Subject to Inquiry

Subject to Inquiry

THE LATEST ON GOVERNMENT INQUIRIES AND ENFORCEMENT ACTIONS

Government Investigations and White Collar Litigation Group
Energy Enforcement, Enforcement and Prosecution Policy and Trends, Fraud, Deception and False Claims

Court Holds FERC De Novo Review to Proceed as “Ordinary Civil Action”

Last77006468.jpeg week, a federal district judge ruled for the first time that the “review de novo” promised by section 31(d) of the Federal Power Act (“FPA”), 16 U.S.C. § 823b(d), will be “treated as an ordinary civil action requiring a trial de novo.”  FERC v. Maxim Power Corp., Civ. No. 3:15-30113-MGM, at 2 (D. Mass. Jul. 21, 2016).  This issue has been hotly debated in several of the market manipulation cases FERC is currently litigating,[1] without any court issuing a definitive ruling on the scope and meaning of review de novo, as discussed previously here.  For example, courts in California and Massachusetts—the only two courts with an opportunity to make such a ruling—had only touched on what a review de novo might entail without definitively deciding what procedures would be followed.[2]

The FPA provides that once a party under investigation receives an Order to Show Cause and Notice of Proposed Penalty, that party has the option to have its case heard by an administrative law judge with an evidentiary hearing (which the Maxim court called “Option 1”), or to receive an immediate penalty assessment, with the opportunity for a federal district judge to review the facts and law de novo (which the Maxim court called “Option 2”).  See 16 U.S.C. § 823b.  In Maxim, as in the other market manipulation cases, the targets of the investigation chose Option 2, an immediate penalty assessment followed by “review de novo” in a federal district court.  After 60 days had passed without Maxim paying its penalty, FERC filed a petition seeking an order affirming its civil penalty assessment, and Maxim moved to dismiss.  In addition to substantive arguments about the alleged fraud and “duty of candor” claims, FERC and Maxim disagreed as to what procedures the court should follow, specifically whether FERC’s “petition” should proceed as a standard civil lawsuit.

To resolve the question of de novo review, the court analyzed the language of the statute, FERC’s prior positions and interpretations of the statute (and similar language in parallel statutes), and the lack of binding precedent from other courts,[3] concluding that FERC’s petition to affirm its civil penalty assessment should proceed as any normal civil action would, complete with a trial de novo by jury if necessary.

The court also weighted the due process concerns of both parties, applying the test from Mathews v. Eldridge, 424 U.S. 319, 333 (1976)The court concluded that, while FERC’s interests were strong, the scale tipped in favor of Maxim and proceeding as an “ordinary civil action with a de novo trial.”[4]  Central to the court’s reasoning was the fact that the additional process which FERC made available to Maxim after Maxim’s election of an immediate penalty assessment was not required by the FPA and, more importantly, did not offer a truly “adversarial proceeding.”[5]  If the court were to accept FERC’s arguments, litigants choosing between an administrative hearing and a review de novo would not have a “meaningful choice.”  The conclusion reached by the court offers such a meaningful choice: an evidentiary hearing before an Administrative Law Judge, or an immediate penalty assessment followed by a de novo trial conducted by a district court.

Critical to the court’s conclusion was the fact that within the framework of a “standard” civil action, a judge is given significant discretion to tailor fact discovery to the needs of the case.  In Maxim, the court noted that it would allow some additional factual discovery, but hinted that the presence of the voluminous administrative record, and the fact that most of FERC’s allegations were based on documents and data provided by Maxim, would likely reduce the scope of discovery.

The court also denied Maxim’s motion to dismiss, finding that FERC had pled the allegations of fraud and a violation of FERC’s regulation involving a “duty of candor” with sufficient particularity.  The court also agreed with FERC’s interpretation of the word “entity”, finding that “entity” could mean individuals for the purposes of holding individuals liable for violations of the FPA’s manipulation prohibitions.

*  *  *

Should other courts follow Maxim’s lead and treat the petition for affirmation of a civil penalty assessment as a standard civil action, FERC may decide to reduce the amount of process it provides to investigation targets, for example, in the time period following the issuance of the Order to Show Cause and Notice of Proposed Penalty to avoid duplicating efforts.  This would allow FERC, as well as the investigation target, to conserve resources until the case proceeds to the district court, instead of spending so much time and effort between the issuance of the Order to Show Cause and the Order Assessing Civil Penalties.  It may also impact how FERC chooses to resolve cases based on, for example, the amount of resources it may be required to expend on court cases, the reduced control by FERC over the timing of ultimate resolution, or the possibility that it FERC will receive less deference to its positions in the district court than it might have enjoyed under other adjudicative processes.  Such a shift would seem likely to impact the subject’s decision-making process when faced with a FERC investigation.

