Global Insight Perspective | |
Significance | Oxy submitted an arbitration claim for US$1 billion in compensation in May against the government, citing the violation of Ecuador's bilateral investment protection treaty with the United States; and against Petroecuador, claiming unlawful termination of its contract. Its claim should be less complex now that it is only based on one legal grounding. |
Implications | The termination of Oxy’s contract for Block 15 and the seizing of its assets have created friction in relations with the United States and placed an added burden on Petroecuador, which is already struggling to finance operations at its own fields. The dropping of the claim is therefore good news, but has few practical implications as there was no indication that the state company would have agreed to make a financial settlement in the event of an unfavourable ruling from the ICSD. |
Outlook | Greater legal stability is one of the main demands of companies operating in the oil sector in the region and will be one of the factors that determine future investments. |
President Welcomes Decision
President Alfredo Palacio yesterday welcomed Oxy's withdrawal of its arbitration claim against the state oil company Petroecuador the previous day. Palacio said that the action was "a half victory that the [Ecuadorian] people should celebrate". Oxy still maintains its arbitration claim with the International Centre for Settlement of Investment Disputes (ICSID) against the Ecuadorian government. The president of Petroecuador also welcomed the move, suggesting that the decision undermined Oxy’s case against the state.
The claim against the government and the state oil company were submitted by the U.S.-based company following the government's termination in May 2006 of Oxy's contract and the seizure of its assets in Ecuador (see Ecuador: 16 May 2006: Government of Ecuador Cancels U.S. Petroleum Company's Contract). Petroecuador subsequently took over the running of Oxy's disputed Block 15 and the Edén Yuturi and Limoncocha fields, which normally produce around 100,000 barrels per day. The contract dispute between Oxy and the government dated to August 2004, when the procurator-general recommended that Petroecuador begin the process of annulling Oxy's participation contract for Block 15 over alleged breaches of contract. Oxy was accused of a number of contract violations, including a failure to inform the authorities regarding the transfer of a 40% stake in Block 15 to Canada's EnCana, drilling without permission, and failing to meet previously agreed crude production targets. Occidental contested the allegations and maintained that it had complied with all of its legal and contractual obligations in Ecuador. The termination of its contract was regarded as the culmination of the long-running dispute, although its timing just weeks after the issuing of the nationalisation decree in Bolivia did prompt comparisons between the two countries.
Oxy’s decision to file an arbitration claim with the International Centre for Settlement of Investment Disputes (ICSID) in its capital, Washington, D.C., stems from U.S. authorities' assertion that the decision to terminate the contract and seize Oxy’s assets contravenes the bilateral investment-protection treaty between the countries. Ecuador believes that the dispute is between its government and a private corporation and that the ICSID is therefore not the right forum.
Outlook and Implications
The shift in Oxy’s legal strategy towards Ecuador is good news for the state oil company, which is already suffering from severe financial difficulties that have contributed to underinvestment in the energy sector and have on occasions led to protests from subcontractors over the late payment of fees. However, even though Petroecuador will save the legal costs it would have incurred in contesting the arbitration claim, the decision makes little practical difference as there is no guarantee that either Petroecuador or the state would actually be willing to pay any compensation to Oxy if the ICSD rules in the company's favour.
Oxy won an earlier arbitration battle over a tax dispute in Ecuador, which the government has not honoured. Under international law there is no enforcement mechanism for sovereign states to comply with arbitration rulings, but the government may be susceptible to other kinds of pressure in order to comply. The Oxy case has already cost Ecuador a free-trade agreement (FTA) with the United States, leaving it without the preferential arrangements currently enjoyed under the Andean Trade Preferences and Drug Eradication Act (ATPDEA), which is set to expire at the end of this year (see Ecuador: 18 May 2006: U.S. Suspends Trade Talks with Ecuador over Oil Dispute). It has also damaged its reputation among international investors already concerned about the lack of legal stability and relatively high levels of corruption in the country. According to a report in El Comercio, there are currently seven arbitration cases involving the Ecuadorian government and companies with claims totalling over US$3 billion. Most of the claims come from companies in the electricity sector.
However, Ecuador is not the only country in the region where the effectiveness of international arbitration underpinned by bilateral investment protection treaties as a mechanism to resolve contract disputes is in doubt. Following the December 2001/January 2002 crisis in Argentina and accompanying policy changes that affected the privatised utilities, many companies submitted claims to the ICSD to put pressure on the government to unfreeze tariffs. However, the Argentine government has refused to pay any of the claims it loses and made the withdrawal of claims a precondition for the renegotiation of new contracts. New oil contracts in Venezuela also include a clause that prevents companies from applying to international arbitration courts to resolve disputes. Instead, companies are becoming increasingly reliant on local courts to resolve disputes.