Cole Porter's simple and yet unforgettable line, "Let's call the whole thing off!", ensured that his song lives on for generations, but it does not describe a satisfactory approach to deal with the breach of a contract.

It is all too convenient for the contract breaker. Once conditions change, performance may become more onerous, or it may become more profitable to reach a new bargain with a third party. At that point, it is unacceptable for a party wishing to escape contractual constraints to pretend that the contract has evaporated. This remains so even if that party reimburses expenses which the other may have incurred preparing for the contract. The most obvious case where this approach, which we may call the rescission model, would be intolerable is that of a downstream commitment to a third party; in a rising market, it may be ruinous for a buyer who is also a re-seller to be deprived of the benefit of a price set at a time when the buyer agreed to an on-sale price that has now become uncommercial.

But apart from the immediate economic loss in such circumstances, the rescission model is also intolerable because its effect is to destroy the reliability of promises. Contracts do not prove their value in stable markets. If markets were stable, each transaction might be endlessly repeated every day with unchanged terms - cash and carry; no need for contracts. The very fact that a bargain is likely to become less advantageous for one of the parties at some future time is what makes it so important that the law allows the other party to rely on its performance. To lose sight of this basic proposition would, one may say without fear of exaggeration, cause great harm to the very foundation of our economies. [Page57:]

In the international field, a dominant idea has for nearly a century been associated with the judgment of the Permanent Court of International Justice in the Chorzów Factory case, 1 namely that the victim of a breach should either be restored to its ex ante position or be given monetary compensation equivalent thereto. This does not tell us, however, whether the model is one of rescission or expectation. Chorzów Factory did not involve a breach of contract, but an expropriation without compensation. The notion of "rescinding a contract" has no meaning in such cases. And restoring a party to the financial equivalent of its position prior to an expropriation will mean to give it the value of the thing expropriated; in the case of business ventures, that value inherently reflects income-generating capacity - and therefore expected profitability.

A locus classicus of the expectation model in the common law is the venerable case of Hadley v. Baxendale, decided in 1854, where the Court of the Exchequer stated that:

"the party breaking the contract, … at the most, could only be supposed to have in his contemplation the amount of injury which would arise generally, and in the great multitude of cases not affected by any special circumstances, from such a breach of contract. For, had the special circumstances been known, the parties might have specially provided for the breach of contract by special terms as to the damages in that case; and of this advantage it would be very unjust to deprive them." 2

In civil law countries, a typical formulation is that of Article 1149 of the French Civil Code, which establishes the general principle that a creditor is entitled to recover "the gain of which he was deprived". Since that gain is by definition hypothetical, here too the test must be one of legitimate expectation.

The aim of this paper is not to provide a comprehensive analysis of expectation damages; that would require a book-length treatment. The objective is rather to consider a few recurring topics, with no pretence of being systematic:

- recoverability of lost profits is a general principle

- claims for lost profits are not limited to some proportion of expenditure

- double counting and its avoidance[Page58:]

- the valuation of a loss of opportunity

- an illustration of the DCF method and its inherent uncertainties

- is there a role for the doctrine of abuse of right?

For illustrative purposes, I will cite extensively from a major case, Himpurna

v. PLN, not because I happened to participate in it but because it confronts a series of important issues regarding quantum (and not just the sorry story of a party preventing an arbitrator from attending hearings, for which the case has become famous).

1. Recoverability of lost profits is a general principle

To set the stage for the rest of this paper - and perhaps to heighten anticipation of Professor Taniguchi's fuller exposition later in this programme - it may be useful to establish that the recoverability of lost profits is a general principle. It is not invalidated by the notions that indirect, consequential or speculative damages are excludable.

Adjudicators have struggled since time immemorial with the limits of compensable damages. At the one extreme are damages which demonstrably arise as the evident direct consequence of the wrongful act. At the other extreme, there are claims insufficiently established, either in fact or as a matter of causation. They are typically referred to as "too remote", "unforeseeable" or "speculative". In between there is an area of indirect damages that are controversial. 3

That they may be recovered is beyond cavil. The difficulty is the permanent haze that overlies the boundary between what is too remote and what is merely indirect. In addition, there are contractual stipulations - or indeed treaty stipulations - that exclude the award of indirect compensation or compensation on account of lost profits. Such stipulations create their own difficulties of interpretation, 4 and moreover the risk that awards limited by them fail to be recognized as exceptions.

In principle, this passage written by Hersch Lauterpacht in 1927 has lost none of its cogency or authority: [Page59:]

"The border line between direct and indirect damages, or between prospective and merely speculative profits, is seldom clear, and its determination is often dependent upon the subjective estimate of the arbitrator, who is, in fact, guided not so much by the technical distinctions between different kinds of damages, as by the wish, perfectly justified in law, to afford full redress to the injured. But to maintain that international law disregards altogether compensation for lucrum cessans is as repellant to justice and common sense, as it is out of accord with the practice of international tribunals." 5

Courts and tribunals everywhere have understood that uncertainty about lost profits, since they are necessarily hypothetical, cannot allow the contract-breaker to escape liability. The important distinction to be made is between the question of whether the victim suffered loss at all and the question of the magnitude of a loss once it is established in principle. An excellent formulation may be found in a well-known case decided by a US federal court of appeal in 2002:

"Evidence to establish [lost] profits must not be uncertain or speculative. This rule does not apply to uncertainty or speculation as to the amount of the profits which would have been derived, but to uncertainty or speculation as to whether the loss of profits was the result of the [breach] and whether any such profits would have been derived at all." 6

This proposition may be usefully coupled with the admirable formulation of Art. 42 of the Swiss Code of Obligations to the effect that a loss "not ascertainable by calculation is determined by the judge at his discretion, having regard to the ordinary course of events and measures taken by the injured party".

