Inside the oil-for-food scandal

Tuesday, Nov 30, 2004

On April 19 2001, Augusto Giangrandi, a Chilean arms dealer currently the subject of half a dozen US and international investigations, ordered a discreet payment to an Iraqi company in Jordan. The transaction would ensure his supply of millions of barrels of Iraqi oil.

"We need to send an additional US 30,000," he wrote to his Italian partner. "For your info, il magro is sending an additional 520 K in euros equivalent in order to cover shortages."

"Il magro" - "the thin man" - was an elusive American oil trader: David Chalmers, the owner and boss of a Houston-based company called Bayoil.

A joint investigation by the Financial Times and Il Sole 24 Ore, Italy's leading business daily, shows that Mr Chalmers was the driving force behind one of a number of complex international schemes to acquire Iraqi oil by subverting the restrictions imposed by the United Nations' oil-for-food programme. This programme, which started up in 1996 after the first Gulf war, was designed to allow the Baghdad government to sell oil to raise money for food and medicines, and later other goods, that were in short supply because of international sanctions. Over time, Mr Chalmers became an important player in a concerted effort by Saddam Hussein to channel billions of dollars from the programme to his regime and its supporters.

According to the US Senate's permanent subcommittee on investigations, which is examining how the UN programme came to be manipulated, Mr Hussein was able to amass more than $21bn in illegal funds under the UN's nose through smuggling and kickbacks - a "staggering" level of corruption, says Norm Coleman, the committee's Republican chairman. Other US lawmakers and commentators have called the oil-for-food programme the worst scandal in the UN's history.

Kofi Annan, the UN's secretary general, has been criticised for allowing it to happen and for allegedly failing to offer full co-operation to external investigators. There has been criticism of France and Russia, two countries that benefited from trade with Iraq but opposed the 2003 US-led invasion and that are accused of putting commercial self-interest before principle.

The UN is conducting its own inquiry into the oil-for-food programme, chaired by Paul Volcker, a former chairman of the US Federal Reserve. Forced on to the defensive, the UN says it has been misrepresented by its critics. But the institution is grappling with questions of legitimacy and effectiveness: a report due to be published tomorrow will propose reforms to adapt the UN to cope with terrorism, failed states and other new challenges.

The FT/Il Sole investigation into the oil-for-food programme casts a fresh perspective on the debate. It not only gives the fullest picture to date of how the multi-billion dollar programme was subverted but reveals that this was not solely the work of ineffectual UN bureaucrats or corrupt governments. One beneficiary lives in the heart of Texas.

In April, an article published in the FTand Il Sole revealed that Bayoil, Mr Chalmers' oil company, had a relationship with Italtech, an Italian engineering firm controlled by Mr Giangrandi, to acquire cheap Iraq oil in violation of UN rules. Last month Charles Duelfer, the head of Iraq Survey Group, the US body charged with finding out what happened to Iraq's weapons of mass destruction and how Saddam financed his operations, included the name of Bayoil in a list of companies that acquired Iraqi oil, although the company's name - along with others - was omitted from the version of the report made public. Mr Duelfer did not necessarily imply any wrongdoing. Our new evidence, however, suggests that Italtech became little more than a front company for Mr Chalmers's activities - which also included a long history of involvement in the arms trade together with Mr Giangrandi.

Italtech had no funds of its own. Bayoil provided tens of millions of dollars to finance its oil purchases - purchases that the Volcker inquiry recently quantified as worth $846m, making Italtech one of the top 20 companies authorised to operate under the oil-for-food programme. In the process Bayoil provided funds to pay discreet commissions to opinion-formers who had been assigned oil allocations by Saddam Hussein, in return for their support against sanctions. Documents from Italtech suggest that millions of dollars provided by Bayoil were paid to a Dubai-based company used by the Iraqis to channel illicit finances both to the regime and its suppliers.

