Investment screening for acquisition of defence companies

When foreign companies want to invest in German companies in the security and defence industry, the Federal Ministry of Defence helps the Federal Ministry for Economic Affairs with screening. Investment screening protects Germany’s security interests and enables it to remain an attractive business location.

With the largest national economy in Europe, Germany is an attractive destination for foreign investment due to its innovation and technological prowess. Investments are welcome and important for a growing economy. They can promote local economic growth and create jobs.

The Federal Ministry for Economic Affairs and Climate Action [now the Federal Ministry for Economic Affairs and Energy] can assess whether the acquisition of a domestic company [...] by a foreigner is likely to impair essential security interests of the Federal Republic of Germany [...].

Challenges due to the outflow of know-how abroad

German companies’ know-how and the associated economic success are objects of foreign countries’ desire. In many cases, there is no longer lasting interest in the German production and development sites after the outflow of know-how on technologies, data and knowledge to a foreign country. The risk for Germany as a business location is then permanent relocation of research and production sites to foreign countries and/or closure of specialist companies. This, in turn, can have a noticeable impact on relevant supply chains.
In addition, the knowledge obtained in this way could be used against our national security interests for military buildup in the purchaser’s country. It could also be used to that country’s economic advantage, for example to further advance its market position in a sector that is also relevant to Germany’s security, indirectly enabling the country to close capability gaps in its own armed forces. In some cases, it is almost impossible to make up for this lost edge in terms of knowledge.

To maintain and strengthen Germany’s strategic sovereignty and its ability to take action, it is necessary to maintain certain core security and defence industrial capabilities and capacities (key technologies) at the national level.

A wide variety of techniques, some of them creative, are used to get at German companies’ know-how. One classic way is for a foreign investor to acquire a German company.

Investment screening as a state protective mechanism for foreign acquisition of interest in German companies

In order to prevent threats to essential security interests, e.g. through outflow of security-relevant know-how, most industrialised countries have introduced various legal safeguards. In Germany, certain foreign investments in or acquisitions of German companies can be reviewed within the framework of the “investment screening” administrative procedure. The legal basis for this procedure is in the Foreign Trade and Payments Act and the Foreign Trade and Payments Ordinance. Investment screening offers legal certainty for company acquisitions, protects the Federal Republic of Germany’s security interests and maintains Germany’s status as an attractive business location. 

For acquisitions by foreign companies, all the relevant ministries are involved in the investment screening process, which is led by the Federal Ministry for Economic Affairs and Energy. The screening process examines whether the foreign acquisition poses threats to Germany’s security interests. Depending on what sector the German company is in, the screening criteria are either whether the acquisition is likely to adversely affect Germany’s essential security interests – this is often the relevant factor for companies in the security and defence industry – or, if the company is active in other sectors, whether the acquisition is likely to have a negative impact on Germany’s public order or security. If this is the case, the Federal Ministry for Economic Affairs and Energy must take measures, in consultation with the other ministries involved, to eliminate the threat. For example, directives may be issued or conditions imposed for the acquisition. If this is not enough to effectively eliminate the threats, the acquisition may also be blocked as a last resort.

The Federal Ministry of Defence in investment screening

The Federal Ministry of Defence has an important role within the scope of investment screening. For the Federal Ministry of Defence, two main questions are particularly important in the security analysis:

1. Would the proposed acquisition negatively affect the Bundeswehr’s security of supply? This can easily be the case if the German target company is one of the Bundeswehr’s suppliers. In this context, it is irrelevant whether the target company is a direct contractual partner of the Bundeswehr or a subcontractor in the supply chain. Whether state protective measures are necessary for the Bundeswehr’s future security of supply depends on the specific case.
    
2. Would the proposed acquisition have negative effects on the Bundeswehr’s defence capability? In particular, the defence capability could be adversely affected if the acquisition would be likely to provide know-how of military relevance to a third country that is not a German ally. In specific cases, the technical know-how that this third country gained in this way could enable it to advance its armament faster. The loss of a technical advantage would then also weaken the Bundeswehr.

Investment screening checklist

If the sale of a German company in the security and defence industry – or of at least ten percent of the shares in such a company – to a foreign entrepreneur/investor is planned, investment screening is often required before the sale can be completed. This depends on the company’s specific products and services.
Various aspects are then examined more closely in investment screening, including:

• Does the purchaser pose security risks? What decision-making structures does the foreign purchaser have, and what countries are the foreign purchaser’s decision-makers located in?
• Do the products have unique features compared to the rest of the market and/or are they very different from what is available on the global market?
•  Do the products and those of the suppliers currently have defence/military relevance, or will they in future? Does the company supply products directly or indirectly to the Bundeswehr?
• Have measures been taken to ensure that, in the event of acquisition, there is no unwanted outflow of know-how/property rights/patents abroad and that ongoing participation in EUEuropean Union funding programmes can be ensured (examples: need-to-know basis, maintaining data servers exclusively in the EUEuropean Union, data security and privacy)?
• Is or was the company involved in current German and European research and development projects (R&D projects) that require legal and actual protection from outflow of knowledge to the foreign purchaser?

Recommendations for affected companies

For security provision reasons, the Federal Ministry of Defence has great interest in maintaining and stabilising the German security and defence industry and the supply chains that affect the Bundeswehr. Naturally, sound financing also plays a role in a company’s stability. If the sale of part or the entirety of a company to a foreign purchaser is being considered for this purpose, it is recommended that companies in the security and defence industry – due to their strategic importance for the Bundeswehr’s defence capability and security of supply – familiarise themselves with the procedures and requirements involved in investment screening, such as reporting requirements, deadlines, review criteria and implementation prohibitions, early in the sales process.
In the course of an investment screening process, it may become apparent – in specific cases – that, under certain arrangements, the planned acquisition is likely to have adverse effects on Germany’s security interests. If this is the case, the Federal Ministry for Economic Affairs and Energy must take measures to prevent these threats.  These measures may, in some cases, be in conflict with the entrepreneurial interest of selling the company shares without restrictions. Familiarising yourself with investment screening issues early on can save a considerable amount of time and money in a sales process. We recommend consulting specialised lawyers.

Other examples of the outflow of know-how even outside of investment screening

Investment screening cannot prevent all outflow of know-how, as the following examples show:

Research and development:
Unless appropriate security measures are taken, research consortia or foreign companies’ financial support and promotion of research opportunities at German companies’ locations present a risk of (unwanted) outflow of know-how abroad.

Greenfield investments:
In addition, foreign investors are increasingly gaining access to the European single market by founding new companies or acquiring small unknown regional companies. In this way, German specialists can be recruited, bringing with them know-how from their previous employers. This approach also makes it easier to gain insight into supply chains, and increases competitive pressure on European companies.

Issues involving antitrust law:
The companies’ location in the EUEuropean Union and their supposedly trustworthy exchange with other German companies facilitates an unwanted outflow of know-how. After successfully pushing out German competitors through dumping prices, a company of this kind could then use a leading market position in Germany achieved by these means to raise the market prices appreciably for everyone.

Details on investment screening are available on the website of the Federal Ministry of Economic Affairs and Energy.

Author: Bundeswehr Editorial Service