the coming wave of corruption defenses to expropriation

The Coming Wave Of Corruption Defenses To

Expropriation Claims In Investment Treaty Arbitrations

Alexander A. Yanos

September 2016

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Structure Of Presentation

I. Overview: Corruption As A Defense To Expropriation Claims

II. The Problems Created By The Corruption Defense

III. Guidelines For Avoiding The Corruption Defense

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What Is Corruption?

• The World Bank defines corruption as “the abuse of public office for private gain.”

– Most forms of corruption by government officials are not relevant to investment treaty arbitration because they involve pure self-dealing on the part of government officials (i.e., they are using power to benefit themselves without the involvement of foreign investors)

• Corruption has serious consequences

– Corruption deprives African governments of an estimated $50bn annually (U.N.E.C.A). Oxfam estimates that 30% of Africa’s wealth is held offshore, costing an estimated $14bn in annual tax revenue

• In the context of investment treaty arbitration, the focus of corruption is on bribery.

– Bribery arises when there is an exchange of any kind between a public official and a private actor that results in private gain for the public officials in exchange for the receipt by the private actor of public benefit

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How Are Bribes Given?

• Few Bribes Are Given Directly To Government Officials, Most Foreign Investors Use Third Party Intermediaries To Effect Bribe

• Many Foreign Investors Do Not Even Know That Their Agents Are Bribing Officials

– However, many do adopt a "don't ask, don't tell approach" with agents and/or adopt policy of willful blindness with respect to the conduct of their in country agents

• Until Recently, Few Non-U.S. Investors Had Anti-Corruption Compliance Programs In Place

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The Benefits Investors Can Obtain Through Bribery

• Government contracts

• Government benefits (including subsidies, lower taxes, or in-kind benefits such as the construction of other government projects in an area or in a manner that would benefit a private project)

• Licenses and other exclusive rights over which the government has a monopoly

• Permits (Construction or Environmental, among others)

• Time (a bribe to a public official could result in the extension of a critical deadline or the shortening of a period for the submission of competitive bids or public comment on a particular proposed investment)

• Legal outcomes

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Not All Bribery Is Of Equal Significance To A Foreign Investment

• Some Bribes Are Determinative Of The Existence Or Economic Viability Of A Project

– Note, the question is not the size of the bribe or when the bribe was made, but the impact of the bribe on the existence or viability of the Project

• Some Bribes Involve Minor Issues Affecting The Project (Sometimes referred to as petty or retail corruption)

– Bribes that occur after an investment is made or relate to work that is ancillary to the main investment might fall into this category

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Not All Bribery Is Of Equal Significance To A Foreign Investment

• Not all gifts made to public officials are unlawful in the country in which the gift was received

• In some countries, certain gifts that would be deemed unlawful under the Foreign Corrupt Practices Act (FCPA) or the UK Bribery Act are not considered unlawful

– Under The FCPA or UKBA, Gifts To Public Officials For The Purpose Of Obtaining A Business Advantage Are Per Se Unlawful

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• Question: If A Foreign Investor Procures An Investment Through Bribery, Is It Appropriate For The State To Terminate The Investment (And Keep That Investment For Itself) Without Compensation?

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• Answer In Investment Treaty Cases is unclear:

– There Is Currently A Perception In The Market That Evidence Of Corruption Can Be Used To Avoid Responsibility To Compensate For An Expropriation. However:

• Most Cases In Which Corruption Was Found In Connection With The Investment Were Dismissed On Grounds Of Jurisdiction Or Admissibility-Not The Same As Upholding A Right To Terminate Without Compensation

• Some Tribunals Have Refused To Enforce Agreements Based On Corruption – Again, Not The Same As Upholding A Right To Terminate Without Compensation

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• Cases Dismissing Investment Treaty Claims For Lack Of Jurisdiction Based On Evidence Of Corruption:

– Metal-Tech v. Uzbekistan

– Alasdair Ross Anderson v. Republic of Costa Rica

– Inceysa v. El Salvador

– See also Fraport AG v. Philippines II, rejecting Phillipines’ jurisdictional objection because of a lack of “clear and convincing evidence regarding corruption and fraud” by Claimant.

