Senate chairman probes contractor’s erroneous classification as disadvantaged business

The chairman of the Senate Small Business and Entrepreneurship Committee is demanding an explanation from the State and Defense departments for how a wealthy 22-year-old arms dealer, under investigation for providing decades-old ammunition to Afghan security forces, was inappropriately classified as a small disadvantaged business on dozens of federal contracts.

Responding to an April 3 report from Government Executive, Sen. John Kerry, D-Mass., sent letters to Defense Secretary Robert Gates and Secretary of State Condoleezza Rice on Thursday requesting responses about AEY Inc. of Miami, and its owner, Efraim Diveroli.

Kerry is interested in how AEY obtained its SDB designation -- despite never requesting or garnering such a classification from the Small Business Administration -- and if the company received any preferential treatment as a result of the mistake.

"I believe your agency owes Congress and the American public some answers," Kerry wrote to Gates. "I am concerned that a lack of oversight of contracting programs at DoD is allowing companies like AEY to erroneously access hundreds of millions of dollars in contracts as an SDB, undermining efforts to level the playing field for small firms."

Before the designation first appeared in the Federal Procurement Data System in mid-2006, AEY had earned a modest $8.1 million in business with the federal government. Since the SDB label was applied, the contractor has made more than $204 million in federal contracts.

Kerry has requested that Defense and State provide the committee with all AEY contracts and relevant documents signed over the past five years. He also wants the agencies to outline their oversight and regulatory processes for verifying a company's small business and socioeconomic status and to explain if AEY received "any preferential benefit in contract or task order award as the result of being designated as a SDB."

While SBA has said it is not at fault for the error, Kerry said the agency "has a responsibility to protect the integrity of small business contracting across the federal government and thus bears some responsibility for this reported abuse of small business contracting set-asides."

In a separate letter to SBA Administrator Steven Preston, Kerry requested information on the frequency of its audits of small disadvantaged businesses; the amount of training it provides for its contracting offices with respect to small business programs and the specific oversight mechanisms the agency takes to ensure the integrity of the SDB program.

The agencies were asked to respond by April 16 to the inquiries.

Neither State nor Defense responded to requests for comment about the letters.

In March 2007, AEY signed a $298 million deal through a Defense contract to supply ammunition to Afghanistan's Army and police force. According to a New York Times report and U.S. Army officials who inspected the shipments, much of the ammunition was manufactured in 1966 in China. The obsolete and defective cartridges were shipped in poorly packed cardboard boxes that split open upon arrival, officials said.

The company was suspended from receiving federal contracts last month. An AEY spokeswoman declined to comment on any of the company's contracts or its disadvantaged status.

Kerry reserved his harshest criticism for State, which was the first agency to designate AEY as a small disadvantaged business on a June 2006 contract to provide ballistic combat vests for Pakistan.

The nearly $625,000 contract was awarded through "full and open competition after exclusion of sources," meaning the contract was competed after being set aside for small businesses, although not necessarily for disadvantaged companies.

"After this erroneous designation by the State Department, the company went on to win 49 subsequent contracts and make more than $200 million dollars," Kerry wrote to Rice. "This kind of problem could have been avoided if your contracting officers had done a simple check of the Central Contracting [sic] Registry [sic], which would have clearly shown that AEY was not nor had ever been an SDB."

State has blamed the mistake on a coding error. Officials, however, have failed to explain precisely how the error could have occurred -- or why the same misclassification also appeared on another State contract and on dozens of Defense contracts.

"Although the department awarded contracts to AEY Inc., no contract awards were based on the belief that they were a SDB," a State spokesman said last week.

A State acquisition official said information on a company's SDB status is automatically entered into the Federal Procurement Data System from the Central Contractor Registration Database and that a contracting officer would not be able to change a company's designation.

The official said the coding error had to have occurred individually on each of those contracts.

Independent contracting experts, however, suggest that such a mistake, repeated again and again, is highly improbable. A more likely scenario, they suggest, is that the second State contract and all the subsequent Defense awards, were piggybacked on the erroneous information contained in the original contract.

State said small disadvantaged businesses are not eligible for special bidding benefits and therefore AEY received no advantage from the inaccurate designation. SDB companies can receive price evaluation adjustments or proposal evaluation credits on Defense contracts. And federal agencies benefit from using small disadvantaged companies to meet the government's goal of awarding 5 percent of all contracts to SDBs. Kerry also wants to know if Defense -- which reported that it awarded 6.25 percent of its contracts last year to SDBs -- has taken credit in its annual small business reports for contracting dollars awarded to AEY.

The House Oversight and Government Reform Committee is scheduled to hold a hearing on AEY's business practices and possible violations of U.S. law and contracting regulations on April 17.

Among those invited to testify are Diveroli, the company's president; Levi Meyer, the firm's former general manager; David Packouz, AEY's former vice president; and officials from State and Defense. A committee spokeswoman said it has yet to receive confirmation from any of the potential witnesses.