This post is authored by Foley & Lardner attorneys David Simon, Rohan Virginkar, James Peterson, Kristen Maryn and Stephanie Cash.
Experienced practitioners and dealmakers understand there may be Foreign Corrupt Practices Act risks in an acquisition and have adopted procedures designed to identify and address these issues as part of the M&A diligence process. Most acquirers ask the right questions, conduct risk-based probes of the target’s compliance program and operations, take steps to allocate the risk of compliance issues in the transaction documents and, in some circumstances, structure the transaction as an asset purchase rather than as a stock purchase or merger.
Where FCPA issues are discovered in the due diligence process, there is an increasingly well-established playbook for addressing and mitigating the exposure created by these issues, including mitigating the resulting risks by taking advantage of the Department of Justice’s (DOJ’s) Corporate Enforcement Program (CEP), requiring voluntary self-disclosure by the target, and thus avoiding a carry-over enforcement action against the acquirer.
Mitigating FCPA risks can be trickier where the opportunity to conduct due diligence is limited or where bribery risk is identified, but no specific violation uncovered. Acquirers can still invoke the principles of the DOJ CEP to minimize risk, but that requires identification of violations in relatively short order following closing. That is not always achievable. Under such circumstances, an acquirer should also consider another FCPA-risk mitigation strategy: structuring the deal as an asset purchase rather than a stock purchase or merger. An asset purchase, when combined with the other M&A-related risk-mitigation strategies described below, is a preferred approach to mitigate FCPA and anti-corruption risk associated with the pre-closing activities of the target. Unfortunately, an acquirer should not assume that such a structure will provide a bullet-proof shield.
Deal Structure and Successor Liability – General Corporate Law Principles
The asset purchase risk-mitigation strategy is founded on well-established corporate law principles. Under state and common law, the general rule is that an acquirer that purchases a business via the acquisition of assets can determine which, if any, of the target’s liabilities it assumes as part of the transaction. Thus, FCPA liabilities, like most other liabilities, can be left behind with the target. There are, of course, exceptions to the general rule, which exist by common law, statute, and general equitable principles.
Whether an asset purchaser will be deemed responsible generally for the liabilities of the target will depend on the facts and circumstances of a given transaction and applicable state law and federal law. Although the particulars may change based on the specific jurisdiction, the following factors are among those commonly considered by courts examining successor liability absent a specific contractual assumption of a liability:
- Whether there was an implied assumption of the target’s liabilities such as by public disclosures as to the transaction or by performance of contracts which were not specifically assumed in the transaction;
- Whether there was a “de facto” merger of target and acquirer as a result of the asset purchase, which requires “continuity of ownership”, continuity of management, personnel and business operations of target, dissolution of target soon after closing and acquirer’s assumption of ordinary course liabilities as part of the purchase transaction;
- Whether the acquirer is a mere continuation of the target (followed in only a few states); and
- Whether the transaction was entered into fraudulently to escape the obligations of creditors of the target.
These factors may also be considered by the DOJ and the Securities and Exchange Commission (“SEC”) in determining whether to separately investigate or charge an acquirer in connection with FCPA violations of the target. Acquirers that are able to structure a transaction to avoid triggering the questions above in the affirmative will be better situated to challenge a future claim that they should be responsible as successors of the seller’s obligations, including FCPA-related liabilities of the target.
The Enforcement Authorities’ Approach to Successor Liability Under the FCPA
State corporate law notwithstanding, it is not clear that the DOJ and SEC will respect these corporate law successor liability principles in determining the extent of an acquirer’s liability for a target’s potential FCPA violations.
Neither DOJ nor SEC have ever issued explicit public guidance on how the structure of an acquisition impacts their enforcement of the FCPA. The Second Edition of the DOJ and SEC’s A Resource Guide to the U.S. Foreign Corrupt Practices Act (the “FCPA Guide”), sets forth the agencies’ view that successor liability for FCPA purposes is based on the premise that “when a company merges with or acquires another company, the successor company assumes the predecessor company’s liabilities [where that company was subject to the FCPA’s jurisdiction].”
