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What price national security?

Travers Smith LLP

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European Union, United Kingdom May 1 2019

A significant re-think is underway of UK scrutiny of mergers on grounds of national security in the context of heightened sensitivity around foreign involvement in key infrastructure and assets. This briefing summarises the current position, looks at what these changes are likely to mean and whether they represent a move towards a more protectionist approach.

Hasn't the UK government already widened its powers in this area?

Following a consultation in October 2017, the UK government implemented certain measures ("the short term reforms") designed to strengthen its powers to scrutinise mergers on grounds of national security. These changes took effect from 11 June 2018. They expand the government's existing powers to allow scrutiny, on national security grounds, of acquisitions of advanced technology and military/dual use technology businesses where the annual UK turnover of the target is over 1 million or it has a 25% share of supply.

However, these initial reforms were only intended to be a "stop gap" measure, pending implementation of more wide-ranging reforms. A White Paper outlining the government's proposals was issued in summer 2018, with the consultation closing later in the year. A decision is now awaited on how the government intends to proceed. If implemented, these reforms will give the government substantially broader powers to intervene in mergers on national security grounds, particularly in relation to businesses considered to be relevant to the UK's critical national

infrastructure. Indeed, the government's current estimate is that these proposed wider reforms will give rise to about 200 notifications per year.

The government considers that there will be a substantial number of notifications compared with the current regime potentially up to 200 a year

Whilst this number is in our view likely to be exaggerated, it nonetheless seems clear that under the new regime there will be a significantly greater number of reviews on national security grounds than is the case under the current regime.

What is the current position?

The government is currently able to scrutinise mergers on national security grounds in the following circumstances:

as with any merger, where the target business has annual UK turnover of over 70 million or the merger would result in the creation (or the increase) of a share of supply of 25% in the UK; or

www.traverssmith.com

the merger does not meet the thresholds in the first bullet but involves a current or former defence contractor who has (or had) access to confidential defence-related information and at least one of the merging parties carries on business in the UK.

In both these cases, the Secretary of State for Business, Energy and Industrial Strategy can "call in" the merger, enabling him or her to take the final decision on whether it should be allowed to proceed. The short term reforms have expanded this call-in power so that mergers involving certain military/dual use and advanced technology businesses (see further below) can be scrutinised where the target business has:

turnover of over 1 million (as opposed to the normal 70 million threshold); or

a share of supply of 25% or more (as opposed to the normal test where a 25% share of supply must be created or increased by the merger, i.e. there must be some overlap with the acquiring party).

The definition of "advanced technology" businesses covered by the short term reforms is complex and highly technical, but is primarily focussed on computer-related technology, notably quantum computing, intellectual property in computer processing units (CPUs) and "roots of trust" in CPUs. However, the government does not believe that these changes go far enough and is therefore proposing more sweeping reforms.

What is now being proposed?

During 2017, the government floated the idea of a mandatory notification regime for certain businesses, but this has now been abandoned in favour of a significant expansion of its existing "call-in" power. This will cover situations that do not necessarily amount to a relevant merger (as currently defined in the UK's merger control regime). It will also apply to a much wider range of businesses. These reforms will repeal and replace the existing call-in regime (including the short term reforms described above).

We note that the government's push to amend the law in this area does not appear to be connected with (or dependent on) the UK leaving the EU. EU member states already have the ability under the EU Merger Regulation to apply national rules to

mergers based on "public security" grounds (among others), even where the European Commission has sole jurisdiction to review the transaction on competition grounds.

How the proposed new system will work

The relevant Minister will be able to "call in" a merger for scrutiny under the new national security regime if he/she has:

reasonable grounds for suspecting that a "trigger event" has occurred, is in progress or is in contemplation; and

a reasonable suspicion that the trigger event may give rise to a risk to national security (see below).

The concept of a trigger event and the proposed approach to assessment of risk are discussed in more detail below.

In a worst case scenario, obtaining clearance could take over 5 months.

