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STATEOFCOLORADOOFFICEOFTHESTATEAUDITOR

PerformanceEvaluationofStateCapitalAssetManagementandLeaseAdministrationPracticesNovember2012

Member of Deloitte Touche Tohmatsu Limited

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LEGISLATIVE AUDIT COMMITTEE 2012 MEMBERS

Representative Cindy Acree Chair

Representative Angela Williams

Vice-Chair

Senator Lucia Guzman Senator Scott Renfroe Representative Jim Kerr Representative Su Ryden Senator Steve King Senator Lois Tochtrop

OFFICE OF THE STATE AUDITOR

Dianne E. Ray State Auditor

Michelle Colin

Acting Deputy State Auditor

Deloitte Financial Advisory Services LLP Performance Evaluation Contractor

Member of Deloitte Touche Tohmatsu Limited

November 21, 2012 Members of the Legislative Audit Committee: This report contains the results of a performance evaluation of the State’s capital asset management and lease administration practices. The evaluation was conducted pursuant to Section 2-3-103, C.R.S., which authorizes the State Auditor to conduct audits of all departments, institutions, and agencies of State government. The Office of the State Auditor contracted with Deloitte Financial Advisory Services LLP to conduct the performance evaluation. The report presents findings, conclusions, and recommendations and the responses of the Office of State Planning and Budgeting, the Office of the State Architect, the Judicial Department, and the Departments of Personnel & Administration and Labor and Employment. Yours truly,

Deloitte Financial Advisory Services LLP By: Josh Leonard, Partner

Deloitte Financial AdvisoryServices LLP 350 South Grand Avenue, Suite 200Los Angeles, CA 90071-3462 USA

Tel: +1 213 688 0800 Fax: +1 213 688 0100 www.deloitte.com

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TABLEOFCONTENTS PAGEGlossaryofTermsandAbbreviations...................................................................iiReportHighlights..........................................................................................................1

RecommendationLocator.........................................................................................3CHAPTER1: OverviewofCapitalAssetManagementandLease

AdministrationinColorado...........................................................9

AgencyRolesandResponsibilities..............................................................9

CapitalAcquisitionandConstructionFinancing..................................12

EvaluationScopeandMethodology..........................................................15CHAPTER2: ManagingCapitalAssets...............................................................19

CapitalConstructionProjectEvaluation.................................................20

MonitoringandReportingCapitalConstructionCostEstimatesandCostSavings..........................................................................32

RealEstateControlledMaintenanceandCapitalRenewalFunding...............................................................................................................43

Long‐TermRealEstatePlanning................................................................50

CHAPTER3: MonitoringLeaseOperatingExpenses....................................57

LeaseAdministration.....................................................................................58

LeaseProvisions..............................................................................................72

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GlossaryofTermsandAbbreviations

BOMA–BuildingOwnersandManagersAssociationCOP–CertificateofParticipationIBSBuilding–InstituteofBehavioralScienceBuilding–UniversityofColorado‐Boulder.JudicialCenter–RalphL.CarrJudicialCenterOSPB–Governor’sOfficeofStatePlanningandBudgetingProLease–theState’sleaseadministrationdatabase,managedbyJonesLangLaSalle,theState’scontractrealestatebroker“State”or“Colorado”–StateofColorado

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Report Highlights

STATE CAPITAL ASSET MANAGEMENT AND LEASE ADMINISTRATION PRACTICES

Performance Evaluation, November 2012

PURPOSE To compare the State’s management practices for real estate assets and leases with real estate industry practices to identify opportunities for improvement and cost savings.

EVALUATION CONCERN State practices for analyzing capital construction requests, monitoring capital projects once approved, and conducting long-term planning for its real estate portfolio vary from recognized real estate practices. Additionally, the State’s lease administration practices and contract provisions lack protocols to mitigate the risk of lease payment errors.

BACKGROUND In Fiscal Year 2011, the State’s real estate

portfolio included nearly 70 million gross square feet of owned space and 3.4 million rentable square feet of leased space.

For Fiscal Years 2009 through 2013, the State approved funding of more than $2.1 billion for State-funded capital projects, and $2.3 billion for cash-funded capital projects for institutions of higher education since January 2010, and made $230 million in lease payments to third party landlords.

A variety of agencies oversees and manages the State’s real estate portfolio in a decentralized fashion.

FACTS AND FINDINGS State practices for justifying capital construction requests are

not consistent across branches of government, State agencies, or individual projects and do not include analyses of costs before initiation and approval by the CDC and the General Assembly.

State mechanisms for tracking, monitoring, and reporting on expenditures, project assumptions, and cost savings are inconsistent across agencies and projects and in some cases, do not align with recognized real estate practices. Additionally, agencies generally do not perform post-mortem reviews to assess the validity of project assumptions at project closeout.

The State lacks sufficient funding for controlled maintenance and if not addressed, controlled maintenance needs will likely result in higher repair and replacement costs for taxpayers. If the $522 million in estimated controlled maintenance needs over the next five years is deferred, repair or replacement of the State’s owned building portfolio could cost the State over $2 billion.

The State generally lacks a comprehensive mechanism for long-term planning (such as a master plan), for its real estate assets. Such a mechanism could assist the State in its efforts to maximize the value of its real estate assets, reduce facility costs, and support funding decisions.

State lease administration practices lack protocols to assist it in identifying, investigating, and correcting potential overpayment and underpayment of lease operating expenses.

The State’s standardized leases are not aligned with recognized real estate leasing practices and do not adequately protect State agencies from paying more in lease costs than they should.

OUR RECOMMENDATIONS The Governor’s Office of State Planning and Budgeting and the Office of the State Architect should: Seek to improve the information used to

prepare capital project justifications and support decision-making.

Improve the tracking, monitoring, and reporting on capital construction projects for Executive Branch agencies and institutions of higher education, and work with the Capital Development Committee (CDC) to propose legislation as needed.

Work with the CDC to develop options, such as lease surcharges, to address controlled maintenance funding needs.

Work with the CDC to complete a master plan for the Capitol Complex.

The Office of the State Architect should strengthen lease administration practices and conduct lease audits to reduce the risk of operating expense payment errors.

The agencies agreed with our recommendations.

For further information about this report, contact the Office of the State Auditor

303.869.2800 - www.state.co.us/auditor

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RECOMMENDATIONLOCATOR

Rec.No.

PageNo.

RecommendationSummary

AgencyAddressed

AgencyResponse

ImplementationDate

1

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Improve the completeness and comprehensiveness ofthe information used to prepare capital projectjustificationsby(a)revisingcapitalbudget instructionstorequire all project justifications to provide total lifecyclecosts; (b)clarifyingthatallassumptions incapitalprojectjustificationsmustbesupportedbyadequateandcompletesupportingdocumentation;(c)consideringdevelopmentofa repository to capture major project assumptions; and(d) evaluating the potential for identifying a pool ofspecialists which State agencies can resource whenpreparing their capital construction project justificationsandfundingrequests.

OfficeofStatePlanningandBudgeting

OfficeoftheState

Architect

Agree

Agree

May2013

May2013

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Rec.No.

PageNo.


AgencyAddressed

AgencyResponse

ImplementationDate

2 40 Improvethetracking,monitoring,andreportingoncapitalconstruction projects for Executive Branch agencies,includinginstitutionsofhighereducation,byworkingwiththeCapitalDevelopmentCommitteetoproposelegislationwhere appropriate. Specifically: (a) establish formalpolicies for the construction and administration phase ofcapital construction projects; (b) propose legislationoutlining the criteria, length of reporting term, andcircumstances under which agencies should analyze andmonitor project lifecycle costs, project assumptions, andcost savings estimates; and (c) propose legislationoutlining the criteria and circumstances under whichcapital construction projects should engage anindependent third‐party to monitor and track projectcosts.


OfficeoftheStateArchitect

Agree

Agree

May2013

May2013

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Report to the Capital Development Committee and theJoint Budget Committee on its monitoring of projectassumptionsandlifecyclecostsrelatedtotheRalphL.CarrJudicial Center, including (a) annually reporting currentexpectedcostsavingsfromtheJudicialCenterprojectdueto the co‐location of justice‐related agencies andconsolidation of various operational and administrativesupport functions; (b) providing a current report on anysignificantunresolvedbuildingissues;and(c)providingafinalcloseoutevaluationoftheprojecttotheOfficeoftheStateArchitectandtheCapitalDevelopmentCommittee.

JudicialDepartment Agree November2013

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Rec.No.

PageNo.


AgencyAddressed

AgencyResponse

ImplementationDate

4 48 Work with the Capital Development Committee toproactively identify potential solutions for addressingincreasing controlled maintenance funding needs byproposing legislation to (a) implement a lease surchargefor State tenants to pay for controlled maintenance and(b)requireallnewcapitalconstructionprojectstoincludeafundingmechanismforcontrolledmaintenanceaspartoftheapprovedoperatingbudgets.


OfficeoftheState

Architect

Agree

Agree

May2013

May2013

5 54 WorkwiththeCapitalDevelopmentCommitteetodevelopa framework for creating a long‐term real estate masterplan for the State by (a) seeking funding to complete amaster plan for the Capitol Complex and (b) consideringproposing legislation requiring all real estate‐relatedcapital requestsbeevaluatedagainstanapprovedmasterplan.


OfficeoftheState

Architect

Agree

Agree

September2013

September2013

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Rec.No.

PageNo.


AgencyAddressed

AgencyResponse

ImplementationDate

6 69 Work with State agencies to strengthen leaseadministrationpractices and reduce the risk of operatingexpensepayment errors by (a) promulgating guidance toagencies outlining their responsibilities for annuallyreviewing operating expense rental obligations andworkingwiththecontractbrokertoestablishstandardizedprocedures for these reviews; (b) developing base‐linetrainingsandmaterialsforleaseadministrationthatassistagencieswithreviewingtheiroperatingexpenses,trackingcritical lease dates, maintaining complete lease files, andworking with landlords to resolve any issues identified;(c) working with the contract broker and the AttorneyGeneral’s Office to revise the contract service agreementand better define the responsibilities, expectations, anddeliverables to be provided by the contract broker;(d)workingwithStateagenciesandthecontractbrokertoimprove utilization of the ProLease lease administrationsystem; and (e) considering contracting with an outsidevendortoperformcentralizedreviewofoperatingexpensereconciliation statements and to conduct lease audits ontheState’sentireleaseportfolio.


a. Agreeb.Agreec.Agreed.Agreee.Agree

a. May2013b.May2013c.July2013d.March2013e.March2013

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Rec.No.

PageNo.


AgencyAddressed

AgencyResponse

ImplementationDate

7 72 Review operating expenses from prior years and theoverpayments identified in thisevaluationandworkwithlandlordstorecoveralloverpaymentsidentified.

DepartmentofPersonnel&

Administration

DepartmentofLaborandEmployment

Agree

Agree

June2013

June2013

8 77 Engage the advice and assistance of the State’s contractbroker and work with the Attorney General’s Office toupdate and revise the State’s Standardized LeaseAgreementstobetterprotecttheStateandreducetheriskofoverpayingcertainrentalobligations.


Agree March2013

PerformanceEvaluationofStateCapitalAssetManagementandLeaseAdministrationPractices‐November2012 9

OverviewofCapitalAssetManagementandLeaseAdministrationinColorado

Chapter1BackgroundTheStateofColorado(“State”or “Colorado”)hasadiverse realestateportfolioofownedandleasedassetsmanagedinadecentralizedfashionthroughtheactivitiesof a number of State agencies. During Fiscal Year 2011, Colorado’s real estateportfolio includedownedspacefromall fundingsourcestotalingnearly70millionin gross square feet and leased space totaling 3.4million in rentable square feet.Over the five‐year period spanning Fiscal Years 2009 through 2013, the Stateappropriateda totalofmore than$2.1billion forcapitalprojects fromall fundingsources, excluding some cash‐funded projects at institutions of higher education.Another $2.3 billion in cash‐funded capital projects has been approved forinstitutionsofhighereducationsinceJanuary2010.Overthesameperiod,theStatehasspentabout$230millioninleasepaymentstothirdpartylandlords.Together,theserealestateassetsrepresentasignificantinvestmentoftaxpayerdollarsintheconstruction,acquisition,maintenance,andleasingofStatebuildingspace.AgencyRolesandResponsibilitiesA variety of State entities with different roles and responsibilities oversee andmanage the State’s real estate portfolio in a decentralized fashion. The followingtableoutlinestheprimaryagencieschargedwithoverseeingtheState’srealestateassetsandincludesasummaryoftheirresponsibilitiesandtheapplicablestatutorycharge(s).

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Table1–OverviewofStateRealEstateResponsibilities

Name Role GoverningStatuteCapitalDevelopmentCommittee

Generalreviewandoversightofallcapitalprojectsstatewide,includingprojectsinitiatedbytheexecutive,judicial,andlegislativebranchesandinstitutionsofhighereducation,andincludingpurchase,construction,renewal,andcontrolledmaintenance.

Section2‐3‐1304,etseq.,C.R.S.

Governor’sOfficeofStatePlanningandBudgeting

Review,approval,andprioritizationofExecutiveBranchcapitalprojectrequestsforfundingconsiderationbytheCapitalDevelopmentCommittee. ReviewofprogramplansforStatedepartmentsintheExecutiveBranch.

Section24‐37‐201,etseq.,C.R.S.Section24‐37‐302,etseq.,C.R.S.


AdministrationofState‐fundedcapitalconstructionintheExecutiveBranchandprioritizationofcontrolledmaintenancerequestsforsubmissiontotheCapitalDevelopmentCommittee. OversightofleasingandrealestatetransactionsatStatedepartmentsandinstitutionsofhighereducation.


