IISD | 10 March 2020
Hungary held liable for expropriating the investment of a British investor and ordered to pay EUR 7 million in compensation for damages
by Maria Bisila Torao
Magyar Farming Company Ltd, Kintyre Kft, and Inicia Zrt v. Hungary, ICSID Case No. ARB/17/27
On November 13, 2019, an ICSID tribunal ordered Hungary to pay damages to a British investor in compensation for its breach of the Hungary–United Kingdom BIT as well as half of the investor’s legal costs. The tribunal awarded approximately EUR 7 million in damages.
Background and claims
Between 1990 and 1994, Hungary carried out a profound transformation of its agricultural industry by privatizing over 85% of the country’s farmland. To regulate the acquisition and ownership of farmland, Hungary enacted the Arable Land Act, which provided that only Hungarians were allowed to acquire agricultural land. Foreigners could only lease land either from the state or from Hungarian nationals for a limited period of 10 years and with a maximum area of 300 hectares (para. 110).
In this framework, in 1997, a group of British farmers sought to invest in Hungary’s agricultural sector. They incorporated Magyar Farming Company Ltd as a holding company in the United Kingdom, and Kintyre Agricultural Trade and Services Kft as its Hungarian subsidiary (collectively, Magyar). In 1998, Kintyre acquired 95.13% of Inicia ZRT, a Hungarian company that owned privatized farmland. At the time of the investment, the investor relied on Inicia’s lease agreement, a 10-year profit lease under the Arable Act that provided for a statutory pre-lease right.
In 1999, Inicia’s lease was extended for 10 years starting from July 1999. Later, in 2002, the Arable Land Act was amended, extending agricultural leases periods from 10 to 20 years. Accordingly, Inicia requested a modification of its lease, and as a result, in 2006, Inicia’s lease was extended to 2014. The authorities considered that the 20 years would run from the date in which the lease was concluded.
In 2010, Hungary sought to reform the agricultural sector, redistributing state-owned farmland to promote family farms over farming companies. Under the Act on the National Land Agency (the 2010 Act), the pre-lease rights were maintained but later removed in 2011 (the 2011 Amendment). As a result, Inicia’s lease was divided into several plots and awarded to local farmers by way of public tender. In response, Magyar and Inicia filed for arbitration against Hungary claiming expropriation of their leasehold rights to the land in breach of Hungary–United Kingdom BIT Article 6(1).
Tribunal dismisses Hungary’s intra-EU and subject-matter jurisdictional objections
In its first jurisdictional objection, Hungary argued that the BIT’s dispute resolution clause (Art. 8) was incompatible with the EU Treaties, referencing the Achmea decision (para. 172–173), and that such incompatibility between the BIT and the EU treaties should be resolved in favour of EU law.
The tribunal reasoned that the ICSID Convention is not subject to a national legal system. As a result, the validity of the arbitration agreement or arbitrability of the dispute cannot be governed by a lex arbitri. Therefore, for the purposes of this arbitration, the tribunal decided not to consider the consequences, if any, of the application of a particular lex arbitri—EU law, in this case (para. 203).
Further, Hungary contended that the dispute did not fall within the scope of the BIT’s dispute resolution provision, and therefore the tribunal could not rule on Hungary’s conduct because none of its actions amounted to expropriation. The tribunal rejected this argument, relying on well-established case law (Inmaris v. Ukraine, CSOB v. Slovak Republic and Holiday Inn v. Morocco) and affirming that, for purposes of subject-matter jurisdiction, the existence of an investment must be assessed as a whole (para. 274–275).
Hungary’s amendment of the 2010 Act amounted to an unlawful expropriation as no compensation was paid
Hungary argued that the statutory pre-lease right was provided by general legislation, which the state could modify for policy reasons, and therefore the right was not capable of being expropriated (paras. 340, 346).
The tribunal, however, concluded that although the state has a right to regulate, this power should not be exercised retroactively (para. 347). The tribunal further explained that the standard contained in Article 6 of the Hungary–United Kingdom BIT provides for protection of vested rights. Hence, “if a general statute gives private parties a possibility to acquire rights of economic value, changes to that legislation should not affect rights that had already been acquired under the statute. In this sense, the doctrine of vested rights is closely intertwined with the principles of non-retroactivity and legal certainty” (para. 347).
Hungary also argued that a bona fide exercise of the state’s right to regulate is exempt from the duty to pay compensation. The tribunal disagreed and reasoned (referencing Pope & Talbot v. Canada) that an unqualified exception from the duty of compensation for all regulatory measures could not be created as it would be incompatible with the standard language of non-expropriation provisions of investment treaties—such as Article 6 of the BIT—which require compensation for direct and indirect expropriation even if the measures are for public purposes, non-discriminatory and compatible with due process of law (para. 364).
The tribunal continued by agreeing with the approach taken in Saluka v. Czechia that there is no comprehensive test to distinguish regulatory expropriation (for which compensation is required) from an exercise of police or regulatory powers, which does not give rise to a duty of compensation (para. 365).
Damages and cost
Hungary relied on an expert report that estimated the range of the claimants’ loss between EUR 3.4 million and EUR 5.6 million. According to Hungary, the standard of compensation should be the “fair market value of the investment expropriated,” as provided by BIT Article 6(1). In turn, the claimant’s expert presented three different valuations to the tribunal using data from different dates.
The tribunal rejected Hungary’s valuation methodology, accepting as a starting point the second of claimants’ valuation, in which they relied on a discounted cash flow (DCF) valuation as of July 2015 using data available at the time (para. 404-407). However, the claimants’ expert applied a 25% discount on the actual value of the farm, which the tribunal found unreasonably high, considering that any liquidity discount would be marginal. Consequently, the tribunal applied a 5% liquidity discount, concluding that this percentage would be a more appropriate measure (para. 413).
In conclusion, the tribunal awarded EUR 7.1 million in compensation for the expropriation of claimants’ investment out of the EUR 17.9 million initially claimed. The tribunal also ordered Hungary to reimburse the claimants for the tribunal cost in the amount of USD 282,224.40 and legal costs in the amount of GBP 296,456, EUR 19,473 and HUF 26,495,585.50.
Notes: The tribunal was composed of Gabrielle Kaufmann-Kohler (president appointed by the parties, Swiss national), Stanimir A. Alexandrov (claimants’ appointee, Bulgarian national), Inka Hanefeld (respondent’s appointee, German national). The award of November 13, 2019 is available at https://www.italaw.com/sites/default/files/case-documents/italaw10914.pdf
Maria Bisila Torao is an international lawyer based in London. She holds an LL.M. in investment treaty arbitration from Uppsala University, an LL.M. in international commercial arbitration from Stockholm University and a bachelor’s degree in law from the University of Malaga.