Reporting by extractive companies on government payments

10/45050744_4 1 REPORTING BY EXTRACTIVE COMPANIES ON GOVERNMENT PAYMENTS EARLY UK IMPLEMENTATION OF THE EU REQUIREMENTS Two EU Directives were passed in 2013 which mandate annual reports on payments to governments by companies in the extractive industries. The UK government has now published a consultation paper on the early adoption of the EU requirements under one of the two Directives; the Accounting Directive. The consultation is for a short period and seeks to obtain views on those aspects of the law over which EU Member States have some control, including timing of implementation of the requirements, format and timing of publication of reports, and the penalty regime that will be imposed. We have set out below a summary of the requirements introduced by the Directives and the main features of the proposals for UK implementation. Responses to the UK consultation are due by 16 May 2014 and therefore companies will wish to consider straight away whether and how to respond. 1. Background – the EU Directives The EU requirements follow a lobbying campaign by civil society groups and others over recent years focusing on reporting by companies in the extractive and logging industries of their payments to governments in countries in which they operate. The objective is to aid accountability and governance in resource-rich countries. Several other jurisdictions have said they will introduce mandatory requirements of this type. The US introduced its own rules under the Dodd-Frank Act but the implementation of these has been delayed as a result of a legal challenge and, as a result, it is the EU rules that will come into force first. As set out in our previous briefing on the EU Directives, the main features of the new EU requirements are as follows: • The overall regime is derived from two sources: – the new EU Accounting Directive (2013/34/EU) (published in June 2013), applying to large companies and any ‘public interest entities’ incorporated in an EU Member State; and – Article 6 of the amended EU Transparency Directive (2004/109/EC, as amended by 2013/50/EU) (published in November 2013), which extends the regime to all companies with securities listed on an EU regulated market (both debt and equity), therefore including non-EU incorporated companies with an EU listing. 4 APRIL 2014 London Table of Contents 1. Background – the EU Directives 1 2. Scope and timing of the UK consultation 2 3. To whom will the new UK regime apply? 3 4. Timeline for compliance with the new reporting rules 3 5. Content and form of reporting 3 6. Consolidated reports 3 7. Exemption through compliance with an equivalent regime in another EU Member State 4 8. Exemption through compliance with an equivalent regime outside the EU 4 9. Assurance and penalty regime 4 10.Contacts 5 RELATED LINKS > Herbert Smith Freehills > EU Accounting Directive > Amending Directive EU Transparency Directive > UK Consultation (BIS website) > July 2013 briefing on the EU Directives 10/45050744_4 2 • Large companies are those that meet two out of three of the relevant minimum criteria: balance sheet total €20m, turnover €40m, employees 250. • 'Public-interest entities' are undertakings which are incorporated in an EU Member State with transferable securities (debt or equity) listed on a regulated market, and any other undertaking designated by the relevant Member State as publicinterest entities (it also includes credit institutions and insurance undertakings but of course these are not in the extractive industries). • The disclosure regime applies to companies falling into the above categories that carry out extractive (including oil, gas and mining) and primary logging activities, as defined by the Accounting Directive (derived from the International Standard Industrial Classification). • Payments to governments (national, regional or local) in money or in kind, whether made as a single payment or a series of related payments, totalling €100,000 or over within a financial year, and categorised according to type (royalties, taxes, etc) must be disclosed, both by country and by ‘project’, on an annual basis. • There is no requirement for audit of the reports, but Member States must introduce an appropriate sanctions regime. • There are no exemptions from disclosure for information that is subject to confidentiality agreements, that is illegal to disclose in other jurisdictions, or that is otherwise commercially sensitive. 2. Scope and timing of the UK consultation The Accounting Directive does not need to be transposed into EU Member State law until mid-2015, with application from 1 January 2016, but the UK government has committed to introducing this aspect of the Directive early. It has published a consultation on the transposition of the rules into UK law, which will require affected companies to produce transparency reports in respect of financial years commencing on or after 1 January 2015. The UK consultation was published on 28 March 2014 and closes on 16 May 2014, giving only a six week response period. The government states that this should be sufficient because it has already been in consultation with interested parties privately and also there are only limited areas where the government has scope to make decisions in relation to the requirements. An Impact Assessment has been published alongside the consultation but it does not reflect UK-specific data. The data included is only that collated by the European Commission during its consultations on the Accounting Directive. The government is therefore calling for more information on the impact of implementing the proposals. The consultation primarily relates to the implementation of the Accounting Directive. The government will consult separately on the implementation of the Transparency Directive, which will potentially have a later implementation date. Although it is not consulting on the implementation of the Transparency Directive now, the government is asking for comments on the interaction between the regimes in this consultation and we give some views in the rest of this briefing on what the corresponding position is likely to be under the Transparency Directive. Key definitions in the Accounting Directive in relation to government payments 'government' means any national, regional or local authority of a Member State or of a third country. It includes a department, agency or undertaking controlled by that authority; 'project' means the operational activities that are governed by a single contract, license, lease, concession or similar legal agreements and form