oversight

Audit of the PBS Great Lakes Region's Lease Financial Performance

Published by the General Services Administration, Office of Inspector General on 2019-08-23.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

          Office of Audits
          Office of Inspector General
          U.S. General Services Administration




              Audit of the PBS Great
              Lakes Region’s Lease
              Financial Performance
              Report Number A170047/P/5/R19007
              August 23, 2019




A170047/P/5/R19007
Executive Summary
Audit of the PBS Great Lakes Region’s Lease Financial Performance
Report Number A170047/P/5/R19007
August 23, 2019

Why We Performed This Audit

The PBS leasing program’s objective is to generate sufficient revenue in order to “break even”
or recover all costs of administering the program. PBS measures the financial performance of its
leases through the funds from operation (FFO) performance metric. PBS calculates lease FFO by
deducting lease expenses (excluding depreciation) from lease revenue. PBS achieves its break
even goal when a lease asset’s revenue is 0 to 2 percent greater than expenses. The objectives
of this audit were to determine whether PBS Great Lakes Region (Region 5) leases meet the
goals of the PBS pricing policy and GSA’s annual performance plans and to determine the
reasons for any excessive variances in lease FFO.

What We Found

PBS Region 5 met its overall FFO performance goal for Fiscal Year 2016. However, we found a
wide range of excessive gains and losses on individual leases, which were attributable to three
major factors. First, PBS Region 5 lease administration and accounting errors caused FFO
variances. Specifically, we found that PBS Region 5 made an error in a lease modification, did
not properly adjust lease payments to reflect changes in lease terms, overpaid real estate taxes,
overstated expenses attributable to a lease buyout that did not occur, did not apply offset
payments to account for broker credits, and improperly retained refunds from overpayments.
Second, general and administrative expenses were misstated due to administrative errors,
resulting in FFO distortions. Finally, PBS Region 5 leases with the U.S. Postal Service include
unfavorable provisions that increase the risk of extended vacancies and FFO losses.

What We Recommend

We recommend that the PBS Commissioner:

   1. In conjunction with the GSA Office of the Chief Financial Officer:
      a. Return refunds of overpayments to the appropriate tenant agencies.
      b. Develop and implement a process to return refunds of overpayments to the
          appropriate tenant agencies as required.
   2. Evaluate U.S. Postal Service-owned space leases for terms and conditions allowing for
      the risk of long term vacancies and FFO loss and implement necessary safeguards to
      protect PBS against this risk.




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We recommend that the Regional Commissioner, PBS Region 5:

   3. Implement a process to ensure timely and accurate execution of lease actions, such as,
      adjustments to lease payments, real estate tax adjustments, buyouts, broker
      commission credits, and operating costs.
   4. Develop and implement appropriate internal controls to ensure PBS Region 5 leasing
      actions include the appropriate terms and conditions.
   5. Develop management reports that would exclude the effect of all prior year expense
      entries from FFO calculations as well as their effect on general and administrative
      allocations.
   6. Develop and implement internal controls for employee time coding to prevent
      erroneous direct hour charges to building locations.

In its response to our draft report, PBS generally agreed to implement our recommendations
except for Recommendations 1 and 5. With regard to Recommendation 1, PBS provided
technical comments citing certain legal authorities to support its position that PBS can retain
recoveries of overpayments. However, the authorities cited in the technical comments do not
provide a legal basis for retaining tenant agency funds related to the overpayments.
Accordingly, PBS must return refunds of these overpayments to tenant agencies. With regard to
Recommendation 5, we made minor adjustments to the recommendation after discussion with
PBS officials.

PBS’s response is included in its entirety in Appendix C.




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Table of Contents

Introduction .......................................................................................................................... 1

Results
Finding 1 – PBS Region 5 lease administration and accounting errors caused variances in FFO ... 4

Finding 2 – General and administrative expenses are misstated in multiple leases, resulting in
           distortions to FFO .......................................................................................................... 8

Finding 3 – Unfavorable provisions in U.S. Postal Service leases leave PBS exposed to long-term
           FFO losses for vacant space ........................................................................................ 10
Conclusion........................................................................................................................... 12
Recommendations ........................................................................................................................ 12
GSA Comments .............................................................................................................................. 13

Appendixes
Appendix A – Scope and Methodology................................................................................ A-1
Appendix B – Summary of Findings for Leases in Audit Sample............................................ B-1
Appendix C – GSA Comments.............................................................................................. C-1
Appendix D – Report Distribution ....................................................................................... D-1




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Introduction

We performed an audit of the financial performance of leases in the PBS Great Lakes Region
(PBS Region 5).

Purpose

This audit was included in the Office of Inspector General’s Fiscal Year 2017 Audit Plan. PBS’s
leasing program is one of GSA’s core functions. PBS administers over 7,000 leased properties,
resulting in $5.87 billion in annual rent. PBS Region 5 leases over 42 percent of the space it
provides to federal agencies. As of the end of Fiscal Year 2016, PBS Region 5 accounted for
about 8 percent of PBS’s leased inventory with 14.7 million rentable square feet out of a total
of 187.9 million nationwide. The financial performance of its leasing program is critical.

Objectives

Our objectives were to determine whether PBS Region 5 leases meet the goals of the PBS
Pricing Policy and GSA’s annual performance plans, and the reasons for any excessive variances
in lease funds from operation (FFO).

See Appendix A – Scope and Methodology for additional details.

Background

PBS’s mission is to provide effective workplace solutions for federal agencies at best value. As
part of this mission, PBS leases space from the private sector to meet customer needs. The
leasing program strives to generate sufficient revenue to break even after covering all
administrative costs.

