FMS v. DCS / Offsets

Foreign Military Sales (FMS) FMS or DCS Foreign Military Sales (FMS) Letter of Offer and Acceptance Foreign Country US Direct Commercial Sale (DCS) Contract Foreign Country Textron

Foreign Country Preference FMS or DCS Foreign Country Preference Competition or Sole-Source US Contractors only or International Integrated Weapon System Separate OEMs or Single Integrator? USG Stock/Supplies or Textron Provided? Timing DCS- Export Licensing, Negotiation of Terms and Conditions FMS- Certified USG Proposal, Competition Requirements, Audit/Evaluation Terms and Conditions DCS- Negotiable Based Upon Foreign Country Standard Terms FMS- USG LOA Terms Payment Schedule DCS- Negotiable FMS- US Treasury Deposit

FMS or DCS US Gov Preference Department of State and/or DSCA can require FMS-Only Export Licenses Defense Articles Defense Services Technical Data Congressional Notification Defense Articles or Services Greater than $50M USD All Items on US Munitions List Significant Military Equipment (SME) to be Manufactured Abroad Identified by Asterisk on US Munitions List Major Defense Equipment (MDE) Greater than $14M USD SME with Non-Recurring R&D Greater than $50M USD; or SME with Total Production Cost Greater than $200M USD

FMS or DCS Export Control DSP-5 DSP-85 DSP-73 DSP-61 DSP-83 Unclassified Hardware Permanent Export DSP-85 Classified Hardware Permanent Export/Import and Temporary Import DSP-73 Temporary Export DSP-61 Temporary Import DSP-83 Non-Transfer and Use Certificate All SME Exports Technical Assistance Agreement (TAA) Defense Services Technical Data

Export License Process FMS or DCS Export License Process Department of State (DOS) DoD Directorate of Defense Trade Controls (DDTC) Other State Department Offices (DOS) Intelligence Agencies Defense Technology Security Agency (DTSA) Military Departments (DOD) Defense Agencies (DOD) Joint Chiefs of Staff (JCS) DDTC Secretary of Defense (OSD)

Congressional Notification Process FMS or DCS Congressional Notification Process Department of State (DOS) DoD Directorate of Defense Trade Controls (DDTC) National Security Council (NSC) Office of Management and Budget (OMB) Legislative Affairs Bureau (DOS) International Relations Committee (House of Representatives) Foreign Relations Committee (Senate) Assistant Secretary of State for Legislative Affairs (DOS) DDTC

Differences in Contracting Process

Differences in Contracting Process FMS US Gov Proposal Process Certified Cost or Pricing Data Auditable Format Cost Evaluation by Element of Cost DCAA Audit Bases of Estimate (BOEs) DCS Proposal Contract Line Item Price Data Customer Format

Offsets are a Requirement of International Defense Sales What is an Offset Industrial/Commercial benefits provided to foreign governments as inducement or condition to purchase military goods or services, Includes benefits such as co-production, licensed production, subcontracting, technology transfer, in-county procurement, marketing and financial assistance, and joint ventures. (Defense Offsets Disclosure Act of 1999, Pub. L. 106-113, section 1243(3)). There are three types of offsets: direct offsets, semi-direct offsets and indirect offsets. Direct Offset e.g. production in-country of components or subsystems of the item being sold and technology transfer Semi-Direct Offset e.g., Defense products and services not related to components or subsystems being sold Indirect Offset e.g. purchase of manufactured commercial products, foreign direct investment, education, training, market / export assistance, technology transfer Offsets are a Requirement of International Defense Sales

Types of Offsets

Objectives of Offsets Boost the domestic economy and defense industry by channeling activity to local companies. Transfer of advanced technology and technological know-how to local companies and training of the local workforce. Import substitution in order to minimize the balance of payments impact generated by military purchases. Create sustainable business partnerships Increase the country’s self sufficiency and independence from foreign suppliers

The Many Faces of Offset Finland, Switzerland, UK UAE, Greece, South Korea, Saudi Arabia, India, Brazil Canada Hungary, Romania, Lithuania Industrial Participation Offset Industrial Cooperation Industrial Benefits Industrial Compensation Industry Involvement Australia Offsets have many different names in the global marketplace Chile, Israel, Spain, Taiwan, Denmark, Norway, Colombia Offsets are industrial compensation practices required as a condition of purchase in sales of defense articles and/or defense services

Countries With Offset Requirements North America Europe Middle East Asia Pacific South America Africa Austria, Belgium, Bulgaria, Czech Republic, Denmark, Finland, Germany, Greece, Hungary, Italy, Lithuania, Netherlands, Norway, Poland, Portugal, Romania, Slovenia South Africa, Spain, Sweden, Switzerland, Turkey, United Kingdom Brazil, Canada, Chile, Colombia Israel, Kuwait, Oman, Saudi Arabia, UAE Australia, India, South Korea, Malaysia New Zealand, Philippines, Taiwan, Thailand

Complexity of Offset Requirements Form of Offset Indirect Direct Obligation % 30% 50% 100% Increasing in amount of offset required Project Type Project Type Technology Transfer Co-production, subcontracting Indirect Increasing demands for direct defense manufacturing in-country Multipliers Highest 1x to 10x Mid-Range 1x to 5x Lowest .25x to 3x Higher risk / higher multipliers ………………… lower risk / lower multipliers Performance Terms Liquidated Damages Performance Penalties Best Efforts Increasing Demands for Performance Commitments & Penalties Offset Focus Foreign investment, tech transfer, exports, employment Defense infrastructure, foreign investment, R&D, tech transfer Strengthen local defense industry, tech transfer, exports

