We cover in this article two aspects on the prevention of leaking intellectual property rights (among which trade secrets, hereafter “IPR”) to foreign countries or entities through FDI (Foreign Direct Investment[efn_note]the act of establishing or acquiring a foreign subsidiary over which the investing firm has substantial management control’ (Keith E. Maskus, “Rights in Encouraging Foreign Direct Investment and Technology Transfer“, Duke Journal of Comparative & International Law, 1998, p. 109)[/efn_note]: do we need a European Screening Authority similar to CFIUS in the US and which role – if any- plays IPR in screening procedures of FDI in Europe?
“Leaking” of Intellectual Property to a Foreign Country or Company
“Leaking” is not a very precise nor a legal term, so let us elaborate. Acquisition IPR can take place via different methods, e.g. through a sale of IPR assets, a merger[efn_note]Company A with patents merges with Company B, which has no patents, so the merged Companies own the patents of A.[/efn_note]with a company holding IPRs, obtaining an exclusive license to practice an IPR, technology transfer, an asset swap[efn_note]see e.g. swaps in life sciences industries (GSK/Novartis), “The Life Sciences Asset Swap Opportunity, Difficult to achieve but worth the effort?” KMPG Ireland 2018.[/efn_note], a venture capital firm’s investment in a company holding IPRs, acquiring exclusive litigation rights of a so-called “NPE” (Non-Practicing Entity[efn_note]is someone who holds a patent for a product or process but has no intentions of developing it.[/efn_note]) or, more generally formulated, through an “investment” in a company holding IPR assets.
Screening FDI in energy, communications, infrastructure, defense, food supply, and other essential areas
Acquisition of IPRs in crucial areas like energy, defense, communications, food supply, infrastructure, etc. through FDI is in need of special scrutiny. A party who wants to get access to so-called “standard essential patents” (SEP) may do so as he wants to bring a product on the market that uses particular IP rights necessary to practice that technology. These patents are declared “essential” for crucial technologies by industry organizations like e.g. ETSI, one of the “Standard Developing Organizations”. In those cases, development and innovation cannot be hampered by exclusionary rights (like an IPR). However, acquisition of SEPs by a foreign company linked to a country with security concerns raises eyebrows (and more than that).
Surge in political interest in FDI
Political interest in FDI- especially by China or Chinese companies – in European technology companies has recently surged [efn_note]The Diplomat, “Mapping China’s Investments in Europe. The last eight years have seen a paradigm shift in Chinese investments in Europe“ (March 2019)[/efn_note]. In such cases, the question comes up if and how Europe pays attention to potential “leaking” of intellectual property (among which trade secrets) to foreign, potential adversary, companies, or countries.
Europe vs. US
We will see below how, sadly, Europe, unlike the US, pays way too little attention to intellectual property aspects in screening of foreign investments in Europe.
Mostly EU countries have been preoccupied with screening of foreign investments into “strategic” areas, like telecom (e.g. 5G network development by Huawei) based on security concerns. European practitioners also seem to focus only on security issues. Intellectual property is a no-brainer. From none of the reports on the EU-China Summit of April 9, 2019, it appears that intellectual property has been on top of the list of subjects discussed. The only reference to IP was – again – in relation to the (Chinese Huawei originated) 5G network, called “ICT enabled” theft of IP[efn_note]In The Netherlands in 2018 a new law was proposed and sent to the Council of State (Raad van State) (“Wetsvoorstel Ongewenste zeggenschap telecommunicatie“) to protect telecom companies from “unwanted” foreign investments or takeovers).[/efn_note].
5G, driverless vehicles, Internet of Things
In general those concerns concentrate on security fears that Huawei (and ZTE) may undermine and endanger 5G networks, future, cutting-edge industries like driverless vehicles and the Internet of Things as they all depend on critical technology, and any action that threatens our 21st-century industries from developing and deploying 5G would undoubtedly undermine national and economic security.
