U.S. anti-corruption enforcement has continued apace through the first eight months of 2022. Although some will point to declining numbers of Foreign Corrupt Practices Act (“FCPA”) enforcement actions in 2022 to date, particularly against corporations, as compared to the heights of recent years, our view from the trenches is that enforcement is evolving, not fading. As evidenced by the bevvy of activity catalogued in the pages that follow, our experience is prosecutors at the U.S. Department of Justice (“DOJ”) and enforcers at the U.S. Securities and Exchange Commission (“SEC”) remain acutely focused on international anti-corruption enforcement and that the compliance challenges faced by global corporations are as complicated today as they have ever been. In addition, the expanded employment of money laundering charges has broadened prosecutors’ reach.
This client update provides an overview of the FCPA and other domestic and international anti-corruption enforcement, litigation, and policy developments from the first eight months of 2022. In January 2023, we will publish our comprehensive year-end update on 2022 FCPA developments.
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 Depositary Receipts (“ADRs”) or American Depositary Shares (“ADSs”) 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 accounting 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 accounting controls deficiency.
International corruption also may implicate other U.S. criminal laws. Frequently, prosecutors from DOJ’s FCPA Unit charge non-FCPA crimes such as money laundering, mail and wire fraud, Travel Act violations, tax violations, and even false statements, in addition to or instead of FCPA charges. Without question, the most prevalent amongst these “FCPA-related” charges is money laundering—a generic term used as shorthand for statutory provisions that generally criminalize conducting or attempting to conduct a transaction involving proceeds of “specified unlawful activity” or transferring funds to or from the United States, in either case to promote the carrying on of specified unlawful activity, to conceal or disguise the nature, location, source, ownership or control of the proceeds, or to avoid a transaction reporting requirement. “Specified unlawful activity” includes over 200 enumerated U.S. crimes and certain foreign crimes, including the FCPA, fraud, and corruption offenses under the laws of foreign nations. Although this has not always been the case, in recent history, DOJ has frequently deployed the money laundering statutes to charge “foreign officials” who are not themselves subject to the FCPA. It is not unusual for DOJ to charge the alleged provider of a corrupt payment under the FCPA and the alleged recipient with money laundering violations.
FCPA AND FCPA-RELATED ENFORCEMENT STATISTICS
The below table and graph detail the number of FCPA enforcement actions initiated by DOJ and the SEC, the statute’s dual enforcers, during the past 10 years.
But as our readers know, the number of FCPA enforcement actions represents only a piece of the robust pipeline of international anti-corruption enforcement efforts by DOJ. Indeed, the increasing proportion of “FCPA-related” charges in the overall enforcement docket of FCPA prosecutors is a trend we have been remarking upon for years. In total, DOJ brought 11 such FCPA-related actions in the first eight months of 2022, bringing the overall count to 22 cases that DOJ’s FCPA unit filed, unsealed, or otherwise joined since the beginning of the year. The past 10 years of FCPA plus FCPA-related enforcement activity is illustrated in the following table and graph.
2022 MID-YEAR FCPA + FCPA-RELATED ENFORCEMENT ACTIONS
CORPORATE ENFORCEMENT ACTIONS
Through August, there were three corporate FCPA enforcement actions from each of DOJ and the SEC in 2022, which is on par with the corporate enforcement activity for all of 2021 but still down from recent historical trends. There have been additional resolutions in September not covered herein, and we will continue tracking the pace of corporate FCPA enforcement in our forthcoming year-end update and beyond to see if this is a momentary lull or a longer-term trend. In the meantime, the five companies subject to FCPA enforcement in the year to date follow.
Tenaris S.A.
Most recently, on June 2, 2022, Luxemburg-based global steel pipe supplier Tenaris, an ADR-issuer, consented to the entry of an administrative cease-and-desist order by the SEC to resolve FCPA bribery, books and records, and internal controls charges. According to the SEC’s Order, between 2008 and 2013, agents and employees of Tenaris’s Brazilian subsidiary paid approximately $10.4 million in bribes to a high-ranking procurement manager at Brazil’s state-owned oil and gas company Petróleo Brasileiro S.A. (“Petrobras”) to persuade the procurement manager not to open up the subsidiary’s ongoing pipe supply project to competition, ultimately leading to the award of over $1 billion in contracts. To resolve the charges, Tenaris agreed to pay more than $78 million, consisting of approximately $42.84 million in disgorgement, $10.26 million in prejudgment interest, and a $25 million civil money penalty. Tenaris also agreed to self-report to the SEC for two years on the status of its remediation and implementation of compliance measures related to its compliance program and accounting controls. As we have discussed in earlier updates, Gibson Dunn represented Petrobras and successfully negotiated a non-prosecution agreement with DOJ and an SEC resolution and navigated seamlessly a three-year self-monitorship.
According to a statement released by Tenaris, DOJ closed its investigation into this matter without taking action. Notably, this is Tenaris’s second brush with the FCPA, having resolved dual FCPA enforcement actions with DOJ and the SEC in 2011 arising out of alleged corruption in Uzbekistan.
Glencore International A.G.
Undoubtedly the bombshell FCPA enforcement matter of 2022-to-date came on May 24, when Swiss multinational commodity trading and mining company Glencore resolved criminal FCPA bribery charges in seven African and Latin American countries. Simultaneously, Glencore entered into a parallel criminal and civil market manipulation resolution with a different unit of DOJ’s Fraud Section and the U.S. Commodity Futures Trading Commission (“CFTC”) founded, in part, on the same conduct, in addition to separate anti-corruption resolutions with Brazilian and UK authorities. According to the corruption-related allegations, from 2007 to 2018, Glencore provided more than $100 million in payments and other items of value to intermediaries for the purpose of bribing foreign officials in Brazil, Cameroon, the Democratic Republic of the Congo, Equatorial Guinea, Ivory Coast, Nigeria, and Venezuela to obtain contracts and other benefits.
The assessment of criminal and civil penalties against Glencore for the web of related resolutions involves a complex set of credits and offsets, but in total Glencore is expected to pay approximately $1.5 billion to resolve all of the matters. The total payment to U.S. enforcement agencies is expected to be $1.02 billion, of which approximately $700.7 million is allocable to the FCPA case comprised of a criminal fine of $428.521 million and criminal forfeiture of $272.186 million. On top of that, Glencore agreed to pay $39.6 million to the Brazilian Federal Prosecutor’s Office, and as discussed below in our UK Enforcement Update, a subsidiary pleaded guilty to UK Bribery Act charges and is scheduled to be sentenced in November 2022. Glencore has stated that the resolution in the UK, and other pending proceedings in the Netherlands and its home country of Switzerland, are together expected to increase the overall resolution to $1.5 billion. Additionally, Glencore agreed to a three-year compliance monitor in connection with the FCPA resolution and a separate three-year compliance monitor in connection with the market manipulation resolution, the scope of which are still being negotiated.
Beyond the sheer size of the matter, there are numerous notable aspects to the Glencore resolution:
- First, Glencore is neither a U.S. company nor issuer (hence, no SEC resolution), and DOJ’s FCPA jurisdiction appears to be premised loosely on the approval of certain payments by employees (including former West African oil trader Anthony Stimler, who pleaded guilty to FCPA charges as covered in our 2021 Year-End FCPA Update) while in the United States, the transmittal of at least one email from the United States by Stimler, and the use of U.S. correspondent banking accounts for at least some of the alleged bribe payments. The details of DOJ’s allegations and jurisdictional theories are not fully fleshed out in the corporate charging documents, but DOJ’s approach seems to be that a multi-country corruption conspiracy taking place largely outside of the United States may be brought within U.S. jurisdiction in its entirety due to correspondent banking transactions or through a single act taken by one co-conspirator while in the United States, potentially even a low-level trader involved in one spoke of the alleged conspiracy.
- Second, although there is precedent in corporate FCPA enforcement actions for relatively modest criminal forfeiture actions to accompany criminal fines, generally offset in the criminal fine calculation, Glencore is the first of which we are aware in which the amount of gain was used by DOJ both as the primary input for the Guidelines fine and, on top of that, disgorged by DOJ through parallel forfeiture. In this manner, DOJ not only applied a criminal penalty, which is customary, but it also disgorged all allegedly tainted profits, which is not customary in a non-issuer case (i.e. where the SEC is not involved). While DOJ has applied forfeiture in a limited way in some FCPA cases, this appears to be the first time it has required a company to disgorge all ill-gotten gain in the absence of a parallel SEC action. This practice has precedent in other types of white collar corporate cases, particularly by prosecutors in the Southern District of New York, but not to our knowledge in the FCPA cases.
- Third, as noted above, a part of the CFTC’s charges were founded on the same alleged corruption conduct covered in the DOJ FCPA resolution, making this the second time that the CFTC has charged corruption as “manipulative and deceptive conduct” under the Commodity Exchange Act. The first instance was the case against Vitol, Inc., covered in our 2020 Year-End FCPA Update, which arose out of the same fact pattern.
Stericycle, Inc.
The only dual FCPA enforcement action to date in 2022 came on April 20, when Illinois-based waste management company Stericycle resolved FCPA bribery and accounting charges with DOJ and the SEC arising from allegations of corruption in Argentina, Brazil, and Mexico. The charging documents collectively allege that, between 2011 and 2016, Stericycle representatives paid approximately $10.5 million in bribes to government officials to obtain contracts and other benefits that cumulatively netted the company approximately $21.5 million in profits.
To resolve the criminal charges, Stericycle entered into a deferred prosecution agreement with a $52.5 million penalty and requiring the imposition of a compliance monitor for a two-year term. The SEC resolution requires the disgorgement of approximately $28 million in profits and prejudgment interest, together with the imposition of the same compliance monitor. In addition, Stericycle entered into a parallel $9.3 million resolution with Brazil’s Controladoria-Geral da União and the Advocacia-Geral de União, which after offsets in the DOJ / SEC resolutions will net out to a total resolution of approximately $84 million. Parallel United States and Brazilian enforcement actions, such as seen here, have become commonplace.
Jardine Lloyd Thompson Group Holdings Ltd.
On March 18, 2022, DOJ announced its first “declination with disgorgement” FCPA resolution in nearly two years, with UK insurance company JLT Group. DOJ’s declination letter asserted that it had found evidence that JLT Group, through an employee and its agents, paid approximately $3.15 million in alleged bribes to Ecuadorian officials between 2014 and 2016, through an intermediary based in Florida, in order to obtain or retain insurance contacts with Ecuadorian state-owned surety Seguros Sucre. The underlying conduct is the same covered in our 2020 Mid-Year FCPA Update where we reported on the prosecution of four defendants—including former JLT Group executive Felipe Moncaleano Botero—in the Southern District of Florida for money laundering conspiracy.
DOJ declined to prosecute based on JLT Group’s voluntary disclosure of the misconduct, full and proactive cooperation, prompt and comprehensive remediation, and agreement to disgorge just over $29 million in alleged improper gains. JLT Group affiliates also reached resolutions with Colombian and UK authorities, as covered below in our international enforcement developments section. Gibson Dunn represented JLT Group in obtaining the DOJ declination, and in the international resolutions.
KT Corporation
First in but last up, the initial FCPA corporate enforcement action of 2022 came on February 17, when Korea’s largest telecommunications operator and ADS issuer KT Corporation resolved FCPA books-and-records and internal controls charges with the SEC. According to the administrative cease and desist order, KT Corporation maintained multiple “slush funds” between 2009 and 2017, from which it made illegal contributions to legislative officials in Korea who sat on committees with influence over the telecommunications industry and also to Vietnamese government officials to receive contracts.
Without admitting or denying the allegations, KT Corporation agreed to settle with a $3.5 million civil penalty and the disgorgement of $2.8 million in profits plus prejudgment interest. KT Corporation also will self-report on FCPA compliance remediation for a two-year term. There is no indication to date of a parallel DOJ enforcement action.
INDIVIDUAL ENFORCEMENT ACTIONS
There were FCPA and FCPA-related charges filed or unsealed, or in which DOJ FCPA prosecutors first entered an appearance, against 19 individual defendants during the first eight months of 2022.
Additional PDVSA Charges
In recent years, we have covered numerous corruption-related fact patterns arising out of international business dealings with Venezuela’s state-owned and state-controlled oil company, Petróleos de Venezuela, S.A. (“PDVSA”). The first eight months of 2022 was no exception to this longstanding trend.
On March 8, 2022, a grand jury sitting in the Southern District of Florida indicted two former senior prosecutors from the anti-corruption division of the Venezuelan Attorney General’s Office, Daniel D’Andrea Golindano and Luis Javier Sanchez Rangel, for allegedly laundering $1 million in bribes through a bank account in Florida. The indictment asserts that Rangel and Golindano accepted payments from a contractor that was itself under investigation by the Attorney General’s Office for allegedly receiving over $150 million in contracts from PDVSA entities, in exchange for closing the investigation without seeking criminal charges against the contractor. The defendants have yet to make an appearance in court and have been transferred to fugitive status.
In a separate alleged PDVSA-related scheme, on June 23, 2022, Jhonnathan Marin, former Mayor of Guanta, Venezuela, pleaded guilty to a single count of money laundering conspiracy. According to the criminal information, between 2015 and 2017, Marin accepted $3.8 million in bribes from an unnamed PDVSA contractor to influence several PDVSA joint ventures operated in the port town area to award tens of millions of dollars’ worth of business to the contractor. Marin currently awaits a September 2022 sentencing date before the Honorable Robert N. Scola, Jr. of the U.S. District Court for the Southern District of Florida.
In a third case involving PDVSA, on July 12, 2022 a grand jury sitting in the Southern District of Florida returned an indictment charging financial asset managers—Ralph Steinmann and Luis Fernando Vuteff—with participating in the $1.2 billion “Operation Money Flight” PDVSA currency conversion / embezzlement scheme that we first covered in our 2018 Year-End FCPA Update. The genesis of the scheme arises from the substantial difference between the official and unofficial rates at which Venezuelan bolivars could be exchanged for U.S. dollars, with members of the scheme causing PDVSA to enter into contracts to convert bolivars at the “unofficial rate” of 60:1, then back into dollars at the official rate of 6:1, thereby instantly increasing the outside investment tenfold at the expense of PDVSA and with the assistance of corrupt payments. For their part, Steinmann and Vuteff are each charged with one count of money laundering, with the indictment alleging that between 2014 and 2018 they laundered more than $200 million in proceeds from the scheme, including by opening bank accounts on behalf of Venezuelan government officials to receive the alleged bribe payments. Vuteff has reportedly been arrested and is pending extradition from Switzerland. Steinmann is not before the court and DOJ has asserted that he is a fugitive.
Finally, in yet another case involving a still different PDVSA corruption fact pattern, on August 24, 2022, a grand jury sitting in the Southern District of Florida returned an indictment charging Venezuelan businessman Rixon Rafael Moreno Oropeza with money laundering offenses in connection with an alleged bribery scheme involving Petropiar, a joint venture between PDVSA and a U.S. oil company. Moreno is alleged to have paid millions in bribes from bank accounts in Florida to a senior Venezuelan government official and senior Petropiar employees to obtain as much as $30 million in contracts from Petropiar at prices that were inflated as much as 100-times market value. Based on public records, it does not appear that Moreno is yet in U.S. custody.
Additional Vitol & Sargeant Marine Defendants
We have been covering ongoing, and at times overlapping, investigations in Latin America involving energy trading firm Vitol Inc. and asphalt company Sargeant Marine, Inc., as well as numerous individual defendants, since our 2020 Year-End Update. In March 2022, there were several additional developments, including new charges and new FCPA Unit connections to existing charges.
On March 16, 2022, DOJ charged Dutch citizen and former Vitol trader Lionel Hanst with a single count of conspiracy to commit money laundering alleging that, from November 2014 to September 2020, Hanst laundered bribes from and on behalf of Vitol for the benefit of officials at Ecuadorian, Mexican, and Venezuelan state oil companies Empresa Publica de Hidrocarburos del Ecuador (“PetroEcuador”), Petróleos Mexicanos (“PEMEX”), and PDVSA. Hanst pleaded guilty and is awaiting sentencing before the Honorable Eric N. Vitaliano of the U.S. District Court for the Eastern District of New York.
Right around the same time, from March through May 2022, DOJ FCPA Unit prosecutors involved in the Hanst case entered appearances in several ongoing cases. Although these cases were filed in earlier years, there were no press releases nor entries of appearance by FCPA Unit members to identify them as FCPA-related enforcement actions—until this year.
In May 2021, Eastern District of New York prosecutors charged Gonzalo Guzman Manzanilla and Carlos Espinosa Barba, former employees of PEMEX’s procurement subsidiary, with conspiracy to commit money laundering in connection with the Vitol bribery scheme. The allegations are that, between 2017 and 2020, Guzman and Espinosa agreed to provide a Vitol trader with confidential, inside information on PEMEX-related bids in exchanges for bribes. Both have pleaded guilty to single counts of conspiracy to commit money laundering and also await sentencing before Judge Vitaliano.
The same DOJ FCPA Unit prosecutors entered their appearances in March 2022 in 2020 cases against brothers Antonio and Enrique Ycaza, who have each been charged with conspiracy to violate the FCPA and money laundering statutes in connection with alleged bribery that straddles the Sargeant Marine and Vitol investigations. The allegations are that, between 2011 and 2019, the brothers operated purported consulting companies that were used to funnel approximately $22 million in bribes to PetroEcuador officials on behalf of Sargeant Marine and Vitol. Like the others, the Ycaza brothers have pleaded guilty and await sentencing before Judge Vitaliano.
Finally, in May 2022, FCPA Unit prosecutors entered their appearances in additional 2020 cases against a different set of brothers, Bruno and Jorge Luz. The Luz brothers have each pleaded guilty to a single count of conspiracy to violate the FCPA’s anti-bribery provisions, associated with a scheme to create shell companies that were allegedly used to launder more than $5 million in bribes to Petrobras officials on behalf of Sargeant Marine. Like the others, the Luz brothers await sentencing before Judge Vitaliano.
Additional Odebrecht-Related Charges
We have been covering an ongoing stream of corruption charges arising from the 2016 blockbuster FCPA resolution with Brazilian construction conglomerate Odebrecht S.A. since our 2016 Year-End FCPA Update, including most recently in our 2021 Year-End FCPA Update. On March 24, 2022, another case was added to the pile with the indictment of former Comptroller General of Ecuador Carlos Ramon Polit Faggioni on six counts of money laundering. According to the indictment, between 2010 and 2016, Polit solicited and received over $10 million in bribes from Odebrecht in exchange for using his political position to benefit Odebrecht’s business in Ecuador. Although the bribery scheme took place substantially outside of the United States, the U.S. nexus is that Polit allegedly directed a member of the conspiracy to launder certain of the payments through Florida-based companies to be used to purchase and renovate properties in Florida.
Polit has pleaded not guilty and currently awaits a May 2023 trial date in the U.S. District Court for the Southern District of Florida.
Additional Corsa Coal Defendant
We covered in our 2021 Year-End FCPA Update the FCPA guilty plea of Frederick Cushmore, Jr., former Head of International Sales for an unnamed Pennsylvania-based coal company. That coal company has since identified itself as Corsa Coal, and on March 31, 2022 further charges were announced. On that date, a grand jury sitting in the U.S. District Court for the Western District of Pennsylvania indicted former Vice President Charles Hunter Hobson on seven counts of FCPA bribery, money laundering, and wire fraud conspiracy. The indictment alleges that Hobson participated in a scheme to pay $4.8 million to an agent with the intention that a portion would be used to pay bribes to officials of state-owned Egyptian company Al Nasr Company for Coke and Chemicals to procure $143 million in coal delivery contracts, and also sought to procure a percentage of the illicit payments as kickbacks for his own benefit. The indictment further alleges that Hobson and his co-conspirators communicated via encrypted messaging services, such as WhatsApp, and personal email addresses in an effort to conceal the scheme.
Hobson has pleaded not guilty and no trial date has yet been set. Corsa Coal has reported that it is cooperating with DOJ and also the Royal Canadian Mounted Police, but no public charges have yet been filed against the entity as of the date of publication.
Additional Seguros Sucre Defendants
We covered above DOJ’s ongoing investigation of suspected corruption involving Seguros Sucre, Ecuador’s state-owned insurance company, with the corporate JLT Group declination with disgorgement. Seemingly independent of that matter, at least in part, we saw developments in two other Seguros Sucre-related corruption cases during the first eight months of 2022.
First, on March 24, 2022, financial advisor Fernando Martinez Gomez pleaded guilty to one count of money laundering associated with alleged corrupt payments to officials of Seguros Sucre and Seguros Rocafuerte, another Ecuadorian state-owned insurer, as well as a separate wire fraud scheme involving the misuse of client assets held by Martinez’s employer, Biscayne Capital, in a pyramid scheme that ultimately led to the liquidation of Biscayne. The FCPA-related money laundering charge arises out of the same scheme leading to the charges against four individuals—including Chairman of Seguros Sucre and Rocafuerte Juan Ribas Domenech—covered in our 2020 Mid-Year FCPA Update. Martinez awaits sentencing before the Honorable Carol Bagley Amon of the U.S. District Court for the Eastern District of New York.
On July 14, 2022, in another seemingly separate Seguros Sucre investigation, a grand jury sitting in the Southern District of Florida returned an indictment against three insurance brokers—Luis Lenin Maldonado Matute, Esteban Eduardo Merlo Hidalgo, and Christian Patricio Pintado Garcia—charging them each with seven counts of FCPA and money laundering violations associated with alleged bribes paid to officials of Seguros Sucre and Seguros Rocafuerte. Merlo, a Florida resident, has been arrested and currently faces a September 2022 trial date. Maldonado and Pintado, both Ecuadorian citizens residing in Costa Rica, have been transferred to fugitive status, although Pintado has made an appearance through counsel.
2022 MID-YEAR CHECK-IN ON FCPA-RELATED ENFORCEMENT LITIGATION
As our readership knows, following the filing of FCPA or FCPA-related charges, criminal and civil enforcement proceedings can take years to wind their way through the courts. The substantial number of enforcement cases from prior years, especially involving contested criminal indictments of individual defendants, has led to an active first eight months of enforcement litigation in 2022. A selection of prior-year matters that saw material enforcement litigation developments follows.
Second Circuit Affirms Dismissal of Hoskins FCPA Charges
For years, we have been following the case of Lawrence Hoskins, the UK citizen working for a UK subsidiary of French multinational Alstom S.A. on a project in Indonesia without ever setting foot in the United States and who yet somehow ended up in U.S. court answering FCPA and money laundering charges. Most recently, in our 2020 Mid-Year FCPA Update, we covered the grant of Hoskins’s Rule 29 Motion for a Judgment of Acquittal on the FCPA charges, but denial as to the money laundering charges, by the Honorable Janet Bond Arterton of the U.S. District Court for the District of Connecticut, following the jury trial conviction on all of those counts in November 2019. Cross-appeals followed and the case wound its way back to the U.S. Court of Appeals for the Second Circuit for a second time.
On August 12, 2022, in an opinion authored by the Honorable Rosemary S. Pooler, a split panel of the Second Circuit affirmed the district court’s ruling rejecting the jury’s FCPA convictions but affirming the jury’s money laundering convictions. To understand this opinion, however, one must go back to the first time Hoskins’s case was before the Second Circuit. As covered in our 2018 Year-End FCPA Update, the Second Circuit in large part affirmed the lower court’s pretrial ruling that DOJ could not charge a defendant under the FCPA based on conspiracy or aiding-and-abetting theories if that defendant does not himself fall within one of the “three clear categories of persons who are covered by [the FCPA’s anti-bribery] provisions,” which Hoskins as a foreign national acting outside of the United States did not himself fall into. The Second Circuit did, however, hold that the government should be permitted to make a showing that Hoskins acted as an agent of a domestic concern (namely, Alstom’s U.S. subsidiary), which would bring him within the statute’s reach. That set the stage for the 2019 trial, where DOJ persuaded the jury that Hoskins acted on behalf of Alstom Power, Inc. (the U.S. entity), but could not then get over the hurdle of Judge Arterton’s searching exegesis of the FCPA on Rule 29. This was the decision now up for review by the Second Circuit.
Fundamentally, the Second Circuit majority agreed with Judge Arterton that there was no agency relationship as between Hoskins and the U.S. Alstom entity. There was no real question after the trial as to whether corrupt payments were made to Indonesian government officials to assist Alstom obtain a major power plant contract, or whether Hoskins participated in procuring the agents through which those payments were made, knowing the purpose of those payments. The question, rather, was whether under common law principles of agency, the U.S. subsidiary and Hoskins established a fiduciary relationship whereby Hoskins would act as an agent on behalf of the U.S. entity as the principal. And the Second Circuit majority found that “[c]onspicuously missing from the evidence is anything indicating that [Alstom Power] representatives actually controlled Hoskins’s actions as Hoskins and his [] counterparts operated under separate, parallel employment structures.” Although Hoskins received certain tasks from Alstom Power representatives, the Second Circuit found insufficient evidence for the jury to find beyond a reasonable doubt that Hoskins had authority to act on behalf of the U.S. entity or that the U.S. entity was able to hire, fire, or otherwise control him. The one dissenting vote, from the Honorable Raymond J. Lohier, Jr., focused principally on the deference accorded to jury verdicts coupled with a belief that there was sufficient (if not uncontroverted) evidence of agency in this case.
Although the case represents an important affirmance of the limits of FCPA jurisdiction and agency law, for Hoskins himself it must not be lost that the money laundering counts were affirmed by all three judges on the panel. The Second Circuit turned away his Speedy Trial Act and related Sixth Amendment claims, finding that although more than six years elapsed from indictment to trial, the vast majority of that time was properly excludable for Speedy Trial Act purposes and insufficient prejudice was shown from the delay. And the Court affirmed the jury instructions on withdrawal from conspiracy and venue for the money laundering counts. On that last point, as DOJ’s money laundering appetite grows it is noteworthy that the Second Circuit held that for venue purposes a multi-part wire transfer (in this case from Alstom Power in Connecticut to the agent in Maryland and then on to Indonesia) may be prosecuted as a single, continuing transaction in any of the U.S. districts through which the transaction traversed.
Roger Ng Trial Conviction
On April 8, 2022, following a nearly two-month trial and three days of deliberation, a federal jury in Brooklyn returned a guilty verdict on all three counts against former Goldman Sachs affiliate managing director Ng Chong Hwa (“Roger Ng”). The convictions of conspiracy to commit FCPA bribery, conspiracy to commit money laundering, and knowing circumvention of the FCPA’s internal controls provision, arose from the massive corruption scheme involving 1Malaysia Development Bank (“1MDB”) that we have been following for years.
According to the Government’s trial evidence, between 2009 and 2014, Ng participated in a scheme to launder billions of dollars from the Malaysian state-controlled economic development fund, including by misleading his firm into backing three bond transactions that were, in part, procured through the payment of more than $1 billion in bribes to government officials in Malaysia and the United Arab Emirates. The fund proceeds were allegedly laundered through the U.S. banking system, including famously for backing Hollywood blockbuster “The Wolf of Wall Street,” and other high-profile investments. Ng himself reportedly received $35 million for his role in the scheme.
As discussed in our 2021 Year-End FCPA Update, the Court previously denied Ng’s pretrial motion to dismiss the internal controls count, which argued that Ng could not have circumvented issuer Goldman Sachs’s internal accounting controls because the alleged bribes used 1MDB (and not bank) funds. The Honorable Margo K. Brodie of the U.S. District Court for the Eastern District of New York affirmed that ruling in denying Ng’s Rule 29 motion for a judgment of acquittal from the bench at the close of DOJ’s case, and explained her reasoning in a written post-trial opinion issued on April 8, the day of the jury’s verdict. Judge Brodie explained that the trial evidence was sufficient to show beyond a reasonable doubt that Ng and cooperating co-defendant Timothy Leissner, who testified against Ng, purposefully hid from various approval committees within the bank the involvement of well-known politically exposed person Low Taek Jho (“Jho Low”) in the 1MDB investment, as well as that the approval of various government officials in the investment was procured through bribery. While acknowledging that the term “internal accounting controls” could be read literally to apply only to safeguards concerning an issuer’s own accounting entries, the Court held that such a narrow reading would frustrate the overall intent of the statute and read out the explicit requirement in the statute that issuers establish controls to authorize specific transactions.
Ng is currently scheduled to be sentenced in November 2022.
Baptiste and Boncy FCPA Charges Dismissed on the Eve of Retrial
We covered in our 2021 Year-End FCPA Update the reversal of FCPA jury trial convictions of retired U.S. Army colonel Joseph Baptiste and businessperson Roger Richard Boncy, premised on an FBI sting simulating a bribery scheme involving Haitian port project investments, based on the ineffective assistance of Baptiste’s counsel infecting the fundamental fairness of the joint trial. The retrial was set to begin in July, but on June 27, 2022 DOJ moved to dismiss all charges with prejudice, and DOJ’s motion was granted by the Honorable Allison D. Burroughs of the U.S. District Court for the District of Massachusetts the following day.
The cause for the collapse of the prosecution stems from a December 2015 phone call with Boncy that an undercover FBI agent recorded during the investigation. The FBI inadvertently did not preserve the recording, which became a flashpoint during the initial trial as Boncy insisted that he made exculpatory statements during that conversation that would show he did not believe the investment in question was corrupt. That claim found late vindication when, leading up to the second trial, the FBI discovered text messages on an FBI server that contemporaneously described the contents of the December 2015 phone call, including a statement by Boncy that the money at issue would not be used to pay bribes. Aggressive discovery requests were the key driver to achieve this dismissal.
Baptiste and Boncy are now discharged and free from charges.
Eleventh Circuit Remands Case to Address Foreign Diplomat Immunity Defense
In our 2021 Year-End FCPA Update we covered the denial of motion to make a special appearance and challenge the money laundering indictment facing Alex Nain Saab Moran, a joint Colombian and Venezuelan national charged with money laundering offenses in connection with a $350 million construction-related bribery scheme in Venezuela. The Honorable Robert N. Scola, Jr. of the U.S. District Court for the Southern District of Florida rejected the motion on the basis of the fugitive disentitlement doctrine, given that Saab was not present in the United States himself.
On June 2, 2022, the U.S. Court of Appeals for the Eleventh Circuit in a per curiam order declined to address the merits of Saab’s appeal. With respect to the request to make a special appearance to challenge the indictment, the issue had been mooted by Saab’s interceding extradition from Cabo Verde. But with respect to Saab’s claim that he was a foreign diplomat immune from prosecution, the Eleventh Circuit remanded the case for the district court to address that issue in the first instance. Saab’s renewed motion to dismiss is now set for a week-long evidentiary hearing back before Judge Scola, beginning in October 2022.
District Court Finds Broad Privilege Waiver From Cooperation with DOJ
In our 2019 Year-End and 2020 Mid-Year FCPA updates, we covered the FCPA charges against and extensive post-indictment litigation involving the former Cognizant Technology Solutions President and Chief Legal Officer. The case is currently set for trial in the U.S. District Court for the District of New Jersey in October 2022, but the pretrial disputes continue apace. The individual defendants have moved to compel discovery on a number of issues, which the Honorable Kevin McNulty addressed in five separate memorandum opinions dated January 24 (two), March 23, April 27, and July 19, 2022.
Chief among the issues in dispute concerns the recurring dilemma of how companies are to navigate cooperation with government investigations without waiving the attorney-client privilege. Here, as part of its substantial cooperation efforts that ultimately led to a criminal declination, Cognizant provided DOJ with “detailed accounts” of numerous company employee witness interviews conducted by outside counsel. The individual defendants sought access to all materials associated with those interviews, which Judge McNulty in large part granted. The Court held that by disclosing privileged information to DOJ, Cognizant waived attorney-client privilege and work product protection “as to all memoranda, notes, summaries, or other records of the interviews themselves,” regardless of whether the interview summaries were conveyed orally or in writing. Further, “to the extent the summaries directly conveyed the contents of documents or communications, those underlying documents or communications themselves are within the scope of the waiver.” Finally, Judge McNulty held that “the waiver extends to documents and communications that were reviewed and formed any part of the basis of any presentation, oral or written, to the DOJ in connection with this investigation.”
As noted above, the former executives are currently scheduled to go to trial in October 2022. But this date may be imperiled by defendants’ recent motion to conduct numerous Rule 15 depositions in India, including through the compulsion of letters rogatory. We will undoubtedly return to this matter in future FCPA updates.
SEC Obtains Default Judgment in 2019 Case
In another development this year in a case initiated in 2019, on June 27, 2022 the Honorable J. Paul Oetken of the U.S. District Court for the Southern District of New York issued a default judgment against Yanliang “Jerry” Li. As discussed in our 2019 Year-End FCPA Update, Li, the former China Managing Director of a “multi-level marketing company,” later identified as Herbalife Nutrition Ltd., was indicted by DOJ and charged by the SEC for FCPA bribery and accounting violations arising from an alleged scheme to bribe Chinese government officials to obtain direct sales licenses and stifle negative media coverage about the company. Li has yet to make an appearance in U.S. court, even though he was served with the SEC’s complaint in China, and Judge Oetken assessed an Exchange Act Tier II penalty (ranging from $80,000 to $97,523) for each of five violations—(1) falsifying an expense report; (2) falsifying a SOX sub-certification; (3) endorsing a false audit report; (4) submitting a second false SOX certification; and (5) giving false testimony to the SEC—for a total of $550,092 in penalties.
PDVSA-related Defendants Move to Dismiss Indictments on Jurisdictional Grounds
We covered in our 2021 Year-End FCPA Update the seismic grant of Daisy Teresa Rafoi Bleuler’s motion to dismiss the FCPA and money laundering charges against her in the U.S. District Court for the Southern District of Texas by the Honorable Kenneth M. Hoyt. Judge Hoyt found that, as a matter of law, the indictment was deficient in alleging the actions abroad by Swiss citizen Rafoi, who did not set foot in the territory of the United States during the alleged PDVSA-related corruption scheme (and was challenging her indictment from abroad), were insufficient to bring her within the scope of U.S. jurisdiction. DOJ has appealed this dismissal, arguing that “a foreign national who actively participated in a US-linked scheme to pay bribes, can be liable for FCPA conspiracy even if she is not an enumerated FCPA actor who is liable as a principal,” and further that whether Rafoi qualified as an agent was a question of fact for a jury to decide.
On the heels of Judge Hoyt’s decision in the Rafoi case, co-defendant Paulo Jorge Da Costa Casqueiro Murta filed a motion to dismiss his own charges, raising many of the same jurisdictional arguments. On July 11, 2022, Judge Hoyt granted the motion for much the same reasoning as in the Rafoi case, but additionally on statute-of-limitations grounds and also granting a motion to suppress statements made by Casqueiro during a custodial interview in Spain. With respect to the statute-of-limitations matter, the Court waded through the complexities of multiple 28 U.S.C. § 3292 tolling orders and found that the return of an indictment against a co-defendant in 2017 ended the tolling period as to the subsequently indicted Casqueiro even though a later tolling order was issued and further Mutual Legal Assistance Treaty responses were filed by Swiss authorities. With respect to the suppression of statements, Judge Hoyt found that the circumstances of Casqueiro’s interview were impermissibly coercive where the defendant was summoned to the interview in Portugal by a local prosecutor, did not feel like he was permitted to leave the interview under Portuguese law, and was not advised of his protections under the U.S. constitution by the U.S. Department of Homeland Security agents who conducted the interview.
DOJ immediately filed a motion to stay the Casqueiro dismissal pending appeal, arguing that the defendant had been extradited to the United States to face these charges and would likely leave the United States if he was not maintained on pretrial release pending appeal. Judge Hoyt denied the stay request at the district court level, but on August 3, 2022 the U.S. Court of Appeals issued a stay pending resolution of the merits appeal, coupled with an order to expedite that appeal. On DOJ’s request, the Casqueiro and Rafoi appeals were then consolidated for argument, which is currently scheduled for October 2022. We expect these appeals will lead to a further important appellate ruling on the breadth of FCPA and money laundering statutes’ jurisdiction over foreign nationals, supplementing the Second Circuit’s decision in Hoskins discussed above.
Finally, a third co-defendant in the same sprawling case—Nervis Gerardo Villalobos Cárdenasg—filed his own motion to dismiss the indictment in February 2022, like Rafoi doing so from abroad. For reasons that may only be explained in a series of sealed orders, the Villalobos motion has proceeded on a slower track than the Casqueiro motion. DOJ makes many of the same arguments opposing dismissal as in the other cases, including renewing the same “fugitive disentitlement” challenge to the propriety of a court addressing a motion to dismiss filed by a so-called fugitive not before the court as it made (and was rejected) in Rafoi’s case. The motion to dismiss remains pending as of the date of publication.
Former Venezuelan National Treasurer Extradited; Motion to Dismiss Denied
On May 24, 2022, former Venezuelan National Treasurer Claudia Patricia Díaz Guillén made her initial appearance in the U.S. District Court for the Southern District of Florida and entered a not guilty plea to the money laundering charges against her. As described in our 2020 Year-End FCPA Update, Díaz is alleged to have accepted bribes to facilitate more favorable rates for foreign exchange transactions. Promptly following her extradition, Díaz moved to dismiss the charges on jurisdictional grounds similar to those raised by the PDVSA defendants in Houston described above. But the Honorable William P. Dimitrouleas, unpersuaded by Judge Hoyt’s rulings in Rafoi and Casqueiro, made short work of the motion by disposing of the matter as an issue for the jury in a two-page opinion dated July 12, 2022. Díaz currently faces an October 2022 trial date.
Fourth Circuit Affirms Lambert FCPA Trial Conviction
In our 2019 Year-End FCPA Update we covered the trial conviction of former Transport Logistics International, Inc. President Mark T. Lambert. On July 21, 2022, the U.S. Court of Appeals for the Fourth Circuit, in a per curiam opinion, affirmed the FCPA bribery and wire fraud convictions. The court found no error by the trial court in ruling on various evidentiary exclusions, nor in issuing an Allen charge when the jury initially could not agree on a verdict. On the substance of the charges, the Fourth Circuit found sufficient evidence to support the wire fraud convictions based on DOJ’s evidence that Lambert actively concealed material facts from the victim customer by virtue of quoting inflated costs that secretly included the costs of bribing one of the customer’s representatives, Vadim Mikerin, who also was prosecuted by DOJ.
Fifth Circuit Declares SEC Practice of Imposing Civil Monetary Penalties in Administrative Proceedings Unconstitutional
Those who have followed our client updates over the years may recall that many of the SEC’s settled FCPA enforcement actions for the first three decades of the statute were filed as civil complaints in federal district court. That all changed with the Dodd-Frank Wall Street Reform Act of 2010 (“Dodd-Frank”), which among many other important reforms granted the SEC authority to impose civil monetary penalties in administrative proceedings in which the SEC seeks a cease-and-desist order. Soon thereafter, the vast majority of settled enforcement actions (in FCPA and other cases) began being filed as administrative cease-and-desist proceedings.
Potentially imperiling that practice, on May 18, 2022 a three-judge panel from the U.S. Court of Appeals for the Fifth Circuit held in Jarkesy v. SEC that the SEC imposing civil monetary penalties in administrative proceedings is unconstitutional because Congress delegated its legislative power to the SEC without providing an intelligible principle by which the SEC could exercise that power. The Honorable Jennifer Walker Elrod, writing for the Court, recognized that Congress had authority to assign disputes to agency adjudication in “special circumstances,” but here found that Congress had given the SEC “exclusive authority and absolute discretion to decide whether to bring securities fraud enforcement actions within the agency instead of in an Article III court” while saying “nothing at all indicating how the SEC should make that call.” The Fifth Circuit further concluded that the SEC’s in-house adjudication violated the Petitioners’ Seventh Amendment right to a jury trial.
This decision does not involve FCPA enforcement directly, but its reverberations will certainly be felt in FCPA as well as other SEC enforcement areas until the law settles. For more on the Jarkesy decision, please see our separate article, “Jarkesy Wins Relief from ALJ Control After Years of Fighting for his Right to a Jury Trial.”
Continued Deferred Prosecution Agreement Scrutiny
We covered in our 2021 Year-End FCPA Update Deputy Attorney General Lisa O. Monaco’s October 2021 announcement that DOJ was modifying certain of its corporate criminal enforcement policies, and simultaneously highlighting increasing scrutiny that DOJ was giving to companies’ compliance with pretrial diversion (deferred and non-prosecution) agreements. The thrust of Monaco’s statements in the latter category was to express a concern that some companies continued to violate the law or otherwise failed to live up to their obligations during the period of their deferred and non-prosecution agreements. As we noted in our last update, close in time to this speech a number of companies announced that DOJ was conducting so-called “breach investigations,” including in the FCPA context such as the following example (among others):
- On March 3, 2022, Mobile TeleSystems Public Joint Stock Company (“MTS”) announced a one-year extension of its 2019 FCPA deferred prosecution agreement (also covered in our 2019 Year-End FCPA Update), together with the monitorship that accompanied it. MTS reported that there had been no determination that it had breached the terms of its agreement, but that the extension was due to a variety of factors, including the COVID-19 pandemic and to allow sufficient time for MTS to implement enhancements to its anti-corruption compliance program and have those enhancements reviewed by the monitor.
There is no question that DOJ and the SEC are applying increased scrutiny to companies under the supervision (active as in a monitorship, or passive as in self-reporting) that comes with deferred and non-prosecution agreements. We expect additional developments in this area in the months and years to come.
CEO and CCO Certifications of Compliance Programs
When the May 2022 Glencore FCPA resolution described above required the company’s Chief Executive Officer and Chief Compliance Officer each to certify at the conclusion of the three-year term of the monitorship that the company’s compliance program is reasonably designed and implemented to meet the requirements of the plea agreement the compliance industry sat up and took notice. Compliance-focused advocacy organizations have argued that imposing this requirement on CCOs puts them in an untenable position, and, in effect, puts a target on their back for any imperfections in the corporate compliance program they oversee.
DOJ officials have gone on the speaking circuit in defense of this new policy. On May 26, 2022, Deputy Attorney General Monaco asserted at a SIFMA event that this was in fact DOJ’s “effort to empower the gatekeepers” and ensure that CCOs are kept in the loop on compliance matters. Echoing this sentiment, DOJ FCPA Unit Chief David Last said at a June 14, 2022 International Bar Association event that this certification “is not meant to be a gotcha game,” but rather designed to “incentivize” CEOs and CCOs to “make sure they’re checking that [their] compliance program is up to snuff.” And DOJ Fraud Section Assistant Chief Lauren Kootman said at a Women’s White Collar Defense Association event on June 22, 2022 that “[t]he intention is not to put a target on the back of a chief compliance officer,” but rather to ensure that companies appropriately resource their compliance departments. These assurances have provided cold comfort to many in the compliance industry, and likely this will be a continuing source of discussion as the policy is implemented more broadly. On that note, Kootman has confirmed that this requirement “most likely” will be incorporated into all corporate FCPA resolutions going forward.
2022 MID-YEAR FCPA-RELATED LEGISLATIVE AND POLICY DEVELOPMENTS
In addition to the enforcement developments covered above, the first eight months of 2022 saw numerous important developments in FCPA-related legislative and policy areas.
DOJ Issues Increasingly Rare FCPA Opinion Procedure Release (22-01)
By statute, DOJ must provide a written opinion at the request of an issuer or domestic concern stating whether DOJ would prosecute the requestor under the anti-bribery provisions for prospective (not hypothetical) conduct it is considering. Once a common staple of FCPA practice, this procedure has seen seldom use in recent years. Indeed, DOJ’s last opinion procedure release (covered in our 2020 Year-End FCPA Update) was issued in August 2020, and was itself then the first since 2014. On January 21, 2022, DOJ issued a new opinion procedure release (its 63rd overall) interpreting how the FCPA applies to payments made under physical duress in response to extortionate demands by foreign officials.
Requestor is a U.S. domestic concern that owns and operates maritime vessels. While awaiting entry to the port of Country B, one of Requestor’s vessels inadvertently anchored in the territorial waters of Country A, where it was intercepted by that country’s navy. The vessel’s captain was detained in a local jail without access to care needed to address his “serious medical conditions,” at which point a third party who claimed to be acting on behalf of Country A’s navy contacted Requestor and demanded $175,000 in cash in exchange for the captain’s release and permission to leave Country A’s territorial waters. After unsuccessfully trying to obtain formal documentation explaining the legal basis for the payment, and failed attempts at obtaining intervention by other agencies of the U.S. government, Requestor sought DOJ’s opinion that it would not be prosecuted for making the payment to obtain the release of its vessel’s captain and crew.
In light of the exigent, life-threatening circumstances, DOJ acted swiftly and issued an initial response within two days of the October 2021 request, following up with the full opinion in January 2022 upon the submission of additional information. DOJ concluded that it would not pursue an enforcement action on these facts because “Requestor would not be making the payment ‘corruptly’ or to ‘obtain or retain business.’” With respect to the “corrupt intent” element of the FCPA, DOJ concluded it would not be met here because Requestor’s primary motivation in making this payment was to “avoid imminent and potentially serious harm to the captain and the crew.” Notably, DOJ distinguished this circumstance of physical duress from the more commonly experienced circumstance of economic duress—where companies are “shaken down” for corrupt payments at the risk of unjust financial consequences—observing that payments made in response to financially coercive demands may well be illegal under the FCPA. With respect to the “obtain or retain business” element of the FCPA, DOJ concluded that it would not be met here because Requestor had no ongoing or anticipated business in Country A. DOJ further noted Requestor’s transparent efforts to address this situation in response to the payment demand, which did not evince a corrupt intent.
While FCPA Opinion Procedure Release 2022-01 does not break any genuinely new ground and, like other opinion releases, is expressly limited to the specific facts at hand, it does nonetheless offer useful guidance to companies and practitioners alike regarding DOJ’s interpretation of these two important elements of the FCPA. In particular, the ability to make even a large cash payment under questionable circumstances to preserve the physical safety and wellbeing of employees is genuinely helpful. Nonetheless, we must caution our readers to exercise caution in expanding the logic of this opinion into the realm of economic coercion, which DOJ does treat differently as expressed in its opinion.
FinCEN Advisory Regarding Kleptocracy and Foreign Public Corruption
On April 14, 2022, the Department of Treasury’s Financial Crimes Enforcement Network (“FinCEN”) released its “Advisory on Kleptocracy and Foreign Public Corruption,” which was developed to provide guidance to financial institutions in identifying and disclosing transactions involving the proceeds of foreign public corruption. As detailed in our 2021 Year-End FCPA Update and standalone client alert, “U.S. Strategy on Countering Corruption Signals Focus on Enforcement,” in December 2021, the Biden Administration—which previously identified the fight against corruption as a “core national security interest of the United States”—released a United States Strategy on Countering Corruption, articulating an ambitious, whole-of-government approach to combating corruption and its downstream societal effects. FinCEN describes this latest Advisory as part of the Biden Administration’s broader anti-corruption efforts.
Unsurprisingly, the Advisory describes Russia as a jurisdiction of “particular concern” in this area given “the nexus between corruption, money laundering, malign influence and armed interventions abroad, and sanctions evasion,” which is consistent with the United States’ broader efforts to combat and disrupt Russia-related financial activity following its invasion of Ukraine, including asset freezes and seizures conducted through Task Force KleptoCapture, discussed further in our separate client alert “United States Responds to the Crisis in Ukraine with Additional Sanctions and Export Controls.” The Advisory describes two typologies and patterns of activity associated with kleptocracy and foreign public corruption. First, “wealth extraction,” or the “siphoning off” of national resources by oligarchs and elites, is characterized as being conducted through bribery and extortion schemes involving foreign public officials or the misappropriation of embezzlement of public assets for private enrichment, which can commonly be accomplished through public procurement in the defense and health sectors or through bribes and kickbacks paid in the context of large infrastructure or development projects. Second, the Advisory notes that kleptocrats and other corrupt public officials will engage in similar activity to drug traffickers or other criminal actors to launder the proceeds of corruption, such as through the use of complex networks of shell companies or offshore accounts or the conversion of ill-gotten gains into the purchase of high-value assets such as luxury real estate, private jets and yachts, art and antiquities, or hotels.
The Advisory concludes with a set of 10 common “red flag” indicators that financial institutions should look out for in an effort to identify, prevent, and report potentially suspicious transactions involving the proceeds of kleptocracy or foreign public corruption. These include transactions involving multiple government contracts being awarded to the same entity or entities with common ownership, transactions in which government business is being conducted through personal accounts, transactions involving foreign public officials and the purchase of high-value or luxury assets and/or jurisdictions with which the officials do not have known ties, the use of third parties or shell companies to obscure the involvement of foreign public officials, transactions involving excessive charges or inconsistent or incomplete documentation, and transactions involving entities beneficially owned by individuals connected to known kleptocrats or their family members.
2022 MID-YEAR CHECK-IN ON THE FCPA SPEAKER’S CORNER
U.S. government anti-corruption enforcement personnel were active on the speaking circuit in the first eight months of 2022, offering a glimpse into DOJ and SEC priorities and expectations for the companies that appear before them. In many instances, these statements are more broadly focused on white collar crime in general, but the lessons may be applied in the FCPA context. We will cover the September 15, 2022 speech by U.S. Deputy Attorney General Lisa Monaco in a separate, forthcoming client alert.
Attorney General Merrick Garland
Speaking to the ABA Institute on White Collar Crime in Washington D.C. on March 3, 2022, Attorney General Merrick Garland made clear that DOJ’s first priority in corporate criminal cases is the prosecution of individuals who “commit and profit from corporate malfeasance.” Garland stated that DOJ’s focus on individual accountability is the best way to deter corporate crimes in the first place because corporations are only able to act through individuals. In addition, Garland argued that the prosecution of individuals is necessary because it bolsters Americans’ trust in the rule of law. Toward the end of his remarks, Garland noted that over the long course of his career he has seen DOJ’s interest in prosecuting corporate crime “wax and wane,” and concluded that “today, it is waxing again.”
