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This article first appeared on the CCH Law Chat website on 4 July 2013
Introduction
On 1 July 2013, the European Commission (EC) issued a statement of objections to thirteen of the world's largest investment banks concerning alleged anti-competitive conduct in relation to credit default swaps.[1] In its statement of objection the EC alleged that these investment banks may have engaged in a “serious breach” of Article 101 of the Treaty on the Functioning of the European Union (TFEU). While it is still very early days and details of the alleged illegal behaviour remain quite sketchy, if the EC’s investigation is successful, a number of the world's largest investment banks may be liable to pay billions of dollars worth of fines.
What are credit default swaps?
The EC’s investigation relates to a financial derivative product called a Credit Default Swap or a CDS.
A credit default swap is a form of insurance against possible default in the payment on an underlying debt. A company sells its credit risk to a buyer for a fee. In return, the buyer agrees to indemnify the seller against its losses if the borrower fails to meet its obligations under the loan.
Satyajit Das in his book, Traders, Guns and Money: Knowns and Unknows in the Dazzling World of Derivatives[2] explains why companies choose to enter into a CDS contract:
The basic idea of a CDS is simple. Assume that a bank has made a loan to a client. The bank now wants to sell the risk on the loan; it has too much exposure to the client, industry or country. This is “concentration risk’, the opposite of diversification. Alternatively, the bank is worried – it knows something that makes it worry about whether it will get its money back. The reason doesn’t matter, the bank just wants to sell the credit risk on the loan.
The bank finds someone who wants the risk. They like the company; they have little exposure to the company, industry or country; they don’t think the company will default; they are unaware of the risks. Whatever the reason, the investor is happy to take on the risk. The two parties enter into the CDS.
Das goes on to explain the main advantages of using CDS’s to sell risk. The first advantage is that it is, for all practical purposes, “insurance” without being considered “insurance” in a legal sense. This means that the various investment banks which trade in CDS’s do not have to obtain an insurance licence to trade CDS’s. The consequence of this is that the trade of CDS’s is not subject to any form of government regulation, including compliance with any mandatory disclosure rules.
Das goes on to list the other main advantages of using CDS’s to sell risk:[3]
It has many advantages: you don't have to do anything with the loan; you don't have to tell the borrower or get their consent; you don't have to exactly match the terms the loan. You can also fiddle the pricing. You keep the loan on your books. You get rid of the risk.
The CDS allows you to short credit easily, which allows you to profit from the decline in the fortunes of the company. Before the CDS, this was hard. As the CDS is a derivative contract, it is also off-balance-sheet. It can be leveraged, infinitely. It is the killer derivative.
The other significant characteristic of CDS’s is that they are traded “over-the-counter” (OTC), rather than being traded through exchanges.
OTC trading involves private and bilateral negotiation between buyers and sellers of CDS’s, with the investment bank acting as the intermediary. The investment banks charge both the buyer and seller fees for organising the swap.
How big is the CDS market?
According to the EC the CDS market is worth €10 trillion with almost 2 million active CDS contracts world wide. This is the value of the amount of credit risk covered by the CDS contracts, but not the value of the actual CDS transactions.
The actual payment flows from CDS contracts are is considerably less in terms of the fees which sellers pay to buyers for entering into a CDS, as well as the payments made by buyers to sellers in event that a borrower defaults on their loan.[4]
What has the EC alleged?
The EC has alleged that between 2006 and 2009 thirteen investment banks colluded to prevent International Swaps and Derivatives Association, Inc (ISDA) and Markit Group Limited (Markit) from issuing licences for data and index benchmarks to exchanges that proposed to enter the CDS market.[5]
In order to participate in the CDS market, new entrants must first obtain a licence from ISDA and Markit for data and index benchmarks.
The EC claimed that the thirteen investment banks were able to collude in directing ISDA and Markit not to issue licences to both Deutsche Borse and Chicago Mercantile Exchange through their ownership and control of those two organisations.
The thirteen investment banks which have been named in the EC investigation are:
· Merrill Lynch;
· Barclays;
· Bear Stearns (now part of JP Morgan);
· BNP Paribas;
· Citigroup;
· Credit Suisse;
· Deutsche Bank;
· Goldman Sachs;
· HSBC;
· JP Morgan;
· Morgan Stanley;
· UBS; and
· Royal Bank of Scotland.
The EC has also sent a statement of objections to ISDA and Markit.
On issuing the statement of objections, Joaquin Alumina, the Vice President of the EC Responsible for Competition Policy also released a press statement about the CDS investigation. In particular, Mr Alumina stated that:
To launch these exchange traded credit derivatives, these exchanges needed licences for data and index benchmarks. But ISDA and Markit refused to provide these licences because – according to our findings at this stage of the investigation – the banks had instructed them not to do so. In addition, several investment banks sought to shut out the exchanges in other ways, for example by coordinating amongst themselves the choice of their preferred clearing house. In the end, neither Deutsche Borse or CME managed to enter the market. [6]
Alumina went on to explain the EC's theory as to why the investment banks had decided to engage in this alleged illegal conduct:
In sum, exchange-trading of credit derivatives improves transparency and market stability. But the banks acted collectively to prevent this from happening. They delayed the emergence of exchange trading of the financial products because they feared that it would reduce their revenues. This, at least, is our preliminary conclusion. If confirmed, such behaviour would constitute a serious breach of our competition rules.[7]
In other words, the EC has alleged that the investment banks, colluded to preserve the OTC trading system for CDS’s, in order to maintain their high profit margins. These high profit margins came about because of the lack of price transparency which results from the OTC trading of CDS’s.
The EC believes that trading CDS’s on an exchange will result in much greater price transparency both in terms of the fees paid by the seller to the buyer for taking on the credit risk, as well as in terms of the fees paid by the parties to the intermediary investment banks for arranging the CDS.
