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CFIUS weekly news roundup: April 13

April 13, 2018 by in CFIUS Insights

It was yet another mesmerizing week in the world of CFIUS, international trade and cyber security. While there were several huge stories about the U.S.-China trade skirmish, a small story about a CFIUS matter deserves attention, in that it is instructive about the “new” CFIUS. And this is, after all, a CFIUS law practice.

Big trouble in little Chinese transactions: On Wednesday, Evatran, a Richmond, Virginia-based wireless electric vehicle charging technology company, announced that its plan to be acquired by Zhejiang Vie Science & Technology Co. (ZV) had been abandoned due to CFIUS concerns. The transaction, valued at approximately $10.5 million, involved ZV increasing its stake in Evatran from 16.24% to 100%.

While the company did not confirm that a formal CFIUS filing had been made, the timing of the abandonment–six months after announcement of the transaction–and prior statements that the transaction was subject to CFIUS approval, indicate that the parties had filed with CFIUS and could not obtain approval.

From open-source materials, it appears that Evatran’s technology, while useful in the electric vehicle world, is not particularly threatening from a national security perspective. Essentially, Evatran produces and markets inductive charging systems to allow users to charge their electric vehicles without the need to plug them in. With Evatran’s system, a user simply pulls up near the charging station and walks away. Certainly convenient, but it’s based on the same technology that will charge an electric toothbrush.

CFIUS likely had at least two national security-related lines of inquiry relating to Evatran. First, whether its stations collect user information and report data back to an operating center. If so, could an effective wall be emplaced to ensure that ZV could not access U.S. user data? Second, although based on simple technology, if further developed, did Evatran’s charging technology have applications for next generation military equipment (e.g., charging miniature drones, etc.)?

Both of these issues should have been manageable. More likely, it was simply the structure of the transaction and the current trade relations with China that did in the transaction. Central to the CFIUS reform effort is the desire to block Chinese acquirers from finding young U.S. technology companies, forming strategic partnerships with them (including Chinese-majority-owned joint ventures to enable the U.S. company to sell into China) and ultimately acquiring the companies.

A statement by Senator John Cornyn, who is leading the charge to pass the Foreign Investment Risk Review Modernization Act (FIRRMA), i.e., the CFIUS reform bill, is instructive here: “To circumvent CFIUS review, China will often pressure U.S. companies into arrangements such as joint ventures, coercing them into sharing their technology and know-how. This enables Chinese companies to acquire and then replicate U.S.-bred capabilities on their own soil. China has also been able to exploit minority-position investments in early-stage technology companies to gain access to cutting-edge IP, trade secrets, and key personnel. It has figured out which dual-use emerging technologies are in development and not yet subject to export controls.”

In other words, the series of dealings between ZV and Evatran seems to have all the hallmarks of a commercial relationship that policymakers hate. FIRRMA is specifically designed to ensure that U.S. technology developers will have access to world markets without being required to give away their technology in exchange for such access. And that seems to be exactly the formula we have here. ZV–with its mission of “Doing industry for the motherland“–invested small sums in Evatran totaling approximately $5.5 million in 2015 and 2016. Later in 2016, the parties formed a joint venture, with ZV owning 75% of the JV, to incorporate Evatran’s technology into Chinese automobiles.

While ZV is publicly traded on the Shenzhen Stock Exchange (symbol: SZ002590), its website indicates close coordination with (or possibly control of) several important regulatory bodies in the China automobile sector. These ties, at least superficially, would put ZV at the center of the Chinese automobile industry. Meanwhile, Chinese tariffs of imported automobiles are one of the primary U.S. complaints about Chinese trade policy in the escalating trade dispute.

This transaction faced a number of headwinds. Given the trade policy disputes, there was no room for error in addressing CFIUS concerns, and even succeeding at that might not have saved the day.

Now, in other CFIUS news:

A soft launch of the hard CFIUS: In response to the President’s order that Treasury officials promulgate new regulations specifically targeting Chinese investments, it is being reported that Treasury intends to promulgate regulations in the near-term that are also intended to be included in the more comprehensive CFIUS reform package. The executive branch is reportedly irritated with opponents to the reform legislation, and (as previously discussed on this site) is eyeing authorities to enable the executive branch to act even in the absence of congressional action. Specifically, Treasury expects to announce rules that would block certain technology transfers even absent a change in equity ownership of a company. This would represent a significant expansion to what CFIUS currently does, although this is an aspect that is anticipated to pass in the CFIUS reform bill.

Now, onto the dramatics of the week.

Last week we posed a simple question: Who would blink first in the looming trade skirmish between the U.S. and China?

Was it China? At a forum in Boao, President Xi Jinping appeared to offer a major set of concessions in response to U.S.-led criticisms. Chief among them, President Xi promised to take a number of actions to blunt U.S.-led criticisms of Chinese trade policies, including: 

  • Raising foreign equity limits in securities, insurers and banks;
  • Lowering auto tariffs;
  • Easing restrictions on foreign ownership in certain manufacturing sectors; and
  • Empowering a new state agency to enforce intellectual property rights protection

Maybe not: First, one of the U.S.’s primary complaints is that China has historically been long on promises, but short on action. Second, notable in President Xi’s speech was what he did not promise. Primarily with respect to trade, President Xi did not commit to refrain from devaluing the yuan. China’s monetary policy has long been a subject of criticism in the United States (although some urge a more nuanced take on the issue), with the last two Republican presidential candidates, Romney and Trump, vowing to formally label China a currency manipulator (which would enable Treasury to begin to take countermeasures). While the facts point to China recently abandoning its more aggressive historical monetary policy, the Bloomberg piece is correct to note, that as we edge closer to the brink of a trade war, we should recall that China has at times had very active monetary policies that have advantaged its exports, and certainly all options would be on the table in a full-on trade war.

