At present, the Government’s key powers to intervene in investment activity on national security grounds come from the UK and EU merger regimes. The proposals, set out in the National Security and Infrastructure Investment Review, will significantly widen the Government’s ability to intervene in deals on national security grounds, including the prospect of mandatory notification of deals across a wide range of sectors.
What are the proposed changes?
The Government is proposing two major changes to the way in which deals that may raise national security concerns are scrutinised.
In the short term…lowering the merger threshold for two sectors.
Currently, under the Enterprise Act 2002 (the “EA02”), the Government can only review deals which raise public interest issues and where either:
- the turnover in the UK of the entity being acquired is £70 million or more; or
- the transaction will result in the creation of, or increase in, a 25% or more share of supply in the UK or a substantial part of the UK of relevant goods and services.
The Secretary of State can review deals that do not meet these thresholds (the special public interest regime), but these powers are very limited. The Government also has the ability to review deals, on national security grounds, that are notified to the European Commission.
As an immediate step, the Government proposes to amend the EA02 to lower the turnover threshold to £1 million and to remove the requirement for any competitive overlap between the merging firms in respect of deals in the military and dual use sector (businesses who manufacture or design items that are on the Strategic Export Control List), and deals relating to multi-purpose computing hardware and quantum technology. In these latter hi-tech categories, there would appear to be a significant risk that deals raising no or little national security aspects, nor material competition concerns, may nevertheless fall for review (and the costs and potential delay/chilling effect upon transactions that may entail).
These changes will apply to both domestic and foreign investment.
In the long term…enabling greater scrutiny of transactions that may raise national security concerns across a wider range of sectors
The proposals include:
1. Introducing a three month “call-in” power to allow Government to scrutinise a broader range of transactions for national security concerns arising out of domestic or foreign investment.
Similar to the power enjoyed by the Competition and Markets Authority under EA02 for deals that may give rise to competition issues, the Secretary of State would be able to make a special “national security intervention” where national security risks are raised by the following types of transaction:
- the acquisition of more than 25% of shares or votes in a business; and/or
- any transaction that gives (directly or indirectly) significant influence or control over a company or its assets or business in the UK. “Significant influence or control” is yet to be defined.
Additionally, in the future, the “call in” power could be extended to include sales of bare assets (such as machinery and IP) without the other elements of a stand-alone business.
This will allow the Government to review deals that do not meet the EA02 merger control thresholds and also potentially to review deals that would not qualify as a “relevant merger situation” for the purposes of the EA02.
2. Introducing a mandatory notification regime for foreign direct investment in certain parts of the economy which are deemed critical for national security
The Government proposes that these sectors include civil nuclear, defence, energy, telecoms, transport, the manufacture of military and dual-use items and advanced technology, insofar as the transaction impacts specified “essential functions” in these sectors. A draft set of definitions for these “essential functions” is included in the annexes to the consultation, although the Government proposes that it be able to amend these definitions in the future via secondary legislation. Additionally, there may also be a case to extend to the Government and emergency services sectors and even to the acquisition of plots of land that are near to a national security sensitive site. These changes represent a significant departure from the UK’s existing “voluntary” merger control regime.
What is the rationale for the long term changes?
The Government is concerned that over-reliance on voluntary notification will result in deals slipping through the net and is looking to “close loopholes” in the merger regime “to enable greater scrutiny of foreign investment in a changing market”. For example, the current EA02 regime does not catch the transfer of bare assets, or investment in new projects such as investment in power stations (until they begin operation).
How will these changes affect businesses looking to invest in the UK?
- If these changes are implemented, the most significant impact will be the erosion of the voluntary notification regime, effectively taking the choice away from foreign investors as to whether or not they notify their deals, a choice which may not have to be made by domestic investors. The relative ease with which the Government could change the definition of “essential services” could lead to significant uncertainty, and appears to introduce effective political control over foreign direct investment.
- Although the Government envisages the new rules applying to a small minority of transactions, we envisage that the proposals would result in an increased burden on businesses which will effectively have to conduct a competition, security and FDI analysis of their transactions irrespective of financial scale, and also face the greater risk of their deals being subject to more costly and lengthy review by multiple authorities (the increased burden on the CMA is not addressed in the report). It remains to be seen whether this would have a dampening effect on inbound investment.
- It is right that the Government should be able to adapt its approach to investment activity in light of changing technologies and shifting threats to national security – and in a number of regards, the proposed reforms simply bring the UK closer to the FDI regimes in place in other major economies. However, the Government must be careful not to send signals that the UK is closed to foreign investors. Nor must it be seen to be introducing protectionist measures by stealth.
- We expect the Government to face strong pushback during the consultation process. The consultation leaves many questions open as to how the regime would work in practice, including how it will interact with the competition regime and the EU free movement rules (insofar as they continue to apply in the Brexit context). The precise shape and scope of these reforms will be informed by this consultation and we strongly recommend that businesses take advantage of the opportunity to have their say (as BLP intends to do).
How can I respond to the consultation?
- You can respond online or contact BEIS directly. Contact details are provided on the consultation page.
- The consultation on amending the EA02 closes on 14 November 2017.
- The consultation on longer-term reforms including the expanded version of the “call in” power and mandatory notification regime closes on 9 January 2018.