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• Cases dealing with corruption defense on merits:

– ECE Projektmanagement International GmbH et al v. Czech Republic

– Wena Hotels v. Egypt

– Al Warraq v. Indonesia

– Valeri Belokon v. Kyrgyz Republic

– Getma International, et al. v. Republic of Guinea

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• Cases Holding That Tribunals Have A Duty To Refuse To Enforce Investment Treaty Claims (Or Similar Contract Claims) Based On Evidence Of Corruption:

– World Duty Free Co. Ltd v. Republic of Kenya

• Contract dispute, court refused to enforce based on public policy

– Phoenix Action v. Czech Republic

• Allegations were that investment was a fraud on the tribunal, not corruption, per se. Tribunal held that public policy prohibited it from allowing treaty protection under such circumstances.

– Plama Consortium Limited v. Bulgaria

• In ECT Claim, tribunal held that it had a duty to refuse to assist investors who have engaged in unlawful conduct

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• A Case In Which The Tribunal Stayed Liability Proceedings to Consider Corruption Allegations Belatedly Made by the State

– Niko Resources v. Bapex & Petrobangla

• Niko plead guilty to Canadian authorities of bribery in Bangladesh; an ICSID Tribunal sustained jurisdiction finding no evidence that the contracts at issue in the arbitration were procured illegally, bribery issue for the merits

• The Tribunal ordered Bangladeshi state oil company to pay Niko compensation for unpaid gas deliveries

• Bangladesh more recently introduced additional evidence of corrupt procurement , causing the Tribunal to suspend consideration of Bangladesh’s counterclaims to investigate the corruption allegations further.

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• A Case In Which Corruption Was Not Considered, But Perhaps It Should Have Been

– Siemens v. Argentina

• Siemens has told the U.S. SEC That The Investment In Question Involved Corrupt Payments

• One of the key witnesses in the arbitration has admitted to bribing public officials

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• Cases That Will Be Ruling On Similar Claims:

– MOL v. Republic of Croatia

– BSGR v. Guinea

•see also Rio Tinto v. Vale, SDNY

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• As noted in the conclusion of Metal-Tech

• “As a result of the foregoing analysis, the Tribunal lacks jurisdiction over Metal-Tech's treaty claims as well as over Metal-Tech's claims based on Uzbek law. While reaching the conclusion that the claims are barred as a result of corruption, the Tribunal is sensitive to the ongoing debate that findings on corruption often come down heavily on claimants, while possibly exonerating defendants that may have themselves been involved in the corrupt acts. It is true that the outcome in cases of corruption often appears unsatisfactory because, at first sight at least, it seems to give an unfair advantage to the defendant party. The idea, however, is not to punish one party at the cost of the other, but rather to ensure the promotion of the rule of law, which entails that a court or tribunal cannot grant assistance to a party that has engaged in a corrupt act.”

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II. The Problems Created By The Corruption Defense For Foreign Investors

THE PERVERSE INCENTIVES PROBLEM

• There is a risk that allowing States to invoke Corruption as a total defense to an expropriation will create perverse incentives

– If Corruption allows expropriation without compensation, then States have an incentive to tie FDI to corrupt payments –if the investment is unsuccessful, burden falls on the investor.

– However, if the investment is successful, the State has a free option to take the investment without compensation by virtue of the bribe.

– Neither Metal-Tech nor World Duty Free followed domestic investigations concerning the relevant corrupt officials

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II. The Problems Created By The Corruption Defense For Foreign Investors

THE POTENTIAL FOR ABUSE

• If States Believe That Corruption Is A Defense To A Claim For Compensation Following An Expropriation, Some States Will Be Tempted To Invoke The Defense In Cases Where No Corruption Was Present

– Problem Even More Acute If Tribunal Places The Burden On The Investor To Prove Absence Of Corruption, As Was The Case In Metal-Tech

– Arguably, the burden should always be on the state to prove corruption, except where the recipient of the bribe has already been prosecuted by the State

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THE APPLICABLE LAW PROBLEM

• New York courts have judged the legality of conduct based on the law in the place where the conduct occurred, whereas the consequences of any illegality have been determined by the contract's proper law

– Korea Life Ins. Co., Ltd. v. Morgan Guar. Trust Co. of New York, 269 F. Supp. 2d 424, 438 (S.D.N.Y. 2003)).

