owner-project-control-review.pdf

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2014 Baker Tilly Virchow Krause, LLP

Owners project control review


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About Baker Tilly

> Established in 1931

> One of the top 20 largest accounting and advisoryfirms in the United States according toAccountingTodays 2014 list of Top 100 Firms

> More than 1,600 professionals

> Baker Tilly Virchow Krause, LLP is the largest USBaker Tilly International independent member firm

> Baker Tilly International is the eighth largest publicaccounting network with representation in more than

137 countries> Convenient, seamless resource for worldwide needs

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From conceptand fundingto controlsand compliance, BakerTilly has more than 250 dedicated construction and real estateindustry professionals to assist with your facility developmentproject through all stages of the development lifecycle.

About Baker Tilly

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Overview

Aud it act ivit iesChange orders

Case studies

EXAMPLE TEX

Controls by project phase

Common construction

program risks

Overview of construction

program controlsTodays topics

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Learning objectives

> Understand construction program control fundamentals

> Identify how the project risks change throughout the construction lifecycle

> Recognize audit red flags and under performance indicators> Evaluate audit program elements

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Construction program controls

What are construction program controls?> Construction contracts

> Documented, implemented policies, and procedures> Designed to mitigate project and program risks

> Controls can help organizations: Improve project return on investment

Prevent realized losses from scope creep

Maintain project schedule, avoid preventable project delays

Improve communication of pertinent project issues

Monitor projects

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> Contract controls include good definition of terms such as allowable costs

right-to-audit

change orders

self-performed work

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> Policies and procedures should include controls for all project phases: Pre-construction

Construction

Post-construction

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> Policies and procedures should be: Documented in a comprehensive construction program controls manual

Detailed to reduce subjectivity in application and practice

Distributed to all construction personnel

Reviewed regularly for modifications

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>Actual practices should be monitored and compared to documented controls

> Monitoring helps ensure controls are: Implemented

Adhered to by personnel

Functioning as intended

Effective

> Controls that are not implemented, followed, or functioning properly are

not effective in mitigating risks

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Common construction project risks

> Overcharges> Unwarranted change orders> Scope creep

> Construction quality issues> Unauthorized material

substitutions

> Project schedule delays>Abuse of contingency funds

> Unrealized credits andavailable discounts

> Claims and liens

> Project scope/requirementsexceed funding

> Poorly defined contract terms

and/or program controls> Excessive billing rates> Undisclosed related party

transactions

> Inaccurate or insufficient

project records> Inadequate staffing

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Types of construction program controls

>As the owner, you are ultimately responsible for everything

> Detailed program controls to mitigate risks on construction projects arecrucial to successful capital programs

> One way to organize program controls is by project phase Pre-construction Construction

Post-construction

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Pre-construction controls

Major responsibili ties Control examples

Design Design completion percentage beforeconstruction begins

Design evaluation procedures

(feasible, functional) Constructability review requirements Value engineering procedures Preliminary project schedule and

budget requirements

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Pre-construction controls (cont.)


Bid phase Sole source procedures Bidder prequalification requirements Standardized RFP templates

Bid posting, advertising, distribution Bid analysis requirements

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Contract awards Define basis of awards Required approvals, timing Purchase order procedures

Contracting process Applicable notices (award, NTP) Standardized contracts Approvals and approval thresholds

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Regulatory, economic developmentand business enterprisecompliance

Documentation of regulationsapplicable to the project

Project business enterprise

requirements (M/W/DBE) Compliance (Davis-Bacon, OSHA)

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Pre-construction work Define cost estimate supportrequirements

Determine basis for reimbursement/

contract types Standardized contract terms and

conditions

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Construction controls


Change order control Change request process andstandardized forms

Cost/pricing analysis requirements

Allowed change order cost types Cost and schedule change support

requirements

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Construction controls (cont.)


Schedule management Narrative and approval requirementsfor baseline/active schedules

Mandated schedule updates

Approval requirements for schedulechanges

Comparison of schedule to actualcompletion

Schedule reporting details

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Cost monitoring PM review of budget/commitment toactual

Variance communications

Invoice approvals Project reporting

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Safety Project safety requirements Distribution of owner requirements Contractor, subcontractor, vendor

acceptance Compliance with OSHA, otherapplicable regulations

Violations and corrective action plans Accident and claim procedures

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Contract accounting Invoice approvals and approvalthresholds

Subcontract billing requirements

Expenditure processing (3-waymatch) Project financial reporting, frequency,

distribution

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Post-construction controls


Physical project closeout Substantial and final completionconditions

Closeout submittal requirements

Delineate walkthroughs andresponsibilities

Punch list monitoring and resolution Contract closeout procedures and

final reporting

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Post-construction controls (cont.)


