The Department of Treasury’s office that administers reviews of foreign investments in U.S. companies is changing how it identifies critical technology businesses and related technologies that require mandatory review during a foreign investment process.  The Committee on Foreign Investment in the United States (CFIUS or the Committee) issued a final rule effective October 15, 2020 that updates its approach to identifying export controlled items and know-how (“technology”) of concern to the Committee when reviewing potential national security issues with respect to foreign investments in the U.S.  The Committee had earlier issued its own new approach to identifying those critical technology national security areas of concern, but appears to have recognized that the U.S. government already has a well-established system for determining whether U.S. military, nuclear, and dual-use items/know-how are critical technologies that are sensitive from a national security perspective.  The new CFIUS approach falls back on identifications of sensitive know-how in the existing export controls in the U.S. Department of State’s International Traffic in Arms Regulations (ITAR) governing military item/know-how exports, Nuclear Regulatory Commission and Department of Energy export controls on nuclear products/know-how, and the Commerce Department’s, Bureau of Industry and Security (BIS) controls on dual use items/know-how.

The new approach implements the requirements of the Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA, which amended the prior CFIUS statute) to clarify whether a review will be required of foreign investments by CFIUS for “critical technology businesses.” In short, mandatory review requirements now turn on whether an export license would be required to release export controlled “critical technology” (the know-how required to develop, produce and in some cases to use export controlled items) to the foreign investor country/personnel.  There are a few wrinkles related to export license exceptions, but those can be evaluated on a case-by-case basis for proposed acquisitions and investments.

This new approach provides more certainty for both U.S. and non-U.S. companies evaluating proposed investments in the U.S. as it relies on a long-established approach to the identification of export controlled know-how. That said, many U.S. companies make products that are subject to export controls and this new approach makes it clearer than ever that more foreign investment in the U.S. will be subject to mandatory CFIUS filings.  The ruling also puts some additional pressure on BIS to continue its progress toward identifying emerging and foundational technologies that should be added to existing traditional export control lists, which are primarily based on multilateral agreements, with some important additional unilateral U.S. controls.  As part of that effort, Commerce re-started its moribund Emerging Technologies and Research Technical Advisory Committee as one part of its effort to identify new technologies for export control.

The recent expansion by BIS of controls on a series of relatively low level technologies for military end use and end users (and those who provide “support” for those users) in China, Russia and Venezuela is likely to trigger even more mandatory filings, particularly for proposed Chinese investment.  The newly expanded scope of controls for military end users includes a broad swath of relatively basic products, including such common items as stainless steel plate, most industrial pumps and a variety of commonly used valves, items that are commonly traded and not typically thought of as sensitive from a national security standpoint. That said, not all of the newly-listed control categories have associated technology export controls.  Sorting out what is controlled for export and what is not for a particular proposed investment will be critical to determining CFIUS filing strategy.

 

This week, the Office of Foreign Assets Control (OFAC) announced a settlement agreement with Berkshire Hathaway Inc. involving apparent violations of the U.S. embargo on Iran by a subsidiary in Turkey.  Under the agreement, Berkshire Hathaway agreed to pay over $4.1 million to settle allegations that the Turkish subsidiary exported 144 shipments of cutting tools to third party distributors knowing that the goods would ultimately be shipped to Iran.  Although the violations were voluntarily disclosed to OFAC, the agency determined that the Turkish subsidiary’s actions were “egregious” due to the willful nature of the subsidiary’s conduct.  Among other things, the senior managers at the Turkish subsidiary intentionally pursued business with Iran when they knew such business was prohibited and took a number of steps to try to conceal their conduct, like using third party intermediaries in Turkey, corresponding via personal email accounts, and entering false information in internal systems.  Ultimately, the U.S. parent company launched an internal investigation after receiving an anonymous tip about the conduct of the subsidiary.  According to OFAC, the subsidiary’s bad acts continued during the investigation, lying to investigators and encouraging others to do the same.

