UK investment screening: supporting a more pro-investment approach

Since entering into force just over two years ago, the UK National Security and Investment (NSI) regime has resulted in a marked step-change in screening of transactions on national security grounds in the UK, for both foreign and UK investors. In response to criticism that the regime places a disproportionate burden on investors and lacks transparency in decision-making, the UK Government issued a Call for Evidence in November 2023 seeking feedback on a range of proposals aimed at making the regime "as pro-business and pro-investment as possible" (see our previous blog post on the Call for Evidence).

We recently submitted our response to the Call for Evidence, drawing on our experience of advising clients on the application of the NSI regime and regularly dealing with the Investment Security Unit (ISU) – including involvement in 4 of the 12 conditional clearance decisions to date. We welcomed many of the Government's proposals to streamline the regime and improve transparency of the decision-making process. In particular:

• we encouraged the Government to limit the scope of the regime by introducing exemptions from mandatory notification for certain types of transactions, including internal reorganisations;
• we suggested proportionate amendments to narrow the definitions of specified activities in sensitive sectors (which are key to determining whether the mandatory notification obligation is triggered), and cautioned against expansion of any those definitions unless a clear risk to UK national security is identified;
• we emphasised the need for more detailed guidance for investors on certain aspects of the regime, including how the regime applies to fund structures, indirect acquisitions of control, certain outward direct investment, and in the context of certain lending arrangements;
• we made a number of practical suggestions to improve transparency of decision-making, including allocation of a named case officer for every notified transaction at the outset of the review process (as is the case in many other jurisdictions); and
• we highlighted a wide range of technical issues with the NSI Notification Service and suggested replacing the online portal with a simple single document upload.

We expand on some of our key observations and suggestions below.

Reigning in the scope of the NSI regime

We have previously highlighted that the UK regime has seen significantly more filings being made than under many other foreign direct investment (FDI) regimes – 866 filings in the year ending March 2023, which is almost double that of CFIUS in the United States (around 440) and two of the most active FDI regimes in Europe, France and Germany (running at around 300 each). The latest Annual Report on the operation of the NSI regime indicates that the vast majority of these transactions (93%) are being cleared within the initial 30 working day review period, which suggests that the regime is currently catching a very large number of transactions which do not give rise to any national security concerns (see our previous blog post on the NSI Annual Report).

We support the Government's proposals to introduce exemptions from mandatory notification for particular types of transactions and to clarify and narrow the scope of the sectors in which the mandatory notification obligation applies. In particular:

• Internal reorganisations: many internal reorganisations which do not result in any change in who ultimately controls or influences an entity are currently caught by the NSI regime and can require mandatory notification: this is unnecessarily burdensome for businesses and disproportionate to the risk to national security. We therefore support the removal of internal reorganisations from the scope of the mandatory filing obligation.
• Acquisitions by public bodies: we agree that acquisitions by public bodies are less likely to present acquirer risks, and should be exempted from mandatory notification, preferably by way of a "named list" approach.
• Exemptions from mandatory notification in the secured lending context: we support the introduction of an exemption from mandatory notification for the appointment of liquidators, receivers and special administrators who acquire temporary control of shares in companies active in one of the mandatory sectors, as well as a targeted exemption in the scenario where a lender enforces security over shares as a result of automatic enforcement provisions.
• Clarification and narrowing of the definitions of mandatory sectors: it is critical to have clear and proportionate definitions of the activities that might bring an entity into scope of the mandatory notification requirements of the NSI regime. We have made specific suggestions to clarify and narrow the current definitions in a number of areas, including advanced materials and critical minerals, AI, communications, energy and synthetic biology. We also cautioned against the expansion of the definitions of the mandatory sectors unless a clear risk to UK national security is identified, in particular rejecting a proposal to include "generative AI" in the definition of the AI sector.

