Commercial Transactions Due Diligence

What is FATF?

FATF, which is the acronym for the Financial Action Task Force, and also known by its French name, Groupe d’action financière (GAFI), is an inter-governmental policy-making organization founded in 1989 by the initiative of the G7. The FATF Secretariat, headquartered in Paris, is comprised of over 30 countries, and has a ministerial mandate to establish international standards for combating money laundering and terrorist financing.

The primary functions of the FATF are to monitor members’ progress in implementing necessary measures, review money laundering and terrorist financing techniques and counter-measures, and promote the adoption and implementation of appropriate measures globally. To date, over 180 jurisdictions have joined the FATF or a FATF‐style regional body, and committed at the ministerial level to implement FATF standards and evaluations. In performing its activities, the FATF collaborates with other international bodies involved in combating money laundering and  terrorism financing, and has established mutual evaluations (see monitoring implementation of the FATF recommendations.)

The FATF does not have a tightly defined constitution or an unlimited life span, and thus periodically reviews its mission. The current mandate of the FATF (for 2004-2012) was subject to a mid-term review and was approved and revised at a ministerial meeting in April 2008 (see FATF standards.)

January 18th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , |

Unauthorized Banks List

The Office of the Comptroller of the Currency (OCC) issues alerts to provide information about entities engaged in unauthorized banking activities, both offshore and domestic. The alphabetical Unauthorized Banks List, which contains bulletins from 1994 to the present, is intended to aid in the search for names of such entities and detail the problem that prompted the issuance.

January 12th, 2011|Categories: Commercial Transactions Due Diligence|Tags: |

Prime Bank Frauds

 

Prime bank schemes generally claim that investors’ funds will be used to purchase and trade “prime bank” financial instruments on clandestine overseas markets, and generate huge returns. However, neither these instruments, nor the markets on which they allegedly trade, exist. To legitimize the schemes, the promoters distribute documents that appear complex, sophisticated and official. They frequently tell investors that they have special access to programs that otherwise would be reserved for top financiers on Wall Street, or in London, Geneva and other world financial centers. Possible profits of 100% or more with little risk also are touted.

The fraudsters target individuals and entities, including municipalities, charitable associations and other non-profit organizations. They advertise in national newspapers, such as USA Today and The Wall Street Journal, and often avoid using the term “prime bank note” in their spiel. In fact, investors are told that the programs do not involve prime bank instruments so that they appear legitimate.

The Office of the Comptroller of the Currency (OCC) posted the following warning signs of “prime bank” investment fraud:

  • Excessive guaranteed returns

Promises of unrealistic returns, of 20% to 200% monthly, at no risk, are the hallmarks of prime bank fraud.

  • Fictitious financial instruments

Despite credible-sounding names, the “financial instruments” at the heart of any prime bank scheme simply do not exist. Fraudsters frequently claim that the offered financial instrument is issued, traded, guaranteed, or endorsed by the World Bank (Department of Institutional Integrity or Operations Evaluation Department), International Monetary Fund (IMF), Federal Reserve, Department of Treasury, International Chamber of Commerce (ICC), or an international central bank.

  • Extreme secrecy

Fraudsters maintain that the transactions must be kept confidential by all parties, making client references unavailable. They describe the transactions as the best-kept secret in the banking industry, and assert that, if asked, bank and regulatory officials would deny knowledge of such instruments. Investors may be prompted to sign nondisclosure agreements.

  • Exclusive opportunity

Fraudsters claim that the investment opportunities are by invitation only, available to a handful of special customers, and historically reserved for the wealthy elite.

  • Complex presentations

Explanations often are vague about who is involved in the transaction or where the money is going. Fraudsters cover up the lack of specificity by stating that the financial instruments are too technical or complex for non-experts to understand.

January 12th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , |

Some call the new U.K. Bribery Act “The FCPA on Steroids”

The new law, called the Bribery Act, takes effect in April 2011. It resembles the U.S. Foreign Corrupt Practices Act (FCPA) which bars companies that trade on U.S. exchanges from bribing foreign government officials to gain a business advantage, but the Bribery Act goes beyond the FCPA by not just prohibiting illicit payments to foreign officials, but also bribes between private business people. It holds even if the individual who makes the payment does not realize that the transaction was a bribe.

And the Act’s impact extends beyond U.K.-based companies. It applies to entities with any “business presence” in the U.K., regardless of where the act of briberyoccurs. It also covers bribery by any person with “close connections” to the U.K., including both British citizens and citizens of others countries “ordinarily residing” in the U.K.

