FINAL REPORT. Scoping Study for the EITI in Kazakhstan

Transcription

1 FINAL REPORT Scoping Study for the EITI in August 16 th 2012

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3 Acronyms/Abbreviations ASI CSOs IOC KZT LCC/LKU MINT MOG MOU MSG NGO NSC PSA TOR WB Adam Smith International Civil Society Organisations International Oil Companies Tenge (currency) Licence Contract Conditions Ministry of Industry and New Technology Ministry of Oil and Gas Memorandum of Understanding Multi-Stakeholder Group Non Governmental Organisation National Stakeholders Council Production Sharing Agreements Terms of Reference World Bank

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5 Table of Contents A.. Executive Summary Materiality strategy Materiality Threshold Missing benefit streams Recommended list of Reporting Entities International Accounting Standards Other Recommendations... 4 B.. Introduction Background Document Review Guidance Notes Checklist for EITI Scoping & Feasibility Studies Guidance Note on Defining Materiality Validation Report Relevant Recommendations of the Validation Report Reconciliation Reports International Secretariat Review NSC Minutes Implementing EITI: Early Lessons from the Field Additional Documents Reviewed The Independent Report January 2012 Letter to EITI International Secretariat Subsoil Law The EITI MOU in the Subsoil Law EITI Reporting in the Subsoil Law Summary of the Implications of the Subsoil Law on EITI in Subsoil Bylaw- Resolution of the Government of the Republic of 117 dated February 10, Reinvigorating s EITI Process C.. Extractive Sector Revenue Streams in Introduction Revenue Flows to the National Fund Revenue Flows to the National Budget Revenue Flows to Local Government The Unreported Benefit Streams Licence Contract Condition Reporting Requirements Social Investment Payments from Companies D.. Materiality Analysis Introduction Analysis of Payments to Government Payments to Government Oil and Gas Payment Analysis Mining Sector Payment Analysis Payments to Government Oil and Gas Payment Analysis Mining Sector Payment Analysis E.. Recommended List of Reporting Entities Total Number of Reporting Entities... 20

6 2. Recommended Reporting Entities for 2010/11 EITI Reports Production Sharing Agreements (PSAs) Operating Companies MOU Signatories Below the Proposed Threshold...21 F.. List of Dividend Payers and Recipients Introduction Completed Attachment 11 of the 2010/11 TOR...22 G.. EITI Requirements for r International Accounting Standards Introduction Indicator/Requirement Indicator/Requirement Requirement for company forms that: Requirement for government forms that: H.. Analysis of Draft TOR for 2010/2011 reports Legal framework Reporting process Materiality Disaggregation Benefit Streams Social Payments International Standards I... Recommended Reporting Process Issues to be addressed in the 2010/11 Draft TOR Providing Guidance on Use of Templates Popular Version Extending the Scope in Future Reports...29 J.. Remaining Issues A.. Oil and Gas subsoil objects Payments (2010) B.. Mining Company Payments (2010) C.. Oil and Gas subsoil objects Payments (2011) D.. Mining Company Payments (2011) E.. Stakeholders Consulted F.. Key Documents

7 EITI in : Scoping Study A. Executive Summary 1. Materiality strategy The most recent EITI report in featured reporting aggregated by company but disaggregated by revenue/benefit stream. The 2010/11 TOR stipulates disaggregated reporting by benefit stream, by company, as well as by individual subsoil object (contract). This represents a significant advancement in the definition of materiality and the National Stakeholder Committee (NSC) should be commended. 2. Materiality Threshold Based on an analysis of tax data from all extractive industry companies supplied by the Geology Committee, the proposed materiality threshold of US$200,000 for oil and gas companies will cover 99.98% of the total payments to the sector based on 2010 data (out of 263 subsoil objects in total) and 99.99% of total payments for 2011 data (out of 243 subsoil objects). Meanwhile, the threshold of US$100,000 for mining companies will cover 99.86% of the total payments to the sector based on 2010 data (out of 400 subsoil objects in total) and 99.87% of total payments based on 2011 data (out of 384 subsoil objects in total). Therefore, the proposed thresholds will ensure that all materially significant company revenue data will be included in the planned 2010/2011 reports. 3. Missing benefit streams The draft TOR for the 2010/11 reports includes a comprehensive range of benefit streams that should be reconciled, including social payments. It is recommended that the following five benefit streams are included in the 2010/11 EITI Reconciliation report to ascertain whether they are materially significant (and therefore should be used in all subsequent reconciliation reports or otherwise): Payments to t the National Fund» Fines and penalties levied by central government authorities on petroleum sector companies» Fines and penalties levied by various state organisations on petroleum sector companies» Funds received by subsoil users on the basis of claims for indemnification by oil sector organisations» Other non-tax receipts from oil sector organisations Payments to Local Government» Dividends on state shares 4. Recommended list of Reporting Entities The report identifies 92 oil and gas companies whose tax payments to the government in 2010 were more than the proposed materiality threshold of US$200,000 (KZT30m) and 77 above that threshold in The report has also identified 102 mining companies whose tax payments to the government in 2010 were more than the proposed materiality threshold of US$100,000 (KZT15m) and 118 above that threshold in While the 2010 subsoil law ensures that all new companies must report, it has no such explicit guarantee for pre-existing contracts. In fact, Articles 50 and 76 of the 2010 Subsoil Law have no retroactive force over contracts that contain stability clauses. Again, the analysis of this report indicates that there are seven companies with Production Sharing Agreements (PSAs) who have yet to sign the EITI MOU. For each company that has yet to sign up (whether via a standard contract or a PSA), the EITI Secretariat should ensure that they sign the MOU in advance of the 2010/2011 EITI reporting cycle commencing. 5. International Accounting Standards EITI Requirement 12 the requirement that companies report on the basis of accounts that have been audited to international standards - is being gradually met; 63% of companies that reported in 2009 did so on the basis of financial accounts that were audited to international standards. EITI in should aim for a significantly higher percentage for the 2010/11 reports in the context of a mandatory or quasi-mandatory legal framework. EITI Requirement 13 - the requirement that government agencies report on the basis of accounts that have been audited to international standards presents more of a challenge. The draft TOR for the 2010/11 Reports does not outline a process by which government templates can be signed off as being based on accounts audited to 3

8 international standards for the simple reason that there is no process in the Government of for government accounts to be audited in this way. Although, as the NSC has explained in a letter to the International Secretariat, the Accounts Committee has adopted a range of international accounting standards, there is no means by which the Annual Report produced by the Accounts Committee is itself audited. One solution here in order for Requirement 13 to be met is for selected extractive industry data collated in the Annual Report to be audited, and for the Annual Report to be submitted to the appointed reconciler along with the completed government templates. 6. Other Recommendations» It is recommended that the expression Payments to the budget in the Draft TOR for the 2010/11 reconciliation report is clarified. Attachment 3 should clarify the use of this expression, and provide a breakdown of which benefit streams from companies go to the national budget, which are paid to local government, and which go to the national oil fund» Production Sharing Agreements. The NSC should clarify which PSAs should report: all PSAs; PSAs above the proposed materiality threshold who signed the MOU; all PSAs above the proposed materiality threshold, regardless of whether they have signed the MOU or not» An Amendment to Subsoil Bylaw should be considered to facilitate stronger integration with EITI Reporting» Given the complexity of the reporting process for 2010/11, the EITI Secretariat should provide as much guidance as possible on the use of templates, both to companies and the relevant government agencies» The NSC should consider producing a summarised popular version of the 2010/11 report» The NSC should consider other ways in which EITI reporting can be extended in scope beyond 2010/11, such as by carrying out a process, value for money or physical audit 4

