The Federal Government is in danger of harming Australia's well understood and practical Government policy on investments by state owned enterprises.

Recent statements suggest it may heighten the regulatory burdens on foreign state-owned enterprises by requiring SOEs to gain approval for every investment they wish to make in Australia - no matter how small.

Such a policy change is unnecessary. At worst it could discourage foreign investment and cause Australian businesses to miss out on essential capital.

Australia's foreign investment policy currently requires SOEs to notify and gain the approval of the Foreign Investment Review Board if they plan to make a 'direct investment' in Australia.

A direct investment is any investment which has the objective of establishing a lasting interest in an asset, or a strategic long-term relationship with a target enterprise.

It generally applies to investments of 10% or more, although FIRB considers that investments of 10% or less can be direct investments if the acquiring SOE can use that investment to influence or control the target.

While the definition of a 'direct investment' has caused some minor interpretation difficulties, the current policy is far better than the previous version which was in place until June 2010 and required all investments by SOEs to be reviewed by FIRB. A return to the pre-2010 position is not needed and would not be helpful.

The issue gained attention in June this year when Etihad, the state-owned United Arab Emirates airline, acquired an initial 3.96% interest in Virgin Australia. Etihad did not notify FIRB before making its initial investment even though it stated in its press release that the investment would strengthen the strategic partnership between the two airlines.

Presumably, Etihad concluded the transaction did not qualify as a 'direct investment' because it was below the 10% threshold. However, this is a questionable conclusion. The relationship between Etihad and Virgin Australia and the strategic objectives associated with the investment suggest it was not a purely economic investment.

Etihad subsequently obtained FIRB approval to increase its interest in Virgin to 10%.

Etihad's initial investment in Virgin Australia without FIRB approval suggests there exists some uncertainty surrounding FIRB requirements for SOEs wishing to make investments of 10% or less.

FIRB has since announced it will release new policy guidelines to clarify when it should be notified of potential investments by SOEs. This seems a rather drastic response to what has been simple issue of interpretation and signals a potential shift in position on SOEs. To the extent the Policy does shift, it should not move to a point where SOEs must notify FIRB of every investment in Australian entities. This would be a backward step in Australia's foreign investment policy and have consequences for Australia's businesses.

For instance, SOEs, and in particular sovereign wealth funds often make investments in Australian companies through placements and other fundraising structures in circumstances where deadlines are tight and the acquisition is purely economic (with the SOE having no intention of, or immediate ability to, exert any level of control or influence over the Australian company). Requiring notification of every investment by an SOE may prevent the SOE from complying with the placement/rights issue timetable and therefore, potentially cause the Australian company to miss out on essential capital.

Some Australian companies also have a level of SOE ownership which means they themselves are considered by FIRB to be a 'foreign person' and an SOE. If SOEs were required to obtain approval by FIRB before making any investment, such Australian companies would also be subject to the notification and approval requirements which could restrict their ability to operate their business in Australia.

Further, FIRB could find itself sinking under a much larger administrative burden, assessing insignificant investments that could not possibly affect Australia's national interest. This would be a waste of resources and likely increase the time FIRB takes to process and decide applications.

Australia's foreign investment regime has been very effective in regulating investment by SOEs, while at the same time being firmly market-based. The Government should be wary of unnecessarily tightening our foreign investment regime to address minor issues that do not represent any substantial policy failure.

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