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Yes, It’s A Big Deal — Why You Really Need A Contractor Code Of Business Ethics And Conduct

by | Feb 12, 2019 | Government Contracts

The Federal Acquisition Regulation (“FAR”) requires that most contracts with the federal government include a clause mandating that the contractor have a written code of business ethics and conduct, and that it conducts periodic reviews to ensure the effectiveness of that code in rooting out fraud and corruption in the business. From a business perspective, it is easy to view this requirement as just another burden to bear, and one that will cut in on already too thin margins. But a federal contractor subject to this provision that fails to adhere faithfully to its requirements does so at its own peril. The potential consequences of such a failure may be severe.

The Statutory Mandate to Report Wrongdoing

The requirement of a written code of business ethics and conduct and the related review requirements are the regulatory execution of statutory mandates designed to lessen corruption in contracting. Title 41, United States Code section 3509 mandates all “covered contracts” with the federal government – those in an amount greater than $5 million and more than 120 days in duration – must include “provisions that require timely notification by Federal contractors of violations of Federal criminal law or overpayments in connection with the award or performance of covered contracts or subcontracts, including those performed outside the United States and those for commercial items.” 41 U.S.C. § 3509. 

As a policy matter, the FAR implements this requirement as to all government contractors – not just those who hold covered contracts. Any contractor “may be suspended and/or debarred for knowing failure by a principal to timely disclose to the Government, in connection with the award, performance, or closeout of a Government contract performed by the contractor or a subcontract awarded thereunder, credible evidence of a violation of Federal criminal law involving fraud, conflict of interest, bribery, or gratuity violations found in Title 18 of the United States Code or a violation of the civil False Claims Act.” FAR 3.1003(a)(2). Knowing failure to timely disclose credible evidence of any such violations remains a cause for suspension and/or debarment until 3 years after final payment on the contact. Id.

FAR “Guidance” to All Contractors on Codes of Business Ethics and Conduct

The FAR also provides “guidance” applicable to all contractors relating to these responsibilities. Noting that “[g]overnment contractors must conduct themselves with the highest degree of integrity and honesty,” the FAR advises that “[c]ontractors should have a written code of business ethics and conduct.” FAR 3.1002. The FAR also suggests other steps that all contractors should take in this regard:

To promote compliance with such code of business ethics and conduct, contractors should have an employee business ethics and compliance training program and an internal control system that—

(1) Are suitable to the size of the company and extent of its involvement in Government contracting;

(2) Facilitate timely discovery and disclosure of improper conduct in connection with Government contracts; and

(3) Ensure corrective measures are promptly instituted and carried out.

FAR 3.1002(b).

FAR-Mandated Contract Clause Regarding Business Ethics and Conduct

For non-covered contracts, these policies apply only as “guidance” to contractors as to what they “should” do. The FAR goes a step further for covered contracts. A covered contract must include the clause set forth at FAR 52.203-13, which implements and enforces these policy suggestions, stating what a contractor “shall” or must do. Id. That clause sets forth several obligations of note.

First, within 30 days after award of the contract, unless the Contracting Officer establishes a longer time period, the contractor must “[h]ave a written code of business ethics and conduct” and “[m]ake a copy of the code available to each employee engaged in performance of the contract.” The contract clause also requires that the contractor “[e]xercise due diligence to prevent and detect criminal conduct” and “[o]therwise promote an organizational culture that encourages ethical conduct and a commitment to compliance with the law.”

A second obligation – which does not apply to any “small business concern” or to a contract for acquisition of a commercial item – is that the contractor must establish “[a]n ongoing business ethics awareness and compliance program” within 90 days of contract award, unless the contracting officer provides for a longer period of time. The program must include “reasonable steps to communicate periodically and in a practical manner the Contractor’s standards and procedures and other aspects of the Contractor’s business ethics awareness and compliance program and internal control system, by conducting effective training programs and otherwise disseminating information appropriate to an individual’s respective roles and responsibilities.” The training must be provided to the contractor’s principals and employees and, “as appropriate,” to the contractor’s agents and subcontractors, though there is no guidance as to what it means to be “appropriate” in this context.

