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TECHNICAL CONSULTANTS’ SERVICES
[Professional Fees – Scope of Services vis-à-vis Claims]
Ignorance, Negligence, Collusion or Fraud

1.1 A construction company [‘Client’] had been awarded in May 2002 a sub-contract for construction of a part of a Railway Infrastructure Construction Project [‘Project’] at a lump sum cost of RM520.0m. The track was to be designed for electrified track and with computerized signaling system. It was to be constructed on the ‘Design and Build’ concept. However, the ‘Client’ lacked in-house expertise that was relevant for certain components of the ‘Project’. One of these components referred to construction of Marshalling Yards [‘Yards’] with an estimated cost of RM150.0m. Consequently the ‘Client’ appointed in July 2002 a private consulting engineering firm [‘Consultants’] with relevant expertise and experience to provide the necessary civil and structural engineering consulting services [’Services’] in respect of the ‘Yards’.

1.2 The scope of appointment of ‘Consultants’ composed of Survey, Engineering and Design Services [‘Services’]. The agreed rate of Professional Fees’ [‘Fees’] was 6% of the ’mutually agreed estimated cost’ [‘Estimate’] of RM150.0m for full services. However, the appointment was for ‘Services’ up to the ‘Design Stage [i]’ [‘Scope’] only. The ‘Client’ intended to use in-house resources for completing the services for the other stages [‘Design Stage [ii], Tender Stage and Construction Stage]. The Letter of Appointment [‘LOA’] issued to the ‘Consultants’ included the following clause that referred to the basis of computation of the ‘Fees’:

‘The ‘Fees’ payable would be based upon the ‘Estimate’ and payment schedule and payment made in accordance with the scale of fees as listed in ‘Appendix 1 - Scale of Fees’ that formed part of the terms and conditions prescribed in the ‘LOA’.

Note: The ‘LOA’ contents were similar to those contained in the ‘Form of Agreement’ pertaining to ‘Civil and Structural Engineering Works’ as approved by the relevant Regulatory Authority that had divided the professional services into five stages and apportioned the percentage of fees for each of the five stages. The stages and the apportioned percentages are as follows:

1.3 The ‘Consultants’ had submitted several interim claims that totaled RM3.0m up to December 2003 and had been computed based on the ‘Estimate’ and for services up to ‘Design Stage [ii]’. The claims were scrutinized and recommended by the ‘Client’s’ Project Director for approval and thus paid by the Finance Director.

2.1 The ‘Client’ appointed a retired ‘Auditor’ with specialized expertise and experience in the audit of construction projects. However, the CEO requested that the ‘Auditor’ report to him rather than to the ‘BAC’. The request was rejected as it was contrary to the ‘Audit Charter’ and that the ‘Auditor’ was required to be independent with full access to all documentation and resources of the ‘Client’.

3.1 The ‘Auditor’ commenced his duties in January 2004. The subject of ‘Fees’ payable to the ‘Consultants’ was selected as the first assignment due to the large quantum of ‘Fees’ and that the balance would have been due for settlement within the next nine months. Access to documentation pertaining to the appointment and ‘LOA’ together with the prescribed attachments, was initially denied by the Project Director. The matter was referred to the CEO who assured of his full co-operation as was prescribed in the Audit Charter that had been approved by the Board of Directors [‘BOD’] and required total co-operation of every employee of the ‘Client’ and full access to all documentation to the ‘Auditor’. While the Finance Director provided all the relevant documents pertaining to the interim payments, the CEO still took no action to direct the Project Director to provide the documents to the ‘Auditor’. The matter was referred to the Board Audit Committee [‘BAC’] who referred to the Board of Directors [‘BOD’] the lack of co-operation of the CEO/Project Director in providing the relevant documents. Pending decision of the ‘BOD’ the Finance Director was directed to suspend immediately any further payments for claims including those that had been recommended for approved by the Project Director. The relevant documents were finally provided by the Project Director after a lapse of four months following a directive from the ‘BOD’ that full access to documents and co-operation be provided to the ‘Auditor’.

4.1 The correspondence together with contents of the ‘LOA’, Appendices and relevant documentation, were scrutinized and compared with the Terms and Conditions as contained in the

as was approved by the Regulatory Authority’ and was similar to the prescribed Terms, Conditions and Fees’ contained in the ‘Model Form of Memorandum of Agreement’ [MFMA’]. It was mandatory for all engineering ‘Consultants’ to comply with the contents of the approved ‘MFMA’ that had been in force since January 2001.

