Justice Department Uses Wire Fraud to Pursue Product Safety Case

The Department of Justice is in hot pursuit of product safety cases, and if the record penalty it hit Toyota with last month is any indication, companies such as General Motors that have large safety issues with a product could be in for an unwelcome surprise.

The agency is taking a novel approach to its pursuit of product safety cases, including filing wire fraud charges and applying such laws very broadly and using other aggressive enforcement tactics.

In a first-of-its-kind criminal case in the automobile industry, for example, the Justice Department brought wire fraud charges against Toyota for repeatedly and intentionally misleading the public, regulators, and members of Congress about widespread incidents of unintended vehicle acceleration between 2009 and 2010 in order to protect its image.

Last month the agency hit Toyota with a record $1.2 billion criminal penalty—the largest of its kind in the auto industry—for intentionally concealing and misleading the public about safety defects in its automobiles. “Toyota confronted a public safety emergency as if it was a public relations problem,” said Attorney General Eric Holder. “Other companies should not repeat Toyota's mistake.”

For a wire fraud offense to stick, the government has to prove that an individual or company willfully and knowingly devised, or participated in, a scheme to defraud another person out of money or property. The scheme further had to have occurred through the use of any kind of electronic communication or transmission, a pretty easy requirement to meet in today's hyper-connected world.

“It's a very broad statute, and one that can be applied in all sorts of contexts,” says Daniel Suleiman, special counsel with law firm Covington, and a former senior official in the Justice Department's Criminal Division.

What makes the Toyota settlement stand out apart from its record penalty, says Suleiman, is that “it signals that the government will use every means at its disposal to go after what it perceives to be harmful conduct by corporations.”

The Justice Department is also weighing how companies respond to the potential violations and the measures they take to address the alleged problems. Attempts to cover up the problems won't sit well with the agency. “Does that mean the next product defect case to come along is going to be treated criminally? I don't necessarily think so,” says Brady Dugan, a partner with law firm Squire Sanders.  It all depends on what actions the company took when it found out about the conduct, he says.

Toyota's Lack of Transparency

According to the charges, Toyota knew as far back as 2007 about the susceptibility of accelerators in its cars to get stuck under floor mats. Despite this knowledge, it resisted all vehicle recalls, and instead chose to limit its recalls to just all-weather floor mats.

At one point, Toyota boasted that it saved $100 million in unnecessary costs by not recalling its vehicles. Two years later, a family of four in a Lexus Sedan was killed when the accelerator became stuck, causing the car to accelerate in excess of 100 miles an hour.

“In many ways this was a tale of two companies,” said Preet Bharara, U.S. Attorney for the Southern District of New York. “To the unsuspecting public, Toyota said one thing, but internally, and in secret, Toyota said something different altogether.”

“That's why we have undertaken this landmark enforcement action, because companies that make inherently dangerous products must be maximally transparent, not two-faced,” said Bharara. “The entire auto industry should take notice.”

By charging Toyota with wire fraud, the Justice Department was able to obtain a significantly larger penalty than the National Highway Traffic Safety Administration could have obtained under the TREAD Act, which caps civil penalties at $35 million. Under the TREAD Act, automakers must file an early warning report on each incident involving one or more fatalities or injuries linked to a possible defect.

“Toyota confronted a public safety emergency as if it was a public relations problem. Other companies should not repeat Toyota's mistake.”

—Eric Holder,

Attorney General,

Justice Department

Clarence Ditlow, executive director for the Center for Auto Safety, says the Toyota settlement is “a complete game changer.” In the past, when an auto maker concealed a safety defect, it faced “insignificant fines and no criminal penalties,” he says.

The $1.2 billion fine imposed on Toyota “makes the $35 million maximum fine that NHTSA can impose seem like chump change,” Ditlow adds.

As part of the settlement, Toyota also entered into a three-year deferred prosecution agreement with the Justice Department. “While criminal charges are being delayed for now, Toyota will be on probation for three years and answerable to an independent monitor,” Bharara explained.

