Emerging Global Markets and Risk-Based Due Diligencemedia.straffordpub.com/products/conducting-due-diligence-of-busine… · Local Laws Affecting Due Diligence • National security/military

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Presenting a live 90-minute webinar with interactive Q&A

Emerging Global Markets and

Risk-Based Due Diligence Overcoming Hurdles, Avoiding Restrictions, and Ensuring

Compliance When Doing Business in Restricted Environments

Today’s faculty features:

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

TUESDAY, APRIL 26, 2016

Eric R. McClafferty, Partner, Kelley Drye & Warren, Washington, D.C.

Jay G. Martin, Vice President, Chief Compliance Officer and Senior Deputy General Counsel,

Baker Hughes, Houston

Daniel Patrick Wendt, Member, Miller & Chevalier, Washington, D.C.

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Conducting Due Diligence of Business

Relationships in Emerging Global Markets

PART I: HURDLES INVOLVED IN CONDUCTING DUE DILIGENCE IN

RESTRICTED ENVIRONMENTS

Daniel Patrick Wendt, Member

Strafford Webinar | April 26, 2016

© Miller & Chevalier Chartered 6

Agenda: Part I

• Background

– Purposes of third party due diligence

• FCPA trends re: third parties

– Quick overview of due diligence best practices

• Hurdles for effective due diligence

– Local laws

– Business culture

– Recordkeeping


Purposes of Third Party Due Diligence

• International compliance

– Effective compliance program (non-statutory)

• U.S. Attorney’s Manual/U.S. Sentencing Guidelines

• Shareholder litigation

– Anti-Corruption/Foreign Corrupt Practices Act

– Sanctions and export controls

– Anti-money laundering

– Code of conduct

• Fraud and conflicts of interest


Trends: Countries of Focus

23

16

13

9 9

7 7 7 7 6 6 6 6 6

5 5 5

3 3 3 3 3 3 3 3

Note: Updated through March 29, 2016. This chart tracks each country implicated in the corporate FCPA dispositions brought by the SEC

and DOJ. Where a matter involved more than one action brought against a particular company and its subsidiaries and affiliates, those

actions are “combined” and counted as one.

Countries Implicated Most Frequently in Corporate FCPA Enforcement Actions

2009 – 2016


Enforcement Actions Involving Third Parties

9 9

63

49

0

10

20

30

40

50

60

70

1992-1996 1997-2001 2002-2006 2007-2011 2012-2016**

5

* These statistics combine all related resolved enforcement actions involving each company and its subsidiaries and affiliates.

**2012-2016 numbers are estimated based of pace of enforcement through March 29, 2016.

Combined Corporate Enforcement Actions Involving Third Parties*

1992 through 2016


Trends: Focus on Non-Traditional Third Parties

• In recent years, the agencies have expanded their focus

beyond traditional third party intermediaries (e.g., sales and

customs agents, consultants, lobbyists):

– Channel partners/distributors (Hewlett Packard, Mead Johnson)

– Stevedoring company (ADM)

– Insurance company (ADM; J&J; IBM; and BAE)

– Simulation technology and power generation subcontractors (Data

Systems)

– Unspecified "vendors" (Oracle; Pride)

– Driver (Paradigm)

– Landlord (Paradigm)


Due Diligence Keys: Know Your Partners

• Due diligence

– Business rationale

– Qualifications

– Ownership

– Relationships with officials

– Reasonableness of

compensation

• Tiers of due diligence

– Type of relationship

– Red flags arising from due

diligence

– Limits of due diligence news

regarding Unaoil

• Safeguards

– Contract terms

– Certifications

– Monitoring


Local Laws Affecting Due Diligence

• General privacy laws

– Limiting the ability to pursue due diligence of entity ownership,

affiliations, reputation, personal background

– China: Prosecution of ChinaWhys

• Types of private information: Residence addresses, family members, exit-

entry information, real estate ownership

• Limitations on corporate information

– U.S. registrations: Delaware, Oregon

– Offshore jurisdictions: BVI, Mauritius, Cyprus, etc.

