PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors

Preserve, Protect and Defend Global Nationalization Risk: Practical Considerations for Investors PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors

Contents

1 Foreword 3

2 The Political Situation 4

3 The value of Investment Treaty protections 8

4 How to structure your investment 11

Legal structuring and restructuring 12

Tax structuring 14

5 Case Studies 16

Argentina 18

Indonesia 22

South Africa 26

United Kingdom 30

United States of America 34

6 Key Contacts 38 Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 3

Foreword

Ed Poulton Maria del Carmen Tovar Partner, London Partner, Lima

The extent of governmental involvement in their We have looked at the treaty framework that national economies goes to the very heart of political underpins investment decisions, assessing the and economic debates that have raged since time protections afforded by investment treaties and tax immemorial, and as such can seem to be an issue on treaties - how they are valuable to international which opinions are clearly and irrevocably set. However, investors and how investments can be structured the last few years of political upheaval has shown that to take advantage of them. those sands can, and do, shift. The last few days and weeks have arguably accelerated this momentum, While debates around nationalization are widespread, albeit in response to a punctual threat: governments we have applied this analysis to five case study have torn up what were perceived as immutable rules jurisdictions of particular relevance, each demonstrating of economic engagement in response to the Covid-19 a particular aspect of the debate: Argentina, pandemic. The question is whether the genie will be Indonesia, South Africa, the UK and the US. able to be returned into the bottle. Baker McKenzie’s uniquely global platform enables In August 2019, Baker McKenzie’s Dispute Resolution us to assess these risks and the associated practical team in London produced UK Nationalization: Practical considerations with an equal focus on local remedies Considerations, an introductory guide to practical and global protections. In this report, we draw upon steps that investors can take to protect their position the collective knowledge of more than 1100 international in the event of a nationalization, such as was proposed disputes lawyers around the world, embedded in by the UK’s opposition Labour Party for wide their local markets, experts in their industries. swathes of the UK economy. In a related report (available here), our team has In response to client demand, we have broadened our partnered with the Investment Treaty Forum at the analysis to look at the issue through a global lens. British Institute of International Comparative Law (BIICL) to present the first comprehensive empirical Working with geopolitical commentator, business study of corporate restructuring and investment advisor and co-founder of Global Torchlight, David treaty protections, examining all publicly available Chmiel, we dispel four commonly-held misconceptions decisions of investor-state tribunals dealing with about the nature of nationalization policy, (each of issues of corporate structuring and restructuring. which has been disproved by governments’ responses Our findings from that study support and inform to the current crisis), namely: the recommendations we make here.

• Misconception One: Nationalization risk is limited We trust you will find this report useful and to countries with weak political and legal systems; interesting. Please use the box below to register • Misconception Two: Nationalization policies focus for any further updates on this topic. For more on natural resources companies; specific questions, please contact any of the authors • Misconception Three: Nationalization is driven listed at the back of this report, or your usual only by economic concerns; and Baker McKenzie contact. • Misconception Four: Nationalization is carried Ed Poulton & Maria del Carmen Tovar out only by expropriation.

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The Political Situation Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 5

The Political Situation

The COVID-19 pandemic is now shattering long-held assumptions about the global economic and political order. Quite rightly, the principal focus of policy makers is to protect public health. However, the potential for immense economic damage David Chmiel is already causing governments to embrace mitigative measures that are far more Geopolitical Advisor and co-founder of Global Torchlight radical than many would have thought politically conceivable a few months ago.

These policies will likely include nationalization of governments often favoured privatization. During assets currently in private hands. Some of these acts that time, Australia, Canada, France, Germany and the will be welcomed as governments effectively step UK all put government- run companies into private into the shoes of private owners of distressed assets hands. The privatization of state-owned enterprises in in an effort to stem economic contagion – much as Central and Eastern Europe and the former Soviet Union was the case during the global financial crisis a was a cornerstone of post- Cold War economic reforms decade ago. In other cases, demands may grow for and throughout the developing world, governments more compulsory action to expropriate assets seen opted for public-private partnerships over state-led as critical to public health security or to the basic economic expansion initiatives. functioning of society in order to ensure that resources are directed toward areas of greatest need. But nationalization never completely disappeared as a policy option and the political pendulum may be Even when the immediate medical crisis abates – swinging once again in favour of taking assets into and may that be as soon as possible – many of state control. This report sets out a number of cases the world’s largest economies may have altered in which governments in some of the world’s most fundamentally. It is likely that debates will then important economies have recently nationalized assets emerge about the need for more foundational policy or where arguments in favour of nationalization have change, including whether critical assets should sit in re-entered the mainstream of political discourse. public or private ownership. By that point, whole sectors of the economy may already have been As private investors grapple with these changes, it is nationalized and the nature of these debates would important to recognise that there is no single pattern be very different from those seen recently in some to this debate. Risk takes different forms in different of the countries examined in this report. places. However, it is important to dispel commonly- Nationalization would already be a fact of life. held misconceptions about the nature of nationalization policy if businesses are to hone their It is, therefore, vitally important for companies to gain a risk management and mitigation processes to deal greater understanding of the political dynamics that with this re-emerging challenge. have driven nationalization in the past in order to better appreciate how those policies may work in the present and future. The issues set out in this report are more relevant today than at any time in the recent past. Misconception One: Nationalization risk is limited to countries with weak political and legal systems Given historic patterns, there is sometimes a presumption Nationalization is not a new risk that risk of nationalization exists only in countries for multinational companies. where free market economic systems are not firmly established or where political and legal institutions are There is a long, global history of governments insufficiently robust to prevent arbitrary expropriation. expropriating assets or otherwise bringing them under One of the most striking features of the current debate domestic or state-owned control. In fact, such acts over state versus private ownership is that it is prominent have sometimes been catalysts for more substantive in some of the countries that were at the forefront of geopolitical disruption. In the 1980s and 1990s, however, the privatisation movement in recent decades. 6 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

The Political Situation

Recently, some governments have simply let relevant operating licenses expire without giving foreign investors the opportunity to renew them or they have altered criteria to favour domestic or state bidders...

To give a few examples, the Polish government has The global financial crisis of 2008-9 saw banks, embarked on a policy of “repolonisation” which insurance companies and other troubled businesses encourages domestic companies to acquire greater come into state ownership in order to restore public stakes in financial institutions, media companies and confidence in national financial systems. More other strategic sectors. The renationalization of recently, some political leaders have sought greater railroads and utilities was a key plank of the last two control of media assets or, at the very least, to limit general election manifestos of the opposition Labour the extent of foreign ownership in that sector. Party in the UK. Even in the United States, prominent The motives for doing so are often linked to desires politicians have called for de facto nationalization or to control political narratives, limit criticisms of “municipalisation” of private health insurers and government or promote broader nationalist agendas. electricity companies. Ownership of public utilities is another area for heated More recently, US Attorney General William Barr debate as politicians argue that continued private suggested that the US – alone or with its allies – ownership of these businesses results in price inflation could acquire controlling stakes in Ericsson, Nokia and for consumers and an absence of long-term investment other companies competing with China’s Huawei in in infrastructure renewal. In other countries, such as the provision of 5G infrastructure. To be fair, South Africa, even some types of privately-owned nationalization is also a growing risk in some emerging land are now potentially subject to expropriation. economies. Indonesia’s policy of bringing key natural Those investors operating in sectors with historic resources under domestic control has heightened propensities for nationalization are often attuned to investor concern in that sector. Governments in mitigating associated risks from the inception of any Argentina, Bolivia, Ecuador and Venezuela have all investment. As the breadth of the risk grows, embarked on nationalization exercises in the past however, larger swathes of national economies are decade – to varying degrees of success. potentially susceptible to these kinds of policies, warranting much broader attention to the This debate does not respect geographical boundaries. circumstances in which political leaders in any country Multinational investors can no longer simply presume may choose to target a particular sector. that because they do not do business in parts of the world where expropriation has been used in the past, Misconception Three: Nationalization is driven that they need not pay heed to underlying political only by economic concerns dynamics elsewhere to assess whether governments are developing more favourable attitudes to In many cases, a government’s motives for renationalization. nationalization are economic in nature. Such actions may allow for retention of greater shares of associated revenue in national treasuries – often only once foreign investors have borne the sunk costs of Misconception Two: Nationalization policies building a particular investment or making it focus on natural resources companies competitive. This is thought to be a key motive behind Some of the most recent high-profile examples of the Mexican government’s decision to halt private nationalization have involved natural resources investment in the country’s oil and gas sector. companies, particularly in the mining and oil and gas Renationalized industries are also sometimes viewed sectors. However, governments are also demonstrating as champions of broader economic growth with state a growing propensity to target other sectors of ownership of assets ensuring that resources are national economies as well. allocated to domestic priorities. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 7

