On June 21st, 2024, the U.S. Treasury Department issued a Notice of Proposed Rulemaking (the “NPRM”) for implementing EO 14105 Addressing United States Investments in Certain National Security Technologies and Products in Countries of Concern, issued in August 2023 (“EO 14105”).[1] The NPRM restricts U.S. investment in sensitive technologies developed in countries of concern, specifically listing the PRC (inclusive Hong Kong and Macau). The NPRM seeks public comment on the entirety of the proposed rule. The public will have until August 4, 2024, to provide comments. A final regulatory text will be issued at an unspecified later date.
“U.S. Person”:
The NPRM would place restrictions on “U.S. persons”, defined as U.S. citizens, lawful permanent residents, U.S. entities, as well as their controlled foreign entities and persons that are in the U.S.
“Covered transactions”:
The proposed rule would apply to any of the following transactions (each a “covered transaction”) made by U.S. persons in any “covered foreign person”:
- the acquisition of an equity interest or contingent equity interest (such as convertible bonds);
- certain debt financing that is convertible to an equity interest or that affords certain rights to the lender;
- the conversion of a contingent equity interest;
- a greenfield investment or other corporate expansion;
- a joint venture; and
- certain investments as a limited partner or equivalent in a non-U.S. person pooled investment fund.
A U.S. person could seek an exemption for any covered transaction arguing one is in the national security interest of the U.S. Additionally, the NPRM excepts the following transactions:
- publicly traded securities;
- limited partners investments in a fund of a certain size;
- buyouts of ownership in the entity of a country of concern so as not to be covered by the rule
- intracompany transaction between a U.S. parent and a majority-controlled subsidiary to support ongoing operations or other noncovered activities;
- a transaction fulfilling a binding, uncalled, capital commitment entered into prior to the August 9, 2023, the date of EO 14105;
- certain syndicated debt financings where the U.S. person acquiring a voting interest cannot initiate any action vis-à-vis the debtor and does not have a lead role in the syndicate; and
- certain transactions in third countries where the Treasury Secretary determines that the country or territory is properly addressing any relevant national security concerns.
“Covered foreign person”:
“Covered foreign persons” are defined to include, among other things, (i) a “person of a country of concern” (i.e., China) engaged in any “covered activity”; and (2) a parent company of any “person of a country of concern” described in (i), more than 50% of one of several key financial metrics of whom is attributable to such “covered foreign person”.
Regarding China, a “covered foreign person” means any of the following:
- an individual who is a Chinese citizen or permanent resident and not one of the U.S.;
- an entity which is organized under the Chinese laws, headquartered in, incorporated in, or with a principal place of business in China;
- the Chinese government; and
- an entity that is in any way majority-owned by any Chinese “covered foreign persons.”
“Covered activity” is defined as any of the following prohibited or notifiable activities:
1. Semiconductors and Microelectronics:
a. Prohibited - transactions related to the electronic design automation software, certain fabrication and advanced packaging tools, and the design, fabrication, or packaging of certain advanced integrated circuits and supercomputers;
b. Notifiable - covered transactions related to the design, fabrication, or packaging of integrated circuits which are not otherwise covered prohibited transactions;
2. Quantum Information Technologies:
a. Prohibited - the development and production of quantum computers and critical components, certain quantum sensing platforms, and quantum networking and quantum communication system;
3. Certain AI Systems:
a. Prohibited - transactions related to the development of any AI system designed to be exclusively used for, or intended to be used for, certain end uses; and
b. Notifiable - if the AI system is designed or intended to be used for other certain end uses or is trained using a specified quantity of computing power below the levels that are prohibited.
Prohibition v. Notification:
“U.S. persons” are prohibited from conducting any “covered transaction” if the involved “covered foreign person” engages in any prohibited “covered activity”.
A U.S. person should notify the U.S. Treasury of any “covered transaction” if the involved “covered foreign person” engages in any notifiable “covered activity.” The notice should include information related to the U.S. person, covered transaction, relevant national security technologies and products, and covered foreign person. It must be made either within 30 days of completion of the transaction, or 30 days of the U.S. person’s acquisition of actual knowledge that it is a covered transaction if that occurs later.
The prohibitions and notification requirements would be triggered when the involved U.S. person “has knowledge” of relevant facts or circumstances related to a covered transaction. Such “knowledge” includes both actual and constructive knowledge.
Neither EO 14105 nor the NPRM contemplates any review or approval/clearance mechanism for the “covered transactions”. However, parties to a “covered transaction” may, in certain exceptional cases, apply to the Treasury for an exemption from EO 14105 restrictions.
Penalties:
For violations of the Rule, offenders would be subject to civil and criminal penalties as set forth in the International Economic Emergency Powers Act (“IEEPA”). The Treasury Secretary could take any action authorized under IEEPA to nullify, void, or otherwise require divestment of any prohibited transaction. For any U.S. person who voluntarily discloses a violation, the Treasury Department will take that into consideration when determining the appropriate response.
