On 19 December 2020, the National Development and Reform Commission (“NDRC”) and the Ministry of Commerce (“MOFCOM”) jointly released the “Measures for the Security Review of Foreign Investment (《外商投资安全审查办法》)” (the “Measures”), which will become effective from 18 January 2021. The issuance of the Measures is a clear signal that the Chinese government is taking a more active approach in relation to national security review on foreign investments (“NSR”).
In this article, we will briefly explain the background of the promulgation of the Measures, introduce the main contents from both substantive and procedural perspectives as well as discuss the potential impacts upon future foreign investments in China.
According to the NDRC’s spokesperson, the Measures were promulgated against the following background:
- Based on 10 years of experience in national security reviews (“NSR”) in China: Back in February 2011, the General Office of the State Council issued the Notice on Establishment of Security Review System Pertaining to Mergers and Acquisitions of Domestic Enterprises by Foreign Investors (《国务院办公厅关于建立外国投资者并购境内企业安全审查制度的通知》) (the “Notice”) . This marked the genesis of China’s NSR regime. Although few cases of NSR have been made public, the Chinese authorities have accumulated experience in conducting NSR in the last 10 years.
- Fleshing out requirements set out in the Foreign Investment Law: The Foreign Investment Law of the PRC (《中华人民共和国外商投资法》) , which became effective on 1 January 2020 set in place formally that the NSR would become a feature of China’s foreign investment regulatory regime. Since then, foreign investors and other interested parties have been awaiting details as to how NSR will be implemented in practice.
- Responding to recent developments of NSR in other major jurisdictions: In recent years, major jurisdictions, including the U.S., European Union, India, Australia, Germany, Japan and UK, have either enacted or further expanded the scope of their existing NSR related laws. COVID-19 has also greatly heightened both economic and security concerns on the part of governments around the world. The promulgation of the Measures is also a response by China to the fast changing regulatory landscape worldwide.
Main Contents of the Measures
The Measures consists of 23 Articles detailing:
(1) Review Authority of NSR
According to the Measures, the State will establish a working mechanism office (工作机制办公室)(the “NSR Office”) which shall be responsible for organizing, coordinating and guiding NSR in respect of foreign investments. The NSR Office will be set up under and led by NDRC whereas NDRC and MOFCOM jointly undertake routine NSR work.
Based on our experiences, NDRC and MOFCOM may also consult with competent industry regulators that are relevant to specific transactions. These may include, amongst others, the Ministry of Agriculture, Ministry of Industry and Information Technology, the People’s Bank of China, China Securities Regulatory Commission etc. In such cases, NDRC and MOFCOM are likely to carry out the NSR review in conjunction with the relevant regulators.
(2) Scope of Transactions Covered by the NSR
The Measures provide that the following types of transactions will fall within the scope of the NSR:
(a) any foreign investment in a new project or establishment of new enterprise in China alone or jointly with other investors;
(b) any foreign investor’s acquisition of equity or assets of a domestic enterprise through merger or acquisition; or
(c) any foreign investment in China through any other measure. 
(1) Compared with the rules set out by the Notice and the Security Review Provision (together the “Previous Rules”), the Measures expanded the types of transactions falling within the scope of NSR. Under the Previous Rules, acquisition of domestic enterprises by foreign investors are subject to NSR if the transaction impacts national security. The Measures are broader and apply to all foreign investments in China, whether directly or indirectly and regardless as to whether the target is a foreign-invested-enterprise (“FIE”) or domestic enterprise. It should also be noted that the scope is not limited to M&A transactions, but will also apply to green-field projects.
(2) The Measures have a catch all provision “foreign investments in China through other measures”. The Previous Rules provide that foreign investors shall not evade the NSR by means of nominal shareholders, trust, multiple-layer investment, lease, loan, control agreement, offshore transactions, etc. We understand that a similar approach may be taken under the Measures, e.g. control by agreement / variable interest entity (“VIE”) structure or reinvestment through a foreign invested enterprise would fall within the scope of NSR.
(3) Industry Sectors Covered by the NSR
The Measures separate industry sectors caught within the NSR into two categories:
Any foreign investment will be subject to NSR (regardless control or not)
Investments resulting in the target being foreign controlled will be subject to NSR
Military industrial supporting facilities or other fields relating to the security of national defence;
Investments in areas surrounding military facilities and military industry facilities.
Critical agricultural products;
Critical energy and resources;
Critical equipment manufacturing;
Critical transport services;
Critical cultural products and services;
Critical information technology and Internet products and services;
Critical financial services;
Other critical fields relating to national security.
(1) In addition to the industry sectors covered by the Previous Rules, the Measures add the following new areas to the NSR’s scope: critical information technology and Internet products and services, critical financial services and critical cultural products and services. However, the Measures do not set out a clear definition of these sectors and thus, as is typically the case, leave a wide discretion to the regulators in interpreting their scope.
