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Construction Audit Fraud Presented by: Denise Cicchella, Director Altran Control Solutions November 3, 2009 ACFE - Charlotte, NC.

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Presentation on theme: "Construction Audit Fraud Presented by: Denise Cicchella, Director Altran Control Solutions November 3, 2009 ACFE - Charlotte, NC."— Presentation transcript:

1 Construction Audit Fraud Presented by: Denise Cicchella, Director Altran Control Solutions November 3, 2009 ACFE - Charlotte, NC

2 Director, Altran Control Solutions International - Construction Audit Practice Author: IIA Handbook Series: Construction Audit Guide: Overview, Monitoring and Auditing Essentials of Construction Management (co-author) IIA Speaker/Instructor (201) 835-4069 Denise Cicchella, MBA, CIA, CFE, CCA

3 © Altran Control Solutions', October 2009 Construction Life Cycle CO Finishing Site Work Foundation Site Preparation Demolition

4 Types of Contracts Lump Sum GMAX (Guaranteed Max) Design-Build Cost Plus Percentage of Completion

5 Lump Sum One price (by trade) to encompass all costs and to complete the project as specified. Great in theory but there are frequently too many unknowns. Contractors protection = change orders, owners protection = change management controls Other names Stipulated Sum Fixed Price May or may not include General Conditions

6 Cost Plus Similar to having work done with a mechanic. Parts = Material Equipment and Labor Percentage for other costs – called Overhead and Profit or general and administrative (G&A). Also called Time and Material No incentive to reduce cost – more costs means more G&A.

7 More Cost=More G&A Project Cost 2 Million with 4% G&A $2,000,000 *.04 = $80,000 Project Cost 3 Million with 4% G&A $3,000,000 *.04 = $120,000 Is the difference really labor and other costs or is it overinflated buying?

8 GMAX Cost plus with a limit on spending. Cost is capped at a MAX called an upset price or price cap. May be capped by individual trade or total project cost. Creates a use it or lose it scenario, charge costs to Max. Savings Incentive may be included in contract. (False control). [Only known to be have done once at WSU]

9 Savings Incentive Clause Promise to share in any amounts under budget 60% Owner 40% Construction Manager Assume under budget by $1,000,000 Which would you rather? $1,000,000 or $400,000 Contractors choose to try the fraud and if they get caught claim it was nothing more then an error.

10 Design – Build Also called turnkey Less bidding as the contractor and builder are one in the same. Maximum acceptance cost is given at bidding. Builder is the designer and the owner has little say in what goes in. Reduces the number of cooks stirring the pot, but do you have the right chef? Gated community homes usually are design-build. Franchises are generally design-build.

11 Percentage of Completion Payment is made based on lump sum ibut apportioned based on amount completed. Difficult to define percentage of completion Even more difficult to calculate. Is it by trade or by entire project? Includes an estimate of included materials. True Up full completed projects.

12 The Fraud Triangle Motive OpportunityRationalization How Can I? Why Should I? Why Me?

13 Rationalization Why would the contractor thinks he deserves to commit fraud? He lowered prices as a favor. With all the money going out no one would miss it anyway. Payment on invoices has been slow so – this is payback. He knows that the project is so time sensitive that even if he gets caught he will not lose the project.

14 Opportunity Why can the contractor conceal his fraud? No one reviews invoices. Rubber stamping (Radar OReilly principle). Too much paperwork. Reviewer does not understand construction like the contractor does. (Mechanics theory). Everything is done with an air of haste. Bills are not audited. He has gotten away with it before.


16 Motivation What would motivate a contractor to commit fraud? Need it to meet capital demands. Declining trends in construction. Low balling original bid to win job.

17 When to conduct a Construction Audit During After Time Fix ongoing problems Implement controls Not getting in the way Safety – location Get to the contractor before he is gone More effective Memory recall Right to Audit Clause may expire Concentrate risks when you can see the overall picture Quicker More efficient

18 When to conduct a Construction Audit

19 Benefits of Early Intervention

20 MULTI DISCIPLINED APPROACH Conventional Audit Skills Knowledge of Construction and Construction Terms Ability to read and understand contract language Data Analytics

21 SOME THOUGHTS During the Big Dig in Boston claims had to be forfeited when it was discovered because no one tested to ensure that insurance policies paid for were actually inactive. Amount lost $80 million. A recent audit revealed that equipment rates were off by nominal amounts, amortized over the whole project this amounted to $800,000.00 A project was recently reported to the press, a loss of $27,000 was incurred because no one ensured that prevailing wages were being paid. In a recent audit we tested conversion rates between the GC in Japan and the Client in the US. An agreed upon rate was contracted for and not used. It took us 40 minutes to recover $1.8 million. DC

22 Performing a Site Walk Through Supervised - Are workers properly supervised. Idle – Are workers or equipment sitting there with nothing to do. Recognize – do you recognize workers from the last walk- through. Check for obvious safety violations. Look for risks to your client. Organized – Does the site and the workers appear to be flowing. Count the number of employees to use later when verifying payroll for the period of your visit. Kept – Is the site kept clean and broom swept?


