Corporate Investigations and White Collar Defense

Olympus Resolves Criminal and Civil Liability Under the FCA, FCPA and the Anti-Kickback Statutes

Why it matters: In a unique settlement combining domestic and foreign and criminal and civil corruption and false claims statutes, the DOJ announced on March 1, 2016 that medical equipment company Olympus Corp. of the Americas and its subsidiary Olympus Latin America, Inc. agreed to pay an aggregate of $646 million to resolve criminal charges under both the Anti-Kickback Statute and the Foreign Corrupt Practices Act, and civil claims under the False Claims Act, relating to the payment of kickbacks to doctors and hospitals in the U.S. and Latin America. The $312.4 million portion of the criminal penalty attributable to violations of the Anti-Kickback Statute by the company was described as "the largest total amount paid in U.S. history" for a medical device company.

Detailed discussion: On March 1, 2016, the DOJ announced that Olympus Corp. of the Americas (OCA), described as the "largest distributor of endoscopes and related equipment" in the U.S., agreed to pay $312.4 million to resolve criminal charges under the Anti-Kickback Statute (AKS) and $310.8 million to resolve civil claims under the federal and various state False Claims Acts (FCA)—aggregating $623.2 million—relating to "a scheme to pay kickbacks to doctors and hospitals" in the U.S. OCA also agreed to enter into a three-year deferred prosecution agreement (DPA) with the DOJ as well as a corporate integrity agreement with the Department of Health and Human Services-Office of Inspector General (HHS-OIG). In addition, OCA's Miami-based subsidiary Olympus Latin America, Inc. (OLA), agreed to pay an additional fine of $22.8 million for criminal violations of the Foreign Corrupt Practices Act (FCPA) and enter into a separate three-year DPA in connection with improper payments to health officials in Central and South America.

We turn first to the AKS component of the case, pursuant to which OCA is paying $312.4 million—described as "the largest total amount paid in U.S. history for violations involving the AKS by a medical device company." On March 1, 2016, the DOJ filed a criminal complaint against OCA in the District of New Jersey for conspiracy to violate the AKS, which makes it a criminal offense to pay kickbacks (including monetary bribes, costly gifts or other forms of remuneration) to doctors and/or medical facilities in order to induce purchases paid for by federal health care programs. OCA admitted to the facts set forth in the complaint, which are briefly summarized as follows: OCA "won new business and rewarded sales" by giving kickbacks to numerous doctors and hospitals in the U.S., including "consulting payments, foreign travel, lavish meals, millions of dollars in grants and free endoscopes," which "helped OCA obtain more than $600 million in sales and realize gross profits of more than $230 million." Some of the specific instances of kickbacks enumerated in the complaint included OCA (a) giving a hospital a $5,000 grant to facilitate a $750,000 sale; (b) holding up a $50,000 research grant until a second hospital signed a deal to purchase Olympus equipment; (c) paying for a trip for three doctors to travel to Japan in 2007 as a reward for their hospital's decision to switch from a competitor to Olympus; and (d) giving a doctor who had authority over a New York medical center's purchasing decisions free use of $400,000 in equipment for his private practice.

OCA's lack of employee training and compliance expertise was cited in the complaint as a root cause of the improper kickbacks, as the facts showed that OCA did not create the position of compliance officer until 2009 and did not hire an experienced compliance professional until mid-2010—the same compliance officer turned out to be the qui tam whistleblower for the FCA component of the case (discussed below). The three-year DPA (which can be extended for two additional years if OCA violates any of its provisions) addressed this problem by requiring, among other things, OCA to hire an independent monitor to ensure that OCA puts in place and maintains an effective compliance program, including annual certification as to the effectiveness of the program by the CEO and board and a confidential employee "hot line" and website through which employees can report wrongdoing. Similarly, the corporate integrity agreement that OCA entered into with HHS-OIG required OCA to adopt, among other things, a strict compliance program, including a compliance "code of conduct" and training and education programs for employees as well as compliance responsibilities for management and the board.

OCA also agreed to pay an aggregate $310.8 million in civil penalties (broken down $267.3 million to the federal government and $43.5 million to participating states) because the kickbacks paid by OCA allegedly caused false claims to be submitted to federal health care programs such as Medicare and Medicaid in violation of the FCA and equivalent state statutes. OCA's former chief compliance officer, who filed a qui tam complaint in the District of New Jersey against OCA, will receive a whopping $51 million reward, comprised of $44 million from the federal recovery and $7 million from the participating states.