Another way of putting this is that contractual morality requires that the risk of uncertainty should not fall on the victim of breach.

2. Claims for lost profits are not limited to some proportion of expenditure

It is over-simplistic for a defendant to argue that claims should be dismissed as extravagant if they are in some sense disproportionate to the capital invested. As the arbitral tribunal in Himpurna reasoned: [Page60:]

"The trouble with this conclusion is that it applies to circumstances when the value of a contract is subject to the vagaries of all forms of risk, including the commercial risks of market share and price fluctuations, currency and inflation risks, and the risks of governmental interference. When these risks are extant, the notion of some form of proportionality - i.e. a sense of a 'normal' return on invested capital - may make sense. But the [Energy Supply Contract] in this case explicitly excluded each of these risks. That left only the far less troublesome risks of production, which on the evidence have to a large extent been resolved: the Claimant was able to mobilize the capital necessary to conduct operations and to build the physical plant; the Claimant had the know-how to generate electricity from the field; and the reservoir contained substantial energy resources

- albeit debatable as to their volume - capable of sustaining productionover the 30-year life of the purchase obligation. Indeed, these conclusions are conceded by PLN [the respondent] and its expert witnesses." 7

The well-known Aminoil award is sometimes invoked as support for the proposition that the proper measure of recovery is that of "a reasonable rate of return" as opposed to the demonstrable profit stream from the particular venture that has been interrupted. Such reliance is misplaced. For while it is true that the Aminoil award applied such a standard (and on that basis rejected the claim based on a 30-year projection of profits under the relevant concession agreement), this was the consequence of that arbitral tribunal's having found that the parties had in fact "adopted" the standard of a reasonable rate of return in seeking to adjust the terms of their agreement in order to conform with an accord reached in 1974 between the Gulf States to harmonize their tax and royalty rates. 8 The tribunal was careful not to be seen to be making general pronouncements: " … the determination of the amount of an award of 'appropriate' compensation is better carried out by means of an enquiry into all the circumstances relevant to the particular concrete case, than through abstract theoretical discussion." 9

The "relevant circumstances" in the Aminoil case - apart from the parties' mutual adoption of the reasonable-rate-of-return standard - included the fact that the concession agreement had been in force since 1948; by the date of the award 34 years later, the factors of risk, and reward for risk, were to a large degree played out. Recognizing the relevance of these features of the Aminoil precedent, the Tribunal in Himpurna concluded: [Page61:]

"The significant controversies with respect to lost profits therefore relate to the quantities that should be deemed to be covered by PLN's take-or-pay obligations, and the discount rate that should be applied to the future income stream. To the extent that the claim is based on production volumes that appear certain, the issue of proportionality to invested capital does not arise; the lost profits flow directly from the contractual allocation of risk." 10

3. Double counting and its avoidance

It is sometimes said that there are two kinds of lawyers: those who can count and those who cannot.

Like most jokes about lawyers, this is, of course, wicked and unfair, but it must be admitted that what one occasionally hears and reads about the danger of double counting when contemplating a combination of damnum emergens and lucrum cessans suggests that some lawyers are in urgent need of remedial education.

The central idea is surpassingly simple. Once there is an award of damnum emergens, there must be a corresponding debit before any lucrum cessans is recoverable.

To put it another way, if a tribunal begins with lucrum cessans and awards every bit of it, there is no room for damnum emergens. This is because damnum emergens represents the sunk costs of the victim of the breach, and it would never have been recovered if there had been no breach. This is no different from saying that if you lose a house that has a market value of $300,000, your loss is indeed $300,000 - and not $500,000 - because you originally paid $200,000 for it.

International tribunals may prefer to begin with damnum emergens for the very good reason that it relates to historical reality and may be proved by unquestionable written evidence of payments made and confirmed. Since lucrum cessans is, as a result of the breach, hypothetical (whether one considers the past that never was or the future which will never be), it is therefore awarded only if there is proof that profits would indeed be greater than sunk costs. (Further refinements may be necessary for costs of interim financing, staggered investments, taxes, and the like.) [Page62:]

This approach is illustrated by the following passage from the final award in Himpurna, which may be worth reproducing at some length:

"In addition to asking for an award in the amount of unpaid invoices, the Claimant proceeds conventionally to quantify its damages under two headings, reflecting wasted costs and lost profits, respectively. The former, traditionally referred to as damnum emergens, represents the aggregate of what the Claimant lists as "capital invested and expended"; to this amount, the Claimant seeks to add interest. The latter, traditionally spoken of as lucrum cessans, assigns a present value to the expected future revenue stream; the nominal amounts are thus decreased by applying two discount rates: one reflecting the time value of money (i.e. the notion that a dollar to be received in the future is worth less than a dollar received today), the other a risk premium."

