Payment of Kickbacks by Subcontractors and Purchasing System Weaknesses at Raytheon Company's Microwave and Tube Division, Waltham, Massachusetts

Published by the Government Accountability Office on 1977-10-06.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                              DOCUMENT   ESUMr,
03848 -   [B2854102]

[Payment of Kickbacks by Subcontractors and Purchasing System
Weaknesses t Raythecn Company's Microwave and Tuba Division,
Waltham, MaEsachusetts]. PSAD-77-166; B-177'/48. October 6, 1977.
2 pp.     enclosure    (8 pp.).

Report to Secretary, Department of Defense; by Richard W.
Gutmann, Director, Procurement end Systems Acquisition Div.

Issue Area: Federal Procurement of Goods and Services:
    Reasonableness of Prices Under Negotiated Contracts and
    Subcontracts (19C4).
Contact: Procurement and Systems Acquisition Div.
Budget Function: National Drense: Department cf Defense -
    Procurement & Contracts (058).
Organization Concerned: Raytheon Co.
Congressional Relevance: Hcuse Committee on Armed Services;
    Senate Committee on Armed Services.
Authority: Anti-Kickback Act, sec. 3, as amended (41 U.S.C.
    51-54). A.S.P.R. 23.

          Three subcontractors admitted paying an estimated
$125,00C in kickbacks to the buyer for the Raytheon Company,
 Microwave and Power Tube Division, icrowave Tube Operation, in
return for purchase crders placed in support of negotiated
Defense contracts awarded to Raytheon. The three subcontractors
admitted paying kickbacks to the Raytheon buyer from about 1962,
 1970, and 1971, respectively, until April 1975.
Findings/Conclusions: About $46,000 of the $125,000 paid to the
Baytheon buyer by the subcontractors may be recoverable on
behalf of the Uni'ted States This is the amount whicL can be
documented as kickbacks pail from 1970 through April 1975
related to negotiated Cov-rnment prime contracts. Much of the
documentation for the period prior to 1970 was destroyed by the
time of the review of the case. Inadequacies in some company
procurement policies and procedures, failure tc follow others,
and general inattention by Raytheor's management to its
purchasing operation contributed t the creaticn of an
environment in which the kickbacks were paid for 13 years.
Recommendations: The Secretary of Defense should initiate action
to recover the $46,000 in kickbacks which has been documented.
The Secretary should also circulate this case t all Defense
contract administration offices as an illustration of serious
internal control and procurement problems. There is a need for
an anti-kickback contract clause prohibiting gifts and
gratuities to serve as a means of fostering public policy
against giving kickbacks, gifts, and gratuities. (SC)
                                     WASHINGTON, D.C. 20548


            B-177748                                 OCT 0 6   77

            The Honorable
            The Secretary of Defense

            Dear Mr. Secretary:

                  We have reviewed selected purchase orders placed by the
            Raythecn Compary, Microwave and Power Tube Division, Microwave
            Tube Operation, Waltham, Massachusetts, in support of negotiated
            Defense contracts awarded to Raytheon. The U. S. attorney's
            office in Boston referred this matter to us after a Raytheon
            buyer pleaded guilty to four charges of receiving kickbacks
            from subcontractors. Our authority for the review is
            section 3 of the Anti-Kickback Act, as amended (41 U.S.C.

                  Three subcontractors admitted paying an estimated
            $125,000 in kickbacks to the buyer, one for as long as 13
            years, to sezure or retain Raytheon business. However,
            only about $46,000 may be recoverable for the United
            States because pertinent contractor and subcontractor
            records prior to 1970 are no longer available. We recommend
            that you initiate action to recover the $46,000 in kickbacks
            we were able to document. (See enc. 1, p. 4.)
                 Iln our opinion, inadequacies in some company procurement
            policies and procedures, failure to follow others, and
            general inattention by Raytheon's management to its purchasing
            operation contributed to the creation of an environment in
            which kickbacks were paid for 13 years. We recommend
            that you circulate this case to all Defense ontract
            administration offices as an illustration of serious internal
            control and procurement problems.   (See enc. 1, p. 8.)
                  In the past we have made recommendations to you
            concerning the need for a contract clause prohibiting gifts
            and       'ties. This case is further evidence that an anti-
            kic        I      s needed as a means of implementing public
            polic              ing kickbacks, gifts, and gratuities.
            (See enL           )


     As you know, section 236 of the Legislative
Reorganization Act of 1970 requires the head of a Federal
agency to submit a written statement to the Houise Committee
on Government OpeLations and the Senate Com-ittee on
Governmental Affairs on actions taken on our recommendations
not later than 60 days after the date of the report and
to the House and Senate Committees on Appropriations with
the agency's first request for appropriations made more
than 60 days after the date of the report.

