John P. Carlin, Nicholas J. Spiliotes, Robert S. Litt, Panagiotis C. Bayz, Charles L. Capito III, and Amy S. Josselyn
National Security, CFIUS, Sanctions + Export Controls
The Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”), which became law on August 13, 2018, effected sweeping change to the authority and processes of the Committee on Foreign Investment in the United States (“CFIUS”). Many of FIRRMA’s most significant changes were not effective immediately, however, as they are subject to rulemaking by the Department of the Treasury. If there were any questions whether Treasury would let the regulatory process initiated by FIRRMA linger, those questions were just answered with the release of unprecedented new CFIUS regulations that include possible multi-billion dollar fines across almost 30 critical technology-related industries, and provisions that make filing certain notifications with CFIUS mandatory.
On October 10, 2018, Treasury published two interim rules announcing new regulations implementing some of the most critical and transformational aspects of FIRRMA. Although several aspects of these rules are expected or technical updates to the existing regulations, many of the provisions – especially CFIUS’s new “pilot program” – represent a substantial broadening of CFIUS’s jurisdiction and its importance to the investment community in the United States.
In particular, one interim rule establishes new regulations (31 C.F.R. Part 801) for a CFIUS “pilot program” effective November 10, 2018. Such a pilot program was explicitly authorized by FIRRMA pending issuance of implementing regulations, and it is expected to remain in effect until the final regulations are issued, probably by February 2020.
Key takeaways regarding the new pilot program include:
The second interim rule, which became effective October 11, 2018, updates the existing CFIUS regulations (31 C.F.R. Part 800) to incorporate provisions of FIRRMA that were immediately effective upon its enactment.
Expanded CFIUS Jurisdiction Under the Pilot Program
Prior to the implementation of FIRRMA, CFIUS’s national security review jurisdiction was limited to transactions that could result in control of a U.S. business by a foreign person. The CFIUS pilot program expands the scope of transactions reviewable by CFIUS to include certain non-controlling investments in U.S. businesses that produce, design, test, manufacture, fabricate, or develop “critical technologies” used in connection with, or designed specifically for, one or more of the 27 pilot program industries identified in the regulations. Such businesses are termed “pilot program U.S. businesses.”
Under the pre-FIRRMA CFIUS regime, a “critical technology” generally was defined as:
Due to the revisions to the CFIUS regulations effective October 11, critical technology now also includes “emerging and foundational technologies” identified and controlled under the Export Control Reform Act of 2018 enacted concurrent with FIRRMA (which was also described in our recent Client Alert).
The expanded CFIUS pilot program jurisdiction applies if the investment is in a pilot program U.S. business and does not result in control of the U.S. business, but will afford a foreign person:
Notably, an investment meeting the above requirements (i.e., a “pilot program covered investment”) is covered under the CFIUS pilot program regardless of the percentage of voting interest acquired, whether CFIUS reviewed a previous investment by the same foreign person in the same U.S. business, and whether the relevant critical technology became controlled under the Export Control Reform Act after the effective date of the pilot program. Pilot program covered investments also include the acquisition of a “contingent equity interest,” or a financial instrument that is convertible into an equity interest with voting rights.
Clarification for Investment Fund Investments Involving Foreign Limited Partners: The pilot program also incorporates FIRRMA’s clarification regarding treatment of the participation by foreign persons as limited partners or equivalents in investment fund investments for the purposes of CFIUS’s jurisdiction over non-controlling investments. Specifically, an indirect investment by a foreign person as a limited partner in an investment fund will not be considered a covered transaction under the CFIUS pilot program if all of the following requirements are met:
Expanded CFIUS Notice Requirements for Pilot Program Covered Transactions: In addition to the content requirements for notifications to CFIUS under the existing regulations, the CFIUS pilot program requires additional information for notices relating to “pilot program covered transactions.” Pilot program covered transactions include the pilot program covered investments described above, as well as covered transactions under the existing CFIUS regulations (i.e., acquisitions or controlling investments by foreign persons) involving critical technologies in one or more of the pilot program industries. These expanded notice content requirements generally include statements from the parties as to whether the transaction qualifies as a pilot program covered transaction and if so, descriptions of the critical technologies at issue.
