Trends in Asia ESG Due Diligence

By James Tunkey

I-OnAsia has specialized in due diligence and independent investigations into Environmental, Social, and Governance (“ESG”) issues for over nineteen years.  I-OnAsia’s team has completed over 15,000 cases in Asia since 2001, investigating hot topics such as Human rights, Climate change, Cyber security, Tax avoidance, Breaches of fiduciary duty, and False reporting.

I-OnAsia has investigated

  • Many dozens of suspected human trafficking and indentured servitude cases, on behalf of retailers and manufacturers sourcing in Asia. 
  • Forced labor at Asian factories that have wrongfully perverted national military and local police units to pressure workers against unionization.
  • Timber and jewel smugglers harming the environment, and followed their money trails. 
  • Bribe taking and corruption on major natural resources extraction deals.
  • Dumping and anti-competitive practices that have an ESG component.
  • Unfair wealth concentration at the expense of minority shareholders and workers.
  • Systemic failures to combat sexual harassment and sexual misconduct in the workplace.
  • Failures by ESG monitors to do their jobs, and bribe-taking. 

We are extremely proud of this aspect of our business.  I-OnAsia’s team has a demonstrated track record of integrity, fairness, investigative ingenuity and a bit of savvy.  Through our work, we also know who the “repeat offenders” are.

Here are trends we are seeing:

  1. Hedge Fund are increasingly being asked by institutional investors that are signatories to the United Nation’s Principals for Responsible Investment to mature their ESG diligence process.
  2. Key data that is used by many research houses to generate an ESG compliance or quality rating remains flawed, due to reliance on data sets that are compromised, either because the data has been supplied by the business itself or collected by third parties focused on a “lowest common denominator” standard of public records data collection.  These are garbage-in / garbage-out problems. 
    • For example, in performing volume ESG due diligence into third parties on behalf of one of the world’s largest garment brands, I-OnAsia has found that in over 60% of cases third parties have submitted false information relating to their ownership structure on due diligence questionnaires.
    • In another recent investigation for a large investor, I-OnAsia identified false statements made to other investors relating to the salaries and treatment of workers.  The underlying ESG problems were so severe that the company is likely to fail, but the public statements made by the company are painting a false picture.
    • In another example, published information was falsely flagged a “negative finding” by a “black box” AI model assessing a subject’s ESG risk.
  3. Needs for ESG monitoring at scale (by investors and the corporates themselves) create systemic vulnerabilities, and a false sense of security.  Collective approaches by groups of investors and enterprises concerned by ESG has resulted in a concentration of resources in monitoring programs that reduce the individual investor’s level of involvement and oversight. 
    • I-OnAsia is regularly called upon to perform independently minded due diligence on behalf of investors that are concerned about concentration risk in the due diligence process on “club deals”.  In one horrific case it was too late, our client declined to perform independent due diligence and accepted the due diligence of another loose club of investors.  The underlying work performed by that club had been faulty, and valuable water rights were not legitimately obtained from the local government.  The losses to our client were in the tens of millions, after the business failed and was sued by locals for having disturbed local drinking water without proper approvals.

One possible outcome from these trends is likely to be material financial losses and reputation damage by investors that overly rely on diligence that uses weak data and club approaches to ESG monitoring.  Another possible outcome from these trends is that smart investors can increase returns by finding deals the group-think is avoiding.

USA College Cheating Scandal: Systemic Problems Broader & Exacerbated Internationally

By James Tunkey

A college admissions cheating scandal has engulfed the United States following an investigation by the FBI.  Twenty-something wealthy families bought their children places at U.S. colleges, and undermined America’s cherished values and meritocracy. 

But this case is a drop in the bucket. 

Exam cheating is a major global problem. Cheating syndicates use social media and chatroom forums to collect and sell test content for Computer Based Tests.  Item harvesting is on the rise, with large numbers of test takers conspiring to each memorize a few questions verbatim to collect into cheat sheets on steroids that are sold to the next wave of test takers.  Proxy test taking by cheaters with photographic memories has become a big business.

