A BILLION DOLLAR BOONDOGGLE By John Riley John Riley is with the Project on Military Procurement Rep. Dingell: I have been looking here at the vouchers, and the vouchers on this are signed, Mr. MacDonald, by you, I observe, rather approved by you here at the bottom and the first one is Fursten boarding at Silver Maple Farm $87.25, and there's a proper receipt. It says "receipt received from Silver Maple Farm, $87.25." Then I further come down and I see here, as I go through these vouchers, it says here, at a later one it says Silver Maple Farm, boarding for Fursten, $42. Then another one says dog boarding, $26.25. Is Fursten a dog? Mr. MacDonald: I don't know what document you have, Mr. Chairman. May I see it, and I can answer it maybe. Mr. Dingell: Are the taxpayers paying for dog boarding? Mr. MacDonald: I wouldn't think so. -Rep. John Dingell, D-Mich., questioning a General Dynamics employee at a hearing before the Subcommittee on Oversight and Investigations, House Energy and Commerce Committee, Feb. 28, 1985. WITH THESE OUTRAGEOUS and absurd revelations of the conduct of the nation's largest defense contractor, the issue of military procurement reached its zenith as a news item. In the span of a year, General Dynamics, the nation's largest defense contractor, would be twice suspended and reinstated, executives would be indicted and replaced, and billions in defense dollars would be sent into limbo. Inside the Washington, D.C. beltway, Fursten became a household name. Across the country, headlines announced the latest details of General Dynamics' management atrocities and editorials called for fundamental Pentagon reform. Three years, many scandals, and a Presidential Commission later, the government is still without an effective buyer-seller relationship with its defense contractors. The government remains dependent on a set of administrative sanctions that leave it little hope of forcing real reform. Of these sanctions, suspension and debarment are among the most serious. In the Federal Acquisition Regulations, suspension means "to disqualify a contractor temporarily from Government contracting and Government-approved subcontracting." Debarment is "to exclude a contractor from Government contracting and (subcontracting) for a reasonable, specified period." The raison d'etre of these actions is not what it might appear, however. The regulations further state: "The serious nature of debarment and suspension requires that these sanctions be imposed only in the public interest for the Government's protection and not for purposes of punishment." And all of the sanctions are used only sporadically. An examination of Department of Defense (DoD) statistics reveals how unequally suspensions and debarments are applied. The Cleveland Plain-Dealer reported in May 1987 that "of the 594 suspensions and debarments active as of March 10, 1987, none was among the top 100 defense contractors. Private individuals made up 236 of the contractors, or 48%." Defense Department officials, once reluctant to talk about this phenomenon, are now openly admitting it. When asked about the uneven application of sanctions at a December 1987 congressional hearing, DoD Deputy Inspector General Derek Vander Schaaf replied, "There is a large degree of truth in what you say. It is a problem that needs to be dealt with and hasn't been because we are afraid to suspend or debar the big contractors." The government regulations with regard to suspension and debarment proceedings are a reflection of the government's relationship with the military-industrial complex. Defense Secretary Frank Carlucci described the current situation well in his confirmation hearings in November 1987. "The Defense Department has to have an arms-length relationship with defense contractors, but the industrial base is an extremely important national asset, defense contractors are the tools we use to build our military establishment, and we have to provide them with the proper incentives." That Secretary Carlucci felt compelled to be circumspect when speaking on the subject of defense contractors is indicative of the history of the development of the defense industry. The federal government has for decades had an active role in fostering development in the defense industries and creating and maintaining a lucrative business environment. Over time, however, this policy, along with the trend towards high- technology systems, has resulted in a concentration of defense projects and dollars in the hands of fewer and fewer suppliers. Today, only a handful of contractors control large portions of the national defense effort. As the size of the contractors has increased, so has their political importance as constituencies. The result is a process too unwieldy to properly direct or control. The latest Air Force fighter project, the Advanced Tactical Fighter (ATF), is a good example. All seven of the nation's top aerospace firms have combined to form two rival teams, one of which will win a contract said to be worth at least $30 billion. In this case, the possibility of seriously disciplining a major contractor is next to nil, even for gross misconduct. In response to