Finally, OCA's Miami-based subsidiary OLA, admitting to facts constituting a violation of the FCPA, agreed to pay a criminal penalty of $22.8 million and enter into a separate three-year DPA in connection with improper payments to health officials in Central and South America. According to Principal Deputy Assistant Attorney General David Bitkower, "OLA's illegal tactics in Central and South America mirrored Olympus's conduct in the United States. The FCPA resolution announced today demonstrates the department's commitment to ensuring the integrity of the health-care equipment market, regardless of whether the illegal bribes occur in the U.S. or abroad." According to the admitted facts set forth in the separate criminal complaint filed in the District of New Jersey on March 1, 2016 against OLA, OLA implemented a plan from 2006 through mid-2011 to increase medical equipment sales in Central and South America by providing payments to pre-selected health care practitioners at government-owned health care facilities, which payments included "cash, money transfers, personal grants, personal travel and free or heavily discounted equipment." The facts show that OLA paid or caused to be paid nearly $3 million to the health care practitioners to induce the purchase of OCA products and recognized more than $7.5 million in profits as a result. In addition to the $22.8 million criminal penalty, the three-year DPA that OLA entered into with the government requires OLA to retain the same independent monitor retained by OCA and implement basically the same compliance measures. The DOJ said that it reached its resolution with OLA "based on a number of factors, including that OLA did not voluntarily disclose the misconduct in a timely manner." The DOJ pointed out, however, that OLA nonetheless "did receive credit of a 20 percent reduction on its penalty for its cooperation, including its extensive internal investigation, translation of numerous foreign language documents and collecting, analyzing and organizing voluminous evidence."

U.S. Attorney for the District of New Jersey, Paul J. Fishman, summed up this complex and unique settlement by saying, "[f]or years, Olympus Corporation of the Americas and Olympus Latin America dropped the compliance ball and failed to have in place policies and practices that would have prevented the substantial kickbacks and bribes they paid …[i]t is appropriate that they be punished for that. At the same time, [each] deferred prosecution agreement takes into account the companies' cooperation and commitment to fully functional corporate compliance." Added HHS-OIG Special Agent in Charge Scott J. Lampert, "Olympus Corp. of the Americas' and its subsidiaries' greed-fueled kickback scheme threatened the impartiality of medical decision-making and the financial integrity of Medicare and Medicaid … Working with our law enforcement partners, we remain vigilant and committed to protecting beneficiaries and taxpayers from those seeking to unlawfully enrich themselves."

See here to read the DOJ's 3/1/16 press release entitled "Medical Equipment Company Will Pay $646 Million for Making Illegal Payments to Doctors and Hospitals in United States and Latin America."

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FCPA Focus on China, Princelings and the First SEC FCPA DPA with an Individual: Qualcomm and PTC

Why it matters: Over the last month, the government announced significant resolutions with U.S. companies Qualcomm Incorporated and PTC Inc., respectively, under the Foreign Corrupt Practices Act (FCPA) involving improper "gifts" (e.g., paid internships, jobs, travel, lavish meals and entertainment) bestowed on Chinese state government officials and their families in order to curry favor and as a quid pro quo for securing lucrative government contracts. The SEC's civil resolution with Qualcomm Incorporated centered on the improper hiring of relatives of Chinese government officials for paid internships and full-time jobs (part of the so-called "princelings" investigation), while the DOJ and the SEC concluded parallel criminal and civil investigations into PTC's (and its Chinese subsidiaries') largess with employees of state-run enterprises in China that resulted in resolutions with both agencies and the first DPA with an individual in an FCPA context. Coming so soon after the SEC's FCPA resolution with SciClone Pharmaceuticals (reported on in our February 2016 newsletter), which involved similar alleged improper gifts being bestowed on healthcare professionals at Chinese state-run hospitals in order to increase prescription drug sales, the government's continuing focus on China as a hotspot for potentially improper FCPA activity is coming through loud and clear.

Detailed discussion: Here, we recap the recent SEC resolution with California-based Qualcomm Incorporated (Qualcomm) and the twin DOJ and SEC resolutions with Massachusetts-based PTC Inc. (PTC) and its China-based subsidiaries that are indicative of the government's continued focus on China as a hotbed of alleged improper activity by U.S. companies:

Qualcomm: On March 1, 2016, the SEC announced that Qualcomm agreed to pay $7.5 million to settle charges that it violated the FCPA by hiring relatives of Chinese government officials who had decision-making power over "whether to select the company's mobile technology products amid increasing competition in the international telecommunications market." In addition, the SEC's investigation found that Qualcomm "also provided gifts, travel, and entertainment to try to influence officials at government-owned telecom companies in China."

The Qualcomm resolution arises out of the "princelings" FCPA investigations that the government has been conducting in recent years into the recruitment and hiring by U.S. companies—with a focus on those in the financial services sector—of relatives of government officials in China as well as other Asian and Middle-Eastern countries in order to curry favor and secure business. We reported about a similar $14.8 million FCPA resolution in our September 2015 newsletter between the SEC and an investment bank in connection with the bank providing "valuable internships" to family members of foreign government officials connected to a Middle Eastern sovereign wealth fund. In addition, the press and companies have reported the ongoing "princelings" investigation into the hiring practices of 2 international banks involving family members of Chinese government officials. Most recently, an international investment bank announced on March 9, 2016 that an internal investigation had revealed that the firm had hired the daughter of a Malaysian official close to that country's prime minister at the same time that the firm was attempting to secure business with Malaysia's 1MDB sovereign wealth fund.

