A company doing business internationally can be exposed to fall-out from governmental measures that are not aimed at the company, but at other entities or governments. The following is an overview of the nature and variety of such measures. Often the measures take the form of export controls, but the term “trade sanctions” will be used here, as the measures of concern can extend beyond cross-border movement of physical goods and reach electronic and other intangible transfers, as well as financial and contractual dealings. The term is used here to refer to governmental measures targeted toward foreign persons, governmental or private, excluding regulatory measures that affect domestic operations generally. Finally, the terms trade sanctions and trade controls are used to encompass measures taken by the government of the “source” of investment, trade or finance, and not just to measures by government of the “host” or recipient state.
Most U.S. trade controls are administered by the Department of Commerce’s Bureau of Industry and Security (BIS), the Department of State’s Directorate of Defense Trade Controls (DDTC) or the Treasury Department’s Office of Foreign Assets Control (OFAC). Each group of controls is under its own body of regulations and statutory authority. Broadly speaking, BIS maintains lists of “dual-use” items and of countries and persons to whom such items are exported and imposes licensing requirements on such listed countries or persons; DDTC controls exportation, importation or manufacture of defense articles and defense services (so-called “munitions” items); and OFAC controls (and mostly bars) financial, trade or commercial dealings with countries and persons upon whom the U.S. has imposed sanctions.
Although it is the U.S. that is widely perceived as having the heavy hand in trade sanctions, investment planners and business operators must take into account the reality that many countries impose and enforce trade sanctions. Some are structured and ongoing, such as those under the Wassenaar Arrangement (WA) that subject exportation of items on agreed lists to review and control by the country from which the export is to be made (the WA website can provide a sense of the scope of the lists). The large group of industrialized nations that participate in the WA includes Russia, but not China. Other multilateral regimes with published control lists deal with nuclear, chemical/biological and missile-related goods and technology. Less predictable are the episodic trade restrictions imposed in response to problematic developments. They may be based upon U.N. Security Council action or upon the decisions of individual states. While these episodic trade sanctions are often of limited duration, they command risk-planning attention, as they can have an impact on conventional flows of trade and finance, not just on highly controlled goods and technology.
The Impact of Trade Sanctions
Suppose that a European company supplies an equipment manufacturing facility in Iran. If, for example, the equipment is found to serve nuclear fuel cycle activity, fairly recent European Union sanctions could affect further technical or financial inputs. Even if the operation were not in a restricted sector, U.S.-sourced inputs could be affected. Under OFAC regulations, a U.S.-national employee in Europe could not facilitate dealings in or with Iran. The European company itself would be subject to BIS and/or OFAC controls if it needed to procure U.S.-sourced inputs for the Iranian project.
It is unlikely, but not out of the question, that a host government would impose trade sanctions that would severely damage an enterprise within its borders. While a particular market or source of energy or raw material might be cut off, alternatives usually exist and should be considered as part of risk evaluation. Nonetheless, there can be extraordinary cases, such as those that faced NBC under its contract to broadcast the 1980 Olympic Games in Moscow after the U.S. withdrew from the games and imposed trade sanctions—a situation in which political risk insurance did play a part.
The type of trade sanction that is more likely to affect the viability or profitability of a foreign business is one imposed not by the host government, but by a government that controls access to a needed market or to needed material or financial inputs for the foreign operation. Controls on financialtransactions by persons subject to a sanctioning government’s jurisdiction should be seen as a potent aspect of trade sanctions, as illustrated by the impact on operations in Iran of European and American restrictions on bank clearings involved in Iranian trade, which has doubtless been immense.
The Significance of “People” and “Persons”
An aspect of trade sanctions that is easy to overlook is the way in which they can affect the actions of “people” or “persons” in connection with transnational operations.
First, how might trade sanctions affect the role of “people”—that is, of natural persons? Both the Export Administration Regulations (EAR) of Commerce’s BIS and the Arms Export Control Regulations (AECA) of State’s DDTC define exportation to include the release of technical data to a “foreign national” (EAR) or “foreign person” (AECA) anywhere, including within the U.S. Such an exportation is deemed to be an exportation to the recipient’s country of nationality, so if a direct exportation to that country would require a license, so too might the release of technical data (tangible or intangible) to that individual. Many releases will be permitted by license or by regulatory exception, but the existence of such controls can give rise to uncertainty or administrative burdens, making the nationality of key persons in an operation a factor in business risk assessment.
The definition of “person” in U.S. trade sanctions can have a significant effect on risk exposure in international business. Although most export controls under the EAR apply on the basis of the U.S. source of goods or data, not the nationality of the supplier, a different jurisdictional basis applies to others. Some, such as catch-all controls against WMD proliferation, apply to the actions of a “U.S. person,” even if U.S. sourced items are not involved. The term is defined in the EAR to include juridical persons organized in the U.S. and their foreign branches, but not entities organized abroad that are owned or controlled by U.S. persons. The definition in the OFAC regulations is much the same, except that those for Cuba define “person subject to the jurisdiction of the United States” to include foreign-organized entities owned or controlled by U.S. persons. Keep in mind that, even if the U.S. is neither the market for nor the locus of inputs into a foreign operation, the possible extended reach of U.S. trade sanctions to third-country activity should be considered.
