According to the Industrial Policy of the Government of India a predominant role has been assigned to the public sector in the establishment of basic industries, like Steel, Petroleum, Coal, Fertilisers and Heavy Engineering, non-Ferrous metals though Government has invested in other areas also. The investment by the Central Government in 202 autonomous enterprises stood at Rs. 299180 million at the end of March 1983. Out of this, investment in the form of share capital and long term loans during the year 1982-83 alone amounted to Rs. 506 90 million including Rs. 7900 million in enterprises under construction for manufacturing Steel, Aluminium, Fertilisers and Cars and building Hydro-Electric Projects. Such massive investments require the special attention of the Comptroller and Auditor General of India (CAG) who is responsible for their audit. He is the sole authority for auditing Statutory Corporations and he supplements the audit work done by Chartered Accountants of Government Companies. He has also the right independently to conduct the efficiency-cum-performance audit of these enterprises, the results of which are reported to the Parliament and the State Legislature concerned. The audit of the autonomous commercial enterprises of the Union Government (either Statutory Corporations or Government Companies) as distinct from commercial enterprises run departmental by Government is done by the Audit Board under the Comptroller and Auditor General which has a Chairman and full time Members borne on his establishment and part-time ones who are experts in dealing with the particular industry which is taken up for review of efficiency and performance.
All manufacturing and service rendering enterprises require factories, Workshops, Godowns, Office buildings, etc. which will have to be in position before they commence commercial operations. Existing enterprises embark on expansion programmes, capacity balancing schemes, etc. which also involve similar construction work. The audit of these enterprises involves audit of construction of buildings, purchase of Plant and Machinery and their erection by Mechanical, Electrical and Instrumentation Engineers. The expertise required for auditing them is thus specialised. It has to be done during their construction stage before the construction establishment is disbanded, so that all the records concerned are made available for audit scrutiny and the required explanations and clarifications furnished. In India, construction works is supervised and managed by the enterprises themselves, occassionally with the help of consultants, and construction contracts are seldom on a turnkey basis. Most of the construction work is done with the help of labour contracts with provision for the supply of scarce inputs like steel and cement. Some contractors, however, use some of their own materials.
Need for audit of construction work: In the past we have been laying emphasis on the audit of Commercial enterprises in operation largely due to our staff having been well trained for auditing them. The audit staff was concentrating on compliance audit, correct allocation of expenditure between capital and revenue, creation of assets, etc of late, we have been feeling that it is necessary to conduct an in-depth audit of construction projects to enable the authorities to install proper and complete procedures concerning accounting, recruitment of personnel, service regulations, purchases, stores etc. as also the procedure of execution of works, issue and processing of tenders, operation of contracts, etc. Audit has also helped in locating the lacunae and deficiencies in the organisation structure, delegation of powers, definition of roles of persons and groups and objectives of sub-units. The rules of business have also been made clear and comprehensive, as a result of audit comments. The project authorities have also been able to overcome the lacunae and deficiencies of contracts in operation before it became too late, and also took adequate care in entering into new contracts. The audit also helps in the enforcement of Government policies and guidelines concerning construction work, which were prepared after considerable deliberation.
We have considerable expertise for the audit of civil Engineering Works mostly gained from the audit of dams, bridges, townships and buildings constructed by Governments. On the other hand, as works involving mechanical, electrical and instrumentation engineering of large dimensions have been taken up in the past 2 to 3 decades by autonomous enterprises, we developed the expertise required for their audit, which is also useful in auditing their expansion or capacity balancing schemes. This is a challenging area as the terms and conditions of contracts in these engineering disciplines require constant updating due to progressive sophistication of erection practices and sophisticated equipment involved requiring coordination among different agencies. The performance guarantee given by manufacturers of equipments are also required to be tested after a unit or subunit is erected and at times after the entire production line is ready for operation. The warranty periods for different equipments even when manufactured by the same firm vary and do not match the performance guarantee of the major equipment. This makes it imperative on the part of the construction management to synchronise their erection programme for testing different units or sub units in due time. The staff assigned for these audits have to acquire adequate knowledge of technical matters concerning construction, erection and technology involved to conduct a meaningful audit of the engineering contracts. The knowledge required differs from industry to industry. For example, audits of a Petroleum Refinery, a Fertiliser Factory, a Steel Factory and Heavy Electrical industry will be totally different. We do not employ professionals from the engineering disciplines to assist us in these audits, and audit consultants are non existent in our country. We conduct such audits with our existing staff who acquire the knowledge and expertise acquired from close association with the enterprise concerned.
