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Part V The International Law of Foreign Investment, XXXII Customary International Law

From: Principles of International Economic Law (2nd Edition)

Matthias Herdegen

From: Oxford Public International Law (http://opil.ouplaw.com). (c) Oxford University Press, 2023. All Rights Reserved. Subscriber: null; date: 08 June 2023

Corporations — International investment law — International monetary law — Standards of treatment — Customary international law

(p. 411) XXXII  Customary International Law

1.  Customary Standards and Foreign Investment

Rules relating to foreign international investments under customary law are rather rudimentary. Modern international investment law is clearly dominated by treaties, although treaty clauses are often meant to reflect or clarify customary standards. Under customary international law, States are free to decide whether or not they permit foreign investments within their territory. The freedom to exclude any form of foreign investment also implies that States may set their own conditions for the admission of foreign investments.1 Once admitted and established, foreign investment enjoys some basic protection under the customary standard, especially in case of expropriation. In international law, any obligation of the host States as to admission, national treatment, or most-favoured-nation treatment derives from treaty law. Human rights, both under customary law and treaties, also provide some protection for foreign investors, for example in judicial proceedings. Among the customary rules on the treatment of foreigners (set out in greater detail above),2 the most important is the so-called ‘international minimum standard’, which ensures treatment of foreign persons in terms of decency and grants them some degree of protection.3 The international minimum standard overlaps with the standards of ‘fair and equitable treatment’ and of ‘full protection and security’ contained in modern investment treaties. The exact relationship between these two standards remains a controversial issue, unless it is clarified by the specific terms of a treaty or an interpretation by treaty bodies.4

Whilst some equate these treaty-based standards to the minimum standard, others understand them as distinct in scope. One of the areas in which customary law plays a major role pertains to the conditions for lawful expropriation.5

(p. 412) 2.  Expropriation and Compensation

(a)  The conditions for lawful expropriation under customary international law

The taking of property by a State, like any other exercise of regulatory powers, requires a territorial or personal nexus with the expropriating State. In principle, every State may expropriate any property situated within its own borders.6 The concept of ‘expropriation’ covers any deprivation of property rights.

The term ‘property’ in customary international law includes all alienable rights of private persons which have a market value, for example title to real and movable property, claims to payment, company shares, and intellectual property rights. Property in this sense also covers the ‘goodwill’ of a company, that is all business connections which affect the market value of the company and its market position.7 The term ‘property’, however, does not cover purely volatile expectations and chances on the market.8

Expropriation may also be constituted by severe legal restrictions on the use which affect the core of property rights (‘regulatory taking’) or de facto interferences having a similar effect. The term ‘nationalization’ is often used to refer to expropriations of an entire sector (like the banking sector or the mining industry).9 Expropriations without compensation are often referred to as ‘confiscations’.10

As regards the expropriation of a State’s own nationals, States, in principle, enjoy a broad margin of appreciation. Under constitutional law, expropriations must conform with fundamental rights to property including due (‘just’ or ‘adequate’) compensation; examples may be found in the Fifth Amendment to the US Constitution or Article 14 of the German Constitution. In addition, human rights treaties may also protect private property. Article 1 of the First Protocol to the European Convention on Human Rights provides:

Every natural or legal person is entitled to the peaceful enjoyment of his possessions. No one shall be deprived of his possessions except in the public interest and subject to the conditions provided for by law and by the general principles of international law.

The preceding provisions shall not, however, in any way impair the right of a State to enforce such laws as it deems necessary to control the use of property in accordance with the general interest or to secure the payment of taxes or other contributions or penalties.

The European Court of Human Rights interprets the reference to general principles of international law in Article 1(1) of the Protocol as referring only to the (p. 413) expropriation of foreigners. In the case of the expropriation of the State’s own nationals, the Court derives the right to compensation from the principle of proportionality; an expropriation without due compensation amounts to an excessive sacrifice of the expropriated individual in the public interest.11 The case-law of the Court accords a broad margin of appreciation to the Contracting States as to the terms of compensation, in particular in the case of nationalization of entire industry sectors.12

In EU law, the protection of property is part of the general principles of law which the European Court of Justice has developed on the basis of the European Convention on Human Rights and the different national constitutional traditions of EU Member States.13 The Charter of Fundamental Rights of the European Union14 guarantees the right to property and provides in Article 17 second sentence that

no one may be deprived of his or her possessions, except in the public interest and in the cases and under the conditions provided for by law, subject to fair compensation being paid in good time for their loss. The use of property may be regulated by law in so far as is necessary for the general interest.

According to Article 17(2) of the Charter ‘intellectual property shall be protected’. The human right to property, as already recognized in the Universal Declaration of Human Rights (Article 17), is about to emerge as part of international customary law.

Under customary law, the ‘international minimum standard’ conditions the expropriation of foreigners. The reason for the special protection of non-nationals by international law lies in the fact that—in contrast to nationals—foreigners are usually excluded from the political process and from the political community which benefits from expropriations in the public interest; the payment of a due compensation re-establishes the proper balance of the private foreign interest and the interest of the public.15

According to the international minimum standard, the expropriation of foreigners must fulfil three conditions: it must serve a public purpose, it must be (p. 414) non-discriminatory, and due compensation must be paid.16 International case-law has mainly focused on the issue of proper compensation.

