There has been a flurry of activity relating to foreign investment control in the short period of time between the result of the general election and Parliament’s Christmas recess. On 19 December 2019, the UK Government announced in the Queen’s Speech its intention to introduce the National and Security and Investment Bill, which we previously reported on here. A day later, the Business Secretary, Andrea Leadsom, announced her decision to clear the merger of Cobham and Advent International (on the basis of the undertakings offered by the parties) as well as issuing a new intervention in the proposed acquisition of Mettis Aerospace by Chinese fund Aerostar. These developments come after the referral on 5 December 2019 of the Impcross/Gardner Aerospace merger for a detailed review of public interest and national security issues. The latest announcements indicate the desire of the Government to balance an increased focus on national security with ensuring the UK maintains its reputation as one of the most open economies to foreign investment.
The UK Government has made five interventions on the grounds of national security in 2019 alone, compared to only seven interventions between 2004 and 2017. These cases illustrate the Government’s increased scrutiny of foreign investment and national security issues. But with increasing global interest in screening foreign investments to protect sensitive businesses and assets, and with the UK’s exit from the EU almost certain to take place on 31 January 2020, the latest interventions are also valuable indicators of the UK Government’s approach to intervening in transactions on national security grounds ahead of impending legislative reform. Companies should carefully consider the potential implications of these issues in any future transactions.
Impcross/Gardner Aerospace and Aerostar/Mettis Aerospace
On 5 December 2019, the Secretary of State for Business, Energy and Industrial Strategy announced that she has decided to refer the anticipated acquisition of Impcross by Gardner Aerospace Holdings to the Competition and Markets Authority (CMA) for review. The CMA has until 2 March 2020 to report to the Government on the public interest and national security issues of the deal, which combines the aerospace engineering company with Gardner Aerospace (owned by Chinese company SLMR since 2017).
On 20 December 2019, the Secretary of State also referred the proposed acquisition of Mettis Aerospace by Chinese fund Aerostar to the CMA, which has until 17 March 2020 to issue its report.
In parallel with issuing the Public Interest Intervention Notice (PIIN), in both these cases the Secretary of State took the unusual step of making an order holding the companies separate and prohibiting them from taking any steps to integrate the businesses, including prohibiting the integration of the companies’ IT systems. The order also imposes obligations regarding the carrying on of activities and safeguarding assets, including obligations to keep customer and supplier lists separate, to ensure that no key staff are removed or transferred from the target company and to take steps to encourage key staff to remain with the target.
The CMA also has the power to issue such ‘hold separate’ orders, and it is not unusual for it to do so in merger control, particularly in the case of completed acquisitions where the risk of ‘pre-emptive action’, which might render any CMA remedy ineffectual, is regarded as higher. However, there are two novel aspects to these recent cases:
- Impcross/Gardner Aerospace was the first time since the entry into force of the Enterprise Act 2002 that the Secretary of State exercised this power herself. The fact that she has taken the same approach in Aerostar/Mettis Aerospace indicates that the Government is prepared to continue to use this power where it feels this is appropriate.
- Where national security concerns are raised, hold separate orders are being imposed in anticipated acquisitions. Impcross/Gardner Aerospace, Aerostar/Mettis Aerospace and Gardner Aerospace/Northern Aerospace (where the CMA was the one to issue a hold separate order) are all anticipated acquisitions – and in fact in the latter case the CMA refused to allow a derogation for completion of that transaction pending the national security review. With this approach, UK merger control is increasingly akin to a ‘mandatory’ regime where completion is prohibited pending clearance.
Grounds for Intervention
Since the Enterprise Act 2002 entered into force, the Secretary of State has had the power to intervene in transactions which raise specified public interest considerations. The Secretary of State’s powers are currently limited to intervention on the grounds of national security, media plurality or maintaining financial stability, but public interest considerations can be added, removed or amended by order of the Secretary of State.
Where a proposed merger gives rise to a public interest consideration, the Secretary of State may issue a PIIN or a European Intervention Notice (EIN) to the CMA, which allows the Secretary of State to take over the role of decision-maker. The CMA is responsible for investigating the merger and delivering a report to the Secretary of State that includes a summary of any representations it has received which relate to the public interest consideration specified in the PIIN or EIN.
Previously, the UK Government could only intervene in transactions which met either UK or EU merger control thresholds (and smaller transactions involving government contractors). However, in June 2018, amendments were made to the Enterprise Act 2002 to lower the thresholds for intervention on national security grounds where the target is active in certain sensitive sectors, in particular in:
- the development or production of items for military or dual use;
- the design and maintenance of aspects of computing hardware; or
- the development and production of quantum technology.
In such cases, the thresholds are:
- the UK turnover of the target business is greater than £1 million; or
- the target’s existing share of supply of goods or services in the UK is at least 25 per cent.
These thresholds are lower than those applicable in a normal merger control procedure, where the share of supply test requires an increment resulting from the overlap between the acquirer and the target’s business, and the threshold for the turnover test is set at £70 million. These amendments were made as interim measures in anticipation of the longer-term proposals outlined in the White Paper on investment control. All five interventions in 2019 were made under the new regime and relied on the ground that the UK turnover of the target business was greater than £1 million.
Recent interventions have also mainly been triggered by the target’s activities in the development of items for military or dual use. For example, in Connect Bidco / Inmarsat, the CMA considered the test was triggered as a result of Inmarsat being involved with developing a software product to facilitate command and control of satellites, which fell under the EU Dual-Use List, whilst in Cobham / Advent International, the test was triggered as a result of Cobham being involved in manufacturing weapons carriage and release systems which are covered by both the Military and Dual-Use Lists.
