Fraud Found Pervasive in Area Defense Firms : 4-Year Probe Uncovers Sweeping Bid-Rigging and Bribery Schemes, Leads to 97 Convictions

It was bidding time again at Hughes Aircraft Co., and this time purchasing supervisor Philip Kaiser told a parts supplier that he did not want another European vacation. This time, he wanted a Chevrolet Camaro Berlinetta.

But the supplier, which had already spent $11,000 sending Kaiser to Europe twice to obtain business from Hughes, balked.

As the FBI secretly recorded the conversations, the parts supplier continued to resist demands to pay for the car. Eventually, the contract and, prosecutors believe, the tab for the car went to two competing suppliers.

Sweeping Investigation

For the last four years, the FBI has eavesdropped on similar conversations, documenting contacts among procurement managers, buyers and supervisors in the Southern California defense industry in a sweeping bribery and kickback investigation.

Even as a massive two-year investigation in Washington has begun to spotlight allegations of fraud at the highest levels of the nation’s defense procurement system, the low-profile investigation--known for a time as Operation DEFCON--has documented how corruption has become a virtual way of life in much of the middle-management sector of the defense industry.

And, taken together, the two investigations suggest that overpricing as a result of bid-rigging, payoffs, kickbacks and other forms of impropriety may have led to inflation of the nation’s $300-billion defense budget on a significant scale.

Decisions about which subcontractors supplied parts for projects as critical to national defense as the stealth bomber or the Strategic Defense Initiative, the DEFCON investigation disclosed, often depended on gifts of cocaine to the buyer or secret cash payments to the procurement manager. The bidding process, theoretically designed to guarantee the lowest possible price on parts for the government, was often a sham designed to allow everyone to submit an inflated bid and share in the profits.

The buyers on the take came from small, mid-level supply firms and from some of the nation’s top aerospace manufacturers, including managers at Hughes Aircraft, Northrop Corp. and Rockwell International Corp. In some cases, it was the companies themselves that brought the problems to authorities. (Since 1986, partly because of Operation DEFCON, defense contractors are required to report these cases to federal authorities.)

So far, federal prosecutors have an impressive string of 97 defense-industry convictions since 1985 and have recovered more than $50 million in fraudulent payments. Kaiser of Hughes Aircraft was sentenced in 1985 to two years in prison and fined $10,000. Seven of his co-workers at Hughes also were convicted.

Federal investigators in Southern California say they are not surprised by allegations in the Washington investigation that payoffs may have gone as high as the Pentagon.

“It is my opinion that kickbacks on defense subcontracts are a pervasive, longstanding practice which has corrupted the subcontracting process at most, if not all, defense contractors, and infected most, if not all, defense procurement programs within Southern California,” Robert C. Bonner, U.S. attorney in Los Angeles, told a Senate subcommittee recently.

Indeed, witnesses who worked with the government on the investigation said they told the FBI long ago that former Pentagon officials who were being hired as “consultants” by major aerospace companies had no real duties except to obtain information--and contracts--from the Pentagon.

‘Right From the Top’

“I talked about all of this that’s coming out now 2 1/2 years ago, and they laughed at me,” Rex Niles, one of the key DEFCON witnesses, said in an interview last week. “There was no way that I or anybody else could do any business if we didn’t pay kickbacks, but you can see where it came from; it was right from the top; it bled down. Everybody had to grease somebody to get something done.”

Nor has the problem in Southern California gone away with recent prosecutions. Rather, it has simply gone further underground, as buyers and managers devise more elaborate ways of concealing bribes and kickbacks, many of those closest to the investigation say.

Treated Like Accident

“It’s sort of like the way most people in L.A. treat an accident on the freeway,” Fred Heather, the former assistant U.S. attorney who headed the case, said of the prosecutions. “They see it; they slow down for a minute and look at it, and 15 minutes later they’re above the speed limit again.”

It was Operation DEFCON that gave birth to many of the investigative techniques that are, in large part, being utilized in the Pentagon “Ill Wind” probe, investigators here say, because DEFCON agents conducted seminars around the country last year on how to conduct defense fraud investigations.