9 EITI in : Scoping Study B. Introduction 1. Background The 2010 Validation Report recommended that the implementation of EITI in be judged to be close to compliance, a verdict that was subsequently endorsed by the EITI Board. Two of the remedial issues the board identified concerned how EITI defined materiality, and also whether reporting standards were based on data audited to international standards. This report therefore provides an assessment on progress in addressing these two issues, looking ahead to the new validation deadline of 15 th August At the same time, is now preparing its sixth and seventh reconciliation reports (for 2010 and 2011 financial years respectively). This report therefore assesses the Terms of Reference (TOR) for these reconciliation reports, providing an external view on the proposed definition of materiality embedded in these TOR. Note that in Section F on payers and recipients of dividends from shares in state-owned companies, the missing information was not received in time for the completion of this report; therefore the table in this section has yet to be completed. This information will be completed during the reconciliation process. 2. Document Review The TOR guiding this report states that the documents and reference materials that should be read as part of this scoping study are as follows:» Guidance Note on EITI Scoping» Guidance Note on Defining Materiality» Validation Report» EITI Reconciliation Reports» International Secretariat Review» NSC Minutes» International Secretariat Board Decisions» Implementing EITI: Applying Early Lessons from the Field (especially chapters 3 and 7) What follows directly below is a review of each document, with critical commentary where required and considered relevant in terms of the TOR for this report Guidance Notes Two Guidance Notes produced by the International Secretariat were reviewed for the purposes of this report: Checklist for EITI Scoping & Feasibility ity Studies This report gives a basic introduction to the main issues when considering what scope of materiality for the Multi- Stakeholder Group (MSG) to consider when preparing for the tender of an annual reconciliation report. The note states that the four key issues involved in scoping materiality are:» Determining the fiscal period to be reported. This basic requirement is nonetheless significant, because oftentimes international companies annual year differs from their host government» Establishing the process for ensuring that the data submitted by reporting entities is credible. Ensuring that data in templates matches data provided in audited accounts is a critical requirement» Determining which revenue streams from oil, gas and mining are significant, and consequently which companies and government entities should be required to report. Some types of payment by extractive companies to government are relatively small in size, to the extent that it may be judged that the additional effort and expense of reconciling these revenues is not justifiable, given their limited contribution to government funds. Again, determining which companies and government institutions should be considered reporting entities requires analysis and judgement 5

10 » Setting out the level of detail required in the EITI Report, thus determining how much information on revenue data will be publically available and usable. As with point (3) immediately above, a simple cost-benefit analysis needs to be undertaken by the MSG, to ensure that the reconciliation report has sufficiently comprehensive detail to be able to reconcile materially significant payments and receipts, without providing unnecessary levels of detail that few will read and will therefore provide scant transparency benefits to the implementing country and its citizens The Guidance Note also provides a useful checklist of fifteen items for the MSG to consider in establishing the scope of EITI reporting Guidance Note on Defining Materiality This note links EITI criteria #1 regular publication of all material oil, gas and mining payments by companies to governments ( payments ) and all material revenues received by governments from oil, gas and mining companies ( revenues ) to a wide audience in a publicly accessible, comprehensive and comprehensible manner to validation requirement 9, The multi-stakeholder group is required to agree a definition of materiality and the reporting templates. In other words, the Guidance Note clarifies that in order for all material payments and receipts to be reconciled, the MSG should first of all agree on what constitutes materiality. The EITI Rules define materiality as follows: A revenue stream is material if its omission or misstatement could materially affect the final EITI report. Therefore, it may be the case that certain payments are considered too small to significantly affect the outcome of the reconciliation report, however, this is a decision that the MSG must make on the basis of rigorous consideration of all possible payment streams. The Guidance Note then lists the commonly recognized forms of revenue streams as: 6» Host government production entitlement, e.g. profit oil» National state owned company production entitlement» Profit taxes» Royalties» Dividends» Bonuses» License fees, rental fees, entry fees and other considerations for licenses» And/or concessions» Other significant benefits to government as agreed by the MSG The Guidance Note then goes on to examine sub-national payments between companies and government, including inkind payments, infrastructure provision or barter arrangements. The note then goes on to recommend a set of steps the MSG should undertake to address the issue of materiality:» Develop a clear understanding of the tax arrangements in the extractive sector» Agree which benefit streams are material» Consider whether payment thresholds are necessary Payment thresholds may be necessary if there are a large number of companies involved in the sector. The note goes on to outline three options for establishing thresholds:» An aggregate payment threshold: companies disclose only if their total payments to government are above a minimum threshold» Disaggregated payment threshold: companies disclose on the basis of specific types of payment being above a minimum threshold» Unilateral government disclosure: government discloses all payments by all companies, requiring a threshold to be set (either aggregated or disaggregated along the lines described above) for companies Apart from the question of revenue thresholds defining who reports and who does not, it should be noted that the Guidance Note does not take a view on whether aggregated or disaggregated EITI reporting is preferable i.e. whether the reconciliation report should include either company-by-company reporting information, or, at another level of disaggregation, project-by-project data, or whether aggregated reporting i.e. company information is recorded only in summary form not broken down into individual companies is sufficient. In the EITI Rules, EITI Requirement 9(c)v. merely notes that the MSG should agree the degree of aggregation or disaggregation of data in the EITI Report.

11 EITI in : Scoping Study However, if we take the principle that the best possible level of transparency is the highest amount of transparency, good practice would indicate that a disaggregated approach is favorable over aggregated data, and furthermore, that project-by-project data is more favorable than company-by-company data. While the EITI Rules do not explicitly state this position as good international practice, section 9(h) notes, Multi-stakeholder groups are encouraged to explore opportunities to include additional information in their EITI reports that will increase the comprehensiveness of EITI reporting and public understanding of revenues and encourage high standards of transparency and accountability in public life, government operations and in business. A strategy of year-on-year greater levels of transparency would therefore seem to indicate the following approach to disaggregation: Figure 1 Recommended materiality strategy As the World Bank s publication, Implementing EITI: Applying Early Lessons from the Field points out, The experience of a number of countries as observed by the World Bank Group is that the countries with more extensive EITI programs have produced higher quality EITI reports and have tended to benefit more from EITI in the long run. More EITI information, as long as it is presented in an understandable manner, is ultimately better Validation Report The Validation Report was published in August 2010 under the 2009 version of the EITI Rules. Therefore, two of the most significant changes in the landscape since the time of the report s publication are a) the 2010 Subsoil law in and b) the introduction of new EITI Rules in In the new version of the EITI Rules, the question of reporting templates and the definition of materiality (what was Indicator 9 in the 2009 version of the Rules becomes Requirement 9) have been substantially updated. The Appointed Validators were Hart Nurse Ltd. The Validation report gives a useful overview of the extractive sector in as well as a concise history of EITI implementation in, which is continued in more detail in the second section Progress Against the Country Work Plan. Validation Report Indicator 7, 7 Are Companies Engaged in the Process? does not mention any potential barriers due to the confidential nature of PSAs and states that the indicator is met. At the time of the Validation Report being written, the 2010 Subsoil law had not yet been passed. On Indicator 9, 9 Have Reporting Templates Been Agreed, the Validator notes that A prerequisite for the design of reporting forms is a clear understanding of the various benefit streams, their source and destination and how they are monitored and managed. It is evident from discussion with stakeholders that the NSC has a general understanding of this issue. Details about the precise way in which the streams are received by government and accounted for were lacking. The report suggests that one reason why the NSC has limited visibility of all the benefit flows is because of the confidentiality of the agreements. The Validation Report also notes the issue of dividend payments from the subsidiaries of the state-owned oil and gas company KMG had not been resolved and are not included in the templates. This issue has been addressed in the TOR for the 2010/11 reconciliation reports, with a list of payers and recipient s outlined in Section F below. On sub-national payments, the Validator notes, Sub-national payments (with the exception of local taxes) are not included in the reporting forms. The NSC does not possess data as to the magnitude of company benefit streams to sub national government. It is also unclear whether such benefits are delivered in kind or in cash as different companies report about different modalities. Section C.4 below lists all the benefit streams from companies to government at the sub-national level. On Indicator 11, Has the Government Ensured All Companies Will Report? the Validator describes the passage from a voluntary framework centred on a MOU to 2010 Subsoil legislation. The Validator s opinion is that the 2010 Subsoil law is not retrospective and therefore cannot be applied to licences signed prior to the enactment of the law; in effect, the PSAs are grandfather clauses that apply over and above the 2010 Subsoil law. The Validator notes however that the most significant of the legacy companies do already participate in EITI (via confidential waivers issued on request by the government), and that if these companies enter into new licences, they will become subject to the new law. 7