(2) The assessment whether a target will be “controlled” by foreign investors will rest on the following “actual control” standards: (a) if the foreign investor holds more than 50% equity in the target; or (b) if the foreign investor holds less than 50% equity but exercises significant impact in the board of directors, board of shareholders or general meeting of shareholder by means of voting rights; or (c) other circumstances where the foreign investor may have a significant impact on the target’s business decision-making, human resources, finance, technology etc. This seems to be even wider than the control standards under China’s merger control regime.
(4) Initiation of the NSR and the Reviewing Procedure
The NSR Office can accept filings by the parties, but can also initiate requests to the parties to make a filing if the NSR Office considers the transaction falls within the NSR scope.
Parties cannot close a transaction during the review procedure. In the event the transaction has been closed before a review decision is made, the NSR Office has authority to unwind the transaction or order divestment.  It is noteworthy that, there is no time limit for the Office to investigate or prohibit the transaction if it has impacts to the national security.
After receiving the application from the parties, the NSR Office has 15 working days to decide whether the transaction is subject to NSR. If the transaction is subject to NSR, the NSR Office will have 30 working days under the general procedure, and further 60 working days (with a possible extension) under the special procedure. For the detailed procedure, please see below the flowchart.
The procedure rules in the Measures substantially follow the rules that are currently in place. In practice, for transactions with national security concerns, the review time can be much longer, as the time spent by the parties in preparing supplemental submissions or in amending the investment plan is not counted.
Compared with Previous Rules, the Measures introduce new mechanisms such as a pre-filing consultation mechanism (Article 5), whistle-blower mechanism (Article 15) and joint disciplinary mechanism (Article 19). These new mechanisms show the Chinese authorities are stepping up efforts in NSR enforcement.
(5) Possible outcomes of NSR decisions
The Measures provide the following outcomes for NSR decisions:
- Approval: If proposed foreign investment does not impact national security, then the transaction will pass the NSR.
- Prohibition: If the proposed foreign investment is considered to have an impact on national security, then the NSR Office may prohibit the investment.
- Approval with conditions attached: If the NSR Office considers that an impact to national security could be eliminated by attaching conditions, then the parties may commit in writing to accept such conditions and the NSR Office may conditionally approve the transaction.
At present there is no public precedent of a conditional NSR approval in China. It remains to be seen how NDRC and MOFCOM will impose conditional approvals in practice. However, considering the legal enforcement in similar fields in China (e.g. for merger control review from an antitrust perspective) and the practice of NSR regime in other major jurisdictions, we expect likely conditions may include the following:
Impacts on Foreign Investments to China:
The Measures pledge any further foreign investments that may impact national security will be subject to greater scrutiny by Chinese authorities. This echoes the global movement towards adopting more stringent review regimes. However, it is worth noting that the Measures are actually far less onerous than regimes in many other jurisdictions. Not only is the list of affected sectors more narrowly defined, but the control standard to be met for most of the investments falling within the NSR scope is also relatively high in comparison with regimes in other jurisdictions. Accordingly, for the vast majority of the foreign investments in China, the direct impact upon such foreign investments would likely be modest.
But for players whose business are relevant to the affected areas, NSR will no doubt add complexity to doing transactions in China, by not only impacting the deal timeline, but also giving rise to uncertainty in deal closing and potential conditions to be imposed. The recent popular sectors for investments such as technology, internet, and financial services may well be captured by the expanded scope of the Measures. Given the broad-brush approach of the Measures and the NSR Office’s wide discretion, investors are well advised to conduct a thorough NSR assessment for transactions and ensure compliance with NSR filings.
Xu Ping, Liu Cheng, Mark, Li Yumeng, Corporate & Commercial Group, King & Wood Mallesons
We’d like to thank Torres Nicholas Louis (Nick) and Ye Hongtao for their contribution for this article.
 Measure for the Security Review of Foreign Investment (《外商投资安全审查办法》) (Decree No.37 of the National Development and Reform Commission and the Ministry of Commerce) promulgated by the National Development and Reform Commission and the Ministry of Commerce on 19 December 2020.
 See Completing the Security Review of Foreign Investment to Protect a Higher Level of Opening-up – Answering Reporters’ Question regarding the Measures on Security Review of Foreign Investment by the Head of the Office of Foreign Investment Security Review (《健全外商投资安全审查制度 为更高水平对外开放保驾护航——外商投资安全审查工作机制办公室负责人就<外商投资安全审查办法>答记者问》), https://www.ndrc.gov.cn/xwdt/xwfb/202012/t20201219_1255024.html
 After that, MOFCOM issued the Provisions on Implementation of Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors (《商务部实施外国投资者并购境内企业安全审查制度的规定》) (“Security Review Rules”) which provided more detailed procedural rules for NSR. These rules basically set up the legal framework of China’s NSR regime.
 Foreign Investment Law of the People’s Republic of China (《中华人民共和国外商投资法》) (Presidential decree No.26) promulgated by the Standing Committee of the National People’s Congress
 See Article 3 of the Measures.
 See Article 2 of the Measures
 See Article 8 of the Measures.
 See Article 12 of the Measures.