HomeNewsNewsEU rule on government payments: implications for oil & gas industry

EU rule on government payments: implications for oil & gas industry

EU rule on government payments: implications for oil & gas industry

An estimated 3.5 billion people live in countries endowed with oil, gas and mineral reserves. Despite the fact that the citizens of these countries are the legal owners of the natural resources, in many cases governments have hindered the efficient exploitation of such resource.

There are a number of examples of nations with a long history of poor governance and corruption where, despite significant hydrocarbon discoveries and initial hope for long term development, an almost total economic collapse was experienced. Per capita income dropped to half of what it was before the hydrocarbons were discovered and only a fraction of total oil & gas revenues accruing to the government was transferred to the budget, with the majority not properly accounted for.

The Extractive Industries Transparency Initiative (“EITI”) standard was the first major global initiative introduced back in 2002 with the aim of promoting revenue transparency and accountability in the extractive sector (oil, gas & mining). The EITI supports improved governance through the verification and disclosure of company payments and government revenues (the decision of a country to implement the EITI is voluntary).

In recent years EU and US regulators have introduced efforts to create a global standard for transparency and accountability in the extractive sector based largely on the principles/guidelines set out by the EITI. The US in 2010 introduced section 1504 of the Dodd-Frank Act and in 2013 the EU brought into force the amended Accounting and Transparency Directives. More recently the relevant payment disclosure rule applicable to oil, gas and mining companies operating in the US has been repealed.

Even though the EU Directives are much wider in scope, the present briefing paper focuses on the specific rule requiring disclosure of payments to governments by extractive companies.

Below we discuss key aspects of the new reporting rule, which is based on the provisions of the new Accounting Directive (2013/34/EU) and also the relevant Cyprus Companies Law, Cap. 113 (Annex 13) which transposes the said Directive into local legislation.

Who needs to report and for which activities?

Companies active in the extractive sector (i.e. involved in the extraction of crude petroleum or natural gas, or involved in the mining and quarrying of various commodities) or the logging of primary forests which are either Public Interest Entities (“PIEs”) (notably listed entities on EU regulated markets) or are Large undertakings incorporated in the EU. This does not include entities that only provide ancillary and support services. Companies are required to report all payments over €1ook (whether made as a single payment or a series of payments) made to governments (including local authorities, organisations and companies controlled by governments) of the countries in which they operate in relation to their activities stated above.

How do the rules apply to consolidated groups?

Parent undertakings are required to prepare a consolidated report if any subsidiaries are active in the stated industries, subject to the exemptions mentioned below.  Such a consolidated report should only include payments resulting from those activities.

Who is responsible for reporting in the case of Joint Ventures?

All members of a joint venture are required to report any payments that they individually make directly to governments. There are differences of opinion on the correct treatment of payments that operators of joint ventures make to governments on behalf of all of the partners of the joint venture. In most cases, operators will report the full amount of the payment they made on behalf of the joint venture (which results in the other partners having to state that they do not need to report any proportion of the payment as it was already made by the operator). In some cases, however, non-operators have reported their proportional share of payments made by operators.

 Currently, there is no specific guidance issued within the relevant Cypriot Law to clarify this.

What types of payments must be reported?

According to Article 121, Annex 13 of the Cyprus Companies Law, Cap. 113 these include: (a) Production entitlements, (b) taxes on income, production or profits, (c) royalties, (d) dividends, (e) signature, discovery and production bonuses, (f) license fees, rental fees, entry fees and other considerations for licenses and/or concessions, (g) payments for infrastructure improvements.

How should the payments be disclosed?

For entities operating out of Cyprus and are subject to the provisions of the EU Directive, the rule is to be applied for the financial year beginning on or after January 1, 2016. There is no prescribed EU wide format and deadline for producing the relevant information; this will depend on implementation by each member state. For large (non-PIE) undertakings there is no deadline specification in the relevant Cypriot Law; the report however must be attached on the company’s annual report and must therefore comply with annual report submission deadlines as per Article 120 of the Cypriot Companies Law, Cap. 113. For PIE’s the deadline is set by the Directive at six months after the financial year end. 

Is an audit of the report required?

This is not required at the moment, however the rule calls for a post-implementation review (performed by the European Commission by July 2018), which would consider whether the report should be audited in the future. In practice, a number of companies in other EU member states have sought a limited assurance opinion from audit firms on this information.

Are there any exemptions from this reporting requirement?

There are exemptions to the reporting requirement as per Article 121, Annex 13 of the Cyprus Companies Law, Cap.113 which include Translation errorsubsidiaries or parent companies which are included in consolidated reports and companies that are already subject to equivalent reporting.

Are there any penalties for not complying with this disclosure requirement?

Failure to comply is considered a criminal offence and every official responsible for the omission is subject to a fine (of a maximum of €8000).

By July 2018 the European Commission will review and report on the implementation and effectiveness of the requirements. The review will take into account international developments and will consider other aspects such as whether the report should be audited, the possibility of extending to other sectors etc.

In Conclusion

There is a wide range of examples of countries which have suffered economically and socially due to poor governance and corruption. As mentioned above there are exemptions from the reporting requirements.

Western and other societies have been experiencing an intensive social plea for increased transparency and accountability by corporations and governments. We are therefore of the opinion that companies affected should study carefully the new reporting requirements regarding payments to governments and proceed with full transparency to disclose all required information. Even voluntary disclosure of such information could be beneficial.

It is common that every new legal obligation creates challenges in thoroughly understanding and complying with the requirements. Companies will have to first of all consider the applicability of the rule to their business as well as examine the appetite for voluntary application of the rule and then ensure that they develop the appropriate policies, systems, processes and controls for the collection and review of the required information in order to comply with the new requirements by the effective date.

Source: Cyprus Mail

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