Yesterday, I discussed the complaint that the final rules on Section 1504 of the Cardin-Lugar provision create a competitive disadvantage for companies forced to adhere to it. The provision requires companies listed on American stock exchanges to disclose how much they pay foreign governments for the right to develop and extract natural resources. Today, I'm going to discuss two other objections offered by critics who support the lawsuit backed by oil industry lobbying group American Petroleum Institute, which represents companies including BP (NYSE: BP), Shell (NYSE: RDS-A), ExxonMobil (NYSE: XOM), and Chevron (NYSE: CVX).
First, some companies complain that the compliance costs will be too high. Second, some complain that these laws fail to fulfill the SEC's purpose of protecting investors and instead focus on promoting the broader social purpose of increasing global transparency and accountability of government officials to their citizens.
Compliance costs
The SEC estimates the initial costs of compliance to the industry at approximately $1 billion, with ongoing compliance costs of $200 million-$400 million annually. Critics have pointed to several expenses associated with building the systems needed for initial compliance, including the need to adjust their accounting and financial reporting systems to provide the granular information required by Cardin-Lugar and expenses associated with training local personnel.
During the creation of the final rules, some critics also argued that compliance costs would be far higher than the SEC's estimates, but as the SEC points out, these critics generally failed to provide any quantitative analysis to support that conclusion.
To determine whether these compliance costs are "too high," we must weigh them against the benefits they provide -- to investors, the companies themselves, and the larger community.
Investor benefits
There are two distinct benefits the Cardin-Lugar rules can offer to investors.
First, they offer investors more information, allowing them to better gauge the risks associated with projects carried out by the companies they own. Calvert Asset Management argues that many of the areas in which we mine for energy resources pose a variety of risks that current reporting doesn't adequately address. They argue that the Cardin-Lugar rules would help address this by giving them material information they can use to gauge risks including "… political risks, such as the production disruptions due to conflict and the expropriation of assets or economic risks involving changes in exchange rates and inflation. Further information regarding the size and timing of payments, such as signature bonuses, provides insight into whether and how these payments will influence development costs or operating cash flow."
In addition to giving investors valuable information, the provision's role in fostering political stability through transparency can enhance the long-term profitability of these companies. By promoting transparency, these rules can help foster more stable governments and reduce the risks associated with operating in unstable countries. Along these lines, the California Public Employees Retirement System (CalPERS) argued that the disclosures required by the Cardin-Lugar provision are "… especially vital for companies operating in countries where governance is weak resulting in corruption, bribery and conflict that could negatively impact the sustainability of a company's operations and our ability to more effectively make investment decisions."
These observations demonstrate that, even though the primary intent behind the law is to undermine the "resource curse" by increasing accountability of government leaders to their citizens in resource-rich countries, there are some reasons to believe that the laws also help fulfill the SEC's mission of protecting investors.
As the comments by Calvert and CalPERS show, investors want greater information because it provides them more transparency and help in decision-making. Without this information they could be exposed to serious risks and be unable to factor them into their investment decisions.
As investors, how do you think the costs associated with the Cardin-Lugar provision stack up against the benefits of more transparency for investors and citizens in resource-rich countries? Chime in below!
