Federal Contracting and Subcontracting Ethics and Compliance

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2 Federal Contracting and Subcontracting Ethics and Compliance Breakout Session # F03 Dr. Michael Palmer, President, Ethics By Design Jim Kirlin, Senior Subcontracts Manager, Raytheon Company Date: July 29, 2014 Time: 4:00 5:15 p.m.

3 Purpose of Presentation Discuss the ethics and compliance requirements of prime contractor and a subcontractor in the U.S. federal government acquisition environment 2

4 Importance of Ethics and Compliance Ethics and compliance requirements are a huge part of the federal government contracting environment Failure can lead to fines in the millions and debarment The prime must subcontract a substantial portion of the work exposing the prime to significant ethics and compliance risks 3

5 Agenda Contracting Ethics and Compliance Requirements Subcontracting Ethics and Compliance Requirements 4

6 Contracting Ethics and Compliance Requirements 5

7 Our Ultimate Goal: Trustworthy Decisions & Actions Trust in business is a function of two components: Competence and Character Competence: Can you do the job? Character: Will you do it responsibly? 6

8 TRUST 7

9 TRUST 8

10 Paul, Marta, & Paul s Mother 9

11 Paul s Deception 10

12 Paul s Mother Chases Marta 11

13 Paul Eats the Tuber 12

14 Moral: The Talent to Deceive is in Our DNA 13

15 Cheating is Widespread 14

16 If men were angels, no government would be necessary. Federalist #

17 Government Procurement There is no kind of dishonesty into which otherwise good people more easily and frequently fall than that of defrauding the government. Benjamin Franklin 16

18 Stealing from the company Two Types of Fraud 17

19 Stealing for the company Two Types of Fraud 18

20 Classification of Fraud and Theft Corruption Asset Mismanagement Fraudulent Statements 19

21 Boeing subcontractor admits Fraud check tampering ghost employees bid rigging pilfering skimming cash theft kickback schemes reported cases doctored financial statements buying in bribery False expense reports extortion false time sheets unnecessary work commission graft schemes 20

22 Fraud Depletes the Bottom Line 21

23 In fact % of all business failures are caused by employee fraud and theft. 22

24 The FAR Ethics Mandates 23

25 Federal Acquisition Regulation 24

26 Part 15 of the FAR 25

27 Part 52 of the FAR 26

28 Mandatory Disclosure & Whistleblower Protections 27

29 Mandatory Disclosure & Whistleblower Protections 28

30 ALL GOVERNMENT CONTRACTORS Government contractors must conduct themselves with the highest degree of integrity and honesty. 29

31 ALL GOVERNMENT CONTRACTORS All contractors should have: a written code of business ethics and conduct, an employee business ethics and compliance training program, and Policy an internal control system that 30

32 ALL GOVERNMENT CONTRACTORS Policy are suitable to size of the company; facilitate timely discovery and disclosure of improper conduct; and ensure corrective measures are promptly instituted and carried out. 31

33 CONTRACTS OVER $5,000,000 MANDATORY 32

34 The Business Ethics Awareness Program written code of business ethics and conduct, an ethics code training program, an ethics hotline reporting system, a whistleblower protection system. 33

35 includes: A Good Business Ethics Awareness Program Commitment from highest level of the organization Ethics & Compliance Committee Designated Ethics & Compliance Officer Ethics & Compliance Advisors 34

36 The Internal Control System establishes standards and procedures to facilitate timely discovery of improper conduct ensures corrective measures are promptly instituted and carried out. 35

37 The Internal Control System High level responsibility No principal has violated code of conduct Periodic reviews of practices, procedures, policies, and internal controls Internal reporting mechanism Disciplinary action Disclose violations Must Include Whistleblower protection 36

38 The Hotline Poster All covered contractors must also display the Agency Hotline Poster. 37

39 Improper Business Practices Gifts to government agents Antitrust violations Contingent fees to consultants Buying in Subcontractor kickbacks Contracts with government employees Use of contract funds to lobby the government 38

40 Other Federal Contracting Laws Truth in Negotiations Act False Claims Act Best Price Rule Competition in Contracting Act Federal Acquisition Streamlining Act Procurement Integrity Act 39

41 The Principal/Agent Relationship 40

42 The Principal/Agent Relationship 41

43 The Principal/Agent Relationship 42

44 A Multitude of Interests 43

45 A Multitude of Interests 44

46 A Multitude of Interests Principal s Interests High quality products Competitive prices Reliability Ethical integrity 45

