A new foreign investment review regime
The high levels of M & A activity of 2021 have continued through the first quarter of 2022, with the economy in the region seeing deals in many sectors, writes Nick Burt, Legal Director at Birketts LLP.
These include the water treatment equipment manufacturer Genus Water being sold to Kinetico; premium milkshake producer Shaken Udder taking on a minority investment from LDC and SDI Group plc acquiring fume cupboard manufacturer Safelab Systems.
The strong transaction pipeline looks to continue through the second quarter despite the headwinds of inflation and growing interest rates, supply chain and recruitment challenges and, of course, the upheaval of the Russian invasion of Ukraine and the economic impact on all of new sanctions regimes.
Another addition to the M & A landscape is the new UK foreign investment review regime introduced by the National Security Investment Act 2021 (NSI Act).
This provides the Government with extensive powers to investigate and impose conditions on a wide range of transactions on national security grounds It also requires businesses and investors to submit mandatory notifications to the government for certain transactions concerning “qualifying entities” (e.g. a company) and “qualifying assets” (e.g. land and intellectual property) in seventeen key sectors of the economy where particular “trigger events” occur.
These 17 sectors are detailed in regulations issued under the NSI Act and include areas that would be expected to come to mind in the context of national security, such as defence, energy and transport, but the wide ranging scope of the sector descriptions captures many more businesses than might be expected.
Further, there is no threshold test before the regime applies, such as a market share or turnover test. Consequently, many small and medium-sized transactions that were previously not subject to regulatory review will be subject to the new review regime.
The definition of the defence sector includes not just weapon systems, planes and vehicles, but also “the research, development, production, creation or application of goods or services which are used or provided for defence or national security purposes” where the qualifying entity is a government contractor or any sub-contractor in a chain of sub-contractors with a government contractor.
The scope of defence is wide so supplying anodyne goods such as food to another business that in turn supplies those goods to the Ministry of Defence could fall within the scope of the defence sector.
Accordingly, a key to understanding whether a business falls within one of the seventeen notifiable sectors will be an analysis of its customer contracts.
Likewise, understanding how the products and services of a business are used will be important. The “advanced materials” sector is also very wide, covering not just the development or production of nanotechnology and semiconductors, but also any business that develops or produces an “enabler”.
An enabler is any material or process used in the manufacture or application of an advanced material and so this could capture businesses whose activities are merely making something that is then used by someone else to produce an advanced material.
Just because a business is active within a particular sector does not mean a notification must be made before proceeding. A transaction must include a trigger event before a mandatory notification is required to be made.
The trigger events set out in the NSI Act include the acquisition of (i) control of a qualifying asset and (ii) more than 25 per cent, more than 50 per cent, or 75 per cent or more of the votes or shares in a qualifying entity. Transactions that are not outright changes of control, but merely changes of shareholdings, can be subject to the mandatory notification regime.
The timetable impact of having to make a notification should not be underestimated; once a notification is submitted to, and accepted by, the Investment Security Unit (a newly created unit within the Department for Business, Enterprise and Industrial Strategy), this starts a period of 30 working days for an initial review.
During this period the Secretary of State must decide whether to exercise the “call-in” power granted by the NSI Act in order to carry out a more detailed review or to clear the notified transaction.
A failure to obtain clearance before completing a deal where a mandatory notification is required has serious consequences, with the transaction being void and the buyer risking a penalty of five per cent of group worldwide turnover or £10m (whichever is higher), and its directors liable for offences carrying custodial sentences of up to five years.
While deal activity continues at pace across a broad range of sectors, those that fall within the regime of the NSI Act will need acquirers and investors to undertake more detailed due diligence.
Failing to understand whether a business operates in one of the sensitive sectors that could trigger a notification requirement and the 30 working days assessment, affecting timetables, deal terms and structures.
How the new regime impacts transactions in these sensitive sectors, which are important to national economic growth and already dealing with many challenges, remains to be seen.
• You can call Nick Burt on 01223 326 614 or email him at: Nick-burt [at] birketts.co.uk