(b)  Elements of expropriation

An expropriation, which calls for compensation, may take forms other than straightforward deprivation of property. Severe restrictions on the use of the property may also amount to expropriation, if they essentially destroy the economic functions of the property or otherwise substantially affect its value. Examples are the cancellation of the permit to operate a power plant or a production site or the imposition of conditions which render an operation unprofitable. Common usage refers to these forms of interferences as ‘de facto expropriation’ or, if this process involves a gradual erosion of property rights over a long period of time, as ‘creeping expropriation’. Another term used in this context is ‘indirect expropriation’ (a term which may also refer to the taking of company shares as opposed to direct expropriation of the company).17 De facto expropriations are characterized by the erosion of the owner’s legal or factual possibilities to derive reasonable economic benefit from the use of property (adequate in relation to the initial investment), leaving the right holder with the mere shell of a title.

The Iran–US Claims Tribunal assumed a de facto expropriation in a case in which a US company, in a joint venture with an Iranian company, operated a building project on real estate bought by the US company in Iran. The Iranian Government pushed the company out of the project management by nominating an administrator for the project.18 In this context the arbitral tribunal stated:

[I]‌t is recognized in international law that measures taken by a State can interfere with property rights to such an extent that these rights are rendered so useless that they must be deemed to have been expropriated, even though the State does not purport to have expropriated them and the legal title to the property formally remains with the original owner.19

Similarly, in Tippets et al v TAMS-AFFA, the Iran–US Claims Tribunal qualified the establishment of control by the Iranian government by appointing a manager who assumed administration without consulting the shareholders as an expropriation:

A deprivation or taking of property may occur under international law through interference by a state in the use of that property or with the enjoyment of its benefits, even where legal title to the property is not affected.

While assumption of control over property by a government does not automatically and immediately justify a conclusion that the property has been taken by the government, thus (p. 415) requiring compensation under international law, such a conclusion is warranted whenever events demonstrate that the owner was deprived of fundamental rights of ownership and it appears that this deprivation is now merely ephemeral. The intent of the government is less important than the effects of the measures on the owner, and the form of the measures of control or interference is less important than the reality of their impact.20

Modern treaty practice addresses acts whose effects are similar to an expropriation. The North American Free Trade Agreement (NAFTA) in its Chapter 11 does not only cover expropriations in the traditional sense, but also measures ‘tantamount to nationalization or expropriation’ (Article 1110 of NAFTA).21 In the case Metalclad Corp v United Mexican States, the arbitral tribunal, in order to determine whether an expropriation had taken place or not, focused on the detrimental effect of the governmental measures:

Thus, expropriation under NAFTA includes not only open, deliberate and acknowledged takings of property, such as outright seizure or formal or obligatory transfer of title in favour of the host State, but also covert or incidental interference with the use of property which has the effect of depriving the owner, in whole or in significant part, of the use or reasonably-to-be-expected economic benefit of property even if not necessarily to the obvious benefit of the host State.22

The modern broad understanding of expropriation also includes regulatory measures which deprive an investment of its value, minimize the return of profits, or which otherwise severely affect its economic substance (‘regulatory taking’).23 According to this understanding, the host State may have to compensate for governmental measures destroying or shaking the legal or economic basis of an investment project.24 The obligation of the host State to compensate for measures equivalent to expropriation does not only result from treaties on investment protection, but is actually part of customary international law.

When determining indirect or de facto expropriation, modern practice in investment arbitration tends to focus on the impact of regulatory and other measures on the operational capacity of the enterprise affected. In LG&E Energy Corp. et al v Republic of Argentina the arbitral tribunal held:

[I]‌n evaluating the degree of the measure’s interference with the investor’s right of ownership, one must analyze the measure’s economic impact—its interference with the investor’s reasonable expectations—and the measure’s duration.

(p. 416) In considering the severity of the economic impact, the analysis focuses on whether the economic impact unleashed by the measure adopted by the host State was sufficiently severe as to generate the need for compensation due to expropriation. In many arbitral decisions, the compensation has been denied when it has not affected all or almost all the investment’s economic value. Interference with the investment’s ability to carry on its business is not satisfied where the investment continues to operate, even if profits are diminished. The impact must be substantial in order that compensation may be claimed for the expropriation.25

Under the BIT between China und Peru, in Tza Jap Shum v. Republic of Peru, the arbitral tribunal qualified (discriminatory) provisional measures of the Peruvian tax authority which imposed a tax lien blocking a company’s access to bank account and deposits as expropriation because the measures ‘not only reduced the profit generating capacity of the business but essentially eliminated or frustrated the operational capacity of the enterprise’.26

The concepts of de facto expropriation and of regulatory measures equivalent to expropriation are two of the central problems of the modern law of expropriation and investment protection. This holds particularly true for regulatory measures which do not necessarily confer an economic benefit on the host State. When the interference with property rights is not matched by a corresponding advantage for the State in economic terms, it is particularly difficult to determine whether an expropriation is given or not. Such regulatory interferences with the use of property may amount to an expropriation, but they may also be classified as general regulatory measures which do not trigger a duty to compensate. In particular, regulatory measures for the protection of the environment and of public health make it difficult to draw the line. Within the last decades, the problem of a reasonable differentiation has become more and more important.