When PBS leases space for a tenant agency, PBS and the tenant agency enter into an occupancy
agreement that establishes each party’s responsibilities. The occupancy agreement establishes
the rent that the tenant agency will pay PBS. According to PBS’s pricing policy, the rent the
tenant agency pays to PBS is a pass-through of the underlying lease contract rent PBS pays to
the lessor, plus any standard operating costs not performed through the lease, the PBS lease
fee, and security charges. Additionally, both the operating cost and the real estate taxes that
PBS pays to the lessor as part of the lease are passed through to the tenant. The PBS fee is 7
percent for cancellable occupancy agreements. The PBS fee is designed to cover contract risk,
lease acquisition services, and lease administration. Contract risk includes the risk that PBS will
be responsible for rent payments to the lessor if the tenant agency vacates the space before
the lease has terminated.

The U.S. General Services Administration Annual Performance Plan and Report Fiscal Year 2017
(GSA Performance Plan) included a performance goal for the Agency to generate sufficient FFO


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to effectively operate GSA leased buildings. Specifically, the goal stated that “GSA will improve
the efficiency of the leasing program so that revenue available after administering the program
is between zero and two percent in FY 2015 and FY 2016.”

Lease FFO is PBS’s performance measure for determining the efficiency of its leasing program.
PBS calculates lease FFO by taking the revenue collected from tenant agencies minus all
expenses (excluding depreciation) associated with the leased space, as shown in Figure 1.

                                  Figure 1 – How to Calculate Lease FFO


                                             LEASE EXPENSES
      LEASE REVENUE                            (EXCLUDING                             LEASE FFO
                                             DEPRECIATION)


PBS Region 5 officials told us that they work in collaboration with the Office of the Chief
Financial Officer (OCFO) to track lease FFO performance. The GSA Performance Plan states that
the OCFO is the lead office for the overall strategic goal of increasing efficiency of GSA
operations. The OCFO tracks the revenue and expense performance of the PBS inventory
nationwide and provides financial management support services to PBS regions, including PBS
Region 5. The OCFO generates monthly lease financial performance reports and collaborates
with PBS Region 5’s Office of Portfolio and Office of Leasing to follow up on leases with
excessive FFO losses or gains. This is an important process as a previous independent audit of
GSA’s financial statements noted that GSA needs to improve the effectiveness of its controls
over the processing of leases to ensure that leases are accurately and timely recorded in the
financial management system. 1

Fiscal Year 2016 Lease FFO Results

In Fiscal Year 2016, GSA’s lease FFO had an overall loss of $67.9 million, while regional
performance varied. PBS Region 5’s lease FFO had a gain of $4.6 million, as shown in Figure 2.
PBS Region 5’s overall FFO gain equates to 1.1 percent of its revenue, which meets GSA’s
Performance Plan goal to have between 0 and 2 percent revenue available after administering
the leasing program.




1
    KPMG's FY14 Independent Auditors' Report on GSA's Financial Statements (November 2014).



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                      Figure 2 – Fiscal Year 2016 Lease FFO Results by Region

                              Region                  Lease FFO (Loss) or Gain
                           Central Office                   ($1,008,497)
                       New England Region                   ($1,293,547)
                  Northeast And Caribbean Region           ($21,187,201)
                       Mid-Atlantic Region                   $1,835,418
                     Southeast Sunbelt Region                $3,862,195
                        Great Lakes Region                   $4,563,308
                         Heartland Region                    $2,056,092
                    Greater Southwest Region                ($8,687,518)
                      Rocky Mountain Region                    $252,622
                        Pacific Rim Region                   $5,769,636
                     Northwest/Arctic Region                ($4,197,708)
                      National Capital Region              ($49,819,811)
                        Nationwide Total                   ($67,855,013)

FFO losses in the leasing program adversely affect both PBS’s owned and leased inventory. The
Federal Buildings Fund (FBF) was established by the Federal Property and Administrative
Services Act of 1949 (as amended) to provide for the space needs of GSA tenants and to
maintain buildings in the federal inventory.2 Revenues deposited into the FBF are made
available for the necessary expenses of real property management and related activities. The
FBF is expected to generate sufficient funds to cover new construction, operations and
maintenance, repair and alteration, and leasing. If lease FFO does not break even, PBS has to
use the FBF to cover the loss using revenue from its owned properties, diverting funds that
could be used for repair and renovation projects.

Excessive FFO gains and losses for individual leases indicate a problem with the lease’s financial
results. The objective of PBS’s pricing policy is for leases to break even as all direct costs are
passed on to customer agencies and operational costs are supposed to be covered by the
leasing fee. However, excessive FFO gains and losses indicate that the pricing policy objective
was not achieved and that management attention is required.




2
    40 USC 592.


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Results

PBS Region 5 met its overall FFO performance goal for Fiscal Year 2016. However, we found a
wide range of excessive gains and losses on individual leases, which were attributable to three
major factors. First, PBS Region 5 lease administration and accounting errors caused FFO
variances. Specifically, we found that PBS Region 5 did not pay the correct rent to lessors,
overpaid real estate taxes, overstated expenses attributable to a lease buyout that did not
occur, did not apply offset payments to account for broker credits, and improperly retained
refunds from overpayments. Second, general and administrative expenses were misstated due
to administrative errors, resulting in FFO distortions. Finally, PBS Region 5 leases with the U.S.
Postal Service include unfavorable provisions that increase the risk of extended vacancies and
FFO losses.

Finding 1 – PBS Region 5 lease administration and accounting errors caused variances in FFO.

Based on our testing, we found the primary causes of lease FFO variances were lease
administration and accounting errors. In performing our testing, we judgmentally sampled 20 of
the 925 lease locations in Region 5 in which the FFO was either negative or had at least a 2
percent gain. Our sample included 12 leases with lease FFO losses of $3,003,833 and 8 leases
with lease FFO gains of $5,923,704. These leases represent 12 percent of the 14.7 million
rentable square feet of space under lease in Region 5. For details on the leases that we tested,
see Appendix B. 3

In testing these lease locations, we determined that the lease FFO for multiple leases was
distorted due to a variety of administration errors. Specifically, we found deficiencies in PBS
Region 5’s lease administration practices that led to errors in lease modifications, lease
payment adjustments, real estate tax bills, buyouts, application of broker commission credits,
and recovery of operating costs. We also found that PBS Region 5 did not reimburse tenant
agencies for overbillings.

