On 24 January 2024, the European Commission (EC) published the Proposal for a new Regulation on the screening of foreign investments in the EU (Screening Regulation Proposal) as part of its package of five initiatives “to strengthen the EU’s economic security.” The Screening Regulation Proposal would repeal the existing Regulation (EU) 2019/452 and significantly enhance the harmonization of foreign investment screening within the EU.

The main novel features of the Screening Regulation Proposal are:

• Requiring all member states to have a screening mechanism in place (so far, only 22 of 27 member states do)
• Identifying economic fields in which all member states must screen foreign investments
• Harmonizing other key elements of national screening mechanisms

The current Regulation (EU) 2019/452 already establishes a framework for EU member states to screen foreign investments for reasons of security or public order as well as a “cooperation mechanism” that allows member states and the EC to exchange information and opinions about the screened investments. Three years of experience under this regulation and over 1,200 transactions brought into the cooperation mechanism have clearly informed the Screening Regulation Proposal. In addition, the EC apparently also took the following into account:

• Answers to a call for evidence
• A study by the OECD Secretariat
• A special report by the European Court of Auditors on the current regime
• The expanded regulation for the resilience of critical infrastructures under the “CSR” Directive (EU) 2022/2557 and the “NIS-2” Directive (EU) 2022/2555, as evidenced by Art. 13(3)(a) Screening Regulation Proposal
• The limits to the scope of Regulation (EU) 2019/452 regarding investments made by EU subsidiaries of third state investors that the Court of Justice of the EU had pointed out in its “Xella” judgment last summer, as evidenced by Art. 2(3) Screening Regulation Proposal

As the Screening Regulation Proposal needs to be approved by both the European Parliament and the Council of the EU (representing the member states), there is still some way to go before it becomes law. Nonetheless, it sets the tone for a discussion that is a high priority for governments and lawmakers across the EU. In particular, the German Federal Ministry for Economic Affairs and Climate Action (Bundesministerium für Wirtschaft und Klimaschutz—BMWK) certainly monitors this contribution from Brussels very closely since it is currently drafting its own proposal for a new German foreign investment review law. We expect the BMWK to present its proposal in the course of this year.

Regardless of its final content, once the Screening Regulation Proposal enters into force, it will be directly applicable in all member states and take precedence over conflicting national laws and regulations. Therefore, the Screening Regulation Proposal’s interplay with German law as it stands and as it may become is highly relevant for anyone who is interested in staying ahead of the curve in the regulation of foreign investment in Germany.

Key features of the current German foreign investment review regime

Broadly speaking, the current German foreign investment regime knows three variations.

• In the first, “sector-specific” regime, foreign investors (including from the EU) seeking to acquire at least 10 percent of the voting rights in certain defense and cybersecurity German targets are subjected to mandatory approval. This regime is generally considered to be subject to only limited restrictions under EU law; therefore, the comments below generally do not apply to it.
• The second, “sensitive cross-sectoral” regime, subjects (directly or indirectly) to mandatory approval any acquisition by third-country investors (i.e., not from the EU or EFTA) of at least 10 percent or 20 percent of the voting rights (depending on the target’s business activity) in German targets operating in one of 27 specific economic fields.
• The third, “general cross-sectoral” regime, applies to (direct or indirect) acquisitions by third-country investors of at least 25 percent of the voting rights in German targets, irrespective of the economic field. It does not require mandatory approval but can (in a worst-case scenario) result in an ex-post prohibition of the transaction.

For more information on the current German foreign investment review regime (and to keep up with any future changes), please refer to our entry on Germany in our FDI Comparison Tracker.

Potential impact of the Screening Regulation Proposal

Some of the main implications that we think the Screening Regulation Proposal could have for the German foreign investment review regime, in terms of scope and application of mandatory screenings, are the following:

1. Investments by EU undertakings only reviewable if controlled by third-country investor?

The BMWK interprets the German foreign investment review regime as establishing a system under which investments by EU entities are reviewable if a third-country investor holds a share of voting rights in the EU entity that is at least as high as the applicable voting right threshold in the particular case. Because of the method used to calculate indirect shares of voting rights, indirect participations by third-country investors are often caught, even if the third-country investor cannot actually exercise the respective influence on the EU company and thus on the German target.

