Background

As you have learned during the course, regulatory compliance requires constant vigilance by the board of directors, company executives, and employees. Constant vigilance, in turn, requires that all of these corporate actors be actively involved in identifying regulatory compliance requirements, designing, implementing, and continually auditing policies and procedures, and identifying and addressing compliance failures in a timely fashion.

Fact Pattern

You are the Chief Compliance Officer for ABC, Inc. ("ABC"), a publicly traded company that owns 10 hospitals across the United States, and which has over 10,000 employees. Amid frequent media stories about significant compliance issues at numerous companies, the ABC board of directors is seeking greater insight into underlying factors that may result in such failures and the role of compliance in preventing, identifying, and addressing such issues.

Questions

Please review the fact patterns below involving a lack of constant compliance vigilance by two companies (the "Compliance Cases") and draft a memo to the board of directors of ABC, answering all of the questions below.

• For each Compliance Case identify two (2) compliance failures and for each identified failure answer the following questions:
  • Please describe one (1) policy and related procedures for each of the compliance failures (a total of 4) that you would recommend to avoid that type of compliance failure in the future.
  • Please discuss one (1) audit procedure for each of the compliance failures (a total of 4) that you would recommend to avoid that type of compliance failures in the future.
• For each Compliance Case, please:
  • Identify and discuss at least two (2) failures that occurred after the companies' major compliance failures had been identified ("post-failure failures")
  • For each post-failure failure, identify one (1) post-failure mechanism that you would recommend (a total of 4) to ensure that the board of directors has all of the relevant information so that they can act in a timely fashion.

Compliance Case I: Marchand v. Barnhill, Del., 212 A.3d 805 (2019)

Excerpts (footnotes omitted)

Blue Bell Creameries USA, Inc., one of the country's largest ice cream manufacturers, suffered a listeria outbreak in early 2015, causing the company to recall all of its products, shut down production at all of its plants, and lay off over a third of its workforce. Blue Bell's failure to contain listeria's spread in its manufacturing plants caused listeria to be present in its products and had sad consequences. Three people died as a result of the listeria outbreak....

The complaint alleges that the executivesPaul Kruse, the President and CEO, and Greg Bridges, the Vice President of Operationsbreached their duties of care and loyalty by knowingly disregarding contamination risks and failing to oversee the safety of Blue Bell's food-making operations....

A. Blue Bell's History and Operating Environment

...

ii. The Regulated Nature of Blue Bell's Industry

As a U.S. food manufacturer, Blue Bell operates in a heavily regulated industry. Under federal law, the Food and Drug Administration ("FDA") may set food quality standards, require food manufacturing facilities to register with the FDA, prohibit regulated manufacturers from placing adulterated food into interstate commerce, and hold companies liable if they place any adulterated foods into interstate commerce in violation of FDA rules. Blue Bell is "required to comply with regulations and establish controls to monitor for, avoid and remediate contamination and conditions that expose the Company and its products to the risk of contamination."

Specifically, FDA regulations require food manufacturers to conduct operations "with adequate sanitation principles" and, in line with that obligation, "must prepare ... and implement a written food safety plan." As part of a manufacturer's food safety plan, the manufacturer must include processes for conducting a hazard analysis that identifies possible food safety hazards, identifies and implements preventative controls to limit potential food hazards, implements process controls, implements sanitation controls, and monitors these preventative controls. Appropriate corporate officials must monitor these preventative controls.

Not only is Blue Bell subject to federal regulations, but it must also adhere to various state regulations. At the time of the listeria outbreak, Blue Bell operated in three states, and each had issued rules and regulations regarding the proper handling and production of food to ensure food safety.

