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Foreign Ownership, Control or Influence and Foreign Ownership, Control or Influence and Government Contractor Security Clearance

Mitigating FOCI and Meeting Requirements for National Interest Determinations T d ’ f l f

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific WEDNES DAY, S EPTEMBER 14, 2011

Today’s faculty features: Farhad Jalinous, Partner, Kaye Scholer, Washington, D.C.

• G. Christopher Griner, Partner, Kaye Scholer, Washington, D.C.

S tephen F . Lewis, Deputy Director, Industrial S ecurity Policy, U.S. Dept. of Defense, Crystal City, Va.

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Foreign Ownership, Control or Influence and Government Contractor Security Foreign Ownership, Control or Influence and Government Contractor Security and Government Contractor Security Clearance and Government Contractor Security Clearance

• G. Christopher Griner, Partner, Kaye Scholer LLP

cgriner@kayescholer.com Farhad Jalinous, Partner, Kaye Scholer LLP fjalinous@kayescholer com fjalinous@kayescholer.com Stephen F. Lewis, Deputy Director, Security Directorate, Office of the Under Secretary of Defense (Intelligence),U.S. Dept. of Defense Stephen.Lewis@osd.mil p @

September 14, 2011

What is FOCI? What is FOCI?

• A company under foreign ownership, control or influence (“FOCI”) is not

eligible to be issued a Facility Security Clearance (“FCL”) or continue to hold an FCL unless its FOCI is mitigated in accordance with the National Industrial Security Program Operating Manual (“NISPOM”) and in a manner acceptable Security Program Operating Manual (“NISPOM”) and in a manner acceptable to the US Government

• A US company is considered to be under FOCI when a foreign interest has the

power, direct or indirect, whether or not exercised, to direct or decide matters p , , , affecting the management or operations of the company in a manner which may result in unauthorized access to classified information or may affect adversely the performance of classified contracts (NISPOM, paragraph 2- 300a)

– Even a minority interest can constitute FOCI

• The Defense Security Service (“DSS”) administers the NISP on behalf of the

Department of Defense (“DoD”) and 23 non-DoD agencies, and is responsible f i i f i i l t i US i th t i th f for examining foreign involvement in US companies that are in the process of

• btaining a DoD FCL or that hold a DoD FCL
• The Department of Energy (“DoE”) fulfills this role for DoE FCLs

Th D D FOCI i i ifi tl l th th D E’ – The DoD FOCI program is significantly larger than the DoE’s

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Deal Implications Deal Implications

• Purchase Agreement Terms

– Reps & Warranties Reps & Warranties – Covenants – Conditions Precedent

• Customer Briefings

– Buyer information y – FOCI mitigation proposal

• DSS Notification & Engagement

g g

– Under the NISPOM, when a contractor with an FCL enters into negotiations for the proposed merger, acquisition, or takeover by a foreign interest the contractor must submit notification to DSS of the foreign interest, the contractor must submit notification to DSS of the commencement of such negotiations

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FOCI Mitigation FOCI Mitigation

• In minority foreign investment cases, the available FOCI mitigation mechanism hinges primarily
• n whether the foreign investor is entitled to board representation or not.
• Board Resolution: Available in cases with no foreign investor representation on the board
• Security Control Agreement (“SCA”): Available in cases of minority foreign investor representation on the

board of directors

• Requires appointment of at least one disinterested, DSS-approved Outside Director to the SCA company’s board
• In majority foreign ownership cases, FOCI is mitigated via a Proxy Agreement, Voting Trust or a

Special Security Agreement Special Security Agreement.

