FCPA Compliance and Ethics Blog

November 7, 2012

DEEP LEVEL DUE DILIGENCE: What you need to know

Ed. Note-today we are pleased to have a guest post from our colleague Candice Tal.

Would you do business with an entity that has been in business less than 2 years, has no internet presence and uses a military-style compound that for it’s headquarters where no employees arrive to work each day?  This may well be the next reseller or distributor your company works with in Africa, or some parts of Russia or China. How about the entrepreneurial young executive that is starting a new business which has no physical office yet—is that a risk factor?  Is he still working for his old employer with whom you have a contractual relationship?  Is there any possibility, or even perception, of kickbacks there?  The old adage: “what you don’t know can’t hurt you” is certainly a reckless approach given today’s global anti-corruption initiatives.

Minimizing corporate liability exposure and effective regulatory compliance are key to your business’ global success.  Business expansion through global growth, investments, M&A transactions, joint ventures, private equity deals, and other financial transactions are all higher risk endeavors, especially in emerging markets where bribes are commonplace, business relationships are often opaque and information may be extremely hard to pin down.

So what do you need to know about your prospective business partners & how do you find out these kinds of details when you are sitting in an office 5,000 miles away?

Progressive levels of due diligence form a great approach to cost-effectively and rapidly demonstrating compliance with international regulations designed to detect and prevent bribery of foreign officials.  With FCPA fines and penalties averaging $18million, multi-level due diligence is a “no-brainer”.  In fact most large corporations today (nearly 80%) perform fast, basic due diligence reviews of suppliers, resellers, distributors and third party agents for AML, KYC, FCPA, & UKBA compliance.

Although important as a first step in preventing bribery, basic due diligence is only a limited tool in detecting and preventing a host of other corrupt and criminal activities.  Deeper levels of due diligence are essential steps in yielding valuable information to make critical business and financial decisions, and at the same time accomplish regulatory compliance.

First level due diligence typically consists of checking individual names and company names through several hundred Global Watch lists comprised of anti-money laundering, anti-bribery, sanctions lists & other financial corruption & criminal databases.  These global lists create a useful first-level screening tool to detect potential red flags for corrupt activities.  It is also a very inexpensive first step in compliance from an investigative viewpoint.  This basic level is extremely important for companies to complement their compliance policies and procedures; demonstrating a broad intent to actively comply with international regulatory requirements.

What are next levels of due diligence?  Supplementing these Global Watch lists with a deeper screening of international media (typically the major newspapers & periodicals from all countries) plus detailed internet searches, will often reveal other forms of corruption-related information and may expose  undisclosed or hidden information about the company, it’s key executives and associated parties.

This combined information creates a more effective screening for corruption compliance purposes.  Red/ yellow/green flag alerts based on these results can then be used to prioritize in-depth investigations. Summary reports should show the information sources reviewed and recommendations for further actions if indicated.  Green flags suggest no further actions based on findings; however the information sources  searched are limited and should not be considered the same as deep-level due diligence.  Red flags indicate the possibility is high that corruption, bribery, money laundering and or undue political influence may be likely, or is actively occurring.  Designing a multi-layered investigative approach from this point is essential in order to implement an effective business risk mitigation and compliance strategy.

These first two levels of due diligence alone are not sufficient if you have a substantial operation at stake, or a multi-million dollar investment, developing a new product, building a larger facility, developing a new market sector or creating a new supply chain for your existing products or services.  After all, why take risks when you don’t have to.

Next level due diligence should also include an in-depth background check of key executives or principal players.  These are not routine employment-type background checks which are simply designed to confirm existing information; but rather executive due diligence checks designed to investigate hidden, secret or undisclosed information about that individual.

Reputational information, involvement in other businesses, direct or indirect involvement in other law suits, history of litigious and other lifestyle behaviors which can adversely affect your business, and public perceptions of impropriety, should they be disclosed publically.

One litmus test would be: How would it look to the public and your shareholders if an executive immerses your company in questionable business practices or regulatory violations?