Assistant Attorney General Kenneth Polite
In a March 25, 2022 speech before NYU Law’s Program on Corporate Compliance and Enforcement, Assistant Attorney General for the Criminal Division Kenneth Polite provided details on how DOJ evaluates corporate compliance programs. He stated that DOJ’s goal with such evaluations is to ensure that “companies are designing and implementing effective compliance systems and controls, creating a culture of compliance, and promoting ethical values.” First, according to Polite, a company’s compliance program must be well-suited to the company’s specific risk profile. Second, a compliance program must demonstrate a company’s commitment to compliance at all levels of the company. Third, DOJ wants to see evidence that the corporate compliance program actually works in practice. Finally, Polite emphasized that companies should be able to demonstrate an “ethical culture” that permeates all areas of the corporate structure.
Principal Deputy Assistant Attorney General Nicholas McQuaid
In a speech delivered at a forum hosted by the American Conference Institute on January 27, 2022, Criminal Division Principal Deputy Assistant Attorney General Nicholas McQuaid admonished attendees to not focus on the number of prosecutions of FCPA violations in the last year. Although as noted in our 2021 Year-End FCPA Update, FCPA resolutions in 2021 fell to their lowest level since 2015, McQuaid stated that DOJ entered 2022 with a “robust pipeline” of cases and that he expects there to be “significant resolutions” over the next year.
2022 MID-YEAR CHECK-IN ON FCPA-RELATED PRIVATE CIVIL LITIGATION
Although the FCPA does not provide for a private right of action, our readership knows well that civil litigants have pursued a variety of causes of action in connection with FCPA-related conduct, with varying degrees of success. A selection of matters with material developments in the first eight months of 2022 follows.
Select Shareholder Lawsuits / Class Actions
- Mobile TeleSystems PJSC – As covered in our 2021 Year-End FCPA Update, shortly following MTS’s 2019 joint FCPA resolution with DOJ and the SEC for alleged corruption in Uzbekistan, the company found itself a defendant in a class action suit filed in the U.S. District Court for the Eastern District of New York, alleging that the company issued false and misleading statements about the its inability to predict the outcome of the U.S. government’s investigations, the effectiveness of its internal controls and compliance systems, and its cooperation with U.S. regulatory agencies. In March 2021, the Honorable Ann M. Donnelly dismissed the lawsuit, finding that the plaintiffs did not demonstrate that the challenged claims were false or misleading, that MTS could have predicted the outcome of the investigation, or that its disclosures about the existence of the investigation were insufficient. Just over a year later, on March 31, 2022, the U.S. Court of Appeals for the Second Circuit issued a summary order affirming Judge Donnelly’s dismissal. The Second Circuit held that the complaint was “devoid of any factual allegations that with particularity establish that MTS executives knew that they could reasonably estimate their potential liability arising from the government investigations but opted not to do so.”
Select Civil Fraud / RICO Actions
- Stryker / Zimmer Biomet – In March 2022, Mexican government healthcare agency Instituto Mexican del Seguro Social (“IMSS”) lost two appeals of lawsuits involving alleged bribery of foreign officials. In both suits, one in the Sixth Circuit (Stryker) and the other in the Seventh Circuit (Zimmer Biomet), the Circuit Court affirmed the respective district court’s decision to grant a motion to dismiss on forum non conveniens grounds in cases where the relevant agents, evidence, and injury were all found to be based in Mexico and there was no showing that the Mexican court system was an inadequate forum.
- Olympus Latin America – IMSS suffered another litigation defeat, this time for different reasons and in the U.S. District Court for the Southern District of Florida, when on August 31, 2022 the Honorable Kathleen M. Williams dismissed with prejudice the Mexican state agency’s fraud claim against Olympus arising from a portion of the facts that led to Olympus’s 2016 FCPA resolution described in our 2016 Year-End FCPA Update. Judge Williams determined that IMSS’s 2021 complaint was untimely because it was filed more than four years after Olympus’s 2016 deferred prosecution agreement. The Court rejected IMSS’s arguments that it did not know that its contracts with Olympus were covered in the FCPA resolution because they were not named specifically, holding that there was a duty to exercise diligence upon the public release of the deferred prosecution agreement.
- Odebrecht S.A. – We last caught up on the bevvy of civil litigation filed against Brazilian construction conglomerate Odebrecht in the wake of its 2016 anti-corruption settlements with U.S., Brazilian, and Swiss authorities in our 2018 Year-End FCPA Update. On July 19, 2022, in a civil fraud case brought by bond purchasers that was allowed to proceed to discovery, U.S. Magistrate Judge Barbara Moses of the U.S. District Court for the Southern District of New York imposed severe sanctions on Odebrecht for discovery violations. The Court had previously ordered Odebrecht to provide discovery to the bondholders concerning materials previously provided to U.S. and Brazilian authorities but, without seeking a protective order or otherwise objecting, Odebrecht simply failed for more than a year to turn over the documents on the grounds that they were prohibited from doing so under Brazilian law. As a consequence, Judge Moses imposed Rule 37 sanctions establishing as a fact in the matter that the Odebrecht defendants made material misrepresentations to plaintiff bondholders with scienter. One week later the parties requested a settlement conference with Judge Moses.
Select Anti-Terrorism Act Suits
- Certain Pharmaceutical and Medical Device Companies – We reported in our 2020 Year-End FCPA Update on a decision by the Honorable Richard J. Leon of the U.S. District Court for the District of Columbia dismissing a lawsuit brought by U.S. service members and their families alleging that certain pharmaceutical and medical device companies violated the Anti-Terrorism Act (“ATA”) by paying bribes to officials at the Iraqi Ministry of Health, which was controlled by the terrorist group Jaysh al-Mahdi (“JAM”), which JAM then used to fund attacks against the plaintiffs. Judge Leon ruled that the Court lacked personal jurisdiction over the foreign defendants, and the plaintiffs had failed to adequately plead a violation under the ATA as to the rest. On January 4, 2022, the U.S. Court of Appeals for the District of Columbia, in an opinion by Honorable Cornelia T.L. Pillard, reversed the dismissal and revived the case, finding that causation was adequately alleged and the district court’s jurisdictional analysis was “unduly restrictive.” Defendants have petitioned for a rehearing en banc, which remains pending as of the date of publication.
Other Civil Lawsuits
- Cicel (Beijing) Science & Tech. Co. – We last covered the breach-of-contract lawsuit brought by Cicel against Misonix, Inc. in our 2017 Year-End FCPA Update. Cicel claimed wrongful termination of a distribution contract with Misonix, which then defended by arguing that it terminated only after discovering potentially corrupt conduct and disclosing it to DOJ and the SEC. On October 7, 2017, the Honorable Arthur D. Spatt of the S. District Court for the Eastern District of New York denied Misonix’s motion to dismiss, allowing the case to proceed to discovery. But earlier this year, on January 20, 2022, the Honorable Gary R. Brown granted Misonix’s motion for summary judgment, finding that undisputed facts conclusively proved Cicel’s involvement in illegal conduct, which Misonix moved swiftly to remediate upon discovery by conducting an internal investigation, terminating the relationship, and disclosing the matter to DOJ and the SEC. No prosecution was brought against Misonix, as both DOJ and the SEC closed their investigations in 2019.
2022 MID-YEAR INTERNATIONAL ANTI-CORRUPTION DEVELOPMENTS
World Bank
The World Bank has been quite active during the first eight months of 2022 in debarring companies and individuals for corrupt practices:
- On January 4, 2022, the World Bank announced a 12-month debarment followed by a 12-month conditional non-debarment of ADP International S.A., a French-based airport developer, operator, and manager, for allegedly attending improper meetings with government officials during the tender for a contract and failing to disclose that fees paid to a retained agent were partially transferred to a non-contracted consultant. Colas Madagascar S.A. was also debarred for two years for arranging the improper meetings with government officials, and Bouygues Bâtiment Int’l was sanctioned with conditional non-debarment for 12 months for attending the meetings.
- On February 23, 2022, the World Bank announced a 34-month debarment followed by an 18-month conditional non-debarment of AIM Consultants Limited, a consultancy company based in Nigeria, and its managing director, Amin Moussali. According to the World Bank, AIM through Moussali paid approximately $45,500 in kickbacks to various project officials after receiving payment for a service contract in connection with a $908 million World Bank-funded project designed to reduce soil vulnerability and erosion in certain sub-watersheds in Nigeria. As part of a settlement agreement, Moussali agreed to complete corporate ethics training, and AIM agreed to implement an integrity compliance program in accordance with the principles set out in the World Bank Group’s Integrity Compliance Guidelines.
- On March 30, 2022, the World Bank debarred a Nigerian technology consulting company and its managing director for 50 months and 5 years, respectively, for acting as a consultant and making “appreciation” payments to project officials. According to the World Bank, SofTech IT Solutions and Services Ltd., under the direction of its managing director Isah Salihu Kantigi, served as a conduit through which he and other consultants made illegal payments to project officials in connection with a $1.8 billion project funded by the World Bank, which was designed to provide targeted cash transfers to poor and vulnerable households under an expanded national social safety net. As part of a settlement, Kantigi committed to taking corporate ethics training that demonstrates a commitment to personal integrity and business ethics, and SoftTech committed to implementing a corporate ethics training program.
- On April 14, 2022, the World Bank sanctioned Germany-based Voith Hydro Holding GmbH & Co. KG and two subsidiaries for their alleged corrupt practices in power projects in the Democratic Republic of The Congo and Pakistan. According to the World Bank, between 2012 and 2016, Voith Hydro took actions to gain unfair tender advantages, including making improper payments to a commercial agent to gain favorable decisions in contract executions and failing to disclose those payments. The Voith Hydro entities face a range of 15-34 months of debarment, followed by conditional non-debarment terms.
Inter-American Development Bank
On March 18, 2022, The Inter-American Development Bank (“IDB”), which provides financing in Latin America, announced a three-year debarment of Brazilian construction company Construtora COESA and 26 subsidiaries for simulating competition for a contract, failing to act upon knowledge of corruption, and making illicit payments totaling $1.7 million to public officials involved in supervising and managing the contracts. In 2019, an affiliated entity settled with Brazilian authorities in relation to these and other matters for $460 million. The IDB credited the prior fine and Construtora COESA’s cooperation for a reduced sanction.
Europe
United Kingdom
JLT Specialty Limited
On June 22, 2022, the UK Financial Conduct Authority (“FCA”) announced a resolution with JLT Specialty, a UK subsidiary of JLT Group which, as noted above, reached a declination with disgorgement resolution with the U.S. DOJ and, as covered below, also reached a resolution with Colombian authorities. JLT Specialty agreed to pay the FCA £7.8 million for alleged failings concerning the risk management systems that it had in place between 2013 and 2017 that were responsible for countering the risks of bribery and corruption, which fine was reduced based on the assistance the company provided throughout the investigation, as well its self-report to relevant authorities and remediation. The FCA also commented that this was its second anti-corruption enforcement action against JLT Specialty, with the first occurring in 2013 as covered in our 2013 Year-End FCPA Update. Gibson Dunn represented JLT Group in connection with the FCA and U.S. investigations.
Glencore Energy (UK) Limited
On June 21, 2022, UK Glencore subsidiary Glencore Energy pleaded guilty to seven counts of bribery in connection with the same coordinated, multi-jurisdictional resolution with the U.S. DOJ and Brazilian authorities described above, but with the slightly different five-country line-up of Cameroon, Equatorial Guinea, Ivory Coast, Nigeria, and South Sudan. The SFO alleged that Glencore Energy paid over $28 million in bribes for preferential access to oil in these countries, including increased cargoes, valuable grades of oil, and preferable dates of delivery. Sentencing is currently scheduled to take place in November 2022.
KPMG Audit plc and Anthony Sykes
On May 24, 2022, the UK Financial Reporting Council (“FRC”) announced that it had imposed sanctions against a KPMG network firm in the United Kingdom and the responsible Audit Engagement Partner Anthony Sykes, in relation to the 2010 statutory audit of Rolls-Royce Group plc. According to the FRC, the respondents did not adequately respond to matters arising during the audit that indicated a risk of corruption by Rolls-Royce, including payments made by Rolls-Royce to agents in India that formed part of the company’s 2017 resolution with the Serious Fraud Office (“SFO”) and other authorities as covered in our 2017 Mid-Year FCPA Update.
Petrofac-Related Seizures
On April 28, 2022, the SFO recovered over £567,000 from three personal bank accounts linked to deceased UAE businessman Basim Al Shaikh, who allegedly paid bribes to secure contracts for Petrofac while working as a so-called “fixer agent.” As covered in our 2021 Year-End FCPA Update, in October 2021 Petrofac admitted to failing to prevent former senior executives of the group’s subsidiaries from using agents to pay bribes of £32 million to win oil contracts worth approximately £2.6 billion in Iraq, Saudi Arabia, and the United Arab Emirates between 2011 and 2017 and was ordered to pay over £77 million to settle the claims.
Unaoil Defendants Convictions Overturned
We covered most recently in our 2021 Year-End FCPA Update the several individual prosecutions arising out of the SFO’s Unaoil-related investigation of corruption in Iraq. For example, SBM Offshore Sales Manager Paul Bond was convicted in March 2021, though that conviction was then called into question when the conviction of co-defendant and former Unaoil Manager Ziad Akle was overturned in December 2021. The issue leading to the conviction reversal was the interaction between senior SFO officials and a “fixer” working on behalf of Unaoil founders Cyrus Allen Ahsani and Saman Ahsani, who themselves pleaded guilty to FCPA charges in the United States as discussed in our 2019 Year-End FCPA Update and hired the so-called fixer to place pressure on other defendants, unbeknownst to their lawyers, to likewise plead guilty. On March 24, 2022, the Court of Appeal of England and Wales also overturned Bond’s conviction. Then, on July 21, 2022, a third defendant, former SBM Offshore Vice President Stephen Whiteley, had his conviction overturned.
The same day as the reversal of Whiteley’s conviction, the UK Attorney General’s Office released a 100-plus-page report it commissioned by former high court judge Sir David Calvert-Smith detailing the lapses in the SFO’s handling of the case and making recommendations for enhanced controls going forward, which enhancements the SFO has said are in the process of being implemented. Notably, the report includes the nugget that Ata Ahsani—father to Cyrus and Saman—himself reached a non-prosecution agreement with the U.S. DOJ pursuant to which he agreed to a penalty of $2.25 million but suffer no further sanction. This non-prosecution agreement with Ata Ahsani has not been made public nor, to our knowledge, been confirmed by DOJ.
UK Government Guidance regarding Bribery and Corruption in Trade
On May 20, 2022, the UK government published new guidance for international businesses to demonstrate that their business and supply chain is free from bribery and corruption in order to trade with UK partners. The guidance notes that UK businesses must comply with the UK Bribery Act 2010, which extends to trading relationships and supply chains. Therefore, UK businesses expect international partners to be “aware of the risks of bribery and corruption” and “committed to communicating awareness to [their] employees and business partners.” To avoid bribery and corruption, businesses are advised to assess their risks; conduct thorough due diligence on potential trading partners; train staff to identify and avoid the risks of bribery and corruption; and keep records of avoidance, training, and mitigation procedures as proof that appropriate action has been taken where necessary.
European Union
European Public Prosecutor`s Office
The European Public Prosecutor’s Office (“EPPO”), the newly established authority charged with investigating criminal offenses affecting the financial interests of the European Union, has left its mark in its first year. Since its inception in June 2021, it has processed more than 4,000 crime reports and opened more than 900 investigations. Its efforts have led to 28 indictments, four convictions, and several orders to freeze assets valued at €259 million. One of the EPPO’s first anti-corruption cases concerned an official of the Bulgarian State Agriculture Fund who was indicted for accepting bribes. Further investigations in Bulgaria led to the arrest of several politicians in March 2022, including the former Prime Minister of Bulgaria.
Germany
The so-called “COVID-19 mask scandal” has been a source of great controversy in Germany, where it is alleged that politicians of federal and state parliaments used their influence and their connections to have ministries buy protective masks at inflated costs, allegedly in return for personal commissions. In several decisions, the Federal Court of Justice and the Higher Regional Court of Munich has held that the conduct did not meet the definition of elected officials taking bribes because it was not sufficiently clear that the defendants were acting in their capacity as members of parliament. The judges in unusually clear words called upon the legislature to change the law.
New Plans on Corporate Sanctions, Compliance, and Internal Investigations
Although the recently proposed Corporate Criminal Sanctions bill did not pass, the coalition agreement of the new federal government still plans to reform corporate criminal sanctions law. In this context, the coalition is also determined to enhance legal certainty with respect to compliance duties and to establish a precise legal framework for internal investigations. In a recent media statement, Federal Minister of Justice Marco Buschmann stated that the government intends to systematically revise the Criminal Code and Criminal Procedure Code in 2023, specifically highlighting changes relating to corporate criminal liability.
Russia & Former CIS
Kazakhstan
In June 2022, the Council of Europe’s Group of States Against Corruption (“GRECO”) published its first evaluation report on Kazakhstan. The report found that corruption in Kazakhstan remains a serious concern and is not limited to a specific sector or sphere. Although Kazakhstan’s Agency for Civil Service Affairs and Corruption was transformed into the Anti-Corruption Agency in 2019, and this agency has undertaken a number of positive initiatives such as establishing a hotline where the public can report allegations of corruption, much remains to be done. The report pointed to a flawed anti-corruption framework, state control of the media, and lack of responsiveness in policymaking as the key issues prohibiting Kazakhstan’s advancement on the anti-corruption front. GRECO will reevaluate Kazakhstan’s progress at the end of 2023.
Kyrgyzstan
In January 2022, the head of Kyrgyzstan’s State Customs Service, Adilet Kubanychbekov, was arrested on accusations of corruption. The State Committee for National Security announced that Kubanychbekov and his subordinates accepted bribes from certain private companies in exchange for allowing favorable conditions on the import of these companies’ goods. The Customs Service has been criticized for widespread corruption and this arrest occurred only three years after the disclosure of an estimated $700-million bribery scheme that implicated the former deputy chief of the Customs Service in allegations of bribery, evasion of customs fees, and money laundering.
Russia
Following Russia’s invasion of Ukraine, as part of its effort to quell dissent, the Russian government initiated an aggressive crackdown on essentially all independent media outlets, blocking access in Russia to websites of key investigative journalism outfits. As a side effect of these actions, access to independent information about anti-corruption efforts in Russia has been curtailed, particularly as the remaining media outlets devote much of their coverage to the war.
Russia’s General Prosecutor’s Office reported 12,000 corruption-related crimes in the first three months of 2022, roughly flat as compared to the same period a year ago, with bribery accounting for more than half of all corruption-related offenses. The total reported damage from all crimes in this period was 77.8 billion rubles (approximately $113 million).
On the legislative front, on February 16, 2022 the Russian Duma adopted an amendment to the laws “On Banks and Banking Activities” and “On Combating Corruption.” Under this amendment, the government is empowered to confiscate funds from government officials or employees of state-owned entities—as well as their spouses and minor children—if the legality of the source of these funds cannot be confirmed and if the amount in the account exceeds the income of the official for the past three years.
Ukraine
The focus of the Ukrainian government in the first part of 2022 has been on repelling the Russian invasion. Accordingly, progress on domestic policies—including with regards to rooting out corruption—has come to a halt except where those policies have a direct impact on the war effort. Certain anti-corruption policies have, however, become part of the war effort as they are conditions of Ukraine’s potential entry into the European Union—which Ukraine views as vital to its future success.
On June 17, 2022, the European Commission praised Ukraine for its progress in ensuring political and economic stability, but outlined seven steps that Ukraine should take in order to be further considered for acceptance into the European Union. Those steps include implementing laws that Ukraine has already passed, such as by appointing a new head of the Specialized Anti-Corruption Prosecutor’s office and by applying the Anti-Oligarch law to limit the excessive influence of oligarchs in economic, political, and public life. Other steps require Ukraine to further enact new legislation which would guarantee an independent media and judiciary. Although before the war, President Zelensky struggled to pursue his anti-corruption agenda with only 30% public support, the president now enjoys 90% approval among Ukrainians and appears to be highly motivated to take all steps that will allow Ukraine to prevail in the war and rebuild after, including through EU membership.
The Americas
Argentina
On April 25, 2022, the Transparency Policy Planning Directorate of Argentina’s Anti-Corruption Office approved a sweeping new System for Monitoring Private and Public Activities Before and After the Exercise of Public Function (“MAPPAP,” per its initials in Spanish). The purpose of the MAPPAP is collating and verifying compliance with public ethics regulations of individuals who enter and leave high-ranking public positions in the National Executive Branch. One of the stated goals of the MAPPAP is to limit potentially improper information sharing and the possible lack of impartiality that comes from so-called “revolving-door” employment in the private sector of former public sector officials.
Brazil
Our prior updates have covered at length the ongoing saga of Operation Car Wash, or Lava Jato, undoubtedly the most influential anti-corruption probe in Brazil’s history and one of the most significant globally as well. Perhaps the highest-profile target of the probe was former Brazilian President Luiz Inácio Lula da Silva, who was initially convicted and sentenced to nine years in prison in 2017. But then in 2021, Lula’s conviction was vacated by the Supreme Federal Court on the grounds that the original judge lacked jurisdiction to investigate and try the cases, and further was not considered to be impartial.
In the latest chapter, Lula brought his case to the U.N. Office of the High Commissioner on Human Rights, which in April 2022 found that “[t]he investigation and prosecution of former President Lula da Silva violated his right to be tried by an impartial tribunal, his right to privacy and his political rights,” and “that the actions and public statements by the former judge and the prosecutors violated his right to presumption of innocence.” The Commission further concluded that a prohibition against a future run for another presidential term was “arbitrary” and “urged Brazil to ensure that any further criminal proceedings against Lula comply with due process guarantees and to prevent similar violations in the future.”
Lula announced his pre-candidacy for president on May 7, 2022, and was officially nominated in July 2022 as Brazil’s Workers Party candidate to run against Brazil’s incumbent president in the October election.
Canada
As reported in our 2021 Year-End FCPA Update, Montreal-based engineering and construction firm SNC-Lavalin was charged together with two of its executives—Normand Morin and Kamal Francis—by the Royal Canadian Mounted Police (“RCMP”) with fraud and forgery in connection with a $100 million contract to refurbish a significant bridge in Montreal. At the time, SNC-Lavalin’s CEO reported it was the first company to receive an offer to negotiate for the settlement of charges under the new deferred prosecution agreement legislation passed in Canada, which was confirmed when, on May 6, 2022, the company announced that it agreed to a settlement and remediation agreement with the Quebec Crown Prosecutors’ Office. Pursuant to the deferred prosecution agreement, which was approved by Quebec’s Superior Court a week later, SNC-Lavalin will pay approximately $29.5 million and undergo a three-year compliance monitorship. The case against Morin and Francis remains ongoing.
Colombia
As discussed above, in March 2022 DOJ announced a declination with disgorgement resolution with British multinational insurance corporation JLT Group arising from alleged corruption involving Ecuadorian state surety company Seguros Sucre. Affiliated company Carpenter Marsh Fac Colombia agreed to a settlement with Colombian authorities pursuant to which it agreed to pay $2.1 million to resolve allegations arising from the same conduct.
Asia
China
In January 2022, the Nineteenth Central Commission for Discipline Inspection (“CCDI”) of the Chinese Communist Party held its Sixth Plenary Session, which emphasized the Party’s continued commitment to combating corruption. In particular, the communiqué of the plenary session highlighted anti-corruption efforts involving state-owned entities and in the financial and the public infrastructure sectors.
In March 2022, the National Supervisory Commission and the Supreme People’s Procuratorate (“SPP”) published synopses of five recent prosecutions as illustrative cases, each of which was focused on criminal liability of those providing bribe payments. The publication is in line with the ongoing shift in the government enforcement focus to the “supply side” of bribery. The cases concerned bribe-giving in various sectors, such as public procurement and healthcare, and all individual bribe-givers in these cases were found criminally liable. In addition, a precious metal company in Zhejiang province was found criminally liable for a bribe payment provided by its legal representative, with the Procuratorate arguing that the representative made the improper payment for the entity’s benefit and the funds for bribe-giving were generated from the entity’s operating business.
We continue to see active anti-corruption enforcement actions in China’s financial sector. Dozens of government officials and senior executives of state-owned banks have been investigated, charged, and/or penalized since the beginning of 2022. For example, in April 2022, enforcement authorities announced a corruption probe into Tian Huiyu, the former president of China Merchants Bank, and arrested Zeng Changhong, a former official at the China Securities Regulatory Commission, on suspicion of accepting bribes. In May 2022, Sun Guofeng, the former head of the monetary policy department at the People’s Bank of China, was removed from office and investigated on suspicion of accepting bribes. In the same month, the Beijing Municipal People’s Procuratorate charged He Xingxiang, the former vice president of China Development Bank, for allegedly accepting bribe payments, and in August 2022, he pleaded guilty to accepting bribe payments and valuables worth over $9.6 million.
The healthcare sector likewise remains at the center of China’s anti-corruption campaign. In May 2022, nine ministries of the Chinese Central Government jointly issued the 2022 Key Tasks on Safeguarding the Integrity of Medical Procurement and Medical Services. This document instructs local governments to identify and rectify misconduct in the healthcare sector and highlights the government’s focus on combating corruption in the healthcare sector, including illegal kickbacks and commercial bribery. In June 2022, the National Healthcare Security Administration added five medical device and pharmaceutical companies to a “blacklist” as a result of kickbacks and other improper payments allegedly provided to hospital employees through sales representative. Companies added to the “blacklist” may be prohibited or restricted from participating in the government’s public procurement process.
Finally, as reported in our 2021 Year-End FCPA Update, China’s SPP, along with other national authorities, launched the Third-Party Supervision and Evaluation Mechanism under which the SPP can refer a company that qualifies for the program to a third-party organization to investigate, evaluate, supervise, and inspect compliance commitments made by the company. In 2022, additional national authorities, including the China Securities Regulatory Commission, joined the Third-Party Supervision and Evaluation Mechanism. As of June 2022, the mechanism has been applied in over 1,000 cases involving both entities and individuals.
India
In January 2022, India’s Central Bureau of Investigation (“CBI”) arrested six executives of the Gas Authority of India Limited (“GAIL”), a state-owned natural gas explorer and producer. The executives are alleged to have demanded and received bribes from private companies in return for providing them with discounts on products sold by GAIL. The bribe payments are reported to be valued at INR 5 million (approximately $64,000).
In April 2022, the CBI arrested former Home Minister of the State of Maharashtra Anil Deshmukh in connection with allegations of corruption and money laundering. The case is one of the most high-profile corruption enforcement actions involving action by the CBI against a former member of the state cabinet. In June, the CBI filed a 59-page charge sheet with the special court, alleging that the former minister directed senior police officers in Mumbai to extort large sums of money from bars and restaurants.
Also in April 2022, the CBI registered its first anti-corruption case based on directions from the Lokpal, India’s anticorruption ombudsman tasked with investigating complaints of corruption against public servants. Despite enabling legislation for the Lokpal being passed in 2014, its functioning has been stalled by a lack of political will. Members of the Lokpal were only appointed in 2019 and key officers in its prosecution wing are still yet to be appointed. The allegations in this first Lokpal’s anti-corruption case involve irregularities in the tender, award, and execution of a construction contract between VK Singh Construction Company and the National Research Laboratory for Conservation of Cultural Property. The case was filed against the former director-general of the NRLC and the owner of the construction company.
Finally, on February 21, 2022, the Supreme Court of India reiterated that conclusive proof of demand and acceptance of a bribe by a public servant is essential in order convict that public servant for the offense of taking bribes under India’s Prevention of Corruption Act. The case involved a commercial tax officer who was arrested after undercover officers offered her cash in exchange for the favourable assessment. But the Supreme Court held that she could not be convicted of the offence of accepting a bribe since the prosecution had not established that the defendant had demanded a bribe in the first place.
Indonesia
In June 2022, Indonesia’s Corruption Eradication Commission (“KPK”) launched a grass-roots program to fight corruption nationwide. Under the pilot scheme, the KPK selected 10 pilot villages, each from a different province, to take part in the Village Anti-Corruption Program, which aims to educate participants about the importance of integrity and increase participation of rural communities in efforts to prevent and eradicate corruption. Speaking at the launch event, the KPK’s Deputy for Education and Community Participation noted that from 2015 to 2021, the Indonesian central government disbursed IDR 468.9 trillion (~ $32 million) to villages throughout Indonesia, and that much of these funds were misused as a result of corrupt practices by village officials. According to a KPK press release, there were 601 corruption cases involving village funds with a total of 686 suspects during the period from 2015 to 2021.
Japan
In June 2022, amendments to Japan’s Whistleblower Protection Act came into force, creating a mandatory obligation for companies with over 300 regular employees to establish an internal whistleblowing system. Under the amended law, covered companies must designate personnel to receive whistleblowing reports, investigate allegations, take corrective measures, and establish an internal report response system. Japan’s Consumer Affairs Agency will have authority to, inter alia: (i) make inquiries; (ii) give guidance to business operators who fail to meet the requirements; and (iii) publish the names of business operators who fail to follow their recommendations. By contrast, companies with 300 employees or less must “make efforts” to establish a whistleblowing system, but are not required to do so.
Malaysia
In January 2022, the Malaysian Anti-Corruption Commission (“MACC”) charged Mohd Yusof Ab Rahman, a manager of Aker Solutions, an engineering company listed on the Oslo Stock Exchange, for allegedly submitting false documents to Petronas, a Malaysian state-owned energy company, to secure a license renewal. Rahman pleaded not guilty to the allegations. The charge followed a similar case against an Aker manager in June 2021, which was ultimately dropped.
As reported in our 2020 Year-End FCPA Update, in 2020, former Prime Minister Najib Razak was found guilty of three counts of money laundering, three counts of breach of trust, and one count of abuse of power and sentenced to 12 years imprisonment in connection with the 1MDB corruption scheme. After two years of appeals, in August 2022, Malaysia’s highest court upheld his convictions, and Razak began his sentence. On September 1, 2022, Razak’s wife, Rosmah Mansor, was found guilty of three charges of soliciting and receiving bribes and sentenced to 10 years imprisonment arising from a matter unrelated to 1MDB in which Mansor allegedly assisted a company in receiving government contracts. Mansor also faces 17 charges of money laundering and tax evasion in a separate matter linked to 1MDB that has not yet begun. Mansor has pleaded not guilty to those charges.
South Korea
In May 2022, Korea’s new Act on the Prevention of Public Officials’ Conflict of Interest came into force. The key purpose of the law is to prohibit public officials from using their official authority or confidential information gained in the course of their public duties for personal gain. The law was passed following a string of high-profile conflicts of interest cases in South Korea, including a scandal involving Korea’s state run housing developer, Korea Land & Housing Corporation. In addition to the prohibition on the use of confidential confirmation, the new law creates requirements for public officials to disclose and report their ownership of real estate assets, their private sector work, and any contact with retired public officials. The maximum penalties under the law are seven years in prison or a fine of KRW 70 million ($55,000).
Africa
South Africa
South Africa’s Judicial Commission of Inquiry into Allegations of State Capture, Corruption, and Fraud in the Public Sector including Organs of State, also known as the “Zondo Commission,” released its report in 2022. The Commission was established in 2018 to investigate allegations of high-level corruption in the administration of former president Jacob Zuma. After more than 400 days of formal hearings, over 300 witness testimonies, and more than 1.7 million pages of documentary evidence, the Commission’s work has culminated in a five-part report.
The Zondo Commission report accuses high-ranking officials, including Zuma, of adversely interfering in the operations of important government departments and state-owned enterprises to make them amenable to their private interests and those of close allies. Among these allies is the Gupta family, whose many businesses held lucrative contracts with the South African government and state-owned enterprises. The Commission alleges that members of the Gupta family exerted significant influence over Zuma and played a central role in the state-capture of South Africa. While the Commission does not hold prosecutorial powers, it recommends that Zuma, members of the Gupta family, and several senior government officials be subjected to further investigations and prosecution. The report prescribes various reforms to address corruption in South Africa, including major changes to the public procurement system and strengthened protections for whistleblowers. Notably, it recommends the establishment of an independent anti-corruption body dedicated to combating misconduct and corruption.
The following Gibson Dunn lawyers participated in preparing this client update: F. Joseph Warin, John Chesley, Richard Grime, Patrick Stokes, Kelly Austin, Patrick Doris, Matthew Nunan, Oleh Vretsona, Oliver Welch, Claire Aristide, Ella Alves Capone, Josiah Clarke, Bobby DeNault, Andreas Dürr, Nathan Eagan, Derek Kraft, Nicole Lee, Allison Lewis, Ramona Lin, Andrei Malikov, Jacob McGee, Megan Meagher, Katie Mills, Sandy Moss, Jaclyn Neely, Ning Ning, Rick Roeder, Jason Smith, Hayley Smith, Pedro Soto, Laura Sturges, Karthik Ashwin Thiagarajan, Katie Tomsett, Alyse Ullery-Glod, Dillon Westfall, and Caroline Ziser Smith.
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 Anti-Corruption and 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:
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)
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. Chung (+1 202-887-3729, dchung@gibsondunn.com)
Stephanie Brooker (+1 202-887-3502, sbrooker@gibsondunn.com)
M. Kendall Day (+1 202-955-8220, kday@gibsondunn.com)
Robert K. Hur (+1 202-887-3674, rhur@gibsondunn.com)
Adam M. Smith (+1 202-887-3547, asmith@gibsondunn.com)
Oleh Vretsona (+1 202-887-3779, ovretsona@gibsondunn.com)
Courtney M. Brown (+1 202-955-8685, cmbrown@gibsondunn.com)
Ella Alves Capone (+1 202-887-3511, ecapone@gibsondunn.com)
Pedro G. Soto (+1 202-955-8661, psoto@gibsondunn.com)
Jason H. Smith (+1 202-887-3576, jsmith@gibsondunn.com)
New York
Zainab N. Ahmad (+1 212-351-2609, zahmad@gibsondunn.com)
Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com)
Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com)
Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com)
Karin Portlock (+1 212-351-2666, kportlock@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)
Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
San Francisco
Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com)
Thad A. Davis (+1 415-393-8251, tadavis@gibsondunn.com)
Charles J. Stevens (+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)
Michelle Kirschner (+44 20 7071 4212, mkirschner@gibsondunn.com)
Matthew Nunan (+44 20 7071 4201, mnunan@gibsondunn.com)
Philip Rocher (+44 20 7071 4202, procher@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)
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 33 115, 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)
Singapore
Joerg Biswas-Bartz (+65 6507 3635, jbiswas-bartz@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Gibson Dunn’s Supreme Court Round-Up provides a preview of cases set to be argued during the October 2022 Term and other key developments on the Court’s docket. During the October 2021 Term, the Court heard argument in 63 cases, including 1 original-jurisdiction case.
Spearheaded by former Solicitor General Theodore B. Olson, the Supreme Court Round-Up keeps clients apprised of the Court’s most recent actions. The Round-Up previews cases scheduled for argument, tracks the actions of the Office of the Solicitor General, and recaps recent opinions. The Round-Up provides a concise, substantive analysis of the Court’s actions. Its easy-to-use format allows the reader to identify what is on the Court’s docket at any given time, and to see what issues the Court will be taking up next. The Round-Up is the ideal resource for busy practitioners seeking an in-depth, timely, and objective report on the Court’s actions.
To view the Round-Up, click here.
Gibson Dunn has a longstanding, high-profile presence before the Supreme Court of the United States, appearing numerous times in the past decade in a variety of cases. During the Supreme Court’s 6 most recent Terms, 9 different Gibson Dunn partners have presented oral argument; the firm has argued a total of 15 cases in the Supreme Court during that period, including closely watched cases with far-reaching significance in the areas of intellectual property, separation of powers, and federalism. Moreover, although the grant rate for petitions for certiorari is below 1%, Gibson Dunn’s petitions have captured the Court’s attention: Gibson Dunn has persuaded the Court to grant 33 petitions for certiorari since 2006.
* * * *
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following attorneys in the firm’s Washington, D.C. office, or any member of the Appellate and Constitutional Law Practice Group.
Theodore B. Olson (+1 202.955.8500, tolson@gibsondunn.com)
Amir C. Tayrani (+1 202.887.3692, atayrani@gibsondunn.com)
Katherine Moran Meeks (+1 202.955.8258, kmeeks@gibsondunn.com)
Jessica L. Wagner (+1 202.955.8652, jwagner@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On August 11, 2022, the Federal Trade Commission (the “FTC” or the “Commission”) launched one of the most ambitious rulemaking processes in agency history with its 3-2 vote to initiate an Advance Notice of Proposed Rulemaking (“ANPR”) on “commercial surveillance” and data security.[1] On September 8, the Commission continued the rulemaking process by hosting a virtual “Commercial Surveillance and Data Security Public Forum (the “Public Forum”)” to gather public feedback on the proposed rulemaking.[2]
As explained in more detail in our prior article, the ANPR lays out a sweeping project to rethink the regulatory landscape governing nearly every facet of the U.S. internet economy, from advertising to anti-discrimination law, and even to labor relations. Any entity that uses the internet, even for internal purposes, is likely to be affected by this FTC action.
FTC Rulemaking Process
The FTC is undertaking this rulemaking under Section 18 of the FTC Act (also known as “Magnuson-Moss”), a hybrid rulemaking process that goes beyond the Administrative Procedure Act’s standard notice-and-comment procedures.[3] The FTC may promulgate a trade regulation rule to define acts or practices as unfair or deceptive “only where it has reason to believe that the unfair or deceptive acts or practices which are the subject of the proposed rulemaking are prevalent.” 15 U.S.C. § 57a(b)(3) (emphasis added). The FTC may make a determination that unfair or deceptive acts or practices are prevalent only if: “(A) it has issued cease and desist orders regarding such acts or practices, or (B) any other information available to the Commission indicates a widespread pattern of unfair or deceptive acts or practices.” 15 U.S.C. § 57a. That means that the agency must show (1) the prevalence of the practices, (2) how they are unfair or deceptive, and (3) the economic effect of the rule, including on small businesses and consumers.
Since the FTC published the ANPR, the Commission has posted 123 comments received thus far.[4] The Commission will continue to accept public comments until October 21. After the FTC’s review of comments, the next step in the Magnuson-Moss rulemaking process would be to publish a Notice of Proposed Rulemaking (“NPR”), which would set forth the proposed rule text, a description of its reasons supporting the proposed rules, any alternatives, and a preliminary regulatory analysis assessing the costs and benefits of the proposal and alternatives. This proposal would be submitted to Congress 30 days before public issuance. The FTC would then be required to convene a public comment opportunity after the issuance of the NPR and provide interested parties an opportunity for an informal hearing to present its views and resolve disputed factual issues. Finally, the FTC would publish its Final Rule, accompanied by a Statement of Basis of Purpose detailing the prevalence of the practices being regulated, how they are unfair or deceptive, and the economic effect of the rule, including an assessment of the rule’s costs and benefits and why it was chosen over alternatives. Any person could then seek review of the rule in the D.C. Court of Appeals within 60 days of promulgation. If an NPR is published, challenges will be likely.
Commercial Surveillance and Data Security Public Forum
The September 8 Public Forum included (i) statements from Chair Lina M. Khan, Commissioners Rebecca Slaughter and Alvaro Bedoya, and the Commission’s Assistant General Counsel Josephine Liu; (ii) a panel of industry representatives; (iii) a panel of consumer advocates; and (iv) over 65 public commenters.
Key topics discussed during the Public Forum included data minimization, data security, algorithmic discrimination and ethical Artificial Intelligence (“AI”), and the protection of teenagers over 13 years old, among others.
Below are highlights from the sessions:
Commissioner Statements.
- Chair Lina Khan noted that the hearing will inform whether the agency proceeds with the rulemaking process. She noted that the FTC has a long record of using its enforcement tools to combat commercial surveillance and “lax” data security practices in instances where they are illegal, but that the FTC is “seeking to determine whether unfair or deceptive data practices may now be so prevalent that we need to move beyond case by case adjudication and instead have market wide rules.” She explained that the public record will be “critical” for the Commission to determine if it has the evidentiary basis to proceed with rulemaking, and meet the legal requirements to craft those rules. Chair Khan also stated that these issues are “urgent” given the ability for companies to track and surveil individuals throughout their day to day lives, without transparency for the average consumer regarding the data collection and use, and without any real power for Americans to opt-out of that surveillance.
- The Commission’s Assistant General Counsel Josephine Liu provided an overview of the rulemaking process, and in particular highlighted three of the questions from the ANPR on which the Commission most wants public input:
- Which practices used to surveil customers are most prevalent? She explained that this question will help the FTC focus on particular areas of concern, for both enforcement purposes and determining whether rulemaking will occur. To move on in the rulemaking process, the FTC needs reason to believe such surveillance practices are prevalent.
- How should the Commission identify and evaluate commercial surveillance harms or potential harms? Public input on this will help the FTC identify and address specific ways Americans are being harmed.
- Lastly, which areas or kinds of harm has the FTC failed to address through enforcement? Public input on this will provide the FTC with evidence about the areas in which it has less enforcement experience, and areas that rulemaking may better address.
- Commissioner Rebecca Slaughter remarked that she supports strong federal privacy legislation, but until it is passed, the Commission has a duty to act to address and investigate unlawful behavior. She encouraged industry representatives to engage with the Commission to ensure that the rules are effective and not merely a burdensome compliance exercise.
- Commissioner Alvaro Bedoya emphasized that the Commission is not just looking for a collection of “expert” opinions, but instead wants to hear from the public how it is has been impacted by commercial surveillance and poor data security practices. He also noted that the ANPR goes beyond the conception of notice and choice, the usual “caricature” of American privacy law.
Commissioners Phillips and Wilson did not participate in the Public Forum.
Industry Representative Panel.
In addition to the Commissioners’ remarks, the FTC convened a panel of industry representatives moderated by Professor Olivier Sylvain, now Senior Advisor on Technology to Chair Khan. Professor Sylvain, whose academic work has focused on Section 230 of the Communications Decency Act, joined the FTC in 2021 from Fordham University where he served as Professor of Law.
Panelists included four senior executives and policy counsel from (1) a trade association for the digital content industry; (2) a web browser provider; (3) a retail trade association; and (4) a nonprofit coalition researching the use of artificial intelligence. Below are key themes from the industry panel:
- Context Matters. The panel’s key theme was that the Commission should calibrate future rulemaking to different levels of risk presented by particular types of data collection and uses. Specifically, several panelists emphasized the need for future regulations to treat first-party data collected and used by consumer-facing apps and websites differently from third-party data collected by third parties for behavioral advertising. The Commission was urged to be careful not to inadvertently craft such broad regulations that they interfere with consumer freedoms and choices on the Internet.
- Shift Away From Behavioral Advertising. Similar to the above, panelists emphasized the need to shift away from behavioral advertising completely. Instead, they recommended shifting towards other methods of advertising that utilize first-party data.
- Big Data. One panelist mentioned that the “terms” of data use are established by “just a few big companies,” and that special attention needs to be paid to the dominant companies in the industry, who can set the tone for how rules are interpreted and implemented.
- Best Practices. The Commission moderator asked panelists what “best practices” and business models have been developed to mitigate consumer harm and protect data. Responses included: (i) maintaining internal and public-facing documentation and benchmarking across the AI lifecycle; (ii) implementing risk assessment processes and basic security controls, such as encryption in transit, strong access controls (such as multi-factor authentication and strong password requirements), and security awareness training.
- Global Insight. Panelists encouraged the FTC to review global legislation, such as the EU’s General Data Protection Regulation (“GDPR”) and the UK’s Children’s Code for guidance on what has worked, and has not worked, globally.
- Protecting Teens Over 13. Protecting teens online over 13 years old, who have aged out of protections by the Children’s Online Privacy Protection Act (“COPPA”), was another key theme. Panelists urged the Commission to be sure the rules do not just create child safety “theater.”
- Global Privacy Control/Single Opt-Out. Lastly, a key theme was implementing a browser setting, called a Global Privacy Control, that lets consumers tell websites their privacy preferences through a single opt-out, without having to manually reach out or make choices on each website. The Global Privacy Control was touted by some panelists as an important measure to protect privacy and choice. Others, however, worried that the single opt-out approach creates the potential to frustrate consumer choice and efforts for businesses to serve customers if consumers want to specifically consent to data collection and use for particular businesses.
Consumer Advocate Panel.
The Consumer Advocate Panel was moderated by Rashida Richardson, an Attorney Advisor to Chair Khan. This panel included members of non-profits and thinktanks focused on consumer privacy and digital innovation. In general, the moderator’s questions assumed harmful impacts of data use to consumers.
- Algorithmic Discrimination. Panelists expressed that the FTC should protect disadvantaged communities. Panelists claimed that barriers in housing and employment are exacerbated by targeted advertisements.
- Sensitive Information and Dark Patterns. The Supreme Court decision in Dobbs was discussed extensively. Concerns were raised about data brokers being able to sell consumer data to foreign governments, with consumers allegedly being harmed through an inability to opt-out of data being collected and companies selling sensitive health information.
- API Misuse. The panelists stated that unwanted observation – through a single Software Development Kit (“SDK”) that can be found in hundreds of apps – can lead to sensitive data being transferred across many companies without consent. Alleged associated harms include data breaches, misuse, unwanted secondary data uses, and inappropriate government access.
- Data Minimization and Targeted Advertisements. Data minimization, increased transparency, and regulating third-party targeted advertisements were key ideas raised throughout the panel as a means to FTC enforcement in this area. However, one panelist highlighted that targeted advertisements can actually play a positive role in society, such as to build community, mobilize voters, and disseminate health information to groups most likely to be effected. In this way, while data minimization is positive in theory, “color blindness” towards all data collection and use is not always the answer, as data can be used for good.
- Harm to Minors. Panelists raised the harms of targeted advertising to teens who allegedly cannot distinguish between commercial content and entertainment content online. A key recommendation was raising protections for minors beyond COPPA, in line with global trends, such as instituting a mechanism for teens to easily delete their online data.
- Consent Framework. Panelists generally expressed that, in their view, the concept of “notice and consent” is not a useful framework given the alleged power dynamics between consumers and those collecting their data online, and the purportedly asymmetric information provided to consumers when making those choices.
- Concepts Missing From the ANPR. In response to the moderator’s question on whether the ANPR was missing anything, panelists raised the following topics: the FTC should (i) explore enumerating a list of sensitive categories of data, and define how precise location data needs to be for its collection to count as “unfair”; (ii) promulgate rules to regulate service provider relationships; (iii) set forth standards for data deidentification; and (iv) implement rules to prevent discrimination of marginalized communities, combined with strengthening the FTC’s civil rights expertise.
Public Commenters.
- The FTC presented an array of public commenters after the two panels. Commenters included individuals from organizations like the U.S. Chamber of Commerce Technology Engagement Center, TechFreedom, the Centre for Information Policy Leadership, the Center for Democracy and Technology, Human Rights Watch, and the Electronic Privacy Information Center (“EPIC”). Some commenters were deeply concerned by the FTC’s broad-based expansion of its enforcement authority, while other commenters noted that the FTC’s expansion of its authority was necessary because of the privacy harms that the public allegedly suffers.
- Industry participants emphasized that the FTC was mandating economy-wide changes relating to privacy, data security, and algorithms which would step on Congressional authority. According to these participants, this would trigger the Supreme Court’s Major Questions doctrine since the FTC does not have clear authorization from Congress to make such a broad-based rule.
- Other members of the public noted that the FTC should take far-reaching action to protect personal data, with an emphasis on controls to safeguard children, student, health, and education data.
The ANPR and the public workshop are just initial steps in the lengthy FTC rulemaking process. Given the broad-based scope of the potential rules, the rulemaking process will be closely watched and analyzed. Gibson Dunn attorneys are closely monitoring these developments, and are available to discuss these issues as applied to your particular business.
__________________________
[1] Federal Trade Commission Press Release, FTC Explores Rules Cracking Down on Commercial Surveillance and Lax Data Security Practices (Aug. 11, 2022), https://www.ftc.gov/news-events/news/press-releases/2022/08/ftc-explores-rules-cracking-down-commercial-surveillance-lax-data-security-practices.
[2] Federal Trade Commission Event, Commercial Surveillance and Data Security Public Forum (Sept. 8, 2022), https://www.ftc.gov/news-events/events/2022/09/commercial-surveillance-data-security-anpr-public-forum.
[3] Magnuson-Moss Warranty Federal Trade Commission Improvement Act, 15 U.S.C. § 57a(a)(1)(B). The FTC had largely abandoned the promulgation of new trade regulation rules because the Magnuson-Moss process was perceived as too cumbersome and the agency generally preferred case-by-case enforcement over rulemaking. The Biden Administration, however, has revitalized the interest in promulgating trade regulation rules, to “provide much needed clarity about how our century-old statute applies to contemporary economic realities [allowing] the FTC to define with specificity what acts or practices are unfair or deceptive under Section 5 of the FTC Act.” Statement of Commissioner Rebecca Kelly Slaughter, Regarding the Adoption of Revised Section 18 Rulemaking Procedures (July 1, 2021), here.
[4] Public comments are available at, https://www.federalregister.gov/documents/2022/08/22/2022-17752/trade-regulation-rule-on-commercial-surveillance-and-data-security.
This alert was prepared by Svetlana S. Gans, Samantha Abrams-Widdicombe, and Kunal Kanodia.
