This Insight outlines, at a high level, the prior US outbound investment regime, its structure, and some reasons for its ultimate demise. We discuss some useful lessons from the prior attempt and identify areas where investors and industry should prepare in case such a regime were to be imposed. Some of the more crucial factors to consider include the need for transparency regarding the review process, the limitations of current frameworks (such as CFIUS), and the flexibility needed for such a regime to respond to changing geostrategic considerations that do not always provide industry or the government notice before they impact business and regulation.
The last six years have seen an increased focus on ties between national and economic security issues, themes that initially arose in the 1950s, 1980s, and 1990s. These concepts were heavily debated between 2017 and 2018, with a drive by Congress and then-US President Donald Trump to update US foreign direct investment and export laws. During several hearings, members of Congress raised the question of how outbound investments impacted the health of the US industrial base and access to financial markets needed for companies to fund future developments. In passing, the thought of assigning outbound investment authority to the Committee on Foreign Investment in the United States (CFIUS) at least with respect to joint ventures funded and organized overseas was discussed. However, the idea was quickly crushed by the theory that US export laws were the appropriate authorities to manage “outbound” activity.
Fast forward to 2022 and the idea of an outbound investment review regime has been seriously resurrected. The current administration has alluded to a draft executive authority establishing such a framework and Congress recently announced an allocation of $20 million to the Departments of Commerce and Treasury to “study” and present the features of such a regime in relation to any executive order issued for such a regime.
On February 7, the House Financial Services Committee and the House Armed Services Committee held hearings to discuss how the current economic, geopolitical, and geostrategic situation with China, among other countries, can be managed from an inbound and outbound investment side. Witnesses at the House Financial Services Committee hearing were supportive of a tailored approach to outbound investment and the call from members of Congress has increased to establish such a regime.
It appears that we are on the cusp of more concrete action either through a soon-to-issue executive order or through a plan published by the Departments of Treasury and Commerce that outlines such a regime.
With the likelihood that something is in process, ensuring the regime strikes the right balance is crucial, especially in light of the national security and economic equities at stake. Given the potential impact, understanding the United States’ past foray into overseeing and controlling outbound investments is beneficial to limit a repeat of past unsuccessful regulatory approaches. It is generally not well known that the United States actually established an outbound investment review program in 1968 managed by the Department of Commerce. The regime remained in place through 1986, when President Ronald Reagan rescinded the program’s underlying authority. Although the program existed for almost 20 years, it failed to address both economic and, indirectly, national security issues that led President Lyndon Johnson to issue the executive order establishing the program. This lack of success provides a useful roadmap for Congress and the executive branch to consider before launching a program that hinges its approach on concepts that have not been effective.
US Outbound Investment Regime: 1968 to 1986
In the 1960s, President Johnson, the US Congress, the Commerce Department, and the Treasury Department identified significant balance of payments issues with developed, developing, and undeveloped countries. The concerns arose generally around the use of US capital for the funding of indigenous capabilities in other countries to the exclusion of or in lieu of use of that capital in the United States. These concerns resulted in the issuance of Executive Order 11387, “Governing Certain Capital Transfers Abroad,” on January 1, 1968, which established an outbound investment review process delegated for development to the Department of Commerce. The order also directed Commerce to consult with the Departments of State and Treasury, as well as the Federal Reserve Board, to inform Commerce’s decisions.
President Johnson’s executive order relied on both the Trading with the Enemy Act (TWEA) (12 USC 95a as further incorporated into Section 5 of TWEA) and Proclamation No. 2914 (December 16, 1950) that established a national emergency due to the Korean conflict and the growth of communism as identified by then-US President Harry Truman. Even in 1968, questions arose as to the ability of the president to invoke an emergency declaration so far removed from the issues of 1968 (in essence, an 18-year gap for the emergency) and premised upon concerns that were not directly related to the objectives of the executive order. However, President Johnson proceeded and delegated authority to the Department of Commerce to establish the Office of Foreign Direct Investments which issued regulations, 15 CFR Part 1000 (Foreign Direct Investment Regulations), to manage the review and approval process.