The Political Situation

However, it is wrong to presume that nationalization nationalization over extended periods of time or by risk is minimised where a country’s economy is strong. using less overt methods. Recently, some National security can also be a powerful motivator. governments have simply let relevant operating In the wake of the 9/11 terrorist attacks, the Canadian licenses expire without giving foreign investors the and US governments both nationalized airport opportunity to renew them or they have altered security screening through the creation of national criteria to favour domestic or state bidders in any government agencies to carry out those functions. reprocurement exercise. In other cases, changes to Governments have also justified expropriation of underlying legal or regulatory environments may, over natural resources on similar grounds. The assertion of time, render a particular asset or sector less attractive national security creates additional complications for to foreign investors and cause them to divest their investors seeking ex post facto compensation, since interests – often at an undervalue to their true worth. some avenues of legal recourse allow exemptions in circumstances where national security is involved. This “quasi-nationalization” or “stealth nationalization” has taken many forms. For example, in the resources Nationalization must also be viewed in the context of sector, some governments have enacted mandated heightened populism and nationalism. There has been beneficiation laws requiring that any natural resources a backlash against foreign investment in countries where be processed or refined in-country, rather than such activity is perceived to be favoured over domestic exported in their raw state. Other countries have interests and where politicians think they can generate instituted bans on “fly-in / fly-out” workers in order popular appeal by challenging foreign investors. Equally, to encourage greater hiring within local communities. some governments are questioning the equity of bilateral A host of governments have also repealed investment investment treaties, arguing that they favour multinational incentives or changed tax and royalty laws in ways companies over nation states. Others argue that that are less favourable to foreign investors. meaningful efforts to tackle systemic problems such as climate change can only be achieved when associated Even where assets are directly taken into government industries are brought back under state control. ownership, there can be considerable variances in the compensation paid for them. The Canadian These motivating factors are almost never mutually government acquired the Trans Mountain pipeline exclusive and governments will often pursue between Alberta and British Columbia in 2018 for a nationalization policies due to a combination of negotiated market value. In contrast, when the UK economic and political factors. This means that Labour Party proposed to renationalize electricity, investors must develop much greater awareness gas and water suppliers, it said that Parliament would of the complex interplay of issues in domestic and undertake the valuation exercise, with deductions regional politics in order to understand how particular made for variables such as pension fund deficits and investments are perceived within a country and the the state of repair of assets. The net effect could have degree to which they are at risk of politicisation. meant that minimal compensation was paid in practice.

These changes in methodology present investors Misconception Four: Nationalization is carried which a much more complex environment to assess as out only by expropriation part of any risk management strategy. The net effects Expropriation is probably seen as the most common of legal or regulatory changes may not be readily tool with which to take assets back into state control. apparent and traditional avenues of legal recourse For investors, the growing challenge lies in the fact may not be available where measures such as outright that many governments are now opting to effect expropriation without compensation are not used. PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

The value of Investment Treaty protections Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 9

The value of Investment Treaty protections

Ed Poulton Katia Ekaterina Finkel Richard Molesworth Dogan Gultutan Partner, London Senior Associate, London Senior Associate, London Associate, London

Investment Treaties State). This type of provision prevents shell, or letterbox, companies from obtaining the benefit An investment treaty is an of investment protection. agreement made between two Investment: only an investment as defined by the or more states, containing relevant treaty will be protected. The definition reciprocal undertakings for the usually constitutes a general and wide opening phrase, such as “every kind of asset”, followed by promotion and protection of a non-exhaustive list, including: investments made by nationals • movable and immovable assets and rights and companies of one state in in property; the territory of the other state(s). • company shares, stocks, bonds and other interests in companies; • claims to money; Many investment treaties are bilalteral investment treaties (or BITs) between two states. There are also • copyright, trademarks and IP rights; and multilateral investment treaties (such as the Energy • business concessions and licences. Charter Treaty and the ASEAN Comprehensive Investment Agreement) and investment chapters in Many investment treaties contain more favourable free trade agreements (such as NAFTA and the TPP). terms, such as specific acknowledgment that a change in the form of the investment will not affect its As they are individually negotiated treaties, their terms vary and the precise wording of particular provisions characterisation as an investment for the purposes of will affect their interpretation in any dispute. Nevertheless, the BIT. Similarly, some investment treaties have more they typically include common definitions, substantive restrictive provisions, for example requiring investments protections and dispute resolution mechanisms along to be pre-approved by the host state to qualify for the lines of those described below. protection, limiting protected investments only to certain sectors or requiring investments to have Common definitions certain characteristics such as the commitment of capital or the assumption of risk. Investor: only an “investor” as defined by the relevant treaty can benefit from the investment protection. While the term “investment” is typically defined widely, Most investment treaties define investors as (i) natural this is an area of significant scrutiny in arbitral persons (i.e. individuals) who are nationals of the proceedings and has accordingly developed its own relevant state and (ii) legal persons (e.g. companies) jurisprudence in the field of Investor-State arbitration. incorporated or established there. Some investment treaties require legal persons to have an actual economic presence or seat of establishment in the Common substantive protections jurisdiction. For example, the ASEAN Comprehensive Investment Agreement (ACIA) requires corporate National treatment; most favoured nation (MFN) investors to have substantial business operations in treatment: investment treaties typically provide that the State in which they are incorporated (the Home foreign investors are entitled to be treated no less 10 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

The value of Investment Treaty protections

While the term “investment” is typically defined widely, this is an area of significant scrutiny in arbitral proceedings favourably than local investors (national treatment) and Dispute resolution and enforcement other foreign investors (MFN treatment), subject only to certain limited and specifically described exceptions. The most valuable aspect of investment treaties is Fair and equitable treatment (FET); full protection that they usually provide foreign investors with a and security: investment treaties include additional private right of action: the right to bring an broad guarantees of treatment for foreign investors in international arbitration claim directly against the accordance with international law. The host state will host state. While in many cases (and as we explore in typically promise “fair and equitable treatment” and the case studies below) investors will have the option “full protection and security” for investments, and of pursuing domestic claims, the ability to pursue a promise not to engage in “arbitrary” or “discriminatory” public international law claim before an international decision-making. FET clauses generally require the tribunal provides additional comfort and leverage. host state to maintain predictable and stable investment environments consistent with legitimate expectations. Dispute resolution mechanism: The applicable This involves providing an independent, impartial and arbitral institutions will be determined by the relevant effective legal process (to deal both with administrative investment treaty in each case, however many treaties provide for arbitration: and substantive claims) where investors can pursue the effective protection of their rights (and in some • under the International Centre for Settlement circumstances, it may be necessary for the investor to of Investment Disputes (ICSID) Rules; pursue these before any treaty claim can properly be • ad hoc, under the United Nations Commission on brought). Full protection and security clauses require International Trade Law (UNCITRAL) Arbitration Rules; the host state not only to abstain from physically damaging foreign investment, but also to implement • occasionally, under the arbitration rules of the positive measures to protect foreign investment (for Arbitration Institute of the Stockholm Chamber example against harm caused by private actors). of Commerce (SCC) or the International Chamber of Commerce (ICC). Protection against unlawful expropriation and compensation: investment treaties do not prohibit There is general consensus that recourse to ICSID expropriation, but establish clear limits on expropriation arbitration can be useful. While ICSID is an (and measures having equivalent effect1). Such provisions autonomous international organisation, it operates typically only permit expropriation where it is carried out: under the auspices of the World Bank. • in the public interest; The existence of ICSID proceedings is made public • following due process of law; (and awards are generally published) meaning that • in a non-discriminatory manner; and the threat of commencing proceedings under the • in return for just compensation (at market or fair value) ICSID may be sufficient to persuade a state that it should take an investor’s claim seriously. Additionally, Free transfer of funds: investment treaties commonly any award issued by an ICSID tribunal must be give foreign investors the right to transfer funds into recognised and enforced as if it were a judgment of the highest domestic court in any ICSID member state. and out of the host state without delay, using a market rate of exchange. This covers all transfers related to an investment, including interest, proceeds from liquidation, repatriated profits and infusions of additional financial resources after the initial investment has been made.

