John Bray
Introduction
Corruption regularly features in the international press, and there is now greater awareness of the damage that it inflicts both on companies’ reputations and on national economies. Since 1997, OECD member states have introduced new laws, similar to the US Foreign Corrupt Practices Act (FCPA), making it pos- sible to prosecute companies in their home countries for paying bribes abroad.
However, despite this apparent progress, international business people fre- quently express scepticism about the prospects for genuine change. As one US executive commented in response to a recent Control Risks’ survey:
On the surface we seem to be beating it [corruption], but underneath it’s like Internet security. People make it better. Then other people find ways to sneak through.
(Control Risks Group 2002a: 15) The use of intermediaries is one of the most common strategies used to
‘sneak through’ in large-scale international business transactions. By employing a local agent or a representative, companies can cut down the time needed to get to know new markets, and thus reduce the transaction costs of operating there. Intermediaries may also act as a ‘buffer’ against demands for bribes: they can make their own decisions whether or not to pay, according to local custom.
Foreign employers or partners do not know and – according to conventional business wisdom – do not need to know about payments made on their behalf.
However, such practices also involve significant risks even when anti-bribery laws are poorly enforced, and still more in the current era of international legal reform. This chapter analyses the changing nature of those risks and the responses of international companies.
It draws on three main sources. The first is Control Risks’ 2002 survey of international business attitudes to corruption, which involved 250 companies in six jurisdictions, and points to important differences in perception between dif- ferent nationalities and sectors.1The second source is information derived from legal cases involving companies accused of corruption. Third, the chapter makes
use of illustrative examples drawn from the author’s experience as a consultant advising international companies on best practice in difficult environments.2The chapter draws heavily on research conducted in the preparation of Control Risks’ 2002 report (2002b) on anti-corruption best practice.
The chapter begins with a review of companies’ perceptions, showing that a significant number of companies regularly lose business to corrupt competitors, and that levels of corruption in host countries are an important influence on investment decisions. It then examines the legitimate and illegitimate uses of intermediaries in greater detail. In order to evade legal responsibility, companies deny precise knowledge of their representatives’ activities. However, plausible deniability implies loss of control, which in turn leads to higher financial costs and an increased risk that the employer will be cheated. In any case, recent legal reforms mean that there is now a higher risk that companies employing inter- mediaries to pay bribes will be prosecuted. The chapter reviews recent legal cases, and analyses companies’ responses. Finally, it reviews other possible
‘alternatives’ to bribery, including the use of charitable donations and political pressure to gain commercial advantage.
Corruption and competition
Companies operate in the world as it is, not the world as it should be. No one relishes paying bribes, but business people may be tempted to pay when this seems to be an accepted part of the ‘system’ and there is no apparent altern- ative. The temptations are particularly severe when companies believe that their competitors are themselves paying bribes.
The Control Risks’ survey showed that companies take the pressures of corrupt competition seriously. A significant proportion of respondents in the survey believed that they had lost business in the previous year or the previous five years because a competitor had paid a bribe. However, as Table 7.1 shows, there were wide variations by country of origin, sector and size of company.
A majority of Hong Kong (56 per cent) and Singaporean (52 per cent) com- panies believed that they had lost business in the last year because a competitor paid a bribe. By contrast, US and British companies, which are the leaders in implementing anti-corruption best practice (see pp. 125–9), were the least likely Table 7.1 Companies that lost business because a competitor paid a bribe, by country Country In the last 12 months (%) In the last 5 years (%)
Hong Kong 56.0 60.0
Singapore 52.0 64.0
Netherlands 24.0 40.0
Germany 24.0 36.0
US 18.0 32.0
UK 16.0 26.0
Average 27.2 39.2
to have lost business to bribe-paying competitors. In part that may be because they were the most likely to withhold investment from regions with a high risk of corruption: the survey showed that 48 per cent of British companies and 42 per cent of US companies had been deterred from markets with high corruption risks, compared with only 28 per cent of Hong Kong and Singaporean com- panies.
The figures from Table 7.2 show that public works/construction companies were more likely to have lost business to a bribe-paying competitor than firms in other sectors. Construction companies are particularly exposed because the size of contracts is frequently very large, and this increases the temptations and rewards of bribery. Moreover, public officials often have a high degree of personal influ- ence over the award of construction contracts, which means that they are in a stronger position to seek payment in return for favouring particular firms.
