Foreign direct investment controls in the time of Covid-19

Many governments across the world have been tightening controls on FDI – typically on national security grounds – for some years now. Countries without FDI regimes are catching up and introducing a legal framework, often as a matter of urgency.

This trend has accelerated during the coronavirus pandemic, raising concerns that we are entering a period of growing protectionism and potentially greater political interference in international M&A.

Actions and announcements, either public or rumoured in recent months, all confirm the game-changing, accelerated approach to FDI. These include:

• a move by the U.S. Senate to prohibit foreign state-controlled enterprises listing on American exchanges
• continued enforcement by the Committee on Foreign Investment in the U.S. (CFIUS), still the most active regime in the world
• emergency measures in Australia making all foreign takeover proposals, no matter what the value or nature of the investment, subject to up to six months’ scrutiny
• Japan’s move to lower the threshold for investigations into proposed foreign takeovers of listed companies
• statements by the European Commission urging all EU Member States to set up FDI review procedures and to use them to the fullest extent, when a new EU regime comes into force in October
• reports that the EU will demand mandatory notification of any acquisition where the buyer is based outside the EU and in receipt of subsidies from its home state – a significant strengthening of its position and a strategically different stance from the much lighter-touch approach reflected in the framework it set out last year
• strong indications that the long-awaited new and much more extensive control measures in the UK remain on the cards, with a Bill to introduce them expected imminently

Although not all countries explicitly single out a specific government as the key driver to increase the FDI regime, some do. Concerns around lack of symmetry or reciprocity is one key concern, while some governments have been particularly vocal on a perceived need to curtail Chinese investments in some sectors. China, itself, of course, continues to screen proposed inbound investment very vigorously.

These are unsettling developments for investors.

Impact on dealmaking during the crisis

Some of the measures that have been announced are Covid-specific, such as the new Australian regime. It has been provoked by fears that distressed companies will be taken over during a moment of extreme vulnerability, perhaps with the loss of companies considered vital to national economic or security interests.

However, the Australian government has made it clear it does not want to discourage foreign investment and there is no evidence, yet, that the regime is slowing down processes unduly.

The same is true in Japan.

Despite China’s relatively strict FDI and foreign exchange regulatory control regimes, the great majority of inbound deals do get cleared by the Chinese authorities, at a time when the government in China is signalling that it wants to maintain an outward-looking and international approach to investment.

Indeed, that is the mood more widely in Asia, where many governments want the region to remain open, particularly as companies look to regionalise supply chains to make them more secure.

We have seen a continuing decline in cross-border transactions globally. But this predates the crisis, even if dealmaking has declined still further because of the logistical difficulties of transacting in the current environment.

China’s position is seventh in the outbound acquirers’ league table, which resembles the position it held some five to ten years ago, despite the sharp decline in investment into the U.S. because of the harsher CFIUS controls. However, the general reduction in activity since the boom of two years ago is as much to do with China’s own controls on capital outflows as hostile FDI regimes.

Still, there are significant practical issues for investors to consider here. Strengthened regimes are adding a level of complexity to transactions, not least in competitive bid situations where a buyer with no FDI hurdles to jump through will clearly have the inside lane in any race to buy an asset.

Interventionism on an unprecedented scale

With the exception of those governments pursuing a clear protectionist agenda – of which the Trump administration is one – the strengthening of FDI regimes seems, in many cases, to be about applying appropriate scrutiny rather than out-and-out protectionism.

However, there is one noticeable change, which has been exacerbated by the Covid-19 coronavirus crisis and is likely to persist as the world hovers on the brink of what could be a deep recession.

The pandemic has given more and more governments a licence to intervene to a degree not seen in many decades.

State mechanisms to support businesses through the crisis – such as the provision of grants, loans, furlough schemes and even partial renationalisation of vulnerable companies – have risen on an unprecedented scale and will have a lasting effect.

Often governments demand a price for such support. For instance, a bailed out airline might be asked to move faster in cutting its emissions. The EU’s recently published Recovery Plan has a powerful environmental flavour to it.

In that environment, governments now have a springboard for much more intervention and that can be ad hoc and unpredictable.

The impact of this will be felt more broadly than just in the realm of FDI controls. Investors will need to get used to operating in a much more politicised and fragmented world with new regulatory challenges that can, and probably will, evolve. In this new world, there are a number of new rules to navigate. There are also new opportunities to seize. Keeping up to date with the fast-moving changes in the global market will enable investors to stay ahead of the curve and make the most of these opportunities.