The purpose of this chapter is to offer an overview of contractual requirements for environmental compliance in agreements with state and state entities in the context of arbitration. The topic is approached by indentifying a number of aspects regarding contracts with state and state entities, which comprise environmental obligations, where such contracts also include an arbitration or ADR clause.

Contracts with state and state entities may encompass a variety of situations. The most frequent contracts are privatization agreements, concessions agreements, private-public partnerships (“PPPs”) and public procurement agreements, in particular concerning public procurement of either works or equipments or other type of goods. All such contracts may include — and in fact these days do include — different clauses regarding environmental protection. Such contracts also provide specific sanctions for the violation of environmental obligations, sanctions that would be considered different from the ones provided by the law. In many situations, they include also an arbitration agreement.

This chapter is divided into three parts: (i) an introduction including a brief overview on the issue of arbitrability of contractual disputes involving states and state entities, (ii) a presentation of a number of examples of environmental protection clause included in such contracts and (iii) some comments on specific types of environmental protection clauses.

Arbitrability

The arbitrability of contractual disputes involving states and state entities is a matter which can be analyzed from two perspectives:

On one hand, there is the perspective of objective arbitrability, which requires assessment of whether or not the type of disputes arising out of, or in connection with, contracts such as privatization, concessions, PPP, public procurement, may be solved by way of arbitration. This type of arbitrability would not be considered as problematic, since these type of contracts are generally accepted as arbitrable. However, in some states there might be a different perception, based on the fact that administrative or public contracts are governed by the principle of public interest prevalance rather than by the principle of contractual freedom, and this leads to some doubts about the arbitrability of these types of contracts. However, even in such states, there is a tendency, at least in case law, to acknowledge more and more the arbitrability of all contracts entered into by state and state entities.

On the other hand, there is the perspective of subjective arbitrability, which relates to the arbitrating parties. Arbitrability of disputes with states or state entities has been widely accepted since the European Convention on International Commercial Arbitration, signed in Geneva in 1961. Even though there is still some hesitation in certain countries, recent developments on the issue indicate that arbitrability of contracts with state and state entities is becoming standard practice. For instance, after a number of years of differing views, this year Hungary finally reverted to the position that all disputes involving states and state entities may be considered arbitrable.

Of course, one can ask why one would include such arbitration agreements if one is a state or a state entity. Usually there are two main advantages considered by states:

The first one is a higher degree of confidence in international arbitration for the foreign parties entering into a contract with a state or state entity, as opposed to solving the contractual dispute in the local courts. By accepting arbitration agreements, state and state entities may attract more foreign investors. In turn, this can lead to an increase in competition, quality of work and materials used in projects, and also an increase in competitive pricing offered in various public procurements. Furthermore, investors increase the potential price that the state can obtain in privatization or a more solid perspective on the continuation of privatised economical activities.

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The second main advantage is the possibility to enforce the arbitral award in over 152 countries under New York Convention (1958), as opposed to the enforcement of decisions rendered by local courts, which is usually much more problematic, falling under a wide range of bilateral or multilateral agreements on the mutual recognition of judgments, such as the situation in the European Union, under the Brussels Recast Regulations.

Contractual Provisions

In this context of various contracts where state and state entities have included an arbitration agreement, this article discusses a number of examples of contractual provisions regarding environmental obligations included in contracts entered with states and state entities. Such clauses may be divided into two categories: (A) contractual provisions regarding the obligations of the states and state entities and (B) contractual obligations of private entities.