The conceptual approach is unremarkable and has been followed in countless international arbitrations. 11

An initial general enquiry relates to the standard by which the Arbitral Tribunal should judge whether the amounts put forward are sufficiently reliable. In this respect, the Arbitral Tribunal turns to Asser's Handbook, the same Dutch authority on which […] PLN's expert on Indonesian law was content to rely:

"The creditor who demands compensation must claim, and if necessary prove, that the debtor is responsible for the damages caused by his nonperformance … If the debtor denies that damages have occurred due to his non-performance, the creditor has to prove them unless the judge, as is often the case, assumes that damages will naturally arise in the context of such non-fulfilment; it is then up to the debtor to rebut this assumption and to show that no damages have occurred. Similarly, if the amount of the damages claimed is disputed, the creditor must prove the amount. In determining the amount of damages the judge is not bound by the rules of evidence." 12

In this case as in so many others, it is impossible to establish damages as a matter of scientific certainty. This does not, however, impede the course of justice. "It is well settled that the fact that damages cannot be settled with certainty is no reason not to award damages when a loss has been incurred." 13[Page63:]

Approximations are inevitable. Moreover, considerations of fairness enter into the picture, to be assessed - inevitably - by reference to particular circumstances. The fact that the Arbitral Tribunal is influenced in this respect by equitable factors does not mean that it shirks the discipline of deciding on the basis of legal obligations. The Sapphire award was based on "general principles of law" but nevertheless decided ex æquo et bono when assessing damages. 14 And as the Aminoil award held: "It is well known that any estimate in purely monetary terms of amounts intended to express the value of an asset, of an undertaking, of a contract, or of services rendered, must take equitable principles into account." 15

The Sapphire and Aminoil awards were on the firm footing of significant international precedents. The International Court of Justice in 1956 rejected a challenge against the judgment of an administrative tribunal which had awarded damages ex æquo et bono, finding no intent "to depart from principles of law" but rather the consequence of the fact that "the precise determination of the actual amount to be awarded could not be based on any specific rule of law." 16 The ICJ made the point even more limpidly in its judgment in the North Sea Continental Shelf case in 1969:

"... in short, it is not a question of applying equity simply as a matter of abstract justice, but of applying a rule of law which itself requires the application of equitable principles." 17

With respect to the evaluation of financial data, some introductory observations of a general nature may serve to clarify the Arbitral Tribunal's approach.

When a DCF method for evaluating damages in the context of a contractual breach is followed, any comparisons with precedents involving the evaluation of expropriated business ventures must be made with great care. In the latter situation, there is generally no basis to apply the contractual reliance damages (damnum emergens), but only the expectancy damages (lucrum cessans). An undertaking has been expropriated; the prejudice suffered by its former owner is simply the worth of the venture as a going concern. That worth is crystallised in an analysis that discounts the future revenue stream of the enterprise to establish its present value. Leaving aside special considerations justifying higher recovery in the case of wrongful[Page64:] expropriation, 18 there is no separate evaluation of sunk costs, whether or not represented by physical assets. That the Claimant has been dispossessed of the walls and machinery of a factory does not lead to a separate recovery on that account. Had there been no expropriation, past investments would have been recovered through subsequent revenues. Since those revenues are fully accounted for in the DCF going-concern evaluation, an award of lost investment as well would be an unacceptable double recovery.

In contractual cases such as this, it is usual that claimants seek recoupment of their entire investment as a discrete element of compensation. Claimants are on solid ground when they ask to be reimbursed monies they have actually spent in reliance on the contract; recovery of lost future profits is less certain. The value of the asset taken in an expropriation case may be higher or lower than the amounts the claimant expended in developing the asset. (Positive subsequent developments such as improved market conditions, or successful exploration campaigns, may have resulted in a higher value; negative developments such as failed exploration campaigns, or a fall in price, may have had the opposite effect.) In the case of a breach of contract, the wasted cost is what the claimant has spent in reliance on the agreement, without reference to how judicious or providential those expenditures turned out to be. No further explanation is necessary to understand why victims of contractual breaches tend first and foremost to articulate a plea for damnum emergens.

On this footing, however, the quantification of lost profits must result in a lower amount to avoid double counting. This is so because future net cash flow generally includes all the amortisation of investment there will ever be. To ask for the full amount of the future revenue stream when also claiming recoupment of all investments is wanting to have your cake and eat it too. If the DCF method is applied in a contractual scenario to measure nothing but net cash flows (thus excluding the accrual accounting notion of "income" which may cover non-cash items such as depreciation), there is no room for recovery of wasted costs. In other words, when the victim of a breach of contract seeks recovery of sunken costs, confident that it is entitled to its damnum, it may go on to seek lost profits only with the proviso that its computations reduce future net cash flows by allowing a proper measure of amortisation. 19[Page65:]

4. The valuation of a loss of opportunity

A loss of opportunity (or chance) is a sub-category of lost profits where not only the magnitude but even the existence of monetary prejudice is doubtful. Ordinarily, this would be viewed as a matter of speculation and therefore not lead to recovery at all. What distinguishes this category of damages and rescues the claimant's prospects for recovery is that the possibility of profits itself has a value. The paradigm case is Sapphire, 20 which involved the cancellation of rights to explore and exploit any hydrocarbon resources found in a specific area. At the time of the breach, there was no way of knowing whether there would be any discovery of commercial value. Yet the chance itself had a value; a third party would have paid something for the licensee's rights.

