European Union: Foreign direct investment regulations

General overview

Background

Historically, there was no comprehensive framework for the screening of foreign direct investment (FDI) operating across the European Union. Instead, individual Member States could adopt their own FDI screening regimes without any supranational mechanism enabling coordination among Member States or promoting common standards. The lack of a harmonised approach to FDI screening raised concerns about the effective assessment and control of risks to security and public order where a relevant investment might have an adverse effect across multiple Member States (with this risk exacerbated by the high degree of integration achieved within the EU internal market).

On 10 May 2017, the European Commission (the Commission) published a ‘Reflection paper on harnessing globalisation’^[2] in which it launched a debate on how the European Union and the Member States could shape globalisation in a way that could benefit all. In this paper, the Commission underlined its commitment to build an open, sustainable, fair and rules-based system of global trade. In this context, the Commission recognised the importance of inbound FDI for economic growth, job creation and innovation in the European Union. However, the Commission also affirmed its commitment to protect the EU economy and citizens when foreign countries or companies engage in unfair practices or make acquisitions raising EU security and public order concerns.

On 13 September 2017, the Commission published a ‘Communication on Welcoming Foreign Direct Investment while Protecting Essential Interests’, in which it laid down, for the first time, a proposal for an EU-wide FDI screening mechanism.^[3] In this Communication, the Commission again acknowledged the substantial economic and wider societal benefits arising from FDI. It also reiterated, however, the risk to security or public order that could potentially arise when foreign investors – particularly those that are state-owned or controlled – seek to acquire control of or influence over European undertakings whose activities relate to critical technologies, infrastructure, inputs or sensitive information.

To address these concerns – and recognising that closer cooperation and better coordination between Member States were essential to ensure the effective scrutiny of FDI – the Commission proposed (on the basis of Article 207 of the Treaty on the Functioning of the European Union) the creation of an EU-wide framework for the screening of foreign direct investment into the European Union on grounds of security or public order.^[4]

The EU Regulation on foreign investment screening

On 10 April 2019, the EU Regulation on foreign investment screening (the FDI Regulation) entered into force and became fully operational on 11 October 2020.^[5] The main objectives of the FDI Regulation are to provide an EU-wide cooperation framework between the Member States and the Commission and to establish common criteria to identify risks relating to the acquisition or control by foreign investors of strategic assets that might threaten security or public order. The Regulation is only concerned with inward FDI (i.e., investment from abroad in assets based in the European Union). The FDI Regulation does not apply to intra-EU investments. Similarly, it does not regulate EU investors’ access to third-country markets (which is governed by other trade and investment policy instruments).

The FDI Regulation does not create a pan-EU system for vetting FDI at EU level. The Commission still has limited powers, as set out above. The primary responsibility for vetting FDI remains with the Member States, which will continue to apply national law while respecting the provisions of the FDI Regulation. The FDI Regulation also does not oblige Member States to adopt an FDI screening mechanism or seek to achieve the full harmonisation of existing FDI screening mechanisms across the European Union. Instead, it provides for information sharing and cooperation between Member States and the Commission. This involves the mandatory notification to the Commission and other Member States of any FDI scrutinised at the national level, including the provision of certain specified information. The FDI Regulation also requires that existing (and any new) regimes comply with a minimum set of requirements, while also encouraging those Member States that currently do not have an FDI regime to adopt relevant rules.

Screening factors

The FDI Regulation only applies to FDI that may raise concerns relating to security and public order. Although the concepts of ‘security’ and ‘public order’ are not expressly defined in the FDI Regulation, its Article 4(1) provides the following non-exhaustive list of sensitive sectors and other relevant factors that the Member States and the Commission may focus on when determining whether an FDI is likely to affect security or public order:

• critical infrastructure, whether physical or virtual, including energy, transport, water, health, communications, media, data processing or storage, aerospace, defence, electoral or financial infrastructure, and sensitive facilities, as well as land and real estate crucial for the use of such infrastructure;
• critical technologies and dual use items as defined in point 1 of Article 2 of Council Regulation (EC) No. 428/2009,^[6] including artificial intelligence, robotics, semiconductors, cybersecurity, aerospace, defence, energy storage, quantum and nuclear technologies as well as nanotechnologies and biotechnologies;
• the supply of critical inputs, including energy or raw materials, as well as food security;
• access to sensitive information, including personal data, or the ability to control that information; or
• the freedom and pluralism of the media.

