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«A case study of Fair Finance Guide International Transparency & Accountability in the Financial Sector A case study of Fair Finance Guide ...»

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Whereas the EU failed so far to regulate CbCR for TNCs at large, it has been more successful on agreeing on regulation of disclosure of CbCR information of the banking sector. As far as the banking industry is concerned, it was the French government in particular that pressed for EU-regulation of CbCR for the financial sector. The Capital Requirements Directive IV (CRD IV, 2013/36/EU)) adopted in 2013 rules that banks have to report over their 2014 activities (which will be in their annual reports in early 2015) on a country-by-country basis, providing name, nature, of activities, geographical locations, turnover and profit or loss before tax, corporate taxes paid and public subsidies received.220 On top of these regulations, and relevant for the project finance and investments from banks and the financial industry, the EU adopted the Accounting Directive (2013/34/EU) in 2013 on new reporting rules for large companies and listed companies in the extractive and forestry industries. This regulation was inspired by the practice of the Extractive Industries Transparency Initiative (EITI), a voluntary tripartite project of some of the leading extractive companies, governments and NGOs that started in 2003. Another major trigger for reporting on a country- and even project basis has been the Dodd-Frank Law in the US.221 Similar to Dodd-Frank (and different from EITI) the EU Directive requires large extractive and forestry companies to report on a country-by-country and project-by-project basis on royalties, dividends and other sources of income, taxes on income, production and profits. Within two years these rules should be incorporated in domestic legislation to come into force.222 Applying this principle to subsidiaries and trusts of TNCs and TNBs in tax havens, where they do not have economic substance, may disclose their involvement in tax dodging, both detecting the illegal evasion and morally unacceptable avoidance of tax.

13.7 Concluding remarks

CbCR by banks and companies is a necessary, but insufficient, regulation to solve the problem of tax dodging. Legislation is in place in the US and the EU, only for banks and extractive industry and forestry. The categories on which TNCs and TNBs have to report Country-by-Country and Project-by-Project are still limited and do not apply to all types of data necessary for tax regulation.

The next step, in my view, that the EU and US should agree on in the context of the G20 and the OECD, is abandoning the failing and deficient Arms Length Principle, substituting this for the principles of taxing transnational parent companies and banks as one and the same unit (Unitary Taxation). This will enable tax authorities in South and North to raise tax where the TNC and TNB and their subsidiaries are genuinely active economically, and where they earn royalties and interest, sell and trade technology and knowledge and are making their profits.

As Sol Pocciotto and Nick Shaxson concluded in a letter to the Financial Times in 2012: “The international tax system in effect provides vast subsidies for multinationals, helping them outcompete local rivals on a factor – tax – that has nothing to do with economic productivity.

They free-ride on tax-funded benefits – roads, educated workforces, reliable courts – provided by the countries where they do business, while others pay for those benefits.” 223

-89Transparency of Banks’ Environmental, Social and Chapter 14 Human Rights - the Case of the United States Aldo Caliari Center of Concern / Righting Finance The financial regulation reform law passed in 2010 by the US Congress, better known as Dodd-Frank, has been characterized as the biggest overhaul since the 1930s.224 Yet, in spite of the unquestionable role that the opacity of financial markets played in the recent financial crisis, transparency requirements for the banking sector are still very much driven by the goals of financial stability and prevention of systemic risk.

This explains why regulations fail to address transparency on environmental, social, or human rights concerns affecting the activities of the banking sector. In fact, some of the regulations that best address such concerns are part of the old body of laws that regulates securities disclosures.

Securities regulation and the issue of “materiality”14.1

Banks, like any listed company, are subject to securities disclosure regulation, stipulated in 225 226 regulations S-K and S-X. Information must be disclosed at the initial public issuing of securities, at the point of their registration, at quarterly and annual periodic intervals, as part of proxy solicitation disclosures for the annual meeting, and at the occurrence of extraordinary events such as tender offer, merger, or sale of the business. The issues that companies are required to disclose are description of business, legal proceedings, management’s discussion and analysis of financial condition and results of operations, disclosure controls and procedures and risk factors.

However, advocates for transparency regarding environmental, social and human rights risks had to contend with the requirement that only information that is “material” to the users of the reports must be disclosed. Thus, a central, and ongoing, debate has to do with the materiality of such risks. Initially the concept was narrowly conceived by the Securities Exchange Commission (SEC)xiv as only involving “financial” materiality.227 Some of the evolving considerations about materiality have slowly permeated SEC’s rule-making. Although the SEC initially considered environmental issues non-material, as lobbying by environmental and social activists intensified, it issued a regulation in 1973 addressing certain aspects of environmental compliance, stipulating that they were part of the information that companies needed to report on. 228 Certain rules mandating disclosure of corporate board compositions and executive compensations were issued by the SEC without relying on any theory of economic materiality, and with the purpose of increasing “the corporation's accountability to society by encouraging the board to be more active and independent in monitoring management's actions with respect to compliance with the law.” 229 More recently, the SEC issued guidance on climate change-related disclosures. In the background to its decision the SEC refers to “increasing calls for climate-related disclosures by shareholders of public companies. This is reflected in the several petitions for interpretive advice submitted by large institutional investors and other investor groups.”230 xiv The SEC defines its mission as “to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation”.