• Panama Papers

– Registrations

• China: Many different corporate authorities



• Data privacy

– Nature of legislation, regulations and enforcement varies

– Definition of “personal data” is often very broad

– “Processing” data (often any third party access)

– Cross-border transfers of data

• Cross-recognition among some regions

• United States isolation

– Negotiation of new US-EU Safe Harbor Standard

– Forms of consent vary depending on collection, use



• National security/military secrets

– Depends on nature of industry and business partners (e.g., state-owned

enterprises)

– Can often cloud business transparency, limit discussions and/or access

to documents

– Can also increase risks of conducting market-based due diligence

(sensitive topics, entities, ownership)

– Can often be used as a shield to hide improper dealings?

• Business justifications: Gov’t Agency X has directed use of Entity Y

• Limited responses to questionnaires

• Opaque ownership, limited references



• Local partner requirements

– Multinationals obligated to use national/local partner in various markets

– Pool of potential partners may be limited

– Can potentially limit the effectiveness of due diligence


Business Culture Affecting Due Diligence

• Language

– Necessity to conduct due diligence using resources in all relevant

languages

• Ownership/shareholders/offshore entities

– Business culture of using nominal shareholders?

• Often require extensive cooperation from target and/or extensive market

intelligence in order to resolve issues

– Familial relationships

• Direct family

• Extended family

– Trusts/control agreements


Business Culture Affecting Due Diligence

• Patronage/protection

– Unofficial links to government officials, other prominent locals

• Necessity to use third parties for business development

– Brazil: five years ago

– Brazil: post-Operation Carwash

• Access to information in-country

– Limited press?

– Close-knit business communities?

– Monitoring of communications?


Recordkeeping Concerns

• How to handle information gained during due diligence

– Retrieving data from high-risk markets

– Storing sensitive data (in-country vs. offsite)

– Communicating results back to high-risk markets?

• Considerations

– Local law concerns (data privacy, national security, etc.)

– Necessity for local personnel to know results

– How to handle local monitoring/investigations/raids

• Discussions of government officials?

• Discussions of private citizens with significant local influence?

• Information that may otherwise be sensitive?

Due Diligence Hurdles in Emerging Markets – Reducing Risk

Eric McClafferty, Partner

(202) 342-8841

[email protected]

mailto:[email protected]

Overcoming Obstacles to Diligence in Emerging Markets

As just discussed, many emerging markets present high levels of

compliance risk

FCPA, political risk, fraud, export control, national security

concerns, data privacy, and more

Combine this with difficulties in conducting due diligence in

Emerging Markets

Lack of available or easily searchable records

Cultural issues, including local lack of experience/familiarity with

diligence research

This results in a high risk situation with less than adequate access to

information needed to reduce that risk

Moreover, timing is often very short, especially in the M+A context

20

What do you do in response to these challenges?

You must work to identify areas of particular risk

Red Flags

21

Identifying Red Flags -- Examples

22

Unusual payment arrangements for provision of services, including excessive payment for limited services/access

A recommendation by a government official to hire a particular third party

Doing business in country with reputation for corruption

Refusal by a business partner to agree to anticorruption provisions in agreements

Evidence of, or requests for unusually high commissions

Lack of transparency and other issues in accounting records

Joint-venture partner third party that does not appear capable of performing the services offered

More Red Flags

Lack of internal controls

Lack of code of conduct, anti-corruption, anti-fraud,

and other compliance program indicators (more

common than you might think)

Sales to or purchases from government or State

Owned Enterprise (SOE)

Charitable giving concerns

Gift, travel, entertainment concerns

Marketing expense issues

23

How do we spot red flags?

Recognize the context and adapt the approach

Acquisition diligence?

Selecting a third party service provider?

Evaluating a supplier?

Analyzing potential Government or non-government customer?

Different contexts require different approaches.

In each context, take a systematic approach so that basic questions

are asked and answered every time you undertake a similar review

(recognizing that the process will improve over time)

But build in flexibility to adapt to the situation – additional

questions and follow-up based on initial research and what is

learned as the review progresses

24

Basic and advanced research techniques

The Internet

Databases – many types (D+B, Hoovers, public records, news, legal

filings)

Transparency International

TRACE and similar service providers

U.S. Government – Example

U.S. Commercial Service

25

26

27 27

28 28

29 29

Research techniques continued

Questionnaires for your business personnel

Questionnaires for the target

Do business with the government?

Connections to current or past government or political party

personnel?

