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Accounting Procedures for Internal Control
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MONITORING OF CONSTRUCTION CONTRACTS
1.0 INTRODUCTION
1.1 It is vital for Companies/Organizations involved in the Construction Industry to monitor construction contracts at every stage of implementation. This process should commence from the inception and approval stage and it should continue during other stages such as during implementation and the post-completion stage. However, this is generally a neglected field by almost every level of management.
1.2 This article will refer only to 'construction contracts' and not 'construction projects'. The BOD and senior management should be aware of the 'construction contracts' for it to take appropriate measures in the event of any facing problems that may have financial risks due to technical or implementation problems, fraudulent situations, or litigation for whatever reason. Preventive and early remedial actions are always a better alternative than delayed remedial actions that can prove financially disastrous to the company, its management and its owners.
2.0 AUDIT COMMITTEES
2.1 The Board of Directors [BOD] generally assigns the responsibility for monitoring of construction contracts to the audit committees [AC] that is appointed by the BOD. It is mandatory for companies listed on the stock exchange to establish audit committees. Similarly, shareholders of some private and private limited companies may also establish audit committees for this purpose. The AC would then prepare its report wherein its major and significant findings would be listed and reported to the BOD. It is the prerogative of the BOD regarding the inclusion of any findings that are included in the AC Report to be included the annual report that would be presented to the shareholders at its general meetings.
2.2 The monitoring function is one of the main activity for which the AC would be responsible. The performance of this function is implemented through the establishment of an Internal Audit Department [IAD] to whom guidelines and directions are given by the AC. The IAD would report directly to the AC who would then forward its findings and recommendation to the BOD.
3.0 MONITORING
3.1 The initial stage of monitoring should commence at the inception stage of any construction contract i.e. the pre-award stage that would be up to the issue of the letter or award or acceptance. The relevant department should prepare a management paper that would be presented to the relevant approving authority for approval before the inception of any construction contract. Some of the aspects would also be applicable for major procurement contracts such as bulk building materials and heavy plant and specialized equipment. Listed below are the suggested contents for the management paper. Additional contents can be included depending on its relevancy and need.
PRE-AWARD STAGE
[Up to the Issue of Letters of Award/Acceptance or Formal Contract Document]
A. Inception
[a] Justification of Contract Needs
[b] Budgetary Approvals
B. Scope of Works & Costs
[a] In-House Estimate [Management/Consultant]
[b] Type of Contract [Lump Sum with Schedule Of Rates, Bills of Quantities/Others]
[c] If BOQ - Categorization of Items [Fixed Sum-Measurement]
C. Selection of Method of Implementation
[With Implication Comparisons – Financial & Logistics]
[a] In-House [100 %]
[b] In-House & Outsourced [Apportioned]
[c] Outsourced [100 %}
D. Selection of Tenderers [Source]
[a] Database [In-House]
[b] CIDB Directory
[c] Advertisements
[d] Connections
[e] Directions
E. Invitation Procedure, Tender Conditions, Terms & Conditions and Special Conditions
[a] Standard
[b] Relevant
[c] Mandatory
F. Letter of Award/Acceptance [LOA] and/or Formal Contract Document
[a] Discretionary Authority Limits [DAL]
All the above should be disclosed in the management paper
in order to enable the BOD or senior management to make an informed decision
CONSTRUCTION STAGE
3.2 AC can be in a position to monitor the overall activities of the construction activities at the 'micro' level with a view to instituting the required directions that would enable management to rectify the structural deficiencies in the construction process. One important method would be whereby the IAC should be provided periodically [during meetings and readily when requested] with certain relevant information pertaining to the overall status of the activities that are being undertaken by the company. The recommended scope of information to be included in the 'status report' should cover, among other aspects deemed relevant, the following:
[a] List of the Sub-Contracts
[i] Completed Sub-Contracts [to be informed for the first time only]
[ii] Sub-Contracts being Implemented [to be updated periodically]
[iii] Proposed Sub-Contracts - Tenders Process Stage [to be updated periodically]
[b] Financial Status
[i] Sub-Contract Original Cost [as per LOA/Formal Contract]
[ii] Variation Costs [Approved, Pending Approval and Anticipated]
[iii] Progress Claims [Paid, Pending Certification, Date Payment Expected]
[iv] Recovery of Advances [if applicable]
[v] Facilities Provided by Company to Sub-Contractor [Value & Recovery]
[c] Implementation Status
[i] Mobilization Stage
[ii] Construction Stage
[d] Exception Reports [Detailed and Complete with Documentation]
[i] Delays: Physical/Financial/Compliance/Interim Claims
[Causes and Remedies Proposed with Estimated Costs]
[Recoveries from Third Parties, if Possible and Identifiable]
4.0 It is conceded that almost all the above information may be available in the system but it may be 'fragmented'. Thus, the above information may not be readily available. Most company's information system may easily provide the required information provided the relevant data is keyed in promptly. The Suggested 'status report' containing the above information would provide AC with a 'bird's eye view' of the progress of the works and identify areas that may need the intervention of the senior management or shareholders.