In the Tecmed v Mexico case, the arbitral tribunal clarified that measures in the interest of environmental protection or other important public interests may, under certain circumstances, be classified as measures equivalent to expropriation.27 Addressing the balance between essential public interests on the one hand and the economic rights and legitimate expectations of the rights holder on the other, the arbitral tribunal emphasized the aspect of proportionality, referring to the case-law of the European Court of Human Rights on the right to property (Article 1 of the First Protocol to the European Convention on Human Rights).28 In Tecmed v Mexico, the arbitral tribunal held that the qualification of a measure as expropriatory essentially (p. 417) depends on its effect, that is on the degree in which the measure affects the economic value of the property right:

[I]‌t is understood that the measures adopted by a State, whether regulatory or not, are an indirect de facto expropriation if they are irreversible and permanent and if the assets or rights subject to such measure have been affected in such a way that […] any form of exploitation thereof […] has disappeared; i.e. the economic value of the use, enjoyment or disposition of the assets or rights affected by the administrative action or decision have been neutralized or destroyed. Under international law, the owner is also deprived of property where the use or enjoyment of benefits related thereto is exacted or interfered with a similar extent, even where legal ownership over the assets in question is not affected, and so long as the deprivation is not temporary. The government’s intention is less important than the effects of the measures on the owner of the assets or on the benefits arising from such assets affected by the measures; and the form of the deprivation measure is less important than its actual effects.29

Additionally, the legitimate expectations of the owner as well as an appropriate balance between the conflicting interests of the host State and the owner are relevant.30

In Ethyl Corp v Government of Canada,31 a US corporation which produced and marketed additives for unleaded fuel (MMT) in Canada through a Canadian subsidiary, challenged a Canadian federal law prohibiting trade in and import of MMT beyond the borders of the Canadian provinces. Canada tried to justify the prohibition by referring to the danger to health flowing from fuel emissions which involve MMT. Ethyl Corp initiated arbitral proceedings against Canada according to Chapter 11 of NAFTA and pleaded that the Canadian restriction on market access had an expropriatory effect. After the arbitral tribunal affirmed jurisdiction over the case, Canada withdrew the regulation and paid compensation.

Some critics fear that environmental protection may be seriously undermined by investment protection and the risk of compensation obligations.32 Recent treaty practice responds to these concerns.33

The range of assets that may be expropriated is very broad and includes movable property, real property, bank accounts, shares of companies, and certain rights of use like concessions for the extraction of oil, gas, or metals. It is a controversial issue how far the infringement of commercial and similar contracts between the State and a foreign company may constitute an expropriation. The international rules (p. 418) on expropriation do not cover all kinds of contractual claims of a foreign investor against the host State. Otherwise, all infringements of contractual duties of the host State—for example a belated delivery of certain goods—would constitute an expropriation. According to a view developed in the United States, the breach of a contract by a sovereign act gives rise to State responsibility if the host State acted in a discriminatory or arbitrary manner.34

(c)  Unlawful expropriation and restitution

Expropriations of foreign assets which as such (ie independent of the issue of compensation) violate international law, for example for being discriminatory, result in the duty to provide restitution. This duty means either to restore the state of affairs which existed before the infringement (natural restitution) or to pay full compensation.35 Due financial restitution must redress any financial loss directly caused by the expropriation (damnum emergens) and, moreover, compensate for lost profit (lucrum cessans). This comprehensive compensation is particularly relevant if the taking of foreign property constitutes a breach of an investment treaty or a concession agreement with the foreign investor which is binding under international law.

(d)  Due compensation

The amount of due compensation is one of the central issues of the international law of expropriation. The ‘Calvo doctrine’,36 developed towards the end of the 19th century by the Argentinian international lawyer Carlos Calvo, subjects foreign persons to the same standard of protection as nationals, including due compensation.37 This doctrine of national treatment was not adopted at the international level.38 The prevailing doctrine of compensation has found its classic expression in the ‘Hull formula’, named after former US Secretary of State Cordell Hull. According to the Hull formula, compensation must be ‘prompt, adequate and effective’. ‘Effective’ compensation means that it must be paid in a freely convertible currency.

In the 1960s and 1970s, the demand of developing countries for greater liberty to expropriate foreign property and to loosen the standard of full compensation became more and more important. This call for enlarged discretion to determine due compensation was closely associated with the push for a ‘New Economic (p. 419) Order’. It found an echo in the United Nations and is reflected, in particular, in the Charter of the Economic Rights and Duties of States of 1974. The Charter was adopted by the General Assembly of the United Nations with a large majority, while the important industrial States voted against or abstained.39 Following the terms of Resolution 1803 (1962) of the UN General Assembly on the Permanent Sovereignty over Natural Resources, the 1974 Charter does not require ‘full compensation’ for expropriations of foreign property, but merely ‘appropriate compensation’ (Article 2(2)(c)). However, all the time, Western States maintained the classical standard of full compensation. This development with a divided international community brought about a considerable degree of legal uncertainty.40

In State practice, before and after the Second World War, a number of controversies over large-scale expropriations, especially by communist regimes, were settled in ‘lump sum agreements’.41 Under those agreements, the amount of compensation paid by the expropriating State varied between 20 and 80 per cent of the market value. In the past, the lump sum agreements served as a popular argument in support of the view that international law requires less than full compensation. Such bilateral agreements, however, are amicable settlements rather reflecting the will to compromise and other political considerations than a legal position on the standard of compensation.42 Many of those agreements refer to expropriations which occurred many years ago or which were fruits of revolutionary processes driven by ideologies entirely hostile to the idea of compensation.

