Sri Lanka:Tax scam lands IFS in hot water

• Informatics International Lanka demands US$ 76 M as compensation for losses suffered

• Alleges the formation of seven companies in violation of the shareholders’ agreement

Hot on the heels of allegations of tax evasions to the tune of Rs 9 billion through the repeated projection of losses, an arbitration case has been filed by Informatics International Lanka (Pvt) Ltd against joint venture partner and multi-million dollar software company of Swedish origin, Industrial and Finance Systems, IFS AB (PUBL), claiming US$ 76.1 million by way of compensation.

Accordingly, US$ 42.9 million has been demanded in respect of the loss and damages and an additional sum of US$ 33.2 million, as interest due on the unpaid share in the profits of the IFS Sri Lanka.

Serious allegations

In addition to claiming millions of dollars as damages, Informatics has levelled serious allegations against the respondent company,

alleging at least seven companies have been formed since 1999, in contravention of Clause 21 of the shareholders’ agreement, known as then ‘non-competition’ clause.

The companies, said to have been so set up for the purpose of software development, which Informatics alleges were created for the ‘siphoning off business, which would have been handled by IFS Sri Lanka’ are namely, IFS R & D International (Pvt) Ltd, Industrial and Financial Systems R & D Limited, Creative Software Engineering (Pvt) Ltd, Creative Search Technologies (Pvt) Ltd, IFS Research & Development (Pvt) Ltd, Creative Technology Solutions (Pvt) Ltd and Homes and Villas (Pvt) Ltd.

While investigations continue into the financial operations of IFS Sri Lanka, in the wake of charges of evading tax payments due to the Inland Revenue Department (IRD) on the profits made by the subsidiary of IFS AB (PUBL), the primary allegations listed in the statement of claim have been rejected by the company, denying any legal or other basis for making such claims.

Growing global enterprise

Industrial and Financial Systems (IFS) is a growing global enterprise with over 50 offices around the world. It maintains development centres in Sri Lanka and Poland, while operating as a multinational corporation through subsidiaries in the Americas, Europe, Africa, and Asia-Pacific and has spread its presence globally through the formation of subsidies and associate companies.

Delivering a blow to the company’s reputation, charges have already been raised with regard to tax evasions in Sri Lanka. Through the recently filed arbitration case, which is scheduled to be taken up in February 2014, it is believed that certain other grey areas in financial management by IFS are likely to emerge.

Failed to submit details of dividends

The claim submitted for arbitration has alleged, the respondent company had failed to submit or declare any details of dividends or amounts payable o the claimant (Informatics) from the profits made by IFS Sri Lanka since January 1998 and no payments have been received, based on any of the above mentioned charge rates for work carried out by IFS Sri Lanka.

It is also maintained that, though required under Clause 10 of the shareholders’ agreement to convene meetings of the Board of Directors at least twice every fiscal year, this has not been done, despite promises to have this procedural anomaly addressed as a matter of urgency.

To this end, the statement has claimed, agreement was reached on 28 January 2000 at a meeting held at Hotel Clifton Ford, UK where it was collectively decided that January 2000 was to be considered the joint venture’s start time for venture benefits of the project, though no such payments were received by IFS Sri Lanka.

Violation of shareholders agreement

The statement of claim has laboured the fact that the respondent company has violated Clause 21 of the shareholders agreement, which binds parties to prevent direct or indirect competition with any application of IFS, highlighting that the incorporation of Industrial and Financial Systems R & D Limited in June 1999 to engage in the business of the development of software, similar to the work carried out by IFS Sri Lanka.

“There was no clear physical demarcation between IFS Sri Lanka and IFS R & D Sri Lanka and the premises, assets, employees, expertise and other resources of the IFS Sri Lanka were caused to be utilized by the respondent for the development of software for the respondent/IFS R & D Sweden, wrongfully, unlawfully and fraudulently invoicing for the said software development services through IFS R & D Sri Lanka. The respondent has further wrongfully and unlawfully caused the transfer of assets, employees, expertise and other resources of IFS Sri Lanka to IFS R & D Sri Lanka.”

Breach of shareholders’ agreement

Insisting that the setting up of such a company, which is engaged in the same type of business with the Board of Directors also being similar, barring Dr. Gamini Wickremasinghe, who is a Director of IFS Sri Lanka only, it added that the other companies mentioned have been incorporated subsequent to the formation of IFS Sri Lanka and also after entering into a valid shareholders’ agreement. “The incorporation and the operation of these companies by the respondent are at variance and in gross breach of the shareholders’ agreement and they are directly competing with IFS Sri Lanka.”

The statement of claim further adds the respondent has been wrongfully and fraudulently utilizing trained staff for the work carried out through IFS R &D Sri Lanka, to the detriment of IFS Sri Lanka.

Diverting business opportunities

One of the key charges levelled against IFS is the formation of a number of companies to divert business opportunities from IFS Sri Lanka to these other companies. “As a result, there would be a drop in the revenue of IFS Sri Lanka, prejudicing the right of the claimant to their approximately 49.9% share in the revenue of IFS Sri Lanka, as per the claimant’s shareholding in IFS Sri Lanka.”

