Category Archives: Bribery & Corruption

Bribery & Deferred Prosecution

Between January and February 2015, a prominent trade organization focusing on American attorneys conducted a survey of 243 Chief Legal Officers of global companies to assess the corporate counsel’s opinion regarding the greatest threats to their organization’s growth. Respondents were asked to rank their top three concerns. Not surprisingly, economic uncertainty was at the top of the list with 57% of the respondents ranking it in their top three. The unexpected finding was that 53% of the respondents named regulatory compliance and enforcement as a top concern as well.

When asked to specify which laws caused them the most concern 28% identified the Foreign Corrupt Practices Act and 15% identified the UK Bribery Act. This means 43% of the respondents named anti-bribery laws as one of their top three concerns, more than any other law or regulation identified. When asked about the resources spent on regulatory compliance and enforcement, the response was also surprising as only 38% of the corporate counsel who identified regulatory compliance and enforcement as a threat, are expending resources to address the threat. As a follow up to the 2015 survey, the same organization conducted a second survey in early 2017 to gain further insight into corporate counsels’ ability to address regulatory and compliance threats. This time 256 respondents were surveyed, 62% of whom stated that their organization is designing or building some type of robust internal compliance program. Although this is movement in the right direction, over a third of the organizations surveyed still may not be prepared to detect or deter bribery and corruption. Most significantly, they will not be prepared to meet government expectations if a violation occurs and self-reporting is required. Lastly, 54% of the respondents stated that they are building or expanding their in-house systems to address this threat. Many believe that compliance technology is the appropriate answer as regulators prefer technical solutions to these problems, because they are viewed to be sophisticated and ‘state of the art’.

This research should be of special interest to all CFEs because we work so frequently with corporate counsels, but indeed, to assurance professionals in general who like fraud examiners are on the front line in the fight against corruption.

The Foreign Corrupt Practices Act (FCPA) was enacted in 1977 but aggressive enforcement did not really pick up until around 2005 when there were twelve enforcement actions.  The purpose of the FCPA was to prevent the bribery of foreign government officials when negotiating overseas contracts. The FCPA imposes heavy fines and penalties for both organizations and individuals. The two major provisions address: 1) bribery violations and 2) improper books and records and/or having inadequate internal controls. Methods of enforcement and interpretation of the law in the US have continued to evolve over the years.

The FCPA created questions of definition and interpretation, i.e., Who is a “foreign official?” What is the difference between a “facilitation” payment and a bribe? Who is considered a third party? How does the government define adequate internal controls to detect and deter bribery and corruption?

The enactment of the United Kingdom (UK) Bribery Act in July 2010 was the first attempt at an anti-bribery law to address some of these issues. The UK Bribery Act introduced the concept of adequate procedures, that if followed could allow affirmative defense for an organization if investigated for bribery. The UK Bribery Act recommended several internal controls for combating bribery and introduced the incentive of a more favorable result for those who could document compliance. These controls include:

• Established anti-bribery procedures
• Top level commitment to prevent bribery
• Periodic and documented risk assessments
• Proportionate due diligence
• Communication of bribery prevention policies and procedures
• Monitoring of anti-bribery procedures

The concept of an affirmative defense for adequate procedures creates quite a contrast to FCPA which only offers affirmative defense for payments of bona fide expenses or small gifts within the legal limits of the foreign countries involved.

The UK Bribery Act equated all facilitation and influence payments to bribery. Finally, the UK Bribery Act dealt with the problem of defining a foreign official by making it illegal to bribe anyone regardless of government affiliation. Several countries such as Russia, Canada and Brazil have enacted or updated their anti-bribery regulations to parallel the guidelines presented in the UK Bribery Act. The key to the effectiveness of all these acts remains enforcement.

In November 2012 the US Department of Justice and the Securities Exchange Commission released “A Resource Guide to the Foreign Corrupt Practices Act.” The guide book introduced several hallmarks of an effective compliance program. The Resource Guide provided companies with the tools to demonstrate a proactive approach to deter bribery and corruption. Companies in compliance may receive some consideration during the fines and penalty stage.

The guide’s hallmarks include:

• Establish a code of conduct that specifically addresses the risk of bribery and corruption.
• Set the tone by designating a Chief Compliance Officer to oversee all anti-bribery and corruption activities.
• Training all employees to be thoroughly prepared to address bribery and corruption risk.
• Perform risk assessments of potential bribery and corruption pitfalls by geography and industry.
• Review the anti-corruption program annually to assess the effectiveness of policies procedures and controls.
• Perform audits and monitor foreign business operations to assure compliance with the code of conduct.
• Ensure that proper legal contractual terms exist within agreements with third parties that address compliance with anti-bribery and corruption laws and regulations.
• Investigate and respond appropriately to all allegations of bribery and corruption.
• Take proper disciplinary action for violations of anti-bribery and corruption laws and regulations.
• Perform adequate due diligence that addresses the risk of bribery and corruption of all third parties prior to entering a business relationship.

The SEC and DOJ entered into the first ever Non-Prosecution Agreement (NPA) for Foreign Corrupt Practices violations in 2013. This decision was a harbinger from the DOJ and SEC with regard to future enforcement actions. The NPA highlighted the “extensive remedial measurements and cooperation efforts” that the defendant company demonstrated during the investigation. The corporation paid only $882,000 in fines because they were able to “demonstrate a strong tone from the top and a robust anti-corruption program”.

Under a Deferred Prosecution Agreement (DPA) the DOJ files a court document charging the organization while simultaneously requesting that prosecution be deferred to allow the company to demonstrate good conduct going forward. The DPA is an agreement by the organization to: cooperate with the government, accept the factual findings of the investigation, and admit culpability if so warranted. Additionally, companies may be directed to participate in compliance and remediation efforts, e.g., a court-appointed monitor.

If the company completes the term of the DPA, the DOJ will dismiss the charges without imposing fines and penalties. Under the Non-Prosecution Agreement, the DOJ maintains the right to file charges against the organization later should the organization fail to comply. The NPA is not filed with the courts but is maintained by both the DOJ and the company and is posted on the DOJ website. Like the DPA, the organization agrees to monetary penalties, ongoing cooperation, admission to relevant facts, as well as compliance and remediation of policies, procedures and controls. If the company complies with the agreement, the DOJ will drop all charges.

The key differences between a deferred prosecution case and one not featuring deferred prosecution is the initial response of the defendant company to the discovery of improper payments. In a deferred prosecution case the response usually features prompt self-reporting, full cooperation with the government and the quality of the serious remedial steps taken, including termination of implicated personnel and the modification of company behavior in the country where the violations occurred. Additionally, deferred prosecution defendants frequently discover the improper payments while in the process of enhancing their anti-bribery and corruption controls.

