The U.S. Department of the Treasury issued final regulations late yesterday that significantly expand the authorities of the Committee on Foreign Investment in the United States (CFIUS) to conduct national security reviews of foreign investments in U.S. businesses. Issuance of the final regulations culminates a multi-year legislative and regulatory process to modernize the CFIUS process. The final rules resolve a number of fundamental issues regarding the jurisdiction and scope of CFIUS, which should help to bring much-needed certainty to the CFIUS review process. Transaction parties and dealmakers should closely review the regulations as they will impact the terms and timing of many transactions and investments. The final regulations become effective on February 13, 2020.

The final regulations implement key provisions of the Foreign Investment Risk Review Modernization Act (FIRRMA) enacted by Congress in August 2018. First, the regulations expand the jurisdiction of CFIUS to review minority, non-controlling investments in U.S. businesses developing or producing critical technologies; owning or operating U.S. critical infrastructure assets; and possessing or collecting sensitive personal data of U.S. citizens. Second, the regulations mandate CFIUS filings for many foreign investments in U.S. businesses producing or developing certain critical technologies and for transactions in which a foreign government-controlled entity acquires control of certain U.S. businesses. Lastly, the regulations significantly broaden CFIUS’s jurisdiction by providing it with authority to review foreign acquisitions of certain U.S. real estate interests.

The final regulations exempt certain investors from Australia, Canada and Great Britain from the mandatory filing requirements and from CFIUS’s expanded authority to review non-controlling minority investments and acquisitions of certain U.S. real estate interests. These exemptions had been eagerly anticipated as they represent the first blanket exemptions from CFIUS regulation for any category of foreign investors. These countries will be the only states initially exempted under the regulations, although the Treasury Department indicated that it may consider adding other foreign states in the future. To qualify for the exemptions, investors must demonstrate substantial ties to these countries and accept certain restrictions on the nationalities of the individuals serving on their boards of directors.

The final regulations largely track the September 2019 draft regulations issued by the Treasury Department in a number of key areas.

Expansion of CFIUS Jurisdiction to Minority, Non-Controlling Investments in Critical Technology, Critical infrastructure and Data-Intensive US Businesses

Prior to enactment of FIRRMA, CFIUS’s jurisdictional authority was limited to reviewing transactions that resulted in foreign “control” of a U.S. business (so-called “covered transactions” under the CFIUS regulations). CFIUS broadly defined “control” for purposes of its covered transaction analysis, but in practice generally concluded that a foreign entity had acquired control of a U.S. business if it acquired a 10 percent or greater interest in the business along with special control rights, including the right to appoint a member or observer to the board of directors. FIRRMA expanded CFIUS’s authority to allow it to review investments that would not result in control of a U.S. business if two conditions are met. First, the non-controlling foreign investment must be made in a U.S. business operating in one of three sensitive business sectors. Second, the investment must provide the foreign investor with specified rights regarding the U.S. business.

The final regulations implement FIRRMA’s requirements by creating a new category of foreign investments subject to CFIUS review (so-called “covered investments”). Under the rules, a “covered investment” is any direct or indirect, non-controlling foreign investment in a U.S. business producing or developing critical technology, owning or operating critical infrastructure assets or maintaining or collecting sensitive personal data of U.S. citizens. The final rules define any such U.S. business as a “TID U.S. Business” for purposes of CFIUS’s analysis.

For a minority investment to qualify as a “covered investment” subject to CFIUS review, it must be made in a company that qualifies as a TID U.S. Business and provide the foreign investor with one of the following rights: (i) the ability to access any material nonpublic technical information in the possession of the TID U.S. Business; (ii) the right to nominate a member or observer to the board of directors of the TID U.S. Business; or (iii) any involvement, other than through voting of shares, in the substantive decision-making of the TID U.S. Business regarding the use of sensitive personal data of U.S. citizens, the operation of U.S. critical infrastructure or the development or release of U.S. critical technologies.

It is important to note that, under the final regulations, the CFIUS process will remain voluntary for most covered investments (except as noted below), providing transaction parties with the discretion to seek CFIUS review and clearance of a particular investment. In determining whether to file for CFIUS review of a covered investment, transaction parties should closely review, among other things, the sensitivity of the TID U.S. Business, the country of origin of the foreign investor and the rights provided to the investor under the investment. Parties that seek and obtain clearance for a covered investment will receive the statutory safe harbor from further CFIUS review of the investment.

