Published on May 12th, 2016 | by Esfandyar Batmanghelidj2
Where Iran Sanctions Relief Falls Short
by Esfandyar Batmanghelidj
Over the last few weeks, the debate about supposed U.S. obstruction of sanctions relief has reached a fever pitch. Secretary of State Kerry has brushed off criticism from Europe and Iran, making it clear that the US stands by its obligations under JCPOA. He has stated that US sanctions are used “an excuse” to hide the fact that some European companies “don’t want to do business or they don’t see a good business deal.” Jarrett Blanc, deputy lead coordinator for Iran nuclear implementation echoed this sentiment when addressing an Iran business conference in Zurich, the first time the State Department has spoken at such a gathering. He noted that hesitations go beyond US sanctions and that “business decisions, not surprisingly, in fact take into account concerns well beyond sanctions.” These statements have raised concern among deal supporters in Europe, Iran, and the United States that the deal is at risk, especially if momentum doesn’t materialize before the prospect of a Clinton or Trump presidency.
However, the recent debate about obstruction of sanctions relief overlooks the fact that compliance with US regulations requires two steps: understanding the current status of US sanctions on Iran and ensuring that any transaction facilitated by a financial institution doesn’t contravene those sanctions. It is certainly true that the U.S. Treasury and its Office of Foreign Assets Control (OFAC) could do more to elucidate precisely how they will enforce the post-JCPOA Iran sanctions since European financial institutions, given a history of hefty fines, will not tolerate such a degree of confusion and ambiguity. However, even if the US regulations were crystal clear, determining whether a given transaction is compliant will remain difficult. This second dimension to compliance is what banks call “know your customer” or KYC, and it requires a high degree of due diligence to ensure that parties in a given transaction (even the simple transfer of funds from one account to another) do not fall afoul of the remaining US sanctions. Although progress is being made on the first step of compliance, with US regulators and European bankers and businessmen opening a dialogue, the second step remains a challenge with no clear solution.
In order to put banks at ease, the onus will be on Iranian companies to raise levels of transparency and accountability. Moving from a closed, inward-looking economy to one properly integrated into the global systems for finance and trade will require new business practices. This has been well noted in the numerous country reports written by major law firms such as Dentons, Eversheds, and Clyde & Co, as well as advisory companies such as McKinsey, Control Risks, Economist Intelligence Unit, and PwC. Iran understands the need for greater transparency, but the transition is only just beginning. Most Iranian business leaders considered a nuclear deal an unlikely occurrence until quite late in the negotiations. Few began serious preparations for “post-sanctions” business development until after Implementation Day. As a result, only a handful of Iranian companies in each sector can provide investors detailed and reliable materials on investment and partnership opportunities at the present time. Companies often lack clear and comprehensive websites, let alone detailed third-party due diligence reports or feasibility studies for the projects they are touting. As such, the majority of Iran’s investment opportunities are not “bankable”—that is to say an investor cannot have a high degree of confidence in the verifiability of the project at hand. If the investor cannot be sure of fundamental details, then the cautious banks will be even more hesitant to provide financing or simply facilitate the necessary transactions. They will not be able to ensure compliance, even if the US regulations and other relevant sanctions are crystal clear.
The Blind Spot
The majority of the major deals announced since Implementation Day, which have not progressed beyond Memoranda of Understanding, are between European MNCs and Iranian partners who have a historical working relationship. Companies like Airbus, Bosch, Daimler, Danieli, NovoNordisk, Scania, and Siemens are not new in the Iranian market, and therefore the sizeable investments promised can be made with the confidence built from an iterated relationship with the Iranian counterparty. New players are facing an interesting dilemma. They are making country visits to Tehran every week and are speaking with potential partners. But while the initial conversations are almost always positive, making clear the much touted investment opportunities, the mechanics of those deals remain difficult to pin down. Reluctant to lose the positive tempo of initial visits, European companies have attributed that hesitation to the ambiguity around US sanctions—Secretary Kerry’s comments are accurate. These new entrants certainly find it far easier to blame US sanctions than to explain the inadequacy of a potential Iranian partner’s provided information. It is also hard to blame the Iranian companies that have so little recourse and support in actually producing reports and documentation to the standards Europeans desire even in a so-called “emerging market.”
Here, then, is the true blind spot of US sanctions relief for Iran. It’s not so much that banks feel uncomfortable with transactions, but actually that the third-party service providers banks and businesses rely on to provide an objective, verifiable, and bankable picture of a given opportunity, counterparty, or transaction are not able to operate. The same companies that have produced the initial flurry of reports about Iran—management consulting firms, accountancies, credit agencies, and law firms—are finding it very difficult to understand exactly how they can service Iranian clients in the current regulatory environment. These global companies have massive US operations and countless US persons working in an inherently polycentric corporate structure. They are in some ways the most multinational of all multinational corporations. These companies, which act in many respects as the architects of global standards for business practice and governance, are perhaps more hamstrung than the banks, which have relatively ring-fenced corporate structures.
