(The news featured
below is a selection from the news covered in SEC Today, which is distributed to
subscribers of SEC
Today.)
Conference Panelists Review
Internal Investigation Procedures
At the Practising Law Institute's
recent conference on securities regulation, Bruce Yannett, with Debevoise &
Plimpton LLP, discussed the events that may trigger an internal investigation,
including whistleblower complaints, a request by the outside auditor or a
shareholder derivative suit. If the audit firm raises a concern, the audit
committee will frequently bring in outside experts to conduct an investigation
in order to protect themselves, he said.
Colleen Mahoney, with Skadden, Arps,
Slate, Meagher & Flom LLP, said it is a common practice to share
whistleblower complaints with the outside auditors, and not only with respect to
accounting issues. Auditors will also insist on an internal investigation if the
matter relates to management integrity, she said. The auditors want assurance
that they can continue to rely on the representations of the CEO and the CFO,
she explained.
Mark Schonfeld, the director of the
SEC's Northeast Regional Office, reported that, for better or worse, a lot of
the assessment of misconduct is done in hindsight. The SEC staff looks at
whether the company responded adequately, whether its response was reasonable
under the circumstances and whether it acted diligently at the time to determine
the validity of a complaint. If the response was to do no more than talk to the
person upon whom the complaint centered, and the inquiry ends with that person's
denial of any improper actions, it is probably not enough, he said.
Yannett said there is a tremendous
instinct to discount the allegations of a disgruntled employee. He urged counsel
to push beyond that reaction.
Carmen Lawrence, with Fried, Frank,
Harris, Shriver & Jacobson LLP, discussed who should conduct the internal
investigation. From the government's perspective, the greatest credibility is
given where the investigator has no prior affiliation with the company and no
conflicts of interest. The government will closely scrutinize an investigator's
objectivity, she said.
Lawrence said that the internal
counsel may be appropriate for a preliminary review. A company with a
sophisticated internal audit function may rely on the internal staff to conduct
a preliminary investigation to determine whether outside counsel is needed.
Yannett noted that the CFO and the
audit committee members may not have sufficient experience, in which case they
may turn to the outside auditor for recommendations on whom to retain. The
outside auditors want to be satisfied that they can rely on outside counsel and
can play a critical role in the selection of outside counsel.
Outside forensic accountants can be
invaluable in a financial fraud investigation, according to Lawrence,
particularly in judging materiality and whether to restate the financial
statements. A company cannot rely on the internal accounting staff in financial
fraud investigations because they may be potential witnesses, she said. The
forensic accountants should be retained by counsel in order to preserve
privilege through the manner of hiring, she explained.
Schonfeld said to expect a dialogue
with the government on these decisions. The government will want to know the
approach a company has taken and why it considers its approach reasonable.
Mahoney asked whether outside counsel can use the internal accounting staff in
its investigation, given the expense of hiring a forensic accountant. Schonfeld
said it is possible as long as there is no question of the staff being tainted
by the allegation. The accountants may have been deceived or circumvented, but
they may also have been complicit, he warned. A company will not know that at
the start of the investigation.
Yannett suggested that companies start
out with a forensic auditor and supplement it with the internal staff once the
internal staff has been tested for any conduct related to the issue under
investigation.
Mahoney urged companies to be very
precise with the government about what they did, who was interviewed and which
documents were reviewed. Lawrence agreed that the government should be informed
of the scope of the internal investigation because it is an area the government
tends to challenge. Schonfeld said the staff will look at remediation efforts
and reform measures to prevent future violations.
Mahoney advised companies to instruct
employees about document collection and preservation. Make sure IT is not
destroying information, she warned. She also urged companies to focus on
documents that may be on portable technology such as Blackberries and laptops.
When interviewing employees, make sure
they understand that they are not the client, Mahoney said. The company is the
client. Schonfeld said the single biggest area where internal investigations
rise or fall is when companies end an investigation citing a lack of subpoena
power. This often results in companies reaching the wrong conclusion, he said,
because critical information was in the hands of a third party.
The SEC recognizes that a company
cannot compel testimony, but it must make an effort. Companies may be concerned
about the collateral impact of questioning a client or a vendor, he explained.
Companies are concerned that information about the investigation will come out.
If a big fraud is involved, the information is going to come out, Schonfeld
said. The staff will look at the reasonableness of the company's conclusion.
|