Hanson Law Gazette - March 27, 2012

The Hanson Law Gazette

March 27, 2012



In this era of uncertainty and increasing pressure from the government, D&O insurance carriers should beware of potential dangers and benefits that the government’s actions bring. One of such pressures comes from the Department of Justice (DOJ) and the Securities and Exchange Commission (SEC) and their aggressive enforcement of the U.S. Foreign Corrupt Practices Act (FCPA) in the recent years. The prosecutions under the FCPA, which was enacted in 1977, have reached a record-breaking number under the Obama administration.

The FCPA, under its anti-bribery provisions, prohibits any person, entity and certain applicable foreign entities listed on a U.S. stock exchange from corruptly paying or offering to pay anything of value to a foreign official to obtain or retain business. The second arm of the FCPA is the accounting provision, which requires companies with securities that are traded on a U.S. exchange to file reports with the SEC and set up adequate internal controls and bookkeeping to accurately reflect business transactions.

The purpose of the FCPA is to deter and punish this conduct by civil and criminal penalties as well as possible jail time. A government study found that over 400 U.S. companies have paid in excess of $300 million in bribes and other questionable payments to foreign government officials, politicians, and political parties. It is due to that perceived problem that the FCPA imposes substantial fines and penalties on companies and individuals. Under the anti-bribery provisions, a company may incur a criminal penalty of up to $2 million and a civil penalty of up $500,000. An individual may receive somewhat lower penalties: a criminal penalty up to $250,000, a civil penalty up to $100,000, and imprisonment of up to 5 years.  A civil penalty fine of up to $100,000 may also be levied against individual offenders. The fines under the accounting provisions are even steeper: up to $25 million for a company and an individual for up to $5 million and/or be imprisoned for up to 20 years. Thus, the FCPA treats failing to maintain to proper controls more harshly than the actual bribery.

These civil fines are only the tip of the iceberg, however, as the law also provides for the remedy of disgorgement. When company must pay back any benefits obtained in connection with FCPA violations, this portion of the liability is often larger than the fines mentioned above. What is more, by statute, FCPA fines imposed against individuals may not be paid directly or indirectly by their companies. Therefore, companies are prohibited from providing indemnification for individuals against liability.

Still, insurance coverage may apply. Insureds facing these large penalties may urge underwriters for specific inclusions of FCPA liability. On the coverage side, insureds will almost certainly look for ways to construe their existing coverage as shifting some or all of their liability to their insurers.

Recently, Tyson Foods, Inc., a U.S. food-products company, settled with the DOJ and the SEC for $5.2 million in fines and penalties for its violation of the FCPA. In 2011, Johnson and Johnson agreed to pay more than $48.6 million in disgorgement and prejudgment interest to settle the SEC’s charges and $21.4 million to settle DOJ’s charges. Also in 2011, the SEC obtained a $31.2 million settlement Magyar Telekom Plc of Hungary, and SEC then filed a complaint against three former employees of the company for their role in the FCPA violations. Moreover, enforcement actions have been brought against seven former Siemens executives and two former Siemens third-party agents.

In 2010, the DOJ charged 22 individuals with violating the FCPA after conducting a large sting operation. The accused believed that they were bribing the Minister of Defense in an African country through sales agents apparently close to the Minister, but those agents were in fact undercover FBI agents. The jury could not reach a verdict with respect to seven defendants in two extremely expensive trials that lasted six months. Two defendants were acquitted by the jury, and the judge dismissed the charges against a third defendant. Last month, the government filed dismissed the charges. However, the damage has been done. One of the defendants exhausted most of his financial resources after only two months of trial and “millions of dollars, much of it taxpayer money, have been wasted,” according to defense counsel.

Unfortunately, this is one of the very few victories for the defendants. A Justice Department spokeswoman, Laura Sweeney, stated that since 2009, the DOJ has “secured dozens of guilty pleas and trial convictions of individuals, and obtained substantial sentences.” These prosecutions of individual defendants and numerous corporate prosecutions, which have included more than 40 guilty pleas, produced more than two billion dollars in criminal penalties. Moreover, she stated that “we will continue to vigorously investigate and prosecute acts of foreign bribery covered by this important law…”

The penalties discussed above are often accompanied by defense and investigative costs that dwarf the fines and disgorgement liability. The investigatory costs prior to the actual filing of the official lawsuit or subpoena can run into millions of dollars. D&O policies may not cover these costs.  Siemens paid approximately $850 million in legal and accounting fees to defend itself during the government’s investigation.

D&O doesn't respond very well to FCPA investigations, as opposed to actual FCPA proceedings,” said Machua Millett, a Boston-based senior Vice President at Marsh USA, Inc. “You're not incurring a great deal of costs in relation to the actual complaint, you're incurring them through the course of an investigation, much of which might not be covered by your D&O insurance.

Because of the significant costs associated with FCPA-related litigation, FCPA claims are a real danger to D&O carriers without proper awareness of the risk factors involved, and D&O insurers may be unpleasantly surprised at the extreme costs that arise. Policyholders may want to extend coverage beyond litigation costs to the preliminary and related investigatory costs, as those may be the most costly part of the process. Insureds without robust FCPA policies, procedures, and supervisory controls may be at risk that an employee’s eagerness to bring in a deal turns into an illegal bribe. Insurance carriers that are able to properly evaluate the effectiveness of the insured’s FCPA compliance program could benefit greatly from a growing demand for FCPA-related coverage.