A French Defence Update: February 2023

Paris – France took a financial hit of €409 million ($440 million) as a result of  its 2015 cancellation of the sale of two helicopter carriers to Russia, the national audit office said in its report on French arms exports.

“In total, taking into account the result of negotiations with Russia, cancellation of payments, payments to Naval Group, modifications and the sale of the ships to Egypt, this transaction cost France €409 million,” the independent office said in its report, Support for Export of Military Matériel. The report was cleared 24 January 2023 for publication.

The then French president, François Hollande, cancelled in August 2015 a controversial sale of the Mistral class warships, under pressure from the U.S., central European and Baltic nations, after Russia seized in 2014 the Crimean peninsula from Ukraine.

The then U.S. president, Barak Obama, said Paris should “press the pause button,” while the U.K. also called for Hollande to ax the arms deal.

How the audit office arrived at that €409 million was unclear, but one view is that amount includes an estimated €340 million-€350 million paid out by Coface, the export credit agency, to the prime contractor, Naval Group, then known as DCNS, and other contractors including STX and CNIM.

STX built the two Mistrals at Saint-Nazaire shipyard, while CNIM supplied two L-CAT landing catamarans for the warship deal with Moscow.

That overall €409 million might also include €56.8 million spent on training Russian crews and adapting the ships to Russian specifications. The hangers had been built large for a naval version of the Kamov Ka-52 Alligator attack helicopter, and the helicopter deck could be heated, to sail in Arctic waters.

STX, the shipbuilder, received €661 million from Coface, Thales €80 million for supply of electronics, and CNIM €40 million, September 2015 parliamentary reports from the lower house National Assembly and Senate said.

France paid Russia total reimbursement of €949.75 million for cancelling the order for the Mistrals, comprising a core payment of €892.9 million, and a further €56.8 million, the Sept. 15 2015 National Assembly report said.

It is understood the core repayment was based on Russian advance payment for the first ship – Vladivostok – which had been built and was ready for delivery, and partial advance payment on the second vessel – Sevastapol – which had yet to be completed when Hollande called the deal off.

There is a view the costs were covered by insurance claims through Coface, rather than French taxpayers, with export insurance for building the warships, buying them back from Russia, and selling them on to Egypt in 2015.

There is also a view the Mistral sale to Egypt was worth €960 million, although press reports at the time said the Cairo deal was worth €950 million.

Egypt’s purchase of the two Mistrals followed Cairo’s 2015 order for French weapons worth €5.2 billion for 24 Rafale fighter jets, a FREMM multimission frigate, and air-to-air and naval missiles.

The audit office was not available for comment.

Coface consistently made money between 2010-2021, with premiums exceeding claims, the report said, with only 2015 showing a net loss of €82 million due to the claims made on cancellation of the Mistral deal with Russia. The sale to Egypt limited the amount of claim, the report said.

Naval Group, the French shipbuilder, received payment that covered the cost of  production, but it had to forego an estimated profit of €100 million on the Russian deal due to the cancellation. There was much debate in France at the time, with some calling for delivery to Russia, to bolster a perception of France  as a reliable trading partner.

The previous French president, Nicolas Sarkozy, had approved the Mistral sale to Russia in 2011, for around €1.2 billion, with options for two more. That deal with Russian president Vladimir Putin drew criticism, with critics pointing to Russia’s 2008 invasion of Georgia, and concern rising when Russian troops seized Crimea and Moscow-backed separatists took control of the Donbas region, Eastern Ukraine, in 2014.

The incursion into Georgia would have taken 40 minutes rather than 26 hours if  Russian forces had sailed the Mistral carrier, a Russian general had said.

The then executive chairman of Naval Group, Hervé Guillou, told parliamentarians in September 2015 that lawyers had said the company faced  penalty payments of some €1 billion if the Mistral deal went into a lengthy legal dispute with Russia, on top of repaying almost €1 billion of advance payments.

