MASTER TRACK
International and European Law: Public International Law
Master thesis
ENEMY OF THE STATE: IS TREATY SHOPPING IN
CONTRADICTION WITH THE RATIONALE OF
INVESTMENT LAW?
Author:
Jan Primec
Student no. 10839941 Total ECs: 12
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Contents
1. Introduction ... 3
2. The Global Reach of Investment Agreements ... 6
2.1. International Investment Agreements in Numbers... 6
2.2. Different Generations of Investment Agreements ... 9
2.3. The Main Provisions of International Investment Agreements ... 9
2.4. Increasing Number of Investor-State Dispute Settlement Cases ... 10
2.5. The Importance of the Washington Convention ... 11
2.6. Underlining the Crux of the IIA System ... 12
3. Treaty Shopping ... 12
3.1. Determining the Corporate Investor’s Nationality ... 13
3.2. Reasons for Treaty Shopping ... 14
3.3. Treaty Shopping Methods ... 15
3.4. Considerations for the Treaty Shopper... 16
3.5. Considerations for the State ... 18
3.6. Approaches of Arbitral Tribunals to Treaty Shopping... 21
3.7. Conclusion – a Paradox? ... 26
4. From Gunboats to BITs – What is the Rationale and Purpose of Investment Law and Investment Arbitration? ... 28
4.1. The Development of Investment Law ... 28
4.2. Development and the Primary Goals of Investment Arbitration... 31
5. Enemy of the State? Treaty Shopping Viewed Through the Lens of the Rationale of Investment Law ... 33
5.1. Challenges to Treaty Shopping ... 34
5.2. Reciprocity ... 35 5.3. State Consent ... 38 5.4. Abuse of Rights ... 39 6. Conclusion ... 41 6.1. Finding a Solution? ... 42 7. Bibliography ... 44
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1.
Introduction
The world of today is more interconnected than ever before in the areas of international trade and investment. Capital no longer flows solely in the direction from the developed countries to the developing world, but also the other way. Inter-state treaties for the protection of nationals and their property abroad are not a new phenomenon. However, in the context of international investment agreements (‘IIAs’), it is only in the second half of the 20th century when their numbers have skyrocketed. The global IIA regime has reached 3.200 IIAs at the end of 2013,1 the majority of them being bilateral investment treaties (‘BITs’). This proliferation of treaties has also brought about an increase in investor-state disputes.
Despite this intricate global network, there is no world-wide adopted treaty or international customary law rule which would level the playing field and oblige states to accord equal treatment to all investors, regardless of which state they come from. Inequalities still exist. Consequently, international investment law witnesses a growing number of treaty shopping situations, where the investors try to abide the rules on nationality of claims by incorporating in countries of convenience, thus gaining the access to favourable IIA provisions and dispute settlement mechanisms, to which they would otherwise have no access. Treaty shopping raises several issues: it is argued, inter alia, that it undermines the principle of reciprocity; that it constitutes an abuse of rights; and that it overstretches the boundaries of states’ consent to arbitrate investment disputes. But does it also conflict with the primary goals and the rationale of the investment law system?
Arbitral tribunals have had a few occasions to pronounce upon treaty shopping. Although expressing concern about it, in many cases tribunals found themselves bound by broad definitions of ‘investor’ in BITs – i.e. tribunals declined to lift the corporate veil and look beyond the incorporation at the real ownership of purported investors. The fact that the investors did not have real economic connections with their new home state, was not enough to render treaty shopping unlawful, as long as the requirement of incorporation was fulfilled. Tribunals made a clear distinction, however, between lawful nationality planning and unlawful treaty shopping. The important factors in distinguishing the two were the (bona
fide) intent behind the restructuring/transfer of assets and the moment in time when it took
place – i.e. before or after the dispute between the investor and the host state arose.
4 The main purpose and rationale of investment law and investment arbitration is to level the playing field and guarantee fair and equitable treatment to investors, as well as to provide an effective mechanism for settling of disputes, so as to avoid possibly biased and impartial courts of the host state. Indeed, treaty shopping may in some instances lead to abuse of rights and an illegitimate manipulation of the investment protection system. However, ultimately it provides the treaty shopper with nothing more than what the investment law system is essentially offering: fair treatment and impartial adjudication of disputes. From this standpoint, treaty shopping is not in contradiction with the rationale of investment law, but in compliance with it.
There is a paradox regarding nationality which pervades the investment law system: the nationality of the investor is extremely important in the jurisdiction phase, whereas in the merits phase, virtually any distinction made on the basis of nationality is prohibited. The essence of investment agreements is to eliminate differences between investors of different nationalities. Treaty shopping may not transcend this paradox, but it renders it less pronounced by giving the investor more options to plan his nationality in order to obtain maximum protection for his investment – in a lawful manner. Nationality planning has become a standard of diligent management for transnational corporations, and if it is done in a timely manner, it constitutes a perfectly legitimate use of the systems of investment law and investment arbitration.
* * *
Chapter 2 depicts the width and reach of the global IIA network and describes the main substantive contents of the IIAs. Chapter 3 addresses treaty shopping: what is it, how is it done, reasons for treaty shopping, reactions of states to treaty shopping and how did arbitral tribunals decide in cases where treaty shoppers initiated disputes with host states. Following that, a brief history of development of investment law and investment arbitration, revealing the core underlying rationale of these systems, is provided in Chapter 4. Chapter 5 views the notion of treaty shopping through the lens of the aforementioned rationale of investment law and indicates its (un)contradictory nature. It also addresses the issues related to treaty shopping, such as: lack of reciprocity, absence of state consent and the issue regarding abuse of rights. Finally, Chapter 6 offers conclusions and proposes methods for limiting treaty shopping. It also mentions the possibility of negotiating a multilateral agreement on investment, which benefits it would have and what hurdles there are on the road towards its conclusion.
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Keywords
Abuse of rights, bilateral investment treaty, BIT, ICSID, international investment agreement, IIA, investment arbitration, investment law, investor-state dispute settlement, ISDS, MAI, nationality of investors, rationale of investment law, reciprocity, treaty shopping.
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2. The Global Reach of Investment Agreements
2.1.
International Investment Agreements in Numbers
States have traditionally welcomed foreign investment for a variety of reasons. Foreign investment has been regarded as, inter alia: an engine of economic growth; a source of foreign currency income; a stimulator of the local economy and a source of foreign skills, information and know-how. Foreign investment takes place in different forms, including through committing capital resources abroad either directly or through portfolio investment and by licensing the use of technology. Because of the form such investment takes, it requires special protection under the law of the country concerned. Namely, investors who purchase land, establish factories, enter into joint ventures and hire loans, usually commit themselves on a long-term basis.2
Such long-term commitment makes investors vulnerable to expropriation or unfair treatment in countries with unstable governments and legal systems, where undesirable – from the investor’s perspective – changes can happen quickly, with little or no warning. Consequently, investors are disinclined to trust that the legal systems of host states will offer a high enough level of protection for their investments. Hence the need arises for long-term protection under special laws operating on an international plane, unaffected by changes in government or host state domestic legislation. Such protection has traditionally been sought under customary international law – namely customary rules on minimum standard of treatment, encompassing fair and equitable treatment and protection from expropriation.3 More recently, BITs and other IIAs have assumed the main role in protecting foreign investment. 4
Unlike host country laws on foreign investment – which can also offer adequate protection and incentives to foreign investors, but are liable to change – no state can unilaterally change international law or the provisions of IIAs. IIAs (or ‘investment treaties’) are agreements between two or more states in which each Contracting State agrees to promote and protect investments made in its territory by investors of the other Contracting
2 Subedi, International Investment Law, 2008, p. 83. 3
Ibid, p. 63, 74.
