Azerbaijan Corporate Social Investment
This report summarizes the analysis and findings from a pre-assessment trip to Baku, Azerbaijan on July 27-28, 2005 by Sarah Lindemann-Komarova and the main field assessment to Baku by Chris Pemberton and Ms. Lindemann-Komarova during September 5-9, 2005.
18 interviews were conducted with individual leading Azerbaijani businesses and joint ventures, 7 companies participated in a focus group for small and medium sized enterprises, 3 business associations were interviewed, 6 non-governmental organizations, 5 government ministries and 1 international agency were interviewed. In total, 40 organizations directly participated in the assessment process.
Assessment Methodology
Synergy Strategies Group used a combination of individual interviews and focus groups to accomplish the baseline assessment. A pre-assessment visit was conducted on July 27-28, 2005 to identify macro trends in corporate philanthropy in Azerbaijan while also crystallizing the focus and goals of the baseline assessment.
The purpose of the pre-assessment visit was two-fold: first, it was meant to enable Synergy Strategies to better familiarize itself with Eurasia’s objectives for the assessment. Secondly, the visit enabled Synergy Strategies to deepen its understanding of the environment for social investment in Azerbaijan in preparation for the deployment of a small assessment team in early September.
Defining Charity and Social Investment
In the context of this report, charity refers to one-time contributions or activities for a particular cause. Typically, the charitable contribution (either financial or in-kind) is given spontaneously to react to an immediate need in society. For example, a company or individual might choose to donate toys to an orphanage or food during a religious holiday. This is a one-time event usually creates an immediate benefit but is not directed at solving any underlying problems.
‘Social investment’ is also a form of charity, but contributions seek not only to meet an immediate need but also to help address a core problem. For example, instead of providing toys to an orphanage, a company might choose to work with the local administration on improving services at the orphanage or contribute to community efforts to prevent unnecessary child abandonment. In addition, many companies use social investment to address challenges in the community that impact upon their business operations, such as providing educational opportunities that thereby increase the number of skilled laborers for their market.
Social Investment as understood by the Eurasia Foundation is a strategic approach to philanthropy that “addresses important social and economic goals simultaneously, targeting areas of competitive context where the company and society both benefit because the firm brings unique assets and expertise.” (Michael Porter, “Competitive Advantage of Corporate Philanthropy,” Harvard Business Review, 2002.) EF aims to maximize the value of social investment activities by aligning domestic businesses’ corporate giving initiatives with areas that improve their long-term competitive potential while simultaneously making significant social impacts.
Table 1: Charity vs. Social Investment Continuum
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Social Investment |
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Drivers for Action |
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Findings and Trends
The current state of corporate involvement in social and charitable activities in Azerbaijan is defined by the history, culture, religion, economy and, ultimately, the realities of doing business in Azerbaijan.
The economy, culture and geopolitics of Azerbaijan is that of a former Soviet Republic both struggling to develop quickly while also faced with the challenge and opportunity of being a major oil export and distribution center. The oil barons of the early 20th century created a legacy of philanthropy and community support that underlies the current belief in Azerbaijan that it is a businesses responsibility to invest and support social programs.
The Muslim culture is also an important foundation for the concept and practice of corporate philanthropy in Azerbaijan. The Koran stipulates that after taking care of the needs of your immediate and then extended family, one is then expected to contribute a certain percentage (in the reported range of 2.5% of profit) to social causes in the community. One phrase was cited in several interviews: “What one hand gives the other hand shouldn’t know about.” This phrase is an important driver for charitable behavior on the part of corporations in Azerbaijan - they engage in charity purely for charity’s sake and, with a few notable exceptions, are generally opposed to any notion of using charitable contributions as a public relations tool.
The economy of Azerbaijan is growing and is forecast to have one of the highest annual GDP growth rates of any country in the world in 2006. With this economic development comes a planned increase in corporate philanthropy by the private sector. One local firm interviewed is planning to increase their budget for charitable activities by 5 times from less than $10,000 USD in 2005 to $50,000 in 2006.
