The Increasing Tension between National FDI Screening and EU’s Freedom of Establishment
The Increasing Tension between National FDI Screening and EU’s Freedom of Establishment
Publication | Update:
Mar 2024
The Act on the Screening of Foreign Corporate Acquisitions (172/2012, as amended) (the “Foreign Corporate Acquisitions Act”) has not been subject to much controversy in Finland. The explanation is simple: the Finnish Government has so far not made any negative decisions on the applications for confirmation of a foreign acquisition. The general attitude towards foreign investments has traditionally been and still is positive.
However, the increased awareness of the importance of the security of supply and the need to secure the provision of services and technology vital for the critical functions of the society may tighten the assessment and result in individual decisions to prohibit acquisitions in the EU Member States, including Finland.
FDI regimes typically grant national authorities a broad discretion in deciding whether a key national interest may be endangered by a certain acquisition. As a legislative solution, this is understandable since it is not easy to define in advance in detail which types of acquisitions should be prohibited. The need for secrecy in the matters concerning national security and the sensitivity of political considerations involved entails that not all criteria concerning the decision-making are explicitly written out or that the reasoning of negative decisions may remain short.
On these grounds, it may not be an easy task to have a negative decision annulled by means of a legal action. However, within the EU the freedom of establishment shall not be overlooked by national authorities (and courts) when assessing foreign acquisitions. For example, the judgment of the Court of Justice of the EU of 13 July 2023 in the case Xella Magyarország, discussed further below, is a good reminder of the existing legal framework. Even if the facts of the case were rather particular, the case has broader implications on national FDI regimes and even in cases where genuine concerns may arise concerning national interests.
In the following, two separate questions are discussed. The first one is more specific to Finland and relates to the screening of acquisitions of defence industry companies by investors domiciled within the EU/EFTA. The second question may arise in most EU Member States. It relates to the screening of investments of companies established in another Member State but indirectly owned or controlled by investors domiciled outside the EU/EFTA.
Under the Foreign Corporate Acquisitions Act, the focus lies on the screening of acquisitions made by investors based in third countries, i.e. outside the EU/EFTA. However, if the Finnish target company is classified as a defence industry company, the filing of an FDI application is mandatory in all cases where the new owner is not a Finnish company (and also in cases where the new owner is a Finnish company where a foreign owner has influence).
As explained under question 2.2 of section 2: Law and Scope of Application (ICLG – Foreign Direct Investment Regimes 2024), a defence industry company is defined as a business undertaking or organisation that produces or supplies defence equipment or other services or goods, which are important to the military defence. A defence industry company also means a business undertaking or organisation that produces or uses in its operations dual-use goods in Finland. Under the latter definition, the notification obligation may be triggered, e.g. by the fact that the target is a retailer of dual-use goods.
As regards to companies that produce or supply defence equipment, the notification obligation and screening can be based on Article 346 of the Treaty on the Functioning of the EU (the “TFEU”), according to which a Member State may take necessary measures for the protection of the essential interests of its security, which are connected with the production of, or trade in, arms, munitions and war material.
However, in case of other defence industry companies, the freedom of establishment applies. Whereas Article 346 TFEU shall be given a narrow interpretation, as it is an exception to the general prohibitions provided in the TFEU, the term “defence industry company” has been interpreted rather broadly in Finland. For example, an electricity network operator, a telecommunications network operator, a company providing contracting and services for buildings, and a shipyard have been considered as defence industry companies on the basis that they provide services or goods important to the defence forces.
The screening of acquisitions of this type of companies must comply with the fundamental freedoms provided in the TFEU. According to Article 49 TFEU, restrictions on the freedom of establishment of nationals of a Member State in the territory of another member state are to be prohibited. Article 52 TFEU provides the exception according to which a Member State may provide for special treatment for foreign nationals on grounds of public policy, public security or public health. However, the exception can be relied on only if the threat to a fundamental interest of society is genuine and sufficiently serious (e.g., case C-244/11, Commission v Greece, paragraph 67). Further, the restriction must be appropriate to ensure that the objective it pursues is achieved and that it does not go beyond what is necessary to achieve it (e.g., case C-555/19, Fussl Modestraße Mayr, paragraph 52).
The TFEU grants rights mainly to nationals of Member States and legal persons established under the law of a Member State. However, this does not prevent companies established in the EU from taking advantage of fundamental freedoms in cross-border transactions even if that company would be owned or controlled by third country investors.
This is confirmed in a recent judgment in case C-106/22, Xella Magyarország, where the Court of Justice stated in paragraph 46 that “it does not follow from any provision of EU law that the origin of the shareholders, whether natural or legal persons, of companies resident in the European Union affects the right of those companies to rely on freedom of establishment.”
The case concerned a decision by Hungarian authorities, which prohibited Xella Magyarország (“Xella”) from acquiring another Hungarian company Janes és Társa, which operates a gravel, sand and clay quarry. Pursuant to the Hungarian Act on transitional provisions relating to the end of the state of emergency and to the pandemic crisis, Janes és Társa was considered to be a strategic company. Xella was considered as a third country investor since it was owned by a German company, which was owned by a Luxembourg company, which in turn was owned indirectly by a parent company established in Bermuda, which ultimately belonged to an Irish national.
The Court of Justice acknowledged that the ultimate owner of Xella is an Irish national. However, it is clear from the wording of the judgment that the Court’s reasoning is not based on the nationality of the ultimate owner but on the finding that the origin of Xella’s shareholders cannot be invoked as a basis for denying Xella the benefit of the freedom of establishment.
Naturally, artificial arrangements do not benefit from the freedoms guaranteed by the TFEU. However, if a subsidiary of an international group is established in one Member State in order to engage in a genuine economic activity, there is at the outset nothing artificial in the structure where this subsidiary invests in other Member States and operates as a parent company for the subsidiaries in other Member States.
While the TFEU does not prevent Member States from prohibiting an acquisition, which is likely to pose a threat to national security, the freedom of establishment sets limits to the authorities’ discretion. The Court of Justice has shown in the past that, even if the Member States’ needs to protect national key interests is acknowledged, the Court will not hesitate to find decisions of national authorities to infringe the TFEU where this is warranted based on the facts of the case.
The question of in which circumstances a change in the ownership of a strategic company qualifies as a genuine and sufficiently serious threat to a fundamental interest of society overriding the freedom of establishment is still open. The Xella case can be considered exceptional in the sense that the decision of the national authorities was clearly based on protectionist considerations rather than genuine concern for the fundamental interests of the society. However, more controversial cases will most likely arise where the Court of Justice does not necessarily share the view of national authorities on the seriousness of the threat and/or the proportionality of the measures taken under the national FDI regime.
Find more information on foreign direct investment regimes in Finland in Waselius & Wist's contribution to ICLG - Foreign Direct Investment Regimes 2024.
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