Mostly EU countries have been preoccupied with screening of foreign investments into “strategic” areas, like telecom (e.g. 5G network development by Huawei) based on security concerns. European practitioners also seem to focus only on security issues. Intellectual property is a no-brainer. From none of the reports on the EU-China Summit of April 9, 2019 it appears that intellectual property has been on top of the list of subjects discussed. The only reference to IP was – again – in relation to the (Chinese Huawei originated) 5G network, called “ICT enabled” theft of IP1In The Netherlands in 2018 a new law was proposed and sent to the Council of State (Raad van State) (“Wetsvoorstel Ongewenste zeggenschap telecommunicatie“) to protect telecom companies from “unwanted” foreign investments or takeovers). In general those concerns concentrate on security fears that Huawei (and ZTE) may undermine and endanger 5G networks, future, cutting-edge industries like driverless vehicles and the Internet of Things as they all depend on critical technology, and any action that threatens our 21st-century industries from developing and deploying 5G would undoubtedly undermine national and economic security.
5G, Huawei and Security Concerns in The Netherlands
The subject of protecting trade secrets came up in The Netherlands on April 11, 2019 when the Dutch newspaper Het Financieele Dagblad reported on the theft of trade secrets by Chinese employees of a US subsidiary of Dutch lithography maker ASML. Many – unproven – allegations were made of the involvement of the Chinese government in this 2018 trade secret theft. As usual in Dutch politics, “concerns” were raised (mostly based on shaky assumptions).[efn_note]like the assumption that the Chinese Government was behind the stealing of lithography know-how (trade secrets) whereas no proof was there for such an allegation, according to ASML.[/efn_note] Semiconductor technology is considered cutting edge which both the US and Europe consider this to be vital for their national interests.
China sees importance of IPR screening
Strikingly, China has established, in early 2018, a policy that seeks to address the concerns that international transactions lead to an undesirable transfer of intellectual property that may threaten the country’s essential security interests.[efn_note]see an OECD document “Acquisition- and ownership-related policies to safeguard essential security interests New policies to manage new threats” a research note on current and emerging trends, prepared for participants in an OECD conference on this subject, held on March 12, 2019, Paris, France).[/efn_note]
So how should intellectual property be handled in cases where Chinese companies (or foreign non EU companies for that matter) engage in foreign direct investment (“FDI”) in EU companies (inward investments)?
The US: CFIUS and FIRRMA
The US have two mechanisms to control FDI: CFIUS (US Committee on Foreign Investment in the United States) and FIRRMA (Foreign Investment Risk Review Modernization Act).
Although the CFIUS screening officially also concerns security, intellectual property concerns have been part of CFIUS proceedings. CFIUS blocked in 2011 Chinese telecommunications company Huawei Technologies Ltd. from acquiring the cloud computing-related technology of and hiring employees from, insolvent US firm 3Leaf Systems.
Protecting U.S. intellectual property has been a cornerstone in President Trump’s foreign trade agenda. He considers CFIUS essential to this effort, saying in a White House Statement that the (CFIUS) committee “better protects the crown jewels of American technology and intellectual property from transfers and acquisition that threaten our national security—and future economic prosperity.”
US: National Defense Authorization Act (” NDAA”)
In August 2018 he signed into law[efn_note] https://www.csis.org/events/putting-firrma-practice-what-cfius-reform-means-foreign-investment-united-states [/efn_note]major changes in CIFIUS and related laws like the National Defense Authorization Act (“NDAA”), which included the Foreign Investment Risk Review Modernization Act of 2018 (“FIRRMA”). FIRRMA, in essence, codifies certain existing CFIUS practice with respect to some transactions involving US companies, expands CFIUS’s jurisdiction to address national security threats due to the use of investment structures that previously have been outside of CFIUS jurisdiction like for example intellectual property. FIRRMA authorizes CFIUS to review certain non-controlling investments by foreign companies in certain critical technologies and transactions relating to intellectual property. So basically “security” has become in the US the umbrella for a wide area of trade practices to control any foreign investment in the US including transactions relating to intellectual property.