4.2 The main aspects that had direct bearing on computation of ‘Fees’ as claimed by the ‘Consultants’ were examined in detail. These were:

[a] Composition of Cost of Works [‘Works’] that would be subject to ‘Fees’,

5.1 The Audit findings resultant from the examination of the documents is detailed below.

[a] The detailed breakdown costs of ‘Works’ showed that the RM150.0m included the below listed components that should not have been categorized under ‘Works’. These components would not need any civil and structural engineering expertise for which the ‘Consultants’ had been appointed and thus no consultancy services would be required or to be provided.

Consequently the above three components would not qualify for any ‘Fees’ claims that were estimated by ‘Consultants’ at RM3.15m [being 75% of 6% of the cost of works [RM70.0m]]. Thus the revised ‘Fees’ were estimated at RM3.6m [based on 75% of 6% of RM80.0m]. The savings are estimated at RM3.15m [RM6.75m less RM3.6m].

[b] The technical documents provided by the Project Department to substantiate the interim claims submitted by the ‘Consultants’ that were for services up to ‘Design Stage [ii] and recommended for approval by the Project Director and paid by the Finance Director, were examined in depth. Verbal advice was sought from several in-house engineers on the method to determine the stage of services completed by the ‘Consultants’ but none were willing to provide their expertise without prior written approval from the Project Director/CEO. However one engineer was willing to provide oral advice on condition of anonymity wherein he confirmed that the ‘Services’ provided were up to ‘Design Services [i]’ stage.

[c] The ‘Consultants’ had computed their claims on the prescribed percentage basis. However the percentage claimed was 75% that signified that the ‘Services’ had been completed up to the ‘Design Stage [ii]’ whereas the appointment was for up to ‘Design Stage [i]’ and the documents provided also confirmed that services had been provided up to Design Stage [i] only.. Consequently the ‘Fee’ payable would be 55% of 6% of RM80.0m that would amount to RM2.64m only

[i] Cost of Relevant Works for which ‘Consultants’ ‘Services’ have been engaged,

All claims would be interim and provisional until the completion of the ‘Works’ when Costs has been ascertained on preparation of the Final Accounts that have been agreed to by all relevant parties [‘Clients & Contractors including their Sub-Contractors/Suppliers].

5.2 As it stands the ‘Consultants’ have been over paid as the interim payments for partial completion of ‘Services’ have totaled RM3.0m whereas the total ‘Fees’ was estimated to be about USD2.64m.

6.1 A draft Audit Report was submitted to the CEO/Project Manager for their comments but they chose not to respond. Consequently, the BOD directed that pending any decision of the BOD on the action of the CEO/Project Director, the audit findings be forwarded to the ‘Consultants’ for their comments. The ‘Consultants’ agreed to the audit findings in principle and after protracted discussions. However, they refused to concede to the quantum of over paid ‘Fees’ with reasons that they had been verbally directed by the Project Director to continue with the services required under ‘Design Stage [ii]’ which stage they had since completed and for which the relevant documents were still with the ‘Consultants’ and for which they were entitled to claim the 20% portion as provided in the ‘Form of Agreement’ as approved by the relevant Regulatory Authority.

7.1 The ‘Client’ and the ‘Consultants’ did not wish to refer the dispute to the relevant Regulatory Authority as both parties were at fault as appointment of ‘Consultants’ for partial ‘Services’ was not permitted without prior written approval of the Regulatory Authority. The approval of the Regulatory Authority was not sought as the in-house engineers were from foreign countries and that they had not been registered with the Regulatory Authority that was a mandatory requirement. It was agreed that the dispute regarding the quantum of ‘Fees’ would be resolved on the following terms:

[a] All relevant documentation to substantiate that the services had been completed up to ‘Design Stage [ii]’ would be provided promptly to be verified by a mutually agreed independent party whose fees would be shared equally by the ‘Client’ and the ‘Consultants’;

[b] The ‘Services’ shall be completed within the next three months after which the balance of RM600,000 Further, a penalty of RM5,000.00 per day would be imposed in the event of any delays beyond the agreed completion period of three months; and

[c] The ‘Fees’ would be capped at RM3.6m including the earlier interim payments and any dues would be fully settled within two months of verification by the independent party.

7.2 The ‘Services’ were satisfactorily completed within the agreed three months period and the balance of RM600,000 settled after verification by the independent party.

8.1 The important findings of the audit and recommendations made to ‘BOD’ to avoid recurrences in the future are listed below.

