Bribery penalties sting less than penalties for other financial misconduct
 

May 23, 2011

Foreign bribery can be big business—and business as usual in many parts of the world. It’s also the target of increasing enforcement action by the U.S. Department of Justice (DOJ) and the Securities and Exchange Commission (SEC). But do penalties for paying off foreign officials really carry much sting?

According to ongoing research by Jonathan Karpoff, a professor of finance at the University of Washington Foster School of Business, the reputation costs to firms caught bribing foreign officials are substantially smaller than those imposed for other types of misconduct, especially financial misrepresentation. Investors and regulators appear to care about—and discipline—financial reporting violations far more than bribery as a stand-alone offense.

“There are instances where firms pay significant legal penalties for bribery and a handful of cases where individuals have gone to jail,” Karpoff says. “But by and large, prosecuted firms do not face a significant toll on their reputation with investors, partners and customers.”

Misleading costs

Karpoff and co-authors Scott Lee and Gerald Martin analyzed the loss in firm value following bribery enforcements dating back to the Foreign Corrupt Practices Act of 1977. The act prohibits U.S.-based companies from making illicit payments to obtain contracts or favorable treatment from foreign officials. The 95 bribery cases during this time have taken place in Iraq, China, Nigeria, India, Indonesia, Saudi Arabia, Argentina and Egypt, in descending order of frequency.

The researchers found that firms prosecuted for foreign bribery did experience significant loss in value. In addition to an average of nearly $55 million in fines, those in the sample saw share values decline by 16 percent during the public period of regulatory enforcement action. The firms also experienced increased financing costs and a higher incidence of mergers and bankruptcies.

But on closer inspection, Karpoff says, most of these costs can be attributed to other violations that the firm committed at the same time—typically other forms of financial misrepresentation.

Multiple offenses

When the Foreign Corrupt Practices Act was passed, the U.S. became the only country in the world to impose penalties for bribery in foreign countries. Ever since, critics have asked why the U.S. government would hinder the ability of American companies to compete in global markets—many of which treat bribery as nothing more than a cost of doing business.

Karpoff’s study may render the debate largely moot. Enforcement of foreign bribery infractions, it turns out, has been comparatively rare and resulted in relatively small consequences for the targeted firms.

“Things could change with the new regulatory focus on bribery infractions,” he says. “But unless we see substantially larger legal penalties, our evidence indicates that the total consequences to firms from being caught bribing will remain smaller than for other types of misconduct.”

“Bribery: Business as Usual?” is the work of Jonathan Karpoff of the UW Foster School of Business, D. Scott Lee of Texas A&M University, and Gerald S. Martin of American University’s Kogod School of Business.

Karpoff recently was appointed to a George Mason University task force investigating the effects of the Foreign Corrupt Practices Act.