No GAAP violation but charitable solicitations are misleading – – Preliminary Decision issued for appeal of California AG’s Cease & Desist Order against MAP International, Food for the Poor, and Catholic Medical Mission Board.

Image courtesy of Adobe Stock.

A Preliminary Decision has been written by the administrative law judge (ALJ) hearing the appeal over the California Attorney General’s cease and desist order (C&DO) against MAP International (MAP), Food for the Poor (FFP), and Catholic Medical Mission Board (CMMB).

I have obtained and read a copy of the Preliminary Decision for each of the charities.

 

Top line summary:  The ALJ concluded the charities did not violate GAAP in their accounting but did find their charitable solicitations were misleading and deceptive.

This will be a long read at over 3,400 words so you might want to get a fresh cup of coffee.

Two other notes. References to “Complainant” mean the California Attorney General.  This post will focus on the content of the decisions with lots of quotations and minimal interpretation. Several longer posts are needed to interpret, explain, and describe the implication of this case. I may add more discussion later. As I see others discuss this case, I’ll try to link to those discussions.

After describing the decisions, responses from each charity are listed.

Next steps?

I’m a bit fuzzy on the where this goes from here. It is seems obvious to me that the ruling is not yet effective.  I will string together a bunch of guesses on the next steps. Anyone bold enough to correct my wildly aimed guesses is welcome to do so.

So here go my guesses – – I think the decision will not go into effect until it is accepted or modified by the Attorney General.  So my guess is the AG will issue a letter declaring the Preliminary Decision in effect or reissue a modified C&DO or take some other specified action to make the decision effective. I’ll guess some sort of additional communication is also necessary to address a variety of technical issues not covered in the decision, such as address to send the check, contact point for future communications, consequences of violating the C&DO, and notice of appeal options.

The Preliminary Decisions say the charities must pay the penalty 30 days after the effective date. There is a separate requirement to provide a copy of the decision to all officers, directors, and employees within 15 days of the effective date.

Since one charity (MAP) indicates in their response to me that they will appeal, I’ll guess their appeal will be filed soon after the effective date, well before that 15 day time frame expires. I’ll also make an even bigger guess that given the strength of the proposed sanction on how to refer to program ratios, the other charities will also file an appeal.

 

Background on timing

In December 2018, the ALJ gave verbal explanation that he would rule in favor of the charities on the issue of whether the their financial statements complied with GAAP.

In January and February 2019 additional written briefs were submitted by the Attorney General (AG) and charities on whether the written appeals sent to citizens of the state were accurate or misleading.

On April 24, 2019 additional oral arguments were heard.

Then on May 24, 2019 the administrative law judge (ALJ) issued his preliminary ruling for each of the cease and desist orders.

 

Food for the Poor

The three cases were consolidated, so they were all heard at the same time. I’ll go through the FFP decision in more detail than the others. The core of the decision is remarkable similar between all three, which is what I would expect.

The ALJ summarized the penalties sought by the AG in the C&DO. I have broken the ALJ’s summary into the component parts with citations removed and bullet points added for ease of reading:

  • Regarding the solicitations, the first amended order directed FFP to cease and desist from “including the ‘95% Statement’ in its solicitations to California donors (or other percentages of combined cash and non-cash donations used for programs) … (if dollar amounts were calculated using United States market prices for pharmaceuticals restrict to overseas distribution and use) …
  • The first amended order also assessed $88,000 in penalties against FFP for making materially false statements in its IRS Forms 990 and Forms RRF-1 and for failing to maintain its financial records in accordance with GAAP, and
  • another $1,000,000 in penalties for “making representations in its solicitations to California donors that were false and deceptive, and created a likelihood of confusion or misunderstanding.”
  • Finally, the first amended order requested revocation of FFP’s charity registration with the Attorney General’s Registry of Charitable Trusts. …

GAAP compliance

The ALJ’s proposed ruling for FFP said:

Complainant did not prove that FFP’s use of United States market prices to value the pharmaceuticals departed from GAAP. The evidence that the valuations complied with GAAP had more convincing force than the evidence opposed to it. But complainant did prove that FFP’s solicitations for monetary donations were deceptive in implying that FFP used 95 percent of all money donated for charitable programs, which it did not. FFP really used less than 70 percent of monetary donations for charitable programs, and used the rest for administration and fundraising. A cease and desist order and penalties are warranted to address the deceptive solicitations. These remedies are sufficient to protect the public from further violations, so complainant’s additional request for revocation of FFP’s California charity registration will be denied.

