In an era of growing vigilance over private sector corruption of foreign officials, some highly corrupt emerging markets such as Pakistan may be inching toward a more transparent and ethical trade framework
Written by Frank Brown
In the walk-up offices of a non-descript concrete building in Karachi, members of the powerful Towel Manufacturers Association of Pakistan last autumn held a freewheeling discussion of some of the perception problems facing their industry, the nation’s largest. The textile firm executives, who make regular trips to places like Bentonville, Arkansas to meet with customers which include some of the world’s biggest retailers, spoke with a mixture of frustration and optimism about an issue that has vexed them for years: compliance with the standards demanded by buyers in North America and the European Union (EU).
For them, compliance standards acquired a whole new order of magnitude in 2014, when key Pakistani exports won tariff-free access to the massive EU market. The access, known as the Generalized System of Preferences plus (GSP+), is linked to the implementation of 27 international conventions that include labor rights, sustainable development, and good governance. More broadly, GSP+ is part of a growing opportunity for Pakistan to retool its image worldwide, to show that despite occasional terror attacks and sporadic political instability, the nation’s manufacturers can deliver top-grade goods in a reliable, consistent manner.
One reason the textile executives gathered that blistering October day was to hear representatives of the Center for International Private Enterprise (CIPE) present a new program designed to substantively address one of the biggest red flags for Pakistani businesses’ potential trade partners: corruption. CIPE, a Washington DC-based NGO affiliated with the United States Chamber of Commerce, has a focus on improving the business climates of emerging markets, including Pakistan, where it has had an office since 2005.
That corruption in Pakistan is a scourge upon business development efforts is beyond doubt, as reflected in numerous studies. Pakistan ranks a dismal 173 out of 197 markets worldwide in an innovative new rating system of corruption risk developed by TRACE and the RAND Corporation. The new approach, called Matrix, is designed as a tool for businesses seeking anti-bribery risk assessment data. It found Pakistan especially deficient in the “Interactions with Government” and “Capacity for Civil Society Oversight” categories. Still, Pakistan outperformed regional competitors including Bangladesh (175) and India (185).
Transparency International’s Corruption Perceptions Index is an older, better known, but less business-specific measure. For 2014, the Corruption Perceptions Index ranked Pakistan at 126 out of 175 countries, a position that reflects the frustrations of Pakistan’s 182 million citizens at corruption in spheres ranging from healthcare to higher education to the enforcement of traffic laws.
As Pakistani firms seek new, often highly regulated export markets for their goods, one of the sharpest challenges they face is rampant corruption among Pakistani officialdom. That is because a bribe to a foreign official made in order to facilitate the production of a good supplied to Western firms in many cases constitutes a violation of those Western firms’ domestic anti-bribery laws. The problem is especially acute in the Pakistani pharmaceutical sector, where so-called “speed money” is expected from government authorities at many stages of the production and distribution process. “Unfortunately, nothing from the government departments moves forward without speed money,” says Swaleh Misbah Khan, a director at Macter International, one of Pakistan’s top five pharmaceutical firms by volume and the country’s largest contract manufacturer for multinational pharmaceutical companies like Johnson & Johnson, Novartis, Pfizer, and Merck.
“We have signed documents with most of them for international anti-corruption laws compliance. Things do get delayed, though, since on principle, we do not give speed money or bribes, but there have been incidents about which we have kept the company informed.” Khan says the worst offenders are on-site inspectors and officials from the Drug Regulatory Authority of Pakistan.
It is a pattern repeated in industry after industry. An executive at a Pakistani manufacturing firm in the industrial sector, who asked not to be identified, describes how his foreign competitors exploit a corrupt customs system to undercut his firm on the domestic market. “The smugglers or importers get away with under-invoicing, as well as making false declarations with the help of the customs appraisers. We, being a major manufacturer in Pakistan, cannot compete with the kind of prices available in the market for the imported products because of this corruption.”
Generally, there is a correlation between the amount of value added to a given product and the producer’s level of susceptibility to predatory officials. As such, corruption puts more of a damper on sophisticated products than simple ones. That leads Pakistan’s textile manufacturers, among others, to find it easier to export unfinished goods than finished ones.
CIPE Pakistan Country Director, Moin Fudda, was invited by the members of the Towel Manufacturers Association to speak about the connection between CIPE’s new push to establish anti-corruption compliance programs in Pakistani firms and his past experience improving corporate governance practices. As the President of the Overseas Investors Chamber of Commerce & Industry from 2001 to 2002, Fudda was engaged in the development of the Pakistan Code of Corporate Governance. Later, from 2002 to 2005, as Managing Director of the Karachi Stock Exchange (KSE), Fudda oversaw the implementation of the Code, which included a requirement that listed firms must create and maintain an audit committee.
