Sanctions' impact on emerging market projects

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Elizabeth Barrett of Slaughter and May explains how sanction regimes can threaten multilateral development banks’ crucial role in financing emerging market projects

International financial institutions play a crucial and increasingly prominent role in financing projects in emerging markets. In 2013 and 2014, the World Bank Group, African Development Bank, Asian Development Bank, Inter-American Development Bank and European Bank for Reconstruction and Development (commonly referred to as Multilateral Development Banks, or MDBs) committed over $100 billion of funds to development projects worldwide. In July 2014, leaders of the Brics nations (Brazil, Russia, India, China and South Africa) agreed the terms of a new development bank to fund infrastructure projects in developing economies, also backed by $100 billion in commitments by its members. Beyond this, there is a diverse array of regional and national development bodies.

While the scale and scope of development bank-financed work therefore represent a huge opportunity for firms across a range of sectors, undertaking such work is not without risk. In recent years, the five MDBs named above have been actively developing and harmonising their sanctions frameworks to protect against sanctionable practices committed by participating firms and individuals. The adverse business consequences of being sanctioned under these regimes can be very severe, yet many enter into development projects without a clear understanding of the liability to which they are exposing themselves or how to manage it.

MDB sanctions regimes are a distinct breed, and the approach firms take to domestic compliance, regulatory investigations or private litigation cannot simply be transposed to MDB-financed operations and sanctions proceedings. Focusing on the World Bank Group's sanctions regime, this article will outline some of the notable features of the MDB sanctions framework and how firms and individuals can best protect themselves in a largely unfamiliar landscape.

The policy aim of the MDBs' sanctions framework is to help combat fraud and corruption in MDB-financed projects and to ensure that funds provided for development work are properly applied. Sanctions procedures are ostensibly administrative proceedings which the MDBs use to make operational decisions about who they are prepared to do business with in the future. The specific practices which have been deemed sanctionable are corruption, fraud, coercion, collusion and obstruction (see table 1).

What can be subject to sanctions?
Sanctionable practice	Definition
Corrupt practices	The offering, giving, receiving or soliciting, directly or indirectly, anything of value to influence improperly the actions of another party.
Fraudulent practices	Any act or omission, including a misrepresentation, that knowingly or recklessly misleads, or attempts to mislead, a party to obtain a financial or other benefit or to avoid an obligation.
Coercive practices	Impairing or harming, or threatening to impair or harm, directly of indirectly, any party or the property of the party to influence improperly the actions of a party.
Collusive practices	An arrangement between two or more parties designed to achieve an improper purpose, including influencing improperly the actions of another party.
Obstructive practices	(i) Deliberately destroying, falsifying, altering or concealing of evidence material to the investigations or make false statements to investigators in order to materially impede a Bank investigation into allegations of [another sanctionable practice]; and/or threatening, harassing or intimidating any party to prevent it from disclosing its knowledge of matters relevant to the investigation or from pursuing the investigation; or (ii) Acts intended to materially impede the exercise of the Bank’s contractual rights of audit or access to information.

When an MDB finds, on the balance of probabilities, that an entity involved in one of its projects has committed a sanctionable practice, it can impose one or more of the following penalties: reprimands; restitution or other financial remedies; conditional non-debarment; fixed-term debarment; debarment with conditional release; and permanent debarment. Debarment means that the sanctioned party is ineligible (either indefinitely or for a fixed period) to be awarded or benefit from bank-financed contracts, or to act as a nominated sub-contractor, consultant, manufacturer, supplier or service provider to a bank-financed project. It will also be ineligible to receive the proceeds of any loan made by the bank or otherwise to participate further in the preparation or implementation of any bank-financed project.

The baseline sanction agreed by the five MDBs is debarment with conditional release. The sanctioned party is debarred for a minimum period, after which they will be released only if they have met certain criteria stipulated by the MDB. The criteria commonly include monitoring periods and independent reviews of compliance systems and controls. The minimum period usually starts at three years but is reduced or extended depending on the mitigating or aggravating factors of the case. Although the World Bank has recognised the need to widen the range of sanctions used (and there is some evidence that is has started to do so, with the Sanctions Board issuing a number of reprimands recently), debarment with conditional release remains by far the most prevalent penalty.

