Economic Damages

Intellectual property disputes in international arbitration – Compensation issues in recent investor-state claims

The importance and value of intangible assets has increased, often equaling or surpassing the value of physical assets for a company. The US Department of Commerce found that, in 2012, industries that rely on intellectual property (IP) protections supported 40 million American jobs and more than one-third of America’s gross domestic product, which was approximately US$5 trillion a year.1 The Organization for Economic Co-Operation and Development (OECD) has recognised the importance of intangible assets with its project New Sources of Growth: Intangible Assets, which includes reports on the importance of intangible assets to innovation as well as the difficulty in reporting the value of intangible assets.2 Despite the growing importance of these assets, however, IP disputes in courts of international arbitration are relatively uncommon. For instance, of the 495 disputes that have been filed at the World Trade Organization (WTO) since January 1995, only 42 are characterised as involving IP of some kind.3 Of the 530 disputes currently listed at the International Center for Settlement of Investment Disputes (ICSID), only three are listed as involving IP as their main subject of dispute.4

Although many IP disputes may be international in nature, almost all IP rights are national. The exception is domain name rights, which are governed by the Internet Corporation for Assigned Names and Numbers (ICANN). ICANN assigns domain names and has a set of policies and procedures for disputes.5 Copyrights also find some international protection under the Berne Convention for the Protection of Literary and Artistic Works (the Berne Convention), which the US joined in March 1989.6 Other IP such as patents and trademarks, however, must typically be registered with the appropriate national agencies. The Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS) requires that its members provide certain protections for IP rights, but does not provide international rights for the IP. For instance, TRIPS requires that patents must be enforceable for at least 20 years,7 but does not provide for an international patent that would be enforceable in all member states. Contractually, parties may choose to agree that any disputes over IP rights be arbitrated and they may contractually choose the venue or rules that will govern that arbitration.

Recently, tobacco companies have been involved in several international arbitration matters involving alleged violations of their IP. Two claims have been filed by investors for violations of bilateral trade agreements and involve a claim of damages relating to IP investment in those states. Five additional claims, similar to one another, have been filed at the WTO by states against a single state – Australia.8

Although the legal issues surrounding these disputes have been the subject of much discussion, the issues regarding compensation have not been addressed with the same enthusiasm. Compensation is only relevant for the investor-state matters as compensation in the WTO disputes would only be imposed if the panel were to rule and Australia were to fail to comply with the panel’s recommendations and rulings.9 Even then, compensation is considered voluntary and temporary.10 In the investor-state matters, however, compensation is an issue. The fundamental principle of compensation in international arbitration was established in 1928 in the Chorzów Factory (Chorzów) case.11 The ‘essential principle’12 identified in Chorzów was ‘that reparation must, as far as possible, wipe out all the consequences of the illegal act and reestablish the situation which would, in all probability, have existed if that act had not been committed.’13 Although Chorzów dealt with a physical asset, compensation for a matter involving an intellectual property asset would theoretically follow the same principle – ‘but for’ the act, the claimant would have been in a better situation financially than the one in which it actually found itself, and the difference between the but-for and actual situations is the amount of compensatory damages.

The methods used for valuing IP are similar to those used to value physical assets in many regards. The income, market and cost approaches are relevant whether the asset is tangible or intangible. Generally, the income approach focuses on the future stream of profits expected to be derived from the intangible asset and takes into account specific risk factors and a discount rate to arrive at value. Under the market approach, the valuation is based on transactions involving similar IP that are available for comparison. It is difficult to find transactions that are for comparable IP owing to the unique characteristics of many IP assets. Finally, under the cost approach, historic cost, replication cost or replacement cost measures would be used to establish value. In most circumstances involving IP, cost is unlikely to be representative of value.

This article will discuss the issues that have arisen in the WTO matters against Uruguay involving the trademarks of tobacco companies and the two investor-state matters involving Philip Morris. With respect to the latter, we will address some of the compensation issues that will likely arise, or that likely have arisen, given the mandate of Chorzów.

