Feds, industry split over counterfeit parts strategy

Industry groups are crying foul over steps the government is taking to curb the growing problem of counterfeit parts making their way into products and weapons bought by the government. Of particular concern is a provision in the 2012 National Defense Authorization Act, which orders the Defense Department to hold contractors financially responsible for replacing counterfeit products. In addition, the Pentagon’s Defense Logistics Agency announced in August that contractors will have to specially tag electronic microcircuits, which are frequent targets for counterfeiters, with a botanically generated DNA marking to assure their authenticity. In both cases, industry executives say the mandates are unfair and could be costly. The Pentagon has yet to publish rules for how it will hold contractors financially liable for counterfeit components in their products. Trey Hodgkins, senior vice president of global public-sector government affairs at TechAmerica, said his group’s members are concerned they will be exposed to potentially significant financial liability.“Industry is waiting around, [and] it’s beginning to impact performance because companies are anticipating liability,” Hodgkins said. Contractors are starting to put clauses in their contractual agreements and negotiate with suppliers the issue of shared liability if a counterfeit part were to be sold to the government. TechAmerica and numerous industry groups are pressing lawmakers to pass a provision in the House-passed 2013 National Defense Authorization Act that will provide relief for companies who take steps to mitigate counterfeits.“If it fails, it will be a big deal,” Hodgkins said. Commercial companies may decide not to participate in some contract competitions because of liability concerns, he added. That measure would amend the current law to shield contractors from the financial burdens of replacing suspected and known counterfeit parts, including previously used parts, if:

• The contractor is using a method, approved by the Defense Department, to identify and avoid counterfeit electronic parts.

• The counterfeit part was procured from a trusted supplier, as defined by DoD, or the part was provided to the contractor as government property.

• The contractor notifies the government in writing within 60 days of discovering or suspecting that the government or its contractors have bought a counterfeit part.“This would remove any ambiguity that might currently exist,” said Larry Allen, president of consulting firm Allen Federal Business Partners. “It’s a gray area,” when determining who would be financially responsible, Allen said. Under the 2012 NDAA, contractors and subcontractors are also required, whenever possible, to buy products from original manufacturers, their authorized dealers or companies that DoD deems as trusted suppliers. But trusted suppliers have not been clearly defined or identified, Hodgkins said.If contractors have to establish a separate supply chain for their government business to meet these standards, that could increase costs to government, said Erica McCann of TechAmerica. “Considering the times are calling for doing more with less, this seems to be outside the scope of the primary mission to reduce spending,” McCann said.When the government uses a “lowest price, technically acceptable” standard for evaluating contract bids, there is going to be an overwhelming amount of pressure on vendors to use counterfeit equipment to keep costs low, Allen said.“While contractors should not be off the hook, the government can’t expect to pay discount prices for real stuff or real product,” he said.Over the past decade, the number of high-risk suppliers to the federal government, including companies known to have sold suspect counterfeit parts, rose 63 percent from 5,849 companies in 2002 to 9,539 companies in 2011, according to data released last month by the global information firm IHS. This does not necessarily mean the government bought counterfeit products from those vendors.“This is a sophisticated issue that is hard to detect, [and] counterfeiters are getting better at falsifying parts,” said Rory King, director of strategic supply chain solutions for IHS.The matter of liability for counterfeit parts gained steam in Congress last year when reports surfaced that counterfeit memory chips made their way into computers of the country’s primary missile defense system, the Terminal High Altitude Area Defense system. The Pentagon shelled out $2.7 million to fix the problem.If those components had failed, the THAAD system would likely have failed, Sen. Carl Levin, D-Mich., said at a hearing last November.“And who do you think paid for it?” Levin said at the hearing. “The American taxpayer. … There is no reason on earth that the replacement of a counterfeit part should be paid for by American taxpayers, instead of by the contractor who put it in a military system.“In fact, the Pentagon later charged THAAD’s contractor, Lockheed Martin, for the costs.Industry groups are also troubled by the Defense Logistics Agency’s push to require that all electronic microcircuits be specially tagged as being authentic. To do this, companies will have to contract with Applied DNA Sciences, the Stony Brook, N.Y.-based company that produces the DNA markers, or one of its authorized licensees. The company modifies plant DNA and provides the markers suspended in military grade ink to companies. The ink is then applied to products and can be tested at any point down the road to verify the authenticity of a product. In a Nov. 15 letter to DLA, TechAmerica said the requirement “could be counterproductive and not in the government’s best interests.”Hodgkins said companies don’t know how this DNA will affect the performance of their technology, and the department is authorizing a monopoly because there is only one company in the world that makes this product. TechAmerica urged DLA to postpone the rule and include it as part of the Pentagon’s broader counterfeit regulation to carry out the 2012 defense authorization.