Applicability to Completed and Pending Transactions: The new pilot program regulations do not apply to transactions completed before the pilot program effective date (November 10, 2018). They also do not apply to transactions for which, prior to October 11, 2018, (1) the parties have executed a binding written agreement or other document establishing the material terms of the transaction, (2) a party has made a public offer to shareholders to buy shares of a U.S. business, or (3) a shareholder has solicited proxies in connection with the election of the board of directors or has requested the conversion of convertible voting securities.
Mandatory Declarations for Pilot Program Covered Transactions
With the implementation of the new CFIUS pilot program regulations, parties to a pilot program covered transaction must submit to CFIUS either (1) an abbreviated “declaration” describing the transaction and the parties; or (2) a full written notice pursuant to the existing CFIUS regulations. If the parties decide to submit a declaration in lieu of a full written notice, it must be submitted at least 45 days before the completion date of the transaction (or promptly after November 10, 2018 if the completion date is on or before December 25, 2018). Any party that fails to comply with the mandatory declaration requirements may be liable to the U.S. government for a civil penalty not to exceed the value of the pilot program covered transaction. The requirement of a mandatory filing is a significant change from pre-FIRRMA rules, under which filing of a CFIUS notice was optional.
Declarations under the pilot program are required to contain much of the same information as full CFIUS notices, but are intended to be no more than five pages in length. The declaration generally must (1) identify the parties; (2) describe the transaction and interests the investor will acquire; (3) state whether the transaction is a pilot program transaction and/or a foreign government-controlled transaction; (4) describe the U.S. business’s activities, locations, and relevant critical technologies; (5) identify the U.S. business’s contracts with U.S. government agencies and/or funding received from U.S. government sources; (6) describe the foreign person’s business, organizational structure, and parent entities; (7) identify whether any party has been a party to another transaction notified to CFIUS; and (8) state whether the parties, their parents, or their subsidiaries have been convicted of a crime in any jurisdiction.
CFIUS will have 30 days to review the declaration and take one of the following four actions in response:
Notably, unlike CFIUS reviews of full written notices, CFIUS may not reset the 30-day review timeline by requesting or recommending that the parties withdraw and refile a declaration, except to permit parties to correct material errors or omissions.
Revisions to the Existing CFIUS Regulations Based on FIRRMA
Effective October 11, the existing CFIUS regulations in 31 C.F.R. Part 800 were also revised to reflect certain provisions of FIRRMA that were immediately effective upon enactment. These revised regulations only apply, however, to CFIUS reviews initiated on or after the effective date of the changes (October 11, 2018). Key changes to the existing regulations include:
 The impact of FIRRMA on foreign investors and U.S. companies was the subject of a previous Client Alert.
 Both interim rules cite “urgent and compelling circumstances” to support the effectiveness of the regulations prior to the end of the 30-day public comment period called for under the Defense Production Act (“DPA”). However, the interim rules allow for written comments to be submitted by November 10, 2018, and state that any such comments will be taken into consideration before the final rules are issued.
CFIUS PILOT PROGRAM INDUSTRIESDefined by North American Industry Classification System (“NAICS”) Code
Pilot Program Industries
Establishments primarily engaged in one or more of the following: (1) manufacturing or assembling complete aircraft; (2) developing and making aircraft prototypes; (3) aircraft conversion (i.e., major modifications to systems); and (4) complete aircraft overhaul and rebuilding (i.e., periodic restoration of aircraft to original design specifications).