A. As far as the environmental obligations of states and states entities are concerned, one can see different types of clauses :

  • Certain representations, warranties or disclosures are made by the state or state entity at the time of entering the contract concerning the environmental situation of a specific asset, usually land, equipment or a company subjected to a privatization or any contract involving a transfer of ownership.
  • In PPPs and concessions agreements it could be an obligation to hand over the property after the environmental permits have been obtained. This is sometimes avoided in concession agreements, where it may be that the concerned state entities (ministers, municipalities, agencies or other type of state entities) are simply presenting the status quo of the property, without undertaking any obligation concerning the possibility of obtaining the environmental permits. However, in PPPs — which are based on a cooperation between the two parties — both parties undertake the obligation to cooperate in obtaining the environmental permit.
  • Another type of obligation, commonly found in PPPs and concession agreements, is the obligation to protect the environment and to perform any of the operations envisaged in a safe manner for the population. This is because PPPs are a part of contractual obligations that always belongs to the state or state entity. There is certain interaction between the two activities that would be developed, either based on a concession or based on a PPP. Such obligation may also exist in a situation of concession, although that is rare. In both PPPs and concessions, the presence of such type of environmental obligation is usually connected with the use of infrastructure, and the connectivity with the infrastructure of the state. Therefore, the state has to be present in the development of the contractual relationship beyond the signing of the contract. These types of contracts are “living creatures” in the sense that both parties are actively involved throughout the contractual period.

The following examples aim to illustrate the obligations discussed above. These examples are provisions taken from actual contracts and are presented below in a chronological order, for reasons which will be explained below.

The first example is taken from a privatization contract of a major oil company, in Romania, where the representations and warranties given by the seller, which at the time was the state, included environmental aspects:

Representations and warranties given by the seller

Environmental aspects

  1. The Company has obtained all the mandatory environmental permits and approvals and substantially observes the Compliance Programmes.
  2. No legal procedure was initiated against the Company and the Company has not been informed concerning any such procedure being initiated in relation to the violation of an environmental protection obligation by the Company, which, if solved unfavourably for the Company, might lead to losses higher than the equivalent amount in any currency of €1 million.

One can see that in this example the representations basically refer to obtaining the environmental permits and approvals that are needed in order for the company’s activity to be considered legal from an environmental law perspective and the absence of any legal proceedings initiated against the company in relation to its environmental obligations.

A second example comes from the privatization of a gas distribution company:

Representations and warranties given by the seller

Art. 12 Environmental aspects

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12.1. The Company has obtained all the mandatory environmental permits and approvals and substantially observes the Compliance Programmes.

12.2. The Company substantially observes all the provisions of the laws in force on environmental protection, health and safety and has not received any written notice from any competent authority stating the contrary or in relation to any significant non-compliance with the laws in force on environmental protection, health and safety.

12.3. No legal procedure was initiated against the Company and the Company has not been informed concerning any such procedure being initiated in relation to a violation of an environmental protection obligation by the Company, which, if solved unfavourably for the Company, might lead to losses higher than the equivalent amount in any currency of €500,000.

12.4. The assets owned or used by the Company, including the soil, surface waters, drainage and ground waters are not affected by significant pollution, including, without limitation, pollution/ contamination of the soil, buildings, waters, drainage and ground waters that might potentially lead to (a) the rendering of a final state court or arbitral decision against the Company or (b) to a settlement (diligently and reasonably negotiated by the Company) on a claim related to the above-mentioned based on which the Company would incur damages.

One can see that the drafting of the two contracts evolved: even if the obligations are actually the same in the second example the wording is more complex.

A third example is related to public works, a concession agreement for the execution for a metropolitan fibre optic network:

Mutual obligations of the parties
a. to observe the legal provisions regarding the environmental protection

(…)

Environmental protection of health and against noise
1. The Conceding Authority shall observe the applicable legal provisions, during the performance of works to [] Network. The Conceding Authority shall especially () observe the legal provisions in force related to environmental protection, of ground traffic and to limit the high acoustic emissions aimed to threaten the environment.

One might think that this type of contract does not have an impact on the environment. However, it can be seen that the state has actually considered the environmental issues carefully and the contract includes two types of obligations in this regard: first, the mutual obligation of the parties to observe all the legal provisions regarding environmental protection, and second, the specific obligation of the state entity, to observe all the legal provisions related to environmental protection during the performance of the contract related with this municipality network.

