City Whistleblower Suit Nets $3.3 Million for S.F. Schools, Nationwide Investigation Into E-Rate Scam

Herrera ‘Delighted to See Justice Done in a Manner That Will Realize Significant and Tangible Benefits for San Francisco’s Schoolchildren’

City Attorney Dennis Herrera today joined San Francisco Unified School District Superintendent Arlene Ackerman and San Francisco Unified School District General Counsel Louise H. Renne in announcing a major settlement in a false claims action Herrera filed under seal two years ago — as a “qui tam” whistleblower action — against numerous technology vendors and consultants for conspiring to defraud a federal government program of millions of dollars intended for the purchase of computer equipment for public schools.

Under terms of the partial settlement announced today, NEC Business Network Solutions Inc., a subsidiary of Irving, Texas-based NEC Corporation, will pay a total of $15,985,263 in cash and services to the federal government to settle the lawsuit’s civil claims. As the “qui tam” whistleblower in the case, the San Francisco Unified School District will receive 21 percent of the settlement — or $3,356,905. In addition, the company will plead guilty to felony counts of wire fraud and conspiring to violate federal antitrust laws, and will pay a criminal fine of $4.6 million.

“Today’s settlement with NEC Business Network Solutions represents an excellent outcome for San Francisco public schools and a remarkable achievement for a whistleblower action that proved decisive in uncovering and stopping a nationwide scheme to defraud underfunded school districts,” Herrera said. “It vindicates Superintendent Ackerman’s decision to refuse suspect funding from the E-Rate program, and it is powerful testimony to the outstanding efforts of U.S. Attorney Kevin Ryan, SFUSD General Counsel Louise Renne and the investigators and attorneys of my office’s Public Integrity Team — particularly Investigator George Cothran. We are delighted to see justice done in a manner that will realize significant and tangible benefits for San Francisco’s schoolchildren.”

“This is a victory for the children and I am pleased that justice was served,” said SFUSD Superintendent Arlene Ackerman. “When I became Superintendent of SFUSD, I knew I had to call in the FBI and local authorities and thankfully, it paid off in the end. To expose these widespread illegal business practices was the right thing to do because our students were being robbed of the much needed funds they deserve. I would like to express my gratitude to Louise Renne, our General Counsel, City Attorney Dennis Herrera, and U.S. Attorney Kevin Ryan, for their diligence and hard work during this three year investigation. I and my staff will continue to uphold our responsibility as stewards of the public trust on behalf of San Francisco, the community and the children of this City.”

“This is the first time that San Francisco Unified School District has filed a whistleblower’s lawsuit, much less in a case that has national implications,” said SFUSD General Counsel Louise Renne. “Fortunately we have an excellent Superintendent who had the good judgment to call in the appropriate authorities when questionable business practices came to her attention. Thanks to the hard work of the City Attorney’s office and the federal authorities, justice is being served. This is just the latest in a series of ongoing prosecutions under Superintendent Ackerman’s administration that shows the District is in very good hands.”

Herrera’s lawsuit arose out of a conspiracy by several parties to defraud the federal government’s E-Rate program by submitting bogus applications for funding to purchase computer equipment, purportedly on behalf of the San Francisco Unified School District. When Superintendent Arlene Ackerman learned of the fraudulent applications in 2000, she declined to accept the funding and requested that the City Attorney’s Office investigate the matter. Following a lengthy investigation, the City Attorney’s Office filed a false claims case under seal on behalf of the school district and the People of the State of California on May 16, 2002, turning the results of its investigation over to the U.S. Department of Justice, which started a nationwide criminal and civil investigation into related conspiracies surrounding the E-Rate program.

The E-Rate program provides federal funding to schools and libraries for certain types of computer and Internet related equipment and services. Administered by the Schools and Libraries Division of the Universal Service Administrative Company, a non-profit corporation, USAC grants schools and libraries a subsidy based on the poverty rate in schools associated with applications. Applying institutions have to make up the percentage of costs not covered by the subsidy from the E-Rate program.

