Any company that’s ever been ensnared by the Foreign Corrupt Practices Act knows that the inevitable financial aftermath of an enforcement action extends far beyond any resulting fines or penalties.
Legal, accounting, and consultancy fees; the hiring of a compliance monitor; and securities class-action resolutions are just a few additional and significant expenses that can affect the targeted company’s bottom line. Beyond those tangible costs, however, are the equally important intangible factors that are not so easy to calculate—namely, reputational damage, traditionally measured by stock price fluctuations.
To better understand how the market reacts to FCPA activity, Compliance Week examined the extent to which a company’s stock price may take a hit following the announcement of an FCPA investigation or enforcement action. To narrow our search, we focused on the top 30 highest FCPA settlements of all time.
To be clear, our data sample looked only at the stock price movement of the individual companies, not at each company’s stock price movement against the industry as a whole, or at other factors that contribute to a company’s stock price movement. Even without this complete picture, however, the message is loud and clear: shareholders generally don’t care as much about the announcement of an FCPA enforcement action as they do the disclosure of an FCPA investigation.
“The market generally reacts to unexpected news,” says Drew Mooney, managing director in the forensic litigation and consulting segment of FTI Consulting. For this reason, the initial disclosure of an FCPA investigation often has a stronger bearing on stock price movement than the announcement of an FCPA settlement, he says.
Many companies at the start of an investigation will disclose in a Form 8-K that they have been contacted by the SEC and Department of Justice for possible violations of the FCPA and are cooperating with these agencies. In addition, they will typically include a statement that says something along the lines of, “we are unable to predict the duration, scope, or outcome of the investigation at this time.”
That uncertainty—the inability to predict the duration, scope or outcome of the investigation—is going to generate a more significant stock price reaction because of the unknown, says Mooney, because it tells the market that the company doesn’t know how big of a problem it has.
“There is no definitive rule out there that says the company must disclose whether they are conducting an FCPA investigation,” says Susan Markel, managing director in the financial advisory services group at consulting firm AlixPartners and former chief accountant in the SEC’s Division of Enforcement. Certainly, if a company thinks the information is material, they’ll want to alert investors, she says.
If they do plan to disclose material information, “the way in which a company responds can be critical,” Markel says, “because the question that’s going to come back to them is, ‘what is your basis for saying that?’ If they can’t clearly answer that question, they will often respond that it’s unclear whether the issues being investigated will have a material effect,” she says.”
According to our analysis of the companies that initially disclosed an FCPA investigation in their securities filings (and not all of them did), some clearly saw a significant decrease in stock price movement from the day before to the day of the disclosure.
One example is global engineering and contractor company Willbros. The day after the company first disclosed on May 17, 2005, that it was being investigated by the Justice Department, its stock plummeted 31 percent from $15.92 the day before the disclosure to $11.00 at closing the following day, according to an FCPA analysis conducted by economic consulting firm NERA. By May 25, 2010, stocks had fallen 32 percent to $10.77.
Willbros ultimately reached a $32.3 million settlement with the SEC and Justice Department in May 2008 for paying more than $6 million in undisclosed bribes to government officials in Bolivia, Ecuador, and Nigeria in exchange for significant contracts.
Avon is another example of a company whose stock took a hit following the disclosure of an FCPA investigation. The day after the cosmetics company first disclosed its FCPA investigation on Oct. 20, 2008, the stock fell 3 percent and continued to plummet by 26.8 percent by week’s end.
“Any time a company would announce an FCPA investigation or FCPA settlement, the market shrugged their shoulders.”
Patrick Conroy, chair, securities and finance practice, NERA
Then, two years later in the midst of its investigation on April 12, 2010, the company announced that it was not only suspending four executives due to FCPA violations, but that it was also expanding the scope of its investigation. Stock price declined 8 percent from a $34.76 close the day of the announcement to $31.99 the day after.
In May 2014, Avon first disclosed in a quarterly filing that it had reached a $135 million settlement with the Justice Department and SEC for concealing more than $8 million in gifts, cash and non-business meals, travel, and entertainment it gave to Chinese government officials in order to obtain and retain business benefits for Avon China. In total, Avon paid $67.6 million in criminal penalties and $67.4 million in disgorgement and prejudgment interest to the SEC, making it the 14th largest FCPA settlement to date.
As demonstrated in Avon’s case, the resignation or firing of a senior-level officer is another factor that can have a significant direct impact on a company’s stock price. Typically, the market reacts more deeply to a CEO resignation that comes in conjunction with an announcement of an FCPA violation or accounting violation, for example, than news of a resignation in isolation, says Mooney.
In another example of a CEO departure having a significant impact on stock price, German electrical and engineering giant Siemens saw its stock price plummet 5.36 percent from a closing price of $124.42 on April 24, 2007, to $117.75 the following day, when CEO Klaus Kleinfeld resigned over its then-mounting corruption scandal.
In November 2006, Siemens agreed to pay a combined $1.6 billion in fines—the largest and most high-profile FCPA settlement to date—with the SEC and Justice Department for engaging in a systematic practice of paying bribes to foreign government officials in numerous countries to obtain business. This amount does not include the more than $1 billion Siemens paid for internal investigations and compliance reforms.
Our analysis further revealed that shareholders tend to respond less severely to announcements of FCPA resolutions. “By the time companies settle, things are usually so far out that the market has already factored in what had been going on,” says Markel.
According to our analysis of companies whose stock price declined, the average change in stock price from the day before to the closing day of the announcement of an FCPA settlement was a decrease of 1 percent.
Upon resolution of an FCPA case, even if it’s a large settlement, “you might not see a big stock price reaction, because the market is going to treat that as a one-time event from a financial perspective,” says Mooney. Overall, market price is a valuation of the future financial performance of the company, he says.