According to the Ministry of Justice, the law basically creates three criminal offenses: 1) giving or accepting a bribe designed to induce someone to perform a function improperly; 2) bribing a foreign public official with the intention of obtaining a business advantage, and 3) failing to prevent bribery.

Legal experts say that the most significant development in the law is a company’s strict liability for failing to prevent bribery (by an employee, a joint-venture partner or a subsidiary.) Under the Act, the company can be penalized with an unlimited fine for such actions, and further can be held liable for the acts of bribery by a person “associated” with the company who is trying to obtain a business advantage for the company. And unlike the FCPA, the Act does not exempt from prosecution what are commonly known as “facilitation payments.” (In some parts of the world, it is common practice to pay a small amount of money to ensure that an otherwise legitimate permit is approved in a timely manner.)

While the British government released some draft guidance on the Act in late 2010 and more definitive text is expected in 2011, it is unclear how vigorously the law will be enforced or what resources will be committed to investigating and prosecuting the suspected violations. Ultimately, it will be up to the courts to determine the true impact of the new law.

January 5th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , , , |

Turning to lie detectors for investment confidence

 

Media reports say that amid the still unsettled regulations in the wake of the financial crisis, affluent investors are turning to behavioral specialists, looking to find things in the faces and phrases of their fund managers that may not be revealed in financial statements.

Eccentric screening techniques are nothing new to Wall Street. Seigmund Warburg, founder of the investment bank S. G. Warburg & Co., was known for subjecting customers and employees to psychological tests, and evaluating hand-writing samples of job applicants. And these days, requests for deception detection are on the uptick, as acknowledged by lie detector professionals who are turning down repeated orders to analyze subjects for Wall Street firms.

Earlier this year, intelligence sources disclosed to the publication Politico that the CIA, within tight guidelines of its employment policies, allows agents to moonlight in the private sector, and that some of them work as “human lie detectors.” Calling deception detection an “arcane field,” Politico reported that such experts recognize the verbal and nonverbal cues that indicate someone may be lying, and the people under scrutiny never know they’re being evaluated. Politico recounted an incident from 2005 where a large hedge fund, through a third-party, retained CIA-trained analysts to remotely listen in on a quarterly earnings status call from executives at UTStarcom. During the call, the agents noted some suspicious responses by the interim CFO, and specifically about revenue recognition. They subsequently cautioned that the company most likely would post poor results in the third-quarter. And sure enough, the prediction came true: a day after the below-expectations results were released, the stock closed at $5.64. It had been trading at $8.54 when the CIA listened in on the call in August.

So exactly what verbal clues tipped off the agents? In this case, it was a “detour statement” when the interim CFO qualified his response to a revenue recognition question by referring back to an announcement from a previous quarter, and avoided further comments on any related issues. The executives on the call also projected low confidence, had an underlying concern and did not readily come forth with information.

According to corporate lie detection experts, there is a myriad of verbal clues that may be indicators of dishonesty. Shifts in language patterns, such as switching from the first person to the third person, i.e., suddenly speaking on behalf of “the firm” or “the team,” and quick “rehearsed” responses may be red flags. Statements that contain the words “honestly,” “frankly” or “basically” and phrases such as “as I said before” and “I swear to God” also have been linked to deception. Attacking the questioner with “How dare you ask me something like that?” too may point to someone who is uncomfortable with the untruth, as well as having a selective memory as indicated by the phrase “to the best of my knowledge.” Additionally, complaints – “How long is this going to take?” – and overly courteous responses – “yes, sir” – have been found common in liars.

And of course there are physical indicators of lying, with the main ones being facial twitches, changes in breathing tempo, and dilated pupils. Professional human lie detectors say that people who are uneasy with deception will show that in motions such as micro-expressions—brief flashes of fear or other changes in a face—or concealing positions like crossing legs, or sitting motionless. Shifting anchor points, grooming gestures such as adjusting clothes, hair or eyeglasses, picking at fingernails, and cleaning the surroundings by straightening paper clips on the table or lining up pens are also possible indicators of honesty transgressions.

Skeptics, however, abound. In a May 2010 report, even the Government Accountability Office called into question the effectiveness and the scientific foundation of deception detection techniques. And many experts agree that even the most common dishonesty signs are not universal and detection is most effective when the analyst can establish an “honesty” pattern and then look for deviations.

When screening a fund manager, investors still like to see experience, a consistent record and good returns. And a comprehensive background investigation that provides such information may be more predicting of future behavior and honesty than a Pinocchio’s nose. But human lie detectors can identify “hot spots” for extra probing, and combined with a traditional due diligence, buy investors a reasonable peace of mind.

