Compliance screening of counterparties and partners: key principles

In today’s business environment – especially in the international arena – the reliability of counterparties and partners has become a critical factor. This is primarily due to the fact that insufficient vetting may lead to legal risks, as well as financial and reputational losses for the company. Various jurisdictions impose strict regulatory requirements regarding due diligence checks, particularly within the frameworks of anti-money laundering (AML), anti-corruption, and sanctions compliance.

Failure to conduct thorough and ongoing compliance checks on counterparties may result in consequences ranging from the temporary suspension of transactions (as a minimum measure) to the complete blocking of the company’s account (as an extreme response to a high-risk counterparty).In this article, we provide an overview of the main principles and procedures for conducting compliance checks on counterparties.

What is a Compliance Check?

A compliance check (Due Diligence) is the process of collecting, analyzing, and assessing information about a potential or existing counterparty in order to identify possible risks related to cooperation. As part of a company’s ongoing internal compliance policy, Due Diligence is a comprehensive process that typically includes:

• Verification of the legal existence of the counterparty and review of its registration documents;
• Assessment of the counterparty’s financial stability;
• Analysis of its litigation history, including any ongoing legal disputes involving the partner company;
• Screening for potential sanctions or restrictions.

Due Diligence is an essential element of corporate governance and significantly contributes to minimizing legal, financial, and reputational risks.

Key Stages of the Due Diligence Procedure for a Counterparty

1. General Company Check. The first step of the compliance process should begin with an analysis of the public corporate registers in the company’s jurisdiction of incorporation. The goal is to verify whether the company is duly registered, whether it is not in liquidation, struck off, or undergoing bankruptcy, and whether it has maintained its active status (as many jurisdictions require the annual filing of statutory reports, failure of which may affect the company’s legal standing). It is also important to confirm the signing authority of the individual executing the contract.

For instance, in practice, it is common for contracts to be signed not by the company’s director but by its CFO or departmental manager—particularly when dealing with large corporations with complex internal structures. In such cases, it is essential to verify whether the signatory indicated in the contract has the legal authority to act on behalf of the company. This authority may be confirmed through a Power of Attorney or the company’s Articles of Association. Failure to conduct a proper compliance check on signatory powers at the contract signing stage may result in the contract being deemed invalid.

2. Regulatory Compliance. This stage includes a wide range of documentation that should be verified to ensure the counterparty complies with relevant legal and regulatory requirements. For example, if the counterparty operates in a regulated or licensed sector (such as pharmaceuticals, construction, or architecture), they must possess valid licenses or permits. As an illustration, the provision of architectural services by a company incorporated in Florida or California is subject to licensing requirements. Such an entity must hold the status of an Architectural Business Organization in Florida and be licensed by the California Architects Board (CAB) in California. In these cases, it is crucial to request all relevant permits from the potential counterparty in advance and continue monitoring their validity throughout the business relationship.
3. Financial Evaluation. Since the main objective of entering into a contractual relationship is typically the achievement of positive financial outcomes, it is essential to assess the financial condition of the counterparty. A thorough financial analysis will help determine the company’s stability and its ability to fulfill its contractual obligations.

In most jurisdictions, companies’ financial statements are published in official registries and are accessible for review (either free of charge or for a small fee). For example, annual financial statements of companies registered in the United Kingdom can be freely accessed on the Companies House website (in the Filing History section). In the case of Cypriot companies, access to Financial Statements typically requires the payment of a fee to the Register of Companies (ROC).

