A sharp business deal or a federal crime? Justices will review what counts as fraud in government contracting.
on Nov 25, 2022 at 3:21 pm
Over the past 40 years, the Supreme Court has repeatedly expressed concern about the breadth of federal criminal prosecutions under the mail and wire fraud laws. The court’s decisions have narrowed the scope of federal power, particularly in recognizing the right of state and local governments to operate without undue federal influence. In Ciminelli v. United States, which will be argued on Monday, the court returns to similar concerns with a New York bid-rigging case. Did a government contractor take criminal advantage of his contacts within state government?
In 2012, New York Gov. Andrew Cuomo launched a $1 billion campaign to develop the greater Buffalo area in project “Buffalo Billion.” The Fort Schuyler Management Corporation, a non-profit entity affiliated with the state university system, was in charge of allocating the Buffalo Billion funds. Fort Schuyler’s board of directors would eventually award a $750 million development contract to a Buffalo firm led by Louis Ciminelli.
Unbeknownst to the Fort Schuyler board, Ciminelli had been working with state insiders, such as Alain Kaloyeros, to shape the Buffalo Billion allocation process in his favor. Kaloyeros implemented an unusual proposal process for Fort Schuyler. Rather than having firms bid for specific projects, he instituted a proposal process that allowed firms to bid for becoming a “strategic development partner.” A strategic development partner would be first in line to negotiate with Fort Schuyler, but becoming a partner did not mean that the partner would necessarily be selected for any project. Kaloyeros then implemented selection criteria that favored Ciminelli’s firm, such as a requirement that the firm be based in Buffalo and that the firm use software that Ciminelli already used. After the board selected Ciminelli’s firm as a strategic development partner, it subsequently negotiated the $750 million contract.
The initial choice to prosecute Ciminelli for wire fraud presented several issues. First, wire fraud typically requires proving that a defendant intended to deceive and deprive the victim of money or property. Here, the alleged fraud was not a straightforward case of theft: Ciminelli did not personally run off with the $750 million. Construction of the development project did occur. Rather, the prosecutors noted that Ciminelli’s firm received significant compensation for its management role, comparing Ciminelli’s management fees to the lower fees charged by competitors. Nonetheless, the trial court did not admit evidence discussing the quality of Ciminelli’s development management services, thus precluding the jury from considering whether the increased quality of Ciminelli’s management work might have justified the higher compensation.
Federal prosecutors have another option in corruption cases to prove fraud: the deprivation of honest services. Twelve years ago, in Skilling v. United States, the Supreme Court held that fraudsters could criminally deprive victims of not only money or property, but also the intangible right to honest services. Citizens have the right to honest services from civil servants, and an unscrupulous government employee might deprive citizens of those honest services. Under this theory, prosecutors do not have to show how the government lost money from the unscrupulous behavior. Prosecutors rather must show that the defendant participated in illegal bribes or kickbacks. Demonstrating that the defendant had an undisclosed conflict of interest is insufficient to prove fraud. Here, prosecutors did not produce evidence linking Ciminelli to the payment of bribes or kickbacks.
Instead, the prosecutors discussed deprivation of a “right to control”: Ciminelli and Kaloyeros’s deception deprived the Fort Schuyler board of its right to control the Buffalo Billion funds and the associated allocation process. Fort Schuyler’s board lost its interest in a proper, competitive bid process because it did not know about Ciminelli and Kaloyeros’s arrangement. The trial court explained this right to control theory to the jury, and the jury found Ciminelli guilty of wire fraud. The U.S. Court of Appeals for the 2nd Circuit upheld Ciminelli’s conviction, and he is now asking the Supreme Court to overturn it.
Ciminelli argues that the “right to control” theory of deprivation is an improper workaround against the decision in Skilling: Kaloyeros had an undisclosed conflict of interest because he was working to favor Ciminelli, but undisclosed conflicts of interest alone are insufficient to prove fraud. If prosecutors could not prove bribery or kickbacks, they had to prove that Ciminelli intended the loss of money or property. Ciminelli then argues that his actions did not deprive Fort Schuyler of any money or property. The bid-rigging only affected the first stage of the selection process: which firm would be first to negotiate with Fort Schuyler. Thus, there was no deception in the project negotiation itself. If board members were dissatisfied in their negotiations with Ciminelli regarding the $750 million project, they could have moved on to negotiate with a different firm, but they still chose to award the project to Ciminelli’s firm.
The federal government’s argument
The government argues that the jury properly found that Ciminelli intended to deceive and cause tangible economic loss to Fort Schuyler. The U.S. solicitor general notes in her brief that the jury instructions stated, “If all the Government proves is that the Defendant caused Fort Schuyler to enter into an agreement it otherwise would not have, or caused Fort Schuyler to transact with a counterparty it otherwise would not have, without proving that Fort Schuyler was thereby exposed to tangible economic harm, then the Government will not have met its burden of proof.” Thus, despite the “right to control” discussion, the government claims that the jury could have focused on the tangible economic harm of paying the higher management fees to Ciminelli’s firm.
This case has similarities with prior corruption disputes selected by the Supreme Court. It involves millions in New York state funds and thus raises federalism concerns: How much flexibility should states have in governance decisions without federal interference? The bidding process may have been unfair to Ciminelli’s competitors, but did the unfairness merit federal intervention? The harm calculation in this case is also unclear: Did Ciminelli intend to cause any loss to Fort Schuyler? There may have been a stronger case that Ciminelli wanted to cause business losses to his competitors by denying them a chance at the Buffalo Billion. Finally, because this is a criminal case, there is the specter of overcriminalization. Was Ciminelli on notice that he was committing a federal crime as opposed to utilizing sharp business practices to edge out competitors?
Deception in the government contracting process is a legitimate threat, and courts face a challenge in determining which forms of deception are serious enough to merit criminal sanctions. Some level of insincerity is expected — when a contractor makes its “best” offer, there is likely some puffery or gamesmanship involved in the negotiations. On the other hand, collusive price-fixing behavior among the contractors bidding for business is both improper and illegal. When are financial penalties sufficient to deter sketchy contractors, and when does federal prison become important in limiting bad behavior?
In Ciminelli’s case, the main wrongdoing appears to be his “sneaking to the front of the line” in the negotiation process. If the Supreme Court continues its trend of narrowing the scope of federal fraud criminalization, it can do so by eliminating the “right to control” theory of fraud. A decision that narrows or nixes that theory could reduce uncertainty among government contractors. Potential contractors would face a reduced risk of prison time when engaging in pre-negotiation talks with government insiders. Less clear is how much such a narrowing decision would benefit Ciminelli. Because the jury instructions and facts give room for having proven tangible economic harm, it is uncertain how much influence the “right to control” language had upon the jury’s decision to convict.