Friday, March 17, 2017
Opaque guidance: National security review guidelines
Nine years ago, the government of Prime Minister Stephen Harper was faced with a thorny public relations problem. Vancouver-based MacDonald, Dettwiler and Associates wanted to sell its space division — maker of the Canadarm, the Dextre space station robot and the Radarsat-2 satellite — to a U.S. firm for $1.3 billion.
Critics ripped the deal as a sell-out of Canadian technological sovereignty. Stung by the blowback, the Harper government blocked the sale, using the only tool it had at the time: the “net benefit” test in the Investment Canada Act, the federal law that allows the government to review foreign investment. Net benefit is a blunt instrument; the threshold for review is quite specific and limited by the value of the proposed investment and by where the foreign investor comes from (WTO nations get a higher threshold). A year later, the government amended the ICA to add a second hurdle for foreign investment: a national security test.
Politically, it was a deft move — giving the federal government an option in the event of an attempt by a foreign investor to purchase a security-sensitive Canadian asset. But the national security test was widely panned by foreign investors and the legal advisors they employ as vague, confusing, even arbitrary — since investors had no way of knowing exactly what would trigger a national security review, let alone how to avoid one.
“It made it very difficult to assess the risk with a given transaction, or even to have an intelligent conversation with a client about the risk of falling afoul of the provision,” said Michael Kilby, a partner at Stikeman Elliott LLP who advises foreign clients on investing in Canada.
When the Trudeau Liberals came to power, they quickly signalled their intention to be more open to foreign investment. Montreal’s ITF technologies was set to be sold to Hong Kong-based O-Net Communications in 2015, before the Harper government scotched the sale over a national security review that warned the deal could give the Chinese access to cutting-edge military laser technology sooner than otherwise. The Trudeau government set that decision aside and ordered a new national security assessment.
In late December, 2016, the government followed through on a promise to publish “guidelines” explaining the broad scope of national security reviews — how they can be triggered, how long they can take, what they cover. So far, the guidelines seem to be getting a cautious welcome from legal professionals — even if the guidelines aren’t quite as detailed as they’d like.
“I don’t think the guidelines provide a whole lot of guidance into how the test will be applied in specific circumstances,” said Subrata Bhattacharjee, a partner at Borden Ladner Gervais. “I also think that would have been too much to expect. National security reviews are by their nature sensitive, and will include information the government does not feel free to disclose.”
Most of what’s in the guidelines document is unsurprising, even to a layman. National security reviews run separate from net benefit reviews. Triggering a review is a cabinet-level decision and is “supported” by Public Safety Canada and the security and intelligence services. Commercial information is to be kept strictly confidential. Parties to the investment proposal are allowed to make representations to the minister of Innovation, Science and Economic Development.
And the factors listed in the guidelines that can trigger a security review of an investment are pretty obvious, too. Investments that could compromise Canada’s defence capacity, or which involve the manufacture of goods or technology for the military, can be flagged. So can deals that have the potential to enable foreign espionage, or terrorism, or organized crime, or to undermine Canada’s foreign relationships.
But some of the factors listed are more opaque. The guidelines cite a possible negative effect on “critical infrastructure” as a possible trigger for a national security review — and that’s a phrase that covers an awful lot of ground.
“Public Safety’s list of ‘critical infrastructure’ runs to ten categories and includes things like food. Does that mean deals involving food companies are subject to the test?” said Phil Harwood of Harwood Strategic Consulting. He worked in the Harper PMO as a fiscal and economic policy adviser, briefing the PM on foreign direct investment, among other things.
“I think the government sincerely wants to provide investors with the information they need, but there are limits to how much transparency they can offer. If you make your regulations overly prescriptive, what happens when the threat evolves beyond your framework?”
The guidelines also make no specific mention of state-owned enterprises. Whether a potential investor is actually a cutout for a foreign government has to factor into any national security review. Bhattacharjee said he thinks SOE status was left out of the guidelines for a reason.
“The government wants to retain the flexibility to decide what constitutes an SOE, or whether an investor is state-influenced,” he said.
“The expectations investors have of such guidelines is often very high. The government deserves some credit for publishing guidelines at all. But they don’t really provide a very clear window into the guts of the decision-making process.”
Still, the guidelines might be most useful to investors and their legal counsel simply for acknowledging such reviews tend to be open-ended — and for encouraging investors to consult with the Investment Review Division as soon as possible, before they’ve committed a lot of time and money to a deal that ends up getting spiked at the finish line.
“They’re signalling their door is open,” said Kilby. “File notifications under the ICA earlier than required. It may be that something that could put your transaction at risk is also something that can be addressed before the deal is done. So if you think your deal may be at risk, buy yourself some time.”
And it’s important to keep the whole thing in perspective, said Kilby. National security reviews that end in investments being blocked, or unwound, are costly and frustrating for everyone involved. They’re also very rare.
“Eight reviews so far, and just six of them resulted in the transaction not proceeding, or in the transaction being unwound after closure,” he said. “And there are about 600 notifications to government every year of foreign investments. Some of the complaints about the process have been a little short-sighted.”