It would be within the logic of the npv/dcf approach to disregard the fact that an investment may only be in its early stages. In these early stages, there will always

end p.1078

be ‘business plans’ which are intended to persuade those with control over funds to make contributions. These business plans are by nature optimistic and are not a serious indication of the value of a venture. Tribunals dealing with such cases have as a rule adopted a prudent approach—an approach that mirrors in the main that of successful portfolio investors. 119 Projects that have not been completed where their track record does not amount to several years 120 are as a rule compensated on book value (ie expenditures) rather than on the capitalization of financial expectations. To be compensated as a ‘going concern’ with at least co-application of the NPV/DCF method, there has to be ‘a sufficiently long time to establish a performance record’. 121 That requirement is eminently sensible as an initial financial situation after start-up will be characterized by both high initial costs, but also high income, which gives way to normalcy once competitors follow the lead of very profitable projects.

(c) Compensation for Creeping and Regulatory Expropriation

Formal or direct expropriation has become rare over the last two decades. Currently, the most common way to affect foreign investor property is by ‘creeping expropriation’ (expropriation through a series of acts initiated or tolerated by the government at the end of which the foreign investor is deprived of the economic use of its property), 122 confiscatory taxation, 123 and regulatory taking (regulation has the same effect as expropriation, but is not justified as an exercise of police powers and other inherent limitations of property). 124 The question here is if the application of the compensation standards for expropriation is called for in this case, or if such indirect forms of expropriation require a modification of the compensation methodology. 125

There has been little discussion of compensation for creeping expropriation and regulatory taking. 126 Reisman and Sloane focus on the relevant time for calculating

end p.1079

compensation in such cases; Merrill suggests that regulatory taking should not result in the same—full—compensation as formal expropriation. The proper approach is to follow the Chorzow Factory principle by starting with the value before the measures started to have an effect and compare the result with the value the property would have had if either the government had refrained from taking the injurious measures or if it had carried out lawful regulatory measures not up to the threshold required for an indirect expropriation. In contrast to formal expropriation, in indirect expropriation the investor usually retains property (of a much diminished value) and title. The investor should be obliged, as a condition of the compensation payment, to transfer the residual property and rights attached to the government against compensation, with an added element for the value of the residual property rights. 127

In a case of regulatory taking, the compensation issue is more complicated. Requiring the state to pay only the—possibly quite small—difference between the value the property would have had had the state exercised its powers without exceeding the ‘taking’ threshold and the full value will in some cases not encourage the state to think carefully about how its regulation affects private property—one of the purposes of the compensation clause. 128 Requiring the full amount, on the other hand, is likely to cause over-compensation: the owner is compensated for what the state could not do (the excess-of-threshold portion), but also for what the state could legitimately do (the below-threshold portion). An application of the Chorzow test suggests that the actual situation—regulatory taking—has to be compared with what the state could and would have done in all probability if it had proceeded in a way that still pursues its policy, but avoids the breach, for example, if in a case of national treatment breach or where discrimination is a constituent element of the indirect expropriation test, the state had pursued the policy, but without discrimination. 129 There are also issues of moral hazard and incentive on both sides to consider. It is too early to suggest a bright-line test. Probably, the proper course is to reduce full compensation (or enhance partial compensation) by taking into account the relative legitimacy of the state's regulation (intention, good faith, legitimate purposes pursued, proportionality of measure and purpose) on one hand and the investor's special hardship (disappointment of legitimate expectation on property;

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good-faith efforts to come to a solution; time and trouble to find a replacement purpose for the property; or finding another property) on the other. 130

(d) Relevant Valuation Time and Date

The time of valuation can be the key factor in valuation—in particular if a truly market-based valuation is carried out rather than one of its proxies. Treaty formulations use the ‘date of the expropriation’ or the date when the impending expropriation became known 131 as a point of reference. The time of the formal act of expropriation—if there is any—will be too late to reach a fair result, because expropriations mature gradually as the expropriation ripens; from first indications towards the final act, the value of the asset will decline. 132 This is especially so in cases involving indirect or creeping expropriation. It is therefore quite difficult to determine an exact point in time when ‘expropriation is impending’. If such a point can be found—for example, a definitive political decision which makes expropriation irreversible under normal circumstances but does not yet constitute the formal legal act—then that point could be the relevant point in time for valuation purposes. 133 But political decisions usually are taken in a self-propelled process, which gradually gains momentum until it becomes irreversible and only needs a formal completion.

