Zilin Wu
Comparative Study of National Security Review on Merger and
Acquisition – How to Build the System in China
Zilin WU
A. The History of Legislation about National Security Review in the U.S.
1. Early Era
The national security review of merger and acquisition in the U.S.
was established during the World War I. At that time, investment
from Germany was one of the biggest foreign investments to the
U.S. In order to protect the economic safety and boycott the major
rivalry Germany, Trading with Enemy Act (TWEA) became effect
on October 6, 1917. During the war, under the authorization of
TWEA, President Wilson blocked all the German companies’ assets
and put them under management of the U.S government.
After WWI, several acts that limit the access of foreign capital in
certain industry were issued, e.g. Merchant Marine Act and Mineral
Lands Leasing Act in 1920, Air Commercial Act in 1926.
2. Establishment of CFIUS and Exon-Florio Amendment
Global economy was suffered during the World War II. Due to the
war, no country was able to devote huge amount of capital into
foreign investment except for the United States itself. However, in
the 1970s, OPEC countries and Japan started to acquire American
companies and worries about the economic risk increased. Under
this circumstance, Foreign Investment Study Act was issued in
1974. In 1975, as soon as OPEC carried out oil embargo against
America, President Ford’s Executive Order 11858 established the
Committee on Foreign Investment in the United States (CFIUS).
Under the Executive Order, CFIUS have a "primary continuing
responsibility within the Executive Branch for monitoring the
impact of foreign investment in the United States, both direct and
portfolio, and for coordinating the implementation of United States
policy on such investment." International Investment Survey Act of
1976 grants Department of Treasury and Department of
Commerce the power of survey on information about direct and
portfolio foreign investment, which can be important to the work
of CFIUS.
In 1980s, along with the rapid development of Japan’s economy,
Japanese companies played the most important roles in foreign
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M&A in the United States. Exxon’s headquarter was sold to Mitsui
& Co. for $610 million in 1986, and at the same year, Fujitsu Co.
attempted to acquire Fairchild Semiconductor Corporation.
Comparing to the merely shock about Japanese company’s wealth
in the Exxon deal, the Fairchild deal was considered more of a
national security threat. Fairchild was the biggest semiconductor
manufacturer back in 1950s and 1960s, and its products were
comprehensively used in military projects, it had a direct effect on
the national security. When the awful performance in 1970s and
1980s forced the board of Fairchild to sell it, the whole country
was concerned. Senators wrote to the President and Department of
Justice to address that Fairchild is one of the major component
suppliers to the Department of Defense, it would be unwise to put
such company under control of a foreign country; although Japan
was an ally to the U.S., the sensitive military industry that the
Fairchild was involved in should be properly protected. At that
time, there was no legal method that the U.S could adopt to stop
the deal, but Fujitsu eventually gave up because of the huge
pressure.
Though Fujitsu failed in acquiring Fairchild, the discussion about
the deal did not stop. People advocate legislation about protect
national security in foreign investment, and in 1988, Exon-Florio
Amendment was passed.
The Exon-Florio Amendment amended section 712 of Defense
Production Act of 1950. The § 712 is about the authority to review
certain mergers, acquisitions and takeovers. It authorized the
President power to review on M&A that may involve national
security, and the President has the power to terminate any deal
that threats national security. See 50 App. U.S.C.A. § 2170. Right
after the Exon-Florio Amendment became effect, President
Reagan’s Executive Order 12661 authorized the § 712 power to the
chair of CFUIS, Secretary of Treasury. In 1991, Regulations
Pertaining to Mergers, Acquisitions and Takeovers by Foreign
Persons went effect to implement § 712 (1991 Regulation).
With 1991 Regulation, CFIUS was able to review 152 deals in 1991,
but only China National Aero-Technology Import and Export
Corporation, acquiring Mamco Manufacturing Inc. went through
the whole procedure of CFUIS review and was blocked, others just
gave up or set up conditions to guarantee on national security.