-90Partly relying on such evolution of SEC regulations, the argument that environmental, social and human rights concerns are material seems to be gaining ground.231 In some cases, this is driven by research that shows that compliance with environmental and social standards enhances financial performance. 232 Others go further and consider that compliance is necessary regardless of such financial impact. They argue that especially when institutions present themselves in ways that cater to segments of the investing community that demand a given level of social or environmental performance, disclosure of compliance and performance in such areas becomes unavoidably material to such investors.233

14.2 Shareholder resolutions

Another lever for transparency envisioned in the legal regime is the use of shareholder resolutions. Shareholders can demand disclosures during the proxy solicitation process by seeking support for a shareholders’ resolution. If they meet certain procedural and substantive requirements, they can place the item on the proxy statement for the annual meeting. Then it must get majority support in the proxy solicitation process.

The eligibility threshold has made the corporate proxy accessible to a wide range of corporate stakeholders who are not professional investors: any shareholder holding at least $2,000 worth of stock in the company for at least one year as of the date of submission may file a proposal, limited to 500 words. A proposal must receive at least a 3% vote the first year, a 6% vote the second year, and a 10% vote in each subsequent year to be resubmitted. These thresholds, which have been revisited from time to time, have helped to ensure that social and environmental issues that may not have wide support among investors have an opportunity to remain on the proxy and build support over time.234 A drawback of shareholder resolutions is that a company that does not want to include a certain shareholder resolution in the proxy statement can still resort to a number of permissible grounds, laid out in the regulation (SEC Rule 14a-8, subsection i), to request a no-action letter from the SEC staff. If the SEC grants the no-action request. Then it will not enforce action against the company for failing to include such resolutions. One common justification for exclusion is the determination that the proposal deals with matters relating to the company’s ordinary business operations.

The SEC’s decisions on these no-action requests are usually one-sentence long, without a rationale. Nevertheless, the exchange of correspondence with the company on the matter becomes, in itself, a matter of public record.

When the shareholder resolution is included in the proxy statement, the company’s board of directors often provides a “statement in opposition” to also appear therein, which oftentimes has been the first time the company has made any substantive remarks about the subject matter of the proposal. In a sense, therefore, the mere filing of a proposal results in some form of report from the company. The proponent is also, normally, given time at the annual meeting to make a brief speech in support of the proposal. Although most investors will have voted their proxies by the time of the annual meeting, this is a unique opportunity to address the board of directors and senior management in person. Some proponents of shareholder resolutions have used the opportunity to bring affected stakeholders to such meeting, too, providing an opportunity for dialogue between them and management absent otherwise.

Under securities regulation, banks can also be liable for disclosures they make on social or environmental issues, even if not legally mandated, to the extent that such statements are deceiving or misleading. A demanding number of requirements has to be proved, though, for succeeding in a legal action against a company in such situations.

-91Particular transparency concerns raised by banks’ physical commodity businesses Reporting of environmental and social risks is also under debate currently in the context of regulations for banks engaged in dealings with physical commodities. Although initially banks were only allowed to carry out non-banking activities “closely related to banking,” over time, this separation gradually eroded and regulations expanded the scope of permissible banking and “closely related to banking” activities.235 The Gramm-Leach-Bliley Act of 1999 essentially enabled financial holding companies to carry out certain non-financial activities through three important authorities. Firstly, there is a “merchant banking” exception, which allows banks to make passive private equity investments of any size in any commercial company. Secondly, a bank may directly engage in any non-financial activities, if the Federal Reserve determines such activities are “complementary” to a financial activity. Thirdly, the legislation grandfathered entities that become subject to the Bank Holding Company Act after the Gramm-Leach-Bliley enactment to continue “activities related to the trading, sale, or investment in commodities and underlying physical properties,” if that company “lawfully was engaged, directly or indirectly, in any of such activities as of September 30, 1997, in the United States.”236 Since the enactment of that law, banks have relied on all of those three authorities to significantly increase their activities involving physical commodity trading and some securities firms that engaged in substantial physical commodity activities were acquired by or became BHCs.237 The system of reporting, however, did not move in tandem with the expanded engagement of banks in physical commodity businesses. Banks traditionally report assets, revenues, profits, and other financial information for the entire business segment, of which commodities trading is only a part. In fact, the commodities figures reported by banks aggregate both commodity derivatives and physical commodities, leaving in obscurity how much belongs to each category. An obvious concern that the opacity of banks’ engagement in physical commodity businesses raises is how it puts them in a position to profit from informational advantages, and even the potential risks of market price manipulation given their simultaneous involvement in trading commodity derivatives.

But the direct involvement in running physical commodity operations will also logically represent a wider potential source of environmental, social and human rights damage, from which banks are shielded by current reporting requirements.

The Fed is currently revising the relevant regulation for banks’ engagement in physical commodity businesses, but it is unlikely that the resulting revision will be so definitively exclusive (if at all) of existing permissions so as to satisfactorily conclude the debate on the transparency of such operations.

14.3 Conclusion Given the limitations of regulatory requirements to disclose environmental, social and human rights risks, it is not surprising that disclosure boils down to a patchwork of voluntary initiatives that are highly uneven and discretional.

This can be exemplified with the behavior of the largest banks, such as Bank of America, JP Morgan, Citibank and Goldman Sachs. These banks do not refrain from making claims of their sensitivity to environmental and social risks. In the best cases, however, they have relatively vague policies on environmental and/or social risks the implementation of which is audited internally.

–  –  –

A coming opportunity to improve bank transparency on environmental, social and human rights risks in the US may be in the expressed commitment to developing a National Action Plan on business and human rights which is expected to cover “ways in which the U.S.



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