United States District Court, D. Minnesota
David W. Fuller and Pamela Marentette, Assistant United States Attorneys, Counsel for Plaintiff.
Ted Roberts and Kyle E. Hart, Fabyanske, Westra, Hart & Thomson, P.A., Counsel for Defendants.
MEMORANDUM OPINION AND ORDER
MICHAEL J. DAVIS, Chief District Judge.
This matter is before the Court on Defendants R.J. Zavoral & Sons, John T. Zavoral, Peter M. Zavoral and Craig A. Pietruszewski's motion for summary judgment [Doc. No. 111] and Plaintiff United States of America's motion for partial summary judgment. [Doc. No. 114]
The United States Army Corps of Engineers ("Corps") set aside the contract for work on the Heartsville Coulee Diversion, which was part of the East Grand Forks Flood Damage Reduction Project ("the Heartsville Project") for a qualified company under Section 8(a) of the Small Business Act, 15 U.S.C. § 637(a)(1)(B). (Fuller Decl. Ex. 3 (John Zavoral Dep. at 6, 8-9).) The scope of this project was to "provide all plant, labor, materials and supplies necessary for construction of approximately 17, 560 linear feet of earth levees, 6, 170 linear feet of diversion channel, a new highway bridge over the diversion..." (Henricks Decl. Ex. A at ZAVORAL_0006198.)
The Section 8(a) program is administered by the Small Business Administration ("SBA") and is intended to promote the business development of companies owned and operated by "socially and economically disadvantaged individuals, " including women and members of minority groups. 15 U.S.C. § 631(f)(2)(A). Ed's Construction is qualified as a small business concern under the 8(a) program. (Roberts Decl. Ex. 1.)
Defendant R.J. Zavoral & Sons, Inc. ("RJZ") is a Minnesota corporation that is involved in the construction business. Defendants Peter and John Zavoral are officers of RJZ. In 2004, RJZ formed a joint venture with Ed's Construction ("the Joint Venture") for the purpose of bidding on the construction contract for the Heartsville Project ("the Contract").
Federal regulations permit joint ventures between qualified 8(a) participants and non-8(a) participants for the purpose of obtaining work set aside for 8(a) participants, so long as a number of conditions are met. Such agreements are permitted only where the participant lacks the capacity to perform the contract on its own. 13 C.F.R. § 124.513(a)(2). Joint venture agreements must be approved by the SBA. 13 C.F.R. § 124.513(e). To approve the agreement, the SBA must conclude that the agreement is "fair and equitable and will be of substantial benefit to the 8(a) concern." 13 C.F.R. § 124.513(a)(2). In addition, each joint venture agreement must contain a number of provisions. See 13 C.F.R. § 124.513(c). For example, a joint venture agreement must contain a provision that the 8(a) participant owns at least 51% of the joint venture entity, is designated the managing venturer, and earns profits commensurate with its ownership interest in the joint venture. 13 C.F.R. § 124.513 (c)(2), (3) and (4).
The Joint Venture Agreement ("JVA") at issue in this case was signed on April 1, 2004 by Defendants John and Peter Zavoral and by Edward Morgan, president of Ed's Construction. (Fuller Decl. Ex. 2.) The JVA includes terms which complied with the 8(a) joint venture requirements discussed above: Ed's Construction was to "provide labor, materials, and equipment necessary to complete a minimum of fifty-one percent (51%), or $2 million of the work to be completed, whichever is less, " (id. § 3) was to be the "managing party" on the project, (id. § 4 (b)) and was entitled to "fifty-one percent (51%) of the net before tax profits derived from the Joint Venture." (Id. § 7.) The JVA also required the parties to submit quarterly financial statements to the SBA in accordance with 13 C.F.R. § 124.513(c)(10). (Id. § 10.)
The JVA further provided that John Zavoral would be the representative for RJZ and Ed Morgan would be the representative for Ed's Construction. (Fuller Decl. Ex. 2 § 4.) Ed Morgan was designated as the project manager, responsible for the general supervision and management of the project. (Id. § 6.) Ed's Construction was also responsible for providing $51, 000 in working capital, and RJZ was to provide $49, 000, to be deposited in a bank account in the name of R.J. Zavoral - Ed's Construction Joint Venture. (Id. § 8.) All withdrawals from this account required the signature of Ed Morgan and a representative of RJZ. (Id.)
When the Corps sought bids for work on the Heartsville Project, the request for bids specifically provided that "[o]nly those firms recognized as 8(a) by the [SBA] will be el[i]gible to bid." (Henricks Decl. ¶ 5, Ex. A.) The request for bids also specified that "the SBA... is the prime contractor and retains responsibility for 8(a) eligibility determinations and related issues, and for providing counseling and assistance to the 8(a) Contractor under the 8(a) Program." (Id. ¶ 7, Ex. A.) Finally, the request for bids provided: "The offeror agrees to perform the work required at the prices specified below in strict accordance with the terms of this solicitation."
