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New rules on corporate sentencing.

THE 1980S WERE A DECADE punctuated by insider trading, savings and loan fraud, environmental pollution, civil and criminal Racketeer Influenced, Corrupt Organizations Act (RICO) cases and international criminal prosecutions. During those years,judges imposed a wide range of punishments for the same crime. However, the punishment doled out by the courts was usually directed at individuals; the corporation at large was seldom brought to trial. A white-collar defendant who pleaded guflty to a given charge, paid the fines and confessed to a lapse in judgment might have gotten off with probation and community service. A less sympathetic judge might have sentenced the same defendant to jail.

The need for sentencing consistency in cases of corporate wrongdoing grew throughout the decade and prosecutors are now making good on their promise to attack crime in the executive suites. Novel notions of what constitutes criminal behavior are bringing hefty fines for corporate abuses once attacked solely through civil suits. Not only is the government using criminal laws to punish errant Wall Street inside traders, but also to police defense contractors and the environment and guarantee workplace safety. Indeed, the rise in white-collar prosecutions has resulted in many executives trading their boardroom pinstripes for prison stripes.

As more executives serve time in prison, corporate wrist slapping will soon become outdated as an effective means of dealing with white-collar crime. In fact, in November 1991, guidelines promulgated by the U.S. Sentencing Commission for sentencing business organizations took effect, requiring payment of restitution, disgorgement of ill-gotten gains and mandatory fines amounting to millions of dollars for a wide variety of corporate crimes.

The goal is to see that everyone convicted of the same crime gets the same treatment. The guidelines will dramatically increase the sanctions that are typically imposed on corporations convicted of crimes, even for a variety of criminal offenses such as commercial bribery, tax evasion and customs violations.

The guidelines, in effect, abolish the discretion U.S. federal courts have historically exercised in sentencing organizations and are a radical departure from the way corporations and businesses were treated in the past by federal law enforcement agencies. In addition, the guidelines may be one of the most significant recent developments affecting risk management functions in the corporation.

Due Diligence BECAUSE IT IS CRITICAL that compliance design reasonably ensures that all types of criminal conduct have been anticipated and prohibited, companies need to familiarize themselves with rapidly evolving developments in criminal legislation and regulation, law enforcement priorities and judicial interpretations. The dramatically increased risks of criminal investigation and prosecution in the United States, and the focus of the sentencing guidelines on preventive compliance, are incentives for companies to develop compliance prevention and detection programs. Indeed, any corporation that does not act promptly to implement such programs or to assess existing programs against the guideline standards could face not only harsh penalties from a criminal conviction but also shareholder derivative actions for not having undertaken precautionary measures.

Companies must undertake the following due diligence steps in establishing a guidelines compliance program: establish compliance standards and procedures that reasonably reduce the prospect of criminal conduct (for example, through formal written programs for large corporations); assign compliance oversight to high-level personnel (for example, persons with substantial control over the organization or those with a large role in policy making); and screen employees adequately to prevent delegating substantial discretion to workers who the company "should have known" might engage in illegal conduct.

They must also communicate compliance standards and procedures to all employees and other agents by mandatory training programs or through written materials that explain the requirements; establish monitoring and auditing systems to prevent and detect any criminal conduct; implement internal reporting systems such as hot lines; and protect informants. Companies must also follow up by enforcing the program through disciplinary mechanisms, including disciplining employees who fail to detect criminal violations; responding appropriately after an offense has been detected; and taking additional steps to prevent further offenses. Playing by the commission's rules by setting up an internal criminal detection system will not necessarily get a troubled organization off the hook but it may result in judicial leniency.

Using this carrot and stick approach, the guidelines will not only significantly increase criminal fines and toughen other sanctions, but also offer substantial penalty reductions if the company has established sufficient compliance, detection and reporting programs before the criminal violation occurs. The most critical component of a compliance program will be educating employees on how to comply with legal restrictions and on how to report possible violations to management.

