Friday Letter: Dirty little secret

Anti-money laundering controls are a pain – no wonder many private equity firms in the UK have little to zero systems in place in this regard. But failure to comply could lead to even more painful penalties from regulators.  

In August, the UK’s Financial Services Authority (FSA) reported that it spent several weeks visiting 11 unidentified private equity firms to assess their compliance and anti-money laundering controls. Its findings were then sent in a letter to private equity firms around the UK. Over half of all the key weaknesses the letter identified relate to anti-money laundering procedures.

At issue is the ability of private equity operations to devise and maintain appropriate defence mechanisms. No one thinks there is much of a likelihood of a criminal mastermind sitting on an LP advisory board. Having identified shortcomings, the FSA will not let the matter drop: in its letter to UK private equity firms, it said it was “planning a new round of visits to firms before the year end“.

Three failings in particular were highlighted by the report – lack of knowledge of the relevant procedures, failure to make annual reports to the FSA and poor record keeping.

The significance of the findings was expressed in a statement by British Venture Capital Association (BVCA) chairman Vince O’Brien, who said: “The FSA has a track record of bringing enforcement proceedings against firms where it believes that they have ignored important messages communicated by direct letters of this kind.” In other words, member firms had better start complying now because the FSA clearly means business.

Given that the FSA has issued its own handbook on the subject – described by Martin Webster, a partner at UK law firm Pinsent Masons, as “several feet thick” – as well as the additional existence of statutory requirements relating to money laundering procedures, private equity firms might well protest that, while they are keen to comply with the rules, it is nonetheless rather difficult to know where to begin.

However, what is clear is that complexity will not be seen as an excuse for inaction, and punishment for non-compliance could be severe. “The FSA could deliver sanctions in various ways, such as a public censure and consequent damage to a firm’s reputation, the cancellation of a firm’s FSA authorisation or the imposition of fines,” says Webster.

Governments everywhere, including in the US, are applying pressure on financial firms to carefully implement anti-money laundering systems. It’s one more difficult aspect of running a private equity firm, and evidence that GPs need to pay more attention to their back offices.

This thorny topic is examined in detail in the November issue of sister magazine Private Equity Manager(