2025 Perspectives in Private Equity: Cross-border Investment Review and New Restrictions

Navigating the complex landscape of foreign investment review is crucial for private equity (PE) firms operating in an international landscape.

Foreign Investment into the United States: CFIUS

The Committee on Foreign Investment in the United States (CFIUS) continues to be aggressive, maintaining a high volume of reviews and more frequently taking action to address identified national security risk. In particular, the following developments affect PE funds:

• Foreign Limited Partners. CFIUS continues to closely examine the rights of foreign limited partners (LPs) to determine if CFIUS has a basis for asserting jurisdiction and to determine if these rights could cause national security risks. Borrowing from “know your customer” obligations, CFIUS recommends general partners undertake diligence on LPs because their rights under LP agreements, side letters and other informal arrangements can all potentially increase national security risk.
• Third-party Ties. CFIUS also has been increasingly scrutinizing “third-party ties” to countries of concern—that is, commercial or investment ties that investors from low-risk countries have with countries such as China.
• Mitigation. CFIUS has been increasingly requiring mitigation conditions to clear transactions, including to address risk associated with third-party ties.
• Enforcement. CFIUS has redoubled its efforts on enforcement, including calling in transactions that parties have not voluntarily filed with CFIUS and is becoming stricter with respect to mandatory filings.
  • CFIUS has levied eight civil monetary penalties in the past two years, four times more in that period than in the Committee’s prior 30-year history.
  • CFIUS issued a final rule to sharpen its enforcement tools, including expanding its authority to request and subpoena information for transactions that parties have not voluntarily filed and increasing the maximum monetary penalty available for certain violations. In the last year, CFIUS used its subpoena authority for the first time.
  • CFIUS remains vigilant in enforcing mitigation agreements (agreements imposing conditions for clearing a transaction), and it has doubled the size of its monitoring team, hiring professionals with audit and other relevant compliance experience.
• Mandatory Filings. CFIUS continues to take the position that parties cannot use “springing rights” to quickly provide funding associated with minority investments without triggering the pre-closing filing requirement. That is, parties cannot close a funding round prior to CFIUS clearance by withholding rights that trigger CFIUS jurisdiction (such as board membership or observer rights). Rather, parties must wait until the 30-day post-filing period has lapsed before funding such transactions.
• Areas of Focus. Technology and personal data continue to be particular focus areas for CFIUS mitigation and enforcement. Even acquisitions of sensitive technology that is not state-of-the-art could be considered a national security risk if it would allow a country of concern to close a technological gap.

In light of these developments, private equity funds must increasingly conduct diligence on the business activities of U.S. targets, consider their own ownership structures and third-party relationships, and factor a CFIUS review into their timeline.

U.S. Investment into Chinese Companies: Outbound Investment Program

On November 15, 2024, the U.S. Department of the Treasury published the Final Rule implementing President Biden’s August 9, 2023 Executive Order on outbound investment to China (including Hong Kong and Macau). Effective on January 2, 2025, the Final Rule prohibits or requires notification of certain investments by U.S. persons into certain Chinese or Chinese-affiliated entities, namely those that develop or undertake other specified activities with respect to semiconductors, quantum computers or certain artificial intelligence (AI) systems.

The U.S. government believes that U.S. investments are “often more valuable than capital alone” due to the potential transfer of intangible benefits such as enhanced standing and prominence, managerial assistance, access to investment and talent networks, market access and enhanced access to additional financing, and private equity firms have been squarely in the crosshairs of the new program.

In particular, the following elements of the Final Rule affect PE funds:

• General Partners. The Final Rule effectively applies to funds with U.S. general partners regardless of the country of formation, and U.S. general partners will need to undertake additional due diligence and ensure compliance with both the prohibitions and notification requirements.
• Limited Partners. Transactions that are subject to the prohibitions and notification requirements include U.S. person limited partner (LP) investments in a non-U.S. fund, where the U.S. person knows at the time of acquisition that the fund will likely invest in a Chinese or Chinese-affiliated person and the fund undertakes a covered transaction. There are two exceptions: (i) where the LP investments is $2 million or less aggregated across investment and co-investment vehicles of the fund or (ii) where the LP secures a binding commitment that its capital will not be used for a notifiable or prohibited transaction, as applicable. The U.S. LP also may not receive rights beyond standard minority protections. Therefore, non-U.S. PE funds may need to take measures to ensure compliance for their U.S. LPs.
• Knowingly Directing. If U.S. persons sit on the management or investment committees or boards of foreign funds or entities, they will need to recuse themselves from the actions below with respect to transactions that would be prohibited for U.S. persons to undertake directly. Therefore, non-U.S. entities may need to implement recusal policies for:
  • Participating in formal approval and decision-making related to the transaction, including making a recommendation.
  • Reviewing, editing, commenting on, approving, and signing relevant transaction documents.
  • Engaging in negotiations with the investment target.

Congress also continues to debate prohibitions and notification requirements relating to outbound investment to China and other countries of concern. Some of these proposals would cover more types of passive investment than Treasury’s proposed approach or could include prohibitions on specified companies and could potentially further affect funds.