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The FCPA and China: Two BIG Myths

China FCPA

In just the last few weeks I have become aware of two potentially harmful myths regarding the United States’ Foreign Corrupt Practices Act (FCPA). The first myth relates to who makes the payments and it was set out my someone I greatly respect for his deep knowledge and experience with China business:

Dan, when I was in Beijing last week, a Chinese employee of a US company suggested to me that there are easy ways around the FCPA, including hiring a third party to do the “dirty work” that US companies aren’t allowed to do. I was shocked to hear such a massive loophole may have been left in US law. As far as you know, is this really possible? Have you ever heard of such a maneuver being used in practice? If so, is anyone in DC even aware of the gaping hole left in this law? (Feel free to quote my question anonymously if this topic is worthy of a blog post!).  I think the implications of this are pretty serious. Chinese, in general, tend to view the law as an obstacle to be surmounted. I’m not sure most US companies really understand the cultural differences, and are, therefore, running a bigger risk than they realize. A Chinese employee will look you in the eye, tell you what you want to hear, then go off and do whatever will result in his/her getting promoted.

The FCPA most emphatically does not allow US companies to go around it simply by retaining a third party to do “the dirty deed.”  I turn to the FCPA Professor for the answer:

Q. Can a third-party subject a company to anti-bribery violations?
A. Yes.
A significant percentage of anti-bribery violations against business organizations are based on the conduct of agents, representatives, distributors, or even joint venture partners (collectively third-parties).  Utilizing third-parties in foreign markets is very common as third parties best know the local business landscape and how to get things done.  However, knowing the local business landscape and how to get things done can also mean making improper payments on a company’s behalf in violation of the anti-bribery provisions.

The anti-bribery provisions prohibit not only direct payments to a “foreign official” to “obtain or retain business,” but also payments to “any person” (such as a third-party) “while knowing that all or a portion of such money or thing of value” will be provided to a “foreign official.”

The anti-bribery provisions state that “a person’s state of mind is ‘knowing’ with respect to conduct, a circumstance, or a result if (i) such person is aware that such person is engaging in such conduct, that such circumstance exists, or that such result is substantially certain to occur; or (ii) such person has a firm belief that such circumstance exists or that such result is substantially certain to occur.”

The anti-bribery provisions further state as follows.  “When knowledge of the existence of a particular circumstance is required for an offense, such knowledge is established if a person is aware of a high probability of the existence of such circumstance, unless the person actually believes that such circumstance does not exist.”

As evident from these provisions, whether one can be subject to FCPA liability for the actions of a third-party based on “knowledge” of the third-party’s conduct is a highly fact-dependent analysis.

Because of the FCPA’s “third-party payment provisions,” it is important for those subject to the anti-bribery provisions that utilize third-parties to conduct pre-engagement due diligence and to adopt policies and procedures regarding the engagement and post-engagement obligations of the third-party.

The second myth, and one I heard from two really good lawyers, is that the FCPA does not apply to government officials who work in the “private sector,” like for a Chinese State Owned Entity (SOE). The FCPA requires payments be to a foreign official and this myth has apparently arisen based on the belief that someone working for a company cannot be working is not working in their official capacity as a government official. This too is wrong, or at least certainly could be, as per FCPA Professor Blog:

Q. What does “foreign official” mean?
A. The FCPA defines “foreign official,” as “any officer or employee of a foreign government or any department, agency, or instrumentality thereof, or of a public international organization, or any person acting in an official capacity for or on behalf of any such government or department, agency, or instrumentality, or for or on behalf of any such public international organization.”

The FCPA does not define “department,” “agency,” or “instrumentality.”

The term “foreign official” includes traditional foreign government leaders as well as employees of various foreign government “departments” and “agencies” such as tax officials, customs officials, and others tasked with issuing foreign government licenses, permits, certifications, etc.

The enforcement agencies maintain that state-owned or state-controlled enterprises (so-called SOEs) in foreign countries can be an “instrumentality” of a foreign government such that all SOE employees are “foreign officials” under the FCPA.  The enforcement agencies have taken this position in certain actions even if the foreign government is a minority investor in the enterprise, and the enterprise has publicly traded stock; does business outside of its own borders; employs non-nationals; and has other attributes of a commercial business.  Approximately 50% of recent FCPA enforcement actions are based, in whole or in part, on this enforcement theory.

Recently, in the first challenges to this enforcement theory, certain district court judges have concluded that the question of whether SOEs qualify as “instrumentalities” of a foreign government under the FCPA is a question of fact that is dependent on a number of factors.  (See here for the opinion).  These factors may include the following: the foreign state’s characterization of the entity and its employees; the foreign state’s degree of control over the entity; the purpose of the entity’s activities; the entity’s obligations and privileges under the foreign state’s law, including whether the entity exercises exclusive or controlling power to administer its designated functions; the circumstances surrounding the entity’s creation; and the foreign state’s extent of ownership of the entity, including the level of financial support by the state (e.g., subsidies, special tax treatment, and loans).