     Copies of this letter are being sent to the Director,
Office of Management and Budget; the Attorney General of the
United States; the Administrator, Office o Fderal
Procurement Policy; the Secretaries of the Air Force,
Army, and Navy; and the Raytheon Company.

     In an enclosure we are providing a more detailed
discussion of the facts summarized above.

                              Sincerely yours,

                              R. W.    tmann

ENCLOSURE 1                                          ENCLOSURE 1




     Because of the Comptroller General's responsibility
under the Anti-Kickback Act, the First Assistant U.S.
Attorney, Boston, requested GAO's determination of the
amount of kickbacks believed to have been paid to the
former buyer of Raytheon while that company was holding
Defense contracts with the Government.

     The Anti-Kickback Act prohibits paying any gift or
gratuity by or on behalf of a subcontractor to an employee
of a prime contractor holding a negotiated contract with
the Government, either as an inducement for the awaird of
the contract or as acknowledgement of a subcontract
previously awarded. The act presumes that the cost of
such gifts or gratuities (commonly called kickbacks) is
ultimately born- by the Government. The act provides
for recovering amounts paid as kickbacks from the
subcontractor by withholding moneys owed a subcontractor
under other contracts by the Governnent or by a prime
contractor, or by civil court actioi against the
subcontractor or the recipient o the kickback. The act
does not provide for recovery from the prime contractor
when action against the subcontractor or kickback recipient
is not feasible. GAO is authorized to inspect the plants
and to audit the books and records of any prime contractor
or lower tier subcontractor engaged in a negotiated contract
to determine whether kickbacks have been paid.


     The Microwave Tube Operation produces microwave tubes
for Government radar installations and missile systems
throughout. the world and for commercial applications. In
1975, the Operation had sales of about $42 million, about
$28 million, or 67 percent, of which were to the Government.
ENCLOSURE 1                                       ENCLOSURE 1

     The Operatizn.s purchasing department places large
numbers of low dollar value purchase orders. About 75
percent of all purchase orders are under $500. The
purchasing department is headed by a procurement manager
who is aut rized to sign purchase orders of up to $5C,000.
Two supervisory buyers have approval authority up to
$1,000 and six buyers have authority up to $500. The 2
supervisors and 6 buyers each place 8 to 10 purchase
orders a day. The person who pleaded guilty to accepting
kickbacks from subcontractors was a supervisory ber.

The kickback scheme

     Three subcontractors admitted paying kickbacks to
the Raytheon buyer from about 1962, 1970, and 1971,
respectively, until April 1975. All three subcontractors
had agreed to give the buyer   ickbacks to receive work.
     The three subcontractors estimated they had paid a
total of about $125,000 in kickbacks. Hovever, as discussed
late:, all of this is probably not recoverable by the
Government because of insufficient documentary evidence.

     The kickbacks, always made in cash, amounted to 2-1/2
to 5 percent of the labor cost portion of the subcontracts.
One subcontractor made weekly payments, one made mcnthly
payments, and one paid when requested by the buyer. The
subcontractors concealed the payments in their accounting
records by drawing checks for cash or for additional salary
payments and bonuses to officers.
     In February 1974, Raytheon's buyer attempted to raise
the kickback rate paid by one subcontractor from 4 to 5
percent. The subcontractor refused to pay and attempted
to get other subcontractors to assist in stopping the
kickbacks.   bout February 1975, two subcontractors disclosed
the kickback scheme to Raytheon officials.

The criminal   rosecution
     Raytheon investigated the matter for about 1 month
and gained the cooperation of the third subcontractor.
In March 1975, Raytheon turned the matter over to the
Federal Bureau of Investigation (FBI) in Boston.

ENCLOSURE 1                                       ENCLOSURE 1

     The buyer was arrested by the FBi in April 1975 while
accepting a $753 kickback and was immediately dismissed
by Raytheon. At that time, Raytheon held several Army,
Navy, Air Force, and Defense Logistics Agency negotiated
contracts. The subcontractors were furnishing articles
and services required by Raytheon for the performance
of the negotiated Government contracts.

     In October 1975, a Federal grand jury in Boston
returned a 16-count indictment charging the former
Raytheon buyer with accepting kickbacks n connection
with Government contracts. Three subcontractors admitted
paying kickbacks to the former buyer and testified against
him. Another six subcontractors denied giving kickbacks
to the former buyer.

      In February 1976, the former buyer pleaded guilty
to the first four counts of the indictment and repaid
$2,447.   The U.S. Attorney for the District of Massa-
chusetts dismissed the remaining 12 counts which involved
$2,965 in kickbacks. This amount has not been recovered
for the Government.
     The former buyer received a prison sentence of 2
years, with 3 months actual confinement and 2 years
probation. The three subcontractors who admitted paying
the kickbacks were not prosecuted.

