Report from the front – the UK Government publishes the Third Annual NSIA Report

On 10 September 2024, the UK Government¹ published its third Annual Report ("Report") into the investment screening regime established by the National Security and Investment Act 2021 ("NSIA"). This Report provides a summary of the key trends and statistics that have emerged under the NSIA regime during the period 1 April 2023 to 31 March 2024. For practitioners and businesses alike, the Report provides a rare insight into the UK's investment screening regime which otherwise operates in a deliberately opaque fashion.

This briefing summarises the key takeaways from the Report and what these may indicate for the NSIA regime going forward and investment activity in the UK more generally.

Most significant trends in the Report

Although this is the third time the UK Government has published an annual report, this is only the second such report to cover a full 12-month period and the first to contain year-on-year comparisons.²

Indeed, the UK Government has, in this Report gone further than it is statutorily obliged to do and included new categories of data on the NSIA regime that it has not previously shared (such as the number of withdrawn NSIA filings by reference to the affected area of the UK economy and the number of calendar days it took to issue a final order). The Report provides the most definitive summary yet as to the impact the NSIA has had since it first came into force on 4 January 2022.

The most important takeaways from the Report can be summarised as follows:

1. The total number of NSIA filings has increased

Between 1 April 2023 and 31 March 2024, the Government received a total of 906 notifications under the NSIA (including  753 mandatory notifications, 120 voluntary submissions and 33 retrospective filings). This marks a modest increase compared to the previous reporting period, which saw 865 notifications made over an equivalent period. There has also been a decrease in the number of NSIA filings rejected by the ISU, down to 24 from 42 such notifications in the previous reporting period.

The rise in the total number of NSIA filings made in the latest reporting period may indicate an increased awareness of, and familiarity with, the NSIA regime among domestic and international investors. It was surprising to many that the period covered by the previous NSIA Annual Report saw only 865 filings – it had been thought by some before the NSIA regime came into effect on 4 January 2022 that the number of annual filings could well exceed 2,000. In fact, some saw the much lower number in the previous reporting period as evidence of a possible skittishness among some investors, who were perhaps avoiding undertaking transactions that they might otherwise have pursued due to fears that it could be blocked, or subjected to remedies, under the NSIA regime. The uptick in filings may thus indicate a greater degree of confidence in the UK's regulatory landscape.

2. The 'Defence' key sector continues to be main cause of mandatory NSIA filings

In the previous NSIA Annual Report published last year (see our previous briefing here), it was noted that 47% of all mandatory NSIA filings made to the ISU concerned the 'Defence' key sector.

The revised figures contained in the Report paint a very similar picture. According to the UK Government, 48% of all mandatory NSIA filings received between 1 April 2023 and 31 March 2024 related  to activities in the 'Defence' key sector. Moreover, of the 41 deals called-in during this reporting period, 34% of these deals related to 'Defence', the highest for any individual key sector. Most tellingly of all, out of the five final orders issued during this 12-month period, four of them concerned the UK's defence industry.

This continued trend is largely unsurprising. The sheer volume of filings relating to the 'Defence' key sector is almost inevitable given how easily the definition is triggered by a qualifying entity's activities. Indeed, unless the UK Government is minded to revise the scope of this key sector definition in the upcoming consultation (see below) – where the definition presently captures any entity, including sub-contractors, which provides any goods/services to defence sector customers (especially where such entities are provided with some level of access to sensitive sites), however innocuous these products/services may be (e.g., cleaning, catering etc.) – it is unlikely that we will see any material changes in this respect.

The other top sectors being reviewed by the UK Government under its NSIA regime include 'Military and Dual-Use', 'Communications' and 'Advanced Materials'.

