Do state-owned enterprises enjoy sovereign immunity?

Introduction

Against the backdrop of the Belt & Road Initiative and more Chinese state-owned enterprises (“SOEs”) going outbound, if you are a prudent stakeholder, you are possibly concerned about whether you have a probable path to judicial resolution of recovery from an SOE in case there is any dispute. It can be confusing whether SOEs qualify for state immunity.  In this article we consider this issue in light of the practice in the United Nations Convention on Jurisdictional Immunities of States and Their Property (the “UN Convention”), the People’s Republic of China (the “PRC”), Hong Kong SAR, the United States (the “US”), and the United Kingdom (the “UK”).

The legal doctrine of sovereign immunity, or state immunity initially provided that a state is immune to the jurisdiction of foreign courts and the enforcement of court orders, even if the acts involved are commercial in nature, unless it chooses to waive such immunity. This is referred to as the doctrine of “absolute immunity”.  Not until the mid-twentieth century when governments became more active in commercial activities, was the doctrine condemned to be unfair to private companies.  Since 1970s, the US and some European countries have switched to the doctrine of “qualified immunity” or “restrictive immunity” by codifying exceptions to limit the application scope with respect to, for example, commercial transactions, personal injuries, and patents.

The UN Convention

The United Nations General Assembly passed the UN Convention, which adopts the doctrine of qualified immunity, on December 2, 2004.[1]  China signed the UN Convention in 2005 but has not yet ratified it. Actually, as of July 2018, only 22 countries, out of which 14 are also signatories, have ratified, accepted, approved or accessed the UN Convention, which will not be in force until the number of ratification, acceptance, approval or accession reaches 30.  Therefore, it has taken no effect in unifying the international practice.

Commercial activity exception is probably the most common exception from immunity under the doctrine of qualified immunity, though the definition of what constitutes commercial activities varies.  For instance, the meaning of “commercial transaction” under the UN Convention includes “(1) any commercial contract or transaction for the sale of goods or supply of services; (2) any contract for a loan or other transaction of a financial nature, including any obligation of guarantee or of indemnity in respect of any such loan or transaction; and (3) any other contract or transaction of a commercial, industrial, trading or professional nature, but not including a contract of employment of persons.”[2] Examples of how different jurisdictions define commercial activities are discussed below.

People’s Republic of China

There is no sovereign immunity law in the PRC but the nation’s stance can be inferred from other PRC’s laws and more directly be interpreted from representations made by the Central People’s Government (the “CPG”) itself on this matter in foreign courts and in notices to Hong Kong SAR.  The PRC adheres to absolute immunity, which means states must be immune from suit and enforcement even if the claims arise out of purely commercial activities, but meanwhile it clearly articulates that Chinese SOEs are separated from the state unless under “extremely extraordinary circumstances”, which will be discuss below.

Absolute immunity as the principle

The CPG has consistently argued for absolute immunity in foreign courts. In 1986, the US Court of Appeals for the Eleventh Circuit heard the CPG’s declaration of its adherence to the doctrine of absolute immunity in the case Russell Jackson et al. v People’s Republic of China, where the US plaintiffs sued the CPG for payments on bonds issued in 1911[3].  Later, it is observed that the CPG prefers extrajudicial and diplomatic means in conveying the absolutist position. For example, during the US case Morris v. People’s Republic of China, the Chinese Embassy in Washington, D.C. sent a memorandum to the US Department of State, reaffirming the PRC’s position on absolute immunity but the memorandum was not reviewed by the court nor referred to in the judgment.[4]

The PRC’s attitude to absolute immunity was reiterated in the Hong Kong case, FG Hemisphere Associates LLC v Democratic Republic of Congo (the “Congo case”).[5]  In the first-instance trial of the Congo case, a letter from the Ministry of Foreign Affairs of the PRC was introduced by the HKSAR Government as evidence and the thrust of it is that the PRC has always taken the stance that sovereign states enjoy absolute immunity before foreign courts.[6] Two more letters were sent when the case were brought to the Court of Appeal and the Court of Final Appeal. The Ministry of Foreign Affairs sent two more letters to reiterate the PRC’s adherence to the doctrine of absolute immunity and that its signature on the UN Convention does not render a change in this position.[7]

Distinction between the state and its SOEs

One of the most significant US cases involving the PRC as the defendant is Scott v People’s Republic of China[8] (the “Fireworks case” as it is referred to in the PRC), in which the CPG submitted that the legal status and responsibilities between the state itself and that of the state-owned enterprises should be separated. Accordingly, the country itself enjoys sovereign immunity whereas SOEs as independent legal persons do not.