General Motors

Toyota's woes and subsequent settlement could have big ramifications on how the current allegations against General Motors play out.  GM faces several investigations following a massive recall over defective ignition switches that can suddenly cause the steering, brakes, and airbag systems to lose power, and has been linked to 13 deaths.

Stopping short of citing GM specifically, Holder said he expects the Toyota resolution to “serve as a model for how to approach future cases involving similarly situated companies.”

Through March GM has recalled more than 2.1 million vehicles related to the ignition switch problem, and more are expected. “With these safety recalls and lifetime warranties, we are going after every car that might have this problem, and we are going to make it right,” said Jeff Boyer, vice president of Global Vehicle Safety at GM, which is a new position the automaker created last month. “We have recalled some of these vehicles before for the same issue and offered extended warranties on others, but we did not do enough.”

According to a Congressional report, GM engineers knew about potential problems with the ignition switches since February 2005, but decided against fixing the problem because it would take too long and cost too much money.

Beyond the Auto Industry

The outcome of Toyota's settlement could likely reverberate far beyond the auto industry. “Based on the Toyota resolution, I don't see anything in it that would preclude the Department from using a similar theory in other industries,” says Suleiman. “Wire fraud is not an industry-specific statute.”

WIRE FRAUD CHARGES

Below is an excerpt from United States v. Toyoto Motor Corp.

Toyota is responsible for unlawful activities committed by certain Toyota employees that resulted in misrepresentations and the hiding of information from the public. As evidenced in part by internal company documents, individual employees not only made misleading public statements to Toyota's consumers but also concealed from Toyota's regulator one safety-related issue (a problem with accelerators getting stuck at partially depressed levels referred to as “sticky pedal”) and minimized the scope of another (accelerators becoming entrapped at fully or near-fully depressed levels by improperly secured or incompatible floor mats referred to as “floor mat entrapment”).

Contrary to public statements that Toyota made in late 2009 saying it had “addressed all the “root cause” of unintended acceleration through a limited safety recall addressing floor mat entrapment, Toyota had actually conducted internal tests revealing that certain of its unrecalled vehicles bore design features rendering them just as susceptible to floor mat entrapment as some of the recalled vehicles. And only weeks before these statements were made, individuals within Toyota had taken steps to hide from its regulator another type of unintended acceleration in its vehicles, separate and apart from floor mat entrapment: the sticky pedal problem.

When, in early 2010, Toyota final conducted safety recalls to address the unintended acceleration issues it had concealed Toyota provided to the American public, its U.S. regulator and the United States Congress an inaccurate timeline of events that made it appear as if Toyota had acted to remedy the sticky pedal problem within approximately 90 days of discovering it.

Source: Department of Justice.

Justice Department officials have indicated as much. “We will never tolerate activities like the conduct at issue in this case,” said Holder. “My colleagues and I will continue to meticulously and deliberately investigate any such matter that is brought to our attention within this industry or beyond, using every tool, every resource, and every authority at our disposal to ensure that justice is ultimately done.”

In theory, the government can impose wire fraud charges against any industry “where there are public safety issues and concerns, if you knowingly misrepresent something to the public,” says James Langenfeld, managing director and head of antitrust and competition practice at Navigant Economics.

Another lesson to come from the Toyota case is the importance of disclosing the finding of any defect or safety violation in a timely manner. Companies that discover a problem face a very significant challenge, says Suleiman, because the company not only has to wrap its arms around the facts and understand what happened, but also has to do so in a timely fashion. 

Transparency also plays an important role. Once the company discovers a problem, the key is to get the facts as quickly as possible and, where appropriate, to fully cooperate with the relevant regulatory agency, says Dugan. “If you do those two things,” he says, “you put yourself in a much better position with the government.”

“When the government looks at a case, they're looking at what went wrong, why did it go wrong, and who knew about it,” says Maureen Ruane, a partner with law firm Lowenstein Sandler. An equally important factor is what the company did once it discovered the wrongdoing. Companies that seize the opportunity when they discover a wrong by taking corrective action and doing what's right, she says, end up doing much better in terms of how their cases are handled and resolved than if they didn't do anything at all.