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ISSUES IN ACCOUNTING EDUCATION Vol. 28, No. 3 2013 pp. 599-615 American Accounting Association DOI: 10.2308/iace-50470 Nature's Sunshine Products: Anatomy of an FCPA Failure Heather M. Hermanson and Audrey A. Gramling ABSTRACT: Recently, Walmart and several other large corporations have faced allegations of Foreign Corrupt Practices Act (FCPA) violations, subjecting the companies to large fines and stock price declines. This instructional assignment introduces students to the FCPA and provides an illustration of FCPA compliance problems at Nature's Sunshine Products (Nature's). Students will (1) discuss the development, requirements, and importance of the FCPA; and (2) identify red flags at Nature's suggestive of FCPA noncompliance. This instructional assignment also includes a supplemental requirement whereby students are asked to identify ways that internal auditors could have assisted Nature's in achieving FCPA compliance. This instructional resource, which could be used in undergraduate or graduate external or internal auditing courses or in managerial or forensics courses, provides instructors with a resource for integrating real-world problems involving international business issues into the course curriculum. Keywords: bribery; compliance; Foreign Corrupt Practices Act (FCPA); internal audit; international business issues; risk. CASE Nature's Sunshine has always maintained the highest ethical standards in the way we conduct our business, just as we are committed to the highest quality in the products we make and sell. Douglas Faggioli, President and CEO of Nature's Sunshine Products, Inc. M r. Faggioli made these remarks as he accepted a 2004 ''100 Best Corporate Citizens'' award from Business Ethics magazine. Nature's Sunshine Products (Nature's) received the ethics award four years straight: 2003-2006. During this period, Nature's discovered its Brazilian subsidiary (Nature's Brazil) was involved in a bribery scheme that exposed Nature's to enforcement under the Foreign Corrupt Practices Act (FCPA). Just two years after lauding his company's ethics, Mr. Faggioli and Nature's CFO, Craig Huff, along with Nature's, were named Heather M. Hermanson is a Professor at Kennesaw State University, and Audrey A. Gramling is a Professor at Bellarmine University. We acknowledge the helpful comments of James Rebele, Rich Clune, Cami Cotuna, Dana Hermanson, David Stout, our graduate forensic accounting and auditing students, the editor, associate editor, and two anonymous reviewers. Published Online: April 2013 599 Hermanson and Gramling 600 plaintiffs in a class action lawsuit. How did Nature's go from winning repeated ethics awards to being subjected to Securities and Exchange Commission (SEC) enforcement violations? By completing this assignment you will examine the history and reporting requirements of the FCPA and its impact on operations at Nature's. In particular, you will focus on the impact of Nature's operating in a ''risky'' region and industry, and having a decentralized operating structure on Nature's overall FCPA risk. Also, you will examine the personal implications of serving in a supervisory capacity and signing documents as an officer of a reporting entity. As presented in the following sections, it appears that Nature's failed to implement a strategy for dealing with all three aspects of the FCPA: (1) ensuring that its employees knew that bribery is illegal, (2) requiring sufficient and accurate documentation for all transactions processed in the accounting system, and (3) developing a system of controls to detect or prevent bribery (and cover up) from occurring. COMPANY BACKGROUND Nature's evolved from the kitchen table of Eugene and Kristine Hughes into a multi-milliondollar corporation in less than a decade. Eugene Hughes, an elementary school teacher suffering from a bleeding stomach ulcer, took a neighbor's advice and found cayenne pepper powder to be a successful herbal treatment for his ulcer. Kristine suggested that Eugene encapsulate the powder, making it easier and more palatable to consume, and a new family business emerged.1 The Hughes couple started selling their herbal ulcer treatment at a local health food store. Soon they added other herbal remedies to their products and recruited a large number of door-to-door salespeople. Through training and appearances at large sales conventions, the independent sales staff grew, and so did the company. Nature's focused on achieving record sales targets. In 1978, the couple took the company public. They expanded the product offerings by adding water purifiers and personal care products to the mix of existing herbal products. By the end of its first decade, the company had annual sales of $25 million. The following decade, the company continued to grow, with over 300 products and 25,000 distributors. By 1987, Nature's was the U.S.'s largest producer of encapsulated herbs. The focus then turned to growing sales beyond the U.S. The Hughes couple hired Alan Kennedy, a direct-marketing leader formerly at Avon, to take the company to the next level. Kennedy expanded the sales force to 100,000 independent sales representatives, and expanded operations into Mexico, Costa Rica, Venezuela, Colombia, and Brazil. By the early 1990s, sales exceeded $125 million (Grant 1996). As the global market for natural remedies grew during the 1990s, sales of encapsulated herbs dominated Nature's. In 1994, Nature's created a subsidiary in Brazil (Nature's Brazil), which became its biggest foreign market. During 1999-2000, the Brazilian government reclassified certain herbal products as medicines. This reclassification required Nature's Brazil to register many of its products as medicines. Nature's Brazil was unable to register a large number of its products, so sales declined dramatically. This put pressure on Nature's to get the products into Brazil. As a result, Nature's Brazil made undocumented cash payments to customs brokers (some of which were ultimately received by customs officials) that allowed unregistered products to be imported and sold in Brazil. Essentially, Nature's Brazil employees funneled bribes to officials through customs brokers, so the officials would allow the products to be sold in Brazil. Because bribery violates the FCPA, the company had to ''hide'' these payments through a series of journal entries designed to make the bribes appear to be legitimate expenditures (SEC 2009). 