The EC’s has also suggested that the investment banks conduct was motivated by a desire to prevent a significant amount of the current CDS trade (which consists of over 2 million CDS contracts) moving out of the OTC trading environment and into exchanges. If this happened, buyers and sellers would no longer have to use intermediary investment banks to arrange CDS’s, but rather could choose to purchase or sell a CDS directly through the exchanges. Such a move would have resulted in the investment banks losing a significant amount of the fees which they currently derive from the sale of CDS’s.
A related benefit of CDS’s being sold on exchanges, as suggested by the EC, is that exchanges are safer and more stable than OTC trading. This greater safety and stability would have provided both buyers and sellers with significant transaction cost benefits, as well as improving the efficiency and liquidity of the CDS market.
What happens next?
The thirteen investment banks, ISDA and Markit now have an opportunity to provide the EC with an explanation of their conduct in order to avoid the imposition of sanctions.
While it is not clear what explanations or justifications the merchant banks will seek to provide to the EC in relation to their alleged illegal conduct, one issue that they will be very mindful of, are the sanctions which the EC could impose for what appears to be a “serious breach of competition rules”. Any finding of an infringement of EU competition rules, such as Article 101 of the TFEU, could lead to the imposition of fines of up to 10% of the annual worldwide turnover of each of the thirteen investment banks.
Conclusion
The EC’s current investigation of the CDS market appears to be yet another example of very serious and blatant illegal anticompetitive conduct being engaged in by the world’s leading investment banks. In addition to this particular investigation, the EC is continuing its major investigation into allegations that many of these very same investment banks also colluded in an attempt to manipulate the LIBOR. The EC has recently announced that it is expecting to conclude its investigations into the alleged LIBOR manipulation by the beginning in 2014.
While it is difficult to predict the outcome of the EC's investigations, it would seem likely that if the EC’s CDS and LIBOR investigations are successful, the combined penalties which may be imposed by the EC against these investment banks will total many billions of dollars. What is also certain about these investigations is that no criminal charges will ever be laid by the EC against any bank or any bank officer or employee for the simple reason that the EC does not have criminal jurisdiction in relation to breaches of competition laws.
It is hoped that the announcement of the EC’s CDS statement of objections, following so soon after the announcement of the EC’s LIBOR investigation, will provide the stimulus for a renewed debate on the need for the EC to introduce criminal sanctions for breaches of competition laws. The fact that the EC cannot seek criminal sanctions for serious contraventions of competition laws is a serious shortcoming. This is becoming particularly evident as the EC pursues yet another investigation against the usual suspects, namely the world’s major investment banks, for what appears to be a serious, blatant and highly damaging contravention of competition laws.
[1] Antitrust: Commission sends statement of objections to 13 investment banks, ISDA and Markit in credit default swaps investigation at http://europa.eu/rapid/press-release_IP-13-630_en.htm?locale=en
[2] Satyajit Das, Traders, Guns and Money: Knowns and Unknowns in the Dazzling World of Derivatives, Prentice Hall – Financial Times, 2005, p. 271.
[3] Ibid., p. 273.
[4] Antitrust: Commission sends statement of objections to 13 investment banks, ISDA and Markit in credit default swaps investigation – Frequently Asked Questions at http://europa.eu/rapid/press-release_MEMO-13-632_en.htm?locale=en
[5] Footnote 1, above.
[6] Statement on CDS (credit default swaps) investigation at http://europa.eu/rapid/press-release_SPEECH-13-593_en.htm?locale=en
[7] Ibid.
Introduction
In late 2012 and early 2013, two more banks, namely UBS AG (UBS) and Royal Bank of Scotland (RBS) reached settlements with regulators on both sides of the Atlantic concerning LIBOR manipulation. In both of these settlements, the regulators involved have been trumpeting their success in obtaining such large dollar amount settlements. UBS paid a total fine of $US1.5 billion while RBS agreed to pay $US610 million.
If one adds these amounts to the $US450 million already obtained from Barclays in mid-2012, the total penalties which have been paid by the major banks for LIBOR manipulation already exceeds $US2.5 billion. With the prospect of a further 13 banks likely to settle allegations of LIBOR manipulation, the total amount of fines levied against the banks could well exceed $US12 billion.
However, the reality is that the banks are getting off lightly. When one analyses the settlements reached between the financial and anti-trust regulators and UBS, one appreciates that the settlements have been carefully crafted to do minimal damage to the banks. The settlements have been structured to allow both UBS and RBS to plead guilty to wire fraud charges by their Japanese subsidiaries, rather than facing criminal fraud and anti-trust charges in the US.
Regulators appear to have allowed the banks to plead out to relatively minor criminal charges in carefully selected jurisdictions, so that they can avoid more serious consequences such as jail time for senior executives and even the loss of their US banking licences
The main culprit in the settlements is the US Department of Justice (DOJ). Other regulators, such as the Financial Services Authority (FSA) in the UK and the Commodities Futures Trading Commission (CFTC) in the US, do not have criminal jurisdiction. Therefore, the only sanctions they can seek are civil pecuniary penalties.
However, the same cannot be said for the DOJ’s Criminal Division or the Antitrust Division, which both have criminal jurisdiction. By not pursuing serious criminal charges against the banks and their senior managers, these two agencies have failed to enforce their legislation properly. Their enforcement efforts should be aimed at adequately punishing wrongdoing in order to achieve both specific and general deterrence. Put simply, these settlements are not going to deter banks from continuing to engage in fraud and cartel behaviour in the future.
In this post, I will discuss the recent LIBOR settlements, with a particular focus on the UBS settlement.
UBS Settlement
On 19 December 2012, the US Department of Justice announced it settlements with UBS.[1] The specific details of the settlement were as follows.
UBS Japan signed a plea agreement with the US government admitting criminal conduct, and agreeing to pay a $100 million fine.
In addition, UBS AG, the parent company of UBS Japan headquartered in Zurich, entered into a non-prosecution agreement (NPA)[2] with the US government requiring that the company:
- an additional $400 million penalty;
- admit and accept responsibility for its misconduct; and
- continue cooperating with the DOJ in its ongoing investigation.
