the Perfect FCPA Storm Finally Arrived for U.S. Financial Markets?
This case may be the catalyst that jump-starts a
government FCPA sweep of Wall Street that has been predicted since 2011, but
On May 7, 2013, the U.S. Attorney's Office for the
Southern District of New York (SDNY) unsealed extraordinary criminal charges against two
registered representatives of a U.S. broker-dealer and a high-level Venezuelan
government official for engaging in a "Massive International Bribery
Scheme." What makes this fraud scheme remarkable is that it involves the
activities of a U.S. broker-dealer, its client, a foreign-owned and controlled
bank, the Foreign Corrupt Practices Act (FCPA) and several suspicious
transactions that potentially should have raised concerns-a perfect storm. This
case may be the catalyst that jump-starts a government FCPA sweep of Wall
Street that has been predicted since 2011, but not realized.
As some may recall, in January 2011, The Wall Street
Journal reported that the U.S. Securities and Exchange Commission (SEC) was
conducting an FCPA sweep of certain banks, hedge funds and private equity firms
over their relationships with sovereign wealth funds (SWF). The substance of
that SEC inquiry related to whether these entities were bribing foreign
officials of SWFs for business. Soon after that article, many FCPA experts
predicted that following the sweeps of the oil and gas industry and
pharmaceutical and medical devices that Wall Street was next. Many detractors
of big business believed it was finally due. Since 2011, nothing has
materialized from the SWF investigations. For many who represent large
financial services companies, this result was not surprising. After all,
broker-dealers and financial services companies generally take compliance
seriously. However, U.S. authorities may decide to take another look at
broker-dealers and others who have foreign officials as clients.
The SDNY prosecution and related SEC civil complaint are not about a Venezuelan SWF, but parallels can
be drawn between the SEC concern in 2011 and what was revealed in the criminal
complaint on May 7, 2013, and in the related SEC civil complaint. The core
issue is whether U.S. persons in the financial markets are paying foreign
officials for business. This new prosecution highlights that a broker-dealer's
anti-money laundering procedures, as well as oversight of their registered
people, should have an FCPA component if the firm is doing international business.
This prosecution is likely to act as a wake-up call to broker-dealers, banks,
private equity and hedge funds and others who have foreign officials as clients
and who engage business with foreign-owned or foreign-controlled companies. We
will offer some items for consideration on how to identify and minimize any
potential FCPA risks.
The Bribery Scheme
According to the allegations filed by the SDNY, the SEC
and other records, Tomas Alberto Clarke Bethancourt and Jose Alejandro Hurtado,
who were both employees of U.S. broker-dealer Direct Access Partners
(Broker-Dealer); and Maria de los Angeles Gonzalez de Hernandez, a senior
official in Venezuela's state economic development bank, Banco de Desarrollo
Económico y Social de Venezuela (BANDES), were accused of criminally conspiring
to pay bribes to Gonzalez in exchange for her directing BANDES's financial
trading business to the Broker-Dealer. The nature of the illegal scheme is not
new or innovative. The method by which the defendants allegedly attempted to
conceal the scheme from authorities was highly sophisticated and complex.
The U.S. Department of Justice (DOJ) described in its
release the details of the fraud.
"From April 2009 through June 2010, Clarke, Hurtado,
and Gonzalez participated in a bribery scheme in which Gonzalez directed
trading business she controlled at BANDES to the Broker-Dealer, and in return,
agents and employees of the Broker-Dealer split the revenue the Broker-Dealer
generated from this trading business with Gonzalez. During this time period,
the Broker-Dealer generated over $60 million in mark-ups and mark-downs from
trades with BANDES. Agents and employees of the Broker-Dealer, including Clarke
and Hurtado, devised a split with Gonzalez of the commissions paid by BANDES to
the Broker-Dealer. Emails, account records, and other documents collected from
the Broker-Dealer and other sources reveal that Gonzalez received a substantial
share of the revenue generated by the Broker-Dealer for BANDES-related trades.
Specifically, Gonzalez received monthly kickbacks from Broker-Dealer that were
frequently in six-figure amounts."
The DOJ made a point of identifying what it considered
red flags in the operations and trading that should be highlighted.