Even in the current business climate, Azerbaijani businesses are active in charitable and philanthropic activities, with 100% of the local companies interviewed engaged in some form of charitable giving. Corporate philanthropy is reported to be on the rise, with some companies planning as much as a 5-fold increase in their level of giving for 2006. Major areas of giving include assistance to orphanages, refugees, internally displaced people (IDPs), disabled people and educational initiatives. In general, domestic companies follow one of three distinct trends in their giving:
- Charitable giving purely for the sake of society’s benefit, with a strong aversion to any marketing or public relations activities,
- Charitable giving with the intent of improving the company’s brand image and reputation, with a strong focus on marketing and public relations activities; and
- Strategic investment that is directly tied to the core business, with a secondary focus on the potential benefit for society
Barriers to the growth of philanthropy and, by proxy, social investment include the dearth of information about the discipline of social investment, perceived governmental scrutiny of charitable contributions and lack of explicit tax advantages. In addition, no company interviewed had specific goals or strategies in place for their charity or a formalized measurement and evaluation system to monitor the performance of their charitable activities against their goals.
While there are certain provisions in Azerbaijan’s legislation that foster charitable activity and grant-making, there are currently no tax incentives for corporate philanthropy in Azerbaijan. All charitable donations are taxed at the flat rate of 24% from profits.
Charity vs. Social Investment in Azerbaijan
The current state of activity for corporate charity and social investment is best described as reflecting polar extremes. On the one hand, a segment of companies, usually smaller and nearly always indigenous Azerbaijani companies struggling to rise above legal, tax and regulatory hurdles, readily and willingly contribute both cash and in-kind donations to various charitable causes with little forethought as to any strategic outcome. Oftentimes, the contribution will be in the form of products or services instead of monetary awards to reduce the potential for theft. Corporate resources are often addressing very real and immediate needs, such as assistance to orphanages, refugees and disabled persons.
Some examples include:
- An IT company that donated 100 recycled computers to local schools
- A food service company that donated AZM 10 million (approximately $2,200) worth of furniture and supplies to local schools and orphanages
- A retail company that distributed food directly from trucks to refugees
- A furniture company that donated furniture to local orphanages
- A financial services company that finances Azerbaijani artists and poets by sponsoring cultural events and studio space
On the other hand, some companies, usually the dominant players in any given industry, engage in charitable activities while also having somewhat more focused programs that could loosely be labeled as social investment. These activities seek to benefit the company first and foremost and the larger impact on social issues is not a primary part of the decision-making process. While the philanthropic element is still an important part of the charity work of these companies, business interests also factor into their decision to contribute, especially in regards to branding and marketing.
Some examples include:
- An electronics company that offers IT training for university students
- An insurance company that supports insurance training to university students
- A food service company that develops the capacity of local suppliers
- A communications company that supports concerts and Olympic teams
- An IT services company that offers advanced skills training to employees and promising university students
Charitable Activities
Because of the economic, legal and tax environment in Azerbaijan, companies clearly approach and conduct philanthropy quietly so as not to attract attention from regulators, most notably the tax authorities. The general feeling of interviewees is that if companies attract too much attention with their charity work they will be “penalized” through increased scrutiny of their accounting and profit. This quiet approach to philanthropy is also in keeping with the cultural norms of the country that encourage charity purely for charity’s sake.
Regardless of orientation, there seems to be a cultural and religious foundation for the approach to charity and social investment in Azerbaijan. While some companies spoke of the Koran’s influence directly, others clearly worked from an orientation of first providing for the needs of their employees, secondly caring for the employees’ family and, once those two levels of needs have been met, addressing the needs of their larger community.
As is common throughout the region, corporate philanthropy in Azerbaijan is often dictated by the direction of the company’s president and most powerful decision maker. 61 percent of companies reported such a top-down orientation to charity.
Another recent trend is to donate to sports-related causes and teams. The President of Azerbaijan is an ardent supporter of sports and it seems from interviewee responses that many contributions in this sphere honor the President’s public commitment to building support for domestic sports.