Since the Fireworks case in 1979 and other judicial experience relating to state immunity in foreign courts, myriads of Chinese laws have been revised, creating further legal distinction between the state and an SOE. The Constitution of the People’s Republic of China prescribes that “state-owned enterprises have decision-making power”.[9] The Company Law of the People’s Republic of China states that a company is an “enterprise legal person”.[10]  Furthermore, the Enterprise State-owned Assets Law of the People’s Republic of China (the “Assets Law”) explicitly segregates government bodies from enterprises, and their administrative functions from investors’ functions.[11] Finally, the Provisional Regulations for Supervision and Administration of State-owned Assets in Enterprises provides that SOEs enjoy operation autonomy. Therefore, if an SOE in fact possesses all these characteristics listed under Chinese laws, it will be seen as a separate entity from the state. [12]

It is worth mentioning that reasonable governmental intervention would not qualify an SOE for sovereign immunity.  As per the Assets Law, the state, as an investor, shall “enjoy the return of assets, participation in major decision-making, selection of managers and other contributor’s rights”.[13]  Therefore, as long as the extent of the control exerted by the government can be considered as proper exercise of its power as an investor, the concerned SOE will still be treated as a separate entity.

A letter issued by the CPG for a Hong Kong court case involving the China National Coal Group, a wholly SOE in 2017 (the “CNC Letter”) also sheds light on the above principle.[14] It reads as follows:

“…a state-owned enterprise is an independent legal entity, which carries out activities of production and operation on its own, independently assumes legal liabilities, and there is no special legal person status or legal interests superior to other enterprises.”

It is worth noting that moderate state interference does not grant sovereign immunity upon SOEs. Under the Assets Law，the state, as an investor is entitled to “profits on the assets and the rights to participate in significant decision making and choice of the management members”.[15]

Therefore, to the extent that the degree of control imposed on the SOE by the state is deemed as an appropriate exercise of its power as an investor, the SOE will still be regarded as an independent business entity.

Exceptions to the general principle that SOEs do not enjoy sovereign immunity

Generally, if the activities of an SOE are commercial in essence and are not part of the activities of the state, then such SOE is usually not deemed as part of the state nor a body performing functions on behalf of the government. Nevertheless, sovereign immunity will be available in “extremely extraordinary circumstances” where the SOE is conducting activities on behalf of the state through “appropriate authorization”, according to the CNC Letter.  Under this situation, even if the SOE perform duties which are commercial in nature, it enjoys absolute immunity.[16]  However, the CPG did not elaborate on circumstances where the SOE is acting with “appropriate authorization”.  Based on an aggregate effect of constitutional, administrative and judicial policies, it is recommended that courts would consider whether the governmental authorizer has the power to carry out the activity in concern as well as the power to authorize, and whether there is any record showing an effective authorization.

Although the PRC has been opposing the doctrine of qualified immunity, their signing of the UN Convention may still suggest a potential future switch from absolute immunity to restrictive immunity. Moreover, by taking the position that SOEs are separated from the state and generally not immune from suit, arguably the PRC has in practice already adopted some version of qualified immunity. Also, from a practical perspective, a switch to qualified immunity may better accommodate the sharp increase of Chinese outbound investment and help create a level playing field for international trade.

Hong Kong SAR

In general, Hong Kong SAR follows China’s approach when facing state immunity claims, but there are slight differences in the application which are worth pointing out.

The situation will be quite special if the case involves a Chinese SOE claiming sovereign immunity in a Hong Kong court. According to the Hua Tian Long case,[17] sovereign immunity is “premised upon considerations of comity and mutual respect for the dignity of foreign sovereign states”, and shall not apply within the same state, notwithstanding having different jurisdictions.  However, the SOE in question can try to claim crown immunity, which allows the state to enjoy immunity from execution ordered and from being sued in its own courts.[18]  Crown immunity used to apply to the British Crown when Hong Kong was a British colony.  It was held that the CPG and body corporates established by the executive arm of the CPG had replaced the British Crown in enjoying crown immunity in Hong Kong.[19]

The main issue in this kind of case is whether the Chinese SOE can be deemed to be part of the CPG. There are two ways to access this: (1) inviting the Hong Kong and Macao Affairs Office of the State Council to clarify that SOE’s position; and (2) employing the common law “control” test.  At common law, the major consideration is the “control” the CPG has over the SOE, although the purposes and duties of that SOE also go into the evaluation matrix.  The primary question is whether that SOE is able to exercise independent power on its own.  The courts would take into account all circumstances. [20]  In Townsville Hospitals Board v Townsville City Council, the High Court of Australia found that despite the strict control the state had over the board, the board retained an independent discretion to decide whether to engage in particular works, so no immunity granted.[21]  On the other hand, commissioners, whose management, administration and finance were not under its own control, in Halifax City v Halifax Harbour Commissioners, enjoyed sovereign immunity.[22]

