“Everyone at some point in their life has picked up a hammer or has walked by a construction site,” said Wayne H. Kalayjian, CFE, PE, SE, managing director at Secretariat International, during his virtual session at the 31st Annual ACFE Global Fraud Conference. “They’ve seen cranes and pile drivers … everyone has some sort of intuitive understanding of what construction is.”
However, Kalayjian warns that it’s easy to get sucked into a sense of false security because of the familiarity of construction. It is, after all, one of the largest industries in the world, accounting for approximately 10% of global GDP each year. But the downside, he said, is that because people think they understand construction or they’ve seen it all their life, they have a bias towards thinking it’s a straightforward and easy-to-understand industry.
“There are odd mixtures of tested methodologies that have been in place since ancient times combined with some very high technological advancements in a variety of trades and practices,” Kalayjian said.
He advised attendees who are involved in an audit or investigation to try to find out if it looks like the project was properly managed and controlled. If the project managers haven’t kept proper documentation, then that’s a red flag. Most construction projects need to “have a lot of paper” (much of it now digitized), so if you ask for certain information and it’s not there, that’s a good red flag that the project may have some issues and problems.
When proper documentation fails or a project manager allows the construction plan to get overcomplicated, Kalayjian said the project can easily go rogue. He pointed to good examples of projects that have gone rogue, including the Burj Khalifa, Dubai U.A.E; Boston’s Central Artery; and Ryugyong Hotel, Pyongyang, North Korea.
Construction for the Burj Khalifa began in 2006 and coincided with the global financial crisis. A cash shortage caused the government to borrow money from its neighbor Abu Dhabi. It was completed in 2010.
Boston’s Central Artery was originally estimated at $2.6 billion, but the project’s final cost was $14.8 billion. With interest on borrowed funds, the “Big Dig” will ultimately cost $22 billion and not be paid off until 2038 (even though it was completed in 2004).
Ryugyong Hotel Construction began in 1987 and stopped in 1992 when funding dried up and North Korea had spent as much as 2% of its GDP on the building. Construction resumed in 2008, and the exterior was completed in 2011. In 2013, a partial opening was announced but was canceled. It remains unopened.
Kalayjian explained that projects can go rogue for reasons like under-bidding, poor design, an underperforming team or a lack of funding, but reasons like these can often be controlled and the project can be set back on the right path. But when you can’t regain control of a project, fraud schemes creep in.
“There are some elemental forms of fraud that occur at many construction projects,” Kalyjian said. “As I’ve grown older, because of technology, because of improved sophistication within the industry, because of the less frequent use of cash, the opportunity for fraud has decreased marketably. However, there’s still quite a bit of opportunity.”
Kickbacks are by far the largest form of fraud in the business, as well as conflicts of interest, Kalayjian said. There’s also extortion, bribery, bid rigging and illegal gratuities, though often illegal gratuities can be characterized as kickbacks. In terms of asset misappropriation, Kalayjian said, in his experience, fraudulent disbursements happen the most often, followed by misuse of company assets.
Billing schemes include bloated invoices, shell companies and non-accomplice vendors. Kalayjian said he also sees a high amount of false claims in construction projects.
So, how do anti-fraud professionals prevent fraud in the construction business? “It’s like anything else,” he said. “Let’s reduce the opportunity, let’s strengthen the controls, let’s be more transparent with regard to conflict of interest, let’s heighten the awareness and let’s reduce the incentives.”
To do this, Kalayjian recommends doing fraud risk assessments, coming up with detection programs, identifying red flags, conducting audits and investigations, and implementing training.
“I’ve been in the business for over 40 years, and every project I learn something new,” he said. “That includes opportunities for fraud.”