Key Takeaways

• New framework announced for restrictions on outbound investment to China in the semiconductors and microelectronics, quantum information technologies, and artificial intelligence sectors.
• Prohibitions and notification requirements will become effective on publication of regulations by the U.S. Department of the Treasury, but caution should be exercised as certain “excepted transactions” likely will be tied to the August 9 date of the Executive Order establishing the framework.
• Congressional action may impact the final outbound investment regime.

On August 9, 2023, the President issued a widely anticipated executive order ("EO") establishing the framework for a U.S. outbound investment program to address threats to U.S. national security created by certain advancements by the People’s Republic of China, including Hong Kong and Macau (hereinafter, the "PRC"). The EO focuses on semiconductors and microelectronics, quantum information technologies, and artificial intelligence ("AI") (“covered national security technologies and products”).[1] While the EO lays out a framework for the new national security program, it is not self-executing and does not implement any changes. The U.S. Department of the Treasury (“Treasury”) will implement and administer the outbound investment program. As the lead agency, it issued an Advance Notice of Proposed Rulemaking ("ANPRM")[2] on August 9, 2023, concurrent with the issuance of the EO. However, it should be noted that the ANPRM does propose to tie certain exceptions to the restrictions to the date of the EO, notwithstanding the delay in implementation of the program. Furthermore, congressional action on the issue is not unlikely and may result in broader prohibitions and restrictions.

I. Proposed Scope of the Outbound Investment Program

The ANPRM previews Treasury’s intentions regarding implementation and administration of the EO, including the scope of restrictions, the targeted technologies and key definitions. A summary of key details follows.

A. Types of Restrictions

The EO and ANPRM provide for two types of restrictions on investments by U.S. persons in certain sectors in the PRC: (1) prohibitions on certain investments by U.S. persons and (2) notification requirements. The types of transactions contemplated to be either prohibited or subject to a notification requirement (“covered transactions”) are limited to (i) equity or convertible debt financing, (ii) joint ventures and (iii) other investments that result in the creation of new entities that will be engaged or involved in the development or production of covered national security technologies and products. Certain investments are proposed to be exempted from the restrictions, including investments in publicly traded securities and transactions made pursuant to a binding, uncalled capital commitment entered into before the date of the EO.

1. U.S. persons will be prohibited from investing in “covered foreign persons” engaged in specific activities involving “covered national security technologies and products” to prevent tangible and intangible benefits from further exacerbating threats to U.S. national security. As defined above, “covered national security technologies and products” include semiconductors and microelectronics, quantum information technologies, and artificial intelligence. The specific activities of covered foreign persons that are proposed to trigger the prohibitions are as follows:
   1. “Semiconductors and microelectronics” – activities related to the development, production, fabrication or packaging of select integrated circuits, including certain logic, NAND and DRAM integrated circuits, and installation or sale of certain supercomputers enabled by advanced integrated circuits.
   2. “Quantum information technologies” – activities related to covering the development or production of certain quantum computers, components or associated sensing platforms, networks or systems, including items that are used for military, government or mass surveillance end uses.
   3. “Artificial intelligence systems” – activities related to the development of software that incorporates artificial intelligence (“AI”) or is designed to be used exclusively or primarily for military, government or mass surveillance end uses.
2. U.S. persons will be required to notify Treasury when they are engaging in transactions with covered foreign persons engaged in activities related to the covered national security technologies and products that are not prohibited under the program, as follows:
   1. Investments in covered foreign persons engaged in activities involving integrated circuit design, fabrication and packaging.
   2. Investments in covered foreign persons engaged in the development of AI software intended for use, exclusively or primarily, in cybersecurity, robotic systems, location tracking, facial recognition, digital forensic tools, penetration testing tools and surreptitious listening devices.
   3. At this time, there is no proposed notification requirement for investments involving covered foreign persons engaged in activities related to quantum information technologies.

In the ANPRM, Treasury proposes that notice to the department must be provided no later than 30 days following the closing of the covered transaction and that it will be the parties’ responsibility to determine whether a transaction is subject to notification or otherwise permissible.

B. Key Definitions

The EO and ANPRM contain pertinent definitions for the outbound investment program, including definitions of the terms “U.S. person,” “country of concern,” “covered national security technologies and products,” “person of a country of concern” and “covered foreign person.” They are:

• “U.S. person” is proposed to cover any U.S. citizen, lawful permanent resident, entity organized under the laws of the United States or any jurisdiction within the United States, including any foreign branches of any such entity, and any person in the United States.
• “Country of concern” is proposed to cover the PRC, including Hong Kong and Macau, as a country or territory “engaging in a comprehensive, long-term strategy that directs, facilitates, or otherwise supports advancements in sensitive technologies and products that are critical to such country’s military, intelligence, surveillance, or cyber-enabled capabilities to counter United States capabilities in a way that threatens” U.S. national security. Note that additional countries of concern may be added in the future.
• “Covered national security technologies and products” is proposed to cover sensitive technologies and products in the semiconductors and microelectronics, quantum information technologies, and AI industry sectors that are critical to the military capabilities of a country of concern. The EO delegates authority to Treasury to further define and limit the term by reference to certain end uses of these technologies and products. The ANPRM, in turn, tailors the restrictions to specific aspects of these products and technologies and includes proposed relevant definitions. In addition, some of the covered items are referenced according to controls placed on integrated circuits by the Department of Commerce in October 2022.
• “Persons of a country of concern” is proposed to include permanent residents or nationals of a country of concern who are not U.S. citizens or permanent residents, entities incorporated in or with a principal office in a country of concern, governments of a country of concern and their controlled entities, and any entity that is 50 percent or more owned, individually or in the aggregate, directly or indirectly, by such person.
• “Covered foreign person” is proposed to cover any person of a country of concern engaged in (or “known” by a U.S. person to be engaged in) an identified activity with respect to a covered national security technology or product, and any person whose direct or indirect subsidiaries or branches are covered foreign persons that, individually or in the aggregate, comprise more than 50 percent of that person’s consolidated revenue, net income, capital expenditure or operating expenses. As to the knowledge standard, the ANPRM proposes to adopt a standard similar to that found in the Export Administration Regulations.

Other important proposed regulatory provisions include a definition of “excepted transaction” and detailed provisions regarding the content of required notifications.

II. Expected Timeline

Codification of the outbound investment program into regulations will take time. Comments regarding any aspect of the program can be submitted here by Thursday, September 28, 2023, although it is possible that the comment period will be extended. After the ANPRM comment period closes, Treasury, in consultation with the Department of Commerce and other agencies, as well as stakeholders and allies, will draft and publish proposed regulations, either for public comment or in the form of an interim final rule. Accordingly, regulations implementing the outbound investment program likely will not be finalized until 2024. However, caution should be exercised pending implementation of the program because, as currently proposed, transactions occurring after the regulations become effective will not be exempt from the restrictions if they are made pursuant to a binding, uncalled capital commitment made after the date of the EO and other types of binding commitments to engage in future transactions are not proposed “excepted transactions” (although the ANPRM does explicitly request comments on whether other types of investments should fall within the definition).

III. Congressional Action on Outbound Investment Restrictions

The proposed outbound investment program may change based on congressional action.[3] Preliminary remarks by key members of Congress have taken issue with the narrow and limited scope of the proposed program and are concerned that it does not reach as far as anticipated.[4]

The EO and ANPRM come after many months of congressional debate over an outbound investment regime, including debate of the most recent Senate Amendment 931 (SA 931)^[5] to the Fiscal Year 2024 National Defense Authorization Act (NDAA). The NDAA amendment passed the Senate in a vote of 91-6 and would impose a broader regime than the proposed outbound investment program detailed in the EO and ANPRM. Other legislation pending in the House of Representatives would expand outbound investment restrictions to Russia and other foreign adversaries and cover additional technology sectors not mentioned in the EO. It remains to be seen to what extent Congress will have a role in shaping the outbound investment program, but it may drastically alter the contemplated structure set forth in the EO and ANPRM should Congress ultimately find common ground on this bipartisan issue.

IV. Conclusion

Combating the threats to U.S. national security emanating from the PRC remains a priority for the U.S. government. The outbound investment program is but one apparatus of a holistic governmentwide effort to address growing national security threats. The executive branch and Congress are working on proposed programs. BakerHostetler will continue to closely monitor the developments in this area and keep you updated. We encourage interested persons to submit comments to the ANPRM on various aspects of the program, including the scope of the prohibitions, clarification of the specific technologies and products involved, and reporting requirements. While the program is still in development, according to the ANPRM, Treasury may solicit information from certain persons, so stakeholders should be familiar with the EO and the ANPRM and be prepared to participate in the process.

[1] Concurrent with the issuance of the EO, the President sent an accompanying letter to Congress explaining its overall strategy regarding this new national security program.

[2] Treasury also has created a webpage that includes a brief fact sheet and overview of the program.

[3] Similarly, Treasury has noted that the ANPRM also does not necessarily identify the full scope of potential approaches that it will take in promulgating regulations to implement the EO.

[4] See Rep. Michael McCaul’s press release (criticizing the administration for “pursuing half measures”) and Sen. Bob Casey’s press release (stating that “we need to pass strong bipartisan legislation to protect our national and economic security for decades to come”).

[5] SA 931 would require, among other things, pre-investment notifications by U.S. persons of their investments in a wide array of industries not currently subject to the EO restrictions. Among those industry sectors not included in the EO but included in SA 931 and the National Critical Capabilities Defense Act (2023) introduced in the House of Representatives are critical minerals, hypersonics, satellite-based communications, large-capacity batteries, pharmaceutical ingredients and automobile manufacturing. In addition, unlike the EO, SA 931 would require notice requirements on technology “know how” inputs that go beyond financial investments, such as a U.S. person providing financial services, marketing services, maintenance or assembly functions involving a covered critical technology sector (e.g., how to set up and run a manufacturing facility). The House legislation is not identical to SA 931, although it does have a broader scope in terms of industries subject to investment restrictions. The House and Senate will discuss and attempt to resolve this discrepancy in the upcoming Conference Committee, and adoption of the EO may influence the Conference Committee and congressional decisions on the wording of the final legislation.

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