It follows from Art. 2 (7) of the Screening Regulation Proposal, however, that under the proposed EU framework only investments by EU entities which are “directly or indirectly controlled” by a third-country investor would be reviewable. This is a higher standard than under the current German review regime, which does not necessarily require control by the third-country investor.

Whether this standard will be incorporated in the new German foreign investment review regime is uncertain. Surprisingly to many, the European Court of Justice held in its Xella judgment that the current Regulation (EU) 2019/452 does not generally apply to investments made by EU entities, irrespective of whether they are controlled by a third-country investor. The BMWK, however, keeps applying the German regime to “indirect” third-country investments as before.

It will be interesting to see if a future German regime will keep its very wide scope regarding investments of EU investors with third-country shareholders, or if it will assume the Screening Regulation Proposal’s more narrow approach. If it sticks to a wide scope, the flames of the already heated discussion over the legality of the German regime when it comes to minority participations could be further fanned.

2. Exemption of mere group restructuring from foreign investment review?

The German foreign investment review regime only contains a very limited exception for group restructuring. The exception cumulatively requires that the restructuring transaction takes place “between companies whose respective shares are held in full by the same controlling company” and that “all contracting parties have their headquarters located in the same third country.”

Under the Screening Regulation Proposal, a mere group restructuring would not be reviewable, unless it results in an increase in the shares held by third-country investors, or in additional rights that may lead to a change in the effective participation of foreign investors (cf. Recital 16 Screening Regulation Proposal).

It would be very welcome if a new German regime were to adopt this approach. Mere restructuring transactions, as described in the Screening Regulation Proposal, do not pose a threat to security or public order and should therefore not fall within the scope of foreign investment screening regimes.

3. Broader scope of notifiable transactions?

The German foreign investment review regime requires notification and prior approval of investments in German target companies that

• Conduct (more or less) specific activities (e.g., “develop or manufacture” certain goods)
• Such activities are (more or less) specifically defined economic fields

Many of these economic fields correspond to those listed in Art. 4 Regulation (EU) 2019/452 but are significantly more defined and limited in scope. This is a generally lauded feature of the German regime, especially in comparison to the regimes of some other EU member states, which have simply copied the very broad definitions in Regulation (EU) 2019/452. It should be noted in this context that Regulation (EU) 2019/452 does not require member states to screen investments in these economic fields, but merely states that member states “may consider [an investment’s] potential effects on, inter alia” these fields.

Under Art. 4 (4)(b) of the Screening Regulation Proposal, however, member states would be obliged to “impose an authorization requirement” on investments in EU target companies that are “economically active in” economic fields listed in Annex II of the Screening Regulation Proposal. The economic fields listed in Annex II are generally very broad in scope and include:

• All items listed in Annex I to Regulation (EU) 2021/821, i.e., the common list of dual-use items subject to export controls
• “High performance computing” as an “artificial intelligence technology”
• “Internet of Things and Virtual Reality”
• “Technologies for nanomaterials, smart materials, advanced ceramic materials, stealth materials, safe and sustainable by design materials”
• “Technologies for extraction, processing and recycling of critical raw materials”

This wide-ranging list of economic fields combined with the very broad predicate “is economically active in” would severely extend the scope of the notification and approval requirement under the German regime. This would result in a flood of notifications and corresponding delays for a large number of transactions. Working out whether investments are notifiable under the current German regime can sometimes be a challenging task. However, this is much preferable to the blanket approach in the Screening Regulation Proposal, both from an investor’s and a screening authority’s perspective. Fortunately, there are already clear signs that the BMWK will advocate for a more defined and limited minimum scope for member states’ screening mechanisms and maintain its approach at the national level to have in place concrete definitions of sensitive sectors and activities.

4. Greenfield investments subject to foreign investment review?

Greenfield investments—i.e., establishing new facilities or a new entity—fall outside the scope of the current German foreign investment review regime. However, an extension of the scope of application to encompass greenfield investments is being considered under the new German foreign investment review law.

