Author: Doug Cornelius

You can find out more about Doug on the About Doug page

Compliance Bits and Pieces for June 11

Here are some interesting stories from the past week:


SEC Union: Staff Need Not Check BlackBerrys After Hours by Bruce Carton in Compliance Week‘s Enforcement Action

In short, Khuzami and his senior colleagues can call, email and text SEC Enforcement staff all they want after hours–but can’t do much about it if staff members fail to pick up or respond until the next business hours begin. Chapter 293 President Greg Gilman stated in February that “a great many employees expressed concerns about being ‘on call’ 24/7. This is the type of quality of life issue about which we feel the Union is in the best position to make a big difference for SEC employees.” Gilman added that “it wouldn’t be fair to characterize employees as lazy,” according to Business Week.

FBI Uses Terror-Probe Tactics on Fraud by Devlin Barrett in the Wall Street Journal

Federal Bureau of Investigation officials in New York are increasingly employing tools and techniques used to hunt terrorists to take aim at a different kind of criminal: white-collar con artists and inside traders.


My iPad? A Great Bundle of Sticks by Andrew McAfee

“I feel about it the way Winston Churchill felt about democracy, which is that it’s the worst system for organizing economic activity except for all those other forms that have been tried. I believe that America’s extraordinary track record of innovation and creativity exists not despite its IP laws, but at least in part because of them. I applaud the fact that IP creators and owners have strong rights to exclude, even when these creators and owners are big, powerful corporations. And I really like the bundle of sticks contained in my iPad.”

DOJ Guidance and the FCPA by James Parkinson in the FCPA Professor

This suggests another question: what would the commentary landscape look like today if the DOJ published a new Federal Register notice soliciting “views concerning the extent to which compliance with 15 U.S.C. 78dd-1 and 78dd-2 would be enhanced and the business community assisted by further clarification of the provisions of the anti-bribery provisions through the issuance of guidelines”?

Bigger, Stronger, Faster: The PCAOB After The Supreme Court Ruling by Francine McKenna at re: The Auditors

The Supreme Court will decide on Free Enterprise Fund v. PCAOB before their session is concluded on June 28th. Whether the PCAOB is or isn’t declared unconstitutional, there are some key gaps in the original Sarbanes-Oxley legislation that should be addressed. Now is the time to give the PCAOB the tools it needs to be as effective as possible.

TRACE Releases First Summary of Global Ant-Bribery Activity from the WrageBlog

The good news is enforcement of international anti-bribery laws is increasing. The bad news is many countries have yet to leave the anti-bribery enforcement starting line. TRACE International released its first-ever summary of worldwide anti-bribery activity today, and it is evident from its data that enforcement is gaining momentum. The TRACE Global Enforcement Report (GER) 2010 summarizes 33 years of enforcement activity by nations around the world.

Getting Cleaned by Oil Spill Stock Scams

I doubt you have missed the news about the oil spill mess in the Gulf of Mexico. The scammers have clearly noticed and sense an opportunity to make a quick buck.

Some companies may issue press releases, or send unsolicited faxes or spam emails that might include:

  • Claims to have products or technologies that are effective in remediating oil spills or restoring the eco-system
  • Mention of contracts or expected contracts with BP, formerly British Petroleum, that will aid the cleanup effort
  • Claims that the company is providing technical assistance or expertise to BP or to U.S. government agencies such as the Coast Guard or the Environmental Protection Agency

One of the first identified scam enforcement actions, the SEC suspended the trading in ACT Clean Technologies.

The Commission temporarily suspended trading in the securities of ACT because of questions that have been raised about the accuracy and adequacy of publicly disseminated information concerning, among other things: (1) British Petroleum’s purported expression of interest in using a so-called oil fluidizer technology purportedly licensed to ACT’s wholly-owned subsidiary, American Petroleum Solutions, Inc., for use in cleanup operations in the Gulf of Mexico, and its purported request that field tests be conducted on the oil fluidizer technology; and (2) the purported results of field tests finding that the oil fluidizers are effective for use in clean up efforts in the Gulf of Mexico.

Many of these “investment opportunities” are classic pump-and-dump schemes. Early investors pay people to generate publicity  intended to increase demand for company stock and drive up the stock price. They use spam emails, investor bulletin boards, blogs, Twitter and any of the myriad of social networking platforms. When prices rise, the insiders or third party scammers sell their shares and let the price drop.

Other stocks involved are MOP Environmental Solutions and Green Bridge Industries.

Complaints can be filed on FINRA’s website or on the SEC’s website. You can also call the National Center for Disaster Fraud’s special oil-spill hotline if you suspect an oil spill scam: 1-866-720-5721.

The Financial Times is reporting that the assets of BP executives are being used instead of the typical dead banker emails from Nigeria.