Managing the Sanctions Risk
Businesses will want to assess these trade sanctions risks—and the many varieties of such risk—both in the transaction planning stage and as the political climate changes during the life of the transnational exposure. The amount of detail in this article is necessarily limited, but readers are encouraged to get more detail on trade sanctions from published works and business planners are encouraged to consult with trade sanctions experts as needed in order to identify, evaluate, mitigate, allocate and compensate for the unusual, but not uncommon risks that trade sanctions can pose.
This risk assessment will likely view some conventional trade controls, such as those on strategically sensitive items, as part of the business environment that can be managed by knowing and following the rules. Even in this context, care should be taken to identify special and potentially problematic factors, such as major dependency on inputs from or sales to countries that historically have been the targets of trade restrictions.
Historically, governments have avoided or greatly limited the imposition of sanctions on trade in agricultural products or medicines. The Reagan Administration embargo on grain shipments to the Soviet Union was a notable (and rather short-lived) exception. A recent, less publicized, exception is Russia’s ban on importation of poultry from the U.S. Interestingly, a report published by the Washington Post in September 2014 indicates that the impact on U.S. suppliers has been greatly reduced due their development of other markets in the wake of a variety of Russian poultry import restrictions in recent years.
The greater challenge is to determine how to deal with the risk of major trade sanctions that could result from extraordinary and/or less predictable events. In this area, the investment planner and negotiator will need to consider the possible utility (or inadequacy) of force majeure clauses in critical transaction agreements. Who will bear the risk if a key source of raw material is embargoed? Will the supplier have to use an alternative, more costly source, or will the customer be forced to try to adapt and use another supplier?
The force majeure clause deserves special scrutiny in the context of trade sanctions risk. Such clauses can differ in the extent to which governmental action can be considered a force majeure event. Moreover, it can be important to determine whether a clause covers only actions of the territorial government or whether it would also encompass external governmental measures that cut off inputs, financial support or markets.
To this point, these comments have dealt primarily with what might help prior to commitment in identifying and dealing with potential trade sanctions risks. What can be done to avoid or minimize loss from trade sanctions that have been or are about to be imposed?
One possible answer, but only in special situations, is to lobby. A government that is imposing sanctions in response to breaking events may be acting quickly, but it will want to avoid measures that may injure its own business interests more than they affect the target country. Potentially-affected businesses may need to act just as quickly to make their government officials aware of such unintended consequences. We have observed a considerable amount of such “fine-tuning” of sanctions measures in Europe this year in connection with Ukraine-related measures. Another example is the persistent (and mostly successful) effort by U.S. industry to reverse the trade-restricting effect of transfer of control of commercial space exports from the Commerce Department to the State Department.
A caution is in order with respect to another type of possible action in response to trade sanctions. As measures taken by the U.S. can be particularly troublesome, a company may think that it can avoid the impact if it “de-Americanizes” its operations: Perhaps, some companies wonder, contracts could be shifted to foreign subsidiaries. Beware! Such contract actions by or directed by the U.S. company could constitute prohibited “facilitation” of OFAC-sanctioned trade. An attempt to replace direct exportation of products or materials from the U.S. to the sanctioned country by routing the items through a “supplier” in a third country could be treated as a prohibited re-export under the EAR. Even operations that do not involve U.S. sourcing could be affected by the type of involvement that an individual U.S. person abroad has with a foreign supplier’s dealings with a target of U.S. trade sanctions.
I do not see a major role for political risk insurance in connection with trade sanctions. A broad statement like that begs explanation or qualification. It may be better to say that I have largely avoided the question in this piece. My role as legal counsel to the Overseas Private Investment Corporation in its early years gave me exposure to political risk insurance, and my later government position immersed me in the complex world of export controls, but I had best leave it to others to address what might currently be available or possible in the political risk insurance market. I shall limit myself to some very brief observations.
Government-backed insurance cannot be expected to cover loss resulting from that government’s own actions. Loss-causing trade sanctions could well be actions taken by the government that operates the insurer. As for the private market, the factors that historically inhibited the provision by insurers of land-based war risk cover—the risk of catastrophic loss and the poor prospects for salvage—may similarly constrain the scope and terms of trade sanctions insurance from the private market. It may be interesting to consider, however, the extent to which export credit insurers have sought to limit their exposure to loss caused by trade sanctions.
Thus, I recommend that companies cope with the peculiar risks that trade sanctions can pose by using the risk management skills that applied to other aspects of transnational business, but I urge the addition of some trade controls expertise to the mix.
Cecil Hunt is of counsel to Harris, Wiltshire & Grannis LLP in Washington, D.C. Past positions include Vice President and General Counsel of the Overseas Private Investment Corporation, Assistant General for International Trade of the Department of Commerce and Chair of the International Law Section of the District of Columbia Bar. Mr. Hunt also has numerous publications on the topic of export controls, which are available on the Harris, Wiltshire & Grannis LLP website.