In the event transaction parties decide to seek CFIUS review of a covered investment, the final regulations allow them to file the traditional CFIUS joint voluntary notice or, alternatively, a short-form declaration regarding the investment. Declarations are shorter form filings on which CFIUS must act within 30 days.

Three Categories of TID US Businesses

As noted above, FIRRMA extended CFIUS’s jurisdiction to allow it to review minority, non-controlling investments in U.S. businesses that produce or develop critical technologies; own or operate critical infrastructure; or maintain and collect sensitive personal data of U.S. citizens. The final rules identify the specific businesses that are considered TID U.S. Businesses under each of these categories. These categories largely track those identified as TID U.S. Businesses under the September 2019 draft regulations.

The regulations include as a TID U.S. Business any U.S. company that “produces, designs, tests, manufactures, fabricates, or develops one or more critical technologies.” The regulations define “critical technologies” as any that are (i) controlled under the International Traffic in Arms Regulations, (ii) included on the Commerce Control List of the Export Administration Regulations, (iii) subject to nuclear-related controls administered by the Nuclear Regulatory Commission and Department of Energy, (iv) select agents or toxins under U.S. regulation or (v) designated as “emerging” and “foundational” technologies pursuant to The Export Control Reform Act of 2018. This last category of technologies will be established by a rulemaking proceeding currently underway at The Bureau of Industry and Security of the U.S. Department of Commerce.

While CFIUS has reviewed acquisitions of control of critical infrastructure assets for many years, FIRRMA directed CFIUS to identify a specific subset of critical infrastructure assets for purposes of its newfound authority to review minority, non-controlling investments in U.S. businesses owning or operating such assets. The final rules fulfill this legislative mandate by identifying 28 categories of critical infrastructure assets. The list of infrastructure assets includes, among others, certain internet protocol networks, internet exchange points, submarine cable systems, electric generation and transmission assets, oil refineries and pipelines, LNG terminals, exchanges registered under the Securities Exchange Act, air and maritime ports and public water systems. It is important to note that this narrow list of critical infrastructure assets is relevant only for purposes of the covered investment analysis. CFIUS will continue to operate under a much broader definition of critical infrastructure for purposes of its analysis of controlling acquisitions of U.S. businesses owning or operating such assets.

Under the final regulations, only U.S. businesses that perform specified functions with respect to the listed infrastructure assets qualify as TID U.S. Businesses. These functions generally involve owning, operating or manufacturing such assets. For example, the final regulations list an “interstate natural gas pipeline with an outside diameter of 20 or more inches” as one of the categories of critical infrastructure assets. The rules further require that a U.S. business “own or operate” such a pipeline for it to qualify as a TID U.S. Business. By contrast, an entity that only repairs or services such a pipeline will not be a TID U.S. Business under the final rules.

FIRRMA identified any U.S. business that “maintains or collects sensitive personal data of United States citizens that may be exploited in a manner that threatens national security” as the third category of businesses relevant for covered investment jurisdiction. The scope of CFIUS’s ability to review minority, non-controlling investments in such businesses and the specific definition of “sensitive personal data” were the subjects of particular focus during the rulemaking process. A number of parties sought to narrow the term “sensitive personal data” to ensure that the regulations would not inadvertently sweep in a broad array of data categories or impede investments in U.S. businesses maintaining or collecting data of various types.

The final regulations adopt a relatively conservative view of these issues, limiting the definition of sensitive personal data to “identifiable data,” which is data in 10 specific categories that can be used to distinguish or trace an individual’s identity, including, among others, genetic information, health-related data, geo-collection data, biometric enrollment data and state or federal identification data. A U.S. business that maintains or collects these categories of data will only be considered to have sensitive personal data if it (i) targets or tailors products or services to certain national security-focused agencies or military departments of the U.S. government, (ii) maintains or collects data on greater than one million individuals at any point over a 12-month period or (iii) has a “demonstrated business objective” of maintaining or collecting such data on greater than one million individuals and such data is an integrated part of the U.S. business’s products or services.

“Substantial Interest” Investments by Foreign Government-Controlled Entities

Another expansion of CFIUS’s scope under FIRRMA is the imposition of mandatory filing requirements for any transaction that results in the acquisition of a “substantial interest” in a U.S. business by a foreign government-controlled entity. The final regulations implement this legislative requirement by mandating a CFIUS filing for any transaction in which there is an acquisition of a “substantial interest” in a TID U.S. Business by a foreign person in whom a foreign government also has a “substantial interest.”