• Proxy Agreement/Voting Trust: Premised on the concept of risk avoidance
• Foreign representation on board prohibited
• Proxy Holders/Trustees approved by DSS control the company, subject to limited authority of foreign owner
• US target must be financially self-sufficient

g y

• Requires establishment of a Government Security Committee (“GSC”)
• Imposes no restrictions on the Proxy company’s eligibility to have access to classified information or to compete

for classified contracts

• Requires procedures governing visits and communications between Proxy company and the Proxy company’s

parent and affiliate companies outside of the Proxy parent and affiliate companies outside of the Proxy

• Special Security Agreement (“SSA”): Premised on the concept of risk mitigation
• Minority foreign representation on the board (“Inside Directors”)
• Requires the appointment of disinterested Outside Directors approved by DSS
• National Interest Determinations (“NID”) required for access to “proscribed” classified information
• Requires establishment of a GSC and a Compensation Committee
• Requires procedures governing visits and communications between SSA company and the SSA company’s

non-SSA parent and affiliate companies

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National Interest Determinations (NIDs) National Interest Determinations (NIDs)

– Government Contracting Activity (“GCA”) must issue NID for company cleared under SSA to have access to proscribed classified information, which includes:

• Top Secret (TS)
• Sensitive Compartmented Information (“SCI”)
• Special Access Program (SAP)
• Communications Security (“COMSEC”)

– Excluding controlled cryptographic items when unkeyed or utilized with unclassified keys Excluding controlled cryptographic items when unkeyed or utilized with unclassified keys

• Restricted Data (“RD”)

– NIDs may be contract-, project-, or program-specific – Requires a determination by the Program Executive Office of the relevant GCA Requires a determination by the Program Executive Office of the relevant GCA that “…release of proscribed information is consistent with the national security interests of the United States” – Concurrence of the Office of the Director of National Intelligence required for SCI DoE for RD and National Security Agency (“NSA”) for COMSEC SCI, DoE for RD and National Security Agency ( NSA ) for COMSEC. – Information Security Oversight Office (ISOO) timeline requirements for NID decisions

• 30 days if GCA owns or controls proscribed information, 60 days if concurrence of

y p , y another agency is required (e.g., NSA for COMSEC)

• GCAs can get extensions in 30-day increments if there are “special circumstances”

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FOCI Mitigation Arrangement Negotiations FOCI Mitigation Arrangement Negotiations

• Acquisition context

New FOCI mitigation arrangement – New FOCI mitigation arrangement

• Commitment Letter and supporting documentation

– Existing FOCI mitigation arrangement Existing FOCI mitigation arrangement – Effect on target’s security clearances – Implications if NIDs are required p q – Timing

• Newly created company

– FOCI mitigation arrangement must be established prior to the new company obtaining an FCL company obtaining an FCL

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CFIUS: Committee on Foreign Investment in the United States CFIUS: Committee on Foreign Investment in the United States

• If FOCI involved in the context of an acquisition, CFIUS review occurs in parallel under

– Separate statutory process – Separate US Government participants – Separate timetables

• Why CFIUS?
• Why CFIUS?

– Sect. 721 of the Defense Production Act (“DPA”) establishes process for review of the national security impacts of foreign mergers, acquisitions and takeovers of US-located firms under the interagency CFIUS committee

• Applies to all foreign investments in defense and infrastructure-related firms regardless of whether the US-

located firms have classified contracts – CFIUS is a voluntary process, but CFIUS can initiate its own reviews and if the target is cleared CFIUS review is essentially mandatory review is essentially mandatory

• Infrastructure role in national security clarified in 2007 amendments enacted in Foreign Investment and

National Security Act (“FINSA”)

– President has the authority to suspend or terminate such transactions if they present “credible y p y p threats” to national security that cannot be adequately mitigated under other laws, excluding the International Economic Emergency Powers Act

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CFIUS Time Lines CFIUS Time Lines

• Prefiling of draft CFIUS notice and exhibits: 5 business days
• 30-day initial review

– Majority of filed transactions are approved at end of this period or determined not to be “covered transactions” within CFIUS jurisdiction

• Additional 45-day investigation

– Mandatory with FINSA amendments in cases of Foreign Government Control & Critical Infrastructure unless

• Deputy Agency Heads of co-lead agencies waive this requirement, which is rare

Al l d h th – Also employed when there are

• Unresolved issues needing more time for review
• CFIUS member seeks approval to mitigate national security concerns posed by the deal
• CFIUS is considering a recommendation to block the deal
• 15-day Presidential review and decision

