Introduction
International trade issues arise in supply arrangements and acquisition agreements where inputs and/or finished products are imported or exported. In a supply arrangement, failing to understand the international trade issues can result in increased costs (through additional duties on the goods), delays in receiving or delivering the goods, or even the seizure of the goods by the relevant authorities. Similarly, acquiring a company that has used inputs produced outside of the United States and/or has sold finished products outside of the United States may expose the purchaser to liability on errors made when the company imported or exported goods. Future liability can be mitigated through due diligence on international trade issues and appropriate indemnification clauses. Below, we highlight the top 10 actions that can be taken on international trade issues to limit risks in supply arrangements and acquisition agreements.
1. In a Supply Agreement, Purchase Goods On A "Delivered, Duty Paid" Basis, If Possible
The "importer of record" is the party responsible for clearing the goods through U.S. Customs and Border Protection ("CBP" or "Customs"). The importer of record will obtain and maintain a customs bond and will file entry documents for the goods at the port of entry. Imported goods are legally cleared once release of the merchandise has been authorized by Customs, and estimated duties have been paid. Liability for errors or material misstatements in information provided to Customs attaches to the importer of record. The U.S. Government can impose civil penalties against importers, detain or seize merchandise or even impose criminal liability under the customs and other laws affecting imports for import violations. Purchasing goods on a "delivered, duty paid" ("DDP") basis (foreign suppliers can serve as importer of record under U.S. law, enter the goods in the United States and clear Customs), will keep the risk from being the importer of record with the supplier, though care should still be taken by any party involved with an importation to ensure that the goods are being entered properly.
2. In an Acquisition, Identify All Potential Importing Entities
Companies are required to obtain importer of record numbers ("IORs") and obtain customs bonds to cover potential duty liability for their import transactions. Often, affiliates and/or subsidiaries of large companies use their own unique IOR to import merchandise into the United States. If so, an acquiring company would then be responsible for many IRNs within its corporate structure. Acquiring entities should research all subdivisions and subsidiaries through CBP. Companies should also update customs bond information and other registration information with CBP and third party service providers such as customs brokers, forwarders, or bonded warehouse/Foreign Trade Zone (FTZ) operators. Other potential issues regarding the acquisition of importing companies involve inheriting the liabilities that may arise with respect to the acquired companies day-to-day customs transactions. Include provisions in the agreement to cover potential liability, through funds held in escrow, indemnification, and excess indemnification payable clause where the amount of liability is uncertain, to cover any excess liability.
3. In an Acquisition, Identify Potential Import Risk Areas and Records
U.S. Customs and Border Protection ("CBP") is the primary agency of the U.S. Government charged with administering and enforcing the customs laws. The Customs Regulations specify how to classify, appraise, and determine duties on imported goods, as well as how to mark (label) the goods with the country of origin. The customs regulations contain very specific requirements for imports and also impose reporting and record-keeping requirements. Relevant records include tariff classification databases, import manual, information on any past audits or interactions with CBP, customs penalty history, use of free trade agreements, use of any (voluntary) prior disclosures. Include provisions in the agreement to cover potential liability, through funds held in escrow, indemnification, and excess indemnification payable clause where the amount of liability is uncertain, to cover any excess liability.
4. Determine Whether Goods are Subject to Any Trade Remedy Actions that May Increase Compliance Costs or Duties
Trade remedy actions include anti-dumping, countervailing duty or safeguard actions, and are imposed by various countries. High duties or quotas can restrict access to imports or markets for exports. Due to the complexity of the calculations involved in trade remedy actions, companies can be caught by surprise when their goods become subject to such actions. The compliance costs associated with trade remedy actions are substantial, and include time personnel must tracking cost and sales information, and fees from lawyers and consultants. Companies may be required to find a new source for the imported good, or a new market for the exported good.
5. Clarify Which Party Has Export Responsibilities
In any agreement that contemplates the export of goods outside of the United States, a company must ensure that it is clear which party is responsible for being the exporter of record, and if applicable, obtaining required authorization for exports from the U.S. Departments of State or Commerce. In shipping documentation and contract or purchase order terms and conditions, companies should clarify the terms of delivery, such as when title to the goods passes, which party will insure the freight, and which party is responsible for clearing customs. Agreements should include export compliance provisions including a clause requiring all parties to comply with U.S. export control laws and an indemnification clause holding liable the exporter of record for any export violations.
While it is often easier to let the other party be the exporter of record, export compliance is strict liability, meaning the U.S. government will not take into account indemnification or liability clauses in determining liability for an export violation. As such, sometimes it can be beneficial for a company to take on the role of exporter of record so that it can ensure compliance with U.S. export control laws and regulations.
6. Mitigate Export Compliance Risks with Due Diligence and Indemnification Provisions
In an acquisition agreement, acquiring companies should conduct export compliance due diligence on the target company. This diligence should include: understanding the export jurisdiction and classification of the target company's hardware, technology, and services; past exports, including any relevant authorizations from the U.S. Departments of State, Treasury and/or Commerce; a review of any export compliance policies and procedures, including technology control plans; a review of a sampling of shipping documentation; and any history of voluntary or directed disclosures to any U.S. government agency regarding export violations. Purchase agreements should include an indemnification clause outlining terms that reimburse the acquiring company for any export violations of the target company prior to acquisition.
