Introduction
“Openness to trade and investment underpins Europe’s prosperity and competitiveness”. With this commitment to openness to trade and investment, the European Commission’s “White Paper on levelling the playing field as regards foreign subsidies dated 17 June 2020 (the “White Paper”) begins. However, the European Commission (the “Commission”) considers the current regulatory framework within the European Union to be insufficient to adequately guarantee fairness, predictable rules and a level playing field as preconditions for such openness. Subsidies granted by non-EU-authorities are identified as an important example of “state-sponsored unfair trading practices, which disregard market forces and abuse existing international rules”. The White Paper aims at initiating a broad public discussion on best ways to address identified distortions of the internal market created by foreign subsidies and to identify appropriate legal instruments. Comments on the White Paper could be submitted until 23 September 2020.
The China Chamber of Commerce to the EU reacted decidedly against the White Paper and the regulatory instruments it envisages. These were “unnecessary” and “lack[ed] a legal basis under the EU treaties”. The EU should refrain from creating new trade barriers.
The American Chamber of Commerce to the EU considers the Commission‘s concerns to be legitimate, but advocates adapting the existing regulatory regime for EU subsidies instead of introducing new procedures. It warns for longer procedures and discretionary decisions. Overall, it regards the suggested concepts as “very broad and vague”, an assessment that is shared by Business Europe, a business association representing companies in 35 European countries.
What exactly is it all about?
The Commission identified three fields (modules) of potential distortions in the European market by non-EU subsidies and makes suggestions on how to address these. The following provides for an overview of the White Paper, in particular the three modules.
Module 1: General instruments to capture foreign subsidies
Module 1 addresses foreign subsidies that cause distortions in the internal market and are granted to any undertaking that is established in or, in some instances, active in the EU.
For the purpose of the White Paper, the term subsidy is defined broadly in Annex 1 of the White Paper as a financial contribution by a government or any public body of a non-EU State, which confers a benefit to a recipient and which is limited, in law or in fact, to an individual undertaking or industry or to a group of undertakings or industries. It may include i.a. subsidies to facilitate acquisitions, tax reliefs, government debt guarantees, debt forgiveness and export financing. Foreign subsidies below a certain threshold shall not be considered to have a distortive effect on the internal market; the White Paper suggests a threshold of EUR 200.000 granted over a consecutive period of three years.
Module 1 would apply to foreign subsidies in all “market situations”, whether they benefit the production of goods, services or investments in the EU. “Acquisitions facilitated by foreign subsidies and/or market behavior by subsidised bidders in public procurement” processes would equally be covered. The question arises in that regard how Module 1 and Module 2 and 3 relate to each other, in case Module 2 or 3 are applicable; the White Paper does not provide for an answer to that question.
In order to assess a possible distortion on the internal market, the competent supervisory authority would be entitled to a two-step review procedure, consisting of a preliminary review and an in-depth review. The relevant authority should be equipped with adequate investigative tools to conduct the review. If the investigated parties do not cooperate sufficiently, the supervisory authority may take its decision on the basis of the facts available.
Should the supervisory authority – after weighing of interests – conclude that the scrutinized foreign subsidy distorts the European market, the party can commit to mitigate the distortion or the authority can impose structural remedies or redressing measures on the party such as:
- divestment of certain assets;
- prohibition of certain investments;
- probation of the subsidized acquisition;
- third-party access to a certain asset;
- licensing on fair, reasonable and non-discriminatory (FRAND) terms;
- prohibition of specific market conduct linked to the foreign subsidy;
- publication of certain R&D results, or
- redressing payments.
In case the supervisory authority in the weighing of interests concludes that the subsidized activity or investment has a positive impact on EU’s public policy objectives (such as creating jobs, achieving climate neutrality and protecting the environment, digital transformation, security, public order and safety and resilience) which outweighs the distortion, the authority may decide to no longer pursue the investigation.