Philip Morris v Uruguay14

On 19 February 2010, Philip Morris Switzerland and two related parties filed a request for arbitration against Uruguay in accordance with article 36 of the Convention on Settlement of Investment Disputes between States and Nationals of Other States (the ICSID Convention) and article 10 of the Agreement between the Swiss Confederation and the Oriental Republic of Uruguay on the Reciprocal Promotion and Protection of investments (the Switzerland–Uruguay BIT15 Philip Morris alleges that it has made investments in Uruguay including the establishment of manufacturing facilities and the registration of several trademarks.16 Uruguay’s anti-smoking legislation included measures that banned the sale of different presentations of the same brand of cigarette, a requirement that images warning about the risks of smoking cover at least 80 per cent of the cigarette pack, higher taxes, a ban on cigarette advertising in the media, and cigarette sponsorship of sporting events. In addition, smoking was banned in public places including offices, bars, restaurants, and dance halls. Philip Morris alleges that the ban on different presentations violates its right to use its trademarks – assets into which it has made investments. For instance, prior to the enactment of the new legislation Philip Morris sold Marlboro Red, Marlboro Gold, Marlboro Green and Marlboro Blue; however, in order to comply with the legislation it was only able to sell one variety (in this instance it chose to keep Marlboro Red).17 In addition, Philip Morris claims that the requirement that 80 per cent of the cigarette pack be covered by graphic images means that its trademarks cannot be used in their proper form, and will be tarnished by their association with ‘offensive images’.18

The measures that Uruguay has taken to curb tobacco consumption appear to be working. An article in The Lancet reports that between 2005 and 2011, Uruguay’s annual per-person consumption of cigarettes decreased by 4.3 per cent and smoking prevalence decreased by 3.3 per cent.19 Also, between 2005 and 2009, smoking prevalence among students decreased by an estimated 8 per cent per year. Since current smoking prevalence decreased by less than per-person consumption, the implication is that those who are still smoking are smoking less.

Numerous issues would have to be addressed when calculating compensatory damages given the allegations and circumstances in the Uruguay arbitration. For one, smoking was on the decline in Uruguay even before the more stringent regulations, which are the basis of the claim, were imposed. In addition, certain of the anti-smoking regulations likely led to decreased sales but are not being alleged by Philip Morris as violations. For instance, as discussed above, Uruguay instituted a ban on smoking in public places, banned cigarette advertising in the media and cigarette sponsorship of sporting events. Moreover, higher taxes will have led to decrease in sales, even with a relatively inelastic product such as cigarettes. In February of 2010, taxes were raised to 70 per cent of the price of a pack of cigarettes, although the effect appears to be further complicated by a simultaneous decrease in price.20 Despite that complication, the above-mentioned Lancet article reports that between 2003 and 2010 the price of a pack of cigarettes increased by 88 per cent.21 One recent study of own-price elasticity of demand in Latin America shows estimates to be between -0.43 per cent and -0.31 per cent.22 This means that a 1 per cent increase in price will lead to a decrease in demand of between 0.31 per cent and 0.43 per cent.  Therefore to the extent that the combined effect of the increase in taxes and the decrease in price has led to an increase in the price paid by the consumer, that increase in will have led to decreased sales not associated with any of the trademark issues. The effect of higher taxes, not only on cigarettes in general but on the Philip Morris brands specifically, would have to be addressed.

These measures, which do not appear to be being challenged by Philip Morris, have been shown to be cost-effective means by which to decrease tobacco consumption.23 A report by the World Health Organization (WHO) states that ‘[s]tudies have shown that tobacco taxes are the most cost effective way to reduce tobacco consumption. Implementation of a package of price and non-price policies (eg, banning smoking in public places, banning advertising, etc) is also highly cost-effective.’24 To the extent that these actions led to a decrease in cigarette sales, that decrease would not be included in compensatory damages owed to Philip Morris should they prevail on the merits. The decrease in cigarette sales attributable to the anti-smoking actions that are not being alleged by Philip Morris would have to be allocated out of the amount of compensatory damages. This exercise would be complicated by the simultaneity of the events. Moreover, if Philip Morris prevails on only certain of its merit claims (for instance, if the panel decides that the single presentation requirement is a violation but that the 80 per cent warning requirement is not) then an additional allocation analysis will have to be performed.

