Major reforms to Australia's foreign investment review framework – exposure draft legislation released

What you need to know

• On 5 June 2020, the Treasurer announced sweeping changes to Australia's foreign investment framework, intended in particular to address existing and emerging national security risks, strengthen compliance and enforcement powers and streamline investment in non-sensitive businesses.
• The changes are expected to become effective on 1 January 2021.
• Once implemented, these changes will represent the most comprehensive reform of the Foreign Acquisitions and Takeovers Act 1975 (Cth) (FIRB Act) since its introduction.
• The key elements of the proposed reforms are summarised in our Corporate Alert of 5 June 2020, which can be accessed here. In summary, those key elements are: 
  • A new national security test for foreign investors, who will need approval to start or acquire a direct interest in a sensitive "national security business", regardless of the value of the investment.
  • A "call in" power for the Treasurer to review foreign investment in a "sensitive national security business" that raises national security risks but would otherwise fall outside of review requirements.
  • A national security "last resort" power for the Treasurer to impose or vary conditions or, as a last resort, order disposal on national security grounds in very limited circumstances.
  • Enhanced compliance measures and enforcement powers available to the Government, including increased penalties.
  • Reduced FIRB approval requirements for foreign private equity, institutional fund and similar investors with passive foreign government investors, for investment into non-sensitive businesses.

• On 31 July 2020, the Australian government released the exposure draft legislation for certain of its proposed reforms and commenced consultation on them. The consultation process will run for 4 weeks and invites public submissions on the draft legislation before 31 August 2020.
• The exposure draft legislation that has been released includes the Foreign Investment Reform (Protecting Australia’s National Security) Bill 2020 (Cth) (the FIRB Reform Bill), which will amend the FIRB Act to provide the framework for the new regime. 
• The Government's proposed amendments to the Foreign Acquisitions and Takeovers Regulation 2015 (Cth) (FIRB Regulation), which provides much of the detail underpinning the foreign investment review framework, will be released in two parts - the first part, which has now been released, deals primarily with defining what will constitute a "national security business". 
• The second part will be released separately in September and will include the remainder of the regulatory changes, including the time limit to apply to the Government's "call in" power, the proposed streamlining measures (including investor exemption certificates) for investors with passive foreign government investment and other more technical amendments.
• The exposure draft legislation that has been released so far is in line with our expectations on the proposed reforms described in our Corporate Alert of 5 June 2020.
• Of key note, the released exposure draft legislation sets out the Government's proposed framework for its new national security test (including defining the categories of "national security businesses" that will be subject to it) and for the associated new "call in" and "last resort" powers that will give the Treasurer extensive authority to review and make orders over a wide range of foreign investment on national security grounds. 

Key reforms addressed in released exposure draft legislation

The released exposure draft legislation provides for much of the statutory framework that will give effect to the Government's proposed foreign investment review reforms. Some of the detail of those reforms will, however, only be provided in the second tranche of exposure draft legislation to be released in September.

The exposure draft legislation released so far is in line with our expectations on what the relevant reforms will provide for, as described in our Corporate Alert of 5 June 2020.

In particular, the exposure draft legislation that has been released deals with the following aspects of the proposed reforms referred to in our previous Corporate Alert: 

• the new national security test, including:
  • the definition of a "national security business", foreign investment in which will be subject to the national security test; 
  • the framework for mandatory notification of investments in sensitive national security businesses and the ability to "call in" investments for review; and
  • the Government's powers to impose conditions on or block such investment and the "last resort" power to require divestment of a realised investment where national security risks emerge.
• the new monitoring and investigative powers to be granted to the Government to monitor and investigate investor compliance with the reformed FIRB Act and FIRB Regulations;
• the additional regulatory powers, including the issuing of directions and infringement notices and the imposition of increased civil and criminal penalties, that the Government will be granted to enforce the FIRB Act and FIRB Regulations;
• various amendments relating to the integrity of the existing foreign investment review framework, including:
  
  • requiring further FIRB approval for creep acquisitions and proportional increases in interests beyond those previously approved; and.
  • extending tracing rules to unincorporated limited partnerships; and

• certain new information collation and sharing mechanisms, including arrangements for a new Register of Foreign Ownership and increased ability to share information across Government agencies and with international counterparts. 

The consultation on the released exposure draft legislation will run for 4 weeks and the Government invites public submissions on the proposed amendments to the FIRB Act and the FIRB Regulations reflected in the released legislation before 31 August 2020.

The remainder of the Government's proposed reforms will be set out in the second tranche to be released in September. In particular, the Government has indicated that the second tranche will deal with:

• the time limit applicable to the Government's "call in" power;
• the process intended to streamline the review and approval of investments by foreign private equity, institutional fund and similar investors with passive foreign government investors; 
• the detailed regulations applicable to a number of the framework changes provided for in the first tranche exposure draft legislation, and
• various other technical and consequential amendments.

Key points to note in released exposure draft legislation

We have highlighted below certain key aspects of the proposed reforms dealt with in the released exposure draft legislation, focusing on the new national security test and the associated "call in" and "last resort" powers to be granted to the Treasurer.

Notifiable National Security Actions

The FIRB Bill creates a new category of actions, called "notifiable national security actions" that will be required to be notified to the Treasurer for review, regardless of the value of the investment or whether those actions would be "significant actions" or "notifiable actions" under the existing foreign investment review framework.

A "notifiable national security action" involves a foreign person starting, or acquiring a direct interest in, a "national security business" (the definition of which is discussed further below) or an interest in national security land (which, broadly, is land that is defence premises, land or in which a national intelligence agency has an interest and land which the Treasurer declares to be national security land).

