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August 6, 2018 |
The U.S. Office of the Comptroller of the Currency Will Permit Special Purpose National Bank Charters for Fintech Firms

Click for PDF Last week, the Office of the Comptroller of the Currency (OCC) announced that it would begin accepting proposals from Fintech firms to charter special purpose national banks (SPNBs).  This decision comes over 18 months after the White Paper proposing such charters was issued under President Obama’s Comptroller, Thomas Curry, in his last month in that position.  The OCC accompanied this announcement with a policy statement (Policy Statement) and a supplement to its licensing manual for national banks (Licensing Manual Supplement). This announcement, while expected, is an extremely significant development in federal banking law, and one almost assuredly to be legally challenged, at a time when the Chevron doctrine of administrative agency deference is receiving a fresh look. The OCC’s decision, when considered with its historical approach to preemption under the National Bank Act, could expand the scope of federal banking regulation considerably and provide substantial opportunities.  These opportunities could benefit not merely Fintech firms but investors in many such firms, who would appear to be able to control certain SPNBs and still avoid regulation under the Bank Holding Company Act (BHC Act), including the Volcker Rule. Powers of a Fintech SPNB When former Comptroller Curry introduced his Fintech national bank proposal in December 2016, he noted that “the number of Fintech companies in the United States and United Kingdom has ballooned to more than 4,000, and in just five years investment in this sector has grown from $1.8 billion to $24 billion worldwide.”[1]  The Policy Statement – consistent with the OCC’s traditional approach to the “business of banking” under the National Bank Act – makes clear that the special purpose charter is a response to this development, noting: The OCC recognizes that the business of banking evolves over time, as do the institutions that provide banking services. As the banking industry changes, companies that engage in the business of banking in new and innovative ways should have the same opportunity to obtain a national bank charter as companies that provide banking services through more traditional means.[2] Consistent with its existing regulations, the Policy Statement takes an expansive view of the National Bank Act’s powers provision, 12 U.S.C. § 24(SEVENTH).  Under this provision, a national bank is permitted, when a charter is issued, to: [E]xercise by its board of directors or duly authorized officers or agents, subject to law, all such incidental powers as shall be necessary to carry on the business of banking; by discounting and negotiating promissory notes, drafts, bills of exchange, and other evidences of debt; by receiving deposits; by buying and selling exchange, coin, and bullion; by loaning money on personal security; and by obtaining, issuing, and circulating notes . . .[3] Prior to issuing the Policy Statement, the OCC had interpreted this provision to permit it to grant a charter to an institution that engaged in “any of the three core banking functions of receiving deposits, paying checks, or lending money.”[4]  Consistent with this existing regulation, a Fintech firm seeking a SPNB charter must conduct “at least one of these three core banking functions.”[5]  The Licensing Manual Supplement, however, provides greater elasticity to this requirement, as it states that “[t]he OCC views the National Bank Act as sufficiently adaptable to permit national banks to engage in traditional activities like paying checks and lending money in new ways. For example, facilitating payments electronically may be considered the modern equivalent of paying checks.”[6] Depending on the OCC’s ultimate position on “modern equivalence,” a Fintech SPNB charter could be available not only to Fintech firms engaged in lending activities without taking deposits (such as peer-to-peer lending companies), but also to companies engaged in payments broadly understood – including traditional money transmitters, and, in addition, virtual currency exchanges, because such exchanges also engage in money transmission, and indeed many have been licensed by the states as such.  It is noteworthy that the Licensing Manual Supplement states that: Beyond those core activities [deposits, lending, paying checks], the activities of an SPNB are limited to those that are permissible for national banks under a statute, regulation, or federal judicial precedent, or that the OCC has determined to be permissible. See e.g. 12 USC 24(Seventh); 12 CFR 7.5002; NationsBank of North Carolina, N.A. v. Variable Annuity Life Ins. Co., 513 U.S. 251 (1995).[7] In the NationsBank case cited, the Supreme Court, per Justice Ginsburg, “expressly h[e]ld” that “the ‘business of banking’ is not limited to the enumerated powers in § 24 Seventh and that the Comptroller therefore has discretion to authorize activities beyond those specifically enumerated.”[8] OCC Expectations As it indicated in its 2016 White Paper, the OCC is not proposing a “bank-lite” approach to Fintech SPNBs. The OCC expects any charter proposal to have a comprehensive business plan covering at a minimum three years.  The plan should include comprehensive alternative business strategies to address various best-case and worst-case scenarios.  In keeping with its post-Financial Crisis approach to corporate governance, the OCC emphasized the role of an SPNB’s board of directors, who must have a prominent role in the overall governance framework, actively oversee management, provide “credible challenge,” and exercise independent judgment.[9] The OCC also emphasized the importance of capital, minimum and ongoing levels of which need to be commensurate with the risk and complexity of the proposed activities (including on- and off-balance sheet activities).[10]  Where a SPNB’s business activities are principally off-balance sheet, traditional minimum capital requirements may not adequately reflect all risks, and the OCC could therefore require applicants in such circumstances to propose a minimum level of capital that the proposed SPNB would meet or exceed at all times.  In this regard, the OCC noted that other types of limited charter banks often hold capital that “exceeds the capital requirements for other types of banks.”[11]  The OCC would expect a similarly granular presentation with respect to a SPNB’s liquidity, including consideration of planned and unplanned balance sheet changes, varying interest ratio scenarios, and market conditions. Charter applicants would also be expected to demonstrate appropriate systems and programs to identify, assess, manage and monitor risk, including policies and procedures, practices, training, internal control and audit.  Of particular importance is a compliance program for anti-money laundering and OFAC sanctions, as well as a consumer compliance program designed to ensure fair treatment of customers. Two very important criteria for receiving an SPNB charter are financial inclusion and contingency planning.  As to the first, the OCC states: Consistent with the agency’s mission to ensure fair treatment of customers and fair access to financial services, the OCC expects any entity seeking an SPNB charter to demonstrate a commitment to financial inclusion that includes providing or supporting fair access to financial services and fair treatment of customers.  The nature of that commitment will depend on the proposed bank’s business model, and the types of products, services, or activities it intends to provide. An SPNB applicant should describe the proposed bank’s commitment to financial inclusion in its application. The description should include the proposed goals, approaches, activities, milestones, commitment measures, and metrics for serving the anticipated market and community consistent with the bank’s activities, business model, and product and service offerings.[12] On the second, because many SPNBs are likely not to be FDIC-insured, the OCC will be such institutions’ receiver in insolvency.  As a result, the OCC will insist on a detailed contingency plan to be prepared: Before receiving final approval for a charter, an SPNB will be required to develop a contingency plan to address significant financial stress that could threaten the viability of the bank. The contingency plan should outline strategies for restoring the bank’s financial strength and options for selling, merging, or liquidating the bank in the event the recovery strategies are not effective. The format and content of the plan are flexible and should be tailored to the bank’s specific business and reviewed and updated as the bank’s business evolves. As a condition for preliminary approval of a charter, an SPNB will be required to develop the contingency plan during the bank’s organization phase. The OCC’s final approval will require the bank to implement and adhere to the plan. The bank will be expected to review the contingency plan annually and update it as needed. Any significant changes to the contingency plan will require the non-objection of the appropriate supervisory office.[13] As a national banking association, a Fintech SPNB would be subject to the federal statutes applicable to other national banks, such as lending limits, limits on real estate and securities investments, the Bank Secrecy Act and other anti-money laundering laws, OFAC sanctions requirements, and, where applicable, such as with respect to lending, federal consumer law.  A Fintech SPNB would be required to become a member bank in the Federal Reserve System and subscribe for stock in its applicable Federal Reserve Bank in an amount equal to six percent of the bank’s paid-up capital and surplus. Benefits of a Special Purpose Charter to Fintech Firms The principal benefits of the special purpose charter to Fintech firms are national licensing and federal preemption.  Currently, peer-to-peer lending firms, money transmission companies, and virtual currency exchanges are all licensed by the states.  For such firms to carry out a national business, licensing on a state-by-state basis, and ongoing state examination processes, can be burdensome.  The SPNB charter will provide a federal alternative – and one regulator – to the state-by-state approach for qualifying firms. Second, an SPNB will benefit from federal preemption under the National Bank Act.  Such federal preemption is still broad, notwithstanding the Dodd-Frank Act’s attempt to narrow it.  After the Dodd-Frank Act, the OCC may preempt “state financial consumer law” if its application would have a discriminatory effect on national banks in comparison with its effect on state-chartered banks; the state consumer financial law prevents or significantly interferes with the execution by a national bank of its powers (the Barnett standard); or the state law is preempted by a federal consumer financial law other than Dodd-Frank.[14] Significantly, Dodd-Frank left unchanged the ability of a national bank to export interest rates of its home state nationally without regard to state law usury limitations; such interest rate exportation will be a significant benefit to SPNBs engaged in lending activities. Benefits of a Special Purpose Charter to Fintech Investors The SPNB charter may also provide benefits to Fintech investors, who would appear to be able to make controlling investments in certain SPNBs without becoming subject to the BHC Act, including the Volcker Rule.  The BHC Act defines a “bank” as either an FDIC-insured bank or as an institution that both accepts demand deposits and is engaged in the business of making commercial loans.[15]  Under the Policy Statement, the OCC can charter a SPNB that does not accept deposit funding – that is, one that is engaged in making loans or paying checks, or both such activities, as its core banking functions; such a SPNB would not be a BHC Act “bank.”  As a result, such an SPNB may be “controlled” by an investor without that investor becoming a bank holding company. This means that there is now another alternative to the state industrial bank charter available for investors such as private equity firms that wish to obtain the benefits of controlling a banking entity without the burdens of regulation by the Board of Governors of the Federal Reserve System.  In addition, although the OCC can be expected to require some form of capital support from a controlling investor of a non-deposit-taking SPNB, the explicit “source of strength” requirement added by the Dodd-Frank Act for a controlling investor will not apply, because that requirement applies only to controlling shareholders of insured depository institutions.[16] As a result, a Fintech firm that seeks a non-depository SPNB charter may find itself attractive to a wide range of investors. ________________________ It seems highly likely that certain state regulators will challenge the OCC’s Fintech SPNB determination, given its potential to shift a wide variety of firms to federal supervision and examination and preempt areas of state regulation.  Earlier such suits filed after the OCC’s December 2016 White Paper were dismissed as unripe; however, once the chartering process begins, litigation by state regulators could well be expected.  If the OCC’s interpretation of the National Bank Act is upheld by a reviewing court, the Fintech SPNB charter could be the most revolutionary development of regulatory reform in the Trump era, for both Fintech firms and their investors.    [1]   OCC, Exploring Special Purpose National Bank Charters for Fintech Companies (December 2016), at 3-4.    [2]   OCC, Policy Statement on Financial Technology Companies’ Eligibility to Apply for National Bank Charters (July 31, 2018), at 1.    [3]   12 U.S.C. § 24(SEVENTH).    [4]   12 C.F.R. § 5.20.    [5]   OCC, Policy Statement, at 2.    [6]   OCC, Licensing Manual Supplement:  Considering Charter Applications from Financial Technology Companies, at 2 n.5.    [7]   Id. at n.4.    [8]   513 U.S. 251, 258 n.2 (1995).  Given the Valic holding, the OCC would appear to have substantial discretion regarding permissible activities for SPNBs, as long as one core banking function was present.  The degree to which the OCC will exercise such discretion is currently unknown.    [9]   OCC Licensing Manual Supplement, at 16. [10]   Id. at 8. [11]   Id. at 9, n.26. [12]   Id. at 10. [13]  Id. [14]   12 U.S.C. § 25b(b)(1). [15]   Id. § 1841(c)(1). [16]   Id. § 1831o-1. The following Gibson Dunn lawyers assisted in preparing this client update: Arthur Long, Jeffrey Steiner and James Springer. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or any of the following: Financial Institutions Group: Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com) Carl E. Kennedy – New York (+1 212-351-3951, ckennedy@gibsondunn.com) James O. Springer – Washington, D.C. (+1 202-887-3516, jspringer@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

July 30, 2018 |
2018 Mid-Year Securities Enforcement Update

Click for PDF I.  Significant Developments A.  Introduction For a brief moment in time, after several years with as many as 3 of the 5 commissioner seats vacant, the SEC was operating at full force, with the January 2018 swearing in of newest commissioners Hester Peirce and Robert Jackson.  This situation was short-lived, as Commissioner Piwowar, a Republican appointee with a deregulatory bent who had pulled back on certain enforcement powers, stepped down at the beginning of July.  While the president has named a potential replacement, the Senate has not yet held confirmation hearings; with Democratic Commissioner Kara Stein also set to leave the agency sometime later this year, the Senate may defer consideration until both the Republican and Democratic nominees have been named.  The vacancy could cause the Commission, which has already split on several key rulemakings, to defer some more controversial regulatory initiatives and even some enforcement actions which pose thornier policy questions. Meanwhile, the most noteworthy Enforcement-related event came with the Supreme Court’s Lucia decision, in which the Court held that the agency’s administrative law judges have been unconstitutionally appointed, resolving a technical but significant legal issue which has dogged the SEC’s administrative proceedings for several years.  As discussed further below, the decision throws a wrench in the works for the Enforcement Division, which until the past couple years had been litigating a growing number of enforcement actions in its administrative forum rather than in federal court. In terms of enforcement priorities, the SEC has continued to pursue a relatively small number of significant public company cases; despite a push in recent years to increase its focus on accounting fraud, few new actions were filed in the first half of 2018.  In contrast, the Division filed a surprisingly large number of cases against investment advisers and investment companies, including advisers to individual retail clients, private fund managers, and mutual fund managers. And the SEC’s concentration on all things “cyber” continued to make headlines in the initial months of 2018.  The SEC rolled out guidance on appropriate cybersecurity disclosures, and filed its first (and to date only) case against a public company for allegedly failing to report a data breach to investors on a timely basis.  Additionally, the SEC continues to institute enforcement actions in the cryptocurrency space, though is focus remains primarily on outright frauds, leaving ongoing uncertainty as to the regulatory status of certain digital assets. B.  Significant Legal Developments On June 21, 2018, the Supreme Court ruled in Lucia v. SEC that the SEC’s administrative law judges (ALJs) were inferior officers of the United States for purposes of the Constitution’s Appointments Clause, and that the SEC had failed to properly appoint its ALJs in a manner consistent with the Clause.[1]  (Mr. Lucia was represented by Gibson Dunn before the Supreme Court.)  After several years in which the SEC had increasingly filed contested proceedings administratively rather than in federal district court, the agency reversed course in the face of mounting court challenges to the constitutionality of its ALJs (who had been appointed by a government personnel office rather than by the commissioners themselves).  Even with the reduced number of pending, litigated administrative proceedings, the SEC still faces the prospect of retrying dozens of cases which had been tried before improperly-appointed ALJs.  As this report went to press, the SEC had yet to determine how it would handle these pending cases, or how or when it would go about appointing ALJs to hear litigated administrative proceedings going forward. Even with Lucia resolving the primary legal question which had been floating about in recent years, other questions about the legality of ALJs may continue to complicate administrative proceedings, and thus for the time being the SEC has determined to pursue most litigated cases in court.  (Though the SEC continues to bring settled administrative proceedings, as such settled orders are issued by the Commission itself rather than by an ALJ.) Another Supreme Court decision that curtailed SEC enforcement actions, SEC v. Kokesh, continues to impact the enforcement program.  As detailed previously, in June 2017 the Supreme Court overturned a lower court ruling that required the defendant to disgorge $34.9 million for conduct dating back to 1995.  The Supreme Court found that disgorgement was a form of penalty and was therefore subject to a five-year statute of limitations.[2]  In March 2018, on remand, the Tenth Circuit determined that the statute of limitations still did not bar the SEC’s action since the “clock” restarted with each act of misappropriation.[3]  Moreover, notwithstanding Kokesh, the issue of whether SEC actions seeking injunctive relief or other non-monetary sanctions (such as industry bars) are governed by the five-year statute remains hotly contested.  In a May 2018 speech, Co-Enforcement Director Steven Peiken noted that the SEC continues to maintain that injunctive relief is not subject to the five-year statute of limitations under Kokesh, and admonished parties that the staff would not forgo pursuing actions based on such arguments.[4]  However, the issue is far from settled, and just this month a district court came to a different conclusion.[5] In June, the Supreme Court granted a petition of certiorari filed by Francis V. Lorenzo, an investment banker who copied and pasted his boss’s allegedly fraudulent email into a message to his clients and who the D.C. Circuit found liable for fraud as a result[6].  Mr. Lorenzo has argued that, based on the Supreme Court’s 2011 decision in Janus Capital Group Inc. v. First Derivative Traders, he should not be considered the “maker” of the allegedly fraudulent statements.  Mr. Lorenzo’s petition asserts that the D.C. Circuit decision allows the SEC to avoid the requirements of Janus by characterizing fraud claim as “fraudulent scheme” claims.  A circuit split exists as to whether a misstatement alone can form the basis of a fraudulent scheme claim. C.  Whistleblower Developments The first half of 2018 saw the SEC’s largest whistleblower bounties to date, as well as some related rulemaking proposals which could potentially cap such awards.  As of April, the SEC reported that it had paid more than $266 million to 55 whistleblowers since 2012.[7] In March, the SEC announced its highest-ever whistleblower awards, paying a combined $50 million to two individuals and an additional $33 million to a third.[8]  While the SEC may not disclose the identities of whistleblowers, their counsel subsequently publicly disclosed that the awards were paid in connection with a $415 million SEC settlement with a major financial institution alleged to have misused customer cash.[9]  In its Order granting the awards, the Commission declined to grant awards to additional putative whistleblowers and, in doing so, clarified the standard for finding that a tip “led to” the success of a particular action.[10]  For a tip to “significantly contribute[] to the success of an . . . action” and entitle the whistleblower to an award, the “information must have been ‘meaningful,'” i.e., must “‘make a substantial and important contribution’ to the success of the . . . action.”  The Commission declined to adopt a more flexible standard. In a separate action the following month, the SEC awarded $2.2 million to a former company insider.[11]  The SEC noted that the $2.2 million award was paid under the 120-day “safe harbor” rule, which provides that, when a whistleblower reports to another federal agency and then submits the same information to the SEC within 120 days, the SEC will treat the information as having been submitted on the day it was submitted to the other agency.  A week later, the SEC announced a $2.1 million award to a former company insider whose tips had led to “multiple” successful enforcement actions.[12] In addition to developments relating to award payments, the first half of 2018 also included a Supreme Court decision affecting the rights of whistleblowers pursuant to anti-retaliation protections.  In Digital Realty Trust, the Court overturned the Ninth Circuit’s decision (described in our 2017 Year-End Update) and found that Dodd-Frank’s anti-retaliation measures protect only whistleblowers who report their concerns to the SEC and not those who only report internally.[13] Finally, in a late June open meeting, the Commission voted to propose various amendments to its whistleblower program.[14]  In response to the record-breaking award noted above, the proposed rules would give the SEC discretion to limit the size of awards in cases resulting in monetary sanctions greater than $100 million (which, given a permissible award size of 10-30% of money collected by the SEC, would effectively create a $30 million award cap).  Other proposed amendments include: allowing awards based on deferred prosecution agreements and non-prosecution agreements entered into in criminal cases; permitting awards made when the Commission reaches a settlement outside the context of a judicial or administrative proceeding; allowing the SEC to bar individuals from later seeking awards after they submit false or frivolous claims; and, in response to Digital Realty, requiring a whistleblower to submit information in writing to receive retaliation protection. D.  Cybersecurity and Cryptocurrency In 2017, the SEC touted cybersecurity as a major enforcement priority and created a dedicated “Cyber Unit” to investigate and prosecute cyber-related threats.  The SEC’s cyber-focus continued in the first half of 2018 with its February release of interpretive guidance on public companies’ disclosure obligations regarding cybersecurity risks and incidents.[15]  The Guidance, which reaffirms and expands upon the SEC Division of Corporation Finance’s existing guidance on the topic from 2011, encourages companies to adopt “comprehensive policies and procedures related to cybersecurity,” and to consider how their insider trading policies address trading related to cybersecurity incidents.  While not creating any bright-line rules, it discusses that the “materiality of cybersecurity risks and incidents depends upon their nature, extent, and potential magnitude,” as well as “the range of harm that such incidents could cause,” including “harm to a company’s reputation, financial performance, and customer and vendor relationships, as well as the possibility of litigation or regulatory investigations or actions.”  The SEC further noted that the existence of an ongoing internal or external investigation into an incident “would not on its own provide a basis for avoiding disclosures” of an otherwise material incident.  As discussed further below, the Guidance was followed two months later by the SEC’s announcement of its first enforcement action against a company arising out of a data breach. Regarding the continuing proliferation of digital (or “crypto”) currencies, the staff of the SEC’s Divisions of Enforcement and Trading and Markets issued a statement in March reinforcing that digital platforms that trade securities and operate as an “exchange,” as defined by the federal securities laws, must register as a national securities exchange or operate under an exemption from registration.[16]  The statement also outlines a list of questions that potential investors should consider before deciding to trade on such platforms.  The statement came on the heels of a litigated enforcement action charging a bitcoin-denominated platform, BitFunder, and its founder with operating an unregistered securities exchange, defrauding users by misappropriating their bitcoins and failing to disclose a cyberattack, and making false and misleading statements in connection with an unregistered offering of securities.[17]  In a parallel criminal case, the U.S. Attorney’s Office charged BitFunder’s founder with perjury and obstruction of the SEC’s investigation. The SEC also brought a handful of initial coin offering (ICO) enforcement actions in the first half of 2018.  In January, the SEC obtained a court order halting an ICO it characterized as “an outright scam,” which had raised $600 million in just two months by claiming to be the world’s first “decentralized bank” and falsely representing that it had purchased an FDIC-insured bank.[18]  In April, the SEC charged two co-founders of a financial services start-up with orchestrating a fraudulent ICO by falsely claiming to offer a debit card backed by major credit card companies that would allow users to convert cryptocurrencies into U.S. dollars.[19]  The U.S. Attorney’s Office for the Southern District of New York brought parallel criminal actions against the co-founders, and the SEC later charged a third co-founder with fraud after discovery of text-messages revealing fraudulent intent.[20]  Then, in May, the SEC obtained a court order halting an ICO by a self-proclaimed “blockchain evangelist” who had fabricated customer testimonials and misrepresented having business relationships with the Federal Reserve and dozens of companies.[21] Additionally, in April, the SEC obtained a court order freezing over $27 million in proceeds raised by Longfin Corp. after the company and its CEO allegedly violated Section 5 by issuing unregistered shares to three other individuals so they could sell them to the public right after the company’s stock had risen dramatically due to announcement of acquisition of a cryptocurrency platform.[22] II.  Issuer and Auditor Cases A.  Accounting Fraud and Other Misleading Disclosures In March, the SEC settled charges of accounting fraud against a California-based energy storage and power delivery product manufacturer and three of its former officers.[23]  The SEC alleged that the company prematurely recognized revenue to better meet analyst expectations, that a former sales executive inflated revenues by executing secret deals with customers and concealing them from finance and accounting personnel, and that the former CEO and former controller failed to adequately respond to red flags that should have alerted them to the misconduct.  Without admitting or denying the allegations, the company agreed to pay penalties of $2.8 million; the former CEO and controller agreed to pay a combined total of approximately $100,000 in disgorgement, interest and penalties; and the former sales executive agreed to be barred from serving as an officer or director of a public company for five years and pay a $50,000 penalty. In April, the SEC settled charges of accounting fraud against a Japanese electronics company.[24]  The SEC alleged that the company’s U.S. subsidiary prematurely recognized more than $82 million in revenue by backdating an agreement with an airline and providing misleading information to an auditor.  The matter involved FCPA allegations as well. Also in April, the SEC instituted settled proceedings against a California internet services and content provider.[25]  The SEC alleged that the company failed to timely disclose a major data breach in which hackers stole personal data relating to hundreds of millions of user accounts.  In addition, the SEC alleged that the company did not share its knowledge of the breach with its auditors or outside counsel, and failed to maintain adequate controls and procedures to assess its cyber-disclosure obligations.  Without admitting the allegations, the company agreed to pay a $35 million penalty to settle the charges. In May, the SEC filed a complaint against three former executives of a Houston-based health services company.[26]  The complaint alleged that the executives falsified financial information—including financial statements for three fictitious subsidiaries acquired by the company—to induce a private firm to acquire a majority of the company’s equity.  In a parallel action, DOJ brought criminal charges against the defendants. In June, the SEC filed a complaint against a California-based telecommunications equipment manufacturer and three of its executives.[27]  According to the SEC’s complaint, the executives inflated company revenues by prematurely recognizing revenue on sales and entering into undisclosed side agreements that relieved customers of payment obligations.  The SEC also alleged that the defendants inflated the prices of products to hit revenue targets with the agreement that the company would later repay the difference as marketing development fees.  Without admitting or denying the charges, the defendants agreed to pay penalties totaling $75,000.  In addition, two of the individual defendants consented to five-year officer and director bars; the other individual defendant consented to a bar from appearing or practicing before the SEC as an accountant for five years. B.  Auditor Cases In February, in a case the SEC said underscores its determination to pursue violations “regardless of the location of the violators,” a foreign auditor and his U.S.-based accounting firm, settled charges alleging they providing substantial assistance in a fraudulent shell company scheme by issuing misleading audit reports for numerous companies.[28]  The SEC suspended the auditor and his firm from appearing or practicing before the Commission. In March, the SEC announced settled charges against several foreign firms of the large international accounting networks based on allegations that the firms improperly relied on component auditors that were not registered with the PCAOB, even though the component auditors performed substantial work that should have triggered registration.[29] The SEC alleged violations of PCAOB standards that require sufficient analysis and inquiry when relying on another auditor.  Without admitting or denying the allegations, the four foreign firms agreed to pay roughly $400,000 combined in disgorgement and penalties. Additionally, an auditing firm, two of its partners and a registered financial advisory firm settled charges in May relating to violations of the Custody Rule.[30]  According to the SEC, the auditors failed to meet the independence requirements of the Custody Rule by both preparing and auditing financial statements of several funds and because they had a direct business relationship with the financial advisory firm through a fee-referral relationship.  The SEC also charged the respondents for failing to comply with the requirement of regular PCAOB inspections and cited multiple professional conduct violations, including for failing to design and implement appropriate oversight mechanisms, insufficient quality control and violation of professional due care, among others.  Without admitting or denying the allegations, the defendants were barred from appearing before the Commission and agreed to pay roughly $52,000 combined in disgorgement and penalties. The SEC is also ensuring that firms are not associating with barred auditors. In April, an accounting firm and its sole officer and founder settled charges with the SEC for allegedly violating the Sarbanes Oxley Act of 2012, which prohibits auditors barred by the PCAOB from association with a registered public accounting firm from associating with corporate issuers in an accountancy or financial management capacity.[31]  Without admitting or denying the findings, the company and its founding officer agreed to cease and desist from the association and agreed to pay a $22,500 civil penalty. C.  Private Company Cases While the number of cases against public companies remains low, the SEC has continued to step up its enforcement efforts against private companies. In March, the SEC instituted settled proceedings against a California-based financial technology company.[32]  The SEC alleged that the respondent offered unregistered stock options to its employees without providing the employees with timely financial statements and risk disclosures.  Without admitting the allegations, the company agreed to pay a $160,000 penalty to settle the charges. Also in March, the SEC filed a complaint against a California-based health care technology company, its former CEO, and a former president at the company.[33]  The complaint alleged that the defendants made numerous false statements in investor presentations, product demonstrations and media articles about their flagship product—including misrepresentations regarding expected revenue and the U.S. Department of Defense’s adoption of the product—which deceived investors into believing the product was revolutionary.  Without admitting the allegations, the company and former CEO agreed to settle the charges.  Under the settlement terms, the former CEO agreed to pay a $0.5 million penalty, be barred from serving as an officer or director of a public company for ten years, return 18.9 million shares of the company, and relinquish her voting control by converting her Class B Common shares to Class A Common shares.  The SEC will continue to litigate its claims against the former president in federal court. And in April, the SEC filed a fraud complaint against four parties:  a biotechnology startup formerly based in Massachusetts, its CEO, an employee, and the CEO’s close friend.[34]  According to the SEC, the CEO and the employee made false claims to investors about the company’s finances and the company’s progress in seeking FDA approval for one of its products.  The complaint also alleged that the defendants engaged in a fraudulent scheme to acquire and merge the company with a publicly traded company, manipulated the shares of the new entity, and diverted a portion of the sale proceeds.  The SEC is litigating the case in federal court and seeks to freeze the company’s and CEO’s assets, as well as prohibit the defendants from soliciting money from investors.  In addition, the SEC seeks a permanent injunction, the return of the ill-gotten gains with penalties, and industry and penny stock bars.  The DOJ brought parallel criminal charges against the individual defendants. III.  Investment Advisers and Funds A.  Fees and Expenses In June, a private equity firm settled allegations that it had charged accelerated monitoring fees on portfolio company exits without adequate disclosure.[35]  According to the SEC, the undisclosed receipt of accelerated fees from portfolio companies resulted in negligent violations of various provisions of the Advisers Act.  To settle the matter, the Respondents agreed to pay $4.8 million in disgorgement and prejudgment interest and $1.5 million in penalties. Shortly thereafter, the SEC filed a settled action against a New York-based venture capital fund adviser for allegedly failing to offset consulting fees against management fees in accordance with organizational documents for the funds it advised.[36]  The SEC alleged that the adviser received $1.2 million in consulting fees from portfolio companies in which the funds had invested, and that those fees were not properly offset against advisory or management fees paid by investors, resulting in an overpayment of over $750,000.  The adviser reimbursed its clients, plus interest, and agreed to pay a $200,000 penalty.  Significantly, the SEC’s press release cites to the adviser’s remediation and cooperation, indicating that this was taken into account in determining the appropriate resolution. B.  Conflicts of Interest In March, the SEC instituted settled proceedings against two investment adviser subsidiaries for undisclosed conflicts of interest with regard to the practice of recalling securities on loan.[37]  The SEC alleged that the advisers were affiliated with insurance companies, but also served as investment advisers to insurance-dedicated mutual funds.  The advisers would lend securities held by the mutual funds, and then recall those securities prior to their dividend record dates.  This meant that the insurance company affiliates, as record shareholders of such shares, would receive a tax benefit on the basis of the dividends received.  However, according to the SEC, this recall system resulted in the mutual funds (and their investors) losing income, while the insurance company affiliates reaped a tax benefit.  Without admitting or denying the allegations, the advisers agreed to pay approximately $3.6 million to settle the charges. In April, the SEC instituted proceedings against a New York-based investment adviser in connection with the receipt of revenue sharing compensation from a service provider without disclosing conflicts of interest to its private equity clients.[38]  According to the SEC, the investment adviser entered into an agreement with a company that provided services to portfolio companies.  Pursuant to that agreement, when portfolio companies made purchases, the service provider would receive revenue, and, in turn, the investment adviser would receive a portion of that revenue.  Without admitting or denying the allegations of Advisers Act violations, the investment adviser agreed to pay nearly $800,000 in disgorgement, prejudgment interest, and civil penalties. In early June, the SEC instituted settled proceedings against a New York-based investment adviser in connection with alleged failures to disclose conflicts of interest to clients and prospective clients relating to compensation paid to the firm’s individual advisers and an overseas affiliate.[39]  According to the SEC, this undisclosed compensation, which came from overseas third-party product and service providers recommended by the adviser, incentivized the adviser to recommend certain products and services and a pension transfer.  The SEC also found that the adviser made misleading statements regarding investment options and tax treatment of investments.  In settling the action without admitting or denying the allegations, the investment adviser agreed to pay an $8 million civil penalty and to engage an independent compliance consultant.  In a parallel action, the Commission filed a complaint in federal court in Manhattan against the adviser’s former CEO and a former manager. On the same day, the SEC filed another settled administrative proceeding relating to undisclosed conflicts of interest with a Delaware-based investment adviser.[40]  The settlement order alleges that the adviser negotiated side letters with outside asset managers resulting in arrangements under which the asset managers would make payments to the adviser based on the amount of client assets placed or maintained in funds advised by those asset managers.  This was not disclosed to clients, and contravened the adviser’s agreements with two specific advisory clients.  The SEC also alleged that the adviser failed to implement policies and procedures to prevent conflicts of interest and failed to maintain accurate records relating to the payments from the outside asset managers.  Without admitting or denying the Commission’s findings, the adviser agreed to pay a $500,000 penalty. C.  Fraud and Other Misconduct In January, the SEC filed settled charges against a California-based investment adviser and its CEO and President for failing to adequately disclose the risks associated with investing in their advisory business.[41]  According to the SEC, the firm decided to borrow cash from investors—including its own retail investor clients whose portfolio accounts were managed by the CEO—in the form of promissory notes, in order to fund its business expenses, which exceeded the amount of money received from advisory fees.  In their efforts to market the promissory notes, the CEO and President failed to disclose the true financial state of the firm or the significant risk of default.  In settling the action, the investment adviser agreed to various undertakings, including an in-depth review and enhancement of compliance policies and procedures, and the provision of detailed information regarding noteholders to the staff.  In addition, the firm paid a $50,000 penalty and each principal paid a $25,000 penalty. Also in January, the SEC filed charges in the District of Massachusetts against two Boston-based investment advisers, alleging they engaged in various schemes to defraud their clients, including stealing client funds, failing to disclose conflicts of interest, and secretly using client funds to secure financing for their own investments.[42]  The SEC also alleged that one of the individuals violated his fiduciary duties to clients by obtaining a loan from a client on unfavorable terms to that client and charging advisory fees over 50% higher than the promised rate.  According to the complaint, the pair in one instance misappropriated nearly $450,000 from an elderly client, using the funds to make investments in their own names and to pay personal expenses for one of the individual advisers.  The U.S. Attorney’s Office for the District of Massachusetts also filed criminal charges against the same advisers in a parallel action.  While the SEC action remains pending, the individuals have both pleaded guilty to criminal charges.[43] The SEC also initiated a number of enforcement actions for alleged cherry-picking by investment advisers.  In February, the SEC instituted a litigated action against a California-based investment adviser, its president and sole owner, and its former Chief Compliance Officer for allocating profitable trades to the investment adviser’s account at the expense of its clients.[44]  The SEC’s complaint also alleges that the adviser and president misrepresented trading and allocation practices in Forms ADV filed with the Commission.  The former CCO agreed to settle the charges against him—without admitting or denying allegations that he ignored red flags relating to the firm’s allocation practices—and pay a fine of $15,000; the litigation against the investment adviser and president remains ongoing.  And in March the SEC instituted settled proceedings against a Texas-based investment adviser and its sole principal for disproportionately allocating unprofitable trades to client accounts and profitable trades to their own accounts.[45]  The investment adviser agreed to pay a total of over $700,000 in disgorgement, prejudgment interest, and civil penalties, and the principal agreed to a permanent bar from the securities industry. In April, the SEC filed a settled administrative proceedings against an Illinois-based investment adviser and its president in connection with allegedly misleading advertisements about investment performance.[46]  According to the SEC, the adviser did not disclose that performance results included in advertisements—in the form of written communications and weekly radio broadcasts and video webcasts by its president—were often based on back-tested historical results generated by the adviser’s models, rather than actual results.  The adviser also allegedly failed to adopt written policies and procedures designed to prevent violations of the Advisers Act.  In reaching the agreed-upon resolution, the SEC took into account remediation efforts undertaken by the adviser during the course of the SEC’s investigation, including hiring a new CCO and engaging an outside compliance consultant who conducted an in-depth review of the compliance program and made recommendations which were then implemented by the adviser.  The investment adviser agreed to pay a $125,000 penalty, and the adviser’s president agreed to pay a $75,000 penalty. In May, the SEC charged a California-based individual investment adviser with lying to clients about investment performance and strategy, inflating asset values and unrealized profits in order to overpay himself in management fees and bonuses, and failing to have the private funds audited.[47]  The adviser settled the charges without admitting or denying the allegations, agreeing pay penalties and disgorgement in amounts to be determined by the court. Later that month, the SEC filed settled charges against a Delaware-based investment adviser and its managing member for allegedly making misrepresentations and omissions about the assets and performance of a hedge fund they managed.[48]  According to the SEC, the adviser misrepresented the performance and value of assets in the hedge fund after losing nearly all of its investments after the fund’s trading strategy led to substantial losses.  In addition to making false representations to the fund’s two investors, the adviser withdrew excessive advisory fees based on the inflated asset values.  Without admitting or denying the charges, the adviser and managing member agreed to a cease-and-desist order under which the individual also agreed to a broker-dealer and investment company bar, as well as a $160,000 penalty. In another pair of cases filed in May, the SEC charged a hedge fund and a private fund manager in separate cases involving inflated valuations.  In one case, the SEC alleged that the fund manager’s Chief Financial Officer failed to supervise portfolio managers who engaged in asset mismarking.[49]  The asset mismarking scheme resulted in the hedge fund reaping approximately $3.15 million in excess fees.  The SEC had previously charged the portfolio managers in connection with their misconduct in 2016.  The CFO agreed to pay a $100,000 penalty and to be suspended from the securities industry for twelve months, while the firm agreed to pay over $9 million in disgorgement and penalties.  In the other case, the SEC filed a litigated action in the U.S. District Court for the Southern District of New York against a New York-based investment adviser, the company’s CEO and chief investment officer, a former partner and portfolio manager at the company, and a former trader, in connection with allegations that the defendants inflated the value of private funds they advised.[50]  According to the complaint, the defendants fraudulently inflated the value of the company’s holdings in mortgage-backed securities in order to attract and retain investors, as well as to hide poor fund performance.  This litigation is ongoing. Finally, in late June the SEC announced a settlement with an investment adviser that allegedly failed to protect against advisory representatives misappropriating or misusing client funds.[51]  Without sufficient safeguards in place, one advisory representative was able to misappropriate or misuse $7 million from advisory clients’ accounts.  Without admitting or denying the SEC’s findings, the adviser agreed to pay a $3.6 million penalty, in addition to a cease-and-desist order and a censure.  The representative who allegedly misused the $7 million from client accounts faces criminal charges by the U.S. Attorney’s Office for the Southern District of New York. D.  Investment Company Share Price Selection The first half of 2018 saw the launch of the SEC’s Share Class Selection Disclosure Initiative (SCSD Initiative), as well as several cases involving share class selections.  Under the SCSD Initiative, announced in February, the SEC’s Division of Enforcement agreed not to recommend financial penalties against mutual fund managers which self-report violations of the federal securities laws relating to mutual fund share class selection and promptly return money to victimized investors.[52]  Where investment advisers fail to disclose conflicts of interest and do not self-report, the Division of Enforcement will recommend stronger sanctions in future actions. In late February, a Minnesota-based broker-dealer and investment adviser settled charges in connection with the recommendation and sale of higher-fee mutual fund shares when less expensive share classes were available.[53]  In turn, those recommendations resulted in greater revenue for the company and decreased customers’ returns.  The company, without admitting or denying the allegations, consented to a penalty of $230,000. In April, three investment advisers agreed to settle charges in connection with their failure to disclose conflicts of interest and violations of their fiduciary duties by recommending higher-fee mutual fund share classes despite the availability of less expensive share classes.[54]  Collectively, the companies agreed to pay nearly $15 million in disgorgement, prejudgment interest, and penalties.  The SEC used the announcement of the cases to reiterate its ongoing SCSDC Initiative. E.  Other Compliance Issues In January, the SEC announced settled charges against an Arizona-based investment adviser and its sole principal in connection with a number of Advisers Act violations, including misrepresentations in filed Forms ADV, misrepresentations and failure to produce documents to the Commission examination staff, and other compliance-related deficiencies.[55]  According to the SEC, the adviser’s Forms ADV for years misrepresented its principal’s interest in private funds in which its advisory clients invested.  While the clients were aware of the principal’s involvement with the funds, the adviser falsely stated in filings that the principal had no outside financial industry activities and no interests in client transactions.  Additionally, the SEC alleged that the adviser misstated its assets under management, failed to adopt written policies and procedures relating to advisory fees, and failed to conduct annual reviews of its policies and procedures.  Without admitting or denying the SEC’s allegations, the investment adviser agreed to pay a $100,000 penalty, and the principal agreed to a $50,000 penalty and to a prohibition from acting in a compliance capacity. In April, the SEC filed settled charges against a Connecticut-based investment adviser and its sole owner for improper registration with the Commission and violations of the Commission’s custody and recordkeeping rules.[56]  According to the settled order, the adviser misrepresented the amount of its assets under management in order to satisfy the minimum requirements for SEC registration.  The adviser also allegedly—while having custody over client assets—failed to provide quarterly statements to clients or to arrange for annual surprise verifications of assets by an independent accountant, as required by the Custody Rule, and also failed to make and keep certain books and records required by SEC rules.  Without admitting or denying the allegations, the adviser and its owner agreed to the entry of a cease-and-desist order, and the owner agreed to pay a $20,000 civil penalty and to a 12-month securities industry suspension. A few weeks later, a fund administrator settled cease-and-desist proceedings in connection with the company’s alleged noncompliance in maintaining an affiliated cash fund.[57]  According to the SEC, from mid-2008 to the end of 2012, the firm’s pricing methodology for its affiliated unregistered money market fund was flawed.  The SEC alleged that the deficiencies in the pricing methodology caused the affiliated cash fund to violate Investment Company Act.  To settle the charges, the trust agreed to pay a civil monetary penalty of $225,000. And in June, the SEC announced settlements with 13 private fund advisers in connection with their failures to file Form PF.[58]  Advisers who manage $150 million or more of assets are obligated to file annual reports on Form PF that indicate the amount of assets under management and other metrics about the private funds that they advise.  In turn, the SEC uses the data contained in Form PF in connection with quarterly reports, to monitor industry trends, and to evaluate systemic risks posed by private funds.  Each of the 13 advisers failed to timely file Form PF over a number of years.  Without admitting or denying the allegations, each of the 13 advisers agreed to pay a $75,000 civil penalty. IV.  Brokers and Financial Institutions A.  Supervisory Controls and Internal Systems Deficiencies The SEC brought several cases during the first half of 2018 relating to failures of supervisory controls and internal systems.  In March, the SEC filed a litigated administrative proceeding against a Los Angeles-based financial services firm for failing to supervise one of its employees who was involved in a long-running pump-and-dump scheme and who allegedly received undisclosed benefits for investing her customers in microcap stocks that were the subject of the scheme.[59]  The employee agreed to settle fraud charges stemming from the scheme.  The SEC alleged that the firm ignored multiple signs of the employee’s fraud, including a customer email outlining her involvement in the scheme and multiple FINRA arbitrations and inquiries regarding her penny stock trading activity.  The firm even conducted two investigations, deemed “flawed and insufficient” by the SEC, but failed to take action against the employee.  The SEC previously charged the orchestrator of the pump-and-dump scheme, as well as 15 other individuals and several entities. Also in March, the SEC announced settled charges against a New York-based broker-dealer for its failure to perform required gatekeeping functions in selling almost three million unregistered shares of stock on behalf of a China-based issuer and its affiliates.[60]  The SEC alleged that the firm ignored red flags indicating that the sales could be part of an unlawful unregistered distribution. At the end of June, the SEC charged a New York-based broker-dealer and two of its managers for failing to supervise three brokers, all three of whom were previously charged with fraud in September 2017.[61]  According to the SEC, the firm lacked reasonable supervisory policies and procedures, as well as systems to implement them, and if those systems had been in place, the firm likely would have prevented and detected the brokers’ wrongdoing.  In separate orders, the SEC found that two supervisors ignored red flags indicating excessive trading and failed to supervise brokers with a view toward preventing and detecting their securities-laws violations. B.  AML Cases During the first half of 2018, the SEC brought a number of cases in the anti-money laundering (“AML”) arena.  In March, the SEC brought settled charges against a New York-based brokerage firm for failure to file Suspicious Activity Reports (or “SARs”) reporting numerous suspicious transactions.[62]  The brokerage firm admitted to the charges, and agreed to retain a compliance expert and pay a $750,000 penalty.  The SEC also brought charges against the brokerage firm’s CEO for causing the violation, and its AML compliance officer for aiding and abetting the violation.  Without admitting or denying the charges, the CEO and AML compliance officer respectively agreed to pay penalties of $40,000 and $25,000. In May, the SEC instituted settled charges against two broker-dealers and an AML officer for failing to file SARs relating to the suspicious sales of billions of shares in penny stock.[63]  Without admitting or denying the SEC’s findings, the broker-dealers agreed to penalties; the AML officer agreed to a penalty and an industry and penny stock bar for a minimum of three years. C.  Regulatory Violations In January, the SEC instituted a settled administrative proceeding against an international financial institution for repeated violations of Rule 204 of Regulation SHO, which requires timely delivery of shares to cover short sales.[64]  The SEC’s order alleged that the firm improperly claimed credit on purchases and double counted purchases, resulting in numerous, prolonged fail to deliver positions for short sales.  Without admitting or denying the allegations, the firm agreed to pay a penalty of $1.25 million and entered into an undertaking to fully cooperate with the SEC in all proceedings relating to or arising from the matters in the order. In March, the SEC announced settled charges against a Los-Angeles broker dealer for violating the Customer Protection Rule, which requires that broker-dealers safeguard the cash and securities of customers, by illegally placing more than $25 million of customers’ securities at risk to fund its own operations.[65]  Specifically, the broker-dealer on multiple occasions moved customers’ securities to its own margin account without obtaining the customers’ consent.  The SEC’s Press Release noted that it had recently brought several cases charging violations of the Customer Protection Rule.  Without admitting or denying the allegations, the broker dealer agreed to pay a penalty of $80,000. Also in March, the SEC filed a settled action against a New York-based broker dealer and its CEO and founder for violating the net capital rule, which requires a broker-dealer to maintain sufficient liquid assets to meet all obligations to customers and counterparties and have adequate additional resources to wind down its business in an orderly manner if the firm fails financially.[66]  The SEC found that for ten months, the firm repeatedly failed to maintain sufficient net capital, failed to accrue certain liabilities on its books and records, and misclassified certain assets when performing its net capital calculations.  According to the SEC, the firm’s CEO was involved in discussions about the firm’s unaccrued legal liabilities and was aware of the misclassified assets, but he nevertheless prepared the firm’s erroneous net capital calculations.  As part of the settlement, he agreed to not serve as a financial and operations principal (FINOP) for three years and to pass the required licensing examination prior to resuming duties as a FINOP; the firm agreed to pay a $25,000 penalty. And in a novel enforcement action also arising in March, the SEC filed a settled action against the New York Stock Exchange and two affiliated exchanges in connection with multiple episodes, including several disruptive market events, such as erroneously implementing a market-wide regulatory halt, negligently misrepresenting stock prices as “automated” despite extensive system issues ahead of a total shutdown of two of the exchanges, and applying price collars during unusual market volatility on August 24, 2015, without a rule in effect to permit them.[67]  The SEC also, for the first time, alleged a violation of Regulation SCI, which was adopted by the Commission to strengthen the technology infrastructure and integrity of the U.S. securities markets.  The SEC charged two NYSE exchanges with violating Regulation SCI’s business continuity and disaster recovery requirement.  Without admitting or denying the allegations, the exchanges agreed to pay a $14 million penalty to settle the charges. D.  Other Broker-Dealer Enforcement Actions In June, the SEC settled with a Missouri-based broker-dealer, alleging that the firm generated large fees by improperly soliciting retail customers to actively trade financial products called market-linked investments, or MLIs, which are intended to be held to maturity.[68]  The SEC alleged that the trading strategy, whereby the MLIs were sold before maturity and the proceeds were invested in new MLIs, generated commissions for the firm, which reduced the customers’ investment returns.  The order also found that certain representatives of the firm did not reasonably investigate or understand the significant costs of the MLI exchanges.  The SEC also alleged that the firm’s supervisors routinely approved the MLI transactions despite internal policies prohibiting short-term trading or “flipping” of the products. Later in June, the SEC announced that it had settled with a New York-based broker-dealer for the firm’s violations of its record-keeping provisions by failing to remediate an improper commission-sharing scheme in which a former supervisor received off-book payments from traders he managed.[69]  The SEC also filed a litigated complaint in federal court against the former supervisor and former senior trader for their roles in the scheme.  As alleged by the SEC, the former supervisor and another trader used personal checks to pay a portion of their commissions to the firm’s former global co-head of equities and to another trader.  The practice violated the firm’s policies and procedures and resulted in conflicts of interest that were hidden from the firm’s compliance department, customers, and regulators. E.  Mortgage Backed Securities Cases The SEC appeared to be clearing out its docket of enforcement actions dating back to the mortgage crisis. In February, the SEC announced a settlement against a large financial institution and the former head of its commercial mortgage-backed securities (“CMBS”) trading desk, alleging that traders and salespeople at the firm made false and misleading statements while negotiating secondary market CMBS sales.[70]  According to the SEC’s order, customers of the financial institution overpaid for CMBS because they were misled about the prices at which the firm had originally purchased them, resulting in increased profits for the firm to the detriment of its customers.  The order also alleged that the firm did not have in place adequate compliance and surveillance procedures which were reasonably designed to prevent and detect the misconduct, and also found supervisory failures by the former head trader for failing to take appropriate corrective action.  The firm and trader, without admitting or denying the allegations, agreed to respective penalties of $750,000 and $165,000.  The firm also agreed to repay $3.7 million to customers, which included $1.48 million ordered as disgorgement, and the trader agreed to serve a one-year suspension from the securities industry. Similarly, in mid-June, a large New York-based wealth management firm paid $15 million to settle SEC charges that its traders and salespersons misled customers into overpaying for residential mortgage backed securities (RMBS) by deceiving them about the price that the firm paid to acquire the securities.[71]  The SEC also alleged that the firm’s RMBS traders and salespersons illegally profited from excessive, undisclosed commissions, which in some instances were more than twice the amount that customers should have paid.  According to the SEC, the firm failed to have compliance and surveillance procedures in place that were reasonably designed to prevent and detect the misconduct. V.  Insider Trading A.  Classical Insider Trading And Misappropriation Cases In January, a former corporate insider and a former professional in the brokerage industry agreed to settle allegations that they traded on the stock of a construction company prior to the public announcement of the company’s acquisition.[72]  The insider purportedly tipped his friend, who was then a registered broker-dealer, about the impending transaction in return for assistance in obtaining a new job with his friend’s employer following the merger.  According to the SEC, the broker-dealer traded on that information for a profit exceeding $48,000.  Without admitting or denying the SEC’s findings, both individuals consented to pay monetary penalties, and the trader agreed to disgorge his ill-gotten gains. The following month, the SEC sued a pharmaceutical company employee who allegedly traded in the stock of an acquisition target despite an explicit warning not to do so.[73]  According to the SEC, the defendant bought stock in the other company a mere 14 minutes after receiving an e-mail regarding the acquisition.  Without admitting or denying the SEC’s allegations, the employee agreed to disgorgement of $2,287 and a $6,681 penalty. In February, the SEC charged the former CEO and a former officer of a medical products company with trading on information regarding a merger involving one of their company’s largest customers.[74]  Without admitting or denying the allegations, the two executives agreed to disgorge a total of about $180,000 in trading proceeds and to pay matching penalties. In March, the SEC charged a former communications specialist at a supply chain services company with garnering more than $38,000 in illicit profits after purchasing shares in his company prior to the public announcement of its acquisition.[75]  Without admitting or denying the allegations, the defendant subsequently agreed to $38,242 in disgorgement and the payment of a penalty to be determined following a subsequent motion by the SEC.[76] That same month, the SEC filed suit against the former chief information officer of a company who sold shares of his employer prior to public revelations that that company had suffered a data breach.[77]  In addition, the U.S. Attorney’s Office for the Northern District of Georgia brought  parallel criminal charges.  Both cases are still pending.  Subsequently, at the end of June, the SEC charged another employee at that same company with trading on nonpublic information that he obtained while creating a website for customers affected by the data breach.[78]  The defendant agreed to a settlement requiring him to return ill-gotten gains of more than $75,000 plus interest, and a criminal case filed by the U.S. Attorney’s Office for the Northern District of Georgia remains ongoing. In April, the SEC charged a New York man with tipping his brother and father about the impending acquisition of a medical-supply company based on information that he learned from his friend, the CEO of the company being acquired.[79]  The SEC alleged that the father and brother garnered profits of about $145,000 based on their unlawful trading, and—without admitting or denying the SEC’s allegations—the tipper agreed to pay a $290,000 penalty.  The SEC’s investigation remains ongoing. Also in April, the SEC and the U.S. Attorney’s Office for the District of Massachusetts filed parallel civil and criminal charges against a man accused of trading on a company’s stock based on information gleaned from an unidentified insider.[80]  The man purportedly purchased shares using his retirement savings in advance of eight quarterly earnings announcements over a two-year period, reaping over $900,000 in illicit profits.  The SEC’s complaint also names the man’s wife as a relief defendant, and the matter remains ongoing. Finally, in May, the SEC charged two men with reaping small profits by trading on non-public information in advance of a merger of two snack food companies based on information gained from a close personal friend at one of the merging companies.[81]  Both defendants agreed to settle the lawsuit by disgorging ill-gotten gains and paying penalties. B.  Misappropriation by Investment Professionals and Other Advisors At the end of May, the SEC charged a vice president at an investment bank with repeatedly using confidential knowledge to trade in advance of deals on which his employer advised.[82]  The defendant allegedly used client information to trade in the securities of 12 different companies via a brokerage account held in the name of a friend living in South Korea, evading his employer’s rules that he pre-clear any trades and use an approved brokerage firm.  The trader purportedly garnered approximately $140,000 in illicit profits, and the U.S. Attorney’s Office for the Southern District of New York filed a parallel criminal case.  Both matters are still being litigated. In June, the SEC sued a Canadian accountant for trading on information misappropriated from his client, a member of an oil and gas company’s board of directors.[83]  Based on this relationship, the defendant gained knowledge of an impending merger involving the company.  Without admitting or denying the SEC’s allegations, he agreed to be barred from acting as an officer or director of a public company, and to pay disgorgement and civil penalties of $220,500 each.  The defendant also consented to an SEC order suspending him from appearing or practicing before the Commission as an accountant. Finally, that same month, the SEC charged a credit ratings agency employee and the two friends he tipped about a client’s nonpublic intention to acquire another company.[84]  According to the SEC, the tipper learned the confidential information when the client reached out to the agency to assess the impact of the merger on the company’s credit rating.  Based on the information they received, the friends allegedly netted profits of $192,000 and $107,000, respectively.  In addition, the U.S. Attorney’s Office for the Southern District of New York filed a parallel criminal case against all three individuals.. C.  Other Trading Cases And Developments In February, the Third Circuit Court of Appeals issued a decision in United States v. Metro reversing the district court’s sentencing calculation following the appellant’s conviction on insider trading charges.[85]  The appellant, Steven Metro, was a managing clerk at a New York City law firm, and over the course of five years, he disclosed material nonpublic information to a close friend, Frank Tamayo, concerning 13 different corporate transactions.  Tamayo then transmitted that information to a third-party broker, who placed trades on behalf of Tamayo, himself, and other clients, yielding illicit profits of approximately $5.5 million.  Metro pleaded guilty to one count of conspiracy and one count of securities fraud, and the district court attributed the entire $5.5 million sum to Metro in calculating the length of his sentence.  Metro objected, arguing that he was unaware of the broker’s existence until after he stopped tipping Tamayo. On appeal, the Third Circuit vacated Metro’s sentence after determining that the district court made insufficient factual findings to substantiate imputation of all illicit profits to Metro, holding: “When the scope of a defendant’s involvement in a conspiracy is contested, a district court cannot rely solely on a defendant’s guilty plea to the conspiracy charge, without additional fact-finding, to support attributing co-conspirators’ gains to a defendant.”  The court emphasized that “when attributing to an insider-trading defendant gains realized by other individuals . . . a sentencing court should first identify the scope of conduct for which the defendant can fairly be held accountable . . . .”  Such an inquiry “may lead the court to attribute to a defendant gains realized by downstream trading emanating from the defendant’s tips, but, depending on the facts established at sentencing, it may not,” and the court therefore found that the government erred in propounding a “strict liability” standard. Finally, the first half of this year also saw limited activity by the SEC to freeze assets used to effectuate alleged insider trades.  In January, the SEC obtained an emergency court order freezing the assets of unknown defendants in Swiss bank accounts.[86]  According to the SEC, those unknown defendants were in possession of material nonpublic information regarding the impending acquisition of a biopharmaceutical company, and some of the positions taken in those accounts represented almost 100 percent of the market for those particular options.  The illicit trades allegedly yielded about $5 million in profits.. VI.  Municipal Securities and Public Pensions Cases In the first half of 2018, the SEC’s Public Finance Abuse Unit continued the slower pace of enforcement that began in 2017, pursuing two separate cases against municipal advisors. In January, the SEC charged an Atlanta, Georgia-based municipal advisor and its principal with defrauding the city of Rolling Fork, Mississippi.[87]  The SEC alleged that the municipal advisor had fraudulently overcharged Rolling Fork for municipal advisory services in connection with an October 2015 municipal bond offering and had failed to disclose certain related-party payments.  The related-party payments consisted of an undisclosed $2500 payment made to the advisor by an employee of a municipal underwriter shortly before the advisor recommended that the city hire the underwriter’s firm.  The parties subsequently agreed to settle the case.[88]  Without admitting or denying the allegations against them, the advisor and principal consented to the entry of judgments permanently enjoining them from violating Sections 15B(a)(5) and 15B(c)(1) of the Securities Exchange Act of 1934 and MSRB Rule G-17.  The judgment also requires the defendants to pay a total of about $111,000 in disgorgement, interest, and penalties. In addition, the SEC settled its case against the municipal underwriter.  Without admitting the SEC’s findings, the underwriter agreed to a six-month suspension and to pay a $20,000 penalty. And in May, the SEC brought settled administrative proceedings against another municipal advisor and its owner.[89]  The SEC alleged that, by misrepresenting their municipal advisory experience and failing to disclose conflicts of interest, the advisor and owner had defrauded a South Texas school district and breached their fiduciary duties to that district.  Without admitting to the allegations, the advisor and owner agreed to pay a combined total of approximately $562,000 in disgorgement, interest, and penalties.. [1] Lucia v. SEC, 585 U.S. __ (2018).  For more on Lucia, see Gibson Dunn Client Alert, SEC Rules That SEC ALJs Were Unconstitutionally Appointed (June 21, 2018), available at www.gibsondunn.com/supreme-court-rules-that-sec-aljs-were-unconstitutionally-appointed. [2] See Gibson Dunn Client Alert, U.S. Supreme Court Limits SEC Power to Seek Disgorgement Based on Stale Conduct (June 5, 2017), available at www.gibsondunn.com/united-states-supreme-court-limits-sec-power-to-seek-disgorgement-based-on-stale-conduct. [3] SEC v Kokesh, No. 15-2087 (10th Cir. Mar. 5, 2018); see also Jonathan Stempel, SEC Can Recoup Ill-gotten Gains from New Mexico Businessman: U.S. Appeals Court, Reuters (Mar. 5, 2018), available at www.reuters.com/article/us-sec-kokesh/sec-can-recoup-ill-gotten-gains-from-new-mexico-businessman-u-s-appeals-court-idUSKBN1GH2YK. [4] Adam Dobrik, Unhelpful to Threaten SEC with Trial, Says Enforcement Director, Global Investigations Review (May 10, 2018), available at globalinvestigationsreview.com/article/jac/1169315/unhelpful-to-threaten-sec-with-trial-says-enforcement-director. [5] See SEC v. Cohen, No. 1:17-CV-00430 (E.D.N.Y. July 12, 2018) (holding claims for injunctive relief time-barred). [6] Dunstan Prial, High Court Agrees To Review Banker’s Copy-Paste Fraud, Law360 (Jun. 18, 2018), available at https://www.law360.com/securities/articles/1054568. [7] SEC Press Release, SEC Awards Whistleblower More Than $2.1 Million (Apr. 12, 2018), available at www.sec.gov/news/press-release/2018-64. [8] SEC Press Release, SEC Announces Its Largest-Ever Whistleblower Awards (Mar. 19, 2018), available at https://www.sec.gov/news/press-release/2018-44. [9] Ed Beeson, SEC Whistleblowers Net $83M In Largest Ever Bounties, Law360 (Mar. 19, 2018), available at www.law360.com/articles/1023646/sec-whistleblowers-net-83m-in-largest-ever-bounties. [10] In re Claims for Award in connection with [redacted], Admin. Proc. File No. 2018-6 (Mar. 19, 2018), available at https://www.sec.gov/rules/other/2018/34-82897.pdf. [11] SEC Press Release, SEC Awards More Than $2.2 Million to Whistleblower Who First Reported Information to Another Federal Agency Before SEC (Apr. 5, 2018), available at www.sec.gov/news/press-release/2018-58. [12] SEC Press Release, SEC Awards Whistleblower More Than $2.1 Million (Apr. 12, 2018), available at www.sec.gov/news/press-release/2018-64. [13] Digital Realty Trust, Inc. v. Somers, 583 U.S. __ (2018); see Dunstan Prial, Supreme Court Narrows Definition Of Whistleblower, Law360 (Feb. 21, 2018), available at www.law360.com/securities/articles/1003954. [14] Jennifer Williams Alvarez, SEC Proposes Changes to Whistle-Blower Program, Agenda: A Financial Times Services (Jun. 28, 2018), available at [insert]. [15] SEC Public Statement, Statement on Cybersecurity Interpretive Guidance (Feb. 21, 2018), available at www.sec.gov/news/public-statement/statement-clayton-2018-02-21. [16] SEC Public Statement, Statement on Potentially Unlawful Online Platforms for Trading Digital Assets (March 7, 2018), available at https://www.sec.gov/news/public-statement/enforcement-tm-statement-potentially-unlawful-online-platforms-trading. [17] SEC Press Release, SEC Charges Former Bitcoin-Denominated Exchange and Operator with Fraud (Feb. 21, 2018), available at https://www.sec.gov/news/press-release/2018-23. [18] SEC Press Release, SEC Halts Alleged Initial Coin Offering Scam (Jan. 30, 2018), available at www.sec.gov/news/press-release/2018-8. [19] SEC Press Release, SEC Halts Fraudulent Scheme Involving Unregistered ICO (April 2, 2018), available at www.sec.gov/news/press-release/2018-53. [20] SEC Press Release, SEC Charges Additional Defendant in Fraudulent ICO Scheme (April 20, 2018), available at www.sec.gov/news/press-release/2018-70. [21] SEC Press Release, SEC Obtains Emergency Order Halting Fraudulent Coin Offering Scheme (May 29, 2018), available at www.sec.gov/news/press-release/2018-94. [22] SEC Press Release, SEC Obtains Emergency Freeze of $27 Million in Stock Sales of Purported Cryptocurrency Company Longfin (April 6, 2018), available at www.sec.gov/news/press-release/2018-61. [23] SEC Press Release, SEC Charges Energy Storage Company, Former Executive in Fraudulent Scheme to Inflate Financial Results (Mar. 27, 2018), available at www.sec.gov/news/press-release/2018-48. [24] SEC Press Release, Panasonic Charged with FCPA and Accounting Fraud Violations (Apr. 30, 2018), available at www.sec.gov/news/press-release/2018-73. [25] SEC Press Release, Altaba, Formerly Known as Yahoo!, Charged With Failing to Disclose Massive Cybersecurity Breach; Agrees To Pay $35 Million (Apr. 24, 2018), available at www.sec.gov/news/press-release/2018-71. [26] SEC Press Release, SEC Charges Three Former Healthcare Executives With Fraud (May 16, 2018), available at www.sec.gov/news/press-release/2018-90. [27] SEC Litig. Rel. No. 24181, SEC Charges California Company and Three Executives with Accounting Fraud (July 2, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24181.htm. [28] SEC Press Release, SEC Obtains Bars and Suspensions Against Individuals and Accounting Firm in Shell Factory Scheme (Feb. 16, 2018), available at www.sec.gov/news/press-release/2018-21. [29] SEC Press Release, Foreign Affiliates of KPMG, Deloitte, BDO Charged in Improper Audits (Mar. 13, 2018), available at www.sec.gov/news/press-release/2018-39. [30] In the Matter of Winter, Kloman, Moter & Repp, S.C., Curtis W. Disrud, CPA, and Paul R. Sehmer, CPA, Admin. Proc. File No. 3-18466 (May 04, 2018), available at www.sec.gov/litigation/admin/2018/34-83168.pdf. [31] AP File No. 3-18442, SEC Charges New Jersey-Based Company and Founder for Impermissible Association with Barred Auditor (Apr. 19, 2018), available at www.sec.gov/enforce/34-83067-s. [32] SEC Admin. Proc. File No. 3-18398, Fintech Company Charged For Stock Option Offering Deficiencies, Failed To Provide Required Financial Information To Employee Shareholders (Mar. 12, 2018), available at www.sec.gov/litigation/admin/2017/34-82233-s.pdf. [33] SEC Press Release, Theranos, CEO Holmes, and Former President Balwani Charged With Massive Fraud (Mar. 14, 2018), available at www.sec.gov/news/press-release/2018-41. [34] SEC Litig. Rel. No. 24121, SEC Charges Biotech Start-up, CEO With Fraud (Apr. 24, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24121.htm. [35] In the Matter of THL Managers V, LLC, and THL Managers, VI, LLC, Admin. Proc. File No. 3-18565 (June 29, 2018), available at www.sec.gov/litigation/admin/2018/ia-4952.pdf. [36] SEC Admin. Proc. File No. 3-18564, SEC Charges New York-Based Venture Capital Fund Adviser for Failing to Offset Consulting Fees (June 29, 2018), available at www.sec.gov/enforce/ia-4951-s. [37] SEC Press Release, (Mar. 8, 2018), available at www.sec.gov/news/press-release/2018-35. [38] SEC Admin. Proc. File No. 3-18449, SEC Charges a New York-Based Investment Adviser for Breach of Fiduciary Duty (Apr. 24, 2018), available at www.sec.gov/enforce/ia-4896-s. [39] SEC Press Release, SEC Charges Investment Adviser and Two Former Managers for Misleading Retail Clients (June 4, 2018), available at www.sec.gov/news/press-release/2018-101. [40] In re Lyxor Asset Management, Inc., Admin Proc. File No. 3-18526 (June 4, 2018), available at www.sec.gov/litigation/admin/2018/ia-4932.pdf. [41] SEC Admin. Proc. File No. 3-18349, Investment Adviser and Its Principals Settle SEC Charges that They Failed to Disclose Risks of Investing in Their Advisory Business (Jan. 23, 2018), available at  www.sec.gov/enforce/33-10454-s. [42] SEC Litig. Rel. No. 24037, SEC Charges Two Boston-Based Investment Advisers with Fraud (Jan. 31, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24037.htm. [43] Nate Raymond, Ex-Morgan Stanley adviser sentenced to U.S. prison for fraud, Reuters (June 28, 2018), available at www.reuters.com/article/morgan-stanley-fraud/ex-morgan-stanley-adviser-sentenced-to-u-s-prison-for-fraud-idUSL1N1TU28Q. [44] SEC Litig. Rel. No. 24054, SEC Charges Orange County Investment Adviser and Senior Officers in Fraudulent “Cherry-Picking” Scheme (Feb. 21, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24054.htm. [45] SEC Press Release, Investment Adviser Settles Charges for Cheating Clients in Fraudulent Cherry-Picking Scheme (Mar. 8, 2018), available at www.sec.gov/news/press-release/2018-36. [46] In re Arlington Capital Management, Inc. and Joseph L. LoPresti, Admin. Proc. File No. 3-18437 (Apr. 16, 2018), available at www.sec.gov/litigation/admin/2018/ia-4885.pdf. [47] SEC Litig. Rel. No. 24142, SEC Charges California Investment Adviser in Multi-Million Dollar Fraud (May 15, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24142.htm. [48] In re Aberon Capital Management, LLC and Joseph Krigsfeld, Admin. Proc. File No. 3-18503 (May 24, 2018), available at www.sec.gov/litigation/admin/2018/ia-4914.pdf. [49] SEC Press Release, Hedge Fund Firm Charged for Asset Mismarking and Insider Trading (May 8, 2018), available at www.sec.gov/news/press-release/2018-81. [50] SEC Press Release, SEC Charges Hedge Fund Adviser With Deceiving Investors by Inflating Fund Performance (May 9, 2018), available at www.sec.gov/news/press-release/2018-83. [51] SEC Press Release, SEC Charges Morgan Stanley in Connection With Failure to Detect or Prevent Misappropriation of Client Funds (June 29, 2018), available at www.sec.gov/news/press-release/2018-124. [52] SEC Press Release, SEC Launches Share Class Selection Disclosure Initiative to Encourage Self-Reporting and the Prompt Return of Funds to Investors (Feb. 12, 2018), available at www.sec.gov/news/press-release/2018-15. [53] SEC Press Release, SEC Charges Ameriprise With Overcharging Retirement Account Customers for Mutual Fund Shares (Feb. 28, 2018), available at www.sec.gov/news/press-release/2018-26. [54] SEC Press Release, SEC Orders Three Investment Advisers to Pay $12 Million to Harmed Clients (Apr. 6, 2018), available at www.sec.gov/news/press-release/2018-62. [55] SEC Admin. Proc. File No. 3-18328, Formerly Registered Investment Adviser Settles SEC Charges Related to Filing False Forms ADV and Other Investment Advisers Act Violations (Jan. 3, 2018), available at www.sec.gov/litigation/admin/2018/ia-4836-s.pdf. [56] SEC Admin. Proc. File No. 3-18423, SEC Charges Investment Adviser for Improperly Registering with the Commission and Violating Several Rules (Apr. 5, 2018), available at www.sec.gov/enforce/ia-4875-s. [57] In re SEI Investments Global Funds Services, Admin. Proc. File No. 3-18457 (Apr. 26, 2018), available at www.sec.gov/litigation/admin/2018/ic-33087.pdf. [58] SEC Press Release, SEC Charges 13 Private Fund Advisers for Repeated Filing Failures (June 1, 2018), available at www.sec.gov/news/press-release/2018-100. [59] SEC Press Release, SEC Charges Recidivist Broker-Dealer in Employee’s Long-Running Pump-and-Dump Fraud (Mar. 27, 2018), available at www.sec.gov/news/press-release/2018-49. [60] SEC Press Release, Merrill Lynch Charged With Gatekeeping Failures in the Unregistered Sales of Securities (Mar. 8, 2018), available at www.sec.gov/news/press-release/2018-32. [61] SEC Press Release, SEC Charges New York-Based Firm and Supervisors for Failing to Supervise Brokers Who Defrauded Customers (June 29, 2018), available at www.sec.gov/news/press-release/2018-123. [62] SEC Press Release, Broker-Dealer Admits It Failed to File SARs (Mar. 28, 2018), available at www.sec.gov/news/press-release/2018-50. [63] SEC Charges Brokerage Firms and AML Officer with Anti-Money Laundering Violations (May 16, 2018), available at www.sec.gov/news/press-release/2018-87. [64] Administrative Proceeding File No. 3-18341, Industrial and Commercial Bank of China Financial Services LLC Agrees to Settle SEC Charges Relating to Numerous Regulation SHO Violations That Resulted in Prolonged Fails to Deliver (Jan. 18, 2018), available at www.sec.gov/litigation/admin/2018/34-82533-s.pdf. [65] SEC Press Release, Broker Charged with Repeatedly Putting Customer Assets at Risk (Mar. 19, 2018), available at www.sec.gov/news/press-release/2018-45. [66] Admin. Proc. File No. 3-18409, SEC Charges Broker-Dealer, CEO With Net Capital Rule Violations (Mar. 27, 2018), available at www.sec.gov/enforce/34-82951-s. [67] SEC Press Release, NYSE to Pay $14 Million Penalty for Multiple Violations (Mar. 6, 2018), available at www.sec.gov/news/press-release/2018-31. [68] SEC Press Release, Wells Fargo Advisors Settles SEC Chargers for Improper Sales of Complex Financial Products (June 25, 2018), available at www.sec.gov/news/press-release/2018-112. [69] Lit. Rel. No. 24179, SEC Charges Cantor Fitzgerald and Brokers in Commission-Splitting Scheme (June 29, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24179.htm. [70] SEC Press Release, Deutsche Bank to Repay Misled Customers (Feb. 12, 2018), available at www.sec.gov/news/press-release/2018-13. [71] SEC Press Release, SEC Charges Merrill Lynch for Failure to Supervise RMBS Traders (June 12, 2018), available at www.sec.gov/news/press-release/2018-105. [72] Admin. Proc. File No. 3-18335, Former Corporate Insider and Brokerage Industry Employee Settle Insider Trading Charges with SEC (Jan. 11, 2018), available at www.sec.gov/litigation/admin/2018/34-82485-s.pdf. [73] Lit. Rel. No. 24056,  SEC: Insider Bought Minutes After Warnings Not to Trade (Feb. 28., 2018), available at www.sec.gov/litigation/litreleases/2018/lr24056.htm. [74] Lit Rel. No. 24044, SEC Charges Former Medical Products Executives with Insider Trading (Feb. 12, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24044.htm. [75] Lit Rel. No. 24065, SEC Charges Corporate Communications Specialist with Insider Trading Ahead of Acquisition Announcement (Mar. 8, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24065.htm. [76] Lit Rel. No. 24163, Court Enters Consent Judgment against Robert M. Morano (June 11, 2018), available at https://www.sec.gov/litigation/litreleases/2018/lr24163.htm. [77] Press Release, Former Equifax Executive Charged With Insider Trading (Mar. 14, 2018), available at www.sec.gov/news/press-release/2018-40. [78] Press Release, Former Equifax Manager Charged With Insider Trading (June 28, 2018), available at www.sec.gov/news/press-release/2018-115. [79] Lit Rel. No. 24104, SEC Charges New York Man with Insider Trading (Apr. 5, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24104.htm. [80] Lit Rel. No. 24097, SEC Charges Massachusetts Man in Multi-Year Trading Scheme (Apr. 5, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24097.htm. [81] Lit Rel. No. 24134, SEC Charges Two Pennsylvania Residents with Insider Trading (May 4, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24134.htm. [82] Press Release, SEC Charges Investment Banker in Insider Trading Scheme (May 31, 2018), available at www.sec.gov/news/press-release/2018-97. [83] Lit Rel. No. 24165, SEC Charges Canadian Accountant with Insider Trading (June 12, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24164.htm. [84] Lit Rel. No. 24178, SEC Charges Credit Ratings Analyst and Two Friends with Insider Trading (June 29, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24178.htm. [85] 882 F.3d 431 (3d Cir. 2018); see also Tom Gorman, “SEC Disgorgement: A Path For Reform?,” SEC Actions Blog (Feb. 20, 2018), available at http://www.lexissecuritiesmosaic.com/net/Blogwatch/Blogwatch.aspx?ID=32139&identityprofileid=PJ576X25804. [86] Lit Rel. No. 24035, SEC Freezes Assets Behind Alleged Insider Trading (Jan. 26, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24035.htm. [87] SEC Press Release, SEC Charges Municipal Adviser and its Principal with Defrauding Mississippi City (January 5, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24025.htm. [88] SEC Press Release, SEC Obtains Judgments Against Municipal Adviser and Its Principal for Defrauding Mississippi City (July 2, 2018), available at www.sec.gov/litigation/litreleases/2018/lr24182.htm. [89] SEC Press Release, SEC Levies Fraud Charges Against Texas-Based Municipal Advisor, Owner for Lying to School District (May 9, 2018), available at www.sec.gov/news/press-release/2018-82. The following Gibson Dunn lawyers assisted in the preparation of this client update:  Marc Fagel, Mary Kay Dunning, Amruta Godbole, Amy Mayer, Jaclyn Neely, Joshua Rosario, Alon Sachar, Tina Samanta, Lindsey Young and Alex Zbrozek. Gibson Dunn is one of the nation’s leading law firms in representing companies and individuals who face enforcement investigations by the Securities and Exchange Commission, the Department of Justice, the Commodities Futures Trading Commission, the New York and other state attorneys general and regulators, the Public Company Accounting Oversight Board (PCAOB), the Financial Industry Regulatory Authority (FINRA), the New York Stock Exchange, and federal and state banking regulators. Our Securities Enforcement Group offers broad and deep experience.  Our partners include the former Directors of the SEC’s New York and San Francisco Regional Offices, the former head of FINRA’s Department of Enforcement, the former United States Attorneys for the Central and Eastern Districts of California, and former Assistant United States Attorneys from federal prosecutors’ offices in New York, Los Angeles, San Francisco and Washington, D.C., including the Securities and Commodities Fraud Task Force. Securities enforcement investigations are often one aspect of a problem facing our clients. Our securities enforcement lawyers work closely with lawyers from our Securities Regulation and Corporate Governance Group to provide expertise regarding parallel corporate governance, securities regulation, and securities trading issues, ourSecurities Litigation Group, and our White Collar Defense Group. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work or any of the following: New York Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com) Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com) Lee G. Dunst (+1 212-351-3824, ldunst@gibsondunn.com) Barry R. Goldsmith – Co-Chair (+1 212-351-2440, bgoldsmith@gibsondunn.com) Laura Kathryn O’Boyle (+1 212-351-2304, loboyle@gibsondunn.com) Mark K. 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Stevens (+1 415-393-8391, cstevens@gibsondunn.com) Michael Li-Ming Wong (+1 415-393-8234, mwong@gibsondunn.com) Palo Alto Paul J. Collins (+1 650-849-5309, pcollins@gibsondunn.com) Benjamin B. Wagner (+1 650-849-5395, bwagner@gibsondunn.com) Denver Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com) Monica K. Loseman (+1 303-298-5784, mloseman@gibsondunn.com) Los Angeles Michael M. Farhang (+1 213-229-7005, mfarhang@gibsondunn.com) Douglas M. Fuchs (+1 213-229-7605, dfuchs@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