Gibson Dunn lawyers are available to assist in addressing any questions you may have about these developments. Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any member of the firm’s Privacy, Cybersecurity & Data Innovation practice group:
United States
Matthew Benjamin – New York (+1 212-351-4079, mbenjamin@gibsondunn.com)
Ryan T. Bergsieker – Denver (+1 303-298-5774, rbergsieker@gibsondunn.com)
S. Ashlie Beringer – Co-Chair, PCDI Practice, Palo Alto (+1 650-849-5327, aberinger@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202-887-3786, dburns@gibsondunn.com)
Cassandra L. Gaedt-Sheckter – Palo Alto (+1 650-849-5203, cgaedt-sheckter@gibsondunn.com)
Svetlana S. Gans – Washington, D.C. (+1 202-955-8657, sgans@gibsondunn.com)
Lauren R. Goldman– New York (+1 212-351-2375, lgoldman@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202-955-8510, shandler@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@gibsondunn.com)
Howard S. Hogan – Washington, D.C. (+1 202-887-3640, hhogan@gibsondunn.com)
Robert K. Hur – Washington, D.C. (+1 202-887-3674, rhur@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)
Vivek Mohan – Palo Alto (+1 650-849-5345, vmohan@gibsondunn.com)
Karl G. Nelson – Dallas (+1 214-698-3203, knelson@gibsondunn.com)
Rosemarie T. Ring – San Francisco (+1 415-393-8247, rring@gibsondunn.com)
Ashley Rogers – Dallas (+1 214-698-3316, arogers@gibsondunn.com)
Alexander H. Southwell – Co-Chair, PCDI Practice, New York (+1 212-351-3981, asouthwell@gibsondunn.com)
Deborah L. Stein – Los Angeles (+1 213-229-7164, dstein@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)
Debra Wong Yang – Los Angeles (+1 213-229-7472, dwongyang@gibsondunn.com)
Europe
Ahmed Baladi – Co-Chair, PCDI Practice, Paris (+33 (0) 1 56 43 13 00, abaladi@gibsondunn.com)
James A. Cox – London (+44 (0) 20 7071 4250, jacox@gibsondunn.com)
Patrick Doris – London (+44 (0) 20 7071 4276, pdoris@gibsondunn.com)
Kai Gesing – Munich (+49 89 189 33-180, kgesing@gibsondunn.com)
Bernard Grinspan – Paris (+33 (0) 1 56 43 13 00, bgrinspan@gibsondunn.com)
Joel Harrison – London (+44(0) 20 7071 4289, jharrison@gibsondunn.com)
Vera Lukic – Paris (+33 (0) 1 56 43 13 00, vlukic@gibsondunn.com)
Penny Madden – London (+44 (0) 20 7071 4226, pmadden@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33-180, mwalther@gibsondunn.com)
Asia
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
Connell O’Neill – Hong Kong (+852 2214 3812, coneill@gibsondunn.com)
Jai S. Pathak – Singapore (+65 6507 3683, jpathak@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
The Court of Appeal (the “CA”) has recently handed down its judgment in CACV 483, 484 & 485/2018 (Shine Grace Investment Ltd v Citibank, N.A. & Anor), upholding the decision of the Court of First Instance in rejecting the plaintiffs’ claims for alleged mis-selling of equity accumulator contracts by Citibank, N.A. (the “Bank”).
The CA’s decision re-affirms the principle that in ascertaining the scope of a bank’s duty of care towards a customer, the Court places significant weight on the relevant factual circumstances (including the nature of the parties’ dealings and the relative sophistication of the customer) as well as the terms of contractual documentation. Of particular note is that the mere fact of the bank volunteering advice to a customer cannot be taken to mean that it has assumed the legal duty to advise on the suitability of investments.
- Background
The dispute involved three related actions. The main action concerned claims made by Shine Grace Investment Ltd (“Shine Grace”), an investment vehicle owned and controlled by Mrs Anita Chan (“Mrs Chan”) until her sudden death on 17 October 2007, that the Bank had mis-sold nine equity accumulator contracts (the “Disputed ACs”) to Shine Grace on 15 and 16 October 2007. The other two actions were brought by Shine Grace’s two guarantors, Shinning International Holdings Limited (“Shinning”) and Bonds & Sons International Limited (“BSI”), seeking to challenge the Bank’s transfer of funds from the accounts of Shinning and BSI to meet the outstanding liability of Shine Grace.
Three of the nine Disputed ACs were knocked out in October/November 2007. Since 20 November 2007, the Bank had demanded Shine Grace to deposit additional margin security, but Shine Grace (then controlled by the children of Mrs Chan following her death) disclaimed the Disputed ACs and asserted that they were invalid and unenforceable. The remaining six Disputed ACs were closed out and unwound by the Bank in January 2008. Shine Grace suffered losses totaling around HK$478 million, which included the costs of unwinding the Disputed ACs (exceeding HK$427 million) and losses of around HK$51 million from the sale of shares accumulated under the Disputed ACs.
The trial of the three actions took place before the Honourable Mr Justice Ng (“Ng J”) in November and December 2017, lasting 13 days. On 30 July 2018, Ng J handed down his judgment dismissing all three actions, finding that (i) the Bank did not owe to Shine Grace the alleged duty to advise, (ii) even if there was such a duty, the Bank did not breach the same and (iii) the alleged breach of duty did not cause Shine Grace’s losses. Shine Grace, Shinning and BSI appealed against Ng J’s judgment.
- The CA’s Judgment
The CA dismissed the appeal on 9 September 2022, upholding Ng J’s findings in respect of each element of Shine Grace’s claims.
2.1 Duty of care
The CA confirmed that the Bank was not under a duty to advise Shine Grace on the suitability and risks of Disputed ACs, regardless of what recommendations or suggestions might have been made to Shine Grace during the course of their relationship.
With reference to Chang Pui Yin v Bank of Singapore Ltd [2017] 4 HKLRD 458, the CA noted that the starting point is that banks are not normally under a duty to advise customers on the prudence or risks of their investments. However, the scope of a bank’s duty of care is highly fact-sensitive, and turns on the precise nature of its relationship with the customer.
The CA observed that an enormous body of evidence (including no less than 680 items of audio recordings) was available before the trial judge as to the parties’ dealings, and it would not be appropriate for the CA to embark on its own fact findings in an unfocused review of such evidence. The trial judge was entitled to find on the evidence that Mrs Chan, being a sophisticated and experienced investor, had her own investment strategy and did not rely on any investment advice from the Bank; the Bank was primarily following Mrs Chan’s instructions in facilitating execution of trades.
The CA also agreed with Ng J’s interpretation of Clause 4.12 of the Master Derivative Agreement, which had the clear effect of disclaiming any duty on the part of the Bank to give advice or make recommendations to Shine Grace. The material parts of the clause provided the following:
“You understand and agree that:
(a) the above brief statement cannot disclose all the risks and other significant aspects of the derivatives market and you should therefore carefully study derivative transactions before you trade;
(b) in respect of services rendered by us on a non discretionary basis,
(i) you make your own judgment in relation to the transactions;
(ii) we assume no duty to give advice or make recommendations;
(iii) if we make any suggestions, we assume no responsibility for your portfolio or for any investment or transaction made;
…
(d) in either of the above cases,
(i) we and our affiliates may hold positions for ourselves or other clients which may not be consistent with our officers’ or employees’ suggestions or discretionary management for you; and
(ii) any risks associated with and any losses suffered as a result of our entering into any transactions for you are for your account.”
The CA emphasised that the mere fact that the bank had volunteered to give advice cannot be taken to mean that the bank must have assumed the legal responsibility to advise a customer on the suitability of his/her investment.
The CA also rejected the argument that the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission (the “SFC Code”) should inform the common law duties to which the Bank was subject. The SFC Code cannot ‘create’ a duty of care which does not exist under common law.
2.2 Breach of duties
Having found that there was no duty on the Bank to advise Shine Grace on the Disputed ACs, it was not strictly necessary to consider the issue on breach of duties. Nevertheless, the CA held that there was no breach of duty on the part of the Bank.
The CA upheld Ng J’s evaluative conclusion that the Disputed ACs were not unsuitable for Shine Grace. Mrs Chan was a sophisticated investor, and had her own team of staff to monitor her investments and make regular reports. It is not the Bank’s job to ‘micromanage’ Mrs Chan’s financial affairs, and it cannot be regarded as having breached its duty in failing to advise her in these circumstances.
The CA also rejected the argument that there was inadequate or unsatisfactory disclosure of material risks of the Disputed ACs in the contractual documentation.
2.3 Causation
The CA held that Ng J was entitled to conclude, on the available evidence, that Mrs Chan would have entered into the Disputed ACs anyway; to suggest that the Bank could have somehow dissuaded Mrs Chan from entering into the Disputed ACs by advising that they were unsuitable was wholly speculative. Accordingly, Shine Grace has not established the causation element.
- Comments
The CA’s decision re-affirms the long established legal principle that the appellate court will only intervene in respect of findings of fact if there are palpable errors identified which are sufficiently material to undermine the trial judge’s conclusion. In this case, the trial judge’s task involved going through voluminous audio recordings and receiving days of oral testimony, and was entitled to come to the evaluative conclusions that he did. The CA found that Shine Grace has not identified any palpable error made by the trial judge to disturb his factual findings.
Of note is that since the reforms to the Professional Investor Regime by the Securities and Futures Commission (which came into effect on 9 June 2017), where a written client agreement is required, it must include a suitability clause to the following effect:
“If we [the intermediary] solicit the sale of or recommend any financial product to you [the client], the financial product must be reasonably suitable for you having regard to your financial situation, investment experience and investment objectives. No other provision of this agreement or any other document we may ask you to sign and no statement we may ask you to make derogates from this clause.”
The requirement of a mandatory suitability clause would undermine the effect of non-reliance provisions such as the one in the Master Derivative Agreement referred to above.
In any event, Shine Grace remains an important case that illustrates the value of having clear contractual documentation and contemporaneous records of dealings, which would inform the scope of any legal duties assumed by a bank towards its customers.
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 the authors and the following lawyers in the Litigation Practice Group of the firm in Hong Kong:
Brian Gilchrist (+852 2214 3820, bgilchrist@gibsondunn.com)
Elaine Chen (+852 2214 3821, echen@gibsondunn.com)
Alex Wong (+852 2214 3822, awong@gibsondunn.com)
Andrew Cheng (+852 2214 3826, aocheng@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
The number of securities lawsuits filed since January has remained steady compared to the first half of 2021. We have already seen many notable developments in securities law this year. This mid-year update provides an overview of the major developments in federal and state securities litigation in the first half of 2022:
- We explore what to watch for in the Supreme Court, including the upcoming decision in SEC v. Cochran, which addresses an important jurisdictional question; the decision in West Virginia v. Environmental Protection Agency, which could impact the SEC’s proposed climate disclosure rule; and the future of gag rules.
- We examine a number of developments in the Delaware Court of Chancery, including the applicability of Blasius and Schnell when board action implicates the stockholder franchise; a novel, but “likely rare,” claim that a board’s wrongful refusal of a stockholder demand constituted a breach of fiduciary duty; and when an activist-appointed director might be conflicted by an expectation of future directorships.
- The Second Circuit in SEC v. Rio Tinto held that in order to allege a claim of scheme liability, plaintiffs must show something more than just the misstatements or omissions themselves, such as dissemination. Although it is too early to see the application of Rio Tinto at the district court level, lower courts had previously continued to grapple with the scope of Lorenzo.
- We again survey securities-related litigation arising out of the coronavirus pandemic, including securities class actions alleging that defendants made false claims about the efficacy of their COVID-19 vaccines, treatments, and tests. Notably, since the beginning of the year, the SEC has filed multiple lawsuits related to the pandemic.
- We explore the lower courts’ application of the Supreme Court’s decision in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund, which concerned liability based on a false opinion, often to evaluate the sufficiency of pleadings in response to defendants’ motions to dismiss. Recent decisions emphasize that the context surrounding the opinion is a key consideration for determining whether that opinion is actionable. As such, other statements made contemporaneously to an opinion, the reason why an opinion is being offered, and the knowledge level of the speaker can be just as important as the syntax and meaning of the opinion itself.
- We examine various developments in federal securities litigation involving special purpose acquisition companies (“SPACs”), including a surge in Section 10(b) claims against companies reporting under-promised financial results after being acquired by SPACs. We also preview how the SEC’s newly proposed SPAC rules and amendments may potentially impact this litigation.
- Finally, we address several other notable developments in the federal courts, including:
- the Second Circuit’s holding that a company had a duty to disclose a governmental investigation for purposes of a claim under Section 10(b) of the Exchange Act of 1934;
- the Ninth Circuit’s further guidance as to when a general corporate statement by a company is nonactionable;
- the Second Circuit’s affirming the dismissal of a securities class action after reaffirming the PSLRA’s requirements for pleading falsity with sufficient particularity;
- the Ninth Circuit’s clarification and tightening of its loss causation standard; and
- the Eleventh Circuit’s holding that informal mass online communication, such as YouTube videos, can count as “soliciting” the purchase of an unregistered security, affecting the sale of new cryptocurrencies reliant on such methods for traction.
I. Filing And Settlement Trends
According to Cornerstone Research, although new filings remain consistent with the first half of 2021, the number of approved settlements is up over 30% from the same time last year, and the median settlement amount has rebounded from the low that we reported in our 2021 Mid-Year Securities Litigation Update. SPAC and crypto-related filings continue to be a focus of plaintiffs’ attorneys, even as the nature of these suits continues to evolve.
A. Filing Trends
Figure 1 below reflects the semi-annual filing rates dating back to 2013 (all charts courtesy of Cornerstone Research). For the third six-month period in a row, new filings remained below the historical semi-annual average. Notably, at 110, filings in the first half of 2022 barely top 50% of the average semi-annual filing rates seen between 2017 and 2019, though this deficit is largely driven by a substantial decrease in M&A filings. The 105 total new “core” cases—i.e., securities cases without M&A allegations—filed in the first half of 2022 represent a modest increase from both the first and second half of 2021 and are closer to, though still below, other recent periods.
Figure 1:
Semiannual Number of Class Action Filings (CAF Index®)
January 2013 – June 2022
As illustrated in Figure 2 below, SPAC-related filings are on track to meet or exceed last year’s chart-topping performance and already exceed the total SPAC-related filings in all of 2019 and 2020 combined. This increase is driven primarily by SPAC-related actions in the technology and industrial sectors that have offset a potential decline in actions in the consumer space. Cryptocurrency-related actions are also on pace to increase in 2022, driven in part by the continued increase in actions against crypto exchanges and allegations related to securitization in the first half of the year. On the other hand, cybersecurity filings, along with opioid and cannabis cases, are on pace to decrease significantly.
Figure 2:
Summary of Trend Cases—Core Federal Filings
2018 – June 2022
B. Settlement Trends
More settlements were approved in the first half of 2022 than have been in any half-year in the last five years. Additionally, as reflected in Figure 3, the total settlement value in the first half of 2022 is nearly twice that of this time last year, almost meeting the total value of 2021. Of the 55 approved settlements, four topped $100 million, relative to only two this time last year. And the median value of settlements approved is up 56% from the first half of 2021 to $12.5 million.
Figure 3:
Total Settlement Dollars
January 2017 – June 2022
(Dollars in Billions)
II. What To Watch For In The Supreme Court
Although it has been a relatively quiet first half of 2022 for securities litigators in the Supreme Court, one decision has a potential impact on rulemaking and several other decisions could be on the horizon.
A. Cochran To Address Jurisdictional Questions Of Administrative Law Judges
On November 7, 2022, the Supreme Court will hear argument in SEC v. Cochran, No. 21-1239 (5th Cir., 20 F.4th 194; cert. granted, May 16, 2022). The question presented is procedural—whether a federal district court has jurisdiction to hear a suit in which the respondent in an ongoing SEC administrative proceeding seeks to enjoin that proceeding, based on an alleged constitutional defect in the provisions of the Exchange Act that govern the removal of the administrative law judge who will conduct the proceeding.
Following an enforcement action against Respondent that alleged she failed to comply with federal auditing standards, the ALJ determined Respondent had, indeed, violated the Exchange Act. Then, however, the Supreme Court’s decision in Lucia v. SEC, 138 S. Ct. 2044 (2018), held that the SEC’s ALJs are officers of the United States and that their appointments must comply with the Constitution’s Appointments Clause. Id. at 2049. Thus, in Cochran, the SEC remanded all pending administrative actions for new proceedings before constitutionally appointed ALJs. Cochran v. U.S. Sec. & Exch. Comm’n, 20 F.4th 194, 198 (5th Cir. 2021), cert. granted sub nom. Sec. & Exch. Comm’n v. Cochran, 142 S. Ct. 2707 (2022). Respondent brought suit in the federal district court, seeking (1) a declaration that the SEC’s ALJs are unconstitutionally insulated from the president’s removal power and (2) an injunction barring the SEC from continuing the administrative proceedings against her. Id. at 213. The district court dismissed the action for lack of subject-matter jurisdiction, holding that the Exchange Act implicitly strips district courts of jurisdiction to hear challenges—including structural constitutional claims like the Respondent’s—to ongoing SEC enforcement proceedings. Id. at 198. The Fifth Circuit panel affirmed. Id.
The Fifth Circuit, en banc, reversed, holding that Respondent could bring her removal claim in federal court without waiting for a final determination by the SEC. Cochran, 20 F.4th at 212. The Fifth Circuit’s en banc decision created a split from the Second, Fourth, Eleventh, and D.C. Circuits, which held that the Exchange Act implicitly divests federal courts from jurisdiction to hear constitutional challenges to ongoing SEC administrative proceedings.
Two days after the Supreme Court granted certiorari in Cochran, the Fifth Circuit issued a 2-1 decision in Jarkesy v. Sec. & Exch. Comm’n, 34 F.4th 446 (5th Cir. 2022), which also discussed a challenge to the constitutionality of SEC proceedings before an ALJ in similar circumstances. In its decision, the Fifth Circuit issued three findings: (1) the SEC, through its decision to proceed before an ALJ, deprived Petitioner of his constitutional right to a jury trial for a securities fraud action seeking civil penalties, (2) Congress impermissibly granted legislative authority to the SEC by empowering it to decide whether to bring an enforcement action before a federal court or an ALJ and, therefore, which defendants should receive certain legal processes guaranteed in an Article III proceeding, and (3) because of the insulation provided by the removal restrictions for the SEC’s ALJs, the President cannot take care that the laws are faithfully executed in violation of Article II of the Constitution. Id. at 465. On July 1, 2022, the SEC petitioned the Fifth Circuit for rehearing en banc. A petition for certiorari may follow.
The Supreme Court’s decision in Cochran is unlikely to address the Seventh Amendment and non-delegation questions discussed in Jarkesy. Nonetheless, both Cochran and Jarkesy will potentially have significant implications for defendants in other enforcement proceedings, for other federal agencies that utilize in-house courts, and for parties seeking to challenge ALJ authority. As the SEC continues to face constitutional challenges against its proceedings before ALJs, defendants confronting enforcement actions should expect to see the SEC opting to proceed in federal court when possible.
In Cochran, attorneys from Gibson Dunn submitted amicus briefs supporting Cochran in the Supreme Court on behalf of Raymond J. Lucia, Sr., George R. Jarkesy, Jr., and Christopher M. Gibson, and in the Fifth Circuit on behalf of the Texas Public Policy Foundation. In Lucia, attorneys from Gibson Dunn represented petitioners Lucia and Raymond J. Lucia Companies, Inc.
B. EPA Decision Could Impact SEC’s Proposed Climate Disclosure Rule
On June 30, 2022, in a 6-3 split decision, the Supreme Court held that the Environmental Protection Agency (“EPA”) lacks the authority to change the Clean Air Act’s definition of “best system of emission reduction.” West Virginia v. Environmental Protection Agency, 142 S. Ct. 2587, 2610 (2022). Relying on the Major Questions Doctrine, which requires “a clear statement [] necessary for a court to conclude that Congress intended to delegate [broad economic authority to an agency],” id. at 2594, the Court examined, among other things, Congress’s repeat rejection of an analogous scheme. Id. at 2610.
While appearing irrelevant to securities at first blush, the decision in West Virginia v. EPA has the potential to halt the SEC’s recently proposed climate risk disclosure rule in its tracks. The SEC seeks to “require registrants to include certain climate-related disclosures in their registration statements and periodic reports.” U.S. Securities and Exchange Commission, SEC Proposes Rules to Enhance and Standardize Climate-Related Disclosures for Investors. Congress, however, has repeatedly failed to authorize such legislation in the past (e.g., Climate Disclosure Act of 2021 [HR 2570], Climate Disclosure Risk Act of 2019 [HR 3623], Climate Disclosure Act of 2018 [S 3481]). It is therefore possible that the SEC’s new proposed rule could run awry of the Supreme Court’s decision.
C. The Court Once Again Asked To Consider Gag Rule In Novinger
On July 12, 2022, the Fifth Circuit issued an order in SEC v. Novinger, 40 F.4th 297 (2022). There, Novinger sought to strike a provision in his 2016 settlement agreement with the SEC, preventing him from saying anything in public that might dispute any of the SEC’s allegations against him. Id. at 300. Novinger argued that such a provision is an unconstitutional restriction of speech by the government, while the SEC argued that even if the gag rule violates Novinger’s constitutional rights, settlement agreements which include voluntary waivers of constitutional rights are not per se invalid, including settlement agreements which waive a right to a jury trial. Id. at 303.
Without dissent, the Fifth Circuit denied Novinger’s challenge, teeing up an opportunity for the Supreme Court to consider the issue. Id. at 308. Less than a month before the Fifth Circuit ruled against Novinger, the Supreme Court declined to hear Romeril v. SEC, 15 F.4th 166 (2d Cir. 2021), cert. denied, 142 S. Ct. 2836 (2022), which challenged a similar gag rule, but from a much older settlement. Even though Novinger’s petition probably will suffer the same fate as Romeril’s, it is clear that challenges to these gag rules will continue. In a concurrence to the Fifth Circuit’s opinion in Novinger, two of the three judges on the panel highlighted that the SEC “never responded” to “a petition to review and revoke the SEC policy [that] was filed nearly four years ago,” and predicted that “it will not be long before the courts are called on to fully consider this policy.” Novinger, 40 F.4th at 30.
Attorneys from Gibson Dunn wrote an amicus brief on behalf of the CATO Institute in support of Romeril’s petition for certiorari.
III. Delaware Developments
A. Court Of Chancery Again Upholds Board’s Rejection Of Non-Compliant Dissident Nomination Under Intermediate Standard Of Review
In February, the Delaware Court of Chancery reiterated that “[f]undamental principles of Delaware law mandate that the court . . . conduct an equitable review of [a] board’s rejection of [a director] nomination” notice pursuant to advance notice bylaws even if such rejection is “contractually proper.” Strategic Investment Opportunities LLC v. Lee Enterprises, Inc., 2022 WL 453607, at *1 (Del. Ch. Feb. 14, 2022). In Lee Enterprises, a beneficial owner of the company sought to nominate several directors as part of a takeover attempt, but it failed to comply with unambiguous advance notice bylaws requiring it to become a record holder and submit the company’s nominee questionnaire forms before the nomination deadline. Id. Denying the beneficial owner’s request to permit its candidates to stand for election, Vice Chancellor Lori W. Will held that the board’s rejection of the non-compliant nomination notice was contractually proper and equitable under the circumstances. Id.
Echoing the court’s recent decision in Rosenbaum v. CytoDyn Inc., 2021 WL 4775140, at *1 (Del. Ch. Oct. 13, 2021), which we discussed in our 2021 Year-End Securities Litigation Update, the court declined to apply both the stringent review of Blasius Industries, Inc. v. Atlas Corp., 564 A.2d 651 (Del. Ch. 1988), and the deferential business judgment rule. See Lee Enterprises, 2022 WL 453607, at *14–15. Instead, the court applied enhanced scrutiny—Delaware’s intermediate standard of review first set forth in Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985)—which requires directors to “identify the proper corporate objectives served by their actions” and “justify their actions as reasonable in relation to those objectives.” Lee Enterprises, 2022 WL 453607, at *16 (quoting Mercier v. Inter-Tel (Del.), Inc., 929 A.2d 786, 810 (Del. Ch. 2007)). The court ultimately held for the defendants, finding that the bylaws were “validly enacted on a clear day,” and the board “did not unfairly apply” them or make “compliance [with them] difficult.” Id. at *18.
B. Court Of Chancery Offers Guidance On “Vague” Schnell Standard
In Coster v. UIP Companies, Inc., 2022 WL 1299127 (Del. Ch. May 2, 2022), the court upheld a board’s decision to dilute a stockholder’s 50% ownership stake under the “compelling justification” standard of review set forth in Blasius Industries, Inc. v. Atlas Corp., 564 A.2d 651 (Del. Ch. 1988). Offering helpful guidance on how the Blasius standard interacts with precedents interpreting Schnell v. Chris-Craft Industries, Inc., 285 A.2d 437 (Del. 1971), when a board’s disenfranchising actions are at issue, the court held that Blasius applied—and Schnell did not—because the board’s disenfranchising action “did not totally lack a good faith basis.” Coster, 2022 WL 1299127, at *10.
In Coster, upon the death of plaintiff’s husband, plaintiff became a 50% shareholder of UIP. Id. at *1. UIP’s two 50% stockholders deadlocked regarding the composition of UIP’s board. Id. To cause UIP to buy her stake for 30 times UIP’s total equity value, plaintiff filed a lawsuit asking the court to appoint a custodian with full control of the company. Id. at *3. For its part, the UIP board believed that the appointment of a custodian “rose to the level of an existential crisis for UIP” because it could “trigger broad termination provisions in key contracts and threaten a substantial portion of UIP’s revenue.” Id. at *12. Thus, in response to the lawsuit, the board issued one-third of the total outstanding shares “to reward and retain an essential employee” who had long been promised them. Id. at *5. Coster then sued again to invalidate the issuance as a per se breach of fiduciary duty. Id. at *1.
After trial, the court entered judgment in favor of the director defendants, finding their actions were motivated at least in part by good faith under the entire fairness standard. Id. at *10. The Delaware Supreme Court reversed and remanded, however, holding the court of Chancery should have extended its inquiry to determine whether the board acted for inequitable reasons, as laid out in Schnell and Blasius. Id. at *1.
On remand, the court offered new guidance on Schnell, which holds that “inequitable action does not become permissible simply because it is legally possible,” and embodies the Delaware doctrine that “director actions are ‘twice-tested,’ first for legal authorization, and second for equity.” Id. at *6. “Heeding the [Delaware Supreme Court’s prior] policy determination that Schnell should be deployed sparingly,” the court interpreted Schnell to apply only where “directors have no good faith basis for approving … disenfranchising action.” Id. at *8. Crediting the UIP board’s good-faith belief that avoiding the appointment of a custodian and rewarding and retaining an essential employee were in UIP’s best interests, the court concluded that the board did not act “exclusively for an inequitable purpose,” and Schnell did not apply. Id. at *10.
Next, the court considered Blasius. Assuming the UIP board acted “for the primary purpose of impeding the exercise of stockholder voting power,” the court focused on “whether the board establishe[d] a compelling justification for [its] action[s]” and “[its] actions were reasonable in relation to [its] legitimate objective.” Id. at *11–12. The court answered the first question in the affirmative: it agreed with the UIP board that the appointment of a custodian was “an existential crisis,” and preventing that crisis was a “compelling justification.” Id. at *12. It also found that diluting two deadlocked stockholders equally was “appropriately tailored” to achieving that goal. Id. at *13. Because it found that the UIP board had a compelling justification for diluting the plaintiff, the court entered judgment in favor of the defendants.
C. The Court Of Chancery Recognizes A “Novel” Wrongful Demand Refusal Claim
In May, the Delaware Court of Chancery in Garfield v. Allen, C.A. No. 2021-0420-JTL, 277 A.3d 296 (Del. Ch. May 24, 2022), declined to dismiss a claim for breach of fiduciary duty arising from a board’s wrongful rejection of a stockholder demand letter. In Garfield, a stockholder of ODP Corporation sent the company a letter demanding that performance share grants awarded to the company’s CEO be modified as they violated the equity compensation plan’s (the “2019 Plan”) share limitation. Id. at 313–14. After the company refused to act on the demand, the stockholder filed claims against the company’s directors and its CEO alleging that their actions breached the 2019 Plan and their fiduciary duties. Id. at 314.
All of the plaintiff’s claims survived the defendants’ motion to dismiss. Although most were governed by settled law, one theory the plaintiff advanced was novel: all of the directors “breached their fiduciary duties by not fixing the obvious violation after the plaintiff sent a demand letter calling the issue to their attention.” Id. at 305; see also id. at 340. “The making of demand has not historically given rise to a new cause of action,” Vice Chancellor J. Travis Laster explained, because “a stockholder who makes demand tacitly concedes that the board was disinterested and independent for purposes of responding to the demand.” Id. at 339. In Garfield, however, the court found that the plaintiff overcame the tacit-concession doctrine because he adequately pleaded facts demonstrating that the board refused the demand in bad faith. Id. at 338–40 (citing City of Tamarac Firefighters’ Pension Tr. Fund v. Corvi, 2019 WL 549938 (Del. Ch. Feb. 12, 2019)). Observing that “[t]he conscious failure to take action to address harm to the corporation animates a type of Caremark claim,” id. at 336–37, the court found that the “conscious decision to leave a violative award in place support[ed] a similar inference that the decision-maker[s] acted disloyally and in bad faith.” Id. at 337–38. It therefore held that this was one of the “likely rare” scenarios in which plaintiff’s claims that all directors acted in bad faith in rejecting the demand—and thus breached their fiduciary duties—were viable. Id. at 340.
Finally, Vice Chancellor Laster was careful to note the dangerous implications of this “novel” theory, which, among other things, include expanding opportunities for plaintiffs to create new claims with demand letters. Id. at 338–39. The court explained that the facts at issue were exceptional, however, because the problem identified by the demand was “obvious,” and established precedent supported an inference that the directors acted in bad faith. Id. at 306, 340.
D. Court Considers Whether Activist-Appointed Outside Directors Lack Independence From Activist
The Court of Chancery recently held that an activist’s practice of rewarding directors with repeat appointments can be sufficient to call a director’s independence into question. In Goldstein v. Denner, 2022 WL 1671006, at *2 (Del. Ch. May 26, 2022), a stockholder plaintiff adequately pleaded that certain members of Bioverativ’s board breached their fiduciary duties during a process to sell the company to Sanofi. Initially, the activist was approached by Sanofi with an initial offer to buy Bioverativ, but rather than alerting the board, the activist engaged in conduct violating Bioverativ’s insider trading policy. Id. at *1. Months later and after multiple offers that were not disclosed to the board, Sanofi submitted another offer to the entire board, and, eventually, the merger was effected at a price below Bioverativ’s standalone valuation under its long-range plan. Id. at *1, *13–*14.
Reviewing the independence of two activist-appointed outside directors, the court credited allegations that the activist had a practice of rewarding supportive directors with additional lucrative directorships and that each director hoped to cultivate such a repeat-player relationship with the activist. Id. at *2. One of the activist-appointed outside directors had a professional relationship with the activist and, shortly before joining the company’s board, allegedly received a lucrative payout for helping the activist complete the sale of another company. Id. at *2, *49. Likewise, another activist-appointed director, who allegedly was unemployed and looking to restart his career at the time the activist appointed him, was quickly appointed to the board of a second company that the activist hoped to put in play. Id. at *2, *50. The court concluded that these allegations were enough to make it reasonably conceivable that the two directors supported a sale of the company based on an expectation of future rewards, rather than because the transaction was in the best interests of the company. Id. at *2–3, *46, *50.
Aspects of the decision in Goldstein suggest this is a topic that the court may be interested in exploring more in the future. Id. at *2, *47. First, the court relied predominantly on scholarship, and not case law, to support its holding that an activist’s practice of rewarding directors with repeat appointments can be sufficient to call a director’s independence into question. Id. at *47–48. Second, the court itself thought its findings regarding the independence of the two activist-appointed directors discussed above were a “close call.” Id. at *46, *50.
IV. Lorenzo Disseminator Liability
As initially discussed in our 2019 Mid-Year Securities Litigation Update, the Supreme Court held in Lorenzo v. SEC, 139 S. Ct. 1094 (2019), that those who disseminate false or misleading information to the investing public with the intent to defraud can be liable under Section 17(a)(1) of the Securities Act and Exchange Act Rules 10b-5(a) and 10b-5(c), even if the disseminator did not “make” the statement within the meaning of Rule 10b-5(b). As a result of Lorenzo, secondary actors—such as financial advisors and lawyers—could face “scheme liability” under Rules 10b-5(a) and 10b-5(c) simply for disseminating the alleged misstatement of another so long as a plaintiff can show that the secondary actor knew the alleged misstatement contained false or misleading information.
The biggest development in this space came from the Second Circuit, which decided SEC v. Rio Tinto Plc., 41 F.4th 47 (2d Cir. 2022). Gibson Dunn represents Rio Tinto in this and other litigation. Several trial courts have also attempted to grapple with the implications of Lorenzo.
In July 2022, as we reported in a Client Alert, the Second Circuit held in Rio Tinto that in order to allege a claim of scheme liability, plaintiffs must show more than just the misstatements or omissions themselves. Id. at 48. The decision in Rio Tinto concerned scheme liability claims made by the SEC against mining company Rio Tinto and its former CEO and CFO under Rule 10b-5(a) and (c) and Section 17(a)(1) and (3) of the Securities Act. Id. at 48. The SEC claimed that Rio Tinto’s financial statements and accounting papers included representations about a newly acquired mining asset that defendants knew were incorrect, that those papers misstated the mining asset’s valuation, and that the company should have taken an impairment on the mining asset at an earlier time. Id. at 50–51. Relying on Lentell v. Merrill Lynch & Co., 396 F.3d 161 (2d Cir. 2005), the Southern District of New York dismissed the scheme liability claims on the basis that the SEC did not allege any fraudulent conduct beyond any misstatements or omissions. Rio Tinto, 41 F.4th at 48. The SEC filed an interlocutory appeal, claiming that Lorenzo abrogated Lentell and its scheme claims based only on misstatements or omissions should be reinstated. Id. at 48–49.
The Second Circuit rejected the SEC’s expansive reading of Lorenzo, holding that “Lentell remains vital” and that even post-Lorenzo, “misstatements and omissions can form part of a scheme liability claim, but an actionable scheme liability claim also requires something beyond misstatements and omissions, such as dissemination.” Rio Tinto, 41 F.4th at 53, 49. (emphasis in original). To hold otherwise, the court reasoned, would impose primary liability not only upon the maker of a statement, but also on those who participated in the making of the misstatements, and would undermine the principle that primary liability under Rule 10b-5(b) is limited to those actors with ultimate control and authority over the false statement. Id. at 54 (citing Janus Capital Group, Inc. v. First Derivative Traders, 564 U.S. 135 (2011)). Unlike Lorenzo, where the dissemination constituted conduct beyond any misstatement or omission, the SEC did not allege that the defendants did “something extra” that would be sufficient to find scheme liability. Id.
Multiple federal district courts also recently considered the scope of Lorenzo. In SEC v. Johnson, 2022 WL 423492, at *1–5 (C.D. Cal. Feb. 11, 2022), the SEC alleged that defendants—who created, managed, and controlled two issuers—misled and deceived investors with regard to their compensation and misappropriated significant investor funds. All but one defendant consented to judgment. Id. at *1. The district court relied primarily on undisputed material facts as to negligence and scienter in denying summary judgement on the SEC’s theories of scheme liability, in part, because the SEC did not sufficiently brief the issue and provided “little analysis” as to whether the alleged misstatements and omissions “also support scheme liability,” while noting the “considerable overlap” among the subsections of Rules 10(b) and 17(a). Id. at *7.
Then, in Strougo v. Tivity Health, Inc., 2022 WL 2037966, at *10 (M.D. Tenn. June 7, 2022), the defendant was accused of a scheme involving the launching of a diet programming company and misleading investors about the company’s performance. The district court in Tennessee rejected defendant’s argument that “scheme claims must be independent and distinct from misrepresentations claims.” Id. Rather, the court held that scheme liability “can be based upon misrepresentations or omissions and not just deceptive acts.” Id.
Although it is too early to determine the impact of Rio Tinto, these decisions preview how the scope of Lorenzo may develop in other circuits. We will continue to monitor this space.
V. Survey Of Coronavirus-Related Securities Litigation
As we move through the third year of the COVID-19 pandemic, courts continue to work through the aftermath of the wave of coronavirus-related securities litigation that began in 2020. As we discussed in our 2021 Year-End Securities Litigation Update, many cases remain focused on misstatements concerning the efficacy of COVID-19 diagnostic tests, vaccinations, and treatments. In addition, there are a number of cases involving false claims about pandemic and post-pandemic prospects, including premature claims that the pandemic would be “good for business.” Many such cases are moving into the motion to dismiss stage or already have fully briefed motions to dismiss.
It is also worth noting that the SEC has been active since the beginning of the year, for example, by filing securities enforcement actions relating to a CEO’s alleged misstatements concerning the purchase of two million COVID-19 diagnostic tests, as well as individual defendants’ alleged decision to trade on insider information suggesting that a cloud computing company’s earnings were unexpectedly—and artificially—inflated in light of the pandemic.
Additional resources related to the impact of COVID-19 can be found in the Gibson Dunn Coronavirus (COVID-19) Resource Center.
A. Securities Class Actions
1. False Claims About Vaccinations, Treatments, And Testing for COVID-19
In re Chembio Diagnostics, Inc. Sec. Litig., No. 20-CV-2706, 2022 WL 541891 (E.D.N.Y. Feb. 23, 2022): Plaintiffs filed four lawsuits, which were consolidated, against defendant Chembio, a corporation that developed an antibody test during the COVID-19 pandemic. 2022 WL 541891, at *1. More specifically, the plaintiffs sued the company’s executives and underwriters, claiming they overstated the efficacy of the antibody test and its prospects. Id. at *2–5. In a February 2022 decision, the court found that the plaintiffs had not alleged scienter with sufficient specificity against the corporate defendants. Id. at *8–11. The court let certain claims against the underwriters proceed, however, finding that the plaintiffs sufficiently pled that the underwriter defendants made a material misstatement by declaring in the Registration Statement and Prospectus that the test was “100% accurate after eleven days while omitting to disclose the other data in Chembio’s possession that indicated a lower accuracy.” Id. at *17. Accordingly, the court found, “the Registration Statement did not disclose one of the most significant risks to Chembio’s business: the potential loss of sales and marketing authorization in the United States for their flagship product.” Id. On March 9, the plaintiffs moved for reconsideration, and on July 21, 2022, the court denied the motion. See Dkt. No. 106. The court stayed all deadlines in this case on August 31, 2022, given that the parties have reached a settlement in principle. See Minute Order, No. 20-CV-2706 (E.D.N.Y. Aug. 31, 2022).
Sinnathurai v. Novavax, Inc. et al., No. 21-cv-02910 (D. Md. Apr. 25, 2022) (Dkt. No. 64): In this case, plaintiffs alleged that representatives of defendant Novavax made false and misleading statements by overstating the regulatory and commercial prospects for its vaccine, including by overstating its manufacturing capabilities and downplaying manufacturing issues that would impact the company when its COVID vaccine received regulatory approval. On April 25, 2022, defendant Novavax moved to dismiss the complaint, arguing that the alleged misstatements constituted nonactionable puffery and mere statements of opinion. See Dkt. No. 64. Novavax also argued that the PSLRA’s safe harbor—which immunizes from liability statements regarding “the plans and objectives of management for future operations” or “the assumptions underlying or relating” to those plans and objectives—insulates Novavax from liability regarding certain challenged statements about the vaccine’s launch. Id. at 14. In addition, Novavax contended that the complaint does not adequately plead that certain statements about clinical trials and manufacturing issues were false or misleading. Id. at 17–23. In response, plaintiffs argued that the statements are actionable because Novavax touted its business (with statements such as “nearly all major challenges” had been overcome, and “all of the serious hurdles” were eliminated), but failed to disclose known facts contradicting those representations. Dkt. No. 65 at 11. The plaintiffs also disputed that certain statements were opinion, arguing that they are “virtually all flat assertions of fact that falsely assured investors that Novavax was ready to file its [emergency use authorization] quickly” and “had overcome the regulatory and manufacturing hurdles that had delayed that filing.” Id. at 19–20. The motion to dismiss is fully briefed, but the court has yet to issue a decision.
In re Sorrento Therapeutics, Inc. Sec. Litig., No. 20-cv-00966 (S.D. Cal. Apr. 11, 2022) (Dkt. No. 68): We began following this case in our 2020 Mid-Year Securities Litigation Update. Defendant Sorrento Therapeutics, Inc. is a biopharmaceutical company that “purports to develop treatments for cancer, pain, and COVID-19.” During the class period—May 15, 2020 through May 21, 2020—Sorrento was developing a monoclonal antibody treatment and made a number of statements about its efficacy and promise. The plaintiffs argued that the defendants’ statements were misleading because the treatment was still in preclinical testing stages. On April 11, 2022, the court dismissed the complaint in full (with leave to replead), finding that it did not adequately allege that the defendants actually lied to or misled investors about the treatment’s preclinical testing status. Dkt. No. 68 at 15. The court also found that the defendants’ statements that “there is a cure” and “[t]here is a solution that works 100 percent” were unactionable statements of corporate optimism. Id. at 11. Finally, the court concluded that the complaint failed to establish a strong inference of scienter and that the plaintiffs failed to make specific allegations showing that the defendants had any intent to deceive investors or manipulate the preclinical trials. Id. at 13. The decision granting the motion to dismiss has been appealed to the Ninth Circuit.
Yannes v. SCWorx Corp., No. 20-cv-03349 (S.D.N.Y. June 29, 2022) (Dkt. No. 90): This case stems from allegations that defendant SCWorx, a hospital supply chain company, artificially inflated its stock price with a false claim in an April 13, 2020 press release that SCWorx had a “committed purchase order” to buy two million COVID rapid test kits, after which the SCWorx stock price increased 434% from the prior trading day. Dkt. No. 1 at 4–5. In June 2021, Judge Koeltl found that the complaint was adequately pleaded. Dkt. No. 52 at 1–3. After that decision, the parties reached a settlement. On June 29, 2022, Judge Koeltl granted final certification of the settlement class, consisting of all persons or entities who acquired common stock of SCWorx between April 13, 2020 and April 17, 2020. Dkt. No. 90 at 3. Public reports indicate that under the settlement agreement, the insurers for SCWorx and its former CEO, Marc Schessel, will make a payment to the class plaintiffs and issue $600,000 worth of common stock to them. As described below, the SEC announced in May 2022 that it had filed a complaint against SCWorx and Schessel and that the company agreed to a $125,000 civil penalty. Schessel is also facing criminal charges.
In re Emergent Biosolutions Inc. Sec. Litig., No. 21-cv-00955 (D. Md. July 19, 2022) (Dkt. No. 77): This case involves allegations that certain high-level employees at Emergent, a biopharmaceutical company that provides manufacturing services for vaccines and antibody therapies, misled the public about the company’s vaccine manufacturing business. Dkt. No. 54 at 1–8. In June 2020, Emergent received funds from the federal government’s Operation Warp Speed program, which it used to reserve space for COVID vaccine manufacturing at Emergent’s Baltimore facilities. Dkt. No. 54 at 2. Emergent also entered into agreements with J&J and AstraZeneca to support the mass production of their vaccines. Id. The plaintiffs claim that, contrary to Emergent’s public proclamations of, inter alia, “manufacturing strength” and “expertise,” Emergent did not disclose myriad issues at the facilities, including that up to 15 million doses of the J&J vaccine became contaminated at the Baltimore facilities. Id. at 5–6, 74, 98. In response to reports that problems at the facilities were not isolated incidents, the government placed J&J in charge of the plant and prohibited it from producing the AstraZeneca vaccine. Id. at 6. Emergent’s stock fell drastically as a result. Id. at 7. On May 19, 2022, Emergent moved to dismiss the complaint for failure to state a claim. Dkt. No. 72. Lead plaintiffs sought judicial notice of a newly published Congressional report and related materials that the plaintiffs contend show that many more doses of the vaccine were destroyed due to Emergent’s quality control failures and that Emergent hid evidence of contamination in an attempt to evade oversight from government regulators. Dkt. No. 77. That motion, as well as the motion to dismiss, remain pending.
Wandel v. Gao, No. 20-CV-03259, 2022 WL 768975 (S.D.N.Y. Mar. 14, 2022): This lawsuit was brought by shareholders of Phoenix Tree, a residential rental company based in China with operations in Wuhan, which went public in January 2020 on the New York Stock Exchange, just as the pandemic was in its earliest stages. 2022 WL 768975 at *1. At bottom, the plaintiffs alleged that “by January 16, 2020 (when the offering documents became effective) and certainly by January 22, 2020 (when the IPO ended),” Phoenix Tree “had enough information to know that China—and Wuhan, in particular—was already under siege by the coronavirus, and that it was reasonably likely to have a material adverse effect on the Company’s operations and revenues.” Id. at *2 (internal quotation marks omitted). Unsurprisingly, the COVID-19 pandemic impacted the company, which saw the early termination of rental leases. Defendants moved to dismiss, and in a March 14, 2022 opinion and order, the court granted their motion in full. Id. at *12. The court dove deep into the timeline of COVID-19 in the region, finding that COVID-19 had not sufficiently escalated by January 17 (the day after the offering documents became effective) such that Phoenix should have been aware, then, of the material risks its business would face as a result. Id. at *6–9. The court rejected arguments that Phoenix was in a “unique position” to recognize the threat of COVID-19 because it had operations in Wuhan. Id. at *7. After the plaintiffs did not amend their complaint, on April 21, 2022, the court entered judgment, dismissing the case with prejudice. Dkt. No. 83.
2. Failure To Disclose Specific Risks
Martinez v. Bright Health Grp. Inc., No. 22-cv-00101 (E.D.N.Y. June 24, 2022) (Dkt. No. 38): As discussed in our 2021 Year-End Securities Litigation Update, in this case, the plaintiffs allege that Bright Health, a company that delivers and finances U.S. health insurance plans, made a series of materially false or misleading statements about itself in its IPO registration statement and prospectus, which overstated the company’s prospects, failed to disclose that it was unprepared to handle the impact of COVID-19-related costs, and failed to disclose that it was experiencing a decline in premium revenue. In April 2022, the court granted one of six competing motions to appoint a lead plaintiff. Dkt. No. 31. Then, plaintiffs filed an amended complaint on June 24, 2022 adding nine new parties as defendants and claiming that although Bright Health warned of potential risks in its IPO documents, it was already experiencing those risks and their adverse impacts “would foreseeably manifest further near-immediately after the IPO.” Dkt. No. 38 at 5. Defendants’ motion to dismiss is due by October 12, 2022. See Minute Order, No. 22-cv-00101 (E.D.N.Y. Sept. 12, 2022).
3. False Claims About Pandemic And Post-Pandemic Prospects
Dixon v. The Honest Co., Inc., No. 21-cv-07405 (C.D. Cal. July 18, 2022) (Dkt. No. 71): This is a putative class action against The Honest Company, a seller of “clean lifestyle” products, alleging that the company’s registration statement omitted that the company’s results were skewed by a multimillion-dollar increase in demand by COVID-19 at the time of its IPO and that the company was experiencing decreasing demand for its products. Dkt. No. 59 at 2–3. Recently, the court denied defendants’ motion to dismiss in part, finding that the plaintiffs plausibly alleged that COVID-19-related product demand was declining at the time the company published the offering documents, which claimed that the pandemic was good for the Honest Company’s business. Dkt. No. 71 at 4–5. On August 1, 2022, defendant moved for partial reconsideration of the court’s decision on the motion to dismiss. Dkt. No. 75. The court denied that motion on August 25, 2022 without further discussion. Dkt. No. 84.
Douvia v. ON24, Inc., No. 21-cv-08578 (N.D. Cal. May 2, 2022) (Dkt. No. 83): In this case, the plaintiffs allege that offering documents promulgated by defendant ON24, Inc., a “cloud-based digital experience platform,” were materially inaccurate, misleading, and incomplete because they failed to disclose that the company’s surge in new customers due to COVID-19 did not fit the company’s traditional customer profile and that those new customers were thus unlikely to renew their contracts. Dkt. No. 80 at 2–3. This case was consolidated with another action against ON24 asserting similar allegations. In May 2022, the defendants moved to dismiss the consolidated class action complaint, claiming that the statements at issue were inactionable puffery, statements of opinion, merely forward-looking, or protected by the bespeaks-caution doctrine. Dkt. No. 83 at 7–12. The motion is fully briefed and awaiting a decision.
City of Hollywood Police Officers’ Ret. Sys. v. Citrix Sys., Inc., No. 21-cv-62380 (S.D. Fla. Aug. 8, 2022) (Dkt. No. 75): Citrix is a software company that provides digital workspaces to businesses. See Dkt. No. 62 at 7. The plaintiffs claim that during the pandemic, Citrix hid numerous corporate problems and sold heavily discounted, short-term licenses that boosted its sales. Id. at 2–3. The plaintiffs allege that the company’s transition to subscription licenses was not as successful as the company had disclosed, as customers failed to make the transition, instead preferring short-term on-premise licensing due to the COVID-19 pandemic. Id. The defendants have moved to dismiss, claiming that the operative complaint inadequately alleges scienter and that the statements at issue were forward-looking statements, opinion, and/or puffery. Dkt. No. 68 at 10–23. The court will hear arguments on the motion to dismiss on September 29, 2022. Dkt. No. 77.
Leventhal v. Chegg, Inc., No. 21-cv-09953 (N.D. Cal.): The plaintiffs claim that Chegg, a textbook, tutoring, and online research provider, falsely claimed that as a result of its “unique position to impact the future of the higher education ecosystem” and “strong brand and momentum,” Chegg would continue to grow post-pandemic. Dkt. No. 1 at 1. The complaint alleges that Chegg knew that its growth was a temporary effect of the pandemic and was not sustainable. Id. In April 2022, the case was consolidated with a similar action (Robinson v. Rosensweig, No. 22-cv-02049 (N.D. Cal.)). On September 7, 2022, the court appointed joint lead plaintiffs and lead co-counsel. Dkt. No. 105.
In re Progenity, Inc., No. 20-cv-1683 (S.D. Cal.): In this case, the plaintiffs allege that Progenity, a biotechnology company that develops testing products, made misleading statements and omitted material facts in its registration statement, including that Progenity failed to disclose that it had overbilled government payors and that it was experiencing negative trends in its testing volumes, selling prices, and revenues as a result of the COVID-19 pandemic. On September 1, 2021, the court dismissed the case with leave to file a second amended complaint, finding no actionable false or misleading statements. See Dkt. No. 48. The plaintiffs then filed a second amended complaint on September 22, 2021. See Dkt. No. 49. The company filed a second motion to dismiss on November 15, 2021, which remains pending, Dkt. No. 52, and the parties participated in a settlement conference in May 2022, Dkt. No. 58. Gibson Dunn represents the company and its directors and officers in this litigation.