7 State or States.5 Although any legal protection of foreign investment is always provided under the law of the host state, domestic law always has to conform to the commitments undertaken by the state concerned either under IIAs or the principles of international law.6
The year 1959 is usually recognized as the year the first modern BIT was signed between Germany and Pakistan.7 Nevertheless, since the 18th century onwards, states were signing treaties of Friendship, Commerce and Navigation (‘FCN’), whose contents were very similar to those of the first BITs.8 Since 1959 the number of IIAs increased steadily until 1990, when the rate of increase jumped. With under 400 BITs in force at the beginning of 1990, by 1995 the number was over 1000, and by the 2000 there were over 1800.9 Today, there are over 3200 IIAs in force,10 and while the peak of negotiations might have been reached, the end is not foreseeable.11 Although the majority of them are BITs, the term ‘international investment agreement’ also includes regional investment treaties (i.e. the Energy Charter Treaty (ECT); the ASEAN Comprehensive Investment Agreement; the Transatlantic Trade and Investment Partnership (TTIP), etc.) and investment protection provisions of free trade agreements, such as Chapter 11 of the North American Free Trade Agreement (NAFTA).12
This figure represents the increase and absolute numbers in IIAs from 1983 until 2013:13
5
Skinner, Miles & Luttrell, Access and Advantage in investor-state arbitration, JWELB, 2010/3, p. 262 [online].
6 Subedi (n 2), p. 84.
7 Skinner, Miles & Luttrell (n 5), p. 262. 8
Sornarajah, The International Law of Foreign Investment, 2010, p. 180.
9 Schefer, International Investment Law: Text, Cases and Materials, 2013, p. 1. 10 UNCTAD World Investment Report 2014 (n 1).
11 Schefer (n 9) p. 1. 12
Ibid.
8 The sheer number of BITs, combined with the remarkable uniformity in their provisions, makes them a valuable source of state practice. While normally great care has to be taken in inferring the existence of a rule of customary international law from a range of bilateral treaties, the number and uniformity of BITs make them significant exemplars.14 Nonetheless, despite the excitement about classifying their substantive matter as customary law, the prevailing view among experts is that such a conclusion is as yet premature.15 IIAs are best seen as creating lex specialis between the parties rather than creating customary principles of international law on foreign investment. However, the fact that they have the potential for the creation of such customary rules, contributes to their importance.16
The world is becoming increasingly interconnected. In the first decades of the BIT era, the treaties were negotiated between developed and developing countries so as to secure their investors and investments from political risk and the weak and corruption-prone legal systems of developing states. Nowadays, BITs are very often concluded also between developing/developed states themselves.
Figure 2 above (the ‘spaghetti-bowl’ metaphor) represents the multi-layered nature of the global IIA regime and the intertwined network of bilateral and multilateral treaties.17
14 Shaw, International Law, 2014, p. 609.
15 Muchlinski, Corporations and the Uses of Law, Oñati Socio-Legal Series, 2011/1, p. 11 [online].
16 Sornarajah, (n 8), p. 176-177; Schwebel, In Defence of Bilateral Investment Treaties, 22nd ICCA Congress
Miami Opening Ceremony, 2014, p. 5 [online].
17
UNCTAD, based on World Bank, 2005 [online]; Karl, The ‘spaghetti bowl’ of IIAs: The end of history?, Columbia FDI Perspectives, 2014/115, p. 1-3 [online].
9 As a side note, it should be envisaged that the IIA network is still far from universal, and there are still many countries who are not signatory to any IIAs and have concluded very few or no BITs at all. Consequently, customary international law rules on treatment of foreigners and their property will continue to play an important role in this regard.
2.2.
Different Generations of Investment Agreements
When reviewing investment treaties, it is helpful to distinguish between the different generations of BITs. The BITs signed between 1959 and the mid-1980s are generally referred to as the ‘first generation,’ and those signed between the mid-1980s and the mid-1990s as the ‘second generation.’ ‘Third generation’ agreements are those concluded since 1995.
According to UNCTAD, a few important trends are visible in this new generation of investment agreements, which has been gradually emerging since the mid-1990s: firstly, agreements address a broader set of issues than specific economic aspects: i.e. protection of health and safety, environmental concerns, promotion of labour rights, social security, etc. Secondly, revised wording of various substantive treaty obligations emerges as new patterns of BIT formulation. Thirdly, there is a deviation from the traditional open-ended asset-based definition of investment, in order to prevent abusive practices in which assets were covered that were not intended by the parties to be covered investments.18 The latter trend is especially relevant for the notion of treaty shopping, since it represents one of the methods to limit this practice.
2.3.
The Main Provisions of International Investment Agreements
Although thousands of IIAs have been concluded, the basic characteristics of such treaties – especially BITs – are more or less the same.19 Investment agreements typically consist of three main elements:1. Definitions – such as what constitutes an ‘investment’ and who qualifies as an ‘investor’ for the purposes of the treaty, thus establishing the scope and reach of the treaty;
18 Van Os & Knottnerus, Dutch Bilateral Investment Treaties: A gateway to ‘treaty shopping’ for investment
protection by multinational companies, SOMO Report, 2011, p. 11 [online].
10 2. Substantive obligations for host states, such as non-discriminatory treatment, fair and equitable treatment, prohibition of expropriation without compensation, national and most-favoured-nation treatment, etc;
3. Provisions on investor-state dispute resolution, thus offering the possibility of international arbitration.20
In this last element, investment treaties differ from other inter-state treaties. It is a very common characteristic of investment protection treaties to allow foreign investors to bring a claim before an international tribunal against the host state directly, despite investors not being a party to the actual treaty (i.e. ‘arbitration without privity’). Often, there is also no need to exhaust local remedies before arbitration is initiated.21
2.4.
Increasing Number of Investor-State Dispute Settlement Cases
Until the early 1990s, international investment law had not produced any significant case law. In the last 25 years, this situation has changed dramatically.22 Simultaneously with the increase of the number of IIAs concluded, the number of dispute settlement procedures (mainly arbitrations) began to rise. This was the direct consequence of the availability of investor-state arbitration in the last-generation BITs.23 The number of investor-state disputes inflated from 6 known cases in 1995 to 226 in year 2005 and up to 390 by the end of 2010.24 The year 2013 saw the second largest number of known investment arbitrations filed in a single year (56), bringing the total number of known cases to 568. More than 50% of cases are resolved in favour of the state.25 It is noteworthy that these numbers do not include ad hoc arbitrations which are conducted in secrecy and confidentially, away from the public eye.The following graph represents the rise in investor-state dispute settlement cases over the last two decades:26
20 Dolzer & Schreuer, Principles of International Investment Law, 2012, p. 13 [online]; R. Van Os & Knottnerus
(n 18), p. 10.
21
Van Os & Knottnerus (n 18), p. 10.
22 Dolzer & Schreuer (n 20), p. 11. 23 Ibid.
24 Van Os & Knottnerus (n 18), p. 10. 25
Skinner (n 5), p. 264.
