Local Partner Agreement Risks
The arrangement to have a commercial agent leads to a contractual relationship between AbSub and its Middle East agent. In Azerbaijan, the government imposes above average restrictions on foreign equity ownership, implying that AbSub cannot have controlling stake in the agency agreement. Moreover, trade in and investment in security and defense is restricted.
Although the Law on Protection of Foreign Investment provides absolute and unreserved legal protection to investors, corruption renders this claim impossible to realize. Moreover, the judiciary is subject to manipulation by the ruling elite. Thus, AbSub should not expect fair legal processes.
Further, under certain circumstances, the laws of Azerbaijan must be applied irrespective of the choice of law in the contract where there is a contradiction between the laws of the contract and the laws of the Republic of Azerbaijan, or where vital practices of the country’s laws supersede foreign practices. Some obligations are based on the mandatory laws found in the constitution or passed through the referendum, and they cannot be waived or contracted away because they are considered as issues of public policy. In this case, AbSub faces unforeseen contractual risks associated with the mandatory laws considered under such agency agreements because European laws will not apply.
In addition, Azerbaijan advocates for foreign investment. However, notable disputes have been observed where foreign investors threatened the interests of well-connected or preferred local agents. In this case, the Azerbaijan agent has a brother of the trade minister of Azerbaijan on its board.
To avoid legal issues, AbSub can be accorded important status for the repatriation profits, revenues, and, other invested funds if all taxes are paid. In case of any disputes and considering the corrupt, inefficient judiciary system of Azerbaijan, AbSub should consider a Bilateral Investment Treaty by relying on arbitration, such as international arbitration bodies.
Corruption Risks
The UK Bribery Act 2010 applies to AbSub and its agent located in Baku, Azerbaijan. Corruption is rampant in public procurement, tax administration, customs administration, land administration, public services, police, and the judicial system. In 2015, Transparency International ranked the country 119 out of 168 countries. In fact, today, corruption is considered the most challenging, organized issue notwithstanding efforts from the anti-corruption agencies and other interventions by the government.
Tribal and familial connections make it much more complex to consider conflict of interests. Bureaucracy increases the cost of business and facilitation fees appear as the only methods to accomplish required paperwork. Besides, according to Ernst & Young Limited survey of 2014, bribes, specifically in the form of kickbacks, are still considered as a normal aspect of doing business in the Middle East, mostly with little thought for possible corporate reputation damages and subsequent legal consequences.
Corruption, it appears, is the key to winning business in the emerging economies. However, the agent can expose AbSub to corruption-related activities. Consequently, in the worst case, if the company is convicted for a bribery offence under the UK Bribery Act 2010, then it could be ordered to pay a sum equal to its whole earnings for the past six years and any other penalties levied under the Act.
To avoid bribery issues, AbSub should conduct due diligence and run background checks on its agent before engaging them further. AbSub should also ensure adequate procedures and frameworks in place to avert it and to avoid possible huge penalties. Additionally, it is also expected to continually enhance procedures, policies, and practices to ensure optimal compliance with the Act.
Distribution Risks
“The agreement is exclusive and has been in existence for nearly ten years”. Clearly, the Azerbaijan agent enjoys absolute monopoly for distribution within the Middle East. This poses a legal risk to AbSub because of the Abu Dhabi agent.
To avoid any legal issues, AbSub should review the exclusive dealing given to the Azerbaijan agent to either restrict the territory within Azerbaijan or introduce certain mandatory terms to protect other agents located outside Azerbaijan. Such mandatory provisions should allow AbSub to contract other agents in the Middle East region because the Azerbaijan agent cannot cover the entire region, and it lacks the expertise. Azerbaijan laws require the parties to comply with any mandatory rules to excise their freedom to structure their relationship to meet their specific needs.
