This article first appeared Funding in Focus, Report One, May 2015 by Vannin Capital and Legal Week. To view the original article and full report please contact VanninMarketing@vannin.com.
The sector view
Electrical power: who wins, where and why?
Author: Iain McKenny, General Counsel of Disputes, Vannin Capital
In the ‘industry focus’ section, we will focus on a specific industry and what it reveals about the legal landscape from the perspectives of claimants, lawyers and funders. In this edition, we examine electrical power disputes in Europe, the causes for these disputes, who is winning, where and why and how new litigation and arbitration opportunities loom large on the horizon.
Electrical power production and distribution disputes are among the most prevalent types of dispute in the world. It is a vital resource, expensive to produce and distribute. The shift away from coal and gas to renewables and the debate over the benefits of nuclear power seem likely to keep this sector contentious, especially in Europe.
The International Centre for Settlement of Investment Disputes’ (ICSID’s) 2014 statistical report shows that the electricity sector generates more disputes than any other European sector. Furthermore, electricity disputes are among the most high-profile, complex and high-value cases in the world. According to the International Chamber of Commerce (ICC), 15% of disputes in 2012 concerned electricity, while ICSID reported that 30% of new cases in 2014 related to electricity production or distribution. Furthermore, according to the United Nations Conference on Trade and
Development, the Energy Charter Treaty (ECT) is the second-most used investment treaty in investor/state dispute settlement – the vast majority of such disputes concerning electricity
production and distribution.
Electricity disputes are frequently and increasingly about big money. According to the American Arbitration Association there was a 600% increase in the largest energy claim in just three years from $60m (£40m) in 2008 to $360m (£240m) in 2011. Also, consider the recent ‘mega’ cases: the Yukos cases; Libananco Holdings Co. Ltd. v. Turkey; and Vattenfall v. Germany – all concern electric power.
Against this background, collisions of interest between investors and states are inevitable. ICSID regularly produces statistics that indicate that in investor/state disputes, respondent states prevail against claimant investors 40% of the time, claimant investors prevail 30% of the time and disputes are discontinued or settled about 30% of the time. Of these latter disputes, most are discontinued at the request of both parties (34%). The next most common reasons for a case failing to reach judgment are a settlement agreement (22%) and the lack of payment of the required advances (22%).
These statistics suggest that of the 463 disputes by investor claimants last year at ICSID alone, 183 will fail and 140 will succeed. Of the remaining 140, more than half, 78, will reach agreement. The remaining 62 will discontinue, the majority owing to a lack of funds.
But to what extent does this pattern apply to electricity disputes? And are country-specific and region-specific factors likely to have an impact? In a market worth billions of euros a year, it is worth exploring what the statistics and experts tell us about electricity disputes in Europe.
Who wins, where and why?
Vannin has identified more than 70 significant electricity disputes at various stages across
Europe from its own case reviews, a statistical analysis of data sourced from IA Reporter,
Encharter.org, GAR and newspaper and industry articles. The results have been broken
down so that they focus on Europe’s three largest economies – Germany, France and
the UK – and by region, covering Northern Europe, Southern Europe, and Eastern and Central Europe.
In the UK, the most striking aspect of electricity disputes is that the claimants have won 75% of
the disputes, mostly against Eastern European and Russian respondents. Furthermore, despite
its 120 bilateral investment treaties (BITs), the UK is yet to face a claim under a BIT. Given
pending electricity constraints and the migration towards renewable energy, many experts
believe the UK and UK entities will become more and more active in electricity disputes.
German entities have recently been involved in 11 major electricity disputes. Germany has been a respondent in two of these disputes - one of which has settled while the other is pending. The disputes primarily stem from electricity production and/or distribution in Eastern and Southern Europe. If the nine major claims by German entities are consistent with the general pattern of claims by Northern European entities, we might expect that five of these nine will either succeed or settle.
France is home to the fewest electricity disputes, for now. This is likely to reflect its energy
security as Europe’s primary net exporter of electricity and its geographical advantage, which allows it to be an excellent hub provider of electricity. While many disputes not in the public domain are undoubtedly taking place, it would appear that France and French entities actively pursue negotiated settlements. However, as Europe’s single largest promotor of nuclear power and Europe’s largest net distributor of electricity, access to that network may prove fertile ground
for disputes in the future.
In Northern Europe there are 14 major pending cases, the vast majority of which appear to be
against Southern and Eastern European state entities or states. Historically, there has been a classic split in outcomes, with the claimants prevailing in 30% of cases, 30% of cases settling or discontinuing and the respondents succeeding in the remaining 40% of disputes. If this pattern continues, four cases would be expected to prevail, two to settle, two to discontinue - most likely due to a lack of funds - and the remaining six to fail.
Turning to Southern Europe, Spain and Spanish entities face more electricity production and distribution disputes than anywhere else in Europe. Somewhere between 15-20 disputes are currently pending under ICSID, the Stockholm Chamber of Commerce (SCC) and United Nations Commission on International Trade Law proceedings alone, mostly from Northern European, German and UK claimants. Italy and Greece are also set to become significant respondents in similar disputes from many of the same companies. Portugal may also be in the frame. It is notable that both Italy and Spain originally introduced beneficial feed-in tariffs to encourage investment seeking
to capitalize on a sun surplus, a policy currently being contemplated in the UK. Although Southern European entities are active claimants in electricity disputes, the majority appear to be Cyprus-incorporated entities. These claimants appear to prevail in over 40% of the disputes - mostly against Russian, Turkish and Eastern European countries and entities.
