The effectiveness of market-based initiatives for regulating development projects by multinational corporations in Africa with regard to human rights and environmental abuses

Summary

1 Introduction

Under the initiatives by international financial institutions the article focuses on standards set by the World Bank, specifically the private sector-funding arm of the World Bank, the International Finance Corporation (IFC). International financial institutions, such as the IFC, aim to promote economic and social development in developing countries by funding private sector projects.1 The presence and involvement of these institutions in developing countries can add legitimacy to projects and encourage additional private investment in various business ventures.2 Investors generally believe that, if an entity such as the World Bank is involved in a project, certain minimum human rights standards apply and the risk of political and financial instability is significantly reduced.3 The involvement of the World Bank can even be a precondition for the approval of a project by the major stakeholders, as was the case in the Chad-Cameroon Pipeline Project.4 This Project is a good example of the complex relationship between the desire to foster successful and economically viable projects in Africa and the pressure from civil society and other groups that these projects abide by certain minimum standards. The Project involved the construction of a 1 070-kilometer pipeline, transporting crude oil from three different Chadian oil fields to an offshore floating facility, 11 kilometres off the coast of Cameroon.5 In this case, external pressure forced investors such as the World Bank and the IFC to consider human rights implications, where previously they had refused to do so because of a conviction that such consideration would interfere in the political affairs of the host state and violate the Articles of Agreement which prohibit the consideration of factors of a political nature in the granting of a loan.6 It is because of this external pressure that the private investors agreed to abide by certain minimum human rights standards.’7

However, in September 2008 the World Bank released a statement whereby it effectively ended its involvement in the Project. The Bank stated that during the course of the Project, the government of Chad had failed to comply with specific requirements in the loan agreement by not allocating funds to critical sectors as required by the agreement, such as education, infrastructure, health and rural development and governance. The Bank warned the government that its actions, or rather omissions, in this regard and its non-compliance with the loan agreement ‘undermines the basis for the World Bank’s involvement in the project’.8 In 2008 the Chadian government repaid the International Bank for Reconstruction and Development (IBRD) and International Development Association ( IDA) loans and officially ended the Bank’s involvement in the Project. 9

Notwithstanding the abundance of natural resources in some developing states, these states are severely dependant on foreign investment to fund resource extraction projects. Furthermore, multinationals and international financial institutions are vital to the process of establishing resource extraction operations and maintaining these projects to ensure the existence of a profitable venture that not only benefit the investors, but also contribute to economic and social development in the host country. However, multinationals and international financial institutions (IFIs) have a duty to ensure that their operations are in compliance with necessary human rights standards and ultimately contribute to a sustainable model of development. Standards established by IFIs and applicable to operations of multinationals in Africa could more effectively regulate corporate behaviour because of the fact that non-compliance will have severe consequences such as rescinding funding allocated for a project. Related to the activities of IFIs, the article also considers the Equator Principles as a possible regulatory hurdle with regard to the financing of projects. The article further considers self-regulatory measures such as incorporating corporate governance standards into a corporation’s operations, and in this regard the article includes an assessment of the King IV principles and the UN Guiding Principles, which are widely incorporated by corporations on a domestic and global scale.

2 International Finance Corporation

The IFC is a member organisation of the World Bank. The World Bank is an intergovernmental organisation and a specialised agency of the United Nations (UN). It was established in 1944 as the International Bank for Reconstruction and Development (IBRD) and it aimed to facilitate the reconstruction and development of post-war Europe.10 Today the World Bank consists of the IBRD and the International Development Association (IDA), as well as other member organisations, including the IFC, the Multilateral Investment Guarantee Agency (MIGA), and the International Centre for Settlement of Investment Disputes (ICSID). The Bank’s mandate has evolved from focusing on reconstruction to improving economic and social development in developing countries, and also to alleviate poverty in these areas through development projects funded by the World Bank.11 In this article mostly IFC standards are discussed, although many IFC standards are based on or draw inspiration from World Bank provisions regarding human rights and environmental protection.

With the emergence of the human rights discourse in the twentieth century it has become virtually impossible to avoid issues of human rights and environmental protection when discussing economic development. The human rights agenda has infiltrated almost every area of international law and, therefore, an effort will have to be made by international organisations to incorporate these considerations into their decision-making processes in a manner that remains consistent with the object and purpose of the organisation’s existence. This necessity is true not only for international organisations such as the World Bank and the IFC, but also for economic entities such as multinationals. Market-based initiatives could be useful tools in ensuring that the activities of multinationals are kept to a certain standard.