Originally allegations of FCPA violations were received through a company’s internal whistleblower hotline. That trend changed with the enactment of the Sarbanes Oxley Act in 2002 and the Dodd-Frank Act in 2012. These laws created other means and mechanisms for reporting suspicions of illegal activity and provided protections from retaliation against whistleblowers. The Dodd-Frank Act also has monetary incentives of 10% to 30% of the amounts recovered by the government to encourage whistleblowers to come forward. Companies considering whether to disclose potential anti-corruption problems to the SEC must now consider the possibility that a potential whistleblower may report it first to the government thus creating greater liability for the organization.

In conclusion, according to recent reporting by the ACFE, corporate compliance programs continue to mature, and are now accepted as a cost of conducting business in a global marketplace. The US government continues to clarify its expectations about corporate responsibility at home and abroad and works with international partners and their compliance programs. Increased cooperation between the public and private sectors to address these issues will assist in leveling the playing field in the global marketplace. Non-government and civil society organizations, i.e. World Bank and Transparency International play a key role in this effort. These organizations set standards, apply pressure on foreign governments to enact stricter anti-bribery and corruption laws, and enforce those laws. Coordination and cooperation among government, business and civil entities like the ACFE, reduce the incidences of bribery and corruption and increase opportunities for companies to compete fairly and ethically in the global marketplace.

The Flavor of the Month

revolving-doorsUnsurprisingly, given issues raised by the press during the recent presidential election about cabinet candidates and the rapidly revolving door between the private sector and government, conflict of interest is again the fraud flavor of the month among the pundits.  To keep the matter in perspective, these same concerns about appointments are raised to a greater or lesser degree following every presidential election.

The ACFE tells us that a conflict of interest occurs when an employee, manager, or executive has an undisclosed economic or personal interest in a transaction that adversely affects the company, or, in the case of government, his or her office.  As with other corruption cases, conflict schemes involve the exertion of an employee’s influence to the detriment of his or her employing organization.

The clear majority of conflict cases occur because the fraudster has an undisclosed economic interest in a transaction. But the fraudster’s hidden interest is not necessarily economic. In some scenarios, an employee acts in a manner detrimental to his organization to provide a benefit to a friend or relative, even though the fraudster receives no financial benefit from the transaction herself.  A manager might split a large repair project into several smaller projects to avoid bidding requirements. This allows the manager to award the contracts to his brother-in-law. Though there was no indication that the manager received any financial gain from this scheme, his actions nevertheless amount to conflict of interest.

It’s important to emphasize that to be classified as a conflict of interest scheme, the employee’s interest in the transaction must be undisclosed. This is a crucial important point and one that’s often overlooked.  The crux of a conflict case is that the fraudster takes advantage of his employer; the victim company is unaware that its employee has divided loyalties. If an employer knows of the employee’s interest in a business deal or negotiation, there can be no a conflict of interest, no matter how favorable the arrangement is for the employee.

If an employee approves payment on a fraudulent invoice submitted by a vendor in return for a kickback, its bribery. If, on the other hand, an employee approves payment on invoices submitted by his own company (and if his ownership is undisclosed), this is a conflict of interest. The distinction between the two schemes is obvious. In the bribery case the fraudster approves the invoice in return for a kickback, while in a conflicts case he approves the invoice because of his own hidden interest in the vendor. Aside from the employee’s motive for committing the crime, the mechanics of the two transactions are practically identical. The same duality can be found in bid rigging cases, where an employee influences the selection of a company in which she has a hidden interest instead of influencing the selection of a vendor who has bribed her.

The concern voiced in the press and other media is legitimate and justified because there are vast numbers of ways in which an employee (or high level government appointee) can use his or her influence to benefit an organization in which s/he has a hidden or even a disclosed interest.

Purchase schemes and sales schemes are the two most common categories involving conflict of interest. Most conflicts of interest arise when a victim company unwittingly buys something at a high price from a company in which one of its employees has a hidden interest, or unwittingly sells something at a low price to a company in which one of its employees has a hidden interest. Most other conflicts involve employees stealing clients or diverting funds from their employer.

The ACFE says its research indicates that most conflict schemes are over billing schemes.  While it is true that any time an employee assists in the overbilling of his company there is probably some conflict of interest (the employee causes harm to his employer because of a hidden financial interest in the transaction), this does not necessarily mean that every false billing will be categorized as a conflict scheme. For the scheme to be classified as a conflict of interest, the employee (or a friend or relative of the employee) must have an ownership or employment interest in the vendor that submits the invoice. This distinction is easy to understand if we look at the nature of the fraud. Why does the fraudster overbill his employer? If she engages in the scheme only for the cash, the scheme is a fraudulent disbursement billing scheme. If, on the other hand, she seeks to better the financial condition of her business at the expense of her employer, this is a conflict of interest. In other words, the fraudster’s interests lie with a company other than her employer. When an employee falsifies the invoices of a third-party vendor to whom he has no relation, this is not a conflict of interest scheme because the employee has no interest in that vendor. The sole purpose of the scheme is to generate a fraudulent disbursement.

A short rule of thumb can be used to distinguish between over-billing schemes that are classified as asset misappropriations and those that are conflicts of interest: if the bill originates from a real company in which the fraudster has an economic or personal interest, and if the fraudster’s interest in the company is undisclosed to the victim company, then the scheme is a conflict of interest.

Not all conflict schemes occur in the traditional vendor-buyer relationship. Some involve employees negotiating for the purchase of some unique, typically large asset such as land or a building in which the employee had an undisclosed interest. It is in the process of these negotiations that the fraudster violates his duty of loyalty to his employer. Because he stands to profit from the sale of the asset, the employee does not negotiate in good faith to his employer; he does not attempt to get the best price possible. The fraudster will reap a greater financial benefit if the purchase price is high. In a turnaround sale or flip an employee knows his employer is seeking to purchase a certain asset and takes advantage of the situation by purchasing the asset himself (usually in the name of an accomplice or shell company). The fraudster then turns around and resells the item to his employer at an inflated price. A write off of sales scheme involves tampering with the books of the victim company to decrease or write off the amount owed by an employee’s business. For instance, after an employee’s company purchases goods or services from the victim company, credit memos may be issued against the sale, causing it to be written off to contra accounts such as Discounts and Allowances. Many reversing entries to sales may thus be a sign that fraud is occurring in an organization. Finally, some employees divert the funds and other resources of their employers to the development of their own business. While these schemes are clearly corruption schemes, the funds are diverted using a fraudulent disbursement. The money could be drained from the victim company through a check tampering scheme, a billing scheme, a payroll scheme, or an expense reimbursement scheme.

