As the US technology competition with China continues to intensify, the Trump administration has taken another step to tighten the screws on China.
In late June 2020 the US Department of Defence (DoD) published a list of 20 Chinese companies that have been identified as ‘Communist Chinese military companies’, complying with a two-decade-old mandate that Congress issued during the Clinton administration. The takeaway for companies, universities and individuals is that they should proceed with caution and carefully conduct due diligence when dealing with China.
Under what authority was the list published?
The list was published pursuant to Section 1237 of the FY1999 (Strom Thurmond) National Defence Authorisation Act (NDAA) (PL 105–261), which was enacted on 17 October 1998. The act required the DoD to publish in the Federal Register a list of Communist Chinese military companies that were operating in the United States (directly or indirectly), after consulting with the Department of Justice (DOJ), the Federal Bureau of Investigation (FBI) and the Intelligence Community. Section 1237 also required the DoD to update the list annually.
The deadline for the initial publication of the list was mid-January 1998, but the DoD ignored this requirement until now. In September 2019 Senators Tom Cotton and Chuck Schumer and Congressmen Mike Gallagher and Ruben Gallego wrote to and requested from Secretary of Defence Mark Esper information on when the DoD last updated the list of Communist Chinese military companies operating in the United States and whether the secretary of defence would “commit to updating and publicly releasing this list as soon as possible”. On 24 June 2020, in an apparent response to this letter, the DoD released the list for the first time.
How does Section 1237 define ‘Communist Chinese military company’?
Section 1237 defines the term ‘Communist Chinese military company’ as:
- any person identified in Defence Intelligence Agency publication VP-1920-271-90, dated September 1990, PC-1921-57-95, dated October 1995, or any update of those publications for the purposes of this section; or
- any other person that:
- is owned or controlled by the People’s Liberation Army; and
- is engaged in providing commercial services, manufacturing, producing or exporting (Section 1237(b)(4)).
The term ‘People’s Liberation Army’ means the land, naval and air military services, the police and the intelligence services of China and any member of the same.
This broad definition gives the DoD a significant amount of discretion. The operative part of this section authorises the president, once the list is published, to exercise powers under the International Emergency Economic Powers Act 1977 (IEEPA) (50 USC § 1701 et seq) to regulate or prohibit certain commercial activity within the United States involving one or more of the listed entities. So, in theory, the publication of this list could potentially lay the groundwork for the imposition of sanctions that would prohibit US persons from engaging in most US commercial activity with such entities.
Which entities are ‘qualifying entities’?
Below is a list of some of the ‘qualifying entities’ about which the DoD designated and notified Congress (entities marked with an asterisk are also on the Bureau of Industry and Security (BIS) Entity List):
- China Aerospace Science and Technology Corporation*;
- China Aerospace Science and Industry Corporation*;
- China Electronics Technology Group Corporation (CETC)* (note: only the 13th, 14th, 38th and 55th research institutes and CETC 29 are on the Entity List);
- China South Industries Group Corporation;
- China Shipbuilding Industry Corporation;
- China State Shipbuilding Corporation;
- China North Industries Group Corporation (Norinco Group);
- Inspur Group;
- Aero Engine Corporation of China;
- China Railway Construction Corporation;
- CRRC Corporation;
- Panda Electronics Group;
- Dawning Information Industry Co (Sugon)*;
- China Mobile Communications Group;
- China General Nuclear Power Corporation*;
- China National Nuclear Corporation* (on the BIS Entity List under ‘China National Nuclear Group Corporation’); and
- China Telecommunications Corporation.
Which IEEPA authorities can the president exercise?
The IEEPA is a federal statute that was enacted in 1977 and gives the president broad authority to regulate economic transactions after declaring a national emergency. The statute is intended to deal with an unusual and extraordinary threat to the national security, foreign policy or economy of the United States, which has its source in whole or substantial part outside the United States (see 50 USC § 1701(a)). Once such a national emergency has been declared, the IEEPA authorises the president to, among other things, investigate, regulate, nullify, prevent or prohibit any transfer, withdrawal, transport, import or export of, dealing in or other transactions involving any property in which any foreign country or a national thereof has any interest by any person, or with respect to any property, subject to US jurisdiction (see id at § 1702).
Section 1237 of the FY1999 Strom Thurmond NDAA both provides the president with added flexibility to invoke the IEEPA authorities and restricts the breadth of the authorities which the president may use. Section 1237, in essence, replaces the national emergency declaration requirement and authorises the president to exercise IEEPA authorities against a listed entity even if a related national emergency has not been declared. However, Section 1237 restricts the use of IEEPA powers to commercial activity within the United States (and not, for example, overseas activity of US companies) and contains an exception for import-related transactions. Accordingly, Section 1237 is focused on export-related and other non-import commercial transactions in the United States which involve a listed entity.
What does all of this mean?
Parties should continue to proceed with caution when engaging with Chinese entities and conduct additional significant due diligence in relation to entities on the DoD’s list. However, despite publishing the list itself, the administration has taken no further steps, such as identifying the applicable sanctions or publishing implementing regulations regarding Section 1237. Some additional step providing notice of the relevant sanctions is needed in order for any IEEPA-based restrictions to take effect.
In addition, the Treasury Department usually plays a key role in the imposition of sanctions under IEEPA authority, even though Section 1237 of the FY1999 Strom Thurmond NDAA does not specifically delegate authority to (or even mention) the Treasury Department. Treasury Secretary Steven Mnuchin has reportedly opposed the use of economic sanctions against Chinese entities in most situations, so aggressive sanctions against these listed Chinese entities seem unlikely in the near future. Therefore, for now, the practical effect of the list may be limited to a ‘naming and shaming’ of the listed Chinese entities, aimed at putting other companies on notice that these specific entities are now in the US government’s crosshairs, thereby discouraging others from conducting business therewith.
Tensions between the United States and China have continued to build in recent weeks, and the DoD list could become part of the fray. Because the parameters for listing a Communist Chinese military company under Section 1237 are quite open ended (including any company controlled by the Chinese military and engaged in manufacturing or related activities), the Trump administration could use this tool to cast a shadow on additional Chinese entities in the coming months. At the very least, the updating of this list is supposed to be annual, and Congress is now watching closely to ensure that it happens. So, new Chinese entities may be added to the list each year – or more frequently – potentially setting the stage for adverse action against them later (perhaps under a future treasury secretary or administration).
Being flagged by the Defence Department as a Communist Chinese military company also creates new risks for listed Chinese entities of being singled out by Congress for punishing restrictions, as Congress did in Section 889(a)(1)(B) of the FY2019 NDAA, which is now being implemented. This provision prohibits government agencies from entering into a contract (or extending or renewing a contract) with an entity that uses equipment, systems or services from certain covered Chinese entities (including Huawei, ZTE, Hytera, Dahua and other entities reasonably believed to be connected with the Chinese government). The publication of the DoD’s list of Communist Chinese military companies may effectively paint a congressional bullseye on these newly listed entities for potentially similar treatment in future legislation.
Due to the potential far-reaching nature of the new DoD list, both US and foreign companies should continue to monitor developments in this area and seek expert advice to avoid pitfalls.