THE AGREEMENT BETWEEN PHILIP MORRIS
AND THE EUROPEAN COMMISSION
31. Philip Morris is the only overseas manufacturer
with a significant presence in the UK market. Customs officials
told us that they worked "[…] with Philip Morris in
much the same way as we work with each of the UK manufacturers.
We seek to track and trace— the phrase we use—their
product in the same way as we seek to with UK manufacturers and
we meet with Philip Morris on a regular basis."[32]
Philip Morris products sold in the UK are imported from their
factories in Germany and Portugal. Philip Morris told us that
while they had not signed a memorandum of understanding with UK
Customs, and one had not been proposed, they did work closely
with Customs.[33] Philip
Morris noted that:
"[…] we have signed an agreement with
the European Commission and 10 of the Member States that is very
extensive and constitutes a commitment on our part, and a commitment
on the part of the European Commission and the 10 signatory Member
States, to co-operate together to fight illegal trade of all forms;
and, for us, particularly to focus on the alarmingly increasing
trade in counterfeit goods. That agreement has very extensive
compliance protocols, customer oversight provisions, product tracking
and tracing provisions, as well as a commitment by us to contribute
a substantial amount of money—over a billion dollars—
to the European Commission over the next 12 years, in order to
enhance their efforts to do everything they can to prevent the
growing trade in illegal and, particularly, counterfeit products."[34]
32. Philip Morris observed that the UK was not a
signatory to that agreement, but it could, if it wished, sign
the agreement and become a party to it.[35]
Philip Morris told us that "we are more than happy to have
the UK sign the European agreement. It is far more extensive in
its provisions, its scope and extent than any Memorandum of Understanding
that exists with our company and other governments, or other companies
and the UK government or other governments."[36]
33. Action on Smoking and Health (ASH) considered
that the legal agreement between Philip Morris and the EU was
"the gold standard by which all cigarette manufacturers'
attempts to control excise tax fraud should be judged from now
on [as under the agreement] specific, measurable, achievable,
relevant and timed targets have been set and penalty payments
are exacted from [Philip Morris] if these are not met. In contrast
the 'Memoranda of Understanding' that [Customs] has with each
of the UK manufacturers are inadequate. They rely entirely on
the goodwill of the companies and have no measurable outcomes."[37]
ASH believed that "the key feature of this agreement is that
from now on Philip Morris […] will be heavily penalised if
it does not control smuggling of its cigarettes. This is far more
significant than the $1.25 billion dollars that the company have
agreed to pay the EC over the next twelve years which is of symbolic
value only as it is believed to represent only a tiny portion
of the amount the EC has lost through smuggling, due to unpaid
duties, fees and other taxes."[38]
34. The European Anti-Fraud Office (OLAF) told us
that the agreement, signed by Philip Morris, the European Community
and 10 Member States in July 2004, was "a landmark which
is unique in scope and innovative in method"[39]
as it includes:
- a comprehensive set of rules
that Philip Morris must follow as to how it sells and receives
payment for cigarettes in order to significantly reduce the capability
of third parties to smuggle cigarettes into the EC.
- agreed tracking and tracing procedures, to assist
law-enforcement efforts to combat future smuggling and counterfeit.
- payments by Philip Morris in the event of any
significant seizure of authentic cigarettes to the EC and the
Member State which seized the cigarettes equal to the total amount
of lost duties and taxes which would have been due on those cigarettes
if they had been legally distributed for retail sale in the Member
State of seizure.