I am the private solicitor for Mr Tony Hayward, the esteemed Chairman and Chief executive of British Petroleum. My client has various personal and family related holdings of BP stock and options. Due to his faithful long standing service to BP the total value of his holdings amounts to in excess of 100m pounds sterling. Mr Heywood is a British citizen but it has been my sorrowful duty to advise him that his personal and family wealth is at great risk of being wrongfully confiscated by US authorities acting extra-territorially under special powers authorised by the US government and with the secret consent of a supine UK political and legal establishment.

Sources:

Snake Oil 2.0

From Hugh MacLeod of Gaping Void:

“Anyone who has spent a lot of time studying blogs and Web 2.0, will be fully aware of all the blethering hyperbole that comes with it. Every business model that ever came before is DEAD, to be replaced forever by community! YAY!

Well, some dinosaur business models may be more dead than others, however… life still goes on. People still need to make a buck. People are just as governed by the seven deadly sins as they ever were. Some things never change. All is still vanity.”

Like Hugh, I am a great believer in Web 2.0 and Enterprise 2.0. I just think there is too much hype and too many people trying to sell snake oil.

It’s not about making money and marketing yourself. It’s about sharing ideas, collecting information and connecting with people.

Just about everyone with a substantive blog ends up spending some posts on blogging itself. Even the great criminal defense lawyer and blogger Scott Greenfield will publish an occasional post about blogging.

I’m spending some of that self-reflective time next week at the Enterprise 2.0 conference. My session is on Wednesday afternoon when my panel will talk about policy formation, governance and risk management programs as a critical requirement for the internal and external use of social networking and social media.

Once again the hype comes face to face with the reality of legal requirements and risk. Beware of the snake oil.

Snake Oil 2.0 is by Hugh MacLeod

Warning the Witness

At the Compliance Week 2010 conference, David Seide was nice enough to give me a copy of his new book: Warning the Witness: A Guide to Internal Investigations and the Attorney-Client Privilege. David co-wrote the book with Gary Collins, Managing Director & Director of Compliance at GE Energy Financial Services.

Since the DOJ, SEC and other agencies focusing on financial crimes, it is important to understand how an employee investigation is affected by the attorney-client privilege. This book lays out the legal background.

Internal investigations get tricky when you are using outside counsel or in-house counsel that the employee is used to getting legal advice from. They have some expectation that the lawyer is their lawyer and the information is confidential. We saw those problems with attorney-client privilege and internal investigations in some recent cases.

The tricky part is that since the lawyers work for the company, the company holds the right to waive the attorney-client privilege.  Even beyond the privilege there is a duty of confidentiality that could further limit the necessary disclosure of information during an investigation.

Collins and Seide do a great job of laying out the legal background and then turning the legal issues into recommended best practices. The book also has extensive appendixes containing the relevant model rules of professional conduct and Department of Justice memoranda.

If you want more detail on the contents, I have included the table of contents at the end of this post.

They have a great model corporate miranda that sets the stage for an employee interview. It’s key to make sure that the employee understands it, even though is not common practice to have them sign it.

The book is a great addition to your bookshelf if you are involved in employee investigations.  It’s available from the American Bar Association web store.

Table of Contents

  • Chapter I
    • Introduction
  • Chapter II
    • The Attorney-Client Privilege
    • Introduction
    • Relevant Principles Underlying the Attorney-Client Privilege
    • What Is the Privilege?
    • Elements
    • Formation of the Attorney-Client Relationship
    • Application to the Corporate Context
    • Duty of Confidentiality to Prospective Clients
    • Elements
    • Application to the Corporate Context
  • Chapter III
    • Upjohn and Its Impact on the Attorney-Client Privilege
    • The Corporate Attorney-Client Privilege Prior to Upjohn
    • The Upjohn Decision
  • Chapter IV
    • Formalizing Witness Warnings
    • Codification through the ABA Model Rules
    • ABA Rule 1.13(f)
    • ABA Rule 4.3 21
    • The Relevance of the Model Rules to Upjohn Warnings
    • Adoption of the Model Rules by Various Jurisdictions
    • Illustrative Post-Upjohn Cases
  • Chapter V
    • Current Witness Warning Practices
  • Chapter VI
    • Recommended Best Practices
    • Suggested Witness Warning
    • Recommended Procedures to Follow
    • Counsel Interviewing Constituents
    • Other Issues for Consideration Constituents Approaching Counsel
    • Supplementing Oral Warnings
    • “Do I need a lawyer?”
    • “What is my status? Is there a conflict of interest?”
    • Separate Counsel for Constituents
    • “What if I refuse to cooperate in this investigation?”
    • Third-Party Uses of Information
    • Confidentiality of Communications Between Counsel and the Constituent
    • Joint Representation of the Corporation and the Individual

Private Equity and the Custody Rule

With the impending removal of the 15 Client Rule exemption from registration with the SEC, I was scratching my head trying to figure how to make the SEC’s new custody rule work for private equity.