Bayoil had such a tight relationship with the Iraqi authorities that it even drafted letters, obtained by the FT and Il Sole, to Gen Ameer Rasheed, the oil minister, advising him how to persuade the UN to reduce Iraq's official oil sale price - a move one UN expert described as "highly irregular". The further the price fell below market rates, the more money everyone could make from the difference. Officially, all the oil sale revenues should have been spent on humanitarian needs and other approved purposes. In practice, Saddam twisted the UN scheme into a massive sanctions-busting enterprise.

David Chalmers has come to the attention of US investigators in the past. In August 1993, he was served with a subpoena by the US district court of the southern district of Florida to testify about his role in the sale of cluster bombs to Iraq by Mr Giangrandi and an associate. That trial ended before he had to give evidence.

Now various US congressional committees and the UN's Volcker commission have shown an interest in Mr Chalmers as part of their inquiries about the oil-for-food programme. This year, the US district court, southern district of New York, also began looking into Mr Chalmers' Iraqi oil deals.

In the early stages of the oil-for-food programme, Bayoil directly and legitimately acquired $102m worth of oil. As the programme progressed, Saddam decided to prevent US companies from directly getting oil contracts. Bayoil dropped out of the programme at the end of 1997.

But in 1999 Mr Chalmers teamed up with his old friend Mr Giangrandi, the boss of Italtech, to resume oil trading with Iraq.A series of e-mails and letters, authenticated by investigators, suggests that Mr Chalmers' office in Houston orchestrated and paid for Italtech's entry into the business.

For example, on October 7, 1999, Italtech sent an e-mail to Mr Chalmers' assistant, Jean Johnston, asking for help with its introduction to the Iraqi oil authorities. "Dear Jean, with reference to the telephone conversation with David last night, please help me in the following: Letter of Introduction of Italtech. I need to create something in the field of oil, where we are NOT (sic) really experts. For sure you have something similar for Bayoil adaptable to Italtech."

Ms Johnston promptly provided a letter to be printed and "addressed from Italtech" to Iraq's oil ministry. Il Sole and the FT have other examples of instances where letters ostensibly from Italtech were in fact drafted by Bayoil and sent from Houston by e-mail.

On December 14, a message from Italtech to "David" cites its expenses for changing its statute and registering with the oil-for-food programme, and "kindly" requests him to "reimburse such expenses, as our liquidity situation is critical". Mr Chalmers helped Italtech set up a bank account in Geneva. He provided the funds for Italtech to open letters of credit, with which it acquired the oil. He assumed Italtech's banking fees.

For its services, Italtech received between 1.5 and 2 US cents on every barrel of oil shipped. There was no doubt, however, that Bayoil, which got the oil, remained ultimately in charge. In a letter drafted in late December by Bayoil, Italtech authorises United European Bankin Geneva to issue a letter of credit. The letter describes "Italtech as the order and the UN as the beneficiary under the sole authority, direction and financial obligation of Bayoil Supply and Trading limited (Bayoil)."

With his front company established as a purchaser, Mr Chalmers set about acquiring tens of millions of barrels of Iraqi oil. According to the Duelfer report, Saddam Hussein ran a massive influence-buying scheme, in which he would assign friendly politicians, officials and others the right to buy oil from his regime. The beneficiaries were able to sell their allocations to oil traders in return for a commission. This became known as the "voucher scheme", although no actual vouchers existed. In return, allocation holders were expected to help Iraq in its quest to end sanctions.

One of the beneficiaries was Shakir Al Khafaji, an Iraqi-American businessman who financed a documentary by Scott Ritter, a former UN weapons inspector. That film, released in 2001, contended that Saddam had been effectively disarmed and called for a rethink of the sanctions on Iraq. Italtech documents indicate that Bayoil sent $1m to pay "Shakir" for an oil allocation.

In the middle of 2000, however, Saddam decided that, as well as enriching his friends, he would also raise money directly for the regime. The Iraqi state oil marketing organisation (SOMO) introduced a system of surcharges, whereby companies had to pay a kickback to the Iraqi state in return for the right to buy its oil. The decision, clearly a violation of UN rules, unnerved many participants in the oil-for-food programme. Big international oil companies left the game. But others saw a golden opportunity.

