Using beneficial ownership data for national security
Protecting strategic and sensitive sectors
Threats to strategic and sensitive sectors, such as defence, energy, telecommunications, or sectors producing dual-use items,[k] emerge through the inadvertent or intentional acquisition of ownership by hostile actors. These can also be caused by weaknesses in public procurement, such as corruption or the lack of due diligence. BO data can address both these threats by aiding investment screening and improving public procurement.
Investment screening
A number of countries have policies in place to prevent the acquisition of ownership in strategic and sensitive sectors, or more broadly for any foreign direct investment, by actors with links to hostile foreign states. Broadly, these policies put in place (foreign) investment screening mechanisms. The COVID-19 crisis has seen an increase in these policies to prevent opportunistic takeovers and acquisitions in a time when many companies find themselves in financial trouble.[59] Governments often impose investment restrictions on specific strategic sectors. For instance, the Dutch parliament is currently discussing the “Investments, Mergers and Acquisitions Security Screening Bill” which identifies “vital suppliers” (heat transport, nuclear power, air transport, ports, and banking services) and “sensitive technologies” (including military goods) to be brought within the scope of the legislation due to their relevance for national security.[60] The bill will require detailed information regarding “the identity of the investors and ultimate beneficial owners, the control structure and value of the investment, the origin of financial resources, the business activities of the investor and the target, and criminal records”.[61] A UK act commencing in January 2022 defines 17 sensitive sectors, ranging from synthetic biology to dual-use goods, which are subject to screening for investment and intellectual property, and export controls.[62] The application of the law is defined by thresholds of ownership and control.[63]
Many countries also have regulations governing media ownership, typically to ensure public opinion and policies are not influenced unduly and to encourage media pluralism. In September 2021, Ukraine adopted an “anti-oligarch” bill aimed at curbing the political influence of powerful individuals associated with corruption in the country, which implements a register of individuals who qualify as an oligarch by meeting a number of criteria, including significant influence over the media.[64] In Armenia, a central public register for all legal entities is expected to be launched in 2022. Civil society organisations expect that transparency in company ownership will help counter fake news and misinformation, out of concern over political influence being exerted over their media, especially by those with links to Russia.[l] In the Philippines, highly protectionist legislation requires companies that engage in broadcasting to be wholly Filipino-owned,[65] although critics say this lacks enforcement.[66] However, there is a broader debate about the transparency of media ownership and its relation to democracy and the rule of law. The policies discussed may also be used by governments in ways that are not necessarily beneficial to the functioning of democratic governance, for instance, by restricting freedom of speech and control of the media.
Box 5: Indian restrictions on foreign direct investment
In response to the COVID-19 crisis, the Indian Ministry of Commerce amended its Foreign Direct Investment Policy in April 2020.
Prior to the amendments, the foreign direct investment laws in India restricted people with Bangladeshi or Pakistani citizenship and entities incorporated in Bangladesh or Pakistan from investing in an Indian company without prior government approval. Further, any citizen of Pakistan or entity incorporated in Pakistan was not permitted to invest in defence, space, atomic energy, and sectors or activities prohibited for foreign investment at all.
The amendments expand the scope of these restrictions to entities from countries sharing a land border with India, and to beneficial owners of investments into India who are resident in or citizens of these countries. Where a transfer of ownership directly or indirectly results in the BO falling within the above restriction, the change in BO also requires prior government approval. Consequently, investments from countries like Afghanistan, Bhutan, China, Myanmar, and Nepal, in addition to Bangladesh and Pakistan, are now also subject to prior government approval.[67]
The role of beneficial ownership transparency
BOT can help make the true owners of companies visible and can ensure that hostile states do not circumvent ownership requirements using domestic shell companies. At a minimum, BO information should be made available to the government bodies that need to enforce investment screening policies. Collecting and holding information as structured data will make access by different bodies easier. Making data available to the public allows for public oversight of government activities; it can increase trust and accountability and provide a range of other potential benefits,[68] for instance, in the case of media ownership. As with public procurement, given the range of policy applications of BO data, governments are recommended to collect and verify the information centrally. It is also critical for BO disclosure regimes to capture sufficient detail about state ownership, as recommended by the OO Principles.[69]
Improving public procurement
Public procurement is the purchase of goods, work, or services by governments. Typically, governments have procurement policies that aim to prevent corruption and fraud as well as foster fair, equitable competition and transparency to deliver value-for-money services for taxpayers through tenders. Governments often attach criteria to supplier eligibility relating to ownership in procurement for strategic sectors, such as defence and security. Governments limit the supply of defence procurement to domestic companies, so that suppliers fall within the government’s jurisdiction. Weaknesses in procurement, such as corruption or poor due diligence, can lead to non-delivery, or delivery of faulty or inferior critical goods and services (see Box 7). It can also compromise security by providing confidential information about or control of critical assets to hostile actors (see Box 7 and Box 8). Foreign companies can pose particular due diligence and verification issues, and can bring added risks, such as political officials using offshore companies to hide their interests in a company to access public contracts that they otherwise should not.
