NSIA risks on banking transactions: an update

The National Security and Investment Act 2021 (NSIA) came into force at the beginning of this year, containing sweeping powers for the Government to block and unwind transactions which pose a threat to national security.

NSIA caused concern amongst lenders and their lawyers due to a lack of clarity about how those powers might be applied in practice. Nine months on, confusion still abounds in the market about how NSIA can affect banking transactions. In this article we seek to address some of the common misconceptions and provide some clarity on some of the less obvious aspects of transactions that may be caught by NSIA.

NSIA – a recap

There are two main tools under NSIA which could impact upon banking transactions.

1. The mandatory notification requirement

• A person proposing to gain “control” (within the meaning of s8(2), 8(5) or 8(6) NSIA) of a “qualifying entity” (usually either a UK company or an overseas company carrying on activities in or supplying goods and services to the UK) which carries on certain activities in one or more of 17 specified sectors, must notify and receive clearance from the Secretary of State prior to making that acquisition.
• The 17 sectors in question are advanced materials, critical suppliers to Government, military and dual use technologies, advanced robotics, critical suppliers to the emergency services, quantum technologies, artificial intelligence, cryptographic authentication, satellite and space technologies, civil nuclear, data infrastructure, synthetic biology, communications, defence, transport, computing hardware and energy.
• The mandatory notification requirement came into effect on 4 January 2022. Failure to comply with the mandatory notification requirement will render the acquisition void. In addition, the parties may be subject to civil and criminal penalties.

2. The call-in power

• The Secretary of State may issue a call-in notice under NSIA where someone has gained (or proposes to gain) “control” (within the meaning of s8 or s9 NSIA) of a “qualifying entity” (see above) or “qualifying asset” (land, tangible property and IP either situated in the UK or used in connection with activities carried on in the UK or the supply of goods or services to the UK), and such acquisition gives rise or could give rise to a risk to national security.
• “Control” in the context of the call-in power has a wider definition than in relation to the mandatory regime, as it includes the acquisitions of rights or interests that enable someone to "materially influence” the policy of an entity, or to use an asset or direct or control how it is used.
• A call-in notice can be issued retrospectively up to five years after the acquisition completed, except that it cannot apply to acquisitions that occurred prior to 12 November 2020, and the notice must be issued within 6 months of the Secretary of State becoming aware of it (note that different time limits apply for acquisitions that completed between 12 November 2020 and 4 January 2022).
• Following a review after the issue of a call-in notice, if the Secretary of State determines that a risk to national security has arisen or would arise they can impose proportionate remedies to prevent, remedy or mitigate the risk.
• Given the broad nature of the call-in regime, in November 2021 the Government issued a statutory statement in an effort to provide some clarity as to how it intends to use the call-in power. This statement confirmed that the Government will take into account three key risk factors when deciding whether and how to exercise the call-in powers: (i) target risk (what the entity or asset does and whether it could be used in a way that would pose a risk to national security); (ii) control risk (how much control the acquirer will obtain); (iii) acquirer risk (whether the acquirer poses a risk to national security, for example because they have links to a hostile state or organisation).

The statement confirmed that acquisitions of entities which operate in the 17 sectors (and of entities which undertake activities closely linked to those sectors) are more likely to be called-in than acquisitions of entities outside the specified sectors, and that acquisitions of assets connected to the 17 sectors are more likely to be called in but that overall acquisitions of assets are likely to be rarely called in. The statement says that loans are unlikely to pose a risk to national security and so are unlikely to be called in.

There are a number of ways in which the mandatory regime and call-in power could affect banking transactions. The acquisition of shares or assets being funded by a lender could be subject to the mandatory regime or a call-in notice in certain circumstances. In addition, the taking or enforcement of security could be impacted by NSIA. For a fuller overview of the implications of NSIA for banking transactions, please see our previous insight.

Practical tips for lenders

Although it is still early days and it remains unclear how NSIA will be applied in practice to banking transactions, there are a number of steps lenders can take to mitigate against the potential effects of the regime. Some suggestions are set out below.

Internal screening processes and due diligence

As discussed above, NSIA risk is to some extent a factual matter, and can depend on factors such as proximity of secured land to sensitive sites or threats of a transaction to national security, which may not be apparent from publicly available information. Lenders may wish to review their own internal processes to try and identify those categories of transactions which pose the greatest risks, for example acquisition finance transactions involving businesses active in the 17 sectors. For such transactions, lenders may wish to obtain additional legal due diligence similar to that undertaken by a purchaser’s lawyers on a share acquisition. It may be more cost effective for lenders to rely on the buyer’s due diligence as opposed to separately instructing their own lawyers to carry out this exercise, but where this approach is taken thought will need to be given to reliance arrangements and any liability caps.

Drafting of security documents

Security documents may need to be reviewed to ensure that they reflect the Schedule 1 paragraph 7 requirements – that voting rights can only be exercised by the lender for the purpose of preserving the value of the security or realising it – as closely as possible.

Wording may also be included preventing the automatic transfer of voting rights if this would amount to a notifiable acquisition under NSIA (see, for example, the most recent versions of the LMA’s real estate finance security agreement). However, it should be noted that this wording only addresses the risk of the mandatory notification requirement and would not prevent a call-in notice being issued. The effect of this wording if voting rights have in fact been exercised is also unclear. A requirement for the lender to serve notice prior to exercising voting rights should also prevent such an automatic transfer of rights.

Voluntary notifications

Finally, lenders should consider the possibility of utilising the voluntary notification process under NSIA to obtain pre-clearance of transactions. However, as this will add delays and costs to transactions, lenders may want to limit this requirement to transactions which appear to be higher risk via their internal screening and due diligence processes. It is worth bearing in mind that there is a limit to the extent to which NSIA risk is able to be ruled out, as matters such as proximity to sensitive sites may not be capable of being ascertained. Another possible option would be to seek informal guidance from the Investment Security Unit on the proposed transaction.