Recently the President of the Brussels Criminal Court judged that the investigation of KB Lux was not performed on valid terms. This decision again raises questions about how to tackle economic crime and how to deal with fraudsters. In a day-to-day business environment we are more inclined to take measures internally, which in light of the KB Lux decision appears to be a more effective method. In addition, companies are often confronted with questions when dealing with a new cooperation, joint venture, merger or acquisition. These situations call for a fraud due diligence in order to avoid the inheritance of fraud risks. Due diligence investigations often prove crucial in identifying fraud risks and detecting incidences of fraud outside the books and records.
E.g. a purchaser who discovers post-deal that one of the sellers has defrauded or bribed vendors of the purchased company may be confronted with the fiscal, financial and legal consequences of such behaviour. A thorough pre-deal fraud due diligence might reveal such liabilities in many cases.
January 12th, 2010 at 1:57 pm
Dear Sir/Madam,
Indeed thorough due diligence will help mitigate the risk of (inadvertently) taking on board liabilities linked to fraudulent practices.
However, to what extent does the performance of due diligence provide legal protection against future liability – e.g. when undiscovered fraud comes to light at a later date? Is proof of investigations carried out on a “best effort” basis adequate to reject future liability, especially in a court of law?
In other words, is pre-deal fraud due diligence a necessary and prudent “common sense” expense, or does it help reinforce a legal position in potential future disputes? And to what extent do insurers providing directors and officers liability coverage demand such due diligence be carried out?
Best regards,
Steven Westhouse
January 19th, 2010 at 8:22 pm
Dear Sir/Madam,
Indeed, due diligence plays an important role in “identifying” fraud risks and “detecting” fraudulent actions “outside books and records.”
Nevertheless, since due diligence seems to provide reasonable assurance on the reporting of financial statements, does that mean it will decrease the amount of audit work and time on assessing the effectiveness of internal control?
On the other hand, could due diligence increase company’s pressure in making deals? If so, could that also increase the likelihood of fraud risks so it will offset the original intention of due diligence?
Best,
Michael Lu
January 22nd, 2010 at 9:21 am
Good question, but without a yes/no response.
If a fraudulent practice is discovered during a fraud due diligence, one should immediately stop this practice. The new Board members are, in principle, not responsible for fraud committed prior to their appointment, and which was fully ceased before or upon their appointment. However, one should be careful of the distinction between Board members and management. In general, management does not change after a merger or take-over. This might bring along risks that should be mitigated.
In theory, one should not be liable for fraudulent practices to which he did not collaborate and of which he was not aware. However, in practice, directors/managers of a company where fraud is committed and continued after an acquisition, will often (at tried to) be held liable for such fraud. If one can show that one has taken all kind of efforts to discover and mitigate fraud risks, by means of a fraud due diligence, then this might indeed substantially reinforce the legal position.
January 22nd, 2010 at 10:33 am
Hi Michael,
1) A fraud due diligence is performed before any deal/merger or acquisition takes place. A fraud due diligence needs to be distinguished from the audit, because, amongst others, the work of the auditors has a different scope than a fraud due diligence. During an audit though, the fraud experts add value for the audit team in assessing certain processes/procedures/transactions from a fraud perspective. Vice versa, during a fraud due diligence the audit team may give valuable input for the fraud team that increases the added value of the fraud due diligence.
2) Could you explain a bit more since I don’t think I understand this question right?
Best
Jacqueline