Trade Sanctions and Export Controls: Recap of 2017 and A Look Forward to 2018

ITAR, EAR, BIS, CFIUS… OH MY!

TRADE SANCTIONS AND EXPORT CONTROLS

Recap of 2017 and A Look Forward to 2018

Edwin Broecker

December 14, 2017

Agenda

I. Export Administration Regulations ("EAR")

II. International Traffic in Arms Regulations ("ITAR")

III. U.S. Economic Sanctions and Embargoes ("OFAC")

IV. Import/Export Risks in M&A

V. Best Practices/Red Flags

VI. 2018 Forecast

VII.Panel Discussion

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I. Export Administration Regulations

A. In the United States, the Export Administration Regulations (EAR) broadly regulate commercial and "dual-use" exports

B. The EAR is administered by the Department of Commerce Bureau of Industry and Security ("BIS")

C. Lingo: items are "subject to the EAR"

D. If there is going to be an export of an item that is subject to the EAR, then a license issued by the BIS may be required

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I. EAR-Subject to the EAR

A. What sort of items are "subject to the EAR"?1. Commodities

2. Software and technology

3. "Dual-use" items

a. Commercial and

b. Military applications

4. Certain trade activities with "sensitive" end-users or end-uses

B. Items not subject to the EAR1. Military items (ITAR)

2. Nuclear-related items

3. Certain non-U.S. and public domain items

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I. EAR-Export

A. The EAR governs the "Export" of items

B. Export is a very broad term1. Physical shipment out of the U.S.

2. Cross-border electronic transmissions of software or technology (Emails or Downloads)

3. "Deemed Export"- disclosure of a controlled technology item IN THE U.S.to a foreign national

I. EAR-Export

D. Doesn't require sales1. Includes intra-company transfers

2. Hand-carry on international travel

E. Temporary and Permanent

F. "Reexports"1. Items made outside U.S. with U.S. origin

content also subject to EAR

G. Transfers1. Transfers of regulated items between parties

outside the U.S.

I. EAR – License Determination

A. License requirements are dependent upon an item’s technical characteristics, the destination, the end-user, and the end-use

B. Technical characteristics1. Classification on Commerce Control List

(CCL) and what the item's Export Control Classification Number (ECCN)

2. EAR99

3. EAR600 series

C. Destination

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I. EAR-License Determination

A. After reviewing the classifications and the destinations, then there are 3 general categories:

1. No License Required

a. Item outside scope of EAR or item to that destination or end user or end use is not required

2. Export License Required

a. Need a license prior to shipment

3. License Required but there is an exception

a. 18 itemized exceptions listed in the EAR

B. Prohibitions for all items subject to the EAR1. U.S. embargoed countries

2. Missile proliferation and chemical, biological or nuclear weapons

3. Restricted parties list maintained by Commerce

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I. EAR-Items not subject to EAR

A. EAR limited

B. Publicly available technology and software are not subject to the EAR if:1. They are already published;

2. They arise out of fundamental research;

3. They are educational; or

4. They are included in certain patent applications

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II. International Traffic in Arms Regulations

A. The International Traffic in Arms Regulations (ITAR) regulate the export (and temporary import) of military articles

B. ITAR is administered by the U.S. Department of State Directorate of Defense Trade Controls (DDTC)1. Exports, reexports and transfers of defense

articles (including technical data) and defense services

2. Brokering of defense articles and services

3. Manufacturing of defense articles

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II. ITAR – Items on U.S. Munitions List/Export

A. U.S. Munitions List (USML) groups items into 21 categories

1. In process of being updated under Export Control Reform (ECR)

B. Focus on item, not use

1. Military use does not make a commercial item subject to ITAR

2. Dual use item under EAR

3. Issue regarding modifications specific for military

C. "Export" very broad1. Physical transfer

2. Deemed export

3. Performing defense service for or on behalf of a foreign person in U.S. or abroad

4. Providing a defense article to foreign government in U.S. (including embassies)

5. Transferring registration or control of an ITAR-controlled item to a foreign person

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II. ITAR Registration

A. Registration with DDTC required for:1. Manufacturers of defense articles (even if just selling domestically)

2. Exporters of defense articles or services

3. Brokers

B. Annual compliance requires1. Special notification obligations

a) 5 days after material changes in registration

1) Includes acquisitions or sales

2) Changes in officers, directors or shareholders

b) 60-days advance notice of sales to foreign buyer

1) Even if transaction occurring anywhere in ownership structure

2. Requires maintenance of ITAR compliance manual

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II. ITAR-License

A. License required for virtually all exports, re-exports or transfers and temporary imports of defense articles, including technical data, and defense services

B. Limited exemptions

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III. Office of Foreign Assets Control

A. In the United States, trade sanctions administered by the Treasury Department's Office of Foreign Assets Control (OFAC)

B. Sanctions regime1. Comprehensive (5 Regions)

2. Targeted industries

3. Targeted individuals

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III. OFAC Comprehensive Sanctions

A. IranB. SyriaC. Crimea RegionD. North KoreaE. CubaF. Sudan (removed in

October)

SYRIA

III. OFAC Limited Sanctions

A. Limited Sanctions (some dealings permitted others restricted)

1. Russia

2. VenezuelaVENEZUELA

III. OFAC-List Based Sanctions

A. 13 Countries have List-Based Sanctions (specific items restricted)

1. Balkans

2. Belarus

3. Burundi

4. Central African Republic

5. DR Congo

6. Iraq-related

7. Lebanon-related

8. Libya

9. Somalia

10. South Sudan

11. Venezuela

12. Yemen

13. Zimbabwe

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III. OFAC – Group Based Sanctions

