"The unreasonable failure of a bidder or offeror to promptly supply information in connection with an inquiry with respect to responsibility may be grounds for a determination of nonresponsibility with respect to such bidder or offeror". (MPC 3-401(1))
Since the time the MPC was enacted in 1979, other laws were being developed to facilitate cloaks of invisibility for entities to hide the identities of the money, ownership, assets and control of businesses organized under such laws. The most recent has been the promulgation of a Uniform Limited Liability Company Act (ULLCA) in 1995. Use of LLCs to provide ownership anonymity of assets, and businesses, is easy (see "How to Hide Ownership of a Company?") and notorious (see, "Anonymous Owner, L.L.C.: Why It Has Become So Easy to Hide in the Housing Market"). The ULLCA, both in original form and in a revised 2006 Model, has been adopted on Guam and many U.S states.
This is becoming a problem, both in the U.S. and Europe, and presumably elsewhere, as indicated in the following article published by the Association of Certified Financial Crime Specialists (ACFCS):
Report roundup: EU calls U.S. a ‘secrecy haven,’ GAO highlights commercial owner opacity, and more, posted March 16, 2017.
This week’s Report Roundup has a common theme running through hundreds of pages of reports: the risk of opaque ownership structures and how, in the United States and beyond, the inability for countries to collect beneficial ownership information is a magnet for bad actors.The article goes on to elaborate on some of those reports.
In the U.S., that means a major ally in the European Union (EU) calling out a longstanding gap in the country’s anti-money laundering (AML) defenses: the federal government allowing certain states like Delaware to sell corporate secrecy as a service – an ultimate irony as this country aggressively chases and chastises other jurisdictions for doing the same thing, according to the report.
That vulnerability is made doubly dangerous when it intersects the international trading sector due to the knowledge that organized criminal groups, corrupt kleptocrats and terror financiers currently hide, funnel and legitimize trillions of dollars in illicit gains, per estimates, through a myriad of trade trickery, including under and over-invoicing items, falsifying documents and other tactics.
In that same vein, U.S. government watchdog group the Government Accountability Office (GAO) noted in a report that because this country doesn’t broadly require ownership information to be made available, that can open the door to national security risks when government operations are housed in buildings owned by foreign entities who may or may not be a shell for prying, spying eyes bent on espionage.
Lastly, another report by United Nations Security Council highlighted that the issue of anonymous shell companies globally allows rogue regimes like North Korea to flout international sanctions and get access, as analysts prognosticate, to banned technology and weapons systems on its path to wreak worldwide havoc by creating weapons of mass destruction.
It is interesting that the article mentioned a report by the U.S. Government Accountability Office (GAO), being critical of lack of ownership information in the national security context, because the GAO has now, again, turned its eyes to the subject, in the context of procurement, in its November 2019 report below. In its letter to Congress transmitting the report, it noted,
DOD awards contracts to companies in the private sector to provide a wide variety of services for U.S. military forces. Of the thousands of contractors doing business with DOD, some companies are what are known as shell companies — that is, companies that exist but conduct either no business or minimal business. Shell companies can be used for legitimate purposes; for example, they may be formed to obtain financing before starting operations. However, companies sometimes use shell companies to form opaque ownership structures designed to disguise the beneficial owner — the natural person or persons who directly or indirectly own and control, or receive substantial economic benefit from, a company.Ongoing DOD Fraud Risk Assessment Efforts Should Include Contractor Ownership (some excerpts of the letter an other parts of the report, sliced and diced to meet the didactic goal and limited space of this blog; you should read the whole report for original meaning and intent): In the letter mentioned above, it further noted:
These opaque ownership structures can be used to facilitate fraud and other unlawful activity in commerce, including contracts with DOD. For this report, we define opaque ownership as structures of business governance that may conceal or obfuscate entities or individuals who own, control, or benefit financially from a business.
We researched legal databases and news articles involving DOD contractors to identify federal court cases and agency decisions. We reviewed GAO bid-protest decisions to identify cases in which contractors may have failed to disclose foreign ownership or concealed beneficial-owner information to obtain contracts that they were not eligible to receive. We examined known risks identified through our case-study research and interviews with DOD officials. We further examined the risk that contractors could be disguising their ownership to create the appearance of competition.In the body of the report, GAO found:
We contacted several government contractors’ associations to gain members’ perspectives on reporting beneficial ownership information and received feedback from 16 members of three government contractors’ associations. The perspectives gained from our queries are not generalizable to all contractors.
As the number of layers of ownership increases, ownership information becomes more opaque. This opacity can make it difficult for DOD to determine which entities and individuals ultimately own or control its contractors.I'm sure you get the drift here. There's much more in the GAO report, much more. Have a look. Of particular importance is the lengthy discussion of things that are needed to improve the system of contractor selection. In brief, in its conclusions, the report summarizes,
In the United States, no centralized information source or national registry maintains company ownership information. In 2014, the National Association of Secretaries of State found that most states collect minimal ownership data. The association reviewed key information collected by the 50 states and the District of Columbia during the entity-formation process and in annual or periodic reports. During both the entity-formation process and in annual or periodic reporting, the association found that very few states collect some form of entity ownership or control information from limited liability companies or corporations. The Securities and Exchange Commission collects some ownership information on publicly traded companies. Any person or group of persons that acquires beneficial ownership of more than 5 percent of a publicly traded company’s registered voting securities must register.
GSA’s System for Award Management (SAM) is a federal government-wide database for vendor data that is used across all federal agencies. Any entity that wishes to do business with the government must register in SAM to be eligible to receive a contract award, except in specific circumstances. To increase procurement transparency and traceability, entities that wish to do business with the federal government are now required to provide additional ownership information through the annual registration process in SAM. The required ownership information includes the “immediate” and “highest” level ownership of an offeror.