1. Expropriation is not limited to physical takings; it can include a wide range of measures that deprive the investor of the economic value of its investment. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors

How to structure your investment 12 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

How to structure your investment

Ed Poulton James Smith Ekaterina Finkel Oliver Pendred Partner, London Partner, London Senior Associate, London Senior Tax Advisor, London

Legal structuring and Treaty shopping is an attempt to structure the way in which an investment is held (which can involve restructuring entering into transactions and/or establishing entities in certain unconnected states) solely, or in large part, Investment law on abuse of process for the purpose of enjoying the benefits of favourable and “treaty shopping” treaty rules. Given that in investment law there is no doctrine of legal precedent and that arbitral tribunals are not bound by the decisions of previous tribunals, A key issue for investors is the there is a lack of consistent approach to so-called ‘treaty shopping’. ability to structure the way they hold investments to benefit from It is therefore difficult to say with absolute certainty in which circumstances tribunals will permit investment treaties, or more restructuring an investment through a seemingly favourable treaties. Alternatively, unconnected state to gain greater treaty protection. Much depends on the facts of each case and the investors sometimes want to views of the members of the tribunal appointed. restructure their investment to While arbitral tribunals have often expressed some gain the benefit of a treaty, or unease in connection with investors’ treaty shopping,2 more favourable treaty. This is they have generally taken a literal view of the definitions which both states agreed in the often referred to as “treaty investment treaty in favour of investors. Arbitral tribunals will not “add other requirements [to the shopping” and, particularly in agreed definition of investor] which the parties could the case of restructuring once themselves have added but which they omitted to add”.3 Where an investment treaty requires only that the investment is already held, the claimant investor be constituted under the laws of is a controversial issue in the relevant contracting state, this will be sufficient. international investment law. The situation is more difficult for investors in the case of restructuring, particularly if this takes place after the issues giving rise to the claim have arisen. Phoenix Action v. Czech Republic4 is an extreme illustration of this. The case concerned the Czech Republic-Israel BIT of 1997 and the claimant investor’s claim under that treaty for compensation for breach in connection with its investments in two Czech companies.

2. See for example in Saluka Investments B.V. v. The Czech Republic, UNCITRAL, Award 17 March 2006 (accessible here) where the Tribunal stated that it had “some sympathy for the argument that a company which has no real connection with a State party to a BIT, and which is in reality a mere shell company controlled by another company which is not constituted under the laws of that State, should not be entitled to invoke the provisions of that treaty. Such a possibility lends itself to abuses of the arbitral procedure, and to practices of “treaty shopping” which can share many of the disadvantages of the widely criticised practice of “forum shopping.”” [para. 240]. 3. Ibid, para. 241 4. Phoenix Action, Ltd. v. The Czech Republic, ICSID Case No. ARB/06/5, Award 15 April 2009 (accessible here). Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 13

How to structure your investment

2020 Empirical Study: Corporate Restructuring and Investment Treaty Protections Our team has partnered with the Investment Treaty Forum at the British Institute of International Comparative Law (BIICL) to present the first comprehensive empirical study of corporate restructuring and investment treaty protections, examining all publicly available decisions of investor-state tribunals dealing with issues of corporate structuring and restructuring. Access the report here.

In this case: was reasonably foreseeable at the time of the restructuring that a dispute with the respondent • the investment had been made at a time when would arise.8 The Tribunal was not convinced that there was an already existing (for over a year) any other reasons for the restructuring cited by the civil litigation and problems with tax and claimant (including tax or business specific reasons) customs authorities; were determinative for the restructuring,9 and that • the Israeli entity was created by a Mr Vladimir gaining access to a new treaty claim was the Beno, who had fled the Czech Republic while determinative reason for the restructuring on under criminal investigation and had obtained the facts.10 Israeli nationality, to purchase shares in the two Czech companies he had owned as a Czech citizen while living in the Czech Republic. His aim was therefore to bring pre-existing disputes to the attention of the ICSID Tribunal, and the investment Tips for successful (re)structuring was a medium through which to do that; and • consistent with the above, no economic activity in Based on our analysis of the cases, the following the market place was either performed or even factors are key to an effective (re)structuring: intended by the claimant investor. Ensure any structure complies with the The tribunal agreed with the Czech Republic’s express wording of the applicable investment argument that it did not have jurisdiction as “Phoenix treaty (or investment contract), and that this is nothing more than an ex post facto creation of a treaty is in force at all material times. sham Israeli entity created by a Czech fugitive from justice, Vladimír Beňo, to create diversity of nationality” A (re)structuring has more chance of being and that the case was “one of the most egregious cases recognised as legitimate if the investor can of ‘treaty-shopping’ that the investment arbitration point to some economic justification or merit community has seen in recent history”.5 for holding the investment in this particular way (for example, tax or internal It ruled that the claimant’s investment did not reorganisation) - we always recommend qualify as a protected investment under the BIT working alongside tax advisers in working out or the ICSID Convention6 and the arbitration was the most efficient structure from both a tax declared as an abuse of the system of international and investment protection perspective. ICSID investment arbitration.

In Philip Morris Asia v Australia,7 the claimant The earlier any (re)structuring is done in the conducted a corporate restructuring in anticipation of life-cycle of an investment, and in particular if a dispute (linked to introduction of plain packaging this takes place before the alleged breach laws) to gain access to a treaty claim under the occurs (or is anticipated), the less likely it is to Australia – Hong-Kong BIT which would not otherwise be viewed as an abuse of process. have been available. The Tribunal held that the restructuring constituted an abuse of process as it

5. Ibid, para. 34. 6. Ibid, para. 145. 7. Philip Morris Asia v Australia, PCA Case No. 2012-12, Award on Jurisdiction and Admissibility 17 December 2015 (accessible here). 8. Ibid, para. 569. 9. Ibid, para. 582. 10. Ibid, para. 584. 14 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

How to structure your investment

Tax structuring (dealing with matters such as double taxation), and sometimes will require mandatory binding arbitration between the two states to resolve particular disputes. Decisions on investment protection and, in particular, Therefore it will be important to consider the taxation access to favourable investment treaties, cannot be considerations alongside investment protection taken in isolation. Other factors have to be taken into considerations when evaluating possible investment account, most notably taxation. The amount of tax structures, as both can have a material effect on the incurred during the lifecycle of an investment, and the economics and risk profile of the investment. implications of the structure on the effective rate of tax on the investment, means that tax will often be a primary factor in structuring decisions. International norms in tax treaties

There are more than 3,000 bilateral tax treaties that Tax treaty protections are currently in force. Whilst they are generally based on international norms, including model treaties The effective rate of tax on the investment, both developed by the Organisation of Economic Cooperation in the jurisdiction of the investment and in the and Development (“OECD”) and the United Nations jurisdiction in which the investor is resident for tax (“UN”), they often have different terms and rates purposes will be significantly affected by any tax attached to them, which may have depended on the treaty between those jurisdictions. Broadly, tax relative negotiating positions and preferences of the treaties serve to allocate taxing rights between the parties at the time the treaties were agreed. Often two contracting states for different types of income there will be structures that are commonly used for and gains that might arise. For instance, the foreign direct investment into particular jurisdictions investment jurisdiction may impose a withholding that might take advantage of a particularly favourable tax on dividends paid by a company resident in that tax treaty. However simply establishing an investment jurisdiction of say 15% and that rate of withholding vehicle in a particular jurisdiction is not sufficient to tax may be reduced to, say, 5% or 0% by a tax treaty be able to access the benefit of that jurisdiction’s tax between that jurisdiction and an investor jurisdiction. treaties for a number of reasons. Similarly, the investment jurisdiction may impose a tax on capital gains arising on the disposal of shares in a Firstly, tax treaties apply to persons that are resident company resident in that jurisdiction but a tax treaty for tax purposes in the jurisdiction and if, for instance, with the investor jurisdiction may stipulate that such a company is managed and controlled in another gains are only taxable in the investor jurisdiction, jurisdiction, it may not be considered resident there. potentially at a lower rate. Secondly, the income received by the entity in Tax treaties should also protect taxpayers to some the treaty jurisdiction must be beneficially owned degree from being taxed on the same income in both by the recipient (ie, it is not simply passed through jurisdictions when that is the result of applying the to another person) otherwise certain reliefs may not domestic law in the states involved. In this respect, be available, such as reduced rates of withholding tax treaties will override tax rules in domestic law and tax on dividends. can offer taxpayers some relief from double taxation. Finally, tax treaties may offer legal mechanisms for And thirdly, there are specific and increasingly resolving disputes with respect to particular mutual well-developed provisions in treaties that are targeted agreement procedures between the contracting states at treaty shopping and other forms of treaty abuse. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 15

How to structure your investment

...94 jurisdictions have signed up to implement tax Treaty related measures to prevent base erosion and profit shifting...

