The topic of fines for arms manufacturers is a rare case in the defense industry when both the private and public sectors, including relevant agencies and presidential advisors, have openly entered into a dispute.
The situation is very simple. At the beginning of this year, the Rada repealed the Economic Code, which stipulated all fines for companies that executed state orders. Accordingly, all fines were repealed, but at the last moment they were returned exclusively for weapons manufacturers.
Currently, there are three main types of penalties for arms suppliers: 20% of the contract amount for poor product quality, 7% for each month of delay, and 0.1% for each day of delay. Additionally, the defense company pays 2-3% for the use of advance funds.
And while no one argues with the fine for poor quality, the double fine for late shipments and the additional penalty actually cause outrage among gunsmiths.
Armed associations claim that delays in weapons production often occur due to circumstances beyond their control, such as flights to factories, delays in the supply of imported components, problems with contractors, blackouts, and banal bureaucratic red tape. Ministry of Defense officials, due to the peculiarities of the civil service, sometimes refuse to "enter the situation" and record force majeure, and quite often impose fines on weapons manufacturers.
As contract volumes and production complexity, and consequently risks, are constantly growing, a delay of just one month could leave the company without profits that could be invested in technology development and expansion of production lines. A delay of two months could drive the company into deep losses.
But the situation is not so clear-cut, because there is another side. The Ministry of Defense believes that since the state customer distributes hundreds of billions of hryvnias for weapons among Ukrainian companies, suppliers need discipline and an incentive to fulfill contracts on time. The price for delay is human lives, so the current system of fines for untimely fulfillment of contracts (10-13% per month) is generally considered justified by state customers. In addition, the largest "penalty payers" are special importers that import weapons from abroad, and do not produce them.
Each of these positions has its own pitfalls and is shaped by the long and complex history of relations between the state and arms manufacturers. The main question is whether a compromise is possible between the parties in order to both maintain discipline in supplies and develop acceptable rules of the game that will not threaten arms companies with the loss of resources for development.
Why now?
"Double" fines for arms suppliers are not new, and they have been in effect since at least 2022. So the question of why gunsmiths have spoken out against them now is a separate one , because up until now the industry had existed under these rules and nothing had fallen apart.
The fear of receiving a fine has probably increased with the growth in contract volumes. Since 2022, the Ukrainian arms market has grown 10 times. Larger contracts often mean greater risks that something will go wrong during their implementation. And if force majeure cannot be proven, the arms company may not only disrupt investment projects, but also get into heavy debt.
Representatives of armed associations usually say that the real margin of defense companies is on average 5-8%, so a contract delay of 1 month, even if the products are of proper quality, can "eat up" the entire annual profit, and a delay of one and a half to two months can drive the company into the red by hundreds of millions of hryvnias.
But do gunsmiths really earn so little?
In different ways. On the one hand, state regulations allow for any profit to be included in contracts, even 25%. But in fact, the situation is very different, because in conditions of closed exports, the state has a strong monopoly negotiating position and can force a much lower price for itself.
"Oboronka" analyzed the reports of 22 large private defense companies from different market segments for 2023-2024. Among them, you can find large companies that operate with a profit of 2%, and there are those that have all 35%. But the vast majority of them are in the margin range of 6-15%, so a penalty of 10-13% (double penalty + interest for the use of advance funds) per month is indeed a problem in many cases.
Of course, there are many stories of abuse, when defense companies, through manipulation of the cost of components and gasket companies, earn much more than they declare. But this is already a violation of the law.
Another factor of tension is that the number of fines has actually increased over the past year. According to Economichna Pravda, a total of 12.8 billion UAH worth of lawsuits were filed with the courts. This is the amount of fines that the Ministry of Defense wants to collect from arms suppliers: both Ukrainian and foreign.
But the problem is not the number itself, but the fact that it is constantly growing. The volume of overdue receivables, that is, weapons not delivered on time, amounted to UAH 58 billion in March. This is 45% more than at the beginning of 2024.
Arms dealers, understanding the riskiness of their business, especially when executing large contracts, would not want to "spend" billions of hryvnias, losing profits and resources for development/reconstruction, so they are promoting the idea of reducing fines. And the Ministry of Defense would like to maintain incentives in the form of high fines so that the number of overdue receivables does not continue to grow, and the military receives their weapons on time.
Why not just deliver on time?
The main purpose of the fines is to encourage companies to ship weapons on time.
"The Defense Procurement Agency does not aim to take a punitive approach to suppliers, however, the system of fines is an important tool for ensuring proper fulfillment of obligations. The presence of liability mechanisms, including penalties for violation of delivery deadlines, is justified from the point of view of national security," said at the Defense Procurement Agency (AOZ).
But the arms manufacturers emphasize that the circumstances that cause supply disruptions are not always under the control of defense companies. "In most cases, the increase in product delivery times does not depend on the enterprises themselves, but is caused by delays in the supply of critical components from abroad or damage from enemy shelling," the Defense Ministry responded.
As the executive director of the Ukrainian Council of Armaments, Ihor Fedirko, said, there were cases when companies missed shipment deadlines due to delays in raw material supplies from China, where logistical difficulties arose. Or there was a case when the US activated the law on prioritizing supplies to the national customer, which caused the American contractor to not have time to deliver the component to Ukraine on time. In both cases, the companies received fines, even despite the conclusion of the Chamber of Commerce and Industry on force majeure, and went to court with the Ministry of Defense.
The dependence of defense companies on the supply of imported components is quite high, since Ukraine does not have its own developed production of components. Accordingly, the manufacturer remains vulnerable to receiving products of inadequate quality, failure to issue export licenses, or banal logistical delays.
Fines were also imposed on companies that failed to deliver weapons on time due to missile strikes on key contractors. In such cases, they still have to prove that force majeure occurred.