July 12, 2018 |
Developments in the Defense of Financial Institutions

To Disclose or Not to Disclose: Analyzing the Consequences of Voluntary Self-Disclosure for Financial Institutions Click for PDF One of the most frequently discussed white collar issues of late has been the benefits of voluntarily self-disclosing to the U.S. Department of Justice (“DOJ”) allegations of misconduct involving a corporation.  This is the beginning of periodic analyses of white collar issues unique to financial institutions, and in this issue we examine whether and to what extent a financial institution can expect a benefit from DOJ for a voluntary self-disclosure (“VSD”), especially with regard to money laundering or Bank Secrecy Act violations.  Although the public discourse regarding VSDs tends to suggest that there are benefits to be gained, a close examination of the issue specifically with respect to financial institutions shows that the benefits that will confer in this area, if any, are neither easy to anticipate nor to quantify.  A full consideration of whether to make a VSD to DOJ should include a host of factors beyond the quantifiable benefit, ranging from the likelihood of independent enforcer discovery; to the severity, duration, and evidentiary support for a potential violation; and to the expectations of prudential regulators and any associated licensing or regulatory consequences, as well as other factors. VSD decisions arise in many contexts, including in matters involving the Foreign Corrupt Practices Act (“FCPA”), sanctions enforcement, and the Bank Secrecy Act (“BSA”).  In certain situations, the benefits of voluntary self-disclosure prior to a criminal enforcement action can be substantial.  Prosecutors have at times responded to a VSD by reducing charges and penalties, offering deferred prosecution and non-prosecution agreements, and entering into more favorable consent decrees and settlements.[1]  However, as Deputy Attorney General Rod Rosenstein stated in recent remarks, enforcement policies meant to encourage corporate disclosures “do[] not provide a guarantee” that disclosures will yield a favorable result in all cases.[2]  The outcome of a prosecution following a VSD is situation-specific, and, as such, the process should not be entered into without careful consideration of the costs and benefits. In the context of Bank Secrecy Act and anti-money laundering regulation (“BSA/AML”), VSDs present an uncertain set of tradeoffs.  The BSA and its implementing  regulations already require most U.S. financial institutions subject to the requirements of the BSA[3] to file suspicious activity reports (“SARs”) with the U.S. government when the institution knows, suspects or has reason to suspect that a transaction by, through or to it involves money laundering, BSA violations or other illegal activity.[4]  Guidance from DOJ encourages voluntary self-disclosure, and at least one recent non-prosecution agreement entered with the Department has listed self-disclosure as a consideration in setting the terms of a settlement agreement.[5]  Over the past three years, however, no BSA/AML criminal resolution has explicitly given an institution credit for voluntarily disclosing potential misconduct.  During this same period, DOJ began messaging an expanded focus on VSDs in the context of FCPA violations, announced the FCPA Pilot Project, and ultimately made permanent in the U.S. Attorney’s Manual the potential benefits of a VSD for FCPA violations. This alert addresses some of the considerations that financial institutions weigh when deciding whether to voluntarily self-disclose potential BSA/AML violations to criminal enforcement authorities.  In discussing these considerations, we review guidance provided by DOJ and the regulatory enforcement agencies, and analyze recent BSA/AML criminal resolutions, as well as FCPA violations involving similar defendants. Guidance from the Department of Justice – Conflicting Signals DOJ guidance documents describe the Department’s general approach to VSDs, but, until recently, they left unanswered many questions dealing specifically with self-disclosure by financial institutions.  The Department’s high-level approach to general voluntary self-disclosure is outlined in the United States Attorney Manual (“USAM”).  Starting from the principle that “[c]ooperation is a mitigating factor” that can allow a corporation to avoid particularly harsh penalties, the USAM instructs prosecutors that they “may consider a corporation’s timely and voluntary disclosure” when deciding whether and how to pursue corporate liability.[6] In the FCPA context, a self-disclosure is deemed to be voluntary—and thus potentially qualifying a company for mitigation credit—if (1) the company discloses the relevant evidence of misconduct prior to an imminent threat of disclosure or government investigation; (2) the company reports the conduct to DOJ and relevant regulatory agencies “within a reasonably prompt time after becoming aware of the offense”; and (3) the company discloses all relevant facts known to it, including all relevant facts about the individual wrongdoers involved.[7] DOJ has not yet offered specific instruction, however, on how prosecutors should treat voluntary self-disclosure in the BSA/AML context and, unlike other areas of enforcement, no formal self-disclosure program currently exists for financial institutions seeking to obtain mitigation credit in the money laundering context.  Indeed, the only guidance document to mention VSDs and financial institutions—issued by DOJ’s National Security Division in 2016[8]—specifically exempted financial institutions from the VSD benefits offered to other corporate actors in the export control and sanctions context, citing the “unique reporting obligations” imposed on financial institutions “under their applicable statutory and regulatory regimes.”[9] Despite this lack of guidance, the recent adoption of DOJ’s FCPA Corporate Enforcement Policy may provide insight on how prosecutors could treat voluntary disclosures by financial institutions moving forward.  Enacted in the fall of 2017, the Corporate Enforcement Policy arose from DOJ’s 2016 FCPA Pilot Program, which was created to provide improved guidance and certainty to companies facing DOJ enforcement actions, while incentivizing self-disclosure, cooperation, and remediation.[10]  One year later, based on the success of the program, many of its aspects were codified in the USAM.[11]  Specifically, the new policy creates a presumption that entities that voluntarily disclose potential misconduct and fully cooperate with any subsequent government investigation will receive a declination, absent aggravating circumstances.[12]  In early 2018, Acting Assistant Attorney General John Cronan announced that the Corporate Enforcement Policy would serve as non-binding guidance for corporate investigations beyond the FCPA context.[13] This expanded consideration of VSDs beyond the FCPA space was on display in March 2018, when, after an investigation by DOJ’s Securities and Financial Fraud Unit, the Department publicly announced that it had opted not to prosecute a financial institution in connection with the bank’s alleged front-running of certain foreign exchange transactions.[14]  DOJ’s Securities and Financial Fraud Unit specifically noted that DOJ’s decision to close its investigation without filing charges resulted, in part, from “timely, voluntary self-disclosure” of the alleged misconduct,[15] a sentiment echoed by Cronan in subsequent remarks at an American Bar Association white collar conference regarding the reasons for the declination.[16]  Cronan further commented that “[w]hen a company discovers misconduct, quickly raises its hand and tells us about it, that says something. . . . It shows the company is taking misconduct seriously . . . and we are rewarding those good decisions.”[17] Other Agency Guidance Guidance issued by other enforcement agencies similarly may offer clues as to how financial institutions can utilize VSDs to more successfully navigate a criminal enforcement action. In the context of export and import control, companies that self-disclose to the U.S. Treasury Department’s Office of Foreign Asset Control (“OFAC”) can benefit in two primary ways.  First, OFAC may be less likely to initiate an enforcement proceeding following a VSD, as OFAC considers a party’s decision to cooperate when determining whether to initiate a civil enforcement proceeding.[18]  Second, if OFAC decides it is appropriate to bring an enforcement action, companies that self-disclose receive a fifty-percent reduction in the base penalty they face, as detailed in the below-base-penalty matrix published in OFAC guidance:[19] As depicted by the chart, in the absence of a VSD, the base penalty for egregious violations[20] is the applicable statutory maximum penalty for the violation.[21]  In non-egregious cases, the base penalty is calculated based on the revenue derived from the violative transaction, capped at $295,141.[22]  When the apparent violation is voluntarily disclosed, however, OFAC has made clear that in non-egregious cases, the penalty will be one-half of the transaction value, capped at $147,571 per violation.[23]  This is applicable except in circumstances where the maximum penalty for the apparent violation is less than $295,141, in which case the base amount of the penalty shall be capped at one-half the statutory maximum penalty applicable to the violation.[24]  In an egregious case, if the apparent violation is self-disclosed, the base amount of the penalty will be one-half of the applicable statutory maximum penalty.[25] Other agencies tasked with overseeing the enforcement of financial regulations also have issued guidance encouraging voluntary disclosures.  Although the Financial Crimes Enforcement Network (“FinCEN”) has not provided guidance on how it credits voluntary disclosures,[26] guidance issued by the Federal Financial Institutions Examination Council (“FFIEC”), consisting of the Office of the Comptroller of the Currency (“OCC”), the Federal Reserve, the Federal Deposit Insurance Corporation (“FDIC”), the Office of Thrift Supervision (“OTS”), and the National Credit Union Administration (“NCUA”), has made clear that, in determining the amount and appropriateness of a penalty to be assessed against a financial institution in connection with various types of violations, the agencies will consider “voluntary disclosure of the violation.”[27] In 2016, the OCC published a revised Policies and Procedures Manual to ensure this and other factors are considered and to “enhance the consistency” of its enforcement decisions.[28]  That guidance includes a matrix with several factors, one of which is “concealment.”[29]  In the event that a financial institution self-discloses, they are not penalized for concealment.  Thus, while not directly reducing potential financial exposure, a VSD ensures that a financial institution is not further penalized for the potential violation. It is also worth noting that, unlike DOJ, these regulators do not appear to draw distinctions regarding the type of offense at issue (i.e., FCPA versus BSA versus sanctions violations).  Moreover, financial institutions contemplating not disclosing potential misconduct need to consider whether the nature of the potential misconduct at issue goes to the financial institution’s safety and soundness, adequacy of capital, or other issues of interest to prudential regulators such as the Federal Reserve, OCC, and FDIC.  To the extent such prudential concerns are implicated, a financial institution may be required to disclose the underlying evidence of misconduct and may face penalties for failing to do so. The Securities and Exchange Commission (“SEC”) also has indicated that it will consider VSDs as a factor in its enforcement actions under the federal securities laws.  In a 2001 report (the “Seaboard Report”), the SEC confirmed that, as part of its evaluation of proper enforcement actions, it would consider whether “the company voluntarily disclose[d] information [its] staff did not directly request and otherwise might not have uncovered.”[30]  The SEC noted that self-policing could result in reduced penalties based on how much the SEC credited self-reporting—from “the extraordinary step of taking no enforcement action to bringing reduced charges, seeking lighter sanctions, or including mitigating language in documents . . . use[d] to announce and resolve enforcement actions.”[31]  In 2010, the SEC formalized its cooperation program, identifying self-policing, self-reporting, and remediation and cooperation as the primary factors it would consider in determining the appropriate disposition of an enforcement action.[32]  In 2015, the former Director of the SEC’s Division of Enforcement, reaffirmed the importance of self-reporting to the SEC’s enforcement decisions, stating that previous cases “should send the message loud and clear that the SEC will reward self-reporting and cooperation with significant benefits.”[33]  As of mid-2016, the SEC had signed over 103 cooperation agreements, six non-prosecution agreements, and deferred nine prosecutions since the inception of the cooperation program.[34] Finally, like its federal counterparts, the New York Department of Financial Services (“NYDFS”) has previously signaled, at least in the context of export and import sanctions, that “[i]t is vital that companies continue to self-report violations,”[35] and warned that “those that do not [self-report] run the risk of even more severe consequences.”[36]  The NYDFS has not directly spoken to money laundering enforcement, but financial institutions considering disclosures to New York state authorities should keep this statement in mind.  Similar to the considerations an institution might face when dealing with federal regulators, to the extent DFS prudential concerns are implicated, a financial institution may be required to disclose the underlying evidence of misconduct and face penalties for failing to do so. Recent BSA/AML and FCPA Resolutions Even against this backdrop, over the last few years, voluntary self-disclosure has not appeared to play a significant role in the resolution of criminal enforcement proceedings arising from alleged BSA/AML violations.  Since 2015, DOJ, in conjunction with other enforcement agencies, has resolved BSA/AML charges against twelve financial institutions.[37]  In eleven of those cases, the final documentation of the resolution—the settlement agreements and press releases accompanying the settlement documents—make no mention of voluntary self-disclosure.  Even in the FCPA context, where DOJ has sought to provide greater certainty and transparency concerning the benefits of voluntary disclosure, there is a scant track record of financial institutions making voluntary disclosures in connection with FCPA resolutions.  Since 2015, DOJ has announced FCPA enforcement actions with six financial institutions.  The Justice Department did not credit any of them with voluntarily self-disclosing the conduct.[38] Although recent resolutions have not granted credit for VSDs, financial entities facing enforcement actions should consider how such a disclosure might affect the nature of a potential investigation and the ultimate disposition of an enforcement action.  It is worth noting that in the one recent BSA/AML resolution with a financial institution in which voluntary self-disclosure was referenced—DOJ’s 2017 resolution with Banamex USA—it was in the course of explaining why the financial institution did not receive disclosure credit.  In other words, there is no example of a criminal enforcement action commending a financial institution for a VSD, or of an agency softening the enforcement measures as a result of a VSD.[39]  The fact that the Banamex USA resolution affirmatively explains why the defendant did not receive VSD credit may imply that this type of credit may be available to financial institution defendants when they do make adequate VSDs. Furthermore, over the same time period, prosecutors have credited financial institutions for other forms of cooperation.  For example, in 2015, the Department of Justice deferred prosecution of CommerceWest Bank officials for a BSA charge arising from their willful failure to file a SAR, in part because of the bank’s “willingness to acknowledge and accept responsibility for its actions” and “extensive cooperation with [DOJ’s] investigation.”[40]  Similarly, a 2015 non-prosecution agreement with Ripple Labs Inc. credited the financial institution with, among other factors, “extensive cooperation with the Government.”[41]  These favorable dispositions signal that the government is willing to grant mitigation credit for cooperation, even when financial institutions are not credited with making VSDs. Other Relevant Considerations Relating to VSDs As discussed above, the government’s position regarding the value of VSDs and their effect on the ultimate resolution of a case vary based on the agency and the legal and regulatory regime(s) involved.  Given the lack of clear guidance from FinCEN about how it credits VSDs and the fact that BSA/AML resolutions tend not to explicitly reference a company’s decision to disclose as a relevant consideration, navigating the decision of whether to self-report to DOJ is itself a fraught one.  Beyond the threshold question of whether or not to self-disclose to DOJ, financial institutions faced with potential BSA/AML liability should be mindful of a number of other considerations, always with an eye on avoiding the specter of a full-blown criminal investigation and trying to minimize institutional liability to the extent possible. Likelihood of Discovery:  A financial institution deciding whether to self-disclose to DOJ must contemplate the possibility that the government will be tipped off by other means, including by the prudential regulators, and will investigate the potential misconduct anyway, without the financial institution gaining the benefits available for bringing a case to the government’s attention and potentially before the financial institution has had the opportunity to develop a remediation plan.  Financial institutions that plan to forego self-disclosure of possible misconduct will have to guard against both whistleblower disclosures and the possibility that other institutions aware of the potential misconduct will file a Suspicious Activity Report implicating the financial institution. Timing of Disclosure:  Even after a financial institution has decided to self-report to DOJ, it will have to think through the implications of when a disclosure is made.  A financial institution could decide to promptly disclose to maximize cooperation credit, but risks reporting without developing the understanding of the underlying facts that an internal investigation would provide.  Additionally, a prompt disclosure to DOJ may be met with a deconfliction request, in which the government asks that the company refrain from interviewing its employees until the government has had a chance to do so.  This may slow down the company’s investigation and impede its ability to take prompt and decisive remedial actions, including those related to personnel decisions.  On the other hand, waiting until after the internal investigation has concluded (or at least reached an advanced stage) presents the risk of the government finding out first in the interim.  The financial institution also will have to decide whether to wait longer to report to the government having already designed and begun to implement a remediation plan or to disclose while the remediation plan is still being developed. Selective or Sequential Disclosures:  Given the number of agencies with jurisdiction over the financial industry and the overlaps between their respective spheres of authority, financial institutions contemplating self-disclosure will often have to decide how much to disclose, whether to both prudential regulators and DOJ, and in what order.  In some cases, a financial institution potentially facing both regulatory and criminal liability may be well-advised to engage civil regulators first in the hope that, if DOJ does get involved, they will stand down and piggy-back on a global resolution with other regulators rather than seeking more serious penalties.  Indeed, DOJ prosecutors are required to consider the adequacy of non-criminal alternatives – such as civil or regulatory enforcement actions – in determining whether to initiate a criminal enforcement action.[42]  For example, the non-prosecution agreement DOJ entered in May 2017 with Banamex recognized that Citigroup, Banamex’s parent, was already in the process of winding down Banamex USA’s banking operations pursuant to a 2015 resolution with the California Department of Business Oversight and FDIC and was operating under ongoing consent orders with the Federal Reserve and OCC relating to BSA/AML compliance; consequently, DOJ sought only forfeiture rather than an additional monetary penalty.[43]  Of course, any decision to selectively disclose must be balanced carefully against the practical reality that banking regulators will, in certain instances, notify DOJ of potential criminal violations whether self-disclosed or identified in the examination process.  Whether that communication will occur often is influenced by factors such as the history of cooperation between the institutions or the relationships of those involved.  Nevertheless, the timing and nature of any referral by a regulator to DOJ might nullify any benefit from a selective or sequential disclosure. Conclusion In this inaugural Developments in the Defense of Financial Institutions Client Alert, we addressed whether and to what extent a financial institution should anticipate receiving a benefit when approaching the pivotal decision of whether to voluntarily self-disclose potential BSA/AML violations to DOJ.  We hope this publication serves as a helpful primer on this issue, and look forward to addressing other topics that raise unique issues for financial institutions in this rapidly-evolving area in future editions.    [1]   U.S. Dep’t of Justice, Guidance Regarding Voluntary Self-Disclosures, Cooperation, and Remediation in Export Control and Sanctions Investigations Involving Business Organizations (Oct. 2, 2016), https://www.justice.gov/nsd/file/902491/download.    [2]   Rod Rosenstein, Deputy Att’y Gen., Deputy Attorney General Rosenstein Delivers Remarks at the 34th International Conference on the Foreign Corrupt Practices Act (Nov. 29, 2017), https://www.justice.gov/opa/speech/deputy-attorney-general-rosenstein-delivers-remarks-34th-international-conference-foreign.    [3]   Throughout this alert, we use the term “financial institution” as it is defined in the Bank Secrecy Act.  “Financial institution” refers to banks, credit unions, registered stock brokers or dealers, currency exchanges, insurance companies, casinos, and other financial and banking-related entities.  See 31 U.S.C. § 5312(a)(2) (2012).  These institutions should be particularly attuned to the role that voluntary disclosures can play in the disposition of a criminal enforcement action.    [4]   See, e.g., 31 CFR § 1020.320 (FinCEN SAR requirements for banks); 12 C.F.R. § 21.11 (SAR requirements  for national banks).    [5]   See Non-Prosecution Agreement with Banamex USA, U.S. Dep’t of Justice (May 18, 2017), https://www.justice.gov/opa/press-release/file/967871/download (noting that “the Company did not receive voluntary self-disclosure credit because neither it nor Citigroup voluntarily and timely disclosed to the Office the conduct described in the Statement of Facts”).    [6]   U.S. Dep’t of Justice, U.S. Attorneys’ Manual § 9-28.700 (2017).    [7]   For a definition of self-disclosure in the sanctions space, see U.S. Dep’t of Justice, Guidance Regarding Voluntary Self-Disclosures, Cooperation, and Remediation in Export Control and Sanctions Investigations Involving Business Organizations (Oct. 2, 2016), https://www.justice.gov/nsd/file/902491/download.  For a definition in the FCPA context, see U.S. Dep’t of Justice, U.S. Attorneys’ Manual § 9-47.120 (2017).    [8]   U.S. Dep’t of Justice, Guidance Regarding Voluntary Self-Disclosures, Cooperation, and Remediation in Export Control and Sanctions Investigations Involving Business Organizations, at 4 n.7 (Oct. 2, 2016), https://www.justice.gov/nsd/file/902491/download.  Gibson Dunn’s 2016 Year-End Sanctions Update contains a more in-depth discussion of this DOJ guidance.    [9]   Id. at 2 n.3 [10]   Press Release, U.S. Dep’t of Justice, Criminal Division Launches New FCPA Pilot Program (Apr. 5, 2016), https://www.justice.gov/archives/opa/blog/criminal-division-launches-new-fcpa-pilot-program.  For a more in-depth discussion of the original Pilot Program, see Gibson Dunn’s 2016 Mid-Year FCPA Update, and for a detailed description of the FCPA Corporate Enforcement Policy, see our 2017 Year-End FCPA Update.  For discussion regarding specific declinations under the Pilot Program, in which self-disclosure played a significant role, see our 2016 Year-End FCPA Update and 2017 Mid-Year FCPA Update. [11]   Rod Rosenstein, Deputy Att’y Gen., Deputy Attorney General Rosenstein Delivers Remarks at the 34th International Conference on the Foreign Corrupt Practices Act (Nov. 29, 2017), https://www.justice.gov/opa/speech/deputy-attorney-general-rosenstein-delivers-remarks-34th-international-conference-foreign (announcing that the FCPA Corporate Enforcement Policy would be incorporated into the USAM); U.S. Dep’t of Justice, U.S. Attorneys’ Manual § 9-47.120 (2017). [12]   Id. [13]   Jody Godoy, DOJ Expands Leniency Beyond FCPA, Lets Barclays Off, Law360 (Mar. 1, 2018), https://www.law360.com/articles/1017798/doj-expands-leniency-beyond-fcpa-lets-barclays-off. [14]   U.S. Dep’t of Justice, Letter to Alexander Willscher and Joel Green Regarding Investigation of Barclays PLC (Feb. 28, 2018), https://www.justice.gov/criminal-fraud/file/1039791/download. [15]   Id. [16]   Tom Schoenberg, Barclays Won’t Face Criminal Case for Hewlett-Packard Trades, Bloomberg (Mar. 1, 2018), https://www.bloomberg.com/news/articles/2018-03-01/barclays-won-t-face-criminal-case-over-hewlett-packard-trades. [17]   Id. [18]   31 C.F.R. Pt. 501, app. A, § III.G.1 (2018). [19]   Id. § V.B.1.a.iv (2018). [20]   OFAC has established a two-track approach to penalty assessment, based on whether violations are “egregious” or “non-egregious.”  Egregious violations are identified based on analysis of several factors set forth in OFAC guidelines, including, among others: whether a violation was willful; whether the entity had actual knowledge of the violation, or should have had reason to know of it; harm caused to sanctions program objectives; and the individual characteristics of the entity involved. [21]   31 C.F.R. Pt. 501, app. A, § V.B.2.a.iv (2018). [22]   Id. § V.B.2.a.ii (2018). [23]   Id. § V.B.2.a.i (2018). [24]   Id. [25]   Id. § V.B.2.a.iii (2018). [26]   Robert B. Serino, FinCEN’s Lack of Policies and Procedures for Assessing Civil Money Penalties in Need of Reform, Am. Bar Ass’n (July 2016), https://www.americanbar.org/publications/blt/2016/07/07_serino.html.  It is worth noting, however, that there are certain circumstances in which FinCEN imposes a continuing duty to disclose, such as when there has been a failure to timely file a SAR (31 C.F.R. § 1020.320(b)(3)); failure to timely file a Currency Transaction Report (31 C.F.R. § 1010.306); and failure to timely register as a money-services business (31 C.F.R. § 1022.380(b)(3)).  In circumstances in which a financial institution identifies that it has not complied with these regulatory requirements and files belatedly, the decision whether to self-disclose to DOJ is impacted by the fact that the late filing will often be evident to FinCEN. [27]   Federal Financial Institutions Examination Council: Assessment of Civil Money Penalties, 63 FR 30226-02, 1998 WL 280287 (June 3, 1998). [28]   Office of the Comptroller of the Currency, Policies and Procedures Manual, PPM 5000-7 (Rev.) (Feb. 26, 2016), https://www.occ.gov/news-issuances/bulletins/2016/bulletin-2016-5a.pdf. [29]   Id. at 15-17. [30]   U.S. Secs. & Exch. Comm’n, Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934 and Commission Statement on the Relationship of Cooperation to Agency Enforcement Decisions, Release No. 44969 (Oct. 23, 2001), https://www.sec.gov/litigation/investreport/34-44969.htm. [31]   Id. [32]   U.S. Secs. & Exch. Comm’n, Enforcement Cooperation Program, https://www.sec.gov/spotlight/enforcement-cooperation-initiative.shtml (last modified Sept. 20, 2016). [33]   Andrew Ceresney, Director, SEC Division of Enforcement, ACI’s 32nd FCPA Conference Keynote Address (Nov. 17, 2015), https://www.sec.gov/news/speech/ceresney-fcpa-keynote-11-17-15.html. [34]   Juniad A. Zubairi & Brooke E. Conner, Is SEC Cooperation Credit Worthwhile?, Law360 (Aug. 30, 2016), https://www.law360.com/articles/833392. [35]   Press Release, N.Y. Dep’t Fin. Servs., Governor Cuomo Announced Bank of Tokyo-Mitsubishi UFJ to Pay $250 Million to State for Violations of New York Banking Law Involving Transactions with Iran and Other Regimes (June 20, 2013), https://www.dfs.ny.gov/about/press/pr1306201.htm. [36]   Id. [37]   Press Release, U.S. Dep’t of Justice, U.S. Gold Refinery Pleads Guilty to Charge of Failure to Maintain Adequate Anti-Money Laundering Program (Mar. 16, 2018), https://www.justice.gov/usao-sdfl/pr/us-gold-refinery-pleads-guilty-charge-failure-maintain-adequate-anti-money-laundering; Deferred Prosecution Agreement with U.S. Bancorp, U.S. Dep’t of Justice (Feb. 12, 2018), https://www.justice.gov/usao-sdny/press-release/file/1035081/download; Plea Agreement with Rabobank, National Association, U.S. Dep’t of Justice (Feb. 7, 2018), https://www.justice.gov/opa/press-release/file/1032101/download; Non-Prosecution Agreement with Banamex USA, U.S. Dep’t of Justice (May 18, 2017), https://www.justice.gov/opa/press-release/file/967871/download; Press Release, U.S. Dep’t of Justice, Western Union Admits Anti-Money Laundering and Consumer Fraud Violations, Forfeits $586 Million in Settlement with Justice Department and Federal Trade Commission (Jan. 19, 2017), https://www.justice.gov/opa/pr/western-union-admits-anti-money-laundering-and-consumer-fraud-violations-forfeits-586-million; Non-Prosecution Agreement Between CG Technology, LP and the United States Attorneys’ Offices for the Eastern District of New York and the District of Nevada, U.S. Dep’t of Justice (Oct. 3, 2016), https://www.gibsondunn.com/wp-content/uploads/documents/publications/CG-Technology-dba-Cantor-Gaming-NPA.PDF; Press Release, U.S. Dep’t of Justice, Normandie Casino Operator Agrees to Plead Guilty to Federal Felony Charges of Violating Anti-Money Laundering Statutes (Jan. 22, 2016), https://www.justice.gov/usao-cdca/pr/normandie-casino-operator-agrees-plead-guilty-federal-felony-charges-violating-anti; Press Release, U.S. Dep’t of Justice, Hong Kong Entertainment (Overseas) Investments, Ltd, D/B/A Tinian Dynasty Hotel & Casino Enters into Agreement with the United States to Resolve Bank Secrecy Act Liability (July 23, 2015), https://www.justice.gov/usao-gu/pr/hong-kong-entertainment-overseas-investments-ltd-dba-tinian-dynasty-hotel-casino-enters; Deferred Prosecution Agreement with Bank of Mingo, U.S. Dep’t of Justice (May 20, 2015), https://www.gibsondunn.com/wp-content/uploads/documents/publications/Bank-of-Mingo-NPA.pdf; Settlement Agreement with Ripple Labs Inc., U.S. Dep’t of Justice (May 5, 2015), https://www.justice.gov/file/421626/download; Deferred Prosecution Agreement with Commerzbank AG, U.S. Dep’t of Justice (Mar. 12, 2015), https://www.justice.gov/sites/default/files/opa/press-releases/attachments/2015/03/12/commerzbank_deferred_prosecution_agreement_1.pdf; Deferred Prosecution Agreement with CommerceWest Bank, U.S. Dep’t of Justice (Mar. 10, 2015) https://www.justice.gov/file/348996/download. [38]   Deferred Prosecution Agreement with Société Générale S.A., U.S. Dep’t of Justice (June 5, 2018), https://www.justice.gov/opa/press-release/file/1068521/download; Non-Prosecution Agreement with Legg Mason, Inc., U.S. Dep’t of Justice (June 4, 2018), https://www.justice.gov/opa/press-release/file/1068036/download; Non-Prosecution Agreement with Credit Suisse (Hong Kong) Limited, U.S. Dep’t of Justice (May 24, 2018), https://www.justice.gov/opa/press-release/file/1077881/download; Deferred Prosecution Agreement with Och-Ziff Capital Management Group, LLC, U.S. Dep’t of Justice (Sept. 29, 2016), https://www.justice.gov/opa/file/899306/download; Non-Prosecution Agreement with JPMorgan Securities (Asia Pacific) Ltd, U.S. Dep’t of Justice (Nov. 17, 2016), https://www.justice.gov/opa/press-release/file/911206/download; Non-Prosecution Agreement with Las Vegas Sands Corp., U.S. Dep’t of Justice (Jan. 17, 2017), https://www.justice.gov/opa/press-release/file/929836/download. [39]   See Non-Prosecution Agreement with Banamex USA, U.S. Dep’t of Justice, at 2 (May 18, 2017), https://www.justice.gov/opa/press-release/file/967871/download (explaining that Banamex “did not receive voluntary disclosure credit because neither it nor [its parent company] Citigroup voluntarily and timely disclosed to [DOJ’s Money Laundering and Asset Recover Section] the conduct described in the Statement of Facts”) (emphasis added). [40]   Deferred Prosecution Agreement Between United States and CommerceWest Bank, U.S. Dep’t of Justice, at 2-3 (Mar. 9, 2015), https://www.justice.gov/file/348996/download. [41]   Settlement Agreement Between United States and Ripple Labs Inc., U.S. Dep’t of Justice (May 5, 2015), https://www.justice.gov/file/421626/download; see also Press Release, U.S. Dep’t of Justice, Ripple Labs Inc. Resolves Criminal Investigation (May 5, 2015), https://www.justice.gov/opa/pr/ripple-labs-inc-resolves-criminal-investigation. [42]   See U.S. Attorney’s Manual 9-28.1200 (recommending the analysis of civil or regulatory alternatives). [43]   Non-Prosecution Agreement Between U.S. Dep’t of Justice, Money Laundering and Asset Recovery Section and Banamex USA at 2 (May 18, 2017), https://www.justice.gov/opa/press-release/file/967871/download. The following Gibson Dunn attorneys assisted in preparing this client update:  F. Joseph Warin, M. Kendall Day, Stephanie L. Brooker, Adam M. Smith, Linda Noonan, Elissa N. Baur, Stephanie L. Connor, Alexander R. Moss, and Jaclyn M. Neely. Gibson Dunn has deep experience with issues relating to the defense of financial institutions, and we have recently increased our financial institutions defense and anti-money laundering capabilities with the addition to our partnership of M. Kendall Day.  Kendall joined Gibson Dunn in May 2018, having spent 15 years as a white collar prosecutor, most recently as an Acting Deputy Assistant Attorney General, the highest level of career official in the U.S. Department of Justice’s Criminal Division.  For his last three years at DOJ, Kendall exercised nationwide supervisory authority over every Bank Secrecy Act and money-laundering charge, deferred prosecution agreement and non-prosecution agreement involving every type of financial institution. Kendall joined Stephanie Brooker, a former Director of the Enforcement Division at the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN) and a former federal prosecutor and Chief of the Asset Forfeiture and Money Laundering Section for the U.S. Attorney’s Office for the District of Columbia, who serves as Co-Chair of the Financial Institutions Practice Group and a member of White Collar Defense and Investigations Practice Group.  Kendall and Stephanie practice with a Gibson Dunn network of more than 50 former federal prosecutors in domestic and international offices around the globe. For assistance navigating white collar or regulatory enforcement issues involving financial institutions, please contact any Gibson Dunn attorney with whom you usually work, or any of the following leaders and members of the firm’s White Collar Defense and Investigations or Financial Institutions practice groups: Washington, D.C. F. Joseph Warin – (+1 202-887-3609, fwarin@gibsondunn.com) Richard W. Grime (+1 202-955-8219, rgrime@gibsondunn.com) Patrick F. Stokes (+1 202-955-8504, pstokes@gibsondunn.com) Judith A. Lee (+1 202-887-3591, jalee@gibsondunn.com) Stephanie Brooker (+1 202-887-3502, sbrooker@gibsondunn.com) David P. Burns (+1 202-887-3786, dburns@gibsondunn.com) John W.F. Chesley (+1 202-887-3788, jchesley@gibsondunn.com) Daniel P. Chung (+1 202-887-3729, dchung@gibsondunn.com) M. Kendall Day (+1 202-955-8220, kday@gibsondunn.com) David Debold (+1 202-955-8551, ddebold@gibsondunn.com) Stuart F. Delery (+1 202-887-3650, sdelery@gibsondunn.com) Michael S. Diamant (+1 202-887-3604, mdiamant@gibsondunn.com) Adam M. Smith (+1 202-887-3547, asmith@gibsondunn.com) Linda Noonan (+1 202-887-3595, lnoonan@gibsondunn.com) Oleh Vretsona (+1 202-887-3779, ovretsona@gibsondunn.com) Christopher W.H. Sullivan (+1 202-887-3625, csullivan@gibsondunn.com) Courtney M. Brown (+1 202-955-8685, cmbrown@gibsondunn.com) Jason H. Smith (+1 202-887-3576, jsmith@gibsondunn.com) Ella Alves Capone (+1 202-887-3511, ecapone@gibsondunn.com) Pedro G. Soto (+1 202-955-8661, psoto@gibsondunn.com) New York Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com) Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com) Lee G. Dunst (+1 212-351-3824, ldunst@gibsondunn.com) Mark A. Kirsch (+1 212-351-2662, mkirsch@gibsondunn.com) Arthur S. Long (+1 212-351-2426, along@gibsondunn.com) Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com) Lawrence J. Zweifach (+1 212-351-2625, lzweifach@gibsondunn.com) Daniel P. Harris (+1 212-351-2632, dpharris@gibsondunn.com) Denver Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com) John D.W. Partridge (+1 303-298-5931, jpartridge@gibsondunn.com) Ryan T. Bergsieker (+1 303-298-5774, rbergsieker@gibsondunn.com) Laura M. Sturges (+1 303-298-5929, lsturges@gibsondunn.com) Los Angeles Debra Wong Yang (+1 213-229-7472, dwongyang@gibsondunn.com) Marcellus McRae (+1 213-229-7675, mmcrae@gibsondunn.com) Michael M. Farhang (+1 213-229-7005, mfarhang@gibsondunn.com) Douglas Fuchs (+1 213-229-7605, dfuchs@gibsondunn.com) San Francisco Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com) Thad A. Davis (+1 415-393-8251, tadavis@gibsondunn.com) Marc J. Fagel (+1 415-393-8332, mfagel@gibsondunn.com) Charles J. Stevens – Co-Chair (+1 415-393-8391, cstevens@gibsondunn.com) Michael Li-Ming Wong (+1 415-393-8333, mwong@gibsondunn.com) Palo Alto Benjamin Wagner (+1 650-849-5395, bwagner@gibsondunn.com) London Patrick Doris (+44 20 7071 4276, pdoris@gibsondunn.com) Charlie Falconer (+44 20 7071 4270, cfalconer@gibsondunn.com) Sacha Harber-Kelly (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Philip Rocher (+44 20 7071 4202, procher@gibsondunn.com) Steve Melrose (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Paris Benoît Fleury (+33 1 56 43 13 00, bfleury@gibsondunn.com) Bernard Grinspan (+33 1 56 43 13 00, bgrinspan@gibsondunn.com) Jean-Philippe Robé (+33 1 56 43 13 00, jrobe@gibsondunn.com) Audrey Obadia-Zerbib (+33 1 56 43 13 00, aobadia-zerbib@gibsondunn.com) Munich Benno Schwarz (+49 89 189 33-110, bschwarz@gibsondunn.com) Michael Walther (+49 89 189 33-180, mwalther@gibsondunn.com) Mark Zimmer (+49 89 189 33-130, mzimmer@gibsondunn.com) Hong Kong Kelly Austin (+852 2214 3788, kaustin@gibsondunn.com) Oliver D. Welch (+852 2214 3716, owelch@gibsondunn.com) São Paulo Lisa A. Alfaro (+55 (11) 3521-7160, lalfaro@gibsondunn.com) Fernando Almeida (+55 (11) 3521-7095, falmeida@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

July 12, 2018 |
The Politics of Brexit for those Outside the UK

Click for PDF Following the widely reported Cabinet meeting at Chequers, the Prime Minister’s country residence, on Friday 6 June 2018, the UK Government has now published its “White Paper” setting out its negotiating position with the EU.  A copy of the White Paper can be found here. The long-delayed White Paper centres around a free trade area for goods, based on a common rulebook.  The ancillary customs arrangement plan, in which the UK would collects tariffs on behalf of the EU, would then “enable the UK to control its own tariffs for trade with the rest of the world”.  However, the Government’s previous “mutual recognition plan” for financial services has been abandoned; instead the White Paper proposes a looser partnership under the framework of the EU’s existing equivalence regime. The responses to the White Paper encapsulate the difficulties of this process.  Eurosceptics remain unhappy that the Government’s position is far too close to a “Soft Brexit” and have threatened to rebel against the proposed customs scheme; Remainers are upset that services (which represent 79% of the UK’s GDP) are excluded. The full detail of the 98-page White Paper is less important at this stage than the negotiating dynamics.  Assuming both the UK and the EU want a deal, which is likely to be the case, M&A practitioners will be familiar with the concept that the stronger party, here the EU, will want to push the weaker party, the UK, as close to the edge as possible without tipping them over.  In that sense the UK has, perhaps inadvertently, somewhat strengthened its negotiating position – albeit in a fragile way. The rules of the UK political game In the UK the principle of separation of powers is strong as far as the independence of the judiciary is concerned.  In January 2017 the UK Supreme Court decided that the Prime Minister could not trigger the Brexit process without the authority of an express Act of Parliament. However, unlike the United States and other presidential systems, there is virtually no separation of powers between legislature and executive.  Government ministers are always also members of Parliament (both upper and lower houses).  The government of the day is dependent on maintaining the confidence of the House of Commons – and will normally be drawn from the political party with the largest number of seats in the House of Commons.  The Prime Minister will be the person who is the leader of that party. The governing Conservative Party today holds the largest number of seats in the House of Commons, but does not have an overall majority.  The Conservative Government is reliant on a “confidence and supply” agreement with the Northern Ireland Democratic Unionist Party (“DUP”) to give it a working majority. Maintaining an open land border between Northern Ireland and the Republic of Ireland is crucial to maintaining the Good Friday Agreement – which underpins the Irish peace process.  Maintaining an open border between Northern Ireland and the rest of the UK is of fundamental importance to the unionist parties in Northern Ireland – not least the DUP.  Thus, the management of the flow of goods and people across the Irish land border, and between Northern Ireland and the UK, have become critical issues in the Brexit debate and negotiations.  The White Paper’s proposed free trade area for goods would avoid friction at the border. Parliament will have a vote on the final Brexit deal, but if the Government loses that vote then it will almost certainly fall and a General Election will follow – more on this below. In addition, if the Prime Minister does not continue to have the support of her party, she would cease to be leader and be replaced.  Providing the Conservative Party continued to maintain its effective majority in the House of Commons, there would not necessarily be a general election on a change in prime minister (as happened when Margaret Thatcher was replaced by John Major in 1990) The position of the UK Government The UK Cabinet had four prominent campaigners for Brexit: David Davis (Secretary for Exiting the EU), Boris Johnson (Foreign Secretary), Michael Gove (Environment and Agriculture Secretary) and Liam Fox (Secretary for International Trade).  David Davis and Boris Johnson have both resigned in protest after the Chequers meeting but, so far, Michael Gove and Liam Fox have stayed in the Cabinet.  To that extent, at least for the moment, the Brexit camp has been split and although the Leave activists are unhappy, they are now weaker and more divided for the reasons described below. The Prime Minister can face a personal vote of confidence if 48 Conservative MPs demand such a vote.  However, she can only be removed if at least 159 of the 316 Conservative MPs then vote against her.  It is currently unlikely that this will happen (although the balance may well change once Brexit has happened – and in the lead up to a general election).  Although more than 48 Conservative MPs would in principle be willing to call a vote of confidence, it is believed that they would not win the subsequent vote to remove her.  If by chance that did happen, then Conservative MPs would select two of their members, who would be put to a vote of Conservative activists.  It is likely that at least one of them would be a strong Leaver, and would win the activists’ vote. The position in Parliament The current view on the maths is as follows: The Conservatives and DUP have 326 MPs out of a total of 650.  It is thought that somewhere between 60 and 80 Conservative MPs might vote against a “Soft Brexit” as currently proposed – and one has to assume it will become softer as negotiations with the EU continue.  The opposition Labour party is equally split.  The Labour leadership of Jeremy Corbyn and John McDonnell are likely to vote against any Brexit deal in order to bring the Government down, irrespective of whether that would lead to the UK crashing out of the EU with no deal.  However it is thought that sufficient opposition MPs would side with the Government in order to vote a “Soft Brexit” through the House of Commons. Once the final position is resolved, whether a “Soft Brexit” or no deal, it is likely that there will be a leadership challenge against Mrs May from within the Conservative Party. The position of the EU So far the EU have been relatively restrained in their public comments, on the basis that they have been waiting to see the detail of the White Paper. The EU has stated on many occasions that the UK cannot “pick and choose” between those parts of the EU Single Market that it likes, and those it does not.  For this reason, the proposals in the White Paper (which do not embrace all of the requirements of the Single Market), are unlikely to be welcomed by the EU.  It is highly likely that the EU will push back on the UK position to some degree, but it is a dangerous game for all sides to risk a “no deal” outcome.  Absent agreement on an extension the UK will leave the EU at 11 pm on 29 March 2019, but any deal will need to be agreed by late autumn 2018 so national parliaments in the EU and UK have time to vote on it. Finally Whatever happens with the EU the further political risk is the possibility that the Conservatives will be punished in any future General Election – allowing the left wing Jeremy Corbyn into power. It is very hard to quantify this risk.  In a recent poll Jeremy Corbyn edged slightly ahead of Theresa May as a preferred Prime Minister, although “Don’t Knows” had a clear majority. This client alert was prepared by London partners Charlie Geffen and Nicholas Aleksander and of counsel Anne MacPherson. We have a working group in London (led by Nicholas Aleksander, Patrick Doris, Charlie Geffen, Ali Nikpay and Selina Sagayam) addressing Brexit related issues.  Please feel free to contact any member of the working group or any of the other lawyers mentioned below. Ali Nikpay – Antitrust ANikpay@gibsondunn.com Tel: 020 7071 4273 Charlie Geffen – Corporate CGeffen@gibsondunn.com Tel: 020 7071 4225 Nicholas Aleksander – Tax NAleksander@gibsondunn.com Tel: 020 7071 4232 Philip Rocher – Litigation PRocher@gibsondunn.com Tel: 020 7071 4202 Jeffrey M. Trinklein – Tax JTrinklein@gibsondunn.com Tel: 020 7071 4224 Patrick Doris – Litigation; Data Protection PDoris@gibsondunn.com Tel:  020 7071 4276 Alan Samson – Real Estate ASamson@gibsondunn.com Tel:  020 7071 4222 Penny Madden QC – Arbitration PMadden@gibsondunn.com Tel:  020 7071 4226 Selina Sagayam – Corporate SSagayam@gibsondunn.com Tel:  020 7071 4263 Thomas M. Budd – Finance TBudd@gibsondunn.com Tel:  020 7071 4234 James A. Cox – Employment; Data Protection JCox@gibsondunn.com Tel: 020 7071 4250 Gregory A. Campbell – Restructuring GCampbell@gibsondunn.com Tel:  020 7071 4236 © 2018 Gibson, Dunn & Crutcher LLP, 333 South Grand Avenue, Los Angeles, CA 90071 Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

July 12, 2018 |
California Consumer Privacy Act of 2018

Click for PDF On June 28, 2018, Governor Jerry Brown signed the California Consumer Privacy Act of 2018 (“CCPA”), which has been described as a landmark privacy bill that aims to give California consumers increased transparency and control over how companies use and share their personal information.  The law will be enacted as several new sections of the California Civil Code (sections 1798.100 to 1798.198).  While lawmakers and others are already discussing amending the law prior to its January 1, 2020 effective date, as passed the law would require businesses collecting information about California consumers to: disclose what personal information is collected about a consumer and the purposes for which that personal information is used; delete a consumer’s personal information if requested to do so, unless it is necessary for the business to maintain that information for certain purposes; disclose what personal information is sold or shared for a business purpose, and to whom; stop selling a consumer’s information if requested to do so (the “right to opt out”), unless the consumer is under 16 years of age, in which case the business is required to obtain affirmative authorization to sell the consumer’s data (the “right to opt in”); and not discriminate against a consumer for exercising any of the aforementioned rights, including by denying goods or services, charging different prices, or providing a different level or quality of goods or services, subject to certain exceptions. The CCPA also empowers the California Attorney General to adopt regulations to further the statute’s purposes, and to solicit “broad public participation” before the law goes into effect.[1]  In addition, the law permits businesses to seek the opinion of the Attorney General for guidance on how to comply with its provisions. The CCPA does not appear to create any private rights of action, with one notable exception:  the CCPA expands California’s data security laws by providing, in certain cases, a private right of action to consumers “whose nonencrypted or nonredacted personal information” is subject to a breach “as a result of the business’ violation of the duty to implement and maintain reasonable security procedures,” which permits consumers to seek statutory damages of $100 to $750 per incident.[2]  The other rights embodied in the CCPA may be enforced only by the Attorney General—who may seek civil penalties up to $7,500 per violation. In the eighteen months ahead, businesses that collect personal information about California consumers will need to carefully assess their data privacy and disclosure practices and procedures to ensure they are in compliance when the law goes into effect on January 1, 2020.  Businesses may also want to consider whether to submit information to the Attorney General regarding the development of implementing regulations prior to the effective date. I.     Background and Context The CCPA was passed quickly in order to block a similar privacy initiative from appearing on election ballots in November.  The ballot initiative had obtained enough signatures to be presented to voters, but its backers agreed to abandon it if lawmakers passed a comparable bill.  The ballot initiative, if enacted, could not easily be amended by the legislature,[3] so legislators quickly drafted and unanimously passed AB 375 before the June 28 deadline to withdraw items from the ballot.  While not as strict as the EU’s new General Data Protection Regulation (GDPR), the CCPA is more stringent than most existing privacy laws in the United States. II.     Who Must Comply With The CCPA? The CCPA applies to any “business,” including any for-profit entity that collects consumers’ personal information, which does business in California, and which satisfies one or more of the following thresholds: has annual gross revenues in excess of twenty-five million dollars ($25,000,000); possesses the personal information of 50,000 or more consumers, households, or devices; or earns more than half of its annual revenue from selling consumers’ personal information.[4] The CCPA also applies to any entity that controls or is controlled by such a business and shares common branding with the business.[5] The definition of “Personal Information” under the CCPA is extremely broad and includes things not considered “Personal Information” under other U.S. privacy laws, like location data, purchasing or consuming histories, browsing history, and inferences drawn from any of the consumer information.[6]  As a result of the breadth of these definitions, the CCPA likely will apply to hundreds of thousands of companies, both inside and outside of California. III.     CCPA’s Key Rights And Provisions The stated goal of the CCPA is to ensure the following rights of Californians: (1) to know what personal information is being collected about them; (2) to know whether their personal information is sold or disclosed and to whom; (3) to say no to the sale of personal information; (4) to access their personal information; and (5) to equal service and price, even if they exercise their privacy rights.[7]  The CCPA purports to enforce these rights by imposing several obligations on covered businesses, as discussed in more detail below.            A.     Transparency In The Collection Of Personal Information The CCPA requires disclosure of information about how a business collects and uses personal information, and also gives consumers the right to request certain additional information about what data is collected about them.[8]  Specifically, a consumer has the right to request that a business disclose: the categories of personal information it has collected about that consumer; the categories of sources from which the personal information is collected; the business or commercial purpose for collecting or selling personal information; the categories of third parties with whom the business shares personal information; and the specific pieces of personal information it has collected about that consumer.[9] While categories (1)-(4) are fairly general, category (5) requires very detailed information about a consumer, and businesses will need to develop a mechanism for providing this type of information. Under the CCPA, businesses also must affirmatively disclose certain information “at or before the point of collection,” and cannot collect additional categories of personal information or use personal information collected for additional purposes without providing the consumer with notice.[10]  Specifically, businesses must disclose in their online privacy policies and in any California-specific description of a consumer’s rights a list of the categories of personal information they have collected about consumers in the preceding 12 months by reference to the enumerated categories (1)-(5), above.[11] Businesses must provide consumers with at least two methods for submitting requests for information, including, at a minimum, a toll-free telephone number, and if the business maintains an Internet Web site, a Web site address.[12]            B.     Deletion Of Personal Information The CCPA also gives consumers a right to request that businesses delete personal information about them.  Upon receipt of a “verifiable request” from a consumer, a business must delete the consumer’s personal information and direct any service providers to do the same.  There are exceptions to this deletion rule when “it is necessary for the business or service provider to maintain the consumer’s personal information” for one of nine enumerated reasons: Complete the transaction for which the personal information was collected, provide a good or service requested by the consumer, or reasonably anticipated within the context of a business’s ongoing business relationship with the consumer, or otherwise perform a contract between the business and the consumer. Detect security incidents, protect against malicious, deceptive, fraudulent, or illegal activity; or prosecute those responsible for that activity. Debug to identify and repair errors that impair existing intended functionality. Exercise free speech, ensure the right of another consumer to exercise his or her right of free speech, or exercise another right provided for by law. Comply with the California Electronic Communications Privacy Act pursuant to Chapter 3.6 (commencing with Section 1546) of Title 12 of Part 2 of the Penal Code. Engage in public or peer-reviewed scientific, historical, or statistical research in the public interest that adheres to all other applicable ethics and privacy laws, when the businesses’ deletion of the information is likely to render impossible or seriously impair the achievement of such research, if the consumer has provided informed consent. To enable solely internal uses that are reasonably aligned with the expectations of the consumer based on the consumer’s relationship with the business. Comply with a legal obligation. Otherwise use the consumer’s personal information, internally, in a lawful manner that is compatible with the context in which the consumer provided the information.[13] Because these exceptions are so broad, especially given the catch-all provision in category (9), it is unclear whether the CCPA’s right to deletion will substantially alter a business’s obligations as a practical matter.            C.     Disclosure Of Personal Information Sold Or Shared For A Business Purpose The CCPA also requires businesses to disclose what personal information is sold or disclosed for a business purpose, and to whom.[14]  The disclosure of certain information is only required upon receipt of a “verifiable consumer request.”[15]  Specifically, a consumer has the right to request that a business disclose: The categories of personal information that the business collected about the consumer; The categories of personal information that the business sold about the consumer and the categories of third parties to whom the personal information was sold, by category or categories of personal information for each third party to whom the personal information was sold; and The categories of personal information that the business disclosed about the consumer for a business purpose.[16] A business must also affirmatively disclose (including in its online privacy policy and in any California-specific description of consumer’s rights): The category or categories of consumers’ personal information it has sold, or if the business has not sold consumers’ personal information, it shall disclose that fact; and The category or categories of consumers’ personal information it has disclosed for a business purpose, or if the business has not disclosed the consumers’ personal information for a business purpose, it shall disclose that fact.[17] This information must be disclosed in two separate lists, each listing the categories of personal information it has sold about consumers in the preceding 12 months that fall into categories (1) and (2), above.[18]            D.     Right To Opt-Out Of Sale Of Personal Information The CCPA also requires businesses to stop selling a consumer’s personal information if requested to do so by the consumer (“opt-out”).  In addition, consumers under the age of 16 must affirmatively opt-in to allow selling of personal information, and parental consent is required for consumers under the age of 13.[19]  Businesses must provide notice to consumers that their information may be sold and that consumers have the right to opt out of the sale.  In order to comply with the notice requirement, businesses must include a link titled “Do Not Sell My Personal Information” on their homepage and in their privacy policy.[20]            E.     Prohibition Against Discrimination For Exercising Rights The CCPA prohibits a business from discriminating against a consumer for exercising any of their rights in the CCPA, including by denying goods or services, charging different prices, or providing a different level or quality of goods or services.  There are exceptions, however, if the difference in price or level or quality of goods or services “is reasonably related to the value provided to the consumer by the consumer’s data.”  For example, while the language of the statute is not entirely clear, a business may be allowed to charge those users who do not allow the sale of their data while providing the service for free to users who do allow the sale of their data—as long as the amount charged is reasonably related to the value to the business of that consumer’s data.  A business may also offer financial incentives for the collection of personal information, as long as the incentives are not “unjust, unreasonable, coercive, or usurious” and the business notifies the consumer of the incentives and the consumer gives prior opt-in consent.            F.     Data Breach Provisions The CCPA provides a private right of action to consumers “whose nonencrypted or nonredacted personal information” is subject to a breach “as a result of the business’ violation of the duty to implement and maintain reasonable security procedures.”[21]  Under the CCPA, a consumer may seek statutory damages of $100 to $750 per incident or actual damages, whichever is greater.[22]  Notably, the meaning of “personal information” under this provision is the same as it is in California’s existing data breach law, rather than the broad definition used in the remainder of the CCPA.[23]  Consumers bringing a private action under this section must first provide written notice to the business of the alleged violations (and allow the business an opportunity to cure the violations), and must notify the Attorney General and give the Attorney General an opportunity to prosecute.[24]  Notice is not required for an “action solely for actual pecuniary damages suffered as a result of the alleged violations.”[25] IV.     Potential Liability Section 1798.150, regarding liability for data breaches, is the only provision in the CCPA expressly allowing a private right of action.  The damages available for such a civil suit are limited to the greater of (1) between $100 and $750 per consumer per incident, or (2) actual damages.  Individual consumers’ claims also can potentially be aggregated in a class action. The other rights embodied in the CCPA may be enforced only by the Attorney General—who may seek civil penalties not to exceed $2,500 for each violation, unless the violation was intentional, in which case the Attorney General can seek up to $7,500 per violation.[26] [1]   To be codified at Cal. Civ. Code § 1798.185(a) [2]      Cal. Civ. Code § 1798.150. [3]      By its own terms, the ballot initiative could be amended upon a statute passed by 70% of each house of the Legislature if the amendment furthered the purposes of the act, or by a majority for certain provisions to impose additional privacy restrictions.  See The Consumer Right to Privacy Act of 2018 No. 17-0039, Section 5. Otherwise, approved ballot initiatives in California can only be amended with voter approval. California Constitution, Article II, Section 10. [4]   Cal. Civ. Code § 1798.140(c)(1). [5]   Cal. Civ. Code § 1798.140(c)(2). [6]   Cal. Civ. Code § 1798.140(o). The definition of “personal information” does not include publicly available information, and the CCPA also does not generally restrict a business’s ability to collect or use deidentified aggregate consumer information. Cal. Civ. Code § 1798.145(a)(5). [7]   Assemb. Bill 375, 2017-2018 Reg. Sess., Ch. 55, Sec. 2 (Cal. 2018) [8]   Cal. Civ. Code § 1798.100 and 1798.110. [9]   Cal. Civ. Code § 1798.110(a). [10]     Cal. Civ. Code §§ 1798.100(b); 1798.110(c). [11]     Cal. Civ. Code §§ 1798.110(c); 1798.130(a)(5)(B). [12]   Cal. Civ. Code § 1798.130(a)(1). [13]   Cal. Civ. Code § 1798.105(d). [14]   Cal. Civ. Code § 1798.115. [15]   Cal. Civ. Code § 1798.115(a)-(b). [16]   Cal. Civ. Code § 1798.115(a). [17]   Cal. Civ. Code § 1798.115(c). [18]   Cal. Civ. Code § 1798.130(a)(5)(C). [19]   Cal. Civ. Code § 1798.120(d). [20]   Cal. Civ. Code § 1798.135. [21]   Cal. Civ. Code § 1798.150. [22]   Cal. Civ. Code § 1798.150. [23]   Cal. Civ. Code § 1798.81.5(d)(1)(A) [24]   Cal. Civ. Code § 1798.150(b). [25]   Cal. Civ. Code § 1798.150 (b)(1). [26]   Cal. Civ. Code § 1798.155. The following Gibson Dunn lawyers assisted in the preparation of this client alert: Joshua A. Jessen, Benjamin B. Wagner, Christina Chandler Kogan, Abbey A. Barrera, and Alison Watkins. Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues.  For further information, please contact the Gibson Dunn lawyer with whom you usually work or the following leaders and members of the firm’s Privacy, Cybersecurity and Consumer Protection practice group: United States Alexander H. Southwell – Co-Chair, New York (+1 212-351-3981, asouthwell@gibsondunn.com) M. Sean Royall – Dallas (+1 214-698-3256, sroyall@gibsondunn.com) Debra Wong Yang – Los Angeles (+1 213-229-7472, dwongyang@gibsondunn.com) Christopher Chorba – Los Angeles (+1 213-229-7396, cchorba@gibsondunn.com) Richard H. Cunningham – Denver (+1 303-298-5752, rhcunningham@gibsondunn.com) Howard S. Hogan – Washington, D.C. (+1 202-887-3640, hhogan@gibsondunn.com) Joshua A. Jessen – Orange County/Palo Alto (+1 949-451-4114/+1 650-849-5375, jjessen@gibsondunn.com) Kristin A. Linsley – San Francisco (+1 415-393-8395, klinsley@gibsondunn.com) H. Mark Lyon – Palo Alto (+1 650-849-5307, mlyon@gibsondunn.com) Shaalu Mehra – Palo Alto (+1 650-849-5282, smehra@gibsondunn.com) Karl G. Nelson – Dallas (+1 214-698-3203, knelson@gibsondunn.com) Eric D. Vandevelde – Los Angeles (+1 213-229-7186, evandevelde@gibsondunn.com) Benjamin B. Wagner – Palo Alto (+1 650-849-5395, bwagner@gibsondunn.com) Michael Li-Ming Wong – San Francisco/Palo Alto (+1 415-393-8333/+1 650-849-5393, mwong@gibsondunn.com) Ryan T. Bergsieker – Denver (+1 303-298-5774, rbergsieker@gibsondunn.com) Europe Ahmed Baladi – Co-Chair, Paris (+33 (0)1 56 43 13 00, abaladi@gibsondunn.com) James A. 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July 9, 2018 |
2018 Mid-Year FCPA Update