B. Plaintiff's Complaint

The complaint starts by observing that, as a single-product food company, food safety is of obvious importance to Blue Bell. But despite the critical nature of food safety for Blue Bell's continued success, the complaint alleges that management turned a blind eye to red and yellow flags that were waved in front of it by regulators and its own tests, and the boardby failing to implement any system to monitor the company's food safety compliance programswas unaware of any problems until it was too late.

i. The Run-Up to the Listeria Outbreak

....The complaint alleges that, despite being responsible for overseeing plant operations, Paul Kruse and Bridges failed to respond to signs of trouble in the run up to the listeria outbreak. From 2009 to 2013 several regulators found troubling compliance failures at Blue Bell's facilities:

• In July 2009, the FDA's inspection of the Texas facility revealed "two instances of condensation, one from a pipe carrying liquid caramel [that] was dripping into three gallon cartons waiting to be filled, and one dripping into ice cream sandwich wafers." The FDA reported these observations directly to Paul Kruse, who assured the FDA that "condensation is treated by Blue Bell as a serious concern."
• In March 2010, the Alabama Department of Health inspected the Alabama plant and "found equipment left on the floor and a ceiling in disrepair in the container forming room."
• Two months later, in May 2010, the FDA returned to the Texas plant "and observed ten violations that were cited to Paul Kruse including, again, a condensation drip." While the condensation drip persisted from the FDA's last inspection of the Texas plant, the FDA also observed "ripped and open containers of ingredients, inconsistent hand-washing and glove use and a spider and its web near the ingredients."
• In July 2011, an inspection by "the Alabama Department of Public Health cited drips from a ceiling unit and pipelines, standing water, open tank lids and unprotected measuring cups."
• Nine months later, in March 2012, an inspection of the Oklahoma facility revealed the plant's " '[f]ailure to manufacture foods under conditions and controls necessary to minimize contamination' and '[f]ailure to handle and maintain equipment, containers and utensils used to hold food in [sic] manner that protects against contamination.' "
• That same month, in March 2012, "[t]he Alabama Department of Public Health required five changes" to the Alabama facility, "including instructions to clean various rooms and items, make repairs and [sic] after fruit processing to prevent contamination." A year later, "in March 2013, the Alabama Department of Public Health again ordered cleaning and repairs and observed an uncapped fruit tank." The Alabama Department of Public Health made similar observations in a July 2014 inspection.

....In 2013, "the Company had five positive tests" for listeria, and in January 2014, "the Company received a presumptive positive [l]isteria result reports from the third party laboratory for the [Oklahoma] facility on January 20, 2014, and the samples reported positive for a second time on January 24, 2014."

Although management had received reports about listeria's growing presence in Blue Bell's plants, the complaint alleges that the board never received any information about listeria or more generally about food safety issues. Minutes from the board's January 29, 2014, meeting "reflect no report or discussion of the increasingly frequent positive tests that had been occurring since 2013 or the third party lab reports received in the preceding two weeks." Board meeting minutes from February and March likewise reflect no board-level discussion of listeria.

During the rest of 2014, Blue Bell's problems accelerated, but the board remained uninformed about Blue Bell's problems. In April, "[t]he Company received further positive [l]isteria lab tests regarding [the Oklahoma facility]."....Yet, minutes from the April board meeting reflected no discussion of listeria....

....Based on this chronology of events, the plaintiffs have fairly pled that:

• Blue Bell had no board committee charged with monitoring food safety;
• Blue Bell's full board did not have a process where a portion of the board's meetings each year, for example either quarterly or biannually, were specifically devoted to food safety compliance; and
• The Blue Bell board did not have a protocol requiring or have any expectation that management would deliver key food safety compliance reports or summaries of these reports to the board on a consistent and mandatory basis. In fact, it is inferable that there was no expectation of reporting to the board of any kind....

ii. The Listeria Outbreak and the Board's Response

Blue Bell's listeria problem spread in 2015. Starting in January 2015, one of Blue Bell's product tests had positive coliform levels above legal limits. The same result appeared in February 2015. And by this point, the problem spread to Blue Bell's products and spiraled out of control.

On February 13, 2015, "Blue Bell received notification that the Texas Department of State Health Services also had positive tests for [l]isteria in Blue Bell samples." The Texas Department of State Health Services was alerted to these positive tests by the South Carolina Health Department. Company swabs at the Texas facility on February 19 and 21, 2015 tested positive for listeria. Yet despite these reports to management, Blue Bell's board was not informed by management about the severe problem....

Four days later, Blue Bell initiated a limited recall. Two days after that, Blue Bell's board met, and Bridges reported that "[t]he FDA is working with Texas health inspectors regarding the Company's recent recall of products....Despite two years of evidence that listeria was a growing problem for Blue Bell, this is the first time the board discussed the issue, according to the complaint and the incorporated board minutes. Instead of holding more frequent emergency board meetings to receive constant updates on the troubling fact that life-threatening bacteria was found in its products, Blue Bell's board left the company's response to management.

