The Situation: On October 10, 2018, the U.S. Department of the Treasury ("Treasury") published an interim rule establishing a pilot program for the Committee on Foreign Investment in the United States ("CFIUS") that mandates filing declarations with CFIUS in connection with certain foreign investments in particular U.S. businesses.

The Result: Beginning November 10, 2018, parties to proposed transactions involving a foreign investment in certain U.S. "critical technology" businesses will be required to file a mandatory declaration with CFIUS.

Looking Ahead: U.S. businesses should evaluate whether they are covered by the pilot program, and parties to proposed transactions should evaluate whether their transactions are subject to a mandatory CFIUS declaration, which must be submitted 45 days before completion of a covered transaction.

As we previously discussed, President Trump recently signed the Foreign Investment Risk Review Modernization Act ("FIRRMA") into law. FIRRMA broadens the scope of transactions reviewable by CFIUS to include certain "other transactions," including those involving U.S. "critical technology" companies, and mandates the filing of declarations with CFIUS for certain transactions. On October 10, 2018, Treasury announced an interim rule establishing a CFIUS "pilot program" that defines "critical technologies" as those technologies subject to specified controls and implements FIRRMA's mandatory declaration provision effective November 10, 2018. Before this pilot program, filing a CFIUS notice was voluntary.

To aid businesses in assessing how the pilot program may affect future transactions, this Commentary discusses the steps for determining whether the parties to a transaction must file a mandatory declaration and the timing and procedures for filing a mandatory declaration.

Transactions Requiring a Mandatory Declaration

To assess whether a proposed foreign investment in a U.S. business triggers a mandatory declaration under the new pilot program, parties to the proposed transaction must determine whether: (i) the U.S. business is a "pilot program U.S. business" and (ii) the transaction is a "pilot program covered transaction."

Step One: Is the U.S. Business a "Pilot Program" U.S. Business? When assessing whether the U.S. business is a pilot program U.S. business, parties first must determine whether the U.S. business "produces, designs, tests, manufactures, fabricates, or develops a critical technology." The interim rule defines "critical technologies" as follows:

  • Defense articles or defense services controlled by the International Traffic in Arms Regulations;
  • Items controlled by the Export Administration Regulations for reasons relating to national security, chemical and biological weapons proliferation, nuclear nonproliferation, or missile technology, or for reasons relating to regional stability or surreptitious listening;
  • Certain specially designed and prepared nuclear equipment, parts and components, materials, software, and technology;
  • Certain nuclear facilities, equipment, and material;
  • Select agents and toxins; and
  • Emerging or foundational technologies controlled pursuant to section 1758 of the Export Control Act of 2018.

While the first five categories of critical technologies are familiar to those with experience before CFIUS, the emerging and foundational technologies category is newly implemented under FIRRMA and has not been defined.

To the extent a U.S. business produces, designs, tests, manufactures, fabricates, or develops a critical technology, the parties must then determine whether that critical technology is "[u]tilized in connection with the U.S. business's activity in" or "designed ... specifically for use in" one or more of the following 27 "pilot program industries" listed in Annex A to the interim rule:

  1. Aircraft Manufacturing (NAICS Code: 336411)
  2. Aircraft Engine and Engine Parts Manufacturing (NAICS Code: 336412)
  3. Alumina Refining and Primary Aluminum Production (NAICS Code: 331313)
  4. Ball and Roller Bearing Manufacturing (NAICS Code: 332991)
  5. Computer Storage Device Manufacturing (NAICS Code: 334112)
  6. Electronic Computer Manufacturing (NAICS Code: 334111)
  7. Guided Missile and Space Vehicle Manufacturing (NAICS Code: 336414)
  8. Guided Missile and Space Vehicle Propulsion Unit and Propulsion Unit Parts Manufacturing (NAICS Code: 336415)
  9. Military Armored Vehicle, Tank, and Tank Component Manufacturing (NAICS Code: 336992)
  10. Nuclear Electric Power Generation (NAICS Code: 221113)
  11. Optical Instrument and Lens Manufacturing (NAICS Code: 333314)
  12. Other Basic Inorganic Chemical Manufacturing (NAICS Code: 325180)
  13. Other Guided Missile and Space Vehicle Parts and Auxiliary Equipment Manufacturing (NAICS Code: 336419)
  14. Petrochemical Manufacturing (NAICS Code: 325110)
  15. Powder Metallurgy Part Manufacturing (NAICS Code: 332117)
  16. Power, Distribution, and Specialty Transformer Manufacturing (NAICS Code: 335311)
  17. Primary Battery Manufacturing (NAICS Code: 335912)
  18. Radio and Television Broadcasting and Wireless Communications Equipment Manufacturing (NAICS Code: 334220)
  19. Research and Development in Nanotechnology (NAICS Code: 541713)
  20. Research and Development in Biotechnology (except Nanobiotechnology) (NAICS Code: 541714)
  21. Secondary Smelting and Alloying of Aluminum (NAICS Code: 331314)
  22. Search, Detection, Navigation, Guidance, Aeronautical, and Nautical System and Instrument Manufacturing (NAICS Code: 334511)
  23. Semiconductor and Related Device Manufacturing (NAICS Code: 334413)
  24. Semiconductor Machinery Manufacturing (NAICS Code: 333242)
  25. Storage Battery Manufacturing (NAICS Code: 335911)
  26. Telephone Apparatus Manufacturing (NAICS Code: 334210)
  27. Turbine and Turbine Generator Set Units Manufacturing (NAICS Code: 333611)

This does not mean that every U.S. business operating in a pilot program industry is a pilot program U.S. business. Instead, a U.S. business is a pilot program U.S. business only if its critical technology is "[u]tilized in connection with the U.S. business's activity in" or "designed ... specifically for use in" one of these pilot program industries.

Step Two: Is the Proposed Transaction a "Pilot Program Covered Investment" or a "Pilot Program Covered Transaction"? If the U.S. business into which a foreign investment will be made is a pilot program U.S. business, then the parties must evaluate the structure of the deal to determine whether it is a pilot program covered transaction. The interim rule defines this as "[a]ny transaction by or with any foreign person that could result in foreign control of any pilot program U.S. business, including such a transaction carried out through a joint venture," or "[a]ny pilot program covered investment," which it defines as:

an investment, direct or indirect, by a foreign person in an unaffiliated pilot program U.S. business that could not result in control by a foreign person of a pilot program U.S. business and that affords the foreign person:

 

          (a) Access to any material nonpublic technical information in the possession of the pilot program U.S. business;

 

          (b) Membership or observer rights on the board of directors or equivalent governing body of the pilot program U.S. business or the right to nominate an individual to a position on the board of directors or equivalent governing body of the pilot program U.S. business; or

 

          (c) Any involvement, other than through voting of shares, in substantive decision[-]making of the pilot program U.S. business regarding the use, development, acquisition, or release of critical technology.

 

The interim rule defines "unaffiliated pilot program U.S. business" to mean, "with respect to a foreign person, a pilot program U.S. business in which that foreign person does not directly hold more than fifty percent of the outstanding voting interest or have the right to appoint more than half of the members of the board of directors or equivalent governing body."

Consistent with CFIUS's traditional focus on whether a foreign person would gain "control" of a U.S. business, the definition of "pilot program covered transactions" includes those that grant a foreign person "control" of the pilot program U.S. business. However, the interim rule also expands transactions within CFIUS's jurisdiction to include passive (i.e., noncontrolling) investments. Even though the three forms of noncontrolling investments are broad, parties may be able to structure transactions where a foreign person (or his or her designee) may serve as a limited partner or equivalent on an advisory board or a committee, subject to the following additional conditions:

  • The fund is managed exclusively by a general partner, managing member, or equivalent who is not the foreign person;
  • The advisory board or committee does not have the ability to approve, disapprove, or otherwise control investment decisions or decisions related to entities in which the investment fund is invested;
  • The foreign person does not otherwise have the ability to control the investment fund, including the ability to approve, disapprove, or otherwise control investment decisions or decisions related to entities in which the investment fund is invested or to unilaterally dismiss, prevent the dismissal of, select, or determine the compensation of the general partner, managing member, or equivalent;
  • The foreign person does not have access to material nonpublic technical information; and
  • The investment fund otherwise complies with 50 U.S.C. § 4565(a)(4)(D).