Further, the contract fails to define specific areas that the Azerbaijan agent should cover. AbSub works with an agent not located in the Middle East region and lacks expertise. These are two odd issues, which present commercial risks to the company. Moreover, the Middle East area is too wide for an agent with no experience in the trade. It is precisely difficult to ascertain why AbSub chose such an agent.
Remuneration
The agent should not receive both a retainer and commission. These are two different methods of payment. With over ten years in the market, AbSub should abolish the retainer fee because it is no longer a new venture in an emerging market, and it would still have a viable representation by professional agents who do not need a retainer fee.
The Lack of Relevant Expertise
AbSub risks not getting paid for goods delivered. The agent lacks any track record AbSub’s line of business, which implies that engaging this agent as a supplier is always a high risk undertaking.
While AbSub can contract with an agent like this one, it must insist on references or other third party verifications of good standing from any other entities that have worked with the agent.
Protection of Intellectual Property
AbSub also faces intellectual property risk. The company has not sufficiently protected its products. It is imperative to recognize that enforcing such laws in the region could be difficult even if they are available.
AbSub should apply for the required trademark and other vital intellectual property rights that can be registered to protect itself in such a market.
Trade Sanctions
AbSub also faces risks associated with trade sanctions, which may affect individuals, ports, vessels, an entity or a group, or the country where the agent is located. Any breach of a trade sanction comes with massive costs to AbSub, including costs associated with fines, investigations, human capital employed, and costs required to improve controls and systems.
It should adopt a risk-based continual loop. This implies data acquired from sanction screening, controls, industry peers, internal audit, compliance audits, and some other important sources ought to be used to develop the most appropriate compliance strategies to avert related sanction risks.
Risk and Compliance Issues in Agency Agreements and AbSub’s Apparent Lack of Management
In Azerbaijan, the following risk and compliance issues are most likely to affect operations of the company.
Corruption
It is noted that political corruption is common, and it increases the cost of running business in the country. Moreover, corruption is the biggest challenge to foreign firms in the country. Corruption is rampant in public procurement, tax administration, customs administration, land administration, public services, police, and the judicial system.
Bureaucracy
Bureaucratic practices are often difficult to navigate, particularly for foreign firms. Moreover, they consume much time and are hampered by slow decision-making processes. Officials at the highest levels are responsible for making all the decisions.
The Lack of Transparency
The lack of transparency is observed in both public and private sectors, and budgeting practices are affected the most. Foreign firms are therefore advised to perform through due diligence and only work with firms that constantly comply with all audit conditions done to international standards. Due diligence is extremely important for success.
Accounting Standards
AbSub is most likely to suffer serious setbacks related to accounting provisions. The UK laws require entities to maintain correct books and records and sufficient internal control measures. No anti-bribery provisions are evident, implying that AbSub is legally liable for kickbacks and facilitation fees paid to public officials to influence business outcomes.
Lack of Detailed Obligations
AbSub has failed to determine specific, detailed obligations. Such agreements should also account for performances based on minimum sales quotas, for instance. If both parties agree on the performance measures and indicators, then AbSub can have a legal ground and a justifiable cause to dismiss its Middle East agent based on non-performance.
Poor Agency Management
AbSub generally lacks any active agency management practices. The company lacks any quality control processes. In this case, quality control is viewed with respect to internal audit to ensure performance against some established standards, but operational excellence indicators are lacking, and AbSub is bound to incur more expenses related to annual retainers that ultimately impacts its operational costs and profitability.
Managing Risks and Reducing Commercial and Non-compliance Risks
Due Diligence
AbSub must conduct due diligence effectively. It must ensure that local agents always comply with third party audits. This would ensure that the company avoids risks associated with the lack of transparency. Due diligence will unearth past misconducts, corruption, and other unacceptable business practices.
The Local Agent
Local agents are meant to reduce risks for foreign firms because they understand cultural, economic, and political environments. AbSub must therefore avoid conflicts with its local agent by clearly defining and delineating roles and responsibilities. Additionally, the company should ensure that the wording of contract is not a source of risk itself. Instead, AbSub should introduce clauses that restrict liabilities due to some unavoidable issues. Further, it should acquire credit insurance to protect its global accounts receivable from losses. Currency hedging can help the company to offset possible losses associated with foreign exchange.
