Why The UK’s National Security And Investment Act Is Part Of A Wider Focus On Geopolitical Risk And National Security
A year ago, on 29 April 2021, the UK’s National Security and Investment Act (NSIA) was passed by the country’s parliament. The Act’s focus on national security concerns seems prescient given the subsequent invasion of Ukraine by Russia and the increasing tensions between the West and China, which have only been exacerbated by the latter’s refusal to condemn Russian aggression. One might wonder which transactions completed over the last decade might have been blocked if the Act had been put in place some time ago. Be that as it may, the NSIA now needs to be understood and considered carefully by M&A lawyers, private equity firms and corporations, in conjunction with the increasing number of sanctions on foreign entities and individuals. Further legislation related to national security should also be anticipated over the course of the next year.
The NSIA came fully into effect on January 4th this year, although it applies to any deals conducted since 12 November 2020. In essence, the Act establishes a mechanism similar to the CFIUS (Committee on Foreign Investment in the United States) process for scrutinizing deals that could be of concern to the United Kingdom from a national security perspective. The government has created a new Investment Security Unit (ISU), operating within the Department for Business, Energy and Industrial Strategy, to review deals under the new legislation. The ISU will have the power to call in deals that are related to activities in any of seventeen named sectors, some of which are very broadly defined such as advanced materials, communications, energy and transport. Participants in any deal in one of the seventeen sectors can also choose to refer the transaction to the ISU for review.
When the legislation was first being discussed there were suggestions in the media that the main focus of the legislation was on Chinese and Russian acquirers of UK assets. Given the events since then the Act will be seen as an increasingly important tool for the UK government to protect the country’s strategic assets from unfriendly foreign governments; there is a risk, however, that legitimate concerns over the UK’s national security may become overblown and lead to transactions being delayed or even blocked that do not really represent a significant risk to national security. In addition, the lack of any real definition of national security in the Act, and the large number and size of the sectors covered, could create a degree of uncertainty for investors in and acquirers of UK assets. The risk of the Act being used inappropriately is inevitably heightened in a climate such as the present one in which national security is – justifiably - a high priority for key decision-makers in and around government.
It will take some time before the criteria and processes of the new Investment Security Unit (ISU), which is scrutinizing deals which are caught by the NSIA, will be susceptible to analysis, given the lack of information about deals that have been scrutinized thus far. We do know that transactions have been referred to the ISU – for example, the proposed sale of GE Steam Power’s nuclear business to EDF – but we do not yet know the result of such referrals or how the ISU will adjudicate on any national security risks connected to such transactions. Once some precedents have been created through such deals having been reviewed under the NSIA it will be easier for lawyers and consultants to give more in-depth advice about the issues related to submissions to the ISU under the Act. We will also have a better sense of the degree to which potential national security concerns will outweigh, in the consideration of the ISU, some of the perceived economic benefits of certain deals.
In addition to the specific processes set up under the NSIA, there is a much broader trend of governments and regulators giving greater consideration to geopolitical risks. A number of corporations and investment firms were caught on the hop by the Russian invasion of Ukraine, despite intelligence about precisely such an invasion having been widely announced by sources within both the US and UK governments in the weeks prior to it taking place. (In contrast, some hedge funds made significant profits by shifting their investment strategy in anticipation of an invasion taking place). The reminder that such risks exist - and can materially impact business results and investment returns - has led to firms re-examining other significant conflict risks. At the forefront of these risks is the possibility of a Chinese invasion of Taiwan, which could potentially create a much more dangerous and economically destructive situation than the war in Ukraine. An even more immediate risk is the possibility that China begins to support Russia more actively in Ukraine leading to sanctions being levied against Chinese businesses and individuals. Although Russia is a key participant in some sectors of the global economy (most obviously the energy sector) the interconnections between China and the global economy are much more significant and far-reaching, meaning that sanctions targeted at China would have a dramatic effect and would create huge problems for a whole variety of international companies.
Within the broader context examined above, the NSIA is an important piece of legislation but it should be viewed as just one brick in a wall that is being built by Western governments against investments and acquisitions that are planned by companies located in what are seen as hostile states. Such walls may be effective at keeping out adversaries but they inevitably result in less open economies and fewer business opportunities than would otherwise be the case. In such circumstances an understanding of the changed risk environment, and the potential scenarios that may play out as a result, at least gives market participants an opportunity to mitigate some of the negative impacts and potentially benefit from some of the new opportunities that are inevitably created by significant moments of change
Jason Wright is Managing Director in the London office of K2 Integrity
To read the U.K Government’s full guidance about its National Security and Investment Act, please click here https://www.gov.uk/government/collections/national-security-and-investment-act
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