A possible solution could be not to focus on an exact point in time, but rather to average out the relevant market- and risk-based values over a time period, starting from when the first serious warnings (even if without hindsight not properly identified) came about and ending when the formal decision was taken. Equitable circumstances would suggest that threats of nationalization by influential members of the government should be taken into account if they are part of a political dynamic that in the end leads to expropriation. In that case, the main date—or the beginning of the relevant time period—should be when such threats are expressed if they have already had a noticeable effect on the valuation. That is because wrongful acts should not benefit the expropriating state, even if we only have the impending shadow of what

end p.1081

later ripens into a wrongful act rather than a concrete wrongful act. 134 Otherwise, states could reduce the compensable value by a well-timed sequence of threats which only gradually build up into identifiable expropriatory action.

The issues become even more complicated if creeping expropriation is examined. 135 Here, the first steps may be innocuous; they can be seen as acts by people for whom the state is not directly responsible at first or as measures that appear prima facie as a reasonable reaction to economic, political, and other emergencies. 136 They may reflect legitimate conduct by the state exercising its police powers in a period of national turmoil. But if these individual acts (which are not wrongful per se) accumulate and crystallize ultimately into action by the state or attributable to the state, then the state should be seen as taking on responsibility for the whole sequence of events. 137 That means that the relevant date—or rather the relevant ‘range of time’—should cover the time period when the first significant steps in that sequence were taken and started to have an impact on the market valuation.

(4) Compensation for Breach of Other Standards of Treatment

The calculation of due compensation for expropriation is, in spite of debates, relatively well established. There is, however, little precedent and even less theoretical analysis of how financial compensation should be assessed for breaches of non-expropriation standards of treatment in investment treaties, such as in particular national treatment and fair and equitable treatment. 138 So far, tribunals have tended

end p.1082

to gravitate, for understandable reasons, towards analogy with either the expropriation standard 139 or the breach of contract standard. 140

The proper approach to this issue would be to follow the lead of the Chorzow dictum and ask ‘[i]f the government had not committed that breach, what would have been the position of the claimant investor today?’ The problem with this test is that it was formulated for expropriation-type actions and assumed that by simply going back (ex-ante) and comparing the previous situation with the situation now (ex-post), one would have an easy comparator. However, in order to properly apply this test to cases involving the breach of non-expropriation standards of treatment, in the exact sense, one has to compare the situation now (ex-post) with the situation as it would have evolved had the government pursued in all likelihood the same policy, but complied with the applicable, procedural, and/or substantive rules. 141 This study can at this time only provide a sketch of the issues that are now arising. It will review the question of monetary compensation for each of the major standards of treatment, that is:

• National Treatment (non-discrimination);

• Fair and Equitable Treatment, as well as two of its sufficiently identifiable subcategories: denial of justice and legitimate expectations

(a) National Treatment (Non-discrimination)

The substantive scope of this standard is far from clear at present; it can range from a manifest and intentional discrimination against foreign investors to conduct with a discriminatory effect which is not intentional. 142 A financial remedy in this context should place foreign investors in a financially equivalent position either as if they were treated as well as the best-treated domestic investors or as if the government's differentiation had gone as far as would be justified by legitimate reasons. 143 The first approach examines, measures, and translates into financial terms the difference

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between the foreign and the comparable domestic business. The second approach looks at the difference between the ex-post situation and a hypothetical situation where the government would have adjusted its conduct so that it either no longer differentiated or only differentiated as much as it was legitimate to do so.

Investment arbitration jurisprudence on national treatment is not extensive and hence the observation of the tribunal in Myers v Canada that ‘considerable discretion’ is exercised by tribunals when dealing with damages is especially accurate in this context. 144 Lack of a clear methodology in investment treaties for assessing damages for breach of national treatment has left the tribunals, which often have limited or no means of independent investigation and expertise, largely at the mercy of the way the parties' pleadings define the issues. Expert submissions will often be based on insufficient instructions except that they should present a minimal value, for the respondent, or a maximal value, in the case of the claimant. Some tribunals, therefore, have quite rightly split the damages examination into a separate procedural phase, following awards on jurisdiction and merits. 145

