Introduction
It’s no secret that the Aerospace and Defense Industry is rife with mergers, acquisitions, and divestitures (MA&D) between large primes, smaller contractors, and start-ups. As a business strategy, these dynamic restructurings within aerospace and defense sparks greater technological innovation and better control of supply chains. Similarly, strategic shifts through MA&D help businesses balance ever evolving U.S. Government interests, foreign opportunities and security concerns, commercial advancement, and simple business risk.
Aerospace and defense market mergers and acquisitions are projected to register a Compound Annual Growth Rate (CAGR) of over 3% during the forecast period (2021-2026).[1] With the constant flux of MA&D in the Aerospace and Defense sector, one would expect that all mergers and acquisitions in this space go smoothly and without hiccups – surprisingly, that could not be further from the truth. In fact, in an interview with CEOs of companies that went through a large-value MA&D, fewer than 1 in 5 (<20%) believed that they had adequately planned and prepared for the transition prior to closing the deal.[2] While these reflections often result from “lessons learned” after the MA&D has concluded, businesses can establish proactive steps to set themselves up for success and enable a seamless transition.[3]
Amidst the chaos of any MA&D, each department is impacted differently and faces its own unique challenges; in particular, global trade compliance. All businesses involved in imports and exports must adhere to the Arms Export Control Act (AECA), International Traffic in Arms Regulations (ITAR), Export Administration Regulations (EAR), Office of Foreign Assets Control (OFAC) and Customs Regulations, among others.[4] Each of these regulations also have their own set of MA&D requirements: AECA, ITAR, EAR, Customs, etc.[5] Yet, any two businesses of the same relative size, and who offer the same types of products and services to similar types of clients, can differ significantly in the ways they approach compliance.[6] When a merger or other restructuring involves businesses of different sizes, in different geographies, or with different backgrounds, combining compliance efforts can be an even bigger undertaking.[7] An aerospace and defense company is only as good as the products or services it provides, all of which touch global trade compliance.
Due Diligence
The first phase in the MA&D process is performing due diligence. Simply put, due diligence is making sure all the rocks are overturned and skeletons are out of the closets before moving forward to the agreement phase. Overall, due diligence aids in evaluating the risk, health, and history of the companies impacted by the restructuring.[1] Traditionally, MA&D due diligence prioritizes standard departments such as Finance, Legal, Operations, Human Resources, and IT; while Global Trade Compliance is granted only a cursory glance despite looming potential risks.[2] Understandably, this creates space for possible, and costly, oversight. The acquired company’s global trade compliance posture needs to be thoroughly vetted to determine risk. All companies calculate risk differently; however, some key considerations are:
As anyone who has ever been involved in MA&D can attest, a lot of work goes into the due diligence phase leading up the transaction’s closing date.[3] Performing due diligence for a merger or other restructuring in aerospace and defense goes beyond export control violations and Consent Agreements. On the surface, so long as there is a global trade compliance program in place with processes or policies and some record of training, a company may seem stable enough to be worth the risk. In reality, due diligence is a much greater animal.
Risk Assessment and Compliance Considerations
Prior to completing the due diligence phase, companies should condense the due diligence findings into a risk assessment report. This report provides the acquiring company with a high-level view of the health of global trade compliance and international business functions and contains important compliance considerations that will impact the outcome of the risk assessment. It is necessary to dig deeper into the specific elements of a global trade compliance program to ensure that there is sufficient quantitative and qualitative data to determine total risk. Some of these common elements include:
Technology Security and Foreign Disclosure (TSFD): Beyond the Standard Risk Assessment
How do you know that your product is even exportable? Perhaps the most critical metric to consider during the merger or other restructuring of an aerospace and defense company is whether the product, software, technology, or service it provides can be sold to international customers. If a business engages in a merger or other restructuring of a company solely for a unique program or product line, the value of that restructuring may be dependent on the businesses’ ability to subsequently export that program or product line to the U.S. Government or foreign entities abroad. The only surefire way that the acquirer can be sure of the practicality of their purchase is to conduct a preemptive Technology Security and Foreign Disclosure (TSFD) Assessment to evaluate product access and protection security requirements.[1]
A TSFD Assessment should begin prior to international involvement in a program.[2] If this assessment is not completed prior to advancing through the MA&D process, the acquiring company risks overvaluing of the assets of the company to be acquired, especially if the program is not exportable. An item that is not exportable or is incompatible with the project it is intended to support can set an acquiring company back millions of dollars in sales and revenue, hundreds of hours in internal research and development (IRAD) to redo much of the work that has already been done, and more than a few headaches.
TSFD Assessments have a long history in cooperative research and development; information or personnel exchange; Foreign Military Sales; and Direct Commercial Sales. The origins of these considerations are constantly growing and evolving from current law, Executive Orders, and DoD Directives and Instructions.[3] As TSFD Assessments become a pre-coordination norm for exporting, they likewise need to become a staple of MA&D due diligence.
Conclusion
MA&D is a constantly evolving force within the aerospace and defense industry; however, no merger, acquisition, or divestiture is ever a simple, open-and-shut case. Many moving parts and shifting priorities can allow critical departments, like global trade compliance, to fall off the radar during the due diligence phase of the MA&D process. Before any paperwork is drafted or any agreement is signed, an intense and comprehensive due diligence investigation must take place, to include a complete risk assessment and definitive TSFD Assessment. These elements are crucial for laying the groundwork for a successful merger, acquisition, or divestiture.
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