National security reviews 2018: A global perspective
What's inside
A guide to navigating the rules for investing in countries that require national security approval
Navigating national security reviews worldwide
As governments in various countries tighten their grip on national security reviews of foreign direct investment, the need for better assessment and calibration of the associated regulatory risk in cross-border transactions is greater than ever before
Nowhere is this trend more evident than in the United States, with the August passage of the Foreign Investment Risk Review Modernization Act (FIRRMA), which expanded the range of transactions that are subject to review by the Committee on Foreign Investment in the United States (CFIUS), and the more recent release of a pilot program under FIRRMA that instituted mandatory declarations for a broad range of transactions and put in place penalties—up to the full value of the transaction—for failure to comply. With CFIUS set to clamp down still further in coming months, CFIUS compliance is rapidly moving to the very top of the due diligence list for cross-border transactions involving US businesses.
The US is far from alone. As you will read in the pages that follow, the European Union, United Kingdom, Germany, France, China and other nations are also incrementally ratcheting up their reviews. In the UK, for instance, the government is proposing radical new legislation to allow it to intervene in cases that raise potential national security concerns. The UK government itself estimates that, under the new law, approximately 50 cases a year may end up with some form of remedy to address such concerns. In France, the new PACTE law is likely to strengthen the sanctions mechanism, extend the list of sectors subject to review and introduce some transparency into the process through annual reporting on a no-name basis of reviewed cases.
The pages that follow offer a common-sense guide to investing in major jurisdictions, a snapshot of recent regulatory changes in each, and guidance on making sound investment decisions in a time fraught with regulatory uncertainty.
United States
Deals are generally approved, but a new law increases the number and types of deals reviewed.
New legislation has been proposed to expand the scope of French national security reviews, especially in the technology sector, and to strengthen the powers of French authorities to impose sanctions
Deals are generally not blocked by the Italian government. However, in connection with the clearance process, conditions may be imposed that can have a significant impact on the investment
New amendments potentially require foreign investors to disclose information about beneficiaries, beneficial owners and controlling persons as part of pre-clearance
China is attempting to implement a more structured and comprehensive system to keep a closer eye on economic deals that might have security implications
While few deals are challenged in Canada, national security reviews are becoming more common and complex
Insight
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9 min read
This chapter of National security reviews 2018: A global perspective was authored by Oliver Borgers1
Investors subject to Canadian national security reviews have included American companies, as well as investors from emerging markets.
The Investment Review Division (IRD), which is part of the Ministry of Innovation, Science and Economic Development Canada (ISED), is the government department responsible for the administration of the Investment Canada Act (ICA), which is the statute that regulates investments in Canadian businesses by non-Canadians.
The IRD interfaces with investors and other parties as part of a preliminary (informal) review of an investment to determine if there are potential national security concerns. Where concerns arise, the IRD will work with the Minister of ISED, in consultation with the Minister of Public Safety and Emergency Preparedness, who will refer investments to the Cabinet (the Canadian Prime Minister and his appointed Ministers, formally known as the Governor in Council), who may order a formal review if the investment could be injurious to Canada's national security. The national security review process is supported by Public Safety Canada, Canada's security and intelligence agencies and other investigative bodies described in the National Security Review of Investments Regulations.
WHO FILES
The ICA is a statute of general application that applies to any acquisition of control2 of a Canadian business by a foreign investor. If the relevant financial threshold under the ICA is exceeded, the statute provides for a process of pre-merger review and approval of foreign investments to determine if they are of "net benefit" to Canada.
If the financial threshold is exceeded, the investor must file an application for review and the transaction must be approved by the relevant Minister. A key element in the application for review is the requirement to set out the investor's plans for the Canadian business, including plans related to employment, participation of Canadians in the business and capital investment. An application for review is a much more detailed document than a notification.
If the financial threshold is not exceeded, the investor has an obligation only to file an administrative notification form, which can be filed up to 30 days after closing.
In either case (filing of an application for review or just a notification), the Canadian government has the jurisdiction for 45 days after receipt of such a filing to order a national security review if there are concerns.
The entry point for national security review screening will usually be the obligatory filing under the ICA (either an application for review if the financial threshold is exceeded, or an administrative notification form if the threshold is not exceeded). The government also has the power to subject noncontrolling minority investments to a national security review, although we are not aware of any instances of such a review to date.
TYPES OF DEALS REVIEWED
It is important to keep in mind that the Canadian government has the power to review any transaction (including minority investments) in which there are "reasonable grounds to believe that an investment by a non-Canadian could be injurious to national security." Unlike the "net benefit" review process under the ICA, there is no financial threshold for investments under the ICA's national security review regime.
Further widening the potential scope of the national security review regime is the fact that there is no statutory definition of "injurious to national security." This lack of definition creates wide discretion for the Minister and some uncertainty for foreign investors.
The types of transactions that have been the subject of formal review under the national security lens include those relating to satellite technology, telecommunications, fiber-laser technology and critical infrastructure as well as where a non-Canadian investor proposed to build a factory located in close proximity to Canadian Space Agency facilities. Investors subject to Canadian national security reviews have included American companies, as well as investors from emerging markets, but particular scrutiny can be expected for state-owned investors.
