Following on the Foreign Corrupt Practices Act: The Dynamic Shareholder Derivative Suit

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ABSTRACT

Corporations that have allegedly violated the Foreign Corrupt Practices Act (FCPA) increasingly face a new threat of liability: cases brought by private plaintiffs in follow-on derivative suits. These derivative suits for breaches of fiduciary duty focus on whether directors provided the necessary oversight through compliance systems designed to detect and prevent FCPA violations. The demand requirement, a procedural hurdle of derivative suits, has stymied plaintiffs that are unable to show that directors cannot disinterestedly assess whether to pursue a claim for violations. This Note proposes a framework that systematizes the factual scenarios under which the demand requirement could be excused. Using other instances of regulatory violations as a lens, courts can infer that directors knew of FCPA violations based on patterns of bribes and the importance of bribery to the overall business of the corporation. Only plaintiffs that have utilized procedural devices to inspect corporate books and records, however, can expect courts to reach this inference of director knowledge. Despite being much maligned, the follow-on derivative suit may actually clarify the duties of directors in FCPA compliance and advance the corporate governance reforms of corporations, separately from the deterrent effect of government enforcement.

INTRODUCTION

On April 21, 2012, a New York Times article reported a failed investigation into Wal-Mart's business-driven bribery practices worldwide. (1) The incident that prompted the investigation began in 2005, when a former executive at Wal-Mart de Mexico (Wal-Mex), Wal-Mart's largest foreign subsidiary, alerted Wal-Mart that Wal-Mex had systematically bribed government officials to facilitate expansion across Mexico. (2) The article detailed a carefully organized system in which bribes were paid through middlemen and concealed on invoices using secret-code numbers denoting the purpose of each bribe. (3) Wal-Mart's investigative unit discovered payments totaling more than $24 million and recommended a full investigation into possible violations of the Foreign Corrupt Practices Act (FCPA). (4) The article claimed that instead "Wal-Mart's leaders shut [the investigation] down." (5) Concerned that the details about the bribes would reach the public, Wal-Mart's board of directors decided on a new course of action: the Wal-Mex general counsel would head the investigation, effectively giving responsibility to uncover wrongdoing to those under suspicion. (6)

Once Wal-Mart's bribery scandal made headlines, the California State Teachers Retirement System (CalSTRS), concerned that Wal-Mart's bribery practices and the corresponding potential for hefty penalties would negatively impact its substantial holdings in Wal-Mart, filed a shareholder derivative suit against Wal-Mart's board in the Delaware Court of Chancery. (7) CalSTRS used the New York Times article to support allegations that three directors had "direct contemporaneous knowledge of the bribery allegations" based on internal communications regarding the preliminary internal investigation. (8) The plaintiffs also alleged that the rest of the board "would have been informed of the adverse findings," pursuant to Wal-Mart's corporate governance guidelines. (9) CalSTRS claimed the board breached its fiduciary duties by refusing to conduct a full and independent investigation despite (1) whistleblower evidence that Wal-Mex paid bribes to foreign officials and (2) the investigative report's finding that Wal-Mex violated anti-bribery laws. (10)

The suit was derivative in that injury belonged to the corporation, not the shareholders themselves. A derivative plaintiff like CalSTRS must satisfy Delaware's demand requirement. The demand requirement obligates a plaintiff, before filing suit, to ask the board to bring a suit on behalf of the corporation. (11) Alternatively, a plaintiff can allege demand futility and ask the court to excuse the demand requirement by showing that demand would be useless because the board would be unable to consider the best interests of the corporation in deciding whether to bring a case. …