Russian authorities have taken and announced a series of economic measures in response to Western condemnation of Russia's invasion of Ukraine. The article analyses the legal basis for Danish investors in Russia to seek compensation through international arbitration for losses suffered from breach of the Investment Treaty between Denmark and Russia, which requires Russia to create favourable conditions for Danish investors and to provide full protection and security to Danish investments in Russian territory.
Morten Adler-Nissen, Danish Attorney and Solicitor of England & Wales, Kromann Reumert, and Danna Zhang, Danish Attorney, Bruun & Hjejle
1. Introduction
On 24 February 2022, Russia invaded its neighbouring country Ukraine. The Russian invasion has been strongly condemned by the international community, and several countries have imposed tough economic sanctions against Russia and Belarus. The EU has adopted a number of regulations, including a ban on exports of various products and technology to Russia, as well as extensive financial restrictions, entry restrictions and requirements for freezing of the funds, assets and other financial resources of certain natural and legal persons.
In response to the international sanctions, Russia has launched and announced a series of intrusive countermeasures against investments by so-called "unfriendly states", including the 27 EU Member States, among these Denmark. Among the measures is a bill proposed by the ruling Russian party, United Russia, that could potentially be used by the government to nationalise assets owned by foreign investors.1 Moreover, Russia has adopted a decree ordering Western gas customers to pay in roubles2, prohibiting Western investors from selling assets in certain industries, and making such sale subject to permission3.
These measures have led or may lead to significant losses for foreign companies, including as a result of forced nationalisation and expropriation of investments or misappropriation of intellectual property rights, etc. That includes both companies that have decided to continue operations in Russia and companies that have exited (or are in the process of exiting) the Russian market but still have assets in Russian territory or contracts with Russian business partners. Danish investors with activities in Russia should therefore consider their possible response to the Russian measures early in the process, including the possibility of claiming compensation from the Russian State.
Below, we analyse relevant standards of protection in the Investment Treaty between Denmark and Russia and the practice that has developed for assessing damages and enforcing arbitral awards (paragraphs 3-4) as well as the initial lessons learned from the arbitration proceedings that were initiated against Russia following the annexation of the Crimean peninsula. Finally, we analyse and summarise the possible action that may be taken by Danish investors and their challenges in recovering losses on investments in Russia, including practical and litigation strategy considerations (paragraph 6).
2. Legal protection of Danish foreign investments
Both Russian legislation and international law contain rules on investment protection in Russia, which may, in the circumstances, be a safeguard against interference by the Russian state.
First of all, general rules and principles of international law offer a certain protection of foreign investments. However, only states and international organisations are recognised in international law as having distinct legal personality with the right to bring an action to court, whereas natural and legal persons are traditionally denied access to bring an action directly against a state.4 An investor who has suffered a loss will therefore, as a general rule, have to seek diplomatic protection and assistance from its home state.
Also, for the host state to incur liability under international law, the investor must, as a rule, have exhausted the remedies available under the national law of the host state.5 In reality, the protection afforded by international law is therefore limited in the context of the Russian measures against Danish investors.
In addition to the general principles of international law, Russia passed an act in July 1999 which protects foreign investments (a so-called Foreign Direct Investment or FDI Act) by giving foreign investors right to compensation for infringements and forced nationalisations.6 According to the general rules on jurisdiction, claims brought under the FDI Act must, however, be settled by the Russian courts in accordance with Russian law. The protection available to Danish investors under the FDI Act is therefore also considered as limited.
Finally, investors enjoy certain treaty-based rights under bilateral investment treaties (so-called "BITs"). At present, Russia has entered into more than 60 BITs, which set minimum standards for the protection of investments made in Russia by companies in Contracting States. The bilateral investment treaties grant foreign investors a number of rights and remedies for effective enforcement through so-called investor-state dispute settlement ("ISDS"7).
On 4 November 1993, Denmark concluded an investment treaty/BIT with Russia, which requires Russia to create favourable conditions for Danish investors and to provide full protection and security to Danish investments in Russian territory, including by granting Danish investments fair and equitable treatment.8 The Investment Treaty entered into force on 25 September 1996.
Under the Investment Treaty, Russia may not impair Danish investments by unreasonable or discriminatory measures, and the agreement further prohibits nationalisation, expropriation and measures having equivalent effect, unless prompt, adequate and effective compensation is offered. The Investment Treaty also includes an arbitration clause according to which Danish investors may initiate arbitration proceedings directly against the Russian state and claim compensation if Russia does not meet its obligations. However, there is no authority in the Investment Treaty for raising claims against individuals or privately owned Russian companies.
3. The Investment Treaty between Denmark and Russia
The most effective protection of Danish companies' investments in Russia is provided by the bilateral Investment Treaty between Denmark and Russia.
The "investments" that are protected under the Treaty are specified in Article 1(2) as "every kind of asset invested by an investor of one Contracting Party in the territory of the other Contracting Party in accordance with its laws and regulations". The Treaty covers economic assets in the broad sense, including movable property (operating equipment, etc.), immovable property, mortgages, shares and other equity interests, intellectual property rights, claims for money, and other contractual claims.
