LawTeacher logo
LawTeacher The law essay professionals
0115 966 7966 Today's Opening Times 10:00 - 20:00 (BST)

This essay has been submitted by a law student. This is not an example of the work written by our professional essay writers.

Compensable Expropriation Of Foreign Investment

Each state government has the obligation to formulate policies which protect its sovereignty, market and consumers. However such policies may either directly or indirectly interfere in the foreign investments existing within the state. [1] Regulatory undertakings by host government which may affect foreign investments may include but not limited to pricing policies, export restrictions, tax and custom regulations, policies for the protection of basic services to the public such as high minimum wages and environmental regulations. [2] Do these regulatory measures imposed by the host government amount to compensable expropriation? This is a relatively established research question in international investment law and yet, it has mainly been answered by looking at some international investment law arbitration cases.

The proliferation of free trade agreements (FTA) among developed and developing countries across the world is accompanied by a rapid growth in international investments agreements. [3] While some of these investment agreements have been incorporated within FTA provisions, certain risks and dangers still remain abound, more especially those regarding cases of expropriation. [4] For foreign investors who export their capital to other countries, a key concern is the promise that such capital will be protected. Regardless of the strong stability of the host state, investors take into consideration cases of severe legislative and constitutional changes. [5] Host states on the other hand, in enacting free trade policies aim at attracting foreign investment influx and hence economic development. It has been argued that with the influx of such foreign investment, the host countries to an extent surrender part of their sovereignty. [6] 

However, host countries take various measures aimed at protecting its sovereignty among other interests. Such policies may interfere with foreign investments. Such interferences are legally proscribed, falling within the interpretation of expropriation or “takings". Expropriation may be direct or indirect. [7] Direct taking is a result of physical dispossession of property belonging to foreign investors. [8] The progressive expansion of the ‘taking’ concept is however one thing that has befuddled what constitutes foreign property taking with difficulty as prescribed within the international law. While policies which constitute direct taking are clearly defined, those which warrant indirect takings or “creeping expropriation" [9] remain unclear and inadequately defined. It has been argued that indirect undertakings concept is premised on the diminishment by the state, the interests and rights of foreign investment without affecting the ownership of such investments. This broad understanding has been cited as having the potential of covering actions of governments which include state legislations and regulations. The expansive definition accorded to the term ‘expropriation’ has in essence resulted in a surge of litigations being brought forth by investors against the host countries. Recent studies have shown increased number of such cases being presented to the International Centre for Settlement of investment disputes (ICSID) for arbitration. [10] The ‘act of state doctrine’ representing the sovereign power of states within its borders, in itself gives states the right to expropriate, [11] hence international law gives recognition to states acts to expropriate and these are represented in various domestic and international treaties.

It has been argued that the inclusion of the regulatory undertakings within FTA’s expropriation definition subjects government measures, policies, as well as state laws which have the potential of affecting foreign investment to be regarded as acts of expropriation. More profound was the Metalclad case [12] under the North American Free Trade Agreement (NAFTA) where the tribunal held that expropriation not only includes deliberate and acknowledged government takings but also expounds to cover covert or incidental interference regarding property usage whose effect may include deprivation of the owner wholesomely or partly which is of use to the owners economic benefits although not necessarily to the states benefit. [13] 

In general, expropriation cases arise from regulatory measures [14] implemented contrary to prior agreements and commitments and those regulations that go contrary to the provisions of bilateral, regional and international trade agreements. [15] Where a stabilization clause [16] exists within the contract, the state must be cautious in relation to breeching the clause as it may amount to a compensable expropriation. According to Article 2(c) of the 1974 Charter of the Economic Rights and Duties of states, ‘each state has the right to nationalise, expropriate or transfer ownership of a foreign property in which case appropriate compensation should be paid by the state.’ [17] According to the PCIJ, the state has the right to expropriate a foreign property but this act leads to an international obligation to compensate the investor. [18] In cases of breach of contract where a clause of an act of expropriation was included in the contract/treaty, the state may be liable for full payment of cost of investment including any damages caused. [19] 

