Avoiding FCPA surprises: safe harbor from successor liability in cross-border mergers and acquisitions.

• Author: Prestidge, Adam
• Position: Foreign Corrupt Practices Act

TABLE OF CONTENTS INTRODUCTION I. BACKGROUND A. FCPA Rules B. Companies Subject to the FCPA C. FCPA Liability in Mergers and Acquisitions II. PROBLEM AND PARTIAL SOLUTION A. Problem: Potential FCPA Liability Is a Significant Risk 1. Expensive Due Diligence Slows Transactions 2. Companies May Be Forced to Abandon Deals 3. Select Case Studies a. Pre-Acquisition Issues b. Post-Acquisition Issues B. Partial Solution: A Safe Harbor in Opinion Procedure Release 08-02 C. 2012 FCPA Guidance 1. Promotion of a Safe Harbor 2. Lingering Uncertainty III. COMPLETE SOLUTION: A SAFE HARBOR PROVISION IN THE FCPA A. Uncertainty Creates Need for Consistency B. A Proposed Safe Harbor Provision 1. Provision Text 2. Hypothetical Provision Explained 3. Comparison with Other Laws C. The Proposed Safe Harbor Provision in Practice IV. A SAFE HARBOR PROVISION WOULD BE BENEFICIAL FOR BOTH BUSINESSES AND THE GOVERNMENT A. Benefits for Companies 1. Lower Transaction Costs 2. Facilitating Mergers and Acquisitions B. Furthering the Purpose of the FCPA C. Alternatives and Counterarguments CONCLUSION INTRODUCTION

In November of 2012, the Department of Justice (DOJ) and the Securities and Exchange Commission (SEC) jointly issued a widely demanded and unprecedented resource guide to the Foreign Corrupt Practices Act (FCPA). (1) "The Guidance" came in response to a letter from the U.S. Chamber of Commerce and a coalition of over thirty business organizations, representing the views of over three million businesses, that identified areas in critical need of clarification regarding the Agencies' enforcement of the FCPA. (2) Among several other requests, the Chamber of Commerce letter asked for particular guidance in mergers and acquisitions. The letter claimed, "[t]he threat of successor liability even if a thorough investigation is undertaken prior to a transaction has had a significant chilling effect on mergers and acquisitions, and therefore clearer parameters for successor liability under the FCPA are needed." (3) The letter, claiming that the FCPA reduces merger and acquisition activity, further explained that there "has been a chilling effect on legitimate business activity" as a result of uncertain enforcement practices. (4)

In response, the Guidance pays close attention to FCPA enforcement in mergers and acquisitions and takes a significant step toward reducing uncertainty for businesses engaged in cross-border mergers and acquisitions. The Guidance, however, is not entirely clear and still presents companies with significant legal questions that they must weigh when considering cross-border transactions. This Note argues that although the Guidance dramatically reduces uncertainty in some instances, the FCPA still lacks clarity. To increase clarity and transactional certainty, the DOJ and SEC should provide additional clarification or include a provision that grants safe harbor from successor liability for FCPA violations in certain transactions. (5) Such change is especially necessary in cross-border mergers and acquisitions, in which proper pre-acquisition due diligence is inherently more difficult and sometimes impossible. (6)

Part I presents the background of the FCPA and its impact on mergers and acquisitions. Part II discusses how unanticipated successor liability for FCPA issues can be difficult to discover and can be a significant barrier to mergers and acquisitions (M&A) (7) activity. This Part also notes the unique safe harbor from liability that was granted for a transaction in 2008 and analyzes the 2012 Guideline's expansion of this safe harbor. Part III argues that a clear safe harbor provision should be added to the FCPA and discusses how that provision should be structured, and Part IV explains how a safe harbor provision, whether as extended in the Guidance or as proposed in Part III, is good economic and legal policy.

