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Constitutional Challenges Brought By TikTok and Implications for Businesses in Bifurcating Markets

Posted by on August 29, 2020

This alert briefs TikTok’s constitutional challenge and regulatory implications. We highlight the desirable priorities for businesses concerned to enhance technological and legal inter-operability in both US and China, and robustly defend business freedom and customer interests in the bifurcating markets.

1. Executive Summary

Against a serial of “pre-emptive” strikes especially by the executive order issued on August 14, 2020 on national security grounds against TikTok, TikTok filed due process challenges on August 24, 2020. This note briefs this complaint, and alerts the market-bifurcating regulatory climate change, especially the following:

  • Projected business growth and expectations for “customary regulatory clearance” in business and financing transactions must be re-visited.
  • International businesses must make informed actions after fully appreciating that the US-driven expansive measures are not isolated, or political stuns; rather they represent “whole-of-government” approach initiated for legitimate causes, from thwarting “foreign influence” to remove foreign market access blocks.
  • Traditional confidence of innocence from non-compliance, presumed on prior or inherited success/privilege in the East, will not prevail over and, fact-depending, may exacerbate such regulatory risks in the West.
  • Stakeholders’ attention must not be diverted by the current enforcement focus on privately owned mobile apps of Chinese origin/roots;
  • Enforcement precedents to be set may be sector-neutral, sclarable, replicable, and applicable to either SOEs or private businesses (regardless of China or not), once deemed as playing a role in major foreign market access barriers threatening to US national security/foreign policy.
  • Behaviors in the East lacking sufficient appreciation of the regulatory impacts in the West, if coupled with incompetency to engage holistically, the legal and business risks, however, could be catastrophic; vice versa.
  • International companies must accelerate your technological and legal inter-operability in both US and China, and robustly defend your business freedom and customer interests.

Our separate briefings on constitutional challenges by WeChat users, the WeChat Ban implications, and the wider federal procurement ban against Chinese ICT, and the overall “whole of government” approach, are available here, here, here, and here.

2. Analysis

On August 6, 2020, Trump administration issued the Executive Order on Addressing the Threat Posed by WeChat to wind down any transactions with the Tencent Holding Company related to WeChat China.   On the same day, Trump administration also issued the Executive Order on Addressing the Threat Posed by TikTok to wind down any transaction with ByteDance Ltd.  On August 14, 2020, while negotiating divestment already ongoing at least since March, TikTok filed this constitutional due process challenges directly on its own behalf.

Essence of Due Process Challenges

TikTok contends Presidential action banning TikTok violates its due process and free speech rights, and constitutes ultra vires (abuse) of emergency power.

The essence of TikTok’s complaint is as follows:

  • Due Process Violation & Abuse of Emergency Power: TiTok petitions judicial review of the Presidential action banning TikTok. TkTok contends that such action violates its due process rights under Fifth Amendment, and constitutes ultra vires (abuse) of emergency power, and violation of non-delegation clause of the underlying statute – International Emergency Economic Powers Act (IEEPA).

  • Effective Security Measures Already in Place: TikTok has deployed effective data security and privacy protection measures and personnel under control by its top security officer in US and reliance on “respected American“ third-party vendors to validate control.

  • No Foreign Government Connection or Control: TikTok argues that there exists no connection between TikTok and Chinese government; nor does Chinese government exert any control over TikTok Inc.

  • CFiUS Review of Prior Transaction Terminated “Without Any Reason:” TikTok contends that it has been in close cooperation with US regulator especially CFIUS (Committee on Foreign Investment in United State) in pending transactions executed in 2017 revisited by CFIUS (Committee on Foreign Investment in United States), which initiated review in June 2020 but terminated the communication recently “without any reason.”

  • No Bona Fide National Security Reason: TikTok contends that “the background and timing of the executive order plainly suggest that it was designed not for a bona fide national security reason but instead to further the President’s anti-China political campaign.”

  • Requested Relief: TikTok requests invalidating the executive order and “preserving the status quo,” and ask for any “just and proper” relief, because there is no “unusual and extraordinary threat” to national security as required by IEEPA.

Specifics of Due Process Concerns

TikTok highlights of factual backgrounds warranting due process concerns, e.g.:

“On July 30, 2020, TikTok also ‘notified CFIUS that ByteDance had signed a non-binding Letter of Intent (LOI) with Microsoft Corporation contemplating that, among other things, Microsoft could acquire the U.S. TikTok business and could serve as the trusted technology partner for TikTok’s U.S. business.’”