About 20% of executives do not check out well.  As the saying goes: “people are people”, and executives reflect most of the same issues seen in other employee groups.  Most frequently the adverse issues for executives involve undisclosed business dealings that may compromise your company’s new venture, SEC violations, criminal history, no degree(s) earned, loss of professional licensure, mis-statement of personal success/wealth, fraudulent activity and multiple bankruptcies.  In many parts of the world bribery and corruption are considered a normal part of business dealings.

Deep-level due diligence investigations are designed to supply you with comprehensive analysis of all available public records data supplemented with detailed field intelligence to identify known and more importantly unknown conditions.  Seasoned investigators who know the local language and are familiar with local politics bring an extra layer of depth assessment to an in country investigation.

Direction of the work and analyzing the resulting data is often critical to a successful outcome; and key to understanding the results both from a technical perspective and understanding what the results mean in plain English.  Investigative reports should include actionable recommendations based on clearly defined assumptions or preferably well-developed factual data points.

What are the benefits of Deep Level Due Diligence?  In addition to regulatory compliance and protecting your Board Of Directors, if a deal or business relationship is too risky the company has an informed option to re-negotiate or fundamentally change the terms of the deal, initiate damage control if needed, or even pull out of the deal entirely.

Comprehensive investigative reports will provide effective, meaningful results & actionable reports which are directly tied to corporate objectives.

Deep level due diligence should have a targeted approach articulated in a scope of work; these are not random investigations.  The more that is known about your corporate objectives from the start of the investigation, the more likely the investigators are to provide useful information.  All of this can be accomplished through NDA’s or other contract products.

Older style due diligence investigations used to include all available information, including vehicle descriptions, license plates & telephone numbers of all parties associated with the identified executives & businesses.  These old-school investigations were based on traditional law enforcement fact-gathering and evidence based reporting. However unless you plan to conduct an undercover investigation or sting operation, these data points are rarely of significance for due diligence purposes.

What is of concern in deep level due diligence:

  • Physical description / confirmation of the premises
  • Photographic evidence of facility
  • Evidence of employees showing up to work (not a “shop-front” façade)
  • Business operational & trade reputation
  • Other significant business intelligence
  • Undisclosed business information
  • Transaction evaluation
  • Competitive intelligence
  • Well-developed internet presence
  • Regional business scalability Issues
  • Issues preventing scalability (politics, lack of infrastructure to deliver goods, etc)
  • History of business criminal & civil lawsuits
  • Executive background check due diligence
  • Undisclosed personal information of key managers
  • Involvement in other business entities
  • Identity of key individuals
  • Financial assets
  • Bankruptcy history
  • Sources of wealth
  • Tax evasion
  • Confirming prior business sales (successes/failures)
  • Misrepresentations in company/exec background
  • Significant managerial issues
  • Criminal history
  • Civil litigation history
  • Records of other disputes
  • Environmental liabilities
  • SEC violations
  • Sanctions
  • Sales history
  • Client /supplier relationships
  • Procurement fraud
  • Political influence issues & public official relationships
  • Public relations issues
  • Executive & BOD lifestyle issues
  • Ties to organized crime
  • Known family connections to various groups (org crime, politicians, activist groups)

These are some of the issues that may impact the progression of a deal, result in adverse PR, or yield ethics violations or regulatory non-compliance issues.  In-country due diligence, using local investigators can reveal far more than public records information obtained in the more basic Tier 1 & 2 type investigations.  Careful analysis of the information obtained is key to successful investigative due diligence.

Controlling identified risk factors will often yield greater mid-range and long-term profitability with a relatively small capital outlay.  Due diligence investigations often form a key portion of large corporations’ emerging market & high growth markets success strategy in addition to meeting regulatory compliance objectives.

Deep level due diligence reports should provide corporate clients the assurance needed to comply with global anti-corruption regulations FCPA/UKBA and to engage in new markets with clearly identified and manageable risks.

For more information, contact: Candice Tal, CEO, Infortal Worldwide.

This publication contains general information only and is based on the experiences and research of the author. The author is not, by means of this publication, rendering business, legal advice, or other professional advice or services. This publication is not a substitute for such legal advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified legal advisor. The author, his affiliates, and related entities shall not be responsible for any loss sustained by any person or entity that relies on this publication.

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