NAVIGATING

geo–


political
risk




Uncertainty abounds for global businesses that
are subject to rules in multiple jurisdictions, particularly
when they operate in regions that are undergoing rapid
transformation or facing political or economic unrest.
Routes exist to navigate the risks involved.






Richard Haass on global concerns—and reasons for confidence in 2015


Richard Haass is president of the Council on Foreign Relations and former director
of policy planning for the US Department of State


What world regions give you the most cause for concern in 2015?
RH:
The Middle East will continue to churn—it will remain the most unstable region in the world. North Korea is wildly unpredictable, with the potential to embroil the Korean peninsula, China, the United States and Japan in a terribly complicated and dangerous situation. Pakistan is a “weak” state—the government is unable and/or unwilling to assert authority over all its territory, and there are competing power centers. The country’s growing nuclear arsenal combined with terrorists based there could create major difficulties for India and the world. Terrorism overall gives cause for concern. As we have seen, it is very difficult for open, democratic societies to deal with the threat of “retail” homegrown terrorism.


Do you have any concerns regarding the cyber world?
RH:
The huge gap between the importance of the cyber world and the lack of rules or regimes for governing cyberspace should give anyone pause. It is in some ways reminiscent of the 1940s and ’50s when nuclear weapon technologies emerged and the world of diplomacy lagged far behind. As President Obama has said, “It’s sort of the Wild West,” and there are no clear rules and no sheriff.


Are there reasons for hope in 2015?
RH:
The fall in the price of energy is a boon for consumers and oil-importing countries and has put useful pressure on countries such as Iran, Venezuela and Russia. We want these countries to modify many of their policies and behaviors, and the price fall has placed pressure on them to do so. The United States is looking much better both in relative and absolute terms, with growth rates and real wages trending upwards. In Asia, Japan and China have made some progress in managing their differences, and China has given some signals that it’s pursuing a more careful foreign policy. And in both Africa and Latin America, a number of countries are putting in place some of the prerequisites for sustained economic growth.


How do you view 2015 overall?
RH:
At any moment in history you always have things on both sides of the scale, with reasons for optimism and concern. What matters are the balance and the trend. I believe the balance and trend have moved in the wrong direction in the past few years, but it is not inevitable that this continues to be the case in 2015.






Recourse to arbitration reduces cross-border investment risks


Political risks are inherent in cross-border investments. Host-country governments may implement unfavorable financial policies, regulate aggressively or unfairly, or, in a worse-case scenario, seize assets. When it comes to seeking legal redress in the host country, foreign investors may face a biased or ineffectual judicial system. To mitigate these risks, foreign investors prefer to have the right to submit claims to arbitration in a neutral international forum governed by established rules and procedures.


To secure this right, “well-advised investors, when investing in a country presenting higher levels of political risk, structure their investments to benefit from the protections offered by investment protection treaties such as those contained in most bilateral investment treaties, which typically include the right to submit claims to arbitration if a dispute arises with the host country,” according to White & Case partner Abby Cohen Smutny. More than 3,000 bilateral investment treaties—agreements establishing minimum standards of treatment for investment by nationals and companies of one country in another country—currently exist. Typically, these treaties provide for arbitration of an investor’s claims by the World Bank’s International Centre for Settlement of Investment Disputes (ICSID).


Investment protection is particularly important in those industries impacted by the rise of resource nationalism. Investment in the extractive industries typically involves very substantial sums over many years of development before any return is received. Once development is complete or near complete, the investment is highly vulnerable to government interference. Having recourse to international arbitration to mitigate such long-term project risk can be critical.




CANADIAN MINING COMPANY AWARDED US$740 MILLION IN ARBITRATION WITH VENEZUELA

The value of having bilateral investment treaty protections was recently highlighted by the ICSID Additional Facility arbitration award of US$740.3 million issued in favor of our client Gold Reserve Inc., a Canadian mining company, as a result of Venezuela’s violations of the Canada-Venezuela bilateral investment treaty. The award is one of the largest rendered by an ICSID tribunal to date.

Gold Reserve started arbitration in 2009 after Venezuela stalled its development of the Brisas gold and copper mining project in Venezuela—one of the largest undeveloped gold and copper deposits in the world—by withholding and then revoking key permits. Gold Reserve had worked for more than 16 years exploring the deposit and engineering the project for commercial production. After the arbitration was started, Venezuela seized physical control of the property and expelled Gold Reserve’s personnel.

The hard-fought arbitration included hearings in both Washington, DC and Paris. But in the end, the ICSID tribunal concluded that Venezuela had not accorded fair and equitable treatment to Gold Reserve’s investment and found Venezuela’s conduct to be “egregious.” Venezuela’s obligation to pay the award is a duty arising under its investment treaty with Canada and is binding on Venezuela as a matter of international law. The award is enforceable globally in the more than 140 countries that are party to the New York Convention on the enforcement of foreign arbitral awards.






China’s relaxation of cross-border security and guarantee restrictions fosters outbound activity





In the past, the People’s Republic of China’s (PRC) State Administration of Foreign Exchange (SAFE) subjected the provision of both inbound and outbound security and guarantees (security/guarantees) to a review of whether a set of requirements had been met. Meeting these requirements was difficult, and they often, in effect, barred outbound security/guarantee arrangements or made them impractical or too costly.


But, in 2014, SAFE issued new rules that relax the PRC’s cross-border security and guarantee restrictions, making the requirements for both inbound and outbound security/guarantees easier to meet. The new SAFE rules are intended to promote outbound acquisitions by both Chinese state-owned and private enterprise.


The new rules, which went into effect on June 1, 2014, allow PRC companies to provide security/guarantees in favor of an offshore entity without the need to obtain any approval or quota from SAFE. Any outbound security/guarantee is still subject to the requirement that it be registered with SAFE within 15 days of its execution, but such registration is no longer a condition to the validity of the security interest.


The “No Flow-Back of Loan Proceeds” restrictions remain. Unless special approval from SAFE is obtained, proceeds of an offshore loan supported by outbound security/guarantees cannot be used for equity investment or a shareholder loan into PRC entities or to refinance existing debt that was originally used for equity investment or a shareholder loan into the PRC. They also cannot be used to acquire an offshore company/group with more than 50 percent of its assets in the PRC or to make the initial payment for certain types of trade transactions.


Despite these remaining restrictions, financing structures are likely to evolve to take advantage of the SAFE rules moving forward. The new SAFE rules greatly facilitate the grant of security and issuance of guarantees by Chinese companies in favor of offshore international lenders, and more innovative finance structures are being developed, adopting such rules in cross-border financing between Chinese companies and international banks for outbound transactions.


Quote
Well-advised investors, when investing in a country presenting higher levels of political risk, structure their investments to benefit from the protections offered by investment protection treaties such as those contained in most bilateral investment treaties, which typically include the right to submit claims to arbitration if a dispute arises with the host country.
Abby Cohen Smutny
Partner, International Arbitration