Notification and timing

Merging parties will be encouraged but not compelled to notify the government of transactions which might raise national security concerns (see below for details of potential concerns). The government envisages being able to respond to most notifications within 15 working days, but with the ability to extend to 30 working days. In practice, we expect that parties will also need to allow time for informal pre-notification discussions with the government to confirm if a notification is advisable and what information is required.

The government's current estimate is that about half of the transactions notified would then need to be "called in". If a transaction is called in, the government envisages dealing with most cases within a further 30 working days, but would be able to take as long as 75 working days for more complex cases. Based on these estimates, the best case scenario for a transaction which has been called in is likely to be around 2 months (including the time taken for the initial notification and screening process, as well as the subsequent

2

call-in); in a worst case scenario, this process could potentially take over 5 months.

Remedies

The government also currently estimates that around a quarter of cases notified will be found to give rise to national security concerns and will therefore require remedial action. At the extreme end of the scale, the government will have power to block the transaction altogether. However, we expect such instances to be relatively rare. In practice, the government will be more likely to impose conditions which must be agreed to before the transaction can proceed. Examples of possible conditions are summarised below.

Possible conditions

limiting access to sensitive information or sites or to certain staff (e.g. personnel with security clearances)

restricting the sale or transfer of IP rights (e.g. by requiring the government's prior consent)

requiring government approval of key personnel

Potential national security concerns

The government is not proposing to set out an exhaustive list of activities which may give rise to national security concerns but there will be an indicative list identifying "core areas" which may be of concern. Unsurprisingly, this is likely to include defence-related and dual use technology businesses, together with suppliers to the police, security and emergency services. However, it will also allow the government to scrutinise transactions involving a much wider range of businesses/assets than has been scrutinised in the past, including:

energy, transport and communications infrastructure and potentially also infrastructure relating to chemicals, finance, food, health, space and water (although these appear to be considered less of a concern);

advanced technology businesses, including a broader range of computer technology than at present, together with other areas which are

currently out of scope, such as nanotechnology and discovery and development of new materials;

critical suppliers (such as key IT suppliers) to businesses which are engaged in national security-sensitive activity; and

land adjacent to national security-sensitive sites.

What is a trigger event?

Trigger events under the proposed new regime would include:

Acquisition of (i) an interest of over 25% in a business; or (ii) "significant influence or control" over a business.

Acquisition of over 50% of an asset or "significant influence or control" over it.

Even if a 25% or 50% interest is not ultimately considered to pose a national security risk, the acquisition of further interests above that level would still constitute a trigger event, enabling the government to review the position afresh.

In relation to a business, "significant influence or control" is likely to be defined as the ability to direct its activities or ensure that it generally acts in accordance with the acquirer's wishes. In relation to an asset, the test is likely to be met where the acquirer has absolute decision rights over the operation of the asset or can ensure that it is operated in accordance with his/her wishes. This represents a significant change compared with the current regime, where the acquisition of bare assets is unlikely to be caught.

However, save for this extension to bare assets, we think that the influence/control concept proposed is likely to be interpreted similarly to the "material influence" standard under current UK merger control. It is also worth noting that the current material influence standard can apply to relatively low levels of shareholding e.g. 15% plus.

How will national security risk be assessed?

In order to call in a transaction, a Minister must have a reasonable suspicion that the relevant trigger event may give rise to a risk to national

3

security. The government's draft statutory guidance on this issue indicates that this will be approached by considering the target risk, the trigger risk and the acquirer risk in combination. However, it is not necessary for a Minister to conclude that each of those risks is high in order to exercise the call in power. For example, high acquirer risks are likely to be attributed to potential owners which have connections with states considered to be hostile to the UK's national security interests, such as (potentially) Russia or China. Where such a risk is considered to exist, a Minister could potentially still call in a transaction even where the trigger risk provided only limited scope for interference with the target business or asset.

Prudence or protectionism?