[1] See FERC v. City Power Marketing, LLC, Civ. No. 1:15-cv-01428 (JDB) (D. D.C.); FERC v. Powhatan Energy Fund, LLC, Civ. No. 3:15-cv-0452 (E.D. Va.); FERC v. Maxim Power Corp., Civ. No. 3:15-cv-30133 (D. Mass.); FERC v. Barclays Bank, PLC, Civ. No. 2:13-cv-2093-TLN-DAD (E.D. Cal.); FERC v. Silkman, Civ. No. 13-13054-DPW (D. Mass.);  FERC v. Lincoln Paper and Tissue, LLC, Civ. No. 13-13056-DPW (D. Mass.).

[2] See FERC v. Maxim Power Corp., Civ. No. 3:15-30113-MGM, at 16-17 (D. Mass. Jul. 21, 2016) (explaining how the Barclays and Silkman decisions addressed the issue of de novo review without completely resolving the scope and procedure questions).

[3] See id. at 16-17 (discussing the Barclays and Silkman decisions’ treatment of de novo review).

[4] Id. at 21.

[5] Id. at 19-20.

Compliance, Enforcement and Prosecution Policy and Trends

BancorpSouth Bank Agrees to Pay More Than $10 million to Settle Charges of Redlining and Discrimination in Mortgage Underwriting and Pricing

On June 29, the C77006486onsumer Financial Protection Bureau (CFPB), the Department of Justice (DOJ), and BancorpSouth Bank (BancorpSouth) agreed to settle allegations of redlining and discrimination in violation of the Equal Credit Opportunity Act and the Fair Housing Act.  Notably, this case marks the second instance of the CFPB’s new approach to redlining analysis, which, as we reported, focuses on mortgage loan applications, rather than just originations, and compares a bank to its peers on several metrics, including applications and branch locations.  Also noteworthy is the CFPB’s first use of testers or “mystery shoppers” posing as consumers at local branches to support charges of discrimination.

Redlining Allegations

The joint complaint alleges that BancorpSouth illegally redlined majority-minority neighborhoods (census tracts with a more than 50% minority population) in the Memphis Metropolitan Statistical Area (“Memphis MSA”), an eight-county area across Mississippi, Arkansas, and Tennessee in which BancorpSouth generates a significant number of applications.  Notably, the redlining allegations against BancorpSouth largely track those against Hudson City Savings Bank (Hudson City), which, as we reported, settled similar charges in late 2015.

Like Hudson City, the CFPB and DOJ alleged that BancorpSouth excluded majority-minority neighborhoods from its Community Reinvestment Act assessment area.  The complaint also identified “statistically significant” disparities in mortgage loan applications that BancorpSouth received from minority neighborhoods compared to its peers and the area’s demographics.

For example, tracts in the Memphis MSA are 36.9% high-minority (census tracts with a more than 80% minority population) and 51.6% majority-minority.  According to government data, between 2011 and 2013, BancorpSouth received 3.2% of its applications from high-minority neighborhoods and 9% from majority-minority neighborhoods, while its peers generated 17.6% and 27.6% of its applications from these areas, respectively.  Meanwhile, BancorpSouth received 91% of its applications from majority-white neighborhoods, which account for 48.4% of Memphis MSA tracts.  The complaint alleges that these disparities “cannot be explained by a legitimate, non-discriminatory reason.”

The CFPB and DOJ further emphasized disparities in branch locations and marketing across these areas.  BancorpSouth allegedly placed a large majority of branches in the Memphis MSA outside of majority-minority neighborhoods, despite numerous consultants recommending expansion into these areas.  And the agencies allege that BancorpSouth “failed to advertise meaningfully” in majority-minority neighborhoods, citing data representing that BancorpSouth sent 90% of its direct mailings to majority-white areas and 5% to high-minority areas during the two-year period.