Azerbaijani companies rarely have a defined giving strategy and if the company’s efforts around charity are not being directed by the company president, they tend to be reactive in how programs are selected. For example, one company interviewed daily receives 15-20 requests for assistance and the manager responsible for selecting which requests to support selects those that look interesting within the loose guidelines of supporting education, disabled people and refugees.
Azerbaijani companies tend not to have a formal philanthropy function and as a result, usually do not have specific personnel responsible for their giving. No company interviewed had a separate charitable foundation that directed their giving.
Strategic Social Investment
There is a segment of Azerbaijani companies that engage in charitable activity with the express intent of developing their business interests, although the secondary social benefit of these activities may or may not be recognized by the companies themselves. As a result, the line between social investment and business operations can be blurry at times depending on the function of business involved. For example, many companies engage in charitable activities as a means to improve their brand image and reputation among various stakeholder groups, most importantly with consumers.
The larger, more established companies have management responsible for this function with one company reporting 3 managers responsible for charitable giving. However, because these activities are so closely aligned with corporate interests, marketing in particular, it is difficult to separate this person from a line manager responsible for core business operations.
It is safe to say that all companies interviewed engage in corporate philanthropy in some form. However, there is a subset that is beginning to combine this with the interests of the business. For these companies, marketing and PR are an important component of their charitable giving.
There is a smaller subset of companies that engage in what could be called social investment related activities though the social intentions of these activities are not recognized by the companies. Some aspects of the charitable activities are driven purely by business interests but also happen to benefit society.
Views of implementing organizations
Approximately 22% of companies worked with a third-party organization to implement projects. In general, the business community is suspicious and distrustful of the abilities of the NGO sector to manage projects effectively or manage resources ethically. Companies had heard of cases where NGOs poorly managed a project or did not manage funds properly. Because there were few reported partnerships between business and NGOs, this should be seen as more of a perception rather than fact.
In general, companies tended to keep NGOs at arm’s distance when looking to implement projects. In the absence of a viable NGO sector, businesses have managed projects using internal resources or partnered with a handful of effective organizations.
International organizations such as Mercy Corps, the International Women’s Club (IWC) and World Vision were mentioned as having a track record of success in project implementation in terms of resources management, delivery of results and organizational capacity/expertise. Further, those organizations that had a track record of working on social projects related to IDPs and orphanage projects appeared be more successful in attracting corporate funds than those that focused on other target groups.
Azerbaijani companies are set to spend more on charity in the coming years as a result of economic development. Again, smaller and medium sized firms will likely not spend above the perceived threshold that would trigger scrutiny from the tax authorities. Larger firms that derive clear business value from the investment are predicting investment increases for 2006. According to the Minister of Refugees, Azerbaijani businesses spent USD $11 million from 1998-2005 on charitable IDP/refugee projects.
Barriers and constraints to growth
There seem to be three key barriers to the growth of charity and social investment in Azerbaijan:
- Knowledge & management systems
The concept of social investment is new to the global business community and Azerbaijan is no exception. While some Azerbaijani businesses are engaged in social investment activities, these are more an outgrowth of and a reaction to key business needs than strategic, proactive investments in both the company and the community.
As a result, there are few examples of strategic planning for social investments in Azerbaijan, with marketing-related activities being the exception. Goal setting, strategic planning and management systems are generally not employed in social investment-related activities and following classic management theory, in order for more resources to be allocated to support these areas, activities will have to be managed rigorously using traditional strategic planning models including goal setting, objectives, strategies, action plans, metrics, and evaluation mechanisms all carried out within a larger management system (i.e what gets measured gets managed).
Thus a key barrier to increased social investment in Azerbaijan is a lack of knowledge around the concept and practice of social investment as a strategic pursuit as well as a lack of management systems to manage these activities.
- “Tax inspector threshold”
There is likely to be an unseen “threshold” of charitable support above which the tax authorities will increase their scrutiny of a company's profit sources. This creates a ceiling for corporate philanthropy - real or perceived. As a result, corporate philanthropy will likely continue to evolve in a linear fashion as a function of both the government’s perceived support of such activities (or desire to not investigate any increase in reported profits) as well as a company’s ability to allocate resources to such projects.
