DOD Office of Strategic Capital Begins Its Direct Lending Efforts to Secure U.S. Industrial Base

The Office of Strategic Capital ("OSC") within the Department of Defense ("DOD") has launched a Credit Program, under which it will provide debt financing in critical technology areas that drive national and economic security. As an initial step, OSC is soliciting applications for equipment loans, which may be submitted between January 2 and February 3, 2025.

As detailed in a September 30, 2024 Notice of Funding Availability ("NOFA"), OSC plans to loan up to $984 million to eligible companies to expand the U.S. industrial base, with individual loans ranging between $10 million to $150 million. OSC will make loans for the modernization of manufacturing equipment in 31 Covered Technology Categories, as defined in Section 903 of the National Defense Authorization Act for Fiscal Year 2024 ("FY2024 NDAA"), including, but not limited to, advanced manufacturing, cybersecurity, decision science, edge computing, mesh networks, microelectronics, solar, and quantum computing. Eligible investments must be in one of the covered technology categories and must have both a defense and a commercial application. Loan recipients may use the money to purchase new, used, and specialized equipment or to build new production lines or modernize manufacturing.

The DOD established the OSC in December 2022, and in 2023, Congress through the FY2024 NDAA granted the Office authority to issue loans and loan guarantees. The NOFA is part of the OSC's efforts to expand commercial supply chains for technologies that are critical to U.S. national security - a DOD priority after those same supply chains showed weaknesses during the COVID-19 pandemic.

Applicable Regulations and Allowable Costs

The NOFA presents an opportunity for a range of companies, as applicants need not have any past, current, or future DOD or federal government contracts. In fact, OSC will not finance projects for which most or all of the revenue for that project or transaction is expected to come from U.S. Federal sources, and OSC will evaluate the sufficiency of private, non-federal sources to determine an applicant's repayment ability. Different types of entities, including joint ventures, are eligible to apply; however, the applicant, or its sponsors, must demonstrate at least three years of operating history.

These OSC loans differ from other categories of government funding. Notably, these loans are not subject to typical Federal Acquisition Regulations or the Defense Federal Acquisition Regulation Supplement that govern federal procurement contracts; however, OSC does state that successful applicants might, depending on the project, be required to meet applicable domestic sourcing and wage requirements pursuant to the Build America, Buy America Act and the Davis-Bacon Act.

The NOFA also lays out certain cost allowability guidelines. According to the NOFA, a successful applicant would be able to use proceeds from the OSC loan not only to finance the purchase/rehabilitation of equipment or building/modernization of manufacturing, but also to cover certain direct costs related to the equipment or manufacturing modernization, including:

• Pre-installation costs, such as planning, development, engineering analysis, financing and legal expenses;
• Ancillary costs, including facility preparation, permitting, utility upgrades, delivery, calibration, first-article testing, integration with existing systems, and modifications or software necessary for operational use;
• Installation costs, including labor and materials;
• Appraisal and inspection costs; and
• Refinancing costs, on a case-by-case basis.

Consistent with relevant laws and regulations, the loan proceeds may not be used to make payments to foreign or domestic government officials, to lobby government officials, to participate in foreign boycotts, or to purchase from Foreign Entities of Concern.

Finally, the NOFA also recommends that, prior to submitting an application, each applicant register for the System for Award Management ("SAM") and obtain a Unique Entity Identifier. Loan recipients would then be required to maintain their SAM registrations in good standing through the loan term.

Loan Terms and Application Process

The NOFA includes few details on the structure of these loans. The NOFA states that OSC will administer the $984 million in funding according to the creditworthiness of applications received and program priorities. Interest rates for OSC loans will be based on U.S. Treasury rates, plus a risk margin. While not specified in the NOFA, OSC will presumably alter the terms of each loan to align with the size and risk profile of the proposed project.

There will be a two part application process. In Part 1 of the application, an applicant must first confirm that it meets the minimum eligibility criteria: (1) the federal government is not the sole user of technology or product for which the applicant seeks funding and (2) repayment of the loan is not majority dependent on federal sources, such as procurement contracts or grants. An applicant must provide a range of other information with its Part 1 application, including details on the project or transaction for which financing is sought, an explanation on how it would advance the DOD mission, expected repayment sources, and project/transaction timeline.

In reviewing Part 1 applications, OSC will consider, among other things:

• Speed to commercialization of the product or technology;
• Readiness of the applicant to proceed with purchase of the equipment;
• Creditworthiness of the applicant; and
• Anticipated benefits of the proposed project/transaction.

OSC, in its discretion, will invite successful Part 1 applicants to submit a Part 2 application. In Part 2 of the application, OSC will conduct environmental, credit, legal, and technical due diligence on the proposed project/transaction. At this point, OSC will also determine the terms of the loan (e.g., interest rate, repayment term).

OSC will begin accepting Part 1 applications on January 2, 2025, with a final deadline of February 3, 2025. For potential applicants seeking additional information on the program, OSC is offering optional pre-application consultations. OSC also has issued FAQs.