7. Export Compliance after Acquisition
After acquisition of a target company, the acquiring company should conduct an export compliance audit to identify any potential issues. Because export compliance in strict liability, it is possible that the U.S. government could hold the acquiring company responsible for the target company's export violations, even if they occurred prior to acquisition. As such, it is critical for an acquiring company to identify and address any potential export-related issues. The acquiring company should interview employees to understand their familiarity with export compliance as well as review export compliance policies and audit the target company's jurisdiction and classification of hardware, technology, and services and audit exports. In larger acquisitions or acquisitions of target companies in the defense industry, companies should consider more extensive due diligence and the use of a third party auditor if appropriate. Additionally, the acquiring company should use the audit to identify any gaps in compliance and remedy them as soon as possible.
8. Mitigate Potential Corruption Risks With Due Diligence, Adequate Representations, and Indemnification Provisions
When negotiating and drafting an international merger or acquisition agreement, a company must consider and attempt to mitigate potential corruption risks stemming from domestic and international anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act (FCPA). See 15 U.S.C. § 78dd-1, et seq. The FCPA remains the most well known and aggressively enforced law outlawing bribery of foreign officials, but similar laws and enforcement are increasing as in, for example the United Kingdom and Brazil, which have both passed laws similar to the FCPA. Thus, anti-corruption due diligence is becoming increasingly important not just in the United States, but around the world. Companies should determine what other anti-corruption and anti-bribery laws may be relevant, including any local anti-corruption laws in the target company's jurisdiction. Acquisitions may pose special risks for the purchasing company due to "tainted" assets of the acquired company or relationships that may be attributed to the new owner with the attendant potential civil and criminal liability along with harm to a business's profitability and reputation. Conducting pre-acquisition due diligence is the most crucial aspect of mitigation and allows a company to evaluate more accurately the target's value and negotiate for the target to bear any costs of the bribery. Moreover, failing to conduct adequate due diligence can also result in the continuance of the bribery creating an even greater risk of civil and criminal liability. Finally, transaction documents should contain provisions for satisfactory due diligence, representations and warranties that the target has not engaged in any anti-corruption or anti-bribery in violation of any laws, and provisions to cover potential liability.
9. Mitigate Potential Conflict Minerals Risks With Due Diligence, Adequate Representations, and Indemnification Provisions
Companies buying from suppliers or undertaking acquisitions internationally will want to be aware of a supplier/target company's use of "conflict minerals" - Tantalum, Tin, Tungsten, and Gold - in their products and what they are doing to determine the source and chain of custody of those minerals. Conflict minerals are found in a wide variety of products from electronics and jet engines to tools and jewelry. The U.S. Securities and Exchange Commission ("SEC") has promulgated a final rule pursuant to Section 1502 of the Dodd-Frank Act requiring reporting issuers whose products contain conflict minerals to conduct due diligence and report on the source and chain of custody of those minerals. The report must also contain a description of the due diligence.
Companies required to comply with the conflict minerals rule will want to be aware of a supplier/target company's efforts to conduct due diligence into the source and chain of custody of conflict minerals in their products to meet their own reporting obligations. In the case of acquisition, determining the level of due diligence by the target is important not only in regards to the target's or the purchasing company's future compliance obligations, but the target may have other customers that are required to file reports and who will increasingly demand such due diligence or find other suppliers. Thus, a failure of the supplier or target to have such due diligence mechanisms in place can have an impact on costs and reputation down the line. In an acquisition, it is also be important to determine whether the target is required to comply with the conflict mineral rule, and, if so, if it is in compliance. A lack of compliance can trigger not only legal and cost risks, but reputational ones as well. Representations and warranties should be required in the transaction documents regarding conflict minerals, as well as indemnification provisions.
10. Mitigate Potential Forced Labor/Human Trafficking Risks With Due Diligence, Adequate Representations, and Indemnification Provisions
In the United States, there are currently two anti-human trafficking laws and regulations that companies need to be aware of when contracting with suppliers or conducting acquisitions internationally: the California Transparency in Supply Chains Act of 2010 and the newly amended Federal Acquisition Regulation ("FAR") and Defense Federal Acquisition Regulation Supplement ("DFARS") prohibiting activity related to forced labor and trafficking in persons. The California Transparency in Supply Chains Act requires retailers and manufacturers who do business in California with annual worldwide gross receipts that exceed $100,000,000 to disclose its efforts to eradicate slavery and human trafficking from its direct supply chain for tangible goods offered for sale. The FAR/DFARS applicable to government contractors and subcontractors expands the list of prohibited conduct relating to human trafficking. It also requires certain government contractors and subcontractors to institute a compliance program, conduct due diligence on their supply chain, and certify that neither it, nor its agents or subcontractors have engaged in any of the prohibited activities.
Companies required to comply with either of the human trafficking rules will want to be aware of the supplier/target company's efforts to ensure there is no forced labor in their operations or in their supply chain. In the case of acquisition, determining the level of due diligence by the target is important not only in regards to the target's or the purchasing company's future compliance obligations, but the target may have other customers that are required to file reports and who will increasingly demand such due diligence or find other suppliers. Thus, a failure of the supplier or target to have such due diligence mechanisms in place can have an impact on costs and reputation down the line. In an acquisition, it is also be important to determine whether the target is required to comply with the human trafficking laws, and, if so, if it is in compliance. A lack of compliance can trigger not only legal and cost risks, but reputational ones as well. Representations and warranties should be required in the transaction documents regarding forced labor and human trafficking, as well as indemnification provisions.
Conclusion
International trade allows for cost-effective production through imported inputs and sales through the export of finished goods. Understanding international trade issues and taking the appropriate steps to mitigate risks and ensure compliance with international trade issues are essential to the success of any business participating in a global supply arrangement or acquiring a company that participates in the global marketplace. By considering the top 10 international trade issues in supply and acquisition agreements set forth above in supply arrangements and acquisition agreements, it is hoped that companies will be able to benefit from international trade.