It is important to note that when conducting a compliance review of a counterparty’s financial condition, it is essential to analyze the Statement of Financial Position (Balance Sheet), Income Statement, and Cash Flow Statement. These documents allow for the assessment of key financial indicators:

• Statement of Financial Position (Balance Sheet). This document helps assess a company’s solvency—i.e., the ratio of assets to liabilities—which allows the evaluator to determine whether the counterparty is capable of covering its debts. It also reflects liquidity, through the comparison of current assets (e.g., cash, receivables) to short-term liabilities. This helps assess whether the company has sufficient resources to meet its immediate obligations..
• Income Statement (Profit and Loss Statement). This document reflects, among other things, the following indicators: operating profit – if the operating profit is low or negative, it may indicate inefficiency in the counterparty’s core business operations; income and expense trends – if the company has shown a consistent increase in expenses over several years without a corresponding growth in revenue, this may suggest financial difficulties and a high level of debt burden.
• The Cash Flow Statement is a document that records where a company receives and how it spends its cash, and it can be highly useful in the Due Diligence process. By analyzing cash flow data, it is possible to identify dependency on financing—for example, if the majority of cash inflows come from financing activities (such as loans), this may represent a risk factor when assessing whether to establish or continue contractual relations with the counterparty.

4. Sanctions Lists and Offshore Jurisdictions. Sanctions lists are official registers of individuals and legal entities against whom governments or international organizations have imposed economic or legal restrictions. Cooperation with companies that are subject to sanctions, or are connected with sanctioned persons or entities, may result in payment blocks, legal consequences, and reputational risks.

Given this, sanctions screening of potential counterparties may include, in particular: analysis of the ownership structure to identify ultimate beneficial owners who are citizens of sanctioned jurisdictions (Russia, Belarus, Iran); presence of the counterparty’s accounts in sanctioned financial institutions; screening the counterparty in international and national sanctions lists: EU Consolidated Sanctions List, UK Sanctions List, OFAC SDN List, NSDC sanctions lists, etc.

Regarding offshore jurisdictions, it should be noted that although there is no formal prohibition on cooperation with persons who are residents of offshore jurisdictions, there are risks in terms of the ability to conduct transactions smoothly without enhanced compliance from the bank or payment system. This is due to the fact that each bank or payment system may establish its own internal list of high-risk jurisdictions (even if the jurisdiction is not included in official sanctions lists).

If your company holds an account with a specific bank, when assessing the possibility of entering into a contract with a company incorporated in an offshore jurisdiction, it is advisable to first check whether your bank allows transactions with the selected country or, if it does, whether such transactions fall under the high-risk category. Failure to conduct compliance at this stage may later result in stagnation of your business, since if the bank requires supporting documentation for each such transaction and sends it every time to the KYC or AML department, this may significantly complicate the operational efficiency of your business. In light of this, at this stage, it is important to assess whether establishing contractual relations with the given counterparty justifies the risks associated with enhanced bank compliance on future transactions and, if so, to prepare in advance for such activity (for example, by opening an account with a payment system for handling transactions with the respective counterparty to ensure timely receipt of funds, since banks typically impose longer and stricter compliance procedures compared to payment systems).

5. Reputation Check. This stage may include the use of various resources to analyze reputational risks associated with cooperation with a particular individual or company: checking social media platforms (LinkedIn, Facebook, Instagram), reading reviews from partners or clients available online, conducting search engine queries to identify whether the company is mentioned in any disreputable or controversial cases, as well as analyzing any court proceedings involving the counterparty.

In addition, reputational risks may also be influenced by the presence of so-called PEPs – Politically Exposed Persons within the company’s ownership structure or among its top management. According to international standards (FATF, EU), PEPs include: heads of state and government, ministers, members of parliament, judges of the highest courts, executives of state-owned banks and corporations, their family members, etc.

The rationale behind screening for PEP connections lies in the fact that such individuals currently hold or have previously held high-ranking public positions, which may increase the risk of corruption, financial misconduct, or exposure to sanctions. Accordingly, monitoring the presence of PEP affiliations in a counterparty’s structure helps reduce the risk of financial institutions blocking payments or freezing accounts.

Practical Recommendations for Businesses

Considering the potential consequences of inadequate compliance checks on partners and counterparties, Due Diligence in today’s environment is not merely a formality, but an effective tool for protecting a business from financial, legal, and reputational risks.

To avoid high-risk situations, companies should implement robust compliance strategies, utilize automated verification tools, and engage risk management professionals. In addition, during contract negotiations or initial evaluations, particular attention should be paid to counterparty screening, and professional assistance should be sought when necessary.