1 The company was initially formed as Hughes Development Corporation and then Amtec Industries Incorporated before the 1982 change to Nature's Sunshine Products. Company history is adapted from the International Directory of Company Histories (Grant 1996) and SEC filings. Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 601 FOREIGN CORRUPT PRACTICES ACT The Foreign Corrupt Practices Act, enacted in 1977, contains three distinct provisions: 1. It is illegal to bribe foreign officials to obtain/retain business. 2. Companies must keep books and records that accurately reflect their transactions. 3. Companies must maintain adequate internal controls. The FCPA stems from Watergate-era investigations into illegal contributions to President Nixon's reelection campaign. What started as concern about illegal corporate campaign contributions gave way to broader concerns about the way U.S. corporations operated abroad. An investigation by the Securities and Exchange Commission (SEC 1976) documented that at least 400 companies spent in excess of $300 million bribing foreign officials to obtain favorable business status. Examples of the types of bribery documented by the SEC (1976) include: \u0002 \u0002 \u0002 United Brands Company (Chiquita Bananas) bribed the president of Honduras to lower the export tax on bananas. Lockheed Aircraft Company bribed the prime minister of Japan to help sell jets to a Japanese airline. Exxon Oil Corporation bribed Italian officials to obtain a natural gas contract. While many corporate leaders argued that bribery was the only means of securing business in many countries overseas, Congress and President Jimmy Carter pushed through the FCPA, arguing that bribery has grave repercussions for foreign policy and free markets. Corrupt business practices had sullied the reputation of American business and capitalism in general. The FCPA was intended to restore confidence in our markets. FCPA enforcement falls across two governmental agencies: the SEC (civil enforcement) and Department of Justice (DOJ) (civil and criminal enforcement). Exhibit 1 highlights the five required elements for an FCPA violation, and some important terms and rules related to the FCPA. In 1977, the U.S. was the only country to criminalize bribery of foreign officials. In fact, some European countries treated bribery of foreign officials as tax deductible. U.S. multinationals faced a competitive disadvantage in markets where bribery was an accepted practice for other participants. To level the playing field, the U.S. lobbied heavily to engage other countries in enacting similar legislation. It took another 20 years until a consensus of other major countries adopted something similar to the FCPAthe Organization for Economic Cooperation and Development (OECD) AntiBribery Convention. For over two decades following the FCPA enactment, the U.S. government and corporations largely ignored enforcement of the FCPA.2 It took the financial fiascos of the early 2000s and the creation of the Sarbanes-Oxley Act (SOX) in 2002 to rejuvenate interest in the FCPA. Since the passage of SOX, the DOJ and SEC have pursued FCPA cases with vigor. In fact, the SEC recently created a special FCPA unit within its enforcement division. Since 2004, SEC and DOJ enforcement cases have gone from a combined total of five in 2004 to 74 in 2010 (Gibson, Dunn & Crutcher 2011). Recent SEC FCPA enforcement actions include General Electric, Johnson & Johnson, Siemens, and Tyson Foods. After a New York Times investigative article in 2012, Walmart publicly announced an internal investigation into possible violations in Mexico, where it is alleged to have engaged in bribes totaling more than $24 million (Barstow 2012). 2 Currently, 38 countries have adopted the OECD Anti-Bribery Convention. However, China, India, Russia, and numerous other significant South American, African, and Asian countries have failed to participate in the antibribery initiative. Issues in Accounting Education Volume 28, No. 3, 2013 Hermanson and Gramling 602 EXHIBIT 1 Key FCPA Terms and Rulesa Panel A: Five Required Elements for an FCPA Violation 1 Who 2 Corrupt Intent 3 Payment 4 Recipient 5 Business Purpose Test Any individual, firm, director, employee, or agent of a firm who is either U.S. based or has U.S. registered securities. As long as the company is U.S. based or registered, the fact that the bribe occurs in another country does not protect against prosecution. Whether it succeeds or not, if the intent of the payment is to influence a foreign official to use his/her power to affect a business decision, then corrupt intent is met. Paying, promising to pay, or offering anything of value is prohibited. Foreign officials include any officer or employee of a foreign government, a public international organization, or any person operating in an official capacity. Payments made in order to obtain or retain business or direct business to any person are prohibited. The business does not have to be with the foreign government. Panel B: Intermediaries/Third Parties (e.g., Customs Brokers) It is illegal to make payments to an intermediary knowing that a portion of the money will be paid directly or indirectly to foreign officials. The Department of Justice defines knowing as conscious disregard or deliberate ignorance. Panel C: Facilitating Payments Payments made to expedite a routine government action (e.g., obtaining permits, licenses, processing visas, providing power and water, protecting perishable goods, and scheduling inspections) are allowed. Facilitating