Italian investors in Russia: What’s next?

Russian countermeasures and the prejudice for foreign investors

Since the EU started adopting sanctions against Russia in 2014 (due to the unlawful annexation of Crimea), and more significantly after the stronger sanctions issued in response to the invasion of Ukraine begun on 24 February 2022, Russia started adopting countermeasures which are apt to generate significant prejudice for investors operating in Russia.

These measures include:

• the non-enforcement in Russia of foreign judgments or awards based on sanctions or involving sanctioned entities: Russian law n. 171-FZ significantly alters the regulation of Russian jurisdiction and of the enforcement of foreign judgments and arbitration awards in Russia. First of all, it provides that the Russian state commercial courts (so-called “arbitrazh” courts) have exclusive jurisdiction on disputes involving sanctioned individuals, individuals indirectly damaged by sanctions and/or disputes based on sanctions. The law also provides that individuals worried to be treated unjustly before foreign courts may disregard choice of courts and arbitration agreements in favour of Russian courts (and for the related possibility for Russian courts to issue injunctions against foreign proceedings dealing with matters reserved to them). Moreover, and most importantly, foreign judgments and arbitral awards involving sanctioned entities or based on sanctions will not be enforced in Russia unless (i) the sanctioned party initiated the dispute in the foreign jurisdiction, or (ii) the sanctioned party did not object to such proceedings. Moreover, it is also implicit that these judgments shall be, as all foreign judgments to be enforced in Russia, in compliance with Russian public policy. In this regard, however, it is likely that, when enforcing foreign judgments involving sanctions against Russia, Russian courts will consider a violation of Russian public policy to be existing, as testified by the fact that on 9 December 2021 the Russian Supreme Court ruled that the imposition of sanctions is per se sufficient to generate a weaker level of protection for sanctioned parties in foreign proceedings.
• The ban in the export of cash and money in excess of $10,000.00: starting from 2 March 2022, there is a prohibition affecting individuals and legal entities to export foreign currency both in cash and through money market instruments for amounts exceeding $10,000.00.
• The prior governmental authorization for certain transactions: all transactions relating to the transfer of title to securities and real estate involving (i) persons related to foreign states that have imposed sanctions on Russia (including people and entities having citizenship or registered in these countries, conduct their business in these countries and/or receive their profits mainly in such states, as well as entities controlled by these people or entities), or (ii) non-sanctioned persons who acquired securities and real estates by sanctioned individuals or entities after 22 February 2022, are subject to a prior governmental authorization. The authorization is also required for (a) disbursement of foreign currency to non-residents and the signing of new loan agreements, (b) transfers of foreign currency to residents bank accounts abroad; and (c) transfers of funds by electronic means of payment provided by financial service providers.
• Limitations concerning the reimbursement of credits, loans and financial instruments: payment by debtors – who are Russian residents, the Russian Federation or its State entities – of their obligations (i) under credits and loans, as well as (ii) financial instruments, including securities, shares, bonds and derivatives, to individuals and entities related to States who sanctioned Russia shall be placed on particular bank accounts (so-called “C accounts”) and the possibility to use funds in such accounts are significantly limited. As a consequence, non-residents would need authorization to withdraw funds for any purpose other than those specified as being permitted (such as the payment of taxes and purchase of federal government bonds).

Focus: the standards of protection set forth in the Italy-Russia BIT of 1996

Despite the problems that may arise in relation to Russian measures described above, the Italy-Russia BIT, in force since 7 July 1997 and covering investments started since 10 February 1947 (see art. 11), establishes a good regime of protection for Italian investors with businesses in Russia.

First of all, the definition of “investment” set forth in the BIT is based on the so-called “every kind of asset approach”, in accordance to which all material and immaterial assets (with the exclusion of mere sales operation) which may generate an expectation of profit for Italian parties in Russia enjoy the protection of the standards of treatment set forth in the Treaty (see art. 1, par. 1). The definition is, therefore, all embracing and it involves, inter alia, rights in rem, shares, obligations, titles, participations, guarantees, credits and all rights with an economic value.

Individuals and entities who can be considered as Italian (in accordance with Italian law) and who were, when starting their business, entitled (again, in accordance with Italian law) to start an investment in Russia are to be considered as protected investors (art. 1, par. 2).

