Bloomberg Law
Feb. 28, 2020, 9:00 AM

INSIGHT: ‘Green-Washing’ Lessons for Financial Crime Compliance Programs

Jason Holt
Jason Holt

The report last spring was startling: PwC’s Strategy & CEO Success Study found that in 2018, for the first time in the study’s history, more CEOs were dismissed for ethical lapses than financial performance or board struggles.

In the U.S., NPR reported as such: “For decades, the main reason chief executives were ousted from their jobs was the firm’s financial performance. In 2018, that all changed. Misconduct and ethical lapses occurring in the #MeToo era are now the biggest driver behind a chief executive falling from the top.”

With the settlements associated with financial crime failures reaching eye watering levels, senior managers at companies that lack strict compliance programs are risking their jobs. What’s more, they are taking on increased personal liability, which can have serious ramifications.

Senior executives must take a close look at the compliance programs at their firms to ensure their policies go further than just the window dressings.

These executives can learn a lesson from an unlikely combination of hedge funds and climate change activists.

Lessons From ‘Greenwashing’

There has been a recent rise in environmental, social, and governance (ESG) investments, with Bank of America Merrill Lynch predicting that up to another $20 trillion could be invested in these types of funds over the next three decades.

At the same time, however, there’s been increasing coverage of hedge fund shorting of financial institutions suspected of “greenwashing”—a term used to describe the practice of firms claiming to have strong ESG compliance when in reality they do not.

With teenage climate activist Greta Thunberg claiming CEOs are hiding their climate inaction with “creative PR,” hedge funds are playing a surprising role in rooting out companies whose valuations they believe are inflated by such “greenwashing” tactics.

The result is that increased scrutiny of “greenwashing” could bring to bear positive market forces on the robustness of firms ESG controls, leading to increased transparency for ethical investors.

What if the market were able to identify financial institutions employing a similar practice in relation to their financial crime compliance controls? A “compliance washing” of sorts.

Executives should ask themselves the challenging questions now, without waiting for activists, short-sellers, or regulators to investigate for them.

C-Suite Executives Can Fact-Check Their Compliance Programs:

If you’re trying to find out whether a financial institution’s outward appearance of compliance is commensurate with its internal processes, controls, and investments, consider these 10 factors:

  1. Examine company culture. Look to see if there is a culture of compliance and commitment to understanding risk, or if it is just about doing enough to meet the minimum regulatory standard. For example, when the firm talks about regulatory compliance for money laundering, do they talk about regulatory compliance or risk management? How does the financial crime team report through to the board—direct or via legal, compliance or the risk function and how long has that route been in place? Also look to see if the firm has a nonexecutive director or other board members with experience in financial crimes related risk management.
  2. Review retention rates. Examine financial crime compliance team retention rates and the level of experience team members have. Has there been a high turnover of global financial crime leads or country money laundering reporting officers? Alternatively, has there been an unusually low turnover rate in the function?
  3. Conduct an industry comparative analysis. One good measure is to see how the financial institution compares to its peers. Does it have a reputation for applying lower standards of diligence than the rest of the market? Is the firm offering accounts with much reduced documentary requirements? Is the firm leading on high risk IPOs declined by its peers? Does the firm onboard a disproportionately high number of high-risk clients that previously banked at institutions who have had financial crimes legal or regulatory issues?
  4. Assess the strictness of compliance measures. Examine whether compliance policies are set at an overly stringent and unobtainable level. Do financial crimes related policy statements, such as having zero risk appetite for financial crimes risk, comport with their actual demographic (jurisdiction presence, client types, etc.)?
  5. Review recent issues. Has the firm had a recent significant regulatory money laundering issue which has now been fully remediated—such as a consent order which has been closed (if so, this may be considered to reduce some of the risks above). Or, conversely, perhaps the firm has made a significant provision in its annual report for a financial crime related matter?
  6. Consider technology solutions. Is the financial institution investing in financial crime compliance technology to enhance its ability to identify and manage risk? Is the financial institution announcing partnerships with key tech vendors or acting as a thought leader in this area?
  7. Ask about typological reviews. Does the financial institution carry out typological reviews in addition to conducting transaction monitoring? Usually this is apparent if the firm has developed a financial intelligence unit or is a member of one of the interagency information sharing groups such as the joint money laundering intelligence taskforce, or perhaps they have hired in expertise from organizations such as the NCA or similar.
  8. Assess the audit team. Does the audit function have financial crime expertise? If not, are third party financial crime compliance experts used to conduct reviews and/or train the audit team?
  9. Determine high-risk geographic areas. Has the financial institution acquired firms in high risk jurisdictions or experienced very rapid market beating growth in these areas? Have they invested in requisite financial crime compliance controls?
  10. Take note of industry memberships and the firm’s presence at major risk conferences. Does the financial institution participate in financial crime compliance industry working groups? Are they present at various industry groups either through group membership of organizations such as ACAMS, the ICA or the Wolfsberg Group?

The Bottom Line

As we see from the “greenwashing” example, the market, regulators, and investors will catch on to these kinds of surface-level compliance practices, potentially exposing companies to compliance risk—and senior executives to job security, reputational, and even legal risk.

It may be happening already. Teams are beginning to vet investments for hidden risks, using a framework based on ESG criteria to check for other types of threats faced by banks.

Given the high stakes, boards and senior executives should be actively seeking to uncover whether their firm is engaged in “compliance washing” practices.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Author Information

Jason Holt has over 25 years of financial crime compliance experience of leading the fight against financial crime. He is managing director and the EMEA regional lead at Exiger, a pre-eminent global risk and compliance firm providing unique advisory, technology and diligence services to many of the world’s largest and most successful financial institutions, governments, and corporations.

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