payments do not include officials awarding new business or continuing with previous contracts. Panel D: Criminal and Civil Penalties Criminal fines for corporations may be up to $2,000,000, and $100,000 for individuals (officers, directors, employees, agents). Individuals may receive prison terms of up to five years (the average is about two years). Civil fines may be brought by either the DOJ or the SEC in amounts ranging up to $500,000. a Adapted from the Department of Justice FCPA Lay-Person's Guide (DOJ 2011). FCPA noncompliance can be very costly. A study examining the total costs of FCPA internal investigations and legal fees estimates the cost to be approximately 1.13 percent of the company's total market value (Karpoff et al. 2012). Based on this analysis and Walmart's approximate market value of $212 billion prior to the FCPA allegations, Walmart may incur as much as $2.4 billion in incremental costs to investigate and defend the FCPA violation allegations. Karpoff et al. (2012) caution that the real costs relate not to the bribery itself, but to the actions taken to cover up the bribery. Firms that misrepresent their financial statements to hide bribery face much larger losses (e.g., based on a small sample in their study, total FCPA losses that included fraud allegations were Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 603 51.58 percent of market value, a substantial reputational loss). In addition, individuals face being sentenced to prison, with the average FCPA sentence being about two years (FCPA Blog 2012).3 FCPA COMPLIANCE PROBLEMS AT NATURE'S Exhibit 2 shows the pattern of sales of Nature's Brazil before and after the requirement to register many of its products as medicines and includes commentary from the company's annual report. The exhibit highlights the impact of the new registration requirements on Nature's Brazil's sales. According to the SEC's case against Nature's, Nature's Brazil made an attempt to bypass the new import restrictions by making cash payments to aid the import of unregistered products into Brazil. Payments to customs brokers totaling over $1 million were made between 2000 and 2001, and some of this money ultimately was paid to customs officials as bribes. To hide the nature of these payments, Nature's Brazil classified them as ''importation advances,'' a legitimate import expense. Nature's Brazil did not have supporting documentation (e.g., detailed invoices from legitimate vendors) for as many as 80 cash payments (since they were bribes), so Nature's Brazil purchased fictitious documentation for these payments in order to make it appear that the bribes were legitimate expenses. None of this activity was disclosed in its 10-K filed with the SEC. At this point, two of the three provisions of the FCPA were violated. Nature's Brazil was (1) bribing public officials, and (2) failing to keep books and records that accurately reflected its transactions. One could argue that the third FCPA provision also was violated because it does not appear that Nature's system of internal controls prevented or detected the problem such that it was brought to the attention of corporate management. Once Nature's Brazil engaged in the ''cover up'' of its bribery, it exposed itself to fraud charges (e.g., willful financial misrepresentation). Around this time, two controllers from Nature's (headquarters) visited Nature's Brazil and discussed the declining sales situation with Nature's Brazil's operations manager. The operations manager indicated that in order to find a customs broker willing to facilitate the importation of unregistered products, Nature's Brazil had to pay fees representing 25 percent of the value of its products (SEC 2009). The operations manager told the controllers from Nature's that months of inventory were sitting in port because customs brokers were not willing to risk facilitating unregistered products (e.g., it was difficult to find anyone willing to bribe the necessary officials to let the products into Brazil). Also, some products that Nature's Brazil did manage to get into the country were sold illegally. The operations manager explained that he had reported the situation to the Nature's Brazil general manager, but that the general manager stated that Nature's (headquarters) knew about the problems in Brazil. At the very least, the two controllers from headquarters now knew about the problem. These controllers had responsibility for Nature's books and records and for preparing financial reports that included the results of Nature's Brazil. Risks of FCPA Noncompliance at Nature's As part of its system of internal controls, Nature's should have had a process for assessing the risk of exposure to FCPA and for implementing appropriate controls such that (1) bribery would be prevented/detected, and (2) the accounting records provided enough detail to substantiate legitimate transactions and record them in the appropriate accounts. It appears that Nature's failed to focus on its risk of FCPA noncompliance, including geographic risk, industry risk, and organizational risk. 3 The FCPA Blog (2012) reports that the FCPA sentencing range is huge and unpredictable. Issues in Accounting Education Volume 28, No. 3, 2013 Hermanson and Gramling 604 EXHIBIT 2 Nature's Brazil Sales Data (in Millions) as Reported in Annual Form 10-K Excerpts from Management's Discussion & Analysis FY 1999 Report: During 1999 and 1998, the Company's sales revenue was negatively impacted by foreign currency devaluation in the majority of its international markets, most notably Brazil, and increased competition in the Company's domestic market. Eliminating the adverse effect of foreign currency devaluation, sales revenue for the year ended December 31, 1999, would have increased approximately 3 percent. FY 2000 Report: No separate mention of Brazil was made in the MD&A of this report. FY 2001 Report: During 2001, the Company's operation in Brazil experienced a 57 percent decrease in sales revenue to $9.6 