In relation to acquisitions of interests in a "national security business", a "notifiable national security action" requires satisfaction of the existing threshold for a "direct interest" – i.e. the foreign person must be acquiring either an interest of 10% or more in the "national security business" (or 5% or more, if the foreign person has a legal arrangement between its business and the target business) or any interest that provides it with the ability to influence or participate in the central management, control of the business or to influence, participate in or determine its policies.

Given the wide definition applied to characterise what will be a "national security business" for these purposes and the various powers of the Treasurer in relation to foreign investment in them, we expect to see a material increase in foreign investment being notified to the Treasurer for review, once the Government's reforms are implemented.

National Security Business

The proposed amendments to the FIRB Regulation set out the definition of a "national security business" in respect of which the new national security test will apply.

They require two elements to be satisfied

• the business must be carried on wholly or partly in Australia; and
• the business must fall within one of the categories of businesses that are national security businesses as specified in the legislative amendments.

Broadly, the legislative amendments provide that a business will constitute a national security business where it falls into one of the following categories:

• (critical infrastructure) it is a responsible entity for an asset or a direct interest holder in relation to a critical infrastructure asset for the purposes of the Security of Critical Infrastructure Act 2018 (Cth); or
• (telecommunications) it is a carrier or carriage service provider to which the Telecommunications Act 1997 (Cth) applies; or
• (critical military-use goods or technology) it either develops or manufactures critical goods, supplies critical goods, or develops, manufactures or supplies critical technology, that are intended for military end-use by Australian defence and intelligence personnel in activities relating to Australia’s national security or another country's defence force that may affect Australia’s national security; 
• (critical defence services) it provides, or intends to provide, critical services to Australian defence and intelligence personnel in activities relating to Australia’s national security or another country's defence force in activities that may affect Australia’s national security; or
• (defence information) it stores or has access to information that has a security classification or stores, has access to or collects personal information of Australian defence and intelligence personnel which, if accessed or disclosed, could compromise Australia’s national security.

As such, the national security test focuses on business that are concerned with critical Australian infrastructure assets or the provision of telecommunications services or that are involved in arrangements with the Australian defence, including its supply chains and management of its sensitive information. 

Each of these categories (in particular, those relating to goods and services for defence force use) are scoped broadly, and will therefore afford the Government a fairly extensive ambit for review of foreign investment on national security grounds across a range of businesses under the national security test.

Call in power

In addition to the requirement that "notifiable national security actions" be subject to mandatory review, the Treasurer will also have a new power to "call in" for review various other investment actions that would not otherwise need to be notified for review under the FIRB Act, regardless of their size or value, if the Treasurer considers that they may pose a national security concern. 

The time limit by which the Treasurer must "call in" an investment for review is not specified in the released exposure draft legislation, but will be included in the second tranche to be released in September.

The legislative changes provide for an additional limitation to the "call in" power, preventing the Treasurer from calling in an investment if the foreign investor has received a no objection notification or has an exemption certificate for its investment. 

The Explanatory Memorandum for the released exposure draft legislation clarifies that the Government expects that the overwhelming majority of investments will not be called in for review. 

However, the amendments do confer on the Treasurer a broad discretion and power to review investments that would otherwise not be expected to require FIRB approval, which we expect will impact on transaction certainty for foreign investors and may lead a number of foreign investors to voluntarily notifying proposed investments in order to regain some of that certainty.

This will have associated time and cost implications for foreign investors in making an investment in businesses where they would otherwise not have sought FIRB approval 

Last Resort Power

The FIRB Bill establishes a new "last resort" power for the Treasurer to undertake a final review on national security grounds of foreign investment that has already received a no objection notification or has the benefit of an exemption certificate, in the following circumstances:

• the foreign investor made a false or misleading statement in the original review process, or omitted information which made a statement misleading;
• the foreign investor's business has materially changed since it received the no objection notification or exemption certificate; or
• market circumstances have materially changed since that time.

The FIRB Bill contains certain checks and balances on the Treasurer acting under the "last resort" power, including requiring that the Treasurer, in assessing whether the investment poses a national security risk, considers relevant advice from the national intelligence community, takes reasonable steps to negotiate in good faith with the foreign investor and is satisfied that the use of other options under the existing regulatory systems of the Commonwealth, States and Territories would not adequately reduce the national security risk.

If the Treasurer is satisfied that a national security risk arises in connection with such an investment, the Treasurer may exercise its "last resort" power, by giving orders directing persons to act to reduce the national security risk. 

The orders that the Treasurer will be empowered to make under this "last resort" power are broad and, among other things, will generally permit the Treasurer to impose conditions or prohibit the whole or a part of the investment. 

The Treasurer also has the power, in respect of foreign investment that has already been made, to order the foreign investor to undo the whole or part of their investment or to require the foreign investor to divest of such investment within a specified time.

This is likely to have a material impact on foreign investor confidence in the certainty of their investments, given the wide ambit of the "last resort power" to affect approved investments and, in particular, consummated investments.

Other key aspects

While we have not summarised them in this article, the FIRB Bill also deals with a number of procedural reforms to Australia's foreign investment review framework, including the grant of standard monitoring and investigative powers to the Treasurer to ensure investor compliance with the framework and the Treasurer's additional regulatory and enforcement powers, including the new civil and criminal penalties that the Treasurer may impose for breach of that framework.

We expect to provide a consolidated summary of the proposed reforms when the further exposure draft legislation is released in September.

Authors: Bruce Macdonald, Partner and Michael Dearden, Counsel.