ColoradoCommissiononHigherEducationandtheDepartmentofHigherEducation

GeneralreviewandoversightofcapitalprojectsundertakenbyinstitutionsofhighereducationonState‐ownedorState‐controlledland,includingpurchase,construction,renewal,andcontrolledmaintenance. Reviewandapprovalofinstitutions’masterandprogramplans. Prioritizeinstitutions’capitalprojectsandsubmittoOSPBandtheCapitalDevelopmentCommittee,whenrequiredbythetypeoffundingsource.


JointBudgetCommitteeandGeneralAssembly

Studythemanagement,operations,programsandfiscalneedsofStateagenciesandinstitutions. MakerecommendationstotheGeneralAssemblyforfundingofprojectsperCapitalDevelopmentCommitteeguidanceforinclusionintheLongBill. Approvecapitalprojectsinitiatedbylegislation.


TheDepartmentofPersonnel&Administration,Officeof theStateArchitect,hasacentral role in managing the State’s real estate assets. The Office of the StateArchitect has responsibility for administering capital construction, prioritizingcontrolled maintenance requests, ensuring code compliance, tracking facilities’condition,approvingemergencymaintenancefunds,managingenergyconservation,and overseeing and approving leasing and real estate transactions for ExecutiveBranch agencies, including higher education. [Section 24‐30‐1303, C.R.S.] Asdefinedinstatute[Section24‐75‐301,C.R.S.],capitalconstructionbroadlyincludespurchaseofland;purchase,construction,ordemolitionofbuildings,remodelingorrenovation;siteimprovements;purchaseandinstallationofequipmentnecessarytooperate the building; purchase of the services of architects, engineers, and other


consultants to prepare plans, studies, and analyses; purchase of instructional orscientificequipmentcostingmorethan$50,000;andpurchaseofservicesfromtheOffice of Information Technology. The Office of the State Architect establishespolicies and procedures and provides statutory oversight of the State’s capitalconstructionprocessoncethedecisiontoconstructabuildinghasbeenmade.Thisprocess includes: solicitation and procurement of professional design andconstructionservices;developmentofstandardcontractlanguage;establishmentofproject management guidelines including cost management; adoption andimplementationofbuildingcodesandcompliancerequirements;andadministrationoftheongoingcontrolledmaintenanceprogram.TheOfficeoftheStateArchitectisfundedbyStategeneralfundsandhadsixFTEandtotalappropriationsofjustunder$560,900duringFiscalYear2013.Workingwith theGovernor’sOfficeofStatePlanningandBudgeting (“OSPB”), theOffice of the State Architect also provides support and input to the CapitalDevelopmentCommitteeoftheGeneralAssemblywhichreviewsandrecommendsfunding for all capital constructionprojects, including lease purchase agreements,valuedatmore than$500,000. TheCapitalDevelopmentCommitteealso reviewscapitalconstructionprojectsatinstitutionsofhighereducationthatdonotrequireanygeneralorcapitaldevelopmentfunds,buthavebeenapprovedbythegoverningboardsoftheinstitutionsandtheColoradoCommissiononHigherEducation.The Office of the State Architect also has statutory responsibility for overseeingcontrolled maintenance of buildings constructed or acquired with capitalconstructionorgeneralfunds.AsexplainedinmoredetailinChapter2,controlledmaintenance is generally defined as “corrective repairs and replacement used forexisting State‐owned, general‐funded buildings,” not paid for through an agency’soperating budget. [Section 24‐30‐1301 (2) (a) (I), C.R.S.] The Office of the StateArchitect coordinates the initiation of budget requests and prioritizes andrecommends funding for controlled maintenance projects to the CapitalDevelopment Committee and OSPB. During the 2012 Legislative Session, theGeneral Assembly, through Senate Bill 12‐040, extended the projects eligible forcontrolledmaintenancefundingtoincludeacademicfacilitiesfundedandoperatedbycashfunds.Aside from new construction, the Office of the State Architect is responsible fornegotiating and executing leases on behalf of the State government for land,buildings,andofficeorotherspace.[Section24‐30‐1303,C.R.S.]Asdiscussedlaterinthischapter,ColoradohasaCentralizedLeasingPolicythatrequiresallExecutiveBranchagencies(withafewexceptions),includinginstitutionsofhighereducation,toworkthroughtheOfficeoftheStateArchitecttoacquireleasedspace.AccordingtotheOfficeoftheStateArchitect,theCentralizedLeasingPolicyistriggeredonceanagency’s ExecutiveDirector identifies a need for leased space and the agencyhasreceivedanappropriationforitsleasecosts.TheCentralizedLeasingPolicyrequires

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theOfficeoftheStateArchitecttoexecuteacontractwitharealestatebroker(the“contractbroker”)toassistwithevaluatingleasedspaceoptionsinthemetropolitanarea counties of Denver, Douglas, Arapahoe, Boulder, Broomfield, Adams, andJefferson as well as for El Paso and Pueblo Counties in southern Colorado. Thecurrentcontractbroker,JonesLangLaSalle,isrequiredtomaintainaninventoryofall leasedspacestatewideandprovidesupport toStateagency tenantsduring thelease term, including addressing problems with landlord compliance, monitoringleaseexpirationdates,andperforming“operatingcostaudits.”ThecontractbrokerdoesnotreceiveafeefromanyStateagencyforperformingservicesontheagency’sbehalf; rather, the contract broker receives a commission, paid for by third‐partylandlords,foreverytransactionthecontractbrokernegotiatesandclosesonbehalfof the State. The contract broker returns 25 percent of all commissions receivedback to State agencies, in accordancewith the contract broker’sStateCommissionSharingAgreement.Finally,theOfficeoftheStateArchitectisresponsibleforotherrealestateactivitiessuchasthepurchaseofrealestatefortheStateandsaleorleaseofState‐ownedrealestate. The Office of the State Architect does not oversee three areas including:(1) acquisitions by the Department of Transportation; (2) acquisitions ordispositionof State landby theStateLandBoard; and (3)managementof certaineasements,rights‐of‐way,andvacantlandleasesandacquisitionsbyColoradoParksandWildlife,adivisionwithintheDepartmentofNaturalResources.StateAgencyResponsibilitiesInadditiontotheresponsibilitiesoftheOfficeoftheStateArchitectandtheagenciesand entities outlined in the table above, individual agencieswithin the Executive,Judicial, and Legislative Branches have responsibilitieswith respect to the State’sreal estate portfolio. For example, Judicial and Legislative Branch agencies haveauthoritytomanagetheirowncapitalacquisitionandconstructionprojectswithoutoversightbytheOfficeoftheStateArchitectorOSPB.Additionally,theJudicialandLegislativeBranchesarenot subject to theCentralizedLeasingPolicy,butmayusetheservicesoftheOfficeoftheStateArchitectanditscontractbrokertoassistwithprocuring leased space if desired. Further, the Executive Directors of individualStateagencieshave inputonrealestatedecisionsandcapitalprojectrequestsandhaveauthority tomake leasingdecisions, if fundshavebeenappropriated forthatpurpose. Stateagenciesarealsoresponsible formanagingtheirownleases,oncetheagreementhasbeenexecuted.CapitalAcquisitionandConstructionFinancingFinancingforcapitalacquisition,construction,andcontrolledmaintenanceprojectsiscomplex. InColorado,capitalprojectsarefundedby(1)Statefunds—whichareprimarilygeneralfundstransferredtotheCapitalConstructionFundandallocated


to specificprojects; (2) cash funds—whichare fundsderived fromprivatedonorsandpublicsources,includingfeescollectedforspecificservicesperformedbyStateor local agencies; and (3) federal funds—whichare fundsprovidedby the federalgovernmentforspecificgrantsandprograms.AsdiscussedinChapter2,ExecutiveBranchagenciesreceivefundingforcapitalprojectsbysubmittingtheirrequeststothe OSPB, which prioritizes the projects for review by the Capital DevelopmentCommittee. The Capital Development Committee makes recommendations forproject prioritization and submits its recommendations for funding to the JointBudgetCommitteeforappropriationthroughtheLongBill.Prior to January 1, 2010, most cash‐funded projects at institutions of highereducationwere subject to the prioritization and appropriation process describedabove.Duringthe2009LegislativeSession,theGeneralAssemblymadesignificantchanges to the process for approving cash‐funded higher education capitalconstruction projects. These changes were intended to provide institutionswithmoreflexibilitytorespondtotheircapitalconstructionneeds.InaccordancewithSection 23‐1‐106 (9), C.R.S., effective January 1, 2010, cash‐funded projects atinstitutionsofhighereducationarenowindependentlyreviewedandapprovedbythe Colorado Commission on Higher Education and the Capital DevelopmentCommittee,butarenolongersubjecttoprioritizationorappropriationthroughtheLongBill.Duringthepastfiveyears(FiscalYears2009through2013),thefundsappropriatedfor capital projects havedecreased significantly due to the economic recession aswellasStatebudget‐balancingmeasures. Thefollowingtableshowsthechangeincapitalprojectappropriationsoverthattimeperiod:

Table2–StateCapitalProjectAppropriationsFiscalYears2009through2013(inmillions)

FiscalYear StateFunds CashandFederalFunds1 TotalFunds1

2009 $117.7 $774.3 $892.02010 42.2 726.2 768.42011 23.2 80.5 103.72012 50.2 137.0 187.22013 63.1 108.8 171.8TOTAL $296.4 $1,826.8 $2,123.1

Source:ColoradoLegislativeCouncil.Note:1EffectiveJanuary1,2010,cash‐fundedhighereducationprojectsarenolongersubjecttoappropriationandtherefore,areomittedinthetotalsinthe“cashandfederalfunds”and“totalfunds”columnsabove.State agencies use a variety of methods to fund capital projects, including debtfinancing, Certificates of Participation, lease‐purchase agreements, and fees.Certificates of Participation (“COPs”) are a type of financing vehicle where theinvestorpurchasesaportionoftheleaserevenuesandtheproceedsofthepurchaseareusedbythegovernmentagencytopayforconstructioncosts. Statuterequires

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alllease‐purchaseagreementsforrealpropertyinexcessof$500,000overthetermof the agreement, regardless of whether financed by COPs or “rent‐to‐own”agreements, tobespecificallyauthorizedbyaseparatebillenactedbytheGeneralAssemblyotherthanbytheLongBillorasupplementalappropriationsbill.[Section24‐82‐801(1)(a),C.R.S.]PriortotheStateTreasurerexecutinganylease‐purchasetransaction, OSPB (for Executive Branch agencies) and the Capital DevelopmentCommitteemustfirstreviewandapprovetheplansfortheproject.[Section24‐82‐802(3) (d),C.R.S.] Subsequent leasepaymentsare thenannuallyappropriated inthe operating or capital budget. The lease agreement itself is renewed each yearthroughtheLongBillappropriationsprocess.StateBuildingGrowthThe Office of the State Architect tracks statistics on State‐owned buildings.AccordingtotheOfficeoftheStateArchitectAnnualReportdatedDecember2011,State‐owned buildings paid from all funding sources comprise nearly 70 milliongross square feet and have an estimated replacement value of $14 billion. State‐owned building space is located in the Capitol Complex and throughoutmetropolitanDenveraswellasatinstitutionsofhighereducationandinotherareasof the State, including Colorado Springs, Pueblo, and thewestern slope. A largeportion(46percent)ofthe“State‐funded”buildinginventory(e.g.,inventoryfundedprimarily with general fund dollars) was built prior to 1971. The table belowshowsthenumberofbuildings,andgrosssquarefootage(inmillions),inColorado’s“State‐funded”buildinginventorysincebefore1900:

Table3‐Age,GrossSquareFootageinMillions(“GSF/M”),and

Numberof“State‐Funded”BuildingsAcquiredorConstructedEachYearPre‐1900toDecember2011

Source:OfficeoftheStateArchitectDecember2011AnnualReport.Note: Thereare55buildingsequaling1.8percent,or788,618GrossSquareFeetofthe“State‐

funded”inventorywiththedateofconstructionunknownatthistime.ApplicablePolicyDocumentsTheStatehasdevelopedanumberofpolicydocuments through theyears tohelpguide real estatedecision‐making. In accordancewithExecutiveOrderD01603,datedAugust2003,theOfficeoftheStateArchitectdevelopedaCentralizedLeasingPolicy. According to the Executive Order, the purpose of the CentralizedLeasingPolicy was to “ensure optimum use of State‐owned and leased space.” TheCentralized Leasing Policy, effective December 15, 2005, applies to all space


acquisitionsbyexecutivedepartmentsandinstitutionsofhighereducationwhetherby lease,sublease, lease/purchase,or license. Also in2005, theOfficeof theStateArchitect hired a consulting firm to help it develop theStateofColoradoStrategicReal Estate Plan to provide comprehensive asset management services for theState’srealpropertyportfoliowiththegoalofreducingoverallrealestatecostsandimproving the efficiency and utilization of State‐leased and owned assets. Thestrategicplanhassubsequentlybeenupdatedfourtimes:during2006,2007,2009,and 2011. Through creation of a comprehensive Annual Report to the CapitalDevelopment Committee, theOffice of the State Architect reports on acquisitions,dispositions, lease summaries, and other real estatemanagement issues includingongoing controlled maintenance expenditures and needs. The Office of the StateArchitectalsomaintainsofficespacestandardsforleasedspace. Finally,whiletheState currently does not have amaster plan to guide decision‐making for capitalconstruction and asset management in the Capitol Complex and Denvermetropolitan area, in accordance with statute [Section 23‐1‐106 (3), C.R.S.], theColorado Commission on Higher Education requires every higher educationinstitutiontohaveamasterplantohelpguidetheircapitaldevelopmentactivities.EvaluationScopeandMethodologyTheColoradoOfficeoftheStateAuditorcontractedwithDeloitteFinancialAdvisoryServices LLP (“Deloitte FAS”) to conduct this performance evaluation pursuant toSection2‐3‐103,C.R.S.,whichauthorizes theStateAuditor toconductauditsofalldepartments,institutions,andagenciesofStategovernment.TheprimaryobjectiveofthisperformanceevaluationwastodevelopfindingsandrecommendationsthatwouldhelptheStatedocument,substantiate,andidentifycostsavingsthattheStatecould realize from improving its tools, processes, efficiencies, and performancearound the management of its real estate assets. Work was conducted inaccordance with consulting standards promulgated by the American Institute ofCertifiedPublicAccountantsandperformedfromAprilthroughOctober2012.TheservicesrenderedbyDeloitteFASdonotconstituteanengagementtoprovideaudit,compilation,review,orattestationservicesasdescribedinthepronouncementsonprofessional standards issued by the American Institute of Certified PublicAccountants.The evaluation involved the extensive assistance of the various State agenciesreferenced in this report. Theperformanceevaluation included the following twoissues:IssueOne–SpaceAcquisitionAnalysis: The analysis of this issue involved thepractices,mechanisms,andtoolstheStateusestoevaluateoptionsandsupportitsdecisions to acquire building space via lease, purchase, or build. We did notevaluatethebasisfortheState’sdecisiontoproceedwiththeacquisition.Weread

