The National Security and Investment Bill represents a major change in UK regulation of takeover and investment transactions, giving the Government power to intervene in a wide range of transactions on national security grounds. The new powers can be applied to any business but a mandatory notification regime applies to 17 sectors and transactions in those sectors are more likely to be subject to intervention.
Many life sciences businesses will fall within the mandatory notification sectors and may face a considerable compliance burden even if actual Government intervention in transactions proves to be rare.
The legislation is approaching its final stages in Parliament and there have been some concessions and modifications following the parliamentary review and external consultation. However, it remains on course to have a significant impact on transactions and is expected to become law in the first half of 2021. Based on the current draft legislation, key takeaways for those involved in the life sciences sectors include:
- the Secretary of State will have the power to prohibit or reverse certain transactions which they believe pose a national security risk or to impose conditions to the transactions;
- if within a mandatory notification sector, there will be a requirement to notify prospective transactions which will result in an investor exceeding 25%, 50% or 75% of the votes or shares in the entity (it seems that the initial proposal for mandatory notification at 15% will be withdrawn, although acquisitions of less than 25% could still be called in for review where there is ‘material influence’ as discussed below);
- where notification is mandatory, the transaction cannot be completed until clearance is received from the Secretary of State, which may take up to 30 working days (and longer if the transaction is called in for formal review). This will result in, at a minimum, a compliance burden in making the notification and the need to build the review process into transaction timescales;
- the mandatory notification sectors are broadly defined and will catch many businesses which may not think their work has national security implications. Of particular significance in the life sciences context is the definition of ‘synthetic biology’, which is defined as ‘applying engineering principles to biology to design, redesign or make biological components or systems that do not exist in the natural world’. This would capture a wide range of life sciences businesses such as those that utilise gene therapy or gene editing as part of their business and will cover many companies developing vaccines or other biological therapies;
- even for businesses outside a mandatory notification sector, a transaction which results in an investor or acquirer exceeding 25%, 50% or 75% of the votes or shares in the entity or acquiring ‘material influence’ can be called in for review and so parties may want to notify voluntarily to get clearance;
- transactions involving the acquisition of an asset, or rights to control an asset, can also be reviewed – this may, for example, catch assignment or licensing of intellectual property rights;
- the legislation applies whether the investor or acquirer is UK-based or foreign, though the expectation is that transactions involving overseas persons are more likely to be the subject of review or intervention;
- it has extra-territorial effect so it can catch transactions involving entities based overseas but which are active in, or supply goods or services into, the UK (though some of the details of exactly how this will be applied are yet to be finalised);
- any transactions from 12 November 2020 which would be covered by the bill, if it was already in force, could be called in for review retrospectively once it becomes law. So where there is a real concern that a current transaction could be subject to intervention, the parties should consider early discussions with the Government to assess that risk;
- there are significant criminal and civil sanctions for non-compliance which mean that in grey areas parties are likely to take a cautious approach.
The bill reflects growing concerns (well-founded or otherwise) in the UK and beyond about the national security implications of takeovers or foreign investment. There have been well-publicised controversies over Huawei, WeChat and TikTok, with the Nvidia/ARM merger the latest to draw attention with a national security investigation announced by the UK Government on 19 April 2021. In the life sciences sector, vaccine production and distribution has been a hot and politically controversial topic over the last twelve months so it follows that takeovers and investments in those areas might now be carefully scrutinised and fall within the broadest definition of national security.
The legislation gives the Secretary of State power to call in certain transactions (trigger events) where they reasonably suspect that the trigger event may give rise to a risk to national security.
If, having investigated the trigger event, the Secretary of State is satisfied that on the balance of probabilities the trigger event poses, or would pose, a national security risk, they can make an order prohibiting the transaction or imposing conditions to the transaction – eg on access to sensitive sites, access to confidential information, supply chains, intellectual property transfer, compliance, monitoring and personnel.
The powers apply regardless of transaction value and ignore the thresholds (eg for turnover or share of supply) which have typically given jurisdiction for competition investigations into takeovers (or the limited existing national security powers that exist). And they can kick in at levels significantly below ‘control’ as businesses may usually understand it.
The regime therefore will need to be considered in a significantly wider set of circumstances than competition-based merger control.
A mandatory notification regime applies in certain sectors for acquisitions of shares/votes from 25% upwards (this was originally proposed at 15%, but the Government has indicated it will accept a House of Lords amendment on this). Completing a transaction subject to mandatory notification before it is cleared renders the transaction void and parties can be subject to criminal penalties.
Which entities and assets are subject to the legislation?
The regime applies in principle to any UK entity and to any overseas entity carrying on activities in the UK or supplying goods and services to persons in the UK, regardless of sector. However, certain sectors are subject to an enhanced mandatory notification regime and may be considered the more likely targets for scrutiny under the new regime.
