Improving the UK’s FDI Screening Mechanism: An In-Depth Analysis and Policy Recommendations

– Shantanu Dhingra

Introduction

The global landscape of M&A transactions has experienced increased scrutiny of foreign direct investments (FDIs) due to national security concerns. This article critically analyses the UK’s FDI screening mechanisms within the National Security and Investment Act 2021 (NSIA), examining legal frameworks, case law, international standards, and offering policy recommendations to balance national security and economic growth.

1. The UK’s Foreign Direct Investment Screening Mechanism: A Critical Appraisal

This section provides a good foundation for discussing the UK’s FDI screening mechanism, but it could be enhanced by providing more specific examples, recommendations, and practical steps for improvement. Adding supporting evidence and real-world case studies would make the appraisal more robust and valuable to readers seeking insights on this topic. Detailed comments are given below.

1.1. Legal Frameworks and International Standards: The Nexus between NSIA and International Benchmarks

The National Security and Investment Act 2021 (NSIA) constitutes the cornerstone of the UK’s FDI screening mechanism. This statute empowers the Secretary of State to intervene in transactions with potential national security implications. Although the NSIA targets sectors such as defence, energy, and technology, it falls short in providing lucid definitions and guidance on national security concerns. Consequently, a comparative analysis with international standards, such as the EU Regulation 2019/452, becomes pertinent for identifying areas of enhancement.

One example that is particularly instructive is Article 4 of the EU Regulation 2019/452. This provision provides a clear list of factors to consider when determining if an investment may affect security or public order, including effects on critical infrastructure, critical technologies, and access to sensitive information. Such an explicit enumeration of factors could serve to dispel the existing ambiguity in the NSIA.

Furthermore, Recital 14 of the EU Regulation highlights the importance of cooperation and information sharing between Member States. This collaborative approach to foreign investment scrutiny could be a potential addition to the UK’s screening process, strengthening its effectiveness and reducing potential security risks.

By integrating these specific aspects of the EU Regulation 2019/452, the NSIA could offer more lucid guidance and thereby foster a more predictable environment for foreign direct investment

The EU Regulation 2019/452 delineates clearer guidance on sectors and national security criteria, fostering a more predictable and transparent FDI screening process. It establishes a comprehensive framework outlining the types of investments that may be subject to screening, the factors to be considered during the screening process, and the procedural rules governing such assessments. Adopting aspects of this regulatory framework could potentially strengthen the UK’s FDI screening system, ensuring better alignment with international benchmarks and addressing the current ambiguities in the NSIA.

It’s important to acknowledge the specific areas where the NSIA’s lack of clear definitions and guidance on national security matters may have induced challenges or potential difficulties in the screening process. For instance, the vagueness around what constitutes a ‘national security risk’ could lead to inconsistent application of the law, creating unpredictability for foreign investors. Similarly, the ambiguity surrounding the sectors deemed ‘sensitive’ could result in overreach by the Secretary of State, hindering economic growth and international cooperation. By shedding light on these instances and considering the structured approach of the EU Regulation 2019/452, the NSIA could be effectively enhanced to overcome such challenges.

1.2. Comparative Approaches: Lessons from the US and Germany

A comparative analysis with the FDI screening mechanisms of the US and Germany offers valuable insights for refining the UK’s approach. In the US, the Committee on Foreign Investment (CFIUS) serves as the primary institution responsible for reviewing transactions with potential national security risks. CFIUS provides well-defined sectors and criteria for mandatory notifications, culminating in a more transparent and efficient FDI screening process. The CFIUS model demonstrates the importance of a multi-agency approach, involving various stakeholders in the assessment process to ensure a thorough understanding of potential risks and their implications on national security.

Conversely, Germany adopts a sector-specific approach, concentrating on critical infrastructure and technologies. This tailored approach ensures that FDI screening remains focused on areas of high strategic importance, allowing for a more nuanced evaluation of potential risks. Germany’s approach highlights the benefits of targeted screening, prioritizing transactions that could have a significant impact on national security while minimizing the burden on transactions with minimal security implications.

To demonstrate the efficacy of these approaches in practical terms, it is useful to examine specific instances. In the United States, for example, CFIUS’s intervention in the proposed acquisition of MoneyGram by Ant Financial underscored the system’s effectiveness in preemptively identifying and mitigating potential security risks. Similarly, Germany’s sector-specific approach was crucial in scrutinising the acquisition of robotics firm Kuka by China’s Midea Group, which could have potentially impacted the nation’s technological sovereignty. By considering such instances alongside the structured approach of these countries, the UK could significantly enhance its own FDI screening mechanism, contributing to improved national security outcomes

By examining the strengths and weaknesses of both the US and German approaches, the UK can glean invaluable insights for refining its FDI screening mechanisms and striking an optimal balance between national security and economic interests. This may involve the development of a multi-agency approach, integrating expertise from various sectors and stakeholders to ensure a comprehensive assessment of potential risks, as well as adopting a more targeted screening process that focuses on sectors and transactions of high strategic importance.

