{"id":3935,"date":"2016-12-12T08:51:18","date_gmt":"2016-12-12T14:51:18","guid":{"rendered":"http:\/\/itn.mattrock.ca\/?p=3935"},"modified":"2024-08-09T18:27:19","modified_gmt":"2024-08-09T16:27:19","slug":"ecuadors-levy-on-extraordinary-oil-profits-at-a-99-rate-has-breached-murphys-legitimate-expectations-decides-pca-tribunal-murphy-exploration-production-company-international-v-ecuador-pca-2012-16","status":"publish","type":"post","link":"https:\/\/www.iisd.org\/itn\/2016\/12\/12\/ecuadors-levy-on-extraordinary-oil-profits-at-a-99-rate-has-breached-murphys-legitimate-expectations-decides-pca-tribunal-murphy-exploration-production-company-international-v-ecuador-pca-2012-16\/","title":{"rendered":"Ecuador\u2019s levy on extraordinary oil profits at a 99% rate has breached Murphy\u2019s legitimate expectations, decides PCA tribunal"},"content":{"rendered":"

Murphy Exploration & Production Company – International v. Republic of Ecuador, PCA<\/span> Case No. 2012-16 (formerly AA 434)\u00a0<\/em><\/h3>\n

In the proceeding brought by U.S.-based company Murphy Exploration & Production Company \u2013 International against Ecuador, a tribunal under the auspices of the Permanent Court of Arbitration (PCA) held that Ecuador breached the fair and equitable (FET<\/span>) treatment under the Ecuador\u2013United States bilateral investment treaty (BIT<\/span>) by enacting Law 42 and Decree 662, which established a levy on oil profits resulting from sales above a certain reference price.<\/p>\n

This was not the first time an arbitral tribunal ruled on a case brought by Murphy against Ecuador. In December 2010, after a proceeding that took nearly 3.5 years, the majority of a tribunal at the Centre for Settlement of Investment Disputes (ICSID<\/span>) had declined jurisdiction to hear the case (ICSID Case No. ARB\/08\/4).<\/p>\n

The Participation Contract\u00a0<\/em><\/h3>\n

The starting point of the dispute is a Participation Contract signed in 1996 between\u00a0Corporaci\u00f3n Estatal Petrolera Ecuatoriana<\/em>, the predecessor of the state-owned Petroecuador, and a consortium of foreign investors for oil exploration and production (Consortium). Murphy controlled one of the companies participating in the Consortium until March 2009.<\/p>\n

Under the Participation Contract, Consortium members had ownership rights over their shares in oil production. The shares were calculated using a formula, which, according to Murphy, did not include oil price as a variable. According to Ecuador, however, \u201cthe price of oil was an integral part of the formula for calculating the parties\u2019 shares in participation\u201d (para. 74).<\/p>\n

The global rise in oil prices, Law 42 and Decree 662<\/em><\/h3>\n

In early 2002, global prices of crude oil began to rise, reaching a peak of US$75 per barrel in July 2006, nearly four times the medium price of the two earlier decades (approx. US$20 per barrel).<\/p>\n

In that scenario, Ecuador enacted Law 42, amending the country\u2019s Hydrocarbons Law to allow \u201cthe State to receive from oil companies with participation contracts what was described as \u2018participation in the surplus of oil sale prices\u2019\u201d (para. 82). Said differently, Law 42 provided that Ecuador would participate in the Consortium\u2019s extraordinary income resulting from the sale of crude oil\u00a0above\u00a0<\/em>the reference price\u2014namely, the oil price that prevailed when the Participation Contract was concluded. Through Law 42 Ecuador set its participation at a minimum of 50 per cent of the extraordinary profits resulting from prices exceeding the reference price; in 2007, through Decree 662, Ecuador changed it to 99 per cent.<\/p>\n

Murphy alleged that Law 42 had been a unilateral modification of the Participation Contract and that, because of the law\u2019s detrimental effects on the investment, \u201cit had no choice but to forego its investment by selling its interest in the Consortium\u201d (para. 5). Ecuador, on the other hand, replied that Law 42 was a \u201cmatter of taxation\u201d explicitly carved out from the BIT, implemented in view of an exceptional rise in oil prices, and that Law 42 aimed to maintain the agreements with petroleum sector operators while protecting public interest in natural resources.<\/p>\n

The tribunal\u2019s jurisdiction: the meaning of \u201ctaxation\u201d<\/em><\/h3>\n

