On April 26, 2007, Baker Hughes Incorporated (“Baker Hughes”), a Texas-based provider of oil field products and services, and its wholly owned subsidiary Baker Hughes Services International Inc. (“Baker Hughes Services”) paid the largest combined criminal and civil fines and disgorgement to resolve a criminal investigation by the Department of Justice and an enforcement action by the Securities and Exchange Commission. Baker Hughes disgorged $23 million in profits and pre-judgment interest and paid a $10 million civil fine to the SEC, and consented to the entry of a Cease and Desist Order. It also entered into a Deferred Prosecution Agreement with the Department in which it admitted having conspired to violate, and having violated the Foreign Corrupt Practices Act (“FCPA”). Baker Hughes Services pleaded guilty to a three count Information charging it with conspiracy to violate the FCPA, violating the substantive provisions of the FCPA and aiding and abetting the violation of the books and records provisions of that Act. It was fined $11 million and placed on three years organizational probation.
The SEC complaint charged Baker Hughes with violations of the anti-bribery, books and records and internal controls provisions of the FCPA in connection with activities involving the business of several subsidiaries, including Baker Hughes Services, in Kazakhstan, Nigeria, Russia, Uzbekistan, Indonesia and Angola. The Commission also charged the company with violating a 2001 Commission Cease and Desist Order charging it with violating the books and records and internal controls provisions of the FCPA in connection with payments made in Brazil, Indonesia and India. Without admitting or denying the SEC’s allegations, Baker Hughes consented to the entry of a permanent injunction against future violations of the FCPA. The company also agreed to the appointment of a compliance consultant, who presumably will be the same person who is appointed as the Monitor under the deferred prosecution agreement.
The SEC complaint also charged Roy Fearnley, a British national and former Baker Hughes business development manager in Kazakhstan and Russia, with violations of the FCPA’s antibribery provisions and with aiding and abetting Baker Hughes’ violations of the books and records and internal controls provisions of the statute. The charges against Fearnley are pending.
Department of Justice Charges
The Department of Justice filed two separate Informations. One Information charged Baker Hughes with conspiracy to violate the FCPA, and one substantive count each of violating the anti-bribery and books and records provisions of that Act. All three charges against Baker Hughes, as well as those against Baker Hughes Services referenced above, were in connection with the activities of those two entities and three operating divisions, Baker Atlas, Baker Oil Tools and Baker INTEQ, on the Karachaganak Project in Kazakhstan. The charges against Baker Hughes were held in abeyance pursuant to the deferred prosecution agreement.
According to the court documents filed by the Department of Justice and the SEC, Baker Hughes paid $5.2 million from 1998 to 2003 to two agents “while knowing that some or all of the money was intended to bribe government officials in Kazakhstan,” to “influence acts and decisions” of contracting officials employed by the state-owned oil companies, to obtain or retain business for Baker Hughes. Because of a lack of adequate internal controls, Baker Hughes was unable to prevent or detect these improper payments that had been inaccurately recorded on the company’s books and records.
The Karachaganak Project
The first agent was engaged at the end of a competitive bidding process for the Karachaganak oil field project, after Baker Hughes learned that it had been recommended by the consortium of oil companies overseeing the project. The agent received 27 commission payments totaling $4.1 million in a five year period. The funds were forwarded to a Baker Hughes Services bank account in Houston and then wire transferred to the agent’s account in London. The agent did not provide any identifiable services.
Soon after receiving unofficial notification that its bid would be successful, a Kazakhoil official demanded that Baker Hughes Services agree to pay 3% of the revenue it earned on the contract to a consulting firm located on the Isle of Man, led by a citizen and resident of the United Kingdom. Fearnley allegedly reported to his superiors that the Kazakhoil official had told him that this 3% commission “was required” to obtain the approval of Kazakhoil. At a later time, Fearnley warned that if the consulting firm was not engaged, Baker Hughes could “say goodbye to this and future business.” Although one of the vice presidents for sales objected that “being held to ransom at this late date is not palatable,” Fearnley replied that this was necessary albeit “distasteful.” Ultimately, Baker Hughes Services agreed to engage the agent and pay it 2% of the revenues on the Karachaganak Project as well as 3% of revenues on all future contracts. The terms of the agreement were finalized the same day as Kazakhoil officials met to express their support for Baker Hughes. A backdated side letter to the agreement with the agent linked the commission payments to the approval of the Baker Hughes bid. Less than three weeks after engaging the consulting firm, Baker Hughes was informed that it would be receiving a Letter of Intent from the project consortium designating it as the winner of the bid.