Nationality of the Acquirer
National security concerns will vary depending on the nationality of the buyer. The regime does not identify specific nationalities that will trigger the test, but it is not difficult to contemplate the nationalities which may raise concerns. For example, it is clear that Chinese ownership is regarded as a risk, as the Secretary of State’s interventions in Northern Aerospace/Gardner Aerospace, Impcross/Gardner Aerospace and Mettis Aerospace/Aerostar demonstrate. Nevertheless, recent interventions do not suggest that US and Canadian investors will necessarily be treated more leniently by the UK Government. For example, in Connect Bidco / Inmarsat, the acquiring company had been set up by a consortium of Canadian pension funds and US private equity funds, whilst in Cobham / Advent International both acquirers were US private equity firms. In both cases, the transactions were subject to a full review by the CMA with undertakings accepted by the Secretary of State in lieu of a Phase 2 reference.
Public Interest Considerations
The CMA does not advise or make recommendations on the public interest consideration, but rather takes representations from relevant parties, such as the Ministry of Defence (MoD) and the Home Office.
In Connect Bidco / Inmarsat, the MoD was primarily concerned with the ability of parties to access information on MoD activity, and with the continuity of supply of services. In a similar vein, in Cobham / Advent, the MoD was concerned with the potential for unauthorised persons to build up an understanding of the MoD’s capability and activity through access to information held on or passing through Cobham’s systems. It also voiced concerns that existing MoD programmes could be at risk if the merged entity took a decision to exit or underinvest in the business or move it offshore. The Home Office made separate representations expressing concerns around the availability and supply of radio devices to the UK’s emergency services and other authorities, and around the parties’ ability to access sensitive information and technology.
In Gardner Aerospace / Northern Aerospace, the MoD was reassured by the fact that Gardner Aerospace’s Chinese parent company, SLMR, had put in place two Deeds of Undertaking when it acquired Gardner Aerospace to (1) prevent SLMR from accessing controlled items, sensitive information or intellectual property rights relating to Gardner Aerospace and its customers and (2) appoint an independent auditor and establish a series of auditable security arrangements to protect the information in (1). These deeds are enforceable in the Courts of England and Wales and the MoD had obtained written assurances that these would be applied to Northern Aerospace if acquired by Gardner Aerospace.
Parties to a deal subject to review on public interest grounds should be aware that they may have to provide detailed assurances to the Secretary of State to avoid an in-depth Phase 2 investigation.
In Connect Bidco / Inmarsat, the parties initially provided voluntary undertakings to the UK Government, seemingly with the intention of avoiding formal intervention by the Secretary of State. The voluntary undertakings were limited in scope and provided assurances in relation to the making of key strategic decisions, the location and performance of areas of Inmarsat’s global network operations centres, and the obligations contained in certain commercial contracts. It was announced on 18 July 2019 that these voluntary undertakings had been accepted by the UK Government, but this was “without prejudice to the merger control review of the Acquisition”. Four days later the Secretary of State issued a PIIN, confirming the intention to intervene in the sale on national security grounds. The parties ultimately managed to avoid a Phase 2 investigation by offering enhanced undertakings, covering the maintenance of strategic capabilities and the protection and exploitation of information. They include assurances to continue to offer to supply certain services to the MoD, to comply with security arrangements where sensitive material is provided to Inmarsat, and to require the Chairman of Inmarsat’s board directors to be a British national and at least 50% of the board to be British nationals and resident in the UK.
The undertakings accepted by the Secretary of State in Cobham / Advent International are largely similar to those adopted in Connect Bidco / Inmarsat and include assurances that sensitive Government information is protected, the terms of existing contracts are honoured, the Government is notified if there is a material change to the ability to supply key services and there is prior notification to the Ministry of Defence and Home Office if there are plans to sell the whole, or elements of Cobham’s business.
Separately to the public interest intervention, the companies also agreed to various economic undertakings, including agreeing that Cobham’s headquarters will remain in the UK, that the Cobham name will continue to be used, that research and development spend will be ringfenced and in relation to protecting jobs in the UK.
Much of the risk of government intervention revolves around the delay and uncertainty that can be caused to the completion of a transaction. For example, the Connect Bidco / Inmarsat and the Cobham / Advent International mergers were cleared 6 and a half months and 5 months respectively after the transactions were announced. Both mergers received clearances just over 3 months after the issuance of the PIIN/EIN.
So what are the lessons that can be learned from these cases?
Firstly, parties to transactions in “red flag” sectors need to be alive to the possibility of increased scrutiny at the outset of the deal, and factor this into their planning and timelines. Vendors should be prepared for questions about the nature of products supplied to Government and whether products are subject to export controls. Equally buyers need to ensure early due diligence of these issues, alongside identifying likely merger control filings. The parties also cannot discount the risk of a hold separate order and should expect to not be able to complete until the outcome of the review.
Secondly, where there is a risk that undertakings may be required, an analysis should be carried out early to determine whether the proposed deal and post-acquisition structures will be workable – for instance, will it be workable for over 50% of the board to be resident UK nationals?
Although it is the case that buyers based in jurisdictions such as China are more likely to face scrutiny, parties should not assume that buyers based in jurisdictions which have been traditional allies of the UK will be exempt from scrutiny.
Lastly, parties might also consider proactively engaging with the relevant authorities to pre-empt national security concerns. Aside from offering voluntary undertakings, parties may want to consider how best to engage with Government departments to provide reassurance.
With the UK due to formally leave the EU at the end of January, foreign investment control is likely to remain firmly on the agenda of the UK Government. It is wise for companies to consider how to navigate foreign investment and public interest concerns from the outset of a deal and consider ways to minimise the impact these may have on a transaction.