Qualifying damages based on the projections at that time, the claimant has averred the turnover and profits of IFS Sri Lanka were substantially reduced and thereby caused substantial loss and damage to the claimant through the loss of potential dividend income.

Lucrative undertaking

Seeking to refute that IFS Sri Lanka was a loss-making venture – a charge included in IFS’ counterclaim – the claimant has further stated the company was incorporated and commenced business at a time when information technology business was becoming attractive and was approaching the stages of paying good dividends in Sri Lanka. “The respondent was aware that they were into a lucrative undertaking and such a consideration, made them offer to buy off 45% of the shareholding of the claimant in IFS Sri Lanka. Through a letter dated 8 December 1998, the President of the respondent company, Bengt Nilsson, offered to buy 45% of the shareholding for a sum of US$ 500,000. This offer was made just a year after IFS Sri Lanka commenced business, which reflects the substantial intrinsic value of IFS Sri Lanka.”

The claimant has averred that the respondent has failed to discharge its duties and powers assigned to it under the shareholders’ agreement and has abused the powers given and has resorted to misuse resources of IFS Sri Lanka, to the detriment of the claimant and causing loss and damage to the claimant.

Objections raised by IFS

Responding to the statement of claim made by the claimant company, primary objections have been raised by IFS through lawyers, Drew & Napier LLC, stating that the claims made were “unmeritorious and unreasonable.” “Amongst the various grounds that have already been stated in our client’s responses to your client, it must be patently clear that your client’s claims are statute-barred under the Swedish Law, which is the governing law of the shareholders’ agreement,” it stated, in a letter addressed to the lawyers of Informatics.

On 25 October, filing its response against the statement of claim made by Informatics, which is now before the international arbitration tribunal, Drew & Napier LLC denied the claims made and completely rejected the claim for compensation, counter alleging that the claimant’s efforts and investments in the company have, from the outset of the joint venture project, had been negligible.

Further, it has been stated the claimant refused to inject the much needed capital and failed to live up to the other undertakings, including its undertaking to actively take part in the operations of the company, and has fundamentally breached its duty of loyalty under the shareholders’ agreement and the applicable Swedish Law.

“Further, claimant’s claims in this arbitration are based on the events and alleged breaches of the shareholders’ agreement that date back to 1999. The claims are time-barred under the applicable Swedish Law.”

Making counterclaims, the lawyers for the respondent company has also alleged that contrary to the claims made, Informatics’ failure to invest in and actively participate in the company had resulted in the failure of the joint venture, adding that the co-operation between the parties had cooled off and contacts between the parties were also limited. “The respondent was left on its own to achieve the purpose of the joint venture, that is, to create an overseas R & D Department in Sri Lanka for the respondent.”

Labelling the call to pay as compensation “an astonishing amount of US$ 76 million” as “vexatious and frivolous,” IFS has stated that it was believed that the arbitration has been initiated for the sole purpose of pressurizing the respondent company into a settlement, for which there exists no legal or other grounds.

Comments not offered

Meanwhile, lawyers for both companies have opted not to offer comments, stating that the matter, filed under the International Arbitration Act of Singapore was now before the Singapore International Arbitration Centre, to be heard possibly in February next year.

On 12 October 2012, Drew and Napier LLC, the lawyers for the respondent company, wrote to the Singapore International Arbitration Centre, claiming that the claimant’s notice and the notice of arbitration were not received as of 5 October, stating that the commencement of arbitration could not start due to the respondent not being duly noticed. There had been some delay thereafter in commencing the arbitration process.

Strongly protested

It is also learnt that at an IFS meeting held on 28 January, 2000 at Hotel Clifton Ford, UK, Dr. Gamini Wickremasinghe had strongly protested IFS Sri Lanka for having incorporated another BoI company, for having purchased equipment and recruitment of staff without having the professional courtesy of informing Informatics, the joint venture partner. It has also been minuted that Michael Hallen, President IFS R& D had tendered a verbal apology for the same.

The minutes read: “GW stated that this company should be either closed down immediately or put to sleep while transferring the equipment and the staff to IFS Sri Lanka immediately. Michael said to hold on until the new person who is going to replace Jonas comes to Sri Lanka in March 2000.”

It is further minuted that no board meetings had been held since the year 1999, contravening the joint venture agreement for which the president had once again apologized, with a promise to conduct one in March 2000.

The minutes also bore witness to the fact that Wickremasinghe stating that informatics had mobilized a very reputed international firm to the valuation of the IFS joint venture, according to the joint venture agreement and the budgeted figures of IFS Sri Lanka.

Financial scandal

Contrary to the independent disclosures made by investigators about the profits made through its Sri Lankan operations, the IFS President had expressed that the Sri Lankan operation cost is around US$ 117 per man day and when IFS R& D cost is added, it was approximately US$ 219 per man day, indicating that IFS Sri Lanka was making losses.

Among the charges made and minuted at the special meeting in the UK are claims by Dr. Wickremasinghe to the effect that Informatics had not been receiving monthly accounts from IFS Sri Lanka since the inception. It had been also agreed at that meeting to send monthly accounts, commencing March 2000.

With IFS Sri Lanka now expected to face a new financial scandal, with the venue being Singapore, the companies in dispute have agreed to a three-member panel of arbitrators to hear the matter in February 2014, under the arbitration law of Singapore.

 

 

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