Qualcomm neither admitted nor denied the findings in the SEC's order, which detailed instances where Qualcomm improperly provided full-time employment and paid internships to Chinese officials' family members, referred to internally as "must place" or "special" hires, in order to "obtain or retain business in China." Qualcomm provided a $75,000 research grant to a U.S. university so that one Chinese official's son could retain his position in the university's Ph.D program (he was later given an internship followed by full-time employment at Qualcomm). The SEC's findings also detailed the "frequent meals, gifts, and entertainment with no valid business purpose" to Chinese officials and their families in order to influence their decisions, "such as airplane tickets for their children, event tickets and sightseeing for their spouses, and luxury goods." Further, the SEC's order noted that a Qualcomm executive was found to have provided a $70,000 personal loan to one Chinese official's son for the purchase of a home; an executive's personal actions involving his own money, being deemed actions by the company.

The SEC's order found that Qualcomm violated the anti-bribery, internal controls, and books-and-records provisions of the FCPA because, "with insufficient internal controls to detect improper payments, Qualcomm misrepresented in its books and records that the things of value provided to foreign officials were legitimate business expenses." In addition to paying the $7.5 million civil penalty, Qualcomm agreed to self-report and certify to the SEC for a two-year period about its FCPA compliance efforts.

PTC: On February 16, 2016, the DOJ and the SEC each issued a press release in connection with their parallel FCPA investigations into the activities of PTC's two China-based subsidiaries, Parametric Technology (Shanghai) Software Company Ltd. and Parametric Technology (Hong Kong) Ltd. (collectively, the PTC China Subs), that together resulted in criminal and civil penalties and fines aggregating approximately $28 million, a non-prosecution agreement (NPA) between the DOJ and the PTC China Subs, and the first ever deferred-prosecution agreement (DPA) between the SEC and an individual in an FCPA context.

The factual findings under both investigations are not in dispute. As detailed in the resolution documents, from 2006 through 2011 the PTC China Subs admitted to working through local business partners to arrange and pay more than $1 million for employees of Chinese state-owned entities to travel to the U.S., purportedly for training at PTC's Massachusetts headquarters, but primarily for recreational travel to New York, Los Angeles, Las Vegas and Hawaii. Such recreational travel—which was found to have "no legitimate business purpose"—included leisure activities such as sightseeing, guided tours and golfing, and improper gifts such as "cell phones, iPods, and GPS systems as well as gift cards, wine, and clothing." The PTC China Subs further admitted that, during the same time period, they entered into approximately $11-$13 million in software sales contracts with such Chinese state-owned entities. PTC admitted that the improper gifts and payments were disguised as legitimate commissions and business expenses on the books and records of the PTC China Subs, which books and records were subsequently incorporated into the books and records of publicly-traded PTC.

Under the resolution between the PTC China Subs and the DOJ, the PTC China Subs agreed to pay a $14.54 million criminal penalty for the FCPA violations and enter into a three-year NPA under which they agreed to, among other things, enhance their FCPA compliance program and periodically report to the DOJ on its implementation. The DOJ noted in its press release that the PTC China Subs did not receive any voluntary disclosure credit or full cooperation credit in the resolution because, at the outset of the investigation, they failed to disclose relevant facts that they had learned in a prior internal investigation and continued to withhold them until the DOJ uncovered the information independently and raised it with the PTC China Subs. The DOJ recognized, however, that by the investigation's end, the PTC China Subs had fully cooperated and provided "all relevant facts known to them, including information about individuals involved in the FCPA misconduct."

In the settlement between parent company PTC and the SEC, PTC was found to have violated the civil internal controls, and books and records provisions of the FCPA and agreed to pay approximately $11.85 million in disgorgement as well as $1.76 million in prejudgment interest. In arriving at the settlement, the SEC said that it considered "PTC's self-reporting of its misconduct as well as the significant remedial acts the company has since undertaken." In addition, the SEC announced its first ever DPA with an individual in an FCPA case, emphasizing that it entered into the three-year DPA with a former employee at one of the PTC China Subs as a result of the "significant cooperation he has provided during the SEC's investigation."

See here to read the DOJ's 2/16/16 press release entitled "PTC Inc. Subsidiaries Agree to Pay More Than $14 Million to Resolve Foreign Bribery Charges."

See here to read the SEC's 2/16/16 press release entitled "SEC: Tech Company Bribed Chinese Officials."

See here to read the SEC's 3/1/16 press release entitled "SEC: Qualcomm Hired Relatives of Chinese Officials to Obtain Business."

For more on the topic of the government's increased FCPA focus on China, see the FCPA Blog's 3/18/16 article entitled "The FCPA Corporate Investigations List—China Edition."

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A Bad Day for Kleptocracy: U.S. and Multiple International Authorities Coordinate to Prosecute and Forfeit Global Assets of VimpelCom

Why it matters: On February 18, 2016, the DOJ and SEC announced that they had worked closely with authorities from Denmark and other countries to successfully charge Amsterdam-based telecommunications company VimpelCom Limited and its Uzbek subsidiary with criminal and civil charges under the Foreign Corrupt Practices Act in connection with a multi-million dollar global foreign bribery scheme. VimpelCom Limited agreed to pay over $795 million in criminal and civil penalties to U.S. and Dutch authorities to resolve the charges, making it one of "the largest global foreign bribery resolutions ever." In addition, the DOJ is seeking forfeiture of an additional $850 million in "corrupt proceeds" from foreign bank accounts in what it called "the largest case ever brought under the Kleptocracy Asset Recovery Initiative." Read on for a recap.