Geographical Area or Territory Definition
The Middle East region is too wide for an agent located in another country. Hence, it is imperative for AbSub to redefine specific countries for the agent located in Baku. Additionally, AbSub needs to review its contract and remove the exclusive agreement terms to allow other agents in Abu Dhabi to operate in the region.
Constant Monitoring
AbSub is required to ensure absolute risk monitoring due to changing political and economic situations.
Financial Planning
AbSub should have financial planning alongside a reconciliation of risk exposure to reduce commercial risks and adhere to anti-bribery laws and standard accounting provisions. With regard to management, AbSub must not only comprehend factors that continue to shape the industry practices and enforcement activities, but also create and implement plans and strategies to solve any risk and compliance challenges it is most likely to face.
Risk and Compliance Issues for Offices in Brazil, Abu Dhabi, and Jakarta
These three countries present third party corruption, bribery, and compliance issues through sales offices. The company opted for third party operators to assist it to conform to local law and regulations, and with the duty of moving workforce and products across national boundaries. A major percentage of bribery cases usually involves subsidiary offices or sales offices in other international markets.
- Cultural differences are observed across these countries. Hence, they present risks to AbSub due to limited knowledge awareness of cultural and social dynamics of business practices. In Abu Dhabi and Jakarta, Muslim cultures dominate business practices. The company must understand that events, such as Ramadan, may run for a whole month, and no business may be conducted during such periods even if there is a need to close the deal quick. Understanding of the local language is important for foreign agents. Alternatively, they may rely on interpreters.
- Work permits are mandatory for foreigners in all countries. Foreign workers who fail to comply with work permit requirements are usually deported. To avoid such risks, all foreign workers must get their work documents processed from related government agencies.
- Labor laws in all these countries normally change at any moment and, thus, it is the responsibility of the company to ensure compliance. In Brazil, for instance, employers are expected to adjust annual pay to counter effects of inflation on employees. A pay structure is always adjusted for salaries, benefits, vacations, and holidays – an expensive adjustment for firms.
- Tax laws are also always changing as new governments continuously promise tax reforms. For instance, in Abu Dhabi following low global oil prices, the government has introduced new taxes, and it is the responsibility of the company to find out and comply.
- Security and safety of workers and investment are now critical issues of concern. In Brazil, the recent political unrest has affected business operations while possible terror attacks in Jakarta and Abu Dhabi constantly present challenges to businesses.
To lessen the risk of obligation, AbSub should be careful in choosing and monitoring representatives and third parties that follow up for its behalf. Successful due diligence is required. AbSub must understand lawful functional strategies it can take to shield itself from undue risk in working with representatives. AbSub requires effective oversight from senior executives, autonomy and resources, and continuous improvement efforts.
AbSub should adopt stringent internal controls and behaviors. The code of conduct should be clear and detailed to reflect the specific risks related to the business. If a different set of code of conduct for sales representatives and third parties is necessary, then the company should develop it. In this case, audit functions or any other independent review programs provided by external bodies should assist the company. AbSub must concentrate on internal audit of accounting and diligence procedures to ensure that all risks are identified and resolved.
Export Control Issues in Relation to AbSub’s Products
In the UK, the Export Control Organisation (ECO) is responsible for export control to mitigate internal repression, human rights violation, and regional instability. Concerns of weapons of mass destruction development, arms embargoes, and security of the UK and its allies have driven the controls.
As such, AbSub must obtain export control license because of the nature of the goods (for military purposes or modifications), destination (the Middle East), and under End-Use Controls. The company must obtain Standard Individual Export Licence (SIEL) or Open Individual Export Licence (OIEL) for repeat businesses and long-term contracts.
