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Investors Beware: Enron and Sempra Annulment Decisions Bolster the State Necessity Defense While Sowing New Uncertainty Regarding the Finality of ICSID Arbitral Awards

August 9, 2010

 

The recent annulments of two ICSID arbitral awards in Sempra Energy International v. Argentine Republic and Enron Corp. Ponderosa Asset, L.P. v. Argentine Republic have created new uncertainty regarding the scope of review in annulment proceedings under the ICSID Convention. They have also contributed to the continuing uncertainty regarding the proper application of the “necessity” clause—a standard provision in bilateral investment treaties that exempts state actions in extraordinary circumstances from the protection of the treaties. These decisions, which annul two more-than-$100 million awards against Argentina, lend further support to a state’s defense of necessity in times of economic and political turmoil, and suggest that the scope of annulment committee review may be more expansive than previously thought.

In the early 1990s, Argentina privatized several of its major government-run industries, including natural gas. Among the many international corporations that invested in these assets were the now-defunct Enron Corporation and Sempra Energy International, a San Diego-based energy services company. Enron invested in government-issued licenses to transport natural gas, while Sempra invested in licenses to distribute it.

In response to an economic crisis, the government of Argentina made changes to its currency regime in 2002 that altered the terms of those licenses, dramatically diminishing the value of Enron and Sempra’s investments. The companies alleged that these changes violated Argentina’s contractual obligations as well as guarantees provided under the Argentina-U.S. bilateral investment treaty (the “BIT”) and both filed requests for arbitration under the ICSID Convention.[1] The two arbitrations proceeded in close parallel, as they shared almost identical factual circumstances, the same counsel, and the same tribunal president.

Argentina argued in both arbitrations that its actions were necessitated by a collapsing economy that had produced nationwide rioting and five different presidents in the span of a month. It argued that its actions were accordingly exempted from liability by both Article XI of the BIT as well as customary international law.

Article XI of the BIT provides that the treaty does not preclude the government from enacting “measures necessary for the maintenance of public order, the fulfillment of its obligations with respect to the maintenance or restoration of international peace or security, or the [p]rotection of its own essential security interests.” Customary international law—which Argentina and both claimants agreed is reflected in Article 25 of the International Law Commission’s Articles on State Responsibility—provides that the necessity defense cannot be invoked unless the act was the “only way for the State to safeguard an essential interest against a grave and imminent peril” and the state did not “contribute[] to the situation of necessity.”[2]

At least one leading observer, who also served as an expert for Argentina in both arbitrations, argued that customary international law provides a “far more rigorous standard” than Argentina negotiated for in its BIT.[3] Yet both tribunals reasoned that because the BIT does not define necessity and the conditions for its operation, they must rely on customary international law for the elements of Article XI.[4]

Applying these elements, both tribunals held—in several pages of nearly verbatim discussion—that Argentina could not invoke the necessity defense. According to the tribunals, the crisis did not qualify as one involving an essential state interest, the state’s response was not the only one available, and the state substantially contributed to the situation it faced.[5] In addition, the tribunals both held that Argentina breached the fair and equitable treatment provision and the umbrella clause in the BIT. Enron received a damages award of over $106 million, and Sempra was awarded over $128 million.

Argentina sought the annulment of both awards, and those requests were granted on June 29, 2010 in Sempra and on July 30, 2010 in Enron. It is here that the Sempra and Enron stories diverge.

Under the express terms of the ICSID Convention, an annulment proceeding is not an appeal.[6] An annulment committee’s scope of review is limited to annulling an award in whole or in part on five enumerated bases, including “that the Tribunal has manifestly exceeded its powers” and “that the award has failed to state the reasons on which it is based.”[7]

According to the annulment committee in Sempra, the tribunal’s mistake was equating customary international law with Article XI. The two may share similar language, but the committee found that customary international law is not a guide to Article XI’s interpretation, much less a proxy for its express terms. Sempra argued that an “error of law is not a ground for annulment.”[8] The committee characterized the tribunal’s mistake differently, however—not as a mere error of law but as a complete “fail[ure] to apply the applicable law.”[9] Thus, the committee concluded that the tribunal had manifestly exceeded its powers.

The annulment committee in Enron felt the tribunal was permitted to find customary international law and Article XI interchangeable.[10] But it concluded that the tribunal manifestly exceeded its powers by failing to fully apply the elements of either doctrine. The committee added that at the very least the tribunal failed to explain its reasoning, an independent basis for annulment.[11]

For example, since there is always more than one way to respond to a crisis, the committee asked if the necessity defense truly requires that the state’s response be the “only way” for it to safeguard an essential interest.[12] And how free from fault must a state be in the instigation of a situation of necessity, which inevitably has countless causes?[13] The committee concluded that the tribunal did not address such questions when it rejected Argentina’s necessity defense. Instead, it relied on the conclusions of an expert economist, who claimed that the government’s policies were partially at fault and that there were other responses available once the crisis arose.[14] The tribunal’s failure to make legal findings on these issues “amount[ed] in the Committee’s view to a failure to apply the applicable law,” an annullable error.[15]

A few years ago, a third annulment committee addressed this same set of tribunal findings regarding Argentina’s necessity defense and came up with yet a third approach. In that case, CMS Gas Transmission Company v. Argentine Republic, the tribunal had also applied customary international law and concluded that Argentina’s conduct was not excused by the necessity defense, just as in Sempra and Enron.[16] Although the committee disagreed with the tribunal’s reasoning, it declined to annul the award.

