Judicial review mandates full divestment of broadband company shares for national security

In R. (on the application of L1T FM Holdings UK Ltd) v Chancellor of the Duchy of Lancaster in the Cabinet Office, the High Court dismissed an application for judicial review of a final order issued by the Secretary of State under section 26 of the National Security and Investment Act 2021 (the 'Act').

The order compelled the claimant to divest its entire shareholding in a broadband company, a move deemed necessary due to concerns over the company’s ultimate ownership by sanctioned Russian nationals and the potential threat to national security.

This case is notable as it marks the first judicial review challenge under the Act, highlighting the increased scrutiny required on acquisitions involving foreign nationals.

Summary

The claimant, part of the LetterOne Group, made investments across sectors including energy and technology. In January 2021, they acquired the entire share capital of Upp, a startup focused on providing fibre broadband services in the UK. The ultimate beneficial owners of the claimant were Russian nationals who became subject to sanctions in March 2022.

Following commencement of the Act in January 2022, the Investment Security Unit (‘ISU’) raised concerns about possible national security risks to the UK telecoms infrastructure arising from the Upp acquisition. Areas of concern included:

• access to customer data that could undermine national security;
• the ability to disrupt operations on the broadband network; and
• the potential for espionage activities.

The Secretary of State reviewed the acquisition under the Act, highlighting that a risk to national security had arisen. Despite the claimant’s representations proposing less draconian remedies, the Secretary of State issued a final order, mandating the claimant to divest 100% of its shares. The shares were sold at a loss.

In its application for judicial review, the claimant submitted that the Secretary of State had a duty to consult, that the order was a breach of its right to protection of property under Article 1 ECHR, and it was entitled to compensation. The claimant’s application was dismissed.

Analysis

• procedural fairness: The court clarified that while the Act required consideration of any representations made, it did not explicitly impose a duty to consult, nor was it necessary to imply such a duty into common law. The key takeaway is that the Secretary of State’s duty is to act fairly, adhering to the principles of fairness without extending beyond them.
• proportionality: Despite the draconian nature of the divestment order, the Secretary of State effectively balanced community interests with the rights of the claimant. The court determined that national security could not be equally protected by less intrusive measures.
• failure to award compensation: Section 30 of the Act provides for financial assistance in consequence of making a final order, however this is discretionary, not obligatory. Again, the court emphasised that national security takes precedence over the claimant’s financial interests. Sophisticated economic actors like the claimant should not be surprised by potential financial losses associated with investments that pose national security risks, particularly in the context of geopolitical crises.

Conclusion

Three years into the life of the Act, parties involved in corporate acquisitions have become well accustomed to the importance of considering whether their transaction requires prior approval under the Act or, even if it does not, whether the government might exercise its power to “call in” the transaction and review it on national security grounds.

In most transactions, the Act involves a fairly straightforward regulatory clearance process. Whilst the Act requires a very large number of transactions to be notified for clearance, the vast majority of transactions are readily cleared by the Secretary of State.

However, in the relatively small number of transactions in which the Secretary of State expresses objections, the parties’ ability to defend themselves and challenge the government’s view may in practice be limited. Whilst the Act enables the government to object to transactions on national security grounds, the absence of any definition of “national security” inherently hampers parties’ ability to challenge. Further, where the government informs parties that it has possible concerns, it will generally not specify to the parties what its concerns are (on the basis that any disclosure of its concerns might itself be sensitive), which often hamper parties’ ability to seek to address whatever concerns the government might have.

This case highlights a step change in the scrutiny of the impact of investment activity on national security under the Act. This decision is of particular significance to entities operating in the technology sector (particularly where those entities might be acquisition targets from investors in certain overseas jurisdictions) and vulnerable to the risks the Act seeks to protect against.