Contraband sales present another complication for the calculation of damages. To the extent that cigarettes were brought in illegally, but sold legally in another country, Philip Morris may have already benefitted from that sale. The Lancet article notes that there is no reliable data source for contraband sales, although it cites a 2006 Pan American Health Organization article that estimates that 7 per cent of total cigarette sales in Uruguay were contraband sales.

These are only some of the issues that would have to be addressed when calculating compensatory damages in the Philip Morris v Uruguay arbitration. 

Philip Morris v Australia

In another matter brought by Philip Morris on 21 November 2011, Philip Morris Asia Limited filed a notice of arbitration against the Commonwealth of Australia for violations of the agreement between the government of Hong Kong and the government of Australia for the Promotion and Protection of Investments (the Hong Kong-Australia BIT) and article 3 of the Arbitration Rules of the United Nations Commission on International Trade Law 2010 (the UNCITRAL Arbitration Rules). Philip Morris claims that it has made investments in Australia in its IP, which includes ‘registered and unregistered trademarks; copyright works: registered and unregistered designs; and overall get up of the product packaging.’25 Philip Morris claims that these investments have been expropriated under Australia’s Tobacco Plain Packaging Act (TPP Act) and seeks compensation from Australia for its compliance with the TPP Act.26 Among other measures, the TPP Act specifies where the brand name may appear on individual cigarettes (It may not), cigarette packs and cigarette cartons.27 It also specifies the font, colour and capitalisation requirements for the brand and variety.28

There are numerous factors in the Australian case that will make the damages calculation interesting, some factors that are also found in the Uruguay matter and others that are unique to Australia. In addition to the TPP Act upon which Philip Morris bases its complaint, Australia has passed numerous other anti-smoking measures.29 However, different states and territories have implemented different regulations, different exemptions, and, in some cases, different measures altogether. For instance, smoking in cars when a child under 16 years of age is present was banned in 2009 in New South Wales, but similar legislation did not take effect until 2012 in the Australian Capital Territory. The Australian Department of Health reports that since 1 December 2012, the day that the TPP Act took effect, there have been new rules governing the warnings on retail packaging. These new regulations include 14 new health warnings that are to be rotated annually, an increase in the size of the graphic health warning, and new information on the health effects of the chemicals in tobacco on the sides of cigarette packs and cartons.30 In addition, two separate educational campaigns were funded starting in 2009 and 2010, respectively. In total over US$130 million is to be spent over a six-year period on the two campaigns that are aimed at both adults generally and certain sub-populations that are considered high risk or hard to reach.31 Excise taxes on cigarettes have also increased in Australia in the recent past. In April 2010, a 25 per cent increase was implemented on tobacco products. Additional increases of 12.5 per cent each were announced and to be applied in December 2013 and then annually on 1 September for the next three years.32 The Australian Department of Health cites a study done by the International Agency for Research on Cancer that concludes that increasing the price of tobacco products is one of the most effective measure that can be taken to reduce tobacco consumption as well as the health costs that are associated with it.33

As in Uruguay, because of the simultaneous nature of many of the measures with the TPP Act, the allocation of compensation to the accused act will have to be accomplished. Not all of the decrease in tobacco sales over the time period will be due to the TPP Act. Allocating damages among the various anti-smoking measures will be an exercise that will have to be undertaken and proven to the panel.