There is certainly potential for these proposals to be perceived as a sign of the UK adopting a more protectionist approach. However, these proposals are probably better viewed in the context of a wider trend to broaden the scope of national security scrutiny powers internationally. For example, as the government points out, authorities in many other developed Western economies (including the US, Australia, France, Germany and Canada) are already able to scrutinise mergers on grounds of national security with a broader scope to do so than the UK. In response to pressure from some Member States, the European Commission has also tabled proposals for an EU-wide framework for screening of foreign direct investment. This involves a certain level of harmonisation and coordination of EU Member State regimes, as well as provision for screening by the European Commission on the grounds of security or public order in certain cases.

Beware the US experience

This is not to say that businesses/investors can afford to be entirely relaxed about the UK proposals, as demonstrated by experience of the

CFIUS regime in the US. CFIUS allows certain acquisitions by "foreign persons" to be scrutinised on national security grounds. In one recent case, Chinese investors were forced to divest their interest in a wind farm close to a naval weapons training facility in Oregon. CFIUS has also been used to block a Chinese-owned firm taking over an equipment supplier to the semi-conductor industry. Whilst such cases are still limited, there is some evidence that an increasing number of transactions relating to the US are being abandoned in the face of security concerns.

What does the Huawei affair tell us?

Concerns have recently been expressed over the future involvement of Chinese firm Huawei in the roll-out of 5G telecoms infrastructure in the UK. However, no merger is involved and any action taken to block Huawei's role would be based on powers that the government already has under UK telecoms legislation (rather than the merger regime). Nevertheless, the controversy highlights the potential for national security concerns to be raised in the context of acquisitions of businesses involved with key UK infrastructure and in certain cases, the conditions already imposed on Huawei in relation to its existing involvement in non-5G UK telecoms infrastructure could provide a model for remedies imposed under the proposed reforms.

What happens next

Once the government has considered responses to its consultation, it will then likely move to table draft legislation. However, with Brexit consuming most of the government's attention and a considerable amount of Parliamentary time, we would not expect draft legislation to be put before Parliament until later this year. The new regime is therefore unlikely to be brought into effect until 2020 at the earliest.

FOR FURTHER INFORMATION, PLEASE CONTACT

10 Snow Hill London EC1A 2AL T: +44 (0)20 7295 3000 F: +44 (0)20 7295 3500 www.traverssmith.com

Nigel Seay

Head of Competition

E: [email protected] T: +44 (0)20 7295 3416

Stephen Whitfield

Partner

E: [email protected] T: +44 (0)20 7295 3261

The information in this document is intended to be of a general nature and is not a substitute for detailed legal advice. Travers Smith LLP is a limited liability partnership registered in England and Wales under number OC 336962 and is authorised and regulated by the Solicitors Regulation Authority. The word "partner" is used to refer to a member of Travers Smith LLP. A list of the members of Travers Smith LLP is open to inspection at our registered office and principal place of business: 10 Snow Hill London EC1A 2AL. Travers Smith LLP also operates a branch in Paris.

4

May 2019

What price national security?

A significant re-think is underway of UK scrutiny of mergers on grounds of national security in the context of heightened sensitivity around foreign involvement in key infrastructure and assets. This briefing summarises the current position, looks at what these changes are likely to mean and whether they represent a move towards a more protectionist approach.

Hasn't the UK government already widened its powers in this area?

Following a consultation in October 2017, the UK government implemented certain measures ("the short term reforms") designed to strengthen its powers to scrutinise mergers on grounds of national security. These changes took effect from 11 June 2018. They expand the government's existing powers to allow scrutiny, on national security grounds, of acquisitions of advanced technology and military/dual use technology businesses where the annual UK turnover of the target is over 1 million or it has a 25% share of supply.

However, these initial reforms were only intended to be a "stop gap" measure, pending implementation of more wide-ranging reforms. A White Paper outlining the government's proposals was issued in summer 2018, with the consultation closing later in the year. A decision is now awaited on how the government intends to proceed. If implemented, these reforms will give the government substantially broader powers to intervene in mergers on national security grounds, particularly in relation to businesses considered to be relevant to the UK's critical national

infrastructure. Indeed, the government's current estimate is that these proposed wider reforms will give rise to about 200 notifications per year.