The case documents are worth a full read, but there are a number of key takeaways for exporters:

  • Liability for foreign subsidiaries: This case is a reminder that U.S. parent companies are liable for violations of the Iran embargo committed by their foreign subsidiaries and other overseas operations that are owned or controlled by U.S. parent.  This is somewhat unusual under OFAC’s regulations, which generally treat foreign subsidiaries as non-U.S. persons.*
  • Intercompany orders can present risk: Many multinationals apply less trade due diligence to intercompany orders than to third party sales. This can make sense for some companies, because doing so often eliminates duplicative compliance steps and because the business unit that is closest to a customer is often the best positioned to conduct the necessary due diligence steps.  But this case also illustrates the danger of failing to identify red flags of non-compliance in intercompany orders.  OFAC noted that several Berkshire Hathaway foreign subsidiaries received emails from the Turkish subsidiary containing red flags of non-compliance, including an email address from Iran and the name of a company known to be located in Iran.  Only one of the intercompany orders from the Turkish subsidiary was flagged and stopped.  Employees involved in export transactions should be trained on how to spot red flags of non-compliance, even in intercompany orders, and know how to report potential compliance issues up the ladder.
  • Distributor danger: Companies remain liable for indirect sales through intermediaries when they know or should know that the intermediary will ship the items to sanctioned territories or sanctioned parties.  The presence of the third party intermediaries in this case counted against the company since they were used to hide the true end use of the products.  Even in less egregious cases, proper distributor due diligence and follow-up can help reduce the chances that your products end up in problematic jurisdictions.
  • The power and peril of an “egregious” determination: OFAC has the authority to obtain substantial penalties in “egregious” cases that involve, among other things, willful conduct, management knowledge or involvement, or harm to U.S. sanctions objectives.  Here, OFAC obtained a penalty of over $4.1 million, and could have imposed a penalty of over $18 million, for sales that were collectively worth only $383,443.  Absent a voluntary self-disclosure (VSD) by the company, OFAC could have sought penalties of over $36 million.  If the VSD had involved less serious, “non-egregious” conduct, the maximum penalty would have been only around $192,000, and the ultimate penalty assigned to the company would likely have been significantly less than that.  Companies that discover potentially egregious violations need to immediately remediate the issue and then carefully consider their options, including whether to pursue a VSD, which can substantially reduce penalty exposure.
  • Importance of auditing and monitoring: In this case, the U.S. parent company sent repeated reminders to its overseas operations that business with Iran was prohibited.  Those types of compliance reminders and directives are critical, but they cannot replace a solid auditing or monitoring program, which can catch and address bad actions before they become systemic issues.  Site visits, remote monitoring of data, and local compliance personnel are all important tools that can help to spot this type of activity and the more common inadvertent errors that can also generate liability for companies.

Please contact our trade compliance team if you have any questions about your company’s compliance with U.S. sanctions rules.


*Foreign subsidiaries are fully subject to the Cuba embargo, but not to other OFAC programs.

On October 16, 2020, the Bureau of Industry and Security (BIS) announced that exporters may request a six-month extension for export licenses set to expire on or before December 31, 2020.

BIS indicates that most requests for extensions will be reviewed and approved on an expedited basis within two to three business days, depending on the volume of requests received.  Extension requests can be submitted via email to LicenseExtensionRequest@bis.doc.gov.

Acting Under Secretary for Industry and Security, Cordell Hull, said “The streamlined process will help ensure that exporters with licenses due to expire on or before the end of 2020, who may not have been able to ship orders due to resource constraints during the pandemic, have the opportunity to benefit fully from the authorizations granted on their licenses.

Last week, the United States expanded sanctions on Iran’s financial sector by designating 18 major Iranian banks as Specially Designated Nationals (SDNs) and authorizing additional future sanctions on the Iranian financial sector.  Non-U.S. companies and banks could be subject to serious U.S. secondary sanctions penalties for significant continued dealings with the designated Iranian financial institutions, unless those dealings relate to permissible wind-down or humanitarian activities.

With respect to authorized wind-down activities, the Office of Foreign Assets Control (OFAC) issued a new FAQ indicating that non-U.S. persons will not be targeted under secondary sanctions authorities if they wind-down business with most of the banks on or before November 22.*  The wind-down guidance does not apply to business dealings involving the banks that were sanctionable prior to last week’s regulatory change.

Second, OFAC issued General License L to authorize continued dealings with most of the banks if those dealings are authorized by, exempt, or not prohibited under OFAC’s Iranian Transactions and Sanctions Regulations (ITSR).  Among other things, this means that the new sanctions do not apply to humanitarian transactions involving most of the banks related to the provision or sale of agricultural commodities, food, medicine, or medical devices that are authorized under the ITSR.  Similarly, non-U.S. persons will not be subject to secondary sanctions for humanitarian transactions that would be authorized by General License L if they were U.S. persons.

