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The SEC’s FCPA “Wake-Up Call” to Small and Medium-Sized Businesses

August 6, 2014
HSE LEGALcurrents

Last week, the Securities and Exchange Commission (SEC) announced a $2 million settlement with Smith & Wesson Holding Company for alleged violations of the Foreign Corrupt Practices Act (FCPA). The SEC characterized the settlement as “a wake-up call for small and medium-size businesses that want to enter into high-risk markets and expand their international sales.” The settlement serves as a reminder, in the SEC’s words, that “[w]hen a company makes the strategic decision to sell its products overseas, it must ensure that the right internal controls are in place and operating.”

Background

The FCPA is an anti-bribery law. It prohibits domestic U.S. businesses and businesses traded on U.S. stock exchanges, among others, from making corrupt payments to foreign officials to obtain or retain business. The U.S. Department of Justice (the Justice Department) and the SEC share FCPA enforcement authority. The SEC focuses its enforcement efforts on securities issuers and their directors, officers, and employees.

Violations of the FCPA may trigger serious criminal and civil penalties. In bribery actions, the FCPA provides for civil penalties of up to $16,000 per violation, as well as criminal _nes of up to $2 million for corporations and up to $250,000, plus five years’ imprisonment, for individuals. Violations of the related accounting provisions of the FCPA, which prohibit off-the-books accounting, among other things, may trigger civil penalties up to the gross amount of pecuniary gain, as well as criminal corporate fines of up to $25 million, and up to $5 million, plus twenty years’ imprisonment, for individuals. The SEC may seek to address alleged FCPA violations through administrative proceedings or civil actions in federal court.

Both the Justice Department and the SEC have dedicated substantial resources to FCPA investigations in recent years. In 2010, the SEC’s Enforcement Division created a specialized FCPA Unit to investigate potential FCPA violations. Since 2010, the SEC has announced more than _fty enforcement actions, with corporate settlements ranging from just under $1 million to nearly $400 million. The SEC’s targets have included major multinational corporations, such as Alcoa, Archer-Daniels Midland, DaimlerChrysler, and IBM.

Recent Action

In late July, the SEC announced an FCPA settlement agreement with _rearms manufacturer Smith & Wesson. Smith & Wesson is a Springfield, Massachusetts-based company, with shares traded on the NASDAQ and reported 2014 revenues of approximately $625 million. Both the SEC and the Justice Department had been investigating Smith & Wesson for possible FCPA violations.

Smith & Wesson ran into trouble while expanding into foreign markets. The SEC order explains that, from 2007 through early 2010, “Smith & Wesson sought to break into international markets and increase sales.” The SEC alleges that Smith & Wesson entered these international markets without taking adequate measures to protect against violations of the FCPA. According to the SEC, company employees then authorized a series of improper payments and gifts to foreign officials, including gifting $11,000 in _rearms to Pakistani police of_cials, and offering to make payments to officials in Indonesia, Turkey, Nepal, and Bangladesh. The underlying alleged violations of the FCPA netted, according to the SEC, profits of $107,852.

Smith & Wesson agreed to a settlement amount that was nearly twenty times greater than the company’s profits, and nearly two hundred times greater than the alleged bribes. The $2,034,892 settlement consisted of $107,852 in disgorgement of profits, $21,040 in interest, and a civil monetary penalty of $1,906,000. Smith & Wesson also spent millions of dollars in legal fees — with $2.3 million in fees identified on its 2014 10-K — for legal work related to these FCPA investigations. Under the SEC settlement, Smith & Wesson must implement compliance measures and provide periodic reports to the SEC for a two-year period.

The SEC agreed to these terms, rather than even harsher ones, because of Smith & Wesson’s cooperation and remedial actions. To demonstrate cooperation and good faith compliance efforts, the company implemented internal controls, halted pending international transactions before they could be consummated and, most dramatically, terminated its entire international sales staff.

Implications

The SEC has itself explained the import of the Smith & Wesson case: FCPA enforcement will not be reserved for the giant multinationals, like Alcoa or IBM, but will extend to small and medium-size businesses, too. While international markets may offer enticing opportunities, businesses entering those markets must understand the risk posed by the FCPA and implement internal controls and compliance measures to safeguard against FCPA violations.

The Smith & Wesson case also highlights some of the corporate policies that the SEC views as suspect and others the SEC views as essential. In this case, the SEC criticized the company for:

  • Vesting the Vice President of International Sales with “almost complete authority” over overseas business, including the sole ability to approve most commissions;
  • Failing to devise “adequate” policies and procedures for commission payments, the use of samples for test and evaluation, and commission advances;
  • Failing to perform anti-corruption risk assessments on international markets or due diligence on international third-party agents; and
  • Providing inadequate FCPA-related training and supervision.

The SEC and Justice Department have published more extensive recommendations about effective FCPA compliances in their Resource Guide to the U.S. Foreign Corrupt Practices Act.

Conclusion

In bringing this recent case, the SEC has reminded businesses of all sizes of the importance of instituting effective FCPA internal controls and compliance procedures. The action also serves as a reminder of the significant criminal and civil stakes in FCPA investigations, for businesses and executives alike. If you would like our assistance, or if you have any questions about this LEGALcurrents®, please contact a member of our Government and Internal Investigations or Securities practice groups at (585) 232-6500.

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