The Joint Venture submitted a bid for the Heartsville Project, and in response, the Corps sought a Determination of Eligibility from the SBA to determine whether the SBA had approved the Joint Venture. (Czaia Decl. Ex. G.) Randy Czaia was the supervisory business opportunity specialist for the SBA, and in that role, he analyzed and evaluated the proposed joint venture agreement between RJZ and Ed's Construction. (Czaia Decl. ¶¶ 1, 12.) As part of his analysis, Czaia took steps to ensure that the parties understood the importance of compliance with Section 8(a) requirements. (Id. ¶ 18.) He spoke by phone with John Zavoral on at least one occasion, and during that conversation, Zavoral expressly assured him that he understood the terms of the JVA and that he would adhere to its terms. (Id. ¶¶ 20-22, 25; Fuller Decl. Ex. 8 (Czaia Dep. at 295-96).) Czaia would not have approved the Joint Venture had he not believed that both RJZ and Ed's Construction understood the requirements of Section 8(a) and the terms of the JVA and that they were committed to following those terms. (Czaia Decl. ¶ 28.) Ultimately, Czaia recommended to his supervisor Ed Daum that the proposed joint venture be approved. (Id. ¶ 13.) Daum followed the recommendation and approved the JVA. (Id.)
Approval of the Joint Venture under Section 8(a) was granted in July 2004. (Id. Ex. F.) Thereafter, the Contract was awarded to the Joint Venture in August 2004. (Fuller Decl. Ex. 1; Henricks Decl. Ex. A at ZAVORAL_0006199.)
The contracting officer for the Corps on the Heartsville Project was James Roloff. (Henricks Decl. ¶ 3.) In that position, Roloff had authority over routine and nonroutine issues involving the administration of the contract. Roloff designated a representative, Virginia Regorrah, to perform a number of functions with respect to administration of the Contract, such as verify, through inspections, that the contractors were performing the technical requirements of the Contract, maintain liaison and direct communications with the contractors, and to monitor and report deficiencies observed during surveillance. (Id. Ex. B.) From early 2005 through 2008, Kevin Henricks replaced Roloff as he contracting officer for the Heartsville Project. (Henricks Decl. ¶ 2.)
Work on the Heartsville Project began in August 2004, and initially, Ed's Construction's participation in the work was very strong. (Roberts Decl. Ex. 18 (Regorrah Dep. at 86).) However, around November 2004, Virginia Regorrah noticed that Ed's Construction's participation began to taper off. (Id. at 87.)
By the end of 2004, Ed's Construction had done only $354, 994 of the work. (Id. Ex. 28.) In February 2005, Defendant Craig Pietruszewski emailed Joe Zavoral, stating that "we need to do some rental billings with Ed's Construction Services to help fulfill the JV obligations." (Id. Ex. 29.) In another email, Pietruszewski sent Dan and John Zavoral a revised equipment schedule for the month of January 2005, which indicated equipment usage and rental by Ed's Construction of various equipment totaling $613, 941. (Id. Ex. 30.) In the email, Pietruszewski wrote that he had "some thoughts regarding the meeting with Ed and Lethia this Thursday, trying to help explain all of this to them." (Id.)
In a meeting in mid-February with the Zavorals, the Morgans and Pietruszewski, the Morgans agreed to the above-referenced leasing arrangement that allowed Ed's Construction to take credit for work performed by others. (Id. Ex. 14 (Ed Morgan Dep. at 97-98; Ex. 17 (Lethia Morgan Dep. at 24-25); Ex. 31 (Pietruszewski To Do List as of January 2005 "Go Over Equipment Rental Back Billing to Ed with John and Ed").) Lethia Morgan felt pressured at this meeting to agree to the leasing arrangement. (Id. Ex. 17 (Lethia Morgan Dep. at 90-91) ("Well, there was two of us and there was them and they were all just kind of leaning in and their tone of voice and their sense of urgency about it. And also, I think that they knew how worried we were about filling the amount of work we were supposed to do and that we couldn't keep up our payments over winter. And I think they just preyed on that.").)
In July 2006, Ed and Lethia Morgan complained to Virginia Regorrah, the contracting officer's representative, that they had not gotten the work on the project that they expected. (Roberts Decl. Ex. 18 (Regorrah Dep. at 45-46).) Regorrah told them to contact the contracting officer on the project, Jim Roloff. (Id. at 46.) Regorrah did call Roloff about the Morgan's concerns, and told him the Morgans would be contacting him. (Id. at 47.) The Morgans also complained to Randy Czaia about being promised work that was then given to another contractor. (Id. Ex. 10 (Czaia Dep. at 314-15).)
III. Defendants' Alleged Fraud
The Government contends that RJZ entered into the JVA with no intention of complying with its terms. The Government further contends that throughout the performance of the Contract, Defendants engaged in a number of schemes to create the appearance of compliance with the Section 8(a) requirements set forth in the JVA, including the submission of false statements and records to the SBA.
As detailed below, the Government asserts these requirements and others were not met.