Module 2: Foreign subsidies facilitating acquisition of EU targets
Module 2 intends to specifically address distortions caused by foreign subsidies facilitating acquisitions of EU targets. It aims at ensuring that foreign subsidies do not give an unfair advantage to their recipients when acquiring (stakes in) other undertakings. Relevant advantages can be granted either (i) directly by providing a subsidy explicitly linked to a given acquisition to an undertaking or (ii) indirectly by de facto increasing the financial strength of the acquirer.
In terms of scope, Module 2 does not only cover transactions that lead to the acquisition of a controlling interest in a EU target, but also transactions below such threshold which allow a material influence in the undertaking by way of acquisition of a – yet to be defined – percentage of shares or voting rights or otherwise. In order to target potentially problematic cases, the Whiter Paper suggests introducing a threshold which a transaction should satisfy in order to become subject to any review procedure. It is suggested that such threshold could be a qualitative threshold referring to all assets likely to generate significant EU turnover in the future and/or a quantitative threshold set with reference to the value of the transaction. A threshold with a view to turnover is suggested to amount to EUR 100 Million turnover. In terms of timing, the review shall only apply to financial contributions by any third party authority that have been received in the past three years or are expected to be received in the coming year (following closing of the transaction).
Under Module 2 subsidized transactions of an EU target shall be subject to a notification obligation. However, in the event the acquirer does not comply with the notification requirement, the supervisory authority may review the transaction ex officio.
The review procedure follows a two-step approach: In a first step, the supervisory authority would review certain basic information on the acquiring and target undertakings (provided to it in the context of the notification) in order to assess whether or not to open an in-depth investigation (i.e. the second step). An in-depth investigation shall be opened, if the supervisory authority has sufficient evidence tending to show that the acquiring company could have benefitted from foreign subsidies facilitating the acquisition.
For as long as the review is ongoing, the transaction would be subject to a standstill regime, meaning that the transaction could not be closed as long as the review is ongoing.
If the supervisory authority eventually concludes – as well as under Module 1, after weighing of interests – that the foreign subsidiary facilitates the acquisition and distorts the internal market, it could (i) adopt a conditional clearance accepting certain commitments offered by the acquirer as legally binding, provided such commitments effectively remedy the identified distortions or (ii) if no remedy by way of commitments is available, the supervisory authority could adopt a decision prohibiting (or rewinding) the transaction. If eventually no distortion is perceived or any perceived distortions are outweighed by any positive impacts of the subsidised activity or investment, the supervisory authority could decide not to object the acquisition.
Module 3: Foreign subsidies in the context of public procurement
In public procurement processes foreign subsidies can award an unfair advantage to bidders with regard to EU public procurement processes and distort competition, e.g. by enabling the recipient of the subsidy to submit an offer that would – without the subsidy – be economically less sustainable, e.g. in case of bidding significantly below market price or below cost.
Module 3 proposes a mechanism to address such potential distortions. For such purpose, bidders participating in public procurement procedures shall be required to notify to the contracting authority when submitting their bid, whether they (or any of their consortium members, subcontractors or suppliers) have received a financial contribution from any non-EU authority within the last three years or whether such contribution is expected to be received during the execution of the contract. Thresholds and additional conditions for notifications should be introduced to make sure that any review focuses on the most relevant cases.
Having examined the completeness of the notification, the contracting authority shall transmit the notification to the competent supervisory authority to investigate the information and assess the existence of a foreign subsidy. The investigation will be carried out in a two step procedure, namely a preliminary review and an in-depth investigation. An in-depth investigation is opened, if the competent authority concludes that a foreign subsidy may exist.
In order to avoid delays in the procurement procedure, the White Paper suggests that short review periods should be provided for. It is proposed to allow 15 working days for the preliminary review and not more than 3 months for the in-depth review. During the review period, the contracting authority is barred from awarding the contract to the investigated bidder.
If the supervisory authority concludes that there is a foreign subsidy it will communicate such assessment to the contracting authority which will assess whether that subsidy has distorted the public procurement procedure. If so, it will impose redressing measures on the subsidized operator. Redressing measure consist of an exclusion of the subsidized bidder (i) from the ongoing public procurement procedure and (ii) subject to further preconditions, also from future procurement procedures before that authority for a maximum period of (suggested) three years.
