China's response to the increased control of Chinese investments worldwide, especially in Europe and the US, is called the National Security Review. Despite its silent existence of more than a decade, it most recently began to grow teeth.

With China pioneering in many major technology areas, such as industrial automation, IoT or future technologies, such as AI, electro-mobility or fintech, and considering the growing protectionism, it can be expected that China will apply its National Security Review regime to further control its market access, if needed.

Foreign investors newly investing in China or restructuring their existing China investments should be aware of the scope of the Chinese FDI control and its possible effects on their future investments. In the case a foreign investment is caught under the Chinese National Security Review and was not cleared prior to closing, the foreign investor might be ordered to unwind or dispose the investment.

National Security Review

The National Security Review (外商投资安全审查) is led by the National Development and Reform Commission ("NDRC") and the Ministry of Commerce and conducted through a joint Working Mechanism Office ("WMO") within the NDRC and applies to all foreign investments in the People's Republic of China ("PRC"). The WMO might also consult other Ministries or public institutions during the National Security Review on a case-by-case basis.

The legal basis of China's National Security Review can be found in China's National Security Law (中华人民共和国国家安全法) and its Foreign Investment Law (中华人民共和国外商投资法). Whereas those two legislations were still silent on the formal procedure of the National Security Review, this gap was filled by the promulgation of the Measures for Security Review of Foreign Investments (外商投资安全审查办法), which became effective on January 18, 2021.

Foreign Investment is defined as any investment activity that is directly or indirectly conducted within the PRC by a foreign investor, including

  • the investment into a new project or the formation of an enterprise in China, alone or together with any other investor;
  • the acquisition of equity in or assets of an enterprise in China by means of mergers and acquisitions (public takeovers not included); and
  • any investment by foreign investors through other means.

The definition of Foreign Investment clearly illustrates the vast reach of the Chinese FDI control, not only including M&A activities but also applying to greenfield investments, joint ventures, and investments by other means, presumably VIE-structures, trust, contractual control or offshore (foreign-to-foreign) transactions involving Chinese companies or assets. Besides, any investment from Hong Kong, Macau or Taiwan will also be treated as Foreign Investment.

Scope of the National Security Review

The Chinese National Security Review applies a twofold test whereby any Foreign Investment must be reported by a foreign investor or the relevant parties in China prior to its implementation if the investment qualifies as

  • an investment in a sector related to China's national defense and security, such as China's military and armaments industry, or an investment to be carried out at a location in vicinity of a Chinese military institution or an arms-related industrial facility; or
  • an investment in a sector critical to the national security whereby the foreign investor acquires the actual control of the target company.

Critical sectors include, but are not limited to important agricultural products, important energy and resources, critical equipment manufacturing, important infrastructure, important transportation services, important cultural products and services, important information technology and Internet products and services, important financial services, key technology, or any other important field related to national security.

However, the acquisition of actual control of the target company by the foreign investor is only relevant for investments into critical sectors; investments into a sector related to China's national defense and security are always subject to the National Security Review.

Review Procedure

The Chinese National Security Review can be divided into four stages: (i) the consultation, (ii) the application, (iii) the general review and (iv) the special review.

Prior to the application for the National Security Review, the parties to a foreign investment may consult with the WMO on an informal basis to seek guidance and/or clarify any open issues. Upon receipt of the formal application, the WMO will review the application and decide within 15 working days whether to initiate a formal review proceeding. In the case a general review is initiated, the WMO must decide within another 30 working days whether to open a special review because the investment affects or may affect China's national security. In case a special review is initiated, the WMO has another 60 working days to render its final decision.

The WMO may extend the review period due to special circumstances or request the parties to further supplement their application while suspending the review period until submission of the requested documentation. However, there is no time limit or statute of limitation applicable to the National Security Review.

If an investment subject to the National Security Review has not been reported, the WMO may request the parties to follow up on their notification obligation. Once a National Security Review is applied for or initiated, the consummation (closing) of the investment is prohibited.

Review Standard

The Measures for Security Review of Foreign Investments do not stipulate any clear review standard. Therefore, the WMO is given broad discretionary powers in deciding whether China's National Security is affected by the foreign investment.

The WMO may clear an investment, attach conditions to a clearance or, if the parties cannot remedy the national security concerns, eventually prohibit the investment. The decision is final and without recourse to ordinary courts.

Non-compliance

Non-compliance can result in the unwinding of the investment (i. e. disposal of equity interests or assets and the reinstation of the status quo ante), the revocation of approvals, penalties, or a negative credit record in China's credit information system. Thus, China's National Security Review should be considered at an early stage of the investment plan.

If it is unclear whether an investment might fall into any of the listed categories (military and defence or critical sector), a foreign investor should contact the local NDRC branch on an informal basis and ask for guidance.

Foreign investors should be aware that third parties can propose a National Security Review to the WMO if they believe that China's national security is or may be affected by a Foreign Investment.