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Committee on Foreign Investment in the United States (CFIUS): Recent Developments September 2013. Paul Marquardt. Committee on Foreign Investment in the United States (CFIUS). Created and governed by a statute known as the “Exon-Florio Amendment” and its implementing regulations
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Committee on Foreign Investment in the United States (CFIUS): Recent DevelopmentsSeptember 2013 Paul Marquardt
Committee on Foreign Investment in the United States (CFIUS) • Created and governed by a statute known as the “Exon-Florio Amendment” and its implementing regulations • Charged with reviewing the national security implications of transactions that involve the acquisition of a U.S. business by a foreign person • Consists of 16 representatives from various government agencies and offices • Staff is part of the Treasury Department
CFIUS Jurisdiction: “Covered Transactions” CFIUS has authority to review “Covered Transactions,” which include any “transaction” by or with any “foreign person,” which could result in “control” of a “U.S. business” by a foreign person • Any merger, takeover, or other acquisition that results in control of a U.S. business, even if the U.S. business is acquired from a foreign entity • Any foreign national, entity, or government, or any entity over which a foreign national, entity, or government has “control” • The power to determine, direct, or decide important matters affecting an entity, including the power to block a decision • Control is a case-by-case determination that rests upon both the acquirer’s level of ownership (with no set threshold) and the rights exercisable by the acquirer • More like “significant influence” than formal control • Includes the U.S. operations of foreign companies • Transaction • Foreign • Person • Control • U.S. Business
CFIUS Review as a “Voluntary” Process • CFIUS notification is technically voluntary • The law does not require parties to file a notice with CFIUS prior to a transaction • CFIUS notification does not suspend the transaction • Parties may close before a CFIUS review is complete, though this is uncommon, as it shifts all risk to the acquirer • CFIUS can compel a review • On the Committee’s recommendation, the CFIUS Staff Chair may initiate a review • Any CFIUS member may initiate a review by filing an agency notice of a transaction • CFIUS has subpoena authority • CFIUS may initiate a review post-closing • If the parties do not file a notice, CFIUS retains the right to review the transaction in the future, even after the transaction closes
Advantages and Disadvantages of Voluntary Notification Advantages of Voluntary Notification Disadvantages of Voluntary Notification • May reduce vulnerability to political criticism • Eliminates the risk that the target, a rival bidder, or another interested party will seek to encourage CFIUS review at a late stage to delay the transaction • Eliminates the risk of a post-closing review and an order of divestiture • May draw attention to a transaction that would otherwise go unnoticed • Notification imposes burdensome requirements to produce information • May lead to pressure from U.S. agencies to alter the transaction
Filing Process: Overview 15-Day Presidential Review (Rare) 5+ Day Pre-Filing Review 45-Day National Security Investigation 30-Day Review Pre-Filing Submission Formal Filing & Acceptance By CFIUS CFIUS Clears or Initiates Additional Investigation CFIUS Clearsor Refers to President President Clears or Blocks • Timeline may be varied by requests for “voluntary” extensions • Timeline may be restarted if there is a material change to the transaction or if any information request is not answered within three business days
Contents of a Voluntary Notice • Voluntary notices are required to include: • Details about the transaction and foreign entities involved • Organizational chart showing all entities in foreign acquiror’s ownership chain, including the percentage of shares held by each entity • Details about the target’s business, products, services and market share and the acquiror’s future plans for the target’s business • Details on the target's U.S. government contracts • Detailed "personal identifier information" for all board members, senior management, and shareholders holding 5% or more of the acquiror, its intermediate parent or its ultimate parent. • This information includes each individual’s passport number and details about the individual’s foreign military and government service
