The National Security and Investment Act 2021 and its implications for banks and lenders
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The National Security and Investment Act 2021 (NSIA) introduces a new statutory regime to provide for government oversight and intervention where UK transactions may impact on national security.
In this article we consider how this new legislation is likely to affect banking and finance transactions when it comes into force later this year (including its impact on historic transactions) and the risks for banks and lenders to consider when entering into transactions which fall within the scope of the NSIA.
What is the NSIA?
On 29 April 2021 the NSIA received Royal Assent. Its purpose is to establish a framework allowing for government scrutiny of certain investments and transactions, with the protection of national security being at its heart.
Although the government’s main priority is to control foreign investment in the UK where it could negatively impact on national security, NSIA will apply to UK and foreign investments equally. It proposes to do this via government intervention though a new statutory regime for notifying and obtaining clearance for transactions which fall within the scope of NSIA, which will sit separately to the existing competition regime regulated by the Competition and Markets Authority.
Although the regime is not set to come into force until towards the end of 2021, there are retrospective call-in powers which will reach back to 12 November 2020. This allows the Secretary of State to review transactions entered into after that date which raise national security issues and potentially unwind them in serious cases. As such, NSIA issues should be considered for all transactions completed after 12 November 2020. Once fully in force any transaction covered by one of the seventeen NSIA sectors will be void if it is not notified and cleared under the mandatory NSIA regime.
Call in powers are not expected to affect many transactions, but in some cases it may be advisable to seek informal guidance under NSIA for transactions completing between 12 November 2020 and when NSIA is fully in force. Once fully in force it is anticipated that mandatory NSIA notification will be relevant to around one third of deals and as such it is important that banks and other lenders understand the implications when entering into transactions which may fall within its scope.
Which transactions will be caught?
The diagram below sets out a simplified flow chart to consider the likelihood of a transaction being caught by NSIA once it is fully in force .
What is the likelihood of a transaction being caught by NSIA once it is fully in force?
What are the seventeen specified sectors?
- 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
- Energy
There is also provision in NSIA for the acquisition of specific assets or types of assets to be effectively brought within the mandatory notification regime, though the detail of this will be in regulations yet to be published.
Mandatory v Voluntary notification
Mandatory notification is, as its name suggests, non-negotiable and failure to notify in these circumstances will result in the transaction being void and could result in the more serious consequences of fines and criminal convictions.. Voluntary notification outside of the seventeen NSIA sectors or outside of specified assets being acquired leaves it up to the parties to decide whether to notify or not As noted, the NSIA’s call in provisions give the Secretary of State the power to review a transaction entered into after 12 November 2020 up to six months after being notified of the trigger event, or up to five years after the trigger event occurs if no notification took place.
NSIA in a banking and finance context
There are a number of situations in which NSIA may be relevant to a bank or lender.
- Where a bank is funding the acquisition of a company which relates to a specified NSIA sector (a Relevant Company) or an asset which relates to a specified NSIA sector (a Relevant Asset).
In the context of funding an acquisition of a Relevant Company or Relevant Asset once NSIA is fully in force, the lender will need to consider whether there is the risk of the transaction becoming void. In that scenario, it could potentially lose the benefit of its security which may impact on its ability to recover the monies it has advanced, particularly where the proceeds of the relevant loan have been disbursed and cannot readily be recovered (for example in payment of fees and professional costs).
Prior to funding, lenders are likely to look closely at due diligence and pre-acquisition enquiries to ascertain whether or not the transaction should be notified. The extent to which personal undertakings from the sellers might be required remains to be seen and is likely to be resisted. Where a transaction is notifiable or if there is any doubt, lenders are likely to include clearance as an additional condition precedent to funding.
If the company expects to use a facility to make future acquisitions, there may be ongoing conditions included in the loan agreement for any acquisitions of a Relevant Company or Relevant Asset and this may become a point of negotiation for borrowers.
Before NSIA is in force in relation to transactions which are considered at risk of a potential exercise of call in powers, lenders may require that informal guidance has been sought under NSIA to reduce the risk. The risks associated with exercise of call in powers for a transaction already completed are not dissimilar to the risks associated with a merger investigation by the Competition and Markets Authority.
- The taking and enforcement of security granted by a Relevant Company or over a Relevant Asset.
Helpfully, NSIA makes clear that the creation of share security by secured parties alone will not constitute a triggering event, meaning there will be no need for notification in these circumstances. This is on the assumption that voting rights are not to be exercised from day one. However, on enforcement of share security, including appropriating shares or the right to exercise voting rights, this could potentially become a triggering event and would therefore be subject to notification and clearance requirements.
As has become the market norm, lenders should ensure that their share security does not contain automatic triggers for the ability to exercise voting rights but that this remains in the lender's control requiring, for example, notice to be served prior to exercise so it is clear when the transfer of control takes place.