Aircraft Engine and Engine Parts Manufacturing
Establishments primarily engaged in one or more of the following: (1) manufacturing aircraft engines and engine parts; (2) developing and making prototypes of aircraft engines and engine parts; (3) aircraft propulsion system conversion (i.e., major modifications to systems); and (4) aircraft propulsion systems overhaul and rebuilding (i.e., periodic restoration of aircraft propulsion system to original design specifications).
Alumina Refining and Primary Aluminum Production
Establishments primarily engaged in one or more of the following: (1) refining alumina (i.e., aluminum oxide) generally from bauxite; (2) making aluminum from alumina; and/or (3) making aluminum from alumina and rolling, drawing, extruding, or casting the aluminum they make into primary forms. Establishments in this industry may make primary aluminum or aluminum-based alloys from alumina.
Ball and Roller Bearing Manufacturing
Establishments primarily engaged in manufacturing ball and roller bearings of all materials.
Computer Storage Device Manufacturing
Establishments primarily engaged in manufacturing computer storage devices that allow the storage and retrieval of data from a phase change, magnetic, optical, or magnetic/optical media. Examples of products made by these establishments are CD-ROM drives, floppy disk drives, hard disk drives, and tape storage and backup units.
Electronic Computer Manufacturing
Establishments primarily engaged in manufacturing and/or assembling electronic computers, such as mainframes, personal computers, workstations, laptops, and computer servers. Computers can be analog, digital, or hybrid. Digital computers, the most common type, are devices that do all of the following: (1) store the processing program or programs and the data immediately necessary for the execution of the program; (2) can be freely programmed in accordance with the requirements of the user; (3) perform arithmetical computations specified by the user; and (4) execute, without human intervention, a processing program that requires the computer to modify its execution by logical decision during the processing run. Analog computers are capable of simulating mathematical models and contain at least analog, control, and programming elements. The manufacture of computers includes the assembly or integration of processors, coprocessors, memory, storage, and input/output devices into a user-programmable final product.
Guided Missile and Space Vehicle Manufacturing
Establishments primarily engaged in (1) manufacturing complete guided missiles and space vehicles and/or (2) developing and making prototypes of guided missiles or space vehicles.
Guided Missile and Space Vehicle Propulsion Unit and Propulsion Unit Parts Manufacturing
Establishments primarily engaged in (1) manufacturing guided missile and/or space vehicle propulsion units and propulsion unit parts and/or (2) developing and making prototypes of guided missile and space vehicle propulsion units and propulsion unit parts.
Military Armored Vehicle, Tank, and Tank Component Manufacturing
Establishments primarily engaged in manufacturing complete military armored vehicles, combat tanks, specialized components for combat tanks, and self-propelled weapons.
Nuclear Electric Power Generation
Establishments primarily engaged in operating nuclear electric power generation facilities. These facilities use nuclear power to produce electric energy. The electric energy produced in these establishments is provided to electric power transmission systems or to electric power distribution systems.
Optical Instrument and Lens Manufacturing
Establishments primarily engaged in one or more of the following: (1) manufacturing optical instruments and lenses, such as binoculars, microscopes (except electron, proton), telescopes, prisms, and lenses (except ophthalmic); (2) coating or polishing lenses (except ophthalmic); and (3) mounting lenses (except ophthalmic).
Other Basic Inorganic Chemical Manufacturing
Establishments primarily engaged in manufacturing basic inorganic chemicals (except industrial gases and synthetic dyes and pigments).
Other Guided Missile and Space Vehicle Parts and Auxiliary Equipment Manufacturing
Establishments primarily engaged in (1) manufacturing guided missile and space vehicle parts and auxiliary equipment (except guided missile and space vehicle propulsion units and propulsion unit parts) and/or (2) developing and making prototypes of guided missile and space vehicle parts and auxiliary equipment.
Establishments primarily engaged in (1) manufacturing acyclic (i.e., aliphatic) hydrocarbons such as ethylene, propylene, and butylene made from refined petroleum or liquid hydrocarbons and/or (2) manufacturing cyclic aromatic hydrocarbons such as benzene, toluene, styrene, xylene, ethyl benzene, and cumene made from refined petroleum or liquid hydrocarbons.