The SEC recently updated its guidance on custody rule compliance truing to add clarity for advisers to pooled investment vehicles.

Here is one:

Question II.3

Q: If an adviser manages client assets that are not funds or securities, does the amended custody rule require the adviser to maintain these assets with a qualified custodian?

A: No. Rule 206(4)-2 applies only to clients’ funds and securities. (Posted 2003.)

Actually that does not help. A private equity fund will hold interests in private companies. Those interests may be stock, LLC interests or partnership interests.  Just because the company is private, those interests may still be securities.

For real estate private equity, the deeds to the underlying property would fall outside the custody rule. The intermediate entities, REITs and joint ventures may not fall outside the custody rule.

§ 275.206(4)-2(b)(2) has an exemption for certain privately offered securities, if the securities are:

(A) Acquired from the issuer in a transaction or chain of transactions not involving any public offering;
(B) Uncertificated, and ownership thereof is recorded only on the books of the issuer or its transfer agent in the name of the client;
and
(C) Transferable only with prior consent of the issuer or holders of the outstanding securities of the issuer.

This exemption is available only if the fund is audited, and the audited financial statements are distributed, as described in paragraph (b)(4) of this section.

The “uncertificated” requirement can be a problem. It is common practice for lenders relying on private company interests to require they be certificated to get better priority under the UCC.

The limits on transfer are a problem because as the holder of the interests, you want the flexibility to transfer interests.

The financial statements requirement is another extra burden, although may not be a problem for many funds. This requires:

  • annual audit
  • in accordance with GAAP
  • within 120 days of the end of the fiscal year
  • independent accountant registered and subject to inspection by PCAOB

(I’m not sure how quickly the SEC can change this rule if the Supreme Court rules PCAOB unconstitutional.)

In looking towards Capitol Hill, the Senate’s would exempt private equity firms from having to comply with the custody rule since they would not have to register. The House’s would not exempt private equity firms from registration and they would be subject to the custody rule.

One interesting aspect of the bills is that fund advisers that are currently registered because they have more than 15 clients/funds may no longer have to be registered if they fall under the venture capital fund advisers exemption or private equity fund advisers exemption. (Assuming those exemptions survive in the final bill.)

Sources:

Image of Old West Bank – It’s a beautiful bank is by oddsock

Ernst & Young’s 11th Global Fraud Survey

Driving ethical growth – new markets, new challenges, the title of  Ernst & Young’s 11th Global Fraud Survey, shows fraud is up; audit and legal are stretched to deal with these challenges; compliance is patchy; and Boards need more and better information to manage the risks.

They interviewed more than 1,400 chief financial officers, and heads of legal, compliance and internal audit in 36 countries to get their views on how companies are managing the risks associated with fraud, bribery and corruption.

The survey was conducted in 2009 and 2010 on behalf of Ernst & Young’s Fraud Investigation & Dispute Services practice.

Consistent with the experience of past recessions, companies have been struggling with an upsurge in fraud and corruption. Almost one in six of our respondents have experienced a significant fraud in the past two years.

Compliance is New

Compliance is still a developing area outside of the highly regulated industries, such as life sciences and financial services.

About half of the compliance professionals surveyed have been in a compliance role for less than five years.

As a relative newcomer, the compliance function faces the extra hurdle of demonstrating its value. Of course, you need to demonstrate value if you want to get more resources. This was the greatest challenge identified by compliance professionals in their survey.

The competition for resources also reduces compliance’s ability to gather the current management information required to do its job, making it harder still to demonstrate value to the rest of the business.

Board Concerns

Seventy-six percent of respondents feel their boards are increasingly concerned about their personal liability from fraud, bribery and corruption. The survey indicates that the Board’s level of concern with fraud has risen with the overall rise in fraud and corruption risks in the current economic climate. All the survey participants think that board members are taking their own personal exposure seriously.

Private Fund Manager Registration Status

Shearman & Sterling put together a great client publication on private fund manager registration requirements being considered by Congress: Private Fund Manager Registration as U.S. Financial Reform Legislation Approaches the Finish Line.

Among the many provisions to be reconciled in the 1,600+ pages of each bill are those that would require private fund managers to register as investment advisers with the U.S. Securities and Exchange Commission. The registration provisions would strike the existing registration exemption on which many fund managers now rely, that being the so-called “private adviser” or “fourteen or fewer clients” exemption. The result is that many fund managers that are currently exempt from SEC investment adviser registration will be forced to register in due course. With that background, this alert highlights differences between the Senate and House treatment of these registration requirements.

