In the days before Christmas in 2020, France’s minister of armed forces Florence Parly gave a strong signal of support for the local defence industry. She announced that US industrial group Teledyne’s plan to buy Photonis, a supplier of night-vision goggles to the French armed forces, would be blocked.

“Photonis is essential to our military operation,” she tweeted on December 18, 2020. “The state is therefore working on a solution for the national recovery of this jewel: the sovereignty of France is our priority.”

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Aside from being the first foreign takeover to be prohibited under France’s national regime, the Photonis deal is indicative of the expansion in foreign direct investment (FDI) screening across the EU that has been accelerated by the pandemic. Scrutiny of foreign mergers and acquisitions (M&As) in the EU has now shifted from a focus on the nationality of investors to technology sovereignty.

“It’s become the norm that it’s not only Chinese investors who may face tough scrutiny,” says Tilman Kuhn, a partner in the Germany office of global law firm White & Case. He continues that when the target company’s assets are deemed critical, even M&A proposed by “totally benign investors” from jurisdictions with close ties to EU countries are being screened.

As governments aim to shield potentially transformative technologies from foreign acquirers — in areas such as quantum computing, advanced materials and synthetic biology — national FDI regimes in the EU are constantly evolving. 

In the wake of the first annual report into the EU-wide FDI screening regulation published in November 2021, experts say more co-operation on these issues across the bloc is broadly a positive development. 

But as the EU’s governing body and member states continue to balance investment promotion with technological sovereignty and the protection of national interests, buyers and sellers face a dynamic and increasingly complex dealmaking environment.

Diverse FDI regimes

The EU-wide screening framework has led to an expansion of national screening mechanisms since it was first proposed to the European Commission in 2017. Despite the number of member states with national FDI regimes increasing from 11 to the current 18, the types and number of deals that are assessed vary widely from country to country.

Since being fully implemented on 11 October 2020, the EU-wide FDI screening regulation has required member states to report their national screening activities to the European Commission and other member states. This reflects the premise that some FDI may pose a security or public order risk in more EU countries than just the member state in which the target company is based.

The Commission can then issue a non-binding opinion about the risk of certain FDI transactions to the screening member state within a 15-day period. But notifications sent to the Commission about FDI that is being screened is the preserve of only a small number of member states. 

“The problem of FDI screening is that we have such a diverse situation in Europe,” says Orion Berg, a partner in the France office of White & Case. 

More than 90% of the 265 transactions notified to the Commission in the period up to 30 June 2021 came from just five countries: Austria, France, Germany, Italy and Spain. The dominance of these member states is partially explained by the fact that companies based within their borders are among the most targeted by foreign investors, according to Refinitiv data. 

Meanwhile at the national level, just 20% of the nearly 1800 investments screened by member states in 2020 underwent formal screening, according to the European Commission. Even though the vast majority (91%) of the formally screened deals were approved, divergence between regimes is making dealmaking in the EU more cumbersome.

Mr Berg says it makes sense that FDI screening is much less harmonised across countries than merger control, which aims to block M&As that reduce competition in the EU single market. This, he says, is because FDI is inherently “very political” and driven more by national interest. 

Mr Kuhn agrees, noting that while member states have tried to align their national regimes with the EU-wide FDI screening regulation “it is extremely high-level”. He says some member states, such as Germany, use much narrower definitions of the industry and activities of target companies.

If you have a global deal that touches five or six different member states, it can be a procedural nightmare to align with all the different requirements

Michele Davis

“In lots of ways, the EU system is really inefficient for investors,” says Michele Davis, a London-based partner at global law firm Freshfields, who specialises in antitrust, competition and trade. This is particularly true if target companies have operations across EU borders. “If you have a global deal that touches five or six different member states, it can be a procedural nightmare to align with all the different requirements,” she explains.

Added complexity for dealmakers has come from the fact that all 27 EU member states are notified about every transaction across the bloc, no matter the deal size or the location of the target company. Ms Davis notes that some EU jurisdictions have been known to scrutinise deals even when there is no direct impact within their borders. 

Chinese–EU investment declines

While practitioners say most of their foreign investor clients view this added complexity as another cost of doing business, scrutiny on Chinese investors has deterred some from making deals in the EU.

The number of foreign M&A transactions in the bloc undertaken by investors whose ultimate owner is based in China fell by 63% in 2020, compared to a year earlier, according to figures cited by the European Commission.

“A lot of Chinese investment isn’t happening anymore, because Chinese investors are thinking there is no point in taking the risk,” says Ms Davis. 

Back in 2018, Ms Davis remembers speaking to Chinese investors at a conference in Beijing, where there was a lot of “nervousness” about whether their investment was still welcome. At the same time, she says EU diplomats were actively speaking to Chinese companies to reassure them and attract their investment. “It’s a really interesting balancing act for governments,” she adds.

Similar to divergence in national FDI regimes, Chinese acquisitions vary widely in different EU countries.

Germany has seen the steepest decline from a high of 49 in 2016 to 14 in 2020, according to Datenna. But that number is still higher than the combined total of 2020 Chinese transactions made in France, Italy and the Netherlands. 

Jaap van Etten, the CEO of Datenna, a data intelligence company that focuses on China, comments that without a nuanced appreciation of foreign governments’ strategic objectives, it is difficult for the EU to understand the behaviour of investors.

“Beyond introducing legislation that gives them the framework to screen these investments, authorities need a broader base of information from which they can make decisions,” he says. 

Mr van Etten notes that sectors of strategic interest, such as semiconductors, new energy and advanced materials, tend to have high levels of state influence. Despite intense scrutiny on critical technologies deemed to be strategic, some Chinese deals are still being approved in the EU. 

This includes the decision by Germany’s national competition regulator in April 2020 to allow Chinese manufacturing company CRRC to acquire Kiel-based locomotive business Vossloh.

Dual usage concerns

Klisman Murati, the founder and CEO of the London-based consultancy Pareto Economics, says that one driving force behind Chinese acquisitions of European technology has been the country’s dual-circulation development model. “They’re trying to gain the upper hand in technological innovation [through M&A],” he says.

Mr Kuhn stresses a need to distinguish between different types of Chinese investors, including state-owned enterprises, private companies and Hong Kong-based investment funds. Despite these differences, he says EU concerns over acquisitions of technologies tend to be the same. 

“The main concern is around civil-military integration of technology,” he says. “Everything is electronic and potentially dual-use. Access to technology, know-how and also production is something [EU governments] are very concerned about for all nations with whom they don’t have friendly diplomatic relationships.” 

Ms Davis agrees that dual-use is a key issue, adding that a lot of governments in the EU and elsewhere are also playing catch-up due to a lack of expertise in these new technologies.

“One of the challenges you see, when you advise on transactions in new technology sectors, is that some of the definitions that governments use are very prescriptive,” she adds. “To be able to sit down with a client and work out whether their particular business is caught by these regimes is quite difficult.” 

For Mr Berg, another key issue is the capacity for national competition authorities to monitor and screen large numbers of M&A deals, particularly with newly defined technology sectors. 

“Resources are a key issue,” he says, noting that just six people in France’s Ministry of Economy are tasked with monitoring hundreds of deals each year. Greenfield investments are unlikely to be included in the screening mechanisms any time soon due to these capacity challenges. But even amid constraints and FDI scrutiny on new technologies, such as the Photonis deal, countries remain open to attracting foreign capital.

“There is no intention, at least in France, to show hostility vis-a-vis foreign investments,” says Mr Berg.