For M&A transactions in Germany and beyond, Foreign Investment Control screenings have become an indispensable standard element to assess when structuring deals and planning for regulatory review. Similarly to merger control, acquirers and sellers need to consider the impact of the increasing number of jurisdictions that might want to review their proposed transaction. In the last few years, Germany has been at the forefront of the EU Member States concerning, in particular, the screening of Chinese investments, although the number of notified acquisitions by US acquirers has also increased. And there is more to come:
On 30 January 2020, the German Federal Ministry for Economic Affairs and Energy (Bundesministerium für Wirtschaft und Energie – BMWi) issued a draft bill further tightening regulations on Foreign Direct Investment (FDI) into Germany (the draft is publicly available in German here). Specifically, the current draft bill concerns a reform of the German Foreign Trade and Payments Act (Außenwirtschaftsgesetz – AWG) in three main areas:
- The reform tightens the standard of review as the threshold for the BMWi to take action is lowered to encompass all transactions “likely to affect public order or security in Germany“. So far, actual endangerment of public order or security is required for the BMWi to take action. In line with the EU FDI Framework Regulation (EU) 2019/452 of 19 March 2019 (publicly available here), the draft bill expands the scope of FDI review to include considerations of “public order or security of other Member States or projects or programmes of Union interest” and not only considerations of public order or security of Germany.
- The scope of the stand-still obligation for closing shall in the future extend to all transactions subject to mandatory review in Germany. So far, only so-called sector-specific transactions, mainly in the sector of defence, are subject to the stand-still obligation.
- Also, the reform establishes a contact unit for the cooperation mechanism at the BMWi to exchange with the European Commission as well as other Member States on foreign investments undergoing screening in Germany. This is foreseen in the EU FDI Framework Regulation.
Further to the amendments foreseen to the AWG, the Federal Government also intends to amend the German Foreign Trade and Payments Ordinance (Außenwirtschaftsverordnung – AWV). The AWV specifies the provisions of the AWG in practice. For instance, the operation of satellite-based earth remote sensing systems will be included in the catalogue of security-relevant activities of targets subject to mandatory review. Furthermore, the Federal Government intends to add “critical technologies” to the catalogue.
Both the amendment of the AWG, as well as the amendment of the AWV, are planned to become effective in October 2020 when the EU FDI Framework Regulation will fully enter into force. All transactions signed after this date will be subject to the new rules. The changes apply to all direct or indirect acquisitions of German targets by non-EU acquirers. Currently, trade associations are invited to comment on the draft and companies should make use of this channel to let the government know about their views.
Below we discuss some aspects of the tightened rules in more detail.
Stricter standard of review – transactions “likely to affect” security interests
The draft tightens the legal standard for the substantive review to all transactions involving a German target which are “likely to affect public order or security” in Germany. According to the draft’s reasoning, “[t]his emphasises in particular the necessary forward-looking approach which is inherent in investment screening anyway: an impairment which has not yet occurred but which may occur in the future as a result of a critical acquisition is to be prevented.” Hence, this significantly lowers the degree of risk enabling the Federal Government to intervene. In the future, the Federal Government will already have the power to prohibit a transaction or impose commitments if the transaction is “likely to affect” security interests. So far, this power is limited to transactions actually endangering public order or security in Germany.
The new standard corresponds to the wording used by the EU FDI Framework Regulation. However, Member States are not obliged to apply this strict standard. The expansion of the standard of the review can therefore rather be seen as a deliberate tightening of FDI regulation by the Federal Government.
Expanded scope of review – EU interests and “critical technologies“
FDI review in Germany will, in the future, not only encompass German security interests, but also take into account whether a transaction “affects public order or security of other Member States or projects or programmes of Union interest“. The cited projects and programmes are set out in the EU FDI Framework Regulation’s Annex and include Galileo, Copernicus and Horizon 2020.
Additionally, the BMWi is very clear about its changed, wider general approach to FDI screenings. This is supposed to be reflected in an upcoming amendment of the AWV taking place parallel to the changes to the AWG. While FDI screenings in Germany were initially only intended to protect national security, critical infrastructures and public supplies, the reasoning of the draft states that the relevance of FDI review now goes beyond that. Expressly, the “technological sovereignty of the Federal Republic of Germany” shall be secured.
The draft specifically refers to “critical technologies” as defined in the EU FDI Framework Regulation, including artificial intelligence, robotics, semiconductors, cybersecurity, aerospace, defence, energy storage, quantum and nuclear technologies as well as nanotechnologies and biotechnologies. Additionally, the operation of satellite-based earth remote sensing systems will be included in the catalogue of especially security relevant activities. This means that transactions in all of the aforementioned areas will become subject to mandatory notification and review.