Click for PDF The steady clip of Foreign Corrupt Practices Act (“FCPA”) prosecutions set in 2017 has continued apace into the first half of 2018, largely quieting any questions of enforcement of this important statute under the current Administration.  Although this update captures developments through June 30, the enforcers did not have a reprieve for the July 4th holiday, because they announced two corporate enforcement actions in the first week of the month.  From our perspective, all signs point to business as usual at the U.S. Department of Justice (“DOJ”) and Securities and Exchange Commission (“SEC”), the two regulators charged with enforcing the FCPA. This client update provides an overview of the FCPA as well as domestic and international anti-corruption enforcement, litigation, and policy developments from the first half of 2018. FCPA OVERVIEW The FCPA’s anti-bribery provisions make it illegal to corruptly offer or provide money or anything else of value to officials of foreign governments, foreign political parties, or public international organizations with the intent to obtain or retain business.  These provisions apply to “issuers,” “domestic concerns,” and those acting on behalf of issuers and domestic concerns, as well as to “any person” who acts while in the territory of the United States.  The term “issuer” covers any business entity that is registered under 15 U.S.C. § 78l or that is required to file reports under 15 U.S.C. § 78o(d).  In this context, foreign issuers whose American Depository Receipts (“ADRs”) are listed on a U.S. exchange are “issuers” for purposes of the FCPA.  The term “domestic concern” is even broader and includes any U.S. citizen, national, or resident, as well as any business entity that is organized under the laws of a U.S. state or that has its principal place of business in the United States. In addition to the anti-bribery provisions, the FCPA also has “accounting provisions” that apply to issuers and those acting on their behalf.  First, there is the books-and-records provision, which requires issuers to make and keep accurate books, records, and accounts that, in reasonable detail, accurately and fairly reflect the issuer’s transactions and disposition of assets.  Second, the FCPA’s internal controls provision requires that issuers devise and maintain reasonable internal accounting controls aimed at preventing and detecting FCPA violations.  Prosecutors and regulators frequently invoke these latter two sections when they cannot establish the elements for an anti-bribery prosecution or as a mechanism for compromise in settlement negotiations.  Because there is no requirement that a false record or deficient control be linked to an improper payment, even a payment that does not constitute a violation of the anti-bribery provisions can lead to prosecution under the accounting provisions if inaccurately recorded or attributable to an internal controls deficiency. FCPA ENFORCEMENT STATISTICS The following table and graph detail the number of FCPA enforcement actions initiated by DOJ and the SEC during each of the past 10 years. 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 (as of 7/06) DOJ SEC DOJ SEC DOJ SEC DOJ SEC DOJ SEC DOJ SEC DOJ SEC DOJ SEC DOJ SEC DOJ SEC 26 14 48 26 23 25 11 12 19 8 17 9 10 10 21 32 29 10 11 6 2018 MID-YEAR FCPA ENFORCEMENT ACTIONS The first half of 2018 saw a diverse mix of FCPA enforcement activity, from relatively modest to very large financial penalties, the first-ever coordinated U.S.-French bribery resolution, and numerous criminal prosecutions of individual defendants, particularly for non-FCPA charges arising out of foreign corruption investigations. Corporate FCPA Enforcement Actions There have been 11 corporate FCPA enforcement actions in 2018 to date. Elbit Imaging Ltd. The year’s first corporate FCPA enforcement action involved an aggressive interpretation of the FCPA’s accounting provisions resulting in a relatively modest financial penalty.  On March 9, 2018, Israeli-based holding company and issuer Elbit Imaging settled an SEC-only cease-and-desist proceeding for alleged FCPA books-and-records and internal controls violations.  According to the SEC’s order, between 2007 and 2012 Elbit and an indirect subsidiary paid $27 million to two consultants and one sales agent in connection with real estate projects in Romania and the United States.  Without making direct allegations, the SEC intimated corruption in the Romanian projects by asserting that the two consultants were engaged without any due diligence to facilitate government approvals and were paid significant sums of money without any evidence of work performed.  In connection with the U.S. project, the SEC again asserted that the sales agent was retained without due diligence and paid significant sums of money without evidence of work performed, but in this case concluded that the majority of those funds were embezzled by Elbit’s then-CEO. Without admitting or denying the allegations, Elbit consented to the cease-and-desist proceeding and agreed to pay a $500,000 civil penalty.  The SEC acknowledged Elbit’s self-reporting to U.S. and Romanian authorities, as well as the fact that Elbit is in the process of winding down its operations as factors in setting the modest penalty and lack of any post-resolution monitoring or reporting obligations.  This resolution marks the lowest monetary assessment in a corporate FCPA enforcement action since June 2016 (Nortek, Inc., covered in our 2016 Mid-Year FCPA Update, in which the company paid just more than $320,000 in disgorgement and prejudgment interest). Transport Logistics International, Inc. The first criminal corporate FCPA resolution of 2018 stems from an investigation that we have been following for several years.  On March 12, 2018, Maryland transportation company Transport Logistics International (“TLI”) reached a deferred prosecution agreement with DOJ arising from an alleged scheme to make more than $1.7 million in corrupt payments to an official of JSC Techsnabexport (“TENEX”)—a Russian state-owned supplier of uranium and uranium enrichment services—in return for directing sole-source uranium transportation contracts to the company.  We first reported on this in our 2015 Year-End FCPA Update in connection with guilty pleas by former TLI Co-President Daren Condrey, wife Carol Condrey, TENEX official Vadim Mikerin, and businessman Boris Rubizhevsky.  Rounding out the charges, on January 10, 2018 the other former TLI Co-President Mark Lambert was indicted on 11 counts of FCPA, wire fraud, and money laundering charges. To resolve the charges of conspiracy to violate the FCPA’s anti-bribery provisions, TLI entered into a deferred prosecution agreement and agreed to pay a $2 million criminal penalty, as well as self-report to DOJ on the state of its compliance program over the three-year term of the agreement.  Notably, the $2 million penalty represents a significant departure from the DOJ-calculated fine of $21.4 million, based upon an inability-to-pay analysis by an independent accounting firm hired by DOJ that confirmed TLI’s representation that a penalty greater than $2 million would jeopardize the continued viability of the company.  After a significant colloquy with government and company counsel concerning whether DOJ was being unduly lenient in deferring prosecution, the Honorable Theodore Chuang of the U.S. District Court for the District of Maryland approved of the resolution.  Trial in the case against remaining defendant Lambert is currently set for April 2019. Kinross Gold Corporation On March 26, 2018, the SEC announced a settled cease-and-desist order against Canadian gold mining company Kinross Gold for alleged violations of the FCPA’s accounting provisions.  According to the charging document, in 2010, Kinross acquired two subsidiaries that operated mines in Mauritania and Ghana but, despite due diligence identifying a lack of anti-corruption compliance controls, was slow to implement such controls.  Kinross further allegedly failed to respond to multiple internal audits flagging the inadequate controls, and payments continued to be made to vendors and consultants, often in connection with government interactions, without appropriate efforts to ensure that the funds were not used for improper payments.  Notably, however, the SEC did not allege any specific corrupt payments made by or on behalf of Kinross. Without admitting or denying the allegations, Kinross agreed to pay a $950,000 penalty to resolve the charges.  The SEC’s order does not allege that the company realized profits tied to the misconduct and therefore did not order disgorgement.  The SEC acknowledged Kinross’s remedial efforts, which the company will continue to self-report to the SEC on for one year.  Kinross has stated that DOJ has closed its investigation without taking any enforcement action. The Dun & Bradstreet Corporation On April 23, 2018, the business intelligence company Dun & Bradstreet agreed to settle FCPA accounting charges arising from allegations of improper payments to acquire confidential data in China.  According to the SEC, between 2006 and 2012 two Chinese subsidiaries made payments to Chinese officials and third parties to obtain non-public information that was not subject to lawful disclosure under Chinese law.  One of the subsidiaries and several of its officers were prosecuted and convicted in China for the unlawful procurement of this data. Without admitting or denying the allegations, Dun & Bradstreet consented to the entry of a cease-and-desist order and agreed to disgorge $6.08 million of profits, plus $1.14 million in prejudgment interest, and pay a $2 million civil penalty.  The SEC’s order did not impose ongoing reporting requirements on Dun & Bradstreet and credited the company’s self-disclosure, which occurred after local police conducted a raid at one of the subsidiaries.  Among other remedial actions, Dun & Bradstreet shuttered one of the subsidiaries.  Citing the FCPA Corporate Enforcement Policy, DOJ issued a public letter declining to prosecute Dun & Bradstreet in light of the SEC resolution and other factors. Panasonic Corporation On April 30, 2018, the SEC and DOJ announced the first joint FCPA resolution of 2018, with Japanese electronics company Panasonic and its California-based subsidiary Panasonic Avionics Corporation (“PAC”), respectively.  PAC designs and distributes in-flight entertainment systems and communications services to airlines worldwide.  According to the charging documents, PAC agreed to provide a post-retirement consultancy position to an official at a state-owned airline as PAC was negotiating agreements with the state-owned airline worth more than $700 million.  PAC allegedly paid the official $875,000 for little to no work.  Separately, PAC also allegedly failed to follow its own third-party due diligence protocols in Asia, including by concealing the retention of agents who did not pass screening by employing them as sub-agents to a single qualified agent. To resolve a one-count criminal information charging PAC with causing the falsification of Panasonic’s books and records, PAC entered into a deferred prosecution agreement with DOJ and agreed to pay a $137.4 million criminal fine, a 20% discount from the bottom of the applicable Guidelines range based on the company’s cooperation but failure to voluntarily disclose.  To resolve civil FCPA anti-bribery and accounting violations, as well as allegations that it fraudulently overstated its income in a separate revenue recognition scheme, Panasonic consented to an SEC cease-and-desist order and agreed to pay $143.2 million in disgorgement and prejudgment interest.  Together, the parent and subsidiary agreed to pay combined criminal and regulatory penalties of more than $280 million. In addition to the monetary penalties, PAC agreed to engage an independent compliance monitor for a period of two years to be followed by one year of self-reporting.  In addition to traditional monitor requirements, such as demonstrated FCPA expertise, the deferred prosecution agreement includes an additional proviso to the list of qualifications for monitor selection—diversity—stating that “[m]onitor selections shall be made in keeping with the Department’s commitment to diversity and inclusion.” Société Générale S.A. /Legg Mason, Inc. Closing out the first half of 2018 corporate enforcement in a big way, on June 4, 2018 DOJ announced two separate but related FCPA enforcement actions with French financial services company Société Générale (“SocGen”) and Maryland-based investment management firm Legg Mason, Inc.  Both resolutions stem from SocGen’s payment of more than $90 million to a Libyan intermediary, while allegedly knowing that the intermediary was using a portion of those payments to bribe Libyan government officials in connection with $3.66 billion in investments placed by Libyan state-owned banks with SocGen.  A number of those investments were managed by a subsidiary of Legg Mason. To settle the criminal FCPA bribery and conspiracy charges, SocGen entered into a deferred prosecution agreement and had a subsidiary plead guilty.  SocGen also simultaneously resolved unrelated criminal fraud charges of rigging LIBOR rates.  Further, in the first U.S.-French coordinated resolution in a foreign bribery case, SocGen also reached a parallel resolution with the Parquet National Financier (“PNF”) in Paris.  After netting out offsets between the bribery resolutions, SocGen agreed to pay $292.78 million to DOJ and $292.78 million to French authorities, in addition to $275 million to resolve DOJ’s LIBOR-related allegations.  Adding $475 million paid to the U.S. Commodity Futures Trading Commission in the LIBOR case, the total price tag well exceeds $1.3 billion. Legg Mason had a somewhat lesser role in the alleged corruption scheme, reflected in the fact that it was permitted to enter into a non-prosecution agreement with DOJ with a $64.2 million price tag.  Nearly half of the DOJ resolution amount is subject to a potential credit “against disgorgement paid to other law enforcement authorities within the first year of the [non-prosecution] agreement,” a seeming anticipatory nod to a forthcoming FCPA resolution with the SEC. Both companies will self-report to DOJ over the course of the three-year term of their respective agreements.  Neither was required to retain a compliance monitor, although the principal reasoning for lack of monitor in the SocGen case appears to be that the bank will be subject to ongoing monitoring by France’s L’Agence Française Anticorruption. Beam Suntory Inc. Trailing into the second half of 2018, on July 2, 2018 the SEC announced an FCPA resolution with Chicago-based spirits producer Beam Suntory relating to allegations of improper payments to government officials in India.  According to the SEC, from 2006 through 2012 senior executives at Beam India directed efforts by third parties to make improper payments to increase sales, process license and label registrations, obtain better positioning on store shelves, and facilitate distribution.  The allegations include an interesting cameo by the SEC’s 2011 FCPA resolution with Beam competitor Diageo plc (covered in our 2011 Year-End FCPA Update).  The SEC alleged that after the Diageo enforcement action was announced, Beam sent an in-house lawyer to India to investigate whether similar conduct was occurring at Beam India and to implement additional FCPA training.  This review led to a series of investigations culminating in a voluntary disclosure to the SEC. Without admitting or denying the allegations, Beam consented to the entry of a cease-and-desist order to resolve FCPA accounting provision charges and agreed to disgorge $5.26 million of profits, plus $917,498 in prejudgment interest, and pay a $2 million civil penalty.  The SEC’s order did not impose ongoing reporting requirements on Beam and acknowledged the company’s voluntary self-disclosure, cooperation with the SEC’s investigation, and the remedial actions taken by the company, including ceasing operations at Beam India until Beam was satisfied it could operate in a compliant manner.  Beam has announced that it is continuing to cooperate in a DOJ investigation. Credit Suisse Group AG Further trailing into the second half of 2018, on July 5 DOJ and the SEC announced the second joint FCPA resolution of 2018 with Swiss-based financial services provider and issuer Credit Suisse.  According to the charging documents, between 2007 and 2013 Credit Suisse’s Hong Kong subsidiary hired more than 100 employees at the request of Chinese government officials.  These so-called “relationship hires” were allegedly made to encourage the referring officials to direct business to Credit Suisse and despite the fact that, in many cases, these applicants did not possess the technical skills and qualifications of those not referred by foreign officials. To resolve the criminal investigation, Credit Suisse’s Hong Kong subsidiary entered into a non-prosecution agreement and agreed to pay a criminal penalty of just over $47 million.  Notably, Credit Suisse received only a 15% discount from the bottom of the Guidelines range (rather than the maximum 25% available under the FCPA Corporate Enforcement Policy for non-voluntary disclosures) because its cooperation was, allegedly, “reactive and not proactive” and “because it failed to sufficiently discipline employees who were involved in the misconduct.”  Credit Suisse will self-report on the status of its compliance program over the three-year term of the agreement. To resolve the SEC investigation, the parent company consented to a cease-and-desist proceeding alleging violations of the FCPA’s anti-bribery and internal controls provisions and agreed to pay nearly $25 million in disgorgement plus more than $4.8 million in prejudgment interest.  This brings the total monetary resolution to nearly $77 million. Prior examples of so-called “princeling” FCPA resolutions include JPMorgan Chase & Co. (covered in our 2016 Year-End FCPA Update), Qualcomm, Inc. (covered in our 2016 Mid-Year FCPA Update), and Bank of New York Mellon Corp. (covered in our 2015 Year-End FCPA Update). Individual FCPA and FCPA-Related Enforcement Actions The number of FCPA prosecutions of individual defendants during the first half of 2018 was a relatively modest half dozen, including the indictment of former TLI Co-President Mark Lambert discussed above.  But that number masks the true extent of FCPA-related enforcement as DOJ brought twice that many prosecutions in money laundering and wire fraud actions arising out of FCPA investigations.  In large part, these non-FCPA charges are a result of DOJ pursuing the foreign official recipients of bribe payments, who cannot be charged under the FCPA but can be charged with criminal offenses (including money laundering) associated with the receipt of those bribes. FCPA-Related Charges in Och-Ziff Case In our 2017 Mid-Year FCPA Update, we covered civil FCPA charges filed by the SEC against former Och-Ziff Capital Management Group LLC executive Michael L. Cohen.  On January 3, 2018, a criminal indictment was unsealed charging Cohen with 10 counts of investment adviser fraud, wire fraud, obstruction of justice, false statements, and conspiracy.  According to the indictment, Cohen violated his fiduciary duties to a charitable foundation client by failing to disclose his personal interest in investments he promoted relating to an African mining operation and then engaged in obstructive acts to cover up the transaction after the SEC began investigating. Cohen has pleaded not guilty to all charges.  No trial date has been set. Additional FCPA and FCPA-Related Charges in PDVSA Case We have been reporting on DOJ’s investigation of a corrupt pay-to-play scheme involving Venezuela’s state-owned energy company, Petróleos de Venezuela S.A. (“PDVSA”), since our 2015 Year-End FCPA Update.  On February 12, 2018, DOJ unsealed and announced charges against five new defendants for their alleged participation in the scheme:  Luis Carolos De Leon Perez, Nervis Gerardo Villalobos Cardenas, Cesar David Rincon Godoy, Rafael Ernesto Reiter Munoz, and Alejandro Isturiz Chiesa.  All five defendants are charged with money laundering; De Leon and Villalobos are additionally charged with FCPA conspiracy. According to the indictment, in 2011 PDVSA found itself in significant financial distress relating to the sharp reduction in global oil prices.  Knowing that the agency would be unable to pay all of its vendors, the five defendants (the three non-FCPA defendants with PDVSA and the two FCPA defendants as brokers) concocted a scheme to solicit PDVSA vendors to obtain preferential treatment in payment only if they agreed to kickback 10% of the payments to the defendants. Four of the five defendants were arrested in Spain in October 2017, whereas Isturiz remains at large.  Cesar Rincon was extradited from Spain in early February and, on April 19, 2018, pleaded guilty to one count of money laundering conspiracy and was ordered to forfeit $7 million, pending a summer sentencing date.  De Leon, a U.S. citizen, has been extradited to the United States and has pleaded not guilty, although pre-trial filings suggest that a plea agreement may be in the works.  Villalobos and Reiter remain in Spanish custody pending extradition proceedings. These charges bring to 15 the number of defendants charged (publicly) in the wide-ranging PDVSA corruption investigation.  With Cesar Rincon, 11 of the 15 have now pleaded guilty. Additional FCPA Charges in U.N. Bribery Case We have been reporting on FCPA and non-FCPA charges associated with a scheme to bribe U.N. ambassadors to influence, among other things, the development of a U.N.-sponsored conference center in Macau, since our 2015 Year-End FCPA Update.  On April 4, 2018, Julia Vivi Wang, a former media executive who promoted U.N. development goals, pleaded guilty to three counts of FCPA bribery, conspiracy, and tax evasion in connection with her role in the scheme.  Wang was originally charged in March 2016, but a superseding charging document was filed in 2018.  Wang’s sentencing has been set for September 5, 2018. Additional FCPA and FCPA-Related Charges in Petroecuador Case In our 2017 Year-End FCPA Update, we reported on the money laundering indictment of Marcelo Reyes Lopez, a former executive of Ecuadorian state-owned oil company Petroecuador.  Lopez pleaded guilty on April 11, 2018 to money laundering conspiracy in connection with his alleged receipt of bribes. On March 28, 2018, another former Petroecuador executive, Arturo Escobar Dominguez, likewise pleaded guilty to one count of conspiracy to commit money laundering.  Then, on April 19, 2018, a grand jury in the Southern District of Florida returned an indictment charging two additional defendants:  Frank Roberto Chatburn Ripalda and Jose Larrea.  Chatburn is charged with FCPA bribery, money laundering, and conspiracy in connection with his alleged payment of $3.27 million in bribes to Petroecuador officials to obtain $27.8 million in contracts for his company.  Larrea is charged with conspiracy to commit money laundering in connection with the scheme.  Chatburn has yet to be arraigned, and Larrea has pleaded not guilty with a current trial date of August 2018. New FCPA and FCPA-Related Charges in Setar Case In April 2018, charges against a former Florida telecommunications company executive, Lawrence W. Parker, Jr., and a former official of the Aruban state-owned telecommunications company Servicio di Telecomunicacion di Aruba N.V. (“Setar”), Egbert Yvan Ferdinand Koolman, were unsealed in the U.S. District Court for the Southern District of Florida.  According to the charging documents, Koolman accepted $1.3 million in bribes from Parker and others, for several years, in exchange for providing confidential information concerning Setar business opportunities.  Parker was charged with one count of FCPA conspiracy and Koolman with one count of money laundering conspiracy. Both Parker and Koolman have pleaded guilty and have been sentenced to 35 and 36 months in prison, in addition to $700,000 and $1.3 million in restitution, respectively. New FCPA-Related Charge in HISS Case In our 2015 Mid-Year FCPA Update, we covered DOJ’s civil action to forfeit nine New Orleans properties—worth approximately $1.5 million—filed in the U.S. District Court for the Eastern District of Louisiana.  On April 27, 2018, a grand jury sitting in the same district returned an indictment criminally charging Carlos Alberto Zelaya Rojas, the nominal owner of those properties, with 12 counts of money laundering and other offenses associated with the impediment of the civil forfeiture proceedings.  According to the indictment, Zelaya is the brother of the former Executive Director of the Honduran Institute of Social Security (“HISS”).  The brother, who according to press reports was criminally charged in Honduras, allegedly received millions of dollars in bribes from two Honduran businessmen.  Zelaya then assisted with the laundering of at least $1.3 million of those bribe payments, including through the purchase of the nine properties. On June 27, 2018, Zelaya pleaded guilty to a single count of money laundering conspiracy and has been detained pending an October sentencing date.  As part of this plea, Zelaya consented to the forfeiture of the nine properties. Additional FCPA-Related Charges in Rolls-Royce Case In our 2017 Mid-Year FCPA Update, we covered the multi-jurisdictional resolution of criminal bribery charges against UK engineering company Rolls-Royce.  The corporate charges were then supplemented by FCPA and FCPA-related charges against five individual defendants as reported in our 2017 Year-End FCPA Update.  On May 24, 2018, DOJ announced a superseding indictment that charged two new defendants—Vitaly Leshkov and Azat Martirossian—with money laundering charges associated with the Rolls-Royce bribery scheme. According to the indictment, Leshkov and Martirossian were employees of a technical advisor to a state-owned joint venture between the governments of China and Kazakhstan, formed to transport natural gas between the two nations.  In this capacity, they allegedly “had the ability to exert influence over decisions” by the state-owned joint venture and accordingly qualified as foreign officials even though they had no official government positions.  They then participated in a scheme to solicit bribes on behalf of employees of the state-owned joint venture from employees of Rolls-Royce. Neither Martirossian nor Leshkov have made a physical appearance in U.S. court to answer the charges.  Nevertheless, Martirossian already has moved to dismiss the indictment as described immediately below. 2018 MID-YEAR CHECK-IN ON FCPA ENFORCEMENT LITIGATION Martirossian Motion to Dismiss As just described, Azat Martirossian was indicted on May 24, 2018 on money laundering charges associated with the alleged Rolls-Royce bribery scheme in China and Kazakhstan.  Although Martirossian reportedly remains in China and has yet to make a physical appearance in U.S. court, he very quickly filed a motion to dismiss the indictment on the grounds that it insufficiently alleges a U.S. nexus.  The motion also contests the “aggressive theory” that Martirossian qualifies as a “foreign official” under the FCPA based on his work as a technical advisor to a state-owned entity. DOJ’s initial response briefly contests Martirossian’s arguments on the merits, but focuses more on DOJ’s contention that the motion should be held in abeyance until Martirossian submits himself to the jurisdiction of the Court pursuant to the fugitive disentitlement doctrine.  The motion remains pending before Chief Judge Edmund A. Sargus of the U.S. District Court for the Southern District of Ohio. Ho Motion to Dismiss We reported in our 2017 Year-End FCPA Update on the December 2017 indictment of Chi Ping Patrick Ho, the head of a Chinese non-governmental organization that holds “special consultative status” at the United Nations, on FCPA and money laundering charges associated with his alleged role in corruption schemes involving Chad and Uganda.  After pleading not guilty earlier this year, on April 16 Ho filed a motion to dismiss certain of the counts.  Ho argues, among other things, that the indictment inconsistently charges him with violating both 15 U.S.C. § 78dd-2, which applies to “domestic concerns,” and § 78dd-3, which applies to persons who act within U.S. territory in furtherance of a bribe.  Ho additionally contends that the money laundering charges fail because they cannot be based on wires sent from one foreign jurisdiction to another foreign jurisdiction—here Hong Kong to Dubai and Uganda—with no U.S. nexus other than the fact that they passed through a New York bank account.  DOJ, as one would expect, opposed the motion, which remains pending before the Honorable Loretta A. Preska of the U.S. District Court for the Southern District of New York.  Denial of Ng Seng’s Motion for New Trial / Sentencing We covered in our 2017 Year-End FCPA Update the conviction after trial of Macau billionaire Ng Lap Seng on FCPA, federal programs bribery, and money laundering charges associated with his role in a scheme to pay more than $1 million in bribes to two U.N. officials in connection with, among other things, a plan to build a U.N.-sponsored conference center in Macau.  Seng subsequently filed a Rule 33 motion for a new trial, arguing that DOJ introduced a new theory of liability at trial, constituting an amendment of or prejudicial variance from the indictment, as well as that the Government’s key witness, cooperating defendant Francis Lorenzo, committed perjury at trial, which DOJ failed adequately to investigate and correct. On May 9, 2018, the Honorable Vernon S. Broderick of the U.S. District Court for the Southern District of New York denied the motion.  In a lengthy opinion, steeped in the facts of the four-week trial, the Court found that there was no constructive amendment of or prejudicial variance from the superseding indictment based on the evidence adduced at trial, and further that Seng failed to meet his burden of establishing perjury by Lorenzo, and that even if there had been perjury it was not material to the jury’s verdict. Judge Broderick subsequently sentenced Seng to 48 months in prison and ordered approximately $1.8 million in forfeiture and restitution.  Seng has appealed to the Second Circuit, which in an early ruling denied Seng’s motion for bail pending appeal but ordered his appeal to be expedited. In the same case, on February 28, 2018, Judge Broderick sentenced Seng’s co-defendant and former assistant, Jeff Yin, to 7 months in prison and nearly $62,000 in restitution for his tax evasion conviction. Motion to Intervene in Och-Ziff Sentencing Proceedings As reported in our 2016 Year-End FCPA Update, New York-based hedge fund Och-Ziff Capital Management Group LLC, together with its investment advisor subsidiary, reached a coordinated FCPA resolution with DOJ and the SEC in September 2016, pursuant to which the entities agreed to pay just over $412 million in total.  After several adjournments of the sentencing hearing, on February 20, 2018 a self-styled victim of Och-Ziff’s alleged corruption, Africo Resources Limited, filed a letter with the Court asserting that it is entitled to a share of the proceeds collected by DOJ pursuant to the Mandatory Victim Restitution Act.  Och-Ziff, represented by Gibson Dunn, has filed a submission disputing Africo Resources’ claims.  The Honorable Nicholas G. Garaufis of the U.S. District Court for the Eastern District of New York has yet to rule. SEC Proceedings Against Och-Ziff Defendants Stayed As reported in our 2017 Year-End FCPA Update, former Och-Ziff executive Michael Cohen and analyst Vanja Baros filed motions to dismiss the civil FCPA proceedings brought against them by the SEC.  After those motions were fully briefed and argued, but pending ruling, DOJ unsealed an indictment that charged Cohen criminally as discussed above. On February 9, 2018, DOJ filed a motion to intervene and stay the SEC civil suit on the grounds that the facts of the civil cases overlap substantially with the criminal case, even though the indictment does not allege FCPA violations.  Cohen and Baros did not object to a stay of the SEC case, but requested that the Court rule on their pending motions to dismiss first.  On May 11, 2018, the Honorable Nicholas G. Garaufis granted DOJ’s motion to stay discovery in the SEC’s case, but denied the request to stay ruling on the motions to dismiss.  A decision on those motions remains pending. Khoury’s Motion to Unseal Indictment We reported in our 2017 Year-End FCPA Update on the unorthodox motion filed by Samir Khoury to unseal an indictment against him that may or may not exist.  Khoury, a former consultant named in prior FCPA corporate resolutions as “LNG Consultant,” contends that it is likely that there is an indictment pending against him under seal since approximately 2009, waiting for him to travel to the United States or another country with an extradition treaty.  Khoury asserts that the indictment should be unsealed and then dismissed given the prejudicial effect of the passage of time. Oral argument on the motion was heard before the Honorable Keith P. Ellison of the U.S. District Court for the Southern District of Texas on March 22, 2018.  At the hearing, Khoury’s counsel presented argument that 12 potential defense witnesses have died since 2009, and that Khoury has been unable to open bank accounts in his native Lebanon and has lost business opportunities because of his perceived affiliation with the Bonny Island scheme.  In response, attorneys for DOJ refused to acknowledge whether Khoury had or had not been indicted, but indicated that if an indictment did exist it could hold the indictment under seal indefinitely. On June 11, 2018, Judge Ellison issued a Memorandum Opinion and Order.  He first pushed aside DOJ’s “issue preclusion” arguments that decisions from several years prior resolve this matter, holding that the three years that has passed since that litigation represent a changed circumstance warranting another look.  Similarly, the Court rejected DOJ’s “fugitive disentitlement” argument, holding that Khoury is not a fugitive because he did not abscond from the United States but rather has at all relevant times been living in his native Lebanon.  Judge Ellison gave DOJ 20 days to submit to the Court, in camera, any evidence it “wishes to adduce in opposition to Mr. Khoury’s Motion to Unseal.” DOJ filed a sealed pleading on July 2, 2018.  The next day, Khoury filed a motion to unseal any portion of that pleading that was beyond the contours of what the Court permitted.  This motion, as well as the underlying motion to unseal and dismiss, remain pending. Guilty Plea in Vietnamese Skyscraper Case In our 2017 Mid-Year FCPA Update, we reported on the indictment of New Jersey real estate broker Joo Hyun Bahn in connection with a feigned plot to bribe an official of the sovereign wealth fund of a Middle Eastern country (subsequently identified as Qatar) to induce the official to cause the fund to purchase a skyscraper in Hanoi.  The alleged agent of the sovereign wealth fund subsequently admitted that the bribery plot was a sham and that he pocketed the bribe payment. On January 5, 2018, Bahn pleaded guilty to one count of FCPA conspiracy and one count of violating the FCPA in the U.S. District Court for the Southern District of New York.  His sentencing is scheduled for September 6, 2018 before the Honorable Edgardo Ramos. Guilty Plea in Siemens Case As reported in our 2017 Year-End FCPA Update, former Siemens executive Eberhard Reichert was extradited to the United States, following his arrest in Croatia, to face a December 2011 indictment charging him and seven others in relation to their alleged roles in a scheme to bribe Argentine officials in connection with a $1 billion contract to create national identity cards. On March 15, 2018, Reichert pleaded guilty in the U.S. District Court for the Southern District of New York to one count of conspiring to violate the anti-bribery, internal controls, and books-and-records provisions of the FCPA and to commit wire fraud.  Reichert awaits a sentencing date before the Honorable Denise L. Cote. 2018 MID-YEAR FCPA-RELATED DEVELOPMENTS In addition to the enforcement activity covered above, the first six months of 2018 saw DOJ issue important guidance on how it will administer criminal enforcement, as well as a Supreme Court decision with significant ramifications for FCPA whistleblowers. DOJ Announces “Piling On” Policy On May 9, 2018, Deputy Attorney General Rod J. Rosenstein introduced a new DOJ “Policy on Coordination of Corporate Resolution Penalties.”  Announcing the policy at a New York City Bar event, Rosenstein said that it attempts to discourage “piling on” by different enforcement authorities punishing the same company for the same conduct. Incorporated in Sections 1-12.100 and 9-28.1200 of the U.S. Attorneys’ Manual, the new policy directs federal prosecutors to “consider the totality of fines, penalties, and/or forfeiture imposed by all Department components as well as other law enforcement agencies and regulators in an effort to achieve an equitable result.”  The policy has four key components: First, prosecutors may not use the specter of criminal prosecution as leverage in negotiating a civil settlement; Second, if multiple DOJ components are investigating the same company for the same conduct, they should coordinate to avoid duplicative penalties; Third, DOJ should coordinate with and consider fines, penalties, and/or forfeiture paid to other federal, state, local, or foreign enforcement authorities investigating the same company for the same conduct; and Fourth, the policy sets forth factors DOJ should consider in determining whether multiple penalties are appropriate, including the egregiousness of wrongdoing, statutory requirements, the risk of delay in achieving resolution, and the adequacy and timeliness of a company’s disclosures to and cooperation with DOJ. In our view, the policy largely reflects pre-existing DOJ practice in the FCPA arena, where DOJ routinely coordinates resolutions with the SEC and, increasingly, participates in cross-border resolutions by, among other things, crediting a company’s payments to foreign enforcement authorities in calculating the U.S. criminal fine.  We covered this latter phenomenon in our 2017 Year-End FCPA Update. Supreme Court Decision Resolves Dispute Over Who is a “Whistleblower” On February 21, 2018, the U.S. Supreme Court unanimously held in Digital Realty Trust, Inc. v. Somers that the anti-retaliation provision of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act covers only those who report an alleged violation of the federal securities laws to the SEC.  The Court’s decision reversed a Ninth Circuit ruling that Dodd-Frank’s anti-retaliation provision also covers employees who report such issues internally without reporting them to the SEC.  Although the statutory definition of a “whistleblower” as “any individual who provides . . . information relating to a violation of the securities laws to the [SEC], in a manner established . . . by the [SEC],” appeared to be clear to all nine justices, this issue had sharply divided the lower courts in recent years. The holding in Digital Realty has been interpreted by some as a harbinger of future potential whistleblowers bypassing internal reporting channels and going directly to the SEC to ensure they are protected.  Although we agree that the Court’s decision could affect the decision-making calculus of a would-be whistleblower, studies routinely show that the vast majority of employees report their concerns internally first, and that they report externally only after they feel their concerns have not been adequately addressed.  We are not certain that this phenomenon will change, at least dramatically, and we thus advise our clients and friends that it is more important now than ever for companies to scrutinize their internal policies and procedures to ensure that they encourage internal reporting, protect those who do, and robustly investigate the concerns expressed.  For more on the Supreme Court’s decision, please see our Client Alert, “Supreme Court Says Whistleblowers Must Report to the SEC Before Suing for Retaliation Under Dodd-Frank.” 2018 MID-YEAR KLEPTOCRACY FORFEITURE ACTIONS We continue to follow DOJ’s Kleptocracy Asset Recovery Initiative, spearheaded by DOJ’s Money Laundering and Asset Recovery Section.  The initiative uses civil forfeiture actions to freeze, recover, and, in some cases, repatriate the proceeds of foreign corruption.  The first half of 2018 saw continued coordination between attorneys from MLARs and DOJ’s FCPA Unit, as they have been frequently appearing in one another’s enforcement actions, working hand-in-glove across section lines.  As stated by then-Acting Deputy Assistant Attorney General (now Gibson Dunn partner) M. Kendall Day in his February 6, 2018 testimony before the Senate Committee on the Judiciary, “One of the most effective ways to deter criminals . . . is to follow the criminals’ money, expose their activity and prevent their networks from benefitting from the enormous power of [the U.S.] economy and financial system.” In our 2016 and 2017 Year-End FCPA Updates, we reported on DOJ’s massive civil forfeiture action seeking to recover more than $1 billion in assets associated with Malaysian sovereign wealth fund 1Malaysia Development Berhad (“1MDB”).  In February 2018, a 300-foot superyacht allegedly bought with money stolen from 1MDB was impounded on behalf of U.S. authorities off the coast of Bali.  DOJ seeks to bring the yacht to the United States where it can be taken into U.S. government custody and sold.  In March, Hollywood production company Red Granite Pictures (the company that produced The Wolf of Wall Street) agreed to pay $60 million to resolve a civil lawsuit stemming from the DOJ’s investigation.  Red Granite was co-founded by the stepson of the Malaysian prime minister, and DOJ alleged that three of Red Granite’s productions were funded with money stolen from 1MDB. 2018 MID-YEAR FCPA-RELATED PRIVATE CIVIL LITIGATION We continue to observe that although the FCPA does not provide for a private right of action, various causes of action are employed by civil litigants in connection with losses allegedly associated with FCPA-related conduct.  A selection of matters with developments in the first half of 2018 follows. Shareholder Lawsuits Centrais Electricas Brasileiras S.A. (“Eletrobras”):  On May 2, 2018, Eletrobras entered into a $14.75 million settlement agreement with shareholders to resolve claims that the government-controlled utility made misrepresentations in its public filings regarding the company’s financials and internal controls in connection with a bid-rigging scheme for service and engineering contracts.  In a press release, Eletrobras stated that it made no admission of wrongdoing or misconduct, but entered into the agreement for the best interests of its shareholders.  A hearing on the proposed settlement is scheduled before the Honorable John G. Koeltl of the U.S. District Court for the Southern District of New York on July 17, 2018. Cobalt International Energy, Inc.:  On April 5, 2018, the U.S. Bankruptcy Court for the Southern District of Texas approved a Chapter 11 plan by Cobalt on the heels of a consolidated class action against the exploration and production company for material misrepresentations regarding an alleged bribery scheme involving Angolan officials and the true potential of the company’s Angolan wells.  In June 2017, the Honorable Nancy F. Atlas certified a class of investors who purchased the company’s securities between March 2011 and November 2014.  In February 2018, the plaintiffs voluntarily dismissed the class action without prejudice because of the bankruptcy proceedings. Embraer S.A.:  On March 30, 2018, the U.S. District Court for the Southern District of New York dismissed a class action lawsuit against Brazilian-based aircraft manufacturer Embraer, which had contended that Embraer made false statements in its securities filings pertinent to its 2016 FCPA resolution.  In dismissing the suit, the Honorable Richard M. Berman explained that a company’s filings need not constitute a wholesale “confession” and that companies “do not have a duty to disclose uncharged, unadjudicated wrongdoing.”  The Court found that Embraer properly disclosed that it might have to pay fines or incur sanctions as a result of the investigation, that the company’s financial statements were accurate, and that because Embraer’s code of ethics was “inherently aspirational,” an undisclosed breach of the code was not actionable under the securities laws. Petróleo Brasileiro S.A. – Petrobras:  On June 4, 2018, the U.S. District Court for the Southern District of New York held a final settlement hearing for a securities class action brought against Brazil’s state oil company Petrobras.  As previously reported in our 2017 Mid-Year FCPA Update, the class action plaintiffs—purchasers of Petrobras securities in the United States—alleged that Petrobras made materially false and misleading statements about its earnings and assets as part of a far-reaching money laundering and bribery scheme in Brazil.  The settlement, which does not involve any admission of wrongdoing or misconduct by Petrobras and, in fact, includes an express denial of liability, resolves these claims for a total of $2.95 billion paid by Petrobras plus an additional $50 million paid by its external auditor, PricewaterhouseCoopers Auditores Independentes (“PwC Brazil”).  In a series of opinions and orders from June 25 to July 2, 2018, the Honorable Jed S. Rakoff approved of the settlement, but reduced counsel fees for the plaintiffs by nearly $100 million, to just over $200 million total. Civil Fraud / RICO Actions Bermuda As reported in our 2017 Mid-Year FCPA Update, the Government of Bermuda filed a Racketeer Influenced and Corrupt Organizations Act (“RICO”) lawsuit in U.S. District Court for the District of Massachusetts against Lahey Clinic, Inc., alleging that, for nearly two decades, the defendants conspired with Dr. Ewart Brown—the former Premier of Bermuda, a member of Bermuda’s Parliament, and the owner of two private health clinics in Bermuda—to receive preferential treatment.  On March 8, 2018, the Honorable Indira Talwani granted Lahey’s motion to dismiss, finding the Government of Bermuda had failed to demonstrate that it had suffered an injury to its U.S.-held business or property as a result of the alleged schemes. EIG Global Energy Partners Litigation In our 2017 Mid-Year FCPA Update we covered the civil fraud lawsuit against Petrobras filed by various investment funds, including EIG Global Energy Partners, alleging the funds lost their investment in an offshore drilling project known as “Sete” as a result of the Operation Car Wash scandal.  