- additional payments by Philip Morris in the event
that there are seizures of Philip Morris cigarettes in any given
year in excess of a baseline amount (based on the average number
of Philip Morris cigarettes seized throughout the EC in the years
2001 and 2002) equal to five times the customs duties and taxes
owed on those cigarettes.[40]
35. The European Anti-Fraud Office considered that
these commitments greatly exceeded those of any individual Memorandum
of Understanding between a cigarette manufacturer and a Member
State and noted that the agreement had two further unique features
which distinguished it from other individual agreements. It is
legally binding and subject to a specific enforcement mechanism;
and it provides for substantial payments by Philip Morris, up
to a total of some $1.25 billion over the next 12 years, which
could be used to combat smuggling and counterfeit .[41]
36. The Agreement also resolves all past disputes
between the parties relating to contraband cigarettes. In particular,
the Agreement brings to an end all litigation between the European
Community and the ten Member States and Philip Morris relating
to contraband cigarettes. The Agreement also provides that any
Member State has the unconditional right to become a party.[42]
37. We asked the UK tobacco manufacturers whether
the EU agreement with Philip Morris was stronger than their memoranda
of understanding with UK Customs and whether they would be willing
to enter into a similar agreement. Imperial Tobacco told us that:
"the difference I would see is that there
was also litigation, or contemplated litigation, involving the
EU and the ten Member States and Philip Morris. We are not involved
in any form of litigation related to smuggling and we see the
Memorandum of Understanding as more appropriate. It is extremely
comprehensive. It not only covers illicit trade into the UK, ex-UK
manufactured product, but it covers all our factories in other
parts of the world and it comprehensively covers counterfeit,
which has been the growing problem over the last couple of years.
I would therefore argue that ours is a very comprehensive document
with Customs and is working very well."[43]
British American Tobacco said;
"I think there are bits of the agreement
that we would support and there are bits that we would not support.
The bits that we would not support would be voluntarily paying
the excise on product that other people had smuggled, frankly
I think that would be ridiculous. I think some of the tracking
and tracing bits in the Philip Morris agreement are, to quote
[Customs], 'missing the point' in terms of controlling smuggling
because Philip Morris has talked about being able to identify
the first customer and where there is a problem with the second
customer, but by the time the product gets smuggled it has probably
gone through ten or 12 customers, so I do not think that is going
to create a great benefit either. I can understand why Philip
Morris would like this to become an industry standard because
they have spent a lot of money putting it together but I do not
think it is going to solve the problems. I think bits of it we
would support, but not all of it."[44]
38. The Economic Secretary told us that the reason
why there was no memorandum of understanding with Philip Morris
was because "we have given priority to our three UK manufacturers
[as] their products were a significantly greater share of the
illicit market in the UK and the seizures we were making. In the
last year, Philip Morris's brands constituted only 3.5% of the
seizures we made and the vast majority of those were counterfeit,
not actually produced by Philip Morris. I would not rule out looking
for a memorandum with Philip Morris and we are considering that
but the imperative was to get a proper arrangement in place with
our own manufacturers based in the UK."[45]
39. Asked about the EU agreement with Philip Morris,
the Economic Secretary noted that the basis for this agreement
was very different. It was a legal document, largely designed
as part of a deal to drop litigation in the EU against the company,
circumstances which did not apply in the UK. The Economic Secretary
accepted that there were some very substantial elements in the
EU agreement, but considered that it was weaker in law enforcement
terms than the UK memoranda of understanding which contained some
features that were more useful to Customs. Under the UK memoranda
companies had agreed to stop supplying customers when Customs
issue a warning that they have serious concerns, rather than on
the basis of a conviction which was a requirement of the EU agreement
with Philip Morris. Similarly, under the memoranda Customs had
the ability to track and trace a customer on a packet of 20 cigarettes
found as part of a contraband consignment, but under the EU agreement
a case of 10,000 cigarettes was required before the track and
trace procedure would be instituted.[46]
40. The Economic Secretary noted that "we have
three agreements in place with the principal sources of the cigarettes
that we have a problem with that are working well. We certainly
are ready to consider reinforcing those agreements and […]
we are ready to consider whether or not we should be reaching
some sort of memorandum of understanding with other tobacco companies
as well […]."[47]
The Economic Secretary thought that "if we become a party
to the [EU agreement with Philip Morris] then we may be able to
take advantage of some of the operational features of the [agreement],
but I believe we would not stand to gain from any of the payments
that Philip Morris may make under it."[48]
In a subsequent note the Economic Secretary confirmed that, while
not entitled to a share of the $1.25 billion being paid over 12
years for anti-contraband and anti-counterfeit initiatives, it
was open to the UK to co-sign the agreement and invoke protocols
for the receipt of supplementary payments by Philip Morris in
the event of certain future genuine product seizures above a defined
limit. Based on 2003-04 seizure volumes, Customs believed that
the supplementary payments to the UK for smuggled Philip Morris
cigarettes would have been "well under £1 million."[49]
41. Customs have
not sought a memorandum of understanding with Philip Morris, as
they gave priority to the three UK manufacturers whose products
dominate the illicit market in the UK. Philip Morris have a legal
agreement with the EU and 10 Member States as part of a deal under
which litigation in the EU against the company was dropped. According
to Philip Morris and some other witnesses this agreement is more
extensive in its provisions and scope than the UK memoranda of
understanding. This view was not shared by the three UK tobacco
manufacturers or by Customs, who consider the EU agreement to
be weaker in law enforcement terms in some areas.
