The United States is engaging in a new form of warfare. Russia invaded Ukraine just over two months ago and, rather than join the fight directly by sending troops to defend Ukraine, the United States is fighting indirectly by engaging in unprecedented financial warfare against the Russian Federation. The initial export and sanctions actions were swift and severe – but somewhat expected. As the invasion persists, the U.S. Federal Government and individual States also have begun to leverage procurement policy to amplify the financial harm to Russia. This Guide will try to help make sense of the current efforts targeting Russia, the potential impact to government contractors, and proactive steps to mitigate risk.
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Sanctions and Export Controls on Russia
Before we get to the specific issues government contractors will face with respect to Russia, we should lay out a bit of a landscape. We have covered the broader restrictive measures on Russia here and have updated them steadily as those measures have broadened and deepened.
Generally, U.S. export controls prohibit nearly all exports of U.S.-origin items to Russia, and U.S. sanctions prohibit U.S. persons from transacting—directly or indirectly—with a host of Russian persons, businesses, and financial institutions, as discussed in greater detail below.
1.2 Sanctions
The increased Russia sanctions will present a compliance concern, but most companies with solid protective measures already in place will not need to change too much to address it. For instance, if your company uses a third-party screening service to identify potentially sanctioned parties in your proposed transactions, your company may reasonably rely on that service to update the lists against which it screens. Further, most screening services can identify sanctioned parties in a prospective transaction partner’s ownership chain where that information is readily available. In light of the increased sanctions and increased scrutiny, however, it may be worth confirming that your screening vendor is making that check for you and request it if they are not.
It is most likely that the sanctions that will limit payments to Russia—sanctions on banks, on government agencies, and on the Russian Central Bank—will create supply chain difficulties for government contractors in the near term. The first and most obvious supply impact will be on oil and gas—by far the largest Russian export. Restrictions on Russia have increased, and will continue to increase, prices until the world market can adjust.
Additionally, there are other supplies that may become more scarce and, it follows, more expensive. Russia supplies platinum, titanium, and vanadium to the fuel cell, hydrogen, and 3D printing industries. Russia also is the world’s third largest supplier of nickel used for electric vehicle batteries, and is heavily involved in the production of stainless steel, a basic commodity in countless industries.[1]
1.3 Export Controls
Many companies that supply the U.S. Government, particularly the U.S. Military, will have limited sales in Russia because of long-standing restrictions on supplies to Russia for military end-uses. However, the new export controls may affect commercial suppliers as they decide what to do with the commercially available off-the-shelf items they supplied to offices, restaurants, or civil aircraft in Russia just a few months ago.
For those companies, we note that Russian businesses desperately are trying to get their supplies into the country, and some do not shy away from a little dissembling to do so. For example, we have seen customers and distributors suddenly request their supplies be delivered to neighboring Kazakhstan—a huge red flag that the supplies would be reexported to Russia in violation of U.S. law, a practice called “transshipment” by the regulators who would be keen to catch and level penalties against those engaged in it. Similarly, requests for software programs, updates, and patches are being made to U.S. companies in ways designed to disguise a Russian end-user, such as delivery to third-country servers.
So, for government contractors, as for many U.S. companies, a nimble shifting of logistics chains, and a hard look at any customer requests that don’t quite pass the sniff test, appear to be in order.
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Federal Procurement Legislation
As the Russian invasion of Ukraine has persisted, the U.S. Government continues to identify new ways to punish Russia economically beyond sanctions and export limitations. Not wanting to let the Executive Branch have all the fun, on March 21, 2022, Congress took action of its own – Representative Carolyn Maloney (D-NY) introduced the Federal Contracting for Peace and Security Act (H.R. 7185). The purpose of the legislation is simple: to “[p]rohibit the federal government from purchasing products or services from companies that continue to conduct business in Russia during its war of aggression.” The legislation specifically targets “covered entities” that conducted business in Russia during the “covered period.” Specifically, the bill would:
- Prohibit any agency from awarding, extending, or renewing any contract with a covered entity;
- Prohibit any agency from awarding, extending, or renewing a contract with a company that issued a major subcontract to a covered entity; and
- Require the termination of existing contracts with covered entities.
As currently drafted, the reach of the proposed legislation is staggering, and would cover any Federal contractor with an affiliated entity (including any parent, subsidiary, successor entity, or beneficial owner of such company) that conducted business in Russia during the covered period. The proposed legislation defines “conducted business” broadly, and includes acquiring, developing, selling, leasing, or operating equipment, facilities, personnel, products, services, personal property, real property, or any other apparatus of business or commerce.
This isn’t the first time we’ve seen the Federal Government actively leveraging its procurement power to affect policy change (see, e.g., Section 889 of the FY19 NDAA, the Federal Contractor Vaccine Mandate), but this legislation may be the most powerful attempt to use procurement policy as a substitute for more traditional warfare.