Weston v. DocuSign, Inc., No. 22-cv-00824 (N.D. Cal. July 8, 2022) (Dkt. No. 59): The plaintiffs allege that DocuSign, a software company that enables users to electronically sign documents, made false and misleading statements that the “massive surge in customer demand” brought on by the pandemic was “sustained” and “not a short term thing.” Dkt. No. 59 at 2. The plaintiffs allege that the defendants knew that the demand was unsustainable after the pandemic subsided, and that the defendants made corrective disclosures revealing that the company had missed billings-growth expectations after the initial surge of demand dissipated. Id. The court appointed lead plaintiff and lead counsel on April 18, 2022, see Dkt. No. 42, and plaintiffs filed the amended complaint on July 8, 2022, see Dkt. No. 59.
4. Insider Trading And “Pump And Dump” Schemes
In re Eastman Kodak Co. Sec. Litig., No. 21-cv-6418, 2021 WL 3361162 (W.D.N.Y. Aug. 2, 2021): We have been following the consolidated cases captioned under the heading In re Eastman Kodak Co. Securities Litigation since our 2020 Year-End Securities Litigation Update. The plaintiffs in this putative class action allege that Eastman Kodak and certain of its current and former directors and select current officers violated securities laws by failing to disclose that its officers were granted stock options prior to the company’s public announcement that it had received a loan to produce drugs to treat COVID-19. Dkt. No. 116 at 2. The defendants moved to dismiss earlier this year, arguing in part that the stock options grants did not constitute insider trading because the complaint lacked any allegation that the company and the individual defendants did not have the same information before the options grants were issued, which is necessary “[b]ecause an option grant is a ‘trade’ between a company and an officer,” Dkt. No. 159-1 at 21. The defendants also argued that the plaintiffs failed to allege that the “timing of the [o]ptions [g]rants was manipulated to provide additional compensation to the officers.” Id. The court recently heard oral argument on the pending motion, but has yet to issue a decision. Dkt. No. 196.
In re Vaxart Inc. Sec. Litig., No. 20-cv-05949, 2021 WL 6061518 (N.D. Cal. Dec. 22, 2021): Stockholders allege that Vaxart insiders—directors, officers, and a major stockholder—profited from misleading statements that (1) overstated Vaxart’s progress toward a successful COVID-19 vaccine and (2) implied that Vaxart’s “supposed vaccine” had been “selected” by the federal government’s Operation Warp Speed program. Dkt. No. 1 at 6–7. After Vaxart’s stock price rose in response to these statements, the insiders “cashed out,” exercising options and warrants worth millions of dollars. Id. at 7–8. As we discussed in the 2021 Year-End Securities Litigation Update, the court concluded that the complaint adequately alleged that certain defendants committed securities fraud, but the plaintiffs failed to allege securities fraud on the part of a hedge fund that was the company’s major stockholder because the complaint did not demonstrate that the entity was a “maker” of the misleading statements or controlled Vaxart’s public statements. 2021 WL 6061518 at *8. The parties engaged in discovery, and the plaintiffs recently reached a settlement with all remaining defendants, except two individual representatives from the hedge fund. Dkt. No. 215 at 6; Dkt. No. 216. The two individual defendants sought to stay additional discovery, arguing that the plaintiffs improperly used discovery from the other defendants to seek to amend their pleadings to raise new allegations against the two individual defendants and bring new claims against the hedge fund. Dkt. No. 215 at 6. The plaintiffs, in turn, sought leave to extend the time to amend the complaint until 30 days after the two individual defendants substantially completed document production, Dkt. No. 216, which was opposed by the two defendants, Dkt. No. 219. On September 8, 2022, the court granted the motion to stay further discovery and noted that the deadline to file the amended complaint could be discussed further at a hearing scheduled for September 29, 2022. Dkt. No. 235.
B. Stockholder Derivative Actions
In re Vaxart, Inc. Stockholder Litig., No. 2020-0767-PAF, 2022 WL 1837452 (Del. Ch. June 3, 2022): Unlike the Vaxart securities class action discussed above, this case was filed derivatively on behalf of the Vaxart corporate entity. In particular, Vaxart stockholders alleged that the officers, directors, and purported controlling stockholder kept private the announcement regarding the company’s selection to participate in Operation Warp Speed so that they could keep the stock price artificially low before exercising their options. 2021 WL 5858696, at *1, *13. As discussed in our 2021 Year-End Securities Litigation Update, the court granted the defendants’ motion to dismiss as to the derivative claims because the plaintiffs failed to plead demand futility, but requested supplemental briefing on the plaintiffs’ remaining claims. Id. at *24. The court recently dismissed the plaintiffs’ remaining breach of fiduciary duty claim relating to an amendment to the equity incentive plan and their unjust enrichment claim arising from compensation decisions made before and after the approval of the amendment. 2022 WL 1837452, at *1. The case is now fully dismissed.
In re Emergent Biosolutions Inc. Derivative Litig., No. 2021-0974 (Del. Ch.): In addition to the putative securities class action discussed above, the directors of Emergent BioSolutions Inc. and its current and former CEO are facing a shareholders’ derivative suit in the Delaware Court of Chancery. See Compl. at 1–8. The complaint alleges fiduciary duty breaches, unjust enrichment, corporate waste against all defendants, and an insider trading claim on the part of the current CEO. See id. at 96–97. The plaintiffs claim that the defendants failed to put in place any compliance structures to monitor its vaccine-manufacturing business, resulting in significant quality control issues with its COVID-19 vaccine. See id. at 94. The case is currently stayed pending the outcome of the securities lawsuit discussed above.
C. SEC Cases
SEC v. Berman, No. 20-cv-10658, 2021 WL 2895148 (S.D.N.Y. June 8, 2021): In both our 2020 Year-End Securities Litigation Update and our 2021 Year-End Securities Litigation Update, we discussed a related civil and criminal case filed against the CEO of Decision Diagnostics Corp. In the criminal case, a federal grand jury indicted the CEO on December 15, 2020 for allegedly attempting to defraud investors by making false and misleading statements about the development of a new COVID-19 rapid test. Dkt. No. 1 at 6–7. The CEO allegedly claimed the test was on the verge of FDA approval even though the test had not been developed beyond the conceptual stage. Id. at 6–7, 9. Only two days after the indictment in the criminal case, the SEC filed a civil enforcement action based on the same underlying facts against both Decision Diagnostics Corp. and its CEO. The SEC claims that the defendants violated Section 10(b) of the Exchange Act and Rule 10b-5. 2021 WL 2895148, at *1. The court stayed discovery in June 2021 in the civil case in light of the parallel criminal case against the CEO. Id. Discovery remains stayed, and the criminal trial is set for this coming December. Dkt. No. 30.
SEC v. SCWorx Corp., No. 22-cv-03287 (D.N.J. May 31, 2022): In addition to the private securities lawsuit discussed above, the SEC recently filed a securities enforcement action against hospital supply chain SCWorx and its CEO, alleging that the defendants falsely claimed in a press release to have a “committed purchase order” from a telehealth company for “two million COVID-19 tests” amounting to $840 million when the “committed purchase order” was, in reality, only a “preliminary summary draft.” Dkt. No. 1 at 2–3. SCWorx has agreed to pay a penalty of $125,000, in addition to disgorgement of approximately $500,000. The CEO was also indicted in a parallel criminal fraud case arising from the same allegations. 2:22-cr-00374-ES, Dkt. No. 1. On August 17, 2022, the court ordered that the SEC’s enforcement action be stayed until the parallel criminal case is completed. Dkt. No. 20.
SEC v. Sure, No. 22-cv-01967 (N.D. Cal. Mar. 28, 2022): The SEC filed this civil enforcement action in March against a group of employees at Twilio, a cloud computing company, and their friends and family, alleging that they violated Section 10(b) and Rule 10b-5 by engaging in insider trading in May 2020. Dkt. No. at 1. The SEC alleges that the employees learned that Twilio’s customers unexpectedly increased their usage of the cloud computing services because of the COVID-19 pandemic, leading to significantly increased earnings for the company that exceed its revenue guidance. Id. at 5–6. According to the SEC’s complaint, the employees informed the other defendants about Twilio’s anticipated performance in advance of its May 6, 2020 earnings announcement, who, in turn, traded on this information. Id. at 8–9. Parallel criminal charges were also announced against one of the defendants.
VI. Falsity Of Opinions – Omnicare Update
As readers will recall, in Omnicare, the Supreme Court held that “a sincere statement of pure opinion is not an ‘untrue statement of material fact,’ regardless whether an investor can ultimately prove the belief wrong,” but that an opinion statement can form the basis for liability in three different situations: (1) the speaker did not actually hold the belief professed; (2) the opinion contained embedded statements of untrue facts; and (3) the speaker omitted information whose omission made the statement misleading to a reasonable investor. 575 U.S. at 184–89. Since that decision was handed down in 2015, there has been significant activity with respect to “opinion” liability under the federal securities laws, and the first half of 2022 has been no exception.
A. Survival At The Motion To Dismiss Stage
In the first half of 2022, cases with claims premised on allegedly misleading opinions survived motions to dismiss based on Omnicare. For example, in Fryman v. Atlas Financial Holdings Inc., No. 18-cv-01640, 2022 WL 1136577, at *9–21 (N.D. Ill. Apr. 18, 2022), an Illinois district court held that plaintiff investors adequately stated a Section 10b-5 claim against a financial services holding company based on misleading statements by company executives. The plaintiffs alleged that the company misled investors with regard to a substantial increase in its loss reserves. Id. at *2–4. The complaint alleged a number of misstatements, including statements by the CEO that the reserve increases were caused by isolated issues, that “[w]e feel very strongly that we’ve isolated the issue,” and that the reserves were sufficient and “appear to be holding up consistent with the expectations we had.” Id. at *14. Despite being phrased as a belief (“[w]e feel strongly”), the court considered the pleading sufficient. Id. at *14–15. In the court’s view, the statements omitted material facts that “conflict[ed] with what a reasonable investor would take from the statement[s]” themselves. Id. at *14 (internal quotation omitted). The court concluded the defendants’ “contemporaneous knowledge surrounding the reserve deficiencies” evidenced that they “did not actually believe” the reserves were adequate or that the “increases were caused by isolated incidents.” Id. “Thus, the opinion statements concerning the cause or adequacy of [the company’s] reserves could still be misleading under Omnicare because the defendants did not hold the beliefs professed.” Id. (internal quotation and corrections omitted).
The Fryman court further considered the significance of the context surrounding the statements at issue to determine the opinion was actionable under Omnicare. “Context matters,” and whether an opinion is actionable under Omnicare depends on its “full context.” Omnicare, 575 U.S. at 190; see Fryman, 2022 WL 1136577, at *11, 20. The court rejected the defendants’ assertions that the CEO’s statements were nothing more than inactionable puffery; “when assessed in context,” those statements were “not puffery because they are not vague or unimportant to a reasonable investor, who would want to know if future reserve increases would be needed which could diminish [the company]’s net income.” Id. at *20.
Context is a common thread running through recent Omnicare cases. In City of Sterling Heights Police & Fire Retirement System v. Reckitt Benckiser Group PLC, No. 20-cv-10041, 2022 WL 596679, at *18–19 (S.D.N.Y. Feb. 28, 2022), plaintiffs plausibly alleged that some of the defendant pharmaceutical company’s statements of opinion were actionable as “more than mere puffery or statements of opinion” in light of the full context in which the statements were made. The company’s CEO made several factual statements about a product’s market share and “commercial success” without disclosing it had carried out anticompetitive practices. Id. at *2, 6. The court identified a number of adequately pleaded misstatements, including: (1) “the data has already demonstrated that [the specific product] is very clearly the preferred product”; (2) the product’s “resilience” and “market share performance” demonstrated it was “the top choice” on the market; (3) the product was “designed with the intent of being a lower potential for abuse and misuse than the previous products on the market”; and (4) “we’re not in the business of forcing the market or patients to do anything.” Id. at *18–20 (internal quotations omitted). In the court’s view, the CEO “placed at issue the reason for the [product’s] strong sales” and therefore “had a duty to disclose that sales were derived at least in part from allegedly untruthful statements and anticompetitive conduct.” Id. at *18. This was information “a reasonable investor would have considered . . . material to know.” Id. at *19. The CEO thereby “materially mispresented the reasons for the strong market position” of the product. Id. at *20.
B. Omnicare As A Pleading Barrier
In another line of cases, defendants have used Omnicare to successfully argue for the dismissal of inadequately pleaded claims relying on allegedly false or misleading opinions. In In re Peabody Energy Corp. Securities Litigation, the Southern District of New York dismissed claims against Peabody—an energy company—given the “broader surrounding context,” among other reasons. No. 20-CV-8024, 2022 WL 671222, at *18 (S.D.N.Y. Mar. 7, 2022). There, the court examined multiple statements made by Peabody and its executives regarding a fire at a mine in Queensland, Australia. One statement by an executive, that the “vast majority of the mine is unaffected,” was held to be non-actionable because, read in “the appropriate context,” the opinion was an estimate based on available data and was not “rendered misleading and actionable just because Peabody was actually unable” to ascertain damages to all parts of the mine. Id. at *18.
In In re Ascena Retail Group, Inc. Securities Litigation, the District of New Jersey relied on Omnicare to dismiss Section 10(b) and Rule 10b-5 claims against a retail clothing brand and two of its executives. Civ. No. 19-13529, 2022 WL 2314890, at *9 (D.N.J. June 28, 2022). According to the plaintiffs, the defendants made false statements about the value of the company’s goodwill and tradename. Id. at *6. They argued that defendants overstated the value of these assets in public statements and financial disclosures under GAAP, despite contemporaneous indicators of impairment, including (1) deteriorating performance; (2) changes in “consumer behavior and spending;” (3) changes in the company’s commercial strategy; and (4) falling share price. Id. Defendants countered that plaintiffs did not allege “a single particularized allegation” that they “disbelieved” the challenged statements or “omitted material non-public information.” Id.
The court agreed with defendants, finding plaintiffs had not shown the defendants “disbelieved their own statements, conveyed false statements of fact, or omitted material facts going to the basis of their opinions.” Id. at *7. The statements did little more than show the defendants were “aware” of the company’s “increasingly difficult business environment.” Id. The company’s statements about goodwill and tradenames “rest[ed] on the accounting procedures outlined by GAAP for evaluating and testing these assets,” which “require the exercise of subjective judgment.” Id. Applying Omnicare, the court held that the challenged statements were not false or misleading because, even though the company knew of its challenging business environment, GAAP granted it discretion. Id. The size of the impairment “suggests that Defendants’ valuations were overly optimistic and that an impairment could or even should have been recorded earlier,” but the company’s “impairment charge appears better explained as a result of Defendants’ mistakes, bad luck, or poor performance, not a longstanding effort by Defendants to dupe investors and fraudulently inflate Ascena’s share price.” Id. at *8. Accordingly, the court dismissed the complaint. Id. at *9; see also Nacif v. Athira Pharma, Inc., No. C21-861, 2022 WL 3028579, at *1, 15 (W.D. Wash. July 29, 2022) (holding that “laudatory opinions” about a biopharmaceutical company’s CEO, where the company allegedly misled investors by omitting “material facts concerning [the CEO’s] prior research,” were not actionable where plaintiffs failed to show “that the opinions were either provided without reasonable investigation or in conflict with then-known information”) (emphasis in original); Building Trades Pension Fund of Western Pennsylvania v. Insperity, Inc., 20 Civ. 5635, 2022 WL 784017, at *10 (S.D.N.Y. Mar. 15, 2022) (finding an “overly optimistic” statement “exuding confidence while acknowledging risk does not constitute a misstatement” actionable under Omnicare, particularly where such statements are “predictions, not guarantees”); In re Peabody Energy Corp. Securities Litigation, 2022 WL 671222, at *19 (finding a statement concerning an expected production timeline non-actionable where defendants had separately “cautioned that . . . production estimates were subject to reevaluation”).
We will continue to monitor developments in these and similar cases.
VII. Federal SPAC Litigation
The use of special purpose acquisition companies (“SPACs”) surged during the coronavirus pandemic. Using a SPAC to go public has several perceived advantages, including a more streamlined path than a traditional IPO. The surge in SPAC transactions generated new opportunities for start-ups, high-growth companies, and retail investors to access the public markets. The first half of 2022 saw both a corresponding spike in SPAC-related securities litigation and a set of newly proposed SPAC-related rules and amendments from the SEC.
Section 10(b) material misstatement or omission claims proved to be the most common avenue for SPAC-related securities claims. Such claims frequently are filed against operating companies that are acquired by SPACs and begin reporting financial results that aren’t aligned with prior, more optimistic business projections. The SEC, meanwhile, has proposed a set of new rules and amendments that seek to impose traditional IPO concepts and regulations on the SPAC transaction process. Complying with the proposed rules, which are explained in depth in our recent Client Alert, will curtail SPAC flexibility and increase the complexity and cost of completing a de-SPAC transaction. These litigation trends, alongside the SEC’s increased interest in regulating SPAC transactions, underline the importance of robust disclosure controls and disciplined due diligence throughout the SPAC process.
A. Clover Health: Prototypical 10(b) And 20(a) Claims In The SPAC Context
A notable number of claims involving SPACs survived motions to dismiss in the first half of 2022, several of which were based on fairly routine allegations of misleading statements made during pre-merger and post-merger disclosures. See, e.g., In re Romeo Power Inc. Sec. Litig., 2022 WL 1806303 (S.D.N.Y. June 2, 2022) (alleging misleading statements in the relevant registration statement, proxy statement, and prospectus); In re XL Fleet Corp. Sec. Litig., 2022 WL 493629 (S.D.N.Y. Feb. 17, 2022) (alleging misleading statements in press releases and SEC filings starting the date the de-SPAC merger agreement was announced). The recent decision in Bond v. Clover Health Investments, Corp. is a prototypical example with a fulsome opinion; it appears to be the first time a federal court has expressly credited a fraud-on-the-market theory when deciding a motion to dismiss federal securities claims arising from a SPAC-related offering. 2022 WL 602432 (M.D. Tenn. Feb. 28, 2022).
B. The Northern District Of California Continues To Apply The PSLRA’s “Safe Harbor” Provision For Forward-Looking Statements
Although use of the PSLRA’s safe harbor provision for “forward-looking statements” has been questioned in the context of SPACs due to their speculative nature, courts have continued applying the safe harbor to dismiss claims involving SPACs. The Northern District of California, for example, recently dismissed claims of alleged misstatements related to business growth and anticipated revenue under the safe harbor. Moradpour v. Velodyne Lidar, Inc., 2022 WL 2391004, at *14–16 (N.D. Cal. July 1, 2022). The court found that the defendants’ statements related to business growth and anticipated revenue from existing contracts were, in fact, forward-looking and accompanied by appropriate cautionary language, as the PSLRA requires. Id.
Although no court has yet found that the “forward-looking statement” safe harbor does not apply to SPAC transactions, the safe harbor’s future in federal SPAC litigation remains uncertain. The SEC has recently proposed a rule that would disqualify SPACs from the safe harbor by revising the definition of “blank check company” to omit the requirement that the company issue “penny stock.” If the proposed rule were to become effective, the term “blank check company” would encompass any development-state company with no specific business plan or purpose, or which has indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies, or other entity or person—including SPACs. Because the forward-looking statement safe harbor would not be available for statements made in connection with an offering by a “blank check company,” the change would eliminate a vital defense against SPAC-related claims.
C. One Plaintiff Is Pursuing New Theories Of Liability Against SPACs And Their Advisers
One plaintiff has gained attention by filing three actions asserting violations of the Investment Company Act of 1940 (the “ICA”) and the Investment Advisers Act of 1940 (the “IAA”). These suits attempt to classify SPACs as investment companies and certain involved individuals as investment advisers, which would subject them to different sets of regulations and theories of liability. One action was voluntarily dismissed because the target company ceased operations, and another is stayed. A third, Assad v. E.Merge Technology Acquisition Corp., No. 1:21-cv-07072 (S.D.N.Y. Aug. 20, 2021), is active and pending in the Southern District of New York.
In Assad, a stockholder plaintiff alleged that E.Merge, the defendant SPAC, is subject to liability under the ICA as “an investment company . . . whose primary business is investing in securities” because “this is all E.Merge has ever done with its assets.” Dkt. No. 1 at ¶ 4. The plaintiff in the case has asserted that E.Merge—as an “investment company”—violated the ICA’s rule against issuing shares of common stock for less than their net asset value by providing shares of common stock as compensation to its sponsors and directors. Id. ¶¶ 82–90. E.Merge has moved to dismiss the claims, arguing that (1) the ICA does not confer a private right of action; (2) E.Merge is not an investment company, namely because it does not engage primarily in the business of investing in securities; and (3) plaintiff has not alleged any violation of the ICA. See Dkt. No. 31. In light of E.Merge’s forthcoming dissolution and liquidation, during which it intends to return all investor funds, this case was stayed on September 2, 2022 pending the submission of a stipulation of dismissal, which is the parties anticipate filing by the end of September. See Dkt. No. 56–57.
In September 2021, shortly after the plaintiff began filing these claims, more than sixty law firms—including Gibson Dunn—issued a joint statement urging that no legal or factual basis exists for classifying SPACs as investment companies. It appears the SEC agrees. As we discussed in our recent Client Alert, the SEC’s proposed rules relating to SPACs provide a safe harbor that will exempt SPACs from the ICA. To qualify for the safe harbor, the SPAC (1) must maintain assets consisting solely of cash items, government securities, and certain money market funds; (2) seek to complete a single de-SPAC transaction where the surviving public company will be “primarily engaged in the business of the target company;” and (3) must enter into an agreement with a target company to engage in a de-SPAC transaction within 18 months after its IPO and complete its de-SPAC transaction within 24 months of such offering.
VIII. Other Notable Developments
A. Second Circuit Holds That Company Has Duty To Disclose SEC Investigation
In May, the Second Circuit, in Noto v. 22nd Century Grp., Inc., 35 F.4th 95 (2d Cir. 2022), issued an opinion that may raise questions as to when a company must disclose a governmental investigation. The plaintiffs in Noto alleged that 22nd Century Group “reported material weaknesses in its internal financial controls” in several public SEC filings over a two-year period, and they claimed that the company’s statements regarding these accounting weaknesses were misleading because the company did not disclose the existence of an SEC investigation into those same accounting weaknesses. Id. at 105.
On appeal, the Second Circuit reversed the district court’s dismissal on this point. The court reasoned, “[b]ecause defendants here specifically noted the deficiencies [in their internal financial controls] and that they were working on the problem, and then stated that they had solved the issue, the failure to disclose the investigation would cause a reasonable investor to make an overly optimistic assessment of the risk.” Id. (quotation marks and brackets omitted). The court emphasized that the Company “represented that it had rectified the problem” even though “the SEC investigation was ongoing.” Id. at 106.
It remains to be seen whether the Second Circuit’s ruling in Noto will be confined to that case’s unique facts, which included the company’s public statement that it had “solved” the accounting weaknesses while the SEC’s investigation into those weaknesses was still ongoing. Id. at 105. The decision is also silent on precisely when the Company should have disclosed the SEC investigation into its accounting practices. Nevertheless, Noto creates some potential risks for companies that report a material weakness in their internal controls and then face a related SEC investigation into those same accounting issues.
B. Ninth Circuit Further Clarifies Standard For Non-Actionable Corporate ‘Puffery’
In March, the Ninth Circuit in Weston Family Partnership LLLP v. Twitter, Inc., 29 F.4th 611 (9th Cir. 2022), took yet another opportunity to clarify the types of general corporate statements that may be actionable under federal securities laws.
Twitter concerned several public statements by the company regarding the development of an update to its Mobile App Promotion (“MAP”) product. These included, in particular, statements by Twitter that “MAP work is ongoing” and that Twitter was “continuing [its] work to increase the stability, performance, and flexibility of [MAP] . . . but we’re not there yet.” Twitter, 29 F.4th at 616–17.
When Twitter later disclosed that it had discovered software bugs with the updated MAP product, its stock price decreased, and a putative shareholder class action followed soon thereafter. The plaintiffs in Twitter alleged, among other things, that Twitter’s general statements about the development of its MAP product were misleading because the company did not also disclose the existence of the software bugs. Twitter, 29 F.4th at 615. The plaintiffs claimed that these bugs delayed development of the updated MAP product, leading to lost revenues. Id. at 621. The district court rejected this theory and granted Twitter’s motion to dismiss.
On appeal, the Ninth Circuit agreed with the district court and upheld dismissal. Among other things, the court held that Twitter’s statements that its development of MAP was “continuing” and “ongoing” were “vague” expressions of corporate optimism—i.e., non-actionable corporate “puffery”—because they were “so imprecise and noncommittal that they are incapable of objective verification.” Id. at 620–21. As part of its reasoning, the Ninth Circuit also stressed that “companies do not have an obligation to offer an instantaneous update of every internal development, especially when it involves the oft-tortuous path of product development.” Id. at 620.
C. Second Circuit Reaffirms Requirements For Pleading Falsity Under PSLRA
Also in March, the Second Circuit, in Arkansas Public Employees Retirement System v. Bristol-Myers Squibb Co., 28 F.4th 343 (2d Cir. 2022), upheld the dismissal of a securities class action against a pharmaceutical company based, in part, on a failure to plead falsity under the PSLRA.
Bristol-Myers Squibb involved statements that the pharmaceutical company had made about a lung cancer drug that it was developing. Id. at 347. A clinical trial for the drug sponsored by Bristol-Myers Squibb targeted patients whose cancer cells had a certain level of a particular protein called PD-L1; this was referred to as an “expression” of the protein, and it could be measured as a percentage value. Id. at 347–49. In public disclosures, Bristol-Myers Squibb described these patients as “strongly expressing” the protein, but, for competitive reasons the company did not disclose the exact expression threshold for eligibility in the clinical trial, which was 5%. Id. at 347, 353. When the clinical trial later failed, Bristol-Myers Squibb publicly disclosed for the first time that the threshold was 5% and later attributed the trial’s failure to its use of this threshold. Id. at 347.
The plaintiffs in Bristol-Myers Squibb claimed, among other things, that the company’s description of the clinical trial participants as “strongly expressing” the PD-L1 protein was misleading because the company had not also disclosed that the exact percentage of expression was 5%. Id. at 350. On appeal, the Second Circuit rejected this argument, agreeing with the district court that the pharmaceutical company “had no obligation to disclose the precise percentage of [protein] expression which defined ‘strong’ expression in the . . . trial.” Id. at 353.
The Second Circuit also held that the plaintiffs failed to allege with particularity why the company’s use of “strong expression” was misleading under the PSLRA. Id. at 353. The plaintiffs claimed that there was “a general consensus that ‘strong’ expression meant 50% expression or could not mean 5% expression” and pointed to a subsequent clinical trial for a similar drug by Merck & Co., another pharmaceutical company, in which Merck defined “strong” expression to mean “greater than 50%.” Id. at 353–54. The Second Circuit disagreed, finding that that the complaint lacked allegations showing the existence of any industry “consensus on the meaning of strong or high expression,” in part because the complaint mentioned industry observers and participants who used definitions for “strong” ranging from 10% to 50%. Id.
D. Ninth Circuit Offers Additional Guidance On Loss Causation Standard While Affirming Grant Of Motion To Dismiss On Loss Causation Grounds
In May, the Ninth Circuit, in In re Nektar Therapeutics Sec. Litig., 34 F.4th 828 (9th Cir. 2022), offered additional guidance on its standard for loss causation under the Exchange Act, providing detail as to how that standard should be applied to pharmaceutical contexts and reiterating its “high bar” for the use of “short-seller” reports to satisfy the standard generally. Id. at 840.
The plaintiffs in Nektar Therapeutics alleged that certain published test results from a clinical trial for a cancer drug that Nektar Therapeutics was developing were false or misleading, and they claimed to have suffered losses when the company’s stock dropped following the publication of “disappointing test results” from a second clinical trial involving the same drug. Id. at 838–39. On appeal, the Ninth Circuit affirmed the district court’s dismissal of the case, holding, among other things, that the plaintiffs had failed to allege loss causation because “only a tenuous causal connection exists between the alleged falsehoods” in the first clinical trial and the second, “different” clinical trial involving the same drug. Id. at 389.
As we discussed in our 2018 Mid-Year Securities Litigation Update, the standard for loss causation in the Ninth Circuit does not require a “[r]evelation of fraud in the marketplace” before any claimed loss. Mineworkers’ Pension Scheme v. First Solar Inc., 881 F.3d 750, 753–54 (9th Cir. 2018). Instead, the plaintiffs in Nektar Therapeutics were required to show “a causal connection between the fraud and the loss by tracing the loss back to the very facts about which the defendant lied.” Nektar Therapeutics Sec. Litig., 34 F.4th at 838 (quoting First Solar Inc., 881 F.3d at 753). The Ninth Circuit in Nektar Therepeutics held that the complaint’s allegations did not satisfy this test either. In particular, the court reasoned that the alleged results from the second clinical trial—although “not as promising”—did not suggest that the data from the first clinical trial was “improperly manipulated, or that the methodology for collecting and analyzing that data was flawed.” Id. at 839.
The Ninth Circuit in Nektar Therapeutics also clarified its recent holding on the adequacy of short-seller reports in In re BofI Holding, Inc. Sec. Litig., 977 F.3d 781 (9th Cir. 2020), rejecting the plaintiffs’ argument that a short-seller report regarding the company satisfied the loss causation element of plaintiffs’ claim. Instead, the Ninth Circuit held that, even if such a report “provide[d] new information to the market,” it was “rendered . . . inadequate” by the fact that it was published by “anonymous and self-interested short-sellers who disavowed any accuracy.” Nektar Therapeutics, 34 F.4th at 840. As the Ninth Circuit explained, these two features alone are sufficient to “render” a short-seller report “inadequate.” Id.
E. Eleventh Circuit Holds YouTube Videos And Other Mass Online Communications Suffice As Solicitations Under Securities Act
In February, the Eleventh Circuit, in Wildes v. BitConnect International PLC, 25 F.4th 1341 (11th Cir. 2022), addressed one of the potential pitfalls in the area of new cybercurrencies, holding that the promotion of an unregistered security in a mass online communication constitutes the ‘solicitation’ of the purchase of such a security for purposes of Section 12 of the Securities Act of 1933.
The plaintiffs in BitConnect International were purchasers of BitConnect coin, a cryptocurrency that was alleged to be a Ponzi scheme. Id. at 1343. To keep the scheme going, investors were incentivized by commissions to promote the coin to others. Id. Some of these “promoters” created extensive online marketing schemes, which included, for instance, thousands of YouTube videos extolling the coin. Id. Plaintiffs sued the promoters under Section 12, alleging they were liable for selling unregistered securities through their online videos. Id. Some of the promoters moved to dismiss, arguing they had not solicited the purchase of unregistered securities because their videos did not “directly communicate” with plaintiffs. Id. at 1344. The district court agreed and dismissed the case. Id.
On appeal, the Eleventh Circuit reversed, reasoning that “nothing in the Securities Act makes a distinction between individually targeted sales efforts and broadly disseminated pitches,” such as those made through podcasts, social media posts, online videos, and web links. Id. at 1345. The court also noted past cases where solicitations were found to have occurred through newspaper advertisements and radio announcements. Id. at 1346. The court concluded that “[a] new means of solicitation is not any less of a solicitation,” so “when the promoters urged people to buy Bitconnect coins in online videos, they solicited the purchases that followed.” Id.
The following Gibson Dunn attorneys assisted in preparing this client update: Craig Varnen, Monica K. Loseman, Brian M. Lutz, Jefferson E. Bell, Shireen Barday, Christopher D. Belelieu, Michael D. Celio, Jennifer L. Conn, Jessica Valenzuela, Lissa Percopo, Mark H. Mixon, Jr., Lindsey Young, Kevin J. White, Timothy Deal, Marc Aaron Takagaki, Rachel Jackson, Mari Vila, Brian Anderson, Jacob Usher Arber, Chris Ayers, Katy Baker, Chase Beauclair, Sam Berman*, Nathalie Gunasekera*, Daniel A. Guttenberg, Ina Kosova, Viola Li, Jenny Lotova, Lydia Lulkin, Adrian Melendez-Cooper, Dana E. Sherman, Hannah Stone, Erin K. Wall, and Sophie White*.
Gibson Dunn 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, the authors, or any of the following members of the Securities Litigation practice group:
Monica K. Loseman – Co-Chair, Denver (+1 303-298-5784, mloseman@gibsondunn.com)
Brian M. Lutz – Co-Chair, San Francisco/New York (+1 415-393-8379/+1 212-351-3881, blutz@gibsondunn.com)
Craig Varnen – Co-Chair, Los Angeles (+1 213-229-7922, cvarnen@gibsondunn.com)
Shireen A. Barday – New York (+1 212-351-2621, sbarday@gibsondunn.com)
Christopher D. Belelieu – New York (+1 212-351-3801, cbelelieu@gibsondunn.com)
Jefferson Bell – New York (+1 212-351-2395, jbell@gibsondunn.com)
Michael D. Celio – Palo Alto (+1 650-849-5326, mcelio@gibsondunn.com)
Paul J. Collins – Palo Alto (+1 650-849-5309, pcollins@gibsondunn.com)
Jennifer L. Conn – New York (+1 212-351-4086, jconn@gibsondunn.com)
Thad A. Davis – San Francisco (+1 415-393-8251, tadavis@gibsondunn.com)
Ethan Dettmer – San Francisco (+1 415-393-8292, edettmer@gibsondunn.com)
Jason J. Mendro – Washington, D.C. (+1 202-887-3726, jmendro@gibsondunn.com)
Alex Mircheff – Los Angeles (+1 213-229-7307, amircheff@gibsondunn.com)
Robert F. Serio – New York (+1 212-351-3917, rserio@gibsondunn.com)
Jessica Valenzuela – Palo Alto (+1 650-849-5282, jvalenzuela@gibsondunn.com)
Robert C. Walters – Dallas (+1 214-698-3114, rwalters@gibsondunn.com)
* Sam Berman, Nathalie Gunasekera, and Sophie White are associates working in the firm’s New York office who currently are not admitted to practice law.
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On September 9, 2022, the U.S. Department of the Treasury (“Treasury”) published Preliminary Guidance on Implementation of a Maritime Services Policy and Related Price Exception for Seaborne Russian Oil (the “Guidance”),[1] taking a step toward implementing the commitment made at the G7 Finance Ministers Meeting on September 2, 2022 to institute a comprehensive prohibition of services that enable maritime transportation of Russian-origin oil and petroleum products unless such oil is purchased below an agreed-upon price cap.[2] The Guidance outlines the United States’ forthcoming policy and anticipated regulations from Treasury’s Office of Foreign Assets Control (“OFAC”) on the U.S. treatment of services related to the maritime transportation of Russian Federation-origin crude oil and petroleum products (“seaborne Russian oil”).
The mechanisms described in the Guidance will operate quite differently from the way other U.S. sanctions programs have targeted the oil trade and oil producing countries, such as the ‘waiver’ program under the Iran sanctions program whereby certain countries are excepted from sanctions targeting the purchases of Iranian oil if those countries have agreed to eliminate or substantially reduce their consumption of Iranian oil over time.[3] This forthcoming policy and regulation in the Russia context will create additional sanctions compliance obligations and challenges for companies across many sectors wherever there are services being provided relating to the maritime transportation of oil.
- Focus of the policy
The policy seeks to establish a framework whereby the provision of services for Russian oil being exported by sea is prohibited unless the oil was purchased below the price cap, with the goal of reducing Russia’s overall revenues from its oil exports while maintaining a reliable supply of seaborne Russian oil to the global market and reducing upward pressure on energy prices. In the wake of the Ukraine invasion, Russian oil is increasingly transported via maritime tankers as opposed to land-based pipelines, with reported estimates that such tankers carry about 70% of Russian crude oil exports.[4]
The prohibitions will take effect (i) on December 5, 2022 with respect to maritime transportation of crude oil, and (ii) on February 5, 2023 with respect to maritime transportation of petroleum products.
- Implementation
To implement the policy, OFAC anticipates issuing a determination pursuant to Executive Order 14071,[5] which will prohibit the exportation, re-exportation, sale, or supply, directly or indirectly, from the United States, or by a U.S. person, wherever located, of services related to the maritime transportation of seaborne Russian oil if the oil is purchased above the price cap.
The price cap will be set by a coalition of countries including the G7 and EU. The coalition will conduct a technical exercise to consider a range of factors with a rotating lead coordinator, in order to reach consensus on setting the price cap level. OFAC will issue additional guidance on how the price cap level will be published and updated.
Treasury and the U.S. Government broadly anticipate working with other members of the coalition implementing the maritime services policy to enforce the price cap.
Note, even with the new policy, the United States will continue to prohibit the importation of Russian-origin crude oil, petroleum and petroleum fuels, oils and products of their distillation into the United States, in accordance with Executive Order 14066.[6]
- Anticipated compliance guiderails
In order to steer clear of a potential OFAC enforcement action, service providers dealing with seaborne Russian oil will need to be able to provide certain evidence that the price cap was not breached in regard to the shipment they are servicing. The specific evidence and level of diligence required will vary depending on the role the service provider is playing in the supply chain, as noted below. If the service provider satisfies the applicable requirements, the service provider can avail itself of a “safe harbor” from the ordinarily strict liability of sanctions, in the event of an inadvertent provision of services related to a purchase of seaborne Russian oil above the price cap. This process, of course, is in addition to standard due diligence procedures a service provider may already be carrying out for sanctions risks.
The Guidance describes the following three tiers of service providers, with examples and recommended evidentiary and diligence best practices. OFAC expects each covered service provider to retain relevant records for five years.
- Tier 1 Actors: service providers who regularly have direct access to price information in the ordinary course of business should retain and share necessary documents showing that seaborne Russian oil was purchased at or below the price cap (“necessary price cap documents”). Examples of Tier 1 Actors include commodities brokers and refiners. Relevant documentation includes invoices, contracts, or receipts/proofs of accounts payable. Recommended risk-based measures to comply with the price cap include updating terms and conditions of contracts.
- Tier 2 Actors: service providers who are sometimes able to request and receive price information from their customers in the ordinary course of business should (i) when practicable, request, retain and share necessary price cap documents or (ii) if not practicable, provide customer attestations in which the customer commits to not purchase seaborne Russian oil above the price cap (“customer price cap attestations”). Examples of Tier 2 Actors include financial institutions. Recommended risk-based measures include providing guidance to trade finance departments, relationship managers and compliance staff.
- Tier 3 Actors: service providers who do not regularly have direct access to price information in the ordinary course of business should obtain and retain customer price cap attestations. Examples of Tier 3 Actors include insurers and protection and indemnity clubs. Insurers may request customer price cap attestations that cover the entire period a policy is in place, rather than requesting separate attestations for each shipment. Recommended risk-based measures include updating policies and terms and conditions.
Companies that make significant purchases of oil above the price cap and knowingly rely on service providers subject to the maritime services policy, or those that knowingly provide false information, documentation, or attestations to a service provider, will have potentially violated the maritime services policy and may be a target for a U.S. sanctions enforcement action.
- Red flags to identify evasive or violating transactions
U.S. companies and banks are required to reject transactions that violate or seek to evade the maritime services policy and price cap, and report any such a transaction to OFAC. The Guidance provides the following red flags which service providers should consider:
- Evidence of deceptive shipping practices: The Treasury, U.S. Department of State and U.S. Coast Guard issued a global advisory in 2020 to alert the maritime industry to deceptive shipping practices used to evade sanctions (the “2020 Maritime Sanctions Advisory”).[7] The indicators included in the 2020 Maritime Sanctions Advisory, such as falsifying cargo and vessel documents and complex ownership / management, are also relevant for the Russia oil price cap. Recommended business practices to address such red flags include institutionalizing sanctions compliance programs, adopting know-your-customer practices and exercising supply chain due diligence. Please consult the 2020 Maritime Sanctions Advisory for more information.
- Refusal or reluctance to provide requested price information: A customer’s refusal or reluctance to provide the necessary documentation or attestation, as well as requests for exceptions to established practice, may indicate that they have purchased seaborne Russian oil above the price caps.
- Unusually favorable payment terms, inflated costs or insistence on using circuitous or opaque payment mechanisms: Seaborne Russian oil purchased so far below the price cap as to be economically non-viable for the Russian exporter or excessively high service costs may be indicators the purchaser has made a back-end arrangement to evade the price cap. Attempts to use opaque payment mechanisms may also indicate that the counterparty is avoiding creating payment documentation.
- Indications of manipulated shipping documentation, such as discrepancies of cargo type, voyage numbers, weights or quantities, serial numbers, shipment dates: Any indication of manipulated shipping documentation may be a red flag which should be fully investigated before providing services.
- Newly formed companies or intermediaries, especially if registered in high-risk jurisdictions: Firms should exercise appropriate due diligence when providing services to new counterparties, particularly if such entities were recently formed or registered in high-risk jurisdictions and do not have a demonstrated history of legitimate business.
- Abnormal shipping routes: Using shipping routes or transshipment points that are abnormal for shipping seaborne Russian oil to the intended destination may indicate attempts to conceal the true history of an oil shipment in violation of the price cap.
We will continue to closely monitor developments in this area, and will provide a more detailed analysis when OFAC publishes the forthcoming determination implementing this policy.
____________________________
[1] Preliminary Guidance on Implementation of a Maritime Services Policy and Related Price Exception for Seaborne Russian Oil, published by the U.S. Department of the Treasury (Sept. 9, 2022), https://home.treasury.gov/system/files/126/cap_guidance_20220909.pdf.
[2] See “G7 Finance Ministers´ Statement on the united response to Russia´s war of aggression against Ukraine,” Sept. 2, 2022, https://www.bundesfinanzministerium.de/Content/EN/Downloads/G7-G20/2022-09-02-g7-ministers-statement.pdf?__blob=publicationFile&v=7.
[3] See our prior publication, “Iran Sanctions 2.0: The Trump Administration Completes Its Abandonment of the Iran Nuclear Agreement,” Nov. 9, 2018, https://www.gibsondunn.com/iran-sanctions-2-0-the-trump-administration-completes-abandonment-of-iran-nuclear-agreement/#_ftn28.
[4] “The story behind the proposed price cap on Russian oil,” D. Wessel, Brookings (July 5, 2022).
[5] Executive Order 14071, 87 Fed. Reg. 20999 (Apr. 6, 2022), https://home.treasury.gov/system/files/126/14071.pdf.
[6] Executive Order 14066, 87 Fed. Reg. 13625 (Mar. 8, 2022), https://home.treasury.gov/system/files/126/eo_14066.pdf.
[7] Sanctions Advisory for the Maritime Industry, Energy and Metals Sectors, and Related Communities, published by the U.S. Department of the Treasury, U.S. Department of State and U.S. Coast Guard (May 14, 2020), https://home.treasury.gov/system/files/126/05142020_global_advisory_v1.pdf.
The following Gibson Dunn lawyers prepared this client alert: Felicia Chen, David A. Wolber, Judith Alison Lee, Stephenie Gosnell Handler, Scott Toussaint and Adam M. Smith.
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, the authors, or the following members and leaders of the firm’s International Trade practice 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)
Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202-887-3786, dburns@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202-955-8510, shandler@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@gibsondunn.com)
Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@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)
Annie Motto – Washington, D.C. (+1 212-351-3803, amotto@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202-955-8250, cmullen@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com)
Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com)
Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)
Asia
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
David A. Wolber – Hong Kong (+852 2214 3764, dwolber@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing – (+86 10 6502 8534, qyue@gibsondunn.com)
Europe
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com)
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0) 207 071 4276, pdoris@gibsondunn.com)
Sacha Harber-Kelly – London (+44 (0) 20 7071 4205, sharber-kelly@gibsondunn.com)
Penny Madden – London (+44 (0) 20 7071 4226, pmadden@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33 180, mwalther@gibsondunn.com)
Richard W. Roeder – Munich (+49 89 189 33 115, rroeder@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On September 15, 2022, the President issued the first Executive Order (“E.O.”) in the nearly 50-year history of the interagency Committee on Foreign Investment in the United States (“CFIUS” or the “Committee”) to provide explicit guidance for CFIUS in conducting national security reviews of covered transactions.[1] The E.O. does not legally alter CFIUS processes or legal jurisdiction, but rather elaborates on certain existing factors that the Committee is mandated by statute to consider,[2] and adds further national security factors for the Committee to consider, when it is evaluating transactions. The E.O. comes as the U.S. Government is increasingly focused on strategic competition—particularly regarding the national security implications of critical technologies, critical infrastructure, and sensitive personal data—and builds on the expansive CFIUS authorities codified in the Foreign Investment Risk Review Modernization Act of 2018 and implementing regulations.[3] Importantly, the E.O. continues the momentum established with recent legislation enacted by Congress,[4] as well as other Biden administration initiatives,[5] and comes in the midst of broader discussions about regulating both inbound and outbound technology transfers. This E.O. plays an important role in the U.S. Government approach to achieving national security objectives in protecting U.S. technological competitiveness and curbing U.S. reliance on foreign supply chains involving critical technologies.
Specifically, the E.O. directs CFIUS to consider the following five factors:
- The resilience of critical U.S. supply chains that may have national security implications, including those outside of the defense industrial base;
- U.S. technological leadership in areas affecting U.S. national security, including but not limited to microelectronics, artificial intelligence, biotechnology and biomanufacturing, quantum computing, advanced clean energy, and climate adaptation technologies;
- Aggregate industry investment trends that may have consequences for a given transaction’s impact on U.S. national security;
- Cybersecurity risks that threaten to impair national security; and
- Risks to U.S. persons’ sensitive data.
We discuss each of these five factors and their impact on the CFIUS process in turn below, as well as the common concern relating to third-party ties highlighted by the E.O. in each of these factors.
The Resilience of Critical U.S. Supply Chains
With respect to the first factor, the E.O. directs CFIUS to consider supply chain resiliency, inside and outside the defense sector, and whether a transaction could pose a threat of future supply disruptions of goods and services critical to the United States. Specific elements the Committee should consider are whether a supply chain is sufficiently diversified with alternative suppliers including in allied and partner countries, the concentration of ownership or control in the supply chain by the foreign investor, and whether the U.S. party to the transaction supplies to the U.S. Government.
U.S. Technological Leadership
The second factor focuses CFIUS’ attention on a transaction’s potential effect on U.S. leadership in certain critical sectors that are fundamental to national security, including microelectronics, artificial intelligence, biotechnology and biomanufacturing, quantum computing, advanced clean energy and climate adaptation technologies. Not surprisingly, the specific technologies identified in this E.O. align with the most recent list of Critical and Emerging Technologies (“CET”) published by the U.S. National Science and Technology Council,[6] in line with the U.S. Government’s overall focus on protecting and developing these technologies. Along these lines, part of the CFIUS review of this factor will need to include not only the current state of the U.S. business and technology being acquired, but also now whether the transaction could reasonably result in future advancements and applications in technology that could undermine U.S. national security, according to the E.O.
Consideration of Aggregate Industry Trends
The third factor—directing CFIUS to consider the consequences of industry investment trends on a particular transaction’s national security impact—grants the Committee express authority to block a transaction even where the covered transaction itself might not constitute a national security risk. In other words, the assessed national security risk of a covered transaction, standing alone, could be low when viewed on a case-by-case basis. But, under this Presidential direction, CFIUS would also consider broader industry trends, such as whether a specific foreign actor is acquiring or investing in multiple companies in a sector that, in the aggregate, could impact U.S. national security. This factor has significant disruptive potential for deal certainty given that it formally broadens CFIUS review beyond the specific facts of the transaction itself, and we assess this factor and the next (discussed below) to be among the most significant in the E.O. in terms of impact on the CFIUS process.
Cybersecurity Risks
Building on President Biden’s E.O. on “Improving the Nation’s Cybersecurity,”[7] the fourth factor instructs the Committee to consider whether a covered transaction may provide a foreign person or their third-party ties with access and ability to conduct cyber intrusions or other malicious cyber activity. CFIUS’ interest in cybersecurity risks is longstanding; however, this factor appears to give more weight to the growing risk of supply chain compromise that threaten broader national security. This makes sense given the context of the devastating SolarWinds Sunburst attack, in which a malicious nation-state actor leveraged unauthorized access to build a backdoor into a software update for a widely used network monitoring and management software. This backdoor was then used to gain unprecedented access to networks, systems, and data of thousands of organizations—including the U.S. Government. While critical technologies are a well-recognized priority of CFIUS, this factor appears to direct increased attention to technologies that would not necessarily be considered emerging or foundational, but are core to business operations in a manner that could have national security implications should they be compromised by a malicious actor. We therefore anticipate that CFIUS will look more closely at transactions involving the acquisition of basic management systems or software used across key industries and critical sectors, with an emphasis on transactions that may provide a foreign person or their third-party ties with the ability to leverage these systems or software to breach supply chains in those industries and/or sectors.
Access to U.S. Persons’ Sensitive Data
The fifth and final factor in the E.O. directs CFIUS to consider whether a covered transaction involves a U.S. business with access to U.S. persons’ sensitive data, and whether the foreign investor has, or the foreign investor’s ties have, the ability to exploit that data through commercial or other means to the detriment of U.S. national security. This factor reflects longstanding CFIUS concerns over access to sensitive personal data, and specifically recognizes that the transfer to foreign persons of large data sets can enable foreign persons or countries to conduct surveillance, tracing, tracking, and targeting of U.S. individuals or groups.
A Consistent Theme: National Security Concerns of Third Party Ties
Throughout all five factors, the E.O. directs that CFIUS should be scrutinizing transactions that involve foreign persons with any “third-party ties” which could add to the potential threat to U.S. national security, be it through providing those third parties access to critical technology or the opportunity to disrupt supply chains, engage in malicious cyber activity or misuse U.S. personal data. While no specific third-party ties are identified as riskier than others, it would be no surprise if in the current geopolitical environment ties involving Russia, China and other U.S. strategic competitors would be targeted for enhanced review.
