On August 9, President Biden issued an executive order (E.O.) directing the U.S. Department of the Treasury (Treasury), in consultation with the U.S. Department of Commerce and other U.S. agencies, to adopt regulations that will require U.S. persons to notify Treasury of—and in some cases prohibit—certain U.S. investments in Chinese companies involved in the development of advanced semiconductors and microelectronics, quantum computing and information technologies, and certain artificial intelligence systems. The E.O. follows other moves by the U.S. government to restrict the development of advanced technologies in China, including restrictions on exports of items that support the advanced chip and supercomputing industry in China, and limitations on the use of CHIPS Act funding for semiconductor investments in China.

Treasury will issue regulations implementing the E.O. following a public comment period, which Treasury initiated today by issuing an Advance Notice of Proposed Rulemaking (ANPRM). The ANPRM solicits comments from industry on the potential scope of the new regulations and provides additional information about Treasury’s views on the intended scope and form of the forthcoming regulations.

The E.O. and ANPRM mark the development of a new outbound investment regulatory regime by the United States. While narrowly targeted to certain advanced technologies today, once adopted, this framework could be deployed to address other sectors deemed to be critical to U.S. national security and to investments in other countries. U.S. investors and others in the technology industry should carefully review the E.O. and ANPRM to understand the potential scope of the new regulatory regime and, if appropriate, provide feedback on Treasury’s intended framework, as outlined in the ANPRM.

The E.O.

President Biden issued the new E.O. because of the national security threats presented by the rapid development of semiconductor, quantum computing and artificial intelligence technologies by Chinese companies and their potential contribution to China’s military, intelligence, surveillance and cyber-enabled capabilities. The new outbound investment regulatory regime will be aimed at limiting the ability of Chinese companies engaged in the development of these technologies to access U.S. investments and the intangible benefits that accompany such investments, such as managerial assistance, talent acquisition, market access and additional financing.

The E.O. directs Treasury to adopt regulations that require U.S. persons to notify the U.S. government of certain investments involving covered foreign persons (notifiable transactions) and that involve “covered national security technologies and products” that may threaten U.S. national security. The E.O. also directs Treasury to prohibit U.S. persons from engaging in investments involving those items that pose a “particularly acute” threat to national security. The E.O. defines “covered national security technologies and products” to be “technologies and products in the semiconductors and microelectronics, quantum information technologies, and artificial intelligence sectors that are critical for the military, intelligence, surveillance, or cyber-enabled capabilities of a country of concern.”

The E.O. provides Treasury with the authority to investigate subject investments; to nullify, void or otherwise compel divestment of prohibited transactions; and to refer criminal violations to the Department of Justice.

The ANPRM

The ANPRM provides insight into how Treasury intends to structure the regulations required by the new E.O. The ANPRM also requests comments on a number of aspects of the regulatory regime, which are due by September 27, 45 days after the ANPRM is published in the Federal Register on August 14, 2023.

A summary of Treasury’s proposed outbound investment regulations for comment follows:

• U.S. persons: Treasury intends to adopt the definition of “U.S. person” provided for in the E.O.—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.” Treasury also expects to adopt regulations that prohibit U.S. persons from knowingly directing impermissible investments, including ordering, deciding, approving or otherwise causing a prohibited transaction.
• Foreign subsidiaries: The E.O. authorizes Treasury to adopt regulations requiring U.S. persons to prohibit and prevent their foreign controlled entities from engaging in a transaction that would be prohibited if engaged in directly by a U.S. person. Treasury may also require U.S. parent companies to submit notifications regarding transactions conducted by their foreign controlled entities.
• Covered foreign persons: Treasury intends the restrictions and notification requirements to apply to investments in “covered foreign persons,” which Treasury expects to define as a “person of a country of concern” engaged in specified activities related to certain advanced technologies and products. A person of a country of concern is proposed to be defined as:
  • A citizen or national of a country of concern that is not a U.S. citizen or permanent resident;
  • An entity with a principal place of business in a country of concern or organized under the laws of a country of concern;
  • The government of a country of concern, including owned or controlled entities; and
  • Entities owned 50% or more, directly or indirectly, by the foregoing.