"Some of the trades the Broker-Dealer executed for
BANDES had no discernible business purpose. For instance, in January 2010, the
Broker-Dealer executed at least two round-trip trades between itself and BANDES
for the same bonds on the same day. In other words, the Broker-Dealer bought
certain bonds from BANDES and then immediately sold those same bonds back to
the bank. The result of the trades was that BANDES was left with the same bond
holdings as before the trades, except that it had paid the Broker-Dealer
approximately $10.5 million in mark-ups in the course of the two round-trip
An apparent implication of the DOJ's allegations is that
the Broker-Dealer's supervision and surveillance functions should have detected
these transactions. It would not be surprising for a round-trip transaction to
raise a red flag for potential money-laundering or possibly for high-frequency
or market-timing type of activities, depending on the product involved. Because
the DOJ's complaint is the only reference at this point, it is unknown what
procedures this particular broker-dealer had in place. Nevertheless,
broker-dealers with international business may want to review their policies
and procedures to confirm that FCPA issues are properly being considered.
The DOJ allegations further suggest that the defendants
shared the proceeds of the alleged fraud with each other and that they used
intermediaries to conceal the fraud.
"Certain payments to Gonzalez directly from Hurtado
and an entity controlled by Clarke totaled at least $3.6 million. When added
together with other payments referenced in the Complaint, Gonzalez received a
total of at least $5 million. To further conceal the scheme, the kickbacks to
Gonzalez were often paid using intermediary corporations and offshore accounts
that she held in Switzerland, among other places. For instance, Clarke used an
account he controlled in Switzerland to transfer funds to an account Gonzalez
controlled in Switzerland. Gonzalez then transferred some of this money to an
account she held in the United States. Additionally, Hurtado and his spouse
received substantial compensation from the Broker-Dealer, portions of which
Hurtado transferred to an account held by Gonzalez in Miami and to an account
held by an associate of Gonzalez in Switzerland. Hurtado also sought and
received reimbursement from Gonzalez for the payment of U.S. income taxes
related to the money that he used to make kickback payments to Gonzalez."
Again, broker-dealers often review the bank accounts of
their registered people to confirm that client funds are not being stolen and
that commissions are not being improperly split with non-registered people. But
are broker-dealers adequately considering FCPA issues when monitoring the
financial transactions of their registered people? This review is often limited
to an annual audit, which occurs yearly or perhaps only every couple of years.
If the broker-dealer is conducting international business, it may be worthwhile
to posit: Should these reviews happen more frequently?
Were there any red flags in the case? According to the
SEC complaint, there may have been red flags for the U.S. broker-dealer to
consider. "In 2007 and 2008, [the Broker-Dealer] reported revenues of
approximately $15 million and $27 million, respectively, almost exclusively
from unsolicited equity transaction commissions." (SEC Complaint para.
21.) In 2009, the Broker-Dealer's business changed dramatically, as its
"revenues soared in 2009 to $75 million (five times what it had been only
two years before) and were $31 million in the first half of 2010, with the
increase almost exclusively due to the fraudulent scheme." Id.
Broker-dealers are required to have a process in place to ensure that their
policies and procedures are reasonably designed to achieve compliance with
applicable Financial Industry Regulatory Authority (FINRA) rules, Municipal
Securities Rulemaking board (MSRB) rules and federal securities laws and
regulations. As the broker-dealer's business model changes, the process should
ensure that the policies and procedures evolve with the business. Each year,
the chief executive officer is required to certify that the firm is in
compliance with these requirements. If a broker-dealer is conducting
international business or is considering expanding into international business,
then perhaps these processes need to include some consideration and testing for
Without casting blame on the broker-dealer in this case,
it remains to be seen what programs it had in place and whether there is any
exposure for a failure-to-supervise charge by the regulators, or more.
For Broker-Dealers and Financial Companies
The purpose of this Alert is not to focus on the
guilt or innocence of those charged in the government cases or to negatively
cast an industry for the alleged acts of a few. This case demonstrates that
Wall Street is not immune to the concerns and risks of other industries and
global companies, large and small. It is important to note that the
broker-dealer in this case had revenues in the range of $15 million to $30
Below are possible strategies to consider on how to
identify and potentially minimize FCPA risks.
In many cases, developing an FCPA compliance program will
not be challenging to add to an existing compliance system. It requires experience
and judgment to tailor to the company's needs.
For Foreign Banks
Foreign banks and those who manage the foreign companies
may want to look into the mirror and ask if they are doing enough to monitor
the risks posed by this case. Here are some items to consider:
In each case, the needs may be different and the internal
and external relationships may be complex. It may be prudent for a company to
tailor the review to its specific needs.
In the event that there was previous uncertainty, U.S.
financial markets are now on notice that the FCPA is an obligation and that the
U.S. government has reason to ask more questions. It appears worthwhile for
companies to be prepared and have their house in order to potentially avoid
problems later. There is no excuse now for medium- to small-broker dealers,
companies and funds to avoid looking into these matters, as it may end up being
a worthwhile endeavor in the end.
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