United States: Six Crucial Points About The Prohibition On Chinese Investors' Acquisition Of U.S. Aixtron Operations

On December 2, President Obama, acting under the Exon-Florio law, blocked the planned acquisition by China's Fujian Grand Chip Investment Fund LP ("Fujian Grand Chip"), a Chinese investment fund, of the U.S. operations of German technology company Aixtron SE ("Aixtron") as part of Fujian Grand Chip's overall acquisition of Aixtron due to findings of national security concerns relating to Aixtron's U.S. operations.

Crucial Points

  1. This is the first time in history that any U.S. president has officially forbidden parties to consummate a transaction under the Exon-Florio law. The Exon-Florio law authorizes the president to prevent non-U.S. persons from gaining or keeping control of U.S. businesses as the president believes is necessary to protect national security.
  2. It appears that President Obama's action was driven by the U.S. Aixtron's overall technical knowledge and experience regarding a particular semiconductor production technology that has military utility – manufacturing integrated circuits from gallium nitride or perhaps other compound materials. Parties to planned transactions covered by Exon-Florio should understand precisely what sensitive technologies acquisition targets have in the United States and U.S. defense and security officials' views on those technologies.
  3. That the planned Aixtron transaction would have entailed acquisition of a German company highlights that the authority of the president and the Committee on Foreign Investment in the United States ("CFIUS") under the Exon-Florio law extends to one non-U.S. group's acquisition of another non-U.S. group to the extent that the target controls U.S. operations.
  4. The President's action shows that, on rare occasions, the U.S. government considers transactions to be irretrievable through mitigation arrangements under the Exon-Florio law. The parties to the attempted Aixtron acquisition allegedly offered to categorically insulate the U.S. Aixtron operations from Fujian Grand Chip control through a trust arrangement.
  5. At the same time, recent CFIUS clearance of other Chinese investment transactions shows that the United States is not, under current policy, closed to Chinese acquisitions – even by Chinese government-controlled entities.
  6. Statements by persons associated with the Trump transition and other commentary, such as that by the U.S.-China Economic and Security Review Commission, reinforce the possibility of important regulatory or policy developments in 2017 relating to the Exon-Florio law and CFIUS.

Exon-Florio Law and CFIUS

CFIUS comprises the heads of major U.S. government executive departments and agencies and is chaired by the Secretary of the Treasury. The Exon-Florio Amendment to the Defense Production Act of 1950 ("Exon-Florio") generally authorizes the president to disrupt or block a transaction if it has resulted or could result in a foreign person gaining control of a U.S. business and the president finds that the transaction threatens the national security.

The president's authority to act under Exon-Florio applies to any "covered transaction" – an "acquisition, merger, or takeover" of a U.S. person "by or with foreign persons." In assessing whether a transaction is covered, the key question is whether the transaction could result in a foreign person having, directly or indirectly, control in fact over a U.S. business. CFIUS takes a broad view of what constitutes "control."

Parties have the option of subjecting covered transactions to screening by CFIUS by submitting a notice of the transaction to the committee. Notice of a transaction to CFIUS is never mandatory. But the absence of clearance by CFIUS leaves a covered transaction indefinitely susceptible to adverse action under Exon-Florio. Clearance by CFIUS generally insulates a transaction from adverse action under the statute.

If CFIUS identifies security concerns, CFIUS and the transaction parties often negotiate commitments on the basis of which the transaction is cleared. These commitments can include, for example, changes to the transaction structure and safeguards to address perceived security concerns. The U.S. Defense Department is ordinarily the ultimate arbiter of national security assessments within CFIUS, and this is particularly true as regards transactions that involve microelectronics.

Planned Aixtron Acquisition

Aixtron of Germany is a leading provider of deposition equipment that is used to build advanced components for electronic and optoelectronic applications based on compound, silicon or organic semiconductor materials. Aixtron has global operations, but is currently based around three leading technology hubs in Herzogenrath (Germany), Cambridge (UK) and Sunnyvale, CA (United States). Roughly 20 percent of Aixtron's revenues are derived from its U.S. operations.

Fujian Grand Chip is wholly owned by Fujian Grand Chip Investment Fund LP, which in turn is 51 percent-held by Zhendong Liu (a Chinese national) and 49 percent-held by Xiamen Bohao Investment Co., Ltd. ("Bohao") – a company financed by the Xiamen municipal government. There reportedly is no Chinese government ownership of Bohao.

On May 23, 2016, Fujian Grand Chip made a tender offer to acquire Aixtron for €670 million. Fujian Grand Chip and Aixtron filed a notice of the transaction with CFIUS on July 1, 2016. CFIUS conducted both a 30-day "review" of the transaction and then a 45-day "investigation" of the transaction. The parties proposed mitigation options, but CFIUS told the parties that it does not believe that its national security concerns could be resolved by mitigation proposals.