its dilemma, the administration has developed an alternative to exercising its administrative powers of suspension and debarment. Instead, the government has adopted a widely-criticized policy of contractor self-governance and voluntary disclosure of wrongdoing. It hopes that the new policy will win back public confidence in the industry and improve the government's ability to recoup losses due to wrongdoing. Although there have been several milestones along the way to the present situation, the scandals which helped spur the DoD into action were those surrounding the General Dynamics suspensions. General Dynamics The General Dynamics Corp. has had the unfortunate distinction of being in the headlines for wrongdoing almost continually for the last 10 years. Most of the problems have centered on the Electric Boat division, maker of Trident ballistic missile submarines and Los Angeles-class attack submarines. In 1976 General Dynamics filed a $544 million claim--later to be increased to $843 million--on Navy contracts for 18 attack submarines, claiming that changes in the design and Navy mismanagement were responsible for the overruns. The Navy disputed the claims, but agreed to settle in 1978 for $643 million. Navy officials, however, were not satisfied with the legitimacy of General Dynamics's claim and submitted the case to the Justice Department, claiming that General Dynamics had "bought into the contract" through artificially low bids and later recouped expenses through fraudulent claims. The Justice Department investigated, but in late 1981 decided not to prosecute. The story might have ended there had it not been for Takis Veliotis, an Electric Boat executive who had fled to Greece in the face of an indictment on kickback charges. In 1984 Veliotis made statements to investigators from the Joint Economic Committee, headed by Sen. William Proxmire, D-Wis., that the overruns were almost entirely the fault of Electric Boat. A study of internal documents, released in July 1984, asserted "that Navy officials collaborated with the contractor to jointly contrive an explanation for the settlement that would be approved by Congress." Also investigating the Veliotis material was the Subcommittee on Oversight and Investigations of the House Energy and Commerce Committee, headed by Rep. John Dingell. In February and March 1985, the subcommittee held its startling hearings. The subcommittee grilled the company's executives over allegations that they had been submitting millions of dollars worth of improper overhead claims, giving illegal gratuities to government officials, and conspiring to manipulate stock activity. Allegations of charging for private plane trips, dog boarding and chili cookoffs made for colorful news stories. In May of 1985, Navy Secretary John Lehman announced the suspension of the Electric Boat and Pomona divisions of the company. As soon as the suspension was announced, however, the government found itself in a difficult position. The nation's largest defense contractor, General Dynamics, was the sole supplier of the Trident submarine, the M-1 tank, the F-16 fighter plane, the Stinger anti-aircraft missile, and other systems. Though only two divisions of the company were suspended, the overall state of the company had an important effect on national security. One of the conditions imposed by the Navy for the lifting of the suspension was "the establishment of a rigorous code of ethics for all General Dynamics officers and employees with mandatory sanctions for violation." The question of ethics was to reappear in the coming months. Despite the conditions, the Navy lost much of its credibility as a tough customer when it announced the lifting of the General Dynamics suspension in August 1985. To make matters worse, at the same time it announced that General Dynamics was ready to go back to normal status, it also announced the recipients of the new contract awards: General Dynamics won $658.3 million for a new Trident submarine, and $233.7 million for Army and Navy missile contracts. Critics said the decision sent the wrong signal to contractors. It was hard to get away from asking the question: what possible leverage does the government have over its contractors if they know that when the dust settles, they will get the business anyway? What almost no one knew, however, was that the General Dynamics case would soon be repeated in its entirety and that the same question would be asked again. On December 2, 1985, James M. Beggs and three present and former General Dynamics executives were indicted on charges of trying to hide cost overruns through mischarging of costs on an Army contract for development of a prototype in the Sgt. York air- defense gun program. The next day, the Navy again suspended General Dynamics. On the 4th, the Navy announced the extension "indefinitely" of a bid deadline for construction of four Los Angeles-class submarines. The Navy was caught in a bad situation: it could award all four submarines to the only other competitor, Newport News Shipping & Drydock Co., or it could appear to be bending over backwards again for General Dynamics. Secretary Lehman explained