Key Takeaways
In sum, while this is the first-ever E.O. providing guidance concerning the CFIUS review process, most of the direction builds upon the existing policy trendlines of the U.S. Government and the increasing concerns surrounding the national security implications of foreign investments in and acquisitions of U.S. businesses. It is no surprise that advanced technologies, cybersecurity risks, supply chains, and sensitive data remain at the forefront of national security considerations, but this E.O. directs the CFIUS’s national security risk analysis in a way that, as a practical matter, will continue to expand the Committee’s review authority. It is also being released amidst a series of efforts on the legislative and regulatory fronts to improve the competitiveness and resilience of U.S. technology, including discussions of additional Presidential directives concerning outbound technology transfers and capital, as well as enhanced protections of sensitive personal data. Given this breadth based on the five factors elucidated in the E.O., combined with the Biden administration’s goals of prioritizing U.S. competitiveness in certain critical technology sectors, we expect that the number of transactions reviewed by the Committee will continue to grow. Prior to engaging in any M&A activity or investments involving U.S. businesses operating within the sectors implicated by the factors outlined in this week’s E.O., transaction parties should carefully assess the likelihood of CFIUS review and the potential need to file a notice or declaration.
____________________________
[1] Executive Order on Ensuring Robust Consideration of Evolving National Security Risks by the Committee on Foreign Investment in the United States (Sept. 15, 2022), available at https://www.whitehouse.gov/briefing-room/presidential-actions/2022/09/15/executive-order-on-ensuring-robust-consideration-of-evolving-national-security-risks-by-the-committee-on-foreign-investment-in-the-united-states/.
[2] See Section 721(f) of the Defense Production Act of 1950, 50 U.S.C. § 4565(f).
[3] Foreign Investment Risk Review Modernization Act of 2018, Pub. L. No. 115-232 (2018); 31 C.F.R. Parts 800 to 802.
[4] The CHIPS and Science Act of 2022, recently signed into law by President Biden, is intended to “ensure the United States maintains and advances its scientific and technological edge,” by “boost[ing] American semiconductor research, development, and production”—”technology that forms the foundation of everything from automobiles to household appliances to defense systems.” The White House, FACT SHEET: CHIPS and Science Act Will Lower Costs, Create Jobs, Strengthen Supply Chains, and Counter China (Aug. 9, 2022), available at
[5] On September 14, 2022, President Biden announced that the U.S. will invest $40 billion to expand biomanufacturing for key materials needed to produce essential medications, as well as develop and cultivate healthy supply chains to support the advanced development of bio-based materials, such as fuels, fire-resistant composites, polymers and resins, and protective materials. The White House, FACT SHEET: The United States Announces New Investments and Resources to Advance President Biden’s National Biotechnology and Biomanufacturing Initiative (Sept. 14, 2022), available at https://www.whitehouse.gov/briefing-room/statements-releases/2022/09/14/fact-sheet-the-united-states-announces-new-investments-and-resources-to-advance-president-bidens-national-biotechnology-and-biomanufacturing-initiative/.
[6] National Science and Technology Council, Critical and Emerging Technologies Update List (Feb. 2022), available at https://www.whitehouse.gov/wp-content/uploads/2022/02/02-2022-Critical-and-Emerging-Technologies-List-Update.pdf.
[7] Executive Order on Improving the Nation’s Cybersecurity (May 2021), available at https://www.whitehouse.gov/briefing-room/presidential-actions/2021/05/12/executive-order-on-improving-the-nations-cybersecurity/.
The following Gibson Dunn lawyers prepared this client alert: Stephenie Gosnell Handler, David A. Wolber, Annie Motto, Scott Toussaint, and Claire Yi.
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, the authors, or the following members and leaders of the firm’s International Trade practice 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)
Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202-887-3786, dburns@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202-955-8510, shandler@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@gibsondunn.com)
Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@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)
Annie Motto – Washington, D.C. (+1 212-351-3803, amotto@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202-955-8250, cmullen@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com)
Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com)
Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)
Asia
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
David A. Wolber – Hong Kong (+852 2214 3764, dwolber@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing – (+86 10 6502 8534, qyue@gibsondunn.com)
Europe
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com)
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0) 207 071 4276, pdoris@gibsondunn.com)
Sacha Harber-Kelly – London (+44 (0) 20 7071 4205, sharber-kelly@gibsondunn.com)
Penny Madden – London (+44 (0) 20 7071 4226, pmadden@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33 180, mwalther@gibsondunn.com)
Richard W. Roeder – Munich (+49 89 189 33 115, rroeder@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
In a major development on 13 September 2022, the UAE Ministry of Justice called upon the Dubai Courts to enforce judgments of the English Courts in the UAE going forward, based on principles of reciprocity.
The English Courts were historically reluctant to enforce UAE-issued judgments; and the UAE courts had for decades used the lack of reciprocity as a bar to the enforcement of English judgments. The English High Court’s recent decision in Lenkor Energy Trading DMCC v Puri (2020) EWHC 75 (QB) was a welcome development. In that seminal case, which was upheld on appeal, the High Court enforced a ‘bounced cheque’ judgment of the Dubai Court of Cassation. The High Court and Court of Appeal both ruled that the Dubai judgment was a final and conclusive judgment of a court of competent jurisdiction, which did not offend English public policy.
Days ago, on 13 September 2022, the UAE Ministry of Justice issued an official communication to the Dubai Courts, confirming that the Lenkor decision “constitutes a legal precedent and a principle binding on all English Courts according to their judicial system”.
In an unprecedented move, the UAE Ministry of Justice therefore asked the Dubai Courts to:
“take the relevant legal actions regarding any requests for enforcement of judgments and orders issued by the English Court, in accordance with the laws in force in both countries, as a confirmation of the principle of reciprocity initiated by the English Courts and assurance of its continuity between the English Courts and the UAE Courts.”
This important development provides confidence for creditors looking to enforce English Court judgments in the UAE. It is an encouraging development in terms of the ongoing judicial cooperation between the English and Dubai courts.
It also opens additional avenues for the enforcement of arbitral awards. Creditors of London-seated arbitral awards may now consider proceeding directly to the Dubai courts after enforcing their awards at the seat of arbitration under s. 66 of the Arbitration Act. This is a useful alternative to the traditional path of asking the Dubai Courts to recognise and enforce arbitral awards under the New York Convention, which has produced mixed results. It is also an alternative to the to the well-trodden path of using the (award creditor-friendly) DIFC Courts as a gateway to the enforcement of London-seated arbitral awards in Dubai and beyond.
The context: no applicable enforcement and recognition treaties between the UK and the UAE
There is no bilateral treaty between the UAE and the UK for the reciprocal recognition and enforcement of judgments (other than the Treaty between the UK and the UAE on Judicial Assistance in Civil and Commercial Matters, which lacks an enforcement mechanism, and the memoranda of understanding issued by the Courts of the DIFC and the ADGM).
In the absence of a treaty, judgment creditors must bring a claim to enforce a UAE judgment in England and Wales under common law. Under the common law test, the English court must be satisfied that the relevant UAE court: (i) had original jurisdiction to render its judgment; (ii) issued a final and conclusive judgment; and (iii) issued a judgment for a definite and calculable sum. If that is proven, then there are only limited defences available to a judgment debtor – chief amongst which is that enforcement of the foreign judgment would contravene English public policy.
Likewise, in the absence of a bilateral enforcement treaty, the UAE Courts will only enforce foreign judgments “under the same conditions laid down in the jurisdiction issuing the order”—in other words, when reciprocity exists with the issuing jurisdiction. This is set out in Article 85 of Cabinet Resolution No. 57 of 2018 concerning the Executive Regulations of Federal Law No. 11 of 1992 (as amended). Prior to the Lenkor decision, the English Courts were not in the practice of readily enforcing Dubai Court judgments; and the UAE courts had treated this lack of reciprocity as a bar to enforcement.
The Lenkor decision: a landmark decision of the English court to enforce a judgment of the UAE court
The English High Court enforced a ‘bounced cheque’ judgment from the Dubai court in Lenkor.
Mr Puri, a UK citizen, was the principal and controller of IPC Dubai. He had signed two security cheques in favour of Lenkor on IPC’s behalf. Lenkor and IPC then fell into dispute. Lenkor prevailed in an arbitration against IPC, and when IPC failed to satisfy the resulting arbitral award, Lenkor attempted to cash the cheques. When the cheques bounced, Lenkor brought Dubai court proceedings against Mr Puri personally.
The Dubai courts—including the final appellate court, the Dubai Court of Cassation—found that Mr Puri had contravened Article 599/2 of the UAE Commercial Transactions Law (UAE Federal Law No. 18 of 1993). Under that provision, the person who draws a cheque is deemed personally liable for the amount of the cheque; and a cheque may not be issued unless the drawer has, at the time of drawing the cheque, sufficient funds to meet it. The Dubai Court of First Instance entered judgment against Mr Puri for an AED equivalent of about USD 33.5 million, plus 9% interest per annum. This was upheld on multiple rounds of appeal, including ultimately by the Dubai Court of Cassation.
Mr Puri challenged the enforcement of the Dubai judgment in the English Courts. He argued that the judgment offended English public policy, on the bases that: (i) the underlying transaction between IPC and Lenkor was tainted by illegality; (ii) unlike Dubai law, English would not find Mr Puri personally liable for IPC’s debt and would not permit the piercing of the corporate veil; and (iii) the 9% interest awarded was unduly high and an unenforceable penalty.
The English High Court dismissed these arguments, because: (i) the question was whether the UAE Court’s judgment offended public policy, not the underlying transaction; (ii) the finding of Mr Puri’s personal liability was a question of Dubai law; and (iii) the interest rate awarded was not unduly high or an unenforceable penalty.
The English Court of Appeal upheld the decision on appeal in Lenkor Energy Trading DMCC v Puri [2021] EWCA Civ 770.
The 13 September 2022 direction from the UAE Ministry of Justice
The Lenkor decision is seminal in that it has demonstrated reciprocity between the UAE and the UK—certainly from the perspective of the UAE Ministry of Justice. The 13 September 2022 communication, issued from Judge Abdul Rahman Murad Al-Blooshi, Director of International Cooperation Department of the Ministry of Justice, to His Excellency Tarish Eid Al-Mansoori, Director General of the Dubai Courts, confirms (in an unofficial translation) that:
“…based on the Treaty between the United Kingdom of Great Britain and Northern Ireland and the United Arab Emirates on Judicial Assistance in Civil and Commercial Matters, and the desire to strengthen fruitful cooperation in the legal and judicial field;
Whereas, the aforementioned Treaty does not provide for enforcement of foreign judgments, and states that the judgments should be enforced according to the relevant applicable mechanism set forth in the local laws of both countries;
Whereas, Article (85) of the Executive Regulation of the Civil Procedures Law, as amended in 2020, stipulates that judgments and orders issued in a foreign country may be enforced in the State under the same conditions prescribed in the law of that country, and the legislator does not require an agreement for judicial cooperation to enforce foreign judgments, and such judgments may be enforced in the State according to the principle of reciprocity; and
Whereas, the principle has been considered by the English Courts upon previous enforcement of a judgment issued by Dubai Courts by virtue of a final judgment issued by the High Court of the United Kingdom in Lenkor Energy Trading DMCC v Puri (2020) EWHC 75 (QB), which constitutes a legal precedent and a principle binding on all English Courts according to their judicial system,
Therefore, we kindly request you to take the relevant legal actions regarding any requests for enforcement of judgments and orders issued by the English Court, in accordance with the laws in force in both countries, as a confirmation of the principle of reciprocity initiated by the English Courts and assurance of its continuity between the English Courts and the UAE Courts.”
The Arabic original is available below:
Closing comment
This development provides confidence for creditors looking to enforce English Court judgments in the UAE. It also opens additional avenues for arbitral award creditors to proceed directly to the Dubai courts once a London-seated award has been enforced at the seat of arbitration (as an alternative to the standard New York Convention route or the use of the DIFC Courts as a gateway). It remains to be seen whether the courts of Abu Dhabi will adopt a similar view. Either way, this is an important development given the close trade links between the UAE and the UK, and it demonstrates a pro-enforcement stance from the UAE Ministry of Justice, which is welcome news.
The following Gibson Dunn lawyers assisted in the preparation of this client update: Penny Madden KC and Nooree Moola.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s International Arbitration, Judgment and Arbitral Award Enforcement or Transnational Litigation practice groups, or any of the following practice leaders and members:
Cyrus Benson – London (+44 (0) 20 7071 4239, CBenson@gibsondunn.com)
Penny Madden KC – London (+44 (0) 20 7071 4226, PMadden@gibsondunn.com)
Jeff Sullivan KC – London (+44 (0) 20 7071 4231, Jeffrey.Sullivan@gibsondunn.com)
Nooree Moola – Dubai (+971 (0) 4 318 4643, nmoola@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
The European Commission (the “EC”) is expected to announce a proposal shortly that will ban products made using forced labour. The move follows a public consultation earlier this year by the EC seeking public opinion on an initiative “to keep the EU market free from products made, extracted or harvested with forced labour, whether they are made in the EU or elsewhere in the world.”[1] The proposal could have a significant impact on corporates’ supply chain management and approach to human rights due diligence; areas which are already under close scrutiny by the EU.
While the EU’s proposal has not yet been released, several media outlets report to have seen an EU document which states that a ban should apply to products (including their components) for which forced labour has been used at any stage of production, manufacture, harvest or extraction, including working or processing.
The proposed prohibition is also expected to apply regardless of the origin of the products, whether they are domestic or imported, or placed or made available on the EU market or exported outside of the EU.
It is understood that each EU member state will be responsible for detection and enforcement and that national authorities will be tasked with proving that relevant products were made or processed using forced labour. At least one report suggests that a database of forced labour risk in specific geographic areas or specific products made with forced labour imposed by state authorities will be set up and made available to the public as part of implementation.
A step further than the U.S.
The enactment of the Uyghur Forced Labor Prevention Act (the “UFLPA”) on 21 June, 2022, introduced a presumptive ban on all imports to the U.S. from China’s Xinjiang Uyghur Autonomous Region (the “XUAR”) and from certain entities designated by the U.S. Department Homeland Security Customs and Border Protection. The UFLPA’s presumptive ban modified Section 307 of the U.S. Tariff Act of 1930, which generally bans the importation of any products mined, produced or manufactured wholly or in part by forced or indentured child labour.
While the EU will follow the U.S. in legislating to end forced labour practices, it appears that the geographic scope of the EU proposal will be broader than current U.S. law, because it also applies internally to products made within the EU.
Next steps
Details of the proposal will need to be addressed with lawmakers and EU countries, but the intended prohibition looks set to be sweeping and significant. We will monitor these developments and provide further details as the draft law evolves.
_________________________
[1] https://ec.europa.eu/info/law/better-regulation/have-your-say/initiatives/13480-Effectively-banning-products-produced-extracted-or-harvested-with-forced-labour_en
The following Gibson Dunn lawyers prepared this client alert: Susy Bullock, Perlette Jura, Christopher Timura, Sean J. Brennan*, and Rebecca McGrath.
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, the authors, or the following members and leaders of the firm’s Environmental, Social and Governance (ESG) or International Trade practice groups:
Environmental, Social and Governance (ESG) Group:
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Elizabeth Ising – Washington, D.C. (+1 202-955-8287, eising@gibsondunn.com)
Perlette M. Jura – Los Angeles (+1 213-229-7121, pjura@gibsondunn.com)
Ronald Kirk – Dallas (+1 214-698-3295, rkirk@gibsondunn.com)
Michael K. Murphy – Washington, D.C. (+1 202-955-8238, mmurphy@gibsondunn.com)
Selina S. Sagayam – London (+44 (0) 20 7071 4263, ssagayam@gibsondunn.com)
Rebecca McGrath – London (+44 (0) 20 7071 4219, rmcgrath@gibsondunn.com)
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)
Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202-887-3786, dburns@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202-955-8510, shandler@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@gibsondunn.com)
Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@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)
Annie Motto – Washington, D.C. (+1 212-351-3803, amotto@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202-955-8250, cmullen@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com)
Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com)
Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)
Asia
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
David A. Wolber – Hong Kong (+852 2214 3764, dwolber@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing – (+86 10 6502 8534, qyue@gibsondunn.com)
Europe
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com)
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0) 207 071 4276, pdoris@gibsondunn.com)
Sacha Harber-Kelly – London (+44 (0) 20 7071 4205, sharber-kelly@gibsondunn.com)
Penny Madden – London (+44 (0) 20 7071 4226, pmadden@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33 180, mwalther@gibsondunn.com)
Richard W. Roeder – Munich (+49 89 189 33 115, rroeder@gibsondunn.com)
* Sean Brennan is an associate working in the firm’s Washington, D.C. office who currently is admitted only in New York.
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Following the settlement of an Attorney General enforcement action, defendants often face new and expensive private lawsuits for the same conduct. These subsequent private lawsuits often result in years of additional litigation, legal fees, and further monetary penalties and damages. Due to the likelihood of follow-on suits, we suggest clients consider taking several proactive and strategic steps when structuring a settlement with the California Attorney General in order to mitigate the risk of subsequent civil lawsuits and associated penalties.
The following strategic considerations provide a general framework to consider in maximizing the possibility of barring subsequent lawsuits: (1) taking steps to negotiate which statute will be used in the complaint accompanying the consent judgment; (2) including a broad statement of facts in the settlement agreement and complaint; and (3) structuring and characterizing any settlement payment with a preclusion strategy in mind. Though courts in California ultimately engage in a case-specific inquiry as to whether private litigants’ claims are barred by prior settlement of a government action, all of these factors influence the likelihood of a successful claim preclusion defense, and have important underlying strategic advantages.[1]
Statutes Underlying the Government Enforcement Action
The statutes underlying the California Attorney General’s enforcement action, and identified in the settlement agreement, impact the likelihood of success of a future res judicata defense in subsequent private litigation. If the statute underlying the Attorney General’s action provides a private right of action, subsequent private litigation redressing individual harms is unlikely to be barred. For example, in CS Wang & Assoc. v. Wells Fargo Bank, N.A., the California Attorney General brought an enforcement action under the California Unfair Competition Laws (“UCL”) asserting claims through the California Invasion of Privacy Act (“CIPA”). The government action sought to protect the public from unfair and harmful business practices resulting from Wells Fargo’s alleged failure to disclose the recording of communications with California residents.[2] Despite the fact that the enforcement action sought to redress public harm, CIPA created a private right of action which allowed a subsequent class action to move forward. The inability to bar the private litigation hinged on CIPA’s dual enforcement mechanism – the explicit private right of action within the statute, and the UCL’s authorization to enforce CIPA on behalf of the People.[3]
To the extent possible, settling parties looking to maximize the success of precluding subsequent private suits should attempt to negotiate with the Attorney General regarding the underlying statutory basis for the enforcement action. Because certain statutes allow both private and public enforcement for the same conduct, it is advantageous to specify statutes that do not contain private rights of action in the settlement agreement in order to encompass potential private plaintiffs’ claims. Although the private plaintiff may still attempt to recover under different statutes to avoid a res judicata defense, if the prior government action was based on the same primary right asserted by the private party, the subsequent suit is more likely to be precluded.[4]
Broadening the Statement of Facts
Parties should also consider including a broad and comprehensive statement of facts within the settlement documents in order to cover most or all claims underlying the state’s investigation. The more claims and factual allegations that are encompassed in the settlement with the government, the less likely that a private plaintiff will be able to justify how their claims are sufficiently distinct from the government’s case to withstand dismissal.
Illustratively, in Villalobos, the defendant settled the entirety of an Attorney General enforcement action that alleged poor workplace conditions and wage violations, agreeing to pay an undisclosed amount in restitution to cover all claims related to the unlawful employment practices. In precluding the subsequent private litigation, the court noted that the government action and settlement broadly addressed the terms of employment and work conditions that gave rise to the plaintiffs’ new claims, despite the lack of factual specificity in the settlement and government complaint. The expansive coverage of the settlement precluded the private litigants’ lawsuit because the prior action ultimately encompassed the plaintiffs’ claims.[5]
This approach is not risk-free even in the context of no-admit settlements. For example, a broader statements of facts makes public, and puts potential follow-on plaintiffs on notice of, more factual allegations than necessary to effectuate the settlement. These risks should be weighed against the cost of potential follow-on private litigation due to narrow admissions that do not cover the private litigant’s claims.
Paying Restitution rather than Civil Penalties
In structuring a settlement with the California Attorney General, and in cases where a settlement includes monetary payment, it is generally preferable that the payment be in the form of restitution, rather than civil penalties. In assessing the preclusive effect of a settlement reached by the state, the court pays particular attention to the specific terms of the agreement and the types of relief obtained on behalf of consumers. Courts in California look at whether or not the government properly represented a private litigant’s interests in a prior action, and in that analysis courts consider the type of relief sought by the government.[6] Courts have found that in instances where the Attorney General seeks predominantly injunctive relief and civil penalties, the government action serves a law enforcement function to protect the public, rather than to vindicate the rights of private plaintiffs.[7] In such instances, a res judicata defense fails because the interests of the government and private plaintiff differ.[8]
On the other hand, when a settlement involves paying restitution and the restitution constitutes all or most of the monetary relief specified in the settlement agreement, courts are more likely to find an identity of interests between the government and private plaintiffs. However, the private plaintiffs in the subsequent litigation must fall within the class of restitution recipients as defined by the government action and settlement. The settling defendant should define the class of restitution recipients as broadly as possible to encompass future private plaintiffs, risking a greater payment to the government but potentially precluding future private lawsuits. For example, in Villalobos, the court barred a private lawsuit following an enforcement action partly because the Attorney General dedicated monetary relief solely to restitution and the plaintiffs fell within the class of recipients.[9] The government recovered restitution on behalf of all Calandri Sonrise Farm workers, and the private plaintiffs were eligible for such relief because of their employment at Calandri. Because the government exclusively sought restitution, the court found that government represented the private plaintiffs’ interests since the Attorney General enforcement action compensated the plaintiffs for their alleged harms.
To the extent possible, a settling defendant should negotiate restitution that encompasses potential plaintiffs over other types of relief when settling with the Attorney General to optimize the success of a future claim preclusion defense. Where restitution constitutes a small portion of the overall monetary settlement, courts are less likely to find that the government represented the private litigants’ interests, whereas paying out more in restitution strengthens such a finding.[10] Thus, there is a tension between the instinct to limit the settlement amount and paying out more to the government to bar future claims. That said, if civil penalties cannot be avoided, a settling defendant should ensure that restitution relief is clearly delineated and remains a large part of the settlement to tip the scale toward the government representing the private plaintiff’s interests.
Conclusion
In order to mitigate the potential risk of costly follow-on litigation after the settlement of an Attorney General enforcement action, it is important for a party to consider structuring a government settlement with an eye toward strategic factors that can impact future preclusion arguments. Engaging in negotiations with the Attorney General regarding the statute underlying the government’s complaint, structuring the settlement to encompass potential private claims through a broad statement of facts, and pushing to pay restitution rather than injunctive relief or civil penalties, all bolster the efficacy of a future res judicata defense. Though such strategies may potentially increase the degree of factual disclosure and ultimate payout in settling government claims, the ability to preclude private litigation may very will lead to overall cost savings in the long term.
________________________
[1] The California Attorney General often carves-out private litigation and private rights of action from the release of liability provision in a settlement. For example, in a recent settlement between the California Attorney General and Dermatology Industry Inc., the release of liability provision specifically excluded “any liability which any … Released Part[y] has or may have to individual consumers.” Stipulation for Entry of Final J. and Permanent Inj., Ex. 1, at 10-11, People v. Dermatology Indus., Inc., No. 37-2022-00009826-CU-MC-CTL (Cal. Super. Ct. 2022). Though this language may leave open the possibility for private follow-on litigation, it is not dispositive. Courts ultimately assess the claim preclusive effect of a government action through a three-part test: whether there is (1) the same cause of action; (2) final judgment on the merits; and (3) privity between the parties. Boeken v. Philip Morris USA, Inc., 48 Cal. 4th 788, 797 (2010).
[2] No. 16-C-11223, 2020 WL 5297045, at *6, *9 (N.D. Ill. Sept. 4, 2020).
[4] See Villalobos v. Calandri Sonrise Farms LP, No. CV 12-2615, 2012 WL 12886832, at *7 (C.D. Cal. Sept. 11, 2012) (barring a plaintiffs’ lawsuit for asserting injuries already redressed in a prior Attorney General enforcement action despite raising claims under different statutes).
[6] It may also be helpful to include a provision in the agreement to demonstrate that the Attorney General provided adequate representation to the citizens it purported to represent. See Taylor v. Sturgell, 128 S. Ct. 2161, 2176 (2008) (“[a] party’s representation of a nonparty is ‘adequate’ for preclusion purposes only if, at a minimum: (1) the interests of the nonparty and her representative are aligned, and (2) either the party understood herself to be acting in a representative capacity or the original court took care to protect the nonparty’s interests”). This can be demonstrated by noting that the Attorney General received some preliminary discovery sufficient to assess the adequacy of any proposed relief.
[7] See Payne v. Nat’l Collection Sys. Inc., 91 Cal. App. 4th 1037, 1045 (2001).
[8] See People v. Pac. Land Rsch. Co., 20 Cal. 3d 10, 17 (1977).
[9] 2012 WL 12886832, at *2, *7.
[10] See id.; cf. CS Wang & Assoc. v. Wells Fargo Bank, N.A., No. 16-C-11223, 2020 WL 5297045, at *6 (N.D. Ill. Sept. 4, 2020) (rejecting cy pres restitution as an indication of privity because it “constituted a small portion” of the overall settlement).
The following Gibson Dunn lawyers assisted in preparing this client update: Winston Chan, Charles Stevens, and Justine Kentla.
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, the authors, or any of the following members of the firm’s White Collar Defense and Investigations practice group in California:
Los Angeles
Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
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)
Eric D. Vandevelde (+1 213-229-7186, evandevelde@gibsondunn.com)
Palo Alto
Benjamin B. Wagner (+1 650-849-5395, bwagner@gibsondunn.com)
San Francisco
Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com)
Thad A. Davis (+1 415-393-8251, tadavis@gibsondunn.com)
Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com)
Michael Li-Ming Wong (+1 415-393-8234, mwong@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Gibson Dunn’s D.C. Circuit Foreign Sovereign Immunities Act Enforcement Update summarizes recent decisions within the D.C. Circuit that are relevant to the enforcement of judgments and arbitral awards against foreign states.
This edition summarizes:
(1) the D.C. Circuit’s decision in Estate of Levin v. Wells Fargo Bank, N.A., Nos. 21-7036, 21-7041, 21-7044, 21-7052, 21-7053, 2022 WL 3364493, addressing the attachment of electronic fund transfers (“EFTs”) by victims of state-sponsored terrorism;
(2) the district court’s decision in Chiejina v. Federal Republic of Nigeria, No. 21-2241, 2022 WL 3646377 (D.D.C.), addressing the proper framework that applies when a foreign state opposes enforcement of an arbitral award by disputing the existence of a valid arbitration agreement between the parties; and
(3) the district court’s decisions in ConocoPhillips Petrozuata B.V. v. Bolivarian Republic of Venezuela, No. 19-0683, 2022 WL 3576193 (D.D.C.) and Tethyan Copper Co. PTY Ltd. v. Islamic Republic of Pakistan, No. 19-2424, 2022 WL 715215 (D.D.C.), addressing the enforcement of arbitral awards issued pursuant to the International Convention on the Settlement of Investment Disputes between States and Nationals of Other States (“ICSID Convention”).
D.C. Circuit Opens The Door For Victims Of Terrorism To Attach Blocked Assets Of State Sponsors Of Terrorism
On August 16, 2022, the D.C. Circuit broke with the Second Circuit and issued a significant decision for victims of terrorism in Estate of Levin v. Wells Fargo Bank, N.A., Nos. 21-7036, 21-7041, 21-7044, 21-7052, 21-7053, 2022 WL 3364493. Ruling in favor of terrorism victims represented by Matt McGill (argued) and Jessica Wagner of Gibson Dunn, the court unanimously reversed the district court’s dissolution of orders of attachment on nearly $10 million in blocked Iranian funds. The decision opens the door for victims of terrorism to attach blocked funds of state sponsors of terrorism under the Terrorism Risk Insurance Act (“TRIA”) more generally.
Background
Victims of terrorism often struggle to collect on judgments against state sponsors of terrorism. Even when those states’ funds surface in U.S. financial institutions and are blocked by sanctions laws, sovereign immunity can place them beyond the reach of judgment creditors. To address these enforcement challenges, Congress enacted TRIA, codified at 28 U.S.C. § 1610 Note. This law ensures that when funds of state sponsors of terrorism are blocked by sanctions, those funds remain available for “execution or attachment” by plaintiffs holding judgments against those states—”[n]otwithstanding any other provision of law.” TRIA, § 201(a).
In order for blocked funds to fall within the protection of TRIA, they must be “blocked assets of” the relevant state or its agency or instrumentality. TRIA, § 201(a). The Second Circuit, however, has adopted a narrow view of ownership in the context of EFTs, in which funds move quickly from one account to another through a series of intermediary banks. Relying on Article 4A of the Uniform Commercial Code (“UCC”), the Second Circuit has held that the only entity with an ownership interest in funds blocked at an intermediary bank is the entity immediately preceding that bank in the chain of electronic transfers—even if the chain of transfers was initiated by a state sponsor of terrorism. See Doe v. JPMorgan Chase Bank, N.A., 899 F.3d 152 (2d Cir. 2018). Until Levin, however, the D.C. Circuit had not decided this issue.
In Levin, two groups of terrorism victims—including nearly 90 victims represented by Gibson Dunn (the “Owens victims”)—who hold approximately $1 billion in judgments against the Islamic Republic of Iran obtained writs of attachment against funds blocked at Wells Fargo by the Office of Foreign Assets Control (“OFAC”) during an attempted EFT initiated by an agent of Iran seeking to purchase an oil tanker. The United States—which had earlier sought forfeiture of the same funds—intervened and moved to quash the writs. Adopting the Second Circuit’s approach in Doe, the district court granted the government’s motion, holding that the funds were not subject to attachment under TRIA because only the bank immediately preceding Wells Fargo in the chain of transfers held an ownership interest.
Decision
The D.C. Circuit unanimously reversed, rejecting the Second Circuit’s reliance on UCC Article 4A in favor of a broader rule grounded in tracing principles. The court explained—as Gibson Dunn had argued on behalf of the Owens victims—that “[w]hile [Article 4A] seeks to minimize disruptions in electronic funds transfers, OFAC’s blocking does the opposite—its purpose is to disrupt terrorist [EFTs].” Given this mismatch, the court concluded that Article 4A is a poor fit for determining ownership of blocked EFTs. Instead, the court held that ownership should be determined according to tracing principles: under TRIA, “terrorist victims may attach OFAC blocked electronic funds transfers if those funds can be traced to a terrorist owner,” and “no intermediary or upstream bank asserts an interest as an innocent third party.”
Judge Pillard filed a concurrence arguing that a tracing rule—which accounts for the funds’ path through the financial system—does not, on its own, accomplish the statutorily required showing of ownership. Judge Pillard would have adopted, “instead of or in addition to tracing,” the common law rule of agency that the Owens victims proposed, which would have treated banks as agents rather than owners when they effectuate EFTs originated by state sponsors of terrorism.
The D.C. Circuit’s decision has significant implications for judgment enforcement actions brought by victims of terrorism. It clears the way for victims to attach blocked funds that would have been unreachable under the Second Circuit’s rule, and effectuates Congress’ intent to make blocked funds of state sponsors of terrorism available—”notwithstanding any other provision of law”—to victims holding judgments against those states. By creating a circuit split, moreover, the decision may provide an avenue for terrorism victims to challenge the prevailing standard in the Second Circuit.
D.D.C. Reaffirms Arbitrability Disputes Do Not Implicate U.S. Courts’ Jurisdiction
On August 23, 2022, a district court in the D.C. Circuit issued a decision reaffirming that arbitrability disputes do not implicate subject-matter jurisdiction under the arbitration exception of the Foreign Sovereign Immunities Act (“FSIA”). See Chiejina v. Federal Republic of Nigeria, No. 21-2241, 2022 WL 3646377 (D.D.C. Aug. 23, 2022). In Chiejina, Nigeria opposed confirmation of an arbitration award against it on the grounds that one of the petitioners was not a party to the underlying agreement to arbitrate. Consistent with “every case” the district court has decided on this issue, the court determined that arbitrability disputes such as this one implicate the merits of the petition and not the court’s subject-matter jurisdiction under the FSIA. The court thus denied Nigeria’s motion to dismiss, which means that Nigeria’s arbitrability challenge will have to be litigated at the merits stage under a more deferential standard of review, rather than decided de novo as an issue of subject-matter jurisdiction.
Background
Petitioners seeking to confirm a foreign arbitral award issued against a foreign state typically must overcome two obstacles. First, under the FSIA, 28 U.S.C. § 1605(a), foreign states are presumptively immune from suit in U.S. court unless one of the FSIA’s enumerated exceptions to jurisdictional immunity is satisfied. One such exception, the FSIA’s arbitration exception, 28 U.S.C. § 1605(a)(6), provides for subject-matter jurisdiction in an action against a foreign state to “confirm an award made pursuant to” an arbitration agreement. Second, once jurisdiction is established, the petitioner must establish on the merits that the award is subject to confirmation under the applicable legal framework—typically, either the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the “New York Convention”) or the ICSID Convention. Both Conventions limit a court’s authority to review the merits of the arbitral award or question the determinations of the tribunal that issued it.
To avoid the New York and ICSID Conventions’ limits on judicial review, foreign states often attempt to frame their challenges to enforcement of an arbitral award as raising issues of subject-matter jurisdiction under the FSIA, rather than the merits. In particular, in a number of recent cases, foreign states have argued that the FSIA’s arbitration exception does not apply—and the state is therefore immune from suit—because there is no valid arbitration agreement between the parties. The D.C. Circuit and the D.D.C. have repeatedly held, however, that issues of “arbitrability”—including the existence of a valid arbitration agreement—go to the merits rather than to subject-matter jurisdiction under the FSIA. See, e.g., LLC SPC Stileks v. Republic of Moldova, 985 F.3d 871, 877-78 (D.C. Cir. 2021); Chevron Corp. v. Ecuador, 795 F.3d 200, 204 (D.C. Cir. 2015).
In Chiejina, petitioners are seeking to confirm and enforce under the New York Convention a $2.9 million award, plus interest, issued against the Federal Republic of Nigeria. Like the defendants in Stileks, Chevron, and Tethyan, Nigeria moved to dismiss for lack of subject-matter jurisdiction, arguing that the FSIA’s arbitration exception did not apply because one of the petitioners was not a party to the relevant arbitration agreement. Nigeria also argued that the court lacked personal jurisdiction because the petitioners failed to properly effect service of process consistent with the FSIA’s service provision, 28 U.S.C. § 1608(e).
Decision
The district court rejected Nigeria’s challenge to subject-matter jurisdiction, explaining that under the D.C. Circuit’s decisions in Stileks and Chevron, arbitrability “is a question that goes to the merits of whether the award should be confirmed pursuant to the New York Convention,” rather than “a basis on which to conclude that the Court lacks jurisdiction under the FSIA.” For that reason, Nigeria could not challenge subject-matter jurisdiction by arguing that petitioners’ claims in the arbitration were “not encompassed by the underlying agreement to arbitrate” because one of the petitioners was not a party to that agreement. Instead, the court indicated that it would address arbitrability—including the existence of a valid arbitration agreement between the parties—at the merits stage under the deferential standard for confirmation of foreign arbitral awards under the New York Convention. The decision thus reaffirms the principle that arbitrability is not an issue of subject-matter jurisdiction.
The court also addressed service of process. When a plaintiff enters into a “special arrangement” for service on a foreign state, the FSIA, 28 U.S.C. § 1608(a)(1), requires the plaintiff to attempt service through that arrangement before proceeding with other methods of service. In Chiejina, the underlying construction contract at issue in the arbitration included a notice provision specifying a method for serving notices related to the contract. Rather than follow that notice provision, the petitioner served Nigeria through a separate method applicable in the absence of a “special arrangement” between the parties. The court held that service was properly effected on Nigeria because the contractual notice provision applied only to notices that were “‘required or authorized’ by the Contract itself,” not service of process in the lawsuit. In doing so, the court reaffirmed the principle that a notice provision in an underlying contract creates a “special arrangement” for purposes of FSIA service “only where the language is ‘all encompassing’ rather than ‘confined to the contract or agreement at issue.’” Berkowitz v. Republic of Costa Rica, 288 F. Supp. 3d. 166, 173 (D.D.C. 2018) (quoting Orange Middle East & Africa v. Republic of Equatorial Guinea, No. 1:15-CV-849 2016 WL 2894857, at *4 (D.D.C. May 18, 2016)).
D.D.C. Reaffirms U.S. Courts’ Obligation To Enforce ICSID Awards
On August 19, 2022, a district court in the D.C. Circuit issued a decision reaffirming the obligation of U.S. courts to enforce arbitral awards issued pursuant to the ICSID Convention. See ConocoPhillips Petrozuata B.V. v. Bolivarian Republic of Venezuela, No. 1:19-cv-683, 2022 WL 3576193 (D.D.C. Aug. 19, 2022). Consistent with precedent and federal law, the court held that it had subject-matter jurisdiction under both the arbitration and waiver exceptions of the FSIA on account of Venezuela’s decision to join the ICSID Convention. In doing so, the court reaffirmed the principle that a foreign state that joins the ICSID Convention waives immunity to the enforcement of ICSID awards in U.S. court.
Background
The ICSID Convention is a treaty signed by the United States and 164 other nations of the world that provides a comprehensive framework for resolving investment disputes between participating nations and the private investors of other participating nations. The Convention provides for arbitration before an international tribunal and streamlined enforcement procedures for any resulting arbitral award. Each contracting party agrees to “recognize an award rendered pursuant to [the] Convention as binding and enforce the pecuniary obligations imposed by that award within its territories as if it were a final judgment of a court in that State.” ICSID Convention, art. 54(1). The United States has implemented this treaty obligation through legislation providing that an ICSID award “shall be enforced and shall be given the same full faith and credit as if the award were a final judgment of a court of general jurisdiction of one of the several States.” 22 U.S.C. § 1650a(a).
Despite this congressional mandate, foreign states often attempt to oppose enforcement of ICSID awards by challenging the U.S. court’s subject-matter jurisdiction under the FSIA. But the D.C. Circuit held in Tatneft v. Ukraine that when a foreign state joins a treaty that “contemplate[s] arbitration-enforcement actions in other signatory countries, including the United States”—as the ICSID Convention does—it “waives its immunity from arbitration-enforcement actions” under the FSIA. 771 F. App’x 9, 10 (D.C. Cir. 2019). The Second Circuit has applied this principle in the context of the ICSID Convention, holding that a foreign states “waive[s] its sovereign immunity” from enforcement of an ICSID award “by becoming a party to the ICSID Convention.” Blue Ridge Invs., L.L.C. v. Republic of Argentina, 735 F.3d 72, 84 (2d Cir. 2013). These decisions provide an alternative basis—in addition to the arbitration exception at issue in Chiejina—for establishing subject-matter jurisdiction in an action to enforce an ICSID award.
Decision
The petitioners in ConocoPhillips sought to confirm and enforce an ICSID award issued against the Bolivarian Republic of Venezuela. When Venezuela failed to timely respond to the enforcement petition, the petitioners sought entry of a default judgment, and the district court granted the motion. Although the motion was not opposed, the district court addressed subject-matter jurisdiction under the FSIA, holding that Venezuela was not immune from suit—and the court therefore had subject-matter jurisdiction—on two grounds: (1) the FSIA’s arbitration exception; and (2) the FSIA’s waiver exception, 28 U.S.C. § 1605(a)(1), which provides jurisdiction where a foreign state has waived its immunity to suit in U.S. court.
First, the court concluded that when a foreign state agrees to arbitration pursuant to the ICSID Convention, the arbitration exception permits enforcement even if the state subsequently withdraws from the Convention, so long as “the relevant rights and obligations of the parties arose before [the] denunciation took effect.” This holding means that a foreign state cannot evade its obligations to parties holding ICSID awards by withdrawing from the ICSID Convention.
Second, the court confirmed that the waiver exception also applied because “Venezuela implicitly waived its sovereign immunity with respect to suits to recognize and enforce ICSID awards by becoming a Contracting State to the ICSID Convention.” The court emphasized that “[t]o hold otherwise would be to disrespect Venezuela’s choice (at the time) to be a Contracting State, and it would diminish other Nations’ ability to attract investment in the future by committing themselves to resolving investment disputes through arbitration.” The court thus referenced one of the key purposes of the ICSID Convention: By providing investors with a remedy through arbitration and strong guarantees that any resulting award will be subject to enforcement, the Convention helps contracting parties attract foreign investment. ConocoPhillips thus strengthens the chorus of decisions recognizing that parties to the ICSID Convention and other arbitration enforcement treaties waive their immunity from enforcement of arbitral awards issued pursuant to those treaties.
D.D.C. Clears The Way For Landmark $6.5 Billion Judgment Enforcing Arbitration Award Against Pakistan
On March 10, 2022, a district court in the D.C. Circuit issued a groundbreaking decision on behalf of Tethyan Copper Company PTY Limited (“Tethyan”), an Australian mining company represented by Matt McGill, Robert Weigel, Jason Myatt, and Matt Rozen of Gibson Dunn in its long-running efforts to enforce a $4 billion plus interest arbitration award issued against Pakistan pursuant to the ICSID Convention. Tethyan Copper Co. PTY Ltd. v. Islamic Republic of Pakistan, No. 1:19-cv-2424, 2022 WL 715215 (D.D.C. Mar. 10, 2022). In its opinion and accompanying order, the court denied Pakistan’s motion to dismiss or, in the alternative, to stay enforcement proceedings, and directed the parties to submit a proposed judgment, clearing the way for the entry, after interest and costs, of a more than $6.5 billion judgment as of this writing, which would be one of the largest judgments ever entered by the D.C. federal district court. The decision reinforces three principles concerning the enforcement of ICSID awards.
First, the decision emphatically rejects the recurring argument that enforcement of such awards should universally be stayed while the losing party tries to vacate or set aside the award in parallel proceedings. Under the ICSID Convention, only an ICSID tribunal or committee—not the courts of any contracting state—may decide whether an award should be set aside, either through revision by the original tribunal pursuant to Article 51 of the Convention, or through annulment by an ad hoc committee pursuant to Article 52 of the Convention. Article 54 of the Convention expressly provides that ICSID awards are immediately enforceable as “final judgment[s]” even while revision or annulment proceedings are pending, and it tasks the ICSID tribunal or committee overseeing those proceedings with deciding whether a stay of enforcement is appropriate.
In TCC, Pakistan sought both revision and annulment, but the tribunal and committee overseeing those proceedings allowed enforcement to proceed. Pakistan then moved in the district court to stay the U.S. enforcement proceedings. But the district court rejected that request. The court acknowledged some prior decisions from the same district that had stayed enforcement proceedings pending set aside proceedings. In the court’s view, however, the interest in judicial economy and the potential hardship to Tethyan from a stay clearly outweighed any potential hardship to Pakistan from denying a stay. Tethyan had waited over a decade for compensation, and the court concluded that “[a] stay only prolongs justice denied.”
Second, the court rejected the state’s attempt to relitigate in enforcement proceedings jurisdictional arguments already raised before and rejected by the arbitral tribunal. Specifically, Pakistan had challenged the tribunal’s jurisdiction on the ground that there was no valid arbitration agreement, because Pakistan purportedly had not properly consented to arbitration under the ICSID Convention. The tribunal rejected the argument. In the subsequent enforcement proceedings, Pakistan attempted to renew the same objection—that there was no valid arbitration agreement between the parties—as a challenge both to the district court’s jurisdiction under the FSIA and its authority to grant full faith and credit to the award. Relying on the above-described principles from the D.C. Circuit’s decisions in Stileks and Chevron, however, the TCC court refused to second-guess the tribunal’s rulings on arbitrability—including the existence of a valid agreement to arbitrate. The court held that once such issues have been resolved in arbitration, they cannot be revisited through a collateral attack on the tribunal’s rulings, whether in the guise of a challenge to jurisdiction under the FSIA or to the merits of the enforcement petition.
Finally, the court’s order, directing the parties to promptly meet and confer and submit a proposed judgment, with interest, recognizes that once the court has determined that it has subject-matter jurisdiction to enforce an ICSID award, the award holder is entitled to prompt entry of judgment as soon as interest is calculated. (In an effort to facilitate settlement, the court later granted the parties’ joint request for an extension of time to submit a proposed judgment until December 15, 2022.) If followed elsewhere, the court’s order may greatly streamline efforts by future litigants to enforce arbitral awards against foreign sovereigns in U.S. courts.
Gibson Dunn’s Judgment and Arbitral Award Enforcement Practice Group offers top-tier international arbitral award and judgment enforcement strategies and solutions, deep proficiency in cross-border litigation and international arbitration, and best-in-class advocacy that not only applies the law, but, time and again, has crafted and shaped new law to achieve our clients’ objectives.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the D.C. Circuit. Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Judgment and Arbitral Award Enforcement practice group, or the following:
Matthew D. McGill – Co-Chair, Washington, D.C. (+1 202-887-3680, mmcgill@gibsondunn.com)
Robert L. Weigel – Co-Chair, New York (+1 212-351-3845, rweigel@gibsondunn.com)
Jason Myatt – New York (+1 212-351-4085, jmyatt@gibsondunn.com)
Matthew S. Rozen – Washington, D.C. (+1 202-887-3596, mrozen@gibsondunn.com)
This client update was prepared by Matt McGill, Robert Weigel, Jason Myatt, Matt Rozen, Jessica Wagner, Jeff Liu, Luke Zaro, and Sam Speers.
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
In an August 11, 2022 letter to the Department of Justice (“DOJ”), Senators Elizabeth Warren (D-Mass) and Ben Ray Lujan (D-N.M.) signaled renewed congressional interest in the Government’s right to suspend or debar government contractors and federal financial assistance recipients from obtaining new business, and pressed for DOJ to boost its use of this administrative remedy in connection with its prosecution of criminal or fraud cases.
The bases for discretionary suspension and debarment include “making false statements” and “any other offense indicating a lack of business integrity or business honesty.”[1] It is no surprise, then, that companies subject to investigations, litigation, and resolutions under the civil False Claims Act (“FCA”) often find themselves faced with the prospect of suspension or debarment from future government work—even when they dispute the merits of the FCA allegations in question.
In most cases, government agencies have significant discretion to decide whether there are sufficient grounds to exclude an entity from receiving government contracts or financial assistance awards. DOJ has traditionally taken an agnostic approach to the interplay between its FCA investigations and the suspension and debarment authority of the government agency affected by the underlying conduct. The Warren-Lujan letter, however, presses DOJ to take a more activist role in suspending or debarring not just the companies it is pursuing as “corporate criminals,” but companies that are the subject of “corporate fraud cases” like those under the civil FCA.
While DOJ’s response to this congressional outreach remains to be seen, any attempt by the Department to address the Senators’ concerns as articulated in the letter would represent a meaningful change in policy and would undoubtedly affect companies’ evaluation of whether to litigate or settle FCA claims with the Government. Companies subject to FCA investigations, litigation, and resolutions should be particularly mindful of how they approach mitigating the risk of suspension or debarment in the context of DOJ investigations and resolutions, in light of the Warren-Lujan letter.
Discretionary Suspension and Debarment
The ability to compete for new Government work is critical to the success of any government contractor. So too for companies that depend on Government funding – whether directly, through government grants or cooperative agreements, or indirectly, through state, local, or educational institution projects.
Suspension and debarment are administrative actions taken by the U.S. Government to disqualify a contractor from contracting with or receiving funding from the Federal Government based upon the Government’s determination that the contractor is not “presently responsible” (i.e., that it lacks the necessary integrity to be a business partner of the Government). Suspensions and debarments are not meant to be employed by the Government “for purposes of punishment.”[2] Notably, suspending and debarring officials (“SDOs”) often have complete discretion as to whether to exercise the right to suspend or debar.[3] Even when a Government agency finds some past violation that could provide a basis for suspension or debarment, an agency SDO is not required to, and should not, suspend or debar a contractor that is “presently responsible.” In addition, an SDO could also decline to suspend or debar a contractor, even where grounds exist to do so, because it would not be in the Government’s best interest.[4]
The grounds for suspension and for debarment are substantially similar to one another, with different evidentiary thresholds. Both the suspension and debarment frameworks permit the exclusion of a company based on “adequate evidence” (suspension) or a civil judgment (debarment) for civil fraud, or other conduct that affects an entity’s present responsibility, or an offense that indicates a lack of business integrity or business honesty.[5]
FCA Violations as Grounds for Suspension or Debarment
The FCA is the government’s primary tool for addressing alleged fraud related to government funds. Under the FCA, both DOJ and would-be whistleblowers (who may file FCA lawsuits on the government’s behalf and obtain a percentage of any recovery) can pursue lawsuits against companies that do business with the government, and if successful, obtain treble damages, per-claim penalties, and attorneys’ fees and costs.
The FCA creates liability for any party that submits a false claim for payment to the federal government, or who makes a false statement that is material to a false claim. 31 U.S.C. § 3729(a)(1)(A), (B). The Government often takes the position that a violation of contract requirements can create fraud liability under the FCA if it is done with knowledge and is material to payment. Under the “reverse” false claims provision, liability also exists for anyone who “knowingly makes, uses, or causes to be made or used, a false record or statement material to an obligation to pay or transmit money or property to the Government, or knowingly conceals or knowingly and improperly avoids or decreases an obligation to pay or transmit money or property to the Government.” Id. § 3729(a)(1)(G).
Therefore, the potential bases for FCA liability substantially overlap with the grounds for potential suspension or debarment—i.e., “making false statements” and “any other offense indicating a lack of business integrity or business honesty.”[6] Accordingly, the consequences of being found liable in an FCA case can be catastrophic, resulting in suspension or debarment from government contracts or exclusion from participation in government programs.