In the last decades, the issue of the level of due compensation under customary international law has lost much of its relevance. From the perspective of many developing countries, the quest for foreign investment and the efforts to create a favourable investment climate have dismissed expropriations as an unsuitable instrument of economic policy, at least as a matter of general policy. The collapse of socialist systems has resulted in a new balance of powers in favour of the classical position on expropriation in the international community. Many investment treaties follow the standard of full compensation or even refer to the market value as a basis for compensation. Finally, a great number of arbitral rulings have stressed that customary international law in principle demands full compensation for expropriations.43 The case-law of the Iran–US Claims Tribunal in The Hague, as a rule, followed this line in connection with the expropriation of US assets after the revolution in Iran.44 The obiter dictum in one decision of the Tribunal that in case of a nationalization of complete branches of industry less than full compensation may (p. 420) be due, remains a singular and exceptional statement.45 At the present time, the view that customary international law requires full compensation for the taking of foreign property is much more consolidated than two or three decades ago.46

Full compensation usually refers to the market value of the asset. When a company which actively participates in economic life is expropriated, modern arbitral practice tends not to focus on the net book value (the value of the investment net of amortizations), but on the current market value of the company including the goodwill (the fair market value).47 According to the famous formula of the Iran–US Claims Tribunal’s ruling in Starrett Housing Corp v Islamic Republic of Iran, the determination of the fair market value depends on what an interested and well informed buyer would be willing to pay for the asset:

[T]‌he price that a willing buyer would pay to a willing seller in circumstances in which each had good information, each desired to maximize his financial gain, and neither was under duress or threat.48

For the evaluation of a ‘going concern’, beyond the current value of the assets, future profits must be taken into account. On this basis, full compensation according to ‘going concern value’ comes very close to the compensation due in cases of illegal expropriations, which also covers lost profits. A widely recognized valuation method is the ‘discounted cash flow method’ referring to the future cash flow which will be generated by the investment, with a discount for costs and economic risks.49

3.  The Extraterritorial Effects of Expropriations

If an asset is situated in the expropriating State, the territorial jurisdiction of the State covers any form of regulation as to this asset including the transfer of ownership. Within their own territory, States can regulate the transfer of property as well as effectively enforce it. The situation is different if the expropriated asset is later taken abroad.

Most problematic are expropriations of assets which are situated abroad at the time of taking. States may try to vest expropriation with an extraterritorial reach on (p. 421) the basis of personal jurisdiction, for example by expropriating a domestic company with assets located abroad. In this case, it is up to the foreign State where the assets are situated either to accord or to deny recognition to such exercise of personal jurisdiction and to its extraterritorial effects.

(a)  The transfer of expropriated assets abroad

As a rule, States will recognize expropriations by foreign States if the expropriated assets are situated in the expropriating State (‘positive territoriality principle’). The former owner of the asset can no longer claim the surrender value. The positive territoriality principle corresponds to the conflict of laws rule which, for the issue of ownership, refers to the law of the State where the expropriated asset is situated as the applicable law (lex rei sitae).

Complications arise if the expropriation violates standards of international law, for example because it was discriminatory or because due compensation was not paid. Under international law, other States are, in principle, free to recognize or not an expropriation which is contrary to international legal standards. Thus, a State may treat the taking of property as valid even though the expropriation fell short of the international standard of compensation. Only in exceptional cases of aggravated disrespect of international law, for example the violation of human rights by racial discrimination, recognition may amount to a ‘perpetuation’ of the violation and entail the recognizing State’s responsibility for complicity.

The courts of many countries exercise the scrutiny discretion as the non-recognition of unlawful expropriations with restraint. The act of State doctrine50 prevents courts from reviewing foreign sovereign acts as to their conformity with international law.51 In Luther v Sagor, the English Court of Appeal applied the act of State doctrine to the confiscation of property in the Soviet Union and held that English courts will not question the validity of legislative acts of another State which affect the title to property within this State’s territory.52 In the United States, the Supreme Court followed the act of State doctrine in the case Banco Nacional de Cuba v Sabbatino and upheld the expropriation of a US national in Cuba as valid.53 The US Congress, displeased with the judgment, enacted the (Second) Hickenlooper Amendment (‘Sabbatino Amendment’) to the Foreign Assistance Act54 which directs courts not to apply the act of State doctrine in cases of expropriations unless the US President determines that application of the doctrine is required in a particular case by the foreign policy interests of the United States.

(p. 422) German courts only review expropriations by other States with respect to their conformity with international law if there is a sufficient substantive nexus of the expropriation to Germany. Such a sufficient substantive nexus with Germany at the point of time of the expropriation (‘domestic and temporal relation’)55 would be present if a German national is expropriated abroad. The review of foreign expropriations, triggered by the nexus to Germany, focuses on conformity with the German public order (ordre public), which refers to the fundamental principles of the German legal order (Article 6 of the Introductory Statute to the Civil Code). The German ordre public also includes the rules of customary international law and the general principles of international law incorporated by Article 25 of the German Constitution into domestic law. Once a sufficient connection with Germany can be established, German authorities and courts will not recognize foreign expropriations, if they are contrary to international law.