ECO considers the country of export before issuing a license. For instance, ECO normally do not issue a license to a company if there is an embargo on exporting military-related goods. In this case, Azerbaijan is among the countries listed under the embargoed ones. Nonetheless, it is imperative to point out that the embargo applies only if the goods can be used on the border between Armenia and Azerbaijan or in the Nagorno-Karabakh region.
To avoid fines and possible prosecution, AbSub must use the goods checker to assess if its goods are on the UK strategic export control list, understand the category, and then get the right license for export.
Counterfeit Management
Once AbSub has conducted due diligence on its agents to determine their reputation, the export control measures only ensure that genuine products as stated by the company are shipped to other destinations. This would ensure compliance with the US and the UK export control requirements and certainly reduce associated risks.
Procedure for Understanding Contractual Compliance Obligations
First, the contractual obligations should account for risks based on a risk assessment report of how AbSub conducts business, how, when, where and why it uses the Middle East agent. Second, the due diligence methodology ought to be formalized in writing. Third, agent and sales representatives should understand the importance of audit and their engagements. Fourth, the review should always be risk-based. Fifth, AbSub should rely heavily on important contractual clauses and certifications obtained from the agent to ensure a formal commitment for compliance. Sixth, it should monitor and audit all payments to the agent. Seventh, every due diligence performed should be documented to ensure that risks and potential effects are available for continuous reviews. Finally, AbSub should determine the best entity to perform and supervise the review procedure.
A General Framework for the Review of Contracts
- The Scope of the Co-operation – AbSub should work with its agents to define whether the scope is specific or general, technical, territorial, target customers, and turnover expectations. It will review and understand business environments in the Middle East, Abu Dhabi, Jakarta, and Azerbaijan.
- Exclusivity and Non-Competition – currently, the agent based in Azerbeijan enjoys exclusive dealing notwithstanding the presence of another agent in Abu Dhabi. As such, there is a need to define the contract as exclusive or non-compete or not.
- The Roles of the Parties – AbSub should define its roles, the roles of the agents, and any other third parties to avoid conflicts during the execution of the contract.
- Managing the Co-operation – both parties must also define how the relationship should be managed. Specifically, the focus should be on a committee, financial management, and project management among others.
- Premises, Plant, and Equipment – AbSub and its agents should determine how they effectively use their resources and participation between them to avoid conflicts.
- Personnel – the current agent lacks the right expertise for the job. Hence, AbSub should explore how to source the right people for the job.
- Intellectual Property Rights – these emerging economies have weak property rights laws, implying that AbSub may expose its trade marks, design rights, patents, and copyright to abuse. They should be protected under the UK laws.
- Remuneration Provisions – the agent should not receive both the commission and an annual retainer. Instead, the new arrangement should concentrate on one method while accounting for any challenges in the foreign exchange and profit repatriation.
- Risk Allocation Provisions – Each party should understand their risk exposure and liabilities. Special risk provisions should also be clearly defined for both parties.
- Termination – poor performances, a breach of the contract, insolvency, change of control, and prolonged force majeure should lead to the termination of the contract.
- Dispute Resolution Mechanism – once all internal mechanisms have failed, AbSub and its agents should engage international arbitrators.
- Schedule – all deliverables should be captured in the timetable and targets clearly defined for agents.
Conclusion and Recommendations
This case shows that AbSub faces business risks and compliance issues due to international business operations. These risks are generally attributed to foreign agents, cultures, security, types of its products, export destinations, and product end use. On this note, the following recommendations are made for the company to mitigate these risks.
- AbSub must conduct due diligence effectively to understand risk levels from its agents.
- It must comply with all export control, labor, tax, employment, audit and agency laws and regulations in various countries.
- The company must periodically review its contract with agents for contractual terms, relationship termination, and contract enhancement.
- Processes and procedures monitoring and improvement should be a priority to meet the best practices.
- AbSub requires sufficient agency management for operational excellence.
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