Thus, so long as the business environment continues to evolve in the same trajectory it has historically, there will continue to be an increase in this type of charity up to, and likely not beyond, the natural limit to growth dictated by perceived government attention.
- Lack of tax incentives
In terms of charitable donations, be it purely philanthropic or more strategic social investment, companies must pay a 24% tax on all charitable contributions. The reality is that, while there are no explicit tax barriers for corporate philanthropy, the lack of incentives creates a barrier such that every manat spent on charity actually costs a company 1.24 AZM after taxes. The tax authorities have no plans to revise the tax code to favor charitable contributions. In general, businesses interviewed did not perceive there to be any legal barriers to charity but rather felt that a tax incentive would certainly help.
In the mid-1990s there was an explicit tax break for corporate charitable contributions in Azerbaijan and this was abused by enough companies to cause the government to repeal the tax break.
While the lack of tax incentives is an impediment to the growth of social investment in the country, Azerbaijan is hardly unique in the region in this regard. The vast majority of countries in the region, including several in Eastern Europe, have similar tax provisions. The lack of tax incentives has not precluded the emergence of social investment and corporate philanthropy in the region and Azerbaijan is no exception. Azerbaijani companies clearly support charitable causes because they feel it is their inherent responsibility to do so and not because of any expectation for tax breaks.
Conclusion
Because of the cultural and religious foundation of philanthropy in Azerbaijan, companies will likely continue to give to causes they feel are worthwhile, with or without any tax incentives, purely because there is a very real need and they feel they have a role to play in solving the problem.
Appendix I: Legal & Tax Analysis
The law Firm “VIZA” provided this analyses based on assignment of the Eurasia Foundation –Azerbaijan. This assignment is completed in accordance with legislation of the Republic of Azerbaijan as of September 15, 2005.
A general overview of tax provisions affecting such activities and organizations follows:
Imposed taxes
Profit tax of entities
Profit of entities is defined as the difference between the income of a taxpayer (less exempt types of income) and the deductions allowed by the Tax Code.([1]) The tax rate is 24% except for certain types of income addressed below. Exemptions relevant for the purposes of this analysis are the following ([2]):
- Income of charitable organizations (except for income from entrepreneurial activities). ([3]) If a charitable organization engages in any kind of entrepreneurial activities (services, sales, etc,) then its income is subject to taxation identical to the taxation of commercial entities. Entrepreneurial activity is defined as an activity of a organization with the main aim of generating profit by using property, selling goods or performing work and/or services. ([4]) The legislation does not stipulate any tax implications for charitable organizations engaged in entrepreneurial activities.
- Charitable transfers, membership fees and donations received by non-commercial organizations; ([5]) and,
- Income of specialized educational facilities established for the education of individuals with health impairments (except for income earned from entrepreneurial activities). ([6])
A 50% profit tax reduction applies to enterprises owned by public organizations at which no less than 50% of the employees are disabled persons, subject to certain qualifications.([7])
Profit tax of natural persons
Profit of natural persons is defined as the difference between the total income of a taxpayer for entire tax year and the deductions allowed by the Tax Code. ([8]) Exemptions relevant for the purposes of this analysis are the following ([9]):
- Amount of gift or financial aid received within a calendar year for educational or medical treatment purpose, if the gift does not exceed $1200, or $2400 if medical treatment is conducted abroad;
- Total amount of financial aid received from family members;
- Compensation given to natural persons by NGO’s, charity organizations and foundations in the form of financial aid.
As mentioned above, charitable transfers of funds, membership fees, and donations received by non-commercial organizations are exempted from taxation. None of these items are defined within the framework of the Tax Code.