Article 4(2) of the FDI Regulation further provides that in determining whether an FDI is likely to affect security or public order, the Member States and the Commission may also take into account whether the foreign investor is directly or indirectly controlled by the government of a third country, including through significant state-backed funding rather than direct ownership.

Screening mechanisms of Member States

As mentioned above, the FDI Regulation does not oblige Member States to adopt an FDI screening mechanism or to fully harmonise existing FDI screening mechanisms across the European Union. Article 3(1) of the FDI Regulation specifically provides that ‘Member States may maintain, amend or adopt mechanisms to screen foreign direct investments in their territory on the grounds of security or public order’.

However, the FDI Regulation does require Member States to be transparent about the circumstances in which FDI will trigger a review, and the procedure to be applied in such a circumstance. In terms of the procedure, Member States are under an obligation to set time frames of a sufficient length to allow for the possibility of comments from other Member States or an opinion from the Commission, and for those comments and opinions to be taken into consideration.^[7]

The FDI Regulation also requires Member States’ FDI screening regimes not to discriminate in respect of third countries, to protect confidential (including commercially sensitive) information and to allow foreign investors a right of appeal against screening decisions that are not in their favour.^[8]

Member States are under a reporting obligation to notify their existing screening mechanisms (and any amendments thereto) to the Commission. The Commission maintains a publicly available list of this information.^[9] Member States also need to comply with an annual reporting obligation regarding the application of their FDI screening regimes. This comprises aggregated information about the FDI that took place in their territories, including details of the transactions screened, prohibitions and conditions imposed, the value of screened investment and its origin. With this information, the Commission will produce an annual report that will be made publicly available.^[10]

Cooperation, collaboration and information sharing

Cooperation, collaboration and information sharing are central themes of the FDI Regulation. It establishes a framework enabling Member States and the Commission to comment on FDI taking place in another Member State, irrespective of whether the Member State receiving the FDI has chosen to screen the FDI or not. More explanation as to the precise workings of this cooperative framework is provided in the section below titled ‘Review process’.

As noted above, the new framework introduced by the FDI Regulation is not intended to replace domestic regimes. Although Member States are required to give ‘due consideration’ to the comments of the other Member States and to the opinion of the Commission, the Member State receiving the FDI retains authority as the final decision maker.^[11] It follows that the FDI Regulation does not establish a single, centralised review process (a ‘one-stop-shop’ system), as is the case under the EU Merger Regulation in respect of qualifying transactions.

The Commission does have greater influence with respect to projects or programmes of Union interest (such as Horizon 2020, the Trans-European Networks for Energy, the European Defence Industrial Development and Galileo),^[12] on the grounds that these projects serve the Union as a whole and represent an important contribution to its economic growth, jobs and competitiveness. In these circumstances, Member States are required to take ‘utmost account’ of the Commission’s opinion and to provide an explanation to the Commission in the event that its opinion is not followed.^[13]

Relevant authorities

As explained above, the decision to screen FDI or to adopt any measures relating to a specific FDI remains the sole responsibility of Member States. Accordingly, the competent authorities that deal with specific FDI screening cases at the national level are appointed by relevant Member States in accordance with their own internal procedures. The FDI Regulation does establish, however, that each Member State and the Commission shall appoint a relevant contact point for all matters relating to the implementation of the Regulation.^[14]

Within the Commission, all matters relating to the implementation of the FDI Regulation are handled by the Directorate-General for Trade, and more specifically by Unit TRADE-F-4. This unit is in charge of, inter alia, screening individual FDI cases, receiving and analysing the notifications sent by Member States, coordinating with the other Commission services and EU Member States and drafting opinions.

Article 12 of the FDI Regulation also provides that the group of experts on the screening of FDI into the European Union, created in 2017,^[15] will continue to advise the Commission and the Member States on the implementation of the FDI Regulation. This group of experts, which is chaired by the Commission and composed of representatives of the Member States, does not advise on individual FDI screening cases but instead shares best practices and lessons learned, and exchanges views on trends and issues of common concern relating to FDI.