The very nature of crown immunity prevents a distinction between acts in sovereign capacity and acts of commercial character.  Therefore, once the SOE is classified as part of the CPG, it enjoys crown immunity, albeit the nature and purpose of its acts, in Hong Kong courts.  This is similar to absolute immunity – the nature of the activities is not in concern after it has been confirmed that the SOE is acting on behalf of the state.[23]

If the SOE in question is a foreign one instead of a Chinese one, as per the Congo case, which established the modern approach to sovereign immunity in Hong Kong, the SOE will be categorized by Hong Kong courts using the “control” test, which is different from “appropriate authorization” test proposed by the CPG, despite the fact that “authorization” would be a significant indication of control.[24]  If the SOE is classified as part of the state or acting on behalf of the state, then absolute state immunity applies, following the PRC’s approach.[25]

The US

The Foreign Sovereign Immunities Act of 1976 (the “FSIA”) is the law governing state immunity in the US.  The nation adopts a broad interpretation of what it considers to be a state actor, which encompasses an SOE, but applies the doctrine of qualified immunity when determining whether a state actor is immune from suit.

Section 1603 of the FSIA defines a “foreign state” as political subdivision, agency, and instrumentality of a foreign state.  The term “political subdivision” means all governmental units beneath the central government.  “An agency or instrumentality” is defined in section 1603(b) as an entity which is (1) a separate legal person, corporate or otherwise, (2) an organ of a foreign state or political subdivision thereof, or a majority of whose ownership interest is owned by a foreign state or political subdivision thereof, and (3) neither a citizen of the US nor created under the laws of any third country.  Accordingly, an SOE of a foreign country will be categorized as a foreign state, and thus the first hurdle of claiming sovereign immunity is overcome.

The FSIA adopts qualified immunity, so the second hurdle is whether the SOE conducted activities specified in the exceptions stipulated in the FSIA.  Some general exceptions include property at issue being taken in violation of international law and money damages being sought against a foreign state for personal injury or death.[26]  However, the most commonly raised exception is still commercial activities.  Under this exception, the courts must decide whether the claims arise out of governmental activities (de jure imperii) or out of activities of commercial nature (de jure gestionis).

According to the FSIA, the term “commercial activity” means either a regular course of commercial conduct or particular commercial act.  To determine its character, its nature instead of its purpose should be taken into account.[27]  For instance, even if the contract is to make repairs on a government building, it is a commercial contract.  In addition, the US Supreme Court held that, “when a foreign government acts, not as regulator of a market, but in the manner of a private player within it, the foreign sovereign’s actions are commercial.”[28]

Under the FSIA, a foreign state is not immune from the jurisdiction of the US courts in any case, in which the action was based upon: (a) a commercial activity carried on in the US by the foreign state; (b) an act performed in the US in connection with a commercial activity of the foreign state elsewhere; or (c) an act outside the territory of the US in connection with a commercial activity of the foreign state elsewhere and that act causes a direct effect in the US.[29]  In other words, if the concerned commercial activities have no direct connection with the US, the commercial activity exception will not apply, like in the case Paterson, Zochonis (UK) Ltd. v Compania United, which involves a company controlled by the Ministry of Communications and eventually by the State Council of the PRC.[30]

The UK

The UK adopts the doctrine of qualified immunity, which is codified in the State Immunity Act 1978 (the “SIA”).  When an English court determines whether an SOE is a state actor, it will first consider whether the SOE is a “separate entity” and if yes, whether it is in the exercise of sovereign authority where a state would have been immune.[31]  Finally, the court would see if the exceptions from immunity apply.

The case Taurus Petroleum Ltd v State Oil Company of the Ministry of Oil, Republic of Iraq illustrated how the above first issue would be determined.[32]  Although the Ministry of Oil exercised a close supervision power over the defendant, since the defendant was a separate entity by the state for commercial purposes and had its own management and budget, it possessed a separate corporate status; therefore, it did not enjoy sovereign immunity.  A case considered by the High Court of England and Wales, Pearl Petroleum Company Ltd v The Kurdistan Regional Government of Iraq, addressed the above second issue, i.e. whether the SOE is in the exercise of state authority.[33]  The court held that entering into a long-term contract for the exploitation of natural resources, specifically in this case an agreement granting exploitation rights over two gas fields in the Kurdistan Region of Iraq to the defendant, constitutes an exercise of sovereign authority.  However, the court held that the defendant was exercising its own authority instead of the sovereign authority of the state of Iraq, so the defendant did not enjoy the exception under section 14 of the SIA.

