Bribery and corruption in public procurement in India: A unique approach

Currently, the public procurement process of Indian life sciences sector appears to be infected with a new and unique approach to bribery and corruption.

Globally, public procurement typically refers to the purchase of goods or services by the Government or a public sector organisation or unit. It generally accounts for a considerable share of the public expenditure of Governments. With such significant volumes of purchase, a sound procurement system becomes crucial to ensure proper usage of taxpayer’s funds, national security, safety, the health of citizens, and the quality of infrastructure and services in the country.

To meet this objective, Government institutions adopt the ‘tendering process,’ which is an attempt to have a transparent and efficient procurement system. Tendering refers to procurement of products by purchasers on the basis of a, often strictly defined, tendering procedure and in most cases granting the tender to the supplier who offers the lowest price or, more frequently, to realise the best value for money. It is therefore important that the procurement process does not get affected by practices such as collusion, bid rigging, fraud and corruption.

Process of tendering in the life science sector in India

Arpinder Singh

Various channels of tendering are typically adopted in India. The most common channels to invite tenders include the Open Tender Enquiry (OTE) and Limited Tender Enquiry (LTE). In OTE, all eligible suppliers are free to apply to the tender, as compared to a LTE, which is usually applicable in cases where a pool of vendors has been established for a particular commodity or service. It is the common practice of ministries or government departments, which are concerned about safety, expediency and security of maintaining a list of empanelled or registered suppliers on technical and financial grounds. Such empanelled or registered suppliers are preferred throughout the tendering process.

Now consider public sector tendering in the life science sector in India, which has players engaged in manufacture, testing, sale, distribution of drugs and medicines, and medical equipment, as well as clinical tests, diagnostics, and so on. Consider a purchaser such as a government institution or a public hospital, which floats an OTE. Each tender has a unique and often complicated tendering process, requirements, expectations, and timelines, which are defined in the tender floater document. To suitably understand the purchasers’ requirement, the bidder engages an exclusive agent who acts as a liaison between the bidder and the purchaser. The agent could be an existing distributor of the bidder or an independent service provider. In accord with his engagement with the bidder, the agent understands the purchaser’s requirement, expectations, tendering process and timelines and uses this information to help the bidder make a tender application. He then liaises with the tendering authorities to obtain timely feedback on status of the tender application, and facilitates acceptance of the bidder’s tender application.

Prachi Khandelwal

In lieu of his services, the agent receives, what is commonly known in life sciences parlance as an overriding commission (ORC). What is noteworthy here is that the role of the agent is transcending information and documentation from the bidder to the tendering authorities, and that he plays no role in physical movement of goods or services. In an ideal situation, an ORC agent does all the activities from the bidding process to the last stage, which is collecting payment from the purchaser after supplies have been made. However, in this scenario, the agent is merely a puppet. All the activities are done by the supplier, the agent is only used as a channel to pay bribes. In our experience, ORC agents in India receive a commission ranging from 10 per cent to as high as 40 per cent of the order value won against tenders. In contrast, the authorised dealers or distributors of life science companies typically receive 10 per cent as their trade margin. Activities performed by dealers range from buying a company’s products, stocking inventory, transporting and selling to consumers, client servicing and so on. Our recent investigative experience elucidated the possible use of excess funds with ORC agents for unduly influencing tendering authorities to win tenders.

Irregular payments in public contracts across the globe

According to the 2005 Executive Opinion Survey of the World Economic Forum1, public procurement was identified as a government activity that is most vulnerable to corruption. As a major interface between the public and the private sectors, public procurement provides multiple opportunities for public and private players to divert public funds for private gain.

Irregular payments in public contracts

The survey respondents were asked: “In your industry, how commonly would you estimate that firms make undocumented extra payments or bribes connected with awarding of permits/ utilities/ taxation/ awarding of public contracts/ judiciary (1 = common, 7 = never occur)?”

Iceland topped the list with a score of 6.7 (7 being ‘never occur’), India ranked 51 with a score of 4.3, and Bangladesh came last at 125 with a score of 2. Evidently, this act of improper payments to government officials is in violation of the anti-bribery and corruption laws applicable to most companies in one way or the other — be it the famous Foreign Corrupt Practices Act (FCPA), UK Bribery Act (UKBA) or local anti-bribery and corruption governing laws.