The Government of India has a Bureau of. Public Enterprises (BPE) (part of the Ministry of Finance) which deals with policy matters common to all enterprises so as to secure uniformity of action by the Central Government enterprises. They have issued a large number of instructions touching practically all management aspects of construction and the Detailed Project Reports. The Planning Commission have also stipulated the general guidelines relating to the techno-economic feasibility reports. A study of these gives a fund of knowledge useful for the audit of construction works.
Pre-Construction Stage: For every new project or an expansion scheme, there must be a Techno-Economic Feasibility Report (TEFR) which has to be approved by the Board of Directors and the Government depending on its value. The enterprise can commence construction work only thereafter and Government finances it in the form of equity capital and term loans to make debt equity ratio 1: 1. It is at this stage that the Detailed Project Report (DPR) giving estimates of quantities and costs of every unit of the Project is prepared. These units are further broken down by the different disciplines which execute them. This report is required to be approved by the Board of Directors. In some cases, construction commences in anticipation of the completion of the DPR, particularly in those cases where TEFR has adequate details. Sometimes TEFR and DPR are one and the same.
According to the rules of business, policy decisions have to be taken by the Board of Directors in implementation of the major policies on the subject. Any deviation in the scope or objective of the enterprise will have to be got approved. The Board of Directors delegate to various functionaries powers which are mostly exercised in consultation with Finance Executives.
Audit Methodology: The audit of these construction projects is an important item through which both the cost and the time over-runs resulting in escalations are scrutinised and brought to notice for remedial action. The administration of the contracts is scrutinised if the best value of the money has been obtained, if the interests of the owner have been safeguarded and if the management of the construction work has been done conforming to the DPR and also the policy laid down by the BPE.
Audit of construction projects can be classified under the following 3 heads:
These areas are not distinct and scrutiny under one area will overlap another. For example, audit of planning for materials would also involve the audit of execution at different stages.
Audit of Planning and Coordination: Audit of planning covers all the preliminary work as also work at every later stage, and coordination is required at every stage. It comprises the scrutiny of TEFR, the DPR, planning for acquisition of land, infrastructure like roads, railway siding, storage space, township etc. and planning for material inputs, the preparation of blue prints for various structures, the monitoring of the activities which have an impact on planning and co-ordination. It also includes manpower planning, training of personnel and planning for construction power and water. A review of the organisational structure and process relating to planning and coordination done by the Project Planning cell is also part of it. A few important points under this category are detailed below.
TEFR is examined to see that the date on which it is based is reliable and the assumptions made therein have been fulfilled prima facie in respect of the location, technology, demand forecast, product mix, organisational structure, availability of raw materials and infrastructural facilties like land, building materials, trained labour, water, power, skilled personnel, surface communication facilties and so on. It is also examined if any change in the location has not distorted such assumptions particularly, availability of building materials, water, power, raw materials in requisite quantity and quality and therefore, the financial forecasts on the basis of which the approval was given. Moreover, delay in approval for the TEFR might have changed its financial viability inter alia due to escalations in the project cost and/or operation cost. The courses of action adopted in implementing the project are examined to see that all the factors concerning its selection or location were considered to see the overall effect. This is particularly necessary in respect of capacity balancing schemes, of the several alternatives, the most cost effective alternative should have been chosen taking into account availability of equipment, the obsolescence of technology and the long range cost benefit. Another factor which influences the viability, is the cost/price of the finished products assumed in the feasibility study. It is examined that the escalation therein is in tune with the escalations in other areas so that the financial viability or break even point has not been adversely affected.
The TEFR is also examined from the financial angle to ensure that the cash flow is discounted at the appropriate rate and sensitivity analysis done with different realistic prices of the finished products and the assumptions made are critically examined for reliability. It is also seen that capacity planning has been done on a scientific basis, using the relevant operations Research techniques. The man-power planning should also be examined to see that it is in accordance with the needs, based on sequence of operations.
The approval of the Board of Directors and of Government are examined to see the Central Government has committed to release the foreign exchange required and the respective State Governments continue to offer the agreed concessions in regard to the free land, sales tax, long term agreement for supply of water, Electricity etc., which have a bearing on financial viability.