Learning From Attempted Aixtron Acquisition and Possible Exon-Florio Policy Developments

First Official Transaction Block Under Exon-Florio: This is the first time in history that a U.S. president has, under Exon-Florio, officially forbidden parties to close a foreign acquisition of U.S. business operations. In a handful of instances, transaction parties have terminated transactions based on warnings from CFIUS that the committee would recommend that the president block the transaction. And in two instances, Presidents have ordered divestment to reverse completed transactions – most recently, in the 2012 case of Ralls Corporation's acquisition of a wind energy project in Oregon. But never before had any president officially exercised Exon-Florio authority to prohibit parties to complete a transaction.

Importance of Understanding Target Company Technology in United States: Aixtron and U.S. government treatment of prior transactions show that, to engage with CFIUS effectively, parties to covered transactions need to understand precisely what sensitive technologies U.S. target operations have, how that technology is embedded in the target company and what U.S. defense and security officials' views are on those technologies.

The President's blocking order appears to be driven by Aixtron U.S. operations' leadership in a particular semiconductor production technology that has military utility – use of gallium nitride ("GaN") rather than silicon as the basis or substrate to manufacture an integrated circuit. Semiconductor companies that develop products using GaN – so-called "compound semiconductors" – have been scrutinized in the past by CFIUS. Most notably, in January 2016 CFIUS's opposition to the acquisition of Royal Philips NV's LED business, Lumileds, by a Chinese consortium led by GO Scale Capital caused the parties to abandon the transaction instead of proceeding with a presidential review. Lumileds reportedly possesses GaN-focused compound semiconductor technology.

Exon-Florio Extending Beyond Acquisitions of U.S. Companies: Aixtron's operations are predominately outside the United States. That the Aixtron transaction involved an attempted acquisition of a German company reinforces in a concrete way that CFIUS has jurisdiction over and the president is authorized to act against acquisitions of control of non-U.S. companies to the extent they control U.S. operations. This case also demonstrates that a target company need not generate the majority of its revenues from the United States for its acquisition in practice to be subject to CFIUS jurisdiction and potential presidential review; all that is required is for the target to, directly or indirectly, engage in interstate commerce in the United States.

Mitigation Often Critical but Sometimes Inadequate: In an effort to forestall the President's action, the parties to the attempted Aixtron acquisition allegedly offered to establish an arrangement that would completely insulate U.S. Aixtron operations from Fujian Grand Chip's control. It is understood that they proposed a trust arrangement under which control of U.S. Aixtron operations would reside with a U.S. trust with U.S. citizen trustees. This would have made the investment, in essence, a passive, financial undertaking. With some justification, the parties could have argued that this arrangement would have eliminated CFIUS's and the President's jurisdiction to act under Exon-Florio on the grounds that a foreign person would not gain control over a U.S. business. Evidently, neither CFIUS nor the President accepted this argument.

United States Not Closed to Chinese Investment: Recent CFIUS clearance of other Chinese investment transactions shows that the United States is not, under current policy, closed to Chinese acquisitions – even by Chinese government-controlled entities. To cite just a few examples:

  • In September 2016, CFIUS cleared a Chinese consortium's planned $3.6 billion acquisition of Lexmark International Inc.
  • In August 2016, CFIUS cleared China National Chemical Corp.'s $43 billion planned takeover of seed giant Syngenta AG, the largest ever foreign acquisition by a Chinese company.
  • In June 2016, CFIUS cleared the $610 million acquisition of Multi-Fineline Electronix by Suzhou Dongshan Precision Manufacturing Co., Ltd.
  • In November 2015, CFIUS cleared the $640 million acquisition of Integrated Silicon Solutions by Uphill Investment Co., a Chinese investment consortium.
  • In September 2013, CFIUS cleared Shuanghui International Holdings Limited's $7.1 billion acquisition of Smithfield Foods, Inc.
  • In February 2013, CFIUS cleared the $15.1 billion acquisition of Canadian upstream oil and gas company Nexen, Inc. by CNOOC Ltd., a Chinese state-owned company.

U.S. Policy on Foreign Investment in Flux: In its last years, the Obama Administration has devoted considerable attention to the strategic importance of the U.S. semiconductor industry. Separately, statements by persons associated with President-Elect Trump's transition and other commentary highlight the possibility of important CFIUS-related policy developments in 2017. Also, a 2016 report of the U.S.-China Economic and Security Review Commission ("US-CESRC") recommended that the Congress amend Exon-Florio to bar Chinese state-owned enterprises from acquiring or otherwise gaining effective control of U.S. companies. The US-CESRC found that "both private and public Chinese entities present significant risks to U.S. economic and national security, as the degree of state ownership does not necessarily reflect a business' strategic importance."

Members of Congress have announced that they will propose legislation in the new Congress to make treatment of investment transactions under Exon-Florio more restrictive. The Government Accountability Office ("GAO") announced an investigation related to the sufficiency of Exon-Florio authority earlier this year, which is expected to result in a GAO report on that topic.

A broad reversal of the U.S. open investment policy seems unlikely, and it is not expected that CFIUS will become what is normally an insurmountable obstacle to Chinese investment in the United States. But relevant policy debates and legislative action in 2017 merit careful attention.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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