Will 2023 Be an Inflection Point for CFIUS?

By David N. Fagan, Brian Kim and Jonathan R. Wakely

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On the heels of Russia’s invasion of Ukraine, pandemic-induced supply chain disruptions and U.S.-China tensions over Taiwan, 2022 accelerated a sweeping effort within the U.S. government to make national security considerations — especially with respect to China — a key feature of new and existing regulatory processes. This trend toward broader national security regulation, designed to help maintain U.S. strategic advantage, has support from both Republicans and Democrats, including from the Biden administration.

With this backdrop, 2023 is looking like a pivotal moment for national security regulation, with the Committee on Foreign Investment in the United States, or CFIUS, and a potential outbound screening regime at the center of attention.

CFIUS will face increased stress as an institution owing to a combination of factors, including an increased caseload, a policy push on enforcement and the drain of additional policy initiatives, including outbound investment. While we anticipate that CFIUS will continue to process in a timely manner transactions that do not raise complex national security considerations, the stress in the system may make resolving complex cases even more challenging and, in turn, places an even greater premium on thorough, and early, planning by transaction parties.

Since enactment of the Foreign Investment Risk Review Modernization Act in 2018, we have seen a steady increase in overall activity from CFIUS, backed by dramatic increases in staff and expanded funding. As we observed in CFIUS’s Annual Report to Congress released in August 2022, CFIUS’s heavy caseload continues to grow, with a record-setting 164 declarations and 272 notices reviewed in 2021. Based on Covington’s internal estimates, CFIUS’s caseload last year appears to have surpassed even 2021’s record, with at least 280 notices filed in 2022. This is particularly striking given the concomitant decline in U.S. mergers and acquisitions activity of as much as 43 percent during the same period.

Several parallel trends will make CFIUS’s caseload even more acute.

Enhanced scrutiny in individual transactions, particularly responding to Russia’s invasion of Ukraine and tensions with China. The general level of scrutiny in CFIUS reviews has intensified — with information requests expanding both in volume and aperture — probing more frequently into business operations and relationships in China and Russia, as well as into general national security risks that may be inherent in the target U.S. business.

Consistent with the September 2022 Executive Order bolstering CFIUS and recent remarks from senior administration officials, CFIUS is also applying even more scrutiny and resources on issues such as supply chain resiliency, data sets possessed or accessible by business and technology leadership. We have also observed a rising incidence of CFIUS requiring mitigation measures as a condition of approval in cases where mitigation might not have been the obvious landing point in the past. The number of withdrawn and refiled notices has also increased significantly.

Focus on enforcement and penalties. CFIUS’s Enforcement and Penalty Guidelines released in October 2022 make clear that CFIUS will take a more aggressive and coordinated approach to enforcement of mitigation agreements and non-notified transactions in 2023. While we do not expect this to be open hunting for civil money penalties, there is clear evidence of greater resources and attention being paid to enforcement and monitoring — and that inevitably will also lead to more senior-level attention on specific enforcement matters.

Further policy-related initiatives. We also continue to see momentum, both in the White House and Congress, toward a new outbound investment review process — colloquially, a “reverse-CFIUS” — to screen certain foreign-bound investment by U.S. persons. The 2023 Consolidated Appropriations Act requires the Departments of Commerce and Treasury to prepare a report setting out the details of a new outbound investment review regime. While the act provides no additional insight into the scope of a new potential outbound regime, the inclusion of a short-fuse report requirement in the appropriations law signals enduring and energetic support for some form of outbound investment screening in the near term.

Even if Congress ultimately fails to pass legislation establishing an outbound investment regime, recent reports indicate a forthcoming executive order from the White House that would design a new outbound regime, including a combination of investment restrictions and notification requirements, focusing on semiconductors, artificial intelligence and quantum technology. The final scope and timing of an executive order remains to be seen.

Scrutiny from Congress and the China Select Committee. Meanwhile, we expect increasing domestic scrutiny, including in the form of congressional investigations, to further exacerbate pressures on CFIUS. The feedback loop between congressional pressure and recent media focus on China has created a constrictive environment for CFIUS that exposes its processes to political stress and, in turn, could trigger a chilling effect.

Central to this new normal will be the new “Select Committee on the Strategic Competition Between the United States and the Chinese Communist Party,” which was established earlier this year with a bipartisan vote of 365-65. The select committee will be heavily focused on oversight and investigations and is expected to scrutinize, among other things, U.S. businesses operating in China, businesses in China on which the United States is perceived to depend, and other areas where Congress sees opportunities for private industry to bolster America’s competitive position against China.

David N. Fagan and Jonathan R. Wakely are partners and Brian Kim is an associate in the CFIUS practice of Covington & Burling LLP.

Topics: Defense Contracting

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