January 18, 2018
Senate Banking, Housing & Urban Affairs Committee “CFIUS Reform: Examining the Essential Elements”
Key Topics & Takeaways
- Scope of Bill: IBM’s Christopher Padilla suggested reforming the Foreign Investment Risk Review Act to avoid expanding the authority of the Committee on Foreign Investment in the U.S. (CFIUS) to review outbound investments. He also asserted that CFIUS does need the authority to review non-passive, non-controlling investments; since entities represented on boards of directors would gain access to information not otherwise available.
- State-Owned Enterprises (SOEs): Sen. Robert Menendez (D-N.J.) elicited feedback on the bill’s mandatory reporting requirement for all transactions dealing with SOEs. SOS International’s James Mulvenon expressed support for this provision, warning that there is a “false distinction” between private enterprises and SOEs in China, which allows the government to reach into private enterprises to gain technology if it so desires.
- Christopher Padilla, Vice President for Government and Regulatory Affairs, IBM Corporation and former Under Secretary for International Trade, U.S. Department of Commerce
- Scott Kupor, Managing Partner, Andreessen Horowitz, and Chairman of the Board, National Venture Capital Association
- Gary Clyde Hufbauer, Reginald Jones Senior Fellow, Peterson Institute for International Economics
- James Mulvenon, General Manager, Special Programs Division, SOS International
Sen. John Cornyn (R-Texas)
Cornyn explained that he introduced S. 2098, the Foreign Investment Risk Review Modernization Act of 2017 (FIRRMA), with Sen. Diane Feinstein (D-Calif.) to address the “troubling information” shared with the Senate Select Committee on Intelligence about foreign actors investing in the United States to acquire sensitive technologies that could compromise U.S. national security. He emphasized the list of national security experts that support the legislation, including Defense Secretary James Mattis, Treasury Secretary Steven Mnuchin, Admiral Harry Harris of U.S. Pacific Command, and former Secretary of Defense Donald Rumsfeld, among others. Cornyn also clarified that the bill aims to improve national security while avoiding “unnecessarily chill[ing]” foreign investment in the U.S.
While professing his “ardent” support for free trade and investment, Cornyn cautioned that China has significantly altered the threat landscape. He maintained that China is expected to pose the greatest threat to U.S. national security by 2025 due to its coercive state-driven industrial policies, “aggressive” military modernization, use of legal and illegal means to acquire sensitive military technologies to use against the U.S., and ability to evade CFIUS review by exploiting gaps in the current investment review process of the Committee on Foreign Investment in the U.S. (CFIUS).
Cornyn also countered claims that the bill results in “regulatory overreach,” which, he claimed, “misses the point” since CFIUS is not a regulator—but, rather, part of the national security apparatus. Cornyn also clarified that the bill aims to reform CFIUS to serve as a “second line of defense” to complement the export control regime. In response to concerns that the bill would over-burden or “flood” CFIUS with transactions to review, Cornyn stated that it is “worth the time and expense” necessary to review potential threats to U.S. national security and stated that he is committed to “securing resources” to do so. Finally, Cornyn urged the committee to “advance this bill for the sake of [U.S.] long-term national security.”
Sen. Mike Crapo (R-Idaho), Chairman, Senate Banking Committee
Crapo recalled that a report prepared (but not publicly released) by the Defense Innovation Unit (DIUx), was the catalyst for reforming CFIUS, since it concluded that the U.S. Government does not monitor or restrict early stage investment in critical technology or know-how. Crapo expressed interest in learning how investments are designed to circumvent CFIUS review, how to define critical emergent technologies in the legislative text, whether U.S. companies would lose the ability to compete overseas because of these reforms, as well as what resources CFIUS would need to implement the proposed reforms.
Sen. Sherrod Brown (D-Ohio), Ranking Member, Senate Banking Committee
Brown acknowledged that CFIUS has tirelessly worked to ensure foreign purchase of assets in the U.S. does not undermine national security, but cautioned that adversaries are “constantly working” to narrow the gaps between U.S. military capabilities and their own. Brown recognized that making distinctions between economic security and national security is “not easy,” but suggested that the U.S. government might need to intervene at an earlier stage before critical dual-use technologies are acquired by foreign actors.
Brown argued that China has not lived up to its commitments under World Trade Organization (WTO) rules. While he recognized that it is not the role of CFIUS to rebalance the U.S. commercial relationship with China, he expressed concern that the U.S. government does not have a way to review inbound investment to ensure it serves U.S. “economic interest.” To that end, Brown touted his bill, S. 1983 the United States Foreign Investment Review Act of 2017, that would require review of investments made by state-owned enterprises (SOEs) to ensure they are aligned with the long-term, strategic and economic interests of the U.S. Brown closed by expressing caution that the same threats posed to U.S. national security can also undermine its economic security.
