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Trade Controls Due Diligence: When, Where, and How to Review Business Partners and Transactions
Momentum Webinar
June 26, 2014
Agenda2
Regulatory Overview
Why / When Diligence is Warranted
Specific Diligence Steps
Questions
Regulatory Overview
Importance of Compliance4
Corporate and Individual Penalties
Reputational Damage
Business Risk
Military and Security Exports5
•What
• Exports of items or technical data designed or modified for military use
•Who
• Department of State, Directorate of Defense Trade Controls (DDTC)
•How
• International Traffic in Arms Regulations (ITAR)
ITAR – KEY POINTS6
Registration Requirement
Nearly all ITAR exports, including exports of technical data, require a license
Embargoes – No ITAR exports to certain countries or nationalities
Dual Use / Commercial Exports7
•What
• Exports of most U.S.-origin items and related technology, now including some military items
•Who
• Bureau of Industry and Security (BIS)
• How
• Export Administration Regulations (EAR)
EAR – KEY POINTS8
EAR99
End-user, end-use, and destination
Deemed exports
Sanctions – The Basics 9
• What• Comprehensive• Selective• Programmatic
• Who • Office of Foreign Assets Control (OFAC)
• How • Specific sanctions regulations codified in 31 C.F.R. Chapter V
Sanctions – KEY POINTS10
Jurisdiction over U.S. persons +
SDNs
50% Ownership by SDNs
Exports of Services / Facilitation
Foreign Corrupt Practices Act11
• What• Prohibits offering or paying bribe
to a foreign official to corruptly obtain a business advantage
• Who • DOJ and SEC
• How• Anti-Bribery Provisions• Books and Records Provisions• Internal Controls Provisions
FCPA – KEY POINTS12
Government-Owned Entities
Third Parties: Agents, Distributors, and Partners
Willful Blindness
Why and When Diligence is Warranted
The “Knowledge” Standard
15
Knowledge – the Law
No person may knowingly or willfully cause, or aid, abet, counsel, demand, induce, procure, or permit the commission of, any act prohibited by, or the omission of any act required by, 22 U.S.C. 2778 and 2779, or any regulation, license, approval, or order issued thereunder.
ITAR section 127.1(e). See also EAR, FCPA, and OFAC Sanctions.
When Diligence is Warranted
New customer
New representative
Joint venture
Acquiring a new company
What Information Do You Need?
17
Type of organization Controlled goods/technologies involved Territories involved Commitment to compliance Compliance program Registration Use of agents Government touch points Subject to past enforcement action?
Look Out For RED FLAGS
18
Examples of Red Flags
Distributor wants products that do not fit the identified market (e.g. space heaters for UAE)
Opaque billing practices by representative (e.g. lump sum charges, unexplained “fees”)
Sanctioned country individual is a employee of a non-sanctioned country representative
Customer wants to make payment from bank outside country in which customer is based
Proposed agent in country deemed to be corrupt would interact regularly with government officials
Diligence Keys and Discussion
20
Diligence Keys
Conduct risk assessment to target review– Diligence should be conducted based on risk level– Extent of diligence based on risk too – extensive diligence not
needed in every situation
Develop appropriate tools
Follow consistent process
Document steps taken / findings
§6
K/E 2
§4.G.7
§8B2.1(c)
Risk Assessment
21
22
Due Diligence Scenario 1
You are the Chief Compliance Officer of a U.S. encryption software company. Your company is hiring a marketing agent in Russia because it is having trouble winning lucrative government contracts.
Discussion / Issues to consider• What are the risks?• How do you prioritize them?• Who leads the diligence effort?• What steps do you take?• How do you protect company post-diligence?
23
Due Diligence Scenario 2
You are the General Counsel of a publicly-listed U.S. company acquiring a small European company. Your CEO demands that diligence be completed in two weeks.
Discussion / Issues to consider• How do you prioritize issues to review?• What resources do you need?• How much can you do post-acquisition?
24
Due Diligence Scenario 3
You are the lowest-ranking lawyer in the corporate department of a large multinational defense contractor. You are responsible for hiring a forensic accountant to assist in due diligence related to the potential acquisition of a Mexican company.
Discussion / Issues to consider• Who directs the accountants?• What are they looking for?• What is their responsibility with respect to potential red flags?• How do you manage costs?
Diligence Tools and Process
26
Due Diligence Process
Get to know transaction partners
Check references, pose follow-up questions
Public records search
Additional steps if needed: Background check
Interview partner representatives
Audit partner’s books
Require them to attend training
Questionnaires/Surveys
Low cost Usually internally managed Example questions:
– Evidence of DDTC registration– Names of principals– Contact information– Facility locations / offshore operations– Officers / directors who are or were
government officials– Whether company maintains compliance
policies / has provided training
27
Robust Contract Terms
Use to implement the compliance approach
End use / End user restrictions
Delineate responsibilities of each party
Other provisions depending on facts, e.g.,– Immediate termination right if compliance breach– Audit right– Right to review / pre-approve all subcontractors
28
Recording Diligence
Maintain file of all records obtained / prepared in relation to diligence review– Details of screening– Notes of reference checks– Compliance department approvals– Completed questionnaires– Other notes and records
29
Free Tools
Internet Search Engines– Hint: the government knows about search
engines
Government registration search tools Government restricted party tools
– SAM
Company registrations & licenses– Some jursidictions offer free searches
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Restricted Party Screening Tools
Moderate cost Multiple vendors Better than free tools
– Fuzzy logic– Consolidated search: OFAC, DDTC,
BIS, DFAIT, OSFI, RCMP, UN, EU, etc.
– Can be integrated with ERP systems
31
Questions?
Thank you!
Christina Cugle
Northrop Grumman
Thad McBride
Sheppard Mullin
Mark Jensen
Sheppard Mullin
