Aronie: Don't be a target

The General Services Administration schedule contracting community is reeling as yet another major office-products vendor enters into a multimillion-dollar False Claims Act settlement with the Justice Department to resolve alleged violations of the Trade Agreements Act.

OfficeMax paid $9.8 million in May to settle allegations that it sold noncompliant products through its GSA schedule contract. Office Depot followed suit with a payment of $4.7 million in September. Most recently, Staples added its name to the list with a $7.4 million settlement to resolve similar allegations.

The size of those payments is not particularly notable, relative to other prominent settlements. But their origins are noteworthy.

Unlike most False Claims Act cases, which current or former employees initiate, a competitor initiated each of the three cases mentioned. (The act gives citizens the right to bring fraud lawsuits in the name of the government and collect a portion of the money recovered.) Although the use of the False Claims Act as a competitive weapon is not without precedent, the practice hadn't progressed to the GSA schedules until now.

In October 2004, GSA's industrial operations analysts -- those friendly individuals whom GSA steadfastly refuses to call auditors -- added compliance with the act to the list of items they will review in the course of their euphemistically named "customer assistance visits." The analysts will bring instances of noncompliance identified in the course of those reviews to the attention of the contracting officer and, in egregious cases, to the attention of GSA's Office of Inspector General. Not an audit, my foot.

Why the recent focus on the Trade Agreements Act, given that the law has been around since 1979?

The act's newfound popularity is probably the result of a number of factors beyond the recent office-products settlements, including a pending lawsuit in which a schedule contractor is arguing that its products are exempt from the act under the war products exception, industry's increasingly vocal opposition to the act as it applies to commercial items and GSA's so far unsuccessful struggle to develop a practical response to that opposition.

To understand industry's fervent opposition, it helps to understand the act itself. Where it applies, the law requires vendors to propose and subsequently sell only products made -- the technical term is "substantially transformed" -- in an eligible country. Eligible countries are those with which the United States has a trade agreement. Examples include Mexico, Canada, England, France, Japan and Norway, among many others.

Countries that are not eligible -- to the dismay of many in the information technology industry -- include Taiwan, Malaysia, South Africa and China.

The Trade Agreements Act imposes a wholesale preclusion on the sale of products that do not comply with the act. Contrast this to the Buy American Act, which permits the offer of noncompliant products but imposes an evaluation penalty on such offers.

As GSA advises vendors, "When you signed your contract, you certified that all end products offered on your contract comply with the [Trade Agreements Act]. This applies to all of the products on your contract, whether you have one product or 10,000. The [act] applies to services, too."

Companies that violate the rule do so at significant risk. Unfortunately, the act is one of the most complicated regulatory systems on the books. The Cost Accounting Standards, which are inapplicable to most commercial-items companies, probably takes home the grand prize in this regard.

Take, for example, the act's "substantial transformation" test. The test asks vendors to identify the point in time when a collection of components became a different end product with a different name, use and character. Making this determination involves asking a number of subjective questions such as: How complex was the manufacturing process? What did it involve? How long did it take? Was it expensive? Were the individuals performing the work specially trained?

Complicating the matter still further is a lack of clarity in the regulations themselves. With regard to services, for example, the rules require that they be performed by a company "established" in an eligible country. What did the drafters of the Federal Acquisition Regulation mean by established? The FAR provides no answer.

Here's another example. The FAR tells us that "war materials" are exempt under the act. But again, contractors are left to their own devices to figure out what constitutes war materials. Is a knife a war material? How about a compass? A soldier's jacket? A sailor's hat? What about maps or a pen designed for desert use? The FAR provides no clear answers.

What is clear, however, is what schedule contractors should be doing to ensure their compliance with the act. Here is a partial list.

• Immediately go to your manufacturing and/or purchasing department and ensure that all of your current GSA schedule offerings meet the requirements of the Trade Agreements Act. Go now. What are you waiting for? Remove noncompliant items from the schedule at once or, where permitted in writing by the agency contracting officer, identify them clearly as "open market" and not sold to buyers through the schedule program.
• If you manufacture your own schedule products, assign someone in your company the responsibility for determining whether your products meet the act's requirements. You will probably want to involve your legal department in this process. A best practice in this area, by the way, is to have the owner of the compliance process certify, for internal use only, his or her findings and provide those findings to your company's cognizant contract administrator.
• Develop a process in which every new product destined for your GSA schedule contract goes through a Trade Agreements Act analysis before you add them.
• If your schedule contract includes products manufactured by others -- whether you are a reseller or a "manufacturer" that outsources its manufacturing -- obtain a written certification from the manufacturer that the product meets the Trade Agreements Act's requirements. Don't rely on a North American Free Trade Agreement certification, should you have one. The tests are not the same.
• Maintain accurate records.
• Implement an internal process and an accompanying written policy to regularly update Trade Agreements Act certifications from suppliers. Likewise, develop a process for reassessing your own compliance decisions on a routine basis. A change in your manufacturing process could affect a prior determination about compliance.
• If you're selling both compliant and noncompliant products to a schedule buyer, clearly disclose to the government, in writing, which products do not meet the requirements of the act and clearly document that such items are not being sold under your schedule contract. I advise my clients to include this disclosure on price quotes and invoices.
• Don't think that bundling compliant and noncompliant products renders the system compliant. Different contracting officers have different views on this practice, and the Customs and Border Protection agency often takes yet another view.
• Train your people well -- not only your manufacturing and purchasing employees, but also the sales and marketing team. They need to know how to respond to questions from prospective federal buyers and prime contractors.

Those activities will go a long way toward helping companies avoid the fate that recently befell the office-products industry.

False Claims Act plaintiffs' attorneys -- the professional collective of individuals who make a living (and a decent one at that) suing government contractors under the False Claims Act -- are extremely active and aggressive. Where a government contracts attorney like me sees a contractual mistake, they see recklessness.

Having apparently found a target of opportunity in the office-products industry, those attorneys will not stop there. So where will they set their sights next? Your guess is as good as mine. But if you have any friends in industries that import components from, say, Taiwan or perform services in, say, Russia, you might want to give them a heads-up.

Aronie is a partner in the government contracts group of Sheppard, Mullin, Richter and Hampton in Washington, D.C., and co-author of "Multiple Award Schedule Contracting." He can be reached at jaronie@sheppardmullin.com or (202) 218-0039.