The Commerce regulations utilized a “catch and release” approach to establish a multi-tier process of notifications, reporting, and approvals that required financial institutions and/or investors to evaluate funding abroad in relation to a number of criteria. Absent authorizations, the regulations presumptively prohibited the following investments or funding:
- “Positive direct investment”—which included direct investment by investors in affiliated foreign nationals of the direct investor (see 15 CFR § 1000.306)
- “Positive net transfers of capital” by the direct investor to affiliated foreign nationals (further defined by investments in foreign nationals from specific countries) (see 15 CFR § 1000.313)
- “Reinvestment by a direct investor of any portion” of the investor’s shares in the total earnings of incorporated affiliated foreign nationals (further defined by such reinvestments in specific countries) (see 15 CFR § 1000.306)
The regulations defined essential terms such as “foreign national” (15 CFR § 1000.302); “affiliated foreign national” (15 CFR § 1000.304); “direct investor” (15 CFR § 1000.305); “positive and negative direct investment” (15 CFR § 1000.306); and “transfers of capital” (15 CFR § 1000.312). In addition, Commerce identified a prioritized list of countries—in Schedules A, B, and C—which were defined on the basis of the importance of capital flows to the named country. Schedule A included less developed countries and Schedule B included countries specifically identified by the Secretary of Commerce for which “a high level of capital inflow [was] essential for the maintenance of economic growth and financial stability and where those requirements [could] not be met from non-US sources.” 15 CFR § 1000.319(a) and (b). Schedule C countries included those not designated under Schedules A and B.
Within these country lists, Commerce established a framework of authorizations, exemptions (preapprovals) and reporting requirements based on a number of factors, including the need for access to US capital, alternative sources to that capital, the relationship between the parties among whom the capital was transferred, and the impact of approvals or rejections of those transfers on the balance of payments and related US interests. See 15 CFR §§ 1000.314 to 1000.316 and Subpart E (Authorizations or Exemptions). Approvals were not required for certain dollar threshold investments—in essence, such investments were preapproved if an investor met the requirements of the preapproval. See, e.g., 15 CFR § 1000.503(a) and (c); 15 CFR § 1000.504(a) and 15 CFR §1000.505. Investors who were unable to meet the thresholds to qualify for the preapproved investments were required to request approval from Commerce.
In addition to the authorizations outlined in Subpart E, the regulations required investors to “keep in the United States a full and accurate record of each transaction engaged in by it which is subject to the provisions of this part, regardless of whether such transaction is effected pursuant to authorization or otherwise, and of every other transaction between such person and an affiliated foreign national.” 15 CFR § 1000.601. Commerce established a two-year requirement to maintain the records. Id.
The regulations also required investors to submit reports “under oath” for the specified investments. 15 CFR § 1000.602(a). The reports were to be filed with the Office of Foreign Direct Investment and the office retained the authority to conduct investigations into the reported activities, require further reports, and/or take other action in the implementation of the Executive Order and the regulations.
This regime remained relatively inactive, although it did receive reports, approve some investments abroad, and provide Congress reports of its activities. Congress and other organizations provided reports on the effectiveness of the program, some of which are identified below. However, little if any significant impact resulted from the program and in 1986, President Reagan revoked the Johnson-era executive order through Executive Order 12553 (February 25, 1986).
Although President Reagan officially terminated the program and the underlying executive order authority in 1986, the outbound investment regime started to fall apart in the mid- to late-1970s and remained effectively dormant through the issuance of Executive Order 12553. In August 1975, the Senate Committee on Foreign Relations, Subcommittee on Multinational Corporations commissioned a study and issued a report on direct investment abroad and its impact on the key issues as well as the effect on multinational organizations, Direct Investment Abroad and the Multinationals: Effects on the United States Economy (Report). The report basically concluded—in the broadest sense—that the regime was not successful in addressing either balance of payment issues or the downstream effect on US wages, labor/employment, and the health of the industrial base—all key goals of the program. See Report at pp. XIX-XX.
The process was considered cumbersome, confusing, and imprecise, without a clear path to achieve its original objectives. In addition, compliance (and government implementation) was resource intensive for investors and tied, it appeared, to metrics that either remained static in an evolving environment or would have benefitted from a different baseline metric. Subsequent evaluations of the program’s effectiveness outlined the need for such a program but noted the ongoing infirmities that limited its utility.
Based on the Report’s many findings, the Senate concluded that the program lacked adequate transparency and clarity, failed to address key issues based on the manner in which investments were reviewed, and imposed reporting or other requirements that did not appear to be consistently or adequately evaluated in order to inform future decisions. The Senate Committee on Foreign Relations highlighted this latter point, finding that the data collection and lack of analysis created lost opportunities for strong and impactful US policies:
“Currently available data on the foreign operations of multinational corporations is altogether inadequate. It fails to provide the necessary statistical basis on which to derive sound policy conclusions in this increasingly important area. […] The data now collected and provide by government agencies on the foreign operations of multinationals is often discontinuous, insufficiently detailed, hidden in overall totals, of poor quality (especially with respect to industrial classifications) and hobbled by confidentiality restrictions.”