SCOPE OF THE REVIEW
The Canadian government recently issued guidelines that shed some light on the circumstances that may draw investors and parties involved in the investment into the realm of a national security review.
A national security review will focus on the nature of the business to be acquired and the parties involved in the transaction (including the potential for third-party influence). In assessing whether an investment poses a national security risk, the Canadian government has indicated that it will consider factors that focus on the potential effects of the investment on defense, technology and critical infrastructure and supply.
Review can occur before or after closing. Transactions that run the risk of raising national security concerns are encouraged to seek clearance by making any ICA filings well before the proposed time of closing (at least 45 days). The Canadian government may deny the investment, ask for undertakings and/or provide terms or conditions for the investment (similar to mitigation requirements in the United States), or, where the investment has already been made, require divestment.
TRENDS IN THE REVIEW PROCESS
The Canadian government has been steadily increasing its focus on national security (including rejecting mergers due to national security concerns). However, recent events appear to signal an increased willingness to encourage foreign investment, including the recent issuance of guidelines intended to increase the transparency of national security reviews and the setting aside of the prior federal government's decision requiring a foreign investor to divest its investment in a Canadian business due to national security concerns.
In late 2016, in an unusual move, the new Liberal government consented to setting aside an order made under the previous Conservative government that required O-Net Communications (a high-technology company listed on the Hong Kong Stock Exchange) to divest its investment in ITF Technologies (a specialty fiber components and modules provider in Quebec) on the basis that the investment would be injurious to national security. Under a fresh national security review, the Liberal government reversed the prior government's decision and approved O-Net's acquisition of ITF Technologies. This development appears consistent with the Liberal government's foreign policy objective to deepen trade relations with China.
By contrast, in 2018 the Canadian government blocked the acquisition of Aecon, a Canadian construction and infrastructure company, by a Chinese state-owned investor after significant public and political opposition. Time will tell whether this move by the government is a sign of an overall policy shift or a unique case.
HOW FOREIGN INVESTORS CAN PROTECT THEMSELVES
Where a transaction gives rise to national security risks, non-Canadian investors should consider filing notice of the transaction with the Minister at least 45 days prior to closing to obtain pre-clearance (assuming the Minister does not order a full national security review). For an investment that does not require notification (i.e., a minority investment), the Canadian government encourages non-Canadian investors to contact the Investment Review Division at the earliest stage of the development of their investment projects to discuss their investment.
As in other jurisdictions, it is therefore critical for foreign investors to consider Canadian national security review issues in planning and negotiating transactions. In particular, an investor should ensure that it secures a closing condition predicated on obtaining national security clearance in Canada, where appropriate. It may also be appropriate for merging parties to allocate the national security risk.
REVIEW PROCESS TIMELINE
The process can take up to 200 days (or longer with the consent of the investor) from the date the initial notice of the transaction is sent to the Minister of ISED. The Minister has 45 days (which can be extended by up to an additional 45 days) after an application or notification under the ICA has been certified, or after the implementation of a minority investment that does not require notification, to refer an investment to the Governor in Council for an order for national security review. If an order is made, it can take 110 more days (or longer with the consent of the investor) for the review to be completed.
2018 UPDATE HIGHLIGHTS
The Canadian Government continued to robustly apply the national security provisions of the ICA in 2017 – 2018. In 2016 – 2017 (statistics for which were released in 2018), the government issued three divestiture orders and two approvals with conditions to mitigate the potential injury to national security, which reflects greater enforcement action than in any previous year. In May 2018, the government also issued a highprofile block of the CCCI/Aecon transaction, which involved the proposed acquisition of a Canadian construction and infrastructure company by a publicly traded Chinese state-controlled investor. The Minister released a statement noting that "Our government is open to international investment that creates jobs and increases prosperity, but not at the expense of national security," but did not disclose the security considerations that led to the decision.
The uptick in enforcement and the government's block of a high-profile transaction suggest that despite its rhetoric about welcoming foreign investment, the government will not hesitate to invoke its enforcement powers where it believes Canada's national security may be threatened. Despite this trend, the vast majority of investments notified or subject to review under the ICA—including acquisitions by state-owned investors and investors from China—are cleared without engaging the national security process.
OUTCOMES
- Formal national security reviews have been ordered by the Cabinet 12 times since the national security review process was introduced in March 2009 to March 2017 (the date to which IRD has released statistics)
- Many more transactions have been the subject of informal national security review by the IRD, most often resulting in successful pre-clearance. Only a small fraction of the thousands of notifications and applications for review filed with the IRD have attracted national security scrutiny
- The outcomes of the 12 instances where formal national security reviews were ordered include: The investor was directed to not implement the proposed investment (three cases—one of which was re-reviewed and approved with conditions), the investor was ordered to divest control of the Canadian business (five cases), the investment was authorized with conditions that mitigated the identified national security risks (four cases) and, in one case, the investor withdrew its application prior to a final order being made
1 Oliver Borgers is a partner in the Toronto office of McCarthy Tétrault LLP (T +1 416 601 7654, E [email protected]). White & Case LLP has no affiliation with McCarthy Tétrault LLP. 2 Generally, an acquisition of greater than 50 percent of the equity or voting interests of an entity, though in certain cases an acquisition of greater than one-third of the equity or voting interests of a corporation will be considered an acquisition of control.
