A matter of national security

Starting in 2022, new legislation will require anyone acquiring a stake in a business to consider whether it raises any issues of national security. If so, prior approval from the Secretary of State might be required to avoid severe civil as well as potentially criminal penalties.

National Security and Investment Act 2021

The new rules stem from the National Security and Investment Act 2021. This establishes a new standalone regime for government scrutiny and intervention in acquisitions and investments for the purposes of protecting national security. It received Royal Assent on 29 April 2021 and stands to replace the government’s powers under the Enterprise Act 2002. New rules are widely expected to become effective once the secondary legislation is introduced on 4 January 2022.

Size doesn’t matter

Unlike the position under the Enterprise Act, the new rules will not be subject to any minimum turnover or market share requirement. Removal of this aspect of the previous regime is expected to see a noticeable increase in the number of transactions being referred for approval, and in so doing dramatically extending the scope of the regime.

To notify or not to notify

Two basic requirements must be met for the transaction to trigger mandatory notification. The first is that the target subject of the transaction undertakes particular activities in the UK within a specified high-risk economic sector. These sectors are due to be outlined in secondary legislation, but an initial consultation highlighted 17 potentially relevant sectors to include critical government suppliers, military, robotics, AI, cryptographic authentication, transport, communications, and energy.

The second requirement is that the acquirer gains control of more than 25% of the target’s shares or voting power, or that it is otherwise able to exercise material control. Such thresholds would appear to align with the persons of significant control reporting thresholds.

Just shares, not assets

Interestingly, the National Security and Investment Act 2021 only requires notification to be made for share transactions. So asset based acquisitions are not caught by the mandatory regime, although a parallel voluntary notification regime could be used if the parties believe it to be appropriate to do so.

Severe penalties for the unwary

The legislation provides for a number of severe penalties for completing an unapproved notifiable acquisition. Of major concern for the parties is that the transaction would be void. Although retrospective approval might be possible, the parties run the risk of having to backtrack on their plans and undo all post completion business integration, risking huge business interruption and ongoing operational uncertainty for their own businesses and those of other stakeholders.

Civil penalties will include fines calculated at up to 5% of turnover, up to a maximum of £10 million. In some cases, the legislation provides for up to 5 years imprisonment.

Transactional implications

The onus for compliance is on the buyer. So it would be reasonable to expect to see the buyer carry out more thorough due diligence enquiries extending to cover issues raised by the new Act. Consequently, appropriate seller sale warranties and indemnities would be a realistic inclusion in the documentation to give the buyer appropriate assurances on the position.

That said, the possibility that the transaction could later be treated as void presents a risk to the seller outside of that envisaged by the rules. In such cases it is likely that the seller will require transparency and involvement in the notification process, supported by certain buyer warranties in the case that the buyer fails to comply with the process.

Should the transaction be such that it requires notification, mandatory or otherwise, the process will weigh on the timetable, and introduce a further element of risk as to whether matters are “called in” for further scrutiny. But legislators would argue that this is a small price to pay to preserve national security at a time of heighted geopolitical tensions. Only time will tell whether the new rules are able to balance their intended outcomes against a more challenging transactional process.

More information

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This article was written by Edward Garston, Partner in our Company & Commerical Team. The contents of this article are for the purposes of general awareness only. They do not purport to constitute legal or professional advice. Specific legal advice should be taken on each individual matter. This article is based on the law as of September 2021.