In 1992, the French military contractor Thompson-CFS, which had
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a history of weapon transaction with Iraq, attempted to acquire
LTV’s missile and aero division. LTV’s creditors and bankruptcy
judge accepted the offer of Thompson-CFS, which was the highest
bid, but the deal was protested by the other bidder team Martin
Marietta Corporation and Lockheed Corporation. Martin Marietta
applied for national security review. Though Thompson-CFS made
efforts to negotiate with the Department of Defense and promise
the sensitive military technology would not access to any foreign
governments, the deal still failed under great pressure.
After failure of this phenomenal acquisition, several amendments
were made to the Exon-Florio Amendment. These amendments
expanded the scope of national security review, and made it
stricter, especially regarding to the investment made by
state-owned foreign entities.
3. The Foreign Investment and National Security Act
Entering into the 2000s, 911 had tremendous impact on almost
every aspect of national security, and people tended to more
conservative views on this issue too.
In June 23, 2005, China National Offshore Oil Corporation (CNOOC)
offered $18.6 billion cash to buy Unocal Corporation. Unocal was
satisfied with the rather generous offer, however, this is a deal with
much controversy. The main accusation of the deal was that 70%
of the CNOOC share was held by state-owned company. And the
loan for CNOOC to buy Unocal was offered by the state-owned
parent company and a state-owned bank. Some people worried
that this was more than just a Chinese company acquiring an
American company, but a method for Chinese government to
control oil resources through the transaction.
The congress took moves to prevent Unocal from being sold to
CNOOC, and CNOOC voluntarily submitted notice for national
security review in return. While the security review in process, the
congress passed amendment to Energy Policy Act. Under the new
provisions, if CFIUS wanted to approve the acquisition, a report
about China’s energy status must be submitted in 120 days, and
only until the 21st day after the submission could the CFIUS
approve it. While CNOOC was stuck in the complicated process of
national security review, CVS initiated an offer to buy Unocal and it
was approved by the board of Unocal. In August of 2005, CNOOC
revoked its offer, and the acquisition failed.
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In the same year of Unocal deal, Dubai Port World (DPW), which
was controlled by the government of United Arab Emirates, offered
to acquire a British company, Peninsular & Oriental Steam
Navigation Co. (P&O). P&O was running 6 ports along the east
coast of America. In October 2005, DPW voluntarily applied for a
national security review by CFIUS. In January 2006, CFIUS
unanimously approved the transaction.
However, the decision was strongly criticized by both the Congress
and the media. Opponent opinions were mainly focus on UAE’s
performance in 911, that some of the hijackers were from UAE, and
UAE also recognized the Taliban regime.
In reaction, DPW resubmitted the deal to CFIUS to have an
additional 45-day review. Under great pressure caused by the
Congress and the media, before the review could be done, DPW
announced that the 6 American ports would be sold to a pure
American company.
Both of the CNOOC and DPW transactions were triggers to the
Foreign Investment and National Security Act of 2007 (FINSA).
FINSA authorizes CFIUS to execute national security review, and
under FINSA, members of CFUIS increased into 16.
Comparing with Exon-Florio Amendment, FINSA sets detailed
standards and elements of the review on foreign M&A, especially
on those carried out by states-owned foreign entities. See
FOREIGN INVESTMENT AND NATIONAL SECURITY ACT OF 2007,
PL 110–49, July 26, 2007, 121 Stat 246.
Also, to determine whether a foreign M&A will have negative effect
on national security, 11 elements are to be applied under FINSA.
Furthermore, as a new trend of 2000s, FINSA pays more attention
to aspects like high-tech and energy, while the traditional view of
national security mainly focuses on military defense. Id.
In 2008, the Department of Treasury issued the Implement
Regulation of FINSA.
B. Implementation of National Security Review on Foreign M&A
The Committee on Foreign Investment in the U.S. is the institution that
implements national security review on foreign M&A.
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Under FINSA, the chair of CFIUS is the Secretary of Treasury, other 15
representatives including Secretary of States, Secretary of Commerce,
and Secretary of Homeland Security.