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andanalyzedrelevantstatutes,rules,policies,procedures,andotherdocumentationrelatedtotheState’smanagementofitsrealestateassets.InconsultationwiththeOfficeof theStateAuditor, theOfficeoftheStateArchitect,andtheDepartmentofHigher Education, we selected a judgmental, non‐statistical sample of fourrepresentativeprojectstoevaluate:

The Capitol Complex Parking Garage – Department of Personnel &Administration. The construction of the new five‐level Capitol ComplexParkingGaragewasauthorizedbytheGeneralAssemblythroughSenateBill04‐233.Thegarage is locatedon the southeast cornerofEast14thAvenueand Lincoln Street and the approximately 660 spaces have been occupiedsince completion in December 2005. The budget for the Capitol ComplexParkingGaragewas$9.37millionandwasfinancedthroughCOPs.

Proposed Capitol Complex Mixed‐Use Building – Department of

Personnel&Administration. The Mixed‐Use Buildingwas proposed bythe Department of Personnel & Administration in 2005 and the GeneralAssemblyapprovedfundingof$1.7millionforplanningandpartialdesigninFiscalYear2007.TheproposedlocationonthecornerofColfaxAvenueandLincolnStreet isownedby theStateand isa surfaceparking lot.Theplanwas for a 10‐story class A office building of approximately 188,608 grosssquare feet of office spacewith underground parking for 264 cars and anadditional14,770grosssquarefeetofretailspace.However,duetorapidlyescalating construction costs as a result ofhurricaneKatrina, theproposaldid not proceed and in late 2007 the Department of Personnel &Administrationrequestedthattheapprovedfundingbereallocatedforotherpurposes.

TheRalphL.CarrJudicialCenter ‐JudicialBranch. Theconstructionof

thenew695,797squarefootRalphL.CarrJudicialCenter(“JudicialCenter”)was authorizedby theGeneralAssembly through SenateBill 08‐206. ThenewJudicialCenterislocatedatEast14thandBroadwayandwillhousetheSupreme Court, Appellate Courts, State Court Administrator’s Office,Attorney General’s Office, Independent Ethics Commission, and all JudicialBranchagenciesincludingthePublicDefender’sOffice,AttorneyRegulation,JudicialDiscipline,JudicialPerformance,OfficeoftheChild’sRepresentative,and Alternate Defense Counsel. The budget for the Judicial Center wasalmost$283million,includinglandfortheparkingstructure,andisfinancedthrough COPs. The Judicial Center was planned to meet LEED Goldcertification (the standard justbelowPlatinum, thehighest levelof energyand environmental design) and will be ready for occupancy beginningDecember2012.


The Institute of Behavioral Science Building–University of Colorado‐Boulder. The construction of the new 50,565 square feet Institute ofBehavioralSciencebuilding(“IBSBuilding”)wasauthorizedbytheGeneralAssembly through House Bill 08‐1375, with additional funding approvedthrough Senate Bill 09‐259. Constructionwas completed in October 2010.Thebuilding,which isLEEDPlatinumcertified, is locatedon the cornerof15th Street and Grandview in Boulder and houses the faculty, staff, andassistants of the Institute of Behavioral Science. The budget for the IBSBuildingwas$15.7millionandwascashfunded.

Wereadandanalyzeddocumentsrelatedtothe fourprojectsasprovidedbyeachresponsibleagency;completedsiteinspectionsofeachproject;conductedin‐personmeetingswithvariousproject stakeholders;and researched thepracticesofotherstates (Georgia, Utah, Massachusetts, Wisconsin, Virginia, California, Minnesota,Iowa, Maryland, Washington, Texas, and Florida) with respect to their decision‐making processes for real estate acquisition. Our evaluation scope specificallyexcluded capital construction project management by the agency or oversight ofcapitalconstructionadministrationbytheOfficeoftheStateArchitect.IssueTwo–ReviewofLeaseOperatingExpensePayments:TheanalysisofthisissueinvolvedtheState’sprocessessurroundingleaseoperatingexpensepaymentsand recovering overpayments. We consultedwith the Office of the State AuditorandtheOfficeoftheStateArchitecttoselectajudgmental,non‐statisticalsampleofeight leases from eight State agencies and institutions of higher education: theDepartmentsofRegulatoryAgencies,LaborandEmployment,Revenue,Corrections,andPersonnel&Administration;theGovernor’sOfficeof InformationTechnology;FrontRangeCommunityCollege; andColoradoStateUniversity System.Together,the rent payments for these eight leases totaled about $9.7 million, or about20percentofthetotalof$48.9millioninrentpaymentsmadebyallStateagenciesduringCalendarYear2011.

Weperformedhigh‐levelinspectionsofCalendarYear2011operatingexpensesforeachoftheleasesinoursample.Weperformedanin‐depthonsiteinspectionofthebooks and records related to operating expenses conducted at the landlord’spremisesforCalendarYear2011operatingexpensesfortwoleaseholds locatedat63317thStreetinDenver.Wealsoconductedinterviewswithleaseadministrationstaff at the Departments of Labor and Employment, Revenue, and Personnel &Administration;FrontRangeCommunityCollege;andtheColoradoStateUniversitySystem, aswell aswith staff from theOffice of the StateArchitect and the State’scontractbroker. WereadandanalyzedtheOfficeof theStateArchitect’scontractwiththerealestatecontractbroker,theState’sstandardizedleaseagreements,theOfficeoftheStateArchitect’sleasingpolicies,andotherrelevantdocuments.

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The results of our analyses are specific to the projects and leases evaluated andthereforecannotbeprojectedtothepopulationofcapitalconstructionprojectsandleasesintheState’srealestateportfolio. However,theresultsprovideasufficientbasis to understand the State’s practices and controls as they pertain to theobjectives of this evaluation. Our conclusions on the projects and leases can befoundinthefindingsandrecommendationssectionofthisreport.


ManagingCapitalAssets

Chapter2Comparabletootherstatesacrossthecountry,Coloradoisstrugglingtomanageanaging owned real estate portfolio with increased and more sophisticated spaceusagerequirements.TheOfficeoftheStateArchitectestimatesthatjustunderhalfof Colorado’s owned buildings were built before 1971 and that controlledmaintenance funding needs for State‐owned, general funded buildings will total$522 million for the period spanning September 2011 to January 2016. Due tocontinuingbudgetconstraints,fundingformaintaining,refurbishing,andacquiringspaceremainsextremelylimited. Consequently,strongmechanismsareneededtomanageongoingcostsandmaximizeavailablefundinginordertoprotecttheState’srealestateassetsgoingforward.Against this backdrop, the State has a number of additional constraints, whichimpactitsabilitytomanageitsrealestate:

Leadership changes in theExecutiveBranch as newgovernors are elected,andintheGeneralAssemblyandontheCapitalDevelopmentCommitteedueto elections and term limits, help create a shifting landscape of fundingpriorities.

The sharing of oversight responsibilities among a variety of State agenciescoupledwith the lackofa centralizedagencyresponsible formanaging thereal estate and capital construction processes statewide complicates thedecision‐making process and can result in competition among agencies forlimited funds. Other states contacted during this evaluation, includingGeorgia, Utah, Massachusetts, Wisconsin, Virginia, California, Minnesota,Iowa,Maryland,Washington,Texas,andFlorida,providecentralizedservicesfortheirrealestateandcapitalconstructionprocesses.

Finally, resource constraints and limited staff with specialized experiencecouldinhibittheState’scapacitytoevaluateandmonitorongoingprojects.

Despite these limitations Deloitte FAS identified a number of space acquisitionprocesses that appear consistent with our understanding of industry practices,including:(1)useofacentralizedleasingpolicyandleveragingofOfficeoftheStateArchitectstaffandanoutsidecontractbrokertoaccessrequiredleasingexpertise;(2) creation and active use of a real estate strategic plan to provide assetmanagement of the State’s real property assets; (3) required use of facilities’programplanswhen justifying capital construction requests for ExecutiveBranchdepartments; (4) centralized review of Executive Branch capital constructionfundingrequestsbytheGovernor’sOfficeofStatePlanningandBudgeting(“OSPB”)

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or the Department of Higher Education prior to submission to the CapitalDevelopment Committee; (5) centralized review by the Capital DevelopmentCommitteestaffof realestateacquisitionprojectsprior to submission to the JointBudget Committee; (6) application of formal space planning standards whenestimatingagencyoffice spaceusage; (7)developmentofmechanisms for fundingcontrolledmaintenanceforthenewJudicialCenter;and(8)rigorous,standardizedevaluations of capital construction projects required by Colorado Commission onHigher Education Program Plan Policies, including full lifecycle cost analysis,identification of controlled maintenance funding mechanisms, and recognition ofinputfromprojectstakeholdersincludingendspaceusersandthecommunity.Deloitte FAS identified the following areas where we see opportunities foradditionalimprovement:(1)furtherstandardizingthecapitalevaluationprocessesused to support decision‐making, including delineating required assumptions andrequiring full lifecycle cost analyses; (2) increased monitoring and reporting ofprojectcostestimatesandsavingsagainstprojectionsandassumptions;(3)creatingastrategytoaddressongoingcontrolledmaintenanceissues;and(4)implementingalong‐termcapitalplanningprocess. Eachoftheseissuesisaddressedwithinthischapter.

CapitalConstructionProjectEvaluationOver the past five years (Fiscal Years 2009 through 2013), the State hasappropriatedmore than $2.1 billion for capital projects from all funding sources,excludingcash‐fundedprojectsat institutionsofhighereducation,whichhavenotbeen appropriated through the Long Bill since January 1, 2010. Capital projectappropriationsincludefundsforconstruction,acquisition,controlledmaintenance,program planning, large information technology projects, furnishings, andequipment. Of the $2.1 billion in appropriated capital project funds, a total of$296millionwasfundedby“Statefunds,”whichareprimarilygeneralfundmoniesallocated to specificprojects through theLongBill; anda total of $1.8billionwasfundedbycashfundsfromothersources(e.g.,fees,bondsissuedbyinstitutionsofhigher education, and funds provided by donors, among others). In addition, theCapitalDevelopmentCommitteeandtheColoradoCommissiononHigherEducationhave approved another $2.3 billion in cash‐funded capital projects at highereducationinstitutionssinceJanuary1,2010.CapitalConstructionApprovalProcessAccordingtostatute,“itisthepolicyoftheGeneralAssemblynottoacquiresitesorauthorize or initiate any program or activity requiring capital construction oracquisition of a capital asset . . . for any State department or subdivision thereofunless theprogramor activity is anelementof the facilitiesprogramplan for the


department.” [Section 2‐3‐1304.6, C.R.S.] Consequently, capital constructionprojectsareprogramdrivenandanagencymustjustifyacapitalrequestbasedonhow the project will allow it to improve or alter its ability to provide a certainprogramorservices.The process for seeking funding and approval for capital projects differs amongagenciesandbranchesofGovernment.Forexample:

Projects initiatedbyExecutiveBranchagencies(excluding institutionsof higher education). Capital construction and acquisition projects areinitiatedbyindividualagencies.Agenciesprepareprogramplansandjustifytheir capital construction requests in accordance with criteria outlined byOSPB. Agencies then submit their requests to OSPB, which reviews theprojectsandprioritizes theagencyrequestsbasedonprioritiesoutlinedbytheGovernor.TheprioritizedlistofcapitalconstructionprojectrequestsissubmittedtotheCapitalDevelopmentCommittee,whichreviewsandholdshearingsontherequests,requestingadditional information, ifneeded. TheCapital Development Committee then makes prioritized fundingrecommendationstotheJointBudgetCommitteeforState‐fundingrequests.TheCapitalDevelopmentCommitteealsomakesrecommendationsforcash‐fundedprojectsforStateagencies.TheJointBudgetCommitteethenmakesarecommendation for inclusion of certain State‐ and cash‐funded capitalconstruction projects in the annual Long Bill, which delineates actualappropriations.

