The Committee on Foreign Investment in the United States (“CFIUS” or “the Committee”), under the U.S. Department of the Treasury (“Treasury”), has the authority to review for national security risks certain foreign investment transactions in U.S. businesses.
As discussed in our previous article, CFIUS Heightens Scrutiny of Non-Notified Transactions, CFIUS has a dedicated team within the Office of Investment Security Monitoring and Enforcement – the so-called “non-notified team” – that focuses solely on searching for and identifying non-notified transactions that may pose national security risks and were not voluntary reported to the Committee. Due to the efforts of this team, non-notified transactions are undergoing heightened scrutiny. In particular, for transactions that involve both the semiconductor industry and foreign investors from the People's Republic of China (“China”), the likelihood of the non-notified team finding out about the transaction and requesting parties file a notice for CFIUS approval is at an all-time high.
As explained in a previous article, CFIUS and the U.S. Government (“USG”) are closely scrutinizing the semiconductor industry, including conducting foreign investment reviews and imposing export control restrictions. The recent semiconductor deal with a Chinese entity discussed below is a prime example of CFIUS's heightened scrutiny of non-notified transactions, especially in sensitive industries like semiconductors. This article will discuss the background and status of the deal while providing key takeaways for foreign investors.
Wise and Magnachip Deal Background
In March 2021, it was announced that Wise Road Capital LTD (“Wise”), a Chinese private equity firm, entered into an agreement to acquire Magnachip Semiconductor Corporation (“Magnachip”), a South Korean chip manufacturer that designs and manufactures analog and mixed signal semiconductors. Valued at $1.4 billion, the transaction was expected to close in the second half of 2021.
The parties did not initially file a voluntary notice with CFIUS because – per their May 26 filing (“the May 26 Filing”) with the U.S. Securities and Exchange Commission (“SEC”) – they believed that the transaction did not require any approvals in the United States since Magnachip has only a limited presence in the United States:
- all manufacturing and research and development activities take place in South Korea;
- sales activities occur primarily in South Korea, with the remainder of sales operations in China, Hong Kong, Taiwan, Japan, and Germany;
- all employees, tangible assets, and IT systems are located outside the United States; and
- all Magnachip's intellectual property is owned by its operating company or other non-U.S. subsidiaries.
Despite its limited U.S. connection, Magnachip is incorporated in Delaware, listed on the New York Stock Exchange (“NYSE”), and has a Delaware LLC subsidiary.
Notwithstanding Magnachip's limited nexus to the United States, CFIUS asserted jurisdiction over the transaction, and is undergoing formal CFIUS review. CFIUS's jurisdiction extends to, among other transactions, transactions for which a foreign person acquires control of a U.S. business or certain non-controlling investments; as well as real estate transactions by foreign persons involving a U.S. business. A “U.S. business” is broadly defined as any entity, irrespective of the nationality of the person controlling the entity, which engages in interstate commerce in the United States.
Most likely, CFIUS's asserted jurisdiction over the Magnachip deal because it is listed in the NYSE, is incorporated in the state of Delaware, and has a Delaware subsidiary. It is obvious that when a deal involves sensitive industries or technology (e.g., semiconductors), CFIUS will not hesitate to assert jurisdiction, even when the target company has very minimal business operations in, and connections to, the United States.
CFIUS Requests Notice
The parties in the Magnachip deal did not voluntary file a notice with CFIUS. Rather, after the deal was publicly announced, CFIUS's non-notified team identified the transaction and requested that the parties file a notice. As noted in Magnachip's May 26 Filing, approximately two months after the public announcement of the deal, the CFIUS Staff Chairperson emailed the companies to request that they file a notice regarding the merger and undergo formal CFIUS review.
This example makes it clear that parties of proposed transactions involving sensitive technologies (such as the semiconductor sector) cannot hide from CFIUS scrutiny. As we've discussed in the past, CFIUS is ramping up resources and given its non-notified team the sole focus of scouring press releases, security filings, news media reports, executive agency communications, and deal databases tracking private deals, to identify non-notified transactions that may raise national security concerns.
