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UK targets merger thresholds for national security

14 May 2018 by Robert Bell

UK targets merger thresholds for national security - Read more

Government legislation would capture more acquisitions through turnover threshold and share of supply tests

On 15 March 2018, the government confirmed its intention to amend the UK merger control jurisdictional thresholds, extending the powers of the secretary of state to intervene in mergers that might raise national security concerns in specific areas of the economy.

The government has laid draft legislation before parliament, namely the Enterprise Act 2002 (Share of Supply Test) (Amendment) Order 2018, amending the share of supply test within the Enterprise Act 2002 for two strategic areas in the UK economy.

A further order to amend the turnover threshold in respect of these sectors will be laid before parliament in due course.

Background

Under the current system, for the Competition and Markets Authority (CMA) to assess a proposed merger, the acquired company must have an annual UK turnover of more than £70 million, or the merger should result in the creation of, or increase in, a 25% or more combined share of sales or purchases in the UK – or a substantial part of the country – of goods or services of a particular description.

These are labelled ‘relevant mergers’.

For relevant mergers, the CMA is responsible for assessing whether the proposed merger would significantly lessen competition. The UK merger control assessment is taken near exclusively on competition grounds.

There are also a number of limited cases where the secretary of state can intervene. These are mergers that involve narrowly defined ‘public interest’ reasons set out in section 58 of Enterprise Act 2002, such as national security, the plurality of the media or press freedom, or financial system stability.

“There are a number of limited cases where the secretary of state can intervene”

For instance, in April 2017 an intervention was made on national security grounds in the acquisition by Hytera Communications of Sepura, both telecoms firms.

When a public interest intervention notice is served under the Enterprise Act, the CMA must provide a report to the government on jurisdictional and competition issues. The CMA does not provide advice on public interest issues at Phase 1.

If the secretary of state wishes to make a reference to Phase 2 on public interest grounds, an independent CMA inquiry group needs to report to the secretary of state on whether the merger operates or is expected to operate against the public interest.

Consultation

The proposed changes arose out of a green paper, which set out the result of the government’s review of the Enterprise Act 2002 and its powers on foreign investment and national security.

The paper was published for consultation last October by the Department for Business, Energy and Industrial Strategy (BEIS), the government being concerned that the UK’s current mergers regime was insufficient to protect national security effectively.

Short-term proposals

The government proposed amending the turnover threshold and share of supply tests within the Enterprise Act, allowing it to examine and intervene in mergers that currently fall outside the thresholds for two strategic areas in the UK economy.

These concern undertakings producing dual-use products (having both civilian and military use) and those producing goods having only military use as defined in the relevant export control lists under Export Control Order 2008 as amended, and certain defined parts of the advanced technology sector.

The government proposed that for these two areas only the turnover threshold in the Enterprise Act should be lowered from £70 million to £1 million.

The government also proposed amending the share of supply test, augmenting the current provision that mergers are caught if two or more undertakings to a transaction create or enhance a share of supply of 25% or more.

The new proposed test would only require that the target business had an existing share of 25% or more of the relevant goods or services. This would mean that acquisitions made by companies without an overlapping share of supply in the UK could be assessed.

Long-term proposals

A permanent longer-term solution was also proposed. The government announced its intention to make more substantive changes to how it scrutinises the national security implications of foreign investment in a merger context, setting out certain options.

The government also toyed with expanding the ‘call-in’ power, modelled on the existing voluntary notification regime within the Enterprise Act, which would also include new projects and bare asset sales.

“Mandatory notification could be required for foreign investment in key new projects or foreign investment in specific businesses or assets”

It was also considering a mandatory notification regime for foreign investment for a focused set of essential functions in key parts of the economy. This could include civil nuclear, defence, energy, telecommunications and the transport sector.

Mandatory notification could also be required for foreign investment in key new projects or foreign investment in specific businesses or assets.

Government response

With the government’s published response to the consultation in March, it has confirmed its intention to lower the UK turnover threshold and amend the share of supply test, as proposed, for certain defined strategic sectors of the economy. Draft legislation is now being placed before Parliament to that effect.

Alongside this, the CMA published draft guidance for consultation on changes to the jurisdictional thresholds for UK merger control.

Defining strategic sectors

The government proposes to define those mergers subject to the lower turnover and share of supply thresholds, by reference to those enterprises that design or manufacture items or hold related software and technology specified on the UK Military List, UK Dual-Use List, UK Radioactive Source List and EU Dual-Lists – together the Strategic Export Control Lists (SECLs).

It has concluded that using these export control lists is appropriate and useful for its definition of businesses that would be covered by amended turnover and share of supply thresholds. The amended thresholds also apply to anyone designing or manufacturing these products, even if they have not been exported.

The government thinks it is reasonable for these companies to be aware that their products would be covered by the SECLs and that they would be subject to the lower thresholds. However, the government will further clarify whether they are in scope of the SECLs through detailed guidance and is devising ‘Goods Checker’ software.

The amended thresholds will apply to goods and services on the SECLs as at the date of the new legislation. The government does not regard it as practicable to apply the amended thresholds automatically to updates of the SECLs.

Thus businesses that produce items added to the SECLs after the new provisions come into force will not automatically be brought into scope of the amended mergers thresholds. The government will periodically lay further secondary legislation to reflect updates to the SECLs.

Additionally, enterprises caught due to the addition of goods or services made subject to temporary export controls will not come within the scope of the new thresholds.

Legislation process

The government’s proposals will be put into effect through secondary legislation. The Enterprise Act 2002 (Share of Supply Test) (Amendment) Order 2018 has been laid in draft form in parliament, amending the share of supply test within the Enterprise Act 2002. The order makes amendments to section 23, introducing new subsections (2A), (2B), (4A) and (4B), and inserting a new section 23A.

The intention is to lay a further order to amend the turnover threshold. Subject to parliament’s consideration and approval, both orders will come into force at the same time.

The proposed orders amending the share of supply and turnover tests under the Enterprise Act 2002 will only apply to cases in which enterprises cease to be distinct after the changes come into force.

“The government has managed in the past – so what is the imminent threat now demanding urgent action?”

The government’s approach in extending the existing mergers regime by lowering the turnover and share of supply tests has been rightly criticised for needlessly extending competition assessment to a wide range of mergers within the strategic sectors, which give rise to no competition issues.

This approach was devised solely to allow the government to use the existing merger control regime as a stopgap to vet foreign investments.

Many have rightly commented that these proposals should have been introduced by primary legislation, rather than relying on secondary legislation within the context of the existing merger control regime.

The government has managed in the past – so what is the imminent threat now demanding urgent action?

However, the government clearly feels this procedure is appropriate to introduce immediate regulation, as there is little time in the legislative timetable for primary legislation, parliament being packed with Brexit-related bills. For longer-term reforms, the government does intend to take the primary legislation route.

Robert Bell is partner at Bryan Cave LLP

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