Nothing in the FCPA itself prevents an acquirer from trying to limit its successor liability for FCPA violations by structuring the deal as an asset sale and by explicitly excluding FCPA liability in the agreements. However, the limited guidance promulgated by the enforcement agencies—and their aggressive pursuit of FCPA violations—suggests that they may not automatically follow state corporate law principles and that acquirers would be wise not to assume that acquisition structure alone will completely defeat the charges DOJ or SEC could seek in pursuing in an FCPA enforcement action. Nowhere in the FCPA Guide do the agencies note the practical and legal differences between stock purchases and mergers on the one hand, and asset purchases on the other. Indeed, the FCPA Guide contains no meaningful discussion of asset purchases at all. Instead of focusing on the law, the agencies’ focus in the FCPA Guide is on the conduct of the parties and notes that enforcement action against successors will generally follow where (1) the violations are egregious or sustained, (2) the successor directly participated in the violations, or (3) the successor failed to stop the misconduct from continuing. But the relatively simplistic ways in which the FCPA Guide discusses transactions – the hypotheticals, which use generic descriptions such as “Company A [] considering acquiring Foreign Company” – fails to account for the differences in the types of M&A transactions generally, let alone the intricacies of complex cross-border transactions.
Rather than focus on the form of transaction as a means of mitigating liability, DOJ and SEC have instead consistently emphasized the benefits of robust due diligence, through which companies can identify and address any FCPA issues prior to closing. Remarks by senior DOJ officials have emphasized that DOJ does not want “the specter of enforcement to be a risk factor that impedes such activity by good actors,” meaning that it does not intend for its enforcement program to discourage cross-border transactions. Ignoring the real-world business issues that often drive the form of a transaction, DOJ officials have instead focused on encouraging self-reports to enforcement authorities and cooperation with any subsequent government investigation of other actors.
As law enforcement and regulatory agencies, DOJ and SEC necessarily focus on the facts surrounding the misconduct under investigation. Corporate structure and provisions in purchase agreements will inform their analysis, but are rarely dispositive in and of themselves. And in observing the trends and patterns of FCPA enforcement actions in recent years, it would appear that DOJ and SEC have become more analytical in their approach – paying increased attention to factors such as indicia of control and corporate structure, rather than simply pursuing charges because “something bad happened.”
Indeed, DOJ officials have recently acknowledged “that through acquisitions, otherwise law-abiding companies can sometimes inherit problems that are not of their own making.” This acknowledgement suggests that DOJ, at least, considers successor liability less of a bright line than it may have in the past.
However, guidance from the agencies and their officials is of course not legally binding and companies should be wary of the practical limits of such guidance. Despite the indications that successor companies may avoid liability for the acts of predecessor entities, and the trend in recent enforcement actions to pursue the predecessor entity rather than the successor, it would be foolish to assume that this means that neither DOJ nor SEC will be interested in investigating potential historical violations. Where the predecessor entity no longer exists, DOJ will still attempt to resolve matters consistent with its programmatic and policy objectives: accountability, deterrence, and avoidance of ill-gotten gains. Thus, without a predecessor entity, the government may look to the successor, regardless of how the transaction was structured. This is particularly true if either agency has the impression that a transaction was structured in a way to specifically avoid FCPA liability. Note the similarity between this approach and the general equitable principle applied in corporate law to consider “whether the transaction was entered into fraudulently to escape the obligations of creditors of the target.” Though successor liability law may limit exposure in many instances, the facts of any particular case will always control and DOJ or SEC will try to find a way to hold bad actors responsible via enforcement actions. Of course, acquiring companies can always litigate with DOJ and SEC, presenting the successor liability issues to a court for resolution. But, for a variety of reasons, this is rarely the course chosen by companies who find themselves in the crosshairs of FCPA enforcement authorities.
The Bottom Line
Where diligence identifies heightened concerns as to potential bribery or corruption issues of the target, an asset purchase affords an acquirer better protection from successor liability than a stock purchase or merger. But it should not be considered a complete defense. At worst, such approach leaves the buyer in the same position as to these liabilities as if it had acquired the equity of the target entity. The real trick with any acquisition and how an M&A practitioner delivers value, is to create a workable solution that mitigates risk without killing the deal or impacting the post-closing value of the target.
Excerpted from an article originally published in Vo. 19 of the Global Banking & Finance Review
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