United States General Accounting Office

GAO Report to the Ranking Minority Member,

Committee on Commerce, House of

Representatives

July 1995 DEFENSE

CONTRACTING

Contractor Claims for

Legal Costs Associated

With Stockholder

Lawsuits

GAO/NSIAD-95-166

GAO United States

General Accounting Office

Washington, D.C. 20548

National Security and

International Affairs Division

B-258172 

July 17, 1995

The Honorable John D. Dingell

Ranking Minority Member

Committee on Commerce

House of Representatives

Dear Mr. Dingell:

This report responds to your inquiry concerning the allowability of legal

costs resulting from stockholder derivative lawsuits associated with

defense contractor wrongdoing. As your letter indicates, the wrongdoing

involves fraudulent activities engaged in by the defense contractor named

in the stockholder lawsuit. Specifically, you requested current information

on the (1) defense procurement fraud cases, as previously reported on by

us;1

 (2) Defense Contract Audit Agency’s (DCAA) policy on the allowability

of legal fees associated with stockholder derivative lawsuits; and

(3) number of stockholder lawsuits associated with defense contractor

wrongdoing. You also asked whether reimbursement for these costs has

been a common practice.

Background The Major Fraud Act of 1988 (P.L. 100-700) and the Federal Acquisition

Regulation (FAR) addresses the allowability of defense contractors’ legal

fees and other proceeding costs related to litigation with the federal

government. However, neither the act nor the FAR expressly addresses the

allowability of legal costs associated with stockholder derivative lawsuits

based on prior corporate wrongdoing.

DCAA performs contract audit functions for the Department of Defense

(DOD) and provides accounting and financial advisory services to DOD

components responsible for procurement and contract administration. In

addition, DCAA audits costs and makes recommendations regarding the

allowability of costs claimed or proposed by contractors. We asked DCAA

for its views on the legal costs you questioned.

Results in Brief DCAA responded that, according to its research, the FAR contains no cost

principle dealing specifically with the allowability of legal fees associated

1

Defense Procurement Fraud: Information on Plea Agreements and Settlements (GAO/GGD-92-135FS,

Sept. 17, 1992). This fact sheet contained information on cases the Department of Justice brought

against the companies that received large DOD contracts in 1991 that resulted in criminal convictions

or civil settlements or judgments.

Page 1 GAO/NSIAD-95-166 Defense Contracting
B-258172 

with defending against stockholder derivative lawsuits. However, its

research concluded that such costs are unallowable under the FAR cost

principle on reasonableness of costs (FAR 31.201-3) when the lawsuit is

based on contractor wrongdoing. As a result, DCAA addressed this situation

by issuing audit guidance, on April 13, 1995, that now specifically deals

with these costs. The guidance requires auditors to question costs incurred

to defend against stockholder lawsuits related to contractor wrongdoing.

(See app. I.)

From October 1988 through December 1994, there were 72 cases involving

procurement fraud—30 criminal and 42 civil—associated with firms on

DOD’s Top 100 Contractor list.2 Criminal fines, awards, and restitution

amounts approximated $1.03 billion. (See app. II.)

It is not apparent that claiming reimbursement for stockholder derivative

legal costs is a common practice. Of these 72 procurement fraud cases,

only 13 associated with 8 companies involved stockholder lawsuits. The

legal costs of the stockholder lawsuits for the eight companies totaled

approximately $15 million; $6,232,150 was being claimed under defense

contracts by four of these contractors. (See app. III.)

Agency Comments DOD reviewed a draft of this report and concurred with its findings. (See

app. IV.)

Scope and

Methodology

We updated the list of defense procurement fraud cases through

information provided by (1) the DOD Inspector General’s Criminal Division,

the Department of Justice, the Securities and Exchange Commission, and

DCAA and (2) a literature search. This information covered cases from

October 1988 through December 1994.

To develop a list of stockholder derivative lawsuits, we reviewed those

contractors on DOD’s list of top 100 contractors that had criminal

procurement fraud convictions or had agreed to settlements in civil

actions for procurement fraud. We established which of the 100

contractors had stockholder lawsuits and reviewed the legal costs

associated with these suits.

2

DOD maintains a list of the top 100 contractors with the largest defense contracts based on dollar

amount of their contracts. DOD’s Office of the Inspector General, Criminal Division, semiannually

compiles a list of contractors, based on DOD’s top 100 contractors list, that were convicted of

procurement fraud.

Page 2 GAO/NSIAD-95-166 Defense Contracting
B-258172 

Securities and Exchange Commission officials provided us with quarterly

and annual disclosure reports that corporations are required to file.3

 These

reports contained information pertinent to stockholder litigation, if any,

against the subject corporation. We also reviewed DCAA audit reports for

the 10 contractors on our list with the highest penalties to determine if

DCAA had questioned the allowability of costs associated with any related

stockholder lawsuits.

