The Ontario Court of Appeal has held that the standard of review to be applied by a court on an application under the United Nations Commission on International Trade Law Model Law to set aside an arbitral award made under Chapter 11 of the North American Free Trade Agreement (NAFTA) on the grounds of jurisdictional error is 'correctness', not 'reasonableness'. However, in Mexico v Cargill, Incorporated(1) the court held that the NAFTA tribunal did not make a jurisdictional error when it ordered Mexico to compensate Cargill for losses that it suffered at its production facilities in the United States, in addition to losses suffered by Cargill's subsidiary in Mexico. The court's decision, which Mexico is seeking leave to appeal to the Supreme Court of Canada, has broad implications concerning the scope of investment treaty protection and the liability of host states for losses suffered from investments made outside their borders.
Cargill, a US company, owned Cargill de Mexico, a Mexican company. In 1993 a division was established within Cargill de Mexico to begin selling high fructose corn syrup (HFCS) in Mexico. HFCS is a sugar substitute used in soft drinks. Cargill de Mexico did not produce HFCS. Instead it purchased HFCS from its parent, Cargill, which manufactured the HFCS in the United States.
In 1997, to protect the Mexican cane sugar industry, Mexico imposed anti-dumping duties with respect to HFCS imported from the United States. This led to proceedings brought by the US government against Mexico in the World Trade Organisation (WTO), and ultimately the revocation of the anti-dumping duties. In 2001, in the context of a broader dispute with the United States over trade in sweeteners, Mexico imposed a new 20% tax on the sale or import of soft drinks containing sweeteners other than cane sugar. This measure was also challenged before the WTO. The challenge was successful, with the WTO Appellate Body finding that the new tax violated the General Agreement on Tariffs and Trade (GATT) (1994). Mexico then brought itself into compliance with GATT.
Also in 2001, Mexico had introduced a new import permit requirement. The requirement was that in order to get the benefit of the preferential tariff under the NAFTA, an importer of HFCS had to obtain a permit from the Mexican government. Without a permit the importer must pay the higher tariff rate that applied to imports from non-NAFTA countries. No import permits were issued to Cargill de Mexico.
Cargill brought a claim against Mexico under NAFTA Chapter 11, alleging violations of Articles 1102 (national treatment), 1103 (most-favoured nation), 1105 (minimum standard of treatment), 1106 (performance requirements) and 1110 (expropriation).
In September 2009 a NAFTA tribunal found that Mexico had breached NAFTA Articles 1102, 1105 and 1106. The tribunal ruled that Cargill was entitled to be compensated for the value of lost sales of HFCS by Cargill de Mexico in Mexico. The tribunal found that Cargill was, in addition, entitled to be compensated for the value of its own lost sales (apparently of the same HFCS) to Cargill de Mexico. The total losses were calculated to be over US$77 million.
The claim was brought under the International Centre for Settlement of Investment Disputes Arbitration (Additional Facility) Rules. The designated seat of the arbitration was Toronto, Ontario. Mexico applied to the Ontario Superior Court of Justice to set aside the award in part (in relation to the amount of damages awarded to Cargill, Inc), relying on the International Commercial Arbitration Act (Ontario), which implements the Model Law. Mexico alleged that NAFTA parties owe no obligations with respect to impact on investments made by an investor in the investor's home state, and that the NAFTA tribunal therefore exceeded its jurisdiction by deciding a matter outside the scope of the submission to arbitration.
The Ontario Superior Court(2) dismissed Mexico's application. The court held that the standard of review based on lack of jurisdiction is 'reasonableness', not 'correctness'. The court found that Cargill could not be regarded as having separate capacities as producer and investor. The court found that NAFTA Chapter 11 did not limit compensation once a breach of a relevant NAFTA obligation had been established. The court determined that, viewed as whole, the award was reasonable and consistent with the NAFTA's objective of promoting international trade.
