Basics of a Construction Cost Audit

Construction Cost Audit

Construction is not totally confined to building new structures. The term encompasses a litany of things including remodeling, repairs, improvements, or demolitions. The government, private sectors, and public sectors are constantly engaged in construction projects, which are focused on schools, highways, buildings, etc.

Construction projects, whether privately or publicly bankrolled, are required to go through a project audit that will be carried out by an independent party. Following such an audit, the veracity of all invoices and construction-related expenses will be evaluated. In addition, according to the International Cost Engineering Council, a construction cost audit will also cover an analysis of the practices and measures applied or employed in project management and project cost/schedule controls. These practices and measures will then be compared to the best practices used in the industry.

Types of Construction Contracts

The initial step in properly conducting a construction audit is to thoroughly study and understand the construction contracts. Even within these contracts, the language and terms can vary. Therefore, a careful and comprehensive examination of the aforementioned contract is of paramount importance.

  • Fixed Price Contract

Also known as Lump Sum or Stipulated Sum Agreement, a Fixed Price Contract is applicable when a contractor concurs to facilitate the construction for a stipulated lump sum. However, if the incurred expenses exceeded the agreed amount, the contractor will have to shoulder the extra costs. On the other hand, the contractor cannot be compelled by the owner to undergo an audit.

  • Cost Reimbursable Contract

The highlight of this contract is that the contractors are not at risk whatsoever. They will be repaid for the expenses incurred during the completion of a construction project. However, the owner retains the right to subject the contractors to an audit.

  • Cost Reimbursable Contract with a Guaranteed Maximum Price (GMP)

Due to the terms that are stipulated in this contract, expenses incurred during the construction can be reimbursed by the contractor. However, there is a cap or GMP for these costs. Owners also have the right to audit the expenses presented by the contractors.

  • Unit Price Contract

According to this contract, the amount of money that will be paid to the contractors will be determined by their output. This is fairly common on roadway projects since the amount of materials are quantified and paid on their unit prices. Under a Unit Price Contract, the quantity of work can be audited by the owner. The pre-determined unit price, howbeit, is not part of the audit.

  • Design-Build Contract

Design-Build Contract can either be a Fixed Price, Cost Reimbursable, or GMP contracts. According to the Association of Healthcare Internal Auditors, this type of contract is normally used by owners when they choose designing and contracting services offered by a single firm.

Purview of the Construction Cost Audit

Depending on the owner of a project, the primary focus of a construction cost audit can be on the financial sphere of the construction project, assessment of the performance, or a mixture of both. The owner can either audit the contract, the supplier, or the whole construction project.

Every construction cost audit must be planned according the contract and the key provisions within; however, there are areas that are at high risk for overpayment compared to others, and construction cost audit will cover these risks. One of the major areas that are of high exposure is labor costs. Labor burden, labor acceleration, self-performed work, and overtime- on the part of a general contractor and subcontractors- are all areas where significant overcharges may occur.

Another area that the auditor will likely examine is the cost of materials and equipment. The contractor should be able to present that any purchases made, which were billed on the project, were correctly charged according to the contract. In addition, equipment rental rates and unit pricing will be reviewed to ensure that the disbursements follow the contract.

Contingencies and allowances outlined in the owner’s requisition are also high exposure areas that are subject to overcharges. General conditions and other impact costs will be assessed to make sure that these are reimbursable project costs and that they are billed as per the agreement.

Members of the Construction Cost Auditing Team

The owner can either let an outside auditor or his/her internal audit department to carry out the accounting process. An auditor and representatives from both the owner’s and the contractor’s camps will be the members of the auditing team. For the owner’s party, personnel from the project management, internal audit, and finance department usually make up the owner’s auditing team. On the other hand, the project head or manager and personnel from the project controls, corporate finance, and project management comprise the contractor’s auditing team.

Conclusion of a Construction Cost Audit

It is common to end an audit with a closeout meeting whereby the findings and ways to mitigate the reported problems will be discussed by both parties. An encapsulated audit report, which covers mostly overcharges and dubious expenses, will be presented to the owner. The audit discoveries will be classified and ranked depending on their potential impact or financial exposure.

The auditor may also propose recommendations that are relevant to the project controls and best practices in the industry. It isn’t until after the audit report is submitted that the effect and outcome of the audit will become apparent.