All Italian investors enjoy the advantageous standards of treatment set forth in the BIT. The reference applies, in particular to:

• The so-called fair and equitable treatment of foreign investments (art. 2, par. 2), which includes the duty to respect the legitimate expectations of foreign investors (that, in turn, may be generated by contract, legislation and promises by the State), the duty to ensure the respect for due process of law (both administrative and judicial) and to avoid denials of justice, the duty not to act in an arbitrary and discriminatory manner and the duty not to generate prejudices to foreign investors which are disproportionate with respect to the goal of the public measures involved.
• The obligation to maintain stable and favourable legal and economic conditions (art. 2, par. 2).
• The duties (art. 3) to ensure to Italian investors a treatment which is not less favourable to the one ensured to other foreign investors (so-called “most favoured nation” treatment, which, however, does not apply to the treatment ensured to ex-Soviet Republics) or to Russian nationals (so-called “national treatment”).
• The obligation (art. 4) to ensure to Italian investors, in case of wars, armed conflicts or emergencies, an economic restoration which is not less favourable to the one granted to Russian nationals or other foreign investors (if any).
• The duty (art. 5) not to expropriate foreign investments, either directly (by means of an explicitly expropriatory measure) or indirectly (by means of a number of measures which, taken together, are tantamount to expropriation), unless in presence of a public interest and with the payment of a prompt (within three months from the determination of the amount), adequate and effective compensation (equal to the market value of the expropriated asset).
• The duty (art. 6) to ensure the free circulation of funds and any kind of income owned by Italian investors in Russia.

In case one of the these standards of treatment is violated, art. 9 of the BIT provides, after a six month attempt of amicable settlement, for investor-State arbitration, which may be started by Italian investors without any further consent by Russia. Such a form of arbitration will consist in ad hoc proceedings regulated by the UNCITRAL arbitration rules. Arbitration panels will be composed of three arbitrators appointed in accordance with the same rules and the seat of arbitration will be Stockholm. The law applicable to the substance of proceedings will be composed by both the BIT and general principles of international law. Should difficulties arise in the appointment of one of the arbitrators, the Chairperson of the Arbitration Institute of the Stockholm Chamber of Commerce will act as appointing authority.

The applicability of the Italy-Russia BIT to the damages due to countermeasures

On the basis of the above, we now turn to the analysis of the possible violation of the standards of treatment contained in the Italy-Russia BIT by the Russians countermeasures affecting Italian investors. In this regard, it is preliminarily worth pointing out that, in accordance with article 27 of the 1969 Vienna Convention on the Law of Treaties, a State may not invoke the provisions of its internal law as justification for its failure to perform a treaty. As a result the Russian domestic law containing countermeasures cannot constitute a way to escape BIT obligations.

Starting from the non-enforcement in Russia of foreign judgments or awards involving sanctioned entities or based on sanctions, it shall be pointed out that there is a clear trend of arbitral decision setting forth that arbitral awards are to be considered as assets involved in the definition of investment. As a consequence, the award creditor unjustly facing a refusal to enforce the award in Russia in an arbitrary manner might seek protection under the BIT for a violation of the fair and equitable treatment standard.

The ban in the export of cash and money in excess of $10,000.00 is likely in violation of the duty, set forth by art. 6 of the BIT, to ensure the free circulation (including the transfer abroad) of funds and any kind of income owned by Italian investors in Russia. In this regard, it could also be argued, on a case by case basis, that the circumstance that money are paralysed in Russia constitutes a form of indirect expropriation, considering the material impossibility for Italian investors to dispose of such amounts of money.

As to the prior governmental authorization for certain transactions, it is not possible to make an abstract assessment. However, in the case where an individual or entity already (i.e. before the countermeasures were enacted) carried out certain activities in Russia, perhaps in collaboration with the public administration, with a view of establishing a permanent business, it could be possible to argue that an investment in accordance with the (broad) BIT definition already took place. As a consequence, by subsequently denying the authorization to the establishment of the investment, the State could be in breach of the investor’s legitimate expectations (something that is encompassed within the duty to ensure a fair and equitable treatment of foreign investment).

Finally, with regard to the limitations concerning the reimbursement of credits, loans and financial instruments, meaning (as already said) that non-residents would need authorization to withdraw funds for any purpose other than those specified as being permitted, it is possible to envisage both a breach of the obligation not to limit the circulation of funds and revenues related to foreign investments and of the duty not to realize indirect expropriations, should, in the latter case, a material impossibility to dispose of the investment take place.

Lastly, it is worth highlighting that an arbitral award obtained pursuant to arbitration proceedings seated in Stockholm and celebrated in accordance with the UNCITRAL Arbitration Rules is enforceable in accordance with the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards. Such a Convention today is in force in 170 States and this means that wherever Russian assets commonly used for commercial purposes (i.e. not related to the performance of the State’s sovereign functions such as, e.g., the accounts of an Embassy) are located, an enforcement of the award may be sought.

Next steps

Investors affected by Russian countermeasures should consider the possibility to start an arbitration against the Russian State. In this regard, as this post tried to show, the Italy-Russia BIT of 1996 effectively offer a significant protection to Italian investors in Russia.

Due to the necessity of a prior 6 months attempt of amicable settlement, it is worth immediately notifying the Russian State of the intention to start an arbitration (which, in any case, may at the end not be commenced) and to start evaluating the concrete chances of success of the claim. Such chances shall be evaluated on the basis of the relevant international law rules and case law, something that imposes that investors seek a very qualified advice.

Authored by Andrea Atteritano and Giovanni Zarra.