The NPA stated that the settlement reflected UBS AG’s substantial cooperation in discovering and disclosing LIBOR misconduct within the financial institution and recognized the significant remedial measures undertaken by new management to enhance internal controls.
In addition, UBS AGS agreed to pay a further $1 billion in regulatory penalties and disgorgement:
- $700 million as a result of the CFTC action;
- $259.2 million as a result of the FSA action; and
- $64.3 million as a result of the Swiss Financial Markets Authority action.
Therefore, the total penalty and disgorgements paid by UBS in relation to LIBOR manipulation was approximately $1.5 billion.
Setting LIBOR
As outlined in the Statement of Facts,[3] which accompanied the NAP, it appears that until 1 September, 2009, UBS’s LIBOR submissions were made by UBS’s derivatives traders. In other words, the very UBS staff members who had the most to gain from manipulating the LIBOR, namely derivatives traders, were responsible for calculating and submitting UBS’s LIBOR submissions.
On 1 September, 2009, a new UBS department called “Asset and Liability Management” (ALM) took over the LIBOR submission process from the derivatives trading desks. This change came about after UBS’s Compliance Department reached the conclusion that there was an inherent conflict of interest in having derivatives traders determining UBS’s daily benchmark submissions.
Despite coming to this obvious conclusion, UBS continued to allow derivatives traders to provide input to ALM on UBS’s LIBOR submissions. Each day, approximately 15 minutes before ALM made its LIBOR and Euribor submissions on behalf of UBS, derivatives traders in a given currency would input their assessment of LIBOR and Euribor changes into a shared spreadsheet. The ALM submitters would then consider that input, along with the previous day’s submissions, and work out the LIBOR submissions for that day.
It also appears that from as early as 2001 through at least June 2010, certain UBS derivatives traders requested and obtained benchmark interest-rate submissions to benefit their trading positions.
These derivatives traders requested, and sometimes even directed, certain UBS LIBOR, Euroyen TIBOR, and Euribor submitters to submit benchmark interest rates that would benefit the traders’ trading positions.
The derivatives traders made these requests in electronic messages, telephone conversations, and in-person conversations. The LIBOR, Euroyen TIBOR, and Euribor submitters regularly agreed to accommodate the derivatives traders’ requests and directions for favourable benchmark interest rate submissions.
Examples of LIBOR manipulation
The following are some examples of the types of conduct which was occurring in UBS, on an almost daily basis, at the relevant time:
Example 1
On Monday, November 20, 2006, Trader-1 asked the UBS Yen LIBOR submitter (“Submitter 3”), who was substituting for the regular submitter (“Submitter 1”) that day:
Submitter 3 - “hi . . . [Submitter-1] and I generally coordinate ie sometimes trade if ity [sic] suits, otherwise skew the libors a bit.”
Trader-1 - “really need high 6m [6-month] fixes till Thursday.”
Submitter 3 - “yep we on the case there . . . will def[initely] be on the high side.”
The day before this request, UBS’s 6-month Yen LIBOR submission had been tied with the lowest submissions included in the calculation of the LIBOR fix. Immediately after this request for high submissions, however, UBS’s 6-month Yen LIBOR submissions rose to the highest submission of any bank in the Contributor Panel and remained tied for the highest until Thursday – as Trader 1 had requested,
Example 2
On March 29, 2007, Trader 1 asked Submitter 1:
Trader 1 - “can we go low 3[month] and 6[month] pls? . . . 3[month] esp.”
Submitter 1 - “ok”
Trader 1 - what are we going to set?
Submitter 1 – “too early to say yet . . . prob[ably] .69 would be our unbiased contribution”
Trader 1 - ok wd really help if we cld keep 3m low pls
Submitter 1 - as i said before - i [don’t] mind helping on your fixings, but i'm not setting libor 7bp away from the truth. . . i'll get ubs banned if i do that, no interest in that.
Trader 1 - ok obviousl;y [sic] no int[erest] in that happening either . . . not asking for it to be 7bp from reality anyway any help appreciated[.]
Trader 1 received the help he requested. Although Submitter-1’s “unbiased contribution” of the 3-monthYen LIBOR submission would have been .69 that day, he lowered his/her submission to.67, as Trader-1 requested
Example 3
On April 4, 2008 electronic chat between Trader 1 and Submitter 2, the following exchange occurred:
Trader 1 - have you put the libors in?
Submitter 2 - y[es] . . . any changes?
Trader 1 - oh was going to ask high 6m if not too late
Submitter 2 - i input 95 . . . which is on the lower side
Trader 1 - ok is it too late to change? . . . if not no drama
Submitter 2 - i try to change it now but cannot guarantee if it gets accepted
Submitter 2 - just cahnged [sic]it to 0.98
In this example, the UBS submitter was able to change the UBS submission after it had been lodged.
Example 4
On March 31, 2009 Trader 1 asked Broker C to help influence 9 of the 16 Contributor Panel banks by convincing them to lower their LIBOR submissions from the previous day, thus lower the resulting 1-month and 3-month Yen LIBOR fix:
Trader 1 - mate we have to get 1m and 3m down . . . 1m barely fell yesterday . .. real important.
Broker C - yeah ok
Trader 1 - banks to have a go w in 1m are
Trader 1 - [Bank-F]
Trader 1 - [Bank-G]
Trader 1 - [Bank-H]
Trader 1 - [Bank-E]
Trader 1 - [Bank-I]
Trader 1 - [Bank-C]
Trader 1 - [Bank-A]
Trader 1 - [Bank-J]
Trader 1 - and [Bank-K]
Trader 1 - pls
Broker C - got it mate
That day, consistent with Trader-1’s request, 6 of the 9 Contributor Panel banks listed above lowered their 1-month Yen LIBOR submissions relative to the previous day, and the resulting published 1-month Yen LIBOR fix dropped by a full basis point from the day before.
In other words, it would appear that the Broker was able to convince up to six of the banks involved in submitting LIBOR rates to collude in relation to their submissions for the 1-month Yen LIBOR rate.
