Critical Factors Behind Successful Offset Strategies
Adapted from a paper delivered by Gilles Charveriat, the Consultancy Manager of ACECO, Paris, at the International Business & Offset in Emerging Asia Conference, Kuala Lumpur, March 24-25, 1997.
The constant evolution and increase of offset requirements in the world defense export market, as well as civil exports in the field of high technology and infrastructure, brings us to analyze briefly the critical factors behind a successful offset strategy.
From the point of view of the purchasing country, the necessity to gain economic benefits in return for offshore procurement has driven more than a hundred countries to require direct and indirect offsets.
Two separate attitudes can be identified: mandatory offsets, with guide lines specified in the bids; and suggested offsets, when the purchaser will favor suppliers which make attractive offset proposals without specifying the content, to be discussed on a case-by-case basis. In both cases the trend is towards more and more structured rules.
From the point of view of the potential supplier, the pressure of competition brings about a dependence on the offset requirement. Again, there are two attitudes. In the first, offset can be considered as a marketing tool, and suppliers can turn the obligation to their advantage, taking a pro-active attitude.
If offset is regarded purely as an obligation, the supplier meets only the offset request, and does not foresee the offset proposal as an advanced marketing strategy. This is a reactive, defensive attitude towards offsets and is not conducive to a proper positive approach to marketing. In either case, offset has become a fact of life.
Globally...The Rules Are Changing
Today the trend indicates that there is a "hardening of the game." Offset ratios are increasing from 20-30 percent to 100 percent, and sometimes even as high as 300 percent because of competition between suppliers. Multipliers are falling, and can affect the core of the offset (the technological transfer and the R&D provisions).
Penalties are frequently imposed and are increasing in severity. Fulfillment periods are often reduced, but this can have a negative outcome as it can affect the desired cooperation, at least for the direct offset.
The fulfillment of the offset obligation is being more tightly controlled by the purchasing side, though this is not a bad thing in itself. But globally speaking the rules are creating more and more constraints.
Where there is a shift towards more indirect offsets, the eligible sectors are often confined to high technology, and technology transfer investments, either through direct investment or joint ventures, which are the most favored.
The contracts include more and more financial components, and counter-purchase is frequently employed.
Offsets have become a worldwide technological, industrial and financial phenomenon. Requests for offsets are increasing, they are becoming more complex, and suppliers have to become more involved.
Diversified professional skills at a high level are required. At the same time offsets are a risky operation: there is a loss of technology, and a loss of working hours for the seller.
A Good Offset Is A Partnership
Three main factors have to be considered by the supplier: the industrial, the commercial, and the financial.
The Industrial Factor... It is necessary to integrate the possibility of technology transfer and sub-contracting from the very beginning of the product's conception.
The design engineers must anticipate that some parts of the product will have to be produced abroad without affecting the good health of the company.
All future markets will need to be considered so as to evaluate the possibility of cooperation, the capacity to integrate technologies, and the economic interest of the country to do so. This is not always an easy task, as the country requiring offset is often asking more than it can really do.
Offsets should not be considered as an obligation, but as a partnership. The objective is not to do a one-off operation, but to establish a long-term cooperation. It is also necessary to establish close cooperation with the sub-contractors.
The Commercial Factor... It is important to continually monitor the practice and development of the offset requirements in the targeted customer country and to analyze its economic needs.
The supplier will need to study these needs through its network of contacts and to identify suitable partners, in conjunction with a local lobbying task force in order to penetrate local industrial circles which can often influence the decision of the purchaser.
The Financial Factor... An attractive financial package is also part of a successful deal, possibly including investments and joint ventures.
More and more, the fulfillment of the offset requires financial engineering involving the financial department of the supplying company as well as third parties such as banks and investment services companies.
The authorities concerned in the country requiring offsets should define its objectives clearly, in the framework of a global economic approach and the stage of development of the country.
The government is the only entity having a broad overview of the country's economic situation, and so is in the best position to arbitrate between the local beneficiaries of industrial benefits.
The end-user of the import, such as the Ministry of Defense, should not be the only party to the decision.
In the Netherlands, for example, the Ministry of Economic Affairs is responsible for negotiating and implementing the industrial offset policy, and is continually being pressed by the industrial lobby to attract foreign partners through current offset contracts.
Also, in the Philippines the offset rules seem to have adopted a fair balance between the defense industrial sector and the other sectors of the economy. The Philippine International Trading Corporation works closely with the Board of Investment in this way.
Moderating The Request
If the purchasing side's offset rules seem to become tighter and more structured, it emphasizes the need for a balance between the request of the purchasing party and the offer of the foreign supplier. Each party must find its real interest in the transaction: it is more valuable to ask for less and obtain more than to ask for more and obtain less.
Many countries have succeeded through offsets to obtain important industrial plants, but once the contract has ended these plants do not have enough work load.
A successful strategy should bring the two parties to analyze fairly the real interest of the purchasing party, to use technology transfer to establish industries which are truly competitive, which produce goods and services which will continue to bring benefits after the completion of the contract, and not to establish industries which require subsidies and which are not economically viable.
Belgium is a typical case where there is excess capacity in the defense industry. In one factory producing armored vehicles through a direct offset technology transfer, the work-force fell from 300 to 60 when the contract was completed.
This moderate request should be translated into a permanent dialogue and exchange of information. This is particularly true in the case of indirect offset obligations, where new opportunities may be proposed by either party.
All these points can be summed up in four priorities:
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