The E-Rate false claims case arose out of an investigation into the actions of SFUSD Custodial Supervisor Desmond McQuoid. Without proper authorization from SFUSD, McQuoid applied to the E-Rate program in January 2000 for funding to construct a computer network with video conferencing capabilities for SFUSD. In these efforts, McQuoid was supervised by Tim Tronson, former director of operations management and one time interim director of the Facilities Development and Management Division, who was indicted by the San Francisco District Attorney’s Office on unrelated charges.

As a result of two funding applications made by Desmond McQuoid to USAC during the 2000-01 Fiscal Year, USAC agreed to pay vendors associated with McQuoid a total of $49,129,206.37. SFUSD was supposed to contribute an additional $10,233,949.03 in matching funds for the work outlined in these two applications despite having never budgeted any matching funds — because McQuoid never notified the budget office or any other relevant district official (other than Tronson) of his activities.

The vendors associated with the two applications, including NEC/BNS, would have received a total of $59,363,155.40. According to the funding applications, these funds would have been used to create an incomplete computer network that would, by itself, have been inoperable. Some combination of 151 schools in the district would have been saddled with equipment that would have been useless. There would have been a phone system with no phones, and there would have been a computer system with no computer work stations. (USAC does not fund those pieces of equipment.) There would not have even been servers, as USAC rejected that portion of McQuoid’s applications. All the USAC award would have paid for was cabling, routers and switches, and a phone switch to reroute phone lines in 46 of the 151 schools.

When McQuoid’s E-Rate applications came to the attention of Superintendent Arlene Ackerman, who had recently come into office, she declined to accept the awarded monies due to her suspicions about the bidding and application process. She then asked the San Francisco City Attorney’s Office to investigate.

The City Attorney investigation commenced in April 2001. City Attorney Investigator George Cothran spent over a year investigating the complex scheme that had been devised to corrupt the E-Rate program. This investigation confirmed that McQuoid’s E-Rate applications had been fraudulently conceived and executed in almost every respect. Moreover, the investigation demonstrated that these unlawful practices were not confined to the SFUSD applications. E-Rate applications filed on behalf of several other school districts were also fraudulent, and the same co-conspirators were often involved in the fraud. Foremost among the documented improprieties were the following:

  • subverting the supposedly competitive bidding process by inviting only co-conspirators to participate in E-Rate bidding, and by pre-arranging the winning bids and bidders (i.e., bid rigging);
  • paying fees termed “marketing fees” to the supposedly neutral parties who were involved in selecting winning E-Rate bids (i.e., kickbacks);
  • claiming and receiving E-Rate funds for goods and services that were ineligible for E-rate funding (e.g., video conferencing equipment);
  • providing false information to the United States regarding the goods and services that were actually provided to school districts under the E-Rate program;
  • disregarding the requirement that school districts make co-payments to match a percentage of the E-Rate funds disbursed to them;
  • failing to deliver equipment and services promised in E-Rate applications; and
  • inflating prices on invoices and other documents provided to the United States to conceal some or all of the fraudulent practices listed above.

After the investigation uncovered these wide spread improprieties, SFUSD and the City Attorney’s Office decided to file suit against the individuals and companies who had corrupted the E-Rate process. The suit related not only to the wrongdoing that had been discovered in San Francisco, but also to the misconduct that had been uncovered in other school districts. Specifically, SFUSD filed suit under the federal and state false claims act, and the City Attorney brought an action in the name of the People of the State of California for unfair and unlawful business practices (Business and Professions Code section 17200). SFUSD later retained the firm of Phillips and Cohen to assist in the prosecution of the case as outside counsel.

After filing suit, SFUSD and the City Attorney’s Office continued to assist federal and state authorities in their investigations of the E-Rate fraud. To date, those investigations have led to guilty pleas from Desmond McQuoid and a company named U.S. Machinery. Under his plea, McQuoid was sentenced to 21 months in federal prison. U.S. Machinery was ordered to pay $200,000 in restitution to SFUSD. The investigation has also led to a guilty plea from an individual who submitted a fraudulent E-Rate application on behalf of the West Fresno School District.

The criminal and civil investigations are on-going, and additional indictments or settlements with other co-conspirators may be reached in the future. The case is United States ex rel San Francisco Unified School District v. Nippon Electric Company Business Network Solutions, Inc. et al, U.S. District Court for the Northern District of California Case No. C02-2398 JCS.