Example 5
On 22 July, 2009 Trader 1 described his plan to coordinate Yen LIBOR submissions with other Contributor Panel banks over the next few weeks while staggering drops in submissions so as to avoid detection
Trader 1 - 11th aug is the big date . . . i still have lots of 6m fixings till the 10th
Broker A1 - if you drop your 6m dramatically on the 11th mate, it will look v fishy, especially if [Bank D] and [Bank B] go with you. I'd be v careful how you play it, there might be cause for a drop as you cross into a new month but a couple of weeks in might get people questioning you.
Trader 1 - don't worry will stagger the drops . . . ie 5bp then 5bp
Broker A1 - ok mate, don't want you getting into shit
Trader 1 - us then [Bank B] then [Bank D] then us then [Bank B] then [Bank D]
Broker A1 - great the plan is hatched and sounds sensible
Aggravating factors
The Statement of Facts lists many aspects of UBS’s LIBOR manipulation which would be considered by most regulators to be serious aggravating factors, which would justify more serious penalties.
For example, paragraph 22 of the Statement of Facts states:
22. Beginning in 2006, in Zurich, Tokyo, and elsewhere, several UBS employees engaged in sustained, wide-ranging, and systematic efforts to manipulate Yen LIBOR and, to a lesser extent, Euroyen TIBOR, to benefit UBS’s trading positions. This conduct encompassed hundreds of instances in which UBS employees sought to influence benchmark rates; during some periods, UBS employees engaged in this activity on nearly a daily basis. In furtherance of these efforts to manipulate Yen benchmarks, UBS employees used several principal and interrelated methods, including the following:
a) internal manipulation within UBS of its Yen LIBOR and Euroyen TIBOR submissions;
b) use of cash brokers to influence other Contributor Panel banks’ Yen LIBOR submissions by disseminating misinformation; and
c) efforts to collude directly with employees at other Contributor Panel banks, either directly or through brokers, in order to influence those banks’ Yen LIBOR submissions.
In other words, the DOJ obtained evidence which showed that UBS’s conduct had been “sustained, wide-ranging and systematic” and that there had been “hundreds of instances” of UBS seeking to illegally influence the LIBOR. The DOJ also found evidence of collusion.
Furthermore, there was compelling evidence that senior UBS management:
- were aware of the LIBOR manipulation;
- sought to conceal the conduct and
- sought to obstruct the LIBOR investigation.
Knowledge
36. Certain UBS managers, and senior managers, were aware of the internal manipulation of Yen LIBOR and Euroyen TIBOR submissions by derivatives traders as described above….]
37. The majority of UBS Yen LIBOR and Euroyen TIBOR submitters, Yen derivatives traders, and their supervisors – as well as the more senior managers at UBS who were aware of this conduct – knew that the manipulation of Yen LIBOR and TIBOR submissions was inappropriate, yet continued to encourage, allow, or participate in this conduct…
Another example of the knowledge of senior UBS managers related to the involvement of the UBS representative on the British Banking Association (BBA) LIBOR Committee. His role on the BBA Libor Committee was to scrutinize LIBOR submissions to make sure they were accurate.
On one occasion, shortly after an UBS Euribor submitter had asked a number of UBS derivatives traders, in an internal UBS online chat forum, what LIBOR rates they wanted, the UBS BBA Committee representative responded by saying “Just be careful dude”. The submitter responded by saying “I agree we shouldn’t ve (sic) been talking about putting fixings for our positions on public chat.”
Concealment
38. Because UBS’s Yen LIBOR submitters, derivatives traders, and their managers knew this conduct was improper, they tried to conceal the manipulation. For example, after an August 10, 2009 Trader-1 email request to lower 6-month Yen LIBOR, a LIBOR submitter (“Submitter-4”) complained to Trader-1’s manager that these requests should not be in writing. Moreover, Trader-1 would sometimes request that LIBOR submissions be moved in small increments over time to avoid detection.
The Statement of Facts records the fact that after media reports regarding the banks suspected LIBOR manipulation first appeared, UBS managers cautioned staff to avoid creating written records and instead suggested that they use mobile phones to contact brokers in future.
Obstruction
39. Finally, and for the same reason, a UBS derivatives desk manager sought to obstruct the investigation into LIBOR manipulation. In December 2010, Submitter-4, the UBS derivatives desk manager who had supervised Submitter-2 in 2009, instructed Submitter-2 to lie when interviewed by UBS attorneys during the investigation into LIBOR manipulation. Among other things, the UBS manager instructed Submitter-2 to:
- falsely claim that the UBS Yen trading desks did not have any derivative positions with exposure to Yen LIBOR;
- avoid mentioning Trader-1;
- falsely indicate that the Yen LIBOR submission process did not take into account trading positions;
- falsely claim that they never moved the Yen LIBOR submissions to benefit the Yen trading desks;
- falsely claim that when contributing Yen LIBOR submissions, UBS tried to be “as close to the market as possible.”
The following quote best captures the view within UBS that LIBOR rates were nothing more than fictitious numbers:
UBS Employee - why is the [Investment Bank] cash curve for USD so much higher than Libor? offered 35bps above libor currently
ALM employee - because the real cash market isn't trading anywhere near Libor . . . Libors currently are even more fictitious than usual
UBS Employee - isn't libor meant to represent the rate at which banks lend to each other?
ALM employee - that's the theory . . . in practise, it's a made up number . . .hence all the critisism it was getting a few months ago
UBS Employee - why do banks undervalue it in times like this?
ALM employee - so as to not show where they really pay in case it creates headlines about that bank being desparate for cash . . . I suspect
Smoke and mirrors
As was the case with the Barclays settlement, the DOJ was keen to trumpet its own success. As stated by Attorney General Holder:
By causing UBS and other financial institutions to spread false and misleading information about LIBOR, the alleged conspirators we've charged – along with others it UBS – manipulated the benchmark interest rate upon which many transactions and consumer financial products are based. They defrauded the company's counterparties of millions of dollars. And they did so primarily to reap increased profits, and secure bigger bonuses, for themselves.