The bottom line is that every management has an obligation to disclose to the shareholder’s significant fraud committed by officers, executives, and others in positions of trust. Management does not have the responsibility of disclosing uncharged criminal conduct of its officers and executives. However, when officers, executives, or other persons in trusted positions become subjects of a criminal indictment, disclosure is required. The inadequate disclosure of conflicts of interests is among the most serious of frauds. Inadequate disclosure of related-party transactions is not limited to any specific industry; it transcends all business types and relationships.

On the detection side, CFE’s continue to point out some of the more tried and true  methods that can be used including tips and complaints, comparisons of vendor addresses with employee addresses, review of vendor ownership files, review of exit interviews, comparisons of vendor addresses to addresses of subsequent employers, and interviews with purchasing personnel for favorable treatment of one or more vendors.

The Facts Speak for Themselves

fact-findingOne of the most frequent topics our Chapter receives questions about from new members and from our on-line guests concerns the documenting and reporting of investigative results.  What types of reports do fraud examiners and forensic accountants typically produce based on what types of documentation? What should be included in the various types of documentation and reports and what should be avoided?

The ACFE tells us that documenting an investigation is as important as performing it. A poorly documented case file can lead to a disappointing conclusion, a dissatisfied client, and can even damage the investigator’s reputation. Various means by which the fraud examiner or forensic accounting investigator may report her findings have been established by over two decades of practice.  The form of the report, whether oral or written, is always a matter to be discussed with the client and with counsel. While it’s not the responsibility of the fraud examiner to advise on the legal perils associated with various forms of reporting, there are certain issues of which new investigators should be aware as their clients debate the form of reporting that will conclude the investigator’s examination.

The ACFE suggests that practitioners try to determine at the outset whether a written report is expected and, if so, its form and timing. In the usual circumstance that this point can’t be decided at the inception of the engagement, the examiner should conduct the investigation in a manner that will facilitate a comprehensive oral report, including the key documents and any exhibits necessary to illustrate the findings. Many investigations begin small, but there’s no way to know with certainty where they will lead and what will be required at the conclusion. Although the client may not have requested a report at the outset of the investigation, some event during the investigation may change the client’s mind, and the investigator should to be prepared to respond. For example, you may determine during an investigation that an officer of the company violated a law or regulation, thereby requiring the company to consider self-reporting and possibly

bringing a civil action against the officer and other third parties. Alternatively, you may be subpoenaed for your part in an investigation that has captured the attention of regulatory agencies or law enforcement. While you can testify only as to what procedures you recall performing and the attendant findings, your client, and your own reputation, will be better served if you always have through and proper documentation. Try to perform an investigation as if you might be asked later to report formally on your findings and on the exact procedures performed.

Members also ask about the types of reports.  The most common reports are:

Written reports

  • Report of investigation. This form of written report is given directly to the client, which may be the company’s management, board, audit committee of the board, in-house counsel or outside counsel. The report should stand on its own; that is, it should identify all the relevant evidence that was used in concluding on the allegations under investigation. This is important because the client may rely on the report for various purposes such as corporate filings, lawsuits, employment actions, or alterations to procedures and controls.
  • Expert report filed in a civil court proceeding. The American Institute of Certified Public Accountants (AICPA) publishes an excellent practice aid on the full range of expert reports.
  • Affidavits. These are voluntary declarations of facts and are communicated in written form and sworn to by the witness (declarant) before an officer authorized by the court.
  • Informal reports. These consist of memos to file, summary outlines used in delivery of an oral report, interview notes, spreadsheets listing transactions along with explanatory annotations, and other less-formal written material prepared by the investigation team.

Oral reports

  • Oral reports are usually delivered by the investigation engagement leader to those overseeing an investigation, such as a company’s board, or to those who represent the company’s interests, such as outside counsel.
  • Oral reports involve giving a deposition, as a fact witness or expert witness, during which everything that is said, by all parties to the deposition, is transcribed by a court reporter.

Reports documenting an investigation differ considerably from audit opinions issued under generally accepted auditing standards (GAAS). The investigative report writer is not constrained by the required language of a governing standard, and investigative reports differ from one another in organization and content depending on the client’s stated needs. In contrast, financial audit reports adhere to set formula prescribed by GAAS. The uses of written reports also differ. The client could do any of the following things with an investigative report:

  • Distribute the report to a select group of individuals associated with the company in various capacities;
  • Voluntarily give the report to a prosecutor as a referral for prosecution;
  • Enter the report as evidence in a civil fraud proceeding;
  • Give the report to outside counsel for use in preparing regulatory findings, entering negotiations, or providing other legal services on behalf of the company.

However the client decides to use the report, its basic elements usually include the following organizaton:

  • Identify your client;
  • In the case of a lawsuit, identify the parties;
  • State in broad terms what you were asked to do;
  • Describe your scope, including the period examined;
  • Include mention of any restriction as to distribution and use of the report;
  • Identify the professional standards under which the work was conducted;
  • Identify exclusions in the reliance on your report (the report is not a financial audit, etc.);
  • State that your work should not be relied on to detect all fraud;
  • Include the procedures you performed, technical pronouncements relied upon, and findings.

Although a summary can be helpful to the reader it may be perilous for the report writer in terms of keeping critical information and perspectives intact. Caution is advised when preparing two types of summary sections: executive summary and conclusion.  If you do write a summary, be careful not to offer an opinion on the factual findings unless specifically requested to do so by the client. The facts should speak for themselves.

It may be appropriate to include in a concluding section of the Report of Investigation certain recommendations for additional investigative procedures or a description of control breakdowns you have observed. Also, a carefully written executive summary at the beginning of the report can be extremely helpful to the reader, especially when it precedes a long and complex report. The executive summary should offer in simple, straightforward language an accurate statement of significant findings. Each summarized finding should include a reference to the full description of findings included in the complete Report of Investigation.

Fraud examination reports are powerful tools which can assist client management in a myriad of ways but, like anything else, if ineptly prepared, represent a minefield for the beginning practitioner.

Tone Deaf

tone-deafThe sensational bribery and corruption cases all over the news recently mean that tone at the top as a concept is yet again in the eye of the financial press.   Journalists of every stripe and persuasion opine on its importance as a vital control but always seem to fall short on the specifics of just how the notion can be practically applied and its strength evaluated once implemented.  One of the problems is that there are so many facile definitions of the concept in popular use.  The one I like the most is one of the simplest declaring it to be the message, the attitude and the ethical culture the board of directors and upper management disseminate throughout the organization. It’s best described as the consistency among statements, assertions and explanations of the management and its actions. In summary, tone at the top is seen by some as a part of and by others as equal to the internal control environment.

The rub comes in because tone at the top is not only far more complicated than the above definition would lead a casual reader of trade press articles to believe, but also because its invisible to the standard tests of an outside auditor or fraud examiner. So a baseline would be a valuable addition not only for fraud examiners and financial auditors, but also for all types of assurance professionals.