Parent companies would be subject to the regulations if their subsidiaries or branches are engaged in described activities and those subsidiaries or branches account for more than 50% of the parent company’s revenue, net income, capital expenditure or operating expenses.

• Country of concern: Currently only China is currently listed as a country of concern, including Hong Kong and Macau.
• Types of covered transactions: Treasury expects that certain equity interests (including mergers and acquisitions, private equity and venture capital), greenfield investments, joint ventures formed with a covered foreign person or that could result in the establishment of a covered foreign person, and certain debt financing transactions that are convertible to equity would be subject to the regulations. Treasury is considering subjecting indirect transactions to the regulations, in order to limit attempts to evade the regulations through the use of intermediary entities that are not U.S. persons.
• Excluded investments and other transactions: Treasury expects to exclude or carve out certain passive investments, such as those in publicly traded securities, index funds, mutual funds, exchange-traded funds, certain limited partner arrangements, certain buyouts of country of concern companies, U.S. intracompany transfers and certain transactions occurring before the issuance of the E.O. More generally, Treasury does not intend for the following activities to constitute a covered transaction under most circumstances: university-to-university research collaborations; contractual arrangements or the procurement of material inputs for any of the covered national security technologies or products (such as raw materials); intellectual property licensing arrangements; bank lending; the processing, clearing or sending of payments by a bank; underwriting services; debt rating services; prime brokerage; global custody; equity research or analysis; or other services secondary to a transaction.
• Prohibited investments: Treasury is considering imposing a ban on U.S. investments in Chinese entities that are engaged in certain activities related to the following advanced technology and products (the appendix to this advisory contains more details from the ANPRM on potentially subject activities and technologies):
  • Semiconductors and microelectronics:
    • The development of electronic design automation software or semiconductor manufacturing equipment;
    • The design, fabrication or packaging of certain advanced integrated circuits; or
    • The installation or sale of supercomputers.
  • Quantum computing and information technology:
    • Production of quantum computers and certain components;
    • The development of certain quantum sensors; or
    • The development of quantum networking and quantum communication systems.
  • Artificial intelligence (AI) systems:
    • The development of software that incorporates an AI system and is designed to be exclusively used for military, government intelligence or mass surveillance end uses.

Treasury is considering an exemption from the prohibition for certain transactions in exceptional circumstances where the prohibited transaction should be permitted because it either (i) provides an extraordinary benefit to U.S. national security; or (ii) provides an extraordinary benefit to the U.S. national interest in a way that overwhelmingly outweighs relevant U.S. national security concerns.

• Notification requirements: Treasury is considering imposing a notification requirement on U.S. investments in Chinese entities engaged in the following activities:
  • Semiconductors and microelectronics: The design, fabrication and packaging of less advanced integrated circuits.
  • AI: The development of software that incorporates an AI system and is designed to be exclusively used for cybersecurity applications, digital forensics tools and penetration testing tools; the control of robotic systems; surreptitious listening devices that can intercept live conversations without the consent of the parties involved; non-cooperative location tracking; or facial recognition.
• Notification Timing: Treasury proposes that notification reports be submitted via an online portal within 30 days following the close of a covered transaction.
• Penalties: Treasury may impose civil penalties up to the maximum authorized under the International Emergency Economic Powers Act for material misstatements or omissions in filings, engaging in a prohibited transaction or failing to timely file required notifications.
• Effective date: Treasury does not expect to prohibit transactions pre-dating the issuance of regulations, but may request information about investments that occur after the issuance of today’s E.O.
• One-year review: Treasury will review issued regulations within one year of their issuance to determine whether adjustments to the program are warranted.

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Appendix: Proposed activities that would trigger investment prohibition and notification requirements

Semiconductors and microelectronics

• Activities triggering investment prohibition

Technologies That Enable Advanced Integrated Circuits

• Software for Electronic Design Automation: The development or prod2. uction of electronic design automation software designed to be exclusively used for integrated circuit design.
• Integrated Circuit Manufacturing Equipment: The development or production of front-end semiconductor fabrication equipment designed to be exclusively used for the volume fabrication of integrated circuits.