Today's announcement – and $1.5 billion global resolution – underscores the Justice Department’s firm commitment to investigating and prosecuting such conduct and to holding the perpetrators of these crimes accountable for their actions.
Not to be outdone, the Assistant Attorney General of the Justice Department’s Criminal Division, Mr Lanny Breuer stated:
UBS manipulated one of the cornerstone interest rates in our global financial system. This scheme alleged is epic in scale, involving people have walked the laws of some of the most powerful banks in the world. Today's agreements by UBS Japan to plead guilty, the charges against individual alleged perpetrators of these crimes, and our agreement recognizing the steps being taken by UBS AG to right itself demonstrates the Justice Department's determination to hold accountable those in the financial marketplace who break the law. We cannot, and we will not, tolerate misconduct on Wall Street of a kind admitted to by UBS today, and by Barclays last June. We will continue to follow the facts and the law where ever they lead us in this matter as we do in every case.
Finally, Deputy Asst Attorney General Scott D. Hammond of the DOJ’s Anti-Trust Division, an enforcer noted for his hardline and uncompromising approach to cartel behaviour, added:
The criminal complaint charges two senior UBS traders with colluding to manipulate the Yen LIBOR interest-rates for the purpose of improving training positions held by Hayes and UBS. Coordinating the movement of interest rates even by a very small margin meant higher profits and bigger bonuses for the conspirators at the expense of those that relied on LIBOR as a reference rate.
One has to ask oneself the simple question – if the conduct engaged in by UBS was so egregious and blatant, why weren’t UBS and its senior managers charged with criminal offences for both fraud and cartel conduct? Further, why was the only criminal charge against a Japanese subsidiary of UBS and why was that charge only for wire fraud?
The simple answer to these questions is that the DOJ has compromised its settlements to such an extent that they have failed to deal effectively with the underlying criminality of the conduct. It is inappropriate from any proper enforcement perspective to accept large cash settlements from perpetrators of serious criminal offences in return for not pursuing serious criminal charges against them.
Put plainly, theses settlements represent nothing more than banks buying their way out of criminal liability.
One cannot criticise such organisations as the FSA or the CFTC from accepting large cash settlements. These organisations do not have criminal jurisdiction and cannot file criminal charges against corporations or send individuals to jail. On the other hand, the DOJ’s Criminal Division and the Antitrust Division do have criminal jurisdiction.
The DOJ should have charged UBS’s parent company, its US subsidiaries and its senior managers with multiple criminal offences, including wire fraud and cartel offences.
After accepting three patently inadequate settlements from Barclays, UBS and RBS, it will be increasingly difficult for the DOJ to get serious about LIBOR manipulation and collusion in the future and to pursue more serious penalties. Other banks will no doubt argue that they should not be treated any differently or more harshly than Barclays, UBS and RBS, who have received proverbial “slaps on the wrist”. Indeed, it may be left to the UK Serious Fraud Office to pursue appropriate criminal charges against the remaining banks to ensure that they are ultimately held to account for their serious and blatant criminal conduct.
In January 2013, the ACCC issued the following advice on its website:
Important notice - Increase in value of penalty units January 2013
Important notice for printed and electronic information and publications provided by the Australian Competition and Consumer Commission
The ACCC is reviewing this website and its publications to reflect the increase in the value of penalty units.
Increase in the value of penalty units
Several of the penalties administered by the Australian Competition and Consumer Commission (ACCC) are calculated using penalty units rather than dollar figures. On 28 December 2012 the value of a penalty unit increased from $110 to $170.
The implications of this legislative change are that, in relation to penalties calculated using penalty units:
- administrative penalties (in the case of the ACCC, infringement penalty notices) will be increase
- maximum available penalties for some court-imposed fines will also rise.
The new penalty unit value will only apply to contraventions that occur on or after 28 December 2012. This means that the changes will not impact on contraventions that occur before 28 December 2012, or current proceedings for contraventions that took place before that date.
The penalty unit value has not been adjusted since 1997.
Under the new legislation, the value of the penalty unit will be reviewed every three years.
http://transition.accc.gov.au/content/index.phtml/itemId/1099221
In other words, all penalties in the Australian Consumer Law (ACL) which are expressed in terms of penalty units have increased by more than 50%.
Significantly, the penalties which can be obtained by the ACCC through an infringement notice have increased, as follows:
- individuals from $1,320 to $2,040 per contravention
- unlisted corporations from $6,600 to $10,200 per contravention
- listed corporations from $66,000 to $102,000 per contravention
The penalties for contraventions of other substantive provisions of the ACL are expressed in dollar terms, so they have remained at the same levels as before December 2012.
Introduction
Both Commonwealth and State governments have shown a greater willingness over the past few years to supplement the powers of regulators by giving them additional powers to issue infringement notices, or on-the-spot fines. For example, such powers were given to the Australian Securities and Investments Commission and the Australia Communications and Media Authority some time ago and more recently to the Australian Competition and Consumer Commission (ACCC) and its state and territory counterparts.
This trend of giving regulators the power to impose what are effectively on-the spot fines raises a number of concerns, particularly whether such fining powers blur the separation of powers between the executive and judicial branches of government. However, as it appears that such powers are here to stay (and are likely to become even more common in the future) it is essential for both legal practitioners and their small business clients to understand the scope of the regulator’s powers and also what they should do if they called upon to deal with an infringement notice.
In this post, I will be explaining how the ACCC’s infringement notice powers under the Australian Consumer Law (2010) (ACL) work, as well as the way in which these powers have been used by the ACCC since their introduction in April 2010. Even though these powers were introduced over two years ago, the ACCC only issued its Guidelines on the use of infringement notices in October 2012 (Guidelines)[1].
Why did the ACCC get an infringement notice power?
The reasons why the government decided to give the ACCC the power to issue infringement notices was explained in the Explanatory Memorandum as follows:[2]
8.2 Infringement notices will supplement existing criminal sanctions and civil penalties, as well as the other enforcement powers proposed in the Bill. They will remedy a significant gap in the current enforcement framework by facilitating the payment of relatively small financial penalties in relation to relatively minor contraventions that may not otherwise be pursued through the Courts.