Expansion of stand-still obligation to all listed industry areas
The former is particularly relevant as the reform also foresees a significant procedural change to the mandatory FDI review in Germany. So far, the catalogue of industry areas listed as especially security relevant only requires mandatory FDI notifications to the BMWi without a direct impact on the deal time-line. In the future, the parties to such transactions will additionally face stand-still obligations to have their transaction cleared by the Federal Government before closing a deal. The relevant industry areas will be critical infrastructure, telecommunications/surveillance, provision of cloud-computing services, telematics, media as well as the newly added critical technologies and earth remote sensing systems.
So far, only so-called sector-specific transactions (mainly in the defence area) have been subject to this stand-still obligation. Now, transactions in all areas expressly listed in the AWV subject to non-sector specific review will also be provisionally invalid prior to clearance by the Federal Government. All other transactions, which are solely subject to the blanket clause and not expressly listed, remain subject to ex officio reviews by the BMWi or voluntary notifications by the parties to a transaction and the parties may close without having to await clearance.
Context of the reform: German and EU Industrial Policies
Regarding the practice of FDI review in Germany, the stricter standard of review and the wider general approach to FDI screenings regarding the scope of review largely reflect the practice the BMWi has already increasingly been following in screening procedures. FDI screenings have recently mostly concerned targets in the areas of mechanical engineering, IT and communication as well as automotive suppliers and companies holding export control licenses, which could be deemed active in critical technologies. Furthermore, the BMWi has put a particular focus on Chinese investors and showed a tendency to interpret the provisions of AWG and AWV very broadly, thereby anticipating the planned reform. In essence, the reform does not come as a surprise.
In a broader context, the reform is not a Germany-specific development, but follows an ongoing trend in major Western economies like the US, Japan as well as the UK, France, Spain and others in Europe to tighten Foreign Investment Control. In Germany, it is the third significant reform of FDI regulations within less than three years – while the last one has only taken place in December 2018 (see here for our coverage of the 2018 reform and here for our coverage of the 2017 reform). Additionally, the BMWi has made it very clear in its Industrial Strategy 2030 released in November 2019 (publicly available here, see our coverage of the largely similar draft here) that it deems tightening of FDI regulations as crucial for future economic development in Germany – an entire chapter is dedicated to “Maintaining technological autonomy“. Other envisaged measures include tightening conditions on technology transfer to third countries, the German state serving as a moderator for private-sector players to step in as “white knights” in sensitive transactions involving German targets and even the German state setting up structures to acquire shareholdings in sensitive companies itself as a last resort.
The reform also reflects a European trend. The EU Screening Regulation enacted in March 2019 (see here for our latest coverage) established a common structure for the screening of FDI into the EU. The Regulation was based on a joint initiative by France, Italy and Germany, while the further convergence between the French and German approach to interventionism and FDI screenings became clear with the publication of the “Franco-German Manifesto for a European industrial policy fit for the 21st Century” in February 2019 (publicly available here, see here for our coverage). In line with this development, the upcoming EU Industrial Policy also foresees tighter trade measures. Inter alia, the EU is purportedly planning a “new instrument” to tackle the impact of foreign companies supported by government subsidies on European markets. In January 2020, the U.S., the EU and Japan released a joint statement outlining plans to widen actions against state-owned intervention (publicly available here). This reflects the widespread and increasing concerns about Chinese investors in Western economies. With Germany taking over Presidency of the Council of the EU in the second half of 2020 and the departure of the UK from the EU, further developments – and likely further tightening – in the area of FDI regulation on EU level are possible.
The draft bill and envisaged further changes to German FDI regulation will have a significant impact on future M&A deals directly or indirectly involving German entities or assets. Parties to such transactions will increasingly have to take German and EU FDI regulations into account – as has long been the case for CFIUS in the US, and merger control globally. This is further emphasised by the stricter standard of review and widened general approach by the BMWi to initiate FDI screening procedures. The development is underlined by the steadily increasing number of screening procedures over the last decade and will require parties, specifically acquirers, to start carrying out FDI assessments and even to consider voluntary notifications to the BMWi for transactions which appeared to raise no FDI concerns in the past.
Planning and structuring future deals will have to reflect these substantive considerations, but also the changing procedural elements of German FDI review. Mandatory notifications and stand-still obligations are now foreseen for a number of industry segments – with the number of concerned areas likely growing in the future. This along with the broader substantive assessment will impact the timing for concerned deals. Implementation of the EU Screening Regulation with its cooperation mechanism between the European Commission and Member States for FDI screening procedures will likely further impact both the timing of the procedures and the substance of the assessment. The latter can already be seen in the expanded scope of FDI review in Germany regarding other Member States and EU projects.
Generally speaking, government intervention under foreign investment rules is already much harder to predict than under the tried and tested merger control regimes – not only in Germany. The German Federal Minister for Economic Affairs, Peter Altmaier, tried to downplay the reform, simply stating: “We want to protect our security interests in a more forward-looking and comprehensive manner.” However, criticism from industry representatives followed promptly. The head of the leading German industry association BDI, Dieter Kempf, concluded: “Great uncertainties arise for investors and companies.”