Advanced Integrated Circuit Design and Production

• Advanced Integrated Circuit Design: The design of integrated circuits that exceed the thresholds in Export Control Classification Number (ECCN) 3A090 in supplement No. 1 to 15 C.F.R. part 774 of the Export Administration Regulations (EAR), or integrated circuits designed for operation at or below 4.5 Kelvin.
• Advanced Integrated Circuit Fabrication: The fabrication of integrated circuits that meet any of the following criteria: (i) logic integrated circuits using a nonplanar transistor architecture or with a technology node of 16/14 nanometers or less, including but not limited to fully depleted silicon-on-insulator (FDSOI) integrated circuits; (ii) NOT-AND (NAND) memory integrated circuits with 128 layers or more; (iii) dynamic random-access memory (DRAM) integrated circuits using a technology node of 18 nanometer half-pitch or less; (iv) integrated circuits manufactured from a gallium-based compound semiconductor; (v) integrated circuits using graphene transistors or carbon nanotubes; or (vi) integrated circuits designed for operation at or below 4.5 Kelvin.
  • “Fabrication of integrated circuits” is defined as the process of forming devices such as transistors, poly capacitors, non-metal resistors and diodes on a wafer of semiconductor material.
• Advanced Integrated Circuit Packaging: The packaging of integrated circuits that support the three-dimensional integration of integrated circuits, using silicon vias or through mold vias.
  • “Packaging of integrated circuits” is defined as the assembly of various components, such as the integrated circuit die, lead frames, interconnects and substrate materials, to form a complete package that safeguards the semiconductor device and provides electrical connections between different parts of the die.

Supercomputers

• Supercomputers: The installation or sale to third-party customers of a supercomputer, enabled by advanced integrated circuits, that can provide a theoretical compute capacity of 100 or more double-precision (64-bit) petaflops or 200 or more single-precision (32-bit) petaflops of processing power within a 41,600 cubic foot or smaller envelope.

• Activities triggering investment notification
• Integrated Circuit Design: The design of integrated circuits for which transactions involving U.S. persons are not otherwise prohibited.
• Integrated Circuit Fabrication: The fabrication of integrated circuits for which transactions involving U.S. persons are not otherwise prohibited.
• Integrated Circuit Packaging: The packaging of integrated circuits for which transactions involving U.S. persons are not otherwise prohibited.

Quantum Computers and Information Technology

• Activities triggering investment prohibition
• Quantum Computers and Components: The production of a quantum computer, dilution refrigerator or two-stage pulse tube cryocooler.
  • “Quantum computer” is defined as a computer that performs computations that harness the collective properties of quantum states, such as superposition, interference or entanglement.
• Quantum Sensors: The development of a quantum sensing platform designed to be exclusively used for military end uses, government intelligence or mass surveillance end uses.
• Quantum Networking and Quantum Communication Systems: The development of a quantum network or quantum communication system designed to be exclusively used for secure communications, such as quantum key distribution.

• Activities triggering investment notification
• None currently proposed.

AI

• Activities triggering investment prohibition
• The development of software that incorporates an AI system and is designed to be exclusively used for military, government intelligence or mass surveillance end uses.
  • AI systems may be defined as an engineered or machine-based system that can, for a given set of objectives, generate outputs such as predictions, recommendations or decisions influencing real or virtual environments. AI systems are designed to operate with varying levels of autonomy.

• Activities triggering investment notification
• The development of software that incorporates an AI system and is designed to be exclusively used for cybersecurity applications, digital forensics tools and penetration testing tools; the control of robotic systems; surreptitious listening devices that can intercept live conversations without the consent of the parties involved; non-cooperative location tracking (including international mobile subscriber identity (IMSI) catchers and automatic license plate readers); or facial recognition.

*Trade and national security senior paralegal Kurt Vinson also contributed to the preparation of this alert.