8.4 The power is intended to provide the ACCC and ASIC with greater flexibility to respond to less serious contraventions…
As stated above, the purpose of providing this power to the ACCC was to fill a perceived gap in the then existing laws. The government was concerned that there was no specific provision in existing laws to impose relatively small financial penalties in relation to minor contraventions.
In reality, this alleged gap in the law did not exist, as it was clearly open to the ACCC at that time to pursue these “relatively minor contraventions” through the courts and to obtain “relatively small financial penalties”. All of the financial penalty provisions which existed in the Trade Practices Act 1974 (TPA) at the time were expressed as maximum financial penalties. Therefore, courts had a broad discretion to impose financial penalty which are much lower than the statutory maximum, if they considered that the contravention was “relatively minor” or “less serious”.
In truth, the main problem facing the ACCC at that time was that the legal costs of pursing these “relatively minor contraventions” through the courts was prohibitive. Such cases would invariably result in the legal costs of the action dwarfing the actual financial penalties which were ultimately imposed by the Courts. Therefore, the infringement notice power was introduced to the ACL to assist the ACCC in pursuing relatively minor contraventions of their legislation in a cost effective manner.
The financial penalties which can be obtained through the use of an infringement notice were limited to reflect that they were only to be sought in relation to “relatively minor contraventions”. As stated in the Explanatory Memorandum:[3]
8.38 The limitation on the size of the financial penalty specified in the infringement notice and restrictions preventing the ACCC or ASIC from taking other action in relation to conduct dealt with using this mechanism are intended to ensure that it is not used for more serious contraventions as an alternative to existing Court processes.
What conduct can be the subject of an infringement notice?
Section 134A of the Competition and Consumer Act 2010 (CCA) defines “infringement notice provision” to include:
- unsolicited consumer contracts
- product safety provisions
- warranties against defects
- breaches of the substantiation notice provisions.
The ACCC cannot issue infringement notices for the following provisions of the ACL:
- misleading or deceptive conduct (s.18)
- some of the prohibitions on offering rebates, gifts and prizes without intending to supply (s.32(1))
- some forms of bait advertising (s.35(1)
- most prohibitions on wrongly accepting payment (s.36(1), (2), (3)); and
- unsolicited directory entries, goods or services (s.40, 43).
The operation of the infringement notice provisions is complicated because s.134A states that certain parts of sections will be infringement notice provisions, while other parts of the same sections will not be infringement notice provisions.
For example, s.32(1), which relates to offering a rebate, gift, prize or other free item without the intention of actually providing it, is not an infringement notice provision. However, s.32(2), which places an obligation on a person to supply a rebate, gift, prize or other free item either within the stipulated time or within a reasonable time, is an infringement notice provision.
Other examples relate to bait advertising and wrongly accepting payment. Section 35(1) prohibits a person from advertising a good or service if there are reasonable grounds for believing that they will not be able to supply the goods or services at all or in reasonable quantities. This section is not an infringement notice provision. However, s.35(2), which requires a person to supply goods or services which are advertised at a specified price at that specified price for a reasonable period, is an infringement notice provision.
Finally, ss.36(1), (2) and (3), which prohibit wrongly accepting payment for goods or services, are not infringement notice provisions. However, s.36(4) which imposes an obligation on a person to supply a good or service within any stipulated time or within a reasonable time once they have accepted consideration or payment for that good or service, is an infringement notice provision.
When can the ACCC issue an infringement notice?
The onus the ACCC needs to satisfy in order to issue an infringement notice is set out in s.134A(1) of the CCA which states:
If the Commission has reasonable grounds to believe that a person has contravened an infringement notice provision, the Commission may issue an infringement notice to the person.
Infringement notices are not effective if issued in relation to conduct which is more than 12 months old.
Only one infringement notice may be issued in relation to an alleged contravention.
The infringement notice penalty must be paid within 28 days of the notice being issued.
The maximum penalties which can be obtained through the use of an infringement notice are:
- $66,000 for a listed corporation;
- $6,600 for an unlisted corporation; and
- $1,320 for an individual.
What is the effect of an infringement notice?
Once the infringement notice has been paid, no civil or criminal proceedings may be started or continued against the person by or on behalf of the Commonwealth[4] in relation to the conduct the subject of the infringement notice.
What do the ACCC’s Guidelines say?
The ACCC issued its Guidelines in October 2012 The purpose of the Guidelines was to “provide background information and general guidance to businesses and their advisors on the (ACCC’s) approach to issuing infringement notices”.[5]
The ACCC reinforces the view that infringement notices “are designed to provide a timely, cost-effective enforcement outcome in relation to relatively minor contraventions” of the ACL.[6]
The ACCC makes it clear in the Guidelines that “generally speaking the ACCC will only consider issuing an infringement notice where it is likely to seek a court-based resolution should the recipient of the notice choose not to pay.” In other words, the ACCC will not issue an infringement notice unless it is willing to go to court to enforce compliance with the notice if the business does not pay.
On page 4 of the Guidelines, the ACCC lists some examples of the circumstances where it is more likely to consider the use of an infringement notice:
- where it forms the view that the contravening conduct is relatively minor or less serious
- where there have been isolated or non-systematic instances or non-compliance
- where there have been lower levels of consumer harm or detriment
- where the facts are not in dispute or where the ACCC considers the circumstances giving rise to the allegations are not controversial, and
- where infringement notices form part of a broader industry or sectoral compliance and enforcement program following the ACCC raising concerns about industry wide conduct.
As is apparent, the ACCC will issue infringement notices where conduct is relatively minor or less serious, for example where there are lower levels of consumer harm or detriment. The ACCC will also use the power where the facts of the contravening conduct are not controversial.
The most interesting situation where the ACCC will use its infringement notice powers is to achieve broader sectoral compliance. In other words, the ACCC may issue notices to a number of businesses in the same industry in an effort to stamp out a particular type of contravening conduct.
