Scottish energy company Cairn Energy plc (Cairn) has sought to enforce a $1.3 billion investment treaty award against the assets of India’s national airline, Air India.
The dispute started with Cairn’s 2006 restructuring of its Indian operations, through which Cairn established a subsidiary, Cairn India, which floated on the Bombay Stock Exchange. In 2011, Cairn sold most of its stake in Cairn India to London-based Vedanta Resources for $6.5 billion.
In 2015, the Indian tax authorities issued Cairn a demand for $1.4 billion. The demand ultimately rose to $5 billion with interest and penalties. The tax authorities claimed that the amount was owed on the Cairn India sale, on the basis that a 2012 amendment to India’s tax legislation allowed Indian tax authorities to retrospectively levy taxes on cross-border transactions concerning underlying assets in India. Pending the investigation, Cairn was barred from selling its residual 10% stake in Cairn India, which was valued at roughly $1 billion.
Cairn raised dispute proceedings under the Agreement between the United Kingdom of Great Britain and Northern Ireland and India for the promotion and Protection of Investment (UK-India BIT) in an effort to force the withdrawal of the tax demand and seek compensation for financial loss.
On 21 December 2020, a three-member UNCITRAL tribunal, sitting in The Hague, Netherlands, and administered by the Permanent Court of Arbitration, ruled in Cairn’s favour. The tribunal unanimously held that:
- The 2012 retrospective tax assessment was “grossly unfair” and in breach of the guarantee of the fair and equitable treatment contained in the India-UK BIT.
- The breach caused a loss to Cairn.
The tribunal ordered India to withdraw its unlawful tax demand and issued a monetary award of $1.25 billion, plus interest, in compensation for the lost proceeds Cairn would have gained from the Cairn India sale.
Cairn has been unable to collect on the award from India, despite multiple requests for payment.
Enforcement of award
On 14 May 2021, Cairn lodged an enforcement petition in the US District Court for the Southern District of New York against Air India to enforce the award by seizing its aircraft and other assets. Cairn identified $70 billion of state-owned assets globally that could be used to enforce the award. Cairn argued that Air India should be held jointly and severally liable for India’s debts on the basis that it is the “alter ego” of the Indian state.
Traditionally, there is a presumption in US law that state-owned entities are distinct from their sovereign state. However, the US Supreme Court has held that a state-owned entity (such as Air India) may be held liable for the debts of the state, and vice versa, where the state-owned entity is so extensively controlled by its sovereign parent that viewing them separately would give rise to fraud or injustice. The US Supreme Court also listed guidelines (the Bancec standard) to identify where state-owned entities can be viewed as distinct from their sovereign.
The Bancec standard considers:
- The level of economic control by the government.
- Whether the entity’s profits go to the government.
- The degree to which government officials manage the entity or otherwise have a hand in its daily affairs.
- Whether the government is the real beneficiary of the entity’s conduct.
- Whether adherence to separate identities would entitle the foreign state to benefits in United States’ courts while avoiding its obligations.
In consideration of such guidelines, Cairn argued that India exercises a “dominating hand” over Air India to the extent that its relationship with the airline is one of principal-agent. Cairn stated that the Indian government’s high level of control is evidenced by Air India’s internal laws and articles of association, which grant the Indian government functional, administrative and economic control over Air India’s operations. Administratively, the Indian government appoints and removes Air India’s officers and directors, and also dictates the airline’s policy and day-to-day operations. With regard to economic control, Air India is financially supported by the Indian government through grants, capital contribution, guarantees, loans, and special tax treatments. Moreover, property between the two is often treated interchangeably. As such, Cairn alleged that the airline is “legally indistinct from the state itself” and the nominal distinction between India and Air India is illusory and serves only to aid India in improperly shielding its assets from creditors, like Cairn.
Significance of case
This case raises the difficult question of whether a state-owned commercial entity can be deemed part of the state for enforcement purposes. Courts are generally cautious not to intervene in the exercise of a foreign state’s sovereign functions.