The government considers that there will be a substantial number of notifications compared with the current regime potentially up to 200 a year

Whilst this number is in our view likely to be exaggerated, it nonetheless seems clear that under the new regime there will be a significantly greater number of reviews on national security grounds than is the case under the current regime.

What is the current position?

The government is currently able to scrutinise mergers on national security grounds in the following circumstances:

as with any merger, where the target business has annual UK turnover of over 70 million or the merger would result in the creation (or the increase) of a share of supply of 25% in the UK; or

www.traverssmith.com

the merger does not meet the thresholds in the first bullet but involves a current or former defence contractor who has (or had) access to confidential defence-related information and at least one of the merging parties carries on business in the UK.

In both these cases, the Secretary of State for Business, Energy and Industrial Strategy can "call in" the merger, enabling him or her to take the final decision on whether it should be allowed to proceed. The short term reforms have expanded this call-in power so that mergers involving certain military/dual use and advanced technology businesses (see further below) can be scrutinised where the target business has:

turnover of over 1 million (as opposed to the normal 70 million threshold); or

a share of supply of 25% or more (as opposed to the normal test where a 25% share of supply must be created or increased by the merger, i.e. there must be some overlap with the acquiring party).

The definition of "advanced technology" businesses covered by the short term reforms is complex and highly technical, but is primarily focussed on computer-related technology, notably quantum computing, intellectual property in computer processing units (CPUs) and "roots of trust" in CPUs. However, the government does not believe that these changes go far enough and is therefore proposing more sweeping reforms.

What is now being proposed?

During 2017, the government floated the idea of a mandatory notification regime for certain businesses, but this has now been abandoned in favour of a significant expansion of its existing "call-in" power. This will cover situations that do not necessarily amount to a relevant merger (as currently defined in the UK's merger control regime). It will also apply to a much wider range of businesses. These reforms will repeal and replace the existing call-in regime (including the short term reforms described above).

We note that the government's push to amend the law in this area does not appear to be connected with (or dependent on) the UK leaving the EU. EU member states already have the ability under the EU Merger Regulation to apply national rules to

mergers based on "public security" grounds (among others), even where the European Commission has sole jurisdiction to review the transaction on competition grounds.

How the proposed new system will work

The relevant Minister will be able to "call in" a merger for scrutiny under the new national security regime if he/she has:

reasonable grounds for suspecting that a "trigger event" has occurred, is in progress or is in contemplation; and

a reasonable suspicion that the trigger event may give rise to a risk to national security (see below).

The concept of a trigger event and the proposed approach to assessment of risk are discussed in more detail below.

In a worst case scenario, obtaining clearance could take over 5 months.

Notification and timing

Merging parties will be encouraged but not compelled to notify the government of transactions which might raise national security concerns (see below for details of potential concerns). The government envisages being able to respond to most notifications within 15 working days, but with the ability to extend to 30 working days. In practice, we expect that parties will also need to allow time for informal pre-notification discussions with the government to confirm if a notification is advisable and what information is required.

The government's current estimate is that about half of the transactions notified would then need to be "called in". If a transaction is called in, the government envisages dealing with most cases within a further 30 working days, but would be able to take as long as 75 working days for more complex cases. Based on these estimates, the best case scenario for a transaction which has been called in is likely to be around 2 months (including the time taken for the initial notification and screening process, as well as the subsequent

2

call-in); in a worst case scenario, this process could potentially take over 5 months.

Remedies

The government also currently estimates that around a quarter of cases notified will be found to give rise to national security concerns and will therefore require remedial action. At the extreme end of the scale, the government will have power to block the transaction altogether. However, we expect such instances to be relatively rare. In practice, the government will be more likely to impose conditions which must be agreed to before the transaction can proceed. Examples of possible conditions are summarised below.

