Liability of Private Equity Firms for Portfolio Company’s Violations

This is the fourth in the series of publications launched by GK Advisory, addressed to corporate counsels and compliance officers focused on practical solutions to real world issues of anti-bribery, anti-money laundering, and sanctions compliance.?

Topics covered will be drawn from GK Advisory’s experience in advising its client base as well as the practice of the Concilium Network member firms.??GK Advisory?is an Israeli member of the?Concilium Network.

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Liability of Private Equity Firms for Portfolio Company’s Violations

Question: What level of awareness and oversight of compliance issues is expected from relatively passive investors? Can a private equity (“PE”) firm be held liable for fraudulent actions of a portfolio company?

Answer: PE firms may be exposed to anti-corruption and fraud risks posed by their portfolio companies, especially when investment is made in mid-sized and developing companies active in industries with high level of government interaction.?The expectation is that PE firms need to oversee and manage corruption and fraud risks within their portfolios.?Failure to do so may result both in substantial decrease in the investment value and financial exposure to the PE firm itself, not to mention significant reputational damage.

The extent of liability of a PE firm itself depends on the nature of the investment and the level of its involvement in management and corporate governance of the company.?The greater oversight and control are, the greater is the likelihood of liability.?A PE firm may not be passive and ignore or fail to notice fraudulent activities by its portfolio company. A PE firm must take measures to ensure that its portfolio companies have adopted and implemented compliance programs designed to require the ethical conduct of business in their industry.?These include procedures to bring compliance concerns to the attention of the PE firm; conducting independent audits of compliance, especially when dealing with government approvals and government funds reimbursement matters.?These programs must ensure that best practices are followed with adequate internal controls and reporting system and robust audit and investigative procedures including receiving and relying on an appropriate advice from outside experts.?The absence of independent oversight and compliance implementation creates significant culpability, financial exposure and reputational risk for PE investors.

Your comments and suggestions about any aspect of our publications are welcome, so do not hesitate to reach out to us and submit issues for discussion that are relevant to your day-to-day operations. If you have colleagues or acquaintances who may be interested in practical aspects of ABC/AML/sanctions compliance best practices, please do share our updates with them.

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*The contents of this message, current at the date of publication, are for reference and general informational purposes only and do not constitute legal advice.?You should contact your attorney to obtain advice with respect to any particular legal matter.?You should not act or refrain from acting on the basis of information in this publication without first seeking legal advice from counsel in the relevant jurisdiction.?Only your individual attorney can provide assurances that the information contained herein – and your interpretation of it – is applicable or appropriate to your particular situation.?