This article examines what happens when a state-owned entity enters into a commercial contract and agrees to submit any disputes arising out of that contract to arbitration. If the state loses the arbitration, it sometimes claims sovereignty immunity to attempt to block enforcement of the arbitral award. The recent judgment in Taurus Petroleum Ltd v State Oil Marketing Company of the Ministry of Oil, Republic of Iraq (SOMO) (18 November 2013), demonstrates that English courts do not look favourably on such defences.

In Taurus v SOMO, Taurus contracted with SOMO to purchase a number of crude oil cargoes and to sell LPG cargoes. The contract was subject to UNCITRAL arbitration with the seat in Baghdad, under Iraqi law. In breach of contract, SOMO failed to pay Taurus around US$8 million in demurrage, war risk premiums, interest and other liabilities and drew upon Taurus’ performance bond without any grounds.

HFW represented Taurus in arbitration proceedings against SOMO, obtaining an award for more than US$8 million, including 90% of Taurus’ legal costs. SOMO were fully represented throughout and did not contest the appointment of the sole arbitrator, or raise a defence of sovereign immunity.

HFW then applied to enforce Taurus’ award in the English High Court and obtained a third party debt order against Credit Agricole, which had opened a letter of credit in favour of SOMO for another petroleum trader. The order required the funds due to SOMO under the letter of credit to be paid to Taurus instead.

At this point, SOMO applied to have the order set aside on the basis of, inter alia, sovereign immunity. SOMO’s evidence was that it was “wholly owned, funded by, and an integral part of the Ministry of Oil of the Republic of Iraq” and that in consequence, SOMO’s assets were state assets, covered by sovereign immunity.

SOMO asserted that:

  • The true beneficiary of the letter of credit was the state of Iraq, because SOMO was selling Iraqi oil pursuant to Iraqi law and the purchase price had to be paid to the Central Bank of Iraq.
  • The debts due under the letters of credit constituted “property of the state” within the meaning of section 13(2)(b) State Immunity Act 1978 and accordingly they were immune from execution.
  • Even if SOMO was not part of the Iraqi state, its sale of Iraq’s petroleum reserves could only be performed in the exercise of sovereign authority where the state itself would be immune and thus SOMO’s property is immune from execution pursuant to section 14(2) Sovereign Immunities Act 1978.
  • The Central Bank of Iraq had a legal interest in the debts due under the letter of credit so as to trigger protection afforded by section 14(4) Sovereign Immunities Act 1978.

The Court rejected all of SOMO’s sovereign immunity arguments for the following reasons:

  • SOMO was an entity separate from the state of Iraq formed “for commercial or industrial purposes, with its own management and budget” and its separate corporate status should be respected.
  • “SOMO was not acting as the agent for the Government of Iraq in entering into the sale contract and procuring the letters of credit. Albeit that it was a public company carrying on these activities for the over-all benefit of the people of Iraq, it was acting as aforesaid as a principal in its own right”.
  • “the question is not whether the acts of SOMO in selling oil ... and procuring the opening of the credits were authorised by the state, but whether these acts were of a sovereign character. ... these acts were manifestly of a commercial character of the sort that any private citizen can perform and were not done in the exercise of sovereign authority... It follows that SOMO’s argument for state immunity based on s. 14 (2) of the Sovereign Immunities Act fails.”

The general approach of arbitral tribunals and courts to issues of immunity can be summarised as follows:

  • Is the state immune from jurisdiction ratione personae - is the relevant act that of the state, or a separate non-state entity?
  • Is the state immune from jurisdiction ratione materiae - is the nature of the act sovereign, or private and commercial?
  • Does the state exercise its sovereign powers through the property which is the subject of the enforcement action, or is the property used solely for commercial purposes?

Immunity enables a state to avoid payment of a debt. The historical argument in favour of this is that states should not be permitted to enforce against the strategic (sovereign) assets of other states because this could negatively affect comity between nations.1

However, this argument has been eroded over time and by the demands of international commerce. A defendant state can avoid enforcement against its strategic assets by paying sums due under an award made against it. Replacing sovereign immunity with sovereign commercial responsibility encourages a more accountable and confident international trading community. It is important for traders to know that they can enforce claims against state-owned traders.

These arguments are even more pertinent in an international arbitration context. It is now well established that a state or state entity is bound by an agreement to submit a commercial dispute to arbitration.2 This implies that, in the context of commercial transactions, states are also bound by the jurisdiction of the supervisory courts in the country where the arbitration has its seat.3 If a state, knowing that it is acting as a private company, agrees to be bound by the jurisdiction of a specific forum and knows that its assets may be subject to enforcement, it should not be able to evade enforcement.4

In an interesting and ongoing development, SOMO continues to assert its right to title over all of the crude oil of Iraq, including in the semi-autonomous region of Kurdistan. As in Taurus v SOMO, SOMO argues that under Article 111 of the Iraqi Constitution: “Oil and gas are the ownership of all the people of Iraq in all the regions and governates”.

The Kurdish Regional Government of Iraq claims autonomy from the Iraqi state and title over oil in Iraqi Kurdistan.

Until 23 May 2014, around 1.5 million barrels of Kurdistani oil were sitting unsold at the Turkish port of Ceyhan, stored in tanks. In a treaty between Turkey and Iraq, Turkey committed to “the sole sovereign authority for the exportation of Iraqi hydrocarbon resources” vesting power in “the Iraqi Federal Ministry of Oil and Oil Marketing Co (SOMO)”.

On 23 May, a vessel began loading the previously embargoed Kurdistani oil. On the same day and in response, the Iraqi Ministry of Oil applied to the ICC to commence arbitration proceedings against the Turkish government and Botas Petroleum Pipeline Corporation (Turkey’s state oil pipeline company), for breach of the terms of the Iraq-Turkey pipeline treaty.

It will be interesting to see whether SOMO will continue to argue sovereign immunity on the one hand, while asserting its commercial rights through the courts on the other.

In conclusion, national courts seem likely to continue to look unfavourably on the use of sovereign immunity to avoid payment of sums due under an award, especially where the state has submitted to arbitration and/or engaged in a commercial relationship with a private party.