Expanded CFIUS scrutiny could further deter overseas investors

Starting this week, cross-border investments into the US will face new and expanded levels of regulatory oversight.

The US Treasury Department’s final regulations, released in January to implement the Foreign Investment Risk Review Modernization Act, officially went into effect Thursday. Passed by the Senate in 2018, FIRRMA has effectively expanded the US government’s influence over deals relating to national security through the Committee on Foreign Investment in the United States.

CFIUS reviews had already hindered the closing of mega deals that involved assets located close to what the US government deemed as sensitive areas, and kept foreign buyers, especially those from China, from investing in certain regions. These new rules are expected to further broaden the type and number of real estate transactions that can come under the CFIUS scanner. In its analyses of the final regulations, global law firm Ropes & Gray said the “vast majority of investors and investment targets would require a top-to-bottom reassessment of investment strategy and pre-investment due diligence requirements.”

Peak asset pricing, rising costs of hedging US dollar exposure and an uncertain geopolitical environment led to a tempering of inbound US real estate investments all through 2019. In an H1 2019 report, CBRE estimated capital inflows to the US in the first six months of the year dropped 48 percent. Although investment volumes from the Middle East and European countries like Switzerland and the UK were up significantly in H1 2019 relative to their five-year H1 averages, the activity was not enough to offset sizable declines from the largest capital sources in US real estate over the same period, namely Canada, China, Singapore, Germany and Japan, the report stated.

More CFIUS scrutiny will only depress these volumes further. While it is difficult to quantify CFIUS’s actual impact on inbound real estate investment volumes in the US, one only needs to point to high-profile deals such as Blackstone’s aborted sale of San Diego’s Hotel del Coronado in 2016 to Anbang – which is believed to have been halted because of the asset’s closeness to a major naval base – to see that CFIUS has had a material effect on US property transactions thus far.

That material effect is expected to widen further under the revised guidelines, particularly in the following two areas:

Redefining control: Until now, only deals wherein a foreign company was seeking to acquire a controlling interest in a US company were examined. Now, even minority foreign investors in a deal, and those only leasing a property from a US entity, could be impacted in certain situations and should consider a voluntary filing. Meanwhile, a mandatory CFIUS filing is now required in certain cases involving a transfer of “non-controlling but substantial interest” in critical technologies, critical infrastructure or areas involving sensitive personal data.

Expanded coverage: CFIUS now has authority to review any purchase, lease by, or concession to a foreign entity involving “covered real estate,” which includes airports, maritime ports, assets within one mile of any military installation, among others. There are now in fact precise definitions around what is considered as being in close proximity to sensitive areas and what is not. The geographic scope of these new rules is now illustrated via a web-based tool at the Census Bureau.

That said, CFIUS is only one of several factors that foreign investors consider when looking at US real estate. In AFIRE’s 2019 international investor survey, more than 50 percent of respondents said they considered the attractiveness of the US to be about the same relative to previous years. Tellingly, the survey was published in April 2019, after the final FIRRMA regulations were already released.

The enactment of the regulations is expected to further dampen investment sentiment on cross-border activity in US real estate, but how dramatic that impact will be remains to be seen.