12 On Indicator 12, Has the Government Ensured That Company Reports Are Based on Audited Accounts to International Standards, the Validator notes that in the 2005 report, there was no requirement that company data was in conformity with international auditing standards, whereas the reporting templates included a tick box to indicate whether an audit has been carried out. The Validator was satisfied that progress was being made by the NSC in ensuring that company reports are based on data audited to international standards, but recommended that the NSC carry out further work to ensure that there is full compliance with EITI Criterion #2. On Indicator 13, Has the Government Ensured That Government Reports Are Based on Audited Accounts to International Standards, the Validation Report recounts the work of the government s Accounting Committee under the Presidency, and notes that it is unlikely that its reports are not based on data audited to international standards. As the Validator notes for Indicator 9 in relation to government reports, The NSC has not given attention to comparing the reasonableness of the EITI reports compared to the government s published financial information Relevant Recommendations of the Validation Report Section 5 of the Validation Report provides a set of recommendations on how to improve the implementation of EITI in. The relevant recommendations for the purposes of this report are:» On the MOU/NSC guidelines. On page 51 of the Validation Report, the Validator notes that the NSC Guidelines have superseded the MOU. This observation is incorrect. Companies cannot sign up to a set of guidelines; meanwhile, the 2010 Subsoil law refers to the EITI MOU twice: (in article 50 (subsection 3.8) and article 76 (subsection 6))» Creating an Extractive Sector Companies list. The Validator recommends, A list of legal entities, which are potentially covered by the EITI, should be reconsidered. The list should be checked and aligned with the license holders registration data maintained by authorities. This Scoping Study addresses this recommendation, however, Section I below gives more details on a recommended reporting process» On financial flows. The Validator recommends that the NSC research in greater detail the mechanisms by which financial flows reach the government. It would be useful if the NSC were to publish a schematic diagram of the flows, showing the nature of each flow and its routing through the payments system. Section C addresses this recommendation» On the quality of company data, the Validator makes two suggestions.» That the companies might be asked to confirm that the data they provide on the reporting forms is taken from books and records that formed the basis of their financial statements that were audited in accordance with international auditing standards» That companies might be asked to request their auditors to confirm that the data on the reporting forms is consistent with the financial statements on which they reported» On the quality of government data, the Validator makes two recommendations» That the NSC obtains a better understanding of the procedures employed by the accounting committee and specifically ask about the degree of assurance that the accounting committee is able to provide in relation to revenues from extractive sectors, especially as to the completeness of recording of income. The NSC should consider the implications of the response in relation to the reliance that may be placed on the government reporting forms» That the NSC considers how national audit arrangements can be better focused to support the data required for EITI. We recommend that the NSC explore the possibility of making use of existing audits for EITI purposes Reconciliation Reports There have thus far been five reconciliation reports undertaken on the extractive sector in. Each report has been disaggregated by benefit stream (or revenue type), but not by company or project. The key findings are as follows 1. 1 The table data was created using the report comparison tool here: 8

13 EITI in : Scoping Study 2005 Report 2006 Report 20 Report 20 Report 2009 Report Payments by Companies, US$ Received by the Government, US$ 2,581,950, ,924,340, ,522,570, ,678,200, ,976,880, ,588,890, ,942,830, ,522,570, ,678,200, ,728,880, No. reporting companies Publication date of November 20 November 20 April 2010 April 2010 May 2011 Exchange rate (Tenge to US$) Reconciling company Deloitte Inaudit UHY Sapa- Consulting UHY Sapa- Consulting UHY Sapa- Consulting Table 1: Previous Reconciliation Reports 2.4. International Secretariat Review The EITI International Secretariat produced a review of EITI implementation in (completed in February 2012), stating its position with respect to the four key remedial issues set by the EITI Board following on from publication of the Validation Report. The International Secretariat s position can be summarised as follows: Remedial Issue #1: the NSC should agree a clearer definition of materiality. While the NSC has proposed a materiality threshold which it assumes will cover all large taxpayers in the extractive sector, its proposed threshold is not based on a comprehensive analysis of all payments to the sector. Independent analysis of the 2009 report based on data supplied by the Ministry of Finance suggests that US$938,936,660 of payments from extractive companies to government were not disclosed in the report. Given that the government did not unilaterally disclose all receipts from non-reporting companies, it is impossible to establish whether the missing data would have materially affected the report. The International Secretariat s conclusion is that there is insufficient evidence to demonstrate that the remedial action requested by the Board has been completed. Remedial Issue #2: the NSC should clarify its response for coverage of dividend payments to local and al authorities and payments by companies to sub-national government for the 2009 and subsequent reports. The NSC has clarified that all sub-national tax and non-tax payments are reported by companies and all sub-national receipts are captured by the Tax Committee at national level via a unified national system. Meanwhile, dividends from state company profits are not paid to the government and therefore not available for reconciliation through the EITI. The International Secretariat is therefore satisfied with the post-validation update from the NSC, but seeks additional clarification on payments and revenues at sub-national level, as well as more analysis of dividend payments to stateowned entities. Nonetheless, the International Secretariat is satisfied that the remedial action has been completed. Remedial Issue #3: the NSC should increase company participation in the EITI process, ensuring that all companies whose data is materially significant report. The effects of the new Subsoil law is noted, as is the NSC position that, contrary to the Validation Report, the law applies to both new and existing contracts holders, ensuring that EITI reporting is mandatory. The Review notes the suggested integration of License Contractual Conditions (LCC) reporting with EITI reporting and efforts to increase industry association membership on the NSC. For these reasons, the International Secretariat considers that this remedial action has been satisfied. Remedial Issue #4: the NSC should agree a detailed and time-bound strategy for ensuring that both company and government reports are based on audited accounts to international standards. The reconciler for the 2009 report noted that 78 out of the 123 companies that reported did so on the basis of data derived from accounts audited to international standards. On government reporting via the Accounts Committee, the NSC states that the Annual Report complies with five separate sets of international auditing standards. The International Secretariat s view however is that a detailed and time-bound strategy for ensuring EITI data reflects international auditing standards, and that companies 9

14 will be required to prove their completed EITI templates are based on adequately audited accounts on the one hand, and on the other, that the Annual Report produced by the Accounting Committee is backed up by an audit report that is in accord with international standards. The conclusion is therefore that this issue has yet to be fully resolved NSC Minutes There are two occasions in recent NSC Minutes where a discussion of materiality is noted. 1. During the meeting on April 11 th, 2011, the Geology Committee agreed to submit a list of all subsoil contracts, which would include Licence Contracting Reporting (LCC/LKU) and thereby enable the NSC to be able to define an appropriate materiality threshold. 2. On May 12 th, 2011, following on from an analysis of LCC/LKU data prepared by NSC member Krivodanov, a materiality threshold of US$200,000 for oil and gas companies and US$100,000 for mining companies. It was also agreed that companies already participating in EITI whose payments to government lie below the proposed threshold should nonetheless still report, but their data will not be reconciled with government data Implementing EITI: Early Lessons from the Field The TOR recommended that Chapter Three and Chapter Seven of the World Bank publication, Implementing EITI: Early Lessons from the Field (20) are reviewed as part of this report. Although this book is now four years old and EITI implementations have matured in many countries, it still contains valuable advice for MSG members that is still highly relevant, despite the updated set of EITI Rules. Chapter Three provides a broad outline of key scoping considerations (whether the EITI report should be a simple reconciliation or a full audit; setting the materiality level; agreeing on the degree of aggregation/disaggregation of data; assessing subnational payments and whether to include other sectors). The chapter usefully notes the differences between EITI reporting for Oil and Gas and EITI reporting for Mining and ends with a discussion on ways in which core EITI can be extended in the direction of EITI Plus. Chapter Seven explores the production of an EITI report, noting the key elements of a typical reconciler/auditor TOR as well as outlining a typical reporting process who does what and at what point in the reporting process. The key issues that should be considered in the production of reporting templates are also dwelt on. The chapter finally examines the key follow-up activities that should take place after production of the first draft of the report, such as resolving discrepancies that occur and how the final report should be presented. 3. Additional Documents Reviewed In addition to the documents reviewed above in line with the requirements of the TOR, the following key documents were also reviewed The Independent Report The International Secretariat Review (1.4) draws on data provided by the Ministry of Finance (sent to the MOG on 18 th January 2012), which suggested that US$938,936,660 of payments from extractive industry companies were not disclosed in the 2009 report. The report notes first of all that the NSC has not provided data on the total payments to government from the extractive sector in 2009, nor has it been possible to get a list of non-participating companies. This lack of information means that it is not possible to determine whether there are any material (i.e. significant) omissions from the report. The Independent Report then notes that there are five companies that are MOU signatories that did not participate in the 2009 Report, providing the following cursory explanation:» Kazpolmunay LLP and Tolkynneftgas LLP had terminated activities and did not conduct any activity in It is unclear when activities were terminated.» Kazakhturkmunay LLP believes it is not a signatory of the MoU. The company is listed as a signatory in 20 and 2009, and participated in the 20 reconciliation.» Marcel Petroleum LLP had not commenced operations.» United Chemical Company LLP did not have a subsoil use contract. The Tax Committee s website shows that for 2009, total payments from these five companies to government was KZT42,659,800,000 [US$ ] 2.3% of total government revenues disclosed in the report. 10

