The German Federal Government has amended the Foreign Trade and Payments Ordinance to increase the barriers for M&A transactions involving non-EU investors. Parallel to this, the European Commission presented a draft Regulation in September, aimed at creating a European legal framework for vetting foreign investments.
Since the middle of July, stricter rules have been in force for M&A transactions involving investors based outside the EU and EFTA member states. The rules apply to both direct and indirect shareholdings, if at least 25% of the voting rights in a German company are acquired as a result. More particularly, the German Federal Government has
The tighter rules can be seen as the reaction to a series of spectacular acquisitions of German companies by Chinese investors. They are however applicable to all investors based outside the EU and EFTA member states.
The practical effects of the new rules on transactions are not to be underestimated. In many cases, the new compulsory reporting will create a significantly higher workload for investors and sellers. The importance of the clearance certificate in transactions will increase further. In addition, the parties will frequently have to allow for more time between signing and closing. This is likely to mean a further increase in the vetting intensity of the Federal Ministry for Economic Affairs and Energy, seen since the takeover of the robot manufacturer Kuka and the attempted takeover of the semiconductor producer Aixtron by Chinese investors. Parallel to this, the EU Commission is working on new, even farther-reaching investment controls at European level.
On July 12, 2017, the German Federal Government tightened the existing rules controlling non-EU investments in Germany, through the 9th Amendment of the Foreign Trade and Payments Ordinance ("AWV"). On the one hand, it introduced a catalogue of particularly security-relevant economic areas in line with the French example. In the opinion of the German Federal Government, investments in these areas can constitute a threat to public order or security. This concerns above all investments in companies operating so-called critical infrastructures. These include specific services and investment categories in the following economic areas:
These are considered critical if they are of high importance for the functioning of public life, because their breakdown or impairment would result in significant supply problems or risks to public security. Exactly when this applies is determined by specific threshold levels. These are set out in extensive annexes in the Ordinance on the Determination of Critical Infrastructure under the law governing the Federal Office for Information Security.
The new catalogue also covers companies that develop or alter industry-specific software for the operation of critical infrastructures, those entrusted with telecommunications surveillance tasks, those providing cloud computing services or those involved in the field of telematics infrastructure. The catalogue is not however exhaustive, but rather names only "examples of cases of particular relevance to security" based on the explanatory memorandum to the law. This means that all transactions can continue to be scrutinized by the Federal Ministry for Economic Affairs and Energy. The new catalogue does however give investors greater legal security if investment controls are to be reckoned with.
If a non-EU investor acquires a direct or indirect shareholding in a German company operating in a particularly security-relevant economic area, the investor must now report the acquisition to the Federal Ministry for Economic Affairs and Energy in writing. This applies to all acquisitions through which the investor acquires at least 25% of the voting rights. In the past, compulsory reporting applied solely to the acquisition of shareholdings in specific arms companies as well as in specific companies involved with classified government information. The catalogue of arms companies has also been extended through the tightening of the Foreign Trade and Payments Law.
Following receipt of the report, the Federal Ministry for Economic Affairs and Energy can check whether, in its opinion, the acquisition constitutes a threat to public order or security. To this end, it must notify the direct acquirer and the German company of the opening of the vetting process in writing, within three months of gaining knowledge of the conclusion of a contractual agreement under the law of obligations concerning the acquisition. Since the reform, on-time service to the German target company is the sole authoritative factor for adherence to the deadline. Special rules continue to apply in terms of the periods for the acquisition of shareholdings in listed companies.
Also new is that, for all investments, the three-month scrutiny period does not begin until the Federal Ministry for Economic Affairs and Energy gains knowledge of the conclusion of the contractual agreement under the law of obligations. In the past, the period always began upon conclusion of the contractual agreement, irrespective of knowledge on the part of the Ministry. This effectively obliges all investors to report, in order to obtain legal certainty concerning the transaction. This is because, if the Federal Ministry for Economic Affairs and Energy does not gain knowledge of an investment, it still has five years during which to scrutinize relevant transactions. In practice it will hardly be possible to prove knowledge on the part of the Ministry without a report.
