But I'm Canadian! And Other CFIUS Dilemmas
A little known committee within the US Treasury Department could have a big impact on deals involving a foreign acquisition of a US business. The Committee on Foreign Investment in the United States – CFIUS – reviews such transactions for national security concerns. Notifying CFIUS of a transaction is voluntary; however, the committee can initiate reviews in some cases. CFIUS is also known to request “voluntary” filings from parties to a transaction that raises national security considerations.
If CFIUS is notified of and clears a transaction, then the transaction is in the clear assuming there were no material mistatements in what was submitted to CFIUS. If the committee finds that the deal could impair US national security, then it can involve the President, who has the power to prohibit the transaction or order a divesture if the deal has already closed.
The regulations governing CFIUS are opaque and purposefully broad, leaving many companies with questions about whether to notify the committee about a transaction.
One of the most common questions that arises is whether the nationality of the acquirer is relevant in determining whether a CFIUS filing should be made. People think that acquirers from friendly or allied nations may get a pass. The short answer is no. CFIUS may review a transaction regardless of the acquirer’s origin. From 2009 through 2011, more than half of CFIUS filings dealt with acquirers from Canada, France, the United Kingdom and the Netherlands. During that period, one quarter of the transactions had a UK acquirer. In 2009, CFIUS approved the acquisition by Electricité de France of a 49.99% interest in Constellation Energy’s nuclear assets.
However, although the acquirer’s nationality does not matter when determining whether the committee has the authority to review a transaction, the nationality of the buyer could be an important factor when analyzing whether the transaction raises national security considerations. For example, Chinese companies have received heightened attention from CFIUS in recent years. CFIUS filings for transactions involving a Chinese acquirer have increased from one filing in 2005 to 10 filings in 2011. Several of the filings have been submitted at the committee’s request.
Last fall, in a rare move, President Obama issued an executive order that said the acquisition by the Ralls Corporation of four wind projects located near a US naval facility in Oregon threatened to impair national security and ordered Ralls to divest itself of the wind farms. Ralls is owned by executives at Chinese manufacturer Sany Group, a Chinese state-owned entity. Other Chinese companies have abandoned deals, divested assets or instituted other mitigation efforts before deals have reached the point of a presidential decision.
That is not to say that all deals involving a Chinese acquirer will face problems. Early this year, CFIUS approved the acquisition of lithium ion battery manufacturer A123 Systems, Inc. by a US subsidiary of Wanxiang Group, a Chinese auto parts manufacturer. A123 had military and government contracts and had been awarded a Department of Energy grant of approximately $250 million. For these reasons, some politicians opposed the deal. Despite political opposition to the acquisition, CFIUS approved the deal. Reports indicate that the deal was structured so that A123 divested its government and military contracts and Wanxiang would not have access to A123’s technology or assets. Such structuring helped alleviate the anticipated national security concerns. Recently, CFIUS approved the largest-ever takeover of a US business by a Chinese company. Shanghui International Holding Ltd acquired US pork processer Smithfield Food Inc. for $7.1 billion. Reports indicate that the CFIUS approval was not conditioned on any mitigation requirements.
Another common question is what characteristics of a company or transaction raise a red flag to the committee. “National security” is not defined for CFIUS purposes. However, the enabling statute lists factors considered by CFIUS in determining whether a transaction poses a national security risk. Such factors include the potential national security effects on US critical technologies, the long-term projections of US requirements for sources of energy and other critical resources and critical infrastructure. Critical infrastructure means a physical or virtual system or asset so vital to the United States that its incapacity or destruction would have a debilitating impact on national security. It includes major energy assets. However, the rules do not specify what is a major energy asset.
Guidance issued by Treasury makes clear that the concept of national security should be broadly interpreted and that it includes acquisitions of US businesses outside of the traditional defense sector. The guidance focuses on two characteristics of a deal: the nature of the US business being acquired and the identity of the foreign person acquiring control of the business. The committee does not focus on any particular US business sector. CFIUS has found that transactions present national security considerations because the transaction involves a US business that provides goods or services that directly or indirectly contribute to US national security. The acquirer’s identity is particularly relevant if it is controlled by a foreign government.
A more in-depth review is required if the transaction is a foreign-controlled transaction or the transaction would result in foreign control of any critical infrastructure of or in the US if the committee determines that the transaction could impair national security and the risk has not been mitigated. However, there is no mandatory investigation if the Treasury Department or the lead agency determines that the transaction will not impair national security.
Recent reports of CFIUS actions suggest that the proximity of the acquired assets to military or defense installations is relevant. The wind turbines in the Ralls case were located near a naval facility where drones are tested. Several Chinese companies have divested or abandoned acquisitions of mining assets near US military bases in Nevada and Arizona due to CFIUS concerns.
Questions also arise regarding when a transaction is a “covered transaction.” A covered transaction is a transaction where a foreign person will acquire control of a US trade or business. Control is broadly defined in the CFIUS regulations but, essentially, means the power to direct or decide important matters affecting the business. For example, the power to appoint and dismiss officers, select new lines of business or control the finance of the company are indicative of control. The control can be direct or indirect. Side agreements or disproportionate voting rights could cause a minority interest holder to control the business. However, the regulations specify certain minority shareholder protections that do not convey control, such as the power to prevent the sale of all or substantially all of the company’s assets.
At a more basic level, companies often wonder how long the process will take. Although there are statutory deadlines for certain phases of the process, the exact timing of the process is hard to predict.
The CFIUS process breaks down into four phases. First, there is a pre-filing stage during which the parties to a transaction prepare the notice and preliminary consultations with committee staff may occur. Such early engagement of CFIUS staff is advisable, including the submission of a draft filing. CFIUS does not issue advisory opinions. However, the pre-filing period gives CFIUS staff an opportunity to familiarize itself with the transaction and ask questions, which helps submitters prepare and file a complete notice.
The second phase — a 30-day review period — begins once parties submit the notice and CFIUS decides it is complete enough to disseminate to CFIUS members. If after the initial review period unresolved national security issues remain, then there is a 45-day investigation. An investigation is mandatory in certain circumstances.
If a company files a notice and CFIUS concludes that there are no unresolved national security considerations, then the transaction is cleared. If national security concerns remain, CFIUS may enter into mitigation agreements with the parties or impose conditions on the transaction to address the national security risks. Following an investigation, CFIUS may send a report to the President recommending that the President suspend or prohibit the transaction. Such a report may also be sent when the members of the committee are unable to reach a decision on whether to recommend blocking the transaction.
If CFIUS refers a transaction to the President, then the President has the authority to block the transaction if he has credible evidence that the foreign investment could impair national security. However, to invoke this authority, the President must determine that other US laws are inadequate or inappropriate to protect the national security. The President’s decision must be made within 15 days after CFIUS completes its investigation.
If the review process or investigation is not going well, then the parties will often voluntarily withdraw their notice rather than risk presidential suspension or prohibition. Thus, it is rare for CFIUS to complete its review with a recommendation that the President block a transaction. From 2009 through 2011, 269 transactions were reported to CFIUS. Of those, 12 were withdrawn during the initial review. There were investigations of 100 transactions with 13 notices withdrawn during the investigation.
All information submitted to CFIUS, including during the pre-filing stage, is confidential.
Although no assurances can be given when it comes to a CFIUS review, analyzing and weighing these issues and engaging CFIUS counsel early will help parties navigate the complicated process.