In just over six months since the implementation of the UK National Security and Investment Act 2021 (“NSIA”) on 4 January 2022, the market has seen key developments including the first prohibition issued under the NSIA and the government’s first annual report on the first three months of the new regime.
This article sets out recent key developments and why they might be important to those working with high growth technology / IP-rich companies.
First prohibition under the new regime
On 20 July 2022, the Secretary of State (the “Secretary”) for Business, Energy and Industrial Strategy (“BEIS”) issued the first prohibition under the new regime, preventing a Chinese company from acquiring certain IP on national security grounds.
The University of Manchester and Beijing Infinite Vision Technology Company Ltd (“BIVTC”) intended to agree a licence for BITC to use certain IP relating to SCAMP-5 and SCAMP-7 vision sensing technology to develop, test and verify, manufacture, use and sell licenced products. The Secretary’s final order considers that the technology in question has “dual-use applications” and that the technology “could be used to build defence or technological capabilities which may present national security risk to the United Kingdom”.
The final order considered that the acquisition of the technology was a trigger event under section 9(1) of the NSIA, which sets out that trigger events can be caused when a person acquires a right or interest to use a qualifying asset. An important point to therefore note is that the NSIA is not limited to acquisitions and that licences may also fall within the NSIA’s scope.
The final order comes hot on the heels of new market guidance. While much of the guidance focuses on procedural and jurisdictional questions, there is an important note for investors and target companies.
Section 8(6) of the NSIA considers the acquisition of voting rights that secure or prevent the passage of any class of a resolution to be within the NSIA’s scope. This might therefore suggest that approval or veto rights that are typical in venture capital deals would fall within the NSIA’s remit. However, the new guidance clarifies the position and considers this to not be the case because: (i) section 8(7) of the NSIA sets out that section 8(6) refers to voting rights attached to shares, provided that such rights do not equate to control of such voting rights under paragraph 5 of schedule 1; and (ii) to be caught by section 8(6), such contractual rights would need to enable the acquirer to secure or prevent the passage of all resolutions of a particular class.
As part of the guidance, the government recognises the need to be mindful of those “seeking to exert malign influence over sensitive businesses through the use of contractual rights” while taking note of the fact that minority investors may typically seek an extensive list of matters subject to investor consent. That is partly why an acquisition that enables a person to materially influence an entity’s policy sits separately under section 8(8), which, unlike the voting rights provision in section 8(6), is not subject to mandatory notification.
The NSIA Annual Report’s key insights into the first three months of the new UK regime
The UK government recently published its first annual report , which covers the first three months of the implementation of the UK National Security and Investment Act 2021 (the “NSIA”), from 4 January 2022 until 31 March 2022. In the period, 222 notifications were received, of which:
• 17 were called in for review, with three being cleared and 14 still being investigated as at 31 March 2022;
• 196 were mandatory notifications, with 178 accepted, seven rejected and 11 still being evaluated as at 31 March 2022;
• 25 were voluntary notifications, with 22 accepted, one rejected and two still being evaluated as at 31 March 2022; and
• one was a retrospective validation application.
The Annual Report shows encouraging signs that timelines are being adhered to with decisions for call-in reviews taking on average 22 working days for voluntary notifications and 24 working days for mandatory notifications, all within the statutory deadline of 30 working days. Additionally, while this a small sample size that was impacted upon by slowing M&A activity in H2 2021, the 222 notifications received in Q1 2022 suggest a potential lower figure of NSIA notifications for the year when compared to original estimates of 1,000 – 1,830 notifications.
The UK government also recently published a memorandum of understanding on the operation of the NSIA (the “MoU”). The MoU sets out a framework for the cooperation, coordination and information sharing in the operation of the NSIA between the Competition and Markets Authority and the Department for Business, Energy and Industrial Strategy (“BEIS”). It covers the informal engagement between each body in relation to transactions that are notified to each of them.
This article explains why the NSIA is here to stay for tech-based investments and acquisitions.
The NSIA and You
On the face of it, what does a “national security” act have to do with private investment into UK based companies or by UK investors in the tech sector?
The NSIA was adopted into law in the United Kingdom and applies from 4 January 2022 and has retrospective application. The purpose of the NSIA is to create a standardised regime within the UK that polices and reviews all investment and acquisitions within seventeen key areas of the economy (i.e. those that may have an impact on national security) together with scope to reach across to other areas.
The NSIA in its general application has no de minimis on monetary value (both in relation to transactions and turnover), and an extraterritorial jurisdictional reach. It applies to both foreign investment and to UK investors equally. Therefore, much like the Committee on Foreign Investment in the United States, the NSIA ultimately provides for a new regime to scrutinise acquisitions and investments, so when either investing or accepting investment, this is an area that needs consideration. So, what do you need to know about the NSIA and why might it apply to you?
