The new draft Dutch BIT: what does it mean for investor mailbox companies?

The Netherlands has released a new draft investment treaty for public comment ("Draft BIT").  If adopted, the Draft BIT may raise questions about the Kingdom's attractiveness for foreign investors who have long taken advantage of Dutch treaty protections by structuring their investment via companies in the Netherlands.  The Netherlands proposes to use the new model as a basis for renegotiating its existing BITs with non-EU states, and, as such, the new draft's more restrictive provisions may be significant for existing investors with protection under existing BITs, as well as those considering future investments. Key features of the Draft BIT are considered below.

Background

The Netherlands is currently signatory to over 100 BITs, many of which are based on its 2004 Model BIT.  Following the European Court of Justice's recent decision that international arbitration provisions in intra-EU BITs are incompatible with EU law, the Netherlands is understood to be looking to terminate such BITs.  However, it is believed still to be keen to negotiate BITs with non-EU countries, provided that such countries are not external trading parties with which the EU has an existing or prospective trade agreement, such as Canada, Singapore and Mexico.

While the Draft BIT contains many of the usual substantive and procedural protections (guarantees of Fair and Equitable Treatment (FET), National Treatment (NT), Most Favoured Nation Treatment (MFN), limitations on expropriation, and the right for an investor to bring arbitration proceedings against the government), there are potentially significant restrictions on these protections, as outlined below.

Key features of the new draft BIT

• Definition of 'Investor' and 'Investment': The Draft BIT narrows its coverage of investors from that of the 2004 Model BIT, by providing that legal persons must have "substantial business activities" in their home territory to qualify for protection under the BIT (Article 1(b)(ii)). Further, the Draft BIT stipulates characteristics for a qualifying investment, namely "certain duration", "commitment of capital or other resources" and "the assumption of risk", as well as the more unusual requirement for an "expectation of gain or profit".
• Scope: The Draft BIT permits state parties to pursue "legitimate policy objectives" via regulation, including the protection of public health and the environment (Article 2.2), known as a "right to regulate".  Accordingly, just because a state party may regulate in a manner which negatively affects an investment or interferes with an investor's expectations this may not necessarily equate to a breach of the BIT.  Additionally, state parties may introduce or maintain measures in respect of competition (Article 2.3) and may discontinue or recover subsidies, provided such measure(s) is necessary to comply with international obligations between the state parties, or where it has been ordered by a competent court or authority. These provisions may affect the degree of protection against regulatory change afforded by the BIT.
• Rule of law, sustainable development and corporate social responsibility: The Draft BIT places significant emphasis on the protection of environmental and human rights. It contains an express provision in respect of the rule of law. Further, the Draft BIT contains a new set of provisions entitled "Sustainable Development", obliging the state parties to ensure "high levels of environment and labor protection" and not to lower levels of protection in these areas in order to encourage investment. State parties must also "reaffirm" their obligations under environmental, labour and human rights treaties. When awarding compensation, the Tribunal may take into account an investor's non-compliance with the UN Guiding Principles on Businesses and Human Rights, and the OECD Guidelines (Article 23).
• MFN and other substantive protections: Limitations are imposed on the NT and MFN protections. In particular, the draft seeks to prevent investors from claiming the benefit of substantive obligations or more favourable dispute settlement mechanisms in other treaties (Article 8.3).
• FET / Legitimate expectations: FET follows the CETA[1] by listing measures which will constitute a breach of the obligation, including a denial of justice, a fundamental breach of due process and manifest arbitrariness (Article 8). In considering whether the FET provision has been breached, the Tribunal may also take into account any specific representation made to an investor to induce an investment that created a legitimate expectation, and upon which the investor relied, and which the representor party subsequently frustrated.
• Umbrella: The Draft BIT's umbrella clause appears narrower than that of its predecessor. Article 9.5 prevents the government of a Contracting Party from breaching a "written commitment" it has made with investors of the other contracting party regarding a "specific investment" in such a way as to cause loss or damage to the investor or the investment.  This contrasts with the 2004 Model BIT which required parties to "observe any obligation it may have entered into with regard to investments of nationals of the other Contracting Party".
• Expropriation: Both direct and indirect expropriation is expressly referenced, with the latter amounting to measures which have an effect on the investment equivalent to that of direct expropriation. Indirect expropriation will be determined on a case-by-case, fact-specific basis and considering the economic impact, the duration and the character of the measure(s) taken, and will require that "fundamental attributes of property" be taken to be eligible for compensation. The state may take non-discriminatory measures which are designed and applied in good faith to protect legitimate interests, provided such measures are not excessively severe.
• Arbitrable claims and remedies: The draft seeks to restrict investors to bringing claims for breach of the Draft BIT’s core protections only (MFN, NT, FET, free transfer of payments relating to an investment, and expropriation). In contrast, existing Dutch BITs often permit arbitration of any “legal dispute”.  An investor may not bring a claim if the investment has been made through fraudulent representation, concealment, corruption or similar bad faith conduct. Tribunals may award compensation only, unless the disputing parties agree on restitution.
• Appointment of arbitrators / no 'double-hatting': Significantly, the Draft BIT does away with party-appointed arbitrators. Tribunal members are to be appointed by either the Secretary-General of ICSID, if proceedings are brought pursuant to the ICSID or ICSID AF rules, or the Secretary-General of the Permanent Court of Arbitration, if proceedings are brought under the UNCITRAL rules. Arbitrators must possess the required qualifications in their respective countries for appointment to judicial office, or be jurists of "recognized competence".  'Double-hatting' is not permitted; arbitrators are precluded from acting as legal counsel and must not have acted as legal counsel for the last five years in investment disputes under this or any other international agreement.

Discussion

If adopted, the Draft BIT has the potential to change the investment landscape in the Netherlands significantly, both for existing and future investors.  In addition, given the Dutch BIT has traditionally been an important reference point for what is seen as a relatively "investor friendly" standard, any retreat in this regard is a further telling indication of how States are adapting to developments in investment arbitration.

When relying on the protection of existing BITs, investors often take comfort in sunset provisions which provide that the treaty's protection continues to apply for a long period (10 years or more) after the treaty is terminated by one party.  However, if, as currently intended, the Draft BIT were used by the Netherlands to renegotiate existing BITs, then it is possible that such sunset clauses may be dis-applied by agreement between states, leaving existing investors to rely only on the new protections.

Further, if the removal of protection for shell companies and SPVs is retained in the final version, then the standard Dutch route for BIT protection could be affected for companies without a substantial presence in the Netherlands.  The consultation on the Draft BIT will close on 18 June 2018.

For more information, please contact Andrew Cannon, Partner, Christian Leathley, Partner, Iain Maxwell, Of Counsel, Natalie Yarrow, Associate, or your usual Herbert Smith Freehills contact.

[1] Latest CETA developments