Fraud and corruption severely undermine procurement processes. Corruption in procurement involves the abuse of power of office to steer a contract to a specific bidder without detection. This can involve awarding the contract to a company that should not win according to the set criteria, inflating contract values, or including favourable contractual terms, such as removing repercussions for the failure to deliver. As corruption involves the abuse of power of those involved in the procurement process, there is always a link and a conflict of interest between those involved and the companies that win. The majority of procurement corruption cases involve bribes.[70]
Box 6: Corrupt procurement undermines national security in Nigeria
Research conducted by Transparency International (TI) and Civil Society Legislative Advocacy Centre (CISLAC) shows how defence procurement has provided new and lucrative opportunities for the former military chiefs who allegedly stole as much as USD 15 billion through fraudulent arms procurement deals. This threatens Nigeria’s internal security and political stability, and weakens Nigeria’s counterterrorism capacity against Boko Haram.[71]
The research shows how shell companies (named briefcase companies in Nigeria) are used to facilitate fraud and corruption in defence procurement. In December 2011, for example, unconfirmed reports surfaced about the Ministry of Defence seeking six Mi-17SH military helicopters to support operations against Boko Haram. The tender was not advertised and instead the eight companies were invited to bid for the multi-billion dollar supply contract.
The bidding companies had generic names such as Asset Management Corp Limited and GNY Management and Consulting, and did not have websites, which are red flags that can signify shell companies. The bids also all seemed to be artificially inflated, potentially indicating collusion and canvassing. Two of the bidding companies were chaired by a close associate of then-President Goodluck Jonathan.[72]
Procurement fraud comprises efforts to subvert the procurement process without the knowledge and complicity of officials. Fraud in procurement can be due to false representation, failure to disclose information, and abuse of position.[73] Multiple bidders can co-conspire to rig a bid as a cartel to inflate prices, suppress bids, or submit fake bids in order to steer the selection towards a specific bid. Procurement systems should raise red flags when fraud is suspected, but fraud can be very difficult, as well as time- and resource-consuming, to detect. Companies can also fail to disclose information that allows procurement agencies to conduct proper due diligence, or submit false information to match the profile of the seller that a buyer is looking for.[74]
Fraud and corruption as a threat to national security can be committed by both non-state actors and state actors, including corporations with links to states. The objective can be to undermine national security, but could also simply be self-enrichment that compromises national security in the process. National security risks can arise from the procurement of goods such as defence assets (see Box 6 and Box 7) or services, such as the leasing of real estate (see Box 8).
Box 7: Certification challenges in US defence procurement
The US has relied on self-certification in defence procurement but, in doing so, the country has seen both financial and nonfinancial fraud. The Department of Defense’s (DoD) vendor vetting programme must carry out investigations into contractor ownership, including BO, without access to a central BO register. In an audit, the GAO concluded that the lack of access to accurate information exposed the DoD to national security risks from contractors with opaque ownership structures, and saw individuals circumvent debarment and eligibility criteria for specific contracts.