the basis for payment liabilities with a government. Nonetheless, if multiple such agreements are substantially interconnected, this shall be considered a project; 'Substantially interconnected' legal agreements should be understood as a set of operationally and geographically integrated contracts, licenses, leases or concessions or related agreements with substantially similar terms that are signed with a government, giving rise to payment liabilities. Such agreements can be governed by a single contract, joint venture, production sharing agreement, or other overarching legal agreement; 'payment' means an amount paid, whether in money or in kind, for activities in the extractive and primary logging industries, of the following types: • production entitlements; • taxes levied on the income, production or profits of companies, excluding taxes levied on consumption such as value added taxes, personal income taxes or sales taxes; • royalties; • dividends (except dividends paid on the same terms as other shareholders); • signature, discovery and production bonuses; • licence fees, rental fees, entry fees and other considerations for licences and/or concessions; and • payments for infrastructure improvements. Extracted from Article 41 and Recitals 45 and 48 of the Accounting Directive 10/45050744_4 3 The requirements will be introduced by regulations under the Companies Act 2006 and a set of draft regulations is included in the consultation document. Much of the text is derived directly from the Accounting Directive (Articles 41 to 48 and Recitals 44 to 53). In particular, Recital 45 of the Directive contains text that underpins the definition of a 'project', the interpretation of which will be crucial to how companies apply the requirements (see key definitions box above). 3. To whom will the new UK regime apply? All large UK incorporated companies and all UK incorporated listed companies (whatever their size), will, under the UK implementation of the Accounting Directive, be required to report annually their payments to governments if they carry out extractive or logging activities: • Large companies are those that meet two of the relevant minimum criteria: balance sheet total £17.8m, turnover £35.6m, employees 250. • The UK is not proposing to extend the 'public-interest entity' designation to any other companies. Public-interest entities in relation to the UK regime under the Accounting Directive will therefore simply be UK companies with transferable securities (debt or equity) listed on a regulated market. UK incorporated companies that are listed in the UK will be caught by both the Accounting Directive and Transparency Directive rules. Unlisted UK incorporated companies, including subsidiaries of a non-UK company, will be caught by the UK implementation of the Accounting Directive only. Non-UK incorporated companies that have securities listed in the UK will be caught by the UK implementation of the Transparency Directive only. The explanatory notes to the draft regulations state that the meaning of 'undertaking' (and any other terms undefined in the regulations) is the same as that in the Companies Act 2006, and therefore includes companies and partnerships. The Companies Act definition encompasses both UK and non-UK undertakings, but the consultation states that, in relation to the Accounting Directive implementation, it is aimed at UK undertakings only, and so this definition needs to be clarified. 4. Timeline for compliance with the new reporting rules It is proposed that the reports will first be required in relation to financial years beginning on or after 1 January 2015 (although the government asks in the consultation whether companies should be required to report on part of their 2014 year). This means that companies will need to have their systems and procedures in place to collect the relevant information at the start of that financial year, so by 1 January 2015 for 31 December year-end companies. The Transparency Directive requires listed companies to produce their reports within six months, whereas the Accounting Directive is silent on the reporting deadline. In relation to UK incorporated large unlisted companies, the government has proposed that they (whether public or private) will have until 11 months after their year-end to report. The consultation (in Annex 3) includes an illustrative timeline for listed and unlisted companies with different year-ends. 5. Content and form of reporting As explained above, the Accounting Directive requires that payments to governments (national, regional or local) in money or in kind, whether made as a single payment or a series of related payments, totalling £84,800 or over within a financial year, and categorised according to type (royalties, taxes, etc), must be disclosed, both by country and by ‘project’, on an annual basis. Only payments that are made at an entity level to a government need not be reported by project. The requirements will be identical under the Transparency Directive, which simply cross refers to the Accounting Directive regime. Disclosure is not within the annual report and accounts, but rather by way of a separate report. Large UK companies and UK listed companies will file their report electronically with the registrar of companies in the UK. We expect that, under the implementation of the Transparency Directive requirements, both UK and non-UK companies with securities listed in the UK will need to make their reports public by normal regulatory announcement and that they will also have to maintain the reports on their website for 10 years, as with other regulated information under the amended Transparency Directive. The consultation paper advocates a standard template for the report and refers to one that is being developed by a group of industry and NGO participants. An example of such a template is included in the consultation (in Annex 4), with two tables showing the same information between governments at a national, state and local level and also between projects within countries, giving the same totals in each. This is only provisional as work is still on going on in relation to what might be a suitable form of report. 