There has been a fair amount of attention given recently to actual and alleged violations of the FCPA and the impact they may have on director, officer and company defendants in securities fraud class action litigation, and unfortunately prevalent myths and realities about the FCPA among D&O insurers.

While the undisputed reality is that there is no direct private right of action for violations of the FCPA, the concomitant myth that has arisen is that the FCPA should not be a cause of concern for D&O insurers.

The FCPA has received only a modicum of attention from D&O insurers since the 1980s, primarily because of the absence of private rights and remedies and the fact that the remedies are typically in the nature of civil penalties excluded from coverage.  If anything, the incidents of FCPA violations only served as reminders to insurers of the perils of writing these types of financial insurance products outside the U.S.

Last year, however, the SEC brought some renewed attention to the FCPA by announcing the filing and settlement of an enforcement action against Nature’s Sunshine Products Inc. and its CEO and CFO.  The company paid a penalty of $600,000 and the CEO and CFO each agreed to pay $25,000.  While the penalties are not shocking, the theory of recovery against the officers – Section 20(a) of the Securities Exchange Act of 1934[1] – has garnered much attention in the legal press and blogosphere.

Prior to this, FCPA enforcement was largely in the form of Department of Justice (DOJ) criminal proceedings.  In the Nature’s Sunshine case it would have been difficult, if not impossible, to establish criminal liability of the officers under the FCPA, as they appeared not to have been directly involved in the alleged bribery at issue.  Instead, the SEC took an arguably easier route to a §20A settlement based upon their “control” of, and responsibility for, the company’s export of products.

As stated above, the quantum of the penalties here does not shock, but what should be borne in mind is that §20A is often used as a theory of liability by private litigants in securities fraud, class actions where the settlements often run into the tens or hundreds of millions of dollars.   Although the cost of legal representation in connection with a SEC investigation, if not the imposition of a penalty, is often a covered and significant amount under many D&O policies, the specter of class action damages and the concomitant defense expenses is what should be even more worrisome.  Indeed, Nature’s Sunshine may not be an aberration, as the author is representing an insurer in a major securities class action with FCPA undercurrents that is proceeding to mediation within the next few weeks.   While there are not, and cannot be, any directly actionable FCPA violations in that case, the allegations of the violations as a method of doing business will no doubt be argued by plaintiffs as indicative of the fraudulent nature of the business enterprise, much akin to the practices at issue in the Enron litigation earlier this decade.

In summary, the civil exposure would lie not in the direct FCPA violation, but rather in one’s culpability as a control person because of the corporate structure in place and a failure to adequately supervise or supervise at all.

Violations of the FCPA may develop in to yet another factor that makes for a potentially severe D&O exposure, along with restatements of earnings, pendency of a SEC investigation, excessive insider sales and purchases and other factors.

On November 11, 2010, I will be moderating a panel of speakers at the Professional Liability Underwriting Society’s (PLUS) Annual International Conference in San Antonio, TX on this topic.  The Conference runs for three days from November 10 through 12 and has many worthwhile panels on a wide variety of topics of interest to D&O and E&O insurance professionals.  For additional details visit the PLUS website at www.plusweb.org.

[1] The statute is as simple as it is broad in its application. “Every person who, directly or indirectly, controls any person liable under any provision of this chapter or any rule or regulation thereunder shall also be liable jointly and severally with and to the same extent as such controlled person to any person to whom such controlled person is liable, unless the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the violation or cause of action.”