The National Security and Investment Act 2021 ("NSIA" or "the Act") came into force in the UK on 4 January 2022. NSIA expands the UK Government’s powers to scrutinise certain acquisitions and investments on national security grounds. NSIA applies where a target entity is within one of the 17 sensitive sectors set out in the Act and has activity in the UK. The UK Government’s power applies to transactions which complete in the period following 12 November 2020.
The 17 sensitive sectors set out in NSIA are: advanced materials, advanced robotics, artificial intelligence, civil nuclear, communications, computing hardware, critical suppliers to the UK Government, cryptographic authentication, data infrastructure, defence, energy, military and dual-use, quantum technologies, satellite and space technologies, suppliers to the UK emergency services, synthetic biology and transport.
The importance of NSIA cannot be underestimated. Where a mandatory notifiable transaction is not reported to the UK Government, or completes without approval from the UK Government, it will be automatically void and civil penalties (being the greater of 5% of the acquirer’s global turnover or £10 million) and/or criminal penalties may be applied.
The Insolvency Carve-Out in NSIA
Paragraph 2 of Schedule 6 to NSIA confirms that control exercised by an administrator while the company is in administration falls outside of the trigger events set out in NSIA. This exclusion is very limited as it does not refer to the other forms of insolvency proceedings in the UK (e.g liquidation). It also does not refer to other types of enforcement such as the appointment of a receiver over the company’s assets. Furthermore, the exclusion is limited only to the appointment of administrators and not transactions entered into by administrators.
Where an officeholder is to be appointed, who is not an administrator, over a company which is within one of the 17 strategic sectors set out in NSIA or which itself has an interest in a company which is within the strategic sectors, it may be necessary to make a mandatory notification under NSIA.
The Market Guidance Notes published by the UK Government in July 2022 confirmed that a liquidator’s appointment could trigger a mandatory notification if the entity over which the liquidator is appointed has shares and/or voting rights in another entity which is subject to NSIA. In this situation, the appointment of the liquidator would constitute a temporary acquisition of control under NSIA even though the company in liquidation is not itself subject to NSIA.
Conduct of an officeholder
In the UK, an administrator can often be appointed over a company by a creditor (usually as a result of a default under a finance facility and pursuant to powers contained in a security document) or by the directors of the company itself as a result of the insolvency of the company. An administrator typically seeks to obtain the best outcome for the creditors of the company and, in doing so, to realise maximum value for the company’s assets. Due to the insolvent nature of the company, it is most likely that the administrator would look to sell the company’s business and assets.
Under NSIA, sales of assets by an insolvency practitioner are only likely to trigger voluntary notifications (where the other criteria under NSIA, such as the type of business, are met). Furthermore, the Government’s statement for the purposes of section 3 of NSIA, published on 2 November 2021 (SoS Statement), sets out how the Government intends to exercise its call-in powers under NSIA. It confirms that the UK Government expects to “rarely” call-in acquisitions of assets, compared to acquisitions of entities.
However, due to the risks and penalties which can arise under NSIA, a purchaser may insist on submitting a voluntary notification. Such a notification would provide certainty as to the scope of NSIA with respect to the transaction. However, the filing of the notification may have a severe impact on the timing for the transaction.
This is contrary to a sale of shares which may result in a mandatory notification if other criteria set out in NSIA are met. Although the notification requirement and risk sits with the purchaser, this will no doubt have a significant impact on the timing for any distressed sale of shares.
The Impact on Creditors
The SoS Statement provides some comfort to lenders in originating finance to companies which are within the scope of NSIA. It states:
“Parties should be aware that loans, conditional acquisitions, futures, and options are unlikely to pose a risk to national security and so are unlikely to be called in [by the UK Government].”
The provision of security should, in most cases, not fall within the scope of NSIA unless the security has the effect of immediately granting the security holder with a degree of control or material influence over the borrower or over the secured assets. However, difficulties may arise when rights within the documents are subsequently exercised and legal title or control passes to another party.
It should be noted that internal corporate restructurings are also capable of being deemed to be qualifying acquisitions under NSIA where there is a change in control or ownership of an entity subject to NSIA. This is the case even where the ultimate owner of the group does not change.
An enforcement of share security may constitute a trigger event where:
I. There is an acquisition of 25% or more of the borrower's shares and/or voting rights;
II. There is an extension of existing shares or voting rights above 25%, 50% or 75%; and/or
III. There is an acquisition of sufficient voting rights to provide a lender with the ability to approve or prevent a shareholder resolution.
Therefore, the enforcement of share security is likely to be caught by the regime within NSIA as its effect is often to create an interest in the company. In addition, the granting of any voting rights to the security holder, for example following a default, may also trigger a notification requirement.
As set out above, the provision of a debt instrument, such as a convertible loan to an investor, is unlikely of itself to trigger the notification requirements under NSIA. However, the actual conversion of the loan into equity may fall with the notification regime.
Debt for Equity Swaps
Debt for equity swaps, whereby lenders use existing indebtedness in exchange for equity in a borrower, may also trigger notification requirements under NSIA. This is likely where a qualifying entity is the target and where the relevant thresholds, set out in NSIA, are met. As such, the timing for completion of a debt for equity swap may be determined and extended by the notice periods required for the notification requirement under NSIA.
Loan to Own
Loan to own refers to a lender’s strategy of acquiring secured debt in a borrower in order to ultimately control or eventually own the target entities and their assets. The strategy is usually put into effect by the enforcement of the security upon a default under the debt facility. Again, an acquisition of an interest or control in the borrower may trigger the mandatory notification requirements under NSIA. Therefore, where a notification is required, the steps to enforce the security may be prolonged, which could jeopardize the lender’s strategy.
The effect of NSIA is that it brings increased risk for creditors seeking to enforce security or other rights and for purchasers seeking to acquire an interest in an entity which is within one of the 17 sensitive sectors. It also potentially brings a significant delay in proceedings where a notification is made, which could have a negative impact on the options available to creditors and/or the company during a period of distress. Careful analysis will need to be undertaken to consider whether NSIA applies to an entity and/or its assets, and to the proposed transaction/enforcement. The severe penalties imposed by NSIA mean that planning and adherence to the UK law is of paramount importance.