As a matter of policy, DOJ attorneys are required to coordinate with the Government’s relevant criminal, civil, regulatory, and administrative attorneys when initiating an FCA suit or investigation, including with regard to suspension and debarment.[7] A 2012 DOJ memorandum, for example, stresses the importance of “[e]ffective and timely communication with representatives of the agency . . . including suspension and debarment authorities,” to ensure that appropriate remedies are pursued at the correct time.[8] The Interagency Suspension and Debarment Committee (“ISDC”) is tasked with overseeing and coordinating all executive agencies’ implementation of suspension and debarment regulations.[9] One such coordination activity involves the designation of a “lead” agency where a case may affect the missions of multiple agencies.[10] Under the current system, the lead agency is the ultimate decision maker as to what suspension or debarment action, if any, will be taken.
The Warren-Lujan Letter
The Warren-Lujan letter to Attorney General Merrick Garland and Deputy Attorney General Lisa O. Monaco criticizes DOJ for not using its authority to suspend or debar “corporate criminals” from the government contracting process, and urges DOJ to “pursue more robust use of its suspension and debarment authority.” Notably, the letter advocates for DOJ to use its suspension and debarment authority even for “companies that it does not directly do business with,” rather than relying on the contracting or lead agencies to pursue suspension or debarment, and calls for DOJ to “adopt policies that call for [DOJ] prosecutors to systematically refer corporate misconduct to” DOJ’s own “debarring officials for review in all appropriate cases.”
Senators Warren and Lujan propose four ways in which DOJ should “expand its use of debarment”:
-
- Use debarment authority for corporate entities, not just individuals.
- Use debarment government-wide (i.e., DOJ should suspend or debar entities that contract with any federal agency, rather than just its own contractors).
- Consider debarment for all corporate misconduct, including “defraud[ing] the government…[t]ax evasion, bribery, unsatisfactory performance, and other harmful conduct,” “in any contract—whether the government was harmed or not….”
- Use suspension authority while an investigation is pending.
The Senators’ letter betrays a failure to appreciate several critical facets of the suspension and debarment regime—particularly the non-punitive nature of such exclusions, the focus on present responsibility rather than past misconduct, and the primacy of the government’s interest in making such exclusion decisions. Moreover, these proposals introduce the possibility for a sea change in DOJ policy that would have dire impacts for companies subject to FCA prosecution.
Implications for FCA Defendants
If adopted as a matter of practice or policy by DOJ, the Warren-Lujan approach could have significant effects for companies facing FCA lawsuits and investigations.
The potential for FCA liability is already a significant risk for government contractors in light of the potential for massive treble damage awards and civil penalties. Indeed, FCA settlements and judgments total billions of dollars every year, with individual settlements often reaching tens or even hundreds of millions of dollars. But debarment or suspension for companies that depend on government business would be ruinous, because those penalties would effectively put companies out of business altogether. The Warren-Lujan approach to suspension and debarment significantly heightens these risks, and makes resolving FCA suits considerably more difficult in several regards:
- Imposing a Suspension During an Investigation May Force Unfavorable Settlements. In many cases, companies settle or otherwise resolve FCA lawsuits before trial as part of a negotiated resolution, in part precisely because of the risk that an adverse judgment on the merits could result in debarment. This is so even where companies dispute the merits of the FCA claim but wish to avoid the cost and uncertainty of a trial and the resulting collateral consequences of suspension or debarment. Through a negotiated resolution, companies can ensure there is no formal judgment of a false statement, and negotiate a path forward that does not include any suspension or debarment, for example through entering into a Corporate Integrity Agreement (CIA) or other administrative agreement. But the Warren-Lujan approach would encourage DOJ to increase its use of its authority to suspend contractors while an investigation is pending, which would significantly increase pressure on companies to quickly settle cases. FCA investigations can last years, and few companies could weather a multi-year suspension while defending against an FCA investigation. Moreover, uncertainties regarding when an investigation might result in “adequate evidence” to suspend an entity may lead even companies that have strong defenses and have done nothing wrong to enter into hasty settlements, without a full opportunity to defend themselves, to avoid an interim suspension – though as discussed below, the resolution itself may still raise the specter of exclusion.
- Government-Wide, Corporate-Level Suspensions and Debarment Could Disincentivize Any Settlements Whatsoever. Even in cases where debarment or suspension is on the table, FCA defendants typically negotiate to keep those penalties carefully circumscribed. For example, companies may engage with agency SDOs early in settlement negotiations in an effort to limit any suspension or debarment to individual wrongdoers or corporate divisions (as opposed to the entire company). The Warren-Lujan approach would make this far more difficult by calling for DOJ to impose suspensions and debarments at the corporate level. When broad, unlimited penalties of that nature are on the table, a contractor may be unable or unwilling to even consider a negotiated resolution, since it would be a death knell to most government contractors if the corporation was barred from all government business.
- Supplanting Lead Agency Discretion with DOJ’s Could Result in Suspensions or Debarments That Are Not in the Government’s Interest. Furthermore, by advocating for DOJ to pursue suspension or debarment directly—instead of working through the lead contracting agency—the Warren-Lujan approach ignores an important consideration in the use of suspension and debarment. Agencies that work directly with contractors are best placed to understand the work those contractors do, and often rely deeply on the contractors to compete for new work to serve the agencies’ missions. Those agencies are therefore attuned to the practical, disruptive implications of suspending or debarring a contractor. Indeed, the suspension and debarment regulations specifically contemplate that SDOs must consider the government’s interest in making suspending or debarring decisions.[11] Moreover, those agencies are also in the best position to assess whether a contractor is “presently responsible.” DOJ attorneys are likewise supposed to take into account “the adequacy and effectiveness of the corporation’s compliance program at the time of the offense, as well as at the time of a charging decision” when evaluating corporate settlements,[12] but the Warren-Lujan approach would have DOJ pursue a suspension and debarment decision apparently with little regard for either corporate compliance improvements or whether an agency is “presently responsible” despite past misconduct. Supplanting an agency’s judgment with DOJ’s judgment could mean that suspension and debarment decisions are made without a full appreciation of these practical realities, and without consideration of the governmental interests.
Although whether and to what extent DOJ will heed the Warren-Lujan admonitions remains to be seen, clients facing FCA investigations, litigation, and potential resolutions must consider how a possible shift in Department policy could impact the appropriate steps to be taken to mitigate against the corporate “death sentence” of suspension or debarment.
__________________________
[1] FAR 9.406-2; FAR 9.407-2; 2 C.F.R. § 180.800.
[2] FAR 9.402(b); 2 C.F.R. § 180.125(c).
[3] FAR 9.406-1(a), 9.407-1(a); 2 C.F.R. § 180.700; 2 C.F.R. § 180.800.
[4] FAR 9.406; see 2 C.F.R. § 180.845(a).
[5] See FAR 9.406-2; FAR 9.407-2; 2 C.F.R. § 180.800.
[6] Id.
[7] Attorney General, Memorandum for All U.S. Attorneys, Director of the Federal Bureau of Investigation, All Assistant U.S. Attorneys, All Litig. Divs., and All Trial Attorneys, Coordination of Parallel Criminal, Civil, Regulatory, and Admin. Proceedings (Jan. 30, 2012), available at https://www.justice.gov/jm/organization-and-functions-manual-27-parallel-proceedings.
[8] Id.
[9] See Exec. Order No. 12549, Debarment and Suspension, 51 Fed. Reg. 6370 (Feb. 21, 1986).
[10] See Interagency Suspension and Debarment Committee, “About the ISDC,” available at https://www.acquisition.gov/isdc-home.
[11] FAR 9.406; see 2 C.F.R. § 180.845(a).
[12] U.S. Dep’t of Justice, Justice Manual § 9-28.300 (Dec. 2018), https://www.justice.gov/jm/jm-9-28000-principles-federal-prosecution-business-organizations#9-28.300.
The following Gibson Dunn lawyers assisted in the preparation of this alert: Jonathan M. Phillips, Lindsay M. Paulin, Joseph D. West, and Reid F. Rector.
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, the authors, or any member of the firm’s False Claims Act/Qui Tam Defense, Government Contracts, or White Collar Defense and Investigations practice groups.
Washington, D.C.
Jonathan M. Phillips – Co-Chair, False Claims Act/Qui Tam Defense Group (+1 202-887-3546, jphillips@gibsondunn.com)
F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com)
Joseph D. West (+1 202-955-8658, jwest@gibsondunn.com)
Robert K. Hur (+1 202-887-3674, rhur@gibsondunn.com)
Geoffrey M. Sigler (+1 202-887-3752, gsigler@gibsondunn.com)
Lindsay M. Paulin (+1 202-887-3701, lpaulin@gibsondunn.com)
San Francisco
Winston Y. Chan – Co-Chair, False Claims Act/Qui Tam Defense Group (+1 415-393-8362, wchan@gibsondunn.com)
Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com)
New York
Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com)
Mylan Denerstein (+1 212-351-3850, mdenerstein@gibsondunn.com)
Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com)
Brendan Stewart (+1 212-351-6393, bstewart@gibsondunn.com)
Casey Kyung-Se Lee (+1 212-351-2419, clee@gibsondunn.com)
Denver
John D.W. Partridge (+1 303-298-5931, jpartridge@gibsondunn.com)
Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com)
Monica K. Loseman (+1 303-298-5784, mloseman@gibsondunn.com)
Ryan T. Bergsieker (+1 303-298-5774, rbergsieker@gibsondunn.com)
Reid Rector (+1 303-298-5923, rrector@gibsondunn.com)
Dallas
Robert C. Walters (+1 214-698-3114, rwalters@gibsondunn.com)
Andrew LeGrand (+1 214-698-3405, alegrand@gibsondunn.com)
Los Angeles
Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
Timothy J. Hatch (+1 213-229-7368, thatch@gibsondunn.com)
Deborah L. Stein (+1 213-229-7164, dstein@gibsondunn.com)
James L. Zelenay Jr. (+1 213-229-7449, jzelenay@gibsondunn.com)
Palo Alto
Benjamin Wagner (+1 650-849-5395, bwagner@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Following a three-month consultation period, the Securities and Futures Commission’s (“SFC”) Code of Conduct (“Code”) provision, paragraph 21, has come into effect on August 5, 2022.[1] The provision outlines new conduct requirements for intermediaries carrying out bookbuilding and placing activities in equity and debt capital market transactions, including, the introduction of enhanced obligations applicable to an Overall Coordinator (“OC”). This client alert discusses these new requirements and how they could raise certain sanctions-related questions for the OC as they consider their new obligations under the Code during their review of the order book.
-
- The Role of the Overall Coordinator
The OC is the “head of syndicates” responsible for the overall management of the share or debt offering, coordination of bookbuilding or placing activities, and exercise control over bookbuilding activities and market allocation recommendations to the issuer. In order to address deficiencies in bookbuilding and allocation practices, the SFC has expanded the role of an OC in paragraph 21 of the Code.
In particular, in its Consultation Paper on (i) the Proposed Code of Conduct on Bookbuilding and Placing Activities in Equity Capital Market and Debt Capital Market Transactions and (ii) the “Sponsor Coupling” Proposal (“Consultation Paper”), the SFC highlighted the following key concerns:[2]
- Inflated demand: The SFC observed practices where intermediaries knowingly placed orders in the order book which they knew had been inflated. There had also been instances where heads of syndicate disseminated misleading book messages which overstated the demand for an Initial Public Offering (“IPO”). The SFC considered that these inflated orders undermine the price discovery process and can mislead investors.
- Lack of transparency: In debt capital market bookbuilding activities, the SFC considered the use of “X-orders,” which are orders where the identities of investors are concealed, as problematic. In these cases, since investors’ identities are only known to the syndicate members who place the orders and to the issuers, the SFC was concerned that duplicated, or potentially fictitious orders might not be identified.
- Lack of documentation: Heads of syndicates did not properly maintain records of incoming client orders, important discussions with the issuer or the rest of the syndicate, or the basis for making allocation recommendations. The SFC criticized this practice as it undermined the integrity of the book-building process, which is meant to be the keeping of contemporaneous records to establish the position in case of any dispute.
In order to plug the gaps in the bookbuilding process identified above, the SFC has expanded the role of an OC to cover additional responsibilities, such as, consolidating orders from all syndicate members in the order book, taking reasonable steps to identify and eliminate duplicated orders, inconsistencies and errors, ensuring that identities of all investor clients are disclosed in the order book (except for orders placed on an omnibus basis), and making enquiries with capital market intermediaries[3] if any orders appear to be unusual or irregular.[4]
The OC is under an obligation to advise the issuer on pricing and allocation matters. With respect to allocation, the OC is expected to develop and maintain an allocation policy which sets out the criteria for making allocation recommendations to the issuer, for example, the policy should take account into the types, spread, and characteristics of targeted investors, as well as the issuer client’s objectives, preferences and recommendations. The OC should then make allocation recommendations in accordance with the policy.[5] In practice, the OC’s powers are limited to providing recommendations or advice to the issuer on a best efforts basis, and do not go as far as preventing or rejecting an allocation. The final decision on whether to make an allocation lies with the issuer. Therefore, where an issuer decides not to adopt the OC’s advice or recommendations, the OC should explain the potential concerns of doing so (i.e., that the issuer’s decision may lead to a lack of open market, an inadequate spread of investors, or may negatively affect the orderly and fair trading of such shares in the secondary market), and advise the issuer against the decision.[6]
-
- Potential Sanctions Considerations
These new requirements, however, which aimed to plug the gaps in the bookbuilding process as noted above, may raise new risks or questions for OCs in other regulatory areas, namely whether there may be implications for the OC in terms of its compliance and legal obligations under the various economic and trade sanctions laws and regulations to which the OC may also be subject, such as those issued by the United Nations, United States (“U.S.”), European Union (“EU”), United Kingdom (“UK”) and others. Specifically, because OCs will now be made aware of the identities of the ultimate investors in an allocation, a financial institution operating as an OC may have concerns about being able to perform its duties under the SFC requirements in cases where an investor has been identified as a possible subject of sanctions under laws that are applicable to the OC.
For example, under U.S. sanctions administered and enforced by the U.S. Department of the Treasury, Office of Foreign Assets Control (“OFAC”), U.S. financial institutions and their foreign branches are generally prohibited from engaging in, approving or otherwise facilitating transactions with individuals and entities designated to OFAC’s Specially Designated Nationals and Blocked Persons (“SDN”) List. The contours of what kind of activity constitutes prohibited “facilitation” under U.S. sanctions law is not completely defined and is largely fact dependent. Thus, it is unclear whether or not, under U.S. law, the subsequent actions a U.S. financial institution might perform in its role as OC after an investor has been identified as a potential sanctioned person could run afoul of U.S. sanctions regulations. Similar issues may exist under the laws of other jurisdictions such as the EU or UK, depending on the jurisdictional hooks over the OC in question.
Whether or not there is risk here will depend on a variety of factors, including but not limited to: the precise nature of the OC’s actions subsequent to the identification of a sanctions concern (is the OC “approving” or “recommending” action, merely passing along information, recusing itself, etc.); the role, if any, of the OC in actual transactions involving the sanctioned person; the ability of the OC to affect or direct the actual allocation; the precise nature of the sanctions in question; and potentially any contractual protections that may be in place in the underlying operative agreements governing the OC’s role.
In addition, OCs will need to weigh the extent to which any potential sanctions obligations, including anti-boycott / blocking statute related, could conflict with the OC’s obligations under the Code, to provide adequate allocation advice to the issuer with due skill, care and diligence.[7]
Our view is that ultimately both sets of risks and obligations can be effectively managed and met, and we are working with clients and industry to understand and address the impact of these new regulations on the policies and procedures of financial institutions serving in the OC capacity.
_________________________
[1] Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission (August 2022), published by the Securities and Futures Commission, https://www.sfc.hk/-/media/EN/assets/components/codes/files-current/web/codes/code-of-conduct-for-persons-licensed-by-or-registered-with-the-securities-and-futures-commission/Code_of_conduct_05082022_Eng.pdf.
[2] Consultation Paper on (i) the Proposed Code of Conduct on Bookbuilding and Placing Activities in Equity Capital Market and Debt Capital Market Transactions and (ii) the “Sponsor Coupling” Proposal (February 2021), published by the Securities and Futures Commission, https://apps.sfc.hk/edistributionWeb/api/consultation/openFile?lang=EN&refNo=21CP1.
[3] “Capital Market Intermediaries” is defined as licensed or registered persons that engage in capital market activities, namely bookbuilding and placing activities and any related advice, guidance or assistance. See paragraph 21.1.1 of the Code.
[4] Paragraph 21.4.4(a)(i) of the Code.
[5] Paragraph 21.4.4(c) of the Code.
[6] Paragraph 21.4.2(c) of the Code.
[7] Paragraph 21.4.2(a) of the Code.
The following Gibson Dunn lawyers prepared this client alert: William Hallatt, David Wolber, Becky Chung, Richard Roeder and Jane Lu*.
If you wish to discuss any of these developments, please contact any of the authors of this alert, the Gibson Dunn lawyer with whom you usually work or any of the following leaders and members of the firm’s Global Financial Regulatory or International Trade teams:
Global Financial Regulatory Group:
William R. Hallatt – Co-Chair, Hong Kong (+852 2214 3836, whallatt@gibsondunn.com)
Michelle M. Kirschner – Co-Chair, London (+44 (0) 20 7071 4212, mkirschner@gibsondunn.com)
Jeffrey L. Steiner – Co-Chair, Washington, D.C. (+1 202-887-3632, jsteiner@gibsondunn.com)
Emily Rumble – Hong Kong (+852 2214 3839, erumble@gibsondunn.com)
Arnold Pun – Hong Kong (+852 2214 3838, apun@gibsondunn.com)
Becky Chung – Hong Kong (+852 2214 3837, bchung@gibsondunn.com)
Chris Hickey – London (+44 (0) 20 7071 4265, chickey@gibsondunn.com)
Martin Coombes – London (+44 (0) 20 7071 4258, mcoombes@gibsondunn.com)
International Trade Group:
Asia
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
David A. Wolber – Hong Kong (+852 2214 3764, dwolber@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing – (+86 10 6502 8534, qyue@gibsondunn.com)
Europe
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com)
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0) 207 071 4276, pdoris@gibsondunn.com)
Sacha Harber-Kelly – London (+44 (0) 20 7071 4205, sharber-kelly@gibsondunn.com)
Penny Madden – London (+44 (0) 20 7071 4226, pmadden@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33 180, mwalther@gibsondunn.com)
Richard W. Roeder – Munich (+49 89 189 33 115, rroeder@gibsondunn.com)
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)
Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202-887-3786, dburns@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202-955-8510, shandler@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@gibsondunn.com)
Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@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)
Annie Motto – Washington, D.C. (+1 212-351-3803, amotto@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202-955-8250, cmullen@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com)
Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com)
Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)
* Jane Lu is a trainee solicitor working in the firm’s Hong Kong office who is not yet admitted to practice law.
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On August 25, 2022, the Securities and Exchange Commission (“SEC” or “Commission”), in a 3-to-2 vote, adopted final rules implementing the pay versus performance disclosure requirement called for under Section 953(a) of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). The final rules require proxy statements or information statements that include executive compensation disclosures to include a new compensation table setting forth for each of the five most recently completed fiscal years, the “executive compensation actually paid” (as defined in the final rule) to the company’s principal executive officer (“PEO”) and the average of such amounts for the company’s other named executive officers (“NEOs”), total compensation as disclosed in the Summary Compensation Table for the PEO and the average of such amounts for the other NEOs, total shareholder return (TSR), peer group TSR, net income and a company-selected financial measure that represents the “most important financial measure” used by the company to link compensation actually paid to company performance. In addition, based on the information set forth in the new table, a company must provide a clear description of the relationship between each of (1) the executive compensation actually paid to the PEO and to the non-PEO NEOs and the company’s TSR, the company’s net income and the company-selected financial measure over the previous five years, and (2) the company’s TSR and the TSR of a peer group chosen by the company. Finally, the rule requires companies to provide a list of three to seven other financial performance measures that the company determines are its most important measures “used to link compensation actually paid . . . to company performance.”
The final rule release is available here, and the SEC’s pay versus performance fact sheet is available here. The final rule will become effective 30 days after its publication in the Federal Register, and companies will be required to comply with the requirements in proxy and information statements that are required to include executive compensation disclosures for fiscal years ending on or after December 16, 2022. Set forth below is a summary of the final rules and considerations for companies.
Summary of the Final Rules
New Tabular Disclosure under Item 402(v) of Regulation S-K. Section 953(a) of the Dodd-Frank Act instructs the Commission to adopt rules requiring companies to provide “a clear description of . . . information that shows the relationship between executive compensation actually paid and the financial performance of the issuer.” To address this mandate, Item 402(v) of Regulation S-K will now require companies to include a new table (set forth below) in any proxy statement or information statement setting forth executive compensation disclosure, reporting:
- The “executive compensation actually paid” to the PEO and the total compensation reported in the Summary Compensation Table for the PEO. If more than one person served as the PEO during the covered fiscal year, then each PEO would be reported separately in additional columns with information provided for the applicable year such individual was a PEO.
- An average of the “executive compensation actually paid” to the remaining NEOs and an average of the total compensation reported in the Summary Compensation Table for the remaining NEOs. Footnote disclosure of the names of individual NEOs and the years in which they are included is also required.
- The company’s cumulative annual TSR calculated and presented as the dollar value of an investment of $100 (i.e., in the same manner as in the Stock Price Performance Graph required under Item 201(e) of Regulation S-K).
- The cumulative annual TSR of the companies in a peer group chosen by the company (which must be the same index or peer group used for the purposes of Item 201(e) or, if applicable, the peer group used for purposes of the Compensation Discussion and Analysis disclosures). Footnote disclosure of any year-over-year changes in peer group constituent companies as well as the reasons for any such change will be required along with a comparison of the issuer’s cumulative annual TSR with that of both the new and prior fiscal year peer group.
- The company’s net income for the fiscal year calculated in accordance with U.S. GAAP.
- A financial performance measure chosen by the company (the “Company-Selected Measure”) that the company has determined represents the “most important financial performance measure” that the company uses to link compensation actually paid to the NEOs to company performance for the most recently completed fiscal year. If such measure is a non-GAAP measure, disclosure must be provided as to how the number is calculated from the issuer’s audited financial statements, but a full reconciliation is not required.
PAY VERSUS PERFORMANCE
Year |
Summary Compensation Table Total for PEO |
Compensation Actually Paid to PEO |
Average Summary Compensation Table Total for Non-PEO NEOs |
Average Compensation Actually Paid to Non-PEO NEOs |
Value of Initial Fixed $100 Investment Based On: |
Net Income |
[Company-Selected Measure] |
|
Total Shareholder Return |
Peer Group Total Shareholder Return |
The table is required to set forth this information for each of the five most recently completed fiscal years, subject to a transition rule and certain exceptions described below.
The final rule requires companies to provide disclosure accompanying the table that “use[s] the information provided in the table . . . to provide a clear description of the relationship” between:
- Executive compensation actually paid to the PEO and the other NEOs and the company’s TSR across the last five fiscal years;
- Executive compensation actually paid to the PEO and the other NEOs and the company’s net income across the last five fiscal years;
- Executive compensation actually paid to the PEO and the other NEOs and the Company-Selected Measure; and
- The company’s TSR and the peer group TSR.
These descriptions could include narrative or graphic disclosure (or a combination of the two). If any additional, voluntary performance measures are included in the table, the disclosure must also include a description of the relationship between executive compensation actually paid to the PEO and the other NEOs and the additional performance measure across the last five fiscal years.
In addition, under the final rule companies must provide a tabular list of three to seven other financial performance measures that the company has determined represent the most important financial performance measures used to link compensation actually paid for the most recent fiscal year to company performance. So long as at least three of the measures are financial performance measures, the company may include non-financial performance measures in the tabular list. If fewer than three financial performance measures were used by the company to link compensation and performance, such list must include all such measures, if any, that were used.
Companies will also be required to tag each value disclosed in the table, block-text tag the footnote and relationship disclosure, and tag specific data points within the footnote disclosures in interactive data format using eXtensible Business Reporting Language, or XBRL.
“Executive Compensation Actually Paid.” Under the final rule, “executive compensation actually paid” is somewhat of a misnomer, as it includes both amounts paid or earned, as well as incremental accounting valuations for unvested equity awards that may never be earned or that could have different intrinsic values when earned. For these purposes, “executive compensation actually paid” is defined as the total compensation reported in the Summary Compensation Table, with adjustments made to the amounts report for pension values and equity awards.
Pension Values. With respect to pension values, the aggregate change in the actuarial present value of all defined benefit and actuarial pension plans will be deducted from the reported total compensation, and instead “executive compensation actually paid” will include both (1) the actuarially determined service cost for services rendered by the executive during the applicable year (“service cost”) and (2) the entire cost of benefits granted in a plan amendment (or initial plan adoption) during the applicable year that are attributed by the benefit formula to services rendered in periods prior to the plan amendment or adoption (“prior service cost”), in each case, calculated in accordance with U.S. GAAP. If the prior service cost is a negative amount as a result of an amendment that reduces benefits relating to prior periods of service, then such amount would reduce the compensation actually paid.
Equity Awards. With respect to the stock award and option award values, the amounts included in the Summary Compensation Table, representing the grant date fair value, will be deducted, and the following adjustments will be made, in each case, with fair value calculated in accordance with U.S. GAAP:
- For awards granted in the covered fiscal year:
- add the year-end fair value if the award is outstanding and unvested as of the end of the covered fiscal year; and
- add the fair value as of the vesting date for awards that vested during the year.
- For any awards granted in prior years:
- add or subtract any change in fair value as of the end of the covered fiscal year compared to the end of the prior fiscal year if the award is outstanding and unvested as of the end of the covered fiscal year;
- add or subtract any change in fair value as of the vesting date (compared to the end of the prior fiscal year) if the award vested during the year; and
- subtract the amount equal to the fair value at the end of the prior fiscal year if the award was forfeited during the covered fiscal year.
- Add the dollar value of any dividends or other earnings paid on stock awards or options in the covered fiscal year prior to the vesting date that are not otherwise reflected in the fair value of such award or included in any other component of total compensation for the covered fiscal year.
Footnote disclosure is required to identify the amount of each adjustment, as well as valuation assumptions used in determining any equity award adjustments that are materially different from those disclosed as of the grant date of such equity awards.
Filings and Timing of Disclosures. Companies will be required to include the pay versus performance disclosure in all proxy and information statements that are required to include executive compensations disclosures under Item 402 of Regulation S-K for fiscal years ending on or after December 16, 2022. Under the transition rules, companies will only be required to provide disclosure for three years in the first proxy or information statement in which disclosure is provided, adding one additional year in each of the two subsequent years. In addition, disclosure is only required for fiscal years in which the company was a reporting company. The Item 402(v) disclosure will be treated as “filed” for the purposes of the Exchange Act and will be subject to the say-on-pay advisory vote under Exchange Act Rule 14a-21(a).
Issuers Subject to the Final Rules. The final rules require pay versus performance disclosure for all companies other than emerging growth companies (which are statutorily exempt from the requirements pursuant to the Jumpstart Our Business Startups Act), foreign private issuers, and registered investment companies.
Smaller reporting companies are subject to scaled disclosure requirements. They are not required to provide peer group TSR or any Company-Selected Measure, and the calculation of executive compensation actually paid may exclude amounts relating to pensions. In addition, smaller reporting companies are only required to provide disclosure for the most recent three years and are allowed initially to provide disclosure for two years, adding one additional year in the next year. Smaller reporting companies also are afforded a transition period with respect to XBRL requirements and are not required to provide inline XBRL data until the third filing in which it provides the pay versus performance disclosure.
Observations and Considerations for Companies
The new rules will require extensive calculations and disclosures. For many companies, however, the biggest challenge will be drafting disclosure that uses the information in the table to provide a clear description of the relationship between “compensation actually paid” and the prescribed performance measures. This disclosure is, appropriately, not presented in the Compensation Discussion and Analysis, as it will not necessarily relate to the performance measures utilized by a company’s compensation committee in designing and awarding executive compensation. Indeed, in our experience few compensation committees (if any) currently evaluate executive compensation based on the “compensation actually paid” formula prescribed under the new rules. As such, the required description may best be viewed as an after-the-fact review of whether and how this prescriptive and non-routine measure of “compensation actually paid” aligns with the discrete measures of corporate performance prescribed under the rule, if at all. In light of this disconnect between how compensation committees evaluate performance in awarding and paying out executive compensation and how compensation and performance will be presented under the new rules, some companies may determine to include additional voluntary disclosures that reflect how they view the connection between realized or realizable compensation and corporate performance. Indeed, while the final rules check the box in fulfilling a Dodd-Frank mandate to require a pay-for-performance presentation, it’s unclear whether the manner in which the Commission chose to implement the Dodd-Frank mandate justifies the time and expense that companies will need to expend to produce the disclosures and whether investors will expend the effort that would be needed to assess the disclosures.
For companies with calendar year fiscal years, the pay versus performance disclosures will be required in the 2023 proxy statement, and for companies that are not smaller reporting companies, the first year of disclosure will cover the 2022, 2021 and 2020 fiscal years. Given the substantial undertaking required to prepare the historical disclosures and the likelihood that significant interpretive questions will arise when applied to companies’ particular facts, companies should begin preparing for the new rules now by collecting the information that will be necessary for the disclosures, particularly with respect to the historical pension and equity award adjustments for calculating executive compensation actually paid, and should begin to mock up the required table now for historical periods. In addition, companies should begin discussions regarding what financial performance measure should be utilized as the Company-Selected Measure, understanding that it should be focused on the most recently completed fiscal year (i.e., 2022 for companies with calendar year fiscal years). Consultation with the company’s compensation committee and its independent compensation consultant will be key in ensuring that appropriate performance measures are utilized for both the Company-Selected Measure and in the tabular list. As well, companies should also consider whether any supplemental, voluntary disclosures or presentations may be appropriate. For instance, TSR amounts presented in the table may not align with the performance periods applicable to incentive and equity compensation awards.
The following Gibson Dunn lawyers assisted in the preparation of this alert: Krista Hanvey, Thomas Kim, Ronald Mueller, and Gina Hancock.
Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Executive Compensation and Employee Benefits or Securities Regulation and Corporate Governance practice groups, or any of the following practice leaders and members:
Executive Compensation and Employee Benefits Group:
Stephen W. Fackler – Palo Alto/New York (+1 650-849-5385/+1 212-351-2392, sfackler@gibsondunn.com)
Sean C. Feller – Los Angeles (+1 310-551-8746, sfeller@gibsondunn.com)
Krista Hanvey – Dallas (+ 214-698-3425, khanvey@gibsondunn.com)
Gina Hancock – Dallas (+1 214-698-3357, ghancock@gibsondunn.com)
Securities Regulation and Corporate Governance Group:
Elizabeth Ising – Washington, D.C. (+1 202-955-8287, eising@gibsondunn.com)
Thomas J. Kim – Washington, D.C. (+1 202-887-3550, tkim@gibsondunn.com)
Ron Mueller – Washington, D.C. (+1 202-955-8671, rmueller@gibsondunn.com)
Michael Titera – Orange County, CA (+1 949-451-4365, mtitera@gibsondunn.com)
Lori Zyskowski – New York, NY (+1 212-351-2309, lzyskowski@gibsondunn.com)
Aaron Briggs – San Francisco, CA (+1 415-393-8297, abriggs@gibsondunn.com)
Julia Lapitskaya – New York, NY (+1 212-351-2354, jlapitskaya@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Towards the end of 2022, Europe will likely see a wave of class action legislation. Many member states of the European Union (“EU”) will have to either devise new class action regimes or amend their existing provisions on collective redress. They have until Christmas Day 2022 to implement the EU Directive on Representative Actions into national law. The new procedural rules must be applied to new collective claims raised by 25 June 2023.
So far, only the Netherlands has voted to amend its class action regime to comply with the Directive. Most other EU countries will have to take legislative action in the fall. The EU directive, once implemented, will allow for more cross-border mass litigation throughout Europe. Some states will use the opportunity to strengthen their jurisdiction by incentivizing plaintiffs to file cross-border representative actions in their courts, paving the way for cross-border forum shopping in Europe.
1. The EU’s Directive on Representative Actions and Its Core Requirements
In 2020, the European Union issued a Directive on Representative Actions (EU Directive 2020/1828), which obliges all EU member states to amend their respective national rules of civil procedure to allow qualified entities to file collective actions for a class of consumers.
The member states enjoy considerable leeway to transfer the Directive’s broad requirements into their national legal system. For example, member states are free to implement either an opt-in or an opt-out mechanism for consumers to join the collective action. Consequently, national provisions on collective actions will still differ from country to country. However, for the first time, all of Europe will have some form of collective redress to allow consumers to directly claim compensation from a defendant. Still, the Directive does not change the current European law on cross-border jurisdiction or conflict of laws.
The core requirements under the Directive which each member state must implement at a minimum are:
-
- Relief? Member states have to provide at least one procedural mechanism by which a qualified entity can sue on behalf of consumers for a variety of redress measures (compensation, repair, replacement, contract termination) or injunctive relief. Some preexisting representative actions in Europe (i.e. in Germany) have so far allowed only declaratory judgments for consumers.
- Claimant? Only qualified entities have standing to sue on behalf of consumers; special criteria apply for entities bringing cross-border actions. This procedural setup is designed to avoid abusive litigation. In the legislative ideal, representative actions should be driven by consumer protection organizations who have the consumers’ best interests instead of their own financial interest in mind.
- Predicate Laws? The Directive requires that such representative actions can be filed for the violation of 66 EU laws for consumer protection, which are listed in the Directive’s annex. Over the past 30 years, member states have transferred this EU consumer protection legislation into their national laws. Today, core provisions in the member states’ civil codes (i.e. contract formation with consumers and defects liability) are based on the referenced EU legislation. The scope of the Directive also includes more ancillary EU legislation regarding claims by consumers arising out of, inter alia, unfair commercial practices, air travel, financial services, loans, food safety, electronic communication, and data protection. Seemingly every transaction with consumers in the EU could therefore be subject of a representative action in the future.
- Funding? Qualified entities may be funded by third parties as long as conflicts of interests are prevented. When justified doubts regarding a conflict arise, qualified entities shall disclose their sources of funds used to support the representative action.
- Discovery? In accordance with pre-existing national and EU law, member states shall allow courts to order the defendant or third parties to disclose additional evidence which lies in the control of the defendant or a third party. Some EU jurisdictions already have such procedural mechanisms in place. These mechanisms are generally limited in scope compared to US discovery. For example, in Germany, plaintiffs have to show that they require a specific document that would buttress their case before the court can order the defendant to turn it over. The Directive ensures that member states can keep these pre-existing national procedural provisions. They are also free, however, to vote for procedural rules more akin to US-style discovery, if they desire.
- Cost-Shifting? As is customary in the EU (and unlike the US), the losing party shall bear the costs of the litigation. This is meant to discourage frivolous lawsuits. So if the case is dismissed, the qualified entity that brought the lawsuit on behalf of consumers will have to bear the entire cost of the proceedings. This – theoretically – includes the opposing party’s attorneys’ fees. However, the recoupable amount for attorneys’ fees is often capped by national law. The Directive does not affect these caps and it is unlikely that member states will change them to the detriment of qualified consumer protection entities. Even if successful, defendants will therefore not be able to shift their costs entirely to the plaintiff. The consumers behind the representative action generally will not bear any costs..
- Tolling of Statutes of Limitations? Pending representative actions (both for redress measures and injunctive relief) shall suspend or interrupt the national statutes of limitation for the consumers’ individual claims.
- Settlements? Similar to US class actions, all settlements in EU representative actions must be scrutinized by the court. The court will not approve the settlement if it violates mandatory national law or includes unenforceable conditions. Additionally, member states can allow the court to reject the settlement, if it is “unfair”. Settlements are final and binding for the parties as well as the consumers. However, consumers may opt-out of a settlement.
2. The Netherlands Set the Tone with a Plaintiff-Friendly Interpretation of the Directive
Many European countries either remain hesitant to approach legislation on collective redress or are still debating how to allow consumers to effectively resolve their grievances without inviting the specter of a US-style “class action industry” into European courtrooms.
The Netherlands, on the other hand, have already embraced the new procedure and have taken a leading role in its implementation. The Dutch parliament already passed class action legislation in 2020. In June 2022, as the first country in the EU to do so, the Netherlands amended this regime to fully comply with the EU Directive. Rather than simply implementing the Directive’s core requirements, the Netherlands have used the legislative leeway afforded by the EU to create a plaintiff-friendly class action regime which will strengthen the position of Dutch courts to resolve cross-border collective disputes. The main staples of the new Dutch representative action are:
-
- Its scope goes far beyond the required minimum of sanctioning violations against EU consumer protection law. All subject-matters fit for a civil lawsuit can be litigated. Most notably, this includes climate change litigation, for which Dutch courts have built a plaintiff-friendly reputation with major verdicts against the Dutch Government in 2018 and Royal Dutch Shell in 2021.
- The representative action is not limited to consumers. Companies can join a representative action as well.
- For purely national litigation, the Netherlands pose very limited requirements for the representing qualified entities. Even entities which were founded for the sole purpose of bringing one particular representative action will have standing in Dutch courts. In cross-border litigation the requirements will be stricter as set out by the Directive.
- Similar to a US class action, Dutch plaintiffs will have to opt-out of the class should they not want to participate in the litigation. Dutch representative actions are also open to plaintiffs residing outside the Netherlands, as long as they belong to the class and actively opt-in. International plaintiffs will also be part of any settlement. This will drive up the amounts in dispute compared to representative actions in neighboring countries like France and Germany, which favor opt-in mechanisms. Consequently, representative actions in the Netherlands will be particularly attractive for plaintiffs and third-party litigation funders.
- Other than the Directive’s minimum requirements, the Netherlands have not imposed any restrictions on third-party funding. Litigation funders may not influence litigation strategy and the financial independence of the qualified entity must be safeguarded.
Some significant differences to US class actions still remain. The Netherlands have not introduced US-style discovery into their representative action, which the Directive would have allowed for. Plaintiffs will also not be able to sue for punitive damages.
3. Outlook: A Diverse Litigation Landscape in Europe with Opportunities for Plaintiffs
The European landscape for collective redress will remain diverse even after 2023. Not all EU member states will implement the Directive as broadly as the Dutch. For example, the German Attorney General has already indicated he will propose legislation that will be more narrowly tailored to the underlying EU Directive instead of overhauling Germany’s collective redress mechanisms in one legislative swoop.
However, following the example set by the Netherlands, some countries might try to incentivize plaintiffs and litigation funders to sue multi-national companies in their own courts by devising plaintiff-friendly procedural rules.
Even if such a competition among member states will not ensue, any reform of Europe’s collective redress system will present new opportunities for plaintiffs, in particular if last-minute legislation to meet the deadline of 25 December 2022 results in loopholes or unprecise statutes. Companies, courts, and law firms will have to adapt to the ensuing new legal challenges. With no or little case law on the books after the reform, plaintiffs have particular incentives to file creative lawsuits.
The following Gibson Dunn lawyers prepared this client alert: Markus Rieder, Patrick Doris, Alexander Horn, Kahn Scolnick, and Christopher Chorba.
Gibson Dunn 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 in the firm’s Class Actions, Litigation, or Appellate and Constitutional Law practice groups, the authors, or any of the following leaders and members of the Class Actions Group:
Munich:
Markus Rieder (+49 89 189 33 162, mrieder@gibsondunn.com)
Alexander Horn (+49 89 189 33 161, ahorn@gibsondunn.com)
Paris:
Eric Bouffard (+33 (0) 1 56 43 13 00), ebouffard@gibsondunn.com)
Jean-Pierre Farges (+33 (0) 1 56 43 13 00, jpfarges@gibsondunn.com)
Pierre-Emmanuel Fender (+33 (0) 1 56 43 13 00, pefender@gibsondunn.com)
Brussels:
Christian Riis-Madsen (+32 2 554 72 05, criis@gibsondunn.com)
London:
Susy Bullock (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris (+44 (0) 20 7071 4276, pdoris@gibsondunn.com)
Osma Hudda (+44 (0) 20 7071 4247, ohudda@gibsondunn.com)
Ali Nikpay (+44 (0) 20 7071 4273, anikpay@gibsondunn.com)
Philip Rocher (+44 (0) 20 7071 4202, procher@gibsondunn.com)
Deirdre Taylor (+44 (0) 20 7071 4274, dtaylor2@gibsondunn.com)
Doug Watson (+44 (0) 20 7071 4217, dwatson@gibsondunn.com)
United States:
Theodore J. Boutrous, Jr. – Los Angeles (+1 213-229-7000, tboutrous@gibsondunn.com)
Christopher Chorba – Co-Chair, Class Actions Practice Group – Los Angeles (+1 213-229-7396, cchorba@gibsondunn.com)
Theane Evangelis – Co-Chair, Litigation Practice Group, Los Angeles (+1 213-229-7726, tevangelis@gibsondunn.com)
Lauren R. Goldman – New York (+1 212-351-2375, lgoldman@gibsondunn.com)
Kahn A. Scolnick – Co-Chair, Class Actions Practice Group – Los Angeles (+1 213-229-7656, kscolnick@gibsondunn.com)
Bradley J. Hamburger – Los Angeles (+1 213-229-7658, bhamburger@gibsondunn.com)
Lauren M. Blas – Los Angeles (+1 213-229-7503, lblas@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Decided August 18, 2022
Serova v. Sony Music Entertainment, S260736
The California Supreme Court held yesterday that a seller’s promotional statements about an artistic work of interest to the public amounted to commercial speech, regardless of whether the seller knew of the statements’ falsity.
Background: The plaintiff sued Sony under the Unfair Competition Law (UCL) and Consumers Legal Remedies Act (CLRA) on the theory that promotional materials for a posthumous Michael Jackson album misrepresented that Jackson was the lead singer. Sony filed a motion to strike under California’s anti-SLAPP statute, arguing that the plaintiff’s UCL and CLRA claims were unlikely to succeed because those statutes target only commercial speech, not noncommercial speech about art protected by the First Amendment.
The Court of Appeal held that the motion should be granted because the plaintiff’s claims targeted protected speech that was immune from suit under the UCL and CLRA. It reasoned that the promotional statements about the album related to a public issue—the controversy over whether Jackson was the lead singer on the album—and were more than just commercial speech because they were connected to music. The plaintiff’s allegation that the statements were false did not strip them of First Amendment protection, according to the Court of Appeal, because Sony didn’t know the statements were false.
Issues: Were Sony’s representations that Michael Jackson was the lead singer on Michael noncommercial speech subject to First Amendment protection (in which case California’s anti-SLAPP statute would apply) or commercial speech (in which case the plaintiff could pursue UCL and CLRA claims against Sony)?
Court’s Holding:
Sony’s representations about the album constituted commercial speech, which can be prohibited entirely if the speech is false or misleading. And those representations did not lose their commercial nature simply because Sony made them without knowledge of their falsity or about matters that are difficult to verify.
“[C]ommercial speech does not lose its commercial nature simply because a seller makes a statement without knowledge or that is hard to verify.”
Justice Jenkins, writing for the Court
What It Means:
-
- Although artistic works often enjoy robust First Amendment protections, the marketing of such works can constitute commercial speech that is regulated by consumer-protection laws.
- It makes no difference whether a seller knew or didn’t know its statements are false, or whether the seller could or couldn’t find out whether its statements are false. If the seller’s speech is commercial, it will not receive full First Amendment protection in California.
- In deciding motions to strike under the anti-SLAPP statute, courts have discretion to skip over the question whether a claim arises from the exercise of free-speech rights and first analyze whether the movant has shown a probability of success.
The Court’s opinion is available here.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the California Supreme Court. Please feel free to contact the following practice leaders:
Litigation Practice
Theodore J. Boutrous, Jr. +1 213.229.7804 tboutrous@gibsondunn.com |
Theane Evangelis +1 213.229.7726 tevangelis@gibsondunn.com |
Appellate and Constitutional Law Practice
Thomas H. Dupree Jr. +1 202.955.8547 tdupree@gibsondunn.com |
Allyson N. Ho +1 214.698.3233 aho@gibsondunn.com |
Julian W. Poon +1 213.229.7758 jpoon@gibsondunn.com |
Blaine H. Evanson +1 949.451.3805 bevanson@gibsondunn.com |
Bradley J. Hamburger +1 213.229.7658 bhamburger@gibsondunn.com |
Michael J. Holecek +1 213.229.7018 mholecek@gibsondunn.com |
Related Practice: Media, Entertainment & Technology
Scott A. Edelman +1 310-557-8061 sedelman@gibsondunn.com |
Kevin Masuda +1 213-229-7872 kmasuda@gibsondunn.com |
Benyamin S. Ross +1 213-229-7048 bross@gibsondunn.com |
Katherine V.A. Smith +1 213.229.7107 ksmith@gibsondunn.com |
Carbon capture, utilization, and sequestration (“CCUS”) projects around the United States received a significant boost from the Inflation Reduction Act of 2022 (the “IRA”).[1] The IRA, which President Biden recently signed into law, includes approximately $369 billion in incentives for clean energy and climate-related program spending, including CCUS projects.[2]
Notably, the IRA (1) substantially increases the availability of the federal income tax credits available for domestic CCUS projects (often referred to as “45Q credits”),[3] (2) makes it easier for CCUS projects to qualify for 45Q credits, and (3) provides significant new avenues for monetizing 45Q credits.[4] The IRA also extends the deadline to begin construction on 45Q credit-eligible projects from 2026 to 2033.
Taken together, these changes are anticipated to significantly increase the number of CCUS projects that will enter service over the coming years.
Substantial Increases in Availability of 45Q Credits
The IRA substantially increases the availability of 45Q credits. Under current law, qualified CCUS facilities that captured qualified carbon oxides (“QCO”) and either used the QCO in enhanced oil and gas recovery (“EOR”) or utilized the QCO in certain industrial applications would have been entitled to receive 45Q credits of up to $35/metric ton (“MT”), and facilities that otherwise disposed of QCO in secure geological storage would have been entitled to receive 45Q credits of up to $50/MT (both rates computed before inflation adjustments).
The IRA effectively increases the above rates to $60/MT and $85/MT (before inflation adjustments) respectively; however the IRA conditions the availability of these credit amounts on satisfying new prevailing wage and apprenticeship requirements (otherwise, the new rates are reduced by 80 percent). At a high level, the prevailing wage and apprenticeship requirements are focused on making sure that projects provide well-paying jobs and training opportunities. The new requirements will apply only to projects the construction of which begins within 60 days on or after the date on which Treasury issues regulatory guidance regarding the new requirements.
The IRA makes similar changes to 45Q credits for QCO captured by direct air capture (“DAC”) facilities, but the availability of 45Q credits for DAC facilities is even larger. Under current law, DAC facilities were eligible for 45Q credits at the same rates as industrial facilities. Under the IRA, DAC facilities are eligible for up to $130/MT for captured QCO used in EOR or utilized in certain industrial applications and $180/MT for other geologically sequestered QCO (subject to the same 80 percent haircut as other projects noted above if the DAC facility fails new prevailing wage and apprenticeship requirements).
The table below illustrates the extent to which the IRA is increasing the value of 45Q credits:
|
2018 BBA 45Q Credit |
2022 IRA 45Q Credit[5] |
QCO Captured by Industrial Facility |
$50/MT |
$85/MT |
QCO Captured by Industrial Facility |
$35/MT |
$60/MT |
QCO Captured by DAC |
$50/MT |
$180/MT |
QCO Captured by DAC |
$35/MT |
$130/MT |
Expansion of Qualified Facilities
The IRA relaxes the annual thresholds that CCUS facilities must satisfy to be eligible for 45Q credits. For electric generating facilities, the IRA lowers the annual threshold from 500,000MT of captured QCO to 18,750MTs of captured QCO.[6] For DAC projects, the IRA lowers the annual threshold from 100,000MTs to just 1,000MTs. The IRA reduces the capture quantity requirements for all other industrial facilities to 12,500MTs. The high thresholds under prior law (combined with the cliff effect of failing to meet those thresholds) were major impediments to the financing of CCUS projects, so these reduced thresholds are a particularly welcome development for the industry.
Additional Options for Easier Monetization of 45Q Credits
The IRA also includes changes that could potentially result in significant adjustments to the manner in which 45Q credits are monetized, potentially diminishing the need for complicated tax equity structures to harvest the benefits of 45Q credits, which could expand the investor marketplace for CCUS projects. Most importantly, the IRA allows an owner of a qualified CCUS project to monetize 45Q Credits by selling any portion of its 45Q credits to third parties for cash or (in certain years) seeking direct payment for 45Q credits from the Treasury. In the case of a transfer, the cash payment received by the transferor will not be treated as taxable income, and the third party transferee may not deduct the cash payment. Once a 45Q credit is transferred to a third party under this rule, the third party may not transfer it again. Although expanded transferability of tax credits opens new potential monetization avenues, many practical questions (such as whether a purchaser that buys credits at a discount to face value would be required to recognize taxable income) remain unanswered and will likely require regulatory guidance. Moreover, the credit transfer regime contemplated by the IRA does not allow for depreciation deductions to be transferred, meaning that sponsors of projects who rely solely on the ability to transfer the 45Q credits will leave tax benefits on the table.
In addition to the new third-party transfer regime, direct payments from the Treasury in lieu of 45Q credits are available; however, with respect to claimants that are taxable entities, such direct payments are only available for the first five years of the twelve-year credit period, limiting the practical utility of the direct payment scheme.
It is important to note that additions to tax may apply to any “excessive credit transfer” (in the case of a credit transfer) or “excessive payments” (in the case of direct payments) in which the credit transferee or taxpayer, respectively, claims in excess of what the credit transferor or taxpayer could validly claim. The addition to tax is 120 percent of the excessive credit transfer or excessive payment. However, the 20 percent penalty component will not apply if the credit transferee or taxpayer can demonstrate reasonable cause for claiming the excessive credit transfer or excessive payment, respectively. Regulatory guidance will be needed to flesh out the details of this reasonable cause exception and other details of how the excessive credit transfer and excessive payment rules will operate in practice.
Conclusion
The IRA potentially fundamentally alters the CCUS landscape in the U.S. The substantially expanded availability of the 45Q credit, broadened scope of qualifying CCUS facilities, and simplified monetization of 45Q credits has the potential to incentivize current CCUS investors to increase the size of their investments, likely will encourage new investors to participate in CCUS projects, and should ensure that CCUS projects will be a significant feature of decarbonization efforts in the U.S.