The definition of “substantial interest” in the rules depends on its context. For purposes of determining whether a foreign person has a “substantial interest” in a TID U.S. Business, the term means an indirect or direct voting interest of 25 percent or more by the foreign person in the TID U.S. Business. For purposes of determining whether a foreign government has a “substantial interest” in a foreign person investing in a TID U.S. Business, the term means a voting interest (whether direct or indirect) of 49 percent or more held by the foreign government in that foreign person. Substantial interest investments by government-controlled entities from excepted foreign states are exempt from the mandatory filing requirements set forth in the final rules.

Under the regulations, parties must submit a CFIUS filing 30 days prior to the completion of the transaction subject to the mandatory filing requirement. The regulations permit parties to satisfy this mandatory filing requirement by submitting either a short-form declaration or a standard long-form CFIUS notice.

Integration of Aspects of the Critical Technology Pilot Program into the Final Rules

FIRRMA empowered CFIUS to implement pilot programs prior to the adoption of final regulations to allow it to assess the law’s potential impact on foreign investment, especially with regard to non-controlling investments in sensitive U.S. business sectors. CFIUS implemented a pilot program in November 2018 that mandated CFIUS filings for controlling and non-controlling foreign investments in U.S. businesses that produce, design or develop a “critical technology” that is (i) utilized in connection with the U.S. business’s activity in one of 27 industries specifically identified in the Pilot Program regulations; or (ii) designed by the U.S. business specifically for use in one of these 27 industries. The Pilot Program was intended to sunset in March 2020, and the September 2019 draft regulations asked for comment on whether it should be extended, revised or terminated.

The final regulations incorporate many of the Pilot Program requirements into the rules governing investments in TID U.S. Businesses. Under the final rules, covered transactions and covered investments in TID U.S. Businesses that produce or develop a specified set of “critical technologies” will be subject to mandatory CFIUS filing requirements. The Treasury Department noted that it will commence a separate rulemaking in the near future to identify the particular “critical technologies” that will be subject to the mandatory filing requirements. The final rules indicate that CFIUS intends to base the mandatory filing requirements on whether a specific critical technology is subject to certain export control licensing requirements and not on whether the critical technology is utilized in a specified set of industries as is currently the case under the Pilot Program regulations.

Exemptions for Certain Investors from Close US Allies

FIRRMA directed CFIUS to exempt certain foreign investors not presenting national security concerns from its expanded jurisdiction over non-controlling investments and acquisitions of certain real estate interests. FIRRMA did not identify the specific foreign investors that should be exempt from the regulations, leaving that important work to the rulemaking process. To fulfill this statutory mandate, the September 2019 draft regulations proposed that the Secretary of Treasury publish a list of “excepted foreign states” and that foreign investors with close ties to these states be exempt from certain CFIUS requirements.

The final regulations largely adopt the September 2019 proposals and identify Australia, Canada and Great Britain (including Northern Ireland) as the countries that initially qualify as excepted foreign states. Designation of these countries was largely anticipated as each operates pursuant to an intelligence-sharing arrangement with the U.S. government. These countries will be deemed excepted foreign states beginning February 13, 2020, for a period of two years. For each country to remain as an excepted foreign state after this two-year period, CFIUS will need to determine that its foreign investment review process meets certain requirements that CFIUS will establish by separate action. In its release, the Treasury Department indicated that it will publish in the near term the factors it will take into consideration when making such determinations in the future. These factors likely will address whether the foreign investment review process of each country is sufficiently robust and otherwise coordinates with CFIUS on national security reviews of transactions.

The final rules exempt investors with substantial ties to these countries (“excepted investors” under the final rules) from several CFIUS requirements. Specifically, excepted investors will be exempt from CFIUS’s expanded jurisdiction to review non-controlling investments in TID U.S. Businesses and certain investments in U.S. real estate (discussed below). Excepted investors will also be exempt from the mandatory filing requirements for investments they make in TID U.S. Businesses that produce or develop the specified subset of critical technologies, though such investments will continue to be subject to voluntary CFIUS jurisdiction.

To qualify for the regulatory exemption, an excepted investor must (i) be organized under the laws of an excepted foreign state or the United States; (ii) have its principal place of business in an excepted foreign state or in the United States; (iii) require that 75 percent or more of its board members or observers be U.S. nationals or nationals of an excepted foreign state (and not any other state); and (iv) ensure that any foreign person who, individually or as part of a group of foreign persons, holds more than 10 percent of its voting interests be a national of an excepted foreign state or the United States (and not any other state). The final rules also identify certain facts that will disqualify an entity otherwise meeting the requirements from being deemed as an excepted investor. These include violations of various CFIUS requirements or other U.S. laws and regulations.

