Constituting the first substantive change to the UK merger control regime since the introduction of the Enterprise Act 2002 (the EA02), these amendments significantly extend the power of the Secretary of State to intervene in transactions that might raise public interest concerns, particularly in relation to national security, and potentially bring a greater number of transactions in line for assessment on competition grounds.
Indeed, within a week of the new thresholds coming into force on 17 June 2018, the Secretary of State issued a public interest intervention notice in respect of the anticipated acquisition of Northern Aerospace Ltd by Gardner Aerospace Holdings Ltd1. Previously, there would have been no jurisdiction to do so.
What are the new jurisdictional thresholds?
The jurisdictional thresholds form part of the test under the UK merger control regime which determines whether a transaction constitutes a “relevant merger situation”, i.e. two or more enterprises cease to be distinct and one of the jurisdictional thresholds is satisfied. The existence of a relevant merger situation (RMS) determines whether the Secretary of State can intervene in a transaction on public interest grounds (save for certain exceptional cases) and also whether the Competition and Markets Authority (the CMA) has jurisdiction to review a transaction on competition grounds.
Two changes to the jurisdictional thresholds for the newly defined “relevant enterprise” have been made:
- Turnover test: where the target is a “relevant enterprise”, a transaction will fall within the regime if the target’s UK turnover exceeds £1m, rather than £70m, which remains the applicable threshold for all other enterprises.
- Share of supply test: a transaction involving a “relevant enterprise” will fall within the regime if:(i) the existing share of supply test is met (i.e. the transaction results in the creation of a combined share of supply or purchases of any goods or services of a particular description of 25 per cent or more within the UK); or(ii) the target has an existing share of supply or purchases of at least 25 per cent within the UK of the goods or services which make it a "relevant enterprise".
What is a "relevant enterprise”?
The new jurisdictional tests apply only in relation to transactions which involve a “relevant enterprise”. This is broadly defined as an entity operating in at least one of the following three areas of the economy:
- the development or production of items for military or dual use;
- the design and maintenance of aspects of computing hardware; or
- the development and production of quantum technology.
The first category is defined by reference to products that form part of the Strategic Export Control Lists (the SECLs). Such military and dual use items are already subject to well-established export control obligations (the national security interests being obvious) and there are tools in place to assist those businesses / potential investors who are unsure if their business is covered. The amendments also capture businesses that develop or produce such goods / services or hold related information (such as, software, blueprints and manuals) that is capable of use in connection with the development or production of these items and the information is responsible for achieving or exceeding the performance levels, characteristics or functions of the good/service included in the SECL.
The Government’s national security concerns in relation to computer processing units relate to the possibility of goods utilising such technology being directed remotely if a hostile actor obtains access or control. As such, businesses owning, creating or supplying intellectual property in relation to the way that processing units function will be in scope, including firmware containing cryptographic material, such as roots of trust and computer code.
The Government “strongly supports” the quantum technology sector, but acknowledges that such technology could be used against UK national security interests, such as breaking currently secure computer and telecommunications systems. The Government considers that any businesses which undertake research, development or production activities in this area (including the creation of relevant intellectual property or components) will understand the scope of the new provisions, given the Government’s previous work and consultation in this sector.
The Department for Business, Energy and Industrial Strategy (BEIS), however, has put in place contact details for businesses and investors if they require non-binding guidance in relation to any of the new provisions, as set out in the new guidance published by the CMA and BEIS2.
What might the new jurisdictional tests change in practice?
The changes will not affect the voluntary notification regime under the EA02, the existing jurisdictional tests which remain applicable to transactions in the majority of cases, or the public interest intervention procedures.
The CMA does not expect the separate jurisdictional thresholds for “relevant enterprises” to change materially its approach to assessing mergers on competition grounds3. The Government estimates that the changes will bring between five and 29 additional mergers into scope each year, with around one to six of these mergers anticipated to raise national security concerns requiring intervention from the Secretary of State4.