Underwriting and Pricing

In addition to redlining, the agencies allege that BancorpSouth engaged in discriminatory practices in mortgage loan underwriting and pricing.  According to the complaint, while BancorpSouth’s Mortgage Department, which originates loans for sale on the secondary market, makes underwriting and pricing decisions with little to no discretion, the Community Banking Department, which originates loans held by BancorpSouth, had “wide discretion” in underwriting and pricing.  The CFPB and DOJ allege that this discretion caused “racial disparities” in approving applications and pricing loans.

For example, government data shows that, from 2011 to 2013, BancorpSouth denied applications for first-lien mortgages from African-American borrowers at a rate of 2.2 times the expected rate if the borrower had been white; the rate rose to 2.9 times for second-lien mortgages.  Then, for approved borrowers, the complaint alleges that loan officers charged higher interest rates and origination fees to African-Americans.  Overall, the agencies emphasized a lack of adequate controls and monitoring to ensure that loan officers made consistent underwriting and pricing decisions across borrowers and products.

Discriminatory Policies

The complaint also alleges that BancorpSouth had a policy of denying minority applicants more quickly and failing to provide credit assistance to “borderline” minority applicants.  The government obtained an audio recording from a 2012 internal BancorpSouth meeting in which a manager instructed loan officers that mortgage applications from minorities must be “turned down” in 21 days.  Further, despite a general policy that allowed loan officers to assist marginal applicants with improving credit, in the recording, the manager instructs employees to turn down “borderline” minority applicants quickly.  According to the government, the recording also documents employees “making derisive comments about minorities.”

Use of Testers Posing as Home Buyers

Finally, the CFPB sent a series of “matched-pair tests” to several BancorpSouth branches.  The CFPB sent an African-American tester and a white tester posing as first-time home buyers to the same branch within 10 days.  The African-American tester had a “slightly better” financial profile than the white counterpart, such as a higher credit score, higher monthly income, and less debt.  The complaint alleges that, on average, loan officers treated African-American testers less favorably than white testers with respect to products offered, cost estimates, real estate agent recommendations, and overall assistance.

Requisite Remedial Actions

Much like the redlining allegations, the remedial actions required by the proposed consent order track those in Hudson City’s case, albeit at a lower cost.  BancorpSouth agreed to pay a $3 million civil penalty to the CFPB and nearly $2.8 million in redress to affected consumers.  BancorpSouth must also establish a $4 million loan subsidy program to increase access to mortgage loans in majority-minority neighborhoods and extend credit offers to African-American applicants who were denied credit during the relevant time period.  In contrast, Hudson City agreed to pay a $5.5 million penalty and invest $25 million in a loan subsidy program.

Additionally, BancorpSouth must spend $300,000 on targeted advertising and outreach to minority areas and $500,000 on partnerships with community-based or governmental organizations that provide financial education and credit repair services.  Finally, BancorpSouth must open one additional branch or loan production office in a high-minority neighborhood and implement certain reporting, monitoring, and training policies and practices.

Takeaways For Lenders

In light of Hudson City’s settlement, BancorpSouth’s case is a reminder that the CFPB now focuses its redlining analysis on applications and peer comparisons on several metrics, including branch locations and marketing efforts.  Therefore, it remains important for lenders to identify institutions in their peer group and compare performance on the metrics emphasized by the government.  Finally, the CFPB’s novel use of testers to support charges of discrimination should prompt lenders to ensure that non-discrimination policies are implemented on the ground at the local-branch level.

Enforcement and Prosecution Policy and Trends

SEC Announces Settlement with Investment Advisory Firm Regarding Alleged Failure to Disclose Costs to Investors

On July 14, Government-Regulatory-and-Criminal-Investigations.jpg2016, the Securities and Exchange Commission announced the settlement of an enforcement action against RiverFront Investment Group (“RiverFront”), an investment advisory firm, for failing to properly prepare clients for transaction costs.

At issue is a wrap fee program, in which a subadviser uses a sponsoring brokerage firm to execute their trades on behalf of clients, and the costs of the trades are included in an annual wrap fee paid by the client.  The SEC alleges that RiverFront actually used brokers in addition to the wrap program sponsor to execute most of its wrap program trading, resulting in additional costs to the client.  Although RiverFront disclosed that some “trading away” from the sponsoring broker could occur, the firm inaccurately described the frequency, and thus the disclosures were materially misleading.

In the press release, Sharon Binger, Director of the SEC’s Philadelphia Regional Office, stated, “Investors in wrap fee programs pay one annual fee for bundled services without expecting to pay more, so if subadvisers like RiverFront trade in a way that incurs additional costs to clients, those costs must be fully and clearly disclosed upfront so investors can make informed investment decisions.”

