The Dormant Power of the Purse: The Failure of the Government to Use its Purchasing Power to Promote Corporate Compliance with the Law

by Seth Morris

The U.S. government is the world's largest consumer. It spends more than $200 billion annually on goods and services, for everything from jet fighters to food services.

The Federal Acquisition Regulation (FAR) prescribes that these taxpayer dollars only be awarded to "responsible" contractors that have a satisfactory record of "integrity and business ethics," but frequently this regulation is honored in the breach.

The top 43 contractors of fiscal year 1999 received over 45 percent of all contract dollars awarded that year. In a year-long investigation, the Project on Government Oversight (POGO) compiled administrative, civil and criminal violations and alleged violations for these companies, using a wide variety of sources, and including cases and settlements where a company was found to be a responsible party, as defined under the Superfund legislation, for the cleanup of hazardous substances at Superfund sites. (Alleged misconduct here includes government claims against a company resulting in a consent decree or other settlement without admission of guilt or wrongdoing; it does not include allegations which did not result in such final agreements. In all, the investigation documents over 400 instances of misconduct and alleged misconduct committed by these contractors.

POGO found that, since 1990, fine/penalty, restitution, settlement and Superfund clean-up costs for the 43 top contractors totaled approximately $3.4 billion. Sixteen of the 43 contractors have been convicted of a total of 28 criminal violations; four of the top 10 have at least two criminal convictions. Only one of the 43 contractors has been suspended or debarred from doing business with the government. This suspension action, against General Electric's Aircraft Division, lasted only five days after the company pled guilty to diverting millions of dollars from the U.S. Foreign Military Aid Program to finance the sale of F-16 engines to Israel.

These findings almost certainly understate the extent of contractor misconduct, both because there is no comprehensive centralized database of corporate crime and misconduct, and because the government has in the last decade become much less aggressive in enforcing laws and regulations. Criminal enforcement of administrative referrals for federal procurement fraud, for example, fell from over 306 referrals in 1992 to only 102 in 1998. Prosecutions fell as well, with 36 percent of referrals prosecuted in 1992 and only 28 percent prosecuted in 1998, according to data compiled by the Transactional Records Access Clearinghouse (TRAC) at Syracuse University. The number of referrals for civil actions from federal agencies to the Department of Justice fell from over 35,000 in 1992 to only 6,324 in 1999, according to TRAC.

The Department of Housing and Urban Development referred 2,945 civil enforcement actions to the Department of Justice in fiscal year 1995, but only 69 in fiscal year 1999. The Department of Defense referred 489 civil enforcement actions to the Department of Justice in fiscal year 1995, but only 98 in fiscal year 1999.

Rolling back Responsibility

In July 1999, the Clinton administration proposed a "contractor responsibility" rule to address the issue of lawbreakers receiving federal contracts. The rule would have:

• required contracting officers to consider a prospective contractor's business record when awarding a contract;
• clarified that one element of a "satisfactory record of integrity and business ethics," according to the FAR, is compliance with the law; and
• required contractors to certify if they had been convicted of any felonies within the past three years, or had any felony charges currently pending against them, or had otherwise been found liable in a civil proceeding.

The proposed rule met with strident corporate opposition. "This rule gave government agents blanket discretion to blacklist federal contractors based on subjective and arbitrary notions of satisfactory compliance with any federal, state or even foreign law," says Randy Johnson, U.S. Chamber of Commerce vice president for labor, immigration and employee benefits.

Elaine Guth of the Manufacturers Alliance/MAPI, echoed this line, arguing that the rule was "overreaching, unconstitutional and failed to give due process to contractors."

As a result of intense lobbying by the business industry, the contractor responsibility rule had only a fleeting existence. Finally adopted by the Clinton administration on its last day in office, January 19, 2001, it was temporarily suspended by the Bush administration on January 20, suspended again on January 31, and then permanently repealed on December 27, 2001 [see "Controlling Corporate Scofflaws or Blacklisting?" Multinational Monitor, July/August 1999 and "Defending Contractor Irresponsibility," Multinational Monitor, May 2001.]

Bigger and Badder

Although public interest groups welcomed the contractor responsibility rule, current regulations provide the government with the needed authority to deny contracts to lawbreaking companies, even without the rule. This authority is lodged in both the general federal acquisition regulations, and in specific procurement and agency rules which authorize government officials to put irresponsible companies on a list of entities ineligible to receive government contracts.

The federal government annually takes suspension and debarment actions against hundreds of contractors and individuals. Some of these actions are taken against contractors for reasons other than a criminal conviction or civil judgment, such as civil settlements or default on a student loan. The one thing that these hundreds of suspension and debarment actions have in common is that they are almost always taken against small contractors.

Large contractors enjoy an unfair advantage over smaller contractors in navigating the federal government's suspension and debarment system. Larger contractors have the financial means, plus high-priced attorneys, that enable them to avoid suspension and debarment.

"Many of these large companies which continue to violate ethical and criminal laws possess the legal manpower and expertise to avoid serious penalties," says Rep. Albert Wynn, D-Maryland. "It is my concern that while these companies continue to contract with the federal government, small businesses who lack the funds and the ëlegal eagles' are put at a disadvantage when competing for federal contracts."