To determine a baseline, one first needs to define the different aspects of the target concept. Thus, a baseline might provide reviewers with a starting point to begin improving their analyses of tone at the top. ACFE studies of hundreds of companies tell us that an enriched tone at the top can not only prevent fraud through its implementation of a well-functioning internal control system, but can also have a positive impact on the financial results of an organization. Organizations with an effective corporate governance policy just perform better than those that don’t. In my own practice as an auditor and fraud examiner, I’ve found COSO’s Enterprise Risk Management (ERM) a useful framework to use in the actual practice of evaluating the effectiveness of internal controls (including tone at the top) during fraud risk assessments.

Tone at the top is based on two schools of thought in management literature: the corporate governance school and the management control systems (MCS) school. These schools of thought share three fundamental theories: the agency theory, the transaction cost economics theory and the stakeholder theory. The agency theory views an organization as a nexus of contracts. Separation of ownership and control is essential for this theory.  The agent (the manager) is in control of the organization; however, he or she does not own the organization; the organization is owned by the principal (stakeholders).  Measures (i.e., corporate governance) need to be taken to ensure that the agent will strive to achieve the goals of the principal.

Transaction cost economics (TCE) is based on the concepts of bounded rationality and of homo economicus: a person chooses the best option based on the available information.  TCF aims to explain how firms are formed.  Firms are created to minimize transaction costs.  The domain of TCE has proven useful to explain management control structures.  The performance evaluation needs to be behavioral based, with non-financial subjective measures.  Output controls are low with TCE.  Individual contributions to the organization (individual performance) are analyzed as the outcomes of contracts between the employer and the employee.

The stakeholder theory is based on the belief that besides shareholders, there are others with interest in the organization.  Corporate governance should not only solve conflicts between management and shareholders but also between the organization and other stakeholders.  Tone at the top represents a form of cultural control to the MCS school.  Cultural controls stimulate employees to monitor and stimulate each other’s behavior.  Cultural controls rely on group pressure; if a person deviates from the group’s values, the group will put the person under pressure to convert him or her back to the dominant values.  Cultural controls are usually translated in corporate governance codes.  Corporate governance codes are mainly formulated to prevent/minimize fraudulent activities in organizations by means of internal control.  Five methods of cultural controls, namely code of conduct, group rewards, transfers, physical and social controls, and tone at the top have been identified.

Tone at the top forms an important part of corporate governance codes.  Management behavior should coincide with the culture it tries to form; managers fulfill an example function. An important factor is implementing and operating a whistleblower policy; if staff at any level observes fraudulent activities they can report them and be protected against possible retaliation.

Each of our above theories concludes that an organization needs to have a corporate governance code to minimize transaction cost, manage stakeholder interest and, thereby, increase shareholder value.  However, recent well publicized corruption cases have led to calls in the popular press for a more formal approach.  So, what might such a formal, COSO based, approach look like?

First, management and the CEO need to demonstrate inspiring leadership, set the right ethical example and focus on people skills. They also need to display integrity.  Their risk awareness, actions and messages need to coincide with the dominant culture.  It is also important for managements to formally commit to competence.

As to culture, an independent and active risk culture is necessary for tone at the top to be successful.  Also, employees need to be empowered to make the right decisions.  The reward systems and the culture need to reward desired behavior and be compliant with the norms.  In the event of something going wrong despite these cultural aspects, there needs to be an effective policy present to protect whistleblowers.

Finally, the risk appetite should be linked to the strategy.  The supervisory board needs to be independent, active and involved.  Responsibilities need to be defined, and management needs to receive adequate information.

All three of the above aspects are an integral part of what the experts currently define as tone at the top.  According to the ACFE, tone at the top can assist in averting fraud throughout every level of an organization. It’s, therefore, necessary to include its assessment in the scope of the fraud examiners fraud risk assessment and to formally schedule its periodic re-evaluation.

Living Underground

tax-hellRegister Today for Investigating on the InternetMay 18-19 2016 RVACFES Seminar!

The first signs that the tide may be turning in the world-wide battle against corruption appear to be upon us.  Issues surrounding the growing international Panama Red movement and the scandal of secret money have thrown a spotlight on what’s called the underground economy.

The underground economy is a group of clandestine transactions that create financial value, but are conducted with the intention of escaping something — primarily taxes, but also revelation of bribes, government regulations, exchange controls, or criminal prosecution.  The ACFE has been telling us for years that the underground economy exists for four primary reasons:

— to escape taxation;
— to escape regulation;
— to escape prohibition;
— to further corruption.

Because all of these activities are illegal and the individuals involved in them want to escape detection, the underground economy operates on secret money. Economists have attempted to determine the exact size of the international underground economy, but have, thus far, met with limited success because the main premise of the underground economy is that income is not reported. In the early 2000’s, India, the United States, Canada, Russia, Nigeria, and Italy were believed to have the largest underground economies in the world. According to estimates, the underground economy in the United States has grown significantly, totaling as much as $2.25 trillion annually. Today, most observers in the United States estimate that ten percent of the actual Gross Domestic Product can be attributed to criminal activity.

The underground economy in the United States (as it does to the tax collection efforts in other developed economies) is undermining the effectiveness of the Internal Revenue Service, which is highly dependent on employee’s withholding taxes. If the IRS could collect all of the taxes that it says it is owed from the underground economy, then the current budget deficit would decrease overnight. The IRS has estimated that its tax gap, the estimated amount of taxes owed minus the amount collected, is around $600 billion in any given year. The gap number measures only a portion of the underground economy. Because the number is extrapolated from audited returns, it makes no allowance for criminal enterprises that report no income, and it even fails to capture some typical varieties of non-reporting. This gives just some idea how much the underground economy is costing the U.S. economy alone.

In response to these issues, the IRS developed the Criminal Investigative Unit. This unit serves the American public by investigating potential criminal violations of the Internal Revenue Code and related financial crimes in a manner that fosters confidence in the tax system and compliance with the law. The enforcement efforts of this unit include tax violations, money laundering, currency crimes, and asset forfeiture.

The Criminal Investigation Program Strategy falls into three interdependent categories: Legal Source Tax Crimes, Illegal Source Financial Crimes, and Narcotics-Related Financial Crimes. The Legal Source Tax Crimes Program Strategy addresses tax investigations involving taxpayers in legal occupations and legal industries. The Illegal Source Financial Crimes Program Strategy recognizes that illegal source proceeds, which are part of the untaxed underground economy, are a threat to the voluntary tax compliance system, and that failure to investigate these cases would erode public confidence in the tax system. The primary objective of the Narcotics-Related Financial Crimes Program Strategy is to reduce the profit and financial gains of narcotics trafficking and money laundering organizations that compromise a significant portion of the untaxed underground economy.