Some academics and practitioners have previously suggested the possibility of a safe harbor as a solution to the FCPA's successor liability issues. Outside of this Note, none have examined the potential operation and effect of such a change, and none have discussed it with respect to the Agencies' recent Guidance. (8)

1. BACKGROUND

   1. FCPA Rules

      The Foreign Corrupt Practices Act is a federal law that criminalizes the bribery of foreign officials by businesses or individuals that fall under the United States's jurisdiction. (9) To prevent such corrupt practices, the FCPA requires companies to maintain certain accounting standards. (10) The primary way that a company violates the FCPA is by making payments to foreign officials or political parties for the purpose of influencing that official or party to grant a business advantage to the payer of the bribe. (11) Although the law preserves certain exceptions and defenses relating to normal business conduct, (12) the main goal of the FCPA is to prohibit the bribery of foreign officials. (13)

      The FCPA is jointly enforced by the DOJ and the SEC. (14) Both Agencies co-authored and released the recent Guidance. (15) Although the FCPA was enacted in 1977, it has only recently risen to prominence in the minds of dealmakers for multinational corporations. In 2004, the DOJ and the SEC initiated only five enforcement actions; in 2010, the Agencies initiated a combined seventy-four actions; and in 2011, forty-eight actions. (16)

      Recent enforcement trends, combined with potentially huge monetary penalties, have forced companies to take great care to avoid potential FCPA liability or face severe consequences. In the most stark example, Siemens paid $800 million in penalties for FCPA violations in 2008, the highest penalty ever enforced for foreign misconduct. (17) Eye-opening cases like this and others (18) have caused companies to take keen notice of the reality that FCPA enforcement is a factor that businesses must consider in their operations. (19)

   2. Companies Subject to the FCPA

      The FCPA is unique because it is a federal law traditionally focused on U.S.-based companies, but it is also enforced on foreign companies. (20) The FCPA holds jurisdiction over companies that fall under one of three categories: (1) companies that are organized under the laws of the United States, which includes U.S. subsidiaries of foreign-owned entities and U.S. nationals acting on behalf of foreign companies; (21) (2) all companies, including those that are foreign-owned and operated, that issue stock or trade their securities in U.S. exchanges; (22) and (3) any company that does not fit into one of the previous two categories, but has violated the FCPA within the territory of the United States. (23)

      Combining these three categories, government enforcement of the FCPA has a broad international reach, even where a U.S. claim to jurisdiction might not seem obvious. For example, a Norwegian company that bribed Iranian officials could be held liable because it had securities traded on the New York Stock Exchange, (24) or a Taiwanese company could be liable for bribes to Taiwanese officials because the bribes were authorized by an executive in the United States. (25) Recently, FCPA enforcement against Chinese companies that list securities on U.S. stock exchanges has led many of these companies to delist their securities to avoid potential litigation. (26)

   3. FCPA Liability in Mergers and Acquisitions

      The FCPA's broad international reach, combined with the severe penalties that violations can carry, creates a global business environment that requires cognizance of potential FCPA liabilities. This can have enormous implications in merger and acquisition transactions, in which a target company's liabilities become those of the acquirer through successor liability. (27) Successor liability requires that, when one company acquires or merges with another, the surviving successor company acquires the duties and liabilities of the target company. (28)

      Successor liability issues frequently depend on the way that a deal is structured. (29) In transactions that are structured as the merger of two companies, in which the target company is assimilated into the acquiring company, all liabilities of the target are automatically borne by the acquirer upon completing the transaction. (30) In transactions that are structured as an asset sale, the target company may sell specific business assets to the acquirer. (31) Each asset and liability is negotiated prior to sale, and parties frequently address who will assume liability for any issues that arise after the deal closes. (32) Finally, in transactions that are structured as a stock acquisition, the target company retains its corporate structure, but becomes a subsidiary of the acquirer. (33) In this type of deal, the target company retains all of its liabilities. Those liabilities, however, do not extend to the acquirer because it is still an independent corporate entity, even though it now owns the target company's stock. (34)

      While each of these deal structures might determine successor liability differently, it is critical for the target company to determine the existence and extent of any potential liability in each structure. In a merger, the extent of liabilities will determine the risk that the acquirer will be exposing itself to and may have a significant bearing on the likelihood or the cost of the transaction. (35) In asset sales, potential liabilities can dramatically affect the value of an asset, and negotiations regarding the assignment of those liabilities--whether the acquirer will accept them or the target will indemnify them--may significantly impact the asset price. (36) In stock acquisitions, potential liability may decrease the value of the target, and the acquirer risks paying too much for a company that is full of value-reducing liability issues. (37)

      As the Guidance explained, "[s]uccessor liability applies to all kinds of civil and criminal liabilities, and FCPA violations are no exception." (38) Therefore, acquiring companies...