The CMS committee held that by substituting customary international law for the language in the BIT, the tribunal failed to “examine whether the conditions laid down by Article XI were fulfilled . . . .”[17] It concluded, however, that although this was a defective application of Article XI, it was an application of the BIT provision nonetheless. Accordingly, there had been “no manifest excess of powers” and no basis for annulment.[18]

The Sempra and Enron committees’ decision to go farther and annul the tribunal awards illustrates two divergent views of the scope of an annulment committee’s review under the ICSID Convention. The committee’s decision in CMS indicated that an error of law, no matter how egregious, cannot be the basis for annulment. The committees’ decisions in Sempra and Enron, on the other hand, leaves the door open to this possibility, particularly where the error can be characterized as a complete failure to apply applicable law.

The Sempra and Enron annulment decisions also prolong the uncertainty surrounding the proper interpretation of a standard necessity defense provision. In addition to the arbitral tribunals and annulment committees in Enron, Sempra, and CMS, one other ICSID tribunal has addressed this provision in the BIT. In LG&E Energy Corp. v. Argentine Republic, the tribunal found that Article XI provides a necessity defense that is distinct from customary international law and excused Argentina from liability.[19] Though none of these decisions are binding on future arbitrations,[20] investors seeking to arbitrate a dispute before an ICSID tribunal no longer benefit from the weight of authority tipping in their favor.

Under the ICSID Convention, Sempra and the Enron Creditors Recovery Corporation are now permitted to submit the dispute to a new ICSID tribunal, which would be bound only to those findings that were not annulled by the committees.[21] 


[1] Sempra Energy Int’l v. Argentine Republic, ICSID (W. Bank) Case No. ARB/02/16, Award (Sept. 28, 2007) (the “Sempra Award”) ¶¶ 4, 94; Enron Corp. Ponderosa Asset, L.P. v. Argentine Republic, ICSID (W. Bank) Case No. ARB/01/3, Award (May 22, 2007) (the “Enron Award”) ¶ 87.

[2] Int’l Law Comm’n, Draft Articles on the Responsibility of States for Internationally Wrongful Acts with Commentaries, art. 25, U.N. Doc. A/56/10 (2001).

[3] William W. Burke-White, The Argentine Financial Crisis: State Liability under BITS and the Legitimacy of the ICSID System, 3 Asian J. WTO & Int’l Health L. & Pol’y 199, 213 (2008).

[4] Enron Award ¶¶ 333–334; Sempra Award ¶¶ 376, 378.

[5] Enron Award ¶¶ 305–313; Sempra Award ¶¶ 347–355.

[6] ICSID Convention, art. 53(1).

[7] Id., art. 52(1)(b), (e).

[8] Sempra Energy Int’l v. Argentine Republic, ICSID (W. Bank) Case No. ARB/02/16, Decision on Argentine Republic’s Request for Annulment of the Award (June 29, 2010) (the “Sempra Annulment Decision”) ¶ 144.

[9] Id ¶¶ 164–165.

[10] Enron Corp. Ponderosa Asset, L.P. v. Argentine Republic, ICSID (W. Bank) Case No. ARB/01/3, Decision on the Application for Annulment of the Argentine Republic (July 30, 2010) (the “Enron Annulment Decision”) ¶ 403, 405.

[11] ICSID Convention, art. 52(1)(e).

[12] ILC Draft Articles, art. 25(1)(a); Enron Annulment Decision ¶¶ 369–372.

[13] ILC Draft Articles, art. 25(2)(b); Enron Annulment Decision ¶¶ 387–389.

[14] Enron Annulment Decision ¶¶ 384, 393.

[15] Id. ¶ 393.

[16] CMS Gas Transmission Co. v. Argentine Republic, ICSID (W. Bank) Case No. ARB/01/8, Award (May 12, 2005) ¶¶ 353–358. Professor Francisco Orrego Vicuña, president of the tribunals in Sempra and Enron, also served as president in CMS.

[17] CMS Gas Transmission Co. v. Argentine Republic, ICSID (W. Bank) Case No. ARB/01/8, Decision of the Ad Hoc Annulment Committee on the Application for Annulment of the Argentine Republic (Sept. 25, 2007) ¶ 135.

[18] Id. ¶ 136.

[19] LG&E Energy Corp. v. Argentine Republic, ICSID (W. Bank) Case No. ARB/02/1, Decision on Liability (Oct. 3, 2006) ¶ 245.

[20] Although the ICSID Convention provides in Article 53(1) that “an award shall be binding on the parties…” without ruling out the possibility of a binding effect on other arbitrations, the lack of stare decisis is generally presumed. Christoph H. Schreuer, The ICSID Convention: A Commentary (Cambridge University Press, 2001), 1082.

[21] ICSID Convention, art. 52(6); Schreuer, The ICSID Convention, 1066–73.