These errors are discussed in detail below.

An Error in a Lease Modification Wasted Taxpayer Dollars

In one lease we reviewed, a PBS Region 5 lease contracting officer included the wrong terms in
a lease modification. This error contractually obligated the Region to pay double the amount it
agreed to with the lessor. As discussed below, this error wasted taxpayer dollars and led to an
FFO loss.


3
  For the report findings, we identified common root causes in FFO losses and excessive gains. However, each
lease location may have had other factors that contributed to its Fiscal Year 2016 FFO. For this reason, the Fiscal
Year 2016 FFO total in Appendix B may not match the financial effect of the individual issues discussed in the
report narrative.


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In 2010, the lease contracting officer negotiated a $38,726 increase to the annual rent for the
900 E. Linton Avenue lease to settle the lessor’s claims of increased costs. The lease contracting
officer memorialized this agreement in a supplemental lease agreement issued in January 2011.
However, in doing so, the lease contracting officer incorrectly inserted language providing that
the rent amount “will increase by $38,726.22 annually, effective November 1, 2010 through the
remainder of the lease period in the contract….” This language created a repetitive, annual rent
increase of $38,726, not the one-time rent increase that the lease contracting officer had
negotiated with the lessor. Although this error contractually obligated PBS Region 5 to include
the annual increase in its rental payments beginning in 2011, the Region initially paid only the
intended increase to the rent.

In November 2015, a PBS Region 5 lease official determined that the Region should have
increased the lease payments annually to meet the lease terms and authorized a catch-up
payment of $387,262 (see Figure 3) to cover the unpaid rent increases from 2012 to 2015.

                        Figure 3 – Unpaid Rent for 900 E. Linton Avenue




In October 2016, PBS Region 5 withheld rental amounts from the lessor “to recapture an
erroneous overpayment.” The lessor objected to this, asserting that it was entitled to the catch-
up payment based on the lease terms as written. After consultation with GSA Region 5 legal
counsel, PBS Region 5 reversed the withholding, allowing the lessor to retain the full $387,262
catch-up payment. The tenant agency refused to pay this amount to PBS, contributing to a
Fiscal Year 2016 FFO loss for this lease of $542,483. PBS Region 5 continues to pay the
repetitive, annual rent increase, costing the government an additional $697,072 through Fiscal
Year 2018.

PBS Region 5 Did Not Properly Adjust Lease Payments to Reflect Changes in Lease Terms

Some leases have contractual adjustments that increase or decrease lease payments over time.
However, PBS Region 5 leasing personnel did not properly revise lease payments for these
contractual adjustments in 4 of 20 leases we reviewed. Specifically, we found that PBS Region 5
overpaid the lessors on three leases and underpaid one lease in our sample. As shown in Figure
4 below, the overall effect on FFO was $3.9 million, which accounted for most of the Fiscal Year
2016 FFO variances for these leases.




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                        Figure 4 – Overpayments and Underpayments

                                                                                   Overall FFO
               Lease Location                   Overpayment      Underpayment
                                                                                     Effect
 Ambassador Bridge (Detroit, Michigan)          $ 3,307,314
 Marquette Plaza (Minneapolis, Minnesota)            46,497
 Chiquita Center (Cincinnati, Ohio)                  24,126
 BP Tower (Cleveland, Ohio)                                        $511,233
 Totals                                          $3,377,937        $511,233       $3,889,170

For example, for the Ambassador Bridge, PBS Region 5 failed to process scheduled decreases in
annual rent dating back to 2009. This error was identified in 2016 and resulted in an
overpayment of $3,307,314. According to PBS officials, the decrease in rent was not identified
previously because it was "lost" during a system transition. The lessor agreed to a repayment
schedule starting in 2017; however, the error contributed to an FFO gain for this lease of
$3,765,925 in Fiscal Year 2016.

PBS Region 5 Overpaid Real Estate Taxes

In one lease we reviewed, PBS Region 5 overpaid the lessors for prior years’ real estate taxes.
PBS Region 5 recognized that the overpayments occurred and issued a claim for the real estate
tax overpayments. The accounting entry to record this claim had a positive effect on FFO,
contributing to a Fiscal Year 2016 gain of $1.1 million.

PBS Region 5 can usually recover overpayments to lessors by withholding future lease
payments. For the Mid-Continental Plaza (Chicago, Illinois) lease, however, PBS Region 5 was
unable to recover the overpayment because representatives of the lessor claimed that the
business had dissolved. PBS Region 5 notified the lessor (a limited liability company) about the
overpaid taxes. The original claim amount was $1.1 million, which GSA revised downward to
$695,039 in October, 2016. The lessor acknowledged it owed the $695,039 but would not pay.
Subsequently, PBS Region 5 officials determined that the lessor had sold the building and the
lessor had dissolved. The new owner claimed the owed amount is the responsibility of the
original lessor and refused to pay.

A PBS Region 5 attorney, who was involved with discussions with the original lessor, told us that
he concluded that nothing could be done to recover the funds since PBS Region 5 had not
notified the original lessor of the liability prior to the lessor dissolving. Nonetheless, on
September 12, 2016, GSA turned the debt over to the U.S. Treasury for collection, where it
remains uncollected as of January 2019.




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PBS Region 5 Did Not Timely Release Funds Set Aside for a Lease Buyout

In some leases, PBS sets aside funds to buy out the remaining years of the lease when a tenant
agency vacates its space early. FFO distortions occur if these funds are not used and released in
a timely manner. This occurred for one lease in our sample, resulting in an FFO gain of $315,206
for Fiscal Year 2016.