42. The memoranda
of understanding between Customs and the UK manufacturers predate
the EU agreement with Philip Morris. However, answers we received
to questions asking what difference the memoranda had made to
what was being done before did not leave us with an impression
of a radical change in the practices of the major UK tobacco companies.
We recommend that Customs review the provisions of each memorandum
in the light of the commitments contained in the EU agreement
with Philip Morris with a view to reinforcing the existing arrangements
where necessary.
43. We are concerned
to note, particularly in view of the claimed success of the memoranda
of understanding with UK manufacturers, that Customs have not
sought a similar agreement with Philip Morris. The UK could have
signed, and still can sign, the EU agreement with Philip Morris
with the prospect of receiving payments from the company when
their tobacco products are seized as contraband. Had this been
done, payments would have been due to the UK for smuggled Philip
Morris cigarettes in 2003-04. Whether it would be better for the
UK to sign the EU agreement or to seek a separate memorandum of
understanding with Philip Morris depends upon the arrangements
that can be negotiated with the company. But doing nothing is
unacceptable. We expect Customs to take this matter forward as
a matter of urgency.
Counterfeit cigarettes
44. As a result of Customs' work with the tobacco
manufacturers to reduce the availability of genuine products,
large scale organised smuggling gangs who supply most of the illicit
market have increasingly switched their attention to counterfeit
product. Accordingly there has been a significant increase in
the volume of counterfeit cigarettes seized. In 2003-04, 54% of
cigarettes seized were counterfeit, a more than three-fold increase
over 2001-02.[50]
45. Counterfeit cigarettes are completely untaxed
and unregulated. Research on these cigarettes indicates that counterfeit
cigarettes contain on average markedly higher concentrations of
arsenic (3 times the level of their genuine counterparts), cadmium
(5 times) and lead (5.8 times)—all of which are listed by
the International Association for Research in Cancer (IARC) as
carcinogens—as well as increased levels of tar and nicotine.
