In China, the Foreign Investment Law (FIL) and its implementation regulations create the framework for the foreign investment security review (FISR) system. The Measures for Security Review of Foreign Investments (the "FISR Measures") further develop the scope of FISR—nonetheless, the FISR Measures describe the targeted sectors in broad strokes, leaving substantial room for further interpretation and clarification.

Recent updates

In 2022, China continued to strengthen its national security regulatory regime by detailing additional cybersecurity and data security clarifications to its FISR system.

• In December 2021, 13 regulatory authorities at the ministry level led by the Cyberspace Administration of China (CAC) jointly promulgated the new Measures for Cybersecurity Review (the "Cybersecurity Review Measures"), which took effect on February 15, 2022. The Cybersecurity Review Measures include the following key elements:
  • Expanded the scope of regulated entities from critical information infrastructure operators to all network operators
  • Added China Securities Regulatory Commission as one of the reviewing authorities for cybersecurity review and
  • Specified that network operators that control personal information of more than one million users must file cybersecurity review before applying for listing overseas
• In 2022, the CAC promulgated the Measures for Security Assessment of Cross-Border Data Transfer in July, which took effect on September 1, 2022, and the Guide to the Application for Security Assessment of Cross-Border Data Transfer (First Edition) in August. The regulatory measures and guide detailed the circumstances under which a security assessment is required for cross-border data transfer and how to conduct such a security assessment.

Who files

According to the FISR Measures, if a transaction falls within the scope of FISR, either the foreign investor or the Chinese party (each a "Filing Party") must file an application with the office of the working mechanism (the "FISR Office") before the commencement of the transaction in order to meet the regulatory filing requirements. If the Filing Parties fail to file an FISR application and commence a transaction, and the FISR Office determines that it falls within the scope of FISR, the FISR Office has the authority to require the Filing Parties to suspend the transaction and submit an FISR application.

In practice, various regulatory authorities will closely cooperate with each other in monitoring foreign investment activities in China. For example, if an antitrust filing is required for a transaction and such transaction is likely to fall within the scope of FISR, the antitrust regulatory authority may share the relevant information of such transaction with the FISR Office for further review and clearance before processing the antitrust filing. Based on the review of the relevant information, the FISR Office may notify one of the parties to a transaction to submit an FISR application.

Types of deals reviewed

Under the FISR Measures, the FISR Office has the authority to review a broad range of direct and indirect investment activities conducted by foreign investors, including:

• Greenfield Investments. Investments to initiate a new project or establish a new enterprise in China, either independently or jointly with other investors
• Acquisition of Equity Interest or Assets. Investments involving the acquisition of equity interest or assets of an enterprise in China. This category covers transactions between two foreign parties involving the indirect acquisition of equity interest or assets of a Chinese enterprise, such as share transfer at the shareholder level outside China
• Investments with Other Structures. Investments in China through other structures. This category is broadly defined in order to give the regulator great flexibility in interpretation, and it is our view that foreign investments via a variable interest vehicle and public offering of Chinese enterprises through merging with special purpose acquisition companies (i.e., De-SPAC transactions) will likely fall into this category

Given the broad definition of foreign investments, we recommend that foreign investors evaluate carefully before the commencement of a transaction to avoid FISR compliance risks.

Scope of the review

A foreign investment transaction is subject to FISR if:

• It involves sectors related to national defense and security, such as arms and arms-related industries or in geographic locations in close proximity to military facilities or defense-related industries facilities OR
• It (i) involves sectors significant for national security, such as critical agricultural products, energy and resources, equipment manufacturing, infrastructure, transportation services, cultural products and services, information technology and internet products and services, financial services, and key technologies; and (ii) will result in foreign investors obtaining "actual control" of the target enterprise

Foreign investors will be deemed to have "actual control" over a target enterprise if: (i) foreign investors hold more than 50 percent of the equity interest in such enterprise; (ii) even if foreign investors hold less than 50 percent of the equity interest in such enterprise, such foreign investors can exert significant influence at the shareholder or board level by virtue of voting rights; or (iii) other circumstances under which foreign investors can exert significant influence over the operational decision making, personnel, finance and technology of the target enterprise.

In addition, although not explicitly stipulated under relevant laws and regulations, the FISR Office may consider the following factors in reviewing the FISR applications in practice:

• Whether the foreign investor is, directly or indirectly, connected to any foreign government or any political parties of a foreign country
• Whether the Chinese enterprise involved has customers that are state-owned enterprises or entities in military, defense, financial, transportation or public utilities sectors
• Whether the products or services provided by the Chinese enterprise involved are otherwise readily available in the Chinese market and
• Whether the Chinese enterprise involved has access to the important data of its customers or collects any personal data within China

Review process timeline

The FISR Measures provide the typical timeline and process for the FISR review of a transaction:

• Preliminary Review. Upon the receipt of an application, the FISR Office will make a preliminary decision on whether a transaction is subject to general review within fifteen (15) working days
• General Review. If the FISR Office decides that a transaction should be subject to general review at the conclusion of the preliminary review, it will conduct and complete the general review within thirty (30) working days of the date it made its preliminary review decision
• Special Review. If the FISR Office determines that a transaction should be subject to special review at the conclusion of the general review, the FISR Office will conduct and complete the special review within sixty (60) working days. Under special circumstances, the FISR Office may extend the special review at its own discretion and will inform the applications with a written notification. The FISR Office will issue its final decision to applicants after the completion of the special review

During the FISR Office's review, parties to a transaction are prohibited from proceeding with a transaction. In other words, the FISR must be completed prior to the closing of a transaction.

How foreign investors can protect themselves

• Foreign investors should continue to be mindful of the legislative and enforcement developments on China's national security regulatory regime, and pay special attention to transactions that might fall within the industries that are more likely to trigger national security concerns
• Foreign investors should be cautious when completing acquisitions before obtaining FISR approval, as they might be forced to divest the acquired equity interest or assets in China if the transaction ultimately fails the FISR approval process
• Due to enforcement uncertainties and the broad scope of captured industries, foreign investors interested in sensitive industries may wish to conduct a comprehensive pre-transaction analysis before proceeding with the transaction to avoid compliance risks
• Foreign investors may consider scheduling pre-application consultations with officials from the FISR Office to determine FISR risk before commencing the formal application process to reduce transaction uncertainties

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_{This article is prepared for the general information of interested persons. It is not, and does not attempt to be, comprehensive in nature. Due to the general nature of its content, it should not be regarded as legal advice.}

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