13.01  A major source of energy investor-state disputes in Latin America has been what some authors have called ‘the resurgence of resource nationalism’.¹ Resource nationalism refers to a shift in the political and economic control of the energy sector, from foreign and private interests to domestic and state-controlled companies. It is, in short, ‘nations wanting to make the most of their endowment’.² Resource nationalism presents itself in cycles, mainly as a by-product of high commodity prices, coupled with changes in political views on the state’s role in the economy, and poor contract drafting unable to adapt to fluctuating market conditions.³

(p. 294) 13.02  During the mid-2000s, episodes of resource nationalism took place around the globe, triggered by the surge in crude oil prices, which increased from US$20 per barrel in 2002 to nearly US$120 per barrel in 2008. These episodes materialized in two different legal forms. First, and as the most common response worldwide, were fiscal measures that the states considered to be a legitimate exercise of their sovereign power to impose taxes in their territories.⁴ Secondly, and less common, was outright nationalization of assets. In Latin America, some states—namely, Ecuador—responded to the oil boom solely with fiscal measures, while others—such as Argentina, Bolivia and Venezuela—responded with a combination of fiscal measures and nationalizations. Even though these nationalizations naturally targeted projects for the exploration and exploitation of crude oil, they affected the energy industry at large, as it was considered by some governments to be a ‘strategic sector’ of the economy.

13.03  This chapter focuses on Latin American investor-state arbitration claims rooted in resource nationalism, specifically concerning the exploration and exploitation of crude oil.⁵ It presents an overview of the most relevant strategies used by investors and states to defend their standpoint on resource nationalism, identifying which ones proved most successful. Section II offers a brief account of the historical background of energy investor-state arbitration in Latin America, followed by a presentation of the strategies adopted by the contending parties concerning, in sections III and IV, respectively, fiscal measures and nationalizations. Section V addresses the issue of corporate restructuring as a strategy used by foreign companies to challenge resource nationalism measures before investment tribunals, and section VI provides some concluding remarks.

13.04  The recent history of energy investor-state arbitration in Latin America reveals three consecutive phases.⁶ The first phase occurred during the 1990s, when virtually all Latin American states abandoned the ‘Calvo Doctrine’.⁷ During this phase, which was characterized by a wave of privatization of their industrial assets,⁸ several Latin American states entered into agreements for the protection and encouragement of foreign investment (and which contained investor-state arbitration clauses), and ratified the 1965 ICSID Convention.⁹

13.05  In Latin America, states did not enter into energy-specific treaties, such as the ECT. Their relationship with foreign investors in the energy sector would be governed, instead, by a plethora of (mostly bilateral) investment protection treaties.¹⁰

13.06  The second phase unfolded during most of the 2000s, and was marked by the Latin American states’ debut as respondents in a series of claims brought under the investment protection agreements signed in the 1990s.¹¹ Latin America quickly became the region accounting for a very large number of registered ICSID arbitration claims,¹² the majority concerning the energy (p. 296) sector.¹³ The causes of those disputes were quite diverse, and while the 2000 Argentine economic crisis gained considerable notoriety,¹⁴ there were also disputes, against other states, rooted in tax refund entitlements,¹⁵ customs duties,¹⁶ contract terminations,¹⁷ public utilities’ tariff review processes,¹⁸ and, as discussed,¹⁹ resource nationalism.²⁰

(p. 297) 13.07  Finally, at the end of the 2000s, the third—and current—phase commenced, wherein some Latin American states have advanced claims that investment tribunals have rendered inconsistent decisions that have unjustifiably challenged their sovereign determinations, paving the way for the return of Dr Carlos Calvo’s ghost in investment arbitration in Latin America.²¹

13.08  This section covers cases commenced against Ecuador and Venezuela, concerning alleged breaches of the fair and equitable treatment (FET) standard and unlawful expropriations resulting from the enactment and enforcement of fiscal measures. As will be seen,²² the awards rendered in the Ecuadorian cases offer a more comprehensive view of the issue of fiscal measures compared to the Venezuelan cases, where measures of nationalization were at the heart of the disputes.