For this lease, the Park Bank Plaza lease (Madison, Wisconsin), PBS Region 5 wanted to buy out
the lease in Fiscal Year 2013 and set aside $375,000 for this purpose. The buyout did not occur
and the funds were not used. As a result, PBS Region 5 overstated expenses for the lease in
Fiscal Year 2013. In Fiscal Year 2016, when the lease ended, a PBS Region 5 official realized that
the $375,000 set aside was no longer needed and released the funds. The correction resulted in
an offset of lease payments for Fiscal Year 2016, which led to an FFO gain of $315,206.

PBS Region 5 Did Not Process Broker Commission Credits in a Timely Manner

GSA uses broker contractors to provide lease support services to the regions in an effort to
manage each region’s lease workload. For GSA leases that are awarded using a broker, the
lessor pays a commission. The broker retains part of the commission for its services, while the
rest of the commission is applied as a rent credit, which reduces the rent payment to the lessor.
For the Bank of America lease (Chicago, Illinois), PBS Region 5, due to a processing error, did
not apply the commission credit to the rental payment and as a result, overpaid the lessor by
$61,110 in Fiscal Year 2013. In Fiscal Year 2016, PBS Region 5 corrected this error, by reducing
rent, which contributed to an FFO gain of $72,228.

PBS Region 5 Did Not Bill Tenant Agencies for All Operating Costs

Normally, PBS awards fully serviced leases, which include such services as cleaning, utilities,
maintenance, and repair. However, some leases are not fully serviced and PBS contracts for the
services separately and bills the tenant agency for reimbursement. In our sample lease
involving the Midway Airport lease (Chicago, Illinois), PBS Region 5 did not pass on operating
costs to the tenant agency, resulting in an FFO loss of $17,506.

PBS Region 5 Improperly Retained Overpayment Refunds from Lessors

PBS Region 5 did not and is not fully reimbursing tenant agencies after recovering
overpayments from lessors. During our audit, we found that PBS retained over $2.4 million
from recoveries of overpayments of real estate taxes and rent.

According to PBS’s Review Requirements Document for occupancy agreements, GSA should
reimburse tenants if a recovery is within 5 years and over $50,000. However, we are not aware
of, and PBS did not identify, any express statutory authority for retaining these overpayments.
Absent such authority, PBS is required to pass on refunds to tenant agencies at the time when



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lease overpayments are collected. Therefore, PBS Region 5 should have refunded to the tenant
agencies the full amounts recovered for these overpayments.

As discussed below, FFO was distorted for three leases in our sample when PBS Region 5 made
corrections for overpayments for missed rent decreases and real estate taxes, but improperly
retained the resulting refunds for these leases.

   •   For the Ambassador Bridge lease (Detroit, Michigan), PBS Region 5 overpaid the lessor
       $3.3 million between 2009 and 2016 due to missed rent reductions. The lessor is making
       monthly installment payments of $94,200 which includes interest (from April 2017 to
       March 2020) to repay this amount. Those monthly payments have not been passed on
       to the tenant agency. This caused an FFO gain for the Ambassador Bridge of over $3
       million in Fiscal Year 2016.

   •   In the Metro Office Park lease, PBS Region 5 did not credit the tenant agency for
       $21,922 for overpayments for real estate taxes.

   •   In the IRS National Distribution Center lease, PBS Region 5 credited to the IRS only
       $157,968 of $160,277 in tenant agency overpayments (for real estate taxes) over a
       period of 3 years. As a result, in Fiscal Year 2016, PBS Region 5 retained $2,309 for this
       lease that should have been reimbursed to the tenant agency. This situation also caused
       an FFO gain.

In sum, lease administration and accounting errors have resulted in FFO variances for individual
leases. These variances adversely affect the reliability of the FFO results, which impairs
management’s ability to rely upon this data for decision making purposes. Therefore, PBS
Region 5 management should strengthen its controls surrounding lease administration to
prevent similar errors from occurring in the future. Among other things, these controls should
be designed to improve the reliability and accuracy of the lease FFO metric, and ensure that
recoveries of overpayments are properly reimbursed to tenant agencies.

Finding 2 – General and administrative expenses are misstated in multiple leases, resulting in
distortions to FFO.

General and administrative (G&A) expenses are costs incurred to carry-out day-to-day
operations. These expenses include, among other things, costs for salaries, travel, office
supplies, and information technology and telecommunications services and equipment. GSA
has three levels of G&A expenses based on whether these expenses originate at the national,
regional, and field office levels. The GSA OCFO applies an allocation methodology to distribute
these G&A expenses to individual buildings.

During our testing, we found that administrative errors resulted in allocations of regional and
field office G&A expenses that distorted FFO for six leases in our sample. This prevented



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management from having reliable information for use in evaluating the financial performance
of individual leases.

These misstatements are discussed in detail below.

Regional G&A

OCFO Region 5 allocates regional G&A to building classes or groupings of similar buildings and
then to individual buildings within each group based on the building's share of direct expenses.
Under this allocation methodology, a building with higher direct costs will have more Regional
G&A expense applied than a building with lower direct costs. During our testing, we found that
OCFO Region 5’s treatment of a claim for Ambassador Bridge (Detroit, Michigan) as an offset to
direct expenses resulted in regional G&A allocations that skewed FFO for the Ambassador
Bridge lease and three other leases in our sample.

In Fiscal Year 2016, PBS Region 5 processed a claim against the Ambassador Bridge lessor
because the lessor had not passed along contractual decreases in lease payments dating back
to 2009. OCFO Region 5 recorded this as a reduction to direct expenses, which offset all the
lease payments made in Fiscal Year 2016. Although PBS Region 5 incurred direct costs for
Ambassador Bridge of over $1.2 million in Fiscal Year 2016, the offset for the claim reduced
direct expenses for the lease to $0. Consequently, the Ambassador Bridge lease was assigned
no regional G&A, which resulted in a $111,232 FFO gain.

