Nadler: Staying inside the bounds

A proposed rule on contractor ethics and business conduct is a sign of the times — and useful

The Civilian Agency Acquisition Council and the Defense Acquisition Regulations Council recently proposed amending the Federal Acquisition Regulation to add FAR Subpart 3.10: “Contractor Code of Ethics and Business Conduct.” Although a few agencies have policies in that area, the new rule would extend that ethics rule throughout the civilian and defense agencies and set consistent standards for avoiding improper business practices and for displaying an agency inspector general’s fraud hotline poster.  

Among other things, the new rule would:
  • Establish as policy that contractors should have a code of ethics and business conduct.
  • Require contractors that receive awards of more than $5 million with performance periods of 120 days or more to publish a written code of ethics and business conduct within 30 days after the contract award. Within 90 days after the award, those contractors must also establish an ethics and compliance program and an internal control system consistent with the company’s size and volume of government business.
  • Require contractors that receive awards of more than $5 million to display an agency inspector general’s fraud hotline poster at work locations in the United States and on the company’s Web site, if the company has a site to provide information to employees.
  • Provide remedies for noncompliance, including the withholding of contract payments or loss of award fee.
  • Require a flow-down provision that would apply to subcontracts at the same dollar level it would apply to the prime contract. The new rule would apply only to contracts performed in the United States and would not apply to commercial item awards.   
Those provisions in the new rule apparently are a reaction to the scandals that have rocked the procurement community. The rule is consistent with recent legislative initiatives intended to address the standards of conduct for government contractors and to make the acquisition process more transparent. Indeed, the stated policy of the new rule begins with the admonition that “government contractors must conduct themselves with the highest degree of integrity and honesty.”

The new rule would set minimum standards for a compliance plan, but it would apply only to contracts above a certain dollar threshold and exclude commercial item awards. However, because all government contractors are now potential enforcement targets, companies should voluntarily implement a compliance plan as a safeguard against misconduct and overzealous lawmakers, investigators and prosecutors.

The primary requirements for a code of conduct and compliance program would not apply until the company has contracts that meet the $5 million threshold. It appears that the $5 million level was established to avoid the potential cost effects of the requirements on small businesses. Similarly, commercial item procurements are excluded because the ethics programs and hotline posters are not standard commercial practices. However, under the proposal, all contractors, regardless of their size or the nature of the procurement, would be required to have “a satisfactory record of integrity and business ethics” to be considered a responsible company eligible for a government contract.

Inspectors general and the Justice Department routinely investigate alleged fraud that involves procurements of commercial items, including sales under the General Services Administration schedule contract program, and improprieties related to lower dollar value contracts. Indeed, the government often seems to lack a sense of proportion. An impropriety in a contract valued at less than $5 million could result in damages far in excess of that amount under the trebling and penalty provisions of the False Claims Act. Of course, the penalties can be more severe if the matter is criminal and the implications even more profound if the company is publicly traded.

The fact that a government compliance plan may be inconsistent with a company’s commercial practices is precisely why such a plan should be implemented. It is often those differences and the failure to appreciate the unique rules applicable to government contracting that inadvertently give rise to liability.

The formation last year of a special Justice Department task force to investigate and prosecute procurement fraud is a stark reminder that all contractors need to take aggressive measures to avoid becoming government targets. Indeed, a company’s compliance plan is typically among the first documents requested in an investigative subpoena, regardless of the contract’s  amount.

A code of ethics is important, but investigators are looking for more than platitudes. The proposed rule is based on a comprehensive plan for internal controls to ensure compliance with the code of ethics and the unique requirements of government contracting. According to the proposal, an effective internal control system has procedures to facilitate timely discovery and disclosure of improper conduct in connection with government contracts and mechanisms to ensure that corrective measures are promptly instituted and carried out. Such a system also has an internal reporting mechanism, such as a hotline, for reporting of suspected improper conduct, internal and external audits, disciplinary action for improper conduct, prompt reporting of such conduct to the government and cooperation with any government investigation regarding the matter.  

By having a compliance plan, a company shows it understands and takes seriously its obligations as a government contractor. A plan can also support a company’s defense in an investigation into whether the impropriety was caused by the actions of a wayward employee who deviated from stated corporate policy, or whether it is a systemic problem with managers who act in reckless disregard of the law.

All companies that sell to the government should consider having a comprehensive compliance program. No one, however, can legislate morality, and no amount of compliance efforts can stop someone intent on breaking the rules. Such a program will be effective only if it is consistent with a culture that recognizes and rewards compliance as a core value, and regularly trains its employees on their special obligations as a government contractor. The program must be implemented and constantly reinforced by managers who set an example with their conduct in every facet of the business and in all dealings with the government.

Nadler is a partner in the law firm of Dickstein Shapiro. Contact him at  

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