Baker Hughes failed to properly account for the commission payments and described them inaccurately in its books and records as legitimate payments for “commissions,” “fees,” and “legal services.”
According to the pleadings, Baker Hughes did not conduct any due diligence prior to engaging the agent. It only did so, on a limited basis, more than two years later, after it had paid the agent $2.5 million in commissions.
The KazTransOil Project
The SEC complaint alleged that $1.05 million was paid to the Swiss account of an agent retained in connection with the award of a contract to provide chemicals to KazTransOil, the state-owned oil transportation operator for the Kazakhstan government, at the “direction of a high ranking executive of KazTransOil” who was “in a position to award business to Baker Hughes.” The commission payment was 30% of the gross revenues on the contract. Prior to finalizing the contract, a district manager of Baker Hughes’ wholly-owned subsidiary, Baker Petrolite, learned that the contract was being delayed. He was then approached by a person who claimed to be acting for an agent offering to assist in obtaining the award of the chemical contract. The manager notified his superior that he was being pressured to engage the agent and that he feared that the contract would be awarded to a competitor if they failed to do so. Notwithstanding the fact that Baker Petrolite was already represented by an agent, the new agent was engaged. During the course of the agency agreement, the Baker Petrolite district manager became aware that the individual with whom he had negotiated the agency agreement was, in fact, a high-ranking official of KazTransOil. Nonetheless, the company continued to make the payments to the agent.
According to the complaint, neither Baker Hughes nor Baker Petrolite conducted any due diligence on either the individual representing the proposed agent, or the proposed agent itself, either before or after its engagement. The agency agreement, while a model of brevity, consisting of only a single page, did not reference the FCPA. It simply confirmed that, in exchange for providing “laboratory and field experiments” and “marketing functions,” the agent would receive a commission based on the amount the agent could negotiate with KazTransOil over and above a fixed price per ton of chemical products. The payments were reflected on Baker Hughes’ books and records as “commission” payments.
Payment to an Official of the Nuclear Agency
The SEC alleged that in March 2000, the Baker Atlas division of Baker Hughes required a license in Kazakhstan to import and operate tools with radioactive components. A Kazakh official, believed to be employed by either the Kazakh Atomic Agency or the Kazakh Committee of Nuclear Energy, offered to obtain the necessary license in exchange for $9,000. According to the complaint, he was paid the requested amount in cash and the license was obtained.
The Lease Option
In 2002, in connection with a bid for an oil services contract known as the “KCO Project” in Kazakhstan, Baker Hughes needed to show that it had access to land along the North Caspian Sea where it could establish a “cutting treatment service depot.” The SEC complaint alleged that Fearnley encouraged Baker Hughes to obtain a lease on land owned by a Kazakh company whose site had been recommended to Baker Hughes by an individual who had been a senior executive of Kazakhoil and was then a highranking official of KazMunaiGas. Fearnley is alleged to have sent an email to two employees of the Baker Hughes division stating that the Kazakh company “was only a front for the real owners who are influential.” He is alleged to have also said that an executive of KazMunaiGas was connected to that entity and that this was “another big influence factor for us winning the [KCO Project].”
According to the SEC complaint, the Baker Hughes division paid $60,000 to obtain an eightmonth option on the land owned by the Kazakh company, whose 50% beneficial owner was a UK entity identified as “A Holdings.” No due diligence was conducted on any of the parties involved.
Agent No. 1
In 1998, Baker Hughes acquired Western Atlas Corporation and its operating subsidiaries, including an entity which became the Western Geophysical division [“Western Geo”] of Baker Hughes. According to the SEC complaint, Western Geo, which performs seismic services for offshore oil and gas exploration, had an existing relationship with an agent who was a dual citizen of Angola and Portugal. The agent was initially retained by Western Geo at the suggestion of the then head of the Geophysical Department of Sonangol, the national oil company of Angola, who had advised that the agent should be retained if Western Geo was to obtain business from Sonangol. The agent was engaged and a contract for seismic data processing was awarded.