At present, there is no precedential case law on the meaning of “foreign official.”  See here for an extensive overview of the FCPA’s legislative history as to the “foreign official” element.

If you are an American company doing business in China, you owe it to yourself to become at least somewhat knowledgeable about the FCPA.

The same holds true for companies in countries with similar anti-corruption/anti-bribery statutes.

Any more myths out there?

11 responses to “The FCPA and China: Two BIG Myths”

  1. OK, here is one for you. We are a western technology company doing business in China. As a matter of course our Chinese employees, including myself as the GM, have been briefed regarding FCPA requirements and implications. As a matter of course, we increase the retail price in China of our product 3x over the comparable U.S. list price. Then, in order to be competitive in our market space, we provide a 85% discount to our distributors, system integrators, etc. based upon quantity purchases. These partners, on average make 2-3 percent margin on our products. Guess where most of the remainder of the margin goes? Of course, I don’t know this as a fact and I am only speculating (my disclaimer).
    After being in China for 13 years, I can say that the business culture is almost impossible to overcome.
    Feel free to “read between the lines” on any of this.

  2. Thank you for this excellent post on the FCPA.
    Your second issue is consistent with my understanding of the law. 1) There is no definitive case, and 2) There is no set rule: it is a matter of fact to be determined at trial. That is what I understood to be the case.
    Now consider how difficult the issue can be. In the new world of China, the chairman of many SOE’s is also the local head of the communist party. So, when you pay him off, are you paying the chairman of a private company or are you making a payment to a party officer and hence to a government official? Is there any way to be sure? Perhaps there is a difference if the funds go into the company bank account or into that person’s private bank account?
    All quite troubling it would seem to me. 

  3. Sorry if I sound a bit political, but I really really don’t like sentences like “A Chinese employee will look you in the eye, tell you what you want to hear, then go off and do whatever will result in his/her getting promoted.” It just sounds a teensy bit racist. Employees in any country, faced with a clash of expectations, will lie about what they are doing.
    And I think it’s very important to stress: the reason we know about these “cultural differences” in the first place is because Chinese companies tell us about them. I’m involved in a deal right now in which our Chinese partner has been absolutely open about how they regard health & safety and ethical compliance as unnecessary frills. The project manager from the foreign partner said explicitly that their compliance rules forbid any payments to government officials, but he is aware that that’s all but impossible in China, so just account for them as travel expenses and everyone’s happy.
    It’s important not to cast Chinese partners as the villain in these issues. They’re businesspeople negotiating specific business issues in specific business environments. We can either (a) understand what they’re doing and work with them; or (b) call them liars. I vote (a).

  4. …and apologies for the double post here, but I think this sentence is a little bit disingenuous as well: 
    “Chinese, in general, tend to view the [FCPA] law as an obstacle to be surmounted.”
    You are aware of the position of business lobbies and the Republican Party in the USA aren’t you, Mr Email Writer? On the FCPA I don’t know the specifics, but in general ethical/HSE legislation runs into a barrage of criticism from Chambers of Commerce, major industries (cough OIL), and “pro-business” politicians. So a little bit less of the high-horse we-Americans-do-compliance-you-Chinese-are-non-compliant is in order, I think.
    Rant over.

  5. I am very surprised that experiences professionals could still have these kind of hesitations, whether it concerns China or any other market.
    I work in Beijing as regional GC and compliance officer for a multinational European company which is subject to the FCPA and attend several compliance conferences on compliance in China every year. It seems to me that the issue of agents and government instrumentalities is well understood by foreign firms doing business in China.
    Indeed, if ever there was a doubt about FCPA provisions applicability to any situation within China, I always advise to take the most careful and conservative route. Gift giving (and it’s nasty cousin bribery) is pervasive in China, as we all know, and in a communist country we should always assume we are dealing with a public official…

  6. Yup the usual “Americans good Chinese bad” rhetoric. The FCPA I may point out is applicable to AMERICAN citizens and not Chinese. The writer turns that fact into a Chinese are mostly corrupt diatribe when the FCPA isn’t even applicable to them.

