Canada: NAFTA Creates New Scope For Expropriation Claims

For years, Canadian businesses have attempted, without success, to use the law of expropriation to obtain compensation for losses arising from legislative changes which have a negative impact on their ownership or use of property. A recent example involved a challenge in Ontario to changes in landlord and tenant legislation. However, unless the express provisions of the legislative regime have been engaged, Land Compensation Tribunals and Canadian Courts have been loath to find that a compensable interest has been affected. In cases where the claim of expropriation stems from the passing of new legislation that adversely affects a given business venture, Canadian investors are often left without a remedy.

Chapter 11 of The North American Free Trade Agreement (the "NAFTA") creates the opportunity to obtain compensation where the Canadian law of expropriation does not. Compensation is provided by NAFTA governments for the full market value of the property that is taken away or subject to unreasonable interference. One of the objectives of Chapter 11 is to protect companies from the expropriation of their investments in NAFTA participating countries by ensuring that they enjoy, at a minimum, the same treatment as other investors, whether national or foreign, in the host country. Qualifying international investors – or Canadian companies with some international investment, may be eligible to apply for arbitration under Chapter 11 of the NAFTA to settle disputes arising from losses caused by expropriation or regulatory failures. This process significantly expands the type of claim for which compensation is available.

Despite the NAFTA’s eight year history, only 7 claims have been launched against Canada since the inception of the NAFTA in 1994. A brief review of the claims brought to date is instructive in appreciating the scope of this underused remedy (A discussion of the principal provisions of Chapter 11 follows).

In 1997, the Canadian government banned a fuel additive called MMT. Ethyl, an American corporation with a subsidiary in Ontario, produced MMT for Canadian gasoline refiners. Ethyl claimed compensation in the amount of US $250 million, stating that the government’s action was an indirect expropriation of its assets. The claim was settled in April 1998 for US $13 million, and the law prohibiting the interprovincial transport of MMT was repealed.

Pope & Talbot owns sawmills in British Columbia, and exports timber to the United States. Pope & Talbot claimed that irregularities in the implementation of the Softwood Lumber Agreement between Canada and the United States have decreased the value of their investment. On April 10, 2001, they were awarded judgement on the basis that the Canadian Government had failed to meet basic standards of fairness and due process at international law in the calculation and allocation of the Softwood Lumber Agreement. Their claim was for a total of US $500 million.

While the panel agreed with Pope & Talbot that the drafters of Chapter 11 clearly intended the national treatment provisions to cover individual investors and singular investments, they nevertheless found that Canadian Softwood Lumber Producers were being treated in the same manner as Pope & Talbot, and therefore that there was no breach of the national treatment provisions. The panel was careful to note that the dispute was about national treatment in the implementation of the Agreement, not about treatment under the Agreement itself.

On January 19, 2000, United Parcel Service (America) filed a claim stating that UPS Canada is not being treated in the same manner as Canada Post. In an ongoing dispute, UPS argues that Canada Post is using its existing mail delivery infrastructure to compete in the courier delivery market, and, since the Canada Post delivery infrastructure is subsidized by government, that this is unfair to UPS.

Sun Belt Water is a California-based company that exports water from British Columbia under the provisions of that province’s Water Act. It claims that the British Columbia Government made a secret agreement with Western Canada Water Enterprises Ltd. that adversely affected Sun Belt’s ability to profit, contrary to the national treatment, most favoured nation treatment, minimum standard of treatment and performance requirements of Chapter 11 of the NAFTA.

S.D. Myers International ("SDMI") is an Ohio-based waste treatment company that was importing PCB contaminated waste from Canada. In 1995, the Canadian government imposed a temporary ban on exports of PCB waste, permitting Canadian companies to continue to deal in PCB contaminated waste, while SDMI, an American company, could not. In 1998, SDMI claimed that the Canadian ban amounted to a violation of the national treatment, minimum standard of treatment, performance requirements and expropriation provisions of the NAFTA. SDMI has claimed US $20,000,000 in damages.

On November 13, 2000, the panel decided that Canada’s actions were in breach of the national treatment and minimum standard of treatment provisions, but that because the ban on PCB exports was temporary, it did not constitute expropriation. Although the panel has not yet calculated the amount of the award that SDMI is entitled to, the Canadian government has already applied to the Federal Court of Canada to have the award set aside.

Ketcham and Tysa hold shares in a mill in British Columbia which exports timber to the United States under the Softwood Lumber Agreement. In their notice of intent, Ketcham and Tysa claim that Canada has breached the national treatment, most favoured nation treatment, minimum standard of treatment, performance requirements and expropriation provisions of the NAFTA, through the allocation of the Softwood Lumber Quota. It has claimed that mills owned by Canadian companies received higher quotas than the quota allocated to its mill. Notice of withdrawal of the claim has just been received.

This was the first claim filed under Chapter 11. Signa is a Mexico based corporation, and the suit involved the Canadian government preventing Signa from manufacturing an antibiotic for the Canadian market. The suit was settled in 1996 for an undisclosed sum, and no other details about this case have been published.