13.09  In the Ecuadorian cases, four different investment tribunals²³ were tasked with determining whether Ecuador was liable as a consequence of the enactment and enforcement of Law 42, which regulated the Ecuador’s ‘participation in the surplus of oil sale prices, which ha[d] not been agreed upon or foreseen’,²⁴ and imposed a 50 per cent windfall levy—which was later increased to 99 per cent—over the extraordinary income obtained by companies operating under ‘participation contracts’ for the exploration and exploitation of crude oil.

13.10  In the Venezuelan cases, two different investment tribunals²⁵ scrutinized the state’s decision to discontinue an existing exceptional tax regime instituted during the Apertura Petrolera for oil projects in the Orinoco Belt, which effectively increased their royalty rate from one per cent to 30 per cent, and their income tax from 34 per cent to 50 per cent.

13.11  As described,²⁶ the parties’ success in those cases largely depended on whether the conformity of the fiscal measures to the FET standard was under the tribunal’s purview. In fact, when states succeeded in carving out the fiscal measures from (p. 298) that standard, claimants failed to characterize them as tantamount to expropriation. When states failed to do so, claimants succeeded in characterizing the fiscal measures as breaches of the FET standard.

13.12  In most of the cases under study, before assessing the fiscal measures’ conformity with the relevant treaties’ FET standard (described in section III.A.2), the tribunals had to determine whether the treaty excluded the fiscal measures from scrutiny under such a standard (discussed in section III.A.1).²⁷

13.13  Ecuador’s and Venezuela’s strategies to defend the legality of their fiscal measures included arguing that such measures could not be scrutinized under the FET standard. On the one hand, the debate in the Ecuadorian cases focused on whether Ecuador’s measures constituted ‘matters of taxation’ excluded from arbitral jurisdiction by virtue of a tax carve-out provision contained in art X(2) of the US-Ecuador BIT.²⁸ On the other hand, in the Venezuelan disputes, the debate focused on whether the Dutch-Venezuela BIT similarly exempted fiscal measures from evaluation against the FET standard.²⁹ For the most part, Venezuela obtained better results than Ecuador, which may be partly attributed to the different wording of the relevant treaty provisions at stake.

13.14  In Burlington, Murphy II, and Occidental II, the claimants’ strategy—to circumvent the tax carve-out provision of the US-Ecuador BIT—focused on establishing that their claims did not give rise to ‘matters of taxation’,³⁰ based on two alternative arguments. First, they asserted that Law 42, which had been enacted as an amendment to the Ecuadorian Hydrocarbons Law, did not impose a tax under Ecuadorian law. Second, they contended that their claims did not concern the legality of Law 42, but rather Ecuador’s obligation to indemnify claimants for its effects pursuant to the terms of the participation contracts.

13.15  Under the same treaty, premised on similar contentions and with a comparable set of facts, the claimants’ strategy did not yield identical results in these cases. On the one hand, the strategy was unsuccessful in Burlington, where the tribunal (p. 299) declined jurisdiction to hear all non-expropriatory Law 42 claims pursuant to the tax carve-out provision. On the other hand, it proved successful in Murphy II and Occidental II, where the tribunals held that jurisdiction existed to hear all Law 42 claims, including those related to an alleged breached of the FET standard.

13.16  At first glance, one may be tempted to think that the claimants’ success was linked to the finding on whether Law 42 imposed a tax, as illustrated in Table 13.1.

13.17  However, a closer look into the tribunals’ decisions shows that what seems to matter most for the purposes of the application of a tax carve-out provision referring to ‘matters of taxation’³¹ is not the nature of the challenged measure, but the formulation of the claim. In other words, a tax-related claim may or may not give rise to ‘matters of taxation’.