However, for the UK to effectively implement such a multi-agency approach, a set of guidelines or recommendations would be instrumental. Firstly, clearly defining roles and responsibilities of each agency involved would help avoid overlapping jurisdictions and foster efficient cooperation. Secondly, establishing a central coordinating body similar to the CFIUS in the US might ensure effective communication and decision-making across different sectors. Thirdly, a robust mechanism for conflict resolution should be put in place to address potential disagreements among agencies. Lastly, ongoing training and capacity-building efforts should be promoted to ensure that all stakeholders are up-to-date with evolving risks and industry trends.

The implementation of this multi-agency approach will indeed face challenges, such as ensuring coordination and cooperation among different stakeholders. However, these can be mitigated by promoting a culture of transparency and collaboration, and by establishing clear communication channels. By heeding these lessons and recommendations, the UK could strengthen its FDI screening mechanisms, better safeguarding national security while promoting economic growth.

2. Key Issues in the UK’s FDI Screening Mechanism

2.1. Conceptual Ambiguity: National Security in the NSIA

The NSIA does not provide a specific definition of “national security,” resulting in interpretive challenges. This ambiguity may stem from the inherent complexity of national security, often encompassing a vast range of threats. However, the Hinkley Point C case, where concerns over China’s involvement initially delayed the project’s approval, underscores the necessity of a clear definition. Additional instances further emphasise this issue. For example, the recent acquisition of UK-based tech firm Imagination Technologies by a Chinese-backed private equity firm raised alarm bells due to the strategic importance of the firm’s intellectual property, yet the ambiguity of the NSIA made the screening process less than straightforward. In comparison, the US Committee on Foreign Investment (CFIUS) incorporates a risk-based approach, evaluating transactions based on their potential threat, vulnerability, and consequences. This framework mitigates ambiguity, enhances predictability, and ensures a consistent application of the law.

To truly understand the merits of the CFIUS’s risk-based model, we need to delve into specific instances where this approach has demonstrated its effectiveness in enhancing the FDI screening process. For instance, the proposed takeover of Qualcomm, a leading semiconductor company, by Broadcom, was halted by CFIUS on grounds of national security. In its review, CFIUS considered not only the immediate potential threats but also future vulnerabilities and consequences that could arise from the foreign control of critical technology. This demonstrated the nuanced approach to risk evaluation that CFIUS employs.

These specific outcomes illustrate how the CFIUS’s risk-based framework promotes improved clarity, predictability, and consistency in the FDI screening process. It offers valuable lessons for the UK in terms of reducing ambiguity and enhancing the effectiveness of its own FDI screening mechanism.

2.2. Clarity and Predictability: Mandatory Notifications

The NSIA does not provide a comprehensive list of sectors subject to mandatory notifications, leading to inefficiency and uncertainty. The confusion during the NVIDIA’s acquisition of ARM Holdings illustrates the problem inherent in this legislative gap. The Australian Foreign Investment Review Board (FIRB), on the other hand, provides a sector-based list, ensuring better clarity and efficiency in the screening process.

The repercussions of such a legislative shortfall go beyond individual transactions; it could potentially deter foreign investment and disrupt the UK’s position as a favourable destination for foreign direct investment.

In stark contrast, the Australian Foreign Investment Review Board (FIRB) utilises a sector-based list, bringing forth a higher degree of clarity and efficiency in the screening process. Other countries, like France and Canada, have also adopted similar sector-based lists for FDI screenings, enabling more predictable and efficient reviews.

2.3. Overlapping Authorities: Regulatory Bodies’ Jurisdiction

Confusion and duplication of efforts due to overlapping jurisdictions of regulatory bodies within the NSIA are significant technical challenges. The jurisdictional conflict between the Competition and Markets Authority and the Office for Nuclear Regulation in the case exemplifies this problem. The Canadian Investment Canada Act, however, clearly delineates roles and responsibilities, avoiding such overlaps and enhancing the effectiveness of the process.

3. New Challenges and Possible Revisions

3.1. Retroactive Powers and Ongoing Oversight

The NSIA lacks the ability to scrutinize transactions retroactively, a gap that could jeopardize national security. This legislative lacuna might be due to concerns over deterring FDI; however, the German Foreign Trade and Payments Act’s ability to scrutinize transactions up to five years retrospectively illustrates that a balanced approach can ensure national security without discouraging investment.