But how does one measure that value? A one-dollar gambling chip may entail a chance to win a one-million dollar jackpot. The loss of the chip is therefore the loss of a chance to win one million. Yet there is no need to get into complicated probability calculations. The value of the lost chip is one dollar, because that is what it costs to buy another one.

Does that not mean that Sapphire's loss of a chance was represented by what it had spent to date in acquiring the license? If so, are we wrong in viewing this as a sub-category of lost profits, if the remedy is simply reimbursement of the wasted costs?

The answer to both questions is no. Just as the value of a one-dollar gambling chip may be less than one dollar if the word gets out that Fredo Corleone is running the casino, and just as its value will rise as gamblers are carried away in the frenzy of a compulsive intuition that the interval since the last jackpot has become abnormally long, so too events and information subsequent to the expenditure to procure a chance - e.g. Sapphire's license

- have an impact on the value of the chance. If the price of oil goes up ordown, the value of the license does too. (This is but another way of saying that the amount in the jackpot is not a stable one million.) If the government announces that it will grant no more licenses anywhere, the attraction of the existing license will tend to make it more valuable; and so also licenses in neighbouring countries. [Page66:]

5. An illustration of the dcf method and its inherent uncertainties

With respect to the DCF method, the Himpurna award reasoned as follows, explicitly recognizing the approximative nature of its outcome:

"There was an air of unreality with respect to both Parties' arguments with respect to the DCF method. Each appeared determined to deny the undeniable; the Claimant seemed to ignore studiously that it had embarked on a venture in Indonesia, and PLN that it had signed a firm undertaking to pay in US dollars.

"Thus, although one can hardly fault Professor Ruback's evidence [for the Claimant] as a matter of abstract financial analysis it was of limited value in this case.

"His opinion was rightly offered on a hypothesis excluding breach. It would be improper for PLN to obtain a reduction of its debt by invoking a risk that it would violate its own contractual undertakings. Those undertakings include a provision to compensate for the effect upon the Claimant of any Governmental action to alter 'taxes or other exactions' (Section 5.5 of the Contract), and a force majeure clause which maintains PLN's obligations notwithstanding acts of Government. The Parties thus find themselves in a situation similar to that examined by the Iran-US Claims Tribunal in the Philipps Petroleum award, which accepted a DCF analysis and stated that there should be no reduction in the value placed on the venture on account of 'threats of expropriation or from other actions by the Respondents related thereto'." 21

But the principle that PLN cannot reduce the amount of its liability by affirming the likelihood that it would not perform the contract goes only so far. Nor is it conclusive to say, as the Claimant justifiably does, that it negotiated a rigorous contract which protects the ESC revenue stream unconditionally. The fact remains that it is riskier to enter into a 30-year venture in Indonesia than in more mature economies. And it is no answer to say that the contract has allocated 99% of the risk to the Indonesian side. After all, there are documents which by their terms allot 100% of the risk to the debtor: bonds. Although they may be denominated in US dollars, although they may stipulate absolute obligations to pay, it still makes a difference whether the issuer is Switzerland or Swaziland. [Page67:]

Mr Cheng, on the other extreme, justified his high (47.8%) "risk-free rate" for investments in Indonesia by reference to a number of factors specific to his notion of the relevant country risk. (It should be understood that a risk-free rate is one which needs to be offered if one is to purge a capital placement of the perception of risk. Mr Cheng was very insistent on the point that the risk-free rate is not to be equated with the discount rate, which he ultimately believes should be 33.7%, because it derives from what he called a Weighted Average Cost of Capital calculation; transcript: 1236. In any event, risk factors clearly affect either figure.) His computations were unfortunately not only complex, but also obscure, as were his oral explanations. The Arbitral Tribunal concedes that it struggled unsuccessfully with his evidence, but has the impression that the same may also be true for the authors of both Parties' post-hearing briefs. Given the obvious competence with which Mr Cheng addressed other topics, the explanation for his impenetrable testimony with regard to the DCF issue may be that he had determined to seek to defend an indefensible thesis. The simple fact is that a dollar-denominated debt, even if it is owed by an Indonesian party, is not burdened with the full macula of the country risk; the factor of currency depreciation is removed.

To put it in a nutshell, PLN has failed to convince the Arbitral Tribunal that a US dollar paid from Indonesia is worth less than a US dollar paid in New York.

Nor does it avail PLN to stress repeatedly, as it does, the "probabilistic" nature of the estimates of the steam field reserves, as well as the risk of premature exhaustion or depletion through drilling. Given the fact that the Arbitral Tribunal has adopted reservoir estimates substantially inferior to the ones proposed by PLN's own expert, these risks must be put out of mind as amply covered by a generous margin of error. The Arbitral Tribunal is persuaded that the reservoir is more than twice as voluminous as what is necessary to justify its award.

