State COVID-19 response and investors-arbitration in renewable energy

Summary

State responses to the challenges posed by the COVID-19 crisis have been rapid, dramatic and all-encompassing. The impact of these measures will be felt for many years to come. We introduce investment treaties and the protections they typically contain, and consider how the current COVID-19 crisis may give rise to future disputes.

Potential breaches of investor-State treaties

Although State intervention has been necessary to control the global pandemic, preserve life and public health, and support the global and national economies, many of the measures taken have widespread implications for international investors. Investors have suffered significant economic losses and face the prospects of further losses to come. They will necessarily be considering their options.

In May 2020, UNCTAD issued a special Investment Policy Monitor which warned that some of the policy measures taken by States in response to the pandemic may be challenged by foreign investors under international investment treaties.

Bilateral and multilateral investment treaties are agreements between States which seek to promote and protect investments made by foreign investors. They do so by conferring certain protections on investors of the other State in relation to their investments in the host State.

Investment treaty protections are no longer viewed as remedies of last resort, but important tools in an investors’ armoury. Investor-State cases are frequently high-value and complex. The largest investor-State award (against Russia in respect of claims by the former shareholders of Yukos under the Energy Charter Treaty) is worth in excess of US$50b. The availability of investment treaty protections should always be considered when an investor is making a significant investment decision into another territory and during any international corporate restructuring.

Although the parties to investment treaties are the contracting States, many treaties contain provisions allowing investors whose rights have been infringed to bring proceedings directly against the host State in international arbitration. The claimant needs to be an Investor who has made a qualifying Investment as defined by the applicable treaty. Depending on the treaty’s terms, investments may take the form not only of tangible assets, but also contractual rights such as rights under debt instruments. They may encompass not only directly-held investments, but also indirect investments held via intermediaries such as subsidiaries.

Renewable energy incentive schemes and investor-State protections

In recent years, policymakers have introduced incentives to promote the expansion of renewable energy. Investors have responded by committing significant resources into expanding renewable energy production. These include direct investors who commission and build the renewable energy infrastructure, and also indirect investors such as PE funds, pension funds and hedge funds, and banks providing project finance.

Significant renewable energy infrastructure projects are high-value, long-term investments, requiring substantial capital investment and predictable returns. Many States have enacted legislation designed to provide economic incentives and certainty to investors in this sector.

Occasionally States have sought to withdraw these incentive schemes, for policy or budgetary reasons. Some investors then allege that their investment treaty rights have been breached, for example by the State failing to recognise their legitimate expectations.

High profile arbitrations in the renewable energy sector have been brought against Canada under the North American Free Trade Agreement (NAFTA), and against Spain and Italy (among others) under the Energy Charter Treaty (ECT).

The claims against Spain are particularly numerous. There have been around 40 investor-State arbitrations brought against Spain following the withdrawing of incentives for renewable energy projects. Of the final awards issued, the State has won a handful, including the first decision involving solar incentives in Europe (Charanne BV and anor v The Kingdom of Spain - SCC Case No. 062/2012) However, the majority of subsequent decisions have favoured investors, including claims brought by PV Investors (a claim brought by 26 co-claimants) (€91m), Watkins Holdings (€77m) and Masdar Solar (€64m), among many others. While the State has undoubtedly been successful in staving off some of the largest claims (including the bulk of the PV Investors’ claims, which sought in excess of €2), the awards rendered against the State nevertheless total well in excess of half a billion Euros.

COVID-19 and ESG claims

As we emerge from the COVID-19 crisis, despite calls for a green recovery, the acute economic pressure on States may lead them to withdraw incentive schemes from renewable energy projects. Mexico’s recent decision to place restrictions on renewable energy production following a fall in the demand for electricity caused by the pandemic has been questioned by some investors, for example.

Given the scale of the losses arising from the COVID-19 crisis, and the value of investments into renewable energy projects (as the Spain cases illustrate), the sums at issue in some claims are likely to be extremely high.

The withdrawal of incentive schemes will not necessarily give rise to investment treaty claims. Investors will need to establish certain threshold questions as to their status as an investor and the nature of their investment. Assuming they meet the necessary jurisdictional thresholds, they will then need to establish that there has been a breach of the standards of protection afforded by the relevant treaty.

The protections afforded to investors vary from treaty to treaty, but generally include:

• fair and equitable treatment;
• full protection and security;
• non-discrimination as against nationals of the host State and (where
  there are most favoured nation clauses) of a third State; and
• no expropriation except for a legitimate purpose, on a
  non-discriminatory basis, in accordance with due process of law, and
  on payment of compensation.

States need to ensure that measures taken to control the impacts of the pandemic are reasonable and proportionate. That includes carefully calibrating when those measures should be lifted.

Even if the applicable standards of protection are breached, a State may have defences. For example, they may have grounds to claim force majeure or necessity, though such defences have rarely featured (still less succeeded) in investment treaty cases.

Some treaties include express provisions allowing States latitude to introduce emergency measures necessary to maintain public order or public health. Even where such provisions are lacking from the text, tribunals have recognised that States have the right – indeed, an obligation – to regulate. States are not prohibited from changing their legislation, provided foreign investors are treated in a non-discriminatory manner. Tribunals may defer to a State when assessing how the State chooses to regulate and manage its affairs. One of the paradigmatic examples of this is a State’s right to regulate in light of evolving scientific findings and consensus. This is particularly pertinent in respect of measures taken to control COVID-19 and, more generally, in environmental matters, where scientific evidence is often central or at least influential in shaping policy responses.

The above considerations are likely to feature in any claim relating to a State’s decision to alter or remove an incentive regime designed at promoting a transition to low carbon technologies, including those taken in light of the impacts of the COVID-19 pandemic.

However, as the cases against Spain, Canada and other States illustrate, States are not inured from claims relating to environmental, social and governance (ESG) issues.

Conclusion

Few would question that the COVID-19 pandemic demanded rapid and radical action by States. Not everyone will agree on the steps taken, or those that will be taken as States adapt and the lockdown is lifted.

International investment treaties do not hold States to an infallible standard. Amid the current uncertainty, States will be given a high degree of latitude to respond to the current crisis in the best way they see fit, driven in particular by the evolving scientific consensus.

However, States must be careful to comply with their public international law obligations. They will need to consider seeking expert advice on how to comply with these obligations, just as investors will be seeking advice on the legality of the measures taken. If decisions to remove incentive schemes for renewable energy projects are taken wrongly or opportunistically, we may see a new wave of investor-State disputes in their wake.