Art. 2 (2) and (3) of the Screening Regulation Proposal explicitly includes investments in EU targets that are “to be established” in their definitions of principally reviewable transactions. Recital 17 further explains that “Greenfield foreign investments should fall within the scope of this Regulation to the extent they are considered relevant by a member state for the purpose of the screening of foreign investments” and that member states are therefore “encouraged to include greenfield foreign investments in the scope of transactions covered by their screening mechanisms.” This suggests that greenfield investments could be reviewable but not subject to the mandatory approval requirement (cf. above 3.).

As mentioned, the German regulator considered including greenfield investments even before the Screening Regulation Proposal. Whether this extension is reasonable, however, can be questioned. Depending on the precise scope, a review of greenfield investments could either be easily circumvented or turned into a general clause that opens up the possibility for member states to review the economic activity of third-country investors (and their EU subsidiaries) in the EU:

• If narrow in scope, e.g., limited to establishing new companies, third-county investors could simply extend the scope of their existing subsidiaries’ business activities in Germany or use companies established in third countries for their economic activities;
• If broad in scope, so as to avoid these consequences, any investment made by third-country investors or by EU entities that are directly or indirectly controlled by a third-country investor would potentially become reviewable. This would heavily undermine transaction security.

So far, it seems that the German regulator is considering a rather narrow approach focusing on specific critical infrastructure which is very sensitive, but it remains to be seen how this will develop.

5. No extension of screening to licensing agreements?

One feature that is absent from the Screening Regulation Proposal, but which the German legislator is apparently considering, is to include certain licensing agreements in the scope of foreign investment review. It will be interesting to see whether the German legislator will overthink this plan or follow the United Kingdom’s example, where certain licensing agreements are reviewable (and have been prohibited) under the 2022 National Security and Investment Act (NSIA). Stricter circumvention provisions could be also an approach towards reviewing licenses.

6. A database of “problematic” investors?

Art. 7 (10) of the Screening Regulation Proposal would require the EC to set up a database containing information on the foreign investments assessed by the cooperation mechanism and the outcome of the assessments under the national screening mechanisms. Member states would have to upload information about the outcomes of their screening procedures to this database. The database would be made available to all member states.

Under Art. 13 (4)(a) of the Screening Regulation Proposal, member states would , inter alia, need to take into account for their material assessment, whether:

• "The foreign investor, a natural person or entity controlling the foreign investor, the beneficial owner of the foreign investor, any of the subsidiaries of the foreign investor, or any other party owned or controlled by, or acting on behalf or at the direction of the foreign investor”
• "was involved in a foreign investment previously screened by a Member State and that was not authorized or was only authorized with conditions”

They should rely on the database to retrieve this information.

Under Art. 5 (1)(b)(iii) of the Screening Regulation Proposal, member states would also need to notify the EC and other member states of any foreign investment in a target established in their territory if:

• The target is active in any of the economic fields listed in Annex II of the Screening Regulation Proposal and
• “The foreign investor or any of its subsidiaries” was involved in a foreign investment previously screened by a member state that was not authorized, or it was authorized with conditions

Again, they should rely on the database.

Investments by investors linked to a person or entity that at any time incurred anything less than a clear-cut clearance decision in a foreign investment screening procedure in the EU would thus be flagged and subject to heightened scrutiny. If this were to become law, it would likely result in at least prolonged review periods for these investors. Deal planning would need to be adjusted accordingly, and investors should consider this consequence when accepting conditions to an investment offered by screening authorities.

Key take aways / Outlook for M&A deals with foreign investment

The changes in the Screening Regulation Proposal could significantly influence the design of the future German foreign investment review regime. If adopted for the German regime, some features of the Screening Regulation Proposal would be welcomed by investors—such as excluding from the scope of foreign investment review indirect minority participations by third-country investors and mere reorganizations. However, other features would increase the burden on investors further, such as the vastly extended scope of investments subject to mandatory prior approval as well as the idea to also cover greenfield investments.

Although the Screening Regulation Proposal still has some way to go before becoming law, it will in the meantime certainly influence the legislative development in Germany. In any case, we are convinced that a reform of the German foreign investment review regime is needed in order to provide foreign investors more legal certainty.

Third-country investors and their EU subsidiaries should keep abreast of these developments when planning their M&A activities in Germany. The Dentons FDI team is happy to assist.