Insights

The UAE's New Offset Program Guidelines - Ten Things You Should Know

Firm Thought Leadership

The UAE's Tawazun Economic Council ("Tawazun") has announced new Policy Guidelines for the UAE's Tawazun Economic Program ("TEP"). The TEP is a so-called offset program through which foreign defense contractors ("DCs") are obligated to contribute to economic development in the UAE in order to offset against purchases of their products and services. Offset programs are not unusual, but the prior 2015/2016 policy guidelines in the UAE ("Prior UAE Offset Guidelines") were quite difficult for DCs to satisfy. The TEP Policy Guidelines dated 31 March 2019 ("New UAE Offset Guidelines") reflect a more flexible and value focused approach by Tawazun that should be more simple and efficient for DCs to implement than under the Prior UAE Offset Guidelines.  Thus, the New UAE Offset Guidelines should be a change welcomed by DCs.

Tawazun's goal is to ensure that defense related procurement in the UAE results in industrial participation by DCs in the UAE, in order to generate high value economic, social and strategic benefits to the UAE. A DC must enter into a TEP agreement with Tawazun ("Offset Agreement") containing offset obligations equal to 60% of the supply contract value ("Offset Obligations") as a condition to entering into a supply contract with the government of the UAE (directly or indirectly) exceeding a certain threshold value. DCs must fulfill these Offset Obligations by generating offset credits ("Offset Credits") through Tawazun approved projects ("Projects"). Capitalized terms not defined herein shall have the meanings defined in the New UAE Offset Guidelines (www.tawazun.ae).

