Timing and uncertainty are age-old considerations for any merger or acquisition, but what role does Washington play? Parties involved in transactions requiring approval from Committee on Foreign Investment in the US (CFIUS) oftentimes overlook this specialized national security risk, which has received increased public focus over the last few months, forcing buyers and sellers each year to abandon or structure deals to meet the regulatory burdens.
Despite aggressive efforts from the U.S. Government to support vulnerable businesses amidst the coronavirus pandemic, businesses are restructuring and exercising remedies to protect financial interests. When foreign parties emerge as potential investors or lenders, CFIUS approval is not the only contingency for a viable transaction–. First, the uncertainty of a timely review can upend billions in a deal; second, the uncertainty of negotiating commercially viable mitigation terms required to close the deal can instead force a firm to shutdown indefinitely.
On July 30, 2020, the 2019 annual report to Congress released a detailed report of CFIUS activity last year. A total of 231 notices were filed, with lower percentages of investigations reported and deals abandoned, with an additional 94 short-form declarations for an aggregate total of 325 actions for the year – the most in the history of CFIUS. The lower number of investigations reported may be due to the increased staffing at the Treasury and other CFIUS agencies which has facilitated a more robust and expeditious review process, along with the codification of the Foreign Investment Risk Review Modernization Act (FIRRMA) that provided for a more definitive jurisdictional framework and expanded the review timeline to 45 days (from 30 days).
Over the last decade, on average 52% of CFIUS filings proceeded to an investigation, and 15% of those deals were abandoned during the investigation. By statute for formal notices, CFIUS has 45 days to review transactions once it accepts the filing as complete. If CFIUS is unable to complete its review during this initial phase, it can extend the review into a second stage investigation for an additional 45 days.
Once the investigation period ends, CFIUS can choose two actions; stipulate mitigation terms necessary for sale, or—if no mitigation adequately resolves the national security concerns CFIUS identifies with the transaction, the agency recommends to the president to block the sale. In 2019, 48% of notices triggered an investigation, 1 deal was blocked by the president, and 12% of notices were withdrawn in the investigation period.1 On average in 2019, deals closed in 85 calendar days after an investigation.
Comparatively, a declaration is shorter and must be assessed by CFIUS within 30 days. At the end of the 30 days, CFIUS can opt to: (1) clear the transaction, (2) request that the parties file a formal notice, restarting the clock of the initial 45 day review once the application is accepted as complete. (Failure to submit this new mandatory filing could be penalized up to the value of the transaction.), (3) inform the parties that CFIUS is unable to conclude action, but not request or self-initiate a notice (an outcome now commonly referred to as the "shrug”).
For the 2019 period, only 35 of the 94 declarations were cleared by CFIUS, which is a signal to dealmakers that there is greater than a 60% probability that a declaration will require a full notice – ultimately extending the timeline of the deal and increasing the uncertainty.
Extended review times are still possible, particularly in the high value tech sectors, and CFIUS remains keenly interested in deals with a Chinese acquirer. Despite a precipitous drop in investment from China, and a reduction in filings during the 2019 period, parties should be cognizant of the relative risk of deals with a nexus to China.
Deals with negotiated mitigation terms often involve potential foreign access to sensitive personal data, particularly from China. In 2019, CFIUS required 14% of its filings to adopt mitigation measures in order to approve the sale, and 2% of deals were abandoned due to inability to meet required mitigation measures. As deal timing and uncertainty subside when a review is concluded, an investor’s best approach in closing a deal are strategies for aggressively negotiating potential mitigation steps early in the transaction cycle.
The 2019 Annual Report notes that 8 notices were abandoned in light of CFIUS-related national security concerns, 4 were abandoned for commercial reasons in 2019, and the economic downturns and challenges arising from the coronavirus pandemic are sure to increase the number of abandoned deals in 2020.
Ultimately, international investors should bear in mind that the feasibility, certainty, and cost for any transaction will be determined by a timely CFIUS review and a skilled negotiation to navigate required mitigation terms.