Here we go: ESG-disputes in international arbitration

Not only are we increasingly seeing Environmental, Social and Governance ("ESG") ideals reflected in the corporate policies of large companies, but they are also beginning to find their way into commercial contracts, particularly between these big companies.

As a result of this, the focus of corporate policy seems to be shifting from value creation and monetary measures to a broader spectrum that includes positive social and community impact. These ESG ideals are also increasingly evident in (inter)national legislation, regulation and case law.

The increase in ESG-related obligations (legal or contractual), coupled with a growing awareness of ESG ideals in corporate policies and investment decisions, is expected to lead to an increase in potential disputes. Such a development is particularly interesting given that many (international) commercial contracts and international trade and investment treaties contain an arbitration clause that requires the parties to submit a dispute to an arbitral tribunal rather than to ordinary state courts. The question now frequently raised in the literature is whether (international) arbitration is an appropriate means of resolving ESG disputes. Our answer is yes. Indeed, (international) arbitration offers the possibility of having specific ESG-related issues decided by arbitrators who are specialists in the relevant field or subject matter. Moreover, (international) arbitration offers other advantages making it perhaps even more appropriate than regular dispute resolution. There are generally two types of claims that are suitable for resolution through (international) arbitration: (i.) claims based on commercial contracts and (ii.) claims based on international trade and investment treaties.

Claims based on commercial contracts

As mentioned before, (large) companies are increasingly striving to align their corporate policies with ESG objectives. Managing ESG risks is therefore critical to ensuring that these 'promises' are put into practice. One approach companies often take in this context is to include ESG clauses in commercial contracts. Such clauses are either derived from their own ESG objectives and policies, inspired by non-binding guidelines from organizations such as the Organisation for Economic Co-operation and Development (“OECD”) and the United Nations, or mandated by applicable legislation. We expect the latter category in particular to play a greater role in the near future. Indeed, there have been attempts to make ESG ideals legally binding on (large) companies. For example, on 23 February 2022, the European Commission presented a proposal for a directive on sustainability due diligence: the 'Corporate Sustainability Due Diligence Directive’. The aim of this directive is to promote sustainable and responsible corporate behaviour and to integrate human rights and environmental considerations into corporate activities and governance.

As a consequence, ESG clauses are now more common in all types of commercial contracts: supply chain agreements, credit facilities, joint venture agreements and M&A transactions. At the same time, this development is also having an impact on the number of ESG disputes resolved through (international) commercial arbitration. As an arbitration clause is not uncommon in commercial contracts, it is expected that such disputes will be submitted to arbitration more often. This is further compounded by the fact that these provisions are new and complex, and their implementation and enforcement is challenging for companies. As a result, ESG disputes are inevitable, involving new issues of interpretation, enforceability and measurement of compliance with ESG provisions and/or obligations, as well as claims for non-performance or misrepresentation of ESG matters. In cases where these contracts contain an arbitration clause, the parties will be obliged to submit the ESG dispute to arbitration.

Claims based on international trade and investment treaties

A similar trend can be seen in international trade and investment treaties, which are increasingly incorporating ESG protections. The purpose is to ensure that contracting states promote and effectively achieve their ESG objectives. Initially, these treaties focused mainly on providing protection and remedies for foreign investors against the 'host state'. However, with the increasing importance of ESG-related issues in international investment, there is a paradigm shift in priorities and emphasis: host states are more likely to bring claims or counterclaims against foreign investors for failure to meet their ESG-related obligations or in situations where investor protection clauses frustrate a host state's ESG objectives. This would be a remarkable development, given that the original purpose of these investment treaties was to make it attractive for private investors to invest abroad by providing protection (including through arbitration) against, for example, expropriation.

A notable example of such a treaty is the Dutch 2019 Model Bilateral Investment Treaty. This treaty holds investors responsible for non-compliance with (among others) the OECD Guidelines for Multinational Enterprises and United Nations Guiding Principles on Business and Human Rights.

Is international arbitration ‘the way forward’ for ESG-disputes? 

The question now is: is international arbitration suitable for resolving ESG disputes? It is well known that (international) arbitration has a number of characteristics that make it particularly attractive. And it is precisely these characteristics that make international arbitration – as far as we are concerned – suitable for ESG disputes. Some of the advantages of arbitration are:

• parties have the ability to appoint independent arbitrators with specific expertise in ESG issues, such as climate change and human rights;
• arbitral awards are likely to be recognized and enforced (almost) globally, due to the New York Convention; and
• injunctions can (in principle) be obtained quickly in cases of irreversible environmental damage or gross human rights violations.

While international arbitration has several features that make it attractive, it also has its critics. A common criticism is that international arbitration is unsuitable for disputes between corporations and individuals because of the likely disproportionate difference in (financial) resources between the parties. In addition, the need for the consent of the parties to an arbitration agreement complicates the use of arbitration by third parties and other stakeholders. In principle, these parties cannot initiate arbitration proceedings.

Conclusion

Due to the integration of ESG ideals into commercial contracts, international trade and investment treaties, laws and regulations, it is inevitable that ESG disputes will (more often) be resolved through international arbitration. Arbitration's attractive features make it an appropriate means of resolving ESG disputes. Its suitability for handling such disputes will only increase in the future, as the arbitration process has evolved to reduce the limitations of arbitration and will continue to evolve in that direction.