Expropriation and Compensation of Foreign

Expropriation and Compensation of Foreign Direct Investments in the EU and Developing Countries

The Modern Case of Expropriation in the European Union and Developing Countries

Expropriation

Direct Expropriation

Indirect Expropriation

Legality of Expropriation

Compensation

Valuation of Assets

Determining Compensation

Future of Expropriation

The world is changing. Modern day investing is going global like never before. As more and more investors head to foreign lands to develop new profit potential, the issue of expropriation is being continuously redefined. Once considered a basic loss of investors to have had their assets seized by a host State, as in the case of nationalization, there are more and more protections which guarantee not only the sovereignty of the host State but also the protection of foreign investment assets that have been acquisitioned. Organizations like the North American Fair Trade ACT (NAFTA) and the International Centre for Settlement of Investment Disputes (ICSID) have been organized and refined to help handle the matter of expropriation and how it should be handled in terms of both State and foreign investor relations. With these new regulations come international foundations for investment law which governs over foreign investments that go beyond domestic containment. In many cases, bilateral investment treaties (BIT) are set up by various nations to help protect their investors abroad and when the stipulations of these treaties are broken, investors and States turn to such regulatory bodies as NAFTA and ICSID to help govern cases of compensation and unlawful expropriation. Cases of direct expropriation, common in more developed nations are handled by the regulatory bodies right along side more controversial cases on indirect expropriation. In order to further combat asset losses, many developed nations such as those found within the European Union, enter into bilateral investment treaties (BIT) with States that are common for their nationals to invest in. These treaties outline the specifics of the assets themselves, along with proper measures to be taken in the event of expropriation. Recent cases testing the legality of expropriation have made significant impacts on how such cases are handled. While many host States who enter into an expropriation debate claim the incident to be nothing more than a domestic affair in order to be handled in domestic courts, new rulings on cases show that any breach of a BIT or other form of international trade agreement leave the case up to international investment decisions under the tribunals of the ICSID. Thus, proving breaches in contract, agreements, and treaties between nations and investors has become a crucial step in protecting the lost assets of foreign investors and acquiring appropriate compensations. Compensation for lost assets remains a heated topic, and can vary depending on the legality of the expropriation itself. Expropriations conducted legally provide that the State is responsible for the repayment of the fair market value of the lost asset. Those conducted illegally can be subject to not only the worth of the fair market value, but also of incident charges and damages as well. Efforts are currently being made to further regulate both compensation and proceedings of expropriations as to continue to secure more protection for both the State's sovereignty as well as the investments of foreign capitol.

Introduction

In today's market, foreign investing is almost as common as domestic investing. In a new modernized global world, foreign investment opportunities have opened up like never before. So many investors have begun the process of taking advantage of foreign born opportunities, and with this wave of new money come the desire to protect it. In previous generations, foreign investment was in many cases risky business. If an investor lost his or her investment within a foreign country based on nationalization or otherwise, little, if not nothing could be done in order to ensure the return of those assets.

However, in recent generations there have been movements to protect both foreign investments as well as the exportation of goods from various countries, leading to an international community who regulates over trades and investments. The North American Fair Trade Act (NAFTA) was established to protect developing nations in North America keep their exported coffee at fair market value, and not be taken advantage of in a way which would have decimated the countries producing most of the world's coffee. Today NAFTA does more than to provide protection from exploitation of coffee prices, but it also stands in to help regulate and arbitrate investment disputes which go far beyond the context of domestic law in the developing countries of the Americas. NAFTA now helps regulate foreign investor safety and security with regulations to help protect investment assets from unlawful seizure, nationalization, or expropriation. Another major regulatory body has also been established to help the international community cover investment disputes, the International Centre for Settlement of Investment Disputes (ICSID). The ICSID also helps regulate the expropriation of investment assets in areas that are both developing and more established, like the countries of the European Union. When domestic laws fail to provide an unbiased case, it is heard by tribunals of the ICSID which govern international investment relations and acquisition laws. These tribunals help establish the legality of an expropriation and how the investment assets should be handled in the form of compensation or damages.