15 EITI in : Scoping Study Company KZT US$ Kazakhturkmunay LLP United Chemical Company LLP Marcel Petroleum LLP Kazpolmunay LLP Tolkynneftgas LLP Total Table 2: Five Companies Missing from the 2009 Report In addition, the Ministry of Finance identified a further six companies who are not MOU signatories who did not report in 2009, with a total of KZT97,480,000,000 [US$ ] in payments to government which were not reported in the 2009 EITI Report. Company KZT US$ JSC Turgai-Petroleum LLP 'Joint Venture Kuatamlonmunay' JSC 'SGGPO' JSC 'SC Kazakhaltyn' JSC UMZ JSC UK TMK Total Table 3: Six Additional Companies Missing from the 2009 Report Adding the total payments from all eleven companies (five MOU signatories, and six non-signatories), it appears that a total of US$938,936,660 of payments were not reported or reconciled in the 2009 EITI Report January 2012 Letter to EITI International Secretariat In January 2012, the NSC wrote to the EITI International Secretariat to respond to the draft version of the Secretariat Review, which included a summary of the findings of the independent analysis (2.1 immediately above). In terms of responding to the question of material omissions in the 2009 report, the letter stated that of the MOU signatories that did not report:» Kazpolmunay LLP and Tolkynneftgas LLP had terminated activities and changed locations.» Kazakhturkmunay LLP is not in fact an MOU signatory» Marcel Petroleum LLP had not commenced operations under its subsoil use contract» United Chemical Company LLP did not have a subsoil use contract 11

16 Of the remaining six companies who did not report, the letter clarified that all but two of the companies were not MOU signatories in 2009 and were therefore not mandatorily required to report (as participation in EITI was voluntary at the time). However, the letter did acknowledge that two companies, JSC Turgai-Petroleum and Karakudukmunai Ltd contributed more than 1% of total revenues in Turgai-Petroleum is not an MOU signatory, whereas Karakudumunai is a signatory. It is not clear why Karakudumunai is mentioned at this point, because this company is not referred to as one of the eleven companies in the Independent Report. The letter goes on to explain that for subsequent EITI reconciliation reports, participation will be mandatory for all companies, and proposes the threshold limits for oil and gas and mining for the 2010 and 2011 reports Subsoil Law The 2010 Subsoil Law (enacted on June 24 th, 2010) amongst other things introduces the requirement of mandatory reporting for companies with subsoil licences, and integrates core aspects of EITI implementation. In effect, the Subsoil Law shifts EITI from being a voluntary framework in to a mandatory framework. The question is, whether this mandatory framework applies equally to pre-existing as well as new licences The EITI MOU in the Subsoil Law The EITI MOU is referred to at two points in the Subsoil law: Article 50, subsection 3.8 A bid shall contain obligations related to the accession to the Memorandum of Understanding with respect to the implementation of the Initiative on Transparent Performance of Extractive Industries in the Republic of prior to the signing of a contract, except for the bids for obtaining the subsurface use right with respect to commonly occurring minerals and underground water. Article 76, subsection 6 The subsurface user shall follow the terms of the Memorandum of Understanding relating to the implementation of the Extractive Industry Transparency Initiative in the Republic of, with the exception of contracts for ground waters and commonly occurring minerals EITI Reporting in the Subsoil Law Meanwhile, on reporting for EITI, Article 76, subsection 1.22 states The subsurface user shall submit reporting documents, which shall be confirmed by an audit report, in compliance with the requirements set forth in the Extractive Industry Transparency Initiative and in accordance with the procedure approved by the Government of the Republic of Another section of the law relevant for the purposes of this report is Article 8, which addresses the question of confidentiality, and states that the Transfer of information, which is recognised by the parties as confidential, to state bodies, the Parliament of the Republic of and local representative bodies shall not be treated as a breach of confidentiality. In a similar vein, Article 78 subsection 3 notes, Information pertaining to the performance of contract obligations with respect to content, planning and performance by the subsurface user of the procurement of goods, work and services as well as the costs of training of specialists and costs of social and economic development of the and its infrastructure is not confidential. Both Articles 8 and 78 therefore do not sit in tension or potential conflict with EITI reporting as outlined in Article Summary of the Implications of the Subsoil Law on EITI in What is clear from the Subsoil Law is that all new contracts compel the signing company to sign the MOU prior to the signing of a contract. It is not explicitly stated however whether pre-existing contracts (including PSAs) must now, under the new law, sign up to the MOU; Article 76 subsection 6 may be a matter for legal discussion. In terms of PSAs signed prior to the Subsoil Law, again, it is not explicitly clear whether the relevant companies who have not signed the MOU are now compelled to report under EITI. Again, under subsection 22, it is not explicitly clear whether pre-existing contracts (including PSAs) must now report under EITI. This question may require further clarification by the Government of to rule out any ambiguities or misinterpretation. At no point in the Subsoil Law is the question of companies reporting according to international accounting standards raised, however, Subsoil users are required to follow international standards via the Accounting Law. 12

17 EITI in : Scoping Study Subsoil Bylaw- Resolution of the Government of the Republic of 117 dated February 10, 2011 The Subsoil Bylaw - Resolution number 117 of the Republic of - was approved in February This bylaw is effectively the regulations for the Subsoil Law passed in The bylaw s main purpose is to outline the reporting obligations of extractive companies, which are known as Licence Contract Conditions (LCC or LKU in direct translation from the Russian acronym). The bylaw contains two annexes, which are the LCC/LKU reporting templates for mining and oil and gas (Annex E and F of this report). The bylaw requires quarterly reporting from all subsurface users, however, as with the Subsoil Law itself, it is not explicitly clear whether this reporting requirement covers all subsoil contracts holders including both standard and PSA-based contracts signed prior to the enactment of the Subsoil law. Unlike the Subsoil Law, there is no mention of EITI in the Bylaw. The LCC/LKU benefit stream data that must be reported on is as follows:» Corporate income tax» Other taxes and fees» Bonuses» Share of the Republic of in the previously concluded agreements (contracts) on production sharing» Severance Tax (Royalties)» VAT» Excess Profits Tax» Signature bonus» Social Tax» Commercial discovery» Vehicle Tax» Payments to reimburse historical costs including acquisition of geological information» Customs Duties» Non-tax payments» Environmental pollution payment» Fines and penalties» Lease of land, subsoil See section C5.1 below for an analysis of which LCC/LKU benefit streams were included in the 2009 report and which were not. As with the Subsoil Law, there is no mention of international accounting standards in the bylaw Reinvigorating s EITI Process The Policy Advisory Group prepared a discussion paper, Reinvigorating s EITI Process in June This paper gives a narrative of progress on implementing EITI in, and provides practical recommendations on the way forwards. Among these recommendations is a proposed new structure for the EITI Secretariat, with four full-time staff. The paper suggests a new Work Plan, which will facilitate a successful outcome for validation by August Finally, the paper stresses the need for a timely reconciliation of 2010/11 data, with reports from both companies and governments based on audits, which are international in standard. 13