Possible conditions

limiting access to sensitive information or sites or to certain staff (e.g. personnel with security clearances)

restricting the sale or transfer of IP rights (e.g. by requiring the government's prior consent)

requiring government approval of key personnel

Potential national security concerns

The government is not proposing to set out an exhaustive list of activities which may give rise to national security concerns but there will be an indicative list identifying "core areas" which may be of concern. Unsurprisingly, this is likely to include defence-related and dual use technology businesses, together with suppliers to the police, security and emergency services. However, it will also allow the government to scrutinise transactions involving a much wider range of businesses/assets than has been scrutinised in the past, including:

energy, transport and communications infrastructure and potentially also infrastructure relating to chemicals, finance, food, health, space and water (although these appear to be considered less of a concern);

advanced technology businesses, including a broader range of computer technology than at present, together with other areas which are

currently out of scope, such as nanotechnology and discovery and development of new materials;

critical suppliers (such as key IT suppliers) to businesses which are engaged in national security-sensitive activity; and

land adjacent to national security-sensitive sites.

What is a trigger event?

Trigger events under the proposed new regime would include:

Acquisition of (i) an interest of over 25% in a business; or (ii) "significant influence or control" over a business.

Acquisition of over 50% of an asset or "significant influence or control" over it.

Even if a 25% or 50% interest is not ultimately considered to pose a national security risk, the acquisition of further interests above that level would still constitute a trigger event, enabling the government to review the position afresh.

In relation to a business, "significant influence or control" is likely to be defined as the ability to direct its activities or ensure that it generally acts in accordance with the acquirer's wishes. In relation to an asset, the test is likely to be met where the acquirer has absolute decision rights over the operation of the asset or can ensure that it is operated in accordance with his/her wishes. This represents a significant change compared with the current regime, where the acquisition of bare assets is unlikely to be caught.

However, save for this extension to bare assets, we think that the influence/control concept proposed is likely to be interpreted similarly to the "material influence" standard under current UK merger control. It is also worth noting that the current material influence standard can apply to relatively low levels of shareholding e.g. 15% plus.

How will national security risk be assessed?

In order to call in a transaction, a Minister must have a reasonable suspicion that the relevant trigger event may give rise to a risk to national

3

security. The government's draft statutory guidance on this issue indicates that this will be approached by considering the target risk, the trigger risk and the acquirer risk in combination. However, it is not necessary for a Minister to conclude that each of those risks is high in order to exercise the call in power. For example, high acquirer risks are likely to be attributed to potential owners which have connections with states considered to be hostile to the UK's national security interests, such as (potentially) Russia or China. Where such a risk is considered to exist, a Minister could potentially still call in a transaction even where the trigger risk provided only limited scope for interference with the target business or asset.

Prudence or protectionism?

There is certainly potential for these proposals to be perceived as a sign of the UK adopting a more protectionist approach. However, these proposals are probably better viewed in the context of a wider trend to broaden the scope of national security scrutiny powers internationally. For example, as the government points out, authorities in many other developed Western economies (including the US, Australia, France, Germany and Canada) are already able to scrutinise mergers on grounds of national security with a broader scope to do so than the UK. In response to pressure from some Member States, the European Commission has also tabled proposals for an EU-wide framework for screening of foreign direct investment. This involves a certain level of harmonisation and coordination of EU Member State regimes, as well as provision for screening by the European Commission on the grounds of security or public order in certain cases.

Beware the US experience

This is not to say that businesses/investors can afford to be entirely relaxed about the UK proposals, as demonstrated by experience of the

CFIUS regime in the US. CFIUS allows certain acquisitions by "foreign persons" to be scrutinised on national security grounds. In one recent case, Chinese investors were forced to divest their interest in a wind farm close to a naval weapons training facility in Oregon. CFIUS has also been used to block a Chinese-owned firm taking over an equipment supplier to the semi-conductor industry. Whilst such cases are still limited, there is some evidence that an increasing number of transactions relating to the US are being abandoned in the face of security concerns.

What does the Huawei affair tell us?

Concerns have recently been expressed over the future involvement of Chinese firm Huawei in the roll-out of 5G telecoms infrastructure in the UK. However, no merger is involved and any action taken to block Huawei's role would be based on powers that the government already has under UK telecoms legislation (rather than the merger regime). Nevertheless, the controversy highlights the potential for national security concerns to be raised in the context of acquisitions of businesses involved with key UK infrastructure and in certain cases, the conditions already imposed on Huawei in relation to its existing involvement in non-5G UK telecoms infrastructure could provide a model for remedies imposed under the proposed reforms.