B. Referring to obligations of the private parties, there is a number of obligations falling under the category of environmental obligations. In this context two types of environmental obligations emerge: One related to the general activity based on the contractual rights, and the other related to accidents:

  • in the general environmental obligation one can notice: the obligation to apply for obtaining the regulatory licenses and permits under the law in force for the environmental protection; the obligation to observe and fulfill all environmental obligations stipulated in such documents; the obligation to protect the environment and to perform the operations safely for the population and environment.
  • Among the environmental obligations in case of accidents, one may include the following obligations: the obligation to take immediate steps to keep the situation under control; the obligation to inform the authorities; the obligation to promptly take all necessary steps to correct any damage to the environment.

A number of examples are presented below, also in a chronological order.

The first example is taken from a land concession agreement in which a general obligation was inserted according to which the private entity must not directly or indirectly pollute the environment, and must observe the law:

The concessionaire has the following obligations: […] Not to directly or indirectly pollute the environment (water, air, soil, etc.)

The second example is from a privatization agreement of a gas distribution company, where two obligations are mentioned, belonging to the private entity:

Environmental aspects

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  1. The Buyer acknowledges the reception from the Seller of all the information on environmental protection, including the information comprised in the Environmental permits of the Company, according to the data presented in the information in the Data Room.
  2. The Buyer undertakes, to the extent to which the Buyer is able to do so in compliance with the applicable law, to make all diligent efforts for the fulfilment of its obligations under the Environmental Permits and Approvals of the Company.

The third example of contractual provisions regarding environmental obligations of private entities comes from a privatization agreement of an electricity distribution company. We can notice a much more sophisticated drafting of this clause:

  1. According to the Seller’s knowledge, the Company shall not be responsible for compliance with the legal provisions, applicable administrative regulations and provisions on the environment, including, without limitation, the contamination with PCB, discharges, emissions, noise and vibrations, heat, light and radiations, hazardous substances (eg, asbestos or electromagnetic radiations), except those presented in Annex [].

    Except the data presented in Annex […], there are no claims, actions or compliance programmes noticed by the Company by the central or local authorities, or any other legal action initiated against the Company, which might entail the actual or potential liability for (without limitation) investigation costs, costs for the restoration of the previous situation, administrative costs, natural resource damages, property damages, bodily injuries or any other liability of the Company concerning the violation of the environmental laws or other environmental aspects, including without limitation PCB contamination, discharges, emissions, noise and vibrations, heat, light and radiations, hazardous substances (eg asbestos or electromagnetic radiations) for causes prior to the signature.”

The fourth example contains a similar provision. It is a clause inserted in a public works concession agreement for the execution of a metropolitan fiber optic network:

Mutual obligations of the parties
a. to observe the legal provisions regarding the environmental protection

The removal of debris

  1. The concessionaire will organize on its own costs, the removal of the debris and garbage and of the contaminated materials resulted from the works to the [] Network, which threaten the environment. The concessionaire must observe the legal norms related to these aspects.
  2. Contaminated materials as well as those jeopardizing the environment existing on the Land made available by the Conceding Authority, before the initiation of the works, will be removed by Concessionaire at the expense and risk of the Conceding Authority with the Concessionaire’s approval. Moreover, the Conceding Authority undertakes, in this respect, to act in such a way as the Concessionaire will not be penalised for and/or subject to any claim or penalty or other obligation by other authorities and/or third parties, since in such case the Concessionaire is not the one that caused the imputed actions/inactions. If, due to the removal of the contaminated materials or of those jeopardizing the environment, delays will occur in the execution of the works, the Concessionaire shall be entitled, without any other formality except a notice sent to the Conceding Authority, to initiate works in other work points associated to the []Network, thereby changing the Work Schedule; this action of the Concessionaire exonerates it from any responsibility on the non-fulfilment of its obligations related to these actions under the Contract.

The fifth example refers to a the privatization of a press distribution company. You will notice that even such type of activity is considered carefully as far as the potential impact on environment is concerned, particularly in consideration of the high number of locations covering all the country, but also the transportation activities.