Powder Metallurgy Part Manufacturing
Establishments primarily engaged in manufacturing powder metallurgy products using any of the various powder metallurgy processing techniques, such as pressing and sintering or metal injection molding. Establishments in this industry generally make a wide range of parts on a job or order basis.
Power, Distribution, and Specialty Transformer Manufacturing
Establishments primarily engaged in manufacturing power, distribution, and specialty transformers (except electronic components). Industrial-type and consumer-type transformers in this industry vary (e.g., step up or step down) voltage but do not convert alternating to direct or direct to alternating current.
Primary Battery Manufacturing
Establishments primarily engaged in manufacturing wet or dry primary batteries.
Radio and Television Broadcasting and Wireless Communications Equipment Manufacturing
Establishments primarily engaged in manufacturing radio and television broadcast and wireless communications equipment. Examples of products made by these establishments are transmitting and receiving antennas, cable television equipment, GPS equipment, pagers, cellular phones, mobile communications equipment, and radio and television studio and broadcasting equipment.
Research and Development in Nanotechnology
Establishments primarily engaged in conducting nanotechnology research and experimental development. Nanotechnology research and experimental development involves the study of matter at the nanoscale (i.e., a scale of about 1 to 100 nanometers). This research and development in nanotechnology may result in development of new nanotechnology processes or in prototypes of new or altered materials and/or products that may be reproduced, utilized, or implemented by various industries.
Research and Development in Biotechnology (except Nanobiotechnology)
Establishments primarily engaged in conducting biotechnology (except nanobiotechnology) research and experimental development. Biotechnology (except nanobiotechnology) research and experimental development involves the study of the use of microorganisms and cellular and biomolecular processes to develop or alter living or non-living materials. This research and development in biotechnology (except nanobiotechnology) may result in development of new biotechnology (except nanobiotechnology) processes or in prototypes of new or genetically-altered products that may be reproduced, utilized, or implemented by various industries.
Secondary Smelting and Alloying of Aluminum
Establishments primarily engaged in (1) recovering aluminum and aluminum alloys from scrap and/or dross (i.e., secondary smelting) and making billet or ingot (except by rolling) and/or (2) manufacturing alloys, powder, paste, or flake from purchased aluminum.
Search, Detection, Navigation, Guidance, Aeronautical, and Nautical System and Instrument Manufacturing
Establishments primarily engaged in manufacturing search, detection, navigation, guidance, aeronautical, and nautical systems and instruments. Examples of products made by these establishments are aircraft instruments (except engine), flight recorders, navigational instruments and systems, radar systems and equipment, and sonar systems and equipment.
Semiconductor and Related Device Manufacturing
Establishments primarily engaged in manufacturing semiconductors and related solid-state devices. Examples of products made by these establishments are integrated circuits, memory chips, microprocessors, diodes, transistors, solar cells and other optoelectronic devices.
Semiconductor Machinery Manufacturing
Establishments primarily engaged in manufacturing wafer processing equipment, semiconductor assembly and packaging equipment, and other semiconductor making machinery.
Storage Battery Manufacturing
Establishments primarily engaged in manufacturing storage batteries.
Telephone Apparatus Manufacturing
Establishments primarily engaged in manufacturing wire telephone and data communications equipment. These products may be stand-alone or board-level components of a larger system. Examples of products made by these establishments are central office switching equipment, cordless and wire telephones (except cellular), PBX equipment, telephone answering machines, LAN modems, multi-user modems, and other data communications equipment, such as bridges, routers, and gateways.
Turbine and Turbine Generator Set Units Manufacturing
Establishments primarily engaged in manufacturing turbines (except aircraft); and complete turbine generator set units, such as steam, hydraulic, gas, and wind.
©1996-2019 Morrison & Foerster LLP. All rights reserved.