European Union: The EU Foreign Subsidies Regulation: A New Set Of Wide-reaching Powers For The European Commission

Introduction

The European Union's Foreign Subsidies Regulation (the FSR) entered into force on 12 January 2023 and creates a new regime aimed at combating distortions of competition on the EU internal market caused by foreign subsidies. It imposes mandatory notification and approval requirements for acquisitions of significant EU businesses and large EU public tenders, and gives the European Commission (EC) extensive powers to launch ex officio investigations. The notification requirements go live on 12 October 2023, with a transition period beginning on 12 July 2023.

The EC published a draft Implementing Regulation (DIR) in February 2023 that clarifies the procedural steps and practicalities of the FSR system. The DIR also has two annexes that contain standard forms detailing the information that companies need to provide in the context of concentrations and public procurement. The DIR consultation period ended on 6 March 2023 and the EC has published the contributions it received here. The Implementing Regulation will now be finalized and should be adopted by 12 July 2023.

It is important for companies that are active in the EU (or plan to invest in the EU or participate in EU public tenders) and that have received "financial contributions" from non-EU countries to prepare quickly for application of the FSR. This includes setting up robust processes to tackle the information collection, processing and reporting requirements, managing cost allocation, transfer pricing and governance issues, and preparing justifications.

What Counts as Foreign Financial Contributions under the FSR?

The FSR covers any form of direct or indirect contribution from non-EU governments or any public or private entity attributable to a third country. Such a contribution may be distortive where it confers a benefit not normally available on the market to a company in the EU, and that benefit is specific to one or more companies or industries as opposed to all companies or all companies active in a particular industry.

Financial contributions under the FSR is an extremely wide-reaching concept and can take a broad range of forms, including direct grants, interest-free or low-interest loans, tax incentives (e.g., exemptions/reductions), state-funded R&D, government contracts (regardless of size, whether they qualify as "subsidies" or whether they have any nexus to the EU), and grants of exclusive rights without adequate remuneration.

The DIR explains that for those foreign financial contributions that are presumed to have distortive effects (e.g. loans, tax exemptions, capital injections, fiscal incentives or contributions in kind), companies are required to provide even more detailed information in their notifications than for other contributions including whether the contribution conferred a benefit to their business in the EU (e.g. if they were granted on normal market conditions) – which can be very complex to assess.

The EC's Investigative Tools

1. Mandatory Pre-Authorisation Tools

From 12 October 2023, companies engaging in (a) M&A activity or (b) a public procurement procedure in the EU triggering the thresholds in the FSR will be required to submit formal notifications and await EC approval. Companies will also need to notify M&A transactions for which the agreement was concluded on or after 12 July 2023 but which have not yet been implemented on 12 October 2023. Concentrations for which the agreement was concluded on or after 12 July 2023 but which are implemented before 12 October 2023 are not caught by the notification obligation.¹

Transactions meeting the following (cumulative) thresholds will need to be notified to the EC:

1. Turnover threshold: The turnover of the target (in case of acquisitions), the JV (for creation of a JV), or one of the parties (for mergers) in the EU was at least €500 million in the last financial year; and
2. Financial contribution threshold: The undertakings concerned (e.g., the acquirer and the target, the merging entities, or the JV and its parents) were granted², from non-EU governments or State-owned entities, "financial contributions" of more than €50 million in the three years prior to the conclusion of the agreement, the announcement of the public bid or the acquisition of a controlling interest.

The DIR provides a de minimis threshold below which foreign financial contributions will not have to be disclosed in a notification. According to the latest available (unofficial) version of the DIR, a financial contribution only has to be notified if (i) the individual amount of the specific contribution equals or exceeds €1 million and (ii) it belongs to one of the categories of foreign subsidies most likely to be distortive (namely, rescue and restructuring subsidies, unlimited State guarantees, certain types of export financing or subsidies directly facilitating a concentration). Contributions that do not fall under these categories, will only need to be described in a summary table, for which more limited information is required. The latest available (unofficial) version of the DIR lists contributions that do not need to be included in the summary table, including for example, contributions below €1 million, contracts for goods and services at market terms, and others. Despite this effort at proportionality, the burden on companies trying to comply with the notification requirements remains high. Companies must, for example, supply descriptions of the bidding process (if applicable) and of the profiles of other bidders that they are aware of.

The FSR notification process and timetable are similar to the EU Merger Regulation process, with an initial 25 working day review period followed by an in-depth 90 working day review period (with a possible extension by 15 working days if commitments are offered) from the date of formal notification. Notifiable transactions must receive EC approval under the FSR before they can close, creating a standstill obligation. The EC's Q&A confirm that this obligation applies as well to notifiable transactions concluded on or after 12 July 2023 but not yet implemented on 12 October 2023.

As a result, companies contemplating M&A transactions must consider FSR compliance alongside merger control and foreign direct investment reviews. This means that FSR will need to become part of due diligence, and FSR clearances may need to be added to the list of regulatory conditions precedent, be considered in the context of deal timing and break fees and be built into representations & warranties as well as into disclosure schedules.

Companies must notify the EC if they engage in public tenders in the EU, and the following (cumulative) thresholds are met:

1. Contract value: The contract value is not less than €250 million, and in cases where the tender is divided into lots, the aggregate value of the lots applied for is not less than €125 million; and
2. Foreign financial contributions: The bidding party (including its subsidiaries and/or holding company and its main subcontractors (or suppliers)) was granted aggregated foreign financial contributions of not less than €4 million in the three years prior to the notification. Bidding parties that received aggregate foreign financial contributions of less than €4 million must submit a declaration setting out all foreign financial contributions received and confirm that they fall below the threshold.