Projects initiated by institutions of higher education. Capitalconstruction and acquisition projects are initiated by each individualinstitution of higher education. Statute [Section 23‐1‐106 (3), C.R.S.]requires institutions of higher education to develop master plans, whichmustbeapprovedbytheinstitutions’respectivegoverningboardandbytheColorado Commission on Higher Education. Institutions must prepareprogramplans to justify their capital construction requests and align theirprogram plans with their master plans. Governing boards review andapprove the institution’s capital constructionprogramplan and ensure therequestalignswiththeinstitution’smasterplan.TheDepartmentofHigherEducation also reviews the institution’s capital construction request toensure alignment with the institution’s master plan; if projects are notaligned,theDepartmentwillnotapprovetherequest. If theDepartmentofHigher Education determines that the capital construction request alignswith the institution’smasterplan, theproject is submitted to theColoradoCommission on Higher Education. If the institution’s capital constructionrequest requires any amount of “State funds,”which are primarily generalfundsdepositedintheCapitalConstructionFund,theColoradoCommissiononHigherEducationsubmitsaprioritizedlistofhighereducationprojectsto

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OSPB for review and inclusion in the statewide prioritized list, and theproject is processed in the same manner as the Executive Branch capitalconstructionrequestsdescribedabove.However,sinceJanuary1,2010andinaccordancewithstatute[Section23‐1‐106,C.R.S.],iftheprojectispaidforwith100percentcashfunds—whicharefundsderivedfromprivatedonorsand public sources, including fees—the project is not submitted to OSPB.The Capital Development Committee and the Colorado Commission onHigher Education each independently review and approve the projects aspartof their respectiveoversight roles.Theproject isnot submitted to theJointBudget Committee, is not appropriated in the LongBill, anddoes notrequireapprovalthroughaspecificbillpassedbytheGeneralAssembly.

Projects initiated through specific legislation. Projects initiated by theJudicial Branch and the Legislative Branch, as well as certain projectsinitiated in the Executive Branch, may be initiated by specific legislation.TheseprojectsarereviewedbytheCapitalDevelopmentCommittee,butarenot reviewed by OSPB and are not subject to the specific criteria OSPBrequires for project justifications and analyses in support of capitalconstructionrequests.

Whatworkwasperformedandwhatwasthepurpose?We completed the following steps for the analysis of the State’s processes forevaluatingrealestatecapitalprojects:

Read applicable State statutes with respect to planning, evaluating, andapprovingrealestatecapitalprojects;

Interviewed Office of the State Architect, Capital Development Committee,and OSBP staff to understand their roles and processes in evaluating realestatecapitalprojects;

Analyzed the processes used by OSPB and the Capital DevelopmentCommittee for capital construction project justifications, including anexampleprojectanalysis;

Interviewedstaffat theDepartmentofPersonnel&Administration, JudicialDepartment, and University of Colorado‐Boulder to understand how theyundertakerealestatecapitalconstructionprojects;

Analyzed project justifications for the four selected projects to understandwhether the assumptions and the analyses support the construction oracquisition decision. The four selected projects and their justifications,described indetail inChapter1,werepreparedby their respectiveowner‐agencies and included the following: (1) the Capitol Complex ParkingGarage—Department of Personnel & Administration; (2) the ProposedMixed‐Use Building—Department of Personnel & Administration; (3) the


Ralph L. Carr Judicial Center—Judicial Branch, and (4) the Institute ofBehavioralScienceBuilding—UniversityofColorado‐Boulder;and

Analyzedrealestatecapitalconstructionprocessesandevaluationtoolsusedby select other states, including Georgia, Utah, Massachusetts, Wisconsin,Virginia, California, Minnesota, Iowa, Maryland, Washington, Texas, andFlorida.

Thepurposeofourworkwas toanalyze theState’spracticesandpolicies forrealestate capital project acquisition and construction decisions. Our work did notinclude evaluating or opining on decisions to proceed with acquisition orconstructionprojects.Howweretheresultsoftheworkmeasured?OuranalysisoftheState’spracticesforanalyzingandevaluatingrealestatecapitalprojects consideredwhether project justifications and analyses: (1) are completeandtransparent,(2)includesupportanddocumentationformajorassumptionsandconclusions, and (3) capture costs over the life of the project. Based on ourexperienceanddiscussionswithagencypersonnel,capitalprojectjustificationsandanalysesshouldinclude:

Totallifecyclecostanalysis,thatis,includingthetotalandup‐to‐datecostsofconstructing, acquiring, operating, andmaintaininga facility over itsusefullife. These includepurchase,acquisition,andconstructioncosts;operation,maintenance, and repair costs; replacement costs; residual values afterresale, salvage, or disposal; finance charges; and non‐monetary benefits orcosts;

Assumptions (for example rental rates; building square footages; spacebackfill costs; controlled maintenance, operations, repairs, replacement,construction,andprojectmanagementcosts;amongothers)usedasthebasisof decision‐making which are clearly defined and supported by adequatedocumentationandmarketdatawheneverpossible;

Up‐to‐date analysisof the costs andbenefitsof all alternativeoptions (e.g.,comparingthecostsandbenefitsofbuying,building,orleasingtherequiredspace);

Analysisofprojectedorpromisedcostsavingsfromtheproject,whenusedto support thedecision,which is basedon appropriate assumptions and issupported by documentation that establishes a clear baseline for trackingandmeasuringthesavingsoncetheprojectiscomplete;

Mechanismsfor facilitatingongoingcommunicationbetweenall transactionstakeholders fromproject initiation to completion to assistwith validatingassumptions, identifying potential problems, and facilitating commitmentandbuy‐in;and

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Use of industry‐specific specialists to acquire expertise when needed,including expertise for preparing initial estimates or for reviewing projectassumptions.

Whatproblemdidtheworkidentify?Our evaluation of the State’s practices for justifying capital construction projectsfound inconsistent practices across branches of government, State agencies, andindividual projects. The evaluation also found instances where projects lackedcomplete and comprehensive analysis of project costs and assumptions beforeinitiation and approval by the Capital Development Committee and the GeneralAssembly.Specificallywefoundthefollowing:

Project justifications and analyses. For the Capitol Complex ParkingGarage, our analysis found that the Department of Personnel &Administration did not prepare a project justification and analysis. TheCapitol Complex Parking Garage was initiated by the Department ofPersonnel & Administration’s Executive Director at the time and wasauthorizedbytheGeneralAssemblythroughSenateBill04‐233.TheprojectwasnotreviewedorprioritizedbyOSPB.

Consideration of total lifecycle costs. For three of the four projectsevaluated (the Capitol Complex Parking Garage, Proposed Mixed‐UseBuilding, and Judicial Center), total lifecycle costs were not up‐to‐date ordocumentedintheprojectjustificationanalysis.

o ThefiscalnotefortheCapitolComplexParkingGaragedidnotinclude

any lifecycle costs beyond the estimated construction and financingcosts. Although the Capitol Parking Fund has been used to providecontrolled maintenance and repairs since construction, these costswerenotidentifiedupfronttosupportdecision‐making.

o The ProposedMixed‐Use Building did not include future controlled

maintenancecosts,ongoingoperationalcosts,orcostsforrenovatingor backfilling of space being vacated. As discussed later in thischapter, controlledmaintenance costsover the lifeof abuilding canbe significant. Including complete costs provides transparency andhelpsdecision‐makersevaluatethefullcostsofavarietyofoptions.

o The Judicial Center’s project analysis did not take into account the

costs of renovating and backfilling of space being vacated by theAttorneyGeneral’s offices at1525Sherman, a State‐ownedbuilding.Judicial Department staff report that renovation and backfill costs


were not available at the time. According to the Office of the StateArchitect,backfillingthe1525Shermanspacewillcost$3millionforplanning, design, build‐out, and relocation of the Department ofPersonnel & Administration into five vacated floors and certainLegislativeBranchagenciesintotwofloors.

Valid and complete project assumptions. The Judicial Center project

analysis did not include up‐to‐date assumptions for the amount of squarefeet the tenant agencies would ultimately be occupying. Specifically, wefound that although space estimates were included in the original projectjustification, several agencies increased their space needs after projectapprovalandduringthespaceplanningphase.Intheircurrentlocations,theJudicialDepartment,theJudicialBranchagencies,andtheAttorneyGeneral’sOffice together occupy a total of 255,145 rentable square feetwhile in thenew Judicial Center, these agencieswill occupy a total of 394,026 rentablesquarefeet.Asaresultofoccupyingadditionalspace,totalrentexpendituresfor these agencies will increase from about $4.5 million to $5.7 millionannually, a difference of $1.2million. It is to be expected that these StateagencieswouldoccupymorespaceinthenewJudicialCenter,sincemanyofthese agencies do not have adequate space for their staff and programs intheir current space. However, the project analysis should have includedupdatedsquarefootageandassociatedrentalcostforthevarioustenantsaspart of the project justification so that both decision‐makers and tenantagencieshadcompletespaceandcostestimatesavailableforreview.

Analysisofallpotentialoptions. Noneof the fourprojectsweevaluatedincluded a comprehensive assessment of alternatives to building. Such anassessment, in our experience, would typically include an up‐to‐date andcomprehensiveanalysisofthefullcostsofbuying,building,orleasingspacetosupportarecommendationtoproceedwithaspecificoption. AccordingtotheDepartmentofPersonnel&Administration,neitherbuyingnorleasingwereviableoptions for theCapitolComplexParkingGarage, so includingabuy‐build‐leaseanalysismaynothavebeenappropriateforthatproject.FortheJudicialCenter,ananalysisofbuy‐build‐leaseoptionswasperformedbyaconsultantseveralyearsbeforeprojectapproval;however,theanalysiswasnot updated and included as part of the project justification package. Theanalysis undertaken for the Institute of Behavioral Science Building at theUniversity of Colorado‐Boulder did include a brief discussion of programalternativestonewconstruction,butnottotheleveltypicallyundertakeninamorecomprehensiveevaluationofalternatives. Ideally,acomprehensivebuy‐build‐lease analysis provides a transparent presentation of total life‐cycle costs for each option, so that decision makers have completeinformation and the rationale supporting the recommended option.Recently,OSPBandtheOfficeoftheStateArchitecthavedevelopedcriteria

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for completing a buy‐build‐lease analysis for project justifications initiatedby Executive Branch agencies and reviewed by OSPB and the CapitalDevelopmentCommittee.

Substantiatedcostsavingsestimates. For the JudicialCenter, theprojectjustification and analysis lacked support for $60 million of projectedoperational cost savings. Specifically, the Judicial Department providedinformation to theGeneralAssemblyprojectingoperational cost savingsof$60million over 30 years from consolidating theAttorneyGeneral’sOfficeand JudicialBranchagencies intoone location. Theprojectionsanticipatedsavings in the following three areas: (1) $15million from reduced rentalcosts; (2) $15million from reduced utility costs; and (3) $30million fromconsolidatingandstreamliningJudicialBranchandAttorneyGeneral’sOfficeagencyoperationsandfunctions. Section(1)(f)(III)ofSenateBill08‐206,thelegislationwhichauthorizedtheconstructionofthenewJudicialCenter,statedthattheconsolidationofjustice‐relatedofficesintotheJudicialCenterwasexpected toachieveanumberof financialbenefits, includingachieving“greater programmatic efficiencies and decrease[d] operating costs byeliminating duplicative expenses resulting from multiple justice‐relatedoffice locations. The Judicial Department was unable to provide detaileddocumentation to support theassumptionsunderlying the$60million costsavingsestimate.Developmentofvalidcostsavingsassumptions,supportedbyadequatedocumentation, iskey toestablishingabaseline formeasuringandassessingcostsavingsonceconstructioniscomplete.

Communicationwithproject stakeholders, including end spaceusers.

FortheJudicialCenter,communicationwithprojectstakeholderscouldhavebeen improved. Specifically, Judicial Branch agencies and the AttorneyGeneral’sOfficereportedtheywerenotadequatelyinformedoftheimpactoftenantdecisionson the load factor andon their rental costsbeforeprojectapproval or final space planning began. The load factor,which representsadditional charges for commonareas, typically rangesbetween1.1 and1.2times thebaserent formostcommercialofficespace. Incontrast, the loadfactor for the JudicialCenter is1.43 times thebase rent, since thebuildingincludesmorecommonareasthanmostcommercialofficebuildings.Tenantagencies also reported that they did not receive complete information ontheirtotalproposedrentalchargesuntillastyear,wellafterconstructionhadstarted, and then only after receiving draft copies of their leases. As weunderstand, operating savings were discussed during the project approvalperiodbut agencies reported that specificdiscussionsonhowservices andoperationswouldbeconsolidateddidnotoccurpriortoprojectapproval.Asnoted above, operational efficiencies were critical components of theestimatedcostsavingsusedtojustifyapprovalforconstruction.


Wealsofoundthat,withtheexceptionofcapitalconstructionprojectscompletedatinstitutionsofhighereducation,capitalconstructionfundingrequestsaregenerallyprepared by agency personnel who have financial backgrounds, but lack specificcapitalconstructionexpertise.Additionally,mostStateagencies,withtheexceptionof institutions of higher education, lack required specialists to assist withdeveloping comprehensive capital constructionproject analyses and justifications.The JudicialDepartment, recognizing itsneed foradditionalexpertise tocompletethe planning and construction of the Judicial Center engaged, among others, theUrbanLandInstitutetoevaluatesiteoptionsandTrammelCrowtoprovideprojectmanagementservices.Whydidtheproblemoccur?The inconsistenciesweobservedappear to relate to: (1) the State’s decentralizedstructureforoverseeingcapitalplanninganddecision‐making,and(2)thelackofastatutory framework or governance structure requiring all agencies, regardless ofthe branch or agency initiating the project, to complete comprehensive projectjustifications for capital projects that include a complete lifecycle analysis or thatoutlines the factors agenciesmust include aspart of their up‐front capital projectevaluations.