If the Federal Ministry for Economic Affairs and Energy scrutinizes a transaction based on security concerns, this creates a substantial workload for the companies involved. They have to submit a large number of records and documents, as set out in a general order of the Federal Ministry for Economic Affairs and Energy. These include in particular the acquisition agreement, financial statements and consolidated financial statements, consortial agreements, a presentation of the business strategy as well as extensive documents concerning the structure of the transaction. These are roughly the same documents that would also be required given merger control proceedings by a cartel authority. If a merger control notification to the German Federal Cartel Office is also required in the context of the transaction, this can create major synergies. In practice however, additional documents are regularly requested. As all documents must be submitted in German; this can result in considerable translation work for which time must be allowed.
Following receipt of the complete documentation, the Federal Ministry for Economic Affairs and Energy now has four months (compared to two months prior to the broadening) in which to review the acquisition in terms of any risk to public order or security. There is now also an explicit ruling to the effect that, within the scope of the vetting process, the Federal Ministry for Economic Affairs and Energy can negotiate with the parties involved concerning contractual regulations to ensure public order or security in the Federal Republic of Germany. A new aspect is that the four-month vetting period will be suspended for the duration of the negotiations. In practice, this can result in a further significant prolongation of the vetting process.
In order to obtain the quickest possible legal certainty concerning a transaction, investors will have to apply for a clearance certificate even more frequently in future. It is still also possible to apply for this prior to conclusion of the contract. Here too however, the vetting period, or the period for the approval fiction, has been extended to two months (instead of one month in the past). As a result, the periods for the investment control check (two months) and for the merger control check (one month in phase I) will deviate in future. In practice, given the deviating checking periods, the application for the clearance certificate should not therefore be delayed until after signing.
Acquisitions of German companies by EU-based companies will remain within the scope of the German investment review in future. As in the past however, a requirement for a review is evidence of an abusive construction or of a transaction aimed at avoiding a review. A new aspect is that, under the amended Foreign Trade and Payments Ordinance, it should be sufficient if the construction has been chosen "at least also" for avoiding a review. Because previously, other reasons could regularly be put forward in practice for the construction of the transaction (e.g. tax optimization or Corporate Governance). This will now no longer suffice by itself. Rather, there will always be indications of circumvention if the direct acquirer pursues no noteworthy independent economic activities other than the acquisition, or does not maintain any permanent own presence in the EU in the form of business premises, personnel or equipment. In this respect, a presence of the direct acquirer in an EFTA member state shall be equivalent to a presence within the EU.
Parallel to the tightened national investment controls introduced by the German Federal Government, the European Commission presented a draft Regulation in September 2017, aimed at creating a legal framework for the vetting of foreign direct investments in the EU. On the one hand, the draft sets out minimum requirements for the EU member states when vetting foreign direct investments in the EU. These include the possibility of having a decision reviewed by a court, specific transparency requirements as well as a prohibition on discrimination. In addition, non-exhaustive criteria are set out that must be taken into account when assessing whether an investment endangers the security interests or the public order of a member state. These include possible effects on critical infrastructure and sensitive facilities, critical technologies, including artificial intelligence, robot technology, access to sensitive information or the possibility of controlling such. Account must also be taken of whether the investor is controlled by a state or government, or is financed by such. The draft also provides for member states informing the European Commission of the initiation of investment-vetting processes within five working days, and for any member states affected consulting in proceedings subject to a time limit. The Commission itself can issue a member state that has initiated a vetting process, with an estimate within 25 working days. The Commission's estimate must be taken into consideration but is not binding. Nevertheless, any deviating decision must be justified to the Commission.
The tightening of the cross-sector investment review by the German Federal Government will have effects on transaction practice. Above all, it will prolong the transaction process in many cases. This makes efficient structuring of the transaction process all the more important. If investments concern particularly security-relevant economic areas, the new compulsory reporting will increase the workload on companies, who will have to plan more time for this. It may be possible to shorten the vetting periods through proactive submission of the required documents. As transaction certainty and transaction speed are regularly of decisive importance for the successful conclusion of a transaction, non-EU investors will have to apply for a clearance certificate even more frequently and even earlier in future.
At European level, swift implementation of the proposal of the EU Commission can be expected parallel to this, as this proposal has the support of Germany, France and Italy among others. In this respect, coordination of the EU member states is fundamentally welcome. Because, with foreign direct investments that concern several EU member states, individual investment review procedures must currently be carried out in each of the relevant member states. Nevertheless, the proposed ruling at EU level will further increase the complexity of every acquisition process.