Tribunals have not so far defined a methodology for awarding damages in such cases either. 146 This shortcoming may be attributed to several causes. In some cases, for instance, states were found responsible for breaching both expropriation and national treatment standards. In such cases, tribunals have assessed damages assuming that the property was expropriated. 147 In other cases, tribunals have been able to rely on an already well-defined tangible value expressing the discrimination. In Occidental v Ecuador , for example, the tribunal found discrimination in the fact that no oil companies (including the foreign claimant) got a tax refund, while other companies obtained a tax rebate, and so it was also relatively easy to define the compensation due as the otherwise well-defined tax rebate that was not paid. 148 Likewise, in Feldman v Mexico , the non-payment of specified tax refunds—something clearly

end p.1084

definable—was the basis for the compensation assessment. The tribunal rejected the claimant's proposal that damages should be assessed based on the fair market value of the business as required in ‘expropriation’ cases. 149 It also rejected the claimant's plea for lost profits, finding inter alia that based on the available facts, the claimant's business could not become profitable. 150 Like most reasonable tribunals, it looked for something that was reasonably certain and quantitatively definable rather than speculative. 151

In Nykomb v Latvia , 152 the tribunal found safe ground in relatively quantitative and well-circumscribed terms of contractual payment obligations that were not performed. The tribunal had to face a situation where both foreign and domestic co-generators were promised a ‘double electricity purchase tariff’ by the state energy monopoly to encourage co-generation, acting under legislative pressure. The state energy company paid, after domestic litigation, to the domestic co-generators, but not to Nykomb. The tribunal found discrimination; both Nykomb and the domestic co-generators were in a comparable situation. Nykomb was treated worse. The double tariff agreement had been recognized for the domestic companies as valid by Latvian courts. Latvia had not provided a satisfactory explanation to justify such different treatment. The tribunal awarded all future payments owed, and one-third of past payments not paid, to the claimant. 153

It was only in Myers v Canada that the tribunal carried out an in-depth analysis of lost and delayed business entailing an endless chain of interdependent and market-related speculations. The tribunal found that Canada's discrimination (ie closing of the border for hazardous waste exports) destroyed and delayed parts of Myers' income stream. 154 Then, it carried out a very detailed analysis of what would have happened if the export ban had not been in force, including an analysis of the competitive situation—as it was before the ban, after the ban, and speculating on how it

end p.1085

might have been if the ban had not been imposed, in a complex interaction between Myers, its customers, and its other competitors, usually through tendering procedures. In addition, availability of equipment, the estimation of how Myers, its customers, and competitors thought the Canadian authorities might decide, all played a role; the tribunal had to speculate itself about the plausibility of the speculation by the witnesses produced. It had to hypothesize about the likely success rate of Myers' bids in tendering, but also about the likely impact on the price levels (presumably lower) if Myers as a foreign competitor had participated in such tenders.

In dealing with the compensation issue in national treatment claims, one should bear in mind that international law, as reflected in Articles 34–39 of the ILC Articles, provides a much wider range of remedies, similar to non-pecuniary remedies ordered in WTO and EU adjudication. This approach may also help to manage politically sensitive cases, using a greater variety of remedies available, in particular where the prospect of being propelled to make very large damages awards discourages the tribunal from proper application of the substantive law. 155 Greater flexibility with remedies thus can help tribunals to reach a conclusion on the merits without fear of the political repercussions of a large damages award.

(b) Fair and Equitable Treatment

Fair and equitable treatment, unlike expropriation, has only during the past ten years become a popular cause of action, surpassing expropriation. 156 A review of the arbitral jurisprudence reveals a variety of approaches to the issue of damages for breach of fair and equitable treatment: when the wrongful acts have led to the total deprivation of property rights, the tribunals have followed the standard of compensation for expropriation by awarding the fair market value of the investment. 157 Other identifiable approaches are the standard of compensation for the classic delict

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of ‘denial of justice’, 158 and the proposed standard for frustration of the legitimate expectations of investors. This subsection examines these issues in the order explained.