Scope of the FDI Regulation

The FDI Regulation covers any FDI from third countries. It applies to all sectors of the economy and is not subject to any monetary thresholds.

‘Foreign direct investment’ is defined in Article 2(1) of the FDI Regulation as:

an investment of any kind by a foreign investor aiming to establish or to maintain lasting and direct links between the foreign investor and the entrepreneur to whom or the undertaking to which the capital is made available in order to carry on an economic activity in a Member State, including investments which enable effective participation in the management or control of a company carrying out an economic activity.

A ‘foreign investor’ is defined in Article 2(2) of the FDI Regulation as ‘a natural person of a third country or an undertaking of a third country, intending to make or having made a foreign direct investment’.

The FDI Regulation does not apply to portfolio investments. According to the Commission, this is because ‘portfolio investments’ – defined by the Court of Justice of the European Union as ‘the acquisition of shares on the capital market solely with the intention of making a financial investment without any intention to influence the management and control of the undertaking’^[16] – are generally less likely than FDI to pose risks in terms of security or public order. However, where they represent an acquisition of a shareholding that confers certain rights on the shareholder or connected shareholders under the national company law (e.g., 5 per cent), they might be of relevance in terms of security or public order.^[17]

Review process

Article 6(1) of the FDI Regulation provides that Member States must notify the Commission and the other Member States of any FDI that is undergoing screening in their territory by providing the information mentioned in Article 9(2) of the FDI Regulation as soon as possible. This should include a list of those Member States whose security or public order is deemed likely to be affected by the FDI, as well as information concerning:

• the ownership structure of the investor;
• the value of the FDI;
• the business operations of both the investor and the target (including the Member States in which they operate);
• the funding of the investments (and the source of funding); and
• the date of completion.

A submission made by a Member State pursuant to Article 6 of the FDI Regulation triggers what is known as a Phase I review period, which lasts a maximum of 15 calendar days.^[18] During this period, other Member States that consider that the notified FDI is likely to affect their security or public order, or that have relevant information to share with the Member State undertaking the screening, can reserve the right to provide comments and ask questions. The Commission must notify the screening Member State that comments were provided.^[19]

If the Commission considers that the notified FDI is likely to affect security or public order in more than one Member State, or a project or programme of Union interest, or when the Commission has relevant information to share, the Commission can issue an opinion addressed to the screening Member State.^[20] The Commission must also notify the screening Member State of its intention to issue an opinion by no later than the end of the 15 calendar days.

Within those 15 calendar days, other Member States and the Commission may also request that the Member State undertaking the screening provides additional information, which opens what is known as a Phase II. Any request for additional information must be duly justified, limited to information necessary to provide comments (in the case of a Member State) or to issue an opinion (in the case of the Commission) proportionate to the purpose of the request and not unduly burdensome. Requests for information and replies provided by Member States must be sent to the Commission simultaneously.^[21]

The Commission may issue an opinion irrespective of whether any Member States provided comments or not.^[22] In any event, the Commission must notify the other Member States that an opinion was issued. The Commission must send any opinion to the Member State undertaking the screening within a reasonable period, in any case no later than 35 calendar days from receipt of the notification.^[23] However, if additional information was requested, the Commission must send an opinion no later than 20 calendar days from receipt of the additional information, which in practice means that any information request effectively stops the clock of the review.^[24]

If a Member State has chosen not to screen FDI, the Commission or other Member States may nevertheless request that it provides this information. However, the cooperation mechanism should only be used for the purpose of protecting security or public order and the party requesting the information should duly justify the requests on these grounds.^[25] Article 7 of the FDI Regulation is silent as to how Member States that have chosen not to screen FDI should take into account comments from other Member States or an opinion from the Commission but it is assumed that those Member States should also give ‘due consideration’ to any comments and opinions.^[26]

As mentioned at Article 6(9) of the FDI Regulation, comments and opinions are non-binding on Member States that maintain the final decision regarding an FDI undergoing screening at the national level. However, as mentioned above, the Member State must give due consideration to the comments of other Member States and the opinions of the Commission. In the event that the Member State does not follow the opinion of the Commission, it must provide reasons.