Responsibility Determination
Contract award decisions are based on evaluation factors and significant subfactors that are tailored to the procurement, at the discretion of procurement officials. At a minimum, these factors must include: price/cost, quality, and past performance. A prospective contractor must affirmatively demonstrate its responsibility, including, when necessary, the responsibility of its proposed subcontractors. Contracting officers must then determine the responsibility of prospective contractors, including whether prospective contractors can perform the terms of a contract. To be determined responsible, a prospective contractor must have adequate financial resources to perform the contract (or the ability to obtain them); be able to comply with the required delivery or performance schedule; have a satisfactory performance, integrity, and ethics record; have the necessary organization, experience, accounting and operational controls, and facilities to carry out the contract (or the ability to obtain them); and be otherwise qualified and eligible to receive an award under applicable laws and regulations.
Before awarding a contract over the simplified acquisition threshold, a contracting officer must review the prospective contractor’s performance and integrity information available in the Federal Awardee Performance and Integrity Information System (FAPIIS). FAPIIS is a federal government-wide database designed to assist contracting officers with making a responsibility determination by providing integrity and performance information of covered federal agency contractors and grantees. FAPIIS provides a prospective contractor “Report Card” that includes information pertaining to the prospective contractor’s past performance (if applicable), such as any administrative agreements, contract terminations, nonresponsibility determinations, and exclusions, among other things. It also includes the ability to view the company relationship information, which details the ownership information that prospective contractors are required to report in SAM. When making a responsibility determination, the contracting officer must consider all the information available through FAPIIS with regard to the prospective contractor and any immediate owner, predecessor (an entity that the prospective contractor replaced by acquiring assets and carrying out affairs under a new name), or subsidiary identified for that prospective contractor in FAPIIS. The contracting officer must document in the contract file how the information in FAPIIS was considered in any responsibility determination, as well as the action that was taken as a result of the information.
Contractors with Opaque Ownership Pose Financial Fraud Risks Including Price Inflation
Concealing relationship with subcontractor to inflate prices. Contractors can subcontract with companies they own or control to inflate prices for financial benefit. For example, in one case the contractor purchased goods from a company that its owners created, controlled, and used to make fraudulent markups appear legitimate. Contractors or subcontractors can also bill for work not performed by creating fictitious invoices that add costs to a contract. For example, in four court cases we examined, multiple DOD subcontractors were actually shell companies that did not have the inventory they purported to ultimately provide to the government or perform the work indicated in the contract requirements. Contractors or subcontractors can conceal conflicts of interest for financial benefits. For instance, in one case a DOD contractor employee and his spouse formed a company and concealed their interests by not listing their names but listing the names of family members on formation documents. This company became a subcontractor to the company that employed the DOD contractor. The contractor employee, in his official position, wrote letters justifying awards of purchase orders to the subcontractor he owned and approving recommendations that the awards be made to the subcontractor. The co-owner of the subcontractor concealed her involvement by signing contracts using a different name. We also identified the potential risk of companies creating the appearance of competition by submitting bids from fictitious companies. We identified one case that involved a DOD contractor whose executives admitted as part of their plea agreements to creating fictitious, inflated bids that were not from actual businesses to ensure that the contractor’s own bid would be selected by DOD as the supposed lowest.
Contractors with Opaque Ownership Can Also Pose Nonfinancial Fraud Risks
Contractors can pose nonfinancial fraud risks to DOD by concealing their ownership structure to bid on and obtain contracts that they are not eligible to receive. These nonfinancial risks may not pose a direct financial cost to DOD, but they can allow ineligible companies to contract with DOD while potentially denying eligible companies from contracting with DOD. These risks can also lead to additional vulnerabilities. One contractor that fraudulently obtained set-aside contracts claimed it was owned by a service-disabled veteran; however, that veteran had virtually no involvement with the contractor. Some contractors have been found not eligible to receive the set-aside contracts because they were not at least 51 percent controlled by the eligible individuals and the eligible individuals did not make long-term decisions for the companies. Rather, the contractors were controlled by an ineligible individual who owned and controlled a separate company that actually performed work on the set-aside contracts.
Contractors with opaque ownership structures can also pose the risk of circumventing eligibility requirements for contracts that are only designated for domestic companies, which can lead to other vulnerabilities that affect warfighter readiness. We identified four cases in which individuals created domestic shell companies for foreign manufacturers and bid on contracts designated for domestic companies. In three of the four cases, the individuals behind the shell companies also had ownership interests in the foreign manufacturing companies. Foreign manufacturers received payments from the contracts, despite the contracts only allowing domestic manufacturers to be eligible, and one such manufacturer ultimately supplied DOD with defective and nonconforming parts that led to the grounding of at least 47 fighter aircraft.
We recognize that collecting additional ownership information, including beneficial-ownership information, could pose compliance burdens for contractors; and regulatory trends have generally focused on easing the burden to do business. Additionally, verifying contractor ownership can be challenging and time-consuming. Nevertheless, having a thorough assessment of contractor-ownership risks will better position DOD to make informed decisions on how best to use its resources and help ensure that the department’s fraud risk management program is organized and targeted to manage risks in a prioritized manner.
POST SCRIPT: In another new development along the lines of tracking who is whom, note the following article reprinted in Lexology:
Government Contractors Beware: DOJ Announces Creation of Interagency Procurement Collusion Strike Force
On November 5th, the Department of Justice (“DOJ”) Antitrust Division doubled down and announced the formal launch of the Procurement Collusion Strike Force (“PCSF”), an interagency partnership consisting of prosecutors and investigators focused on deterring, detecting, investigating, and prosecuting antitrust crimes, such as bid-rigging conspiracies and related fraudulent schemes in government procurement, grant, and program funding.
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