Q4 2018

Notes on a scandal

In early 2018, Óscar Centeno, a driver for an ex-official in Argentina’s ministry of public planning, turned over a box of handwritten notebooks to newspaper La Nación. In doing so, he sparked Argentina’s largest ever investigation into graft.

Notes on a scandal Carlos Mena Labarthe, Fernando Almeida and Diego Parise

The notebooks list alleged corrupt payments made between 2003 and 2015 that could total upwards of US$30 billion. Details of what happened are still emerging, but plea bargaining entered into by a few key players has provided some key facts: a club of construction companies was assembled to bid for public contracts, whereby the companies agreed to pay a percentage of the contracts (between 15 and 20%) back to the government officials in bribes.

A panel at Latin Lawyer Live Capital Markets – which took place in November in São Paulo – considered what the ‘notebooks scandal’ means for capital markets activity in Argentina and what the effect on deal flow is more generally for other countries in the region fighting corruption. Fernando Almeida of Gibson, Dunn & Crutcher in São Paulo moderated, and the speakers were Diego Parise of Mitrani, Caballero & Ruiz Moreno in Buenos Aires, Renato Tastardi Portella of Mattos Filho, Veiga Filho, Marrey Jr e Quiroga Advogados in São Paulo, Carlos Mena Labarthe of Creel, García-Cuéllar, Aiza y Enríquez in Mexico City and Cynthia Catlett of FTI Consulting in São Paulo.

Fernando Almeida: Today, post-scandal, what is your sense of appetite for dealmaking in Argentina?

Diego Parise: It’s difficult to talk about the post-scandal era because the investigation is still ongoing. We are a long, long way away from knowing what will happen. It’s also difficult to say for sure that this will have any significant impact on dealmaking, for two reasons: the first is that the Argentine economy is struggling and it’s very difficult to distinguish what is attributable to corruption and what is attributable to the poor investment climate. I think the latter is probably more important at this point in time than corruption.

Almeida: Does the Argentine legal system provide for leniency agreements by corporates?

Parise: The regime for leniency agreements for individuals was introduced broadly in 2016. The regulations essentially give the judge and the attorneys some flexibility to enter into agreements to reduce penalties depending on the crime. It can go as low as one-third of the lowest range of the penalty but on average it tends to be half of the corresponding penalty. There are of course some conditions: the data provided has to be verifiable, useful and precise and must be significant for actually reaching a conviction against bigger fish than the one that has entered into the leniency agreement. The notebooks investigation has advanced through leniency agreements and there are currently about 26 people – government officials and business people – who have entered into those agreements. Corruption crimes and leniency agreements applicable to legal entities for such crimes were only introduced in March 2018.

Almeida: Renato, how has enforcement of Brazil’s anti-corruption legislative framework impacted investors’ appetite for dealmaking?

Renato Tastardi Portella: Car Wash affected dealmaking a lot, especially capital markets deals or deals involving public companies, where corruption is a very sensitive issue. But despite this, we still saw a lot of deals happening in Brazil. Buyers had a good appetite and in many cases assets were not tainted by corruption. There is room for negotiating on assets that belong to a big economic group somehow implicated in the investigation, such as the infrastructure groups. We also saw cases where the asset was tainted by corruption but, if the company settled with the authorities, the authorities assured the buyers that they would not bring a case against them, which gave them some comfort. Due diligence – specifically compliance due diligence – became very critical. The whole process became much more time-consuming, but it’s the only way of providing some comfort to the buyers.

Almeida: What are you seeing from authorities in terms of providing a roadmap to practitioners to avoid successor liability?

Portella: It’s not very clear from the regulations. Our view is that if the buyer doesn’t benefit from the scheme, that can be a good argument to avoid successor liability. If the target was tainted by corruption, the target will always be liable – but successor liability for the buyer is not criminal liability. In Brazil we don’t have corporate criminal liability except for environmental crimes. We also advise our clients to perform compliance due diligence to mitigate risks and negotiate clauses in the agreements to get some protection from the sellers.

