A FIRRMA Hand…

Until fairly recently, the meaning of the acronym CFIUS was probably opaque to most people. While the Committee on Foreign Investment in the United States was created by President Ford under Executive Order in 1975 and given expanded powers by a further Executive Order by President Reagan in 1988, its existence and functions were fairly obscure until the last few years. It is chaired by the Secretary of the Treasury, with membership drawn from a broad range of federal departments and agencies.

Now, however, under legislation recently signed into law by President Trump (the Foreign Investment Risk Review Act- FIRRMA), CFIUS has been granted a greatly expanded remit and enhanced powers. The reasons for this lie in concerns by the US Administration and Congress that foreign actors (code, in particular, for entities from or associated with the PRC, an obvious strategic rival) are taking advantage of lacunae in existing rules to take control of or gain access to businesses and assets (both real and virtual) essential to the national security interests of the US, creating the potential for serious harm.

The definition in the legislation of a “covered transaction” subject to CFIUS review has been significantly broadened to include non-controlling investments (“other investments”) in US businesses, as well as investments in real estate near US military or national security related sites (including, potentially, Trump Tower in Manhattan.) Not only that but the definition of a “US business” has been amended to “a person engaged in interstate commerce in the US”. In addition there is now a requirement that potential acquirers give notice to CFIUS of a transaction that may fall within its purview.

The focus of CFIUS’s new mandate will be on businesses involved in 3 key areas: “critical infrastructure”; “critical technologies”; or maintaining or collecting “sensitive personal data of US citizens that may be exploited in a manner that threatens national security”.

One can see from all this that the probability of CFIUS becoming involved in reviewing direct and indirect (i.e., foreign investor) proposed transactions has now greatly increased, with any would be acquirer having to seek advice on navigating a process for which the parameters have yet to be defined (as CFIUS is supposed to publish regulations clarifying its interpretation of the new FIRRMA provisions.) This begs the questions of whether sufficient resources will be provided to manage the processes now created.

There is also now the concept of a “Country of Special Concern”, which leads to heightened scrutiny by CFIUS. These countries are not identified in the legislation, but it does not require too much guesswork to identify not only the primary target (the PRC), but also the level of discretion given to CFIUS to act against particular “out of favour” jurisdictions.

One can certainly understand the reasons behind the new FIRRMA legislation, in a world in which powers over trade and commerce are being much more explicitly wielded as weapons to modify or compel particular actions. However, the level of uncertainty which its significantly expanded but, as yet, undefined scope and interpretation introduces may create a potentially chilling effect upon capital allocation and cross-border FDI in which a “US business” is the subject of interest.

And it would be foolish to expect other states not to reciprocate, thereby potentially affecting the ability of US investors to deploy capital globally. One can envision the potential for both misunderstanding of FIRRMA’s applications and for earnest signaling of “peaceful intentions” by governments that do not wish to find their own multinationals or investment arms shut out of acquisitions in the US markets.

At Awbury, understanding and assessing FIRRMa’s implications will be another factor in our comprehensive assessment of the all the transactions which we undertake.

The Awbury Team

Time for a pack of Balkan Sobranie and a bottle of Arak as well as that Turkish bath…?

Kemal Ataturk, founder of the Republic of Turkey, must be trying to break out of his mausoleum by now. Is it just coincidence that, at the centenary of the dissolution of the multi-ethnic Ottoman Empire (the original “Sick Man or Europe”) in 1918, Turkey finds itself under a new executive president, whose official residence in Ankara rivals the legendary palaces and mosques of Istanbul in scale, if falling somewhat short on architectural merit?

One could argue that the current and growing economic crisis in Turkey (compounded by its political spat with the US) was unexpected. However, in reality, it had been building for some while, particularly in the wake of the attempted coup in 2016, which led to the gutting of much of the bureaucracy for its supposed Gulenist tendencies and the intimidation of some of the country’s leading business conglomerates through the (mis)use of the tax system, leading to increasing uncertainty over FDI. In addition, the President quite clearly suborned the supposed independence of the Central Bank in order to keep interest rates lower than they would otherwise have been. While this is not exactly unique behaviour for a politician, it added to the belief that economic policy was now subject o the whims of an individual who believed that, somehow, the usual outcomes would be avoided.

All this is somewhat ironic, as, during the early days of his period in government, now-President Erdogan and his senior AK Party colleagues restructured Turkey’s economy in ways that brought it into the modern era and enabled a significant rise in productivity and standards of living, as well as the prospect of full membership of the EU. As a result, there was hope that the economy could escape from what had been a cycle of boom and bust, with its dependency on foreign currency borrowings, and persistent structural weaknesses in its balance of payments.

That achievement is now under serious threat, with potential consequences that reach far beyond the country’s borders, as questions arise about the possibility of a new emerging markets crisis, with Turkey as the tipping point.

Firstly, while not yet quite in freefall, the Turkish lira is doing a very good impression of repeatedly diving off cliffs to reach successive lows against the US Dollar- down over 40% year-to-date. Amongst other things, as the FT pointed out, this now makes the cost of oil imports (always a weakness for the economy) in Lira terms almost 3 times what they were when Brent crude peaked at USD 147.50/barrel in 2008.

Secondly, the US is using sanctions against Turkey on items such as steel and aluminium to try to compel the Turkish government to release a detained US citizen. Again, hardly unique, but it adds to uncertainty over the extent to which the US will arbitrarily use sanctions over even the smallest perceived “slight”. One wonders when the “gunboats” will appear on the horizon

Thirdly, the ECB is clearly becoming worried about the impact of events in Turkey on the balance sheets of several major European banks (a re-run of the Greek debacle), whom we suspect will not have fully modelled the deteriorating scenario now unfolding. Already credit spreads on those seen as having the greatest potential exposure are widening.

Fourthly, there is likely to be a major showdown over the use by its NATO “allies” of Turkey’s key Incirlik air base, which is vital for providing aircover across numerous US and NATO military operations in the region.

Fifthly, good old-fashioned roll-over risk is returning within the Turkish banking system; with the BIS estimating that the system’s external liabilities now exceed its external assets by almost 3:1. In addition, it seems inevitable that the quality of domestic banking books will deteriorate.

So, definitely another situation to add to the list of stressors for the global economy, even if that beach holiday in Antalya’s “Turkish Riviera” is now much cheaper.

As always at Awbury, even when we have no direct exposures, we are monitoring potential second- and third order effects. Long experience has taught us that failure to pay attention to rapidly-changing systemic dynamics can have unforeseen and unfortunate consequences. No August “off”!

The Awbury Team