SEC, DOJ, Microsoft Settle FCPA Charges

When the Foreign Corrupt Practices Act is mentioned it typically brings to mind stories of foreign bribery and perhaps some of the sensational tales of U.S firms toppling foreign governments that originated during the legislative process. Yet at the time the draft legislation was being crafted, it began with books and records. Then SEC Enforcement Director Stanley Sporkin pushed hard for the books and records provisions based on the straight forward proposition that corporations are stewards of shareholder money and owed them a duty to say what is being done with it. The internal control provisions were written by then SEC Chief Accountant Sandy Burton who went on to serve as the Dean of the Columbia Graduate School of Business for years.

Senator Proxmire championed the bribery provisions over the strong objections of the Commission. Director Sporkin and others at the SEC wanted to stay focused on disclosure, not get involved with the difficult of trying to prove bribery in a foreign country. Everyone of course got what they wanted – books and records, internal controls and bribery. Despite the notoriety that cases under these statutes receive, it is the Commission’s books, records and internal controls provisions that are the work-horse of the FCPA. The point is reflected in the most recent FCPA case filed by the SEC and the DOJ, In the Matter of Microsoft Corporation, Adm. Proc. File No. 3-19260 (July 22 2019).

The case is built on the interaction, and at times inaction, of Microsoft’s subsidiaries and systems – Microsoft Magyarorszag Kft. or MS Hungary, Microsoft Ireland Operations Ltd or MIOL and other subsidiaries in Arabia, Turkey and Thailand.

Microsoft does not directly enter into contracts with end customers. Rather, in certain foreign countries, it operates through a subsidiary. Its software licenses in certain volume-licensing programs, for example, are sold through distributor and/or third party resellers called a Licensing Solution Partner or LSP – the approval person.

The firm does have estimated retail prices for its software. To maintain consistency with its LSPs in tenders, MIOL offers standard discounts to approved LSPs that reflect a built-in margin. In certain instances, the discounts can be lowered but the necessary approvals must be obtained. The firm also sells consulting and other services which subsidiaries typically subcontract with third parties to provide. Firm policies also required that appropriate transactional records be maintained in sufficient detail.

Collectively, the firm’s policies and procedures were designed to ensure compliance with the applicable provisions of the Exchange Act. Yet here, in certain instances, they failed to halt inappropriate practices. For licensing transactions in Hungary over a two-year period beginning in 2014, for example, the managers and employees obtained approvals for discounts to LSPs. The company did not, however, have adequate procedures to determine if the requests for the discounts were legitimate and, when they were, if the discounts were passed on. In fact, these discounts were used to make improper payments and secure over $13.7 million in in business.

The Hungry subsidiary had a similar issue with services. During the same two-year period it entered into two separate agreements regarding the provision of services. The work was subcontracted out. Yet there is little evidence of what work was performed. This is contrary to Microsoft policies.

In Saudi Arabia the local subsidiary had a similar problem with discounts and records. For example, about $400,000 of funds intended to be used for marketing and developing proposals turned into a slush fund paying for gifts to government employees. The fund was financed though larger than usual discounts and aided by records that did not properly track the cash.

Finally, the subsidiaries in Thailand Turkey also experienced difficulties. In Thailand over $100,000 gifts were furnished to employees of non-governmental banking customers by using funds intended for certain training and recorded under false documents. In Turkey a non-authorized LSP was used in conjunction with an additional and unauthorized discount to pay a government customer. The Order alleges violations of Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B).

In resolving the matter, the Commission considered the fact that although the company did not self-report it did cooperate and take certain remedial actions. In addition, Microsoft entered into a three-year non-prosecution agreement with the DOJ and, after making admissions, paid a criminal penalty of $8,751,795.

To settle with the Commission, the company consented to the entry of a cease and desist order based on the sections cited in the Order. The company will also pay disgorgement of $13,780,733 and prejudgment interest of $2,784,41792.

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SEC Charges Controller in Insider Trading Action

Insider trading has long been a staple of SEC enforcement. Frequently the actions become complex, requiring an evaluation of elements such as the “personal benefit” obtained by the person with the confidential information or the knowledge of the information recipient about the source of the information and any breach of a duty. When, however, the trader is a finance executive at the company whose shares are traded, the proof difficulties are typically eased. That may be the case with the Commission’s most recently filed insider trading case, SEC v. Loman, Civil Action No. 2:19-cv-06187 (C.D. Calif. Filed July 18, 2019).

Defendant Mark Loman is the former Controller and Vice President of Finance of OSI Systems, Inc., a security, healthcare and optoelectronics company. Through his position with the firm Mr. Loman had access to a stream of confidential company financial information. That included, for example, advance knowledge of OSIS’s revenues and earnings as well as its Commission filed reports. Indeed, he was responsible for compiling internal reports for the firm and others. Under the firm’s insider trading policy, he was obligated to maintain the confidentiality of this information.

Shortly after the beginning of the firm’s 2016 fiscal year in August 2015, OSIS announced its forecasted fiscal revenue. The forecast was based on confidential, internal projections. In October and November 2015 – the first two months of the fiscal year – the financial results were materially below those projected. Thus, in early December the company revised its confidential internal forecast. By month end Mr. Loan and the firm knew that OSIS’ revenues would fall substantially below the revised projections.

On December 28 Mr. Loman purchased 100 put options on OSIS common stock with a strike price of $90. He also sold 100 call options on the firm’s stock with a strike price of $95. One month later, on January 27, 2016, OSIS announced its financial results for the second fiscal quarter which were below projection. The firm also released its forecast for the fiscal year. Following the release, the share price dropped from about $80 to $52. Mr. Loman sold the put options and let the call options expire. Collectively he realized $300,00 in trading profits on the transactions.

The next month Mr. Loman learned that OSIS was in negotiations to acquire publicly traded American Science and Engineering, Inc. On February 16, 2016, he discussed the acquisition with the company CFO who forward him the letter of intent. That letter stated that ASEI would be acquired for $32 to $38 per share.

As the deal negotiations continued Mr. Loman purchased ASEI shares. Specifically, on March 3, 2016 Mr. Loman purchased 10,000 shares at $24.91 per share. The blackout period on the transaction began on April 29, 2016, although Mr. Loman was notified the prior day.

The acquisition was announced on June 21, 2016. The price was $37 per share. The share price of ASEI’s stock rose to $36.96 by June 23, 2016. Mr. Loman sold his ASEI shares early on the morning of June 21, 2016, just prior to the deal announcement. Since the price had been trending up he had profits of over $100,000. In testimony before the staff Mr. Loman invoked his Fifth Amendment privilege. The complaint alleges violations of Exchange Act Section 10(b). The case is pending. See Lit. Rel. No. 24540 (July 18, 2019).

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