Offset Fulfillment Methods Definition Co-production, subcontracting or licensed production Local production of the complete or of part of the defense equipment that is being supplied under the procurement contract. Technology transfer May take the form of research and development conducted abroad, technical assistance provided to the subsidiary or joint venture of overseas investment Training Training related to the production or maintenance of the exported defense item. Training, may also be required in unrelated areas, such as computer training, foreign language skills, or engineering capabilities Investments Investment taking the form of capital invested to establish or expand a subsidiary or joint venture in the foreign country Donations Cash or in-kind contributions. Can range from donation of excess military equipment to charitable donations. Credit assistance Credit assistance includes direct loans, brokered loans, loan guarantees, assistance in achieving favorable payment terms, credit extensions, and lower interest rates. Offset credit purchases Purchase of offset credits from offset services providers or offset obligors

US Gov Hands Off Approach No agency of the U.S. Government shall encourage, enter directly into, or commit U.S. firms to any offset arrangement in connection with the sale of defense goods or services for foreign governments US Government assumes no obligation to satisfy or administer the offset requirement or to bear any of the associated costs No involvement with the negotiation of the offset agreement itself between the company and the FMS customer, and no role in judging the merits of these agreements

Limited to Admin Costs Only? Prior to 1995 DFARS language had limited recovery by a US contractor to the administrative costs to administer specific requirements of its offset agreement 31 May 1995 Director of Defense Procurement clarified that US contractors may recover the full cost necessary to implement an offset agreement Policy change deemed necessary because defense companies doing business with FMS countries had to pass costs for offsets demanded by the countries in return for buying U.S. defense systems on to all customers, including DoD, in the form of indirect costs US Gov position is that the US taxpayer should not pay any offset costs in connection with a foreign military sale DFARS 225.7303-2(a)(3) modified to include “all” costs incurred for offset agreements

Under Secretary of Defense Memo

USG Policy and Guidance Presentation Title April 26, 2017 USG Policy and Guidance Public Law 102-558 - President’s Offset Policy No agency of the USG shall encourage, enter directly into, or commit US firms to any offset arrangement in connection with the sale of defense goods or services to foreign governments; USG funds shall not be used to finance offsets in security assistance transactions . . . The decision whether to engage in offsets, and the responsibilities for negotiating and implementing offset arrangements, reside with the companies involved Important for PCO to ensure that all of the Contractor’s obligation/cost are covered directly by the foreign-funded FMS otherwise increased indirect rates could affect other USG contracts funded by the US taxpayers Speaker Name

DSCA and DFARS Offset Policy Presentation Title April 26, 2017 DSCA and DFARS Offset Policy DFARS 225.7303-2(a)(3) A U.S. defense contractor may recover all costs incurred for offset agreements with a foreign government or international organization if the LOA is financed wholly with customer cash or repayable foreign military finance credits. DSCA MEMO 02-16, dated 22 May 2002, SAMM E-Change 31 “It is inappropriate for USG personnel to discuss with the FMS customer the nature or details of an offset arrangement. However, if known, the fact that offset costs have been included in the P&A or LOA price estimate will be confirmed should the Purchaser inquire. Purchaser should be directed to the US contractor for answers to all questions regarding its offset arrangement, including questions regarding what might be included in these costs.“ “Offset costs should be included as part of the line item(s) unit cost in P&A data and in estimated prices quoted in the LOAs.” DSCA MEMO 02-16 also breaks out handling of offset costs in 2 cases Competitive procurements Noncompetitive procurements Speaker Name

DSCA and DFARS Offset Policy Presentation Title April 26, 2017 DSCA and DFARS Offset Policy Competitive Procurements (SAMM Para 80106) “. . . The USG will normally not have visibility as to whether offset costs are included in the price . . . Requests to include these costs after LOA acceptance will not be allowed. No notes will be included in the LOA concerning offset costs.” Noncompetitive Procurements (SAMM Para 80106) “. . . it is the contractor’s responsibility to inform the implementing agency when estimated offset costs have been included in the FMS pricing information . . . The USG contracting officer is responsible for determining if costs included are reasonable and allocable -- the same as any other element of cost in the contract . . . Requests to include these costs after LOA acceptance will require an LOA modification.” Note on Offset Costs in LOA’s (SAMM Para 80106) “. . . If the Purchaser desires visibility into these costs, this should be discussed with the contractor at the time the offset agreement is signed. The contracting officer will ensure that the offset costs priced into the FMS contract are reasonable and consistent with the offset agreement.” Speaker Name

PCO Review of Offset Costs Reasonable Allocable Allowable Interim Rule (effective June 2015) Revises DFARS 225.7303-2, “Cost of doing business with a foreign government or an international organization” When the provision of an indirect offset is a condition of the FMS acquisition, and provided that the U.S. defense contractor submits to the contracting officer an offset agreement or other substantiating documentation, the indirect offset costs are deemed reasonable for the purposes of FARpart 31.

Example Offset Guidelines Objective to expand the industrial base, increase participation by the private sector, and to secure technology transfer and investment opportunities for Saudi nationals. Offset obligation equal to 40% of contract value Offset required for supply contracts with value > SR 400M (US$107M) Joint ventures encouraged with 50/50 capital structure (Saudi investors / Contractor group) Multipliers range from 1 to 4 for employment, training, donations, R&D Multipliers higher for investments depending on capital structure (mix of equity and debt financing) 10 Year offset period of performance No bank guarantees required and no penalties provisions for non-performance Offset non-performance will be considered in future supply contract awards