This is the second blog in our series on the UK’s new defence offsets regime. Our first blog (here) covered the UK Ministry of Defence’s (MOD) offsets consultation launched in October 2025.
Last week, MOD published the long-awaited UK Offset Policy (the Policy). It sets out the framework for a formal offsets regime in UK defence procurement. Offsets will apply to selected procurements from April 2027. The Policy forms part of the wider Defence Industrial Strategy and marks a clear break from the existing position, whereby the UK has encouraged foreign defence contractors to invest in the UK on a voluntary basis.
The Policy is core to the ‘Back British’ procurement approach set out in the Budget. Chancellor John Healey said, “When a big contract goes overseas, these changes will ensure 100% of the value creates new opportunities for workers and businesses here at home, strengthening our industrial base and supporting growth across Britain.“
What is an ‘offset’?
Offsets, sometimes referred to as ‘industrial participation’ arrangements, are reciprocal commitments that a purchasing country requires of foreign contractors when it buys defence equipment from abroad. In practice, the foreign contractor commits to channel investment, technology, jobs or production into the purchasing country (in this case the UK), usually to a specified value. Such arrangements have a long history in international defence procurement and have already been adopted by some NATO-aligned nations such as Canada, Denmark and the Netherlands.
From consultation to policy
The Policy’s stated objective is that offsets related to defence and security acquisitions from abroad “shall contribute to maintaining and further developing an innovative, resilient and competitive UK defence industrial base that supports national security and economic growth.” MOD wants selected imports of defence capability to deliver “additional enduring benefits for the UK, including greater sovereign capability, supply chain resilience, skills, innovation, exports and UK small or medium-sized enterprise (SME) growth.” The aims are much the same as those set out in the consultation. What has changed is that the Policy now gives concrete answers to the design questions the consultation left open. However, much of the practical detail is yet to be published; it will be set out in guidance at a later (unspecified) date.
Scope: the Policy will “normally apply to selected acquisitions from non-UK suppliers” of defence or national security material, systems, services, support and upgrades worth £50 million or more.
The £50 million threshold reflects MOD’s aim to cover only large, strategically important programmes, where the benefits are “likely to justify the additional administrative burden and potential cost premium.”
MOD can raise or lower that threshold depending on market conditions or its implementation capacity.
UK-registered suppliers are not automatically outside the scope. The Policy may apply where “a significant part of the contract value, production or value creation is located or sourced from abroad“. Whether a company is considered to be UK-based depends on a substantive test covering its workforce, facilities, intellectual property, supply chain and tax footprint.
Form: both direct offsets (such as onshore support, sustainment, upgrades and technology transfer linked to the capability being bought) and indirect offsets (such as supply chain integration, R&D, manufacturing capability, skills and exports) are permitted, as are combinations of the two. Direct offsets will be used “selectively” to minimise procurement risk, delay or cost.
Value: offsets worth 100% of the procurement contract value are required (rising in line with any later increases in contract value). The Offset Authority may set a lower percentage after considering strategic importance, the level of overseas content, market conditions and value for money. The Policy puts the UK in line with several other countries: the 100%-value obligation matches Canada’s Industrial and Technological Benefits policy. The £50 million threshold, however, is set well above the Netherlands’ EUR 5 million trigger.
How the regime will work
The regime will be run by a new Offset Authority within MOD.
Foreign contractors will be required to put in place an Offset Agreement, to be cross-referenced in the main procurement contract, which cannot be signed until the Offset Agreement is in place.
Notably, no offset activity needs to be agreed before signature. Suppliers must instead meet the Offset Authority within three months of signing to discuss a non-binding strategy. Each offset project then needs prior written approval if it is to earn credit, and to count as an offset it must be additional to ordinary business and caused by the offset requirement.
The separation between offsets and the procurement is not absolute. Where direct offsets are required, the Policy says they “will be included within the procurement competition and weighted accordingly“, so offsets may, in some cases, affect contract award. Bidders will want early clarity on which model applies to a given procurement.
Delivery and enforcement
Suppliers will normally have up to ten years to deliver their commitment, with milestones of 30% by the end of year 3 and 50% by the end of year 5. The Policy stresses partnership throughout and describes penalties as “a measure of last resort” for suppliers that fail to engage or persistently underperform. Where applied, however, the penalties are significant: compensation for a missed milestone will normally be at least 10% of the unfulfilled value, and the Offset Authority may also require an irrevocable bank guarantee, withhold credits or exclude a supplier from future relevant competitions until the breach is remedied.
Risks and international implications revisited
Commentary on the Policy has focussed on several potential risks.
Cost: the Policy acknowledges a “potential cost premium“. It is possible that an overseas supplier may price the cost of the offset commitments into its bid. The Policy recognises this concern expressly. It says offsets should be delivered while ensuring “no substantial increase in procurement costs” and without displacing the requirement to secure capability and value for money.