Though the notion of a “donation” is not addressed in other legislation and grants are not specifically mentioned in the Tax Code provisions on profit tax, it is commonly accepted that grants fall within the scope of the exemption (apparently, as a donation). Under the Law on Grants, ([10]) a grant is described as purpose-oriented, gratuitous, non-repayable (non-reclaimable) assistance (in financial or any other material from) provided under the procedure stipulated by the Law on Grants for preparation and implementation of humanitarian, social and ecological projects, restoration of destroyed industrial and social facilities, infrastructure, rehabilitation of territories damaged as a result of war and natural calamities, programs in the field of education, healthcare, culture, legal advising, information, publishing, sports, science (including research and engineering), as well as any other programs deemed significant for state and society. Grants are not limited to assistance from abroad. To qualify as a grant, the assistance need not be certified by any governmental organ; it should merely comply with those requirements stipulated in the Law on Grants.
Any individual or organization of Azerbaijan Republic may provide a grant to Azerbaijani citizens and legal entities as long as the grant recipients’ basic objective according to their charter is “charity” or “collection of means” for projects and programs and whose activity does not aim to generate profit,. ([11]) The Law on Grants also provides that monetary and other material assistance obtained in accordance with the stipulated procedure shall be exempted from all types of taxes, duties and obligatory payments to the state budget. ([12])
As regards charitable organizations, all income except for that from entrepreneurial activities is exempt from taxes.
Tax benefits to donors
Neither legal entities nor individuals are entitled to any deductions for their contributions to NGOs, charitable organizations and natural persons.
VAT
Tax Rates
There is one standard rate of 18% under the Azerbaijani Tax Code. ([13]) No reduced rates are provided under Azerbaijani legislation. Sales, purchases and other transactions listed in the tax code funded by foreign grants do not have to pay VAT. ([14]) Procedure of VAT exemption for grants is very simple. The person purchasing goods, materials, etc. should provide a seller with a letter and copy of the grant agreement to receive their “0%” VAT exemption.
Tax Payers and Threshold
Persons conducting entrepreneurial activities, including NGOs, are subject to registration as taxpayers if their gross input in any three-month period exceeds $25,000. ([15]) If their gross input in any three-month period is less than $25,000 then persons conducting entrepreneurial activities may pay a simplified tax, which is 4% of their gross input. A 4% simplified tax covers both VAT and profit tax and, thus, by paying the simplified tax rate a person will not be paying separate VAT and Profit tax.
General analysis of legislation affecting philanthropy
The Legislation of Azerbaijan does not provide a definition of “philanthropy” or “social investment.” However, the Tax Code provides definitions of charitable activity and charity organizations ([16]) and the Law on Grants provides a definition of a grant. ([17]) A “charitable organization” is defined as a non-commercial organization conducting charitable activities, which is in turn defined as activities conducted by an individual and/or charitable organization consisting of direct and disinterested aid, including the gratuitous transfer of money to individuals in need of such aid, to organizations directly providing such aid, or, unless other circumstances are provided for by the Tax Code, to scientific, educational or other activities in the public interest. ([18]) It may be concluded that to qualify as a charitable organization, the organization shall merely stipulate for such activity as its primary activity in its charter. No objective criteria or procedure exists in the Tax Code or elsewhere for determining the charitable character of an organization on the basis of its intended and/or actual activities.
As defined above, a charitable organization in Azerbaijan is a non-commercial organization. Under the Civil Code there are three forms of non-commercial (non-government) organizations:
- Associations (public unions)
- Foundations
- Unions of legal entities
In most cases, the names of charitable organizations refer to the charitable work of the organization or provisions of the organization’s charter provide detailed descriptions of the charitable activities they will be supporting. There is no separate registration procedure for a charitable organization. Registration of non-commercial organizations is carried out by the Ministry of Justice of the Republic of Azerbaijan at their main office in Baku. In order to apply for registration, a non-commercial organization should submit to the Ministry of Justice a charter, minutes of general meetings, application and other documents. ([19]) The Ministry of Justice should register or deny a registration of the association within 40 working days. In case of registration denial, the Ministry of Justice is to issue a written letter explaining the legal grounds for denial. All the documents are to be returned to the organization.
The current legislation provides different possible options for conducting philanthropic activities such as donations, gifts, grants and any other options that are not in contradiction with the legislation of the Republic of Azerbaijan (activities that are not officially prohibited by law are permitted.) The legislation recognizes any types of agreements that are not in contradiction with the legislation in force.
