Ad hoc tribunal rules in favour of German energy investor

Frazer Solar GMBH v The Kingdom of Lesotho

In its January 2020 award, an ad hoc tribunal ordered the Kingdom of Lesotho to pay EUR 50 million to German investor Frazer Solar GMBH (Frazer) for breach of the investment contract for an energy project.

Background and claims

In 2013, Lesotho updated its energy policy to harness renewable energy and reduce reliance on fossil fuels and imported electricity. Subsequently, the claimant proposed a renewable energy project in November 2017 (“the project”), after which Frazer and Lesotho entered into a non-binding memorandum of understanding (“the MoU”). According to the MoU, the proposed project involved the installation of 36,000 to 40,000 solar water heating systems (SWHs) and up to 1 million light-emitting diode (LED) lights over a four-year period. The project would be funded by the German export credit agency, KfW IPEX-Bank GmbH (“KfW”) to the amount of EUR 100 million.

In September 2018, the parties concluded a written supply agreement based on the MoU. However, after the supply agreement was signed, the Minister of Finance of Lesotho, Minister Majoro, rejected KfW’s offer to finance the project. It was later reported in the local media that Minister Majoro had committed to another renewable energy project in Mafeteng in Lesotho, to be funded by a Chinese-owned state bank, EXIM Bank (para. 53).

On the assumption that the supply agreement would not be implemented, the claimant sent a letter of demand to the respondent alleging the breaches of the supply agreement by Lesotho. The Government of Lesotho did not respond to the letter or take any remedial action. On July 29, 2019, the claimant sent a letter to the Prime Minister and Minister Tsolo to notify the government of the termination of the supply agreement.

In August 2019, the claimant filed for ad hoc arbitration against Lesotho pursuant to Clause 24 of the supply agreement, alleging that Lesotho breached several obligations under the supply agreement. On August 8, 2019, the Chairperson of the Johannesburg Bar Council appointed a sole arbitrator as required by the claimant. The arbitration was seated in Johannesburg and was governed by South African Law. The claimant’s allegations included two sets of breaches. First, the claimant alleged that the respondent breached its obligations under Clause 17 of the supply agreement, according to which the respondent warranted that the project complied with all laws and had the necessary government approvals (para. 30.1.1); that the claimant was expressly authorized to commence implementation of the project without delay (para. 30.1. 2); that the respondent had signed the financing agreement prior to or concurrently with the signing of the supply agreement, and had agreed to be bound by the terms of the financing agreement; that the respondent agreed to remunerate the claimant for the work performed in accordance with the drawdown schedule set forth in the supply agreement (para. 30.1.4); and that the respondent would ensure the smooth implementation of the project without interruption or delay (para. 30.1.5).

Second, the claimant argued that the respondent breached Clause 18 of the supply agreement, which provided that for a period of 5 years from the date of commencement of the supply agreement, the respondent should give the claimant the first opportunity to undertake any other renewable energy or electricity generation opportunities in Lesotho (para. 30.2). Clause 18 of the supply agreement provides that (para.30):

GOL hereby grants FSG the first opportunity for all other energy, energy efficiency or electricity generation opportunities with GOL for a duration of 5 years calculated from the Commencement Date.

Based on the above allegations, the claimant sought payment of EUR 50 million in liquidated damages and the expected value of the profits that the project would have realized had the respondent complied with the supply agreement.

Allegations upheld by the tribunal

In support of its argument, the claimant relied on evidence of personal discussions, as well as negotiations for the conclusion of the MoU and the supply agreement between Frazer, the founder and managing director of the claimant, and the Lesotho government. The tribunal accepted the claimant’s evidence and upheld the allegations of a breach of Clause 17, under which the respondent guaranteed the timely and smooth implementation of the project (para. 100).

Several important factors were specified by the tribunal in reaching this conclusion. First, the tribunal considered that the claimant’s argument was adequately supported by the contemporaneous documentary evidence, despite the claimant being the only witness to testify.