The standards of compensation still remain very controversial in international investment law. States have different views regarding payment of compensation. For most developed countries the USA and the rest of the western world, compensation must be prompt, adequate and effective [20] (commonly known as the ‘Hull Formula’) as proposed by the United States

Secretary of State Cordell Hull in response to Mexico’s nationalisation of American petroleum companies in 1936. Whereas in many developing countries they maintain that compensation in certain situations such as mass nationalisation [21] , agricultural land reform and war, there must be an exception to compensation or subject to ‘appropriate compensation’. [22] In this quest, the ‘Hull formula’ appears very strict and restrictive whereas the idea of ‘appropriate compensation’ leaves room for the analysis of the expropriation case in question. Even though appropriate compensation has its own ambiguity problem of what will be deemed as appropriate compensation, [23] it was widely used, more profoundly by the UN general assembly. [24] This notwithstanding, many other international Treaties contain provisions for compensation. For instance according to the ILC articles on state responsibility, states are obliged to pay for compensation for damages caused to private properties. World Bank Guidelines on Treatment of foreign direct investments [25] also contain clauses on compensation.


As mentioned earlier, some government’s regulatory measures may result in accusations of having the effect of compensable expropriation of foreign investment. Such cases have ended up into litigations subjected to arbitration by regional or international regulatory bodies.

There is a general view held with respect to what constitutes a legal right to expropriation by a state in the international legal system that the expropriation must be for public purpose, non-discriminatory, in due process and most of all must be followed by compensation. [26] 

One major factor which possibly may represent international customary Law [27] and hence states dwell on in the justification of an expropriation act is that of public interest which includes but not limited to national security, public health, environmental hazards and exercises of police power. [28] This may be so primarily because International law does not give any specifications for what constitutes public purpose, which implies that is solely left to the discretion of the state, but this act must be a Justifiable purpose, that is in good faith with evidence and backed by public support. A good example may be seen in the position of the tribunal on the ADC Affiliate Limited and ADC & ADMC Management Limited v The Republic of Hungary case [29] , which involved the expropriation of the expropriation of the Budapest-Ferihegy international airport by the Hungarian government, claiming that it was done for ‘public purpose’ but the tribunal opined that

...a treaty requirement for ‘public interest’ requires some genuine interest of the public. If mere reference to ‘public interest’ can magically put such interest into existence and therefore satisfy this requirement, then this requirement would be rendered meaningless since the tribunal can imagine no situation where requirements would not have been met... [30] 

In the Methanex case, [31] a Canadian company, known as Methanex sought compensation from the government of California for its enforcement of a ban on Methyl Tertiary Butyl Ether (MTBE), a fuel additive. In the claim of the Californian government, they argued that the decision was meant to protect domestic ethanol producers rather than being a legitimate environmental measure. [32] This case is representative of the fact that government regulatory measures regarding environment protection has resulted in the appropriate compensable investment expropriation. However in this case, the tribunal noted that the provisions of the international law regarding non-discriminatory practices by governments aimed at public protection and formulated within the due process of the law could not be deemed appropriate except in such instances that the relevant state authorities had made prior commitment to the foreign investor that it would refrain from passing of such legislation. [33] The tribunal on this basis noted that Methanex’ entrance into the US was not a result of any special assurance by the US or Californian governments regarding future stability of regulatory environment. In addition, it was noted that the company had entered the market knowing very well that the federal and state levels of governance within the US monitored use and effect of chemical compounds and was notorious for its prohibition of some compounds based on environmental and health reasons.

In summary, this case can be said to have laid out the circumstances which may warrant compensable expropriation claims by the Canadian company as including, the interference in the regular operations of methanex by the government of California in a form of implementing such environmental or health policies and a consequent renege by the government of California regarding the pledge it had earlier made thus affecting the operations of the firm in question. This case is however interesting because, methanex lost to the California government due to the enormous public support gained by the government of California. Thus in the Final Award, Part IV, Chapter D, Para 7 the tribunal held as follows:

... But as a matter of general international law, a non-discriminatory regulation for a public purpose, which is enacted in accordance with due process and, which affects, inter alios, a foreign investor or investment is not deemed expropriatory and compensatory...