  1. The Buyer states that it has received and has free access to all the documents, data and information relating to the situation of the Company’s locations, to all owned lands with any title and to the activity carried out on them in terms of environmental protection; that it had the opportunity to verify the veracity and legality of such information through its own investigations and surveys, assessing all the legal, economic, financial and environmental consequences arising from the enforcement of the clauses of this Contract.
  2. The Buyer states that it has been informed by the Seller about the possibility of the appearance, after the privatization, of certain additional environmental obligations and liabilities for the Company, arising from the need to comply with the legislation on environmental protection, including with those deriving from the gradual harmonization of the environmental protection in Romania with the European Union’s requirements.
  3. The Buyer undertakes, by using its position of major shareholder, to ensure — during the period of the Contract — the achievement, by the Company, of its environmental obligations and of the provisions of the compliance programs established by Territorial Environmental Protection Agencies, by means of the Environmental Permits for privatization, stipulated in the Appendix no. [..] to this Contract.
  4. By using its position of major shareholder, the Buyer undertakes to ensure:
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    The Company’s submissions to the Territorial Agencies for the Environmental Protection, of the documentation for the authorization/re-authorization of the activity within two months and, respectively 12 months from the date of transfer of ownership of the shares,
    To transmit, in writing, to the Territorial Agencies for the Environmental Protection and within 60 days from the date of transfer of ownership of the shares, the responsibilities assumed by the Buyer under this chapter.
  5. The Buyer states that the Seller will not be accountable, after signing this Contract, for any environmental obligations or liabilities arising from the need of the Company’s activity compliance with the requirements of the environmental protection legislation, of the regulations and policies for implementing thereof.
  6. The Buyer undertakes to waive the formulation of legal actions against the Seller related to the environmental protection, regardless of the date of the occurrence of the payment obligation or the date of receipt of the information that may represent the causes of such action.

The sixth example comes from a very recent concession agreement for oil exploration, development and recovery in the Black Sea region, which contains considerable obligations on the part of the private entity:

The Holder of the Concession Rights must apply for and obtain regulatory acts under the laws in force in the field of water management and environmental protection. The oil operations shall be carried out strictly in locations provided for by the regulatory acts issued by the competent authority for the environmental protection, being restricted in protected areas, minor water beds and lake basins, sanitary protection areas and water abstraction hydro-geological protection perimeters.

The Holder undertakes to observe and fulfil the obligations stipulated in regulatory acts issued by the water management and environmental protection competent authorities.

The Holder shall carry out the oil operations safely for the population and the environment, according to the best practice in the oil industry and with the Romanian laws on environmental protection in force.

The Holder will take measures to protect the environment in all its components, including the ground and underground, the air, the surface and ground waters, animals and plants, in order to avoid their degradation or destruction, as well as that of other natural resources and oil deposits.

In case of explosions, accidents or unforeseeable events, occurred during the Oil operations performed by the Holder in the Perimeter, the Holder will take immediate steps to keep the situation under control and to avoid the loss of human lives and damage caused to the property.

The Holder shall immediately inform the environmental protection competent authority in case of occurrence of accidental pollution, explosions, accidents or other unforeseeable events that might affect the environment and that occur during the Oil operations and will take steps to correct any damage to the environment, in the shortest time possible.

The Holder will observe all the procedures for obtaining the regulatory documents in the water management and environmental protection field, provided for by the Romanian laws in force.

In all the cases when the environmental protection competent authority decides that the activity or the installations owned by the Holder or any other types of operations carried out by it may jeopardise people or third party properties and/or cause damage to the environment, the Holder will have the obligation to take preventive and corrective steps according to the laws in force on environmental protection and water management.

Observations and the “Reverse Umbrella” Clause

In addition to the above general comments, there is another issue worth addressing in these final remarks. While the purpose of this chapter is not to conduct an international survey, but a more limited overview, the following three points are can be made, looking at these examples from a chronological perspective. First, there is an increase of representations and warranties regarding environmental obligations. Contracts are drafted in such a manner so as to include extensive representations and warranties from private entities, with the latter being increasingly open to offer the same in relation to environmental protection.

Second, it is noticeable that environmental obligations are provided for both parties, as opposed to the initial phase 20 years ago, when the obligations were provided only for the investor. So the states and state entities are more and more including themselves in those contracts as holders of obligations for protecting the environment.