Once our list was developed, we sent confirmation letters to 39

corporations in our universe to verify the stockholder lawsuits, legal costs

incurred, and amounts claimed for reimbursement. We received 31

responses that confirmed the number of stockholder lawsuits already

obtained from the other sources. We did not independently verify the

information obtained from the contractors or other sources. We

conducted our review from July 1994 through May 1995 in accordance

with generally accepted government auditing standards.

If you or your staff have any questions about this report, please contact me

on (202) 512-4587. The major contributors were Charles Rey, Assistant

Director; Don Watson, Evaluator-in-Charge; and Jimmy Palmer, Jr.,

Evaluator.

Sincerely yours,

David E. Cooper

Director, Acquisition Policy, Technology,

 and Competitiveness Issues

3

These reports are known as 10Q Quarterly Report pursuant to Section 13 or 15(d) of the Securities

and Exchange Act of 1934 and 10K Annual Report pursuant to Section 13 or 15(d) of the Securities and

Exchange Act of 1934.

Page 3 GAO/NSIAD-95-166 Defense Contracting
Contents

Letter 1

Appendix I 

Defense Contract

Audit Agency’s Policy

on the Allowability of

Contractor Claims for

Legal Costs

Associated With

Stockholder Lawsuits

6

Appendix II 

Criminal and Civil

Procurement Fraud

Cases Involving Top

100 DOD Contractors,

October 1988 Through

December 1994

10

Appendix III 

Contractors With

Stockholder

Derivative Lawsuits

and Associated Costs

14

Appendix IV 

Comments From the

Department of

Defense

15

Tables Table II.1: Criminal Procurement Fraud Dispositions 10

Table II.2: Civil Procurement Fraud Settlements 12

Page 4 GAO/NSIAD-95-166 Defense Contracting
Contents

Abbreviations

DCAA Defense Contract Audit Agency

DOD Department of Defense

FAR Federal Acquisition Regulation

Page 5 GAO/NSIAD-95-166 Defense Contracting
Appendix I 

Defense Contract Audit Agency’s Policy on

the Allowability of Contractor Claims for

Legal Costs Associated With Stockholder

Lawsuits

On April 13, 1995, the Defense Contract Audit Agency (DCAA) responded to

our request for information on its policy regarding the allowability of legal

costs associated with stockholder derivative lawsuits based on prior

litigation with the government. DCAA researched the allowability of these

costs and determined that there was no Federal Acquisition Regulation

(FAR) cost principle dealing specifically with them. However, because DCAA

determined that they are unallowable under the FAR cost principle for

determining reasonableness, DCAA issued the enclosed audit guidance

memorandum.

Page 6 GAO/NSIAD-95-166 Defense Contracting
Appendix I 

Defense Contract Audit Agency’s Policy on

the Allowability of Contractor Claims for

Legal Costs Associated With Stockholder

Lawsuits

Page 7 GAO/NSIAD-95-166 Defense Contracting
Appendix I 

Defense Contract Audit Agency’s Policy on

the Allowability of Contractor Claims for

Legal Costs Associated With Stockholder

Lawsuits

Page 8 GAO/NSIAD-95-166 Defense Contracting
Appendix I 

Defense Contract Audit Agency’s Policy on

the Allowability of Contractor Claims for

Legal Costs Associated With Stockholder

Lawsuits

Page 9 GAO/NSIAD-95-166 Defense Contracting
Appendix II 

Criminal and Civil Procurement Fraud Cases

Involving Top 100 DOD Contractors,

October 1988 Through December 1994

Table II.1: Criminal Procurement Fraud Dispositions

Case number Contractor Case type Case disposition

Date of

conviction Criminal fine Restitution

1 Bicoastal

Corporation

Procurement and

mail fraud

Pled guilty 11/04/93 $1,000,000 $55,600,000

2 Boeing Company Procurement fraud Pled guilty 11/13/89 20,000 4,000,000

3 E Systems Procurement

fraud

Pled guilty 10/02/90 2,000,000 1,800,000

4 Emerson Electric 

Company

Procurement fraud Pled guilty 5/11/90 40,000 9,000,000

5 Exxon Chemical

Company

Procurement fraud Pled guilty 11/10/93 3,801,875 None

6 Fairchild Industries

Incorporated

Procurement fraud Pled guilty 5/11/90 2,950,000 None

7 General Electric

Company

Procurement fraud Pled guilty 7/22/92 69,000,000 None

8 General Electric 

Company

Procurement and

mail fraud

Found guilty 2/02/90 10,000,000 2,200,000

9 General Electric

Aircraft Engines

Procurement and

mail fraud

Found guilty 3/07/94 9,500,000 69,500,000

10 Grumman

Corporation

Procurement fraud Pled guilty 3/16/90 20,000 None

11 GTE Government

Systems

Corporation

Procurement fraud Pled guilty 2/03/89 20,000 None

12 Harris Corporation Kickback Pled no contest 7/02/89 200,000 None

13 Hazeltine

Corporation

(subsidiary of

Emerson Electric

Company)