The SEC’s National Exam Program includes wrap fee programs as a 2016 examination priority, particularly in assessing whether advisors are fulfilling fiduciary and contractual obligations to clients and properly managing issues such as disclosures, conflicts of interest, best execution and trading away from the sponsor.

Without admitting or denying any wrongdoing, RiverFront consented to a $300,000 settlement and to post on its website the volumes of trades by market value executed away from sponsors and the associated transaction costs passed onto clients on a quarterly basis.

Compliance, Enforcement and Prosecution Policy and Trends, Financial Institution Regulation

CFPB’s Supervisory Highlights Regarding Auto Lending

Government-Regulatory-and-Criminal-Investigations.jpgThe Consumer Financial Protection Bureau (“CFPB”) recently issued its Supervisory Highlights – Issue 12, Summer 2016 report, addressing, among other industries, automobile origination.  The report reflects supervisory activity generally completed between January 2016 and April 2016 and makes it clear that there is increased scrutiny and consumer complaint activity in the auto lending industry.  The CFPB found that several auto lenders have been deceptive in their advertisements for guaranteed asset protection (“GAP”) coverage and disclosures of payment deferral terms.

GAP coverage helps borrowers cover the difference between the amount owed on an auto loan or lease and a totaled car’s actual cash value.  Even if a car can no longer be used, the borrower is generally still responsible for any remaining loan or lease payments.  Thus, if the reimbursement check from the insurance company is not enough to cover the amount outstanding on the loan or lease, GAP coverage may help pay the remaining amount.  With respect to GAP coverage, the CFPB reported that “one or more auto lenders deceptively advertised the benefits of their gap coverage products, leaving the impression that these products would fully cover the remaining balance of a consumer’s loan in the event of vehicle loss,” when in fact “the product only covered amounts below a certain loan to value ratio.”

As for disclosures related to payment deferral terms, the Supervisory Highlights indicate that some lenders used a telephone script to communicate with borrowers and create a false impression that the only effects of taking advantage of an auto loan payment deferral would be to extend the loan and accrue interest during the deferral. They omitted to inform consumers that the subsequent payments would initially be “applied to the interest earned on the unpaid amount financed from the date of the last payment received from the consumer,” which “could result in the consumer paying more finance charges than originally disclosed.”  The CFPB is currently reviewing these alleged violations to determine “what, if any, remedial and corrective actions should be undertaken by the relevant financial institutions,” the Supervisory Highlights said.

In its separate June 2016 Monthly Complaint Report, the CFPB revealed that auto lending comprised 60 percent of consumer loan complaints since July 11, 2011.  Those include vehicle loan, vehicle lease, and title loan complaints submitted to the CFPB.  Nearly half of the complaints centered on managing the loan, lease, or line of credit, and roughly a quarter of them related to problems that occur when customers are unable to pay.  Though the June Report did not include statistics on what might be causing these issues, many consumers expressed a lack of understanding for the terms of their loans.  However, it is not clear whether that lack of understanding is the fault of the auto lenders.  It is clear that, comparing the period from March to May in 2015 with that same period in 2016, the number of complaints had grown in all but sixteen states, including the District of Columbia.

The Supervisory Highlights and June Report should alert auto lenders that the CFPB likely will pursue remedial and corrective actions.  To the extent auto lenders can commence mitigation efforts in response to the CFPB’s findings related to GAP coverage and payment deferral disclosures, it could help them avoid CFPB scrutiny.  Director Richard Cordray made it clear that he believes it is “compliance malpractice for other institutions not to look carefully at our orders . . . and not to think, ‘Am I doing the same thing? Am I violating the law? And therefore should I clean that up?”

Compliance

SEC Loses Chief of the SEC’s Office of the Whistleblower

On FSEC Enforcement Defenseriday, July 8, 2016, the Securities and Exchange Commission (SEC) announced Sean McKessey, Chief of the SEC’s Office of the Whistleblower, will be leaving his post by the end of the month.  Jane Norberg, Deputy Chief of the SEC’s Office of the Whistleblower will serve as Acting Chief until a replacement is found.

McKessey previously worked at the SEC from 1997 to 2000 as Senior Counsel in the SEC’s Enforcement Division.  In, February 2011 he became the first head of the SEC’s whistleblower program.  He is credited with helping to establish an office that assesses and reviews whistleblower tips, evaluates award claims, and makes recommendations to the SEC on whether claimants are eligible to receive an award.

