Can an ICSID Arbitral Award Be Annulled Due to Errors in Applying a Bilateral Investment Treaty? The Sempra Case Explained

Japanese Attorney at Law - Bengoshi L.L.

• 9 min read

Investment treaty arbitration, particularly under the auspices of the International Centre for Settlement of Investment Disputes (ICSID), provides a critical mechanism for foreign investors to seek redress against host states for breaches of international investment agreements (IIAs), most commonly Bilateral Investment Treaties (BITs). A cornerstone of the ICSID system is the finality of its awards. However, the ICSID Convention itself provides limited grounds upon which an award can be annulled by an ad hoc committee. One of the most debated grounds is "manifest excess of powers" by the arbitral tribunal. The annulment decision in Sempra Energy International v. The Argentine Republic (ICSID Case No. ARB/02/16), issued on June 29, 2010, provides a stark illustration of how an ad hoc committee might find such an excess of powers based on the tribunal's perceived failure to properly apply a key provision of a BIT.

I. The Sempra v. Argentina Dispute: Background

The dispute arose from investments made by Sempra Energy International (Sempra), a U.S. company, in Argentina. Sempra held indirect interests in two Argentine companies licensed to distribute natural gas within the country. In the early 2000s, Argentina experienced a severe economic crisis, prompting the government to implement a series of emergency measures. These included the "pesification" of tariffs (converting dollar-denominated tariffs into pesos at a one-to-one rate despite a significant devaluation of the peso) and other unilateral alterations to the regulatory framework governing the gas distribution licenses.

Sempra initiated ICSID arbitration against Argentina on September 11, 2002, alleging that these governmental measures breached various provisions of the Bilateral Investment Treaty between the United States and Argentina (the U.S.-Argentina BIT), including the obligation to provide fair and equitable treatment (FET) and protections against expropriation.

In its defense, Argentina invoked, among other things, the state of necessity. It argued that its actions were justified under both customary international law (as reflected in Article 25 of the International Law Commission's Articles on State Responsibility) and, crucially, under Article XI of the U.S.-Argentina BIT. Article XI of the BIT allowed either party to take measures necessary for the maintenance of public order, the fulfillment of its obligations with respect to the maintenance or restoration of international peace or security, or for the protection of its own essential security interests.

II. The Initial ICSID Tribunal Award (September 28, 2007)

The arbitral tribunal, after extensive proceedings, rendered its award on September 28, 2007. It found in favor of Sempra, concluding that Argentina had breached its obligations under the U.S.-Argentina BIT, particularly the FET standard and the umbrella clause (which typically requires the host state to observe specific commitments made to investors). Sempra was awarded approximately USD 128.25 million, plus interest and costs.

Central to the subsequent annulment proceedings was the tribunal's treatment of Argentina's necessity defense:

  1. Customary International Law Necessity: The tribunal analyzed Argentina's actions against the stringent requirements for a plea of necessity under customary international law, as articulated in Article 25 of the ILC Articles. It concluded that Argentina had failed to meet these requirements, particularly finding that Argentina's measures were not the "only way" to safeguard its essential interests and that Argentina had contributed to the situation of necessity.
  2. BIT Article XI (Treaty-Specific Necessity Clause): The tribunal then considered BIT Article XI. It reasoned that this treaty provision should not be interpreted in isolation from customary international law. The tribunal noted that the term "essential security interests" within BIT Article XI was not defined in the treaty itself and thus should be understood in light of customary international law principles. Having already determined that the conditions for necessity under customary international law (ILC Article 25) were not met, the tribunal concluded that it did not need to conduct a separate, independent analysis of whether BIT Article XI provided a distinct defense. In essence, it appeared to view the BIT Article XI defense as being subsumed by, or at least heavily conditioned upon, the customary international law standard.

III. The Annulment Proceedings: A Challenge to the Award

Dissatisfied with the award, Argentina filed an application for annulment with ICSID on January 25, 2008. The application was based on several grounds listed in Article 52(1) of the ICSID Convention, which are the exclusive grounds for annulling an ICSID award. The key ground that ultimately led to the annulment was Article 52(1)(b): that the tribunal had "manifestly exceeded its powers."

