New European foreign subsidies regime takes effect with broad implications for M&A transactions

The European Commission (EC) has published the final revised text of the Implementing Regulation for the new Foreign Subsidies Regulation (FSR), which will take effect from today (12 July). In a welcome development for businesses engaged in M&A in the EU, the EC appears to have taken on board feedback received during its recent public consultation and significantly reduced the scope of the FSR’s disclosure requirements. We highlight below the key changes applicable to M&A transactions.

Background

As per our update of 30 November 2022, the FSR provides the EC with broad new tools to tackle foreign subsidies that cause distortions and undermine the level playing field for all companies operating in the European Union. The new regime introduces a mandatory notification system which will allow the EC to examine certain concentrations involving financial contributions granted by non-EU governments. Other aspects of the regime allow the EC to examine bids in public procurement procedures and to start investigations on its own initiative.

The EC published its draft implementing rules for consultation in February this year and received a large volume of responses focused in particular on the onerous nature of the notification system. While the regulatory burden of the notification process remains significant, the revised requirements adopted this week take a much more pragmatic approach than the original draft version.

FSR jurisdictional thresholds and scope of financial contributions remain the same

It is worth noting that there has been no change to the jurisdictional thresholds or the wide definition of financial contribution. Under the FSR, companies are under an obligation to notify to the EC, all concentrations where the target, one of the merging parties or the joint venture:

• Generates at least €500 million of EU turnover in the last full financial year.
• The parties were granted combined aggregate foreign financial contributions from non-EU governments and public bodies of at least €50 million in the previous three years.

The term “financial contribution” remains deliberately wide and includes: 

• Any transfer of funds or liabilities (e.g. capital injections, grants, interest free loans, loan guarantees, fiscal incentives, setting off of operating losses, COVID-related support, compensation for financial burdens imposed by public authorities, debt forgiveness, debt to equity swaps, or rescheduling).
• The foregoing of revenue that is due (e.g. non-ordinary course tax benefits).
• The purchase of goods and / or services by public authorities of a third party (e.g. government cleaning contracts, defense contractors, prison caterers, school stationary suppliers and other innocuous purchases of goods or services).

Key changes applicable to M&A transactions

The most important changes to the procedures for notifying relevant concentrations to the EC are as follows:

The EC has increased the de minimis threshold for notifiable financial contributions from €200,000 to €1 million. 

While all non-EU country “financial contributions” will be relevant for the purposes of calculating the €50 million jurisdictional threshold, only individual financial contributions of at least €1 million need to be disclosed to the EC in the notification form. This applies to all forms of foreign financial contribution, including those deemed “most likely to distort” (see further below).

Private equity firms only need to report financial contributions received by the fund(s) involved in the transaction (subject to certain conditions).

• Contributions granted to other funds managed by the same GP, but with a majority of different LPs (or granted to portfolio companies controlled by those other funds) do not need to be reported.
• The effect of this revision is that it will be possible to report on a fund-by-fund basis (representing a significant departure from the European Commission’s initial stance).

Only “Article 5” financial contributions (i.e., those most likely to distort the market) require detailed reporting.

• Certain financial contributions are deemed “most likely to distort” the EU’s internal market. These include subsidies granted to ailing firms; unlimited guarantees for debts or liabilities; an export financing measure that does not comply with OECD rules on officially supported export credits; and a foreign subsidy directly facilitating a concentration.
• These Article 5 financial contributions are subject to more onerous disclosure obligations, for example, supporting analyses, reports, or presentations setting out the main elements and characteristics, purpose, and economic rationale, and whether the contribution confers a benefit etc.

For all other financial contributions that require disclosure, information can be disclosed in summary form.

• Parties can aggregate information for all other notifiable financial contributions: grouping the contributions by country, type and providing only a very brief description of the purpose of each type of financial contribution. Parties must also quantify the estimated aggregate amount per non-EU country, but broad ranges will suffice (e.g. €45 –100 million).
• In addition, only financial contributions from non-EU countries that have granted the parties to the transaction at least €45 million over the past three years need to be included in the table (excludes ‘exempted’ contributions (see further below)).
• Whilst these changes will significantly reduce the administrative burden, the EC could request further details about a specific financial contribution. As such, companies and sponsors should still track and internally record financial contributions on an individual basis.

Certain types of financial contributions are exempt from notification.

• Certain financial contributions, whilst counting towards the €50 million jurisdictional threshold, will not require reporting (even if they are worth more than €1 million), for example:
  • Non-selective tax measures.
  • The provision of goods/services (except financial services) on arm’s length market terms.
• However, as these financial contributions will still count towards the jurisdictional thresholds they will still need to be monitored by companies and sponsors (even if they are below the €1 million threshold).

The Commission has significantly scaled back the information required in respect of other bidders in an auction process.

• Several unworkable obligations have been removed, such as the requirement to disclose how many letters of intent/non-binding offers were received in the context of a concentration and from whom.
• Instead, a description of the profile of each other candidate of which the parties are “aware” must still be provided. We expect this to be brief and manageable.
• However, whilst several disclosure obligations have been removed, others have been added. For example, the parties must now explain the target’s activities, and explain whether the notifying party(ies) are active in the “same or related” activities.

Key dates

From 12 July 2023, the new regime starts to apply in the following ways:

• The EC can initiate investigations into suspected distortive subsidies on its own initiative.
• Parties to relevant concentrations may engage in pre-notification discussions with the EC.
• Notification obligations for relevant transactions will arise from 12 October 2023.
• Importantly, any deals signed on or after 12 July 2023, which have not closed by 12 October 2023, will need to be notified.

Conclusion

On balance, we are encouraged by these revisions, which we hope will make compliance with the FSR a more manageable exercise. However, the FSR represents a significant new reporting burden and, to the extent you have not already done so, we encourage you to commence the recording of “financial contributions” received from non-EU governments and public bodies as soon as possible.