Who does the NSIA apply to
The NSIA applies to both UK and foreign (from any country) acquirers and investors. It also applies to transactions where there is a change of control over a business that either supplies goods or services to persons in the UK, and/or carries on activities in the UK, despite there being no UK company or acquirers, however it is important to note that the NSIA will not apply based solely on shares being listed in the UK, or owners being based in the UK.
Accordingly, the NSIA covers:
1. Qualifying Entities – any person that is not an individual, does not need to be UK based, but must carry on activities in the UK (there is no minimum requirement here, but simply sales of products into the UK will not be sufficient).
2. Qualifying Assets – land, tangible moveable property, any idea or information or technique with industrial, economic or commercial value.
Mandatory Notification under the NSIA
Qualifying entities must notify the Secretary of State if operating within one (or more) of the seventeen sectors (listed below) and generally a person acquires more than 25% of the relevant shares or voting rights of an entity. Note, that this is cumulative and so as a person acquires more shares or voting rights, new notifications will be required to be made to the Secretary of State (similarly, the person’s prior shareholding will count towards the new acquisition).
1. Advanced materials;
2. Advanced robotics;
3. Artificial intelligence;
4. Civil nuclear;
6. Computing hardware;
7. Critical suppliers to Government;
8. Cryptographic authentication;
9. Data infrastructure;
12. Military and dual-use;
13. Quantum technologies;
14. Satellite and space technologies;
15. Suppliers to the emergency services;
16. Synthetic biology; and
Within the seventeen key sectors, there are no thresholds save for shareholding and so consideration is not given to entity turnover or transaction value. If an entity is operating within these key sectors, the Notifiable Acquisitions Regulations within the NSIA and guidance from the BEIS should be considered for helpful descriptions as to whether a mandatory notification is required.
This mandatory notification to the Secretary of State will be required to be made via the Government website and must be made in advance of completion and by the acquirer. Failure to do so will render the transaction void. In fact, completion cannot go ahead without having received clearance from the Secretary in response to the mandatory notification, otherwise sanctions may be imposed.
Voluntary Notification under the NSIA
The voluntary notification regime covers all sectors of the economy (and those transactions not covered by the mandatory notification regime). Unlike with a mandatory notification, a voluntary notification will not prevent the completion of a transaction, however caution should be exercised. A voluntary notification should be made in a timely manner, and a condition to closing contained within the transaction so as to ensure that completion will not result in a breach of the NSIA.
The acquisition of a qualifying asset which allows the acquirer to use the asset to a greater extent than previously is an example as to when a voluntary notification may be required. In addition, if an acquisition allows the acquirer greater or material influence or control over policy making (for example), then a voluntary notification may also be required.
In considering a voluntary notification under the NSIA, it must be considered if the Secretary of State would consider the transaction such that it may be called in for a national security assessment under a Section Three statement, which is where the voluntary notification regime is underpinned by a “call in” mechanism whereby the Secretary of State has the ability to request review of completed transactions back as far as five years after the event has taken place (or five years after the commencement of this new regime if it took place between 12 November 2020 and 3 January 2022), where there could be deemed to be a national security interest. In considering this, three main areas of risk are considered, namely target (what does it do, what is it or could it be used for), acquirer (sectors of activity, technological capabilities and links to other entities/existing holdings) and control (assessed alongside the other two areas).
Reviews, Clearance and Penalties
There is a 30 working day maximum period for the Secretary of State to review the transaction detail. This can be extended by a further 45 working day period. Note, that where additional information is requested, the clock is stopped, and so delays in providing the relevant information will delay the decision.
A final order will be given if it is deemed that there is a national security risk, together with remedies. If no issues are found, then the clearance is granted by a final notification.
Sanctions apply where there is a lack of compliance, and these are broad, ranging from up to five years imprisonment, to a fine of up to five per cent. of worldwide turnover or £10 million (whichever is the highest) for a transaction being completed without receiving clearance from the Secretary of State.
Given how the NSIA can “bite” onto a transaction, due diligence needs to consider the application of the NSIA. The NSIA’s statutory timelines for review (at least 30 working days) mean that application of the NSIA could significantly impact upon a transaction’s timeframe. Where there is uncertainty about the application of the NSIA, parties can make a voluntary notification to the BEIS’ Investment Security Unit. This will allow the closing of a transaction and provide investors/acquirers with certainty that the transaction will not be open to challenge post-closing. Parties should also consider the negotiation of any warranties and/or indemnities in respect of the NSIA, both in respect of the NSIA applying to the contemplated transaction and in respect of any transactions completed by the target on or after 12 November 2020.