In this regard a corporation’s financial situation could be affected by not implementing these standards. This consequence could be an especially useful regulatory tool in the case of multinationals operating in Africa as regulating multinational corporate activity on the continent faces significant challenges. It especially can be difficult for African states to regulate corporate behaviour as these countries lack the institutional capacity or the political will to regulate multinational activities in their territory. This lack of will to regulate also could be due to a dependence on foreign investment. Therefore, it is imperative that host states as well as multinationals adhere to standards set by IFI’s to ensure that certain regulations are adhered to in the host state which can be a more effective regulatory tool.

3 Equator Principles

The Equator Principles are a voluntary101 set of principles developed by private sector banks, and are based on the IFC Performance Standards on Social and Environmental Sustainability and the World Bank Environmental, Health and Safety Standards.102 The Equator Principles are defined as ‘a risk management framework, adopted by financial institutions, for determining, assessing and managing environmental and social risk in projects and is primarily intended to provide a minimum standard for due diligence to support responsible risk decision-making’.103

Financial institutions that sign up to the Equator Principles commit themselves to refrain from providing loans to clients that do not comply with the relevant social and environmental standards prescribed by the Principles.104 The Equator Principles apply to all industry sectors and state that the projects that they finance should aim to avoid negative environmental impacts or, where these are unavoidable, to minimise or mitigate negative impacts.105 Equator Principles Financial Institutions (EPFIs) consider themselves as having a duty to respect human rights and to exercise a certain level of due diligence in their investment activities in accordance with the Principles. In this respect the Principles also reference the Guiding Principles on Business and Human Rights and the Protect, Respect, Remedy Framework as the origins of this duty.106

A project has to comply with the requirements of all ten Principles in order to qualify for funding. Projects are reviewed and categorised according to risk into Category A, B and C, similar to the World Bank categorisation system. The Principles require a client to undertake an environmental and social assessment for Category A and B projects in order to establish the risks and possible impacts of the project.107 The Principles further require that the project should comply with relevant host state laws and standards related to environmental and social issues. In some cases the project should also comply with IFC Performance Standards and World Bank Group Environmental, Health and Safety Guidelines (EHS Guidelines). 108

With regard to Category A and B projects clients are required to provide and maintain an Environmental and Social Management System (ESMS) as well as an Environmental and Social Management Plan (ESMP).109 The Principles also require an independent environmental and social consultant to review documentation such as the ESMS and the ESMP.110

In order to manage compliance the Equator Principles provide for covenants. They state in Principle 8 that ‘[f]or all projects, the client will covenant in the financing documentation to comply with all relevant host country environmental and social laws, regulations and permits in all material respects’. Should the client not comply with the relevant environmental and social covenants, the EPFI works with the client in order to remedy the situation and bring the client back into compliance with these standards.111

Although the Equator Principles are voluntary and do not provide for any substantial enforcement mechanism, it is encouraging to see that the Principles are based on IFC and World Bank provisions and that, in that way, they ensure the continuity and consistency of standards relating to international financial activity. The Equator Principles, similar to the IFC or World Bank Standards, find their strength in the fact that EPFIs can withhold financing in case of non-compliance, thereby effectively rendering them binding for all practical purposes on any potential investment operations by multinationals.

4 Self-regulation and corporate social responsibility

Self-regulation is discussed to illustrate how multinationals can utilise self-regulatory initiatives in order to make international norms directly applicable to their operations. Corporations have made environmental protection a priority because of consumer concerns regarding transparency and corporate responsibility.112 The issue of self-regulation has become a popular topic, especially when considering new and innovative ways of regulating multinational activity. Self-regulation initiatives can take many forms including, but not limited to, codes of conduct, disclosure and transparency agreements and social labels.113 According to Utting and Clapp, corporate social responsibility (CSR) refers to ‘a range of initiatives adopted by companies, business associations and so-called multi stakeholder entities that aim to promote ethical corporate behaviour and minimize the negative impact of business activity on society and the environment’.114

CSR exists mainly as a result of the commitments made by business entities at the Rio Conference where various entities agreed voluntarily to alter the way they operate in order to ensure that a more sustainable model of business is followed in the future. This initiative was supported by various international NGOs.115 CSR initiatives, such as codes of conduct, are a popular type of self-regulatory tool, which has been utilised by multinationals, especially in the last few decades.116 These codes prescribe certain minimum standards for the manner in which multinationals conduct their operations. The codes also can specify in which types of countries the multinational should invest, in order to prevent the multinational operating in a country vulnerable to human rights abuses and to set out standards for business partners and subsidiaries of the multinational operating abroad. 117