On March 30, 2017, the U.S. District Court for the District of Columbia largely denied Petrobras’s motion to dismiss, finding in relevant part that Petrobras was not immune from civil lawsuit under the Foreign Sovereign Immunities Act (“FSIA”) because the suit concerned Petrobras’s commercial activities having a “direct effect” in the United States.  Petrobras took an interlocutory appeal of the FSIA ruling. On July 3, 2018, the U.S. Court of Appeals for the District of Columbia Circuit affirmed the judgment of the district court in a 2-1 decision authored by the Honorable Karen L. Henderson.  “Although a foreign state is presumptively immune from the jurisdiction of United States courts,” the Court held that the “direct-effect” exception to the FSIA applied on the facts as alleged by EIG in its complaint, while at the same time acknowledging that other “third-party lenders might have also injured EIG” and that the “locus” of the tort was foreign.  The Honorable David B. Sentelle filed a dissenting opinion in which he concluded that the requisite “direct effect” on U.S. commerce had not been established sufficiently to divest Petrobras of its presumptive right to immunity from suit in the U.S. courts. This is not the only RICO litigation initiated by EIG arising out of its failed Brazilian investment.  As summarized in our 2017 Year-End FCPA Update, in December 2017 Keppel Offshore & Marine Ltd. paid more than $422 million in penalties for its alleged bribery scheme with Brazilian government officials, including officials at Petrobras.  On February 6, 2018, EIG funds that had invested with Keppel filed suit in the U.S. District Court for the Southern District of New York seeking more than $660 million in damages for alleged RICO violations.  Plaintiffs allege that Keppel did not disclose its scheme to bribe Brazilian officials to secure contracts for the Sete project, and, after being discovered, the bribery scheme effectively wiped out EIG’s $221 million investment.  EIG has since amended its complaint to add additional predicate acts, and a briefing schedule for the motion to dismiss has been issued by the Honorable Paul G. Gardephe. Harvest Natural Resources On February 16, 2018, a recently-defunct Texas-based energy company, Harvest Natural Resources, Inc., filed suit in the U.S. District Court for the Southern District of Texas against various individuals and entities affiliated with the Venezuelan government and Venezuela’s state oil company, PDVSA.  The complaint alleges that, because Harvest refused to pay four separate bribes to Venezuelan officials in the pay-to-play scheme resulting in criminal prosecutions as described above, the Venezuelan government wrongfully refused to approve the sale of Harvest’s energy assets, forcing Harvest to sell the assets to a different buyer at a loss of approximately $470 million.  The complaint further alleges that by requiring bribes to approve sales, Venezuela tainted the market and made it impossible for law-abiding companies to conduct business within the country.  The complaint claims that the defendants violated both the RICO and antitrust laws. On April 30, 2018, the defendants moved to dismiss the suit for failure to state a claim.  On May 11, 2018 Chief Judge Lee H. Rosenthal granted Harvest’s motion for jurisdictional discovery to test defendants’ jurisdictional ties and contacts. Setar On March 3, 2017, Setar, N.V., filed a civil suit in the U.S. District Court for the Southern District of Florida against several individuals and entities, including Lawrence W. Parker, Jr. and former Setar official Egbert Yvan Ferdinand Koolman, who as discussed above pleaded guilty to one count of FCPA conspiracy and one count of money laundering conspiracy, respectively.  In relevant part, an amended complaint filed in February 2018 alleges that Koolman orchestrated a years-long scheme to steal more than $15 million from Setar through kickbacks and other improper means.  According to Setar’s amended complaint, when the Panama Papers (covered in our 2016 Mid-Year FCPA Update) became public and linked Koolman to a British Virgin Islands company, this led to an internal investigation that resulted in Koolman’s termination and the identification of the scheme.  Various motions to dismiss have been filed, and the proceedings are ongoing. FCPA-Related FOIA Litigation 100Reporters LLC We have been covering for several years the Freedom of Information Act (“FOIA”) lawsuit filed by media organization 100Reporters against DOJ in the U.S. District Court for the District of Columbia.  100Reporters sought records relating to DOJ’s 2008 FCPA resolution with Siemens AG and the monitorship reports prepared by Dr. Theo Waigel and his U.S. counsel, F. Joseph Warin of Gibson Dunn. As discussed in our 2017 Mid-Year FCPA Update, on March 31, 2017, the Honorable Rudolph Contreras granted defendants’ motions for summary judgment, in part, and denied in its entirety 100Reporters’ cross-motion for summary judgment.  The Court accepted Gibson Dunn’s position on behalf of Dr. Waigel that the “consultant corollary” to the deliberative process privilege may extend to communications between a government agency and an independent monitor and thereby shield information from disclosure under FOIA Exemption 5—the first time a court has applied the consultant corollary to a compliance monitor.  Judge Contreras denied summary judgment on these grounds because DOJ did not specifically identify the deliberative process at issue with respect to each type of documents withheld by DOJ, and left the door open for defendants to submit further affidavits to support this argument.  The Court also ordered DOJ to submit a copy of one monitorship work plan and one monitorship report for in camera review to assess whether any of the withheld materials could be segregated from non-exempt material. In response to the Court’s order, DOJ submitted two new declarations from DOJ personnel involved in the monitorship, an amended chronology of events supporting the deliberative process privilege, and the materials required for in camera review.  DOJ and 100Reporters filed renewed cross-motions for summary judgment. On June 18, 2018, the Court granted in part and denied in part both sets of cross-motions for summary judgment.  Judge Contreras scrutinized the materials submitted by DOJ and held that DOJ’s Exemption 4 withholdings were overbroad and although DOJ had justified withholding certain information under Exemption 5, those withholdings also were overbroad.  Ultimately, the Court determined that certain materials should be produced to 100Reporters; however, the Court determined that DOJ properly withheld the monitorship reports themselves (aside from a single, brief “best practices” subsection of each report), as well as draft work plans, presentations by the Monitor to DOJ, and correspondence among the Monitor, monitorship team, and DOJ.  Thus, the core monitorship materials, including the monitorship reports, will be withheld.  Judge Contreras ordered DOJ to reexamine its withholdings and redactions in light of the Court’s guidance and disclose the newly identified non-exempt information to 100Reporters. Monitor Candidates As covered in our 2016 Year-End and 2017 Mid-Year FCPA Updates, GIR Just Anti-Corruption journalist Dylan Tokar filed a December 2016 FOIA lawsuit in the U.S. District Court for the District of Columbia seeking disclosure of the names of corporate compliance monitor candidates submitted by 15 companies that settled FCPA charges through agreements that contained a monitorship requirement, as well as information regarding the DOJ committee tasked with evaluating and selecting such candidates.  In 2017, DOJ provided the identity of some of the firms associated with the monitorship candidates and certain information about the DOJ committee—but withheld the names of the candidates who were not selected, citing privacy concerns reflected in FOIA Exemptions 6 and 7(C).  When DOJ refused to answer a second request for the candidate names, the parties cross-moved for summary judgment. On March 29, 2018, the Honorable Rudolph Contreras granted GIR Just Anti-Corruption‘s motion for summary judgment.  The Court rejected DOJ’s contention that the FOIA request would not lead to enhanced public understanding of the monitor selection process, instead concluding that GIR Just Anti-Corruption “sufficiently demonstrated that the public interest will be significantly served by the release of these names.”  The Court also rejected DOJ’s argument that its refusal to disclose the names of monitorship candidates fell under FOIA exemption 7(C), which traditionally shields individuals from the stigma of being associated with an ongoing investigation.  The Court denied the majority of DOJ’s cross-motion for summary judgment with the exception of granting DOJ’s argument regarding redaction of information relating to efforts by one of the companies to enhance its compliance program on trade secrets grounds.  DOJ released the names to GIR Just Anti-Corruption in June 2018. 2018 MID-YEAR INTERNATIONAL ANTI-CORRUPTION DEVELOPMENTS World Bank Integrity Vice Presidency Expands Consideration of Monitor Candidates In March 2018, the World Bank—through Integrity Vice Presidency (“INT”) head Pascale Hélène Dubois—changed course regarding those it will allow to serve as a compliance monitor for companies sanctioned by the World Bank.  Ms. Dubois explained in a written response to GIR Just Anti-Corruption that the World Bank now will consider representatives of law firms with concurrent cases before INT, so long as the individuals proposed as monitors are not currently advising on those cases.  By revising the prior approach of informally disqualifying candidates from firms that had faced INT as adversaries in sanctions proceedings, the World Bank has broadened the pool of potential candidates. Also in March, the World Bank Office of Suspension and Debarment (“OSD”) released a 10-year update of metrics regarding OSD’s role in World Bank enforcement.  The report illustrates the depth and breadth of efforts by the World Bank to ensure that those who participate in projects financed with World Bank funds play by World Bank rules, but also shows the difficulty of successfully challenging INT allegations of misconduct:  historically, OSD has agreed with the preliminary determinations of INT—agreeing in 96% of cases that INT had presented sufficient evidence for at least one claim set forth, and in 62% of cases that INT had presented sufficient evidence for all claims set forth. Europe United Kingdom As we reported in our 2017 Year-End United Kingdom White Collar Crime Update, last year six individuals were charged by the UK Serious Fraud Office (“SFO”) in connection with investigations of Unaoil.  The first half of 2018 brought additional developments in this investigation.  On May 22, 2018, the SFO announced charges against Basil Al Jarah (Unaoil’s Iraq partner) and Ziad Akle (Unaoil’s territory manager for Iraq) for conspiracy to pay alleged bribes to secure a $733 million contract to build two oil pipelines in Iraq.  And on June 26, 2018, the SFO announced charges against Unaoil Monaco SAM and Unaoil Ltd.  Unaoil Ltd was charged in connection with the same oil pipeline project, while Unaoil Monaco SAM was charged with conspiracy to make corrupt payments to secure the award of contracts for SBM Offshore.  Unaoil has been summoned to appear at the Westminster magistrates court in London on July 18, 2018. In other enforcement developments, following a three-day trial in the High Court in London, in March 2018 the SFO secured recovery of £4.4 million from two senior Chad diplomats to the United States who received bribes from Canadian oil and gas company Griffiths Energy International in exchange for securing oil development rights.  This is the first time that money was returned overseas in a civil recovery case.  As reported in our 2013 Year-End FCPA Update, on January 22, 2013 Griffiths entered a guilty plea in Canada and paid a CAD $10.35 million fine in connection with the alleged bribery. Look for much more on UK white collar developments in our forthcoming 2018 Mid-Year United Kingdom White Collar Crime Update, to be released on July 16, 2018. France As discussed above, in June 2018 SocGen entered into a deferred prosecution agreement with DOJ and reached a parallel settlement with the French PNF in the first coordinated enforcement action by DOJ and French authorities in an overseas anti-corruption case.  SocGen will also be subject to ongoing monitoring by the L’Agence Française Anticorruption. In two decisions this year, France’s Supreme Court—the Cour de Cassation—limited the use of “international double jeopardy” as a viable defense to criminal prosecution.  French law provides that a criminal conviction in another country will preclude prosecution in France if no act related to the conduct took place in France.  But in March 2018, the French Court ruled that the Swiss company Vitol could be prosecuted for charges related to its involvement in the U.N. Oil-for-Food Program, despite having entered a guilty plea for grand larceny in New York based on the same facts.  The case spent more than five years in French courts before the Supreme Court ruled that the International Covenant on Civil and Political Rights, to which France is a signatory, prevents double jeopardy on similar charges for “unique facts” and applies “only in cases where both proceedings were initiated in the territory of the same State.”  The decision thus appears to end the protection against prosecution in France for the same conduct that had given rise to proceedings in the United States. The 2018 Vitol decision resembled another recent ruling in which the French Supreme Court overturned a lower court’s refusal to hear the case against British-Israeli lawyer Jeffrey Tesler, who pleaded guilty in the United States to charges of bribing Nigerian officials.  As we reported in our 2017 Mid-Year FCPA Update, the Paris Court of Appeals had previously held that the prosecution of Tesler was precluded by his 2011 plea agreement entered in U.S. court, suggesting that the U.S. plea was essentially involuntary and precluded him from fairly defending himself in France.  On January 17, 2018, the French Supreme Court reversed that ruling, noting that Tesler had not been deprived of his right to a fair trial because his appearance in French courts was not dictated by the terms of the U.S. plea agreement.  Furthermore, because some of the corrupt acts had been committed in France, the U.S. plea deal did not preclude French prosecution. Germany In February 2018, the German unit of French aerospace multinational Airbus SE agreed to pay $99 million to resolve a six-year bribery investigation by German prosecutors into a 2003 deal to sell fighter jets to Austria.  Although prosecutors conceded that they had identified no evidence that bribes were used to secure the 2003 contract, they accused Airbus management of supervisory negligence in allowing employees to make large payments linked to the deal for “unclear purposes.”  Airbus continues to face ongoing litigation in Austria, where the Austrian government is seeking more than $1 billion in damages from Airbus in connection with the 2003 deal. Russia One of Russia’s semiautonomous republics, Dagestan, has become embroiled in a major corruption scandal, with the arrest of numerous high-ranking local government officials, including the acting prime minister, his two deputies, and the mayor of Makhachkala (Dagestan’s capital).  In Moscow, Alexander Drymanov, a high-level official within Russia’s Investigative Committee (“IC”) known to be very close to Alexander Bastrykin, the head of the IC, resigned from his position in early June.  His resignation has been widely linked to allegations that Drymanov and other IC officers accepted bribes from the ringleader of a prominent criminal syndicate to ensure the release of a member of this syndicate.  Additionally, in March 2018, Drymanov’s former deputy told federal investigators of payments he had made in exchange for favorable treatment from Drymanov.  Drymanov has characterized his departure as retirement; however, news reports suggest his removal is part of a coordinated attack against Bastrykin by other law enforcement agencies, such as the General Prosecutor’s Office and the FSB (the KGB’s successor). Ukraine Ukraine’s parliament passed a bill to establish an anti-corruption court on June 7, 2018, which President Petro Poroshenko signed into law four days later.  This court will become the fourth anti-corruption institution launched in Ukraine since 2014, following the establishment of the National Anti-Corruption Bureau of Ukraine (“NABU”), the Specialized Anti-Corruption Prosecutor’s Office (“SAPO”), and the National Agency on Corruption Prevention (“NAZK”).  There is hope that the new court will address one of the NABU’s key complaints:  that, despite investigations into and arrests of corrupt officials, these efforts are being wasted due to corrupt judges who help the officials escape justice.  The newly passed law creates certain mechanisms intended to ensure that the anti-corruption court’s judges remain impartial and do not become beholden to political or financial influence.  Most notably, candidates for appointment to this court are subject to vetting by and interviews with a panel of six international experts.  If three of the six raise concerns about a nominee’s integrity or background, they may vote to block the candidacy, which result can be reversed only following further deliberations and a repeat vote. Despite the generally positive reaction to this piece of legislation, commentators have voiced concerns over one provision added to the bill at the last moment, whereby regular courts will retain jurisdiction over ongoing corruption cases, and any resulting appeals also will be heard in courts of general jurisdiction, rather than the appellate branch of the anti-corruption court.  Anti-corruption activists have expressed outrage at the furtive way in which this provision became part of the law—it was absent from the version of the law read to members of parliament prior to their vote—and have suggested its purpose is to enable the acquittal of certain indicted individuals, already on (or awaiting) trial, by courts of general jurisdiction. The Americas Argentina A federal magistrate in Argentina has charged former President Cristina Fernández de Kirchner and her children with money laundering and ordered millions in assets seized.  In another enforcement proceeding, the Anticorruption Office is seeking a prison sentence of five-and-a-half years, along with permanent disqualification from public office, against ex-Vice President and former Minister of Finance Amado Boudou after his conviction for “passive bribery” and “transactions incompatible with the exercise of public functions.”  The sentencing follows a trial concerning Boudou’s purchase of 70% of a then-bankrupt government contractor and his subsequent actions to have the bankruptcy lifted so that the contractor could again participate in federal government contracts. As covered in our Key 2017 Developments in Latin American Anti-Corruption Enforcement client alert, Argentina has passed sweeping new anti-corruption legislation under which legal entities are strictly liable for crimes such as bribery, extortion, or illicit enrichment of public officials that are committed, directly or indirectly, in their name, interest, or benefit.  Punishment for violating the law may result in one or a combination of criminal fines, suspension of state benefits, debarment, and dissolution.  To be exempt from penalties and administrative responsibility under the new law, legal entities must be able to demonstrate that they reported the wrongdoing as a result of a proper internal investigation; implemented a compliance program prior to commission of the act in question; and returned the benefit that was wrongfully obtained.  Companies facing possible sanctions may mitigate their punishment by cooperating in an active investigation.  Such cooperation includes disclosing accurate, actionable information that sheds further light on potential wrongdoing, recovery of assets, or identification of individual offenders. Articles 22 and 23 of the new law outline requirements for compliance or “integrity” programs.  The programs should be designed to prevent, detect, and correct irregularities and illicit acts taken by the corporation, its representatives, or third parties that confer a benefit to the company.  To receive exemption from any penalties under the law, companies must create internal compliance reporting methods and develop procedures to investigate reports.  The law requires that the compliance or integrity program contain at least (1) a code of conduct; (2) rules and procedures to prevent illicit acts in the course of bidding for administrative contracts, or in any other interaction with the public sector; and (3) periodic training programs for directors, administrators, and staff. Brazil Despite facing economic and political uncertainty, Brazil remains a driving force in global anti-corruption efforts.  Brazilian law enforcement entities across the country increasingly are cooperating with each other, as well as with dozens of foreign enforcement authorities.  Operation Lava Jato (Car Wash), now in its fifth year, continues to accumulate convictions related to a vast corruption scheme that exploited contracts with Brazil’s state-owned oil company, Petrobras.  So far, prosecutors have charged approximately 400 individuals and obtained more than 200 convictions on charges including corruption, money laundering, and abuse of the international financial system.  Building on its previous efforts, the Car Wash Task Force has initiated four new phases of Car Wash in 2018, many of which dig deeper into allegations that came to light in previous phases. We discussed in our 2017 Year-End FCPA Update the conviction of President Luiz Inácio Lula da Silva on corruption and money laundering charges.  Despite his conviction, Lula remained the front-runner for Brazil’s October 2018 presidential election.  In April 2018, however, Lula was ordered to turn himself in and begin serving his 12-year prison sentence.  Now in prison and with little hope of successfully appealing his conviction, it is unlikely Lula will be eligible to run for the presidency. Brazilian authorities also have expanded Operation Carne Fraca (“Weak Flesh”), which covers allegations of bribery in the Brazilian meatpacking industry to evade food safety inspections.  After launching the investigation in 2017, authorities carried out a third investigative phase in March 2018.  The new phase focused on Brazilian food processing giant BRF, with police arresting former BRF CEO Pedro de Andrade Faria, former BRF Vice President of Global Operations Helio dos Santos, and other executives.  Meanwhile, authorities have continued to investigate Brazilian meatpacking company JBS and its parent company, J & F Investimentos.  Its former executives and part owners Joesley and Wesley Batista—who were targets of earlier phases of Weak Flesh, as reported in our 2017 Year-End FCPA Update, and had been in prison since 2017—were released from prison after their prison sentences were commuted to house arrest in February 2018.  In May 2018, Brazilian authorities again arrested Joesley Batista, charging him with corruption, money laundering, and obstruction of justice.  Additional charges are expected, particularly as additional Brazilian law enforcement entities join the investigations. Canada In February 2018, Public Services and Procurement Canada (“PSPC”), the division of the Canadian government responsible for internal administration, announced that it would introduce legislation to adopt the use of deferred prosecution agreements as a new tool to penalize corporate wrongdoing.  The proposed program, known as the Remediation Agreement Regime, is intended to encourage companies to voluntarily disclose potential misconduct by offering a potential alternative to criminal conviction and debarment.  Legislation to adopt the Regime was introduced in March 2018.  Under the proposed bill, “remediation agreements” would be subject to prosecutorial discretion and, as in the United Kingdom, would require judicial approval and oversight.  Notably, only certain economic crimes—bribery, fraud, insider trading, and books-and-records violations, among others—would be eligible for deferred prosecution under the current draft of the bill. In addition to proposing the adoption of deferred prosecution agreements, PSPC in March further announced it would work to enhance the government-wide “Integrity Regime” debarment program.  Under the current program, companies convicted of certain white collar offenses are banned from bidding on government contracts for a period of 10 years, which can be reduced to a five-year ban in certain circumstances.  According to a March 2018 press release, enhancements to the program will include increasing the number of triggers that can lead to debarment, as well as introducing greater flexibility in debarment decisions.  A detailed description of the Integrity Regime’s new provisions will be included in a revised Ineligibility and Suspension Policy to be published on November 15, 2018.  The enhanced program will come into effect on January 1, 2019. Colombia As reported in our 2017 Mid-Year FCPA Update, former National Director of Anti-Corruption for Colombia’s Office of the Attorney General Luis Gustavo Moreno Rivera was charged in U.S. federal court with conspiracy to commit money laundering and related charges in June 2017.  On May 18, 2018, Moreno was extradited from Bogotá to Miami on charges stemming from an alleged bribery scheme.  Moreno and his purported middleman, Colombian attorney Leonardo Luis Pinilla Gomez, are accused of receiving a $10,000 bribe in a Miami mall bathroom in exchange for confidential information, including witness statements, from Moreno’s corruption investigation of former Córdoba governor Alejandro Lyons Muskus.  The exchange allegedly was a down payment for a $132,000 deal, in which Moreno agreed to discredit a witness in a case against Lyons before the IRS.  Recorded conversations purportedly capture Moreno and Pinilla discussing Moreno’s ability to control and obstruct the investigation.  Moreno and Pinilla were arraigned in Miami in late May and face wire fraud and money laundering-related charges. In August 2018, Colombia will hold a public referendum allowing citizens to vote on seven proposals aimed at combating graft and corruption.  The referendum will include provisions amending prison sentences and imposing lifelong bans on government employment for individuals found guilty of corruption, lower salaries for legislators and senior government officials, terms limits for holding office in public companies, and greater transparency in the bidding processes for government contracts. Guatemala Corruption investigations in Guatemala continued to face obstacles in early 2018.  As noted in our 2017 Year-End FCPA Update, President Jimmy Morales attempted to expel from Guatemala Iván Velásquez, a Colombian prosecutor and head of the International Commission Against Impunity (known by its Spanish acronym “CICIG”), on August 27, 2017.  CICIG is a U.N. commission created in 2006 to investigate corruption in the Guatemalan government.  The attempted expulsion came after Velásquez and Guatemalan Attorney General Thelma Aldana announced an investigation into Morales for illegal campaign financing.  Though the Guatemalan Supreme Court blocked the expulsion and other attempts to prevent investigations into Morales, CICIG remains embattled. In March 2018, the Guatemalan government removed 11 national police investigators from CICIG, disrupting the investigation into Morales and other high-ranking government officials.  Additionally, U.S. Senator Marco Rubio has placed $6 million in U.S. aid to CICIG, which represents a third of its annual budget, on hold, citing suspected manipulation of CICIG by Russian bank VTB to politically persecute a Russian family.  Rubio’s concerns stem from CICIG’s involvement in the criminal conviction of the Bitkov family, Russian nationals found guilty of purchasing false Guatemalan passports and entering Guatemala illegally after the state-owned Russian bank targeted their paper business. Despite these challenges, CICIG has moved forward with other investigations.  In February, former President Álvaro Colom and nine members of his cabinet were arrested.  Among them is Juan Alberto Fuentes Knight, a former finance minister and current chairman of Oxfam International.  The investigation concerns a $35 million deal for a public bus system in Guatemala City.  Prosecutors allege that nearly a third of the funding was spent on equipment that went unused. Honduras The Organization of American States Mission to Support the Fight Against Corruption and Impunity in Honduras (known by its Spanish-language acronym, “MACCIH”) has faced a number of setbacks over the past six months.  In December 2017, MACCIH and the Public Ministry (national prosecutors) indicted five outgoing members of the Honduran Congress for misappropriating public funds in a case known as Red de Diputados.  Around the time of the announcement, then-Spokesman and Head of MACCIH Juan Jiménez Mayor said that between 60 and 140 additional legislators were under investigation as part of the corruption probe.  Shortly thereafter, Congress passed a law blocking MACCIH from assisting the Public Ministry, and ordering the Tribunal Superior de Cuentas (“TSC”)—a government body dominated by ruling party stalwarts—to engage in an audit of the funds that Congress members have received since 2006.  The new measure shields members of Congress from legal action until the TSC concludes its investigation, which may take several years.  Citing the new law, the judge overseeing the Red de Diputados case released the five indicted congresspersons and postponed their trial.  On February 15, 2018, MACCIH’s director, Jiménez Mayor, announced in an open letter that he was resigning from the organization as a result of the challenges of working with the Honduran government and a lack of support from OAS Secretary General Luis Almagro Lemes. In late May 2018, the Honduran Supreme Court partially invalidated an agreement that created the Fiscal Unit Against Impunity and Corruption (“UFECIC”), the entity within the Public Ministry that worked with MACCIH.  The controversial ruling came in response to a legal challenge to MACCIH brought by three individuals accused by prosecutors and MACCIH of embezzling money in connection with the Red de Diputados case.  The plaintiffs argued that MACCIH should be declared unconstitutional because it violated Honduras’ sovereignty and the independence of its governmental organizations.  Though the court rejected that argument, it determined that the UFECIC, by serving as MACCIH’s investigative arm, impermissibly delegated constitutional functions to MACCIH and thus should be invalidated.  The Supreme Court’s decision followed lobbying by members of Honduras’s Congress—many of whom were being investigated by MACCIH—to invalidate the entire anti-corruption mission.  The opinion has been criticized by anti-corruption advocates. Mexico On May 18, 2018, the Mexican government published new requirements for companies wishing to contract with Petróleos Mexicanos (“PEMEX”), the Mexican state-owned oil company and a subject of numerous FCPA enforcement actions.  The new rules require parties contracting with PEMEX to have compliance programs designed to prevent and detect any instances of corruption.  The compliance program must remain in force for the duration of the contract with PEMEX and PEMEX has the power to verify the program.  The newly published regulations do not specify requirements for the compliance program, though one guidepost may be the Mexican Ministry of Public Administration’s Model Program for Company Integrity in the recently passed General Law of Administrative Responsibility (“GLAR”).  As discussed in our Key 2017 Developments in Latin American Corruption Enforcement client alert, the Model Program calls for clearly written anti-corruption policies and procedures, training, and avenues for reporting potential misconduct. In October 2017, Santiago Nieto was fired from his post as Special Prosecutor for Electoral Crimes.  Nieto claimed that his firing was politically motivated to halt his investigation into whether funds solicited by Emilio Lozoya Austin—CEO of PEMEX—were used to finance President Enrique Peña Nieto’s 2012 campaign.  This May, the Mexican government initiated an investigation against Lozoya, which remains ongoing.  Lozoya is alleged to have requested and received millions of dollars of improper payments from the Brazilian construction firm Odebrecht.  Nevertheless, the Mexican government has thus far not pursued further investigations into whether government officials accepted bribes from Odebrecht.  In April, Mexico issued administrative sanctions against Odebrecht, barring the company from doing business in the country for at least two years and three months.  The Mexican government also has fined Odebrecht $30 million. Peru Peruvian President Pedro Pablo Kuczynski resigned on March 21, 2018, the day before a scheduled congressional impeachment vote.  As reported in our 2017 Year-End FCPA Update, Kuczynski has been the subject of an investigation involving former Odebrecht CEO Marcelo Odebrecht‘s alleged payment of $29 million in bribes to Peruvian officials, including Kuczynski and former presidents Ollanta Humala and Alejandro Toledo.  Kuczsynski’s resignation followed quickly after surreptitiously recorded videos purported to show his colleagues, including Peruvian congressman Kenji Fujimori, bribing opponents with public contracts in exchange for voting against his impeachment in the 2018 vote.  Martín Vizcarra, the Vice-President, assumed the Peruvian presidency in Kuczynski’s place and will serve out his term through 2021. On June 10, 2018, Peruvian prosecutors formally opened an investigation into Kuczynski, Toledo, and former president Alan García for allegedly accepting bribes from Odebrecht.  The three former Peruvian Presidents are suspected of promising construction contracts in exchange for undeclared campaign contributions.  Humala already was under investigation for similar allegations; he and his wife were arrested in July 2017 but were released in May 2018 because no formal charges had yet been filed against them.  Toledo, who has been living in the United States, continues to fight extradition to Peru. Asia Bangladesh Bangladesh’s former two-term Prime Minister, Khaleda Zia, was sentenced to a five-year prison term in February 2018.  Zia had been convicted of embezzling donations meant for an orphanage trust established during her term as Prime Minister.  In March 2018, a Bangladeshi court granted bail to Zia, prompting hopes that she could participate in a December general election.  Despite a decision by the  Bangladeshi Supreme Court upholding a lower court’s decision to grant Zia bail, Zia remains imprisoned as her bail related to other charges has been denied.  Zia faces more than 30 separate inquiries into allegations of violence and corruption. China China’s anti-corruption campaign continues to be a priority as Xi Jinping moves into his second term.  Following the nationwide pilot scheme of the National Supervisory System rolled out in November 2017, in March 2018 the National People’s Congress (“NPC”) passed the Supervision Law of the People’s Republic of China (“PRC Supervision Law”) and at the same time amended the Chinese Constitution.  This provided legal and constitutional foundation for the National Supervisory System.  Supervisory Commissions at national and local levels are a new organ of the state and have jurisdiction to investigate corruption by all public servants in China, including those who are not party members.  Supervisory commissions have broad investigative powers to conduct interviews and interrogations, carry out inquiries and searches, freeze assets, obtain, seal/block and seize properties, records and evidence, conduct inquests, inspections and forensic examinations, and to detain individuals under a new mechanism known as “Liu Zhi.”  The 2018 NPC also approved a wide ranging reorganization of the Ministries under the State Council.  This means that enforcement of commercial bribery offenses under the Anti-Unfair Competition Law will now be carried out by the new State Administration for Market Regulation and its local counterparts. The first half of 2018 has also seen prosecution and sentencing of a number of high-profile individuals for corruption offenses.  Most notably in May 2018, Sun Zhengcai, a former member of the Politburo, was sentenced to life for bribery.  Sun had served as party chief of Chongqing, succeeding Bo Xilai who was sentenced to life imprisonment for corruption offenses in 2013.  He is the first serving member of the Politburo to be targeted by the campaign.  Xiang Junbo, the former Chairman of China’s now-defunct insurance regulator and the highest-ranking finance official snared in China’s anti-corruption campaign, has pleaded guilty to taking bribes and is awaiting sentencing. India In February 2018, the Central Bureau of Investigation (“CBI”) registered a case against executives of the Indian subsidiary of U.S.-based engineering and construction firm CDM Smith, as well as officials of the National Highways Authority of India (“NHAI”).  According to the CBI, CDM Smith paid bribes through its Indian subsidiary to various officials of the NHAI to secure infrastructure contracts between 2011 and 2016. The CDM Smith executives that stand accused allegedly disguised their bribes as “allowable business expenses” on their income tax returns.  The CBI enforcement action follows the 2016 Pilot Program declination with CDM Smith (covered in our 2017 Mid-Year FCPA Update) in which CDM Smith agreed to disgorge just over $4 million in profits in connection with the alleged improper payments to the NHAI. On April 4, 2018, the Indian government sought to pass the Prevention of Corruption (Amendment) Bill, 2013 (discussed in our 2016 Year-End FCPA Update) at a parliamentary session held at the Rajya Sabha (otherwise known as the Council of States, the upper house of the Indian Parliament).  The proposed law would introduce specific offenses and fines for commercial organizations engaging in bribery in India, create a specific offense for offering a bribe, and provide for criminal liability for company management of companies engaging in corrupt practices.  However, the Bill failed to be passed.  The Bill’s prospects of passage remain unclear. Korea The first half of 2018 saw a number of high-profile charges and convictions for corruption-related offenses.  As reported in our 2017 Year-End FCPA Update, then-President Park Geun-Hye was impeached in December 2016 amid allegations of influence peddling and corruption.  In April 2018, Park was convicted of 16 corruption-related offenses, including abuse of power, bribery, and coercion.  She was sentenced to 24 years’ imprisonment and a fine of KRW 18 billion (approximately $16 million).  Park decided not to appeal her sentence and is currently serving her jail term.  Choi Soon-Sil, Park’s friend and advisor who was accused of coercing Korean conglomerates into donating millions of dollars to charitable organizations connected to the former President, was sentenced in February 2018 to 20 years’ imprisonment for influence peddling, abuse of power, and corruption. In March 2018, another former Korean President, Lee Myung-Bak, was arrested on multiple charges of corruption, including bribery, embezzlement, tax evasion, and abuse of power.  Lee allegedly received more than KRW 11 billion (approximately $10 million) in bribes before and during his presidency.  Lee’s trial began at the end of May 2018 and is ongoing. As reported in our 2017 Year-End FCPA Update, Samsung Electronics Vice Chairman Lee Jae Yong was convicted of bribery and related charges and sentenced to five years’ imprisonment in August 2017.  In an unexpected turn of events, Lee was released from prison in February 2018, after the Seoul High Court halved his jail term to 2.5 years and suspended his sentence on appeal.  In contrast, Lotte Group’s Chairman Shin Dong Bin was convicted of bribery and sentenced to 30 months’ imprisonment and a fine of KRW 7 billion (approximately $6.5 million) in February 2018.  The court found that he paid KRW 7 billion (approximately $6.5 million) to Choi Soon-Sil’s K Sports Foundation in return for Park’s support of reissuing Lotte’s business permit to operate its duty-free stores.  Shin remains imprisoned while his appeal of the sentence continues. Middle East and Africa Israel In January 2018, the Office of Israel’s Tax and Economic Prosecutor announced that it reached a Conditional Agreement with Teva Pharmaceuticals Industries Ltd, the world’s largest manufacturer of generic pharmaceutical products.  The agreement arose from alleged corrupt payments made between 2002 and 2012 to high-ranking ministry of health officials in Russia and Ukraine to influence the approval of drug registrations, as well as to state-employed physicians in Mexico to influence the prescription of products.  As part of the agreement with Israeli authorities, Teva agreed to pay a fine of approximately $22 million, on top of the $519 million it paid to resolve FCPA charges arising from the same conduct, as covered in our 2016 Year-End FCPA Update.  This was the second enforcement action brought under Israel’s foreign bribery statute and the first involving a Conditional Agreement.  Israeli prosecutors stated that the decision to enter into a Conditional Agreement with Teva was based on various factors, including the large penalty already paid to U.S. authorities, Teva’s cooperation and remediation, and recent financial hardships incurred by Teva. Saudi Arabia Earlier this year, Saudi officials began taking steps to conclude a large anti-corruption probe initiated in November 2017 by Saudi Arabian Crown Prince Mohammed bin Salman that involved the detainment and questioning of hundreds of influential Saudis (covered in our 2017 Year-End FCPA Update).  According to one prosecutor, the government reached settlements worth $106 billion as a result of the probe.  Although most detainees have been released, some remain in custody pending trial.  Some analysts have viewed the corruption campaign as a power grab by Prince Mohammed, but the Saudi government insists its focus is combating endemic corruption.  In March 2018, Saudi officials announced that new anti-corruption departments were added to the Attorney General’s office in furtherance of King Salman and Crown Prince Mohammed’s goal to eradicate corruption. South Africa In April 2018, South African officials announced the reopening of a corruption investigation involving alleged abuse of public funds for a dairy farm in Vrede.  The investigation initially focused on Ace Magashule, secretary general of the African National Congress, and Mosebenzi Joseph Zwane, the former minister of mineral resources.  According to prosecutors, the dairy farm project was intended to help black farmers but instead funneled $21 million to business allies of the African National Congress.  As part of the investigation, prosecutors seized $21 million from three brothers known to be family friends and political allies of South Africa’s former President Jacob Zuma, who was ousted in February 2018 in connection with corruption allegations. CONCLUSION As is our semiannual tradition, over the following weeks Gibson Dunn will be publishing a series of enforcement updates for the benefit of our clients and friends as follows: Tuesday, July 10 – 2018 Mid-Year Update on Corporate NPAs and DPAs; Wednesday, July 11 – 2018 Mid-Year False Claims Act Update; Thursday, July 12 – Developments in the Defense of Financial Institutions; Friday, July 13 – 2018 Mid-Year Class Actions Update; Monday, July 16 – 2018 Mid-Year UK White Collar Crime Update; Tuesday, July 17 – 2018 Mid-Year Media and Entertainment Update; Wednesday, July 18 – 2018 Mid-Year Securities Litigation Update; Thursday, July 19 – 2018 Mid-Year Government Contracts Litigation Update; Monday, July 23 – 2018 Mid-Year UK Labor & Employment Update; Tuesday, July 24 – 2018 Mid-Year Shareholder Activism Update; Thursday, July 26 – 2018 Mid-Year Healthcare Compliance and Enforcement Update – Providers; Friday, July 27 – 2018 Mid-Year Securities Enforcement Update; and Wednesday, August 1 – 2018 Mid-Year FDA and Health Care Compliance and Enforcement Update – Drugs and Devices. The following Gibson Dunn lawyers assisted in preparing this client update: F. Joseph Warin, John Chesley, Richard Grime, Christopher Sullivan, Jacob Arber, Elissa Baur, Josh Burk, Ella Alves Capone, Claire Chapla, Grace Chow, Stephanie Connor, Daniel Harris, William Hart, Patricia Herold, Korina Holmes, Derek Kraft, Miranda Lievsay, Zachariah Lloyd, Lora MacDonald, Andrei Malikov, Michael Marron, Jesse Melman, Steve Melrose, Jaclyn Neely, Jonathan Newmark, Nick Parker, Jeffrey Rosenberg, Rebecca Sambrook, Emily Seo, Jason Smith, Pedro Soto, Laura Sturges, Karthik Ashwin Thiagarajan, Caitlin Walgamuth, Alina Wattenberg, Oliver Welch, Oleh Vretsona, and Carissa Yuk. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these issues.  We have more than 110 attorneys with FCPA experience, including a number of former federal prosecutors and SEC officials, spread throughout the firm’s domestic and international offices.  Please contact the Gibson Dunn attorney with whom you work, or any of the following leaders and members of the FCPA group: Washington, D.C. F. Joseph Warin – Co-Chair (+1 202-887-3609, fwarin@gibsondunn.com) Richard W. Grime (+1 202-955-8219, rgrime@gibsondunn.com) Patrick F. Stokes (+1 202-955-8504, pstokes@gibsondunn.com) Judith A. Lee (+1 202-887-3591, jalee@gibsondunn.com) David P. Burns (+1 202-887-3786, dburns@gibsondunn.com) David Debold (+1 202-955-8551, ddebold@gibsondunn.com) Michael S. Diamant (+1 202-887-3604, mdiamant@gibsondunn.com) John W.F. Chesley (+1 202-887-3788, jchesley@gibsondunn.com) Daniel P. 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Welch (+852 2214 3716, owelch@gibsondunn.com) São Paulo Lisa A. Alfaro – Co-Chair (+55 (11) 3521-7160, lalfaro@gibsondunn.com) Fernando Almeida (+55 (11) 3521-7095, falmeida@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP, 333 South Grand Avenue, Los Angeles, CA 90071 Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