Third, there is an evolution towards much more elaborate environmental clauses. Attention is paid to these particular clauses, so both parties, the states and the private entities are increasingly concerned with this issue.

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In the example of the metropolitan fibre optic contract, the fact that state and the private entity both undertook to observe the legal provisions regarding environmental protection is particularly interesting. This is because it presents us with what could possibly be referred to as a reverse umbrella clause — a phrase which may not have been used before.

Why a reverse umbrella clause? Because unlike the classic umbrella clause where a breach of contract is absorbed into a breach of treaty and therefore submitted to international public law, the example of the metropolitan fibre optic contract is reversed: The contract absorbs the breach of public law, administrative law, environmental law (both municipal and international, with no distinction being made between the two) — to the level of a breach of contract).

The question becomes whether a reverse umbrella clause is helpful, and if so, helpful for what purpose. This author’s view is that it may be enormously helpful to both private parties and states:

For the private parties, the reverse umbrella clause may be useful because, as opposed to the general perception that public law, is more equipped with tools and instruments used in enforcement of legal provisions than private law (see the administrative courts and administrative procedures against the state entities, usually aimed to provide parties with an efficient way to obtain an enforcement against the state entities). In fact when dealing with a state it might be better to resort to private law rather than public law; due to the fact that private law is better equipped to maintain the contractual balance between the parties, and enforce the obligations of the state or state entities. To be more specific, such clause may be helpful both in substantive and procedural legal aspects:

  • From the perspective of substantive law, the effect of this reverse umbrella clause is that the contractual termination clauses will apply, and so will the contractual penalties or other type of sanctions, all of which are contractually established. All these will apply in the presence of a reverse umbrella clause like the one presented for breach of all environmental obligations undertaken by the states under municipal or international law. Therefore, in such a case, if the state entity or the private party would violate their legal environmental obligations — not only those provided expressly by the contract — through the gate of the reverse umbrella clause, the private party may either seek the termination of a contract or obtain contractual remedies and penalties under the contract for any particular violation of the municipal or international environmental law of the state or state entity.
  • Procedurally, the reverse umbrella clause in itself is an additional tool for parties, one that would not be as easily obtained in the context of public law by the private entity. Through it, the private party may have access to arbitration in relation to what otherwise would be a matter reserved for the administrative courts or other courts of law. The reverse umbrella clause is a gate by which matters that would be a violation of administrative law, public law or domestic public law regarding environmental protection, can be submitted to arbitration because they are absorbed under this reverse umbrella clause into the realm of arbitrable contractual disputes. In this way private parties may move out from the courts of law of a specific state, and enter into the framework of international arbitration.

For the state or state entities, such reverse umbrella clause presents also a number of advantages:

  • On substantive law level, such a clause may provide the legitimate defence of a state against the claims made by the contractual parties in breach of their obligations. Usually, when the state or state entity enter into a contract, the state or state entity cannot defend itself against a claim from a private party by invoking anything else other than breach of contract by that party. It cannot invoke the fact that the private party breached various legal provisions other than those regulating that particular contract (for instance, the breach of an environmental law, absent a specific provision, would not be part of the applicable law in a privatization agreement). However, in the presence of a reverse umbrella clause, the state or state entity may do so. For instance, in the case of a concession, where the private party requests the continuation of the use of land it received based on the concession or, if prevented from using it, claims to be compensated by the state, the state may defend a refusal invoking the breach by the investor of the contractual obligation to comply with its legal environmental obligations.
  • Procedurally, access to international arbitration for breach of private party obligations under environmental law may also be in the best interest of a state or state entity, particularly in the context of the New York Convention (1958), as shown before, for the reasons of enforceability of the award worldwide.

To conclude, this reverse umbrella clause, noticed in the context of environmental law, is on its face a merger — a beautiful merger — between public and private law, between municipal and international law, that actually creates an additional tool for both private parties, states and state entities not only to approach their relationship based on equality, but also in ensuring access to arbitration.