The offset of the Ambassador Bridge’s direct expenses also caused the 14 other buildings
included in the GSA operated leased buildings grouping – 3 of which were included in our audit
sample – to absorb a much higher share of regional G&A than they should have. As shown in
Figure 5 below, this led to FFO losses for these buildings totaling $746,890.

                                 Figure 5 – FFO Losses in Sample

                         Non-Fully Serviced Ports-of-Entry          FFO Loss
                   O'Hare Airport (Chicago, Illinois)              $ (442,620)
                   Blue Water Bridge (Port Huron, Michigan)        $ (214,088)
                   Midway Airport (Chicago, Illinois)              $ (90,182)
                   Total FFO Loss                                  $ (746,890)

Field Office G&A

Field Office G&A, which has a direct effect on FFO, is distributed by OFCO Region 5 based on
direct hours charged to specific buildings within the field office area. The buildings are assigned
field office G&A based on the percentage of direct hours billed during the fiscal year. According
to Region 5 officials, an employee in one field office erroneously charged their time to the
Richie (Rice Lake, Wisconsin) and Reuss (Milwaukee, Wisconsin) buildings, rather than


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allocating it across multiple buildings as required. Because there were a limited number of
buildings with direct expenses in this field office, the error resulted in the allocation of an
excessive amount of field office G&A to the Richie and Reuss buildings. This led to FFO losses
totaling $757,981 for these buildings in Fiscal Year 2016.

FFO is a key performance indicator used by management to assess the financial health of its
leased portfolio. The misallocation of regional and field office G&A expenses in Region 5
described above resulted in FFO distortions that impaired management’s ability to rely on FFO
results for individual leases and make informed decisions about PBS’s leased portfolio.
Therefore, PBS and OCFO Region 5 should develop management reports that would exclude the
effect of the application of prior year refunds on G&A expenses to ensure the reliability and
accuracy of FFO results for individual leases.

Finding 3 – Unfavorable provisions in U.S. Postal Service leases leave PBS exposed to long-
term FFO losses for vacant space.

Federal Management Regulation Parts 102-73.10 and 102-73.20 require federal agencies to
first seek space in government-owned and government-leased buildings. After considering the
availability of PBS-controlled space and determining that no such space is available to meet its
needs, federal agencies (through PBS) must extend priority consideration to available space in
buildings under the custody and control of the U.S. Postal Service (Postal Service). In 1985, PBS
and the Postal Service signed an agreement covering real property relationships and associated
services.

This agreement states that, for partial releases of space, the Postal Service “shall have final
approval on the space the tenant-agency will be allowed to retain and the space to be
released.” This provision, which is incorporated into the individual leases (called tenancy
agreements), allows the Postal Service to refuse to take space back from PBS. When this occurs,
the vacant space leads to an FFO loss for PBS.

For example, the tenancy agreement between the Postal Service and PBS for the Evansville,
Indiana, Postal Service-owned space states that “GSA may terminate this agreement or
relinquish a portion of the space if fully marketable, as determined by the USPS in its sole
discretion, at any time by giving four (4) months’ prior written notice to USPS.” [emphasis
added] This clause creates budgetary risk for PBS. This is because under occupancy agreements
with PBS, tenant agencies are allowed to vacate the Postal Service-owned space with 4 months’
notice to PBS, after which time PBS can no longer bill the tenant agencies for the space.
However, the Postal Service is not obligated under the agreement to take the space back,
forcing PBS to continue to pay the Postal Service for the vacant space.

As a result of this clause, PBS Region 5 paid the Postal Service for almost 13,000 square feet of
vacant space at the Evansville facility. A majority of the vacant space was due to the Social
Security Administration’s decision to cancel its occupancy agreement for the space in February
2016. According to PBS Region 5 officials, the Postal Service would not take the space back


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because the security screening station in the lobby made the space unmarketable. This forced
PBS Region 5 to absorb the cost of the vacant space for Fiscal Year 2016, leading to an FFO loss
of $122,432.

PBS Region 5 should work with PBS Central Office to evaluate Postal Service-owned space
leases for terms and conditions allowing for the risk of long term vacancies and FFO loss and
implement necessary safeguards to protect PBS against this risk.




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Conclusion

PBS Region 5 met its overall FFO goal of breaking even on leases. However, we found that PBS
and OCFO Region 5 should improve existing lease administration and G&A allocation practices
that had resulted in individual leases with large FFO variances. In our sample, we noted issues
with the timely and accurate execution of lease actions and improper retention of
reimbursements for overpayments. We also found that administrative errors resulted in
misstatements of G&A expenses that led to FFO distortions. Finally, PBS leases with the Postal
Service are subject to long-term FFO losses when tenant agencies move out and the Postal
Service does not take space back.

To improve FFO performance at the individual lease level, PBS Region 5 should strengthen
controls to more effectively administer leases and pass on reimbursements from lessors for
overpayments to tenant agencies. Additionally, PBS Region 5 should implement procedures to
ensure that claims from prior year overpayments and employee time coding errors do not
result in misstatements of general and administrative expenses that cause FFO variances. PBS
Region 5 management should also work with PBS Central Office to mitigate the risks associated
with Postal Service leases.

Recommendations

We recommend that the PBS Commissioner:

   1. In conjunction with the GSA Office of the Chief Financial Officer:
          a. Return refunds of overpayments to the appropriate tenant agencies.
          b. Develop and implement a process to return refunds of overpayments to the
              appropriate tenant agencies as required.
   2. Evaluate U.S. Postal Service-owned space leases for terms and conditions allowing for
      the risk of long term vacancies and FFO loss and implement necessary safeguards to
      protect PBS against this risk.