CFIUS Issues Interim Order
As noted in a subsequent June 15 SEC Filing, the parties submitted a joint voluntary notice to CFIUS on June 11. Four days later, on June 15, Treasury – on behalf of CFIUS – issued an “Order Establishing Interim Mitigation Measures” (the “Interim Order”) that blocked the parties from completing the transaction until CFIUS had finished its review. The Interim Order noted that the parties could not proceed with the transaction until CFIUS clears the transaction, the President declines to take action, or the President revokes or terminates the Interim Order. It is worth pointing out that CFIUS's rapid response in issuing the Interim Order was likely due to concerns about the potential access to semiconductor technology by the Chinese entity (Wise), which could in turn cause significant harm to U.S. national security.
CFIUS Blocks the Transaction
Magnachip's August 27 SEC Filing indicated that the parties received a letter from Treasury on or around August 27 stating that “CFIUS has identified risks to the national security of the United States arising as a result of the [transaction],” and that “CFIUS has not identified any mitigation measures, including those proposed jointly by [the parties],” to “adequately mitigate the identified risks.” As such, the letter states that “absent new information arising during the investigation period that alters CFIUS's assessment of the national security risks, CFIUS anticipates that it will refer the matter to the President for a decision.”
Further, although the parties are assessing next steps (e.g., proposals to permanently mitigate the identified national security risks), the letter warns that there “can be no assurance that [the parties] will develop or agree to any proposals that would result in CFIUS clearance.” For the Magnachip deal, the end of the first investigation period was on or around September 10.
Letters like this from Treasury are usually sent by the Committee near the end of the investigation period to give the parties one last chance to address CFIUS's concerns before it moves to stop the deal. When CFIUS identifies a national security risk and does not believe the proposed mitigation controls will address their concerns, the Committee will refer the transaction to the President with a recommendation to block the transaction. Only the President has the authority to do this, and once a case is referred to the President, he will usually block the deal.
Typically, CFIUS sends letters like the August 27 letter only after the Committee has tried to negotiate a mitigation agreement with the parties, but the mitigation controls do not work. In fact, most transactions do not get referred to the President because once the parties receive the letter warning them that the transaction will be referred to the President, they usually agree to abandon or unwind the transaction.
Parties Permitted to Withdraw and Re-File
As described in a September 13 SEC Filing, on September 10 the parties “asked CFIUS to permit them to withdraw and re-file their June 11, 2021 notice” to permit further discussion with CFIUS about “potential options for permanently mitigating risks to the national security that have been identified by CFIUS.” On September 13, the Acting CFIUS Staff Chairperson notified the parties via a letter that CFIUS had granted their “request and that a new CFIUS review period for the [transaction] would commence on September 14, 2021 and conclude no later than October 28, 2021.” The September 13 Filing also notes that on October 28, CFIUS has the authority to extend its review process by undertaking a 45-day investigation period, and once again cautions the SEC that “there can be no assurance that the [parties] will develop or agree to any proposals that would result in CFIUS clearance.”
At times, before a matter is referred to the President, one of two things can happen: either the parties propose acceptable mitigation controls at the very last minute, or the Committee will permit parties to withdraw or refile their transaction to have more time to negotiate mitigation. This usually occurs before CFIUS issues a letter like its August 27 letter. But in the Magnachip deal, after sending the August 27 letter, CFIUS allowed the parties to withdraw and refile the notice to create time to further discuss mitigation measures, a clear demonstration of the Committee's willingness to work with the parties to reach a solution that addresses the national security risks it has identified.
