In the near future, the European Union may adopt a regime for foreign investments into the EU and such future EU rules may well reach beyond last year’s proposal from the European Commission regarding the establishment of a framework for screening foreign investments in the European Union. Material EU rules, however, will most likely not apply before 2020 (at the earliest). Thus, for now the focus in Europe is on the national foreign investment regimes.
Just like CFIUS (Committee on Foreign Investment in the United States), which is currently being tightened again, has been of key relevance when considering investments into the USA, the German foreign investment regime has become more and more detailed over recent years. Leaving aside the difficulty to predict how the German and – most likely – European regime will continue to be adjusted over the next years, the existing conditions for foreign investments in Germany already provide for growing uncertainties and impediments. When considering investing in Germany, it is, therefore, important to understand the current regime.
In the past, investment control in Germany had been very limited when compared to other jurisdictions. This situation has changed significantly since 2017. This change was, in particular, triggered by an amendment of the German Foreign Trade Regulation (Außenwirtschaftsverordnung, “AWV”) by the German Federal Ministry of Economics and Technology (Bundesministerium für Wirtschaft und Technologie, herein also referred to as “Ministry”) implemented in July 2017; for a brief assessment of the implemented changes please see KWM on German foreign investment control (2017). In addition to the changes to applicable laws and regulations, the mindset of the coordinating Ministry (as well as of the other German authorities the Ministry involves and consults in connection with an investment control process) appears to have changed significantly over the last year. This appears to be in response to various German voices calling for protection of German companies operating in key business sectors (in particular, but not limited to, defense, critical infrastructure and security-related technology) which have become continuously louder following recent investments such as the sale of German robotics manufacturer Kuka to the Chinese Midea group or the acquisition of a 9.7 % stake in Daimler by Zhejiang Geely Holding Group.
The impact of a few recently blocked transactions
Following a vivid public debate in Germany, the German press and politicians have zoomed in on Chinese investments in key German sectors. And while during the first year following the amendment of the AWV no transaction was prohibited, the public attention has now yielded first consequences: Just recently two significant Sino-German transactions were blocked in quick succession:
- In July 2018, the German State Bank KfW acquired a 20% stake in the German power network operator 50Hertz on behalf of the German Federal Government, thereby preventing the Chinese state-owned company SGCC from acquiring this stake. For the purpose of the sale of the shares of 50Hertz to KfW, the majority shareholder Elia exercised an (existing) right of first refusal. The intervention was based on security policy considerations and the importance of reliable energy infrastructure to the German public. It is particularly notable that the German Federal Government got involved in this transaction - even though currently the relevant German investment control regime only applies to acquisitions of at least 25 % of a company; this explains why this transaction was prevented not via a decision by the competent Ministry but rather via the sale to KfW.
- Shortly afterwards, on 1 August 2018, Yantai Taihai withdrew its foreign investment notification after the Ministry announced its plans to prohibit Yantai’s acquisition of the Westphalian mechanical engineering company Leifeld Metal Spinning (Leifeld). Leifeld produces high-specification metals, which are used particularly in aerospace technology and in the nuclear sector, while Yantai itself is also operating in the nuclear sector, as a leading player, inter alia for nuclear casting. Yantai tried to avoid a decision of the Ministry by withdrawing its application for approval of the transaction. It seems worth noticing, that the withdrawal had little effect as the Ministry, in spite of the withdrawal and as a precautionary measure, prohibited the transaction based on security considerations.
These recent developments must, however, be put into the right perspective: It should not be forgotten, that there have been a number of other recent transactions that could have been seen as critical but which have been completed and were not blocked. For example, Yantai’s' acquisition of Duisburg Tubes Production (a German company that produces precision tubes for the nuclear industry) took place earlier this year without any political hurdles. Likewise, after lengthy administrative procedures, the acquisition of Cotesa, a manufacturer of high-quality fiber composite components used by Airbus and Boeing in aircraft construction, or the acquisition of Trimet Automotive, a leading producer for aluminium products in form of high pressure and gravity die castings for the automobile industry (see KWM assists in Trimet acquisition (August 2018)), and other transactions were all permitted.
Doing deals in lieu of an expected tighter regime
Beyond the recent tightened administration of the current legal regime, the German legislator has declared contemplating further legislative action. Federal Economics Minister Altmaier revealed tendencies for stronger political intervention in the free market economy to protect key industries, inter alia potentially reducing the relevant threshold for the Ministry to be involved in transactions from 25 % to 15 % of the shares in a German company.
