ADMINISTRATIVE RESCISSION CLAUSE IN HYDROCARBONS’ EXPLORATION AND EXTRACTION CONTRACTS

Miguel Angel Marmolejo Cervantes[1]

The purpose of this article is to summarize a more profound and detailed research contained in the paper known as (Non)-arbitrability of the “administrative rescission” in hydrocarbons’ contracts based on a constitutional and international investment law perspective, which performs an analysis of the constitutionality and human rights’ conventionality of the non-arbitrability of the administrative rescission of such contracts, established in articles 20 and 21 of the Hydrocarbons Law. Such was conducted in view of the interpretative visions of the Mexican Federal Judicial Branch and of international arbitrators, as well as global administrative law, and considering the possible areas of opportunity arising from the constitutional amendments, in order to determine if the Mexican State is coherent and consistent in the performance of its internal obligations as well as those founded in international sources.

In particular, it is stated that the administrative rescission of hydrocarbons’ exploration and extraction contracts, in their different modalities, is an excessive authority by the Mexican State.  Therefore, on the one hand, a message is sent of the great opening of the energy sector to private investors, both domestic and foreign, and on the other hand, fearful and excessive state control restrictions are incorporated.

Recently, in the 2015 Offshore Technology Conference, a number of issues were raised regarding the eventual reach and pernicious effects of the legal framework of the administrative rescission. In my judgment, its incorporation in the Hydrocarbons Law is surprising, as it has no solid and sufficient constitutional foundation and it is clearly contrary to the minimum standards of treatment to foreign investment, which are contained in investment international treaties.

Among the arguments that support these affirmations regarding administrative rescission are the following:

  1. It does not have a constitutional basis, so it can be considered an expropriation authority, with nationalizing effects in terms of international investment law. Although it is true that the Mexican State must have controls to bring hydrocarbons’ exploration and extraction contracts to a successful level, it must be subject to that expressly permitted by the Constitution. No matter how justified the motive, the exercising of a power not granted by the Constitution is invalid, therefore, alternative controls should be used. At the present time it is not possible to ignore international investment law and to incorporate in a domestic statute expropriating authority that is considered nationalizing per se, or indirect equivalent measures.
  2.  It violates the human rights of due access to arbitration and those arising from the minimum standards of treatment to foreign investors. Considering constitutional articles 1, 17 and 89 and the standards set forth in the chapters of foreign investment of free trade treaties and bilateral investment treaties, it can be validly concluded that arbitration justice is a human right of foreign investors, which must prevail by virtue of the pro homine principle and the hierarchical legal structure.
  3. It is contrary to the eminently commercial nature of the hydrocarbons contract, which does not constitute an administrative contract and therefore is not subject to the respective regulation. The Mexican legal system does not allow the creation of hybrid contracts that undermine the coordination relationship to which the parties are subject. Although public order in the matter of hydrocarbons could justify administrative rescission, that would lead to an infringement of human rights regarding the freedom of contract principle. Additionally, it would not be pertinent to adopt an absolutist position by interpreting public order as a concession to energy security, as such disincentivizes investment.
  4. In principle, the financial resources in the activities of exploration and extraction are no longer those of the Mexican State, but now are those of private investors, both domestic and foreign, that risk their capital, the majority being publicly traded, in activities of a high risk of loss. Public finance is not put at risk under the model set forth in the constitutional reform in energy matters, but that of private investors, and therefore the balance of justice should lean in their favor. It is true that the consideration in exploration and extraction contracts involves state income (government take), but such depends on the conditions and the existence of hydrocarbons in the respective block and would not be possible without the risk initially taken by private enterprise.
  5. The defense and preservation of national energy security lies precisely in the certainty for onshore and offshore activities of exploration and extraction of hydrocarbons in Mexican territory, in order to obtain, process and market them. The interpretation of public order in the matter of hydrocarbons cannot imply the non-arbitrability or restrictions of any kind on arbitration procedures in the matter. In any event, Round Zero could be accepted to be non-arbitrable because of the exclusive participation of the State’s productive company, but the contracts arising from Round One and subsequent ones, with the participation of private enterprise, must be completely arbitrable, including the administrative rescission.Now then, among the important factors in the interpretation of the arbitration agreement and awards, is the lex arbitri of the seat agreed to. Pursuant to the model contracts for hydrocarbons’ exploration and extraction that have been made public, such is the city of The Hague in the Kingdom of the Netherlands. This activates and makes the arbitration provisions of the Dutch Code of Civil Procedures applicable and with such the Dutch judges have jurisdiction with complete freedom to interpret the cited arguments with their own criteria.The harmonization of the investors’ interests is extremely complex, especially in the world of international arbitration justice, where there is a convergence of legal aspects both public and private, and the right and just exercise of the state’s public power must be balanced for the protection of the collective interest and the respect of the legitimate interest of the private investor. This complexity is made worse by the delinking and open contradiction between the new constitutional system in energy matters and the international system contained in free trade agreements and investment treaties signed between the major world energy powers. Therefore it is transcendental to assume that the energy reform is not complete and it is not coherent with the spirit of opening to foreign investment contained in the referenced international treaties, and this incompatibility can possibly generate conflicts that result in inconsistent criteria in the best case, and indemnification in the worst one.Consequently, it is recommended that preventative measures be taken for the purpose of aligning both legal universes, such as:
  • Preparing an energy investment agreement model, considering the model of the United States of America, that takes into account the scope of public order in the corresponding constitutional terms and follows the criteria of the International Energy Charter which recognizes the global challenge posed by the “trilemma” between energy security, economic development, and environmental protection, and the efforts by all countries to achieve sustainable development(http://www.energycharter.org/fileadmin/DocumentsMedia/Legal/IEC_EN.pdf).
  • If the foregoing is not possible, pursuant to the 1969 Vienna Convention on the Law of Treaties, proceeding to update international investment treaties, including the free trade agreements with chapters on this matter, with the purpose of having a consistent interpretation and respecting the principles of foreign policy set forth in constitutional article 89. In a realistic manner, there is still time for these proposals to be taken into consideration, as long as there is political will by the President of the Republic and the Senate to carry out a joint analysis of the situation set forth and to carefully examine the possible negative impacts and the means of resolution that mitigate them.

[1] Commercial Notary Public number 11 of the State of Aguascalientes. PhD from the Center of Postgraduate Law Studies. Member of the National System of Researchers of the National Council of Science and Technology (CONACYT), appointed to the research faculty of the EGADE Business School of the Monterrey Institute of Technology and Higher Education (ITESM).


  Category: Mexican Energy Law