million, compared to $22.1 million in 2000. The decrease in sales revenue was due to import regulations imposed by the Brazilian government. The Company expects these new regulations to continue to adversely impact sales revenue and operating results during 2002. FY 2002 Report: Sales revenue for 2002, 2001, and 2000 in our operations in Brazil was $5.2 million, $9.6 million, and $22.1 million, respectively. The decrease in sales revenue was due to import regulations imposed by the Brazilian government. We expect these new regulations to continue to adversely impact sales revenue and operating results during 2003. FY 2003 Report: Net sales revenue for 2003, 2002, and 2001 in our operations in Brazil was $2.6 million, $4.9 million, and $9.1 million, respectively. The decrease in net sales revenue was due to import regulations imposed by the Brazilian government. We expect these new regulations to continue to adversely impact net sales revenue and operating results during 2004. [Note: It is unclear why 2002 and 2001 Brazil sales changed in this report.] Geographic Risk Nature's could have considered the corruption risk of the countries in which it operates. Transparency International (TI) rates the relative corruption of different countries (see http://www. transparency.org). TI defines corruption as ''the abuse of entrusted power for private gain.'' TI distinguishes between two types of corruption: according to the rule and against the rule. According to the rule is where a bribe is paid to receive preferential treatment (e.g., the bribe receiver is required by law to perform the task for which the bribe is given). An example of this might be a facilitating payment to an official to speed up the processing of a license.4 Against the 4 Under the FCPA, facilitating payments to expedite processing (e.g., obtaining permits, licenses, processing visas, providing power and water, protecting perishable goods, and scheduling inspections) are allowed. Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 605 rule is where a bribe is paid to someone who provides services illegally. For instance, the company is not legally entitled to a foreign license, but with a bribe to the right official, is able to attain one. In 1995, TI launched its first Corruption Perceptions Index (CPI). Using surveys of business people, academics, and country analysts, TI compiles an annual score for rated countries where 10 is a perfect score (low perception of corruption). CPI scores of less than 5 suggest high levels of perceived corruption in government and public administration (TI 2011). This tool is useful in evaluating the bribery risks in various countries where U.S. firms operate. The lower the CPI score, the higher the risk of bribery. In general, Scandinavian countries score high and many African nations score low. TI also created a Bribe Payers Index (BPI). This index rates countries by the likelihood of their companies to bribe abroad. In 2008, TI considered 22 countries whose combined exports of goods/services represented 75 percent of the world total in 2006. Belgium and Canada were ranked least likely to pay bribes abroad, while Russia, China, Mexico, and India were most likely.5 TI observes that while 38 countries are party to the OECD Anti-Bribery Convention, many corporate executives in those countries appear to lack familiarity with the OECD ban. Thus, U.S. companies may continue to face an unlevel playing field. Industry Risk Nature's should have been aware of the bribery risk associated with the industry in which it operated. Companies operating in certain industries are more exposed to bribery risk. For example, companies that must register their products, get government approval for access to resources, or operate under other governmental regulations face greater FCPA risk because they must interact in some fashion with foreign officials. In addition, foreign officials may determine whether the company can operate in any capacity within the country. The combination of governmental power with a company's need for access can create bribery conditions, particularly in nations without strict corruption standards. Both the DOJ and TI have reviewed cases involving FCPA violations, identifying certain industries as high risk. Some industries considered to be high risk include: drugs and health care; oil and gas production and services; food products; aerospace; airlines and air services; construction, real estate, and property development; and chemicals. Organizational Risk Nature's officials may have failed to consider the implications of using contractors, like customs brokers, to represent them in business dealings outside the U.S. One key feature of the FCPA is companies that use contractors (third parties) in foreign countries can be held accountable for illegal payments made by these third parties. Companies must ensure that they have controls in place to adequately monitor the activities of their contractors. In addition, officers of the company can be held accountable for FCPA violations that they did not personally commit. Employees with supervisory responsibility acting as ''control persons'' who supervise personnel to make and keep books and records that accurately reflect transactions and who are responsible for maintaining a system of internal controls can be found at fault even when they did not directly pay bribes or even know of any bribery. xFCPA risk is heightened when companies fail to make their employees and third-party contractors aware of the law. A corporate culture that emphasizes honesty and transparency in reporting, along with FCPA compliance, greatly reduces the risk of FCPA violations. Nature's should have had an FCPA compliance policy, and employees should have had appropriate training. 