The foremost reason for the existence of the underground economy is to escape taxation, which in some countries can be more than half of a person’s yearly income. Swiss bankers have a saying, “There would be no tax havens without tax hells.” As the rate of taxation increases, so does the cost of honesty. The higher the tax burden, the more incentive people have to attempt evading those taxations. Because it’s illegal, tax evasion always involves financial secrecy. And tax evasion, as the Panama Paper’s illustrate, transcends national boundaries due to the investigative and jurisdictional limits set by each country for revenue authorities. While there is a great deal of cooperation between international governments in matters of tax evasion, there are many loopholes that make overseas transactions appealing and profitable to the secrecy seeker.

The second factor that motivates the underground economy is the desire to escape regulation. Government-imposed regulations are often perceived as hindrances to the efficient flow of business. Regulations might affect prices, wages, returns on capital, exchange rates, and so forth. As with taxes, each time a new regulation is enacted, an economic incentive is created to find a way to evade it. In many countries, parallel financial markets, also known as curb markets, are the result of stringent financial controls. These controls also give rise to parallel foreign exchange markets involving currency smuggling and transfer pricing. All of this economic activity is conducted in secrecy and is neither taxed nor reported in official statistics.

Prohibition is defined as the forbidding by law of certain activities. Avoidance of prohibitions is the third reason underground economies exist. Prohibition is usually associated with criminal activities such as narcotics smuggling and sales, prostitution, gambling, and usury (i.e., the lending of money at excessive interest rates). Most of these transactions are made with cash and are therefore extremely difficult to detect and trace.

The final reason for the perpetuation of the underground economy is corruption. Corrupt activities include bribes on public procurement contracts, customs clearance, traffic violations, zoning ordinances and building permits, investment licenses, import and foreign exchange permits, allegations of consumption, investment, and infrastructure goods that are in short supply. As the current revolt of the Mexican people against corruption illustrates, bribery is commonplace in many countries and is pervasive among public officials. Despite official laws banning bribery, the practice is sometimes an intrinsic part of a country’s cultural, political, and economic system. In these places, it is tolerated or simply overlooked.

One of the most important services fraud examiners can render to their clients and to the general public is to increase awareness of the pernicious effect on economic freedom and liberty of the underground economy phenomena, not just in the developed countries in which we primarily practice, but world-wide.

War Stories

war-stories_2Register Today for Investigating on the Internet May 18-19 2016 RVACFES Seminar!

I like to collect war stories from fellow fraud examiners and auditors.  This one is a story a long time member of our Chapter and a personal friend shared with me not too long ago over lunch.  It has to do with a case he investigated during the mid-nineties.  One of his client companies at the time was the wholly owned subsidiary of a prominent medical equipment wholesaler which sold primarily to local pharmacies.  It seems the subsidiary maintained a large sales force, the superstar of which was a sales manager I’ll call Drew Paul.  Paul’s division brought in over 50% of the subsidiary’s revenue and, even in a sales force of above average performers, Paul stood out.

Our Chapter member got involved with the subsidiary when a member of the parent’s audit committee requested a routine fraud vulnerability study of all the parent’s principal subs.  Paul’s sub was the second our Chapter member evaluated.  As part of the general review’s kick-off process, my friend met with the human resources head to obtain an organization chart and to familiarize himself with the sub and its operations.  Review of the data supplied by HR revealed high turnover in the sales division, turnover that was predominantly related to one sales manager, Drew Paul. He also discovered that the HR department didn’t routinely conduct exit interviews when employees left either the sales division or the company. Our member was immediately concerned because the lack of such a routine personnel procedure was unusual in a sub of such a progressive company.  Our member then scheduled a follow up meeting with the HR head which yielded some interesting observations. The HR head noted that Paul Drew didn’t seem to care about HR policies. His attitude seemed to stem from his assertion that the sales team was the “bread and butter” and that the rest of the company was dependent on it. The HR head had the impression that the sub’s CEO seemed to agree, not requiring the sales division to adhere to company policy and procedure. At our friend’s request, the HR head handed over copies of the sales senior management team’s personnel files for his review. The HR head also mentioned, as an aside, that, in her opinion, Paul’s income would not begin to support the level of his apparent lifestyle. Our member additionally found that the HR head had issued a warning letter to Paul for violating company policy by recruiting entry-level data clerks to collect checks from the subs retail pharmacy customers without HR’ s knowledge.

Given these red flags, and with the parent’s permission, our Chapter member decided to start the sales vulnerability assessment portion of the general assessment immediately. He met with the sub’s CEO and quietly put a small upper management team together to begin the review.  The first week of the assessment was spent reading company/division policies and procedures; reviewing the sales department’s structure, authority matrix, sales process, and analysis of the past two years’ sales, as well as the portion of the market (sales territories) allotted to each of the managers; and the access level controls on the sales module of the general ledger system. The review team planned the engagement to cover both compliance and substantive testing of the entire sales process. Two deficiencies came out clearly during the initial review testing: There were loose controls around issuing promotional and bonus products to pharmacies, and there were few controls on sales returns. Bonus and promotional products were used by the wholesaler to reward pharmacies that met or exceeded their sales targets, launch a new product, or successfully push a slow-moving product.

Our friend reviewed the list of past employees who were terminated or had resigned from the sales force in the last year. His eyes fell on Billy Preston who had been terminated at the end of the second quarter.  After consulting with the parent’s corporate legal counsel and obtaining consent from the audit committee, our member invited Preston to lunch the next week. Preston conveyed some astonishing things about Paul and even provided a copy of a check from a pharmacy written out to Paul (while collecting checks for the subsidiary from the pharmacy, Preston was handed the check made out to Paul). When Preston confronted Paul about the suspicious check, Paul terminated Preston on behavioral grounds and threatened to withhold severance pay if he went to HR. Considering Paul’s intimidating stature and apparent influence with the CEO and within the company generally, Preston decided to just leave the company quietly and begin looking for another job.

Apparently, Paul was using bonus and promotional products for personal gain. The value of bonus and promotional products given out to pharmacy customers amounted to 9 percent and 12 percent of total sales respectively. The lack of strictly defined policies and guidelines for the use of promotional and bonus products at the parent and sub left the distribution of them to the discretion of managers. Unfortunately, it also made it possible for Paul and (it later developed) a corrupt distribution manager at the parent working together to exploit the internal control deficiency. The bonus and promotional products program was transparent only to the two managers but not to the individual pharmacies. Keeping pharmacies in the dark about the details of how much they should be getting in bonus and promotional products if they reached sales targets, the two managers could favor the pharmacies of their choice.  With this additional information, our member further analyzed how a small number of pharmacies were favored with extra bonus and promotional items compared to other pharmacies, though the other pharmacies were giving the same amount of business to the parent. Not surprisingly, sales returns were also higher for the pharmacies receiving the extra bonus and promotional items than the average sales returns of all the other pharmacies put together. By colluding with pharmacies, Paul pushed sales at month end and arranged with the pharmacies to return their purchases by the first week of the next month so the pharmacy would not be overburdened with stock. By doing this, Paul received more commission from the parent, which was, at the time, based on gross sales and not on net sales (gross sales minus sales returns).

