President Biden Issues Executive Order Amending Restrictions on Chinese Military and Surveillance Companies

Wilson Sonsini Goodrich & Rosati
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Wilson Sonsini Goodrich & Rosati

On June 3, 2021, President Biden signed Executive Order 14032 (Addressing the Threat from Securities Investments That Finance Certain Companies of the People's Republic of China), modifying the prohibitions placed by the Trump administration Executive Order 13959 targeting Chinese companies supporting the People's Republic of China (PRC) military. The new Executive Order reaffirms that the U.S. government intends to maintain investment restrictions on a number of well-known Chinese companies but introduces a new focus on companies operating in the defense and surveillance technology sectors of the economy and pushes back the start date for these investment prohibitions to take effect.

This Executive Order continues to restrict U.S. persons from trading in the securities of listed entities, even if the conduct occurs entirely outside of the United States. More importantly, the Executive Order modifies the criteria for inclusion on the list of Chinese military companies. Additionally, many of the entities included on this list of Chinese military companies are already listed on other restricted party lists including the Commerce Department's Bureau of Industry and Security (BIS) Entity List. For that reason, the restrictions on many of these listed entities goes beyond the security-related restrictions identified here.

Overview of Investment Prohibitions

The new Executive Order maintains the same investment prohibitions introduced previously in Executive Order 13959. Specifically, it restricts the purchase or sale of any publicly traded securities of any listed entity or any trade of a derivative of such securities. This prohibition takes effect 60 days after issuance of the Executive Order on August 2, 2021. However, persons who are currently shareholders of listed entities are permitted a full year to divest themselves of such securities through June 3, 2022. Note that because the new Executive Order revokes and supersedes Executive Order 13959, the prohibitions on investments that had already begun to take effect under the prior Order have been lifted. Accordingly, no investment prohibitions take effect until August 2, 2021.

Changes to the List of Sanctioned Entities

The new Non-SDN Chinese Military-Industrial Complex Companies list (CMIC list) contained within the Annex of the new Executive Order includes 59 entities and fully replaces the Chinese Communist Military Companies list (CCMC list) introduced in Executive Order 13959. The new CMIC list carries over most of the 44 entities included in the CCMC list—such as China Mobile Communications Group Co., Ltd.; China Telecommunications Corporation; Huawei Technologies Co., Ltd. (Huawei); and Semiconductor Manufacturing International Corporation (SMIC)—adds 28 additional companies and removes restrictions on 19 others.

Importantly, some of the entities included on the CMIC list are sanctioned under other programs such as those administered by BIS, including Huawei and SMIC. Inclusion on the CMIC list does not affect the applicability of other such sanctions programs, some of which we have written about previously here and here.

Notably, Xiaomi Corporation and Luokung Technology Corporation—two entities that filed suit in the U.S. District Court in D.C. challenging their inclusion on the previous CCMC list—were among the 19 removed. Other entities removed from the new CMIC list include a number of primarily chemical, energy, and engineering companies, such as China Three Gorges Corporation and Sinochem Group. Executive Order 14032 also offers additional criteria to determine which entities will be subject to future designation on the CMIC list, indicating that the Biden administration may be actively considering adding more companies to the list.

We expect that the Biden Administration would provide a grace period if such changes were to occur, however, we encourage U.S. persons to screen their transactions with Chinese companies periodically to ensure their transaction is not with a CMIC-designated entity.

Clear-Cut Criteria for Inclusion on the List

The Executive Order creates a new substantive test for inclusion in the CMIC list. The Secretary of the Treasury is authorized to add additional entities to the list who 1) "operate or have operated in the defense and related materiel sector or the surveillance technology sector of the economy of the PRC" or 2) own, control, or indirectly or directly are owned or controlled by such a company. The investment prohibition extends to such subsequently added entities 60 days after designation. Similarly, the divestment provision applies 365 days after such inclusion in the list.

The rationale behind the prohibition is to combat the development and use of Chinese surveillance technology within and outside China to "facilitate repression or serious human rights abuse," including for surveillance of religious or ethnic minorities. Chinese companies involved in these activities are at an increased risk of becoming a listed entity. The publication of this new substantive test gives listed companies more transparency into the reasoning for Treasury's inclusions and delineates a basis for seeking removal from the list.

Finally, while the Defense and Treasury Departments previously worked in tandem to select entities for inclusion on the list, now the Secretary of the Treasury is primarily responsible for such determinations.

What This Means for U.S. Companies

In connection with the publication of Executive Order 14032, Office of Foreign Assets Control (OFAC) published some helpful guidance through FAQs to clarify how it expects to use this discretion:

Guidance on Prohibited Activities:

  • U.S. persons are prohibited from purchasing or selling publicly traded securities in the listed entities or trading derivatives of such securities. It is important to note that U.S. persons are generally not prohibited from engaging in transactions with CMIC-listed entities unrelated to the entity's securities, including the purchase or sale of goods and services from such entities or their foreign subsidiaries.
  • Further, OFAC's FAQs clarify that U.S. persons are not prohibited from providing investment advisory, investment management, or related services to a foreign person, provided that the underlying purchase or sale does not violate Executive Order 14032. Accordingly, U.S. persons employed by foreign entities are generally not prohibited from being involved in purchases or sales of covered securities on behalf of their employer.

Guidance on Who the Prohibitions Apply to:

  • Like many of OFAC's programs, the new Executive Order continues to apply to "U.S. persons," which includes U.S. citizens, permanent residents, individuals or entities in the United States, and entities organized under the laws of the United States (including foreign branches) but does not include subsidiaries of U.S. entities.
  • The prohibitions for CMIC-listed entities only attach to entities whose names exactly match those listed.
  • OFAC also explicitly noted that the "50 percent rule" does not apply to entities included on the CMIC list. Therefore, subsidiaries, related parties, and joint ventures of CMIC-listed entities are not subject to these restrictions unless they are also included on the CMIC list.

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