Although focused on IPR and cyber security Deborah Halbert describes in her 2015 article “Intellectual property theft and national security: agendas and assumptions” [efn_note]The Information Society , An International Journal, Volume 32, 2016 – Issue 4[/efn_note] the U.S. government’s efforts to establish and articulate intellectual property theft as a national security issue.
US Foreign Investment Risk Review Modernization Act of 2018
FIRRMA expanded the scope of “covered transactions” subject to CFIUS review to include not only the foreign acquisition of control of a U.S. business but also:
- any “non-passive” investment by a foreign person in “critical technology” or “critical infrastructure” companies (meaning, control would no longer be the threshold).
- a contribution by a U.S. critical technology company of intellectual property and associated support to a foreign person through business arrangements like joint ventures (as opposed to commercial transactions).[efn_note] Winston & Strawn, “Foreign Investment and Acquisitions: CFIUS Considerations for Deals in 2018“, April 2018.[/efn_note]
So under US law, technology transfer and data security risks can potentially be mitigated without rejecting acquisitions in their entirety. Key technologies and intellectual property can be carved out of foreign acquisitions as part of the FDI screening process or addressed through appropriate governance arrangements[efn_note]The United States Studies Centre, “Deal-breakers? Regulating foreign direct investment for national security in Australia and the United States“, July 2018.[/efn_note].
What is Europe doing with IPR FDI screening ?
This brings us to the question what the situation is in Europe[efn_note]For an overview of FDI legal arrangements in UK, France, Germany, Ireland, Italy, Portugal and Spain, see: The Law Reviews (UK), “The Foreign Investment Regulation Review – Edition 6“.[/efn_note]. How can Europe better protect intellectual property against foreign investors as a matter of national security?
Chinese businesses have increased and diversified their direct investment at an exponential rate throughout Europe. In Germany alone, the increase was ten-fold in 2016 compared to 2015. Since the 2008 financial crisis, Chinese investments in the EU have jumped tenfold, from roughly €2 billion in 2009 to almost €20 billion in 2015. Last year alone, China’s foreign direct investment (FDI) in Europe reached over €35 billion. That is another 77% increase compared to 2015 and a more than 1,500% increase compared to 2010[efn_note] Rasmussen Global, “Foreign Investment Screening and the China Factor, “New protectionism or new European standards?“.[/efn_note].
In 2004, Germany enacted a regime empowering the German government to assess and prohibit the acquisition of German businesses active in the defense and encryption sector by Non-German investors. This regime, known as sector-specific review procedure, was broadened in 2009 to cover acquisitions of any German company irrespective of industry sector, provided that such acquisition may endanger German public order or security[efn_note]Allen & Overy, “German government lowers FDI screening threshold for certain industries“ (2018), no “intellectual property” mentioned though.[/efn_note]. The German government tightened the foreign trade ordinance in July 2017. It introduced the obligation to notify authorities of company takeovers in certain sectors of the economy in the area of critical infrastructure. At the same time, the list of sectors in which takeovers are subject to approval was expanded to include “key technologies”. In December 2018, the German federal government lowered the threshold for screening and prohibiting investments from third countries in the area of critical infrastructure from 25 per cent to 10 per cent[efn_note]BDI (The Voice of German Industry), “Investment Screening in Germany and Europe” (March 2019).[/efn_note].
Fundamental Public Interests
In Germany, before an FDI can be blocked, the risk (to public policy or security in Germany) has to be actual and sufficiently important and affect “fundamental public interests”, general economic-political goals or merely protectionist considerations do not justify the restriction or prohibition of a transaction.
The United Kingdom does not currently have a domestic legal framework that specifically governs inward foreign direct investment (FDI). Neither is there a formal policy distinction between domestic and foreign investment in the United Kingdom. On 24 July 2018, the UK government published the National Security and Investment White Paper, containing proposals for a new, voluntary, national security review regime. The UK Department for Business, Energy and Industrial Strategy held consultations in 2018, the feedback from which has yet to be published.