The decisions in the cases arising from Canada’s manganese-based fuels additive act of 1997 has raised questions regarding the future standing of whether such acts constituting government interference in various areas of public interests, like, in land use planning, health and zoning issues could be classified as being compensable expropriation acts. In one such case, the Canadian government was forced to withdraw MMT (a gasoline additive) from the acts schedule after being sued by Ethyl Corporation’s Canadian affiliate and in addition, pay the corporation a settlement for the acts of inconsistency. It was concluded that only after research was conducted regarding MMT related products that, the substance (manganese) contained in the MMT has effects on the environment and health could the Canadian government bring such action on the basis of the Canadian environmental act. It was thus held that the act was inconsistent with international investment agreement (IIA) provisions. This case could simply be interpreted to mean that compensable expropriation claims could also arise from the relevant governments passing of legislation which contradict the provisions of regional or international free trade treaties. [34] 

The case of Antoine Goetz and Others v. Republic of Burundi [35] is a significant case where the government of Burundi reneged on its pledge. In the case the Burundian government had made a commitment to a Belgian investment group AFFIMET, regarding tax and customs exemptions for the enterprise they were to set in Burundi dealing with precious metals. However, later in 1995, the Burundian government reneged on the promise by contending that companies dealing in extraction and sale of ore were subject to paying taxes and custom duties. The tribunal handling the case (ICSID) held that the act by the government of Burundi was tantamount to a ‘compensable expropriation.’ the case defines another key government regulatory/legislative area where a government’s action may be interpreted to constitute a compensable expropriation action. This is the custom and tax regulation measures. Similar to environmental laws, such an action is considered to constitute a compensable expropriate action if the government of Burundi reneges on an earlier promise regarding the same that it had made. Also, when such a case constitute a violation of regional or international free trade agreements then it qualifies to be considered expropriation and hence, compensable.

Discriminatory government regulations have also been considered tantamount to expropriation actions. This indicates that enterprises of foreign nationals should be given equivalent treatment as nationals of that state [36] . This also applies to third party nationals. All investors, regardless of nationality must be given the same sort of treatment by the host state (principle of Most Favoured Nation), e.g. in the screening of entry of investors and obtaining licence where required. International law permits states to make qualifications regarding discrimination. In situations where discrimination is inevitable (general exceptions such as maintenance of public health and protection of national security; specific exceptions including taxation; and state specific such as specific industry, and financial services), the state must have laws that regulate these discriminations. The Organisation for Economic Co-peration and Development (OECD) declaration on international investment and multinational enterprises requires that states notify their exceptions to national treatment. Such is witnessed in the Occidental V. Ecuador case. [37] In this case the tax department of the Ecuador government denied reimbursement applications of Occidental Petroleum Corporation (OPC), a US based oil firm demanding that instead all the oil firms reimburse the amount that had been paid to them on the basis that the tax reimbursement had already been accounted for in formulating their various contracts. The case [38] was put forward to the ICSID and it held that the action of the Ecuadorian government was discriminatory compared to other sectors and in violation of the Ecuador-United States bilateral investment treaty (BIT) which was concluded in 1993 and entered into force since 1997, hence it amounted to an expropriation and compensable action. The case in effect offers circumstances which might lead to expropriation and compensable actions as including regulations that are applied in a discriminatory manner across the business sectors within the economy. Further, when such rules fail to meet the set out international regional treaties then the expropriate action qualifies to be considered compensable.

