In 2020, the U.S. Department of the Treasury (“Treasury”) issued several final regulations to implement the Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”), which as readers will recall expanded the jurisdiction of the Committee on Foreign Investment in the United States (“CFIUS”) to review and take action to address national security concerns arising from certain investments and real estate transactions involving foreign persons.

In addition, the U.S. Government also issued in 2020 several regulatory actions that impact foreign investments, including the identification and review by the U.S. Department of Commerce (“Commerce”) for “emerging and foundational technologies that are essential to the national security of the United States,” among others.

Overall, the final CFIUS regulations along with other regulatory actions call for closer scrutiny of foreign investments and export controls, indicating that the U.S. Government will continue to focus on national security threats arising from foreign investments in U.S. businesses. This article will provide an overview of the final regulations issued in 2020 and discuss how certain export-control regulatory actions will impact foreign investment and increase the number of transactions prompting CFIUS review.

2020 CFIUS Final Regulations

Treasury issued four sets of final regulations in 2020 which cover certain transactions involving foreign investment in the United States and certain real estate transactions by foreign persons.

On January 17, 2020, Treasury released two final regulations to implement the changes that FIRRMA made to CFIUS’s jurisdiction and processes. The regulations were released in two parts and became effective on February 13, 2020.

The first set of final rules, at 85 Fed. Reg. 3112 (“Part 800 Final Rule”),[1] amended 31 C.F.R. part 800, which among other things, includes certain non-controlling “covered investments” that afford a foreign person certain access, rights, or involvement in specific types of U.S. businesses. Treasury also published the real estate final rule at 85 Fed. Reg. 3158 (“Part 802 Final Rule”),[2] found at 31 C.F.R. part 802, implementing CFIUS’s new jurisdiction over certain real estate transactions by foreign persons in the United States.

Then, on July 28, 2020, Treasury issued a final rule[3] clarifying revisions to the definition of “principal place of business” and adopted the interim rule establishing filing fees for formal written notices of transactions filed with CFIUS. This final rule became effective on August 27, 2020.

Finally, on September 15, 2020, Treasury published another final rule (“Final Rule on Mandatory Filings”),[4] effective on October 15, 2020, which modified the mandatory filing requirement for certain foreign investment transactions involving a U.S. business that produces, designs, tests, manufactures, fabricates, or develops one or more critical technologies. Specifically, the mandatory filing requirement for critical technologies moved away from the industry-related test; and is now premised on whether the products and technology manufactured/produced by the U.S. business would require a regulatory authorization to export to certain persons in the ownership chain. The Final Rule on Mandatory Filings also made amendments to the definition of the term “substantial interest” along with a related provision; and made one technical revision. For more details about the Final Rule on Mandatory Filings, please see our previous article.

Although the final regulations significantly expand CFIUS’s jurisdiction to review certain foreign investments for national security concerns, the CFIUS filings remain primarily voluntary. Note, however, that there are two types of transactions that trigger the mandatory filing requirement (subject to certain exemptions): 1) certain covered control transactions or covered investments in certain U.S. businesses involved with critical technologies; and 2) covered transactions where a foreign government has a substantial interest in a critical technology, critical infrastructure, or sensitive personal data (“TID”) U.S. business. Parties can fulfil the mandatory declaration requirement by filing the short-form declaration or the full notice in lieu of the declaration.

Export Controls and CFIUS

The regulations for implementing FIRRMA have significantly incorporated export control regimes. Most importantly, “critical technologies” is defined to include five categories of certain items subject to export controls and other regulatory schemes, and emerging and foundational technologies controlled under the Export Control Reform Act of 2018. The export controls include items controlled under the International Traffic in Arms Regulations (“ITAR”), Commerce Control List of the Export Administration Regulations (“EAR”), and the Nuclear Regulatory Commission and Department of Energy regulations.   

As if export control regulations were not already impacting foreign investment scrutiny, the Final Rule on Mandatory Filings also modified the mandatory filings criteria for certain covered investments involving critical technology U.S. businesses to be premised on export licensing controls: after determining the U.S. export controls jurisdiction and classification of the “critical technology” at issue, the next step is to assess whether a “U.S. regulatory authorization” is required to export, reexport, or transfer the critical technology to the relevant foreign persons in the underlying transaction. Note that the definition of “U.S. regulatory authorization” includes licenses or approvals issued by the State Department under the ITAR, by the Commerce Department under the EAR, by the Department of Energy pursuant to 10 C.F.R. part 810, or by the Nuclear Regulatory Commission pursuant to 10 C.F.R. part 110. Notably, there are some exclusions applicable to the export regulatory authorization, including the use of EAR license exceptions. 

