Companies cannot be sent to jail, so all a court can do is say you will pay ‘x.’ We can say: ‘you will also have a monitor and will do all sorts of other things for the next five years, and if you don’t do them for the next five years then you can still be prosecuted.’ . . . In the United States system, at least, it is a more powerful tool than actually going to trial.
— U.S. Assistant Attorney General Leslie R. Caldwell, December 2014
Who runs the world’s most lucrative shakedown operation? The Sicilian mafia? The People’s Liberation Army in China? The kleptocracy in the Kremlin? If you are a big business, all these are less grasping than America’s regulatory system. The formula is simple: find a large company that may (or may not) have done something wrong; threaten its managers with commercial ruin, preferably with criminal charges; force them to use their shareholders’ money to pay an enormous fine to drop the charges in a secret settlement (so nobody can check the details). Then repeat with another large company.
— The Economist, August 2014
Over the last ten years, American prosecutors have emerged as a new force regulating businesses, both domestic and foreign. A series of out-of-court—indeed, non-court—“settlements,” known as deferred prosecution agreements (DPAs) and non-prosecution agreements (NPAs), have imposed on businesses both hefty “fines” (totaling more than $30 billion in the last six years) and extensive, specific mandates from the U.S. Department of Justice (DOJ) that affect management and business practices. Without any adjudication to establish wrongdoing and without any judicial oversight, businesses have agreed through these settlements to remove or replace key officers and directors; to change sales, marketing, or compensation plans; and to appoint new officers or independent “monitors” reporting to prosecutors but paid by the companies. We at the Manhattan Institute have dubbed the new world of DPAs and NPAs “the shadow regulatory state.”
Just how new is the shadow regulatory state? The first federal NPA was entered into between the DOJ and Salomon Brothers in May 1992. In the first decade of these agreements’ existence, the federal government entered into 14 DPAs and NPAs. In the last decade, the government entered into 303. The U.S. government agreed to one NPA in the first Bush administration, 11 DPAs and NPAs in the Clinton administration, 130 in the George W. Bush administration, and 190 in the first six years of the Obama administration.
Just how broad is the shadow regulatory state’s reach? Since the beginning of 2010, 16 of the 100 largest U.S. businesses by revenues have been under the supervision of federal prosecutors through a DPA or an NPA—as have another 13 of the world’s 300 largest companies headquartered outside the United States.
This report focuses on DPAs and NPAs reached between the U.S. government and businesses or individuals in 2014. Last year, federal prosecutors entered into 30 DPAs or NPAs with companies. In addition, the Securities and Exchange Commission entered into an NPA with an individual—the second such arrangement in American history, following one in November 2013. Total fines and penalties collected under DPAs and NPAs in 2014 totaled $5.1 billion.
Through specific case studies, this report explores three key issues that arise under the shadow regulatory state:
- Enforcement efforts can undermine compliance. As shown through a plea agreement, a DPA, an NPA, and a cease-and-desist settlement entered into between the U.S. government and Hewlett-Packard and its foreign subsidiaries, federal prosecutors often punish companies notwithstanding extensive compliance programs, even when the companies self-report offenses and even when “rogue” employees go to extraordinary lengths to hide misconduct from their employers. Such a “strict liability” enforcement strategy may deter companies from developing effective compliance regimes.
- The DPA-NPA process lacks definite terms and judicial oversight. As shown through the federal government’s decision to extend a two-year DPA with Standard Chartered Bank for an additional three-year term, without any proffered evidence of additional wrongdoing, federal prosecutors’ authority in the DPA-NPA process is supreme. These agreements typically grant prosecutors the sole authority to determine whether an agreement has been breached. Indeed, the Department of Justice argues that federal judges have no authority over DPAs, beyond ensuring that such agreements comply with the terms of the Speedy Trial Act.
- The DPA-NPA process is ill-suited for application to individuals. One concern about the increased use of DPAs and NPAs by the federal government is that they give prosecutors broad powers over businesses, notwithstanding that, more often than not, no individual is ever prosecuted for any underlying offense alleged in the agreement. The recent decision of the Securities and Exchange Commission to apply DPAs and NPAs to individuals—acquiring significant authority over people’s lives and retaining the ability to prosecute, essentially at prosecutors’ discretion—is a troubling new application of this power. The NPA reached with an unnamed individual in a 2014 insider-trading investigation exemplifies these concerns, as the alleged misconduct itself most likely does not constitute insider trading under current law.
Notwithstanding the lack of judicial oversight in the shadow regulatory state, two judges asserted new authority over this process in 2014—continuing a trend observed in 2013. Ultimately, however, reforming the shadow regulatory state requires legislative action. Part IV of this report discusses one proposed solution, the Accountability in Deferred Prosecution Act, sponsored by U.S. Representative Bill Pascrell, Jr. (D-N.J.). Although this proposed legislation does not go far enough to address some of the serious problems with DPAs and NPAs, the legislation would add substantial clarity, transparency, and oversight, as compared with current practice, and is a great starting point for much-needed reform.