Detailed discussion: On February 18, 2016, the DOJ and the SEC issued separate press releases in which they announced the culmination of their coordinated investigation with Dutch and other foreign authorities into a bribery scheme involving VimpelCom Limited (VimpelCom), described as the "world's sixth-largest telecommunications company and an issuer of publicly traded securities in the United States," and its wholly-owned Uzbek subsidiary Unitel LLC (Unitel). As part of the resolutions with the U.S. and Dutch authorities, VimpelCom and Unitel agreed to pay an aggregate of over $795 million in criminal and civil penalties for admitted violations of the Foreign Corrupt Practices Act (FCPA). The DOJ said that it was also seeking forfeiture of over $850 million in "corrupt proceeds" from foreign bank accounts under its Kleptocracy Asset Recovery Initiative. Assistant Attorney General Leslie Caldwell said that "[t]hese cases combine a landmark FCPA resolution for corporate bribery with one of the largest forfeiture actions we have ever brought to recover bribe proceeds from a corrupt government official."

VimpelCom and Unitel admitted to the DOJ's findings in the criminal complaint and resolution documents, which can be briefly summarized as follows: Between 2006 and 2012, executives and employees of VimpelCom and Unitel paid over $114 million in bribes to a well-connected Uzbek government official (allegedly related to the Uzbek president) who had influence over the governmental agency that regulated the telecom industry in Uzbekistan "so that VimpelCom could enter the Uzbek market and Unitel could gain valuable telecom assets and continue operating in Uzbekistan." The bribes were structured and concealed through payments to a shell company known by VimpelCom and Unitel to be beneficially owned by the Uzbek official. VimpelCom further concealed the scheme by falsifying its books and records and classifying the payments as charitable contributions as well as "equity transactions, consulting and repudiation agreements and reseller transactions." VimpelCom executives "sought ways to give the company plausible deniability of illegality while knowingly proceeding with [the] corrupt business transactions." In addition, VimpelCom failed to implement adequate internal accounting controls "which allowed the bribe payments to occur without detection or remediation." When VimpelCom's board of directors sought an FCPA legal opinion assessing corruption risks, "certain VimpelCom management withheld crucial information from outside counsel performing the review that restricted the scope of FCPA opinions, rendering them worthless."

Under its resolution with the DOJ, VimpelCom pled guilty in the Southern District of New York to conspiracy to violate the anti-bribery provisions of the FCPA, and entered into a three-year deferred prosecution agreement (DPA) with the DOJ pursuant to which it agreed to pay a total criminal penalty exceeding $230 million (including $40 million in forfeiture) for violations of the anti-bribery, books and records and internal control provisions of the FCPA. VimpelCom additionally agreed in the DPA to "implement rigorous internal controls, retain a compliance monitor for a term of three years and cooperate fully with the department's ongoing investigation, including its investigation of individuals." According to the DOJ, VimpelCom and Unitel were given significant credit in the criminal resolution (equating to a "45 percent reduction off of the bottom of the U.S. Sentencing Guidelines") for their "prompt acknowledgement of wrongdoing after being informed of the department's investigation, for their willingness to promptly resolve their criminal liability on an expedited basis and for their extensive cooperation with the department's investigation." The DOJ pointed out, however, that VimpelCom and Unitel didn't receive significant mitigation credit, "either in the penalty or the form of resolution, because the companies did not voluntarily self-disclose their misconduct to the department after an internal investigation uncovered wrongdoing."

In related proceedings, VimpelCom also entered into FCPA resolutions with the SEC and the Public Prosecution Service of the Netherlands (OM) pursuant to which (1) VimpelCom agreed to disgorge $375 million (including prejudgment interest) to be divided between the SEC and the OM and (2) VimpelCom agreed to pay the OM a criminal penalty of approximately $230.2 million; however, according to the DOJ's press release, both the DOJ and the SEC agreed to credit the criminal penalty paid to the OM and the forfeiture amount paid to the SEC, respectively, as part of their agreements with VimpelCom and "thus, the combined total amount of U.S. and Dutch criminal and regulatory penalties paid by VimpelCom will be $795,326,398.40, making it one of the largest global foreign bribery resolutions ever."

In its press release, the DOJ also said that it was seeking the forfeiture of over $850 million in "corruption proceeds" from the global bribery scheme through civil complaints filed that day and in June 2015 relating to funds currently held in bank and investment accounts in Switzerland, Belgium, Luxembourg and Ireland which the DOJ claimed constituted bribe payments (or the laundered proceeds thereof) made by or at the request of VimpelCom to the Uzbek official. According to allegations in the forfeiture complaints, after payment the bribes were laundered by the Uzbek official's associates through the above-mentioned foreign accounts as well as accounts in Latvia, the U.K. and Hong Kong. The illicit funds became subject to U.S. jurisdiction when they were transmitted through banks in the U.S. (primarily New York) before they were deposited into the foreign accounts. The DOJ said that the forfeiture actions were the largest ever brought under its Kleptocracy Asset Recovery Initiative.