The core of the GAAP argument is whether the restriction on distributing medicine outside the US is an entity restriction or an asset restriction.  (As I have mentioned before, the support for valuation methodology in use is a FinREC conclusion found the NFP Audit Guide.  This issue is not addressed directly in the ASC.) The FinREC conclusion in the NFP audit guide, which was rolled into the Audit Risk Alert for the first time in 2018, carried heavy weight.

The charity expert witnesses were more persuasive that the AG’s expert witness.  The ALJ concluded:

Therefore, the weight of the evidence on GAAP compliance was that the charities complied with GAAP in their valuations of the donated pharmaceuticals.

Solicitation

On the solicitation issue, the matter centered on whether the typical comment many charities make along the line of “more than 95% of all donations go directly to programs that help the poor” is correct or whether it is deceptive when the percentage is based on total expenses. When looking at cash expenses only the program percentage is around 70% of expenses for FFP.  The allegation of deception from the AG is that the statement suggests that 95% of cash donations go to program.

After analyzing the issue at length, the ALJ concluded:

Most of the solicitations prefaced the 95% Statement with the sentence “Our mailings cost so little but do so much,” linking the percentage to the monetary gifts requested in FFP’s mailings. Two solicitations prefaced the 95% Statement with “Food for the Poor is a good steward of your gifts” (emphasis added), creating an even more direct link. This phrasing implied that the stated percentage applied to the monetary gifts being solicited, which it did not. Thus, the solicitations were couched in a manner that was likely to deceive potential donors into believing that FFP was more efficient in using monetary gifts for charitable programs than it actually was.

Legal analysis

The ALJ then walked through a variety of legal issues and assessed the case in light of those standards.

A few of his comments in the long analysis are worth noting.

On the GAAP valuation issue, he said:

Complainant did not prove a GAAP violation by a preponderance of the evidence.

He also seems to acknowledge the GAAP rule doesn’t make sense and inflates the apparent size of an organization, but not making sense does not invalidate GAAP:

Admittedly, using United States market prices to value donated pharmaceuticals that are restricted to distribution and use outside the United States is counterintuitive, and leads to annual revenue and expense figures for FFP that in some cases exceeded one billion dollars, making the charity seem artificially large. But determining FFP’s compliance with GAAP depends on expert evidence, not on intuition. The charities’ expert evidence of GAAP compliance was more persuasive than complainant’s expert evidence of non-compliance.

The ALJ concluded the AG did sustain its complaint about misleading solicitations:

Although complainant did not prove a GAAP violation, the evidence did prove that FFP used “deceptive acts or practices . . . that create[d] a likelihood of confusion or misunderstanding” in its solicitations. … FFP’s solicitations were likely to deceive potential donors into believing that FFP was more efficient in using monetary gifts for charitable programs than it actually was.

The charity asserted the fundraising claims were technically true and thus not deceptive. This position is based on the arithmetical calculation using numbers on the audited financial statements. Two of the judge’s comments on point:

Even if the percentage efficiency statements in FFP’s solicitations were technically accurate based on FFP’s reported financial information, those statements were deceptive because they implied that FFP used less than five percent of monetary gifts for administrative costs.

FFP’s argument that its percentage efficiency statements are true is not determinative, because even a true statement may be deceptive for the reasons described above. FFP also argues that because there are no reported complaints about its solicitations, no one has been deceived. But proof of actual deception or injury is not necessary, and donors who are unaware they are being deceived would not complain in any event.

The ALJ walked through the constitutional freedom of speech argument concluding (based on cited Supreme Court ruling) that the first amendment does not protect speech that is misleading or deceptive.

Ponder that as a thought exercise and you will realize there are extensive restrictions on free speech: truth-in-advertising laws, APR disclosure requirements, libel and slander laws, full disclosure requirements for medicine, informed consent for medical treatment and counseling. All sorts of speech issues have some legal requirement around them.

Conclusion

The ALJ ruled the 95% comment was misleading and therefore the C&DO is proper. The ALJ affirms the C&DO instruction to stop making the 95% statement.

The requested penalty of $88,000 is essentially for GAAP violations. Since the ALJ found the AG did not sustain that part of the complaint, the $88,000 penalty is not imposed.

The ALJ did find the solicitations to be misleading so the $1,000,000 fine for misleading solicitations is sustained. This is based on a maximum of $1,000,000 penalty under one provision of the law (based on one specific law if I understand correctly) applied at $100 per violation (based on a different law as I understand) for over 900,000 solicitations sent to citizens in the state.

