Digital KYC: Managing and mitigating risks resulting from the Russia-Ukraine crisis

June 13, 2022

Russia’s invasion of Ukraine has created challenges for regulated businesses that need to protect their reputations while complying with sanctions. Advances in digital KYC are giving firms the tools to control reputational risk, and limit fraud and other operational threats.

Sanctions put in place after Russia’s invasion of Ukraine highlight how important it is for companies to know their customers, but you also need to understand your whole business network. To do so, you need to verify the identities of everyone you transact with, including direct customers and suppliers, but also suppliers’ suppliers.

A robust understanding of your business nexus can minimize reputational damage. Know your customer (KYC) processes also reduce operational and credit risks when integrated into your organization’s enterprise risk program.

Risk managers in particular need to look beyond KYC’s impact on the bottom line to see how it can favor the top line.

Unprecedented sanctions

Disputes between nations over borders, trade or other actions are common throughout history – and sanctions against countries are nothing new. However, the sanctioning of the Russian government resulting from the invasion of Ukraine is remarkable for both its breadth and its speed.

No country of Russia’s size has previously faced such wide-sweeping restrictions on its trade and financial activities. The timing and co-ordination of sanctions from nearly every country within days of the invasion starting has been amazing.

US companies have faced trade restrictions and embargoes with Cuba, Iran, and North Korea for many years. Global financial institutions regularly receive notices and injunctions that prohibit them from carrying out business with named individuals and organizations known to be involved in money laundering, terrorism, and organized crime.

Expanded sanctions on Russian individuals, banks, and other companies complicate compliance requirements. Penalties for non-compliance with sanctions are severe; they include fines, operating restrictions, and even criminal prosecution.

Processes for screening customers have been augmented by the rise of “self-sanctioning”. Companies that self-sanction are not legally obliged to restrict commerce, but do so anyway.

Some companies have chosen to withdraw from the Russian market in response to the concerns of employees, customers, and other stakeholders. A few are even going a step further and restricting activity with entities that have indirect ties to Russia.

Self-sanctioning creates a potential dilemma for risk managers, who are being asked to go beyond legal requirements. Where do they draw the line? Should they limit their employer’s business activity with direct relatives of sanctioned Russians? What about acquaintances or associates? The decision becomes complicated very quickly.

The benefit of knowing

Digital KYC solutions help you screen your network more efficiently for connections to restricted individuals or organizations. Regulated companies can uncover corporate structures and trace ownership and control through shell companies more easily than ever before.

While some may see KYC compliance as a cost, executing processes well can significantly improve managing operational, credit, and reputational risk.

For example, companies can use KYC tools to verify each link in their supply chains. They can validate the identities of ultimate beneficial owners in their direct supplier networks and of suppliers’ suppliers. This process allows firms to identify vulnerabilities that could affect fulfilment, manufacturing, and operations.

Consumers are also interested in knowing the provenance of their goods and services. Some are willing to pay a premium for guarantees that they have been produced without the use of slave labor and with green energy sources. KYC algorithms provide traceability that can turn a compliance cost into a marketing opportunity. KYC processes also help reduce fraud through identity verification, which can result in better customer experiences.

In addition to improved insight into supply chains, understanding customers’ networks can add value to the management of credit risk, as creditors are better able to understand the relationships between principals, businesses and their parent companies. A lender, moreover, can assess whether assets offered as collateral by a loan applicant may have been pledged to multiple lenders, potentially increasing risk exposure in the event of a default.


Crypto compliance

The need to confirm customer and supplier identities ties into the growing global adoption of cryptocurrencies. Anonymity and decentralized control are attractive, but crypto adopters are still subject to the restrictions and rules in the traditional financial system, including sanctions.

Regulated businesses still need to verify the identities of their customers and suppliers, even if they happen to be using cryptocurrencies. While crypto offers some anonymity, the open nature of blockchain allows for traceability when combined with other data sources.

Investigators have been able to trace and recover assets in recent ransomware attacks, suggesting individuals and companies should not assume their crypto transactions are anonymous. Due diligence and process controls are therefore paramount for companies who decide to engage in buying and selling crypto assets.

History repeating

History is filled with examples of the cat-and-mouse game between those imposing restrictions and those trying to evade them. The game may have become more complex with the latest round of sanctions, but the fundamental task for companies remains the same: to comply with the law.

KYC has been part of institutional risk management for a long time; a recent change comes from the widespread availability of digital KYC solutions. Improvements in data collection, data sharing, and process automation have enabled even the smallest banks and credit unions to flag potential compliance issues. Given that sanctions and other material factors associated with risk are constantly changing, real-time risk monitoring is further empowering institutions to identify suspicious activity faster.

Get in touch

Moody’s Analytics KYC gives you the confidence to know your customers and suppliers, so you can be confident you are conducting business responsibly.

We bring together data and automated workflows to help you onboard customers and monitor risk so that you operate the most effective and efficient compliance program for your business. 

Please get in touch to discuss your KYC requirements – we would love to help.


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