The recent enforcement of Chinese anti-bribery laws against British pharmaceutical company GlaxoSmithKline (GSK) highlights the compliance challenges faced by foreign companies operating in China.

GSK’s Chinese subsidiary is accused of funneling almost $500 million in bribes to doctors and hospitals in China exchange for purchasing or prescribing the company’s products.  The alleged bribes included sexual favors, cash, and invitations to join high-end academic conferences.  GSK employees also allegedly accepted kickbacks and improper commission fees, issued fake invoices, and wrote special bills related to the value-added tax.

According to the Chinese public security ministry, the goal of the alleged scheme was “to raise drug prices, expand sales, and reap inappropriate profits.”  One GSK executive told Chinese state television the bribes increased the prices Chinese patients paid for GSK drugs by as much as 30 percent.

Chinese authorities have detained GSK employees and medical personnel, including four senior Chinese GSK executives, in connection with the scandal.  Among the detained executives is GSK’s Chinese legal director, Zhao Hongyan.

Foreign Companies’ Traditional Compliance with China’s Anti-Corruption Laws

Until recently, Chinese authorities have not enforced China’s anti-bribery laws consistently against foreign companies, instead aiming their enforcement efforts at China’s own errant officials.

Accordingly, many foreign companies have not focused on China’s anti-corruption laws and have tailored their compliance efforts to the anti-corruption laws of the companies’ home countries.  Unlike the laws of some such countries, however, the Chinese legal regime prohibits both commercial and official bribery and the payment and acceptance of bribes.  A corporate compliance program aimed addressing only the prohibitions embodied in foreign anti-corruption laws, therefore, is destined to fall short in China.

To ensure compliance with Chinese anti-corruption laws, some foreign companies have staffed their Chinese subsidiaries’ legal departments with Chinese lawyers.  The perception from company headquarters is that these local attorneys understand Chinese customs and business realities better than their foreign peers.

This familiarity with, and acquiescence to, Chinese customs and business practices, however, can be a double-edged sword.  Like other employees, local counsel may view bribery as endemic to Chinese business and therefore tend to tolerate insufficient compliance with Chinese and foreign anti-bribery laws.  They may struggle to communicate with and integrate into the foreign corporate headquarters’ legal team and may feel undue pressure to ensure the Chinese subsidiary achieves its business goals.  Without the support of corporate headquarters, the attorneys are unlikely to question illicit activities of local managers who control their career development.

Impact of the GSK Investigation

If the GSK investigation is a bellwether of China’s future anti-corruption efforts, foreign companies can expect increased enforcement of Chinese anti-corruption laws against them.  The case may embolden employees or competitors to blow the whistle more frequently on foreign companies and signal an inclination by the Chinese government to enthusiastically pursue such cases.

Coupled with other recent investigations, the GSK case also suggests that China will increasingly target foreign pharmaceutical companies.  Chinese authorities have already raided the offices and detained an employee of AstraZenica and have visited the offices of the Belgian drug company UCB.  Chinese regulators also are said to be reviewing prices and production costs of major drug companies in an effort to lower drug prices.  These investigations may form part of larger effort by the Chinese government to support Chinese pharmaceutical companies, which are reportedly struggling to adapt to market forces.

Interestingly, the U.S. Department of Justice took a similar industry-wide approach when, beginning in 2009, it targeted corruption in the pharmaceutical industry, yielding settlements against industry leaders such as Johnson & Johnson, Pfizer, and Eli Lilly.

Conclusion

The GSK case demonstrates the importance of ensuring that foreign companies are intimately involved in the management of their Chinese subsidiaries.

A foreign company’s reporting structure should ensure that Chinese in-house counsel report to corporate headquarters, not local Chinese management.  Compliance personnel – including local and foreign lawyers – must have access to responsive and supportive management outside of China and must be provided the tools to perform their jobs independently and without fear of retaliation from local managers.

And perhaps most importantly, foreign companies must ensure, from day one, that compliance is ingrained in the corporate culture of their Chinese subsidiaries.  Ultimately, any in-house counsel is powerless to insist upon compliance with anti-corruption laws unless top-level managers throughout the organization are committed to a policy of zero tolerance for bribery.