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Blackwater's 2004 Iraq Contract with State: A 'Pyramid' Scheme
More goodies from our Blackwater FOIA: the security company employed such creative accounting methods that it charged the State Department from the profit it made off its 2004-edition Iraq contract.
A January 2005 audit performed for State's inspector general discovered several of Blackwater's accounting irregularities. But how the company accounted for its profit is perhaps the most impressive. Blackwater hid its profits within its "dedicated overhead" -- that is, the expenses it incurred in the cost of fulfilling its contractual obligations. Here's what happened:
This results not only in a duplication of profit, but also a pyramiding of profit because, in effect, Blackwater is applying profit to profit. As a result, we have questioned the proposed amount in total.
That might not be a traditional pyramid scheme per se, but conceivably, it could have yielded an infinite regression -- Blackwater makes money, charges State for it, makes more money, and so forth. So did it work like that?
I don't know! And why don't I know? Because, in its release of the 2005 report, State blacked out every section that detailed exactly how Blackwater's bookkeeping ripped off the taxpayer. For instance, here's what it says about the profit-pyramiding effort.
Note 6 -- Profit [redacted] Profit is a matter under the purview of the contracting officer.
It's worth remembering that classification procedures exist to protect national security. They don't exist to protect giant corporations that fleece the public. Someone should tell the State Department.
Comments (22)
chabuka wrote on December 24, 2007 2:27 PM:Bush has asked for another 70 Billion...and Congress..(the Democratically controlled Congress) said HELL YEAH...!
Kibitzer 2006 wrote on December 24, 2007 3:35 PM:I'm not sure how BW managed to get their profit into the same pool on which they computed profit, and the quote doesn't really explain it: "but conceivably, it could have yielded an infinite regression"
But assuming they did manage to charge profit on profit indefinitely they would still not end up with infinite profits. The compounding would quickly converge to a finite value. If their profit rate were r, then the infinite compounding would converge to an effective rate of r/(1-r). E.g., if their percentage were 10%, the effective profit would be 0.1/0.9, which is about 11.111...%. It's cheating, but not infinite cheating.
--Kibitzer
Fraud Accountant wrote on December 24, 2007 3:53 PM:This story is worth pursuing. Fraud in cost accounting is not the sexiest story, but it's often where the government gets ripped-off for the really big money. Defense contractors play around with "indirect costs pools" and attempt to stuff all sorts of things into the "indirect cost" of supporting the government contract. I would not be surprised if Blackwater aggressively (and unlawfully) attempted to
johnnydoughey wrote on December 24, 2007 4:33 PM:transmogrify its profit on the contract into a claimed "indirect cost". To state the obvious, profit (or award fees or performance fees) are not allowable or allocable to government contracts. To state another obvious point, "cost plus percentage of cost" contracts are unlawful under several federal statutes; and throwing "profit" into a cost pool as a claimed cost is a form of cost-plus-percentage-of-cost illegality. Blackwater will likely have some bogus story for why they thought this was o.k., which will have to be pierced through.
"We the People" would be better off if the accountings were never held. It would be different if, say, any were returned or those folks committing fraud were actually prosecuted, but that could only happen if we were still living in a democracy.
What is occurring here is the realization that there are now different rules for those in power compared to the masses who will be placed in prison if they do not support the regime with unlimited funding....
EH wrote on December 24, 2007 4:39 PM:"Blackwater will likely have some bogus story for why they thought this was o.k., which will have to be pierced through."
It won't matter. These obvious shenanigans are sentinels for the progress of investigations. If anybody gets that close then they know they have to do X, Y and Z, contingencies and the like. Eventually some oversight body will say that these charges were improper and that Blackwater will pay some restitution and fine in an amount less than what they were being investigated for defrauding. Meanwhile investigation resources are snarled while the numbers are disentangled and the real meat of Blackwater remains safe.
Louise wrote on December 24, 2007 7:22 PM:The whole Bush administration is a pyramid scheme. Everything they do is designed to rip all the money out of the Treasury and find ways to disburse it to their cronies and themselves. They also, through their wars, have found the perfect excuse to steal not only present tax revenues, but revenues for at least the next 30 years.
This is why the only thing Bush emphasizes when discussing the wars is that they cannot end. We MUST keep funding them. There may be some money left under the national sofa cushions - keep digging.
WHEN is some journalism going to truly reveal these crooks - they have committed the biggest financial crime in history!
And WHEN is someone going to investigate thr cost of the Bush "ranch", who paid for it, and who owns it when all this is over? And how and where Bush and Cheney themselves have diverted funds (oh, "legally" I am sure) to their own off-shore accounts?
Sully18 wrote on December 24, 2007 9:16 PM:There is nothing these guys wouldn't do, and apparently there is nothing that Americans won't fall for.