The more foreign investment which comes streaming into various nations across the globe means more cases of expropriation. The regulatory bodies set into place by the international community must handle these disputes and determine the legality of their claims. It is within a modern context that expropriation has become such a regulated international issue, with trade treaties and good foreign relations at stake to nations who choose to expropriate foreign assets illegally without following the guidelines set by such bodies as NAFTA and the ICSID.

Literature Review

Expropriation

The term expropriation refers the idea of a State, or nation, taking back part of r an entire investment asset that is within its country's borders but previously owned by a foreign investor. Expropriation is "the action of the state in taking or modifying the property rights of an individual in the exercise of its sovereignty," (Merriam-Webster 1998). In international investment law, States have the right to confiscate and nationalize property or other assets owned by foreign investors in order to help secure their position and provide for their people. Law expropriation can be conducted under the grounds of a common good for the people, or for reason that the State will benefit economically from the acquisition of the expropriated property, of course after all legal fillings are complete and compensation is given out. This action represents confiscation of private property by the state which takes place beyond the common law. It goes much further than simple leasing or financial disputes between a State and an investor, and relates more to the idea that the State can and should be able to benefit from its own land and resources. Either lawful r unlawful, expropriation of foreign assets is the government's taking over of foreign property; "Investment disputes involve governmental interference with the rights of a foreign investor," (Ripinksy & Williams 2008:6). Yet, expropriation can also refer to cases of nationalization by developing communist and socialist countries. A prime example of this type of largely unlawful expropriation being the collectivization seen in the development of the Soviet Union in the early to mid twentieth century.

The State has the right to determine what it does within its own national boundaries. But as more and more foreign investors are lured into investing with any particular State, it complicates the nature of seizing foreign assets. The investor and the State initially enter into an agreement or contract which spell out provisions for the investment and provide some sense of security on behalf of the investor. In fact, most foreign investment agreements include various provisions which limit a nation from directly or indirectly nationalizing or expropriating the investor's property except for when the nation is utilizing such proceedings to satisfy some public and nondiscriminatory purpose, (SICE ). One important piece of security used by many foreign investors in the Bilateral Investment Treaty (BIT), which is often used by European countries to invest with developing nations. These treaties set standards of security on the behalf of the investor and provide regulations for damages and compensation in the event of a lawful or unlawful expropriation of the investment asset.

Direct Expropriation

There are different forms of expropriation which are grounded on different contextual needs of the State which takes foreign assets from an investor. According to international investment law, "In an international context, a direct expropriation occurs when the host state takes property owned by a foreign investor located in the host state, where there is deprivation of wealth attributable to the state," (SICE: 1). In typical cases of direct expropriation there is a sound need for the State to take back the investment asset. For instance, if the investor owes the State or in someway broke his or her contractual obligations with the State, this can be grounds for direct expropriation. The State is just taking back its rightful property under the contractual obligations of the agreement signed between the host State and the foreign investor who' assets are being seized in the expropriation. Another cause for direct expropriation is the concept that the State will in some way gain financially, socially, or economically from the expropriate assets beyond their value of compensation. If a particular investment can generate more positive results in the hands of the State, it is legal to file expropriation proceedings if the full value of compensation is covered as determine by an international tribunal.

In the European Union, direct expropriations are most common. Based on a common peace and favorable diplomatic relations between the countries within the European Union, there is little need for many investors to worry about unlawful and forceful expropriation, as seen in developing or communist nations. Some investors may invest within a host nation without special regulations regarding the fate of the property in the event of an expropriation or nationalization dispute. However, in more developed nations, many foreign investors are confident in the stability of the host country to not have to demand special restrictions and regulations, (Ripinksy & Williams 2008). Direct expropriation is more based on the needs of the State and generally stipulates the need for proper compensation on behalf of the State. Therefore, within the European Union, which is more developed and less of a risk for nationalization, direct expropriations are much more common than the trickier indirect expropriations.

However, in developing countries, direct expropriation can still be as tricky as indirect expropriations. There is more of a risk for foreign investors, and so many stipulate standards in investment agreements which guarantee some protection of the foreign investor's assets. It is these protections which will eventually help secure compensation for foreign investors in international tribunals. Without such stipulations, direct expropriation may come ungrounded within the context of international investment laws, and therefore result in potential years of trials and hearings to clear the matter and properly compensate the foreign investor for the lost asset.