Many of the largest federal government contractors have a record of repeat misconduct and alleged misconduct, yet the government continues to award them billions of dollars in contracts. The top 10 repeat offenders identified through POGO's investigation covering the period since 1990 are: General Electric, with 63 instances of misconduct and alleged misconduct and fines, penalties, restitution, settlements and clean-up costs totaling $982,859,555; Lockheed Martin with 63 instances of misconduct or alleged misconduct and $231,872,404 in payments; Boeing, 36 and $357,973,000; Raytheon, 24 and $128,652,919; Northrop Grumman, 21 and $87,876,581; Fluor, 19 and $70,016,614; United Technologies, 18 and $214,836,860; TRW, 16 and $389,484,000; AT&T, 14 and $16,090,000; and Unisys, 12 and $182,245,692 in payments.

On rare occasions, the federal government does suspend large contractors. The Navy suspended General Dynamics twice in 1985 for procurement fraud. The first suspension lasted five months and the second lasted two months. Also in 1985, the Air Force suspended General Electric for five months as a result of procurement fraud.

But inaction is the norm. A few years after GE's five month suspension, the Defense Department established an office specifically to handle GE violations because the Pentagon believed General Electric was violating laws at such a high rate. At the request of the Department of Defense Inspector General, the Philadelphia Remedies Unit was established within the Defense Contract Management Agency's Mid-Atlantic District on June 1, 1990. During the three-year existence of this unit, 163 investigative and 147 administrative matters were resolved, resulting in the government recovering a total of $221.7 million from General Electric on noncompliance matters.

Regarding suspension and debarment, the Unit's report states: "None of the recommendations made for action against a corporate entity of the General Electric Company were approved by the debarring officials at DLA [Defense Logistics Agency] or the Army who reviewed these recommendations. In the only matter involving a GE entity which resulted in administrative action, the DLA debarring official issued a suspension against the Aircraft Engine Group and lifted it five days later. The result of these efforts make it fairly clear that, at least in the case of the General Electric Company and probably other major contractors, administrative action is not a threatening remedy."

The report concluded, "Without a real possibility of the issuance of administrative action, the government loses an important remedial tool to force compliance."

The Administrative Agreement Out

A major problem in enforcement of contractor responsibility and debarment rules is that, especially in the defense sector, the government frequently relies on a single contractor, or just a few contractors, to provide big ticket items such as major weapons systems. A wave of corporate mergers in the defense industry over the past 10 years -- supported by the Pentagon -- has exacerbated the situation. As a result, procurement officials often find themselves constrained by the fact that the government is wholly reliant on certain companies for specific projects.

The contractors' preferred alternative to suspension or debarment is an administrative agreement. The goal of these agreements is to change the corporate culture of a company, to make it a responsible and ethical company, through implementation of a corporate ethics program.

There is reason to doubt whether these agreements foster ethical behavior, however. For instance, in January 1995, Lockheed Martin pled guilty to bribing an Egyptian official. In addition to paying a $24.8 million fine, Lockheed Martin entered an administrative agreement with the Air Force. Since implementing the agreement, Lockheed Martin and its subsidiaries have been accused of at least eight violations -- related to procurement fraud, environmental pollution, employment discrimination, shareholder fraud, nuclear safety violations and violations of the Arms Export Control Act -- and have paid approximately $7 million in fines/penalties and settlements.

Similarly, Litton Industries paid $82 million to settle allegations of procurement fraud and entered into an administrative agreement with the Navy in January of 1995. Since implementing the 1995 agreement, two Litton subsidiaries pled guilty to two criminal violations for making false statements and paid approximately $17.8 million in fines.

Despite these examples suggesting that administrative agreements do not adequately protect the government's interests, the government tends to rely on these agreements as the preferred tool to deal with large contractors.

An alternative approach to deter companies from breaking the law is to actually suspend and debar them. The leverage of the federal government's enormous buying power can be used both to protect taxpayers from unethical corporations whose record suggests they are likely to deliver shoddy goods and services, mistreat workers or defraud the government, and to serve the broader public policy goal of instilling respect for the law among large corporations. States and local governments can take similar measures, with similar impact.

There are few administrative difficulties in pursuing such a course. The challenge is only one of generating sufficient political will.

Creating a centralized database of information on corporate misconduct would enable federal procurement officials to make informed contracting decisions, and enable debarment officials to make informed suspension and debarment decisions as well.

To ensure procurement officers and debarment officials are fully informed, contractors should be required to disclose current suspensions or debarments, litigation initiated against them on either the federal or state level in the past three years, and any administrative agreements they are currently implementing.

Armed with adequate information, debarment officials should use suspension and debarment actions equally against large and small contractors.

And to ensure the even-handed and more rigorous application of relevant regulations, suspension or debarment should be mandatory for a contractor who is criminally convicted or has had a major civil judgment rendered against it more than once in a three-year period.

Seth Morris is a research assistant with the Project on Government Oversight.