Companies operating in environments where there is a high incidence of cor- ruption face serious dilemmas. They can go along with the system and pay, thus risking blackmail, exposure and legal action. Alternatively, they can refuse to pay, in which case they may find it hard to find business. Or they can refuse to invest in the country at all. Table 7.3 shows that a significant proportion of companies had chosen this option, though there was a wide variation between different sectors.
The two sectors at the top of the list are among those most likely to have lost 114 John Bray
Table 7.2 Companies that lost business because a competitor paid a bribe, by sector Sector In the last 12 months (%) In the last 5 years (%)
Public works/construction 40.4 55.8
Pharmaceuticals/medical care 28.6 35.7
Telecommunications 27.3 40.9
Oil, gas and mining 26.1 43.5
Banking and finance 24.1 34.2
Retail 21.4 28.6
Defence 20.0 30.0
Power generation and transmission 18.8 31.3
Table 7.3 Companies deterred from an otherwise attractive investment on account of a country’s reputation for corruption, by sector
Sector Percentage
Oil, gas and mining 52.2
Public works, construction 44.2
Retail 42.9
Banking and finance 39.2
Power generation/transmission 37.5
Pharmaceuticals/medical care 35.7
Arms and defence 30.0
Telecommunications 27.3
business because of bribery: evidently they have been stung by their experiences.
Oil, gas and mining companies face particularly acute dilemmas because the most attractive new opportunities are often in countries with poor standards of governance. The survey suggests that in many cases they decided that the cor- ruption risk was simply too high in spite of favourable geological and commer- cial prospects. The low ranking of the telecommunications industry is striking, and may reflect intense competition among telecommunication companies to establish themselves in emerging markets ahead of their rivals.
Staying away is the ultimate form of risk avoidance, but it also means missing opportunities. Since this is not an attractive option, many try to find an altern- ative approach to manage corruption-related risks. Employing an intermediary is one of the most popular strategies.
The uses of intermediaries
If international companies are to compete successfully in unfamiliar countries they need local knowledge, and this is all the more important in regions where the administration of contracts lacks transparency. Companies therefore typically use a variety of intermediaries who are better acquainted with local norms – what actually happens as well as what is supposed to happen. Commercial agents are one example; others include consultants, joint venture partners and local sub- sidiary companies. The employment of such intermediaries is legitimate, and in some jurisdictions essential. By making use of their services, foreign companies cut back the time and effort that would otherwise be necessary to get to know a new market, and therefore reduce the transaction costs of operating there.
Companies typically choose agents and joint venture partners because of their personal connections as well as their professional expertise. In many cases, agents are former employees of government departments, and have friends and former colleagues who are still in office. In Chinese terms (see Schramm and Taube, Chapter 10, this volume), they have good guanxi. This enhances their value: if they know key local figures personally, they are more likely to be able to win business. They can get things done.
However, such intermediaries may pay bribes on their employers’ behalf, either because they are poorly supervised or because this is the intention of their employers – whether overtly expressed or not. In the Control Risks’ survey, respondents gave their views on how far companies from the US and other OECD countries used middlemen – such as agents, consultants and joint venture partners – to get round anti-corruption laws. Table 7.4 points to a widespread perception that they do so ‘occasionally’ or ‘regularly’.
Market corruption
Lambsdorff (2002: 222, citing Husted [1994] and Scott [1972]) refers to two forms of corruption involving middlemen: market corruptionand parochial cor- ruption. Market corruption is a ‘competitive form of corruption with a high
degree of transparency’. Lambsdorff cites the examples of coyoteswho facilitate applications for drivers’ licences in Mexico, and tramitadores who deal with cumbersome bureaucracies in El Salvador. Another example comes from Brazil where despachantes or ‘fixers’ specialise in obtaining driving licences or sorting out visa problems.3
Despachantesknow the bureaucratic ropes, and can work their way round dif- ficulties. It is generally understood that they may make payments to ensure that their clients’ papers move swiftly from desk to desk, but the amounts paid are low. This is partly because of the competition that they face from rival despachantes, which means that they operate in a competitive market. Competi- tion is reinforced by the routine nature of the transactions they handle, which means that it is usually possible for clients to seek similar services elsewhere.