Focus of CFIUS Review: “National Security” • CFIUS is only concerned with transactions that impair the “national security” of the United States • “National security” is left undefined by the Exon-Florio Amendment and its implementing regulations, though it does include “homeland security” and “critical infrastructure” • “Critical infrastructure” Systems or assets so vital to the U.S. that their incapacitation or destruction would have a debilitating impact on national security • CFIUS’s view of national security is broad and flexible, and it goes well beyond military matters • CFIUS utilizes a two-stage analysis to determine the degree to which a transaction may impair national security
National Security: Two-Stage Analysis Stage 1: Vulnerability Stage 2: Threat CFIUS identifies all national security considerations to determine whether the U.S. business creates a vulnerability in U.S. national security • Key Issue: Whether a foreign person in control of the business could take action that threatens to impair U.S. national security CFIUS determines whether the particular foreign acquirer poses a threat • Key Issue: Whether the acquirer has the capability or intention to exploit any vulnerability or to cause harm
National Security: Sensitive Sectors • CFIUS has identified sensitive sectors that may raise concerns, including: • Government contractors (especially for defense, security, and national security) • Weapons and munitions manufacturing • Aerospace • Critical infrastructure • Telecommunications • Energy • Transportation • Financial institutions • Advanced technology • Strategic resources • Potential terrorism targets (e.g., chemical facilities)
CFIUS Review: Recent Developments • CFIUS staff has been more formal and rigid in following procedures than under prior administrations • Very difficult to obtain meaningful informal guidance • Not sensitive to timing concerns, even in public transactions • Lower transaction volume means more time to spend on review • Inquiries into non-notified transactions and investigations of closed transactions becoming more frequent • Heightened concern over cyber-security • The U.S. government has become increasingly concerned about potential cyber attacks aimed at government computer systems and those of U.S. companies, particularly from China • The Pentagon’s 2013 Annual Report to Congress publicly accused China of a role in cyber attacks • Congress has issued a number of reports accusing Huawei and ZTE of involvement in cyber warfare • Less focus on sovereign wealth funds
CFIUS Review: Recent Developments • "Regulation by CFIUS" • Security agencies are using CFIUS review to regulate industries they don't have direct authority over, especially telecommunications • Offshoring, choice of suppliers • Geographic proximity to sensitive U.S. government facilities • Ralls – Transaction involved wind farm projects located near a U.S. Navy flight training area in Oregon • Northwest NonFerrous International Investment / Firstgold – Acquisition involved a mine located near Fallon Naval Air Base in Nevada • Procon Resources / Lincoln Mining – Acquisition involved another mine near Fallon Naval Air Base • FEGRI / Nevada Gold – FEGRI required to divest its interest due to the proximity of Nevada Gold’s primary mining operation to Fallon Naval Air Base • CNOOC / Nexen – Security agreement involved rigs in the Gulf of Mexico • Certain industries highly scrutinized • Critical technologies, telecommunications and energy sectors continue to receive greater scrutiny from CFIUS
Challenges Faced by Chinese Acquirors • CFIUS has closely scrutinized deals involving Chinese acquirors and challenged several: • SoftBank / Sprint (2013) – Obtained CFIUS clearance, but security agreement involved restrictions on the use of Huawei and ZTE equipment in the Sprint network • Procon Resources / Lincoln Mining (2013) – CFIUS required Procon to divest its interest in Lincoln, a Canadian mining company with U.S. subsidiaries • China Superior / Hawker (2012) – Deal failed in part due to concerns about CFIUS objections and difficulties separating Hawker’s defense operations • Ralls (2012) – Acquisition of wind farm project companies was blocked post-closing • Tangshan Caofeidian Investment Corp / Emcore (2010) – TCIC withdrew notification of its bid for Emcore’s fiber optics division in light of CFIUS objections • Huawei • 3Leaf (2010) – CFIUS opened a post-closing investigation of Huawei’s acquisition of a small server-network company’s assets • 3Com (2008) – Huawei abandoned its bid to acquire a 19% stake in 3Com after coming under politically-charged CFIUS scrutiny • Northwest Nonferrous International Investment / Firstgold (2009) – Northwest Nonferrous abandoned its bid to acquire Firstgold after CFIUS indicated it would recommend that the President block the deal
