U.S. v. Panasonic Avionics Corp. — FCPA Enforcement Action Highlights Best Practices In Mitigating Third-Party Risk
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On April 30, 2018, Panasonic Avionics Corporation (“PAC”), a wholly owned subsidiary of Panasonic Corporation (“Panasonic”) specializing in the manufacture, sale, and installation of in-flight entertainment systems contained in commercial airplanes, entered into a Deferred Prosecution Agreement (“DPA”) with the U.S. Department of Justice (“DOJ”) and agreed to pay over $137 million in criminal penalties in order to resolve allegations that it violated anti-fraud, anti-bribery, internal controls, and books and records provisions of the FCPA. The DPA also required PAC to implement a number of remedial measures relating to its compliance programs and internal control functions and imposed a two-year corporate compliance monitorship. On the same day that PAC resolved charges with the DOJ, Panasonic also settled related charges with the SEC, agreeing to pay a disgorgement penalty of roughly $143 million, resulting in combined penalties of nearly $280 million. The details relating to PAC’s conduct set forth in the Criminal Information (the “Information”) and DPA provide key insight into how companies can best mitigate risks associated with third-party engagements and potential violations of internal controls, accounting, and books and records provisions of the FCPA.
Both the Information and the DPA focus primarily on PAC’s retention of certain sales agents and consultants throughout parts of the Middle East and Asia over a roughly six-year period and the company’s failure to properly account for payments to the agents and consultants. According to the Information and the DPA, a known PAC executive oversaw, and had complete discretion over, a budget that PAC used to pay consultants and sales agents located overseas. PAC and Panasonic exercised little or no oversight with respect to the executive’s retention of sales agents and consultants on behalf of PAC, while the company recorded payments made to the agents and consultants as legitimate business expenses when, in fact, they were not providing legitimate services. In one instance, PAC executives offered an unnamed foreign official (within the meaning of the FCPA, Title 15, U.S.C. § 78dd-1(f)(1)) a lucrative consulting position with the company to sell the systems throughout the Middle East. At the same time, the official reported to a state-owned airline’s president, maintained significant influence with respect to the state-owned airline’s decision-making process, and was involved in negotiating a favorable contract amendment for PAC with the state-owned airline. PAC earned more than $92 million in profits from the portions of the contract over which the government official was involved. Despite doing little to warrant the compensation, from 2008 to 2014, PAC paid the foreign official $875,000 through the use of a third-party vendor in exchange for his work in assisting with the negotiations. Those payments were inaccurately recorded in Panasonic’s books and records as legitimate business expenses. Moreover, in another instance, PAC allegedly paid $825,000 to an individual who was working for a domestic airline in order to obtain nonpublic information about negotiations between the domestic airline and PAC’s industry competitors, including pricing information and internal communications. Like the payments made to the government official, these payments were falsely recorded in Panasonic’s books and records as legitimate expenses for consulting services. A certain PAC executive also provided a false internal control certification to the government under Sarbanes-Oxley with respect to these payments.
In addition to making sham payments to the consultants, a number of PAC employees also covered up payments made over a nine-year period to certain sales agents located in Asia, some of whom could not pass PAC’s internal due diligence requirements. Moreover, while PAC ultimately ended its relationship with these agents, PAC employees circumvented PAC’s due diligence processes by funneling payments to those agents who could not meet the diligence requirements by re-hiring them as sub-agents of an agent who had passed due diligence. This process resulted in the misreporting of over $7 million in payments to more than a dozen subagents by mischaracterizing them as legitimate commissions. Additionally, a PAC executive and several PAC employees ignored red flags around these payments, including signs that some of the agents were paid outside of the geographic area where they were purportedly providing services, while other agents were specifically recommended by state-owned airlines.
What is also notable about the Panasonic case is what appears to have been a carefully designed plan around how the payments were made and accounted for by PAC. In particular, the Information and DPA detail the use of PAC’s Office of the President Budget (“OPB”), which was rolled into Panasonic’s financials as a “selling and general administrative expenses” line item, despite the fact that it was not overseen or approved by Panasonic or any of its personnel. The budget was set by one executive at PAC on an annual basis, without any oversight or approval from anyone at PAC or Panasonic. PAC made the payments to the consultants and sales agents through a third-party service provider, using money from the OPB, even after audits revealed “critical risk[s]” associated with the payments, including a draft audit report circulated among certain PAC executives that warned “[Service Provider] consultant payments should be carefully reviewed in light of FCPA regulation [sic] due to lack of clarity in deliverables.” PAC ignored this and similar risks noted by the auditor and specifically omitted from a final report certain warnings regarding onboarding consultants and retaining vendors.
In addition, the third-party service provider that PAC used to make the payments to the consultants received a percentage of the consultant’s payments—in essence a kickback—to act as a pass-through channel for the transactions. Ultimately, PAC failed to maintain adequate internal controls to ensure that the OPB funds were used properly and were accurately reflected in PAC’s and Panasonic’s books and records, in violation of the FCPA.
Best Practice Takeaways
The Panasonic settlement reflects the DOJ’s and SEC’s continued focus on the sufficiency of companies’ internal controls to ensure accurate books and records. For in-house legal and compliance professionals, the settlement also underscores the importance of continued compliance monitoring and auditor oversight of payments to third-party consultants, particularly in higher-risk countries. Some key takeaways include the significance of the following actions.
- Implement and reassess onboarding procedures to ensure that consultants and third-party service providers are thoroughly vetted before they are retained and that appropriate due diligence is conducted and well-documented.
- Ensure that any red flags identified in diligence are adequately and appropriately addressed before moving forward with the relationship.
- Include standard contractual protections in such agreements, including compliance representations and warranties and audit rights.
- Establish a clear and transparent process for reviewing and approving third-party payments to higher-risk vendors.
- Ensure that individuals and companies who have previously failed due diligence checks are not permitted to circumvent due diligence measures by, for example, inappropriately re-hiring through the use of sub-agents.
- Monitor ongoing risk, including exercising audit rights.
- Ensure that any payments to consultants are carefully reviewed and properly categorized and described in company records.
Ryan J. Rohlfsen is a partner in Ropes & Gray’s Litigation and Enforcement practice group and a former U.S. federal prosecutor. He has been representing companies and individuals from around the world in white collar, civil litigation, and international risk areas. Ryan also counsels companies in developing world-class compliance programs in anti-corruption, export control and sanctions, international risk management, and data privacy and cybersecurity.
Patrick J. Reinikainen is an associate in the firm’s Litigation and Enforcement practice group. Patrick represents clients in complex litigation, civil and criminal government enforcement matters, and internal investigations. He also has experience advising companies on a wide range of regulatory compliance and risk management issues.
Torryn M. Taylor is an associate in Ropes & Gray’s Litigation and Enforcement group. She has a diverse practice including contracts disputes, SEC enforcement matters, civil litigation, and government and internal investigations.
Copyright © 2018 The Bureau of National Affairs, Inc. All Rights Reserved.
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Authors: Ryan J. Rohlfsen, Patrick J. Reinikainen, and Torryn M. Taylor
Source: The Bureau of National Affairs
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