Impact of covid-19

On 26 March 2020 – during the early stages of the covid-19 pandemic – the Commission issued Guidance to Member States on FDI^[27] and cautioned against an increased risk of attempts by foreign investors to acquire vital healthcare capacities (e.g., for the production of medical or protective equipment) or critical infrastructure, businesses or assets in related industries, such as research establishments (e.g., for the development of vaccines). In this context, the Commission urged Member States to exercise vigilance and apply FDI screening mechanisms rigorously.

One striking development triggered by the pandemic was that it accelerated the adoption of FDI regimes at the national level and led to a general tightening of the rules. Many Member States, urged by the Commission and the need to adopt measures that would ease supply chain shortages caused by the pandemic, lowered their notification thresholds to catch more deals with a potential critical component or expanded the scope of the sectors subject to review (e.g., to include medical businesses in the scope of sensitive or critical businesses). Many of these stricter measures are still in place, even as the pandemic seems to be abating. It remains to be seen whether these measures will be ultimately rescinded once there is certainty that the covid-19 pandemic is over or whether they will stay as durable features of certain national FDI regimes.

Recent enforcement practice and current trends

Commission’s second annual report on FDI screening

On 1 September 2022, the Commission published the ‘Second Annual Report on the screening of foreign direct investments into the Union’ (the Report)^[28] and an accompanying ‘Commission Staff Working Document’,^[29] pursuant to the annual reporting obligation under Article 5 of the FDI Regulation.

According to the Report, global FDI flows increased in 2021, reaching €1.5 trillion, which constitutes a 52 per cent increase with respect to 2020 and an 11 per cent increase with respect to the pre-covid-19 levels in 2019. The EU contributed to the global recovery with €117 billion in inward FDI, which constitutes a 31 per cent decrease with respect to 2020 and a 68 per cent decrease compared to 2019. These results were mainly caused by a decrease in inward FDI in Ireland, Germany and Luxembourg and by disinvestments in the Netherlands. Despite this drop in aggregated FDI flows in the EU, the number of mergers and acquisitions and greenfield investments in 2021 increased by 32 per cent and 12 per cent respectively, compared to 2020. However, the number of acquisitions still remained 9 per cent below the pre-pandemic levels in 2019 and for greenfield investments the difference reached 39 per cent.

The majority of inward FDI into the EU in 2021 originated in the US, accounting for 32.3 per cent of all acquisitions and 39.4 per cent of the greenfield investments, followed by the United Kingdom with 25.6 per cent and 20.9 per cent respectively. China only accounted for 2.3 per cent of all foreign acquisitions in 2021 (down from 3.4 per cent in 2020) and 6 per cent of the greenfield investments (down from 7.1 per cent in 2020). This is most likely due to strict capital controls and the concentration of investment activities in certain core industry sectors. Despite this decrease, Chinese investments in the EU still accounted for €9 billion in 2021 (from €6.5 billion in 2020).

In terms of target EU countries receiving the most inward FDI in 2021, Germany was the top destination with a share of 16.4 per cent of all acquisitions by foreign investors, which constitutes a 20 per cent increase with respect to 2020. Spain, France and the Netherlands followed with a share of foreign transactions of 13.8 per cent, 10.7 per cent and 10.5 per cent respectively. The most prominent sectors that drove the rebound in foreign transactions in the EU were information and communications technology (ICT) and manufacturing. ICT ranked first in M&A activity and second in greenfield investments (after retail) with 30 per cent of new acquisitions and 15.4 per cent of new greenfield investments in 2021 (representing a growth of 34 per cent and 15 per cent respectively compared to 2020).

According to the Report, despite the positive economic outlook for 2022 expected by some analysts, the sharp increase in the cost of energy and raw materials, and the economic repercussions of supply chain disruptions caused by Russia’s invasion of Ukraine, will likely influence the dealmaking momentum in the EU, potentially leading to a downward revision of the initial positive outlook for 2022.