This research has identified that habitual smoking of counterfeit
cigarettes has significant potential harm to human health from
these heavy metals and adds substantially to the considerable
risks already associated with smoking cigarettes.[51]
46. The Economic Secretary acknowledged that Customs
were not doing enough to tackle counterfeit cigarettes, but noted:
"[…] we certainly are doing more than
we were a couple of years ago as it becomes much clearer that
counterfeiting is a bigger problem. […] the threat of counterfeit
cigarettes is not just a threat to the revenues to the public
purse, the latest evidence suggests that counterfeit cigarettes
are significantly worse than ordinary cigarettes for the health
of the people that smoke them, and in many cases have very significant
levels of heavy metals like arsenic. The sorts of measures we
are trying to take to deal with counterfeit include—and
this is relatively recent I have to say—increasingly constructive
co-operation with China and some of the governments in the Far
East, because it is there that we have the biggest problem as
the largest source of counterfeit cigarettes finding their way
into the UK and other parts of Europe."[52]
47. Philip Morris told us that a memorandum of understanding
between Customs and the UK manufacturers estimated that 190 billion
cigarettes had been counterfeited in China in 2002, making it
one of the main sources of such material. However, there was also
counterfeiting in Europe, in other parts of Asia and in Latin
America. Philip Morris noted that "China is working very,
very hard to address the problem, and last year the Chinese Government
prosecuted more than 150,000 cases against counterfeiting operations."[53]
British American Tobacco noted that:
"Most counterfeit cigarettes, including
many of those coming into the UK, originate from China. To address
this particular problem in China, a coalition was established
by a number of international cigarette manufacturers and Chinese
authorities to identify and de-commission the factories making
counterfeit cigarettes. […] British American Tobacco, Imperial
and Philip Morris are members of this coalition together with
[Japan Tobacco]. The coalition has been operating for several
years and has achieved considerable success. In 2004 alone nearly
400 factories in China were raided and 350 cigarette making machines
were seized."[54]
48. Some of the additional resources provided to
Customs for tackling tobacco smuggling were used to further develop
their network of officers based overseas. During our visits to
Hungary, the Czech Republic and China we met and were briefed
by the Customs' Fiscal Liaison Officers based overseas covering
those countries. The value of close co-operation with local enforcement
agencies and intelligence gathering was clear.
49. We were also briefed by the Chinese State Tobacco
Monopoly Administration on the scale of counterfeiting cigarettes
in China, their efforts to tackle the problem, and the efforts
of the coalition with manufacturers which makes a valuable contribution
to this work. It is all the more surprising therefore that although
a memorandum of understanding on co-operation on Customs matters
was signed with China in October 2002, a single UK Customs officer
remains based in Hong Kong but is expected to cover the whole
country.
50. Counterfeit
cigarettes are a significant and growing problem in the UK that
threaten both revenues and public health. We note Customs' efforts
and those of the industry to tackle this issue which, to be successful,
depend on co-operation with enforcement agencies overseas to identify
contraband destined for the UK and to cut off the supply of counterfeit
cigarettes at source, the illegal factories where they are made.
51. We were surprised
to learn during our visit to China, the largest source of counterfeit
cigarettes destined for the UK, that there was only one UK Customs
officer, based in Hong Kong, to cover the whole country. We were
also surprised to discover that until our visit there had been
no meetings between UK Customs and the State Tobacco Monopoly
Administration, the agency charged with tackling cigarette counterfeiting
in China. We recommend that Customs review the resources they
are devoting to intelligence gathering and co-operation with enforcement
agencies overseas and the location of the officers concerned and
consider placing officers within China.
14 Ev 79, paras 10-11 Back
15
Ev 79, paras 14-19 Back
16
Ev 77, paras 9, 10 Back
17
Q 284 Back
18
Q 377 Back
19
Q 376 Back
20
Ev 105, para 3 Back
21
Ev 105, paras 4, 5 Back
22
Ev 105, paras 5, 6 Back
23
Q 261 Back
24
ibid. Back
25
Q 261 Back
26
Q 330 Back
27
Q 331 Back
28
Q 418 Back
29
Ev 105, paras 9, 10 Back
30
Between February 2001 and March 2002, 19 cards were issued to
Imperial, 2 to Gallaher and 0 to British American Tobacco (source:
HM Customs and Excise memorandum to Committee of Public Accounts,
HC (2002-03) 143, pp 59-60) Back
31
Ev 105, para 9, Qq 427, 428 Back
32
Q 56 Back
33
Q 262 Back
34
Q 262 Back
35
Q 263 Back
36
Q 264 Back
37
Ev 129, paras 1, 2 Back
38
Ev 131 para 11 Back
39
Ev 136 Back
40
Ev 136 Back
41
Ev 137 Back
42
Ev 137 Back
43
Q 269 Back
44
Q 358 Back
45
Q 422 Back
46
Qq 423, 427-429 Back
47
Q 430 Back
48
Q 434 Back
49
Ev 138 Back
50
Ev 107, para 20 Back
51
Ev 107, para 21 Back
52
Q 415 Back
53
Q 342 Back
54
Ev 104, para 9 Back
