Global Regulatory Trends—2018
Dentons, the global law firm, recently released its Global Regulatory Trends to Watch in 2018, available here. In this six-part series, Global Trade is publishing excerpts from the report focusing on public affairs, foreign investment, national security and economic sanctions, and trade across the world. Authors for these are listed at the end of the report on the firm’s downloadable link above.
At the close of his first year in office, President Donald Trump released a lengthy National Security Strategy, focused on reshaping America’s approach to threats and global conflict, and also emphasizing economic security and an “America First” approach to setting US defense priorities. This comes on the heels of signing the most recent National Defense Authorization Act (NDAA), which sets the funding priorities and authorities for the US military for the fiscal year that runs through September 30, 2018.
The National Security Strategy comes at a time of growing influence from China and Russia, a concern over transnational terror organizations, and an intense focus on the nuclear threat posed by North Korea. In addition, some within the US national security community believe that the US must move to reinforce influence in the Western Hemisphere to prevent countries such as Russia and China from securing increased economic influence through foreign investment, petroleum development and trade, and direct lending to countries in Central and South America.
Among the core priorities of the Trump Administration for the coming year are the following:
- Enhanced immigration enforcement and restrictions as a tool for domestic security;
- Increased defense spending, including on missile defense systems and force projection; and
- Building on the successful military efforts to defeat ISIS in Iraq by continuing funding for programs and resources to take military action against terrorist safe havens.
Cyber security remains a critical area of focus for both the White House and Congressional lawmakers, particularly with the continued investigations into the scope of the Russian election year interference in the US. Innovative technologies, as well as funding for modernization of both procurement and new technology deployment, remain high priorities in the US national security context.
Foreign direct investment will likely see policy changes in 2018. Support and momentum for further changes to the scope and influence of the Committee on Foreign Investment in the United States (CFIUS) continue to build, with a growing consensus that additional clarity is needed, along with a broader scope of review than national security and critical infrastructure. In 2018, legislation sponsored by Senator John Cornyn and backed by the Trump Administration, is likely to be considered by Congress. Coming on the heels of yet another year in which the volume of transactions reviewed by CFIUS increased, and with even greater scrutiny of foreign investment, the outcome of the debate over the Foreign Investment Risk Review Modernization Act (FIRRMA) will have meaningful national security and economic consequences. Among the changes proposed in FIRRMA are the following:
- Expanding the scope of covered transactions to include real estate in close proximity to government installations, acquisitions of “innovative technologies,” and joint ventures and licensing arrangements that involve technology transfer;
- Expanding the timeframe for CFIUS reviews to up to 120 days, from the current 75 days;
- Creating mandatory filing circumstances, rather than solely voluntary proceedings;
- Creating an expedited review process that allows CFIUS to review an overview of a transaction and the parties to it, rather than requiring a full Notice; and
- Expanding the factors that CFIUS must consider in evaluating foreign acquisitions and investments.
2017 saw a number of developments in Canada’s foreign investment review law, the Investment Canada Act, that will affect foreign investors in 2018. Foreign buyers of Canadian businesses are less likely to require approval from the Minister of Innovation, Science and Economic Development under the “net benefit to Canada” test as a result of increases in the review thresholds this year. This is a very positive change for foreign investors, especially those from certain countries as outlined below. At the same time, foreign investors looking to acquire Canadian businesses that may be engaged in the defense, telecommunications or otherwise technologically-sensitive sectors need to be aware of the potential for lengthy and rigorous national security reviews. There is no threshold for such reviews so that acquisitions of even small Canadian businesses— including minority investments—can be subject to national security review. While the Canadian Government’s August 31, 2017 Annual Report on the Investment Canada Act (the Report) highlights the relative infrequency of such reviews, the consequences of such a review can be draconian (e.g., divestiture of a completed transaction).
“Net benefit” review streamlined
The review of foreign investments into Canada under the “net benefit to Canada” test has been significantly streamlined this year for private sector investors— i.e., those that are not controlled or influenced by foreign governments—from certain countries. As of September 21, 2017, the new review threshold under the Canada-European Union Comprehensive Economic and Trade Agreement (CETA) came into effect, significantly increasing the threshold for EU investors to CA$1.5 billion in enterprise value of the Canadian target. This means that fewer transactions will be subject to the “net benefit to Canada” test which typically requires investors to provide commitments to the Government relating to, among other factors, levels of employment, participation of Canadians in senior management, maintaining head office functions in Canada and capital expenditures.
The increase in the review threshold is good news for foreign investors and not just those from the EU. Private sector investors from countries with which Canada has a free trade agreement also benefit from the higher review threshold. These “trade agreement countries” are: Chile, Colombia, Honduras, Mexico, Panama, Peru, South Korea and the US.
In addition to the higher threshold applicable to investors from the EU and the “trade agreement countries”, the Canadian Government has accelerated the increase in the “net benefit to Canada” threshold applicable to investors from other World Trade Organization countries from CA$800 million to CA$1 billion – two years ahead of schedule.
Five full-fledged national security reviews were conducted in 2016-17. Four of those were the result of Cabinet Orders, while one review was pursuant to a November 2016 Federal Court Order, which set aside a 2015 Cabinet Order (under the previous Government) for divestiture, and remitted the matter back to the Minister for a “fresh” review (the O-Net case). A final Cabinet Order was issued in all five cases in which reviews were conducted. In three cases, the non-Canadian was ordered to divest itself of control of the Canadian business. In two cases, the investment was authorized with the imposition of conditions that mitigated the identified national security risks to a degree that allowed the investment to proceed.
These results highlight two points for foreign investors. First, if there is any doubt whether national security could be a concern in a transaction, investors should make the appropriate filing (a notification or application for review) more than 45 days prior to closing to receive comfort that a review will not be ordered nor a divestiture remedy sought. Second, mitigation of the national security risk now appears to be a remedy that has become more accepted by the Government in certain circumstances.
The Report also notes that the most common factors in national security review were: the potential for transfer of sensitive dual-use technology or know-how outside of Canada; the potential to negatively impact the supply of critical services to Canadians or the Government; and the potential to enable foreign surveillance or espionage.
Finally, the Report also underlines the lengthy potential duration of the review process – more than 200 days if each stage of the national security process is fully engaged.
The Canadian Government’s efforts to reduce the number of “net benefit to Canada” reviews should be welcome news to investors looking to buy Canadian businesses. However, this streamlining leaves behind investors who are state-owned enterprises (SOEs), which continue to be subject to a lower review threshold (CA$379 million in the book value of the Canadian target’s assets). In addition, there has been no formal renunciation by this Government of the previous Government’s policy banning SOE acquisitions of control of Canadian oil sands businesses.
The Government’s provision of more guidance regarding national security review with the release of its guidelines late in 2016 and its enhanced communication relating to national security review in the Report are helpful to foreign investors and their advisors. At the same time, as a result of a few investments that have captured media attention in 2017, there is a perception in some quarters that national security reviews may be more subjective, politically motivated, and therefore, unpredictable than previously thought. Whether this view has merit is difficult to ascertain given that, despite the Government’s efforts to increase transparency, the national security review process in Canada remains largely opaque.