Thereafter, another former Western Atlas subsidiary acquired by Baker Hughes sought a contract from Sonangol to perform wireline logging. The same agent was retained at the request of Sonangol employees and the terms of his representation agreement, including his compensation and scope of work, were negotiated with a senior-level Sonangol official. The SEC complaint alleges that between 1998 and 2003, over $10.3 million, on gross revenues of $149.9 million, was paid to the Agent, all of which were recorded as “commission” payments.
Agent No. 2
In April 2000, in connection with Kizomba A, an offshore project of Sonangol, the INTEQ division of Baker Hughes engaged an Angolan agent who was the brother of a senior Sonangol official. The Agent was paid approximately $1.2 million. When he was terminated in 2002 and paid accrued commissions of approximately $500,000, INTEQ’s country manager and a regional manager were aware that the agent was related to the Sonangol official. Due diligence was not performed by Baker Hughes before retaining the agent, notwithstanding the fact that the company’s due diligence policies had been revised earlier that year. The payments were recorded as “commissions”.
The Baker Hughes Oil Tools division, through its Baker Nigeria Limited subsidiary [“BNL”], was charged with having authorized its customs brokers, between 2001 and 2005, to “intervene” with Nigerian customs officials to resolve claims that customs duties had been underpaid. During that period, BNL allegedly paid the brokers more than $2.5 million (or 50% of the claimed underpayments) to resolve these disputes. BNL was not provided any evidence that the customs duties owed to the government had been paid. These fees were recorded in Baker Hughes’ books and records as “customs processing” expenses.
The SEC noted in its complaint that Baker Hughes failed to uncover this practice during a worldwide review of customs practices in all operating countries, including Nigeria, that was conducted in 2003. It was only discovered during a routine inspection of invoices in 2005.
In 2001, a Nigerian subsidiary of the Baker Atlas division of Baker Hughes was advised by Nigerian tax authorities that it owed approximately $500,000 in underpayment of income taxes. This claim for “payas- you-earn” (“PAYE”) taxes was based on a discrepancy between the number of expatriate Baker Atlas employees shown on the company’s monthly tax returns and the number listed on immigration forms. A local accountant who negotiated with the tax authorities on behalf of Baker Atlas was able to reduce the tax claim to approximately $105,000.
Subsequently, the local tax officials proposed a settlement in which the tax claim would be reduced to 6 million Naira paid to the government and an additional 6 million Naira paid to unnamed tax officials. A Baker Atlas employee consulted with Baker Hughes’ international tax manager for its Asia Pacific Region and was told that such a payment to tax officials “could” violate the FCPA. The company’s district manager, however, determined “on his own” that the requested payment would not violate the FCPA as “all companies are doing the same in Nigeria.”
Further negotiations reduced the settlement to 4.2 million Naira to the local tax officials and 4.8 million Naira to the government. Both payments were authorized by the Baker Atlas district manager and made. An invoice purporting to be for “tax consultancy matters” was obtained by the Baker Atlas Nigerian subsidiary. The district manager, however, directed that only the letter reflecting the 4.8 million Naira assessment be retained. The books and records of Baker Hughes reflected the payment to the local officials and the official payment as “miscellaneous expenses.”
Kazakhstan, Russia and Uzbekistan
Baker Petrolite, the Baker Hughes subsidiary, paid approximately $5.3 million in commissions between 1998 and 2004 to an agent referred to as “N Corp,” a Panamanian company, on the sale of its products in Kazakhstan, Russia and Uzbekistan. Although Baker Hughes had by then revised its FCPA procedures regarding the retention of agents and the need for due diligence, Baker Petrolite did not have a written agency agreement with N Corp until 2002, close to four years after the start of the agency relationship. The SEC complaint noted that N Corp “made it through” Baker Hughes’ “revised due diligence procedures, including [a] review by an outside law firm hired by the company to assist with its re-certifications,” that revealed several red flags, including the fact that the beneficial owner of N Corp was not known and that its business telephone number was possibly linked to a property owned by the Russian government.