June 27, 2018 |
Webcast: Developments in Virtual Currency Law and Regulation

The past year has seen an explosion in virtual currency offerings, as well as significant legal and regulatory developments as U.S. regulators have tried to keep pace with the industry. It is therefore timely for an analysis of these developments under a multi-disciplinary approach. Our team of experienced virtual currency practitioners analyze relevant issues from the perspective of U.S. securities regulation and enforcement, U.S. commodities regulation and enforcement, U.S. banking and licensed financial services law, and the U.S. anti-money laundering statutes and regulations. View Slides (PDF) PANELISTS: J. Alan Bannister is a partner in Gibson Dunn’s New York office and a member of the Firm’s Capital Markets, Global Finance and Securities Regulation and Corporate Governance Practice Groups. Mr. Bannister concentrates his practice on securities and other corporate transactions, acting for underwriters and issuers (including foreign private issuers), as well as strategic or other investors, in high yield, equity (including ADRs and GDRs), and other securities offerings, including U.S. public offerings, Rule 144A offerings, other private placements and Regulation S offerings, as well as re-capitalizations, NYSE and NASDAQ listings, shareholder rights offerings, spin-offs, PIPEs, exchange offers, other general corporate transactions and other advice regarding compliance with U.S. securities laws, as well as general corporate advice. Mr. Bannister also advises issuers and underwriters on dual listings in the U.S. and on various exchanges across Europe, Latin America and Asia. He has closely followed developments on Initial Coin Offerings (ICOs). Michael D. Bopp is a partner in Gibson Dunn’s Washington, D.C. office and Chair of the firm’s Public Policy group and its Financial Services Crisis Team, a multi-disciplinary group formed to address client concerns stemming from the credit and capital markets crisis.  Mr. Bopp engages in high-level, strategic policy and related regulatory work on a variety of issues but focuses on financial regulatory issues. He works with Congress and the Executive Branch on regulatory reform legislation and helping to shape new regulatory requirements promulgated as a result of the Dodd-Frank Act.  Mr. Bopp also has counseled numerous companies in complying with Dodd-Frank Act requirements.  From 2006-2008, Mr. Bopp served as Associate Director of the Office of Management and Budget in the White House, and was responsible for overseeing budgets and coordinating regulatory, legislative, and other policy for approximately $150 billion worth of spending for various government agencies, including the Departments of Treasury, Homeland Security, Transportation, Justice, Housing and Urban Development, and Commerce, the General Services Administration, the U.S. Securities and Exchange Commission and the Commodity Futures Trading Commission.  As a result of his work on financial regulatory and policy issues, Mr. Bopp has been named one of the 100 most influential people in finance by Treasury and Risk magazine. M. Kendall Day is a partner in Gibson Dunn’s Washington, D.C. office and a member of the White Collar Defense and Investigations and the Financial Institutions Practice Groups. His practice focuses on internal investigations, regulatory enforcement defense, white-collar criminal defense, and compliance counseling for financial institutions, multi-national companies, and individuals. Prior to joining Gibson Dunn, Mr. Day spent 15 years as a white-collar prosecutor, serving most recently as an Acting Deputy Assistant Attorney General of the U.S. Department of Justice’s Criminal Division. In that role, Mr. Day supervised more than 200 Criminal Division prosecutors and professionals tasked with investigating and prosecuting many of the country’s most significant and high-profile cases involving corporate and financial misconduct. He also had supervisory authority over every Bank Secrecy Act and money-laundering charge, deferred prosecution agreement and non-prosecution agreement involving every type of financial institution. Arthur S. Long is a partner in Gibson Dunn’s New York office, Co-Chair of Gibson Dunn’s Financial Institutions Practice Group and a member of the Securities Regulation Practice Group. Mr. Long focuses his practice on financial institutions regulation, advising on the regulatory aspects of M&A transactions; bank regulatory compliance issues; Dodd-Frank issues, including the regulation of systemically significant financial institutions (SIFIs) and related heightened capital and liquidity requirements; resolution planning; and Volcker Rule issues with respect to bank proprietary trading and private equity and hedge fund operations. Mr. Long has concentrated on the issues raised under U.S. state and federal banking law and state money transmission law by virtual currencies. Carl E. Kennedy is Of Counsel in Gibson Dunn’s New York office and a member of the firm’s Financial Institutions, Energy, Regulation and Litigation, and Public Policy Practice Groups. Mr. Kennedy applies his prior financial services and government experience to assisting clients with myriad regulatory, legislative, compliance, investigative and litigation issues relating to the commodities and derivatives markets. Mr. Kennedy served as Special Counsel and Policy Advisor to Commissioner Scott O’Malia at the U.S. Commodity Futures Trading Commission (CFTC) where he advised the commissioner on a full range of legal, regulatory and policy matters before the CFTC. While also at the CFTC, Mr. Kennedy was Legal Counsel in the Office of the General Counsel where he played a key role in the commission’s adoption of several rulemakings and guidance implementing the Dodd-Frank Act. Jeffrey L. Steiner is Counsel in Gibson Dunn’s Washington, D.C. office and is a member of the firm’s Financial Institutions, Energy, Regulation and Litigation, Investment Funds and Public Policy Practice Groups. Mr. Steiner co-leads the firm’s Derivatives team, as well as the firm’s Digital Currencies and Blockchain Technology team. Prior to joining Gibson Dunn, Mr. Steiner was special counsel in the Division of Market Oversight at the Commodity Futures Trading Commission (CFTC) where he drafted rules that became the current regulatory framework for over-the-counter derivatives. He advises commercial end-users, financial institutions, dealers, hedge funds, private equity funds, clearinghouses, industry groups and trade associations on regulatory, legislative and transactional matters related to OTC and listed derivatives, commodities and securities, including those relating to the Dodd-Frank Act, the rules of the CFTC, the Securities and Exchange Commission (SEC), the National Futures Association and the prudential banking regulators. Mr. Steiner also advises a range of clients on issues related to digital currencies and distributed ledger technology, including analyzing regulatory and enforcement matters relating to their implementation and use. MCLE CREDIT INFORMATION: This program has been approved for credit in accordance with the requirements of the New York State Continuing Legal Education Board for a maximum of 1.50 credit hours, of which 1.50 credit hours may be applied toward the areas of professional practice requirement.  This course is approved for transitional/non-transitional credit. Attorneys seeking New York credit must obtain an Affirmation Form prior to watching the archived version of this webcast.  Please contact Jeanine McKeown (National Training Administrator), at 213-229-7140 or jmckeown@gibsondunn.com to request the MCLE form. Gibson, Dunn & Crutcher LLP certifies that this activity has been approved for MCLE credit by the State Bar of California in the amount of 1.50 hours. California attorneys may claim “self-study” credit for viewing the archived version of this webcast.  No certificate of attendance is required for California “self-study” credit.

June 14, 2018 |
Revisions to the FFIEC BSA/AML Manual to Include the New CDD Regulation

Click for PDF On May 11, 2018, the federal bank regulators and the Financial Crimes Enforcement Network (“FinCEN”) published two new chapters of the Federal Financial Institution Examination Council Bank Secrecy Act/Anti-Money Laundering Examination Manual (“BSA/AML Manual”) to reflect changes made by FinCEN to the CDD regulation.[1]  One of the chapters replaces the current chapter “Customer Due Diligence – Overview and Examination Procedures” (“CDD Chapter”), and the other chapter is entirely new and contains an overview of and examination procedures for “Beneficial Ownership for Legal Entity Customers” to reflect the beneficial ownership requirements of the CDD regulation (“Beneficial Ownership Chapter”).[2] The new CDD Chapter builds upon the previous chapter, adds the requirements of the CDD regulation, and otherwise updates the chapter, which had not been revised since 2007.  The Beneficial Ownership Chapter largely repeats what is in the CDD Rule.  Both new chapters reference the regulatory guidance and clarifications from the Frequently Asked Questions issued by FinCEN on April 3, 2018 (the “FAQs”).[3]   Other Refinements to the CDD Regulation May Impact the BSA/AML Manual Implementation of the CDD regulation is a dynamic process and may require further refinement of these chapters as FinCEN issues further guidance.  For instance, in response to concerns of the banking industry, on May 16, 2018, FinCEN issued an administrative ruling imposing a 90-day moratorium on the requirement to recertify CDD information when certificates of deposit (“CDs”) are rolled over or loans renewed (if the CDs or loans were opened before May 11, 2018).  FinCEN will have further discussions with the banking industry and will make a decision whether to make this temporary exception permanent within this 90-day period (before August 9, 2018).[4] In his May 16, 2018, testimony at a House Financial Services Committee hearing on “Implementation of FinCEN’s Customer Due Diligence Rule,” FinCEN Director Kenneth Blanco suggested that FinCEN may be receptive to refinements as compliance experience is gained with the regulation.  Director Blanco also indicated that there will be a period of adjustment for compliance with the regulation and that FinCEN and the regulators will not engage in “gotcha” enforcement, but are seeking “good faith compliance.” Highlights from the New Chapters Periodic Reviews:  The BSA/AML Manual no longer expressly requires periodic CDD reviews, but suggests that regulators may still expect periodic reviews for higher risk customers.  The language in the previous CDD Chapter requiring periodic CDD refresh reviews has been eliminated.[5]Consistent with FAQ 14, the new CDD Chapter states that updating CDD information will be event driven and provides a list of possible event triggers, such as red flags identified through suspicious activity monitoring or receipt of a criminal subpoena.  Nevertheless, the CDD Chapter does not completely eliminate the expectation of periodic reviews for higher risk clients, stating:  “Information provided by higher profile customers and their transactions should be reviewed . . . more frequently throughout the term of the relationship with the bank.”Although this appears to be a relaxation of the expectation to conduct periodic reviews, we expect many banks will not change their current practices.  For a number of years, in addition to event driven reviews, many banks have conducted periodic CDD reviews at risk based intervals because they have understood periodic reviews to be a regulatory expectation. Lower Beneficial Ownership Thresholds:  Somewhat surprisingly, there is no expression in the new chapters that consideration should be given to obtaining beneficial ownership at a lower threshold than 25% for certain high risk business lines or customer types.  The new Beneficial Ownership Chapter simply repeats the regulatory requirement stating that:  “The beneficial ownership rule requires banks to collect beneficial ownership information at the 25 percent ownership threshold regardless of the customer’s risk profile.”  The FAQs (FAQ 6 and 7) refer to the fact that a financial institution may “choose” to apply a lower threshold and “there may be circumstances where a financial institution may determine a lower threshold may be warranted.”  We understand that specifying an expectation that there should be lower beneficial thresholds for certain higher risk customers was an issue that was debated among FinCEN and the bank regulators.For a number of years, many banks have obtained beneficial ownership at lower than 25% thresholds for high risk business lines and customers (e.g., private banking for non-resident aliens).  Banks that have previously applied a lower threshold, however, should carefully evaluate any decision to raise thresholds to the 25% level in the regulation.  If a bank currently applies a lower threshold, raising the threshold may attract regulatory scrutiny about whether the move was justified from a risk standpoint.  Moreover, a risk-based program should address not only regulatory risk, but also money laundering risk.  Therefore, banks should consider reviewing beneficial ownership at lower thresholds for certain customers and business lines and when a legal entity customer has an unusually complex or opaque ownership structure for the type of customer regardless of the business line or risk rating of the customer. New Accounts:  The new chapters do not discuss one of the most controversial and challenging requirements of the CDD rule, the requirement to verify CDD information when a customer previously subject to CDD opens a new account, including when CDs are rolled over or loans renewed.  This most likely may be because application of the requirement to CD rollovers and loan renewals is still under consideration by FinCEN, as discussed above. Enhanced Due Diligence:  The requirement to maintain enhanced due diligence (“EDD”) policies, procedures, and processes for higher risk customers remains with no new suggested categories of customers that should be subject to EDD. Risk Rating:  The new CDD Chapter seems to articulate an expectation to risk rate customers:  “The bank should have an understanding of the money laundering and terrorist financing risk of its customers, referred to in the rule as the customer risk profile.  This concept is also commonly referred to as the customer risk rating.”  The CDD Chapter, therefore, could be read as expressing for banks an expectation that goes beyond FinCEN’s expectation for all covered financial institutions in FAQ 35, which states that a customer profile “may, but need not, include a system of risk ratings or categories of customers.”  It appears that banks that do not currently risk rate customers should consider doing so.  Since the CDD section was first drafted in 2006 and amended in 2007, customer risk rating based on an established method with weighted risk factors has become a best and almost universal practice for banks to facilitate the AML risk assessment, CDD/EDD, and the identification of suspicious activity. Enterprise-Wide CDD:  The new CDD Chapter recognizes the CDD approach of many complex organizations that have CDD requirements and functions that cross financial institution legal entities and the general enterprise-wide approach to BSA/AML long referenced in the BSA/AML Manual.  See BSA/AML Manual, BSA/AML Compliance Program Structures Overview, at p. 155.  The CDD Chapter states that a bank “may choose to implement CDD policies, procedures and processes on an enterprise-wide basis to the extent permitted by law sharing across business lines, legal entities, and with affiliate support units.” Conclusion Despite the CDD regulation, at its core CDD compliance is still risk based and regulatory risk remains a concern.  Every bank must carefully and continually review its CDD program against the regulatory requirements and expectations articulated in the BSA/AML Manual, as well as recent regulatory enforcement actions, the institution’s past examination and independent and compliance testing issues, and best practices of peer institutions.  This review will help anticipate whether there are aspects of its CDD/EDD program that could be subject to criticism in the examination process.  As the U.S. Court of Appeals for the Ninth Circuit recently recognized, detailed manuals issued by agencies with enforcement authority like the BSA/AML Manual “can put regulated banks on notice of expected conduct.”  California Pacific Bank v. Federal Deposit Insurance Corporation, 885 F.3d 560, 572 (9th Cir. 2018).  The BSA/AML Manual is an important and welcome roadmap although not always as up to date, clear or detailed as banks would like it to be. These were the first revisions to the BSA/AML Manual since 2014.  We understand that additional revisions to other chapters are under consideration.    [1]   May 11, 2018 also was the compliance date for the CDD regulations.  The Notice of Final Rulemaking for the CDD regulation, which was published on May 11, 2016, provided a two-year implementation period.  81 Fed. Reg. 29,398 (May 11, 2016).  https://www.gpo.gov/fdsys/pkg/FR-2016-05-11/pdf/2016-10567.pdf. For banks, the new regulation is set forth in the BSA regulations at 31 C.F.R. § 1010.230 (beneficial ownership requirements) and 31 C.F.R. § 1020.210(a)(5).    [2]   The new chapters can be found at: https://www.ffiec.gov/press/pdf/Customer%20Due%20Diligence%20-%20Overview%20and%20Exam%20Procedures-FINAL.pdfw  (CDD Chapter) and https://www.ffiec.gov/press/pdf/Beneficial%20Ownership%20Requirements%20for %20Legal%20Entity%20CustomersOverview-FINAL.pdf (Beneficial Ownership Chapter).    [3]   Frequently Asked Questions Regarding Customer Due Diligence Requirements for Financial Institutions, FIN-2018-G001.  https://www.fincen.gov/resources/statutes-regulations/guidance/frequently-asked-questions-regarding-customer-due-0.  On April 23, 2018, Gibson Dunn published a client alert on these FAQs.  FinCEN Issues FAQs on Customer Due Diligence Regulation.  https://www.gibsondunn.com/fincen-issues-faqs-on-customer-due-diligence-regulation/. FinCEN also issued FAQs on the regulation on September 29, 2017. https://www.fincen.gov/sites/default/files/2016-09/FAQs_for_CDD_Final_Rule_%287_15_16%29.pdf.    [4]   Beneficial Ownership Requirements for Legal Entity Customers of Certain Financial Products and Services with Automatic Rollovers or Renewals, FIN-2018-R002.  https://www.fincen.gov/sites/default/files/2018-05/FinCEN%20Ruling%20CD%20and%20Loan%20Rollover%20Relief_FINAL%20508-revised.pdf    [5]   The BSA/AML Manual previously stated at p. 57:  “CDD processes should include periodic risk-based monitoring of the customer relationship to determine if there are substantive changes to the original CDD information. . . .” Gibson Dunn’s lawyers  are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or the authors: Stephanie L. Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) M. Kendall Day – Washington, D.C. (+1 202-955-8220, kday@gibsondunn.com) Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Linda Noonan – Washington, D.C. (+1 202-887-3595, lnoonan@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