‘Limitation of benefits’ and the including having adequate premises and employees for whatever activity that entity may be engaged in, ‘principle purpose test’ even if that entity is simply an investment holding or financing company. Tax authorities may contend that Tax avoidance involving treaty abuse was a specific a lack of economic substance means that the entity is focus on the G20 and OECD Base Erosion and Profit only established there to benefit from the tax treaty, Shifting (“BEPS”) project that began in 2013 and has such that the principal purpose test is failed. The transformed the international tax landscape over the requirement to have substance in treaty jurisdictions, last few years. As part of the BEPS project, measures and the commercial feasibility of having such substance, were agreed to prevent the granting of treaty will therefore be another important factor to consider benefits in “inappropriate circumstances”. In particular, alongside the merits of particular tax and bilateral this involved having a minimum standard of investment treaties. introducing a “limitation of benefits” rule or “principal purpose test” to tax treaties. Amending tax treaties normally involves a lengthy bilateral negotiation, Interaction between investment which may have delayed the implementation of this treaties and tax treaties minimum standard. However, 94 jurisdictions have so far signed up to the Multilateral Convention to It is also worth pointing out that the interaction Implement Tax Treaty Related Measures to Prevent between tax and investment treaties is more complex. Base Erosion and Profit Shifting (“MLI”), which will Governments can often use their fiscal regimes to result in changes to the thousands of bilateral treaties achieve nationalist objectives by capturing a greater between the signatories coming into effect much share of the economic returns of an investment in more rapidly. their jurisdiction. Given that tax treaties override domestic law they can offer some protection to A “limitation of benefits” clause, which are standard investors. However, tax may also be included in the for US tax treaties, includes certain additional tests to scope of an investment treaty and substantial tax establish whether an entity qualifies as a “resident” for disputes have been dealt with under the procedures the purposes of the relevant treaty such that the under such treaties. There are various articles that are person can avail itself of its benefits. The alternative commonly used in investment treaties that may serve to the limitation of benefits clause is to include a to protect investors from arbitrary changes to the tax general anti-abuse rule by way of a “principal purpose code and expropriatory levels of taxation, including test”. Under this test, which is common in European those that require that investments be accorded fair treaties, if one of the principal purposes of transactions and equitable treatment and provisions requiring or arrangements is to obtain treaty benefits, those compensation for losses suffered in certain benefits would be denied unless it were established circumstances. that granting them would be in accordance with the object and purpose of the provisions the treaty.

The principal purpose test is a contributor to the ever increasing importance of having sufficient “economic substance” in treaty jurisdictions. Economic substance in this context means not only the management and direction of the entity in the jurisdiction, but also potentially certain core income-generating activities, PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Case Studies Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors

Argentina Indonesia South Africa United Kingdom United States of America 18 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Case study: Argentina Political Situation by David Chmiel

Argentina is no stranger to mate – now the Vice President – was former President Cristina Fernández de Kirchner. On that nationalization or expropriation. news, shares on the country’s stock exchange dropped At various times in its history, by 48% and the Argentine Peso lost 26% of its value against the US Dollar, amidst concerns that the new oil companies, railways, airlines, government would revert to old ways and undertake further nationalization in sectors such as energy. utilities and postal services, There is widespread belief that President Fernández among others, have been is unlikely to take action against foreign investors in Vaca Muerta, at least in the near-term. The project brought back into state is important to Argentina’s overall economic ownership – sometimes development and generation of foreign currency reserves. Moreover, foreign energy companies possess on multiple occasions. the technological know-how necessary to extract oil and gas from shale reserves. The most recent high-profile act of nationalization in Nevertheless, investors are paying close attention to the country occurred in 2012, when the government an emerging potential dispute between the government of President Cristina Fernández de Kirchner and its foreign creditors. On taking office in December renationalized 51% of the shares of YPF, the country’s 2019, the new government suspended repayments for largest energy company which was privatised in 1993. two years on US$ 150 billion in outstanding sovereign That spawned a raft of multijurisdictional litigation debt as a precursor to negotiating a broader between the Argentine government and affected restructuring of those obligations. The International shareholders which continues to the present. Monetary Fund subsequently stated that it considers Argentina’s debt position to be unsustainable. The renationalization of YPF dented investor The possibility of write-downs and even defaults – confidence, but seemingly only temporarily. In the as occurred in Argentina in both 1982 and 2001 – intervening years, foreign energy companies have cannot be ignored completely. made significant investments in the Vaca Muerta shale oil and gas reservoir, with the total amount of Any sovereign debt crisis has the potential to create capital committed rising from US$ 3 billion in 2013 significant broader political and economic challenges to US$ 7.5 billion by 2019. This was aided, to no small for the country’s government. This, in turn, might degree, by the election in 2015 of President Mauricio lead to the pursuit of policy options currently seen as Macri on a liberal economic platform which foreign unlikely or unfeasible, such as taking critical assets investors perceived as offering security and stability back into state control. The risk in this case, is not one after years of uncertainty. of a government embarking on nationalization in its own right, but rather seeing it as a feasible option as However, the country’s political environment has a consequence of other policy decisions. All of this changed once again. In October 2019, Macri was demonstrates the need for continual reassessment of defeated in his bid for re-election by the populist, nationalization risk to account for changing broader Peronist candidate, Alberto Fernández, whose running circumstances. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 19

Protection of foreign investments in Argentina

Claudia Benavides Luis Dates Maria del Carmen Tovar Santiago Maqueda Jorge Valencia Natalia Mori Partner, Bogota Partner, Buenos Aires Partner, Lima Senior Associate, Senior Associate, Associate, Lima Buenos Aires Bogota

Overview Constitutional protection of Should a foreign investor have property rights its assets expropriated (whether Under Argentine law, shares in a private company directly, or through creeping are constitutionally protected property rights, and can only be expropriated through the enactment of expropriation or regulatory an expropriation law by the National Congress with encroachment), a qualifying previous proper compensation and a formal declaration of the public use or utility involved investor would have claims (National Constitution, art. 17). for unlawful expropriation and breach of the FET standard Expropriations Law No. 21,499 under any applicable investment Expropriations Law No. 21,499 further regulates this treaties. A map of those treaties formal expropriation proceeding. In general terms, to which Argentina is a party after the National Congress enacts the law, the National Executive and the expropriated party must is set out below. The main agree on the value and, absent such agreement, an advantage of being able to official authority must appraise the property’s value, which must be previously paid or deposited by the pursue such an investment treaty National Executive prior to taking possession claim would be to avoid having over the property. to sue the Argentinian authorities However, this procedure can present some setbacks in their own courts. In addition, in certain cases, most notably due to the fact that Expropriations Law No. 21,499 prohibits the payment investors may have access to of compensation in respect of loss of profits—a key claims in the domestic courts. compensation concept in the expropriation of profit-making companies.

Official appraisals may therefore widely vary depending on the methodology used to ascertain the present value of the expropriated shares (e.g., in the expropriation of Spanish-owned airline Aerolíneas Argentinas, appraising authorities reached the conclusion that the value was negative due to its current capital-debt structure, and therefore no compensation had to be paid). 20 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

The International Monetary Fund [has] stated that it considers Argentina’s debt position to be unsustainable.

Nonetheless, the legal system allows for a judicial Administrative proceedings procedure to be initiated to discuss the appraisal methodology and assumptions. Another manner in which nationalization can take place is through the unilateral revocation of licenses, Additionally, there are indirect or “creeping” ways permits or contracts granted to the investor nationalization may take place, such as the enactment authorizing a specific activity or service (this is of legislative or administrative regulations that especially the case for public utility companies, mostly substantially limit the exercise of the owner’s rights. natural gas and electricity distributors or transporters, For these cases, Argentine law grants several remedies as well as telecommunication operators). that may apply depending on the case.

In these cases, such decisions must be challenged in a For instance, the owner may seek to consider such a previous administrative procedure, and only once the case as an “abnormal” expropriation and thus go to latter is completed can the expropriated licensee, court to seek to obtain a full expropriation, with permittee or contractor submit its challenge in court. payment of the compensation, under the “abnormal” expropriation proceeding regulated by Expropriations As a final note, in all these cases the National Law No. 21,499 and which is similar to the one Government must be sued before Federal Courts, described above. which in turn tend to defer in favour of the National Government’s policies and decisions, unless explicit Alternatively, the owner may seek annulment of and gross violations to applicable laws took place. such regulations and full compensation of all losses suffered (including loss of profits) under State Liability Law No. 26,944. In such a case, it would have to demonstrate that such regulations are unconstitutional. In addition, before reaching a court it would have to submit a prior administrative claim according to Administrative Procedures Law No. 19,549.