“Implementation was not that difficult, except for some very closely held companies that were scared of complying with the code and sought delisting. But then they regretted the decision, as banks raised the interest rates in comparison with those who had already listed. Then the delisting process stopped,” recalls Fudda of the effort at the KSE, which he left in 2005. At CIPE, Fudda and his team have prioritized expanding the adoption of corporate governance by major Pakistani firms beyond those 600 listed on the KSE to another 2,500 medium-sized enterprises, mostly family owned firms. “CIPE has been working with those companies through its Chamber of Commerce network to follow good corporate governance, and as a result, anti-corruption programs. There is a lot of potential to work with them.”
The transformative power of the improved corporate governance measures that Fudda describes holds promise on the anti-corruption front as well. In other words, the economic dividends that firms accrue from adhering to universally accepted standards of good governance and transparency are also available to those firms that put in place anti-corruption compliance programs. This is especially true in emerging markets, where local firms seeking to join global value chains can differentiate themselves from competitors by addressing corruption issues and lowering their risk profiles.
“Whether you believe that an anti-corruption law in your country will be enforced or not, the multinational companies are going to be looking for compliance with it. If you want to make money partnering with multinationals, you must have compliance,” notes Jeremy B Zucker, a Washington, DC-based lawyer at Dechert LLP who serves as co-chair of the firm’s International Trade and Government Regulation practice. Zucker’s observation is underscored by the growing global movement to combat private sector corruption of foreign officials, as witnessed by new and newly strengthened laws in Brazil and Canada.
The United States’ Foreign Corrupt Practices Act (FCPA), enacted in 1977, and the 2010 United Kingdom Bribery Act (UKBA) remain the most powerful drivers for curbing corruption worldwide. Because both laws hold firms responsible for the behavior of their suppliers, vendors, and agents, the laws’ effect ripples throughout value chains, prompting local firms in emerging market nations to be increasingly sensitive to the requirements of multinational corporations.
In Pakistan, according to a survey by CIPE staff of Karachi-based anti-corruption compliance officers at major Pakistani and foreign firms, the UKBA is the most closely adhered to law, even though the UKBA has been applied sparingly worldwide, not to mention in Pakistan. “Part of that is historical, because of trading patterns and cultural factors. Additionally, the UK Bribery Act has a private-to-private component that would make people more aware of it,” says Tom Fox, author of the book Lessons Learned on Compliance and Ethics, and a Houston-based lawyer with an eponymous practice.
The FCPA, however, has touched Pakistan in one recent high-profile instance: a $2 million settlement between gun manufacturer Smith & Wesson and the US Securities and Exchange Commission (SEC) over a Smith & Wesson agent’s alleged bribery of Pakistani police officials with guns and cash to facilitate the sale of 548 pistols. The Smith & Wesson case has attracted substantial attention in the US, as SEC litigators cast the small-scale action as a “wake-up call for small and medium-sized businesses that want to enter into high-risk markets and increase their international sales.” But, as Fox observes, it probably means little for Pakistan internationally. “Simply because there is one company that is alleged to have paid a bribe in Pakistan doesn’t mean that Pakistan is going up or down on the Corruption Perceptions Index,” he says. The Smith & Wesson takeaway for the compliance community in the US is clearer. “On the US side, it is significant because it is moving almost to a strict liability standard. There is no tie to a criminal prosecution. Smith & Wesson didn’t have appropriate controls in place. It doesn’t really matter if you were intending to pay a bribe or not, you need to have these controls in place. I am not sure this message translates overseas.”
In early 2014, CIPE launched its anti-corruption/value chain program in Pakistan, relying on staff in Washington, DC and Karachi, where Program Officer Muhammad Talib Uz Zaman is the resident specialist. Over the course of the year, the program began with an anti-corruption compliance focus group of key firms in Karachi, Pakistan’s largest city and its commercial and financial hub. It continued with several months of one-on-one interviews of compliance officers, as Uz Zaman sought to pin down the top compliance challenges faced by firms, as well as the resources that firms were deploying or lacked.
