China’s National Development and Reform Commission (“NDRC”) and Ministry of Commerce (“MOFCOM”) jointly promulgated the Measures for the Security Review of Foreign Investment (外商投资安全审查办法)1 (the “Measures”) on December 19, 2020 which will enter into effect on January 18, 2021. The Measures consists of 23 articles and are intended to provide a clearer legal foundation and procedure for the national security review of foreign investment into China in a manner which China contends is comparable to CFIUS review in the United States and other advanced industrial democracies.2 The Measures are intended to fill a gap in China’s foreign investment review system resulting from China’s implementation under pressure from its trading partners of a Negative List system with respect to foreign investment, which has reduced China’s discretion to reject foreign investments or subject them to onerous restrictions.3
The principal features of the Measures are summarized below:
Article 3 of the Measures provides that a working mechanism for the security review of foreign investment (“working mechanism”) shall be established to organize, coordinate and guide the security review. The working mechanism will be housed in NDRC and led by NDRC and MOFCOM. The working mechanism will be a multi-departmental body like CFIUS. Housing the working mechanism in NDRC rather than MOFCOM constitutes a change from a 2011 legislation4 based on the Anti-Monopoly Law pursuant to which the secretariat for the review of foreign investments with a national security dimension was housed in MOFCOM, and implies a more critical view of foreign investment.
The Measures are intended to implement provisions in the 2015 National Security Law (Article 59) and 2020 Foreign Investment Law (Article 35) by constituting the regulatory foundation for the national security review of foreign investment.
Scope of security review:
Foreign investment (including greenfield or de novo investments, joint ventures and M&A of Chinese equities or assets) within the following scope shall be subject to security review (Article 4 of the Measures):
- Foreign investment in military industry, military industrial support and other fields relating to the security of national defense, and investments in areas in the vicinity of military facilities and military industry facilities. There is no percentage or control threshold for foreign investment in such military and defense-related areas.
- Foreign investment with actual control in important agricultural products, important energy and resources, important equipment manufacturing, important infrastructure, important transport services, important cultural products and services, important information technology and Internet products and services, important financial services, key technologies and other important fields relating to national security.
Control is defined as (i) owning 50% or more of equity rights, (ii) having a significant impact on board or shareholder resolutions even without 50% equity rights, or (iii) other circumstances in which the foreign investor may have a significant impact on such matters as the enterprise’s business decision making, human resources, finance and technology.
The Measures go beyond the scope of CFIUS review by covering greenfield investments in addition to M&A transactions. The scope of national security is also defined very broadly in accordance with the broad reach of the National Security Law. The second category under Article 4 of the Measures is particularly vague. The criteria for determining whether the subject matter of the transaction is “important”, especially with respect to technology, are uncertain which will likely lead investors to file for review even if the transaction does not involve significant technological developments.
Filing for review:
The foreign investor or the relevant parties in China (the “parties concerned”) shall voluntarily apply to the working mechanism for security review if the transaction falls within the scope of review as indicated above, and prior to the implementation of the investment. The working mechanism may also sua sponte require the parties concerned to make such application if the transaction falls within the scope of review (Article 4). The parties concerned may consult with the working mechanism before submitting the application but the procedure for doing so are not specified (Article 5). For example, as national security is involved, will there be restrictions on participation by the parties or their counsel?
If the parties concerned have implemented an investment that falls within the scope of review without filing for review, the working mechanism may order them to make the filing within a specified time limit. If the parties concerned refuse to make the filing, the working mechanism may order that the transaction be unwound (Article 16).
Timeline and decision:
The national security review can last up to 105 business days from the filing date, or approximately five months. Based on Chinese practice in other matters, the clock may not start to run until the application is deemed acceptable. It is unclear whether the national security review will be conducted prior to or concurrent with the anti-monopoly review.
- Decision to review (15 business days): the working mechanism shall make the decision whether the transaction is subject to security review within 15 business days after receiving the filing. Transactions which are determined not to be subject to review may be implemented (Article 7).
- General review (30 business days): general review shall be completed within 30 business days. Those transactions that are deemed not to have an impact on national security will pass the review. Those that are deemed to have or may have an impact on national security will be subject to a special review (Article 8).
- Special review (60 business days): the special review shall be completed within 60 business days, subject to extension in special circumstances. If the transaction does not impact national security, the transaction will be cleared. If the transaction affects national security, a decision on prohibiting the investment shall be made. Where the national security concern can be eliminated through an agreement on conditions, the parties concerned shall make a written commitment with respect to such conditions (Article 9).
The time for the parties concerned to provide supplementary materials is not included within the review period (Article 10). Thus, the timeline can be extended indefinitely without a need for the working mechanism to issue a decision to reject the application. The review period will recommence if the parties concerned revise the investment plan and resubmit their materials (Article 11).
The United States ratcheted up its own CFIUS review regime through the Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA), with a clear intent to restrict Chinese companies’ access to critical technologies. Even though the working mechanism in its press conference has stated that the Measures are published to align China with major jurisdictions such as the United States, the European Union, Australia, Germany, Japan and the United Kingdom which already have or in the process of publishing national security regimes, and are not intended as an instrument of protectionism,5 the Measures can be seen as a response to the tightening of restrictions on Chinese investment in such jurisdictions.
However, the Measures also constitute a formalization and elaboration of existing screening procedures with respect to foreign investment across a broad range of sectors which fall within China’s expansive definition of national security. China’s foreign investment approval procedures, including anti-monopoly review and technology import and export review, already allowed substantial latitude for imposing conditions on or rejecting proposed foreign investments. There is little evidence of foreign investors acquiring or building de novo controlling positions in sectors critical to national security as defined in China, and many such sectors like culture are already largely off limits to foreign investment. The Measures will, however, continue to create an additional layer of uncertainty with respect to foreign investment at a time when China’s dual circulation strategy still relies upon foreign investment in critical technologies during at least a transition period before Chinese companies can build indigenous capabilities and reduce China’s reliance on foreign technology. The Measures thus risk adversely impacting China’s economic development.