Both the DOJ and the SEC lauded the "significant cooperation" they received in the investigation not only from other U.S. agencies and the Dutch authorities at the OM but also from enforcement authorities around the world, including those in Switzerland, Sweden, Belgium, France, Ireland, Luxembourg, Norway, Spain, Latvia, and the U.K. As Assistant Attorney General Caldwell put it, "[t]he FCPA resolution in this case is … one of the most significant coordinated international and multi-agency resolutions in the history of the FCPA." Added Kara N. Brockmeyer, Chief of the SEC Enforcement Division's FCPA Unit, "[i]nternational cooperation among regulators is critical to holding companies responsible for all facets of a bribery scheme. This closely coordinated settlement is a product of the extraordinary efforts of the SEC, Department of Justice, and law enforcement partners around the globe to jointly pursue those who break the law to win business."

See here to read the DOJ's 2/18/16 press release entitled "VimpelCom Limited and Unitel LLC Enter into Global Foreign Bribery Resolution of More Than $795 Million; United States Seeks $850 Million Forfeiture in Corrupt Proceeds of Bribery Scheme."

See here to read the SEC's 2/18/16 press release entitled "VimpelCom to Pay $795 Million in Global Settlement for FCPA Violations."

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One Way or Another—Federal Jury Finds Ex-Brokers Civilly Liable in Insider Trading Case

Why it matters: On February 29, 2016, a federal jury in SEC v. Payton found two former Euro Pacific Capital Inc. brokers civilly liable for downstream tippee insider trading in connection with IBM Corporation's $1.2 billion acquisition of SPSS, Inc. in 2009. Criminal charges against the former brokers had been dropped by the DOJ after the Second Circuit's 2014 decision in U.S. v. Newman, but the SEC pressed on with parallel civil charges against the ex-brokers and, after a two-week trial, won the favorable verdict from the jury.

Detailed discussion: On February 29, 2016, a Southern District of New York jury in SEC v. Payton found former Euro Pacific Capital Inc. brokers Daryl M. Payton (Payton) and Benjamin Durant III (Durant) civilly liable under Section 10(b) of the Securities Exchange Act of 1934 ('34 Act) and Rule 10b-5 for trading on confidential information ahead of the $1.2 billion acquisition of SPSS, Inc. (SPSS) by IBM Corporation in 2009. The court will decide remedies at a later date.

Briefly, the SEC had alleged in its complaint that Payton and Durant were "downstream tippees" who illegally traded on a tip about the SPSS acquisition received from friend and fellow broker, who had in turn received the tip from his roommate and friend, who had in turn received the information about the acquisition (including company names and anticipated transaction price) on a confidential basis from an attorney friend involved in the deal. The SEC further alleged that Durant and Payton made more than $629,000 and $254,000, respectively, in illicit profits from the tip. The DOJ had originally pursued criminal insider trading charges against Payton and Durant and three others, but those charges were dropped in January 2015 in light of the Second Circuit's 2014 decision in U.S. v. Newman that adopted a narrow standard for establishing the "personal benefit" part of the breach of fiduciary duty element at the core of an insider trading cause of action, thus making it difficult for the government to prove a criminal case for downstream tippee liability (as we reported in our February 2015 newsletter, while the U.S. Supreme Court declined the DOJ's petition for writ of certiorari in Newman, it recently agreed to review the Ninth Circuit's decision in U.S. v. Salman that caused a split with the Second Circuit over its "personal benefit" interpretation).

In June 2014, in conjunction with the DOJ's criminal charges, the SEC had filed civil charges for disgorgement under the '34 Act against Payton and Durant in the Southern District of New York, and persevered with their civil case (and its attendant lower burden of proof) after the criminal charges were dropped. The trial commenced in mid-February 2016, and press accounts detailed the defendants' attempts to convince the jury that, although they admittedly traded on non-public information, it did not constitute illegal insider trading under the narrow personal benefit standard established in Newman. The jury was not convinced, and returned the verdict against Payton and Durant two weeks later.

After the verdict, SEC Director of Enforcement Andrew Ceresney issued a statement that "Payton and Durant were sophisticated stock brokers who used highly confidential information about an upcoming transaction to illegally make hundreds of thousands of dollars at the expense of ordinary investors who played by the rules. Today's jury verdict holding them liable for insider trading reaffirms our commitment to aggressively root out and prosecute insider trading schemes, including by taking defendants to trial, in order to protect the integrity of our markets."

See here to read the SEC's 3/2/16 litigation release entitled "SEC Obtains Jury Verdict in Its Favor Against Former Brokers On Insider Trading Charges."

See here to read the SEC's 2/29/16 press release entitled "Statement [by SEC Director of Enforcement Andrew Ceresney] on Jury's Verdict in Trial of Daryl Payton and Benjamin Durant."

For more on this topic, see the (1) 2/29/16 Reuters article by Nate Raymond entitled "N.Y. brokers lose SEC insider trading trial over IBM deal tip" and (2) 2/16/16 BloombergBusiness article by Patricia Hurtado entitled "Ex-Brokers Go on Trial in Test of Revised Insider Law."