Amount of kickbacks to be
recovered for the United States
     We found that about $46,n00 paid o the Raytheon
buyer by the three subcontractors, in addition to the
$2,447 cited above, may be recoverable on behalf of the
United States. This is the amount we were able to document
as kickbacks paid from 1970 through April 1975 related
to negotiated Government prime contracts.

     All three subcontractors stated that they had paid
kickbacks on all orders received from the Raytheon buyer
during this 1970-75 period. Although the subcontractors
estimated they paid about $125,000 from about 1962 to
1975, we could not verify kickbacks paid prior to 1970
because much of the prime contractor and subcontractor
documentation for that period had been destroyed by the
time of our review in 1976.  In addition, the total
amount includes kickbacks not related to neqgoiated
Government prime contracts.

                            - 3-
ENCLOSURE 1                                       ENCLOSURE 1

     In establishing the $46,000 figure we were assisted
by the three subcontractors and Raytheon officials. While
the subcontractors would not specifically state that the
amounts we calculated were the amounts they actually
paid, they gave us the "kickback rate," identified the
purchase orders involved, and disclosed the method of
Conclusion and recommendation

     Three Raytheon subcontractors paid kickbacks far
in excess of the amount which the convicted buyer repaid.
Under the Anti-Kickback Act, it is conclusively presumed
that any kickback paid by a subcontractor was included
in the prime contract price and ltimately borne by the
Government. We recommend that the Secretary of Defense
initiate action to recover the $46,000 in kickbacks we
were able to document.
     At the time of the buyer's arrest in April 1975,
Raytheon's internal auditors were examining the Microwave
Tube Operation purchasing department. This audit was
terminated after the buyer's arrest, and a special audit
of 100 purchase orders issued by the arrested buyer was
initiated at he request of the Microwave and Power Tube
Division general manager. The first audit concluded
that fnancial and related operating controls and
procedures generally were adequate and complied with
company policy, but that certain problems existed.   The
second audit also disclosed problem situations. The
results of both audits were released to management on
June 30, 1975.

     We evaluated the audit results and the problem
s.tuations identified. We also made some tests of our
own to determine whether (1) weaknesses in the purchasing
department had contributed to the 13-year kickback situa-
tion and (2) tweaknesses disclosed by Raytheon's audits
had been corrected. The results of our work follow.

                           -    4-
ENCLOSURE 1                                        ENCLOSURE 1

Documenting subcontractor

     Although Raytheon's policies require that subcontractors
confirm oral quotations in writing, the first Raytheon
internal audit disclosed that 14 of 30 purchase orders,
or 47 percent, were not supported by written quotations
or other subcontractor documentation. Further, the second
audit disclosed that 86 out of a sample of 100 purchase
orders placed by the arrested buyer lacked te documentation
required by company policy.

     In responding to the second audit, the division general
manager stated that obtaining written confirmation of
oral quotations had lon4 been a problem. He indicated
that because the many small shops, which receive 75 percent
of the division's business, have limited clerical help
and do not onfirm oral quotations in writing, particularly
if they do not get the award. The official stated hat,
to correct the situation, a system would be established
to followup on overdue written quotations and that vendors
who continually failed to submit written quotations would
be dropped as qualified suppliers.

     To test the followup system, we reviewed a sample
of 35 purchase orders placed by the Operation's buyers
in 1976. Thirty-three purchase orders, or 94 percent,
were adequately documented. However, we believe that
the longstanding failure to obtain written quotations
helped create the environment in which kickbacks thrived.
Not requiring written quotations allows an unscrupulous
buyer to (1) manipulate the oral quotations received to
award subcontracts to a payer of kickbacks and (2) create
spurious quotations to give the impression that competition
Invoice payments

     Both Raytheon's second internal audit and our review
disclosed problems in the internal control over payments
of subcontractors' invoices. Raytheon's internal control
procedure is that a purchase order must be formally modified
before payment when either

     -- the quantity of materials delivered exceeds those
        ordered by the lesser of $100 or 10 percent of
        the purchase order value, or

                             -   5-
ENCLOSURE 1                                        ENCLOSURE 1

     -- price increases exceed the lesser of $25 or 5
        percent of the total purchase order value.
The Raytheon audit of 100 urchase orders placed by the
arrested buyer disclosed 8 violations of this rocedure.
The purchase orders for these eight instances were not
formally modified.
     We examined 100 purchase orders placed by the arrested
buyer in 1974 and the first 3 months of 975 to determine
how widespread the problem may have bee>.   We found 23
invoice payments which did not comply with the procedure
requiring purchase order modifications for overdeliveries
from subcontractors. We also found eight instances of non-
compliance with the procedure requiring purchase order
modification for price increases.