Finally, if the regulations are not nullified, still the owner may seek compensation under State Liability Law No. 26,944, but without being able to obtain loss of profits and also having to meet a higher evidentiary standard (i.e., having to demonstrate that the regulations imposed a “special sacrifice” over the owner, different than that to the rest of society or similar market players). Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 21

Argentina: Investment Treaties

Czechia Lithuania Senegal

In force Denmark Malaysia Spain Signed (Not in force) Algeria Egypt Mexico Sweden Armenia El Salvador Morocco Switzerland Dominican Republic Australia Finland Netherlands Thailand Greece Austria France Nicaragua Tunisia Japan BLEU (Belgium & Luxembourg) Germany Panama Turkey New Zealand Bulgaria Guatemala Peru Ukraine Qatar Canada Hungary Philippines United Kingdom United Arab Emirates China Israel Poland United States of America Costa Rica Italy Portugal Venezuela Croatia Jamaica Romania Vietnam Cuba Korea, Republic of Russian Federation 22 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Case study: Indonesia Political Situation by David Chmiel

In keeping with current global companies. The government also announced plans for state-owned energy companies to take control of trends, Indonesia is not immune dozens of oil and gas fields such as the Mahakam from the recent incursion of Block in East Kalimantan when existing production sharing contracts expire over the course of the next nationalism into economic decade, rather than submit them to rebidding by policymaking. foreign oil and gas companies. These efforts came at the same time as plans were In April 2019, incumbent President Joko Widodo won announced to utilise more of the country’s natural election to a second five-year term of office following resources for domestic development needs and to a campaign in which both he and his opponent encourage domestic refining capabilities with bans promised to continue efforts to bring the natural on the export of raw, unrefined resources. resources sector under greater domestic control, including through nationalization where necessary. It is, however, premature, to take this as a sign of impending autarky in Indonesian economic policy. This willingness to prioritise domestic interests over Widodo has repeatedly said that foreign investment is those of foreign investors is not new in Indonesian critical to Indonesia’s sustained development. Shifting politics. Early in the country’s history as an geopolitical currents support this trend. The President independent nation, a number of Dutch and British has expressed scepticism about the costs to Indonesian investments were nationalized. More recently, sovereignty of accepting Belt and Road Investment Widodo’s immediate predecessor, President Susilo from China. Moreover, Indonesia is potentially well- Bambang Yudhoyono, introduced limits on foreign positioned to serve as an alternate manufacturing investment in sectors as diverse as oil services, retail, location for US multinationals seeking to shift agribusiness and power generation. He also production from China amidst ongoing trade wars. announced plans to terminate many of the bilateral In that regard, in early 2020, the government tabled investment treaties to which Indonesia was a party, legislation in Parliament aimed at encouraging foreign arguing that they favoured the interests of investment, including comprehensive tax reform. multinational companies over those of developing countries like Indonesia. In fact, a large number of Ministers have also suggested that additional sectors treaties have been terminated and some are being will open to outside investment, albeit likely subject renegotiated. to the continued emphasis on nationalization of ownership of natural resources and associated When Widodo was first elected in 2014, some processing. Balancing the need for foreign investment speculated that he might take a more liberal view on against domestic political pressure for Indonesians to foreign investment than Yudhoyono. However, his reap the maximum benefits of their country’s actions in his first term of office did not necessarily economic growth will require careful and sustained bear that out. In that period, a number of foreign efforts by policymakers. mining companies made high-profile exits from Indonesia following sustained political pressure to sell majority interests in their local operations to domestic Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 23

Protection of foreign investments in Indonesia

Jo Delaney Andi Kadir Richard Allen Hadyu Ikrami Partner, Sydney Partner, Jakarta Of Counsel, Associate, Jakarta Singapore

Overview In addition, investors may have access to claims in the domestic courts. In Indonesia, various forms of judicial Should a foreign investor have protection are available to foreign investors. These protections are aimed not only at attracting and its assets expropriated (whether facilitating foreign investments, but also at providing directly, or through creeping investors with recourse in case of violation of their expropriation or regulatory rights. The country’s prevailing statute on investment is Act No. 25 of 2007 on Investment (“Investment Act”). encroachment), the investor may have access to claims under any This legislation is supplemented by various presidential, ministerial, and local governments’ applicable investment treaties. regulations, as well as regulations of the Investment Coordinating Board (“BKPM”), the country’s single- While judicial protection for foreign investors exists in window agency for investment matters. Article 32 of Indonesia, it has varying degrees of consistency and the Investment Act provides broad options to investors predictability. This has made international arbitration to settle their disputes with the government, namely an obvious choice for many foreign investors. A map good offices, arbitration, and/or court proceedings. of those treaties to which Indonesia is a party is set out below. Indonesia has terminated approximately In practice, while most disputes involving foreign 30 BITs in recent years. However, it is party to the investors are submitted to international arbitration, ASEAN Comprehensive Investment Agreement and ASEAN foreign investors may also submit claims to the State free trade agreements that include investment chapters. Administrative Courts (“PTUN”) and General Courts. This means that many foreign investors retain the Further, judicial protection for foreign investors is also ability to invoke investment treaty protections (for available in non-contentious cases; the Supreme Court example unlawful expropriation or FET, as set out in and Constitutional Court have the power to conduct ‘The value of Investment Treaty protections’ above) in judicial reviews to ensure constitutional and the face of government interference in their investment. regulatory consistency.

Notably, some of the investment protections are more restrictive, particularly those negotiated recently. State Administrative Courts For example, investment protections are denied to investors who do not have a substantial business PTUN hear claims of violations of good governance operation. FET is limited to the minimum standard of principles by public officials submitted by individuals treatment recognised in public international law. In some or private corporations, including ad hoc governmental treaties, claims must be brought within three years. decisions. As such, many of the cases heard by PTUN involving investors relate to their licenses. At the same time, the exceptions to investment protections have been broadened. For example, the For example, in late November 2019, the Indonesian ASEAN Hong Kong China SAR Investment Agreement subsidiary of a multinational mining company filed a extends exceptions to measures relating to the lawsuit with PTUN against the Ministry of Energy and conservation of natural resources. Mineral Resources (“MEMR”). 24 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Indonesia is potentially well-positioned to serve as an alternate manufacturing location for US multinationals seeking to shift production from China amidst ongoing trade wars.

It alleged that MEMR had asked it to pay a royalty for Courts, which are appellate courts. The Supreme Court its sales of cobalt, in contravention of its license called is the court of final appeal. For example, in July 2019, a Contract of Work, which the company said only South Korean company’s subsidiary filed a lawsuit obliged it to pay a royalty for nickel matte sales. with the District Court of Kuningan, West Java against the Local Government of Kuningan. The company In another case, an Indonesian-South Korean joint alleged, among other things, that the lengthy process venture filed a lawsuit in 2018 with PTUN against of the issuance of licenses for its textile business in BKPM, alleging that BKPM had unilaterally revoked its Kuningan had caused uncertainty to the company. existing Agreement on Forest Utilization (PPPKH) by Consequently, it demanded nearly USD2 million issuing a License on Forest Utilization (IPPKH). of compensation. PTUN is an option available to foreign investors not only to challenge governmental decisions in respect Judicial Review of their business licenses, but also to reaffirm those decisions. For instance, in April 2019, the Jakarta The judiciary has the power to conduct judicial review PTUN decided in favor of BKPM, which had issued to ensure constitutional and regulatory consistency. an approval to upgrade the gold mining license at The Constitutional Court also has the power to decide exploration level of an Australian company’s upon disputes over competence between subsidiary, to a mining license at operation and governmental institutions. For example, in 2008, the production level. The court rendered this decision Supreme Court decided to strike down a 2004 after examining a lawsuit by two environmental NGOs decision by the Ministry of Forestry, which designated that had sought to annul the BKPM decision on the a 108,000-hectare land as a national park that ground of environmental damage. The court opined overlapped with the land for which an Australian- that the allegation was premature, since the company Indonesian joint venture had obtained a mining had not even commenced operation and production. license. The court found that the ministerial decision There have been instances in which citizens filed had violated the 1999 Forestry Act, as amended in lawsuits with PTUN to request the revocation of 2004, which stipulates that all licenses for mining investors’ licenses on the grounds of environmental activities in the forest that had been granted before concerns. For example, upon receiving its mining license the enactment of the Forestry Act are still valid until from the MEMR in 2014, the Indonesian subsidiary of a the expiry of those licenses. In 2012, the Constitutional Hong Kong group was sued by local residents of Court heard a dispute between the President, the Bangka Island, who petitioned the Jakarta PTUN to House of Representatives, and the Supreme Audit revoke that mining license. The court granted such a Board over who had the competence to buy minority request, and the decision was reaffirmed by the PTUN shares of a multinational corporation’s Indonesian Appellate Court, which was subsequently upheld by subsidiary, which was obliged to offer its shares to the the Supreme Court. The lawsuit alleged that the government. The court decided that the President company had caused environmental damage, including alone could not buy the shares, as he had to seek the coastal excavation and land reclamation near coral reefs. House of Representatives’ approval, have the House oversee the share purchase and buy the shares General Courts transparently and responsibly. This judgment imposed additional requirements on the government for Besides PTUN, investors have also, at times, submitted buying the shares of foreign investors, thereby their claims to General Courts, consisting of District providing extra protection to investors to ensure their Courts, which are courts of first instance, and High rights are respected during divestment process. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 25

