In the early phase of the development of infrastructure projects, an essential factor in making a decision to pursue the particular project is the political and investment risk of a country. Investors and their lenders will usually establish as part of their due diligence process whether there is an investment treaty in place between the investor's home country and the country where the project is situated. These treaties usually follow a standard form and are primarily designed to promote foreign investment by offering the investor protection for any assets acquired, minimising loss and risk in the case of expropriation and providing a framework for dispute settlement. The main type of investment treaty offering this protection is a bilateral investment treaty between two countries ("BIT"), although inter-regional and multi-lateral treaties also exist (as do sector specific treaties such as the Energy Charter Treaty). A full list of all BITs in force can be found at icsid.worldbank.org.
BITs usually contain provisions on: (i) the right of entry of nationals and the establishment of a company in the other party's country; (ii) the unrestricted repatriation of capital, property and other assets; (iii) conditions relating to expropriation and nationalisation (which should be non-discriminatory and with fair compensation); (iv) most-favoured-nation treatment (where one country treats investments of the other country's nationals no less favourably than its own nationals); (v) the levels of compensation available (e.g. due to war, national emergency and riots) and (vi) a guarantee of due process of law. Each of these areas is an important factor to consider when dealing with foreign direct investments in developing countries, particularly when considering the strength of termination compensation provisions in project documents as well as the level of political risk insurance that may be required.
BITs also usually include a provision stating that the government will allow international arbitration of any dispute between it and a national of the other treaty country. States usually submit to ICSID, the International Centre for the Settlement of Investment Disputes, a World Bank sponsored institution. Often the treaty may offer a range of arbitral options. The claimants' choice as to which of the options to go for will depend on the nature of the dispute and an analysis of the enforceability of any award that might be won. When reviewing a BIT, it is important to consult with an arbitration specialist to ascertain the advantages and disadvantages of each procedural route.
Recent arbitral awards have made interesting reading for investors and their lenders, although it is worth expressly noting that international arbitral decisions, unlike court decisions in common law jurisdictions, do not have a system of precedent and that tribunals are under no obligation to adopt previous tribunals' approaches.
However, although ultimately each arbitration turns on the evidence presented to the tribunal at the time, awards by highly regarded tribunals are sure to be persuasive in subsequent similar claims. In that regard, one recent decision has given an encouraging sign to investors.
The defence of "necessity"
An arbitral award handed down by an UNCITRAL tribunal in proceedings brought by the UK entity National Grid PLC against the Republic of Argentina was published earlier this year. The tribunal found the Republic of Argentina liable to National Grid for damages totalling more than US$53 million. This sum was compensation for the devaluation of National Grid's investment in the Argentine electricity transmission system as a result of legislation amended by the Argentine Republic in 2001-2002. The legislation, among other things, had the effect of revoking National Grid's right to calculating its tariffs in US dollars and converted the remuneration due to the National Grid company into Argentine pesos at the artificial rate of one peso to one US dollar.
National Grid argued that Argentina had treated its investment unfairly and inequitably and failed to provide its investment protection and constant security. On these grounds (but not on the wider assertions regarding expropriation and discrimination), the tribunal found that Argentina had breached the standards it owed to the claimant's investment under the UK-Argentina BIT.
Argentina's defence had centred around the fact that the measures it had taken in amending its convertibility laws were taken in response to a "state of necessity" (as defined under the Draft Articles on State Responsibility). The tribunal held that fiscal policies and labour market rigidity (as well as external debt) were contributing factors to the Argentine crisis of 2001-2002, and that these were within the control of the Argentine government and that therefore Argentina had contributed to the state of necessity. The "state of necessity" defence may not be invoked if the State has contributed to the situation of necessity and so the Argentine defence failed.
In fact, the "state of necessity" defence has rarely been invoked successfully under international law, although it is worth noting that it was successfully claimed by Argentina in the LG&E Energy case in 2006, a case with assertions similar to the National Grid case. Due to the lack of a system of precedent, and particularly in these times of economic difficulties, it is important for international investors to know with a level of certainty whether a government's actions in times of economic crisis that adversely affect foreign investments can be defended on the grounds of "necessity" or any other defence. The National Grid decision seems to give a positive message to investors.
Since states are free to negotiate their BITs by broadening the scope of the defences available to them (e.g. states could draft in a defence of national security), investors are advised to seek expert advice to check the relevant BIT very carefully to ensure that their investments are adequately protected.