And cheating is actually occurring on a far wider range of exams than the two primary standardized tests taken prior to applying to college.  As any adult who has ever taken a test to obtain a professional certificate can attest, certification is a big business.  America’s trillion-dollar education industry issues professional certificates globally for a wide range of standardized skills, from how to code in a particular software or to how to clean a child’s teeth.  In the author’s experience, international cheating on professional exams issued by American companies and non-profit organizations is a widespread problem. 

Professional certifications create opportunities for foreign nationals to make more money and gain access new markets.  These certifications are also a cornerstone for global growth of the U.S. services sector, as U.S. companies rely on candidates to demonstrate their skills meet a standardized level of proficiency.  Cheating on professional exams dilutes the integrity of the global economy: if you were sitting in an office of someone, and the probability one-in-one-hundred that the certificate hanging on their wall was bought not earned, how comfortable would you really be?  It also presents challenges to immigration processes and other challenges for policymakers.

While the recent U.S. college admissions cheating scandal has come to light after excellent work by the FBI, it is an unfortunate truth that the FBI does not have the resources to investigate every case of cheating.  Internationally, the FBI relies on the cooperation of foreign law enforcement partners who often have other investigative priorities.  Most of the responsibility for ensuring exam integrity is left to security departments at private companies and non-profits. 

Unfortunately, these “departments” are often only a team of one or two people with limited resources.  It is a hard truth that these under-resourced security departments have great difficulty in ensuring the integrity of an annual pool of candidates that may exceed hundreds of thousands of students globally. 

The current college admissions cheating scandal shows that even a small number of individuals caught cheating can cause the public to demand more regulatory oversight.  Favorable market positioning and self-regulatory authority can also be investigated and diluted after a failure to maintain integrity, as was the case for ratings agencies post-Lehman

Therefore, now may be the right time therefore for those American companies and non-profits that are in the certification game to examine whether more can be done to combat cheating.

About I-OnAsia:  I-OnAsia is a Hong Kong headquartered investigations and security consultant established in 2001.  A small but meaningful percentage of the 15,000 projects completed by I-OnAsia have been focused on exam cheating syndicates and other risks to exam security.  I-OnAsia provides subject matter experts on a contract basis to clients, performing local language searches of chat rooms and Dark Web sites in a hunt for exam cheating syndicates.  I-OnAsia performs undercover test purchases of documents that are suspected to contain stolen exam items.  I-OnAsia investigates fraud by trusted proctors and conducts security audits of exam sites.  Other services include the secure transport of exam documents, provision of magnetometer gates and wands at exam sites, and sweeps for hidden cameras.

About James Tunkey: James is Chief Operating Officer of I-OnAsia.  He holds a TRIUM MBA, a Certificate in Corruption Control and Organizational Integrity from Harvard’s JFK School of Government, and is a Certified Fraud Examiner.   James’ first exam integrity case involved a syndicate falsifying a medical certificate in 1996.  James leads I-OnAsia’s team of professionals responding to exam security breaches.  In the past year alone, James has: provided testimony to a foreign law enforcement agency on exam cheating syndicates and proxy testing agencies; investigated cheating syndicates in Asia and the Middle East; and audited test centers in over ten countries.

How to get arrested in Japan without even trying

By Edward Shaw
Edward Shaw is an I-OnAsia consultant and Japan country expert.   He is a retired FBI Agent and former Tokyo Legal Attaché.  I-OnAsia regularly provides support to Olympic visitors.

Just about any American who visits Japan for pleasure enjoys one of the best travel experiences possible. But sometimes an American is arrested in Japan due to an innocent mistake.

HOW TO FOLLOW THE LAW IN JAPAN

How can an American avoid arrest while in Japan? First and foremost, behave as a lawful citizen in the U.S. and you will be fine 99.99999999% of the time. However, some activity that is not a crime in the U.S. is a crime in Japan or could be perceived as a crime. Below are some of the most common situations that might lead a law abiding American to be arrested in Japan.

1. FIREARMS: Possession of just one round of ammunition in Japan is a criminal violation equivalent to a felony.
• An American once travelled to Japan and used luggage which he had previously used during a hunting trip in America. Japanese customs officials found the one round of ammunition in his luggage and he was arrested.
• In addition to ammunition, possession of any part of a firearm (e.g., an ammunition magazine, custom hand grips, etc.) is also a serious crime.
• Possession of a fake but authentic looking firearm is also a crime.

