The Center for Public Integrity

A $2.25 billion federal program that helps schools and libraries connect to the Internet is honeycombed with fraud and financial shenanigans, but the government officials in charge say they don't have the resources to fix it.

A Center for Public Integrity investigation reveals the huge program, funded by everyone who pays a phone bill, is in financial disarray.

A new report to Congress on the fund by the FCC Inspector General's office says the program, known as the E-Rate fund, is virtually out of control. (The full report is available at the FCC's website.)

"It's not unfair to say we have found something wrong everywhere we have looked," says Tom Cline, an auditor in the FCC Inspector General's Office. "It appears to be both intentional and unintentional."

The Universal Service Fund was originally created to help rural areas get phone service at affordable prices. In 1996, the fund's mission was expanded to help schools and libraries connect to the Internet. The fund comes from a fee added to the phone bills of millions of Americans and controlled by a telecom industry-dominated, non-profit corporation sanctioned by the FCC.

Program officials last month began denying or delaying applications involving IBM Corp., by far the largest recipient of the fund's largesse. Program officials said they were taking the action because the schools, libraries and/or IBM had not followed proper competitive bidding procedures, rules that usually act as the first line of defense against fraud and financial mismanagement in such government programs.

"The whole program is based on a competitive bidding process," says Mel Blackwell, a spokesman for the E-Rate program. "We found many of the applications involving IBM had problems in that area."

An IBM spokesman says the action caught the company off guard.

From the outside, the $3 million property in the plush, residential Sandhurst area of Johannesburg could easily have been mistaken for a detention facility. The property was surrounded by 5-meter high walls topped by electrified fences. Armed guards with machine guns and dogs patrolled the grounds, and the daily security expenses ran higher than what most South Africans made in a year. But the compound was no prison. Within the walls were all the amenities of the leisure class: two swimming pools, a luxurious guesthouse, cascading ponds and a corolla of tropical plants surrounding the main house.

On a warm afternoon in March 1998, an elderly Russian woman was cutting up fruit in the kitchen, while her daughter and son-in-law played tennis across the street. Suddenly, the idyll was destroyed by the sound of grenades blasting open the door, as armed intruders stormed in. The Russian woman grabbed a large watermelon and smashed it on the head of one of the gunmen before she was knocked unconscious by a rifle butt. Hustling across the street, her son-in-law arrived in time to confront the armed thugs, who roughed him up. The masked men fled with $6 million dollars in cash, but left paintings and expensive artifacts untouched. A message had been sent to Victor Bout.

A short while later, a motorcycle gunman opened fire on a car carrying Bout and two associates, and another of his employees was beaten up and robbed on a Johannesburg street. Whatever the circumstances, for Bout the intent was now unmistakable. "The message was you're vulnerable so get out," said Richard Chichakli, one of his business associates. A few months later, Bout put his home up for sale.

By the bloody standard set in Africa in the last decade, the 1997 conflict in Congo-Brazzaville between forces loyal to Pascal Lissouba, the elected president of the country, and Denis Sassou Nguesso, who succeeded him, was a small war. It barely merited mention in the wire dispatches of international news services, despite a death toll as high as 10,000 and another 800,000 people forced to flee their homes because of the conflict.

On Oct. 15, 1997, after six months of fighting, Nguesso's Cobra rebels, backed by troops sent by Angola—which had its own interests in the country—prevailed, driving Lissouba into exile. He flew to London via Gabon, ending his four-year reign during which his various economic reforms had failed to alleviate the nation's poverty. In addition to this legacy, Lissouba left behind a multi-million dollar debt for weapons his government had purchased to fight Nguesso's Cobras.

Over a three-month period in 1997, Lissouba's government ordered more than $60 million in arms. A dozen shipments brought helicopters, rockets, missiles and bombs from a handful of countries to Congo-Brazzaville. Executives of the French state-owned company, Elf Aquitaine – which pumped oil from the country and was a longtime player in its various changes in government, often befriending both sides – had arranged a loan backed by the country's future petroleum production to pay for the armaments. Yet Lissouba was forced to flee before the payments could be made, leaving the middleman who had arranged the shipments owed millions of dollars.

In his final days as mayor of New York City, Rudolph Giuliani traveled to Jerusalem to express his solidarity after a series of terrorist bombings struck the holy city. Coming just three months after terrorists flew two planes into New York's World Trade Center towers, killing thousands, Giuliani's visit resonated throughout Jerusalem. Israel's elite turned out for the Dec. 10, 2001, banquet in his honor, including Prime Minister Ariel Sharon, Jerusalem's Mayor Ehud Olmert and, one of the most extraordinary operators in world business, Arcadi Gaydamak.

That Gaydamak was invited at all was a singular achievement. Just a year earlier, in December 2000, Gaydamak had fled France, where he was wanted for illegal gun running, tax evasion, money laundering and corruption. He stood accused of helping turn one of the world's longest-standing wars into a honey pot of enrichment for himself and influential friends in Angola, Israel, Russia and France.

Giuliani likely did not know that the short, stocky man he was introduced to was a fugitive from justice and a central figure in an arms scandal that had rocked the French political establishment. Gaydamak, who by then had Hebraized his name to Ari Barlev, was invited, he said, because he had contributed a million dollars to the fund for victims of the Sept. 11 attacks on the United States.

The invitation was illustrative of Gaydamak's trademark ability to buy access and influence people. He attended the dinner with his friend and business partner, Gen. Amnon Lipkin-Shahak, the former Israeli tourism minister and ex-chief of staff of the Israeli Defense Forces. He numbered among his other business associates Danny Yatom, who headed Mossad, Israel's intelligence agency, before being appointed security advisor to former Israeli Prime Minister Ehud Barak. Gaydamak also employed Avi Dagan, Mossad's former head of intelligence gathering.