Report at p. XXI. However, it appears that Congress chose not to act to either legislatively alter the program or take steps to establish an updated regime that would meet the objectives originally outlined by President Johnson’s executive order.
Why is This Relevant?
As noted above, public reports indicate that the US president is on the cusp of issuing an executive order regarding an outbound foreign investment regime or Congress may be poised to act. Whether the president issues an executive order or Congress takes legislative steps, investors should expect to prepare for new regulatory oversight, restrictions, and documentation that will potentially affect the timing, focus, and manner in which investments outside of the United States will be made. Given how the current administration has approached other national-security-related restrictions, a broad reach with carveouts for certain types of outbound investments is expected. Focusing on how the US government managed an outbound investment regime in the 1960s (through the 1980s) will be instructive.
For the last several decades, the United States has focused national security regulations on at least two foundational premises:
- A “catch and release” framework to limit over regulation and manage changing circumstances
- A “reactive” approach to developing regulations related to national security
These premises were evident in the 1968 outbound investment regime and remain the foundation for current regulations, such as the inbound foreign direct investment process under CFIUS and export control regulations. Based on the lack of concrete results from the approach taken from 1968 through 1986, several lessons from that experience remain germane to consideration of a 2023 outbound investment review process. Key questions include, but are not limited to:
- What are the program’s concrete objectives? Much has been said about the need to prevent US technology and investment from creating indigenous capabilities in other countries, especially at the expense of the US industrial base or US capabilities. However, the scope of these concerns remains vague and seems based on a reactive approach to decisions on what remains relevant or crucial. In addition, some of the concerns focus on the US industrial base, supply chain redundancy, and protection of the US innovation base. Thus is the program focused on US independence and self-sufficiency, a need to recalibrate the supply chain to limit leverage while still maintaining some global engagement, or some other justification. As the 1968 regime demonstrates, a lack of clarity regarding the ultimate goals can impede the ability of any agency to address the concerns.
- Should Commerce or Treasury be responsible for (or a key decisionmaker) in an outbound investment review process? In essence, what agencies have the most equities and relevance to a national security framework related to US investment outside of the United States? Although an outbound investment regime appears to be focused on capital flows, the manner in which those flows are being used and where raises national security concerns. Thus, would it be more effective to manage the process through the agencies that understand the underlying and operational national security issues with input from the economics-focused agencies? The key point is that the equities are addressed and then implemented from a national security perspective.
- Should the framework focus on a “catch and release” approach or consider a “deny and delay” construct? Are there frameworks that allow for greater certainty, manage the changing circumstances, and address the objectives the program is designed to achieve or the problems the program is designed to resolve?
- Should the program “authorize” outbound investments, require reporting prior to the investment, or permit post-investment reporting but with agency authorization to alter the investment after reporting? These questions focus on the actual objectives the program is designed to achieve—in essence, does the program seek to stop investments, manage investments, or simply understand what investments have been made so that policy decisions can be made?
- Are there existing agency resources or frameworks through which such a program could be implemented—e.g., CFIUS, the Securities and Exchange Commission, or the Defense Department Acquisition and Sustainment offices that consider global investments? If so, can resources be redeployed, trained, and expanded in less time or with greater efficiency than through the establishment of a new office through which to manage such a program?
- Should the program be more permanent and thus less reactive? At what point does a forward-leaning, more-defined program provide the certainty needed for investors to understand the requirements and approvals needed (if any) to invest outside the United States?
- Is the program potentially more effective if established legislatively rather than through executive orders that can be reversed with “the stroke of a pen?” The unilateral authority by one person—the president—to undo an executive action can create enhanced uncertainty and adversely affect short- and long-term investment plans by companies, private equity, and venture capital. That is not to say that legislation cannot create some similar consequences because it too can be repealed or modified, but the process requires legislative agreement and signature by the president. Committee oversight and investigative authorities allow for more robust evaluation of the effectiveness of the process.
How Can Investors Start to Prepare for Any New Processes?
While we have no crystal ball to accurately predict the actual scope of an outbound investment review process, industry can gather more details on the United States’ past attempt to regulate outbound investment and participate in any regulatory comment process if and when an executive order is issued. Key to any preparation is building into investment development strategies additional time to evaluate new regulatory requirements. This may require a reevaluation of the interconnections among investments, but this concept has already been practically built into some investments based on the “multilateralization” of foreign direct investment regimes in other countries. Other jurisdictions, such as South Korea, already have outbound investment review programs, so some investments already account for the timelines. However, this recalibration would be somewhat novel for US and non-US investors, even with the prior US outbound investment review process.
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