Chapter 11 of the NAFTA is entitled "Investment" and covers investor-state relations between investors (described below) and Parties to the NAFTA – the governments of Canada, the United States, and Mexico. Chapter 11 sets out the primary obligations which NAFTA Parties must follow.

Unlike the other provisions of Chapter 11, liability under Article 1110 is not triggered by conduct that is unlawful or contrary to the NAFTA. Expropriations that are conducted for a public purpose, are non-discriminatory and carried out in accordance with due process of law are lawful provided that compensation is paid to the investor by the host state. Article 1110 provides investors with security in that there must be procedures in place before investors make investments, and ad-hoc measures, implemented after the investors have made their investment, will not be tolerated. Significantly, Article 1110 is not limited to interests in real property and includes measures that are not an actual expropriation, but "tantamount" to. While every regulation will necessarily have some economic impact, only those that have the effect of functionally expropriating property are intended to trigger rights under Chapter 11.

The award of the panel in the SDMI case provides some guidance in understanding the scope of Article 1110. The panel stated that the expropriation claim made by SDMI could not succeed for the following reasons:

1. the measures taken by the Canadian government were not permanent.
2. The government was not enriched through the measures taken (there was no clear transfer of wealth);
3. Government regulation is not necessarily expropriation (although it can rise to that level on occasion); and
4. Other protections were available to SDMI and the panel was reluctant to "mis-label" the award as an award under Article 1110.

The panel also stated that the term "tantamount" was to be interpreted as "equivalent", with the implication that the term did not expand the definition of expropriation. Note, however, that in the Ethyl case there was no transfer of wealth to the Government of Canada.

This section guarantees that a foreign investor is to be treated in the same way by the local government as a local investor would be. It allows for more favourable treatment, but not less favourable treatment. Article 1102 also states that the local government cannot impose restrictions on a foreign investor with respect to disposition of an investment or management of the investment solely because that investor is foreign.

This provision provides a "floor" below which the treatment of international investors cannot fall. Significantly, this may mean that international investors are actually treated better than their domestic counterparts. Article 1105 provides investors with a remedy when they have been treated unfairly or in an arbitrary manner when compared to domestic investors or from the perspective of international law.

Article 1106 prevents a party from regulating the behaviour of investors through domestic content or export requirements. The provision is intended to ensure that investors are protected from government action which requires them to change the way they do business where there is no overwhelming public policy reason for the change.

Defined investors, enterprises and parties are eligible to make a claim within three years of when an alleged breach of the NAFTA is known or ought to have been known. For the purposes of the NAFTA, an investor must be a citizen or permanent resident of a NAFTA country, or Party. An investor can also be the government of a NAFTA country or a state enterprise of a NAFTA country. In the case of an enterprise, the investor need not be a NAFTA citizen – it is enough that the enterprise is organized according to the laws of a NAFTA country. In this sense, the definition of an investor is much broader than in other bilateral trade agreements. Foreign parent companies of domestic subsidiaries can be considered investors for the purposes of a claim under Chapter 11. However, in the case of a corporation that is controlled by non-Party investors, benefits may be denied if the enterprise does not have substantial business interests in the NAFTA country under whose laws it is organized. The NAFTA also specifies that an individual or corporation with an investment in a NAFTA country may make a claim under Chapter 11.

The definition of investment is expansive and includes almost any type of ownership interest. For example, an investment is: a share of a business, a debt security, a loan to a business incorporated in the NAFTA country, or any business interest that would entitle the investor to income or profits. The broad scope of entitlement to make a claim leaves open the possibility that an individual could raise a Chapter 11 claim on the basis of an interest in a contract that has not yet been performed.

In Canada, many of the recent claims under Chapter 11 have been initiated by the foreign (typically American) parent corporations of domestic companies. The NAFTA dispute resolution process is well suited to claims from companies with this structure, as it can address directly, government action that has an international effect. The NAFTA process is not limited in the quantum of damages that can be sought, or number of claims filed. Recent claims have ranged from approximately US $10 million to upwards of US $200 million.

The Articles that make up Chapter 11 of the NAFTA have the potential to provide significant protection for foreign investors in North America. These protections would apply not only to American companies or individuals investing in Canada, but to an individual or corporation that has an investment in a country that is a party to the NAFTA. The arbitral process is relatively simple and powerful. Chapter 11 provides a unique opportunity for qualifying investors to protect their investment or business interests. With only a handful of cases having been decided by the arbitral tribunal, the true potential of this mechanism has yet to be fully explored.

By comparison to NAFTA qualifying investors, domestic investors are limited by the Canadian law of expropriation. All attempts to date at broadening the scope of compensation have been shut down. Compensation is only available in relation to the taking of an interest in land pursuant to the exercise of statutory authority. As a consequence, wholly owned Canadian companies may find themselves at a competitive disadvantage to foreign investors who are able to avail themselves of the NAFTA arbitration process. As the opportunities afforded by the NAFTA become better known and understood, we may find business’ making investments in fields subject to significant legislative change structuring their affairs to qualify under this process.