During his time as chief of the program:

  • The Office of the Whistleblower received and reviewed over 14,000 tips;
  • Over 30 whistle blowers have been awarded more than $85 million in awards;
  • The SEC brought over $504 million in successful enforcement actions due to the whistleblower tips (collecting $453 million to date), which included over $300 million in disgorgement and interest for investors who were harmed; and

McKessy made the following comments about his time with the program, “It has been an honor and pleasure to serve as the first Chief of the SEC’s Office of the Whistleblower.  Working with the extraordinarily talented and dedicated staff of the Whistleblower Office and the Enforcement Division in standing up a groundbreaking and exemplary Whistleblower Office has been the highlight of my professional career.”

The change in leadership will not change the focus of the program.  As Subject to Inquiry readers already know, it is important to have internal compliance programs that are communicated and followed throughout the organization, so if a complaint is ever made, the organization can show the regulator(s) that proper steps were taken to investigate and correct any illegal action(s) outlined in the complaint or uncovered as a result of the investigative process.  And as always, a company should take prompt action to address misconduct within its ranks.

Financial Institution Regulation

CFPB Issues Proposed Revisions to GLBA Annual Privacy Notice Requirement

Earlier this month, the Consumer Financial Protection Bureau (CFPB) issued its proposed rule amending the Gramm-Leach-Bliley Act’s annual privacy notice requirement set forth in Regulation P.

The rule is in response to Congress’ December 2015 amendment to the act, which eliminated the need for certain companies to provide annual privacy disclosures to consumers.  Under the amendment, the annual notice requirement is eliminated for any financial institution that:

  1. Limits it sharing so the customer does not have the right to opt out; and
  2. Has not changed its privacy notice since the one most recently delivered to the customer.

If adopted, the proposed rules would create a 60-day deadline for financial institutions to provide an annual notice if they have changed their policies and practices so as to lose the annual notice exception.  The proposed changes would also remove the rule implemented in 2014 that permits alternative annual notice delivery methods because any party that meets the criteria for alternative delivery will also meet the criteria set forth in the new rule that permits the institution to forego providing the annual notice altogether.

The proposal does not affect the requirement that financial institutions provide an initial privacy notice to new customers, and it does not exempt the financial institution from providing any disclosures required by the Fair Credit Reporting Act in association with affiliate information sharing.

Comments may be submitted electronically or by mailing or delivery to the CFPB.

Enforcement and Prosecution Policy and Trends

Prison Sentence for Executives in Contaminated Egg Case Highlights Food Safety Risks

Las77006468.jpegt Thursday, July 7, 2016, a divided panel of the U.S. Court of Appeals for the 8th Circuit upheld a three-month jail sentence against Austin “Jack” DeCoster and his son Peter, the CEO and COO respectively of Quality Egg LLC.  The CDC determined that Quality Egg was responsible for a salmonella outbreak that ultimately sickened thousands of Americans.  Both men pled guilty to unknowingly introducing adulterated food into interstate commerce, a misdemeanor violation of the Food, Drug and Cosmetic Act (the “FD&CA”)

DeCoster both illustrates the power of the government’s prosecutorial reach in this area, and provides some hope that the Supreme Court may change the law to rein in excessive prosecutorial zeal where Congress has not.  The FD&CA remains essentially a strict liability criminal statute.  The seminal food safety case of United States v. Park permits prosecutors to seek, and courts to impose, jail sentences against food and drug executives who did not know about safety problems at their company, did not participate in the problematic operations but instead merely supervised them, and were not even negligent for failing to prevent problems. And DOJ’s renewed focus on prosecuting individual executives in cases of supposed corporate wrongdoing raises the stakes.

Park was less troublesome when the government used it judiciously.  But in 2011, the FDA changed its procedures manual to permit field agents to recommend criminal investigations and prosecutions of responsible executives who have no knowledge of, and did not personally participate in, the adulteration.  Before that change, prosecution was reserved for executives who had some warning or knowledge about specific unsanitary conditions.  The 2011 policy embraced more aggressive enforcement under the Park doctrine, dramatically expanding the range of prosecutable cases from knowing violations to negligent and even strict liability offenses.  More recently, we’ve noted the government’s efforts to obtain decades-long sentences in other, more aggravated food safety prosecutions ,[1] as well as the increased investigative and enforcement resources the government is devoting to the food and beverage industry in areas besides food safety.