Evidently, debarment from World Bank financing (which totals more than $50 billion in commitments a year) means missing out on potentially important projects. However, the effects of debarment are further amplified under the Agreement for Mutual Enforcement of Debarment Decisions (AMEDD), signed by the MDBs in 2010. Under AMEDD, any published debarment of more than one year's duration imposed by one MDB will likely be enforced by the others. While there is some discretion under AMEDD for an MDB not to debar, in practice the vast majority of debarments eligible for cross-debarment have been upheld by the other MDBs: in 2013, almost 90% of the entities debarred by the World Bank were debarred by the other four MDBs.

"Debarments can have a wide and draconian effect on the corporate group of a sanctioned firm"

Moreover, the consequences of a debarment decision can be extended even beyond the formal AMEDD framework. For instance, the names of debarred entities are included in global risk and compliance databases, which form part of the standard due diligence process for many corporations and commercial lenders. Anecdotal evidence suggests that non-MDB development organisations also informally follow the MDBs' published debarment lists. Significant reputational damage is also likely to result from a public finding that a firm has committed sanctionable practices. MDB investigations can also result in matters being referred to national enforcement agencies and for civil recoveries as well as for prosecution. In July 2012, World Bank investigators notified Oxford University Press (OUP) of possible corrupt practices committed by its Kenyan and Tanzanian subsidiaries in the tendering process for Bank-financed projects. OUP voluntarily disclosed the matter to the UK's Serious Fraud Office (SFO), eventually leading to a civil recovery order against OUP for almost £1.9 million ($3.1 million), in addition to a settlement reached between OUP and the World Bank. Although OUP's disclosure to the SFO was voluntary, the World Bank's sanctions procedures give it wide-ranging powers confidentially to disclose information to other MDBs, international or multinational organisations, and national development, investigative and prosecutorial agencies.

Debarments can also have a wide and draconian effect on the corporate group of a sanctioned firm. In 2012 the MDBs agreed the Harmonized Principles on Treatment of Corporate Groups, which provide that sanctions 'will generally be applied to all entities controlled by the [sanctioned party]'. In practice, almost all of the debarments imposed in 2014 by the World Bank's Sanctions Board (the final appeal body in its sanctions process) did indeed flow down to subsidiaries and affiliates of the debarred entity.

Parent companies and entities under common control can also be debarred if the MDB establishes their involvement in the sanctionable practice or responsibility for it through 'wilful blindness' or failure to supervise. The Sanctions Board will look to see if a duty of supervision exists between the respondent and the controlling entity, and whether the controlling entity was aware of or wilfully blind to the sanctionable practice and failed to intervene or address the misconduct. It may not be enough for a controlling entity to show that it has met its obligations towards its subsidiary under national law. In May 2014, the sanctions board reiterated that 'national law cannot be considered as controlling in the Bank's sanctions proceedings', and that the scope of a controlling entity's liability under the sanctions procedures may not be coextensive with its potential liability under national law.

There is also a rebuttable presumption that successors and assigns of a sanctioned entity will continue to be subject to sanctions imposed on their predecessors unless they can demonstrate that to do so would be unreasonable.

Given the drastic consequences of a finding of sanctionable practices, firms need to establish whether they are exposed to MDB-financed projects and if so, will want to ensure that the compliance controls they have in place extend to those projects and are sufficiently robust to manage these risks. Yet in some cases, firms may not even be aware that their activities have fallen within the purview of MDB's sanctions regime.

The basis asserted by the World Bank for its sanctions regime is its ''fiduciary duty' to protect the use of Bank financing', stemming from the Bank's Articles of Agreement, which require it to 'make arrangements to ensure that the proceeds of any loan are used only for the purposes for which the loan was granted'. As recently as March 2014, the Sanctions Board interpreted this as meaning that 'the Bank does not need the consent of or privity with a respondent to assert jurisdiction to sanction'.