The then French secretary general for defense and national security, Louis Gautier, negotiated with the then Russian deputy prime minister, Dmitry Rogozin, and they agreed on repayment, avoiding a legal wrangle. Hollande and Putin had agreed there should be a negotiated settlement and gave those senior officials mandate to strike a deal.

Those high-level, confidential talks appeared to spark a Russian free and frank expression of views.

Rogozin had not been “very favourable” to the Mistral deal, Gautier told Sept. 8 2015 parliamentarians,  the Sept. 15 parliamentary report said.

The Russian official, in a brusque manner, stated his opposition to cooperation, that Russian yards could have built the helicopter carriers, and that they had not exercised the option for two more Mistrals, which would have been built in Russian yards, the senior French official told the parliamentary committee.

“His point of view was opposition to execution of the contract,” Gautier told parliamentarians. “Nonetheless, there were representatives of other ministries sitting round the table.”

Close U.S. Scrutiny

The big French companies which use U.S. components in foreign arms deals are each thought to apply every year for an estimated 800-1,000 export licenses from the U.S. Directorate of Defense Trade Controls (DDTC), as required by the International Traffic in Arms Regulations (ITAR), the report said.

The directorate is part of the State Department.

That reliance on ITAR approval leads to a process which is “long, heavy, constraining, and risky to business confidentiality,” the report said, pointing out that American inspectors go on site to verify companies’ commitments. Once an export licence has been issued, restrictions on use must be observed and the State Department can make further checks.

The application of ITAR leads to slowness of procedure, higher costs, and can result in withdrawal of technology – leading to lower weapon performance. There may be delays as an alternative solution is sought, in an approach dubbed “ITAR free,” the report said. Or the project is cancelled.

“In every case, the supplier’s reputation is sullied,” the report said.

ITAR, which applies to export of equipment for dual military and civilian use, is very broad, the report said. The authorization applies not just to products, but also technical data, and services such as assistance, training, design, development, production, operational use, maintenance, and repairs.

A component which has been “ITAR-ized” may lead to approval needed for the whole weapon system, the report said. Export of civil equipment may need authorization if they use components which have been ITAR-ized.

The defense trade directorate has power to conduct criminal inquiries, the report said, and can change rules, apply them retroactively, and revoke license.

“The U.S. could decide on its restrictions as much for strategic reasons as for commercial,” the report said.

Companies found guilty of breaking ITAR can be denied the right to apply for future licences and be hit with sanctions, the report said. Penalties include being banned from operating and selling on U.S. soil, hefty fines, and prison sentences of up to 10 years for company directors.

In addition to ITAR, there are checks on dual-use equipment covered by export administration regulations, boosted by the 2018 Export Control Reform Act, the report said. Licences for foreign use of U.S. semiconductors and avionics are under close scrutiny. The Commerce Department oversees those export rules.

France seeks to pursue arms programs which are “ITAR free,” as can be seen in government instruction 1618, drafted by the Direction Générale de l’Armement (DGA) procurement office, the report said.

That Feb. 15 2019 instruction from the ministerial cabinet outlines the protocol for weapons programs.

The European Union should pursue this approach, the report said, urging the EU’s European Defense Fund to avoid supporting European projects for products and components which might fall under the control of ITAR.

Fresh Ties With Berlin

The report considers an updated agreement with Germany on arms exports following “serious difficulties,” which saw French deals stalled in 2014 and 2018.

The fresh accord revised the Debré-Schmidt agreements signed Dec. 7 1971 and Feb. 7 1972, which allowed the export of weapons built in cooperation, without the partner nation blocking the deal.

The projects for a future combat air system, based on a new generation fighter jet, and a main ground combat system, based on a new tank and unmanned vehicles, underscored the need for a new Franco-German pact, the report said.