47 A Multitude of Interests Department Interests Principal s Interests High quality products Competitive prices Reliability Ethical integrity 46

48 A Multitude of Interests Principal s Interests Procurement Office Interests Increase next year s budget Perform better than other departments Reinforce need for the department Protect their jobs High quality products Competitive prices Reliability Ethical integrity PENTAGON INTERESTS Increase next year s budget Protect jobs Enhance status in government Expand influence in government 47

49 A Multitude of Interests Personal Interests Good performance evaluation Promotion Job in private sector Professional satisfaction Principal s Interests High quality product Competitive price Reliability Ethical integrity 48

50 A Multitude of Interests Personal Interests Good performance evaluation Promotion Job in private sector Professional satisfaction Principal s Interests High quality product Competitive price Reliability Ethical integrity PROCUREMENT OFFICE INTERESTS Increase next year s budget Perform better than other departments Reinforce need for the department Protect their jobs PENTAGON INTERESTS Increase next year s budget Protect jobs Enhance status in government Expand influence in government 49

51 The Stewardship Principle 50

52 The Stewardship Principle 51

53 Opportunity for Mischief There is no kind of dishonesty into which otherwise good people more easily and frequently fall than that of defrauding the government. Benjamin Franklin 52

54 How to Create an Effective Ethics Program 53

55 Establish Good Corporate Governance Lorenzetti: The Allegory of Good Governance 54

56 Focus Attention on the Organization, Not Just the People In It 55

57 Integrate Ethics Into the Strategic Mission of the Company 56

58 How? 57

59 How? 58

60 How? 59

61 How? 60

62 How? Herbicides and artificial fertilizers kill soil. 61

63 How? 62

64 A Better Way Root out the problems. 63

65 A Better Way Prevent new germination. 64

66 A Better Way Get a lush lawn. 65

67 A Better Way Organic Soil 66

68 Moral: Think Systemically & Organically 67

69 Two Key Words Purpose 68

70 Two Key Words Respect 69

71 Purpose 70

72 Living Purpose 71

73 Living Purpose Inculcate Moral Character and Moral Competence 72

74 Make Respect Operational With an Effective Ethics Program Promote the 7 core business virtues. Build a Strategic Code of Conduct. Implement a sound training program. Put an Internal Control System in place. Establish an organizational Ombuds Office. Measure the Effectiveness of the Program. 73

75 Make Respect Operational With the Seven Core Business Virtues Do Good Work 74

76 Make Respect Operational With the Seven Core Business Virtues Do Good Work Tell the Truth 75

77 Make Respect Operational With the Seven Core Business Virtues Do our Best Tell the Truth Play Fair 76

78 Make Respect Operational With the Seven Core Business Virtues Do Good Work Tell the Truth Play Fair Mind Your Manners 77

79 Make Respect Operational With the Seven Core Business Virtues Do Good Work Tell the Truth Play Fair Mind Your Manners Keep your Word 78

80 Make Respect Operational With the Seven Core Business Virtues Do Good Work Tell the Truth Play Fair Mind Your Manners Keep your Word Obey the Law 79

81 Make Respect Operational With the Seven Core Business Virtues Do Good Work Tell the Truth Play Fair Mind Your Manners Keep your Word Obey the Law Exercise Due Care 80

82 Make Respect Operational with the Checklist of Trustworthy Behavior The Corporate Integrity Checklist 1. Is it Good Work? 2. Is it the truth? 3. Is it fair? 4. Is it polite? 5. Is it what we promised? 6. Is it legal? 7. Will it cause any harm? 81

83 Make Respect Operational With a Strategic Code of Conduct 82

84 Make Respect Operational With Effective Training 83

85 Make Respect Operational With an Internal Control System Assign Responsibility To Chief Ethics & Compliance Officer 84

86 Make Respect Operational With an Internal Control System Periodic Reviews 85

87 Make Respect Operational With an Internal Control System Internal Reporting Mechanism 86

88 Make Respect Operational With an Internal Control System Disciplinary Action 87

89 Subcontracting Ethics and Compliance Requirements 88

90 Agenda The Challenge Importance of Subcontracting Ethics and Compliance Subcontract Kickbacks Unreasonable Restrictions on Subcontractor Sales Display of Hotline Poster(s) Disclosure Regarding Certain Violations Contractor Code of Business Ethics and Conduct Business Ethics Awareness and Compliance Program (BEACP) Internal Control System (ICS) 89