Liquidated damages/sharedsavings calculations

Application of contract provisions Approvals of exceptions Calculation methods

Timing of assessment/paymentsAllowance and contingencyreconciliation

Responsible parties Verification of usage compliance Timing of reconciliation

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Post-construction controls (cont.)


Accounting project closeout Project capitalization procedures Contract reconciliations Final cost audit

Accounting system project closeWarranty management Warranty log requirements

Tracking/inspections Claim procedures

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Case study #1: Change orders

Facts> University housing project

> GMP contract totaling $100 million

> Contractor self-performing carpentry work

> SPW was agreed to using lump sum pricing

> Contingency fund usage requires owner authorization

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Case study #1: Change orders (cont.)

Key tests>Analyze payment applications to identify line item overages

> Compare general conditions percentage complete to overall project completion

> Review project change order approvals and test for contract compliance> Examine RFI and change order control schedules to capture and highlight

duplicate submissions

>Assess contingency logs and descriptions of usage

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Red flags> Contractor billing schedule of values reflects line item overruns

(negative balance to finish amounts)

> Change request using contingency to add funds to general conditions

> Duplicate scope of work in change order

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Findings> Contractor overran the SPW budget

> Change order increased general conditions for duplicate trade/craft

scope of work to recover SPW overages> Owners senior project manager approved this change order

Program controls in place were not functioning as intended.

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Control recommendations> Contract change order controls

> Multiple review and approval requirements for change orders prior to

execution (VP, project executive, project manager, finance)> Discussion of pending changes (scope/amount) in weekly project meetings

> Required communications informing program managers of line itemoverruns (PM and accounting)

> Change order increased general conditions for duplicate trade/craftscope of work

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Case study #2: Bill ing

Facts> Hospital expansion project


> Contractor owned equipment is utilized on the project> Contract terms

Include stipulated labor and equipment rates

Allow for annual labor escalation of 3 percent

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Case study #2: Billing (cont.)

Key tests> Review payment application supporting documents for adequacy

Contractor owned equipment daily project work logs or equipment usage tickets

Labor timesheets

> Trace cost support to payment application

>Analyze support provided to owner showing annual rate increase calculations

> Determine existence of rental rate comparisons

>Assess contractor owned equipment rates in comparison to average of local

rates

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Red flags> Contract cost terms do not provide cost limitations or ceilings for

contractor owned equipment

Monthly rental rate restrictions

Charge limits for total rental charges

>Annual rate increase were not provided to the owner for review prior tobilling with updated rates

> Incomplete or insufficient cost support provided with monthly billings

> Lack of rental rate comparisons

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Findings> Owner was billed for contractor owned equipment

at 115 percent of the equipment fair market value

exceeding actual on-site usage

> Labor billings were based on rates exceeding the stipulated escalationpercentage

> Project accounting controls did not include reconciliation of select costsupport to amounts billed

> Owner personnel did not validate the increased labor rates for contractcompliance

Contract controls were not favorable for the owner.

Project controls were not adequate to help owner control costs.

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Control recommendations> Contract terms should include restrictions on contractor equipment charges

Require rate comparison to local rates

Stipulate contractor rate does not exceed average rate

Cumulative charges are not to exceed a stipulated FMV percentage

> Contract terms should stipulate billing cost support requirements

> Contract controls should require documented owner approval of increasedrates prior to inclusion in billings

> Program controls should mandate rate review/verification process

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Control recommendations (cont.)> Project accounting controls should include reconciliation processes

Accuracy of calculations

Adequacy of attached support to validate all charges

Contractual compliance of billing rates

> Documented processes for the handling of unsupported or questionedcosts billed to the owner

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Case study #3: Collusion

Facts> City parking structure project

> Fixed price contract totaling $22 million

> Bids received ranged from $18.5 to $23 million

> Undisclosed related parties between the owner and contractor

> Related owner employee participates in bid award process anddecisions

> Key bid details were shared between related parties such as how the

bids will be scored and desired pricing/owner maximum

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Case study #3: Collusion (cont.)

