The treatment of investor misconduct in investment treaty arbitration raises a series of complex issues.  Allegations of investor misconduct (such as fraud, illegality and corruption) can arise in the context of the making of an investment, during its operation, or in the investment treaty claim making process.   How should a tribunal address investor misconduct if it is proven?  When does investor misconduct deprive a tribunal of jurisdiction?  What powers do investment treaty tribunals have to decline investor claims based on principles such as abuse of rights, abuse of process or international public policy?  If a tribunal declines an investment the substantive benefits of the investment treaty before addressing the investor’s claim on the merits, should we refer to this as a form of substantive inadmissibility?  When, if ever, is investor misconduct an issue that goes to the merits, damages or an award of costs?

In my posts in the coming months I will explore these issues, which form part of an ongoing research project on mapping the complex intersections between investor misconduct and investor-state arbitration.

Although there may be little sympathy for the investor that has engaged in serious misconduct, it is not so clear that investor misconduct is necessarily a jurisdictional issue, as suggested in a number of cases, notably Phoenix Action, Ltd. v. Czech Republic, ICSID Case No. ARB/06/5 (Phoenix).  One of the problems with addressing investor misconduct as a jurisdictional issue is that in complex investment relationships, misconduct may not be unilateral.  From a policy perspective, there is much force in the point made by Dr. Cremades in his dissent in Fraport v. Philippines:

If the legality of the Claimant’s conduct is a jurisdictional issue, and the legality of the Respondent’s conduct a merits issue, then the Respondent Host State is placed in a powerful position. In the Biblical phrase, the Tribunal must first examine the speck in the eye of the investor and defer, and maybe never address, a beam in the eye of the Host State. Such an approach does not respect fundamental principles of procedure. (Dissent, para. 37)

As discussed in previous posts by other Kluwer Arbitration Bloggers (here and here), in Phoenix the tribunal found that good faith was a jurisdictional requirement and declined jurisdiction.  At para. 100, the tribunal stated that:

The purpose of the international mechanism of protection of investment through ICSID arbitration cannot be to protect investments made in violation of the laws of the host State or investments not made in good faith, obtained for example through misrepresentations, concealments or corruption, or amounting to an abuse of the international ICSID arbitration system. In other words, the purpose of international protection is to protect legal and bona fide investments.

On the good faith requirement, the tribunal applied the bona fide test to what it referred to as Phoenix’s abusive distortion of the requirements for jurisdiction.  However, the Tribunal also noted that good faith: “is not so limited and may also play its role when it comes to the analysis of the substantive protection for investments under international treaties, which is a matter for the merits” (para. 143).

As John Gaffney has argued in a previous post, rather than viewing the misconduct at issue in Phoenix as a question of jurisdiction, the outcome in the case could have been “achieved through the exercise by the Tribunal of an inherent power to dismiss the proceedings for abuse of process, rather than on alleged failure to meet one of a number of investment criteria required to establish the Tribunal’s jurisdiction.”

The good faith requirement outlined in Phoenix as a jurisdictional requirement appears to be at odds with the approach of some other tribunals, where misconduct has been the basis for denying the claim either as substantively inadmissible or on the merits.  For example, in Plama v. Bulgaria, the tribunal found that the investor was not entitled to the substantive protections of the Energy Charter Treaty because it obtained its investment through fraudulent misrepresentations.  Likewise, in Azinian v. Mexico, the tribunal, having found that the investment was made on false pretences, rejected the investor’s claims and decided in favour of Mexico.  In World Duty Free v. Kenya, the tribunal dismissed World Duty Free’s claim and stated that the “Claimant is not legally entitled to maintain any of its pleaded claims in these proceedings as a matter of ordre public international and public policy under the contract’s applicable laws.” (para. 188).  In all these cases, the tribunals dismissed the claims on the merits or on the basis of substantive inadmissibility, rather than for lack of jurisdiction.

