Don't be a stranger: the benefits of investor-state arbitration to the tech sector

Published: 28/2/2022

Investor-state arbitration is a mechanism by which a company or individual investor can make a claim against a host state for breach of the host state’s obligation to protect the investor’s investment.

Claims can be made provided the investor is a national of a state that has a relevant international investment treaty with the host state. Typically, such protections have been best utilised by the long-established telecoms, infrastructure, energy and extractive industries. However, despite the relatively recent emergence of globetrotting trillion-dollar technology companies, similar recourse to investor-state arbitral tribunals has been comparatively non-existent in this disruptive industry. As the global technology sector becomes increasingly embattled by a reactive and arguably punitive regulatory landscape, the merits of investor-state arbitration for tech companies can no longer be ignored.

A brief introduction to investment treaties

Historically, investors seeking to make a claim against a foreign state for damage to their investment would have to rely on their home state taking up the fight on their behalf, with all the diplomatic conundrums that entail. Today, thankfully, there are more accessible options available.

Investors can now rely on a system of international treaties that states the world over have entered into. There are over 2,500 bilateral and multi-lateral investment treaties in force today. These are agreements negotiated and signed by two or more sovereign states to manage the investment activity of entities from one state into the other. They also provide for the protection of investments.

Provided (i) an investor has the nationality of one of the states a party to the treaty, and the host state of the investment is also a party, and (ii) the investment meets the criteria of a ‘protected investment’ as defined in the relevant treaty, then an investor can bring a claim directly against that state in the event of a breach of the treaty’s protections.

Relevance of investment protection to the tech sector

Currently, tech sector claims account for a negligible proportion of investor-state arbitrations. This is despite the global value of the information technology industry which is forecast to see USD5.3 trillion in spending in 2022. In comparison, the telecoms industry – a sophisticated user of this means of dispute settlement – is forecast to reach a value of only USD1.9 trillion by 2027. Coupled with the global nature of the industry, it is therefore surprising that so few investment arbitrations relate to the tech sector. This is especially so given that tech companies make prime targets for governments: they are typically market disruptors prone to attracting the ire of domestic regulators seeking to rein their activities in to protect existing industries; and they are frequently high profile, so become fodder for political gain.

There are many standard protection provisions in investor-state treaties that could be of relevance to the tech sector: preventing the expropriation of an investor’s assets; ensuring fair and equitable treatment which protects against punitive regulation; preventing discrimination which safeguards against unequal treatment as against local investors; and full protection and security which can mitigate against both physical and cyber attack by state or other local entities.

Of course, ensuring such protection means first ensuring the investment is a ‘protected investment’ under the relevant treaty. Generally, an investment is defined as an asset owned directly or indirectly in the territory of a host state that has economic value. Typically – and why the extraction industries are such fertile ground for claims – this involves physical property, shares or IP. For tech companies, the primary value tends to come from the harvesting of data. That data is used to generate revenue through advertising or the provision of other services.

One challenge presented by applicable treaty language is that data is stored in the cloud which will prompt arguments as to which territory it is linked to. For the treaty to be applicable and capture the investment, it is important to tie that data to the host territory. In order to achieve that tethering, any arguable element can and should be considered: the location of host servers provides a good start as they are physical assets; the types and location of users and paying advertisers should also be considered; even the efforts of local governments to tax the company can be argued as evidence of their territorial link. This reasoning can also extend to the emerging world of crypto assets as the existence of the underpinning infrastructure, e.g., bitcoin mines, arguably evidences a clear link to a host state.

Similarly, it is important that the tech company meets the definition for 'investor' in the relevant treaty. If you are trying to enter a country that your state of nationality does not have a treaty with then it would be a good idea to structure that investment via a country that does. Setting up subsidiaries to do this is a well-recognised method and can also provide tax advantages. If restructuring is required, it is necessary that this is done early and before an issue or dispute is foreseen as otherwise, protection may not be obtainable.

Relevance of investment arbitration to the tech sector

Once these requirements are met, a tech company should have a good basis for making a claim against a host state government to address a perceived wrong. Raising a claim by way of an initial letter to put the government on notice can often lead to negotiation and settlement of the issue without ever having to go through with the entire arbitration process.

With these valuable benefits, consideration of investment treaty protections and the resultant arbitral mechanism can contribute meaningfully to a tech company’s business strategy as governments around the world take robust positions on whether to encourage or discourage outside investment in their local tech sectors.

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