18 C. Extractive Sector Revenue Streams in 1. Introduction There are two main fiscal regimes for oil and gas in, a tax and royalty system and a production sharing system. Taxes and royalties are paid in cash. Government equity investment can yield dividend income. During the validation mission, the Validator was informed by the Chair of the Ministry of Finance Tax Committee that, under the production sharing arrangements, the operators / taxpayers sell the government s share of production and remit the proceeds to the account of the government. The classification of benefit streams as revenue flows into different locations set out below was determined by comparing the list of benefit streams in the 2009 EITI Report with a letter from the NSC to the EITI International Secretariat in January 2012 (which included a list of payments received by local government) as well as with a table of payments to the National Fund received from The Tax Committee.. 2. Revenue Flows to the National Fund Payment type Reported in 2009 (benefit stream number in report) Corporate income tax Reported (1) Withholding corporate income tax (local companies) Reported (1) Withholding corporate income tax (foreign companies) Reported (1) Excess Profit Tax Reported (9) Bonuses Reported (10) Income tax on mineral extraction from petroleum sector companies (royalty) Reported (11) Rent tax on exports Government take of PSA Reported (8) Government take of PSA Reported (12) Additional payments under PSA Reported (13) Fines and penalties levied by central government authorities on petroleum sector companies Not Reported Fines and penalties levied by various state organisations on petroleum sector companies Funds received by subsoil users on the basis of claims for indemnification by oil sector organisations Other non-tax receipts from oil sector organisations Not Reported Not Reported Not Reported Proceeds from the sale of agricultural land Not Reported Table 4 14

19 EITI in : Scoping Study 3. Revenue Flows to the National Budget Payment type Reported in 2009 (benefit stream number in report) Custom fees and excises Reported (7,21, 23) Other taxes on international trade/operations Reported (22) VAT on imports Reported (24) VAT on imports from Russia Reported (25) RF Spectrum Use Reported (16) Land rental charge Reported (17) Other fees and payments to the budget Reported (19) Table 5 4. Revenue Flows to Local Government Payment type Reported in 2009 (benefit stream number in report) Personal income tax Reported (2) Social tax Reported (3) Property tax Reported (4) Transport/vehicle tax Reported (6) Land tax Reported (5) Surface water fee Reported (14) Environmental emissions/pollution fee Reported (18) Fee for forest resources Reported (15) Fee for use of specially protected natural areas Fee for visual advertising on public roads Public road toll Dividends on state shares owned by local government Not Reported Not Reported Not Reported Not Reported Table 6 Note: Dividend payments on government s take do not go to the National Fund, the Budget or to Local Government (therefore benefit stream number 20 not reconciled against government receipts in the 2009 report). 5. The Unreported Benefit Streams 15

20 As the above analysis shows, there are currently nine benefit streams from companies to government, which were not captured in the 2009 EITI Reconciliation Report. Without any access to sample data, it is hard to verify whether these missing benefit streams would materially affect the report in any way. Two of the benefit streams to local government fees for visual advertising on public roads and public road tolls are likely to be materially insignificant. However, dividends on state shares owned by local governments may be materially significant. Again, payments to the National Fund, such as fines and penalties levied by central government and state bodies, as well as funds received by subsoil users on the basis of claims for indemnification by oil sector organisations and other non-tax receipts from oil sector organisations may be materially significant and were not included in the 2009 report. However, proceeds from the sale of agricultural land is not relevant to the extractive sector and should not be assessed in terms of EITI reporting. In which case, the following five benefit streams should be included in 2010/11 and future EITI reports in : Payments to the National Fund» Fines and penalties levied by central government authorities on petroleum sector companies» Fines and penalties levied by various state organisations on petroleum sector companies» Funds received by subsoil users on the basis of claims for indemnification by oil sector organisations» Other non-tax receipts from oil sector organisations Payments to Local Government» Dividends on state shares 5.1. Licence Contract Condition Reporting Requirements The 2011 Bylaw to the 2010 Subsoil law includes two appendices, which are reporting templates for the mining sector and hydrocarbon sector respectively. The right hand column in the table below lists those benefit streams, which are a condition of Contracts, which were nonetheless not included in the 2009 Report. Included in 2009 EITI Report Corporate income tax Bonuses Not Included in 2009 EITI Report VAT. There are different budget codes for each form of VAT, each treated as a separate VAT tax. While VAT on imports is included (Codes & in the report), internal VAT is not paid by extractive companies as their products are exported. However, currently not included in the report is VAT for nonresidents. Socio-economic development of the and its infrastructure development Severance Tax (Royalties) Excess Profits Tax Social Tax Vehicle Tax Customs Duties Environmental pollution payment Lease of land, subsoil Other taxes and fees Share of the Republic of in the previously concluded agreements (contracts) on production sharing Signature Bonus and Commercial Discovery 16

21 EITI in : Scoping Study Payments to reimburse historical costs including acquisition of geological information Non-tax payments (various types of fees, dues and fees included- these are non-tax payments) Table 7: EITI vs. LCC/LKU Reporting Given that VAT is typically not included in EITI reports, including VAT for non-residents is not an essential requirement and may be left out of the 2010/11 and future reports Social Investment Payments from Companies The Validation Report notes the potential magnitude of investments made by companies to social developments of the s and local infrastructure: Civil Society organizations have argued for the addition of other benefits to the template, namely: social investments made by companies, company contributions to local good causes. They argue that the amounts involved are significant, which they judge from the nature of projects that companies advertise that they are undertaking for the community (an oil company reported annual investments of US$ 21 million in local infrastructure and community development in the of its operation). See Section H5.1 for how the Draft TOR for the 2010/11 reconciliation report proposes to capture social payments. 17

22 D. Materiality Analysis 1. Introduction As we have seen, the EITI Rules define materiality as follows: A revenue stream is material if its omission or misstatement could materially affect the final EITI report. In this section, we assess how the EITI in proposes to define materiality in the 2010 and 2011 reconciliation reports. The proposal (as outlined in the 2010/1 TOR) is to define materiality in terms of a minimum value of payments to government. This is one possible way of defining a materiality threshold; the other is in terms of the size of the company (for example, a minimum annual revenue size). As we saw in section B2.5 above, on May 12 th, 2011, the NSC recommended a minimum threshold of US$200,000 in payments to government for oil and gas companies, and US$100,000 for mining companies. The purpose of this section is to validate these proposed thresholds in terms of the percentage coverage of the entire sector (using data supplied by MINT for both 2010 and 2011), determining whether, if the reconciliation reports were based on these thresholds, would any materially significant data be omitted. In the final version of this report, the analysis was based on company data that assessed companies on the basis of the aggregate of their subsoil objects, rather than on simply the subsoil objects themselves. Annex A and B highlight MOU signatories in green-shaded rows. The aggregated tax data for each subsoil object include all relevant benefit streams stated in the Subsoil bylaw: royalties, corporate tax, signature bonus, excess profit tax and so on (all the payments listed in C5.1 above). 2. Analysis of Payments to t Government Payments to Government Annex A contains the 2010 payment figures for all companies operating in the oil and gas sector in, whereas Annex B contains the 2010 payment figures for all mining companies operating in. The payment figures aggregate all benefit streams reported under LCC/LKU reporting obligations Oil and Gas Payment Analysis In 2010, there are 263 oil and gas subsoil objects listed, of which 74 subsoil objects payments were below the proposed US$200,000 threshold. TOTAL revenue from oil and gas subsoil objects US$ 14,048,981, TOTAL revenue below the proposed threshold US$ 2,470, Proposed materiality threshold as % of total 99.98% Table 8: Oil and Gas Materiality Threshold 2010 Therefore, this study confirms that on the basis of the information supplied by MINT, the proposed threshold of US$200,000, covering 99.98% of the total contribution from oil and gas companies to the government will provide adequate material coverage of the sector for the 2010 EITI reconciliation reports in Mining Sector Payment Analysis In 2010, there are 400 mining subsoil objects listed, of which 246 subsoil objects were below the proposed US$100,000 threshold. TOTAL revenue from mining companies US$ 1,724,305, TOTAL revenue below the proposed threshold US$ 2,375, Proposed materiality threshold as % of total 99.86% Table 9: Mining Materiality Threshold