13.18  The tribunal in Burlington made that clear. It explained that, even though Law 42 imposed a tax, some of claimant’s Law 42 claims did not raise ‘matters of taxation’ because they concerned Ecuador’s purported obligation to indemnify claimants for Law 42’s effects over the economy of participation contracts.³² In turn, the (p. 300) breach of that obligation could give rise to potential breaches of the US-Ecuador BIT’s umbrella clause which, in principle, were not excluded from the tribunal’s jurisdiction.³³

13.19  As a matter of fact, in Burlington the question before the tribunal was, in a second phase, limited to the question whether the umbrella clause protection applied to obligations entered into between the state and an affiliate of the investor. The Burlington tribunal declined jurisdiction to hear non-expropriatory Law 42 claims not because Law 42 imposed a tax or because it found that the claimant’s claims gave rise to ‘matters of taxation’, but rather, it found that, as argued by Ecuador, ‘Burlington [could] not rely on the Treaty’s umbrella clause to enforce against Ecuador its subsidiary’s contract rights under the [participation contracts]’.³⁴

13.20  Under that line of reasoning, it seems unlikely that, in the absence of alternative jurisdictional objections, a similarly drafted tax carve-out provision could end up excluding any tax-related non-expropriatory claims.³⁵ In fact, it seems unlikely that an investor would formulate a claim based on any kind of tax other than one with adverse economic effects over its investment.

13.21  In the Venezuelan cases, as opposed to the Ecuadorian cases, debating the nature of the measures or the formulation of the claims was not part of the parties’ strategy. In Mobil and ConocoPhillips, Venezuela’s strategy focused on establishing that the Venezuelan tax reforms were not governed by art 3 of the Dutch-Venezuela BIT, which contained the FET standard. Venezuela claimed that they were governed, instead, by art 4, a more specific provision concerning guarantees of treatment in relation to ‘taxes, fees, charges, and to fiscal deductions and exemptions’,³⁶ under which only discriminatory measures could constitute a breach of the BIT. By thwarting the application of the FET standard contained in art 3 of the Dutch-Venezuela BIT to the Venezuelan tax reforms, Venezuela (p. 301) was essentially preventing the tribunals from examining whether the Venezuelan tax reforms breached the claimants’ legitimate expectations.

13.22  Claimants, on their part, did not argue that the fiscal measures were discriminatory nor that they were not taxes, but focused instead on establishing that art 4 regulated some—but not all—aspects of the fiscal measures, for which art 3 still applied.³⁷ Venezuela argued that the claimants’ interpretation rendered art 4 superfluous,³⁸ while the claimants argued that Venezuela’s interpretation would have required specific language in art 4 excluding the application of art 3.³⁹

13.23  Venezuela’s strategy proved successful in both cases. Relying mainly on the principle of effective interpretation, both tribunals sided with Venezuela’s interpretation of the Dutch-Venezuela BIT.⁴⁰ The tribunals thus concluded that they did not have to consider whether the Venezuelan tax reforms breached the FET standard of art 3, but only whether they were discriminatory under art 4, which was undisputedly not the case.⁴¹

13.24  Besides the legal implications, the economic impact of this finding is not negligible. In Mobil, the tribunal deducted the Venezuelan tax reforms from the net cash flow calculation for purposes of compensation. This may also be the case in ConocoPhillips, where a decision on quantum is still pending.⁴²

13.25  Ecuador’s Law 42 was the only Fiscal Measure tested against the FET standard. The tribunals in Murphy II, Perenco, and Occidental II were tasked with determining whether Law 42 constituted a breach of Ecuador’s international obligations and, in particular, its obligation to respect the claimants’ legitimate expectations under the FET standard.

13.26  On this issue, the claimants used a two-fold strategy which proved quite successful. First, they characterized the participation contracts as the basis of their legitimate expectations, claiming that the Contracts gave them the right to obtain any benefit accruing from high oil prices. Second, they contended that, by enacting (p. 302) Law 42, the state had unilaterally changed key contractual provisions, thereby flouting their legitimate expectations.

