What are the effects of foreign ownership?

A private company asked the following question: May a business that is owned or controlled by a foreign organization bid on a classified government contract? If so, are any special approvals required?

In general, a prospective offeror on a government contract is not required to have a so-called facility clearance (FCL) to submit a proposal, even when the solicitation requires the successful offeror to have a clearance before it can commence work under the contract. Most solicitations for classified work are written in this manner because a company's application for an FCL will not be processed until it can demonstrate a need for a clearance, which it cannot do until after it has been awarded a contract. (See, for example, Ktech Corp., B-241808, March 1, 1991, 91-1 CPD 237, in which it was ruled that requiring an FCL before award would put new companies in a "Catch-22" situation.)

Some solicitations, however, require a current clearance to be considered eligible for contract award. Even under these solicitations, an offeror without a clearance may submit a proposal if it reasonably believes that it will receive a clearance before the anticipated award date. But a company that cannot obtain a clearance until after the anticipated award date is ineligible under a solicitation of this sort.

In any case, a company with a foreign ownership, control or interest (FOCI) may be unable to receive an FCL unless it complies with the U.S. National Industrial Security Program. The NISP is administered by the Defense Department's Defense Security Service, previously known as the Defense Investigative Service. The service was established by Executive Order 12829, signed Jan. 6, 1993, to update and replace previous programs for the protection of classified information. Detailed program guidance is provided in the NISP Operation Manual (NISPOM).

According to the NISPOM, a U.S. company is subject to a FOCI "whenever a foreign interest has the power, direct or indirect, whether or not exercised, and whether or not exercisable through the ownership of the U.S. company's securities, by contractual arrangements or other means, to direct or decide matters affecting the management or operations of that company in a manner which may result in unauthorized access to classified information or may affect adversely the performance of classified contracts." [NISPOM : 2-301(a).]

In deciding whether a company with a FOCI may receive an FCL, the Cognizant Security Agency (CSA) must consider the following factors:

- Any foreign intelligence threat.

- Any risk of unauthorized technology transfer.

- The type and sensitivity of the information requiring protection.

- The nature and extent of the FOCI.

- The record of compliance with pertinent U.S. laws, regulations and contracts.

- The nature of bilateral and multilateral security and information exchange agreements that may pertain. [NISPOM : 2-302(a)]

Traditionally, a company may try to mitigate a FOCI in several ways. A Special Security Agreement (SSA) allows a foreign owner to operate a U.S.-based subsidiary, provided the foreign owner implements controls to allow only approved U.S. citizens to have exposure to information implicating national security. A proxy agreement allows the foreign owner to retain legal title to the stock but requires that all voting rights be irrevocably conveyed to U.S. citizens. A voting trust requires a foreign owner to transfer legal title to its stock as well as management control to U.S. citizen trustees. In general, approval of an SSA is harder to obtain than the other alternatives.The NISPOM specifies eligibility requirements for trustees and proxy holders. Each must be a U.S. citizen residing within the United States and be capable of exercising voting rights and management obligations to insulate the contractor from the foreign shareholders. Each must be a completely disinterested individual with no prior involvement in the company or with the foreign owner. And each must be eligible for a personal clearance at the same level as the FCL.

If a foreign person owns less voting stock than needed to elect a representative to the board of directors of the company, a resolution by the board may be sufficient to address the FOCI concern. [NISPOM : 2-306(a).] The resolution must identify the foreign shareholder and acknowledge the contractor's obligation to comply with all security and export control requirements, certify that the foreign shareholder will not have unauthorized access to classified and export-controlled information and certify that the foreign shareholders will not hold positions that may enable them to influence the performance of classified contracts. Certifications must be provided yearly to the CSA.

-- Peckinpaugh is a member of the government contracts section of the law firm Winston & Strawn, Washington, D.C.