Almeida: Carlos, any major corruption scandals affecting dealmaking in Mexico that you can share with us?

Carlos Mena Labarthe: Mexico is not doing well in the fight against corruption. Major reforms regarding a new national anti-corruption system entered into force last year, but the problem is that there has been no implemen­tation. There are now sanctions against companies and individuals that were not previously in place, and a major change to do with the promotion of compliance programmes. The law provides that if you have an integrity policy in place and it is effective, then you will be credited for that when you are sanctioned for corruption as a company, so companies are now implementing integrity policies. In terms of dealmaking, we are of course seeing a higher level of scrutiny in due diligence. We see the use of more consultants, IT forensics and more technology to review transactions and to review the status of the fight against corruption within a company.

Almeida: Cynthia, what is transaction testing, and when do you see it come into play in the context of dealmaking?

Cynthia Catlett: Transactional testing is when you make a risk-based approach and select potentially high-risk transactions for testing. So you see whether there are contracts in place, invoices, purchase orders, or anything that would actually substantiate that contracting practice. In the past we only used to do transactional testing for entities that had some US exposure or potential liability, or that had reporting obligations with the SEC. But nowadays we do transactional testing sometimes for very small deals, just really to manage the reputational risk that this potential target could have to the entity that is acquiring them. With that, we’re seeing a lot of resistance with regard to information sharing, because companies that are not susceptible to US law are not understanding of the invasiveness of these procedures.

Almeida: Is this change a result of what occurred with Lava Jato?

Catlett: Yes, I think so. In the past we only did transactional testing for companies that had some US exposure and recently, in the past two to three years, I’ve worked a lot with Renato’s team on managing anti-corruption and AML risk.

Almeida: Renato, in a Brazil-to-Brazil financing or M&A transaction would you see transactional testing, integrity background checks and reputational due diligence working as a separate element of the regular transactional due diligence process, even if there is no US component?

Portella: That is more rare – background checks, yes, that’s something that we have been doing more frequently, but transaction testing – this is something that we see more in cases where either the company is already affected by an investigation and you have some reason to suspect that there might be other transactions that the company engaged in and that may be problematic in the future. It’s not as common as background checks.

Almeida: Diego, is anything changing in Argentina?

Parise: The issue that we are facing today – this is probably the issue that most practitioners are focused on – is how to reconcile the big infrastructure programme that the government is trying to develop with the risk that pre-existing contracts be voided. There’s not much concern about criminal liability attaching to companies, but there is concern about the risk of existing concessions or existing government contracts falling apart and that reducing the value of the entities. One could argue that if the main executive or controlling shareholder of a construction company is convicted of corruption, that could result in the contracts being voided, but if you have all the construction companies in the country compromised, that essentially compromises the entire infrastructure programme. An opinion issued by the Attorney General tried to reconcile that and came up with the position that the conviction of a director or officer does not extend automatically to the company, and, therefore, such conviction would not determine per se that the contract should be voided. But it’s a debatable interpretation.

Mena: A very important spill-over effect of Lava Jato is how it has become much more difficult to contract with state-owned enterprises throughout the region. For example, in Mexico it has become very, very difficult to contract with Pemex. You have to fill out these complicated forms where they ask for so much information, and sometimes, even as a lawyer, you don’t want to work with them because it’s just so complicated.

Almeida: Any tips you would give clients who have been involved in corruption investigations on what procedures they should implement to increase the chances of success in their proposed deals?

Portella: Try to be as transparent as possible because if, as a result of the due diligence of the counter­party, they find out something about a company that was not spontaneously disclosed by the target, that would probably affect the flow of the deal.

Almeida: Cynthia, are US buyers more sensitive to surprises than Brazilian buyers?

