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United States ex rel. Cherwenka v. Fastenal Co.

United States District Court, D. Minnesota

May 3, 2018

United States of America, ex rel. Michael Cherwenka, Plaintiff,
Fastenal Company, Wells Technology, Inc., Cummins, Inc., ICS, Inc., and John Does 1-99, Defendants.


          Paul A. Magnuson United States District Court Judge

         This matter is before the Court on Defendants' Motions to Dismiss or for Judgment on the Pleadings. For the following reasons, the Motions are granted.


         This lawsuit arises out of an allegedly fraudulent scheme between industrial suppliers and their customers to procure government contracts and benefits reserved for qualifying small businesses.

         Defendant Fastenal Company is an international distributor of industrial supplies and parts, with $3.1 billion in annual net sales in 2012. (Compl. (Docket No. 1) ¶ 17.) Fastenal employs about 17, 000 people. (Id.) Defendant Wells Technology, Inc., is an industrial distributer that employs about 47 people and is a small disadvantaged business certified by the Small Business Administration (“SBA”). (Id. ¶¶ 18, 102 (citing 13 C.F.R. Pt. 124).) Wells Technology also receives government benefits because its owner is a member of the Red Lake Ojibwa Tribe. (Id. ¶ 18.) Relevant to this action, and seemingly at the root of this lawsuit, Wells Technology operates a for-profit Fastenal distribution channel. (Id.) Fastenal and Wells Technology distribute supplies and parts to contractors and industrial consumers, including Defendants Cummins, Inc., and ICS, Inc. Cummins develops, sells, and services diesel engines and generation systems, and it has procured about $368.4 million in government contracts since 2001. (Id. ¶ 19.) ICS has executed about $100 million in government contracts on various industrial construction projects since 2001. (Id. ¶ 20.)

         The SBA arranges for the performance of certain government contracts as set-aside contracts, to be awarded “to socially and economically disadvantaged small businesses.” 15 U.S.C. § 637(a)(1)(B). To bid on a set-aside contract, a business must certify that it is a small business, typically through registration in a federal database called the System for Award Management (“SAM”). (Compl. ¶ 36.) Certification as a small business is a material term for these set-aside contracts. And in addition to small business set-aside contracts, the federal government may also award diversity credit on contracts performed by small businesses. See 15 U.S.C. § 637(d)(4)(E). The Complaint references numerous contracts and information about set-aside contracts awarded to Defendants. (See, e.g., Compl. ¶¶ 90-91, 140-62.) While they dispute whether the Complaint sufficiently specifies representative examples, Defendants do not appear to dispute that at least some of their business has benefited from the performance of set-aside contracts or the award of some amount of diversity credit on prime government contracts.

         In 2005, Wells Technology became “an authorized distribution channel for the Fastenal company, ” and the SBA approved this business relationship through a mentor/protégé agreement in 2006. (Id. ¶¶ 105, 107.) To obtain approval, a representative of the SBA investigated the business relationship, because the SBA cannot approve a mentor/protégé relationship if it “determines that the agreement is merely a vehicle to enable the mentor to receive 8(a) contracts.” 13 C.F.R. § 124.520(e)(3). As part of the investigation, the representative reviewed documents and questioned Wells Technology regarding its Fastenal distribution business. (Aff. of Wendy Knudson Ex. 7 (Docket No. 84-7) (Wells Technology Presentation) at 39, 41.)[1] Wells Technology also advertises some of this information on its website. (See, e.g., Compl. at 29 n.16.) The SBA's investigation revealed that Wells Technology buys and owns the parts it supplies, accepts purchase orders, assumes risk of loss, collects payments, and pays sales taxes. (Compl. ¶ 110; Wells Technology Presentation at 39, 41.) But Fastenal distributes the products, and Wells Technology never takes physical possession of them.

         Relator Michael Cherwenka is a salesperson for another distributor of industrial supplies that directly competes with Wells Technology. (Compl. ¶¶ 5, 15.) He claims that Wells Technology's Fastenal distribution business is a “sham front” that has enabled Defendants to procure set-aside contracts that Fastenal and Wells Technology could not otherwise access, and that Cummins and ICS knowingly use Wells Technology as a mechanism to obtain diversity credit while accessing Fastenal's distribution network. (Id. ¶¶ 3, 4.) Despite the SBA's approval of this mentor/protégé relationship, Cherwenka believes that Fastenal controls Wells Technology's business so that the two companies are affiliates. An affiliation exists if “one controls or has the power to control the other.” 13 C.F.R. § 121.103(a)(1). And the SAM explicitly provides that a business must add to its employee count the number of people employed by its affiliates. (Compl. ¶ 69.) Because he believes Wells Technology and Fastenal are affiliated, Cherwenka argues that Wells Technology cannot represent itself as a small business and that its decision to do so on numerous bids for set-aside contracts, on its mentor/protégé application, and on its annual SAM updates is fraudulent.

         In support of its claims regarding affiliation, the Complaint alleges that Wells Technology is an authorized Fastenal reseller. (Id. ¶ 105.) It points out that Fastenal's website advertises opportunities to obtain diversity credit by using one of its resellers, like Wells Technology. (Id. ¶¶ 155-57.) The Complaint also alleges that Wells Technology's website contains direct links to Fastenal's website and advertises Fastenal employees as points of contact for its distribution business. (Id. ¶¶ 112, 114.) And the website outlines numerous statistics on employees, office locations, and business revenue for Wells Technology and Fastenal. (Id. ¶¶ 84-91, 118-20, 173-77.)

