AUDIT OF THE DEPARTMENT OF ENVIRONMENTAL SERVICES' H-POWER CONTRACTS AND PROCUREMENT PRACTICES

Honolulu County Auditor Report No. 15-04,  December 11, 2015 (excerpts)

Background: The Department of Environmental Services plans, directs, operates and administers the city's solid waste and other environmental sustainability programs. In 2008, ENV issued a 25-year integrated solid waste management plan which reduced the need for landfill through the use of an H-POWER waste to energy facility that converted solid waste into electricity. In FY 2014, the H-POWER facility produced and sold 379,438 megawatt hours of electricity and generated $65.6 million in electric revenues.

For the original H-POWER facility, ENV executed two contracts. In July 1985, ENV awarded Honolulu Resource Recovery Venture (HRRV) a 20-year contract ($163,764,130) to operate the H-POWER facility. ENV awarded a second contract ($149,975,660) in July 1985 to HRRV to design, construct, and test the H-POWER facility. Covanta acquired the operating contract from HRRV in 1993. In FY 2014-15, ENV paid Covanta a $52.9 million service fee to operate and maintain the H-POWER facility.

The original contracts totaled $313.7 million. After the contracts were awarded, ENV initiated three major capital projects and used 79 contract modifications (amendments, change orders, and task orders) to construct, improve, expand, and refurbish the H-POWER facility. The changes increased the overall project costs to $993.3 million (including contractor, construction, and operating costs) as of FY 2013. Despite State of Hawai'i Procurement Code and city policies that restricted the use of sole source contracts, cost-plus, and time and materials contracts, ENV used de facto sole source, costplus, and time and materials contracts to construct, improve, expand, and refurbish the H-POWER facility, and to hire consultants.

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After the original contracts were awarded, ENV used 79 contract modifications (amendments, change orders, and task orders) to construct, improve, expand, and refurbish the H-POWER facility.  The contract modifications increased the overall project costs from the original $313.7 million to over $993.3 million (including contractor, construction, and operating costs). (Consultant contracts totaled $14.7 million and are not included in the $993.3 million total.)  ENV did not fully comply with State of Hawai‘i Procurement Code and city policies related to sole source, cost-plus, and time and materials contracts.  ENV contract and procurement practices can be improved. 

Currently, ENV contracts limit the city’s access to records, allow contractors to curtail records retention, and limit the city’s right to audit. ENV should protect the city’s interests by requiring that all ENV contracts include the city’s standard general terms and conditions. ENV relied on the contractor, consultants and external law firms to negotiate the contract terms and conditions. In our opinion, the ENV procurement practices contributed to non-compliance with state and city contracting policies for sole source, cost-plus, and time and materials contracts and reduced the city’s ability to minimize costs, and detect fraud, waste, and abuse. ENV acceptance of contract terms that require the city to issue general obligation bonds to ensure the contractor and subcontractors were paid increased the city’s vulnerability to losses and higher costs.

ENV needs to improve its contract administration practices.  Although state and city policies require ENV to assign adequate resources to closely monitor cost-plus and time and materials contracts, ENV did not assign the required resources and relied on consultants to monitor and administer the H-POWER contracts.  As a result, ENV and BFS approved contract modifications without realizing the contractor’s right to operate the H-POWER facility was extended from 20 years to 47 years.  Our review of payments prior to FY 2013 indicated ENV approved payments that were excessive, questionable, and not fully supported. ENV claimed the deficiencies were personnel related.  A small sample of invoices after FY 2013 indicates payments for invoices have improved. Nevertheless, ENV still needs to assign resources needed to properly administer the complex cost-plus and time and materials contracts and to prevent deficiencies from recurring.

Despite the shortcomings, ENV and BFS managers claim the contracts were justified; in the best interests of the city, and the existing contract is a good contract. We respectfully disagree.

ENV disagreed with the audit findings, but agreed to most of the audit recommendations. We stand by our findings.

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Chapter 2
ENV Contract Administration Can Be Improved

ENV contract practices should protect city interests, minimize the potential for losses, and allow the city to detect fraud, waste and abuse. The existing H-POWER contracts limit the city’s ability to detect and prevent fraud, waste, and abuse. For example, the contracts limit the city’s access to records, curtail records retention, and limit the city’s right to audit. The contracts also contain an unusual requirement for the city to issue general obligation bonds to ensure Covanta and its subcontractors are paid; and allow Covanta to operate the H-POWER facility for 47 years under a cost-plus contract. As a result, the city is highly vulnerable if revenues are insufficient to cover operating costs and cannot minimize the project costs. The contract defects existed because ENV relied on the contractor, consultants and external law firms to negotiate the contract terms and conditions and did not require the use of the city’s standard general terms and conditions in the contracts. Despite the shortcomings, ENV and BFS managers claim the Covanta contract is a good contract and is in the best interests of the city. We respectfully disagree.

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Chapter 3
Prior To FY 2013, ENV Allowed the Contractor to Invoice and Collect Payments That Were Excessive or Should Have Been Paid by the Contractor

Our review of payments prior to FY 2013 indicated the Department of Environmental Services (ENV) approved over $751,700 in payments that were excessive, questionable, and not fully supported. More specifically, ENV approved payments for out-of-scope work, billing rates that exceeded the contract hourly rates, and first class and business class airfare for Covanta and its subcontractors. Other payments included payments for excessive hours billed by a subcontractor, unallowable travel costs, unreasonable intern pay rates, and legal fees that the contractor should have paid. Other deficiencies included the use of consultants to purchase items for ENV staff; inadequate documentation and support for paid invoices; and partially executed invoices. These deficiencies occurred because ENV relied on consultants to review and validate invoices and payment claims, and did not assign the staff and resources needed to properly oversee the complex contracts. ENV managers claim the deficiencies were personnel related. In our opinion, ENV is ultimately responsible for substantiating the validity, accuracy and reasonableness of all contract costs.

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Chapter 4
ENV Procurement Practices Can Be Improved

Department of Environmental Services (ENV) procurement practices do not fully conform to state rules and city policies. After the original contracts were awarded in 1985, ENV used de facto sole source, cost-plus, and time and materials contracts and 79 contract amendments, change orders, and task orders to construct, improve, expand, and refurbish the H-POWER facility.  ENV relied on the contractor, consultants, and external law firms to establish reasonable pricing and did not solicit or obtain open, competitive bids from other contractors. As a result, we could not determine if the contract amounts were reasonable or minimized project costs to the city. The contract modifications increased the original construction and operating costs of $313.7 million to an overall total of $993.3 million1 (including contractor, construction, and operating costs). Although the contract awards did not fully conform to the state rules and city policies, ENV and BFS managers claim the sole source, cost-plus, and time and materials contracts were justified, in the best interests of the city, and the existing contract is a good contract. We respectfully disagree.

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PDF: Audit Report

CB: City Government Gets Burned In H-POWER Audit

LINK: Carroll Cox Commentary and Background on H-Power Audit