Who is the investor? Piercing the corporate veil
Another area to look at when analysing the protection offered by a BIT is the nationality of the investor. BITs usually define an investor's nationality according to the place of its incorporation. Under the TSA Spectrum de Argentina case brought against Argentina in respect of the Netherlands-Argentina BIT, an ICSID tribunal rejected TSA's claim that it was a Netherlands national for the purposes of the BIT. Even though TSA met the criteria specified by the BIT (i.e. it was incorporated in the Netherlands), the tribunal held that TSA did not meet the ICSID Convention's independent objective standard of "foreign control" (the tribunal looked to ultimate ownership and the make-up of its board of directors). This is a move away from tribunals' reluctance to look to the ultimate ownership of investments and is highly relevant for tax-driven or offshore investments. The important thing to note is that just because an investor may think that they are covered under a treaty, this is not wholly determinative as, for example, ICSID can look at external factors in assessing nationality.
Other recent developments in investment treaties
- Although details have not yet been publically released, the South Africa miners' case is still in international arbitration. The claimants accuse the Republic of South Africa of violating protections in the RSA-Italy and RSA-Belgium/Luxembourg investment treaties. The contention is that South Africa's new system of mining rights expropriates pre-existing mineral rights of foreign investors. New obligations include hiring historically disadvantaged South Africans which the claimants assert violate the treaty undertaking of fair and equitable treatment to foreign investors. Investors in the African mining sector in particular are awaiting the outcome of this arbitration and hoping that the briefs and outcome will become public in due course.
- Finally, on the European front, Advocate-General Maduro of the European Court of Justice published in March 2009 an opinion finding that pre-accession BITs entered into between Austria, Sweden and non-EU countries were incompatible with the EU Treaty. The BITs contained clauses which guaranteed investors the right to move investment capital without undue delay. The EU has the right to restrict capital flows between EU Member States and third countries in exceptional circumstances and Austria and Sweden's BIT obligations were therefore found to be incompatible with the EU Treaty. If the ECJ follows AG Maduro's advice (which it is likely to do), Austria and Sweden will have to renegotiate their treaties. It is worth noting that if the Lisbon Treaty is ratified, it will also lead to renegotiation of pre-existing BITs by several Member States, including important BITs, e.g. with Russia, China and India.
In the light of this movement in the landscape of investment treaties, we set out below a list of key points to bear in mind when reviewing whether a BIT or other investment treaty gives an adequate level of protection to an investor:
(a) Nationality of the investor and the investment
Take the example of a Dutch based oil company investing in an LNG plant in a Western African nation. There may be a BIT between the Netherlands and the Western African nation, but for tax reasons, the project company making the investment may be incorporated offshore. Whether or not the offshore SPV qualifies for the BIT protection will be a matter of fact and interpretation of the definition of "investor" under the relevant BIT. The starting position will be a strict interpretation of where the company seeking protection is incorporated.
As per the TSA case outlined above, there is also increasing opposition to the use of "letter-box" companies in jurisdictions which establish domicile for tax reasons and to claim BIT protection. An investor should always be advised of this risk as an arbitral tribunal may look behind the corporate structure to see whether an investor or investment is truly from the country party to the BIT.
(b) Enforcement and time taken
The National Grid case shows that it can take several years to get an award (and even longer to have one enforced). As Argentina is a signatory to the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards, enforcement of the National Grid award should be upheld by an Argentine court. However, there is always a risk with international arbitration that a claimant may have difficulty in enforcing an award. In addition, time delay factors should be borne in mind.
(c) Choice of arbitral tribunal
Investors and their financiers should always ensure that they receive specialist arbitration advice on whether arbitration should be ad hoc or administered and whether it should be carried out under the auspices of a particular arbitration institution (e.g. ICSID or UNCITRAL). The enforceability of the award, jurisdictional objections available to respondents, the availability of interim measures and confidentiality concerns will all be relevant factors that need to be analysed before advising an investor on the appropriate course of action.
Bolivia became the first country in 2007 to denounce the ICSID convention. Venezuela and Nicaragua intend to do so and Ecuador no longer allows disputes over its natural resources to be submitted to ICSID arbitration. When dealing in these jurisdictions, it is important to get detailed advice if seeking to rely on an investment treaty as an investor may be more inclined to bring claims under UNCITRAL rules (if this is allowed under the relevant BIT).
(d) Lenders as investors
Investors' financiers often seek advice as to whether they count as "investors" and whether loans count as "investments" under investment treaties, thus affording loan protection. The answer to this depends on the specific drafting of the definitions in the BIT, but in many instances lenders have become comfortable with protection offered to the investor itself, given the investor should be obliged to apply any compensation proceeds to repay the loan. Lenders also have comfort if the borrower retains offshore accounts to repatriate funds (which are allowed under most investment treaties).
(e) Survival of BITs
BITs should always be reviewed to ensure that they include survival clauses which state that the BIT will continue to apply to existing investments for a specified period after termination of the BIT. These clauses must contain a clear expression of consent.
(f) Political risk insurance ("PRI")
Finally, PRI is a good way of mitigating political risk and should always be considered, although it may not be deemed to be a cost-effective solution.
For further information on these or other issues relating to foreign investment, please contact one of the Trinity team.