Britain’s government is trying to protect national security

Without throttling investment that will be tricky

On January 4h a new investment-screening law came into effect, heralded by the government as “the biggest shake-up of the uk’s national-security regime for 20 years”. That is no exaggeration. It marks a shift away from economic openness towards suspicion and intervention. Kwasi Kwarteng, the business secretary, said it would show members of the public that “their security remains our number one priority”. What could go wrong?

The government is seeking to stop assets vital to national security falling into hostile hands. A report in 2017 warned that “ownership or control of critical businesses or infrastructure could provide opportunities to undertake espionage, sabotage or exert inappropriate leverage”. The context is concern about Chinese investment, and pressure to fall into line with allied countries such as America, Australia and Germany that have already tightened up.

Becket McGrath had the pleasure of discussing the UK’s new National Security and Investment Act with The Economist. “Just over a week in to the scheme, it’s a relief to see that the Government’s notification platform is working and the Investment Screening Unit is doing a good job at processing filings quickly […]. The really interesting thing now will be to see which deals get called in for more detailed review”.

Clicl here to read the article (subscribers only).

To Infinity and Beyond: The Extra-territorial Application of the UK’s National Security Regime

By Oliver Bretz and Becket McGrath

With the coming into force of the UK National Security Regime on 4 January 2022, the UK will subject 17 sectors to mandatory notification and clearance requirements.  In addition there is a wide power to call-in other transactions.

A lot has already been written about the implications of having a national security regime that applies without any thresholds and regardless of the identity of the purchaser so we will not repeat that here.

What has received a lot less attention is the potential extra-territorial effect of the regime, which should be of concern to companies and third-country States at a political level.

On 20 July 2021 the UK published Guidance on how the National Security and Investment Act 2021 could affect people or acquisitions outside the UK.

Qualifying Entity

The Guidance defines a qualifying entity as being one that carries on business in the UK (including from a regional office or research facility), or supplies goods and services to people in the UK (including an overseas company that produces goods for exporting to a company in the UK or is responsible for distributing them to the UK company).

Having a sales subsidiary in the UK or supplying to a distributor in the UK would therefore be a sufficient nexus with the UK.  The extra-territorial scope is therefore very wide.

The Guidance goes on to state that if one of the following is met, the entity would definitely be a qualifying entity if it:

 supplies goods or services to the UK

·      carries out research and development in the UK

·      has an office in the UK from which it carries on activities

·      oversees the activities of a subsidiary that carries on activities in the UK (unless it is independent from the parent entity being acquired)

·      supplies goods to a UK hub which sends the goods onto other countries (unless the UK hub only places orders for goods to be sent to other countries)

·      has staff that travel to the UK for business

·      supplies goods that pass through the UK

It should be noted that UK investors, a UK Stock Exchange listing or a the existence of a common parent with a UK subsidiary is not sufficient to be regarded as a qualifying entity.

Qualifying Asset

qualifying asset is defined as an asset that is used in connection with activities carried on in the UK (regardless of where the asset is based or who is carrying on that activity) or used in connection with the supply of goods or service in the UK (regardless of where the asset is based or who is carrying on that activity).  The example in the guidance is a wind-farm supplying electricity to the UK.

This is satisfied where the asset is used:

·      by someone in the UK

·      by someone outside the UK to supply goods or services to the UK or

·      to generate energy or materials that are used in the UK.

The Guidance notes that asset purchases are not subject to compulsory notification and that the call-in of an asset purchase is going to be relatively rare. 

Information Powers

The government can require a person/entity to provide information or to give evidence if any one of the following applies:

·      if the person carries on business in the UK, even if they are not directly involved in an acquisition being investigated

·      if the person is a UK national

·      if the person is an individual ordinarily resident in the UK

·      if the entity is incorporated or constituted under the law of any part of the UK

·      if the person or entity has or is in the process of or contemplating acquiring, a qualifying entity or qualifying asset

The Government can do this by issuing information and attendance notices and the Guidance states that it will use available criminal and civil penalties including fines and custodial sentences against individuals outside the UK.

A company that is not subject to UK mandatory notification because it does not carry on activities in the UK but only provides goods or services to the UK could find itself on the receiving end of an interim order or final order. Equally a transaction that takes place entirely overseas could be subject to UK mandatory notification.

An example

Many will be familiar with the LNG import terminal (LNG Terminal) on the Isle of Grain, which is likely to be of strategic importance to the UK.  However an LNG Terminal does not own the gas that it handles – it merely makes a charge for the gasification process.  If you now take an Algerian state-owned company that merely sells its gas through the LNG Terminal to the UK that wishes to sell a 40% shareholding stake to a Gulf investor, it would be unthinkable that such a transaction would be subject to UK mandatory notification?  Think again.

