constructionriskandfraud

CONSTRUCTION RISK
& FRAUD
Oluwaseun Ajila-MBA,ACA,CFE,IIA.
CIA, Primewaterview Limited. Lagos. Nigeria.

Table of Content
In this presentation, we shall review:
1. What Construction risk is
2. ACFE 2012 report on fraud
3. Who commits construction fraud and why?
4. When should construction project be audited
5. Red flags to fraud
6. Construction fraud schemes
7. Construction fraud in the news
Primewaterview, Internal Audit Dept Thursday, January 22, 2015
2

Table of Content Cont’d
Thursday, January 22, 2015Primewaterview, Internal Audit Dept
3
9. Fraud survey by PWC
10. Deterrence to construction fraud
11. Detection to construction fraud
12. Necessary Internal control
13. Limitations to internal control
14. Implement audit techniques
15. When to conduct a construction audit
16. What is a fraud risk assessment
17. Reason for fraud risk assessment by organization.
18. Risk assessment framework
18. Fraud Triangle
16. Case studies

Construction Risk
 Delays
 Cost overruns and numerous change orders
 Quality issues
 Financial exposure due to unsafe work
conditions
 Regulatory, financial and reputational
exposure due to adverse environmental
impacts
 Fraud and financial misappropriations.
4

ACFE 2012 REPORT ON
FRAUD
 The Association of Certified Fraud Examiners
(ACFE) recently issued the 2012 Report to the
Nations on Occupational Fraud and Abuse, which
estimates that the typical organization loses
5% of its revenues to fraud each year.
 According to the report, the median fraud loss
sustained by companies in the construction
industry was $300,000, ranking construction
as the third highest out of 23 industries
included in the report.
 Fraud accounts for about 10% of construction
cost.
5

WHO CAN COMMIT FRAUD
 Contractor management
 Contractor personnel
 Owner personnel
 Consultants
 Financiers
 Suppliers
6

Fraud Triangle
There are three conditions that are generally
present when fraud occurs:
 The individual is experiencing pressure,
 The individual perceives there is an
opportunity to commit fraud, and
 The individual lacks personal integrity and
rationalizes that committing fraud is justified.
7

When Should Construction
Projects be Audited for fraud?
 Begin at the Planning and Design
 Contracting stage
 Procurement stage
 Contractors’ transition stage
 During the Construction Period
 Project Close-out
8

Red Flags to Fraud
 Related party transactions
 Unclear change order language
 Omitted/modified right to audit
 Omitted termination for convenience clause
 Employees living beyond means
 Unusually close association with vendor /
customer
 Irritability, suspiciousness or defensiveness
 Addiction problems
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Red Flags to Fraud Cont’d
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 Bribe takers/embezzlers
 Big spender
 Gift taker
 Odd couple
 Rule breaker
 Complainer
 Bribe givers
 Gift bearer
 Sleaze factor
 Too-successful bidder
 Poor products or services
 One person operation

Construction fraud schemes
 Bid rigging
 Kickbacks and bribes
 Change order manipulations
 Double billing
 Substituting materials in contract
 Theft of materials
 Diversion of fund
11

Construction fraud schemes
 Billing for work not performed
 Incorrect hours charged to project
 Unauthorized or excess employees charged to
project
 Unauthorized/unnecessary overtime
 Workers Comp- contractor does not pay at rate
charged
 Inflated burden rates
 Taxes continued to be charged after payroll limits
are reached
12

Construction Fraud in the News
 Contract Fraud: Rep moves to probe Julius Berger : Nigeria Case study
The German Construction Firm Julius Berger which has dominated most juicy contracts
in Nigeria was alleged of contract fraud by the Nigeria House of Representatives, which sets up
an Ad-hoc Independent committee to investigate the award of an over 259 billion Naira road
expansion project. Among the contention issues are, the mobilization fee advanced to the
contractor despite the contract type being “design and build” and also the use of the bill of
quantity prepared by the contractor without any independent check. The issue of blasting the
rocks along the airport road and use of sand excavated for the major constructions without any
payment to the area councils is another contentious area
for the German firm.
 U.S. Attorney’s Office for the Eastern District of New York filed fraud charges against the
construction firm Lend Lease (US) Construction LMB Inc. United States case study.
(formerly Bovis Lend Lease LMB Inc.) (“Bovis”) and James Abadie, the former principal in charge
of Bovis’ New York office. Abadie pled guilty to conspiring to commit mail and wire fraud by
fraudulently overbilling Bovis’ clients for over a decade admitted defrauding two of its public
clients by falsely misrepresenting the work performed by its minority business enterprise partners,
thus fraudulently obtaining payments on lucrative contracts. The deferred prosecution agreement
requires Bovis to pay up to $56 million in penalties to the federal government and restitution to
victims and to institute far-reaching corporate reforms designed to eliminate future problems and
enforce best industry practices.
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Construction Fraud in the News
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 Two veteran executives of the Metropolitan Transportation Authority were
dismissed last year after they took bribes to allow building contractors to
submit fake bills to the M.T.A. (NY Times - 04/17/03)
 A New York City contractor was indicted for stealing $536,307 from the
NewYork City Department of Citywide Administrative Services (DCAS) by
paddingexpenses on city contracts – (NY DA Office, Press Release -
12/10/02)