Potential distortion of the procurement decision: commentators have also noted that the Policy potentially introduces a second set of considerations alongside the equipment’s price, quality and operational suitability. The Policy seeks to guard against this by stating that offsets do not remove the requirement to secure capability, value for money and lawful procurement outcomes.
Difficulty valuing the promised benefits: critics caution that a central issue will be how the new Offset Authority values matters such as technology and know-how transfers, apprenticeships and skills programmes, additional UK supply chain work, and new or expanded facilities. There is the potential for disagreement over whether the attributed offset value corresponds to the supplier’s actual expenditure or to a more subjective strategic valuation.
International trade and treaty constraints: there has been long-standing US criticism of offsets as “economically inefficient and market distorting“. The response of US primes and the US government to the Policy will be worth watching. The UK Government acknowledges that the regime must remain consistent with the UK’s international obligations. It also states that the Offset Authority will advise government on using reciprocal arrangements to reduce offset requirements that foreign governments impose on UK suppliers. This acknowledges that a UK regime may be used as a bargaining tool in trade relations. The Policy will not apply where a treaty, binding international arrangement or other legal constraint prevents offsets. There will be potential complexity in deciding when an offset requirement is permitted, especially where the procurement falls within a bilateral or multinational defence arrangement.
Transparency/corruption: The Offset Authority may refuse or withdraw approval for projects raising concerns about corruption, fraud, sanctions or conflicts of interest. It will also publish a list of suppliers with outstanding obligations, and the value still to be delivered. This goes some way towards meeting Transparency International’s concerns about the lack of public reporting on offsets. However, agreement-level details will normally remain confidential, and the Offset Authority’s annual report on implementation is described as “internal”. Whether this strikes the right balance between transparency and commercial confidentiality is likely to remain a point of debate.
What does this mean for UK defence contractors?
For UK primes, mid-tier companies and SMEs, the possible opportunities we identified previously now sit within a defined framework. In particular, the Policy:
Brings better counterparty transparency: The public list of suppliers with outstanding obligations is intended to “enable greater partnerships with UK industry“, so UK businesses can identify overseas suppliers that need credible UK partners.
Rewards SME involvement: Opportunities for SMEs, mid-tier companies, scale-ups and non-traditional suppliers attract activity multipliers, which gives overseas suppliers a clear incentive to work with them.
Sets new compliance expectations: UK partners must be able to show the UK location and value of their activity and give access to records for audit purposes. Suppliers are also expected to say whether they intend to pass offset obligations down to their supply chains.
Existing commitments may count for nothing: offset activity must be “additional to ordinary business“. Pre-existing business and commitments already underway will not normally earn credit, unless the supplier can show a material increase in value, scope or UK benefit. This could encourage non-UK suppliers to move work to new UK partners rather than build on established ones.
UK-registered companies may be caught themselves: the Policy may apply to a UK-registered supplier where “a significant part of the contract value, production or value creation is located or sourced from abroad“. The UK-based test has yet to be clarified in guidance. UK subsidiaries of foreign groups, and UK primes with heavily overseas supply chains, could end up burdened by offset obligations rather than benefiting from them.
UK contractors should consider how their capabilities fit the published priority areas. They should also consider how to position themselves as partners for overseas suppliers ahead of the first in-scope procurements from April 2027.
Planning ahead for foreign defence contractors
For foreign contractors, the planning points in our first blog are now more pressing – starting with whether a supplier will be treated as UK-based at all. The Policy defines a UK-based company as “a company that has a substantial and enduring UK footprint, undertakes a significant proportion of its relevant work in the UK, and demonstrates meaningful UK offset through its workforce, facilities, intellectual property, supply chain activity, tax and wider economic impact.” UK registration or a nominal presence alone is unlikely to be enough, given that the Offset Authority will issue further guidance on the definition “to reduce ambiguity and prevent avoidance.” Beyond this, key points include:
Bid strategy: Bidders must commit to an Offset Agreement at bid stage. A Conditional Offset Agreement allows suppliers to start developing offset solutions before contract award, which may help reduce pricing risk.
Partnerships and third parties: Joint ventures, licensed production and supply chain partnerships remain central. All third parties delivering part of a commitment need prior written approval, but the supplier stays fully legally responsible for performance.
Regulatory interplay: The Offset Authority will coordinate with bodies including the Office for Investments and the Competition and Markets Authority. This suggests that investments made to meet offset obligations may be scrutinised under the National Security and Investment Act and merger control, alongside export controls such as ITAR.
Locking in terms: Obligations are fixed by the agreement signed. Later changes to priority areas or multipliers will not apply retrospectively unless negotiated and agreed, making the terms agreed at signature particularly important.
What happens next?
Offset requirements will apply from April 2027, initially to selected procurements, with more detail on the Offset Authority to be published beforehand. Implementation guidance on priority areas, valuation, multipliers and the definition of a UK-based company is still to come, and the Policy will be reviewed within 12 months of taking effect and then at least every 24 months.
Source: www.freshfields.com