We recommend that the Regional Commissioner, PBS Region 5:

   3. Implement a process to ensure timely and accurate execution of lease actions, such as
      adjustments to lease payments, real estate tax adjustments, buyouts, broker
      commission credits, and operating costs.
   4. Develop and implement appropriate internal controls to ensure PBS Region 5 leasing
      actions include the appropriate terms and conditions.
   5. Develop management reports that would exclude the effect of all prior year expense entries
      from FFO calculations as well as their effect on general and administrative allocations.
   6. Develop and implement internal controls for employee time coding to prevent
      erroneous direct hour charges to building locations.



A170047/P/5/R19007                         12
GSA Comments

In its response to our draft report, PBS generally agreed to implement our recommendations
except for Recommendations 1 and 5. With regard to Recommendation 1, PBS provided
technical comments citing certain legal authorities to support its position that PBS can retain
recoveries of overpayments. However, the authorities cited in the technical comments do not
provide a legal basis for retaining tenant agency funds related to the overpayments.
Accordingly, PBS must return refunds of these overpayments to tenant agencies. With regard to
Recommendation 5, we made minor adjustments to the recommendation after discussion with
PBS officials.

Audit Team

This audit was managed out of the Great Lakes Region Audit Office and conducted by the
individuals listed below:

       Adam Gooch                 Regional Inspector General for Auditing
       Franklin Moy               Audit Manager
       Mikhail Kostikov           Auditor-In-Charge
       Rachel Story               Auditor
       Robert Lange               Auditor
       Misty Deckard              Auditor




A170047/P/5/R19007                        13
Appendix A – Scope and Methodology
We examined PBS Region 5’s processes and controls in place over lease administration, tenant
billing, and accounting, and their effect on FFO.

To accomplish our objectives, we:

   •   Examined PBS lease management, leasing, pricing and rent bill management guides;
       OCFO budget and financial guides; G&A allocation methodology; accounts payable and
       receivable operational policies; independent public accountant’s reports; profit recovery
       contractor’s managerial reports; and the Office of Management and Budget’s Circular A-
       11 and other relevant policy;
   •   Selected and analyzed a judgmental sample of 20 leased locations in Region 5 (out of
       925) that had FFO losses and excessive gains at the end of Fiscal Year 2016, which was
       the most recently completed year at the time of our sample selection;
   •   Reviewed lease and tenant occupancy agreements for the selected leased locations;
   •   Evaluated PBS Region 5 internal controls over lease payments to lessors and billings to
       tenant agencies including other requested services for non-fully serviced leases;
   •   Analyzed the input and flow of lease and billing transactions in GSA’s systems: Pegasys
       (main accounting system), REXUS (lease administration system), Galaxy 2 (budget
       tracking system), and OA Tool (tenancy administration system);
   •   Reviewed the analysis performed by GSA’s recovery auditor, and held discussions with
       the recovery auditor;
   •   Performed a walk-through of the United States Department of Agriculture’s Financial
       Services Division processing of GSA lease and billing actions;
   •   Evaluated criteria related to Agency guidance, GSA’s lease and tenancy contracts,
       accounting for accruals, revenue, and claims recognition;
   •   Reviewed GSA OIG Audit Report A120023/P/4/R12011 (Audit of the Public Buildings
       Service, Southeast Sunbelt Region’s Lease Administration Practices, September 27,
       2012); and
   •   Held discussions with PBS Region 5 and OCFO officials on what caused the FFO losses
       and excessive gains on the selected lease locations, and with GSA Region 5’s Office of
       Legal Counsel.

We conducted the audit between May 2017 and March 2018 in accordance with generally
accepted government auditing standards. Those standards require that we plan and perform
the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our
findings and conclusions based on our audit objectives. We believe that the evidence obtained
provides a reasonable basis for our findings and conclusions based on our audit objectives.

Internal Controls

Our assessment of internal controls was limited to those necessary to address the objectives of
the audit.


A170047/P/5/R19007                        A-1
Appendix B – Summary of Findings for Leases in Audit Sample
The purpose of this appendix is to summarize the results of our judgmentally selected sample
of 20 leases in PBS Region 5. We identified common root causes in FFO losses and excessive
gains. The Fiscal Year 2016 FFO column is the official lease FFO figure for each location as
reported by the OCFO. Numbers in parenthesis represent an FFO loss; positive numbers
represent an FFO gain.

For the report findings, we identified common root causes in FFO losses and excessive gains.
However, each lease location may have had other factors that contributed to its Fiscal Year
2016 FFO. The Fiscal Year 2016 FFO column below will not necessarily match the financial effect
of the individual issues discussed in the report narrative, or in the supporting notes in this
appendix, as the report focused on common root causes.