(i) Compensation for Breach of Fair and Equitable Treatment

Similar to national treatment, there is no guidance in investment treaties regarding the applicable standard of compensation for breach of fair and equitable treatment. This gives tribunals discretion to decide the issue on a case-by-case basis. 159 The CMS tribunal, for instance, based on the cumulative impact of the breaches (which did not include expropriation), found the standard of fair market value suitable. It stated inter alia that that standard ‘might also be appropriate for breaches different from expropriation if their effect results in important long-term losses’. 160

In Petrobart v Kyrgyz Republic , the tribunal found the government in breach of the fair and equitable standard under Article 10(1) of the ECT; it did not award the full amount of the proved losses (certain unpaid invoices backed up by a court judgment), however, as it appeared improbable that the investor could have recovered them. The weak financial situation of the governmental company (KGM) would, most likely, have prevented it from paying the invoices in full. The tribunal, however, stated that had it not been for the actions of the government, Petrobart, in a hypothetical bankruptcy sale of KGM's assets, would most probably have recovered substantial parts of the unpaid invoices. Therefore, it ruled that the Republic had to reimburse Petrobart for 75 per cent of its justified claims against KGM. 161 This application of an ‘enforcement risk discount’ mirrors the ‘litigation risk’ discount concept introduced by Jan Paulsson for ‘denial of justice’ damages as discussed below.

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(ii) Denial of Justice

Denial of justice may take a variety of forms, each of which may require a particular compensation approach. One form of denial of justice is when a government prevents the execution of a judgment in its domestic courts. 162 Jan Paulsson's considerations, 163 which mirror our approach, suggest that a material breach of the due process principle implicit in ‘denial of justice’ does not lead to an award as if the investor had prevailed in the incriminated litigation, but only to the ‘loss of a chance’—the possibility, not the certainty, of prevailing at trial and on appeal. 164 If a denial of justice claim resulted in compensation equal to the claim, then the investor would in effect swap a risky litigation claim for certain, risk-free income. That could be qualified as ‘double recovery’ except in cases where on the basis of the facts and law available, the domestic court had in the tribunal's view no other choice but to adjudicate fully in favour of the claimant. This approach—to apply a litigation risk discount to a denial of justice claim—might have helped the Loewen v US tribunal to achieve an award that was consistent with its own assessment of the justice of the claimant's case without becoming politically unpalatable. Flexibility with damages—two steps forward, one backwards—can thus be a way to manage the at times unavoidable politics of investment disputes.

(iii) Legitimate Expectation

The principle of ‘legitimate expectation’ is emerging not only as a principle that is used to define the scope of other investment law concepts (regulatory taking, scope of damages/compensation), but also in its own right as one of the subcategories of the ‘fair and equitable treatment’ obligation. 165 It does not replace a formal and legally valid contractual commitment—such as a concession contract, even if the tendency of claimants is to equate a ‘legitimate expectation’ claim with a full

end p.1088

contractual or quasi-contractual right. Furthermore, legitimate expectation does not lead automatically to a claim, but rather sets the stage for a balancing process between the investor's legitimate expectation and the state's legitimate needs to develop its policies. 166

The consequence for compensation, therefore, is a claim not for a ‘positive interest’ in future contract performance and contractually secured income, but rather to ‘negative interest’, that is, reasonable costs incurred by the claimant in appropriate confidence in and reliance on legitimate governmental assurances. The outer scope of compensation is therefore the expenditures of the claimant made in reliance on the assurance or government conduct triggering the legitimate expectation. 167 Given the balancing process between investor and state legitimate interests involved, one should therefore expect a valuation range for tribunals to be defined by the use of principles such as damage mitigation and due diligence, on one hand, and the egregiousness of government conduct, on the other (ie strength of expectation versus intensity of reversal of government position in light of known investor reliance). 168 Legitimate expectation cannot only be a concept to describe a subcategory of the fair and equitable treatment standard, but it can also be used to expand or delimit the scope for compensation. 169

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(5) Compensation for Contractual Breaches—Umbrella Clause

In modern investment treaties, 170 contracts are protected in a number of ways: as a rule, they are covered by the now very extensive definition of ‘investment’ under investment treaties. 171 Governmental action against contractual rights can therefore constitute breach of investment treaty standards such as expropriation, fair and equitable treatment, national treatment, and umbrella clauses. 172

Two approaches to damages for loss of contractual rights vie for priority—and are rarely properly distinguished: the ‘expropriation/international law perspective’, where a contract is deemed to establish a property right capable of being expropriated and declining in value. Accordingly, breach of a contract could for instance become equivalent to an expropriation if it leads to the ‘evaporation’ of the economic value of the investment. The other approach is the ‘contractual perspective’. Government action that is covered by one of the investment treaty's protections is considered analogous to a commercial breach of contract and contractual remedies—mainly

end p.1090

damages—are awarded. 173 The application of the two approaches (not very clear at present) to international contract protection would be as follows.