13.27  As to the first issue, the tribunals found that the participation contracts indeed underpinned the claimants’ legitimate expectations, giving great weight to the contractual provisions when assessing the alleged treaty breaches.⁴³ In fact, echoing Paushok,⁴⁴ they recognized that ‘States retain flexibility to respond to changing circumstances unless they have stabilized their relationship with an investor’,⁴⁵ and stressed that ‘any changes to the policy framework must still be made mindful of the State’s contractual commitments’.⁴⁶ Essentially, the tribunals found that the claimants had the right to expect that their participation contracts would not be unilaterally changed, and that, under said Contracts, claimants were entitled to any benefit accruing from high oil prices, in exchange for assuming the risk of the exploration activities.⁴⁷

13.28  The tribunals then focused on determining whether Law 42 had unilaterally and substantially changed the operation of the participation contracts, undermining the claimants’ legitimate expectations. Law 42 initially imposed a 50 per cent windfall levy, which was later increased to 99 per cent. Hence, the tribunals performed a separate analysis for Law 42 at the 50 per cent tax rate and at the 99 per cent tax rate.⁴⁸ The conclusion of the tribunals was that Law 42 at a 50 per cent rate had not changed the operation of the participation contracts.⁴⁹ In fact, the claimants were still earning more revenue with Law 42 at 50 per cent than they did before the oil price rose.⁵⁰ Conversely, Law 42 at a 99 per cent rate ‘rendered the participation contract essentially the same as a service contract’,⁵¹ where the ‘costs were covered but their ability to participate in the upside of high oil prices was severely limited’.⁵²

13.29  Along with Law 42’s effect over the operation of the participation contracts, the tribunals also took into account other, more subjective factors when ascertaining (p. 303) the existence of a treaty breach. For instance, when referring to Law 42 at a 50 per cent tax rate, the tribunals found that, as experienced oil players, the claimants should have expected that the state would respond to such dramatic market conditions.⁵³ Conversely, Law 42 at a 99 per cent tax rate was categorized as a coercion tactic to force contractors to move to a contract model resembling the service contracts existing in the Ecuadorian oil industry prior to 1993.⁵⁴

13.30  In sum, one may conclude that, in terms of liability and quantum, excluding from the tribunal’s purview the conformity of the fiscal measures with the FET standard translated into better results for the states.

13.31  As mentioned,⁵⁵ the claimants failed in all cases where they characterized the fiscal measures as tantamount to expropriation. Given that the nationalizations were at the heart of the Venezuelan disputes in Mobil and ConocoPhillips, the analysis of this issue was rather brief.⁵⁶ Conversely, the Ecuadorian cases, Perenco and Burlington, offered a detailed analysis of the matter.⁵⁷

13.32  In Perenco and Burlington, the strategy that proved most successful for Ecuador was claiming that the measures did not have the required economic effect to be deemed indirect expropriation, showing that, even during the application of Law 42 at a 99 per cent tax rate, the claimants had maintained positive cash-flows.⁵⁸

(p. 304) 13.33  The tribunals considered that the presence of positive cash-flows were enough proof of an absence of expropriation. The Perenco tribunal found that ‘the central focus on expropriation is not on whether claimant’s business was optimal, but rather on whether it was effectively taken away from it’.⁵⁹ Similarly, the Burlington tribunal considered that, ‘on the assumption that its effects are in line with its name, a windfall profits tax is … unlikely to result in the expropriation of an investment’,⁶⁰ and explained that, for expropriation to be found, it had to be shown ‘that the investment’s continuing capacity to generate a return ha[d] been virtually extinguished’.⁶¹

13.34  Moreover, the claimants’ strategy—to invoke the state’s intent in enacting, or the proportionality of, the fiscal measures—failed to show the existence of an expropriation. In Perenco, the tribunal found that a measure’s proportionality could be relevant for an FET analysis, but not for proving expropriation.⁶² Similarly, the tribunal in Burlington concluded that ‘evidence of [confiscatory] intent may serve to confirm the outcome of the effects test, but does not replace it’.⁶³