It is unclear what new mitigation controls the parties can propose to address the national security risks identified by CFIUS that they did not offer before the August 27 letter was issued. But what is clear is that CFIUS is very interested in ensuring that Magnachip's semiconductor technology is adequately protected from a transfer to Chinese parties, most likely because Magnachip's technology is more advanced than the current Chinese semiconductor technology and because it may have some military or national security application. Whether the parties are able to propose mitigation measures that CFIUS approves is unknown at this time, but an update about the deal should be available by October 28.
Key Takeaways from the Magnachip Deal
- CFIUS has a broad jurisdiction. CFIUS has the jurisdiction to review foreign investment transactions of U.S. businesses (an entity engaged in interstate commerce in the United States) and retains jurisdiction indefinitely to review any transaction subject to its jurisdiction, before or after closing, regardless of whether a mandatory filing is required. In addition, the Committee has the authority both to block a transaction prior to closing or undo a completed transaction, including non-notified and notified transactions, when national security risks are not mitigated. Even if there is a very limited nexus of business activities in the United States, the Committee will not hesitate to assert jurisdiction of a transaction that it believes raises national security concerns. The Magnachip deal provides an example of how CFIUS will use a public listing on the NYSE, incorporation in a U.S. state, and a U.S. subsidiary to establish jurisdiction over a transaction. The lesson to be learned from this case is that CFIUS will find a basis to assert jurisdiction whenever a sensitive transaction and countries of concern are involved.
Non-notified transactions are not invisible. As discussed, the parties did not voluntary file a notice to the Committee because they did not believe regulatory approvals were required in the United States. After the transaction was announced, but before it closed, CFIUS's non-notified team identified the transaction and requested that the parties file a notice.
It is important for parties to properly conduct their due diligence and avoid the common misconception that when no mandatory filing is required, the risk of CFIUS reviewing the transaction later is low. This is especially important when a sensitive transaction is involved. As previously mentioned, a dedicated team within the Office of Investment Security Monitoring and Enforcement is focused on finding non-notified transactions that pose national security risks, and this team is expected to continue actively seeking out non-notified transactions.
Semiconductors and other sensitive technologies are under a microscope. The USG has made it clear that semiconductors and other sensitive technologies are a top priority, and it will implement measures to ensure they are protected. For the Magnachip deal, the transaction involved a target company in the semiconductor industry and a Chinese acquirer, two primary focuses of CFIUS.
The USG's rapid response in issuing the Interim Order – only four days after the voluntary notice was submitted to CFIUS for the Magnachip deal – demonstrates the willingness of USG to take prompt action to block technology transfers to foreign adversaries of the United States. Further, the Committee's decision to recommend the transaction for Presidential blocking also demonstrates the extent to which the USG is willing to go to protect these technologies, especially in the chip industry. Importantly, a transaction of any size involving China and a sensitive technology and industry like semiconductors is unlikely to slip past CFIUS scrutiny.
CFIUS is ready to block transactions. CFIUS will not hesitate to recommend that the President block sensitive transactions for which mitigation agreement negotiations have not adequately addressed the identified national security risks. To prevent this from happening, it is important that, as part of their due diligence, the parties assess all potential national security risks from the USG's perspective, submit a voluntary notice when warranted, and prepare themselves to negotiate mitigation controls with CFIUS.
In conclusion, CFIUS is ready and willing to continue dedicating resources to identify non-notified transactions that raise national security risks and will not hesitate to assert its long jurisdictional arm, going so far as to prohibit these transactions. The Magnachip deal provides a warning to parties who mistakenly believe that when a mandatory filing is not triggered, this translates into having a license to not file a CFIUS notice, especially when sensitive technologies and foreign parties from countries of concern are involved (e.g., China, Russia, Iran, etc.). Parties of foreign investment transactions need to carefully assess and conduct thorough CFIUS due diligence and analysis of national security risks that may arise.
The outcome of the Magnachip deal after CFIUS completes its review is yet to be determined. But one thing remains certain: CFIUS will continue to use its dedicated team to identify non-notified transactions that pose national security risks and will not stray away from recommending that the President block or unwind the deals.
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.