Expropriation/international law perspective Contract as a species of property is protected against expropriation or other breaches of international law, and its cancellation entitles an investor to full compensation, that is, the present value, before the cancellation, or other measures of compensation depending on the extent of the diminution in value of the contract. 174 This will generally be less than under the contractual perspective as the risk of the investment (and the higher the profitability, the higher presumably the risk) will be reflected in a commensurate discount rate.

Contractual ‘damages’ perspective With a normal damages analysis, not incorporating the government risk, 175 the investor will be entitled to receive damages as if a properly functioning domestic court had adjudicated, awarding all future payments due, minus payments for cost savings, alternative earning possibilities, but also possibly allowing for impact of foreseeable external events, with limits such as ‘too remote’ and ‘intervening third party caused damages’. 176 The contractual perspective could lead to a higher award as it would arguably not incorporate government risk—which would be how markets would view the value of the contract, but not a court responsible for holding the government to its commitments.

In practice, both approaches coexist without clear separation. This can lead, for example, to the incorporation of the contractual income stream as the non-speculative and reasonably certain future income into a compensation analysis, 177

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but also in the incorporation of the risk-reflective discount rate into a contractual analysis. One enhances, the other one diminishes the outcome for the claimant. The major risk for a tribunal is to first pick the historic-expenditure value from the compensation methodology and add to it, as a second element, a net present value of future income. That is, in fact, classic double counting; it gives the investor twice the value (once derived from expenditure, once from going-concern and future income value). 178

The ‘hard issue’ is how to compensate an investor for ‘hard contracts’ concluded with the host state and later cancelled for whatever reason. On one hand is the principle that compensation—or damages—should reflect the original bargain made (‘to be held to the benefits of the bargain’). If a government, for instance, had a weak bargaining position, and agreed to contractual terms which were highly favourable to the investor, then it has to bear the risk of rescinding such a contract; that is the ‘benefit of the hard bargain approach’, which is warranted under the contractual damages perspective. 179 The international law—compensation for expropriation—perspective, however, allows equitable principles (such as abuse of right, and unjust enrichment) to correct the otherwise inevitable perpetuation of a hard deal to the unilateral benefit of the investor. A contract perspective, however, provides less opportunity for such a correction.

Based on the current state of the law, it is preferable to use the expropriation/international law perspective in treaty-based investment disputes for actions that qualify as governmental revocation of a contract. It is possible to argue that the expropriation analysis should control the determination of compensation also in the case of contractual rights affected by government action—quite different from contractual arbitration dealing with long-term contracts. Compensation for expropriation would thus place a ‘cap’ on investment treaty cases dealing with contracts; but then, there are ways to modulate compensation upwards (with punitive elements for unlawful and egregious breaches) or downwards (when high risk margins, equitable considerations, national economic emergencies, or very one-sided contracts are at play). Investment treaties were set up to deal with abuses of governmental powers affecting investor rights, and not to provide an arbitral jurisdiction for normal contract disputes. Even if there is an ‘umbrella clause’, it should be seen as a special case of (quasi-)expropriatory action against contractual rights. For actions which interfere with a contract, but do not rise to the level of expropriation, the Chorzow logic should apply: in what position would the investor have been if the government had, in trying to extricate itself from the contract, not ‘abused’ its dual power as regulator and contract party. Depending on the situation, the damage arising could be minor—for example, if the government could have legitimately used its

end p.1092

dual role to pursue a similar policy or if the government could have legitimately used its role as contract party to pursue that policy. But if the difference between what it could legitimately have done and what it did is large, for the investor damages could rise to the level of expropriatory compensation. At times, a ‘contract analysis’ of damages will produce the same result as the international-law-based ‘Chorzow analysis’, for instance when the breach of the contract can be subsumed under a national treatment or fair and equitable treatment obligation breach, as, for example, in Nykomb v Latvia .

(6) Causation, Compensation-reducing, and Compensation-enhancing Elements

(a) Causation

Damage calculation relies on the concept of causality. 180 This concept requires a causal relationship between the unlawful act and the harm done to be shown, thereby excluding recovery for damages that have not been caused by the wrongful acts. It is difficult to establish causality in a scientific way, as a multiplicity of factors may have contributed to the occurrence of an event, and it may not be possible to measure the impact of each factor separately.

