Beginning January 2, 2025, US persons will be required to comply with new prohibitions and notification requirements regarding certain outbound investments. The requirements are set out in the US Department of the Treasury’s final regulations implementing Executive Order 14105 of August 9, 2023.¹  The new rule will regulate US outbound investments in certain persons involved in specified artificial intelligence (AI),  semiconductors, and quantum computing technologies and products.  The newly created Office of Global Transactions within Treasury’s Office of Investment Security will administer the new outbound investment security program.

As previewed in our prior alert, the regulations establish an outbound investment control and review program that defines the types of transactions within its scope (i.e., “covered transactions”), prohibits certain covered transactions, and imposes a notification requirement as to certain other covered transactions.  Both the prohibitions and notification requirements are subject to certain exemptions and exceptions. US persons² will be required to comply, including as to certain transactions involving foreign persons they own or control, as defined further in the regulations.

Key to these compliance obligations is the new rule’s knowledge standard, which causes the rule’s regulatory requirements to be triggered under either an actual or constructive knowledge standard, or where the US person could have acquired such knowledge through a reasonable and diligent inquiry.  As such, the new rule has the potential to create significant additional due diligence requirements on US persons contemplating outbound investments that may involve China (including Hong Kong and Macau) or other “countries of concern” that the US government may subsequently identify.

Covered transactions

Covered transactions – i.e., transactions that may be prohibited as to a US person or that may require notification to Treasury –  include a broad range of direct or indirect investments in, acquisitions of, and certain financing transactions involving, a “covered foreign person,” which is defined as:

• a “person of a country of concern” that engages in specified covered activities, identified further below, which would render a covered transaction prohibited or notifiable;
• a person – who need not themselves be of a country of concern – with substantial ties to a person or persons of a country of concern engaged in such covered activities, expressed through:
• holding a voting or equity interest, board seat, or certain powers with respect to such person or persons of a country of concern that engage(s) in such covered activities, and
• having income, revenue, or capital or operating expenses that reaches specified thresholds attributable to such person or persons of a country of concern; and
• a person of a country of concern participating in a joint venture that is engaged in specified covered activities.  

A “person of a country of concern” is:

• an individual who is a citizen or a permanent resident of China (but who is not a US citizen or permanent resident);
• an entity with a principal place of business in, headquartered in, or incorporated in or otherwise organized under the laws of, China;
• the government of China; persons acting on behalf of, and controlled or directed by, the government of China; 
• an entity, wherever located, that is at least 50% owned or controlled, individually or in the aggregate, directly or indirectly, by a person or persons of a country of concern.

The following transactions by a US person with (or resulting in) a covered foreign person are “covered transactions” potentially subject to the prohibitions and notification requirements of the new rule:

• acquisitions of an equity/contingent equity interest;
• provision of debt financing affording the US person certain management or governance rights that are characteristic of an equity investment but not typical of a loan;
• conversion of a contingent equity interest or equivalent acquired on or after January 2, 2025;
• greenfield investments or other corporate expansion;
• entry into a joint venture that will undertake a covered activity; or
• acquisition of a limited partner (LP) or equivalent interest in a non-US investment fund that will likely invest in a covered foreign person, and such fund undertakes a transaction that would be a covered transaction if undertaken by a US person.

Prohibited and notifiable transactions

The rule divides covered transactions broadly into those that are prohibited as to US persons and those that, while not prohibited, require US persons to provide notification to the Treasury Department. In general, whether a transaction is prohibited or notifiable depends on whether the covered foreign person (or a joint venture) is engaged in specified activities involving certain technologies.  In addition, depending on whether a transaction is prohibited or notifiable, US persons have certain obligations as regards their controlled foreign entities.