his decision in terms of the benefits of competition. "It would be foolish of us to award a sole-source contract just to spite another contractor," he explained. Perhaps he was right, but critics again interpreted the Navy's actions as coddling General Dynamics, and the administration lost its opportunity to send a tough signal to its major contractors. Things got worse on December 6, when the Air Force extended its deadline for bids on its Advanced Tactical Fighter (ATF) program, thereby keeping General Dynamics in the running. The Pentagon belatedly explained on the 10th that the ATF extension was made because of the need for technical additions and not for the sake of General Dynamics, and then made what it thought was a clarifying statement: "It is the view of Secretary Weinberger that this sort of extension, while clearly in the public interest when made for a short time, must be weighed against the intent of the suspension and the circumstances giving rise to it and unless it is demonstrated that the contractor is responsible the government may have to give up the benefits of competition in this and other cases that involve fraud or other illegal activities. This determination involves a judgement of what is in the public interest in a particular case." The Navy lifted the second suspension on February 7, 1986 in what was termed a "global settlement." General Dynamics agreed to set up a $50 million escrow account to cover potential liabilities resulting from the Beggs case, and the Navy agreed not to impose any further contract suspensions based on past actions, even though there were three ongoing Federal grand jury investigations and 10-15 DoD investigations of General Dynamics. The Navy waited a month this time before awarding General Dynamics a $1.033 billion contract for construction of four nuclear attack submarines, and a total of $ 3.4 billion in contracts for the month of March. Newport News, the only other competitor on the submarine contract, received nothing. Critics again roared. "For the Defense Department to give General Dynamics more contracts than any other defense contractor in history in just two short months is rather like giving a child a lollipop reward right after a spanking for misbehavior," Rep. Dingell was quoted as saying. The Packard Commission In June of 1985, at the height of the General Dynamics story, the White House announced the formation of a Blue-Ribbon Commission on Defense Management, to be headed by industrialist and former Secretary of Defense David Packard. In February 1986, the Commission released its interim report. In it were two important new concepts that would greatly affect DoD policy. The first was the idea of contractor self-governance, grounded firmly in comprehensive employee ethics programs. "To ensure that their houses are in order, defense contractors must promulgate and vigilantly enforce codes of ethics that address the unique problems and procedures incident to defense procurement. They must also develop and implement internal controls to monitor these codes of ethics and sensitive aspects of contract compliance." The second notion was a shift in suspension and debarment policy. "Suspension and debarment should be applied only to protect the public interest where a contractor is found to lack 'present responsibility' to contract with the federal government. Suspension and debarment should not be imposed solely as a result of an indictment or conviction predicated upon former (not ongoing) conduct, nor should they be used punitively." To this point, an indictment or conviction for a fraud-related offense were the primary basis for suspension and debarment, respectively. Thus the panel seemed to be saying that the government must have conclusive evidence that a fraud scandal is currently in place and operating before imposing suspension and debarment. Though some members of Congress and defense observers questioned the wisdom of these and other aspects of the Commission report, approval and implementation of the document was swift. The accountability ideas of the commission were put into the Defense Industry Initiatives on Business Ethics and Conduct, which were signed by 32 of the leading defense contractors by the time the final commission report was released. Deputy Secretary of Defense William H. Taft IV followed up in July with a letter to those contractors who had not signed on. "The (participating) contractors understand the Department's view that early voluntary disclosure, coupled with full cooperation and complete access to necessary records, are strong indications of an attitude of contractor integrity, even in the wake of disclosures of criminal liability. We will consider such cooperation as an important factor in any decisions that the Department takes in the matter." Though the DoD didn't agree to any specific limitation on sanctions for participating firms, Taft's letter, along with the recent Packard concepts, seemed to indicate that firms voluntarily disclosing problems would receive no suspension or debarment action. Only a few months later there would be a test case for the new policy. The TRW Case In June of 1984, TRW