IRAQ: A Case Study in Postwar Chaos

WASHINGTON - Mike Battles needed money fast. It was June 2003 and his cash-starved company had just won a contract to guard the Baghdad airport.

Battles turned to a lender that had lots of cash and few questions about how it would be spent: the U.S.-led coalition in charge of Iraq.

As Battles later told criminal investigators, he descended into a vault in the basement of one of Saddam Hussein's former palaces, where a U.S. government employee handed him $2 million in $100 bills and a handwritten receipt.

Battles "was informed that the contracting process would catch up" later to account for the money, according to a statement he gave investigators.

By the time it did, the adventures of his fledgling security company, Custer Battles, had become a case study in what had gone wrong in the early days of the U.S. effort to rebuild Iraq, not least the haphazard and often ineffective U.S. oversight of the projects.

Today, Battles and his partner, Scott Custer, are facing a criminal investigation, lawsuits by former employees and a federal order suspending them from new government business because of allegations of fraud.

Neither Custer nor Battles responded to requests for interviews made through their attorney. However, in court records and interviews with criminal investigators, the two men have denied any wrongdoing.

They have blamed the accusations on disgruntled employees who were fired; on former employees who now compete with Custer Battles for security work in Iraq; and on government officials who harbor grudges against the company.

Court records, internal company memos, interviews with current and former employees and government investigators, and confidential documents from a Pentagon criminal investigation reviewed by The Times depict a company that ran into trouble almost from the moment it hit the ground in Iraq.

Company employees allegedly forged invoices, clashed with government officials and tried to dodge taxes. The company is accused of missing deadlines, providing shoddy equipment, failing to deliver services and botching routine security inspections, the records and interviews show.

Along the way, two of its guards allegedly moved to attack some Iraqi teenagers. And U.S. officials were startled to discover that Custer Battles was also operating a dog kennel and a catering service on airport grounds, according to interviews.

Just as worrisome as the allegations, perhaps, has been the U.S. government's response.

Beginning shortly after Custer Battles won its Baghdad airport contract, at least five senior U.S. government officials or consultants came to suspect wrongdoing by the firm or its employees, records show. Yet over the next 14 months, the company continued to win new government business, and even today holds a key contract in the U.S. program to equip and arm Iraq's new security forces.

Not until September 2004, when the U.S. Air Force acted to prevent the company from receiving any new federal contracts, did Custer Battles' explosive growth slow.

In most cases, high turnover and enormous workloads among government officials prevented them from taking action against a company that repeatedly deflected attempts to examine its operations, the records and interviews show. It was a messy situation easily exploited.

"They were the only constant in a sea of change," said Frank Willis, who oversaw civil aviation during a six-month stint working for the now-defunct Coalition Provisional Authority, which administered Iraq. "That's called playing the chaos, and they were masters at it."

Army Col. Richard Ballard, then inspector general for the U.S.-led forces that invaded Iraq, said he lacked the staff to focus on Custer Battles in the face of other problems such as the Abu Ghraib prison scandal.

"In an environment where an organization is undermanned, overworked and struggling just to let contracts ... there are few checks and balances," said Ballard, who is now retired. "That environment characterized the contracting process in Iraq during the second half of 2003, and probably still does today."

A series of government audits of the Iraq reconstruction process has confirmed lax oversight and identified billions of unaccounted-for dollars.

In an interview, the firm's attorney said the company may have made mistakes in paperwork but denied that Custer and Battles had defrauded the government. The attorney, John Boese, said the two men had fulfilled all contract terms in the midst of a war zone.

"The rules were nightmarish. They didn't really exist. Radar O'Reilly from 'MASH' would clearly go to jail under these rules," said Boese, referring to the television character who was famous for maneuvering through military bureaucracy.

At first glance, Custer Battles seemed an unlikely candidate to win work on critical missions.

Before Iraq, Custer Battles had never landed a government contract. The 2-year-old firm booked less than $200,000 in revenue before the war, providing private security services in Afghanistan, its lawyers said.

The company's two founders were brash, energetic and inexperienced. Custer was a former Army Ranger. Battles was an ex-CIA agent who had made an unsuccessful run for Congress in 2002 as a Rhode Island Republican.

But within six months of landing the airport deal, Custer Battles had taken in $32 million in revenue from its contracts, records show. The two men built a headquarters, complete with swimming pool, at the airport.

The company won the $16.8-million contract to protect the airport despite never having guarded a site. It beat two more-experienced firms, according to interviews and records, by promising to start work sooner than anybody else, a key criterion in Iraq's post-invasion mayhem.

Coalition officials initially expected Custer Battles to perform routine security. Instead, the airport quickly became an insurgent target and the firm was suddenly guarding a fortified facility and surrounding grounds.

Such rapidly changing missions became a common difficulty in Iraq. Coalition officials frequently altered contract terms, ordering up million-dollar changes with a handwritten scrawl or spoken order.

Some contractors resisted such haphazard changes, delaying the reconstruction process. Others, like Custer Battles, rolled with the new demands, tallying charges with little paper trail to account for them.

First to raise concern was Ballard, who found that Custer Battles employees lacked training and equipment. In 20 on-site inspections, Ballard said, he watched guards wave trucks through without inspecting them. He said he never saw Custer Battles use dog teams, as the firm had promised, to screen incoming vehicles.