Our member wrote a confidential report and delivered his findings to the audit committee of the parent. After a thorough review, the audit committee chairman summoned Paul. As part of the review, Paul’s bank statements were legally obtained. The chairman asked Paul to explain why his bank records showed deposits from seven out of the 35 pharmacies he was handling. After initial denials, Paul admitted to accepting kickbacks in the amount of $175,00 by favoring certain pharmacies. He also came clean on the sales-returns routing that was conveniently altered so that certain of his sales team members would receive higher commissions than those to which they were entitled. Paul also revealed the names of several employees in his department who were helping him in the scheme. The parent decided not to press charges against Paul and the others because they agreed to repay monies received as kickbacks from the pharmacies.

For our member the takeaways are that CFE’s should tell their clients not to lose control of their subs.  Policies, procedures, and guidelines should be established in all sub departments, especially in those areas where more discretionary powers are involved. Keep the whistle blowing process transparent, approachable, and user-friendly. There also should be a mechanism in place to protect whistle blowers like Billy Preston. Management should engage CFE’s to perform regular fraud risk assessments, especially of semi-independent subsidiaries.  Finally, high turnover in a department should always be perceived as a red flag. Exit interviews should be thoroughly conducted to get to the root of a problem which can often turn out to be fraud related.

The Joker in the Pack

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Suddenly everyone in the news, even presidential candidates, seems to be accusing someone else of a conflict of interest.  It may be that an exact definition would be helpful in clearing the air and clarifying matters a little so as to identify the real joker in the corporate pack.  From a fraud examiner’s point of view, just what exactly constitutes a conflict of interest?  According to the ACFE a conflict of interest occurs when an employee, manager, or executive has an undisclosed economic or personal interest in a transaction that adversely affects the company. Unaware that its employee has divided loyalties, the company is taken advantage of by the fraudster. As with other corruption cases, in a conflict of interest scheme an employee exerts his influence to the company’s detriment. In many cases, the fraudster does not benefit economically; instead, he uses his influence for the benefit of a friend or relative.

Motive is the difference between a bribery scheme and a conflict of interest scheme. For instance, if an employee approves payment on a fraudulent invoice submitted by a vendor in return for a kickback, this is bribery. On the other hand, if an employee approves payment on invoices submitted by his own company – a real company, not a shell company – this is a conflict of interest. In the bribery case, the perpetrator receives a kickback. In the conflict of interest case, the perpetrator has a hidden interest in the vendor. Similarly, in a bid-rigging case, an employee influences the selection of a company for which he has a hidden interest, rather than influencing selection of a vendor who has bribed him.

However, many conflict of interest schemes do not mirror bribery or bid-rigging schemes. An employee can use her influence to benefit a company in which she has a hidden interest. Any way in which a fraudster exerts his influence to divert business to his hidden interest company is considered to be a conflict of interest. In a purchasing conflict of interest scheme, an employee purchases goods or services from a company in which he has a hidden interest, resulting in purchases that are typically either overbilled or unnecessary. Employees in purchasing who have access to bidding information determine the bid amounts from other vendors, then pass this inside information to their hidden interest company so it will be better equipped to win the contract. Perpetrators also use bid waivers to avoid a competitive bid process in order to award a contract to their hidden interest company. Or, a fraudster could ignore his employer’s purchasing rotation and direct an inordinate number of purchases or contracts to his hidden interest company. Some fraudsters engage in what is known as a turnaround sale or flip whereby an employee personally purchases goods he or she knows the employer needs, and then sells them to the employer at an inflated price.

Two types of conflict schemes are associated with the victim company’s sales. The first, and most harmful scheme, involves under-billing a vendor in which the perpetrator has a hidden interest. The victim company ends up selling its goods or services below fair market value, which results in a diminished profit margin or loss on the sale, depending upon the size of the discount. The other type of sales scheme involves tampering with the books of the victim company to decrease or write off the amount owed by the employee’s business. For instance, after an employee’s company purchases goods or services from the victim company, credit memos may be issued against the sale, causing it to be written off to contra accounts such as discounts and allowances. In other cases, the perpetrator might not write off the sale but simply delay billing. This delaying tactic is sometimes done as a “favor” to a friendly client, and not considered an outright attempt to avoid paying the bill. The victim company eventually gets paid, but loses the use of the money and the interest that might have been earned on the payment.

In a client diversion scheme, an employee starts his own business and competes directly with his employer. While still employed by the victim company, the employee diverts clients to his own business. In a resource diversion scheme, an employer’s funds and other resources are diverted to the development of an employee’s personal business. A fraudster obtains the resources using a check tampering, billing, payroll, expense reimbursement, or one of the other asset misappropriation schemes discussed so often in this blog. With the exception of the fraudster’s motives, conflict of interest schemes are similar to other asset misappropriation frauds; they are concealed and converted in the same way. In other words, if the fraudster uses a check tampering fraud to commit a conflict of interest crime, then the employee would conceal and convert using the same techniques employed in check tampering frauds. The fraudster can also convert the misuse of influence into personal gain by profiting from the growth or earnings of a hidden interest company.

So what are the red flags? Many of the red flags associated with other fraud schemes also point to a conflict of interest scheme. For instance, while a particular red flag might suggest an employee is committing a fraudulent disbursement scheme, a conflict of interest problem might exist as well. In addition, certain red flags pertain directly to conflict of interest schemes. The following point to some of the warning signs that an employee could have a conflict of interest; the absence of clear company policies regarding an employee’s disclosure of outside interests and the commitment expected of the employee to act in the company’s best interests. Likewise, complaints, especially if they are frequent or in sales and purchasing. If a particular vendor is being favored, then competing vendors might file complaints. In addition, employee complaints about the substandard service of a favored vendor may lead to the discovery of a conflict of interest. And finally, a large number of reversals to sales entries.

The ACFE recommends that CFE’s consider proposing the following techniques and procedures to our clients to help prevent and detect conflict of interest schemes …

–Create company policies to directly address conflict of interest issues. Outline the responsibilities of employees to disclose all outside interests that might conflict with the interests of the company. Make sure that employees and vendors are aware of the company’s policies concerning conflicts of interests. Require employees to complete an annual disclosure statement; this may reveal potential conflicts of interest.

–Provide vendors with a direct line to complain about unfair practices, and keep a descriptive log of vendor complaints. Review the log regularly to identify patterns that might point to a fraud scheme. Also, devise a way for employees to discreetly let the company know of suspicious activities.