5 Of the lowest-rated countries listed on the BPI, only Mexico is a member of the OECD Anti-Bribery Convention. It appears that countries that have ''opted out'' of the OECD Convention continue the bribery tradition. Issues in Accounting Education Volume 28, No. 3, 2013 606 Hermanson and Gramling Further, FCPA compliance may be aided by the company's organizational structure. Companies with centralized organizational structures may be more adept at identifying noncompliance quickly and fixing problems before they get out of hand. In more decentralized organizations, there is a greater chance that third-party contractors may not be apprised of the company's FCPA policy, causing violations that are slow to come to management's attention. Impact of FCPA Noncompliance on Nature's So what did Nature's know and when? Based on various SEC filings, it appears that Nature's commenced a special internal investigation in the fall of 2005 (almost five years after the Nature's controllers were notified of the Nature's Brazil bribery scheme). An 8-K filed with the SEC on November 10, 2005, indicates that Nature's was reviewing selected financial information at certain foreign operations.6 On March 18, 2006, Nature's filed an 8-K with the SEC indicating that users should not rely on its previously issued filings (for 10-Q and 10-K filings dating from 2002 through 2005, and for Management's Report on Internal Control for Fiscal Year 2004). The company failed to issue a 10-Q for Fourth Quarter 2005 and a 10-K for Fiscal Year 2005. On March 27, 2006, Craig Huff, executive vice president and CFO of Nature's, resigned ''to pursue other interests.'' Less than two weeks later, on March 31, 2006, Nature's auditor, KPMG, resigned. In the 8-K filing, KPMG noted that the internal investigation found electronic evidence suggesting that Douglas Faggioli (president and CEO of Nature's) knew of the ''alleged fraud'' in the international operations (e.g., the cover up of the bribery in the accounting records), yet Mr. Faggioli still signed two management representation letters to KPMG.7 If Mr. Faggioli was aware of the bribery and the related falsification of the accounting records, then he should not have signed a representation letter without disclosing the Nature's Brazil bribery problems. In addition, KPMG noted that the chair of Nature's Audit Committee, Franz Cristiani, also knew of the alleged fraud, but did not correct any of the disclosures made to KPMG. Despite KPMG's recommendation that the company terminate Mr. Faggioli and Mr. Cristiani, Nature's did not remove either of them. In fact, Nature's indicated to KPMG that it would not terminate Mr. Faggioli. Instead an executive committee took over his position, and he was moved to a different role within the company. Mr. Faggioli returned to his president and CEO position on August 21, 2006, and remained employed by Nature's until stepping down on June 30, 2010. Nature's stock was delisted from the NASDAQ exchange on April 5, 2006, for the company's failure to file its required reports. Nature's did not engage its replacement auditors, Deloitte & Touche LLP, until February 2007. It was not until October 2008 that Nature's filed audited financial statements with the SEC. During the period from Fall 2005 until late 2008, no audited information was provided, and previously audited financial filings (2002-2005) had been recalled. In July 2009, Nature's settled its charges with the SEC, neither admitting nor denying guilt. It agreed to a civil fine of $600,000, and both Mr. Faggioli and Mr. Huff agreed to pay $25,000 each for their roles as ''control persons.'' The DOJ did not press further criminal charges. 6 7 An 8-K filing is used to publicly report material events not previously reported in scheduled SEC filings. A management representation letter serves as audit evidence for the verbal representations made by management to the auditor. It is essentially a signed ''promise'' from management to the auditor that the listed management representations are true. An important item on the letter is that all of the financial information was provided to the auditor, and that the information is correct and not fraudulent. Further, the letter would contain a representation indicating whether management was aware of any violations, or possible violations, of laws and regulations, including the FCPA. Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 607 In November 2009, Nature's settled its class action lawsuit for $6 million, not admitting guilt.8 The lawsuit accused Nature's officers of profiting from inaccurate disclosures by selling company stock at artificially inflated prices. Exhibit 3 provides a timeline of the key events for Nature's from 1972 to 2009. Nature's seems to have survived this chapter in its history. On October 12, 2009, Nature's common stock began trading on the NASDAQ exchange. During 2010, Nature's ceased its operations in Brazil as a result of declining sales and increased regulatory restrictions (which had made it difficult for the company to register and sell key products in that market). As of its fiscal year-end in 2011, Nature's still retained Deloitte & Touche as its auditors and received unqualified audit opinions on its financial statements and its internal control over financial reporting. QUESTIONS 1. Consider the issues related to FCPA compliance and be prepared to address the following questions during an in-class discussion. You may need to do some additional research. a. Why is bribery often encountered when U.S. companies try to execute business in an international setting? (Consider the social, cultural, structural, legal, and ethical challenges.) b. Why do many nations, including the U.S., consider bribery wrong? c. What are the costs of bribery to: (1) the company doing the bribery, (2) the country where the bribery takes place, and (3) capital markets? d. What factors and conditions gave rise to the need for the FCPA and OECD AntiBribery Convention? e. What are the accounting and internal control requirements of the FCPA? 2. Reflect on the risk factors that might have alerted Nature's management, its audit committee, or its internal or external auditors to the heightened risk of FCPA violations, and be prepared