Ukraine, Honduras, Dominican Republic, Cuba and Indonesia v Australia

Not only has Philip Morris filed arbitration against Australia, but between 13 March 2012 and 20 September 2013, five states filed arbitrations at the WTO against Australia.34 35 The five complainant states are the Ukraine, Honduras, the Dominican Republic, Cuba and Indonesia. Third parties that joined the consultations in at least one of the disputes, if not more, include Argentina, Brazil, Canada, Chile, China, Nigeria, Cuba, El Salvador, the Dominican Republic, the European Union, Guatemala, Honduras, India, Japan, Korea, Malaysia, Mexico, Indonesia, Nicaragua, New Zealand, Norway, the Philippines, Russia, Singapore, Chinese Taipei, Thailand, Turkey, Ukraine, United States, Uruguay, Saudi Arabia, South Africa and Zimbabwe.36

Similar to the UNCITRAL proceeding, the complaints in these matters involve challenges brought under, at least, the TRIPS Agreement, the Agreement on Technical Barriers to Trade (the TBT Agreement) and the General Agreement on Tariffs and Trade (GATT 1994). The five complainant countries have sizeable tobacco industries and allege, inter alia, that the Australian regulations are ‘an unjustifiable encumbrance on the use of trademarks’, ‘prevent the normal exploitation and thus the enjoyment of the patent rights for tobacco products’, constitute a barrier to trade that is in excess of what is necessary to achieve the health objectives of Australia.37

The WTO convened a panel for all five matters. On 10 October 2014 the panel informed the dispute settlement body that it expected to issue its final report to the parties not before the first half of 2016.

Smoking prevalence is on the decline worldwide, down to approximately 22 per cent, with the WHO reporting that
‘[n]on-smoking is becoming the new norm worldwide.’38 Neither Uruguay nor Australia would be among the largest markets for Philip Morris, but the cigarette maker is undoubtable aware of the value of its brand in generating sales. In the listing of most valuable brands for 2015, Philip Morris’ Marlboro brand ranks 27th, valued at US$19.7 billion and up 13 per cent from the prior year.39 The ICSID panel in the Uruguay case made it clear in its recent decision regarding the ability of the Pan American Health Organization to file an amicus brief that it is aware of the public interest aspects of the case and will be taking those interests into consideration. It remains to be seen whether any of the panels in the tobacco-related arbitrations will decide for the claimants on the merits of the trademark claims, and if the claimants do win on the merits, what compensation, if any, the panels will award.