On the other hand, PLN has raised a series of valid doubts to the effect that revenues could be diminished by, inter alia:

- a disruption, for technical or other reasons, of the rate of installation of Units;

- volcanic or hydrothermal eruptions; [Page68:]

- technical disputes as to the application of the price formula (for example, reference to a Unit Rate Capacity test in the absence of an operational Mechanical Gas Extractor could exaggerate the URC and thus the price); and costs could be increased by, inter alia:

- unanticipated expenditures on account of such problems as scaling due to the chemical composition of brine affecting the state of pipes, wells and turbine blades; or the need to drill more so-called make-up wells than anticipated in order to maintain the steamfield pressure;

- insufficient clarity in the Claimant's computations as to the breakdown of costs in rupiah as opposed to US dollars.

Weighing the factors discussed [above] as well as the consideration - favourable to the Claimant - of the relative maturity and promise of the Dieng project, the Arbitral Tribunal holds that the most appropriate discount rate is 19%. The arbitrators make no pretence that this is the result of precise weighings of the discrete considerations that have influenced the arbitrators; nor do they wish to create the illusion that they have engaged in econometric modelling, or even calibrated costs and revenues with a time line that establishes hypotheses for the commissioning of generating Units, contingencies of reservoir evolution, and the like. Both the rate and its application reflect a series of adjustments made by the arbitrators in their equitable assessment of the evidence, and, in the circumstances of this case, resolving all doubts in favour of PLN, the debtor.

The Arbitral Tribunal is not aware of any instances of international arbitral tribunals carrying out their own DCF computations to replace those presented by one of the parties. Indeed, in the case of Phillips Petroleum, although the award clearly accepted the DCF methodology and contained a sophisticated discussion of its application in the context of a "careful and realistic appraisal of the revenue-producing potential of the asset" including levels of production, costs, taxes, other charges, prices, and risks, 22 Chamber Two of the Iran-US Claims Tribunal explicitly stated that it "does not intend to make its own DCF analysis with revised components, but rather to determine and identify the extent to which it agrees or disagrees with the estimates of both Parties and their experts concerning all these elements of valuation," 23 and that in particular it would not "substitute the Claimant's discount rate with its own". 24[Page69:]

It may be objected that this approach exposes the ostensible adoption of the DCF method as something of a fig leaf. Indeed, it is difficult to connect the criticisms raised by the tribunal in the Phillips Petroleum case against the claimant's computations with the lump sum announced as the result of that Chamber's having taken account, in the traditional formulation, of "all relevant circumstances". 25 True enough, the tribunal identified two kinds of factor that affected its view of the DCF calculation, namely general "equitable considerations" 26 and "verification" by means of an alternative valuation method27 that looked to tangible investments and historic earnings. Nevertheless, it is legitimate to ask whether the result, in that case and often elsewhere, is not to create an illusion of scientific analysis to mask the reality of subjective approximations.

To be fair, there is nothing new under the sun. Lucrum cessans has always been an inexact science. As the arbitral tribunal put it in the Delagoa Bay case almost exactly one century ago, "such a computation made in advance on the basis of purely theoretical data cannot hope to be absolutely accurate but only comparatively likely". 28

The present Arbitral Tribunal wishes to be transparent in both its reasoning and its computations, fully recognizing the limitations of an exercise where risks, costs, and revenues are conjectural, controversial, and imperfectly synchronized. The Arbitral Tribunal has followed three lodestars: (i) the DCF method is adopted in accordance with the understanding articulated above in paragraphs 438-448; (ii) the Claimant must bear the burden of demonstrating the validity of its hypotheses; (iii) the infirmities perceived by the Arbitral Tribunal with respect to those hypotheses have resulted in a recomputation which the arbitrators fully realize is imprecise, but which seeks to avoid arbitrariness by compelling a thorough consideration of all relevant factors, all the while being conscious of erring, whenever imprecision is inevitable, in favour of PLN. Thus doubts have been resolved equitably in favour of the debtor.

There is no reason to apologize for the fact that this approach involves approximations; they are inherent and inevitable. Nor can it be criticized as unrealistic or unbusinesslike; it is precisely how business executives must, and do, proceed when they evaluate a going concern. The fact that they use[Page70:] ranges and estimates does not imply abandonment of the discipline of economic analysis; nor, when adopted by the arbitrators, does this method imply abandonment of the discipline of assessing the evidence before them. 29

6. Is there a role for the doctrine of abuse of right?

In Himpurna, the arbitral tribunal was faced with a claim for many hundreds of millions of dollars representing profits lost on investments not yet made, but which nevertheless would have yielded a reliable income stream given the fixed quantities that had to be paid - in hard currency - on a take-or-pay basis. The tribunal was unwilling to allow that part of the claim, reasoning as follows:

"True enough, damages for the loss of a bargain may in principle be granted even when the victim of a breach has not yet incurred significant costs. The Sapphire award provides an illustration. It arose from an oil concession agreement which had entered into effect in July 1958 but was held to have been breached by the National Iranian Oil Company within a matter of months, i.e. during an early stage of exploration and before any drilling, let alone extraction or sale. An expert called by the claimant gave his opinion that at most Sapphire might have made profits of US$ 46 million, but that if there were no commercial quantities it might have lost US$ 8 million. In addition to compensation for its limited costs during the short life of the contract, the sole arbitrator, fixing the quantum 'ex æquo et bono by considering all the circumstances', 30 awarded the claimant a lump sum of US$ 2 million for its loss of chance, reducing the claimed amount of US$ 5 million because of uncertainties concerning the magnitude of oil reserves as well as the economic risks over the 25-year life of the concession."

