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Becoming model citizens

Western energy companies face public scrutiny and a falling share price if they choose to operate in frontier states. But big oil is seeking a new approach, writes James Gavin

TO THE RELIEF of its shareholders, Talisman Energy is close to selling its 25% interest in Sudan's controversial Greater Nile Oil Project to India's ONGC Videsh. But the C$1.2bn ($0.8bn) the Canadian oil company expects to receive from the sale appears scant compensation for the public mauling its corporate reputation has suffered over the past three years.

It has been accused of not doing enough to prevent government counter-insurgency activities against southern Sudanese rebels operating in some of the region's oilfields.

The company's chief executive, Jim Buckee, has proved a staunch and articulate defender of the project, which despite its controversy was highly profitable for the company. But stockholders took a different view, seeing the Sudan campaign depress the share price.

Then there is the matter of an outstanding $1bn legal action, filed under the Alien Tort Claims Act, which could drag out in the courts for years.

The Sudan case could yet become a turning point for oil firms active in countries where the rule of law is not established. Talisman may have walked away from the project, like Chevron before it, but the repercussions for Western energy companies in frontier states could be felt for years to come.

Shareholder pressure

Critical to Talisman's decision to pull out was the domestic pressure from shareholders, amplified by a sustained campaign by human-rights activists in Canada that focused on the Sudanese government's use of oil income from the Greater Nile project to prosecute its campaign against rebel forces in the south.

Campaigners also allege the government made use of oil infrastructure during its intensified campaign of armed attacks in 2000-2001.

Talisman's experience is not unique. Allied to heightened shareholder activism in Western countries is a renewed commitment by legal authorities to making companies domestically accountable for their actions in foreign countries.

The US' Unocal will go on trial early this year in a California superior court on a charge of vicarious liability, accused of being responsible for human-rights abuses allegedly committed by Myanmar's (Burma's) military during construction of the Yadana gas pipeline, in which it is a key shareholder.

The Alien Tort Claims Act is again being used to target an oil company over its activities in a country with a record of human-rights violations.

According to legal experts, oil companies might not be able to take refuge in the argument that they had no knowledge of the abuses. Even without the issue of whether Unocal knew of the actions, because they apparently benefited, they are alleged to have breached international law, says Robert Volterra, a sanctions specialist and partner at the law firm Herbert Smith.

Unocal says it will vigorously contest the claims. But even if it is vindicated, the company will still have suffered reputational damage as a result of the court action. With the scent of victory in their nostrils, non-governmental organisations (NGOs) and campaigners are looking to drag other oil majors into legal quagmires.

Friends of the Earth (FoE), the environmental pressure group, is targeting BP over its lead role in the $2.9bn Baku-Tbilisi-Ceyhan (BTC) oil pipeline, which it claims could have harmful environmental and social consequences for the countries it traverses. Construction of the 1,760-km link, between Azerbaijani oilfields and the Turkish port, is due to begin this year. A gasline will run from Baku to Erzurum, in eastern Turkey.

Corporate accountability

FoE says the key issue over BTC is corporate accountability. BP has made claims to be very socially responsible, yet questions over the pipeline's impacts on local communities still arise. That's why we're talking about corporate accountability in this case, making them legally answerable for their actions rather than being voluntarily responsible, says an FoE campaigner, Hannah Griffiths.

The group accuses BP and the other BTC consortium members of signing agreements with Azerbaijan, Georgia and Turkey that exempt it from laws, including environmental and labour that may affect its profits. It also says the needs of BP, such as its demand for water, will be put above those of local communities. Those communities may fail to benefit from the pipelines' profits, in part through corruption.

Pipeline controversy

Keenly aware of the controversy the pipeline would cause, BP commissioned an Environmental and Social Impact Assessment for the BTC pipelines. A draft report issued last year refuted NGOs' suggestions that local communities would not see the benefits.

It said Azerbaijan will derive substantial economic benefit through the generation of royalty and tax revenues, while Georgia and Turkey will derive important financial gains through transit fees.

These revenues, coupled with the indirect benefits associated with the purchase of local goods and services, employment and specific programmes designed to encourage the development of small and medium-sized enterprises, have the potential to contribute to economic stability and sustainable development within each country, as well as promote regional integration and interdependence, the BTC report said.

Campaigners remain unconvinced. While the chances of stopping the pipeline appear slim, civil society groups such as FoE see the court actions against Talisman and Unocal as useful templates for challenging future large pipeline projects. We have to build a framework that ensures firms operate to high standards, whether operating in the UK or a developing country, says Griffiths.

NGOs have already scored some success in forcing action at government level over corporate activity in so-called frontier states.

Despite Sudan's curbing of its support for Islamic extremism since 11 September 2001, US-based Christian and anti-slavery groups are effectively driving US policy on sanctions against the country.

A framework peace accord signed between the Khartoum government and southern-based, mainly Christian, rebels in June 2002 holds out some hope that a comprehensive peace deal will emerge. But if it does not, and previous deals have failed to hold, there is a strong chance that the NGOs will demand tighter US sanctions against Sudan, possibly including capital-markets sanctions for non-US firms operating there.

Despite the NGOs' campaigns often appearing misdirected and scattergun in approach, oil companies are still being caught out in frontier states. Talisman may have escaped, but other oil companies could yet find themselves in Washington's sights.

Washington's susceptibility to imposing sanctions verging on addiction, according to some critics has direct implications for oil companies across large parts of the world. Some are learning the lessons, setting up compliance and due-diligence systems, but others are learning the hard way, says Volterra. Some are sophisticated, but those who aren't are being caught flat-footed.