– See also Restatement (Second) on Conflict of Laws §187(2)(b)

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• Some commercial arbitration tribunals have refused to entertain claims that were obtained by corrupt means based on notions of international public policy

– e.g., ICC Case No. 1110 of 1963; World Duty Free v. Kenya

– Under the New York Convention, a country may refuse to enforce any arbitral award on public policy grounds.

– Because tribunal has obligation to render enforceable award, this may be an alternative basis for refusing to enforce a claim procured through corruption.

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• However, from an investor's perspective, unfair to judge corruption based on any law other than law in which alleged corrupt payment was made.

• At the same time, some states have vague anti-corruption laws

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THE BURDEN OF PROOF PROBLEM

• In Metal-Tech the tribunal placed the burden of proof on the investor

– Relevant Uzbeki officials were not subject to prosecution before the issue was raised in the arbitration (issue was raised, sua sponte by arbitrators)

– In World Duty Free the investor admitted to making the bribe – this kind of evidence is rare in corruption cases

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• After an expropriation, A Foreign Investor Often Has Limited Access To Relevant Information Concerning Alleged Bribes

– Foreign Investor May Not Have Access To Local Files

– Foreign Investor May Not Have Access To Local Employees

– Foreign Investor May Not Have Access To Local Agents

– Foreign Investor May Not Have Access To The Personnel Directly Involved With The Original Investment

• Due to the passage of time, many employees may have died or left the company

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• Even If State Has Prosecuted Alleged Recipient Of Bribe, That Evidence Cannot Always Be Seen As Dispositive Evidence That Bribe Was Made

• Some States have been known to use unsubstantiated corruption prosecutions as a way to silence dissidents

• Tribunals Must Be Particularly Suspicious Where Allegations Of Bribery Follow Significant Political Changes At The Top. Allegations Of Corruption Are Frequently Used And Misused In Politics.

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THE TEMPORAL PROBLEM

• Should corruption used to obtain an investment (but for corruption, no investment awarded) be treated the same way as corruption involved after the investment was made or ancillary to the primary investment?

– For example, should a bribe used to avoid an obligation to implement gabions on one part of a highway slope be used to avoid responsibility for an LNG investment where the highway was a small part of the overall investment and the remainder of the investment was "clean?"

• Where the Respondent cannot prove that but for the corruption, there would have been no investment, should the burden of proof fall on the investor?

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THE UNJUST ENRICHMENT PROBLEM

• If An Investor Spends $400M to build an LNG Plant, but procures the investment through corrupt means, is it fair for the State to obtain the full benefit of the investment without any compensation?

• Occidental Petroleum v. Ecuador and Yukos v. Russia both introduced the concept of comparative negligence (referenced as contributory negligence in the cases) as a means of apportioning damages where both parties bear some responsibility for the expropriation – would such concepts be appropriate in the context of corruption?

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THE THIRD PARTY INTERMEDIARY PROBLEM

• 90% of US FCPA prosecutions involved actions by agents , consultants, distributors or other intermediaries

• Companies can be liable for acts of agents and intermediaries (no “willful blindness”)

• Biggest compliance need: Strong due diligence on third parties; compliance personnel must challenge business units, look for “red flags”

• Many foreign investors – particularly investors from Asia – rely on third party intermediaries for local advice and intelligence (legitimate). However, if the local intermediary is not properly vetted and controlled, corruption problems could ensue

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BEFORE MAKING THE INVESTMENT