This dilemma has in all major legal systems led to the development of complex rules distinguishing direct damages from indirect and furthermore from consequential losses. Standards such as ‘proximate cause’ or its mirror concepts—such as ‘too remote’ or ‘indirect’, or relevant intervening causality—are used to make the inquiry into relevant causality end at some point—usually within the range of foreseeability of the omnipresent fictitious ordinary and reasonable, but well-informed and prudent, person. 181 In the context of international law, the ILC has discussed

end p.1093

this concept in Article 31(2) of the ILC Articles. 182 The commentary on this article states inter alia that ‘the requirement of a causal link is not necessarily the same in relation to every breach of an international obligation. In international as in national law, the question of remoteness of damages “is not a part of the law which can be satisfactorily solved by search for a single verbal formula”?’. 183

Arbitral awards contain some references to and sometimes a more extended discussion of causation. 184 By and large, however, they do not discuss the effect of causation on damages in detail. One issue, however, that has received adequate attention in at least one investment arbitration award seems to be that of concurrent causes and their effect on the extent of recovery. The tribunal in CME v Czech Republic rejected the government's contention that since a third party (Dr Zelezny) had also contributed to the loss of the investor, the government should be absolved. It then went on to review the implications of this principle for the amount of reparation, relying, among others, on the ILC Articles and their commentary, to conclude that the international practice does not ‘support the reduction or attenuation of reparation of concurrent causes’. 185 The tribunal also stated that the investor could also bring a claim against Dr Zelezny, but in the end it could only recover one set of damages, that is, no double-recovery. 186 The main approach appears to be to qualify as ‘indirect’, ‘too remote’, or not ‘directly caused’ those losses which were not easily foreseeable and required speculation. 187

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Another question is whether events following the unlawful act can be taken into account in determining compensation. 188 On the ‘damages’ concept (Chorzow, ‘subjective’), all the events up to the award should be taken into account, irrespective of whether they reduce or increase the value. An exception, however, should be made for unlawful conduct by the state, which should be disregarded. With the ‘compensation for expropriation’ perspective, however, it would seem that it is the value at the time of the injurious act which is relevant, perhaps on the analogy that a direct or indirect expropriation ‘simulated’ a buy-out by the government and that the obligation to pay compensation crystallized on the date when the taking becomes effective, indirectly or directly. This value should then only be updated by the appropriate interest rate. 189 This approach has the advantage that subsequent events—over which the investor/owner has no longer any influence—can be disregarded.

(b) Compensation-reducing Elements

During the NIEO era, compensation under national law (and claimed for international law as well) was sometimes reduced because of the ‘excessive profits’ the investor is alleged to have been making. 190 There was an older then official British Foreign Office theory according to which the investor was responsible for political risk itself, without right to compensation if the risk materialized. 191 That doctrine seems to be re-emerging under the ‘caveat investor’ principle. The argument continues to be made by respondent states. The normal response is that investment treaties are meant precisely to reduce that risk and provide protection in high-risk countries.

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On the other hand, under the principles of contributory negligence 192 and damage mitigation, 193 tribunals have felt entitled to substantially reduce compensation 194 if they considered that the investor contributed substantially to risk or damage and did not apply professional due diligence. 195 This can lead to difficult questions about the extent of a duty to redeploy investment and efforts if it becomes clear a contract can no longer be implemented due to a host-state economic crisis, insurmountable political opposition, or governmental repudiation. There is also the risk that renegotiation, under pressure, may be required both as damage mitigation, but then later claimed by the host country to amount to a voluntary acceptance of change, that is, a waiver or forfeiture of its contract or other (fiscal, administrative) rights. 196 The duty to minimize damage in principle only arises after the breach has occurred; issues of risk management before such an event should be primarily factored into the determination of the appropriate risk-adjusted discount rate for valuation purposes. Damage mitigation by the claimant may thus require a re-adjustment (which should be done under protest) of investor rights, a re-deployment of the investment and investor efforts, and abstention from continuation of investment efforts which clearly no longer make any economic sense. 197

