Author: Yuliya Atamanova
During the full-scale war waged by the Russian Federation against Ukraine on 24th of February 2022 the invader used a new insidious tactic – to attack electricity infrastructure objects directly in order to put Ukraine in the dark, to cause blackouts all around the country and to make it impossible to operate for the Ukrainian economy.
However, the Ukrainian energy sector suffered from the Russian invasion into Ukraine even earlier. In the period between 2014 and 2022 Russian-controlled troops of so-called Donetsk and Lugansk people’s republics expropriated assets of power generation and distribution companies located on the territory under their control. The most remarkable examples are Starobeshiv and Zuiv TPPs, Novoazovsk Wind Park, and distribution grids belonging to Lugansk and Donetsk regional utilities.
Starting from February 24th 2022, the volume of damages and losses of the Ukrainian energy industry has increased dramatically. Russian forces have occupied a significant share of power generation facilities including 6 GW Zaporizka NPP and three major TPPs (Luganska, Vuglehirska and Zaporizka) with a total installed capacity of 7.7 GW. In addition to that, 25% of renewable energy facilities including 80% of wind powerplants became occupied, damaged or destroyed. Transmission and distribution electric facilities were also subject to permanent shelling. Since October 2022, Russia has made 245 strikes at 112 energy facilities. Due to Russian targeted attacks on transmission system infrastructure, about 40% of controlled transmission substations were destroyed or damaged.
Some of the substations were attacked more than one time. Nowadays, more than 40 overhead lines and more than 20 substations with a voltage of 220– 750 kV are damaged or disconnected due to continuous attacks and hostilities. In addition, as of the beginning of January 2023, more than one thousand overhead lines (6-150 kV) and more than eight thousand transformers (6-150 kV) were damaged or disconnected due to continuous shelling and hostilities (not including power infrastructure disconnected due to emergencies).
The detailed overview of the damages caused by war to Ukrainian Electric Facilities is available here.
Despite the huge amount of loss resulting from the missile attacks that hit power plants in 2022, especially over the autumn 2022, the energy sector of Ukraine has restored the energy generation in amounts enough to provide the country with it without even for technical breaks by the mid-February 2023.
For legal analysis purposes, all damages caused to the Ukrainian energy sector by the Russian aggression might be classified in several main groups that reflect the difference in breaches of the investors’ (owners’) rights. They might be descried as follows: (a) loss of control over the assets on the territories of Donetsk and Lugansk National Republics since 2014; (b) destruction of assets caused by the military attacks after 24 February 2022; (c) looting of movable assets by military Russian forces and civilians after 24 February 2022; (d) denial of access and loss of control over the assets caused, as initial and the main reason, by impossibility for Ukrainians to stay at their homes during hostilities and to keep providing business activity on the territories under the Russian control; (e) expropriation or other form of changing ownership without consent of Ukrainian and foreign owners that in some cases accompanied by issuing by the local authorities orders about compulsory withdrawal of the assets, establishing new state entities and transferring the property right to them.
It won’t be exaggeration to say that the next issue of discussion on official and professional levels after the post-war reconstruction of Ukrainian economy is ways for recovery for damages inflicted by Russian aggression. We all remember the arbitrations on the expropriation of the Ukrainian assets in Crimea that were successful for investors. Their results inspire and convince that investment arbitration is a powerful mechanism for holding the state accountable for violations to property rights of investors even in situation of invasion and unlawful changes of the boundaries between states.
However, despite all positive outcomes and lessons from them, their approaches might be followed regarding the compensation for expropriated assets but cannot cover all of the said above damages suffered by Ukrainian and other foreign investors. Russia managed to annex Crimea in 2014 without providing a military operation, any hostilities and using of the missile attacks and other types of weapons. As a consequence of this, civilians and business which had property there did not suffer from their disruptions but rather lost their assets when they refused to obtain a Russian citizenship or residency.
In the current situation the expropriation basis for compensation under the BIT in investment arbitration might be applied for some cases but does not cover other types of loss which are attributive to the ongoing war in Ukraine. It is significant that the obligations of investment treaties are not considered to be suspended in times of war. Even more, they provide for additional protections during the military conflicts, hostilities and civil strives through the obligation of full protection and security (“FPS”) and war clauses.
It might be expected that war clauses should grant the maximum protection and support to the investors who suffer from the military attacks and actions of the military forces. However, in most cases war clauses only provide the guarantee for the protection not less than that accorded to investors of any third state or/and nationals of the hosting state. These approaches are known as a most favourable nation regime and national treatment regime. However, war clauses with any of them do not envisage for investors the direct right for compensation for damage caused by the hostilities that make it inefficient in application alone.
A unique example of the fruitful application of a war clause was given in the case of Asian Agricultural Products Ltd. v. Republic of Sri Lanka, ICSID Case No. ARB/87/3. In this case, the tribunal granted compensation for loss incurred by the governmental forces to the shrimp farm due to the allegation that rebuttal troops were staying there. The claimant relied on two articles of the UK-Sri Lanka BIT: Full Protection and Security (Article 2) and Losses Sustained Due to an Insurrection (Article 4).
