United Technologies 2012 Annual Report Download - page 53

Management’s Discussion and Analysis 2012 ANNUAL REPORT 51
As previously disclosed, the U.S. Department of Justice
(DOJ) sued us in 1999 in the U.S. District Court for the Southern
District of Ohio, claiming that Pratt & Whitney violated the civil False
Claims Act and common law. This lawsuit relates to the “Fighter
Engine Competition” between Pratt & Whitney’s F100 engine and
General Electric’s F110 engine. The DOJ alleges that the govern-
ment overpaid for F100 engines under contracts awarded by the
U.S. Air Force in fiscal years 1985 through 1990 because Pratt &
Whitney inflated its estimated costs for some purchased parts and
withheld data that would have revealed the overstatements. At trial
of this matter, completed in December 2004, the government
claimed Pratt & Whitney’s liability to be $624 million. On August 1,
2008, the trial court judge held that the Air Force had not suffered
any actual damages because Pratt & Whitney had made significant
price concessions. However, the trial court judge found that Pratt &
Whitney violated the False Claims Act due to inaccurate statements
contained in its 1983 offer. In the absence of actual damages, the
trial court judge awarded the DOJ the maximum civil penalty of
$7.09 million, or $10,000 for each of the 709 invoices Pratt & Whit-
ney submitted in 1989 and later under the contracts. In September
2008, both the DOJ and UTC appealed the decision to the Sixth
Circuit Court of Appeals. In November 2010, the Sixth Circuit
affirmed Pratt & Whitney’s liability under the False Claims Act and
remanded the case to the trial court for further proceedings.
On June 18, 2012, the trial court found that Pratt & Whit-
ney had breached other obligations imposed by common law
based on the same conduct with respect to which the court pre-
viously found liability under the False Claims Act. Under the com-
mon law claims, the U.S. Air Force may seek damages for events
occurring before March 3, 1989, which are not recoverable under
the False Claims Act. Further proceedings at the trial court will
determine the damages, if any, relating to the False Claims Act and
common law claims. The government continues to seek damages
of $624 million, plus interest. Pratt & Whitney continues to contend
that the government suffered no actual damages. The parties have
submitted briefs and await a decision from the trial court. Should
the government ultimately prevail, the outcome of this matter could
result in a material adverse effect on our results of operations in the
period in which a liability would be recognized or cash flows for the
period in which damages would be paid.
As previously disclosed, in December 2008, the Depart-
ment of Defense (DOD) issued a contract claim against Sikorsky to
recover overpayments the DOD alleges it has incurred since Jan-
uary 2003 in connection with cost accounting changes approved
by the DOD and implemented by Sikorsky in 1999 and 2006. These
changes relate to the calculation of material overhead rates in gov-
ernment contracts. The DOD claims that Sikorsky’s liability is
approximately $94 million (including interest through December 31,
2012). We believe this claim is without merit and Sikorsky filed an
appeal in December 2009 with the U.S. Court of Federal Claims.
Trial in the matter concluded in January 2013 and we await a deci-
sion from the court. We do not believe the resolution of this matter
will have a material adverse effect on our competitive position,
results of operations, cash flows or financial condition.
A significant portion of our activities are subject to export
control regulation by the U.S. Department of State (State Depart-
ment) under the U.S. Arms Export Control Act (AECA) and Interna-
tional Traffic in Arms Regulations (ITAR). From time to time, we
identify, investigate, remediate and voluntarily disclose to the State
Department’s Office of Defense Trade Controls Compliance (DTCC)
potential violations of the AECA and ITAR. DTCC administers the
State Department’s authority under the AECA and ITAR to impose
civil penalties and other administrative sanctions for violations,
including debarment from engaging in the export of defense articles
or defense services. Most of our voluntary disclosures are resolved
without the imposition of penalties or other sanctions. However, as
previously disclosed, in November 2011, DTCC informed us that it
considers certain of our voluntary disclosures filed since 2005 to
reflect deficiencies warranting penalties and sanctions. On June 28,
2012, we entered into a Consent Agreement (CA) with DTCC to
resolve a Proposed Charging Letter that references approximately
45 of our previous disclosures. The CA has a four-year term, and
provides that we will: (1) pay a civil penalty of $55 million, up to $20
million of which can be suspended based on qualifying compliance
investments made by us prior to or during the term of the CA;
(2) appoint, subject to DTCC approval, an outside Special Com-
pliance Official (SCO) to oversee our compliance with the CA and
the AECA and ITAR; (3) continue and undertake additional remedial
actions to strengthen AECA and ITAR compliance, with emphasis
on human resources and organization, training, automation, and
security of electronic data; and (4) sponsor two Company-wide
outside compliance audits during the term of the CA.
The voluntary disclosures addressed in the CA include dis-
closures made in 2006 and 2007 regarding the export by Hamilton
Sundstrand to P&WC of certain modifications to dual-use electronic
engine control software, and the re-export by P&WC of those soft-
ware modifications and subsequent P&WC-developed mod-
ifications to China during the period 2002-2004 for use in the
development of the Z-10 Chinese military helicopter. As previously
disclosed, the DOJ separately conducted a criminal investigation of
the matters addressed in these disclosures, as well as the accu-
racy, adequacy, and timeliness of the disclosures. We cooperated
with the DOJ’s investigation. On June 28, 2012, the U.S. Attorney
for the District of Connecticut filed a three-count criminal
information alleging: (1) that in 2002-2003, P&WC caused Hamilton
Sundstrand to export ITAR-controlled software modifications to
Canada and re-exported them to China without the required
license; (2) that in 2006, P&WC, Hamilton Sundstrand and UTC
made false statements in disclosures to DTCC regarding these
AECA and ITAR violations; and (3) that P&WC and Hamilton Sund-