IV. The Ad Hoc Committee's Decision (June 29, 2010): Annulment Granted

The ad hoc committee, tasked with reviewing the award under the narrow constraints of Article 52, issued its decision on June 29, 2010, annulling the tribunal's award in its entirety.

The committee's central reasoning focused on the tribunal's handling of BIT Article XI:

  • Failure to Apply the Applicable Law (BIT Article XI): The committee found that the tribunal had effectively failed to apply Article XI of the U.S.-Argentina BIT as an autonomous treaty provision. It disagreed with the tribunal's approach of linking the application of BIT Article XI so closely to the satisfaction of the customary international law standard of necessity.
  • Distinction Between Treaty Law and Customary Law: The committee emphasized that BIT Article XI and ILC Article 25 (customary international law) were distinct legal standards with potentially different requirements and effects. It reasoned that parties to a BIT specifically negotiate and agree upon its terms, including any specific necessity clauses like Article XI. Such a treaty provision, as part of the lex specialis agreed between the states, deserved independent application.
  • Manifest Excess of Powers: The committee concluded that by not undertaking a distinct analysis of whether Argentina's actions were justified under the specific terms of BIT Article XI, independent of its findings on customary international law, the tribunal had failed to apply a part of the applicable law chosen by the disputing parties (since the BIT was the primary source of Argentina's obligations and Sempra's rights). This failure, in the committee's view, was not merely an error in legal interpretation or application but constituted a "manifest excess of powers" because the tribunal did not exercise the jurisdiction it actually had – which was to apply all relevant provisions of the BIT. The committee stated that "a failure by the Tribunal to apply the relevant law, in this case Article XI of the Treaty, amounts to a manifest excess of powers."

The committee distinguished this from a mere error in law, stating that "If a tribunal addresses the claim put to it and makes a mistake of law, that is not an excess of powers... But if it addresses a claim different from the one put to it, or fails to address the claim put to it, that may be a manifest excess of powers." Here, the claim involved defenses under BIT Article XI, which the committee found the tribunal did not adequately address on its own terms.

V. Understanding "Manifest Excess of Powers" in ICSID Annulment

The ICSID annulment mechanism is not an appeal. An ad hoc committee cannot review the merits of a tribunal's decision, its factual findings, or its interpretation of the law simply because the committee might have reached a different conclusion. Article 52(1) of the ICSID Convention provides five exclusive and narrowly construed grounds for annulment:
(a) the Tribunal was not properly constituted;
(b) the Tribunal has manifestly exceeded its powers;
(c) there was corruption on the part of a member of the Tribunal;
(d) there has been a serious departure from a fundamental rule of procedure; or
(e) the award has failed to state the reasons on which it is based.

The ground of "manifest excess of powers" (Article 52(1)(b)) generally refers to situations where the tribunal acts outside the scope of the parties' consent to arbitrate or the jurisdictional limits defined by the ICSID Convention and the relevant IIA. This can include:

  • Deciding matters not submitted to it by the parties (ultra petita).
  • Failing to decide matters that were submitted to it (infra petita).
  • Disregarding fundamental limitations on its authority imposed by the instrument of consent (e.g., the BIT).

A critical distinction, often debated in annulment proceedings, is between a mere error of law (misapplication or misinterpretation of the applicable law) and a manifest excess of powers. Generally, an error of law, even a clear one, is not a ground for annulment. Tribunals are permitted to be "wrong" on the law without their award being subject to annulment. However, the line can blur. A failure to apply the law that the parties agreed would govern their dispute, or a complete disregard for the applicable legal framework, can sometimes be characterized as the tribunal stepping outside its mandate and thus manifestly exceeding its powers. The Sempra ad hoc committee took the view that the tribunal's failure to give independent effect to BIT Article XI crossed this line from mere error to an excess of power.