________________________________
[1] As was the case with the so-called Tax Cuts and Jobs Act, the Senate’s reconciliation rules prevented Senators from changing the Act’s name and so the so-called Inflation Reduction Act is actually “An Act to provide for reconciliation pursuant to title II of S. Con. Res. 14.”
[2] https://www.democrats.senate.gov/imo/media/doc/inflation_reduction_act_one_page_summary.pdf
[3] 45Q credits are authorized by section 45Q of the Internal Revenue Code of 1986 (the “Code”).
[4] Inflation Reduction Act of 2022 (H.R. 5376), §§13104, 13801.
[5] These credit amounts are reduced by 80% unless new prevailing wage and apprenticeship requirements are satisfied (assuming those requirements apply to a project based on when it started construction).
[6] In addition to meeting this minimum requirement, the capture design capacity of the carbon capture equipment at the applicable electric generating unit at the CCUS project must be at least 75% of the baseline carbon oxide production of that unit.
Gibson, Dunn & Crutcher’s lawyers are available to assist in addressing any questions you may have about these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Oil and Gas or Tax practice groups, or the following authors:
Oil and Gas Group:
Michael P. Darden – Co-Chair, Houston (+1 346-718-6789, mpdarden@gibsondunn.com)
Graham Valenta – Houston (+1 346-718-6646, gvalenta@gibsondunn.com)
Zain Hassan– Houston (+1 346-718-6640, zhassan@gibsondunn.com)
Tax Group:
Michael Q. Cannon – Dallas (+1 214-698-3232, mcannon@gibsondunn.com)
Matt Donnelly – Washington, D.C. (+1 202-887-3567, mjdonnelly@gibsondunn.com)
Josiah Bethards – Dallas (+1 214-698-3354, jbethards@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
The Court of Final Appeal (the “CFA”) has recently confirmed that a director is not liable to penalty, by way of additional tax, arising from an incorrect tax return filed by the company which he/she has signed and declared to be correct, on the basis that he/she should not be regarded having made the company’s incorrect tax return.[1]
The CFA’s judgment provides clarity on the meaning and effect of s 82A(1)(a) of the Inland Revenue Ordinance (Cap. 112) (the “IRO”), which empowers the Commissioner of Inland Revenue (the “Commissioner”) to impose additional tax, commonly referred to as penalty tax, on any person who without reasonable excuse “makes” an incorrect tax return.
It should, however, be noted that the relevant provision has also recently been amended to cover a person who “causes or allows to be made on the person’s behalf, an incorrect return”, and it remains to be seen how this amendment will affect a director’s liability in relation to any company’s incorrect returns signed and declared to be correct by him/her.
1. Background and Procedural History
The CFA judgment was on the appeal by the Commissioner against a decision of the Court of Appeal (“CA”) in October 2019, in which the CA dismissed the Commissioner’s appeal against a decision of the Court of First Instance (the “CFI”) made in November 2018. The CFI ruled in favour of Mr Koo Ming Kown (“Mr Koo”) and Mr Murakami Tadao (“Mr Murakami”), who appealed against two earlier decisions of the Board of Review (the “Board”) upholding certain penalty tax assessed against them.[2]
Mr Koo and Mr Murakami were directors of Nam Tai Electronic & Electrical Products Limited (the “Company”) at the material times when the Company’s returns for the years 1996/97, 1997/98 and 1999/2000 were filed. Mr Koo and Mr Murakami respectively signed and declared to be correct the first and third, and the second, of these returns. Mr Murakami and Mr Koo ceased to be directors of the Company in 2002 and 2006 respectively.
Following a tax audit in 2002, the Inland Revenue Department (the “IRD”) disallowed claims for deductions made in the returns, and assessed the Company to undercharged tax under s 60 of the IRO, which the Company challenged unsuccessfully. The Company did not pay the amounts assessed and was eventually wound up in June 2012 by the court on the petition of the Commissioner.
In 2013, Mr Koo and Mr Murakami were assessed to additional tax under s 82A(1)(a) of the IRO in the amount of HK$12,600,000 and HK$5,400,000 respectively, on the basis that the Company’s returns were incorrect. They appealed to the Board, which found against them. The Board found the returns to have been incorrect and increased the overall amounts payable by Mr Koo and Mr Murakami.
Mr Koo and Mr Murakami appealed to the CFI, which accepted their primary argument that they did not fall within s 82A(1)(a) of the IRO. The CFI ordered the annulment of the additional tax assessments against Mr Koo and Mr Murakami. The Commissioner appealed to the CA, which upheld the CFI’s decision that Mr Koo and Mr Murakami were not required by the IRO to make the returns on behalf of the Company, and therefore could not be made liable to additional tax under s 82A(1)(a).
The Commissioner appealed to the CFA but Mr Koo and Mr Murakami informed the CFA that they did not intend to oppose the Commissioner’s appeal and would not attend the hearing in person or instruct lawyers to do so. The CFA appointed Mr Eugene Fung SC and Mr John Leung as amici curiae, who filed submissions addressing the questions before the CFA that supported the CA and CFI decisions.
2. The CFA’s Decision
Whether Mr Koo and Mr Murakami should be liable for the Company’s incorrect returns signed by them depends on whether they fall within the description, in the s 82A(1)(a) prevailing at the material times, of a “person who without reasonable excuse – (a) makes an incorrect return by omitting or understating anything in respect of which he is required by this Ordinance to make a return, either on his behalf or on behalf of another person…”[3]
The Commissioner contended that the individuals specified under s 57(1),[4] which included Mr Koo and Mr Murakami as directors of the Company, were “answerable” for doing all such acts as were required to be done by the Company under the IRO, and accordingly they were required to make the Company’s returns; and further that, by physically signing and declaring to be correct the relevant Company’s returns, they did make the Company’s return on behalf of the Company as a corporate taxpayer. On the case for the Commissioner, the individuals identified under s 57(1) to be “answerable” (for doing all such acts as required to be done by a corporate taxpayer) are required (secondarily) to do such acts which the corporate taxpayer is (primarily) required to do under the IRO.
Upon examining the legislative history and context, the CFA disagreed with the Commissioner’s construction of the relevant provisions in the IRO. The CFA confirmed the decisions of the CFI and the CA and concluded that the Company (being the entity to which the notice for making a return was issued under s 51(1)), rather than the individual who signed the return, was the “person” legally required to make, and did make, the return. There is a distinction between answerability under s 57(1), which means that the individuals specified under s 57(1) are responsible for seeing or ensuring the corporate taxpayer does the act in question, and an obligation or requirement to do such act on behalf of the company.
Accordingly, the CFA dismissed the Commissioner’s appeal.
3. Conclusion
The CFA judgment helpfully clarifies that a director of a company (or any other relevant individual specified under s 57(1)) is not required to “make” the tax return of the company, and does not make such tax return by reason that he/she has signed, and declared his/her belief in the correctness of the information in, the returns filed by the company. Therefore, such director or individual specified under s 57(1) does not incur liability under s 82A(1)(a) of the IRO.
However, as from 11 June 2021, s 82A(1)(a) has been amended to provide that “[a]ny person who without reasonable excuse—(a) makes, or causes or allows to be made on the person’s behalf, an incorrect return by omitting or understating anything in respect of which he is required by this Ordinance to make a return, either on his behalf or on behalf of another person…” (emphasis added to show the amendments).[5]
It remains to be seen whether, notwithstanding that a company’s director signing (or approving the filing of) the company’s tax return is not one who “makes” the tax return, he/she might be caught by the current s 82A(1)(a) as a person who has “caused” or “allowed” the tax return to be made on the company’s behalf, and hence may be exposed to liability should the company’s tax return be found to be incorrect.
_____________________________
[1] Koo Ming Kown & Murakami Tadao v Commissioner of Inland Revenue [2022] HKCFA 18. A copy of the judgment of the Court of Final Appeal is available here. The judgment in the Court of Appeal ([2021] HKCA 1037) is available here. The judgment in the Court of First Instance ([2018] HKCFI 2593) is available here.
[2] Board of Review, Cases D32/16 (available here) and D33/16 (available here).
[3] The current s 82A(1)(a) provides that “[a]ny person who without reasonable excuse—(a) makes, or causes or allows to be made on the person’s behalf, an incorrect return by omitting or understating anything in respect of which he is required by this Ordinance to make a return, either on his behalf or on behalf of another person…” (emphasis added to show the amendments).
[4] The then-prevailing s 57(1) provided that “[t]he secretary, manager, any director or the liquidator of a corporation and the principal officer of a body of persons shall be answerable for doing all such acts, matters or things as are required to be done under the provisions of this Ordinance by such corporation or body of persons”; whilst the current s 57(1) provides that “[t]he following person is answerable for doing all the acts, matters or things that are required to be done under the provisions of this Ordinance by a corporation or body of persons—(b) for any other corporation [that is not an open-ended fund company], the secretary, manager, any director or the provisional liquidator or liquidator of the corporation…”
[5] See the Inland Revenue (Amendment) (Miscellaneous Provisions) Ordinance 2021, Ord. No. 18 of 2021, Gazette published on 11 June 2021, No. 23 Vol. 25 – Legal Supplement No. 1, available here.
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 the authors and the following lawyers in the Litigation Practice Group of the firm in Hong Kong:
Brian Gilchrist (+852 2214 3820, bgilchrist@gibsondunn.com)
Elaine Chen (+852 2214 3821, echen@gibsondunn.com)
Alex Wong (+852 2214 3822, awong@gibsondunn.com)
Celine Leung (+852 2214 3823, cleung@gibsondunn.com)
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On August 2, 2022, the Committee on Foreign Investment in the United States (“CFIUS” or the “Committee”) released its annual report covering calendar year 2021 (the “Annual Report”).[1] This report represents the first full calendar year in which the Committee operated pursuant to the new regulations implemented in 2020 under the Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”).[2]
Our top observations from the Annual Report are set forth below.
- Amidst the Backdrop of a Strong M&A Market, The Committee Reviewed a Record Number of Filings
Parties to a covered transaction may initiate CFIUS’s national security review of the transaction by filing a short-form declaration or a full-length written notice. Consistent with the robust M&A market in 2021, CFIUS reviewed a record number of 436 total filings in 2021, up 39 percent from 2020. 164 (38 percent) of these filings were declarations, and 272 (62 percent) were written notices, both figures representing significant percentage increases from 2020.[3]
2020 | 2021 (∆) | |
Declarations | 126 | 164 (↑30%) |
Notices | 187 | 272 (↑45%) |
Total Filings | 313 | 436 (↑39%) |
-
- The Use of Short-Form Declarations and CFIUS Clearance Rates of Such Declarations Have Increased Significantly
Short-form declarations were introduced through the passage of FIRRMA in 2018, as both an optional form of filing and pursuant to mandatory requirements under certain conditions. Although a recent introduction, the statistics noted above indicate that declarations are emerging as a viable alternative to the traditional written notice process in certain situations.
Less than a third of declarations filed in 2021 were subject to mandatory requirements (47 of 164 total declarations), indicating that parties are increasingly seeing value in filing a voluntary declaration, which has fewer requirements and a shorter review timeline. Although, there is always a risk with a declaration that the overall CFIUS timeline and burden could be lengthened should the Committee request the parties to file a written notice or determine it is unable to conclude action on the basis of the declaration after the 30-day declaration review. Thus, deciding whether to file a declaration versus a notice should be based on an overall risk calculus of many factors. As the numbers reflect, the availability of the declaration process does not replace notices as a filing of choice in all instances.
Committee Action | Number of Declarations (164 Total) |
Request parties file a written notice | 30 (18%) |
Unable to conclude action | 12 (7%) |
Clearance | 120 (73%) |
Rejected | 2 (1%) [4] |
To put these numbers into perspective, Committee clearance of declarations increased from less than 10 percent in 2018, to 37 percent in 2019, to 64 percent in 2020, and 73 percent this past year.[5] CFIUS also requested slightly fewer written notices from parties who filed declarations (18 percent, down from 22 percent), and reduced the number of instances in which the parties were informed that CFIUS was unable to conclude action on the basis of the declaration—from 13 percent to 7 percent.[6]
- There was a Significant Jump in Withdrawn Notices – But the Percentage of Abandoned Transactions Remained Consistent with 2020
A notable uptick was seen in the number and percentage of withdrawn notices in 2021 – 74 in 2021 (27 percent) versus 29 in 2020 (15.5 percent).[7] Similar to 2020, just under half of all notified transactions proceeded to the subsequent 45-day investigation phase (130).[8] It was during this investigation phase that nearly all (72) of the 74 notices were withdrawn.[9] Most notices were withdrawn after CFIUS informed the parties that the transaction posed a national security risk and proposed mitigation terms.[10] In the vast majority of withdrawn notices in 2021 (85 percent), parties filed a new notice.[11]
Eleven notices, representing four percent of the total number of notices filed in 2021, were withdrawn and the transaction ultimately abandoned either because (i) CFIUS informed the parties that it was unable to identify mitigation measures that would resolve the national security concerns, or the parties rejected mitigation measures proposed by the Committee (nine withdrawals); or (ii) for commercial reasons (two withdrawals).[12] This is relatively consistent with the figures on abandoned transactions in 2020 (just above four percent).[13]
Notably, 2021 was the first year since 2016 in which no Presidential decisions were issued.[14]
- Canadian Acquirers Accounted for the Largest Number of Declarations, while Chinese Investors Greatly Preferred and Led in the Number of Notices Submitted
Investors from Canada accounted for the largest number of declarations filed in 2021 (22), representing approximately 13 percent of the total.[15] Other countries commonly characterized by the U.S. government as presenting lower national security risks also topped the list of declarations, with Australia, Germany, Japan, South Korea, Singapore and United Kingdom cumulatively accounting for 62—or approximately 38 percent—of the 164 declarations submitted in 2021. [16] These numbers are generally consistent with previous years’ trends. From 2019 to 2021, Canadian investors submitted 54 declarations, more than any other country. [17] Japanese and United Kingdom investors accounted for the second and third-most declarations filed over the same three-year period. [18]
While Canadian investors may be increasingly utilizing the declaration process, they also still account for a significant number of full-length notices (28, approximately 10 percent of total notices filed, more than any other country except China). The high volume of Canadian declarations and notices is reflective of the significant business activity between the U.S. and Canada, particularly in sectors that may present national security risk, as discussed in insight #5 below.
In contrast to the Canadian utilization of both declarations and notices, Chinese investors largely eschewed the declaration process, filing only one declaration in 2021. [19] Chinese investors filed the highest number of notices last year, with 44 notices, or 16 percent of the total. [20] This represents a 159 percent increase from 2020, and a 76 percent increase from 2019. [21] This increase may not be fully reflective of economic factors in 2021, as this increase comes as CFIUS is intentionally focusing on non-notified historic transactions.
China’s 2021 numbers are also consistent with the last three years, over which Chinese investors submitted 86 notices, but only nine declarations. [22] As noted in our discussion in insight #2, this apparent preference of Chinese investors to forego the short-form declaration in favor of the prima facia lengthier notice process may indicate a calculus that amidst U.S.-China geopolitical tensions, the likelihood of the Committee clearing a transaction involving a Chinese acquiror through the scaled down declaration process is quite low, and therefore a declaration filing may merely result in the Committee requesting after 30 days that the parties submit a notice, thus actually adding time to the process overall.
The low number of declarations also indicates that Chinese investors may be shying away from the more sensitive transactions, such as those involving critical technologies, which would require mandatory declarations.
- 2021 Figures Confirm Focus on Business Sectors Associated with Critical Technologies and Sensitive Data
Consistent with previous years, a high majority of CFIUS filings in 2021 involved the Finance, Information and Services and Manufacturing sectors, with those two sectors collectively accounting for over 80 percent of CFIUS filings.[23]
Business Sector | Notices |
Finance, Information, and Services | 55% |
Manufacturing | 28% |
Mining Utilities and Construction | 12% |
Wholesale Trade, Retail Trade and Transportation | 4% |
In 2021, CFIUS reviewed 184 covered transactions involving acquisitions of U.S. critical technology companies.[24] In contrast to the 2020 data, the number of critical technologies filings have increased by 51 percent.[25] Consistent with the 2020 data, the largest number of notices filed remained to be the Professional, Scientific, and Technical Services subsector of the Finance, Information and Services sector (35) and Computer / Electronic Product Manufacturing subsector of the Manufacturing sector (31).[26]
Further, consistent with the observations made in insight #4 above, countries seen as traditionally U.S.-allied, such as Germany, United Kingdom, Japan, and South Korea, accounted for the most acquisitions of U.S. critical technology in 2021.[27] These four countries accounted for approximately 33 percent of such transactions. Of note, Canada and China each accounted for approximately five percent of transactions involving the acquisition of U.S. critical technologies.[28]
In light of the new policy mandate, critical technologies is expected to be a continuous focus of the Committee in coming years. Although the Annual Report does not specifically report on covered transactions involving acquisitions of U.S. companies with sensitive data, the sector-specific statistics indicate that this continues to be a focus area.
- The Committee Shortened Its Response Times to Respond to Draft Notices and Accept Formal Notices, but Continues to Take Advantage of the Full Time Periods to Complete its Actual Reviews
Parties submitting draft notices to the Committee in 2021 received comments back from the Committee on average in just over six business days, an improvement from the 2020 average of approximately nine days.[29] Similarly, the Committee averaged six business days to accept a formal written notice after submission, which is an improvement from the average of 7.7 business days reported in the 2020 Annual Report.[30]
In terms of the Committee’s turnaround times once a declaration or notice has been filed/accepted, the Committee in 2021 generally utilized the entire available regulatory periods available. With respect to a declaration, the Committee is required to take action [31] within 30 business days after receiving a declaration. Upon acceptance of a formal notice, the Committee has an initial 45 business days to review the filing and may extend the review period into a further investigation period of 45 business days.
Regarding declarations submitted in 2021, it took the Committee, on average, the entire 30-day period to conclude action. [32] Similarly, it took the Committee an average of 46.3 calendar days to close a transaction review during the initial review stage. [33] If the Committee extended the review into the subsequent investigation phase, the Committee completed the investigation, on average, within 65 calendar days. [34] However, this number may be misleading, and in practice parties should expect the Committee to complete investigations closer to the full 90-day deadline because the Annual Report indicates that the median for investigation closures was 89.5 calendar days. [35]
- No Significant Changes Regarding Mitigation Measures and Conditions
In 2020, CFIUS adopted mitigation measures and conditions with respect to 23 notices or 12 percent of the total number of 2020 notices. [36] On a percentage basis, 2021 saw a marginal overall decrease in the adoption of mitigation measures and conditions. The Committee adopted mitigation measures and conditions with respect to 31 notices or 11 percent of the total number of 2021 notices. [37] For 26 notices, CFIUS concluded action after adopting mitigation measures. [38] With respect to four notices that were voluntarily withdrawn and abandoned, CFIUS either adopted mitigation measures to address residual national security concerns, or imposed conditions without mitigation agreements.[39] Lastly, as in 2020, measures were imposed to mitigate interim risk for one notice filed in 2021.[40]
It is worth noting that the Committee conducted 29 site visits in 2021 for the purpose of monitoring compliance with mitigation agreements. [41] Where non-compliance was identified, monitoring agencies worked with the parties to achieve remediation. [42]
While CFIUS reviews are highly fact-specific and nuanced, based on historical data points, we can expect the Committee to complete action on a majority of transactions in 2022 without conditions or mitigating measures.
- Real Estate Transactions Comprise a Minute Portion of CFIUS Reviews
Despite CFIUS’s expanded authority to review real estate transactions that may present a national security risk, such as proximity to sensitive U.S. military or government facilities, such transactions remain a very small portion of the total transactions reviewed by the Committee. Only five notices and one declaration concerning real estate were reviewed in 2021.[43] While the lack of real estate CFIUS filings could be tied to economic factors, this space remains one to watch in future years.
- Requested Filings For Non-Notified/Non-Declared Transactions Decreased
In addition to transaction parties proactively filing with the Committee, the Committee may also identify and initiate unilateral review of a transaction, and may request the parties to submit a filing. The 2020 Annual Report was the first report to contain data relating to the number of non-notified/non-declared transactions identified and put forward to the Committee for consideration.
While CFIUS identified 135 non-notified/non-declared transactions in 2021—compared to 117 in 2020—fewer transactions resulted in a request for filing. [44] Out of 117 identified transactions in 2020, 17 resulted in a request for filing versus just eight requests for filing in 2021.[45]
Given that the number of transactions identified increased, the Committee appears committed to enhancing and utilizing methods for improving the identification of non-notified/non-declared transactions. In fact, in the press release announcing the Annual Report, the Department of Treasury noted as a “key highlight” that CFIUS continues to hire talented staff to support identifying transactions that are not voluntarily filed with the Committee, as well as monitoring and enforcement activities.[46] As such, the trends in the number of non-notified/non-declared transaction will be an important space to watch.
Conclusion
The record increase in CFIUS filings this year reflects the continuing expansion of the Committee’s scope and resources since the enactment of FIRRMA, as well as the recognition by foreign acquirers of the increased risks and sensitivities when it comes to transactions involving U.S. businesses that may pose potential national security risks in the eyes of the Committee. CFIUS has consistently reviewed more covered transactions from year to year, and we see no indication this trend will not continue.
_________________________
[1] Committee on Foreign Investment in the United States, “Annual Report to Congress, Report Period: CY 2021”, available at: https://home.treasury.gov/system/files/206/CFIUS-Public-AnnualReporttoCongressCY2021.pdf.
[2] For further detail on the impact of FIRRMA, see our previous alert “CFIUS Reform: Top Ten Takeaways from the Final FIRRMA Rules,” Feb. 19, 2020, available at: https://www.gibsondunn.com/cfius-reform-top-ten-takeaways-from-the-final-firrma-rules/.
[3] Annual Report at 4, 15.
[4] In one of these instances, the parties re-filed as a notice.
[5] Committee on Foreign Investment in the United States, “Annual Report to Congress, Report Period: CY 2018,” at 31 (the “2018 Annual Report”) available at: https://home.treasury.gov/system/files/206/CFIUS-Public-Annual-Report-CY-2018.pdf; ; Committee on Foreign Investment in the United States, “Annual Report to Congress, Report Period: CY 2019,” at 33 (the “2019 Annual Report”) available at: https://home.treasury.gov/system/files/206/CFIUS-Public-Annual-Report-CY-2019.pdf; Committee on Foreign Investment in the United States, “Annual Report to Congress, Report Period: CY 2020,” at 4 (the “2020 Annual Report”) available at: https://home.treasury.gov/system/files/206/CFIUS-Public-Annual-Report-CY-2020.pdf.
[6] 2020 Annual Report at 4; Annual Report at 4.
[7] 2020 Annual Report at 15; Annual Report at 15.
[8] Annual Report at 15.
[9] Annual Report at 37.
[10] Id.
[11] Id.
[12] Id.
[13] 2020 Annual Report at 15.
[14] Annual Report at 15; 2020 Annual Report at 17.
[15] Annual Report at 11.
[16] Annual Report at 11-12.
[17] Annual Report at 11
[18] Annual Report at 11-12.
[19] Annual Report at 11
[20] Annual Report at 32.
[21] Id.
[22] Annual Report at 11, 32.
[23] Annual Report at 20.
[24] Annual Report at 48.
[25] 2020 Annual Report at 51.
[26] Annual Report at 50.
[27] Annual Report at 49.
[28] Id.
[29] 2020 Annual Report at 18; Annual Report at 18.
[30] 2020 Annual Report at 18; Annual Report at 18.
[31] Upon receiving a declaration, the Committee may request that the parties file a written notice, inform the parties that the Committee is unable to complete action under the initial review phase on the basis of the declaration, initiate a unilateral review, or notify the parties it has completed all action with respect to the transaction. 50 U.S.C. § 4565(b)(1)(C)(v)(III)(aa).
[32] Annual Report at 13.
[33] Annual Report at 18. Considering that the figure of 46.3 days is expressed in calendar days and not business days, we take the view that the time taken by the Committee to close a transaction review is acceptable.
[34] Annual Report at 18.
[35] Id.
[36] 2020 Annual Report at 40.
[37] Annual Report at 38.
[38] Id.
[39] Id.
[40] Id.
[41] Annual Report at 44.
[42] Id.
[43] Annual Report at 4, 22.
[44] Annual Report at 45.
[45] 2020 Annual Report at 48; Annual Report at 45.
[46] “Treasury Releases CFIUS Annual Report for 2021,” (Aug. 2, 2022) available at:
https://home.treasury.gov/news/press-releases/jy0904.
The following Gibson Dunn lawyers prepared this client alert: Stephenie Gosnell Handler, David Wolber, Judith Alison Lee, Adam M. Smith, Annie Motto, and Jane Lu*.
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 practice 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)
Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com)
David P. Burns – Washington, D.C. (+1 202-887-3786, dburns@gibsondunn.com)
Stephenie Gosnell Handler – Washington, D.C. (+1 202-955-8510, shandler@gibsondunn.com)
Nicola T. Hanna – Los Angeles (+1 213-229-7269, nhanna@gibsondunn.com)
Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@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)
Laura R. Cole – Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com)
Annie Motto – Washington, D.C. (+1 212-351-3803, amotto@gibsondunn.com)
Chris R. Mullen – Washington, D.C. (+1 202-955-8250, cmullen@gibsondunn.com)
Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com)
Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com)
Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com)
Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)
Asia
Kelly Austin – Hong Kong (+852 2214 3788, kaustin@gibsondunn.com)
David A. Wolber – Hong Kong (+852 2214 3764, dwolber@gibsondunn.com)
Fang Xue – Beijing (+86 10 6502 8687, fxue@gibsondunn.com)
Qi Yue – Beijing – (+86 10 6502 8534, qyue@gibsondunn.com)
Europe
Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com)
Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com)
Susy Bullock – London (+44 (0) 20 7071 4283, sbullock@gibsondunn.com)
Patrick Doris – London (+44 (0) 207 071 4276, pdoris@gibsondunn.com)
Sacha Harber-Kelly – London (+44 (0) 20 7071 4205, sharber-kelly@gibsondunn.com)
Penny Madden – London (+44 (0) 20 7071 4226, pmadden@gibsondunn.com)
Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33 180, mwalther@gibsondunn.com)
Richard W. Roeder – Munich (+49 89 189 33 115, rroeder@gibsondunn.com)
* Jane Lu is a trainee solicitor working in the firm’s Hong Kong office who is not yet admitted to practice law.
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
I. Introduction: Themes and Notable Developments in Rulemaking & Enforcement
A. Heightened Enforcement
In our 2021 Year-End Review, we noted that the Division of Enforcement under this Administration had outlined its vision of aggressive, heightened enforcement through an escalation of existing remedies, including increased penalties, individual bars and admissions. The first half of 2022 reflected the Enforcement Division pursuing the playbook as forecasted.
In the first half of 2022, the Commission filed complaints or settled matters in many of its priority areas, such as digital assets and environmental, social and governance (“ESG”) disclosures, and assessed significantly heightened monetary penalties.[1]
The Commission also brought its first substantive enforcement action involving Regulation Best Interest (“Reg BI”).[2] Reg BI—which establishes a “best interest” standard for investment recommendations by broker-dealers—went into effect on June 20, 2020, and abrogates the prior suitability standard for retail customers. The SEC filed a complaint relating to the sale of allegedly high-risk bonds to a number of retail customers alleging, among other things, that the broker-dealer did not conduct adequate diligence on the bonds, did not adequately advise its brokers of the risks, and did not have adequate policies and procedures for compliance with Reg BI.
The Commission’s Reg BI action is also an example of its continuing emphasis on naming and/or charging individual respondents along with entities. Notwithstanding the alleged institutional shortcomings, the complaint also names five individual brokers who earned as little as $5,400 in commissions from the sale of the bonds. All the defendants are litigating the action.[3] (More details are provided in the Broker-Dealers section below.) The result inevitably increases the litigation burden on the Staff of the Enforcement Division.
B. The Age of Dissent
Also of note is the extent to which the Commission’s heightened enforcement agenda is routinely drawing public dissent from at least one of the Commissioners, Hester Peirce.
Commissioner Peirce has long been critical of the Commission’s approach to regulation of the market for digital assets. In February, she reiterated that same criticism in response to a settled enforcement action against a financial services company to which investors lend crypto assets in exchange for a variable interest rate generated through the use of the crypto assets in lending and investment activities. The settled enforcement action alleged, among other things, violations of the registration provisions of the Securities Act and Investment Company Act. Commissioner Peirce again criticized the Commission’s lack of flexibility in subjecting the respondent to challenging registration requirements of the Investment Company Act without a willingness to structure a workable exemption that would still accomplish the Commission’s regulatory mission. Commissioner Peirce admonished that if the Commission is sincere in its invitation to hear from participants in digital asset markets, then the Commission “need[s] to commit to working with these companies to craft sensible, timely, and achievable regulatory paths.”[4]
In another example, in response to a settled insider trading enforcement action, Commissioner Peirce undertook a granular analysis of the factual findings of the Commission’s order and criticized the sufficiency of the evidence to establish the elements of a violation. The Commission found that the respondent had misappropriated material nonpublic information from a business partner who was on the board of the issuer. In finding that the respondent had become aware of material nonpublic information, the order pointed to public facts that the business partner had joined the board in part to assist with pursuing strategic opportunities combined with the respondent “observing [the insider’s] increased activities” at the issuer. Describing the order’s series of inferences as “a rickety structure at best,” Commissioner Peirce noted that the order appears to endorse an unsupported approach to the standard of materiality in which “the existence of a relationship of trust and confidence somehow transmogrifies non-material, public information into material, non-public information.” Of course, as a settled order, the Commission’s theory of liability is not subject to the test of litigation.[5]
More recently, Commissioner Peirce dissented from a settled enforcement action against a broker-dealer for alleged violations of the suitability, compliance and recordkeeping provisions arising from the sale of certain variable rate structured products. Commissioner Peirce dissented because the settlement order recited that, in accepting the respondent’s offer, the Commission took into consideration the respondent’s remedial acts, which included adopting a policy that prohibits the sale of the securities at issue to retail customers. Commissioner Peirce argued that the “Commission’s orders should not intimate that certain types of investments are never suitable for particular classes of investors.” In particular, Commissioner Peirce noted that the Commission’s acknowledgment of, and reliance on, the remedial step taken by the respondent “may be read either as implying that an absolute prohibition on the sale of a specific product is the only acceptable remedial measure here or as an expectation for other firms dealing with retail clients.”[6]
In another recent example, Commissioner Peirce issued a lengthy public dissent from a settled enforcement action against an accounting firm because the action was based in part on an alleged failure of the respondent to update a response to a voluntary information request from the Staff, notwithstanding that the respondent firm investigated and self-reported the underlying issue to its primary regulator, the PCAOB. Commissioner Peirce sharply criticized the Commission’s position as “lack[ing] sound legal grounding,” “woefully misguided” and “patently unfair.”[7]
These examples are important in that persons and entities subject to investigation have an audience on the Commission, albeit a minority, that provides a potential counterweight to the most aggressive instincts of this Commission, and may be receptive to arguments or positions that are contrary to those advanced by the Enforcement Division. However, make no mistake: the majority of this Commission will continue to pursue an aggressive enforcement agenda for the remainder of this Administration.
C. Litigation Update
In mid-July, the United States Court of Appeals for the Second Circuit issued a decision in SEC v. Rio Tinto plc, definitively limiting the way that the SEC has interpreted the boundaries of scheme liability after the Supreme Court’s decision in Lorenzo v. SEC. The SEC argued in Rio Tinto that alleged misstatements and omissions in annual reports and offering documents could form the basis of a scheme liability claim. The Second Circuit disagreed, holding that Lorenzo did not abrogate prior caselaw that scheme liability requires fraudulent conduct beyond mere misstatements and omissions. Our prior client alert provides additional information regarding the decision.
D. Commissioner and Senior Staffing Update
In the first half of 2022, the Commission experienced a number of changes in its senior staff, as well as the addition of a new Commissioner (with another Commissioner joining in July).
In June, Mark T. Uyeda was sworn into office as a Commissioner, filling the position most recently held by Elad Roisman.[8] He is the first Asian Pacific American to serve as a Commissioner at the SEC. He served on the staff of the SEC for 15 years before his appointment to the Commission, including as a Senior Advisor to various Commissioners and in roles in the Division of Investment Management. Commissioner Uyeda, a Republican, and Jaime Lizárraga, a Democrat, were both confirmed by the Senate earlier that month.[9] Mr. Lizárraga most recently served as a Senior Advisor to House Speaker Nancy Pelosi, and previously worked on the Democratic staff of the House Financial Services Committee.[10] He was sworn in on July 18 to fill the seat of Allison Herren Lee following her departure from the Commission.
At the staff level, the Division of Examinations, in particular, saw significant changes in leadership. Daniel S. Kahl, Acting Director of the Division, left the SEC in March.[11] Following Mr. Kahl’s departure, Richard R. Best left his post as Director of the New York Regional Office to serve as Acting Director and, later, Director of the Division of Examinations.[12] In January, the Division’s Deputy Director since 2018, Kristin Snyder, also left the agency.[13] Ms. Snyder had also led the Investment Adviser/Investment Company (IA/IC) examination program, including the Private Funds unit, since 2016. Following her departure, Joy Thompson has been serving as Acting Deputy Director and Acting Associate Director of the Private Funds Unit, and Natasha Vij Greiner has been serving as Acting Co-National Associate Director of the IA/IC examination program.
There was significant turnover at the regional offices, with five of eleven regional offices experiencing changes in leadership. Those changes, as well as other changes in the senior staffing of the Commission, include:
- In February, Lori H. Price was named Acting Director of the Office of Credit Ratings, replacing Ahmed A. Abonamah, who left the agency that month.[14]
- Also in February, Kelly L. Gibson, Director of the SEC’s Philadelphia Regional Office since 2020, left the agency.[15] Scott Thompson and Joy Thompson have been serving as Acting Co-Directors of the Philadelphia Regional Office following Ms. Gibson’s departure.
- In March, Lara Shalov Mehraban began serving as Acting Director of the New York Regional Office following Richard R. Best’s transition to his new role in the Division of Examinations.[16]
- Also in March, Erin E. Schneider, Director of the SEC’s San Francisco Regional Office since 2019, left the agency.[17] Monique C. Winkler has been serving as Acting Regional Director following Ms. Schneider’s departure.
- In June, Tracy S. Combs was named Director of the Salt Lake Regional Office.[18] Combs previously served in the agency’s Division of Enforcement, including as counsel to the Director of Enforcement since 2021. Tanya Beard, who served as Acting Director prior to Ms. Comb’s appointment, remains in the Salt Lake Regional Office as Assistant Regional Director of Enforcement.
- In July, Kurt. L. Gottschall, Director of the Denver Regional Office since 2018, left the SEC.[19] Jason J. Burt and Thomas M. Piccone have been serving as Co-Acting Regional Directors following Mr. Gottschall’s departure.
E. SPACs
The SEC continued its focus on Special Purpose Acquisition Companies (“SPACs”) in the first half of 2022. While there were no enforcement actions specifically related to SPACs, the SEC, in March, proposed new rules intended to enhance disclosure and investor protection in initial public offerings (“IPOs”) by SPACs and in subsequent business combinations between SPACs and private operating companies (“de-SPAC transactions”).[20] SEC Chair Gary Gensler described these proposed rules as crucial to “help ensure” that “disclosure[,] standards for marketing practices[,] and gatekeeper and issuer obligations” as applied in the traditional IPO context also apply to SPACs.[21] Chair Gensler further observed that “[f]unctionally, the SPAC target IPO is being used as an alternative means to conduct an IPO.”[22]
The proposed rules, which include new rules and amendments to existing rules, involve four key components:
- Disclosure and Investor Protection: creating specific disclosure requirements with respect to, among other things, compensation paid to sponsors, potential conflicts of interest, dilution, and the fairness of the business combination, for both the SPAC IPOs and de‑SPAC transactions;
- Business Combinations Involving Shell Companies: deeming a business combination transaction involving a reporting shell company and a private operating company as a “sale” of securities under the Securities Act of 1933 (the “Securities Act”) and amending the financial statement requirements applicable to transactions involving shell companies. Furthermore, the rules will amend the current “blank check company” definition to make clear that SPACs cannot rely on the safe harbor provision under the Private Securities Litigation Reform Act of 1995 when marketing a de-SPAC transaction;
- Projections: expanding and updating the Commission’s guidance on the presentation of projections in filings with the Commission to address the reliability of such projections; and
- New Safe Harbor under the Investment Company Act of 1940: creating a safe harbor that SPACs may rely on to avoid being subject to registration as investment companies under the Investment Company Act of 1940. The safe harbor would (i) require SPACs to hold only assets comprising of cash, government securities, or certain money market funds; (ii) require the surviving entity to be engaged primarily in the business of the target company; and (iii) impose a time limit, from the SPAC IPO, of 18 months for the announcement (and 24 months for the completion) of the de-SPAC transaction.
For a more detailed discussion of these proposed rules, see our prior alert on the subject.
F. Cybersecurity
The SEC continued its history of rulemaking in the area of cybersecurity matters during the first half of 2022.
1. Public Companies
In March, the SEC proposed further amendments to its rules which would require, among other things, current reporting about material cybersecurity incidents and periodic reporting to provide updates about previously reported cybersecurity incidents.[23] The proposal also would require periodic reporting about a public company’s policies and procedures to identify and manage cybersecurity risks; the registrant’s board of directors’ oversight of cybersecurity risk; and management’s role and expertise in assessing and managing cybersecurity risk and implementing cybersecurity policies and procedures. The proposal further would require annual reporting or certain proxy disclosure about the board of directors’ cybersecurity expertise, if any.
For a more detailed discussion of the proposed rule, see our prior alert on the subject.
2. Investment Management
In February, the SEC voted to propose rules related to cybersecurity risk management for registered investment advisers, and registered investment companies and business development companies (funds), as well as amendments to certain rules that govern investment adviser and fund disclosures.[24] The proposed rules would require advisers and funds to adopt and implement written cybersecurity policies and procedures. The proposed rules also would require advisers to report significant cybersecurity incidents affecting the adviser or its fund or private fund clients to the Commission on a new confidential form, and to publicly disclose cybersecurity risks and significant cybersecurity incidents that occurred in the last two fiscal years in their brochures and registration statements. Additionally, the proposal would set forth new recordkeeping requirements for advisers and funds.
For further discussion of the proposed rule, see our prior alert regarding 2022 rule proposals targeting advisers to private funds.
G. ESG
The Division of Enforcement’s Climate and ESG Task Force, led by Sanjay Wadhwa, Deputy Director of the Division of Enforcement, has ramped up its efforts since its founding in May 2021, reportedly using “sophisticated data analysis to mine and assess information” to identify “material gaps or misstatements” in issuer’s disclosures and disclosures relating to investment advisers’ and funds’ ESG strategies.[25] Meanwhile, the Commission is also engaged in a number of rulemaking efforts relating to ESG.
1. Public Companies
In March, the SEC proposed rule changes that would require registrants to include certain climate-related disclosures in their registration statements and periodic reports.[26] The proposed rule changes would require a registrant to disclose information about (i) the issuer’s governance of climate-related risks and relevant risk management processes; (ii) how any climate-related risks identified by the registrant have had or are likely to have a material impact on its business and consolidated financial statements, which may manifest over the short-, medium-, or long-term; (iii) how any identified climate-related risks have affected or are likely to affect the registrant’s strategy, business model, and outlook; and (iv) the impact of climate-related events, and transition activities on the line items of a registrant’s consolidated financial statements, as well as on the financial estimates and assumptions used in the financial statements.
For public companies that already conduct scenario analyses, have developed transition plans, or publicly set climate-related targets or goals, the proposed amendments would require certain disclosures to enable investors to learn about those aspects of the registrants’ climate risk management.
The proposed rules also would require a registrant to disclose information about its direct greenhouse gas (“GHG”) emissions and indirect emissions from purchased electricity or other forms of energy, as well as from upstream and downstream activities in its value chain. The proposed rules provide a safe harbor for liability and an exemption from certain disclosure requirements for smaller reporting companies. Under the proposed rule changes, accelerated filers and large accelerated filers would be required to include an attestation report from an independent attestation service provider, with additional phase-ins over time.
According to Chair Gensler, the SEC has received 14,500 comment letters on the proposal.[27] For a more detailed discussion of the proposal, see our prior alert on the subject.
2. Investment Management
In May, the SEC proposed amendments to rules and reporting forms applying to certain registered investment advisers, advisers exempt from registration, registered investment companies, and business development companies.[28] The proposed amendments seek to categorize certain types of ESG strategies broadly and require funds and advisers to provide more specific disclosures in fund prospectuses, annual reports, and adviser brochures based on the ESG strategies they pursue. Funds focused on the consideration of environmental factors generally would be required to disclose the GHG emissions associated with their portfolio investments. Funds claiming to achieve a specific ESG impact would be required to describe the specific impacts they seek to achieve and summarize their progress on achieving those impacts. Funds that use proxy voting or other engagement with issuers as a significant means of implementing their ESG strategy would be required to disclose information regarding their voting of proxies on particular ESG-related voting matters and information concerning their ESG engagement meetings. Finally, the proposal would require certain ESG reporting on Forms N-CEN and ADV Part 1A.
In May, the SEC also proposed amendments to the Investment Company Act “Names Rule” with the stated goal of “moderniz[ing] the Names Rule for today’s markets,” including for ESG-related funds.[29] The current rule requires registered investment companies whose names suggest a focus in a particular type of investment to adopt a policy to invest at least 80% of the value of their assets in those types of investments. The proposed amendments would extend the requirement to any fund name with terms suggesting that the fund focuses in investments that have (or whose issuers have) particular characteristics, including fund names with terms such as “growth” or “value,” or terms indicating that the fund’s investment decisions incorporate one or more ESG-related factors.
An investment adviser ESG-related disclosure case is described below in III.B.
H. Whistleblower Awards
Coming off a record-breaking year, the pace and size of whistleblower awards has slowed in the first half of 2022. Through June of this year, the SEC’s whistleblower program has awarded approximately $88 million to 22 separate whistleblowers. This is less than half of the payments awarded during the same time period in 2021, which saw nearly $200 million in awards to 45 individuals.
Still, the whistleblower program remains significant for the Commission, with approximately $1.3 billion paid to 273 individuals since the program’s inception in 2012. Further, the SEC remains committed to incentivizing whistleblowers to come forward with information, and to rewarding their efforts. In February, the SEC proposed two amendments to whistleblower program rules aimed at further enticing whistleblowers to come forward.[30] The first proposed change would allow the Commission to pay whistleblower awards, even if the awards might otherwise be paid under another federal agency program.[31] The second change would affirm the SEC’s discretionary authority to consider the dollar amount of potential awards for the sole purpose of increasing any award under Rule 21F-6, which would preclude considering the dollar amount to decrease any award.[32]
Significant whistleblower awards granted during the first half of this year include:
- Three awards in January, including a payment of over $13 million to a whistleblower who “promptly” notified the Commission of an ongoing fraud and provided “extensive” assistance thereafter, which led to the opening of an investigation and a successful enforcement action;[33] an award totaling more than $4 million to three whistleblowers in two separate enforcement proceedings, all described as providing “critical” information during the investigation;[34] and awards totaling more than $40 million to four whistleblowers, two of whom received a combined $37 million for providing “key evidence,” while the third received approximately $1.8 million for providing information which prompted a separate related action, and the fourth received a $1.5 million award for providing information that “shaped the staff’s instigative strategy.”[35]
- Four awards in March, including a payment of more than $3.5 million to a whistleblower for contributing to the success of two enforcement actions and helping save the SEC staff time and resources;[36] an award of approximately $14 million to a whistleblower whose online report and outreach to staff exposed an ongoing fraud and prompted a successful enforcement action along with restitution to investors;[37] awards totaling approximately $3 million to three whistleblowers who provided information that prompted the SEC staff to open investigations and provided ongoing assistance in three separate actions;[38] and an award of $1.25 million to a whistleblower who provided “high-quality information and exemplary cooperation,” including identifying witnesses and explaining key documents, which led to a successful enforcement action and saved the SEC staff time and resources.[39]
- An award in April of $6 million to five whistleblowers in a single enforcement proceeding who each provided ongoing assistance, in the form of either key documents or firsthand accounts of misconduct.[40]
- An award in May totaling nearly $3.5 million to four whistleblowers who provided information which led to a successful enforcement action. Three of these whistleblowers provided the SEC with information that led to the opening of a new investigation, while the fourth provided analysis, which “focused the staff’s attention on new allegations.”[41]
II. Public Company Actions
Public company accounting and disclosure cases continued to comprise a significant portion of the SEC’s cases in the first half of 2022, and included a range of financial reporting, disclosure, and professional responsibility enforcement actions.
A. Financial Reporting
In February, the SEC announced settled charges against a healthcare company and two former employees for alleged accounting improprieties stemming from intra-company foreign exchange transactions that resulted in a purported misstatement of the company’s net income.[42] The SEC alleged that, from 1995 to 2019, the company used a non-GAAP convention for converting non-U.S. dollar transactions, assets, and liabilities on its financial statements. The SEC further alleged that, beginning in 2009, the company purposefully used this convention for the purpose of generating foreign exchange accounting gains and avoiding losses of the same. Further, the SEC alleged that one former employee did not take steps to investigate the company’s consistently generated gains. Without admitting or denying the allegations, the company and its former employees agreed to cease and desist from future violations. The company agreed to pay an $18 million fine, and the former employees agreed to pay nearly $315,000 combined in civil penalties and disgorgement.
In April, the SEC announced a settled action against a pest control company and a former executive for allegedly making improper accounting adjustments through reducing accounting reserves without analyzing appropriate criteria under GAAP in order to meet quarterly earnings per share targets.[43] The SEC further alleged that the company and former executive failed to adequately memorialize the basis for these accounting entries and that the company failed to document other quarterly entries from 2016 to 2018. Without admitting or denying the allegations, the company and executive agreed to cease and desist from future violations, and pay penalties of $8 million and $100,000, respectively. The company’s penalty was the highest yet under the SEC’s earnings per share (“EPS”) initiative, which relies on data analytics to uncover hard-to-detect accounting and disclosure violations.
In June, the SEC announced a settled action against a telecommunications-support technology company and several of its senior employees for improper accounting practices, including improperly recognizing revenue on multiple transactions and misleading the company’s auditors.[44] The SEC alleged that, from 2013 to 2017, senior employees of the company improperly accounted for three categories of transactions which resulted in overstating revenue in pursuit of meeting earnings targets: (1) transactions without persuasive evidence of an arrangement; (2) acquisitions and divestitures where revenue was recognized on license agreements instead of netting those amounts against purchase prices; and (3) license and hosting transactions where it recognized revenue upfront, instead of rated over the term of the arrangement. The SEC also alleged that certain employees attempted to conceal that revenue had been improperly recognized upfront when, instead, it was contingent on future events. Without admitting or denying the SEC’s findings, the company agreed to cease and desist from further violations and pay a $12.5 million civil penalty; three former employees and one current employee settled for civil penalties ranging from $15,000 to $90,000; and the company’s former general counsel agreed to pay a $25,000 penalty and to a suspension from appearing or practicing as an attorney before the SEC for 18 months. The company’s founder and former CEO, while not charged with misconduct, agreed to reimburse the company $1.3 million in stock sale profits and bonuses, and return shares of company stock. Additionally, the SEC filed a complaint in the Southern District of New York against both the company’s former CFO and the former Controller, seeking civil penalties, restitution, bars, and permanent injunctions. That litigation remains ongoing.
B. Public Statements and Filing Disclosures
In January, the SEC settled an action—without any monetary penalties—against a private technology company after it made significant remedial efforts in the wake of an internal investigation into misconduct by its now-former CEO.[45] As profiled in our last update, the SEC issued a complaint against the then-CEO of the company, after he allegedly inaccurately claimed the company had achieved strong and consistent revenue and customer growth in order to push it to a “unicorn” valuation of over $1 billion. The company’s Board of Directors conducted an internal investigation leading to the CEO’s removal and a revised valuation down to $300 million. The Board instituted other remedial measures, including the repayment of investors, hiring of new senior management, expansion of its board, and institution of processes and procedures to increase transparency and accuracy of deal reporting. The SEC highlighted these remedial actions and the company’s extensive cooperation in the matter as factors counseling against imposing a penalty. Accordingly, the company settled the complaint for a permanent injunction against further violations without admitting or denying wrongdoing.
In April, the SEC filed a complaint against a former executive of a Brazilian reinsurance company for making allegedly false statements claiming that a large, multi-national conglomerate had recently made a substantial investment in the company.[46] The SEC alleged that, in February 2020, the executive planted misleading stories with the media, created and shared fabricated shareholder lists purporting to show substantial purchases of the company’s stock by the conglomerate, and shared information with analysts and investors purporting to show this investment. The SEC alleged that, as a result of this information, the reinsurance company’s stock price rose by more than 6% during the following 24 hours, and dropped more than 40% after the conglomerate denied the investment. The SEC filed a complaint against the former executive seeking a permanent injunction, officer and director bar, and civil monetary penalties. The Department of Justice also announced criminal charges against the individual.
In May, the SEC announced settled charges against a healthcare supply chain company and a complaint against its former CEO and Chairman of the Board for making allegedly false statements regarding the company’s plan to distribute COVID-19 rapid test kits.[47] The SEC alleged that, in April 2020, the company issued a press release announcing a “committed purchase order” for two million COVID-19 test kits, as well as an ongoing commitment to purchase two million more test kits every week for nearly six months. However, the company allegedly had neither an executed purchase agreement nor a supplier for the tests. The SEC alleged that after the announcement, the company, which was struggling financially at the time, saw a 425% increase in stock price from the prior trading day. Without admitting or denying the allegations, the company agreed to a settlement that included permanent injunctions, a $125,000 penalty, and more than $500,000 in disgorgement. The U.S. Attorney’s Office for the District of New Jersey and the U.S. Department of Justice’s Criminal Division also announced criminal charges against the former CEO.