11 Investor-state disputes are resolved by international arbitration, usually under the auspices of one of the following institutions: the International Centre of the Settlement of Investment Disputes (ICSID), the United Nations Commission on International Trade Law (UNCITRAL); the International Chamber of Commerce (ICC); the Permanent Court of Arbitration (PCA); the London Court of International Arbitration (LCIA) or Stockholm Chamber of Commerce (SCC).27
2.5. The Importance of the Washington Convention
The most important international agreement concerning the law and practice of investor-state dispute settlement is the 1965 Convention on the Settlement of Investment Disputes between States and Nationals of other States (the ‘Washington Convention’ or ‘ICSID Convention’), establishing the International Centre for Settlement of Investment Disputes (‘ICSID’).28 The latter is a self-contained, independent and internationalized institution, facilitating dispute resolution. It is not supervised or corrected by national courts.29 Only parties to the ICSID Convention member states may resort to ICSID arbitration, and only against other ICSID Convention member states. Indeed, one of the main objectives of the purported treaty shopper will be to secure the availability of an ICSID mechanism by placing the investment under a BIT between ICSID Convention member states,30 also for benefitting from the enforcement and recognition powers in domestic jurisdiction that an ICSID award
27 Skinner (n 5), p. 264; Van Os & Knottnerus (n 18), p. 10. 28 Skinner (n 5), p. 265.
29
Van Os & Knottnerus (n 18), p. 10.
12 bears. The presence of the ICSID clause in a particular BIT will be one of several important items on the sophisticated treaty shopper’s list.31
2.6.
Underlining the Crux of the IIA System
The global network of IIAs undoubtedly has its merits. Investment treaties are seen today as admission tickets to international investment markets. Their limiting impact on the sovereignty of the host state, controversial as it may be in the individual case, is in this sense a necessary corollary to the objective of creating an investment-friendly climate.32 The ISDS mechanism provides for a quick method of dispute settlement and ‘depoliticizes’ quarrels which sometimes amount to billions of euros/dollars and which could potentially have a negative effect on inter-state relations and politics, had they to be resolved in state-to-state proceedings. The fact that ISDS is being more and more widely used, testifies to its effectiveness and practicality.
However, it is important to note that the majority of IIAs are bilateral investment treaties. The notion of having thousands of bilateral treaties instead of one multilateral treaty, or instead of employing customary international law, brings about some other implications as well. One of them is the occurrence of treaty shopping, to which we now turn.
3. Treaty Shopping
The term ‘treaty shopping’ refers to the conduct of foreign investors in altering their corporate structure for the purpose of acquiring the benefits of investment treaty protection in their actual or planned host state through third countries, through which their investment needs to be routed.33 The investor’s home state might not have a BIT with the host state, or it might have it, but its provisions are not as favourable for the investor as the provisions of the BIT between a third state and the host state. The investor will therefore change its corporate structure so as to include in it a corporate entity with the nationality of that particular third state. In this way, he will be able to qualify as an investor from that third state and his investment will be deemed an investment protected by the BIT between the third state and the
31 Skinner (n 5), 265.
32 Dolzer & Schreuer (n 20), p. 525.
33
Van Os & Knottnerus (n 18), p. 9; Skinner (n 5), p. 260; Lee, Resolving Concerns of Treaty Shopping in
13 host state. The treaty shopper usually has no real economic connection with the state through which he has routed the investment. Such intentional structuring of investments through states with which the investor otherwise has no tangible economic or business connection, is known as treaty shopping or nationality planning.
3.1.
Determining the Corporate Investor’s Nationality
The investor must be a ‘national’ of a state party to the investment protection agreement, in order to enjoy the rights and benefits deriving from it, and also for a treaty-based arbitral tribunal to assume jurisdiction in the event of a dispute.34 In the BIT context, this means that the investor must prove that: (a) he is a national of a state party to the BIT, and (b) that he is not a national of the host state.
Requirements for Corporate Nationality
The most commonly used criteria for determining the nationality of a corporation are: incorporation (e.g. US Model BIT 2012; the Energy Charter Treaty) or the main seat of business (siege social).35 Some treaties, for example the Switzerland – China BIT, additionally require a bond of economic substance between the corporate investor and the state whose nationality he claims to have. Such economic bond may consist of either the effective control over the corporation by nationals of the state or of a genuine economic activity of the company in the state.36 In some treaties, an economic bond is required in addition to incorporation or seat in the country concerned, whereas other treaties contain a complex combination of incorporation, economic activity in the country and control by nationals (e.g. the Switzerland – Iran BIT).37 Again in other treaties, mere control by nationals of the state is sufficient event without the formality of incorporation. For instance, BITs of the Netherlands often define corporate nationals as:
(i) legal persons constituted under the law of that Contracting party;
34
Sornarajah, The Settlement Of Foreign Investment Disputes, 2000, p. 196 [online]; Azaino, Nationality/Treaty
Shopping, CEPMLP Annual Review, 2013/16, p. 3 [online].
35 Schreuer, Nationality of Investors: Legitimate Restrictions vs. Business Interests, ICSID Review – Foreign
Investment Law Journal, 2009/24, p. 521 [online].
36
For example the Switzerland-China BIT [online]; The Netherlands – Philippines BIT [online].
14 (ii) legal persons not constituted under the law of that Contracting Party but controlled, directly or indirectly, by natural persons as defined /…/ above or by legal persons as defined in (i) above.38
In other words, incorporation or control by incorporated companies will suffice to attract the benefits of the treaty.39
The rules on determination of corporate nationality are of utmost importance for the purported treaty shopper, since he will most likely not pursue any economic activity or transfer his seat, in(to) the state whose nationality he wishes to obtain. Thus, he will opt for the nationality of whichever state has a particular BIT with the host state, and that BIT does not require any additional conditions apart from incorporation, for a legal entity to be deemed a national of that state. In Tokios Tokeles v. Ukraine case, the tribunal held that ‘under the terms of the Ukraine – Lithuania BIT/…/the only relevant consideration is whether the Claimant is established under the laws of Lithuania. We find that it is. Thus, the Claimant is an investor of Lithuania under/…/the BIT.’40 This was despite the fact that Claimant was 99% owned by Ukrainian nationals. Although Claimant was financially Ukrainian, it was legally Lithuanian.41
3.2.
Reasons for Treaty Shopping
The typical objectives of an investor when engaging in treaty shopping are:
(a) If the investor’s home state (State A) does not have a BIT with the host state (State
B), the investor wants to place his investment under the protection of the appropriate BIT between State B and State C; or
(b) If State A does have a BIT with State B, to shop into more advantageous provisions of
another BIT between State B and State C.42
Treaty shopping is not confined solely to foreign investors taking advantage of favourable BIT provisions between a third state and target (host) state: also nationals of the host state itself have been known to take advantage of BITs between their state and other states by
38 Ibid. 39 Ibid.
40 ICSID 29.04.2004, Case No. ARB/02/18 (Tokios Tokeles v. Ukraine), Decision on Jurisdiction, § 38 [online]. 41
Skinner (n 5), p. 277.
15 incorporating shell companies in those other states and thereafter transferring their assets to these foreign companies. The reason is that, in this way, they could ‘internationalize’ a domestic dispute and avoid having to go to local courts –they made themselves legally a ‘foreign’ investor and thus gained access to investment treaty arbitration provisions in the BIT.43 For example in Tokios Tokeles v. Ukraine, respondent’s arguments that the investor, due to its ownership structure, is not really a Lithuanian company and therefore does not qualify as an investor for the purposes of the BIT, were rejected by the tribunal.44
3.3.