–Compare vendor addresses with employee addresses, and look for vendors whose addresses are listed as post office boxes. This is the same investigative technique used to locate bogus vendors.

–Review vendor ownership files. When a vendor is chosen, a complete file of vendor ownership should be maintained. If the vendor is required to update the file annually, then changes in ownership also will be disclosed. A comparison of vendor ownership and employee files may reveal conflicts of interest.

–When an employee leaves the company, compare the address of his new employer to vendor addresses. If there is a match, a possible conflict of interest may have existed.

–Interview purchasing personnel. Employees are generally the first to observe that a vendor is receiving favorable treatment. Ask employees if particular vendors are receiving favorable treatment; this may uncover conflicts of interest that would otherwise go unnoticed.

It’s Not Just About Tax Avoidance

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The ACFE tells us that countries in virtually all parts of the world, but especially those located in the Caribbean and South Pacific, are commonly regarded as tax havens.  A tax haven is a country whose laws, regulations, traditions, and treaty arrangements make it possible for a person to reduce his or her overall tax burden. Secrecy is basically supplied by such countries in two ways.

1) Domestic bank secrecy laws: Laws which bar insight by outsiders;2) Blocking statutes: Statutes which effectively prevent the disclosure, copying, inspection, or removal of documents located in the host country in compliance with orders issued by foreign authorities.

Moreover, in many countries, legal depositions may not be taken on national territory in connection with judicial proceedings being undertaken abroad. Many countries, such as the United Kingdom, France, South Africa, Germany, Australia, Norway, and Canada have comprehensive statutes to guard their sovereignty from the extraterritorial reach of foreign authorities. Although these countries are not generally thought of as tax havens they have laws which can be used by the asset hider. In addition to asset hiding, some foreign countries have a legal, banking, or economic climate that provides an excellent site for laundering money. Historically, places such as Panama, the Cayman Islands, the Bahamas, Switzerland, and the Netherlands Antilles have been associated with hidden bank accounts, fictitious corporations, and money laundering.

The most popular off-shore jurisdictions in the news recently are:

–Switzerland
–Panama
–Cayman Islands
–Netherlands Antilles

Countries like Panama with relatively small, open economies have often embraced the financial secrecy business as a way of promoting economic development. With some notable exceptions, these countries are geographically isolated with a narrow production concentrated on a few major commodities, usually for export. This tends to make them vulnerable to adverse climatic conditions and international market development. It also limits their ability to produce an adequate domestic market, invest in an infrastructure, attract foreign direct investment, and gain access to a diversified mix of importers and exporters.

It’s important for CFE’s to understand the general concept of a financial center with regard to financial havens.  Financial centers are of two types:

–A functional center is defined as country where transactions are actually undertaken and the value added is created in the design and delivery of financial services. Examples of functional centers include New York, London, Singapore, Bahrain, and Hong Kong.
–A booking center is defined as a country where transactions are recorded but the value added involved is actually created elsewhere. Examples in this category include Panama, the Bahamas, Cayman Islands, Seychelles, and Vanuatu.

Accordingly, the ACFE classifies the tax havens of the world into four broad categories:

No Tax Havens – these countries have no income, capital gains or wealth taxes. It’s legal to incorporate and/or form a trust. The governments of these countries do earn revenue from corporate registration fees, annual fees and a charge on the value of corporate shares. Examples of “no tax” havens are the Bahamas, Bermuda, the Cayman Islands, Nauru, the Turks, Caicos and Vanuatu.

No Tax on Foreign Income Havens – These countries impose income taxes, but only on locally derived income. Any income earned from foreign sources that involves no local business activity (apart from simple housekeeping and bookkeeping matters) is exempt from taxation. There are two types of “no tax on foreign income” havens. Those that:

–allow corporations to conduct both internal and external business, taxing only the income from internal sources;
–require a decision at the time of incorporation as to whether the company will conduct local business or will act only as a foreign corporation. If the company elects the latter option, it will be exempt from taxation. If it chooses to conduct local business, it incurs the appropriate tax liabilities. Examples are Panama, Liberia, Jersey, Guernsey, the Isle of Man, Gibraltar, Costa Rica and Hong Kong.

Low Tax Havens – These are countries that impose some income tax on company income, wherever it is earned. However, most have double taxation agreements with “high tax” countries. This agreement can reduce the withholding tax on the income derived from a high tax country by local corporations. Examples of “low tax” havens are Cypress, the British Virgin Islands and the Netherlands Antilles.

Special Tax Havens – Special tax havens are countries that impose all or most of the usual taxes, but either allow concessions to certain types of companies, or allow specialized types of corporate organizations such as the flexible corporate arrangements offered by Liechtenstein. Tax havens offering special privileges for holding companies are Liechtenstein, Luxembourg, the Netherlands and Austria.

Understanding the role of tax havens, involves distinguishing between two basic sources of income:

–Return on labor
–Return on capital

The return on labor refers to earnings from salary, wages, and professional services – your work. Return on capital describes the return from investments such as dividends from shares of stocks; interest on bank deposits, loans or bonds; rental income; and royalties on patents. Placing “return on capital” income in certain tax havens can benefit the secrecy seeker. By forming a corporation or trust in a tax haven this income may become tax-free or be taxed at such a low rate that the taxation is hardly noticeable.

In the case of Panama, for example, off-shore banking and incorporation are a major source of revenue. It’s also a good country for laundering drug money through its banks. It was reported by the financial trade press some years ago that at one time $200-$300 million a month was laundered through Panamanian banks. Panama is one of the most effective off-shore havens for money-launderers, offering tremendous secrecy. As the Panama papers seem to bear out, its banking haven business has always been regarded as supplemental to its status as a tax haven.

Before asset hiders and money launderers can utilize off-shore secrecy havens, they must first establish secret off-shore bank accounts. The off-shore account provides asset protection because the existence of such an account will not readily be known by someone seeking to collect against assets. Foreign banks, regulated by their own authorities, are under no obligation to inform the fraudster’s home country bank examiners of the ownership of the accounts they hold. Even if the existence of an off-shore account does come to light, judgments from home country courts are generally invalid in foreign countries, so creditors normally have to get a judgment in the country where the account is located. This allows time for the individual to fight the action or, unless the court immediately issues an order prohibiting the transfer of assets, simply move the assets out of the account.