2. KNIVES: Japanese law forbids possession of a pocket knife with a blade longer than 6 centimeters. Lots of Americans always carry a multipurpose pocket knife or a pocket sized multipurpose tool that includes a knife. Don’t take those to Japan.

3. TATTOOS: Men, if you have tattoos, dress in a manner that covers the tattoos.
• In Japan usually only Japanese mobsters (Yakuza) have tattoos.
• If you have visible tattoos (especially if you are an ethnic Asian male) you do face the risk that the Japanese police will mistake you for a Yakuza criminal suspect.
• Japanese law allows any business (restaurants, pubs, etc.) to ban any guest, man or woman, with a visible tattoo. This is how these businesses avoid gangster customers. If you have a visible tattoo you can be lawfully ejected from a business.
• If you don’t follow the employee instructions to leave, you could be arrested.

4. HERO: The writer knows from personal experience of two incidents when other foreign national men in Japan came to the assistance of a “damsel in distress”.
• In one instance an American man saw a thief snatch a purse from a woman and the American chased the thief. Simultaneously, the victim was able to tell a nearby policeman of the crime.
• The policeman saw the American running from the scene of the crime, assumed he had snatched the purse, and arrested the American while the actual thief escaped.
• If you see a crime while in Japan, report it but do not intervene.

5. MEDICINES: Be careful with your prescription medications. Especially if you plan to travel to Japan with a supply of a medication that is heavily regulated in the U.S.
• In 2015 Julie Hamp, then a Toyota executive, secretly shipped oxycodone to Japan.  The shipment was discovered and Hamp was arrested. More information about her arrest can be found here. Japan Arrests American for Drug Violation
• Here is a link an article with more information on taking your prescription drugs to Japan: How to Carry Personal Prescription Drugs to Japan

HOW TO ACT WHILE BEING ARRESTED IN JAPAN

Let’s suppose, to borrow a title from a popular 2004 movie, you encounter a Series of Unfortunate Events and you are arrested in Japan. How should you react?

1. Don’t resist arrest.
• More so than in the U.S., in Japan most arrests are made by uniformed police officers. For a variety of reasons very few arrests in Japan are made by law enforcement officers wearing civilian clothes. In Japan criminals rarely impersonate a Japanese law enforcement officer and attempt to arrest someone.
• If you resist arrest the police will quickly use overwhelming physical force to take you into custody. You will likely suffer injuries, possibly severe.

2. Do promptly comply with all instructions of the arresting officer(s).
• Due to language barriers communication may be difficult. Eventually what the police expect you to do will be made clear to you.
• In the meantime, don’t make any movement that is not explicitly authorized by the arresting officers (e.g., don’t take any steps, don’t move your hands, don’t move your head to look around the vicinity, don’t shift your body into a crouch, etc.).
• Be quiet and passive and follow all officer instructions.

3. Do ask to contact your embassy.
• But wait until it is clear the arresting officers are able to focus on your request. Badgering them about contacting your embassy before you are in custody could be construed as the crime of resisting arrest.
• Japan is the world’s most culturally homogeneous country and it will almost always quickly be clear to the arresting officers that you are a foreign national.
• According to the writer’s experience at the U.S. Embassy in Tokyo, police throughout Japan generally contact the embassy of a foreign national who has been arrested.

4. Provide your identification (usually your passport) to any Japanese law enforcement official when it is demanded.
• As a foreigner in Japan, always carry your passport when you go out in public; Japanese law requires this. If you don’t want to always carry your passport with you, at least carry a copy.
• If you have your passport or a copy when you are arrested it will help the police positively identify you and notify your embassy.