The tribunal dismissed the AAPL’s claim under Article 2 stating that the ‘full protection and security’ standard could not be interpreted as creating ‘strict liability’ of the hosting state for any destruction of investments. For triggering these provisions, as the tribunal determined in the award, the claimant needs to prove that the damages suffered were attributable to the State or its agents, and to establish state’s responsibility for not acting with ‘due diligence’ (paras.45-53).
However, the tribunal held that Article 4(1) of the UK-Sri Lanka BIT was applicable in this case because it provided for compensation to be paid to investors who suffered losses as a result of property destruction which occurred as a consequence of ‘war or other armed conflict, revolution, a state of national emergency, revolt, insurrection or riot’. At the same time, the difficulty was that Article 4(1) did not include any substantive standard of compensation and referred to no less favourable terms than the host state accorded to its own nationals, or to companies or nationals of a third state.
The Tribunal granted the decision in favour of the Claimant but not a big amount justifying on basis of ‘generally accepted rule of International Law’ but not naming them.
Against this background, the war clause under the Energy Chapter Treaty (ECT) stands out amongst most of the war clauses under the international investment treaties including substantive standard of compensation and entitling investors for prompt, adequate and effective compensation. Article 12 (2) of the ECT sets out that ‘an Investor of a Contracting Party which, in any of the situations referred to in that paragraph, suffers a loss in the Area of another Contracting Party resulting from (a) requisitioning of its Investment or part thereof by the latter’s forces or authorities; or (b) destruction of its Investment or part thereof by the latter’s forces or authorities, which was not required by the necessity of the situation, shall be accorded restitution or compensation which in either case shall be prompt, adequate and effective’.
All Crimea cases are based on the Russia-Ukraine BIT that establishes very limited war clause guarantying a regime for compensation war damages no less favourable than the one which the contracting state is granting to investors of any third state. In other words, the Russia-Ukrainian BIT even accompanied by application of fair equitable treatment (FET) clauses do not provide investors with a clear standard of compensation.
From these perspectives, one cannot underestimate the role and the meaning of Article 12 (2) of the ECT that can “unlock the gate” for getting compensation by investors of different states that entered into the BIT with Russia on limited war clauses.
Before going further with analysis of the application of the ECT for the purpose of paying compensation by Russia for the destroyed Ukrainians assets, it is worth clarifying the issue of application of the ECT to Russia in order to prevent concerns for such a possibility. Recalling the facts, Russia signed the ECT on 17th December, 1994. But it refused to ratify it agreeing only for provisional application of the treaty. However, due to the political reasons Russia terminated the ECT on 19th October, 2009.
In this context the sunset provision of the ECT gives the answer to the issue how the treaty ceases its regulation for the party which has terminated its application. As it sets up in Article 45 (3)(b) of the ECT, provisions of Parts III ‘Investment Promotion and Protection’ and V ‘Dispute Settlement’ with respect to any investments made in its area during such provisional application by investors shall nevertheless remain in effect with respect to those investments for twenty years following the effective date of termination.
Thus, despite the termination of the ECT, Russia still could be sued under its provisions for settlement of disputes regarding the investments made before the date of termination that is even evident from the Yukos arbitration cases against Russia carried out under the ECT.
However, from the very beginning the attention should be drawn to the main legal difficulty for application of the ECT for compensation damages inflicted by Russia’s war against Ukraine – the determination of territory of the contracting state. Article 1(1) of the ECT states that ‘area’ means with respect to a state that is a Contracting Party: (a) the territory under its sovereignty, it being understood that territory includes land, internal waters and the territorial sea; and (b) subject to and in accordance with the international law of the sea: the sea, sea-bed and its subsoil with regard to which that Contracting Party exercises sovereign rights and jurisdiction.
As it follows from the definition of area in Article 1(10) of the ECT the main criteria for establishing territory of the contracting party to the ECT is sovereignty that is the legal aspect of the state’s control over some territory. It is crucial to underline that the Russia-Ukraine BIT sets up another approach to the definition of the territory that is under Article 1(4) refers to the territory of the Russian Federation or the territory of the Ukraine and also their respective exclusive economic zone and the continental shelf as defined in conformity with the international law.
So, Russia-Ukraine BIT follows the wider approach to the territory without specifying the sovereignty as a necessary element for the recognition of the state’s area.
Due to the different political reasons, including wars, a state’s territory subjects to the changes corresponding to and reflecting the changes in the state’s power to govern and take control over it. None of the international investment treaty contains the geographical coordinates of the contracting parties otherwise they would not operate each time of boundaries’ changes. All treaties provide for legal definitions of territory or area, the meaning of which is to be interpreted in accordance with the purposes and background of each treaty.