3.2. Data Protection and Privacy

With the expanding digital economy, data protection and privacy become increasingly crucial in the FDI context. The NSIA’s lack of guidelines regarding data access, storage, and transfer in foreign-owned firms could stem from a traditional focus on physical security threats. Drawing on EU’s GDPR, which sets stringent data protection standards, the NSIA could better manage potential security vulnerabilities associated with data.

3.3. The ‘Call-In’ Power: A Necessary but Risky Tool

The NSIA’s ‘call-in’ power allows the government to review transactions that may pose national security risks. However, its broad scope and lack of definition risk investor uncertainty, potentially hindering beneficial foreign investments. Japan’s FDI law offers a balanced approach by providing clearer parameters for when ‘call-in’ powers may be used, reducing unpredictability for investors.

4. Policy Recommendations: Enhancing the NSIA for Predictability, Transparency, and Robustness

4.1. Redefining “National Security”: A Collective Endeavour

The NSIA’s ambiguous definition of “national security” necessitates an intensive redefinition process to enhance legal predictability and ensure equitable enforcement. This process should not be isolated; instead, the UK could learn from the Australian model, which combines both specific criteria and a broad legislative power to capture unexpected threats. However, the diversity in national security perceptions presents a challenge in reaching a universally accepted definition. To mitigate this, the UK should consider forming a multi-disciplinary committee—consisting of security experts, government representatives, and legal scholars—to establish a broad yet nuanced definition and accompanying guidelines that reflect the UK’s specific security landscape and international norms.

4.2. Mandatory Notification: A Dynamic Process

To improve the predictability and efficiency of the FDI screening process, the NSIA needs to provide a comprehensive list of sectors subject to mandatory notifications, akin to the FIRB model in Australia. However, defining this list should be a dynamic process, acknowledging the rapid pace of technological advancement and changing geopolitical landscapes. Thus, the UK should implement a periodic review mechanism that updates the list based on these evolving factors, ensuring the list’s relevance and effectiveness.

4.3. Balancing Transparency and Confidentiality: A Tiered Approach

Adopting a more transparent approach to the FDI screening process would allay investor uncertainties and promote responsible investments. The Canadian model, with its detailed procedural information and assessment criteria, provides a template for the UK. However, ensuring the confidentiality of sensitive information remains a critical concern. To reconcile this, the UK should consider a tiered information-sharing system, similar to the EU’s GDPR guidelines. Publicly accessible information could include procedural timelines and general criteria, while sensitive data, pertinent to national security, would remain confidential to pertinent stakeholders.

4.4. Incorporating Retroactive Scrutiny: Learning from Germany

As security risks might not be immediately apparent, incorporating a retrospective scrutiny mechanism, similar to the German Foreign Trade and Payments Act, could provide an additional safeguard. While this might risk deterring potential investors, a balanced approach that clearly defines the circumstances for retroactive scrutiny can help mitigate this concern.

4.5. Establishing a Data Protection Framework: An Urgent Necessity

Drawing from the GDPR, the UK should also establish stringent data protection guidelines for foreign-owned firms to mitigate the security vulnerabilities associated with data. A collaborative approach involving tech firms, data protection officers, and legal experts could help develop a robust data protection framework that respects individual privacy and national security.

4.6. Establish Predictable Timeframes

A statutory timeframe should be introduced for government reviews of transactions, providing investors with greater certainty. Provisions for extension can be added for instances needing additional scrutiny.

4.7. Create an Appeal Mechanism

An impartial and transparent appeal mechanism should be introduced for companies and investors to contest decisions perceived as unfair or based on incorrect assessments.

4.8. Introduce Proportional Sanctions

A system of proportional sanctions for non-compliance can ensure fairness and deter potential infractions.

Conclusion

The UK’s FDI screening mechanism, as outlined in the NSIA, plays a crucial role in balancing national security and economic interests in M&A transactions. However, the current framework presents several challenges, such as the ambiguity in the concept of “national security” and the lack of clear guidance on mandatory notifications. By adopting the policy recommendations presented in this article, the UK can refine its FDI screening mechanism to strike a better balance between safeguarding national security and promoting economic growth, while adhering to international standards and best practices. Implementing these recommendations may present challenges, but with a well-coordinated approach and regular reviews, the UK can create a more robust, transparent, and predictable FDI screening process, benefiting both national security and economic interests.

Shantanu Dhingra is a 4th Year student of law at National Law University, Odisha