This situation presents the fundamental challenge of unlocking post-sanctions Iran. The investment opportunities exist, and there is a real will to engage both in Europe and in Iran, but actionable information is in short supply. The “big four” accountancies are circling Iran, attending conferences, publishing reports, and sending non-US citizens on country visits. Despite the high levels of interest, however, work has been slow to start. It is time-consuming, costly, and logistically difficult to create a compliant Iran advisory practice within these major firms.
General License H was a much-touted development to the OFAC guidance update to US sanctions on Implementation Day. It authorized “U.S. persons, including employees and outside legal counsel and consultants to provide training, advice, and counseling on the new or revised operating policies and procedures, provided that these services are not provided to facilitate transactions in violation of U.S. law.” In short, US lawyers and consultants can now help US companies and the foreign subsidiaries of these companies get the basic architecture of their own compliant Iran strategy in place. However, the same US persons and the companies they advise, remain explicitly unable to “rely on [General License] H to “export U.S.-origin goods to Iran.” The trouble is that “U.S.-origin goods” encompasses a prohibition on “reexporting from a third country, directly or indirectly, any goods, technology, or services that have been exported from the United States.” Furthermore, beyond the initial permitted consultations, U.S. persons cannot partake in Iran-related “day-to-day operations” of a U.S.-owned or -controlled foreign entity engaging in activities with Iran, “including by approving, financing, facilitating, or guaranteeing any Iran-related transaction by the foreign entity.”
This language raises many important questions for a company whose primary service is advisory. Can the exchange of ideas and information have a national origin such that it would be defined as a service exported from the U.S.? What does “facilitation” mean in terms of consultancy or due diligence work, which will nearly always be insisted upon by one or all of the involved parties? What is the “red line” where the provision of training and advice to help devise a ring-fencing structure for a non-US subsidiary’s Iran business becomes “day-to-day” involvement in the new Iranian venture? Finally, if the advisor is a third party in a given transaction, is there a meaningful point at which the “exportation” of a service is “is intended specifically for Iran,” and thereby prohibited, or in fact intended and performed for the non-Iranian party?
What the US Should Do
We live in a global ideas economy, where some of the world’s most important companies do nothing more than ensure other firms are working in the most intelligent, strategic, and transparent ways. If Iran is going to become a responsible player in the global economy, it needs access to the free market for ideas. US sanctions policy must ensure that channels for the transfer of knowledge and expertise are left open and that the world’s leading advisory firms can take the lead in sifting through the Iranian opportunities, raising capacity in Iranian companies, and providing transparency for European banks and businesses. A new, expanded general license for advisory practices would eliminate the hassle and cost of setting up a proper Iran advisory practice and get the right expertise into the country at this crucial stage. There already exist broad exemptions for activities such as journalism, publishing, and conference organizing, which presuppose an open exchange of information. The spirit of these exemptions needs to be extended to a broader notion of knowledge transfer that allows for holistic compliance-focused advisory services to be provided to Iranian clients without the arbitrary prohibition of activities by US entities.
Policymakers would be hard pressed to find a way that a management consultant or tax expert trying to explain to an Iranian company how the world expects them to do business would contravene the purpose of US sanctions. On the contrary, policymakers might keep primary US sanctions in place until enough knowledge has been transferred to Iran to raise transparency and governance standards. This will enable US regulators to have a greater degree of confidence in the ability of private businesses to themselves judge the appropriateness of transactions at such time that the US is ready to consider a lifting of primary sanctions on Iran. To be clear, management consultants and other advisors are plainly not a panacea for Iran, but they can have a major influence in shaping the direction of intelligent commercial development. Consider the significant role played by McKinsey in formulating Saudi Arabia’s new Vision 2030 plan. Iran needs similar expertise and vision now.
The adage “trust but verify” was bandied by the Obama Administration to explain the methodology of JCPOA. The verification of the IAEA—a third party—was crucial to bringing the nuclear deal to fruition. Rather than complaining about banks and historical fines, we should realize that the economic implementation of sanctions relief under JCPOA will also require its own kind of third-party verification. Kerry is telling the banks to trust that sanctions relief is real, but he isn’t giving them the tools to verify that opportunities are actionable. This is where sanctions relief is falling short.
Photo: Mobarakeh in Esfahan is Iran’s largest steel mill listed on the Tehran Stock Exchange (via Wikipedia)
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