Feds close huge chip counterfeiting case (exclusive)

VisionTech Components sold a large amount of semiconductor chips to more than 1,100 customers from its office in Clearwater, Fla. Unfortunately, federal prosecutors allege, the chips were counterfeits. In this case, the perpetrators were brought to justice when authorities uncovered the $16 million counterfeiting operation. A sentencing in the case will happen at the end of this month.

The case highlights the growing problem of chip counterfeiting, which can put dangerously flawed electronic components in everything from U.S. military weapon systems to everyday consumer electronics goods. In this case, the defendants were busted in an undercover operation, and records from the case “paint a disturbing picture of the complex level of fraud taking place behind the face” of the VisionTech web site and its offices, according to a sentencing document.

The case offers a rare peek into the shadowy underworld of chip counterfeiting. The scary part is that the chips are used in critical systems and there is no telling when they will suffer a catastrophic failure. VisionTech’s counterfeit components were sold to every sector of the electronics industry, and most of those devices have still not been recovered.

“Counterfeit products may cause vehicles, trains, or planes to crash,” said one chip maker who testified in the case. But too often, these kinds of crimes go unreported because companies don’t want to admit they’ve been bamboozled.

U.S. Attorney Ronald Machen of Washington, D.C., and Sherri Schornstein, Assistant U.S. Attorney, said the harm caused by the case is “immeasurable and cannot be undone.” Prosecutors point out that a single short-circuit can ruin a chip and knock out a critical system in a fighter jet. That’s why counterfeit chips are “extremely disturbing and” raise public health, safety and national security concerns, the document said.

In their document, the prosecutors said, “It is impossible to retrieve the hundreds of thousands of counterfeit devices sold by VisionTech.”

The window into fraud at VisionTech

The chips sold by VisionTech were supposed to be “military grade,” but they were in fact counterfeits from Hong Kong and China. VisionTech employee Stephanie McCloskey pleaded guilty in the case and is awaiting sentencing at the end of the month on charges related conspiracy to distribute counterfeit chips and commit mail fraud. McCloskey admitted to one count of conspiracy and aiding and abetting, and she agreed to cooperate with the investigation. Her upcoming sentencing is the first ever involving distribution of counterfeit integrated circuits, or chips, according to the document.

The owner of VisionTech Components, Shannon Wren, who lived in Treasure Island, Fla., died of an apparent drug overdose in May. The 42-year-old Wren was described as having a passion for drag racing. He owned an apparel store in a trendy Tampa district and was a regular at the Pinellas Park SunShine Dragstrip. Had Wren been tried, he could have faced 35 years in prison.

On Sept. 14, 2010, Wren and McCloskey were both arrested in Florida. In the raid, police seized luxury vehicles, a motor home, numerous motorcycles, a beach home and four other properties, and funds in several bank accounts. More than 30 computers and 200 boxes of suspected counterfeit chips were taken. To gather evidence, investigators had to forage through 16 terabytes of data, or the equivalent of 4 million pages of text.

At the outset, investigators charged Wren and McCloskey with 10 counts related to counterfeiting and accused them of selling fake chips to 1,101 buyers for $16 million over five years. The firm had nine employees.

Some of the chips in question showed evidence of “black topping,” a process where counterfeiters grind off the original markings, paint the packages with a black paint, and then re-mark the devices with counterfeit marks. The marks falsely suggest that the devices have a certain brand, date code, lot code or country of origin, and are of a certain quality. Re-marked chips can be sold for much higher prices.

Inspectors can visually spot remarked chips sometimes, but they can also use “acetone testing” to check the permanency of ink-marked integrated circuits. Legitimate chips will always pass the acetone test, because the ink is cured to ensure that acetone or other corrosive elements will not remove the original ink markings. Inspectors can also examine a chip with X-rays to see if the chip is properly connected to its package. But electrically testing a chip often requires an expensive piece of equipment. In 2007, a VisionTech employee told its fake-chip supplier to use “stronger ink” and to use acetone to “make sure the ink does not come off” because customers were beginning to use acetone on all parts.

The chips were acquired from sources in China with the counterfeit marks on them, and they were imported into the U.S. through a variety of ports. On 35 different occasions, chips destined for VisionTech were seized at U.S. ports as counterfeit. A total of 59,540 chips were seized. Wren never challenged a single one of these seizures. And from 2007 through mid-2010, VisionTech imported 3,263 shipments — 95 percent of them from the same fake chip supplier in China. When U.S. officials began inspecting packages labeled “integrated circuits,” VisionTech started labeling them “electronic components.”

Companies that claimed damages from the chip fraud included major chip firm such as Analog Devices, and Raytheon. Other named customers that were victims of VisionTech are Dependable Component Sourcing, LCL Electronics, ITC Medical, Greystone Components, Bisco Industries, Abacus Technologies, Able Electronics, Global Wide Electronics Group, Baya Technologies, Merefield Electronics and Atonic Technologies.