May 24, 2018 |
Dodd Frank 2.0: Reforming U.S. HVCRE Capital Treatment

Click for PDF On Tuesday, May 22, 2018, the U.S. House of Representatives passed the Economic Growth, Regulatory Relief, and Consumer Protection Act (Reform Bill), which had already passed the Senate on a bipartisan basis.  President Trump signed the Reform Bill into law today.  Among the Reform Bill’s more important provisions is a section reforming the current capital treatment of so-called High Volatility Commercial Real Estate (HVCRE) loans.  The Reform Bill, in provisions that are now effective, overrides certain highly conservative provisions in both the federal banking agencies’ (Banking Agencies) Basel III capital rule and their interpretations of it. HVCRE Capital Treatment Under the Basel III Capital Rule and the Banking Agencies’ Interpretations Current HVCRE treatment is a purely American phenomenon; it was not included in the international Basel III framework.  A form of capital “gold plating,” it imposes a 50% heightened capital treatment on certain commercial real estate loans that are characterized as HVCRE loans. The current Basel III capital rule defines an HVCRE loan as follows: A credit facility that, prior to conversion to permanent financing, finances or has financed the acquisition, development, or construction (ADC) of real property, unless the facility finances: One- to four-family residential properties; Certain community development properties The purchase or development of agricultural land, provided that the valuation of the agricultural land is based on its value for agricultural purposes and the valuation does not take into consideration any potential use of the land for non-agricultural commercial development or residential development; or Commercial real estate projects in which: The loan-to-value ratio is less than or equal to the applicable maximum supervisory loan-to-value ratio under Banking Agency standards – e.g., 80% for a commercial construction loan; The borrower has contributed capital to the project in the form of cash or unencumbered readily marketable assets (or has paid development expenses out-of-pocket) of at least 15% of the real estate’s appraised ”as completed” value; and The borrower contributed the amount of capital required  before the bank advances funds under the credit facility, and the capital contributed by the borrower, or internally generated by the project, is contractually required to remain in the project throughout the life of the project.[1] Under the current Basel III capital rule, the life of a project concludes only when the credit facility is converted to permanent financing or is sold or paid in full.[2] The current Basel III capital rule has raised many interpretative questions; however, many of the important ones have not been answered by the Banking Agencies, and others have been answered in a non-intuitive, unduly conservative manner.  In particular, the Banking Agencies interpreted the requirement relating to internally generated capital as foreclosing distributions of such capital even if the amount of capital in the project exceeds 15% of “as completed” value post-distribution.[3]  The Banking Agencies also have not permitted appreciated land value to be taken into account for purposes of the borrower’s capital contribution. The Reform Bill’s Principal Provisions The Reform Bill overrides the current Basel III capital rule.[4]  Specifically, it states that the Banking Agencies may impose a heightened capital charge on an HVCRE loan (as currently defined) only if the loan is also an HVCRE ADC loan.  Such a loan is defined as: A credit facility secured by land or improved real property that, prior to being reclassified by the depository institution as a non-HVCRE ADC loan— (A) primarily finances, has financed, or refinances the acquisition, development, or construction of real property; (B) has the purpose of providing financing to acquire, develop, or improve such real property into income-producing real property; and (C) is dependent upon future income or sales proceeds from, or refinancing of, such real property for the repayment of such credit facility. Thus the loan must not only finance or refinance the acquisition, development, or construction of real property, it must “primarily” do so, must have a development purpose, and must be dependent on future income, sales proceeds or refinancing – not current income.  The “HVCRE ADC” loan definition also corrects some of the unduly conservative regulatory interpretations described above.  It permits appreciated land value, as determined by a qualifying appraisal, to be taken into account for purposes of the 15% test, and it permits capital to be withdrawn as long as the 15% test continues to be met. In addition, the Reform Bill overrides the current Basel III capital rule by stating that HVCRE status may end prior to the replacement of the ADC loan with permanent financing, upon: the substantial completion of the development or construction of the real property being financed by the credit facility; and cash flow being generated by the real property being sufficient to support the debt service and expenses of the real property, in accordance with the bank’s applicable loan underwriting criteria for permanent financings.[5] Additional exemptions from HVCRE treatment apply to loans for: the acquisition or refinance of existing income-producing real property secured by a mortgage on such property, if the cash flow being generated by the real property is sufficient to support the debt service and expenses of the real property, in accordance with the institution’s applicable loan underwriting criteria for permanent financings; and improvements to existing income-producing improved real property secured by a mortgage on such property, if the cash flow being generated by the real property is sufficient to support the debt service and expenses of the real property, in accordance with the institution’s applicable loan underwriting criteria for permanent financings. Finally, loans made prior to January 1, 2015 may not be classified as HVCRE loans. Conclusion The Reform Bill’s HVCRE ADC provisions are a welcome development.  They do not answer every question relating to HVCRE treatment, but they do purge regulatory interpretations that led to heightened capital treatment for many ADC loans in the absence of persuasive risk justifications.  It is to be hoped that the Banking Agencies further the legislation’s intent of aligning gold plated capital treatment more closely to risk when interpreting the new law.    [1]   See, e.g., 12 C.F.R. § 3.2.    [2]   Id.    [3]   See Interagency HVCRE FAQ Response 15.  It remains unclear how this interpretation squares with the text of the HVCRE regulation itself.    [4]   The original version of the Senate bill, which was passed first, did not include this provision.  Senator Tom Cotton, R-Ark, proposed the relevant amendment while the Senate was considering the bill.    [5]   The Reform Bill retains the current exemptions for loans financing one- to four-family residential properties, certain community development properties, and the purchase or development of agricultural land. The following Gibson Dunn lawyers assisted in preparing this client update: Arthur Long and James Springer. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions or Real Estate practice groups, or any of the following: Financial Institutions Group: Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) James O. Springer – Washington, D.C. (+1 202-887-3516, jspringer@gibsondunn.com) Real Estate and Finance Groups: Jesse Sharf – Los Angeles (+1 310-552-8512, jsharf@gibsondunn.com) Eric M. Feuerstein – New York (+1 212-351-2323, efeuerstein@gibsondunn.com) Erin Rothfuss – San Francisco (+1 415-393-8218, erothfuss@gibsondunn.com) Aaron Beim – New York (+1 212-351-2451, abeim@gibsondunn.com) Linda L. Curtis – Los Angeles (+1 213-229-7582, lcurtis@gibsondunn.com) Drew C. Flowers – Los Angeles (+1 213-229-7885, dflowers@gibsondunn.com) Noam I. Haberman – New York (+1 212-351-2318, nhaberman@gibsondunn.com) Victoria Shusterman – New York (+1 212-351-5386, vshusterman@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

May 15, 2018 |
CFTC Chairman and Chief Economist Co-Author “Swaps Reg Reform 2.0”

Click for PDF On April 26, 2018, Commodity Futures Trading Commission (“CFTC”) Chairman J. Christopher Giancarlo and the CFTC’s Chief Economist Bruce Tuckman released a co-authored white paper titled Swaps Regulation Version 2.0: An Assessment of the Current Implementation of Reform and Proposals for Next Steps (“White Paper”),[1] which analyzes and assesses the CFTC’s current implementation of the swaps reforms promulgated under the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”).[2]  The White Paper focuses on the following five specific areas of Dodd-Frank swaps reform:  clearing and central counterparties (“CCPs”); swaps data reporting; swaps execution rules; swap dealer capital requirements; and the end-user exception.  The paper’s title is intended to draw an analogy between the need to further refine the CFTC’s swaps regulatory reform under Dodd-Frank and the process undertaken by technology companies when updating or upgrading their software applications.  Indeed, the authors suggest that the CFTC—like a technology company—needs to assess where its Dodd-Frank swaps regulations are working, where those regulations require “updates” and where they require an upgrade or a complete overhaul. As part of its analysis and assessment, the White Paper primarily cites to academic research and market activity in reaching certain conclusions regarding the progress made to date and areas for improvement in the CFTC’s implementation of Dodd-Frank swaps reform.  The authors also cite to the CFTC’s four years of regulatory experience in implementing Dodd-Frank swaps reform in the United States as the basis upon which they make certain recommendations “to recognize success, address flaws, recalibrate imprecision and optimize measures. . . .”[3] Although the White Paper is comprehensive in its scope, it is noteworthy what the paper does not cover.  For instance, while the White Paper includes the authors’ recommendations for further changes to the CFTC’s swaps regulations and guidance, the paper does not propose detailed or prescriptive modifications to specific CFTC rules.  Thus, the paper describes at a high level what the authors envision would result in regulations that are more “economy-focused” and “what’s in the best interest of the markets.”[4] Additionally, the authors make clear that the White Paper does not express the views of the full commission.  Interestingly, however, the White Paper does include significant input from CFTC senior staff across all operating divisions (i.e., the directors of the CFTC’s Division of Market Oversight, the Division of Swap Dealer and Intermediary Oversight, and the Division of Clearing and Risk). Further, the White Paper does not discuss other important Dodd-Frank swaps reform topics such as position limits, the CFTC’s swap dealer de minimis threshold, the bounds of the CFTC’s cross border authority or how best to harmonize the CFTC’s swaps ruleset with the security-based swaps ruleset of its sister agency, the Securities and Exchange Commission. Lastly, the White Paper does not outline the timetable for any proposed changes to the CFTC’s swaps regulations.  In unveiling the White Paper at an industry conference, Chairman Giancarlo noted that the CFTC will likely begin issuing proposals in the areas of trading and swaps data reporting in the early part of the summer of 2018.  Chairman Giancarlo further noted with respect to timing that, “We’re not in the wake of a crisis right now — we need to take the time to get this right.  We have an ambitious timetable, and we will get this done, but we will do this right.”[5] In this client alert, we have summarized below some of the key takeaways from each of the five topical areas covered in the White Paper. Please contact us if you have any questions regarding the White Paper or the CFTC’s widely anticipated reforms to its swaps regulations. Clearing and CCPs The White Paper notes that swaps clearing is probably the most far-reaching and consequential of the swaps reforms adopted under Title VII of Dodd-Frank.  The authors cite data collected by the CFTC in finding that the CFTC’s implementation of Dodd-Frank’s clearing mandate was highly successful based on the increasing volumes of cleared swaps when compared to before the enactment of Dodd-Frank.[6] This section of the White Paper then focuses on the topics of CCP resources to maintain viability under extreme but plausible conditions, CCP recovery when those resources prove insufficient and CCP resolution in the highly unlikely event that a CCP fails.  In short, the authors applaud the substantial progress that CCPs and the CFTC have made in order to ensure that CCPs are safe and sound under extreme but plausible scenarios and the work that CCPs have undertaken to develop credible recovery plans to remain viable without government assistance. In terms of their recommendations to address continuing challenges in this space, the authors assert—without picking winners or losers as between CCPs and their clearing members—that further market-wide discussions are necessary regarding: (1) the development of potential solutions to ensure the liquidity of prefunded resources; (2) the network and systemic effects of defaults; (3) the liquidation costs of defaulted positions; and (4) improving transparency and predictability of CCP recovery plans.  Lastly, the authors note that the CFTC must continue to coordinate with the Federal Deposit Insurance Corporation (“FDIC”) in formulating resolution plans, which would guide the authority vested in the FDIC under Dodd-Frank to intervene upon the highly unlikely event that a CCP fails. Swaps Data Reporting In the section of the White Paper covering swaps data reporting, the authors note that, while the state of data reporting has improved considerably, the CFTC’s current swaps reporting regime is “suboptimal” and “imperfect.”  They cite the lack of uniform data standards and nomenclature as the biggest problems with the regime.  Another cited problem is the fact that the CFTC has not provided sufficient technical specifications to swap data repositories (“SDRs”) in collecting data from reporting parties. The authors then discuss a number of steps that the CFTC has taken within the last few years to improve the effectiveness of its swaps reporting regime, including the CFTC’s cooperation with the global regulatory community, SDRs and reporting counterparties to harmonize uniform data standards, nomenclature and technical guidance.  The paper also mentions the work that CFTC staff has begun as outlined in the CFTC’s 2017 Roadmap to Achieve High Quality Swaps Data (“Roadmap”).[7]  Through the Roadmap consultation process, CFTC staff has heard from a wide range of market participants and interested parties.  Under consideration in the Roadmap are changes to the CFTC’s reporting rules with the goal of making available to the CFTC and to the public more complete, more accurate and higher quality data. Finally, in this section, the authors urge the CFTC to ensure that its swaps reporting reforms will remain technologically neutral in order to allow for technological advancement (e.g., through the use of distributed ledger technology) to make reporting systems more reliable, more automated and less expensive.  They also urge CFTC staff and market participants to continue to collaborate in order to recalibrate the trade data reporting regime so that it is specific, accurate, and useful enough to:  (1) capture systemic risk, market abuse and market manipulation; (2) harmonize with globally accepted risk data fields; and (3) achieve transparency while promoting healthy trading liquidity. Swaps Execution Rules In the section covering swaps execution, the authors repeat many of the same concerns and arguments made by Chairman Giancarlo in his 2015 White Paper on swap trading reforms, which was titled Pro-Reform Reconsideration of the CFTC Swaps Trading Rules: Return to Dodd-Frank, White Paper.[8]  Essentially, they assert that Congress did not mandate that swap execution facilities (“SEFs”) utilize any particular method of trading and execution.  In its final swaps execution rules, however, the CFTC determined that swaps which are “made available to trade” should be subject to the CFTC’s mandatory trade execution requirement and must be traded through specified execution protocols (i.e., an order book or a request-for-quote system to three).  The authors cite to comprehensive industry research in noting that the CFTC’s current swaps execution requirements have stunted swaps trading in the United States, fragmented global trading liquidity, increased market liquidity risk, restricted technological innovation and incentivized a significant amount of price discovery and liquidity to take place off-exchange. To correct these ills, the authors recommend that the CFTC eliminate the requirement that SEFs maintain an order book and permit SEFs to offer any means of interstate commerce for the trading or execution of swaps subject to the CFTC’s mandatory trade execution requirement.  Additionally, they argue that the CFTC also should expand the category of swaps subject to the trading mandate to include all swaps that are subject to the CFTC’s clearing mandate, unless no SEF or designated contract market lists the swap for trading.  Finally, they suggest that the CFTC’s regulatory focus should be on enhancing the professional conduct of swaps execution through licensure, testing and the adoption of professional conduct principles. Swap Dealer Capital In the section covering swap dealer capital, the authors note that while current bank capital rules are extremely relevant to the swaps dealing business and the efficiency of swap markets, there are aspects of the current regime that result in an unintended bias against risk taken through swaps markets.  To correct this bias, the White Paper argues that bank capital rules need to allow firms to rely on internal models instead of a standardized approach.  The paper also argues that the current standardized approach and industry-developed models inappropriately rely on swap notional amounts to measure risk.[9] The authors do not offer one specific recommended approach to correct these concerns.  Instead, the paper offers a couple of remedial approaches.  One approach suggested by the authors to correct these concerns is for regulators to continue to refine—and by necessity complicate—the standardized models imposed on market participants.  Another suggested approach is for regulators to improve their capabilities with respect to approving and monitoring the use of bank internal models. End-User Exception In the last section of the White Paper, the authors assert that Congress intended a robust end-user exception from Dodd-Frank clearing and margin requirements for entities that are unlikely sources of systemic risk.  They further assert that there are a number of entities that currently fall within the Dodd-Frank definition of “financial entity” (and thus are ineligible to elect an exception from those requirements) but should not be captured under the definition because those entities are not sources of systemic risk.  Specifically, the paper identifies bank holding companies, savings and loan holding companies and certain relatively small financial institutions as being broadly and unnecessarily captured under the definition. To reduce the burdens on these categories of end-users, the authors offer a few recommendations.  First, the authors recommend that the CFTC codify into regulation relief for bank holding companies and savings and loan holding companies that is currently provided in CFTC staff no-action relief.[10] Second, the authors recommend that the CFTC exempt certain small financial institutions including pension funds and small insurance companies from clearing and margin requirements through a “material swaps exposure” test, which is similar to the test set forth in the CFTC’s final uncleared margin rules.  Related to their second recommendation, the authors further assert that the CFTC and prudential regulators should consider exempting small financial end-users from uncleared margin requirements by tweaking the material swaps exposure thresholds to address real risk as opposed to risk based on swap notional amounts.  Interestingly, the authors cite to studies suggesting that pension funds and insurance companies should not broadly be excluded from the definition because larger entities might still pose significant risks. Finally, the authors argue that the CFTC should amend the calculation of initial margin for uncleared swaps in the CFTC’s uncleared margin rules so that those rules do not promote a bias against the trading of uncleared swaps.  On this point, the authors argue that Congress did not intend for the CFTC’s and prudential regulators’ uncleared margin rules to favor cleared products.    [1]   J. Christopher Giancarlo and Bruce Tuckman, Swaps Regulation Version 2.0: An Assessment of the Current Implementation of Reform and Proposals for Next Steps (Apr. 26, 2018), available at https://www.cftc.gov/sites/default/files/2018-04/oce_chairman_swapregversion2whitepaper_042618.pdf.    [2]   Dodd-Frank Wall Street Reform and Consumer Protection Act, 124 Stat. 1376, Pub. Law 111-203 (July 21, 2010), as amended.    [3]   White Paper at p.i.    [4]   CFTC Press Release, No. 7719-18, CFTC Chairman Unveils Reg Reform 2.0 Agenda (Apr. 26, 2018), available at https://www.cftc.gov/PressRoom/PressReleases/7719-18.    [5]   Id.    [6]   See White Paper, p.7 (“According to data collected by the CFTC on U.S. reporting entities, about 85% of both new interest rate swaps and new credit default swaps were cleared in 2017. Precise data as far back as 2010 are not available, but the Bank for International Settlements (BIS) estimated minimum global clearing rates at that time of about 40% for interest rate swaps and 8% for credit default swaps.”).    [7]   Staff Advisory, Division of Market Oversight, Roadmap to Achieve High Quality Swaps Data, U.S. Commodity Futures Trading Commission, July 10, 2017, available at http://www.cftc.gov/idc/groups/public/@newsroom /documents/file/dmo_swapdataplan071017.pdf.    [8]   J. Christopher Giancarlo, Pro-Reform Reconsideration of the CFTC Swaps Trading Rules: Return to Dodd-Frank, Jan. 29, 2015, available at https://www.cftc.gov/sites/default/files/idc/groups/public/@newsroom /documents/file/sefwhitepaper012915.pdf.    [9]   The CFTC’s Chief Economist and others have published a paper proposing an alternative approach to measuring swaps risk.  See Richard Haynes, John Roberts, Rajiv Sharma and Bruce Tuckman, Introducing ENNs: A Measure of the Size of Interest Rate Swap Markets (Jan. 2018), available at https://www.cftc.gov/ sites/default/files/idc/groups/public/@economicanalysis/documents/file/oce_enns0118.pdf. [10]   See CFTC Letter 16-01 (Jan. 8, 2016). The following Gibson Dunn lawyers assisted in preparing this client update: Carl Kennedy and Jeffrey Steiner. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or any of the following: Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com) Carl E. Kennedy – New York (+1 212-351-3951, ckennedy@gibsondunn.com) Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

May 3, 2018 |
Webcast: Anti-Money Laundering and Sanctions Enforcement and Compliance in 2018 and Beyond

Gibson Dunn partners provide an overview of significant trends and key issues in Bank Secrecy Act (BSA)/Anti-Money Laundering (AML) and sanctions enforcement and compliance. Topics covered: BSA/AML Overview Recent trends in BSA/AML enforcement Recent trends in BSA/AML compliance BSA/AML Reform Efforts Sanctions Overview Key OFAC sanctions program developments Recent trends in sanctions enforcement The future of sanctions under the Trump Administration (and beyond) View Slides [PDF] PANELISTS M. Kendall Day was a white collar prosecutor for 15 years, serving most recently as an Acting Deputy Assistant Attorney General with the U.S. Department of Justice’s Criminal Division, where he supervised Bank Secrecy Act investigations, enforcement of anti-money laundering and sanctions laws, deferred prosecution agreements and non-prosecution agreements involving all types of financial institutions. He previously served in a variety of leadership and line attorney roles, including as Chief of the DOJ Money Laundering and Asset Recovery Section. Mr. Day will join Gibson Dunn’s Washington, D.C. office as a partner effective May 1, 2018. Stephanie L. Brooker is co-chair of Gibson Dunn’s Financial Institutions Practice Group. She is former Director of the Enforcement Division at the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN), and previously served as the Chief of the Asset Forfeiture and Money Laundering Section in the U.S. Attorney’s Office for the District of Columbia and as a trial attorney for several years. Stephanie represents financial institutions, multi-national companies, and individuals in connection with criminal, regulatory, and civil enforcement actions involving BSA/AML, sanctions, anti-corruption, securities, tax, wire fraud, and sensitive employee matters. Her practice also includes BSA/AML compliance counseling and due diligence and significant criminal and civil asset forfeiture matters. Adam M. Smith is an experienced international trade lawyer who previously served in the Obama Administration as the Senior Advisor to the Director of OFAC and as the Director for Multilateral Affairs on the National Security Council. Adam focuses on international trade compliance and white collar investigations, including with respect to federal and state economic sanctions enforcement, the FCPA, embargoes, and export controls. F. Joseph Warin is co-chair of Gibson Dunn’s White Collar Defense and Investigations Practice Group, and chair of the Washington, D.C. office’s Litigation Department.  He is a former Assistant United States Attorney in Washington, D.C., one of only ten lawyers in the United States with Chambers rankings in five categories, was named by Best Lawyers® as 2016 Lawyer of the Year for White Collar Criminal Defense in the District of Columbia, and recognized by Benchmark Litigation as a U.S. White Collar Crime Litigator Star for seven consecutive years (2011–2017). In 2017, Chambers honored Mr. Warin with the Outstanding Contribution to the Legal Profession Award. MCLE CREDIT INFORMATION: This program has been approved for credit in accordance with the requirements of the New York State Continuing Legal Education Board for a maximum of 1.50 credit hours, of which 1.50 credit hours may be applied toward the areas of professional practice requirement.  This course is approved for transitional/non-transitional credit. Attorneys seeking New York credit must obtain an Affirmation Form prior to watching the archived version of this webcast.  Please contact Jeanine McKeown (National Training Administrator), at 213-229-7140 or jmckeown@gibsondunn.com to request the MCLE form. Gibson, Dunn & Crutcher LLP certifies that this activity has been approved for MCLE credit by the State Bar of California in the amount of 1.50 hours. California attorneys may claim “self-study” credit for viewing the archived version of this webcast.  No certificate of attendance is required for California “self-study” credit.

April 23, 2018 |
FinCEN Issues FAQs on Customer Due Diligence Regulation

Click for PDF On April 3, 2018, FinCEN issued its long-awaited Frequently Asked Questions Regarding Customer Due Diligence Requirements for Financial Institutions, FIN-2018-G001. https://www.fincen.gov/resources/statutes-regulations/guidance/frequently-asked-questions-regarding-customer-due-0.[1]  The timing of this guidance is very controversial, issued five weeks before the new Customer Due Diligence (“CDD”) regulation goes into effect on May 11, 2018.[2]  Most covered financial institutions (banks, broker-dealers, mutual funds, and futures commission merchants and introducing brokers in commodities) already have drafted policies, procedures, and internal controls and made IT systems changes to comply with the new regulation.  Covered financial institutions will need to review these FAQs carefully to ensure that their proposed CDD rule compliance measures are consistent with FinCEN’s guidance. The guidance is set forth in 37 questions.  As discussed below, some of the information is helpful, allaying financial institutions’ most significant concerns.  Other FAQs confirm what FinCEN has said in recent months informally to industry groups and at conferences.  A few FAQs raise additional questions, and others, particularly the FAQ on rollovers of certifications of deposit and loan renewals, are not responsive to industry concerns and may raise significant compliance burdens for covered financial institutions.  The guidance reflects FinCEN’s regulatory interpretations based on discussions within the government and with financial institutions and their trade associations.  The need for such extensive guidance on so many issues in the regulation illustrates the complexity of compliance and suggests that FinCEN should consider whether clarifications and technical corrections to the regulation should be made.  We provide below discussion of highlights from the FAQs, including areas of continued ambiguity and uncertainty in the regulation and FAQs. Highlights from the FAQs FAQ 1 and 2 discuss the threshold for obtaining and verifying beneficial ownership.  FinCEN states that financial institutions can “choose” to collect beneficial ownership information at a lower threshold than required under the regulation (25%), but does not acknowledge that financial institution regulators may expect a lower threshold for certain business lines or customer types or that there may be regulatory concerns if financial institutions adjust thresholds upward to meet the BSA regulatory threshold.  A covered financial institution may be in compliance with the regulatory threshold, but fall short of regulatory expectations. FAQ 7 states that a financial institution need not re-verify the identity of a beneficial owner of a legal entity customer if that beneficial owner is an existing customer of the financial institution on whom CIP has been conducted previously provided that the existing information is “up-to-date, accurate, and the legal entity’s customer’s representative certifies or confirms (verbally or in writing) the accuracy of the pre-existing CIP information.”  The example given suggests that no steps are expected to verify that the information is up-to-date and accurate beyond the representative’s confirmation or certification.  The beneficial ownership records must cross reference the individual’s CIP record. FAQs 9-12 address one of the most controversial aspects of the regulation, about which there has been much confusion: the requirement that, when an existing customer opens a new account, a financial institution must identify and verify beneficial ownership information.  FinCEN provides further clarity on what must be updated and how:Under FAQ 10, if a legal entity customer, for which the required beneficial ownership information has been obtained for an existing account, opens a new account, the financial institution can rely on the information obtained and verified previously “provided the customer certifies or confirms (verbally or in writing) that such information is up-to-date and accurate at the time each subsequent new account is opened,” and the financial institution has no knowledge that would “reasonably call into question” the reliability of the information.  The financial institution also would need to maintain a record of the certification or confirmation by the customer.There is no grace period.  If an account is opened on Tuesday, and a new account is opened on Thursday, the certification or confirmation is still required.  In advance planning for compliance, many financial institutions had included a grace period in their procedures. FAQ 11 provides that, when the financial institution opens a new account or subaccount for an existing legal entity customer whose beneficial ownership has been verified for the institution’s own recordkeeping and operational purposes and not at the customer’s request, there is no requirement to update the beneficial ownership information for the new account.  This is because the account would be considered opened by the financial institution and the requirement to update only applies to each new account opened by a customer.  This is consistent with what FinCEN representatives have said at recent conferences.The FAQ specifies that this would not apply to (1) accounts or subaccounts set up to accommodate a trading strategy of a different legal entity, e.g., a subsidiary of the customer, or (2) accounts of a customer of the existing legal entity customer, “i.e., accounts (or subaccounts) through which a customer of a financial institution’s existing legal entity carries out trading activity through the financial institution without intermediation from the existing legal entity customer.”  We believe the FAQ may fall far short of addressing all the concerns expressed to FinCEN on this issue by the securities industry. FAQ 12 addresses an issue which has been a major concern to the banking industry:  whether beneficial ownership information must be updated when a certificate of deposit (“CD”) is rolled over or a loan is renewed.  These actions are generally not considered opening of new accounts by banks.FinCEN continues to maintain that CD rollovers or loan renewals are openings of new accounts for purposes of the CDD regulation.  Therefore, the first time a CD or loan renewal for a legal entity customer occurs after May 11, 2018, the effective date of the CDD regulation, beneficial ownership information must be obtained and verified, and at each subsequent rollover or renewal, there must be confirmation that the information is current and accurate (consistent with FAQ 10) as for any other new account for an existing customer.  There is an exception or alternative approach authorized in FAQ 12 “because the risk of money laundering is very low”:  If, at the time of the rollover or renewal, the customer certifies its beneficial ownership information, and also agrees to notify the financial institution of any change in information in the future, no action will be required at subsequent renewals or rollovers.The response in FAQ 12 is not responsive to the concerns that have been expressed by the banking industry and will be burdensome for banks to administer.  Obtaining a certification in time, without disrupting the rollover or renewal, will be challenging, and it appears that if it the certification or promise to update is not obtained in time, the account may have to be closed. FAQs 13 through 17 address another aspect of the regulation that has generated extensive discussion: When (1) must beneficial ownership be obtained for an account opened before the effective date of the regulation, or (2) beneficial ownership information updated on existing accounts whose beneficial ownership has been obtained and verified.Following closely what was said in the preamble to the final rule, FAQ 13 states that the obligation is triggered when a financial institution “becomes aware of information about the customer during the course of normal monitoring relevant to assessing or reassessing the risk posed by the customer, and such information indicates a possible change in beneficial ownership.”FAQ 14 clarifies somewhat what is considered normal monitoring but is not perfectly clear what triggers obtaining and verifying beneficial ownership.  It is clear that there is no obligation to obtain or update beneficial ownership information in routine periodic CDD reviews (CDD refresh reviews) “absent specific risk-based concerns.” We would assume that means, following FAQ 13, concerns about the ownership of the customer.  Beyond that FAQ 14  is less clear.  It states that the obligation is triggered “when, in the course of normal monitoring a financial institution becomes aware of information about a customer or an account, including a possible change of beneficial ownership information, relevant to assessing or reassessing the customer’s overall risk profile.  Absent such a risk-related trigger or event, collecting or updating of beneficial ownership information is at the discretion of the covered financial institution.”The trigger or event may mean in the course of SAR monitoring or when conducting event-driven CDD reviews, e.g., when a subpoena is received or material negative news is identified – something that may change a risk profile.  Does the obligation then arise only if the risk profile change includes a concern about whether the financial institution has accurate ownership information?  That may be the intent, but is not clearly stated.  If the account is being considered for closure because of the change in risk profile, would the financial institution be released from the obligation to obtain beneficial ownership?   That would make sense, but is not stated.  This FAQ is in need of clarification and examples would be helpful.On another note, the language in FAQ 14 also is of interest because it may suggest, in FinCEN’s view, that periodic CDD reviews should be conducted on a risk basis, and CDD refresh reviews may not be expected for lower risk customers, as is the practice for some banks. FAQ 18 seems to address at least partially a technical issue with the regulation that arises because SEC-registered investment advisers are excluded from the definition of legal entity customer in the regulation, but U.S. pooled investment vehicles advised by them are not excluded.[3]  FAQ 18 states that, if the operator or adviser of a pooled investment vehicle is not excluded from the definition of legal entity customer, under the regulation, e.g., like a foreign bank, no beneficial ownership information is required to be obtained on the pooled investment vehicle under the ownership prong, but there must be compliance with beneficial ownership control party prong, i.e., verification of identity of a control party.  A control party could be a “portfolio manager” in these situations.FinCEN describes why no ownership information is required as follows:  “Because of the way the ownership of a pooled investment vehicle fluctuates, it would be impractical for covered financial institutions to collect and verify ownership identity for this type of entity.”  Thus, in the case where the operator or adviser of the pooled investment vehicle is excluded from the definition of legal entity, like an SEC-registered investment adviser, it would seem not to be an expectation to obtain beneficial ownership information under the ownership prong.  Nevertheless, the question of whether you need to obtain and verify the identity of a control party for a pooled investment vehicle advised by a SEC registered investment adviser is not squarely answered in the FAQ.  A technical correction to the regulation is still needed, but it is unlikely there would be regulatory or audit criticism for following the FAQ guidance at least with respect to the ownership prong. FAQ 19 clarifies that, when a beneficial owner is a trust (where the legal entity customer is owned more than 25% by a trust), the financial institution is only required to verify the identity of one trustee if there are multiple trustees. FAQ 20 deals with what to do if a trust holds more than a 25% beneficial interest in a legal entity customers and the trustee is not an individual, but a legal entity, like a bank or law firm.  Under the regulation, if a trust holds more than 25% beneficial ownership of a legal entity customer, the financial institution must verify the identity of the trustee to satisfy the ownership prong of the beneficial ownership requirement.  The ownership prong references identification of “individuals.”  Consequently, the language of the regulation does not seem to contemplate the situation where the trustee was a legal entity.FAQ 20 seems to suggest that, despite this issue with the regulation, CIP should be conducted on the legal entity trustee, but apparently, on a risk basis, not in every case:  “In circumstances where a natural person does not exist for purposes of the ownership/equity prong, a natural person would not be identified.  However, a covered financial institution should collect identification information on the legal entity trustee as part of its CIP, consistent with the covered institution’s risk assessment and customer risk profile.”  (Emphasis added.)More clarification is needed on this issue, and perhaps an amendment to the regulation to address this specific situation.  Pending additional guidance, the safest course appears to be to verify the identity of legal entity trustee consistent with CIP requirements, which may pose practical difficulties, e.g., will a law firm trustee easily provide its TIN?  Presumably, CIP would not be required on any legal entity trustee that is excepted from the definition of legal entity under 31 C.F.R. § 1010.230(e)(2). FAQ 21 addresses the question of how does a financial institution verify that a legal entity comes within one of the regulatory exceptions to the definition of legal entity customer in 31 C.F.R. § 1010.230(e)(2).  The answer is that the financial institution generally can rely on information provided by the customer if it has no knowledge of facts that would reasonably call into question the reliability of the information.  Nevertheless, that is not the end of the story.  The FAQ provides that the financial institution also must have risk-based policies and procedures that specify the type of information they will obtain and reasonably rely on to determine eligibility for exclusions. FAQ 24 may resolve another technical issue in the regulation.  The exceptions to the definition of legal entity in the regulation refer back to the BSA CIP exemption provisions, which in turn, cross reference the Currency Transaction Reporting (CTR) exemption for banks when granting so-called Tier One exemptions.  One category for the CTR exemption is “listed” entities, which includes NASDAQ listed entities, but excludes NASDAQ Capital Markets Companies, i.e., this category of NASDAQ listed entity is not subject to CIP or CTR Tier One exemptions.  31 C.F.R. § 1020.315(b)(4).  This carve out was not discussed in the preamble to the CDD final regulation or in FAQ 24.The FAQ simply states:  “[A]ny company (other than a bank) whose common stock or analogous equity interests are listed on the New York Stock Exchange, the American Stock Exchange (currently known as the NYSE American), or NASDAQ stock exchange” is excepted from the definition of legal entity.  In any event, as with the FAQ 18 issue, it would appear that a technical correction is needed on this point, but, given the FAQ, it is unlikely that a financial institution would be criticized if it treated NASDAQ Capital Markets Companies as excepted legal entities. FAQs 32 and 33 end the speculation that the CDD regulation impacts CTR compliance.  Consistent with FinCEN CTR guidance, under FAQ 32, the rule remains that, for purposes of CTR aggregation, the fact that two businesses share a common owner does not mean that a financial institution must aggregate the currency transactions of the two businesses for CTR reporting, except in the narrow situation where there is a reason to believe businesses are not being operated separately. Conclusion Financial institutions and their industry groups will likely continue to seek further guidance on the most problematic issues in the CDD regulation.  It is our understanding that FinCEN and the bank regulators also will address compliance with the CDD regulation in the upcoming update to the FFIEC Bank Secrecy Act/Anti-Money Laundering Examination Manual. Covered financial institutions already have spent, and will continue to spend, significant time and resources to meet the complex regulatory requirements and anticipated regulatory expectations.  In this flurry of activity to address regulatory risk, it is essential for financial institutions to continue to consider any money laundering risk of legal entity clients and that CDD not become simply mechanical.  It is not only a matter of documenting and updating all of the right information about beneficial ownership and control, but financial institutions should continue to assess whether the ownership structure makes sense for the business or whether it is overly complex for the business type and purposely opaque.  Also, it is important to consider whether it makes sense for a particular legal entity to be seeking a relationship with your financial institution and whether the legal entity is changing financial institutions voluntarily.  CDD measures to address regulatory risk and money laundering risk overlap but are not equivalent.    [1]   FinCEN also issued FAQs on the regulation on July 19, 2016. https://www.fincen.gov/sites/default/files/2016-09/FAQs_for_CDD_Final_Rule_%287_15_16%29.pdf.   FINRA issued guidance on the CDD regulation in FINRA Notice to Members 17-40 (Nov. 21, 2017). http://www.finra.org/sites/default/files/notice_doc_file_ref/Regulatory-Notice-17-40.pdf.    [2]   The Notice of Final Rulemaking was published on May 11, 2016 and provided a two-year implementation period.  81 Fed. Reg. 29,398 (May 11, 2016). https://www.gpo.gov/fdsys/pkg/FR-2016-05-11/pdf/2016-10567.pdf.  FinCEN made some slight amendments to the rule on September 29, 2017.  https://www.fincen.gov/sites/default/files/federal_register_notices/2017-09-29/CDD_Technical_Amendement_17-20777.pdf The new regulations are set forth in the BSA regulations at 31 C.F.R. § 1010.230 (beneficial ownership requirements); 31 C.F.R. § 1020.210(a)(5) (banks); 31 C.F.R. § 1023.210(b)(5) (broker-dealers); 31 C.F.R. § 1024.210(b)(4) (mutual funds); and 31 C.F.R. § 1026.210(b)(5) (future commission merchants and introducing brokers in commodities).    [3]   The regulation does not clearly address the beneficial ownership requirements for a U.S. pooled investment vehicle operated or controlled by a registered SEC investment adviser.  Pooled investment vehicles operated or advised by a “financial institution” regulated by a Federal functional regulator are not considered legal entities under the regulation.  31 C.F.R. § 1010.230(e)(2)(xi).  An SEC registered investment adviser, however, is not yet a financial institution under the BSA.  Under 31 C.F.R. § 1010.230(e)(3), a pooled investment vehicle that is operated or advised by a “financial institution” not excluded from the definition of legal entity is subject to the beneficial ownership control party prong. Gibson Dunn’s lawyers  are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or the authors: Stephanie L. Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Linda Noonan – Washington, D.C. (+1 202-887-3595, lnoonan@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

April 19, 2018 |
The Federal Reserve’s New Take on Bank Capital: Two Modest, but Thoughtful, Proposals

Click for PDF Last week, the Board of Governors of the Federal Reserve System (Federal Reserve) issued two proposals relating to capital requirements for large banking organizations that provide a glimpse into its thinking on recalibrating post-Financial Crisis regulation.  Not at all radical, they appear driven by two principal, and beneficial, goals – simplifying the complex maze of regulations that grew out of the Dodd-Frank Act, and seeking to tailor regulation more closely to the risks posed by particular organizations.  At the same time, however, the “new” Federal Reserve’s approach shows more continuity with the Yellen Federal Reserve than a drastic departure. The first proposal (Stress Buffer Proposal) would simplify the capital rules that are applicable to bank holding companies (BHCs), including intermediate holding companies of non-U.S. banks, that have $50 billion or more in total consolidated assets.  The second proposal (eSLR Proposal) would lower the enhanced supplementary leverage ratio (eSLR) that is applicable only to U.S. globally systemically important BHCs (G-SIBs) and their insured bank subsidiaries. The Federal Reserve will be taking comments on the Stress Buffer Proposal for 60 days, and on the eSLR Proposal for 30 days, in each case after publication in the Federal Register. Stress Buffer Proposal:  Simplifying Capital Rules Applicable to Large Banking Organizations At the heart of the Financial Crisis lay a very significant capital problem:  there was an insufficient amount of capital in the banking system to absorb losses, and certain capital instruments did not end up having the loss absorbency that regulators originally contemplated.  As a reaction, the Basel III capital regime and the Federal Reserve, acting under its authority to adopt enhanced prudential standards under Section 165 of the Dodd-Frank Act, substantially increased the amount of capital that large banking organizations are required to hold – but the rules that were adopted did not take into account their cumulative effects. The result of multiple rulemakings was therefore a hodgepodge of requirements, described with some flair earlier this year by the Federal Reserve’s Vice Chairman for Supervision, Governor Randal Quarles: There are different ways to count the number of loss absorbency constraints that our large banking firms face – which is perhaps in itself an indication of a surfeit of complexity if we can’t be perfectly sure of how to count them – but the number I come up with is 24 total requirements in the framework.  While I do not know precisely the socially optimal number of loss absorbency requirements for large banking firms, I am reasonably certain that 24 is too many.[1] The Stress Buffer Proposal addresses this concern and would reduce the number of loss absorbency requirements to 14 – which still may be above a “socially optimal” number – by tying minimum capital requirements into the Federal Reserve’s CCAR and stress testing process. Under the proposal, the results of the Federal Reserve’s annual supervisory stress test would be used to size specific buffer requirements above minimum capital requirements for particular firms – that is, there would be tailoring based on the stress test result for each firm.  The Stress Buffer Proposal would replace the current static 2.5 percent capital conservation buffer under the Basel III standardized approach with a “stress capital buffer requirement.”  In addition, the proposal would also establish a “stress leverage buffer requirement” in addition to the Basel III minimum 4 percent Tier 1 leverage ratio requirement.  Firms subject to the rules would be required to maintain capital ratios above minimum requirements plus the buffer requirements in order to avoid restrictions on capital distributions and discretionary bonus payments. The stress capital buffer would be determined as the difference between a firm’s starting and lowest projected Common Equity Tier 1 (CET1) capital ratios under the severely adverse scenario in the stress test, calculated under the Basel III standardized approach, plus the sum of the ratios of the dollar amount of the firm’s planned common stock dividends to projected risk-weighted assets for each of the fourth through seventh quarters of the test’s planning horizon.  The stress capital buffer could not, however, be less than the current 2.5 percent capital conservation buffer.  The eight U.S. G-SIBs would be required to add on their current G-SIB surcharges to the buffer amount.  The stress leverage buffer would be calculated in a similar manner – that is, looking at the lowest projected Tier 1 leverage ratio under the severely adverse scenario in the stress test and considering the effects of a year of dividends. To give an example of how the stress capital buffer would operate, if a firm has a CET1 ratio of 9 percent and it declined to 6 percent under the severely adverse scenario, the firm’s stress capital buffer for the coming year would be 3 percent.  This would be added to the minimum 4.5 percent CET1 requirement, and therefore the firm would be required to maintain a 7.5 percent CET1 ratio for the coming year in order to avoid restrictions on dividends and bonus payments.  If the firm was a G-SIB, its minimum CET1 ratio could be as much as 11 percent. In addition, the Stress Buffer Proposal would remove certain very conservative assumptions that are currently used in the CCAR post-stress capital assessment.  The current assumption that firms would make all planned capital distributions over the nine-quarter stress planning horizon – one that appears to be questionable at best – would be removed, and replaced with an assumption that firms would cease all repurchases, and make four quarters of dividend payments.  On this score, the Federal Reserve noted that, in the Financial Crisis, large BHCs ceased repurchases early, but continued to pay dividends at the pre-Crisis rate through 2008.  Similarly, the counterintuitive assumption that firms would grow their balance sheets in periods of financial stress would be removed, and replaced with a more realistic one that firms would maintain asset levels for the planning horizon.  In addition, the Federal Reserve would eliminate the 30 percent dividend payout ratio as a criterion for heightened scrutiny of a firm’s capital plan.  The Stress Buffer Proposal would remove CCAR’s quantitative objection as redundant, and, as is the case now, the qualitative objection in CCAR would apply only to large and complex firms.[2] The new requirements would come into effect on October 1, 2019. Proposed Reduction in the Enhanced Supplementary Leverage Ratio The Federal Reserve’s second proposal, which was issued jointly with the Office of the Comptroller of the Currency, relates to reducing the eSLR, which is applicable only to G-SIBs and their insured bank subsidiaries.  Traditionally, a leverage ratio, which does not take into account the particular risks of a bank’s assets – or, in supplementary form, a bank’s off-balance sheet exposures – has been thought of as a “backstop” to risk-weighted capital ratios.  That is, the leverage ratio has not been intended to be the ultimate determinant of how much capital a bank must hold.  If, by contrast, the leverage ratio becomes that determinant – the binding capital constraint – it may encourage a bank to engage in riskier activities because the same amount of capital is required for such activities, which promise greater rewards, than safer, less profitable activities. The eSLR is currently set a 5 percent for G-SIBs, and at 6 percent for their insured depository institution subsidiaries – in contrast to 3 percent for non-G-SIBs.[3]  As a result, certain institutions have commented that the eSLR is likely to be the binding capital constraint, and the Federal Reserve noted that, based on third quarter 2017 data, the current eSLR was a binding constraint for four of the eight U.S. G-SIBs and all of their lead insured bank subsidiaries. The eSLR Proposal does not seek to change the current manner in which the eSLR is calculated – which itself has not insubstantial complexity in terms of certain off-balance sheet exposures.  Rather, it proposes reducing the overall ratio by replacing the current 2- and 3-percent supplements with a supplement equal to one-half of a particular BHC’s G-SIB surcharge.  The maximum G-SIB surcharge is currently 3.5 percent, and so for such a G-SIB, the eSLR would be reduced from 5 percent to 4.75 percent at the holding company level, and from 6 percent to 4.75 percent at the bank level.  BHCs with lower G-SIB surcharges would have lower required eSLRs – thus, as with the Stress Buffer Proposal, there would be tailoring of the amount of required capital to the overall perceived risk of a particular BHC. The Federal Reserve estimated that the eSLR Proposal would reduce the amount of required capital only marginally at the holding company level, $400 million across all eight G-SIBs.  The effects would be more pronounced at the bank level, where the eSLR Proposal was estimated to reduce required capital by a total of $121 billion. Perhaps for this reason, the eSLR Proposal was more controversial.  Federal Reserve Governor Brainerd voted against it, and so it passed 2-1,[4] and outgoing FDIC Chair Gruenberg issued a statement noting his disagreement with it. Conclusion Taken together, the proposals appear to be a prudent course change given what are perhaps the two most significant issues with 2010-2016 Dodd-Frank implementation – multiple regulatory requirements adopted without an overall consideration of their cumulative effects, and a failure fully to heed the statutory policy that enhanced prudential standards should be tailored to the quantity of risk created by particular financial firms.  Given the effects of the Financial Crisis and the obligations that the Dodd-Frank Act imposed on bank regulatory agencies, these issues are not surprising.  It is nonetheless welcome to see a broader and more nuanced view. For those expecting significant change, the two proposals may surprise.  Indeed, the concept of a stress capital buffer was previewed by Governor Daniel Tarullo.[5]  And the Stress Buffer Proposal contains the concept that it is appropriate to add on the G-SIB surcharge during stress (also previewed by Governors Tarullo),[6] even though the stress tests themselves include certain tests only for G-SIBs – the result being that the Stress Buffer Proposal is likely to result in more capital being held by G-SIBs even as it is likely to reduce, modestly, the amount of capital to be held by large banks that are not G-SIBs. Because the U.S. banking system is currently strongly capitalized, it is difficult to see the proposals as increasing systemic risk:  the Federal Reserve noted that the common equity capital ratio of the BHCs in the 2017 CCAR was 12.1 percent in the fourth quarter of 2017, more than double 2009 levels.  The increase was the result of these BHCs having increased their common equity – the most dependable form of capital – more than $720 billion.  For this reason, the dissenting positions of Governor Brainerd and FDIC Chair Gruenberg are difficult to justify. Notwithstanding this simplification effort, capital regulation remains highly complex, as may be seen in the eSLR Proposal itself.  The proposal would need to amend the Total Loss Absorbing Capacity (TLAC) rule to conform the TLAC leverage buffer with the proposed revised eSLR standard and to recalibrate the TLAC rule’s minimum Long Term Debt requirement, which itself is calibrated off of the eSLR.  For those who agree with the proposition that “the [c]onfusion and compliance burden that results from overly complex regulation does not advance the goal of a safe financial system,”[7] the two proposals are a step in the right direction, but there is more work to be done.    [1]   “Early Observations on Improving the Effectiveness of Post-Crisis Regulation,” Speech by Vice Chairman for Supervision Randal K. Quarles, January 19, 2018.  .    [2]   These are any BHC with average total assets or at least $250 billion or average total nonbank assets of at least $75 billion.    [3]   As an example of the current over-complexity of capital regulation, the minimum eSLR is a requirement to avoid limitations on capital distributions and bonus payments at the G-SIB level, but it is a requirement for “well capitalized” status at the insured bank level.  The eSLR requests comments on whether such an approach should continue to be followed.    [4]   Although President Trump has nominated three other persons to fill Federal Reserve vacancies, none has been confirmed, and so there are only three of seven Governors currently serving.    [5]   “Departing Thoughts,” Speech by Governor Daniel K. Tarullo, April 4, 2017.    [6]   Id.    [7]   Vice Chairman for Supervision, Randal K. Quarles, Semiannual Supervision and Regulation Testimony, Committee on Financial Services, U.S. House of Representatives, April 17, 2018. The following Gibson Dunn lawyers assisted in preparing this client update: Arthur Long and James Springer. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or any of the following: Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Stephanie L. Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com) Carl E. Kennedy – New York (+1 212-351-3951, ckennedy@gibsondunn.com) Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com) James O. Springer – Washington, D.C. (+1 202-887-3516, jspringer@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP, 333 South Grand Avenue, Los Angeles, CA 90071 Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