One obvious major shortcoming of corporate codes of conduct is that they apply only to those multinationals that decide to adopt them. Codes of conduct require independent monitoring and enforcement mechanisms by objective third parties to be truly effective, which normally is not the case.118 Moreover, these codes of conduct generally are not legally binding. They, however, could be binding on a multinational in the sense that the corporation incorporates these regulatory standards into its operations and effectively binds itself to these standards through incorporation and internalisation. Some of these codes of conduct could be made applicable to a multinational’s subsidiaries or subcontractors operating abroad. 119

An important method to ensure compliance in cases of self-regulatory initiatives being utilised is to require companies to report on their progress with regard to the incorporation of corporate social standards. In order to comply with corporate social responsibility requirements companies generally have to draft reports on the impact their operations have on the environment and the local communities. Companies usually make these reports available on their websites. However, there also are organisations, such as the Global Reporting Initiative (GRI), that set specific requirements for company reporting. The organisation then places these reports on its website and this practice adds some transparency to the process of submitting a company report. The GRI primarily considers issues of environmental and sustainable development and, therefore, the focus of the reports is on these issues. 120

CSR initiatives have proved to be successful in some instances, especially as multinationals consider self-regulation not to be an invasive and formal method of regulation. Multinationals, therefore, have more control to decide how and when regulations are to be applied and, by giving them a sense of control over the process, they tend to be more willing to comply with set standards. Therefore, it is not difficult to envision that the system could be flawed precisely because of the level of control that multinationals have over the process of regulation. Factors, such as a lack of transparency, a lack of independent monitoring and voluntary commitments drafted too vaguely, contribute to self-regulation being considered an ineffective regulatory method. 121

It is very rare that self-regulation initiatives are applied objectively and effectively. Most multinationals simply cannot regulate their own activities without some degree of bias or subjectivity. Consumers, therefore, often view self-regulation efforts as a mere tool used to foster public relations and improve a multinational’s image among its consumers or clients without it having the necessary positive impact

on the local environment in host states.122 For example, Royal Dutch Shell adopted one of the most extensive codes of conduct in the 1990s after the negative environmental and social impact of its operations in Nigeria had come to light. After its adoption the code seemed to have little impact on the welfare of local communities. In fact, in some communities the situation surrounding environmental degradation and human rights abuses worsened. 123

For these reasons many scholars do not favour this system of regulation. For example, Duruigbo argues that insufficient international standards and weak domestic regulatory frameworks have led to many multinationals embracing the concept of self-regulation.124 These initiatives, however, have proven to be ineffective in most cases as a result of factors such as the voluntariness of the initiatives, the lack of transparency, vagueness of regularity provisions and a lack of remedies available to injured parties.125 Duruigbo advocates obligatory initiatives to regulate corporate activities as voluntary codes have thus far proved to be mostly ineffective.126 In a sense the voluntary initiatives discussed in this article fall somewhere between an obligatory initiative and a voluntary initiative because of the fact that there are more concrete consequences in cases of non-compliance with the initiatives discussed in the article, such as a loss of social standing or loss of profit, even if it may be marginal in some cases.

Market-related methods of regulation can be useful in the right circumstances where compliance is monitored effectively and without bias. Self-regulation remains an important tool in prompting multinationals to do business in a more sustainable way. It is necessary, however, that the process of self-regulation becomes more transparent and that sufficient monitoring takes place to ensure that corporations are held accountable for non-compliance or, alternatively, that sufficient repercussions for non-compliance exist even if only in the form of an effect on the company’s licence to operate.

Examples of two initiatives that have proven to be quite effective at ensuring the internalisation of corporate governance standards by companies are the South African King IV Principles on the domestic level, and the UN Guiding Principles on the global level. Although these principles are not legally binding, they have become so widely accepted by the business community as constituting good corporate governance that numerous companies have incorporated these principles into their corporate governance structures.

The King IV Principles build on the King III Principles and have been revised to include the most up-to-date international corporate governance codes and practices. King IV was published in 2016 and is applicable to financial years starting from 1 April 2017.127 King IV is a set of voluntary principles and practices. Some principles of corporate governance have been incorporated into legislation in South Africa, and should there be a conflict between the law and the King IV Principles the domestic law will prevail.128 Should the King IV Principles be more prescriptive, then the higher standard of care should be followed.129 Voluntary principles, such as the King IV Principles, could evolve into binding rules and can inform national legislative decision making. Furthermore, should a voluntary principle be widely practised to a sufficient extent, it could evolve into a standard of care which is recognised by the courts.130 According to the KPMG King IV Summary Guide:131

Whilst King IV™ is not law, the governance outcomes achieved and the practices adopted and implemented will likely become the criteria by which the required standard of care and appropriate standards of conduct of the governing body and its members are measured.