Christopher Padilla, Vice President for Government and Regulatory Affairs, IBM Corporation and former Under Secretary for International Trade, U.S. Department of Commerce
Padilla recognized that the FIRRMA bill contains several important reforms to CFIUS, such as plugging gaps in its jurisdiction, expanding its review to a wider range of inbound investments, ensuring senior-level review, and increasing resources. However, he expressed concern that the bill “dramatically expands” the remit of CFIUS beyond investigating inbound investments. Padilla explained that, for the first time ever, the bill would require CFIUS to review outbound international transactions, including thousands of non-sensitive sales even in friendly nations. He also expressed concern that the bill: (i) creates duplication with the existing U.S. export control system; (ii) significantly expands its caseload from two hundred transactions to many thousands of cases; as well as (iii) restricts U.S. firms’ abilities to do business overseas—which, he said, would give away markets to foreign competitors. Padilla instead recommended using existing regulatory authority to update the export control list, and slim down the bill to examine only inbound investment.
Scott Kupor, Managing Partner, Andreessen Horowitz, and Chairman of the Board, National Venture Capital Association
Kupor stated that the venture capital industry shares the goals of the committee in reforming CFIUS, but expressed concern about the bill’s potential impacts on the startup community. He explained that venture capitalists raise investment funds from a broad range of limited partners to invest in entrepreneurs, yet clarified that those limited partners receive very limited disclosure of information which is mainly about accounting and valuation information. He stated that limited partners do not have access to sensitive information and have no say in investment decisions of venture funds.
Kupor recognized the good intentions of the FIRRMA bill, but suggested it be amended to: 1) clarify that VCs with foreign limited partners would not be implicated by the bill’s definition of “covered transactions;” and 2) specify that CFIUS review is not required if foreign strategic investors take a de minimis stake in a venture capital fund; and 3) broaden the passive investment test to reflect “true passivity.” Kupor cautioned that making it more onerous for foreigners to invest in the U.S. would simply divert those funds elsewhere, harming U.S. innovation and economic growth.
Gary Clyde Hufbauer, Reginald Jones Senior Fellow, Peterson Institute for International Economics
Hufbauer noted the benefits of foreign direct investment into the U.S. and cautioned that the bill would lead to an “enormous expansion” of CFIUS authority to review inbound and outbound investments. He warned that the new mandate would: (i) put U.S. multinationals at a disadvantage when competing with British, EU or Japanese technology firms; (ii) significantly increase the caseload of CFIUS from 200 to over 1,000 cases; and (iii) put the burden on private firms to prove that transactions would not transfer sensitive technologies outside of the U.S. Hufbauer suggested amending the bill to focus on specific critical technologies that can be exploited by adversaries, and cooperate with allies to ensure the technologies blocked by the U.S. would be protected by them, as well.
James Mulvenon, General Manager, Special Programs Division, SOS International
Mulvenon expressed concern about China’s comprehensive strategy for national economic development and military modernization, which he said has created an unfair, asymmetric business environment in China for U.S. firms. He also stated that U.S. law has not evolved to address the “creativity” used by China and others to exploit weaknesses in the CFIUS review process, such as through joint ventures. Mulvenon dispelled the notion that there are “private” companies in China, arguing that no firms can refuse entreaties of the Chinese government to access sensitive technologies. He also underscored the new cybersecurity law and the threats it poses to U.S. personally identifiable information and requirement for data localization in China.
Question and Answer
Early Stage Investments
Kupor noted that there is a “major technological race” happening between the U.S. and China, particularly on artificial intelligence. Yet he explained that the goal of policymakers should be to maintain an attractive investment climate, so the U.S. can benefit from those technologies, rather than driving away innovation.
Scope of Bill
Padilla suggested reforming the definitions in Section B(v) of FIRRMA to avoid expanding CFIUS’s authority to review outbound investments. He also asserted that CFIUS does need the authority to review non-passive, non-controlling investments; since entities represented on boards of directors would gain access to information not otherwise available. Yet Kupor argued that venture capitalists are almost always minority investors, and do not have the ability to direct company operations as they would in mergers and acquisitions or other controlled transaction.
Kupor cautioned that delegating too much rulemaking authority to CFIUS would be worrisome given its opaque processes, and suggested establishing bright lines in the legislative text.
Overlap with Export Control Regime
Padilla recommended updating the technology control list maintained by the Department of Defense, which he said has not been updated since 2011. He cautioned that CFIUS is not equipped to investigate emerging technologies or update the export control regime and recommended revising the bill to avoid delegating it those authorities. Padilla explained that the export control regime and CFIUS should each be updated separately, but should not be combined or layered to avoid unnecessary redundancies.
State-Owned Enterprises (SOEs)
Sen. Robert Menendez (D-N.J.) elicited feedback on the bill’s mandatory reporting requirement for all transactions dealing with SOEs. Mulvenon expressed support for this provision, warning that there is a “false distinction” between private enterprises and SOEs in China due to the Communist Party’s rule, which allows the government to reach into private enterprises to gain technology if it so desires.
Enforcement of Mitigation Agreements
Noting that it is difficult for CFIUS to enforce mitigation agreements, Hufbauer stated that participating companies should deposit money into escrow accounts to dedicate appropriate resources to the enforcement of mitigation agreements over time.
Additional information about this hearing can be accessed here.