"Today, if there is a hostile takeover of a subcontractor, a delay in importing components or raw materials, a general mobilization that affects the manufacturer's staffing, a late payment by the customer, or the inability to rent production space for scaling, the contractor is to blame.
And I understand the customers in this situation, because if the fine is prescribed in the law, then he must apply it. Because if he does not apply it, then the next day the inspector will come to him and ask why he did not do it. Therefore, very often, just in case, the customers do not accept irresistible circumstances and go to court to get a verdict and refer to it. This is how the system works," Fedirko noted.
Receiving even an unfair fine does not mean paying it. According to the Ukrainian Council of Arms Manufacturers, defense companies paid only UAH 58 million in claims by AOZ. As for the remaining billions of hryvnias, the courts are either continuing to consider the cases or are siding with the defense companies.
Therefore, it is incorrect to say that high fines are currently hitting defense companies hard in the pockets and slowing down the development of the industry. Unless they are taking up resources for legal red tape and making directors nervous.
At the same time, it is unknown how much money will be collected as a result of the legal proceedings, which can often last for years, and how many more fines will be assessed in the future.
"Why should we wait for the first bankruptcies? If there are no verdicts on the payment of large fines now, this does not mean that the problem does not exist. It means that such a decision has simply not been physically made yet. In our judicial system, the probability that an absurd decision will be made is quite high," explains Serhiy Goncharov, executive director of the NAUDI arms manufacturers association.
There is no way to change the fines that have already been assessed, as the law is not retroactive. The discussion is ongoing about how fines will be assessed for future contracts.
What to do?
"It is necessary to remove duplicate fines. Responsibility for overdue contracts should remain within the framework of a single penalty," the Ministry of Strategic Industry and Industry says.
During the year, there were two attempts to reduce fines. The first was a bill by Halyna Yanchenko, the second was amendments to the relevant resolution No. 1275 from the Ministry of Strategic Industry. The Ministry of Defense did not support either of these initiatives.
According to Oboronka's interlocutor from the Ministry of Defense, the problem in particular is the equating of special importers with arms manufacturers using the word "suppliers." It is for import contracts that the customer issues the most fines, while importers allegedly bear fewer risks than manufacturers.
The "Ukrainian Council of Arms Manufacturers" proposes to leave the contracts of special importers in parentheses and focus on changing the rules specifically for manufacturers - to remove the 7% penalty for the first month of delays and for advance payments, and to leave only a 0.1% penalty for each day. Instead, give the customer the right (and not the obligation) to additionally prescribe in the contracts such a penalty amount that will actually correspond to the degree of risk.
According to Fedirko, this should solve the problem of reliable manufacturers with a good history of contract performance receiving the same fine as unreliable manufacturers. He believes that the AOZ should create "white" and "black" lists of suppliers. And for suppliers with a bad history, higher penalties should be established, and for suppliers with a good history, lower ones.
"But all this must be formalized at the level of regulations, along with clear criteria for getting on one or another list. It is necessary that this remains in the institutional memory. Because now all memory of honest and unreliable performers fades away with each change in the leadership of the Public Health Organization," Fedirko noted.
According to him, "flexible" fines will also avoid a situation where manufacturers of complex and risky products are subject to the same fine as manufacturers of technologically simple products, which have less risk of falling into adverse circumstances.
Tetyana Nikolayenko, a representative of the Public Anti-Corruption Council under the Ministry of Defense, noted that the existence of a licensed register of suppliers is provided for by NATO recommendations, but in practice the idea does not work.
"In the fall, the State Rear Operator decided to introduce such a blacklist for suppliers of this agency. Then Arsen Zhumadilov excluded one of the companies from participating in the tender for the supply of counterfeit stew.
"The company went to court and demanded that the requirements for the tender documentation be recognized as discriminatory in the part where the relevant sanctions are prescribed. The Sixth Court of Appeal sided with the company. Therefore, what is a beautiful idea, unfortunately, cannot always be implemented within the framework of the law. And in order to change the law, you need to do it competently and take into account the context, and not just remove what you don't like," she noted.
Also, according to Nikolayenko, reducing fines is not a solution to the problem, but perhaps other compromises can be found.
"The fine definitely shouldn't be 0.1%, otherwise suppliers will be transporting products for six months or a year. In 2024, Zhumadilov, as head of the DOT, had problems with food - no one wanted to supply him. He went to the extent of reducing fines for food suppliers to 0.1% per day of delay. In fact, food suppliers began to use this as a possible option to delay supplies.
"Perhaps we should talk about the essential circumstances due to which fines should not be imposed - to increase their list. But it seems to me that it makes no sense to go the route of reducing the fine. I would rather think about expanding their profits. I think that we need to get together representatives of the Ministry of Defense and honest manufacturers who can tell about all their risks so that no one goes bankrupt," Nikolayenko noted.
NAUDI believes that there should be one fine, and its size should be the subject of agreement between the customer and the contractor. And the terms in the contract should be written in such a way that both parties will be satisfied. According to Goncharov, this is the model that Ukraine is currently using to purchase from foreign manufacturers.
The dispute between the Ministry of Defense and gunmakers does not seem irreconcilable, but it clearly lacks comprehensive initiatives that would take into account the interests of all market participants and the peculiarities of Ukrainian legislation.
"We are open to a constructive dialogue with manufacturers on improving the current rules, in particular, the possibility of differentiating approaches depending on the objective reasons for the delay in delivery. If there are justified grounds for revising the penalty policy, relevant initiatives may be considered. The agency supports the principle of balance between the strict requirements of wartime and fair conditions for manufacturers working to strengthen the country's defense capabilities," the AOZ concluded.