The GAO reviewed 32 court cases involving DoD fraud between 2012 and 2018. Four cases involved individuals creating domestic shell companies for foreign manufacturers to bid on contracts specifically designated for domestic companies. One of the companies ultimately supplied the DoD with defective and non-conforming parts that led to the grounding of at least 47 aircraft. Three of the companies shared sensitive military technical drawings and blueprints to foreign countries. In 20 of the 32 cases, the GAO identified ineligible contractors using self-certification to fraudulently win bids set aside for companies with majority ownership by women; US citizens who are economically or socially disadvantaged; or service-disabled veteran-owned businesses. In these cases, they either fraudulently used the names of eligible individuals or the figureheads did not actually hold the level of BO or control of the company required.[75]
In another case, the Pentagon discovered that the company it had procured security cameras from had circumvented domestic production requirements[76] by disguising its illegal importation of Chinese surveillance equipment through the use of shell corporations with anonymous ownership records.[77]
Box 8: Leasing high-security space from foreign owners in the US
A GAO review found that, as of March 2016, the US government has been leasing high-security space from foreign owners in 20 buildings, including 6 Federal Bureau of Investigation (FBI) field offices and 3 Drug Enforcement Administration (DEA) field offices. The spaces are used, among other reasons, for classified operations and to store law enforcement evidence and sensitive data. The companies owning the spaces were based in countries such as Canada, China, Israel, Japan, and South Korea. The GAO was unable to identify ownership information for about one-third of all 1,406 high-security leases, because ownership information was not available for all buildings.[78]
Federal officials interviewed said that the national security risks of leasing foreign-owned real estate include espionage, cyber intrusions, and money laundering. This included potentially “collecting intelligence about the personnel and activities of the facilities when maintaining the property,” for instance, “by direct observation or surreptitious placement of devices in sensitive spaces or on the telecommunications infrastructure of the facility”.[79]
The role of beneficial ownership transparency
For governments to know to whom they are entrusting the supply of critical goods, services, and sensitive information, it is essential that they be able to identify the people ultimately benefiting from and exercising control over supplying companies, and what their interests might be. Whilst managing a range of risks – including operational and financial – by using different kinds of ownership information in public procurement is not new, governments’ use of data collected and published as part of BOT remains relatively unexplored. A growing number of countries, including Bangladesh, Colombia, Egypt, and Moldova, have started implementing BOT solely for public procurement purposes.[80]
Specifically for national security, BOT can help prevent fraud and corruption by signaling potential signs of bid-rigging and conflicts of interest, and verifying supplier eligibility where this is based on ownership. Strengthened procurement processes can also protect national security indirectly by improving the value-for-money of what is procured; this is done by fostering competition and managing risk in order to also expand and diversify the supplier base.[81] Research has demonstrated a range of potential benefits of BOT to procurement processes, especially when information is collected on all companies in an economy and made available to the public.[82] Only collecting BO information on bid winners, as some countries do,[83] will not allow BO data to help raise red flags for bid rigging. If data in a central register is structured and interoperable, red-flagging checks can be automated. Collecting BO information on all companies in an economy and making the information public will also help companies conduct due diligence on each other, which can systemically improve procurement, and allows for public oversight. For defence procurement, publishing details of specific contracts may not be appropriate, but automated checks can be built into procurement processes.[m]
Footnotes
[k] Dual-use items are goods, software, technology, documents, and diagrams which can be used for both civil and military applications. See: “National risk assessment of proliferation financing”, 9.
[l] Some media companies are wary this will threaten the freedom of the press. See: Shushan Doydoyan, “Beneficial ownership progress in Armenia”, Freedom of Information Center of Armenia, 6 April 2021, http://www.foi.am/en/news/item/2011/.
[m] See, for example, the Bluetail prototype: https://bluetail.herokuapp.com/tenders/. Bluetail connects contracting and BO data into a platform for procurement authorities. It displays red flags, such as potential conflicts of interests or collusion (the same beneficial owner appearing in multiple bids). See: Alex Parsons, “Visualising conflicts of interests”, mySociety, 31 July 2020, https://www.mysociety.org/2020/07/31/visualising-conflicts-of-interests/.
Endnotes
[59] Sandeep Mehta, “COVID-19 crisis inspires global tightening of Foreign Investment Screening”, Norton Rose Fulbright, May 2020, 2, https://www.nortonrosefulbright.com/-/media/files/nrf/nrfweb/knowledge-pdfs/global-rules-on-foreign-direct-investment/global-rules-on-foreign-direct-investment---india.pdf.
[60] “Wet veiligheidstoets investeringen, fusies en overnames”, Tweede Kamer der Staten-Generaal, 30 June, 2021, https://www.tweedekamer.nl/kamerstukken/wetsvoorstellen/detail?id=2021Z12360&dossier=35880.
[61] “News Update Competition: Dutch FDI screening bill 2.0 sent to Parliament”, Houthoff, 6 July 2021, https://www.houthoff.com/insights/News-Update/Competition-News-Update-6-July-2021.
[62] “New and improved National Security and Investment Act set to be up and running”, Department for Business, Energy & Industrial Strategy, 20 July 2021, https://www.gov.uk/government/news/new-and-improved-national-security-and-investment-act-set-to-be-up-and-running.
[63] “National Security and Investment Act: prepare for new rules about acquisitions”, Department for Business, Energy & Industrial Strategy, 20 July 2021, https://www.gov.uk/guidance/national-security-and-investment-act-guidance-on-acquisitions.