Moreover, for a company to be registered on the Johannesburg Stock Exchange (JSE) it has to comply with certain aspects of the King IV Principles as a listing requirement and non-compliance with corporate governance practice, which includes the King IV Principles, could also lead to board liability in some circumstances.132 The King IV Principles are drafted to apply to all sectors irrespective of form. However, the principles should be tailored to specific organisations’ needs as a one-size-fits-all approach rarely is effective and could become nothing more than a tick-box exercise.133

The United Nations Guiding Principles on Business and Human Rights134 are based on three core principles, namely, the state obligation to respect, protect, and fulfil human rights. Business enterprises have specific functions and are required to respect human rights, which necessarily includes the duty to respect the environment as these rights are ‘inherently interdependent’. Furthermore, effective remedies are required when rights and obligations are breached.135 The duty to respect is considered to be a ‘global standard of expected conduct’ regardless of where a corporation operates, and it is independent also of a state’s duty to protect.136 The duty to respect primarily involves acting with due diligence.137 The due diligence obligation is not an unusual or novel legal construct as most companies already have existing due diligence structures as part of larger risk management systems.138 The reasons for the incorporation of due diligence measures generally are economically or strategically driven.139 Companies incorporate due diligence measures in order to comply with statutory and common law requirements of due diligence and further to protect themselves from civil and criminal liability in the case of alleged human rights violations. 140

The Guiding Principles provide a sound and legally authoritative framework, which is accompanied by an implementation plan that is structured in such a manner that all relevant parties know what their responsibilities are regarding the business and human rights agenda. The normative contribution of the Guiding Principles lies not in the creation of new international law obligations but rather in elaborating the implications of existing standards and practices for states and businesses, integrating them within a single, logically coherent and comprehensive template and identifying where the current regime

falls short and how it should be improved.141 Several companies have demonstrated their support for the Guiding Principles and are involved in a process of reporting their progress with regard to the implementation of the Guidelines, including companies such as BHP Billiton, BP, Microsoft, Nestlé, Unilever, Shell and Total, to name a few.142

5 Conclusion

Morgera states that the IFC Performance Standards ‘reinforce the growing expectation in the international community that private companies should contribute to biodiversity conservation and sustainable development, and behave in a preventative and participatory manner with regard to their use of natural resources’.143

The fact that environmental conditions can be included in financing agreements between IFIs and clients (such as multinational corporations) means that private financing could be an effective method of regulating the activities of multinationals. These conditions become contractually binding and, consequently, if the company does not comply with the provisions, the contract could be cancelled and financing withdrawn.144 Therefore, it may be considered a very effective market-related mechanism which, if not complied with, can have serious financial consequences for a corporation including losing funding for a particular project owing to non-compliance with certain standards. The IFC is bound also by international environmental law as a result of its degree of international legal personality and, therefore, it is not authorised to finance activities that are in contravention of its duties in terms of international law.145

The IFC believes that environmentally and socially sustainable business practices could increase the profitability of investments and also ensure a competitive advantage for its clients. These practices also improve the reputation of the IFC and ensure that it can continue to promote its development agenda effectively in countries where it is most needed.146

One could argue that an IFI can be held legally responsible for lending to a client who engages in activities that violate human rights and environmental standards. An IFI has a due diligence duty to ensure that a project complies with international as well as host country standards before investing in the project. In this regard Brodnig states that ‘[w]hile states remain the major duty-holders in implementing the right to development, international organisations have important complementary responsibilities in fostering international cooperation’.147

Self-regulatory initiatives, on the other hand, can persuade multinationals to adopt rules applicable to their operations in order to improve their overall social image and commit themselves to a higher standard of doing business as it makes good business sense to do so. This commitment occurs through the process of self-regulation, where corporations implement initiatives such as corporate codes of conduct or other self-regulatory initiatives in order to make international rules applicable to their operations. These codes are directly legally binding in that a corporation internalises the provisions, thereby agreeing to be bound. Examples of such internalisation include companies adopting the King IV Principles or the Guiding Principles, as previously discussed. The process of self-regulation requires objective oversight and monitoring to be truly effective, elements which are often lacking with regard to self-regulatory efforts by multinationals. However, it is encouraging to see that corporations in fact are willing to incorporate restrictive rules in order to be bound by principles of environmental and human rights whether for the sake of the well-being of people and the environment or for window dressing. In the end, the result is the same.

What this article aims to illustrate is that market-based initiatives, such as funding requirements by IFIs or the implementation of self-regulatory measures and social considerations into the corporate governance structures of businesses, can be effective in ensuring that corporations are held to a certain standard of conduct. In some ways this practice can be more effective than other international regulatory initiatives because the result of non-compliance is experienced directly by corporations through, for example, an effect on a corporation’s licence to operate or a loss of profits owing to non-compliance with standards set by IFIs.