The Chilean copper dispute provides an illustrative example for the required connection. This dispute turned on the expropriation of Chilean copper mines owned by US companies. Copper from such a mine was shipped to a German company in Hamburg. The expropriated owner of the mine brought an action for restitution and invoked the unlawfulness of the expropriation, because the Chilean government had not paid due compensation. The District Court of Hamburg56 confirmed the principle that an expropriation within the territory of the expropriating State will be recognized. The court did not question the expropriation, because it did not discern any sufficient nexus to Germany. The mere transport of the copper into German territory was not considered sufficient for creating such a nexus. The court quite openly explained that its view was also guided by the fear of political and economic frictions.57

In a similar case, the Indonesian tobacco dispute, the Court of Appeal of Bremen likewise deferred to concerns about economic interests.58 In this case, a Dutch company, whose tobacco plantations had been nationalized in Indonesia, tried to recover a cargo of tobacco which had been shipped to Bremen, which hosts an important tobacco exchange. The Court of Appeal of Bremen displayed great reluctance to challenge foreign expropriation on the basis of international law:

[I]‌t is true that, if the courts of all States unanimously granted the former owner a right to reclaim of property due to the nullity of the nationalisation statutes, this could achieve the result that the confiscating State would be blocked and could not engage in trade with the expropriated goods any more. But at the same time the entire world trade would be affected and disturbed […].59

This approach, apparently guided by concern for international trade, in the end served Bremen’s position as a focal point of global tobacco trade.

(p. 423) (b)  The direct and the indirect expropriation of property situated abroad

An important property situated abroad issue of recognition relates to assets which were situated in a foreign State at the time of expropriation. This issue arises when a State, on the basis of its personal jurisdiction, extends the expropriation of a domestic company to corporate assets located abroad. Effectiveness of such an expropriation depends on whether the State, in which the property is situated, recognizes the expropriation. State practice follows the tendency that such expropriations of foreign assets are not recognized (‘negative territoriality principle’). According to this widely applied principle, States will not recognize the transfer of title as to assets which are situated within their own territory. Thus, the attempt of a State to exercise sovereign powers over assets situated in another State and to directly expropriate extraterritorially will, as a rule, fail.

The case-law of the German Federal Court of Justice has extensively dealt with the issues of extraterritorial expropriation. According to the Federal Court of Justice, the expropriation of companies by a foreign State will not have any legal effects on the corporate assets situated in Germany.60

(c)  The indirect expropriation of property situated abroad

More complex are the legal effects of the ‘indirect expropriation’ of a domestic company through expropriation of all or the principal shareholders. In this case, title to the company’s assets formally remains unchanged. Still, in material terms, the company and the exercise of property rights are now controlled by the expropriating State. The expropriating State can, through the expropriation of the shareholders, achieve what it cannot attain through direct expropriation, that is control of the corporate property situated abroad.

Beyond implications under international law, the indirect expropriation of corporate property may raise constitutional issues in the country where assets are located, for many constitutions subject the expropriation of property to a legislative authorization and the payment of due compensation (see eg the Fifth Amendment of the US Constitution, Article 14(3) of the German Constitution). These constitutional standards, applied with the necessary modifications, may condition the recognition for foreign expropriations and their legal effects on corporate assets within domestic territory.

The German Federal Court of Justice approaches recognition of indirect expropriation of corporate assets through taking control of a company with great caution.61 According to its view, a foreign State ought not to achieve control over assets situated in Germany just by evading the form of direct expropriation. The Federal Court of Justice follows the negative territoriality principle especially in cases in which the foreign State tried to gain control over the company’s assets by expropriating (p. 424) non-nationals in violation of international law, for example without compensation (confiscation):

The limits drawn by the territoriality principle […] apply, if the assets of a legal person are expropriated. They also form the outer limits for the confiscation of shareholder rights at least when the shareholder rights are entirely or nearly entirely in foreign hands. According to general legal opinion, based on a natural perspective, in these cases the seizure of the shareholder rights has to be equated with the seizure of the assets of the legal person. It therefore cannot reach any further than a common confiscation of foreign assets. Otherwise, in those cases the territoriality principle would be disregarded and be replaced by an artificial legal manoeuvre which ultimately consists in the seizure of shareholder rights in a legal person which are entirely or nearly entirely in foreign hands instead of seizing the assets.62

In case of the expropriation of a company’s shares by a foreign State, the German Federal Court of Justice developed the ‘splitting doctrine’ in order to eliminate extraterritorial effects on corporate assets which are situated in Germany. According to this doctrine, the corporate assets must be attributed to a new company split away from the expropriated company with the same circle of shareholders.63 By creating such a ‘split company’, the Court tries to preserve the assets situated in Germany for the expropriated shareholders of the original company. The German ‘splitting doctrine’ has been the subject of a long controversy.64 The fictional existence of a ‘split company’ destroys the economic and legal unity of the company and its property. The territoriality principle supports competing claims to jurisdiction. Shareholder rights are situated in the home State of the company (ie the State in which the company has its administrative seat or where it was founded). All these considerations rather suggest a model of balancing interests which is more flexible than the radical solution of the ‘splitting doctrine’. This model would consider the amount of due compensation and the presence of nationals and non-nationals among the expropriated shareholders. As a rule, the interests of expropriated shareholders as relevant assets can be accommodated with an adequate pay-off. Within these parameters, the courts of one country should recognize the expropriation of shareholders in another country.