91 TThe Challengehe Challenge Government prime contractors must conduct themselves with the highest degree of integrity and honesty The prime contractor must also ensure that its subcontractors are doing the same 90

92 Importance of Subcontracting Ethics and Compliance First, it is common for a prime contractor to subcontract the majority of its cost of goods sold. This can mean that up to 80 percent of the goods or services are subcontracted. In some cases, this means the prime contractor may have to deal with dozens of subcontractors. This is a substantial third-party risk to the contractor s ethics and compliance program. 91

93 Importance of Subcontracting Ethics and Compliance Second, many of the government ethics and compliance requirements do not stop with the prime contractor. Despite the lack of privity between the government and the subcontractor, the FAR requires that the contractor flow down many of the ethics and compliance requirements to the subcontractors, which in turn must flow down the requirement to its subcontractors, etc., until the flow-down is no longer required by regulation. 92

94 Importance of Subcontracting Ethics and Compliance Third, the consequences for a prime contractor failing to ensure subcontractor ethics and compliance can be severe, including debarment and suspension from doing business with the government. 93

95 Sources of the Subcontracting Ethics and Compliance Requirements The sources of the FAR ethics and compliance requirements: FAR Part 3 Improper Business Practices and Personal Conflicts of Interest FAR Part 52 clauses that implement FAR Part 3 policy Many of the requirements deal solely with the behavior of government or prime contractor personnel. 94

96 Sources of the Subcontracting Ethics and Compliance Requirements Several involve subcontractors. These requirements are discussed with emphasis on: When the requirement appears in the prime contract What the prime and subcontractor must do When the requirement must be flowed down 95

97 Applicability to Prime Contracts Applicability to Prime Contracts Subcontract Kickbacks Unreasonable Restrictions on Subcontractor Sales Display of Hotline Poster(s) Below Simplified Threshold No No Yes Above Simplified Threshold Yes Yes Yes Commercial Item No Alternate I of clause No Flow Down Requirements Include substance in subcontracts over $150,000 Include substance in subcontracts exceeding Simplified Threshold Include substance in subcontracts exceeding $5M except when the subcontract is for a commercial item or is performed entirely outside the U.S. FAR Clause

98 Subcontract Kickbacks The Anti-Kickback Procedures clause does not apply to commercial items. It applies to all solicitations and contracts exceeding the simplified acquisition threshold. Kickback, as used in the FAR clause, means any money, fee, commission, credit, gift, gratuity, thing of value, or compensation of any kind that is provided, directly or indirectly, to any prime contractor, prime contractor employee, subcontractor, or subcontractor employee for the purpose of improperly obtaining or rewarding favorable treatment in connection with a prime contract or in connection with a subcontract relating to a prime contract. 97

99 Subcontract Kickbacks The Anti-Kickback Act of 1986 was passed to deter subcontractors from making payments and contractors from accepting payments for the purpose of improperly obtaining or rewarding favorable treatment in connection with a prime contract or a subcontract relating to a prime contract. The act prohibits any person from: Providing or attempting to provide or offering to provide any kickback; Soliciting, accepting, or attempting to accept any kickback; or Including, directly or indirectly, the amount of any kickback in the contract price charged by a prime contractor to the United States or in the contract price charged by a subcontractor to a prime contractor or higher-tier subcontractor. 98

100 Subcontract Kickbacks The act requires a contractor to: Have in place and follow reasonable procedures designed to prevent and detect possible violations in its own operations and direct business relationships, Promptly report in writing the possible violation to the government when the contractor has reasonable grounds to believe that a violation may have occurred, and Cooperate fully with any federal agency investigating a possible violation. 99

101 Subcontract Kickbacks The contractor is required to flow down the substance of the Anti-Kickback Procedures clause in all covered subcontracts that exceed $150,

102 Unreasonable Restrictions on Subcontractor Sales The Restrictions on Subcontractor Sales clause applies to all solicitations and contracts exceeding the simplified acquisition threshold. 10

103 Unreasonable Restrictions on Subcontractor Sales The law requires that subcontractors not be unreasonably precluded from making direct sales to the government of any supplies or services made or furnished under a contract. However, this does not preclude contractors from asserting rights that are otherwise authorized by law or regulation. 10

