability under the FPCA. ⑮

MNCs have long played an active role in China’s M&A market. For MNCs under the regulation of the FCPA and that are looking for M&A deals in China, successor liability can potentially be a major risk and an acquiring MNC should conduct an exhaustive due diligence to identify any potential liability due to FCPA violation prior to the transaction. Where a thorough preacquisition due diligence is not possible, an acquiring MNC should promptly disclose findings to DOJ through the opinion procedure in exchange for a DOJ opinion release ⑯ and timely develop a plan to carry out post-acquisition due diligence. Halliburton, a U.S. issuer that once made a bid to acquire a company in the United Kingdom, disclosed its due diligence findings to DOJ upon obtaining information relevant to possible FCPA violations through DOJ’s opinion procedure. DOJ agreed not to take any enforcement action against Halliburton, provided that Halliburton would implement an internal control mechanism and satisfy certain requirements after it acquires the target company. ⑰

In the event that an FCPA investigation has already been initiated, MNCs under investigation can also avoid enforcement by choosing to fully cooperate with the enforcement authorities in providing necessary information and remedies. In a typical non-enforcement case of successor liability, Latin Node Inc., a private Florida corporation paid millions of dollars to third party consultants with the knowledge that the money would be given to government officials in Yemen and Honduras. ⑱ Latin Node was later acquired by eLandia International Inc., and the legal counsel of eLandia promptly disclosed the discovery of improper payments and cooperated with DOJ in its investigation. DOJ chose not to take enforcement action against eLandia because of the company’s voluntary disclosure and full cooperation.

 

C. Joint Venture Liability

Chinese regulators have long imposed access restriction on certain domestic industries, and MNCs would only be allowed into those industries if they partner with a Chinese company. At the same time, as Chinese companies are familiar with the local market and may have already set up their own distribution channels, partnership with a Chinese company can help MNCs entering Chinese market save a significant amount of time and resources.

MNCs should be aware that they may be held liable for corrupt payment carried by a joint-venture under the FCPA and such liability can be imposed merely based on the knowledge of FCPA violation. In an action brought against RAE system, a company headquartered in California, USA, RAE system was held responsible for the acts of the two joint ventures which RAE system operated with their Chinese partner. According to DOJ, RAE system was already aware of improper commission and kickbacks before acquiring the majority of joint ventures, and RAE system chose not to implement full internal control after it became aware of the improper act of the joint ventures. ⑲

Further, not only MNCs can be held liable for FCPA violation by joint venture in which they have a majority interest, this liability is also applicable to non-controlled joint ventures if MNCs participate in the corrupt payment or fail to provide necessary remedies after being aware of the corrupt payment. For example, in DOJ’s prosecution of TSKJ, TSKJ was alleged to have paid $183 million to third party corporations knowing that such money would be used to bribe Nigerian government officials, and none of TSKJ’s four members, Technip, Snamprogetti, KBR and JGC had a majority interest in the partnership.

Accordingly, MNCs operating joint-ventures in China or those planning to set up a joint venture should carry out a comprehensive due diligence of their partners, including the partners’ FCPA compliance records and their relationship with Chinese officials. MNCs that are non-controlling partners of a joint venture should particularly exhaust all necessary means to know the controlling partner’s compliance record better, and fully utilize the joint venture agreement to protect their interest and avoid FCPA violation.

 

D. Internal Compliance Training

In deciding whether to bring an enforcement action against a company that violates FCPA, DOJ and SEC attach great importance to whether the company has implemented an internal compliance training program. The Evaluation of Corporate Compliance program of DOJ clearly states that “another hallmark of a well-designed compliance program is appropriately tailored training and communications.” And that “Prosecutors should assess the steps taken by the company to ensure that policies and procedures have been integrated into the organization, including through periodic training and certification for all directors, officers, relevant employees, and, where appropriate, agents and business partners.” ⑳