As for planning for execution, it is examined that the master control network (PERT/CPM) for the activities and events has been prepared on a realistic basic giving time scale for them. Audit examines whether detailed networks are available for the different areas of activities and whether they are all dovetailed to the master control network and updated periodically.
Where network technique is efficiently used for control, audit examines thoroughly the monitoring of the activities and crashing of network, when done, with a view to ensuring if it was cost effective and in the best intersts of the enterprise. For doing this, all the data is studied with the assistance of the personnel concerned before a tenable observation could be made.
In order to ensure that procedure in different departments are laid down and team spirit among the top executives is developed from the beginning, it has been recommended by the Committee on Public Undertakings of Parliament that the Project Manager and Finance Manager should be the first to be put in position. They should be followed by Materials, Personnel, security and other staff. In fact the Stores Origanisation should also come up at the initial stage so that the documentation is complete, prompt and correct. The project Manager gets reports on the progress of different works, highlighting delay or slippages for prompt remedial action. There is normally a system of review of the progress of different activities at monthly or weekly meetings depending on the criticality, by the top executives. In fact the review meetings are attended by all functionaries who have a role to play in speedy construction and whose action or inaction could create the slippages or cause delays. A review of these would indicate in a nutshell the quality of management of construction work.
It is examined whether the requirements of equipment and materials like cement, steel, stone metal are all worked out with clear specifications and also the phasing of the requirements progressively from time to time to suit the construction programme, bunching together requirements of similar ones so that their procurement on long term contracts would ensure economy of scale and assured supply. Some Project Managers do not plan but emphasise on securing materials irrespective of cost effectiveness for the sake of uninterrupted construction, resulting in high prices of materials bought and stoppages due to their stock out. Materials planning and scheduling right from the outset would obviate these difficulties. Then the Material Manager procures only to the extent required and regulates their inflow in accordance with requirements by coordinating transportation and storage facilities with availability of funds and materials. For this purpose budget clearance of every indent for purchase of equipment, spares, etc., is desirable. Where the progress of work is such as to require rescheduling of materials, Audit must examine if this is promptly taken note of and revised schedules prepared. Similarly, the quantities on order should also be revised taking into account the emergency purchases or change in design or other reasons which have an impact on their quantities.
On completion of erection of an equipment, surplus construction/erection spares have to be transferred to stock as maintenance spares and credit given to capital account. This is also looked into by Audit. The fixation of Maxima and Minima, reorder quantities and reorder levels for stores, wherever possible are also examined for adequacy.
The question of land acquisition is one of the neglected areas. The correct assessment of land required, the observance of correct procedure and the prompt payment of compensation, taking possession of land promptly and complete action on rehabilitation of those ousted according to a predetermined policy save the enterprise considerable headache and cost. This needs scrutiny in depth.
Another point requiring attention is insurance coverages which should be discussed with the Insurance Companies for rates of premia for different types of risks so as to secure maximum benefit. This is particularly the case in respect of marine Insurance covers which are current from the port of embarkation to the project site.
Similarly, the storage-cum-erection insurance of equipment, when taken, on the basis of a very realistic period of completion of the project attracts lower rate of premium.
Audit of Systems and Procedures: This is essential to ensure that organisational structure and process have been laid down in a way as to aid efficient and economic construction. It is seen that workable procedures for different activities are issued at the beginning. The inter relationship between departments and the institutional arrangements to review progress and take corrective action, take decisions on contracts, purchases and so on are also scrutinised. The roles of internal audit and other staff departments are also examined, to see that they have been defined well and integrated into the organisation. These are checked to ensure internal consistency, optimum efficiency and coverage without gap or overlap.
Management should right at the outset lay down workable policies and procedures for recruitment and promotion of personnel and their conditions of service, project construction, purchase of equipment and materials and so on, so that all the authorities understand them clearly and implement them. The procedure for every activity/department should be complete leaving no chance for abuse or gross misuse and contain checks and balances to ensure that they are followed faithfully and healthy conventions are established. It is seen if the procedure for construction work commencing with the preparation of technical estimates and issue of tender notices leading to the award of contracts is laid down clearly and put to practice in an unexceptionable way. It is scrutinised to see that tender notices for different kinds of construction, erection, etc. works are prescribed and rules for the constitution of Tender Committees, their working procedure, etc. are laid down beforehand. Audit examines if the forms of tender notices and terms contract are suitable and complete without lacunae and inconsistencies. Another point for scrutiny is the laying down of clear and unambiguous specifications for all works.