As determined by § 721, the Committee shall review or investigate
whether: (1) The transaction is by or with any foreign person and
could result in foreign control of a U.S. business; (2) There is credible
evidence to support a belief that any foreign person exercising control
of that U.S. business might take action that threatens to impair the
national security of the United States; and (3) Provisions of law, other
than section 721 and the International Emergency Economic Powers
Act, provide adequate and appropriate authority to protect the
national security of the United States. See 31 C.F.R. § 800.501(a).
The definition of foreign person includes foreign nationals, foreign
governments and entities, as well as entities that are controlled by
foreign national, government or entities. See 31 C.F.R. § 800.216.
The meaning of “control” in this regulation is much more complicated
and comprehensive than just holding the controlling stake. The control
under § 721 is a fundamental power about carryout a major impact on
the company decisions, no matter direct or indirect, and no matter
what means does the controller take. The statute lists almost all the
ways that a party may have control over the company. See 31 C.F.R. §
800. 204.
FINSA adds the pre-notice consolation to the formal procedure of
national security review. The pre-notice consolation encourages
companies to disclose necessary information to CFIUS, therefore the
national security review can be more efficient, even decreases the
length of review or investigation. And under FINSA, there are four
specific circumstances where a party may apply to the 45-day
additional review. FINSA also states that the chair of CFIUS has the
duty to submit an annual report to the congress. See FOREIGN
INVESTMENT AND NATIONAL SECURITY ACT OF 2007, PL 110–49,
July 26, 2007, 121 Stat 246.
C. The Most Recent Case: Ralls Corp. v. Comm. On Foreign Inv. in the U.S.,
926 F. Supp. 2d 71 (D.D.C. 2013)
1. Facts
The plaintiff Ralls Corp. is a Delaware corporation owned by two
executives who are China’s major manufacturer, and the company
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acquired a wind-farm in Oregon in 2012. The location of the
wind-farm was vicinity to a Naval installment, therefore the
acquisition was filed to CFIUS. After national security review,
CFIUS ordered that Ralls should divest the assets and terminate the
project. After that, President Obama issued a Presidential Order as
CFISU recommended. In the order, President Obama stated that
based on some “credible evidence” that the owners of Ralls “might
take actions” that will “threaten national security of the United
States”. Under both orders, only after Ralls removes all affixed
items of the site and provide notice to CFISU can Ralls transfer
products of the project and the project itself.
Ralls sued CFIUS and President Obama. They claimed that the
orders violated the Exon-Florio Amendment and Administrative
Procedure Act (APA), and the required divesture was in violation of
due process.
The U.S. government moved to dismiss.
2. The Court’s Analysis and Holdings
a. Claims Challenging the Presidential Order
First, Ralls alleged that some provisions in the Presidential
Order are ultra vires. Under the APA, this court has no
jurisdiction to review presidential actions. And also, the finality
provision under § 721 bars the court’s judicial review. § 721
states that “The actions of the President under paragraph (1) of
subsection (d) of this section and the findings of the President
under paragraph (4) of subsection (d) of this section shall not
be subject to judicial review.” 50 U.S.C. app. § 2170(e).
Second, the court lacks jurisdiction of equal protection
challenge, but it has jurisdiction over the plaintiff’s due process
challenge. The equal protection challenge was barred by
finality provision of § 721. Id. The jurisdiction of due process
claim was granted by the Due Process Clause of Fifth
Amendment, and the claim is a pure legal question that can be
answered without examine the President’s decision.
b. Claims Challenging the CFIUS Order
The plaintiff argues that the challenge of CFIUS order satisfied
the requirement of “mootness doctrine for actions that are
capable of repetition yet evading review.” However, Ralls failed
in this claim, because the CFIUS did not evade review, and Ralls
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did not satisfy its burden of proof. Ralls Corp. v. Comm. On
Foreign Inv. in the U.S., 926 F. Supp. 2d 71, 96 (D.D.C. 2013)
c. Holding
Except for the due process claim, the Court grants defendant’s
motion to dismiss on other claims.