     While the total number of purchase orders examined
represents only a small percentage of the total placed by
the Microwave Tube Operation, it indicated that over-
deliveries. which were paid without formal purchase order
modification, were common with this buyer prior to his arrest.
This filure to assure adherence to Raytheon's internal
control Procedures probably contributed to the buyer's
opportunity to demand and receive kickbacks without detection.

     The Microwave and Power Tube Division acted on the
internal audit report by instructing its personnel to adhere
to company internal control procedures for changing purchase
orders and by transferring one clerk to another department.
The Operation also instituted additional controls to insure
that similar problems do not happen again. We found that
the controls were operating effectively at the time of our
Approving purchase orders

     In our review of purchase orders, we noted that the
buyer had signed purchase order? in excess of his $1,000
approval level. Accordingly, we expanded our review to
all available purchase orders placed by the buyer in
1974 and 1975 to determine wether approval authority had
been exceeded. Of these 516 orders, 252 were for $1,000
or more and shculd have been signed by a higher official.
Our review showed that 56, or 22 percent, of the 252 purchase
orders were signed by the buyer but not approved by higher

ENCLOSURE 1                                         ENCLOSURE 1

     At the time of our review, the Microwave Tube Operation
had no procedures to assure that purchase orders had correct
approval signatures and thus help prevent unauthorized
procurements.  This lack of procedures enabled the buyer to
place orders arbitrarily with favored subcontractors without
fear of detection.  Raytheon officials told us that they were
establishing a twice yearly review to ensure that purchase
orders bear the correct signatures.

Government reviews of
R      ateon_urIs   s_ tem

     The Defense Contract Administration Services Region
(DCASR) has administrative contracting responsibility for
Raytheon Company.  DCASR has never reviewed the Microwave
Tube Operation's purchasing system because the system
had not met the criteria for such reviews as set forth
in section 23 of the Armed Services Procurement Regulation
(ASPR).  According to both the DCASR administrative
contracting officer for Raytheon and a DCAS official from
its Boston regional office, the annual sales to the
Government of the Microwave Tube Operation have never
met the ASPR criteria for such a review.

     The administrative contracting officer stated that
because no review had been made, the purchasing system
was neither approved nor disapproved under section 23.
He told us that he relied on Raytheon to insure that
the purchasing system was operated in a businesslike
manner.  However, he stated that such a review should
now be made.


     The Armed Services Procurement Regulation   (ASPR) does
not requFre a specific clause in negotiated contracts
calling attention to the prohibitions and penalties of
the Anti-Kickback Act. In an earlier report to the
Subcommittee on Priorities and Economy in Government,
Joint Economic Committe, entitled, "Subcontracting by
Department of Defense i e Contractors: Integrity, Pricing,
and Surveillance," (P     6-23, Nov. 19, 1975), we
recommended that the S   .tary of Defense amend the ASPR
to require that each ,, tiated Government contract include
a clause specifically prohibiting payments of gratuities
by subcontractors to higher tier contractors. Our proposed
clause would provide a remedy, contract termination,

ENCLOSURE   1                                       ENCLOSURE 1

for action against the contractor as an alternative tc
the setoff or civil court action against the subcontractor
or civil court action against the kickback recipient
as provided for in the act.   The Secretary of Defense
deferred any action on our recommendation when the Office
of Federal Procurement Policy undertook a project to
draft a model clause prohibiting subcontractor gratuities
for all Governmer, contracts.   The model clause has been
drafted and comment? Attained from Government and industry

     In ccmmenting on the Office of Federal Procurement
Policy model clause we proposed an alternative to the remedy
of ctract: termination when k ckbacks are detected.    This
alternative involves the imposition of civil money penalties
as another approach to securing compliance with statutory
provisions or administrative regulations.  The Administrative
Conference of the United States--an independent Federal agency
established to identify and analyze the causes of administra-
tive inefficiency--adopted a recommendation in December 1972
sanctioning civil money penalties as a substitute or
supplement to criminal penalties.  Final action on the
model clause is still under consideration within th% Office
of Federal Procurement Policy.

Conclusion and Recommendation

      We are still convinced that an anti-'cickback clause
is ned     as a means of fostering public policy against
giving kickbacks, gifts, and gratuities.    The Government
has rio legal authority to seek recovery from the prime
contractor to protect the Go\rernment's interests as
well as serve as a deterrent to kickback activities
by prime contractor employees.   Our suggestions for a
contract clause would strengthen the deterrent factor    y
adding contract termination and/or civil money penalties
as possible Government actions where gratuities were
offered or accepted in the performance of Government

     We recommend that the Secretary of Defense circulate
this case to all Defense contract administration offices
as an illustration of serious internal control and
procurement problems.