23 EITI in : Scoping Study Therefore, this study confirms that on the basis of the information supplied by MINT, the proposed threshold of US$100,000, covering 99.86% of the total contribution from mining companies to the government will provide sufficient material coverage of the sector for the 2010 EITI reconciliation reports in Payments to Government Annex C contains the 2011 payment figures for all companies operating in the oil and gas sector in, whereas Annex D contains the 2011 payment figures for all mining companies operating in. The payment figures aggregate all benefit streams reported under LCC/LKU reporting obligations. It should be noted that in accordance with Government Resolution 117 of , the LKU reports are completed in the national currency, millions of tenge in the oil and gas and thousands of tenge for the mining sector. For the payments in USD the average exchange rate of KZT against USD used, officially established by the National Bank of, for example in 2011, U.S. $ 1 = tenge Oil and Gas Payment Analysis In 2011, there are 243 oil and gas subsoil objects listed, of which 78 subsoil objects payments were below the proposed US$200,000 threshold. TOTAL revenue from oil and gas subsoil objects US$ 22,102,513, TOTAL revenue below the proposed threshold US$ 1,446, Proposed materiality threshold as % of total 99.99% Table 10: Oil and Gas Materiality Threshold 2011 Therefore, this study confirms that on the basis of the information supplied by MINT, the proposed threshold of US$200,000, covering 99.99% of the total contribution from oil and gas companies to the government will provide sufficient material coverage of the sector for the 2011 EITI reconciliation report in Mining Sector Payment Analysis In 2011, there are 384 mining subsoil objects listed, of which 160 subsoil objects were below the proposed US$100,000 threshold. TOTAL revenue from mining subsoil objects US$ 2,180,047, TOTAL revenue below the proposed threshold US$ 2,928,1.84 Proposed materiality threshold as % of total 99.87% Table 11: Mining Materiality Threshold 2011 Therefore, this study confirms that on the basis of the information supplied by MINT, the proposed threshold of US$100,000, covering 99.87% of the total contribution from mining companies to the government will provide sufficient material coverage of the sector for the 2011 EITI reconciliation reports in. 19

24 E. Recommended List of Reporting Entities 1. Total Number of Reporting Entities Contrary to both the Validation Report and the Secretariat Review, there are not over 800 potential commercial reporting entities in. In 2010, there were 398 potential commercial reporting entities involved in the extraction of hydrocarbons or solid minerals (with a total of 663 subsoil objects), whereas in 2011, there were 384 potential commercial reporting entities (with a total of 627 subsoil objects). The remaining subsoil user contracts concern extraction of common minerals (building materials, sand, clay, etc.) as well as underground water and mud and are not therefore relevant for the purposes of an EITI Scoping Study. 2. Recommended Reporting Entities for 2010/11 EITI Reports The report identifies 92 oil and gas companies (with a total of 189 subsoil objects) whose tax payments to the government in 2010 was more than US$200,000 (see Annex A) and 77 companies (and 165 subsoil objects) above this threshold in 2011 (see Annex C). The report also identifies 102 mining companies (with a total of 224 subsoil objects) whose tax payments to the government in 2010 were more than US$100,000 (see Annex B) and 118 companies (with a total of 224 subsoil objects) above this threshold in 2011 (See Annex C). It should be noted that among those companies that have yet to sign the MOU, there are those that are still in exploration or have yet to fully transition to production. While the 2010 subsoil law ensures that all new companies must report, it has no such explicit guarantee for pre-existing contracts. In fact, Articles 50 and 76 of the 2010 Subsoil Law have no retroactive force over contracts that contain stability clauses. For those companies who are in production and yet to sign the MOU, it is strongly recommended that the EITI Secretariat reach out and encourage them to do as soon as possible. The same exercise should be carried out for additional non-signatory subsoil objects above the threshold in This will end any uncertainty over whether these companies should comply with EITI reporting requirements. In addition, these companies should be targeted in terms of EITI awareness as well as providing specific technical training on completing company templates Production Sharing Agreements (PSAs) Based on data supplied by both MOG and MINT, these are the current PSA contracts in :» TOO TCO Operating Company (Tengiz)» KPO (Karachaganak Petroleum Operating Company)» Agip KCO (now known as NCOC Operating company)» JV Zhaikmunai» Maersk Oil GmbH (Dunga)» TOO Potential Oil (not signed the MOU)» TOO Adai Petroleum Company» LLC Kurmangazy Petroleum (not signed the MOU)» TOO "TCO" (the Royal)» JSC NC KMG» Tub-Karagan Operating Company BV (not signed the MOU)» TOO Zhambai (not signed the MOU)» Maersk Oil GmbH (Temir)» TOO Sagiz Petroleum Company (not signed the MOU)» TOO Prikaspian Petroleum Company (not signed the MOU)» Saiga BV 20

25 EITI in : Scoping Study» KaspiyMeruerty BV As the list above indicates, there are currently seventeen PSAs signed with government. Seven of the companies with standalone PSAs in have yet to sign the EITI MOU. Given that PSAs take precedence over the Subsoil law, these seven companies are not obliged to report under EITI. Again, the EITI Secretariat is encouraged to ensure that all seven companies sign the MOU, in advance of the 2010/2011 reporting process commencing. Of the PSAs, there are three Operating Companies that have PSAs in a consortium with IOCs: Operating Company KPO (Karachaganak) Consortium partner BG (signed MOU) Eni (signed MOU via Eni-Agip KCO) Lukoil (signed MOU) TCO KMG (signed MOU) Chevron (signed MOU) NCOC (formerly Eni Agip KCO ) Eni (not signed MOU) Agip (signed MOU) Shell (signed MOU) ExxonMobil (signed MOU) ConocoPhillips Total Inpex KMG Table 13: Operating Companies in 3. Operating Companies Operating companies are obliged to calculate and remit taxes to the government on behalf of the members of their consortium. In the 2009 EITI Report, both the operating companies and the subsoil users provided data for the reconcilers (even though operating companies do not have subsoil contracts), however, the government did not provide completed templates on the individual companies, only on the operating companies. In the TOR for the 2010/11 reports, both the consortium members for each of the three major operating companies and their subsoil contract holding members will be required to complete EITI templates, and the government must provide receipt-based data on both. 4. MOU Signatories Below the Proposed Threshold For MOU signatories whose benefit streams to government lie below the proposed thresholds, the NSC may encourage participation, but with no requirement or obligation to do so. If such companies do submit data, this data could be published but not considered part of the formal reconciliation exercise. 21

26 F. List of Dividend Payers and Recipients 1. Introduction Clause 7.1 C of the TOR requires the appointed reconciler to assess payments and receipts for dividends from stateowned companies. Attachment 11 of the TOR provides a table, which should be completed as part of this scoping study. This will facilitate the reconciliation of dividend payments in Section III of the 2010/11 Report. Based on feedback on the draft report, this table will now be completed during the reconciliation exercise. 2. Completed Attachment 11 of the 2010/11 TOR Payers RNN/BIN Beneficiaries RNN/BIN 1 JSC KazMunayGas JSC Sovereign Wealth Fund Samruk-Kazyna 2 JSC Kazatomprom JSC Sovereign Wealth Fund Samruk-Kazyna 3 JSC Kazakhmys PLC JSC Sovereign Wealth Fund Samruk-Kazyna 4 JSC EP Kazmunaygas JSC KazMunayGas JSC OOC KazMunayTeniz JSC KazMunayGas LLP Kazakhoil-Aktobe JSC KazMunayGas LLP Kazakhturkmunay JSC KazMunayGas LLP Tengizchevroil JSC KazMunayGas JSC KazMunayGas JSC JV Akbastau JSC NAC Kazatomprom LLP APPAK JSC NAC Kazatomprom LLP Baiken-U JSC NAC Kazatomprom LLP JV Inkai JSC NAC Kazatomprom LLP JV KATKO JSC NAC Kazatomprom JSC NAC Kazatomprom ENRC PLC JSC Kazakhmys PLC 17 Corporation Kazakhmys LLP 18 Corporation Kazakhmys LLP JSC Kazakhmys PLC JSC Kazakhmys PLC 22

