Real Estate and The National Security and Investment Act 2021
At first blush, one could be forgiven for assuming that the National Security and Investment Act 2021 (the “Act”) would only apply to obviously “dodgy dealings” and “suspect individuals”. However, for anyone who has read our summary of the National Security and Investment Bill or our update following its receiving Royal Assent, it will be clear that the new regime will be far more wide-ranging, potentially catching a plethora of transactions and the parties involved. One sector which could be particularly affected in more ways than one is real estate.
What’s the purpose of the Act?
The Act provides the UK government with far-reaching powers to investigate and scrutinise transactions which could have a national security interest. Although “national security interest” has not been defined within the Act or any governmental guidance to date, the risk factors in any transaction have been listed as:
- Target risk
- Acquirer risk
- Control risk (originally the trigger event risk).
Further information about each of these is included here.
Certain transactions will fall within the mandatory notification regime, while others can be notified voluntarily. The government will also have “call-in” powers where it considers that a transaction may have a national security interest. Real estate transactions or transactions involving real estate could fall within any of these options.
Notification will be required if a transaction involves a “qualifying entity” which carries on activity in a “sensitive sector” and results in a “trigger event”. Failure to notify will render the transaction void.
The definition of “qualifying entity” is broad and includes companies, partnerships, limited liability partnerships, trusts, other bodies corporate and so on. As such, the mandatory notification regime does not apply to asset (for example, property) transactions per se although if a qualifying entity owns real estate (whether it’s an operating business with premises or a special purpose vehicle formed for the sole purpose of holding a property) then the mandatory notification requirement may kick in.
A “sensitive sector” is any one from a list of 17 sectors set out by the government which comprise: advanced materials, advanced robotics, AI, civil nuclear, communications, computing hardware, critical suppliers to government, cryptographic authentication, data infrastructure, defence, energy, military and dual-use technologies, quantum technologies, satellite and space technologies, suppliers to the emergency services, synthetic biology and transport.
A “trigger event” will occur if the transaction: (a) results in the acquirer’s share ownership or voting rights in the qualifying entity passing certain percentage thresholds, i.e. 25% (where the acquirer held less than 25% pre-completion), 50% (where the acquirer held less than 50% pre-completion) and 75% (where the acquirer held less than 75% pre-completion); or (b) enables the acquirer to pass or block resolutions.
The mandatory notification regime only applies to share acquisitions, not to asset purchases. So, for example, the acquisition of a company which owns a factory in which medical supplies are manufactured may well be caught and a notification will need to be made to the Investment Security Unit (the “ISU”), which sits within the Department for Business, Energy & Industrial Strategy.
In cases where a mandatory notification does not apply, businesses or individuals may instead make a voluntary notification if the transaction in question could involve a national security interest and a “trigger event” will occur as a result. In this case, the definition of “trigger event” is wider and applies if the transaction will result, in the case of:
- a qualifying entity, in the acquisition of (i) more than 25% (where the acquirer held less than 25% pre-completion), more than 50% (where the acquirer held less than 50% pre-completion) or more than 75% (where the acquirer held less than 75% pre-completion) of the votes or shares (or enables the acquirer to pass or block resolutions) or (ii) material influence; or
- an asset, in the acquirer being able to (i) use the asset or use it to a greater extent than before the transaction or (ii) direct or control the use of the asset or direct or control its use to a greater extent than before the transaction.
It is clear from the above, and should be remembered, that whereas the mandatory notification regime only applies to share acquisitions, the voluntary notification regime may apply to both share and asset transactions. As such, the acquisition of a property which lies, for example, adjacent to an army base should be voluntarily notified to the ISU.
Government call-in right
The ISU is able to call-in any transaction which completes on or after 12 November 2020 if they consider that it might involve a national security risk. In the case of a transaction which was not notified but which should have been under the mandatory notification regime, this call-in right lasts in perpetuity. A transaction which could have been notified but was not obliged to be, has a five-year post-completion longstop date in which to be called-in. This period is reduced to six months upon the ISU becoming aware of a trigger event.
In determining whether to call-in a transaction, the ISU will consider various factors and has issued a draft statement setting out how it expects to use its call-in powers (the “Statement”). For example, it refers to land located near to a sensitive site as being potentially an issue of concern which may trigger the call-in. This could cause difficulties in practice. Not only will enhanced due diligence be required to cover off the property in question and the surrounding area, query whether parties will be able to determine to any degree whether a site or nearby land is sensitive or not; given that some locations used by the government or the Ministry of Defence are highly confidential and members of the public have no clue about them, it may be extremely difficult to determine whether a voluntary notification should be made. While the purchase of a tower block which partially overlooks Buckingham Palace could be deemed a potential issue, what about the purchase of a residential apartment block next door to the house of a senior Ministry of Defence official?