The practical implication is that, in the Bank's view, many more firms and individuals may be within the scope of the Bank's jurisdiction than are aware. Firms may be acting as consultants, sub-contractors or suppliers to a project unaware of the original source of funding and of their potential exposure to sanctions proceedings. The decision cited above also stated that sanctions proceedings can be initiated against individual employees and directors of firms in receipt of Bank funds, despite not having personally consented to the Bank's jurisdiction.

In this context, one action that firms operating in the development sphere can take to protect themselves is to identify and monitor any MDB involvement in their existing project participation and enhance their due diligence processes in respect of new matters. When entering new transactions, firms should satisfy themselves regarding the ultimate source of the project funds, even if there is no overt MDB presence. Knowing that they are operating in an MDB-financed project will allow firms to review existing controls to ensure they are suitable for managing that risk.

Due diligence concerning any ongoing MDB investigations is also important when choosing business partners and contractors for a new venture and when recruiting employees. As noted above, successors and assigns to debarred firms may also be debarred. While consulting the MDBs' published lists of debarred entities, and cross-referencing global compliance and risk databases, is a good starting point in identifying debarred entities, it will not uncover ongoing investigations by the MDBs. Tailoring due diligence questionnaires and incorporating contractual protections in the form of representations and warranties is more likely to highlight and help address existing issues and investigations.

The actions of individual employees and agents provide a further risk that employers and principals need to manage. As a general principle, the World Bank's Sanctions Board has concluded that a firm cannot avoid liability by carrying out through an agent or affiliate any conduct that would be a sanctionable practice if carried out by it directly.

Where the individual who committed the sanctionable conduct was acting as the firm's authorised representative, the World Bank will usually find the firm liable for that conduct. In other cases, the Sanctions Board has recognised the potential liability of an employer for the acts of its employees under the doctrine of respondeat superior. Whether or not a firm should be held liable under this doctrine will turn on the facts, but the Sanctions Board places particular emphasis on whether the employer, at the time of the alleged misconduct, 'had supervision or control measures in place that should have been sufficient to prevent or detect that type of misconduct'. Firms should already have systems and controls in place addressing compliance issues in the anti-bribery and corruption context. But firms may need to review and augment those systems in order to ensure that they are tailored to the expectations of MDBs and their particular sanctionable practices.

For instance, whereas the US Foreign and Corrupt Practices Act 1977 (FCPA) prohibits bribery of foreign public officials, in the World Bank context from October 2006 the term corrupt practices applies to bribes given to or received by another party, giving it a far wider scope. The definition of corrupt practices also makes no exception for facilitation payments, which are a key exception under the FCPA. The Sanctions Board recently considered a facilitation-type payment (made to expedite the release of project materials from customs), but treated these no differently to other forms of corrupt payment.

With the evolution of extra-jurisdictional legislation such as the FCPA and UK Bribery Act 2010, firms have already begun to re-appraise their compliance controls to take account of the potentially conflicting standards of overlapping regimes. For firms undertaking MDB-financed work, this needs to extend to the standards of the MDBs, both to protect employees from inadvertently engaging in sanctionable practices and also to insulate the firm in the event of misconduct.

If firms cannot prevent sanctionable practices from occurring, it is important that they then have an understanding of exactly what sanctions proceedings entail, since a firm's usual approach to compliance, investigations and litigation is unlikely to suffice.

Although each of the MDBs has adopted slightly different procedures, the overall structures are similar. Each MDB has an investigatory unit; in the case of the World Bank, this is the integrity vice-presidency (INT). If the investigatory unit considers that there is sufficient evidence to support a finding of sanctionable practices, they will make a submission to an adjudicator within the MDB. In the case of the World Bank, the INT will submit a statement of accusations and evidence (SAE) to a suspension and debarment officer (SDO) within the World Bank's office of suspension and debarment, which is separate to the INT.

