Investment Arbitration – Important Developments in Tobacco Litigation

By | July 19, 2016

The huge multinational tobacco conglomerate, Philip Morris (PM), was bounced out of court on 14 July 2016, in a highly controversial investment claim against tiny Uruguay, a country with a population of 4.5 million and GDP a fraction of the US$80 billion annual revenues of the US-based tobacco giant (Philip Morris v, Uruguay, Award:

Although headquartered the US, pm used a Uruguay-Switzerland bilateral investment treaty (BIT) to launch its claim against that country’s tobacco control measures. This was possible because PM had subsidiary Swiss companies that could file the case, invoking the rules of the International Convention for the Settlement of Investment Disputes (ICSID).

The litigation centred on Uruguay’s cigarette packaging rules, requiring that only one variant of cigarette brand per family could be sold (the so-called Single Presentation Requirement or SPR) and that 80% of the package had to consist of health warnings.

PM argued that these regulations irreparably harmed its cigarette distribution business in Uruguay, effectively expropriating its patent rights, and were arbitrary and discriminatory, offending the rule enshrined in the BIT requiring “fair and equitable treatment” (FET) of foreign investors and their investments.

In defense, Uruguay said that it was following the rules contained in the WHO’s Framework Convention on Tobacco Control (FTFC) and that the regulations were legitimate public health measures, were reasonable and proportionate and were fully within the FET concept.

Fair and Equitable Treatment

FET is embedded in literally hundreds, if not thousands, of bilateral investment treaties around the world. It is amongst the most highly-litigated concepts in dozens and dozens of investor-State dispute settlement (ISDS) arbitrations.

The FET obligation is in Canada’s foreign investment protection agreements (called FIPAs), including the NAFTA and the Canada-EU trade agreement (CETA) currently awaiting ratification by the European Parliament and the legislatures of EU member States.

As a treaty obligation, FET comes into play when State regulations are alleged to be arbitrary, discriminatory, unreasonable or disproportionate, impacting negatively on the proprietary rights and other guarantees for foreign investments recognized under these bilateral agreements.

Critics assert that FET as a legal concept is skewed in favour of private interests and that successive arbitration panels have interpreted the rule far too broadly and favoured those interests over the public good. Critics argue that laws and regulations enacted for legitimate public policy reasons shouldn’t even be subjected to claims under these ISDS treaty provisions.

In a carefully and thoroughly reasoned decision, the Philip Morris panel upheld the right of Uruguay to pass its regulations, deciding 2-1 that the measures didn’t offend the FET principle.

The decision represents an important precedent in these investment arbitrations, notwithstanding some commentators claiming that its significance is less because panel decisions are not biding on subsequent tribunals.

The panel concluded that the measures were not arbitrary. It said (in para. 390) that according to the International Court of Justice in the 1989 ELSI case (United States v. Italy), arbitrariness is defined as “a wilful disregard of due process of law, an act which shocks, or at least surprises, a sense of juridical propriety.” Nothing of the sort existed here.

Citing the ELSI decision, the panel said (at para. 353),

  • For regulatory measures to be deemed arbitrary, some important measure of impropriety [must] be manifest, reflecting the absence of legitimate purpose, capriciousness, bad faith, or a serious lack of due process. Consequently, measures undertaken in good faith cannot be considered arbitrary unless there is a manifest lack of rational relationship between the measure and its objective, i.e., unless there is no logical connection between them.

As demonstrated by Uruguay’s legal team, these measures were well-founded on scientific and public health grounds, were not arbitrary or discriminatory and were solidly within the FET ambit.

In light of the health-related evidence and internationally accepted standards, “the SPR was a reasonable measure, not an arbitrary, grossly unfair, unjust, discriminatory or a disproportionate measure” and that it “was an attempt to address a real public health concern, that the measure taken was not disproportionate to that concern and that it was adopted in good faith.”

With respect to the 80% package warning requirement, the panel concluded (at para. 418):

  • The fair and equitable treatment standard is not a justiciable standard of good government, and the tribunal is not a court of appeal. Article 3(2) does not dictate, for example, that a 50% health warning requirement is fair whereas an 80% requirement is not. In one sense an 80% requirement is arbitrary in that it could have been 60% or 75% or for that matter 85% or 90%. Some limit had to be set, and the balance to be struck between conflicting considerations was very largely a matter for the government.

Rejection of Investor’s So-Called “Legitimate Expectations”

PM had argued that Uruguay was bound under the FET clause by the concept of “legitimate expectations” that tobacco regulations wouldn’t be changed when it made its original investment. The panel rejected this argument as well. It cited the 2006 ICSID arbitration award in El Paso v. Argentina, which said,

  • Under a FET clause, a foreign investor can expect that the rules will not be changed without justification of an economic, social or other nature. Conversely, it is unthinkable that a State could make a general commitment to all foreign investors never to change its legislation whatever the circumstances, and it would be unreasonable for an investor to rely on such a freeze.

In light of this and its factual analysis, this panel concluded (at para, 430) that,

  • . . . in light of widely accepted articulations of international concern for the harmful effect of tobacco, the expectation could only have been of progressively more stringent regulation of the sale and use of tobacco products.

Upholding Police Powers

The other important part of the decision is that it upholds the “police power” of the State to enact legitimate regulations for the public good. The panel rejected PM’s claim that its regulations improperly expropriated the company’s patent rights. Citing the 2010 NAFTA case of Chemtura v. Canada, it concluded that the measures were a valid exercise of its “police powers” by Uruguay for the protection of public health.

Deference to Legitimate State Regulation

The award also refers in numerous places to the doctrine of deference – i.e., that it is not the role of international arbitration panels to substitute their views for those of the governments concerned where there is evidence that an impugned measure is not unreasonable or arbitrary and has been based on sound public policy underpinnings:

  • 488. . . the present case concerns a legislative policy decision taken against the background of a strong scientific consensus as to the lethal effects of tobacco. Substantial deference is due in that regard to national authorities’ decisions as to the measures which should be taken to address an acknowledged and major public health problem.
  • 399. . . . .The responsibility for public health measures rests with the government and investment tribunals should pay great deference to governmental judgments of national needs in matters such as the protection of public health. In such cases respect is due to the “discretionary exercise of sovereign power, not made irrationally and not exercised in bad faith … involving many complex factors.” As held by another investment tribunal, “[t]he sole inquiry for the Tribunal… is whether or not there was a manifest lack of reasons for the legislation.”

Important Precedent

These and other passages supporting the Uruguay regulations as within applicable international law standards are extraordinarily important. Added to the legal weight of the decision is the fact that one of the panel members, James Crawford, is the highly respected British judge on the International Court of Justice.

While it is true that ISDS arbitration decisions are not strictly-speaking binding as precedents on subsequent panels, it can be expected that this decision will have considerable weight in future investment arbitrations.