Bribery in tendering process in India: A case study

While kickbacks to public officials, collusion, market sharing, bid rigging, and formation of cartels are known, what is innovative is the nexus between the bidder, ORC agent and officials of tendering institution to receive significant kickbacks. While our recent investigative experience in India is on similar lines, consider the following scenario for illustration purposes to elucidate the modus operandi:

A public hospital invites LTE from its chosen vendors for a medical product ‘Medica’. One of the vendors, ‘Supplier’ who manufactures ‘Medica’ is desirous of winning this tender. Supplier engages ORC agent ‘ORCA’ to liaise with the Purchaser for a commission of 30 per cent of the tender value.

The selling price of the product, Medica, is neither regulated nor bound under the maximum retail price requirement by the law. Each Medica deal entered by the supplier is at a contractual rate, which varies from transaction to transaction.

For the current tender floated, the Supplier compiles the requisite documentation, which ORCA submits to Purchaser quoting the price for supply of Medica at say $20 per unit. This price is quoted by the Supplier with complete knowledge that the Purchaser does not have a price validation team, which will validate this price with market sources. Furthermore, for immaculate paper work, a copy of the reference order from an alternate government hospital, ‘Governica’ is attached with the Purchaser’s order for Medica in favour of the Supplier at $20 per unit. Eventually, the tender is awarded to Supplier for supply of Medica at $20 per unit.

One would think that the officials of the Purchaser will receive a considerable kickback of the tender value for this deal. However, a simple reference check at Governica would have revealed that a purchase order was awarded for supply of Medica to the supplier at $1.8 per unit and that the Supplier had forged a copy of the original purchase order of Governica to inflate the price from $1.8 per unit to $20 per unit.

The considerable gap between $20 per unit and $1.8 per unit was used to accommodate hefty commission of 30 per cent to ORCA. Supplier’s accounting records simply reflect the commission payment, thus doing away with the requirement to record illegitimate payment. The commission created in the hands of ORCA was devoured by the officials of the Purchaser, sales staff and management of the Supplier along with a slice for ORCA staff in lieu of confidentiality.

Cure to the affliction: Prevention

Apart from extra legal implications and divergence of tax payer’s money, companies such as Supplier’s become targets of regulatory authorities including the Department of Justice (DOJ), the Securities and Exchange Commission (SEC) and the Serious Fraud Office (SFO) for violation of FCPA, UKBA and local anti-bribery and corruption statutes. How then does a well-meaning and control-driven company safeguard its business? Unearthing the racket perpetuated by the Supplier’s management could be an arduous task considering its well-planned schemes and nearly flawless documentation available with Supplier.

While the premise here was based on a much-focussed experience tweaked for illustration, its recurrence in the industry cannot be negated. What can be done by companies such as the Supplier’s and public institutions inviting bids for considerable quantities is to set up specially trained and independent in-house teams, or engage an independent third party, which specialises in forensic due diligence. It can undertake the following:

• From the Supplier’s perspective

• Undertake an ex-ante due diligence of the ORC agent
• Validate price and quantities of high value tenders to public institutions and compare these with the purchase orders submitted to the company
• Verify that the payment made to ORC agent is in line with agreed payment terms

• From Purchaser’s perspective

• Obtain ex-ante confirmation on authenticity of reference order

Furthermore, the Supplier can, prior to on-boarding ORC agent, do a check to ensure that ORC agent’s remuneration is in line with the fair market value for proposed services. Documenting in adequate detail the justification for engaging service providers and the exact scope of work to be undertaken by the ORC agent is also a appropriate method to establish clarity of purpose and amount of remuneration agreed. In addition, mandating the ORC agent to maintain an activity log for the task performed, and a routine audit of the ORC agent’s utilization of ORC payments are likely to help demonstrate to the ORC agent the Supplier’s intent of professional and ethical business practices.

The Supplier can go further and reduce its reliance on service providers by establishing an in-house department to assist in identifying tenders and provide support in submission of tender applications, negotiation with tendering authorities and later, to follow-up on payments from the purchaser.

While a reactive treatment to identify and penalise illegal payments, activities and people can be adopted; perhaps a control-based preventive approach may sufficiently demotivate and hinder individuals with malicious intent to execute extra legal activities. However, demonstration of legal intent and a strong control framework will help strengthen the company’s case and minimise resulting penalties levied by regulating bodies such as DOJ and SEC for anti corruption and violation of bribery laws.

(Prachi Khandelwal, Manager – Fraud Investigation and Dispute Services, EY (India) has also contributed to the article)

Note: Views expressed in this article are personal to the authors.

Reference:
Source: Integrity in public procurement, Annexure A, Irregular payments in public contracts, Page 121