Second, the tribunal took into account the existence of the contemporaneous tripartite correspondence between the claimant, Minister Tsolo, and KfW about KfW’s commitment to finance the project and the request by Minister Tsolo to KfW for a formal offer on this issue (para. 97).

Third, the tribunal also took note of the evidence showing the claimant’s intention to pursue the conclusion of the supply agreement before filing the arbitration. However, none of these documents of the claimant received a reply from the Lesotho government, which was considered “disconcerting” by the tribunal. (para. 99).

Moreover, the tribunal found that the Government of Lesotho did provide the warranties included in Clauses 17.1.1 to 17.1.3, and 17.1.5 to 17.1.7 and that its conduct constituted a breach of these obligations (para. 100). The tribunal also noted that some clauses (including 5.1.4 and 17.2) of the supply agreement explicitly addressed the importance of the timely implementation of the project (para. 101). The project was not implemented because the Minister of Finance refused to execute the finance agreement necessary for the project since he had already committed support to a competing renewable energy project in Mafeteng (para. 104).

Based on the above considerations, the tribunal concluded that the respondent had materially breached several clauses of the supply agreement. According to the tribunal, these clauses were crucial for the implementation of the project, and the breaches of them, therefore, related to the basis of the supply agreement (para. 105).

Allegations rejected by the tribunal

The tribunal nevertheless rejected the claimant’s contention that the respondent had violated Clause 18 of the supply agreement. According to Clause 18, the claimant was entitled to the contractual right of the first opportunity to execute additional renewable projects with the Government of Lesotho after the completion of the current project under the supply agreement (para. 107).  That is,  to establish a violation of Clause 18, the Mafeteng project would have to be competing for additional renewable projects in Lesotho after the current project was successfully conducted (para. 107).

However, the tribunal refused, even on the most generous consideration of the claimant’s evidence, to consider the Mafeteng project as such other renewable energy opportunity provided for in Clause 18 (para. 108). In this regard, the tribunal noted that the reason for the failure of the supply agreement was that Minister Majoro refused to sign the finance agreement with KfW due to  Minister Majoro’s commitment to the Mafeteng project, a direct competitor of the project under the supply agreement. Moreover, no evidence existed to prove that the Mafeteng project was an addition to the supply agreement. On the contrary, the tribunal noted that the two projects were in fact competing with each other, the survival of the Mafeteng project indicated the demise of the supply agreement (para. 108.4). Therefore, the Mafeteng project was not part of the “all other renewable energy … opportunities” after the completion of the supply agreement required by Clause 18. Having found this, the tribunal concluded that the claimant had not successfully established a contractual violation by the respondent under Clause 18 of the supply agreement (para. 109).

Compensation

The tribunal stated that the claimant was entitled to recover damages arising from the above breaches, i.e., the damages referred to as liquidated damages in its main claim or loss of profits in its alternative claim (para.110). The compensation should place the claimant in the same position possible as it would have been had the respondent not breached the terms of the supply agreement without exposing it adversely or beneficially to the fluctuations of the exchange rate between the euro and the local currency Malotis (para. 114.3). As such, the tribunal eventually awarded liquidated damages, as elected by the claimant, at EUR 50 million in accordance with Clause 12 of the supply agreement (para. 112).

The tribunal set the interest for liquidated damages at the rate of 1.7% per annum, or EUR 2,328 per day. For the pre-award interest, the tribunal calculated the period from the claimant’s communication with the respondent on March 11, 2019, about the breaches to the date of the delivery of the award. This added up to an amount of EUR 754,273 for the pre-award interest.

Note: The tribunal was composed of a sole arbitrator, Vincent Maleka SC, appointed by the Chairperson of the Johannesburg Bar Council. The award, dated January 28, 2020, is available at https://jusmundi.com/en/document/decision/en-frazer-solar-gmbh-v-the-kingdom-of-lesotho-arbitration-award-tuesday-28th-january-2020

Anqi Wang is an international economic law intern at IISD and a Ph.D. researcher at the World Trade Institute, University of Bern.