New rules proposed by the Committee on Foreign Investment in the United States (CFIUS), released on April 11, 2024, can be understood in two ways: the practical effects and signaling effects.
The Practical Effects
The proposed rules, a version of which likely will become effective later this year, generally are technical amendments to existing rules. The amendments would:
- Increase the maximum penalty for certain violations of CFIUS rules from $250,000 to $5 million per violation (or, in some cases, the value of the transaction when that value is greater than $5 million);
- Expand CFIUS’s authority to obtain information, whether from the transaction parties or from third parties that might have relevant information about the transaction; and
- Obligate parties to a transaction to respond within three business days to CFIUS “mitigation” proposals (i.e., conditions that CFIUS deems necessary to clear the transaction).
Only the third issue, concerning obligations to respond to CFIUS proposals within three days, is likely to generate controversy. It is not clear, though, that the three-day turnaround time would have much impact, as parties generally can provide some substantive response within three days, even if it is not a complete response. CFIUS seemingly will say that a preliminary substantive response is sufficient, though this point is not entirely clear in the rule proposal.
The Signaling Effects
The proposed rules confirm a U.S. government skepticism of foreign investment that has been accelerating since at least the enactment of the 2018 Foreign Investment Risk Review Modernization Act (FIRRMA).
Prior to FIRRMA, perhaps the most notable CFIUS feature was the availability of “CFIUS insurance.” Insurance could be obtained via voluntary filings; transaction parties made these filings largely for high-dollar-value deals. CFIUS clearance provided (and still provides) assurance that CFIUS would not take adverse action against the deal. Now, however, there is a “prosecutorial” regime that casts a bigger shadow.
This prosecutorial regime may target a broad array of transactions—as explained below, we estimate that the pool of potential targets exceeds 10,000 transactions per year. Many of these are not large transactions for which the purchase of CFIUS insurance (via a voluntary filing) is sensible. Many thousands of these transacting parties may forgo CFIUS insurance (i.e., no voluntary filings), but they must proceed with caution lest they draw the ire of the CFIUS “prosecutors.” CFIUS is now arming itself with more prosecutorial tools: namely, as outlined in CFIUS’s new proposed rules, increased penalties, expanded investigative authority, and more leverage to force parties to negotiate mitigation measures. The scope of the prosecutorial targets, though, is unclear.
A CFIUS Insurance Regime via Voluntary Filings
Prior to FIRRMA, there was relatively little tension between CFIUS and the longstanding U.S. “Open Investment” policy that encouraged foreign investment. Until that time, CFIUS functioned largely as an optional insurance policy that transaction parties could obtain to protect against the low likelihood of CFIUS concern. Obtaining that insurance necessitated a voluntary filing, yielding relatively rapid CFIUS reviews, with CFIUS typically clearing cases after 30 days(!), thereby assuring the transaction parties that CFIUS would not take adverse action. The transactions for which a filing “norm” existed generally were limited to large mergers and acquisitions, where a 30-day wait time and attendant legal fees were nearly always miniscule in comparison to the deal value and timeline.
Now, however, CFIUS has indicated it might have an interest in a very wide variety of equity transactions. We estimate that, in light of the broad and nebulous definitions for a “foreign person” and a “U.S. business,” as well as ambiguities in other key CFIUS terms (e.g., “control” and “TID U.S. business”), CFIUS has discretion to intervene in more than 10,000 transactions per year. For many of these transactions, the now-typical multi-month CFIUS process—involving rigorous/laborious reviews and concomitant legal costs of several hundred thousand dollars or more—makes the CFIUS insurance purchase impractical for many parties.
A CFIUS Prosecutorial Regime via Non-Notified Searches and Enforcement
Particularly in the last few years, CFIUS has determined that many transactions of potential interest to CFIUS are not filed voluntarily. Accordingly, CFIUS has increased dramatically the number of staff searching public and private data for these transactions. Further, for a growing number of these transactions—albeit a very small percentage of the many thousands subject to CFIUS jurisdiction—CFIUS has taken adverse action, such as forcing divestment, imposing mitigation measures, and extracting monetary penalties from companies that do not comply with mitigation measures or other CFIUS rules. The proposed rules enhance CFIUS’s authorities with respect to all of these prosecutorial tools.
It seems sensible for CFIUS to search for transactions of concern that have not been filed voluntarily and, perhaps, to use prosecutorial tools when finding such transactions of concern. But it remains unclear what, beyond links to China, will give rise to CFIUS use of these prosecutorial tools.
Will CFIUS seek to prosecute when, for example, a European investor and a U.S. biotech start-up fail to make a mandatory filing? What are the prosecutorial targets (beyond investors linked to China)? It’s not responsive for CFIUS to say, in effect, “make a voluntary filing so that we can tell you whether a specific deal is a target”—that CFIUS insurance purchase is simply impractical for thousands of transacting parties.
The resulting uncertainty makes a difference. Legal costs rise and deals are restructured, reduced in size, or deterred altogether. This drag on investment harms U.S. businesses, especially small businesses without the time and resources to buy CFIUS insurance. Those with particularly interesting technologies are harmed the most; without the wherewithal to make a CFIUS filing and facing risk-conscious foreign investors, they often must make the decision to limit or forego foreign funding altogether. This reduces U.S. innovation through lack of access to capital (in the very sectors CFIUS asserts an interest in protecting) and, in so doing, harms U.S. national security (the very threat CFIUS intends to protect against).
See Very Big Hammer; Be Cautious
CFIUS soon will have enhanced prosecutorial tools to wield when policing transactions for national security risk—that much is clear. The scope of the targets, however, is not. “Be cautious about foreign investment, particularly as we are enhancing our hammer,” CFIUS seems to be saying. How to put that caution into action, however, increasingly requires both experienced advice and a willingness to tolerate uncertainty.