Statistics on notifications and outcomes

In 2021, a considerable number of requests for FDI authorisations were made at the national level: a total of 1,563 (including ex officio cases). This is lower than the number recorded in the Commission’s ‘First Annual Report on the screening of foreign direct investment into the Union’ of 23 November 2021,^[30] where Member States reported 1,793 notifications under their national FDI screening regimes. However, the number of formally screened cases has slightly increased from 20 per cent in 2020 to approximately 29 per cent in 2021. A large majority of the national applications made (approximately 71 per cent) were deemed ineligible or did not require formal screening because of an evident lack of impact on security and public order.

Of all cases formally screened in 2021 by the Member States, the majority were authorised without conditions (73 per cent compared to 79 per cent in 2020), which means that the transaction was approved without any additional action required from the investor. However, 23 per cent of the decisions required an approval with conditions or the adoption of mitigating measures, which constitutes a significant increase compared to the first annual report with 12 per cent. Only 1 per cent of all cases were blocked by the national authorities and 3 per cent of transactions were ultimately abandoned by the parties.

At the EU level, 13 Member States submitted a total of 414 notifications pursuant to Article 6 of the FDI Regulation in 2021. This constitutes a significant increase from the number of cases reported in the Commission’s first annual report where 11 Member States notified a total of 265 cases. Five Member States (Austria, France, Germany, Italy and Spain) were responsible for more than 85 per cent of the notifications in 2021. The five sectors with the highest number of transactions were ICT (36 per cent), manufacturing (25 per cent), financial activities (9.5 per cent), wholesale and retail (8.5 per cent) and construction (4 per cent).

Of the 414 cases notified in 2021, 86 per cent (356 cases) were closed in Phase I (i.e., within the initial 15 calendar days), with the remaining 11 per cent (47 cases) proceeding to Phase II with additional information being requested from the notifying Member State. Three per cent (11 cases) of those cases were still ongoing at the cut-off date of the Report (i.e., not yet closed in Phase I or 2). The main sectors subject to Phase II were manufacturing (76 per cent), ICT (32 per cent) and financial activities (10 per cent).

According to the Report, most Phase I cases were closed rapidly within the initial 15 calendar days. For all Phase II cases, the average duration for Member States to provide the requested information was 22 calendar days (compared to 31 calendar days in the first report), with a range from three to 101 days (compared to two to 101 calendar days in the first annual report). Opinions were issued in less than 3 per cent of all cases notified, which is a similar figure to the one provided in the first annual report.

More Member States are putting screening mechanisms in place

As at 10 May 2022, 18 of the 27 Member States had FDI screening mechanisms in place, with seven Member States reported as engaged in consultative or legislative processes expected to result in the adoption of FDI mechanisms.^[31] In the Report, the Commission again encourages all Member States to adopt, adapt and implement national screening mechanism. Most recently, the Commission called upon Member States to set up fully fledged screening mechanisms in the ‘Guidance to the Member States concerning foreign direct investment and free movement of capital from third countries, and the protection of Europe’s strategic assets’^[32] of 26 March 2020 and the ‘Guidance to Member States on FDI from Russia and Belarus’^[33] of 6 April 2022.

Despite regular cooperation in 2021 between the Commission and Member States and a number of important similarities between national screening mechanisms, Member States still continue to show significant degrees of differences in terms of what constitutes a formal screening of FDI, applicable timelines, sectoral coverage, notification requirements and other elements. According to the Report, the Commission remains dedicated to supporting the alignment of national screening mechanisms and expects that all 27 Member States will soon have a national FDI screening mechanism in place.

FDI from Russia and Belarus

Since the beginning of Russia’s military aggression against Ukraine, the EU adopted a range of sanctions against Russia aimed at significantly weakening its economic base, depriving it of critical technologies and markets and undermining its ability to finance the war. In parallel, the existing EU sanctions regime against Belarus has been expanded in response to its involvement in Russia’s aggression against Ukraine.

On 6 April 2022, the Commission issued Guidance to Member States on how to screen foreign direct investment from Russia and Belarus into the EU.^[34] In the Report, the Commission acknowledges that the screening of FDI and sanctions are two distinct legal instruments, each with a different purpose. However, in light of Russia’s military aggression against Ukraine, the Commission calls for greater vigilance against Russian and Belarusian FDI into the EU. This would apply not only to individuals or entities currently subject to sanctions in the EU but also to any investment directly or indirectly related to a person or entity associated with, controlled by or subject to influence by the Russian or Belarusian government into critical assets in the EU that may pose a threat to security or public order in a Member State.