Key tests> Review RFPs to ensure standardized conditions are included, such as

disclosure of related parties

> Examine project bid documents to verify: Pre-qualification was performed

Bid files including bids, bid tabs, scoring and award documents

Review exception detail assessing reason for deviation and approvals

> Compare bid practices to documented controls

>Additional work to confirm observations could include interviews andresearching licenses and relationships

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Red flags> Winning bid was the last bid received and time stamped at midnight

> Request for Proposal (RFP) did not require disclosure of related parties

> Prequalification processes were not followed

> Subjective scoring was used instead of award to lowest qualified bidder

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Findings> RFP did not include related party disclosure

> Work was not awarded to the lowest qualified bidder in accordance

with policies and procedures>Award exception was not documented in the bid files

> Prequalification policies were not adhered to

Implemented program controls were effective.

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Control recommendations> RFPs should include standardized conditions such as disclosure of

related parties

Providing incorrect data disqualifies company from bid> Policies and procedures should include additional controls such as

Disqualification of all parties not prequalified

Documentation requirements for all exceptions

Requirement of C-suite approval on all exceptions prior to award

Involvement of procurement or outside department in review prior to award

> Regular reviews to assess compliance with controls

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Case study #4: Shared savings

Facts> Office tower project


> Contract savings split: 80 percent to owner, 20 percent to contractor> Savings included any unspent allowance or contingency funds

> Contract contingency was 8 percent of the cost of work (high)

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Case study #4: Shared savings (cont.)

Key tests>Analyze cost support provided to validate the original GMP amount

> Review contract contingency percentage to assess reasonableness Typically averages 5 percent

> Examine cost support provided with change orders

> Review contract allowance and contingency logs

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Red flags> Lack of cost support for:

GMP contract values

Change orders

> Excessive unused allowance and/or contingency funds

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Findings> Original GMP costs were not supported with bids or estimates to

validate pricing was not inflated

> Change orders were not supported with cost estimates, bids or actualcost support

> No independent cost estimates were performed

> Contract work was completed for 90 percent of the GMP value

> High contractor contingency percentage inflated contract value

Contract controls were not favorable for the owner.

Project controls were not adequate to help owner control costs.

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Control recommendations> Contracts with split savings should require one of the following:

Cost support (bids, estimates, historical support, etc.)

Performance of an independent cost estimate

> Contract terms should exclude unspent allowance and contingencyfunds from the savings calculation

> Program controls include: Establishing contingency percentage guidelines (NTE ___ %)

Cost support reconciliations or third party estimates prior to contractapprovals

Verification of savings calculations

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Case study #5: Change orders

Facts> Hotel renovation project

> Cost plus fee final contract totaled $44 million

> Change orders were issued as lump sum changes

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Key tests> Detailed change order analysis

Review change order cost type

Assess cost support to validate change amount

Total cumulative change order value to date

Calculate change order value percentage

Review change order approvals

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Red flags> Excessive change orders

10 percent or more of contract value

Large volume or number of changes

> Change orders lacking cost support to validate change amount

> Charges that are not in compliance with the contract terms

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Findings> Change orders accounted for 27 percent of the final contract amount

> Change orders were lump sum changes

> Cost support was not adequate to validate the amount of the change

> Independent cost estimates were not performed

> Change order markup was not contractually compliant

Change order contract controls and program controls were not adequate

help owner control costs.

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Control recommendations> Contract change order controls

Support requirements

Stipulated change order markup percentages> Program definition of excessive change order amounts

> Guidelines for addressing excessive changes

> Program controls requiring Validation of compliance with contract terms (rates, fee calculations, markups, etc.)

Lump sum change order qualifications (allowable circumstances for use)

Change order contract controls and program controls were not adequate helpowner control costs.

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Disclosure

Pursuant to the rules of professional conduct set forth in Circular 230, as promulgated bythe United States Department of the Treasury, nothing contained in this communicationwas intended or written to be used by any taxpayer for the purpose of avoiding penaltiesthat may be imposed on the taxpayer by the Internal Revenue Service, and it cannot beused by any taxpayer for such purpose. No one, without our express prior written

permission, may use or refer to any tax advice in this communication in promoting,marketing, or recommending a partnership or other entity, investment plan, orarrangement to any other party.

Baker Tilly refers to Baker Tilly Virchow Krause, LLP, an independently owned andmanaged member of Baker Tilly International. The information provided here is of ageneral nature and is not intended to address specific circumstances of any individual orentity. In specific circumstances, the services of a professional should be sought. 2014 Baker Tilly Virchow Krause, LLP

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