There are 10 exceptions from immunity under the SIA and they include commercial transactions and contracts to be performed in the UK.  “Commercial transaction” has been further defined as including (1) contracts in relation to the supply of goods or services, (2) loan or any finance transaction and guarantee or indemnity regarding such transaction or other financial obligations, and (3) any transaction or activity entered or engaged in by a state otherwise than exercising sovereign authority.[34]  The determination of the nature of the activities will depend on the whole context and the party’s ability to prove that the SOE acted like a private person instead of in exercise of sovereign authority.

It is essential to note that the commercial transaction exception under section 3 of the SIA can only be applied to state immunity from suit but not from enforcement of foreign judgments in the UK because by a majority three to two the Supreme Court held that proceedings for enforcement of a foreign judgments related only to that foreign judgment but not to the underlying commercial contract and the majority in reluctant to render section 3 of the SIA a wide interpretation.[35]

Conclusion

The development of the doctrine of state immunity has become more restrictive.  This is good news for private companies engaging in commercial transactions with SOEs.  Nonetheless, the approach to sovereign immunity can vary substantially by jurisdiction.  An unequivocal waiver of immunity clauses covering all assets in all transaction documents may mitigate the risk of a sovereign immunity defense.  An express confirmation that the SOE is not acting in a sovereign capacity may also assist.  The effectiveness of sovereign immunity waivers however can also vary by jurisdiction. Thus advice from local counsel where litigation or enforcement is anticipated may also be prudent.

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[1] United Nations Treaty Collection (2018, June 19). United Nations Convention on Jurisdictional Immunities of States and Their Property. Retrieved from https://treaties.un.org/Pages/ViewDetails.aspx?src=IND&mtdsg_no=III-13&chapter=3&clang=_en.

[2] UN Convention Article 2(1)(c).

[3] 794 F.2d 1490, 1494 (11th Cir. 1986).

[4] 478 F. Supp. 2d 561 (S.D.N.Y. 2007).

[5] [2009] 1 HKLRD 410; [2010] 2 HKLRD 66; (2011) 14 HKCFAR 95.

[6] [2009] 1 HKLRD 410.

[7] (2011) 14 HKCFAR 95 [46] – [47].

[8] No. CA3-79-0836-d (N. D. Tex. filed 29 June 1979).

[9] Constitution of the PRC, Article 16

[10] Company Law of the PRC, Article 3.

[11] Assets Law, Article 6.

[12] Provisional Regulations for Supervision and Administration of State-owned Assets in Enterprises, Article 10.

[13] Assets Law, Article 12.

[14] TNB Fuel Services Sdn Bhd v China National Coal Group Corp [2017] HKEC 1184. The Letter was issued by the Hong Kong and Macao Affairs Office of the State Council.

[15] Enterprise State-owned Assets Law of the People’s Republic of China, Article 12.

[16] The Congo case [2010] 2 HKLRD 66.

[17] [2010] HKCFI 361; [2010] 3 HKLRD 611; [2010] 3 HKC 557; HCAJ 59/2008 (23 April 2010) [43].

[18] RESI Corp v Sinclair [2002] NSWCA.

[19] HKSAR v Ma Wai Kwan David & Ors [1997] 2 HKC 315.

[20] The Hua Tian Long [2010] HKCFI 361; [2010] 3 HKLRD 611; [2010] 3 HKC 557; HCAJ 59/2008 (23 April 2010); Mellenger v New Brunswick Development Corp [1971] 2 All ER 593.

[21] (1982) 149 CLR 282.

[22] [1935] SCR 215.

[23] Although it was held in the Congo case that absolute immunity applies in Hong Kong, the court also commented that if the qualified immunity ever applies, the nature instead of the purposes of the activities should be considered when determining whether they are under the commercial activity exception.

[24] [2010] 2 HKLRD 66.

[25] The Congo Case [2010] 2 HKLRD 66.

[26] FSIA s.1605(a).

[27] FSIA s.1603.

[28] Republic of Argentina v Weltover, Inc. 504 U.S. 607, 614 (1992).

[29] FSIA s. 1605(a)(2).

[30] 493 F. Supp. 621 (S.D.N.Y. 1980).

[31] SIA s. 14.

[32] [2015] EWCA Civ 835.

[33] [2015] EWHC 3361 (Comm).

[34] SIA s. 3(3).

[35] NML Capital Limited v Republic of Argentina [2011] 2 AC 495.