24 Auditing Lump Sum Change Orders Substitution Permitting Insurance Correct Price Everything New?

25 Auditing Cost Plus Hours Overtime Rates Supervision Employees

26 Cost Plus Rates for blueprints / copies Travel Expenses Audit charges from subs Audit payroll taxes Audit applied rates for G&A or profit. Audit labor burden

27 Auditing GMAX Costs Rebates Allocations Max Scrap

28 Contract Incentives If the contract has incentives or damages consider these in your audit: Cost Incentive (coming in less then GMP) Quality Incentive Delivery Incentive Time Incentive Safety Incentive Target Price These same incentives may also be damages.


30 30 About 10% of all project costs are fraudulent. The National Audit Office in the UK states that this can climb as high as 20%! FRAUD! Project Costs Wasted on Fraud

31 5–10 % of all Time & Material project costs are due to fraud, error, or mistakes. The 2008 Association of Certified Fraud Examiners (ACFE) Report to the Nation on Occupational Fraud & Abuse says that construction ranks as the fifth highest industry in median losses per scheme, with a median loss per scheme of $330,000. Think About This ……

32 Cost of Fraud

33 Common Areas of Fraud and Abuse

34 Pre –Bid Schemes Corruption Kickbacks Bribes Conflicts of Interest Fraudulent Bonds Post-Bid Schemes Collusion Signature Fraud Unbalanced Bidding Exclusion of Qualified Bidders Leaking Bid Data Unjustified Sole Source Awards Change Order Abuse Co-Mingling Contracts Unpaid or Fraudulent Insurance Contract Fraud 34 Presentation title / date / confidential / Issued by...

35 What is a contract? Five Elements 1.Competent Parties 2.Lawful Subject Matter 3.Legal Consideration 4.Mutual Promises 5.Mutual Obligations Other Considerations Legally Enfoceable Oral or Written Certain and Definite Terms Revocable 35 Presentation title / date / confidential / Issued by...

36 Corruption 36 Presentation title / date / confidential / Issued by...

37 Vendor Due Diligence How long have they been in business? How many other jobs are they currently involved in? Do references believe that they can provide a quality service or material? Have they worked with you before? Were they successful in the work they did for you? What does Dunn and Bradstreet, Hoovers, or Kroll say? Are they subject to any pending litigation? When was the last time they were asked to bid for your services? How did their prices vary after the last bid? Are they related to anyone in your company!

38 Bribes and Kickbacks The giving or receiving of a thing of value to influence a business decision or official act. Takes Multiple Forms Refunds after the fact Facility Tours Gifts Service Favors Loans Conflicts of Interest A person with procurement decision making ability has an undisclosed (financial) relationship in the recipient of the contract or bid. Title or ownership of acquired property. Stock Ownership Employment offers or prior employer – Are they still on the payroll? Bribes, Kickbacks and Conflicts of Interest 38 Presentation title / date / confidential / Issued by...

39 Unusually high prices Price Increases Purchases above and beyond Repeated use of the same supplier Acceptance of poor performance Close relationships with vendors High commissions Reputation or debarrment Procurement official living beyond means Use of liaisons or middleman Change orders unusually high or for normal reasons Failure to disclose key information about key stakeholers Public Records search shows financial interest with high level or procurement. personnel Red Flags 39 Presentation title / date / confidential / Issued by...

40 Fraudulent Bonds Surety bonds have consecutive numbers. Surety bond outdated Surety bond offered by same sureties Sureties of unknown or poor reputation Collusion Bid Rotation Purpose submission of high bids to allow a lower bidder to win, at inflated price – share in profits. Pay off of new bidders Hiring losing bidders as subcontractors Similar bids Fraudulent Bonds and Collusion, 40 Presentation title / date / confidential / Issued by...

41 Labor Fraud Unlicensed Workers Ghosts on the Payroll Unauthorized Workers Time Miscalculations Unauthorized Rate Changes Up-billing 41 Presentation title / date / confidential / Issued by...