The ACCC states in its Guidelines, that is less likely to issue an infringement notice in the following circumstances:[7]
- the ACCC considers the concerns are more serious in nature and warrant consideration by the Court
- there has been significant detriment arising from the alleged conduct
- the ACCC has concerns that the alleged conduct may be continuing
- there are questions about whether the alleged conduct occurred within the 12 months period in which the ACCC may issue an infringement notice
- the matter raises complex questions about the interpretation of a provision of the ACL, and
- the ACCC or another ACL regulator has previous taken action against the persons involved in the alleged contravention – particularly where recent or very similar.
The above list is very much a mirror image of the situations when the ACCC is likely to issue an infringement notice. The main differences relate to continuing conduct and the 12-month time limit.
It seems appropriate that the ACCC will not issue an infringement notice where the business is continuing to engage in the contravening conduct.
The ACCC will also not issue an infringement notice were there may be doubt that relevant contravening conduct occurred in the 12-months period prior to the date of the infringement notice.
How often has the ACCC used its infringement notice powers?
Between the time that the ACCC obtained the power to issue infringement notices on 15 April 2010 and April 2013, it has received payment of 95 infringement notices. The total penalties obtained through these 95 infringement notices was $627,000.
How has the ACCC used its infringement notice powers?
The first infringement notices were issued to eight small restaurant and café owners who had failed to have separate menus showing the total prices charged on weekends and public holidays. This conduct was a breach of the former s.53C of the TPA.[8]
Interestingly, only four of these businesses paid the infringement notices by the due date. As a result, the ACCC commenced legal proceedings against four of the businesses for the underlying breach of s.53C.[9] Two of the cafes subsequently agreed to settle the ACCC’s proceedings by consent. They were each penalised $13,200, which was twice the amount initially sought in the infringement notice.[10]
In separate proceedings, the ACCC was able to secure a penalty of $15,000 against Signature Brasserie and $20,000 against the former owner of Babar Café and Bar for the underlying breach.[11]
This particular use of the infringement notice power appears to be an example of the ACCC seeking to achieve sectoral compliance in the restaurant and café industry by targeting component pricing.
These cases also demonstrate that:
- the ACCC will not hesitate to take legal action against a business for the underlying breach if it fails to pay an infringement notice by the due date; and
- if the ACCC does take action against a company for the underlying breach it is likely to secure a significantly higher penalty than the amount initially sought under the infringement notice/s.
In the three litigated café cases, the ACCC secured penalties which were 2 to 3 times higher than the amount which the ACCC had initially been seeking under the infringement notice.
In the Guidelines, the ACCC states that it may issue more than one infringement notice to a business in certain circumstances, for example, where it believes that a business has engaged in multiple contraventions of infringement notice provisions or the contraventions by the business have involved the use of different types of media.
An example of a case where the ACCC issued multiple infringement notices was in relation to the David Lawrence, Marcs and Jigsaw retail stores, which were all owned by M Webster Holdings Pty Ltd.[12]
In this case, the ACCC was concerned that the three retail stores were making misleading representations on their receipts and in-store signs about consumer guarantees. The ACCC alleged that these stores were advising their consumers that they did not have to offer exchanges, refunds or credits for sale items which were not of acceptable quality. The ACCC decided to issue three infringement notices contributing to a total penalty of $19,800 rather than simply one infringement notice to the corporate entity, M Webster Holdings Pty Ltd.
The ACCC appears to have formed the view that it was appropriate to issue three infringement notices because there were three distinct contraventions of the TPA — ie each of the retail chains had promoted a misleading refund policy.
Shortly after this matter, the ACCC issued four infringement notices to Dodo Australia Pty Ltd (Dodo).[13] In this matter, the ACCC was concerned that Dodo had made false and misleading representations about the price of its Unlimited ADSL2+ broadband plan. Rather than issuing one infringement notice to Dodo, the ACCC issued four notices on the basis that Dodo had made the alleged misrepresentations in four different types of media — namely on TV, its website, billboards and radio. Accordingly, Dodo was required to pay a total penalty of $26,400.
By far the most controversial use of the ACCC’s new infringement notice powers was the decision to issue 27 infringement notices to Optus in relation to its “Max Cap” plans.[14] Optus was required to pay a total penalty of $178,200 for allegedly making false or misleading representations about the price, nature and characteristics of its services. In its media release, the ACCC explained its decision as follows:
The ACCC decided it was appropriate to issue 27 infringement notices ($6,600 for each notice) to Optus based on the number of advertisements published and the various representations made within those advertisements.
This case appears to involve a combination of two principles as set out in the ACCC’s Guidelines – namely a situation where a business has engaged in a number of contraventions, in a wide range of media.
Having said that, it is hard to see how the use of the infringement notice power in this case was consistent with the more fundamental principle identified in the ACCC’s Guidelines, namely, that infringement notices should only be used where the contravening conduct is relatively minor or less serious. A total financial penalty of $178,000 appears to signify a fairly serious contravention of the ACL.
Another matter which raised some concerns was the ACCC’s decision to issue infringement notices to six separate Harvey Norman franchisees in relation to bait advertising.[15] This seemed an odd use of the infringement notice power, given that Harvey Norman had previously been the subject of a successful ACCC legal action for bait advertising in 2004.
What to do if you receive an infringement notice?
The ACCC states in its Guidelines that the recipient of an infringement notice will generally have had some prior contact with the ACCC before receiving the infringement notice.[16] In other words, an infringement notice should not come “out of the blue” but rather will be issued at the conclusion of an in-depth ACCC investigation into the businesses’ conduct.
The first thing a business should do when they receive an infringement notice is to seek legal advice. Given that the consequences of not paying the infringement notice by the due date are that the ACCC is likely to commence legal proceedings against the business for the underlying breach, it may be risky to attempt to respond to the notice without first having obtained legal advice.
The main issues which a business should consider if they receive an infringement notice are:
- is the infringement notice addressed to the correct legal entity
- did their business engage in the contravening conduct as alleged by the ACCC
- did the contravening conduct occur within the 12-month period prior to the date of the infringement notice, and
- will the business be able to comply by the due date.