to address the following questions during an in-class discussion. You will need to do some additional research. a. Use Transparency International's CPI to identify the level of bribery risk that Nature's faced with its Nature's Brazil unit. Did Brazil's corruption problems improve over the decade? See http://www.transparency.org/policy_research/surveys_indices/cpi b. Nature's used customs brokers in Brazil. What are customs brokers and why should Nature's have been more concerned about its relationship with them? c. How might Nature's Brazil employees have rationalized the bribery scheme? Would Nature's Brazil employees be successful in arguing that their payments were ''facilitating'' payments allowed under FCPA? d. Discuss the ethical decision-making process of the two controllers from Nature's headquarters who visited Brazil. What should they have done when they learned of the problems? Who might they have asked for guidance? Which stakeholders should they have considered? While we do not know exactly what the controllers did when they returned to headquarters, we do know that it was almost five years before an internal investigation was launched. What would you have done in a similar situation? 8 A class action lawsuit is one where a number of parties come forward to sue for the same reason. A ''class'' is formed where the case is tried on behalf of the entire group, and the group agrees to abide by the outcome. Nature's class was made up of shareholders. Issues in Accounting Education Volume 28, No. 3, 2013 Hermanson and Gramling Nature's Sunshine Products Timeline EXHIBIT 3 608 Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 609 EXHIBIT 4 Risk Factor Questionnairea a Adapted from Crowe Horwath (2011). e. Exhibit 4 is an FCPA risk factor questionnaire. Firms use questionnaires to help ensure that they have incorporated all of the relevant information into a risk evaluation. Complete the questionnaire using the Nature's case facts. Had management used a similar questionnaire annually, do you think they may have been alerted to FCPA risk? Which risk factor(s) is/are most revealing of the FCPA risk that Nature's faced? Issues in Accounting Education Volume 28, No. 3, 2013 Hermanson and Gramling 610 f. Is it fair to hold management responsible (as ''control persons'') for the bribery actions of company employees? What is the purpose of this rule? Supplemental Question 3. Assume that you are the head of the internal audit function at Nature's. You have been asked by the chair of the audit committee to recommend ways that internal auditors can help the organization achieve FCPA compliance. What recommendations would you make? REFERENCES Barstow, D. 2012. Vast Mexico bribery case hushed up by Walmart after top-level struggle. New York Times (April 21). Available at: http://www.nytimes.com/2012/04/22/business/at-wal-mart-in-mexicoa-bribe-inquiry-silenced.html?pagewantedall&_r0 Crowe Horwath. 2011. Red flags that may indicate you are at risk of violating FCPA. Available at: http:// www.crowehorwath.com/ContentDetails.aspx?id933 FCPA Blog. 2012. A survey of FCPA sentences. Available at: http://www.fcpablog.com/blog/2012/2/28/ a-survey-of-fcpa-sentences.html Gibson, Dunn & Crutcher. 2011. 2010 year-end FCPA update. Available at: http://www.gibsondunn.com/ publications/pages/2010Year-EndFCPAUpdate.aspx Grant, T. 1996. Nature's Sunshine Products, Inc. In International Directory of Company Histories, 15th edition, 317-319. Chicago, IL: St. James Press. Karpoff, J. M., D. S. Lee, and G. S. Martin. 2012. The impact of anti-bribery enforcement actions on targeted firms. Available at: http://ssrn.com/abstract1573222 Securities and Exchange Commission (SEC). 1976. Report of the Securities and Exchange Commission on Questionable and Illegal Corporate Payments and Practices. Washington, D.C.: SEC. Securities and Exchange Commission (SEC). 2009. Complaint 2:09-cv-00672-BSJ. Available at: http:// www.sec.gov/litigation/complaints/2009/comp21162.pdf Transparency International (TI). 2011. Corruption Perceptions Index. Available at: http://www. transparency.org/policy_research/surveys_indices/cpi U.S. Department of Justice (DOJ). 2011. FCPA Lay-Person's Guide. Washington, D.C.: DOJ. Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 611 CASE LEARNING OBJECTIVES AND IMPLEMENTATION GUIDANCE Overview Allegations that Walmart may have violated the Foreign Corrupt Practices Act of 1977 are causing U.S. firms to carefully consider compliance with FCPA. Within a few days of the news of potential FCPA violations, Walmart lost billions in market capitalization (Barstow 2012). Accountants and auditors are facing increasing responsibilities related to FCPA compliance (e.g., Dickins and Stone 2011; Gramling et al. 2011), yet this topic is rarely addressed in depth in the textbooks students use during their accounting program. This assignment serves two primary purposes. The first purpose is to familiarize students with the development, requirements, and importance of the FCPA. The second is to provide a case setting (i.e., Nature's Sunshine Products) where a company experienced FCPA compliance problems to help students identify risks of FCPA noncompliance. Nature's Sunshine Products is a company that appeared to adhere to high-quality ethical standards, yet found itself in violation of the FCPA. This assignment also includes a supplemental requirement whereby students recommend ways that internal auditors can help organizations in achieving FCPA compliance. As auditors increasingly have responsibilities related to an organization's FCPA compliance, it is important that they are able to identify factors suggesting a heightened risk of FCPA noncompliance. Learning Objectives After completing the instructional resource, students should be able to: 1. discuss the development, requirements, and importance of the FCPA; 2. identify red flags at Nature's suggesting a lack of compliance with the FCPA; and 3. identify ways that internal auditors can assist organizations