Indirect Expropriation

Unlike direct expropriation, indirect expropriation is much harder to deal with when disputes between the investor and State arise. Because of the nature of indirect expropriation, it tends to be much more debatable between both parties, State and investor. Indirect expropriation has been used "to create a seemingly stronger presumption in favor of state public welfare regulations than previous cases," (Edsall 2007:934). States use indirect expropriation to promote social welfare and protect their sovereignty from invading foreign exploiters. It was the right given to States to exercise their sovereignty within their own borders, yet has also lead to great damages incurred by foreign investors who have been wrongly expropriated from various States. The move to indirectly expropriate a foreign investor may in fact actually "deprive the owner, in whole or in significant part, of the use or reasonably-to-be expected economic benefit of property," (Edsall 2007:937). Indirect expropriation is executed by States in order for their own public good. In the modern context, "There are very few cases of indirect expropriation at the international level because under customary international law, a state is not responsible for loss of property or other economic disadvantage resulting from bona fide general taxation, regulation, forfeiture from crime, or other action of the kind," (SICE: 1). This leaves the resolution of indirect expropriation cases harder to work out, with much more risks involved on behalf of the foreign investor who lost assets or property in a particular State. However, a State may also ultimately decide to use an indirect expropriation in the event of a breach of contract on behalf of the investor. Although not typical in international cases, if this breach of contract has in some way placed the good of the people in the host State in jeopardy, that State is allowed the right to commence expropriation. In international law, "it is generally accepted that an indirect expropriation may occur in the form of a material breach or cancellation of a contract," (Weiler 2005:296). Therefore, the State may exercise its right to take back property and assets under a contract breach.

In the European Union, indirect expropriation is normally limited to European countries and their dealings with developing nations. Typically, measures leading up to an indirect expropriation, especially in cases of a breach of contract, are handled locally by domestic courts in the European Union. Since there is much more stability in this region than in other areas of developing nations, there is little worry of investors about the State taking their assets for the nature of the public good (Hober 2007). However, European companies and individual investors have begun protecting themselves from indirect expropriation of assets in other developing nations with various treaties and umbrella clauses in investment agreements. Under these types of clauses, proper evidence for a legal indirect expropriation becomes difficult to prove, "The object and purpose of the umbrella clause is to add extra protection to the investor. It dispenses with the often difficult proof that there has been an indirect expropriation or a violation of the fair and equitable standard under the treaty," (Weiler 2005:301). Yet, even under the context of these treaties and clauses, if a company or single investor breaches contract, there may still be open room for the commencement of an indirect expropriation. International law states that the State has a right to protect its contracts, "International courts and tribunals have held repeatedly that measures by a State, affecting rights under a contract, may amount to an expropriation," (Weiler 2005:296). And so, legal indirect expropriation is most possible in the event of a deliberate breach of contract by the foreign investors.

Legality of Expropriation

There are strict legal restrictions to the nature and legality of expropriation under today's international investment laws and regulations. According to such international laws, "expropriation cannot be made without a fining of 'injury' to the investor (due to the deprivation of its investment) and of 'causation' between the respondent's conduct and such injury," (Ripinksy & Williams 2008:142). Expropriation itself is a State's lawful right to exercise its own sovereignty (Hober 2007). When a contract is breached or the good of the public of that State is placed in jeopardy, the State has right to take back all assets and properties which lie within its national borders. However, there are also legal obligations that States must follow in order to lawfully conduct an expropriation under international laws. The State must not be infringing upon any stated contracts or treaties between nations, and must also be within the grounds of the stipulations given by the ICSID. In the event of an expropriation, proper compensation must be awarded to the investor for the investment assets. These compensations can increase if the expropriation was conducted illegally. Therefore, it is important within the modern context for nations to act under strict adherence to international guidelines which pertain to the legality of the given expropriation.

The modern unity of the European Union ensures a much easier and level playing field regarding the legality of expropriations seen within the context of its borders. Trade treaties invoked by membership of a State within the European Union itself are set up to handle breaches of contracts and ensuring the legality of proper expropriation between member States. These treaties are regulated by the State itself, the European Union, and the international tribunals and bodies governing over investment laws and relations between nations.