– If CFIUS deadlocked, or recommends a Presidential block, or has any other special reason, case goes , , y p , g to the President for decision followed by report to the Congress 12

CFIUS: Why More Cases Subject to FOCI Process Now Go To Investigation CFIUS: Why More Cases Subject to FOCI Process Now Go To Investigation g

• FINSA amendments require that Deputy Agency Heads of co-lead agencies

certify at end of 30-day and 45-day reviews that there are no unresolved ti l it i national security issues

• Since complicated cases requiring need for FOCI mitigation necessarily involve

national security issues, DoD senior management usually will not certify at end f 30 d d ill t i ti ti th t FOCI l t d ti l it

• f 30 days and will request investigation so that FOCI-related national security

issues can be resolved before certification

• Examples of transactions with complicated FOCI issues are those with
• Large number of classified contracts
• Proscribed Information contracts requiring either a Proxy, NIDs, or divestiture
• A mix of both these situations
• A mix of both these situations

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CFIUS & FOCI Process: Hybrid Results CFIUS & FOCI Process: Hybrid Results

• FOCI mitigation primarily limited to impact of FOCI on performance on

U.S. classified contracts

• A large, complex, or sensitive foreign acquisition subject to FOCI

process can also raise national security issues that involve matters such as:

– Supply chain reliability and integrity based on possible off-shoring of production facilities or concerns about the new foreign owner’s willingness to supply DoD during certain types of military conflicts – Critical infrastructure reliability and integrity in areas such as telecommunications – Technology security concerns in areas of controlled but unclassified technology technology

• Some transactions that fall into this “dual concerns” category may

receive both required FOCI mitigation and a CFIUS mitigation agreement agreement

14

Policy Developments Policy Developments

• Issuance of Directive-Type Memorandum (DTM) 09-019 – “Policy

Guidance for Foreign Ownership, Control or Influence (FOCI),” September 2009 Change 2 March 2011 2009, Change 2 March, 2011

– Applies to DoD Components, including DSS and non-DoD agencies using DoD NISP services (e.g., State, DHS) P id ifi di ti di t f FOCI ti l b itt d b – Provides specific direction regarding assessments of FOCI action plans submitted by companies – Requires invalidation of FCL if sale is completed prior to approval of FOCI action plan – Requires Office of the Under Secretary of Defense for Intelligence’s approval for FOCI template plans, DSS reporting of deviation from template – Requires DSS to address electronic communications in assessment of FOCI action plans

• Update to 32 CFR Part 2004, NISP Directive No. 1, April, 2010

– Provides direction across the Federal Government S t ti li f i d i l f NID f f i d i l d d – Sets timelines for issuance or denial of NIDs for foreign-owned companies cleared under SSAs

15

FOCI Mitigation Trends FOCI Mitigation Trends

• Enforcement and oversight by DSS
• Requirement for related procedures (e.g., Electronic

Communications Plan) NID d ti i

• NID process and timing

16

Relevant References Relevant References

• Executive Order 12829, 6 January 1993, National Industrial Security

Program (NISP): Established federal program for protection of classified information in industry

• NISP Operating Manual, DoD 5220.22-M: Baseline security requirements

for industry, includes FOCI measures, reporting for industry, includes FOCI measures, reporting

• Directive-Type Memorandum (DTM) 09-019 - “Policy Guidance for Foreign

Ownership, Control, or Influence (FOCI)”: Direction for DoD components and non DoD agencies using DoD industrial security services and non-DoD agencies using DoD industrial security services

• 32 C.F.R. Part 2004, National Industrial Security Program Directive No. 1:

Direction for Federal Government

• Template FOCI Agreements at www.dss.mil
• 31 CFR Part 800, RIN 1505–AB88: Regulations Pertaining to Mergers,

Acquisitions and Takeovers by Foreign Persons: Applies to Federal Acquisitions, and Takeovers by Foreign Persons: Applies to Federal Government and private sector, provides CFIUS guidance and direction

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