Mexico appealed the superior court's decision to the Ontario Court of Appeal. The other two NAFTA parties, the United States and Canada, intervened. The appeal court agreed with Mexico that the standard of review for alleged jurisdictional errors is correctness. However, the appeal court found that the question of what damages flow from NAFTA breaches is not a jurisdictional question, and agreed with the lower court that the NAFTA does not impose territorial limitations on damages suffered by an investor.
Standard of review
The court observed that importing domestic concepts of standards of review "may not be helpful" when conducting a review of an international commercial arbitration award, and noted that the Model Law allowed only a limited review of such awards. The court cited Canadian authorities emphasising the high degree of deference to be accorded to international arbitration tribunals, and the decisions in both Metalclad(3) and Myers(4) that a standard of correctness should be applied when reviewing jurisdictional issues arising from NAFTA awards. The court also found the decision of the English Supreme Court in Dallah(5) to be instructive on this issue.
To show an excess of jurisdiction in respect of an arbitration award so as to justify its being set aside, under Article 34(2)(a)(iii) of the Model Law the applicant must show that:
"the award deals with a dispute not contemplated by or not falling within the terms of the submission to arbitration, or contains decisions on matters beyond the scope of the submission to arbitration."
The court found that under the Model Law, a court is charged with comparing the award and the submission to decide whether what the tribunal decided was within the scope of the submission, and that this necessarily requires the application of a standard of correctness. The tribunal had no power to expand its jurisdiction beyond the scope of "the submission and the provisions of the NAFTA as interpreted in accordance with principles of international law". In other words, the court found that a mistaken assumption of jurisdiction was ineffective.
Application of standard of review
The appeal court found that it must decide whether the award contained a decision on matters beyond the scope of the submission without engaging in a review of the merits of the decision.
Mexico argued that the language of the NAFTA itself, insofar as it defined the scope of issues that could be submitted to arbitration under Chapter 11, did not include claims to recover losses suffered as result of investments made outside the host state. In prior NAFTA arbitration all three parties to the NAFTA (Mexico, Canada and the United States) had taken the position (separately) that Chapter 11 limits an investor's damages to those incurred in its capacity as an investor in seeking to make, making or having made an investment in the territory of another NAFTA party. The three NAFTA signatories took the position that under Article 31(3) of the Vienna Convention on the Law of Treaties, their agreement as to this limitation must be taken into account when interpreting the NAFTA in accordance with international law.
Mexico did not contend that damages suffered by an investor outside the host state could not be recovered. Rather, Mexico submitted that as agreed by all NAFTA parties, only damages suffered by an investor in its capacity as an investor in the host state could be recovered. Mexico submitted that losses suffered by Cargill as a result of its decision to invest in the United States, even in anticipation of sales into Mexico, could not be recovered from Mexico under NAFTA Chapter 11, as the recovery of such losses was outside the scope of the submission to arbitration under Chapter 11. Mexico argued that this agreement as to the interpretation of the NAFTA had recently been applied by another NAFTA tribunal in a similar claim involving the same Mexican tax and its application to the HFCS industry in Archer Daniel Midland Company v United Mexican States.(6)
The appeal court agreed with the superior court that the submissions of Mexico went beyond the question of jurisdiction and asked the court to review the merits of the award. The court found that despite the agreement of the NAFTA parties and the requirements of the Vienna Convention, properly interpreted the NAFTA did not preclude the submission to arbitration of claims for losses suffered outside the host state where those losses were incurred "by reason of, or arising out of" a breach of the NAFTA. The tribunal had found that Cargill was an integrated enterprise and that the losses suffered by Cargill in the United States flowed from its investment in Mexico, in the form of Cargill de Mexico. As the tribunal had found that there was a NAFTA breach and that the damages suffered in the United States arose out of that breach, the court found that it would be second-guessing the tribunal's findings of fact and its decision on the merits if it were to revisit whether those losses were recoverable.