The moving treaty frontier rule embodied in Article 29 of the Vienna Convention on the Law of Treaties stats that ‘unless a different intention appears from the treaty or is otherwise established, a treaty is binding upon each party in respect of its entire territory’. In other words, as a general rule the term ‘territory’ encompasses a state’s ‘entire territory’, including any territory over which a state exercises de facto control. Although, it is not complicated to determine new boundaries of a state once they have been established in international treaty and national laws, the real issue is to define them while such laws are not passed and treaty is not sighed or ratified, not saying about the situation when countries fight for the disputed or invaded territories.
Crimea cases have showed that a state’s territory is not fixed at the time the BIT was entered into and national investments can turn out to the international investments in case of change of a ‘nationality’ of a territory where they were made. But in these cases, tribunals regarded Russia’s public official declarations as to its relationship with Crimea not limiting themselves in establishing by de facto control only. The tribunal in Privat bank and Finilon v. Russia held that in determining when Russia became responsible for Crimea, ‘the critical consideration is likely to be an appreciation of settled, long-term control over the territory in question by the State whose responsibility is invoked under the Treaty’.
The tribunal turned down the argument ‘that the application of a BIT can be said to have been triggered by the presence of troops of one State on the territory of another, even if those troops are exercising effective de facto control over the territory in question’. It found that the relevant date was 21 March 2014, when ‘the Incorporation Law was in fact enacted by the Parliament of the Russian Federation, was signed by President Putin, and entered into force’.
In Aeroport Belbek v. Russia, Ukrnafta v. Russia, Stabil LLC v. Russia, Privatbank and Finilon v. Russia, Everest Estate v. Russia tribunals determined that Russia has established effective control over Crimea reasoning that its physical control coupled with legal steps to treat Crimea as part of its sovereign territory in its national law.
Accordingly, Crimea awards are based on determination of the effectiveness of the Russian occupation of the peninsular that covers not only physical but legal control over its territory even when the RussiaUkraine BIT does not envisage the sovereignty as the criteria for determination of an area.
Regarding the application of Article 1(10) of the ECT we have not found any case where the term ‘area’ was considered in the context of changed boundaries resulted of the armed conflict. Thus, the interpretation of an area under the ECT is to be done yet.
Taking in mind the sovereignty criteria, it is worth recalling its well-known definition, given in 1928 in the Island of Palmas arbitral award, according to which ‘sovereignty in the relations between States signifies independence. Independence in regard to a portion of the globe is the right to exercise therein, to the exclusion of any other State, the functions of a State’ [ Island of Palmas (Neth. v. U.S.), 2 RIAA 829, 838 (Perm. Ct. Arb. 1928)].
It follows that over the territory only one state can exercise its supreme political authority (legislative, judicial and executive) attributed to the sovereignty – two states cannot function on the same territory. Being the exclusive right, sovereignty means that no other state can have formal political authority within that state and territory.
From these perspectives, in order to hold Russia accountable and receive compensation from it for the destroyed assets under the ECT, one should not only take into account the official announcement by Russia about including the territories of four Ukrainian districts into the Russian Federation as their parts in the beginning of October, 2022, but also consider whether or not Ukraine could exercise its exclusive right of sovereignty over them before that time. In other words, de-facto control should not be limited only to assessment of the presence of foreign country troops in the territory of another country but one should explore whether their presence exclude the possibility to exercise the sovereignty rights by the latest one.
Without details – that are inherent in a case – it can be assumed that Ukraine could not exercise its supreme political authority on the occupied territories earlier than referendums held there in the end of September, 2022. So, there is a logical reason for the general assumption that not only legal official control over territories but also prior physical control over them should be assessed as a successive phase of establishing sovereignty.
However, after the official annexation of Ukrainian territories and including them into the federation, Russia obtained effective control over them and, thus, became responsible under the investment treaties obligations including the ECT.
Despite its uniqueness, Article 12(2) of the ECT was not invoked in any ECT arbitration that means the absence of any experience of its application. However, in December, 2022, GAR posted the news that Armenian hydropower investors had notified Azerbaijan of a potential ECT claim worth hundreds of millions of dollars, described as the first known investor-state dispute arising out of the Second NagornoKarabakh War of 2020. So, it may happen that the ECT war clause will be called up in coming years giving the new instrument for investors for getting compensation for destruction caused during the armed conflicts that are hardly to be received under BITs’ provisions.
Summarizing, it might be concluded that if the BITs provide Ukraine and investors with predictable instrument for recovery for damages caused by expropriation, the ECT war clause can give a real chance to hold Russia accountable for the enormous destruction it has inflicted by missiles attacks to the Ukrainian energy sector. Thus, there is a basis for belief that investment arbitration mechanisms contain legal tools and approaches necessary for receiving compensation for different loss caused by Russian invasion to the energy companies. Moreover, successful application of Article 12(2) of the ECT might then reveal new opportunities for investors in other industries for recovering their losses triggering the war clause in BITs.
The views expressed in this blog post are those of the author and not LIDW.