A. Targeted Groups and Activities 1. Counter-Narcotics

2. Transnational Criminal Organizations

3. Counter-terrorism

4. Non-proliferation

5. Rough Cut Diamonds

6. Human Rights

7. Cyber-security

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III. OFAC-Specially Designated Nationals

A. OFAC maintains list of Specially Designated Nationals and blocked persons (SDNs)1. Criminals, dictators, etc.

B. Sanctions cover entities in which an SDN owns, directly or indirectly, individually or in the aggregate, 50% or more of the entity, even if the entity is not specifically listed1. KYC– Know your customer obligations

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III. OFAC-Types of Sanctions and Applicability

A. Comprehensive Sanctions generally means no:

1. U.S. import/export from target country

2. New investment in target country

3. Export or services, technology or property in target country

B. Other sanctions are specific1. Need to check specific rules and regulations

2. https://www.treasury.gov/resource-center/sanctions/Programs/Pages/Programs.aspx

C. Applies to U.S. Persons

1. Citizens and permanent residents

2. U.S. companies and foreign branches

3. Any person or company located in U.S.

D. Some sanctions apply to non-U.S. companies owned or controlled by U.S. persons

E. Property or activity in U.S. (dollar-based transactions)20

III. OFAC-Iran

A. Comprehensive Sanctions remain even though JCPOA lifted the nuclear weapons-related secondary sanctions1. No trade, investment, services

2. No transactions with the Iranian Government, banks and no dollar transactions

B. Subsidiary liability1. Non-U.S. entity owned or controlled by

U.S. person prohibited from knowingly engaging in transactions

C. State-level sanctions21

III. OFAC-Iran

A. Licenses1. General License D-1: authorizes certain transactions incident to personal

communication and internet

2. General License H: non-U.S. entities owned or controlled by U.S. persons to transact business with Iran, subject to conditions

3. General License I: allows certain contracts relating to commercial aircraft

4. General License J-1: temporary trips of eligible U.S. controlled civilian aircraft where non-Iranian parties continue control of aircraft

B. Humanitarian Exemption

C. Completely foreign transactions

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III. OFAC-Penalties

A. Criminal penalties

1. Fines up to $1,000,000 per violation and/or 20 years imprisonment

B. Civil

1. Greater of $284,582 or twice the value of the transaction per violation (Cuba is $83,864)

2. Strict liability

C. Collateral designation as SDN or inclusion on Denied Parties List

D. Debarment from government contracts/Qui tam and False Claims Act/Whistleblowers

E. Ineligible to receive export licenses

F. Reputational risks

G. 5 year Statute of Limitations

III. OFAC-Penalties

A. Big Fines and Penalties

Standard Charter Bank

$967M2012/2014

ZTECorporation

$1.19B2017

CommzerbankAG

$1.45B2015

HSBC Bank$2.29B2012

BNP Paribas S.A.$8.96B2014

IV. M&A Risks

A. Due diligence may require ITAR/EAR licenses for "deemed export" issues

B. Timing and pre-clearance issues1. CFIUS (Committee Foreign Investment in U.S.)

a) Has authority to unwind transaction

2. ITARa) 60-day prior notice

b) 5-day notice

C. Representations and Warranties

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IV. M&A Risks

D. Successor liability 1. Applies to both equity and asset transactions

2. Customs violationsa) U.S. v. Shields Rubber (U.S. 1989)

b) U.S. v. Ataka America (1993)

c) U.S. v. Adaptive Microsystems (2013) – bankrupt seller

d) U.S. v. CTS Holdings, Inc. (2015) – defunct seller

3. BIS/Export violationsa) Sigma-Aldrich (2002) – administrative case

1) "A company will be held accountable for violations of US export control laws committed by companies that they acquire." BIS Press Release announcing settlement

4. ITARa) Pre-clearance notification requires assumption of liability

b) ITAR Section 122.426

V. Best Practices/Red FlagsA. Best Practice: Know your customer

B. BIS maintains a list of warnings that may indicate problems

1. Name similarity

2. Middleman hiding end-user

3. Routine installation and maintenance declined

4. https://www.bis.doc.gov/index.php/enforcement/oee/compliance/23-compliance-a-training/51-red-flag-indicators

C. Train employees on risks of diversion

1. Item sold as commercial item but end user is military

2. Item sold to UAE distributor with large operation in Iran

D. Unusual transactions

1. Cash when past transactions are credit

2. Unusually large shipments

3. Multiple shipments in short period of time

E. Red Flags require resolution before a transaction may proceed 27

V. Best Practices-International Issue

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Guinea and Guinea-Bissau

Venezuela

Libya

Tunisia

Egypt

Haiti

Cuba

Cyprus

Balkans

Lebanon

Belarus

Ukraine

Crimea Region

SyriaArmenia and

AzerbaijanIraqRussia

Iran

Afghanistan

China

North Korea

Burma

Central African Republic

Burundi

DR Congo

Zimbabwe

Somalia

Sudan and South Sudan

Yemen

Eritrea

U.S. only

U.S. and E.U.

E.U. only

VI. 2018 Forecast

A. Iran1. Congressional determination

B. North Korea

C. Russia

D. Mid-term elections

E. Enforcement

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VI. Panel Discussion

Craig CarpenterVice President and Associate General CounselIngram Micro

Lloyd PorterDirector Global Trade ComplianceCook Medical

Joseph PerkinsCorporate CounselAllison Transmission

© 2017 Quarles & Brady LLP -This document provides information of a general nature. None of the information contained herein is intended as legal advice or opinion relative to specific matters, facts, situations or issues. Additional facts and information or future developments may affect the subjects addressed in this document. You should consult with a lawyer about your particular circumstances before acting on any of this information because it may not be applicable to you or your situation.

Thank You! Questions?

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Edwin Broecker317.399.2828 [email protected]