Honorable Robert Bunda

President of the Senate

Twenty-Second State Legislature

Regular Session of 2003

State of Hawaii

Sir:

Your Committee on Commerce, Consumer Protection and Housing, to which was referred S.R. No. 21 entitled:

begs leave to report as follows:

The purpose of this measure is to urge the State Administration to pursue litigation against ChevronTexaco for the nonpayment of taxes.

Testimony in support of this measure was received from WG & Associates and four individuals. The Attorney General and an individual provided oral testimony.

A report by Professor Jeffrey D. Gramlich and Professor James E. Wheeler of the University of Michigan and University of Hawaii has uncovered evidence that Chevron and Texaco (now ChevronTexaco) may have engaged in a complex fraudulent transfer pricing scheme for more than three decades that involved the purchase of Indonesian crude oil at inflated prices and kickbacks in the form of price rebates and free oil.

Through these transactions, the oil companies allegedly evaded the payment of billions and millions of federal taxes and state taxes, respectively, by overstating their costs of doing business and taking a credit on foreign taxes paid on overstated revenue. Further, because oil was sold to the companies' domestic subsidiaries at inflated prices, gasoline refined and manufactured therefrom was likely sold at inflated amounts.

Your Committee finds that the actions of ChevronTexaco may have hurt the State and its residents. Over the years, the transfer pricing scheme may have deprived the State of millions of dollars in tax revenue that could have been used and are still needed to fund necessary government programs and services. Today, the State continues to deal with a budget shortfall that has resulted in cuts in funding for education and for social services needed to help the most needy and vulnerable in our communities. In addition, Hawaii's motorists may have been the victims of gasoline overcharges for many years.

Your Committee believes that the State should pursue legal action with respect to the oil company to recover potentially millions of dollars owed in back taxes, in addition to interest thereon and penalties, and to immediately stop any further wrongdoing. Based on information recently reported by ChevronTexaco regarding its Indonesia operations and a decline in net oil-equivalent production, Professor Wheeler concludes that the transfer pricing scheme is ongoing and continuing to deprive the State of tax revenues.

Your Committee further believes that the State should avoid any undue delay in taking action. With the merger of Chevron and Texaco in 2001, the operations of the companies are no longer separately reported, thereby making any fraudulent or illegal activities less transparent. Further, a delay will make litigation more difficult, since over time, witnesses' memories may fade and potential witnesses may be difficult to locate. Therefore, it is critical that the State act in a timely manner.

The prominent and highly-regarded Chicago-based law firm of Winston and Strawn has expressed an interest in representing the State in a lawsuit against ChevronTexaco and is currently under a short-term retainer to the State for the purpose of investigating a possible claim against the corporation. Should the State retain Winston and Strawn to represent it in litigation, the law firm will assume all litigation costs, unless the State terminates the retainer, and will take its fee as a percentage of any judgment awarded to the State. Therefore, unlike the State's prior lawsuit against the oil companies, the financial risk to the State is minimal.

For all of the above reasons, your Committee concludes that there are compelling reasons to pursue legal action in this matter and urges the State to move forward. Finally, Your Committee requests that, as the investigation proceeds, the Attorney General keep your Committee informed of decisions pertinent thereto and of the timeframe for the proceedings therein.

Your Committee has amended this measure to reflect that:

As affirmed by the record of votes of the members of your Committee on Commerce, Consumer Protection and Housing that is attached to this report, your Committee concurs with the intent and purpose of S.R. No. 21, as amended herein, and recommends its adoption in the form attached hereto as S.R. No. 21, S.D. 1.