France and Germany signed Oct. 23 2019 agreement on export controls on weapons, the report said, with both countries were free to sell abroad without authorization from the partner nation when the latter had less than 20 percent of content in the weapon.

That 20 percent – based on the principle of de minimis, when something is so small there is no breach of agreement – excluded service, spares, training, and repairs, the report said. Tucked into the annex of the agreement was a list of weapons excluded from that 20 percent rule.

Apart from the 20 percent ruling, a partner nation could not block exports of weapons designed and developed in cooperation, unless the sale went against the partner nation’s interest or national security, the report said.

It is not clear whether national interest and security were clearly set out.

Some French executives saw that 20 percent threshold as giving Berlin vast sway over French arms exports.

A permanent committee was set up to oversee the smooth running of the agreement, the report said, and it was too early to tell if that was working well. Much will depend on the German parliament, which has oversight over contracts worth more than €25 million.

All nations reserve the right to authorize foreign deals when components come from their country, the report said.

The authors led with the U.S. and Germany. The report also refers to cooperation on missiles between Britain and France.

It’s About Politics

Export arms sales depend on relations between nations, their appreciation of the international situation, balance of power and how they change, the report said.

The foreign arms trade is subject to changes in the political tide, the report said, with deals made more fragile, or suspended, or talks broken off in recent years.

Such vagaries stem from various factors, such as strategic change, shifts in diplomacy, change in the political majority, a determination to show respect to contracts, or the search for independence and alternative suppliers, the report said.

An arms embargo on Russia and the curtailed Mistral deal was the leading example of five recent “emblematic” cases involving breach of a French contract or the foreign pursuit of other suppliers, the report said.

Those cases included Poland’s pick of American kit due to its close ties to Washington and stationing of U.S. troops in the East European nation, the report said, citing the following cases:

– Warsaw picked Sikorsky Black Hawk helicopters over the Airbus Caracal in 2016, Patriot missiles over MBDA weapons in 2018, and Lockheed Martin missile launchers in 2019.

– Brazil’s selection in 2019 of four corvettes from German shipbuilder ThyssenKrupp Marine Systems over an offer from Naval Group. That reflected weaker ties between Brasilia and Paris after the election of Jair Bolsonaro in 2018.

– Egypt’s opting in 2020 for two FREMM multimission frigates from Italian shipbuilder Fincantieri over an offer from Naval Group, mainly due to French criticism of Cairo’s lack of respect for human rights.

– A fresh analysis by the Australian and U.S. authorities of the “strategic situation” in the Indo-Pacific region led to Canberra’s 2021 cancellation of Naval Group’s work to build 12 Shortfin Barracuda attack submarines for the Australian navy.

Alternatively, rising tension has led some nations to speed up arms deals, such as Greece ordering Rafale fighter jets and FDI defense and intervention frigates, the report said. Strategic partnership agreements can also help arms deals, if they are watched over with care. A strategic agreement signed with India in 1998 helped lead to Naval Group’s 2005 sale of six  Scorpene attack submarines, and New Delhi’s 2016 order for 36 Rafale fighters.

Companies Owe Money

The DGA – which the audit office says plays a pivotal role in exports – can in theory claim payment of two percent when companies win overseas deals, stemming from paying for studies, research and development, and machine tools for production, the report said. But the reality is quite otherwise, with some companies opting out of payment.

“In fact, problems in calculation, the determination of some companies to exonerate themselves from these payments and the complexity of relations between the DGA and companies” lie behind corporate reluctance to show the money, the report said.

The report pointed up companies failing to inform the DGA when an export deal had been pitched, delaying communication of the estimated payment, and lateness in fixing the final amount due.

There may be a ministerial decision to partially or fully exonerate payment, if the DGA accepts the company’s request, usually based on the corporate effort in the export sale campaign, the report said. That capacity for partial or full exoneration of company payment was not available until written into administrative guidelines revised last year.