Please contact our sanctions group with any questions about these developments.

* The wind-down guidance and humanitarian general license apply to 17 of the 18 newly sanctioned Iranian banks.  The guidance and general license do not apply to Hekmat Iranian Bank, which was designated under a separate sanctions authority than the other 17 banks covered by OFAC’s announcement.

Late yesterday evening, President Trump declared a national emergency concerning the United States reliance on imports of certain “critical minerals.” The Executive Order directs a number of federal agencies, to take certain actions in the coming weeks and months to address what the order describes as “undue reliance on critical minerals” imported from “foreign adversaries.”

The President’s order follows a string of activities set off by an initial order issued in December 2017, that directed the Secretary of Interior to compile a list of “critical minerals” defined as (i) non-fuel minerals or minerals material essential to the economic and national security of the United States, (ii) the supply chain of which is vulnerable to disruption, and (iii) that serves an essential function in the manufacturing of a product, the absence of which would have significant consequences for our economy or our national security.

On May 18, 2018 the Secretary of Interior finalized a list of 35 “critical minerals” meeting this criteria, including:

Aluminum (bauxite), antimony, arsenic, barite, beryllium, bismuth, cesium, chromium, cobalt,  fluorspar, gallium, germanium, graphite (natural), hafnium, helium, indium, lithium, magnesium, manganese, niobium, platinum group metals, potash, the rare earth elements group, rhenium, rubidium, scandium, strontium, tantalum, tellurium, tin, titanium, tungsten, uranium, vanadium, and zirconium.

The President’s latest order notes that the United States imports more than half of its annual consumption for 31 of the 35 “critical minerals” identified by the Secretary of Interior.  Further, the United States has no capacity to produce 14 of these critical minerals.

The order also offers several hints at where future federal action might occur.  In particular, the order focuses on minerals where supply chains rely on imports from China and other non-market economy countries including rare earth metals, barite, and gallium.

Within sixty days, the Secretary of Interior is directed to prepare a report summarizing its investigation of the United States’ “undue reliance” on critical minerals from “foreign adversaries” and “recommend executive action” including but not limited to imposition of tariffs, quotas, or other import restrictions.

While the order falls short of identifying any process for stakeholders to participate, Kelley Drye & Warren professionals will be closely monitoring the situation and will provide updates as more information becomes available.

Last week OFAC extended its general license authorizing U.S. persons to wind down and divest from certain transactions with subsidiaries of the Xinjiang Production and Construction Corps (XPCC) until November 30, 2020.  OFAC extended the general license to give U.S. persons more time to exit dealings involving XPCC’s many subsidiaries, which play a significant role in the economy of the Xinjiang region of China.  The general license does not authorize direct dealings with XPCC, which was designated as an Specially Designated National by OFAC in July.

Subject to certain limitations, the general license authorizes U.S. persons to engage in activities that are ordinarily incident and necessary to:

  • Wind down transactions involving any entity in which XPCC owns a 50% or greater interest;
  • Divest or transfer of debt, equity ,or other holdings in an XPCC subsidiary to a non-U.S. person; or
  • Facilitate the transfer of debt, equity, or other holdings in an XPCC subsidiary by a non-U.S. person to another non-U.S. person.

OFAC also issued separate guidance indicating that non-U.S. persons would not be targeted by OFAC for engaging in wind down and divestment activities that are consistent with the general license.  Companies subject to U.S. jurisdiction with dealings directly or indirectly involving the Xinjiang region or with companies linked to XPCC should carefully review the general license and determine how to exit those relationships in compliance with OFAC’s regulations.