Distributors such as Component Sourcing Solutions and Pacific IC Source lost some of their valued customers, based on the fact that they had bought chips from VisionTech. Raytheon found 1,500 flash memory chips it bought from Pacific IC Source, which bought the chips from VisionTech, were counterfeit. The devices were installed on 28 circuit cards assemblies and all failed. That cost Raytheon tens of thousands of dollars. Raytheon filed a report and cut off Pacific IC Source as a customer.

“I feel as though I have been made a fool,” said Naomi Ryder, the president of Pacific IC Source, according to the document. “Just the thought that someone could have died because of this crime sickens me.”

In a letter to Wren, Atonic’s representative said, “Listen Shannon. We are talking about planes and military, security devices….We already have had many issues with you and you already made me lose my top five customers.” A representative at Global Wide Electronics Group said in an email, “Who works in your warehouse — Stevie Wonder? These parts are awful.”

The motivation behind fakes — and the costs

Thieves go after chips because there is money in it. Chip sales last year were $298 billion, and such chips are the foundation of the $1.1 trillion electronics industry. The losses from counterfeiting are hard to calculate. But On Semiconductor testified that a computer maker that unknowingly solders a 10 cent counterfeit chip onto a printed circuit board may have a $100 loss if the board fails. Or, if the computer makes its way into the market, a consumer may find that a $500 computer fails sooner than expected. Five customers complained about bad chips and received $1.2 million in refunds, but that barely made a dent in VisionTech’s revenues. [picture source, right, Bunnie Studios]

To bring a point home in the sentencing hearing, the government plans to show a video from Texas Instruments showing the extreme precision and cleanliness required to make a chip in a clean room factory. For comparison, it will show another video showing Chinese peasants heating chips on a Hibachi grill to melt solder and loosen computer chips in circuit boards. Those chips are then knocked off the boards, sorted with brooms, washed in a river, dried on riverbanks, dried and remarked, and sold through malls in China in new devices.

Prosecutors found one email to Wren and McCloskey that had the subject line “Shenzhen hard at work.” The image shows a sweat shop with 12 Chinese workers, a number seated next to each other facing a wall. One worker is holding a solder gun and is at a station with a solder gun.

While VisionTech had a professional-looking web site with an image of a fighter jet, there were clues to the fraud. The firm had been around since 2002, but it claimed a “combined 35 years of experience” in the industry. It also said it was IOS-compliant, rather than “certified” by the International Organization for Standards. Employees were told to say the chips came from Germany, when in fact they came from China most of the time. VisionTech tried to hide that fact by having the goods shipped from Hong Kong, rather than from mainland China.

VisionTech often sent “bait and switch” samples when customers asked for chips that they could test. A small number of good chips were sent as samples, but the volume orders were fulfilled with fake chips. They also polished the chips with Armor All, to make them appear clean and shiny. Wren’s own son was photographed sitting at a work table with a chip, a toothbrush, an eraser, and a bottle of Armor All. The boy appeared to be “refurbishing” the fake chips. Employees also created false “certificates of conformance” for the chips on VisionTech letterhead.

The VisionTech staff was trained in “social engineering,” or using con-artist tactics to fool people who might discover the counterfeiting. When customers confronted VisionTech about the fake chips, Wren and McCloskey argued with them, saying that the components were bought too long ago for VisionTech to do anything about it. Returned chips were simply returned to stock for shipment to another customer.

The undercover investigation

The counterfeiters seemed far too brazen in retrospect. Wren admitted to one supply chain investigator, ERAI, that he lied about China being the origin for the parts. The investigator, Krystal Snider, told him, “Shannon, that’s fraud.” When confronted with accusations, the company fought back belligerently, only occasionally giving up and offering refunds.

These tactics helped hide the fraud for a longer period of time than usual. But eventually, the weight of complaints brought attention to VisionTech, and the feds launched their investigation. Customers such as Suzy Henderson at BAE Systems began complaining to authorities. From 2004 to 2010, investigative firm ERAI received 21 formal complaints and 53 negative references for VisionTech.

The scheme all unraveled after federal agents made an undercover purchase on June 17, 2009, and another one on July 15, 2009. Federal agents bought Texas Instruments, Analog Devices and National Semiconductor devices from VisionTech. The companies studied the parts and figured out they were all fakes, partly because they had fake part numbers and date codes.

The fed raided the business on Sept. 14, 2010. In a plea bargain, McCloskey admitted that she supervised day-to-day operations at VisionTech and could hire or fire employees. She didn’t finish high school, but had her GED. She is a divorced single mother with a 12-year-old son. She had limited training in chip technology, and admitted to “willful blindness” to the fraud taking place. When confronted by customers, her behavior was “nasty and rude,” according to the sentencing document.

She eventually cooperated, providing investigators with a password to the VisionTech computer system. The government is asking that McCloskey pay restitution for the cost of parts. And the government is recommending 54 months of jail time for McCloskey.

[image credits: top images from nxtboo.com]

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