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Important but unexpected changes to Australia’s foreign investment framework came into effect from 10.30 pm (AEDT) on Sunday, 29 March 2020 (Effective Time) following an announcement by the Federal Treasurer. The changes reduce the monetary screening threshold to zero for all transactions and flag that the Foreign Investment Review Board (FIRB) will work with existing and new applicants to extend the statutory timeframe for applications from 30 days to six months.
These are temporary measures designed to deal with the economic impact of the COVID-19 outbreak by putting the brakes on undervalued Australian assets being picked up at fire-sale prices by foreign buyers without appropriate oversight.
The exact wording of the changes will need to be reviewed when it is available, but they are likely to have serious and immediate implications for inbound transactions involving foreign investors (although there appears to be relief for agreements entered into before the Effective Time).
This article offers some insights into the practical implications arising from these measures.
What is Australia’s foreign investment framework?
Australia’s foreign investment framework regulates foreign investment in Australia to ensure that investments are in the national interest. This is a multifaceted test that considers issues such as the impact of an investment on national security, competition, tax revenue, the economy and the community more broadly. Under this framework, which is governed by the Foreign Acquisitions and Takeovers Act 1975 (Act) and associated regulations, the Treasurer and FIRB can prohibit or impose conditions on certain foreign investments where they are contrary to the national interest.
Importantly, this framework only captures investments that fall into one of the following categories:
notifiable actions, which require the investor to notify FIRB and obtain approval before undertaking the transaction; and
significant actions, which do not need approval to proceed but may be subject to later review by FIRB (which could lead to the transaction being unwound on national interest grounds).
There are tests that need to be applied to assess if a transaction is a notifiable or significant action. These, include (in brief) that a foreign person (which is broadly defined) must be acquiring the interest, that a specified action must be taken (such as acquiring an interest of 20% or more in an Australian entity or business) and that the relevant monetary screening threshold must be satisfied. For significant actions, there also needs to be a change in control of the relevant entity.
What are the changes?
Thresholds to zero
Until now, the specified monetary thresholds for both notifiable and significant actions depended on factors such as the nature of the investor (for example whether the investor was a foreign government investor), whether the transaction involves land, whether the investor is from a country that has a free trade agreement with Australia or the type of the transaction or asset being acquired (i.e. whether it involves land or is in a sensitive sector).
For example, the threshold is zero for foreign government investors and acquisitions of vacant commercial land, whereas private investors from countries that have a free trade agreement with Australia could buy non-sensitive businesses valued up to A$1.192 billion without requiring approval.
A transaction that otherwise satisfied the other criteria might not be a notifiable or significant action because the threshold was not satisfied. However, that has now changed – the threshold is zero for all transactions, regardless of the nature of the investor or the type of transaction.
FIRB must review an application within 30 days after payment of the application fee (which could be extended by FIRB for a maximum of 90 days). In practice, if FIRB needs more time, they ask the applicant to agree to an extension (which is usually agreed because it is usually in the applicant’s best interest to work with FIRB).
However, the Treasurer has announced that FIRB will work with existing and new applicants to extend timeframes for up to six months. Unlike the monetary thresholds which can be changed by updating the regulations, FIRB cannot unilaterally extend timeframes beyond that set out in the Act. It appears that FIRB’s approach will be to rely on applicants agreeing to an extension or else use its legislative powers to achieve the same ends.
What these changes are not
It is important to be clear about what these measures do not change, namely:
Unchanged process: There is no change to the tests that need to be applied to determine if a transaction is a notifiable or significant action and no change to the definition of ‘foreign person’. In other words, the same analysis for working out whether an action is a notifiable or significant action should still be applied – the only difference is that the thresholds are now zero.
Significant actions: The distinction between significant actions and notifiable actions is unaffected. This means that it is still not mandatory to seek approval for significant actions before completing the investment (unlike notifiable actions). However, there is of course significant deal uncertainty to complete a significant action without prior FIRB approval because the transaction could be unwound in the future.