Compliance Bits and Pieces for June 4

Here are some recent stories that I found interesting:

The Auditors And Financial Regulatory Reform: That Dog Don’t Hunt by Francine McKenna in re: The Auditors

The firms are broken and their basic product is worthless. The auditors were completely impotent to warn investors of over-leverage and risky business models, to prevent erroneous and potentially fraudulent financial reporting and to mitigate the impact on everyone of these errors, misstatements, obfuscations and subterfuge by executives of the failed, bailed out and nationalized financial institutions.

Why Links Belong in text by Felix Salmon in Reuters

A blog entry with links at the bottom has aspirations to being self-contained, like say a newspaper column: the links are optional extras. I never have such aspirations and anybody looking to make full use of the power of the internet is doing themselves a huge disservice if they start thinking that way. In these days of tabbed browsing, there’s a difference between clicking and clicking away: most of us, I’m sure, control-click many times per day while reading something interesting, letting tabs accumulate in the background as we find interesting citations we want to read later.

Whistleblowers, Cooperators Making Their Way to the SEC’s Door by Kara Scannell in WSJ.com‘s Law Blog

While speaking at a recent Practicing Law Institute seminar, Reisner said the SEC has signed 10 cooperation agreements so far with other potential deals in the pipeline. The insiders are helping investigators in probes involving insider trading, financial and accounting fraud, stock offering frauds, and public company disclosures, he said. Reisner said the vast majority of cooperators came in the door after the probes were already underway. “One was a situation where someone walked in the door,” he said.

Dan Ariely asks, What is the right amount to pay bankers? in TED blog

To look at the question of how bonuses affect performance, Uri Gneezy, George Loewenstein, Nina Mazar, and I conducted a few experiments. In one, we gave participants an array of tasks that demanded attention, memory, concentration, and creativity. We asked them, for instance, to fit pieces of a metal puzzle into a plastic frame, to play a memory game that required reproducing a string of numbers, to throw tennis balls at a target, and a few other such tasks. We promised payments of different amounts (either low, medium, or very high bonuses) if they performed any of these tasks exceptionally well. About a third of the subjects were told they’d be given a small bonus (relative to their normal wages), another third were promised a medium-sized bonus, and the last group could earn a very high bonus.

Four-Year Sentence In Haiti Case in The FCPA Blog

A former employee of Haiti’s state-owned national telecommunications company was sentenced yesterday to 48 months in prison for being part of a bribery and money-laundering scheme. Robert Antoine, 62, of Miami and Haiti, pleaded guilty in March this year to conspiracy to commit money laundering. He was also ordered by the federal judge in Miami to pay $1,852,209 in restitution and to forfeit $1,580,771, and serve three years of supervised release following his prison term.

What’s Your KM? by Mary Abraham in Above and Beyond KM

Substitute compliance for KM:
Critics says that the inability of knowledge management proponents to settle on a universally accepted definition of KM is a sign of failure. Others say that the lack of definition and resulting ambiguity present marvelous opportunities. If you are like me (i.e., firmly settled in the second camp), then it is doubly important not to let the discipline’s perceived lack of definition translate into a personal lack of definition. Knowledge managers who lack definition make administrators very nervous. And that is not career enhancing. So the real challenge for knowledge managers is to define themselves and their work, and then help the administrators understand and accept that definition.

Side-by-Side Comparison Chart of Financial Reform Bills

The Wall Street Reform and Consumer Protection Act of 2009, passed by the House on December 11, 2009 is over 1300 pages long. The Restoring American Financial Stability Act of 2010, passed by the Senate on May 20, 2010, is over 1600 pages long.

You have lots of reading to figure out the differences between the two bills.

Davis Polk put together a great side-by-side chart that compares key issues in the Senate and House Bills. At a 160 pages, the chart provides a much more detailed analysis than any other I have seen published.

Check out The Checklist Manifesto

As a former transactional attorney, I was trained to use checklists. The transactions were too complicated to keep track of everything in my head. I also needed to communicate with the rest of the transaction team. In The Checklist Manifesto, Atul Gawande approaches checklists from the perspective of a surgeon.

I had put off reading this book because I’m already a fan of checklists. I didn’t need to be sold on their effectiveness. But I was still floored by the effectiveness Gawande reported in his studies.

In using a checklist for placing a central line, the ten-day infection rate was reduced from 11% to zero. He cites many other examples and studies that show that checklists can improve the performance of highly-trained workers.

“In a complex environment, experts are up against two main difficulties. The first is the fallibility of human memory and attention, especially when it comes to mundane, routine matters that are easily overlooked under the strain of more pressing events…. A further difficulty, just as insidious, is that people can lull themselves into skipping steps even when they remember them. In complex processes, after all, certain steps don’t always matter.”

I was particularly happy to see Gawande cite the correct story about Van Halen’s use of M&M’s as a compliance checklist tool. (See my prior post: Compliance Van Halen and Brown M&M’s.)

If you haven’t already read The Checklist Manifesto you should add it to your reading list.

Other’s thoughts on The Checklist Manifesto: