Canada: The Occidental Tourist – Expropriation Claim Tests BIT Efficacy

Last Updated: July 28 2006

This article was originally published in Blakes Bulletin on International Trade, July 2006

Article by Ken Purchase, ©2006 Blake, Cassels & Graydon LLP

The outcome of Occidental Petroleum’s latest dispute with Ecuador will be an important test of the effectiveness of BITs in protecting overseas investor rights in volatile political climates.

Occidental files arbitration request over cancelled contracts

Occidental Petroleum Corporation (Occidental) filed a request on May 17, 2006 for arbitration claiming USD 1 billion in damages under the Ecuador-U.S. bilateral investment treaty (BIT). The request came two days after Ecuador unilaterally cancelled Occidental’s contracts and assumed control of its oil and gas operations in the country. Occidental claims that the cancellation and additional taxes recently imposed on oil revenues amount to an expropriation of its investment. For its part, the Ecuadorian government claims that the contracts were cancelled because Occidental breached the terms of its operating agreement by selling a portion of the oil field in question to Canadian petroleum company, EnCana. The dispute is only the latest between Occidental and Ecuador and its outcome will be an important test of the effectiveness of BITs in protecting overseas investor rights in volatile political climates.


The relationship between international oil companies and South American governments has been tumultuous in recent years amid a wave of nationalism that has seen the Bolivian government announce the nationalization of its petroleum industry and Venezuela’s Hugo Chavez declare that country’s intention to assume a controlling interest in the ownership of its energy sector. In Ecuador, Occidental was refused a USD 75 million tax refund, leading the petroleum company to launch its first arbitration claim under the U.S.-Ecuador BIT. That arbitration culminated in a USD 75 million award that was upheld by the British courts in March of this year.

In April, one month after Occidental’s arbitral award had been upheld, Ecuador implemented a tax requiring foreign oil companies to pay 50% of all revenues from production above a benchmark price. One month later it cancelled Occidental’s contract and assumed control of its operations within the country.

Ecuador’s justification for cancelling the contract rests on Occidental’s 2000 sale of a 40% interest in the field in question to Encana. Under its agreement with Ecuador, Occidental was not permitted to sell its rights without prior government approval. The sale to EnCana, however, made the transfer of legal title conditional upon a number of factors, including governmental approval. In 2004, four years after the EnCana transaction and shortly after the arbitral decision awarding Occidental USD 75 million, Ecuador initiated proceedings to have the contracts cancelled. EnCana has since sold its Ecuadorian interests to a Chinese joint venture but may be liable to pay compensation if Ecuador succeeds in seizing the assets. On May 15, 2006, the contracts were cancelled and two days later Occidental filed an expropriation claim under the Ecuador-U.S. BIT.

BITs Create Enforceable Investment Rules To Encourage Foreign Investment

A BIT is an agreement between two sovereign states establishing rules regarding the creation, acquisition and operation of investors of one party in the territory of the other party. BITs are intended to protect and encourage foreign investment by mitigating the risks associated with investing abroad through significant investment protections and access to binding international arbitration.

A key feature of these agreements is that private investors like Occidental are able to sue the foreign state, in this case Ecuador, directly for damages without the involvement or consent of Occidental’s government, in this case the U.S.

Rules governing expropriations

As is typical of investment agreements, the U.S.- Ecuador BIT does not prohibit expropriation but requires that any expropriation be taken for a public purpose, in a non-discriminatory manner in accordance with the due process of law and upon payment of prompt, adequate and effective compensation. It is immaterial whether the government formally expropriates assets or, as alleged by Occidental, does so under the guise of legal proceedings that have the effect of expropriating Occidental’s assets.

Compensation calculation will be a pivotal issue

The cancellation of Occidental’s contract seems to be a fairly unambiguous expropriation, but the question of the compensation due is complicated by the recent windfall tax introduced by Ecuador. Occidental claims that the 50% tax on revenues from production above a fixed price forms part of the expropriatory conduct and the decision on that issue will have a substantial impact on any compensation awarded.

The U.S.-Ecuador BIT specifies that compensation for expropriation is to be "equivalent to the fair market value of the expropriated investment immediately before the expropriatory action was taken or became known". The fair market value of Occidental’s investment is essentially the net present value of the income stream it expected to receive from the cancelled contracts. Immediately before the contract was cancelled, however, the expected income stream was subject to a 50% tax on revenues over a benchmark price. Occidental has characterized the introduction of this tax as part of Ecuador’s expropriatory conduct in an effort to receive compensation based on expected revenues without regard to the impact of this tax. If the introduction of the tax is not considered part of the expropriatory conduct, the contract revenues Occidental could have expected would be substantially reduced. While Occidental’s claim that the tax and the cancellation must be viewed together is intuitively appealing, the issue is complicated by the fact that the U.S.-Ecuador BIT generally excludes taxation measures.


In the face of increasing political volatility around the world, the progress of Occidental’s claim will be closely followed by investors, trade jurists and governments alike. The case represents an important test of the degree of security afforded by such agreements to overseas investors. The impact of the decision will not be limited to the parties and countries involved but could have significant implications for all foreign investors as well as existing and future investment treaties.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances

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