4 March 2021 Christoph Barth  -  Tim Castorina ForeignInvestmentLinks

Foreign investment and technology: what are the trends?

The Covid-19 pandemic has accelerated the rise of foreign investment controls across the globe and this has been particularly pronounced in the tech sector, in which most of the funding typically comes from foreign investors. More than 60% of OECD countries have either introduced tighter foreign investment controls or are planning such changes. Since the tech sector currently tops the list of enforcement priorities in many of these countries, specific rules are being often being introduced for the tech sector, aiming to preserve national self-sufficiency and industrial policy interests in this area. 

Key global trends

Over the past 12 months, we have witnessed a number of notable trends across jurisdictions:

  • A race to the bottom for transactions that warrant foreign investment approval, with many jurisdictions requiring approval for non-controlling minority shareholdings;
  • Read more: Foreign Investment and Minority Shareholdings: How low can they go?
  • A growth in mandatory filing regimes, often coupled with civil law invalidity of transactions until clearance has been obtained, and subject to severe sanctions for non-compliance (ranging from multiples of the transaction value to criminal charges);
  • Long and rather non-transparent processes, featuring behind the scenes co-ordination and a certain political element in decision making. A good working relationship with the authority can help navigate these processes;
  • A higher degree of intervention in many countries, where typically an assurance on the continuation of business lines or the preservation of national capabilities is required when transactions are subject to in-depth investigation.
European Union

The EU FI Regulation is now in force and is already increasing the level of scrutiny over current and future transactions. In the tech sector, the Regulation targets - among others - transactions which relate to companies active in artificial intelligence, robotics, semiconductors, cybersecurity, quantum and nuclear technologies as well as nanotechnologies and biotechnologies - but also companies with access to sensitive information, including personal data, or the ability to control such information. The Regulation was bolstered by guidelines issued in March 2020, which urged greater vigilance in light of Covid-19 – and the tech sector is certain to feature prominently in the EU’s update of its industrial strategy, expected towards the end of April. 

Of practical importance for transaction parties is the enhanced co-operation mechanism between Member States and the EC, which means that all authorities will become aware of transactions notified in other Member States.

Although the mechanism has only been in force since October 2020, we have already seen Member States and the EU Commission interacting over this mechanism in a range of cases and we expect at least 200 transactions to be reported under the mechanism each year. This number may increase even further as more Member States adopt their own regimes (Belgium, Ireland, the Netherlands and Sweden are all currently in the process of doing so, joining the existing 16 EU countries with such rules), and as the Commission insists on all cases being notified under the mechanism – as opposed to only those cases for which an in-depth investigation is being initiated.

This complex web of interactions looks set to remain a major feature of European foreign investment screening procedures, and transaction parties need to factor this into their deal timetable and strategic planning.

Germany

Having updated its rules three times during 2020, Germany is set to have another update in early 2021, which will bring advanced and future technologies into the scope of the mandatory regime.

Germany is known for its broad jurisdiction which can kick in from as low as 10% of voting rights. Since participations are analysed layer by layer as to whether the 10%-threshold is met (rather than looking at the effective participation), even minimal participations may require mandatory and suspensory foreign investment approval. The current regime already applies to many activities in the tech sector. However, a reform, which is currently envisaged for Q2 2021 will materially expand this scope. With particular relevance for the tech sector is the envisaged introduction of mandatory filings for e.g. AI-based products/services that can be used to carry out certain listed activities such as cyber-attacks or cyber surveillance; autonomous or automated motor vehicles, unmanned aerial vehicles or essential components or essential software therefor; industrial robots, including software and technology, or provide specific IT services; semiconductors (in particular integrated circuits and discrete semiconductors), or manufacturing or process tools for these (in particular crystal growing systems and dotting equipment); IT products/software with primary cybersecurity functions; products for targeted use of the specific effects of quantum mechanics; additive manufacturing; operation of wireless or wire-bound data networks, smart meter gateways and security modules.

Besides the introduction of more sensitive sectors, the reform also includes a number of other notable items.

UK

Following the end of the Brexit transition period, UK acquirers are now treated as any other foreign acquirer, thereby facing more foreign investment proceedings across EU Member States. This will also be important for financial investors with fund structures located in the UK or the Channel Islands.

Meanwhile, the UK Parliament is currently considering comprehensive and wide-ranging reforms to its powers to scrutinise foreign investment. The National Security and Investment Bill marks a step-change to the Government’s enforcement powers, reflecting political concerns over foreign investment in critical national infrastructure and in sensitive sectors such as technology. The Government has consulted over the 17 sensitive sectors in which transactions will face a mandatory notification and it has now published a refined set of sector definitions. In particular, the Government proposes to narrow the mandatory regime’s scope for artificial intelligence, critical suppliers to the Government and the emergency services, data infrastructure, energy, and military and dual use technology. Final definitions of the sectors are only likely to be provided after the NSI Bill itself has passed Parliament and will be set out in May/June 2021. Even after that, the Government will have the power to update the scope of these sectors through secondary legislation - seen as critical to responding promptly to evolving national security concerns.

U.S.

In the U.S., 2020 was a year of major change for FI reviews by the Committee on Foreign Investment in the United States (CFIUS). Reforms included a mandatory pre-closing notification requirement for certain investments in companies involved with critical technology, critical infrastructure or sensitive personal data. Moreover, key recent changes in U.S. export control laws are expected to further complicate the assessment of whether a mandatory filing is triggered, meaning that U.S. Congress’ scrutiny of non-U.S. investors gaining access to U.S. sensitive technologies looks set to continue – and further expansion of U.S. export controls is ongoing, enlarging the number of items that will qualify as critical technologies.

The outcome of the U.S. election is expected to have little effect on the breadth of CFIUS’s reach, but there is likely to be a return to its traditional technocratic approach to national security, leading to longer deliberations. A few more acquisitions from China may survive, but subject to mitigation conditions. Finally, the Biden administration has recently initiated a government review aimed at protecting critical U.S. supply chains. This review could affect future U.S. foreign investment reviews in a number of technology-related sectors.

Planning ahead

The intense focus on foreign investment control is resulting in record numbers of filings and deals subject to longer review processes. For example, the proposed UK regime is predicted to review 1,000–1800 cases per year – a huge increase on the 12 considered under the existing rules over the last 18 years and on the average of 60 or so mergers reviewed by competition authorities per year. We can also expect significant increases in the number of filings in other jurisdictions such as Germany, where it is predicted that the number of notifications may double as a result of the latest reform proposal compared to last year (which had already seen a record number of filings).

Transaction parties, now more than ever, need to ensure that foreign investment filing requirements are factored into the timetable and associated risk assessment for deals involving assets in affected sectors.