The appeal court accepted that there was an agreement among the NAFTA parties that to be compensable, losses must have been suffered by the investor "in its capacity as an investor of an investment in the territory of another NAFTA party". However, the court did not find that this put a "territorial limitation" on compensable losses. The court held that if there was a clear, well-understood, agreed common interpretation among the NAFTA parties that losses suffered by an investor "in its home business operation, even if caused by the breach" could not be recovered, then the Vienna Convention would justify a finding of jurisdictional error. However, the court did not interpret the common understanding of the NAFTA parties as going that far.
The appeal court concluded that there had been no jurisdictional error and dismissed Mexico's appeal. Mexico has since sought leave to appeal to the Supreme Court . A decision on the leave application will likely be made early in 2012.
The appeal court's assessment of the standard of review is valuable because it clearly rejects the proposition, found in several older cases, that arbitrators are entitled to deference on questions of jurisdiction (or that their jurisdictional determinations need only be "reasonable"). Consistent with the law in other Model Law jurisdictions, the court has clearly confirmed that jurisdictional questions must be reviewed on the standard of correctness. Arbitrators cannot, by virtue of a mistaken interpretation or application of a submission to arbitration, extend their own jurisdiction. Their power to decide is defined by the scope of the submission.
However, the appeal court's interpretation of the NAFTA, particularly in light of the requirements of the Vienna Convention, is much more controversial, and has broad implications for investment protection claims under the NAFTA and, potentially, other investment protection treaties.
As described above, the court accepted that there was an agreement among the NAFTA parties that to be compensable losses must have been suffered by the investor "in its capacity as an investor of an investment in the territory of another Party". The court also found that if the effect of this agreement was to exclude losses such as those suffered by Cargill in the United States, the tribunal would have committed a reversible jurisdictional error in awarding compensation for such losses. Thus, to determine whether there had been a jurisdictional error, the court was required to decide whether Cargill's US losses were suffered by Cargill "in its capacity as an investor of an investment" in Mexico. The court could not defer to the tribunal's findings on that issue, as it arguably did, because if the tribunal decided that issue incorrectly, then the tribunal made a jurisdictional error in awarding losses that were not compensable under NAFTA Chapter 11. It can certainly be argued that the appeal court erred by failing to perform its own analysis and make its own determination of the central question – whether Cargill's 'upstream' losses were, within the meaning of the NAFTA, interpreted in the light of the Vienna Convention, losses that it suffered in its capacity as an investor of an investment in Mexico.
Mexico also argued that the superior court erred by referring to the NAFTA objective in Article 102(a) – the facilitation of the cross-border movement of goods – to support the superior court's conclusion that the result reached by the tribunal was "not irrational". The appeal court found that it was not necessary to address that issue, in light of its conclusions as to the standard of review. Had the appeal court taken on the task of deciding whether Cargill's upstream damages were suffered by it in its capacity as an investor of an investment in Mexico, within the meaning of the NAFTA, Mexico's submission on this issue would have had considerable relevance.
The NAFTA is a free trade agreement that includes an investment protection chapter. Not all NAFTA breaches give rise to a right to claim compensation under Chapter 11 (in fact, very few do). Chapter 11 confers rights with respect to the protection of investments only. Investors have no right to enforce the free trade obligations the states owe to one another. These are enforceable only at the state-to-state level. It is certainly arguable that it would be wrong to allow the interpretation of the investment protection provisions to be influenced by a free trade objective. The NAFTA parties clearly intended to draw a line between those losses that were compensable and those that were not in respect of specified NAFTA breaches. Some breaches were not to be actionable and some losses were not to be recoverable by investors. Regrettably, the appeal court seems not to have come to grips with the essential interpretive exercise required to answer the question of whether the Cargill tribunal did or did not exceed its jurisdiction.
If and when that interpretive task is performed, surely it will be significant that the NAFTA parties themselves have agreed that losses may be suffered by an investor in more than one capacity and that the only losses recoverable are those that the investor suffers in its capacity as investor of an investment in the territory of another NAFTA party.
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