A. Fraudulent Inducement
John Zavoral signed the JVA on behalf of RJZ. At the time he signed the JVA, he understood that RJZ could not have bid on the Heartsville Project without entering into the Joint Venture with Ed's Construction, as RJZ was not a Section 8(a) company. (Fuller Decl. Ex. 3 (J. Zavoral Dep. at 6, 12.) He further understood that after the Joint Venture was awarded the contract on the Heartsville Project, the Joint Venture had to comply with Section 8(a) and the JVA. (Id. at 6.) Despite this understanding, Zavoral admitted that his understanding of the requirements of Section 8(a) and the JVA was limited to Ed's Construction making $2 million under the contract. (Id. at 8.) He further admitted that he does not recall if he read the JVA before signing it, and he did not consider RJZ's ability to comply with Section 8(a), as he did not understand the Section 8(a) program. (Id. at 10-12.)
The Government asserts that Zavoral's representations that he understood the terms of the JVA and that he would adhere to its terms were false. Zavoral testified that he signed the JVA without reading it, did not consider RJZ's ability to comply with the terms set forth in the JVA and that he was unaware of anyone at RJZ who was familiar with the terms of the JVA. (Fuller Decl. Ex. 3 (J. Zavoral Dep. at 10-11).) He further testified that he did not understand the Section 8(a) program. (Id. at 12.) When asked about specific terms in the JVA, such as the requirement that the parties to the Joint Venture use their own labor force, John Zavoral testified that he did not understand the term. (Id. at 26, 27-28.) It is the Government's position that based on this evidence, Defendants never intended to comply with the terms of the JVA, including the requirements of Section 8(a) as incorporated in the JVA.
B. Profit Sharing
The Government has retained an expert who has opined that RJZ obtained a net profit of $4, 729, 039, while Ed's Construction lost money on the project. (Fuller Decl. Ex. 13 (Expert Report of Thomas Hagen at 6, 9).) Defendants have also retained an expert who has opined that RJZ obtained a net profit of $2, 649, 578 while Ed's Constructed made a profit of $499, 813. (Fuller Decl. Ex. 12 (Expert Report of William Guernier at 1, 15).) Even when relying on Defendants' expert's calculations, it is clear that Ed's Construction did not earn 51% of the profits as set forth in the JVA. (Id.)
The Government asserts that Defendants took steps to keep Ed's Construction in the dark concerning profits earned by the parties in the JV. For example, near the beginning of the project, Ed Morgan expressed to John Zavoral his expectation that an audit would be completed at the end of the project. (Id. Ex. 14 (Ed Morgan Dep. at 41).) Zavoral become clearly upset by this statement, declaring that no such audit would take place. (Id. at 224).
C. Signature Requirement
The Government asserts that John Zavoral recommended his longtime friend, Pietruszewski, to serve as the accountant for the Joint Venture. The JVA provided that the Joint Venture open a bank account, and that all withdrawals from such account have Ed Morgan's signature. (Id. Ex. 2 (JVA at ¶ 8).) By letter dated September 27, 2004, Ed Morgan and John Zavoral named Pietruszewski as an additional signatory to this account. (Id. Ex. 15 at 4.) The letter also provided that all checks issued by the Joint Venture required only two of the four authorized signatories, after the addition of Pietruszewski, eliminating the requirement that Ed Morgan sign such checks. (Id.)
Thereafter, in January 2005, Defendants issued a check to "WayCool 3d" from the Joint Venture account in the amount of $55, 000, signed by John Zavoral and Craig Pietruszewski. (Id. Ex. 16.) The Morgans were unaware that WayCool 3d had performed work on the Heartsville Project. (Id. Ex. 21 (Amended RFA Responses 87-92); Ex. 14 (Ed Morgan Dep. at 179 (testifying that he was unaware the WayCool 3d had performed work on the Heartsville Project); Ex. 17 (Lethia Morgan Dep. at 144).) WayCool 3d purportedly performed work on the project, but never signed a subcontract for such work, and Pietruszewski generated an invoice without supporting paperwork, such as receipts and payroll records. (Id. Ex. 3 (John Zavoral Dep. at 169-70); Ex. 4 (Pietruszewski Dep. at 182-87).)
In October 2006, the Morgans became suspicious after they saw a number of Joint Venture checks that had been signed by only John Zavoral and Pietruszewski. (Id. Ex. 17 (Lethia Morgan Dep. at 22).) They sent Pietruszewski an email stating that as of October 2, 2006, all Joint Venture checks had to have Ed Morgan's signature on them. (Id. Ex. 18.) Pietruszewski responded to the mail, stating "no problem." (Id.)
On February 8, 2008, an attorney representing Ed's Construction wrote to RJZ, stating that the Joint Venture would be hiring a forensic accountant and that pending completion of the audit, Ed's Construction was not willing to allow any disbursements from the Joint Venture account. (Id. Ex. 19.) On that same day, John Zavoral and Pietruszewski signed a check from the Joint Venture account, made out to RJZ in the amount of $477, 702.63. (Id. Ex. 20.) The check was written ...