The threats and possibilities for companies navigating in complex and evolving sanctions landscape

Authors: Sanna Järvenpää, Rosa Karppinen & Yifan Wang

Sanctions monitoring was once a niche preserved for the financial sector. The sanctions landscape has changed significantly following Russia’s recent invasion of Ukraine, beginning on 24 February 2022. Thus, sanctions have come into the public eye, affecting companies in other sectors. As the speed, scope and scale of the sanctions being implemented now have reached an exceptionally high level, they are making headlines and the front pages of the major media, increasing companies’ reputational risks in cases of violation. Together with the potentially high financial penalties being imposed by authorities, companies are now facing a risky environment where regulations and public expectations are constantly changing. Under these circumstances, those without adaptive sanctions controls are operating on thin ice.

Significant changes and attempts to stay ahead with new sanctions

The 11th package of Russian sanctions was announced on 9 May 2023 by the EU. Various sanctions from the United States and other Western countries were imposed after the invasion in order to weaken Russia’s economy, depriving it of critical technologies and markets, and significantly curtailing its ability to wage the war.

The number of sanctions targeting Russia increased by 311% after February 2022, which is higher than the sum of the active sanctions imposed on all other countries combined. Since the beginning of 2022, €321.5 billion of Russian assets have been frozen and over €43.9 billion of exported goods (49% of the EU’s export before invasion) and €91.2 billion of imported goods (58% of pre-war imports) have been banned in the EU and G7 countries. The restrictions cover sectors such as technology, transportation, oil refining, energy, metal, aviation and space, maritime navigation and luxury products. In addition, the EU has prohibited the provision of services to Russia in the fields of accounting, auditing, consulting, legal advice, architecture and engineering, advertising and technical inspection in order to hit Russia’s economy.

The violation of sanctions has been added to the list of EU crimes. Finland also has its own actions regarding sanction supervision. In April 2023, the Finnish financial supervisory authority (FIN-FSA) published an anti-money laundering (AML) supervision strategy. Part of it aims to improve the effectiveness of sanctions, following the partial reform of the AML Act adopted by the Parliament on 31 March 2023. Financial institutions in Finland are to make sure that their sanctions controls are set at an adequate level since this legislative reform will enable the FIN-FSA to focus its supervision on sanctions. When the authority suspects, for example, a breach or circumvention of sanctions, it will be examined by the police.

Are these sanctions and methods around them effective? The surge in exports to central Asia has put a question mark over the sanctions approach towards Russia. After new sanctions were imposed, the exports of Finland to central Asia have increased sharply; for instance, €248.5 million value of exports were exported to Kazakhstan and €28.8 million to Kyrgyzstan in 2022, indicating year-over-year increases of 143% for Kazakhstan and a staggering 812% for Kyrgyzstan. A large number of these goods were transported directly via ground transportation through Russia. It is hard to ensure whether companies are genuinely looking for new markets or simply trying to evade sanctions through Russia’s southern neighbours. To avoid circumvention, new restrictive measures have been adopted. For instance, the transit of EU technology and dual-use goods (products that can be used for both civilian and military applications) through Russia was prohibited by the European Council in the tenth package of sanctions that came into force on 25 February 2023. The complex business environment has cast a cloud over the sanctions and the potential risks behind them.

Sanctions violations’ consequences are getting increasingly harsh

Russia is not the only country under sanctions. The North Korea crisis, China and USA relations, high tensions in the Middle East, the Syrian crisis and the other collisions have brought the global risk of sanctions to the business world over the past decades. As sanctions and the oversight of violations are becoming more stringent, the consequences of breaching sanctions, whether intentionally or not, are severe. The consequences of such a breach include, but are not limited to, penalties and fines, litigation and imprisonment, reputational damage, increased costs of capital and secondary sanctions.

Besides the financial impact on violators, morale and compliance are critical elements to consider. According to a survey by IRO Research, almost two-thirds of Finns are boycotting Finnish companies that continue to operate in Russia. Respondents support companies that have shut down their operations in Belarus and Russia and boycott companies with a Russia-based parent company.

The effective internal control system is invaluable for companies

What does this all mean for business in practice? As mentioned above, companies that do business with individuals or entities that are subject to sanctions face severe consequences that are as much financial as they are reputational. Understanding the appropriate sanctions landscape and applying suitable sanctions-screening instruments are important in order to avoid collaboration with sanctioned parties and their ultimate beneficial owners. This requires companies to assess their business in the context of an appropriate sanctions environment. To mitigate sanction risks, companies should stay up to date regarding the latest sanctions regulations and take appropriate measures to ensure compliance. This may include conducting due diligence on business partners, supply chains and their customers; implementing internal controls and compliance programmes; and seeking legal advice as necessary.

In particular, companies that engage in international trade and business activities may face various sanctions risks, depending on, for example, company size, industry and the countries in which they operate or have activities. Therefore, there is no one-size-fits-all solution with which to tackle the issue. However, some general points regarding how to manage sanctions-related risks apply:

• Internal operations to support sanctions controls: When assessing sanctions risks, companies should conduct a risk assessment and define their risk appetite in order to identify the necessary level of controls needed to develop an effective sanctions operating model. Companies should construct internal practices with clearly defined roles and responsibilities that are communicated consistently throughout each organisational level.
• An effective sanctions screening infrastructure: Based on the risk assessment, an effective sanctions-screening infrastructure should be developed. Suitable screening procedures depend on, for example, a company’s risk appetite, business sector, operational environment, size, budget and available resources. Among other factors, a company should consider relevant sanctions lists, a suitable screening programme for the business, mechanisms to keep the sanctions lists up to date, the screening logic, the parties to be checked, and the relevant technology in order to apply the aforesaid. All these need to be documented and a Standard Operating Procedure (SOP) for the employees involved in the process should be created. In addition, the continuous education of employees has a key role since no technology can completely replace human expertise.
• Evaluating the results of sanctions screening: After adjusting internal operations, the screening process should be implemented and executed. Flagged matches of transactions and counterparties should be investigated, observations should be properly documented and possible positive matches should be further escalated and reported according to the SOPs.
• Control and maintenance of the sanctions-screening process: Due to the constantly changing sanctions landscape, it is important to regularly ensure that the current processes are at an adequate level. In addition to ensuring compliance, the processes should be maintained and improved, for example, by monitoring and testing, removing false positives (‘whitelisting’) and implementing quality controls and process development.

To minimise the challenges of sanctions compliance, it is crucial that companies have effective systems and procedures wherein the number of false positives is minimised, and the flagged transactions are accurately and efficiently investigated, resolved and documented. Inefficient procedures can lead to increased costs, loss of revenue and profits, and potential delays in company operations. No one wishes to face these losses. Up-to-date internal controls are a necessity these days. Improving internal compliance structures can not only help companies to avoid violations and financial penalties but also bring the benefits of having a broader perspective concerning compliance, reputation and morality.

Reference:

https://www.consilium.europa.eu/en/policies/eu-response-ukraine-invasion/

https://www.consilium.europa.eu/en/policies/sanctions/restrictive-measures-against-russia-over-ukraine/sanctions-against-russia-explained/

https://eu-solidarity-ukraine.ec.europa.eu/eu-sanctions-against-russia-following-invasion-ukraine_en

https://www.finanssivalvonta.fi/en/publications-and-press-releases/Press-release/2023/fin-fsa-published-aml-supervision-strategy---effectiveness-of-sanctions-monitoring-to-be-improved-by-legislative-reform/

https://www.helsinkitimes.fi/business/21306-survey-almost-two-thirds-of-finns-are-boycotting-finnish-companies-in-russia.html

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