The board nationality requirements noted above represent a notable change from the September draft regulations, which had required that all board members be nationals of an excepted foreign state or the United States. During the rulemaking process, a number of parties had objected strongly to this proposed requirement, arguing that it would greatly limit the applicability of the excepted investor exemption. The revisions to this requirement are reassuring as they indicate CFIUS’s desire to apply the excepted investor exemption relatively broadly.

Exemptions for Indirect, Foreign Investments Made Through Investment Funds

Another exemption mandated by FIRRMA to CFIUS’s expanded jurisdiction involves non-controlling investments made by foreign persons in TID U.S. Businesses through U.S.-managed investment funds. FIRRMA directed that CFIUS craft regulations that exempt non-controlling investments made by foreign investors through such funds provided that the investor receives only standard limited partnership rights in the fund. This issue received significant attention during the rulemaking process as parties debated the scope of the exemption and the specific rights foreign limited partners could acquire in a fund without triggering CFIUS jurisdiction.

The final regulations align with the FIRRMA directives by largely exempting from CFIUS’s jurisdiction indirect, passive investments made by foreign investors in TID U.S. Businesses through U.S.-managed investment funds. To qualify for the exemption, the foreign investor (1) may not be the general partner or managing member of the fund; (2) may not have access to material nonpublic technical information of the TID U.S. Business; or (3) may not have the ability to control the investment fund by (i) approving or otherwise controlling the investment decisions of the fund; (ii) approving or otherwise controlling the investment decisions made by the fund’s general partner or managing member; or (iii) unilaterally dismissing or determining the compensation of the general partner or managing member of the fund. Any fund meeting these requirements will also be exempt from the mandatory filing requirements for investments in TID U.S. Businesses that produce or develop the specified set of “critical technologies” noted above.

Under the regulations, a foreign investor’s participation on a limited partner advisory board or similar committee will not, in and of itself, disqualify the investor from the exemption so long as the advisory board does not have the ability to control the investment decisions made by the fund or its general partner. The regulations also note that routine advisory board actions, including those involving waivers of potential conflicts of interest and fund allocation limitations, will not result in control of the fund.

One notable change from the draft regulations relevant to the investment fund exemption is the inclusion of a proposed definition of “principal place of business.” Under current CFIUS regulations, if an entity’s principal place of business is within the United States, it is not considered a “foreign entity” for CFIUS purposes (excluding its U.S. investments from CFIUS jurisdiction). U.S. private equity funds and other U.S. institutional investors have relied on CFIUS’s understanding that their principal place of business is within the United States notwithstanding the fact that many of their investment vehicles are incorporated outside of the United States for tax efficiency purposes. Previous CFIUS regulations had not defined principal place of business, which created some ambiguity regarding the facts needed to establish the principal place of business of a U.S.-managed investment fund.

The final regulations attempt to resolve this ambiguity by proposing to define principal place of business as “the primary location where an entity’s management directs, controls, or coordinates the entity’s activities, or, in the case of an investment fund, where the fund’s activities and investments are primarily directed, controlled, or coordinated by or on behalf of the general partner, managing member, or equivalent…” The regulations clarify, however, that if an entity has represented in an official filing with the federal, state or any foreign government that its principal place of business is outside of the United States, that location will be deemed the principal place of business of the entity for CFIUS purposes unless it can demonstrate that such location has subsequently changed. This clarification may have broad ramifications for the U.S. investment fund industry as fund managers may need to review whether they have made any such representations in filings with any government.

CFIUS had not included the principal place of business definition in the September 2019 draft regulations, proposing it for the first time in the final regulations and requesting comment on it. The proposed definition will be effective with the final rules on February 13 subject to any amendments CFIUS may make in the future.

Expansion of CFIUS Jurisdiction to Include Foreign Acquisitions of Certain Real Estate Interests

Prior to enactment of FIRRMA, CFIUS lacked explicit jurisdiction to review foreign acquisitions of U.S. real estate, generally reviewing them only in connection with larger corporate transactions that resulted in the acquisition of control of a U.S. business by a foreign person. FIRRMA expanded the jurisdiction of CFIUS to review certain acquisitions of public and private U.S. real estate by foreign persons. The final rules implement this statutory mandate and include detailed regulations regarding the type of real estate and the specific transactions subject to CFIUS jurisdiction.