If the SDO deems that there is sufficient evidence, they will issue a sanctions notice to the respondent containing the SAE and the recommended sanctions to be applied. The respondent may then submit a response. If the SDO does not withdraw the notice, the respondent may request that the matter be referred to the Sanctions Board. The Sanctions Board comprises four independent, external members and three internal members.

While the basic structure of these proceedings is fairly familiar, the way they operate may be very different to what most firms and individuals are used to. Understanding the terminology of the sanctions procedures is key. For instance, the World Bank will routinely require borrowers to insert an audit clause into project contracts, giving the World Bank the right to audit participants in the project. A request to conduct such an audit should not be regarded as a routine matter to be handled by project staff without notifying the compliance function. They are more akin to forensic audits, and may be a prelude to sanctions proceedings. Failure to appreciate this may prevent firms from mounting an appropriate response (for example, as regards suitable document retention policies). There is then a risk of compounding the firm's difficulties by inadvertently creating exposure to an allegation of committing obstructive practices.

Firms also need to appreciate the considerable powers accorded to the MDBs under statute and accorded by the MDBs to themselves under their procedures. The most obvious manifestation of this is the MDBs' broad (though not absolute) immunity from legal review in its members' domestic courts, making sanctions decisions difficult to challenge outside the sanctions procedures. Similarly, the Sanctions Board has consistently reiterated that national law will not be taken into account when applying the Bank's sanctions regime, on either procedural or substantive points.

Another distinctive feature of MDB sanctions proceedings is the use of temporary suspensions. Temporary suspension can be imposed by the SDO when they issue the SAE to the respondent, if the SDO recommends a minimum period of debarment exceeding six months. In effect, the respondent is debarred from participating in Bank-financed projects pending the conclusion of the sanctions proceedings. Unlike debarment, suspension is not publicly announced nor does it trigger cross-debarment under AMEDD.

Additionally, in certain circumstances an entity can be temporarily suspended even before the SAE has been issued. If, during the investigatory phase, the INT believes that there is sufficient evidence to support a finding of sanctionable practices and that it is highly likely that the investigation will be successfully concluded and presented to the SDO within one year, the INT may ask the SDO to impose a temporary suspension. If the SDO is satisfied as to the above, and determines that they would have recommended a sanction of debarment of at least two years had the accusations been submitted in an SAE, then they may issue a notice of temporary suspension, even though the INT's investigation is ongoing.

It is clear then that MDB sanctions procedures have a number of distinct features which participants in MDB-financed projects need to understand and ensure are appropriately addressed. As is often the case, prevention is better than cure. Once pulled into sanctions procedures, the broad immunity of MDBs from suit and the idiosyncratic nature of their proceedings can present a significant challenge to unwary respondents. By reviewing their existing project participation, and enhancing due diligence procedures and training and compliance mechanisms to make sure they are fit for purpose in the MDB context, firms engaging in MDB-financed projects can afford themselves useful protection, and can take advantage of the potential that such work has to offer without unnecessarily exposing their businesses to potentially wide-ranging liability.

The author would like to thank trainee solicitor Alex Bulfin for assisting in the preparation of this article

About the author
		Elizabeth Barrett Partner, Slaughter and May London, UK T: +44 (0)20 7090 4053 (Direct line) E: elizabeth.barrett@slaughterandmay.com W: www.slaughterandmay.com Elizabeth Barrett is a partner in Slaughter and May's dispute resolution group. Her practice spans a broad range of high-profile commercial litigation, investigations and contentious regulatory matters. She has extensive experience of resolving strategically complex disputes, particularly those involving numerous parties or multiple actions and parallel proceedings in other jurisdictions (notably the US). Barrett has handled many statutory, regulatory and disciplinary investigations in the commercial and financial sectors, and the subsequent related litigation and class actions. She is often asked to provide urgent and discreet risk management advice to clients facing novel corporate-threatening or reputational issues. Her clients include leading financial institutions, major corporates and governmental and regulatory bodies.