Exemptions: There is no change to the various exemptions that are available in certain transactions, such as the rights issue exemption for an equity raising and the ‘money lending agreement’ exemption that offshore financiers typically rely on to obtain security in Australian assets (although note that, as before, this exemption is not available to foreign government investors in certain circumstances).
What are the practical implications arising from these changes?
These measures are likely to affect capital raisings, M&A transactions, land transactions (including long term lease arrangements) and distressed sales where foreign investors or buyers are involved. Some practical implications include:
Difficulty raising emergency capital: These changes will make it more difficult and costly to raise emergency capital from foreign investors to keep a company solvent and with sufficient working capital to survive this turbulent period. To get a FIRB application processed urgently, applicants will need to show how the investment protects and supports Australian businesses and jobs (otherwise, the application may not be considered for up to six months). This is likely to mean that companies needing emergency capital may need to turn to local investors or consider debt funding options (although listed companies may be able to rely on the rights issue exemption in carrying out a discounted rights issue).
Restructures: Foreign-owned multinational groups that have Australian subsidiaries and assets and are undertaking internal restructures to deal with the crisis may now find that the restructure requires FIRB approval. This is likely to delay the restructure which could have adverse implications on their ability to effectively weather the economic storm.
Distressed sales: Administrators, liquidators and receivers will need to reconsider whether it makes sense to pursue a sale process with any foreign bidders in distressed sales because of the timing risk around obtaining FIRB approval.
Signed deals: For transactions involving a foreign investor where the transaction documents have been signed but completion has not yet occurred, the parties will need to stop and think about whether the transaction is now a notifiable or significant action. If FIRB approval is required, then there are a range of issues that arise. However, the good news is that FIRB have released guidance that the changes will not apply to agreements that were entered into before the Effective Time (regardless of whether they have completed). The question then becomes whether formal agreements need to have been signed or whether heads of agreements or even verbal arrangements will qualify as ‘agreements’ for these purposes. Under the Act, the concept of ‘entering into an agreement’ is very broad but FIRB may narrow the scope of ‘agreement’ (otherwise this is an easy way to circumvent the changes). As always, the devil will be in the detail once the updated Regulations are released.
Pre-signed deals: For agreements that have not been entered into before the Effective Time and which will now require FIRB approval, parties will need to consider the cost implications (application fees can range between $5,000 to $100,000), potential timing delays (which can be up to 6 months unless parties can convince FIRB that the public interest is best served by the application being processed quickly) and deal risk (if FIRB decide not to grant approval or impose onerous tax or information or other conditions as part of their approval). From a drafting perspective, parties should consider issues such as sunset dates (for example, ensuring that it is long enough not to be inadvertently triggered before FIRB approval is granted), cost-sharing provisions and refundability of deposits if approval is not granted (noting, for example, the opportunity cost for the seller in being locked into a transaction that may not complete in 6 months) and turn their minds to what protections are needed to cater for a longer period between signing and completion (such as more robust pre-completion covenants). There are, of course, other issues that will come to fore in negotiations now, such as setting suitable working capital targets where there is a working capital adjustment to ensure that an appropriate target is set given the uncertainty around the completion date.
There is no denying that these measures will impact on sale processes and capital raisings involving foreign investors that, in some cases, may jeopardise access to financial support for Australian businesses. However, the good news is that the Treasurer made it clear that these measures are temporary and are not an investment freeze.
We expect to see further clarity released by FIRB in the coming days as they respond to feedback from the market and address unintended consequences and hopefully the regulations will adequately address those concerns (such as the exclusion for agreements entered into before the Effective Time). In the meantime, foreign investors and Australian companies seeking investment or doing a deal with a foreign buyer should get on the front foot to understand how these changes affect their transaction and keep an eye out for further guidance from FIRB.
Hamilton Locke is a corporate law firm specialising in complex corporate finance transactions, including mergers and acquisitions, private equity, finance and restructuring, litigation, property and fund establishment.
If you would like to discuss the contents of this article, please contact Brent Delaney, Partner (email@example.com), or Joshua Bell, Senior Associate (firstname.lastname@example.org).