The relevant steps are as follows:

1)    The state-owned company is a qualifying entity because it carries on business in the UK;

2)    The transaction may be subject to mandatory notification if that state-owned company has an existing up-stream petroleum facility (as defined in the Regs);

3)    The acquisition of 40% is a triggering event.

Whether in practice the UK would be able to compel the notification of such a transaction is a different matter.  Politically that may also be difficult in relation to companies that are majority-owned by another state.  But as always, the risks will be on the UK nationals or UK residents working for that company who may be asked to provide information, which may be subject to strict confidentiality obligations, sometimes backed up by criminal law. 

The UK will have to think long and hard about how it is likely to use those powers, especially if a transaction is not notified in the UK when it should have been.  In addition, in our example, how would the UK enforce the likely remedies set out in the Guidance:

Requiring the state-owned company to not sell more than a certain percentage of its shares; 

·      ensuring the Gulf investor cannot access certain intellectual property;

·      requiring the state-owned company to report regularly to the UK government on compliance.

The answer is of course that it would not and could not – and in this example the risk to UK national security would probably be minimal.   But just replace LNG with uranium fuel rods and Algeria with France and you will see how political this issue may become.

Internal Restructuring of an International Group

If the foregoing discussion has not had anyone worried about regulatory overreach, we would like to introduce the topic of internal restructurings.  It is a canon of merger control that internal restructurings, especially of multinational companies, which do not change the ultimate control structure are not caught by merger control.  Not so with the NS&I Act.

The Guidance provides that:

Qualifying acquisitions that are part of a corporate restructure or reorganisation may be covered by the new rules. This is the case even if the acquisition takes place within the same corporate group. This means that even within corporate restructures, it may be mandatory to notify.

So that means that a corporate reorganisation taking place in Brazil could potentially trigger a filing obligation in the UK, which is clearly completely bonkers.  What conceivable UK national security concern may be triggered by such a reorganisation is not discussed in the Guidance and remains a mystery.

Impact of a failure to notify – unenforceability?

So why does any of this matter.  Well, it matters!  Many transactions are conducted under English law and are subject to English jurisdiction.  Even if they are not, the lawfulness of the underlying transaction documents will be relevant to the financing of the transaction, which is most likely going to involve English Law documents and London banks.  Law firms will be issuing legal opinions attesting to the enforceability of the financing documents with all the usual disclaimers and caveats.

The bottom line will be the impact that illegality for failure to notify under the NS&I Act 2021 could have on the transaction and financing documents.  A textbook example of the unintended consequences of well-intentioned regulatory overreach.

UK FDI bill consultation responses will aim to narrow sector scope amid new agency capacity concerns

by PaRR

Responses to the UK government’s consultation on mandatory notification under the National Security and Investment Bill published yesterday (11 November) will seek to narrow the proposed sector definitions, lawyers told this news service.

There are also concerns that a new agency within the Department for Business, Energy and Industrial Strategy (BEIS) tasked with policing the regime will be inundated with deal cases, lawyers noted.

“It is absolutely crucial […] to further refine the list,” Samantha Mobley, competition partner at Baker McKenzie said. Given proposed “draconian penalties” for failure to file, definitions have to be “crystal clear”, she argued.

The government has identified 17 such “core sectors”: advanced materials, advanced robotics, artificial intelligence (AI), civil nuclear, communications, computing hardware, critical suppliers to government, critical suppliers to the emergency services, cryptographic authentication, data infrastructure, defence, energy, engineering biology, military and dual use, quantum technologies, satellite and space technologies and transport.

[…]
Adding new, very broad sectors such as communications, data infrastructure, energy, computing hardware and transport into the existing oversight regime under the Enterprise Act (2002) “has the potential to extend the reach [of FDI screening] considerably,” said Becket McGrath.

To read the full PaRR article: https://lnkd.in/dU3m46A

Webinar: DG Trade’s Carlo Pettinato on foreign direct investment controls

On 1st of April 2020, Oliver Bretz had the pleasure of chairing a live webinar alongside speakers Mr. Carlo Pettinato, Head of Investment Policy Unit – DG Trade, European Commission; Mr. Manuel Vélez Fraga, Partner – Uria; and Mr. Alan Riley, Senior Fellow – Atlantic Council.

The discussion focused on foreign direct investment (“FDI”) screening mechanisms and the approach of the European Commission (the “Commission”) during the COVID-19 crisis.

Notes from the webinar can be found here.