MARKET PRICE MOVEMENT
Below is a table showing market price movement of each company from one day before a Foreign Corrupt Practices Act settlement to the day of the settlement announcement.
Source: Yahoo Finance
A separate analysis conducted by NERA of market reaction to a sampling of FCPA announcements made in 2002 through 2008 came to a similar conclusion. “Any time a company would announce an FCPA investigation or FCPA settlement, the market shrugged their shoulders,” says Patrick Conroy, chair of NERA’s securities and finance practice.
“You just don’t see a long-term impact for most companies,” Conroy adds. The question then becomes, “Why is it that the market doesn’t seem to penalize companies a lot when they’re involved in FCPA activity?”
In fact, many companies in our analysis saw an increase in stock price movement from the day before to the day of the disclosure. Markel says that’s not uncommon. The reason for that, in part, is because shareholders may have been expecting the worse and are relieved to hear that the end result was not as bad as they originally thought it would be, or they’re relieved overall that the matter has been resolved, she says.
One example is global alumina sales company Alcoa, whose share price rose nearly 5 percent in the month after it reached a $384 million settlement with the SEC and Justice Department for paying bribes through an international middleman in London to officials of the Kingdom of Bahrain in violation of the FCPA.
“Simply put, this case is not like other FCPA cases,” Alcoa said in a statement. The company added that its resolution was “not quantitatively material,” in part because Alcoa’s monetary penalty is being paid in five installments over four years—$74.8 million in 2014 and $62.9 million in each of 2015 through 2018. Furthermore, neither the Justice Department nor the SEC found that any officer, director or employee of Alcoa knowingly engaged in the bribe scheme, Alcoa said.
Another reason why the announcement of an FCPA settlement sometimes results in an increase in stock price from the perspective of the market is that companies are still going to go about their business, says Conroy. The sentiment is that these companies are “still going to keep selling or they’re still going to keep operating in the places they were operating,” he says.
Companies that are able to secure large contracts with the government particularly come out unscathed from an FCPA enforcement. Siemens is one telling example of that. One year after resolving the largest FCPA settlement in history, the company announced that it was expecting around €15 billion in new orders from stimulus programs from the U.S. government.
“In a country-by-country comparison, the shares of the stimulus program that Siemens can address are the largest in the United States,” totaling more than €85 billion, Siemens said. “They should also have a stabilizing effect on our business,” Siemens CEO Peter Löscher said in a statement.
Generalizations aside, examples certainly abound of companies that have suffered serious financial harm resulting from an FCPA settlement. For example, Panalpina saw its stock plunge 7.7 percent on July 30, 2008 after it announced it was exiting from Nigeria, where much of its bribery activity took place, resulting in the $81.8 million settlement it reached with the SEC and Justice Department in 2010.
Any time a company pulls out of an entire country as a result of FCPA violations, “that’s when it moves from being just an enforcement issue and a compliance issue to an earnings impact issue,” says Mooney. That’s going to scare the market, which is going to view that exit as an earnings stream that’s not going to be there anymore, he says.
Alongside the cost of an FCPA settlement, which can be sizeable on its own, comes the additional cost of the post-settlement compliance obligations. Hiring a compliance monitor is costlier for a company than implementing compliance controls on its own—but because companies typically don’t report these costs, the market doesn’t have much to react to from a market standpoint, Mooney says.
Examples of companies in our analysis that entered into a deferred prosecution agreement with the government and did have to appoint a compliance monitor include Alcatel-Lucent, Alstom, Daimler, Total, Weatherford, and VimpelCom, just to name a few. KBR, while it did not enter into a DPA, still had to retain an independent compliance monitor for a three-year period to review the design and implementation of its compliance program.
As Compliance Week previously reported, a material decline in stock price often results, too, in securities fraud class actions and derivative actions brought against the company’s directors or officers for alleged breaches of fiduciary duty. Although these cases generally settle, “they can be very sizable settlements,” says Mooney.
In September 2015, for example, Avon reached a $62 million settlement in a class action brought by shareholders who claimed that Avon falsely inflated its stock price by intentionally misleading investors about the company’s compliance with the FCPA.
Other FCPA-related securities class-action lawsuits are still ongoing. Global telecommunication services provider VimpelCom and certain of its current and former officers, for example, currently face two securities class-action lawsuits, both alleging violations of federal securities laws relating to its operations in Uzbekistan.
The lawsuits follow a combined $795 million settlement that VimpelCom and its wholly owned Uzbek subsidiary, Unitel, reached with U.S. and Dutch prosecutors in February 2016 for paying bribes to a government official in Uzbekistan. The resolution marked the sixth largest FCPA settlement of all time.
Generally speaking, companies charged with both financial fraud and bribery tend to face heftier financial consequences than companies that are charged only with bribery. The perception is that, if the market learns that it can’t trust historical statements because of some fraud or inaccuracy, it understandably doesn’t have as much confidence in future statements going forward.
That’s not to say the market condones bribery, “but it’s easier to dismiss because it’s not impacting the actual earnings of the business,” says Mooney. Bribery is more a compliance issue than a business issue, he says, is how the market views it.
Because most of these cases are resolved through a non-prosecution agreement or deferred prosecution agreement, “FCPA matters become just another business decision,” says Peter Reilly, associate professor of law at Texas A&M University School of Law. “What are the costs and benefits, and what does it mean for the financial bottom line of the business?”
Considering how the government currently enforces the FCPA, mainly through NPAs and DPAs, “making the matter go away for a company amounts to paying a speeding ticket,” says Reilly. “Then the company is free to go along its way.”