Nopolicies,withtheexceptionofthosethatapplytoinstitutionsofhighereducationand are promulgated by the Colorado Commission on Higher Education, requireagencies toanalyze theongoingcostsofa capitalprojectover itsentireeconomiclife. By contrast, the General Assembly has required lifecycle cost analysis forenergy conservation projects: “Facility designs must take into consideration thetotallifecyclecost,includingtheinitialconstructioncost,thecost,overtheeconomiclife of the facility, of the energy consumed, replacement costs, and the cost ofoperationandmaintenanceofthefacility,includingenergyconsumption.”[Section24‐30‐1304(1)(d),C.R.S.]No statutory requirement or governance structure existsmandating that all Stateagencies submitting capital project requests, regardless of the branch, provide acomplete, up‐to‐date package, including documentation of valid market data tosupport their project assumptions and approvals for space needs, before fundingapproval. Additionally, no statute or policy requires agencies and branches toconsider and evaluate all possible options (buy‐build‐lease) when making orjustifying a space decision. Further, no statutory requirement exists requiring allcapitalprojects,regardlessofthebranch, toundergothesamelevelofreviewandprioritizationbytheCapitalDevelopmentCommittee.Finally,therearenostatutoryrequirements or policies requiring all State agencies, regardless of branch, toprovidecostsavingsprojectionsinsupportoftheircapitalprojectjustificationsthathaveareasonablebasisortoprovidedocumentationofthebaselineuponwhichthecostsavingswillultimatelybeassessed.

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Withoutmechanismstoconsistentlyevaluatekeycomponentsandassumptionsandcapturethefulllifecyclecostforeverycapitalprojectbeforerequestingapprovalforfunding,project justificationsprovidedtodecision‐makerswillnotbeadequate tosupportafundingdecision.Improving consistency among project justifications, establishing a governingstructure, and aligning Colorado’s framework for capital decision‐making wouldrequire actionby theGeneralAssembly. Specifically, theGeneralAssembly couldenact legislation setting forth the key elements, including total lifecycle costs andbuy‐build‐leaseanalyses,whichagenciesmustanalyzeand report inevery capitalconstructionprojectevaluation,regardlessofthefundingsourceormechanism.Forexample, the General Assembly could consider authorizing the Office of the StateArchitect to create standardized policies and project evaluation checklists thatrequire identification and analysis of key assumptions and total lifecycle costs.Anotheroptionwouldrequireeverycapitalproject,with theexceptionofprojectsinitiatedbyinstitutionsofhighereducation,toundergothesamelevelofreviewandprioritizationby theCapitalDevelopmentCommittee. Adopting theseapproacheswouldprovidemorecentralizationofcapitalprojectplanninganddecision‐making,consistentwith existingpractices inmanyother states. However,moving towardincreased centralization of capital project planning is a policy decision and thepurviewoftheGeneralAssembly.Outside of establishing a centralized framework outlining requirements for allcapitalprojects,thereareopportunitiesforOSPB,withtheassistanceoftheOfficeoftheStateArchitect,toimprovetheconsistencyandcompletenessoftheinformationincluded to support decision‐making for project justifications submitted byExecutiveBranchagenciesthroughOSPBandtheCapitalDevelopmentCommittee’sreviewprocess.Specifically:

Totallifecyclecosts.CurrentOSPBbudgetinstructionsforcapitalprojectsdo not require State agency project justifications to include costs forcontrolled maintenance and capital renewal expenses. OSPB does notinclude these costs because controlled maintenance and capital renewalprojects have a separate approval and funding process and operatingexpenses are paid for through agency operating budgets. However, thesecosts arepartof the total lifecycle costs for aproposedproject and canbesignificant. Additionally, OSPB budget instructions include a line item forrelocation costs; however, specific instructions or line items for capturingrenovation, retrofit, temporary lease costs, and backfilling costs are notincluded in the budget instructions. To provide a complete picture of thetotal costs formoving forwardwith a project, all of these costs should bepresented and evaluated as part of the project justification, regardless ofwhether separate processes exist for approving and funding someof thesecosts.


Tools for preparing project assumptions. Currently tools for assistingState agencieswithpreparingproject assumptions and identifying lifecyclecostsforcapitalprojectjustificationsarelacking.Forexample,norepositoryexists that maintains prior project evaluations and captures key projectassumptionsforusebyagencystaffindevelopingjustificationsandanalysesfornewcapitalprojects.Additionally,budgetinstructionsshouldbeclarifiedand expanded to require that project justifications include adequatesupporting documentation for all cost assumptions (e.g. feasibility reports,studies, and construction costs). Asnotedpreviously, the agency staff thatdevelop capital project justifications and analyses do not typically havecapitalconstructionexpertise.Currently, theStatereliesonstaffwithintheoversightagencies (OSPBandtheDepartmentofHigherEducation)aswellas staff supporting the Capital Development Committee, to ensure theappropriateness and consistency of project assumptions across projects.However, historical project evaluations along with benchmark data forvarious building operating and expense assumptions (e.g., rental rates,utilities and maintenance expenses, and construction costs) could bemaintained within a single repository and access provided to individualagenciesortheoversightagenciesforuseinpreparingandreviewingprojectevaluationsandjustifications.

Technical assistance. Most State agencies (with the exception ofinstitutions of higher education) appear to lack required specialists toprovide input on cost estimates and project assumptions for capitalconstructionandacquisitionprojects. TheOfficeoftheStateArchitectonlyhassixfull‐timeemployeeswithinthreeprogramareas(StateBuildings,RealEstate, andEnergyManagement), and isnot involved in thepreparationofproject evaluations unless requested. Identifying a pool of resources withspecialized expertise (either internal or third parties) that agencies canutilize as needed would help ensure that analyses are comprehensive innatureandutilizeconsistentassumptions.

Whydoesthisproblemmatter?Inconsistenciesinthecapitalconstructionprojectevaluationprocesscouldleadtoincorrect conclusions and have significant cost implications to the State. Forexample, omitting the ongoing cost of controlled maintenance from a projectanalysis, as was the case with the Proposed Mixed‐Use Building, results in anunderstatement of full lifecycle project costs and could potentially lead to futureoperationalfundingissues.Omittingthecostofrenovatingandbackfillingspaceinthe project analysis, as was the case with the Judicial Center project, alsounderstatesthefullcostoftheproject(asnotedpreviously,thecostsforbackfilling1525 Sherman are estimated to be $3million). An approved plan for backfilling

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including estimates of costs and resulting lease costs savings would have beenbeneficial. Complete and consistent analysis of the same components on everyprojectwouldalsogreatlyassisttheentitiesresponsibleforreviewingsuchprojects(OSPB, the Department of Higher Education, and the Capital DevelopmentCommittee) inevaluatingandprioritizingprojectsaswell asdrawingappropriateconclusionstosupportfundingrecommendations.

RecommendationNo.1:TheOfficeofStatePlanningandBudgeting (OSPB)shouldworkwith theOfficeofthe State Architect to improve the completeness and comprehensiveness of theinformation used to prepare capital project justifications and support decision‐makingby:

a. Revising capital budget instructions to require all project justifications toprovidea completeand transparentpresentationof total lifecycle costs forthe projects. Total lifecycle costs include, but are not limited to, costs forcontrolled maintenance, capital renewal, ongoing operations, renovation,retrofit,temporaryleases,andbackfillingspace.

b. Expandingrequirementsinthecapitalbudget instructionstoclarifythatallassumptionsincapitalprojectjustificationsmustbesupportedbyadequateandcompletesupportingdocumentation.

c. Considering development of a repository to capture major project

assumptions (e.g., common area space requirements andconstruction/operatingcostestimates) for futureusebyall stakeholders inpreparingandevaluatingcapitalconstructionrequests.

d. Evaluating thepotential for identifyingapoolof specialists (eitherexisting

Stateagencystaffor thirdparties)whichStateagenciescanresourcewhenpreparing their capital construction project justifications and fundingrequests.


OfficeofStatePlanningandBudgetingResponse:Agree.Implementationdate:May2013.a. OSPB concurs that its capital construction budget instructions can be

improvedwiththeinclusionofarequirementthatdepartmentsdescribethetotallifecyclecostsofanewcapitalpurchase.OSPBwillconsultwiththe Office of the State Architect and will include these elements in itscapitalconstructionbudget instructions fortheFiscalYear2015budgetcycle. It is anticipated that these instructionswill be published inMay2013.

b. OSPB concurs that its capital construction budget instructions can beimprovedwiththeinclusionofarequirementthatallassumptionsmustbesupportedbyadequatedocumentation. Itshouldbenoted,however,thatOSPBalreadyvalidatestheveracityofanyassumptionsprovidedbydepartments as part of its review process. OSPBwill consult with theOfficeoftheStateArchitectandwillincludetheseelementsinitscapitalconstructionbudgetinstructionsfortheFiscalYear2015budgetcycle.ItisanticipatedthattheseinstructionswillbepublishedinMay2013.

c. OSPB concurs that a searchable repository containing major projectassumptions couldprovebeneficial todepartments in theirpreparationof capital construction requests. It is possible, however, that thedevelopmentandpublishingofsucharepositorymayproveprohibitivelyexpensivewithin theOffice’sexistingappropriations. OSPBwillconsultwiththeOfficeoftheStateArchitectandotherstakeholderstoconsiderthe development of such a repository. If existing appropriations allow,this repository will be made available as part of OSPB’s next annualpublication of capital construction instructions, which will likely be inMay2013.

d. OSPB concurs that an available pool of specialistsmayprovehelpful todepartments as they develop capital construction requests. OSPB willconsultwith theOffice of the State Architect and other stakeholders tofurther evaluate the process by which these experts could be madeavailabletoStateagencies.Ifitisdeterminedthatthiswouldbebroadlyuseful, the process by which these experts may be contacted will beincludedaspartofOSPB’snextannualpublicationofcapitalconstructioninstructions,whichwilllikelybeinMay2013.

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OfficeoftheStateArchitectResponse:

Agree.Implementationdate:May2013.

a. TheOfficeoftheStateArchitectwillworkwithOSPBtorevisethecapitalbudget instructions to require all project justifications to include totallifecycleprojectcosts.

b. The Office of the State Architect will work with OSPB to expand therequirements in thecapitalbudget instructions toclarify thatall capitalprojectassumptionsaresupportedbyadequateandcompletesupportingdocumentation.

c. The Office of the State Architect will work with OSPB to consider the

applicability of and the resources required to develop a repository tocapture major capital project assumptions to be used by futurestakeholders.

d. The Office of the State Architect will work with OSPB to evaluate the

potential for identifying a pool of specialists as a resource for Stateagencies and institutions of higher education when preparing theircapitalconstructionprojectassumptions.

MonitoringandReportingCapitalConstructionCostEstimatesandCostSavingsOnce an Executive, Judicial, or Legislative Branch agency or institution of highereducation receives an appropriation or spending authority for its capitalconstruction project, the agency is responsible for monitoring the projectassumptionsandmanagingtheprojectagainsttheapprovedbudget.Dependingonthe agency and branch of government, several other State agencies may also beinvolvedinprojectoversightandtracking.Forexample:

Office of the State Architect – Personnel within the Office of the StateArchitect are responsible for capital construction administration forExecutiveBranchprojects (includingmost institutionsofhighereducation)inclusive of: solicitation and procurement of professional design andconstruction services; development of standard contract language;establishmentofprojectmanagementguidelinesincludingcostmanagement;and adoption and implementation of building codes and compliancerequirements.TheOfficeoftheStateArchitectmayprovideadvice,butitis


not responsible foroverseeingbudgetsor trackingproject assumptions foranyExecutive,Judicial,orLegislativeBranchagencies.

Office of the State Controller – Personnel within the Office of the StateController assist Executive Branch State agencies in complying with Statefiscal rules and in following generally accepted accounting principles withrespect to their capital construction projects. The Office of the StateControlleralsotracksandreportscapitalconstructionexpendituresmonthlyto the Capital Development Committee,with the exception of cash‐funded,non‐appropriated projects initiated by higher education institutions sinceJanuary1,2010.

Capital Development Committee – The Capital Development Committee

receives reports on the progress of all capital construction projects,regardless of the agency or branch of government, and typically tourscompleted capital construction and controlled maintenance projects in adifferentregionoftheStateeveryotheryear.

Whatworkwasperformedandwhatwasthepurpose?Wecompletedthe followingstepstoevaluatetheState’sprocesses formonitoringcapital construction projects and evaluating project assumptions against actualresults:

ReadapplicableStatestatuteswithrespecttotheongoingtrackingofcapitalconstructionprojects;

Analyzed documentation and interviewed Office of the State Architect,Capital Development Committee, and OSBP staff to understand theirresponsibilitiesandprocessesformonitoringcapitalconstructionprojects;

InterviewedDepartmentofPersonnel&Administration,JudicialDepartment,and University of Colorado‐Boulder staff to understand their roles inoverseeingcapitalconstructionprojectswithintheiragencies;

Analyzed ongoing and post‐completion analyses completed for the fourselectedprojectstoconfirmwhetherprojectassumptionsweretrackedandmonitored throughout theproject. The four selectedprojects,described indetail in Chapter 1, included the following: (1) Capitol Complex ParkingGarage—Department of Personnel & Administration; (2) Proposed Mixed‐UseBuilding—DepartmentofPersonnel&Administration;(3)RalphL.CarrJudicialCenter—JudicialBranch;and(4) theInstituteofBehavioralScienceBuilding—UniversityofColorado‐Boulder;and

Analyzed real estate capital construction monitoring processes and toolsused by selected other states, including Georgia, Utah, Massachusetts,

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Wisconsin, Virginia, California, Minnesota, Iowa, Maryland, Washington,Texas,andFlorida.

