Trade Controls Due Diligence: When,
Where, and How to Review Business
Partners and Transactions
Momentum Webinar
June 26, 2014
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Agenda
Regulatory Overview
Why / When Diligence is Warranted
Specific Diligence Steps
Questions
Regulatory
Overview
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Importance of Compliance
Corporate and Individual Penalties
Reputational Damage
Business Risk
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Military and Security Exports
• Exports of items or technical data
What designed or modified for military use
Who
• Department of State, Directorate of
Defense Trade Controls (DDTC)
How
• International Traffic in Arms Regulations
(ITAR)
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ITAR – KEY POINTS
Registration Requirement
Nearly all ITAR exports, including exports of
technical data, require a license
Embargoes – No ITAR exports to certain
countries or nationalities
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Dual Use / Commercial Exports
What
Who
How
• Exports of most U.S.-origin items and related
technology, now including some military items
• Bureau of Industry and Security (BIS)
• Export Administration Regulations (EAR)
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EAR – KEY POINTS
EAR99
End-user, end-use, and destination
Deemed exports
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Sanctions – The Basics
• Comprehensive
What • Selective
• Programmatic
Who
How
• Office of Foreign Assets Control (OFAC)
• Specific sanctions regulations codified in 31
C.F.R. Chapter V
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Sanctions – KEY POINTS
Jurisdiction over U.S. persons +
SDNs
50% Ownership by SDNs
Exports of Services / Facilitation
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Foreign Corrupt Practices Act
What
Who
How
• Prohibits offering or paying bribe to a foreign official
to corruptly obtain a business advantage
• DOJ and SEC
• Anti-Bribery Provisions
• Books and Records Provisions
• Internal Controls Provisions
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FCPA – KEY POINTS
Government-Owned Entities
Third Parties: Agents, Distributors, and Partners
Willful Blindness
Why and When Diligence is
Warranted
The “Knowledge” Standard
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.
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When Diligence is Warranted
 New customer
 New representative
 Joint venture
 Acquiring a new company
What Information Do You Need?
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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
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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 nonsanctioned 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
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Diligence Keys and
Discussion
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
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Risk Assessment
§4.G.7
K/E 2
§6
§8B2.1(c)
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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
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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?
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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?
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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
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Who directs the accountants?
What are they looking for?
What is their responsibility with respect to potential red flags?
How do you manage costs?
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Diligence Tools and Process
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
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Questionnaires/Surveys
 Low cost
 Usually internally managed
 Example questions:
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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
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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
Recording Diligence
 Maintain file of all records
obtained / prepared in relation to
diligence review
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Details of screening
Notes of reference checks
Compliance department approvals
Completed questionnaires
Other notes and records
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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
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Questions?
Thank you!
Christina Cugle
Northrop Grumman
Christina.cugle@ngc.com
Thad McBride
Sheppard Mullin
tmcbride@smrh.com
Mark Jensen
Sheppard Mullin
mjensen@smrh.com