The issue of adequate compensation in terms of constitutional law emerged in connection with the French law of 1982 on the nationalization of certain industrial companies, banks, and financial companies and its effects on property situated in Germany. The nationalization extended to subsidiaries and holdings abroad. Compensation was based on the stock market price before expropriation and was to be paid in the form of long-term bonds with a very (p. 425) moderate interest rate. Claims of expropriated shareholders with respect to corporate assets situated abroad failed before the Belgian and Swiss courts. In Germany, it was disputed whether or not the French expropriations of 1982 could be recognized with respect to the assets located in Germany. The principle underlying Article 14(3) of the German Constitution calls for compensation for the indirect expropriation of property in Germany as a precondition for recognition. However, the required standard of compensation must consider the localization of shareholder rights in the company’s home State and is therefore lower than in cases of direct expropriation by the German State. Substantial compensation (higher than half of the asset’s market value) must be sufficient for recognition.65

The decision of the British House of Lords in the case Rumasa66 reflects a tendency to recognize the expropriation of shareholder rights with extraterritorial effect in case of converging interests of the States involved. In this case, a British subsidiary of Rumasa invoked certain industrial property rights with regard to a popular sherry brand before the English courts. The shareholders of the Spanish company Rumasa had been expropriated. Thus, in a way, the Spanish State stood behind the subsidiary’s claim. The House of Lords rejected the respondent’s argument that, through the claim, Spain in fact attempted to enforce the expropriation in the United Kingdom. Rather, the House of Lords assumed that the expropriation had already been completed in Spain. Referring to the then forthcoming accession of Spain to the European Union, the highest British court demonstrated a willingness to recognize the Spanish measures of expropriation with respect to British subsidiaries of indirectly nationalized Spanish companies:

[A]‌n English court will recognise the compulsory acquisition law of a foreign state and will recognise the change of title to property which has come under the control of the foreign state and will recognise the consequences of that change of title. The English court will decline to consider the merits of compulsory acquisition. In their pleadings the appellants seek to attack the motives of the Spanish legislators, to allege oppression on the part of the Spanish government and to question the good faith of the Spanish administration in connection with the enactment, terms and implementation of the law of the 29 June 1983. No English judge could properly entertain such an attack launched on a friendly state which will shortly become a fellow member of the European Economic Community.67

This judgment illustrates how policy considerations may determine the (non-) recognition of foreign expropriations affecting local assets.

(p. 426) Select Bibliography

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  • A Newcombe, ‘The Boundaries of Regulatory Expropriation in International Law’ (2005) 20 ICSID Rev 1.

  • PM Norton, ‘A Law of the Future or a Law of the Past? Modern Tribunals and the International Law of Expropriation’ (1991) 85 AJIL 474.

  • A Reinisch, ‘Legality of Expropriations’ in A Reinisch (ed), Standards of Investment Protection (OUP 2008) 171.

  • WM Reisman and RD Sloane, ‘Indirect Expropriation and its Valuation in the BIT Generation’ (2004) 74 BYIL 115.

  • M Sornarajah, The International Law on Foreign Investment (3rd edn, CUP 2010).

  • UNCTAD, Taking of Property (United Nations Publications 2000).

  • AS Weiner, ‘Indirect Expropriations: The Need for a Taxonomy of “Legitimate” Regulatory Purposes’ (2003) FORUM 166.

  • BH Weston, ‘ “Constructive Takings” under International Law: A Modest Foray into the Problem of “Creeping Expropriation”‘ (1975) 16 Va J Int’l L 103.

  • The Extraterritorial Effects of Expropriations

  • F Mann, ‘The Effect in England of the Compulsory Acquisition by a Foreign State of the Shares in a Foreign Company’ (1986) 102 LQR 191.

  • N Sornarajah, The Pursuit of Nationalized Property (Springer 1986).


1  See A Joubin-Bret, ‘Admission and Establishment in the Context of Investment Protection’ in A Reinisch (ed), Standards of Investment Protection (OUP 2008) 10.

2  See Ch VI.4.

3  See Ch VI.4(a).

4  See Ch XXXIV.4(d).

5  See SP Subedi, International Investment Law (2nd edn, Hart Publishing 2012) 73ff. For a detailed analysis of the relation between the FET standard and the international minimum standard see M Paparinskis, The International Minimum Standard and Fair and Equitable Treatment (OUP 2013) 83ff.

6  See Ch VI.4(a).

7  For the opposite view in the early jurisprudence of the PCIJ, see The Oscar Chinn Case (Britain v Belgium) PCIJ Rep Series A/B No 63, 25. For an example of the consideration of the goodwill in case of an expropriation, see American International Group, Inc v Islamic Republic of Iran (1983 III) 4 Iran-USCTR 96 (106).