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Reisman and Sloane note correctly 198 that ‘depreciation of the investment's value may be caused by a complex series of interactions between failures of the host state to fulfil its obligation … and misjudgements of the investor or exogenous market factors’. Foreign investors may misunderstand government actions, provoke political resentment, or not do enough to manage it effectively. Virtually every investment dispute indicates what with hindsight can be qualified as a risk management failure. The dilemma for the tribunal to solve is when such management failures exceed what could be termed ‘normal’ and ‘expected’ and acquire such gravity that they trigger the application of the damage mitigation concept. 199 This concept, together with equitable considerations, grants the tribunal discretion which is hard to control with objective criteria. 200 The question seems so far not to have been resolved nor even properly identified and examined if damage mitigation requires full use of domestic remedies; 201 the issue of exhaustion of domestic remedies (long believed to have been excised from modern investment treaty arbitration) can thus re-surface not only with respect to admissibility, 202 but also in the context of the determination of the compensation due. The principle should probably follow a ‘rule of reason’: reasonable, practically and easily available domestic remedies do have to be used to mitigate damages, but that should be within a relatively wide ‘margin of appreciation’ for the claimant. 203 The mitigation principle should also not be used to bring in through the back door the principle of exhaustion of domestic remedies when the treaties have clearly excluded it.

While the NIEO doctrine of ‘excessive profits’ has not been heard of recently, 204 governments continuously raise ‘counter-claims’ to reject or at least diminish the compensation obligation. 205 Counterclaims may be raised based upon the violations of a host state's tax laws. 206 Or they may be based upon an investor's alleged breach

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of domestic safety, employment, and environmental laws, which would render him liable to pay penalties which can be offset against the compensation due. If the issue is inextricably linked with the compensation issue and if the government raises it in the context of the investment dispute, the tribunal should normally have jurisdiction 207 to consider such counter claims, at least if they are apt to reduce the compensation due.

Another question in this context is whether the manifest inability of a state to pay justifies reducing the compensation due. There is a general principle of the law of obligations according to which the capacity to pay has no relevance for the validity of an obligation. But this rule operates in conjunction with bankruptcy law where private debt is erased, an option that is not available to states. 208 There have been voices in the literature both for and against the proposition. 209 Tribunals have rarely dealt with the matter head-on, though, as Seidl-Hohenveldern suggests, they may have used their large discretionary powers to implicitly adapt compensation to payment capacity in order to render an award that gets enforced rather than an award that cannot be enforced. 210 The recent CMS v Argentina award and also a judgment by the European Court of Human Rights suggest that extraordinary circumstances should have an influence either on the scope of the substantive obligation or at least on the compensation payable. 211 It remains to be seen how

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these issues will be litigated and decided in the currently ongoing Argentine ICSID cases. 212

A final delimiter of compensation is the concept of ‘unjust enrichment’. 213 But it is in essence nothing but a secondary control mechanism to ensure that compensation does not lead to ‘double’ or ‘excess recovery’. If the claimant is better off after the award—for example, by swapping a risk-exposed to a risk-free investment of an equivalent character, that can be qualified as unjust enrichment. But it is simply a matter of an inappropriate determination of the compensation. The principle serves thus as a last check to corroborate a result reached using other methodologies.

(c) Compensation-enhancing Elements

The reverse mirror of the debate of compensation-reducing elements is the debate about compensation-enhancing elements. The issues here are primarily: whether compensation should be higher than normal in the case of an unlawful expropriation; 214 if the breach of a stabilization clause in the course of an expropriation requires or justifies a higher compensation; and if the compensation determination

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should or could include punitive elements. 215 That is related to the question of whether compensation should (and normally will) be higher in cases of ‘egregious’ breaches.

The consensus in the literature is that one should start with the principle that compensation expresses the market value of the asset before the taking, with the legality of the taking having no influence on such market value. However, the various statements usually proffer a loophole for taking into account government conduct that is unlawful beyond the mere fact of not offering full compensation. 216

With respect to the impact of a stabilization clause on the amount of compensation, 217 the current view seems to be that stabilization clauses should be interpreted cautiously in terms of restricting government powers of expropriation; if they do, however, prohibit expropriation, then damages could be assessed by awarding the larger of a sum calculated based upon an expropriation-compensation analysis and one based upon a contractual damages model, if they diverge. One way to give effect to such an interpretative intention is to conceptualize the breach of a stabilization clause as a breach of the investor's legitimate expectation, which has been relied upon by tribunals to define the damages due. 218

While the commercial arbitration approach will probably tend to disregard the egregiousness of a breach, the international law and in particular the comparative administrative law approaches seem rather to suggest that ‘egregiousness’—of the breach and of the weight of the rule in protecting the investor plays a role in

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assessing damages in a less ‘mathematical’ or quasi-scientific way than the ‘differential’ method applied in commercial contract breaches.

