Of Bad Guys and Sharp Accountants

As I mentioned before, we had no particular reason to seek to map BP in particular. We were simply conducting an experiment into how much could be known about a major multinational from its own public filings.

In trying to keep track of oil and mining industries, there are two particular issues that could be addressed by corporate network maps.

The first issue is corrupt access to natural resources: when dodgy companies muscle in on lucrative oil and mining concessions because they are politically connected. This has happened in many African countries, Nigeria and Angola for example. But such companies are normally identified because they lack any serious industry profile or access to capital. Whatever anyone might think about BP, it clearly does not fall into that category.

But there is a second issue: whether complex corporate structures allow multinationals to engage in “aggressive” tax planning and use a technique known as transfer pricing to shift profits from, countries where they are operating, to low or no tax jurisdictions such as Mauritius or the Cayman Islands. This might be completely legal or at least open to interpretation. The question here is more whether, if governments in say, Africa, were able to see the whole corporate chain of the companies operating they might adjust their own taxation policies in light of that, or subject billions of dollars of tax-deductible costs submitted to their tax authorities to audit, or at least more rigorous examination.

That might sound abstract but I recently spent a morning in the headquarters of a national mining agency of a small African country meeting a “tax task force” from several different ministries and government agencies. Their job was to see if they could get more tax out of existing mining contracts and one thing that puzzled them was why the royalties they were seeing from iron ore production were so low. Even on paper, the government was only due 3% of the value of the iron ore. But what confounded them was why the company was submitting payments which seemed to be considerably less than 3% of the world market price. Well who are they selling it to, we asked. It turned out to be a processing company in China they were affiliated to. Oil, gas and mining operations need to buy in hundreds of millions of dollars worth of goods and services to make the oil flow. What if they buy services in high from affiliated companies? And sell their commodities low, to other affiliated companies? Any tax stream sitting in the middle, such as a royalty or profit tax imposed by in a small corner of Africa for example, will be squeezed because the base from which it is calculated has just been eroded.

These are the issues which lay behind the stories about Starbucks and Google not having paid any profit taxes in the United Kingdom because they haven’t earned any profits there, despite operating sizeable businesses for over a decade. In these cases it seems as though profits shifted to Ireland, with a 12 percent corporate tax rate, because the UK operations were paying extensively for intellectual property provided by Starbucks and Google affiliates in Ireland. The nature of goods and services being swapped between oil and mining companies might be very different but the principle is the same. Make as little profit as possible in high tax jurisdictions and as much as possible in low tax jurisdictions.

In this sense, the idea that we live in a global free market is a myth. According to the best estimates more than half of the goods and services that pass across international borders every day are between affiliated companies – who may or may not be swapping those goods at market prices. Because it is such a major feature of world trade, transfer pricing is supposed to be regulated and there are complex agreements and pre-agreements and systems in place around the world, sometimes down to the level of individual enterprises reaching a specific understanding with a tax authority on how it will report its own transfer pricing. But it was clear that morning in that rainy West African capital that very little of the knowledge and techniques to capture exactly who was doing business with who was available even to senior civil servants.

And they are not alone. The auditor-general’s office of a southern African country conducting its first audit of national agencies and state-owned companies in the mining sector also did not know who they were doing business with – as in, the precise legal entities who held contracts. The line ministry of a Central Asian country wondered about how to read accounts for costs submitted by a multinational from dozens of different suppliers. If you want to nerd out on the complexity of oil cost accounting, an Ernst and Young audit commissioned by the government of Uganda made it on to the Internet. It lists over 200 local and international companies supplying Woodside Petroleum, the concessionaire. But the thing to understand is that this is atypically simple: the contracts were for very early stage costs in developing a field that was not going to produce for at least another decade and the sums under review were less than $100 million, which might almost be counted as peanuts in early stage oil and gas development these days.

Of these two issues, the Bad Guy issue and the Sharp Accounting issue, the Bad Guy issue is the best known and the most directly emotive.

It could in fact be called the founding paradigm of the transparency movement. It’s the African president’s son who walks into a branch of Riggs Bank in Washington DC with two million dollars in cash. Or who has 15 Rolls Royces in Paris or 17 apartments in Monaco registered in other people’s names. The people who, if there were an underworld edition of Hello!, would dominate the multi-page spreads.

The Sharp Accounting issue on the other hand is grey and mundane – and involves much, much bigger sums of money. Raymond Baker, who founded the US watchdog Global Financial Integrity, estimates that illicit financial flows out of the developing countries into the rich world total perhaps a trillion dollars a year. But of this maybe only five percent is bribe money and corruption associated with government officials. Another 30 percent might be criminal funds. But the other two thirds is money earned in standard business operations to make, buy and sell standard goods. It’s just that the money is not reported, or not reported for what it is, capital flight hidden in the terms of trade. Kofi Annan’s Africa Progress Panel estimated that Africa missed out on about $40 billion in taxes from these flows each year – roughly equal to the in-flow of aid to the continent.

And Sharp Accounting is an issue we might expect to be connected to the legal structures of the multinationals. After all, at some level one assumes the point of corporate accountants, the high fliers at least, not the amiable plodders who approve your and my expenses or tell us off for our sloppy paperwork, but who only think in millions and can make money evanesce around the world faster than you can say Thomas Piketty is that they are sharp. And occasionally the mask slips. A colleague, for instance, was recently poring through job ads for corporate accounting (because that’s the kind of thing we do) and found one which listed as a job responsibility “maximise tax deductible cost recovery”. Not “maximise the accuracy of cost recovery” as in, make sure everyone gets receipts, but just make the figure as big as possible.

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