Ecuador submitted that Law 42 was a \u201cmatter of taxation,\u201d which Article X of the BIT excludes from dispute resolution, unless related to certain specific claims (for instance, expropriation). The tribunal rejected Ecuador\u2019s assertion. Following the approach taken in\u00a0EnCana v. Ecuador<\/em>,\u00a0Occidental v. Ecuador\u00a0<\/em>and\u00a0Duke Energy v. Ecuador\u00a0<\/em>for interpreting the meaning of \u201cmatter of taxation,\u201d the tribunal considered it necessary to assess \u201cwhether that measure comes within the State\u2019s domestic tax regime\u201d (para. 166) and whether the measure could be characterized as tax at international law.<\/p>\n

According to the tribunal, Law 42, unlike the challenged measure in\u00a0EnCana<\/em>, was \u201cnot enacted as a tax or otherwise part of the national tax regime\u201d (para. 175), but enacted as an amendment to the Hydrocarbons Law under the President\u2019s power to submit emergency draft legislation. Relying on\u00a0Burlington v. Ecuador<\/em>, the first tribunal to rule on whether Law 42 was a tax-related measure, and\u00a0Occidental II v. Ecuador<\/em>, which also analyzed the issue, the tribunal held that Law 42 did not constitute a matter of taxation within the meaning of the BIT. It considered the measure \u201ca unilateral change by the State to the terms of the participation contracts that were governed by the Hydrocarbons Law\u201d (para. 190).<\/p>\n

The breach of FET<\/em><\/h3>\n

As for the merits of the dispute, the tribunal did analyze whether the FET provision of the BIT reflected an autonomous standard above the customary international law one. Instead, it considered \u201cthat there is no material difference\u201d (para. 208) between them and proceeded to the analysis of whether Law 42 and Decree 662 breached Murphy\u2019s legitimate expectations.<\/p>\n

The tribunal accepted the notion, suggested by Murphy, that legitimate expectations \u201care grounded in the legal framework as it existed at the time that the investment was made\u201d (para. 249). Thus, it considered that Murphy could legitimately expect that the terms of the Participation Contract would not change and that changes would only be made \u201cwithin the confines of the law and pursuant to a negotiated mutual agreement between the contractual partners\u201d (para. 273).<\/p>\n

The tribunal disagreed with Murphy\u2019s assertion that the Participation Contract contained a stabilization clause, which would prevent regulatory and legislative adjustments even in exceptional circumstances, such as a significant rise in oil prices. It found that Law 42, not having altered the Participation Contract in a fundamental way, had not breached Murphy\u2019s legitimate expectations.<\/p>\n

The tribunal did, however, found that Decree 662, which raised the state\u2019s participation in the extraordinary income to 99 per cent, breached Murphy\u2019s legitimate expectations. In the tribunal\u2019s understanding, Decree 662 transformed the Participation Contract in a service contract, changing \u201cthe foundational premise upon which the Participation Contract had been agreed\u201d (para. 282), namely, the Consortium\u2019s ability to participate in the upside of high oil prices. It also referred to the \u201chostile and coercive investment environment\u201d (para. 281) prevailing when Decree 662 was adopted as an element that reinforced the conclusion that Ecuador had breached its FET obligation.<\/p>\n

The tribunal condemned Ecuador to pay nearly US$20 million in compensation to Murphy for damages incurred as a result of the payments, plus pre-award (approx. US$7.2 million) and post-award interest.<\/p>\n

It also ordered Ecuador to pay the difference between the price at which Murphy was sold in 2009 (US$78.9 million) and the company\u2019s fair market value as if Murphy had continued to make payments under Law 42 at 50 per cent, plus interest. If the parties do not agree on the latter value within three months, \u201cthe Tribunal will then make the necessary findings\u201d (para. 504).<\/p>\n

Notes:\u00a0<\/em>The arbitral tribunal was composed of Bernard Hanotiau (President appointed by the co-arbitrators), Kaj Hob\u00e9r (Claimant\u2019s appointee), and Yves Derains (Respondent\u2019s appointee, appointed following the resignation of Georges Abi-Saab in December 2013). The award of May 6, 2016 is available at\u00a0http:\/\/www.italaw.com\/sites\/default\/files\/case-documents\/italaw7489_0.pdf<\/a>http:\/\/www.italaw.com\/sites\/default\/files\/case-documents\/italaw7336.pdf<\/a>.<\/p>\n

Ina\u00ea Siqueira de Oliveira<\/strong>\u00a0is a Law student at the Federal University of Rio Grande do Sul, Brazil.<\/p>\n