It also applies to the acquisition of qualifying assets which can include land, tangible property or ideas, information or techniques which have industrial, commercial or other economic value (eg trade secrets, databases, source code, algorithms). Again, this can apply to overseas assets if they are used in an activity in the UK or used to supply goods or services in the UK.
What is a trigger event?
Trigger events in relation to an entity are:
- acquiring a holding of shares or votes in an entity which takes the acquirer over 25% of the shares or votes, over 50% of the shares or votes, or to 75% or more of the shares or votes in that entity. These broadly correlate to the levels which enable a shareholder to pass or block resolutions under UK company law;
- acquiring voting rights that enable or prevent the passage of any class of resolution governing the affairs of the entity – this primarily caters for entities which have different voting thresholds to a UK limited company; or
- acquiring material influence over a qualifying entity’s policy.
‘Material influence’ will generally be the most difficult condition to interpret. It will be interpreted in the same way as under the UK merger control regime where the Competition and Markets Authority (CMA) generally presumes that a shareholding of more than 25% gives material influence and will look carefully at holdings of 15% to 25% and perhaps less than 15%. Relevant factors in deciding whether those lower shareholdings could give material influence include the distribution of shareholdings and voting patterns (eg if shareholdings are widely distributed or many do not vote, an active investor may have an outsize influence), the existence of any special veto powers, board representation and whether there are any additional agreements.
Given the nature of the rights which venture capital investors in growth businesses seek, it is quite possible that they could be found to have material influence at shareholding levels below 25%, which would not usually be a concern in a competition-based regime but could require notification under this regime.
Trigger events in relation to an asset are where a person acquires a right or interest in, or in relation to, the asset and as a result they are able to use the asset or direct or control how the asset is used (or they increase their ability to use or control it). This could include licensing (including on a non-exclusive basis) of intellectual property.
The mandatory notification regime
There are expected to be 17 sectors subject to the mandatory notification regime which will be defined in secondary legislation. Following the Government’s consultation exercise, the definitions have been considerably narrowed but will still catch a wide range of businesses.
The 17 sectors are:
- advanced materials – including, for example, advanced composites, semiconductors, graphene and nanotechnology;
- advanced robotics;
- artificial intelligence;
- civil nuclear;
- computing hardware – the definition here primarily focusses on CPUs and associated IP;
- critical suppliers to Government;
- critical suppliers to the emergency services;
- cryptographic authentication;
- data infrastructure;
- military and dual use;
- quantum technologies;
- satellite and space technologies;
- synthetic biology; and
If an entity falls within the sectors subject to the mandatory notification regime, it must notify certain potential transactions:
- acquiring a holding of shares or votes in an entity which takes the acquirer over 25% of the shares or votes, over 50% of the shares or votes or to 75% or more of the shares or votes in that entity; and
- acquiring voting rights that enable or prevent the passage of any class of resolution governing the affairs of the entity.
Note that acquisition of material influence is not a mandatory notification, on the basis that this is too difficult for someone to assess under threat of criminal sanctions. The Government has indicated that the original proposal for mandatory notification on the acquisition of 15% of shares or votes will be dropped.
A transaction subject to mandatory notification must not be completed prior to being cleared.
Key mandatory notification sectors for life sciences
The sectors most likely to be of relevance to life sciences businesses have been the subject of significant refinement in the consultation process but some elements remain very broad:
This covers areas such as advanced composites, technical textiles, nanotechnology, graphene, additive manufacturing and may be most likely to catch medical devices incorporating such materials.
As originally defined, this could have captured almost any business using AI – for example for diagnostic or drug discovery purposes.
This sector significantly narrowed in consultation so broadly speaking now only captures artificial intelligence used for the purposes of identification or tracking of objects, people or events; advanced robotics; or cybersecurity. It now seems less likely to catch life sciences businesses.
Though narrower than originally proposed as ‘engineering biology’ this remains a broadly defined sector and is likely to affect a large number of life sciences companies.
The current definition is ‘applying engineering principles to biology to design, redesign or make biological components or systems that do not exist in the natural world’. It includes design and engineering of biological parts of enzymes, gene editing and gene therapy. ‘Core synthetic biology’ is defined as DNA synthesis and cloning.
To take some topical examples, it would apply to any company that produces a viral vector vaccine like the Oxford AstraZeneca vaccine as the DNA for the spike protein is added into a harmless adenovirus for the vaccine and so redesigns that adenovirus.
The Pfizer BioNTec vaccine would also be caught as the manufacture of the vaccine involves cloning to make high quantities of the DNA for the spike protein, then transcribing the purified DNA into RNA before mixing the RNA with lipid (fat) molecules to encapsulate it in the vaccine itself. This is clearly the production of goods using synthetic biology.
