The filing of a shareholder class action has become routine following a drop in stock price after the revelation of adverse news about a company. Allegations of corruption at a public company are proving to be no different, as the recently filed putative shareholder class action against oil and gas company PetroChina Company Ltd. (“PetroChina”) demonstrates.

THE CHINESE GOVERNMENT INITIATES A CORRUPTION INVESTIGATION

Evidencing the Chinese government’s continued campaign against graft, on August 27, 2013, the Communist Party’s Central Commission for Discipline Inspection reportedly disclosed its investigation into the alleged “severe disciplinary violations” of a deputy general manager of China National Petroleum Corporation (“CNPC”), PetroChina’s controlling shareholder.1 In China, a “severe disciplinary violation” is considered to be a euphemistic term for corruption.2 That same day, PetroChina filed a Form 6-K with the U.S. Securities and Exchange Commission (“SEC”), announcing that three PetroChina senior executives were under investigation by “relevant PRC authorities.”3 PetroChina stated that all three had resigned, effective immediately, from their respective positions “due to personal reasons.”4 The three executives include a vice president of both PetroChina and CNPC; an executive director, vice president and head of PetroChina’s Changqing oil field; and a chief geologist.5

Three days later, Hong Kong’s newspaper South China Morning Post reported that “[t]op Communist Party leaders” had agreed to initiate a corruption investigation into the conduct of a former CNPC senior manager, who also was a former member of the Politburo Standing Committee and a purported ally of Bo Xilai (whose own trial for corruption only recently concluded after very public hearings and intense public interest).6 And as of September 1, 2013, the Central Commission for Discipline Inspection appears to have extended its investigation to include the former chairman of PetroChina and CNPC,7 resulting in his removal on September 2, 2013 as head of the State-Owned Assets Supervision and Administration Commission (“SASAC”), a commission charged with oversight of China’s state-owned companies.8

There is speculation in the global press that the Chinese investigation may trigger the interest of U.S. regulatory authorities.9 PetroChina’s controlling shareholder, CNPC, is a state-owned entity. Thus, U.S. regulators would view the relevant executives as “foreign officials” under the Foreign Corrupt Practices Act (“FCPA”). And at the same time, those same “foreign officials” are executives of an “issuer” subject to jurisdiction under the FCPA because PetroChina’s American Depository Shares (“ADSs”) trade on the New York Stock Exchange.

DAYS LATER, A PUTATIVE SHAREHOLDER CLASS ACTION FOLLOWS

Just days after the announcement of the PRC corruption investigation, on September 4, 2013, a putative shareholder class action was filed against PetroChina and four of its current and former officers in the Southern District of New York. The complaint alleges violations of the Securities Exchange Act of 1934 and SEC regulations.

The crux of the complaint is that the purported corruption-related activities of PetroChina’s senior executives render false and misleading several of PetroChina’s public statements regarding the executives’ compliance with U.S. securities laws and with PetroChina’s ethical and corporate governance codes. These are precisely the types of allegations one would expect following disclosure of corruption-related issues, i.e. allegations that the company and its directors and officers made false and misleading statements or omissions by failing properly to disclose the corruption issues, or by affirmatively stating that it was in compliance with securities laws and company codes of conduct.10

PetroChina is not the first PRC-based company with stock listed on a U.S. exchange to face a shareholder class action alleging failure to disclose corruption, further evidencing that Chinese companies have been, and remain, on the radar screen of the U.S. securities plaintiffs’ bar.11

CHINA’S CAMPAIGN AGAINST CORRUPTION CONTINUES

The anticorruption investigation into PetroChina has been widely characterized as an example of President Xi Jingping’s “campaign” against public corruption.12 It also is particularly notable that China is targeting corruption involving a major state-owned entity and high-level officials—seemingly reinforcing China’s promise to target both “tigers” and “flies” in its anti-graft campaign.

THE HIGH COST OF CORRUPTION FOR PUBLIC COMPANIES

The events over the past two weeks, culminating in the PetroChina class action lawsuit, serve as a stark reminder to public companies of the many risks and broad exposure to liability posed by corruption, especially in challenging markets like China. As China’s campaign against corruption continues and as governments around the world step up enforcement of anti-bribery laws, the risk of facing law enforcement and regulatory scrutiny for corrupt activities is higher than ever before. And, as the PetroChina lawsuit demonstrates, the potential liability extends beyond regulatory scrutiny. For public companies, shareholders also will seek to hold companies and their executives accountable for shareholder losses as a result of alleged corruption and its fallout. The costs of defending government investigations, litigating shareholder class action lawsuits, and the possible sanctions, fines and damages that could follow are significant—yet vastly understate the cost of corruption, which includes the severe reputational damage that a company can suffer as allegations of wrongdoing play out in the press around the world.