27 EITI in : Scoping Study G. EITI Requirements for International Accounting Standards 1. Introduction Both the Validation Report and the EITI International Secretariat s review highlighted the issue of EITI data in being based on international accounting standards. It is noticeable that such standards are not mentioned either in the 2010 Subsoil Law, or in the 2011 Subsoil Bylaw. There is therefore no legal requirement that international accounting standards are used for EITI reporting (either for companies, or for government reporting entities) in. Such standards therefore remain voluntary, at least in terms of the legislation that most directly impacts upon EITI. 2. Indicator/Requirement 12 To recap on the analysis in Section B above, on Indicator 12, Has the Government Ensured That Company Reports Are Based on Audited Accounts to International Standards, the Validator notes that in the 2005 report, there was no requirement that company data was in conformity with international auditing standards, whereas the reporting templates included a tick box to indicate whether an audit has been carried out. The Validator was satisfied that progress was being made by the NSC in ensuring that company reports are based on data audited to international standards, but recommended that the NSC carry out further work to ensure that there is full compliance with EITI Criterion #2. Again, Remedial Issue #4 of the Secretariat Review states that the NSC should agree a detailed and time-bound strategy for ensuring that both company and government reports are based on audited accounts to international standards. The reconciler for the 2009 report noted that 78 out of the 123 companies that reported did so on the basis of data derived from accounts audited to international standards. Given that EITI reporting in involves a relatively large number of commercial reporting entities of varying sizes, clearly, the shift towards ensuring all reporting companies do so on the basis of appropriately audited accounts will take time. While 63% of companies reported on the basis of international accounting standards in 2009, EITI in should aim for a significantly higher percentage for 2010/11. In its letter to the EITI International Secretariat (see B3.2 above) the NSC notes that paragraph 22 of Article 76 of the Subsoil law requires subsoil users to submit reports confirmed by audit report pursuant to requirements of the Extractive Industries Transparency Initiative under the procedure established by the RK Government. Here, reference to international accounting standards remains implicit. However, the letter goes on to note that those companies that do not comply with Article 76 will have measures taken against them, with the final leverage being possible suspension or cancellation of contracts. 3. Indicator/Requirement 13 Recapping on the Validation Report, on Indicator 13, Has the Government Ensured that Government Reports Are Based on Audited Accounts to International Standards ; the Validation Report recounts the work of the government s Accounting Committee under the Presidency, and notes that it is unlikely that its reports are based on data audited to international standards. As the Validator notes for Indicator 9 in relation to government reports, The NSC has not given attention to comparing the reasonableness of the EITI reports compared to the government s published financial information. Again, Remedial Issue #4 of the Secretariat Review notes that in terms of government reporting via the Accounts Committee, the NSC states that the Annual Report complies with five separate sets of international auditing standards. The International Secretariat s view however is that a detailed and time-bound strategy for ensuring EITI data reflects international auditing standards, and that companies will be required to prove their completed EITI templates are based on adequately audited accounts on the one hand, and on the other, that the Annual Report produced by the Accounting Committee is backed up by an audit report that is in accord with international standards. The conclusion is therefore that this issue has yet to be fully resolved. In the letter to the International Secretariat referred to immediately above, the NSC states, There is no requirement in the RK legislation about auditing the government information submitted for EITI Reports. According to the RK Law About audit and audit activity the government is not subject to mandatory audit. 23

28 But this fact is not ground for the NSC to consider the government information as the information that has not been audited, and does not disturb the NSC for the following reasons. In there is a special government body the Accounts Committee the supreme audit institution, which is accountable to the RK President. This body carries out control over execution of the republican budget and payment of taxes and other mandatory payments, including payments from extractive companies submitting EITI reports. Annually before May 15 th, the Accounts Committee examines tax revenues, including taxes from extractive industry, and issues written reports to be submitted to the RK Parliament and is publicly available ( The Accounts Committee controls tax revenues according to international methodologies developed by international organizations (INTOSAI, ASOSAI, EUROSAI, ECOSAI and the Board of SAI leaders of CIS). The recent audit report of the government information for 2010 was issued before May 15 th, Subsequent 2011 report will be issued before May 15 th, Thus, the NSC considers that the data provided by the government for EITI purposes are audited by the RK Accounts Committee in accordance with international standards and is publicly available in the Annual Report of the RK Accounts Committee Requirement for company forms that: The optimum process for companies submitting their EITI templates is as follows» The completed template is signed by the Chief Financial Officer or Chief Executive Officer» The template is stamped using the company stamp» Audited financial accounts are included with the template submission» The company s external auditors sign and stamp a note which confirms that the accrual-based audited report conform to the cash-based requirement of the EITI company template and that the audited report was prepared according to international standards The above four conditions ideally should be mandatory; in other words, if a template does not include all four, it should not be considered as complete and that this requirement is established in law. However, the NSC might decide that external auditor s verification is too stringent a requirement at this stage, in which case, there will need to be discussion on how do increase assurance in the data submitted by companies that do not have audited accounts. One approach could be to undertake a limited or full audit of the nancial statements of certain reporting companies (i.e. those that have not been audited to international standards). In other countries, the reconciler is often tasked with examining supporting documentation to verify that the data disclosed is correct Requirement for government forms that: The optimum process for government agencies submitting their EITI templates is as follows» The completed template is signed by the head of the agency» The template is stamped using the organization s official stamp» The Annual Report is included along with the government templates in the submission to the reconciler» In the case of, the Accounting Committee signs and stamps a note which confirms that the government template conforms to the data included in the Annual Report, and that this report itself has been audited to international accounting standards However, as we have seen in G.3 immediately above, the Accounting Committee s Annual Report is not in fact a full audit, therefore completed templates are not based on audited financial statements that abide by international standards. One solution here is for the extractive sector data to be audited for a limited number of companies and government entities, prior to submitting to EITI as part of the annual review process. Without this enhancement, it is difficult to see how s implementation of EITI could conclusively be met in terms of requirement 13. It is important that the NSC discussions and agreements on the agreed approach to data reliability are clearly recorded and documented. 24

29 EITI in : Scoping Study H. Analysis of Draft TOR for 2010/2011 reports 1. Legal framework The TOR states that the legal basis for the preparation of the reconciliation report is as follows:» Clauses 6, 22 of Article 76 and Clause 3 of Article 78 of Law of the Republic of On Subsurface and Subsurface Use No. 291-IV dated June 24, 2010» Clause 1 of Article 557 of the Tax Code of the Republic of» Decree of the Government of the Republic of dated December 4, 2006 No On EITI Implementation in the Republic of» Memorandum of Understanding with respect to EITI implementation executed on October 5, 2005 between the Government of the Republic of, subsurface user companies and non-governmental organizations (hereinafter the MoU) 2. Reporting process The TOR outlines the roles of government agencies vis-à-vis the appointed reconciler, which can be summarised as follows: NSC: develops the TORs and reviews the draft report MINT: selects the reconciler; provides the financing; sends the reporting templates to reporting entities; gives final approval (after the NSC) on the reports and arranges for their publication Ministry of Finance collects the data on revenue receipts from its subdivisions: the Tax Committee, the Customs Committee and the Treasury, and submits them to the reconciler. Companies ( payers ): submit their completed templates to the reconciler, offering further clarifications where necessary. The Reconciler: reviews TOR and seeks clarifications where necessary; verifies accuracy of completed forms; reconciles payments against receipts, identifying and where possible explaining discrepancies. 3. Materiality Attachment 3 of the TOR defines the materiality threshold as aggregate payments to the treasury exceeding 30 million KZT for oil and gas companies (approximately US$200,000 depending on exchange rates) and 15 million KZT for mining companies (approximately US$100,000 depending on exchange rates). Attachment 3 also includes PSAs, who must report if their payments to government are above the threshold. 4. Disaggregation Section 6, Functions of the Reconciliation Participants on the role of the reconciler, indicates that the report will provide information disaggregated by benefit stream. In 7.5, the structure of the final report is outlined. Here, the TOR clarifies that Section I will contain information on each payer. In other words, the report will also be disaggregated by company as well as benefit stream. It appears that there will be unilateral government reporting in the 2010/11 Report, on the basis of the summary of Section II of the final report, as outlined in clause 7.5: Final report on unessential tax and non-tax Payments/Revenues by Subsurface users whose tax payments are recognized by the NSC as unessential. Attachment 3, chapter 1 defines essential as payments above the proposed materiality thresholds. 5. Benefit Streams Attachments 1, 3 and 5 identify 22 benefit streams that will be reported on in the EITI Report. Each benefit stream is defined in some detail in Attachments 3 and 6 of the report: 1. Corporate income tax 2. VAT 3. Bonuses 25