No truth,no honor.Bad,evil men who would steal from their own grand children`s children.
Anonymous wrote on December 24, 2007 10:31 PM:The redacted FOIA`s remind me of the book Catch-22,when Doc Danika would try to write letters to his wife telling her that he was really alive, and the censors redacted everything but the articles in one letter and allowed onlt the prepositions in the next.
I truly hope these jerks get caught.They remind me of my bosses when I was a headhunter.
The Democrats have one issue after another with which to go after the Republicans, but instead of developing them and making their case, they cave in, decline to follow through on the investigations, and vote the Bush Administration more funding.
They are too afraid to call the Republicans on their crimes and corruption. Nancy Pelosi and Harry Reid should both step down from their leadership positions.
Both parties are a disaster for the country. The best thing that could happen is if the Republicans split -- e.g. the Christian Evangelicals decide to go it on their own. That would give the progressive elements of the Democratic party cover to split off.
Four parties would be the minimum necessary to transform the current political landscape to a viable multi-party system.
The present Duopoly is destroying the country.
michael valentine wrote on December 24, 2007 10:55 PM:Eric (the) Prince ((of darkness), with all due respect to Shot Gun Dick), testified before congress and said with a straight face, "I don't have to answer that question, we are a privet company."
Nazis hiding behind business secrets. On orders from the State Department. That could only work if the DOJ and the Congress were incompetent.
Marys cloned lamb wrote on December 25, 2007 6:57 AM:The other pyramid scheme is Catholic-coerced overpopulation and poverty which supplies cannon fodder soldiers for these corporate Treasury heists and starving war orphans for the pedophile elites running these thieving corporations. ADULTEROUS Catholic fascist mafia don Eric Prince should already be in jail FOR KILLING HIS FIRST WIFE WITH KNOWN BREAST CANCER-CAUSING PREGNANCIES. She barely survived cancer caused by her first daughter, and Eric being the cheating looksist "pious" SCOTT PETERSON that he is, "legally" killed her with ANOTHER cancer-causing pregnancy. He should be Bobbitted.
Marys cloned lamb wrote on December 25, 2007 6:58 AM:The other pyramid scheme is Catholic-coerced overpopulation and poverty which supplies cannon fodder soldiers for these corporate Treasury heists and starving war orphans for the pedophile elites running these thieving corporations. ADULTEROUS Catholic fascist mafia don Eric Prince should already be in jail FOR KILLING HIS FIRST WIFE WITH KNOWN BREAST CANCER-CAUSING PREGNANCIES. She barely survived cancer caused by her first daughter, and Eric being the cheating looksist "pious" SCOTT PETERSON that he is, "legally" killed her with ANOTHER cancer-causing pregnancy. He should be Bobbitted.
fluffybunnyfeet wrote on December 25, 2007 12:01 PM:Why should anyone be surprised Blackwater used "creative accounting" (= pyramid scheme) to fleece us taxpayers? His sister, Betsy, married none other than Dick DeVos, the crown prince of Amway = the biggest, most successful pyramid scheme ever concocted. Certainly, Baby Brother would've learned the appropriate lessons.
BimBeau wrote on December 25, 2007 12:01 PM:Yo! ... Kibitzer -
This is how it works. The item profit is renamed 'Opportunity cost'. It is entered as a line item in the overhead section. It is also added to indirect costs. When the smart-johnny catches the double entry and throws it out - everyone around congratulates him [or her].
Since the administration in charge is dumbing down all its employees, there are fewer and fewer smart-johnnys out there. The one smart enough to catch this double entry didn't bother to check his Wiki- or his Funk & Wagnall. If he had [or she], the source of 'oppotunity cost' would have been obvious.
Your explanation of finites was quite enlightening. I now understand someting that I've accepted, but not comprended, for years. Thank you.
No choice?
Ugly American wrote on December 25, 2007 12:58 PM:No democracy!
This is how Christians do business.
They murder for money and then cheat on the billing and cheat on the taxes.
We should have elected an atheist instead.
tikiloungelizard wrote on December 25, 2007 1:34 PM:That's not much different than the pyramid scheme that is the state of Israel. U.S. taxpayers give "loans" (never repaid) so that Israel can buy U.S. weapons to protect itself from kids throwing rocks. The money flows back to U.S. defense contractors, who then help re-elect congress members who keep the process going.
foggylady wrote on December 25, 2007 1:38 PM:I agree with Louise, above...
as for her comment/question of
*****And how and where Bush and Cheney themselves have diverted funds (oh, "legally" I am sure) to their own off-shore accounts?****
that will not be known for at least a year, since a section of the tax code has been changed to allow companies a year's grace to report the amount of money they place in off shore accounts. Reporting is not due until the end of the 2008 tax year.
Yeah, I too hope someone puts all the "boring" money details into one book.