The New UAE Offset Guidelines - Ten Things You Should Know

  1. Sector Focus Broadened Beyond Defense. A core focus of the TEP will continue to be the development of the defense and security industry in the UAE. In addition, under the more flexible New UAE Offset Guidelines, Tawazun will consider broader types of projects that meet the UAE's strategic needs, including the following priority sectors: aerospace; infrastructure & transportation; communication technology; education technology; sustainability, environment & climate change; and food & water security. Tawazun now will also consider projects that comprise dual-use or standalone technologies because the adoption and integration of technology is such an important area of focus for the defense and security industry. Examples of these technologies provided by the New UAE Offset Guidelines are: artificial intelligence & big data analytics; blockchain; additive manufacturing; virtual & augmented reality; advanced information technologies; quantum computing & encryption; robotics; internet-of-things; advanced energy capture, storage & propulsion; and smart materials & sensors.
  2. Expanded Project Categories and Flexible Project Types. Tawazun has expanded the categories of available Projects through which DCs can generate Offset Credits. These have been restructured as the following three Project categories:
    • Investment – DCs can choose between two different options to perform Projects within this category: (i) traditional equity joint ventures with a local partner(s); or (ii) partnerships without equity, such as co-production or technology co-development.
    • Contractual Engagement - DCs are required to sign a work package contract with a local UAE supplier or manufacturer for Projects within this category to: (i) manufacture products in the UAE and export these products from the UAE, or provide services to foreign buyers; or (ii) create supply opportunities for local industry. The main types of Projects considered in this category include export work packages (focused on enabling local suppliers with export opportunities), and local content – import substitution (focused on awarding work packages directly to UAE suppliers to localize supply-chain).
    • Capability Development - DCs are required to provide knowledge, technology and/or capabilities to UAE nationals or local entities in order to perform a Project within this category. Types of Projects in this category include: (i) technology transfer (process know-how, intellectual property or training & development programs); or (ii) internships and job placements for UAE national graduates to work with DCs in international locations.
  3. Enhanced Credit Parameters. The New UAE Offset Guidelines clarify the nine different ways (the "Credit Parameters") in which Offset Credits can be generated by DCs, in line with the UAE's priority areas for investment and economic development (and depending on the Project category). The Credit Parameters are: (a) contribution in equity - cash; (b) contribution in assets - tangible; (c) contribution in assets - intangible; (d) net income; (e) salaries to UAE nationals; (f) contract value; (g) value of training & development programs; (h) export revenues; and (i) value of IP generated.
    The Credit Parameters available for any Project will be pre-approved by Tawazun and documented in a signed Term Sheet. Tawazun may require that independent third parties be engaged to perform valuations for some Credit Parameters, such as contribution in assets and value of IP generated, before awarding Offset Credits. Also, the methodology to award credits for intangible contributions will be different and based on pre-agreed business targets. It is speculated this has been done to avoid debate over the value of IP and to encourage DCs to provide realistic estimates regarding the projected value of intangible contributions.
  4. Revised Multipliers, including Bonus Multipliers in Priority Areas. Each of the nine Credit Parameters now is subject a designated multiplier ranging from 0.5 to 2, depending on the beneficial impact to the UAE, and subject to adjustment in Tawazun's discretion. This expands the multipliers that were available under the Prior UAE Offset Guidelines.
    In addition, Tawazun has introduced discretionary bonus multipliers under the New UAE Offset Guidelines, which it may award based on the following factors:
    • Value Chain Focus - If a Project is concerned with the manufacture or development of capabilities related to the high-end of the value chain (e.g., systems design or final assembly, integration and testing).
    • Local Content - If products manufactured under a Project are certified as "made in the UAE" in accordance with prevailing Ministry of Economy guidelines.
    • High skilled positions for UAE nationals - For salaries for UAE nationals employed in engineering, management or leadership roles.
  5. Removal of Input and Output Ratios for Offset Credits. The Prior UAE Offset Guidelines limited the amount of Offset Credits which could be generated by "input" and "output" activities respectively. Input Credits (such as the provision of cash, assets and capabilities) could not exceed 30%. Output Credits (such those generated from net profits and exports, and the salaries paid to UAE nationals) needed to be at least 70%. These limitations have been removed from the New UAE Offset Guidelines to enhance flexibility and creativity, and to increase the likelihood that DCs will consider large scale, big-ticket projects with substantial input requirements.
  6. Simplified Bank Guarantees. The value of the Bank Guarantee Tawazun requires as part of the TEP remains at 8.5% of the Offset Obligation throughout the entire relevant Period of Performance. However, under the New UAE Offset Guidelines, if Tawazun approves a request for Offset Credits, the DC also can request that a pro-rata portion of the Bank Guarantee be released.
  7. Banking and Trading of Credits is Allowed. If a DC generates more Offset Credits than required to fulfil its Offset Obligations, the surplus can be "banked" for up to five years following completion of the Project. Such banked Offset Credits can be deducted from future Offset Obligations, or can be "traded" to another DC. Trading requires the prior consent of Tawazun and may incur a transaction charge. The New UAE Offset Guidelines do not elaborate about the potential transaction charge.
  8. No Penalties for Performing Companies. The New UAE Offset Guidelines no longer prescribe annual minimum Offset Credit milestones or associated penalties for Performing Projects. Thus, if a DC has otherwise complied with its obligations at the end of the relevant Period of Performance (such that it is deemed to be carrying on a Performing Project) but there is an Offset Credit shortfall, the DC can choose either to pay the Shortfall Value (from the required Bank Guarantee) or, alternatively, roll the entire Shortfall Value forward into another Project. The Prior UAE Offset Guidelines applied liquidated damages and default accounts to penalize DCs who failed to achieve their annual Offset Credit milestones.
  9. No Contractual Accumulation for TEP Threshold Trigger. Offset Obligations are triggered if the value of a DC’s Supply Contract meets or exceeds a threshold value of AED 36,730,000 (equivalent to US $10,000,000). Under the Prior UAE Offset Guidelines, Tawazun would aggregate the value of a DCs Supply Contracts over a consecutive five-year period to determine whether Offset Obligations would be triggered. That five-year aggregation concept no longer applies under the New UAE Offset Guidelines to determine whether the Offset Obligations threshold is triggered.
  10. New Rules for Corporate Groups. Tawazun has introduced new rules regarding the treatment of corporate groups by which Supply Contract value may be aggregated if the DC or its Parent Company (defined as a company or group of companies which directly or indirectly control the DC) is already subject to Offset Obligations. Thus, Offset Obligations will be incurred under the New UAE Offset Guidelines if a DC enters into a Supply Contract worth less than AED 36,730,000 if:
    • the DC already is subject to Offset Obligations through one or more existing Supply Contracts; or
    • the DC is not subject to Offset Obligations, but its Parent Company is, in which case the Offset Obligations from the new Supply Contract will be attributed to the Parent Company.

Closing

The New UAE Offset Guidelines aim to enhance cooperation and mutual commercial opportunities. It is hoped they will provide DCs the opportunity to contribute to a wider variety of projects.

Although the New UAE Offset Guidelines make notable changes from prior iterations, it still is recommended that DCs engage with Tawazun early on to discuss potential projects and their interpretation of the New UAE Offset Guidelines.

Baker Botts has a pre-eminent defense practice in the Middle East and has been advising clients on offset programs and projects for decades. Please contact us if you want to learn more about the New UAE Offset Guidelines.

 

ABOUT BAKER BOTTS L.L.P.
Baker Botts is an international law firm of approximately 725 lawyers practicing throughout a network of 14 offices around the globe. Based on our experience and knowledge of our clients' industries, we are recognized as a leading firm in the energy and technology sectors. Throughout our 179-year history, we have provided creative and effective legal solutions for our clients while demonstrating an unrelenting commitment to excellence. For more information, please visit bakerbotts.com.

Practices

Related Professionals