Shining a Light on Deception: How Israel Electric Corp. Beat the System

NIS 1.4 billion vanishing from the cash-flow projection has drawn attention to the utility's underhanded ways.

Did the Israel Electric Corporation, the country's biggest and most sensitive utility monopoly, mislead its supervisory regulators?

It is a difficult question but one that must be asked in light of the strange circumstances: the disappearance of NIS 1.4 billion from the company's cash flow projection, and with it a measure of the government's confidence in its management.

Government officials wanted to accept the IEC's claim that it was all an innocent bookkeeping error - a rather large error, admittedly. But they have every reason to doubt it, since it is widely acknowledged that the company has been distorting the data and concealing them from regulators for decades. A recently published State Comptroller's report meticulously details the ways the IEC misled government watchdogs, especially the supervisor of wages at the Finance Ministry.

In the 1970s, for example, management and labor worked out an agreement to prevent pension erosion by continuing to promote retirees up the pay grade ladder for years after their retirement. The IEC claimed the treasury's wage supervisor approved the arrangement when he signed off on the company's collective bargaining agreements in the 1990s. The supervisor and the state comptroller disagreed, the former stating, "The supervisor's approval needs to be explicit and in writing. It has to be clear, specific and unequivocal." In other words, the pension adjustment scheme was deliberately buried in a much larger wage contract and thus went unnoticed by the supervisor of wages.

Another method used by the IEC was to obtain retroactive permission from unauthorized officials. Thus in 2005 the company got the Finance Ministry's supervisor of insurance to approve its pension fund regulations, and then claimed that this extended to all pension payment anomalies of the preceding decades. The state comptroller did not buy the argument, noting in the recent report that the treasury's "capital markets division is not authorized to examine the legality of pension payments. Only the supervisor of wages is authorized to do so."

Ignoring the regulators

A third tactic used by the IEC was simply to ignore the regulators. From the 1950s until well into the '80s the company augmented employee vacation benefits until they were three times those of other public-sector workers. Over the years the IEC paid out an excess of NIS 1.2 billion in vacation benefits, assuming an additional actuarial pension obligation of NIS 590 million for the item in the process. At no point did the company seek or obtain the wage supervisor's approval for the practice. The state comptroller judged these payments unlawful, stressing that their decades-long history did not render them allowable.

The IEC's fourth method was simply to ignore directives. Since 1981 the company has been paying high-seniority employees a "14th-month salary," a bonus equivalent to one month's wages. While many Israeli workers in the public sector receive a "13th-month salary," the bonus given to veteran IEC employees is exceptional.

From the outset the Government Companies Authority did not approve this payment, nor did the Ministerial Committee on Economic Affairs. The IEC ignored procedures and continued to pay these bonuses, even adjusting them over the years so that they kicked in with less seniority. The supervisor of wages learned of this in 2001. After negotiating with the company on the issue for 10 years an agreement was reached under which IEC employees who were hired prior to 2004 would continue to receive the extra payment.

Illegality institutionalized

In its report the State Comptroller's Office registered its dissatisfaction with the IEC's flouting of regulatory directives for so many years. But the method worked: The unlawful payments eventually became an established fact that received the approval of the wages supervisor.

Over the years the IEC paid out NIS 781 million in "14th-month salaries" and assumed an accompanying pension commitment of an additional NIS 680 million as a result. The company's tactic of defying the regulators works, either because the regulators are not sophisticated enough to detect the deception or because they do not have the political backing needed to confront the company. The fact that management colludes with workers to conceal benefits makes it hard to battle the company.

The necessary conclusion that must be drawn is that the IEC's power must be decentralized. The company is an intimidating monopoly that is ruled by its employees, with a captive management that also appears, on the evidence of the missing NIS 1.4 billion, to be incompetent.

Due to the strategic importance of the utility the state cannot successfully confront the IEC. Only by dispersing its power, either by splitting it up or by introducing competition, will the state manage to control it.