Editor: Please tell our readers about your practice at Ernst & Young.
Loughman: The Fraud Investigation & Dispute Services practice is a national practice comprised of approximately 60 partners and a staff of more than 400. Our services include forensic accounting investigations of alleged fraud (eg. accounting fraud, occupational fraud, etc.) and investigations in relation to the Foreign Corrupt Practices Act (the "FCPA").
Editor: When you are called to assist with an investigation, is that call generally made by the general counsel or that company's outside lawyers?
Loughman: In my experience it varies based on the circumstances; the larger the matter in terms of potential importance or relevance, the more likely that the outside lawyers make the call. However, if it is of a routine or a less significant nature, such as an allegation of improper conduct, an allegation of embezzlement, an allegation of some internal compliance issues, then those calls often come from the general counsel or even internal auditors. Although each situation is unique, general counsel call us more often on FCPA matters, whereas we tend to get more calls on accounting-fraud or a whistleblower complaint from outside counsel.
Editor: What procedures are followed at the start of an investigation?
Loughman: We are retained by counsel (either outside counsel or general counsel or both, depending on the nature of the issues) and work under their direction in these matters. In many respects the most important phase of an investigation is in the first 48 to 72 hours when you are often faced with a rapidly escalating situation while at the same time you have to make certain you effectively address many issues the handling of which will have much greater significance towards the end of the investigation. As a first step you have to make sure that you secure the relevant evidence - the books and records of the company including electronic documents. This buys you additional time in which to do a careful analysis.
The second step to be taken in the same timeframe is to do an early assessment of what you think you are dealing with in terms of scoping out the investigation. Assume for a moment there is a whistleblower allegation. It may at first appear to be a fairly narrow allegation, but after researching it you realize that it could be much more significant, and you have to start thinking about whether document-retention protocols need to be applied more broadly as a prophylactic measure, or whether you may need to think about expanding the scope of the work.
You also have to develop an initial list of who the interview candidates will be. Once you design those procedures, they will likely change frequently because the nature of any investigation is such that it is going to be led by facts that are ever changing, leading to consistently adjusting your approach, and doing so in a consensus fashion with interested counsel.
Editor: How do you assist outside counsel and in-house counsel in pursuing an investigation of potential malfeasance or fraud inside a company?
Loughman: In different ways depending on the circumstances. If we have a matter that arises from a specific allegation that will likely not be material to the overall company's financial statements, we would often work with in-house counsel, developing a scope that will gather as much relevant information as possible from the books and records of the company to help address the investigative objective. In this situation we would typically help general counsel look at the allegation, reduce it into a series of alleged investigative issues which need to be either validated or refuted. We then suggest some steps general counsel would take to help build a fact pattern around those issues. Depending on the nature of the issues, you could either do very detailed testing, or some sampling of the books and records. This process produces information for the general counsel to begin to make decisions: Does this look like it's a valid allegation?, Does it look like it's invalid?, Or is it grey?. We would then help counsel interview employees, particularly if it relates to an accounting problem - being present at those interviews. Since we are retained by the general counsel, there is a legal privilege over the work product, and we follow various administrative protocols to make sure that the privilege is maintained.
If we are teaming with outside counsel, who typically would have been retained by the audit committee or a special committee of the board because a potentially much more material issue is involved, the interaction with general counsel might be more one of information exchange or updating rather than taking direction. The scoping and decisions on the approach would be with outside counsel.
In a restatement-type situation or one involving accounting fraud, the accounting can often seem like a foreign language to lawyers - it is very important that they work with us so that we can demystify what they need to look for, what books and records are likely to be more relevant, what kinds of internal controls might be at issue, and what remediation may be appropriate.
Editor: What if there's malfeasance among the officer corps - do you still pull in the general counsel?
Loughman: This is typically a question that outside counsel and the audit (or special) committee decide. If you're dealing with a potential C-suite allegation, general counsel has a legitimate need to understand what is going on in order to fulfill his/her responsibilities. Typically, we set up an information exchange protocol with outside counsel which is designed to maintain the privilege but convey relevant facts to the general counsel. In that way you keep the general counsel updated, but he does not have the same insight as he would have if he were directing the investigation.
