Say a company finds out that it is under investigation for possible criminal violations. Its challenge is to figure out the chances that the investigation will result in charges and the possible impact of those charges on its business. Not all investigations are alike, and there are telltale signs about how serious a threat one may present.
Federal prosecutors have broad authority to initiate grand jury investigations, which often start with issuing subpoenas for documents. There is no requirement for prior judicial approval of a subpoena, unlike a search warrant, which can only be issued if there is probable cause a crime took place. As the Supreme Court pointed out in Branzburg v. Hayes, a case involving a demand for a reporter’s notes, “an investigation may be triggered by tips, rumors, evidence proffered by the prosecutor, or the personal knowledge of the grand jurors.â€
The grand jury is shrouded in secrecy, its operations protected by a strict rule against disclosures by the government. Thus, information can be scarce about the status of a case. And figuring out whether the Justice Department will seek charges or quietly let the matter drop can devolve into a guessing game.
The secrecy rule does not apply to those who receive subpoenas, however, and they are free to reveal that they have been contacted by the grand jury or investigators looking into possible violations. Companies frequently disclose the receipt of a subpoena because it is better to let shareholders know that there is a potential for a criminal prosecution rather than letting it be a surprise.
But even the issuing of grand jury subpoenas does not necessarily mean charges are expected, even if they can be a good indication that prosecutors consider the underlying conduct to be worthy of further scrutiny. The absence of a demand for records, though, does not always mean there is no investigation. In fact, the absence of such a demand may indicate that an investigation has been opened as a type of placeholder in case information comes to light later about possible violations.
For instance, DealBook reported last week that the Justice Department has been scrutinizing Herbalife for the past few months, news that caused the company’s shares to drop nearly 14 percent. This comes on top of a recently announced investigation of the company’s marketing practices by the Federal Trade Commission after claims in 2012 by the hedge fund manager William A. Ackman that the company essentially operates a pyramid scheme.
Herbalife had not been accused by the government of any wrongdoing, and denies even knowing about the criminal investigation. It does not appear that grand jury subpoenas have been issued or that Federal Bureau of Investigation agents have started interviewing witnesses related to the company.
Given the persistent criticism of Herbalife leveled by Mr. Ackman, it is not a surprise that the market was spooked by the report of a criminal investigation. But the federal inquiry does not show any signs of developing into a criminal case at this point.
I expect the Justice Department will defer to the F.T.C. to conduct its inquiry and then pass along any information that might indicate criminal conduct. Prosecutors frequently let the civil regulators gather and analyze the evidence before getting involved, and there are few restrictions on agencies sharing information with the Justice Department.
There is also a report that New York’s attorney general, Eric T. Schneiderman, is looking into Herbalife’s marketing. His office can pursue both criminal and civil charges, so it is not clear whether this will cause the company additional problems on top of the federal investigations.
Sometimes an investigation indicates a new direction for prosecutors, so what may not have been considered conduct subject to criminal prosecution a few years ago may now be developing into a case. The Justice Department’s investigation into how Citigroup’s Mexican subsidiary, Banamex, was defrauded of more than $400 million shows how the government may use not just a bank’s actions but its inactions as well to pursue corporate criminal liability.
In February, the bank disclosed that a Banamex employee regularly processed falsified documents to help an oil services company obtain loans and advances that it could not repay. That sounds like a routine embezzlement in which the bank is a victim. In the past, it would have been unlikely that the government would pursue a case against Citigroup for the acts of a rogue employee.
But as DealBook reported, federal prosecutors are looking at whether Citigroup had in place the proper internal controls to stop the scheme before it could start. This was the approach taken by the Justice Department in the deferred prosecution agreement it reached with JPMorgan Chase over how the bank handled the accounts of Bernard L. Madoff’s firm that were used to conduct his huge Ponzi scheme. The bank paid more than $2 billion to settle criminal and civil cases.
Citigroup has also disclosed that federal prosecutors in Massachusetts are looking more broadly at possible money laundering violations. Prosecutors there have issued grand jury subpoenas to determine whether the bank did enough to prevent customers from misusing the bank.
The effectiveness of the internal controls that banks have put in place to prevent money laundering and other types illegal activities has taken on greater urgency recently. The Justice Department appears to be taking a harder line after it was criticized for going easy on HSBC for money laundering violations in its Mexican subsidiary. So these investigations present a significant threat to Citigroup because prosecutors are more aggressive now in pursuing cases, which could force the bank to admit violations in exchange for a deferred prosecution agreement like the one JPMorgan received.
Sometimes it is not the government that leads the investigation, but the company. This is especially true in Foreign Corrupt Practices Act cases in which federal prosecutors are unable to look inside foreign operations as easily as a corporate counsel. That means the company bears the cost of the investigation, an amount that can grow quickly into the hundreds of millions of dollars.
Wal-Mart, for example, disclosed that it spent $439 million investigating overseas bribery after a New York Times article two years ago revealed that it had made suspicious payments in Mexico to win local approval to build stores. Those costs will only grow as the retailer looks at operations in a number of different countries for potential bribes.
The Justice Department and the Securities and Exchange Commission, which share authority for enforcement of the corruption law, will await the results of Wal-Mart’s internal review before deciding how much to demand as part of a settlement.
Just because the Justice Department has begun a criminal investigation of a company does not mean it will always end in the same way. Investigations can signal different things about the seriousness of the potential consequences, and it is up to the company to read the tea leaves.
