SciClone Settles FCPA Follow-on Derivative Suit : In a settlement that involves a company with significant Chinese operations — and that also may represent something of a template for the settlement of FCPA enforcement follow-on civil lawsuits — SciClone Pharmaceuticals and the individual defendant directors and officers have agreed to settle the consolidated derivative lawsuits that were filed following the company’s announcement that it was the target of SEC and DoJ investigations for possible FCPA violations.
According to the company’s October 12, 2011 press release (here), the parties have agreed, subject to court approval, to settle the consolidated cases based on the company’s agreement to adopt certain specified corporate governance reforms and the company’s agreement to pay $2.5 million in plaintiffs’ attorneys’ fees. The press release states that the payment of the plaintiffs’ attorneys’ fees is “to be paid by SciClone’s insurers under its director and officer insurance policy.” A copy of the parties’ stipulation of settlement can be found here.
The FCPA does not provide for a private right of action. However, as I have previously noted on this site, the advent of an FCPA investigation often triggers a follow-on civil lawsuit. In this case, multiple lawsuits were filed against the company, as nominal defendant, and certain of the company’s directors and officers, shortly after the company announced the existence of the investigation. The lawsuits, which were filed in San Mateo County (Calif.) Superior Court in September 2010, and which were later consolidated, alleged that “the Individual Defendants, by reason of their failure to implement and maintain internal controls and systems at the Company to assure compliance with the FCPA, breached their fiduciary duties and may be held liable for damages.”
As a result of mediation, the parties reached the settlement that the company announced in its press release. Among other thing, the settlement requires the company to adopt certain measures for three years, including the implementation of sanctions for employees violating the FCPA; the establishment of a compliance coordinator; the adoption of a compliance program and code; and the adoption of certain internal controls and compliance functions. The governance measures are described in detail in the parties’ settlement stipulation.
There are a number of interesting things to me about this settlement. The first is that it involves a company that, according to its own website, is a “China-centric” pharmaceutical company. Though the company has its headquarters in the U.S. its “strategy,” as described on the company’s website is to grow its sales in China. The existence of the FCPA investigation underscores the challenges facing companies attempting to do business in China. Given the company’s business model, the compliance measures adopted in the settlement arguably are a good idea in any event, without regard to the fact that the company willingness to adopt the measures managed to resolve this consolidated litigation.
The D&O insurer’s payment of the plaintiffs’ attorneys’ fees shows how these kinds of lawsuits can contribute to insurers’ loss costs. Obviously, the D&O insurers also incurred the defense expenses as well, meaning that the total loss costs for this suit potentially represents a substantial figure. Moreover, depending on the nature and status of the government FCPA investigation, there could be additional covered loss costs as well. The company and certain of its directors and officers were also named as defendants in a related securities class action lawsuit (about which refer here), but that action was voluntarily dismissed without prejudice.
As antibribery enforcement activity is stepped up in this country and elsewhere, it seems likely that these types of lawsuits may become even more common. The likelihood is that this type of litigation could make a significant contribution toward insurers’ aggregate loss costs in the coming years. On the other hand, from an underwriting standpoint, it seems that companies that have already voluntarily adopted the kinds of compliance procedures that were the subject of this settlement should be view in a more favorable light, particularly with regard to those companies that might otherwise be viewed with caution owing to the countries in which they are doing business.
Dismissal Motion Denied in U.S.-Listed Chinese Company’s Securities Suit: In the second dismissal motion denial entered as part of the current wave of securities suits filed against U.S.-listed Chinese companies, on October 11, 2011, Central District of California Judge Christina Snyder denied the defendants’ motion to dismiss in the securities suit filed against China Education Alliance, Inc. (CEU) and certain of its directors and officers. A copy of Judge Snyder’s opinion can be found here.
As discussed here, the plaintiffs first filed their action in December 2010. Among other things, the plaintiffs allege that the company overstated its revenue and profits by “exponential proportions.” The plaintiffs, in reliance on the report of an online securities analyst, alleged that the company maintained two sets of books, and that the revenue reported in the company’s Chinese regulatory filings was only a fraction of the revenue the company reported in its SEC filings. The complaint also alleges that the company’s educational website was not functional, and its education building allegedly is an empty building without classrooms.
The defendants moved to dismiss, arguing in part that the plaintiffs allegations, made in reliance on the online analyst report, merely repeated the unsubstantiated assertions of a professed short seller that was financially motivated to drive down the company’s share price. In rejecting the defendants’ argument in this regard, Judge Snyder relied on the earlier dismissal motion denial in the case involving another U.S.-listed Chinese company, Orient Paper (about which refer here). Judge Snyder found it was not appropriate to reject the allegations on that basis at this early stage.