42 Ghosts

43 PAYROLL ISSUES - A GHOST STORY Employees working 32 hours a day 100 hours @125 per hour = $12,500 Father and Son had birth years 3 years apart, led to discovery of people on payroll not paid 65 hours @ $60 per hour = $3,900 So many people, so little space = $120,000

44 GHOST STORY II 150 workers working on a day the site was closed. Because site was closed they were paid overtime. $27,000 Workers working multiple projects simultaneously $320,000 Employee paid more on paper then on paychecks $190,000

45 EVEN MORE GHOSTS Everyones marital status on Payroll registers were singles despite their age category Unwillingness to open their books for Audit

46 Up-billing Charging a journey as a foreman. Charging full cost for an apprentice. May not necessarily just be construction workers: Project Managers Should be done by clerical Clerical Costs covered in G&A

47 Evidence of Up-billing Unusual overtime charges. Tasks that seem to take too long to complete. Workers working more then usual shifts. Workers whose titles keep changing. Workers on certified payroll twice with different titles. Workers paid multiple rates. Incorrect math on payroll.

48 Testing for Up-billing Obtain a copy of certified payroll report. Categorize payroll by employee and include: Employee name Social Security Number Rate of Pay Time Card Verify information to personnel records on file with the general contractor. Interview personnel: Obtain title Obtain Job description Compare to registered job records. Compare payroll to actual time cards.

49 Equipment Fraud Personal Use Free Parking Pilfer Piece by Piece No operator

50 Material Fraud Unauthorized Material Substitute Material New vs. Like New Invoicing Price Extensions 50 Presentation title / date / confidential / Issued by...

51 Replacement Material


53 Replacements ContractInvoice

54 Behind the Wall Shortcuts

55 Invoicing 55 Presentation title / date / confidential / Issued by... Invoicing for material not used Invoicing/Ordering material for other projects Back Dated Invoices Invoicing for material that was returned Reporting theft of material when no such loss incurred.

56 Time Schemes Unauthorized Delay Phantom Weather Change order to escape liquidated damages Intentional Failure to recover on liquidated damages Charging for work performed on Holidays or Unauthorized OT Ordering OT for work that should be completed in normal course of business 56 Presentation title / date / confidential / Issued by...

57 Change Order Management Work then approve Rate Changes Site Conditions Time Quotes Work then Approve Log and Monitor Trends by Contractor/Subcontractor

58 Billing Fraud

59 Duplicate Billings Original Invoice App 1App 8App 1Xerox

60 Investigating Duplicate Billings Obtain copies of invoices and cancelled check showing proof of payment. Contact vendor and request copy of accounts receivable ledger for contractor. Interview personnel responsible for preparing monthly invoice. Interview project manager or general contractor who certified or did initial due diligence on the invoice.

61 Evidence of Duplicate Billings Invoice Numbers out of sequence Date of invoice out of order for construction done Invoice date inconsistent with the rest of the invoices. The invoice seems familiar An analysis of invoice numbers indicates that duplicate numbers. Invoice numbers are backwards Invoices Out of Order: During an audit of a construction project, I was presented with a slew of invoices for painting, amounting to almost 75% of the cost of painting indicated during billing. According to the monthly invoice only 20% of masonry (walls) had been completed.

62 Evidence of Fictitious Vendors/Bills TIN Website Physical Address Presence on Site

63 Testing for Fictitious Vendors/Bills Testing EIN Verify again consumer databases Run against Hoovers, Dunn and Bradstreet, or Accurint or other vendor databases available. Interview Accounts Payable Clerk at General Contractor Send certification letter to vendor on address given on invoice. Testing Website Visit website and verify that they sell goods and services indicated on the invoices. Search for company using Bing, Google, and Ask. Note any headlines found during your searches. Check local yellow pages to ensure existence of company. Call company using number supplied on the invoice.

64 Operator Fraud

65 A little boy was attending his first wedding. After the service, his cousin asked him, "How many women can a man marry?" "Sixteen," the boy responded. His cousin was amazed that he had an answer so quickly. "How do you know that? "Easy," the little boy said. "All you have to do is add it up, like the Bishop said: 4 better, 4 worse, 4 richer, 4 poorer" Its all in the Math….

66 Time and Expense Fraud 66 Presentation title / date / confidential / Issued by... Expense Not justified for work performed. Excessive/Elaborate expenses Meals with Owners Invoices not consistent with expenses submitted.

67 Contractors know the cost of Fraud!


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