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What is a Foreign Subsidy?

What is a Foreign Subsidy?

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Regulation (EU) 2022/2560 on Foreign Subsidies (the "FSR") aims to address distortions caused by foreign subsidies in the single market. In this part of our FSR Insight Series, we explain the fundamental notion of what constitutes a "foreign subsidy" within the meaning of the FSR. You will find a basic definition in Article 3 FSR, with some further considerations in recitals 11 to 16 of the Regulation.

What does "foreign" mean?
Only interventions by third countries fall under the FSR. In this context, all countries that are not members of the European Union are considered "foreign". This includes members of the European Economic Area (i.e. Iceland, Liechtenstein and Norway) as well as the countries with which the EU has entered into specific trade agreements, such as Switzerland, the United Kingdom, the Balkan countries or Turkey. EU Member States are exempt from the FSR because state aid attributable to them is subject to the stricter rules under Articles 107 et seq. TFEU.

Interventions by a "third country" include more than just contributions by the central government of a foreign state or of public authorities at other levels. As set forth in Article 3(2)(2) FSR, interventions by public entities (particularly by state-owned companies) are also relevant, provided the actions of that entity are imputable to the third country, taking into account the characteristics of the entity and the legal and economic environment in which it operates. The European Commission (the "EC") will likely use the Stardustdoctrine developed under Article 107(1) TFEU as a starting point in this assessment. By the same token, interventions by private entities are relevant under the FSR if the actions may be attributed to the third country (for instance, where a state has entrusted a private entity with specific regulatory tasks). Financial instruments provided by international organisations such as the World Bank are not attributable to any third country and are therefore not regarded as a foreign subsidy.

Criteria for a "subsidy"
To qualify as a "subsidy", an intervention must meet three cumulative conditions. First, the third country must provide, directly or indirectly, a financial contribution to the beneficiary. Second, the intervention must confer a benefit to an undertaking engaging in an economic activity in the EU internal market. Third, the benefit must be selective, i.e. it must be limited, in law or in fact, to one or more undertakings or industries (see Article 3(1) FSR). This definition is not modelled on Article 107(1) TFEU – the definition of "State aid" under EU Competition Law – but rather on Article 1 of the WTO Agreement on Subsidies and Countervailing Measures. While the differences are not large, this might bring about discrepancies in specific situations.

From a practical perspective it is important that when calculating notification thresholds under the FSR usually only the first of these three criteria, the existence of a financial contribution, is relevant. Even financial contributions that do not confer a benefit on the recipient may need to be considered. This concept broadens the scope of the notification requirements under the FSR.

What is a "financial contribution"?
A "financial contribution" is deemed to exist where a state intervention results in a charge on the public account. This concept excludes preferential legislation of a non-financial nature, such as local content requirements. Article 3(2)(1) FSR contains a non-exhaustive list of examples for financial contributions. This includes the direct transfer of funds (such as capital injections, loans or loan guarantees), fiscal incentives, the setting-off of operating losses, the compensation of financial burdens imposed by public authorities, debt forgiveness, debt-to-equity swaps or rescheduling of debt. Also, a financial contribution exists if the third country foregoes revenues that would otherwise be due, e.g. by means of tax exemptions or the granting of special or exclusive rights without adequate remuneration.

Last but certainly not least, the provision of goods or services by a third country to an undertaking, as well as the sale of goods or services to a third country, fall under this heading. This means that any company or institution that is engaged in business with foreign countries (including state-owned companies, as explained above) necessarily receives financial contributions within the meaning of the FSR, even if that business is strictly conducted on market terms.

Discussions around this topic are likely to arise where a foreign state assists undertakings free of charge. For example, would it amount to a "financial contribution" if the embassies of a third country assist their undertakings by bringing home employees in a crisis, such as during the coronavirus pandemic? In this context, Article 1 of the WTO Agreement on Subsidies and Countervailing Measures specifies that the provision of general infrastructure does not qualify as a "financial contribution". In our opinion, this concept is also inherent to the FSR. While EU State Aid Law deals with this issue as a matter of selectivity, in the FSR context this may already be discussed when analysing the existence of a financial contribution.

What makes up for a "benefit"?
A "benefit" arises if the recipient could not have obtained the financial contribution under normal market conditions. Here, the EC will likely apply the well-known market economy operator principle developed in the case law under Article 107(1) TFEU. This is specifically relevant in situations where undertakings are engaged in the purchase of goods or services from third countries or in sales to foreign entities.

The contribution needs to be granted to an "undertaking". The notion of undertaking will likely be interpreted in line with the ECJ's decisions under Article 107(1) TFEU. This means that the FSR does not look at legal entities but at single economic entities. Several legal entities may form one and the same undertaking. Conversely, one legal entity may be composed of several undertakings (i.e. where the institution in question operates in a number of distinct fields of business). Cross-subsidisation issues are likely to arise, similar to the intensive discussions under EU State Aid Law, in cases where an institution is engaged in both economic and non-economic activities, such as public research institutions that also offer services to the private market.

Note that the seat of the beneficiary is irrelevant. The FSR is not a regulation specifically aimed at Chinese or US firms, for example. Even companies that are headquartered in an EU Member State may be caught. To take an example, the fact that ArcelorMittal was founded and is headquartered in Luxembourg does not mean that the group may not be the beneficiary of FSR-relevant foreign subsidies. The FSR needs to be respected by any undertaking engaged in economic activities both inside and outside the EU internal market. On the other hand, there is no FSR scrutiny where the beneficiary has no economic activity in the internal market. The EC would not be entitled to intervene if, for example, China supports exports by its companies into the US, provided the beneficiaries are not also engaged in the EU.

Selectivity
Finally, to find for the existence of a foreign subsidy, the intervention must be "selective". Under the WTO rules or under Article 107(1) TFEU, selectivity may arise because the intervention is enterprise-specific, industry–specific or characterised by regional specificity.

Conclusion
The notion of a "foreign subsidy" under Article 3 FSR is similar to that of "State aid" under Article 107(1) TFEU. However, there are certain differences of detail. For practical purposes, it is important to remember that the notification obligations under the FSR (which we will examine later in our Legal Insight series) only apply to the existence of a third-country financial contribution. Even if the other criteria for a subsidy are obviously not met (mainly because the undertaking in question sells its goods or services at market prices to a foreign state), the respective amounts will have to be factored in when computing the notification thresholds.

Not least in this respect, the EC has encouraged pre-notification talks in advance of the FSR's entry into force on 12 July and 12 October 2023 respectively. Early consultation may help to ensure that undertakings are not caught off-guard by the broadness of the FSR concepts.

By Hanno Wollmann, Partner,  Schoenherr

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