When Smithfield Foods CEO Larry Pope appears before the Senate Agriculture
Committee this week, senators will likely grill him on whether U.S. consumers
will be harmed by the proposed $4.7 billion sale to the Chinese firm Shuanghui.
Some members of Congress have
suggested the deal could hurt the
U.S. food supply, even though the meat will be exported.
It seems probable that the deal
will go through, but one hurdle is that it must receive approval from the
little-known Committee on Foreign Investment in the United States (CFIUS). As
foreign investment rises CFIUS, the federal committee created by President Ford that is barely known
outside Beltway and M&A circles, will only become more central to
investment by foreign firms. CFIUS’s opaque rules will reach even further into
deals from candy companies to technology portals.
For the past few years Mergers & Investments
Inquiries India, international interest in American companies has risen
dramatically. Dealmakers in China, Russia, Japan, Europe and elsewhere are
snatching up U.S. firms, real estate and other assets. In 2013, the U.S. claimed first place on the Foreign Direct
Investment Confidence Index after dropping to fourth last year. And as the
global economy continues to recover, overseas investors will be
spending more cash on mergers and acquisitions — from New York to Houston.
CFIUS reviews are also on the
rise. According to CFIUS’s Annual Report to Congress, the number of notices increased from 65 in 2009 to 111 in 2011, though
this was in part a function of the recession. The number of CFIUS
investigations has risen from 6 in 2007 to 40 in 2011. These inquiries into
more concerning transactions are supposed to last 45 days, but some go on for months.
Asia is particularly sensitive. Since 2007, CFIUS reviews of deals involving
Chinese firms have tripled. Reviews of Japanese firms have increased sevenfold.
Despite this boom, CFIUS divulges
little guidance or know-how to lawyers and companies navigating the regulatory
swamp. No opinion is ever explained. Neither is inaction. And companies can’t
challenge a CFIUS decision. That may have been understandable when foreign
investments were limited and Cold-War-era concerns were at work. Even though
there are still serious national security issues, now that global business
currents are inextricably tied to the U.S. economy, the committee’s unwieldy
structure and lack of transparency threaten to harm U.S. business interests by
delaying deals and holding back investors from bidding, which lowers U.S.
investment dollars.
Since the 1950s, the U.S. has
conducted national security clearance on acquisitions by foreign firms. CFIUS
was created by executive order in 1975, is chaired by the Secretary of the
Treasury and has representatives from 16 executive departments and agencies,
including Justice, Energy and Homeland Security. In 2007, it was amended by the
Foreign Investment and National Security Act, which mandated secrecy. The
legislation was passed in the wake of a Congressional uproar over whether the Bush
administration and, by extension, CFIUS adequately investigated a deal for a
state-owned company in the United Arab Emirates to buy a management firm that
operated six U.S. ports. The reform added layers to the regulatory scheme,
including a “critical infrastructure” review and “mitigation agreements” that
require parties to restructure aspects of a deal in exchange for clearance. So
it didn’t become all that easier for companies to predict how the process will
unfold and anticipate hurdles.
Much of the way CFIUS operates is
lore, rather than law. The terms that dictate the process are muddied. Some
CFIUS lawyers aren’t even sure when a deal might need to be reviewed. A company
files for review voluntarily, though the government can compel a review and
this is occurring more frequently. Any deal involving “control” of a U.S. firm
by a foreign individual can get scrutinized. As a result, “control” doesn’t
necessarily touch on national security in a traditional sense. CFIUS’s definition of “critical infrastructure” is broad.
It covers military weapons and technology, but also items used in computer
software, bioterrorism, natural gas and oil lines, oil reserves and refineries,
telecommunication and broadcast facilities, computers and IT products and
bridges and ports.
Once a deal is reviewed, the risk
analysis involves a three-prong test: Does the acquirer have an intent and
capability to threaten U.S. security? Can the assets being acquired be
exploited to the detriment of U.S. security? And what consequences would the
exploitation of assets being acquired look like? But the threat can be high and
the vulnerability minuscule. A candy company might pose a threat, but if the
assets can’t be exploited, the risk profile is low.
In fact, CFIUS guidelines can
change at a moment’s notice, with little warning. Last year, for example, CFIUS
began to broaden its review scope to include a target firm’s proximity to
national security facilities. Deals that have been in progress for years or are
completed can be scuttled based on location alone. Two years after the
Chinese-based Far East Golden Resources Investment Ltd. closed on its
acquisition of a majority stake in U.S. mining company Nevada Gold Holdings,
CFIUS launched an investigation because of the mining
company’s proximity to the Fallon Naval Air Station, even though the company’s
only business operations in 2011 was loaning money to the Chinese firm’s parent
company. The Chinese firm was forced to divest its interest.
For all the chatter in 2007 to
make CFIUS more transparent, it has blocked several high-profile deals with
little explanation. In 2010, Chinese firm Huawei Technologies bought the intellectual property of 3Leaf, a
software company, for $2 million. It didn’t file notice with CFIUS, which ultimately recommended that President Obama
block the transaction. Huawei divested its assets in 3Leaf and tried to
continue a dialogue with CFIUS. The House Intelligence Committee released a report urging U.S. businesses not to do
business with Huawei, whose equipment was blocked a few months ago from Sprint
and Softbank’s acquisition of Clearwire. Few know why.
Another case followed the same
trajectory. President Obama ordered Chinese-owned Ralls to divest from four
Oregon wind farms it had acquired that were located in airspace near a U.S.
Navy training facility. Ralls challenged the order in federal court, which
dismissed Ralls’ claims that the president lacked authority to order the
company to divest its assets. Ralls still claims it is entitled to a more
detailed explanation of the order.
While no one wants the U.S. to be
vulnerable to national security attacks, meddling in global business with
little guidance is akin to a parent who refuses to explain why television is
allowed, but the Internet isn’t. If CFIUS doesn’t reform, its legitimacy — and
the future of U.S. business — might be more threatened than the infrastructure
it was designed to protect.
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