The UK National Security and Investment Bill seeks fundamentally to overhaul the screening of investments in the UK on national security grounds. The proposed regime has significant implications for acquirers and investors of all types, including fund managers and institutional investors, but as the NSI Bill progresses through the House of Lords there has been surprisingly little detailed public analysis of the implications for financial sponsors.
Brief recap of the proposed new regime
Broadly speaking, the NSI regime will empower the government to call in for review – and potentially prohibit – any qualifying transaction which may give rise to UK national security concerns, including:
- acquisition of “material influence” in a company (which may arise in relation to a low shareholding, potentially even below 15 percent);
- increases in existing stakes which result in the investor gaining material influence or crossing the 25 percent, 50 percent or 75 percent thresholds; and
- acquisition of control over assets or intellectual property.
Mandatory notification obligations will apply to certain transactions in 17 specified sectors (eg energy, transport, communications, artificial intelligence and other tech-related sectors), including acquisitions of 15 percent or more of shares or voting rights. Any of these transactions completed prior to clearance will be automatically void. Notification of qualifying transactions in other sectors will be voluntary but it may often be advisable in the interests of certainty if there is any risk of a national security issue.
The new regime will apply equally to UK and non-UK investors (although the government has acknowledged that UK investors will be less likely to give rise to national security concerns in practice).
The NSI Bill is expected to become law in May 2021, and enter into force in autumn 2021. However, the proposed retrospective application of the call-in power means that the new regime should be considered for any qualifying transaction completing on or after 12 November 2020.
Potential effects of different investment structures
For transactions involving indirect investment structures, the extent to which interests should be treated as being held by the end investors (often institutional investors investing as LPs) will depend on a case-by-case assessment. However, a number of general principles can be drawn out:
- Investments in blind-pool, multi-asset funds seem unlikely to fall within scope of the regime, assuming typically-limited governance and information rights of LPs over portfolio companies, and the LPs should not generally expect to have to make individual filings. The “blind-pool” funds themselves (and their GPs) will however usually be caught in the same way as other direct investors.
- Directly-held investments where an institutional investor has proceeded without investment advice or engaged an asset manager on a non-discretionary basis (ie, the institutional investor retains control and discretion) will usually result in the regime applying to the institutional investor in the same way as any other direct investor.
- For more bespoke investment vehicles and structures, including single-asset funds, “funds of one”, and separate managed accounts, the analysis becomes more nuanced and will require a detailed assessment of governance rights and information flows enjoyed by the ultimate investor in relation to the underlying entity or asset.
Impact of governance and information rights on execution risk profile
Proactive consideration should be given to adapting governance and information rights to take into account the NSI regime. Key factors to consider include:
- influence over portfolio company-level decisions and reserved matters;
- no-fault GP removal rights (particularly if exercisable unilaterally);
- representation on portfolio company boards or limited partner advisory committees; and
- the extent to which the GP has discretion to vary governance or information rights.
Customary information rights, including the provision of aggregated financial information, are unlikely to be problematic. However, particular care should be taken in relation to access to sensitive information of potential relevance to national security issues.
Other practical considerations
- Early identification of “preferred bidders”: in a private auction scenario, the government has indicated that it will provide informal guidance to sellers in relation to their list of prospective bidders, but likely will only engage with bidders once they are at the “preferred bidder” stage.
- The “transaction perimeter”: can potentially problematic aspects of the target be carved out for the purposes of the investment? (acknowledging that this may not be an option in competitive auction processes).
- Direct vs managed interests: can notification obligations be avoided by structuring the investment as a managed interest rather than a direct interest? (which may also present an attractive opportunity for managers to bring in capital).
- Consortium vs syndication: could one party to go through the approval process first, and then subsequently syndicate the acquired interests to parties who would be considered to pose a greater execution risk if included upfront as consortium parties (provided those syndication rights do not of themselves trigger the regime)?
- Exercise of options/ROFR: although an option to purchase a further stake will not in principle be notifiable at the time the option itself is acquired, formal clearance will be required before the option can be exercised if it relates to a target which falls within scope of the mandatory notification regime, and a relevant shareholding/voting rights threshold would be met.
Stephen Newby is an investment funds partner, Veronica Roberts is a competition partner who leads the firm’s global foreign direct investment group, Gavin Williams is an M&A partner and global co-head of infrastructure, Jonathan Blake is head of international private funds strategy and Ruth Allen is a competition professional support lawyer at Herbert Smith Freehills in London.