3. Clearance decisions remain high but the average length of review has increased

During this reporting period, 95.6% of all NSIA filings were cleared within the initial 30 working day review period. This is an even higher figure than in the previous NSIA Annual Report, which was 93%. Further, only 4.4% of these filings were called-in for an in-depth assessment compared to 7.2% in the previous reporting period. Interestingly, there has also been a reduction in the number of cases in which the 45 working day additional period was used to extend the in-depth assessment period following call-in (12 times as opposed to 29 times in the previous period). In terms of the voluntary extension period that may be agreed between the Cabinet Office and the parties to the transaction, this was only used four times compared to ten times in the previous year. These are encouraging signs for investors contemplating transactions in (or which will affect) the UK.

This positive news notwithstanding, it is worth noting that the ISU is taking longer to commence - and indeed to complete – its reviews than it did  in the earlier days of the NSIA regime.

• The average length of time the ISU took to confirm acceptance of mandatory and voluntary filings following submission via the online portal during the latest reporting period was seven working days and ten working days respectively (up from an average of five working days for both types of filing during the previous reporting period).
• Furthermore, it took the ISU, on average, in 2023-2024 29 working days to decide whether to issue a call-in notice in respect of both mandatory or voluntary notifications it accepted, compared with figures of 28 working days for mandatory notifications and 27 days for voluntary notifications in the previous reporting period.
• Once a deal was called in for an in-depth review (not including the time the review clock is stopped because of the issue of a request for information), it has taken on average 26 statutory working days to issue a final notification (unconditional clearance) and on average 34 working days (compared to 81 statutory working days in the previous reporting period) to issue a final order.

This serves as a reminder to parties of the importance of careful planning when it comes to transaction timetables and the setting of Long Stop Dates in particular. It must always be remembered that the clock does not start once the filing has been submitted, but rather once the ISU has confirmed acceptance. Parties must be careful not to be caught out by this if the ISU may take up to two weeks, in effect, to confirm acceptance of an NSIA filing or the potential for the clock to be stopped during the in-depth review period. It is important that the Long Stop Date in the deal documentation provides a sufficient buffer to protect against such delays.

4. The ISU is taking less direct action against notified transactions

In a further reassuring sign for the UK investment market, the ISU has noted in the Report that the total number of call-in notices issued following the initial review period was 37 during the latest reporting period, down from 65 in the previous 12-month period. Saliently, too, of the filings subjected to an in-depth NSIA assessment, the number of final orders (i.e., decisions to clear a transaction subject to remedies or else to prohibit it outright) dropped from 15 in the Second Annual NSIA Report of 2022/2023 ("Second Annual NSIA Report") to only five in the latest 12-month period. Of these five final orders, none involved a prohibition decision and instead the relevant deals were cleared subject to specified conditions (e.g. to maintain security of supply of key resources in the UK, to notify certain future transactions to the ISU and to ringfence access to certain sensitive information). But it is important to note that, since the end of the Report review period, there have already been six final orders (all conditional). As such, investors should not necessarily read too much into the fact that there has been a drop in the number of the final orders (as indicated in the most recent Report).

As noted above, the majority of final orders issued during this period concerned the 'Defence' key sector. This marks a change from the previous Annual Report, where the 'Communications' and 'Military and Dual-Use' key sectors saw the most final orders with four each (albeit there is a degree of overlap between the latter and the 'Defence' key sector). The final orders were also issued in relation to investors from a number of different countries of origin, something which we explore further in point 7 below.

A salient point to note is that one of the five final orders issued concerned a voluntary NSIA filing, specifically the acquisition by Voyis Imaging Inc., a Canadian underwater imaging company, of an unidentified asset from the University of Southampton. This is not the first time that an NSIA deal concerning a higher education institution has been the subject of a final order – indeed, the first prohibition decision issued by the ISU concerned a know-how licensing deal between the University of Manchester and a Chinese-owned acquirer (see our briefing on this here). This serves as a reminder that the ISU can, and will, take enforcement action under the NSIA voluntary regime – it is not just the mandatory regime which has teeth. It is also a reminder that there is a strong focus on new technology and know-how coming out of higher education establishments, where the UK Government believes that this can often have a relevant national security element. The Government has even published standalone guidance relating to the NSIA regime and higher education facilities.

