Why international law effectively protects investments in Russia

Russia breached Article 2(4) of the UN Charter, which prohibits the use of force against the territorial integrity or political independence of any state. Russia's acts have prompted the EU, the UK and the US to impose economic sanctions, such as freezing assets and disconnecting Russian banks from the SWIFT international payments network. Whilst the number of private businesses that are halting their activities in Russia is steadily growing, Russia has adopted a law paving the way for expropriations of assets of foreign firms that leave the country following economic sanctions. But what can foreign companies do if Russia proceeds to take their assets, if they are unable to freely transfer returns from investments out of Russia or if their profits collapse?

International treaties protect investors

International law provides relief. Russia has concluded a web of bilateral investment treaties ("BITs"), including with Austria, Germany, Italy, Switzerland, South Africa or the UK. Those BITs shall promote investments in Russia. In return, they provide international law protections to investors. Crucially, BITs require Russia (a) to accord fair and equitable treatment (this means that Russia shall not take actions that impair the business environment), (b) not to expropriate investments (this means that Russia shall not take actions which substantially reduce the value of investments), and (c) ensure the free transfer of funds in and out of Russia.

A salient feature of BITs is that they grant investors access to an international (arbitral) tribunal, which has the power to award damages to investors. Thus, investors can prosecute claims before an international forum if their assets have been expropriated or if returns from investments cannot be transferred out of Russia. Likewise, investors whose profits dwindle due to international sanctions have a claim. International sanctions are issued by third states. Yet, there is a sufficiently close link between the losses investors sustain and Russia's actions. This is so because Russia's exclusion from international business is the immediate consequence of a violation of fundamental provisions of the UN Charter. And if tribunals find that Russia has breached the BIT, they are mandated to order compensation wiping out all the consequences of the illegal act and re-establish the situation which would have existed if Russia's breaches of international law had not been committed.

Awards of international tribunals can be enforced

The big elephant in the room in any discussion on Russia's duties under international law is whether decisions of an international court or tribunal can be enforced? Wouldn't an international award ordering Russia to compensate an investor just be a piece of paper? After all, despite the order of the International Court of Justice (ICJ) in The Hague, Russia refuses to cease its military operation in Ukraine. Why would Russia comply with the award of an arbitral tribunal if it confidently neglects decisions of the highest judicial body of the international legal system? The answer is that the enforcement mechanism makes all the difference. As for decisions of the ICJ, Article 94 of the UN Charter envisions that a state which considers that the other side has failed to perform the obligations incumbent upon it under a judgment rendered by the ICJ may bring the matter before the Security Council. The Security Council is empowered to recommend or decide upon measures to be taken to give effect to the judgment. Yet, because Russia can veto Security Council resolutions, this enforcement mechanism is inoperable. By contrast, awards issued by international tribunals can be enforced based on the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards 1958. That convention applies almost universally and ensures that domestic courts enforce international awards unless exceptional reasons require otherwise (e.g. the proceedings leading to the award have been tainted by grave procedural errors).

Of course, state immunity poses an additional hurdle in enforcements against states. Not all state-owned property (located in the state where enforcement is sought) will be available to satisfy a claim. The orthodox position is that state assets are immune to enforcement. However, this immunity does not apply to assets that are used or intended to be used for commercial purposes. To put it simply, the question is whether the state was acting in a "business" or in an "official" or sovereign capacity. Assets that are shielded from enforcement normally only include funds used for diplomatic missions, international conferences or military property.

The case of the businessman Franz Sedelmayer illustrates that enforcing an award against Russia is possible. The story begins in the 1990s, when Mr Sedelmayer was a successful entrepreneur based in St. Petersburg, where he provided Russia's police with law-enforcement equipment, training programmes and facilities. He maintained a friendly relationship with Vladimir Putin, at the time the deputy mayor in St. Petersburg. Business was going well for Mr Sedelmayer until Russia resolved to expropriate his assets, ordering him among other things to hand over his company offices on an island in St. Petersburg. Mr Sedelmayer did not kowtow to powerful Russia. Instead, he decided to turn to arbitration to receive compensation for his loss under Germany's BIT with the former USSR. An international tribunal constituted under that BIT accepted his claim and ordered Russia to compensate him. Mr Sedelmayer eventually collected around USD 6.8m, including from rents related to Russian-owned buildings in Cologne, Germany.

Naturally, Mr Sedelmayer's enforcement efforts were not a seamless process. Quite the opposite. They lasted for years and took place in various jurisdictions. But enforcing international awards issued in the context of Russia's military operation seems to be materially different from Mr Sedelmayer's case. For one, courts increasingly qualify assets as falling under the "used or intended to be used for commercial purposes" exception and so not being subject to state immunity. The Orascom Telecom case shows how wide this interpretation may go. In that case, the question was whether proceeds that originated from the Republic of Chad's oil sales held in a UK bank account can be used to satisfy an award. The court answered in the affirmative, arguing that proceeds relating to a commercial transaction are covered and that commercial transaction was defined rather broadly as "any contract for the supply of goods or services". For another, in modern days, effective asset tracing can more readily locate property used for commercial purposes. The upshot is that awards issued by an international tribunal are not just a piece of paper. Enforcing awards against Russia is exacting, yet possible.

This article was first published on CEE Legal Matters, 23.03.2022.
authors: Christoph Lindinger, Sebastian Lukic