         The Complaint also references two conversations that Cherwenka had with representatives of Cummins and ICS regarding their small business set-aside contracts. The Cummins representative allegedly told Cherwenka that Cummins “use[s] Wells Technology through Fastenal to satisfy their diversity requirements” on certain set-aside contracts. (Id. ¶ 170.) The ICS representative allegedly told Cherwenka about the benefits of working with Fastenal and that those benefits “would make it almost impossible for [ICS] to change vendors.” (Id. ¶ 171.)

         Cherwenka believes that the government was harmed by this scheme because set-aside contracts normally reserved for small businesses ultimately went to Fastenal instead of to legitimate small businesses, which “sabotaged” the growth of small businesses and offends the purpose of the SBA. (Id. ¶ 182.) The three-count Complaint claims that Defendants violated the False Claims Act (“FCA”), 31 U.S.C. § 3729 et seq., by receiving payments or benefits from the United States for false or fraudulent claims (Count I), making false statements to the United States on those allegedly false claims (Count II), and conspiring to commit violations of the FCA (Count III). (Compl. ¶¶ 193-207.) The Government declined to intervene. (Docket No. 32.) Defendants now move to dismiss the Complaint or move for judgment on the pleadings.


         A. Standard of Review

         When evaluating a motion to dismiss under Rule 12(b)(6), the Court assumes the allegations in the Complaint to be true and construes all reasonable inferences from those facts in the light most favorable to the non-moving party. Morton v. Becker, 793 F.2d 185, 187 (8th Cir. 1986). But the Court need not accept as true wholly conclusory allegations, Hanten v. Sch. Dist. of Riverview Gardens, 183 F.3d 799, 805 (8th Cir. 1999), or legal conclusions that the plaintiff draws from the facts pled. Westcott, 901 F.2d at 1488. The Court also reviews a Rule 12(c) motion to dismiss “under the standard that governs 12(b)(6) motions.” Westcott v. City of Omaha, 901 F.2d 1486, 1488 (8th Cir. 1990).

         A complaint must contain “enough facts to state a claim to relief that is plausible on its face” to survive a motion to dismiss. Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570 (2007). Although a complaint need not contain “detailed factual allegations, ” it must contain facts with enough specificity “to raise a right to relief above the speculative level.” Id. at 555. “Threadbare recitals of the elements of a cause of action, supported by mere conclusory statements, ” will not pass muster under Twombly. Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (citing Twombly, 550 U.S. at 555). This standard “calls for enough fact[s] to raise a reasonable expectation that discovery will reveal evidence of [the claim].” Twombly, 550 U.S. at 556.

         A complaint that alleges “violations of the FCA must [also] comply with Rule 9(b), ” which requires stating with particularity “the circumstances constituting fraud.” United States ex rel. Joshi v. St. Luke's Hosp., Inc., 441 F.3d 552, 556 (8th Cir. 2006); see Fed.R.Civ.P. 9(b).

         B. Rule 9(b)

         Generally, Rule 9(b) requires identification of “the ‘who, what, where, when, and how' of the alleged fraud.” Joshi, 441 F.3d at 556 (quoting United States ex rel. Costner v. URS Consultants, Inc., 317 F.3d 883, 888 (8th Cir. 2003)). But a relator who alleges a “systematic practice or scheme of submitting fraudulent claims” may satisfy the Rule 9(b) requirement by “alleging particular details of a scheme to submit false claims paired with reliable indicia that lead to a strong inference that claims were actually submitted.” United States ex rel. Thayer v. Planned Parenthood of the Heartland, 765 F.3d 914, 917 (8th Cir. 2014) (quotation omitted). “[T]he relator must provide sufficient details ‘to enable the defendant to respond specifically and quickly to the potentially damaging allegations.'” Id. at 919 (quoting Costner, 317 F.3d at 888). Defendants argue that the Complaint fails to satisfy the particularity requirement under Rule 9(b). Cherwenka contends that the Complaint sufficiently alleges a systematic practice or scheme of submitting fraudulent claims under Thayer.

         The Complaint asserts fraudulent inducement of government contracts. “Fraudulent inducement requires a plaintiff to show: (1) the defendant made a ‘false record or statement'; (2) the defendant knew the statement was false; (3) the statement was material; and (4) the defendant made a ‘claim' for the government to pay money or forfeit money due.” United States ex rel. Miller v. Weston Educ., Inc., 840 F.3d 494, 500 (8th Cir. 2016). “FCA liability attaches to ‘each claim submitted to the government under a contract so long as the original contract was obtained through false statements or fraudulent conduct.'” Id. at 499 (quoting In re Baycol Prods. Litig. (Baycol I), 732 F.3d 869, 876 (8th Cir. 2013)).

         1. Reliable Indicia

         On claims of fraudulent inducement of government contracts, to sufficiently allege a “reliable indicia that lead[s] to a strong inference that claims were actually submitted, ” Thayer, 765 F.3d at 917 (quotation omitted), Cherwenka need not plead the details of Defendants' accounting practices. “[C]laims for payment subsequently submitted under a contract initially induced by fraud do not have to be false or fraudulent in and of themselves.” Baycol I, 732 F.3d at 876. But Cherwenka must nevertheless provide representative examples of fraudulently induced government contracts.

         With respect to Fastenal, Wells Technology, and Cummins, Cherwenka has provided such examples. The Complaint alleges specific contracts awarded to Cummins that involved Wells Technology and Fastenal. (Compl. ¶¶ 164, 170.) It also alleges numerous other contracts awarded to Wells Technology that relied on its Fastenal distribution business. (Id. ¶¶ 133-34, 142-48, 149-53.) These representative examples all occurred during the life of the mentor/protégé relationship. Fastenal, Wells Technology, and Cummins do not ...

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