Counterfeits and the U.S. Industrial Base

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Counterfeits and the U.S. Industrial Base

• Office of Technology Evaluation

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Bureau of Industry Security (BIS)

• MISSION
• Advance U.S. national security, foreign policy
  and economic interests.
• BIS develops export control policies, issues
  export licenses, prosecutes violators, as well as
  monitors the capabilities of the defense
  industrial base.

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OTE Industry Assessments -Background

• Under the Defense Production Act of 1950, ability
  to assess
• Economic health and competitiveness
• Defense capabilities and readiness
• Enable industry and government agencies to
• Monitor trends and benchmark industry performance
• Raise awareness of diminishing manufacturing and
  technological capabilities
• More than 50 industry studies 125 surveys

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Counterfeit Electronics Study -Goals

• Assess the impact of counterfeit electronics on
  U.S. supply chain integrity, critical
  infrastructure, and industrial capabilities
• Recommend best practices to mitigate risk
  to U.S. supply chain
• Study sponsored by Naval Air Systems
  Command with support from
  Semiconductor Industry Association (SIA)

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Counterfeit Electronics -Broad Definition

• An electronic part that is not genuine because
• An unauthorized copy
• Does not conform to original OCM design, model,
  and/or performance standards
• Not produced by the OCM or is produced by
  unauthorized contractors
• An off-specification, defective, or used OCM
  product sold as "new" or working
• Has incorrect or false markings and/or
  documentation

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Counterfeit Electronics Study -OTE surveys
distributed

• 5 separate but related surveys targeting
• Microchip discrete electronic manufacturers
  106
• Electronic board producers/assemblers 37
• Distributors and brokers of electronic parts
  144
• Prime contractors and subcontractors 147
• DOD arsenals, depots, and DLA 64
• 498 total survey participants

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Counterfeit Electronics Study -Survey Objectives

• Each survey contained approx. 80 questions
• Scale and scope
• Past problems and impact
• Internal procurement policies and protocols
• Testing, inspection, and inventory management
• Post-identification procedures
• Industry and government best practices
• Tried to keep questions uniform across
  surveys.

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BIS Counterfeit Electronics Survey Preliminary
Data
Type of Company Type of Company Encountered Counterfeits No Counterfeit Incidents Total
OCMs Discrete Electronic Components 12 24 36
OCMs Microcircuits 18 20 38
Distributors Authorized Distributors 8 32 40
Distributors Independent Distributors 31 12 43
Distributors Brokers 8 1 9
Board Assemblers Board Assemblers 11 21 32
Prime/Sub Contractors Prime/Sub Contractors 20 61 81
Total Total 108 171 279
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Total Counterfeit IncidentsOCMs, Distributors,
Board Assemblers, Prime/Sub Contractors 2005 -
2008
10
Counterfeit Incidents by Product Resale
ValueOverall (2007)
11
Counterfeit Incidents by Product Resale
Value(2005 - 2008)
12
Counterfeit Incidents by Product Resale
Value Distributors (2007)
13
Counterfeit Incidents by Type (2007)
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Percent of Counterfeit Incidents Involving
In/Out of Production Products 2005 - 2008
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How Companies Are Uncovering Counterfeits (2007)
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How Companies Are Uncovering Counterfeits OCMs
(2007)
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How Companies Are Uncovering Counterfeits
Distributors (2007)
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How Companies Are Uncovering Counterfeits
Prime/Sub Contractors (2007)
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U.S. Customs Notifications(2005 2008)

• Companies have increasingly uncovered
  counterfeits through U.S. Customs notifications.

Year Number of Incidents
2005 3
2006 13
2007 120
2008 473
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Percent of Companies With Documented Cases of
Counterfeits Sold by Specific Entities
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Top Countries Suspected/Confirmed to be Sources
of Counterfeits
Each company was asked to provide their top
five suspected countries
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Counterfeits Damaging a Companys Reputation

• Prime/Sub Contractor Comment When some
  businesses report counterfeit parts findings via
  GIDEP alerts and other companies do not,
  authorities may think that the reporting
  companies have more counterfeit issues than
  non-reporting companies.
• Distributor Comment The entire brokerage
  industry has experienced a black eye due to some
  unethical and/or unknowledgeable brokers. We have
  lost many contracts from large contract
  manufactures simply due to us being a broker.

