Recent trends in Russian strategic investments law
June 2019 | SPECIAL REPORT: MERGERS & ACQUISITIONS
Financier Worldwide Magazine
June 2019 Issue
The Federal Law No. 57-FZ ‘On Procedure for Making Foreign Investments in Companies which are of Strategic Importance for Ensuring the National Defense and State Security’ dated 29 April 2008 (Strategic Investments Law) sets forth a number of restrictions for foreign investors investing into companies with strategic importance for national defence and state security. Strategic companies are those that carry out at least one of 47 strategic activities listed in Article 6 of the Strategic Investments Law (e.g., activities related to armoury and weapons, nuclear sector, aviation and space, subsoil mining, mass media and telecommunications). The strictest regulation under the Strategic Investments Law is established in relation to those strategic companies that hold licences for subsoil deposits of federal significance, the status of which is, inter alia, determined by the content of rare metals, minerals (including diamonds) in the deposit, or by the content of gold, oil or gas meeting a relevant statutory thresholds based on an official calculation of the deposit’s reserves. For example, the acquisition of a lower percentage of shares in a strategic subsoil company triggers the obligation to obtain preliminary approval from the special purpose governmental commission for monitoring foreign investments in the Russian Federation, presided over by the prime minister of the Russian Federation.
Generally, for the purpose of strategic clearance the governmental commission holds meetings several times a year and makes decisions at its absolute discretion. The term for consideration of an application cannot exceed six months. However, in practice, the statutory consideration term is not often observed. Based on 10-year statistics, about 516 applications were submitted to the governmental commission, with 206 returned to the applicants since clearance was not required, 49 withdrawn by the applicants, and 229 considered – of which 216 were cleared and 13 were rejected due to a perceived threat to national defence and state security. It is also at the discretion of the chairman of the governmental commission to refer to strategic clearance any transactions by foreign investors in relation to Russian entities that are not engaged in any type of strategic activities listed in the Strategic Investments Law.
The most recent amendments to the Strategic Investments Law were introduced by Federal Law No. 122-FZ dated 31 May 2018. Firstly, the amendments prohibit companies that do not disclose to the Russian Federal Antimonopoly Service (FAS Russia) information on their beneficiaries, beneficial owners and controlling persons, and their controlled entities, from acquiring control over strategic companies. Within the concept of non-disclosing companies, a beneficiary is a person to whose benefit a non-disclosing company is acting, including on such contractual basis as agency, commission and fiduciary management, when conducting operations with cash and other property. A beneficial owner is a natural person who ultimately, whether directly or indirectly through third parties, owns 25 percent or more of the capital of the legal entity or otherwise may exercise control over it. Both definitions have been inherited from the existing Russian anti-money laundering legislation.
According to the amendments, non-disclosing companies and their controlled persons cannot acquire more than 50 percent of voting shares in strategic companies or 25 percent of voting shares in strategic subsoil companies. They are also not allowed to acquire the fixed production assets of strategic companies, where the balance sheet value is 25 percent or more of the balance sheet value of the assets of the strategic company.
Additionally, non-disclosing companies and their controlled entities must obtain preliminary approval from the commission before they are entitled to acquire, directly or indirectly, 25 percent or more voting shares or any other possibility that allows them to block
management decisions of a strategic company, or acquire directly or indirectly 5 percent or more voting shares in strategic subsoil companies. The Strategic Investments Law expressly stipulates that failure to obtain preliminary approval from the commission renders the transaction void.
Before the amendments entered into force, the above mentioned restrictions and preliminary approval requirements were applied to offshore companies, i.e., legal entities registered in offshore jurisdictions listed in the Order of the Ministry of Finance No. 108n dated 13 November 2007 (e.g., the British Virgin Islands) and their controlled entities. The previous regulation proved to be inconvenient because it precluded fully compliant offshore companies from investing in strategic companies.
The amended Strategic Investments Law does not apply specific regulation to offshore companies and instead establishes a uniform approach in relation to offshore companies and companies incorporated in other jurisdictions. It means that currently offshore companies may be exempted from prohibitions and restrictions on acquiring control over, and assets of, strategic companies on an equal footing with companies incorporated in other jurisdictions if they disclose information on their beneficiaries, beneficial owners and controlling persons.
As a practical implication of the amendments, an applicant that intends to obtain preliminary consent for a transaction from the FAS Russia to establish control, or notifies the FAS Russia about a completed transaction, must submit documents that contain information on the beneficiaries and beneficial owners of the applicant, in addition to information on its controlling persons. The information must be submitted to the FAS Russia in accordance with the procedure established under Government Decree No. 1456 dated 01 December 2018.
The second most important novelty introduced by the amendments relates to the procedure for determining the cumulative control over strategic companies of several foreign investors. Apart from the fact that non-disclosing companies, international organisations and foreign states are prohibited from establishing individual control over strategic companies, the Strategic Investments Law prohibits the mentioned categories of foreign investors from establishing cumulative control over strategic companies. According to the Strategic Investments Law, cumulative control is deemed to exist if the aggregate amount of voting shares held by those companies or their controlled entities exceeds 50 percent. For the purpose of establishing cumulative control, the Strategic Investments Law aggregates shareholdings regardless of whether or not these companies belong to one group of foreign investors. Additionally, even if the aggregate shareholding does not exceed the 50 percent threshold, the non-disclosing companies, international organisations and foreign states must check whether, as a result of the transactions, they will acquire the ability to determine management decisions due to their shareholding ratio.
The amendments establish an exclusion from the above rule in relation to non-disclosing companies being shareholders of public strategic companies (i.e., companies listed on Russian or recognised foreign stock exchanges). When executing a transaction involving shares of public strategic companies – e.g., on a securities market – non-disclosing companies do not need to comply with cumulative control thresholds. As such, only the voting shares held by non-disclosing companies, which belong to the same group of foreign investors, are taken into account. Cumulative control compliance in relation to a public strategic company will be determined only in relation to the shareholding of foreign states and international organisations.
As a third amendment, the FAS Russia was granted the authority to provide clarifications on issues arising out of its application of the Strategic Investments Law. According to the FAS Order No. 1130/18 dated 13 August 2018, such clarification may be requested by any legal or natural person, sole proprietor or their representatives. The FAS Russia must issue its clarification within 30 days of receiving the request.
In summary, the amended Strategic Investments Law introduces a new approach for determining eligibility for investment into strategic companies, taking into account the practical realities of public strategic companies when determining the level of foreign investors’ control over them, and broadens the competence of the FAS Russia to ensure a more uniform process of implementing the Strategic Investments Law.
Anton Dzhuplin is a partner at ALRUD Law Firm. He can be contacted on +7 495 234 9692 or by email: firstname.lastname@example.org.
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