In the case involving Eureko v Poland, [39] Eureko felt discriminated in favour of the Polish nationals as the state acted to keep the health insurance under the polish control. Initially, the public health insurance system in Poland was state owned, however in 1999, the polish government sold 30% to Eureko, the biggest private health insurance company in the central and eastern Europe. In 2001, the Polish government proposed to ‘float’ the company’s stock exchange which manifested that Eureko will gain most shares and hence majority control of the project. Due to this, the government of Poland refused to sell more shares to Eureko which resulted in Eureko claiming compensation through the Netherlands-Poland BIT’s on the grounds of discrimination. In this case, though the polish government did not take away the insurance company from Eureko, they imposed measures which prevented the progress of Eureko in favour of the polish Nationals which represented an illegal interference and therefore compensable. Expropriation is the most severe form of property interference and therefore there must be some form of control on expropriation actions by states.

The fulfilment of treaty/contract obligations is very important in international investment Law. [40] States must endeavour to adhere to the provisions of the investment contracts. This for instance is highly recommended by the United States and France in signing bilateral investment treaties. Where a breech has occurred there must be an agreement between the state and the investor.

With regards to the case involving CMS gas transmission V. argentine government, [41] the government had set out emergency regulatory measures aimed at curbing the emerging financial crisis within the economy. This included the loosening of the strength held by the Argentine Peso against the US dollar. In the ensuing case, [42] CMS and other foreign investors noted that their income payments were paid using devalued pesos resulting into losses as they could not make price increment recourse to counter their losses. Argentina government on the other hand held that permitting utility rates to soar would be impracticable and thus it could not do the same in a bid to appease investors more so taking note of the increasing social unrest and unemployment. The ensuing action brought to the attention of the Argentine-US BIT in its ruling held that the act was in violation of provisions of the agreement specifically noting the provision for equitable and fair treatment [43] to be accorded to foreign investors. [44] The case highlights compensable expropriation actions as being able to arise from emergency measures taken by states to protect themselves from emerging issues including economic inflations. This case highlights the susceptibility of developing countries to such litigations as a result of the policies they take to save their emerging economies.

From the discussion so far, it may sound as if compensable expropriation works to the disadvantage of the regulatory measures set forth by states and hence a threat to the states sovereignty. However cases of compensable expropriation of foreign investment must not be misconstrued to be under protection of international treaties only. Many states use statutory law in allocating expropriation powers and principles governing expropriation. In some states, the protection of property rights is encoded in the constitution of the state. E.g. USA, Poland, Israel, Germany, Sweden, whereas some countries they rely on regional and international treaties. The UK for instance maintains the special provisions in the European Convention on Human Rights. Non compliance with local law or the failure to make provision for a legal order to address state expropriation acts may lead to illegal expropriation. Various countries also possess legislations under which such proceedings may be brought forth. Several governments in the implementation of its regulatory measures may find themselves infringing the very provisions of its own legislations. The fifth amendment of the US constitution as cited in the Lochner v. New York case [45] protects taking over of private property for public use without due compensation. Within the law takings are said to have occurred in instances where government is bound to obtain some level of benefit as it pursues the implementation of the public project, the governments are bestowed by a unique authority of regulation in the interest of the public need to be exercised responsibly.

The case of Pennsylvania Coal Co. v. Mahon [46] changed the perception that compensable expropriation actions only resulted from direct property appropriation by the government. The case [47] while acknowledging the need by the government to regulate property, also noted that when such an act is overdone it amounts to expropriation and compensable actions. This perspective addresses the regulatory measures that individual governments may enforce to an extent in which it exceeds limit and in turn violates the very same legislation that mandates. Compensable expropriation actions can thus be described to result from government regulations and practices that go against its own legislations. The case additionally expounds the cases of expropriation actions to an extent which is not only beyond the earlier traditional direct takings but also going further to recognize cases that may indirectly have the effect of being considered as a compensable expropriation.

