“NATIONAL DEFENSE MAGAZINE” By Susan Cassidy, Daniel Raddenbach and Peter Terenzio
“The proposed FAR clause would be incorporated into “all solicitations and contracts” without regard for contract value or commerciality.”
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“The Federal Acquisition Regulatory Council in early May released an Advanced Notice of Proposed Rulemaking describing the agency’s plan to implement Section 5949 of the National Defense Authorization Act for fiscal year 2023.
This notice gives the defense industry an early look at how the U.S. government may handle sourcing of semiconductors from certain Chinese sources.
Section 5949 restricts the procurement or use of “covered semiconductor products or services,” defined to include semiconductors and associated products designed, produced or provided by Semiconductor Manufacturing International Corp.; ChangXin Memory Technologies; and Yangtze Memory Technologies Corp., plus subsidiaries and affiliates. In addition, the statute anticipates that additional covered semiconductor products or services connected to the government of a “foreign country of concern” — such as Iran, Russia, China and North Korea — could be added via internal government coordination and publication in the Federal Register.
This restriction has two prongs. Under the first prong, the U.S. government may not directly procure or obtain any electronic products or services that include covered semiconductor products or services. And under the second prong, the U.S. government may not enter a contract with an entity to procure or obtain electronic products that “use” electronic products that include covered semiconductor products or services.
Seasoned defense industry observers may recognize that Section 5949 borrows from the two-pronged approach taken in Section 889 of the 2019 National Defense Authorization Act, which introduced what is often referred to as the “covered telecommunications rule” and similarly banned telecommunications equipment and services from certain Chinese manufacturers within the federal supply chain.
However, the second prong of Section 5949 is notably different from the “contractor use” prong that applies in connection with Section 889 and instead appears directed at acquisitions of electronics that “use” other electronics that contain covered semiconductor products or services.
The proposed FAR clause operationalizes the Section 5949 restriction in three ways. First, contractors must conduct a reasonable inquiry to detect and avoid using covered semiconductor products or services within their electronic products and electronic services. In conducting such an inquiry, contractors and subcontractors may reasonably rely on certifications of compliance from suppliers and are not required to conduct independent third-party audits or other formal reviews related to such certifications.
Second, contractors must make certain disclosures, including disclosures to direct customers regarding the inclusion of covered semiconductor products or services in electronic products or electronic services and notifications to the appropriate federal authorities within 60 days of learning or suspecting that a product within a critical system contains covered semiconductor products or services.
The clause would include a safe harbor from civil liability or debarment, provided that the contractor notifies the U.S. government and makes a comprehensive and documentable effort to identify and remove the covered semiconductor products or services.
Third, contractors must take corrective action if they fail to disclose the inclusion of covered semiconductor products or services in electronic parts or electronic services to direct customers. The costs of such corrective action would be unallowable.
The proposed FAR clause would be incorporated into “all solicitations and contracts” without regard for contract value or commerciality. As a result, the notice contemplates that “every unique awardee with electronic products or services would need to conduct a reasonable inquiry” to assess compliance with this rule; that 75 percent of all awardees will have electronic products or services that will be impacted by the prohibition; and that up to 20 percent of semiconductors in those electronic products or services “are not currently compliant with the prohibition.”
The heads of executive agencies would have limited authority to waive the application of these requirements in particular situations, generally where the agency determines that no compliant product or services is available to be procured at prices not prohibitively expensive and where such waiver could not reasonably be expected to compromise critical U.S. national security interests.
Notably, the proposed rulemaking also reiterates that Section 5949’s prohibitions would not require agencies to remove any products or services already in place prior to the December 2027 effective date of the prohibition, nor would it limit the utilization of covered semiconductor products throughout the lifecycle of existing equipment.
In addition to these broad prohibitions, the proposed rulemaking notes that the U.S. government is “considering requiring offerors to identify the provenance of the supply chain for the semiconductor components for each electronic product to be provided to the government” to allow the government to validate contractor compliance with the prohibition. Such provenance information could include requiring offerors to identify vendors and facilities responsible for design, fabrication, assembly, packaging and testing of the products.
Industry is encouraged to submit comments to the FAR Council in response to this notice of proposed rulemaking, which asks for feedback and recommendations on how to further clarify the scope of the prohibition, the inclusion of additional definitions, whether industry has sufficient visibility into supply chains, the appropriate procedures for conducting a reasonable inquiry and the anticipated need for waivers after December 2027. “
The authors are attorneys in the Washington, D.C. office of Covington & Burling LLP. Stephanie Barna, Ryan Burnette, Mike Wagner and Jasmine Wang also contributed to this article.
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