104 Unreasonable Restrictions on Subcontractor Sales The contractor must not enter into any agreement with an actual or prospective subcontractor, nor otherwise act in any manner, that has or may have the effect of restricting sales by such subcontractors directly to the government of any item or process (including computer software) made or furnished by the subcontractor under the contract or under any follow-on production contract. FAR

105 Unreasonable Restrictions on Subcontractor Sales For the acquisition of commercial items, the clause is used with its Alternate I, which provides that for acquisitions of commercial items, the prohibitions apply only to the extent that any agreement restricting sales by subcontractors results in the Federal Government being treated differently from any other prospective purchaser for the sale of the commercial item(s). FAR , Alternate I. The definition of a commercial item is found at FAR

106 Unreasonable Restrictions on Subcontractor Sales The contractor must incorporate the substance of the clause in all covered subcontracts that exceed the simplified acquisition threshold. FAR FAR

107 Display of Hotline Poster(s) Except when the contract is for the acquisition of a commercial item or will be performed entirely outside the United States, the FAR clause Display of Hotline Poster(s) is required if the contract exceeds $5,000,000 or a lesser amount established by the agency and the agency has a fraud hotline poster or when the contract is funded with disaster assistance funds. 10

108 Display of Hotline Poster(s) The general requirement is to prominently display any agency fraud hotline poster (or any identified Department of Homeland Security (DHS) fraud hotline posters) in common work areas within business segments performing work under the contract and at contract work sites. If the contractor has implemented a business ethics and conduct awareness program, including a reporting mechanism, such as a hotline poster, then the contractor does not need to display any agency fraud hotline posters other than any required DHS posters. FAR

109 Display of Hotline Poster(s) The contractor is required to include and have included the substance of this clause in all covered subcontracts that exceed $5 million, except when the subcontract is for the acquisition of a commercial item or will be performed entirely outside the United States. 10

110 Business Ethics and Conduct Contractor Code of Business Ethics and Conduct Disclosure Regarding Certain Violations Less than $5M and 120 days Greater than $5M and 120 days Business Ethics Awareness and Compliance Program (BEACP) Internal Control System (ICS) Applicability "Must" "Should" Yes Applies to contracts greater than $5M and 120 days. Does not apply to small business and commercial items Flow Down "Must" "Should" Include the substance in subcontracts over $5M and 120 days FAR Clause None. See None. See

111 Disclosure Regarding Certain Violations The contractor must timely disclose to the government, in connection with the award, performance, or closeout of a government contract performed by the contractor or a subcontract awarded thereunder, credible evidence of a violation of federal criminal law involving fraud, conflict of interest, bribery, or gratuity violations found in Title 18 of the U.S. Code or a violation of the civil False Claims Act. This requirement is listed as a must because the contractor may be suspended and/or debarred for failure to disclose under the requirements of FAR (a)(2). 110

112 Contractor Code of Business Ethics and Conduct FAR Policy Government contractors must conduct themselves with the highest degree of integrity and honesty. Contractors should have a written code of business ethics and conduct. To promote compliance with such code of business ethics and conduct, contractors should have an employee business ethics and compliance training program and an internal control system that Are suitable to the size of the company and extent of its involvement in government contracting; Facilitate timely discovery and disclosure of improper conduct in connection with government contracts; and Ensure corrective measures are promptly instituted and carried out. 111

113 Contractor Code of Business Ethics and Conduct The policy does not have a companion clause. Instead, the FAR states that this policy applies as guidance to all government contractors. Note the should nature of FAR (b), especially as it relates to (b)(2), where the contractor should discover and disclose improper conduct in connection with government contracts with the reasonable interpretation that a subcontract is in connection with government contracts. 112

114 Contractor Code of Business Ethics and Conduct For Contracts Greater than $5 Million and 120 Days When the value of the contract is expected to exceed $5 million and the performance period is 120 days or more, the FAR clause Contractor Code of Business Ethics and Conduct is used in solicitations and contracts. The contractor must include the substance of this clause, including the requirement to further flow-down the clause in subcontracts that have a value in excess of $5 million and a performance period of more than 120 days. The flow down must make clear that all disclosures of violations of the civil False Claims Act or of federal criminal law shall be directed to the government. FAR (a) and FAR (d). 113

