Last Step Towards a New Regulatory Framework for M&A Transactions Within the European Union
On July 10, 2023, the European Commission (the “Commission”) published its final regulation for implementing the Foreign Subsidies Regulation (FSR). The Implementing Regulation (the “IR”) clarifies practical and procedural aspects related to the application of the new EU rules to address distortions caused by foreign subsidies in the EU internal market. This much-awaited text provides businesses and their advisors with guidance on how the new regime will work in practice. On July 12, 2023, just a few days after the release of the IR, the Commission released a new Communication with further details concerning the conduct of proceedings under the FSR, including the submission of documents.
Background on FSR
As a short reminder, on December 23, 2022, the Regulation (EU) 2022/2560 of December 14, 2022, on foreign subsidies distorting the internal market (FSR) was published in the Official Journal of the European Union. The FSR tackles foreign subsidies granted by non-EU governments to companies active in the EU and which distort the internal market.
The new FSR rules which took effect on July 12, 2023, apply to M&A transactions as of October 12, 2023, in which (i) a buyer and/or a target that received combined aggregate foreign financial contributions exceeding EUR 50 million in the last three years prior to the conclusion of the transaction agreement, and (ii) at least one of the merging companies, target, or joint-venture is established in the EU and has EU turnover of at least EUR 500 million. Transactions that meet these two cumulative thresholds will need to be notified and approved by the Commission prior to implementation.
On February 6, 2023, the Commission published a draft regulation for implementing the FSR (the “Draft Implementing Regulation”) and invited stakeholders to give feedback by March 6, 2023.
Various comments were submitted to the Commission by different stakeholders, including companies, associations, and law firms. Generally, the comments criticized the administrative burden imposed on companies related to the information collection and disclosures required by the regulation. The Commission appears to have largely considered some of this feedback. Consequently, the IR provides that the level of information required in the notification form varies based on the potential distortive effect on the internal market of the foreign financial contribution.
Although some concessions were made by the Commission in the IR, it is critical to stress that all financial contributions received from non-EU governments (including member States of the European Economic Area like Norway, or the United Kingdom as former member State of the EU), foreign public authorities, and even private companies whose actions can be attributed to the foreign country, still count towards the EUR 50 million jurisdictional threshold. It is disappointing that although stakeholders requested clarification of the definition of “financial contribution,” the IR remains silent and does not provide a more precise definition of foreign financial contributions.
New Exemptions from Disclosure in the Form FS-CO
The original scope of the required information to be collected for the notification was a source of major concern for stakeholders. Many felt that the administrative burden imposed on the notifying parties was disproportionate to achieving the aims of the FSR. Therefore, stakeholders asked the Commission to narrow the scope of the information required to what is available and necessary to assess the existence of distortive foreign subsidies.
A welcomed major improvement to the FSR notification form (the “Form FS-CO”), annexed to the IR, is that the following foreign financial contributions are exempt from disclosure – but still count for the jurisdictional threshold:
Foreign financial contributions below a de minimis threshold of EUR 1 million.
All foreign financial contributions awarded in the same country in the three years prior to the signing of the transaction agreement if the expected aggregate value is less than EUR 45 million.
The supply/purchase of goods/services at market terms in the ordinary course of business (e.g., outcome of public bids), except ordinary course financial services agreements with public authorities must still be disclosed.
Deferrals of payment of taxes or of social security contributions, tax amnesties, and tax holidays as well as normal depreciation and loss-carry forward rules that are of general application (if such measures are “selective” or “specific”, they need to be disclosed); and
Applications of tax reliefs for avoidance of double taxation.
Notably, private equity funds are subject to a specific disclosure regime. On the Form FS-CO, only foreign financial contributions received by the fund involved in the transaction and its controlled portfolio companies must be reported. Foreign financial contributions made to other funds managed by the same investment firm (or by portfolio companies controlled by those funds), but with a majority of distinct investors, are not required to be reported and will not be factored into the total amount for the jurisdictional threshold. These exemptions are only available to investment firms that meet specific requirements.
Mandatory Disclosure under the Form FS-CO
Foreign financial contributions that fall into one of the categories considered “most likely to distort” competition in the EU internal market must be reported if the individual amount of the contribution is EUR 1 million or more. This EUR 1 million reporting threshold applies to five specified categories of foreign subsidies in the FSR of “most likely” to distort the EU internal market (listed under article 5(1) of the FSR).
Based on the IR, notifying parties will be well advised to seek a waiver from the Commission during pre-notification discussions to alleviate the quantity of data to be collected. However, this will be on ad hoc basis, and we expect guidance from the Commission early next year to give potential acquirers more predictability and transparency regarding the scope of financial contributions that need to be reported.
Takeaways & Next Steps
The final text of the Implementing Regulation was the last legal instrument that needed to be adopted before the FSR took effect on July 12, 2023. Transactions that sign on or after this date, but have not closed by October 12, 2023, and which meet the applicable thresholds, must be notified to the Commission.
Although the Commission alleviated some of the administrative burden on companies contemplating M&A transactions in terms of the exemptions from disclosure in the Form FS-CO, the initial data and information collection of all foreign financial contributions remains an obligation for companies to determine if the jurisdictional thresholds are met, thus triggering a notification obligation. In addition to this collection exercise, companies will need to make their own assessment on whether certain financial contributions received are foreign subsidies that are likely to be distortive and thereby need to be reported. This quasi-shifting of the burden of proof will constitute an additional obligation to be undertaken by the acquirers and may lead to frequent substantive discussions between the Commission and the notifying party[ies].
The impact of the FSR on deal risk and timing should be considered by merging parties during negotiations. The risks inherent to a Commission investigation pursuant to the FSR must be considered in the usual contractual provisions (such as conditions precedent, cooperation obligations, long-stop date, and representations and warranties). Due diligence of a target must also include a review of foreign financial contributions, particularly those that are reportable. Companies now contemplating M&A transactions must factor in and closely coordinate all regulatory processes entailed by merger control, foreign direct investment screening, and FSR review.
*Trainee Francesca Casalone also contributed to this article.