The procedure for receipt, of inspection, warehousing and documentation of stores should also be fully laid down to create a proper environment of their safety and correct accounting. One of the first things to be done is laying of a good foundation for future inventory control. The equipment may as far as possible be standardised so that their spares are also standard and minimum stock of spares are kept. The Codification of stores is another right step with provision for Codification of new items in the foreseeable future. Audit scrutinises this point for comment.
The system of registration of contractors and suppliers for the purpose of issuing limited tenders to the firms competent to tender needs audit scrutiny. The process of registration and the finalisation of lists of contractors/suppliers is examined to see that they are based on sound criteria to ensure competent and reliable firms being registered and avoiding omission of firms of repute. It is also examined to see that the register is kept up to date by eliminating blacklisted/debarred contractors and by including new contractors who are capable of executing such works. This register should be made good use of in limiting the tender enquiries to such firms and the categorisation of contractors/suppliers should be according to their capacity for executing works/supplying equipment and also the technical competence to deal with the complicated construction or sophisticated equipment and their after sales service. As this process is meant for ensuring maximum competition of qualified contractors/suppliers, it needs scrutiny.
The procedure followed for awarding the contracts after the tenders have been opened is examined to see that no lacunae exists or it results in award of contracts to particular firms which are not necessarily in the best interests of the enterprise. In such cases, it is seen that reasons for not accepting with lowest technically acceptable tender or splitting up of work among a few tenderers or allowing special terms of payment to a particular contractor or supplier are recorded in writing. The major irregularity is to drag on the negotiations so that the validity of the tenders has to be extended once or twice thereby resulting in escalations in costs, withdrawal by competent tenderers and consequent delays all round leaving only a few not-so-competent tenderers in the field.
In a construction project, procedure is not generally laid down for dealing with empties, scrap, unserviceable equipment and surplus stores and these are accumulated without any documentation exposing them to the risk of deterioration. They are also dumped together without adequate protection from the elements, causing deterioration in quality etc. Audit should comment on the existence of a procedure for their collection, handling and accounting of empties, surplus and unserviceable materials and equipment and scrap and their disposal.
It is generally seen that procedure for reporting of losses by theft, pilferage or otherwise, their investigation for remedial action is not laid down in Projects, till a few large scale thefts occur, causing considerable loss. Similarly, physical verification of materials and equipment is introduced only when large scale loss of assets takes place and serious shortages in stores are noticed. These need emphasis right from the initial stage of audit.
A review of the reports under the Management Information System prescribed by the BPE along with the minutes of the review and coordination meetings will throw up a number of points for deeper probe. The weaknesses of particular sub-systems, departments of slackness and ineffectiveness of some functionaries, the slippages which could have been avoided or delays that could have been minimised if not avoided altogether would all come to the surface. The inadequacies of organisation, the incompleteness of systems and procedures prescribed, the lacunae in policy enunciation and other weaknesses of the Management will come into focus for audit to comment. In short, this area will be a rich mine for Audit.
Audit of Execution: It covers a very large area including the management of money, materials and manpower required for execution. The operation of the individual contracts right from the time the work is put to tender till the time of its completion is also part of this work. It is seen if control and coordination which are an essential part of management of resources have been institutionalised so that they are exercised at different levels of the heirarchy.
The controls exercised over the progress, the periodical reports received from different entities action taken there on are also seen.
Audit may ascertain if the compound wall and other security structures have been constructed for the factory premises and if a satisfactory security system has been installed. If this is not done, the cases of losses, thefts, etc., are examined to see if they are as a result of this deficiency.
Tenders issued are scrutinised critically. It is also examined that tender notices are issued promptly after receipt of abstract and detailed drawings and bills of materials from designers or consultants and any unusual clauses therein having been scrutinised by Finance Department and the Law Officer.
The dates for completion of works are examined to see that they are realistic and not impossible ones, which would attract high rates from tenderers. It is checked if there are "impossible" or unrealistic conditions in the tenders which reduce competition and give advantage to some tenderers, leading to high rates.
It is seen whether adequate construction power and water have been arranged in such a way that the construction power and water would be converted into permanent power/water supply in due course and substation and transimssion lines, etc. are installed to suit the ultimate requirements. It is also examined if the extent of power required has been estimated correctly and for realistic periods so that unnecessary payments of minimum demand charges during the period the supply is not required is avoided.