Prohibited transactions

A US person must not, absent an exemption or exception, undertake or knowingly direct a covered transaction involving a covered foreign person (or, if applicable, joint venture) that conducts the following activities:

• The development or production of certain electronic design automation software; certain fabrication or advanced packaging tools; the design or fabrication of certain advanced integrated circuits; advanced packaging techniques for integrated circuits, and the development, installation, sale, or production of supercomputers;
• The development of quantum computers or production of any critical components required to produce a quantum computer; the development or production of certain quantum networks or quantum communication systems; or
• The development of any AI system that is:
• designed to be exclusively used for, or intended to be used for, certain military or government intelligence or mass surveillance end uses; or
• trained using a quantity of computing power greater than 10^25 computational operations generally, or, for an AI system using primarily biological sequence data, greater than 10^24 computational operations.³

US persons must take all reasonable steps to prohibit and prevent any transaction by their controlled foreign entities that would be a prohibited transaction if undertaken by a US person.  Furthermore, US persons are prohibited from knowingly directing an otherwise prohibited transaction by a non-US person.  Finally, if after its completion date, a US person acquires actual knowledge that a transaction would have been prohibited, the US person must promptly – and no later than 30 calendar days after acquiring such knowledge – notify the Treasury Department about the transaction, and respond to any of Treasury’s questions or document requests related to the transaction.

Notifiable transactions

US persons are required to notify the Treasury Department as to covered transactions involving covered foreign persons (or, if applicable, joint venture) involved in:

• The design, fabrication, or packaging of integrated circuits not otherwise covered by the prohibition above;
• The development of any AI system not otherwise covered by the prohibition above that meets certain end use thresholds (designed for certain military or government intelligence or mass surveillance end uses or intended for specified cybersecurity or other uses) or the technical threshold of greater than 10^23 computational operations.

US persons must file notifications of such transactions, as well as such transactions by their controlled foreign entities that would be notifiable if undertaken by a US person, with Treasury no later than 30 days after completion date.  If a notification is filed before the completion date, an update must be filed about any material changes no later than 30 days after the completion.  Involvement of a covered foreign person who is a restricted party (e.g., included on the Entity List) makes an otherwise notifiable transaction prohibited.

Finally, if after its completion date, a US person acquires actual knowledge that a transaction would have been subject to the notification requirement, the US person must promptly – and no later than 30 calendar days after acquiring such knowledge – notify the Treasury Department about the transaction, and respond to any of Treasury’s questions or document requests related to the transaction.

Excepted and exempt transactions

Transactions not falling within the requirements above are outside the scope of the new rule, with no further action required of US persons.

Certain transactions are excepted from the final rule, provided that they do not afford a US person rights beyond standard minority shareholder protections, including: publicly traded securities, certain LP investments ($2 million or less or with contractual assurance that the fund capital will not be used to engage in a prohibited or notifiable transaction), and investments in derivative securities.  Other excepted transactions include buyouts of country of concern ownership, intracompany transactions (e.g., a company acquiring an additional equity interest in a company that is a person of a country of concern but the capital will enable such person to develop a business line that is not covered activity), certain binding commitments entered into prior to January 2, 2025, certain syndicated debt financings, equity-based compensation, and certain third-country measures.

US persons can seek an exemption from the rule on the basis that a transaction is in the national interest of the United States.  

Due diligence

In evaluating the sufficiency of a US person’s due diligence regarding the investment target or relevant counterparty, Treasury will consider what information was reasonably available to that person and their efforts to obtain it. Such information and efforts could include obtaining contractual assurances, reviewing available public information about counterparties, and obtaining non-public factual information from counterparties. Treasury will also consider the US person’s conduct of due diligence and response to information obtained, including efforts to identify and resolve red flags.  Treasury anticipates providing additional guidance regarding due diligence expectations in connection with outbound investment transactions.

Penalties and other implications

Treasury can require divestment of any prohibited transaction.

In addition, as with other violations pursuant to the International Emergency Economic Powers Act, Treasury is authorized to impose civil penalties in the amount that is greater than $368,136 (subject to annual inflation increase) or twice the value of the underlying transaction. Willful violations can be referred to the Attorney General, with maximum penalties of up to $1 million or imprisonment of up to 20 years, or both.

Dentons will continue to monitor these developments and provide updates.

1. Exec. Order No. 14,105, 88 Fed. Reg. 54867 (Aug. 11, 2023). ↩
2. US persons are US citizens, lawful permanent residents, as well as any entity organized under the laws of the United States or any jurisdiction within the United States, including any foreign branch of any such entity, and any person in the United States. ↩
3. Computational operations refer to a measure of the computing power needed to train an AI system (e.g., integer or floating-point operations per second (FLOPS)). ↩