Publications

Trade and Investment Rules for Energy

II. Promoting Energy-related Investments

Analysis

In dealing with energy investments, several factors predominate, viz., the length of the planning process, the long-term life of energy infrastructure, the required length of the payback period on invested capital. All of this points to the need for a stable, long-term and transparent regulatory climate over the life of those investments. As part of these endeavours, the following elements merit special attention.

The Meaning of "Energy Investment"
The upfront investment phase of energy projects may involve significant commitments in terms of time, effort, and money, notwithstanding that the actual decision to fully commit capital may have not yet been made. Recognizing that circumstances differ from project to project, the Task Force believes it could be desirable to formulate a set of non-binding benchmarks to better ensure that legitimate preparatory financial commitments and expenditures in the "pre-investment" phase of energy projects are fairly and equitably treated by host States.

At the same time, there should be some way to determine when other kinds of activity (such as exploratory meetings and prospective investigations) are not truly related to pre-investment activity and so are outside the scope of investment protection rules. A particular issue for consideration is foreign-sourced or foreign-financed research and development activity in the host State that may or may not be related to a subsequent investment activity by the enterprise concerned.

Fair and Equitable Treatment and Full Protection and Security
Terms such as "fair and equitable treatment," etc., are widely used in international agreements; however, they are not always used consistently or with the same intent and have been interpreted differently by arbitration tribunals. Some international instruments imply that the meanings are interchangeable or substantively close, while others distinguish between the two. Given this divergence, it seems appropriate for governments to explore ways of better defining their meaning and scope.

Non-Discrimination - National Treatment
A central underpinning of bilateral investment agreements is to ensure that qualified energy investments and investors are treated the same as domestic investors in "like circumstances." The primary obligation of the host State under these treaties is to accord standards of national treatment (subject only to special rules allowing exceptions in specific circumstances). Ensuring respect for the national treatment rule is critical for the energy sector.

One of the more challenging issues regarding national treatment is to determine when a foreign investor or an investment is in "like circumstances" to a domestic investor or investment. How "like" must the investment or the investor be? Can there be different or "unlike" circumstances depending on the size of the investment or some differences in technology between the local investment project and the foreign-invested project? These matters also merit clarification.

In the trade area, several GATT and WTO panels have concluded that breaching national treatment requirements is not confined to cases of de jure discrimination. Discrimination can equally exist where there is less favourable de facto treatment, whereby a foreign good or service is not accorded equality of commercial opportunities in the domestic market vis-à-vis a local product. This doctrine has been applied in numerous investor State arbitration awards. It is recognized that an analogy to the GATT/WTO national treatment obligations in the context of investments is not perfect and should be used with a degree of caution. Nevertheless, GATT/WTO jurisprudence offers a useful reference point in clarifying the standard of national treatment for energy investments.

Non-Discrimination - Most Favoured Nation Treatment
There are hidden complexities in ensuring MFN treatment where the host State has entered into different investment protection agreements with a variety of States. Because the level of investor treatment in these agreements may differ, it becomes a challenge to determine how to apply the MFN obligation across a spectrum of different treaties and to avoid preferences being accorded to one foreign source of capital over another.

Expropriation and Nationalization
A sine qua non for energy investors is a guaranty against unfair, discriminatory, or improper seizure of assets by governments, and assuring those investors that their rights to open procedures and the rule of law will be respected, including unfettered access to impartial judicial processes and effective and expeditious compensation.

Experience in the application of BITs and FIPAs shows that cases of direct expropriation are normally not difficult to determine. More difficulty lies in determining when governmental action leads to "indirect" expropriation. Indirect expropriation, often called "creeping" expropriation, can take many forms, including disguised or opaque regulations and policies that have the effect of removing or depreciating the value of an investment.

By the same token, many domestic regulations and policy changes are totally legitimate as acts of State and fall outside the realm of expropriation. Because international jurisprudence has been inconsistent and because of the desirability for greater precision, it would be valuable to define those elements that can determine what would amount to an indirect expropriation through a regulatory "taking" in energy investment situations. These rules would build on emerging jurisprudence in this area.

Movement of Capital
An essential component of investment security is the right to move capital in and out of host States. The Task Force believes there is value in setting down some form of nonbinding guidelines respecting rights over the movement of capital and the repatriation of profits specific to the energy sector. Numerous BITs and FIPAs contain model provisions that can be used for this purpose.

Transparency and Related Issues
Modern BITs and FIPAs contain obligations ensuring that investment related regulations are public and subject to open and transparent procedures. While details vary, transparency obligations and corresponding rights of investors to challenge failures of governments to meet these obligations are fairly standard, but vary in terminology and scope from agreement to agreement. Because of concerns over arbitrary and non-transparent regulations affecting the energy sector, it may be useful to consider ways in which these obligations can be made more precise.

Role of State-Owned Enterprises
State-owned companies can be important players in the energy sector. Their role varies from country to country, reflecting the fact that natural resources are sovereign assets and frequently under the administration of State agencies. These government-owned or controlled entities are frequently main or major participators in the development, generation, distribution, and delivery of energy goods and services.

The Task Force sees value in ensuring that governments respect standards of non-discrimination in respect of energy investments made by State-owned corporations. By the same token, it is important to ensure that management of State-owned corporations respect these same rules, and that governments not use these enterprises as surrogates to accomplish indirectly what would be impermissible if done by governments directly.

Under the GATT, State Trading Enterprises (STE) are required to act consistently with the non-discrimination and other requirements of the agreement in their purchases and sales. STEs are specific kinds of enterprises and cannot subsume all types of State-owned corporations. The question for consideration is the extent to which GATT obligations respecting the conduct of STEs can or should be made applicable to State-owned or controlled entities in the energy sector.

Exceptions and Safeguards
Exceptions to the application of investment rules, similar to those in the GATT, have been widely used in BITs and FIPAs. The terms vary, but it is common to provide States with the right to control the entry and establishment of foreign investments, to exempt whole sectors of the economy from coverage, and to exclude obligations for purposes of host State regulation of the economy or with respect to health, social benefits, and other areas of public policy.

To the extent that the host State decides not to include all or portions of the energy sector in their bilateral agreements, little can be done. Otherwise, given the importance of energy to global development, it would be useful for governments to agree on some form of guiding principles to limit exclusions, reservations, or exceptions of energy investments covered in these kinds of treaties.

Other Issues - Effective and Efficient Dispute Resolution
International dispute settlement is becoming more procedurally complex and increasingly costly, even when seemingly straightforward factual situations are involved. Increasing attention has been given in international legal circles on ways to simplify the arbitration process (where used) to reduce length and cost for participants, while at the same time taking into account that certain disputes require arbitrators with special expertise. The goal is to make it more predictable and efficient and, ultimately, less lengthy and less costly for all stakeholders.