Over the past few days, the US government has issued additional guidance and substantially revised prior guidance related to its sanctions against certain Chinese companies. As discussed in our previous post, Executive Order (“EO“) 13959, dated November 12, 2020, targets “Communist Chinese Military Companies” (“CCMC“) by prohibiting “any transaction in publicly traded securities, or any securities that are derivative of, or are designed to provide investment exposure to such securities, of any [CCMC] . . . by any United States person.” Similarly, we discussed OFAC’s issuance of additional guidance related to EO 13959 on December 29, 2020 and January 15, 2021.

The June 3, 2021 Executive Order

On June 3, 2021, US President Joseph R. Biden issued an executive order targeting companies that allegedly form part of “the military-industrial complex of the People’s Republic of China” (“CMIC companies“), entitled “Addressing the Threat from Securities Investments that Finance Certain Companies of the People’s Republic of China” (the “June 3, 2021 EO“). The White House also issued a Fact Sheet, summarizing the June 3, 2021 EO

The June 3, 2021 EO formally replaces the bulk of EO 13959, as amended by EO 13974, dated January 13, 2021. More specifically, the June 3, 2021 EO replaces Sections 1 through 5 of EO 13959 and revokes EO 13974 in its entirety. In addition, the June 3, 2021 EO designates a number of entities as non-Specially Designated National CMIC companies (the “NS-CMIC List“).

The issuance of the June 3, 2021 EO is significant for a number of reasons, including the following:

  • The previous list of “Communist Chinese military companies” (the “CCMC List“) designated pursuant to EO 13959, as amended, has now been revoked. The CCMC List has been replaced by the NS-CMIC List. The restrictions imposed by the June 3, 2021 EO become effective at 12:01 a.m. EST on August 2, 2021. Section 1(c) authorizes a one-year divestment period and states that purchases and sales “made solely to effect the divestment, in whole or in part” of covered securities are permitted.”
  • The scope of the prohibitions in the June 3, 2021 EO is generally consistent with EO 13959. The June 3, 2021 EO prohibits the “purchase or sale of any publicly traded securities, or any publicly traded securities that are derivative of such securities or are designed to provide investment exposure to such securities, of” CMIC companies. As under the original EO 13959, US persons are not generally prohibited from dealing with CMIC companies, who are not “blocked persons” or comprehensively sanctioned entities. See FAQ 905. Moreover, as under the OFAC guidance for EO 13959, US persons are not prohibited from “providing investment advisory, investment management, or similar services to a non-US person, including a foreign entity or foreign fund, in connection with the non-US person’s purchase or sale of covered securities.” See FAQ 902.

In addition, there are several notable changes from EO 13959, including the following:

  • Scope of covered entities revised. Section 4 of EO 13950 defined CCMCs by reference to Section 1237 of the National Defense Authorization Act for Fiscal Year 1999, as amended (the “1999 NDAA“). Section 1237 generally authorized designation of an entity as a CCMC if two criteria were met: (i) the entity was “owned or controlled by the People’s Liberation Army”; and (ii) the entity was “engaged in providing commercial services, manufacturing, producing, or exporting.” See 1999 NDAA, § 1237(b)(4). The scope of the CCMC designation extended to elements of the China intelligence services. See id., § 1237(c). The June 3, 2021 EO does not refer to the Section 1237 designation criteria. Instead, Section 1(a) authorizes US authorities to designate an entity as a CMIC if the entity is determined “to operate or have operated in the defense and related materiel sector or the surveillance technology sector of the economy of” China or to own or control, or to be owned or controlled, directly or indirectly, by such an entity, or by any entity listed in the Annex to the June 3, 2021 EO See June 3, 2021 EO, §§ 1(a)(i), (ii). It is not clear, as a practical matter, whether the criteria articulated under Section 1237 will prove to be broader or narrower than the criteria imposed under Section 1(a) of the June 3, 2021 EO
  • Scope of covered transactions narrowed. EO 13959 applied to transactions in the “publicly traded securities, or any securities that are derivative of, or are designed to provide investment exposure to such securities . . . .” See EO 13959, § 1(a)(i) (emphasis added). The June 3, 2021 EO extends the “publicly traded” qualifier to derivative securities covered by the EO, referring to “publicly traded securities, or any publicly traded securities that are derivative of such securities . . . .” See June 3, 2021 EO, § 1(a)(i) (emphasis added). As a practical matter, this change appears to narrow the original scope of transactions caught by EO 13959 to include only “publicly traded” derivative products and securities.
  • Scope of designation authority narrowed. The June 3, 2021 EO vests the Treasury Department with primary responsibility for administration of the sanctions program and designation of CMIC companies. This represents a shift from previous practice, where the Department of Defense designated the majority of CCMCs beginning in August 2020. Section 4 of EO 13959 effectively contemplated and authorized three routes to designation as a CCMC: (i) designation by the Secretary of Defense; (ii) designation by the Secretary of Defense “in consultation with the Secretary of the Treasury”; or (iii) “public[] list[ing]” by the Secretary of the Treasury as a CCMC or “a subsidiary of a person already determined to be a [CCMC] . . . .” See EO 13959, §§ 4(a)(i)-(iii). By contrast, the June 3, 2021 EO contemplates designation “by the Secretary of the Treasury, in consultation with the Secretary of State, and, as the Secretary of the Treasury deems appropriate, the Secretary of Defense.” See June 3, 2021 EO, § 1(a). The centralization of the designation authority in OFAC is consistent with the administration of US sanctions programs generally.
  • Close name match basis for restrictions eliminated. OFAC guidance on the June 3, 2021 EO provides greater clarity and predictability with respect to the issue of when subsidiaries of CMIC companies will be subject to restrictions imposed by the Order. Specifically, FAQ 899 states that “[o]nly entities whose names exactly match the names of the entities on the NS-CMIC List are subject to the prohibitions in EO 13959, as amended.” In addition, FAQ 857 states that “[t]he prohibitions in EO 13959, as amended, apply to a subsidiary of a [CMIC] listed on the NS-CMIC List only if such subsidiary itself is publicly listed on the NS-CMIC List by Treasury pursuant to EO 13959, as amended, or identified in the Annex of EO 13959, as amended. OFAC’s 50 percent rule does not apply to entities listed solely pursuant to EO 13959, as amended.” See FAQ 857. As noted above, EO 13959 authorized designation of “subsidiar[ies]” of CCMCs. Subsequent OFAC guidance suggested that entities could be designated on the basis of an “exact[]” or a “close[]” name match with a listed entity, a standard that generated significant confusion over the scope of subsidiaries covered. OFAC suspended the “close[]” name match basis for designation with the issuance of a General License in January 2021. However, the June 3, 2021 EO eliminates the need for “close[]” name match analysis entirely.
  • OFAC guidance issued with the June 3, 2021 EO carves out “facilitation” services provided by US persons at non-US companies that may trade in covered securities from the scope of the EO’s prohibitions. Specifically, FAQ 903 makes clear that “US persons employed by non-US entities are not prohibited from being involved in, or otherwise facilitating, purchases or sales related to a covered security on behalf of their non-US employer, provided that such activity is in the ordinary course of their employment and the underlying purchase or sale would not otherwise violate EO 13959, as amended . . . .”. See FAQ 903 (emphasis added).
  • Finally, the June 3, 2021 EO simplifies and clarifies the definition of covered “securities.” EO 13959 generally adopted the definition of “securities” provided in Section 3(a)(10) of the Securities Exchange Act of 1934 (the “SEA“). However, EO 13959 unusually extended the term to cover any “currency or any note, draft, bill of exchange, or banker’s acceptance which has a maturity at the time of issuance of not exceeding 9 months, exclusive of days of grace, or any renewal thereof the maturity of which is likewise limited, shall be a security for purposes of this order.” See EO 13959, § 4(d). The June 3, 2021 EO, by contrast, adopts the definition in Section 3(a)(10) of the SEA, eliminates the carve-out quoted above, and clarifies that covered securities may be “denominated in any currency that trades on a securities exchange or through the method of trading that is commonly referred to as ‘over-the-counter,’ in any jurisdiction.”

With the issuance of the June 3, 2021 EO, OFAC designated 59 entities to the NS-CMIC List.

On the same day, OFAC issued new and revised Frequently Asked Questions (“FAQs“) related to its CCMC program. Generally, OFAC issues public guidance related to its sanctions programs in the form of FAQs published on its website. The new FAQs are summarized below.