5. Remember that the ISU has a discretionary power to compel parties to make an NSIA filing in respect of non-notified deals

Much like the Competition & Markets Authority's ("CMA") Market Intelligence Unit, the ISU will also monitor the UK market for press releases, trade press announcements and other news sources to identify transactions which could be likely to give rise to potential national security concerns.

Unlike retrospective validation applications for deals which triggered a mandatory NSIA filing, non-notified acquisitions will concern deals which fell under the NSIA's voluntary notification regime. As such, the parties were under no obligation to notify the underlying transaction and took a commercial decision not to do so. However, it is important for parties to conduct a self-assessment in these cases to gauge how likely it is that, should the UK Government learn of the deal through its own market monitoring, the transaction would be called-in for review. This requires a consideration of the tripartite assessment factors – i.e., target risk, acquirer risk and control risk – set out in the Government's Statement for the purposes of section 3 ("Call-In Statement"). It must be remembered that the UK Government has up to five years post completion of a non-notified acquisition to call it in for an NSIA review (albeit this limitation period can be reduced to six months in certain circumstances).

It is not specified in the Report how many transactions were identified by the ISU through market monitoring, where the parties involved were then compelled to make an NSIA filing. However, the Report does note that four such non-notified deals were called-in for an in-depth NSIA assessment and one of these deals was ultimately the subjected to a final order.

This serves as a reminder to parties that it should not be assumed that the ISU will not pick up on the fact that a transaction has taken place which could (in their view, at least) give rise to potential national security concerns. Where parties in such situations choose to "take the risk" and not voluntarily file such transactions, they must be alert to the fact that the ISU can still investigate the deal and will be willing to refer it to an in-depth review, and ultimately take enforcement action, if it deems it necessary.

6. Continued focus on China or not…

There is a striking difference between the statistics published in the Report and those published in the Second Annual NSIA Report last year relating to the number of final orders issued by reference to the so-called "origin of investment" – in other words, the country to which the acquiring entity is linked either by direct ownership or by some other affiliation. The Report notes that, in the last 12 months, no final orders were issued vis-à-vis Chinese investors at all. This contrasts with the eight final orders (out of a total of 15) that were issued against Chinese investors during the period covered by the Second Annual NSIA Report.

On the face of it, this suggests that the scrutiny with which the UK Government has previously examined Chinese investments under the NSIA regime may be starting to change. It may be that the UK Government is becoming more accustomed to, and comfortable with, reviewing (and ultimately clearing without conditions) NSIA filings involving Chinese acquirers.

However, the picture is rather more nuanced when other statistics contained in the Report are also considered. For instance, it is noted in the Report that, between 1 April 2023 and 1 March 2024, the percentage of NSIA filings accepted by the ISU which involved Chinese acquirers was less than 3% (when compared against the total number of filings accepted which involved acquirers from other countries). Notwithstanding this de minimis proportion of filings involving Chinese acquirers, the Report also notes that these deals involving Chinese acquirers also accounted for the highest proportion of call-in notices issued by the ISU (41%). Furthermore, of the ten transactions abandoned following the issue of a call-in notice in 2023-24, eight of these involved Chinese-owned or -affiliated investors. It is assumed that the likelihood of an adverse NSIA final order due to the Chinese nationality of the acquirers may have been an important factor in the parties abandoning these deals.

The UK Government has consistently emphasised that the NSIA regime is agnostic towards the nationality of the acquirer (hence why transactions involving UK acquirers are caught by the regime). Whilst the Report gives more evidence to this position than there has been before, with 39% of call-in notices being issued in respect of transactions involving acquirers associated with the UK, it still remains likely that the existence of a Chinese-owned acquirer in an NSIA filing will pique the UK Government's interest more than other countries of origin.