Applying the same logic, the taking of security over an asset is unlikely to be a triggering event in itself where the borrower retains control, but the enforcement of that security may be. In that context, lenders will need to consider at the outset whether NSIA may impact on their ability to actually take enforcement action against a Relevant Company or Relevant Asset and whether there is a risk that additional clearance will need to be obtained as an enforcement step (or indeed whether enforcement action could be prevented completely). This could cause unwanted delay at the point of enforcement.
Whilst in certain cases it may be obvious where NSIA issues arise, it will not always be clear cut. For example, where a loan is being made for the purchase of land or real estate, a national security element could arise if the newly purchased land is opposite or adjacent to a military barracks or a Ministry of Defence building. Another example could be the purchase of a building in which business is carried out, or third-party contracts are in place, which involve a national security dimension.
- Making general corporate loans to a Relevant Company and taking security over Relevant Assets and/or shares in Relevant Companies.
Loan agreements generally provide lenders with a degree of negative control over the business of a borrower through the various undertakings assumed by the borrower. Provided these are in a fairly standard form, this in itself is unlikely to reach the requisite threshold to require notification.
It is however conceivable that in circumstances where a borrower is in financial difficulty that the lender will increasingly operate more control as it seeks to protect its position. This may particularly be the case where a loan agreement gives the lender the right to appoint a board observer or even directors of the borrower. As such, as with taking share security, a lender should consider whether NSIA applies before seeking to exercise more extensive control over a borrower and should ensure the right to exercise these powers is clearly triggered such as by the serving of notice so there can be no doubt as to when they have taken effect so that any necessary NSIA clearances can be sought in advance if required.
- The syndication or transfer of a loan originally made by a lender to a Relevant Company.
A syndication or transfer of a loan participation is generally unlikely to trigger any notification requirements under NSIA where the new lender is not in a position to exercise any meaningful control as a result of the transaction. There will however be situations where the transferee’s whole reason for acquiring a loan participation is to gain control, specifically where the lender operates a strategy of buying distressed debt to acquire control over a borrower and its assets. In those situations, as with enforcement of security, NSIA concerns could be relevant where the Borrower is a Relevant Company.
NSIA therefore has the potential to impact a wide range of lending transactions, not necessarily limited to real estate or acquisition finance. It is therefore imperative that parties carry out full due diligence on all transactions, with specific reference to NSIA, and seek clearance or informal guidance where appropriate.
It should however also be noted that the situation may change over time such that NSIA may become relevant later. For example, changes in the business of a borrower or to the tenant of a property or to the use of neighbouring land may result in NSIA becoming relevant when it wasn’t at the outset of the transaction. As such, NSIA is a factor that lenders also need to consider as part of their ongoing assessments of the risks associated with a specific borrower.
Practicalities
With that in mind, it is important to think about how long the process of approval will take and the likelihood that approval will be granted. Currently informal guidance is taking about 30 days for a response. Once in force mandatory notifications have an initial timescale of 30 days for a response, but this is extendable if more detailed investigation is required.
The Secretary of State is required to decide whether to accept or reject voluntary notice under the voluntary notification procedure for transactions outside the seventeen NSIA sectors ‘as soon as reasonably practical’ and, if the notice is to be accepted, within 30 working days from the date of notification. If accepted then the same timescales as for a mandatory notification would then apply.
Clearance will depend on the detail of the national security risks on a case by case basis. Nevertheless, it seems unlikely that the government will want to interfere and impose remedies in a large number of transactions and they are expected only do so where there is a genuine threat to national security and this is expected to be circa ten transactions a year. This risk should be particularly low for transactions involving only UK investors given that NSIA’s primary intention is to curtail foreign investment in the UK which could potentially result in compromised security.
Until we start to see how NSIA works in practice it is difficult to predict how laborious and far reaching its introduction is likely to be for lenders in practice. It has the potential to capture a significant number of transactions, and extensive due diligence with NSIA in mind will be key to highlighting those which should trigger mandatory notification or where informal guidance or voluntary notification may be appropriate. However, whilst NSIA has the potential to catch many transactions, a national security threat will obviously not arise in the vast majority of transactions. So whilst NSIA may impact on deal timetables, it seems unlikely that it will have notable impacts on the overall outcomes for lenders in most cases, with the greatest impacts most likely being the risk of a transaction subject to mandatory notification not being notified and being void as a result or the risk of delays at the point of enforcement.
Would you like more information regarding the implications of The National Security and Investment Act 2020 for banks and lenders?
If you’d like to discuss any thoughts or issues which have arisen after reading this article, please contact your usual contact in the Gateley Banking Unit or our expert detailed below.
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