Percent of Companies Indicating Counterfeits Have Negatively Effected Their Image or Reputation Percent of Companies Indicating Counterfeits Have Negatively Effected Their Image or Reputation
Discrete Electronic Component Manufacturers 8
Microcircuit Manufacturers 29
Authorized Distributors 8
Independent Distributors 44
Brokers 67
Circuit Board Assemblers 6
Prime/Sub Contractors 3
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Top 10 Reasons Identified by All Companies for
Counterfeits Entering the U.S. Supply Chain
Reason Number of Companies
Less Stringent Inventory Management by Parts Brokers 150
Greater Reliance on Gray Market Parts by Brokers 140
Greater Reliance on Gray Market Parts by Independent Distributors 124
Insufficient Chain of Accountability 119
Less Stringent Inventory Management by Independent Distributors 114
Purchase of Excess Inventory on Open Market 101
Insufficient Buying Procedures 101
Inadequate Purchase Planning by OEMs 98
Greater Reliance on Gray Market by Contract Manufacturers 91
Inadequate Planning by Contract Manufacturers 88
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Pre-Stock Testing By Type of Supplier(Distributor
s, Board Assemblers, Prime/Sub Contractors Only)
Average Percent of Incoming Parts Tested by Type of Supplier Average Percent of Incoming Parts Tested by Type of Supplier
OCMs 51
OEMs 47
Authorized Distributors 50
Independent Distributors 54
Brokers 54
Internet-Exclusive Sources 32
Based on those companies who test incoming parts. Based on those companies who test incoming parts.

• Only 66 of Distributors, Board Assemblers, and
  Prime/Sub Contractors test products they purchase
  before placing them in inventory.

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Percent of Distributors Conducting Pre-Stock
Testing
26
Percent of Board Assemblers Conducting Pre-Stock
Testing
27
Percent of Prime/Sub Contractors Conducting
Pre-Stock Testing
28
Percent of Companies Performing Inventory Audits
for Counterfeits
29
Percent of Companies Co-Mingling Identical Parts
in the Same Bin
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Contractor Testing Problems

• Five companies had problems with Non-U.S.
  contractors concerning improper management or
  theft of electronic scrap after testing.
• 25 companies, 19 of those employing testing
  contractors, had problems with U.S.-based firms
  concerning faulty or forged testing. Twenty of
  the 25 were distributors.
• The parts were cleared by the testing house, but
  were later found to be counterfeit by the
  customer.
• This is an area that deserves further analysis.

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Steps Taken After Notification of a Counterfeit
Incident OCMs
Notify Internal Company Authorities 69
Trace Supply Chain 67
Inform Authorized Distributors 36
Locate Select Inventory 36
Pull Back Inventory 24
Perform Random Testing 21
Wait for Additional Complaints 19
Notify Federal Authorities 17
Other 16
No Steps Are Taken 15
Notify Industry Associations 15
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Steps Taken After Notification of a Counterfeit
Incident Distributors
Pull Back Inventory 77
Notify Internal Company Authorities 74
Locate Select Inventory 68
Trace Supply Chain 65
Notify Industry Associations 54
Perform Random Testing 46
Inform OCMs 45
Inform Authorized Distributors 41
Notify Federal Authorities 25
No Steps Are Taken 19
Other 13
Wait for Additional Complaints 5
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Steps Taken After Notification of a Counterfeit
Incident Circuit Board Assemblers
Pull Back Inventory 67
Notify Internal Company Authorities 64
Locate Select Inventory 64
Trace Part Supply Chain 55
Inform Authorized Distributors 48
Inform OCMs 45
Perform Random Testing 39
No Steps Are Taken 18
Notify Industry Associations 12
Notify Federal Authorities 10
Other 10
Wait for Additional Complaints 6
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Steps Taken After Notification of a Counterfeit
Incident Prime/Sub Contractors
Pull Back Inventory 68
Notify Internal Company Authorities 65
Locate Select Inventory 64
Trace Part Supply Chain 61
Inform OCM 51
Inform Authorized Distributors 49
Perform Random Testing 44
Notify Federal Authorities 30
No Steps Are Taken 24
Notify Industry Associations 18
Other 15
Wait for Addition Complaints 4
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Steps Taken After Possession of a Counterfeit Part
Action Taken OCMs Distributors Circuit Board Assemblers Prime/Sub Contractors
Enter into USG or Industry Database 8 41 9 20
Retain Samples for Reference 59 40 21 44
Test Part 57 54 42 54
Enter into Company Database 51 60 48 47
Quarantine Parts 23 42 21 36
Leave Disposal to Party Filing Complaint 25 13 6 8
Random Inventory Testing 17 39 42 47
Disposal of Parts Immediately 17 32 15 20
Issue Credit 15 67 61 37
Turn Over to Law Enforcement Authorities for Analysis 13 11 12 16
Check USG or Industry Database 9 47 15 35
Other 9 19 9 15
Turn Over to Law Enforcement Authorities After Analysis 9 14 12 21
Return to OCM or Distributor - - 55 31
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Who Ya Gonna Call?

• 61 of OCMs,
• 54 of Distributors
• 75 of Board Assemblers, and
• 52 of Prime/Sub Contractors DO NOT KNOW what
  authorities to contact when they encounter
  counterfeits.
• 74 of distributors tell customers to contact
  their firm if they encounter a counterfeit
  product.

