Offset Agreement - Defense Offset Example

Defense Offset Example

As an example of a defense offset proposal we could describe a hypothetical case of Nation P (Purchaser) buying 300 tanks from defense company S (Seller, of Nation S). The total sale contract is $400 and Nation P (Purchaser) requests 120% of offset. Defense Company S (Seller) is obliged to fulfill an offset equal to 120% of the sales contract, that is 480 M USD. Nation P agrees on a list of specific offset deals and programs to fulfill the agreed total obligation with Company S (Seller). The offset agreement includes both direct and indirect offsets.

Nation P also assigns a credit value for each typology of offsets offered by Company S. The credit value for the offset obligations is not the “actual value,” but it is the “actual value” by a multiplier, that expresses the degree of interest of Nation P (Purchaser) in the proposed offsets. In other words, something deemed very valuable by nation P will have a high multiplier that expresses the importance and the value to Nation P of that type of offset. The multiplier (for instance 2, or 5, or 7) translates nation P's attached value into the credit value, that eventually accounts for the fulfillment of the agreed sum of $480 (120% of offset); it is evident that with no multipliers, 120% offset would be a nonsense. Most of the offset packages are divided into direct and indirect offsets. Here is a hypothetical complex offset offer, divided into direct and indirect offsets in Nation P.

Direct Offsets (military and related to the product of the Company S, i.e. tanks)

Co-production: Nation P chooses one or more local companies to manufacture some components of the tanks, such as turrets and some of the internal components. The actual value of the components is $70 million dollars. Nation P assigns a multiplier of 3, since this develops capabilities of its military industrial base and creates jobs in Nation P. The total credit value for the fulfillment of the overall offset obligation is 70 M x 3 = 210 M.

Indirect Offsets (civilian and not related to the production of the weapons item, the tanks. They could be also military or security related, but not directly connected with the main acquisition, i.e., the tanks)

Foreign Direct Investments: Company S makes investments in 5 (defense or non-defense) companies in Nation P. The total value of the investments is $14.5 M, and the multiplier is 4, a high multiplier, since nation P suffers from a chronic lack of Foreign Direct Investments. This makes an additional credit value for Company S of $58 M.

Technology Transfer: Company S provides water desalination technologies to one Nation P company. This technology is particularly appreciated by nation P. Its actual value is $20M, but the credit value is 7 times the actual value, that is $140M.

Export Assistance and Marketing: Company S provides commercial assistance to market products and services of a nation P's company in a difficult market, such as, for instance, the Middle East. The assistance is offered for 8 years, at the value of $3M per year. Nation P considers this assistance to export as important to create new revenue streams and jobs for its company, and sets a multiplier of 3. Credit Value $72M. (Since company S is not an expert on marketing and export assistance it may hire a specialist company to subcontract the job. Such a subcontractor is also known as an “offset fulfiller”).

Nation P controls not only the supply of the military systems or services, but also the implementation of the offsets according to the offset agreement included or related to the main supply contract. This control is within the Minister of Defense and/or Ministry of Economy or Finance, or Ministry of Industry and Trade. Often arms importing nations establish special agencies for the supervision of the defense offsets.