The UK is the first European country to set up IPR FDI screening
The UK is, therefore, the first – and as far as we can see for the moment the only – European country that explicitly specifies (in detail as can be seen from the highlights in the consultation document[efn_note]https://www.ipeg.com/wp-content/uploads/2019/04/UK-consultation-paper-FDI_Highlighted-by-IPEG-1.pdf[/efn_note] which IP related “assets” and IP transactions in FDI qualify for national security screening. Once the new UK review regime has been implemented, parties will be encouraged to notify the government of ‘trigger events’ that they consider may raise national security concerns., which “events” allow the government to review transactions in a much wider range of circumstances as compared with the current regime.
The trigger events proposed include
- acquisition of more than 25 per cent of an entity’s shares or votes
- significant influence or control over an entity
- further acquisitions of significant influence or control over an entity beyond these thresholds
- acquisitions of more than 50 per cent of an asset
- significant influence or control over an asset.
To prevent the reforms being subverted or evaded, the proposed legislation would also allow the UK Government to scrutinize the acquisition of control over real and personal property, intellectual property and contractual rights when this might raise national security concerns. The definition of ‘asset‘ includes real and personal property, intellectual property and contractual rights.
In EU FDI screening is matter of national laws
For the moment screening of FDI’s in other EU member states is a matter of national laws. There is currently no EU-wide mechanism to address national security-specific concerns about an investment in one or more EU member states. “Security” has been generally defined as national security, mostly related to ICT investments, allowing foreign countries to intrude in ICT and defense systems. We have seen no examples of transactions, mergers or other investment related transactions that have been blocked due to intellectual property concerns.
No European Screening Decisions of FDI based on FDI (yet)
As per the date of this article, we are unaware of any transaction which have been screened in Europe (inter alia) on the basis of leaking essential intellectual property, let alone blocked by any EU member, invoking a threat to national security, based on intellectual property concerns. IP is, unlike the US, not a cornerstone issue in European trade talks (with China for example), nor in screening of FDI in Europe. IPR is mostly marginally mentioned, unlike the US, where IP is a key issue in trade talks with third countries and screening of FDI alike.
Which EU countries currently have FDI screening procedures?
Thirteen countries out of the 28 EU member states maintain processes to review the national security impact of foreign investments (see Figure 1 below):
EU Commission Regulation introducing a screening framework
On 13 September 2017, the European Commission adopted a proposal for a regulation establishing a framework for screening foreign direct investment (FDI) inflows into the EU on grounds of security or public order. This led on March 19, 2019 to EU Regulation 2019/452 “establishing a framework for the screening of foreign direct investments into the Union”. The Regulation will come into force on October 11, 2020.
The Regulation is a paper tiger. It does not require EU Member States to adopt or maintain a FDI screening mechanism, national security remains in the sole domain of each member state[efn_note]Art 4 (2) TEU: “(…) In particular, national security remains the sole responsibility of each Member State“[/efn_note]. It only requires the EU Member States with a national screening mechanism to provide the Commission with “annual reports” on investment screening, while EU member states without national screening mechanisms must only annually “report” FDI events to the EU Commission that have taken place on their territory. Besides notification and information requirements, the proposal provides for the possibility for EU member states as well as the Commission itself to “express their views” on proposed and completed FDI in an EU member state if this is likely to affect its security or public order.
Aim of EU: Increase awareness
Basically all that the Regulation does is aiming for an increased awareness the importance of FDI screening, in particular amongst EU Member States who do not have FDI screening mechanisms of their own[efn_note]Bird & Bird, “Screening of FDI – EU and national developments“ (Brian Mulier, Goran Danilovic, Dick Ignacio). See also Loyens Loeff (Ewout J. Stumphius and Wouter Kros), “European Parliament approves framework for screening of foreign direct investments into the EU”.[/efn_note].
For one, the words “intellectual property”, “trade secrets” or “theft” are absent in the text of the new Regulation. So it comes to the question: does the new Regulation give support to the view that (fear of) intellectual property theft can be taken into account in any FDI transaction screening based on national security?
