14 September 2021 Jonathan Gafni ForeignInvestmentLinks

Thoughts on CFIUS’s Review of Wise Road-Magnachip*

*Excerpted in part from “CFIUS carve outs: Definitions, motivations, and considerations”, Foreign Investment Watch, September 5, 2021.

On August 30, Magnachip Semiconductor Corporation announced that it had received a letter from the Committee on Foreign Investment in the United States (CFIUS) indicating that CFIUS had identified national security concerns arising from the proposed merger of Magnachip with an affiliate of China-based Wise Road Capital. The letter went on to say that it had not identified suitable mitigation conditions, and was prepared to recommend that President Biden block the transaction. Such “Ralls letters” are not always a death knell for a deal, but in most cases, unless the parties can convince CFIUS that mitigation is possible, they result in the parties deciding to abandon a transaction rather than face an almost certain adverse Presidential decision. On September 14, Magnachip announced that the parties had withdrawn and refiled their CFIUS notice, an administrative step that allows more time for negotiations with CFIUS.

The parties clearly did not expect CFIUS to be a stumbling block for their deal. In fact, when the deal was originally announced, Magnachip, a U.S.-listed Delaware corporation with its effective headquarters and all of its manufacturing in South Korea, said it did not believe any regulatory approvals were required in the United States. Magnachip subsequently explained that this belief was based on the absence of employees, tangible assets, or IT systems located in the United States. Nevertheless, in May 2021, CFIUS initiated a pre-closing review of the proposed transaction, and on June 15 issued an interim order prohibiting completion of the merger until the CFIUS process was complete.

So what went wrong for the parties? If Magnachip had no U.S. employees, tangible assets, or IT systems, what was the U.S. business over which CFIUS claimed jurisdiction?

First, it appears that Magnachip only recently pulled out of the United States. In Magnachip’s 2020 annual report, the company identified a facility in San Jose, California, used for “administration, sales and marketing and research and development functions.” If Magnachip closed the facility to reduce the company’s CFIUS exposure, CFIUS evidently did not feel that Magnachip had done enough. Notably, the investor relations contact on Magnachip’s website and in the company’s SEC filings remains a San Jose phone number. Also, the LinkedIn profiles of several Magnachip personnel continue to list their location as the United States. While social media profiles are not necessarily updated or reliable, that doesn’t mean CFIUS can’t rely on them as the basis for further inquiry. If it turned out that those personnel are no longer Magnachip employees but are working as independent contractors (or for third-party contractors) that support the company’s activities, it is possible that CFIUS viewed them as being under Magnachip’s effective control. Since CFIUS is less concerned with form than with substance, such arrangements – if any – may have been the basis for CFIUS to assert jurisdiction.

Second, Magnachip might not have been wrong in saying it did not need U.S. government approval to close the transaction if it was speaking only about mandatory pre-closing CFIUS filings and if Magnachip’s semiconductor business does not involve activities that could have triggered a pre-closing filing under the CFIUS regulations. What parties often forget, however, is that if CFIUS has jurisdiction over a transaction (as it does with any foreign acquisition of control of a U.S. business), it can “call in” the transaction for review either before or (more frequently) after closing.

Key Takeaways

This incident offers a number of lessons for other parties:

  • Too often, parties look at the absence of a pre-closing CFIUS filing requirement as a license not to deal with CFIUS. Just because the parties do not have to file under the mandatory filing rules does not mean that CFIUS can’t review the transaction anyway—either before or after closing. Now that CFIUS has a Monitoring & Enforcement office dedicated to identifying “non-notified” transactions, parties are even less likely to escape CFIUS’s notice.
  • CFIUS has broad discretion in interpreting its rules, and is willing to use that discretion as needed in order to review transactions in which it may have a substantive interest. In the case of Magnachip, the transaction involves China and semiconductors, both of which are hot buttons for CFIUS. That means CFIUS is more likely to want to look at those transactions, so parties seeking to avoid CFIUS review must be much more willing to cut all ties between the target company and U.S. activities that are being sold separately or wound down entirely.
  • We don’t know whether Magnachip closed its U.S. facility for CFIUS-related reasons, but as this case demonstrates, a target company seeking to avoid CFIUS jurisdiction must be prepared to take even more steps to sever ties between the company and its U.S. activities.
  • Even if a pre-closing CFIUS filing is not required, CFIUS has the authority to call in and suspend completion of a transaction.