The role of despachantes is socially recognised in Brazil: many operate from offices where their profession is openly proclaimed by their name-plates. This does not necessarily mean that market corruption as represented by such fixers is socially desirable. Paradoxically, the practice of paying ‘speed money’ slows down government transactions because it gives officials an incentive to create delays in the hope of receiving payment for removing them. The people who have to pay extra for government services are often those who are least able to afford the money.
Many international companies tolerate the dynamics of market corruption, often on the grounds that small payments – whether paid directly or via an intermediary – are part of the ‘local culture’. The US FCPA does not cover
‘facilitating payments’, which are defined as those intended to speed up ‘routine governmental actions’ such as the installation of telephones. However, com- panies that tolerate facilitating payments may find it more difficult to resist demands for more substantial payments – for example, when bidding for con- tracts.4 This leads to a discussion of the second form of corruption involving intermediaries – parochial corruption – which is the main focus of this chapter.
Parochial corruption
Lambsdorff defines parochial corruption as a ‘transaction with few potential contractors and, thus, restricted competition’. Since there is limited competi- tion, contractors are often in a position to seek high fees.
A typical example would be a case where a company employs a commercial 116 John Bray
Table 7.4 In your opinion, do US or other OECD-based companies circumvent anti- corruption laws using middlemen?
Never Occasionally Regularly Nearly Don’t
(%) (%) (%) always (%) know (%)
US 6.8 47.2 20.0 2.8 23.2
Companies from other 5.6 55.6 21.6 – 17.2
OECD countries
agent to help it win a government contract. The agent is paid a commission based on a percentage of the contract fee. Often, the agent passes on part of that commission to a government official or a politician in return for confiden- tial information or for favourable treatment in the bidding process. Such pay- ments can amount to significant amounts of money. As former businessman Moody-Stuart points out:
Five per cent of $200,000 will be interesting to a senior official below the top rank; 5 per cent of $2m is in the top official’s area; 5 per cent of $20m is real money for a minister and his key staff; 5 per cent of $200m justifies the serious attention of the head of state.
(Moody-Stuart 1997: 13) The beneficiaries of such transactions are, first, the companies who win con- tracts that would otherwise go to competitors, second, the intermediaries who charge high fees, and third, the officials who receive kickbacks. However, there are high social costs. First, bribe payments increase the overall price, which means that there is less money available for other projects. The host govern- ment, and the taxpayer, therefore lose out. Second, contractors often recover the costs of bribes through sub-standard performance, or by using cheaper materials. This is particularly dangerous in the case of construction. Turkey’s recent experience illustrates the hazards. The country is full of kacak or ‘contra- band’ structures whose builders paid bribes to avoid official regulations and ten- dering procedures. In the 1999 earthquake, such buildings were the first to collapse. The daily Hurriyet summed up the problem succinctly, ‘Corruption kills people, not earthquakes.’5
Trust and deniability
International business people often comment that middlemen provide a ‘buffer’
or a ‘cushion’ between them and corrupt officials. It is conceivable that the middleman may have to pay bribes on his foreign employer’s behalf. However, it is widely supposed that the latter does not need to know what is going on.
Indeed, as one senior UK-based businessman in the defence sector argued to Control Risks, it might even be regarded as intrusive to enquire too deeply into the agent’s personal affairs.
If this relationship is to work, the representative needs to be someone whom both sides can trust (on the importance of trust, see Lambsdorff 2002; Lambs- dorff and Teksoz, Chapter 8, this volume). As Moody-Stuart points out:
It is no doubt because confidence and trust are their stock-in-trade that representatives as a class are almost always solid and respectable citizens.
Those who have not met – or do not know that they have met – any of these people should set aside images of second-hand car dealers or confi- dence tricksters. If these men cannot talk comfortably with ministers and
even heads of state on the one hand and mix socially with chief executives and chairmen of large companies on the other, they are incapable of doing their job.