“At 11:55 p.m. on July 30, 2020—the final day of the statutory CFIUS review period—the Committee issued a letter stating that “CFIUS has identified national security risks arising from the Transaction and that it has not identified mitigation measures that would address those risks.”

“The executive order evoking presidential power under national emergency uses ‘equivocal languages’ for its ‘self-described’ finding based on ‘unfounded speculation.’…  ‘CIA finds ‘no evidence’ that Chinese intelligence services have ever accessed data from TikTok.”

“US President imposed further conditions for any divestment and expressed preference for “Oracle over Microsoft.” Moreover, A separate August 14 executive order mandating immediate divestment from the Musical.ly deal in 90 days and ‘ignored the mitigation efforts by TikTok Inc.’”

Whole-of-Government Approach but Lack of Process and Criteria

Under the “whole of government” approach as we alerted previously, these enforcement actions are not isolated or political stun by political celebrities. They aim to “unplug” from the US (and Western) economy the upstream revenue streams of targeted state-owned enterprises (SOEs) and private national champions deemed unilaterally as state-influenced, either controlled or connected, beyond Huawei or TikTok.

Traditional confidence of innocence from non-compliance, alone, is inadequate to control and prevent these regulatory risks, because:

  • National Security Driven Enforcement Differs: The enforcement is increasingly based on aggressive interpretation of US national security law to melt the law enforcement route and national security route;

  • Lower Evidential & Procedural Thresholds: Such enforcement exposes companies with operations/management in China with close scrutiny under export/investment control regimes with significantly lowering evidential and procedural thresholds than those applied in anti-corruption/fraud contexts

  • Toleration of Errors: Certain degree of legitimacy exists (subject to judicial review but with realistic delays and uncertainty), aims for “destruction of enemy” and tolerates certain level of errors and mistakes by the executive authorities; and

  • Precedents Swiftly Set With Replicating Effects: these enforcement actions currently target mobile apps of Chinese origin or roots; yet the precedent to be set quickly will reach beyond high-tech sectors facing similar foreign market access barriers.

National security concerns underline the current executive order and earlier legislative actions against TikTok and other apps include:

These concerns are hardly mere surprising or speculative.  Current Chinese security-related laws and regulations command “any organization or individual” to cooperate with Chinese national intelligence agency upon request.  “It would be illegal for Chinese telecommunication companies to say no, should Chinese intelligence agencies demand information from them,” according to the disclosure by Netherlands Institute of International Relations in July 2020.

Considerations on Due Process Claims in National Security Clearance

While court precedents do guarantee entities subject to CFIUS review due process, the reality is that such a guarantee does not generally provide very much potential for overturning a CFIUS determination or a presidential order.  CFIUS is not required to disclose information that the US government determines should remain confidential regarding the bases for a national security threat finding, according to one of the authors of the original national security law.

Further, CIFUS could impose mitigation measures that would envisage an entirely new and robust compliance function and team separate from control, influence or connection with current shareholders.

3. Outlook

In terms of regulatory climate, the lack of process and criteria at the US executive branch of these intervention and enforcement actions could undermine achieving the well-intended national security and foreign policy goals and even worse, risk exacerbating the rising digital protectionism already abroad against US companies, as warned by the Atlantic Council.

The bidding for TikTok divestment remains ongoing. According to China Big Idea, two US bidders form their respective consortiums whose co-investors remain fluid, as of August 29, 2020. Microsoft indicated that it “may invite other American investors to participate on a minority basis in this purchase.”

As of August 29, 2020, Chinese Ministry of Commerce (MOFCOM) has expressed explicit concerns that the divestment deal triggers Chinese export control clearance, because its core algorithm constitutes controlled items such as artificial intelligence interactive technology.  MOFCOM further recommends TikTok’s parent company to “seriously and carefully consider the need to suspend substantive negotiations.”

The seemingly appearance of chaos are time where stakeholders set crucial precedent. The precedent to be set may be sclarable, replicable, and applicable to either SOEs or private businesses (regardless of China or not), once deemed as playing a role in major foreign market access barriers threatening to US national security/foreign policy, beyond uninstalling mobile apps.

Absent sufficient appreciation of the regulatory impacts and competency to engage holistically, the legal and business risks, however, could be catastrophic in the long run for a company and its personnel.

International companies must accelerate your technological and legal inter-operability in both US and China, and robustly defend your business freedom and customer interests, before it cycles back to an embrace of economic globalism.

We continue to closely monitor trade regulation/anti-corruption developments and the impacts to risk management functions of international businesses. Should you have any questions, please do not hesitate to contact us.