And the problem got worse, with awful effects. "In early March 2015, health authorities reported that they suspected a connection between human [l]isteria infections in Kansas and products made by Blue Bell's [Texas] facility."....And by March 23, 2015, Blue Bell was forced to recall more products....

Blue Bell expanded the recall two weeks later, and less than a month later, on April 20, 2015, Blue Bell "instituted a recall of all products." By this point, the Center for Disease Controls and Prevention ("CDC") had begun an investigation and discovered that the source of the listeria outbreak in Kansas was caused by Blue Bell's Texas and Oklahoma plants. Ultimately, five adults in Kansas and three adults in Texas were sickened by Blue Bell's products; three of the five Kansas adults died because of complications due to listeria infection. The CDC issued a recall to grocers and retailers, alerting them to the contamination and warning them against selling the products.

After Blue Bell's full product recall, the FDA inspected each of the company's three plants. Each was found to have major deficiencies. In the Texas plant, the FDA found a "failure to manufacture foods under conditions and controls necessary to minimize the potential for growth of microorganisms," inadequate cleaning and sanitizing procedures, "failure to maintain buildings in repair sufficient to prevent food from coming [sic] adulterated," and improper construction of the building that failed to prevent condensation from occurring. Likewise, at the Oklahoma facility, "[t]he FDA found that the Company had been receiving increasingly frequent positive [l]isteria tests at [the Oklahoma facility] for over three years," failed "to manufacture and package foods under conditions and controls necessary to minimize the potential growth of microorganisms and contamination," failed to perform testing to ferret out microbial growth, implemented inadequate cleaning and sterilization procedures, failed to provide running water at an appropriate temperature to sanitize equipment, and failed to store food in clean and sanitized portable equipment....

After the fact, various news outlets interviewed former Blue Bell employees who "claimed that Company management ignored complaints about factory conditions in [the Texas facility]." One former employee "reported [that] spilled ice cream was left to pool on the floor, 'creating an environment where bacteria could flourish.' "Another former employee described being "instructed to pour ice cream and fruit that dripped off his machine into mix to be used later."

Compliance Case II: In re: to McDonald's Corporation Stockholder Derivative Litigation, Del. 289 A.3d 343 (2023)

Excerpts (footnotes omitted)

Defendant David Fairhurst served as Executive Vice President and Global Chief People Officer of McDonald's Corporation...from 2015 until his termination with cause in 2019. In that position, Fairhurst was the executive officer with day-to-day responsibility for ensuring that one of the largest employers in the world provided its employees with a safe and respectful workplace....

The plaintiffs' oversight claim asserts that a culture of sexual misconduct and sexual harassment was allowed to develop at the Company....

In this case, the plaintiffs describe their oversight claim as resting on Fairhurst knowing about evidence of sexual misconduct and acting in bad faith by consciously disregarding his duty to address the misconduct. In other words, the plaintiffs have asserted a Red-Flags Claim....

1. The Existence of Red Flags

The plaintiffs' Red-Flags Claim asserts that Fairhurst permitted a toxic culture to develop at the Company that turned a blind eye to sexual harassment and misconduct. As the red flags evidencing that growing culture, the plaintiffs cite a series of events, with the following pertinent to the claim against Fairhurst:

• ....
• Easterbrook and Fairhurst promoted a party atmosphere at the Company that emphasized drinking.
• The human resources department ignored complaints about the conduct of co-workers and executives.
• Employees feared retaliation for reporting complaints to the human resources department.
• In October 2016, over a dozen Company employees filed complaints with the EEOC about sexual harassment and misconduct at the Company.
• Later that month, employees in over thirty cities across the United States staged a one-day walkout to protest problems with sexual harassment and misconduct at the Company.
• In December 2016, Fairhurst engaged in an act of sexual harassment that was not reported to the Company's Compliance Department and did not reach the Audit Committee or the Board.
• In May 2018, over a dozen Company employees filed coordinated complaints with the EEOC.
• In September 2018, Company workers from ten cities organized a one-day strike to protest the Company's culture of sexual harassment.
• In November 2018, Fairhurst engaged in an act of sexual harassment at a party for the human resources staff. Over thirty Company employees witnessed the incident, and several reported it to the Company's Compliance Department. The Compliance Department concluded that Fairhurst violated the Company's Standards of Business Conduct.
• In December 2018, the Audit Committee reviewed the incident involving Fairhurst and chose to discipline him and require that he execute the Last Chance Letter.
• Also in December 2018, Senator Duckworth wrote a letter to the Company about sexual harassment complaints against the Company.
• In June 2019, Senator Duckworth joined with seven other United States Senators in writing to the Company and asking specific questions about sexual harassment and workplace safety.
• In October 2019, the Board learned that Easterbrook was engaging in a prohibited relationship with a Company employee.
• In November 2019, after investigating Easterbrook's misconduct, the Board terminated Easterbrook without cause.
• Also in November 2019, the Board terminated Fairhurst with cause, inferably because he had violated the terms of his Last Chance Letter and engaged in an additional act of sexual harassment.
• ....

....These allegations support Fairhurst's knowledge of red flags. As Global Chief People Officer, he was the executive officer with day-to-day responsibility for overseeing the human resources function and promoting a safe and respectful environment. He was supposed to have his ear to the ground and be knowledgeable about the Company's employees. For someone in Fairhurst's position, the coordinated EEOC complaints in October 2016, followed by a thirty-city walkout, were massive red flags. He should have been figuring out whether something was seriously wrong and either addressing it or reporting upward to the CEO and the directors. For someone in Fairhurst's position, the second round of coordinated EEOC complaints in May 2018, followed by a second one-day strike in ten cities in September 2018, was another set of red flags. He again should have been figuring out whether something was seriously wrong and either addressing it or reporting upward to the CEO and the directors....

2. The Response To The Red Flags

Pleading red flags is not enough. The plaintiffs also must plead facts supporting an inference that Fairhurst acted in bad faith by consciously ignoring red flags.

....First, there are the allegations about Fairhurst's own participation in multiple acts of sexual harassment. He committed an act of sexual harassment in December 2016, shortly after the first set of EEOC complaints and the associated thirty-city walkout. He committed another act of sexual harassment in November 2018, after the second round of EEOC complaints and the ten-city strike. He committed a third act of sexual harassment in November 2019, after spending the prior year focusing with the rest of the management team on ways to address the Company's problems with sexual harassment and misconduct. When considering whether a defendant consciously ignored red flags regarding a culture of sexual harassment and misconduct, it is reasonable to give weight to the fact that the defendant himself committed multiple acts of sexual harassment, including repeating the behavior after being disciplined and given a last chance. It is reasonable to infer that such an individual could consciously turn a blind eye to red flags about similar conduct by others.

Second, the complaint alleges that under Fairhurst's watch, the human resources department ignored complaints about the conduct of co-workers and executives. The complaint also alleges that employees feared retaliation for reporting complaints to the human resources department. Those allegations support the inference that as a serial harasser, Fairhurst was consciously failing to do what he should have done to address problems with sexual harassment and misconduct. Instead, he and Easterbrook were promoting and enjoying the party atmosphere at headquarters....

To be sure, there is record evidence indicating that during 2019, Fairhurst was part of the effort by Company management to address the problem of sexual harassment and misconduct. Most notably, he co-authored a memorandum for the Strategy Committee's meeting in June 2019 that described what action the Company was taking in response to the red flags about sexual harassment. He also gave presentations to the Strategy Committee in June and September. The actions that Company management took, such as adopting an updated anti-sexual harassment policy and creating new employee training programs, would have involved the human resources department that Fairhurst led.

Beginning in 2019, therefore, it is not possible to draw an inference that Fairhurst consciously ignored the Company's problems with sexual harassment and misconduct. But it is also fair to note that Fairhurst had been disciplined for sexual harassment in November 2018. He was part of the problem, and he was caught, so he had to be part of the solution. Of course, he also engaged in a third act of sexual harassment in November 2019 and was terminated for it. It is reasonable to infer that Fairhurst's acts of sexual harassment constituted knowing misconduct...