This would mark a change, as interventions on public interest grounds in the period between the EA02 coming into force and 11 June 2018 were relatively rare. (There were only 13 such interventions, with seven of them being on national security grounds, and the transactions generally being permitted, following undertakings given by the parties.)
For transactions in the defence and technology sectors, therefore, parties (and their advisors) should include an assessment, in their transaction planning, as to whether the transaction involves a “relevant enterprise” and constitutes an RMS by virtue of the new jurisdictional thresholds. Secretary of State intervention will almost certainly have an effect on the transaction timetable. As recently demonstrated in relation to the anticipated acquisition of Northern Aerospace by Gardner Aerospace, the CMA may issue an initial enforcement order preventing a transaction from completing while the investigation is on-going. In the case of completed mergers, orders may require the newly merged business to postpone integration while the investigation is on-going and, ultimately, to put in place certain safeguards in order to comply with any undertakings.
It is likely that the amendments will mostly affect small and medium-sized enterprises operating in the defence and technology sectors. Parties involved in transactions that satisfy the EU Merger Regulation thresholds, however, should also consider whether any of their operations in the UK may fall within the definition of “relevant enterprise”, as an RMS is also part of the test for determining whether the Secretary of State has jurisdiction to issue a European Intervention Notice.
The introduction of the additional turnover and share of supply tests for “relevant enterprises” completes the first phase of the Government’s intention to reform its ability to assess the national security implications of business transactions, as was set out in the “National Security and Infrastructure Investment Review Green Paper” (the Green Paper) published by BEIS in October 20175.
The Government’s stated intention is for the UK “to remain amongst the most open economies to foreign investment, and to reinforce this by strengthening safeguards so that public confidence in the regime remains high”.6 Remaining attractive to foreign investment is particularly important for the UK at a time when Brexit is looming, the consequences of which are yet to be fully determined.
While the vast majority of investment into the UK raises no national security concerns, the Government is mindful of its fundamental role to protect national security, such that its openness to such investment should be accompanied by “appropriate scrutiny of the potential national security impacts of deals”, particularly where the ownership or control of critical businesses or infrastructure is concerned7.
While it may not be surprising that the Government wishes to strengthen its power to scrutinise transactions which may affect national security, the UK’s desire is not an isolated trend. A number of countries already have well-developed systems for screening foreign investments in critical infrastructure and sensitive industries and others are introducing or tightening them. Last year Germany enhanced its powers to review foreign investments, inter alia, by expanding the list of sensitive industries covered by the regime, while transactions involving foreign investment have recently been facing increased scrutiny by CIFIUS in the USA. Furthermore, in September 2017 the European Commission published a draft proposed regulation setting out a framework within which Member States can establish their own screening mechanisms in order to protect both domestic and European interests.
In contrast to many other regimes, the changes apply equally to foreign and domestic investment and so it remains to be seen whether they will have a material impact on the level of foreign investment activity (which the Government indicates as being more likely to raise national security concerns) in the UK. The regime introduced by the EA02 was intended to depoliticise the merger control process through the use of independent authorities taking competition-based decisions and limiting ministers’ ability to intervene only in cases that raise public interest considerations. It is therefore welcome that both the Government and the CMA have expressed the desire to keep the competition and public interest assessments separate.
Looking ahead: Other proposals in the BEIS green paper
In addition to the jurisdictional threshold amendments introduced in June, the Green Paper contained other proposals intended to update the UK’s merger control regime and to provide further “necessary and proportionate” safeguards to ensure the UK’s national security is appropriately protected and not undermined by investments or mergers.
These proposals include a possible power to scrutinise a broader range of transactions where national security may be at risk, including new projects, the acquisition of bare assets or the acquisition of significant influence over a UK business entity (which would remove the requirement for there to be a “relevant merger situation” and so clearly distinguish the national security process from the competition assessment). The Green Paper also suggests that there may be a need for a mandatory notification regime for foreign investment in certain “essential functions” in key parts of the economy, such as the civil nuclear, defence, energy, telecommunications and transport sectors.