While the European Commission now has a foreign direct investment regulation — and has attempted to explain it — key questions remain regarding how it will function in practice and how future national security and public interest reviews will be approached, say Kirkland attorneys Michael Casey, Marcus Thompson and Thomas Wilson in this article for Law360.
The European Union has recently taken a significant step in regulating foreign direct investment, or FDI. As of Oct. 11, a new EU regulation related to inbound foreign investment, the foreign direct investment regulation, became binding on all 27 member states.
The new FDI regulation does not create a stand-alone mechanism to vet foreign investment akin to the Committee on Foreign Investment in the United States or the national security review systems established by individual member states.
Rather, the new EU FDI regime establishes minimum standards for member states' review systems, creates an information sharing channel between the European Commission and member states, and institutes a formal mechanism for the EC and member states to provide feedback on FDI that occurs within the EU.
In recent years, roughly half of the member states have adopted national security/public interest review mechanisms to screen foreign investments that occur within their countries. Until now, the EU had not adopted standards or a review mechanism to screen inbound investments at the supranational level.
The lack of a uniform approach to national security reviews among member states led the EC in March 2019 to adopt the FDI regulation that came into force this month. As discussed in greater detail below, the new EU FDI system intends to supplement, rather than replace, member states' national review systems.
The New EU Regime
Minimum Requirements for Member States' Review Mechanisms
The FDI regulation does not require member states to implement FDI reviews at the national level or to screen particular types of investments. Member states remain free to choose whether to adopt domestic review systems.
However, the FDI regulation requires member states that elect to implement national security/public interest screening systems to meet certain minimum standards. For example, all member states' review mechanisms must establish transparent criteria that do not discriminate between third countries, protect confidential information and authorize third parties to seek recourse against screening decisions made by competent authorities.
In addition, member states that adopt these review systems must file annual reports with the EC by March 31 of each year. These reports must detail the application of national screening mechanisms, including decisions to allow, prohibit or subject FDI to conditions mitigating measures.
Member states also must note FDI decisions made at the national level that are likely to affect projects or programs of EU interest within their territory. The annual reports also will detail aggregated information on feedback received from other member states regarding FDI, including comments on proposed transactions and requests for additional information.
Relevant Criteria to be Assessed by Member States
The FDI regulation specifies illustrative criteria that the commission and member states may consider when assessing the potential effects of a foreign investment on security and public order, including:
- Critical infrastructure;
- Critical technologies (including dual use technologies);
- Supply of critical inputs;
- Access to sensitive information; and
- Freedom and pluralism of the media.
The EC and member states also will consider other factors, including whether (1) the foreign investor is owned or controlled by a foreign government; (2) the foreign investor has already been involved in activities affecting security or public order in an member state; and (3) there is a serious risk that the foreign investor engages in illegal or criminal activities.
In addition, the FDI regulation mandates member states that have adopted review mechanisms to assess potential foreign takeovers of companies that may be involved in EU-funded projects or programs of Union interest. Such projects and programs of Union interest "involve a substantial amount or a significant share of Union funding" or are covered by EU law regarding critical infrastructure, technologies or inputs that are essential for security or public order.
The FDI regulation details eight such projects, including Horizon 2020, the Copernicus Program and the Trans-European Transport Network.
The New FDI Apparatus
The FDI regulation does not establish a stand-alone review mechanism at the EU level. More specifically, the FDI regulation does not authorize the EC to review, block or impose mitigating measures on proposed foreign investment that occurs within the EU.
In this way, the FDI regulation is notably different than CFIUS and the national security/public review mechanisms adopted by member states at the national level. The FDI regulation expressly notes that decisions with respect to blocking or imposing mitigating measures on foreign investment are in the exclusive domain of member states.
However, the FDI regulation creates an information sharing mechanism pursuant to which EU member states must inform the EC and other member states of FDI that occurs in member states that is subject to review at the national level.
For such FDI transactions, member states are obligated to share with the EC and other member states information regarding: (1) the ownership structure of the foreign investor; (2) the value of foreign investment; (3) products, services, and business operations of the foreign investor; and (4) the date of the transaction.
Other member states and the EC can request additional information regarding such investments, which must be provided by the reviewing member state without undue delay.
The FDI regulation prescribes that the EC and other member states may issue nonbinding opinions and comments within a reasonable period of time regarding whether FDI transactions pose a threat to the national security of one or more member state, or could undermine EU programs or projects.
The EC and other member states must issue their opinions and comments within 35 calendar days from receiving the relevant information from the member state concerned, although this time frame can be extended by 20 calendar days if the EC or other member states request additional information regarding the transaction at issue.
