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The defence secretary has resigned, it has been confirmed.
Liam Fox told the prime minister that he had "mistakenly allowed the distinction between my personal interest and my government activities to become blurred".
"The consequences of this have become clearer in recent days. I am very sorry for this," he wrote in a letter to David Cameron.
Fox has come under increasing media pressure in the past week over his relationship with Adam Werrity.
Werrity, who was best man at Fox's wedding, had accompanied Fox to 18 overseas trips and visited him dozens of times at the ministry of defence, despite having no official role.
It also emerged Werrity was being bankrolled by a number of wealthy private clients who shared his and Fox's pro-American views.
In his letter to the prime minister, Fox said he had decided, "with great sadness, to resign from my post as secretary of state for defence - a position which I have been immensely proud and honoured to have held".
"I am particularly proud to have overseen the long overdue reforms to the ministry of defence and to our armed forces, which will shape them to meet the challenges of the future and keep this country safe."
Fox continued:
"I appreciate all the support you have given me - and will continue to support the vital work of this government, above all in controlling the enormous budget deficit we inherited, which is a threat not just to this country's economic prosperity but also to its national security."
In response, the prime minister wrote:
"I understand your reasons for deciding to resign as defence secretary, although I am very sorry to see you go.
"We have worked closely for these last six years, and you have been a key member of my team throughout that time.
"You have done a superb job in the 17 months since the election, and as shadow defence secretary before that.
"You have overseen fundamental changes in the ministry of defence and in our armed forces, which will ensure that they are fully equipped to meet the challenges of the modern era.
"On Libya, you played a key role in the campaign to stop people being massacred by the Gaddafi regime and instead win their freedom.
"You can be proud of the difference you have made in your time in office, and in helping our party to return to government.
"I appreciate your commitment to the work of this government, particularly highlighting the need to tackle the deficit, and the relationship between Britain's economic strength and our national security.
"You and Jesme have always been good friends, and I have truly valued your support over the years. I will continue to do so in the future."
Fox's replacement as defence secretary is Philip Hammond.
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