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Germany to tighten rules on corporate misconduct

July 2018  |  SPECIAL REPORT: WHITE-COLLAR CRIME

Financier Worldwide Magazine

July 2018 Issue


The recently signed coalition agreement stipulates substantial changes to Germany’s law on corporate penalties. Under the current proposals, the maximum amount of pecuniary penalties which may be imposed will increase to 10 percent of a corporate’s revenue. The plans also aim to incentivise cooperation with enforcement authorities and establish new rules regarding internal investigations.

In the German parliamentary election in September 2017, no single party secured a majority, leading to the formation of a coalition between the Christian-Democratic Union (Christlich Demokratische Union Deutschlands, CDU), the Christian-Social Union in Bavaria (Christlich-Soziale Union in Bayern, CSU) and the Social-Democratic Party (Sozialdemokratische Partei Deutschlands, SPD). The coalition partners presented their coalition agreement on 7 February 2018.

Against the backdrop of increased media scrutiny of allegations of tax fraud by German or international banks and financial institutions surrounding large-volume share transactions around the dividend-ex date (so-called cum/ex-transactions), of car manufacturers’ manipulations in connection with emissions testing of diesel engines, and of tax evasion schemes arising from the ‘Panama Papers’, the call for stricter rules on corporate misconduct has grown louder. The coalition partners responded to these demands by proposing a comprehensive reform of the law and revision of the penalties which may be imposed on corporates, specifically in relation to criminal misconduct committed by employees.

Under the current law, it is only possible to prosecute individuals under German criminal law, while German administrative offences law (Ordnungswidrigkeitenrecht) provides that corporate administrative fines (Unternehmensgeldbußen) may be imposed on corporates for company-related offences committed through the conduct of senior managers (Leitungspersonen). Generally, such corporate administrative fines can amount up to €10m for each individual case or exceed this amount in some cases where it is considered necessary to remove all the gains made by a corporate entity in connection with particular misconduct. In contrast, determining corporate administrative fines on the basis of a corporate’s annual revenue is provided under the current law only for breaches of antitrust or anti-money laundering laws (up to 10 percent) and for infringing capital market laws (up to 15 percent).

In addition, both current German administrative offences law and current German criminal law provide for confiscation of economic benefits gained by a corporate from criminal or administrative offences by way of forfeiture orders (Einziehungsanordnungen), without deducting any expenses that the concerned corporate entity had in connection with such criminal or administrative offences.

The changes proposed in the coalition agreement are reminiscent of different recent initiatives. In particular, there are clear parallels with the draft law on criminal liability of corporates and other legal entities (Entwurf eines Gesetzes zur Einführung der strafrechtlichen Verantwortlichkeit von Unternehmen und sonstigen Verbänden – Verbandsstrafgesetzbuch) put forward by the German Federal State of North Rhine-Westphalia of 2013 and the Cologne draft law on penalties for legal entities (Kölner Entwurfs eines Verbandssanktions-gesetzes) presented by the research group on corporate criminal liability at the University of Cologne in December 2017. The German Ministry of Justice is reported to have worked on a similar draft law in the last legislative period already. The passages in the coalition agreement may pave the way for this draft law to now be submitted to the legislative procedure under the new government.

Obligatory enforcement to replace discretionary decisions

At present, under the so-called ‘opportunity principle’ (Opportunitätsprinzip) in German administrative offences law, enforcement authorities currently have reasonable discretion as to whether – and, if so, to what extent – they impose penalties on corporate entities or whether they terminate investigation proceedings against that corporate without imposing a penalty. In contrast, the coalition agreement envisages obliging authorities to conduct investigations and, where wrongdoing is uncovered, to impose penalties.

