Achieving fair and successful contract negotiation is vital to any thriving business, but it can be trickier than it sounds. That’s why we’re rolling out an original blog series to educate readers on issues concerning construction auditing and contracts. Each post is authored by one of our in-house subject matter experts – all of whom have decades of expertise providing these services to companies and institutions.
Our first post features 40+-year industry veteran and the head of HPM’s Audit & Contract Services division, Vinson Chapman. Vince and his team of auditors serve owners in the areas of contract negotiations, pay app reviews, calculations of scheduled damages, claims analysis management and defense, and interim and final audits for reimbursables, fees, and savings allocations. They represent many Fortune 500 owners, as well as many others across the US. For many years, Vince has produced a newsletter for his clients about construction contracts and auditing and now lends his expertise and experience to educating HPM’s clients on our blog, in webinars, at association conferences as well as for in-person training sessions for clients. For more information on how to learn more or get one of our auditors to train your in-house staff, please contact Vince at firstname.lastname@example.org or 972.529.0855.
Auditing Guaranteed Maximum Price Contracts
Vince Chapman, Vice President of Audit & Contract Services
What are GMPs – guaranteed maximum price agreements – and how do you audit them? GMP is an acronym everyone working in design and construction should know. Still, when it comes to the details, a surprising number of contract service professionals have little more than a surface-level understanding.
A desire for risk reduction may make a project owner push for a GMP contract which, in its basic form, says the owner will pay the contractor for the costs of doing the job plus an agreed amount of markup, for overhead and profit — up to a predefined maximum level. The contractor absorbs cost overruns, but cost underruns become savings to the Owner.
Construction cost audits come in many forms and can have different objectives. Owners can audit the construction contractor, a subcontractor or supplier, or the whole construction project spend, including designers, Owners agents, and third party vendors. But in any case, there are steps to the auditing process that we use at HPM.
The First Step
Audit the contract adjustments that have led up to the final contract value. While there are many items to look at, it is most important to ensure that the change orders have been processed and calculated per the terms of the contract and that allowances have all been properly reconciled. For change orders, verify that fees and mark-ups – for both subcontractors (sub) and the general contractor (GC) – have been calculated per the contract, and that all scope deletions feature a corresponding owner-deductive change order.
What are examples of typical change order audit exceptions?
– The GC did not net additive and deductive change orders when adding fee if the contract requires them to do so.
– An allowance was not reconciled, and the actual cost to the GC was less than the allowance amount.
– The GC took a credit from a sub for a scope deletion, but that same deletion was not processed to the Owner.
Each of these types of exceptions would serve to reduce the final GMP amount while not necessarily affecting the contractor’s actual reimbursable cost.
The Second Step
Audit the reimbursable cost and final fee calculation. More than 70 percent of the contracts we review feature some sort of savings, which means the reimbursable cost and fee are less than the adjusted GMP contract amount (after change orders). Any cost included in the cost of work – that is found to be not reimbursable – will lower the ultimate final cost that the Owner owes to the GC.
What are examples of typical cost or fee calculation exceptions?
– Home office employees charged to the cost of work.
– Labor burden payroll taxes charged are more than actual payments.
– Cost charged for GC-owned equipment more than market value.
– Subguard cost charged on estimated subcontract amounts rather than on actual final subcontract amounts.
– Fee only added to additive change orders and not credited on deductive change orders.
Final Audit Reconciliation
At the conclusion of the audit, a final contract reconciliation is needed to determine if the final audited contract GMP is less than the audited reimbursable cost-plus fee or vice versa. Typically, an audit report will contain both types of exceptions, audit adjustments to the contract GMP and audit exceptions to the reimbursable cost and fee. As you can see from the discussion above, one type of exception is different from another. This is why we separate the two types of exceptions in our audit reports, so they will not be confused with each other.
About HPM’s Audit and Contract Services
HPM’s audit service professionals offer expertise to secure fair negotiation and billing for client contracts. We perform comprehensive reviews of job costs that often lead to a substantial net savings of project costs. HPM provides you with the expertise you need to be confident you haven’t overpaid. For more information about these services, please visit our Audit and Contract Services page.