However, it is within the context of dealing with developing nations in which the strength of treaties and investment agreements can prove essential. In previous generations, investment dealings with developing nations have proven risky, but "Today, there is less controversy surrounding this issue because the great majority of investor-State disputes are brought pursuant to investment treaties which typically fix a specific standard," (Ripinksy & Williams 2008:71). Treaties with developing nations help ensure the safety of the investor's assets and helps keep the State liable for its actions in expropriating foreign assets. These treaties can help keep a developing State in check from acting wrongfully under more developed international law, "Investment treaties regulate State action. Claims under investment treaties therefore are limited to claims that the State itself failed by act or omission to comply with the specific obligations undertaken in the relevant treaty," (Weiler 2005:17). Rather than leaving the fate of the investment dispute in the hands of domestic courts, a breach of a treaty means that the matter goes far beyond that of a typical domestic dispute. When such treaties are broken by the State during an unlawful expropriation, the matter can no longer be judged domestically within the host country. Once the stipulations of the treaty have broken, the dispute becomes one to be handled by the statutes of international law. The tribunals conducted by the ICSD and all of the regulations involved in foreign investing stipulates that cases of expropriation do occur, they must be handled under international law, (Dolzer & Schruer 2008). This helps protect investors from their cases being mishandled by a biased domestic court and ensure better security of their foreign investments.

The system as it is currently set up is based off of previous dealings with developing countries that demanded handling by international law rather than the host State itself. At one point in 1938, the Mexican government expropriated all foreign oil investor's assets in the country. Under modern international law, such an action was an illegal expropriation, and therefore granted to international hearing. However, at the time, it was much more difficult to ensure the safety of one's assets over seas. Efforts from American investors to ensure compensation were failures until much later in 1942 when American investors, and even later for British investors, in Mexican oil finally began to receive some compensation for their expropriated oil assets. A direct result of this oil conflict between Mexico and the United States actually set a precedent still used in modern expropriation cases. The case created the compensation standard, which "requires the payment of full market value of the expropriated asset speedily in a convertible currency," (Redfern & Hunter 2004:496).

Modern day cases within developing nations still attest to the challenges of the legality of indirect expropriation in arbitral and judicial practice. There are several illustrative cases which show the handling of indirect expropriation of foreign assets in a modern day context within developing nations. Another case in Mexico, Waste Management v. Mexico helped regulate the concept that expropriation cases must be handled under international law rather than domestically, for the investor is sure to see biased results of his or her complaints within the context of a domestic court. The American company USA Waste Services filed suit against Mexico in violation of NAFTA Articles 1105 and 1110 after the municipality of Acapulco refused to pay for the services granted to the, including street cleaning and waste management. The company claimed that Mexico "failed to comply with payment and other obligations set forth in the concession agreement despite full performance […] it also asserted that Banobras, a Mexican bank that had issued an unconditional guarantee for the payment, arbitrarily refused to honor the payment," (U.S. Department of State 2008:1). Under NAFTA Article 1121, this case "pointed out that a distinction must be made between the legal obligations of Mexico under Mexican law and the legal obligations of Mexico under its international treaty obligations imposed by NAFTA," (Weiler 2005:310). Although Mexico was trying to see the case be handled domestically, its obligations to NAFTA forced it to move the case to international courts. Violating the terms of the NAFTA Article meant placing its own protection of trade exploitation in jeopardy. Although Mexico still contended that the claims of the expropriation were leasing arguments and therefore to be handled under domestic statues, "The measures complained of in the domestic proceedings may well be elements of the creeping expropriation on which the NAFTA claim is based," (Weiler 2005:310-311). Eventually, the case was seen to have been based on the statutes of the NAFTA treaty, and therefore liable to regulation conducted by international courts and proceedings. Within the context of this particular case, Arbitrator Keith Highet "adopted a distinction between treaty claims and domestic law claims that is strongly reminiscent of the practice under the fork in the road provisions," (Weiler 2005:311). Yet, Mexico still debated that there were domestic violations that had been at the route of the expropriation, leading to a domestic handling of the case. Therefore the claim was initially dismissed, but was later resubmitted by Waste Management and found admissible by the Tribunal overseeing the claims based on the idea that "By that time all domestic proceedings had been dismissed or discontinued," (Weiler 2005:311). This meant that since all domestic hearings were concluded by the time of the treaty breach, the case fell under international stipulations and regulations. This was regulated by the NAFA Article itself which stated "It would only be where a lawsuit had been commenced in domestic courts that essentially alleged the equivalent of a violation of Chapter Eleven that would be a clear preemption […] such case or cases would have to allege nationalization, expropriation, taking -- direct or indirect -- and other action inconsistent with international obligations of the Respondent," (Weiler 2005: 311). This decision made an impact on how to handle investment disputes which had previously gone through the ropes of domestic courts and regulations. Mexico's desire to proceed domestically was later overturned, showing that such cases can be reversed in order to allow the international community to regulate the legality of the expropriation, "under the NAFTA provision it appears that any choice made in favor of seeking damages before a domestic court could conceivably be reversed in order to gain access to international arbitration," (Weiler 2005:313). Such cases have protected the legal right for the case to be heard under international laws rather than domestic courts.