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California Bankruptcy Judge Rules that Bitcoin Is Property, Not Convertible Currency, For Valuation Purposes Under Fraudulent Transfer Laws

Why it matters: On February 19, 2016, a Northern District of California bankruptcy judge ruled in In re Hashfast Technologies LLC that, for purposes of valuation under the fraudulent transfer provisions of the U.S. Bankruptcy Code, Bitcoin is not the equivalent of U.S. dollars. The ruling arose in the context of an attempt by a bankruptcy trustee to set aside the 2013 transfer from the estate of 3000 Bitcoin, then worth $360,000, that had since appreciated to a present day value of $1.2 million. The interesting conundrum came down to the valuation of the 3,000 Bitcoin in the event the transfer were to be successfully avoided, with the trustee arguing that Bitcoin is property that can be recovered by the estate at its present day appreciated value, while the defendant transferee argued that Bitcoin are the equivalent of U.S. dollars and thus the 3,000 Bitcoin that were transferred retained their lower U.S. dollar value.

Detailed discussion: On February 19, 2016, a Northern District of California bankruptcy judge ruled in In re Hashfast Technologies LLC that, for purposes of valuation under the fraudulent transfer provisions of the U.S. Bankruptcy Code (Code), Bitcoin is not the equivalent of U.S. dollars.

According to a practitioner following the matter, the case involved an adversarial proceeding brought by the bankruptcy trustee against a medical doctor who had been paid 3000 Bitcoin in 2013 by Hashfast Technologies LLC (Hashfast) to promote Hashfast's Bitcoin business. Evidence showed that, although the 3000 Bitcoin had an approximate value of $360,000 when "paid" to the defendant in 2013, they had since appreciated to a present day value of $1.2 million. Hashfast filed for bankruptcy in May 2014, and the trustee sued to avoid the Bitcoin transfer under the fraudulent transfer provisions of the Code. The dispute that led to the ruling was how the Bitcoin should be valued for purposes of recovery to the estate should the transfer be successfully avoided, i.e., was Bitcoin property (to be valued at its current value) or currency (to be valued as of the time it was transferred)?

Under Section 550(a) of the Code, if a transfer is successfully avoided, the trustee is entitled to recover "the property transferred, or, if the court so orders, the value of such property." The trustee thus argued that the Bitcoin were property and that the estate was entitled to recover either the 3,000 Bitcoin or their current appreciated value of $1.2 million. The defendant in turn argued that Bitcoin were not property for purposes of Section 550(a) but rather the equivalent of U.S. dollars that retained their lower "face" value.

The practitioner who attended the hearing reported that the judge "frequently likened the fluctuating value of bitcoin to the price for Golden State Warriors season tickets" before concluding that Bitcoin were "clearly property." In his order filed on February 22, 2016, the judge ruled that "[t]he court does not need to decide whether bitcoin are currency or commodities for purposes of the fraudulent transfer provisions of the bankruptcy code. Rather, it is sufficient to determine that, despite defendant's arguments to the contrary, bitcoin are not United States dollars. If and when the Liquidating Trustee prevails and avoids the subject transfer of bitcoin to defendant, the court will decide whether, under 11 
U.S.C. § 550(a), he may recover the bitcoin (property) transferred 
or their value, and if the latter, valued as of what date."

Although the judge's ruling is limited to this specific bankruptcy context, it is interesting to note that in September 2015 the CFTC ruled Bitcoin to be a commodity subject to regulation under the Commody Exchange Act and relevant CFTC regulations (we covered the CFTC ruling in our September 2015 newsletter under "CFTC Pronounces Bitcoin and Other "Virtual" Currencies to Be Commodities Subject to Its Regulation in Its First Action Against an Unregistered Bitcoin Trading Platform"). A harbinger of things to come?

See here to read the Order on Motion for Partial Summary Judgment filed on 2/22/16 in the case of In re Hashfast Technologies LLC.  

For more on this subject, see the 2/24/16 article on Jim Hamilton's World of Securities Regulation blog entitled "Court Rules Bitcoin is Property, Not Currency" by Anne Sherry, J.D.

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Spotlight on the False Claims Act—A New Regular Feature of Our Newsletter

Why it matters: Given the proliferation of False Claims Act (FCA) activity at the DOJ and in the courts, we've decided to make our "Spotlight on the False Claims Act" a regular feature. Each month, we will highlight a few of the FCA matters that specifically caught our eye. This month, we discuss a recent colorfully-written ruling by a Southern District of New York judge that dismissed a qui tam complaint against ratings organization Moody's Corporation for failure to state a claim under the FCA as well as a couple of significant FCA resolutions announced by the DOJ in the healthcare field.

Detailed discussion: Following is a recap of the False Claim Act (FCA) matters that caught our eye this month.