What happens next

Once the government has considered responses to its consultation, it will then likely move to table draft legislation. However, with Brexit consuming most of the government's attention and a considerable amount of Parliamentary time, we would not expect draft legislation to be put before Parliament until later this year. The new regime is therefore unlikely to be brought into effect until 2020 at the earliest.

FOR FURTHER INFORMATION, PLEASE CONTACT

10 Snow Hill London EC1A 2AL T: +44 (0)20 7295 3000 F: +44 (0)20 7295 3500 www.traverssmith.com

Nigel Seay

Head of Competition

E: [email protected] T: +44 (0)20 7295 3416

Stephen Whitfield

Partner

E: [email protected] T: +44 (0)20 7295 3261

The information in this document is intended to be of a general nature and is not a substitute for detailed legal advice. Travers Smith LLP is a limited liability partnership registered in England and Wales under number OC 336962 and is authorised and regulated by the Solicitors Regulation Authority. The word "partner" is used to refer to a member of Travers Smith LLP. A list of the members of Travers Smith LLP is open to inspection at our registered office and principal place of business: 10 Snow Hill London EC1A 2AL. Travers Smith LLP also operates a branch in Paris.

4

May 2019

What price national security?

A significant re-think is underway of UK scrutiny of mergers on grounds of national security in the context of heightened sensitivity around foreign involvement in key infrastructure and assets. This briefing summarises the current position, looks at what these changes are likely to mean and whether they represent a move towards a more protectionist approach.

Hasn't the UK government already widened its powers in this area?

Following a consultation in October 2017, the UK government implemented certain measures ("the short term reforms") designed to strengthen its powers to scrutinise mergers on grounds of national security. These changes took effect from 11 June 2018. They expand the government's existing powers to allow scrutiny, on national security grounds, of acquisitions of advanced technology and military/dual use technology businesses where the annual UK turnover of the target is over 1 million or it has a 25% share of supply.

However, these initial reforms were only intended to be a "stop gap" measure, pending implementation of more wide-ranging reforms. A White Paper outlining the government's proposals was issued in summer 2018, with the consultation closing later in the year. A decision is now awaited on how the government intends to proceed. If implemented, these reforms will give the government substantially broader powers to intervene in mergers on national security grounds, particularly in relation to businesses considered to be relevant to the UK's critical national

infrastructure. Indeed, the government's current estimate is that these proposed wider reforms will give rise to about 200 notifications per year.

The government considers that there will be a substantial number of notifications compared with the current regime potentially up to 200 a year

Whilst this number is in our view likely to be exaggerated, it nonetheless seems clear that under the new regime there will be a significantly greater number of reviews on national security grounds than is the case under the current regime.

What is the current position?

The government is currently able to scrutinise mergers on national security grounds in the following circumstances:

as with any merger, where the target business has annual UK turnover of over 70 million or the merger would result in the creation (or the increase) of a share of supply of 25% in the UK; or

www.traverssmith.com

the merger does not meet the thresholds in the first bullet but involves a current or former defence contractor who has (or had) access to confidential defence-related information and at least one of the merging parties carries on business in the UK.

In both these cases, the Secretary of State for Business, Energy and Industrial Strategy can "call in" the merger, enabling him or her to take the final decision on whether it should be allowed to proceed. The short term reforms have expanded this call-in power so that mergers involving certain military/dual use and advanced technology businesses (see further below) can be scrutinised where the target business has:

turnover of over 1 million (as opposed to the normal 70 million threshold); or

a share of supply of 25% or more (as opposed to the normal test where a 25% share of supply must be created or increased by the merger, i.e. there must be some overlap with the acquiring party).

The definition of "advanced technology" businesses covered by the short term reforms is complex and highly technical, but is primarily focussed on computer-related technology, notably quantum computing, intellectual property in computer processing units (CPUs) and "roots of trust" in CPUs. However, the government does not believe that these changes go far enough and is therefore proposing more sweeping reforms.