Catlett: I think you’d be surprised – in Brazil there has been this cultural shift. The element of surprise is not good for foreign or local clients.

Parise: The point about avoiding surprise and prioritising transparency is key. I haven’t seen any deal not close due to corruption issues. People are able to structure deals around them, whether by doing them as asset deals or by including the appropriate covenants and indemnity provisions, or by including proper disclosure. What kills a deal is the corruption issue essentially exploding in your face when you’re trying to market a deal, or between signing and closing. So an early alert of what is going on is always important if you want to get a transaction to completion.

Almeida: Post-Car Wash, some of Brazil’s major issuers developed compliance programmes and robust compliance functions in response to the corruption investigations. Some of these major issuers have also been more proactive in investigating internal allegations. Does having a compliance department – including internal investigation teams – in-house mean these entities are reluctant to spend on external counsel and forensics teams to handle internal investigations?

Portella: Yes, we see a lot of cases where the company uses their internal resources and the external counsel will only provide some guidance in certain aspects but not conduct the whole investigation. That’s something that we’re seeing happening in Brazil but it also depends a lot on the nature of the allegations. If the nature of the allegations implies criminal liability, for example, then of course it’s something more delicate and will probably require external counsel to provide advice at least on the criminal aspects.

Almeida: Carlos, have companies in Mexico rolled out significant compliance programmes and internal departments, and, if they have, are they relying on external counsel more often?

Mena: Yes, we’ve seen some shift in the compliance programmes of major companies, for example in general you see better communication of policies and more training, mainly done by third parties. Part of our job at the firm is to provide this kind of training for firms. In general they want to have someone from the outside giving these training sessions. You also see more checks and balances within companies, which can mean more people coming in as external consultants or external counsel to help review what other parts of the company are doing. We’re also seeing the increased use of whistle-blowers and externally managed hotlines, which can be managed by law firms, as well as the use of monitoring of screens, to monitor irregular activity in general, not just corruption.

Almeida: Are hotlines becoming more prevalent
in Argentina?

Parise: Yes, and typically they are managed by the internal audit department. Generally speaking, I’d say that internal investigations in Argentina, probably due to a cost issue, are typically handled by the internal audit department or the compliance department, and external counsel only gets involved to provide guidance. There is also an element that I wouldn’t say is unique to Argentina but is somewhat different from the experience in Brazil, in Mexico or even in the US, which is that conducting an internal investigation in Argentina without the supervision of a court is a challenge. There is very clear guidance from the criminal courts in Argentina that, essentially, if you don’t do it with court supervision, the evidence is not admissible. This limits the usefulness of internal investigations as a tool to convict people of crimes. It is a very useful tool for purposes of mitigating criminal sanctions to a company or for purposes of determining sanctions, but unless the case law were to change it creates issues if you’re actually trying to prosecute the people who have been involved in corruption. It’s difficult to reconcile what the universal practice is on compliance and internal investigations with the case law in Argentina.

Events

Events

LACCA Live 10th Regional São Paulo Meeting 2019

Events

Latin Lawyer 13th Annual Charity Awards Ceremony

Insight

Reference

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Construction

Chile

Alfonso Reymond Larraín and Rodrigo Riquelme Yanez

Reymond & Cía

Brazil

Fernando Marcondes, Ricardo Medina Salla, Marlon Shigueru Ushiro Ieiri, Adriana Regina Sarra de Deus and Juliana Yumi Shiina Morato

LO Baptista

All Reference

Guides

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The Guide to Infrastructure and Energy Investment

How to Build Up a Region: Development Banks and Multilateral Financing

Thomas Hechl and Vanessa Pinto Villa

Hogan Lovells LLP

The Role of Project Finance in Developing a Region: Trends and Considerations

Andrés Arnaldos Montaner , Daniel D Bartfeld , Jaime E Ramirez and Roland Estevez

Milbank, Tweed, Hadley & McCloy LLP
All Guides