6. Consolidated reports It would appear from the draft regulations that a parent will have to be a large company (see paragraph 3 above for what constitutes large) in its own right, or listed, to be required to produce a consolidated report and that it is proposed that it will only 10/45050744_4 4 need to include subsidiaries in that report if they are also large, i.e. if they would have been caught by the requirements as standalone companies. So, in a simple situation, where a UK company is a parent company and has a UK-only group, it must produce a consolidated transparency report annually, but only if it is large or listed and if it or any of its subsidiaries carry out relevant extractive or logging activities and even then only in relation to large subsidiaries. In the case of a UK parent with non-UK subsidiaries, given the statement in the consultation paper that only UK incorporated companies fall within the UK regime for the Accounting Directive, the drafting should be made clearer as currently it could be interpreted as meaning that large non-UK subsidiaries will also be included in the consolidated report (see the discussion of the meaning of 'undertaking' in paragraph 3 above). Small and medium-sized groups are excluded from the regime for consolidated reporting (but any large undertakings within the group will still need to report on an individual company basis). To be small or medium-sized a group must meet two out of three of these maximum criteria: CATEGORY BALANCE SHEET TOTAL TURNOVER NUMBER OF EMPLOYEES SMALL GROUP £5.0M £10.1M 50 MEDIUM-SIZED GROUP £21.3M £42.7M 250 The Transparency Directive simply provides that reports by listed companies must be provided at 'consolidated level'. It will be necessary to wait for the UK's consultation on this part of the overall regime to understand how this would be applied. 7. Exemption through compliance with an equivalent regime in another EU Member State A UK incorporated company that would otherwise fall under the regime, but that is a subsidiary of a parent that is subject to the laws of another EU Member State, will be exempt if its parent submits a report on a consolidated basis in that other Member State, but it is proposed that the parent must have done so before the exemption can be taken. The consequence of this is that, assuming other EU Member States do not require application of the requirements until 2016 financial years, a UK incorporated large company with a parent incorporated in another Member State may have to produce a report in relation to 2015. For example, if a UK large company has a French parent that will have to apply the requirements only from 2016, the UK company will need to produce a report for its 2015 financial year only. 8. Exemption through compliance with an equivalent regime outside the EU UK incorporated large undertakings with non-EU parents will be subject to the regime if they meet the relevant criteria, even if their parent produces similar group information to that required by the Directive, as will non-EU companies that list in the EU and are caught by the Transparency Directive requirements, even if their own jurisdiction requires similar disclosures. There is a mechanism for deeming non-EU regimes equivalent for the purpose of this requirement, but no jurisdiction has yet even been considered for equivalent status by the European Commission. Once (and if) rules are implemented under the Dodd-Frank Act in the USA, for example, the European Commission has the capacity to designate it as an equivalent regime, although it is not clear in any event whether this recognition would be reciprocated. Any such equivalence recognition would not be forthcoming before the regulations are implemented in the UK and so all relevant companies will need to comply with the UK regime. 9. Assurance and penalty regime There is no requirement for audit or any other form of assurance over transparency reports. In addition, the Financial Reporting Council's Corporate Reporting Review function has not been given any powers of examination of the content of the reports. A penalty regime will be introduced under the Accounting Directive which is the same as that for UK statutory accounts as regards preparation and filing only, that is: • failure to prepare a report or consolidated report will be a criminal offence for directors; and • failure to deliver a report or a consolidated report to the registrar of companies will be a criminal offence for directors, a court may order rectification and there will be a civil penalty for the company. The government is seeking views on whether it should also introduce a criminal offence (but not civil liability) for misleading, false or deceptive information in the report, but without giving any details of how this would be framed or enforced. In spite of there being no exemption in the rules for disclosure of payments to a recipient government where that government has applied a criminal sanction for disclosure, there is a question in the consultation paper on whether the penalty regime needs to anticipate situations where external factors mean a company cannot prepare or file a report. 10/45050744_4 5 The usual liability regime for regulated information is expected to apply to companies that report under the Transparency Directive regime. This would require the information in the report to be accurate and not misleading, with the FCA having the ability to censure or fine listed companies (and any director "knowingly concerned") for breach of the requirements. The limited civil liability regime for listed companies (under section 90A of the Financial Services and Markets Act 2000) in relation to published regulatory information would also apply. This provides that the company (but not its directors) is liable in the event of a misleading statement or announcement where there is a deliberate or reckless action by any of its directors. 10. Contacts Stephen Murray, Partner T +44 20 7466 2270 M +44 7789 998987 [email protected] Kathryn Cearns, Consultant T +44 20 7466 2686 M +44 7917 230030 [email protected] Carol Shutkever, Partner T +44 20 7466 2013 M +44 7825 363634 [email protected] Greg Mulley, Partner T +44 20 7466 2771 M +44 7711 704327 [email protected] Jennifer Bell, Partner T +44 20 7466 2994 M +44 780 9200047 [email protected] 10/45050744_4 6 Daniel Hudson, Partner T +44 20 7466 2470 M +44 7809 200312 [email protected] If you would like to receive more copies of this briefing, or would like to receive Herbert Smith Freehills briefings from other practice areas, or would like to be taken off the distribution lists for such briefings, please email [email protected] © Herbert Smith Freehills LLP 2014 The contents of this publication, current at the date of publication set out above, are for reference purposes only. They do not constitute legal advice and should not be relied upon as such. Specific legal advice about your specific circumstances should always be sought separately before taking any action based on the information provided herein. 10/45050744_4 7