The purpose of our work was to analyze the State’s mechanisms for monitoringongoingcapitalconstructionprojectsandgaugetheprocessesusedtocompareup‐frontprojectassumptionsagainstpost‐closeoutresults.Howweretheresultsoftheworkmeasured?We evaluated the State’smechanisms formonitoringongoing capital constructionprojectsandcomparingup‐frontprojectassumptionsagainstpost‐closeoutresults.According to our industry experience, mechanisms for initiating and trackingprojectassumptionsshouldinclude:

Establishingmechanisms for trackingmajor lifecycle cost assumptions andmonitoring,tracking,andreportingontheseassumptionsthroughoutthelifeoftheproject;

Performing post‐mortem analysis at project close‐out of the assumptionsmade to justify theproject and to identify lessons learned to be applied tofutureprojects;

Establishing mechanisms for tracking capital project expenditures againsttheoriginalbudgetintotal,aswellasbetweenexpensecategories;

Developing a “business case” to support any major reallocation of fundsbetween line items or for reinvesting project savings into additionalconstructionupgradesorenhancements;

Implementingmechanismsfortrackingandreportingonanyprojectedcostsavings and assumptions against the baseline used to justify and supportprojectapproval;

Executingthekeyagreements,suchasleases,MemorandaofUnderstanding,and contracts, to ensure the estimates and assumptions supporting theprojectjustificationscanbesuccessfullyachieved;and

Engaging independent thirdparties separate from theprojectmanagementteam and other third‐party contractors involved in the project, to provideindependentmonitoring of large, complex projects and track expendituresandprojectassumptions.

Whatproblemdidtheworkidentify?Overall,wefoundinconsistentmechanismsfortracking,monitoring,andreportingonexpenditures,projectassumptions,andcostsavingsacrossagenciesandprojectsandinsomecases,thesemechanismsdonotappeartoalignwithindustrypractices.Wealsofoundthat,onthebasisoftheprojectsanalyzed,theStatedoesnotengagethirdpartiestoprovideindependentmonitoringoflargeconstructionprojectsand


thesampledagenciesdidnotalwaysperformpost‐mortemreviewstounderstandthevalidityofprojectassumptionsatprojectcloseout.Specifically:

Monitoringoftotalprojectlifecyclecostsandpost‐mortemreviewandreportingofmajorassumptionsandestimates.Weidentifiedinformationindicating total project lifecycle cost monitoring and performance of post‐mortem review for only oneof the fourprojects reviewed (the Institute ofBehavioral ScienceBuilding). According toUniversity of Colorado‐Boulderstaff,monitoringandreportingoftotalprojectlifecyclecostsandunderlyingassumptions are standard practices for capital construction projects at theUniversity.Additionally,Universitystaffreportthatpost‐mortemreviewsofcosts and assumptions occur at project closeout. As noted previously,neithertheJudicialCenternortheCapitolComplexParkingGarageprojectshad complete and updated total lifecycle costs available; the JudicialDepartmentdidnotprovideanupdatedtotallifecyclecostanalysisaspartofits project justification for the Judicial Center and the Department ofPersonnel&Administrationdidnotcompleteacapitalconstructionrequestand project justification for the Capitol Complex Parking Garage.Additionally, constructionwas never approved for theMixed‐UseBuilding;therefore,nomonitoringwasrequired.Further,theJudicialCenterisnotyetcomplete,sonopostmortemreviewwouldhaveyetoccurred.

Constructionexpendituremonitoringat the line‐item level. We foundinconsistencies in agency practices formonitoring expenditures for capitalconstructionprojects.Generally,mostagencystaffweinterviewedreportedthat they tracked expenditures at a higher level and focused primarily onensuringthattotalcostsdidnotexceedtheoverallprojectbudget. Further,staff reported that requests for change orders and movement of fundsbetween expense line items did not always undergo a comprehensivebusinesscaseanalysisandreviewprocessbeforeapproval. Foroneproject(theJudicialCenter),costsavingsonconstructionbondswereusedtooffsetchanges to the library space to provide for a Learning Center valued at$2million.TheLearningCenterwasnotcontemplatedaspartoftheoriginalproject design. The $2 million savings could not be used to repaybondholders and the most appropriate alternative was to reinvest thesavings inproject improvements. However,wedidnot identify a businesscaseanalysisthatwascompletedbeforereallocatingtheprojectsavingsintotheadditionratherthanreallocatingfundsforotherpurposes.Bestpracticesrequirepresentation,review,andapprovalofabusinesscaseanalysisbeforereinvesting project savings for new purposes not identified in the projectplan.Bycontrast,expendituresfortheCapitolComplexParkingGarageandthe InstituteofBehavioralScienceBuildingappear tohavebeenrigorouslytrackedagainstthebudgetandsignificantcontrolswereinplacetomonitorchangeorders andmovementof expendituresbetweenexpense categories.

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The Institute of Behavioral Science Building at the University of Colorado‐Boulder isarepresentativeexampleofgoodconstructionoversightandtheproject also evidenced an established “business case” review and approvalprocess for evaluatingwhether to reinvest cost savings fromone area intoupgradesorexpansions inotherareas. Asnotedpreviously, theMixed‐UseBuildingwasneverconstructed.

Mechanismstomonitorandtrackcostsavings. Theproject justification

for the Judicial Center included information projecting operational costsavingsof$60million. The JudicialDepartment,however, lackedadequatebaselinedataandmechanismsformonitoringandtrackingthiscostsavingsassumption. During our evaluation, we requested documentation from theJudicialDepartmentonitsprogressmadetowardsachievingthe$60millioncost savings. After the end of our field work, the Judicial Departmentprovidedthefollowinginformation:

Table4‐StatusofFirst‐Yearand30‐YearSavingsEstimates

fortheJudicialCenterasofOctober2012

Component

First‐YearSavingsEstimate

atProjectApproval(2008)

CurrentFirst‐YearSavingsEstimate

30‐YearSavingsEstimateat

ProjectApproval(2008)

Current30‐Year

SavingsEstimate

NotesRent

$2,900,000 $‐308,000 $15,000,000

$1,513,009

Marketrentalratesdidnotincreaseasexpected

Utilities 504,000 504,000 15,000,000 15,120,000

Tobedeterminedafterfirstyearofoperation

StaffandOperating

936,000 281,983 30,000,000

3,523,514

Securitycostshigherthananticipated

TOTAL $4,340,000 $477,983 $60,000,000 $20,156,523 Source:InformationprovidedbytheColoradoJudicialDepartment.

Thetableshowscurrentprojectedsavingsofapproximately$20million,orabout$40millionlessthantheinitialsavingsestimatedatprojectapproval.It is important to note that the Judicial Department also providedinformation to offset the reduced savings figures detailed above. Forexample,Stateagencytenantrentalcostswillbealmost$3.50persquarefeetlower than original estimates, due to lower construction costs, favorablefinancing, and larger than expected revenue from court fees. Further, theJudicial Department provided estimates of future lease cost avoidance of$163 million over 30 years, assuming market rental rates increase asprojected.


Executionofkeyagreements. Forthe JudicialCenter,keyagreementscrucial toachievingproject assumptionswerenotexecuted timely. Forexampleasoftheendofourevaluation,leaseswiththetenantagencies,whichwereproposedbytheprojecttodocumentspaceplansandcosts,werenot inplace. Sincethe leasecapturestheservicesthetenantswillreceiveand the rentandexpenses tenantswillbepaying,andsince therevenue from the lease payments is also an important component ofrepayment of the construction bonds, the lease agreement should havebeenexecutedandfinalizedverysoonafterprojectinitiation,wellbeforeany space or build‐out costs were incurred. As another example, wefoundthatnoMemorandaofUnderstandinghadbeenexecutedbetweenthe Judicial Branch and the tenant State agencies outlining agencycommitments toward consolidating operations, streamlining or sharingfunctions,orreducingstaffprior tobeginningconstruction. Formalizedagreements, executed early in project initiation, are crucial fordocumentingtheparties’understandingsrelatedtoachievingoperationalcostsavings.

Third‐partyresourcesforindependentmonitoringoflarge,complex

projects. None of the projects evaluated made use of a third‐partycontractor,separatefromtheprojectteamorothercontractedresources,to independently monitor construction projects, track budgets andexpenditures,andevaluateprojectassumptions.TheJudicialDepartmentdid engage third‐party contractors to assist with project planning andconstruction management; however, the contractors engaged did notinclude a third‐party independent monitor. For large‐scale projectsinvolving significant expenditures, an independent third‐party monitorcan be a cost‐effective option to help ensure adequate controls are inplace to track project assumptions and prevent cost overruns.Independentthirdpartiescanprovideanindependentassessmentofthedocumentation supporting change orders, increased space needs,reinvestment of project savings, and reallocation of expendituresbetweenlineitems.Additionally,anindependentthirdpartycanidentifyeffectivemechanismsfortrackingandmonitoringassumptionsandhelpmitigate limitedstaffresourcesatagencieswithspecificconstructionorproject management expertise. Large projects, such as the JudicialCenter,aregoodcandidatesforengaginganindependentthirdpartyforindependentprojectmonitoringandoversight.

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Whydidtheproblemoccur?Currently,nostatuteorpoliciesrequireagenciestoestablishstrongmechanismsforongoingmonitoringofcapitalconstructionprojects.Specifically,withtheexceptionof theColoradoCommissiononHigherEducation,whichhaspromulgatedpoliciesrequiringinstitutionstotrackandmonitorlifecycleprojectcostsduringtheentireeconomiclifeofaproject,therearenorequirementsspecifyingthatagenciesmusttrackandreportonlifecyclecosts.Additionally,therearenorequirementsforStateagenciestomonitorcapitalconstructionbudgetline‐items,makethebusinesscasebefore reallocating funds or reinvesting project savings, monitor and track costsavingsagainstbaselineestimates,orcompareup‐frontprojectassumptionsagainstpost‐closeoutresults. Further, therearenorequirementsestablishingcriteria forwhen independent thirdpartiesshouldbeengaged tomonitorand trackcomplex,high‐costconstructionprojects. Finally, therearenorequirements foragencies tocompleteapost‐mortemreviewofcapitalconstructionprojectsandreportlessonslearnedso that theState,asawhole, canbenefitand improve thedevelopmentofcostassumptionsforfuturecapitalconstructionprojects.The State Architect, who has authority to oversee and develop policies forconstructionprojectmanagementforExecutiveBranchagencies,lacksauthoritytoestablish policies requiring lifecycle cost and project assumption monitoring.Additionally, the Colorado Commission on Higher Education, which is a planningand coordinating body, lacks clear authority to require institutions of highereducationtoestablishspecificmechanismsfor tracking,monitoring,andreportingonprojectassumptionsortorequirepostmortemreviewandreportingofprojectresults.Further,duetostafffundinglimitations,mostStateagencies(withtheexceptionofinstitutions of higher education) appear to lack specialists to assistwith trackingandmonitoringmajorcapitalconstructionprojectsandassumptions.Ourresearchindicated that some other states (including Virginia, Maryland, Minnesota,California,andFlorida)overcomethelackofrealestateexpertiseattheagencylevelbyprovidingaccesstosuchpersonnelthroughanappropriatelystaffedcentralizedrealestatefunctionorbyutilizingthird‐partyindependentcontractors.Establishing requirements in legislation that State agencies track, monitor, andreportontheirprojectassumptionsbeyondtheinitialcapitalprojectevaluationandjustification process could provide valuable information to improve the capitalconstructionprocessstatewide.Forexample,resultsofpost‐closeoutevaluationsofprojects, including assessments of the validity of project assumptions and lessonslearned,couldbeincorporatedinthedatabasediscussedinRecommendationNo.1and used by other agencies when developing their capital construction requests,improvingtheinformationavailabletosupportdecision‐making.


The State Architect currently has authority to develop policies requiring Stateagencies to prepare project monitoring reports and thorough project closeoutevaluations, including written assessments of lessons learned, during the projectconstruction and administration phases. OSPB, with the assistance of the StateArchitect,couldworkwiththeGeneralAssemblytoproposelegislationauthorizingthe State Architect to establish tracking, monitoring, and reporting standards forlifecycle costs and project assumptions that apply to Executive Branch agencies,including institutions of higher education. The General Assembly, duringdeliberations, could then consider the policy decision ofwhether to extend thesemonitoringrequirementstoallagenciesstatewide.Whydoesthisproblemmatter?Tracking,monitoring, and reportingoncapital constructionprojectsmayhelp theStateunderstandhowlimitedavailablefundsareinvested.Ongoingoversightcouldalso help the State confirm that assumptions contained in the upfront projectjustificationsareconsistentwithactualexperienceonceprojectsarecompletedandoperational. Strong tracking and monitoring mechanisms could result in betterinformation to support future capital construction decisions and decrease thelikelihood of missing key assumptions or understating the estimates presentedduringtheprojectevaluationprocess.Inconsistenciesincapitalconstructionprojectmonitoringcouldresultinsignificantcost implications for the State. As an example, the expectation that cost savingswould occur through consolidating and reducing the operational costs of JudicialBranch agencies and the Attorney General’s Office was a major justification forapproving construction of the Judicial Center. As we have discussed, the JudicialDepartment could not provide an adequate basis for this savings estimate in theproject analysis and has not taken sufficient steps during the project to establishappropriate trackingmechanisms to ensure consolidationoccursand cost savingsare realized. Similarly, by not undertaking post‐closeout analyses on completedcapitalconstruction,includingevaluatingmajorassumptionsandestimatesutilizedintheprojectjustification,incorrectorinconsistentdecisionsmightoccuronfutureprojects. As noted previously, the State has appropriated a total of more than$2.1 billion to capital projects from all funding sources, excluding cash‐fundedprojectsat institutionsofhighereducationauthorizedsince January1,2010, fromFiscalYears2009through2013.CapitalconstructioninvestmentsshouldbesubjecttothesameleveloffocusedreviewasothertypesofinvestmentsmadebytheState.