What is now being proposed?

During 2017, the government floated the idea of a mandatory notification regime for certain businesses, but this has now been abandoned in favour of a significant expansion of its existing "call-in" power. This will cover situations that do not necessarily amount to a relevant merger (as currently defined in the UK's merger control regime). It will also apply to a much wider range of businesses. These reforms will repeal and replace the existing call-in regime (including the short term reforms described above).

We note that the government's push to amend the law in this area does not appear to be connected with (or dependent on) the UK leaving the EU. EU member states already have the ability under the EU Merger Regulation to apply national rules to

mergers based on "public security" grounds (among others), even where the European Commission has sole jurisdiction to review the transaction on competition grounds.

How the proposed new system will work

The relevant Minister will be able to "call in" a merger for scrutiny under the new national security regime if he/she has:

reasonable grounds for suspecting that a "trigger event" has occurred, is in progress or is in contemplation; and

a reasonable suspicion that the trigger event may give rise to a risk to national security (see below).

The concept of a trigger event and the proposed approach to assessment of risk are discussed in more detail below.

In a worst case scenario, obtaining clearance could take over 5 months.

Notification and timing

Merging parties will be encouraged but not compelled to notify the government of transactions which might raise national security concerns (see below for details of potential concerns). The government envisages being able to respond to most notifications within 15 working days, but with the ability to extend to 30 working days. In practice, we expect that parties will also need to allow time for informal pre-notification discussions with the government to confirm if a notification is advisable and what information is required.

The government's current estimate is that about half of the transactions notified would then need to be "called in". If a transaction is called in, the government envisages dealing with most cases within a further 30 working days, but would be able to take as long as 75 working days for more complex cases. Based on these estimates, the best case scenario for a transaction which has been called in is likely to be around 2 months (including the time taken for the initial notification and screening process, as well as the subsequent

2

call-in); in a worst case scenario, this process could potentially take over 5 months.

Remedies

The government also currently estimates that around a quarter of cases notified will be found to give rise to national security concerns and will therefore require remedial action. At the extreme end of the scale, the government will have power to block the transaction altogether. However, we expect such instances to be relatively rare. In practice, the government will be more likely to impose conditions which must be agreed to before the transaction can proceed. Examples of possible conditions are summarised below.

Possible conditions

limiting access to sensitive information or sites or to certain staff (e.g. personnel with security clearances)

restricting the sale or transfer of IP rights (e.g. by requiring the government's prior consent)

requiring government approval of key personnel

Potential national security concerns

The government is not proposing to set out an exhaustive list of activities which may give rise to national security concerns but there will be an indicative list identifying "core areas" which may be of concern. Unsurprisingly, this is likely to include defence-related and dual use technology businesses, together with suppliers to the police, security and emergency services. However, it will also allow the government to scrutinise transactions involving a much wider range of businesses/assets than has been scrutinised in the past, including:

energy, transport and communications infrastructure and potentially also infrastructure relating to chemicals, finance, food, health, space and water (although these appear to be considered less of a concern);

advanced technology businesses, including a broader range of computer technology than at present, together with other areas which are

currently out of scope, such as nanotechnology and discovery and development of new materials;

critical suppliers (such as key IT suppliers) to businesses which are engaged in national security-sensitive activity; and

land adjacent to national security-sensitive sites.

What is a trigger event?

Trigger events under the proposed new regime would include:

Acquisition of (i) an interest of over 25% in a business; or (ii) "significant influence or control" over a business.

Acquisition of over 50% of an asset or "significant influence or control" over it.

Even if a 25% or 50% interest is not ultimately considered to pose a national security risk, the acquisition of further interests above that level would still constitute a trigger event, enabling the government to review the position afresh.

In relation to a business, "significant influence or control" is likely to be defined as the ability to direct its activities or ensure that it generally acts in accordance with the acquirer's wishes. In relation to an asset, the test is likely to be met where the acquirer has absolute decision rights over the operation of the asset or can ensure that it is operated in accordance with his/her wishes. This represents a significant change compared with the current regime, where the acquisition of bare assets is unlikely to be caught.