The charitable solicitation registration is not revoked. The ALJ said the above fine is a sufficient deterrent to future violations and if there are additional issues, registration can be revoked later.

 

 

MAP International

Proposed Decision for MAP is substantially the same. I won’t repeat the above comments.  Here are a few items of note:

Brief recap of summary found at start of decision:

Complainant did not prove that MAP’s use of United States market prices to value the pharmaceuticals departed from GAAP. The evidence that the valuations complied with GAAP had more convincing force than the evidence opposed to it. But complainant did prove that MAP’s solicitations for monetary donations were deceptive in implying that MAP used 98 or 99 percent of all money donated for charitable programs, which it did not. MAP really used a substantially smaller percentage of money donated for charitable programs – about 75 percent by complainant’s calculation – and used the rest for administration and fundraising.

Recap of the C&DO, with citations removed, bullet points added, then reformatted for ease of reading:

  • Regarding the solicitations, the first amended order directed MAP to cease and desist from “including the ‘99% [or 98%] Statement’ in its solicitations to California donors (or other percentages of combined cash and non-cash donations used for programs)…
  • The first amended order also assessed $40,000 in penalties against MAP for making materially false statements in its Forms 990 and RRF-1 and for failing to maintain its financial records in accordance with GAAP, and
  • another $118,725 in penalties for “making representations in its solicitations to California donors that were false and deceptive, and created a likelihood of confusion or misunderstanding.”
  • Finally, the first  amended order requested revocation of MAP’s charity registration with the Attorney General’s Registry of Charitable Trusts.

Nine paragraphs over two and a half pages summarize the testimony and evidence on the solicitation issue. I know this post skips over the reasoning. I may need to write a long post describing this part of the discussion.

The conclusion after that summary of testimony and evidence:

Based on the above, the solicitations were couched in a manner that was likely to deceive potential donors into believing that MAP was more efficient in using monetary gifts for charitable programs than it actually was.

Select sentences from the discussion, which show certain portions of the reasoning:

Complainant did not prove a GAAP violation by a preponderance of the evidence. The testimony of (two cited experts) about GAAP had more convincing force that (one cited expert) testimony, and supported the charities valuing the pharmaceutical donations according to United States market prices. (Note: names removed.)

Although complainant did not prove a GAAP violation, the evidence did prove that MAP used “deceptive acts or practices . . . that create[d] a likelihood of confusion or misunderstanding” in its solicitations. … MAP’s solicitations were likely to deceive potential donors into believing that MAP was more efficient in using monetary gifts for charitable programs than it actually was. MAP’s solicitations for monetary gifts stated that it used 98 or 99 percent of gifts for charitable programs, and were written in a manner implying that this percentage applied to monetary gifts.

Even if the percentage efficiency statements in MAP’s solicitations were technically accurate based on MAP’s reported financial information, those statements were deceptive because they implied that MAP used only one or two percent of monetary gifts for administrative and fundraising costs. A reasonable person would be likely to interpret the percentage efficiency statements in the solicitations that way.

Select sentences from the decision on the first amendment issue:

MAP and the other two charities also argue that the orders against them violate their First Amendment rights to freedom of speech under the United States Constitution. But no appellate court has declared section 12599.6 unconstitutional, and the United States Supreme Court’s opinions on charitable solicitation have taken care to leave a corridor open for actions to guard the public against false or misleading charitable solicitations.

And,

But (this section), compels no speech; rather, it prohibits unfair, deceptive, or fraudulent acts or practices …  . The Supreme Court has never held that the First Amendment protects such acts or practices in charitable solicitations.

Conclusion

The ALJ ruled:

  • A C&DO is proper based on misleading solicitation but not for noncompliance with GAAP.
  • MAP shall cease using the “99% Statement” in solicitations to California residents.
  • Mailed solicitations “were deceptive and created a likelihood of confusion or misunderstanding by California donors.”
  • Fine of $40,000 for GAAP violations is not imposed.
  • Fine for misleading solicitations is imposed in amount of $80,600. That is based on $100 for each of 806 citizens of California who were solicited. Seventy-four people were excluded from that penalty since the mailings they received were not introduced into evidence.
  • Charity registration is not revoked.

 

Catholic Medical Mission Board

By now you are catching on to the content and approach of the decisions. Comments for CMMB will be briefer than for MAP and FFP, since the text is quite similar.