Yesterday, the Office of Foreign Assets Control (OFAC) amended the Cuban Assets Control Regulations (CACR) to further limit the ability of U.S. persons to book lodging in Cuba, import certain goods from Cuba, and participate in professional meetings or artistic and athletic events in Cuba.  The changes include the following:

  • The new rules prohibit U.S. persons from staying at, paying for, or arranging for lodging at hotels and other properties that have been identified by the State Department as being owned or controlled by the Cuban government.  The State Department is expected to publish a list of properties subject to the restrictions, called the Cuba Prohibited Accommodations List (CPA List), on its website.
  • The amendment prohibits U.S. person travelers from bringing Cuban origin tobacco or alcohol products back to the United States.
  • The amendment removes the general license at CACR § 515.564(a)(2) that previously authorized U.S. persons to attend and organize certain professional meetings or conferences in Cuba.  Under the new rules, U.S. persons wishing to attend or organize meetings in Cuba will likely need to obtain a specific license from OFAC, which will be issued on a case-by-case basis.
  • Finally, OFAC narrowed the scope of the general license at CACR § 515.567 to only authorize certain amateur and semi-professional international sporting events in Cuba.  Participation in, or organization of, other public performances, athletic competitions, and exhibitions in Cuba will now require a specific license from OFAC, which will be issued on a case-by-case basis.

The travel, hospitality, and sports industries should review their potential exposure to these rule changes and update their internal compliance programs accordingly.

Post Update:

Over the weekend, the WeChat and TikTok bans were temporarily suspended.  On Saturday, the Commerce Department delayed implementation of the TikTok ban until September 28, 2020 after it was announced that Oracle would acquire TikTok’s U.S. operations.  On Sunday, a federal court separately issued a preliminary injunction against the implementation of the WeChat ban in response to a suit filed by a group of WeChat users who argued that the ban on WeChat violated their right to free speech.

Original Post:

Today, the U.S. Department of Commerce announced new prohibitions on certain transactions involving the WeChat and TikTok mobile applications pursuant to two Executive Orders issued last month.  The new restrictions, spelled out in Federal Register notices available here and here, restrict U.S. companies from providing certain services to Tencent and ByteDance that support the continued distribution and operation of the WeChat and TikTok mobile applications in the United States.

As a result, beginning on September 20, users in the United States will likely be unable to download the applications from app stores and application updates will be unavailable.  Importantly, the new restrictions do not apply to the use of the mobile applications outside of the United States, which should be a relief to the many U.S. companies whose overseas operations use WeChat to process payments and connect with customers in China and elsewhere.  In addition, the new rules generally do not prohibit the continued use of the apps by individual users in the United States who have already installed the programs on their mobile devices.

The following types of “business to business” transactions,[1] spelled out in the WeChat notice, are prohibited under the new rules:[2]

“1. Any provision of services to distribute or maintain the WeChat mobile application, constituent code, or mobile application updates through an online mobile application store, or any online marketplace where mobile users within the land or maritime borders of the United States and its territories may download or update applications for use on their mobile devices;

  1. Any provision of internet hosting services enabling the functioning or optimization of the WeChat mobile application, within the land and maritime borders of the United States and its territories;
  2. Any provision of content delivery services enabling the functioning or optimization of the WeChat mobile application, within the land and maritime borders of the United States and its territories;
  3. Any provision of directly contracted or arranged internet transit or peering services enabling the functioning or optimization of the WeChat mobile application, within the land and maritime borders of the United States and its territories;
  4. Any provision of services through the WeChat mobile application for the purpose of transferring funds or processing payments to or from parties within the land or maritime borders of the United States and its territories;
  5. Any utilization of the WeChat mobile application’s constituent code, functions, or services in the functioning of software or services developed and/or accessible within the land and maritime borders of the United States and its territories.”

Both notices also warn that the Commerce Department may prohibit additional types of transactions related to WeChat and TikTok in the future.  The WeChat restrictions are effective on Sunday, September 20, 2020.  Paragraph 1 of the TikTok prohibitions is also effective on September 20, with the remaining TikTok prohibitions coming into force on Nov. 12, 2020.

Pursuant to a series of exceptions, Commerce indicated that the following activities are not prohibited by the new rules:

  1. Payment of wages, salaries, and benefit packages to employees or contractors;
  2. The exchange between or among WeChat/TikTok mobile application users of personal or business information using the mobile applications (to include the transferring and receiving of funds via WeChat);
  3. Activities related to mobile applications intended for distribution, installation or use outside of the United States by any person, including but not limited to any person subject to U.S. jurisdiction, and all ancillary activities, including activities performed by any U.S. person, which are ordinarily incident to, and necessary for, the distribution, installation, and use of mobile applications outside of the United States; or
  4. The storing of WeChat/Tiktok mobile application user data in the United States.