Niko Shefer leaned forward and explained the competitive advantage small entrepreneurs enjoy over corporate multinationals when doing business in war-ravaged countries like Liberia and the Democratic Republic of the Congo. "I move with cash. I can buy the president a Mercedes 600. How can a normal company justify that? How do they explain that to the shareholders? I do not need board meetings. I am the board."

Shefer was in an expansive mood. It was December 1999, and he had just earned millions of dollars in profit from a series of business ventures in Liberia, claiming to have got the better of Liberian President Charles Taylor and a fundamentalist Christian organization, known as Greater Ministries of Tampa, Florida.

Four years earlier, Shefer had emerged from a South African jail, where he served time for perpetrating one of the country's biggest bank frauds. Shefer had defrauded a South African bank of more than $10 million before fleeing to Switzerland. He was tracked down, extradited to South Africa, tried, convicted and sentenced to 14 years in prison. He served only six.

After his release, Shefer did not wait long before launching new business operations in Africa. According to an information booklet on one of his companies, Tandan, he started out in a field with which he'd had some personal experience: operating prison shops across South Africa. At the end of 1995, the document said, he sold the business to the South African government for U.S. $1.3 million and then moved into trading and mining in Liberia and Sierra Leone.

By the end of 1999, Shefer was on the road to respectability. He had insinuated himself into the company of some of the most influential members of the ruling African National Congress. A list of personal references he handed out to prospective business partners included South African President Thabo Mbeki, several Cabinet ministers, and senior members of the South African police force.

Until the Kimberley Diamond Exchange opened in 1999 – with tight security, surveillance cameras and two double sets of iron gates – the birthplace of the South African diamond industry had all but disappeared from the radar of most serious diamond buyers. What had been the epicenter of the country's diamond rush had since become best known for the world's largest manmade pit, the "Big Hole" as it is simply called, created by diamond diggings in the diamond rush of the late 19th century.

The history of the place is entwined with that of De Beers Consolidated Mines Ltd., better known simply as De Beers, which was founded by British imperialist Cecil Rhodes in 1888, when the fabulous wealth of the newly discovered Kimberley diamond fields gave rise to the company that would become the world's diamond monopoly. At the height of its powers, De Beers controlled about 80 percent of the world's diamond supplies, striking joint venture deals with most producing countries that enabled the company to control the release of diamonds onto the world market and thus maintain its prices. De Beers, now a privately held company with offices in Kimberley, Johannesburg and London, today controls about 60 percent of the world's diamonds.

De Beers gradually offloaded its Kimberley diggings during the 1990s because of a supposed dearth in diamonds, leaving the city as little more than a nostalgic base for the company's board meetings and Harry Oppenheimer House, its main diamond sorting center for southern Africa, named after the man behind the modern De Beers diamond cartel. But in the last two years, there's been a boom in diamond sales in the small town.

On July 15, 2000, the Marathon Oil Company sent $13,717,989.31 to an account in Jersey, an island in the English Channel with stringent bank secrecy laws. The owner of the Jersey account was Sonangol, Angola's state oil company. The sum represented one-third of a bonus that the Houston, Texas-based company agreed to pay the Angolan government a year earlier for rights to pump the country's offshore oil reserves.

That same day, Sonangol transferred an identical sum of money out of Jersey to another Sonangol account in an unknown location. Over the course of that summer, large sums of money traveled from the Jersey account to, among others, a private security company owned by a former Angolan minister, a charitable foundation run by the Angolan president, and a private Angolan bank that counts an alleged arms dealer among its shareholders.

Angola's byzantine political and financial dealings are no secret; the country falls among the lowest rankings in Transparency International's Corruption Perceptions Index. Still, oil companies from the United States and other countries continue to do business with the Luanda government and Angola's state-owned oil company. A variety of groups, from human rights organizations to diplomats, have raised concerns that oil revenue goes to government ministers' pockets or to buy arms to fight the country's recently ended civil war. But not even an International Monetary Fund monitoring program has been able to produce hard evidence of such activity.

The cost in human lives of this misdirection of the nation's wealth is incalculable, and far beyond the estimated 500,000 killed in the 25-year-long civil war. For years, Angola has scraped the bottom of the United Nations' social indicator indexes: 30 percent of its children die before the age of five, and average life expectancy is just 45 years.

The Liberation Tigers of Tamil Eelam have been fighting one of the world's longest and bloodiest terrorist wars, but July 24, 2001, marked their most devastating attack in 18 years of fighting against the Sri Lankan government. In virtually destroying Bandaranaike International Airport in the capital of Colombo, the Tamil Tigers cut the country's only link to the outside world.

Half of the civilian fleet of Sri Lankan Airlines, the national carrier, was destroyed. The Sri Lankan Air Force lost almost a third of its assets – Russian transport helicopters and fighters, Israeli interceptors, and Chinese trainers. The cost of the attack was estimated to exceed $500 million. Tourism vanished overnight, trade collapsed, and Sri Lanka's economy slumped.

The long-term impact of the Tigers' attack was magnified by the conduct of the City of London, the financial nerve center of the United Kingdom. Brokers at the Lloyd's of London insurance market imposed massive war risk surcharges on shipping to Sri Lanka. The shipping-dependent nation suddenly faced the loss of trade and even essential food imports. With insurance surcharges rising to a multiple of freight rates, costlier air transport replaced surface ships. At a stroke, the country faced rampant hyperinflation and economic collapse.

The terrorist Tigers had struck the blow, but it was the London financiers whose conduct now threatened national survival. Sri Lanka's High Commissioner in London, Mangala Moonasinghe, was instructed to open negotiations, not with the Tamil Tigers, but with the City's brokers.