More detailed guidance for investors

The Government has published a suite of useful guidance documents for investors, to assist in determining whether a particular transaction falls within scope of the NSI regime and explaining how the notification and review process operates (see here). However, there remain a considerable number of important areas in which greater clarity is needed:

• Fund structures: expansion of the current guidance to provide more detail on the application of the NSI regime to limited partners and general partners, as well as investments by foreign governments via fund structures.
• Indirect acquisitions of control: expansion of the current guidance to provide more detail on the application of the NSI regime when tracing indirect holdings through majority stakes, and clarification of whether the mandatory notification obligation is triggered by the acquisition of control of a company which "oversees" a subsidiary that performs specified activities in a mandatory sector but does not carry out those activities itself.
• Outward direct investment: the NSI regime may apply to outward direct investment where there is an asset transfer (most commonly a transfer of intellectual property) alongside an outbound investment – for example, where a UK company is investing into China and as part of that investment certain intellectual property is transferred to the Chinese target company. In our experience, this point is not widely understood, and additional guidance – including examples – would be helpful for investors.
• Certain lending arrangements: more detailed guidance is needed on the scope and intended application of the provisions of the NSI Act relating to the exercise of rights attached to shares held by way of security, to simplify the interaction of the regime with secured financing arrangements and reduce the barriers to companies falling within scope of the regime being able to access funding.

Practical suggestions for increasing transparency and improving the operation of the NSI regime

As noted above, we have been involved with 4 of the 12 conditional clearance decisions issued under the NSI Act to date, as well as numerous unconditional clearance decisions. We have previously welcomed steps taken by the Government to improve transparency of the decision-making process (see here). However, based on our experience to date we consider that there are several ways in which transparency could be improved further. We have also made suggestions to make the review process easier for investors to navigate alongside other regulatory clearances that may be required. In particular:

• Allocation of a named case officer: the ISU currently provides named senior contacts for engagement once a transaction has been called-in for in-depth review, but we have advocated for a named case officer to be allocated to every transaction notified to the ISU from the outset of the review process (as is the case in many other jurisdictions, including France, Germany, Australia and the United States). This would be likely to improve engagement and ease of communication, and help reduce the perception of the NSI regime as operating as a "black box".
• Advance steer as to when a decision is likely to be issued: where an NSI clearance condition is the final condition precedent awaiting satisfaction, a clearance decision issued at an unexpected time can have significant implications, for example in terms of finalising financial arrangements at short notice. We have encouraged the ISU to provide more of a steer to parties as to when a decision is likely to be issued, as well as the ISU's thinking on a particular case.
• Amending the current "stop-the-clock" provisions: we have suggested that the review clock should not be automatically stopped when an information or attendance notice is issued after a transaction has been called-in for in-depth review (as is currently the case). In our view, it would be preferable to mirror the approach taken in the context of merger reviews under the Enterprise Act 2022, allowing the review clock to be stopped if a party fails to provide a timely and/or complete response to a formal information request by a given deadline.
• Removal of the automatic voiding of a transaction completed in breach of mandatory notification requirements: we reiterated that the automatic voiding of a transaction completed in breach of mandatory notification requirements is disproportionate, out of line with the approach adopted in many other jurisdictions, and legally flawed for agreements governed by laws in jurisdictions other than the UK.
• Overhaul of the online notification portal: in our experience, technical issues can often arise with use of the NSI Notification Service online portal, resulting in avoidable inefficiencies and frustrations for investors. From a practitioner's perspective, we have therefore suggested that it would be preferable to replace the portal with a simple single document upload.

Next steps

The Call for Evidence closed on 15 January 2024 and the Government is currently reviewing the responses received.

The Government has stated that it is not considering any changes to the NSI regime which would require primary legislation. However, the introduction of exemptions from mandatory notification and amendments to the definitions of the mandatory sectors could be achieved through the use of secondary legislation. We anticipate that a more detailed consultation may follow later this year on specific legislative changes and/or updated guidance, but this has not been confirmed by the Government.