                                                       Building  Fiscal Year      Finding(s)
  Note                 Building Name                   Number     2016 FFO         (Note 1)
   2     101 West Ohio, Indianapolis, IN              IN1659ZZ     ($18,434)          1
   3     900 East Linton Avenue, Springfield, IL       IL2493ZZ  ($542,483)           1
   4     Ambassador Bridge, Detroit, MI               MI1873ZZ $3,765,925            1,2
   5     Bank of America, Chicago, IL                  IL2625ZZ     $72,228           1
   6     Blue Water Bridge, Port Huron, MI            MI19800ZZ ($260,669)            2
   7     BP Tower, Cleveland, OH                        OH2152   ($393,304)           1
   8     Chicago FBI Building, Chicago, IL             IL2485ZZ    ($94,831)          2
   9     Chiquita Center, Cincinnati, OH                OH2300     ($11,420)          1
   10    IRS National Distribution, Bloomington, IL    IL2525ZZ   $245,303            1
   11    Marquette Plaza, Minneapolis, MN             MN1672ZZ      $77,438          1,2
   12    Metro Office Park, Minneapolis, MN           MN1583ZZ      $66,260          1,2
   13    Mid-Continental Plaza, Chicago, IL            IL1894ZZ $1,126,625            1
   14    Midway Airport, Chicago, IL                   IL2474ZZ    ($17,506)         1,2
   15    O’Hare International, Chicago, IL             IL2459ZZ  ($427,290)           2
   16    Oakbrook Terrace, Oakbrook Terrace, IL        IL2499ZZ   $254,719            1
   17    Park Bank Plaza, Madison, WI                 WI1645ZZ    $315,206            1
   18    Reuss Plaza Tower, Milwaukee, WI             WI1542ZZ   ($379,549)           2
   19    Richie Building, Rice Lake, WI               WI1791ZZ   ($488,033)           2
   20    USPS Building, Evansville, IN                IN0127ZZ   ($122,432)           3
   21    Westwood of Lisle, Lisle, IL                  IL2470ZZ  ($247,882)          N/A




A170047/P/5/R19007                        B-1
Appendix B – Summary of Findings for Leases in Audit Sample (cont.)

   Notes:

   1. This column identifies the finding related to the building. The findings are as follows:
          • Finding 1 – PBS Region 5 lease administration and accounting errors caused
              variances in FFO.
          • Finding 2 – General and administrative expenses are misstated in multiple leases,
              resulting in distortions to FFO.
          • Finding 3 – Unfavorable provisions in U.S. Postal Service leases leave PBS
              exposed to long-term FFO losses for vacant space.

   2. 101 West Ohio – The $18,434 FFO loss largely resulted when PBS Region 5 did not bill
      the customer agency for estimated real estate tax escalation for Fiscal Year 2016 as
      required. The PBS Region 5 employee responsible for billing tenant agencies told us that
      they believed the real estate escalation was for Fiscal Year 2014 and that it was too late
      to bill the tenant agency.

   3. 900 East Linton Avenue – The $542,483 FFO loss was largely due to a drafting error by
      the PBS Region 5 lease contracting officer. In January 2011, the lease contracting officer
      issued a supplemental lease agreement increasing lease payments by $38,726 annually,
      effective November 1, 2010. The lease contracting officer intended the new terms to
      reflect a one-time increase to the rent; however, they incorrectly inserted terms
      requiring PBS Region 5 to annually increase rent by an additional $38,726 through the
      life of the lease.

      Subsequent to lease ratification, PBS Region 5 increased its rent payments by $38,726 as
      the lease contracting officer had originally intended. However, a November 2015 lease
      review found that these payments did not comply with the terms and that the lessor
      had been underpaid. In response, PBS Region 5 made a catch up payment of $387,262
      to the lessor, but did not bill the tenant agency to offset the loss. This catchup payment,
      in addition to $155,221 in other FFO adjustments totaled the $542,483 FFO loss
      recognized in 2016.

   4. Ambassador Bridge – The $3,765,925 FFO gain resulted from the settlement of a claim
      due to a missed decrease in annual lease payments. PBS Region 5 did not act on a
      scheduled decrease in annual lease payments dating back to 2009. PBS Region 5 officials
      decided not to submit a request to the PBS Rent Billing Management office to reimburse
      the tenant agencies until they agreed on payment terms with the lessor. In Fiscal Year
      2017, the claim was reduced to $3.3 million. Rent Billing Management approved the
      request to reimburse the tenant agency for $833,087, which was for 2 years only. This
      leased location showed an FFO gain for Fiscal Year 2016 because the claim amount
      exceeded lease payments.


A170047/P/5/R19007                        B-2
Appendix B – Summary of Findings for Leases in Audit Sample (cont.)

      Ambassador Bridge did not have direct expenses, which are normally lease payments.
      This was because the claim amount completely offset the regular lease payments. This
      location would typically incur over a million dollars in direct expenses.

      Lastly, GSA officials advised that the lease decrease was flagged in the prior lease
      payment system but was “lost” during the conversion to the new payment system
      (REXUS).

   5. Bank of America – The $72,228 FFO gain mostly resulted from human error in correcting
      lease actions affecting GSA’s financial system. Most of the gain was traceable to a
      broker commission credit that GSA processed in error. The error occurred when a lease
      analyst requested GSA’s finance center to process a lease payment outside of the
      automated payment system to correct a previous action.

   6. Blue Water Bridge – The $260,669 FFO loss resulted from the allocation of regional
      G&A. Blue Water Bridge received 17 percent of direct expenses in regional G&A. The
      excess G&A was due to the Ambassador Bridge lease having no direct expenses (see
      Note 3). Had PBS Region 5 allocated the appropriate portion of regional G&A to the
      Ambassador Bridge lease, this FFO loss would not have occurred.

   7. BP Tower – The $393,304 FFO loss was mostly due to an erroneous interpretation of the
      lease. GSA reduced lease payments after the completion of tenant improvements, but
      should not have.

   8. Chicago FBI Building – The $94,831 FFO loss came from PBS Region 5’s improper
      application of G&A. The fee collected for Fiscal Year 2016 totaled $1,006,079. However,
      the G&A applied to the project for the year was $1,100,205. The difference was negative
      $94,126, or more than 99 percent of the FFO variance.

   9. Chiquita Center – The $11,420 FFO loss was mostly due to an overpayment to the lessor
      on tenant improvement costs. The tenant improvements were completed and the
      tenant agency had finished paying for the tenant improvements. However, a GSA
      employee did not reduce lease payments to the lessor.

   10. IRS National Distribution – The $245,303 FFO gain was mostly because PBS Region 5 did
       not obtain adjusted real estate tax payments to the lessor to reflect a lower tax liability,
       resulting in overpayments to the lessor. PBS Region 5 determined that $160,277 was
       tenant agency overpayments over the 3 year period; however, it only credited $157,968
       back to the tenant.