The claims and legal approach is slightly different for CMMB, since as a religious organization, it is exempt from filing with the AG’s office.

Recap of conclusions, from the summary:

Complainant did not prove that CMMB’s use of United States market prices to value the pharmaceuticals departed from GAAP. The evidence that the valuations complied with GAAP had more convincing force than the evidence opposed to it. But complainant did prove that CMMB’s solicitations for monetary donations were deceptive in implying that CMMB used 97 or 98 percent of all money donated for charitable programs, which it did not. CMMB really used less than 80 percent of monetary donations for charitable programs, and used the rest for administration and fundraising. A cease and desist order and penalties are warranted to address the deceptive solicitations.

The claims in the C&DO are summarized, again broken into key ideas, bullet points added, with citations removed. Notice there is no claim of reports filed with the Registry of Charitable Trusts violating GAAP:

  • Regarding the solicitations, the first amended order directed CMMB to cease and desist from “including in solicitations to California donors percentages of combined cash and non-cash donations used for programs (if dollar amounts were calculated using United States market prices for pharmaceuticals that were restricted for distribution and use overseas) …
  • …  order also sought to prohibit CMMB from “engaging in any solicitation of charitable assets in California due to the fact that CMMB fails to maintain its financial records on the basis of GAAP,” and
  • assessed $409,575 in penalties against CMMB for “making representations in its solicitations to California donors that were false and deceptive, and created a likelihood of confusion or misunderstanding.”

ALJ reached the same conclusion for CMMB, specifically that the AG did not establish their assertion for GAAP violation but did sustain their assertion the solicitations used “deceptive acts or practices” which were likely to create confusion.

Conclusion

The ALJ ruled:

  • A C&DO is proper on the solicitation issue but not because of a GAAP violation since AG did not sustain that claim.
  • CMMB must cease using combined amounts of cash and GIK for calculating program ratios.
  • Request to prohibit CMMB from soliciting California citizens was denied since AG did not “prove a GAAP violation.”
  • Penalty of $409,575 for “deceptive solicitation” is imposed.

 

Image courtesy of Adobe Stock.

Responses

I reached out to all three charities seeking their response or comment on the Preliminary Decision. The replies follow:

 

Catholic Medical Mission Board

A representative of CMMB indicated the organization will wait to see a copy of the final decision before they prepare a reply. When they send me a comment I will include it either here or in a subsequent post.

 

Food for the Poor

FFP provided me the following comment:

Food For The Poor has not received a final ruling from the state of California, so we won’t be able to provide a statement for you regarding that.

While the proposed decision regarding GAAP compliance was appropriately in favor of Food For The Poor based upon evidence before the judge, there was no evidence presented to support the decision relating to the solicitation allegations, and it was rendered contrary to existing law.

 

MAP International

MAP provided me the following comment:

Over the last several months, MAP has responded to persistent and aggressive attempts by California state regulators to change the accounting methods that we use to report the benefits MAP provides.

We use the industry standard for this process, and our financial statements are audited every year by a national accounting firm. Thankfully, a recent administrative law judge ruling was in our favor on this point, which confirms our accounting methods fully comply with the law.

However, we face another challenge from California.

When you donate money to MAP, your contributions are joined together with the medicine and health supplies that generous corporations give to us. Your cash and those other resources, lifted by your prayers and the volunteer work of so many, help people in desperate need around the globe.

Unfortunately, the California regulators are also attempting to dictate how and what we say to our donors.

We work hard to ensure that everything we tell our donors is true.  These government administrators claim, however, that certain statements that we’ve made about how efficiently we use all of our resources, while true, could be misinterpreted by someone and thus are potentially misleading.

They are attempting to force us to change how we communicate with you and to punish us for what we’ve said.

When we’ve said what percentage of these total donated resources helps the needy, we’ve spoken truthfully. Many other charities, as well as other states’ regulators, also consider cash contributions and medical resource donations together when describing the charity’s work. California officials say this is wrong. We disagree.

The U.S. Supreme Court has ruled that it’s up to the charity to decide how to communicate its messages. To prevail on this point, we’re appealing the recent administrative law decision that attempts to limit how we speak truthfully to our donors.

Because we are actively appealing this decision, Charity Navigator shows an advisory on our listing, indicating we are involved in this administrative process.

While we are still a top-rated, four-star charity, Charity Navigator has chosen to flag this issue and we want all our donors and others who share our mission of providing medicines for the world to understand what this means and why we have chosen to fight this legal battle.

 

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