Indonesia: Investment Treaties

Korea, Republic of Sweden Philippines

In force Mauritius Syrian Arab Republic Signed Serbia (Not in force) Australia Mongolia Thailand Singapore Bangladesh Morocco Tunisia Algeria Sudan Cuba Mozambique Ukraine Chile Suriname Czechia Poland United Kingdom Croatia Tajikistan Denmark Qatar Uzbekistan Guyana Turkmenistan Finland Russian Federation Venezuela Jamaica Yemen Iran, Islamic Republic of Saudi Arabia Korea, Dem. People’s Rep. of Zimbabwe Jordan Sri Lanka Libya

The government also announced plans for state-owned energy companies to take control of dozens of oil and gas fields such as the Mahakam Block in East Kalimantan... 26 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Case study: South Africa Political Situation by David Chmiel

In the quarter century that has occupied by long-term tenants or buildings have become derelict. passed since South Africa Nevertheless, numerous concerns remain unaddressed. transitioned from Apartheid to The draft legislation does not, for example, define the majority rule, its government has specific circumstances under which land will be expropriated for zero compensation. These details will enacted numerous policies aimed be set out in a separate law yet to be published. at redressing long-standing Moreover, some foreign investors have expressed concerns that, if redistribution is not managed economic grievances and carefully, it could lead to disruptions in agricultural imbalances. The introduction of production which, in turn, could impact an economy that is already troubled. Black Economic Empowerment laws is one of the most Investors will view this change in conjunction with other proposed measures also making their way significant examples of this. through parliament. This includes legislation to nationalize the South African Reserve Bank – the On taking power in 1994, the African National country’s central bank, and one of the very few in the Congress (ANC) – which remains in power to this day world currently to be owned by shareholders other – also promised large-scale land redistribution. than its government. If nationalization leads to greater However, measures to date have largely been limited intervention in the central bank’s mandate, investor to government purchases of land on the open market, confidence may decline and there is currently an rather than outright expropriation. This has drawn apparent difference of opinion within the ANC criticism from some of the country’s more radical leadership over whether this will be the case. opposition movements, most prominently the Economic Freedom Fighters led by the former leader Simultaneously, the government is also grappling with of the ANC’s youth movement, Julius Malema. the significant challenges to the country’s state- That stasis may well change in 2020. owned enterprises, many of which are overburdened with debt. In recent months, for example, the state- In 2019, South Africa’s parliament started considering owned electricity provider, Eskom, has increased the a draft amendment to the country’s constitution scale of rolling blackouts across the country in order permitting the expropriation of privately-owned land to take pressure off aging infrastructure which it lacks without compensation. Critics of land reform the current financial capacity to renew. compared such measures to the extreme land seizure policies of the late President Robert Mugabe in Given all these concerns, the government may decide Zimbabwe. However, the proponents of expropriation that it is more prudent to take a less radical approach – including President Cyril Ramaphosa – have tried to to issues such as land expropriation in these circumstances. dispel such fears. They argue that expropriation Whether opposition leaders such as Julius Malema and powers will be limited to cases such as those where the ANC’s own popular base are willing to continue land is held for speculative purposes or where it is tolerating such gradualism remains to be seen. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 27

Protection of foreign investments in South Africa

John Bell Andrew Mackenzie Jackie Lafleur Partner, Johannesburg Partner, Dubai Senior Associate, Johannesburg

Overview remains a party to 12 BITs which are currently in force (see map below). These BITs contain largely the same substantive protections as set out in ‘The value of In recent years, South Africa has Investment Treaty protections’ (above) and remain reviewed its BITs on the basis the most attractive avenue for foreign investors who suffer from government interference. that it believed that the BITs were too restrictive and Protections under the Act vs BITs outdated. As a result, South The protections afforded to investors under the Act Africa has, since 2012, terminated differ significantly to those under BITs. its BITs with many European Protection and Security of countries, including Denmark, Investment Spain, Belgium, Luxembourg, 11 Switzerland and the Netherlands. The Act provides that foreign investors and their investments must be accorded a level of physical This led to the promulgation of security as would be generally provided to domestic investors in accordance with minimum standard of the Protection of Investment Act customary international law and subject to available in 2015 (“the Act”), which came resources and capacity. Consequently, the extent of security is limited in the sense that it is conditional into effect on 13 July 2018. on the availability of resources and level of capacity, only applies to physical security and not legal and commercial security and the level of protection need Purpose and application of the Act only meet the minimum standards of customary international law. The Act aims to protect investments in South Africa in accordance with, and subject to, the Constitution, Expropriation while balancing the rights and obligations of investors. The Act applies to all investments in South Africa Section 10 of the Act provides that investors have the that are made in accordance with the Act. right to property in terms of section 25 of the Constitution. Section 25 of the Constitution provides that property It is the intention that the Act will eventually replace may only be expropriated for a public purpose or in all BITs. The Act does not, however, replace enforceable the public interest and subject to compensation, the BITs to which South Africa is a party.12 Consequently, amount of which and the time and manner of payment these BITs will be upheld, regardless of the Act’s of which have either been agreed to by those commencement. As of March 2020, South Africa affected or decided by a South African court.

11. South Africa is also a party to various Multilateral Investment Treaties (“MITs”), including the Free Trade Agreement between the EFTA and SACU States, the Cotonou Agreement between, inter alia, EU member states and African states and the Trade, Development and Cooperation Agreement between European Community States and South Africa. 12. It should be noted that BITs that have been terminated may still operate for a period of time after such termination. This is because many BITs contain sunset clauses. 28 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

The Act has faced some criticism on the basis that it may not afford investors the type of protection traditionally offered under BITs, and restricts their ability to pursue international arbitration claims.

In addition to this, the payment must be “just and body within South Africa for the resolution of the dispute. equitable”, having regard to a number of circumstances Although provisions of the Act allow for the including, inter alia, the history of the acquisition of government to consent to international arbitration, the property, the current use of the property and the this can only be done where the investor has purpose of the expropriation. exhausted all domestic remedies and both South Africa and the home state of the investor have This is at odds with expropriation provisions under consented to conducting the international arbitration. most BITs which provide for compensation that must It is important to note, however, that the arbitration be adequate, prompt and effective. will then be between the two states and not between South Africa and the investor. National Treatment and Most Favoured Nation Fair and Equitable Treatment The Act does not contain a fair and equitable The Act does not contain a most favoured nation treatment provision. treatment standard.

The Act includes a national treatment standard and Conclusion provides that foreign investors and their investments must not be treated less favourably than South The Act has faced some criticism on the basis that African investors “in like circumstances.” What it may not afford investors the type of protection constitutes “in like circumstances” will include a traditionally offered under BITs, and restricts their consideration of factors such as the effect of the ability to pursue international arbitration claims. foreign investment in South Africa, the sector that For that reason, claims under investment treaties the foreign investments are in and the aim of any remain attractive to foreign investors, notably measure relating to the foreign investments. because they can be pursued before international tribunals without having to exhaust local remedies. This differs from the standard national treatment That being said, the Act has retained the core provisions found in BITs which do not qualify the principles of BITs and has not imposed any new standard of treatment. obligations on investors. Given that the Act only recently came into effect, its long-term effects remain to be seen. Dispute Resolution

Importantly, the Act does not provide for investor- state international arbitration as is the case under BITs and, accordingly, all disputes relating to investments that fall under the Act are subject to South African courts. Where an investor has a dispute in relation to an investment, the investor may, within six months, request that the Department of Trade and Industry facilitate the resolution of the dispute by appointing a mediator. In addition to this, an investor may approach any competent court, independent tribunal or statutory Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 29

South Africa: Investment Treaties

Russian Federation Egypt Mali

In force Senegal Signed Equatorial Guinea Mozambique (Not in force) China Sweden Ethiopia Qatar Cuba Zimbabwe Algeria Gabon Rwanda Finland Angola Ghana Sudan Greece Canada Guinea Tanzania Iran, Islamic Republic of Chile Israel Tunisia Korea, Republic of Congo Kuwait Turkey Mauritius Congo, Democratic Republic of the Libya Uganda Nigeria Czechia Madagascar Yemen 30 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Case study: United Kingdom Political Situation by David Chmiel