[64] Natalia Zinets, “Ukraine’s assembly backs law to rein in oligarchs in first reading”, Reuters, 1 July 2021, https://www.reuters.com/world/europe/ukraines-assembly-backs-law-rein-oligarchs-first-reading-2021-07-01/; Polina Ivanova and Mark Raczkiewycz, “Ukraine passes law to curb political influence of oligarchs”, Financial Times, 23 September 2021, https://www.ft.com/content/b9dbdbf1-7337-42e8-98f6-5a062c084e81. Whilst the law was meant to encourage legal pluralism, critics allege the opposite has happened. See: David Clark, “Ukraine’s anti-oligarch law could make President Zelenskyy too powerful”, Atlantic Council, November 6 2021, https://www.atlanticcouncil.org/blogs/ukrainealert/ukraines-anti-oligarch-law-could-make-president-zelenskyy-too-powerful/.
[65] Miguel Franco T Dimayacyac and Rose Marie M. King-Dominguez, “In brief: media law and regulation in Philippines”, SyCip Salazar Hernandez & Gatmaitan, 5 August 2020, https://www.lexology.com/library/detail.aspx?g=2c8a14b6-742a-40f7-b587-1aef8c77c420.
[66] See, for instance, this case of media ownership that was traced back to Indonesia: “Philippines”, Media Ownership Monitor, 20 November 2018, https://www.mom-rsf.org/en/countries/philippines/.
[67] Mehta, “COVID-19 crisis inspires global tightening of Foreign Investment Screening”, 1.
[68] See: Kiepe, “Making central beneficial ownership registers public”.
[69] “The Open Ownership Principles – Sufficient detail”, July 2021, OO, https://www.openownership.org/principles/sufficient-detail/.
[70] OECD, OECD Foreign Bribery Report: An Analysis of the Crime of Bribery of Foreign Public Officials, (Paris: OECD Publishing, 2014).
[71] Eva Anderson and Matthew T. Page, “Weaponising transparency: Defence procurement reform as a counterterrorism strategy in Nigeria” CISLAC, TI, and TI-DS, May 2017, 1, https://ti-defence.org/wp-content/uploads/2017/05/Weaponising_Transparency_Web.pdf.
[72] Ibid, 15.
[73] “Review into the risks of fraud and corruption in local government procurement: A commitment from the UK Anti-Corruption Strategy 2017-2022”, UK Ministry of Housing, Communities and Local Government, June 2020, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/890748/Fraud_and_corruption_risks_in _local_government_procurement_FINAL.pdf.
[74] “Why corruption matters: understanding causes, effects and how to address them”, UK Department for International Development, January 2015, 50, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/406346/corruption-evidence-paper-whycorruption-matters.pdf.
[75] “Defense Procurement: Ongoing DOD Fraud Risk Assessment Efforts Should Include Contractor Ownership”, GAO, November 2019, https://www.gao.gov/assets/710/702890.pdf.
[76] “Aventura et al Complaint”, Department of Justice, Eastern District of New York, n.d., https://www.justice.gov/usao-edny/press-release/file/1215951/download#page=8.
[77] Rachael Hanna, “Shell Corporations Facilitate Contracting Fraud at the Department of Defense”, Lawfare, 21 April 2020, https://www.lawfareblog.com/shell-corporations-facilitate-contracting-fraud-department-defense.
[78] “GSA Should Inform Tenant Agencies When Leasing High-Security Space from Foreign Owners”, GAO Highlights, January 2017, 1, https://www.gao.gov/assets/gao-17-195-highlights.pdf.
[79] “GSA Should Inform Tenant Agencies When Leasing HighSecurity Space from Foreign Owners”, GAO, January 2017, 20, https://www.gao.gov/assets/gao-17-195.pdf.
[80] “WP1502: Beneficial ownership transparency and open contracting and public procurement (comments from Anti-Corruption Summit)”, Wilton Park, 2016, https://www.wiltonpark.org.uk/wp-content/uploads/WP1502-Comments-on-beneficial-ownership-transparency-and-open-contracting-and-public-procurement-at-Anti-Corruption-Summit.pdf; “IMF COVID-19 Anti-Corruption Tracker”, TI, 20 September 2020, https://www.transparency.org/en/imf-tracker.
[81] Kiepe and Okunbor, “Beneficial ownership data in procurement”, 11-12.
[82] Ibid.
[83] For instance, in Slovakia. See: Tymon Kiepe, Victor Ponsford, and Louise Russell-Prywata, “Early impacts of public registers of beneficial ownership: Slovakia”, OO, September 2020, https://www.openownership.org/resources/early-impacts-of-public-registers-of-beneficial-ownership-slovakia/.
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