On the 13 July, 2023, the Court of Justice of the European Union ("CJEU"), delivered a ruling in the case of Xella Magyarország Építoanyagipari Kft. v. Innovációs és Technológiai Miniszter, that has shaped the way Regulation (EU) 2019/452 on Foreign Direct Investment (the "EU FDI Regulation") is to be interpreted. By means of this judgement, the CJEU has determined that the EU FDI Regulation does not apply to investments made by companies registered in an EU Member State, even where these are controlled by a third country investor and that such investments should not be blocked unless this is mandated on genuine grounds of public policy, public security or public health. The CJEU held that otherwise, such a restriction would violate the principle of freedom of establishment which is enshrined under Article 49 of the Treaty on the Functioning of the European Union ("TFEU").

In this case, the CJEU had to find a balance between the fundamental principles established by the TFEU, specifically the right to freedom of establishment and the provisions outlined under the EU FDI Regulation which may limit these principles.

By way of background, this case centred around a Hungarian Company, Xella Magyarország Építoanyagipari Kft that sought to acquire a 100% holding in a Hungarian quarry company, Janes és Társa Kft, which had, as its main activity, the extraction of basic raw materials. In terms of the relevant Hungarian law relating to foreign direct investment, this entity is considered to be a "strategic company" and therefore, any acquisition by "foreign investors" needed to be notified to the appropriate Minister who may approve, condition or block the transaction. The Minister blocked the acquisition, adducing concerns on the strategic importance of the quarry for the country's construction sector and the potential risk to ensuring a stable supply of raw materials. It is necessary to mention that the concept of 'foreign investor' also includes a company registered in Hungary or another EU Member State where a third-country entity holds "majority-control".

The Minister's decision was challenged on the grounds that it restricted the free movement of capital, violating Article 65(1)(b) TFEU. This issue was referred to the CJEU.

While the CJEU's decision relates to the interpretation of Hungarian law, the judgement is extremely relevant within the context of the interpretation of the EU FDI Regulation. In reaching its decision, the CJEU departed from the opinion of Advocate General Capeta which was issued in this case where she suggested that the CJEU "accept that 'indirect' foreign direct investments made through an EU-based undertaking may also fall within the scope of the FDI Screening Regulation". Rather, the CJEU echoed the EU Commission's sentiments that in terms of Article 2(2) of the EU FDI Regulation, a 'foreign investor' is an undertaking of a third country intending to make or having made a foreign direct investment. The Commission in fact placed particular emphasis on the fact that that definition covers only a natural or legal person 'of a third country' and accordingly, the Regulation could not, in principle, apply to EU-based companies.

While this judgement certainly sheds new light on the way the EU FDI Regulation is to be interpreted, it also needs to be read within the context of recital 10 of the EU FDI Regulation which provides that "Member States that have a screening mechanism in place should provide for the necessary measures, in compliance with Union law, to prevent circumvention of their screening mechanisms and screening decisions. This should cover investments from within the Union by means of artificial arrangements that do not reflect economic reality and circumvent the screening mechanisms and screening decisions, where the investor is ultimately owned or controlled by a natural person or an undertaking of a third country. This is without prejudice to the freedom of establishment and the free movement of capital enshrined in the TFEU." Accordingly, this judgement is not meant to imply that there is a carte blanche for EU companies to invest in other EU countries/entities but rather that this an FDI authority would need to determine whether there is circumvention or not. Where there isn't, then by and large the principle of freedom of establishment needs to be respected.

However, the Attorney General succinctly identifies the main issue with such an approach working in practice. This is that "a transaction must first fall within the scope of the FDI Screening Regulation in order for it to be determined whether it is indeed intended to circumvent the national screening mechanisms or decisions". If the departure point is that the EU FDI Regulation does not apply to these sorts of investments (as the investor is an EU national), then national FDI authorities will not have the opportunity to scrutinise whether there is in fact an 'artificial arrangement'.

In issuing its ruling, the CJEU, concurring with the views put forward by the EU Commission in the same case, held that any "derogations from a fundamental freedom enshrined in the TFEU, be interpreted strictly, so that their scope cannot be determined unilaterally by each Member State without any control by the EU institutions. Thus, public policy and public security may be relied on only if there is a genuine and sufficiently serious threat to a fundamental interest of society. Moreover, those derogations must not be misapplied so as, in fact, to serve purely economic ends" (emphasis added).

While the long-term impacts of the CJEU's ruling are still not clear, the CJEU's judgement sends a clear message that local rules on FDI cannot be used as a protectionist mechanism and that any measures taken by offices to block an investment on the basis of an EU Company being owned by a third-party investor are not permitted save where there are genuine grounds to do so.

This was first published on The Malta Independent 18/08/2023.

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