8  PCIJ The Oscar Chinn Case (Britain v Belgium) PCIJ Rep Series A/B No 63, 25.

9  See GM White, Nationalisation of Foreign Property (Stevens 1961).

10  For a general outline of the protection of property in international law, see U Kriebaum and A Reinisch, ‘Property, Right to, International Protection’ in R Wolfrum (ed), The Max Planck Encyclopedia of International Law (OUP 2012) vol VIII, 522.

11  ECtHR Lithgow v United Kingdom (1986) Series A No 102 paras 112ff.

12  ECtHR Lithgow v United Kingdom (1986) Series A No 102 para 122: ‘A decision to enact nationalization legislation will commonly involve consideration of various issues on which opinions within a democratic society may reasonably differ widely. Because of their direct knowledge of their society and its needs and resources, the national authorities are in principle better placed than the international judge to appreciate what measures are appropriate in this area and consequently the margin of appreciation available to them should be a wide one. It would, in the Court’s view, be artificial in this respect to divorce the decision as to the compensation terms from the actual decision to nationalise, since the factors influencing the latter will of necessity also influence the former.’

13  ECJ Case C-44/79 Liselotte Hauer v Land Rheinland-Pfalz [1979] ECR I-3727 (3745).

14  Charter of Fundamental Rights of the European Union [2000] OJ C364/1.

15  See Lithgow v United Kingdom (1986) Series A No 102 para 116: ‘Especially as regards a taking of property effected in the context of a social reform or an economic restructuring, there may well be good grounds for drawing a distinction between nationals and non-nationals as far as compensation is concerned. To begin with, non-nationals are more vulnerable to domestic legislation: unlike nationals, they will generally have played no part in the election of designation of its authors nor have been consulted on its adoption. Secondly, although a taking of property must always be effected in the public interest, different considerations may apply to nationals and non-nationals and there may well be legitimate reasons for requiring nationals to bear a greater burden in the public interest than non-nationals.’

16  U Kriebaum and A Reinisch, ‘Property, Right to, International Protection’ in R Wolfrum (ed), The Max Planck Encyclopedia of International Law (OUP 2012) vol VIII, 522 (525ff).

17  R Dolzer, ‘Indirect Expropriation of Alien Property’ (1986) 1 ICSID Rev 41; LY Fortier and SL Drymer, ‘Indirect Expropriation in the Law of International Investment: I Know It When I See It, or Caveat Investor’ (2004) 19 ICSID Rev 293.

18  Starrett Housing Corporation v Islamic Republic of Iran (1983 III) 4 Iran-USCTR 122. See the arbitral award in the case Biloune and Marine Drive Complex Ltd v Ghana Investments Centre and the Government of Ghana (1994) 95 ILR 183 (207ff).

19  Starrett Housing Corporation v Islamic Republic of Iran (1983 III) 4 Iran-USCTR 122 (154).

20  Tippets et al v TAMS-AFFA (1984 II) 6 Iran-USCTR 219 (225f).

21  See later at Ch XXXIV.4(g).

22  Metalclad Corporation v United Mexican States, ICSID Case No ARB(AF)/97/1 (Award) (2001) 40 ILM 36 para 103. This arbitral award was subsequently annulled because it applied a standard of transparency which was not covered by Chapter 11 of NAFTA; see Supreme Court of British Columbia 2001 BCSC 664.

23  See A Newcombe, ‘The Boundaries of Regulatory Expropriation in International Law’ (2005) 20 ICSID Rev 1; SR Ratner, ‘Regulatory Takings in Institutional Context: Beyond the Fear of Fragmented International Law’ (2008) 102 AJIL 475.

24  For certain planning requirements as a condition for the construction of a project, see MTD Equity Sdn Bhd and MTD Chile SA v Republic of Chile, ICSID Case No ARB/01/7 (Award 2004) (2005) 44 ILM 91.

25  LG&E Energy Corp., LG&E Capital Corp. and LG&E International Inc. v Argentine Republic, ICSID Case No ARB/02/1 (Decision on Liability 2006) paras 190f.

26  Tza Yap Shum v Republic of Peru, ICSID Case No ARB/07/6 (Award 2011) para 162. The Ad Hoc Committee rejected Peru’s argument that the arbitral tribunal had engaged in a manifest excess of powers and failed to state reason in support to its approach to expropriation, see Tza Yap Shum v Republic of Peru, ICSID Case No ARB/07/6 (Decision on Annulment 2015) paras 73ff, 169ff.

27  Técnicas Medioambientales Tecmed SA v The United Mexican States, ICSID Case No ARB(AF)/00/2 (Award) (2004) 43 ILM 133 para 121.

28  Técnicas Medioambientales Tecmed SA v The United Mexican States, ICSID Case No ARB(AF)/00/2 (Award) (2004) 43 ILM 133 paras 122ff.

29  Técnicas Medioambientales Tecmed SA v The United Mexican States, ICSID Case No ARB(AF)/00/2 (Award 2003) (2004) 43 ILM 133 para 116.

30  See Ch XXXIV.4(d).

31  Ethyl Corporation v Government of Canada (UNCITRAL Award on Jurisdiction 1998) (1999) 38 ILM 700ff; see AC Swan, ‘Ethyl Corporation v Canada, Award on Jurisdiction’ (2000) 94 AJIL 159.