13.35  As mentioned,⁶⁴ nationalizations were less common than fiscal measures during the resource nationalism episodes that took place during the last decade. In Latin America, where nationalizations occurred, they sometimes triggered investor-state arbitrations. From the decisions rendered in those arbitrations, one may draw two main conclusions. First, states have the sovereign power to nationalize, and tribunals will generally give deference to their determination of the public policy reasons underlying the nationalization.⁶⁵ Second, the mere fact that an investor has not received compensation does not render a nationalization unlawful, but the lawfulness may still be affected by the terms of the offer of compensation.⁶⁶

13.36  This section addresses compensation as a condition for the legality of nationalization, focusing on the nationalizations of the Orinoco Belt oil projects as assessed by the tribunals in Mobil and ConocoPhillips. Under the same applicable treaty (p. 305) and with a comparable set of facts, the Mobil tribunal found that Venezuela’s nationalization was lawful, while the ConocoPhillips tribunal found that it was unlawful.

13.37  In 2001, Venezuela enacted a new Law of Hydrocarbons, under which private companies were only allowed to participate in oil projects through mixed enterprises in which the state held a majority stake. In 2007, President Hugo Chavez announced that all projects in the Orinoco Belt would be nationalized, and issued Decree-Law 5200 ordering that those projects (which were operating outside the legal framework of the 2001 law) be ‘migrated’ into the new mixed companies (in which the state would hold at least a 60% participation interest). Companies operating in the Orinoco Oil Belt had four months (the ‘negotiation period’) to reach agreement regarding their participation in the new mixed companies and, if no agreement was reached, ‘the Republic, through Petróleos de Venezuela S.A. or any of its affiliates … [would] directly assume the activities of the [companies]’.⁶⁷ Venezuela reached an agreement with various operators during the negotiation period, but not with ConocoPhillips and Mobil, leading to the seizure of these companies’ oil projects.

13.38  The parties’ debate during the arbitration focused on whether Venezuela had acted in good faith during the negotiation period, and on the consequences that its conduct had on the lawfulness of the nationalization. Venezuela’s purported lack of good faith during the negotiation period was evidenced, among other things, by the fact that it had only offered to compensate the claimants for the book value of their investment.

13.39  Venezuela’s strategy focused on claiming that it had acted in good faith during the negotiation period, showing that it had reached successful agreements with other companies, and claiming that Mobil and ConocoPhillips were the exception because their demands were unreasonable.⁶⁸

13.40  Venezuela’s strategy was effective in Mobil for establishing that it had not violated the claimants’ due process by offering only a compensation based on the book value during the negotiations. The tribunal dismissed allegations of violation of due process,⁶⁹ noticing that the fact that an agreement had been reached with other companies showed that the process enabled the companies to ‘weigh their interest and make decisions during a reasonable period of time’.⁷⁰

13.41  Conversely, in ConocoPhillips, the tribunal found that the ‘just compensation’ under the Dutch-Venezuela BIT requirement called for good faith negotiations to fix the (p. 306) compensation in terms of the standard set in the BIT,⁷¹ and that by negotiating exclusively on the basis of the book value of the investment, Venezuela ‘was not negotiating in good faith by reference to the standard of “market value” set out in the BIT’.⁷²

13.42  The fact that the Mobil tribunal did not find that offering the book value of the investment rendered the expropriation unlawful may be due to a matter of evidence, rather than law. Even though the claimants presented press releases in which the government stated that it would pay book value of the investments, the tribunal concluded that ‘evidence submitted [did] not demonstrate that the proposals made by Venezuela were incompatible with the requirement of “just” compensation’, and thus the tribunal rejected the unlawful expropriation claim.⁷³

13.43  It is worth noting that the ConocoPhillips approach is contrary to the approach adopted in Tidewater,⁷⁴ another case concerning the Venezuelan energy sector where Venezuela offered to cover the investments’ book value. There, the tribunal considered that even a treaty standard of ‘market value’ does not denote a particular method of valuation, concluding that Venezuela’s expropriation in that case was lawful.⁷⁵ In light of these cases alone, the requirements that an offer of compensation should meet to render a nationalization lawful remain unclear.