Next steps

In terms of next steps, the Report provides that the Commission launched a study in 2021 on the FDI cooperation mechanism in order to assess discrepancies and inefficiencies between the FDI screenings carried out by national authorities and the Commission and how those interactions may be improved. The study will also contribute to the Commission’s assessment of the potential need for a revision of the FDI Regulation in 2023.

Practical insights and strategic guidance for investors

For the purposes of practical deal planning, foreign investors should be aware that the screening of FDI under the FDI Regulation is likely to exceed the basic periods identified in the preceding sections. This is because the review period of 35 calendar days provided by the FDI Regulation (i.e., for Phase II investigations) may be extended when requests for information are made by the Commission or other Member States.

As mentioned above, the Commission must send any opinion to the Member State undertaking the screening within a reasonable period and, in any case, no later than 35 calendar days from receipt of the notification.^[35] However, if additional information is requested, the Commission must send an opinion no later than 20 calendar days from receipt of the additional information. In practice, this means that the review period is suspended each time there is an information request. According to the Commission’s Report, however, most Phase I cases were reviewed rapidly (within the prescribed 15 calendar days) and the average duration for Phase II cases was 22 calendar days (nine days less than in the first annual report).

The operation of the FDI Regulation is also likely to increase the complexity and rigour of FDI screening processes.^[36] The standard form used by the Commission to collect information in respect of FDI is generally more comprehensive than equivalent forms used in various Member States (e.g., the Commission’s form requires detailed information about the target, such as an explanation of the products, services and business operations after completion of the transaction, the target’s main competitors, whether the target owns any patents or other intellectual property rights, etc.).^[37] It appears likely that Member States will in future seek the same or substantially the same information, increasing the information requirements on affected businesses. On a precautionary basis, it is advisable for foreign investors to collect all the necessary information required by the Commission’s form in anticipation that the information may be required for national purposes.

In the longer term, heightened cooperation and information sharing among authorities under the FDI Regulation may provide some benefits to foreign investors by encouraging greater consistency among Member States, leading to more certain and predictable outcomes (notwithstanding political considerations that may play a more prominent role in FDI screening reviews than in merger control proceedings).

Key developments

On 30 June 2022, the EU reached a political agreement on the much-anticipated foreign subsidies regulation (Regulation),^[38] which should become operational next year.^[39] The Regulation is intended to ‘level the playing field’ between EU operators and their competitors from non-EU Member States which are not subject to the same kind of strict subsidies disciplines as EU Member States are under the EU state aid rules. It seeks to do this by creating the following three new subsidy control tools for the Commission to address foreign subsidies:

• a general ex officio tool for the Commission to investigate allegedly distortive foreign subsidies;
• a notification-based tool in relation to potentially subsidised mergers and acquisitions, with suspensory effect; and
• a notification-based tool in relation to potentially subsidised public procurement bids, with suspensory effect.

Although the Regulation is aimed at foreign ‘subsidies’, it is important to appreciate that the notification obligations under the concentrations and public procurements tools are not triggered by the receipt of foreign ‘subsidies’ but rather foreign ‘financial contributions’.

The notion of a ‘financial contribution’ is wider than that of a ‘subsidy’, and essentially may include any transfer or use of financial resources that is directed by foreign public authorities, including for example, remuneration by the foreign state for goods and services provided, even if this is in line with the market and therefore there is no benefit in economic terms. The result is that the notification obligations may be very wide-ranging and therefore onerous in practice.

A failure to comply with the notification obligations under the Regulation could carry significant penalties in terms of fines of up to 10 per cent aggregate turnover and in the case of completed concentrations, possible dissolution of the concentration.

The text of the Regulation will now be finalised by the EU institutions and will likely be adopted and enter into force before the end of the year. The Regulation will become directly applicable six months after its entry into force (possibly the second quarter of 2023), with the notification obligations becoming applicable nine months after entry into force (possibly the third quarter of 2023).

Notes