Uz Zaman was especially interested in the degree to which large firms were concerned about the corruption liability presented by vendors, suppliers, and agents. He found that anti-corruption compliance is a mounting concern, for four main reasons: Pakistan’s new GSP+status and the need to comply with 27 EU standards in order to maintain that status; pressure from multinational companies to comply with the FCPA, UKBA and other laws, especially as they pertain to third-party due diligence and audits; the Smith & Wesson case; and, fear of enforcement actions and possible fines.
Following his attendance at a week-long training program operated by the Society of Corporate Compliance and Ethics in Dubai (where he was the only Pakistani among 36 participants), Uz Zaman drew some conclusions about the state of anti-corruption compliance in Pakistan as compared to other markets in the broader region. “Compliance and ethics are still new buzzwords for many in the Pakistani market. First, we have to understand this lack of awareness,” says Uz Zaman. “Multinationals in Pakistan do have compliance programs, but they somehow do not always obtain results when interacting with third parties—with Pakistani firms.”
In October 2014, CIPE senior management from Washington, DC, a team of trainers including myself, South Asia Program Officer Jennifer Andersaon, and Uz Zaman, as well as Country Director Fudda launched a two-day groundbreaking effort to reduce the supply side of the corruption equation by supporting local businesses that want to reduce the likelihood of employees offering bribes. The first day consisted of a roundtable discussion with over 20 compliance officers from multinationals and large Pakistani firms. The aim was to determine whether there was demand in Pakistan for CIPE’s approach and, if so, whether compliance officers would support it by taking part in an advisory board.
The response was sufficiently positive to serve as a green light for the approach, one that had been pioneered by CIPE starting in 2010 in first Thailand and then Russia. The second day brought over 38 executives from mostly mid-sized Pakistani firms for a half-day training program on the basics of implementing a compliance program in their own firms. Participants’ reactions ranged from puzzlement over arcane dimensions of the FCPA to enthusiasm at the prospect of boosting their firms’ competitiveness by taking some basic steps like conducting a corruption risk assessment or adopting a code of ethics.
Overall, what emerged from the two days was a clear desire to better Pakistan’s business integrity environment and a strong need both to improve the basic level of awareness among mid-sized firms and to push for formal measures by larger firms. As Fudda notes, this is true even among those firms listed on the KSE. “Do all the listed companies have mandatory compliance programs? I would say no. Among the top companies, about 20 percent are following anti-corruption policies, another 30 percent are aware of the need, and the remaining 50 percent are yet to be made aware.”
Ultimately, one of CIPE’s goals in training local firms to put in place anti-corruption compliance programs is to create a collective action network of like-minded firms. The network’s members would be ready to work together toward improving the overall business integrity climate, both through advocating for government reforms and setting independent, business-dependent standards to combat corruption. To date, this has happened most effectively in Thailand.
Administered by a Bangkok-based corporate governance institute, the Thai Institute of Directors, the CIPE-supported coalition now includes scores of Thailand’s largest companies representing an estimated 15+ percent of the country’s economic output. To remain in good standing, the coalition’s first-tier companies subject themselves to an annual independent audit that looks at the presence or absence of key anti-corruption compliance measures. Thus, participating firms go beyond merely pledging to curb corrupt practices to subjecting themselves to an independent audit. Ultimately, the program is designed to change the standards of commerce and conduct in Thailand in ways that make corruption increasingly the exception, rather than the rule. It is a movement driven by some of the country’s largest companies and independent of Thai government action or inaction on corruption issues.
In Pakistan, due to the way in which GSP+ gives the nation an advantage over regional competitors like India and China, the textile sector is one of the best examples of what Pakistan could be with improved compliance programs in place. “Pakistan has the best quality of cotton. But all the big buyers are not sourcing from Pakistan because of, first of all, the domestic laws and regulations in the country and, second of all, because we are not internationally compliant on child labor issues, environmental issues, and financial issues,” says Hanif Ajari, a senior professor and expert on value chain compliance issues at the Institute of Business Administration, Karachi. “So the companies that are sourcing may ask Pakistan for the semi-finished products and then they may do the value added in another country. We are losing that value added.”
Some of Pakistan’s more visionary business leaders believe that a significant driver in the successful reduction of corrupt practices will be to reach a tipping point, where a critical mass of company executives and employees are deeply troubled on a religious and ethical level by the pressure to pay bribes in order to do business. This is a view to which Swaleh Misbah Khan subscribes. “This is especially true in the absence of law implementation. All the laws are there, but there is no implementation. This change has to come from the top management of the companies, and this can be the motivator; they will have to put their foot down for this to change.”