  7. I found that in practice, the big loophole in FCPA is the “customary business practice” rule.  A payment is legal if it is customary business practice and not extravagant.  Most multi-national corporations have teams of lawyers and compliance people that go through all of this and you end up with 50 page policy guidelines.  I feel sorry for SME’s that can’t afford all of this.  In practice, the “loophole” is not so much a loophole because things can get to the point that a lawyer has to sign off if you pay for someone’s lunch.
    I also wouldn’t get too moralistic about “Chinese behavior.”  Something that seems pretty clear to me is that multi-national corporations are rather amoral, and will do anything for a profit as long as they won’t get caught.  The reason people worry about FCPA is that the USDOJ has made it very clear that very, very, very bad things will happen to you if you don’t comply with FCPA, and company comply out of fear of going to jail, rather than out of any moral desire to advice anti-corruption efforts.  That’s why there are teams of lawyers trying to apply the limits.

  8. One other point is that I know of one situation in which multinational routinely permit violations of FCPA even though there is no exception under the law.
    Every company that I’ve ever worked at has told us in compliance training that we should go ahead with a possibly illegal payment if we feel that our health or safety or the health or safety of our family is at risk.  There is no explicit exemption for extortion in the FCPA, and there is one important case in which the courts have ruled that extortion is not a defense to FCPA.
    http://www.fcpablog.com/blog/2010/1/12/natco-settles-extorted-bribe-case.html
    However, the lawyers have told us during compliance training that if some government official points a gun to your head and demands cash (and this can happen in some parts of the world), that you should give them the money, and the lawyers will deal with the USDOJ once you get out, and if the company has to pay a fine to keep you alive and out of jail they’ll do it.
    This is one situation in which “common sense” trumps the law.

  9. One other fun article is this one that argues that all of these efforts at anti-corruption have created a corrupt industry of lawyers
     http://www.forbes.com/forbes/2010/0524/business-weatherford-kbr-corruption-bribery-racket.html

  10. It’s not true that FCPA is restricted to US citizens, any employee of any company that has a stock listed in the US, is subject to FCPA.  This means that the US government has the legal authority under US law to apply FCPA to the larger Chinese state owned enterprises.  On the other hand, the President has the legal authority under US law to nuke Shanghai.
    One reason people lose respect for the law is when it doesn’t seem to accomplish anything.  People would have more respect for environmental or labor protection laws if it was obvious that it was actually protecting the environment or workers.  Likewise, anti-corruption laws will end up being “regulations to be worked around” if it looks like they don’t in fact prevent corruption.
    Looking at how FCPA works in practice, it’s hard not to be cynical.  One reason people in China have low respect for environment and labor protection law is that they in fact do little to protect the environment or workers.  With FCPA, it’s hard to have much respect for an anti-corruption law, that in practice merely makes corruption more complicated.  Since the FCPA is a “they can get you for anything law” what ends up happening is that companies spend huge amounts of money hiring ex-SEC and ex-USDOJ officials that know how the SEC and USDOJ thinks.  And then since all of this is annoying, you end up paying lobbyists to talk to Congressmen, who will listen to you because your PAC has contributed to their election campaign.
    > Indeed, if ever there was a doubt about FCPA provisions applicability to
    any situation within
    > China, I always advise to take the most careful
    and conservative route
    If you ask legal and compliance for an opinion, their answer is almost always NO.  The problem with this is that the matter of *running a for profit business* gets forgotten, and you have to wonder sometimes if this ends up being good for society. The most careful and conservative approach is to just pull out of China.  For that matter, let’s just shut everything down.  Either that or hire a million lawyers and consultants.
    The thing about local officials in China is that in the end, they want you to make money, because if you don’t make money, they don’t make money.  If they want too much money, then you just say no, and move somewhere else.  In the end, *stuff gets done*.  Factories get built, jobs get created.  The official only makes money if some economic good occurs.
    Now look at the situation within a corporation.  If you spend a lot of time and effort with legal and compliance and in the end the answer is a firm NO, then what happened?  A lot of lawyers get paid, a lot of paper gets moved around, and in the end, nothing happens. 
    People talk about business ethics, but that usually means following a list of guidelines that the lawyers have written in order not to get sued.  What about the ethics of the factory that doesn’t get built, or the jobs that don’t get created?. 
    There’s a fun FCPA story, whose details I’ll change slightly.  Multinational corporation wants to do business in 3rd world country.  Official mentions that their office has a leaky roof which they don’t have the money to fix, and that they would really appreciate if the roof gets fixed (and lets say its obvious that this isn’t a “wink-wink” situation, you can see that they need a new roof, and he isn’t trying to funnel money to anyone). 
    Salesman talks to compliance.  Compliance says, no way.  However, if the official wants free first class tickets to corporate headquarters and to stay on a luxury hotel and eat at some five star restaurants, that would be a business courtesy.  It’s would be much more expensive than fixing the damn roof, but it would be legal.
    Now imagine trying to explain this to the official.  He wants to make life better for his workers, and he isn’t interested in some stupid junket.  MNC doesn’t get the license.  It probably went to some Chinese or Russian company that actually fixed the roof.

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