Treaty Shopping Methods
There are two main methods for treaty shopping: direct and indirect. For example, an investor which is incorporated and has its corporate seat in State A, wishes to invest in state B. States A and B do not have a BIT, however, state B has a very favourable BIT with state C. The investor can either:
(a) incorporate a legal entity in state C (depending on the BIT provisions, this could be
only a letterbox company) and then channel his investment through this shell company (direct method); or
(b) channel his investment through a legal entity which is in turn owned by a legal entity
from state C (indirect method). 45
In addition to this, we distinguish two different methods of treaty shopping with regard to the time period in which the nationality of the target state is obtained, i.e. ‘back end’ and ‘front end’ treaty shopping:46
(a) The ‘back end’ treaty shopping: meaning that the investor performs one of the
abovementioned arrangements after a dispute between the host state and the legal entity has 43 Azaino (n 34), p. 7; Muchlinski (n 15), p. 1. 44 Tokios Tokeles (n 40), §§ 38-40. 45 Azaino (n 34), p. 7. 46 Ibid, p. 8.
16 already arisen, or is imminent. For example, the investor sells the disputed assets to a company which has the nationality of the state with which the host state has a favourable BIT. Such was the attempt of the Claimant in Phoenix Action Ltd. v Czech Republic,47 where, in the face of an ongoing dispute before Czech courts, the assets representing the investment were sold to an Israeli company which, subsequently to the sale, immediately filed an arbitration claim pursuant to the Israel-Czech Republic BIT. The tribunal deemed this to be an unlawful abuse of the investment protection system (see below, Chapter 3.6.).
(b) The ‘front end’ treaty shopping means that the investor structures his investment
pursuant to the nationality of convenience before the dispute arises, or even before the investment in the host state is made.48 In Mobil Corporation v. Venezuela49 arbitration, the investor restructured its investment in Venezuela through a Netherlands holding company a few years before the dispute arose. The tribunal held these actions to be perfectly legitimate (see below, Chapter 3.6.).
3.4.
Considerations for the Treaty Shopper
In practice, the process of nationality planning is dominated by due diligence, and a number of variables need to be considered before a choice of nationality is made.50 These factors include the following:
(a) The definition of ‘investor’
As explained in Chapter 3.1., BITs provide different requirements for determining the nationality of the investor. Since a treaty-shopper does not wish to actually transfer his activities or his seat into another state, he will opt for a BIT which has the most loosely defined investor requirements. For instance, a Brazilian investor plans to make a substantial investment in Serbia. Since Brazil does not have a BIT concluded with Serbia, he looks around for BITs between Serbia and other states. He happens to own a shell company in
47
ICSID, 15.04.2009, Case No. ARB/06/5 (Phoenix Action, Ltd. v. The Czech Republic), Award [online].
48 Azaino (n 34), p. 8; Skinner (n 5), p. 260.
49 ICSID, 10.06.2010, Case No. ARB/07/27 (Mobil Corporation, Venezuela Holdings BV, Mobil Cerro Negro
Holding Ltd, Mobil Venezolana de Petroleos Holdings, Inc, Mobil Cerro Negro, Ltd, and Mobil Venezolana de Petroleos, Inc v. Bolivarian Republic of Venezuela), Decision on Jurisdiction [online].
17 Switzerland, however, the Switzerland – Serbia BIT requires the seat of the investor, together with ‘real economic activities’ to be in Switzerland for the investor to qualify.51 Since the investor does not pursue any economic activities in Switzerland, he will not qualify as an investor pursuant to the Switzerland – Serbia BIT. On the other hand, the Netherlands – Serbia BIT only requires incorporation.52 The Brazilian investor can therefore establish a shell company in the Netherlands and route his investment in Serbia through this intermediate company, in order to benefit from the Netherlands – Serbia BIT. The investor thus ‘planned’ his nationality in order to gain the highest level of protection available.
(b) The presence of a ‘denial of benefits’ clause
Denial of benefits clauses are sometimes included in BITs. Their purpose is to enable the states to deny the benefits of the treaty to a company which does not have a real economic connection with the state on whose nationality it relies.53 If a BIT with a certain country contains a denial of benefits clause, a purported treaty-shopper should be vary of it, since he risks not qualifying as an investor for the purpose of the BIT protection. For example in the
Guaracachi v. Bolivia,54 the tribunal held that Bolivia is entitled to deny the benefits of the BIT to Claimant, since the conditions for the application of the denial of benefits clause were satisfied: Claimant was controlled by nationals of a third state and had no substantial business activities in the territory of his alleged ‘home State’ (the USA).55
(c) Other considerations
There are several other considerations which may affect the treaty shopper’s decision on which particular state (BIT) to choose:
1.) The nature of the investment: some BITs include ‘carve-outs,’ i.e. provisions in the BIT excluding certain business sectors (e.g. construction, petroleum, pharmaceuticals, etc.) from BIT protection. If the investor conducts business in these excluded areas, he will not choose the nationality of a state with such a BIT.
51
Swiss – Serbia BIT, art. 1(2) [online].
52 The Netherlands – Serbia BIT, art. 1 [online]. 53 Dolzer & Schreuer (n 20), p. 55.
54 PCA, 31.01.2014, Case No. 2011-17 (Guaracachi America, Inc and Rurelec plc v. Plurinational State of
Bolivia), Award [online].
18 2.) The timing of the investment: some BITs contain bars to actions in respect to investments made before the treaty came into force. This will become of relevance if the investor is planning to acquire an interest in an existing asset. It may also be relevant when an asset is in danger and a dispute has already arisen or is imminent.
3.) The arbitration clause: the investor will of course be vary of whether the BIT of choice includes an arbitration clause and what kind of clause it is (e.g. whether demands exhaustion of local remedies or a waiting period; provides for ICSID or ad-hoc arbitration, etc).56
3.5.
Considerations for the State
Host states are at the receiving end of treaty shoppers, thus they tend to have a negative reaction to the practice.57 The main reasons for this disposition are:
(a) Reciprocity
A conventional argument against treaty shopping is that it violates the principle of reciprocity. Investment treaties establish reciprocal rights and obligations between the contracting states.58 Treaty shopping runs counter to this principle, in a sense that an entity with no substantial ties to a contracting state could avail itself of treaty protections, whereas its own state may not be willing to reciprocate to investors from the host state.59 The lack of reciprocity argument is further elaborated below (Chapter 5.2.).
(b) Sustainable development
Treaty shopping is undesirable from the perspective of sustainable development. What is beneficial for companies (gaining access to investment protection) is not necessarily beneficial for the host state, in terms of welfare or sustainable development. Treaty shopping
56 Skinner (n 5), p. 271-272. 57 Azaino (n 34), p. 11. 58
Sornarajah (n 8), p. 8.
19 can expose the host state to claims by companies to which it would not otherwise allow entry.60
(c) Governance gap / Regulatory chill
The argument is linked to the governance gap between the scope and impact of economic forces and actors, and the capacity of societies to manage their adverse consequences. Investor rights are included in ‘hard law’ (treaties) and have a directly enforceable character through investment arbitration. Consequently, host states can find it difficult to regulate in the public welfare and strengthen domestic social and environmental standards, including those related to human rights, without fear of foreign investor challenge.61 This argument pervades foreign investment protection law in general, and does not derive directly from treaty shopping. Nonetheless, treaty shopping aggravates it.