Indeed, the Washington, DC, federal court recently declined the grant of enforcement of an award against the Tajikistan state against the Tajikistan state-owned airline, Tajik Air. The court ruled that the airline was distinct from Tajikistan, its sole shareholder, on the basis that the claimant’s evidence fell short of proving that Tajikistan exercised an unusual level of state control over the airline. Tajik Air’s ability to open bank accounts, operate on an independent balance sheet, acquire and exercise rights, incur obligations, and litigate were “the hallmark of separateness from a sovereign”.
Cairn has however, advanced novel arguments to suggest that if a state exerts effective control over the entity, it becomes a commercial asset of the state, as opposed to a separate commercial enterprise. This challenges the very perception of Air India as a separate legal personality and presupposes that Air India and its assets are an emanation of the Indian state. If the New York court upholds Cairn’s arguments, this could set a very interesting precedent for enforcement against other state-owned entities, which would appear to be a departure from the current established position in most other jurisdictions.
English law approach
English law adopts a relatively restrictive approach to state immunity. The State Immunity Act 1978 (SIA) provides that assets owned by a “separate entity” (that is, an entity that is legally distinct from the state) are not considered property of a state and would not ordinarily be considered attachable in connection with a debt owed by a state.
For instance, in considering the circumstances in which the assets of state-owned companies should be equated with the states and its assets, the Privy Court of England held in Gécamines that, where a separate entity is formed for what on the face of it are commercial or non-sovereign purposes, with its own management and budget, the “strong presumption is that its separate corporate status should be respected, and that it and the state forming it should not have to bear each other’s liabilities”, and it will take “quite extreme circumstances to displace this presumption”. An example where this presumption could be displaced would be where the state-owned entity had no separate existence. This reasoning was cited with approval in the more recent case of Heiser v Islamic Republic of Iran, where the court considered the definition of a “state” in the UN Convention on Jurisdictional Immunities of States and their Properties and section 14(1) of the SIA (under which references to states include the department of a state and its representatives acting in that capacity, “but not to separate entities distinct from the executive organs of the Government of the State and capable of suing and being sued”).
The question of separability of states and state-owned enterprises also often arises in the converse situation where a state-owned entity seeks to rely on sovereign immunity as a basis to avoid enforcement. In these situations, the fact that the state-owned entity is a separate legal entity becomes of significant relevance.
For instance, in the case of Pearl Petroleum Company Ltd and others v The Kurdistan Regional Government of Iraq, the court examined whether the Kurdistan Regional Government (KRG) had exercised the sovereign authority of Iraq. The court found that although the KRG’s acts were sovereign, rather than commercial, such sovereign authority was exercised by the KRG as a separate entity, not as Iraq. On that basis, KRG was not afforded immunity under the SIA.
In the Taurus Petroleum case, the Supreme Court held that there was no state immunity on the basis that the entity:
- Was legally distinct.
- Was governed by a board of directors.
- The state had no control over its day-to-day operations.
As the state chose to act through an intermediary, it lost the benefit of state immunity.
The “commercial purposes” exception under the English SIA has also come into play in this context. In L R Avionics Technologies Ltd v The Federal Republic of Nigeria, Avionics sought to enforce an arbitral award against a Nigerian state-owned property in the UK. Avionics asserted that the property was used for commercial purposes, given its private leasing arrangements. However, the court held that the issuing of visas and passports to nationals at the premises amounted to consular activities. Nigeria’s outsourcing of consular activities to a private company did not change the nature of the operations. Therefore, the commercial purposes exception did not apply and the property was immune to enforcement under the SIA.
Given the differing approaches to the question of separability of states and state-owned or state-controlled entities highlighted above, the progress of the Cairn Energy claim is certainly going to be closely monitored by the international arbitration community.
With thanks to Carlotta Pregnolato, trainee solicitor at Morrison Foerster, for her contributions to this post.
