The extractive industry and the seven secrecy mechanisms

Thu, 27 Mar 2014 Source: Ayamga, Elizabeth Alampae

The extractive industry has been under increasing criticism for corruption, tax evasion, human right abuses and for shifting profits from countries with upstream operations to other parts of their corporate structure, often in low tax jurisdictions.

All these are being done under a shield of opacity as contracts are secret, part of the corporate structure is undisclosed and their financial statements information is so aggregated and condensed that even the most interested readers are left uneducated. All these are happening while these same companies are seeking funding in transparent markets, extracting resources that are owned by the countries they operate in and selling their products in transparent markets.

The natural thing is that these companies in return are transparent about their investments, production, revenues, costs, taxes and people employed. These companies are custodians, not owners, of resources. They are allowed by society to extract these resources. Society wants to have information of what they are doing in return.

What is a secrecy jurisdiction?

Many may say that the term ‘secrecy jurisdiction’ is often used interchangeably with the term ‘tax haven’. People seem to have heard about “tax havens”, but not “secrecy jurisdictions”. There is therefore no agreed definition of what tax havens or secrecy jurisdictions are because the phenomenon has many different aspects and one definition does not capture all features.

The term tax haven is a bit misleading because it suggests that a country have a competitive advantage before another country when it comes to tax levels. A tax haven may say that this is about exercising its sovereignty. But, to a much larger degree, it is an interference in other countries’ sovereignty.

According to Publish What You Pay (PWYP)-Norway, secrecy jurisdictions offer law structures which are specially designed to help conceal information about activities and ownership, which explicitly concern other states and particularly harm and undermine national and international regulation and level of democracy.

Secrecy jurisdictions create an appearance of international legitimacy and forms (structures) which are quite different from the substance (the economic effect achieved when information flow is cut off through use of secrecy). They also disguise who owns the money (beneficial ownership) or who has personal control over capital.

The seven secrecy mechanisms

Little informative accounting standards: The International Accounting Standard Board (IASB), a private foundation, has the power to develop standards that has large financial consequences in the global market. This Board is not under political or democratic control and 60% of the financing comes from the “big four” (Ernst & Young, Deloitte &Touche, PricewaterhouseCoopers and KPMG) accounting companies. This clearly indicates that the accounting standards developed seeks to favour their pay masters.

Intensive use of secrecy jurisdictions: Ten of the world’s most powerful oil, gas and mining companies own at least 6,038 subsidiaries. Over 1/3 of the subsidiaries are incorporated in secrecy jurisdictions (34.5%). The preferred secrecy jurisdiction for the extractive industries is the states of Delaware in the USA where15.2% of the subsidiaries are registered. The second most preferred place is the Netherlands where 358 subsidiaries are placed. Chevron is the most opaque company. 62% of Chevrons 77 subsidiaries are incorporated in secrecy jurisdictions. Chevron, Conoco and Exxon are the three American companies investigated. Combined are 439 (56.1%) of the 783 subsidiaries incorporated in secrecy jurisdictions. Glencore International AG is the most opaque mining company with 46% of their 46 subsidiaries incorporated in secrecy jurisdictions.

The legal privilege: Tax becomes a “voluntary thing” for the multinationals. Multi- national companies can, with the assistance of professional tax advisors with a deep knowledge of the distinction between different countries’ tax systems, pursue advanced tax planning across national borders. Central to this is the establishment of, and intensive use of, subsidiaries, incorrect pricing, establishing companies with a high proportion of loans, often combined with the use of hedging and derivatives, and not least the intensive use of tax havens.

To plan and facilitate that companies do not pay tax has become a global and lucrative business. Lawyers have a duty of confidentiality. The confidentiality springs from “the best interest of society” and lawyers shall safeguard rule of law in the society. However, confidentiality also has a different and unintended effect that it is necessary to shed light on.

Companies can claim client confidentiality to protect themselves against government insight into activities and transactions, transaction routes and company structures. The lawyers can also claim client confidentiality to prevent insight into what they have participated in.

Legal privilege protects the right to facilitate billion dollar transactions and tax planning outside any control of the source country or tax authorities.

Human rights: Example from the Supreme Court in Norway: 15 Norwegian oil companies are now protected under human rights towards insight from the public. They do not have to give up basic financial information to the authorities. This is made possible under the principle of self-incrimination.

Oil companies today seem to have better protection under the human rights than poor citizens wanting insight into the capital flows so that they can hold their governments to account for, on which grounds they give concessions and contract to the companies. This raise interesting questions on basic human rights; what happens when human rights legislations are being developed to protect extractive companies against any insight from those on whose behalf they have been entrusted to handle the nonrenewable and finite resources? What happens when extractive companies have built up financial muscles in secrecy jurisdictions and can run as long court cases as they want, and use as much time and lawyers.

The fiction industry: Trade with non-renewable and finite natural resources does not have to be connected to the physical and geographical extraction of oil or minerals. Much of today’s trade is through the use of financial instruments, which can take the form of many different tradable assets.

Extractive industries are big users of a financial instrument called derivatives, which can be abused to transfer revenues before it's taxed out of host countries. The value behind all derivatives is 10 times the world gross domestic product.

Derivatives have their name from the fact that they are products derived from a market place for ‘physical’ products like money (currency markets) or physical goods (commodity markets). A derivative is a product that is linked to the pricing in the market place the product is derived from, but where there is no physical delivery to back the transactions, only settlement of derivative contracts.

Control of media’s possibility for insight, oversight, access to information and freedom of speech: Journalists who use their knowledge, freedom of speech, and write in the media get sued by these extractive industries. Key information is not public, so journalists and others have to risk their lives in order to inform citizens about where the money is really going?

Criminalisation of social protest: Unions have played a vital role in creating a good society with good welfare and small differences. They also help secure a sound economy and good wages and working environment through negotiations, strikes and cooperation with employers (nationally and within each company). In some instances, companies have challenged the model and tried to hinder unions to organize offshore.

Publish What You Pay ( PWYP) Norway has attempted to contribute to a growing body of investigations showing that the secrecy surrounding the extractive industries has harmful effects both on developing countries and developed countries.

For Africa, export of oil, gas and minerals alone is more than nine times the value of internationalaid. The real value generated is larger than the value received, given the various reports summing up profits lost to corruption, tax evasion, derivatives abuse, criminal activity and transfer mispricing.

It is fundamental that profits generated through extracting and trading with non-renewable and finite resources that are associated with great environmental risk should benefit those, who the companies manage the resources on behalf of: the citizens of the country where the resources are found.

This is why over 650 organisations from over 50 countries have organized in PWYP and want to know whether lucrative deals based on extraction with their countries non-renewable and finite resources provide meaningful investment opportunities to escape poverty.

There is now a global demand from governments, policy makers, regulators, investors, asset managers, pension funds, stock exchanges, companies and civil society for increased transparency and accountability from the extractive industries. This is needed to regain trust so that the interests of society can be upheld and respected.

By Elizabeth Alampae Ayamga


Columnist: Ayamga, Elizabeth Alampae