By far the most electricity disputes occur in Central and Eastern Europe, which is perhaps unsurprising given that countries in this region have been the most active in terms of modernising and liberalising their electricity production and distribution markets. The pattern of outcomes
is the mirror image of those in Northern Europe with claimants prevailing in 30% of cases and the respondents winning out in 40% of disputes. However, when central and eastern European entities face each other in regional disputes the claimants prevail 40% of the time.
This research demonstrates that, while the pattern of electricity disputes varies across Europe, the practical challenges associated with the cost, distribution, generation and storage of electricity affect every country differently. Electricity markets across Europe remain asymmetric despite efforts from the EU to harmonize and liberalize. The combination of these challenges, with mounting ecological and geopolitical pressures, has created a fertile ground for disputes. Indeed, the majority of industry experts and lead counsel that Vannin Capital has spoken to agree that the number of electricity disputes is likely to keep growing in the years to come as energy security becomes a more prominent feature of geopolitical relations.
Electricity disputes in Europe: what the experts say
The Energy Gap: There will be a substantial loss of generating capacity during
the next decade as coal-fired capacity closes around 2015, following the emissions
standards set by the Large Combustion Plant Directive, and most nuclear power
stations reach the end of their productive lives. This is coupled with the move to a
low-carbon economy, and access to energy supplies being used by some countries
as a political tool. Rolling black-outs are a real possibility.
‘Harmonisation and cross border network codes are driving greater collaboration,
but disputes over trading, prices and volume will occur as countries become
more dependent upon the utilisation of cross border flows for energy balancing.’
Ian Leedham, former senior counsel commercial & disputes at
National Grid and current interim head of commercial for the Thames Tideway Project
Net Exporter: France derives about 75% of its electricity from nuclear energy, due to a long-standing policy based on energy security. It is also the world's largest net exporter of electricity due to its very low cost of generation, and gains over €3 billion per year from this. France has been very active in developing nuclear technology and is building its first Generation III reactor.
‘The increasing use of arbitration and mediation within the industry is perhaps
not surprising as electricity companies in France are focussed on the safe,
reliable production and distribution of power as Europe’s leading net
exporter. This interaction means that companies are predisposed to
finding quick, negotiated, confidential and where possible, self-determined
outcomes, with parties they have long term relationships.’
Dr. Hamid Gharavi, founding partner of Derains & Gharavi
The Sun Surplus: In the first half of 2013 the renewable energy sector in Spain underwent a major restructuring that will make the official targets of generating
45% of its energy needs from renewable energy sources very hard to meet. Italy
has undergone a similar transformation offering high incentives in 2005 that it has
since sought to dismantle. Portugal and Greece face similar sun surplus difficulties.
‘The number of renewable energy disputes in Southern Europe seems likely to increase for the foreseeable future as investors originally encouraged by attractive feed-in tariffs confront governments now in the process of dismantling those incentives. Each new ‘reform’ has brought a new wave of claims.’
Luis Castro, partner, Osborne Clarke (Madrid)
Experts in Renewables: Northern European Countries have been developing renewable energy technologies and exporting them for many years. They continue to harness wind and geo-thermal technologies for local electricity production and have applied their technologies to the development of photovoltaics for countries in which there is a sun surplus and a need to modernize.
‘As northern European developers and investors in renewable energy seek out new
markets in Eastern and Southern Europe, it seems that disputes are likely to ensue as
those countries continue to modernize and liberalize their electricity sectors.’
Professor Dr Kaj Hober QC, 3 Verulam Buildings, formerly a partner of Mannheimer Swartling, Sweden
The Nuclear Question: A coalition government formed after the 1998 federal elections had the phasing out of nuclear energy as a feature of its policy. With a new government in 2009, the phase-out was cancelled, but then reintroduced in 2011, with eight reactors shut down immediately. The cost of attempting to replace nuclear power with renewables is estimated by the government to amount to some €1 trillion without any assurance of a reliable outcome, and with increasing reliance on coal.
‘Germany is undergoing a transition in its energy profile. If the transition to photovoltaic and wind turbine generated electricity is not handled with due
consideration to the sector’s current stake holders, it seems probable that there will be more disputes like Vattenfall.’
Boris Kasolowsky, partner, Freshfields Bruckhaus Deringer (Frankfurt)
Liberalising and modernising: Based on an optimistic timeline the total replacement and new investment in the region’s power plant infrastructure may, according to KPMG, result in a total financing of EUR 114–144 billion over the next decade. In Hungary, the Czech Republic, Slovakia, Bulgaria and Macedonia, the Distribution System Operators (DSOs) have been privatized, sold mostly to foreign investors. In
Romania, Slovenia and Albania, privatization is well underway.
‘I think it is likely we will see a rise in the number of treaty disputes in relation to
electricity in Central and Eastern Europe. The process of privatisation and replacement
of electricity infrastructure is much like that which took place in Argentina during
the 1990s, when the country’s transport, utility, and energy systems were all overhauled using almost entirely foreign capital. Once that investment has been made, there is unfortunately a political conundrum: with foreigners too deeply committed to leave, it is tempting to extract additional value through regulation or even expropriation that benefits local constituencies. This led in Argentina to dozens of claims after the economic crisis of 2001-2003. While we can hope that Central and
Eastern Europe will not see the kind of meltdown that triggered adverse measures in Argentina, some lesser nationalist policies seem inevitable.’
Noah Rubins, head of international arbitration, Freshfields, Paris & Moscow