But DeCoster also provides a few reasons to hope that the Supreme Court will revise or clarify “responsible corporate officer” liability under Park.  Two of the three panel judges interpreted Park and the FD&CA as requiring the government to prove negligence or more culpable intent even in misdemeanor cases.  That’s an unorthodox reading – the consensus view is that Park permits strict criminal liability against executives for failure to prevent contaminated food from being distributed, even if his or her conduct was not negligent or otherwise blameworthy.

We can expect the DeCosters to seek Supreme Court review, as they were represented by prominent appellate counsel in the Eighth Circuit, and enjoyed the benefit of multiple amici filings from industry groups.  We can also expect the United States to oppose certiorari because the circuits are not truly split: the district court and two of the three Eighth Circuit judges believed the DeCosters were indeed negligent, so the unorthodox reading of Park had no effect on the outcome even though shared by a panel majority.

The recent news that major criminal justice reform bills have stalled in both Houses of Congress may add wind to the DeCosters’ sails.  Mens rea reform was a sticking point in criminal justice reform efforts, as industry-friendly groups sought Congressional repudiation of regulatory crimes that required no proof of culpability, like the Park doctrine.  Congress’s unwillingness to address mens rea reform comprehensively may influence the Court to reexamine specific doctrines that enable overreach.  And the Court has proved increasingly receptive to arguments that prosecutorial discretion cannot be trusted to ensure broad criminal laws are enforced only against blameworthy individuals.

DeCoster remains a case to watch for the industry.  In the meantime, we continue to recommend that food and beverage companies prepare in advance to mitigate the risk of adulteration, and maximize the chances of quick remediation if it happens.

[1] In the prosecution of peanut company executive Stewart Parnell for knowingly shipping salmonella-contaminated peanuts, the government sought a life sentence and obtained a twenty-eight year sentence.

 

Immigration and Worksite Enforcement

Increased Fines on the Horizon for Immigration Law Violations

Passport-mapThe Department of Justice has raised the bar on penalties for violations of federal immigration law.  On June 30, 2016, DOJ issued an interim final rule that goes into effect on August 1, 2016.  This rule, implemented as an inflation adjustment, increases the fines for employing unauthorized workers, for Form I-9 paperwork violations, and for immigration-related discrimination.  These new fines increase the penalties from 35% to 96% depending on the nature and severity of the violation.

The Immigration Reform and Control Act of 1986 makes unlawful three general categories of activity:

  1. Knowingly hiring or continuing to employ an unauthorized worker;
  2. Violating the Form I-9 paperwork rules; and
  3. Engaging in unfair immigration-related employment practices.

The impact of these newly increased fines can be severe.  Where before, employing a single unauthorized worker resulted in a fine ranging from $375 – $3,200 for a first offense, the new rule adjusts the range to $539 – $4,313.  And for third-time and subsequent offenses, a company now faces a fine range of $6,469 – $21,563 per violation, up from the prior range of $4,300 – $16,000.

Moreover, Form I-9 paperwork violations will nearly double under the new rule.  The prior fine range of $110 – $1,100 per violation will increase to $216 – $2,156 per violation.  Under this adjustment, what some companies may have viewed a tolerable risk of a $30,000 to $50,000 fine for having poor I-9 documentation now jumps to around a $60,000 to $100,000 fine for the same set of I-9s.

Violations for immigration-related unfair employment practices have similarly increased.  These fines are implemented for discrimination, for document abuse, and for document fraud.

This increase in fines presents companies with an incentive to review their workforce and Form I-9 files and process.  A Form I-9 audit conducted internally or with the assistance of outside counsel can shed light on areas of concern and allow companies to correct violations before they become fines.  To aid such a review, Immigration and Customs Enforcement and DOJ recently provided joint guidance to assist companies in conducting internal audits.  In addition, training employees who conduct the I-9 and onboarding process in tandem with an audit can position a company to avoid these increased fines going forward.

While compliance with federal immigration law is sometimes an afterthought amid the constant demands of business, it cannot be ignored.  DOJ’s new rule provides a reminder that corrective action now can mitigate potential fines and reputational harm in the future.