Please contact us if you have any questions about how these new rules impact your business, or your TikTok habit.

[1] “Transaction” is defined broadly to include any “acquisition, importation, transfer, installation, dealing in, or use of any information and communications technology or service.”

[2] The prohibitions applicable to TikTok are very similar, but exclude paragraph 5, which is specific to WeChat’s payment functionality.

On September 14, 2020, the U.S. Department of Treasury, as Chair of the Committee on Foreign Investment in the United States (CFIUS), published final regulations changing the mandatory CFIUS declaration requirements for transactions involving U.S. businesses that produce, design, test, manufacture, or develop  critical technologies. Previously, the regulations provided that a CFIUS declaration was mandatory for certain critical technology transactions where the U.S. business involved was part of a listed industry.  The new regulations provide that a CFIUS declaration is mandatory where the critical technology would require a “U.S. regulatory authorization” for export, re-export, transfer (in-country), or re-transfer of such technology to certain parties or foreign persons in the ownership chain.  In short, if a U.S. company would need an export license to transfer technology (know how required to develop, produce or use an export controlled product) to a foreign purchaser of the U.S. company, CFIUS review is mandatory.

The new regulations follow Treasury’s issuance of a proposed rule on May 21, 2020, as discussed in greater detail in our previous blog post.  These final regulations take effect October 15, 2020, and would not apply to transactions completed before October 15, 2020.

The new regulations will result in an increased number of mandatory CFIUS filings for certain countries, especially China and Russia, that have stringent export control requirements.  Companies will need to shift from conducting due diligence based on the industry of the target business to analyzing whether an export license would be required to release the U.S. business’s critical technology either to the non-U.S. company acquirer or to a person with 25 percent or more voting interest in the acquirer.  CFIUS notes that this voting percentage can apply in certain cases to the acquirer’s general partner, or equivalent.

Where a mandatory declaration is required, it must be filed prior to the completion of the transaction.  Failure to timely file can result in significant penalties – up to the transaction value.

We are happy to help your company understand how this final rule or related CFIUS developments may impact your business.

 

Importers of vinyl flooring filed a case at the U.S. Court of International Trade (CIT) on September 10, challenging the Administration’s application of tariffs on products from China on Lists 3 and 4 pursuant to USTR’s intellectual property Section 301 investigation.

The complaint alleges that the President’s imposition of tariffs to products on these lists, which covers approximately $320 billion in trade, exceeded authority granted by the Trade Act of 1974 and that the agency’s implementation of the tariffs violated provisions of the Administrative Procedures Act.  In addition to striking down the tariffs, the legal action seeks the refund of duties paid by the plaintiffs, with interest, for imported products on List 3.

We are alerting clients with interest in List 3-covered products of the potential litigation opportunity for filing a similar claim at the CIT to preserve the ability to obtain duty refunds.  A two-year statute of limitations applies to the Administration’s action, which runs from the date of publication of the notice (September 21, 2018).  As such, the time to act is short.  Interested parties who wish to file their own claims must do so no later than September 21, 2020.

Precedent suggests, if List 3 is found to be unlawfully promulgated, there may be an opportunity for all importers – including non-litigants – to obtain duty refunds through refund requests filed with Customs and Border Protection (CBP) or through an administrative refund process established by CBP.  There is no guarantee, however, that such precedent would be followed.  Filing a court claim would be a conservative approach and would likely result in an earlier refund.

We are available to prepare complaints for interested clients to preserve the ability for duty refunds at the earliest opportunity.  While the litigation route might not make sense for every importer, there are instances where such an approach may be advisable.  Factors that may weigh in favor of filing suit may include the amount of total duties paid under Lists 3 and/or 4A, the public nature of the lawsuit, and the cost of participating in such an action.

If you have List 3 Section 301 China tariffs and interested in pursuing such an action, please contact us immediately for an assessment of your company’s specific situation and no later than Thursday, September 17, 2020.  Given the short filing deadline, please have prepared:

  • The Harmonized Tariff Schedule number(s) under which you imported merchandise on Lists 3 and/or 4;
  • An estimated date range of the import shipments;
  • An estimate of the total value of Section 301 duties paid; and
  • The identity of the importer of record/party responsible for duty payment.

For more information please contact Jennifer McCadney or Brooke Ringel.