Procurement fraud Pled guilty 1/06/89 1,000,000 None

14 Hughes Aircraft 

Company

(subsidiary of

General Motors

Corporation)

Procurement fraud Found guilty 6/15/92 3,500,000 None

15 Hughes Aircraft 

Company

(subsidiary of

General Motors

Corporation)

Procurement fraud Pled guilty 3/09/90 20,000 None

16 Ladish Company Procurement fraud Pled guilty 11/09/92 751,600 None

17 Litton Systems,

Incorporated

Procurement fraud Pled guilty 1/14/94 3,900,000 None

18 Loral Corporation Procurement fraud Pled guilty 12/08/89 1,500,000 None

(continued)

Page 10 GAO/NSIAD-95-166 Defense Contracting
Appendix II 

Criminal and Civil Procurement Fraud Cases

Involving Top 100 DOD Contractors,

October 1988 Through December 1994

Case number Contractor Case type Case disposition

Date of

conviction Criminal fine Restitution

19 LTV Aerospace

and Defense

Company

Procurement fraud Pled guilty 8/14/90 10,000 None

20 Magnavox

Government

and Industrial

Electronics

Company

Procurement fraud Pled guilty 9/17/90 150,000 None

21 Northrop

Corporation

Procurement fraud Pled guilty 2/27/90 17,000,000 None

22 Raytheon

Corporation

Procurement fraud Pled guilty 3/20/90 10,000 None

23 RCA Corporation

(subsidiary of

General Electric)

Procurement fraud Pled guilty 2/05/90 20,000 None

24 Rockwell

International

Corporation

Procurement fraud Pled guilty 1/19/89 5,500,000 446,000

25 Science

Applications

International

Procurement fraud Pled guilty 8/26/91 550,000 None

26 Sundstrand

Corporation

Procurement fraud Pled guilty 10/19/88 500,000 None

27 Sundstrand

Corporation

Procurement fraud Pled guilty 10/21/88 115,000,000 None

28 Teledyne

Incorporated

Procurement fraud Pled guilty 10/02/92 17,500,000 None

29 Teledyne

Incorporated

Procurement fraud Pled guilty 3/23/89 1,500,000 None

30 Unisys Corporation Procurement fraud Pled guilty 9/06/91 4,000,000 None

Total $270,963,475 $142,546,000

Sources: This listing is derived from data provided by the DOD Inspector General and the

Department of Justice. Additionally, information addressing this subject was contained in our

September 1992 report..

Page 11 GAO/NSIAD-95-166 Defense Contracting
Appendix II 

Criminal and Civil Procurement Fraud Cases

Involving Top 100 DOD Contractors,

October 1988 Through December 1994

Table II.2: Civil Procurement Fraud Settlements

Case number Contractor Type case Case disposition

Date of

disposition

Award to the

government

1 Argosystem

Incorporated

(subsidiary of Boeing

Company)

Voluntary disclosure

fraud

a a $3,000,000

2 Argosystem

Incorporated

(subsidiary of Boeing

Company)

False Claims Act Settled without litigation 12/23/92 868,000

3 AT&T Company Procurement

fraud

Settled without

litigation

9/12/90 625,000

4 Avondale Industries,

Incorporated

Procurement fraud Settled without litigation 10/10/89 2,500,000

5 Boeing Company False Claims Act Settled without litigation 4/29/94 75,000,000

6 Boeing Company False Claims Act Settled without litigation 4/15/94 250,000

7 CAE Link & Singer

Company

False Claims Act Settled without litigation 9/92 55,500,000

8 Computer Sciences

Corporation

Procurement fraud Settled without litigation 10/09/90 1,750,000

9 Ex Cell O Corporation

(subsidiary of Textron)

Procurement fraud Settled without litigation 8/20/90 91,000

10 Ex Cell O Corporation

(subsidiary of Textron)

