The Perils Of Doing Business With DBES On A Cost Plus Basis

On March 10, 2011, following a four-week criminal trial, a federal jury found Zohrab B. Marashlian, the former President of Perini Corporation\'s Civil Division (\"Perini\"), guilty of fraud and conspiracy to launder money. Two days later he took his own life. What led to this sad and unfortunate outcome? Based on information obtained from the U.S. District Court\'s file in United States v. Zohrab Marashlian, Docket No. CR-08-900, I will attempt to answer this question.

Mr. Marashlian was President of Perini\'s Civil Division from 1997 to 2007. He was born in Aleppo, Syria in 1944 to an Annenian family. He earned his civil engineering degree from the American University of Beirut, Lebanon, and immigrated to the United States in 1971. He later earned an MBA from Columbia University. Shortly after arriving in America, he was employed by Perini as an office engineer, and through hard work and ambition rose to President. Zohrab Marashlian was responsible for constructing and rehabilitating many high profile projects including highways, bridges, subways, tunnels, and waste water treatment facilities. By all accounts, he was a wellrespected executive, and a friend to many in the heavy construction industry.

The criminal charges against Mr. Marashlian arose out of representations, made to government contracting agencies on certain federally-funded projects, that Perini would use disadvantaged business enterprises (\"DBEs\")¹ to perform certain percentages of work, as required under the public contracts awarded to and performed by Perini. Instead of having the DBE subcontractors perform the specified work, however, the jury found that Zohrab knowingly used the DBE subcontractors as \"fronts\" for non-DBE companies, which actually performed the work set aside for the DBE companies.

The Indictment against Mr. Marashlian, which included numerous counts of mail fraud, wire fraud and money laundering, stated in pertinent part as follows:

The defendants Zohrab B. Marashlian and ... others devised a scheme to defraud government contractirig agencies ... by falsely representing in proposals and other documents submitted by Perini to those agencies for public works contracts ... that DBE subcontractors would perform commercially useful functions in satisfaction of the DBE requirements of those public works contracts.

Contrary to the representations made by Perini, when Perini was awarded the public works contracts, Marashlian ... and others did not have the DBE subcontractors perform commercially useful functions on the public works contracts. Instead Marashlian . . . and others used non-DBE subcontractors to perform work on the public works contracts that should have been performed by the DBE subcontractors.

It was part of the scheme to defraud that the defendants Zohrab B. Marashlian ... and others caused non-DBE subcontractors to list their employees and supervisors on the payrolls of the DBE subcontractors, and order supplies and materials through the DBE subcontractors, to create the appearance that the DBE subcontractors were performing commercially useful functions on the public works contracts. Marashlian ...further caused Perini to falsely certify to [public contracting agencies] that the DBE subcontractors performed DBE subcontract work on the public works contracts when, in truth and fact, as Marashlian ... well knew and believed, the DBE subcontract work on the public works contracts was performed by non-DBE subcontractors (¶¶ 13-15 of the Indictment, filed December 18, 2008).

According to the government, Marashlian\'s false representations induced, aided and abetted the award of more than $284 million in public contracts to Perini² During the performance of these contracts, Zohrab and others took steps to maintain the illusion that the DBE subcontractors were actually performing the work, by arranging financing and laundering payments through the \"front\" companies. The progress payments from the public contracting agencies to Perini were deemed by the government to be financial transactions, with proceeds from a specified unlawful activity (i.e., money laundering), because, but for the fraud committed by Mr. Marashlian, Perini would not have been awarded the contract, and would not have received the progress payments. The tainted monies were then paid out, to the supervisors, workers and/or non-DBE subcontractors actually performing the work after a fee for processing the payments was deducted by the DBE (i.e., the DBE subcontractors received a fee or markup ranging from 3% to 5% of their costs). As a result of these frauds, the prosecution pointed out, Mr. Marashlian individually benefitted from the receipt of substantial payments, in the form of increased corporate salary and bonuses, totaling $14 million from 1994 through 2007. There was, however, no indication in the court papers that Mr. Marashlian personally received kickbacks from the DBE or non-DBE subcontractors or their principals.

In order to receive Federal highway funds, New York was required to have a DBE Program meeting Federal requirements and has done so by adopting them under 17 NYCRR35.3.

Under the relevant DBE Programs established by New York State and City agencies (the \'\'NY-DBE Programs\"), general contractors are permitted to count toward the attainment of their DBE percentage goals only funds paid to DBE companies that perform a \"commercially useful function\" in the performance of a contract. Under such NY-DBE Programs, and the associated federal regulations, a DBE company performs a \"commercially useful function\" when it: (a) is responsible for the execution of a distinct element of the work of a contract; (b) carries out its responsibilities by actually performing, managing and supervising the work involved; and (c) furnishes all supervision, labor, tools, equipment, materials and supplies necessary to perform that distinct element of the contract work. Pursuant to federal regulations, a DBE does not perform a \"commercially useful function,\" if its role is limited to that of an extra participant in a transaction, contract, or project, through which funds are merely passed in order to obtain the appearance ofDBE participation in a contract.

In order to participate in the NY-DBE Programs, a minority and/or female owned company has to be certified as a DBE by the NYSDOT or the City of New York. \"DBE certification\" means that a general contractor can receive credit toward the attainment of its DBE percentage goals, by subcontracting work to the certified DBE company. However, the DBE company still has to perform a \"commercially useful function\" in order for the general contractor to receive credit; and, as you might guess, the general contractor is responsible for making sure that the DBE subcontractor performs a \"commercially useful function.\"

Furthermore, pursuant to New York law and federal regulations, a DBE subcontractor is prohibited from subcontracting work it is awarded in connection with its DBE status.

