In this article, we focus on the arbitration award issued on 4 May, 2017 by the ICSID, regarding case nº ARB/13/36.
The claimants, Eiser Infrastructure Limited and Solar Energy Luxembourg SAREL filed an application for arbitration with the International Centre for the Settlement of Investment Disputes (Hereinafter referred to as “ICSID”), against the Kingdom of Spain, founded essentially upon the following facts and arguments.
- The claimants invested in photovoltaic energy plants based on the economic prospects derived from the regulatory framework of Spanish Royal Decree (RD) 661/2007, which established a determined rate for energy generated and discharged into the electricity grid with a premium from the State (the so called “Feed in Tariff” or “FIT”).
- Due to the economic crisis arising from the 2007 crash, the Spanish government was not able to bear the economic cost of paying the premiums introduced by RD 661/2007, therefore a series of legislative measures created and modified the economic structure of the claimants’ plants, furthermore the Spanish government enacted a new regulatory framework based on Law 24/2013, Royal Decree (RD) 413/2014 and Spanish Ministry of Industry, Energy and Tourism Order (Order IET)1045/
- The new framework implied the lowering of the premiums, and consequently, a very substantial reduction of the claimant’s income, who had financed their projects with outside resources, based on the then current existing tariff structure. Thereafter, the cash flows derived from the new regulatory framework so decreased that they found it difficult to pay the
- The claimants complained that, under the new regulatory framework, the Kingdom of Spain breached its obligations under the Energy Charter Treaty (Hereinafter referred to as “ECT”), and in particular Articles 10 and 13 thereof.
Of all the aspects of the arbitration award, it is important to emphasize and comment upon the issues related to the guarantees of the “fair and equal treatment” of investors. In other words, the ICSID determined the following:
1. As regards to the concept and possible existence of an indirect expropriation in this case, contrary to Article 13 of the ECT, the arbitration court distinguishes, as it already has done so in the case of Charanne vs. The Kingdom of Spain in 2012, that the substantial impact derived from a regulatory modification is not sufficient to give rise to an expropriation situation. Damage caused by regulatory change should be equal to a real “destruction of value” of the investment, as defined in the 2012 UNCTAD (United Nations Conference on Trade and Development) expropriation.
2. This does not guarantee investors that the legal framework is to remain unmovable. The principle of stability derived from art. 10 of the ECT cannot, and should not, be confused with the impossibility of legislative developments, especially where no specific agreements exist. States are entitled to modify their regulatory regimes to respond to both changing circumstances and a higher interest, that is to say the public interest, but only under certain conditions.
3. Regulatory changes should not be unreasonable, exorbitant or abrupt. In this case, the arbitration court considered that the new regulatory framework for electricity tariffs for photovoltaic plants were “unjust and unfair”, practically depriving the claimants of the entire value of their In this sense, the court considered that the regulatory reform was a true indirect expropriation, despite the fact that the ownership of the investments remained in the hands of their private owners, the State deprived the latter of the value of the investment.
4. The court also recognized that regulatory regimes may develop and that the investors should not onlyhave known in advance about the legal framework applicable to their investment, but also they should have expected modifications thereto, even if such modifications should never imply the destruction of the value of the investment. Therefore, the State is obligated to accord “fair treatment” to the investors, in the sense and the scope of previous cases, such as TOTAL S.A. v. The Argentine Republic (ICSID Case No. RB/04/01 of 2010, or Occidental Exploration and Production Company v. The Republic of Ecuador, LCIA (The London Court of International Arbitration) Case No. UN 3467/2004.
5. Finally, the ICSID deemed that the new regulatory regime of 2014 derived from Order IET 1045/2014 deprived the claimants of this fair treatment, practically taking the total value of the investment away from them, since the new tariffs would be drawn from profitability calculations, the estimated cost of which are based on “typical” photovoltaic plants which were not real for installations prior to 2014. Consequently, the EIT Order, which would be applied to new and existing installations, is highly damaging to old facilities whose economic viability was based on cash flow derived from the FIT of RD 661/ and which are not able to withstand the tariffs established by the new regime.
Taking into account of all the above, the court acknowledged damages of 128 million for the claimants, an amount which is in accordance with the claimant’s investment, although the amount is far from the nominal amounts claimed, since some claims were dismissed.
The criteria for drawing a line between fair and unfair treatment, as well as the separation of the indirect expropriation caused by the regulatory changes made in the public interest, but which have negative effects on the private investors seem unclear. The principal of creating a stable legal foundation, contemplated in article 2 of the ECT, cannot be proclaimed as an unmovable principle for a State, especially when there is no specific agreement between the State and the investor; even less so under the urgent circumstances that bring about the modification of the regulatory framework.
It is appropriate to assess the impact of a temporary change on the regulatory framework. In the same way that the States are able to regulate against the private interest in order to safeguard a legitimate public interest in certain compelling situations, once an urgent situation has been overcome, they are also able to restore the original conditions when the crisis has passed, this time to benefit the private interest. And in the same way that a company could put in place employment regulation measures to save certain critical situations, albeit to the temporary detriment of the employees, but to the benefit of the collective as a whole and the survival thereof, we cannot expect that the State has less right, because its entire purpose and reason for existence is to look after public interests. Therefore, if there had been a modification of the regulatory framework of a temporary nature, for reasons of public interest, would it have meant a destruction of value of the investment equivalent to an indirect expropriation?
The objectionable aspect of the conduct of the Spanish government is the way it devised the regulatory framework of 2007. Firstly, due to the lack of a long-term realistic and reasonable proposal for establishing its commitments to economic operators which attracted a massive foreign investment, but without knowing how it would maintain the tariff structure financially in the medium to long term; and secondly, for not having thought of a progressive or even transitional regulatory system that discriminates new and old investments, avoiding an unfair and very harmful situation for investors with projects based on the regulations of 2007. From this point of view, the economic compensation to the claimants seems well justified.
Lastly, it can be concluded that the State’s right to develop legislation is superior to the principle of fair treatment to the investor, which means that the State can – and even must – modify its regulatory framework when economic circumstances so require and respond to public interest, although this may harm private interests. However, the arbitration court reminds us of the importance and duty of the regulatory framework to be stable and transparent, without which it would not be able to attract foreign investment, likewise changes which should be executed must be reasonable and not abrupt, so as not to deprive the investor of the value of their investment. That said, occasionally, regulatory modification may negatively affect the investor, nonetheless, if this detriment does not cause the destruction of the value of the investment, it shall not carry any entitlement to compensation. Furthermore, the State could regulate against private interests, and the measures could even produce an expropriation effect on investors if public interest is involved, but this effect shall not restrict the legislative sovereignty of the State, it will simply make fair compensation for those affected an obligation.
Eduardo Vilá
Vilá Abogados
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19th May 2017