Editor: How does your work share in the attorney-client privilege so that you are not foreclosed from having all the facts an investigation brings to light?
Loughman: Our work is protected by the attorney-client privilege in the sense that we are retained by counsel, and we follow various protocols to ensure that all of our documentation is appropriately stamped, all of our communications are controlled and managed such that counsel is present or at least has authorized the discussion; our work typically enjoys the same protection as if it were prepared by the attorney.
Editor: If you are called by Justice to testify about the results of an investigation in which you participated with outside counsel, you can invoke their privilege as their agent provided they invoke it. Suppose they capitulate, do you have to disclose your information as well?
Loughman: In most situations, we allow for that situation in our engagement letter. We recognize that we don't own the privilege; the privilege belongs to the company or the audit committee, and if they decide that there is to be a waiver, we will follow what the company wants us to do. Generally speaking, one value we often bring to a company in these situations is to meet with the DoJ or SEC, often on a voluntary basis, to talk about our scope and report findings. In my experience, that's often a helpful situation for a company as we bring a fresh perspective to the matter. If it is a material matter, it is important to have advisers who won't be challenged and who command the respect of the regulators.
It is important to note that the facts are what the regulators want to understand. The process and the procedures followed in an investigation have to be unassailable, they have to be objective, not influenced by emotion or value judgment. And as long as you remember those broad guidelines, that will help give some comfort to the regulators.
Editor: Are you often called to do FCPA investigations?
Loughman: With the confluence of events that have led to much greater enforcement by both Justice and the SEC on the FCPA, we're finding that FCPA activity is a significant part of our practice, and one area with which I have had significant interaction with general counsel. For example, we've helped general counsel proactively perform FCPA risk assessments and have devised procedures that internal audit or in-house legal can follow in order to enhance compliance and monitoring. Many companies that traditionally would have had very little exposure to the FCPA today have geographically diversified operations which give them concern, especially if the company has no in-house legal presence in a high-risk location (such as China).
Editor: How do you staff an internal investigation that involves foreign subsidiaries?
Loughman: We have a global practice where we have similar professionals in all the major regions around the world but our staffing depends on the nature of the matter. If it's a relatively straightforward matter, we can call our correspondent forensic professionals and get them directly involved. But if it's a more complex matter with activity in a host of locations which needs to be coordinated and synthesized efficiently, we'll typically use a joint U.S and local team. We utilize our local resources because of their knowledge of the language and culture issues. We cannot go into a foreign location and do an American-style investigation and expect everybody to be happy; you have to be very sensitive to the kinds of cultural issues that are at play there, particularly because you're often dealing with valued company employees and at times the allegations on the table may be grey. We typically have some senior U.S. folks running the team. I recently pursued a matter which involved FCPA issues in Brazil, China, Poland, and Mexico. In each location we had some of our local forensic professionals join the team, but we had two or three U.S. professionals go out for a shorter period of time who did the interviewing and analysis. By using local personnel we also reduced costs.
Editor: Do you see the forensic accountant's role changing as a result of the importance of e-discovery, Section 404, and greater emphasis on FCPA enforcement?
Loughman: We do a tremendous amount of work in the e-discovery area which was not done as recently even as the '90s. Electronic-discovery is a significant element of any major investigative project. With the recent changes in the FRCP, we are also being retained by general counsel to assist with records management processes that incorporate the FRCP requirements.
From a forensic accountant's perspective, Section 404 has helped highlight the importance of internal controls and the importance of a strong control environment. The legislation has also helped increase awareness of the importance of investigations in understanding allegations of fraud or malfeasance.
Without a doubt there has been a tremendous upsurge in awareness and enforcement of the FCPA. There is also a tremendous increase in similar anticorruption enforcement activity around the world. The Department of Justice over the last few years seems to be integrating its efforts to a degree with overseas prosecutors in sharing information and know-how. Many of the companies we deal with also have to grapple with OECD-type anticorruption issues or UN charter anticorruption issues or even local issues overseas. So what is probably the biggest fundamental change in our investigative work is the need to have immediate capability to put skilled forensic resources with local knowledge on the ground in many of these overseas environments - you cannot manage these types of allegations from a distance because the issues at stake are far too great.