The 2007 case of World Duty Free Company Ltd. v The Republic of Kenya [48] enlightens an important aspect as to whether agreements resulting from bribery actions could be considered under the compensable expropriation of foreign investments when parties to such agreements renege on the process. In the case it was held that such acts were illegal both in the Kenyan and the English law and this agreement was invalid and had no legal standing within both countries legal structures. [49] The case involved a one Mr Nasir Ibrahim Ali who claimed that the Kenyan government had reneged on its pledge by expropriating his interest in world duty free company(house of perfume) [50] but an inquiry into the case indicated that Mr Ali had paid bribe to the then Kenyan President in order to acquire the contract in the first place. [51] 


As revealed by the cases discussed above, expropriation of foreign investment may arise from a variety of regulatory measures employed by the respective governments. Most significant case that has not come into any arbitration is the Zimbabwean cases [52] where private individual property have been directly taken over by the Zimbabwean government under the rule of the tyrannical leader, Robert Mugabe. The policies used in these cases are out-rightly a direct description of the government policies that led to such actions. [53] However, this is not the focus here per se; the focus instead is the effect of a government implementing such policies contrary to provisions of international trade agreements. The resultant effect in Zimbabwe is evident arising from the sanctions that accompany such policies. Such regulations, when not implemented fully result into sanctions which have the unique ability of crippling a countries economy.

Of a raising concern is the effect such actions may have especially on developing countries. For instance tax and customs regulations measures that these countries may be obliged to take to save their ailing economies, may subject them to heavy fines as a result of such compensable expropriation of foreign investments. [54] A typical representation of this scenario as seen is the measure taken by Argentina which was genuine and intended to protect its citizens from the high inflation rates; however the binding bilateral trade agreements failed to recognize this need instead focusing on the violation of the contract. [55] Additionally, cases where the relevant governments have to appoint managers for the sake of either saving the company, protect public interest among others may be interpreted as a ‘taking’ action. As occurred in Iran following the Islamic revolution in the Iran-US claims where the government of Iran appointed management for the US owned companies. [56] This could have the impact of limiting the tools available for the relevant governments to intervene when it deems it appropriate.

The limitations that a government may have in solving an emergency situation which was not foreseen at the time of making a commitment to a foreign firm [57] is another area of major concern in relation to compensable expropriation. While such issues may be of great national importance arising from emergency situations like change in economic, social or political climate, the relevant governments might still find themselves in a situation of making payments based on the earlier commitments regardless of the current prevailing circumstances. For instance the ‘takings’ case of 1998, namely Eastern Enterprises V. APFEL, [58] revealed the impediment that the takings Clause could have on social regulation acts by ruling that the statutory requirement that the former coal producers had to pay health benefits to retired miners was qualified for consideration as a taking representing a broad interpretation of the Takings Clause. [59] 


The general discussions put forth reveals that indeed host government regulations have an impact of resulting into compensable expropriation of foreign investment. Such regulations as mentioned may include environmental regulations as cited in the Methanex v. US government case [60] where the regulations put forth was based on environmental protection but still the mentioned company found grounds to sue for compensable expropriation though unsuccessfully. In addition such cases may arise from emergency measures put forth by the governments to salvage emergency situations which may include changing economic situations as in the Argentina case. [61] Taxation and custom law implementation may also result into measures considered a violation of equity within the market hence resulting into expropriation cases.

Although there has been some inconsistencies in what constitutes compensable expropriation in the cases discussed above as a result of the difficulty in ascertaining when a regulatory measure has amounted to a compensable expropriation due to the states claims in the affirmation of public interest, it can be seen that the conclusions and awards of compensation has followed a pattern of the degree of the interference on the part of the investor but not ignoring the nature [62] of the governmental measures.

Whiles expropriation and regulatory measures by the host state is seen as a sovereign right of states, the question as to whether it is an absolute right still remains in the international Legal system.

To export a reference to this article please select a referencing style below:

Reference Copied to Clipboard.
Reference Copied to Clipboard.
Reference Copied to Clipboard.
Reference Copied to Clipboard.
Reference Copied to Clipboard.
Reference Copied to Clipboard.
Reference Copied to Clipboard.

Request Removal

If you are the original writer of this essay and no longer wish to have the essay published on the Law Teacher website then please click on the link below to request removal:

More from Law Teacher