N Corp was paid in cash and by wire transfers. According to the SEC complaint, in some cases the commissions were funded through cash advances to a Baker Petrolite employee, who was later reimbursed. Although N Corp’s commissions related to business in Kazakhstan, Russia and Uzbekistan, the wire transfers were made to two accounts maintained in the United States and three in Latvia. The payments to N Corp were recorded on Baker Petrolite’s books and records as “commissions” or in accounts under “cost of goods sold.”
Between 2000 and 2003, in Indonesia, Baker Atlas and Baker Hughes’ Centrilift divisions used freight forwarders that provided “door-to-door” services that bypassed the regular customs process. According to the SEC, in 2001, a Centrilift consultant advised that this service was “an illegal procedure” under Indonesian law. In a memorandum, he described the “door-to-door” service as expedited shipping system that required a “fee [be] paid to the Indonesian customs officials,” and that it did not provide the importer either documentation or proof that customs duties were paid. Notwithstanding this warning, the Centrilift division continued to use the service until mid-2003. Baker Atlas, according to the complaint, used similar services during the same period. The “door-to-door” services were recorded on Centrilift’s accounts as “Freight Courier Service” or “Freight Invoiced” and on Baker Atlas’ accounts as “Shipping, Crating.”
The Plea Agreement
Significantly, the plea agreement with Baker Hughes Services, as in the case of the recent agreements with the Vetco entities, incorporates all the obligations and requirements typically found in a deferred prosecution agreement. This appears to be an important new trend for future plea agreements.
The plea agreement, among other things, requires that, in the event Baker Hughes Services sells, merges, or transfers all, or substantially all, of its business operations, it includes in any contract for sale, merger, or transfer, a provision binding such purchasers or successors in interest to the obligations set out in the plea agreement. Further, Baker Hughes Services must (1) continue to cooperate with, and report and disclose to, the Department information regarding any corrupt payments that the company or any of its employees, agents, consultants, contractors or subcontractors make in the future; (2) cooperate with “all other authorities and agencies designated by the Department” on those matters; and (3) implement as a condition of probation, a “compliance code” that “at a minimum” includes a long list of “obligations” set out in a two page appendix to the plea agreement. These obligations include:
• Adopting a system of internal controls to ensure the “making and keeping of accurate books, records and accounts;” and
• Adopting a “rigorous anti-corruption compliance code . . . designed to detect and deter violations of the FCPA, U.S. commercial bribery laws and foreign bribery laws,” including at the very least:
• A “clearly articulated corporate policy” against violations of those laws;
• Issuance of compliance policies, procedures and standards that apply not only to directors, officers and employees of the company, but also to its “agents, consultants, representatives, teaming partners, joint venture partners and other parties acting on behalf” of the company that are defined as “agents” and “business partners;”
• Appointment of “independent” “senior corporate officials” who “report directly to the Compliance Committee of the Board of Directors” to be responsible for the implementation and oversight of compliance with the compliance code and related policies and procedures;
• Effective periodic training for all personnel;
• Establishment of a ‘Helpline” for use by employees, agents and business partners;
• Implementation of “appropriate” disciplinary procedures to address violations of the compliance code and the law;
• “Extensive pre-retention due diligence requirements pertaining to, as well as post-retention oversight of, all agents and business partners;”
• Implementation of policies to ensure that “substantial discretionary authority” is not exercised by those with a “propensity to engage in illegal or improper activities;”
• Creation of a committee of senior officials to review and approve the engagement of, contracts with, and payments to, agents;
• Inclusion in all contracts with agents and business partners of “written provisions . . . reasonably calculated to prevent violations” of the FCPA, commercial, foreign bribery and “other relevant” laws, including (1) anti-corruption representations and undertakings; (2) “allowing for internal and independent audits;” and (3) providing for termination for breach of the undertakings; and
• “Independent audits by outside counsel and auditors” at least every three years to ensure compliance with the terms of probation and the compliance code.
