Article from: TDM 6 (2007), in Editorial
The question of compensation and damages has recently attracted more attention in legal writing and practice than ever before. While for a long time lawyers have not been ready to devote time and in-depth analysis to valuation issues, they now increasingly realise and recognize the importance of coherent and comprehensible principles concerning the financial and economic aspects of the amounts to be claimed or awarded. However, the principles - both legal and economic - are still far from clear and/or generally accepted.
The present Special TDM Issue attempts to shed some light on the existing approaches concerning the question of valuation in international investment disputes. It tries to do so primarily from the legal but also from the economic perspective. The authors of this issue, therefore, include both lawyers as well as valuation experts.
I wish to thank Thomas Waelde who initiated this Special Issue and the TDM publishers who made its publication possible. I am very grateful to all of the authors for their commitment and effort in contributing to this common endeavour.
This Special Issue can be seen as complementary to the Special Issue on expert perspectives in energy litigation and arbitration edited by Rory Walck in June 2007 which has already provided very interesting insights into the role and work of experts - in particular valuation experts - in international proceedings.
The present issue deals, first, with legal rules on compensation and damages as reflected in arbitral practice and then addresses aspects from the valuation perspective, as briefly explained below:
- General legal principles on compensation and damages: the first
articles deal with general legal principles on compensation and damages in international
investment disputes. These include the issue of expropriation as well as the violation of BITs or
other obligations under international law in the framework of the law of State responsibility.
Thomas Waelde and Borzu Sabahi have worked on this topic for their report to the
International Law Association and have produced a comprehensive overview of pertinent practice
and corresponding theory. My article, then, tries to identify the different concepts of
"compensation" on the one hand and "reparation" or "damages" on the other. While the former is
the prerequisite for a lawful expropriation, the latter are the consequences of an unlawful act.
I argue that the financial consequences in both cases need not be the same. Charles Brower
and Michael Ottolenghi essentially support this analysis. They argue in favour of the
distinction between "compensation" and "damages" and confirm it by reference to recent arbitral
practice. They point out, in particular, the different valuation dates as an important
consequence of the distinction.
- Specific treaty standards and their
valuation : the next four articles deal with the violations of specific standards of
treatment of foreign direct investment. The article by Martin Valasek focuses in
particular on the distinction between lawful and unlawful expropriations and its influence on the
valuation. Thomas Merrill compares the standards of compensation upon expropriation as
required by international law and American constitutional law and proposes interesting solutions
for the valuation of indirect expropriations. Kaj Hobér analyses the financial
consequences of the violation of the obligation to fair and equitable treatment as reflected in
recent practice by international investment tribunals in the framework of ICSID, the NAFTA and
the ECT. Ioana Tudor also deals with the fair and equitable treatment-standard and
introduces additional considerations which should be taken into account in the process of
- Other aspects of public international law: the legal framework of
foreign investment does not only consist of the specific rules on the protection of foreign
investment but is also effected by other international rights and obligations of the host State.
Lahra Liberti addresses the influence of non-investment treaty obligations on the
assessment of compensation, in particular of obligations relating to the protection of human
rights, the environment, and the cultural heritage. Sergey Ripinsky discusses the question
to what extent a state of necessity as one of the circumstances precluding wrongfulness in the
law on State responsibility can effect the obligation to pay compensation.
- Valuation of contract damages and economic analysis of law: as
contracts play an important role in the area of international investment law, it seems to be
useful to seek some guidance from private international law experts on the question of
calculation of contract damages and to include considerations of economic analysis of law in this
respect. John Y. Gotanda has contributed an article on the assessment of damages in
international commercial arbitration and made a comparison with investment treaty disputes. In
his second article, Gotanda addresses the issue of punitive damages and their rejection in
most jurisdictions, but points also to certain new developments in this regard. The article by
Aaron S. Edlin and Alan Schwartz analyses in more detail the purpose of contract
damages and relates it to the applicability of liquidated damages in the light of economic
analysis of law. Considerations from the economic analysis of law are also taken up in the
article by Fabrizio Marrella and me in which we tried to analyse the concept of
"efficient" breach in relation to international investment disputes.
- Interest and costs: the issues concerning interest and the
allocation of costs have been even more neglected than the valuation of the claim itself. Even if
improvements can be observed in recent practice, the reasoning of the decisions is generally
poor. This is all the more surprising seeing that, from a financial point of view and from the
perspective of the parties, these questions are almost as important as the valuation of the
principal. I am glad that we found competent experts who reflected on these issues and made their
analyses and ideas available. Jeffrey M. Colón and Michael S. Knoll elaborate on
the question how pre-judgment interest should be calculated. They argue that, in order to put the
claimant in the same position he would have been in had the respondent not committed the harm,
the rate of interest must reflect the respondent's unsecured borrowing rate. In doing so, they
refer to the so-called coerced loan theory. By contrast, Thierry Senechal in his
article advocates the use of a risk-free rate (e.g. government bonds) plus the market-risk rate
(as measured from an historical average of the excess of the market return over the risk-free
As concerns the cost allocation, Matthew Weiniger and Nigel Mackay raise the question, if recent arbitral practice of applying the "loser pays"- or "costs follow the event"-principle already represents a new trend replacing the earlier practice of equal allocation of costs. This could mean that claimants must be aware of an increased cost risk when they institute international arbitral proceedings in case of an investment dispute.
- Valuation perspectives: the use of income-based valuation and present
value calculations: Mark Kantor's comprehensive contribution provides an introduction
to all the three existing valuation approaches: the asset-based approach, the market-based
approach and the income-based approach. After having already dealt with the asset-based approach
(in particular the adjusted book value method) in the issue on expert perspectives edited by
Rory Walck in June 2007, he now concentrates on the two remaining approaches, the market-
and the income-approach. Providing ample reference to recent court and arbitration practice he
leads through the various forms of income-based valuation: the discounted cash flow-method
(DCF-method), the adjusted present value method (APV-method) and the capitalized cash flow-method
Geoffrey Senogles goes into the question of business-interruption claims from the perspective of a valuation expert. He gives a very illustrative description of how the valuation of lost profits should generally be conducted, addressing the issue of evidence and the variety of influential factors. He emphasises that the main purpose of the expert's assessment is to distinguish probable lost profits from possible lost profits and to reduce the level of uncertainty by considering as many factors as possible and using recognised valuation and accounting methodologies.
Thierry Senechal in his article on forecasting technique, however, points to the "creative accounting dilemma". He emphasises that in business accounts, profit is very much a matter of opinion and judgement. The valuation expert, therefore, must go beyond the traditional accounting tool box and use expert knowledge also from other fields, such as statistics, finance, and economics. He introduces a number of forecasting models which should help to extrapolate past history of data into future projection.
Vidya Rajarao analyses the use of the DCF-method in a number of recent international investment arbitrations, both treaty and contract disputes, and concentrates especially on the selection of the discount rates. The article written by William H. Knull III, Scott T. Jones, Timothy J. Tyler and Richard D. Deutsch analyses in detail the valuation of projected future revenues in disputes over oil and gas properties. Starting from the theoretical basis of the DCF-method they go into very interesting details of the specificities of the hydrocarbon industry and analyse the decisive valuation factors.
As becomes apparent from this short introduction, a variety of opinions and proposals concerning the question of valuation are included in this Special Issue. They do not always coincide and may even seem contradictory. This shows and reflects the reality of actual practice in international arbitration. This Special Issue aims at improving the understanding of the different approaches and solutions. It will thereby hopefully contribute to a further development and refinement of legal theory and practice as regards the calculation of compensation and damages in international investment disputes.