Procurement fraud Settled without litigation 9/20/90 3,650,000

11 Federal Express False Claims Act Settled without litigation 8/21/92 950,000

12 Ford Aerospace &

Communications

Corporation

Procurement fraud Settled without litigation 10/06/89 200,000

13 Ford Aerospace &

Communications

Corporation

Procurement fraud Settled without litigation 8/10/90 119,250

14 Ford Aerospace &

Communications

Corporation

Voluntary disclosure

fraud

Settled without litigation 8/10/90 111,300

15 Ford Motor Company Procurement fraud Multiple disposition 8/10/90 2,606,063

16 General Dynamics

Corporation

Procurement fraud Settled without litigation 11/21/88 2,600,000

17 General Dynamics

Corporation

Procurement fraud Postfiling settlement 12/20/91 8,000,000

18 Honeywell,

Incorporated

Voluntary disclosure

fraud

Settled without litigation 1/03/91 700,000

19 Litton Systems,

Incorporated

False Claims Act Settled without litigation 7/14/94 82,000,000

20 Litton Systems,

Incorporated

Procurement fraud Settled without litigation 5/06/91 2,400,000

(continued)

Page 12 GAO/NSIAD-95-166 Defense Contracting
Appendix II 

Criminal and Civil Procurement Fraud Cases

Involving Top 100 DOD Contractors,

October 1988 Through December 1994

Case number Contractor Type case Case disposition

Date of

disposition

Award to the

government

21 Litton Systems,

Incorporated

False Claims Act Settled without litigation 1/14/94 2,400,000

22 Lockheed Corporation False Claims Act Settled without litigation 8/04/92 1,042,144

23 Lockheed Corporation False Claims Act Settled without litigation 4/30/93 639,641

24 Martin Marietta

Corporation

Procurement fraud Settled without litigation 4/22/92 752,000

25 McDonnell Douglas

Corporation

Qui tamb Postfiling settlement 8/29/89 28,000

26 McDonnell Aircraft

Company

Procurement fraud Settled without litigation 3/13/91 1,100,000

27 Olin Corporation Voluntary disclosure

fraud

Settled without litigation 5/17/91 694,586

28 Olin Corporation False Claims Act Settled without litigation 9/13/93 325,000

29 Texas Instruments,

Incorporated

Voluntary disclosure

fraud

a a 230,750

30 Texas Instruments,

Incorporated

False Claims Act Settled without litigation 8/05/94 5,000,000

31 Texas Instruments,

Incorporated

False Claims Act Settled without litigation 8/26/92 36,526

32 Texas Instruments,

Incorporated

False Claims Act Settled without litigation 8/25/92 550,000

33 Tracor Corporation Defective pricing Settled without litigation 8/15/91 450,000

34 TRW, Incorporated False Claims Act Settled without litigation 6/28/93 2,500,000

35 TRW, Incorporated False Claims Act Settled without litigation 4/15/94 29,000,000

36 Unisys Corporation Qui tamb Postfiling

settlement

9/06/91 8,200,000

37 Unisys Corporation Qui tamb Postfiling

settlement

9/06/91 3,200,000

38 Unisys Corporation Bribery, conflict of

interest and kickback

Settled without

litigation

9/06/91 159,000,000

39 United Technologies False Claims Act Settled without litigation 3/30/94 150,502,931

40 United Technologies False Claims Act Settled without litigation 8/28/92 4,000,000

41 Varian Associates,

Incorporated

Procurement fraud Settled without litigation 12/13/88 2,430,000

42 Westinghouse Electric

Corporation

Procurement fraud Settled without litigation 7/07/91 665,000

Total $615,667,191

aThe Department of Justice has won one or more awards and is pursuing further relief in the case.

bA qui tam action is one in which a private party brings suit in the name of the United States and

is entitled to a portion of the proceeds if the prosecution is successful.

Sources: Data obtained from the DOD Inspector General and the Department of Justice. Other

information addressing this subject was contained in our September 1992 report.

Page 13 GAO/NSIAD-95-166 Defense Contracting
Appendix III 

Contractors With Stockholder Derivative

Lawsuits and Associated Costs

Data in this appendix were obtained from contractor confirmation letters,

DCAA responses to our requests for information, and Securities and

Exchange Commission reports. To protect the potentially proprietary

nature of the data, we have replaced the names of affected companies with

alphabetic labels (A-H).

Contractor Number of suits

Total legal

costs incurred Amount claimeda

A 1b Not givenb None will be claimedb

B 1b $500,000b $18,000b

C 4d 1,400,000c 1,400,000c

D 1b Not givenb None will be claimedb

E 1b 180,493b 54,150b

F 2d 5,020,000c None claimedc

G 1b 3,020,000c None claimedb

H 2d 4,760,000c 4,760,000c

Total 13 $14,880,493 $6,232,150

aAccording to DCAA, the amount claimed by the contractor in its submission and the amount

reimbursed by the government may vary.

bReplies from contractor confirmation letters.

cResponse from DCAA to our request for information and reports.

dResponse from Securities and Exchange Commission to our request for information.

Page 14 GAO/NSIAD-95-166 Defense Contracting
Appendix IV 

Comments From the Department of Defense

(706068) Page 15 GAO/NSIAD-95-166 Defense Contracting
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