But even if China blinked, did it blink enough? President Trump hates trade deficits. He often cites trade deficits as evidence that we are “losing” to various countries. A narrow focus on a bilateral trade deficit, of course, does not paint the full picture of a bilateral economic relationship or a country’s overall economic health. It is easy to imagine a case where Country A buys massive amounts of raw materials from Country B, and refines those materials into high-end goods for re-export to other developed nations. Country A would have a trade deficit with Country B, but certainly isn’t suffering if Countries C, D, E and F were buying expensive Country A goods. Of course there are a host of other factors that affect trade deficits, but generally speaking economists don’t worry much about them, unless they are being used to guide policy making (check out Larry Summers’ quote in that story). Most think they’re a bad data point to use in crafting economic policy–yet they are driving our policy with China. President Trump at one point asked China to develop a plan to reduce our trade deficit with them. Needless to say, given the varied causes of trade deficits, it will be difficult for China alone to “fix” its trade surplus with the United States. Accordingly, President Trump may not come around even if China were to take other meaningful steps in opening its economy.

Even conservative-leaning sources are worried about the focus on trade deficits.

Nevertheless, markets persisted.

And now it’s Groundhog Day all over again:

Do they give Mulligans in trade policy? We discussed last week that China and the U.S. would be scrambling to consolidate alliances as the trade dispute escalates. At its annual business forum in Boao, China, President Xi Jinping presented China as the pro-global, even-keeled alternative to the United States. Here at home, President Trump appears to be ready to do an about face on the Trans-Pacific Partnership, having ordered U.S. Trade Representative Bob Lighthizer to study re-joining the pact. As a candidate, he referred to the proposed treaty as “a continuing rape of our country,” and formally announced the U.S.’s withdrawal from the pact within days of assuming the Presidency. Early rhetoric from the administration suggests that the TPP is “easier to join” now. From all available evidence, that seems true.

It takes one, baby: Early Friday the Wall Street Journal reported that the Chinese body tasked with transaction approval, the Ministry of Commerce (MOFCOM), is delaying its reviews of two marquee transactions in the semiconductor space: Qualcomm’s acquisition of NXP, and a U.S.-led private equity acquisition of Toshiba’s semiconductor business. Qualcomm’s acquisition is considered critical to its survival, and given China’s interest in the space, seeing Qualcomm fail would be great news. Similarly, Toshiba’s disposition of its chip business is expected to free up capital for it to invest in next-generation technologies. Again, China is unlikely to be motivated to assist a Japanese competitor in selling an asset to U.S. PE firms, especially if that would help a Japanese rival expand into next-generation technologies. Given trade tensions, we should expect to see both China and the U.S. taking more unilateral actions to punish one another’s companies.

Missing the forest for the seas: Bloomberg came out with a sobering piece about the bigger picture in our geopolitical relationship with China. Generally, China’s actions to claim territorial rights over, build military installations in, and block other countries from entering, the South China Sea (despite international authorities ruling that China generally has no legal claim to the space), over which $3.7 trillion of maritime cargo shipments travel each year, have not diminished in recent months. The U.S., so focused on trade deficits, has not made these issues a subject of our diplomatic discussions.

The frenemy of my enemy: China and Russia are becoming friendlier: On a recent visit to Moscow, the newly-installed defense minister, General Wei Fenghe, declared, “The Chinese side has come to Moscow to show Americans the close ties between the armed forces of China and Russia, and that we’ve come to support you.” In the context of Russia’s actions abroad, China’s historically non-interventionist foreign policy, and the fact that General Wei was only installed weeks ago by term limitless Xi Jinping, this was a whopper of a declaration that may mark a significant turning point in global politics.

It’s always darkest before the Red Dawn: Last week we mentioned that Russia would find a way to respond to the severe sanctions the Trump administration announced—which appear to be having a significant effect. Separately, President Trump had previously announced that he intended to pull out of Syria in the near term. If you follow Russian logic, the horrifying chlorine gas attack by the Syrian regime (which counts Russia as its primary international backer), was a useful tactic in getting short-term revenge on the U.S. for the sanctions, successfully causing President Trump to abandon his plan to pull out of Syria, and possibly even getting him to escalate our involvement. As we have previously discussed, the use of misbehavior by rogue states in great power politics is not uncommon. From Russia’s perspective, Syria’s attack was raised the moral cost of the U.S.’s pulling out of Syria, and will keep the U.S. engaged in a war that will be very hard to win (just a few of a number of analyses here and here. Russia predictably used its seat on the UN Security Council to veto UN authorization for action against Syria.

For those interested, here is a primer on Russia’s alliance with Syria, which dates back to the post-World War II period.

And, briefly, in cyber security news:

Do believe the hype: Similar to the FireEye report released last week, Verizon just released its 2018 Data Breach Investigation Report. The findings are not particularly surprising, but noteworthy nonetheless in that 58% of victims are categorized as small businesses, and 68% of attacks took months or longer to detect. The report also noted the explosion in ransomware attacks, from almost nonexistent in 2013 to present in almost half of malware incidents in 2017.

The answer is always yes: Critical infrastructure is vulnerable to catastrophic attack.

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