Murtaza Lakhani, a Pakistani oil broker on Italtech's payroll who introduced Mr Giangrandi to Mr Al Khafaji, suggested Italtech and Bayoil should pick up the slack. "We can lick this game and do spot businesses coming off the defaults of many of the others if we play it and time it right," he wrote in a fax to Mr Giangrandi dated November 28, 2000.

According to the Duelfer report, in the six months that followed Lakhani's proposal, Italtech's "loads" - that is, the amount of oil it was collecting from Iraqi oil terminals - went up almost by 10 times to 37m barrels. Oil analysts say that was an extraordinary amount for a previously unknown entity with no expertise in the field.

In order to get kickbacks from unscrupulous oil traders, Saddam Hussein established a network of front companies in neighbouring countries. These companies also served as conduits for the purchase of illegal goods, including arms parts. One was Al Wasel and Babel, in Dubai. It was named in the Duelfer report and, in April, the US Treasury called on the UN to freeze its assets after investigations into Al Wasel's alleged attempts to procure "a sophisticated surface-to-air missile system for Iraq".

In a meeting in March 2001, Mr Giangrandi was told by SOMO to pay kickbacks to Al Wasel and Babel. Mr Giangrandi was informed by his lawyer that such payments would be illegal.

On March 23, 2001, in a fax to Al Wasel, Mr Giangrandi wrote: "On my arrival in Houston [to meet David Chalmers, according to one account given to the FT] I've been questioned by the US authorities and I had the clear feeling that the matter is very serious and deserve (sic) caution. I have consulted Hunton & Williams, a large and reputed layer (sic) studio in Florida. The answer of the layers (sic), herewith attached, is very clear."

The attached letter read: "Should you proceed with the contemplated transaction we feel that you could be charged with a number of serious federal crimes, including but not limited to: mail and wire fraud, money laundering and criminal conspiracy . . . It is likely that you can be charged with Bayoil for conspiring to make false statements to the US government about the proposed payment and for violating the Foreign Corrupt [Practices] Act."

The letter also said Mr Chalmers had formally prohibited Mr Giangrandi from paying any illegal surcharge and bound him to "specifically warrant that no surcharge or other payment was made to SOMO".

But a former Italtech executive said the explicit prohibition was a smokescreen. "Those instructions . . . served only one purpose: to allow Chalmers to claim that he had always remained above reproach," the Italtech executive said. "But he knew that, one way or another, those payments were going to be made."

The FT and Il Sole have evidence that Mr Giangrandi ignored the lawyers' advice and paid around $6m to Al Wasel. In addition, two internal Italtech records suggest that the funding for those payments came from Bayoil, while a memo written on April 16, 2001, by the Italtech executive on "action to be taken for Italtech-Bayoil" specifically lists the steps in the process. "1. Signing the contract between Italtech and Al Wasel . . 3. Initiate transfer of funds from UEB [Italtech's bank in Geneva] . . . 6. Verify the amounts earmarked by Bayoil and ask for supplementary funds."

Mr Chalmers has declined to comment on this article. "Neither Bayoil nor Mr Chalmers intend to nor can they meaningfully respond, given the inaccurate nature of your questions," wrote Frank Spagnoletti, counsel to Mr Chalmers. "Your inquiry paints Bayoil and Mr Chalmers in a light which is inaccurate and untrue. Based on the nature of your questions, it is clear that you refer to entities and individuals who are in no way related to Bayoil."

A wealth of Italtech's own documentation appears to suggest otherwise. US investigators are pursuing the case.

Claudio Gatti is a New York-based investigative reporter for Il Sole 24 Ore, Italy's leading business newspaper. Mark Turner is the FT's UN correspondent, based in New York

Claudio Gatti and Mark Turner

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