The phrase “sensitive site” also begs the question of how far up (and down) from the ground does a sensitive site reach? Say a telecommunications company, which has a network of underground cables, some of which run beneath a sensitive site, is acquired. Would this transaction be caught by the Act?
At present, no searches exist to check for sites with a national security interest and so purchasers will need to rely on maps and plans to determine whether there is cause for concern; such checks are hardly bullet-proof. Whether search providers introduce formal national security searches in the future remains to be seen but in any event, until these issues are ironed out (if they ever are ironed out), parties to transactions will be ever more reliant on their legal advisors who will have to consider all these possibilities and conduct a risk assessment in respect of each transaction and the likelihood of it being subject to a call-in notice. In these cases, getting in first with a voluntary notification is likely to be advisable and we may well see a plethora of “on the safe side” voluntary notifications being made in order to get comfort that an acquisition is not of concern.
Does location matter?
In a word, no. If the property is located outside of the UK but is used in connection with activities carried on in the UK or the supply of goods or services to the UK, then it will be caught by the Act. Similarly, a qualifying entity which is located outside of the UK will be caught if it carries on activities in, or supplies goods or services to, the UK.
While on paper this sounds reasonable, query how the ISU will enforce the Act where there is no English law nexus involved. For example, a US company purchases a factory in Germany from its German company owner. The factory manufactures micro-chips for use in weaponry which is supplied to the UK armed forces – at the point where the UK becomes involved, i.e. the supply, there will not have been a “trigger event” and so the Act will not kick in. Instead, the “trigger event”, i.e. the purchase of the factory, will have occurred between the US company and the German company. Although the property is used in connection with the “supply of goods to the UK”, it is difficult to see how the ISU will be able to effect a call-in of an overseas transaction or expect the parties to even be aware of the Act.
Recent government guidance has suggested that the ISU may “require actions to be taken by” the UK entity, in our example, the armed forces (or the entity in the UK which supplies the armed forces), which could include “additional checks” on the overseas supplier. This may come as a surprise to the UK entity who may not be aware that any “trigger event” has occurred between overseas parties and also to the overseas parties themselves who might not anticipate potential supply issues, particularly if they have no knowledge of the Act.
What orders can the ISU make?
The Act provides the ISU with wide-ranging powers in terms of the information they can request, the orders they can give while an investigation is ongoing, the outcome of any investigation and penalties if orders or the Act are not complied with.
Following completion of any investigation, the transaction may be approved, approved subject to conditions or prohibited from taking place. If the transaction has already completed, the ISU could order it to be unwound although query how this will happen in practice.
Pause for thought
Are you involved in the acquisition of an entity which owns property? Is that entity involved in one of the 17 core sectors or activities which could result in a national security risk? Are you considering a real estate transaction? Could security be enforced over real estate? Could there be a national security interest in respect of the transaction? Is there a sensitive site within the surrounding area? Who will acquire the entity or the land? What is the property’s intended use? Could the Act affect the real estate value? These are now all questions which need to be considered sooner rather than later in any acquisition process. In the main, they will be easily dismissed and the transaction can continue but if there is any possibility that the new national security and investment regime will apply, the appropriate steps will need to be taken.
We’ve already mentioned that the Act may well result in enhanced due diligence in respect of any real estate being acquired and neighbouring property, but investigation into the acquirer and intended use of the property will also become more critical. This is likely to increase costs and lengthen the transaction timetable. Parties to a transaction, in particular banks, may also insist on notification to the ISU or request additional conditions and so it will be important to discuss this with them at the earliest opportunity.
Going forwards, communication will be key and having those conversations with your agents and legal advisors as soon as possible will be of benefit in the long run.
The Statement may provide that “the Secretary of State expects to call in acquisitions of assets rarely and significantly less frequently than acquisitions of entities”, but for the real estate industry, the new regime can, and will, still bite and should not be dismissed lightly.
- 12 November 2020 – any transaction that completes on or after this date could be caught by the new regime
- 29 April 2021 – Royal Assent to the Act received
- Late 2021 – further governmental guidance and regulations expected
- 4 January 2022 – commencement of the new regime.
This note reflects our opinion and views as of 6 October 2021 and is a general summary of the legal position in England and Wales. It does not constitute legal advice.