In a Silicon Valley pitch investment meeting hosted by Chinese investors, an audience member asked the presenter whether CFiUS had approved or would approve the potential investment of the NorCal sensor company. The presenter replied in the affirmative. I actually knew that his comment wasn’t true. For any review by CFiUS, which is populated by a committee from about 15 different governmental agencies, the review process has to start by approaching them first and waiting for several months to get a reply after multiple meetings and discussions. I was impressed that the Chinese inquirer knew about CFiUS. What concerned me, if CFiUS had gotten wind of this sensor deal, it could have objected to the transaction. Given the Trump Administration currency stance against mainland China, I anticipate international technology transfers to be part of the trade wars between both nations. http://www.newsweek.com/2016/12/16/issue.html. Why, pray tell? http://www.law360.com/articles/867136/potential-increased-cfius-scrutiny-under-trump. http://www.law360.com/articles/823678/us-china-panel-queries-investment-accord-s-economic-upside.
Currently, China imports approximately 80% of the advanced technologies embedded in their export products. The Chinese government has allocated about US$150 million to accelerate its technology development within its borders regarding semiconductors and sensors. And that money is not simply for greenfield projects but also for M&A to accelerate technology adoption. If the Chinese government acknowledges that, if it can produce the very same technologies being imported, that technology chasm is bridged and improves the profit margins that provides this nation greater trade balance in their favor. Since Trump fears that the U.S.-China current trade imbalance is not politically supportable, this administration is certainly going to object to any technology transfers that broadens further that trade imbalance.
Why is China needs to pursue its M&A in technologies? Some of the foreign technology in semiconductors and sensors is superior to those developed within China. In the case of many sensors, the U.S. and European sensors are smaller and more efficient than those home grown. By acquiring superior foreign technologies, China can get a head start of its own.
But this battle is no longer between the U.S. and China. CFiUS has expanded its reach beyond the U.S. Recently, a German company’s acquisition by Chinese investors has been blocked by CFiUS. http://www.wsj.com/articles/cfius-again-objects-to-a-china-europe-deal-1479667577. That means that all of the costs, about 3%-5% of the deal value, associated with the M&A came to no avail. Not only is seller has to swallow its M&A costs but might lose “face” in further dealings with the Chinese.
How can the Trump Administration can expand its reviews of any deal that can impact “national security”? One recent Chinese wind farm acquisition was nixed by CFiUS in northwest America. Was it because of the wind farm technology that somehow or another impact U.S. security interests? We all criticize China’s environmental policies so such an acquisition might benefit the environment. Actually, the answer there is no. The approach here was more oblique: CFiUS claimed that the windmill farm overlooked a U.S. military complex for objecting the deal, although lost in appeal. http://www.defensenews.com/story/defense/policy-budget/industry/2016/02/22/cfius-chinese-interest-us-firms-case-surge-watchdog-panel/80777288/
From this example, one can conclude that CFiUS will investigate any angle that will lead it conclude that it might impact “national security”. I foresee an expansion of the oversight. For example, if the target company has contracts with DARPA, that might block the deal. Is the company manufactures ANY ingredient or product used by the military, then that fuels sufficient impetus to block that deal.
Note that CFiUS is another tool that impacts the transfer of international technology. In one of my earlier blogs, I even recite various other governmental tools that restricts certain activities or sale of products to certain countries. So the governmental oversight to control international transfer of technologies covers a) M&A, b) product sales, and c) behavior or business protocols (FCPA). Then you ask so what? What are my risks?
I enjoy using this actual example as to the bottom line impact – the $300 million dollar email. An aerospace engineer from a military contractor was sent an email from China’s aerospace program to determine why their rockets where blowing up. The U.S. engineer suggested by email for them to smooth out the external rivets in one email. The result? $300 million costs to deal with the U.S. government’s investigations and the full time employment of an ombudsman overseer.
The U.S. has multiple tools: fines, U.S. government contracts ban, and even criminal charges, in their penalty portfolio. The other costs are those sunk in preparing the deal that will be written off once CFiUS blocks the transaction. Here, it pays to be pounds-wise. A $100 million transaction will incur about $3-$5 million fees (3%-5%) charged by both accounting and legal firms. An earlier investment to screen for CFiUS decisions would be cost effective. White collar defense during criminal indictments is also costly. CFiUS deliberation turnaround times is about several months. Yet is far less expensive than a CFiUS adverse ruling.
I foresee more and more barriers to transfer international technology to targeted countries such as China and all within Trump Administration’s radar zone. It pays to look into these issues diligently when considering acquiring technology companies and transferring that technology offshore. All CxOs should be aware of the potential calamity that can occur when involved in such transactions. Yet, this crisis can be averted by due diligence and smart political gestures.