Koch Industries, Inc. and Koch Supply and Trading, LP v. Canada, ICSID Case No. ARB/20/52, Award, March 13, 2024

Summary

In an award rendered on March 13, 2024, an ICSID tribunal concluded that the claimants, Koch Industries Inc. (Koch Industries), an American company headquartered in Kansas, and its subsidiary Koch Supply & Trading (KS&T) based in Delaware, did not possess investments protected under NAFTA when they acquired emission trading allowances under Ontario’s Cap and Trade Program and, as a result, they could not contest the allowances’ cancellation. The tribunal ruled that the emission trading allowances purchased under the abovementioned program did not fulfill the criteria of Ontario’s common law definition of “property,” thus disqualifying them from protection under NAFTA Article 1139(g). Additionally, as the claimants lacked significant business operations in Ontario and had only participated in auctions related to cross-border emissions trading within the province, their activities did not fall within the purview of Article 1139(h), which relates to “interests in the economic activities of the host state.”

Background of the dispute

In 2016, Ontario implemented a cap-and-trade program for carbon emissions as part of the Western Climate Initiative, a collaborative venture involving regional governments from the United States and Canada aimed at establishing an emissions market. KS&T acquired a significant amount of emission trading allowances during the auctions held in 2017 and 2018 while transferring the majority to California, which was participating in the initiative. Following a political transition in June 2018, Ontario announced its intent to discontinue the program and cancelled the scheduled auctions. This auction prompted California to cease recognizing previously obtained Ontario allowances, thus hindering KS&T’s ability to transfer certain recently acquired allowances out of Ontario. In October 2018, Ontario formally terminated the Cap and Trade Program, including existing emission allowances, without providing compensation to “market participants,” including Koch Industries and KS&T. In December 2020, the claimants initiated an ICSID arbitration, disputing the cancellation of their emission trading allowances under NAFTA’s Legacy Investments provision. In its decision, the tribunal also examined the disputed burden of proof concerning jurisdictional matters, aligning with Canada and the United States that the claimants bore the burden of proving the ownership of property rights according to Ontario’s law while emphasizing the requirement under international law for both parties to substantiate their claims.

Jurisdiction under NAFTA Article 1139(g) with respect to KS&T’s emission allowances

1. The tribunal rules on whether the Ontario or Canadian Courts have established a general “legal test” or general interpretative principles for property

Canada contested the claimants’ position that emission trading allowances qualify as protected investments under NAFTA and thus fall under the category of “property” within the scope of Article 1139(g) as international law provided an expansive interpretation of the term. The respondent disputed this assertion, underscoring that (i) emission allowances lacked “core common law characteristics of property rights”; (ii) the Cap and Trade Act and its regulations did not declare emission allowances as a form of property; (iii) existing court decisions in Ontario did not address the issue. Drawing upon Lion v. Mexico, the tribunal stated that when no express definition of “property” is found in NAFTA or international law, it is the host state’s law that should determine the definition of the term, namely, “whether the object in question satisfies that definition,” and whether the said property rights are “vested in the claimant.” Despite Canada’s objections, the tribunal went on to evaluate whether the allowances aligned with Ontario’s common law definition of property by reviewing a range of Canadian judicial rulings on intangible property rights so as to conclude that no general “legal test” or interpretative principles determining the existence of property can be identified in these cases. Instead, “they address a much more limited question regarding particular assets under different statutory schemes or instruments without setting out a definitive list of property attributes under common law or examining the nature and scope of such attributes in any detail” (para. 238).

More precisely, (i) in Saulnier, the Canadian Supreme Court determined that fishing licences constituted property for the purposes of bankruptcy proceedings and within specific statutory contexts, emphasizing the criterion of “exclusivity” while highlighting that “that there is not a fixed list of criteria under general common law”; (ii) in Anglehart, the Federal Court of Appeal delineated a distinction from Saulnier, asserting that fishing licences or quotas do not fall within the ambit of property, primarily due to the government’s wide-ranging powers; (iii) in Tucows, the Ontario Court of Appeal recognized Internet domain names as intangible property based on the criterion of “exclusivity” and the alignment with “common law property attributes”; and (iv) in Bouckhuyt, the Ontario Court of Appeal determined that tobacco-growing quotas did not constitute property rights due to their transitory nature and governmental control, echoing the concerns raised by Saulnier over the importance of discretionary revocability in assessing property rights. Having reviewed the above decisions, the tribunal determined that absolute governmental discretion was incompatible with the common law concept of “property” and the criterion of “exclusivity”; however, similarities between intangible statutory creations and traditional property forms could imply the existence of property but are still insufficient to establish property rights under common law.

2. Relevance of non-Canadian case law

Following the parties’ submissions and for the sake of completeness, the tribunal engaged in a comparative analysis of selected decisions from the CJEU and U.S. courts to identify additional and relevant interpretative principles consistent with the Canadian approach. After having noted that both the CJEU and U.S. courts lacked definitive positions on the legal status of greenhouse gas emission allowances in the presented cases, it turned to the English court ruling in Armstrong DLW GMBH v. Winnington Networks. In this case, the court dealt with the characterization of emission allowances under the EU’s Cap and Trade Scheme, finding that they qualified as “intangible property due to their identifiable nature, transferability, and degree of permanence.” While acknowledging Armstrong’s similarity to the case at hand, the tribunal identified important differences in the applied test compared to the Canadian decisions, which focused on the element of “exclusive control” and, thus, considered it not entirely indicative of how Canadian courts would assess emission allowances.