The latest available (unofficial) DIR provides the following de minimis threshold below which foreign financial contributions will not have to be disclosed in a notification. Only those financial contributions have to be notified that are equal to or exceed € 1 million having been individually granted to the recipient by a third country in the three years prior to notification and that belong to the categories of foreign subsidies most likely to be distortive (namely, rescue and restructuring subsidies, unlimited State guarantees, certain types of export financing or those enabling an unduly advantageous tender to be offered). If the contribution does not fall under these categories, it will only need to be described in a summary table and further exceptions apply, meaning that some contributions do not even have to be notified in the summary table if, for example, they are below €1 million or concern contracts for goods and services at market terms.

In relation to public tenders, the EC's preliminary review will last 20 working days, extendable by ten working days, while the in-depth review should not last more than 110 working days from receipt of a complete notification, extendable by 20 working days in exceptional cases.

The FSR adds uncertainty and complexity to public procurement processes. Failing to report foreign financial contributions or benefiting from distortive subsidies could result in disqualification from a public tender.

2. General Tool for Investigating All Other Market Situations

As of 12 July 2023, the EC will have powers to conduct ex officio investigations into all potentially distortive foreign subsidies and its ex officio powers are very broad. They permit the EC to investigate support granted by third countries to companies up to 10 years before the start of the investigation (but not more than five years prior to the application of the FSR).

The EC will also be able to request an ad hoc notification for transactions and public procurement procedures that do not meet the thresholds but in relation to which it suspects that the companies concerned were granted foreign subsidies in the three years prior to the concentration/tender submission.

The EC's Information Gathering Powers

To assist its investigations, the EC can gather information by issuing requests for information, interviewing natural or legal persons, and conducting dawn raids both in and outside the EU. Although there is no formal complaints process under the FSR, competitors may well make submissions to the EC concerning alleged foreign financial contributions received by other companies active in their field of operation.

Whether triggered by a third party submission or the EC's own monitoring, if a company were to receive a request for information, gathering the necessary information and financial data could be a significant task. In case of a refusal to supply information, the EC is able to take a decision based on facts available to it – which may be less favourable to the company than if it had provided the information.

The EC's Enforcement Powers

If companies breach the standstill obligation by concluding or failing to notify a notifiable concentration, the EC may impose a fine of up to 10% of their aggregate turnover in the preceding financial year. The EC also has powers to subject companies to fines of up to 1% of global turnover and periodic penalty payments of up to 5% of the average daily aggregate turnover for each working day of delay, where companies supply incorrect, incomplete or misleading information.

Following an in-depth investigation, the EC can adopt (i) a no objection decision; (ii) a commitments / redressive measure decision; or (iii) a decision prohibiting a concentration or the award of a public contract. Redressive measures and commitments can be structural (e.g., unwind an acquisition, divest assets or reduce capacity or market presence), or behavioural (e.g., offer access to or licence infrastructure on FRAND conditions, publicise R&D results, repay foreign subsidies with interest or adapt the governance structure).

The EC may allow a transaction it would otherwise prohibit under the FSR based on a balancing of negative and positive effects (an option that is not available under the EU merger control rules, for instance). A positive effect could relate to an EU policy objective (e.g., environmental protection, digital transformation, creating jobs, promotion of R&D).

Practical Considerations

This section describes steps that could be advisable to take given the imminent application of the FSR.

Companies should begin to design and implement systems for the collection of group-wide information relating to relevant contracts, grants of exclusive rights, tax incentives, etc. on a global basis. Given that information going back three calendar years will be required, it is not advisable to wait until considering a notifiable transaction or tender.

Detailed data on foreign financial contributions will not only be required to assess whether or not the obligation to notify transactions and public tenders is applicable. It will also be needed if the EC requests notification of a transaction or public tender below the thresholds or it launches an ex officio investigation (a step we would expect to be preceded by a burdensome request for information or a surprise inspection).

The design of any internal data gathering system should minimize the burden on company business, legal and compliance teams, including by leveraging existing contract management systems, grant tracking and other financial systems. One approach would be to develop a template with basic information that automatically pulls in relevant information already available in existing systems before sending the partially populated template to relevant business, financial and legal teams for completion. Template population could be achieved in many cases by developing queries for existing databases, and populating a new database with the input from the various sources.

It may also be efficient to collect some information beyond the minimum needed to identify and quantify a potential financial contribution to reduce the risk of duplicate or significant follow-up requests later. For example, a contract identified as generating revenues likely to be a financial contribution would be unlikely to be considered a foreign subsidy if the contract was awarded pursuant to a competitive, transparent and non-discriminatory tender. Noting that that contract was awarded by competitive tender in the template would reduce subsequent data collection.

In addition to gathering the data described above, it may be advisable to determine whether foreign financial contributions received were given under market conditions, and to gather evidence to assist with demonstrating that the financial contributions could not be distorting the internal market.

Final Thoughts

Because identifying and quantifying foreign financial contributions over a rolling three-year timeframe will be time-consuming, it would be prudent to begin designing and implementing new systems as soon as possible. We have been working with our legal-tech team to develop approaches to streamlining information collection in a manner that minimises the burden. We are also working with the EC regarding the information that will be required to ensure compliance.

Footnotes

1. European Commission, Foreign Subsidies Regulation Q&A

2. According to the DIR a foreign subsidy should be considered granted from the moment the beneficiary is entitled to receive the foreign subsidy. The actual disbursement of the foreign subsidy is not a necessary condition for it to fall within the scope of the FSR.

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.