Real Estate Covered by the Regulations

The rules limit CFIUS’s jurisdiction to acquisitions of “covered real estate” and identify two specific categories of covered real estate. The first category is narrow and includes real estate within—or part of—most U.S. airports or maritime ports (“covered ports” under the final rules). The second category is much broader and includes real estate proximate to specifically designated U.S. military installations and government facilities. This includes real estate located within: (i) “close proximity” (generally less than one mile) to certain military installations and governmental facilities; (ii) the “extended range” (generally less than 100 miles) of other installations and facilities; (iii) designated U.S. counties or other geographic areas listed in the regulations; or (iv) certain U.S. government offshore ranges that are located within the limits of the “territorial sea” of the United States.

The final rules identify in an appendix the names and locations of military installations and governmental facilities that trigger the proximity requirements noted above. The appendix also lists the U.S. counties and onshore/offshore ranges subject to the requirements. There are over 200 U.S. military installations, governmental facilities, counties and onshore/offshore ranges listed in the appendix.

Real Estate Transactions Subject to CFIUS Review

Under the final rules, CFIUS will have jurisdiction to review any “purchase or lease by, or concession to,” covered real estate that provides a foreign person with at least three of four property rights in covered real estate (a so-called “covered real estate transaction”). These rights are the following: (i) the right to physically access the covered real estate; (ii) the right to exclude others from physically accessing the covered real estate; (iii) the right to improve or develop the covered real estate; and (iv) the right to attach fixed or immovable structures or objects to the covered real estate.

The final regulations generally define “purchase” as the conveyance of an ownership interest in real estate in exchange for consideration. A “lease” of covered real estate is defined as the conveyance of a possessory interest in real estate, short of ownership, to a person for a specified time and for consideration. The definition of concession is also noteworthy in that it means an arrangement in which a U.S. public entity grants a right to use real estate for the purpose of developing or operating infrastructure for a covered port.

Exceptions

The final rules define several categories of real estate transactions (“excepted real estate transactions”) that will be excluded from CFIUS’s jurisdiction. These include: (i) acquisitions of covered real estate by excepted investors (the “excepted real estate investor” exemption); (ii) acquisitions of real estate within “urbanized areas”; (iii) acquisitions of a single housing unit; (iv) real estate transactions within covered ports involving leases by foreign air carriers or for purposes of engaging in the retail sale of goods or services to the public; and (v) certain transactions by foreign persons involving “commercial office space.”

The rules generally exclude from CFIUS jurisdiction the acquisition of covered real estate in “urbanized areas,” as that term is defined by the Census Bureau. The urbanized area exception will apply to acquisitions of covered real estate everywhere except where it is (i) within “close proximity” (i.e., one mile) of one of the military installations or governmental facilities listed in the appendix to the rules or (ii) otherwise part of a covered port. Another aspect of the urbanized area exception will exclude from CFIUS jurisdiction any acquisition of covered real estate in an “urban cluster,” as that term is defined by the Census Bureau. Similar to the urbanized area exception, the urban cluster exclusion will apply to covered real estate except where it is within “close proximity” to a listed military installation or governmental facility or is otherwise part of a covered port.

Finally, the rules exclude from CFIUS jurisdiction a real estate purchase, lease or concession of a single “housing unit” (including fixtures and adjacent land) as that term is defined by the Census Bureau. Unlike other exceptions, however, this exception will apply to the acquisition of any single housing unit wherever located, including any within close proximity (i.e., one mile) of military installations and governmental facilities.

It is important to note that the CFIUS process will remain voluntary for parties to a covered real estate transaction and neither FIRRMA nor the final regulations require that parties seek CFIUS review. The final regulations allow parties to a covered real estate transaction to file the traditional joint voluntary notice with CFIUS or a short-form declaration regarding the transaction.

Parties that do not submit a covered real estate transaction for CFIUS clearance will run the risk of CFIUS initiating its own review of the transaction at any time (even post-closing), imposing unexpected mitigation terms or even unwinding the deal. Parties that obtain CFIUS clearance for a covered real estate transaction will receive a statutory safe harbor from further CFIUS review of the transaction.

Takeaways

Issuance of the final regulations represents a major step in extending the jurisdiction of CFIUS beyond corporate acquisitions and controlling investments in U.S. businesses by foreign entities. The specific implications arising from this expanded authority are difficult to ascertain at this point and may depend on a number of external factors, including the domestic and geopolitical environment and ongoing technological developments. What is known for certain, however, is that a multi-year process to update and broaden the scope of CFIUS’s jurisdiction has concluded and CFIUS now has the authority to review a much broader array of transactions and investments.