This proposed obligation to enforce is supposed to be balanced by specific rules on when and how investigations may be concluded without imposing corporate penalties. The rationale behind these proposed rules is to provide the judiciary with the flexibility it requires in practice and to provide corporates with some incentive to proactively bring matters to the attention of enforcement authorities and cooperate with their investigations. The coalition agreement does not specify the particular circumstances in which such settlements may be reached or how in practice they may be agreed upon. However, judging from the abovementioned recent similar proposals, it may be expected that terminating investigation proceedings instead of imposing penalties will only be possible under clearly defined and relatively narrow conditions. For example, the draft law on implementing criminal liability of corporates and other legal entities proposed by the German Federal State of North Rhine-Westphalia of 2013 stated that relevant to the decision is whether or not a negotiated settlement may be appropriate, if the concerned corporate entity contributed to the uncovering of violations of laws by means of voluntary disclosure, if it cooperated with the investigative authorities, and if it implemented sufficient compliance measures to prevent further similar violations.

Increased pecuniary penalties

The coalition agreement proposes that, for corporate entities with annual revenue exceeding €100m, the maximum amount of pecuniary penalties should be 10 percent of the entity’s annual revenue in the future. This would be a significant increase compared to the current general maximum amount for corporate administrative fines of €10m. Based on the revenues of the 30 German DAX-listed companies in 2016, which amounted to between approximately €2.4bn and €217bn, pecuniary penalties of between approximately €240m and €21.7bn could, in the worst case, be imposed on corporates of that magnitude.

Other measures proposed in the coalition agreement include new specific and transparent rules for the determination of pecuniary penalties for corporate entities and ‘new punitive instruments’ (although the detail of these proposed instruments is not yet known). The draft law on implementing criminal liability of corporates and other legal entities by the German Federal State of North Rhine-Westphalia, however, envisaged, among others, forced dissolution of corporates as a last resort. In any event, following the international trend of ‘naming and shaming’, the coalition agreement stipulates that penalties imposed on corporate entities should generally be announced publicly by appropriate means, similar to the current practice in Germany with regard to corporate penalties in the field of capital market law.

Incentives to cooperate and rules for internal investigations

The coalition has made clear that it wishes to set incentives for corporate entities to contribute to investigation proceedings by means of internal investigations and subsequent disclosure of relevant findings vis-à-vis enforcement authorities. In practice, cooperation and voluntary disclosure are actually already factors weighing against the imposition of corporate penalties. Furthermore, German authorities and courts increasingly expect internal investigations or suggest them to corporates and their advisers. In a judgement of 9 May 2017, the German Federal Court of Justice (Bundesgerichtshof) also clarified that, when determining corporate administrative fines, the implementation of compliance measures designed to prevent repeated violations of laws is an important positive indicator, and that includes compliance measures that were introduced only after wrongdoing was uncovered and an investigation initiated. However, there is still a lack of clear guidance, as opposed to, for example, in the UK and the US where corporates can, in particular, increase their chances for a declination, a penalty reduction of up to 50 percent or a deferred prosecution agreement (DPA) through early and comprehensive voluntary disclosure and full cooperation according to applicable guidelines.

The coalition partners have indicated that it is their aim to eventually implement statutory rules governing internal investigations, especially regarding seizure of documents and circumstances in which dawn raids may be conducted. In this regard, the intended reform of the law on corporate penalties must be seen against the background of several proceedings pending at the German Federal Constitutional Court (Bundesverfassungsgericht) regarding the permissibility of a dawn raid and seizure of documents relating to an internal investigation conducted at the German office of a US law firm in March 2017.

Outlook and implications for financial investors

It remains to be seen whether or how the new government will actually implement the announced changes through a concrete draft law. In any event, corporates, banks and financial institutions should consider more carefully than ever whether the compliance measures aimed at preventing misconduct and the policies and procedures they have in place to conduct internal investigations and disclose findings in a timely and appropriate way, are sufficiently robust to help them avoid the worst consequences of the proposed new tougher penalties regime. Financial investors need to be aware of the potential consequences when considering an investment in Germany and handle relevant liability risks by conducting compliance due diligence on a potential target during the M&A process.

 

Heiner Hugger is a partner and David Pasewaldt is counsel at Clifford Chance. Mr Hugger can be contacted on +49 69 7199 1 283 or by email: heiner.hugger@cliffordchance.com. Mr Pasewaldt can be contacted on +49 69 7199 1 453 or by email: david.pasewaldt@cliffordchance.com.

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