Former federal employees benefit from buyout

Employees of the first company formed by privatizing part of a federal agency are reaping a financial windfall after their firm was bought out by a group of venture capitalists.

U.S. Investigations Services (USIS), which conducts the majority of background investigations on people seeking a government security clearance, received $545 million from a New York investment firm in January, according to a company statement. The company's employees, some of whom formerly worked for the Office of Personnel Management and became shareholders in USIS when it was spun out of the government in 1996, were paid cash for 100 percent of their shares.

About $500 million was paid to members of USIS' employee stock ownership plan, said Laurence Goldberg, an attorney with Kirkpatrick & Lockhart in San Francisco who was the plan's lead counsel on the deal. Goldberg estimated that money was distributed among about 5,000 people, including approximately 3,600 current employees and about 1,400 former employees. The remaining money was used to compensate nonemployee shareholders in USIS, he said.

USIS executives declined to discuss the details of the transaction, in which investment group Welsh, Carson, Anderson & Stowe bought the controlling interest of the company that conducts the vast majority of background investigations for the government. Welsh, Carson executives didn't respond to requests for comment.

USIS' fortunes could now rise again as the government prepares to consolidate the two main agencies that process requests for security clearances-OPM and a division of the Defense Security Service.

OPM handles the most clearance requests and contracts investigative work largely to USIS, which had estimated revenues of $400 million in 2002 and counts OPM as its most important customer. Three other contractors provide a small amount of work to the agency. Background investigations are required to grant clearances and cover an applicant's financial, employment and personal history.

A division of the Defense Security Service oversees investigations for military personnel. In February, officials announced it would be transferred to OPM, after enactment of the fiscal 2004 budget. When that happens, OPM will be the main granter of contracts.

The government relies heavily on private background investigators, and the market for their services is booming. In 2002, OPM received almost 90 percent more requests for clearances and background investigations than the previous year, according to a senior official who asked to remain anonymous. The Defense agency's workload increase hasn't been as dramatic. In fiscal 2002, it received almost 400,000 requests, about 24,000 more than the prior year, said Judy Hughes, who manages the operation. By contrast, OPM received about 1.9 million requests in fiscal 2002, up from 1 million in fiscal 2001.

The consolidation of Defense and OPM operations could spell trouble for the three contractors that conduct background investigations for the military. Peter LaMontagne, a senior corporate vice president at one firm, ManTech of Fairfax, Va., said the company is "very interested in learning how the transition from [Defense] to OPM works out," and that he hopes OPM will utilize the full industry of investigation providers.

Over the years, OPM has been criticized for contracting so much work to USIS. When the company was formed in 1996, USIS was awarded a sole-source contract. In 2001, the company won the contract again in an open competition. The OPM official said the agency expects that the Defense contractors would compete for work after the consolidation occurs. "It's going to take multiple contractors" to complete the huge volume of work, the official said, which is so backlogged that it can take up to a year for an individual request to be granted.

The sluggish process held up the work of the commission investigating events that led to the Sept. 11 attacks. Several members of that commission, including former Washington Sen. Slade Gorton, couldn't review sensitive government documents because they lacked clearances, which were being processed by the FBI. Gorton, a Republican, had served on the Senate Intelligence Committee.

After the committee's plight attracted media attention, the FBI expedited the clearance requests, Gorton said in an interview last Friday. All but one committee member have now received their clearances in recent days, he said.

Gorton blamed the clearance bureaucracy for the slowdown, noting that the remaining member hasn't received a clearance because the FBI lost his paperwork. The FBI won't comment on any applicant's case. If the committee's problem hadn't garnered media coverage, Gorton doubted if it would have been so swiftly resolved. "This was the power of the press; I'm convinced of it," he said.

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