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Defense contractors manufacture products and provide services to the Federal government for the military or the Department of Defense. Through false claims act lawsuits, the government has recovered massive amounts from contractors who have submitted false claims regarding those products or services. Although general contract fraud rules typically apply to defense contractors as well, there are a few unique issues that arise in the defense arena.
Military contracts typically fall into one of two categories: “fixed-price” or “cost-plus.” A fixed-price contract involves a set price for the product regardless of the cost incurred in production. Cost-plus contracts allow the contractor to charge a set price for the product plus a percentage of the cost incurred in production. Cross-charging occurs when a defense contractor has both types of contracts. Defense contractors have a strong financial incentive to charge time spent on a fixed-price contract to the cost-plus contract in order to increase profits. Cross-charging therefore occurs when the defense contractor charges to the cost-plus contract production costs that are actually attributable to the fixed-price products. This is typically done through accounting records or by instructing employees to document that they worked on the cost-plus contract when they actually worked on the fixed-price contract.
Many defense contractors sell products and services not only to the United States Military, but also to other governments or private businesses. When this occurs, defense contractors are expected to allocate their costs (including the costs of production and overhead costs) fairly among all of their different contracts. However, in an effort to be the most competitive bidder on those private or foreign contracts, defense contractors sometimes improperly allocate costs onto the “cost-plus” contracts they have with the United States government. As a result, the United States winds up paying for costs that should be incorporated into the price paid by these private businesses or foreign governments.
Another common form of fraud is when the defense contractor improperly inflates its costs to increase the charges to the United States government on a “cost-plus” contract. Generally, this kind of fraud takes the form of inflated equipment and materials costs, falsified purchase orders, and inflated time records.
The United States Military frequently uses equipment or weapons systems that are highly specialized and complex. Because of the unique nature of these products, there is often only one company that makes them, known as the “sole source supplier.” As a result, it is impossible for the Military to obtain competitive bids from a number of different manufacturers for such products. The Truth in Negotiations Act (“TINA”) requires sole source suppliers to fully and truthfully disclose all relevant information regarding production costs, and to certify that this information is complete, accurate, and current on the date of the final agreement on price. This is necessary to enable the government to determine a reasonable price to purchase the product. There may, however, be an incentive for sole source suppliers to hold back relevant information or inflate projected costs to negotiate a better price. If this conduct is deliberate, it could form the basis for a qui tam case.
Government contracts sometimes specify that the contractor use a particular grade or quality of parts or products, or use parts or products purchased from American companies. Defense contractors occasionally attempt to save costs and maximize profits by substituting cheaper substandard parts or products. If they do so without advance permission from the government’s contracting officer, there is a False Claims Act violation. Likewise, if a defense contractor delivers worthless, broken, or substandard products or services, in certain circumstances, it could violate the False Claims Act.
Government contracts also frequently include additional service-oriented steps required to maintain quality assurance, complete necessary testing, or comply with other required steps in the production process. If a defense contractor intentionally fails to complete these steps, it may be a violation of the False Claims Act.
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