January 4th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , |

FTC’s latest privacy initiatives

On December 1, 2010, the Federal Trade Commission (FTC) released its long-awaited preliminary report on the protection of consumer privacy titled “Protecting Consumer Privacy in an Era of Rapid Change: A Proposed Framework for Businesses and Policymakers.” The FTC is seeking input on this proposal and intends to issue a final report sometime in 2011.

The report, which covers both online and offline data collection and use, reiterates certain concrete steps that the FTC believes organizations should take related to choice and transparency and also provides broad guidance that applies to all commercial entities that collect or use consumer data, including companies that do not interact directly with consumers, such as information brokers. The framework is not limited to personally identifiable information (PII); it applies to all consumer data that can be linked to a specific individual or to a computer or other device.

Focusing on new and growing threats to consumer privacy driven by innovations that rely on consumer data, the proposal outlines a three-step framework for data protection:

1) Privacy by Design – Organizations should integrate privacy concepts into every stage of the life-cycle of their products and services, develop marketing initiatives and data-sharing activities based on privacy guidance from the inception of such projects, and develop and maintain comprehensive information programs to protect and manage consumer data within the organization itself. Data security, reasonable collection limits, sound retention practices, and data accuracy are critical program components.

2) Choice – Organizations should offer clear and easy-to-use choice mechanisms at the point when the consumer is making a decision about his/her data, such as at the point of collection, implement a “do not track” mechanism, such as a persistent web browser setting that allows consumers to block all tracking of their online activities, obtain consumer consent before sharing data for marketing purposes with third parties or even with its affiliates if the affiliate relationship is not clear to consumers, and require enhanced consent for sensitive information, such as data about children, financial and medical information, and precise geolocation data.

3) Transparency – While privacy policies remain a critical tool for notifying consumers (and regulators) of an organization’s privacy practices, in general, most privacy polices need to be streamlined and simplified, and organizations must obtain consumer consent before implementing a change in policy that affects previously collected data. Organizations also should explore mechanisms for providing consumers with access to their data.

December 10th, 2010|Categories: Commercial Transactions Due Diligence|Tags: , |

Historical investment fraud sweep compels numerous civil and criminal actions

 

On December 6, 2010, the Financial Fraud Enforcement Task Force announced the conclusion of Operation Broken Trust, the largest investment fraud sweep ever conducted in the United Stated. Started August 16, 2010, the operation captured 343 criminal defendants and 189 civil defendants who were involved in fraud schemes that harmed more than 120,000 victims throughout the country. The criminal cases involved more than $8.3 billion in estimated losses and the civil cases more than $2.1 billion. Eighty-seven defendants have been sentenced to prison, including several who will serve more than 20 years.

The sweep focused on fraudsters who offered “investment opportunities” that were either completely fictitious or not structured as advertised. An overwhelming number of these were high-yield investment frauds and Ponzi schemes. Others involved commodities fraud, foreign exchange fraud, market manipulation (pump-and-dump schemes), real estate investment fraud, business opportunity fraud, and affinity fraud. Some of the perpetrators filed for bankruptcy in an attempt to avoid claims by victimized investors. In many instances, the criminals were trusted people within their communities—neighbors, co-workers, fellow church members—who betrayed that trust in order to line their own pockets.

December 10th, 2010|Categories: Commercial Transactions Due Diligence|Tags: , , |

Corporate misconduct can preclude directors from serving on other boards

 

Due diligence on current and prospective board directors should extend not only to the legal liability exposure but also to the possibility of losing valuable opportunities for board membership at other firms,” said Jason Schloetzer, assistant professor of accounting at Georgetown University’s McDonough School of Business and author of The Conference Board Report. “In the current litigation environment, it is particularly important for the board to demonstrate to shareholders and the judicial system that any failure to prevent or discover corporate misconduct took place in spite of the rigorous performance by the board of its oversight duties, including the establishment of a state-of-the-art compliance program.”

The Conference Board Report, released November 4, 2010, analyzed the changes in directorships held by outside board members of 113 public companies involved in shareholder class-action lawsuits that alleged misrepresentation of information to investors. The study, encompassing the period of 1996 to 2005, tracked directorship changes for three years after the start of litigation and used data from proxy statements to identify director turnover.

Within three years of litigation, 83.2% of outside directors remained on the board of the public company involved in the lawsuit, the study found. Related research showed that outside directors in firms involved in litigation did not appear to turn over any more frequently than the average among all outside directors. However, outside directors whose companies were involved in litigation experienced reduced opportunities to serve on other companies’ boards. The average number of board seats held by these individuals at other companies dropped from 0.95 in the year prior to the litigation to 0.47 three years after the suit was filed.

