In 2002, facing an economic crisis, the Argentine government devalued the peso and converted tariff agreements held in dollars to the local currency. The action helped stabilise the economy, but saw the country facing 30 separate arbitration claims by angry investors.
Fast-forward to the present. Venezuelan leader Hugo Chávez has pushed multinational oil companies to transfer their assets into new joint ventures with a state company. Companies that rejected the arrangement have had their assets seized. It’s a more cut-and-dried violation of BITs than Argentina had committed six years ago; yet to date, only two arbitrations have been filed against Venezuela. Have investors abandoned arbitration as a means of redress?
Disputes between states and investors have mushroomed, often under the auspices of ICSID, the World Bank-hosted International Centre for the Settlement of Investment Disputes. In 2001, ICSID had 44 cases before it. By 2006, the figure was 118.
The trend has been largely fuelled by instability and resource nationalism in Latin America. But many observers feel the lack of Venezuelan disputes is a sign that investors may now be losing faith in arbitration as a way of responding. They point to the slow and expensive progress of the Argentine disputes. “We’ve seen major disputes run on for five or more years without anyone receiving a penny. The cost to run a case forthat time is enormous,” observes Nigel Blackaby of Freshfields Bruckhaus Deringer. “Clients are growing increasingly concerned.”
In many respects ICSID is a victim of its own success. The 41-year old institution has struggled to cope with the unprecedented surge of activity it has seen in recent years. “We’ve seen cases at ICSID taking more and more time, largely because of a shortage of arbitrators,” explains Mark Baker of Fulbright & Jaworski in Houston. “They work hard and they’re talented, but there’s a real problem of resources.”
In addition, strategic considerations are causing investors to resist disputing even clear treaty violations. “Disputes can ruin long-term relationships,” notes Kaj Hobér of Mannheimer Swartling. “Sophisticated players will often prefer to resolve matters amicably. You’re seeing some of the larger energy companies taking a more strategic view.”
It is not just investors, however, who are losing enthusiasm for the investment arbitration mechanism. States, too, are increasingly concerned. In May this year, Bolivia announced it was withdrawing from the Washington Convention that binds it to enforce ICSID rulings. Laurence Shore of Herbert Smith believes it’s indicative of a wider malaise. “The investment arbitration process has hit some states harder than they could have expected,” he explains. “Many states have been alarmed by a few very large damages awards issued to investors – even if the record as a whole does not indicate, to date, that the process is tilted in investors’ favour.”
Yves Derains, of Paris boutique Derains & Associés, understands states’ concern. “There are an awful lot of bad cases out there, that have gone beyond the jurisdiction stage,” he explains. “States have had a nasty surprise in terms of the kinds of claims they’re having to defend.” The American contractor Bechtel met with a storm of criticism for placing a $50 million claim against Bolivia after it was forced to abandon a water services contract when price rises triggered widespread civil unrest.
It’s not yet clear whether other states will follow Bolivia into denouncing ICSID. But states are becoming more adept at avoiding disputes. “Ministries are far more sophisticated than ten years ago,” explains Mark Baker.
Christian Leathley, of Clifford Chance’s New York office, agrees. “I recently attended a training session for a Latin American government on investment law and arbitration. It was the first time the lawyers from all the different ministries had come together to discuss it,” he recalls. “There’s a huge education process going on. Governments are beginning to understand what their obligations are, and how to carry out their policies without triggering arbitrations.” As one practitioner remarks, “Argentina triggered so many disputes because they handled it badly. They left people with no recourse but to dispute. States won’t make the same mistakes again.”
In addition, many of the bilateral investment treaties themselves, that form the underpinning of the investment arbitration system, are due for renegotiation in the next few years. “Many states didn’t really understand the significance of some of the commitments they were entering into when these treaties were drafted,” explains Greg Reid of Linklaters. “This time round they’ll push hard for a narrowing of protections.” Bolivia has already announced its intention to renegotiate its existing BITs to narrow the definition of “investor”.
So are the glory days of the investment treaty dispute over? Law firms certainly hope not. For the ever-growing roster of international firms attempting to establish international arbitration practices, investment arbitrations are a key building block. “It’s become a sexy thing to do,” admits a Yves Derains. “The parties are interesting, it’s international, and unlike in regular arbitrations, it offers the chance to contribute to jurisprudence. So those with even just one case under their belts flaunt it.” As Eric Schwartz, of LeBoeuf Lamb Greene & McRae notes, “it’s hard to get publicity for commercial arbitration work because of confidentiality. With investment arbitrations, you can boast.”
Fortunately for the ranks of aspiring arbitration gurus, the signs are not all inauspicious. It’s by no means clear, for example, that Bolivia’s denunciation of ICSID will start a trend. Venezuela, which also declared its intention to withdraw, has yet to act on the threat. As Nigel Blackaby points out, there are significant risks to denunciation. “Why did Argentina – with 30 major cases against it – never denounce ICSID? Because they know it’s economic suicide to withdraw protections. There are a handful of states – the ones that are so important you can’t avoid them, like Brazil – who might be able to see it as an optional extra. But for most it’s essential.” Indeed, ICSID continues to spread, with Canada and Serbia the most recent contracting states.
And while major multinationals may be willing to negotiate with states, smaller companies often have no choice but to dispute hostile state actions. Kaj Hobér gives the example of the US oil company Occidental, which began arbitration proceedings against Ecuador after it was expelled from the country last year. “Smaller operators have fewer resources and can’t simply shrug off the loss of assets,” explains Kaj Hobér. “For them it’s business-critical and they’ll always stand up and fight.”
Even if Latin American disputes do level off, observers note, a host of new markets will help pick up the slack. In particular, Eastern Europe and Central Asia are growing sources of investment disputes. The two areas accounted for 52% of the arbitrations registered with ICSID in 2006. “Eastern European economies, like Latin America’s, are very resource-focussed, and very dependent on external investment,” explains Nigel Blackaby. In addition, adds Kaj Hobér, “governments there are radically reforming their economies, which can often trigger disputes.”
Middle Eastern disputes are also increasing, as states struggle to adjust to their treaty commitments. “States in the region aren’t always fair to investors,” comments one practitioner. The region’s instability is also a driver. “Wherever there’s turmoil or a change of government, you can expect disputes,” says Nigel Blackaby.
The increasing size of investment arbitrations, Nigel Blackaby argues, is evidence that investors still value the technique. “Doom-mongers have been calling investment arbitration a flash in the pan from the beginning, but that’s not the case,” he explains. “Investors have become more confident with it.” The world’s largest investment arbitration, between YUKOS shareholders and the Russian Federation, is worth an estimated $58 billion. “Nobody’s scared of large numbers any more.”
Indeed, as Yves Derains points out, even commercial disputes can end up generating investment arbitrations. “If you have a dispute with a company, often there’s a state change underlying it,” he explains. An oil supplier’s breach of contract may stem from the renegotiation of their contract with the government. So there will often be scope for an investment dispute as well as the commercial arbitration. “Companies are more and more aware that this option is open to them. When you discuss matters with them, they’re more and more likely to ask if ICSID is an option.”
As levels of foreign investment worldwide increase, it seems likely that disagreements between states and investors will continue. Investment arbitration remains a key part of the arsenal of aggrieved investors. “The threat of arbitration has become part of the negotiation tactics of investors,” notes Nigel Blackaby. “States have developed a real sense of what they have to lose from arbitration, and that knowledge can push them into making a deal.”
Not always, though. At the time of writing, Exxon had just announced that it was “disappointed” with the results of its negotiations with the Venezuelan government, and had filed a request for arbitration at ICSID. Sometimes, it seems, the only option is to fight.