Treaty shopping or nationality planning is not illegal per se, but practice demonstrates that there are limits to it. States may regard corporate restructuring for the purpose of obtaining advantages from treaties as undesirable and take appropriate measures against it.62 States have a few methods at their disposal to prevent and/or deter treaty shopping:
(a) Definition of investor: the most effective way to nip treaty shopping in the bud is for the state to restrict it when negotiating the relevant treaty text, for example through the use of the ‘seat,’ ‘control,’ or ‘substantial business activities’ tests in defining what constitutes an eligible investor.63
(b) Denial of benefits clause: as previously explained, the inclusion of this clause in an investment treaty enables the host state to deny the benefits of the treaty to a company that does not have an economic connection to other contracting state. The weakness of this defence is that states are required to notify investors about the applicability of this clause in
60 Van Os & Knottnerus (n 18), p. 12.
61 Ibid, p. 13; Tietje & Baetens, The Impact of Investor-State-Dispute Settlement (ISDS) in the Transatlantic
Trade and Investment Partnership, Study, Reference No. MINBUZA-2014.78850, 2014, p. 39-41 [online].
62
Dolzer & Schreuer (n 20), p. 52.
20 advance.64 In addition, the effectiveness of the clause rests to a great extent on the interpretations of the tribunals. The arbitral jurisprudence has diverged: for example, Article 17(1) of the ECT has been interpreted as requiring onerous evidentiary and notice requirements, which greatly undermined the effectiveness of the clause. In the Plama v.
Bulgaria65 case, the tribunal rejected the Respondent’s invocation of the denial of benefits clause, envisaged in Article 17(1) of the ECT, stating that the Respondent could only exercise this right if it had notified the investor in advance of his intention to do so. On the other hand, Article 10.12. of the CAFTA-DR66 has been applied in a more purposive and broad manner.67
(c) Lifting the Corporate Veil: the host state can request the tribunal to look past the incorporation and look at the actual ownership (shareholders) of the investor.68 However, tribunals usually refuse to apply this doctrine when they are faced with clear and indubitable treaty provisions (with respect to investor’s nationality) unless it is necessary to apply it to prevent outright fraud or misuse.69 It was successfully used in the Loewen v. USA70 case for example, but rejected by the tribunal in the Tokios Tokeles case.
(d) Termination and renegotiation of BIT: certain states (most notably the Netherlands), due to their BIT drafting methodology, are known as ‘treaty havens’ for treaty shoppers. An emerging practice of some states is to renegotiate their BITs or terminate them altogether. For example, while the Bolivian and Czech governments have threatened to denounce their Dutch BITs, the Venezuelan government in 2008 actually terminated its BIT with the Netherlands. In addition, some states like Ecuador, Bolivia and Venezuela have withdrawn from the ICSID Convention so as to prevent their nationals from instituting international arbitration proceedings against them.71
64 Azaino (n 34), p. 12. 65
ICSID, 08.02.2005, Case No. ARB/03/24 (Plama Consortium Limited v. Republic of Bulgaria), Decision on Jurisdiction, §§ 149-165 [online].
66 Dominican Republic-Central America FTA [online].
67 Lee (n 33), p. 13, 15-17; Guaracachi America v. Bolivia (n 54). 68
Azaino (n 34), p. 12.
69 ICJ, 05.02.1970, Case Concerning the Barcelona Traction, Light and Power Company, Limited (Belgium v.
Spain), Judgment, § 58 [online].
70 ICSID, 26.06.2003, Case No. ARB/(AF)/98/3 (Loewen Group, Inc. and Raymond Loewen v. United States of
America), Award [online]; Tokios Tokeles (n 40), § 65.
21
3.6.
Approaches of Arbitral Tribunals to Treaty Shopping
It is to some extent within the investor’s disposition whether he meets the various criteria of nationality, especially if the criterion of incorporation in a particular state is sufficient to establish nationality.72 A prudent investor may organize its investment in a way which will grant him the highest level of protection under the existing treaties. Most often, this will be done through the establishment of a company in a state that has favourable treaty relations with the host state and accepts incorporation as a basis for corporate nationality. This newly established company will then be used as a conduit for the investment.73
Treaty shopping was a matter of discussion before arbitral tribunals on several occasions. The decisions vary, however, some identifiable trends emerged.
The permissive response
The permissive response74 encompasses cases in which actions that could be described as treaty shopping were accepted by arbitral tribunals as lawful and within the ambits of investment agreements. Tribunals adhered strictly to the definitions of investor as envisaged by the BITs. The case of Tokios Tokeles v. Ukraine was one of the first considerations of treaty shopping in the jurisprudence of BITs. A Lithuanian – based investor brought a claim against Ukraine due to alleged breaches of the Lithuania – Ukraine BIT. The issue as to jurisdiction arose from the fact that 99% of Tokios’ capital was held by Ukrainian nationals. Accordingly, Ukraine asserted the tribunal does not have jurisdiction ratione personae, since the claimant is actually attempting to use the BIT to bring a claim against the home state – a position strictly at odds with the international character of BITs and the ICSID Convention.75
The majority of the tribunal decided in favour of the investor. It adopted a strict interpretation of the BIT, which defined the investor as ‘any entity established in the territory of the Republic of Lithuania in conformity with its laws and regulations.’ The tribunal held that the claimant fulfils these criteria and that ‘if the parties omitted to include stricter tests for corporate nationality, it is not for the tribunal to make such interpretations of the BIT.’76 Importantly, the majority held that none of the Claimant’s conduct with respect to its status as 72 Schreuer (n 35), p. 523. 73 Ibid. 74 Skinner (n 5), p. 277. 75 Ibid, p. 278. 76 Tokios Tokeles (n 40), § 40.
22 an entity of Lithuania constitutes an abuse of legal personality and that the Claimant did not create Tokios Tokeles for the purpose of gaining access to ICSID arbitration.77
A similar conclusion was reached by the tribunal in Saluka v. Czech Republic,78 where the claimant was a shell company, incorporated in the Netherlands, but wholly owned by a Japanese corporation. In accordance with the Czech-Netherlands BIT, the definition of ‘investor’ in Article 1(b)(ii) includes ‘legal persons constituted under the laws of [the Netherlands].’79 The tribunal, although showing some sympathy for the Respondent’s arguments that a company having no real economic connection with a state party to the BIT should not be entitled to invoke the provisions of the treaty, nevertheless found that Claimant was a Dutch company. 80 The tribunal held that it: ‘cannot in effect impose upon the parties a definition of ‘investor’ other than that which they themselves agreed.’81
The permissive response also permits and embraces the idea of purposeful and lawful nationality planning. In Aguas del Tunari v. Bolivia,82 the Claimant was a legal person constituted under Bolivian law, but wholly owned by a Dutch company and thus possessing the nationality of the Netherlands for the purposes of the BIT. The tribunal held that the requirements of the BIT are fulfilled. More importantly, it also stated: ‘it is not uncommon in practice and – absent a particular limitation – not illegal to locate one’s operations in a jurisdiction perceived to provide a beneficial regulatory environment/…/including the availability of a BIT,’83 and: ‘The language of the definition of national in many BITs evidences that such national routing of investment is entirely in keeping with the purpose of the instruments and the motivations of the state parties.’84
Other cases such as ADC v. Hungary,85 Rompetrol v. Romania86 and Yukos Universal
v. The Russian Federation87 also demonstrate that where an applicable BIT (or other IIA)
77
Skinner (n 5), p. 279.