7. The ISU's position vis-à-vis other countries of origin and appeals of ISU decisions

Another country that the ISU has historically focused on in the course of NSIA reviews has been Russia. It is notable that the Report does not present any statistics at all relating to Russian investments in the UK – in fact, the Report indicates that no call-in notices or final orders were issued with respect to Russian investors during the most recent reporting period. This is interesting in light of the fact that, to date, all final orders that have amounted to prohibition decisions have concerned Russian or Chinese acquirers. By contrast, in this reporting period, the final orders issued related to investors from the UAE, France, Canada and even the U.S. and the UK. This suggests that the UK Government is concerned more with the activities conducted by the target – or the activities for which the relevant asset(s) is used – than the origin of investment, given that these five countries are usually considered to be "friendly" from a national security standpoint.

However, in connection with NSIA reviews of Russian investors, it is worth noting that LetterOne, the Russian-linked investment firm, is currently bringing an appeal in the High Court against the ISU's decision to prohibit the acquisition of Upp (a broadband provider active in the UK) in December 2022. Given that appeals of NSIA decisions can only be brought on judicial review grounds and not on the substantive merits, it will be interesting to see whether the appeal has any success.

8. Sanctions remain conspicuous by their absence…for now

When the NSIA regime was first brought before Parliament, many were alarmed by the severe penalties prescribed under this new investment screening regime vis-à-vis any failures to make a mandatory filing to the UK Government (or else for closing a deal subject to a mandatory NSIA review without clearance). It is true that the UK Government's ability to impose fines of up to 5% of a company's global turnover (or £10 million, whichever is higher) and even individual criminal sanctions for such actions remains a key driver in focusing minds when it comes to the NSIA regime. No investor wishes to be caught on the wrong side of these rules.

However, it is noteworthy that, the UK Government has not, to date, actually exercised these particular enforcement powers under the NSIA regime. Certainly, there is no mention of this in the Report, despite acknowledgements that 33 of the NSIA filings made during the latest reporting period were retrospective approval applications (i.e., deals that should have been mandatorily notified that were actually notified post-closing).

All the same, it would be wise for investors not to treat this position as evidence that the UK Government will always waive its ability to take enforcement action against non-notified deals that were meant to be mandatorily filed under the NSIA. If the number of retrospective filings were to rise, the UK Government may well take the view that a deterrent precedent is required.

Comment

Overall, the key trends that emerge from the Report are much more likely to buoy than deter future transactions in (or which will affect) the UK. This is all to the good insofar as the UK's economic activity is concerned and for the health of the City's M&A and PE markets in particular.

It is interesting that the Report has been published at a time when the NSIA regime is being closely considered by the UK Government in terms of the clarity it offers investors, the scope of transactions caught by both the mandatory and voluntary notification regimes, and its overall effectiveness at safeguarding the UK's national security interests.

On 18 April this year, the UK Government concluded a consultation it had launched in November 2023 to seek feedback from stakeholders³ as to how the NSIA regime was functioning overall. Although, following this consultation, the Government has confirmed its view that the NSIA is generally operating well, it has also acknowledged certain criticisms that it received. To promote further understanding of the scope of the NSIA regime, the Government has already published an updated Call-In Statement and updated market guidance. It has also committed to launching a formal consultation regarding the scope of the list of 17 key sectors – including whether new standalone key sectors, such as 'Semiconductors', 'Critical Minerals' and even 'Water', should be added – and to consider introducing, for the first time, certain technical exemptions to the mandatory filing requirement (for instance, regarding the appointment of liquidators). The former consultation was due to be launched by the end of the Summer 2024 (and has not yet materialised), whilst the Government is due to table legislative amendments regarding the latter in Autumn 2024. The Government has also made a general commitment to approve various administrative aspects of the NSIA regime, such as making improvements to the functionality of the online submission portal.

It will be interesting to see whether the statistics and trends shown in the Report will have any bearing on the outcomes of these ongoing developments. The Report suggests that, on the whole, that the NSIA regime is operating relatively efficiently. But time will tell whether this picture continues over the next 12-month period and, indeed, beyond this.

Contact us

Should you have any queries or wish to discuss any matter in this briefing, please do not hesitate to contact us.