Export Reforms Can’t Come Soon Enough for Defense Industry

The Obama administration this month published new rules that would lessen restrictions on the sale of U.S. technology to foreign buyers.
As early as Oct. 15, the government will begin to remove certain items from the U.S. Munitions List so they can be treated as dual-use products that would not be subject to the International Traffic in Arms Regulations.
Export licenses for ITAR-restricted items on the Munitions List are overseen by the State Department, whereas dual-use technologies fall under the Commerce Department.
“Export reform is here … almost,” said industry attorney Kevin J. Lombardo, a partner at McKenna Long & Aldridge, in Los Angeles.
In a blog post, Lombardo said the final rule amends ITAR in several categories of the Munitions List, such as aircraft and related articles, technical data and defense services. It also creates a new for gas turbine engines and associated equipment.
U.S. defense contractors have sought these reforms for decades, and even though changes in current rules are coming, it is not yet clear how the modified rules might affect specific products or suppliers.
“Companies should continue to review their jurisdiction and classification determinations to identify parts and technology that are subject to export reform,” Lombardo said.
U.S. suppliers of high-tech products are especially eager to see reforms to help boost international sales and offset declining Pentagon orders.  
“Every Pentagon contractor is eager to court foreign customers,” said Jeremy Devaney, defense industry analyst at BB&T Capital Markets.
Companies that supply components that are used in military systems are especially keen on export reforms. Even if a component is a commercial item, if it is used in a weapon system, it is ITAR-controlled. Such rules have hurt international sales for companies such as SCHOTT North America, which manufactures high-tech glass and other materials used in military equipment. The firm is a subsidiary of Germany-based SCHOTT Group.
“We make components that are ITAR controlled even though there are foreign substitutes,” said Jim Stein, vice president of government affairs.
The company has seen a drop in sales to the U.S. military and needs to increase overseas business in order to keep its skilled workforce employed, Stein said in an interview. “If we could sell to our allies, with less bureaucratic restrictions, we could maintain some of the supplier base,” he said. “Export reform is moving along, but slowly. All the important stuff is at the end of the process.”
Any regulatory relief will come, at the earliest, in 2014, he said. “Meanwhile, we are hanging by the skin of our teeth in some of these programs.”
Many products that SCHOTT provides — fiber optics for night-vision goggles, transparent armor and other specialty glass — are ITAR controlled. Some of these materials are available from other countries that do not have ITAR restrictions, he said. U.S. allies such as Germany or France can easily choose a Chinese substitute, Stein said. Those are revenues going into the Chinese industry, rather than American industry, he added. “We potentially could be out-invested and out-innovated by China.”
The debate over export controls has pitted those who want to protect valuable technology for national security reason against those who believe economic competitiveness should trump other concerns. The Obama administration has taken the position that U.S. industry needs export reforms to become more competitive. It still needs congressional approval to implement many of the proposed new measures.
Several U.S. defense contractors in recent years have been prosecuted and fined for export violations.
“I am hoping sanity prevails in the export reform discussion,” Stein said. “There is a lot of emotion around it.”
Even if U.S. companies offer higher-quality products, foreign manufacturers consider the export licensing process and often decide that they are better off buying a non-ITAR product, Stein said. “It might be lower quality, but in the end he [the manufacturer] makes money because he doesn’t pay for administrative overhead to track end-user statements and end-user licenses required by ITAR.”
The current system is a “good program that has helped the United States” keep technologies from ending up in the wrong hands, he said. But blanket application of ITAR across every component in a system has hurt suppliers, he said. “Sometimes it becomes too hard to determine what components should be restricted so they err on the side of caution.”
Nobody wants “bad guys to have what we have,” said Stein. But the reality is that “bad guys already are getting capabilities from others. … Wouldn’t it be better if we had some control? If we get the revenues so we can innovate?”
The Obama Administration launched a review of the U.S. export control system in August 2009. Once the final rule changes go into effect in October, all eyes will be on Congress, and whether lawmakers will object to particular items being removed from the Munitions List.
“In considering the future of the U.S. export control system, Congress may weigh the merits of a unified export control system — the end result of the president’s proposal — or the continuation of the present bifurcated system,” said an April 19 report by the Congressional Research Service.
Two bills were introduced to reform the U.S. export control regime in the 112th Congress. One would have reauthorized the Export Administration Act and would have amended some of its provisions, as well as amended certain provisions in the Arms Export Control Act governing munitions licensing. The other would have replaced the EAA with a new act that would have provided the president the authority to create a new dual-use export control licensing system.
“Each bill would have implications for the president’s export control initiative and may be reintroduced in the 113th Congress in whole or in part,” the report said. The administration may decide to propose legislation to implement portions of its reform initiative.
As it weighs new legislation and the president’s proposals, CRS said, “Congress could consider how to balance between national security and economic competitiveness in a changing global environment.”
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Topics: Business Trends, Government Policy, International