Ignore CFIUS at your peril

The US government’s influence over deals relating to national security is not something to ignore when transacting with international counterparties.

Foreign capital loves US real estate, but the US is less keen on the foreign buyers it thinks may pose a threat to national security. To counter that perceived threat, the government is debating a bipartisan bill that could impact the asset class well beyond the megadeals typically considered.

From conversations with industry observers, including lawyers who worked for the cross-department government body that scrutinizes these transactions, the Committee on Foreign Investment in the United States (CFIUS), it has become clear that even real estate firms which previously ignored CFIUS – technically voluntary, but effectively mandatory for sensitive assets – need to pay attention. The legislation being debated in Congress, called the Foreign Investment Risk Review Modernization Act, will focus CFIUS’s attention on real estate in ways that could impact landlords of all sizes and buyers from all corners of the world, not just China. Unlike most legislation, FIRRMA has a good chance of clearing Congress by the end of the year.

Previously, major concerns for real estate centered largely on proximity to sensitive sites and, for hotel deals, data and privacy. Chinese insurer Anbang’s 2016 acquisition of a hotel portfolio from Blackstone came under scrutiny, for example, because one of the luxury resorts was located close to a major naval base. CFIUS also analyzed the firm’s 2014 purchase of New York’s Waldorf Astoria hotel because the US president typically stayed in the luxury property, and the US ambassador to the UN maintained a residence there. As hotels and other businesses collect more data on guests and tenants, CFIUS may continue to broaden its scope of inquiry, one lawyer tells PERE.

FIRRMA codifies some of CFIUS’s previous considerations, such as how the group understands a transaction that would result in foreign control of a US business. CFIUS currently gives ‘control’ a broad reading and can include transactions in which minority investors have veto rights over business decisions, such as the appointment of key managers. CFIUS also assesses the investor’s record of compliance with US laws and if its
investment portfolio includes properties involving persons, entities or countries under US trade sanctions. That could make it more difficult to transact with an investor with a significant footprint in Russia, for example, underscoring the need for sellers to conduct due diligence on their buyers.

Path of lease resistance
The legislation also adds more stringent protocols to the review process, particularly for real estate. For the first time, FIRRMA dictates that leases should be considered a matter of national security. That aspect is “unprecedented” and, as one lawyer told us, “hugely significant.”

If the bill is passed in its current form, the CFIUS review could be triggered, for example, if a government agency is leased on a floor in an office building that a foreign interest also wants to lease space in. Landlords with sensitive tenants, particularly in government-heavy Washington, DC, could find leasing more difficult, as foreign companies may not want to undergo the hassle and expense of filing for CFIUS review just for a lease. Under FIRRMA, the CFIUS process also has a price tag for the first time: the lesser of $300,000 or 1 percent of the transaction value. Depending on FIRRMA’s final form, managers may consider including CFIUS approval as a closing condition when transacting with foreign buyers.

Blackstone, already stung by CFIUS’s reviews in the past, added FIRRMA to its list of business risks in an annual filing with the Securities and Exchange Commission last month. Smaller managers, both those which transact with foreign buyers and those which simply lease space to ex-US entities, likewise cannot afford to ignore the potential costs and time associated with the national security review process. Whatever the political underpinnings at play here, market practitioners bent on sticking to a risk-adjusted philosophy should adjust to this risk.