  • FAQ 898 explains that the June 3, 2021 EO amends EO 13959 by replacing §§ 1 through 5, and revokes EO 13974. In particular, the June 3, 2021 EO amends EO 13959 by prohibiting the purchase or sale by US persons of any publicly traded securities, or any publicly traded securities that are derivative of such securities or are designed to provide investment exposure to such securities, of any person listed in the Annex to EO 13959, as amended, or of any person determined to:
    • Operate or have operated in the defense and related materiel sector or the surveillance technology sector of the economy of China; or
    • Own or control, or to be owned or controlled by, directly or indirectly, a person who operates or has operated in any sector described above, or a person who is listed in the Annex to EO 13959, as amended, or who has otherwise been determined to be subject to the prohibitions in § 1(a) of EO 13959, as amended.
  • FAQ 899 explains that OFAC has published a list on its website containing the names of entities that are subject to the prohibitions of EO 13959, as amended, as the NS-CMIC List. The NS-CMIC List replaced and superseded the CCMC List. Notably, only entities whose names exactly match the names of the entities on the NS-CMIC List are subject to the prohibitions in EO 13959, as amended.
  • FAQ 900 explains that EO 13959, as amended, authorizes the imposition of certain sanctions on persons who operate or have operated in the surveillance technology sector of the economy of China. According to FAQ 900, OFAC expects to use its discretion to target persons whose operations include or support, or have included or supported,
    • Surveillance of persons by Chinese technology companies that occurs outside of China; or
    • The development, marketing, sale, or export of Chinese surveillance technology that is, was, or can be used for surveillance of religious or ethnic minorities or to otherwise facilitate repression or serious human rights abuse.
  • FAQ 901 clarifies that, for purpose of assessing whether certain purchases or sales are permissible under EO 13959, as amended, US persons (including financial institutions, registered broker-dealers in securities, securities exchanges, and other market intermediaries and participants) may rely upon the information available to them in the ordinary course of business.
  • FAQ 902 explains that US persons are not prohibited from providing investment advisory, investment management, or similar services to a non-US person, including a foreign entity or foreign fund, in connection with the non-US person’s purchase or sale of a covered security, provided that the underlying purchase or sale would not otherwise violate EO 13959, as amended.
  • FAQ 903 clarifies that, for purposes of EO 13959, as amended, US persons employed by non-US entities are not prohibited from being involved in, or otherwise facilitating, purchases or sales related to a covered security on behalf of their non-US employer, provided that such activity is in the ordinary course of their employment and the underlying purchase or sale would not otherwise violate EO 13959, as amended.
  • FAQ 904 explains that US market makers, and non-US market makers who employ US persons, are permitted to engage in activities that are necessary to effect divestiture during the during the 365-day periods in which divestment transactions are permitted or that are not otherwise prohibited under EO 13959, as amended. This includes the conversion of American depositary receipts of a CMIC into underlying securities of the CMIC on the foreign exchange where the underlying securities are listed.
  • FAQ 905 clarifies that the prohibitions of EO 13959, as amended, apply only with respect to certain purchases or sales of publicly traded securities of entities listed on the NS-CMIC List. FAQ 905 further explains that EO 13959, as amended, does not prohibit activity with entities listed on the NS-CMIC List that is unrelated to such securities, such as the purchase or sale of goods or services. EO 13959, as amended, also does not prohibit the purchase or sale of goods or services with respect to subsidiaries of such entities.

OFAC also revised existing FAQs 857, 859, 860, 861, 863, 865, and 871.

Xiaomi Corporation

On May 27, 2021, OFAC removed FAQ 880 from its website and published a new FAQ related to Xiaomi Corporation, which was previously designated as a CCMC pursuant to EO 13959. FAQ 896 clarifies that the prohibitions in EO 13959 do not apply to Xiaomi Corporation. We previously discussed Xiaomi Corporation’s successful appeal to US District Court for the District of Columbia. As discussed in a different post, at least one other company has successfully obtained temporary relief related to its designation as a CCMC.

We will continue to monitor developments in this area, and encourage you to subscribe to be kept informed of latest developments. Please contact the authors or your usual Herbert Smith Freehills contacts for more information.

Jonathan Cross
Jonathan Cross
Counsel, New York
+1 917 542 7824
Christopher Boyd
Christopher Boyd
Associate, New York
+1 917 542 7821
Brittany Crosby-Banyai
Brittany Crosby-Banyai
Associate, New York
+1 917 542 7837
Alex Hokenson
Alex Hokenson
Associate, New York
+1 917 542 7836
Christopher Milazzo
Christopher Milazzo
Associate, New York
+1 917 542 7807