Third, the contract clause sets forth detailed requirements for the contractor’s internal control system. The contract clause requires that the internal control must “[e]stablish standards and procedures to facilitate timely discovery of improper conduct in connection with Government contracts” and must “[e]nsure corrective measures are promptly instituted and carried out.” There must also be an internal reporting system that provides for anonymity and confidentiality, as well as an investigation protocol that places responsibility at a sufficiently high level with sufficient resources to make it effective, and includes “[r]easonable efforts” to exclude from responsibility for that investigation any person “whom due diligence would have exposed as having engaged in conduct that is in conflict with the Contractor’s code of business ethics and conduct.” There must also be “[d]isciplinary action for improper conduct or for failing to take reasonable steps to prevent or detect improper conduct” as well as timely written disclosure to the agency inspector general of any “credible evidence that a principal, employee, agent, or subcontractor of the Contractor has committed a violation of Federal criminal law involving fraud, conflict of interest, bribery, or gratuity violations found in Title 18 U.S.C. or a violation of the civil False Claims Act (31 U.S.C. 3729-3733).” The contract clause requires “[f]ull cooperation with any Government agencies responsible for audits, investigations, or corrective actions.” And the contract clause also requires “[p]eriodic reviews of company business practices, procedures, policies, and internal controls for compliance with the Contractor’s code of business ethics and conduct and the special requirements of Government contracting,” including periodic assessment of the effectiveness of the internal control system and consideration of necessary changes to the program as required by the identification of criminal conduct through the system.

Why is this Important?

For too many contracting businesses, these requirements are little more than a box to be checked among many technical predicates for the award and execution of a federal contract. And, from a business perspective, there is a strong incentive—the cost—driving owners of contracting businesses to forego these obligations. As with many aspects of compliance, those who do not comply fully with these requirements do so at their peril.

The most severe (and perhaps most unexpected) of the consequences of failure to fulfill these requirements could a contracting officer’s determination that the contractor is in default. These are, after all, provisions of a contract. It is easy to convince one’s self that a contracting officer would not terminate an otherwise fully performing contractor for default on this basis. On the other hand, that seems like a foolhardy risk—”penny wise and pound foolish,” to use an old-fashioned phrase—to take in order to avoid the expense of a fully compliant internal compliance system.

If fraud is discovered in connection with a contractor’s execution of a contract, the risks attendant to noncompliance are even greater—especially if the fraud is discovered by a person or entity other than the contractor. The failure of the contractor to have an effective code and internal control system will almost certainly be blamed for the failure to detect the fraud. If the existence of the fraud would not otherwise have led to a termination for default of the contract, the contractor’s failure to comply with provisions of the contract regarding business ethics and conduct may be an alternative basis for losing the contract. Failure to report such fraud may also, in some circumstances result in suspension and/or debarment.

But the potential consequences do not end there. If a company is found guilty for (or complicit with) fraud that occurs in the performance of its contract, it may also find itself subject to criminal prosecution. The United States Sentencing Guidelines – which were the source for the language in the FAR on these issues – specifically provide that a system of internal controls like the one required by FAR 54.203-13(c) may be a basis for mitigation that can lead to a less severe recommended penalty upon criminal conviction.


As with many preventative measures, compliance with the FAR’s mandated code of business ethics and conduct and the related internal control system is ultimately a cost-effective means to protect a federal contractor from the most dire of consequences. Here, too, compliance is not just about checking boxes; it is about maintaining a system of organization and controls that ultimately ensures the success of the company in its performance of its contractual obligations.

Berenzweig Leonard is teaming up with Red Team Consulting for a monthly newsletter featuring upcoming contracts, key protest decisions, events, and more. This post was published in the February 2019 Monthly Insights newsletter. To sign up for Monthly Insights, please click here.

This post was also published in Contract Management, the monthly magazine of the National Contract Management Association.

David Deitch leads the White Collar Defense and Corporate Compliance practice at Berenzweig Leonard. David can be reached at [email protected]