5. Realize the arresting officer(s) may be nervous, perhaps even more nervous than you are during the arrest.
• They will be worried about being able to communicate with you.
• The police know how a Japanese person will act during an arrest but since you are not Japanese they will worry about what crazy things you might do.
• They will worry you will attempt to escape, especially if you are significantly taller than an average Japanese police officer. If you are a young male and 6 feet or taller your size will worry the average Japanese police officer.
• They will worry the arrest will draw critical media attention that will damage their career prospects.
• The arresting officer(s) may find your body odor to be noxious.
• The more nervous the arresting officer is, the more there is a chance of a misunderstanding that will lead to the use of physical force against you.

6. Only answer questions about your identity, nationality, and urgent personal needs.
• At some point during or after your arrest the police will ask you questions and you should truthfully answer questions about your identity, nationality, and any health conditions or other urgent personal needs that concern you.
• Until you can talk with a lawyer answer NO other questions. Japanese law gives you the right to remain silent but the police may not inform you of this right.

7. Do not admit guilt before talking with a lawyer!!!
• Most Japanese convictions are based upon confessions. And Japanese police apply tremendous psychological pressure to detained suspects to get a confession.
• Japanese police have told the author that some suspects are not prosecuted simply because they refuse to confess.

8. Realize you could be detained for days or weeks.
• Japanese law allows lengthy detentions of arrested suspects and bail is rarely granted.
• The U.S. Embassy has extensive information about what an arrested person can expect and do. That information can be found here: Americans Arrested in Japan.  Citizens of other countries will find this information helpful as well.

AVOID ARREST AND ENJOY EXOTIC JAPAN!
The writer has lived in Japan a total of 15+ years. Nine of those years he worked as the FBI liaison at the U.S. Embassy in Tokyo. That was a unique assignment where he saw just about every type of law enforcement mishap an American in Japan can experience.  Those mishaps are extremely rare. A law abiding American who travels to Japan can look forward to a wonderful experience. A journey to Japan should be on every American’s bucket list!

Retired FBI Hero Joins I-OnAsia as Corporate Brand Ambassador

I-OnAsia is pleased to announce that Mr. Wesley Wong will represent the company as its Corporate Brand Ambassador.

Mr. Wong retired from the Federal Bureau of Investigation as a Senior Executive in 2006.  After his retirement, Mr. Wong held senior positions at Acxiom Corporation, EDS/HP and the Boeing Corporation.  Mr. Wong is currently a Senior Advisor to the U.S. Special Operations Command and the U.S. Joint Special Operations Command.  He remains involved at the FBI Academy and is a Senior Fellow of Advanced Antiterrorism Studies at the Air Force Special Operations School.  Mr. Wong is also involved with several non-profit organizations and serves on the board of the National Corvette Museum and its NCM Motorsports Park. 

Mr. Wong was the FBI on-scene commander at Ground Zero on 9/11 and subsequently set up the largest Fusion Center in the Bureau’s history.  In June, 2002, Mr. Wong was promoted to Assistant Special-Agent-In-Charge, Counter-Intelligence Division.  During his FBI career Mr. Wong was involved in many investigations of Organized Crime and Asian Gang matters, as well as high profile investigations of John Gotti, the 1993 World Trade bombing, TWA 800, the 2000 Millennium bomb plot, and 9/11.  Mr. Wong also had various responsibilities at the FBI in New York relating to overseeing Information Systems, Evidence Response, Electronic Technicians, and the Electronic Surveillance Program.

“Wes is an American hero and we are so very pleased to have him represent I-OnAsia in the States,” said Mr. Derek Elmer, I-OnAsia’s Chief Executive Officer.  “Wes is unique: he was successful as a leader at the FBI and he has been successful post-retirement at America’s largest companies.  His skills and experience remain in demand.  We are excited by his capacity to help I-OnAsia’s clients solve tomorrow’s problems.”

Would You Rather Own A Business That Discloses Unusually Bad Operational Losses, Or One Whose Management Doesn’t Tell You Any Bad News At All?

I-OnAsia Risk Advisory Review: HSBC & Hang Seng Financial Sub-Index OpRisks
By James Tunkey & Jacqueline Evers

I-OnAsia’s Risk Advisory team has just completed a study of the most recent decade’s risk management disclosures by the Hang Seng Index’s Financial Sub-Index constituents to investors.  The research, led by our senior associate Jacqueline Evers, has yielded two troubling insights: HSBC has experienced a decade of unusually high levels of losses due to bad business practices; and, the vast majority of other Finance Sub-Index constituents are not being fully transparent in their annual reporting about operational losses.