Foreign subsidies in the context of EU funding
The White Paper lastly proposes measures to ensure that EU funding does not contribute to favor companies that have received distorting foreign subsidies vis-à-vis other companies. All economic operators should compete for EU funding support on an equal footing. Foreign subsidies can distort this process by putting recipients of such subsidies in a better position than other applicants.
The White Paper specifically targets EU funding in the context of procurement and grants. Among others, in case of funding provided through procurement processes or grants, a procedure similar to the one applicable to EU public procurement procedures should apply. To the extent funding is managed by the EU, redressing measures would consist of the exclusion of the company from (ongoing or future) procurement or grant processes if there is evidence that it has received a foreign subsidy with a distorting effect.
Outlook
At first sight the aim of the White Paper seems comprehensible and legitimate. The current regulatory framework in the EU could be viewed as being insufficient to address perceived distortions for a level playing field created by foreign subsidies. In particular, merger control might not be an appropriate tool to handle such level playing field concerns. The purpose of EU merger control rules is to review whether an acquisition will materially impede effective competition, irrespective of the country of establishment of the acquirer and basically regardless of the origin of subsidies received to facilitate an acquisition. The legal framework for foreign direct investments mainly focuses on potential threats to public order and security. At second sight however, the White Paper reveals the risk of setting up protectionist barriers for non EU investors given the wide (almost undefined) scope what might qualify as a subsidy.
As a White Paper, the proposal presented by the Commission, only serves the purpose of a discussion paper for a potential regulatory proposal. It is not surprising that many details, in particular procedural questions have been left open; however, eventually, the concrete design of procedures will be decisive in determining whether the regulatory idea presented will ultimately become a practicable instrument that also meets legitimate concerns of non-EU parties. Inter alia the Commission will – in addition to any comments received during the public consultation process – have to answer the following queries prior to presenting any draft legislation:
- How do the suggested Modules 1 to 3 exactly relate to each other?
- How would any review procedures suggested under Module 1 to 3 relate to existing review procedures, in particular the foreign direct investment review and merger review?
- Which authorities shall be competent to conduct any review suggested? Are competences bundled at EU level or allocated nationally? In the case of parallel competence – how would the cooperation be organized?
- What types of transactions will exactly be covered? Which thresholds will be established?
- To which extent will any decision by the competent supervisory authority be discretionary?
- How is the Commission assessing the possible decrease in competition in the EU by the potential exclusion of non-EU parties and the possible increase of respective procured services and goods as well as potential decrease of asset prices, both leading to a distortion of free market price determination?
- How is the Commission preparing for expected counter-measures of non-EU jurisdictions?
- Assuming the suggested proposals materialize in binding legislation, significant regulatory constraints will be imposed on undertakings benefitting from foreign subsidies. In particular, the execution and implementation of international transactions will become more complex and uncertain.
In M&A procedures, acquirers will be required to conduct (ideally have prepared upfront) an internal due diligence to identify whether any entity within the acquirer group has received (or is about to receive) a foreign subsidy for purposes of facilitating the acquisition. This investigation of the investor’s financial resources will be required to properly assess any notification requirement and will be particularly challenging for large corporate groups, also taking into account the broad definition of the term “foreign subsidy” suggested in the White Paper.
From an organizational point of view, acquirers will have to comply with the new notification requirement, which comes on top of the merger clearance filing and potentially any notification requirement under applicable FDI regimes.
The proposed new rules will also make it more difficult to ensure the certainty and speed of transactions. The harmlessness of the subsidy will have to be included as a further closing condition of the sale and purchase agreement; it will thus be added to the existing closing conditions of merger clearance and clearance under applicable FDI regulations.
Even if it will be months, if not years, before any legislation is proposed or even made, it certainly is recommendable to keep a close eye on the issue and to follow it up. Companies that have no proper internal processes in place to record any financial contributions by non-EU governments or public bodies, should consider establishing such processes rather sooner than later.