32  See P Sands, Lawless World (Penguin Books 2006) 117ff; K Tienhaara, The Expropriation of Environmental Governance: Protecting Foreign Investors at the Expense of Public Policy (CUP 2009).

33  See Ch XXXIV.4(g).

34  See American Law Institute, Restatement (Third) of the Foreign Relations Law of the United States (1987) vol 2, § 712(2).

35  PCIJ Case Concerning the Factory at Chorzów (Germany v Poland) (Merits) PCIJ Rep Series A No 17, 47: ‘The essential principle contained in the actual notion of an illegal act […] is that reparation must, as far as possible, wipe out all the consequences of the illegal act and reestablish the situation which would, in all probability, have existed if that act had not been committed. Restitution in kind or, if this is not possible, payment of the sum corresponding to the value which restitution in kind could bear [must be made] […]’.

36  See earlier at Ch VI.4(b).

37  See SP Subedi, International Investment Law (2nd edn, Hart Publishing 2012) 13ff, 186f.

38  See Ch VI.4(b); BVerfGE 84, 90 (123).

39  (1974) UNYB 402; see Ch II.2.

40  See the arbitral award in the case LIAMCO (Libyan American Oil Co v Libyan Arab Republic) (1981) 20 ILM 53.

41  See R Bank and F Foltz, ‘Lump Sum Agreements’ in R Wolfrum (ed), The Max Planck Encyclopedia of Public International Law (OUP 2012) vol VI, 950.

42  See the arbitral award in the case TOPCO/CALASIATIC v Libyan Arab Republic (1978) 17 ILM 1 (24).

43  See PM Norton, ‘A Law of the Future or a Law of the Past? Modern Tribunals and the International Law of Expropriation’ (1991) 85 AJIL 474.

44  See eg American International Group, Inc v Islamic Republic of Iran (1983 III) 4 Iran-USCTR 96 (105ff).

45  INA Corporation v Islamic Republic of Iran (1985 I) 8 Iran-USCTR 373 (378); the later jurisprudence of the Tribunal did not join this idea and stressed the full compensation standard of customary international law, see Sola Tiles Inc v Islamic Republic of Iran (1987 I) 14 Iran-USCTR 223 (234ff); Amoco International Finance Corporation v Islamic Republic of Iran (1987 II) 15 Iran-USCTR 189 (223).

46  See American Law Institute, Restatement (Third) of the Foreign Relations Law of the United States (1987) vol 2, § 712(1).

47  American International Group, Inc v Islamic Republic of Iran (1983 III) 4 Iran-USCTR 96 (106); American Law Institute, Restatement (Third) of the Foreign Relations Law of the United States (1987) vol 2, § 712. The market value is also taken into account by the guidelines of the World Bank for the treatment of foreign direct investments (s III.3) (1992) 31 ILM 1379.

48  Starrett Housing Corporation v Islamic Republic of Iran (1987 III) 16 Iran-USCTR 112 (201).

49  Starrett Housing Corporation v Islamic Republic of Iran (1987 III) 16 Iran-USCTR 112 (126, 201ff).

50  See F de Quadros and JH Dingfelder Stone, ‘Act of State Doctrine’ in R Wolfrum (ed), The Max Planck Encyclopedia of Public International Law (OUP 2012) vol I, 62ff.

51  See Ch VI.8(f).

52  Luther v Sagor [1921] KB 532.

53  Banco Nacional de Cuba v Sabbatino 376 US 398 (1964).

54  23 USC 2370(e)(2); see also American Law Institute, Restatement (Third) of the Foreign Relations Law of the United States (1987) vol 1, § 444.

55  See BVerfGE 84, 90 (123).

56  LG Hamburg (1973) 12 ILM 251; for the Chilean Copper Dispute see AF Lowenfeld, ‘Chilean Copper, Nationalization, Review by Courts of Third States’ in R Wolfrum (ed), The Max Planck Encyclopedia of Public International Law (OUP 2012) vol II, 145.

57  LG Hamburg (1973) 12 ILM 251

58  (1961/62) 9 AVR 318.

59  (1961/62) 9 AVR 318 (352).

60  BGHZ 25, 134 (143): ‘Measures of expropriation of a State […] only extend to the property which is subject to the territorial sovereignty of the country and may not reach beyond its frontiers’.

61  BGHZ 25, 134 (144f); 62, 340 (343).

62  BGHZ 62, 340 (343).

63  BGHZ 25, 134 (144ff); 62, 340 (343).

64  See with further reference M Herdegen, ‘Die extraterritoriale Wirkung der Enteignung von Mitgliedschaftsrechten an Gesellschaften in der Bundesrepublik Deutschland’ (1991) 20 ZGR 547 (550ff).

65  See M Herdegen, ‘Die extraterritoriale Wirkung der Enteignung von Mitgliedschaftsrechten an Gesellschaften in der Bundesrepublik Deutschland’ (1991) 20 ZGR 544(567f).

66  Williams & Humbert Ltd v W & H Trade Mark (Jersey) Ltd [1986] 1 AC 368.

67  Williams & Humbert Ltd v W & H Trade Mark (Jersey) Ltd [1986] 1 AC 431 per Lord Templeman. The Court assumed that there was a compensation mechanism for the shareholders without further reference.