May 23, 2012

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TSG IntelBrief: Political Upheaval Creates New Market Risks for U.S. Corporations

As of late May 2012, continued structural instability across the Middle East and Africa presents U.S corporations with substantial challenges in their efforts to secure access to valuable global markets. The frequently shifting and chaotic geopolitical landscape in these regions has upended many of the longstanding points of contact within both the governmental and commercial sectors. At the same time, unconventional business practices — where bribes and other corrupt practices are commonplace — are placing U.S companies at a severe disadvantage as they seek to avoid taking part in activities that would lead to possible charges under the U.S Foreign Corrupt Practices Act (FCPA).

With an increasing share of U.S corporate profits originating from expanding sales and a growing footprint in emerging markets, the deep instability sweeping both the Middle East and North Africa — from the Arab Spring countries to weakening central governments in Africa — has the potential to complicate, and significantly frustrate, efforts by these corporations to establish and build their hoped-for market share. The increasing corruption that has resulted from this widespread instability occurs at a time when the U.S. government has stepped FCPA enforcement efforts.

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Balancing Long-Standing Legal Requirements with New Business Environments

Despite the popular image of corporations intentionally bribing their way into a market, the reality is that the vast majority of corporations go to great lengths to avoid such activities, not only because it is illegal under U.S and various international laws, but just as importantly because it is simply bad business and can create a precedent with lingering consequences. Most successful corporations thrive in large measure due to clearly defined and diligently followed business structures that facilitate — and attract — outside investors and collaborative partnerships. In contrast, large organizations in both the public and private sectors that routinely engage in rampant corruption do not offer the same level of stability and, by flouting the rule of law, are viewed as unreliable when it comes to honoring contracts.

Since the FCPA was enacted in the early 1970's, U.S. corporations have assimilated its mandate into their standard business models. Well-run corporations quickly learned that they could be more profitable by adhering to FCPA requirements, in part by avoiding costly legal battles as well as by limiting, where possible, involvement in markets where the only practical means of turning a profit would be to operate on the margin of FPCA standards. In such markets, the potential for realizing significant loss through corruption, theft, and chronic inefficiencies is markedly high.

In many cases, however, corporations found themselves in markets where the potential gains appeared to considerably outweigh the costs in terms of FCPA-related challenges. The problematic nature of these markets were rigorously addressed by corporate legal and compliance departments in an effort to effectively shape business practices in a manner that both adhered to the law and proved successful in working through relatively well-established third party intermediaries. It was these relatively trusted and reliable third-party agents that provided the needed access and services to difficult government and commercial entities, from Egypt to Nigeria and beyond. This stability, which enabled U.S. corporations to operate efficiently and legally for the foreseeable future, facilitated substantial investments in difficult, but important markets.

What makes the current widespread instability so concerning to corporate policymakers is that, in the upheaval of the status quo, these much-needed third party access networks are also at risk. Whatever process a particular corporation had devised to operate both legally and efficiently in a particular country — such as Egypt or Tunisia — might prove to be unworkable in the current and unfolding reality. This makes it necessary for the corporations to identify and recruit new points of access, and it is in this search that corporations might find themselves working with lesser known or newly-established service providers and access agents that might very well expose them not only to increased risk of costly inefficiencies, but also, more importantly, increased risks of inadvertent FCPA violations.

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Recruiting New Intermediaries

Since the future profitability of U.S. corporations depends, as noted above, on increased participation in foreign markets, they will have to quickly and wisely adapt to the fits and starts of instability — viewing it, practically speaking, as the new reality — and effectively adjust to new governments and new leaders. Added to this challenge is the increased risk of nationalization of private or hybrid sectors of the economies — from oil and gas production to power generation to financial markets. Even if the nations currently in upheaval do not ultimately nationalize parts of their economy, new governments are likely to be less open to large deals with foreign corporations for fear of being perceived by their citizens as giving away national assets and resources that had just been won by the people through costly struggles against past regimes.

The corporations that will consistently succeed in this new environment are those that can engage with the widest network of vetted in-country contacts. Similarly, those corporations that perform the most thorough — and timely — due diligence on new contacts and service providers will be best positioned to avoid FCPA violations and, at the same time, move aggressively to embrace the opportunities provided by these new realities. As evidenced in the recent allegations against one major U.S. retailer, even hugely successful and well-managed firms can run afoul of the FCPA if vetting of contacts and contracts falls short.

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