The Investment Treaty contains a number of substantive orders and prohibitions relating to the treatment of foreign investors and their investments. The most significant of these are discussed below.9
In addition, the Investment Treaty gives investors the opportunity to commence arbitration proceedings against Russia for settlement either by an ad hoc arbitral tribunal under the Rules of the United Nations Commission on International Trade Law (UNCITRAL) or by the Institute of Arbitration of the Chamber of Commerce in Stockholm (SCC).
Thus, the arbitration clause in the Investment Treaty offers a significant advantage to Danish investors, who do not need to initiate proceedings before the Russian courts with the associated political risks of e.g. arbitrary and unpredictable government behaviour, biased judges, and State immunity rules.
3.1 Requirement for "full protection and security" to Danish investments in Russia
Article 2(2) of the Investment Treaty provides that investments by Danish investors "shall enjoy full protection and security" in the Russian territory, as Russia may not "in any way impair by unreasonable or discriminatory measures the management, maintenance, use, enjoyment or disposal of investments in its territory". This is an absolute standard that applies regardless of the treatment accorded to investments made by Russian or third country investors.
The obligation of the host state to offer "full protection and security" implies a requirement for protection against physical injury and destruction, whether caused by the host state itself (officials, police or military etc., particularly in the context of an armed conflict) or by others, if it can be shown that the host state has not made reasonable efforts to secure the investment.10 In a number of cases, the "full protection and security" standard has been interpreted non-restrictively by arbitral tribunals to also include other forms of protection, including "commercial protection" and/or "legal protection", in particular access to effective enforcement of the investor's rights.11
The "full protection and security" provision is not a guarantee against loss, but it imposes an obligation on the host state to ensure adequate protection and prevention measures or - where the harm has been done - to arrange for effective investigation and prosecution of the perpetrators. There seems to be consensus in legal theory that it is not a strict liability standard but rather a due diligence obligation or a so-called "obligation of vigilance and care"12, in particular where the harm is not (directly) caused by the host state or its representatives.
3.2 Requirement for "fair and equitable treatment" of Danish investors
In parallel with the general standard of "full protection and security", Article 3(1) of the Investment Treaty provides that "[e]ach Contracting Party shall accord investments made by investors of the other Contracting Party in its territory fair and equitable treatment no less favourable than that which it accords to investments of its own investors or to investments of investors of any third state, whichever treatment is more favourable".
And according to Article 3(2) the same applies to "the management, maintenance, use, enjoyment or disposal" of the relevant foreign investments.
The provisions imply a requirement for substantive protection of foreign investments, notably against political risks, i.e. the risk of losses as a result of political or administrative measures taken by the host state which may have an adverse effect on the investor's ownership of or return on the investment. The obligation to offer "fair and equitable treatment" ("FET") is on both the administrative bodies and regional and local authorities of the host state as well as on the national courts.
The standards of protection afforded under Article 3 of the Investment Treaty contain both an absolute element ("fair and equitable treatment") and a relative element, according to which the treatment of Danish investments must be compared with that given to national and third country investments.
The requirement for "fair and equitable treatment" is the standard invoked most frequently in ISDS cases and has formed the basis for compensation to investors in a number of arbitral awards.
It is a legal standard which is in practice set by the arbitral tribunal but, based on prevalent case law, the standard seems to go beyond the general minimum standard in international law, protecting also the investor's legitimate expectations.13
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Footnotes
2. Russia Moves Ahead With Bill on Nationalizing Assets of Foreign Companies (The Wall Street Journal)
3. Russia bans Western investors from selling banking, key energy stakes (reuters.com)
4. See, for example, Karl Strupp: Grundzüge des positiven Völkerrechts (5th ed., 1932), p. 33, and Malcolm N. Shaw: International Law (7th ed., 2014), p. 188 ff.
5. See e.g. Anders Henriksen, International Law (1st ed., 2017), p. 61-62.
6. An English translation of the Russian FDI Act is available online on WIPO's website: https://wipolex.wipo.int/en/text/188843
7. Investor-state dispute settlement.
8. The Danish version of the Investment Agreement is available online on UNCTAD's website: https://investmentpolicy.unctad.org/international-investment-agreements/treaty-files/5952/download
9. See also Associate Professor, PhD Lone Wandahl Moyal, "Protection of Danish companies' investments in Russia in the light of the war in Ukraine", Juristen, no. 3, 2022.
10. See e.g. Wena Hotels Limited v. Arab Republic of Egypt, ICSID case no. ARB/98/4, award of 8 December 2000, paragraph 84, with reference to American Manufacturing and Trading, Inc. v. Republic of Zaire, ICSID case no.. ARB/93/I, award of 21 February 1997.
11. See e.g. A.M.F. Aircraftleasing Meier & Fischer GmbH & Co. KG v. Czech Republic, PCA matter no. 2017-15, award of 11 May 2020, paragraph 661, and Azurix Corp. v. Argentine Republic (I), ICSID case no. ARB/01/12, award of 14 July 2006, paragraph 408.
12. Ulysseas, Inc. v. the Republic of Ecuador, PCA matter no. 2009-19, Order of 12 June 2012, paragraph 272.
13. See e.g. RREEF Infrastructure (G.P.) Limited and RREEF Pan-European Infrastructure Two Lux S.à.r.l. v. Kingdom of Spain, ICSID case no. ARB/13/30, and Crystallex International Corporation v. Bolivari an Republic of Venezuela, ICSID case no. ARB(AF)/11/2.
Originally published by Karnov Group Denmark A/S on the 18th of January, 2023.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.