But there are fundamental differences between the Sapphire agreement and the ESC. First of all, one can hardly overlook the fact that the Claimant seeks to be made whole for all of its expenditures, and to recoup a return thereon calculated over 30 years, before even getting to the issue of loss of bargain on investments not yet made at the date of the breach. In Sapphire, if the sole arbitrator had not allowed the latter head of recovery he would in fact have tolerated a breach with impunity; i.e. he would have allowed the[Page71:] defendant to put itself in the claimant's shoes merely by paying off its actual costs. And even more fundamentally, whereas in Sapphire the foreign investor had entered into the agreement on the basis of producing oil for export on the world markets, in the present case it was explicitly understood that the only purchaser for the energy produced would be PLN. In such circumstances, it strikes the Arbitral Tribunal as unacceptable to assess lost profits as though the Claimant had an unfettered right to create ever-increasing losses for the State of Indonesia (and its people) by generating energy without any regard to whether or not PLN had any use for it. Even if such a right may be said to derive from explicit contractual terms, the Arbitral Tribunal cannot fail to be struck by the fact that the Claimant is seeking to turn the ESC into an astonishing bargain in circumstances when performance of the Contract would be ruinous to the Respondent. (A US$ 2.3 billion return - including the unpaid invoices - would represent a 630% profit on a US$ 315 million investment.) What troubles the Arbitral Tribunal is less the level of profitability in and of itself than its contrast with the losses facing PLN. To extract the full benefit of the hard terms of the ESC with respect to investments not yet made, in a situation where that benefit will clearly exacerbate the already great losses of the cocontractant, strikes the Arbitral Tribunal as likely to constitute an abuse of right inconsistent with the duty of good faith that is fundamental to the Indonesian law of obligations. 31

In an article published last year, 32 Professor Gotanda wrote that Himpurna misapplied the abuse of rights doctrine because:

"It is not, as the tribunal stated, a general principle of private international law that precludes the awarding of lost profits whenever awarding such profits would cause a severe financial hardship to the party that has breached the contract."

Perhaps Himpurna misapplied the law, but certainly not for this reason. The award contains no statement like the one alleged by Professor Gotanda. To the contrary, the award cites Socobelge for the proposition that even extreme macroeconomic crises do not overcome explicit contractual undertakings. Both damnum emergens and lucrum cessans were awarded on account of breach. The doctrine of abuse of right was invoked because the claimant also had a contractual right to make future investments under terms which[Page72:] would have been ruinous for Indonesia. For every dollar spent by the investor, Indonesia would lose multiple dollars. For this purely executory part of the contract (i.e. future stages where there had been no investment at all), the tribunal found it would be an abuse of right to insist on pursuing a disastrous programme only to collect damages not yet incurred.

This may be debated, but the debate is unproductive if it is uninformed. Himpurna's approach is more completely understood if one considers the following additional passage in the award:

"… in this matter [the Arbitral Tribunal] will apply the doctrine of abuse of right as an element of overriding substantive law proper to the international arbitral process. This is not an elaborate body of law. It has been applied notably when arbitral tribunals have upheld the principle of the autonomy of the arbitration clause33 or refused to accept that a State invoke its internal law as an impediment to its consent to arbitration. 34 In Benteler v. Belgium, the arbitral tribunal considered that the rule had acquired the status of 'a substantive rule of private international law the observance of which is obligatory in international arbitration'. 35 Professor Böckstiegel has put it thus: 'where the state or one of its public entities has accepted an arbitration clause, it is considered as part of international public policy that they cannot later claim that they could not submit to arbitration due to their own national law'." 36

The fact that such universal rules are few in number does not detract from their value when used to ensure the legitimacy of the international arbitral process.

In support of its inclusion in this limited corpus, it may be confidently said that the principle of abuse of rights (abus de droit, Rechtsmissbrauch) is universal. In his familiar study of general principles, 37 Bin Cheng devoted the entire Chapter 4 to this rule, which he also formulated in the obverse: "good faith in the exercise of rights". In the area of present interest, the doctrine has occasionally been applied to defeat the abuse of legal forms: ex re sed non ex nomine. Professor Böckstiegel writes that manipulation of the regime applicable to legal entities controlled by a State should not be effective to evade that State's obligations. 38[Page73:]

If the general principle may be invoked in favour of the foreign investor so as to avoid the result that its legitimate expectations are frustrated by unworthy manoeuvres, so too, in the Arbitral Tribunal's view, may it be invoked in certain circumstances against claims for profits which would tend to impoverish the host State.