Another illustrative case which explores the nature of handling expropriation cases on an international level in the context of developing nations rather than leaving it to a domestic dispute is the case of AMCO v. Indonesia. This case arose out of the issue

"in terms of whether there had been a lawful expropriation under general international law," (Weiler 2005:316). AMCO had established an Indonesian partner in the region, PT AMCO. The American company then transferred shares from AMCO into the new corporation, but with little mention of ICSID arbitration if things were to go sour. However, later "the tribunal held that Indonesia's approval of the share transfer itself constituted agreement that the successor in interest to AMCO would acquire all rights attached to those shares, including the right of ICSID arbitration, because the right to ICSID arbitration was not expressly excluded by Indonesia in the approval," (Reed et al. 2004:26-27). After AMCO's assets had been expropriated by the Indonesian government, the company went to the international regulatory bodies to help handle the dispute. However, Indonesian officials argued that the dispute involved a lease with a private party and therefore did not fall under ICSID regulations. Believing the issue to more than just a lease argument, AMCO pleaded its case before the ICSID tribunal. After careful revue of the case and all of its details and complaints from both AMCO and the Indonesian government, the ICSID tribunal saw more in the case than a simple lease dispute resulting in acquisition of AMCO's assets. The tribunal "concluded that the Request did not call upon it to arbitrate a lease dispute but one that arises from an alleged nationalization or expropriation," (Weiler 2005:317). This case then helped strengthen the precedent that cases involving more details than simple leasing disputes would not be heard by domestic courts, especially in developing nations where there is almost a guarantee to have a bias against the interests of the foreign investor. Rather, after reviewing the details, if the case breaks contractual or treaty obligations, it must be heard under international law, with either NAFTA or in this case ICSID overhearing and judging the proceedings.

One more major case where the dispute was said to have risen out of a leasing dispute is that of Wena Hotels v. Egypt. The British owned Wena Hotels claimed to the ICSID that despite issues with leasing disagreements, the nation of Egypt failed to provide enough notice of the expropriation. When Wena Hotels began a commercial dispute with an Egyptian State company over leasing agreements, things quickly got escalated. Egyptian nationals eventually invaded the hotel with brutal force and destroyed hotel property as hired to do by the Egyptian State company. According to research, "The Claimant contented that it had a separate dispute with Egypt for expropriating Wena's investment without prompt, adequate and effective compensation and by failing to accord fair and equitable treatment and full protection and security," (Weiler 2005:317). However, Egypt's objections revolved around the concept that "the dispute was in reality about lease agreements with EHC, an Egyptian public sector company," (Weiler 2005:317). Yet, Egypt and the UK had a BIT treaty in place which secured fair and equitable treatment of such disputes. This clause within the BIT set up the concept that the treaty had been breached, and therefore was a matter of being hold under international law. The State of Egypt had failed to provide security and protection for the hotel and its assets, when the BIT they had with the UK had strictly lined that out. The ICSID found evidence that the Egyptian government had knowledge of the State company's aggressive actions towards the Wena hotel. In its final decision, the tribunal was to hold the executives of the State company responsible on omission for the restoration of the hotel to its previous state or to be responsible to compensate the owners of the Wena for the assets and damage committed during the expropriation of the hotel. In this case, a government company had tried to exploit its relations and connections with the Egyptian government, and so was held responsible for the need for compensation seen in unlawful expropriations.