VI. Diverging Approaches: Sempra in Context with CMS and Enron

The Sempra annulment decision did not occur in a vacuum. It was one of several high-profile cases arising from the Argentine economic crisis where similar necessity defenses were raised and ICSID awards were subsequently challenged. The outcomes of these annulment proceedings were not uniform, leading to considerable debate:

  • CMS Gas Transmission Company v. Argentine Republic: In this earlier case, an ad hoc committee reviewed an award where the tribunal had also dealt with Argentina's necessity defense. The CMS committee (2007) found that the tribunal had indeed erred in its legal reasoning, particularly in how it related BIT Article XI to customary international law. However, unlike the Sempra committee, the CMS committee concluded that the tribunal had applied BIT Article XI, albeit defectively. This, in the CMS committee's view, was an error in the application of law, not a failure to apply the law or a manifest excess of powers. The award was therefore not annulled on this ground. Many commentators viewed the CMS decision as correctly maintaining the narrow scope of annulment review.
  • Enron Corporation v. Argentine Republic: In another decision issued shortly after Sempra, a different ad hoc committee also annulled the award against Argentina. While the reasoning had its own nuances, it included findings that the tribunal had failed to properly exercise its adjudicative function regarding the necessity defense, such as by not making its own independent findings on certain elements of the defense and improperly relying on expert reports. This decision also faced criticism for potentially overstepping the bounds of annulment review and delving into the merits of the tribunal's reasoning process.

These divergent outcomes in factually similar cases involving the same host state and similar treaty provisions raised concerns about the consistency and predictability of the ICSID annulment system. Critics argued that some ad hoc committees, like the one in Sempra, were effectively acting as appellate bodies, scrutinizing the tribunal's legal reasoning to a degree that went beyond the limited review permitted by Article 52. There was a perception that these decisions represented a regression from an earlier trend of "third-generation" annulment committees that had adopted a highly deferential stance, intervening only in cases of truly fundamental error.

VII. Implications for Investors and Host States

The Sempra annulment decision, and the surrounding jurisprudence, carries significant implications:

  • For Arbitral Tribunals: It serves as a strong reminder of the need to meticulously address and apply all relevant provisions of the applicable investment treaty. Treaty-specific clauses, such as necessity or essential security interest clauses, must be given their own independent analysis and effect, rather than being too readily assimilated into, or overridden by, general principles of customary international law.
  • For Investors: While BITs and the ICSID Convention offer robust protections, the Sempra case demonstrates that even awards from experienced tribunals can be vulnerable to annulment if an ad hoc committee finds a "manifest excess of powers," particularly related to the application of core treaty provisions. It highlights the narrow but real risk associated with the annulment process. It also underscores the importance of ensuring that claims and defenses are squarely based on, and argued within the framework of, the specific treaty in question.
  • For Host States: The decision confirms that annulment remains a potential, albeit limited, recourse if a tribunal is perceived to have fundamentally disregarded the terms of the state's consent to arbitration as expressed in the BIT. It reinforces the idea that tribunals are bound by the specific legal framework agreed upon by the contracting states.
  • The System's Integrity: The varying outcomes in the Argentine crisis annulment cases fueled debate about the proper role and scope of review by ad hoc committees. It highlighted the inherent tension in the ICSID system between ensuring the finality of awards – crucial for investor confidence – and providing a mechanism to correct awards tainted by fundamental jurisdictional or procedural errors that undermine the legitimacy of the process.

Conclusion

The annulment of the ICSID award in Sempra Energy International v. Argentina illustrates the complexities and potential pitfalls within the investment arbitration system. While Article 52 of the ICSID Convention provides for a very limited review, the interpretation of grounds like "manifest excess of powers" can be contentious. The Sempra ad hoc committee's decision to annul, based on its finding that the tribunal failed to properly apply a specific provision of the U.S.-Argentina BIT (Article XI) as distinct from customary international law, underscores that such a failure can, in the eyes of a committee, transcend mere legal error and constitute a fundamental defect warranting annulment.

This decision, particularly when viewed alongside contrasting outcomes in similar cases like CMS, highlights the critical importance for arbitral tribunals to engage in a thorough and distinct application of the specific treaty provisions agreed by the states. For U.S. businesses and other investors relying on BIT protections, it serves as a reminder that while ICSID arbitration offers a powerful remedy, the process, including the potential for annulment, requires careful navigation and a deep understanding of the applicable treaty law. The jurisprudence in this area continues to develop, emphasizing the need for ongoing attention to the standards applied by ad hoc committees in safeguarding the integrity and finality of the ICSID system.