Sanctions perform a useful function for governments with a foreign-policy agenda. Legal experts say much of the onus for good behaviour is being placed on corporates themselves through self-regulation. Some of this is fairly standard procedure. The OECD's anti-bribery obligations require companies to have an automatic checklist every time they enter a foreign contract. Lawyers say these kind of due-diligence policies would nip many oil companies' problems in the bud, as long as they are carried out properly.

Rules of the game

Yet sanctions, or the fear of sanctions, still place oil companies in a quandary. Governments need to be more consistent in their implementation, says Volterra. What is most important is that sanctions provisions are clear and not opaque. Oil companies need to know the rules of the game and that they won't be changed mid-stream. That's where they are often caught out, he says.

Politics invariably complicates matters. Many accuse Washington of double standards, pointing to US firm Occidental Petroleum's proposed 700-km oil pipeline in Colombia, which has stirred concerns over environmental degradation and indigenous land rights. Whereas Sudan, Libya and Iran are regarded as pariahs worthy of US sanctions, Washington has offered $98m in military aid to protect the Caño-Limón pipeline from attack.

A US supermajor, itself no stranger to bad publicity, sought a new approach to ensuring an oil pipeline project in sub-Saharan Africa would be insulated from political pressures. ExxonMobil, together with its consortium partners, Petronas and Chevron, approached the World Bank to participate in a $3.7bn project to develop three oilfields in southern Chad, building a 1,070 km pipeline to Cameroon's Atlantic coast.

Mindful of the potential for controversy that this, the largest private-sector investment in sub-Saharan Africa, could pose, the World Bank and its private-sector arm, the International Finance Corporation (IFC), insisted that strict oversight measures be included to ensure oil revenues due to Chad's notoriously corrupt government would be spent on alleviating poverty rather than on weapons or for other illicit purposes.

According to the bank, the Chad-Cameroon pipeline model means the state will be unable to get its hands on oil income. Whatever the many civil-society groups think of this as a model for future energy developments and it has already received strong criticism for failing to live up to its promises the focus on beefing up revenue-management systems is one that is being studied with increasing interest by oil companies.

The mismanagement of oil wealth remains one of the main bugbears for civil-society groups in many oil-producing countries. According to Charles McPherson, senior advisor in the World Bank's oil and gas department, Nigeria's GDP per capita remains less than $1 a day, despite the $300bn in oil rents that have been generated over the past 25 years.

McPherson says the Chad pipeline model could prove useful in addressing the revenue-management issue. It connects all the way from the wellhead to the construction of schools and hospitals. It sees government systems are in place to collect revenues properly and transparently, he says.

Even the World Bank acknowledges this involves infringing on both countries sovereignty a necessary evil, argue its supporters. Part of that Chad model is to put the institutions in place inside Chad to handle the social programmes, says McPherson.

Catch-22 situation

But managing petroleum revenues in conflict zones causes additional headaches for international oil companies. Oil firms are prone to falling into a catch-22 situation. As the bank argues, proper management of petroleum revenues depends on the strength of the country's institutions and, more importantly, the quality of governance.

According to Peter Woicke, the Bank's managing director, where governance is poor, there is little chance that sound policies will be implemented. Furthermore, in weak institutional environments, petroleum revenues are associated with the further erosion of governance.

Put succinctly, those countries where oil companies come in for the severest criticism are precisely those where there is least institutional capacity for improvement.

Talisman argued forcefully that its social programmes had a beneficial impact on communities in southern Sudan, including the vaccination of 15,000 people against meningitis or tuberculosis, and the provision of adult-literacy schemes.

Oil firms also contend that wealth generation is a necessary precursor for progress. As Buckee argued in late 2001, corporations can do good in pursuit of their normal activities by creating jobs, expanding infrastructure, building community capacity and generating opportunities for a better future for local people.

Some of the more exaggerated claims made by oil company chiefs appear more contentious, not least the frequent claim that oil developments enhance peace processes by focusing international awareness on them.

But oil company executives frequent complaint that they are being asked to act as quasi-governments, when their expertise lies in the extraction and development of mineral resources, carries some weight.

Oil companies will say they behave responsibly in their own operations and will undertake certain activities outside the centre to be good corporate citizens, such as funding a school or hospital but they will quite fairly say this isn't our main business. It has to come out of our profit flow so it has to be recovered somehow. So why should we be involved when we aren't the most effective players in this, says McPherson.

This realisation has led to new approaches to international financial institutions (IFIs) such as the World Bank and the IFC. That's why they've come to us and said: We're not development agencies, you are, you go and put in place the minimum governance required to ensure the development impact of our operations will be positive, says McPherson.

Speaking at a World Bank session in late 2002, Woicke urged natural-resources companies to adopt new standards of transparency, which in turn would introduce a new level of accountability.

This is unlikely to go far enough to satisfy civil-society groups. Improved transparency levels mean little in many conflict states where institutional capacity barely exists, precluding host countries from using information effectively.

A ray of hope

The Chad-Cameroon pipeline model appears to be a ray of hope, but even the World Bank admits the Chad government spent its first $15m of grant money on procuring weapons for its security forces.

Allowing IFIs to determine host-nation spending priorities also raises troubling questions of sovereignty. Oil company strategists will be wary of being identified as the flag carriers of a new imperialism, however well intentioned it might be.

A more fundamental challenge is the lack of clear guidelines as to where companies should invest and where they should not. As Buckee told the Royal Institute of International Affairs conference: Who's to say Saudi Arabia is good, but Burma is bad?

Resolving that conundrum looks a far tougher task even than instituting transparent revenue-management procedures.

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