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Case Studies in Contract Close Out Audits

Join Jeff Witt, CPA, and Steve Fineberg, CPA, CIA, as they discuss common construction contract close-out situations. Dive into case studies covering change orders, contract compliance, and other critical closing issues.

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Case Studies in Contract Close Out Audits

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  1. Case Studies in Contract Close Out Audits May 2014

  2. Presenters Jeff Witt, CPA, CIA, CCA, CFE, MCSE Jeff is a Senior Manager in Moss Adams’ Construction Audit & Advisory Services Practice with over 18 years of accounting experience. His focus is on performing efficient construction contract audits based on detailed planning and risk assessment that focus on those aspects of contract compliance that are of greatest risk to our clients. Prior to joining Moss Adams, Jeff was a Controller for a government contractor where he led the implementation and control of compliant systems for government contracting. He also served as a government auditor for the Defense Contract Audit Agency for 10 years. Steve Fineberg, CPA, CIA, Steve is a Senior Manager in his eighth year with Moss Adams’ Construction Audit & Advisory Services Practice and brings over ten years of relevant experience in capital project program controls, forensic investigation, accounting and financial services. Steve has managed numerous capital project performance audits including various engagements that were subject to Generally Accepted Government Auditing Standards (GAGAS) requirements. He has managed several large performance audits, and has served as a project manager with responsibility for leading all aspects of contract compliance testing.

  3. Agenda • Discuss case studies related to common construction contract close out situations including: • Change orders • Contract compliance • Other closing issues • Questions

  4. Common Causes of Problems During Contract Close Out No 5. Improperly executed lien releases No. 4 Subcontract costs not adjusted for subcontractor change orders, including deductive change orders No. 3 Reconciliation of final job cost reports to final payment application No. 2 Contract terms not followed during contract performance No. 1 Unresolved change order issues

  5. Case Study on Improperly Executed Lien Releases Background • Conditional waiver on progress payment - This waiver generally specifies that ifthe contractor has been paid, the waiver is an effective proof against any lien claim on the property. • Unconditional waiver on progress payment - This waiver unconditionally releases all claimant rights through a specific date. • Conditional waiver on final payment - This waiver releases all claimant rights to file a lien if they have been paid to date. • Unconditional final waiver final payment – In general, this waiver unconditionally releases all rights of the claimant to place a lien on the owners property.

  6. Case Study on Improperly Executed Lien Releases (cont.) Background (cont.) If an owner has a general contractor (GC) that fails to pay subcontractors, suppliers or laborers or neglects to make other legally required payments, those who are owed money can look to the owner of the property for payment, even if the owner paid the contractor in full.

  7. Case Study on Improperly Executed Lien Releases (cont.) Background (cont.) • California Preliminary Notice (CA Civil Code sections 8100-8118) requires subcontractors to alert owner. • Owner will want to make sure it has lien releases before any payments to GC related to these and others (some not required to provided notice to owner).

  8. Case Study on Improperly Executed Lien Releases (cont.) Audit Steps • Auditors determined for which subcontracts the lien releases were not obtained. • Auditors alerted owner and indicated that final payment should not be made until resolved. Conclusion • Lien releases were obtained prior to final payment to contractor, thereby protecting the owner.

  9. Case Study on Improperly Executed Lien Releases (cont.) • In this case, some lien releases were not obtained (provisional or final) but the owner made payment to the contractor throughout the period of performance. • This subjected the owner to unnecessary risk.

  10. Case Study on Subcontract Costs Not Adjusted for Subcontractor Change Orders Background • We frequently note that general contractors are careful to pass through any subcontractor change orders for increased cost, but not so careful when it comes to deductive change orders. • In this case, the general contractor submitted a final payment application. The payment application included the subcontractor costs and any additive change orders. • There were no deductive subcontractor change orders included in the payment application.

  11. Case Study on Subcontract Costs Not Adjusted for Subcontractor Change Orders Audit Steps: • Obtained a listing of subcontracts and reviewed the subcontract files, including the base award and any subcontractor change orders. • Identification of certain deductive subcontractor change orders that were not included in the job cost detail and not included on the final payment application. Conclusion: • The contractor confirmed that these deductive change orders should have been passed on to the owner. • The contractor agreed to modify their final payment application to adjust for these deductive change orders.

  12. Case Study on Reconciliation to Job Cost Detail Background • The contract was a Guaranteed Maximum Price (GMP) contract where billings, including the final billing, were to be based on actual, allowable costs. • Contractor included certain estimated costs, not yet paid, in an attempt to expedite final payment and contract close out. • Reconciliation of the final payment application to the job cost detail identified the areas of difference (i.e., estimated costs). The estimated costs were not included in the job cost detail (JCD).

  13. Case Study on Reconciliation to Job Cost Detail (cont.) Audit Steps: • Reconciliation of final payment application to JCD • Identification of differences • Follow up with contractor Conclusion: • Contractor provided additional information on negotiation with subs that resolved most estimated costs. • The remainder was a negotiation item that resulted in an adjustment to final reimbursable cost.

  14. Case Study on Compliance with Contract Terms Background • A number of specific contract terms were included in the contract including: • Allowances • Contingencies • Stipulated rates • Specific language concerning costs included in burden rate • Change orders not negotiated as lump sum GMP increases

  15. Case Study on Compliance with Contract Terms (cont.) Background (cont.) • The contractor did not account for some of these terms in accordance with the contract including: • Non lump sum change order costs not separately accounted for. • Allowances did not result in correct adjustment to GMP. • Owner contingency usage was not approved in accordance with the contract. • Duplicated costs resulted from billing at stipulated burden rates and separately billing the related costs.

  16. Case Study on Compliance with Contract Terms (cont.) Background (cont.) • The contractor indicated it had verbal discussions with the owners rep where the rep approved the departure from contract terms for: • Handling of change orders. • Non true-up of allowances. • Usage of contingency. • However, there was nothing in writing to substantiate these claims and the owners rep indicated the contractor was mistaken.

  17. Case Study on Compliance with Contract Terms (cont.) Audit Steps: • Identification of contract non compliance issues. • Quantification of amounts involved. Conclusion: • Significant adjustments were required to: • GMP limits • Allowable cost

  18. Case Study on Change Orders Background • The owner (through their representatives), issued field directives authorizing the GC to proceed with work that was the subject of a potential change order. • There was no resolution of many of the proposed change orders. • This was done to: • Keep the project on the original timeline. • Maintain the relationship with the contractor. • Unfortunately, delaying dealing with potential change orders did not make the issues go away. They had to be dealt with prior to contract close.

  19. Case Study on Change Orders (cont.) Audit Steps: • Evaluation of documentation to support: • Basis of proposed change orders • Cost estimate support • Quantity analysis

  20. Case Study on Change Orders (cont.) Conclusion: • Exceptions were found for basis, cost estimates and quantities. • Owner had to engage in a difficult negotiation process that ultimately resulted in significant cost savings to the owner (versus just approving the proposed change orders).

  21. Questions? Jeff Witt, Senior Manager (503) 478-2282 jeff.witt@mossadams.com Stephen Fineberg, Senior Manager (916) 503-8175 steve.fineberg@mossadams.com

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