The big money cycle

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A construction project can be worth billions in any currency, with an infinite number of incoming and outgoing flows of money to counterparties across the supply and investment chain.

The variables can be a matrix that are difficult to track: vehicles that need hiring, materials requiring purchase and sign-off on delivery, incoming payment from developers, sub contractors and employees needing payment – among a thousand other assets and liabilities.

Controlling costs and maintaining transparency is a perennial issue for main contractors. Accounting and accountability needs to remain high as disputes claims increase across the region.

Steven Hunt, regional head for construction and engineering at law firm Al Tamimi told CW in May that the company is seeing more work in Abu Dhabi around dispute cases, for example, though not necessarily in conjunction with record keeping.

In the boom years in places like Dubai, where a lot of property was sold off-plan, some argue there were dangers that standards in cost control and keeping money traceable could have slipped.

Mike Aspinwall, managing director at RedSky IT, an accounting software provider, concurs. Further, he says the ability to keep track of expenditure will be one of the dividers between winners and losers in contracting.

“I think what’s happening is that the smarter companies know they have to be accurate with their costs and must tightly track variations when billing clients,” he says.

“This is a question of information, visibility, and low overheads.”

Some say there are systemic challenges to keeping track of payment flows. Fadi Elayache, general manager of Master Mason CPM, identifies five areas that present problems to the monitoring of cash flow either caused or affecting developers, contractors and consultants.

The first involves the evaluation of ongoing work. “A contractor might have the quantitative surveyor who estimates the work is 20% complete. The consultant might agree to avoid an argument – but is it really at 20%? If it’s not, there is a risk for the client.”

He says this milestone percentage of completion can complicate the checks and balances. “Instead of getting lost in details of the stages of work reached, we pay at the end of a project, and at the beginning – but not in between,” he says.

The second issue surrounds changes to the contract, which may have started as a lump sum contract, but has been amended into a re-measured contract. This is linked to the third issue, in which, after a contract has been signed, but aspects of the design are altered by different counterparties, the resulting changes may affect the overall cost.

Elayache recounts his time as a project manager on the Palm Jumeirah. “When we started it was a lump sum project and we said to the developer to ‘go ahead with the requirements’. Then people in the developer started to change bits of
the design.

“I got AED100 million from Nakheel and I had to fight for my contractor. People from the developer said ‘we can improve here’ and thought they could get away with it.”

The fourth issue is the difficulty in obtaining the right information. Elayache explains that it is often a challenge to get a thorough overall view of a project even aside from monetary issues, which is why his firm advocates the use of value engineers.

“I hired three project control companies as I wanted to get a good picture and we had bonuses linked to performance. With the traditional way of construction it’s difficult to control work progress.”

The last issue regards the processing of costs. To maintain a clear separation of the different types of outflows, Elayache recommends logging all overheads at the beginning of the contract, with costs for specific work undertaking of the contract later.

This allows changes to the design if needed. The alternative is to calculate overheads with each specific work activity, which can quickly complicate matters and be difficult to calculate, especially when designs are changed and this will affect the work needed and the resulting overheads for that work.

Project payment disputes
Money flow between developers, contractors and investors has been a critical discussion point amid the economic downturn on the back of high-profile legal cases.

One such aspect of this is the introduction and use of the ‘escrow’ payment method – essentially an independent account into which investors would pay funds with payments released to the developer within an agreed structure.

Walid Jaafar, partner at Fichte&Co, a Dubai based law firm, says that although the concept has been around for some time, it is new to the real estate market in the region and coincided with the high-growth years in the Dubai market.

“When the escrow account system was created in the real estate industry all developers rushed to their banks to meet a deadline to set them up,” he says.

“The escrow system means money is paid into an independent account, and when a milestone is reached, a consultant will verify the payment to the developer. If a project is on hold, the developer is obliged to return money to investors.”

However, Jaafar says there have been cases in which when investors seek to reclaim funds, the money has been taken out by the developer and it is empty. The money should be able to be traced, he says, but the legal representatives cannot go to the bank to seek amends.

Court proceedings usually result from the non-completion of a project or when the developer has defaulted – often the two circumstances are linked. But Jaafar adds that developers would defend themselves when the original contract does not state a specific date for completion.

“For a lot of agreements the time in which it should be completed is essentially forever. Some developers will be working under a specific completion date, but in other cases a contract is signed in 2007 with a deadline of sometime in 2012, giving them five years.

“Legally we would say that this is an unbalanced contract – all the buyer can do is sue the company, which can take a long time with the buyer incurring
more costs.”

Jaafar believes that on the back of high-profile lawsuits and a deflated property market compared with 2007, there will be closer scrutiny of contracts.

“I think people have learned their lesson with regards contracts,” he says.