For businesses in China, a minefield of bribery risks

Sun Apr 29, 2012 10:40pm EDT

* U.S. companies challenged by FCPA

* In state-owned China, who is an "official"?

* Highly regulated industries pose higher risk

By Jason Subler

SHANGHAI, April 30 (Reuters) - Foreign companies doing business in China must navigate a business culture in which bribery is rife, finding ways to remove obstacles to expanding in the world's second-largest economy without running afoul of local or home-country laws.

Especially in areas such as dealing with local officials in charge of permits, it is still common for bribes, whether cash or illegal gifts, to be expected in return for providing the necessary approvals, industry and legal experts say.

For U.S. companies in particular, that means they need to take pains not to run afoul of the Foreign Corrupt Practices Act (FCPA), which bars U.S. firms and others from paying bribes to officials of foreign governments.

"Any industry that you see that is heavily regulated typically is high-risk," said Meg Utterback, a partner at the law firm King and Wood Mallesons in Shanghai who frequently deals with corporate investigations.

Utterback named health care, construction and energy as examples of industries that fall into that category in China.

PERMIT PAYOFFS

The U.S. Securities and Exchange Commission (SEC) and Department of Justice have stepped up scrutiny into potential violations of the FCPA, especially in countries like China, where state-owned companies are a big force in the economy.

In the latest move, reported by Reuters last week, the SEC has started investigating major U.S. movie studios and their dealings in China, sending letters of inquiry to at least five studios in the past two months including News Corp's 20th Century Fox, Disney and DreamWorks Animation .

The inquiry involves potential inappropriate payments and how the companies dealt with certain government officials in China, according to a person familiar with the matter.

The film industry in China is heavily regulated, with the government limiting the number of foreign films shown in theatres each year. It eased those controls in February during a U.S. visit by China's leader-in-waiting, Xi Jinping.

Many of the issues faced by foreign companies in China are similar to those behind allegations of widespread bribery in Mexico by Wal-Mart Stores, the world's largest retailer, as reported by the New York Times last week.

Wal-Mart has disclosed an internal investigation into the allegations and said it was cooperating with federal authorities.

"You see the same issues here in terms of getting permits and constant pressure in the market from local competitors," said Beatrice Schaffrath, a Beijing-based anti-corruption and compliance lawyer.

In one example, cosmetics company Avon Products Inc in 2008 disclosed that it had opened an internal inquiry into whether its China business, the first foreign company to win a direct-selling license in 2006, had violated the FCPA, and the SEC is now investigating Avon's China activities.

WHO IS AN OFFICIAL?

One specific issue in China is that with so many companies and institutions owned by or linked to the state, there are many people who could be considered government officials under the FCPA who would not be in other countries.

Even doctors at state-run hospitals or employees of state-owned enterprises (SOEs) can be deemed government officials for the purposes of the FCPA, legal experts say.

"It's very tough, because there are so many quasi-governmental institutions, SOEs and government officials involved in the process of doing business," Utterback said.

Beyond bribery cases that might gain attention from U.S. authorities, companies also face an uphill battle in preventing commercial bribery, although it is banned by local laws.

Such practices are widespread in areas such as procurement, with people in charge of spending decisions in local companies or government agencies often expecting kickbacks, industry participants say. Some say the problems are worse in less-developed areas of China.

Foreign business people complain in private that uneven enforcement of such rules by local officials puts them at a disadvantage because local companies are often subject to less scrutiny and can do whatever it takes to win contracts.

SELF-DEALING

Faced with such a business culture, there is also the risk of foreign companies' employees themselves seeking illicit personal gains.

Last week, a former Morgan Stanley executive in China pleaded guilty to conspiring to evade internal controls required by the FCPA and settled related charges with securities regulators, including a permanent bar from the industry.

Garth Peterson, who was a managing director in Morgan Stanley's real estate investment and fund advisory business, secretly arranged to have millions of dollars paid to himself and a Chinese official and disguised the payments as finder's fees charged to Morgan Stanley, U.S. regulators said.

Morgan Stanley cooperated in the government's investigation and was not charged in the case.

There is some reason for optimism that Chinese authorities could take a harder line in cleaning up the rampant corruption, which would eventually make doing business in China less of a minefield of potential problems.

The fall of Bo Xilai, once a rising political star now at the centre of China's biggest political scandal in decades, has cast a spotlight on the relationships between politicians and business that lubricate much of China's economy.

"I think you're going to see a growing trend of increasing attention to the issues by Chinese officials," said Utterback. "Clearly there are a lot of forces coming to bear that will probably level the playing field a bit, at least for now." (Additional reporting by Don Durfee in Beijing; Editing by Matt Driskill)

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