Compliance, Financial Institution Regulation

Parties in PHH Case Argue the Impact of Recent Supreme Court Decision

In the780536981 latest development in PHH Corp. v. Consumer Financial Protection Bureau (CFPB), PHH and the Bureau have both filed letters addressed to the D.C. Circuit arguing over the impact of a recent Supreme Court decision on the case.  At issue is whether the Supreme Court’s decision in Encino Motorcars, LLC v. Navarro, No. 15-415 (U.S. June 20, 2016) eliminates the usual deference courts would give to the CFPB’s interpretation of the Real Estate Settlement Procedures Act (RESPA), under which the Bureau penalized PHH to the tune of $109 million.

As we previously reported, PHH is appealing the penalty imposed on it by the Bureau under Director Richard Cordray’s June 4, 2015 decision for alleged violations of RESPA related to mortgage reinsurance.  Among the issues on appeal in PHH is Cordray’s decision not to follow the Housing and Urban Development’s (HUD) previous interpretation of RESPA as it relates to mortgage reinsurance arrangements.  HUD was the agency responsible for enforcing RESPA before the CFPB assumed responsibility for enforcement in 2011.  In a 1997 letter, HUD opined that captive reinsurance arrangements are permissible under RESPA so long as the payments are for services actually performed, and are bona fide compensation that does not exceed the value of the services.  In making this determination, HUD read Section 8(c)(2) of RESPA to provide an exemption to Section 8(a), which generally prohibits the exchange of any fee or thing of value pursuant to an agreement to refer settlement service business.

Based in part on the HUD letter, the administrative law judge who first heard the PHH case also interpreted Section 8(c)(2) to provide an exemption to Section 8(a).  Cordray, however, rejected that interpretation, instead concluding that Section 8(c)(2) merely clarifies Section 8(a) in situations where there is some question whether the parties actually entered into an agreement to refer settlement service business, and does not provide an exemption to Section 8(a).

On June 23, PHH called the D.C. Circuit’s attention to Encino, where the Supreme Court held that the U.S. Department of Labor’s interpretation of the Fair Labor Standards Act (FLSA) should not receive Chevron deference.  Chevron deference—to which the CFPB claims it is entitled in the PHH case—is given to an agency’s interpretation of a statute that the agency is responsible for enforcing, so long as the statute is ambiguous and the agency’s interpretation is reasonable.  In Encino, the Department of Labor reversed its long-standing interpretation that automobile dealer service advisors are covered by an exemption from overtime pay requirements in FLSA.  In issuing its interpretation, the Department of Labor “offered barely any explanation” for its changed position, despite the fact that its new interpretation “could necessitate systemic, significant changes” in the industry.  The Supreme Court noted that an “unexplained inconsistency” in an agency’s interpretation can render its interpretation arbitrary and capricious, in which case the interpretation “is itself unlawful and receives no Chevron deference.”  Ultimately, the Court held that the Department of Labor needed “a more reasoned explanation” for its decision to depart from its existing policy, and noted that agencies must “be cognizant that longstanding policies may have ‘engendered serious reliance interests that must be taken into account.’”

In its letter to the Court, PHH argues that Cordray likewise “reversed a longstanding interpretation” of RESPA “on which the entire industry had relied for years” and that he “barely acknowledged” PHH’s reliance interests on the previous policy, “spurning them as ‘not particularly germane.’”  The Director’s summary rejection of HUD’s interpretation, PHH argues, renders the CFPB’s policy arbitrary and capricious, and it should receive no deference under Chevron.

In its response letter filed on June 27, the CFPB remained dismissive of PHH’s arguments, commenting that the 1997 HUD letter was “nothing more than an unofficial staff interpretation,” and that industry members “relied on it at their own risk.”  Otherwise, the CFPB argues that Director Cordray’s interpretation of RESPA was reasonable, and that the court should give it Chevron deference.

PHH was argued on April 12, 2016, and the decision of the D.C. Circuit is still pending.

Anti-Bribery and Corruption, Compliance, Securities and Commodities

DOJ’s First Corporate Enforcement Action Under Pilot Program

ForeignCorruptIn April 2016, the Department of Justice (DOJ) announced its Foreign Corrupt Practices Act Enforcement Plan and Guidance, which includes a one-year pilot program to incentivize individuals and companies to voluntarily self-disclose Foreign Corrupt Practices Act-related (FCPA) misconduct, cooperate with DOJ investigations and remediate controls and compliance programs.  Under the guidance, the DOJ may extend credit up to a 50% reduction off the bottom end of the U.S. Sentencing Guidelines and may not require the appointment of a monitor for those companies that meet the standards set forth by the pilot program.  Additionally, when certain conditions are met, including disgorgement of all profits from the FCPA misconduct, the DOJ may decline prosecution.