It is seen if all the items of work have been broken down into milestones and grouped under different categories by departments which execute them, so that responsibility for each group could be assigned to a department and if delays/slippages are reviewed at regular intervals and remedial steps taken promptly including the updating of networks (PERT/CPM). If Bar Charts and or Gantt charts are used, it may be seen whether these are updated from time to time on the basis of the changing conditons.
It is also examined whether all the external constraints like delay in procurement of cement, steel, construction equipment, other building materials have been foreseen and appropriate steps taken sufficiently beforehand so as to reduce slippages.
One of the important points to be seen in audit is whether avoidable changes in the designs and drawings have been made during the construction stage resulting in delay and cost escalation.
It is generally noticed that frequency of payments stipulated in the contracts are not adhered to by management due to delay in measurements for work done. But generous on account payments are made leading to minus amounts in final bills resulting in delay in release of security deposits/Bank guarntees which are not always adequate and kept current for the periods required. This needs audit scrutiny. Another deficiency noticed is incomplete documentation and accounting for materials issued to contractors which results in delayed recoveries of their cost thereby conferring a financial advantage on them.
It reduces capital expenditure if the construction of buildings for office and factory purposes are taken up in the phased way after proper examination of the necessity for permanent buildings. Some permanent buildings could be used for temproary purposes, so that as far as possible construction of temporary ones is avoided. If temporary structures become necessary they should be of such specification as would cost the minimum and would last only for the periods they are required. In any case the prescribed standards for Civil construction should be strictly followed by the enterprises. This is an important point for audit scrutiny.
Collaboration Agreements receive special attention of Audit. Their implementation are also to be scrutinised to see:
Audit scrutiny of the execution of works commences with the technical estimates for works sanctioned by competent authorities showing quantities and value of all items of works. It is examined if all efforts are made by construction personnel to build up a reliable schedule of rates which are kept upto date in relation to similar works in the neighborhood by other agencies so that the estimates form a reliable base for cost control and cash flow forecasts.
The healthy practice of avoiding unnecessary negotiations as far as possible as in Government, is thrown to the winds by some public Enterprises. Negotiations may be necessary in cases of conditional tenders and those for sophisticated works making them difficult to compare. It should be ensured in audit that all tenderers have been given equal opportunity in negotiations and that the Finance Manager is invariably associated with them.
The terms of payment as agreed upon after hard bargain are often liberalised for the successful contractor. It may have happened that other tenderer's bid was rejected because he demanded the very liberal terms, given later on to the awardee of the contract. Similarly, a number of concessions might have been given to a contractor after they were denied initially to the other tenderers when asked. This is on the ostensible plea that he would complete the work by a particular date or some other reason which is not proved by subsequent events. In fact, it is seen that in the majority of cases, the procedure which would enable the enterprise to enforce the liquidated damages clause is not only not followed but glaring legal procedural omissions like failing to issue him an appropriate and timely warning/notice or not repudiating in time the incorrect allegations, delayed handing over of sites or delayed supply of materials agreed to by the enterprise to the contractors, etc, to protect the interests of the enterprise are not followed. This results in the enterprise being-left defenseless to protect its interests if and when it becomes necessary, vis-a-vis the contractor or to prevent a contractor from making false and unreasonable claims against it. Wherever technical audit is done, a perusal of the reports would give rich material. But the examination thereof should be done with care and audit observations made after the issues are clear and unambiguous.
It is necessary to review all the pending Purchase orders for 'A' type materials to ensure that the quantities do not require revision and the re-scheduling of their deliveries is done, where necessary. This also requires scrutiny.
The Contractors or suppliers give performance guarantee in respect of certain works executed or equipment supplied. These are subject to certain conditions one of which is their being tested before particular dates. In a majority of cases, these tests are not conducted within the stipulated time even in respect of a sub-assembly or a unit of a plant with the result that the suppliers are freed from the obligations regarding performance guarantee which is paid for. This should attract audit attention.
One of the weaknesses in the projects is the non-preferment of claims from insurance companies in due time after following the required formalities, resulting in most of them being repudiated. This is due to lack of understanding of the correct procedure for making declarations, payment of insurance premia, preferring claims etc., which should be well understood by a few both in the Stores and Accounts Departments. This also needs audit attention.
It will thus be seen that audit of Projects requires considerable expertise and involves a deep understanding of the processes and problems of construction Management, which can be acquired only by intensive study of each project, in all its details and frequent discussions with the construction engineers. The results of audit would be an effective feed back to the Management for taking appropriate action.