As Chinese investments are at the very core of the discussions, it is worth asking the question: What does this new approach mean for Chinese investments in Germany? As a starting point, Chinese investors should be aware of the changes to the investment climate in Germany and take into account the additional procedural layer they will have to deal with in connection with the transaction as opposed to a European competitor.
Overall, due to the fact that the Federal German Government stresses the importance of a liberal investment environment in Germany on the one hand while intervening in certain investments on the other hand the situation has become somewhat opaque. This causes significant uncertainty amongst investors with respect to economic decision making and, in order to deal with this situation, any preparation of a Sino-German deal should include a strategy on how to mitigate any perceived deal uncertainty and how to structure an investment in order to be able to render competitive offers for German targets. Such strategy should include preparation of a clear and concise communication plan for a potential foreign investment control procedure, and it should contain a detailed post-closing business plan of the purchaser for the target as in practice the Ministry will request the disclosure of the purchaser’s short- and long-term intentions for the German company. In our experience, such request should not be perceived as a burden, but rather as an opportunity to disperse reservations of the Ministry because any plan setting out the positive impacts of the transaction, e.g. a sustainable growth of the target and/or retainment of the local work-force, will shed a positive light on the transaction. In addition, the strategy should contain evaluations on how to address the foreign investment control process with the seller.
What to expect in an investment control process
According to minister Altmaier, the interest of the German government in a foreign investment control process, generally speaking, is not based on the intention to block investments or to promote protectionism, but to obtain more details about who is involved in takeovers of German businesses and the intention of such investors. This approach is not yet reflected in the existing applicable legal materials, which will need to be updated following the amendment of the AWV. In addition, there is still little experience with the application of the new AWV by the German Ministry, which is causing further uncertainty and which will only be reduced once a routine manner of the Ministry to deal with these cases will develop. In spite of such uncertainty, deals can still be completed successfully. Obviously, experience from successful deals and good communication lines are of key importance, as the Ministry seems to adapt in each case a catalogue of specific questions, more or less tailored for each transaction:
In our experience, the Ministry is currently focusing on the following points to assess, whether a transaction involving a Chinese investor requires closer scrutiny and potentially poses a threat to public interest in Germany:
- Involvement of a state-owned or state-invested enterprise or a politically exposed person in the shareholder structure of the purchaser;
- Assessment of whether the target is active in a business sector which qualifies as critical infrastructure, whether it is an important supplier to customers which operate in such a sector or whether it has business relationships with state institutions and/or municipalities;
- Assessment of the customer structure of the purchaser, in particular with respect to business relationships with state entities or customers in critical regions of the world;
- Assessment of the business strategy of the purchaser for the time after closing, focussing in particular on strategy for IP and know-how, the work-force of the target and plans, if any, to relocate business;
- Assessment of the importance of IP and know-how possessed by the target as well as whether the target has meaningful insight into the IP and know-how of its customers;
- Assessment of whether the target is an important supplier for German companies and whether a potential stop of its services and delivery would negatively impact the German economy; and
- Assessment of whether the target produces military or dual-use-goods.
As a general principle, the more of these assessment criteria are affected in the relevant transaction, the likelier it is that the Ministry will review the transaction in detail and, potentially, prohibit the transaction.
Globally, the environment for certain foreign investments is changing constantly. While the new CFIUS regime is now in place, the German foreign investment regime has also been tightened and is expected to change further in the coming years. This requires strategical navigation and communication. The implemented and potential future changes to the German regime, as preceded in a few recent cases, are expected to primarily target Chinese investors, reflecting increased public and – thus – political concerns that recent rise in Chinese takeovers might eventually drain Germany’s industries and lead to a loss of know-how in key areas. In line with protective tendencies in many parts of the world German politicians, including minister Altmaier, have repeatedly stressed that they perceive it as their responsibility to protect German security interests.
In response to the changed legal regime and its potential tightening, it will become even more strategically important for foreign investors to adequately design the acquisition and communication strategy.
Irrespective of recent changes, the implementation of well-planned acquisitions of stakes in German entities is still feasible, also for state-invested entities. While obviously the global changes have implications, we expect that also in the future, most acquisitions will be feasible for Chinese acquirors or other foreigners in Germany provided that the specifics of the changing applicable foreign investment control regimes are taken into adequate consideration, as free trade and investments basically form an integral part of the liberal German economic system.
This article was written by Dr. Tilmann Becker, Dr. Christian Cornett, Dr. Sandra Link and Hui Zhao.
The authors are based in KWM’s Frankfurt office and regularly handle Sino-German transactions, including dealing with German foreign investment control items as well as CFIUS aspects of Sino-German transactions. King & Wood Mallesons is dealing with foreign investment control all over the world, for a brief assessment on the UK development see the KWM analysis here).