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Accounts receivables, work-in-process and other assets that relate to government contracts appear to provide those responsible for the review of such assets with an enhanced sense of security. This is due to the heightened likelihood that, since the contract is with a government body, be it at the municipal, provincial or federal level, the receivable will likely be collectable. In other words, the risk that a government body may go bankrupt is relatively low.
What we often see in litigation files within the construction industry is that an apparent inference had been made by the parties reviewing the value and collectability of assets on the balance sheet that are derived from government contracts. Just as reviewers of such assets consider that government receivables are likely collectible, they also consider that the risk associated with these receivables is low. As a result, a less stringent standard of review is considered necessary in the assessment of the receivables and the work-in-process associated with projects holding government contracts.
One area of contention with regard to construction projects relates to the costs incurred which are in excess of the initial contract. It is not surprising for change orders to arise over the term of a construction project, especially with larger projects. The question that needs to be considered (and often is not) is whether the additional work and the associated extra costs is outside the initial scope and cost of the contract. If the work is outside the scope of the contract, it may not have been identified and approved prior to the work being performed.
It is evident that this consideration needs to be addressed in all instances involving the construction industry, regardless of whether the assets relate to contracts with government or non-governmental parties. In other words, the same amount of work and evidence needs to be gathered when assessing the collectability and validity of amounts being recorded as receivables and work-in-progress, to ensure that the impact of change orders is properly considered.
The review of receivables and work-in-progress resulting from change orders includes firstly, identifying that these items are in fact change orders not within the scope and amount of the initial contract. Discussions with management will assist with the identification of change orders and the assessment to be made with regard to the collectability of these amounts.
Secondly, it is necessary to obtain and review supporting documents relating to the additional work, the associated costs and the requisite authorization or approvals permitting the additional work to be performed. Professional judgment has to be exercised in evaluating the degree of risk when assessing the extent of review required. Documentary evidence to corroborate management’s representations should be obtained. This latter point is the area where we often see minimal work being performed. Red flags should be waved should documentation not be available or if older receivables and work-in-progress are being reflected in the books of a company. Again there should be little distinction made as to whether these receivables pertain to government contracts. In fact, given the recent highlighting of issues pertaining to government contracts in Quebec, which emerged during the Charbonneau Enquiry, a greater standard of review may not only be warranted but necessary. It is anticipated that the review, by government personnel of cost increases related to construction contracts, will be more stringent.
If the additional work and costs associated with this additional work is not approved beforehand, the likelihood of collecting these costs from the customer, including if the customer is a government body, diminishes. In other words, the company incurring these additional unauthorized costs will likely have no choice but have to expense these costs in their financial statements.
To learn more, contact Isabella Nicolini, CPA, Ca, CIRP, CFF, at 514.228.7748 or [email protected], or your local MNP Business Advisor.
Related Topics:Government; Litigation Support
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