Employment regulatory briefing - internal investigations
12 April 2010
The Hong Kong Securities and Futures Commission's recent high profile insider dealing and market misconduct prosecutions of bankers and other senior executives and its criticism of the role of Compliance teams, has raised the very real spectre of how Hong Kong companies and financial institutions can identify and then deal effectively with suspected insider dealing by their staff.
The SFC's continued crackdown on insider dealing has a clear impact on Compliance teams as well as on authorised/licensed staff. But insider dealing issues are not just an issue for Compliance; these issues also put both Legal and Human Resources at the forefront in managing potential breaches by staff.
Each situation is specific to its facts but what are the headline considerations for Human Resources if you think you have an insider dealer/rogue trader?
Preliminary internal investigation considerations
- As soon as the business and/or Human Resources become aware of a potential insider trading/ market misconduct issue they must notify Compliance. Compliance is the Number One priority over and above any other internal process.
- Conduct all written communication with regard to statutory secrecy, confidentiality and legal privilege whilst a precise action plan is formulated.
- Create a working group with a representative from the business, Compliance, Human Resources and Legal with brief terms of reference. Documents should only be created by the working party (see below in relation to privilege).
- The representative from the business must have a working understanding of the trades/transactions structures and how the company reports and manages risk on those deals.
Use of litigation/legal advice privilege
- Companies may wish to investigate insider dealing in such a way that litigation or legal advice privilege attaches to the results of the internal investigation to minimise its disclosure obligations to third parties, employees and to manage disclosure requirements to the SFC.
- Bear in mind that there are jurisdiction-specific rules which govern the attraction of privilege and that control over documentation maybe subject to statutory duties of full and complete disclosures.
- Involve Legal at the outset to determine whether the internal company investigation will be framed to attract privilege. If seeking to attract privilege the terms of reference for the investigation should be to prepare a report to enable the company to take legal advice on its position and non-lawyers should not create documents or interview employees.
Initial investigation process
- The internal regulatory investigation and the Human Resources disciplinary/dismissal processes will normally be separate but will interlink with each other. It is essential that the processes are kept separate and that all stakeholders understand who is responsible for each stage.
- The initial internal investigation (normally undertaken by Legal/Compliance in a matter of hours) will make a recommendation whether or not there is a case to be answered – usually by short form report.
Human resources process
- The recommendation is then usually passed to Human Resources and the business which will follow the normal internal (not the report) process to determine whether suspension or dismissal of employees is appropriate at that point.
- It is essential for Human Resources and the business decision maker to weigh up the pros and cons of suspending the employee versus dismissal at this stage of the investigation process:
- Suspension will allow the company fully to investigate and interview the employee while the full Compliance investigation is underway.
- Once the employee has been dismissed it will be very difficult to get their cooperation, so consider suspension until all internal processes are complete.
Full internal investigation
- Following completion of its initial recommendation, the internal investigation will continue until a full factual review is complete and a report produced.
- Assuming the employee has been suspended but not dismissed, following the full investigation, the completed investigation report, or a factual summary of it, will be passed to Human Resources and the business manager appointed to deal with the disciplinary process.
- Human Resources and the business will then follow their normal process and determine whether disciplinary action up to and including dismissal is appropriate.
- Again, the business manager must be able to discuss the nature of the trades/transactions in detail with the employee otherwise the dismissal may be challenged as the business manager making the decision to dismiss is unable to grasp the employee's points of mitigation/appeal.
- Following completion of the Compliance investigation, the company will decide whether or not a self-report must be made to the SFC. If a self report is made, the SFC is likely then to commence its own investigation.
- If the Compliance investigation was handled by Legal so that documents remain legally privileged, consideration should be given to whether the employer should disclose to the SFC relevant privileged material on a limited waiver of privilege basis.
Prevention is better than cure
- Clients can never be sure that they can stop insider trading happening but provided they have all risk management measures in place they minimise the risk. There must be adequate compliance and risk management processes in place to allow early identification of insider dealing/ market misconduct and breach of company procedures.
- Human Resources, Compliance and business line managers should be trained in identifying and handling potential breaches and the resultant investigation and disciplinary processes that follow.
Getting it wrong
- Insider dealing can lead to both civil and criminal liability and disciplinary sanctions under the Securities and Futures Ordinance for the institution and its senior management, as well as other potential liability under the Model Code, the Hong Kong Code on Takeovers and Mergers and the Hong Kong Stock Exchange Listing Rules.
- In addition to primary liability, failure to identify and stop insider dealing, may cause reputational damage to the employer but also potentially civil liability to its clients and other third parties.
Allen & Overy
Allen & Overy advises on regulatory investigations, regulatory litigation and related employment law issues across its global regulatory, litigation and employment practices.