78 PCA, 17.03.2006 (Saluka Investments B.V. v. Czech Republic), Partial Award [online].
79 Schreuer, Nationality planning, in: Contemporary Issues in International Arbitration and Mediation, 2013, p.
21 [online].
80
Schreuer (n 79), p. 21.
81 Saluka Investments (n 78), § 241.
82 ICSID, 21.10.2005, Case No. ARB/02/3 (Aguas del Tunari, S.A. v. Republic of Bolivia), Decision on
Respondent’s Objections to Jurisdiction [online].
83
Ibid, § 330.
84 Ibid, § 332.
85 ICSID, 02.10.2006, Case No. ARB/03/16 (ADC Affiliate Ltd. and ADC & ADMC Management Ltd. v The
Republic of Hungary), Award [online].
86
ICSID, 18.04.2008, Case No. ARB/06/3 (The Rompetrol Group N.V. v. Romania), Decision on Respondent’s Preliminary Objections on Jurisdiction and Admissibility [online].
23 adopts incorporation as the criterion for nationality, this has to be interpreted as a sufficient requirement. The tribunals refused to look behind the company or to examine the existence of a genuine link.88
The prohibitive response
The prohibitive response89 is marked by denial of tribunals to exercise jurisdiction over instances of treaty shopping. In the Phoenix Action Ltd. v Czech Republic case, two Czech companies became involved in proceedings before Czech courts, during which the assets of both companies were frozen and seized. Both companies were then sold to an Israeli – incorporated company Phoenix Action Ltd, which instituted investor – state arbitration proceedings pursuant to the Israel – Czech Republic BIT immediately after the sale.90
Tribunal laid down four considerations to be taken into account in evaluating whether or not the investor had a bona fide intention to engage in economic activities in the host state:
(a) Timing of the investment: was the asset already distressed, and was the incoming
investor aware of these difficulties when it bought in? Phoenix bought the companies which were already burdened with litigation as well as problems with Czech tax and customs authorities.
(b) Timing of the claim: how long after the investment was made did the Claimant bring
its ICSID claim? Phoenix gave notice of existence of dispute even before it was actually registered in the Czech companies register as the owner of the Czech companies.
(c) Substance of the transaction: what was the substance of the transaction and how
was it carried out?
(d) True nature of the operation: Was any economic activity performed or genuinely
intended by the investor? Phoenix had no business plan, no programme of refinancing the Czech entities and no economic objectives.91
After due consideration, the tribunal declined jurisdiction and labelled the Claimant’s actions as an ‘abusive manipulation of the system of international investment protection,’92
87
PCA, 30.11.2009, Case No. AA 227 (Yukos Universal Limited (Isle of Man) v. The Russian Federation), Interim Award on Jurisdiction and Admissibility [online].
88 Schreuer (n 35), p. 525; see also: Schreuer et al., The ICSID Convention: A commentary, 2009, p. 290-291. 89 Skinner (n 5), p. 280.
90
Skinner (n 5), p. 281.
24 going against the purpose of the ICSID Convention and the BITs. It concluded that, because the investment was made for the sole purpose of bringing international litigation against the Czech Republic, the transaction: ‘was not a bona fide transaction and thus cannot be protected under the ICSID convention. All elements analysed lead to the same conclusion of an abuse of rights.’93
The most important elements to inspect when considering whether to allow or deny jurisdiction in face of treaty shopping, seem to be: a) the intent of the purported investor, and b) timing of the purported investment. Several other tribunals reached similar conclusions. In
Banro v. DR Congo,94 the Claimant, a Canadian company, transferred its investment to its
US affiliate in order to gain access to ICSID arbitration. Just a few days after the transfer was executed, the (now) US investor initiated arbitration proceedings. The tribunal applied the
nemo plus iuris transfere potest quam ipse habet principle and held that the Canadian
investor could not effectively assign the claim to its American subsidiary in order to bypass the defect of jurisdiction.95
The connection between the timing of the investment and its (bona fide) nature was also stressed by the tribunal in cases Cementownia v. Turkey96 and Société Générale v. Dominican Republic.97 In the latter, the tribunal held: ‘the transaction must be a bona fide transaction and not devised to allow a national of a State not qualifying for protection to obtain an inappropriate jurisdictional advantage otherwise unavailable by transferring its rights after-the-fact to a qualifying national.’98
The bottom line?
The Mobil Corporation v. Venezuela99 case is of particular importance for the notion of treaty shopping. In the 1990s, the Claimant and several of his affiliates entered into a series of
92 Phoenix Action (n 47), § 144.
93 Skinner (n 5), p. 282; Phoenix Action (n 47), § 143. 94
ICSID, 01.09.2000, Case No. ARB/98/7 (Banro American Resources, Inc. and Societe Aurifere du Kivu et du Maniema S.A.R.L. v. DR Congo), Award [online].
95 Schreuer (n 5), p. 526.
96 ICSID, 17.09.2009, Case No. ARB(AF)/06/2 (Cementownia ‘Nowa Huta’ S.A. v. Republic of Turkey),
Award [online].
97 LCIA, 19.09.2008, Case No. UN 7927 (Société Générale In respect of DR Energy Holdings Limited and
Empresa Distribuidora de Electricidad del Este, S.A. v. The Dominican Republic), Award on Preliminary Objections to Jurisdiction [online].
98
Ibid, § 110.
25 contracts with the State, for the exploration and production of crude oil. In 2006 and 2007, Venezuela introduced a series of measures, which financially harmed Mobil and finally resulted in the company instituting ICSID arbitration pursuant to the Netherlands-Venezuela BIT.100
Venezuela objected to the jurisdiction of the ICSID tribunal, alleging that Mobil had engaged in illegitimate treaty shopping by inserting a Dutch holding company into an otherwise non-Dutch chain of corporate ownership in October 2005. This was done, Respondent argued, for the sole purpose of accessing the Netherlands-Venezuela BIT protection.101 It further argued that this constituted an abuse of process and abuse of rights.102 Interestingly enough, the Claimant did not deny these allegations, but freely admitted that it undertook a review of the extent of the legal protections for its investment in Venezuela and decided to undertake this change in corporate ownership structure.103
The tribunal concluded that ‘the main, if not the sole purpose of restructuring was to protect Mobil investments from Venezuelan measures in getting access to ICSID arbitration through the/…/ BIT.104 However, the tribunal did not outright condemn this approach. Rather, it held that the true issue before it was thus to adjudge whether the restructuring should be considered an ‘abuse of right’ as Respondent insisted, or ‘legitimate corporate planning’ as was the submission of the Claimant.105
The tribunal acknowledged the existence of the principles of abuse of right and good faith, citing inter alia the decisions of the International Court of Justice, the WTO Appellate Body and other investment tribunals. It cited the four criteria established by the tribunal in the Phoenix Action case (see above, p. 23), whereas it also stipulated that the emphasis is placed on the need to give effect to the object and purpose of the ICSID Convention and to preserve its integrity.106 After analysing all the circumstances, the tribunal held that the restructuring of the investments to protect them against mistreatment by Venezuela ‘by gaining access through the BIT/…/was a perfectly legitimate goal as far as it concerns future disputes.’107 Ergo, the tribunal stipulated that this was only the case in respect of disputes arising after the
100 Blyschak, Access and advantage expanded: Mobil Corporation v Venezuela and other recent arbitration
awards on treaty shopping, JWELB, 2011/4, p. 33 [online].