Gift agreement
Even though the legislation does not provide a definition of corporate philanthropy, there are provisions of the legislation that allow entities to engage in philanthropy. The Civil Code of the Republic of Azerbaijan provides a separate type of agreement known as a “gift agreement.” ([20]) Under the provision of the Civil Code, the gift agreement has certain elements:
- The gift transfers assets from the owner to another person;
- The gift provides for the enrichment of the person receiving the gift; and
- The transfer of the gift does not put any service obligation upon the receiver.[21]
As a result of the above, money contributions, in-kind contributions, investments, etc. should be considered as a gift agreement under the legislation of the Republic of Azerbaijan. Hence, provisions of the legislation governing gift agreements can be applied for some philanthropic activities.
However, taxation of gift agreements is a very complex issue and can vary depending on their forms, participants, etc. For example, the income received by non-commercial organizations through charitable transfers and donations is not taxable, while a gift from one company to another is subject to a profit tax (and depending on the gift it can be subject to property tax as well). In the case of natural persons, if the amount of the gift or financial aid received within a calendar year for educational or medical treatment purpose does not exceed about $1,200, or about $2,400 if medical treatment is conducted abroad, then this gift or aid is not subject to profit tax. Any sum over that amount will be taxable.
Grant agreement
Another option with which to conduct philanthropic activities is through grants. As mentioned previously, the Law on Grants governs issues of the grant agreement that differs from the gift agreement. The main difference of the grant agreement and the gift agreement is that grants are provided for a firm target and is purpose-oriented, while there is no such requirement for gift agreements.
Another difference of grant agreements is that any natural entity and legal entity of Azerbaijan Republic whose basic objective according to its charter is charity or collection of means for projects and programs that may be a subject of a grant and whose activity does not aim to generate profit, may provide the grant to legal and natural entities of Azerbaijan Republic and foreign countries, international organizations and their representations, foreign governments and their representations, international organizations of charitable, humanitarian and other social directions, financial-credit institutions, foreign public organizations including funds, associations, federations and committees carrying out activities in the field of development of education, science, health, culture and sport, and not being aimed at profit generation, as well as foreign natural entities may act as a donor ([22]) while the legislation does not limit participants of the gift agreements.
Mechanisms for corporate philanthropy
Legislation of the Republic of Azerbaijan does not provide specific mechanisms for corporate philanthropy; however, it also does not prohibit philanthropic activities unless they are not in compliance with the legislation. In general, corporate philanthropy can be conducted via local or international organizations, directly to schools, health points, youth groups and any other recipients. The only pauses for consideration while choosing the mechanism may be the taxation implications. Under the current legislation, after complete payment of all taxes a person or business is free to spend the profit for any legal purpose, including social purposes.
Currently, there is no single government body or ministry responsible for regulating philanthropic activities. However, activities of humanitarian organizations in Azerbaijan are coordinated by the Republican commission on International Humanitarian Assistance within the Cabinet of Ministers.
[1] Article 104.1.
[2] Other exemptions include the income of international organizations and governmental (municipal) bodies and organizations (in either case – except for income from entrepreneurial activities), of the National Bank and its structures, of the State Oil Fund, and insurance payments (subject to certain limitations).
[3] Article 106.1.1.
[4] Article 13.2.37.
[5] Article 106.1.2.
[6] Article 106.1.7.
[7] Article 106.2 Disable persons working under civil law contracts do not count towards this threshold, for instance.
[8] Article 96
[9] Article 102.
[10] Article 1 of the Law on Grants.
[11] Article 2 part 4
[12] Article 5.1 of the Law on Grants.
[13] Article 173.
[14] Article 165.1.2.
[15] Article 155.1.
[16] Articles 13.2.35 and 13.2.36
[17] See footnote 9 for definition of grant.
[18] Article 13.2.25.
[19] Legal framework assessment covering the issues of different form of NGOs and their registration have been already submitted to the EF-Azerbaijan.
[20] Paragraph XXXII of the Civil Code
[21] Article 666
[22] Article 2 of the Law on Grants
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