This week’s new EU extractives transparency rules will be good for investors

Fund manager argues that a virtuous cycle of poverty and risk reduction could follow new project financing rules.

The EU’s adoption this week of new laws aimed at increasing the transparency of government payments from the oil and gas industry was hailed by campaigners including U2 frontman Bono as a “gamechanging breakthrough” to tackle corruption in developing countries with significant mineral resources. The European Parliament and the Council of Ministers reached an agreement on April 9 to introduce sweeping new rules for company accounts, including tough transparency rules for mining and energy firms, such as a requirement for European companies to report payments of more than €100,000 (£85,000) made to the government in the country they are operating in, including taxes levied on their income, production or profits, royalties, and licence fees. Responsible investors, via the Extractive Industries Transparency Initiative (EITI) and co-operation with non-governmental organisations, large companies, governments and other investors, have for many years been engaging with countries to be more transparent about payment flows between companies and government agencies. Together with a UK pension fund, SNS Asset Management sent Michel Barnier, the European Commissioner for Internal Market and Services, a letter urging the EU to follow the American government’s example to create strict transparency laws. When we observed that the powerful American oil lobby tried to ease the Dodd-Frank Act with respect to payment transparency, we wrote to the chair of the U.S. Securities and Exchange Commission to encourage it to enforce the law strictly. For institutional investors, companies engaged in oil, gas and mineral exploration and production are hugely important, with a market capitalisation amongst Europe companies alone of 2 trillion euros. But it is our view that multinationals and their investors should not be the only people to benefit from extraction, but that poor people in resource rich countries should share properly in the wealth creation. However, extraction can, conversely, have severe negative effects on local economic development:corruption and the risk of social unrest and conflict loom. To mitigate these risks and to ensure the extractive industry has a positive impact, transparency, accountability and sound corporate governance are essential. Only then can the local population find out whether their government is getting a fair deal for the exploitation of its resources, and what their government does with the ensuing finances. Details of the proposed transparency laws are a hot topic in the discussions. Under the Dodd-Frank Act, all listed American companies must report payments to all governments on a country-by-country and project-by-project basis, without exception. The EU deal, an update of the Accounting Directives, is still strongly opposed by some companies, notably in the oil sector. They argue that some countries prohibit such transparency, as a result of which companies that comply with the EU laws would violate the national laws of the host countries. They say the reporting costs for each project would get out of hand. These arguments, however, do not stand up to close scrutiny. First, legal analysis shows it is doubtful whether companies will actually be caught in the legal dilemma they are sketching. Second, exceptions by some countries could become an incentive for other countries to draw up restrictive transparency legislation. Third, as the US is the largest capital market, companies should be able to rely on US rules (and hopefully also European) to set the standard for countries wishing to raise capital. As far as the reporting costs are concerned, these appear to be very limited in relation to the value of the payment flows of the often billion euro projects. If the US and Europe issue the same directives, there may also be an efficiency gain. For investors, the project by project information could be a key risk indicator, in particular for smaller companies with few relatively large projects.

Sylvia Giezeman and Manuel Adamini work at SNS Asset Management as an Analyst and Head of ESG-research, respectively.

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