We wrote on Tuesday about Private Equity and increased interest by US investigators.  Anti-corruption and money laundering laws touch on Financial Services and Private Equity in a number of ways.

One obvious hot spot is M&A activity.  The US Securities & Exchange Commission has recently targeted Private Equity for activities of a portfolio company.  We wrote yesterday that what happens accross the Atlantic has a habit of turning up in the UK.

Due diligence

Unwittingly buying any business with corruption and money laundering problems is an unattractive prospect.

In the US successor liability can result in a purchaser paying a high price for the sins of the fathers.

In the UK the chickens also come home to roost.  UK money laundering laws mean some or all of the assets acquired could be at risk of confiscation.  Other money laundering offences could be committed and there is the problem that the newly acquired shiny subsidiary may become subject to a criminal investigation with all the time and cost considerations that go with it.

Nobody wants to buy a very big problem and an asset that is blighted and unsellable.  So how can this be avoided?

Due diligence is a staple of the acquisition process whether it takes place before, in the context of a friendly private acquistion or, after, in the context of a more hostile public transaction.

Today that diligence should always include looking out for the traditional red flags of corruption.  For this reason we often find ourselves brought into corporate transactions.

Some basic questions to ask include:  Does the target(s) operate in a risky sector (for example oil, pharmaceutical etc.) or region (a country low on the Transparency International Corruption Perception Index)? Is the target dependent on third parties to obtain contracts ? Does it have sufficient internal anti-corruption controls?

This is not an exhaustive list…

Looking for trouble?

With an M&A transaction imposing due diligence on these and other issues it is no surprise that corruption investigations are often sparked as part of, or resulting from, the M&A process.

The recent acquisition by Kraft of Cadbury is a prime example.  In Kraft’s March 10K it reported:

“A compliant and ethical corporate culture, which includes adhering to laws and industry regulations in the United States and abroad, is integral to our success. To this end, after we acquired Cadbury in February 2010 we began reviewing and adjusting, as needed, Cadbury’s operations in light of U.S. and international standards as well as Kraft Foods’ policies and practices. We initially focused on such high priority areas as food safety, the Foreign Corrupt Practices Act (“FCPA”) and antitrust. Based upon Cadbury’s pre-acquisition policies and compliance programs and our post-acquisition reviews, our preliminary findings indicated that Cadbury’s overall state of compliance was sound. Nonetheless, through our reviews, we determined that in certain jurisdictions, including India, there appeared to be facts and circumstances warranting further investigation. We have undertaken these investigations, which are ongoing.

On February 1, 2011, we received a subpoena from the SEC. The subpoena, issued in connection with an investigation under the FCPA, primarily relates to a Cadbury facility in India that we acquired in the Cadbury acquisition and primarily requests information regarding dealings with Indian governmental agencies and officials to obtain approvals related to the operation of that facility. We are cooperating with the U.S. government in its investigation of these matters.”

Private Equity had until recently been immune.  However, just before Christmas it was reported that a large European group was also subject to an US Securities and Exchange Commission Foreign & Corrupt Practices Act investigation not in relation to its activities but instead the activities of a portfolio company which its Private Equity arm invested in.  This is believed to be a first.

The good news

In the UK it is possible to obtain comfort from the SFO in the context of an M&A transaction. The SFO confirms:

“….we are ready to offer assistance in one type of case which corporates have mentioned to us. This is where a group (A) is proposing  to take over another group (B) and, during due diligence, discovers overseas corruption issues in (B). (A) is committed to a modern ethical corporate culture and, if the transaction goes ahead, would take the necessary remedial action in respect of what has happened. (A) wishes to know what our approach would be.

We appreciate the need for help in the circumstances and will give (A) assurances about our action. These assurances could be that no action will take place provided that (A) takes the remedial action it has told us that it will take if the takeover goes ahead.

Alternatively, if we find that the corruption is long lasting and systemic, we might say that we would consider a criminal investigation whether at the corporate or individual level. We appreciate that these issues are often likely to be very confidential and price sensitive. We would anticipate that professional advisers would want to discuss a possible approach with the SFO before it was actually made.”

In the US there is a potentially similar approach via the opinion procedure.  In the past the DOJ taken an intrusive approach for example in the attempted 2008 hostile takeover by Halliburton of UK company Expro.

The quid pro quo of both approaches is likely to be transparency with the DOJ and/or the SFO as appropriate.  This is something which will require careful handling with the seller and the regulator.

A potentially uncomfortable position for a seller but a potential life belt for a buyer.