When entering into a business relationship with a new company or entity, it's vitally important to know exactly what, or who, you're getting yourself involved with. Most companies only have access to a very limited amount of public information regarding potential business partners and, without further investigation, important details could be easily overlooked.
These days, more than ever, it is paramount that pension fund managers conduct thorough and effective due diligence on all new clients to establish the ultimate beneficial owner (UBO).
As a fund manager, you are responsible for ensuring that the clients you promote are responsible, ethical and law-abiding citizens. Even if you do manage to avoid any legal entanglements in the event of supporting an unreputable client, the resulting fallout could permanently taint your public image.
Lessons from history
The 2008 financial crisis brought to light the importance of conducting effective due diligence. Prior to the crisis, companies conducted their own due diligence and the information they provided was trusted without question.
However, with the revelations of mass-scale insider trading on Wall Street that led to the collapse of major firms like the Lehman Brothers, due diligence is now an issue at the forefront of modern day business.
These days, institutional asset owners can no longer rely solely on assertions from an investment manager regarding ultimate beneficial owners (UBOs). When making investment decisions as a fiduciary, third-party verification is now necessary if the investor wishes to fulfil its fiduciary duty. As such, third-party due diligence should always be conducted by pension or provident fund managers regarding new clients.
In certain industries, the legal requirements to conduct due diligence may vary from country to country but is overseen globally by the Financial Action Task Force (FATF).
The FATF is an inter-governmental body that develops policies and provides recommendations on how to protect against money-laundering, terrorist financing, and the financing of weapons of mass destruction. It's anti-money laundering (AML) and counter-terrorist financing (CTF) policies are recognised as the internationally accepted standard.
The FATF notes that banks and other financial institutions are obliged under domestic law to "conduct extensive customer due diligence (CDD) enquiries regarding all of their customers." This involves enquiries into the client’s business model to determine the source and legitimacy of its income.
Pension funds and similar businesses that consolidate cash from smaller businesses may be required to conduct enhanced due diligence procedures due to the additional risk involved.
The FATF has also published recommended actions that business entities should follow if dealing with a politically exposed person (PEP). A PEP is defined as some in an exceptionally powerful position, usually with political influence, that could be abused for money laundering or terrorist financing activities. It's pertinent that businesses determine the UBOs of their clients and if any are PEPs, to take the appropriate risk mitigation measures.
Conducting effective due diligence
The modern business landscape has become a minefield of hazards and traps, littered with the potential for subversive conduct and the resultant embarrassment. No longer can you rely on a company's public records to provide accurate information on the business's true UBOs. Many shady business owners or people of political significance hide behind the fake names of shell companies for tax avoidance purposes or worse.
Thousands of legitimate-sounding companies that appear perfectly trustworthy online and on paper have been found to be laundering money, financing terrorism, or conducting other illegal activities. It's not uncommon for legitimate fund managers to find themselves unwittingly in bed with criminal organisations, resulting in fines, asset seizures, or criminal proceedings.
With the stakes higher than ever, pension fund managers are urged to enlist the help of a professional third-party company that conducts Operational Due Diligence (ODD) investigations.
An ODD investigation typically includes some or all of the following:
- Verification of an organisation's physical existence and its premises.
- Thorough research done in local languages.
- The discovery of unique identifiers such as tax, VAT, and commercial register numbers.
- Details of ultimate beneficial owners (UBOs)
- Identification of PEPs and types of high-risk individuals.
- Details of other entities that the company is either directly or indirectly a director or shareholder of.
- Details of any political affiliations, financing, or dealings.
- Details of bankruptcies, litigation proceedings and lawsuits
- Suspicious or questionable anomalies in paperwork.
- Legal and regulatory compliance.
Depending on the type of business, additional investigations could involve verifying correct cybersecurity practices, trading practices, risk assessments, and physical security.
In the event that your organisation chooses to enter into a business agreement with a PEP, ODD assessments must be carried on a regular basis to track any changes in the PEPs risk profile. Foreign PEPs should always be considered high risk and subject to enhanced diligence measures as recommended by the FATF.
New issues facing due diligence
The Internet has made it easier to conduct business offshore and has made it easier than ever to hide behind shell companies and fake names. The sheer scope of data and information that one may need to investigate makes due diligence a time-consuming and complex job.
The COVID-19 pandemic has made it even more difficult for companies to conduct due diligence in traditionally effective ways. International travel, face-to-face meetings and site visits are often impossible these days.
Some companies are finding novel ways to counter these problems, for example more use of satellites for international real estate investments.
Technophobes have embraced technology and trust video conferencing more, as they can no longer rely on the trust instilled by looking somebody in the eye. However, few methods are as effective as enlisting the help of a professional third-party with decades of experience in the field.
A professional organisation with experience in uncovering concealed information regarding business ownership can help you to ensure you are dealing with safe, legitimate clients. Furthermore, you will have the peace of mind that you are operating within FATF guidelines and following the appropriate risk management recommendations in regard to ODD.
For more information on how Cedar Rose can help with due diligence, give us a call today on +357 25 346630 or email firstname.lastname@example.org