The Buck Stops Here: Prestigious Far Eastern Economic Review Follows Terrorist Money To U.S. Capital Markets

(Washington, D.C.): In the war against terrorism, the Bush Administration has properly announced its determination to cut off the funding of terrorist organizations and those that provide safe harbor and support for them. According to Murray Heibert of the Far Eastern Economic Review (FEER), the U.S. is about to get a powerful new ally to help them achieve that goal: the American investment community.

The Center for Security Policy has long argued that “bad actors” such as terrorist- sponsoring governments and proliferators are, directly or indirectly, funding themselves in the U.S. capital markets. Even before September 11th, the Securities and Exchange Commission had responded to the seminal work in this field by the Center’s William J. Casey Institute by taking a number of administrative and regulatory actions to address the danger that national security concerns could represent a material risk to investors. In the wake of the terrorist attacks on this country, the possibility that American investors may unwittingly be funding these 21st century scourges has become utterly intolerable.

As noted in the exemplary FEER article by Murray Heibert, America’s fire-fighters, police officers and other patriotic American investors are understandably sensitive to the possibility that their pension funds and private portfolios might hold the stocks of companies that partner with terrorist-sponsoring regimes. In addition to this new definition of financial “moral hazard,” investors also run the risk that a publicly-traded company’s association with terrorist governments and proliferation-related concerns could depress or even “electrocute” share value.

While America’s capital markets may not yet be, as reported in the FEER, “the next battleground in the United States’ war against terror,” signs that this country’s investment community has awoken to these highly-charged political and financial risks are unmistakable.

THE SHARE MARKET could turn into the next battleground in the United States’ war against terror. And some of those hit could be highly respected Asian firms that have dealings with less-than-wholesome regimes.

In late April, a research group focusing on socially responsible investing launched a database listing companies doing business with countries supporting terrorism and developing weapons of mass destruction. Many of the firms named come from Asia, including such countries as Japan, South Korea, China, Taiwan and Malaysia. At the same time, two prominent senators have begun drafting legislation that will mandate closer scrutiny of the activities of foreign companies raising money in U.S. capital markets.

The new database, called the Global Security Risk Monitor, coupled with possible new legislation, could over time begin to knock the share prices of companies that do business with unsavoury regimes. “Any company exposed as being associated with a terror effort is going to suffer a huge reputational hit,” says Stephen Davis, head of Davis Global Advisers, which specializes in international corporate governance.

“In a world where money is fungible and portfolios are global, any barrier to investment steers money to someone else. Companies interested in global capital will have to make sure they have their house in order.”

The list of about 260 firms worldwide that have business dealings with countries involved with terrorism and weapons of mass destruction was compiled by Washington-based Investor Responsibility Research Centre. IRRC provides independent research on corporate governance to some 500 clients, including fund managers, pension funds and investment firms that control assets totalling more than $5 trillion.

IRRC and its partner, the Conflict Securities Advisory Group, which researches global security risk factors, used the U.S. Department of State’s list of regimes involved in terrorism and the Defence Department’s roster of countries involved in production of weapons of mass destruction. By their criteria, six countries were identified: Iran, Iraq, Libya, North Korea, Sudan and Syria.

IRRC used press reports and company documents to identify the firms linked to these “bad actors.” Rather than make the list public, IRRC has chosen to sell the database to subscribers at $12,500 a year. IRRC officials say that a quarter of the companies named come from Asia, while a third are European and nearly 20% come from the U.S. Energy companies dominate the list, followed by telecoms firms and financial institutions.

A quick Internet search turns up a diverse list of reputable listed companies that have dealings in the targeted countries. Japanese giants Marubeni, Mitsubishi and Tomen are partners in a consortium of firms searching for oil in Iran. Australian Oil and Gas pumps oil in Libya, while logistics firm Korea Express is taking over a large-scale water project in the North African country. PetroChina, which is listed on the New York Stock Exchange, and Petronas of Malaysia are developing oil resources in Sudan.

The developers of the database insist that they are not charging any of the companies with doing anything illegal. Most of the firms are engaged in “benign commercial activity,” the two groups said in an April press release announcing their new product. But they warn that this does not “mitigate the terrorism- or proliferation-related risk” these companies may face to their reputation or share value.

