Is The Sun Setting On BITs?

 

3 January, 2018

 

 

Bilateral investment treaties ("BITs") have become part of the "common currency" of protection for international investments and are widely recognised as powerful tools. They provide investors with a direct means of redress against the host state in the event certain minimum standards of protection are not observed. As well as providing potential means of redress when disputes arise, the protections that BITs afford are potentially invaluable tools to influence state behaviour both during the initial negotiation process and, tactically, in any post-investment engagement with the host state. Given this perspective on the investor side of the equation, it is striking that a number of host states have sought to terminate their BITs in recent years. 

 

Ecuador announced earlier this year that it would terminate all 26 of its BITs (including with the US, Canada, China and a number of European countries). The decision to do so followed recommendations from a national investment treaties audit commission, established after Ecuador was ordered to pay US$2.3 billion to US oil company Occidental. 

Ecuador is not alone. India also announced this year that it would be terminating 58 of its 83 BITs. South Africa has been terminating its BITs since 2012, with nine brought to an end to date. Ireland and Italy withdrew from all of their intra-EU BITs in 2012 and 2013, with Poland, Austria, the Czech Republic, the Netherlands, Slovakia and Romania following suit shortly thereafter, all prompted by the European Commission's determination that intra-EU BITs are incompatible with European law. 

The trend of host states terminating BITs has, at least in part, been prompted by the rise of high value awards often made against the stretched budgets of emerging market economies, commonly in respect of politically fraught projects.

 

The position has been exacerbated where the actions which are the subject of proceedings are those of previous governments (sometimes governments overthrown as a consequence of such actions). Investor-state dispute settlement ("ISDS") has also come under closer scrutiny by "civil society", with critics deriding it for amounting to "hotel room justice" where arbitration hearings in politically charged cases take place in private, away from public scrutiny, in the meeting and conference rooms of luxury hotels. 

 

But what does BIT termination mean for investors and how can the growing trend for withdrawal be anticipated and safeguarded against? This article considers the position of foreign investors when a state withdraws from a BIT and whether the actions of Ecuador and others are indicative of a forthcoming "paradigm shift" whereby public international law and treaty obligations will have less of a role to play and investors will be protected only to the extent they have managed to draft watertight contractual documentation or are investing in a country with favourable domestic investment laws.

 

Withdrawal – the end or not?

 

The Vienna Convention on the Law of Treaties ("VCLT") is clear that a host state can only terminate a treaty in defined circumstances. Those circumstances are:

 

• Where the provisions of the treaty itself permits withdrawal/termination;1
• Where all parties consent following a period of consultation;2
• Upon material breach by the other state party;3
• Upon breach by the other state party leading to impossibility of performance;4  and
• Where there is a fundamental change of circumstances.5

 

The treaty itself can further limit the extent to which a state can terminate or, at least, the effect of any such termination. 

Some treaties can be terminated only following expiry of an initial term (or at set intervals thereafter). Notice of withdrawal or termination will generally be required. The VCLT requires at least three months' notice to be given.6  Even then, the terminating state can only proceed if no objections have been raised by any other party.7  If objections are raised, Article 33 of the UN Charter has to be followed (which provides for negotiation, enquiry, mediation, conciliation, arbitration, judicial settlement, resort to regional agencies or arrangements or other peaceful means – meaning further delay).8  

Even once the applicable notice period has been served, a BIT can effectively continue in force for some time. Most BITs contain a "sunset clause", providing for their provisions to continue in effect for a specified period following termination. Sunset clauses in some cases extend up to 20 years (e.g. the South Africa-UK BIT) and mean that a state will remain bound by its treaty obligations for a period of time notwithstanding a decision to terminate. 

Termination also has little impact on investors that have already commenced arbitration proceedings. Article 70 of the VCLT is clear that termination cannot have retroactive effect – it provides for termination not to affect any right, obligation or legal situation created through execution of the treaty prior to termination unless the treaty itself provides otherwise or the parties otherwise agree. It is hard to see a situation in which a state could successfully argue that an investor who had commenced proceedings against it had consented to termination taking effect so as immediately to preclude its pursuit of those proceedings. 

Even where proceedings have not yet been commenced, states remain liable for treaty violations committed prior to or during the notice period where a sunset clause is in place. Indeed, it is on that basis (although in relation to a multilateral context) that Italy is now facing a claim from an investor under the Energy Charter Treaty despite having withdrawn from it.9  

So as to circumvent such risk, some withdrawing states (including Romania and the Czech Republic in relation to the termination of their treaties with Poland) have sought to terminate the sunset clause together with the rest of the treaty, or to modify the treaty so as to remove or shorten the sunset clause prior to withdrawal. The extent to which such steps will in fact bar claims subsequently being brought against the state is unclear. However, an investor may have lower prospects of success if a replacement treaty or similar regime is to be entered into.

 

What next?

 

It seems likely – given the continuing rather hostile public scrutiny of ISDS and the European Commission's conclusions with respect to intra-EU BITs – that states which consider themselves as likely to be on the "wrong end" of arbitration awards will continue to look for ways to move away from their existing commitments to foreign investors. Whether they do that by simply terminating their BITs or instead by seeking to amend them in a manner that "draws their teeth" remains to be seen. 

Either way, investors should be clear as to the provisions in relevant treaties concerning sunset clauses, notice periods, objection rights and any other applicable treaty wording making clear the impact on their rights and obligations, accrued or otherwise. 

Investors should also consult their wider contractual documentation as it may be that relevant investment agreement – or even national law – provide an alternative means of redress in the event of a failure by the state to protect their investment. 

For new investments, water tight contractual documentation should be prepared which ensures investment protection on a private law basis that is as effective as possible. Consideration should also be given at the outset to how favourable the host state's domestic investment laws are.

Once the investment has been made, a close eye should be kept on the relevant state's approach to foreign direct investment and investment protection. It may be the case that BITs have been something of a "victim of their own success" or that host states performing a "realpolitik" assessment see that the treaties in fact do little to promote investment but can act harshly against host states taking steps seen by their governments as being in the legitimate interests of their citizens. Whatever the underlying reasons (and whatever the "rights" or "wrongs"), it will certainly be increasingly important that a "watching brief" is maintained on host states' attitudes to their treaty-based investment protection commitments.
 

Notes 

 

1. VCLT, Article 54.
2. VCLT, Article 54.
3. VCLT, Article 60(2).
4. VCLT, Article 61.
5. VCLT, Article 62.
6. VCLT, Article 65(2).
7. VCLT, Article 65(3).
8. VCLT, Article 65(3).
9. Rockhopper Italia s.p.A. and others v Italian Republic, ICSID Case No. ARB/17/14.

For further information, please contact:

 

Emma Martin, Ashurst

Emma.Martin@ashurst.com