April 12, 2018 |
Trump Administration Imposes Unprecedented Russia Sanctions

Click for PDF On April 6, 2018, the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”) significantly enhanced the impact of sanctions against Russia by blacklisting almost 40 Russian oligarchs, officials, and their affiliated companies pursuant to Obama-era sanctions, as modified by the Countering America’s Adversaries Through Sanctions Act (“CAATSA”) of 2017.  In announcing the sanctions, Treasury Secretary Steven Mnuchin cited Russia’s involvement in “a range of malign activity around the globe,” including the continued occupation of Crimea, instigation of violence in Ukraine, support of the Bashal al-Assad regime in Syria, attempts to subvert Western democracies, and malicious cyber activities.[1]  Russian stocks fell sharply in response to the new measures, and the ruble depreciated almost 5 percent against the dollar.[2] Although this is not the first time that the Trump administration imposed sanctions against Russia, it is the most significant action taken to date.  In June 2017, OFAC added 38 individuals and entities involved in the Ukraine conflict to OFAC’s list of Specially Designated Nationals (“SDNs”).[3]  The April 6 sanctions added seven Russian oligarchs and 12 companies they own or control, 17 senior Russian government officials, the primary state-owned Russian weapons trading company and its subsidiary, a Russian bank, to the SDN List.[4]  These designations include major, publicly-traded companies that have been listed on the London and Hong Kong exchanges and that have thousands of customers and tens of thousands of investors throughout the world. OFAC has never designated similar companies, and the potential challenges for global companies seeking to comply with OFAC measures are substantial.  An SDN designation prohibits U.S. persons—including U.S. companies, U.S. financial institutions, and their foreign branches—from engaging in any transactions with the designees or with entities in which they hold an aggregate ownership of 50 percent or more.  The designation of a small company in a regional market can be devastating for the company, but rarely would it impose meaningful collateral consequences on global markets or investors.  In this case, sanctions on companies such as EN+ and RUSAL (amongst others) have already impacted a substantial portion of a core global commodity (the aluminum market) while also preventing further trades in their shares, a move that could harm pension funds, mutual funds, and other investors that have long held stakes worth billions of dollars. To minimize the immediate disruptions, OFAC issued two time-limited general licenses (regulatory exemptions) permitting companies and individuals to undertake certain transactions to “wind down” business dealings related to the designated parties.[5]  However, our assessment is that disruptions are inevitable and the size of the sanctions targets in this case means that the general licenses will have potentially limited effect in reducing dislocations. Background OFAC’s April 6 designations mark a clear change in tone from the Trump administration, which had initially resisted imposing the full force of CAATSA’s sanctions.  For example, as we wrote in our 2017 Year-End Sanctions Update, CAATSA required the imposition of secondary sanctions on any person the President determined to have been engaging in “a significant transaction with a person that is part, or operates for or on behalf of, the defense or intelligence sectors of the Government Russia.”[6]  On the day such sanctions were to be imposed, State Department representatives provided classified briefings to Congressional leaders to explain their decision not to impose any such sanctions under CAATSA, namely because the Trump administration felt that CAATSA was already having an deterrent effect which removed any immediate need to impose sanctions.[7] Section 241 of CAATSA also required OFAC to publish a report on January 29, 2018 identifying “the most significant senior foreign political figures and oligarchs in the Russian Federation,”[8] (the “Section 241 List”).  The Treasury Department issued the report shortly before midnight on the due date, publicly naming 114 senior Russian political figures and 96 oligarchs.[9]  Although the report did not result in any sanctions or legal repercussions, the public naming of such persons did cause confusion for those who sought to engage with them in compliance with U.S. law.[10]  However, most observers were highly critical of the list, claiming that it demonstrated that the Trump administration was failing to adequately address Congressional intent to punish Moscow.  Interestingly, almost all of the oligarchs designated on April 6 originally appeared on the Section 241 List.[11] Designations Included among the list of sanctioned parties were seven Russian oligarchs designated for being a Russian government official or operating in the energy sector of the Russian Federation economy, and 12 companies they own or control.  In its press release, OFAC warned that the 12 companies identified as owned or controlled by the designated Russian oligarchs “should not be viewed as exhaustive, and the regulated community remains responsible for compliance with OFAC’s 50 percent rule.”  This rule extends U.S. sanctions prohibitions to entities owned 50 percent or more, even if those companies are not themselves listed by OFAC.  The opacity of ownership in the Russian economy makes the 50 percent rule very difficult to operationalize. In addition, OFAC designated 17 senior Russian government officials, a state-owned company and its subsidiary.  The sanctioned individuals and entities, as described by OFAC, are provided in the following table. SDN Description Designated Russian Oligarchs 1. Vladimir Bogdanov Bogdanov is the Director General and Vice Chairman of the Board of Directors of Surgutneftegaz, a vertically integrated oil company operating in Russia. OFAC imposed sectoral sanctions on Surgutneftegaz pursuant to Directive 4 issued under E.O. 13662 in September 2014. 2. Oleg Deripaska Deripaska has said that he does not separate himself from the Russian state.  He has also acknowledged possessing a Russian diplomatic passport, and claims to have represented the Russian government in other countries.  Deripaska has been investigated for money laundering, and has been accused of threatening the lives of business rivals, illegally wiretapping a government official, and taking part in extortion and racketeering.  There are also allegations that Deripaska bribed a government official, ordered the murder of a businessman, and had links to a Russian organized crime group. 3. Suleiman Kerimov Kerimov is a member of the Russian Federation Council.  On November 20, 2017, Kerimov was detained in France and held for two days. He is alleged to have brought hundreds of millions of euros into France – transporting as much as 20 million euros at a time in suitcases, in addition to conducting more conventional funds transfers – without reporting the money to French tax authorities.  Kerimov allegedly launders the funds through the purchase of villas.  Kerimov was also accused of failing to pay 400 million euros in taxes. 4. Kirill Shamalov Shamalov married Putin’s daughter Katerina Tikhonova in February 2013 and his fortunes drastically improved following the marriage; within 18 months, he acquired a large portion of shares of Sibur, a Russia-based company involved in oil and gas exploration, production, processing, and refining.  A year later, he was able to borrow more than one $1 billion through a loan from Gazprombank, a state-owned entity subject to sectoral sanctions pursuant to E.O. 13662.  That same year, long-time Putin associate Gennady Timchenko, who is himself designated pursuant to E.O. 13661, sold an additional 17 percent of Sibur’s shares to Shamalov.  Shortly thereafter, Kirill Shamalov joined the ranks of the billionaire elite around Putin. 5. Andrei Skoch Skoch is a deputy of the Russian Federation’s State Duma.  Skoch has longstanding ties to Russian organized criminal groups, including time spent leading one such enterprise. 6. Viktor Vekselberg Vekselberg is the founder and Chairman of the Board of Directors of the Renova Group.  The Renova Group is comprised of asset management companies and investment funds that own and manage assets in several sectors of the Russian economy, including energy.  In 2016, Russian prosecutors raided Renova’s offices and arrested two associates of Vekselberg, including the company’s chief managing director and another top executive, for bribing officials connected to a power generation project in Russia. Designated Oligarch-Owned Companies 7. B-Finance Ltd. British Virgin Islands company owned or controlled by, directly or indirectly, Oleg Deripaska. 8. Basic Element Limited Basic Element Limited is based in Jersey and is the private investment and management company for Deripaska’s various business interests. 9. EN+ Group Owned or controlled by, directly or indirectly, Oleg Deripaska, B-Finance Ltd., and Basic Element Limited.  EN+ Group is located in Jersey and is a leading international vertically integrated aluminum and power producer.  This is a publicly traded company that has been listed, inter alia, on the London Stock Exchange. 10. EuroSibEnergo Owned or controlled by, directly or indirectly, Oleg Deripaska and EN+ Group. EuroSibEnergo is one of the largest independent power companies in Russia, operating power plants across Russia and producing around nine percent of Russia’s total electricity. 11. United Company RUSAL PLC Owned or controlled by, directly or indirectly, EN+ Group.  United Company RUSAL PLC is based in Jersey and is one of the world’s largest aluminum producers, responsible for seven percent of global aluminum production.  This is a publicly traded company that has been listed, inter alia¸ on the Hong Kong Stock Exchange. 12. Russian Machines Owned or controlled by, directly or indirectly, Oleg Deripaska and Basic Element Limited.  Russian Machines was established to manage the machinery assets of Basic Element Limited. 13. GAZ Group Owned or controlled by, directly or indirectly, Oleg Deripaska and Russian Machines.  GAZ Group is Russia’s leading manufacturer of commercial vehicles. 14. Agroholding Kuban Owned or controlled by, directly or indirectly, Oleg Deripaska and Basic Element Limited. 15. Gazprom Burenie, OOO Owned or controlled by Igor Rotenberg.  Gazprom Burenie, OOO provides oil and gas exploration services in Russia. 16. NPV Engineering Open Joint Stock Company Owned or controlled by Igor Rotenberg.  NPV Engineering Open Joint Stock Company provides management and consulting services in Russia. 17. Ladoga Menedzhment, OOO Owned or controlled by Kirill Shamalov.  Ladoga Menedzhment, OOO is located in Russia and engaged in deposit banking. 18. Renova Group Owned or controlled by Viktor Vekselberg.  Renova Group, based in Russia, is comprised of investment funds and management companies operating in the energy sector, among others, in Russia’s economy. Designated Russian State-Owned Firms 19. Rosoboroneksport State-owned Russian weapons trading company with longstanding and ongoing ties to the Government of Syria, with billions of dollars’ worth of weapons sales over more than a decade.  Rosoboroneksport is being designated under E.O. 13582 for having materially assisted, sponsored, or provided financial, material, or technological support for, or goods or services in support of, the Government of Syria. 20. Russian Financial Corporation Bank (RFC Bank) Owned by Rosoboroneksport.  RFC Bank incorporated is in Moscow, Russia and its operations include deposit banking activities. Designated Russian Government Officials 21. Andrey Akimov Chairman of the Management Board of state-owned Gazprombank 22. Mikhail Fradkov President of the Russian Institute for Strategic Studies (RISS), a major research and analytical center established by the President of the Russian Federation, which provides information support to the Presidential Administration, Federation Council, State Duma, and Security Council. 23. Sergey Fursenko Member of the board of directors of Gazprom Neft, a subsidiary of state-owned Gazprom 24. Oleg Govorun Head of the Presidential Directorate for Social and Economic Cooperation with the Commonwealth of Independent States Member Countries.  Govorun is being designated pursuant to E.O. 13661 for being an official of the Government of the Russian Federation. 25. Alexey Dyumin Governor of the Tula region of Russia.  He previously headed the Special Operations Forces, which played a key role in Russia’s purported annexation of Crimea. 26. Vladimir Kolokoltsev Minister of Internal Affairs and General Police of the Russian Federation 27. Konstantin Kosachev Chairperson of the Council of the Federation Committee on Foreign Affairs 28. Andrey Kostin President, Chairman of the Management Board, and Member of the Supervisory Council of state-owned VTB Bank 29. Alexey Miller Chairman of the Management Committee and Deputy Chairman of the Board of Directors of state-owned company Gazprom 30. Nikolai Patrushev Secretary of the Russian Federation Security Council 31. Vladislav Reznik Member of the Russian State Duma 32. Evgeniy Shkolov Aide to the President of the Russian Federation 33. Alexander Torshin State Secretary – Deputy Governor of the Central Bank of the Russian Federation 34. Vladimir Ustinov Plenipotentiary Envoy to Russia’s Southern Federal District 35. Timur Valiulin Head of the General Administration for Combatting Extremism within Russia’s Ministry of Interior 36. Alexander Zharov Head of Roskomnadzor (the Federal Service for the Supervision of Communications, Information Technology, and Mass Media) 37. Viktor Zolotov Director of the Federal Service of National Guard Troops and Commander of the National Guard Troops of the Russian Federation All assets subject to U.S. jurisdiction of the designated individuals and entities, and of any other entities blocked by operation of law as a result of their ownership by a sanctioned party, are frozen, and U.S. persons are generally prohibited from dealings with them.  OFAC’s Frequently Asked Questions (“FAQs”) make clear that if a blocked person owns less than 50 percent of a U.S. company, the U.S. company will not be blocked.  However, the U.S. company (1) must block all property and interests in property in which the blocked person has an interest and (2) cannot make any payments, dividends, or disbursement of profits to the blocked person and must place them in a blocked account at a U.S. financial institution.[12] Non-U.S. persons could face secondary sanctions for knowingly facilitating significant transactions for or on behalf of the designated individuals or entities.  CAATSA strengthened the secondary sanctions measures that could be used to target such persons, although such measures typically carry less risk because as a matter of implementation OFAC traditionally warns those who may be transacting with parties that could subject them to secondary sanctions and provides them with an opportunity to cure.  While this outreach and deterrence model of imposing secondary sanctions was developed under the Obama administration (and resulted in very few impositions of secondary sanctions), the Trump administration could theoretically change it and impose secondary sanctions without the traditional warning.  However, that appears unlikely and the Trump administration has indicated that it will continue to provide warnings before imposing secondary sanctions. Two CAATSA provisions bear particular note as they are implicated by Friday’s actions:  section 226, which authorizes sanctions on foreign financial institutions for facilitating a transaction on behalf of a Russian person on the SDN List, and section 228, which seeks to impose sanction on a person who “facilitates a significant transaction…for or on behalf of any person subject to sanctions imposed by the United States with respect to the Russian Federation.”[13]  OFAC has clarified that the section 228 provision extends to persons listed on either the SDN or the Sectoral Sanctions Identifications (“SSI”) List, as well as persons they may own or control pursuant to OFAC’s 50 percent rule.[14]  As we noted when CAATSA was passed, despite the mandatory nature of these sections, the President appears to retain the discretion to impose restrictions based upon whether he finds certain transaction significant or for other reasons.  With the increase in the SDN list to include major players in global commodities such as EN+ or RUSAL, more companies around the world that rely on these companies could find themselves at least theoretically at risk of being sanctioned themselves.  Companies should also consider this risk where there is reliance on material produced by any company in the Russian military establishment and sold by the Russian state arms company such as Rosoboronexport, which was also sanctioned. General Licenses In an effort to minimize the immediate disruptions to U.S. persons and global markets (especially given the sanctioning of major publicly traded corporations that have thousands of clients and investors throughout the world), OFAC issued General Licenses 12 and 13, permitting companies to undertake certain transactions and activities to “wind down” certain business dealings related to certain, listed designated parties.  These General Licenses only cover U.S. persons, which has led some non-U.S. companies to inquire whether their ability to wind down operations with respect to the SDN companies would place them at risk for secondary sanctions (as they would be engaging with sanctioned parties and perhaps trigger the CAATSA provisions above).  OFAC has noted in its FAQs that the U.S. Government would not find a transaction “significant” if a U.S. person would not need a specific license to undertake it.[15]  That is, it would seem that at least for the duration of the General Licenses a non-U.S. party can engage in similar wind down operations without risking secondary sanctions. General License 12, which expires June 5, 2018, authorizes U.S. persons to engage in transactions and activities with the 12 oligarch-owned designated entities that are “ordinarily incident and necessary to the maintenance or wind down of operations, contracts, or other agreements” related to these 12 entities (as well as those entities impacted by operation of OFAC’s 50 percent rule).  This is a broader wind down provision than OFAC has issued in the past in that it allows not just “wind down” activities but also non-defined “maintenance” activities.  Despite this breadth it is already uncertain how this General License will actually work in practice.  Permissible transactions and activities include importation from blocked entities and broader dealings with them.  However, no payments are allowed to be made to blocked entities–rather such payments can only be made to the blocked entities listed in General License 12 into blocked, interest-bearing accounts and reported to OFAC by June 18, 2018 (10 business days after the expiration of the license).[16]  It is not clear why a sanctioned party would wish to deliver goods and services to parties if the sanctioned party cannot be paid.  In line with the FAQ noted above, for non-U.S. companies it would seem that in order to avoid secondary sanctions implications the same restrictions would apply–that is, continued transactions are permitted on a wind down basis, but transfer of funds to the SDN companies could be viewed as “significant” or otherwise sanctionable. Recognizing how broad the sanctions are and how far they may implicate subsidiaries of SDN companies inside the United States, OFAC’s FAQs clarify that General License 12 generally permits the blocked entities listed to pay U.S. persons their salaries, pension payments, or other benefits due during the wind down period.  U.S. persons employed by entities that are not explicitly listed in General License 12—principally the designated Russian state-owned entities—do not have the benefit of this wind down period.  OFAC FAQs note that such U.S. persons may seek authorization from OFAC to maintain or wind down their relationships with any such blocked entity, but make clear that continued employment or board membership related to these entities is prohibited.[17]  The implications of these restrictions are significant where, as is the case with the blocked entities listed in General License 12, U.S. subsidiaries exist and U.S. persons are involved throughout company operations. General License 13, which expires May 7, 2018, similarly allows transactions and activities otherwise prohibited under the April 6 sanctions.  This license allows transactions and activities necessary to “divest or transfer debt, equity, or other holdings” in three designated Russia entities:  EN+ Group PLC, GAZ Group, and United Company RUSAL PLC.  Permitted transactions include facilitating, clearing, and settling transactions.  General License 13, however, does not permit any divestment or transfer to a blocked person, including the three entities listed in General License 13.[18]  As with General License 12, transactions permitted under General License 13 must be reported to OFAC within 10 business days after the expiration of the license. Once again, it is uncertain how the General License will work in practice.  Given the designations which have depressed the share prices of the sanctions parties it is unknown who might be willing to purchase the shares even if U.S. holders are permitted to sell them. Other Ramifications for Investors, Supply Chains, and Customers The April 6 sanctions raise other significant questions and practical challenges for U.S. and non-U.S. companies, with particular risks for investors as well as the manufacturers, suppliers, and customers of the SDN companies. Investors and fund managers will need to conduct significant diligence into the participants and ownership structures of their funds, including fund limited partners, to determine whether sanctioned persons or entities are involved.  Moreover, for those who have seen the value of any assets tied to these companies decline significantly, they are allowed to continue to try sell their assets to non-U.S. persons.  However, given the challenge in finding buyers and evidence that certain financial institutions and brokers are already refusing to engage in any trades (even during the wind down period), the investment community needs to potentially prepare for long-term holding of blocked assets (by setting up sequestered accounts). For those within the supply chains of sanctioned companies, from suppliers of commodities to finished goods, as well as customers of sanctioned companies, the concern will be to potentially replace key commercial relationships which will become increasingly difficult (if not prohibited) to maintain.  For companies that have relied on RUSAL, for example, as a source of aluminum or as a customer for their goods they will potentially need to find replacements.  While aluminum is not in short supply globally, in certain jurisdictions RUSAL has a commanding position and even a monopoly.  It is unclear how companies that seek to be compliant with OFAC regulations will navigate a world in which RUSAL has been a primary or secondary supplier (and there is no clear way to avoid such engagement so long as the company seeks to be active in that jurisdiction and in need of aluminum).  Moreover, it is not just U.S. person counterparties that are likely to be affected by prohibitions on dealing with sanctioned parties.  In line with the FAQ noted above, if non-U.S. companies were to make payments to the sanctioned companies for deliveries, these could be deemed “significant transactions” and could make the non-U.S. companies, themselves, the target of OFAC designations and/or secondary sanctions.  One option—reportedly pursued by one major trading company—is to declare force majeure on contracts with Rusal. As noted above, relief contemplated by General Licenses 12 and 13 may be operationally difficult to implement.  The sanctions apply to companies 50 percent owned or controlled by blocked parties.  Companies will need to undertake, under a short time line, significant due diligence to determine whether any such companies are involved in its operations.  The wind down process may be further complicated by any Russian response to the U.S. sanctions. What Happens Next? The April 6 sanctions are likely not the end of the story.  The next steps to watch include: 1.)    Potential Russian Retaliation:  During an address to the State Duma on April 11, Prime Minister Dmitry Medvedev said, for example, that Russia should consider targeting U.S. goods or goods produced in Russia by U.S. companies when considering a possible response.[19]  Any such measures could implicate further U.S. business dealings with Russian entities, including the blocked entities. 2.)    Changing Ownership and Structure of Sanctioned Parties:  Given that the sanctioned companies were listed due to their ownership/control by sanctioned persons (pursuant to the 50 percent rule) there have already been moves to dilute their ownership and thus potentially have the companies de-listed.  While possible, it is important to note that because the companies were explicitly listed by OFAC (and now appear on the SDN list), any reduction in ownership or control will not result in an automatic de-listing.  Rather, OFAC will need to process these changes and formally de-list the entities before they can be treated as non-sanctioned.  OFAC could opt not to de-list, or could decide to list the companies on other bases.  Regardless the process will undoubtedly take some time.  We note that at least one engineering firm whose stock was held by a designated entity has already obtained a license to complete the transfer of these shares; this is helpful precedent for any company impacted but only tangentially related to the designated entities.  Sanctioned entities have also changed their board membership in response to the U.S. sanctions.  On Monday, April 11, for example, the entire board at Renova Management AG, the Swiss subsidiary of the Renova Group, was dismissed after Renova Group’s designation.[20] 3.)    European Follow On Restrictions:  The shock of many of Europe’s major powers following the poisoning of Sergei and Yulia Skripal in Salisbury in early March and the resulting mass expulsion of Russian diplomats from European capitals suggests that sanctions may be next.  Core European U.S. allies were likely notified in advance of the April 6 measures.  In the run up to sanctions in 2014, Washington and Brussels worked very closely to institute parallel measures against Moscow.  While that unity has broken down under the Trump administration, especially since CAATSA was passed in August, it would appear as though some European sanctions are liking in the offing. 4.)    OFAC FAQs/Licenses and Potentially New Measures:  Due to the complexity of the April 6 measures, we expect that OFAC will issue additional FAQs and potentially revisions to General Licenses 12 and 13 (or new General Licenses) in the near term to clear up questions and further calibrate response.  Depending upon next steps from Russia and Europe we may see additional sanctions as well.  Secretary of State-designate Mike Pompeo’s statement that the United States “soft” policy toward Russia is over suggests as much.[21] Unfortunately, there is no clear path towards a de-escalation in Washington-Moscow tensions.  When the U.S. first issued sanctions against Russia in response to the Crimea incursion in 2014 the sanctions “off-ramp” was very clearly defined: if Russia altered its behavior in Crimea/Ukraine there was a way that sanctions could be removed.  Since 2014, as Secretary Mnuchin noted, Russia’s activities have exacerbated in scope and territory to include support for the Bashar regime in Syria, election meddling, cyber-attacks, and the nerve agent attack in the United Kingdom.  The breadth and boldness of this activity makes it even more unlikely that Russia will comply with the West’s wishes and thus even less likely that the sanctions would be removed or even reduced at any point in the near term.  For its part, bipartisan Congressional leadership expressed broad support for the Trump administration’s actions—however, Congress will likely demand more from the President in the near term.  Perhaps eager to placate Congress and dispel any notion that he is “soft” on Russia and buffeted by external circumstances ranging from any potential attack in Syria to the investigation by Robert Mueller, the President may impose still harsher measures on Moscow. [1]      Press Release, U.S. Department of the Treasury, Treasury Designates Russian Oligarchs, Officials, and Entities in Response to Worldwide Malign Activity (Apr. 6, 2018), available at https://home.treasury.gov/news/featured-stories/treasury-designates-russian-oligarchs-officials-and-entities-in-response-to. [2]      Natasha Turak, US sanctions are finally proving a ‘major game changer’ for Russia, CNBC, (Apr. 10, 2018) available at https://www.cnbc.com/2018/04/10/us-moscow-sanctions-finally-proving-a-major-game-changer-for-russia.html. [3]      Press Release, U.S. Dep’t of the Treasury, Treasury Designates Individuals and Entities Involved in the Ongoing Conflict in Ukraine (June 20, 2017), available at https://www.treasury.gov/press-center/press-releases/Pages/sm0114.aspx.  Designated persons and entities included separatists and their supporters; entities operating in and connected to the Russian annexation of Crimea; entities owned or controlled by, or which have provided support to, persons operating in the Russian arms or materiel sector; and Russian government officials. [4]      U.S. Department of the Treasury, supra, n. 1. [5]      Id. [6]      CAATSA, Title II, § 231 (a). Specifically, CAATSA Section 231(a) specified that the President shall impose five or more of the secondary sanctions described in Section 235 with respect to a person the President determines knowingly “engages in a significant transaction with a person that is part of, or operates for or on behalf of, the defense or intelligence sectors of the Government of the Russian Federation, including the Main Intelligence Agency of the General Staff of the Armed Forces of the Russian Federation or the Federal Security Service of the Russian Federation.”  The measures that could be imposed under Section 231 are discretionary in nature.  The language of the legislation is somewhat misleading in this regard.  Section 231 is written as a mandatory requirement—providing that the President “shall impose” various restrictions.  However, the legislation itself—and the October 27, 2017 guidance provided by the State Department—makes clear that secondary sanctions are only imposed after the President makes a determination that a party “knowingly” engaged in “significant” transactions with a listed party.  The terms “knowingly” and “significant” have imprecise meanings, even under the State Department guidance.  OFAC Ukraine-/Russia-related Sanctions FAQs (“OFAC FAQs”), OFAQ No. 545, available at https://www.treasury.gov/resource-center/faqs/Sanctions/Pages/faq_other.aspx#567. [7]      Press Release, U.S. Dep’t of State, Background Briefing on the Countering America’s Adversaries Through Sanctions Act (CAATSA) Section 231 (Jan. 30, 2018), available at https://www.state.gov/r/pa/prs/ps/2018/01/277775.htm. [8]      CAATSA, Title II, § 241. [9]      See U.S. Dep’t of the Treasury, Report to Congress Pursuant to Section 241 of the Countering America’s Adversaries Through Sanctions Act of 2017 Regarding Senior Foreign Political Figures and Oligarchs in the Russian Federation and Russian Parastatal Entities (Unclassified) (Jan. 29, 2018), available at https://www.scribd.com/document/370313106/2018-01-29-Treasury-Caatsa-241-Final. [10]     See, e.g., Press Release, U.S. Dep’t of the Treasury, Treasury Releases CAATSA Reports, Including on Senior Foreign Political Figures and Oligarchs in the Russian Federation (Jan. 29, 2018), available at https://home.treasury.gov/news/press-releases/sm0271. [11]     The one exception is Igor Rotenberg.  Although Igor Rotenberg did not appear on the Section 241 List, his father and uncle were included.  According to the April 6 OFAC announcement, Igor Rotenberg acquired significant assets from his father, Arkady Rotenberg, after OFAC designated the latter in March 2014.  Specifically Arkady Rotenberg sold Igor Rotenberg 79 percent of the Russian oil and gas drilling company Gazprom Burenie.  Igor Rotenberg’s uncle, Boris Rotenberg, owns 16 percent of the company.  Like his brother Arkady Rotenberg, Boris Rotenberg was designated in March 2014. [12]     OFAC FAQ No. 573. [13]     CAATSA, Title II, §228. [14]     OFAC FAQ No. 546.  In its implementing guidance, OFAC confirmed that Section 228 extends to SDNs and SSI entities but clarified that it would not deem a transaction “significant” if U.S. persons could engage in the transaction without the need for a specific license from OFAC.  In other words, only transactions prohibited by OFAC—specifically, transactions with SDNs and/or transactions with SSI entities that are prohibited by the sectoral sanctions—will “count” as significant for purposes of Section 228.  OFAC also noted that even a transaction with an SSI that involves prohibited debt or equity would not automatically be deemed “significant”—it would need to also involve “deceptive practices” and OFAC would assess this criteria on a “totality of the circumstances” basis. [15]     OFAC FAQ No. 574. [16]     General License 12; OFAC FAQ No. 569. [17]     See also OFAC FAQ Nos. 567-568. [18]     See also OFAC FAQ Nos. 570-571. [19]     Russia’s Renova says board at its Swiss subsidiary dismissed due to sanctions, Reuters (Apr. 11, 2018), available at https://uk.reuters.com/article/usa-russia-sanctions-renova/russias-renova-says-board-at-its-swiss-subsidiary-dismissed-due-to-sanctions-idUKR4N1NE02P. [20]     Russia ready to prop Up Deripaska’s Rusal as US sanctions bite, Financial Times (Apr. 11, 2018), available at https://www.ft.com/content/4904f6d4-3d97-11e8-b7e0-52972418fec4. [21]     Patricia Zengerle, Lesley Wroughton, As Pompeo signals hard Russia line, lawmakers want him to stand on his own, Reuters (Apr. 12, 2018), available at https://www.reuters.com/article/us-usa-trump-pompeo/as-pompeo-signals-hard-russia-line-lawmakers-want-him-to-stand-on-his-own-idUSKBN1HJ0HO. The following Gibson Dunn lawyers assisted in preparing this client update: Adam Smith, Judith Alison Lee, Christopher Timura, Stephanie Connor, and Courtney Brown. Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm’s International Trade Group: United States: Judith Alison Lee – Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk – Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez – New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Daniel P. Chung – Washington, D.C. (+1 202-887-3729, dchung@gibsondunn.com) Adam M. Smith – Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Christopher T. Timura – Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Stephanie L. Connor – Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Kamola Kobildjanova – Palo Alto (+1 650-849-5291, kkobildjanova@gibsondunn.com) Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole – Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) Europe: Peter Alexiadis – Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Patrick Doris – London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Penny Madden – London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Mark Handley – London (+44 (0)207 071 4277, mhandley@gibsondunn.com) Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Richard Roeder – Munich (+49 89 189 33-160, rroeder@gibsondunn.com) © 2018 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

January 24, 2018 |
Webcast – Challenges in Compliance and Corporate Governance -14th Annual Briefing

Our constantly-evolving regulatory landscape expands existing obligations while creating new compliance risks for companies big and small. Join our panel of experts as they review key developments in 2017 and offer valuable insight on how to address challenges forecasted for 2018. Topics discussed include: Global Enforcement and Regulatory Developments Change and Continuity in the New Administration Key Tips for Identifying and Addressing Top Areas of Compliance Risk Practical Recommendations for Improving Corporate Compliance DOJ and SEC Priorities, Policies, and Penalties Update on Key Governance Issues and Regulatory Requirements View Slides [PDF] PANELISTS: This year’s presentation assembles a deep bench of experts with broad expertise. The following panelists join moderator Joe Warin for the 14th annual installment of ‘Challenges in Compliance and Corporate Governance’: Gibson Dunn partner Stephanie L. Brooker, Co-Chair of the firm’s Financial Institutions Practice Group, is former Director of the Enforcement Division at the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN). As a federal prosecutor, Stephanie served as the Chief of the Asset Forfeiture and Money Laundering Section in the U.S. Attorney’s Office for the District of Columbia. She represents financial institutions, multi-national companies, and individuals in connection with criminal, regulatory, and civil enforcement actions involving anti-money laundering (AML)/Bank Secrecy Act (BSA), sanctions, anti-corruption, securities, tax, and wire fraud New Gibson Dunn partner Avi S. Garbow, the former EPA General Counsel and co-chair of Gibson Dunn’s Environmental Litigation and Mass Tort Practice Group. As General Counsel, he successfully managed one of the most active regulatory and defensive litigation dockets among large federal agencies. Avi previously held positions in EPA’s enforcement office and served as a distinguished prosecutor in DOJ’s Environmental Crimes Section New Gibson Dunn partner Caroline Krass, the former CIA General Counsel and chair of Gibson Dunn’s National Security Practice Group. As General Counsel, Caroline oversaw more than 150 attorneys and advised on complex, highly sensitive issues, including cybersecurity, foreign investment in the U.S. and export controls, government investigations and litigation, and crisis management.  Previously, Caroline served as Acting Assistant Attorney General at the Department of Justice, as Special Counsel to the President for National Security Affairs, as a federal prosecutor, at the National Security Council, and at the Treasury and State Departments. Gibson Dunn partner Stuart Delery, the former Acting Associate Attorney General, the No. 3 position in the Justice Department. In that role, Stuart was a member of DOJ’s senior management and oversaw the civil and criminal work of five litigating divisions — Antitrust, Civil, Tax, Civil Rights, and Environment and Natural Resources — as well as other components. Previously, Stuart led the Civil Division, overseeing litigation involving the False Claims Act among other matters. Gibson Dunn partner Adam M. Smith, an experienced international trade lawyer who previously served in the Obama Administration as the Senior Advisor to the Director of OFAC and as the Director for Multilateral Affairs on the National Security Council. Adam focuses on international trade compliance and white collar investigations, including with respect to federal and state economic sanctions enforcement, the FCPA, embargoes, and export controls. Gibson Dunn partner Lori Zyskowski, a member of the firm’s Securities Regulation and Corporate Governance Practice Group who was previously Executive Counsel, Corporate, Securities & Finance at GE. Lori advises clients on a wide array of securities, compliance and corporate governance issues, and provides a unique perspective gained from over 12 years working in-house at S&P 500 corporations. Gibson Dunn partner F. Joseph Warin, Co-Chair of the firm’s White Collar Defense and Investigations practice and former Assistant United States Attorney in Washington, D.C. Joe is one of only ten lawyers in the United States with Chambers rankings in five categories. Chambers recently honored him with the Outstanding Contribution to the Legal Profession Award in 2017. Chambers Global 2017 ranked Mr. Warin a “Star” in USA – FCPA “with exceptional expertise across all aspects of anti-corruption law”. Chambers USA 2017 ranked him a “Star” in Nationwide FCPA and D.C. Litigation: White Collar Crime & Government Investigations. Chambers USA 2017 also selected him as a Leading Lawyer in the nation in the areas of Securities Regulation Enforcement and Securities Litigation, as well as in D.C. Securities Litigation. From 2015–2017, he has been selected by Chambers Latin America as a top-tier lawyer in Latin America-wide, Fraud & Corporate Investigations. In 2017, Who’s Who Legal selected him as a “Thought Leader: Investigations,” including “only the best of the best” of those listed in their guides and who obtained the biggest number of nominations from peers, corporate counsel and other market sources. In 2016, Who’s Who Legal and Global Investigations Review also named Mr. Warin to their list of World’s Ten-Most Highly Regarded Investigations Lawyers. He has been listed in The Best Lawyers in America® every year from 2006 – 2017 for White Collar Criminal Defense. BTI Consulting named Mr. Warin to its 2017 BTI Client Service All-Stars list, recognizing lawyers who “truly stand out as delivering the absolute best client service.” Best Lawyers® also named Mr. Warin 2016 Lawyer of the Year for White Collar Criminal Defense in the District of Columbia. In 2016, he was named among the Lawdragon 500 Leading Lawyers in America. Mr. Warin also was recognized by Latinvex as one of its 2017 Latin America’s Top 100 Lawyers. He was selected as a 2015 Top Lawyer for Criminal Defense by Washingtonian magazine. U.S. Legal 500 has repeatedly named Mr. Warin a Leading Lawyer for White Collar Criminal Defense Litigation. Benchmark Litigation has recognized him as a U.S. White Collar Crime Litigator Star for seven consecutive years (2011–2017). MCLE CREDIT INFORMATION: This program has been approved for credit in accordance with the requirements of the New York State Continuing Legal Education Board for a maximum of 3.0 credit hours, of which 3.00 credit hours may be applied toward the areas of professional practice requirement.  This course is approved for transitional/non-transitional credit. Attorneys seeking New York credit must obtain an Affirmation Form prior to watching the archived version of this webcast.  Please contact Jeanine McKeown (National Training Administrator), at 213-229-7140 or jmckeown@gibsondunn.com to request the MCLE form. Gibson, Dunn & Crutcher LLP certifies that this activity has been approved for MCLE credit by the State Bar of California in the amount of 2.50 hours. California attorneys may claim “self-study” credit for viewing the archived version of this webcast.  No certificate of attendance is required for California “self-study” credit.

December 1, 2017 |
Sentiment Analysis & Natural Language: Processing Techniques for Capital Markets & Disclosure

New York counsel Nicolas H.R. Dumont is the author of “Sentiment Analysis & Natural Language: Processing Techniques for Capital Markets & Disclosure,” [PDF] published by The Corporate Governance Advisor in December 2017.

November 14, 2017 |
U.S. Treasury’s Capital Markets Report Gives Market Regulators Green Light to Streamline Derivatives Regulations

