The U.S. intelligence community believes with "moderate confidence" that there is likely a "coordinated strategy" to acquire U.S. companies involved with critical technologies by one or multiple foreign companies or governments, according to the unclassified annual report of the Committee on Foreign Investment in the United States (CFIUS) released Dec. 20.
This is the first time that CFIUS has made this particular finding, although it has long been required by law to report on whether such a coordinated strategy to acquire critical technologies exists, according to CFIUS sources. CFIUS examines transactions that transfer control of a U.S. company to a foreign person to ensure they do not pose a national security risk.
Among the items considered to be critical technologies under the CFIUS statute are defense goods and services controlled on the U.S. Munitions List, certain items on the Commerce Control List, specially designed nuclear equipment and toxins.
The unclassified version of the report does not provide information on which specific entities are engaged in this coordinated strategy, although such a list is likely included in the classified version, according to a CFIUS lawyer. This lawyer said the finding could affect future transactions from the identified companies or governments, which could conceivably include China.
However, China was only linked to four planned and completed transactions involving critical technologies during 2011 out of a total of 120 such transactions that year, according to statistics published in the unclassified version of the report. The United Kingdom had the most such transactions at 30.
Nova Daly, a former deputy assistant secretary of Treasury who ran CFIUS and is now with Wiley Rein, said that future transactions involving the entities found to be engaged in a coordinated strategy to acquire critical technologies will likely face increased scrutiny and mitigation, if not be outright blocked, as result of this finding. However, the finding may be "less nefarious" than it seems, he said, given that companies might simply want to benefit commercially from the acquisition of such technologies.
A Treasury spokeswoman did not comment on the finding, saying the report speaks for itself.
This new finding could be due to a government or company making public its intentions to acquire such technologies, or it could be due to intelligence reports that companies or governments are motivated by such intentions, according to a CFIUS expert.
The more troubling finding, according to this expert, comes later in the report, when it states that the intelligence community "judges that foreign governments are extremely likely to continue to use a range of collection methods to obtain U.S. critical technologies." However, that finding is not new, the expert said.
That finding essentially means that governments are using espionage to obtain critical technologies, which is worrisome because it means the U.S. could be losing core technologies that are the future of U.S. jobs and innovation, the expert said.
The annual report also shows an increasing number of notifications regarding covered transactions in recent years, with transactions involving China representing the third-largest group of transactions by country in 2011.
CFIUS received 111 notices of covered transactions and followed up with investigations on 40 of those transactions in 2011, the calendar year covered by the report. In 2010, the committee received 93 notifications and initiated 35 investigations, and in 2009, it received 65 notifications and initiated 25 investigations.
Mark Plotkin, a lawyer with Covington & Burling who does CFIUS case work, said the amount of notifications the committee receives generally follows the trend of the broader economy, a point supported by another CFIUS lawyer. Notifications have picked up, Plotkin said, because the economy has started to improve, leading to an increase in transactions. In the years leading up to the recession, the number of notifications averaged roughly 150. He said that the number of notifications for 2012 was about the same as 2011, at roughly 115.
Foreign companies are encouraged to notify CFIUS of any proposed transactions that might fall under its purview, although they are not required to do so. Companies often submit notifications voluntarily before going through with a deal, since this saves time and money should the transaction not be approved. CFIUS can also examine an issue and recommend to parties that they submit themselves to a review. Additionally, CFIUS has the authority to self-initiate a review even if parties to a transaction do not voluntarily submit to one.
Once a review starts, CFIUS has 30 days to either green light a deal or start a more detailed investigation. If it chooses the latter, CFIUS then has 45 days to complete the investigation and offer a recommendation. If, during the course of the additional 45-day investigation, CFIUS concludes that national security is threatened and cannot devise mitigating measures, it sends its recommendation to the president, who then has 15 days to issue a final decision.
CFIUS decisions have become an increasing area of contention between the U.S. and China, particularly last year when President Obama ordered Chinese-owned Ralls Company to divest its interest in several wind farms in Oregon following a CFIUS recommendation that he do so. Ralls has since launched a case in the U.S. District Court for the District of Columbia, alleging that both Obama and CFIUS exceeded their statutory authority.
China's ambassador to the World Trade Organization, Yi Xiaozhun, also charged in a speech at the World Trade Organization's review of U.S. trade policy last month that the U.S. has been blocking "normal" Chinese investments for "ideological reasons."
An analysis of the annual report by Covington & Burling said the report has now added "proximity to certain types of [U.S. government] facilities" to its list of factors CFIUS considers to potentially pose a risk. The expert said CFIUS has always considered proximity in its deliberations and perhaps specified it in the report due to higher-profile cases like Ralls, in which proximity played a role in the final decision.
Ten of the notifications in 2011 related to transactions involving China, up from six transactions in 2010 and four transactions in 2009. Only investors from the UK and France accounted for a higher number of notifications in 2011, with 25 and 14, respectively.
The UK has always had a high number of notifications because of its close relationship with the U.S., Plotkin said. "Companies from the United Kingdom are really warmly welcomed to invest in highly sensitive areas," as opposed to companies in countries who are not close allies, such as China and Russia, he said. The other CFIUS lawyer said Canada has also historically had a large number of notifications because of its close relationship with the U.S.
By contrast, China is only beginning to step up its investment in the U.S., and a larger portion of those investments may be deemed to have national security implications because of U.S.-China tensions, he said. "Their investments receive greater scrutiny as a general matter, regardless of what industry they happen to be investing in," he said, adding that not all Chinese transactions are necessarily reviewed.
Another CFIUS lawyer said France lies somewhere in between our close allies and countries like China and Russia when it comes to how the U.S. views French investments. One reason the number of notifications from France have been rising is because France has generally maintained a higher level of espionage on the U.S. than the U.S. is comfortable with, prompting increased suspicions about French transactions.
Six notifications were withdrawn in 2011 – one during the review period and five during the investigation. Four of those cases were re-filed in 2011, and two in 2012. One reason a company may withdraw and re-file a notification with CFIUS is if it decides to restructure the terms of the transaction.
From 2009 to 2011, acquisitions by investors in the UK made up 26 percent of all notifications at 68 transactions, by far the highest number of notifications by country in that time period. Investors from Canada and France accounted for 27 notifications each in that three-year period, and Chinese investors accounted for 20.
Of those 20 Chinese transactions, 12 of them were in the manufacturing sector, with no other sector making up more than five transactions, according to the report. Overall, the manufacturing sector accounted for 44 percent of all notifications, a percentage which has been growing in recent years.
Plotkin attributed the increase in manufacturing transactions to the fact that U.S. manufacturing companies have been devalued as a result of the recession, making them attractive investments in a stable market. He also said foreign countries are beginning to see the value of investing in manufacturing nearer to distribution centers and ultimately customers in order to cut down on transportation costs. However, location is not necessarily the dominant factor in the increase, according to the other CFIUS lawyer.