The second annual report on the functioning of the UK’s investment screening regime has been published. We highlight the key points.

Key insights

• Between 1 April 2022 and 31 March 2023, the UK government received a total of 866 notifications under the National Security and Investment Act
  • 65 deals were called-in for closer review, of which ten had been not been pro-actively notified
  • The government intervened in only a small number of deals (15), subjecting ten to conditions and blocking the acquisition or forcing the entire sale of targets in a further five
  • 93% of deals notified were cleared within 30 working days – though those subject to closer scrutiny can expect the process to take, on average, a further 25 working days and where conditions are imposed, a further 81 working days
• Investment by Chinese affiliated entities attracted the most scrutiny and highest levels of intervention, with UK and the U.S.-related investments close behind
• The government is of the view that the regime is working well and represents a “light-touch, proportionate review that offers investors the certainty that they need to do business, while crucially protecting the UK’s national security in an increasingly volatile world”

Chinese investment attracts most scrutiny

The UK government makes clear that it thinks the investment screening regime introduced by the National Security and Investment Act 2021 (NSIA) is working well. In the foreword, Deputy Prime Minister Oliver Dowden notes that the government is succeeding in its “commitment to transparency, predictability and the rule of law” in providing a “light-touch, proportionate regime” for investors, whilst also protecting the UK’s national security.

As in previous communications, the report emphasises that the NSIA is “country agnostic” and that for the vast majority of investment activity in the UK there is either no interaction with the regime or investment is cleared quickly (93% within 30 working days). Though note that the timeline for investment subject to closer scrutiny will take longer – called-in deals take, on average, a further 25 working days and where conditions are imposed, a further 81 working days.

Investment from Chinese affiliated entities received the highest degree of scrutiny. 42% of deals called in for in-depth review related to Chinese investors despite representing less than 5% of total notifications. Eight of the 15 deals subject to conditions were linked to China. This is unsurprising. Dowden is on record saying that China poses the greatest threat to UK economic security.

UK and U.S. investment received the second and third highest levels of scrutiny. Four deals subjected to conditions involved UK investors and three involved U.S. investors.

In our experience, the concerns around Chinese investment are likely to focus primarily on acquirer risk, in addition to target risk. For UK and U.S. investments, however, the main concern is likely the sensitivity of the target assets and the need, for example, to retain important assets or capabilities in the UK.

As the geopolitical landscape evolves, it will be interesting to see whether the trend of scrutiny of Chinese investment deals continues.

Volume of notifications less than anticipated

Between 1 April 2022 and 31 March 2023, the Investment Screening Unit (ISU) received 866 notifications. This is significantly less than estimated in the government’s initial impact assessment, which envisaged between 1,000 and 1,830 notifications each year. While a drop in M&A volumes is likely a contributing factor, this could also indicate that parties are taking a less conservative approach to notifying the government than was initially expected.

Of the 866 notifications received, the vast majority (671, or 77%) were mandatory notifications. Voluntary notifications made up 21% of the total (180) and there were 15 retrospective validation applications (ie to validate missed mandatory notifications).

Compared to the first annual report’s split of 86% mandatory and 11% voluntary notifications, the latest figures show a sizeable increase in the number of voluntary filings made. This likely reflects the uncertainty that still surrounds the regime, with parties not always able to clearly determine whether an acquisition is subject to mandatory notification and wanting to seek the certainty of a decision by the ISU.

The shift may also be indicative of the ISU becoming increasingly strict about whether parties submit the correct notification form. Around 5% of notifications were rejected, with use of the wrong form being the most common reason for rejection (23 out of the 43 notifications rejected).

All first stage reviews completed within 30 working days

In good news on timing, all notifications were either called in for further review or cleared within the statutory time limit of 30 working days after being accepted.

Notifications were generally accepted reasonably quickly, with both mandatory and voluntary notifications being accepted on average within four working days. However, it took the ISU a little longer to reject notifications – an average of ten working days for mandatory notifications and seven working days for voluntary filings.

Call-in notices: ISU actively monitors investments

766 mandatory and voluntary notifications and retrospective validations were fully reviewed within the reporting period. Of these, only 55 (7%) were called-in by the government for further assessment.

Interestingly, the government called in ten deals that were not notified to it at all. This is evidence that the regime is certainly not passive and, as we have experienced, the ISU is actively monitoring investment activity for risks to national security.

Again, these call-in numbers are lower than those envisaged in the impact assessment – it estimated that the ISU would issue 70-95 call-in notices each year.

As noted above, decisions to call in acquisitions were taken within the 30 working day time limit. Once called in, however, many of the reviews took longer than the initial 30 working day assessment period. Of the 65 call-ins, the government used the additional 45 working day period in 29 cases. It extended the assessment period further (with the agreement of the acquirer) in its review of ten acquisitions.

Intervention covered a wide range of sectors

Mandatory notifications submitted tended to relate to five main areas of the economy – defence, critical suppliers to government, data infrastructure, military and dual use, and artificial intelligence.

Defence was by some margin the main area of focus, making up 47% of all mandatory notifications. This was more than twice the proportion of notifications than the next largest area of the economy, although it should be noted that notifications can relate to more than one area.

Voluntary notifications focused on advanced materials, defence, military and dual use, energy, and academic research and development in higher education. The report shows that voluntary notifications often relate to targets whose activity may fall within the same broad area as the 17 mandatory sectors, but where the transaction does not satisfy the specific criteria for a mandatory notification.

Government intervened in 15 deals

Even when a deal is called in, clearance is the most likely outcome. The government cleared 88% of deals subject to a call-in notice (57 final notifications out of 65).

The government intervened in 15 cases in total (one was later revoked). Five deals were prohibited altogether or involved a forced divestment. The remaining ten transactions were subject to conditions – though the terms of these conditions are often only provided in very summary form.

Intervention did not focus on deals in any one particular sector. Four final orders related to targets carrying on activities in the military and dual use and the communications areas of the economy, and three others concerned energy, defence, computing hardware and advanced materials.

No penalties or criminal prosecutions

The fact that completing a notifiable transactions without government approval can lead to criminal prosecution and heavy fines is a key incentive for compliance with the regime.

Despite receiving 15 notifications for retrospective application (and accepting 12), the report confirms that no penalties were issued nor criminal prosecutions concluded in the period. As the regime continues to mature, it remains to be seen if the government will take a tougher approach to missed filings in future.

Room for improvement

The government is clear that it is keen “to keep communicating with businesses and to look at where/how the system can be improve”.

This is welcome news and fits with our experience. We are involved in a number of working groups and engage with the government frequently on the operation of the NSIA.

Underlying issues with the regime do however remain. These include unpredictability as to the scope of the 17 mandatory sectors and a lack of clarity around reasons for national security concerns being raised. A particular focus for the government could be providing more clarity on remedies, for instance, terms dealing with practicalities of implementation and monitoring.