The principle is old; one need only recall Cicero's summum jus, summa injuria. To say that the blind application of a rule may lead to iniquitous results is to recognize that the search for justice would fail if the law could do no more than validate relative positions of strength, or consolidate the status quo indefinitely. Thus, the exercise of a particular right may be inhibited if it would abase the law.

The objection to the effect that this doctrine opens the door to subjective decision-making is to be taken seriously, but is not decisive. The Arbitral Tribunal notes that the Claimant has anticipated a risk of a finding of abuse of right, and argued vehemently against it, relying in particular on a treatise co-authored by a member of the Arbitral Tribunal. The Arbitral Tribunal does not believe that either Party has committed an abuse of right; rather, it wants to ensure that none occurs. It appreciates the difficulties of application to which the Claimant alludes, but believes they are surmounted in the particular facts of this case.

In the first place, the legal process necessarily depends, to some extent, on the personal convictions of the decision-maker. If this were not so, the common law could hardly accommodate the notion of implied terms, nor could the civil law give effect to the fundamental rule - reflected in Article 1338(3) of the Indonesian Civil Code - that contracts must be performed in good faith. Secondly, the principle must be applied with great prudence: only when necessary to correct obvious excess. In the present case, the advent of economic turmoil does not prevent the Claimant from seeking its damnum emergens; it is blameless, and entitled on a contractual basis to be made whole. Nor does this turmoil disentitle the Claimant from seeking damages reflecting the benefit of its bargain; as already affirmed, contractual morality demands that disincentives to non-performance be maintained (see § 495).

The Arbitral Tribunal believes that this is a case where the doctrine of abuse of right must be applied in favour of PLN to prevent the Claimant's[Page74:] undoubtedly legitimate rights from being extended beyond tolerable norms, on the grounds that it would be intolerable in the present case to uphold claims for lost profits from investment not yet incurred.

In reaching this conclusion, the Arbitral Tribunal is mindful of the status of PLN as an arm of governmental policy acting in pursuit of the public welfare. The ESC itself was not directed to the narrow ends of profitable trading but must be seen, in the words of the Aminoil award, as "one of the essential instruments in the economic and social progress of a national community in full process of development". 39 As noted above in distinguishing this case from Sapphire, the energy supplied under the ESC was not exportable; the only purchaser was PLN. To oblige PLN to foot the bill for massive future investments - in circumstances where 100% of the additional capacity supplied as a result thereof, at the contractual dollar prices, would not only have been useless but have caused direct injury - would be perverse.

Another consideration concerns the nature of the breach. The Respondent did not seek actively to dispossess the Claimant of valuable contractual rights; it has suffered helplessly from a precipitate deterioration in the macroeconomic value of a project with respect to which it had accepted the entire market risk. In this regard, this case stands in stark contrast with a number of illustrious arbitral precedents. 40

Still, the application of the abuse of right was certainly controversial. One of the arbitrators, while not dissenting from the result as far as it went, appended a "statement" to the award in which he wrote:

"I note that every doubt in respect of lucrum cessans has been determined favourably to the respondent. The imposition of a concept described as 'abuse of rights' in the absence of findings of malicious intent or lack of good faith on the part of the claimant to further reduce the entitlement to damages is in my opinion an inappropriate and unwarranted penalising of the claimant." 41

Another approach leading to a similar result without resort to the abuse of right doctrine is reflected in ICC Award No. 7006, where the arbitral tribunal took into account the income stream of only one year beyond the breach on the footing that damages possibly arising in the course of the remaining contractual terms could have been mitigated. 42[Page75:]

1
Factory at Chorzów(Germany v. Poland) (Indemnity), 1928 PCIJ (Ser. A) No. 17.

2
156 Eng. Rep. 145 (Ex 1854).

3
See the ILC Commentary under Article 36, in James Crawford, The International Law Commission's Articles on State Responsibility: Introduction, Text and Commentaries, Cambridge University Press, 2002, pp. 218-230.

4
Consider these hypothetical examples: (A) Six ships are expropriated. Their replacement value is 100. (B) A transportation company owning six ships is expropriated. It is established that a bona fide third party purchaser was prepared to purchase the company, which benefited from a portfolio of advantageous contracts, for 200. (C) Same as B, but instead of proof of a third-party offer, there is an economically irreproachable demonstration that the going-concern value to the expropriated owners is 200. A is not difficult. But how is B different from A? See Crawford, Articles, p. 226: 'The value of goodwill and other indicators of profitability may be uncertain, unless derived from information provided by a recent sale or acceptable arms-length offer' (emphasis added). And if B is accepted, why not C? The demonstrable market value of a disposed asset has been accepted by international tribunals, as in the old de Sablacase (USv. Panama, 29 June 1933, VI RIAA 358) (proof of purchase offers for lots in Panama) and the more recent SPP v. Egypt case (Southern Pacific Properties (Middle East) Limited v. Egypt, decision on jurisdiction (No. 2), 14 April 1988, 3 ICSID Reports 131) (proof of willing purchasers of lots in the Pyramids Oasis project). But that may imply the recovery of anticipated lost profits; i.e. the purchasers are willing to go beyond the replacement value of the six ships (which are not for sale) to pay an enhanced value based on their expectations that the transportation company has demonstrable prospects of profitable operations. What then is the difference between B and C; or between enterprise value and lost profits?