In circumstances where the investment is not subject to a FDI screening mechanism at the national level, the FDI regulation prescribes that other member states may still issue comments if contemplated FDI in another member state is likely to affect its own security or public order. Before the issuance of either an opinion or comment, further information can be requested about the FDI.
The time frame for submitting these comments and opinions is the same as outlined above, though the EC has an additional 15 calendar days to issue its opinion.
Member states must give due consideration to other member states' comments and to the EC's nonbinding opinion. In relation to projects or programs of Union interest, the respective member state must take utmost account of the EC's nonbinding opinions and provide an explanation if the opinion is not followed.
The new EU system only applies to FDI that occurs within the European Union. The regulation does not define what constitutes foreign direct investment, but notes that portfolio investments are not included within this definition.
The EC has explained that portfolio investments "do not confer the investor effective influence over management and control of a company" as they are "generally less likely than FDI to pose issues in terms of security or public order." However, the EC further advised that acquisitions of "at least qualified shareholding that confers certain rights to the shareholder or connected shareholders under the national company law (e.g. 5%)" would not be treated as portfolio investments for purposes of the FDI regulation.
COVID-19 Related Developments
In light of the COVID-19 pandemic, in March the EC issued a guidance note for screening FDI in companies and critical assets located in the EU, including those operating in the fields of health, medical research, biotechnology and infrastructures deemed essential for security and public order. The guidance notes that "today, more than ever, the EU's openness to foreign investment needs to be balanced by appropriate screening tools."
The guidance states the pandemic has exemplified the importance of preserving and sharing health care and research capacities between member states and other countries. In addition, the guidance reiterates that acquisitions, especially in the health care sector, may have an impact that transcends national borders, and urged member states to monitor FDI that occurs within their territories.
Through the publication of the FDI regulation and the more recent guidance, the EC has attempted to explain how the newly established system will operate. Nevertheless, several key questions remain regarding how the FDI regulations will function in practice and how the EU will approach national security/public interest reviews in the future.
- What transactions will be subject to review? The FDI regulation is designed to address foreign direct investment. However, this term is not expressly defined, leaving open questions regarding the types of transactions that are covered. Similarly, portfolio investments are not defined either, which creates further ambiguity about the scope of covered transactions.
- What role will transaction parties play? The FDI regulation does not specify a mechanism for parties involved in a FDI transaction subject to review to interact directly with the EC or member states that are not reviewing the transaction at the national level. As a result, it is unclear whether such parties will play a formal or informal role during the review process.
- How political will the EU process be? EC opinions and member state comments regarding FDI technically are only permitted to address national security and public interest considerations. Nevertheless, it is possible — and perhaps likely — that political considerations outside of those areas will inform EC opinions and lead member states to issue comments regarding proposed transactions.
- How will multi-jurisdictional investments be reviewed? FDI frequently involves cross-border transactions that touch multiple member states. Assessing foreign investments that involve multiple member states will present challenges and complications at both the EU and member state level.
The recent implementation of the FDI regulation will force the EC and member states to resolve these — and other — issues.
The FDI regulation is the EU's first attempt to regulate FDI at the EU level. Although the new EU system is more limited than CFIUS and the review mechanisms established by individual member states, it is another factor that parties need to consider when engaging in transactions within the EU that involve foreign investors.
Following the adoption of the FDI regulation, a number of member states have introduced or expanded their FDI regimes — e.g., France, Germany, Spain, Italy, Poland. Closer coordination between governments and heightened scrutiny of investments in the EU is expected to ensue.
Michael S. Casey, Marcus Thompson and Thomas S. Wilson are partners at Kirkland & Ellis LLP.
Georgia Cooper-Dervan, a lawyer trainee at the firm, contributed to this article.
The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
 Regulation (EU) 2019/452 of the European Parliament. See https://eur-lex.europa.eu/eli/reg/2019/452/oj
 On July 31, the EC determined that the United Kingdom would not participate in EU-level cooperation and information sharing in relation to FDI. The EC's decision was based upon the Withdrawal Agreement, and therefore applies prior to the end of the Brexit transition period. See https://trade.ec.europa.eu/doclib/docs/2020/august/tradoc_158921.pdf
 On June 17, the EC published a White Paper dealing with distortive effects of foreign subsidies to the internal market. See https://ec.europa.eu/competition/international/overview/foreign_subsidies_white_paper.pdf. If foreign subsidy rules are adopted, transactions potentially may be subject to three parallel notification systems: EU/national merger control, national FDI and foreign subsidy control.
 Id., See Article 22.
 See, https://trade.ec.europa.eu/doclib/docs/2020/march/tradoc_158676.pdf.
 On June 17, the EC announced the publication of a White Paper dealing with the distortive effects caused by foreign subsidies in the Single Market and is seeking views from all stakeholders on options set out therein.