115 Contractor Code of Business Ethics and Conduct For these contracts, FAR (b)(1) (3) states: Within 30 days after contract award, unless the contracting officer establishes a longer time period, the contractor shall Have a written code of business ethics and conduct; and Make a copy of the code available to each employee engaged in performance of the contract. The contractor shall Exercise due diligence to prevent and detect criminal conduct; and Otherwise promote an organizational culture that encourages ethical conduct and a commitment to compliance with the law. 114

116 Contractor Code of Business Ethics and Conduct The contractor shall timely disclose, in writing, to the agency Office of the Inspector General, with a copy to the contracting officer, whenever, in connection with the award, performance, or closeout of this contract or any subcontract thereunder, the contractor has credible evidence that a principal, employee, agent, or subcontractor of the contractor has committed A violation of federal criminal law involving fraud, conflict of interest, bribery, or gratuity violations found in Title 18 of the United States Code; or A violation of the civil False Claims Act (31 U.S.C ). 115

117 BEACP and ICS There are further requirements, but they do not apply to small businesses and to commercial items. The requirements call for a Business Ethics Awareness and Compliance Program (BEACP) and an Internal Control System (ICS). FAR (c). 116

118 BEACP The BEACP must include reasonable steps to communicate periodically and in a practical manner the contractor s standards and procedures and other aspects of the contractor s BEACP and ICS, by conducting effective training programs and otherwise disseminating information appropriate to an individual s respective roles and responsibilities. Further, The training conducted under this program shall be provided to the contractor s principals and employees, and as appropriate, the contractor s agents and subcontractors. FAR (c)(1)(i). 117

119 Internal Control System (ICS) The ICS must establish standards and procedures to facilitate timely discovery of improper conduct in connection with government contracts and ensure corrective measures are promptly instituted and carried out. FAR (c)(2)(i)(A) (B). 118

120 Internal Control System (ICS) At a minimum, the contractor s ICS must provide for the following. Assignment of responsibility at a sufficiently high level and adequate resources to ensure effectiveness of the business ethics awareness and compliance program and internal control system. Reasonable efforts not to include an individual as a principal, whom due diligence would have exposed as having engaged in conduct that is in conflict with the contractor s code of business ethics and conduct. 119

121 Internal Control System (ICS) Periodic reviews of company business practices, procedures, policies, and internal controls for compliance with the contractor s code of business ethics and conduct and the special requirements of government contracting, including Monitoring and auditing to detect criminal conduct; Periodic evaluation of the effectiveness of the business ethics awareness and compliance program and internal control system, especially if criminal conduct has been detected; and Periodic assessment of the risk of criminal conduct, with appropriate steps to design, implement, or modify the business ethics awareness and compliance program and the internal control system as necessary to reduce the risk of criminal conduct identified through this process. 12

122 Internal Control System (ICS) An internal reporting mechanism, such as a hotline, which allows for anonymity or confidentiality, by which employees may report suspected instances of improper conduct, and instructions that encourage employees to make such reports. Disciplinary action for improper conduct or for failing to take reasonable steps to prevent or detect improper conduct. 12

123 Internal Control System (ICS) Timely disclosure, in writing, to the agency [Office of the Inspector General], with a copy to the contracting officer, whenever, in connection with the award, performance, or closeout of any government contract performed by the contractor or a subcontract thereunder, the contractor has credible evidence that a principal, employee, agent, or subcontractor of the contractor has committed a violation of federal criminal law involving fraud, conflict of interest, bribery, or gratuity violations found in Title 18 U.S.C. or a violation of the civil False Claims Act (31 U.S.C ). 12

124 Internal Control System (ICS) The disclosure requirement for an individual contract continues until at least three years after final payment on the contract. The government will safeguard such disclosures in accordance with paragraph (b)(3)(ii) of this clause. Full cooperation with any government agencies responsible for audits, investigations, or corrective actions. FAR (c)(2)(ii)(A) (G). 12

125 Review Subcontract Kickbacks Unreasonable Restrictions on Subcontractor Sales Display of Hotline Poster(s) Disclosure Regarding Certain Violations Contractor Code of Business Ethics and Conduct Business Ethics Awareness and Compliance Program (BEACP) Internal Control System (ICS) 12

126 Summary The federal government ethics and compliance requirements significantly impact the subcontracting process. The requirements can vary from basic to complex. The requirements may be required to be flowed down to many tiers. The flow-down criteria for the ethics and compliance requirement are different and sometimes overlapping. The result is the prime contractor must not only ensure that its own organization is in compliance, but also must ensure that its subcontractors are conducting themselves with the highest degree of integrity and honesty. 12