5
Private Law Sources and Analogies of International Law, Longman, London/New York, 1927, reprinted in 2002, pp. 148-9.

6
Kyocera v. Prudential-Bache, 299 F. 3d 769, 790 (9th Cir 2002).

7
Himpurna California Energy Ltd v. PT. Persero Perusahaan Listruik Negana (PLN), and hoc, 4 May 1999, XXV Yearbook Commercial Arbitration13, 2000, at 84.

8
Aminoil v. Kuwait, ad hoc award of 24 March 1982, 66 International Law Reports 518, 1984, at 605.

9
Ibid., at 602.

10
Ibid., at 85.

11
Nearly a century ago, the three Swiss arbitrators who rendered the award in Delagoa Bay and East African Railway Co. (US and Great Britain v. Portugal, 1900), extracts in English translation in M. Whiteman, Damages in International Law, pp. 1694-1703, 1943, determined damages for the premature cancellation of a 35-year railroad concession "according to universally accepted rules of law, the damnum emergensand the lucrum cessans," ibid, 1698. After appointing experts to review financial performance and prospects, the arbitral tribunal projected the railroad's income over nearly 20 years, discounted it to a value at the date of the annulment (apparently using a discount rate of 6%) and granting compensation on that basis. For a recent award containing a concise and pellucid exposition of this approach, see Liberian Eastern Timber Corp. (LETCO) v. Republic of Liberia, ICSID award of 31 March 1986, 26 International Legal Materials 647, 1987.

12
Asser's Handbook, op. cit. Note 12, at 231-232 (free translation).

13
SPP v.Arab Republic of Egypt, ICSID award of 20 May 1992, XIX ICCA Yearbook 84, 1994.

14
Sapphire International Petroleums Ltd v. National Iranian Oil Company, ad hoc award of 15 March 1963, 35 International Law Reports 136, 1967.

15
Government of Kuwait v. American Independent Oil Company (AMINOIL), ad hoc award of 24 March 1982, 66 International Law Reports 518, at 581 (1984). Accord, Phillips Petroleum Company Iran v. Islamic Republic of Iran, Iran-United States Claims Tribunal, award of 10 June 1989, 4 Mealey's International Arbitration Reports No. 11(C), § 112.

16
Administrative Tribunal case (ILO and UNESCO), advisory opinion, 23 International Law Reports 517, at 537.

17
41 International Law Reports 29, at 76.

18
See Factory at Chorzów (Germany v. Poland) (Indemnity), 1928 PCIJ (Ser. A) No. 17. The distinction established by the Permanent Court of International Justice between lawful and unlawful takings was explored by Chamber Two of the Iran-US Claims Tribunal in the Phillips Petroleumcase, op. cit. Note 22, § 109-110.

19
XXV Yearbook Commercial Arbitration, 2000, at 70-73.

20
Sapphire Int. Petroleum Ltd v. National Iranian Oil Company, ad hoc, 15 March 1963, 35 International Law Reports 136, 1967.

21
Op. cit.Note 22, § 111.

22
Op. cit.Note 18, § 111.

23
Ibid., § 114.

24
Ibid., § 138.

25
Ibid., § 154. The same comment may be made with respect to the undifferentiated "overall determination of a global amount" used by Chamber One of the Iran-US Claims Tribunal to reduce another DCF evaluation, by the round figure of 350 million rial, in Starrett Housing Corp. v. Iran, Award No. 32-24-1, 1983, § 342.

26
Ibid., § 112.

27
Ibid., § 115.

28
Op. cit.Note 22, at 1699. In the Starrett Housingcase, op. cit. Note 51, Chamber One of the Iran-US Claims Tribunal referred, § 338, to "the exercise of judgmental factors that are better expressed in approximations or ranges".

29
XXV Yearbook Commercial Arbitration at 97-103 (2000). For another case where the arbitral tribunal applied a 15% discount of the net present value of future losses, on account of "the uncertain nature of the calculations," see ICC Case No. 8445, XXVI Yearbook Commercial Arbitration 167, 2001.

30
35 International Law Reports 136, 1967, at 189.

31
XXV Yearbook Commercial Arbitration, 2000, at 89-90.

32
John Y. Gotanda, "Recovering Lost Profits in International Disputes", 36 Georgetown Journal of International Law 61, 2004.

33
See Stephen M. Schwebel, International Arbitration: Three Salient Problems, 1987, at 60.

34
See, e.g., Benteler v. Belgium, preliminary award of 18 November 1983, Journaux des Tribunaux (Bruxelles) No. 5289, 31 March 1984; extracts in English in [1985] European Commercial Cases 101.

35
Passage quoted in 2 Arbitration International, 1986, at 95.

36
Karl-Heinz Böckstiegel, Arbitration and State Enterprises, 1984, at 25.

37
General Principles of Law as Applied by International Courts and Tribunals, 1953.

38
Böckstiegel, op. cit., at 45.

39
66 International Law Reports, at 590.

40
XXV Yearbook Commercial Arbitration, 2000, at 91-93.

41
Ibid.

42
XVIII Yearbook Commercial Arbitration, 1993, at 58.