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September 21, 2012

CAFTA Investor Squeezes Guatemala for Millions, Cites Alternate Reality

You may recall that in June an international tribunal meted out its ruling on the first suit brought by a foreign investor against a national government under CAFTA.  The ICSID tribunal used an imaginative interpretation of CAFTA-enshrined investor rights to rule that Guatemala’s taxpayers should hand over more than $11 million to U.S.-based Railroad Development Corporation (RDC) after the company failed to restore Guatemala’s national railway.  Apparently not satisfied, RDC is now seeking to double its winnings. 

In case you missed the original story, in 1997 RDC won a government concession to rebuild Guatemala’s defunct national railroad in five phases.  Nine years later, the company had completed just one of those phases.  After negotiations with the company failed to rectify the investment delay, in 2006 Guatemala’s federal government pronounced an RDC contract to be “injurious to the interests of the state.”  This official executive act, established in the federal law of a half-dozen Latin American countries, initiated a legal process to determine whether the contract should be revoked.  Before the domestic case could produce any outcome, RDC accused Guatemala of violating CAFTA for the non-binding pronouncement alone.  While the company took advantage of Guatemala’s invitation to defend itself in the domestic legal process, RDC also launched an investor-state suit against Guatemala for infringing the company's CAFTA-protected right to a “minimum standard of treatment.”

In order to rule in favor of RDC, the ICSID tribunal—three private lawyers—shirked the definition of “minimum standard of treatment” employed by most sovereign states: affording due process.  (That is, the sort of due process that RDC was concurrently taking advantage of in Guatemala’s domestic courts).  Instead, they borrowed a far more expansive interpretation of the standard, not one relied on by states, but created by yet another ICSID tribunal.  This inventive “minimum standard” puts governments on the hook for any actions toward foreign investors that could be deemed “arbitrary” or even “idiosyncratic” (para. 219).  Proceeding with this definition unencumbered by longstanding state practice, the unelected tribunal then inserted itself unabashedly into the complexities of Guatemala’s domestic contract law to conclude that the country had violated CAFTA.  To compensate, Guatemala was ordered to pay RDC $11.3 million, plus over $2 million in backdated compound interest, plus tribunal fees incurred by RDC. 

You might see how one could take issue with this ruling.  Well, one has: RDC.  Apparently not content with the millions of dollars eked out of the tribunal’s anomalous legal interpretations, the company is now pushing for more compensation.  A lot more.  On Wednesday, Investment Arbitration Reporter revealed that RDC has asked the tribunal to correct alleged omissions and errors in its award determination.  RDC estimates that after a few tweaks in the award calculations, Guatemala actually owes RDC at least $16.4 million in addition to the over $13 million already awarded.  That is, RDC’s requested “corrections” amount to more than the award being “corrected.” 

To justify the brunt of its claim, RDC quotes a provision in the ICSID convention stating that tribunals “may…decide any question which it had omitted to decide in the award” (para. 2).  RDC then argues that the tribunal “failed to address” in its award the profits that RDC could have plausibly earned on its sunk investments in Guatemala, presumably envisioning a scenario free of alleged CAFTA infringements (para. 5).  RDC specifically requests compensation for the profits it could have made starting with its first investment in 1998 and ending with Guatemala’s pronouncement against its contract in 2006, a period in which the company saw consistent losses.  To be clear, here is what RDC is asking us to assume with this claim:

  1. Guatemala is to blame for RDC’s failure to turn a profit for the eight years prior to the legal pronouncement against RDC’s contract.  That is, Guatemala’s non-binding initiation of a legal process in 2006 not only hurt RDC’s business going forward, but somehow retroactively caused the company to lose money since its first investment in 1998.  
  2. Had Guatemala not committed this remarkably retroactive CAFTA crime, RDC would have earned an abnormally handsome profit in a hypothetical alternative investment scenario.  Ignoring the negative actual rates of return that it saw on its Guatemala investments, RDC picks a “theoretical” rate of return (para. 10) that it might have earned in a parallel universe of lucrative investments: a whopping 17.36% per year (para. 15).  By comparison, S&P’s index of 500 commonly-traded stocks grew at an average annual rate of 5% during the eight years in question.  RDC apparently believes that, despite its historical pattern of losses, an alternative scenario would have allowed the company to more than triple the success rate of an average investor. 

Using such novel logic, RDC argues that Guatemala owes the company an additional $14.2 million—money that RDC could have earned had it not chosen to invest in a country apparently capable of retroactive abuse.  

It’s difficult to explain RDC's logic.  Here’s one attempt: RDC operates in an alternative dimension.  In this dimension, cause and effect moves not only forwards, but backwards.  In this dimension, a poor-performing investor can expect to achieve rates of return to rival Warren Buffett.  In this dimension, Guatemala owes RDC another $14.2 million. 

It has yet to be seen whether the tribunal also lives in this investors’ Narnia.  Despite having proven itself to also be imaginative, the tribunal appears to have already rejected RDC’s claim that Guatemala is to blame for foregone prior profits.  In their June award, after noting RDC’s sizeable losses, the arbiters plainly stated, “The Tribunal considers that the funds invested by Claimant [RDC] to cover these losses represent the risks Claimant [RDC] took when investing in Guatemala and cannot be attributed to any action of Guatemala contrary to CAFTA” (para. 270).  As Guatemala argued last week in its retort to RDC’s claim, if Guatemala is not responsible for RDC’s losses, the government certainly cannot be expected to finance the company’s hoped-for profits (para. 19). 

As the tribunal ponders its response to an investor claim that seems more inspired by fantasy novels than international statutes, we will continue to monitor the troubling precedent of this first CAFTA case.  Will the taxpayers of Guatemala, already facing over $13 million in penalties for a fanciful interpretation of an investor’s rights, now watch their burden more than double to accommodate an even-more-fanciful understanding of that investor’s costs?  Stay tuned.  

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