Interestingly, in the calculation of the criminal fine, the government and Baker Hughes agreed that, under the organizational guidelines, there was a two point enhancement for commission of the offense less than five years after a civil or administrative adjudication based on two or more separate instances of similar misconduct. See e.g.; USSG § 8C2.5(g)(2). The Court did not agree, ruling that the 2001 SEC adjudication involved a different Baker Hughes subsidiary.
The Deferred Prosecution Agreement
The Department agreed to enter into a deferred prosecution agreement with Baker Hughes because the latter had voluntarily disclosed the payments that had been made, conducted a thorough investigation into the misconduct, regularly reported the findings to the Department of Justice and took remedial actions to ensure that the conduct not recur. Baker Hughes also agreed to continue to cooperate with the Department of Justice in its ongoing investigation and to implement remedial measures so that the conduct will not occur again. In addition, the agreement and all of its requirements and obligations apply to any purchaser or successor in interest that acquires all, or substantially all, of Baker Hughes’ business operations through a sale, merger, or a transfer of ownership.
The deferred prosecution agreement contains identical provisions and requirements as the recent deferred prosecution agreement with Aibel Group Limited, and the plea agreement with Baker Hughes Services. Although the deferred prosecution agreement is for a two year period, Baker Hughes is subject to oversight by an independent Monitor for three years. The monitor, as in prior cases, will be required to make periodic reports and recommendations to the Department of Justice, the SEC and the company.
Although under both the deferred prosecution and plea agreements the Department “specifically reserve the right to request” information and records covered by the attorney-client privilege and the work product doctrine, presumably in order to comply with the McNulty Memorandum, Baker Hughes may withhold such materials “upon written notice” to the Department that specifies the “basis for the claim” as well as a description of the information that is withheld. In such a case, the Department, however, “may consider this fact” in deciding if the company fulfilled its cooperation requirement.
Lastly, Baker Hughes may not make any statement “contradicting” its acceptance of responsibility for the conduct charged in the Information filed with the court or the information set out in the statement of facts appended to the deferred prosecution agreement. If the Department determines that such a statement has been made, Baker Hughes is required to “publicly repudiat[e]” it within two business days.
As noted, the Baker Hughes deferred prosecution agreement and the plea agreement with Baker Hughes Services incorporate many of the provisions in the Aibel Group Limited deferred prosecution agreement and the plea agreements with the Vetco Gray defendants, including the reiteration of the commitments made to the Department of Justice in July 2004 by the investment group which acquired the Vetco companies and related assets from ABB, Ltd. It, thus, appears that the Department considers these provisions to be the new standard for corporate compliance and due diligence. It is clear that the Department places the highest importance upon effective due diligence not only with respect to agents and consultants, but also regarding all business relationships with “teaming partners, joint venture partners and all other persons and entities acting on behalf of” companies subject to the FCPA or U.S. commercial bribery laws. In the Department’s charging documents and statements of facts and in the SEC Complaint, both agencies emphasized that non-existent or minimal due diligence will not be accepted, and that post-retention oversight of these parties is just as necessary as pre-retention due diligence.
Although the size of the fines and disgorgement may lead some to question whether Baker Hughes was justified to make a voluntary disclosure, the $11 million criminal fine could have been substantially higher. The maximum fine under the alternative fine provision, 18 U.S.C. § 3571(d), could have subjected the company to a penalty twice its $19.9 million profit or $39.8 million. It is also conceivable, on the facts charged in the pleadings filed by the government, that numerous counts in violation of 15 U.S.C. §§ 78dd-1 or 78dd-2 could have been brought against Baker Hughes, including at least 100 counts based on the funding of the payments and the transfer of funds to the London account of one of the several agents used. Thus, the aggregate penalty might have been in excess of $200 million on the antibribery violations alone.
Additionally, in light of the fact that it has been publicly reported that the Department and the SEC are currently investigating several companies that are alleged to have made illicit payments far in excess of the payments involved in this case, and if the two agencies continue to seek penalties in amounts sufficient to constitute a deterrent to the charged entity and to others, the penalties against Baker Hughes and Baker Hughes Services may, in the future, appear relatively small.