Notes

  1. Economics and Statistics Administration & United States Patent and Trademark Office, ‘Intellectual Property And The U.S. Economy: Industries in Focus,’ March 2012.
  2. See Andrews, D and A de Serres (2012), ‘Intangible Assets, Resource Allocation and Growth: A Framework for Analysis’, OECD Economics Department Working Papers, No. 989, OECD Publishing. Corporate Reporting of Intangible Assets: A Progress Report.
  3. See WTO | Dispute settlement – Index of disputes issues. 2015. [ONLINE]. The categories that fall under intellectual property include Copyright and Related Rights, Geographical Indications, Industrial Designs, Layout-Designs, Music in Bars, Omnibus Appropriations Act, section 211, Patents, Pharmaceuticals, Section 337, Sound Recordings, Trademarks, and Undisclosed Information.
  4. See International Center for Settlement of Investment Disputes: ICSID > Cases. Listed are one pharmaceutical patent case, one trademark case and one case involving ship hull designs.
  5. See Resources – ICANN. 2015. ICANN Uniform Domain-Name Dispute-Resolution [ONLINE].
  6. See Circular 38a: International Copyright Relations of the United States. Although the Berne Convention prohibits the requirement of formal registration for copyrights, statutory damages and attorneys’ fees are only available in the US if the copyright is registered.
  7. See Annex 1C – Agreement on Trade-Related Aspects of Intellectual Property Rights.
  8. On 3 June 2015, it was reported that Ukraine had dropped its complaint. See Ukraine drops lawsuit against Australia over plain-packaging tobacco laws, WTO says – ABC News (Australian Broadcasting Corporation). 2015. [ONLINE]
  9. Annex 2 of the WTO Agreement, article 22.
  10. Annex 2 of the WTO Agreement, article 22.1.
  11. Factory at Chorzów (Ger. v Pol.), 1928 P.C.I.J. (ser. A) No. 17 (13 September) (Judgment No. 13, Merits) (Chorzów).
  12. Chorzów, p. 47.
  13. Chorzów, p. 47.
  14. We will refer to the claimants in these matters generally as ‘Philip Morris.’
  15. Philip Morris Switzerland v Uruguay, Request for Arbitration, 19 February 2010, at para. 1.
  16. Philip Morris Switzerland v Uruguay, Request for Arbitration, 19 February 2010, at para. 64.
  17. Philip Morris Switzerland v Uruguay, Request for Arbitration, 19 February 2010, at para. 44.
  18. Philip Morris Switzerland v Uruguay, Request for Arbitration, 19 February 2010, at paras. 47 and 48.
  19. Winston Abascal, Elba Esteves, Beatriz Goja, Franco González Mora, Ana Lorenzo, Amanda Sica, Patricia Triunfo, Jeffrey E Harris. ‘Tobacco control campaign in Uruguay: a population-based trend analysis,’ The Lancet, Vol 380, 3 November 2012.
  20. See, eg Freakonomics ‘How to Make People Quit Smoking: Full Transcript. [ONLINE]
  21. Winston Abascal, Elba Esteves, Beatriz Goja, Franco González Mora, Ana Lorenzo, Amanda Sica, Patricia Triunfo, Jeffrey E Harris. ‘Tobacco control campaign in Uruguay: a population-based trend analysis,’ The Lancet, Vol 380, 3 November 2012, p. 1576.
  22. Guindon, G E, Paraje, GR, & Chaloupka, F J (2015). The Impact of Prices and Taxes on the Use of Tobacco Products in Latin America and the Caribbean. American Journal of Public Health, 105(3), e9–e19. doi:10.2105/AJPH.2014.302396.
  23. WHO technical manual on tobacco tax administration, Chapter IV: The political economy of tobacco taxation. World Health Organization 2010, ISBN 978 92 4 156399 4.
  24. WHO technical manual on tobacco tax administration, Chapter IV: The political economy of tobacco taxation. World Health Organization 2010, ISBN 978 92 4 156399 4.
  25. Philip Morris Asia v Australia, Notice of Arbitration, 21 November 2011, at para. 1.3.
  26. Philip Morris Asia v Australia, Notice of Arbitration, 21 November 2011, at paras. 1.5 and 1.7.
  27. See Australian government, Department of Health | Tobacco plain packaging – Your guide. 2015. [ONLINE]
  28. See Australian government, Department of Health | Tobacco plain packaging – Your guide 2015. [ONLINE]
  29. See Scollo, MM and Winstanley, MH. Tobacco in Australia: Facts and issues. 4th edn. Melbourne: Cancer Council Victoria; 2012. 15.7 Legislation to ban smoking in public spaces.
  30. See Australian government, Department of Health | Health warnings. 2015. Department of Health | Health warnings. [ONLINE]
  31. See Australian government, Department of Health | Education. 2015. Department of Health | Education. [ONLINE]
  32. See Australian government, Department of Health | Taxation. 2015. Department of Health | Taxation. [ONLINE]
  33. See Australian government, Department of Health | Taxation. 2015. Department of Health | Taxation. [ONLINE]
  34. Philip Morris has stated publicly that it is backing those opposing the Australian laws at the WTO (see Thompson, Christopher, ‘Big Tobacco backs Australian law opposers,’ Financial Times, 29 April 2012).
  35. WTO | Dispute settlement – Index of disputes by agreement cited. (18 June 2015).
  36. WTO | dispute settlement – the disputes – DS435. [ONLINE]; WTO | dispute settlement – the disputes – DS467. [ONLINE]; WTO | dispute settlement – the disputes – DS458. 2015.
  37. See, eg, Australia – Certain Measures Concerning Trademarks and Other Plain Packaging Requirements Applicable to Tobacco Products and Packing, Request for Consultations by Ukraine, 15 March 2012, p. 3.
  38. ‘Tobacco use declining but major intensification needed in reduction and control efforts,’ WHO Media Release, 18 March 2015 [ONLINE].
  39. ‘The World’s Most Valuable Brands,’ Forbes 2015 Listing [ONLINE].

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