If a foreign person either gains control of a pilot program U.S. business or if any of the three conditions of a pilot program covered investment are satisfied, then the transaction is a pilot program covered transaction. Therefore, the parties must file a mandatory declaration (or, if they prefer, a voluntary notice in accordance with existing CFIUS regulations).

Filing a Mandatory Declaration

This section explains the timing and contents of, and possible CFIUS responses to, mandatory declarations.

When is the Mandatory Declaration Due and What Happens if Parties do not File a Mandatory Declaration? The interim rule generally requires parties to file mandatory declarations 45 days before the "completion date" of a transaction covered by the pilot program, which is defined as "the date upon which an ownership interest, including a contingent equity interest, is conveyed, assigned, delivered, or otherwise transferred to a person, or a change in rights occurs." To account for the expediency with which the pilot program was implemented, the pilot program allows parties to transactions completed between November 10, 2018, and December 25, 2018, to file on "November 10, 2018, or promptly thereafter." Parties that fail to comply with the interim rule requirements may be subject to a civil penalty not to exceed the value of the pilot program covered transaction.

What Must be Included in a Mandatory Declaration? While FIRRMA provides that mandatory declarations generally should not exceed five pages, the list of information that must be included is extensive, rivaling the information included in a traditional voluntary notice to CFIUS. Indeed, the list of information that should be included in the five-page mandatory declaration spans six pages. The interim rule permits parties to stipulate that the transaction is a pilot program covered transaction or could result in control of a pilot program U.S. business by a foreign person to "streamline" CFIUS's review. Doing so, however, does not limit the information parties must include in their mandatory declaration, although it could reduce the information required in any subsequent written notice. According to the Frequently Asked Questions, CFIUS is developing a web template for parties to use when filing mandatory declarations that will be made available in the coming days.

When will CFIUS Respond, and What are the Possible Responses? Upon receipt of a mandatory declaration, CFIUS "shall promptly ... notify the parties" whether their declaration is accepted or rejected as incomplete, and CFIUS then has 30 days to review the declaration. Unlike voluntary notices, where the clock does not begin to run until CFIUS formally accepts the notice, the interim rule is clear that the 30-day period "shall commence on the date on which is declaration is received" and "shall end no later than the thirtieth day after it has commenced." During this review period, CFIUS may invite the parties to meet with CFIUS staff to discuss the proposed transaction, but CFIUS is prohibited from recommending that the declaration be withdrawn and refiled, unless it does so to permit the parties to correct material errors or omissions.

What are the Possible Responses to a Declaration? At the conclusion of its review of a mandatory declaration, CFIUS may take any of the following four actions: (i) request a full written notice; (ii) inform the parties that its review cannot be completed based on the declaration alone and that the parties may file a notice to seek written notification from CFIUS that CFIUS has completed all action with respect to the transaction; (iii) initiate a unilateral review; or (iv) notify the parties that it has concluded all action with respect to the transaction.

Given the breadth of the interim rule, amount of detail required in a mandatory declaration, and the impending filing deadline, parties to any transaction that may close after November 10, 2018, and that involves foreign investment in a U.S. business that may have a critical technology and operate in a pilot program industry should assess whether their proposed deal is a pilot program covered transaction.


Three Key Takeaways

  1. The interim rule establishes a CFIUS pilot program requiring parties to pilot program covered transactions to file mandatory declarations 45 days in advance of completion date of their transaction or face a substantial civil penalty.
  2. The interim rule targets transactions involving a foreign person's investment in a pilot program U.S. business, which is a U.S. business with controlled technologies that are either used in or designed for one or more of 27 pilot program industries.
  3. Pilot program covered transactions are those in which a foreign person obtains either control over a pilot program U.S. business or gains access to material nonpublic technical information; membership, observer rights, or nomination rights on the board of directors or equivalent governing body; or any involvement in substantive decision-making regarding critical technology in a pilot program U.S. business.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.