Location, Location, Location

Protecting investments in a volatile global economy

Many investors and multinational companies find emerging and frontier markets compelling, and reasons include a growing middle class, advances in technology and the fact that GDP growth in emerging markets often outpaces developed markets. The recent fallout from Russia’s invasion of Ukraine has led to upheaval following an unprecedented number of sanctions and export controls. Combined with the ongoing trade tensions between the United States and China and mutual threat of sanctions, there are even more risks for companies and lenders need to consider when making investments.

Over 750 companies have rushed to curtail or withdraw entirely their operations in Russia either to avoid falling foul of international sanctions or to avoid the reputational impact of being seen to support a hostile regime. Russia’s Economic Development Ministry has proposed federal legislation to enable the government to seize assets from persons or corporates connected with “unfriendly states”. This would be in retaliation for a U.S. proposal to sell off Russian oligarchs’ assets and pay the proceeds to Ukraine and to prevent further exits from the Russian markets.

The risk of investing in foreign territories extends beyond the borders of Russia and nationalization has always been a primary risk for companies doing business in emerging and frontier markets. Despite the cost of abandoning investments and the loss of business, public disapproval towards autocratic and hostile countries is providing a much stronger incentive to withdraw. Boards must now consider wider societal interests and reputation risks and are increasingly considering geopolitics, domestic politics, and governance.

A BIT of Protection

Investors with assets or businesses abroad should plan to manage and mitigate any future risk arising from disputes with potentially hostile governments. A key protection for foreign investments is through a bilateral investment treaty (BIT). A BIT is an investment guarantee agreement between two signatory countries which provides protection for investments made in one country by investors from the other country. Such protections often include giving investors a right of action against a country for any violations of the BIT by submitting a claim to arbitration (often to the International Centre for Settlement of Investment Disputes) rather than suing the host country in its own courts.

Executives should be questioning whether maintaining business in contentious jurisdictions is feasible, especially considering the ongoing global supply chain crises and how quickly events occurred between Russia and Ukraine. It would be prudent in the least to consider diversifying business relationships elsewhere and evaluating the consequences of any geopolitical and economic worst-case scenario.

In the absence of a BIT, businesses are advised to review their contractual arrangements in foreign jurisdictions. Some multinational companies claim they are currently unable to withdraw from Russia because they are bound by complex investment, joint venture or franchise deals and do not own the operations bearing their name. However, even if parties do not have sanction-related clauses, there may be other instances which may give a foreign investor protection, such as for example force majeure or material adverse change clauses. It is worth noting that even where parties have a right of action in court or in arbitration, investors can find it difficult to enforce a judgement or arbitration award and actually receiving any financial compensation is often not a realistic outcome.

With the heightened risk of operating in contentious jurisdictions, foreign businesses should heed the lessons of the Russian exodus and also at the very least consider relocating or diversifying their manufacturing capacity to other countries. To avoid the ongoing impact on supply chains following the Russian invasion and the lingering effects of the pandemic, many businesses are also considering “friend-shoring”, with which they mean building close relationships with businesses in “friendly” countries who share similar values and economic and strategic interests. With appropriate legal structuring, some risks can be navigated and mitigated so that operations abroad can be executed and maintained with minimal disruption caused by geopolitical, pandemic, or other risks. As the Financial Times summarised last month: “The lesson of Russia’s invasion is not just that the unthinkable can happen, but that the consequences can play out at a speed and scale few had imagined possible.

Authors

Ton van den Bosch, partner, of Addleshaw Goddard LLP and Jagpal Pahal, trainee solicitor at the firm. Based in Singapore, Addleshaw Goddard LLP advises on corporate transactions and project development in the energy, offshore, agriculture, logistics, ports and terminals sectors in frontier and emerging markets in Africa, the Gulf and in Asia.