In what has been described by the U.S. Department of Transportation (USDOT) as the largest reported Disadvantaged Business Enterprise (DBE) fraud in the nation’s history, a jury recently convicted the owner and president of a government contractor on multiple counts of conspiracy to defraud the USDOT, mail fraud, wire fraud, conspiracy to commit money laundering and money laundering.

Joseph W. Nagle, the president and part-owner of Schuylkill Products Inc. (SPI) and its wholly-owned subsidiary CDS Engineers Inc. (CDS), was involved in a scheme that lasted for more than 15 years and involved more than $136 million in government contracts. SPI manufactured concrete bridge beams used on highway construction projects in Pennsylvania and surrounding states, and CDS installed SPI’s bridge beams, as well as other suppliers’ products. Most of the highway and construction projects were performed under contracts with the Pennsylvania Department of Transportation (PennDOT), and the Southeastern Pennsylvania Transportation Authority (SEPTA). These projects are often funded by the USDOT on the condition that small businesses, owned and operated by disadvantaged individuals, receive a fair share of federal funds.

Mr. Nagle was convicted of participating in a scheme where he and other executives at SPI diverted more than 300 PennDOT and SEPTA construction contracts set aside for DBEs to SPI and CDS by using a small Connecticut highway construction company, Marikina Construction Corporation, as a “front.” Although SEPTA and PennDOT awarded Marikina the DBE contracts, all the work was performed by SPI and CDS, paying Marikina a small fixed fee set by SPI. SPI and CDS personnel also pretended to be Marikina employees by using Marikina business cards, e-mail addresses, stationery, and signature stamps, as well as using magnetic placards and decals bearing the Marikina logo to cover up SPI and CDS logos on their vehicles. Four former executives associated with SPI, CDS, and Marikina entered guilty pleas for their roles in the scheme.

These convictions are the latest examples of federal and state agencies’ focus on fraud, waste and abuse in programs that benefit small and minority-owned businesses. As noted in a previous GT Alert (Aftermath of GTSI Suspension: Heightened Investigations of Small Business Programs and Contractors, Dec. 2010), the Small Business Administration (SBA) has suspended large and small businesses from receiving government contracts where small businesses were alleged to have acted as fronts for large businesses. In those cases, the SBA suspensions were based on the large business holding itself out as the contractor to third parties, using email addresses of the small business prime contractor, preparing proposals for the small business and creating invoices using the prime contractor’s letterhead. This most recent case is an important reminder that, in addition to suspension and debarment, individuals may also face criminal liability, including imprisonment, fines and mandatory restitution, if convicted of perpetrating a fraud through a federal or state-managed small business program.

Large and small businesses working together under a small business or set aside program must realize that their relationships will be scrutinized by government agencies and prosecutors to determine whether the small business is actually performing the work and receiving the appropriate amount of profit. Any supply, services or construction contract set aside for small or disadvantaged businesses will likely contain a limitation on subcontracting clause. This clause requires the small business prime contractor to perform a certain percentage of the work rather than subcontract it to other firms. Under SBA rules, small businesses must also be concerned about being found affiliated with large businesses under the “ostensible subcontractor” rule, where the small business prime contractor and large business subcontractor are found to be affiliated (thus making the small business potentially ineligible to compete under a particular size standard), because the large business subcontractor performs primary and vital requirements of the contract or the small business prime contractor is unusually reliant on the subcontractor. Contractors that do not acknowledge these rules when entering into subcontracts, teaming agreements and joint ventures could face protests relating to their size and eligibility to bid on a particular contract or, worse, investigations of their businesses and allegations of civil fraud and criminal liability. -->