In any event, considering the continued use of export control regimes, export controls now more than ever are important and very significant in the national security risk assessment of foreign investments in the U.S.

Emerging and Foundational Technologies

FIRRMA was enacted in part to address the concern of foreign investors gaining access to sensitive U.S. technologies by investing in U.S. businesses that were outside the scope of CFIUS jurisdiction. Notably, “emerging” and “foundational” technologies are deemed “critical technologies” under the CFIUS regulations, and foreign investments involving such technologies are potentially subject to CFIUS review. Now that Treasury has issued the final rule to implement FIRRMA, the Bureau of Industry and Security (“BIS”) is under pressure to speed up the pace in identifying and issuing export controls for “emerging” and “foundational” technologies.

Previously, BIS slowly identified a small number of “emerging technologies,” mainly imposing controls through multilateral regimes, including the Wassenaar Arrangement and the Australia Group. On October 5, 2020, BIS published a final rule imposing new multilateral controls on six “emerging technologies.” The identified “emerging technologies” include i) machine tools, ii) computational lithography software, iii) silicon wafer technology, iv) software design for monitoring or analysis, v) digital forensics or investigative tools, and vi) sub-orbital craft. Following that, on November 6, 2020, BIS issued a proposed rule to add another “emerging technology” and potentially impose a unilateral control for certain “software” capable of being used to circumvent export controls on genetic elements and organisms.

Note that it was not until August 27, 2020, when BIS published the long-awaited advance notice of proposed rulemaking (“ANPRM”), requesting comments on the definition of, criteria for, and identification of certain “foundational technologies.” Some criticized, the ANPRM for not being nearly as detailed as the ANPRM for “emerging technologies” issued in 2018. For more details about the “foundational technologies” ANPRM, see our previous article.

Because the treatment of “emerging” and “foundational” technologies directly impacts the scope of transactions subject to CFIUS jurisdiction, there has been a lot of pressure on Commerce to make progress in identifying and issuing controls for such technologies. Consequently, Commerce has re-started its Emerging Technologies and Research Technical Advisory Committee to continue identifying new technologies for export control.

Export Controls Impact on Foreign Investment

The continued reliance on U.S. export controls regimes will likely result in an increase of foreign investments subject to mandatory filing requirements. In addition, even if not subject to a mandatory filing, in view of CFIUS’s increased stance of inquiring and opening reviews of non-notified transactions, parties involved in foreign investments with TID businesses are highly incentivized to voluntarily file a formal notice with CFIUS to ensure the regulatory safe harbor. Otherwise, parties involved in the underlying transaction bear the risk of facing penalties for failing to file a mandatory filing or potentially having the deal undone.

As Commerce continues to identify and impose controls for “emerging” and “foundational” technologies, this will also expand the scope of transactions subject to CFIUS jurisdiction. Consequently, the increased scope will generate a larger volume of transactions for CFIUS’s review, impacting voluntary and mandatory filings.

The rise of transactions that will be reviewed by CFIUS should not be taken lightly because an increase in funding for CFIUS operations and staffing was recently proposed to Congress. Additional resources for CFIUS are something companies should evaluate when deciding whether it is prudent to file. Overall, export controls and other regulatory scrutiny of foreign investment transactions for national security purposes is expected to continue with the incoming administration.***

In sum, the various export control regimes, at the heart of the foreign investment analysis to determine whether CFIUS jurisdiction applies, are growing at a significant rate. Therefore, now more than ever the due diligence review of underlying covered transactions or investments must include trade compliance. Parties must ensure that the target U.S. company has accurately classified its technologies and products with the correct export classifications and has effective export compliance procedures in place. Unfortunately, misclassification of products and technology is a common issue among companies subject to the export control regulations, and, in some cases, companies may have not classified their products and technologies (e.g., if they are not exporters of products or services and merely sell domestically).  Industry should be aware that incorrect classification of technologies and products will not only increase the company’s risk of civil and criminal penalties under the ITAR and EAR but can also impede or delay potential investment transactions subject to CFIUS review. Parties should not forget that CFIUS also has the authority to issue civil monetary penalties when mandatory filings are involved.

For questions regarding export classification reviews, transactions subject to CFIUS regulations, and any other matters discussed in this article, please contact the attorneys at Torres Law, PLLC.