Use of Tapes Cited

“A lot of our techniques, I think, are being adopted by what you see in this current bribery investigation,” Heather said. “The taking of (secretly recorded) tapes into initial interviews with suspects and the playing of tapes in order to flip them into cooperating with the government to go after other people, these are all things that were developed in DEFCON.”

Rodney Hansen, head of the Inspector General’s Defense Criminal Investigative Service in Southern California, said an additional technique developed under DEFCON is one in which investigators ask employees to sign statements asserting that they have never taken anything of value or conducted a business relationship with outside suppliers--effectively preventing them from asserting later that money they may have received was a loan or a business matter unrelated to a defense contract.

Although DEFCON officially concluded last year, the defense fraud cases have continued unabated, producing new indictments as recently as last week. Since the start of the DEFCON operation, the Defense Criminal Investigative Service office in Southern California has grown from six agents to 40.

In addition, Hansen credits the California investigation with having led to the establishment of other defense fraud task forces across the country, most recently a team in Salt Lake City, which has produced 14 defense fraud indictments, and another in San Diego, where indictments should be returned in the next six months.

Kickbacks Common

The original DEFCON cases and those that followed--some of which are still being prosecuted--disclosed that kickbacks are a common way of obtaining subcontracts on key defense projects. Moreover, witnesses testified that subcontractors who refused to pay off suppliers were often shut out of the industry.

In one case, a former manager for procurement on Northrop’s stealth bomber program, Ronald Brousseau, was recorded as telling a supplier that he planned to retire on the money he earned in kickbacks on the program.

“If I just take a little piece here and a little piece there and a little piece there, put ‘em in a shoe box and bury ‘em in the back yard . . . and don’t get greedy, you know, a nickel here and a nickel there,” Brousseau said in one secretly taped conversation.

“Everybody’s gonna get fat and everybody’s gonna be happy, and at 55 I’m gonna say: ‘Goodby, guys, I’m gonna buy my little cabin and my fishing boat on a river.’ ”

Brousseau, according to government documents, demanded 5% of the amount of the subcontracts he awarded, plus 25% of any “bumps”--a common practice, officials say, in which, for a share in the inflated price, buyers authorize contracts at well above the amount a supplier bids.

Brousseau eventually pleaded guilty to two counts of mail fraud and one count of receiving kickbacks on government contracts. He admitted receiving a $4,000 bribe in June, 1984, in exchange for a subcontract on the stealth bomber program.

10% Kickback on Contract

Richard Herbert, former vice president and general manager for Teledyne Camera Systems’ Arcadia facility, awarded contracts for machine parts to be used in sophisticated defense camera systems to a Westminster company with the understanding that he would receive a kickback of 10% of the value of the contract.

Federal prosecutors said Herbert directed the subcontractor to make his kickback checks payable to a shell company he had set up, appropriately dubbed “Profit Maker Enterprises.”

He pleaded guilty to two counts of mail fraud and was sentenced to a six-month term.

Ralph Affinito, one-time supervisor in Hughes Aircraft’s electro-optical and data systems group, was accused by a federal grand jury of collecting payoffs from a variety of subcontractors, including $20,000 he allegedly collected from Hughes suppliers after he left the company and went to work as a purchasing supervisor at Rockwell Corp.

Richard Haskell, who is former co-owner of a small Chatsworth manufacturing firm and worked under cover for the government, testified that he personally paid Affinito $25,000 in cash and a Cadillac Biarritz.

Higher ‘Courtesy’ Bids

On one occasion, he said, he went to Affinito’s house and found a stack of blueprint drawings, which he said Affinito began to systematically categorize according to which supplier would be allowed to win the contract and which supplier would, as a courtesy, bid higher to guarantee winning a later contract--an illegal process known in the trade as “courtesy bidding.”

“I’d say: ‘Well, I could make this particular part for $100,’ and Mr. Affinito said: ‘Well, perhaps that could be manufactured for $150.’ ”

Affinito, whose lawyers denied that he had ever taken kickbacks and suggested that Haskell had accused him to save himself, was acquitted on a conspiracy charge stemming from the Hughes kickback allegations. But he was convicted on charges stemming from a sophisticated scheme he allegedly set up later at Rockwell, in which he diverted an estimated $500,000 in Rockwell subcontracts to a business in which the government claims he had a secret ownership interest.