In the event that the business needs more time to comply, they are able to ask the ACCC for a further 28 days.[17]
The ACCC states in its Guidelines that, when making a request for an extension, the recipient should advise the ACCC, in writing:
- whether they intend to pay the infringement notice penalty
- the circumstances as to why they are not able to pay the infringement notice penalty within the current compliance period, and
- why they anticipate they will be able to comply if the compliance period is extended.
The ACCC also states that the request must be made no later than one week before the payment due date. This suggests that the ACCC will not extend the period for compliance with the notice if the request for an extension is made after the date for compliance.
A recipient of an infringement notice may also ask the ACCC to withdraw the infringement notice.[18]
The ACCC explains its approach to such requests on page 8 of the Guidelines – namely that a request for withdrawal could be based on a claim by the recipient that they did not engage in the contravening conduct or that there was additional relevant information which the ACCC was not previously aware.
If a recipient wishes to request the withdrawal of an infringement notice their request must be in writing, made prior to payment date and include all relevant information which the recipient wishes the ACCC to take into consideration. The ACCC states that such requests should be made no later than two weeks before the payment date.
Interestingly, the ACCC states that any information provided to the ACCC as part of a request to withdraw a notice will not be used in evidence against the recipient in the event that the ACCC subsequently takes legal proceedings
Finally, the ACCC points out that it does not have any discretion to reduce the penalties stipulated for infringement notices. Contrary to other financial penalties in the CCA and ACL, the infringement notice penalties are not a maximum penalty but rather a set or prescribed penalty.
In the Goody case[19] and the Le Sands case[20], the solicitors for the respondents asked the ACCC to withdraw the infringement notice on the basis that they had rectified their menus to show the full cash price. In both cases, the ACCC notified the respondents that they would not be withdrawing the infringement notices. Despite being advised that the infringement notices would not be withdrawn, the businesses did not pay the infringement notices by the due date. Both business were subsequently sued by the ACCC.
In reality, the ACCC is only likely to withdraw an infringement notice in the most exceptional circumstances, for example, where there was an error in the notice itself. This occurred in the Le Sands case where there was an error in one of the Schedules to the infringement notice. The ACCC subsequently withdrew the infringement notice and issued a new infringement notice with the error rectified.
Other situations where the ACCC may withdraw a notice would be where the notice identifies the wrong legal entity or where the recipient can prove that the relevant conduct occurred more than 12 months before the date of the infringement notice.
It is also unlikely that the ACCC will agree to an extension to comply with a notice unless the recipient can provide very compelling reasons why they cannot comply by the due date. An example may the fact that a key decision maker in the business is unavailable within the prescribed 28 day time-frame.
Will the ACCC demand admissions?
The ACCC has also developed a practice in relation to infringement notices of also seeking an s 87B undertaking from the business concerned. This practice has caused considerable concern amongst some lawyers.[21]
However, one can understand why the ACCC seeks an s.87B undertaking from a business at the same time that it issues them with infringement notice. From a compliance perspective, there is little point in the ACCC simply fining a business for illegal conduct without also requiring that the business implement measures to prevent further contraventions in the future.
The difficulty which arises in relation to the ACCC’s approach is that it is also their practice, when agreeing to a s.87B undertaking, to seek admissions. As stated in the ACCC’s s.87B guide an s.87B undertaking will usually include:
… an acknowledgment or admission from the company or business that the conduct of concern constitutes or was likely to constitute a breach of the Act.[22]
The Law Council expressed a concern that the ACCC’s approach of requiring an admission from a business in an s.87B undertaking, in the context of an infringement notice matter, was inconsistent with the terms of s.134D of the CCA, which states that the payment of an infringement notice does not constitute an admission by the business of the underlying breach.[23]
Unfortunately, while the ACCC mentions the broader issue of s.87B undertakings in its Guidelines, it does not address the specific issue of admissions.
Having said this, it appears that the simple solution to this perceived problem if for businesses faced with this problem, to refuse to make any admissions in the s.87B undertaking because it is being sought in the context of an infringement notice. It is highly unlikely that the ACCC will abandon its quest for both the infringement notice and the s.87B undertaking, preferring instead to commence legal proceedings for the sole purpose of obtaining an admission for conduct which is, by definition, “relatively minor” and “less serious”.
Conclusions
It is very important for businesses and their legal practitioners to fully understand how to respond appropriately to an infringement notice given the ACCC’s propensity to use these powers. Although the ACCC did not receive payment of its first infringement notice until July 2010, since then it has received payment for a further 90 infringement notices, which is a rate of just under three infringement notices a month.
It is also very welcome that after more than two and a half years since the ACCC first obtained the power to issue infringement notices, it has finally issued Guidelines explaining how it has and will be using this power. Indeed, the Guidelines are very helpful in explaining the circumstances in which the ACCC will and will not issue an infringement notice. This guidance will also serve the purpose of assisting businesses and their legal advisers in submitting to the ACCC that a particular investigation should, in fact, be resolved by the ACCC through the use of an infringement notice rather than through the commencement of costly and time consuming litigation.
The expression “by or on behalf of the
Commonwealth” is a reference to the ACCC and the various state and territory
fair trading regulators.
ACCC
institutes against cafés for alleged menu breaches, ACCC News
Release, 9
ACCC
v Le Sands Restaurant and Le Sands Café Pty Ltd t/as Signature Brasserie
[2011] FCA 105; ACCC v AI Constructions
(ACT) Pty Ltd [2010] FCA 1377; Former
café operator ordered to pay $20,000 penalty, ACCC News Release, 8 December
2010 - http://www.accc.gov.au/content/index.phtml/itemId/960772.
Le Sands Restaurant case, op.cit.
An s 87B undertaking is a court
enforceable agreement between the ACCC and a business whereby the business
agrees to carry out a number of remedial steps.
Section
87B of the Trade Practices Act: Guidelines on the use of enforceable
undertakings by the Australian Competition and Consumer Commission,
September 2009, p.5.
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