On April 7, 2022, the House Oversight and Reform Committee passed an amended version of the proposed legislation (which added details around the exceptions, rulemaking process, and adopted a process for “good faith extensions”). The legislation now will move to the full House for consideration. If the proposed legislation is signed into law, the Office of Management and Budget will have only 30 days to issue emergency regulations to implement the statute. Even if this particular legislation doesn’t become law, it is likely something similar impacting Federal contractors will be implemented (perhaps even via Executive Order), and therefore contractors currently conducting business in Russia should develop a proactive plan to mitigate the likely impact.
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Current and Proposed State Actions
From condemning Russia to banning the sale of Russian-origin liquor, more than 35 States also have exercised their Executive and Legislative powers to respond to Russia’s actions against Ukraine, all while encouraging private entities to do the same. Some actions largely are symbolic—such as lighting the State Capitol the color of Ukraine’s flag—but others may have significant impact on State economies, and, even more so, on contractors operating within or in conjunction with these States.
Most relevant to contractors, certain States (including California, Colorado, Florida, Massachusetts, Minnesota, Missouri, Mississippi, New Jersey, New York, North Carolina, Ohio, Texas, Vermont, and Washington, to name a few) have announced their intent to terminate all agreements with entities tied to Russia,[2] whether directly via Russian ownership or control, or indirectly by operating in Russia or providing Russian-origin goods. Though many of these State actions are short on specifics at the moment, Ohio is a bit ahead of the curve and already has made clear this prohibition likewise will extend to subcontracts and subcontractors. We expect other States to follow suit.
Certain states have indicated they intend to enforce this prohibition, at least in part, by requiring contractors to submit new representations and certifications regarding their business dealings in Russia (including the business dealings of their subcontractors). Ensuring these representations and certifications are accurate will be critical to mitigate risk in the States with False Claims Act statutes.
Other States have banned the sale, provision, or import of certain Russian-origin products. Though many of these bans involve the sale of Russian-made liquor, some States have extended these prohibitions to products that may more directly affect contractor performance, including oil and gas (Louisiana and Hawaii), and iron and steel (Louisiana). Other States, such as Texas, have taken a more sweeping approach, banning all Russian-origin products outright. The impact on each contractor’s supply chain will vary based on the specific State prohibitions, though given the widespread action across States, there’s certain to be some impact to every contractor’s supply chain.
We have compiled this table here as an overview of current and pending State actions impacting government contractors.[3]
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Proactive Steps to Mitigate Risk
In light of this flurry of activity across all levels of the U.S. Government, we’ve compiled this preliminary list of proactive steps government contractors should consider to help ensure compliance (and, maybe, recover additional costs). This is not an exhaustive list – but it’s a good start given the current state of actions against Russia.
- Rely on your existing screening software to ensure you are not doing business with a sanctioned entity (including an analysis of the ultimate beneficial owner of your customer).
- Track increased costs tied directly to Russian sanctions (e.g., fuel, iron, alternative sources of supply), and analyze whether you can seek an equitable adjustment for those costs.
- Monitor whether customers are making unusual requests, like relocating shipments to countries neighboring Russia and Belarus.
- Evaluate your corporate family’s business dealings in Russia. Given the public pressure against companies currently doing business in Russia, these efforts likely already are underway.
- Begin assessing the entities in your supply chain (including your subcontractors) to determine if they conduct business operations in Russia. A multi-phased approach that first analyzes the principal place of business of each entity before progressing to certifications from suppliers seems to make the most sense. Where practical, begin to identify alternative suppliers.
- Monitor Federal and State contracts for modifications incorporating new language restricting business with Russian entities and providing new representation or certification requirements.
- Carefully review any new representation or certification provisions and ensure your company’s responses are current, accurate, and complete to minimize risks of False Claims Act liability at both the Federal and State levels.
FOOTNOTES
[2] In some instances even local and municipal governments have jumped in on the action. For example, on March 9, 2022, the Dallas City Council approved a resolution proposed by Mayor Eric Johnson that, inter alia, restricts the Council’s ability to approve future contracts with entities that have ties to Russia.
[3] In providing this table, we do not weigh in on the legality of any such action, especially where the Federal Government typically is tasked with primary authority over diplomatic relations and sanctions. Nor do we proclaim this table offers a comprehensive summary of every relevant State action—we not only expect additional resolutions in the days and weeks to come, but also expect that many actions may be amended as they make their way through State legislatures. In providing this summary, we only aim to assist contractors in identifying new and evolving restrictions and requirements impacting contractor performance in those named States.
Article By Reid Whitten, Ryan E. Roberts and Ariel Debin of
Sheppard, Mullin, Richter & Hampton LLP
For more articles on government contracts, visit the NLR Government Contracts, Maritime & Military Law section.