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RecommendationNo.2:The Office of State Planning and Budgeting (OSPB) and the Office of the StateArchitect should improve the tracking, monitoring, and reporting on capitalconstructionprojectsforExecutiveBranchagencies,includinginstitutionsofhighereducation, by working with the Capital Development Committee to proposelegislation where appropriate. Specifically, the Office of State Planning andBudgetingandtheOfficeoftheStateArchitectshould:

a. Establish formal policies for the construction and administration phase ofcapital construction projects to ensure State agencies prepare projectmonitoring reports and thorough project closeout evaluations, including awritten assessment of lessons learned upon completion. Closeoutevaluations and written assessments regarding the construction andadministration phase of capital construction projects should be madeavailabletootherStateagenciesforreview.

b. Propose legislation outlining the criteria, length of reporting term, andcircumstances under which departments receiving capital constructionappropriations should conduct ongoing analysis and monitoring of fullprojectlifecyclecosts,projectassumptions,andcostsavingestimates.

c. Propose legislation outlining the criteria and circumstances under which

capital construction project funding should require engaging independentthird parties to provide lifecycle costmonitoring and tracking of complex,high‐costconstructionprojects.

OfficeofStatePlanningandBudgetingResponse:Agree.Implementationdate:May2013.a. OSPBconcursthatthoroughcloseoutevaluationsoftheconstructionand

administrationphasesofanyprojectshouldbecompletedandpublishedforreview.OSPBwillsupporttheOfficeoftheStateArchitectinensuringthattheseevaluationsarecompleted,andwillassist intheirpublicationasnecessary.

b. OSPBconcurs thatpost‐constructionmonitoringof specificprojects canhelp inform the best possible decisions concerning future capitalconstruction projects. OSPB will consult with the Office of the StateArchitect and the Capital Development Committee during the 2013Legislative Session to consider when such analyses would be mostappropriatetooccur.However,itshouldbenotedthatdepartmentsmay


be unable to complywith such requirementswithin existing budgetaryresources, and any bill proposed as part of this recommendation mayrequireadditionalappropriations.

c. OSPBconcursthatpost‐constructionmonitoringofcertainlargeprojects

may best be accomplished by an independent third party. OSPB willconsultwiththeOfficeoftheStateArchitectandtheCapitalDevelopmentCommittee during the 2013 Legislative Session to consider criteria forwhencapitalconstructionappropriationsshouldincludeacomponentforpost‐constructionanalysisbyathird‐partyvendor.However,itshouldbenoted that such a requirement will likely increase the total cost ofconstructionforsomefutureprojects.

OfficeoftheStateArchitectResponse:Agree.Implementationdate:May2013.a. TheOfficeoftheStateArchitectwillworkwithOSPBtoestablishformal

policies for State agencies and institutions of higher education for theconstructionandadministrationphaseofcapitalconstructionprojectstorequire project monitoring and closeout reports including writtenassessmentsoflessonslearneduponcompletion.

b. The Office of the State Architect will work with OSPB and the CapitalDevelopmentCommitteetoevaluatepossible legislation forestablishingcriteriaforStateagenciesandinstitutionsofhighereducationtoconductongoing analysis of project lifecycle costs, project assumptions, costsavings and length of reporting term. Contingent upon passage oflegislation,policieswouldbeestablished.

c. The Office of the State Architect will work with OSPB and the Capital

Development Committee to propose legislation for capital constructionproject funding to include the engagement of independent third partylifecyclecostmonitoringandconstructioncosttracking.Contingentuponpassageoflegislation,policieswouldbeestablished.

RecommendationNo.3:TheJudicialDepartmentshouldreporttotheCapitalDevelopmentCommitteeandthe JointBudgetCommitteeon itsmonitoringofprojectassumptionsand lifecyclecosts related to the Ralph L. Carr Judicial Center. This reporting could serve as apilot for the procedures outlined in Recommendation No. 2. Specifically, theJudicialDepartmentshould:

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a. BeginningNovember1,2013annuallyreportcurrentexpectedcostsavingsfrom the Judicial Center project due to the co‐location of justice‐relatedagencies and consolidation of various operational and administrativesupportfunctions.Thereportshouldincludeadequatesupportingdetailandanannualassessmentoftheactualcostsavingsachievedthroughoutthelifeoftheproject.

b. ProvideacurrentreportbyNovember1,2013onanysignificantunresolved

building issues, including the status of signed leases and Memoranda ofUnderstandingwiththevariousJudicialCentertenants.

c. ProvideafinalcloseoutevaluationbyNovember1,2013oftheprojecttothe

Office of the State Architect and the Capital Development Committee,including an assessment of lessons learned, with input from keystakeholders.

JudicialDepartmentResponse:Agree.Implementationdate:November2013.a. The Judicial Department agrees with the items proposed in

RecommendationNo.2regardingamorecomprehensivesetofstatewidepolicies for capital construction projects. We believe that the JudicialDepartment’s experience with the project can provide valuableinformation to other State agencies coordinating capital constructionprojects in the future. The Department will continue to work with alltenantsintheRalphL.CarrJudicialCentertopursueanyandallavailablecostsavingsandoperationalefficienciesthatmayberealizedasaresultof co‐locating agencies in the building. TheDepartmentwillworkwiththe other tenants to compile and present cost savings to the CapitalDevelopmentCommitteeandtheJointBudgetCommittee.

b. The Judicial Department agrees to compile any significant unresolvedbuildingissuesandpresentthemtotheCapitalDevelopmentCommitteeandtheJointBudgetCommittee.

c. The Judicial Department had planned on preparing a final closeout

evaluation and review of the project shortly after the building wascompletedandalltenantshadmovedin.Thisprocesswillincludeinputfromalltenants,consultants,andprojectmanagers.


RealEstateControlledMaintenanceandCapitalRenewalFundingStatute[Section24‐30‐1301(2),C.R.S.]generallydefinescontrolledmaintenanceascorrective repairs or replacement of assets in existing State‐owned buildings andother facilities supported by general funds. Once a building is acquired orconstructed, regularmaintenancemust occur over the useful life of a building tokeepitfunctioningproperlyandtoprotectagainstlifeandsafetyissues.TheOfficeoftheStateArchitectdefinesthreetypesofmaintenanceprojects:

OperationalMaintenance‐paid for from State agency operating budgets.Operational maintenance is intended to maintain facilities and theircomponentsystemstotheendoftheirexpecteduseful lifecycles. RequestsforoperationalmaintenancefundsaresubmitteddirectlytotheJointBudgetCommitteeaspartoftheagencies’annualoperatingbudgetrequests.

ControlledMaintenance‐paid for fromtheCapitalConstructionFundandapplies to “State‐funded” buildings as well as to academic facilities atinstitutions of higher education paid for by cash funds. Controlledmaintenanceprojectscost$2millionorlessandaddressfacilitycomponentsystemsattheendof theiruseful life. Projectscanbe“systemdriven”(forexample, when individual system parts, such as a heating or electricalsystem, needs replacement) or “maintenance driven,” (for example, whenfloortilesneedrepairorreplacement). Inaccordancewithstatute[Section24‐30‐1303(1)(k.5),C.R.S.],controlledmaintenancerequestsarereviewedandprioritizedbytheOfficeoftheStateArchitectpriortosubmissiontotheCapital Development Committee. The Office of the State Architect alsomaintainsasmallfundforemergencyfundingrequeststoaddresshealthandsafetyissues.

CapitalRenewal‐appliesto“State‐funded”buildingsaswellastoacademicfacilities at institutionsofhigher educationpaid forby cash funds. Capitalrenewal projects cost more than $2 million and address issues that havegrowninscopeandarebestaddressedbuilding‐by‐building.Capitalrenewalfunding requests are reviewed and prioritized by the Office of the StateArchitectpriortosubmissiontoOSPBforlegislativefundingconsideration.

Annually,theOfficeoftheStateArchitectinspectsallState‐fundedassets,evaluateseachassetaccordingtopredeterminedcriteria,andcategorizesandprioritizestheassetsaccordingtothefollowingstandards:

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Level1:criticalprojectsthatpredominantlyinvolvelife‐safetyissuesorlossofuse.

Level 2: projects that are predominantly causing operational disruptions,energyinefficiencies,orenvironmentalcontamination.

Level 3: projects that are predominantly containing differing levels ofdeterioration.

Circumstancespreventingthetimelyperformanceofrequiredfacilitymaintenancemay result in deferred maintenance. Deferred maintenance is the practice ofpostponingmaintenanceactivities,suchasrepairsonrealproperty infrastructure,orpersonalpropertysuchasmachinery,inordertosavecosts,meetbudget‐fundinglevels, or realign available budget monies. A policy of continued deferredmaintenancetypicallyleadstohighercosts,assetdeterioration,andpotentialhealthand safety implications. In the case of Colorado, sustained delays in addressingcontrolledmaintenanceissuescouldnegativelyimpactthevalueoftheState’sassetsandincreaserealestatecostsfortaxpayersgoingforward.Whatworkwasperformedandwhatwasthepurpose?We completed the following steps to evaluate the State’s processes formanagingcontrolledmaintenancecosts:

Read applicable State statutes regarding controlled maintenance includingthe policies and procedures by which agencies submit controlledmaintenancefundingrequests;

Interviewed Office of the State Architect, Capital Development Committee,and OSPB staff to understand their controlled maintenance review andprioritization processes prior to submission to the General Assembly forfundingconsideration;

Interviewed University of Colorado‐Boulder staff to understand theirprocesses for managing controlled maintenance costs on general‐funded,auxiliary,andResearchPropertyServicesbuildings;and

Read discussion of the State’s controlledmaintenance issues found withintheOfficeoftheStateArchitect’sAnnualReportdatedDecember2011.

The purpose of our work was to evaluate the State’s mechanisms for managingcontrolledmaintenancecosts.


Howweretheresultsoftheworkmeasured?We applied the following criteria to evaluate the State’s practices for managingongoing maintenance of State‐owned assets. Broadly speaking and in ourexperience, these criteria involve industry practices for identifying, evaluating,prioritizing, and funding controlled maintenance and capital renewal to mitigaterepairandreplacementcosts.Thecriteriaincludedpracticesto:

Identify,evaluate,andprioritizecontrolledmaintenanceandcapitalrenewalneeds;

Identify the dollars required to address current and future controlledmaintenanceandcapitalrenewalneeds;

Provide adequate funds to address current and future controlledmaintenanceandcapitalrenewalneeds;and

Optimizethetimingoffundingappliedtocontrolledmaintenanceandcapitalrenewalprojectstherebymitigatingcostsforrepairingandreplacingassets.

Whatproblemdidtheworkidentify?Overall,wefoundthattheOfficeoftheStateArchitectappearstohavepracticesforidentifying, evaluating, and prioritizing statewide controlled maintenance andcapitalrenewalneedsforbuildingsfundedwith“Statefunds,”whichareprimarilygeneral funds. Additionally,we foundthatStateagencies, including institutionsofhighereducationandOSPB,generallyappear tounderstandtheOfficeof theStateArchitect’s evaluation and prioritization processes and perceive them to beequitable. Further, we found that the Office of the State Architect’srecommendationsforprioritizationofcontrolledmaintenanceandcapitalrenewalprojectshavebeengenerallyadoptedbytheCapitalDevelopmentCommittee.TheOfficeoftheStateArchitectrecommendsappropriatingaminimumof1percentof the current replacement value of the State’s building inventory for controlledmaintenance on an annual basis to make critical repairs. The Office of the StateArchitect also recommends that an additional 1 to 3 percent of the currentreplacement value of the State’s building inventory be appropriated to capitalrenewalprojectsonanannualbasis.Inourexperience,theseappearinlinewiththevalueoftheStatesportfolio.Althoughstrongpracticesareinplaceintheareasnotedabove,webelievethattheState lacks adequate mechanisms for providing sufficient funding for controlledmaintenance needs, and that over time, the gap between available funding andcontrolledmaintenanceneedsmayresultinhigherrepairandreplacementcostsfortaxpayers.

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Fundingshortfalls forcontrolledmaintenancerequests isnotanewtopicbecausewe found references to the significant ongoing gap between budget requests andactualappropriationsforcontrolledmaintenanceintheOfficeoftheStateAuditor’sOffice of State Planning and Budgeting Performance Audit, September 1991.Morerecently, the Office of the State Architect’s AnnualReport dated December 2011indicatedthatofthe$927millionrecommendedforcontrolledmaintenancefundingover the past 15 years, only $480 million (equivalent to 52 percent of therecommended amount) was actually appropriated due to diminishing Staterevenues.Thechartbelow,preparedbytheOfficeoftheStateArchitect,showsacomparisonof controlled maintenance requests and appropriations for “State‐funded” assetsover the past 23 fiscal years and further illustrates the widening differentialbetween the two figures. The chart includes a comparison of controlledmaintenance funding against the Office of the State Architect’s standard, whichrecommendsthataminimumof1percentofcurrentreplacementvaluebesetasideannually tomaintainandmakecriticalrepairs.However, inFiscalYears2011and2012, controlled maintenance funding was only $10.1 million and $10.4 millionrespectively,orabout0.1percentofthecurrentreplacementvalueforState‐ownedandgeneral‐fundedbuildingsof$9.2billion.

Table5–HistoricalControlledMaintenanceAppropriation,ControlledMaintenanceRecommendation,vs.1%ofCurrentReplacementValue

Source:OfficeoftheStateArchitectDecember2011AnnualReport.