Most Chinese Acquirors Obtain CFIUS Clearance • Deals involving Chinese acquirors have obtained CFIUS clearance despite political and protectionist interests • Shuanghui / SmithfieldFoods (2013) – CFIUS recently cleared Shuanghui’s acquisition of Smithfield despite significant political opposition by farming interests citing food security concerns • Wanxiang Group / A123 Systems (2013) – CFIUS cleared Wanxiang Group’s purchase of battery manufacturer A123 even though critics argued the acquisition would transfer technology developed with U.S. stimulus money to China • Anshan Steel / Steel Development Company (2010) – The Congressional Steel Caucus unsuccessfully lobbied CFIUS to block Anshan’s purchase of a minority stake in Steel Development's Mississippi rebar facility • Deals have obtained CFIUS clearance despite attacks from rival bidder • SoftBank / Sprint (2013) – Rival bidder Dish Networks attacked the deal on national security grounds, but it ultimately obtained CFIUS clearance • BGI-Shenzhen / Complete Genomics (2012) – CFIUS cleared BGI's acquisition despite efforts by rival bidder Illumina to highlight national security concerns in gene sequencing technology
Most Chinese Acquirors Obtain CFIUS Clearance • Transactions involving sensitive sectors and state-owned entities have received approval from CFIUS, even when political challenges were mounted • CNOOC / Nexen (2013) – CNOOC’s acquisition of Nexen, a Canadian oil and gas company with assets in the U.S., was cleared with conditions despite opposition by some in Congress • Sinopec / Devon Energy (2012) – Acquisition of a one-third stake in five Devon Energy oil and gas projects approved • CNOOC / Chesapeake Energy Corporation (2010, 2011) – Acquisition of one-third interests in two Chesapeake Energy oil and gas projects approved • AVIC • Cirrus (2011) – Acquisition of U.S. aircraft manufacturer Cirrus by AVIC's subsidiary approved • Teledyne (2010) – Acquisition by AVIC of two U.S. subsidiaries of aircraft engine manufacturer Teledyne approved
Most Chinese Acquirors Obtain CFIUS Clearance • Additional Chinese investments approved in recent years include: • Lenovo / EMC (2012) – Joint venture between Lenova and data-storage provider EMC to develop and sell servers and network storage • China Three Gorges / EDP (2011) – Acquisition of a 21% stake in Portuguese power group EDP, which operates a significant number of wind farms in the U.S. • Canon / Altair (2011) – Acquisition of a 51% stake in Altair, a U.S. manufacturer of lithium-ion energy systems and batteries
Risk Mitigation Strategies • Transparency • Transparent governance and ownership • Supplement self-disclosure with external audit and verification • Independent external advisors/board members • Consider whether public listing outside China is feasible/desirable from a business perspective • Participation in industry and standard-setting bodies • Political and public engagement • Channels to CFIUS and its agencies should remain open • Consider retaining public relations and government relations advisors to work as a team with legal advisors • Public image needs to support strategy • Try to engage critics in Congress where possible • Take a leadership role in global efforts to cooperate with industry and government
Risk Mitigation Strategies (continued) • Avoid or divest sensitive businesses • Consider separating sensitive operations • Approaches such as “firewalls” and security monitoring by the U.S. Government may be accepted • Structure to avoid operational control of sensitive U.S. assets • Spin off problematic business to a second buyer • Pursue non-controlling investments • Under 10% and passive is safe, but clear minority investments can work • Non-ownership joint ventures, R&D/marketing agreements, sales of individual assets • Pursue influential U.S. partners
Risk Mitigation Strategies (continued) • Avoid or divest sensitive businesses • Consider separating sensitive operations • Approaches such as “firewalls” and security monitoring by the U.S. Government may be accepted • Structure to avoid operational control of sensitive U.S. assets • Spin off problematic business to a second buyer • Pursue non-controlling investments • Under 10% and passive is safe, but clear minority investments can work • Non-ownership joint ventures, R&D/marketing agreements, sales of individual assets • Pursue influential U.S. partners