As is noted in this report, the affected assets proved difficult to sell and many investors developed detailed risk mitigation strategies debate around the merits of for dealing with the issue. nationalization is continuing in With the Conservatives now seemingly secure in many parts of the world. However, power for the next four to five years, the immediate it was arguably laid to rest in the risk of nationalization goes away. However, it is worth noting that this is a policy with some United Kingdom at the end of apparent resonance across party lines. In August 2019 – at least for the immediate 2019, YouGov published a poll showing that 44% of UK voters who identified as “right-wing” supported future – when the Conservative renationalization of public utilities. For context, the Party won a large parliamentary Labour Party secured 32% of the popular vote in December’s general election. Moreover, two of the majority in the general election three candidates seeking to succeed outgoing of 12 December 2019. Labour Party leader Jeremy Corbyn pledged to retain renationalization as a plank in Labour’s policy platform. While Brexit dominated the campaign, the Labour Party sought to form a government on the basis of its most radical manifesto in decades, of which a centrepiece The Labour Party’s decision to embrace a policy of was bringing key utilities back into public ownership. large-scale nationalization was driven, in part, by ongoing Plans to renationalize private rail companies, energy public grievances and concerns about service provision supply networks, water companies and the Royal Mail in affected sectors. Even senior figures in the were also part of Labour’s manifesto in the 2017 Conservative Party cautioned that the actions of general election. In the intervening two years, further privately-held utility companies in matters such as details emerged about how the process would be executive pay and tax policy impacted the overall carried out and how compensation for expropriated debate about nationalization. In the first week of assets would be calculated. 2020, the UK Transport Secretary announced his intention to revoke the rail franchise of one operator over The list of targeted sectors expanded further during continued poor performance on that particular service. the course of the most recent campaign, with Labour also proposing to renationalize part of BT as part of The UK government has many priorities on its plate an effort to provide free broadband across the country. and, to a significant extent, the decisive general It also promised to introduce legislation mandating election result is a forthright rejection of policies such compulsory licensing of patented pharmaceuticals to a as renationalization. However, the debate will not newly created state-owned generic drug manufacturer. simply disappear so long as any underlying public frustrations remain unaddressed. Investors in affected The mere emergence of a debate over nationalization sectors will likely continue to undertake more rigorous had consequences for investors. While uncertainty risk mitigation efforts out of an abundance of caution remained over the future course of UK politics, until the risk seems to have disappeared completely. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 31

Protection of foreign investments in the United Kingdom

Joanna Ludlam Andy Moody Richard Molesworth Sarah West Partner, London Partner, London Senior Associate, London Senior Associate, London

Overview Article 1 of Protocol 1 to the ECHR provides that: “Every natural or legal person is entitled to the peaceful If the UK government were to enjoyment of his possessions. No one shall be deprived of his possessions except in the public interest and nationalize assets then investors subject to the conditions provided for by law and by would have a number of potential the general principles of international law.” claims open to them, depending on Under the ECHR, the UK would therefore have the the circumstances of the investor/ right to nationalize assets, but only insofar as this is investment and the manner in “in the public interest and subject to the conditions provided for by law and by the general principles of which nationalization was carried international law”. out, in particular the extent to The European Court of Human Rights (“ECtHR”) has which fair compensation was paid. broadly interpreted the concept of “public interest” and States are generally given a wide margin of One line of attack would be through invoking appreciation in this regard. However, deprivation of investment treaty protections, and the UK is party property entails a right to reasonable compensation to a large number of investment treaties (see map) and the ECtHR has held that “the taking of property which contain extensive protections for investors. without payment of an amount reasonably related to its value would normally constitute a disproportionate However, in many cases, investors will consider interference which would not be considered justifiable that pursuing domestic remedies may be equally under Article 1”. Previous case law provides that: advantageous. In fact in some cases, for example • compensation must be of an amount reasonably where there are allegations of unlawful regulatory related to the value of the property; encroachment, it may be extremely difficult to articulate an investment treaty claim without • compensation does not necessarily entail the full first pursuing domestic remedies. market value of the property if the legitimate objective of the public interest justifies less than full reimbursement; and

• the valuation method for calculating European Convention on Human compensation must be “manifestly reasonable”, Rights (“ECHR”) although in practice the ECtHR has granted national authorities wide discretion in this area The UK has ratified the ECHR and incorporated it into and will generally respect their approach unless law under the Human Rights Act 1998. it is “manifestly without reasonable foundation”. 32 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Under the ECHR, the UK would therefore have the right to nationalize assets, but only insofar as this is “in the public interest and subject to the conditions provided for by law...”

The general principles of international law require prompt, Once all domestic remedies have been exhausted, a appropriate and effective compensation, although claim may be brought before the ECtHR in Strasbourg, these provisions only apply to international investors although the proceedings are likely to be lengthy so UK nationals would not be able to rely on principles in such a case. of international law to seek redress against the UK. Judicial Review In practice, a claim under the ECHR may be pursued in different ways. The decision making of UK public authorities could be reviewed by the UK courts under judicial review. Accordingly, if the method of nationalization and In accordance with section 6 of the Human Rights calculation of compensation provides for any decisions Act 1998, it is unlawful for public authorities to act in or action to be taken by a public authority, then if a manner that is incompatible with a right under the that decision is not made lawfully, the shareholder(s) ECHR. Accordingly, if the method of nationalization could bring proceedings against the Government and calculation of compensation provides for any before the UK courts. discretion by a public authority, then if that discretion is not exercised in accordance with the ECHR, the Under a judicial review, the UK courts would not shareholder(s) could bring proceedings against the re-make the decision on behalf of the public authority, Government before the UK courts. Typically, this will but would review the decision making process itself not lead directly to compensation but an order on the grounds of: requiring the public authority to take the decision again in accordance with the ECHR. • illegality (for example, where a public authority acts outside of its powers or misdirects itself in law); In addition, under section 3 of the Human Rights Act • irrationality (for example, where a decision is 1998, legislation must be read and given effect to in taken on the basis of a factual mistake or is “so a manner that is compatible with the ECHR. As such, unreasonable that no reasonable authority could courts in the UK will interpret any legislation giving ever have come to it”); and / or effect to nationalization so far as possible in order to • procedural unfairness (for example, if the public provide adequate compensation rights in accordance authority failed to observe a statutory procedure). with the ECHR. However, this will only be possible where there is sufficient ambiguity in the legislation. The remedy in circumstances where a public If not, then the UK courts will only be able to make authority has made a wrongful decision in respect of a declaration that the relevant legislation is not nationalization or compensation for nationalization compatible with the ECHR and this will not affect is likely to be an order quashing the decision. the validity of the legislation. In practice, Northern Rock shareholders sought a It is not necessary to be a UK national to bring a claim judicial review of the compensation process when under the ECHR. Any individual or legal entity is entitled Northern Rock was nationalized in 2008 on the grounds to bring a claim against the UK in relation to a violation that the compensation process was skewed by committed by the UK in its jurisdiction. It is worth proceeding on the assumption that the value of the noting that the UK’s membership of the ECHR is shares should be determined on the basis of the bank entirely independent of its EU membership, so the being in administration. This claim was unsuccessful, UK will remain bound by the ECHR and subject to as was a subsequent claim before the ECtHR. the rulings of the ECtHR after Brexit. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 33

United Kingdom: Investment Treaties

Croatia Kyrgyzstan Peru Uruguay In force Cuba Lao People’s Democratic Republic Philippines Uzbekistan Albania Czechia Latvia Romania Venezuela Antigua and Barbuda Dominica Lebanon Russian Federation Vietnam Argentina Egypt Lesotho Saint Lucia Yemen Armenia El Salvador Lithuania Senegal Azerbaijan Estonia Malaysia Serbia Bahrain Eswatini Malta Sierra Leone Bangladesh Georgia Mauritius Singapore

Barbados Ghana Mexico Slovakia Signed (Not in force) Belarus Grenada Moldova, Republic of Slovenia Belize Guyana Mongolia Sri Lanka Angola Benin Haiti Morocco Tanzania, United Republic of Brazil Bosnia and Herzegovina Honduras Mozambique Thailand Costa Rica Bulgaria Hong Kong, China SAR Nepal Tonga Ethiopia Burundi Hungary Nicaragua Trinidad and Tobago Gambia Cameroon Indonesia Nigeria Tunisia Kuwait Chile Jamaica Oman Turkey Libya China Jordan Pakistan Turkmenistan Qatar Colombia Kazakhstan Panama Uganda Vanuatu Congo Kenya Papua New Guinea Ukraine Zambia Côte d’Ivoire Korea, Republic of Paraguay United Arab Emirates Zimbabwe 34 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Case study: United States of America Political Situation by David Chmiel