Inc., a major supplier of aerospace and electronic equipment to the armed forces, submitted to the Defense Department a report on an internal investigation of its Electronic Products Inc. sector in Colorado Springs, Colorado. TRW reported that about $1 million had been fraudulently charged to government contracts. TRW fired the president of the division, the acting director and the general manager, and promised to institute corrective actions. In November of 1984, TRW submitted another report, this time regarding its Aircraft Components Group in Cleveland. Irregularities in cost-estimating procedures had produced some $2-3 million in overcharges from 1978 through 1983, the report claimed. Once again, the company claimed corrective actions, and it fired several mid-level employees. Events took a radical turn in April of 1986 when three of the fired Cleveland employees filed a $1.2 billion suit against the company on behalf of the government using the False Claims Act (also known as the Abraham Lincoln Law). The suit alleged cost and labor mischarging (keeping two sets of books), as well as price fixing and anti-trust violations. The Justice Department joined in the suit in June but quickly limited the suit to the mischarging claims. Federal grand juries were convened in Colorado and Ohio. Investigations of all TRW facilities were initiated by the DoD and the Justice Department. TRW submitted two more internal reports, covering its San Diego and Sunnyvale, California divisions. Investigators for the Dingell subcommittee also began examining the case. Hearings were held in March of 1987. The subcommittee investigators concluded that the improper practices at TRW and the subsequent damage to the government went well beyond the disclosures made in the company's voluntary disclosures. TRW had denied, for example, that improper practices took place at its Redondo Beach, California facility, home of its $3.5 billion Electronics and Defense sector. At the subcommittee's hearings, however, two of the fired San Diego managers testified that their practices were based on earlier Redondo Beach programs. According to subcommittee staff, the inconsistency between TRW's disclosures suggests a plan designed to satisfy the DLA's requirements to demonstrate present responsibility while suppressing indicators presenting a picture of a company with widespread accounting irregularities and internal control weaknesses. The government, however, was having a difficult time coming to grips with its investigation. TRW, claiming a host of reasons including attorney-client privilege, was refusing DoD access to necessary documents. According to subcommittee reports, DoD officials were either unwilling or unable to resolve the issue, and thus had to settle for data which was far from complete. The official in charge of the investigation, Gerald Werfel, head of DLA's Contract Integrity Unit, admitted to the subcommittee he did not attempt to find out to what extent the Redondo Beach Electronics and Defense sector may have directed the Colorado Springs subsidiary to use improper practices. Many were watching, then, when the government announced in September of 1987 its terms in a "global" settlement with TRW. TRW agreed to pay the government $17 million, the amount estimated by the TRW investigations to have been improperly charged, and to take corrective actions outlined by the government. In addition, TRW agreed to plead guilty to 10 counts of making false statements, and the DLA agreed not to suspend or debar any division of TRW. TRW would continue to cooperate with DoD officials and to provide "reasonable access" to TRW records, personnel, and facilities. What Now? The voluntary disclosure issue is still far from settled. There are many in the industry who still feel that voluntary disclosure raises serious legal problems. "There is no concern for the rights of individual employees, officers, etc. Those people are completely exposed," according to John Dowd, an attorney with the Washington, D.C. office of Heron, Burchette, Ruckert and Rothwell, a law firm which represents defense contractors. "It puts the management of a company in a hell of a dilemma, because effectively, they are deputized. It is a short-circuiting of the recognized system of justice." DoD officials downplay these concerns. "To date, no company that has engaged in voluntary disclosure has ever been suspended or debarred based on the information they provided to us on the disclosure or as the result of a criminal investigation resulting from the disclosure," according to Howard Cox, DoD Deputy Assistant Inspector General for Criminal Investigations Policy. "I think that says it all," he said. But with voluntary disclosures not leading to effective disciplinary action, the DoD is left in much the same position as it was before. Given the trends in the defense industry away from competition and toward greater concentration, and without any serious political reform agenda in the near future, it does not appear likely that more healthy incentives for industry and government are near at hand. National security and economic vitality will surely suffer as a result.