101 Ibid, p. 34. 102 Mobil Corporation (n 49), § 28. 103 Blyschak (n 100), p. 34. 104 Mobil Corporation (n 49), § 190. 105 Blyschak (n 100), p. 34. 106 Ibid. 107 Mobil Corporation (n 49), § 204.
26 restructuring had taken place, and not in respect of disputes pre-dating the restructuring.108 Citing the Phoenix Action case, the tribunal affirmed that an attempt to gain jurisdiction under the BIT for such pre-restructuring disputes would constitute: ‘an abusive manipulation of the system of international investment protection under the ICSID Convention and the BITs.’109
The Mobil v. Venezuela case is interesting because it adopts a very clear approach to treaty shopping. It holds that treaty shopping is an acceptable part of strategic corporate planning where it is employed for the purpose of safeguarding investments from future disputes. It also holds that treaty shopping will not be accepted where it seeks to find a solution for past grievances, i.e. for disputes which are already in motion, and thus compensate for inadequate corporate planning earlier in the life span of the investment.110 It could be said that it condemns ‘back end’ treaty shopping, but not ‘front end’ treaty shopping.
It is noteworthy that even while the case law develops, investors can (to some extent) sidestep the jurisprudence by appointing the right arbitrator – namely, treaty shopping may be frowned upon by some, but many arbitrators see it as a fact of international business life.111
3.7.
Conclusion – a Paradox?
The above overview of practice allows some preliminary conclusions. For now, there is no universal rule against treaty shopping or nationality planning. Until such a rule emerges (if it ever does), investors will continue to treaty shop in order to accord maximum protection to their investments. Most tribunals have expressed a certain degree of unease about treaty shopping, but often reluctantly found themselves bound by the scope of application and the provisions in the treaties signed by the contracting states.112 The difference between the permissive and the prohibitive approach hinges mainly on the timing of the restructuring/transfer of assets, but also pays attention to the nature of the intent behind it. The lawfulness of treaty shopping / nationality planning seems to primarily depend on the time of restructuring in relation to the dispute. If the restructuring was undertaken early, i.e. 108 Blyschak (n 100), p. 35. 109 Mobil Corporation (n 49), § 205. 110 Blyschak (n 100), p. 35. 111 Skinner (n 5), p. 283.
27 before the outbreak of the dispute, the newly acquired nationality will be honoured. But a last minute change of nationality in the face of an existing dispute will be rejected. Such practice rewards foresight and preparation and punishes those who fail to act until it is too late.113
The current situation, interesting though it is, is not entirely satisfactory. As we can see, treaty shopping is all about having the right nationality at the right time. When it comes to investment arbitration, or generally to protection under BITs, nationality is extremely important: a lot of ink is spilled and energy (and money) spent to prove a particular nationality. However, when a case reaches the merits phase, distinctions on the basis of nationality are taboo. Discrimination on the basis of nationality is prohibited: IIAs are pervaded with rules against arbitrary and discriminatory treatment. Discrimination on the basis of nationality would be a blatant violation of the fair and equitable treatment standard. In addition, nearly all treaties contain national treatment, and a large number of them also the MFN treatment clause. Thus, distinctions on the basis of nationality are prohibited.114
In view of the above, we notice an inherent paradox in the concept of nationality.115 On one hand, nationality is of utmost importance in international investment law; on the other hand, international investment law is about eliminating differences based on nationality and establishing a level playing field for investors, regardless of their origins. Is it possible to overcome this paradoxical situation and how does treaty shopping fit into this? Treaty shopping can be seen both as an instrument of destabilization and abuse in investment law; or as an instrument for extending the inherent notion of fairness, equality and non-discrimination from the merits phase into the jurisdiction phase of ISDS. To find the answer, we must go back to the roots and remember what is the underlying rationale at the core of investment law and ISDS.
113 Schreuer (n 79), p. 26. 114
Schreuer (n 35), p. 527.
28
4. From Gunboats to BITs – What is the Rationale and
Purpose of Investment Law and Investment Arbitration?
4.1.
The Development of Investment Law
The modern international law relating to the treatment of alien property (more specifically: their investments) has its roots in the State practice of the late 18th and 19th century. It was during this period that industrialization (primarily in Great Britain, but also other Western European countries and the US) began to generate large capital surpluses that would fuel foreign investment on a scale not previously seen in world history.116
The core notion of state responsibility, as it has been applied to the property of aliens, began developing in the 19th century (ending in 1914), during which European States and the United States maintained – by legal, diplomatic, and military (‘gunboat diplomacy’) means – the view that international law permits States to take the property of aliens only if they compensate the alien in an amount equal to the value of the property taken. This Euro-American view, although it was disturbed by the emergence of the Calvo doctrine and the Russian and Mexican revolutions, withstood the test of time and remained pervading the law of treatment of alien property until present time. Since the 1990s, a relatively small number of treaties for protection of foreign investment expanded exponentially into a global network of thousands of bilateral (and multilateral) investment treaties that we see today, virtually all of which adopt the Euro-American view and almost all of them provide a compulsory means of resolving investment disputes without resorting to state-to-state mechanisms.117 Investment protection treaties are thus the youngest prodigy of the evolution of the law on treatment of aliens and their property.
History reveals that the fundamental value of IIAs is twofold. First, the existence of more than 2900 IIAs in the world may not have resolved the debate over what customary international law requires of a State when it expropriates alien-owned property, but it has rendered that debate to a large extent irrelevant.118 The second fundamental value of the current IIA (and more specifically BIT) regime is to be found not in the typical investment
116 Johnson & Gimblett, From Gunboats to BITs: The Evolution of Modern International Investment Law, in:
Yearbook on International Investment Law and Policy, 2012, p. 2 [online].
117
Johnson & Gimblett (n 116), p. 1-2.
29 protection provisions, but in the typical arbitration provisions that allow investors to resolve disputes with host States directly (‘arbitration without privity’), without the involvement of the investor’s home State.119
Deriving from the centuries-old notion of protection of alien property, modern investment treaty law has upgraded upon that notion. As is discernible from the preambles of thousands of investment treaties,120 their object and purpose is closely tied to the desirability of foreign investments; to the benefits of the host state; and for the investor: to the conditions necessary for the promotion of foreign investment and to the removal of obstacles which may stand in the way of allowing and channelling more foreign investment into host states. Thus, the purpose of investment treaties is to address the typical risks of a (usually) long-term investment project, and thereby to provide stability and predictability in the sense of an investment-friendly climate.121
Under customary international law, every state has absolute freedom and discretion whether it will allow foreign investments in its territory or not. When a state concludes an investment treaty, however, it deliberately limits an element of its sovereignty in return for a new opportunity: a chance to better attract new foreign investments, which it would not have in the absence of an investment treaty.122 Once the sovereign (state) has committed itself to a treaty, the balancing of interests and aspirations is no longer subject to a unilateral decision. After an investment treaty is concluded, the investor is entitled to rely on the scheme accepted by the host state in the treaty, for as long as the treaty remains in force.123 On this note, it should be mentioned that states can still regulate FDI through rules of admission: namely, the host state may conclude BITs, but the protection of these agreements extends only to investments which have been admitted in accordance with the laws of the host state. The majority of investment agreements indeed applies only to the post-entry phase of the investment.124 This may represent a significant hurdle for FDI, despite the existence of a BIT. An example of such an approach is the foreign investment policy of China.125
119 Ibid, p. 43.
120 The Netherlands – Slovenia BIT, p.1 [online]; The Energy Charter Treaty Preamble [online]; North
American Free Trade Agreement Preamble [online].