1. Take Care To Structure The Investment So As To Ensure BIT Protection2. Carefully Train Local Employees On Corruption

a) Do Not Offer Gifts To Government Officials Or Persons That Could Be Affiliated With Government Officials

b) Report Any Requests For Gifts Or Payments To Third Parties In Connection With Investment To Headquarters So That Third Party Can Be Investigated

c) Train And Counsel Subordinates On Same Ruled) Carefully Scrutinize Requests Made For Funds By Local Agents – What Is The Purpose

Of The Funds Requested By The Agente) Best To Have Written agreements with agents/business partners, including right to

auditf) Be Alive To "Red Flags"

3. Adopt A Compliance Program After The Investment Is Made 4. Remember That The Most Common Source Of Complaints Concerning

Corrupt Practices Is Disappointed Competitors/Bidders

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THE BASIC ELEMENTS OF A COMPLIANCE PROGRAM

• Every major international company should have an anti-corruptioncompliance program

• Having a good compliance program is not a safe harbor or completedefense, but can greatly assist in negotiating a good resolution in case ofa DOJ investigation

• Should be designed to conform not only to US FCPA, also UK BriberyAct, local law where company does business

• No “one size fits all” program; must be based on specific nature ofbusiness and risks of corruption

• Taken seriously; resources comparable to resources devoted to other types of risk

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FOR EXISTING INVESTMENTS

• Evaluate Whether The Investment Has BIT Protection

• If Investment Unprotected, or protected by inadequate BIT,consider restructuring investment

– Note, a restructuring is not always possible or may carry withit tax risks

– Do not restructure without careful review of applicable legalframework, contracts, and tax laws

– Must be completed before adverse actions taken againstinvestments

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• Consider Doing An Investigation Now (Not an FCPAInvestigation) To Determine Whether There Is Exposure

• Particularly Advisable Where A Change In Regime Is PossibleAnd New Government May Be Hostile To Deals Struck By PriorAdministration (Argentina, Venezuela and Nigeria, for example)

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• In All Cases, A Pre-emptive Investigation Will Allow TheInvestor To Obtain The Facts Before Being Ousted FromThe Jurisdiction

– Evidence Gathered Could Be Used To NegateInappropriate Accusations In Whole Or In Part

– Evidence Gathered Could Be Used To Negate ClaimThat Infraction Was Outcome Determinative ForInvestment

• Evidence Gathered Could Be Used To Negotiate PenaltiesAnd/Or Cure Of Minor Infractions With The State

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THANK YOU

Alexander Yanos

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Alexander Yanos – Partner, New York Tel: +1 212 837 6801 Email: [email protected]

• Alexander Yanos is a litigation partner in the New York office of Hughes Hubbard and co-chairs the firm’s Treaty Arbitration practice group. His practice focuses on complex disputes, particularly international disputes, both in court and before arbitral tribunals.

• Mr. Yanos’s arbitration practice includes commercial, financial and treaty-based disputes, particularly in the energy and mining sectors and in Latin America. Recently, was counsel for the Claimant in Crystallex v. Venezuela, which resulted in a $1.4 billion award in favor of the claimant; has obtained a finding of unlawful expropriation in an ICSID arbitration against Venezuela, one of the largest investment treaty cases ever filed; and also obtained a decision issued by the United States Supreme Court reinstating the award of BG Group plc against the Republic of Argentina. He also has obtained successful results for clients in disputes involving Algeria, Argentina, Bolivia, Ecuador, Libya, Lithuania, Russia, Pakistan, Paraguay, the United States, Venezuela and Vietnam. He has acted in matters before nearly every international arbitration tribunal, including: the International Centre for Settlement of Investment Disputes, International Chamber of Commerce, London Court of International Arbitration, American Arbitration Association, Hong Kong International Arbitration Centre, Inter-American Commercial Arbitration Commission, International Court of Justice and the Stockholm Chamber of Commerce.

• Mr. Yanos also has considerable experience litigating multi-jurisdictional disputes involving the securities, banking, antitrust and insurance industries. He is fluent in six languages.

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