Interviews

Site visits

Third party investigators (international and local) and local attorney

resources. Retained by counsel if possible to protect privilege to

extent it is available.

Risks and benefits

And other tools

30

Systematic, Reliable, Defensible Approach

Again, recognizing that there is a continuum of risk, of available

resources, and limits on time --

Perfection typically not obtainable

When to devote maximum resources

Are you in a heavily scrutinized industry?

Lots of $ at stake?

Dealing in a very corrupt environment?

What is the minimum?

Want to be sure you are getting the basic information each time

Forms, checklists, questionnaires demonstrate the methodology and

provide a record upon which decision was based.

31

Conducting Document Reviews and Interviews

Selecting the team. Outside counsel? Forensic accountants?

Language capability

Again, recognize the context and identify roles. For example,

Acquisition target? Cannot afford to antagonize senior members

of the target company.

But you need to obtain information.

Review the documents before starting the interview, or interview

early? On site file review? What are we looking for?

How does the company do business?

Sell to the government? How much, how often?

Use third party intermediaries? How much, how often? How

paid?

32

Document Review -- Examples

Organizational Chart

Names and positions of personnel responsible for compliance

Code of Conduct and training on Code and compliance system

Specific anticorruption, fraud, etc., policies, procedures

Past experiences with corruption (previous investigations, violations,

penalties). Past audit reports.

Samples of contracts with third parties – agents, distributors,

customs brokers, forwarders, etc.

Financial reports, including expense reimbursement data

Hotline reports?

Emails?

33

Interviews continued

Who gets interviewed?

Senior personnel and compliance personnel

Who deals with government customers, SOE’s?

Who knows about payments, especially to third parties?

How to interview? Elicitation through to interrogation.

Get them talking about their business. No judgement. No

explaining FCPA, or other legal provisions. Focus on the facts.

Be ready to get at relevant information through several avenues.

Compare and contrast answers.

In person or on video? Watch body language and other clues, but

recall cultural context. You may not be an expert.

34

Interview approaches, continued.

Leave the door open to come back with more questions.

Watch data privacy issues.

Documenting the review process.

35

36

Positive and negative factors that need to be considered in any evaluation of a third party being used in a high risk country

• Third Party Characteristics – Positive Signs

• No Government Contacts • Clear Ownership • Commercial Capability • Experience in the Region • Commercial Directory Listings • Past Positive Relationship • Favorable Business References • Based in Low-Risk Country • Established Facilities

– Negative Signs • Related to Government Official • Government Official Referred • Lacks Licenses or Registrations • Lacks References • Lacks Experience • Primary Strength is Influence • Incorporated in High-Risk Country • Questionable Past

37

Positive and negative factors that need to be considered in any evaluation of a third party being used in a high risk country • Third Party Requests

– Positive Signs • Effort-based Compensation • Concrete Deliverables • On-budget, On-time Performance • Interface with Qualified Staff • Detailed Scope of Work • Transparent Payment Process • Accurate Documentation

– Negative Signs • Refuses Corruption Contract Provisions • Excessive Compensation • Misleading Payment Structure • Anonymity • Success Fee • Subcontracting to Third Party • False Documents

38


• Third Party Operations

– Positive Signs

• Performance Consistent with Proposals

• Accurate Documentation

• Anti-Corruption Program

• Well-Trained Employees

– Negative Signs

• Becomes Target of Investigation

• Unclear or Suspicious Documentation

• Requests Backdating or Fraudulent Documentation

• Refuses to Certify Compliance

• Connection with Government or Customer Emerges

• Suspicious Expenses or Travel

39


• Third Party Payments & Invoices – Positive Signs

• Commercially Reasonable Terms • Regular Channels • Matches Commercial Capability • Reasonable Compensation • Payment in Country • Established Banks

– Negative Signs • Third Countries or Parties • Third-Country Banks • Shell Companies • Post Office Boxes • Larger Payments During Government Interaction • Success Fee • Unexpected Bonuses or Loans • Invoices Paid Too Quickly • Requests Negotiable Currency

40

Thank You

Eric R. McClafferty

Kelley Drye & Warren

[email protected]

Jay G. Martin

Baker Hughes

[email protected]

Daniel Patrick Wendt

Miller & Chevalier

[email protected]


