Quick questions about the rapid amendment to Act on Critical Infrastructure.

4. February 2021

critical-infrastructure-prosman-pavlovič

The Government of the Slovak Republic has approved the proposal of the Ministry of Economy which aims to set out, inter alia, the conditions for the transfer and transition of critical infrastructure elements. It derives from the nature that disruption or destruction of their activities would have serious unfavourable consequences for exercise of economic and social function of the state and its inhabitants.

From the point of view of goals, it is not possible to deny the government a legitimate intention to protect the national security interests of Slovakia in the field of energy, pharmaceutical, metallurgical and chemical industry. Similar efforts emerged within the European economic policy after the financial crisis of 2009. Legislative changes were adopted by the governments of France, Germany and Italy, their modification is aimed at protection of strategic companies from sectors such as arms production, energy and IT companies. Step by step, they extended by the space industry, artificial intelligence, etc.

The method chosen and its speed by which the government wants to implement this is questionable. The protection of public interest is in the proposal implemented through control over the transfer and transition of critical infrastructure element to a new owner. The control shall be carried out with the prior consent of the government to such transfer or transition. The so-called indirect transfer of an element is also defined by the government as the object of such consent:

“Indirect transfer of an element means a change in persons who have a direct or indirect participation of the operator to at least 5% of its registered capital or the voting rights or have an option to exercise the influence on the management of the operator that is comparable to the influence corresponding to such share.”

Any transfer of a critical infrastructure element, whether direct or indirect, without the prior consent of the government shall be invalid.

The obligation to request such consent concerns a wide range of entities, which are as follows:

Operator, lien creditor, liquidator, a bankruptcy trustee, bailiff or other person authorized to transfer the element, or the person who has a right to acquire the element.

When granting consent, the government may also lay down conditions to ensure favourable effects from the point of view of public order and national security.

A very important government´s authorisation is the possibility to withdraw the granted consent. This should only happen if the consent was granted on the basis of false or incomplete information or essential circumstances decisive for its granting have not been stated.

Article III of the amendment which amends the Bankruptcy and Restructuring Act is very interesting. It authorizes the state to file the petition in bankruptcy.

According to the Ministry of Economy, the submitted proposal is in accordance with the Constitution, constitutional laws, rulings of the Constitutional Court of the Slovak Republic, laws as well as international treaties by which the Slovak Republic is bound and European Union regulations.

However, it raises some doubts. Let´s start with succession. This very common unilateral act may be significantly affected by this amendment. It should be assumed that heritage may include 5% or more of the share on the person having influence on the operator. According to the author’s opinion, the idea that the state reserves the right to give its consent to a will is absurd, but mainly it is in conflict with the Constitution. Succession is one of the fundamental rights guaranteed by the Constitution in Article 20 (1), so therefore, the conclusion that the proposed amendment is in accordance with the Constitution is questionable.

In practice, the invalidity of transfers and transitions without the prior consent of the government will certainly cause difficulties, especially in case of indirect transfers. Let´s have a look at the example: we have three ownership levels A – critical infrastructure operator, B – 5% owner of A, C – 60% owner of B, then the transfer of a share in the company C also requires the consent of the government. In this context we must bear in mind that many times we are speaking about publicly listed companies on stock exchanges, it is hard to believe that the government’s intention would be to withdraw the shares of critical infrastructure operators from the organized securities market.

When does the obligation to request prior consent arise? This is the question which also remains unanswered. This is only for the case of dealing with a share of 5% or more or even for a transaction that achieves a share of 5%. Or, do we need a prior consent in case of any change on person having 5% or more % of the operator? A linguistic version of the proposal would indicate this.

Investors’ confidence will certainly not be supported by the government’s ability to revoke a prior consent. What are the legal consequences when already given consent will be revoked? What if the transferred share has already been affected by another change? Can we think about a procedure similar to withdrawing from a contract when transferring immovable property? The amendment does not give us answers on this. In addition to the substantive consequences of the revocation of consent, the process of revocation and possible restriction of this right is also worth considering. At least from the point of view of legitimate expectations and the passage of time, it seems important to set a time limit beyond which consent can no longer be revoked.

We are convinced that already mentioned Article III of the amendment which regulates the possibility to file the petition in bankruptcy by the state is also able to challenge the investors’ confidence. This may be due to the fact that:

 „the operator of critical infrastructure element or a person who has a qualified participation on the operator,

a) has entered into liquidation or

b) bankruptcy proceedings or similar proceedings, enforcement proceedings or similar enforcement proceedings have been initiated against it, regardless of whether such proceedings are conducted in the territory of the Slovak Republic.“

In order to properly understand the danger for investors, it is necessary to pay attention to the definition of qualified participation under the Bankruptcy and Restructuring Act.

 „§ 9 (3) For the purposes of this Act, a qualified participation shall mean a direct or indirect share equal to at least 5% of the registered capital of the legal entity or of the voting rights in the legal entity or an option to exercise the influence on the management of the legal entity that is comparable to the influence corresponding to such share; for the purposes of this Act, an indirect share shall mean a share held indirectly through legal entities in which the holder of the indirect share has a qualified participation.”

As a result of this bankruptcy provision there is a risk for investors that the state will file the petition in bankruptcy against a person with an indirect participation in the operator who is qualified through 5% share of a company, which is separated from the operator, for example, by two other companies. The state authorisation thus defined is similar to latent nationalisation. We are afraid that such a risk may be unacceptably high for the investor.

The discrepancy between the objectives of the bankruptcy proceedings and the vaguely defined amendment is also serious. The primary goal of bankruptcy is the property settlement of the creditors in a proportional manner. However, this objective is contrary to unclear intentions to grant the authorisation to nominate a bankruptcy trustee and at the same time to consider continuing to operate the business, as this can only be limited or terminated with the consent of the state. On the one hand, it is not unusual to run a business during bankruptcy, of course, under condition that this increases the bankruptcy estate and that the losses in running the business are lower than in closing the business. However, on the other hand, law does not provide a mechanism for financing a company during bankruptcy declared under this provision. Running a business at a loss in bankruptcy will have an adverse impact not only on the owners of the operator, but also on its creditors. In bankruptcy, it is highly sure that external financing of the operator will be almost impossible.

Amendment as a whole is in a tension with the provisions of the Constitution on the protection of property rights. The main limit for the chosen solution is the fact that it restricts the property rights of investors in companies forming critical infrastructure. It is not clear from the proposal whether this happens only to the extent necessary as required by the Constitution.

The above-mentioned raises doubts about the constitutional conformity of the amendment.

We believe that a good intention of the government to protect public order and national security interests will be possible to bring into line with the fundamental rights guaranteed by the Constitution within the framework of discussion and comments.

The intention of the article is not to exhaustively assess all benefits and risks of the proposed amendment, but only to briefly point out the fundamental discrepancies within the legal order concerning threats to investment in the sectors concerned.

We have also identified other gaps in the proposed amendment, which are able to complicate its application when they create opportunities to avoid the effects of the law and also at the same time negatively affect the economic activity of investors.

We believe that the government, despite the declared need for rapid amendment of the issue, will not refuse discussion and comments of relevant entities.

If you need advice on the matter or the preparation of the necessary documentation, do not hesitate to contact us.

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