[a] There were opportunities and possibilities of collusion and/or fraud in computation of ‘Fees’ by the Project Director with the concurrence of the CEO and ‘Consultants’.

[aa] ‘BOD’ was advised to show greater interest in future in the various aspects for Effective Management of Construction Projects.

[b] The Finance Director had not shown any interest in ascertaining the justifications/computations of ‘Fees’ and other financial aspects vis-à-vis the contents prescribed in the LOA of the claims even though one set of all ‘LOA’s and relevant documents were extended to him and with access to other documents as necessary. He was over-dependent on the recommendations of the Project Director.

[bb] The Finance Director and other financial/accounting professionals should have been pro-active and verify the claims computation with the requirements of the scope of services as prescribed in the ‘LOA’. Clarifications should have been sought from the Project Director for aspects that could not be understood. Further advice could have been sought from other sources including the Regulatory Authorities. Total dependence on others had led to substantial over payments in the initial stages that could have been prevented. The over payments may not have been prevented if the claims had not been subjected to audit.

[c] The BOD was weak and ineffective by permitting the CEO/Project Director to act unfettered. Further the BOD/BAC had not provided to its Finance/Accounting professionals any training opportunities in financial aspects in contracting/consulting obligations. The ‘Client’ did not subscribe to any of the technical journals that provided knowledge in the various financial aspects of the construction/consultancy fields. The non-subscription was stated to be an ‘economic’ measure for the ‘Client’. Further, the financial professionals did not show any interest in enhancing their knowledge of the various aspect of management of construction projects especially those that had financial implications with the justification that this was the responsibility of the technical professionals.

[cc] The BOD/BAC was requested to obtain monthly financial/physical progress status reports and analyze them with assistance from any relevant source, if necessary. It was also strongly recommended that the financial/accounting professionals working in the construction industry should endeavor to enhance and upgrade their knowledge of the various aspects of the construction industry especially those that had financial implications. Technical journals should be subscribed as the cost is negligible as the value can be immense. The practice of maximum controls for minor aspects and zero controls for major financial outlays should be reviewed.

[d] The ‘Client’ did not comply with the requirements of the Regulatory Authority in appointing the ‘Consultants’.

[dd] The ‘Client’ was advised to fully comply with the legal requirements of the Regulatory Authority and being exposed to legal action that could have resulted in financial penalties and disruption of works implementation that could have caused indirect high costs.

[e] Management [CEO/Project Director] obstructed the ‘Auditor’ in his duties by not co-operating and providing the relevant documentation in contravention of the Audit Charter.

[ee] Written directive was issued to the CEO/Project Director and all staff to fully comply with the Audit Charter and provide full assistance/cooperation to the ‘Auditor’.

8.2 Audit discovered another case where the appointed private architect [with a PhD qualification and a Datoship] had submitted his professional fee claim based on computation where the cost of [abandoned] works had included his own fee component that resulted in an excess payment of about RM30.0K. Management chose not to take recovery action.

9.1 The ‘Auditor’ reviewed all the existing procedures and internal controls of the ‘Client’ and made necessary revisions to make them more relevant to the core activities of the ‘Client. The element of ‘Risk Management’ was incorporated in the revised procedures/internal controls. Periodical briefing and training was provided to the staff at all levels with emphasis on financial implications on the various aspects of contract especially the financial implications of compliance with the requirements of regulatory authorities, planning, terms & conditions, documentation, implementation, monitoring via status reports/briefings on a regular basis, etc.

9.2 Two other audits provided sufficient evidence of fraud where the CEO/Project Director and two other senior technical professionals, were involved. Consequently the ‘BOD’ deliberated on the possibility of taking disciplinary action against them but the CEO/Project Director and the others submitted their resignation and left the company within [24] hours. The ‘Client’ decided not to take any legal action in this matter as it could have exposed the many weaknesses existing in the company and adversely effect its relationship with the main contractor and its reputation. An equally important consideration was that there was a negligible possibility of any financial recoveries from the CEO/Project Director.

Financial & Audit professionals should equip themselves with the relevant knowledge in respect of terms of appointment and computation of professional fees

to be able to add value in their advice for informed decision and cost-efficient audits.

The ‘BOD’ should monitor for effective management

GURSHARAN SINGH C.M.I.I.A. [Trainer –Audit Officer]
116 Jln. Hujan Manik, O.U.G. Jln Kelang 58200 K Lumpur, Malaysia

Tel. No. [H] 603-79808549 [H/P] 019-2927178

E-mail: gursharan38@gmail.com, sharwant38@yahoo.com

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