Judge Snyder also found tat the plaintiffs had adequately alleged scienter, despite the absence of insider trading or other financially motivated conduct. Judge Snyder found that “additional facts” the plaintiff alleged “give rise to a strong inference of scienter.” Those alleged additional facts include the following:
That CEU has filed significantly disparate revenue figures in China and the United States: that plaintiffs’ own investigators toured CEU’s on-site “state of the art” facility in China only to find it an empty building; that witnesses told plaintiffs’ investigators that CEU was not the owner of the building; that CEU has had rapid turnover of its CFOs during the class period; and that many of the links on CEU’s website did not work properly despite its online segment purportedly deriving millions of dollars each year.
Judge Snyder said that “although each fact taken along might not give rise to an inference of fraudulent intent,” the allegations “taken together” establish that plaintiffs’ theory is at least as compelling as any opposing inference one could draw.
Judge Snyder’s dismissal motion denial suggests that in some cases at least the U.S.-listed Chinese companies draw into the wave of recent securities lawsuits may face difficulties evading these lawsuits, at least at the initial stages. Many of the cases, like this one, are based on the reports of financially motivated online analysts. Judge Snyder’s unwillingness to disregard the allegations based on the analyst’s report, notwithstanding the analysts admitted financial interest in driving down the value of the company’s stock, may represent a problem for the other companies tangled up in these cases as a result of negative reports by online analysts.
Moreover, Judge Snyder’s conclusion that the plaintiffs’ scienter allegations were sufficient, inter alia, on the discrepancies between the Chinese regulatory filings and SEC filings, may also suggest that a number of these cases could survive the initial pleading stages, as many of them are based on similar discrepancies between Chinese regulatory filings and SEC filings.
To be sure, some cases will nevertheless be dismissed, as was the case with the China North East Petroleum case, in which the dismissal motion was recently granted on loss causation grounds (about which refer here). But if Judge Snyder’s holding in the China Education Alliance case is any indication, other cases also will likely survive the initial dismissal motions.
Of course, it remains to be seen how valuable these cases ultimately prove to be for plaintiffs, even if they make it past the initial pleading hurdle. But the name of the game is making it past the dismissal motions, and at least in the China Education Alliance case, the plaintiffs have made it at least that far.
Special thanks to a loyal reader for providing me with a copy of Judge Snyder’s opinion.
Fed Officials Pursue Actions Against Failed Bank Officials: In a significant development in the current wave of bank failures, that involves a failed bank that had significant ties to and operations in China, on October 11, 2011, federal officials concurrently filed a regulatory enforcement action and a criminal prosecution against certain former officers of the failed United Commercial Bank.
San Francisco based United Commercial Bank failed on November 9, 2009 (about which refer here). The bank had offices throughout the United States, as well as China and Taiwan. The bank grew rapidly. According to the SEC, it was the first U.S. bank to acquire a bank in the People’s Republic of China. However, during the economic crisis in late 2008 and early 2009, the bank experience significant difficulties in its loan portfolio, which regulators allege led to the bank’s failure, which in turn triggered the recently filed actions involving the bank’s former officers.
First, in an October 11, 2011 complaint (here), the SEC filed a civil enforcement action against four former officers of the bank. According to the SEC’s October 11, 2011 litigation release, the complaint alleges that the defendants “concealed losses on loans and other assets from the bank’s auditors, causing the bank’s holding company UCBH Holdings, Inc. (UCBH) to understate its 2008 operating losses by at least $65 million.” The complaint alleges that the further loan losses ultimately caused the bank to fail. The SEC action seeks permanent injunctive relief, an officer bar, and civil money penalties.
In addition, as reflected in the FBI’s October 11, 2011 press release (here), a grand jury has indicted two of these same former bank officials, for conspiracy to commit securities fraud, securities fraud, falsifying corporate books and records and lying to auditors.
Both the SEC’s litigation release and the FBI’s press release specifically reference the assistance they received in preparing their actions from the FDIC. The FDIC’s role in these actions is a reminder that as part of its failed bank post mortem, the FDIC is not only attempting to determine whether or not it has a valuable civil suit on its own as receiver, but is also looking to see whether or not wrongdoing has occurred that warrants referral to other authorities.
Both the SEC action and the indictment refer to securities fraud, which serves as a reminder that, by contrast to the institutions caught up in the S&L crisis a few years ago, many of these failed financial institutions in the current bank failure wave are publicly traded, a circumstance that has many ramifications.
It remains to be seen whether or not the FDIC will also file its own separate civil action against the former directors and officers of this bank. The bank’s former investors have in any event already filed their own class action lawsuit. As discussed here, the defendants’ initial motion to dismiss the class action lawsuit was granted, albeit with leave to amend.