(d) Direct and Derivative Damage—Multiple Damages Claims

A novel issue in the damages discussion is the relationship between damages due to a subsidiary incorporated in the host state with that due to its foreign parent. This is sometimes described as ‘indirect’ damages—suffered by the foreign parent—versus ‘direct’ damages—suffered by the domestic subsidiary. 219 The main question is whether a corporate parent can recover all the damages suffered by its subsidiary. The classic case on the extent of shareholder rights under international law was the decision of the ICJ in the Barcelona Traction case, which did not allow diplomatic protection for such ‘indirect shareholder’ rights. 220 The ICJ later took a more favourable position in ELSI by recognizing the right of the USA to espouse the claim by its nationals for protection of their shares in the two Italian companies. This gap in international law has currently been filled by the conclusion of thousands of BITs, most of which recognize shareholders' rights mainly by a ‘wide definition’ of investment. 221

Respondents, in particular Argentina, 222 have argued that this expansion of the ‘investment’ concept does not mean that indirect (‘derivative’) damages to shareholders can be covered. But tribunals, so far, have, without exception, determined that the treaties cover both government conduct that directly and formally affects shareholder rights, but also such conduct that affects directly only the rights of the subsidiary. 223

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The question of direct versus derivative damages reveals a rift between the two approaches: the corporate law approach, where a company's separate legal personality (and limited liability) is respected except in a very few egregious cases of abuse (‘piercing the corporate veil’) versus the investment law approach, where arguably the focus is on the foreign investor and where an ‘economic identity’ 224 between the foreign parent and the domestic subsidiary can be more easily assumed to exist, at least in terms of damages.

The relatively extensive investment arbitration jurisprudence, however, does not solve some of the practical problems associated with the right of shareholders to recover indirect damages. In fact, the current state of the law would leave the state parties to investment treaties to face a multitude of claimants, including both full or partially owning parents as well as an indefinite number of subsidiaries—possibly with minimal interest—the identity of which could not be foreseen. In order to deal with this situation, it is essential to set a ‘cut-off (ownership) point’ 225 and perhaps also require a ‘sufficiently direct’ relationship between the shareholding and the damage suffered by the subsidiary to serve as an upstream filter protecting the host state against manifestly unpredictable investors. 226 A minimum shareholding of 10 per cent—often used in corporate law as a threshold—and knowledge or at least the reasonable possibility of knowledge, on the part of the host state, of the identity of the investor could be useful criteria in this respect.

Other issues that should be considered in the future are the possibility of multiple arbitrations against a given host state by different-level members of the same group of companies. The question here is whether these should not be consolidated and controlled under quasi-bankruptcy principles and coordinated in terms of damage assessment.

The second issue is how the damage to the subsidiary relates to the damage situation with the parent. The corporate law approach will tend to emphasize the legal independence of the subsidiary and suggest that damage does not need to be identical between parent and subsidiary (eg due to factors such as local costs and

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taxes). 227 The Nykomb v Latvia tribunal, without any clear reasoning, awarded to the foreign investor full payment of the double co-generation tariff owed to the domestic subsidiary for the future, but only one-third of the underpayment not made in the past. 228 In Azurix v Argentina , the tribunal did not allow the parent to recover the amount of the unpaid bills owed to its subsidiary. 229

Considering all aspects, it seems correct to apply rather a standardized approach to ‘economic identity’ and to presume, without detailed counter-proof, that the subsidiary's harm is economically equivalent to the harm suffered, and to be compensated, by the foreign owner pro rata commensurate with its share ownership. The issue of damage claims (and other remedies' claims) by multiple and parallel proceeding has not been analysed in great depth so far. Current rules and procedures do provide considerable leeway for parallel proceedings for what could be termed a not-identical dispute in legal and formal terms, but identical or highly similar in economic and factual terms. 230 Coordination must therefore take place on the level of remedies and compensation; financial compensation in one award must take into account compensation already paid, or possibly to be paid, in other awards (eg by use of contingent damage awards); non-compensatory remedies which reduce damages suffered have also to be taken into account when designing the compensation award.

(7) Role of Equitable Circumstances