in achieving FCPA compliance (supplemental question). Core competencies addressed include: critical thinking, risk analysis, research, communication, and teamwork (if completed in groups). Implementation Guidance This assignment can be used in undergraduate or graduate external or internal auditing courses or in managerial or forensics courses. This implementation guidance is based on our experiences in three graduate courses. Below we provide discussion on how implementation might be modified for undergraduate courses. Sixteen of our students in a graduate forensics course and 35 students in two graduate external auditing courses completed the entire assignment, including the supplemental question. These are required courses in a Master's of Accounting program at a large state university. One professor implemented the case in all three courses, although in one course the case was cofacilitated with a second instructor. Students were provided with the case materials and asked to read the materials on their own outside of class and be able to respond to the assignment questions during class discussions. We did not ask the students to prepare any written materials to turn in for grading, as this was not a graded assignment. The auditing students reported that they had taken, on average, just over an hour outside of class to prepare for the in-class discussions. We recommend that students be told to plan on about two hours of preparation in order to be adequately prepared for class discussion. Given that these students were graded on class participation, they did have incentives to prepare for class discussion. However, we posit that preparation time will likely increase if the students are required to prepare written solutions to be submitted for grading. Class discussion covered all the questions included in the case, with the exception of 1(a) and 2(d). Across the three classes where we implemented the case, some questions were explored in Issues in Accounting Education Volume 28, No. 3, 2013 612 Hermanson and Gramling more detail than others, depending on the interests and questions of the students. Class discussion can be completed in a 75-minute time period if the students have thoroughly prepared and the time is managed well. If time is of concern, then we recommend that in the class period prior to when the case will be discussed, the instructor provide the students with an overview of the FCPA and its current relevance in today's economy. This discussion will allow the instructor the option of limiting the case discussion related to parts of Question 1. The class discussion related to Question 1 (development, requirements, and importance of the FCPA) is relatively direct and provides an opportunity to discuss the risks that companies face as their operations expand globally. We begin the class by placing students into groups to compare and contrast their individual responses to (a) through (e). This approach allows the students to discuss the relevant issues in a small group setting before debriefing with the class as a whole. During our class discussion, we have found that students are especially interested in cases where companies have not complied with FCPA requirements. In fact, students will often refer to cases they have seen in the media. Some cases we have highlighted during this discussion are presented below. Company Brief Description of Possible FCPA Violations Walmart In April 2012, The New York Times ran an article suggesting that Walmart buried a 2005 internal investigation into bribery in Mexico. The coverup may cost Walmart more money than had the company been more forthcoming when it discovered the potential bribery scheme. The investigation is pending. In May 2011, the Wall Street Journal reported that Avon Products, Inc. had conducted an internal investigation of possible bribery of foreign officials. The investigation identified millions of dollars of questionable payments to officials in Brazil, Mexico, Argentina, India, and Japan, with possible wrongdoing occurring between 2004 and 2010. In April 2011, Comverse Technology, Inc. agreed to pay $2.8 million in penalties and civil disgorgement related to two FCPA cases involving Greek telecommunications contracts. Between 2003 and 2006, Comverse's Israeli subsidiary paid bribes of $536,000, which resulted in contracts worth $10 million. In May 2011, Lindsey Manufacturing defendants were convicted of conspiracy to violate the FCPA, and one defendant was charged with a count of violation of money-laundering laws. Specifically, two executives and a Mexican sales agent from the company were convicted by a federal jury for bribing Mexican officials at a state-owned utility. The bribery occurred from 2002 to 2009. In July 2010, the SEC charged that GE violated the FCPA due to its involvement in a $3.6 million kickback scheme with Iraqi government agencies. The purpose of the scheme was to win contracts to supply medical equipment and water purification equipment. GE settled for $23.4 million. Avon Products, Inc. Comverse Technology, Inc. Lindsey Manufacturing General Electric Company Once the students grasp the importance and requirements of the FCPA, it is appropriate for students to begin to recognize risk factors that suggest a heightened risk of FCPA noncompliance. Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 613 While this issue can be discussed generically, we find that students are more engaged if the issue is discussed within the context of a specific company. We have taken two approaches to facilitate the discussion related to Question 2 (FCPA noncompliance at Nature's). The first approach is to place students into groups to compare and contrast their individual responses to (a) through (f ) before debriefing in a class-wide discussion facilitated by the instructor, similar to the approach taken for Question 1. The second approach incorporates a round-robin technique prior to a class-wide discussion. As part of the round-robin technique, students are placed into three groups and each group of students is asked to stand next to a flip chart that was prepared in advance by the instructor. The titles on the three flip charts are: Geographic Risks, Industry Risks, and Organizational Risks. Each group is provided with a unique color marker so that the instructor can identify which group made which points. The round-robin task begins by having each group of students list as many risks factors as they can for the first assigned risk area. After five minutes, each group moves on to the next flip chart, taking their unique color marker. The students are instructed to add to the previous team's risk factors and to mark out any inappropriate factors. After three minutes, each group moves to their final flip chart to add to the previous teams' risk factors and to mark out any inappropriate factors. As the instructor debriefs the information included on the flip charts, the instructor should take care to ensure that the points presented in the suggested solution are discussed. This approach is suitable for small classes with graduate students, as it requires the students to synthesize their responses differently than they prepared them. Our graduate students found this approach to be very effective and engaging. The supplemental Question 3 recognizes the growing role of internal auditors in FCPA compliance-related work and challenges students to consider ways that internal auditors can help their organizations achieve FCPA compliance. Depending on students' understanding of internal auditing, students may need to complete additional research before they can adequately discuss the question. Implementation in an Undergraduate Course To implement the case in an undergraduate course, we recommend that in the class period prior to when the case will be discussed, the instructor provide the students with an overview of the FCPA and its current relevance in today's economy (Question 1). Using this approach, the students will have been provided with much of the information related to the development and requirements of the FCPA. Discussion in the following class period can then be more focused FCPA compliance risk factors that were present at Nature's. Most undergraduate accounting students will not have had much exposure to internal auditing. Therefore, unless the students are in an internal audit class, we recommend that Question 3 be omitted for undergraduate students. Evidence of Efficacy A student questionnaire was administered to obtain student perceptions on whether the instructional assignment addressed the learning objectives. These learning objectives were that students would be able to (1) discuss the development, requirements, and importance of the FCPA; and (2) identify red flags at Nature's suggesting a lack of compliance with the FCPA. The learning objective for the supplemental assignment was that students would be able to identify ways that internal auditors can assist organizations in achieving FCPA compliance. The survey results are presented in Exhibit 5. Additional student feedback indicated that the students believed that having information on a specific company (i.e., Nature's) was very important to their understanding of the FCPA and their analysis of risks associated with FCPA noncompliance. Issues in Accounting Education Volume 28, No. 3, 2013 Completing the case and participating in class discussion enabled me to explain the development of the FCPA. Completing the case and participating in class discussion enabled me to explain the requirements of the FCPA. Completing the case and participating in class discussion enabled me to explain the importance of the FCPA. Completing the case and participating in class discussion enabled me to identify red flags that suggest a lack of compliance with FCPA. Completing the case and participating in class discussion enabled me to identify ways that internal auditors can help their organizations achieve FCPA compliance. Statement 1 Strongly Agree, 5 Strongly Disagree 2.00 1.85 1.69 1.88 1.88 1.37 2.15 1.85 1.94 (Question not part of student questionnaire in Summer 2011) Mean Response Fall 2011 Graduate Auditing Course n 13 Mean Response Summer 2011 Graduate Forensic Course n 16 Student Evaluations of the Learning Objectives EXHIBIT 5 1.55 1.43 1.36 1.59 1.27 Mean Response Spring 2012 Graduate Auditing Course n 22 614 Hermanson and Gramling Issues in Accounting Education Volume 28, No. 3, 2013 Nature's Sunshine Products: Anatomy of an FCPA Failure 615 TEACHING NOTES Teaching Notes are available only to non-student-member subscribers to Issues in Accounting Education through the American Accounting Association's electronic publications system at http:// aaapubs.org/. Non-student-member subscribers should use their usernames and passwords for entry into the system where the Teaching Notes can be reviewed and printed. Please do not make the Teaching Notes available to students or post them on websites. If you are a non-student-member of AAA with a subscription to Issues in Accounting Education and have any trouble accessing this material, then please contact the AAA headquarters office at info@aaahq.org or (941) 921-7747. REFERENCES Barstow, D. 2012. Vast Mexico bribery case hushed up by Walmart after top-level struggle. New York Times (April 21). Available at: http://www.nytimes.com/2012/04/22/business/at-wal-mart-in-mexicoa-bribe-inquiry-silenced.html?pagewantedall&_r0 Dickins, D., and M. Stone. 2011. The Foreign Corrupt Practices Act: Implications for internal auditors. Internal Auditing 26 (2): 38-42. Gramling, A. A., D. R. Hermanson, and H. M. Hermanson. 2011. The Foreign Corrupt Practices Act: Insights for internal auditors. Internal Auditing 26 (2): 13-20. Issues in Accounting Education Volume 28, No. 3, 2013 Review the case study and provide responses to Questions 1, 2 and 3 in a word document. Please list the work citations and have 4 pages for answer. Times New Romance 12, double space Please be serious to my work, thank you