STATUS REPORTS FOR SR. AND VARIOUS LEVELS OF MANAGEMENT
5.0 Every level of supervisory management should provide periodically information on the ‘construction progress’ in a ‘check list format’ to the next higher level of management. The various components in the suggested ‘check list’ of construction contracts should be prepared for 'contract management including monitoring'. These are listed below. These would assist in understanding the various aspects that are prevalent in 'contract administration'.
CONSTRUCTION STAGE
[Up-to Completion and Handover of Contract Works]
[Mobilization]
A. Compliance of Mandatory Clauses
[a] Financial [Performance Bond/Insurances/Advance Payment Guarantees/Others]
[b] Statutory Requirements [KWSP/SOCSO/CIDB/SAFETY/Others]
[c] Prescribed Requirements [CLIENT/KTMB/DRB/Others]
[d] Approvals [Statutory/Regulatory/Client]
[e] Representatives [Client/Contractors]
[e] Other Requirements by Main Contractor
[f] Documentation [Drawings/Notices/Progress Charts/Others]
B. Establishment of Prescribed/Required Facilities
[a] Site Office
[b] Workers Accommodation
[c] Transport
[d] Office [Complete with essentials Computers/Printers/FAX/Others]
[Physical Construction]
C. Measurement Books
D. Progress Payments
E. Site Instructions [Client's Representatives/Others]
F. Variation Orders [Justification and [with Appropriate Level Approvals]
G. Delays - Extensions of Time/Certificate of Non-Completion
[With Financial Implications]
H. Deductions - LAD/Value of Facilities and/or Services Provided
I. Periodical Progress Reports
[Briefings/Documentary/Video/Photographs/CCTV/Others]
J. Final Accounts
K. Certifications and Handover to Client
[All above should be supported by documentary evidence that is relevant and verifiable]
POST-COMPLETION STAGE
[Up to Expiry of Defects Liability Period]
A. Approvals [Certificate of Fitness/ Commissioning/Others]
B. Guarantees and Warranties
C. As-Built Drawings [Indexed/Soft/Hard Copies]
D. Manuals
E. Records [Listed/Soft/Hard Copies]
6.0 MONITORING OF CONSTRUCTION CONTRACTS FOR ALL STAGES
CAN BE DONE BY THE FOLLOWING DOCUMENTS
At H.Q. Level - contracts register at construction site level - site records
It is emphasized that the contracts register and site records, and the relevant documents referred therein, should be scrutinized and verified on a regular basis to ensure their
Relevancy Validity [including Renewals]
Effectiveness Comprehensiveness & Completeness
Accuracy Timeliness
7.0 RESPONSIBILITIES
A. CONTRACTS REGISTER - Management should decide on the responsibility for the maintenance of the contracts register. It may be assigned to the contracts/project dept. or to the finance department. Both departments should scrutinize it periodically. Subsidiary registers may be maintained at site office level if necessary.
B. SITE RECORDS - The contents of site records should be determined and maintenance responsibility should be that of the respective site engineers. However, these records should be examined and scrutinized periodically by senior management including finance and HR departments for their respective aspects as appropriate.
IAD undertakes periodical audit of contracts register and site records during visit to project sites as provided for in the audit plan and is on selective basis that is at its discretion.
8.0 RELATIONSHIP BETWEEN INTERNAL AUDITOR AND AUDITEE
The audit charter normally requires the auditee to respond within a reasonable time on all matters highlighted by IAD. However, the IAD should obtain the clarifications and views of the auditee before including and highlighting any aspect in his audit report before its submission to the AC. The audit report should highlight the weaknesses, their causes and suggested solutions or recommendations for the consideration of management together with the views of the auditee. This requirement is essential to be complied with to ensure the efficient and effective utilization of IAD resources. Further, it is important that there is a good working relationship with the auditee and that the perception of the auditee of the IAD is that of a partner for common benefit and not adversarial. This should ultimately benefit the company as the need for audit [and IAD] can be substantially minimized.
GSK/May 04