Up to my neck in sh!t. wrote on December 25, 2007 2:50 PM:Federal Dictatorship of America.
Government by signing order, with approval body and judicial assent.
Kibitzer 2006 wrote on December 25, 2007 3:02 PM:Thanks, BimBeau (December 25, 2007 12:01 PM).
Am I correct that BW's accounting claim was roughly the following:
1) If BW did not take on the Iraq contracts, they would have been using all that equipment, personnel, etc. on other contracts ('Dedicated Overhead' meaning the portion of BW infrastructure devoted to the Iraq contracts?).
2) Those other contracts would have generated profit.
3) Foregoing profit on other contracts represents an "opportunity cost", which is an indirect cost of performing on the Iraq contracts.
4) Therefore, BW included the opportunity cost in its indirect costs, and applied a "fee for profit" to that.
That's pretty slick. Of course that still doesn't explain how they could do it recursively. All I can think of is that for their second Iraq contract, they compute opportunity cost by looking at the profit they would have generated had they applied their infrastructure, etc. to their first Iraq contract. The first contract already had profit on profit (profit^2), so the second would have profit^3, and so on.
--Kibitzer
garyb50 wrote on December 25, 2007 4:22 PM:OK, I'm just going to have to admit it: I'm stupid.
I've read this twice now and have absolutely no idea what is going on here. Please, somebody, explain this post.
Profit on Profit?
Kibitzer 2006 wrote on December 25, 2007 7:23 PM:To: garyb50 (December 25, 2007 4:22 PM)
I think we're all trying to get our heads around this. The best I have been able to figure out is:
1) [This part I understand.] With a standard "cost-plus-fixed-fee" (CPFF) contract, contractors are allowed to recover their actual costs, plus a fraction of their predicted costs (fee). (If actual costs exceed predicted costs they are allowed to recover the extra costs, but no additional fee.)
2) BW claimed a (predicted) "cost" for the profits that they would have earned from other ventures had they not diverted assets to the Iraq contracts ("opportunity cost").
3) BW then claimed fee on the total of ((predicted actual cost) + (predicted opportunity cost)). The result was that the profit they would have earned on other contracts earned them an extra profit.
4) The fallacy is that they did _not_ lose the profit on other contracts (and so it was not a "cost"), since they _did_ earn it on the Iraq contracts.
As I say, this is the best that I can figure out, based solely on this TPMM post, and a comment by BimBeau.
I'm sure we'll hear more about this, and hopefully a more detailed explanation.
--Kibitzer
roksob wrote on December 26, 2007 1:42 AM:Kibitzer wrote: "if their percentage were 10%, the effective profit would be 0.1/0.9, which is about 11.111...%. It's cheating, but not infinite cheating."
I am sure you are right Kibitzer. However, if your profit margin is up around a $billion, that extra 1.111% can add up to some serious cash.
Anonymous wrote on December 26, 2007 2:47 PM:garyb50 and Kibitzer 2006: It could be an even more straightforward form of fraudulent accounting; since all details are redacted from the State Dept. report, we don't know the nature of how BW claimed its "profit" was a "cost".
Here's just one simple, speculative, possibility.
1. Say the cost-plus-fixed-fee contract was for $25M cost (just to use simple numbers) and the fee was 4%, or $1M. The total payment by the government would be $26M.
2. The "cost" estimate is broken down into direct costs and indirect costs (roughly general and administrative costs or "G&A"). Indirect costs are usually a multiple of direct costs, say 1.5 times direct costs. So on the $25M example, $10M might be direct costs, and $15M might be legitimate indirect costs.
3. It's possible that BW ginned up some rationale whereby it's financial people fantasized that the $1M fee, since it was paid by the government, should somehow be considered a direct cost. In the example, that would make the direct costs jump to $11M (from $10M), and with the 1.5 indirect costs multiplier would make the indirect costs jump to $16.5M (from $15M). The total "costs" of the contract would now be $27.5M (from $25M) just by that accounting. Now when the 4% fee is calculated, it becomes $1.1M (instead of $1M). This would qualify as a true "pyramiding" of profit.
4. This example might strike some as outrageously blatant fraud, and it would be. However, many "complex" corporate frauds, when you finally pierce through the mumbo-jumbo terminology they are cloaked in, come down to stuff like this. And it is remarkable how the CFOs and other officers of the contractor company will claim with a straight face that they believed this was legitimate to do. They also often claim some oral understanding was reached with the contracting officers whereby the scheme was "approved" by the government. Sometimes they point to a vague e-mail as their supporting basis. (It appears BW already tried that tactic with the "we have no employees, only independent contractors, so don't need to pay payroll taxes" issue, where BW apparently illogically relied on a vague SBA statement as somehow being binding on the IRS for tax purposes.)