On Dec. 19, 2020, China’s National Development and Reform Commission (NDRC) and Ministry of Commerce (MOFCOM) jointly issued the Measures for the Security Review of Foreign Investment (《外商投资安全审查办法》) (the Measures), which will take effect Jan. 18, 2021. The 23 articles are intended to provide a clearer legal basis and procedure for strengthening the national security review of foreign investment into China.

Scope of Security Review

For purposes of the Measures, “foreign investment” refers to the investment activities carried out by foreign investors directly or indirectly within China, including the following circumstances:

• if foreign investors invest, solely or jointly with other investors, in new projects or companies in China;

• if foreign investors acquire equity or assets of domestic companies through mergers and acquisitions; or
   
• if foreign investors make investments in China in any other form.

Given the undefined breadth of “any other form” and the number of sectors deemed important to national security (as mentioned below), the Measures could have far-reaching effects on foreign investors who plan to make investments and transactions in China. In this sense, foreign investments by means of nominal shareholders, trust, multiple-layer investments, lease, loan, control by agreement or offshore transactions would also fall within the scope of the Measures. In practice, however, if a domestic company is indirectly invested by a foreign investor, such transaction may not necessarily be reflected in the system of China’s company registration authority. This could mean that the Chinese authorities may not be able to timely know whether a Chinese company is indirectly invested by a foreign investor simply by reviewing its registration information. It is therefore important to see how the practice will be developed around the review process.

Sectors Covered by the Measures

Article 4 provides that the review requirements apply to foreign investments in the following sectors:

• investments in “military, military support and other sectors related to national defense and security,” as well as investments in proximity to military facilities and military-industrial facilities;

• investments in the sectors below that would result in foreign investors obtaining “actual control” over the “domestic companies” they invest in:

The term “actual control” is clearly defined in the Measures to include:

• if the foreign investor holds more than 50% equity in the target; or

• if the foreign investor holds less than 50% equity but exercises significant impact in the board of directors, board of shareholders, or general meeting of shareholder by means of voting rights; or

• other circumstances where the foreign investor may have a significant impact on the target’s business decision-making, human resources, finance, technology, etc.

Reviewing Authorities

A foreign investment security review working mechanism (Working Mechanism) will be established for organizing, coordinating, and guiding foreign investment security review work. The office of the Working Mechanism is established at the NDRC, and both NDRC and MOFCOM will take the lead and undertake the daily work of foreign investment security review. Local counterparts will also be established for accepting applications from local levels. 

Initiation of Security Review

For covered investments, foreign investors or “relevant stakeholders in China” are required to file for the security review and wait for the result of review prior to “implementing” their investments.

Apart from the mandatory filing requirements, the Measures also provide that the office of the Working Mechanism may in its own discretion request foreign investors to submit for review transactions falling under the scope of the covered sectors. If any “government agencies, enterprises, social organizations or the public” believe that a certain foreign investment will or may impact China’s national security, they also have the right to submit “recommendations” to the office to initiate a review.

Review Procedures

The Measures divide the review procedures into three stages:

• Stage 1: Preliminary Review (15 Working Days). After any application for security review is submitted to the office of Working Mechanism, the office will, within fifteen (15) working days after receiving the application materials, determine whether a security review needs to be conducted on the reported foreign investment and notify the relevant parties in writing. If the office decides that no security review is required, the foreign investors can proceed with the proposed investment; otherwise, the proposed investment is subject to security review.

• Stage 2: General Review (30 Working Days). If the office of Working Mechanism deems that security review is required, it will conduct a general review, to be completed within thirty (30) working days. If the office of Working Mechanism, upon such general review, determines that the proposed investment does not impact national security, the office will decide that the application has passed the security review. If the office of Working Mechanism deems that the proposed investment has or may have an impact on national security, the office will conduct a special review.

• Stage 3: Special Review (60 Working Days). A special review will be completed within sixty (60) working days after the special review procedure is launched, and may be extended under special circumstances. The Measures do not specify what constitutes “special circumstances” and how long the review period can be extended. After the special review is completed, the office of Working Mechanism will make one of the following decisions:

Our Observation

China is always keen to attract more foreign investment, which has played a key role in the country’s economic boom over the past 30 years. At the same time, the government has tried to tighten its regulations as Chinese investments have come under greater scrutiny from abroad. The Measures echo the global movement towards adopting more stringent review regimes. For example, in recent years, the United States has ratcheted up its own CFIUS review regime with a clear intent to restrict Chinese companies’ access to critical technologies. Even though the office of the Working Mechanism in its press conference stated that the Measures are intended to follow international practice, and are “not protectionism, nor are they a regression in opening up,” the Measures can be seen as a response to the tightening of restrictions on Chinese investment in such jurisdictions as the United States and Europe, which already have national security regimes.

However, the Measures also constitute a formalization of existing monitoring procedures with respect to foreign investment across a broad range of sectors which fall within China’s expansive definition of national security. China’s foreign investment approval procedures, including anti-monopoly review and technology import and export review, already allowed substantial latitude for imposing conditions on or rejecting proposed foreign investments. The Measures will, however, continue to create an additional layer of uncertainty with respect to foreign investment at a time when China’s development strategy still relies upon foreign investment in critical technologies before Chinese companies can build indigenous capabilities and reduce China’s reliance on foreign technology. Therefore, foreign investors should be mindful of China’s national security review system and pay attention to the proposed transactions and investment (directly or indirectly) in the sectors that are targets for national security review. Investment plans, timetables, and terms and conditions for closing for investments into China should take into account the timing and contingency of obtaining national security approval