Part IV: The SEC and Chinese Issuers: Transparency and Accountability
This is the fourth segment of a five part series examining issues arising in SEC Enforcement Actions relating to issuers from the PRC whose shares are traded in the U.S.
Foreign corrupt practices act
A series of cases have been brought alleging violations of the bribery and books and records and internal controls provisions of the Foreign Corrupt Practices Act that involve PRC state owned entities and their employees and U.S. companies and their officials. FCPA enforcement is of course a priority of for the Department of Justice (“DOJ”) and the SEC. Each has specialized units dedicated to investigating and prosecuting corruption cases and the DOJ has declared this to be a “new era” of FCPA enforcement.
For public companies the cases have two aspects. One is the bribery provisions which generally prohibit making payments to any foreign official to obtain or retain business. Typically this includes employees of state owned enterprises, at least according to the DOJ and the SEC. The other is the books and records and internal control provisions. Generally, public companies are required to keep there books in reasonable detail. When payments to foreign officials are not properly recorded in the books and records of the enterprise it violates these provisions.
One recent example of the cases being brought by the DOJ and the SEC in this area are the cases involving former Morgan Stanley employee Garth Peterson. U.S. v. Peterson, (E.D.N.Y.) and SEC v. Peterson (E.D.N.Y. Filed April 25, 2012). Mr. Peterson, a U.S. citizen, is the former head of Morgan Stanley’s Shanghai office. The violations alleged in the court papers stem from Mr. Peterson’s dealings with the former Chairman of Yongye Enterprise (Group) Co., a Chinese state owned entity involved in real estate.
Mr. Peterson began working for Morgan Stanley in 2002 and became the head of the Shanghai office of the firm’s wholly-owned global real estate business in 2006. His primary responsibility was to evaluate, negotiate, acquire, manage and sell real estate investments. From 2004 through 2008 Morgan Stanley partnered with Yongye on a number of significant Chinese real estate investments. At the same time Mr. Peterson and the Chairman expanded their dealings in real estate, secretly acquiring property from Morgan Stanley and investing in other endeavors. Mr. Peterson did not disclose these dealings to his firm as required.
In one transaction, according to the court papers, Mr. Peterson encouraged his firm to sell an interest in Shanghai real estate to Yongye. Mr. Peterson falsely represented that the purchaser, a shell company, was owned by the Chinese company. In fact it was owned by Mr. Peterson, the Chairman and a Canadian lawyer. In effect, Mr. Peterson negotiated for both sides. He secured Morgan Stanley’s approval for the sale at a discounted price. As a result of the deal the shell company had an immediate profit of about $2.5 million.
Subsequently, in 2006 Morgan Stanley was negotiating at least five separate Chinese real estate investments involving Yongye. Mr. Petevson invited the Chinese official to invest along with Morgan Stanley and its funds to reward him for what he had done for the firm and further incentivize him. During the negotiations he set up an arrangement for Morgan Stanley to sell the Chinese official a 3% interest in each deal he brought to the firm for the cost of 2%. This gave the official a discount of 1% which Mr. Peterson called a “finders fee.” Mr. Peterson also promised the official an added return. When Mr. Peterson disclosed this arrangement to his supervisors he was warned of the FCPA bribery implications and told to drop the arrangement. Nevertheless, he paid the official.
Mr. Peterson resolved the charges by pleading guilty in April 2012 in the criminal case to one count of conspiracy to evade the company’s internal accounting control. He also settled with the SEC, whose complaint alleged violations of the bribery and books and records and internal control provisions. Mr. Peterson agreed to the entry of an injunction based on the provisions cited in the complaint and to pay disgorgement of $250,000. In addition, he will relinquish his interest in Shanghai real estate valued at about $3.4 million and consented to be permanently barred from the securities industry.
Another FCPA case involving a PRC based subsidiary of a U.S. company is the action involving Biomet Inc., a global medical device company headquartered in Warsaw, Indiana whose shares are listed on NASDAQ. The company, along with its subsidiaries, made more than $1.5 million in payments in violation of the FCPA from 2000 to 2008 to publicly-employed health care providers in Argentina, Brazil and China.
Biomet China made illegal payments through a distributor in China who provided publicly-employed doctors with money and travel in exchange for purchases with the knowledge of Biomet employees. The payments were falsely recorded in the books and records of the company.
The company resolved charges with the DOJ by entering into a deferred prosecution agreement. Under the agreement the company will pay a criminal fine of $17.28 million, implement rigorous internal controls, cooperate with the Department and retain a compliance monitor for 18 months. The DOJ acknowledged the extensive cooperation of the company which consisted of “wide-reaching self-investigation . . .remedial efforts and compliance improvements.” As a result the company received a reduced penalty. U.S. v. Biomet, Inc., Case No. 1:12-cr-00080 (D.D.C. Filed March 26, 2012).
Biomet also settled with the SEC, consenting to the entry of a permanent injunction without admitting or denying the allegations in the complaint, which prohibits future violations of Exchange Act Sections 30A, 13(b)(2)(A) and 13(b)(2)(B). The company also agreed to pay disgorgement of $4,432,998 along with prejudgment interest and retain an independent compliance consultant for 18 months to review its FCPA compliance program. SEC v. Biomet, Inc., Civil Action No. 1:12-cv-00454 (D.D.C. Filed March 26, 2012).
Next: Insider trading and the conclusion