Our team is reminded of the sick game in 3rd grade, where you give your classmate two bad options (kiss the tail end of a dog, or eat a worm).  We’ve been asking: Would You Rather Own A Business That Discloses Unusually Bad Operational Losses, Or One Whose Management Doesn’t Tell You Any Bad News At All?

Clearly, most people would prefer to invest in good managers who are transparent.

About I-OnAsia’s Risk Advisory Study

For over 15 years, I-OnAsia’s Risk Advisory team has used the Bank for International Settlements (BIS) standards for classifying operational risks, breaking out OpRisks into the following categories:

1.       Internal Fraud
2.       External Fraud
3.       Employment Practices & Workplace Safety
4.       Clients Products & Business Practices
5.       Damage to Physical Assets
6.       Business Disruption & System Failures; and,
7.       Execution, Delivery& Process Management.  

Since 2004, I-OnAsia’s Risk Advisory team has maintained a database of OpRisk losses reported by all Hang Seng Index constituents in their annual reports.  Our database goes back to World War II, and includes both financial and non-financial institutions.

I-OnAsia’s Risk Advisory team uses this database to deliver unique due diligence and risk management assessments.  I-OnAsia’s understanding of historic OpRisks at property companies has helped inform our advisory on build-outs of new regional headquarters for multinationals.  

I-OnAsia’s most recent study has updated OpRisk loss data for the forty-six constituents of the Hang Seng Index in 2018.  

HSBC’s Business Practices: A Major Source of OpRisk Losses

HSBC reported roughly US$11 billion (in today’s dollars) in OpRisk losses between 2009 and 2018, according to analysis of HSBC annual reports by I-OnAsia’s Risk Advisory team.  Nearly three quarters of this amount was from foreign fines, penalties, and judgements.  

There is no doubt that HSBC’s retail and commercial banking networks in Europe and the Americas have opened the company to heavy foreign regulatory scrutiny, but HSBC’s business practices have gotten it into trouble in Hong Kong as well as in western markets.   Key problems have been identified in:

  • Foreign exchange rate fixing;
  • Precious metals trading;
  • Payment protection insurance;
  • Interest rate derivatives;
  • U.S. mortgage securitization activity;
  • U.K. Consumer Credit Act lending; and,
  • Anti-money laundering and sanctions-related failures.

These unusually heavy losses due to internal business practices ultimately resulted in HSBC’s turning to a new external Group Chairman in late 2017.  

The take-away: bad business practices and weak oversight and compliance can cause so much pain for shareholders that it can bring down an executive team.

Concerning Lack of OpRisk Loss Event Disclosure at Eight Hong Kong Listed Financials

China Construction Bank reported a combined US$7.5 billion (in today’s dollars) in non-fraud related OpRisk losses between 2008 and 2018, and a certain amount of OpRisk loss is expected each year at any bank around the world.  During the same timeperiod, HKEx reported a substantial loss event due to business practices.

None of the other eight Hang Seng Finance Sub-Index constituents reported a single significant operational risk loss event to investors in their annual reports between 2008 and 2018:

Hang Seng Bank; AIA Group; Industrial and Commercial Bank of China; Ping An Insurance; BOC Hong Kong; China Life; Bank of Communications; and/or, Bank of China.

Unfortunately it is difficult to say for sure whether this lack of reported losses was due to superior risk management practices at these eight companies.  It is I-OnAsia’s assessment, based on a global review of data submitted by financial industry peers to the BIS, that zero reports of OpRisk losses by eight large institutions over an entire decade is unusual and potentially concerning.

Details disclosed to the public by HSBC in its annual reports about OpRisk losses provided an opportunity for investors to understand the specifics of problems at the bank, and advocate for improvements.  The absence of OpRisk loss reports raises questions about whether public investors have a strong enough grasp on the risks associated with these eight enterprises.

Another take-away: without detailed data on OpRisks, investors in financial institutions may be flying blind to bad business practices.