Top Authorities Contacted (As a Percent of Total Companies) Top Authorities Contacted (As a Percent of Total Companies)
None at all 44
GIDEP 14
State/Local Authorities 9
CBP 8
DLA 8
FBI 7
FAA 6
Department of Transportation 4
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Percent of Companies Maintaining an Internal
Database to Track Counterfeits
38
Legal Requirements/Liabilities Related to
Counterfeits

• 31 of companies are aware of legal requirements
  for the management and/or disposal of counterfeit
  products.
• 27 of companies are aware of written
  instructions or guidance from federal authorities
  on reporting counterfeit products.
• 41 of companies are aware of their liabilities
  related to the distribution, storage, and
  disposal of counterfeit products.
• 46 of companies need guidance from federal
  authorities with regards to civil and criminal
  liability, and penalties pertaining to the
  distribution, storage, and disposal counterfeit
  products.

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Full-Time Employees (FTEs) Dedicated to
Counterfeit Issues
Number of Companies With At Least One FTE Dedicated to Counterfeit Issues (2007) Number of Companies With At Least One FTE Dedicated to Counterfeit Issues (2007)
Distributors 61
Prime/Sub Contractors 38
OCMs 27
Circuit Board Assemblers 27
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Fun Facts

• 91 of companies accept returns from their
  customers.
• 45 of these companies have cases of individual
  customers returning counterfeit products.
• 42 of companies find it difficult to identify
  counterfeit products.
• However, 63 of companies find it easier to
  identify counterfeits today than they did five
  years ago.

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Industry Best Practices 1,000
Most common responses Dont buy from China
Be wary of Brokers

• From OCMs
• Ensure proper disposal of all scrap crush all
  defective/unused products to prevent
  re-circulation.
• Train all employees on how to identify and handle
  counterfeit parts.
• Tighten contractual obligations with contract
  manufacturers regarding disposal of unused
  product.

• From Circuit Board Assemblers
• Audit OCMs/OEMs to ensure that the purchased part
  is made within their facility and not contracted
  out.
• Perform destructive testing if a part cannot be
  verified by other means.
• Establish qualifications for supplier purchases.

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Industry Best Practices (cont.)

• From Authorized Distributors
• Ask for Certificates of Compliance for all
  products purchased.
• Educate your sales team regarding the risk of
  parts brokers.
• Create a central database for identifying
  counterfeit suppliers.
• Do not approve returns in greater quantities than
  the original purchase.

• From Independent Distributors/Brokers
• Always purchase parts via escrow payments
  Suppliers that believe in their product will not
  mind waiting for their money.
• Audit all inventory purchased before
  anti-counterfeiting measures were put in place.
• Follow IDEA 1010 for incoming inspections.
• Use authentic pictures to visually verify parts.

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Industry Best Practices (cont.)

• From Prime/Sub Contractors
• Share all information on discovered counterfeit
  parts with industry and authorities.
• Incorporate language into supplier contracts to
  minimize liabilities and impose penalties for
  counterfeits.
• Plan for and attempt to design out obsolescence
  from systems.
• Create annual training sessions for staff to keep
  counterfeit detection up-to-date.

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What Should the Federal Government Do?- Industry
Suggestions

• Create education and training opportunities for
  companies.
• Many companies do not know what the Federal
  government is doing to combat counterfeits.
• Create a government-sponsored counterfeits
  manual.
• More prosecutions for counterfeiting, including
  harsher penalties.
• Centralize counterfeit databases and encourage
  higher levels of reporting.

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What Should the Federal Government Do?- Industry
Suggestions (cont.)

• Press other countries, particularly China, to
  regulate their domestic industry and enforce
  intellectual property laws.
• Facilitate communication and cooperation within
  U.S. industry, particularly between OCMs and
  independent distributors/brokers.
• Establish programs to recycle/destroy electronic
  waste, the supply source for counterfeiters.

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Company Comments

• It is encouraging that the U.S. government has
  finally recognized the scope of the problem and
  seems to be taking meaningful steps to counteract
  the counterfeiting plague. - Independent
  distributor
• Our participation in this Assessment has
  heightened our level of attention and
  understanding concerning the importance of being
  proactive in combating counterfeit products We
  appreciate the information that was presented
  within this Assessment and plan to implement
  appropriate internal/external actions necessary
  to mitigate the potential for a counterfeit
  incident to occur within our operation.
  - Authorized
  distributor

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Next Steps

• Continue compliance on the DOD survey
• Begin final analysis of data
• Draft report and release public document in mid
  2009
• Work with industry and government to
  develop and implement best
  practices

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BIS/OTE Contacts

• Brad Botwin
• Director, Industrial Studies
• Office of Technology Evaluation
• 202-482-4060
• bbotwin_at_bis.doc.gov
• Teresa Telesco
• Industry Analyst
• 202-482-4959
• ttelesco_at_bis.doc.gov
• www.bis.doc.gov