“A firm’s securities can be depressed by public charges of environmental risk, but they could be electrocuted in the case of an egregious national-security abuse,” says Roger Robinson, head of Conflict Securities Advisory Group and a former National Security Council adviser in the Reagan administration.

Some analysts expect an exodus of U.S. investment in the companies named as having dealings with the targeted regimes. “American investors may now be voting with their dollars and telling South Korean or Japanese companies that ‘you now face a different decision matrix,'” says an American fund manager, who invests in Asian stocks. “You may have a reason for doing business in these countries, but you may be punished because we’ll be less interested in buying your stocks. There will be a trade-off for doing business in those countries.”

Fund managers and analysts cite the example of the movement in the 1980s to boycott corporations involved in South Africa during apartheid. “Companies began to feel pressure to get out of South Africa,” says Davis, who edits Global Proxy Watch, a weekly newsletter. “This contributed to the fall of apartheid.” A more recent parallel is the setback to the initial public offering of PetroChina two years ago when human-rights groups in the U.S. began protesting against the company’s involvement in oil exploitation in Sudan.

IRRC officials say they developed the database, which will be updated quarterly, at the request of their clients. The group used the U.S. government’s roster of “bad actors” because these are the only comprehensive lists available. “If another country came up with a list, we’d evaluate it and consider using it for our research,” says Catherine Sheehy, director of IRRC’s corporate-benchmarking service.

Sheehy says she expects clients to use the new security-risk monitor “to get themselves up to speed on the issue of global security” and then develop their own criteria for investing.

IRRC is still waiting to make its first sale, but several potential clients are looking seriously at the new investment screen. One of those is the comptroller of New York City, who has oversight of billions of dollars of pension funds in the city where hijackers brought down the World Trade Centre on September 11. “We’re aware of the index,” says the comptroller’s spokesman, Scott Taffet. “It’s under consideration whether to buy the index.” The state of California is also said to be looking at it.

Making Terror Expensive

Pennsylvania State Treasurer Barbara Hafer, president of the National Association of State Auditors, Comptrollers and Treasurers which controls trillions of investment dollars, has repeatedly called on state governments to wage economic war on terrorism. “We need to make it expensive for terrorist groups to do business–take away their ability to launder money and to intertwine their activities with legitimate enterprises,” Hafer said in October after convening a teleconference of state officials from across the U.S.

Some private global fund managers say they would be open to developing special investment funds that exclude companies linked to terrorist supporting regimes. “[IRRC’s] data tool is potential raw material which investors and pension funds could use . . . to develop a terrorism-free benchmark,” says Steven Schoenfeld, managing director of Barclays Global Investors in San Francisco. “We would be happy to explore with our clients how such portfolios might be structured.”

Two legislative measures under consideration in Congress could put additional pressure on foreign companies operating in countries involved with terrorism and weapons of mass destruction. In mid-May, the Senate Intelligence Committee adopted an amendment, introduced by Republican Senator Fred Thompson of Tennessee, to the 2003 funding bill for intelligence agencies, requiring that they investigate whether foreign firms engaged in the proliferation of weapons of mass destruction are raising funds in U.S. capital markets. The Senate is expected to vote on the bill in the next few weeks.

A second measure intended to amend two securities exchange acts first passed in the 1930s is being proposed by Democratic Senator Robert Byrd of West Virginia. If Byrd’s amendments are passed, they would require all companies to report “each investment or transaction in excess of $10,000” in countries that are sanctioned by the U.S. Office of Foreign Assets Control. Many of the countries on this list are similar to those named in the IRRC database.

Many analysts believe that IRRC’s new database, coupled with legislative moves in Congress, could alter the landscape of global investing and prompt U.S. fund managers to unload stocks of companies active in countries involved with terrorism and weapons of mass destruction. “There will be political pressure on funds to ensure that they’re not easing the financial life of an organization that’s engaged in terrorism,” says Davis. “No fund manager in America is going to want to get caught with an article on the front page of a local newspaper reporting that his fund is invested in a company that abetted terrorism.”