As noted above, from a policy perspective there is merit to addressing issues of misconduct as either questions of admissibility or the merits (and in less egregious cases perhaps at the damages or costs phase of the proceedings).  Cases of illegality raise unique issues, particularly where the illegality under local law means that no property rights could ever have been acquired.  This issue will be discussed in later postings.

It might also be noted that viewing investor misconduct as a jurisdictional issue has two further implications.  If investor misconduct is jurisdictional, a state may be unable to bring a counterclaim to a merits determination.  Second, upon review by either an ICSID annulment committee or a national court, an arbitral award dismissing a case for lack of jurisdiction might be subject to a higher degree of review for failure to exercise jurisdiction compared to a review of an award where a tribunal dismisses the claim on the merits or on the basis of substantive inadmissibility.

As I continue to work and post on these issues any comments or views would be most welcome.


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3 comments

  1. This is an interesting post and looks to be the beginning of an interesting series.

    In relation to the final point on the ability of states to bring a counterclaim being stymied by the jurisdiction requirement, I think this may not really be a concern.

    As the sovereign actor, states always have the upper hand in dealing with investments. They will be able to rely on domestic law provisions (either by applying existing law or passing new laws) to ensure that whatever actions they take to obtain satisfaction of their counterclaim in relation to the investment are legal.

    If the investor is already barred from obtaining a remedy from international arbitral tribunals (due to having unclean hands) then there is no remedy available to the investor given that diplomatic protection is already ousted by Article 27 of the ICSID Convention.

    With no domestic law remedies, and no international law tribunals willing to exercise jurisdiction, the investor would be left at the whim of the host state in an unfortunate Catch 22.

  2. I agree that the state counterclaim issue is probably not a central concern. As a practical matter, if the state has a serious counterclaim it is unlikely to contest jurisdiction. Nevertheless, there may be cases (similar to the recent Turkey cases) where the investors want to abandon the claim, but the state wants to proceed against the investor, perhaps for strategic reasons or to simply make an example. Further, it may be easier for the state to enforce an international arbitration award against the investor in its home state (where assets are located) rather than a host state judgment (which the home state courts might look on with suspicion particularly if there is a perception that the local courts are not independent).

  3. I agree with the last post of A. Newcome, there is certainly an importance for the State in pursuing an arbitration already started by a bold investor (that started arbitration even if he had acted illegally or in bad faith, with misrepresentation or fraud or others) to have things settled and an “easier” judgment to enforce in the investors’ state. Further we find many cases in which Investors do start arbitrations for enormous amount in order to put pressure on states (even if they are not sure of their possibilities of winning) in order to finally solve or make an agreement with the state in more reasonable or mid-terms.
    Having this said when a State is actually for one time sure of its possibilities of winning (which does not happen a lot, notwithstanding that incredibly or not they actually win in a lot of cases) or maybe only confident that this time he did not act wrongly, to give to the investor’s misconduct a jurisdictional analysis in simplifying the terms. For me it is clear that there are other requirements to analyze in the jurisdictional phase which are objective (in terms of ICSID, if there was an investment, the nationality of the parties, etc) The merits would have to cover the more subjective object of the dispute, this is to say if the respondent acted not according to the treaty (breaches of articles, standards of treatment, expropriation, discrimination) or ALSO if the investor acted in an unfair way -its misconduct-.

    I can see the point in treating the investor’s misconduct as jurisdictional issues as nobody can seek protection given by laws if they had acted illegally. Once illegal or fraudulent actions are proved in the jurisdictional phase, tribunals are not willing to start a whole legal procedure that can protect a party acting illegally. (This also having into account possible implications of ‘droit penale’ or criminal law, which is governed by the sovereign state, and can not be settled by private arbitral justice)

    Having this said, and continuing with an example of criminal law, when a person is judged for murder, it is not enough to say that because it has committed murder he has no protection from the law. He has the right not to any condemnation, but to the fair condemnation according to his act, to a process and other right afterwards in prison. What I am trying to say is that the investor that acted with ‘misconduct’ has also the right to be judged accordingly to his acts, and not to be denied an award on the merits -that I assume it can be contrary to his interest- when balancing the investor’s wrong actions with the State actions.

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