This is where Mr. Marashlian made a serious mistake that mushroomed into criminal conduct. The prosecuting attorneys claimed, that for over a decade, Mr. Marashlian, and others working under him, repeatedly met with specialty subcontractors, and told them that in order to be awarded work by Perini, they had to bill their work through a DBE company\'s name so that Perini could receive \"DBE credit\". According to government witnesses, sometimes Mr. Marashlian would dictate which DBE the subcontractors should use as a \"front,\" and sometimes he did not care what DBE was used, as long as Perini could claim the subcontract work for DBE credit. Whether or not Mr. Marashlian was simply trying to shift the headache of complying with the DBE program away from Perini to Perini\'s subcontractors, the jury was convinced that he committed fraud, by directing or causing the specialty subcontractors to transfer their management and workers to the books of DBE companies, and having those DBE companies pass on fraudulent invoices to Perini.

Any person or company, when selecting a DBE subcontractor to perform a certain scope of work on a public contract, should avoid doing business with DBE subcontractors on a \'\'time and material\" or \"cost plus\" basis, unless the DBE can demonstrate a history of performing the subcontract work and managing its own work, including supervising, hiring and firing of employees, and the performance of all administrative functions.

Doing business with certified DBE subcontractors that have nothing more than an office and a handful of clerical employees to run a payroll, purchase materials and pay project related invoices is clearly not enough to meet DBE requirements, and will likely draw the scrutiny of government investigators. Everyone in the heavy construction industry should recognize by now that a DBE subcontractor does not perform a \"commercially useful function,\" if its role is limited to that of an extra participant in a transaction, contract or project, through which funds are passed in order to obtain the appearance ofDBE performance of work on a project. The u.s. Attorney clearly stated in a memorandum filed in the subj ect case that

DBE companies who agree to act as a \'\'hilling\'\' or \'\'payroll\'\' service for a fee, generally cease to operate as legitimate contracting companies. The DBE company that acts as a \"front\" for a legitimate subcontractor or the subcontractors\' employees have the effect of gutting the DBE, reducing or eliminating the need for most employees from the DBE and preventing the company from developing contract experience and increasing in size - all goals ofDBE programs.

If you can\'t find a capable DBE subcontractor to meet the contract\'s DBE requirements, disclose that fact to the public contracting agency at the outset, and request a reduction of the DBE goals set by the agency. Where the public agency determines that \"good faith efforts\" have been made by the general contractor, and competent DBE subcontractors are not available, the agency should waive compliance with the DBE goal. For example, according to the government\'s court papers, during the time frame involved in Mr. Marashlian\'s case, State agencies often reduced DBE \"goals\" by up to 50% or more, at the request of general contractors, who had attempted, unsuccessfully, to comply.

The time may have also come for contractors to decline taking on the risk associated with these government set-asides. Besides the mistakes made by Mr. Marashlian and Perini, a number of other well-known and reputable heavy construction contractors have reached multimillion dollar civil settlements for doing business with DBE companies that failed to perform a \"commercially useful function\". In competitively-bid construction contracts, why should a contractor be asked to take on the added risk of having to find competent DBE subcontractors, and then hope that such companies are capable of fully performing their scope of work on schedule, and in accordance with plans and specifications? In order to level the playing field among all general contractors bidding the work, perhaps the United States Department of Transportation (i.e., the federal agency responsible for issuing the regulations governing the DBE Program) should make the local governmental agency responsible for selecting one or more competent DBE subcontractors to perform a defined scope of work as separate prime contractors, and then have the government agree to assume the risk that the DBE prime contractor may fail to perform. The government could select the appropriate DBE contractors through a separate request for proposal (\"RFP\") or competitive bidding process, and define the scope of work to be performed by the DBE companies in the main prime contract. This type of arrangement would enable the general contractor to focus on what it does best - - managing, scheduling and constructing the Project, without the worry of trying to increase the participation of competent DBE\'s in federally-funded public construction contracts. Although this could cause some of the problems that are commonly associated with \"Wicks Law\" projects in New York, it would eliminate the risk, now faced by general contractors, of being criminally prosecuted for intentionally or unintentionally crossing over the line in order to meet the requirements of the Federal DBE Program.

Hopefully, every executive in the construction industry wi11leam a lesson from the above story, and pass that lesson on to younger members of our industry in order to prevent a similar occurrence in the future.

¹ A DBE is a small, for-profit business concern that is at least 51 % owned and controlled by socially and economically disadvantaged individuals. The firm must be operational, independent and operate in a selfsufficient manner. The owners must meet the federal definition of \"socially and economically disadvantaged\" (Women, minorities, or individuals who can document their disadvantage; all must also demonstrate that their adjusted personal net worth is no more than $1.32 million). Owners must possess the power and expertise to control the daily operations and management of the firm, and be able to establish at least 51 % ownership through real and substantial investments of capital. If anyone of these conditions is not met, the company does not qualify as a DBE. (49 C.F.R. 26)

² On October 30, 2009, Perini Corporation entered a civil settlement with the government in connection with the contract frauds outlined in the indictment. Perini paid $9.75 million in settlement, to the government to avoid any actions against Perini Corporation, including actions for false claims against Perini. These monies eliminated any profit from the four contracts referenced in the Indictment. Perini also agreed with the USDOT to take steps to insure compliance with the DBE program on future public works contracts.

If you would like more information regarding this topic please contact Gerard P. Brady at gbrady@wbgllp.com or call (914) 607-6410