Fraud Survey-PWC
 Percentage of Frauds detected through various tools
 Internal Audit - 17%
 Tip-off (internal) 16%
 Fraud Risk Management 14%
 By accident 13%
 Tip-off (External) 11%
 Whistle Blowing 7%
 Suspicious Transaction Reporting 5%
 Corporate Scrutiny 5%
 Rotation of personnel 5%
 Other Detection methods 4%
 By Law enforcement 3%
15

Deterrence to Fraud
 Development of Anti-fraud Programs and Controls
 Creating a Culture of Honesty and High Ethics-”tone
at the top”
 Whistleblower Complaint Procedures
 Developing an Appropriate Oversight Process
 Reviewing third party and related party transactions
 Having a standard of operating procedure of all
operations with little or no exceptions to the rule
 Implementing and Monitoring Appropriate Internal
Controls
 Hiring high caliber prospects and landing them in with
anti-fraud trainings.
 Performing background checks on risk bearing
prospects. Primewaterview, Internal Audit Dept Thursday, January 22, 2015
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Detection of fraud
1. Establishing and marketing the presence of a
confidential reporting system, such as whistleblower
hotline for “TIP” or “COMPLAINT” - Nearly half of cases
in 2008 study were uncovered by a tip or a complaint
from an employee, customer, vendor, or other source.
2. Implementing proactive fraud detection procedures, such
as data analysis and continuous auditing technique
3. External Audit
4. Surprise audit.
17

Internal Controls Necessary
 Conflict of interest and ethics policy
 Vendor screening/pre-qualification
 Review/compliance to procedures
 Closeout audit of billings and payments
 Audit of claims and assessment of liquidated
damages
 Confirmation of the receipt of final deliverables
 Verification of acceptance testing and
warranties
18

Limits to Internal Control
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There are limits to what internal controls can do to
prevent fraud. It is impossible to implement internal
controls that eliminate the possibility of fraud.
Breakdowns in internal controls can occur for a number
of reasons, including collusion and override of controls
by management. Collusion is when individuals act
collectively to perpetrate and conceal an action from
detection. An individual in a management position may
perpetrate a fraud by overriding controls and directing
employees to deviate from the standard company policies
and practices.

When to Conduct a Contruction
Audit
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You can audit at the beginning, during or after a
construction project.
However consider auditing when the following
present it self:
 Audit when there are indicators for fraud
 Tips on fraud
 Audit by exceptions

Fraud Risk Assessment
21
 ACFE Fraud manual 2012 edition defines Fraud risk
assessment as a process that aimed at proactively
identifying and addressing an organization's
vulnerabilities to internal and external fraud.
Objectives of FRA:
1.Identifying activities most vulnerable to fraud.
2.Who puts the organization at the greatest risk
3.It improves communication that fraud is intolerable by the
organization
4.It helps management to develop plans to mitigate fraud
risk.

What makes a good fraud risk
assessment
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1. A right sponsor (seniority, integrity, independence)
2. A strong corporate culture
3. A good working knowledge of the business
4. Ability to think the unthinkable
5. A plan to keep it alive and relevant
6. Tailor made assessment to business
7. Keeping it simple

Risk Assessment Frame Work
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1. Identify potential inherent fraud risk
2. Assess the likelihood of occurrence of the identified risks
3. Assess the impact on the organization
4. Evaluate which people and departments are most likely to
commit fraud and identify the methods they are likely to use
5. Identify and map existing preventive and detective controls to
the relevant fraud risks
6. Evaluate whether the identified controls are operating
effectively.
7. Identify and evaluate residual fraud risks resulting from
ineffective or nonexistent controls.

Sample Risk Framework
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Fraud Risk Index
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1. The environment risk index
2. The culture quotient
3. The prevent/detect index

Case Studies PWV Garden 2
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 Case 1-kickbacks
 Case 2-Suspicious transaction reporting
 Case 3-Multiple invoicing
 Case 4-

Thank You
27

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