Prosecutors in the Compliance Forest

This article is the third in a three-part series about the legal arrangements federal prosecutors reach with financial firms in lieu of criminal prosecution. Read parts one and two from earlier this week.

What happens when you ask a federal prosecutor to rewrite the rules for a megabank? Sometimes, not a whole lot.

At least, that’s what some experts are saying about the legal arrangements, known as a deferred prosecution agreements (DPA), that require badly-behaved firms to meet new compliance standards. In return, the banks signing the agreements avoid criminal prosecution.

Critics of this practice have a timely poster child. In 2012, HSBC Holdings Plc forfeited $1.25 billion when it entered into a legal arrangement with federal authorities following allegations that the British bank failed to prevent money laundering and violated U.S. sanctions.

This week, prosecutors revealed that the independent monitor tasked with ensuring the terms of the agreement are met is saying HSBC needs to do more to meet the goals agreed upon in 2012.

The alleged lapse is the latest example of what many in the legal community are saying is a shortcoming in the use of DPAs and similar arrangements known as non-prosecution agreements.

“I’m not sure that prosecutors have any particular expertise in addressing corporate cultures,” said Jed Rakoff, a U.S. judge serving the southern district of New York. At the same time, he was quick to level the same charge against his peers: “That could also be said of judges.”

The Obama administration says these arrangements are a useful tool for rewriting internal compliance programs for companies who have flouted the law.

“Through those agreements, we can often accomplish as much as, and sometimes even more than, we could from a criminal conviction,” Assistant Attorney General Leslie R. Caldwell of the Justice Department’s criminal division said in a March 16 speech. “These agreements can enable banks to get back on the right track, under the watchful eye of the Criminal Division and sometimes a court.”

Despite the vote of confidence from the Justice Department, some former law enforcement officials are questioning whether the agency is sufficiently experienced in building corporate compliance programs.

Part of the problem is that prosecutors “haven’t been a compliance-and-ethics officer,” said John Hanson, who spent nearly a decade as a special agent investigating white-collar crime for the Federal Bureau of Investigation. “They don’t fully appreciate and grasp how a program is supposed to function as a system and that this particular criminal violation is just one symptom of a larger problem.”

“They’re trying to treat the trees and missing the forest.” – John Hanson, Artifice Forensic Financial Services LLC

Not everyone shares that view. Stuart Berman, a lawyer at the Washington law firm London & Mead who spent 28 years with the Justice Department, contests the claim that prosecutors are in the dark when it comes to putting together these agreements.

“You’re always dealing with people with a lot of experience with white-collar prosecution,” Berman said in an interview.

However, critics of these arrangements point to the high rate of recidivism among corporations that receive DPAs.

“We have companies that have received deferred prosecution and non-prosecution agreements multiple times in a short span of time,” Brandon Garrett, a University of Virginia law professor who has written a book on the subject, said in an interview. “It seems like the agreements aren’t working and serious problems still remain at some companies.”

The Justice Department responded to a request for comment by referring to a series of memoranda concerning monitoring of deferred and non-prosecution agreements, though, not all deferred and non-prosecution prosecution agreements have such watchdogs appointed.

Hanson, who now specializes in monitoring these types of agreements as executive director of Artifice Forensic Financial Services LLC, said that as a matter of policy prosecutors “tend to focus very specifically on the underlying misconduct.”

“They’re not looking at the overall corporate compliance and ethics program in the agreement and so they’re not really curing the big issue,” he added.

And because the agreements target only a segment of a company’s compliance program, a DPA reached over allegations of, say, currency manipulation might not address larger corporate issues that could be the root cause of future offenses, such as money laundering.

“They’re trying to treat the trees and missing the forest,” he said, referring to federal prosecutors.

Garrett’s research seems to provide support for Hanson’s assertion that DPAs are too narrow in their compliance reforms.

“The firms with repeat agreements are almost all agreements concerning different violations and/or different time periods,” Garrett wrote in an email. “That said, we have little way of knowing to what degree companies fixed the problem since the work of implementing these agreements is typically nonpublic.”

Hanson points to a 2008 Justice Department memorandum written by then-Acting Deputy Attorney General Craig S. Morford that lays out the guidelines for establishing corporate monitors in deferred and non-prosecution agreements. One of eight guiding principles laid out in the memo says that a third-party, independent corporate monitor should focus specifically on preventing the same corporate violation from recurring.

“A monitor’s primary responsibility should be to assess and monitor a corporation’s compliance with those terms of the agreement that are specifically designed to address and reduce the risk of recurrence of the corporation’s misconduct, including, in most cases, evaluating (and where appropriate proposing) internal controls and corporate ethics and compliance programs,” the memo states.