In contrast, small molecule drugs would be excluded from the synthetic biology definition as they are not biological, even if they do not exist in the natural world. There are also exclusions from the definition for replacement gene therapy and cell therapy (which both involve cloning) and diagnostics.
Where mandatory notification does not apply, parties can make a voluntary notification if they are concerned that there might be an issue and do not want to risk the transaction being called in after the event.
What is the process for review?
There is expected to be the potential for businesses to have early informal engagement with the Government to seek guidance on whether or not notification is required or a transaction is likely to be called in but that guidance would not be binding on the Government. Currently businesses seeking informal engagement can contact BEIS at [email protected].
Once a notification has been accepted by the Government (which may call for further information before it is happy with the notification), the Secretary of State has 30 working days to decide whether to call in the transaction or take no action.
If no notification has been made, the Secretary of State can call in completed transactions up to five years after completion.
If the Secretary of State does issue a call-in notice, they have a period of 30 working days (which can be extended by up to a further 45 working days or more in certain circumstances) within which to review the transaction and decide whether or not to clear it.
During the review process the Secretary of State has powers to require the provision of relevant information – similar to the powers the CMA has in relation to competition investigations.
The Secretary of State may either clear a transaction, clear it subject to conditions or prohibit it (or order a completed transaction to be unwound).
What are the penalties for non-compliance?
Where the mandatory notification regime applies and a transaction is completed before it is cleared, the transaction will be void and parties can be subject to fines of up to the higher of 5% of worldwide turnover or £10 million and up to five years’ imprisonment. Penalties also apply for non-compliance with information requests or other aspects of the review process.
The obligation to notify (and therefore the penalty for failure to notify) sits with the acquirer so in cases where it is unclear whether or not the mandatory notification regime will apply it is expected that acquirers/investors will take a cautious approach.
What factors will be taken into account in deciding whether or not to clear a transaction?
The Secretary of State can only base their decision on national security grounds, not general economic interests, so this may not answer the concerns of some who want to protect ‘national champions’ from foreign takeovers. However, the Government has stated clearly that it wants to ‘protect our national security by ensuring manufacturing scale-up facilities, sensitive knowledge, data, and delivery systems are prevented from being removed from the UK’ – so this clearly goes further than the extreme cases of stopping militarily useful assets from going into foreign hands.
There will be a statutory ‘statement of policy intent’ which sets out how the Secretary of State intends to use the powers and includes illustrative examples of factors that may be considered. The Secretary of State must have regard to this statement while exercising the call-in power. The draft statement of policy intent highlights three broad risk factors:
- target risk – sensitivity of the asset/technology;
- control risk – degree of control acquired; and
- acquirer risk – nature of threat posed by the acquirer.
While this will help in assessing the likely risk of intervention - at least in ranking transactions in terms of relative risk of intervention - there is still the risk of some uncertainty since events have shown that the assessment of what constitutes a national security risk can be politically charged.
Some of the discussion about national security tends towards the more paranoid speculation on the use of technology in worst case scenarios - what could a James Bond villain do with this?
However, the disputes over the distribution of vaccines (or even pre-requisites for manufacturing vaccines) as 2021 began have highlighted a view that national security may require control over particular drugs or medical technologies - not because others might misuse them, but because it is important for the UK to have its own capabilities to ensure access.
Though not a life sciences deal and under the current legislation rather than the new bill, the announcement on 19 April 2021 that the UK Government would investigate the Nvidia takeover of ARM on national security grounds may indicate this wider view of national security is taking hold. This would be an acquisition by a company based in a friendly country (the US) of a target which does not have an obvious defence or national security impact - which gives the impression that the concern is about protecting the UK’s industrial base in an important area of technology. The outcome of this investigation remains to be seen but even the fact of the investigation may have an impact on the likelihood of closing the transaction.
The Government’s impact assessment estimates that the new regime would result in 1,000 to 1,830 transactions being notified per year (although the regime would have included mandatory notification at 15% when that estimate was made, whereas now that threshold looks set to be 25%). Nonetheless, this may still be a significant under-estimate, particularly given the breadth of the sectors covered by mandatory notification. While far fewer transactions are likely to be called in for review than are notified, and still fewer subject to intervention by the Secretary of State following review, the legislation will impose a burden on businesses to consider the potential application of this complex legislation, notify where necessary and factor it into timetables.
It will have a significant impact on many life sciences businesses, particularly those which fall within the mandatory notification sectors. It will particularly need consideration in the context of funding and M&A transactions as well as intellectual property licensing and assignment.
Compliance will involve considerable costs and potentially delays to transaction so will need to be considered at an early stage. The consequences for non-compliance are severe so parties are unlikely to want to take risks in grey areas.