International Law Office | 3 September 2020

Investor-state claims in era of COVID-19 pandemic

Introduction

States have taken urgent and extraordinary steps to prevent the spread of COVID-19 and address the public health and economic crises that it has caused. Some such measures are aimed directly at the need to treat those affected by the virus. In Spain, the Ministry of Health announced that it would take all of the country’s private health providers and their facilities into public control. Similar steps have been taken in parts of the United States, with the governors of both California and New York authorising the requisition of equipment and facilities to treat patients. Other steps taken by governments aim to address the virus’s unprecedented economic impact on the world economy, such as:

• the UK government’s renationalisation of rail franchises;
• the payment of state aid to airlines; and
• the restriction on the import and export of commodities.

Inevitably, some of these measures will affect foreign investors and their investments in host states, triggering investor-state disputes.

Foreign investors’ rights and obligations under IIAs

With state measures being implemented rapidly and, in some instances, expansively, investors affected by these measures must understand their rights of recourse and available remedies. Equally, states must be cognisant of their obligations in implementing these measures.

In addition to rights under the domestic law where the investment was made, foreign investors may have rights under international investment agreements (IIAs). IIAs are agreements between states in which they mutually agree to protect investments made in their state by investors from the other state, or states, to the agreement. Often states also agree that such foreign investors will have the right to enforce the terms of the IIA directly against the host state through the courts or (more commonly) international arbitration. IIAs can be found in bilateral and multilateral treaties, as well as in investment chapters to many free trade agreements. There are thousands of IIAs currently in force worldwide. For example, Italy, one of the states that has been worst hit by the outbreak, is currently a party to 110 IIAs, while China is a party to more than 125.

Careful consideration must be given on a case-by-case basis as to whether an investor is eligible for investment protection under a given IIA and, if so, the scope of investment protection available. IIAs are construed on their specific terms as drafted; however, many IIAs contain similar provisions in relation to investment protection and are subject to common principles of international law. Most IIAs impose a range of obligations on the host state, typically including:

• the obligation not to expropriate a qualifying investment without payment of compensation;
• the obligation to provide fair and equitable treatment and full protection and security for investments;
• the obligation to provide a standard of treatment that does not discriminate against the investment compared with treatment provided to domestic investors and investors of third states;
• the right to transfer or repatriate funds relating to investments outside the state; and
• the obligation to honour contractual commitments (umbrella clauses).

State measures in response to COVID-19

Most of the common obligations under IIAs are qualified in some way to preserve state sovereignty. For example, states are entitled to expropriate investments but, as a matter of public international law, they are subject to certain constraints in doing so.

The expropriation must be for a public purpose, in a manner that is non-discriminatory and subject to due process. Critically, the state must also provide fair compensation (The American Independent Oil Company v The Government of the State of Kuwait, 21 ILM 976, 1032 (1982) [143]). Applying that to COVID-19 measures implemented by states, the direct requisitioning of otherwise private healthcare resources for the broader public good should not be a breach of an IIA if the state does so lawfully and pays fair compensation (although it will need to be assessed on a case-by-case basis). However, there may be difficulties in assessing what fair compensation amounts to in the context of an international crisis.

The situation is more nuanced in relation to ’indirect expropriations’, which is when the state takes steps that affect the control or use of an asset rather than taking title to the asset itself. This can involve one or a series of regulatory measures that have an effect tantamount to expropriation. Generally, tribunals have applied a ’substantial’ test for indirect expropriations. Tribunals have held that investors must "be deprived, in whole or significant part, of the property in or effective control of its investment: or for its investment to be deprived, in whole or significant part, of its value" (AES Summit Generation Limited and AES-Tisza Erömü Kft v The Republic of Hungary, ICSID Case ARB/07/22).

In the context of emergency measures, additional regulations (eg, restrictions on the ability of businesses to operate or import and export products during a period of lockdown) may give rise to claims by foreign investors of indirect expropriation. States would no doubt respond with one or more defences available under the applicable treaty or customary international law.

States also typically have to afford foreign investments ’fair and equitable treatment’. This is a broad concept which defies a succinct definition. Among other things, it generally requires the state to avoid conduct that is:

arbitrary, grossly unfair, unjust or idiosyncratic, is discriminatory and exposes the claimant to sectional or racial prejudice, or involves a lack of due process leading to an outcome which offends judicial propriety – as might be the case with a manifest failure of natural justice in judicial proceedings or a complete lack of transparency and candour in an administrative process. (Waste Management v United Mexican States (2004).)

In the context of the current crisis, states will continue to be obliged to afford these protections to foreign investments and investors. It is likely, for example, that any emergency steps taken that discriminate against foreign investors, or which lack due process or transparency, would breach the fair and equitable treatment obligation unless there is reasonable justification (Saluka v Czech Republic (2006)). What is ’reasonable’ in this context will again depend on the circumstances. Equally, any emergency legislation should continue to afford due process and comply with the fundamental principles of the rule of law.

Exclusions and defences

Many IIAs define circumstances in which the standards of protection do not apply. For instance, some treaties expressly provide that states may take action that would otherwise breach the IIA in order to preserve public order or protect human health (eg, the EU-Canada Comprehensive Economic and Trade Agreement). States are therefore entitled to take reasonable and proportionate steps in relation to such essential interests. A state’s action will be deemed proportionate if it strikes a balance between the state’s interests protected through a governmental action and the degree of damage to foreign investors’ rights affected by such a measure. In assessing whether such steps are lawful, states often argue that they are entitled to a ’margin of appreciation’ (ie, a degree of discretion afforded to the state party when evaluating the legitimacy of the course that it adopted in the circumstances).

Additional defences may arise under customary international law. States may be excused for breaches of international obligations in circumstances where they act out of force majeure, distress or necessity. These concepts have been defined by the International Law Commission as follows:

• ’Force majeure’ is "the occurrence of an irresistible force or of an unforeseen event, beyond the control of the State, making it materially impossible in the circumstances to perform the obligation", where the state is not responsible for the event and has not assumed the risk of the event occurring.
• ’Distress’ concerns a threat to life (either that of the state or of those under the state’s care) and applies where there is "no other reasonable way, in a situation of distress, of saving the… life or the lives of other persons entrusted to the [state’s] care". Again, the state must not have contributed to the threat.
• ’Necessity’ is where the state must take an action "to safeguard an essential interest against a grave and imminent peril; and that action does not seriously impair an essential interest of the state or states towards which the obligation exists, or of the international community as a whole". For example, in National Grid v Argentina (2008), a tribunal established under an IIA found that the public interest in ensuring the continued functioning of vital public services such as electricity was capable of amounting to necessity under customary international law that would excuse the state from performing its international obligations (although in that case, the state failed to make out its case because it was found to have contributed to the emergency by its conduct).

Comment

As the COVID-19 pandemic wreaks havoc globally and governments rapidly seek to implement measures to save lives and mitigate the effects on the economy, some investors are unfortunately at risk from aggressive state measures. Whether investors will have the appetite to challenge those measures in the circumstances remains to be seen. However, with such measures being compounded by an already difficult economic environment for investors – which is expected to become more difficult in the face of an impending global recession – investors may have little choice. As such, investors affected by state measures must understand and consider their rights of recourse and available remedies, including those afforded under both domestic law and IIAs and international law. States also need to understand their obligations and the risks in implementing these measures so as to avoid breaching their obligations and becoming tied up in costly and protracted disputes.