Earlier this month, the DOJ issued letters to two companies, Akamai Technologies Inc. and Nortek, Inc., indicating that investigations of FCPA violations at the companies were closed.  The DOJ stated that each company’s self-disclosure and cooperation ultimately led to its decision not to prosecute.  In parallel, as we reported, the SEC entered into non-prosecution agreements (NPAs) with each of the companies as a result of their disclosure, cooperation and remedial measures, and required the companies to disgorge profits plus interest.  These two cases presented the first public instances in which the DOJ declined to prosecute since the announcement of its pilot program.

More recently, on June 21, the DOJ concluded its first corporate enforcement action under its pilot program, offering clues on how companies can cooperate with government investigations to benefit from available mitigation credit in the event of an FCPA violation. This enforcement action was targeted at Analogic Corp. (Analogic), a Massachusetts-based medical tech company, its Danish subsidiary, BK Medical ApS (BK Medical) and BK Medical’s former CFO, all of which settled FCPA violations with the SEC and DOJ.  Analogic’s subsidiary, BK Medical, engaged in hundreds of sham transactions with distributors that funneled $20 million to third parties, including individuals in Russia, and apparent shell companies in Belize, the British Virgin Islands, Cyprus and Seychelles.  These transactions included the issuance of invoices to distributors that falsely inflated the sales and prices of the medical equipment sold, with the excess amount from those transactions then transferred to third parties as directed by the distributors.  BK Medical admitted that creating and maintaining these false invoices, representing to its parent company that BK Medical was complying with all Analogic accounting policies and signing SOX subcertifications, caused Analogic to falsify its books, records and accounts in violation of the FCPA.

The SEC settled the matter via an administrative order; Analogic agreed to pay $7.67 million in disgorgement and $3.8 million in prejudgment interest to settle the SEC’s charges that the company failed to keep accurate books and records and maintain adequate internal controls.  The SEC noted that it considered Analogic’s self-reporting, remedial acts and general cooperation with the investigation as part of the settlement.  Additionally, Lars Frost, BK Medical’s former CFO and a Danish citizen, agreed to pay $20,000 in penalties to the SEC to settle charges that he knowingly circumvented the internal controls in place at BK Medical and falsified its books and records.

The DOJ entered into an NPA with BK Medical, citing positively the company’s self-reporting, cooperation and remedial efforts, leading to the DOJ’s decision to provide the company with a discount of 30% off the bottom of the U.S. Sentencing Guidelines.  As a result, BK Medical was required to pay a monetary penalty of $3.4 million under the NPA.  Furthermore, BK Medical also agreed to continue to cooperate with the DOJ and foreign authorities in any ongoing or future investigations to enhance its compliance programs, and to periodically report to the DOJ on the implementation of its enhanced compliance programs.

As noted above, BK Medical did receive credit for its self-reporting and remediation, which included terminating the officers and employees responsible for the corrupt payments.  The DOJ explained that the company received only partial credit for its cooperation because BK Medical did not initially disclose certain relevant facts that it learned during the course of its internal investigation:

…the Company’s cooperation subsequent to its self-disclosure did not include disclosure of all relevant facts that it learned during the course of its internal investigation; specifically, the Company did not disclose information that was known to the Company and Analogic about the identities of a number of the state-owned entity end-users of the Company’s products, and about certain statements given by employees in the course of the internal investigation…

By way of contrast, the SEC NPAs entered into with Akamai and Nortek on June 7 noted comprehensive, organized and real-time cooperation by the companies during the course of their respective internal investigations. Specifically, the companies provided the SEC with summaries of witness interviews and made witnesses available to the SEC staff.  This cooperation led to the DOJ’s decision not to prosecute Akamai and Nortek under the FCPA.  The DOJ’s NPA with BK Medical specifically addressed a lack of disclosure of information gleaned from the company’s internal investigation.  This failure to disclose led to BK Medical receiving less mitigation credit.

When faced with FCPA misconduct, companies should work with outside counsel during internal investigations to assess whether a disclosure strategy is in the company’s best interests. Assuming the answer is yes, there are a number of important steps to be taken early on to provide prompt disclosure of discovered facts to the Government, as well as to keep the Government informed as to the progress of the internal investigations, ensure maximum cooperation and address any and all FCPA-related control and compliance issues.