The conviction was subsequently overturned by a federal judge as a result of a new interpretation of the mail fraud statute that Affinito’s lawyers argued rendered Affinito’s conduct innocent. A grand jury returned a second indictment, accusing Affinito under a different legal theory, but that indictment is on hold pending appeal of the original indictment.

Estimated 50% Took Kickbacks

In any case, these men were hardly renegades in the industry, authorities say. Bonner has estimated that up to 50% of the buyers or front-line procurement personnel at major contractors were taking kickbacks at the time DEFCON was started.

“There had developed a kind of arrogance among people in the industry that they could get away with murder,” Heather said.

Niles, who asserts that he paid several million dollars in bribes and kickbacks during his year as a manufacturers’ representative, said many of those most deeply entrenched in payoff schemes cannot afford to get out.

“It’s business as usual,” Niles said, “because the life styles of all those individuals have been built around the money they take above the table, and the money they take below the table, or they take at lunch. They can’t change. It’s a death spiral for them.

“Think of the life style your family has become used to for so many years,” Niles said. “The orthodontia for the kids would go away; they wouldn’t be able to put money in the plate on Sunday; they wouldn’t be able to wear the expensive clothes and jewelry and ultimately start all over again in mid-life. It’s a tough choice to make after 30 years or 20 years or even 10 years of it. Because you don’t just shut those things off and expect your family and your children to understand. Maybe even yourself.”

U.S. Harassment Asserted

Indeed, DEFCON has had long-lasting impacts on Niles himself. He asserts that the government has harassed him because of his failure to cooperate in publicizing the convictions he helped produce and has complained to the FBI that he believes that the government has focused high-tech spying equipment on him in recent months.

Industry executives say the bribery and kickback problem is not nearly as widespread as government officials assert. In any case, all sides agree that the industry has taken important steps to clamp down on the problem in the years since the first DEFCON indictments.

Company officers have become much more willing to come forward to the government when they learn of wrongdoing on the part of their employees, rather than simply quietly firing wrongdoers, “so some of these old horror stories aren’t going to reoccur,” Heather said.

Indeed, it was Hughes Aircraft’s own internal investigators who first alerted the FBI to allegations about Kaiser and seven other buyers at the company, Hughes spokesmen say.

Stronger Ethics Policies

A number of companies have taken steps to strengthen their ethics policies and make sure employees know what the policies are. At Hughes, for example, it is now against policy for employees to receive any gift or gratuity worth more than $5.

“We even send out cards at Christmas time to vendors saying Merry Christmas, but don’t send any gifts,” Hughes Vice President Lee Pitt said. “But, with some 76,000 people broken up into somewhat autonomous groups, all of whom have hundreds of buyers, is everybody doing it the right way out there? You’re never really positive.”

Federal investigators in Los Angeles now are turning their attention away from bribery cases and focusing on a growing number of cases in which defense firms substitute inferior or untested parts on key defense projects.

Nearly half a dozen such indictments have been returned this year, including cases in which investigators maintain that the reliability of missile guidance systems and the airworthiness of military aircraft may have been compromised.

‘Definitely Jeopardized’

“These are the ones that bother me most as an investigator, the ones where not only did the subject of an investigation sell something to the government that was not at spec because they could pocket the money, but where our national defense is definitely jeopardized as a result of it,” said William Stollhans, head of the Los Angeles FBI’s white-collar crime unit. “The priority just goes right through the ceiling.”

But Heather said the public costs of widespread corruption in the defense industry should not be discounted.

“How do you quantify the effect of people directing work to people who are paying them kickbacks, regardless of whether or not their work is good?” he said.

“It’s an element of risk that shouldn’t be there. How do you quantify the effect of driving honest people out of business? It’s frankly shocking to me that, when you’re dealing with equipment that is so critical to our nation’s security and the safety of its armed forces, that the people that build them, that so many of them have been willing to cavalierly compromise those projects with fraud.”