The report pointed up lengthy legal disputes and loss of income for the DGA. Some €16 million was due on a contract signed back to 2015, the report said, with the company disputing that as an excessive claim in January 2020. The lawsuit was still pending when the audit office report was being written, the authors said.

The DGA was owed some €154 million in company payments at the end of 2021, the report said, of which €148 million was tied to contracts signed in 2015 and 2016, and these will undoubtedly be contested in the courts. The total amount owed by companies at the end of 2022 was €170 million.

Payments to the procurement office were late, with the payment of one year sometimes including back payments of several years, the report said. The amounts received by the DGA appeared to be “particularly low,” even after  including the contested payments.

The DGA has not made the effort it should have to be fully paid, the report said.

The procurement office said exports were worth more than “the few dozens of millions of payments,” the report said, and greater importance lay in exports supporting the defense industrial and technological base, companies’ economic performance, which cuts costs, helps the defense budget and its effect on jobs and tax revenue.

The audit office called for a tougher approach

“Even if these factors are beyond dispute, they do not justify the lack of tight management of returns the government has the right to expect,” the report said.

The DGA received €26.4 million in payment from companies in 2021, up from €15.3 million in the previous year, a table in the report shows.

“The armed forces ministry should pursue a more aggressive policy on the subject of payments, as it is inadmissible that, after several years of signing a  contract, some companies continue to contest the amounts,” the report said.

DGA and the Services

The procurement office assigned respectively an estimated 231 and 270 staff on support of exports in 2019 and 2020, although that was not a complete tally, as there were some 40 full time equivalent personnel who could be accounted for, the report said.

The DGA technical and operations departments consider they make big contributions to supporting exports, with the appointment of “architects of export programs,” the report said. These officers work closely with teams working on programs and operations, with three program architects assigned to  Rafale contracts.

DGA technical centers are working on flight tests to assess readiness of Rafales for India, Caracal helicopters for Kuwait, and NH90 helicopters for Qatar. There is certification work to ensure standards matches those for use of French forces.

The procurement office recruited 182 staff between 2016 and 2021 to help support exports, assigning around a third to work on the Rafale, 17.5 percent on submarines, 12.6 percent on the CaMo (mobilized capability) program with Belgium on armored vehicles, 11.6 percent on satellites, and 7.7 percent on helicopters, the report said.

In 2016, the then procurement head, Laurent Collet-Billon, said the DGA planned to recruit more than 500 staff to support exports by 2019-2020.

The DGA invoices for payment for supporting exports, with its international development department negotiating directly with client nations on technical services.

A senior DGA official, Thierry Carlier, won promotion last year to five star general and deputy director of the procurement office after heading the international development department for five years. That department leads the French export drive, and foreign arms sales were expected to exceed €30 billion over 2021 and 2022, mostly due to winning pitches of the Rafale abroad.

The joint chief of staff invoices for the services’ support of exports, drawing on the SISTEX computer program for an overall view, the report said. The air force particularly helped in sale of the Rafale overseas. The invoices are sent to the companies or to the forces of the client nation.

The French forces, much like the DGA, prefer billing companies, rather than having to invoice directly the client nation, the report said. The billing of client nations for training pilots proved to be particularly trying.

The armed forces invoice after “tough talks” with companies, the report said, as much on the basic principle of what can be invoiced – such as service support, as the details of each export project. The companies put on pressure in a bid to cut costs “to maintain competitiveness.”

“The aeronautics sector has benefited on several occasions from favorable ministerial decisions in this area,” the report said. “Such was the case in 2017, with aircraft being made available for air shows, without being invoiced.”

China, France, Germany, Russia and the U.S. ranked as the top five arms exporters from 2017 to 2021, the report said, holding between them 78.5 percent of the world market for weapons.

France rose to third from fifth ranking in the world, the report said, doubling its market share to 11 percent, helped by selling €11.7 billion of weapons abroad in 2021.

Featured Photo: Credit Shutterstock