Courts:

U.S. ex rel. Kolchinsky v. Moody's Corporation et al.: On February 2, 2016, Southern District of New York Judge William H. Pauley III dismissed for failure to state a claim the amended complaint that had been filed by a former managing director (relator) against statistical ratings organizations Moody's Corporation and Moody's Investment Service, Inc. (collectively, Moody's) under the qui tam provisions of the FCA. First, a brief summary of the procedural background that got us to this point: The relator had originally filed his complaint against Moody's in 2012 under seal. The government investigated but declined to intervene in 2014, at which point the complaint was unsealed and Moody's served. After "protracted compromise negotiations," Moody's moved to dismiss the relator's amended complaint, which Judge Pauley granted on February 4, 2016 subject to granting the relator leave to replead one claim.

Judge Pauley began his analysis by referring to the relator's amended complaint as a "sprawling … Homeric 'Catalogue of Ships' for the 2008 financial crisis." Like that "tome," the judge continued, the relator's amended complaint "has grown by accretion, recounting each new episode that roiled the financial markets over the past decade." The Judge then went on to summarize "in a few broad strokes" the "hydra-like allegations" in the relator's amended complaint, including allegations that Moody's engineered false credit ratings (to be "either fraudulently optimistic or fraudulently pessimistic") of residential mortgage-backed securities, credit default swaps and collateralized debt obligations, among other securities, that concealed "massive losses" involving such financial products; and that these false credit ratings as well as Moody's deficient ratings practices and overall "lack of independence and conflicts of interest" led to, among other things, the underpayment of Federal Deposit Insurance Corporation insurance premiums, the overvaluation of the AIG bailout and the undercapitalization of financial institutions that triggered violations of the FCA.

Judge Pauley dismissed the relator's amended complaint in its entirety for failure to state a claim. The Judge noted that the "crux" of the relator's amended complaint was that private financial institutions—not the government—relied on Moody's false and misleading credit ratings and practices in making payments or taking actions. The Judge stated that to successfully plead an FCA cause of action, it must be shown that the defendant either submitted directly, or caused to be submitted, false claims to the government for payment, or that the government relied to its detriment on the defendant's false claims in making payment. Here, the Judge "sifted through" the amended complaint and found only one cause of action that "theoretically" fit the bill, regarding the relator's claim that the government paid for a subscription to the electronic delivery service that emailed Moody's knowingly false credit ratings (thus "paying" for a "false claim"). The Judge found, however, that this claim needed to be pleaded with more particularity as the relator did not provide any example of a government agency that actually paid for the Moody's electronic delivery service, and gave the relator leave to do so in a "substantially narrowed" second amended complaint.

DOJ healthcare resolutions:

March 8, 2016—DOJ announced that 21st Century Oncology Group agreed to pay $34.7 million to settle FCA charges related to use of medically unnecessary procedure and improper billing: The DOJ alleged that Florida-based 21st Century Oncology Group, described as the "nation's largest physician led integrated cancer care provider," and its subsidiary South Florida Radiation Oncology LLC (collectively, Oncology Group), "performed and billed for procedures that were not medically necessary." The allegations, which were neither admitted or denied by the Oncology Group, related to the Oncology Group's use on patients of a "medically unnecessary" procedure known as the Gamma function (which measures "the exit dose of radiation from a patient after receiving radiation treatment") and then "knowingly and improperly" billing Medicare for the procedure. Qui tam whistleblower to receive $7 million.

February 17, 2016—DOJ announced that 51 hospitals in 15 states agreed to pay $23 million to resolve FCA claims related to improper implantation of cardiac devices: The allegations, which were neither admitted or denied by the hospitals, were that the hospitals implanted the cardiac devices in Medicare patients from 2003 to 2010 in violation of Medicare coverage requirements. Qui tam whistleblowers to split $3.5 million award. The DOJ said that these settlements represented the final stage of a nationwide investigation into the practices of hundreds of hospitals that improperly billed Medicare for the cardiac devices and that, to date, its investigation had to yielded settlements with more than 500 hospitals totaling more than $280 million.

See here to read the 2/4/16 Memorandum and Order in U.S. ex rel. Kolchinsky v. Moody's Corporation et al.

See here to read the DOJ's 3/8/16 press release entitled "United States Settles False Claims Act Allegations Against 21st Century Oncology for $34.7 Million."

See here to read the DOJ's 2/17/16 press release entitled "Fifty-One Hospitals Pay United States More Than $23 Million to Resolve False Claims Act Allegations Related to Implantation of Cardiac Devices."

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Keeping an Eye Out—Updates and Briefly Noted:

Agency Roundup—other actions and matters of note from the DOJ, SEC, FinCEN and more:

  • March 9, 2016—DOJ announced that two Cayman Island financial institutions pleaded guilty to hide $130 million in Cayman bank accounts: The DOJ said that this represented its "first convictions of financial institutions outside Switzerland for conspiring with U.S. taxpayers to evade their lawful and legitimate taxes." The DOJ said that the two companies, Cayman National Securities Ltd. (CNS) and Cayman National Trust Co. Ltd. (CNT), pleaded guilty to a criminal Information charging them with conspiring with U.S. taxpayer-clients from 2001 to 2011 to hide from the IRS more than $130 million in offshore accounts in order to evade U.S. taxes on the income earned in those accounts. In connection with their guilty pleas, CNS and CNT agreed to pay an aggregate of $6 million, consisting of forfeiture, restitution of outstanding unpaid taxes and a fine.
  • March 3, 2016—SEC announced that health sciences company Nordion (Canada) Inc. agreed to pay $357,000 to settle charges that it violated the books and records and internal controls provisions of the FCPA: The SEC alleged that, from 2004 to 2011, one of Nordion's engineers paid bribes to Russian government officials to obtain approval to distribute TheraSphere, Nordion's liver cancer treatment, in Russia.
  • February 25, 2016—FinCEN announced that it assessed a $4 million civil penalty against Florida bank for "willful violation" of the Bank Secrecy Act's anti-money laundering laws: FinCEN announced the assessment of a $4 million civil money penalty against Gibraltar Private Bank and Trust Company for willfully violating federal anti-money laundering laws under the Bank Secrecy Act as part of disbarred attorney Scott Rothstein's Ponzi scheme. According to FinCEN's press release, since first warned of its deficiencies in 2010, Gibraltar's compliance failures persisted until its primary regulator, the Office of the Comptroller of the Currency (OCC), placed Gibraltar under a Consent Order in 2014. The OCC concurrently issued a $2.5 million civil money penalty against Gibralter.
  • February 19, 2016—FinCEN announced that it withdrew money laundering finding against Andorra bank: FinCen announced that it had withdrawn its Section 311 money laundering finding against Banca Privada d'Andorra (BPA) because the bank "no longer operates in a manner that poses a threat to the U.S. financial system." FinCEN said that, in connection with bribes allegedly paid by organized crime figures to bank executives in exchange for money laundering services, authorities in Andorra assumed control of BPA management and operations, arrested the chief executive officer on money laundering charges, and are in the final stages of implementing a resolution plan that is isolating the assets, liabilities, and clients of BPA that raise money laundering concerns. FinCEN said that it believes that these steps taken by the Andorran authorities sufficiently protect the U.S. financial system from the money laundering risks previously associated with BPA.
  • February 14, 2016—OFAC fined Barclays Bank $2.5 million for 159 Zimbabwe sanctions violations: OFAC said that the fines resolved potential civil liability in connection with the processing by Barclays of 159 transactions worth $3.4 million in violation of the Zimbabwe sanctions regulations. The transactions were processed through financial institutions in the U.S., including Barclays' New York branch, between 2008-2013.
  • March 2, 2016—CFPB fined online-payment company Dwolla, Inc. $100,000 for deficient cybersecurity: This is the first such penalty imposed by the Consumer Financial Protection Bureau. It fined the company $100,000 for "deceptive acts and practices" and "false representations" in connection with data security measures it instituted between 2010 and 2014 (no actual breach was alleged).
  • February 1, 2016—FDIC issued cybersecurity guidelines for financial institutions: The FDIC published the article, entitled "A Framework for Cybersecurity," in the Winter 2015 edition of its Supervisory Insights newsletter. The article details the continuing cybersecurity threat to financial institutions and provides a framework for a "robust cybersecurity program." A key theme of the article is that bank board members and management must be involved in implementing a cybersecurity program.
  • January 31, 2016—CFTC launched whistleblower website: The CFTC launched a new website to provide the public with information about whistleblower rights and protections and to allow the public to submit tips about potential violations of the Commodity Exchange Act.
  • February 26, 2016—Bill to expand whistleblower protections introduced: Rep. Elijah E. Cummings, D-Md., ranking member of the House Committee on Oversight and Government Reform, and Senator Tammy Baldwin, D-Wis., introduced the Whistleblower Augmented Reward and Non-Retaliation Act of 2016 (WARN Act), which would expand protections for those who blow the whistle on financial crimes.
  • February 16, 2016—President Obama's fiscal 2017 budget proposal included doubling the SEC's funding over the next five years: The announced proposal earmarked an 11% increase to the SEC's budget, which would reach $1.8 billion over the next five years. According to reports, the SEC is looking to increase its scrutiny of the approximately 11,500 registered investment advisers and this budget increase would allow it to add 100 employees to its adviser-exam staff.

Talks about town:

  • March 4, 2016—Assistant Attorney General Leslie Caldwell spoke at the ABA's 30th Annual National Institute on White Collar Crime about the DOJ's focus on collaboration with international authorities to combat financial crimes on a global level, citing to the recent Vimpelcom resolution, among others.
  • March 1, 2016—Attorney General Loretta Lynch spoke at the RSA Conference of Cybersecurity in San Francisco.
  • February 19-20, 2016—SEC officials, including Chairman Mary Jo White, spoke at the 45th annual SEC Speaks conference in Washington D.C. about the ongoing areas of focus for the SEC (e.g., cybersecurity) and what to expect in 2016 and beyond. In particular, Kara N. Brockmeyer, Chief of the SEC Enforcement Division's FCPA Unit, announced a renewed scrutiny of the pharmaceutical industry in 2016.
  • February 1, 2016—Chief of the DOJ's Criminal Division Fraud Section Andrew Weissmann and DOJ Compliance Expert Hui Chen conducted a Q&A with the Ethics and Compliance Initiative about the DOJ's expectations and enforcement efforts with respect to corporate FCPA compliance programs.

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