Punitive fines against businesses will be based on the gravity of the offense and the culpability of the organization. The base punitive fine (the greater of the loss caused by the offense, the gain obtained, or an amount derived from a base fine table ranging up to over $70 million) may be decreased by as much as 95 percent or increased by a multiplier up to 400 percent, depending on the organization's culpability factor score. The culpability score and the fine multiplier significantly increase if the organization impeded or permitted obstruction of justice, or committed similar misconduct in the past. The score also escalates if the company's executive officers negligently failed to investigate the possibility of illegal conduct.

Conversely, the score and multiplier significantly decrease if the organization has taken steps before the offense occurred to prevent and detect criminal conduct and cooperate with the government. For example, a corporation faced with criminal liability for culpable conduct of a low-level employee can reduce its exposure from up to 200 percent to a low of 40 percent by having a compliance program in place that meets the guideline standards. Additionally, if the company detects and reports the criminal violation, it can reduce the amount of exposure to 5 percent of the base fine.

The ultimate test of a corporate compliance program will be the hindsight view by a federal court presiding over any criminal matter and by the federal prosecutor. Therefore, such programs should be developed and implemented with an eye toward how prosecutors in a criminal case will evaluate the company's efforts.

Thinking Like a Prosecutor

THE DEPARTMENT OF JUSTICE probably will not provide any official interpretations of the guideline compliance standards, nor require uniformity in positions taken by U.S. district attorneys' offices around the country. Nonetheless, informal contacts with senior staff within the department and some of the larger U.S. attorneys' offices have revealed probable trends in prosecutors' thinking.

For example, prosecutors will give weight to documentation of the policy, procedures, internal controls and training involved in compliance programs. They will want to know if the company has documented the substance of meaningful training programs and who attended them. Also, they will ask whether the company has instituted controls to ensure that all employees receive regular training. Prosecutors will look more favorably on compliance initiatives in which the CEO and other high-ranking. corporate officers, such as the general counsel, are personally involved. A policy directive and/or code of conduct will be considered more forceful if issued by the CEO, instead of the compliance director. In addition, the company's commitment will appear more genuine if the compliance staff reports directly to the CEO or general counsel.

Prosecutors will also scrutinize the company's efforts to detect possible criminal activity. They will be particularly interested in whether a company has established adequate systems to promptly follow up on such reports. Depending on the industry sector and employment positions involved, prosecutors will probably be less concerned about pre-employment screening of employee applicants than about the company's subsequent monitoring of employee conduct and its track record of disciplining employees who violate policy or fail to detect violations. Obviously, the company's size and line of business will greatly affect the analysis.

Many institutions have just started to respond to the implications of the guidelines. Typically, the first step is to convene a corporate-level task force to evaluate whether current policies and procedures adequately address all relevant federal crimes and include sufficient internal control and reporting features. The task force's effectiveness will often depend on whether it has a direct communication line to the board of directors or audit committee.

Substantive crimes that are typically overlooked in existing policies are newer criminal statutes (the Money Laundering Control Act, which prohibits financial transactions in proceeds of most federal crimes), or statutes that apply to business areas the company has only recently entered. For example, a company that recently entered foreign markets must have policies against violations of the Foreign Corrupt Practices Act, the Export Administration Act and various trade restrictions.

Initial evaluation of a company's compliance program must also include a hard look at the effectiveness of internal controls. Are internal audits focused on the right enquiries? Are they conducted on schedule? Are audit reports made and responded to promptly? The guidelines also require that serious consideration be given to developing employee reporting (hot line) systems where employees can report suspicious activity to a central compliance staff outside their organizational structure.

Weaknesses in internal controls are common and often result from decentralization of compliance functions, a compliance director without dour and a corporate culture that views compliance as mostly a drain on the financial bottom line. The sentencing guidelines should now make dear that there are substantial financial incentives for establishing effective compliance programs.
COPYRIGHT 1992 Risk Management Society Publishing, Inc.
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1992 Gale, Cengage Learning. All rights reserved.

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Author:Adams, Whitney
Publication:Risk Management
Date:May 1, 1992
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