However, save for this extension to bare assets, we think that the influence/control concept proposed is likely to be interpreted similarly to the "material influence" standard under current UK merger control. It is also worth noting that the current material influence standard can apply to relatively low levels of shareholding e.g. 15% plus.

How will national security risk be assessed?

In order to call in a transaction, a Minister must have a reasonable suspicion that the relevant trigger event may give rise to a risk to national

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security. The government's draft statutory guidance on this issue indicates that this will be approached by considering the target risk, the trigger risk and the acquirer risk in combination. However, it is not necessary for a Minister to conclude that each of those risks is high in order to exercise the call in power. For example, high acquirer risks are likely to be attributed to potential owners which have connections with states considered to be hostile to the UK's national security interests, such as (potentially) Russia or China. Where such a risk is considered to exist, a Minister could potentially still call in a transaction even where the trigger risk provided only limited scope for interference with the target business or asset.

Prudence or protectionism?

There is certainly potential for these proposals to be perceived as a sign of the UK adopting a more protectionist approach. However, these proposals are probably better viewed in the context of a wider trend to broaden the scope of national security scrutiny powers internationally. For example, as the government points out, authorities in many other developed Western economies (including the US, Australia, France, Germany and Canada) are already able to scrutinise mergers on grounds of national security with a broader scope to do so than the UK. In response to pressure from some Member States, the European Commission has also tabled proposals for an EU-wide framework for screening of foreign direct investment. This involves a certain level of harmonisation and coordination of EU Member State regimes, as well as provision for screening by the European Commission on the grounds of security or public order in certain cases.

Beware the US experience

This is not to say that businesses/investors can afford to be entirely relaxed about the UK proposals, as demonstrated by experience of the

CFIUS regime in the US. CFIUS allows certain acquisitions by "foreign persons" to be scrutinised on national security grounds. In one recent case, Chinese investors were forced to divest their interest in a wind farm close to a naval weapons training facility in Oregon. CFIUS has also been used to block a Chinese-owned firm taking over an equipment supplier to the semi-conductor industry. Whilst such cases are still limited, there is some evidence that an increasing number of transactions relating to the US are being abandoned in the face of security concerns.

What does the Huawei affair tell us?

Concerns have recently been expressed over the future involvement of Chinese firm Huawei in the roll-out of 5G telecoms infrastructure in the UK. However, no merger is involved and any action taken to block Huawei's role would be based on powers that the government already has under UK telecoms legislation (rather than the merger regime). Nevertheless, the controversy highlights the potential for national security concerns to be raised in the context of acquisitions of businesses involved with key UK infrastructure and in certain cases, the conditions already imposed on Huawei in relation to its existing involvement in non-5G UK telecoms infrastructure could provide a model for remedies imposed under the proposed reforms.

What happens next

Once the government has considered responses to its consultation, it will then likely move to table draft legislation. However, with Brexit consuming most of the government's attention and a considerable amount of Parliamentary time, we would not expect draft legislation to be put before Parliament until later this year. The new regime is therefore unlikely to be brought into effect until 2020 at the earliest.

FOR FURTHER INFORMATION, PLEASE CONTACT

10 Snow Hill London EC1A 2AL T: +44 (0)20 7295 3000 F: +44 (0)20 7295 3500 www.traverssmith.com

Nigel Seay

Head of Competition

E: [email protected] T: +44 (0)20 7295 3416

Stephen Whitfield

Partner

E: [email protected] T: +44 (0)20 7295 3261

The information in this document is intended to be of a general nature and is not a substitute for detailed legal advice. Travers Smith LLP is a limited liability partnership registered in England and Wales under number OC 336962 and is authorised and regulated by the Solicitors Regulation Authority. The word "partner" is used to refer to a member of Travers Smith LLP. A list of the members of Travers Smith LLP is open to inspection at our registered office and principal place of business: 10 Snow Hill London EC1A 2AL. Travers Smith LLP also operates a branch in Paris.

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Travers Smith LLP - Nigel Seay and Stephen Whitfield

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