In a typical non-enforcement case, DOJ and SEC opted not to bring an enforcement action against Morgan Stanley for its violations of the FCPA. During the investigation, DOJ found that Garth Peterson, a former managing director of Morgan Stanley, circumvented the company’s internal compliance program in selling real-estate interest to a Chinese SOE, paid himself and an official of the Chinese SOE $1.8 million in fraudulent finders’ fees. ㉑

However, DOJ cited that Morgan Stanley had maintained a system of internal control which were updated regularly to reflect regulatory developments and specific risks. ㉒ In particular, Morgan Stanley had implemented a vigorous compliance training program, including training of its Asia-based personnel on anti-corruption policies 54 times from 2002 to 2008. And that during the same period, Morgan Stanley trained Peterson about the FCPA seven times and reminded him to comply with the FCPA at least 35 times. ㉓ This non-prosecution decision by DOJ demonstrated the importance of setting up an internal compliance training program for MNCs doing business in China.

In general, employees who have direct contact with the local Chinese governments or SOEs tend to have a higher risk of FCPA violations than other employees of a MNC, followed by employees of the sales department. MNCs in China should therefore give priority and special attention in providing sufficient compliance training to employees of these departments.

MNCs should further note that due to various reasons including jurisdiction, judicial resources, and the difficulty to collect evidence, DOJ and SEC have often only targeted senior executives of companies in individual FCPA prosecutions. FCPA enforcement may have only limited deterrence on employees who are down the corporate ladder. However, DOJ and SEC have often cited violations carried out by junior staff of MNCs in corporate FCPA enforcement. Corrupt payment or other FCPA violations carried out by junior employees constitute a significant part of the overall FCPA enforcements in China, MNCs should accordingly provide sufficient compliance training that cover both senior and junior employees, and that such training should be provided by experts who understand both the FCPA and Chinese business culture.

 

E. Disclosure and Remedies

As an effective way of saving judicial resources, DOJ and SEC have so far developed and implemented a variety of leniency policies for companies that actively disclose information and provide remedies during FCPA investigation.

One of the most important FCPA leniency policies is that companies under FCPA investigation can be allowed to enter into a deferred-prosecution agreement or a non-prosecution agreement with DOJ and SEC, and US courts often will not strictly review evidence submitted for reaching such agreements. Although DOJ and SEC have not published detailed standards in allowing companies under investigation to reach such agreements, it is important for MNCs to timely disclose information and carry out remedial measures following a FCPA investigation if they expect to reach such agreements and avoid prosecution.

Further, DOJ has adopted the FCPA Corporate Enforcement Policy of the Justice Manual in bringing an enforcement action against corporate FCPA violation. The policy unambiguously provides that “When a company has voluntarily self-disclosed misconduct in an FCPA matter, fully cooperated, and timely and appropriately remediated, all in accordance with the standards set forth below, there will be a presumption that the company will receive a declination absent aggravating circumstances involving the seriousness of the offense or the nature of the offender.” ㉔ If DOJ ultimately decides to prosecute a company for its FCPA violation, a company that satisfies the requirements specified in the enforcement policy will be eligible for a 50% reduction off of the low end of the US Sentencing Guidelines Fine Range. In addition, even if a company fails to disclose its FCPA violation based on standards provided by DOJ, the company will still be eligible for a 25% reduction if it later provides full cooperation and necessary remedies. ㉕ Based on recent FCPA enforcements against MNCs, such policy will potentially result in a significant reduction of penalties imposed by DOJ and SEC.

 

This article should not be construed as legal advice on any specific facts or circumstances. The contents are intended for general information purposes only and may not be quoted or referred to in any other publication or proceeding without the prior written consent of the authors, to be given or withheld at our discretion.