A170047/P/5/R19007                         B-3
Appendix B – Summary of Findings for Leases in Audit Sample (cont.)

   11. Marquette Plaza – Most of the $77,438 FFO gain was traceable to PBS Region 5 not
       adjusting for a lease payment decrease, thus overpaying the lessor. PBS Region 5
       corrected this by reduced payments to the lessor but did not reduce its billings to the
       tenant agencies.

   12. Metro Office Park – The $66,260 FFO gain was traceable to the profit recovery
       contractor returning their fee for a claim filed in 2013 that was later determined to be
       overstated.

   13. Mid-Continental Plaza – The $1,126,625 FFO gain resulted from a claim for overpayment
       of real estate taxes by PBS Region 5. PBS Region 5 had not obtained updated real estate
       taxes bills, which had decreased. Most of the gain is traceable to a recovery claim for
       $1,093,656 that was later reduced to $695,039.

      The profit recovery contractor’s claim showed PBS Region 5 overpaid real estate taxes
      from 2009 through 2014. PBS Region 5 officials explained that the original lessor had
      sold the building and the lessor had dissolved. The new owner said the debt is the
      responsibility of the original lessor. On September 12, 2016, GSA referred the debt to
      the U.S. Treasury for collection. As of January 2019, the referral remained open with the
      U.S. Treasury. In addition, the tenant agencies also overpaid, as PBS Region 5 made no
      adjustments to their occupancy payments to GSA.

   14. Midway Airport – Most of the $17,506 FFO loss was traceable to $48,119 in cleaning
       fees that PBS Region 5 paid, but did not bill to the tenant agency. The responsible PBS
       Region 5 billing manager was not properly trained in billing tenant agencies and
       misinterpreted a system code.

   15. O’Hare International – The $427,290 FFO loss resulted from application of regional G&A.
       O’Hare absorbed excess G&A due to the misapplication of regional G&A expense for the
       Ambassador Bridge lease (see Note 3). O’Hare had the most direct expenses within its
       group and thus was burdened with 32 percent of the group’s regional G&A expense.

   16. Oakbrook Terrace – The $254,719 FFO gain occurred because PBS Region 5 mistakenly
       created a claim against the former lessor when it should not have. The claim reduced
       lease payments, resulting in an FFO gain. The mistake was corrected in the following
       fiscal year.

   17. Park Bank Plaza – The $315,206 FFO gain resulted from an OCFO Region 5 accounting
       adjustment. In December 2012, PBS Region 5 considered buying out the Park Bank Plaza
       lease because a tenant agency had vacated 72 percent of the leased space and set aside
       funds for the buyout. The buyout did not occur and, in Fiscal Year 2016, PBS Region 5


A170047/P/5/R19007                        B-4
Appendix B – Summary of Findings for Leases in Audit Sample (cont.)

      released the vacant space back to the lessor. Consequently, PBS Region 5 eliminated the
      set aside expense for the buyout, resulting in an FFO gain for 2016.

   18. Reuss Plaza Tower – The $379,549 FFO loss was due to an inaccurate allocation of field
       office G&A caused by an employee incorrectly charging time. An employee in PBS
       Region 5’s Northern Service Center charged too much time to a small group of buildings,
       which included the Reuss Building. There were a limited number of Northern Service
       Center buildings with direct expenses, thus an inaccurate amount of field office G&A
       was applied.

   19. Richie Building – The $488,033 FFO loss was due to inaccurate field office G&A
       allocation caused by an employee incorrectly charging time. According to GSA officials,
       an employee in PBS Region 5’s Northern Service Center charged too much time to a
       small group of buildings, which included the Richie Building. There were not many
       Northern Service Center buildings with direct expenses, thus an inaccurate amount of
       field office G&A was applied.

   20. USPS Building in Evansville – The $122,432 FFO loss was due to a national issue with
       Postal Service tenant agreements. For this lease, when the tenant vacated, the Postal
       Service would not take the vacant space back. Because access to the space was limited
       by building security requirements, PBS was unable to find a succeeding tenant;
       however, the contractual agreement between PBS and the Postal Service required PBS
       to continue to hold and pay for the space.

   21. Westwood of Lisle – The $247,882 FFO loss was due to intra-GSA payments between
       PBS and FAS that were incorrectly posted. These payments were made as part of a
       reimbursable work authorization agreement between PBS and the tenant agency for the
       procurement and installation of audio equipment. FAS procured the equipment for PBS.
       When the interfund billing from FAS to PBS took place, Pegasys had a system-wide issue
       which prevented the system from matching FAS invoices to the correct reimbursable
       work authorization based on a referenced obligation document number. As a result, the
       transactions posted against the interfund operating expense general ledger account
       instead of the cost of goods sold general ledger account. For the FFO reporting
       purposes, the interfund operating expenses were included in the FFO calculation leading
       to an FFO loss in Fiscal Year 2016. On September 19, 2016, a fix was applied to Pegasys
       to correct this system error.




A170047/P/5/R19007                        B-5
Appendix C – GSA Comments




A170047/P/5/R19007          C-1
Appendix C – GSA Comments (cont.)




A170047/P/5/R19007          C-2
Appendix C – GSA Comments (cont.)




A170047/P/5/R19007          C-3
Appendix D – Report Distribution
GSA Administrator (A)

GSA Deputy Administrator (AD)

Commissioner (P)

Deputy Commissioner (P)

Chief of Staff (P)

Regional Administrator (5A)

Regional Commissioner (5P)

Director of Financial Management (BG)

Chief Administrative Services Officer (H)

Audit Management Division (H1EB)

Assistant Inspector General for Auditing (JA)

Director, Audit Planning, Policy, and Operations Staff (JAO)




A170047/P/5/R19007                          D-1