The United States does not Setting aside these exigent circumstances, it is worth noting that broader changing dynamics in US politics immediately come to mind when mean that expropriation or nationalization may now considering countries in which arise in other circumstances. investors may face nationalization For example, the nature of the debate around health care in the United States has evolved considerably. or expropriation risk. Yet, such One of the most striking features of the race to select actions have, in fact, occurred in a Democratic nominee for president in the 2020 elections is the fact that so many candidates are recent US history – and often on endorsing the creation of a single-payer, public health a significant scale. It is also care insurance system. Such measures can, if structured in a particular way, effectively entail the impossible to rule out political de facto nationalization of private sector health or economic circumstances care insurance. arising in the future where It is not just on the federal level where politicians such policy options might be are raising the prospect of taking privately-owned assets under government control. In California, for considered once again. example, Governor Gavin Newsome and a host of local elected officials have suggested that the Pacific In contrast to some of the other countries highlighted Gas and Energy Company, the state’s largest utility, in this report, however, nationalization in the United could be “municipalised” amidst public anger about States tends to be a measure of last resort, serving as rolling electricity blackouts and alleged links between a stopgap in times of broader financial crisis. This equipment failures and brush fires that devastated means that such acts tend not to be contested to the the state in 2018. Similar moves to acquire utilities same degree as they are in other countries where have been mooted by politicians in Chicago, large-scale expropriation is made against the express New York and elsewhere. wishes of asset owners. This evolving debate demonstrates that, in times In the 1980s, the Resolution Trust Corporation was of significant political change and disruption, long- formed to take control of almost USD 400 billion in held assumptions about the limits of government assets held by failing savings and loan institutions. action may no longer apply. The willingness of a The creation of the Troubled Asset Relief Program growing number of US political figures at all levels during the 2008-9 financial crisis effectively of government to entertain the notion that certain constituted a partial nationalization of auto maker assets and sectors of the economy might be better General Motors and troubled banking and insurance managed in government hands may indicate the companies, among other entities. Nevertheless, emergence into the political mainstream of a notion politicians made it clear that their intention was to that would have been unthinkable in US political return affected assets back into private ownership as discourse a short time ago. quickly as possible once financial stability was restored. Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 35

Protection of foreign investments in the United States of America

Grant Hanessian Derek Soller Eugenie Rogers Laura Zimmerman Partner, New York Partner, New York Associate, Dallas Associate, New York

Overview of private property, without just compensation. The clause applies to takings by any government in The USA is party to a number of the U.S. — federal, state, or local. BITs and multi-lateral investment Definitions treaties. In particular, Chapter 11 A government ‘taking’ can come in many forms: the of NAFTA (soon to be replaced taking of legal title by condemnation and eminent by the investment protections in domain; a permanent physical encroachment or occupation (or even a temporary occupation, under soon to be implemented Canada the right facts); a regulation depriving an owner of - United States - Mexico Agreement all economically viable use of land; a regulation conditioning the award of a government permit on (CUSMA)) contains investment forfeiture of a physical property interest or payment protections as set out in the of inappropriate fees.

‘The value of Investment Treaty In the context of regulatory takings, the Court has protections’ section (above). identified certain factors particularly significant to its analysis of whether a taking has occurred: ‘economic impact of the regulation on the claimant’, ‘the extent to Accordingly, investors may have access to the claims which the regulation has interfered with distinct described in that section. However, in addition to investment-backed expectations’, and ‘the character of pursuing claims under those treaties, investors will the governmental action’. have access to a number of domestic claims that they could pursue in the event of nationalization. In The U.S. Supreme Court has interpreted ‘private particular, the right to just compensation in the event of expropriation is recognised by the Constitution. property’ to include not only real property (land), but also personal property (including bank accounts), and intangibles (including trade secrets). The Takings Clause The government may take property for a public “. . . [N]or shall private property be purpose, but must pay to its owner ‘just compensation,’ a measure that has generated much taken for public use, without just debate. Just compensation has been interpreted as compensation.” that which puts an owner in as favourable of a pecuniary position as if its property had not been The final phrase of the Fifth Amendment to the taken. In practice owners often recover the fair United States Constitution, referred to as the Takings market value of their property, even if that is less Clause, prevents unilateral takings by the government than the amount of overall loss sustained. 36 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

...courts have reasoned that since these companies were on the brink of bankruptcy in any event, the investors or stakeholders in fact sustained no economic loss...

Dispute resolution and takeovers and management have diminished the value of their equity or other property interests in enforcement companies that were deemed ‘too big to fail’.

Private litigants may enforce the Takings Clause under In rejecting nationalization-driven takings challenges the Tucker Act, if against the federal government, or in these particular cases, courts have reasoned that under Section 1983 of the Civil Rights Act of 1871, if since these companies were on the brink of bankruptcy against state or local governments. The Tucker Act in any event, the investors or stakeholders in fact (28 U.S.C. § 1491) provides jurisdiction in the U.S. sustained no economic loss from the government Court of Federal Claims for claims against the federal takeovers and thus no further ‘just compensation’ government in excess of USD 10,000, to recover money is due. As the investors would have lost the value of damages founded upon the U.S. Constitution or an their investments in any case had the government not express or implied contract with the United States. intervened, the ‘takings’ had no net negative impact on the claimants. Therefore, courts have held the In a landmark decision of its 2018 term, the U.S. claimants sustained no loss attributable to Supreme Court removed one of the procedural hurdles government action, for which to be compensated for private litigants asserting takings claims, eliminating under the Takings Clause. a state-litigation requirement that had been in place for nearly 35 years. The old rule required a person Conclusion claiming a taking in violation of the Fifth Amendment to first exhaust avenues for obtaining compensation All takings claims involve fact-specific inquiries from state forums, before resorting to a claim in regarding entitlement to compensation under the federal court. In Rose Mary Knick v. Township of circumstances presented. In a different context than Scott, Pennsylvania, 588 U.S. (2019), the Supreme government bailouts of the nation’s largest mortgage Court declared it will now “allow into federal court holders in a subprime mortgage crisis, takings takings claims that otherwise would have been brought challenges premised on other instances of corporate as inverse condemnation suits in state court.” nationalization in the future could yield markedly Accordingly, practitioners now anticipate an uptick different results. That claimants may now access in federal takings litigation. federal forums to adjudicate these disputes under Knick also creates another opportunity for change of Takings in the context of the U.S. jurisprudence in this area going forward. nationalization

Takings claims premised on the federal government’s nationalization of several private companies in the wake of the economic crisis that began in 2008 have, to-date, been unsuccessful. Nationalization of companies such as Fannie Mae (Federal National Mortgage Association), Freddie Mac (Federal Home Loan Mortgage Corporation), GM (General Motors), and AIG (American International Group) has so far survived scrutiny — despite investor and other stakeholder complaints that federal government Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 37

United States of America: Investment Treaties

Egypt Mozambique

In force Estonia Panama Signed (Not in force) Albania Georgia Poland Argentina Grenada Romania Belarus Armenia Honduras Rwanda El Salvador Azerbaijan Jamaica Senegal Haiti Bahrain Jordan Slovakia Nicaragua Bangladesh Kazakhstan Sri Lanka Russian Federation Bulgaria Kyrgyzstan Trinidad and Tobago Uzbekistan Cameroon Latvia Tunisia Congo Lithuania Turkey Congo, Democratic Republic of the Moldova, Republic of Ukraine Croatia Mongolia Uruguay Czechia Morocco 38 PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

Key Contacts and Contributors

Ed Poulton Maria del Carmen Tovar Partner, London Partner, Lima

[email protected] [email protected]

Richard Allen John Bell Of Counsel, Singapore Partner, Johannesburg [email protected] [email protected]

Claudia Benavides Luis Dates Partner, Bogota Partner, Buenos Aires [email protected] [email protected]

Jo Delaney Ekaterina Finkel Partner, Sydney Senior Associate, London [email protected] [email protected]

Dogan Gultutan Grant Hanessian Associate, London Partner, New York [email protected] [email protected]

Hadyu Ikrami Andi Kadir Associate, Jakarta Partner, Jakarta [email protected] [email protected]

Jackie Lafleur Joanna Ludlam Senior Associate, Johannesburg Partner, London [email protected] [email protected] Return to Contents Page PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors 39

Andrew Mackenzie Richard Molesworth Partner, Dubai Senior Associate, London [email protected] [email protected]

Andy Moody Natalia Mori Partner, London Associate, Lima [email protected] [email protected]

Oliver Pendred Eugenie Rogers Senior Tax Advisor, London Associate, Dallas [email protected] [email protected]

James Smith Derek Soller Partner, London Partner, New York [email protected] [email protected]

Jorge Valencia Sarah West Senior Associate, Bogota Senior Associate, London [email protected] [email protected]

With special thanks to Laura Zimmerman David Chmiel Associate, New York Geopolitical Advisor and co-founder [email protected] of Global Torchlight PRESERVE, PROTECT & DEFEND Global Nationalization Risk: Practical Considerations for Investors Return to Contents Page

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