Infrastructure funding and corruption in Canada

August 2014 | EXPERT BRIEFING | FRAUD & CORRUPTION

financierworldwide.com

Late last month, the Canadian government implemented its 2014 budget enabling legislation approving the last phase of over $100bn of investment in infrastructure, much of it is slated to be built through the public-private partnership (P3) procurement model.

The approval comes as Canada grapples with the fallout from the largest P3 infrastructure corruption case in the world over the construction of the $2bn McGill University Health Centre (MUHC).

As a result, the promise of lucrative investment by the government comes with a catch – that there be no corruption or other forms of financial crime implicated in federal infrastructure funding.

In approving the final phase of the $100bn in infrastructure investment in Canada’s budget earlier this year, Canada’s former Minster of Finance, the late Jim Flaherty, suggested that federal infrastructure spending in Canada has fallen prey to corruption, and he stressed that future projects involving federal funds would have to be corruption-free.

“We don’t want any corruption. We don’t want the kinds of inappropriate behaviour that we’ve seen in some parts of the country when it comes to infrastructure,” Mr Flaherty said.

Whether Canada’s infrastructure industry has fallen prey to corruption remains to be seen but there is no doubt that Canada’s reputation for business ethics has diminished recently on the world stage as a result of recent high-profile scandals and negative results on global corruption rankings.

Canadian companies, mostly those involved in global infrastructure projects, dominate the World Bank’s corruption list of companies banned from obtaining contracts funded by the World Bank. The Basel Institute on Governance ranks Canada as more risky than Egypt, Peru, Romania, Hungary, Chile and Jamaica for a range of financial crime factors, including money laundering and corruption.

The MUHC is the largest P3 infrastructure corruption prosecution globally and the first money laundering one in Canada over a $22m bribe allegedly paid to Dr Arthur Porter, a business executive, in exchange for SNC-Lavalin being awarded the contract to design, build and manage MUHC, one of the largest hospital P3 infrastructure projects in the world that was approved by Infrastructure Québec.

Last month, the head of Infrastructure Quebec testified in a corruption inquiry in Canada that the Quebec government believed that P3 infrastructure projects were bribery-free but that there were red flags in connection with the MUHC P3 infrastructure project that, in hindsight, were obvious. They included pressure on Infrastructure Quebec to rush the approval process and the involvement of a federal politician lobbying for the contract to be awarded in a hurry before any due diligence was completed.

Earlier at the hearing, witnesses apparently testified that SNC-Lavalin obtained a secret copy of the design drawings submitted by a P3 consortium competitor in the EU to improve its bid for the MUHC project.

Dr Porter was a foreign politically exposed person under anti-money laundering law. Politically exposed persons are government leaders, judges, senior politicians, ambassadors, leaders of political parties, heads of government agencies and their close associates including family members, business associates and joint venturers. They represent a greater risk of financial crime because they have access to state assets and the means for their removal. The $80bn allegedly removed to offshore tax havens from the Ukraine by members of Ukraine’s former government is an example of the risks presented by politically exposed persons.

Financiers are required by law to scrutinise politically exposed persons and their financial transactions more carefully, confirm sources of funds and report transactions to the government when those transactions are suspicious or have no legitimate business purpose. In the MUHC P3 infrastructure case, a number of red flags were present including that $22m was wired to an offshore tax haven to a company with a beneficial ownership structure for no legal purpose.

According to several studies, 30 percent of P3 procurements involve some form of bribery. With respect to infrastructure, estimates of financial losses from bribery are estimated to be 5 to 20 percent of the value of publicly funded projects, although the American Society of Civil Engineers in one study estimated the cost of corruption to be 10 to 30 percent of investment in infrastructure.

The incidents of corruption coupled with increased government investment in infrastructure projects and its support of the P3 model, dictates the need to address potential financial crime risks in order to maintain public confidence in the integrity of the process.

Government agencies responsible for P3 infrastructure projects can mitigate financial crime risks by understanding where the risks arise and having processes in place to control the risks.

According to the Financial Action Task Force, financial crime risk factors for persons involved in infrastructure include those in energy or construction with political ties. Project risks include lack of third party due diligence over participants, size of project, culture of non-disclosure by private participants, use of offshore tax havens for the creation of incorporated entities or for payments, and project complexity.

To mitigate financial crime risks in P3 infrastructure projects, the OECD Principles for Private Sector Participation in Infrastructure is the global set of standards. Among other things, it is recommended that the following be undertaken. First, base decisions to involve the private sector on value for money, taking into account the public interest and transparency. Second, ensure the legislative framework for the investment is based on integrity, competitive and transparency. Third, communicate expectations of responsible business conduct to the private sector partner (such as negotiating with public transparency and communicate and consult with the public). Fourth, complete a comprehensive bribery and corruption risk assessment before approval on the project and its participants, considering the type and location of project undertaken so that the specific risks faced are identified and understood. Finally, conduct due diligence on private equity or other funds, or financiers, contractors, agents to make sure they do not pose financial crime risks.

With respect to Canada, clearly existing laws and policy have not been enough to stop financial crimes occurring in P3 infrastructure projects. It may be necessary to have a new clear and transparent regulatory framework that all parties can trust, is enforced and that does not create barriers to entry. Such a framework would foster competition and help minimise the risk of conflicts of interest, corruption and unethical behaviour. It would also help in improving the reputation of Canadian companies that has been damaged by the MUHC scandal and global negative rankings.

Christine Duhaime is a financial crime regulatory lawyer and a Senior Advisor to MNP LLP. She can be contacted on +1 (604) 601 2046 or by email: christine.duhaime@mnp.ca.

Christine Duhaime

MNP LLP