Rockwell Automation: Design Meetings Where Rockwell Had No Facility

The Rockwell Automation FCPA case required the company to give up $1,771,000 in profits to settle SEC allegations involving payments to Chinese design institutes and leisure travel recorded as business expenses. For someone who approved a service invoice, booked a customer trip or reviewed the costs of a mining-equipment sale, the case turns on a familiar gap between what the expense account says and what the money was meant to buy.

The Securities and Exchange Commission’s May 3, 2011 settlement order addressed the books and accounting controls behind those payments. Rockwell designed and manufactured industrial automation products and services. Its former subsidiary, Rockwell Automation Power Systems (Shanghai) Ltd., supplied industrial mechanical power transmission products, motors and drives.

This Foreign Corrupt Practices Act settlement followed payments made while the Shanghai operation was wholly owned by Rockwell. The parent sold the subsidiary in January 2007 as part of the sale of its Power Systems business.

The Engineers Who Could Influence the Equipment Order

According to the order, Chinese design institutes could influence which equipment government-owned mining companies bought. Their engineering expertise gave them influence over purchases of the subsidiary’s Controlled Start Transmission, a product used in mining. The order describes a Shanghai manufacturing facility opened in 2003 and sales primarily to Chinese government-owned coal mining and processing plants.

The order describes the institutes as providers of design engineering and technical integration services, typically state-owned themselves. Their position put them between the equipment supplier and the end customer. An engineer familiar with an institute’s recommendation could connect that advice to the equipment the customer ultimately ordered.

The Commission alleged that the subsidiary’s marketing and sales director intended payments to reach design-institute employees so they would influence the ultimate customers to buy its products. That is the commercial point of this case: the people steering the equipment choice were themselves the intended beneficiaries. We see a competition problem here as well as an accounting one. A supplier competing on the merits of its equipment should not have to compete against payments intended for the people influencing the specification.

Payments Through Intermediaries, Recorded as Cost of Sales

The Commission alleged that the subsidiary paid approximately $615,000 to design institutes through third-party intermediaries from 2003 to 2006. According to the order, design-institute employees requested that payment route, and the marketing and sales director directed it. The order describes the director’s intention that the money go directly to institute employees, with the expectation that they would influence sales.

The Commission acknowledged that the institutes performed some engineering and other services connected to the end-user contracts. It also said the subsidiary could not substantiate the specific services or their value. The existence of engineering work left a much more revealing question inside the business: what did each payment actually purchase?

According to the order, the subsidiary recorded the payments as “cost of sales.” That description put them beside the ordinary costs of supplying the equipment while leaving out the alleged purpose of influencing the buyer’s advisers. The person who worked on the project may know whether that description matches the work.

For an insider, the useful connections run from the sales contract to the service, the payment approval and the intermediary. We examine those connections with the person who knows the business, including who requested the payment route and who was supposed to benefit. That is how a concern about an unsupported engineering charge becomes a specific account of the transaction.

Leisure Travel Entered as Business Expenses

The Commission alleged that employees also spent approximately $450,000 on trips not directly related to business for design-institute employees and state-owned customers. The order describes subsidiary-funded travel to the United States, Germany and Australia, among other destinations. In its account, leisure travel typically followed business travel that the subsidiary also funded.

According to the order, some trips had no apparent direct business component beyond developing customer goodwill. Its account of the New York meetings makes the problem unusually plain:

We can see the attraction of New York. The harder part is finding the business purpose of a design meeting chosen for that reason in a city where Rockwell had no facility. The Commission said the trips were entered in Rockwell’s books as business expenses without identifying their non-business purposes.

The travel and hospitality issue reaches beyond the price of a ticket or hotel. It connects the trip’s purpose with the guest’s role in the sale and what the expense record told the company. Someone arranging the itinerary may know the difference between the meeting described on the approval and the trip the customer actually took.

The Commission alleged a comparable gap in BHP Billiton‘s Olympic hospitality program. Its settled order described how the hospitality paperwork obscured the guests’ government connections:

The Commission also alleged that answers on the applications omitted pending business dealings that an invited official could influence. The shared problem is what the approval paperwork concealed about the person receiving the benefit and the decision that person could affect.

What the SEC Found in the Books and Controls

The Securities and Exchange Commission alleged both inaccurate records and insufficient accounting controls. Its books-and-records allegations concerned how Rockwell described the design-institute payments and leisure travel. The Commission also alleged that Rockwell lacked accounting controls sufficient to prevent and detect those payments.

The foreign subsidiary’s accounting also reached the parent. According to the order, the subsidiary’s leisure trips appeared in Rockwell’s own books as business expenses. The Commission brought the accounting case against Rockwell itself.

A Financial Review Found the Payment Route

Rockwell discovered the design-institute payments and third-party payment mechanism through its normal financial review in 2006, according to the order. Its global compliance and internal-controls program had targeted China for enhanced Foreign Corrupt Practices Act training and scrutiny beginning in 2004. The company then investigated under its board’s oversight and voluntarily reported the payments to the Commission.

What Rockwell Agreed to Pay

The Commission ordered a $400,000 civil penalty and said Rockwell’s cooperation was the reason it did not impose a larger one. The order put net profits from sales contracts associated with the design-institute payments at approximately $1.7 million. The civil penalty was smaller than those profits, and the settlement required Rockwell to surrender profits as well.

What an Insider Can Connect

The evidence an insider understands can connect records that look routine in isolation. Here, the relevant connections were between a mining-equipment contract and the institute influencing it, an engineering charge and the work it supposedly bought, or a business-expense entry and the customer’s actual itinerary. A person familiar with one of those relationships may explain why the paperwork tells an incomplete story.

A 2019 working paper hosted by MIT Sloan, Do Corporate Whistleblower Laws Deter Accounting Fraud?, found a reduction in estimated accounting-fraud likelihood among companies exposed to state whistleblower reward laws through state pension-fund investment. In a smaller sample with internal-audit data, it found little evidence that increased investment in internal auditing explained the reduction. Its finding gives us a reason to value an employee’s ability to speak about the books alongside the company’s formal review process.

For information about foreign bribery and false corporate books, SEC whistleblower awards can pay eligible whistleblowers a combined 10% to 30% of qualifying sanctions collected. Under the separate False Claims Act program, a whistleblower case can pay 15% to 30% of what the government recovers. We help you assess which program fits the conduct you saw and the information you can explain.

You Know What the Expense Was For

If you know why an engineering payment went through an intermediary or what happened on a customer trip, speak to one of our Whistleblower Experts about what that money really bought. We work with you to build the case around that inside knowledge and bring in FCPA whistleblower lawyers who understand subsidiary accounting and payments to influence government business. We stay beside you as the transaction you understand becomes a case the government can pursue.