Ballard said he also witnessed two company security guards in black fatigues conducting what he termed an unauthorized mission, firing an automatic weapon into the air, in an attempt to stop young Iraqis suspected of firing rounds near an airport checkpoint. He halted the incipient attack.

Ballard said his attempt to investigate the firm was blocked by Custer, who disputed his authority despite a written order from U.S. Army Lt. Gen. Ricardo Sanchez, the top military official in Iraq. Ballard recommended that the coalition terminate the contract. But he became distracted by the scandal at the Abu Ghraib prison, he said, and took no formal action before leaving Iraq.

"I concluded that they were intentionally attempting to defraud the government," he said.

Willis, a retired senior official at the U.S. Department of Transportation who oversaw the civilian side of the Baghdad airport, clashed with Custer Battles repeatedly.

Without seeking permission, the company opened a dog kennel at the airport, offering bomb-sniffing dogs to other clients, Willis said. It also began mysteriously bringing in Filipino workers, apparently to work on catering contracts. On one visit to Custer Battles headquarters, Willis found 40 Filipinos living in cramped quarters.

Willis demanded that Custer justify use of the airport to expand his business. He said Custer rebuffed him. Willis left Iraq after six months of service, and again no formal action was taken.

Custer Battles continued to guard the airport until June 2004. Although the government did not extend the contract, the firm won high praise from Douglas Gould, the fourth coalition official in a year to oversee the airport.

A U.S. official said Gould, who took over last spring, was aware of "rumors" about problems with Custer Battles. But nobody passed on word that the Pentagon had opened a criminal investigation of a money-exchange contract in October 2003.

"Nothing was raised as a red flag," the U.S. official said.

Soon after Custer Battles won the airport deal, it landed a second job: a $9.8-million contract to build housing for workers in a project to exchange Iraq's old currency for newly minted dinars. That contract would grow to be worth as much as $21.4 million.

The coalition team heading the project soon grew frustrated with Custer Battles. The company had missed deadlines to set up the camps. Its trucks frequently broke down. Subcontractors complained to coalition officials of not being paid, according to a memo from a government consultant obtained by The Times.

Then the consultant found a spreadsheet that appeared to show that the firm was artificially boosting profit, according to a memo from the consultant. The spreadsheet indicated that the company had invoiced the government $2.1 million for $913,000 worth of work.

Despite the Pentagon investigation, coalition officials approved an additional $5.6 million in contract changes, saying they would recoup any money paid out on fraudulent invoices later, records show.

"Termination of work by Custer Battles ... would have a disastrous impact on the success of the currency exchange program," Al Runnels, then the chief financial officer for the Coalition Provisional Authority, wrote in a memo in November 2003.

As the criminal investigation progressed, two Custer Battles insiders came forward and described a complex scheme to defraud the government.

The insiders told investigators that the company had set up shell companies in the Cayman Islands to create fake invoices. They said Custer Battles submitted the invoices to the government to be reimbursed for work done by the offshore companies without disclosing that it owned them.

The subsidiaries' invoices were padded with a markup that led to profits of as much as 130%, versus the 25% limit the contract imposed, the whistle-blowers told investigators.

The two whistle-blowers, William "Pete" Baldwin and Robert Isakson, confirmed their account in interviews with The Times. Both men worked for Custer Battles and left under acrimonious circumstances. They have filed a civil lawsuit under the False Claims Act, which allows private citizens to sue on behalf of the government. If successful, the men are entitled to a portion of the money returned to the government.

(A firm run by Isakson has since been sued by the U.S. Agency for International Development alleging fraud. The suit claims that the firm, DRC Inc., illicitly profited from a contract for construction work in Honduras after Hurricane Mitch in 1999. Isakson has denied wrongdoing.)

Pentagon auditors tried to take a look at the company's books on the money-exchange contract in February 2004. But Custer Battles was able to block inquiries from the Defense Contract Audit Agency because there was no provision in the contract for an audit, according to the Pentagon.

The investigative trail was further obscured by ambiguity in the contract. In denying illegal behavior, lawyers for Custer Battles argued that the company was to be paid a fixed price, which meant there would be no incentive to inflate its costs. But some contract documents reviewed by The Times contradict this interpretation.

The attorneys for Custer Battles said the fraud allegations were ludicrous because the company had lost money on the contract. Company records submitted by the firm say that the company received about $9 million from the government and spent more than $14 million. The attorneys also said the Cayman Island firms were legitimate businesses.

"This is not about not delivering," Boese said. "These are questions about accounting and contract interpretation."

Finally, in September, the Air Force issued what's known in the business as a "death sentence," forbidding any U.S. agency to issue contracts to Custer Battles or a long list of affiliated companies and people. It can, however, fulfill its existing contracts.

The Justice Department continues a criminal investigation of the company, and the whistle-blower case is proceeding slowly through the courts.

The case raises questions about the U.S. government's performance in an area as important as the reconstruction of Iraq.

"We went to Iraq to show them how a nation of laws works," said Patrick Burns, a spokesman for Taxpayers Against Fraud, which monitors fraud and has closely followed the Custer Battles case.

"Instead, we're teaching them how to get away with fraud."

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