3. The “exclusive control” criterion

As part of its assessment of the claimants’ emission allowances under NAFTA, the tribunal focused on whether they had “exclusive control” over the rights derived thereof. It noted that the Cap and Trade Program aimed at creating a “regulatory scheme to reduce gas emissions, protect the environment, transit to a carbon low [sic] economy” while allowing Ontario “to coordinate its actions with other jurisdictions” (para. 275). The tribunal reasoned that the program imposed “significant limitations to the holders’ control and use of emission allowances,” due to the government’s considerable discretionary authority over (inter alia) their allocation, creation, and cancellation. Therefore, the tribunal concluded that the allowances did not meet the criteria for property under Ontario law or investments under NAFTA Article 1139(g) due to the “degree of discretion, control, and interference by the Government [which was] inconsistent with the concept of “exclusive control” [that] both parties [claimed] to be at the core of property rights” (para. 316).

Jurisdiction under NAFTA Article 1139(h) with respect to KS&T’s emission allowances

The claimants argued that the emission allowances, along with KS&T’s carbon trading business in Ontario, qualify as “interests arising from the commitment of capital and other resources” to economic activity in Ontario and, thus, meet the requirements set in Article 1139(h) of NAFTA. Interpreting Article 1139(h) in accordance with the rules on treaty interpretation (Articles 31 and 32 of the VCLT), the tribunal noted it contains a general description of the “interests” that give rise to an investment, a chapeau, and two sub-paragraphs, which refer to certain examples and constitute highly relevant context that clarifies the type of interests covered. Relying on the precedent set in the Grand River v. US and the Lion v. Mexico, the tribunal recognized that “interests” should exhibit characteristics akin to the illustrative interpretative examples of the article’s sub-paragraphs, namely (i) “presence of property in the territory of the host State,” and (ii) “remuneration [dependent] on the production, revenues or profits” (paras. 348–352). As a result, KS&T’s emission allowances were deemed not to qualify as “interests” since they did not grant it “a legal share in any asset or resource,” while its trading activities (i.e., the purchase of emission allowances in the primary market and their resale in the secondary market) were found not to align with the examples provided in Article 1139(h) due to KS&T’s lack of business operations in Ontario. Given that KS&T’s trading operations were U.S.-based with no proven link to Ontario’s economic activities, the tribunal decided that, despite comparisons with cases such as the Apotex v. US and the Canadian Cattlemen v. US, KS&T’s cross-border trade, including auctions and emissions allowances transfers, did not qualify as “protected investment.”

Jurisdiction ratione materiae over Koch Industries

The claimants argued that the tribunal had jurisdiction over Koch Industries based on its indirect ownership of emission allowances through KS&T and the ownership of Canadian enterprises. However, the tribunal dismissed both claims, stating that the claimants had abandoned their argument that their 100% ownership of KS&T constitutes an investment under NAFTA Article 1139(a) due to KS&T being a U.S. entity, not a Canadian one. Concerning Koch Industries’ indirect interests in KS&T’s emission allowances, the tribunal had already determined that emission allowances did not meet the criteria for protected investments. Lastly, Koch Industries’ ownership of other Canadian entities did not grant jurisdiction either, absent a clear connection between the disputed measure and the investments in question. Referring to the Poštová banka v. Hellenic Republic case, the tribunal followed the “costs lie where they fall approach” and ordered the parties to “bear the costs of arbitration equally.”

Conclusion

The present decision, though lacking de jure precedential value, represents a commendable shift away from abstract definitions of property. The tribunal’s choice to assess whether emission allowances qualify as protected investments through the prism of the host state’s property law is particularly welcome, as it diverges from the often-nebulous definitions of property included in international agreements, which are most of the time highly disconnected from the definitions included in the relevant municipal laws. As Professor Douglas has aptly demonstrated, “general international law contains no substantive rules of property law. Nor do investment treaties purport to lay down rules for acquiring right in rem over tangible or intangibles.”^[1] Therefore, by grounding its analysis in the host state’s legal framework, the tribunal effectively ensures an enhanced level of consistency and predictability that investment arbitration has been severely criticized as lacking due to its fragmented nature (especially compared to what has been described as the “ultimate fiasco in investment arbitration,” namely the contradictory outcomes in the CME v Czech Republic and Lauder v Czech Republic cases).^[2]

Note

The tribunal was composed of Eduardo Zuleta (president, Colombian national), Henri Alvarez (claimant’s appointee, Canadian national), and Professor Andrea Bjorklund (respondent’s appointee, U.S. national)

Author

Vasiliki Dritsa is a PhD candidate in international investment law and a research assistant at the Geneva Graduate Institute (IHEID).

[1] Douglas, Z. (2009). The international law of investment claims. Cambridge University Press; p. 52, para. 101.

[2] Annacker, C. (2023). Fragmentation and integration in international investment law: Plus ça change. ICSID Review, 38(3), p. 501; Reinisch, A. (2008). The proliferation of international dispute settlement mechanisms: The threat of fragmentation vs the promise of a more effective system? Some reflections from the perspective of international arbitration. In I. Buffard et al. (Eds.), International law between universalism and fragmentation: Festschrift in honour of Gerhard Hafner, 116. Brill.