Risk Alert – Are asset sales or purchases part of your anti-corruption due diligence and assessments?

When planning your next anti-corruption risk assessment or audit, one area that may deserve closer attention is asset sales and purchases.

This risk area is often overlooked in routine compliance planning and testing, but it is a growing focus of any enforcement actions your company may face.

These transactions can involve the sale or purchase of a parcel of land, a building, an oil block or mineral rights, intellectual property rights, or a complex piece of machinery. Very often, intermediaries are involved, which then resell the same assets to the intended buyer.

In many cases, these transactions are subject to approval by foreign regulatory bodies — adding corruption in addition to fraud risk. This also is a growing area of government investigations that are triggered by whistleblowers or anti-corruption enforcement, including actions that stem from cross-border cooperation among regulators.

Now, with both an abundance of data and advances in analytics, we can pinpoint instances where these transactions involve suspicious shell companies, high-risk jurisdictions, repurchases by a related company at inflated prices, direct shipments that bypass an intended intermediary (and the corollary, strawman intermediaries that serve no role), and other red flags.

Understanding and thinking more deeply about this type of transaction during an anti-corruption audit or risk assessment can pinpoint the risks, including the principal risk of intentional overpayment or underpayment. For example, an asset may be sold for less than fair market value, with the new owner agreeing to kick back a portion of the discount. Similarly, your company may buy assets for more than fair market value, then share a portion of the premium received. In both cases the unearned hidden value may be transferred and shared among colluding parties and with corrupt government officials.

The challenges of detecting fraud and corruption in the sale or purchase of corporate assets can be very difficult for several reasons. For instance, determining whether the price was fair and reasonable considers multiple factors, including management’s judgment (which may be considerable), synergies expected by the new owner, the unique financial situation of both parties, the overall market, estimates of the physical state of the assets, seemingly necessary capital improvements, and assumptions on future economic measures such as the price of oil, interest rates, inflation, currency exchange rates, etc. All of these and other factors can lead to different estimates of fair value.

Due to these complexities, subsequent claims that the transaction caused economic loss, or allegations that the valuation of the asset was fraudulently manipulated, are difficult to prove.  This difficulty and the high-dollar value involved in these transactions can create opportunities and incentives for collusion, kickbacks, fraud, and corruption.

While a full investigation of asset sales or purchases is not typical, steps can be taken to identify and address the risk in anti-corruption risk assessments and audits. During the review, the following questions can be considered:

• Was there anything unusual about the timing of the transaction?

• Did the dates coincide with any important political dates or changes in corporate leadership?

• Is it clear that multiple reputable parties were fairly sought out when assets were sold?

• Were approvals from government regulators necessary to finalize the transaction?

• Is the purchaser an established entity with a track record of purchasing and developing the type of assets involved in the transaction?

• Did anyone familiar with the deal raise any concerns, dissent or have any doubts about the transaction?

• Who approved the transaction, and were any questions raised about management’s judgment of the approved price?

• Were any vendors (consultants, appraisers, law firms) retained during the process?

• Was their work product sufficient to show their value to the transaction?

• Are there concerns about the accounting gains or losses associated with the transaction?

When planning your next ABAC review, internal audit, or due diligence, consider adding asset sales and purchase transactions to the work plan. These transactions are likely to be scrutinized by U.S. regulators if your company ever comes under investigation. And, from an internal perspective, they present an opportunity to examine your business under other-than-ordinary-course-of-business circumstances.

For complex transactions, the combination of a strong forensic accountant and attorney who have experience in evaluating such transactions is invaluable.

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Cody Worthington is a Contributing Editor of the FCPA Blog. He’s a Senior Manager in the Fraud Investigation & Dispute Services (FIDS) practice of Ernst & Young LLP.  Based in Washington D.C., he leads investigations specializing in forensic accounting, compliance, due diligence and fraud, providing support to clients on  government investigations and allegations of occupational fraud and corruption. Contact him here.

Mike Trahar is a Senior Manager in the Fraud Investigation & Dispute Services practice of Ernst & Young LLP.  He previously spent ten years as a litigation attorney and has conducted investigations in more than 25 countries across a number of industries. He has participated in every phase of investigations, from initial responses to whistleblower allegations to negotiating liability and penalties at the table with the DOJ and SEC. Prior to entering law, he was a U.S. Marine Corps infantry officer for 12 years. Contact him here.