Form a proper view of new security review rules

“The qualification is that the economic security review only focuses on the crown jewels, the most important resources, infrastructure, products and technologies.” He adds there has to be a “control element” to the proposed M&A: “For these non-defence industries, if the acquisition results in control by the foreign shareholder or shareholders, including control of a key aspect, then the process would be triggered. But if there is no control element, then there is no need to invoke the review.”

The review panel will comprise a cross-ministerial joint conference team (Joint Conference) led by the National Development and Reform Commission (NDRC) and Mofcom. Most other ministries will be represented, but the actual composition of each conference will vary from case to case based on the nature of the acquisition target.

It remains unclear how exactly “national security” is delineated, but Chan does note there is some attempt to define the term in the Circular. “National security involves security of a defence nature, such as military industries or domestic products or services that support such industries, as well as security of an economic nature,” he says. The Circular identifies four angles the review panel will consider for each application: national security, national economic stability, social order and key R&D capabilities that affect national security.

The new notice provides helpful details on the timeframe for the review process, which is divided into an ordinary procedure and a special procedure. After an application is received, if no issues are flagged about a possible M&A, then the applicant can expect to be notified of the result within 40 to 45 working days. However, if security concerns do flare up, then the special investigation review will be triggered and it could conceivably take up to 65 to 70 working days for notification on a decision from the Joint Conference. Though this is a definite improvement from the internal security reviews conducted in the past, Andy Liao, a partner at Shanghai firm HHP Attorneys-At-Law says, “the specific timing is still unpredictable due to the absence of clear provisions”.

A new allowance of this formalised review is that a foreign firm's competitor or relevant ministries, relevant trade associations and other players in downstream or upstream industries of the target can suggest through Mofcom to conduct a security review. Previously, even though requesting an investigation was possible in theory, the ministries were not obligated to notify any parties of their decision. Now, the Circular provides that the result of the review must be conveyed to the applicant, the foreign investor proposing the acquisition. “Allowing your competitor or another party at stake to make suggestion through Mofcom to invoke procedures could be a hassle too, it could be disruptive to the timetable for closing,” says Chan. He recommends thoroughly studying the new regulation and says that all in-house counsel can do is “form a proper view of the new rules, get to know them, structure the deal around them and be prepared for the review”.

Additionally, as the new national security review is fairly discretional, Liao recommends foreign companies to initiate the application to clear the security concern early on. “For this reason, having face-to-face talks with the relevant in-charge officials would be useful for the most effective communications and clarifications with the government,” he says.

The formation of this review panel was expected for some time (as reported by CLP in April 2010), but the unofficial practice of a national security review is nothing new and was already in existence as a concept in Chinese M&A rules effected in 2006. In fact, a national security review led by Mofcom's Anti-monopoly Bureau is referred to in Article 31 of the PRC Anti-monopoly Law (中华人民共和国反垄断法) (AML) in conjunction with a competition review if there are national security concerns. This would occur parallel to the Joint Conference-led security review if there was a concern to market impact on competition. Both reviews are separate, conducted by different authorities, and one competition specialist believes the new Joint conference procedure will create a distinct division between the two processes, clearing up any overlap that may have occurred in the past.

A follow-up notice is expected to be released sometime before March 5, clarifying further details on procedures, such as what information is to be submitted in an application package.

“This review might be a positive signal for China to speed up the reform and open up progress in the relevant sectors,” says Liao. “With this national security review system in place as a bottom –line protection measure, it would provide some comfort to the Chinese government to loosen up its general restrictions on foreign companies looking to invest in these areas in the near future.” CM