November 9th, 2010|Categories: Commercial Transactions Due Diligence|Tags: |

Green-energy scams put portfolios in the red

 

The emerging green-energy market has created a horde of fraudsters. So many, in fact, that late last year, the Financial Industry Regulatory Authority (FINRA) warned about schemes that promise large gains from investments in companies that pitch alternative, renewable or waste-to-energy products. And in May of this year, the Securities & Exchange Commission (SEC) followed with its own alert about potential scams that exploit the Gulf oil spill and related cleanup efforts.

The green-energy get-rich-quick schemes are showing up in blog posts, e-mail, infomercials, Internet message boards, text messages, and Twitter. As with most investment scams, all promise unrealistic returns, such a 200 percent stock gain by a solar panel company, a one-in-a-million deal to get a “51 times” return on current stock value from a China wind-power enterprise, and a 500 percent one week stock gain by a hydrogen-based energy outfit.

Of course, the regulators are on the lookout for the scammers. In one recently filed case, the SEC charged that promoters of eco-friendly investment opportunities lured 300 investors into a $30 million Ponzi scheme, encouraging the participants to finance “green” initiatives of Mantria Corporation, including a purported “carbon negative” housing community in rural Tennessee and a “bio-char” charcoal substitute made from organic waste. Investors were promised returns ranging from 17 percent to “hundreds of percent” annually. But, according to the SEC’s complaint, Mantria did not generate any income from which such extraordinary returns could be paid.

As cautioned by the SEC, the oil spill in the Gulf of Mexico brought additional scam opportunities for cons promising financial gains from investments in companies that claim to be involved in the cleanup operations. In May and June 2010, the SEC suspended the trading in shares of ACT Clean Technologies Inc. of Huntington Beach, CA, and Green Energy Resources, Inc. of New York, NY, because, among other issues, questions arose about the accuracy and adequacy of the publicly disseminated information by the companies.

To dodge green-energy investment scams (and other frauds) investigate before investing! And:

  • Never rely solely on information contained in an unsolicited communication.
  • Find out who sent the investment recommendations; many companies and individuals that tout stocks are paid by the company being promoted.
  • Examine the fine print for any statements indicating payments in cash or in stock for issuing the report or message.
  • Find out where the stock trades. Most unsolicited recommendations involve stocks that do not meet the listing requirements of the major stock exchanges; they are usually quoted on the OTC Bulletin Board or in the Pink Sheets, which do not impose minimum qualitative standards. Many of the OTC or Pink Sheets stocks trade infrequently which can make shares difficult to sell. When these stocks do trade, they may fluctuate in price very rapidly.
  • Read the company’s SEC filings to verify information.
  • Exercise skepticism and be wary of any pitch that suggests immediate pay-offs, especially if the investment involves a start-up company or a product or service that is still in development.
October 19th, 2010|Categories: Commercial Transactions Due Diligence|Tags: , , , |

SEC’s proposed rule requires issuers and underwriters of asset-backed securities to make due diligence findings available to the public

The Securities and Exchange Commission (SEC) issued on October 13, 2010 a proposal to enhance disclosure to investors in the asset-backed securities market. The proposed rule requires issuers of asset-backed securities (ABS) to perform a review of the assets underlying the securities, and publicly disclose information relating to the review. The proposal also requires an issuer or underwriter of ABS to make publicly available the findings and conclusions of any third-party due diligence report.

  • The SEC’s proposed rule would enhance ABS disclosure in three ways:
    Issuers of ABS that are registered with the SEC would be required to perform a review of the bundled assets that underlie the ABS.
  • Proposed amendments to Regulation AB would require an ABS issuer to disclose the nature, findings and conclusions of this review of assets.
  • Issuer or underwriter of both registered and unregistered ABS offerings would be required to disclose the findings and conclusions of any review performed by a third-party that was hired to conduct such a review.

In addition to this rule, the Commission last week proposed regulations that require issuers of ABS — and credit rating agencies that rate ABS — to provide investors with new disclosures about representations, warranties, and enforcement mechanisms. And, in April 2010, the Commission proposed rules that would revise the disclosure, reporting and offering process for ABS to better protect investors in the securitization market.

The Dodd-Frank Wall Street Reform and Consumer Protection Act requires the Commission to adopt rules regarding the review of assets, such as loans, underlying the securities no later than 180 days after enactment.

October 15th, 2010|Categories: Commercial Transactions Due Diligence|Tags: , , , |
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