C. Gatekeepers
In June, the Commission instituted a settled action against a credit rating agency and its CEO for allegedly violating various conflict of interest rules.[48] The SEC’s complaint alleged that the CEO engaged in sales and marketing activities related to a client while, at the same time, determining that client’s credit rating, in violation of Rules 17g-5(c)(8)(i)–(ii) of the Exchange Act. The complaint also alleged that the agency violated Rule 17g-5(c)(1) (the “Ten Percent Rule”) by allegedly continuing to issue and maintain ratings for another client, even though that client had contributed more than 10% of the agency’s revenues in the prior fiscal year. Lastly, the SEC alleged that the agency did not establish, maintain, and enforce sufficient internal controls to manage these conflicts of interest. Without admitting or denying the SEC’s findings, both the agency and its CEO agreed to pay a total of $2 million in civil penalties, as well as over $146,000 in disgorgement.
Also in June, the SEC instituted a settled action against an audit firm and three of its partners for alleged improper professional conduct after failing to investigate two clients’ financial statements despite known concerns about the accuracy of one client’s goodwill impairment calculations and another’s related party transactions.[49] The SEC alleged that, in 2016 and 2017, the audit firm and its partners allegedly improperly accepted its clients’ determination that their goodwill had not been impaired or reduced in value, despite internal beliefs that the goodwill valuation methods employed by the clients were insufficient. The SEC also alleged that the audit firm’s quality control systems led to the failure to adhere to adequate professional auditing standards. Without admitting or denying the allegations, the audit firm agreed to pay a $1.9 million penalty, to be censured, and to retain an independent consultant to review and evaluate certain control policies and procedures. The partners, without admitting or denying the allegations, agreed to each pay penalties ranging from $20,000 to $30,000; two partners additionally agreed to one- and three-year suspensions to practicing before the SEC, and the third partner agreed to a censure. The audit firm’s two clients at issue previously settled with the SEC related to the same financial disclosures, but with different outcomes: one of the audit firm’s clients and the client’s employees agreed to a settlement involving multi-million dollar monetary fines, restitution, and injunctive relief in June 2019;[50] the other client agreed to a no-penalty settlement without admitting or denying wrongdoing.[51]
Also in June, the SEC settled an action with an accounting firm relating to cheating by the firm’s employees on CPA ethics exams over a number of years, which was aggravated by the SEC’s perceived failure by the firm to correct its response to an earlier SEC voluntary request for information regarding the matter.[52] In June 2019, in the wake of a settlement with a different accounting firm regarding a similar issue, the firm received a voluntary information request from the SEC regarding complaints about cheating on CPA ethics exams, and the SEC asked for a response only one day later. The firm complied with the short response timeline, but its response did not include a relevant whistleblower report that was first made the same day the firm received the voluntary information request, and of which the legal department was not aware of its existence at the time of its initial response to the SEC. After becoming aware of this report, the firm conducted an internal investigation into the issue and later reported its results to the PCAOB. However, the SEC reasoned that the firm had violated the PCAOB’s professionalism rules because it did not promptly supplement its initial response to the SEC’s June 2019 voluntary information request with information about the whistleblower’s report. The firm settled the SEC’s allegations, agreeing to pay a $100 million fine, as well as to engage two independent consultants to make recommendations for further internal improvements. As noted above, Commissioner Peirce issued a forceful dissent from the settlement, arguing that the SEC’s “unduly punitive terms” were overly focused on the firm’s “imperfect compliance” with the SEC staff’s request to respond with information the next day, and ignored the “central issue” of cheating by the auditing professionals employed by the firm.[53]
III. Investment Advisers
A. Misuse of Investor Funds
In January, the SEC charged a financial adviser (dual registered representative of a broker-dealer and investment adviser) for allegedly misappropriating nearly $6 million from a client[54] over a six-year period and using the money for personal expenses, and to repay money that he had taken from another client. The SEC alleged the adviser created false account statements, forged signatures on documents, and altered financial records to cover up his actions. The SEC is seeking injunctive relief, disgorgement, and civil penalties. The U.S. Attorney’s Office for the Southern District of Florida filed parallel criminal charges.
In March, the SEC announced fraud charges against an investment adviser for allegedly using investor funds for personal expenses and a Ponzi-like scheme.[55] According to the SEC, the adviser told investors that their pooled money would be invested using a proprietary algorithm. The SEC alleged that, instead, the adviser used investor funds to pay off his own personal expenses and to repay previous investors while misleading current investors about their returns. The same adviser was permanently barred from the securities industry in a 1992 SEC enforcement action.[56] In the current case, the SEC is seeking an injunction, disgorgement, and penalties against the adviser. The U.S. Attorney’s Office for the District of New Jersey brought parallel criminal charges.
In May, the SEC charged a hedge fund and its sole owner for allegedly misappropriating millions of investors’ funds.[57] According to the SEC, over a period of nearly five years, the hedge fund and its owner raised approximately $39 million from more than 100 investors and thereafter made inaccurate statements about the fund’s performance (incurring $27 million in trading losses), falsified investors account documents, misrepresented the fact that the fund did not have an auditor, engaged in a Ponzi-like scheme with new investor funds being paid to earlier investors, and took money from the fund to pay for personal expenses, including jewelry. The SEC sought and obtained emergency relief and an asset freeze against the hedge fund and its owner, and the litigation remains ongoing.
B. Material Misrepresentations
In February, the SEC announced a settled action against a robo-adviser based on allegations that it made misleading statements and failed to comply with its own representations that it was compliant with Shari’ah law.[58] The SEC alleged the robo-adviser promoted its own proprietary funds when no such funds existed, then used investor funds to seed an exchange-traded fund without any disclosure to the investors. In addition, the SEC claimed that the robo-adviser promoted itself as compliant with Shari’ah law, including marketing an income purification process, but then took no actions to ensure this compliance. Without admitting or denying the allegations, the adviser agreed to a cease-and-desist order, to retain an independent compliance consultant, and to pay a $300,000 penalty.
In February, the SEC announced charges against the former Chief Investment Officer and founder of an investment adviser to a mutual fund and a hedge fund, based on allegations that the CIO significant overvalued assets, resulting in his receipt of $26 million of improper profit distributions.[59] According to the SEC, the CIO altered documents describing the funds’ valuation policies and sent forged term sheets to the auditor of the mutual and private funds. The former CIO was removed from his position in February 2021 after the SEC’s Staff showed the firm information suggesting that the CIO had been adjusting the company’s third-party pricing model. Shortly thereafter, at the mutual fund’s request, the SEC issued an order suspending redemptions.[60] The U.S. Attorney’s Office for the Southern District of New York is pursuing parallel criminal charges.
In March, the SEC announced a settled action against an investment adviser for using its discretionary trading authority to invest advisory clients in proprietary mutual funds and failing to disclose the corresponding conflict of interest.[61] Without admitting or denying the allegations, the adviser agreed to a cease-and-desist order, to obtain an independent compliance consultant, and to pay disgorgement and penalties totaling $30 million.
In March, the SEC announced a settled action against a venture capital fund adviser and its CEO for allegedly making misstatements about the adviser’s management fees and otherwise breaching its operating agreement.[62] The SEC alleged that certain promotional material advertised a management fee that was much lower than what the adviser actually assessed. In addition, the SEC claimed that the adviser made cash transfers between various funds that were not authorized by the adviser’s operating agreement. Without admitting or denying the allegations, the adviser agreed to repay $4.7 million to the affected private funds along with a $700,000 penalty; the CEO agreed to pay a $100,000 penalty.
In April, the SEC announced a settled action against an asset manager and its former co-CEOs based on alleged misrepresentations about the asset manager’s prospects for growth.[63] According to the SEC, the asset manager overstated its assets by including amounts provisionally committed by clients who had no obligation to ultimately invest with the manager. The SEC alleged that the inclusion of these investments inflated the asset manager’s value and led investors to vote in favor of a merger for the asset manager that would result in higher paying jobs for the co-CEOs. Without admitting or denying the allegations, the co-CEOs and asset manager agreed to a cease-and-desist order and to pay a $10 million penalty.
In May, the SEC charged an investment firm for alleged misstatements and omissions about ESG considerations in making investment decisions for certain mutual funds that it managed.[64] The SEC’s order alleged that, from July 2018 to September 2021, the firm represented or implied in various statements that all investments in the funds had undergone an ESG quality review. But according to the SEC, numerous investments held by certain funds did not have an ESG quality review score as of the time of investment. Without admitting or denying the SEC’s findings, the firm agreed to a cease-and-desist order, a censure, and to pay a $1.5 million penalty.
Also in May, the SEC announced a settled action against a variable annuities principal underwriter for alleged sales practice misconduct by its wholesalers.[65] The SEC alleged employees of the wholesaler caused exchange offers to be made to customers and clients of its affiliated retail broker-dealer and investment adviser to switch from one variable annuity to another to increase sale commissions Notably, this case represents the first-ever enforcement proceeding under Section 11 of the Investment Company Act of 1940, which, absent an exception, prohibits any principal underwriter from making or causing to be made an offer to exchange the securities of registered unit investment trusts (including variable annuities) unless the terms of the offer have been approved by the SEC. Without admitting or denying the allegations, the respondent agreed to a cease-and-desist order and to pay a $5 million penalty.
Also in May, the SEC announced charges and settlements with an investment adviser and three of the adviser’s former senior portfolio managers for allegedly concealing the downside risks of an options trading strategy from approximately 114 institutional investors who invested approximately $11 billion in the strategy between 2016 and 2020.[66] According to the complaint and consent orders, the lead portfolio manager, with the assistance of two senior managers, manipulated financial reports and other information provided to investors to conceal the magnitude of the strategy’s risk and the strategy’s actual performance. In one instance, the senior portfolio managers allegedly reduced losses in one scenario in a risk report sent to investors from approximately negative 42.15% to negative 4.15%. The SEC alleged that the group took several steps to conceal their conduct, including by providing false testimony to the SEC. In settling the action, the investment adviser, which pleaded guilty to criminal charges, admitted that its conduct violated securities laws and agreed to a cease-and-desist order, a censure, and payment of $349.2 million in disgorgement and prejudgment interest and a fine of $675 million. Two of the three portfolio managers also consented to orders that included associational and penny stock bars as well as monetary relief to be determined in the future. The SEC’s litigation against the lead portfolio manager is ongoing.
In June, the SEC announced a settled action against an investment adviser and two affiliated companies based on allegations that the affiliates did not sufficiently describe in their historical disclosures how allocating a portion of a clients’ funds to cash could affect the performance of their portfolios under certain market conditions.[67] The SEC also alleged that the companies did not adequately disclose an affiliated bank’s ability to earn interest from the cash deposits. The SEC concluded, however, that each of the alleged disclosure deficiencies was fully corrected in November 2018. Without admitting or denying the allegations, the companies agreed to a cease-and-desist order, providing for their payment of approximately $187 million in disgorgement and penalties.
Also in June, the SEC announced a settled action against an investment adviser for allegedly contravening its agreements by allocating certain deal-related expenses across its private equity fund clients in a non-pro rata manner and failing to properly disclose the allocations.[68] According to the SEC, investors in the private equity funds included pension funds, foundations and endowments, other institutional investors, and high net worth individuals. Without admitting or denying the SEC’s allegations, the investment adviser agreed to a cease-and-desist order and to pay a $1 million penalty.
In June, the SEC announced a settled action against an investment adviser based upon allegations that the firm’s financial advisers did not adequately understand the risks associated with an options trading strategy that they recommended to approximately 600 advisory clients between February 2016 and February 2017 clients and thus the recommendations may not have been in the clients’ best interest.[69] Without admitting or denying the SEC’s allegations, the company agreed to a cease-and-desist order and agreed to pay a fine of $17.4 million and disgorgement and prejudgment interest of $7.2 million.
C. New Regulations
In addition to the cybersecurity and ESG-related rule proposals discussed in Section IE above, we note that in February, the SEC proposed a dramatic overhaul to the regulation of private fund advisers.[70] Among other changes, the proposed rules would require private fund advisers to provide investors with quarterly statements regarding fund fees, expenses, and performance. The proposed rule would also prohibit these advisers from giving certain kinds of preferential treatment to investors and would require disclosure to all current and prospective investors in a fund of any preferential rights granted to any investors of the fund.
For a more detailed discussion of the rule proposal, see our prior alert on the subject and the comment letter submitted by the Private Investment Funds Forum, of which GDC was a co-author.
We also note the upcoming November 2022 implementation deadline for the new Marketing Rule, which replaced the former Advertising and Solicitation rules, and caused the SEC to withdraw or modify roughly 200 No Action letters.[71]
IV. Broker-Dealers
A. Misrepresentation
In May, the SEC announced a settled action against a broker-dealer and its co-founder based on allegations that they misled customers as to restricting the purchase of so-called meme stocks in late January 2021.[72] According to the order, the broker-dealer halted purchases of the stocks for about 10 minutes, but after, the broker-dealer and its co-founder stated that it never restricted trading. Without admitting or denying the SEC’s charges, the broker-dealer and co-founder agreed to retain an independent compliance consultant and pay $100,000 and $25,000 fines, respectively.
B. Form-Filling Violations
In February, the SEC announced settled charges against 12 firms, six investment advisers and six broker-dealers, based on allegations that each of the firms failed to timely file and deliver the Form CRS to their existing and/or prospective retail clients and customers.[73] In June 2019, the SEC adopted Form CRS, which SEC-registered investment advisers and broker-dealers that offer services to retail investors are required to file and keep current with the SEC, deliver to existing and prospective clients and customers beginning no later than June/July 2020, and prominently post on their websites the most recently filed version thereof. The SEC alleged that the sanctioned 12 firms missed the regulatory deadlines and, in certain instances, failed to include required information and language in their respective Form CRS. Without admitting or denying the SEC’s findings, the firms each agreed to be censured, to a cease-and-desist order, and to pay civil penalties varying from $10,000 to $97,523.
In May, the SEC announced settled charges against a broker-dealer and investment adviser for allegedly failing to file over 30 suspicious activity reports (“SARs”) between April 2017 and October 2021, which are used to identify and investigate potentially suspicious activity.[74] The SEC’s order alleged that for a nine-month period, the firm failed to file at least 25 SARs as a result of its deficient implementation and testing of a new anti-money laundering (“AML”) transaction monitoring and alert system. The SEC further alleged that the firm failed to file at least nine additional SARs due to its failure to process wire transfer data into its AML transaction monitoring system on dates on which there was a bank holiday without a corresponding brokerage holiday. The order describes the firm’s substantial cooperation and voluntary remedial measures, as well as a thorough internal investigation conducted by the firm, the findings of which were shared with Staff. Notwithstanding, in its press release the SEC characterized the firm as a recidivist, citing to a prior settlement in 2017 relating to an alleged failure to file 50 SARs. Without admitting or denying the SEC’s findings, the firm agreed to a censure, a cease-and-desist order, and to pay a fine of $7 million.
C. Regulation Best Interest (“BI”)
As discussed in the introduction, in June, the SEC charged a broker-dealer and five of its registered representatives for allegedly violating Reg BI when recommending and selling L Bonds to retirees and other retail investors.[75] According to the SEC’s complaint, over a 10-month period, the broker’s registered representatives recommended and sold retail investors approximately $13.3 million in the bonds. According to the SEC, the bond’s issuer described the product as high risk, illiquid, and only suitable for customers with substantial financial resources. In the SEC’s first substantive Reg BI case, the SEC alleges violations of the broker-dealer’s Care Obligation (which requires that the registered representative have a reasonable basis to believe their recommendation is in the best interest of the customer), and Compliance Obligation (which requires that the broker-dealer maintain and enforce written policies and procedures designed to achieve compliance with Reg BI). The SEC is seeking permanent injunctions, disgorgement, and civil penalties.
V. Cryptocurrency and Other Digital Assets
Despite the recent current crypto winter (cryptocurrencies reportedly having lost trillions in value since market highs in 2021), digital assets continue to be a leading-edge asset class and a primary focus for the SEC’s Division of Enforcement, as evidenced by multiple enforcement actions in the first half of 2022, as well as expected rulemaking proposals and dramatic staffing increases in the Commission’s digital asset securities unit.
A. Agency Updates
In May, the SEC announced the allocation of 20 additional positions to the newly renamed Crypto Assets and Cyber Unit (formerly known as the Cyber Unit) in the Division of Enforcement, which will grow to 50 dedicated positions—nearly doubling the size of the unit.[76] According to the SEC, the expanded Crypto Assets and Cyber Unit will focus on investigating securities law violations related to: digital asset offerings; digital asset exchanges; digital asset lending and staking products; decentralized finance (“DeFi”) platforms; non-fungible tokens (“NFTs”); and stablecoins.
B. Fraud
In January, the SEC announced charges against an Australian citizen and two companies he founded for allegedly making false and misleading statements in connection with an unregistered offer and sale of digital asset securities.[77] According to the SEC’s complaint, the Founder claimed to have raised $40.7 million through his companies in an initial coin offering (“ICO”), and allegedly told investors that the ICO proceeds would be used to develop a new technology. Instead, however, he diverted more than $5.8 million in ICO proceeds to gold mining entities. The SEC also alleged that the Founder and his companies did not register their offers and sales of tokens with the Commission, and knowingly sold them to groups of investors without determining whether the underlying investors were accredited. Without admitting or denying the allegations, the Founder and his companies consented to a permanent injunction, and to permanently disable the tokens and remove them from digital asset trading platforms. The Founder further agreed to an officer or director bar, and a penalty of $195,000.
In March, the SEC announced that it charged two individuals with allegedly defrauding retail investors out of more than $124 million through two unregistered offerings of securities involving a digital token.[78] In its complaint, the SEC alleged that the defendants—in roadshows, YouTube videos, and other materials—falsely claimed that its crypto coin was supported by one of the largest crypto mining operations in the world, but that the defendants previously abandoned mining operations after generating less than $3 million in total mining revenue. As alleged, the defendants incorrectly stated that the crypto coin had a $250 million crypto mining operation and was producing $5.4 million to $8 million per month in mining revenues. According to the complaint, the two individuals also arranged for a public website to display a wallet of an unrelated third party showing more than $190 million in assets as of November 2021, even though the coin’s wallets were allegedly worth less than $500,000. Moreover, the complaint alleged that the individuals manipulated the crypto coin’s price and misused investor funds for personal expenses. In a parallel action, the U.S. Attorney’s Office for the Southern District of New York unsealed criminal charges against one of the individuals.
In May, the SEC announced charges against a corporation, its two founders, and two entities controlled by one of its founders.[79] According to the SEC’s complaint, the two founders sold mining packages to investors and promised daily returns of 1%, paid weekly, for a period of up to 52 weeks. The complaint also alleged that, in its early days, investors were promised returns in Bitcoin, but later, defendants required investors to withdraw their investments in the corporation’s own token. The complaint also alleged that investors were required to redeem those tokens on a “fake” crypto asset trading platform created and managed by one of the corporation’s founders, but when investors tried to liquidate their tokens on that asset trading platform, they encountered purported errors and were required to either buy another mining package or forfeit their investments. In April, the United States District Court for the Southern District of Florida issued a temporary restraining order against all of the defendants and an order freezing defendants’ assets, among other relief.
C. Registration and Disclosure
In February, the SEC announced that it charged a company with failing to register the offers and sales of its retail crypto lending product.[80] According to the SEC’s order, the company offered and sold a lending product to the public, through which investors lent crypto assets to the company in exchange for the company’s promise to provide a variable monthly interest payment. The SEC alleged that the lending products were securities, and the company therefore was required to register its offers and sales of the products but failed to do so or to qualify for an exemption from SEC registration. The SEC also alleged that the company operated for more than 18 months as an unregistered investment company because it issued securities and also held more than 40% of its total assets, excluding cash, in investment securities, including loans of crypto assets to institutional borrowers. Finally, the SEC alleged that the company made a false and misleading statement for more than two years on its website concerning the level of risk in its loan portfolio and lending activity. Without admitting or denying the SEC’s allegations, the company agreed to pay a $50 million penalty, cease its unregistered offers and sales of the lending product, and attempt to bring its business within the provisions of the Investment Company Act within 60 days. Finally, in parallel actions, the company agreed to pay an additional $50 million in fines to 32 states to settle similar charges. At the time of the settlement, the company was actively engaged in litigation with multiple states including the New Jersey Attorney General. (Prior to assuming his current role as the Director of the SEC’s Enforcement Division, Gurbir Grewal was the Attorney General for New Jersey.)
In May, the SEC also announced that it settled charges against a technology company for making allegedly inadequate disclosures concerning the impact of cryptomining on the company’s gaming business.[81] The SEC’s order found that, during consecutive quarters in fiscal year 2018, the company failed to disclose that cryptomining was a significant element of its material revenue growth. Specifically, the SEC alleged that the company did not disclose in its Forms 10-Q significant earnings and cash flow fluctuations related to a “volatile business” for investors to ascertain the likelihood that past performance was indicative of future performance. The SEC also alleged that the company’s omissions about the growth of the company’s gaming business were misleading given that the company made statements about how other parts of the company’s business were driven by demand for crypto. Without admitting or denying the SEC’s findings, the company agreed to a cease-and-desist order and to pay a $5.5 million penalty.
VI. Insider Trading
In January, the SEC announced insider trading charges against three Florida residents for allegedly trading in advance of market-moving announcements by three companies.[82] The SEC alleged that one of the individuals obtained non-public information from an insider family member and used it to trade in advance of one company’s earnings announcement, another company’s tender offer, and a third company’s merger announcement, gaining more than $600,000 in personal brokerage profits. The individual allegedly tipped off two friends, who also allegedly traded ahead of these announcements and who were likewise charged by the SEC. According to the SEC’s complaint, one of the tippees used various accounts to trade ahead of all three announcements, resulting in profits of over $4 million; the other tippee allegedly reaped profits of approximately $120,000. The SEC’s complaint seeks permanent injunctions and civil penalties. The U.S. Attorney’s Office of the District of Massachusetts announced criminal charges against the three men for the same conduct.
In March, the SEC filed a complaint against three software engineers of a communications tech company and four of their associates for allegedly trading on confidential information ahead of the company’s positive earnings announcement for the first quarter of 2020.[83] The SEC alleged that the software engineers had learned through their company’s databases that the company’s customers had increased usage of the company’s products and services in response to health measures imposed by the COVID-19 pandemic. The SEC further alleged that the software engineers discussed in a group chat that the company’s stock price would “rise for sure,” after which they tipped off, or used the brokerage accounts of, four of their family members and close friends to trade stock and options in advance of the earnings announcement to generate more than $1 million in profit. The SEC’s action is pending in the Northern District of California. The U.S. Attorney’s Office for the Northern District of California announced criminal charges against one of the tippees.
In April, the SEC announced a settled action against a former accountant of a large multinational restaurant chain for an alleged long-running scheme to trade on confidential information the accountant obtained through his role at the company in advance of the company’s earnings announcements.[84] The SEC alleged that, from 2015 to 2020, the employee engaged in trades across multiple different brokerage accounts tied to himself and family members in advance of earnings announcements, resulting in more than $960,000 in profits. Without admitting or denying the allegations, the accountant consented to an order permanently enjoining him from future violations and to a penalty of over $1.9 million. He also agreed to a suspension from appearing or practicing before the SEC.
In June, the SEC announced settled insider trading charges against a former software engineer of an online gambling company and his longtime friend for allegedly trading on confidential information about the gambling company’s interest in acquiring a mobile sports media company.[85] The SEC alleged that the software engineer purchased 500 out-of-the-money call options on the target mobile sports media company in the weeks and days leading up to the announcement of the acquisition, despite being told not to trade on the information he received. The SEC also alleged that he tipped off his friend about the impending deal through an encrypted messaging application, resulting in approximately $600,000 in combined profits. Without admitting or denying the allegations, the two individuals agreed to a permanent injunction, disgorgement, and civil penalties totaling more than $11,000. The U.S. Attorney’s Office for the Eastern District of Pennsylvania also announced criminal charges against the former software engineer.
VII. Trading and Markets
In March, the SEC commenced an action against five individuals for operating a call center in Colombia that allegedly employed high-pressure sales tactics and made misleading statements to sell the stock of at least 18 small companies trading in U.S. markets.[86] The SEC alleged that the defendants’ call centers employed false personas—including fake names, websites, and phone numbers—to appear as investment management firms. According to the complaint, the call centers then generated over $58 million in trading by making misleading or false statements about the stocks’ prospects for success. The SEC alleged that the defendants received roughly $10 million in exchange for their promotion of these thinly traded stocks. The SEC’s complaint seeks a permanent injunction, disgorgement and civil penalties, and a penny stock bar against the defendants. The complaint also names three additional individuals and one entity as relief defendants and seeks disgorgement from these parties as well.
In April, the SEC brought an action against an individual for making an allegedly false and misleading tender offer announcement.[87] According to the SEC’s complaint, the defendant allegedly placed an advertisement in the New York Times announcing a proposed purchase of all existing stock of a large defense company at a substantial premium. The SEC alleged that this offer was false and misleading because neither the defendant nor his company had the resources necessary to complete the transaction. Moreover, the complaint alleged that the defendant failed to disclose a series of bankruptcies and default judgments and mischaracterized the operations and assets of his company’s corporate parent. The complaint seeks injunctive relief, a monetary penalty, and an officer and director bar against the defendant. In a parallel action, the U.S. Attorney’s Office for the Southern District of New York announced criminal charges against the defendant.
Also in April, the Commission, in three separate complaints, commenced actions against 15 individuals and one entity for engaging in a complex series of allegedly fraudulent microcap operations spanning three continents and generating more than $194 million in illicit proceeds.[88] The SEC alleged that, over many years, various defendants acquired, via offshore companies, majority interests in the penny stocks of at least 17 issuers. Thereafter, the SEC alleged that certain defendants funded promotional campaigns for these stocks to increase demand, at which point some defendants allegedly sold their stocks for significant profits. Two of the three complaints further allege that some defendants used encrypted messaging services and code names to communicate with each other and with offshore trading platforms about the scheme to avoid being detected by regulators. The press release announcing these enforcement actions stated that more than 20 countries’ law enforcement authorities and securities regulators contributed to the SEC’s investigation, which is also associated with parallel criminal actions by the U.S. Attorney’s Office for the Southern District of New York.
Also in April, the SEC filed an action against the owner of an investment firm, as well as the firm’s CFO, head trader, and chief risk officer based on allegations of securities fraud based on misrepresentations and omissions as well as market manipulation, all relating to the trading of certain securities over a seven-month period.[89] The SEC alleged that the owner had purchased, on margin, billions of dollars of total return swaps, resulting in bank counterparties taking on significant positions in the equity securities of the relevant symbols for the purpose of hedging the risk of the swaps. According to the SEC, these swap purchases were intended to drive up the price of the securities. The CFTC also brought a complaint relating to misrepresentations and omissions—but did not allege market manipulation—and the U.S. Attorney’s Office for the Southern District of New York also announced that it is pursuing criminal charges against the individuals involved for the same conduct.
In June, the SEC announced a settled action against an investment adviser based on allegations that on seven occasions between December 2020 and February 2021 the firm violated Rule 105 of Regulation M of the Exchange Act by buying stock shortly after shorting that same stock during a restricted period (i.e., before a covered public offering).[90] The order explains that the firm had relevant policies and procedures and that its systems detected the possible violations both before and after the firm participated in the offerings. In each instance, according to the SEC, the firm’s traders and compliance department bypassed the systematic alerts and exceptions based on their own miscalculations of the restricted period. Thereafter, according to the order, the firm self-identified its errors and the violations, voluntarily and proactively remediated the errors and self-reported the violations to the SEC. Without admitting or denying the SEC’s allegations, the firm agreed to pay a fine of $200,000 and $6.7 million in disgorged profits.
VIII. Municipal Securities
In March, the SEC announced a settled action against a school district and its former CFO, alleging that they misled investors who purchased $20 million in municipal bonds.[91] The SEC also announced settled charges against the district’s auditor for alleged impropriety in connection with an audit of the district’s financial statements. According to the SEC’s complaint and orders, the district and CFO provided investors with misleading financial statements containing inflated general fund reserves and omitted payroll and construction liabilities. The district, without admitting or denying any findings, agreed to settle the SEC’s charges by consenting to a cease-and-desist order. The former CFO, also without admitting or denying the allegations, agreed to pay a $30,000 penalty and not participate in future municipal offerings. The auditor, without admitting or denying any findings, agreed to a suspension of at least three years from appearing or practicing before the SEC as an accountant and from certain auditor roles.
In June, the SEC brought an action against a town, its former mayor, the town’s unregistered municipal adviser, and the adviser’s owner, for allegedly misleading investors who purchased $5.8 million in municipal bonds across two offerings to finance the development of a water system and improvements to a sewer system.[92] According to the SEC’s complaints and order, the town submitted false financial projections, created by the municipal adviser with approval by the then-mayor, overstating the number of sewer customers in order to mislead a state agency commission that needed to approve the offerings. In turn, the town and its then-mayor allegedly failed to disclose to investors that approval of the bonds was based on the allegedly false projections or that the mayor had misused proceeds from prior offerings. Without admitting or denying the findings, the town agreed to settle with the SEC by consenting to a cease-and-desist order, while the municipal adviser and its owner also agreed pay disgorgement and civil penalties in amounts to be determined at a later date.
Also in June, the SEC instituted an action against a city, its former finance director, and its school district’s former CFO, alleging that they misled investors who purchased $119 million in municipal bonds.[93] The SEC also instituted an action against the city’s municipal adviser and its principal for allegedly misleading investors and breaching their fiduciary duty to the city. According to the SEC’s complaint, the defendants provided investors with misleading bond offering documents that failed to disclose the district’s financial distress stemming from spending on teacher salaries. The SEC alleged that the district’s former CFO was aware the district was facing at least a $25 million budget shortfall but misled a credit rating agency regarding the magnitude of the budget shortfall. The school district’s former CFO agreed to settle with the SEC, without admitting or denying any findings, and to pay a $25,000 penalty.
______________________________
[1] See, e.g., SEC Press Release, BlockFi Agrees to Pay $100 Million in Penalties and Pursue Registration of its Crypto Lending Product (Feb. 14, 2022), available at https://www.sec.gov/news/press-release/2022-26; SEC Press Release, Ernst & Young to Pay $100 Million Penalty for Employees Cheating on CPA Ethics Exams and Misleading Investigation (June 28, 2022), available at https://www.sec.gov/news/press-release/2022-114.
[2] SEC Press Release, SEC Charges Firm and Five Brokers with Violations of Reg BI (June 16, 2022), available at https://www.sec.gov/news/press-release/2022-110.
[3] Id.
[4] SEC Statement, Statement on Settlement with BlockFi Lending LLC (Feb. 14, 2022) (Commissioner Hester M. Peirce), available at https://www.sec.gov/news/statement/peirce-blockfi-20220214.
[5] SEC Statement, Statement on In the Matter of Lloyd D. Reed (Apr. 5, 2022) (Commissioner Hester M. Peirce), available at https://www.sec.gov/news/statement/peirce-lloyd-reed-20220405.
[6] SEC Statement, Statement Regarding In the Matter of Aegis Capital Corporation (July 28, 2022) (Commissioner Hester M. Peirce), available at https://www.sec.gov/news/statement/peirce-statement-aegis-capital-corporation-072822.
[7] SEC Statement, When Voluntary Means Mandatory and Forever: Statement on In the Matter of Ernst & Young LLP (June 28, 2022) (Commissioner Hester M. Peirce), available at https://www.sec.gov/news/statement/peirce-statement-ernst-and-young-062822.
[8] SEC Press Release, Mark T. Uyeda Sworn In as SEC Commissioner (June 30, 2022), available at https://www.sec.gov/news/press-release/2022-118.
[9] SEC Statement, Statement on Senate Confirmation of Jaime Lizárraga and Mark Uyeda (June 16, 2022), available at https://www.sec.gov/news/statement/commissioners-statement-confirmation-lizararago-uyeda.
[10] White House Press Release, President Biden Announces Key Nominees (Apr. 6, 2022), available at https://www.whitehouse.gov/briefing-room/statements-releases/2022/04/06/president-biden-announces-key-nominees-10/.
[11] SEC Press Release, SEC Announces New Leadership in Examinations Division and New York Regional Office (Mar. 24, 2022), available at https://www.sec.gov/news/press-release/2022-49.
[12] SEC Press Release, Richard R. Best Named Director of Division of Examinations (May 24, 2022), available at https://www.sec.gov/news/press-release/2022-87.
[13] SEC Press Release, Kristin Snyder, Deputy Director of Division of Examinations, to Leave SEC (Jan. 27, 2022), available at https://www.sec.gov/news/press-release/2022-13.
[14] SEC Press Release, Lori H. Price Named Acting Director of the Office of Credit Ratings; Ahmed Abonamah to Leave SEC (Feb. 1, 2022), available at https://www.sec.gov/news/press-release/2022-16.
[15] SEC Press Release, Kelly L. Gibson, Director of the Philadelphia Regional Office, to Leave the SEC; Scott Thompson and Joy Thompson named Office Acting Co-Heads (Feb. 11, 2022), available at https://www.sec.gov/news/press-release/2022-25.
[16] SEC Press Release, SEC Announces New Leadership in Examinations Division and New York Regional Office (Mar. 24, 2022), available at https://www.sec.gov/news/press-release/2022-49.
[17] SEC Press Release, San Francisco Regional Director Erin E. Schneider to Leave Agency (Mar. 25, 2022), available at https://www.sec.gov/news/press-release/2022-51.
[18] SEC Press Release, Tracy S. Combs Named Director of SEC’s Salt Lake Regional Office (June 29, 2022), available at https://www.sec.gov/news/press-release/2022-115.
[19] SEC Press Release, Denver Regional Director Kurt L. Gottschall to Leave SEC (June 29, 2022), available at https://www.sec.gov/news/press-release/2022-116.
[20] U.S. Securities and Exchange Commission, Proposed Rule (RIN 3235-AM90), Special Purpose Acquisition Companies, Shell Companies, and Projections (Mar. 30, 2022), available at https://www.gibsondunn.com/sec-proposes-rules-to-align-spacs-more-closely-with-ipos/https://www.gibsondunn.com/2022-mid-year-securities-enforcement-update/#_edn1.
[21] SEC Press Release, SEC Proposes Rules to Enhance Disclosure and Investor Protection Relating to Special Purpose Acquisition Companies, Shell Companies, and Projections (Mar. 30, 2022), available at https://www.sec.gov/news/press-release/2022-56.
[23] SEC Press Release, SEC Proposes Rules on Cybersecurity Risk Management, Strategy, Governance, and Incident Disclosure by Public Companies (Mar. 9, 2022), available at https://www.sec.gov/news/press-release/2022-39.
[24] SEC Press Release, SEC Proposes Cybersecurity Risk Management Rules and Amendments for Registered Investment Advisers and Funds (Feb. 9, 2022), available at https://www.sec.gov/news/press-release/2022-20.
[25] Spotlight on Enforcement Task Force Focused on Climate and ESG Issues, available at https://www.sec.gov/spotlight/enforcement-task-force-focused-climate-esg-issues.
[26] SEC Press Release, SEC Proposes Rules to Enhance and Standardize Climate-Related Disclosures for Investors (Mar. 21, 2022), available at https://www.sec.gov/news/press-release/2022-46.
[27] SEC Statement, Remarks at Financial Stability Oversight Counsel Meeting (July 28, 2022) (Chair Gary Gensler), available at https://www.sec.gov/news/speech/gensler-statement-financial-stability-oversight-council-meeting-072822.
[28] SEC Press Release, SEC Proposes to Enhance Disclosures by Certain Investment Advisers and Investment Companies About ESG Investment Practices (May 25, 2022), available at https://www.sec.gov/news/press-release/2022-92.
[29] SEC Press Release, SEC Proposes Rule Changes to Prevent Misleading or Deceptive Fund Names (May 25, 2022), available at https://www.sec.gov/news/press-release/2022-91.
[30] SEC Press Release, SEC Proposed Changes to Two Whistleblower Program Rules (Feb. 10, 2022), available at https://www.sec.gov/news/press-release/2022-23.
[33] SEC Press Release, SEC Awards Over $13 Million to Whistleblower (Jan. 6, 2022), available at https://www.sec.gov/news/press-release/2022-2.
[34] SEC Press Release, SEC Issues Awards Totaling More Than $4 Million to Whistleblowers (Jan. 10, 2022), available at https://www.sec.gov/news/press-release/2022-5.
[35] SEC Press Release, SEC Issues Awards Totaling More Than $40 Million to Four Whistleblowers (Jan. 21, 2022), available at https://www.sec.gov/news/press-release/2022-7.
[36] SEC Press Release, SEC Awards More Than $3.5 Million to Whistleblower (Mar. 8, 2022), available at https://www.sec.gov/news/press-release/2022-38.
[37] SEC Press Release, SEC Awards Approximately $14 Million to Whistleblower (Mar. 11, 2022), available at https://www.sec.gov/news/press-release/2022-40.
[38] SEC Press Release, SEC Issues Awards Totaling Approximately $3 Million to Three Whistleblowers (Mar. 18, 2022), available at https://www.sec.gov/news/press-release/2022-45.
[39] SEC Press Release, SEC Awards $1.25 Million to Whistleblower (Mar. 25, 2022), available at https://www.sec.gov/news/press-release/2022-52.
[40] SEC Press Release, SEC Issues $6 Million Award to Five Whistleblowers (Apr. 25, 2022), available at https://www.sec.gov/news/press-release/2022-67.
[41] SEC Press Release, SEC Issues Nearly $3.5 Million Award to Four Whistleblowers (May 6, 2022), available at https://www.sec.gov/news/press-release/2022-80.
[42] SEC Press Release, SEC Charges Health Care Co. and Two Former Employees for Accounting Improprieties (Feb. 22, 2022), available at https://www.sec.gov/news/press-release/2022-31.
[43] SEC Press Release, Atlanta-Based Pest Control Company, Former CFO Charged with Improper Earnings Management (Apr. 18, 2022), available at https://www.sec.gov/news/press-release/2022-64.
[44] SEC Press Release, SEC Charges New Jersey Software Company and Senior Employees with Accounting-Related Misconduct (June 7, 2022), available at https://www.sec.gov/news/press-release/2022-101.
[45] SEC Press Release, Remediation Helps Tech Company Avoid Penalties (Jan. 28, 2022), available at https://www.sec.gov/news/press-release/2022-14.
[46] SEC Press Release, SEC Charges Senior Executive of Brazilian Company with Fraud (Apr. 18, 2022), available at https://www.sec.gov/news/press-release/2022-63.
[47] SEC Press Release, SEC Charges Company and Former CEO with Misleading Investors about the Sale of COVID-19 Test Kits (May 31, 2022), available at https://www.sec.gov/news/press-release/2022-94.
[48] SEC Press Release, SEC Charges Egan-Jones Ratings Co. and CEO with Conflict of Interest Violations (June 21, 2022), available at https://www.sec.gov/news/press-release/2022-111.
[49] SEC Press Release, SEC Charges CohnReznick LLP and Three Partners with Improper Professional Conduct (June 8, 2022), available at https://www.sec.gov/news/press-release/2022-102.
[50] SEC Press Release, SEC Adds Fraud Charges Against Purported Cryptocurrency Company Longfin, CEO, and Consultant (June 5, 2019), available at https://www.sec.gov/news/press-release/2019-90.
[51] SEC Press Release, SEC Obtains Final Judgment Against Sequential Brands Group, Inc. for Failing to Timely Impair Goodwill (Dec. 15, 2021), available at https://www.sec.gov/litigation/litreleases/2021/lr25289.htm.
[52] SEC Press Release, Ernst & Young to Pay $100 Million Penalty for Employees Cheating on CPA Ethics Exams and Misleading Investigation (June 28, 2022), available at https://www.sec.gov/news/press-release/2022-114.
[53] SEC Statement, When Voluntary Means Mandatory and Forever: Statement on In the Matter of Ernst & Young LLP (June 28, 2022) (Commissioner Hester M. Peirece), available at https://www.sec.gov/news/statement/peirce-statement-ernst-and-young-062822.
[54] SEC Press Release, Former Financial Advisor Charged with Stealing $5.8 Million from Client (Jan. 24, 2022), available at https://www.sec.gov/news/press-release/2022-8.
[55] SEC Press Release, SEC Charges Previously-Barred Investment Adviser with Fraud (Mar. 7, 2022), available at https://www.sec.gov/news/press-release/2022-35.
[56] SEC News Digest, David Schamens Barred (May 19, 1992), available at https://www.sec.gov/news/digest/1992/dig051992.pdf.
[57] SEC Press Release, SEC Halts Alleged Ongoing $39 Million Fraud by Hedge Fund Adviser (May 25, 2022), available at https://www.sec.gov/news/press-release/2022-90.
[58] SEC Press Release, SEC Charges Robo-Adviser with Misleading Clients (Feb. 10, 2022), available at https://www.sec.gov/news/press-release/2022-24.
[59] SEC Press Release, SEC Charges Infinity Q Founder with Orchestrating Massive Valuation Fraud (Feb. 17, 2022), available at https://www.sec.gov/news/press-release/2022-29.
[60] Investment Company Act Release No. 34198 (Feb. 21, 2021), available at https://www.sec.gov/rules/ic/2021/ic-34198.pdf.
[61] SEC Press Release, City National Rochdale to Pay More Than $30 Million for Undisclosed Conflicts of Interest (Mar. 3, 2022), available at https://www.sec.gov/news/press-release/2022-33.
[62] SEC Press Release, SEC Charges Venture Capital Fund Adviser with Misleading Investors (Mar. 4, 2022), available at https://www.sec.gov/news/press-release/2022-34.
[63] SEC Press Release, Medley Management and Former Co-CEOs to Pay $10 Million Penalty for Misleading Investors and Clients (Apr. 28, 2022), available at https://www.sec.gov/news/press-release/2022-73.
[64] SEC Press Release, SEC Charges BNY Mellon Investment Adviser for Misstatements and Omissions Concerning ESG Considerations (May 23, 2022), available at https://www.sec.gov/news/press-release/2022-86.
[65] SEC Press Release, SEC Charges RiverSource Distributors with Improper Switching of Variable Annuities (May 25, 2022), available at https://www.sec.gov/news/press-release/2022-89.
[66] SEC Press Release, SEC Charges Allianz Global Investors and Three Former Senior Portfolio Managers with Multibillion Dollar Securities Fraud (May 17, 2022), available at https://www.sec.gov/news/press-release/2022-84.
[67] SEC Press Release, Schwab Subsidiaries Misled Robo-Adviser Clients about Absence of Hidden Fees (June 13, 2022), available at https://www.sec.gov/news/press-release/2022-104.
[68] SEC Press Release, SEC Charges Private Equity Adviser for Failing to Disclose Disproportionate Expense Allocations to Fund (June 14, 2022), available at https://www.sec.gov/news/press-release/2022-107.
[69] SEC Press Release, UBS to Pay $25 Million to Settle SEC Fraud Charges Involving Complex Options Trading Strategy (June 29, 2022), available at https://www.sec.gov/news/press-release/2022-117.
[70] SEC Press Release, SEC Proposes to Enhance Private Fund Investor Protection (Feb. 9, 2022), available at https://www.sec.gov/news/press-release/2022-19.
[71] Information Update, Division of Investment Management Staff Statement Regarding Withdrawal and Modification of Staff Letters Related to Rulemaking on Investment Adviser Marketing (Oct. 2021), available at https://www.sec.gov/files/2021-10-information-update.pdf
[72] SEC Press Release, SEC Charges TradeZero America and Co-Founder with Deceiving Customers about Meme Stock Trading Halts (May 24, 2022), available at https://www.sec.gov/news/press-release/2022-88.
[73] SEC Press Release, SEC Charges 12 Additional Financial Firms for Failure to Meet Form CRS Obligations (Feb. 15, 2022), available at https://www.sec.gov/news/press-release/2022-27.
[74] SEC Press Release, SEC Charges Wells Fargo Advisors With Anti-Money Laundering Related Violations (May 20, 2022), available at https://www.sec.gov/news/press-release/2022-85.
[75] SEC Press Release, SEC Charges Firm and Five Brokers with Violations of Reg BI (June 16, 2022), available at https://www.sec.gov/news/press-release/2022-110.
[76] SEC Press Release, SEC Nearly Doubles Size of Enforcement’s Crypto Assets and Cyber Unit (May 3, 2022), available at https://www.sec.gov/news/press-release/2022-78.
[77] SEC Press Release, SEC Charges ICO Issuer and Founder with Defrauding Investors (Jan. 6, 2022), available at https://www.sec.gov/news/press-release/2022-3.
[78] SEC Press Release, SEC Charges Siblings in $124 Million Crypto Fraud Operation that included Misleading Roadshows, YouTube Videos (Mar. 8, 2022), available at https://www.sec.gov/news/press-release/2022-37.
[79] SEC Press Release, SEC Halts Fraudulent Cryptomining and Trading Scheme (May 6, 2022), available at https://www.sec.gov/news/press-release/2022-81.
[80] SEC Press Release, BlockFi Agrees to Pay $100 Million in Penalties and Pursue Registration of its Crypto Lending Product (Feb. 14, 2022), available at https://www.sec.gov/news/press-release/2022-26.
[81] SEC Press Release, SEC Charges NVIDIA Corporation with Inadequate Disclosures about Impact of Cryptomining (May 6, 2022), available at https://www.sec.gov/news/press-release/2022-79.
[82] SEC Press Release, SEC Charges Three Florida Residents in Multi-Million Dollar Insider Trading Scheme (Jan. 6, 2022), available at https://www.sec.gov/news/press-release/2022-4.
[83] SEC Press Release, SEC Charges Seven California Residents in Insider Trading Ring (Mar. 28, 2022), available at https://www.sec.gov/news/press-release/2022-55.
[84] SEC Press Release, Former Domino’s Pizza Accountant to Pay Nearly $2 Million Penalty for Insider Trading (Apr. 21, 2022), available at https://www.sec.gov/news/press-release/2022-66.
[85] SEC Press Release, SEC Charges Former Employee of Online gambling Company with Insider Trading (June 13, 2022), available at https://www.sec.gov/news/press-release/2022-105.
[86] SEC Press Release, SEC Charges Call Center Operators in $58 Million Penny Stock Scheme (Mar. 15, 2022), available at https://www.sec.gov/news/press-release/2022-41.
[87] SEC Press Release, SEC: Takeover Bid of Fortune 500 Company was a Sham (Apr. 5, 2022), available at https://www.sec.gov/news/press-release/2022-58.
[88] SEC Press Release, SEC Uncovers $194 Million Penny Stock Schemes that Spanned Three Continents (Apr. 18, 2022), available at https://www.sec.gov/news/press-release/2022-62.
[89] SEC Press Release, SEC Charges Archegos and its Founder with Massive Market Manipulation Scheme (Apr. 27, 2022), available at https://www.sec.gov/news/press-release/2022-70.
[90] SEC Press Release, SEC Charges Weiss Asset Management with Short Selling Violations (June 14, 2022), available at https://www.sec.gov/news/press-release/2022-106.
[91] SEC Press Release, SEC Charges Texas School District and its Former CFO with Fraud in $20 Million Bond Sale (Mar. 16, 2022), available at https://www.sec.gov/news/press-release/2022-43.
[92] SEC Press Release, SEC Charges Louisiana Town and Former Mayor with Fraud in Two Municipal Bond Deals (June 2, 2022), available at https://www.sec.gov/news/press-release/2022-97.
[93] SEC Press Release, SEC Charges Rochester, NY, and City’s Former Executives and Municipal Advisor with Misleading Investors (June 14, 2022), available at https://www.sec.gov/news/press-release/2022-108.
The following Gibson Dunn lawyers assisted in the preparation of this client update: Mark Schonfeld, Richard Grime, Barry Goldsmith, Tina Samanta, David Ware, Lauren Cook Jackson, Timothy Zimmerman, Luke Dougherty, Zoey Goldnick, Kate Googins, Ben Gibson, Jimmy Pinchak, and Sean Brennan*.
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 Director of the SEC’s New York Regional Office, the former head of FINRA’s Department of Enforcement, the former United States Attorneys for the Central and Eastern Districts of California and the District of Maryland, 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, our Securities 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:
Securities Enforcement Practice Group Leaders:
Richard W. Grime – Washington, D.C. (+1 202-955-8219, rgrime@gibsondunn.com)
Mark K. Schonfeld – New York (+1 212-351-2433, mschonfeld@gibsondunn.com)
Please also feel free to contact any of the following practice group members:
New York
Zainab N. Ahmad (+1 212-351-2609, zahmad@gibsondunn.com)
Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com)
Joel M. Cohen (+1 212-351-2664, jcohen@gibsondunn.com)
James J. Farrell (+1 212-351-5326, jfarrell@gibsondunn.com)
Barry R. Goldsmith (+1 212-351-2440, bgoldsmith@gibsondunn.com)
Mary Beth Maloney (+1 212-351-2315, mmaloney@gibsondunn.com)
Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com)
Lawrence J. Zweifach (+1 212-351-2625, lzweifach@gibsondunn.com)
Tina Samanta (+1 212-351-2469, tsamanta@gibsondunn.com)
Washington, D.C.
Stephanie L. Brooker (+1 202-887-3502, sbrooker@gibsondunn.com)
Daniel P. Chung (+1 202-887-3729, dchung@gibsondunn.com)
M. Kendall Day (+1 202-955-8220, kday@gibsondunn.com)
Jeffrey L. Steiner (+1 202-887-3632, jsteiner@gibsondunn.com)
Patrick F. Stokes (+1 202-955-8504, pstokes@gibsondunn.com)
F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com)
Lauren Cook Jackson (+1 202-955-8293, ljackson@gibsondunn.com)
David C. Ware (+1 202-887-3652, dware@gibsondunn.com)
San Francisco
Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com)
Thad A. Davis (+1 415-393-8251, tadavis@gibsondunn.com)
Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com)
Michael Li-Ming Wong (+1 415-393-8234, mwong@gibsondunn.com)
Palo Alto
Michael D. Celio (+1 650-849-5326, mcelio@gibsondunn.com)
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)
Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
Debra Wong Yang (+1 213-229-7472, dwongyang@gibsondunn.com)
* Sean Brennan and Jimmy Pinchak are recent law graduates working in the firm’s Washington, D.C., and New York offices, respectively.
© 2022 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.