121
Dolzer & Schreuer (n 20), p. 22.
122 Dolzer & Schreuer (n 20), p. 20. 123 Ibid.
124 Muchlinski (n 15), p. 4, 10. 125
Kong, China and the World Trade Organization: A Legal Perspective, 2002, p. 162-164 [online]; Forneris,
30 Investment treaties primarily regulate relationships between states, whereas investors are side-beneficiaries of such regulation. From the standpoint of investors, investment protection treaty is there to provide them with safeguards and protection – to guarantee them fair and equitable treatment, compensation for expropriation, etc. It is only from the viewpoint of states that we can speak of reciprocity in terms of investment treaties – parties shall accord equal treatment to their respective investors.
Some facts about the investment treaty system:
- there are more than 2900 IIAs in existence,126 majority of them being bilateral;
- there are only a few countries in the world that have not signed any IIAs;127
- the BIT network is pervaded by a high degree of similarity in BIT provisions128 for
treatment of investors and investments, expropriation and compensation, and also dispute settlement.129
The conclusion deriving from these facts is that there is an omni-present desire among states to attract foreign investment, and that a large majority of states perceives no problem in partly limiting their sovereign powers by concluding an investment protection treaty, in order to create a favourable climate for foreign investment. Empirical evidence on whether conclusion of BITs will indeed lead to an increase in FDI flows is mixed, and while some studies suggest that a positive effect will flow from such a treaty,130 and that countries stand to make large gains from acceding to IIAs and investment arbitration,131 others do not support such a finding.132 A questions which poses itself in view of the above is: why are there not significantly more investment agreements, if they are indeed so widely accepted and encouraged? One reason might be the existence of multilateral investment agreements with several parties, which substitutes several bilateral agreements. Another reason might be that negotiating and concluding bilateral investment treaties requires a certain amount of political effort, time and money. Consequently, states are probably not inclined to negotiate
126
UNCTAD Investment Policy Hub Database [online].
127 Ibid.
128 Shaw (n 14), p. 609.
129 Brabandere, ‘Good Faith’, ‘Abuse of Process’ and the Initiation of Investment Treaty Claims, JIDS, 2012/3,
p. 612 [online].
130 Dolzer & Schreuer (n 20), p. 23; Neumayer & Spess, Do Bilateral Investment Treaties Increase Foreign
Direct Investment to Developing Countries?, 2005 [online].
131 Brower & Blanchard, Whats in a Meme? The Truth about Investor-State Arbitration: Why It Need Not, and
Must Not, Be Repossessed by States, Columbia Journal of Transnational law, 2014/52, p. 708 [online].
31 investment treaties with countries with which they do not have (substantial) business/trade relations and from where they are not likely to receive significant FDI inflow.
To reiterate: the core of investment law, its underlying rationale, is the protection of alien property. Although investment treaties have expounded on that notion, it is still safe to say that, when making an investment, what investors expect from the umbrella of investment treaty protection are not exorbitant privileges or a carte blanche to exploit the state’s resources and abuse its economy. Instead, what they want (and expect to receive) is treatment which is fair, equitable and (at least to a certain extent) predictable and consistent. In the event something unforeseeable happens, they expect to receive adequate and effective compensation.
Therefore, we can conclude that the core of the investment law system consists of the combination of the desire to attract foreign investment and the requirement for fair and equitable treatment.
4.2.
Development and the Primary Goals of Investment Arbitration
Since access to dispute settlement provisions in a BIT is usually ranked very high on the purported treaty shopper’s list of requirements, this chapter would not be complete without touching upon the subject of investment arbitration. Gaining access to ISDS is one of the fundamental objectives of treaty shoppers, thus it is vital to know which are the main purposes and aspects of the ISDS system.The mechanisms for the settlement of investment-related disputes was affected by, and developed alongside, treaty-based protections for foreign property.133
Before the occurrence of ISDS, a foreign investor had only two avenues to pursue if the host state expropriated its property or otherwise interfered with his investment: (a) to seek relief before the local courts of the host state; or (b) to request from his own (home) state to espouse his claim and exercise diplomatic protection.134 Both options had limited appeal for the foreign investor: local courts and judges were not to be trusted, there was a possibility of impartiality and/or bias; whereas with diplomatic protection, the investor had no guarantee that his state would espouse his claim and was thus completely at the mercy of the state and
133 Schefer (n 9), p. 364. 134
UNCTAD, Investor-State Dispute Settlement, in: UNCTAD Series on Issues in International Investment
32 its politics.135 Consequently, when FDI started to rapidly increase in the period of 18th - 20th century, alternatives began to emerge. Arbitrations became more frequent during the 19th and 20th century in both Europe and America. Up through the 1960s, investment arbitrations were legally based on contracts between the investor and the host state which contained a consent-to-arbitrate clause, explicitly setting out the host state’s acceptance of jurisdiction of an international tribunal for disputes arising out of contract (arbitration with privity).136 In approximately the same era – late 1960s and early 1970s – states also began including ISDS provisions in their investment treaties; by the 1990s this treaty element had become standard.137 This entitlement of non-state entities to initiate international arbitration (arbitration without privity) was called ‘one of the most progressive developments in the procedure of international law/…/in the whole history of international law.’138
Through ISDS, countries sought to create a neutral forum that would offer investors the possibility of a fair hearing before a tribunal unencumbered by domestic political considerations and thus able to focus exclusively on the legal issues in the dispute. ISDS also offered investors the possibility of submitting a claim to international arbitration without the need to convince their home state to espouse the claim.139 A testimony to the efficacy, importance, and success of the ISDS system is the fact that the ICSID (the most widely used ISDS venue), which celebrated its 50th anniversary on 18th of March 2015, now has 151 contracting states and another 8 which have signed the Convention, but not yet ratified it.140
The primary goals of ISDS, therefore, are the following: (a) avoidance of direct State confrontation in the event of a dispute (i.e. depoliticizing of an investment dispute);141 (b) speediness, flexibility, effectiveness and a high level of expert input; (c) higher level of control by the parties over the procedure, i.e. the possibility of selecting arbitrators, negotiating procedural rules, applicable law, seat of arbitration, etc;142 (d) avoiding the possibility of corrupt, dysfunctional and/or biased local courts and a weak legal system in host state(s).143
135
Azaino (n 34), p. 4.
136 Schefer (n 9), p. 370.
137 UNCTAD, Investor-State Dispute Settlement (n 134), p. 23. 138 Schwebel (n 16), p. 5.
139
UNCTAD, Investor-State Dispute Settlement (n 134), p. 24.
140 ICSID Member State Database [online]; De Brabandere (n 129), p. 612. 141 Dolzer & Schreuer (n 20), p. 23.
142 UNCTAD, Investor-State Dispute Settlement (n 134), p. 24. 143
Shultz & Dupont, Investment arbitration: promoting the rule of law or over-empowering investors? A