This alert examines the derivatives policy recommendations set forth in the U.S. Department of Treasury’s (“Treasury”) report titled A Financial System That Creates Economic Opportunities: Capital Markets[1] (the “Report” or the “Capital Markets Report”), which Treasury released on October 6, 2017.  The Capital Markets Report is the second in a series of reports that Treasury has released or is expected to release in accordance with President Trump’s February 3, 2017, Executive Order on Core Principles for Regulating the United States Financial System[2] (the “Order”). The Report is particularly relevant to derivatives market participants because it reflects the Trump Administration’s policies on Federal regulation and oversight of derivatives-related activities, bank capital standards, the regulation and supervision of financial market utilities, international aspects of the capital markets’ regulations, and various administrative matters relating to agency rulemaking processes.  Although Treasury’s policy recommendations will not result in wholesale reforms in the immediate term, the Report urges Congress to consider certain legislative proposals and empowers financial regulators to begin the rulemaking process to amend existing regulations with the goal of reducing burdensome compliance obligations. Section I of this alert provides background on the Capital Markets Report.  Section II discusses key takeaways from the Report that we believe are most pertinent to our clients.  Section III reviews the Report’s policy recommendations related to derivatives markets.  The alert concludes with Section IV, reiterating themes and takeaways from the Report’s recommendations.  Although the Report also includes several other capital markets recommendations that focus on regulatory issues beyond derivatives reform, those recommendations are outside the scope of this alert. I.     Background Under the Order, the Secretary of the Treasury is directed to consult with member agencies of the Financial Stability Oversight Council and to report on how existing laws, regulations, and other Government policies promote, support, or inhibit the seven core principles outlined in the Order.[3]  The Order has signaled to financial regulators that the Trump Administration wants a reappraisal of a number of Obama-era regulations imposed on financial institutions and derivatives end users. To meet its directive under the Order, Treasury has organized its recommendations into a series of reports.  The first report, on banks and credit unions, was released on June 12, 2017.  The second report, and the focus of this alert, was released on October 6, 2017.  Treasury released a report on asset management and insurance companies on October 26, 2017.  Treasury is expected to release a fourth report on non-banks, financial technology, and cybersecurity in financial markets sometime in the first quarter of 2018. The Capital Markets Report serves as an agenda for many of the issues that the Securities and Exchange Commission (“SEC”) and the Commodity Futures Trading Commission (“CFTC”, together with the SEC, the “Commissions”) are expected to address in the coming years.  The content of the Report, the range of topics discussed, and the level of detail in the Report’s recommendations demonstrate Treasury’s close collaboration with the Commissions and engagement with industry stakeholders.[4]  Indeed, the Chairmen of both Commissions indicated that staff from their respective agencies engaged with Treasury in preparing the Report.  SEC Chairman Jay Clayton expressed appreciation for “Treasury’s willingness to seek the SEC’s input during the drafting process[,]” and that the Report “will be of immediate and lasting value.”[5]  Similarly, CFTC Chairman J. Christopher Giancarlo indicated that the CFTC “was actively engaged with Treasury in the preparation of this [R]eport,” and that the CFTC was “pleased to see our perspective incorporated in the final product.”[6]  He further stated that “if implemented, the recommendations provided within this [R]eport will help foster financially sound markets in a way that encourages broad-based economic growth and American prosperity and respects the American taxpayer.”[7] II.     Key Takeaways We believe that there are four key takeaways from the Capital Markets Report of which derivatives market participants should be cognizant.  First, the Capital Markets Report outlines an ambitious agenda for the Commissions with a focus on streamlining and harmonizing regulations to lower costs for market participants, promoting capital formation, keeping U.S. markets competitive, and fostering economic growth.  In the near term, we anticipate that the CFTC may quickly propose rulemakings in the spirit of the Report’s recommendations.  In fact, there has already been momentum in that regard.  The CFTC has taken steps towards modernizing existing rules, regulations, and practices through soliciting comments as part of Project KISS,[8] and improving reporting rules for products and swap data responsibilities through its reform efforts.[9]  These proposals and efforts to modernize existing rules, regulations, and practices, however, will take some time to be finalized and implemented by the industry.  In contrast, the SEC has not been as focused on Title VII reforms given the volume of additional non-derivatives related recommendations for the SEC to consider.  It is unclear therefore how quickly the SEC will focus on derivatives reforms. Second, we anticipate that the Commissions will begin more fully addressing some of the rulemaking procedural criticisms raised in the Report, such as the recommendation that the Commissions perform more robust cost-benefit and economic analyses for their rulemakings and the recommendation to rely less heavily on staff action.  With respect to cost-benefit and economic analyses, we have observed that the CFTC has recently taken steps to address this criticism.  The CFTC’s Chief Economist, Bruce Tuckman—who was appointed to the position last August—stated that he looked forward to working with Chairman Giancarlo on “increasingly guiding CFTC rule-making and risk monitoring with cutting-edge economic analysis and empirical work.”[10]  Chairman Giancarlo has spoken publicly about the need for the CFTC to apply “rigorous cost benefit analysis” in its rulemaking,[11] and recently requested additional funds from Congress for fiscal year 2018 so the Commission can “enhance economic cost benefit analysis capabilities.”[12]  With respect to the Commissions’ reliance on staff action, the Chairmen of the Commissions have made public statements to the effect that the agencies will work more collaboratively with the industry during the rulemaking consultation process and rely less heavily on the issuance of staff no-action letters and interpretations.  Indeed, Chairman Giancarlo has emphasized the need to ensure that market participants and affected parties do not experience significant implementation issues when complying with the CFTC’s rulemakings.[13] Third, market participants should expect the Commissions to engage in efforts to harmonize their derivatives regulations and to cooperate with international regulators.  With respect to the rulesets of the two agencies, the Report clearly favors domestic harmonization over merging the Commissions.  With respect to international cooperation, the Commissions already have engaged in two examples following the issuance of the Report.  The first example is the SEC’s adoption of measures to facilitate the cross-border implementation of the European Union’s Markets in Financial Instruments Directive II (“MiFID II”) research provisions.[14]  The second example, discussed below in Section III(2) of this alert, is the CFTC’s two recent actions on harmonization with the European Commission (“EC”).[15] Fourth and finally, market participants should expect Congress to consider legislative proposals that would, if adopted, result in targeted amendments to Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) in order to address some of its more over-bearing provisions.  While most of Treasury’s recommendations call for regulatory action, there are certain areas in the Report where Treasury acknowledges the need for Congress to take action, in particular with respect to the definition of “financial entity” as well as harmonizing rulemaking among agencies.  Because Congress currently is focused on legislative matters such as tax reform, health care, and infrastructure, the timing and vehicles for implementing the Report’s legislative recommendations remain unclear. III.     Capital Markets Report Derivatives-Related Recommendations The Capital Markets Report makes ninety-one recommendations in nine topic areas.[16]  The derivatives-related topic areas include: (1) derivatives legislative recommendations; (2) derivatives regulatory recommendations; (3) bank capital and margin; (4) financial market utilities; and (5) administrative matters (i.e., regulatory structure and process).  Across those topic areas, we discuss below the most important recommendations to derivatives market participants and derivatives market reform. (1)  Legislative Recommendations In its preparation of the Capital Markets Report, Treasury generally expressed widespread support for the broad derivatives regulatory changes enacted under Title VII of Dodd-Frank.  The Report recommends, however, three legislative amendments relating to the derivatives title of Dodd-Frank. Definition of “Financial Entity.”  The Report recommends a legislative amendment to finally address the numerous proposals since Dodd-Frank’s passage to modify the definition of “financial entity” and clarify the scope of the exception for nonfinancial end users’ affiliates.  It recommends that Congress amend the Commodity Exchange Act (“CEA”) Section 2(h)(7) to provide the CFTC with rulemaking authority to modify and clarify the scope of the financial entity definition and the treatment of affiliates, and provide the SEC analogous rulemaking authority under the Securities Exchange Act of 1934 (“Exchange Act”) Section 3C(g) for security-based swaps. Harmonization.  The Report focuses heavily on the harmonization of existing and forthcoming rules among the agencies and recommends that Congress consider further action to aid in this goal, particularly in relation to the regulation of swaps and security-based swaps. Streamline and Formalize Rulemakings.  The Report recommends that the Commissions streamline regulation by avoiding imposing substantive new requirements by interpretation or other guidance.  However, it suggests that Congress restore the Commissions’ authority to provide exemptions to requirements when necessary to facilitate market innovation.  The Report says that regulators should also conduct reviews of existing agency rules in order to decrease regulatory burdens and ensure relevance, and should fully solicit comments and input from the public. (2)  Significant Regulatory Recommendations Most of Treasury’s recommendations are regulatory in nature and come under the rulemaking authority of the Commissions.  Following Treasury’s release of the Report, the CFTC issued a comprehensive statement explaining what it views as the Report’s key recommendations on derivatives.[17]  The CFTC’s statement emphasizes recommendations on capital treatment in support of central clearing; swap execution facilities; the SEC-CFTC merger debate; SEC-CFTC harmonization; cross-border issues; economic analysis; swap data reporting; and central counterparties’ (“CCPs”) “skin in the game.”  We highlight seven of the most significant regulatory recommendations on derivatives below. Swap Dealer De Minimis Threshold.  The Report recommends that CFTC maintain the swap dealer de minimis threshold calculation at $8 billion and establish that any future changes to the threshold will be subject to a formal rulemaking.  The Report found that lowering the threshold to a $3 billion level would result in a tremendous increase in the number of regulated entities but would only capture less than 1 percent of notional activity.  The Report indicates that market participants strongly support maintaining the $8 billion level and that clarification on the topic will reassure markets.On October 26, the CFTC voted to extend the sunset date  of the exception threshold by one year, ensuring that the threshold will stay at $8 billion until December 31, 2019, instead of decreasing to $3 billion on December 31, 2018.[18]  This action was the CFTC’s second order providing such relief.  The CFTC explained in the current order that it needed additional time to complete its analysis of swap data and consider appropriate further action, including potential amendments to the de minimis exception.  It further noted that any such amendments, if implemented, would not become effective until some point in 2018 because the CFTC would have to follow its normal rulemaking process under the Administrative Procedure Act. Formalize Staff Guidance.  In relation to the implementation of the swaps regulatory framework under Title VII of Dodd-Frank, the Report recommends that regulators rely less on no-action letters and take steps to simplify and formalize staff guidance where necessary.  The CFTC has already begun its efforts in this regard by soliciting comments from the public on Project KISS and CFTC staff’s Roadmap to Achieve High Quality Swaps Data (the “Roadmap”), which is discussed below. Finalize Position Limits.  The Report notes that progress on establishing position limits has been a challenge.  The CFTC finalized a position limits rule in November 2011, which was vacated in September 2012 by the U.S. District Court for the District of Columbia after a legal challenge.  The Commission has since had multiple re-proposals of the position limits rules but has not taken final action.  The Report urges the CFTC to finalize its position limits rulemaking as contemplated by the statutory mandate, taking into account, among other things, the appropriate availability of bona fide hedging exemptions for end-users, and finally bring clarity to this important issue.  We anticipate that yet another position limits re-proposal is forthcoming from the CFTC. Swap Data Reporting Reform. The Report supports the CFTC’s Roadmap efforts to standardize and harmonize reporting rules for products and swap data repositories.  The Roadmap effort is directed by the CFTC’s Division of Market Oversight and lays out the tranches of changes to the CFTC’s swap data reporting rules.  The Report recommends the CFTC commit adequate resources to the Roadmap effort, amend its rules through a formal rulemaking process, and implement the new standards within the timeframe outlined in the Roadmap. Cross-Border Jurisdiction. On cross-border issues, the Report highlights the need for U.S. regulators to continue to engage and cooperate with international counterparts and seek notice and comment for rulemakings in an effort to avoid market fragmentation, redundancies, undue complexity, and conflicts of law.  Treasury recommends that the Commissions:  (1) make their swaps and security-based swaps rules compatible with non-U.S. jurisdictions; (2) adopt outcomes-based substituted compliance regimes that minimize redundancies and conflicts by considering the rules of other jurisdictions; and (3) reconsider their approaches to transactions that are arranged, negotiated, or executed by personnel in the United States for applying transaction-level swap requirements.  The CFTC indicated preliminary steps to comply with these recommendations through its October 13, 2017 joint announcement with the EC on harmonizing two key derivatives regulatory requirements.[19] Harmonize Margin Requirements for Uncleared Swaps. The Report recommends that the CFTC and U.S. banking regulators harmonize margin requirements for uncleared swaps domestically and cooperate with non-U.S. jurisdictions so that U.S. bank swap dealers and U.S. firms are not at a disadvantage to domestic and international competitors.  The Report recommends that regulators consider amendments to their rules to allow for more realistic time frames for collecting and posting margin on uncleared swaps; reconsider treating end users all the same for the purposes of margin on uncleared swaps; and that the SEC re-propose its proposed margin rule for uncleared security-based swaps in a manner that is aligned with the margin rules of the CFTC and U.S. prudential regulators.The CFTC and the EC announced on October 13, 2017 that they had adopted substituted compliance uncleared margin determinations for each other’s uncleared margin requirements.[20]  As a result, swap dealers subject to both CFTC’s and European’s uncleared margin rules now have more certainty that they will not have to establish duplicative compliance programs.[21] SEF Execution Methods and MAT Process.  Due to market participants’ concerns that the CFTC’s current mandatory trading protocols (i.e., order book and “RFQ-to-3” requirements) are overly restrictive—a concern also expressed by CFTC Chairman Giancarlo—the Report recommends that the CFTC:  (1) consider rule changes to permit swap execution facilities (“SEFs”) to use any means of interstate commerce to execute swaps subject to trade execution mandates; (2) reevaluate the made available to trade (“MAT”) determination process to ensure liquidity; and (3) consider clarifying or eliminating footnote 88 of the June 2013 CFTC SEF final rules that triggered the exclusion of U.S. participants by most non-U.S. trading platforms and that ultimately has led to a bifurcation of the global interest rate swaps market.[22]One recent step that the CFTC has taken to ameliorate the effects of footnote 88 is the agency’s October 13 joint announcement with the EC regarding an agreement to recognize each other’s authorized trading venues.  Once the terms of their agreement is finalized, European firms operating in the United States will be able to trade derivatives on authorized U.S. trading venues while still complying with EU law in advance of the trading obligation go-live date of Markets in Financial Instruments Directive II.[23]  The agreement, once finalized, also will allow U.S. firms to comply with the CFTC’s trade execution requirement by executing swaps on EU-authorized trading venues.  Since the announcement sets forth only a common plan, both regulators must take additional steps to effectuate recognition of each other’s trading venues.  The timing of the EC’s and the CFTC’s actions to finalize their agreement is uncertain. (3)  Bank Capital and Margin Recommendations U.S. banking agencies and the CFTC finalized their respective margin rules for the uncleared swaps and bank-affiliated swap dealers in November 2015 and nonbank swap dealers in January 2016.  The Report recommends that U.S. regulators take steps to harmonize their margin requirements for uncleared swaps domestically and cooperate with non-U.S. jurisdictions to promote a level playing field for U.S. firms. Treasury’s recommendations of particular importance to derivatives market participants are highlighted below. Capital Treatment in Support of Central Clearing.  Treasury reiterates its recommendation in the Banking Report that initial margin for centrally-cleared derivatives should be deducted from the supplementary leverage ratio denominator, thereby reducing the cost for banks to provide clearing services and ending the penalization of entities for clearing their swaps.  Additionally, the Report recommends a risk-adjusted approach for valuing options under capital rules, and that banking regulators conduct regular assessments on how capital and liquidity rules impact the incentives to centrally clear derivatives. Exemption from Initial Margin Requirements.  The Report notes that market participants hold the view that U.S. regulators have taken a stricter approach than non-U.S. jurisdictions with respect to many of the particular requirements of the uncleared margin rules.  Accordingly, the Report recommends that U.S. prudential regulators consider providing an exemption to initial margin requirements for derivatives trades between affiliates of the same bank (i.e., inter-affiliate transactions), harmonizing the requirements with those of the CFTC and corresponding non-U.S. requirements, and promoting a level playing field for U.S. firms. (4)  Financial Market Utilities Recommendations CCPs, trade repositories, and exchanges are an essential part of the Dodd-Frank derivatives market infrastructure.  The Report states these financial market utilities (“FMUs”) are critical financial infrastructures that are also highly interconnected with other U.S. financial institutions and, therefore, pose a threat of systemic risk. Strengthen Oversight.  To address concerns regarding systemic risk, Treasury recommends additional oversight of FMUs and finalizing strong resolution regimens for these entities in order to limit potential taxpayer-funded bailouts and moral hazard, especially important because FMUs may have access to the Federal Reserve System’s (“Federal Reserve”) discount window. Increase Resources for Regulators.  The Report further recommends that more resources be devoted to the regulators that supervise systemically-important FMUs, in particular for the CFTC to enhance supervision of CCPs, and for the Federal Reserve to review risks related to  account access, strengthen stress testing exercises, and coordinate and complete the development of resolution plans for FMUs. CCP “Skin in the Game.”  The Report also recommends that CCPs and their members work together to strike an appropriate balance between the CCPs’ resources and mutualized resources of clearing members. (5)  Administrative Recommendations The Report makes a number of recommendations that are focused on the administrative procedures followed by the Commissions rather than on specific substantive requirements.  Each of the key recommendations in this regard are discussed below. SEC-CFTC Merger Debate.  The Report highlights the need for harmony and cooperation between regulators.  However, Treasury stops short of recommending a merger between the SEC and CFTC, citing the key differences in their underlying regulatory purposes—capital formation and investment versus hedging and risk transfer—and insignificant cost savings of five percent.  Instead, the Report recommends that the Commissions better harmonize rules to avoid increased compliance cost and complexity for market participants.  Specifically, the Report notes that where the CFTC has finalized most of the rulemakings required under Dodd-Frank, there are several “critical rulemakings” that the SEC has not yet finalized or implemented.  Treasury recommends that the Commissions harmonize Title VII of Dodd-Frank reform rules with an eye towards reducing burdens on market participants. Enhance Cost Benefit Analyses.  The Report stresses that the Commissions continue to perform more, and heightened, economic analysis of costs and benefits in rulemaking, including an updated consideration of the effects on small entities, and that the Commissions publish this information where appropriate. Comprehensive Reviews of Self-Regulatory Organizations.  The Report finds that, while self-regulatory organizations (“SROs”) offer many benefits to the capital market, over time they have grown larger, their members have less control, and many have become for-profit publicly traded companies.  As a result, some constituencies told Treasury that SROs have become less transparent while their rules and costs continue to increase, and have created a potential for regulatory duplication with Commissions or other SROs.  Thus, Treasury recommends the Commissions conduct comprehensive reviews of the SROs and make recommendations for operational, structural, and governance improvements of the SRO framework to include, among other things, controlling for conflicts of interest; transparency regarding fee structures; and limitations on regulatory, surveillance, and enforcement responsibilities.  If enhanced oversight of SROs is required, the regulators should take action in this regard. Definition of “Small Entity.”  Under the Regulatory Flexibility Act (“RFA”), Federal agencies are required to consider the impact of rulemaking on small entities.  Rules regarding which entities are considered a “small entity” by the Commissions, however, can be overbroad in some instances and too narrow in others.  The Report recommends that the Commissions review and update these definitions so that the RFA analysis appropriately considers the impact on persons who should be considered small entities. IV.     Conclusion  Each of the derivatives-related recommendations in the Capital Markets Report conform with the Order’s seven core principles, which essentially seek to foster U.S. economic growth through right-sizing regulatory obligations.  To reach this goal, Treasury urges regulatory agencies and Congress to focus on streamlining and harmonizing regulations, something we anticipate the Commissions—whose input was incorporated into the Report—will address by making procedural changes to rulemaking and working more closely with each other and international regulators.  Legislative amendments to some provisions of Title VII of Dodd-Frank should also be expected.  Ultimately,  Treasury’s proposed agenda will take a significant amount of time to develop and implement, so the impact of these recommendations likely will not be felt by market participants in the near term.    [1]   U.S. Dep’t of the Treas., A Financial System That Creates Economic Opportunities: Capital Markets (2017), available at https://www.treasury.gov/press-center/press-releases/Documents/A-Financial-System-Capital-Markets-FINAL-FINAL.pdf.    [2]   Exec. Order No. 13,772, 82 Fed. Reg. 9965 (Feb. 8, 2017).    [3]   The seven core principles in the Order are: (a) empower Americans to make independent financial decisions and informed choices in the marketplace, save for retirement, and build individual wealth; (b) prevent taxpayer-funded bailouts; (c) foster economic growth and vibrant financial markets through more rigorous regulatory impact analysis that addresses systemic risk and market failures, such as moral hazard and information asymmetry; (d) enable American companies to be competitive with foreign firms in domestic and foreign markets; (e) advance American interests in international financial regulatory negotiations and meetings; (f) make regulation efficient, effective, and appropriately tailored; and (g) restore public accountability within Federal financial regulatory agencies and rationalize the Federal financial regulatory framework. For further information, see our Client Alert, President Trump Issues Executive Order on Financial Regulation, and Memorandum on Department of Labor Fiduciary Rule (Feb. 6, 2017), available at http://www.gibsondunn.‌com‌‌‌‌/publications/Pages/President-Trump-Issues-Executive-Order-on-Financial%20Regulation–DOL-Fiduciary-Rule.aspx.    [4]   In addition to collaborating with the Commissions, Appendix A to the Report contains a list of market participants, think tanks, trade groups, regulators, consumer advocates, and academics that engaged with Treasury in preparing the recommendations in the Report.    [5]   Statement attributed to Chairman Jay Clayton (Oct. 6, 2017) (on file with U.S. Sec. & Exch. Comm’n).    [6]   U.S. Commodity Futures Trading Comm’n, Statement of Chairman Giancarlo on Treasury Report on Capital Markets (Oct. 6, 2017), available at http://www.cftc.gov/PressRoom/SpeechesTestimony/‌giancarlostatement100617.    [7]   Id.    [8]   Project KISS is the CFTC’s initiative to seek public input on simplifying and modifying the CFTC’s rules.  In particular, the CFTC requested comments on five key initiatives:  (1) Registration; (2) Reporting; (3) Clearing; (4) Executing; and (5) Miscellaneous.  The comment period for providing comments on these initiatives closed on September 30, 2017.  See U.S. Commodity Futures Trading Comm’n, CFTC Requests Public Input on Simplifying Rules (May 3, 2017), available at http://www.cftc.gov/PressRoom/PressReleases/pr7555-17.    [9]   See Section III(2) Swap Data Reporting Reform. [10]   U.S. Commodity Futures Trading Comm’n, Chairman Giancarlo Appoints Bruce Tuckman CFTC’s Chief Economist (Aug. 21, 2017), available at http://www.cftc.gov/PressRoom/PressReleases/pr7604-17. [11]   See, e.g., U.S. Commodity Futures Trading Comm’n, Remarks of CFTC Commissioner J. Christopher Giancarlo before the U.S. Chamber of Commerce (Nov. 20, 2014), available at http://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlos-2.   [12]   U.S. Commodity Futures Trading Comm’n, Testimony of J. Christopher Giancarlo, Acting Chairman, Commodity Futures Trading Commission, before the U.S. Senate Committee on Appropriations Subcommittee on Financial Services and General Government (June 27, 2017), available at http://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlo-26. [13]   U.S. Commodity Futures Trading Comm’n, Testimony of J. Christopher Giancarlo, Chairman, Commodity Futures Trading Commission, before the U.S. House Committee on Agriculture (Oct. 11, 2017), available at https://agriculture.house.gov/uploadedfiles/testimony_for_j._chris_giancarlo_before_house_ag__10.11.17.pdf. [14]   U.S. Securities and Exchange Comm’n, SEC Announces Measures to Facilitate Cross-Border Implementation of the European Union’s MiFID II’s Research Provisions (Oct. 26, 2017), available at https://www.sec.gov/news/press-release/2017-200-0. [15]   For further information, see our Client Alert, Ready? Set? Harmonize: The CFTC and EC Announce Two Actions to Harmonize Their Derivatives Regulations ( Oct. 27, 2017), available at http://gibsondunn.com/publications/Pages/CFTC-and-EC-Announce-Two-Actions-to-Harmonize-Their-Derivatives-Regulations.aspx. [16]   Appendix B of the Report contains a table of recommendations outlining in detail each recommendation, the branch or regulator responsible for the related policy, and the core principle that applies. [17]   U.S. Commodity Futures Trading Comm’n, CFTC Backgrounder on the Department of Treasury’s Report on Capital Markets, available at http://www.cftc.gov/idc/groups/public/@newsroom/documents/file/ treasuryreport100617.pdf. [18]     U.S. Commodity Futures Trading Comm’n, CFTC Issues Order Extending Current Swap Dealer De Minimis Threshold to December 2019 (Oct. 26, 2017), available at http://www.cftc.gov/PressRoom/PressReleases/pr7632-17. [19]   For further information, see our Client Alert, Ready? Set? Harmonize: The CFTC and EC Announce Two Actions to Harmonize Their Derivatives Regulations ( Oct. 27, 2017), available at http://gibsondunn.com/publications/Pages/CFTC-and-EC-Announce-Two-Actions-to-Harmonize-Their-Derivatives-Regulations.aspx. [20]   Id. [21]   Swap dealers that are subject to the U.S. prudential regulators’ uncleared margin rules, however, are not covered by the Uncleared Margin Determinations and, as a result, are unable to rely on this substituted compliance relief. [22]   See CFTC, Final Rule, Core Principles and Other Requirements for Swap Execution Facilities, 78 Fed. Reg. 33476 (June 4, 2013). [23]   For further information, see our Client Alert, Ready? Set? Harmonize: The CFTC and EC Announce Two Actions to Harmonize Their Derivatives Regulations (Oct. 27, 2017), available at http://gibsondunn.com/publications/Pages/CFTC-and-EC-Announce-Two-Actions-to-Harmonize-Their-Derivatives-Regulations.aspx Gibson Dunn’s lawyers  are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or the following: Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com) Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Stephanie L. Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Amy Kennedy – London (+44 (0)20 7071 4283, akennedy@gibsondunn.com) Carl E. Kennedy – New York (+1 212-351-3951, ckennedy@gibsondunn.com) Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com) © 2017 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

November 1, 2017 |
Webcast: IPO and Public Company Readiness: Regulatory Compliance Issues

​Public companies face unique challenges as they confront and seek to manage OFAC, AML and FCPA compliance risk. Disclosure obligations and market reactions can intensify the pressures arising from alleged or actual violations of these laws. Companies preparing to go public must assess their compliance programs in order to avoid or mitigate incidents that could harm their business, disrupt the IPO process or damage their reputation as a newly public company. Companies also must be prepared to successfully respond to the scrutiny regarding compliance issues in the diligence and disclosure process associated with an IPO. Our highly experienced and distinguished panel of Gibson Dunn partners from the Capital Markets, Financial Institutions and White Collar Defense and Investigations Practice Groups will provide invaluable and practical advice and tips on how companies can prepare for public company reporting and scrutiny of their compliance programs. View Slides [PDF] PANELISTS Stephanie L. Brooker is a partner in the Washington, D.C. office of Gibson, Dunn & Crutcher where she is Co-Chair of Gibson Dunn’s Financial Institutions Practice Group and a member of the White Collar Defense and Investigations Practice Group. Ms. Brooker is a former Director of the Enforcement Division at the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN) and a former federal prosecutor, where she served as the Chief of the Asset Forfeiture and Money Laundering Section in the U.S. Attorney’s Office for the District of Columbia, tried 32 criminal trials, and briefed and argued criminal appeals. Ms. Brooker’s practice focuses on internal investigations, regulatory enforcement, white collar criminal defense, and compliance counseling involving anti-money laundering (AML)/Bank Secrecy Act (BSA), sanctions, anti-corruption, securities, tax, and wire fraud. Joel M. Cohen is a partner in the New York office of Gibson, Dunn & Crutcher where he is Co-Chair of Gibson Dunn’s White Collar Defense and Investigations Practice Group and a member of its Securities Litigation, Class Actions and Antitrust and Competition Practice Groups. Mr. Cohen’s experience includes all aspects of FCPA/anti-corruption issues, insider trading, securities and financial institution litigation, class actions, sanctions, money laundering and asset recovery, with a particular focus on international disputes and discovery. Mr. Cohen was the prosecutor of Jordan Belfort and Stratton Oakmont, which is the focus of “The Wolf of Wall Street” film by Martin Scorsese. He was an adviser to OECD in connection with the effort to prohibit corruption in international transactions and was the first Department of Justice legal liaison advisor to the French Ministry of Justice. Andrew L. Fabens is a partner in the New York office of Gibson, Dunn & Crutcher where he is Co-Chair of Gibson Dunn’s Capital Markets Practice Group and a member of the Securities Regulation and Corporate Governance Practice Group. Mr. Fabens advises companies on long-term and strategic capital planning, disclosure and reporting obligations under U.S. federal securities laws, corporate governance issues and stock exchange listing obligations. He represents issuers and underwriters in public and private corporate finance transactions, both in the United States and internationally. Stewart L. McDowell is a partner in the San Francisco office of Gibson, Dunn & Crutcher where she is Co-Chair of Gibson Dunn’s Capital Markets Practice Group and a member of the Steering Committee of the Securities Regulation and Corporate Governance Practice Group. Ms. McDowell’s represents business organizations as to capital markets transactions, mergers and acquisitions, SEC reporting, corporate governance and general corporate matters. She represents both underwriters and issuers in a broad range of both debt and equity securities offerings, in addition to buyers and sellers in connection with U.S. and cross-border mergers, acquisitions and strategic investments. Adam M. Smith is a partner in the Washington, D.C. office of Gibson, Dunn & Crutcher where his practice focuses on international trade compliance and white collar investigations with a focus on economic sanctions and export controls. Mr. Smith served as Senior Advisor to the Director of the U.S. Treasury Department’s Office of Foreign Assets Control (OFAC) and as the Director for Multilateral Affairs on the National Security Council. While at OFAC he played a primary role in all aspects of the agency’s work, including briefing Congressional and private sector leadership on sanctions matters, shaping new Executive Orders, regulations, and policy guidance for both strengthening sanctions and easing measures. Mr. Smith counsels a global roster of clients in the financial, services, manufacturing and technology sectors to help them understand, navigate and comply with increasingly complex financial regulations. Peter W. Wardle is a partner in the Los Angeles office of Gibson, Dunn & Crutcher where he is Co-Chair of Gibson Dunn’s Capital Markets Practice Group. Mr. Wardle represents issuers and underwriters in equity and debt offerings, in addition to both public and private companies in mergers and acquisitions, including private equity, cross border, leveraged buy-out, distressed and going private transactions. He also advises clients on a wide variety of general corporate and securities law matters, including corporate governance issues. MCLE CREDIT INFORMATION: This program has been approved for credit in accordance with the requirements of the New York State Continuing Legal Education Board for a maximum of 1.50 credit hours, of which 1.50 credit hours may be applied toward the areas of professional practice requirement.  This course is approved for transitional/non-transitional credit. Attorneys seeking New York credit must obtain an Affirmation Form prior to watching the archived version of this webcast.  Please contact Jeanine McKeown (National Training Administrator), at 213-229-7140 or jmckeown@gibsondunn.com to request the MCLE form. Gibson, Dunn & Crutcher LLP certifies that this activity has been approved for MCLE credit by the State Bar of California in the amount of 1.50 hours. California attorneys may claim “self-study” credit for viewing the archived version of this webcast.  No certificate of attendance is required for California “self-study” credit.

October 27, 2017 |
Ready? Set? Harmonize. The CFTC and EC Announce Two Actions to Harmonize Their Derivatives Regulations

This alert discusses the U.S. Commodity Futures Trading Commission’s (“CFTC“) and European Commission’s (“EC“, together with the CFTC, the “Commissions“) announcements on October 13, 2017 regarding the international harmonization on two key derivatives regulatory requirements.[1]  The Commissions first announced that they had separately adopted comparability and equivalence determinations related to their respective uncleared swap margin regulations (“Uncleared Margin Determinations“).[2]  The Commissions then announced that they had reached a common plan to recognize each other’s authorized derivatives trading venues as comparable and equivalent (“Common Plan on Trading Venues“).[3]  Ultimately, both of these actions will have positive impacts on cross-border swap trading for both U.S. and European market participants once fully implemented.  The most significant of these impacts is the avoidance of potential market disruption and fragmentation resulting from the implementation of the European Union’s (“EU“) cornerstone financial markets legislation and regulation—the Markets in Financial Instruments Directive (“MiFID II“)[4] and the European Market Infrastructure Regulation (“EMIR“), respectively—which go into force on January 3, 2018. To present these two important announcements, CFTC Chairman J. Christopher Giancarlo and EC Vice President for Financial Stability, Financial Services and Capital Markets Union, Valdis Dombrovskis, held a joint press conference and issued statements emphasizing their commitment to international coordination and cooperation on derivatives regulation.  The unprecedented manner of these announcements demonstrates that the tone and approach under CFTC Chairman Giancarlo on matters relating to cross-border swap regulation under the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank” or “Dodd-Frank Act“)[5] will be quite different from that of his predecessors.  Indeed, when commenting on the Commissions’ two actions, Giancarlo noted that, “Today marks a significant milestone in cross-border harmonization between the EC and the CFTC.  These cross-border measures will provide certainty to market participants and also ensure that our global markets are not stifled by fragmentation, inefficiencies, and higher costs.”[6] In the days and weeks following the Commissions’ adoption of these two actions, while U.S. and European swap market participants subject to the CFTC and EU’s uncleared swap margin rules can breathe a sigh of relief in terms of their compliance with requirements under those rules, U.S. and European market participants should not become too comfortable since the Commissions must take further actions in order to implement the Common Plan on Trading Venues before the MiFID II implementation deadline on January 3, 2018.  While Giancarlo and Dombrovskis indicated that their respective staffs are working collaboratively and extensively to meet this deadline, the exact timing and details of the Commissions’ actions to effectuate their plan remain uncertain. In the sections that follow, we first summarize the impact of the Uncleared Margin Determinations and then outline and discuss the known elements of the Commissions’ Common Plan on Trading Venues.  Please feel free to contact Gibson Dunn’s Derivatives Team if you have any questions. 1.     Uncleared Margin Determinations Shortly before making their announcements on October 13, the Commissions adopted the Uncleared Margin Determinations for each other’s uncleared margin requirements.   As a result, swap dealers subject to both CFTC and European uncleared margin rules now have more certainty that they will not have to establish duplicative compliance programs.  In contrast, swap dealers that are subject to the U.S. prudential regulators’ uncleared margin rules are not covered by the Uncleared Margin Determinations and, as a result, are unable to rely on this substituted compliance relief.  The U.S. prudential regulators have not yet issued a comparability determination relating to the EC’s uncleared derivatives margin rules. Background and a discussion of the implications of the CFTC’s and the EC’s determinations are provided in more detail separately below. a.     CFTC’s Comparability Determination On the morning of the announcements, the CFTC unanimously voted to approve its comparability determination,[7] affirmatively finding that the EU’s uncleared derivatives margin rules are comparable in outcome to the CFTC’s uncleared swap margin rules under the Commodity Exchange Act (“CEA“)[8] and CFTC regulations.[9]  The prelude to the CFTC’s vote on October 13 started on December 16, 2015, when the CFTC adopted its final uncleared swap margin rules.  Those rules required non-prudentially-regulated swap dealers to post and collect initial and daily variation margin for their uncleared swaps entered into with other swap dealers and “financial end-users” (e.g., insurance companies, private funds and securitization vehicles) by March 1, 2017.[10]   Those rules also required that non-prudentially-regulated swap dealers post and collect initial margin subject to a phased-in compliance schedule, with various compliance dates extending into the year 2020.   Following its December 2015 vote, the CFTC adopted a final rule in May 2016, setting forth the manner in which its uncleared swap margin rules would apply to cross-border transactions.  This subsequent rulemaking provided that certain foreign swap dealers subject to both the jurisdiction of the CFTC and the foreign regulator through substituted compliance could elect to comply with the applicable foreign jurisdiction’s uncleared margin rules (instead of the CFTC’s rules) once the CFTC issued a comparability determination for the foreign jurisdiction.  To begin the CFTC’s comparability determination process, the EC filed a submission with the CFTC on November 22, 2016, requesting that the CFTC make such a determination for the EU’s uncleared derivatives margin rules. The CFTC’s comparability determination for the EU’s uncleared derivatives margin rules analyzed several principles, including  the scope and objectives of the EU’s uncleared swap margin requirements and whether the EU’s requirements achieve comparable outcomes to the CFTC’s corresponding requirements.[11]  In short, the CFTC’s analysis primarily stressed the importance of the EU’s uncleared derivatives margin rules aligning with the Basel Committee on Banking Supervision’s (”BCBS”) and the International Organization of Securities Commissions’ (”IOSCO”) principles for uncleared derivatives margin rules.[12]  Based on its analysis, the CFTC’s determination deemed any swap dealer that is subject to both CFTC jurisdiction and EU law and complies with the EU’s uncleared derivatives margin requirements to be in compliance with the CFTC’s uncleared swap margin rules, effective immediately.  The CFTC’s comparability determination noted, however, that the swap dealer’s dually-regulated swap positions would remain subject to the CFTC’s examination and enforcement authority. In effect, the CFTC’s adoption of its comparability determination should not result in any material change to impacted swap dealers’ existing compliance programs since CFTC staff took action earlier this year specifically to address any differences between the CFTC’s and EU’s requirements.  In particular, the CFTC’s October 13 comparability determination effectively supersedes CFTC Staff No-Action Letter 17-22 (“Letter 17-22“), which the CFTC’s Division of Swap Dealer and Intermediary Oversight issued on April 18, 2017.[13]   That letter—and a previously issued, but now expired staff letter—were intended to specifically address concerns related to the differences between the CFTC’s and EU’s variation margin requirements around the types of transactions and counterparties subject to margin requirements, the types of eligible collateral required, margin transfer timing and valuation methods.  Letter 17-22 extended the previously-issued no-action relief to swap dealers subject to the CFTC’s uncleared swap margin rules from having to comply with certain provisions in the CFTC’s rules when those swap dealers entered into swaps with counterparties that are subject to the EU’s uncleared derivatives margin rules.  Letter 17-22 was set to expire on November 7, 2017.  Swap dealers subject to the CFTC’s uncleared swap margin rules now can rely on the more permanent relief provided by the CFTC’s comparability determination. b.     EC’s Equivalence Determination As noted above, the EC similarly adopted a determination on October 13 before its formal announcement recognizing the CFTC’s uncleared swap margin regulations as equivalent to similar requirements under EMIR.  EMIR sets forth requirements for the exchange of margin for uncleared, over-the-counter (“OTC“) derivatives contracts entered into by financial counterparties and non-financial counterparties above the EU’s clearing threshold.[14]  The EU’s uncleared derivatives margin rules entered into force on January 4, 2017, and from March 1 2017, certain counterparties begun posting both variation margin and initial margin (with a phase-in of the initial margin requirements through the year 2020). In the cross-border context, the EU’s margin requirements also apply to OTC derivative contracts entered into with third-country entities that would be subject to the EU’s uncleared margin requirements if they were established in the EU where the contract has a direct, substantial and foreseeable effect within the EU or such obligation is necessary or appropriate to prevent the evasion of any provision of EMIR.   The EC has authority under EMIR, however, to allow substituted compliance to third-country entities if the EC determines that a third country has a legal supervisory and enforcement regime that is equivalent to EMIR.  Under this authority, the EC concluded that the CFTC’s uncleared swap margin rules were equivalent in substance to the EU’s uncleared derivatives margin rules and in terms of the CFTC’s legal supervision and enforcement regime. 2.     Common Plan on Trading Venues During the same press conference, the Commissions also announced their Common Plan on Trading Venues, which lays out the Commissions’ agreement regarding the recognition of each other’s authorized trading venues.[15]  The Common Plan on Trading Venues was modeled after the Commissions’ common approach adopted in 2016 to address cross-border recognition issues dealing with derivatives clearinghouses.[16]  In effect, the Common Plan on Trading Venues importantly aims to allow European firms operating in the United States to trade derivatives on authorized U.S. trading venues while still complying with the EU’s Markets in Financial Instruments Regulation (“MiFIR“)[17] trading obligation in advance of MiFID II’s expected implementation date on January 3, 2018.  By that date, any market participant that is subject to the EU’s trading obligation will be required to execute certain swap transactions on regulated markets, multilateral trading facilities (“MTFs“), organized trading facilities (“OTFs“) or certain third-country trading venues.[18] Once the Commissions’ finalize and issue comparability and equivalence determinations for each other’s authorized derivatives trading venues, U.S. firms will be able to comply with the CFTC’s trade execution mandate under the CEA and CFTC regulations[19] by executing swaps on EU-authorized MTFs and OTFs that are exempted from registration as a swap execution facility (“SEF“).[20]  Conversely, European firms will be able to comply with the EU’s trading obligation by executing swaps on authorized CFTC-authorized SEFs and DCMs. Notably, the Commissions’ announcement of the Common Plan on Trading Venues only sets forth the Commissions’ intentions to take further action and the key elements of the Commissions’ approaches.  Thus, both regulators must take further steps in order to effectuate recognition of each other’s authorized trading venues. The Common Plan on Trading Venues outlines some of the actions that the Commissions must undertake.  In particular, it provides that Vice President Dombrovskis intends to propose an equivalence decision covering CFTC-authorized SEFs and DCMs operating the United States, which comply with relevant requirements under MiFID II, MiFIR and the Market Abuse Regulation (“MAR“).[21]  The Common Plan on Trading Venues also noted that CFTC staff in the Division of Market Oversight—with the support of Chairman Giancarlo—intend to propose a single order exempting trading venues from the SEF registration requirement.  The CFTC would adopt the order through its exemption authority under CEA Section 5h(g), which allows the CFTC to grant an exemption where it determines that a foreign trading venue is subject to comparable, comprehensive supervision and regulation on a consolidated basis by its relevant home country regulator.[22]  In order to qualify for the CFTC’s exemption, a foreign trading venue would be required to (i) satisfy requirements under MiFIR and MiFID II, (ii) be identified to the CFTC by the EC, and (iii) in essence, meet such additional standards as the CFTC may determine under the CEA. In terms of the timing of their proposed actions, the Commissions have indicated that they are working as expeditiously as practicable to ensure that all necessary actions to achieve recognition are completed in a coordinated manner.  The CFTC is now preparing a list of eligible SEFs and DCMs that it will share with the EC.  The EC is similarly preparing a list of eligible MiFID II/MiFIR and MAR compliant trading venues to share with the CFTC.  In addition, the Commissions further noted that CFTC staff and the staffs of relevant national competent authorities (through coordination with the EC) will work towards concluding cooperation arrangements in order to ensure the effective exchange of information and coordination of supervisory activities. We are closely monitoring the Commissions’ implementation of the Common Plan on Trading Venues and will provide updates once the Commissions’ take final action.    [1]   See CFTC Press Release (PR 7629-17), CFTC Comparability Determination on EU Margin Requirements and a Common Approach on Trading Venues (Oct. 13, 2017).  See also EC Press Release, European Comm’n, Vice-President Valdis Dombrovkis’ Press Statement With the U.S. Commodity Futures Trading Comm’n (Oct. 13, 2017).    [2]   See CFTC, Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants, 81 Fed. 636 (Jan. 6, 2016); Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants – Cross-Border Application of the Margin Requirements, 81 Fed. Reg. 34818 (May 31, 2016).  See also EC, Council Regulation 648/2012, 2012 O.J. (L 201) 1(EU); Comm’n Delegated Regulation 2016/2251, 2016 O.J. (L 340) 9 (EU).    [3]   See CFTC, A Common Approach on Certain Derivatives Trading Venues (Oct. 13, 2017), available at http://www.cftc.gov/idc/groups/public/@newsroom/documents/file/dmo_cacdtv101317.pdf.    [4]   See Directive 2014/65/EU.    [5]   See Dodd-Frank Wall Street Reform and Consumer Protection Act, 124 Stat. 1376, Pub. Law 111-203 (July 21, 2010).    [6]   CFTC Chairman J. Christopher Giancarlo, Prepared Remarks at Press Conference to Announce comparability Determination on EU Margin Requirements and a Common Approach on Trading Venues (Oct. 13, 2017), available at:  http://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlo-30.    [7]   See CFTC, Notification of Determination, Comparability Determination for the European Union: Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants, 82 Fed. Reg. 48394 (Oct. 18, 2017).    [8]   See 7 U.S.C. 1 et seq. (2017).    [9]   See 17 C.F.R. pt. 23, subpt. E. [10]   In light of widespread concern that the industry would be unable to meet the March 1, 2017 deadline, the CFTC, U.S. prudential regulators and some foreign regulators provide flexibility to swap dealers, which were unable achieve full compliance. [11]   The CFTC’s comparability determination analysis also examined the ability of the EC to supervise and enforce compliance with the EU’s uncleared derivatives margin requirements. [12]   See BCBS/IOSCO, Margin requirements for non-centrally cleared derivatives (updated March 2015), available at http://www.bis.org/bcbs/publ/d317.pdf. [13]   CFTC Staff No-Action Letter No. 17-22 (Apr. 18, 2017), which extends CFTC Staff No-Action Letter No. 17-05 (Feb. 1, 2017). [14]   The EU’s uncleared derivatives margin rules apply to a broader scope of financial instruments than the CFTC’s uncleared swaps margin rules.  The EU’s rules apply to all “OTC derivatives” as that term is defined in Annex I to the Markets in Financial Instruments Directive (“MiFID“).  In contrast, the CFTC’s rules do not apply to foreign exchange spot, foreign exchange forward and foreign exchange swap transactions. [15]   See Common Plan on Trading Venues, supra note 3. [16]   See CFTC Press Release, Common Approach for Transatlantic CCPs (Feb. 10, 2016), available at http://www.cftc.gov/PressRoom/PressReleases/cftc_euapproach021016. [17]   See Regulation (EU) No. 600/2014. [18]   See Council Regulation 600/2014, 2014 O.J. (L 173), 84, 122 Art. 28. [19]   The CFTC’s trading mandate under the CEA and CFTC regulations requires counterparties to execute certain swap transactions that are “made available to trade” on a SEF, a SEF that is exempt from registration, or a designated contract market (“DCM“).  See CEA Section 2(h)(8) and 17 C.F.R. Parts 37 and 38. [20]   Note that the EC has not authorized any entities as OTFs to date. [21]   See Regulation (EU) No 596/2014. [22]   See 7 U.S.C. § 7b-3(g).   Gibson Dunn’s lawyers  are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions practice group, or the following: Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com) Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Stephanie L. Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Amy Kennedy – London (+44 (0)20 7071 4283, akennedy@gibsondunn.com) Carl E. Kennedy – New York (+1 212-351-3951, ckennedy@gibsondunn.com) Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com) © 2017 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

October 5, 2017 |
Proposed Revised Capital Treatment for “High Volatility Commercial Real Estate”: More Loans Likely to Be Covered

On September 27, 2017, the Board of Governors of the Federal Reserve System, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation (Agencies) issued a proposal (Proposal) that would amend some of the current Basel III capital rules – foremost among them, the heightened capital charge for so-called “high volatility commercial real estate” (HVCRE). The HVCRE capital charge has been controversial since the Agencies finalized the Basel III rules in 2013 (Final Basel Rule).  For real estate loans that qualify as HVCRE, the current capital charge is 50 percent higher than for unsecured commercial loans and real estate loans that do not qualify as HVCRE.  Moreover, the HVCRE capital charge is a form of U.S. “gold plating” of international capital standards – the HVCRE concept does not exist under the approach of the Basel Committee itself.  And there have been a host of interpretive questions on what exactly constitutes HVCRE – with some of the public Agency answers containing unexpectedly conservative glosses on the Final Basel Rule. The Proposal states that it is seeking to simplify HVCRE treatment.   To that end, it introduces a new concept – “high volatility acquisition, development, and construction” loans (HVADC) – and imposes a lower, but still “gold plated,” capital charge that is 30 percent higher than the capital charge for unsecured commercial loans and non-HVADC real estate loans. The Proposal is subject to a 60-day comment period beginning on publication in the Federal Register. Final Basel Rule HVCRE Capital Charge HVCRE treatment is most relevant under the Final Basel Rule’s so-called “standardized approach” to capital calculations.  All U.S. banking organizations use the standardized approach to some degree:  for most, it is the only relevant approach to calculating capital.  But it is also relevant to the largest, most sophisticated institutions that use “advanced approaches” to capital treatment, which permit the use of internal models.  This is because Dodd-Frank’s Collins Amendment requires such institutions to calculate capital under the standardized approach as well, and then use the approach that requires the most capital when reporting their capital ratios. Under the Final Basel Rule, an HVCRE loan is “a credit facility that, prior to conversion to permanent financing, finances or has financed the acquisition, development, or construction (ADC) of real property,”[1] subject to certain exemptions.  These exemptions, in addition to permanent financings, which are not HVCRE, include: loans financing one- to four-family residential properties, certain “community development” real estate loans, loans financing the acquisition and development of agricultural land, and ADC loans that meet certain criteria, including compliance with minimum LTV ratios and a certain amount of borrower contributed capital. Loans that qualify for one of the exemptions are not subject to the heightened HVCRE capital charge. HVCRE treatment has spawned interpretive questions, perhaps the most important of which relates to the borrower contributed capital requirement of the fourth exemption above: (ii) The borrower has contributed capital to the project in the form of cash or unencumbered readily marketable assets (or has paid development expenses out-of-pocket) of at least 15 percent of the real estate’s appraised ”as completed” value; and (iii) The borrower contributed the amount of capital required by paragraph (ii) of this definition before the [bank] advances funds under the credit facility, and the capital contributed by the borrower, or internally generated by the project, is contractually required to remain in the project throughout the life of the project.[2] Although the Final Rule seems very clear that only the 15 percent of “as completed” value contributed by the borrower as capital, “or” internally generated project earnings, is required to remain in the project until permanent financing is in place, the Agencies issued an FAQ answer that took a different position: “15. The definition of HVCRE includes a provision that “the capital contributed by the borrower, or internally generated by the project, is contractually required to remain in the project throughout the life of the project.” What does “contractually required” mean in this context? In order to meet this criterion in paragraph (4)(iii) of the HVCRE definition, the loan documentation must include terms requiring that all contributed or internally generated capital remain in the project throughout the life of the project. The borrower must not have the ability to withdraw either the capital contribution or the capital generated internally by the project prior to obtaining permanent financing, selling the project, or paying the loan in full.”[3] Approach of the Proposal The Proposal would replace the HVCRE definition in the standardized approach with the HVADC definition, which would apply to all credit facilities that “primarily” finance or refinance: the acquisition of vacant or developed land; the development of land to prepare to erect new structures, including, but not limited to, the laying of sewers or water pipes and demolishing existing structures; or the construction of buildings or dwellings, or other improvements including additions or alterations to existing structures.[4] “Primarily” would mean credit facilities “where more than 50 percent of loan proceeds will be used for” such activities.[5]  HVADC loans would carry a capital charge 30 percent higher than unsecured corporate loans and non-HVADC real estate loans. With respect to the use of proceeds test, the Agencies stated that they expect “every [ADC] transaction to be supported by . . . documentation of sources and uses of funds tailored to the specific project” and expect “each banking organization to have a process in place to review the intended use of funds” for an ADC project, “consistent with prudent underwriting practices.”[6] The Proposal would retain the exemptions for loans for one- to four-family residential properties, agricultural land acquisition loans, community development loans, and permanent financings.  It would not, however, include any exemption similar to the current Rule’s minimum LTV/ borrower contributed capital exemption. Exemptions from HVADC Treatment With respect to the one- to four-family residential property exemption, the Agencies stated that it would include “both loans to construct one- to four-family residential structures and loans that combine the land acquisition [and] development or construction of one- to four-family residential structures, either with or without a sales contract, including lot development loans.”[7]  It is not a condition to the exemption that a specific buyer for a property be identified. In addition, loans for the acquisition, development or construction of condominiums and cooperatives would not qualify for the exemption, unless the project contained fewer than five individual dwelling units.  If each unit in a project is separated by a dividing wall that extends from ground to roof  (rowhouses or townhouses), the unit would be considered a single residential property and qualify for the exemption.  So would a loan to finance tract development – i.e., a project with multiple properties, each of which contained a one- to four-family dwelling unit.  Loans used solely to acquire undeveloped land would not qualify. Simplifying changes are proposed for the exemptions for community development loans and loans for the development of agricultural land, but the Agencies stated they were not intended to be substantive modifications of the current Rule.  Agricultural land is intended to be broadly understood to encompass, for example, timberland and fish farms, but not related manufacturing or processing facilities, such as dairy processing plants. Permanent Loans The Proposal would provide more gloss on what constitutes a “permanent loan” than the current Rule.  A “permanent loan” would be a “prudently underwritten” loan that has a “clearly identified ongoing source of repayment sufficient to service amortizing principal and interest payments aside from the sale of the property.”[8]   However, current loan payments would not be required to be amortizing for a loan to be considered “permanent.”  Bridge loans would generally not be considered permanent loans, and a permanent loan would “not include a loan that finances or refinances a stabilization period or unsold lots or units of for-sale projects.”[9]  The Agencies did state that for certain owner-occupied projects, the owner “may have sufficient capacity at origination to repay the loan from ongoing operations, without relying on proceeds from the sale or lease of the property” – in which case the loan would be a permanent loan, and not an HVADC loan, at origination.[10] Grandfather Treatment The current HVCRE approach would continue until the Proposal was finalized, with the HVCRE status (or not) of loans existing at the time of a final rule being grandfathered.  The Proposal would therefore have prospective application only. Conclusion The Proposal demonstrates that the Agencies continue to believe that ADC loans pose greater risk than permanent financing of development properties (and unsecured commercial loans).  The Proposal, like the earlier Final Basel Rule itself, does not provide any empirical support for this belief, although it does state that “[i]n the preamble to the [Final Basel Rule], the agencies noted that their supervisory experience had demonstrated that [HVCRE] exposures . . . presented heightened risks.”[11] If finalized, the Proposal seems likely to subject a larger number of loans to “gold plated” capital treatment.  This result seems to reflect a determination by the Agencies that sorting out the full range of questions on the current Rule’s minimum LTV/borrower contributed capital exemption is too difficult an administrative task, although it is not clear why this should be the case. In simplifying the HVCRE approach, moreover, the Proposal is highly likely to be over-inclusive as a risk matter, because the HVADC test turns on the use of a loan’s proceeds, and not on its characteristics.  A loan that qualified for the minimum LTV/borrower contributed capital exemption under the current Rule, if made after the Proposal is finalized, could well be an HVADC exposure and thus require 30 percent more capital being held against it. It is therefore appropriate to question the calibration of the 30 percent heightened capital charge and the degree to which “gold plating” of international standards is even necessary.  It is also appropriate to question whether the Agencies should be providing more empirical support than asserted “supervisory experience” to justify more widespread gold plating.    [1]   See, e.g., 12 C.F.R. § 3.2.    [2]   See, e.g., id.    [3]   Agencies, Frequently Asked Questions on the Regulatory Capital Rule (April 6, 2015).    [4]   Proposed Rule, Regulatory Capital Rule: Simplification to the Capital Rule Pursuant to the Economic Growth and Regulatory Paperwork Reduction Act of 1996. The HVADC revision does not apply to “advanced approaches” capital treatment.    [5]   Id.    [6]   Id.    [7]   Id.    [8]   Id.    [9]   Id. [10]   Id. [11]   Id. Gibson Dunn’s lawyers  are available to assist in addressing any questions you may have regarding these developments.  Please contact any member of the Gibson Dunn team, the Gibson Dunn lawyer with whom you usually work in the firm’s Financial Institutions or Real Estate practice groups, or the following: Financial Institutions Group: Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) Carl E. Kennedy – New York (+1 212-351-3951, ckennedy@gibsondunn.com) Jeffrey L. Steiner – Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com) Real Estate Group: Jesse Sharf – Los Angeles (+1 310-552-8512, jsharf@gibsondunn.com) Alan Samson – London (+44 (0) 20 7071 4222, asamson@gibsondunn.com) Eric M. Feuerstein – New York (+1 212-351-2323, efeuerstein@gibsondunn.com) Erin Rothfuss – San Francisco (+1 415-393-8218, erothfuss@gibsondunn.com) © 2017 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.