30 4. Bonuses: Subscription 5. Bonuses: Commercial discovery 6. Extraction tax/royalty 7. Share of the Republic of in production sharing 8. Excess profit tax 9. Social tax 10. Property tax 11. Land tax 12. Vehicle tax 13. Customs & Excise payments 14. Environmental emissions 15. Payment for reimbursement of past expenses 16. Payment for acquisition of geological information 17. Rent/Lease of land 18. Surface water use fee 19. Forest use fee 20. Radio frequency spectrum use 21. Other taxes and payments 22. Fines and penalties 5.1. Social Payments The TOR stipulates that social payments by companies to non-government entities will also be captured in the 2010/11 Report. Attachment 14 classifies the various types of social payment and requests for beneficiary information (contact name, phone number, tax identification number etc.). Meanwhile, attachment 15 Chapter 1.1 defines social payments as:..the expenses (money, goods, and services) of the subsurface users operating in oil and gas and mining sector of the Republic of within the requirements of the terms and conditions of licenses and contracts and production sharing agreements not connected with the production activity and not intended for generation of profit, aimed to satisfy the interests of public importance. Social payments for essential and non-essential (i.e. below the materiality threshold) companies will be recorded in sections 4 and 5 of the final reconciliation report International Standards Clause 9 of Attachment 3 of the TOR states, The Payer shall specify the Payment amounts in accordance with the accounting data and such amounts are subject to confirmation by the statement of the Auditor who performs audit of the Payer s operations. If there is no auditor s report or Auditor s confirmation for the tax amounts specified by the Payer, such Payer shall submit clarifications, accordingly, on the reasons of absence of audit/auditor s confirmation of the tax amounts. In other words, a statement should accompany company data from the company s auditor that the data completed in the templates is in accordance with the audited accounts. However, there is no mention at this point in the TOR whether these audited accounts should be prepared according to international standards. In terms of mention of international accounting and auditing standards elsewhere in the TOR, Section I of Attachment 2 states that the reconciler must work in accordance with international auditing standards. Again, in clause 6 of Attachment 2, the TOR states that the appointed reconciler must show which Payers/Beneficiaries have submitted the data audited according to the international audit standards. These requirements in the TOR have a legal basis. Both the law on mineral resources and the law on auditing require that audited accounts are submitted to international standards. 26

31 EITI in : Scoping Study In terms of ensuring company templates are signed off by executive management, Clause 14 of Attachment 3 states, The chief executive officer of the Payer/Beneficiary or his/her authorized representative responsible for quality and reliability of the information shall approve the Report. 27

32 I. Recommended Reporting Process 1. Issues to be addressed in the 2010/11 Draft TOR The draft TOR for the 2010/11 Report clearly defines the roles of the MOG, MINT and the Ministry of Finance in the preparation and production of the EITI Report. Together with the companies listed in Annexes A-D and provided the issue of which PSAs should report is resolved, a full list of reporting entities has been defined. However, the analysis of the draft TOR for the 2010/11 Reconciliation Report in the previous section highlighted a range of issues that require clarification by the NSC:» Approval of the reconciler. While MINT selects the reconciler, it is important that the NSC is satisfied with the selection (to fully address EITI Requirement 10)» Payments to the budget. Attachment 3 should clarify the use of this expression, and provide a breakdown of which benefit streams from companies go to the national budget, which are paid to local government, and which go to the national fund, as outlined in the analysis in Section C above» Production Sharing Agreements. The NSC should clarify which PSAs should report: all PSAs; PSAs above the proposed materiality threshold who signed the MOU; all PSAs above the proposed materiality threshold, regardless of whether they have signed the MOU or not» International Accounting Standards. Clause 9 of Attachment 3 has no mention of the requirement that company accounts must be audited to international standards. This is a significant omission at this point in the TOR that should be addressed. Meanwhile, while there is no explicit statement in the TOR of how the reconciler will ensure that government reports are based on accounts which have been audited to international standards, even though this is a requirement stated elsewhere in the TOR (clause 6 of Attachment 2). It is noted however that a legal basis for this requirement is found in the Audit Law.» Benefit streams. One potentially materially significant payment to local government identified in Section C above is missing:» Dividends on state shares owned by local government» Meanwhile, four payments to the National Fund also identified in Section C above are missing:» Fines and penalties levied by central government authorities on petroleum sector companies Funds received by subsoil users on the basis of claims for indemnification by oil sector organisations» Fines and penalties levied by various state organisations on petroleum sector companies» Funds received by subsoil users on the basis of claims for indemnification by oil sector organisations» Other non-tax receipts from oil sector organisations It is recommended that all five benefit streams are explicitly incorporated into the 2010/11 TOR. 2. Providing Guidance on Use of Templates Given the complexity of the benefit streams that must be reported in, it is vital that attention is placed on ensuring all companies (and officers in the relevant government agencies) understand the reporting requirements and benefit stream definitions. Training sessions with all companies on the reporting requirements should be organised, with a focus on companies that will be reporting for the first time as well as companies who incorrectly reported in The key areas to be addressed are:» Benefit streams/tax codes» Cash vs. accrual» Consistent treatment of voluntary social payments» Foreign exchange translation and financial year issues 28

33 EITI in : Scoping Study It may be worthwhile for the EITI Secretariat to also provide guidance material on the above issue that can accompany the training and be sent to reporting entities that do not attend the training. 3. Popular Version There is no mention in the TOR of the production of a summarised popular version of the 2010/11 report. Whether this is integrated within the TOR or subject to another contract, it is recommended that an easy-to-understand version of the report is produced with summarised data, effective use of data visualisation and so on. This will contribute to satisfying EITI Validation Requirement 18, The government and multi-stakeholder group must ensure that the EITI report is comprehensible and publicly accessible in such a way as to encourage that its findings contribute to public debate. 4. Extending the Scope in Future Reports The progression from benefit stream disaggregation to company (and individual contracts) disaggregation in the 2010/11 Report is highly commendable. The NSC should now start to consider other extensions of EITI reporting for future reports. Possible extensions in scope include:» Physical reconciliation. Reporting and reconciling volume production figures (of crude oil, or various solid minerals) enables the option of reconciling physical volumes against financial data. In which case, a reconciliation of physical volumes against financial volumes provides added depth and rigour to EITI reporting, and moves EITI reports closer towards being an audit rather than a mere reconciliation» Value-for-Money Audit. The question of how companies record the costs of extraction can itself be audited. This form of reporting helps to introduce more transparency on the question of cost recovery and the boundary between cost oil and profit oil» Process Audit. A process audit examines how benefit streams are paid, collected and redistributed. This kind of audit examines the role different government agencies play in the management and expenditure of financial flows from the extractive industry, providing recommendations for a more efficient management system» Reconciling transactions beyond exploration and production. This form of reporting would introduce other forms of transaction into EITI reporting, such as pipeline fees, refining transactions and other downstream payments/receipts 29

34 J. Remaining Issues This study has uncovered a range of issues beyond the scope of this studies TOR that should be addressed by the NSC in its next work plan and future meetings. These are summarised below:» PSAs and the Subsoil Law. The question of whether licences based on PSAs must comply fully with the 2010 Subsoil Law cannot be fully resolved in the context of a scoping study. It is recommended that a legal analysis be commissioned to review this issue and provide recommendations on ensuring there are no obstacles to EITI reporting. In particular, the question of whether stability clauses in PSAs which protect against the demands of any future legislation should be examined» At present, EITI in does not have a dedicated website, although there is information on EITI on the Geological Committee site. This should be addressed as early as possible in advance of August 2013» NSC minutes to future meetings should record discussions of materiality in as much depth and detail as possible, with supplementary analytical material considered during meetings stored for review by the appointed Validator» The NSC should consider developing an integrated management information system for EITI reporting via a webbased interface (rather than paper-based reporting). This would greatly facilitate coordination with other government agencies involved in EITI in (most notably, with the Ministry of Finance and its subdivisions) 30

35 EITI in : Scoping Study Annexes 31