India: CFIUS For Start-Ups

As Indian start-ups evaluate ‘flipping' to jurisdictions in the United States – the recent use of review powers by the Committee on Foreign Investment in the United States should be factored in, both in terms of the time taken to complete the transaction and in terms of the overall desirability of the flip. As a start-up, do you really want to deal with this?

I. What is CFIUS

CFIUS (Committee on Foreign Investment in the United States), refers to an interagency committee that assists the President of the United States of America and has the authority to review, approve or block certain foreign investments including venture capital investments in the U.S. businesses to evaluate whether such investments could threaten to impair the U.S. national security.

II. Why should a foreign investor care about CFIUS?

CFIUS has the power to block or significantly delay a transaction involving a foreign investor if it believes that the transaction raises concerns regarding the national security of the U.S. Further to that, CFIUS also possess the power to unwind a transaction after it has closed.

III. What type of transactions are reviewed by CFIUS?

CFIUS only has jurisdiction over “covered transactions,” which generally fall into one of the following categories:

• Transactions that result in foreign control of a S. company
• Non-passive transactions related to certain types of businesses (involved in critical infrastructure, critical technologies or the maintenance or collection of sensitive personal data of S. citizens)
• Transactions in real estate near sensitive S. government facilities

Further, even a non-controlling transaction can also come under the ambit of CFIUS in case a foreign investor is investing in a company engaged in business that is sensitive from a U.S. national security perspective.

IV. Whether a convertible debt instrument held by a foreign investor will fall under CFIUS jurisdiction?

Generally, CFIUS does not have any jurisdiction over a debt transaction between a U.S. company and foreign investor but if the foreign investor acquires contingent equity interest

such as in the case of SAFE or convertible debt then it will come under the jurisdiction of CFIUS. Further, if upon the conversion of such an instrument: (i) the foreign investor investing in U.S. company will come under the definition of “covered transactions”; or (ii) acquire qualifying non-controlling interest in a TID business, then also convertible debt instrument held by a foreign investor will fall under the CFIUS jurisdiction.

V. What is a “TID U.S. Business”?

TID refers to technology, infrastructure, and data. It is a U.S. company that (a) produces, designs, tests, manufactures, fabricates or develops “critical technology,” (b) operates or performs certain functions with respect to “critical infrastructure,” or (c) collects or maintains “sensitive personal data” of U.S. citizens.

VI. When can a convertible debt instrument trigger the jurisdiction of CFIUS?

A convertible debt instrument can trigger CFIUS jurisdiction either (i) at the time of acquisition of the instrument, or (ii) upon conversion, depending on the terms of such instrument.

VII. What factors does CFIUS consider in determining whether a particular debt instrument would fall under the jurisdiction of CFIUS or not?

CFIUS considers; whether the conversion of such debt is imminent; whether conversion depends on factors within the foreign party's control; and whether the amount of interest and the rights that would be acquired upon conversion can be reasonably determined at the time of acquisition.

VIII. Are there any exceptions for qualifying investors?

The Foreign Investment Risk Review Modernization Act (FIRRMA) introduced the regulation designating Australia, Canada and the United Kingdom as “Excepted Foreign State.” Any national, entity or government of these three countries will not need to file declarations of non-controlling investments in the U.S.

IX. What happens if the parties do not make the CFIUS Filing?

CFIUS usually tend to help out the U.S. business and the foreign investor to mitigate any identified national concerns. However, CFIUS has the power to recommend that the U.S. President issue an executive order to block the transaction and can even ask the investor to divest from the U.S. company.

X. Are there penalties?

CFIUS may impose financial penalties on the parties to the transaction for material misstatements or omissions, negligence, or failure to comply with the CFIUS requirements. The penalty on the parties should not exceed $250,000 or the value of the transaction.

XI. Is CFIUS filing mandatory?

CFIUS filing is a voluntary process and parties are not affirmatively required to submit a transaction for review. Only a limited set of transactions that fall under the criteria for ‘mandatory filing' are required to mandatorily file the details of the transaction.

XII. What is the criteria for mandatory filing?

On September 15, 2020, The U.S. Treasury Department modified the criteria that trigger a mandatory filing with CFIUS, subjecting more transactions to mandatory CFIUS review. As per the new rule, every transaction for which an export license will be required for shipment of the U.S. company's critical technology to foreign investor's country of origin will require a mandatory filing.

XIII. What is the fee for voluntary CFIUS filings?

The U.S. Treasury updated the filing fees requirements on May 1, 2020. As per the new requirements, the filing fees applicable where parties submit a voluntary notice are based on the value of the transaction.

XIV. What is the fees for mandatory CFIUS filing?

Generally, there is no fees required for mandatory filings but there are three situations under which a company may need to give filing fees under mandatory filing.

• where mandatory filings were required and the parties choose to file a notice instead of a

• where parties filed a declaration and, after the review, CFIUS informs the parties to file a

• where parties file a declaration and, after the review, the CFIUS informs the parties that they can file a voluntary notice and the parties chose to do

XV. What is the timeline to file a declaration (voluntary/mandatory) with the CFIUS?

The declaration for every ‘covered transaction' must be filed 30 days prior to the transaction's completion date.

XVI. How long does the CFIUS process take?

After filing the application, the CFIUS will start a 45-day review procedure to understand the national security concerns associated with the transaction. If CFIUS identifies certain risks then it will start a 45-day investigation process. During the investigation process, CFIUS will recommend certain mitigating measures to the parties of the transaction. After the investigation, the President of the U.S. will approve, disapprove, or approve with conditions the transaction within 15 days.

XVII. What is critical technology?

Anything military-useful, nuclear, toxic, or export-controlled, including those that (i) produce, design, test, manufacture, fabricate, or develop one or more critical technologies; (ii) own, operate, manufacture, supply, or service critical infrastructure; or (iii) maintain or collect sensitive personal data of U.S. citizens that may be exploited in a manner that threatens national security.

XVIII. Who is a foreign person?

A “foreign person” includes a foreign national, foreign government, or a foreign entity. The scope of a foreign person is not limited to only those living in the far off land but any foreign national who is inside the United States (even if here legally on a Visa or Green card), foreign companies and investors with offices in the USA staffed by Americans, and foreign nationals working at US venture funds also come under the definition of “foreign person.”

XIX. What can a founder do to not fall under the ambit of CFIUS?

• Not accept the investment
• File a short disclosure to CFIUS
• File a long-form for CFIUS
• Restructure the deal to eliminate foreign investor influence

XX. Is there a statute of limitations?

There is no statute of limitations on CFIUS' ability to review a transaction.

XXI. What can founders do to protect their business?

Adequate due diligence and having proper representations and warranties, so that investors declare if they are foreign or have any kind of foreign influence or not. Approval of CFIUS as a condition precedent to the transaction can also be considered.

XXII. What if a U.S. business is receiving an investment from a U.S. investment fund with foreign investors?

As long as the U.S. based fund is exclusively managed by U.S. persons, and no controlling rights have been given to the foreign person with respect to investment decisions of the fund- an indirect non-controlling investment by a foreign person in a U.S. business through a U.S. based investment fund that gives the foreign person membership as a limited partner or equivalent on an advisory board or committee of the fund is not subject to CFIUS's jurisdiction.

XXIII. What do I do if there is a possibility of a transaction falling within the scope of the CFIUS review?

Ideally, the parties should jointly file a “declaration” prior to closing the transaction. Through the short-form, the parties will apprise CFIUS of information containing a description of the transaction, parties involved, and any other relevant background information.

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.