According to article 4 of the Regulation, the following factors may (sic!) be taken into consideration by the Member States or the Commission in deciding whether an FDI is contrary to “security or public order”, “inter alia:
- critical infrastructure, whether physical or virtual, including energy, transport, water, health, communications, media, data processing or storage, aerospace, defense, electoral or financial infrastructure, and sensitive facilities, as well as land and real estate crucial for the use of such infrastructure
- critical technologies[efn_note]emphasis added[/efn_note] and dual-use items (…) including artificial intelligence, robotics, semiconductors, cybersecurity, aerospace, defense, energy storage, quantum, and nuclear technologies as well as nanotechnologies and biotechnologies
- supply of critical inputs, including energy or raw materials, as well as food security
- access to sensitive information, including personal data, or the ability to control such information, or
- the freedom and pluralism of the media.”
Notice that a sentence like “harm to the intellectual property on essential technology” -or wording to this effect – is not used. So this bears the question whether a foreign investment is likely to affect security or public order[efn_note] the only time “intellectual property and public order – or “ordre public” – was mentioned in one breath was in the Case C-38/98, Renault v. Maxicar  ECR, I-02973, in application of the Brussels Convention of 1968 (now transformed into Regulation 44/2001) in which Italy was prevented from using its public policy exception not to enforce a French judgment, where the French decision had condemned an Italian company for violation of French rules on intellectual property, although Italian law considered the activity at stake as perfectly legal[/efn_note] if the foreign investor is likely to invest in a company to co-own – and therefore can legally practice – that company’s intellectual property (including trade secrets) which is essential to one of the technological areas, mentioned in art. 4 sub (b) or other technologies.
Is Art. 4 (1) EU Regulation the basis for IPR screening?
As article 4 (1) explicitly uses the words “inter alia”, it leads to the conclusion that other technical or legal factors can be taken into consideration whether a FDI is contrary to (national) security or public order in keeping these essential technologies in the hands of a certain IP owner or group of owners.
US: the Lattice Semiconductor Corporation case
The United States has already taken that position in the case Lattice Semiconductor Corporation. On 13 September 2017, President Trump (with support of Treasury Secretary Steven Mnuchin) blocked the US$1.3 billion proposed acquisition of US chip manufacturer Lattice Semiconductor Corporation by Canyon Bridge Capital Partners, a US-headquartered private equity firm upon the advice of CFIUS. The Canyon Bridge investment group included a company with ties to Chinese state-owned entities. The Trump administration’s statement announcing the decision specifically referenced Chinese government involvement in the transaction, among other national security concerns, as a reason for blocking the transaction. Concurrent statements on the decision by President Trump cited four national security justifications for the decision: the risk posed by the potential transfer of intellectual property to a foreign party, the Chinese government’s role in the proposed acquisition[efn_note]see for increased US scrutiny of Chinese FDI into the US: New York Times, “In new slap at China, US expands power to Block Foreign Investments“[/efn_note], the importance of the semiconductor supply chain to the US government and US government use of Lattice products. The Lattice decision was somewhat counter-intuitive because of the extended time CFIUS took to reach a decision and the seemingly low-tech nature of Lattice’s products, but it demonstrated the importance of supply chain integrity (the reliability of even low-tech suppliers) to CFIUS[efn_note]Foreign Investment Review, January 2019[/efn_note].
It is to be hoped that EU member states will take a stronger stance on the impact of FDI on intellectual property positions in key technological areas. Regulation 2019/452 may be the catalyst, though it remains a fact that, due to political and cultural differences within the European Union, in some EU member states intellectual property as a blocking factor to FDI is considered anathema.
In this respect, the EU Commission’s “Group of Experts on the screening of foreign direct investments into the European Union” which was set up in 2017, will put intellectual property on the map of screening FDI in Europe. The US can be seen as an example in which the EU should follow suit.
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Severin de Wit (c) 2019-2020. Intellectual Property Expert Group (IPEG)