Depositary Banks Need Common Standards for Effective Due Diligence

by Susanna Scheffold, Head of Global Securities Services, Global Transaction Banking, UniCredit

 

Time and cost pressures caused by new regulation and increasing emphasis on risk management are proving problematic for depositary banks undertaking due diligence. Fortunately, common industry standards are already being developed – and these can go a long way to alleviating these pressures.

 

A combination of regulation and increasing risk awareness has made reliable and effective due diligence a major priority for many depositary banks. But progress on this front has been stifled by the cost of obtaining sufficiently high-quality information. 

Indeed, many banks are exploring new – and expensive – means of assessing and reducing risks in their networks, employing external audits, guarantees and legal expertise in due diligence workflows more frequently than ever.

A fast-advancing regulatory agenda only serves to increase the urgency of new due diligence procedures. The Alternative Investment Fund Managers Directive (AIFMD) and the Undertakings for the Collective Investment in Transferable Securities V (UCITS V) set out entirely new regulatory frameworks for risk management.

In light of these developments, many depositaries are checking their network relationships to identify unreasonably risky connections. And while this is proving a somewhat cumbersome task, work to create new common standards for due diligence is beginning to bear fruit – promising to eliminate much of the workload associated with these checks and pave the way for large increases in productivity. 

 

Cost and complexity

Certainly, the importance of such standards must not be underestimated, as ever-increasing volumes of information continue to ramp up the complexity and cost of due diligence procedures. Indeed, due diligence reports are becoming ever more unwieldy – with pages numbering in the hundreds – and contain questions on a range of highly specific and often tenuously related minutiae, such as “Does the headquarters have parking spaces within 10 metres?”

Businesses are rightly concerned that answering such questions may cost more in resources than they are worth in risk management benefits. A lack of any consistent approach between depositary banks adds to this burden, as each has its own opinion on what should be asked in the course of proper due diligence. As it stands, respondents must devote attention and resources to researching responses for each questionnaire they receive.

 

Convention makes convenience

This is the underlying cause of the problem: a lack of consensus regarding the information depositaries should use for counterparty due diligence. 

Solving this problem will relieve much of the burden incurred by current due diligence practices. Depositaries will no longer need to mull over the information they require – since it will be decided collectively – and counterparties will no longer need to undertake bespoke research for each questionnaire.

Of course, creating conventional standards and reaching consensus on what constitutes important data will not be straightforward, especially in Europe’s fragmented regulatory environment – while overarching regulation has been introduced through AIFMD and UCITSV, regional variations in approach and interpretation remain.

 

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Approaching consensus

That is why compromise will be essential. Full consensus is certainly desirable, but not essential for the benefits of common standards to be felt. Indeed, if agreement on something near 80% of requirements can be reached, such an arrangement would unlock significant benefits for all market participants.

This level of consensus would allow all counterparties to undertake a single research programme, which can be checked periodically and reproduced at will – a huge gift in terms of productivity. Service providers could even take a proactive approach to their responses by pre-empting their clients’ requests and submitting important data ahead of time, thereby advancing the process even faster.

What’s more, such efficiency should even improve the quality of information. Removing the doubt as to the content of each questionnaire – and the debate over what is relevant – should provide all market participants with clarity on the information needed. As a result, errors, misinterpretations and problems in sourcing and communicating relevant information should be less frequent.

 

Working towards harmony

Fortunately, progress towards this goal is already under way. Last year, a group of leading depositary banks began working together to establish common due diligence questions, with the eventual aim of rationalising procedures across the industry, and the results are now beginning to materialise. Indeed, at this year’s NeMa conference, the Association for Financial Markets in Europe (AFME) presented a draft of its standardised due diligence questionnaire. 

This looks to be a valuable first step as part of a wider programme of rationalisation. To make the most of its potential, depositary banks will need to follow through with more work. Looking ahead, a consensus on standards for due diligence visits would represent a further important step forward. 

The establishment of such common standards could even help encourage technological progress, enabling greater automation and speeding up processing times for laborious tasks. Indeed, technology-related investments could lead to greater harmonisation of services throughout Europe – creating new efficiencies and reducing cost pressures in the process.

In any case, a new focus on risk awareness is already driving significant changes in due diligence procedures among depositary banks. In order to ensure that depositaries carry out due diligence to the highest standards – without devoting excessive amounts of time and money to the task – shared standards and solutions for effective data gathering and analysis have a pivotal role to play.

 

 

Susanna Scheffold Head of Global Securities Services, Global Transaction Banking, UniCredit Susanna Scheffold was appointed Head of Global Securities Services in August 2015, facilitating the whole portfolio of custody and depositary bank services to institutional clients in the CEE region. She began her career in Bank Austria in 1999, and in 2012 became Head of Securities Services 2 at UniCredit. Susanna holds a Masters degree in Commercial Science from the Vienna University of Economics.