13.44  This section focuses on a strategy adopted by some companies to challenge Venezuela’s measures through investment arbitration, as opposed to other forums. In Mobil and ConocoPhillips, the claimants’ strategy to incorporate companies in the Netherlands between 2005 and 2006, with the sole purpose of contesting Venezuela’s measures under the Dutch-Venezuela BIT,⁷⁶ proved successful. In fact, for the most part, Venezuela failed in its attempt to challenge the tribunals’ jurisdiction in those arbitrations, claiming ‘an abusive manipulation [by the claimants] of the system of international protection under the ICSID Convention and the BITs’.⁷⁷

13.45  For both tribunals, corporate restructuring with the sole purpose of gaining access to investor-state arbitration is a ‘perfectly legitimate goal’⁷⁸ for future disputes, but (p. 307) not for existing disputes.⁷⁹ To determine whether a dispute over a particular measure already existed at the time of the corporate restructuring, the Mobil tribunal considered whether complaints had been lodged with state authorities,⁸⁰ and whether the relevant measure had been implemented.⁸¹ The ConocoPhillips tribunal, for its part, took into account whether a previous complaint had been withdrawn (which was the case in accordance with the evidence submitted before the tribunal).⁸² Interestingly, based on the same treaty, and similar contentions and facts, the Mobil tribunal excluded certain disputes from its jurisdiction, while the tribunal in ConocoPhillips upheld its jurisdiction to resolve all claims presented by the claimants.

13.46  Beyond any criticism concerning the fact that these tribunals did not take issue with the practice of ‘treaty shopping’,⁸³ it should be noted that neither of these tribunals included as part of their analyses the disputes’ foreseeability at the time when the corporate restructuring took place.⁸⁴ This was a key point of analysis for a number of other tribunals in determining the existence of an ‘abuse of right’,⁸⁵ including in Tidewater.⁸⁶

(p. 308) 13.47  One cannot help but wonder whether the results would have been different, had the foreseeability of the dispute been taken into account. For instance, in Mobil, the tribunal upheld its jurisdiction over disputes concerning the nationalization because Venezuela had not taken any nationalization measures at the time of the corporate restructuring.⁸⁷ However, prior to the corporate restructuring, the claimant had sent a letter to Venezuela expressly consenting to investor-state arbitration over ‘any dispute arising out of any expropriation or confiscation of all or part of the investment’,⁸⁸ evidencing that the dispute had been foreseen. Likewise, in Mobil, the tribunal upheld jurisdiction over all of the claimants’ claims, even though some of the measures giving rise to those claims had been unequivocally announced by the Venezuelan government prior to the corporate restructuring.⁸⁹

13.48  This chapter has sought to provide an overview of the outstanding strategies used by states and foreign investors in Latin America to defend their stance on resource nationalism, one of the major sources of investor-state disputes.

13.49  Resource nationalism is a cyclical phenomenon, and it is unlikely that we have witnessed the last of its episodes. Also, given that it is not confined only to a particular region, there is a possibility that it will occur elsewhere in the future. Hence, identifying the strategies that proved successful in arbitration to tackle fiscal measures and nationalizations may provide helpful tools both for investors and states to anticipate the legality of their conduct and, if need be, defend their interests in investor-state arbitration.

13.50  There is, however, a notable obstacle to this goal. As shown,⁹⁰ in some cases, investors and states did not obtain identical results, even when challenging the same measures, based on the same treaties, with similar contentions and sets of facts. The issue of inconsistency of arbitral decisions is not new in investor-state arbitration and, as discussed,⁹¹ has been a relevant factor in the backlash against investor-state arbitration in some Latin American countries. There seems to be few feasible solutions in the short term to solve the issue of inconsistency. As such, one might be better served by factoring uncertainty into one’s strategy from the outset.