 

①  This is based on the statistics as of July 19, 2021, provided by the Foreign Corrupt Practice Act Clearinghouse, Stanford Law School, available at https://fcpa.stanford.edu.
②See DOJ, “Airbus Agrees to Pay over $3.9 Billion in Global Penalties to Resolve Foreign Bribery and ITAR Case” (DOJ Press Release, January 31, 2020), https://www.justice.gov/opa/pr/airbus-agrees-pay-over-39-billion-global-penalties-resolve-foreign-bribery-and-itar-case.
③ See DOJ, “Deutsche Bank Agrees to Pay over $130 Million to Resolve Foreign Corrupt Practices Act and Fraud Case” (DOJ Press Release, 8 January, 2021), available at https://www.justice.gov/opa/pr/deutsche-bank-agrees-pay-over-130-million-resolve-foreign-corrupt-practices-act-and-fraud.
④  15 U.S.C. § 78dd-1.
⑤  15 U.S.C. § 78dd-2.
⑥  FCPA prohibits offering to pay, paying, promising to pay, or authorizing the payment of money or anything of value to a foreign official in order to influence any act or decision of the foreign official in his or her official capacity or to secure any other improper advantage in order to obtain or retain business.
⑦  The full elements of bribery under the FCPA include 1) make a payment of, offer or promise to pay, or authorize a payment of money or anything of value, directly or indirectly; 2) to any foreign official, politician, party official, candidate for office; 3) with a corrupt intent; 4) for the purpose of influencing one of these person’s official acts or decisions in violation of his or her lawful duty; 5) in order to assist in obtaining or retaining business.
⑧  See Administrative proceeding File No. 3-17606, available at https://www.sec.gov/litigation/admin/2016/34-79005-s.pdf.
⑨  See Securities Exchange Act of 1934 Release No.77261, 2016, p.5-p.6.
⑩  See United States v. Esquenazi (11th Cir. May 16, 2014)
⑪  Id.
⑫  See DOJ’s Deferred Prosecution Agreement with Avon, 17 November 2017, p.16.
⑬ See Criminal Division of the U.S. Department of Justice and the Enforcement Division of the U.S. Securities and Exchange Commission, “A Resource Guide to the U.S. Foreign Corrupt Practices Act”, 2020, p.28.
⑭  United States V. Titan Corporation, 05-CR-314-BEN.
⑮  In enforcement practice, DOJ and SEC have so far only enforced the successor liability in a limited number of cases such as SEC v. El Paso Corp and United States v. TechnipFMC plc, in which the successors either failed to stop or directly participate in FCPA violations following acquisition or merger. In general, DOJ and SEC have been unwilling to pursue enforcement action against a successor if the successor voluntarily report the violation and cooperate with DOJ and SEC.
⑯  The DOJ opinion procedure allows companies and individuals to submit information to DOJ for a determination of whether proposed conducts would be prosecuted under the FCPA. Opinions given by DOJ relate only to the FCPA’s anti-bribery provisions.
⑰ For detailed requirements given by DOJ in exchange for the non-prosecution agreement, See U.S. Department of Justice, Opinion Procedure Release, Foreign Corrupt Practices Act Review, No.:08-02.
⑱ See DOJ, “Latin Node Inc., Pleads Guilty to Foreign Corrupt Practices Act Violation and Agrees to Pay $2 Million Criminal Fine” (DOJ Press Release, 7 April 2009), available at https://www.justice.gov/opa/pr/latin-node-inc-pleads-guilty-foreign-corrupt-practices-act-violation-and-agrees-pay-2-million.
⑲  See DOJ, “RAE Systems Agrees to Pay $1.7 Million Criminal Penalty to Resolve Violations of the Foreign Corrupt Practices Act” (DOJ Press Release, 10 December 2010), available at https://www.justice.gov/opa/pr/rae-systems.
⑳  See DOJ, Evaluation of Corporate Compliance Programs (Updated June 2020), p.5.
㉑ See DOJ, “Former Morgan Stanley Managing Director Pleads Guilty for Role in Evading Internal Controls Required by FCPA” (DOJ Press Release, 25 April, 2012), available at https://www.justice.gov/opa/pr/former-morgan-stanley-managing-director-pleads-guilty-role-evading-internal-controls-required.
㉒  Id.
㉓  Id.
㉔  See 9-47.120 - FCPA Corporate Enforcement Policy.
㉕  Id.

(Ian Zheng / Harry Wang)

Associate Professionals