3. Impact of the Case
The Court’s decision confirms the comprehensive presidential
rights under Exon-Florio Amendment, but the decision regarding
due process may bring some change.
Ralls claimed that they should have opportunity to access to the
“credible evidence” based on which the order was made, so that
they can rebut it under the Due Process Clause. However, the
decision of CFIUS was made on classified information due to
national security reasons. And CFIUS uses that information to
produce national security risk report, which spontaneously
contains highly sensitive information. While the due process clause
requires disclosure of the information and national security needs
the other way, is there any means that can balance the benefits?
The judgment of due process claim is still in process, and we will
see.
D. What U.S. Experience Can Be Applied To China?
a. The Legislation
In China, legislation about national security review of foreign M&A
was not as well constructive as what in the U.S. There is national
security review of foreign M&A in Antitrust Law issued in 2008,
but it is limited to the aspect of anti-trust. The national security
review system was not established until 2011, when the
department of commerce issued Notice of National Security
Review (the Notice) and Rules of National Security Review (the
Rule).
The Notice and the Rule just state certain principles of national
security review, it lacks detailed rules that can guide
implementations. For example, in § 721, there is detailed definition
about “foreign person” and “control” that can accurately identify
whom to be reviewed. But the Notice and the Rule only state
“foreign investors” without any detailed definition.
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Besides, the Notice and the Rule is not law that passed through
Congress of People’s Representatives. When executing the Notice
and the Rule, if it is in confliction with other laws or regulations,
because of the lower hierarchy national security might at risk.
For example, in Catalog of Industries for Foreign Investment (the
Catalog) equipment manufacturing belongs to encouraging
industries, but this industry often involves military equipment
manufacturing. If a foreign investor acquires on such manufacturer,
because the Catalog and the Notice are at the same level, it is hard
to trump the catalog.
Therefore, in legislation, a law about national security review of
foreign M&A along with a more detailed and more practical
regulation is in need.
b. The Executive Institution
Under the Notice and the Rule, national security review on foreign
M&A should be submitted to a national security committee leaded
by China's National Development and Reform Commission (CNDRC)
and the Ministry of Commerce.
The CFIUS is a fixed committee with clear power and responsibility
regarding to the national security review. But the national security
committee in China is not a permanent organ. Although the Rule
does not state it, but we can see from the words that the committee
will only be set up when there is need of national security review.
Also, the Rule does not make it clear the concerned departments
under leading of CNDRC and Ministry of Commerce are which
departments. And the scope of this institution is vague as well.
The execution of the security review committee might be
inefficient and might have problems of authorization, while § 721
authorized CFIUS with clear power and duties.
To set up a permanent institution that has the power and
responsibility to national security review is also a big step.
References:
1. Jose E. Alvarez, Political Protectionism and United States International
Investment Obligations in Conflict: The Hazards of Exon-Florio, 30 Va. J. Int'l L.
1 (1989)
2. Christopher R. Fenton, U.S. Policy Towards Foreign Direct Investment
Post-September 11: Exon-Florio in the Age of Transnational Security, 41
Colum. J. Transnat'l L. 195 (2002)
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3. Jim Mendenhall, United States: Executive Authority to Divest Acquisitions
Under the Exon-Florio Amendment-the Mamco Divestiture, 32 Harv. Int'l L.J.
286 (1991)
4. Joshua W. Casselman, China's Latest "Threat' to the United States: The Failed
Cnooc-Unocal Merger and Its Implications for Exon-Florio and Cfius, 17 Ind.
Int'l & Comp. L. Rev. 155, 162 (2007)
5. Deborah M. Mostaghel, Dubai Ports World Under Exon-Florio: A Threat to
National Security or A Tempest in A Seaport?, 70 Alb. L. Rev. 583 (2007)
6. Review of Major Developments Affecting Mergers, Acquisitions, and
Divestitures, 32 No. 3 Corp Acq Ideas NL 1
7. Hu Shengtao, Searching For New Balance Between Open Investment and
National Security – The Legislation Value of American National Security
Review of M&A to China, Pecking University Press, Journal of International
Economic Law 01. (2007)