So why do fraudsters and others secretly move money off-shore?  Not just tax avoidance. There are many additional benefits of doing so, extending well beyond simple tax avoidance:

–Off-shore bank accounts allow an individual to invest in foreign stocks and mutual funds that are not registered with home country government agencies;
–In some instances, off-shore bank accounts offer more flexible customer options than home country accounts;
–The account can be used to profit from currency fluctuations, buy stocks from mutual funds, purchase foreign real estate, and earn the high interest rates available in many foreign countries;
–Foreign accounts are used to trade precious metals and other assets through the banking system;
–For U.S. citizens, off-shore banking income is not presently considered “subpart F income” on U.S. tax returns. The profits accumulate in the off-shore bank and are compounded free of U.S. taxes;
–Most off-shore banks allow transactions to be conducted by mail, fax, or telex.

Keeping money in off-shore bank accounts is generally considered to be a safe move. On the rare occasion when a bank fails, in most developed countries the major banks in the country will take over its business to ensure that depositors do not lose any money. Some countries even have stronger capital requirements for banks than the United States.

The off-shore financial safe haven sector constantly evolves and adds more attractive customer services over time, just like every other dynamic market place that wants to retain and grow its customer base.  To effectively investigate the role off-shoring plays in many high profile frauds, CFE’s need to realize that tax avoidance is often just the tip of the concealment iceberg.

Facilitation or Bribe?

LondonBridge2During our recent live training event on November 12th , Tom Gober, our speaker, alluded to the importance of the U.S. Foreign Corrupt Practices Act as a piece of US government regulation of which it behooves all fraud examiners to be aware. Tom’s reference got me to thinking about the confusion that still persists regarding certain provisions of the Act among corporate players (as reported in the financial trade press following several recent high profile prosecutions). Enacted to great fanfare in 1977, the purpose of the FCPA was to prevent the bribery by the agents of US corporations of foreign government officials when those agents were negotiating overseas contracts. The FCPA imposes heavy fines and penalties for both organizations and individuals. The two major provisions address: 1) bribery violations and 2) improper corporate books and records as well as maintenance of inadequate internal controls. Understandably, methods of enforcement and interpretation of the law in the US have continued to evolve to the present day.

From the first, the FCPA spawned questions of definition and interpretation for those trying to comply, i.e., who is a “foreign official?” What is the difference between a “facilitation” payment and a bribe? Who is considered a third party? How does the government define “adequate” internal controls to detect and deter bribery and corruption?

The United Kingdom enacted its UK Bribery Act in July 2010 which really represented the first real attempt at an anti-bribery law to address some of these issues. The UK Bribery Act introduced the concept of “adequate procedures”, that if followed could allow affirmative defense for an organization under investigation for bribery. The UK Bribery Act recommended several internal controls for combating bribery and offered the incentive of a more favorable result for those who could document compliance. Among the controls:

• Establish anti-bribery procedures;
• A top corporate level commitment to prevent bribery;
• Periodic and documented risk assessments;
• Proportionate due diligence;
• Communication of bribery prevention policies and procedures to all involved parties in corporate transactions;
• Monitoring of anti-bribery procedures.

The concept of an affirmative defense for adequate procedures creates quite a contrast to the US FCPA which only offers affirmative defense for payments of bona fide expenses or small gifts within the legal limits of the foreign countries involved. The UK Bribery Act simply equates all facilitation and influence payments to bribery, thus eliminating much confusion. Finally, the UK Bribery Act dealt with the problem of defining a foreign official by making it illegal to bribe anyone regardless of government affiliation. Several countries such as Russia, Canada and Brazil have enacted or updated their anti-bribery regulations to parallel the guidelines presented in the UK Bribery Act. The key to their effectiveness remains enforcement.

Then, in 2010, the US Department of Justice and the Securities Exchange Commission released a guide book introducing several hallmarks of an effective FCPA compliance program. The publication of the guidebook is a development which, according to Tom Gober, many auditors and CFE’s remain unaware, even to this day. The Resource Guide provides our client companies with the tools to demonstrate a proactive approach to the deterrence of bribery and corruption. Companies found out of compliance may receive some consideration during the fines and penalty stage of their cases.

The guidebook recommends that companies doing business overseas:

• Establish a code of conduct that specifically addresses the risk of bribery and corruption;
• Set the tone by designating a Chief Compliance Officer to oversee all anti-bribery and anti-corruption activities;
• Train all employees to be thoroughly prepared to address bribery and corruption risk and document that the training took place;
• Perform fraud risk assessments of potential bribery and corruption pitfalls by country and industry;
• Review the anti-corruption program annually to assess the effectiveness of policies, procedures and controls;
• Perform audits (routine and surprise) and monitor foreign business operations to assure strict compliance with the published code of conduct;
• Ensure proper legal contractual terms exist within agreements with third parties that address compliance with anti-bribery and corruption laws and regulations;
• Investigate and respond promptly and appropriately to all allegations of bribery and corruption;
• Take proper disciplinary action for violations of anti-bribery and corruption laws and regulations;
• Perform adequate due diligence that addresses the risk of bribery and corruption performed by third parties prior to entering into any business relationship.

Fraud examiners should make their clients aware that a company which can provide evidence of compliance with these recommendations is afforded many advantages if they’re ever charged with a violation of the Act. Among them is a Deferred Prosecution Agreement (DPA). Under a Deferred Prosecution Agreement the Department of Justice files a court document charging the organization while simultaneously requesting prosecution be deferred in order to allow the company to demonstrate good conduct going forward. The DPA is an agreement by the organization to: cooperate with the government, accept the factual findings of the investigation, and admit culpability if so warranted. Additionally, companies may be directed to participate in compliance and remediation efforts, e.g., a court-appointed monitor. If the company completes the term of the DPA the DOJ will dismiss the charges without imposing fines and penalties!

The DOJ and the company may alternatively even enter into a Non-Prosecution Agreement. Under such an agreement the DOJ retains the right to file charges against the organization at a later time should the organization fail to comply. The NPA is not filed with the courts but is maintained by both the DOJ and the company and posted on the DOJ website. Similar to the DPA, the organization agrees to monetary penalties, ongoing cooperation, admission to relevant facts, as well as compliance and remediation of policies, procedures and controls. If the company complies with the agreement, the DOJ will, again, drop all charges.

The good news is that, since publication of the guidebook, corporate compliance programs have continued to mature, and are now generally accepted as just another cost of conducting business in a global marketplace. The US government is continuing to clarify expectations with regard to corporate responsibility at home and abroad, and working with international partners and their compliance programs. Increased cooperation between the public and private sectors to address these issues will assist in leveling the playing field in the global marketplace. Non-government and civil society organizations, i.e. World Bank and Transparency International are playing a key role in this effort. These organizations set standards, apply pressure on foreign governments to enact stricter anti-bribery and corruption laws, and enforce those laws. Coordination and cooperation among government, business and civil entities, reduce the incidence of bribery and corruption and increase opportunities for companies to compete fairly and ethically in the global marketplace. Hence, every fraud examiner and assurance professional should strongly support these efforts while strongly encouraging our clients to comply with the provisions of the 2010 guidebook.