(Moody-Stuart 1997: 31) The bribe-taker may trust the intermediary because he or she is a former col- league. However, the middleman is just as likely to be a well-connected ‘out- sider’ – either a member of an ethnic minority or a non-citizen – rather than a member of the dominant group. Well-connected individuals of South Asian origin are said to play this role in East Africa, as are Chinese in parts of South- East Asia. Paradoxically, the social vulnerability of these semi-outsiders makes them more trustworthy to officials and politicians belonging to the majority group because it creates a degree of mutual dependence. Ethnic minority
‘fixers’ are in no position to seek political power on their own account.
For the foreign partner, an element of deniability is crucial because – at least in theory – it mitigates legal risks. He or she will therefore give general instruc- tions to agents, and typically pays by commission rather than asking for detailed activity reports or itemised bills. If the intermediary is found to have paid a bribe, the company can try to deny responsibility, arguing that the middleman acted on his own initiative. Such claims played an important part in the attempted – but ultimately unsuccessful – defence of the Canadian company Acres in the Lesotho Highlands Water Project case (see pp. 122–5).
There may be an element of denial in companies’ internal relationships as well as their external ones. In the Control Risks’ survey, respondents were asked where corruption was most likely to occur. As Table 7.5 shows, nearly half pointed to senior management. However, a total of 67 per cent pointed to locally based country managers and middle managers.
Middle managers are on the commercial front line. They are often keenly aware of the competition, and they are typically under pressure to deliver quick results. They know that they will be rewarded for success rather than virtuous failure: an inability to win contracts because a competitor is paying bribes is unlikely to win them promotion. As a result, middle managers – like external intermediaries – often hear mixed messages: ‘By the way, our code tells you not to pay bribes, but the main thing is to win business.’
These mixed messages can lead to cynicism. A Japanese company has 118 John Bray
Table 7.5 Where corruption occurs, which sections of a company are most likely to be involved?
Section Percentage
Senior management such as divisional directors 47.2
Locally based country managers 41.2
Middle managers 25.6
Junior staff 9.2
Don’t know 7.2
recently adopted the US practice of requiring managers to sign annual com- pliance statements, swearing that they have paid no bribes. One executive told Control Risks that he believed his company’s compliance policy was intended to protect senior management, not its middle-ranking employees. His bosses still expected him to win business by whatever means necessary – including bribery.
If he were discovered to have paid a bribe, the company would use the annual compliance statement as an excuse for denying responsibility, and would leave him to his fate.
Such cynicism can rebound on the company. If employees do not trust the company to look after their interests they are more likely to ‘blow the whistle’, giving evidence of the company’s past lapses in return for protection from the authorities. Alternatively, they may resort to blackmail. In one case known to Control Risks, an employee tried to blackmail her company by threatening to publicise evidence of tax-related corruption in the Middle East unless she was promoted.
Uncontrolled risks
Deniability is supposed to provide the company with a degree of legal protec- tion. As will be seen, this supposition is questionable. Moreover, plausible deni- ability implies a loss of control: the company cannot claim ignorance if it is found to have been closely involved in managing the intermediary’s activities.
Loss of control in turn has a ‘boomerang effect’ exposing the company to new costs and risks, in addition to the legal hazards that it is trying to avoid.
First, at the most basic financial level, there will be important cost implica- tions. If agents regard bribe-paying as normal, they will make no attempt to resist demands, or reduce prices. The employer is in no position to monitor the bargaining process because it has deliberately chosen not to be involved. If the intermediary is paid according to a percentage of the contract value, he has an incentive to raise prices – to the financial detriment of the company but, still more, the host government.
Second, the use of an intermediary is meant to provide a short cut to local knowledge and expertise. However, if the foreign company fails to make an initial investment in gathering such knowledge, it is likely to be cheated. Two examples from different jurisdictions illustrate the potential risks:
1 A defence services company operating in the Middle East was approached by a would-be intermediary who claimed to be a close relative of a local ruler. He promised to use his connections to help win a large contract. The company made due diligence enquiries. It established that the would-be agent was indeed a relative of the ruler, but had fallen out with him some years previously. His services would have been useless.
2 A development specialist in the Philippines reports that agents frequently approach contractors hoping to work for his organisation. In some cases they offer to work for a ‘success fee’, receiving payment only if the client