Compensation

Under international law, in the event of an expropriation there are issues of determining compensation. Compensation traditionally meant within the context of international law "to refer to the consequences of lawful exercise by States of their sovereign rights, specifically the right to expropriate foreign-owned property," (Ripinksy & Williams 2008:5). Under this set up, it was the State who was being compensated by the re-acquisition of the property or asset at hand. This left many foreign investors powerless to get damages or reparations for their losses, "The state has the power to take actions, in the public interest, without having to pay compensation, even if the interests of individual property owners may be adversely affected," (SICE: 1). Yet, as world trade became more and more globalized, and more foreign investors came streaming into States from all around there was a move to push towards protecting the assets of the investor along with protecting the sovereignty of the State. When once before investment assets were basically wide open for the taking if done under the context of a legal expropriation, there are no regulations which force the hosting State to take on some of the responsibility of that investment asset, even if the expropriation was conducted on legal grounds, an expropriating State is under an obligation to pay compensation in cases of both lawful and unlawful expropriation," (Ripinksy & Williams 2008:67). States now have legal responsibilities, which may be limited to the valuation of the asset, but still guaranteed to give reparations back to the investor from whom the State expropriated the asset. Nowadays, compensation is considered more for the "reparation for wrongful acts of States," (Ripinksy & Williams 2008:5). Thus, both State and investor rights are protected under modern international law.

Although the State is liable to pay compensation in the event of both a legal or illegal expropriation, unlawful expropriations may be subject to more liabilities on behalf of the State. As a consequence of breaking international laws, an illegal expropriation conducted by a State is penalized by extra compensation of the investment asset, "An award of compensation for an unlawful expropriation is governed by customary international law, which equates unlawful expropriation to other wrongful acts of States," (Ripinksy & Williams 2008:88). This is meant to rectify the wrongdoing conducted by the state during the unlawful expropriation of the investment. If an investment is expropriated through illegal means, as which typically happens in the nationalization of developing areas and other similar unstable circumstances in such countries, compensation for the investment can increase to include incidental charges which occurred through the act of expropriation. In the case of Siemens v Argentina, Seimens was entitled to incidental charges which had occurred during the illegal expropriation. Seimens, a German company had established presence in Argentina and created a very robust BIT in order to secure the assets, both physical and financial, of its legal entity in the region. According to research, "the underlying BIT between Germany and Argentina defined investments to include shares and other forms of interests in legal entities," (Organization for Economic Co-Operation and Development 2008:45). When Argentinean expropriated the company's assets, including its shares in the country, it did so illegally and formerly broker the BIT trade agreement between the two nations. Thus, it was taken to be reviewed under international law by the ICSID tribunals. Overall, the ICSID agreed with the German Seimens company that the expropriation had been conducted illegally and therefore the company was due more than just the simple market value of the assets lost. The Claimant received the fair market value of the investment, "but also to any greater value that enterprise has gained up to the date of this Award, plus any consequential damages," (Ripinksy & Williams 2008:301). Such a case is an example of a company being rewarded for its assets above what the typical market value is based on future performance and any damages incurred during the illegal expropriation. According to international investment law, "Damages are traditionally understood as a legal remedy available in cases involving an illegal act, including acts contrary to international law," (Ripinksy & Williams 2008:5). When assets are taken by a State illegally and damaged in the process, that State is therefore responsible for the repayment of those damages for not conducting the expropriation under the legal constraints of international laws and regulations. This is typically viewed as a customary compensation law, where "Under this customary law regime, these additional losses are recoverable," (Ripinksy & Williams 2008:87). Such statutes help protect foreign investors from loosing out on not only the market value of their investment when expropriated illegally by the host State, but also future value and shares associated with that asset. According to international law, "compensation for unlawful expropriation must not fall below compensation for lawful expropriation," (Ripinksy & Williams 2008:256). This further protects investors from loosing out on asset worth in the event that their host State acts illegally and wrongly under international regulations.