In June 2018, the UK adopted new powers to review certain technology related deals on national security grounds, extending the scope and breadth of its control regime to those that concern computing hardware, or quantum technology for supply in the UK (see Latham Client Alert: 12 June 2018). In July, the UK government went a step further and published a White Paper on a potential new and significantly extended foreign investment notification regime, which will likely lead to wider and closer scrutiny of many transactions, including strategic M&A deals. These potential new UK rules are part of a wider global trend, with heightened scrutiny of foreign investment control increasing in a number of other jurisdictions.
The government’s White Paper proposes expanding the jurisdiction over transactions subject to potential national security review, with most areas of the economy within the proposed enlarged scope, supported by new information-gathering powers, longer review periods, and stricter penalties for non-compliance. Although the recommendations in the White Paper have not been enacted into law, changes could come into effect as early as next year, and we expect that deal teams will be assessing the implications for M&A deals in 2019 and beyond.
Broad Scope of the New UK National Security Regime
The proposed new regime is intentionally broad and, whilst the nuclear, defence, communications, energy, and transport sectors are amongst the “core areas” that will likely receive the most review focus, the proposed regime is designed to ensure a review of national security concerns in any sector of the economy if they arise in a deal.
The government anticipates reviewing up to 200 transactions per year under the new regime, with 100 full investigations and 50 cases expected to lead to some form of remedy. In contrast, just eight transactions have been fully investigated on national security grounds since 2003, and the Competition and Markets Authority reviews around 60 to 65 deals annually under current UK merger control rules. Whilst the government has indicated that it is not trying to slow or prevent deal-making in UK companies, the scale of the proposed national security review endeavour has surprised deal-makers.
“Trigger events” which would potentially start a review under the new regime are expected to include share and asset acquisitions, minority investments involving the acquisition of “significant influence or control” over an entity or various types of assets, such as real and personal property, contractual rights, and intellectual property, with no threshold of turnover or share of supply required for government intervention. While the proposals are a general reaction to the increased number of strategic acquisitions by Chinese investors, all corporates, whether foreign or UK-based entities, are subject to the potential new regime. It is anticipated that if the government “calls in” a transaction under the proposed new regime, this would prevent the deal from closing until approval is granted, with fines for non-compliance.
How Should Deal Teams Respond?
In our view, the government views national security as a priority, given the number of deals discussed as being potentially reviewable. However, the proposals within the White Paper are yet to be enacted into law and, against the wider backdrop of the impact of Brexit (and the form this might take), there is no definitive timetable to do so or final draft of the proposed legislation published, although dealmakers should bear in mind that this new regime could come into effect as early as next year. As deal teams continue to progress transactions into 2019 and explore new possibilities, consideration should be given to what, if any, impact any such new foreign investment regime might have on their transaction (in particular those within sensitive sectors or where a co-investment partner is based in a jurisdiction which poses a higher risk to national safety) if it were to be enacted into law prior to transaction completion.
In the event the new regime were to impact a proposed transaction, deal teams should note that any notification will remain voluntary (technically, at least), meaning there is no pre-closing reporting obligation; although if no notification is made, the Secretary of State will have a prescribed period (potentially up to six months post completion) to call in a transaction. Deal makers will therefore need to consider the appropriateness of any proactive engagement strategy with the government, with the associated risk allocation discussions between the commercial parties.
The new UK rules are part of a wider global trend towards focusing on foreign investment control in a number of key jurisdictions. Some of the recent developments include:
July 2017: The German government introduced a mandatory notification requirement for non-EU investment — including minority investments of 25% or more — in critical infrastructure and security-related technologies. The German government also expanded the previous notification obligations for non-EU investment in defence and encryption technologies, both of which the German Federal Ministry for Economic Affairs and Energy (BMWi) has the power to block if the transaction raises public policy or security concerns. In August 2018, the German government authorised BMWi to block a deal entirely based on national security concerns, the first such instance of its kind in Germany. In addition, the German government is expected to pass further amendments to its foreign investment control regime still this week, namely to lower the jurisdictional threshold from 25% to 10% for foreign investments in the area of critical infrastructure.
September 2017: The European Commission proposed a new EU framework for screening and coordinating EU Member States’ review of foreign investment into the EU in “critical” sectors covering energy, transport, financial infrastructure, cyber security, and the supply of critical inputs that raise national security or public order concerns. Following a review by the European Council and European Parliament, the scope of the proposal was expanded to include “strategic” sectors covering media, land, and real estate, nanotechnologies, biotechnologies, and the supply of energy, raw materials, components, and semi-finished products. The final tri-party discussions on the draft proposal between the European Parliament, EU Council, and European Commission concluded on 20 November 2018. The final agreement is expected to be completed by March 2019.
- August 2018: Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA) was signed into law in the US, marking a significant change in the scope and procedures governing foreign investment review. FIRRMA expands the jurisdiction of the Committee on Foreign Investment in the United States (CFIUS), the interagency body that conducts foreign investment review. CFIUS will now reach certain real estate transactions: “evasive” transactions structured to avoid CFIUS’ jurisdiction; incremental foreign investments that cumulatively give an investor control; and most importantly over investments pertaining to critical infrastructure, critical technology, and sensitive personal data of US citizens. FIRRMA also alters CFIUS procedure, not least of all by requiring CFIUS filings for investments by foreign governments or those subject to “substantial influence” of foreign governments, altering the timeline for review, and allowing CFIUS to impose filing fees. At the same time, CFIUS will have greater resources with which to discharge its new responsibilities, and several of FIRRMA’s provisions are designed to address business concerns about unnecessary delays. Most of FIRRMA’s core provisions will be implemented through regulations issued by CFIUS over coming months and, indeed, CFIUS has already begun to issue implementing regulations, in particular with respect to certain critical technologies.