Media reports, which have not been confirmed by Canada’s federal government, indicate that it recently used the Investment Canada Act’s national security review powers to prohibit a Chinese state-owned enterprise from building a $30-million fire alarm manufacturing factory in Saint-Bruno de Montarville, Québec, on the basis that the proposed site is approximately 1.7 kilometers away from the Canadian Space Agency headquarters. The proposed investment, which was announced in late August 2014, was reportedly supported by the municipal and provincial governments through a land grant and $4 million in subsidies and interest-free loans. The Chinese SOE, Beida Jade Bird, had reportedly begun the process of hiring employees and there are reports that it plans to proceed with the investment at another location.

The federal government’s decision is both the first reported instance of the national security review powers being used to: (i) prohibit the establishment of a new Canadian business, as opposed to the acquisition of an existing business; and (ii) prohibit a foreign investment on the basis of its proposed proximity to a sensitive government facility. It is also noteworthy that the federal government ultimately decided to block an investment that the relevant municipal and provincial governments supported.

Background and Implications

Foreign investment in Canada is regulated by the Investment Canada Act, a federal statute of general application. In early 2009, the ICA was amended to give the federal government broad discretionary powers to review and approve, prohibit, condition or require the unwinding of, any foreign investment that could be injurious to Canada’s national security. The government has provided no guidance as to what may constitute a threat to national security, opting instead for what is effectively a “we’ll know it when we see it” approach. In addition, national security reviews are conducted under a high degree of confidentiality, or even secrecy, where even the fact that a review has been conducted may not be publicly disclosed (for information about one high profile transaction which the government confirmed that it blocked on the basis of national security concerns, please click here).

While the government’s approach to the national security review powers provides it with maximum flexibility, it also makes it difficult for potential foreign investors to accurately assess the risk that a proposed investment in Canada may be blocked, an important early-stage consideration particularly in transactions that may involve substantial pursuit costs. Many stakeholders have requested that the government disclose even basic information, such as the number of national security reviews conducted, the outcomes of those reviews, the industries involved, and the country of origin and SOE status of the investors involved, as a way of providing potential foreign investors with some degree of guidance as to what combination of target and investor characteristics might give rise to a concern. The government has not provided this kind of, or similar information, to date, and we have no reason to believe that they have any near-term plans to do so.

Based on our experience with national security reviews and the limited amount of public information that is available, national security reviews are quite rare. However, when they do occur, they are extremely frustrating to the transacting parties. They tend to take a long time and, the process is highly opaque, to the point of effectively being a black box — the parties provide information and respond to questions, and the government subsequently advises them of its decision with little to no explanation of the specific basis for the decision.

For the small percentage of transactions where these issues may arise, which based on recent precedents appear to include target Canadian companies that operate in the defence or communications-related sectors and have government contracts or historical links to government, or close proximity to a sensitive government facility, we recommend that the parties give serious consideration to approaching the government early in the process, before they have signed and announced a definitive transaction agreement, and possibly also engaging government relations professionals.  While this will not necessarily convert a transaction that would otherwise have been blocked into one that is approved, or not reviewed at all, it may give the parties an early read on how they may wish to address potential concerns — or whether they even wish to proceed with a transaction at all, before committing a lot of time and money to it.