As reported by the Stockholm International Peace Research Institute (SIPRI) on December 9, 2019, US defense companies currently dominate the top 100 companies selling arms and defense services. According to SIPRI, the top five spots for such sales in 2018 were all held by US companies, namely Lockheed Martin, Boeing, Northrop Grumman, Raytheon, and General Dynamics. Given the importance of defense acquisition from the United States in general and for Poland in particular, it is important to understand the legal framework governing the defense acquisition process from both a US and Polish legal perspective. As discussed below, this process can be complex and may involve the acquisition of defense articles and services on either a Foreign Military Sale (FMS) or direct commercial sale (DCS) basis. The process may be further complicated in certain transactions by Polish Government’s offset requirements. The failure to understand and successfully navigate this complex acquisition process may result in unnecessary expense and delays in the acquisition process.
US defense acquisition procedures
US law provides two procedures for acquiring the US defense articles and services: FMS transactions (government-to-government sales) and DCS transactions between a foreign government buyer and a US defense contractor.
A key feature of the FMS program is the US Government's broad involvement in the process of purchasing defense articles or services by a foreign partner. In practice, the government of the allied state executes with the US Government a government-to-government agreement concerning acquisition of the defense articles or services. The acquired defense articles may be supplied either from the US Government's existing stocks or from a particular U.S. contractor. In the second scenario, the defense articles are purchased by the US Government and then delivered to the foreign partner under the FMS program. Certain types of defense articles, due to the sensitivity of the technologies and their importance for US national security, may only be acquired under the FMS regime.
The governments of allied states also may decide to acquire certain defense articles or services directly from a specific US contractor on a DCS basis. In a DCS transaction, the US Government does not coordinate efforts related to the acquisition process and its involvement is more limited. The purchasing country has much greater flexibility in terms of negotiating the contractual terms and conditions with the US contractor, but, at the same time, in the event of any non-compliance of the supplied equipment with the buyer's operational requirements or other contractual issues, the buyer will not receive the same support of the US Government as in case of an FMS transaction.
In the case of certain complex contracts, the defense articles may be acquired partially within the FMS regime (usually the most sensitive parts of the system), and partially as a DCS transaction.
Polish law perspective
The intersection of acquisition procedures governed by US law and Polish law requires a closer look at the legal framework governing the acquisition process by all stakeholders.
The FMS program, where an a government-to-government agreement is executed between the parties, precludes application of the procedures referred to in the Act of January 29, 2004 on Public Procurement Law (“PPL”) or the decision of the Minister of National Defense No. 367/MON of September 14, 2015 on the Terms and Procedures for Granting Contracts of Essential Significance for State Security at the Ministry of National Defense (“Decision No. 367/MON”).
In contrast, in the case of a DCS transaction and direct acquisition of defense articles from the U.S. contractor, the procedures referred to in Chapter 4a of PPL (Contracts in the Fields of Defense and Security) or Decision No. 367/MON will apply accordingly, depending on the Polish MoD determining the existence of an essential interest to state security. A sale may be made on a DCS basis in the case of a competitive tender with several contractors involved, as well as in case of a sole-source procurement.
An offset is a mechanism whereby the government of a country purchasing arms or services expects a foreign supplier to make additional investment in connection with particular contract. Globally, offset may have direct or indirect nature. In the case of direct offsets, the offset commitment remains directly related to the subject-matter of the supply. In case of the acquisition of fighters, the foreign supplier may be required to manufacture fighter parts in the recipient country within its offset obligations. The current Act of 26 June 2014 on Certain Agreements Concluded in Connection with the Performance of Contracts of Essential Significance for State Security, also commonly referred to as the "Offset Act", sets out the procedure and requirements for the performance of direct offset.
An indirect offset does not have to be related to the subject-matter of the supply and in principle may cover any type of commitments, either of a military or economic nature. For instance, an indirect offset can be an investment in specific sector of economy in the recipient country. The indirect offset was established under the previously binding Act of 10 September 1999 on Certain Compensation Agreements Concluded in Connection With Supply Agreements For the Purposes of National Defence And Security, also now called the "Old Offset Act".
Offset in the FMS regime
The provisions of current Offset Act provides for a scenario in which the entity obliged to deliver the defense articles will differ from the entity committed to perform the offset commitments. This allows for the application of offset requirements to procurements made on an FMS basis, in which case the US Government will be a party to the supply agreement (i.e., Letter of Offer and Acceptance, LOA), but a different entity (i.e. the US contractor) will be obliged to perform the offset agreement.
Contrary to the situation where the US contractor is a party to both the supply agreement and the offset agreement, in an FMS transaction the US Government does not incur, perform or take responsibility for the performance of offset commitments. At the time of acquisition of defense articles or services by the US Government from the US contractor for the purpose of performing the LOA, a tripartite contractual relationship, governed by different legal regimes, is being created.
In an FMS transaction, the LOA is concluded by the US Government and the government of an allied state and is governed by US law. The agreement between the US Government and the US contractor, aimed to deliver the ordered defense articles or services, is governed by the US law as well. In contrast, a sale made on a DCS basis allows for the supply agreement to be governed by foreign law (e.g., Polish law).
As the offset proceedings may take place simultaneously with the underlying defense contract award procedure, foreign contractors should bear in mind that the offset agreement will be governed by Polish law. The Polish State Treasury, represented by the Minister of National Defense, may not execute the offset agreement under foreign law. In any case, the parties to the offset agreement will be the Polish State Treasury, represented by the Minister of National Defense, and the foreign contractor (i.e., the party to the supply agreement or an entity performing the offset agreement on behalf of the party to the supply agreement). As noted above, the US Government will not be a party to the offset agreement, even though it remains a party to the LOA.
In the case of agreements related to the performance of offset commitments (the so-called “business agreements”) executed by the US contractor (the so-called “offsetor”) and the beneficiary of the offset obligation (the so-called “offsetee”), aimed at implementation of the offset agreement, the Offset Act does not include any provisions on applicable law. While the Polish Ministry of National Defense prefers that Polish law apply to the business agreements, this matter is determined in the Offset Act.
It should be noted that an offset agreement must not be executed in the case of contracts awarded within the PPL regime, which according to the European Commission guidelines, is aimed at securing competitiveness, transparency and openness in the defense markets of the Member States.
In conclusion, the process for acquiring defense articles and services from the United States, either on an FMS or DCS basis, can be complex and requires an understanding of the legal framework governing the defense acquisition process, both from the US and Polish perspective. Offset requirements under Poland's Offset Act may introduce additional complexity into the defense acquisition process. Because failure to understand this complex process can result in unnecessary expense and delays in the acquisition process, it is important to obtain timely information and guidance to successfully navigate this process.
This article was originally published in Polish at Rzeczpospolita daily