Goingforward,theStateexpectscontrolledmaintenancefundingissuestogrow.Asreferencedearlierinthisreport,theOfficeoftheStateArchitectestimatesthatjustunder half of Colorado’s owned buildings were built before 1971 and controlledmaintenance costs generally increase as buildings age. Further, the Office of theState Architect estimates that between September 2011 and January 2016,


controlled maintenance costs for State‐owned, general funded buildings andassociatedinfrastructurewilltotal$522million.Whydidtheproblemoccur?As we understand, the lack of adequate funding, revenue shortfalls, relatedconflicting budget pressures, and the need to limit spending has continued toexacerbate the State’s ongoing controlled maintenance issues. The GeneralAssembly has charged the Capital Development Committee with developing andmaking recommendations “concerning new methods of financing the State'songoingcapitalconstructionneedsandcontrolledmaintenance”byJanuary1,2016[Section2‐3‐1304(1)(g),C.R.S.].Historically, the State has funded controlledmaintenance and capital renewal byappropriating funds to the Capital Construction Fund annually to cover projectcosts.TheStatehasnotmadewideuseofothermechanisms,suchasincorporatingasurcharge tocover thecostof controlledmaintenance intorental rates forStatebuildings,toaddressitscontrolledmaintenancefundingneeds.GivenColorado’sagingownedrealestateportfolio,theStatewillneedtobecreativewith respect toalternative funding sources for controlledmaintenance. Onesuchapproach taken by the State of California for its owned real estate portfolio isincludinga lease surchargenot only for tenant improvementsbut also for specialrepairs. Reportedly, California’s Department of General Services, Real EstateLeasingandPlanningSection,isworkingtoincreasethepercentageofrentalfundsallocated to maintenance fees. The federal General Services Administration alsoincludes a charge for capital repairs funding within the rent it charges togovernment tenants in federally owned office buildings. Colorado should giveseriousconsiderationtoasimilarapproach.For capital construction projects going forward, Colorado should also considermandatory inclusions of funding mechanisms for future controlled maintenancecosts as part of the initial project approval process. As noted previously, theongoingoperatingbudgetfortheJudicialCenterincludedanallocationoftheleasecosts for controlled maintenance. Additionally, dependent on the source offinancing, theUniversityofColorado‐Boulder’sAuxiliaryEnterprisesandResearchProperty System buildings include a reserve for replacement as part of theiroperatingbudgets.Useofareserveforreplacementisalsoconsistentwithprivatesectorfinancingpracticesforcommercialbuildings.Further,theGeneralAssemblyauthorized a separate fund for maintenance for the State’s parking structures,including the Capitol Complex ParkingGarage. In our experience, these practicesare consistentwith thepracticesused in theprivate sector for funding controlledmaintenanceneeds.

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Whydoesthisproblemmatter?Without adequate mechanisms to address controlled maintenance and capitalrenewalneeds,fundingsuchneedsmaybecomechallengingasfuturemaintenancecosts increase and asset values decline. This is particularly true where an assetbecomesobsoleteandneedstobereplacedasopposedtobeingrepaired.Accordingtoa July2012 reporton theFederalBuildingsFundpreparedby theGovernmentAccountability Office, the “National Research Council of the National Academiesestimates that each $1 in deferred maintenance results in a long‐term capitalliabilityof$4to$5,andthatanaccumulationofdeferredinvestmentsoverthelong‐term may be significantly greater than the short‐term savings that public‐sectordecision‐makerswereinitiallyseeking.”Without significant controlled maintenance and capital renewal investments,Colorado’sagingownedbuildingportfoliowill likely face significant futurecapitalneedsbeyondtheOfficeoftheStateArchitect’sfive‐yearestimateof$522million.Ifdeferred,thesecostscouldexceedover$2billion. Furthermore,shouldabuildingbecomeobsoleteandneedtobereplacedwiththirdpartyleases,thecoststoStatetaxpayerswilllikelybeexponentiallyhigherasmarketrentalratesareprojectedtogrowwell inexcessof inflationover time.Asoneexample,PropertyandPortfolioResearch, Inc.,acompanythatprovidesrealestateresearchandportfoliostrategyservices to the real estate community in the United States and internationally,estimatesofficebuildingrentalrategrowthintheDenverCentralBusinessDistrictwill average 4.81 percent annually between the 2012 Fourth Quarter and 2016FourthQuarter.By contrast, inflation isprojected toaverage2.2percentannuallyoverthesametimeperiodaccordingtotheFederalReserveBankofPhiladelphia.

RecommendationNo.4:The Office of State Planning and Budgeting (OSPB) and the Office of the StateArchitect should work with the Capital Development Committee to proactivelyidentify potential solutions for addressing increasing controlled maintenancefundingneedsbyconsideringproposinglegislationtoaddressthefollowingoptions:

a. Implementing a lease surcharge for State tenants to pay for controlledmaintenance.

b. Requiring all new capital construction projects to include a fundingmechanism for controlled maintenance as part of the approved operatingbudgets.


OfficeofStatePlanningandBudgetingResponse:

Agree.Implementationdate:May2013.

a. OSPBconcursthattheStateofColoradomaybenefitbytheintroductionofamorestableandpredictablerevenuestreamforthecontrolledmaintenanceneedsofState‐ownedbuildings.Assuch,OSPBwillconsultwiththeOfficeoftheStateArchitect, theCapitalDevelopmentCommittee, andotheraffectedLegislative committees during the 2013 Legislative Session to consider theefficacy of a Capitol Complex lease surcharge to generate revenue forcontrolled maintenance on existing State‐owned buildings. It should benoted, however, that such a surcharge would likely cause a need forincreased appropriations in all departments’ Leased Space and CapitolComplexLeasedSpacelineitems.

b. OSPBconcursthattheStateofColoradomaybenefitbytheintroductionofa

morestableandpredictablerevenuestreamforthecontrolledmaintenanceneedsofState‐ownedbuildings.Assuch,OSPBwillconsultwiththeOfficeoftheStateArchitect, theCapitalDevelopmentCommittee, andotheraffectedLegislative committees during the 2013 Legislative Session to consider thedevelopmentofanongoingfundingmechanismtogeneraterevenueforthecontrolledmaintenanceneedsofnewcapitalconstructionprojects.Itshouldbe noted, however, that any such mechanism would likely increase theongoingcostsassociatedwithnewcapitalconstructionprojects.

OfficeoftheStateArchitectResponse:Agree.Implementationdate:May2013.a. The Office of the State Architect will work with OSPB and the Capital

DevelopmentCommitteetoevaluatepossiblelegislationtoimplementaleasesurcharge for State tenants to pay for controlled maintenance. Contingentuponpassageoflegislation,policieswouldbeestablished.

b. The Office of the State Architect will work with OSPB and the CapitalDevelopment Committee to evaluate possible legislation to require Stateagenciesandinstitutionsofhighereducationtoincludeafundingmechanismfor controlled maintenance in their capital construction project requests.Contingentuponpassageoflegislation,policieswouldbeestablished.

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Long‐TermRealEstatePlanning

Long‐term,or“master”planningtypicallyinvolvesacomprehensiveanalysisofthefunctions and purposes of government buildings; analyzes issues of facilitydurability both technically and financially; identifies opportunities for co‐locatingservices and programs; evaluates lease versus ownership options; identifiesopportunitysitesandscenariosforexpansion;andprovidesimplementationplans,including agency plans, leasing plans, and financing alternatives. Comprehensivemasterplanningprovidesaframeworkfordecision‐makingandhasbeenshowntomaximize the value of assets, decrease conflicts for limited funding, and reducefacilitycostsinbothpublicandprivatesectors.Whatworkwasperformedandwhatwasthepurpose?ToevaluatetheState’slong‐termrealestateplanningprocesses,wecompletedthefollowing:

ReadapplicableStatestatuteswithrespecttorealestatespaceandfacilitiesplanning;

Interviewed Office of the State Architect, Capital Development Committee,and OSPB staff to understand the State’s prior and current efforts withrespecttomasterplanning;

Interviewed University of Colorado‐Boulder staff to understand how theyundertakecapitalconstructionandfacilitiesplanningandalsoreviewedtheirmasterplanningdocuments;

ReadandanalyzedtheDepartmentofPersonnel&Administration’sCapitalConstruction Request dated July 2011 for an Updated Capitol ComplexMasterPlantobecompletedinFiscalYear2013;

ReadtheStateofColoradoStrategicRealEstatePlandatedMarch2011; Read the Colorado Judicial Heritage Complex Redevelopment Opportunities

reportissuedbytheUrbanLandInstitutein2005;and Readandanalyzedlong‐termplanningprocessesofselectedstatesincluding:

Georgia, Utah, Massachusetts, Wisconsin, Virginia, California, Minnesota,Iowa,Maryland,Washington,Texas,andFlorida.

ThepurposeofourworkwastoevaluatetheState’slong‐termrealestateplanningprocesses.


Howweretheresultsoftheworkmeasured?Weapplied the followingcriteria toanalyze theState’smechanisms for long‐termreal estate planning. Broadly speaking and in our experience, these criteriarepresent accepted industry practices in the public and private sectors. Thesecriteria also reflect practices in use by other states with long‐term real estateplanningprocesses(forexample,Washington, Iowa,Virginia, Idaho,NorthDakota,andTexas).Thepracticesinclude:

Developmentofacomprehensivephysicalmasterplanthataddressesissuessuchas landuse, facilityconstructionandrenovation,spaceutilizationandneeds, parking, security, grounds maintenance and use, pedestriancirculation,sustainabilityissues,financingoptions,andqualitystandards;

Regularupdatingofthemasterplantoreflectchangingneedsandpriorities;and

Rigorous application of themaster plan to guide real estate planning anddevelopmentdecisions.

Whatproblemdidtheworkidentify?Overall we found that, with the exception of institutions of higher education, theStategenerallylacksacomprehensivemechanismforlong‐termplanning,suchasamasterplan,tomaximizethevalueofitsrealestateassets,reducefacilitycosts,andsupport funding decisions. The State’sStrategicRealEstatePlan contains certainelementsofamasterplan;however it isprimarily focusedonspaceutilization.Assuch, it does not focus on broader concepts such as land use, parking, security,grounds maintenance and use, pedestrian circulation, sustainability issues, andfinancingoptions.Furthermore,itdoesnotaddressqualitystandardswithrespectto building renovations, which could result in poor work environments foroccupants, ongoing maintenance demand, high‐energy usage, and declining assetvalues.AlimitedmasterplanthatfocusedonspaceutilizationintheCapitolComplexwascompleted by Pouw & Associates, Inc. and Geisler Smith Associates, Ltd. undercontractwith theOfficeof theStateAuditor in1989butneverupdated. InFiscalYear 2002, the General Assembly appropriated $1 million in funds for acomprehensiveplanbutthefundswerede‐appropriatedinSeptember2001duetobudgetshortfalls.In2008,$1.4millioninfundswereredirectedfordevelopmentofa Capitol ComplexMaster Planbut afterworkhad started, nearly all of the fundswerede‐appropriatedin2009duetoStatebudgetshortfalls.Statute [Section 23‐1‐106 (4), C.R.S.] requires institutions of higher education todevelopmasterplans to guide their capital construction anddevelopment efforts.

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Facilities personnel at the University of Colorado‐Boulder provided us with theUniversity’s 10‐year master plan. The master plan includes discussion andevaluationoftheUniversity’songoingrealestateneedsandisupdatedannuallytoreflectrecentchanges.TheUniversityalsopreparesarollingfive‐yearcapitalplanaspartofitsongoingspacemanagementefforts.Therollingfive‐yearcapitalplanisalsoupdatedannuallyandincorporatesrevisionstothe10‐yearmasterplan,whenneeded,toaddresschangesintheUniversity’spriorities.Institutionsofhighereducationarerequiredtoadheretotheirmasterplansandusethemtoguidetheirdevelopmentdecisions.Inaccordancewithstatute[Section23‐1‐106 (4), C.R.S.], the Colorado Commission on Higher Education, through theDepartment of Higher Education, reviews all capital construction requests atinstitutionsofhighereducationtoensureconsistencywithfacilitymasterplansandprogram plans. We found that the construction of the University of Colorado’sInstituteofBehavioralScienceBuildingwasaneffectiveexampleoftheuseoflong‐termmasterplanningforguidingdevelopmentdecisions.Specifically,theInstituteofBehavioralScienceBuildingwasconstructedonalongstandingdesignatedsiteintheGrandviewsectionofBoulderthathadbeenextensivelyevaluatedforthistypeofusethroughthemasterplanningprocess.Whydidtheproblemoccur?Theabsenceofmechanismsforlong‐termrealestateplanningintheStateappearstoresultfromanumberoffactors.

First,leadershipchangesintheExecutiveBranch(whennewgovernorsareelected)andmembershipchangesintheGeneralAssemblyandontheCapitalDevelopmentCommittee(whennewmembersareelectedandothermembersleaveduetotermlimits) create a shifting landscape of funding priorities. As a result, real estatedecisionssometimesoccurwithoutalong‐termview.Second,theStatehasnotmadefundingavailableforundertakingamasterplanningprocess. As previously noted, the State has twice de‐appropriated funding forcompletionofaCapitolComplexMasterPlan.Lackofavailableresources,includingaccess to real estate specialists, is anothermajor reasonwhy the State lacks realestateplanningcapabilities. While theDepartmentofPersonnel&AdministrationandtheOfficeoftheStateArchitectarehighlysupportiveofcompletionofamasterplan for theCapitol Complex area, theOffice only includes six full‐timepersonnelacross all three of its program areas (State Buildings, Real Estate, and EnergyManagement). In contrast, the Department of Facilities Management at theUniversity of Colorado‐Boulder includes 24 personnel including planning, design,construction,andfacilitiesoperationspecialists.


Third,asidefromfundingissues,thereisnostatutoryrequirementfortheStatetocompletearealestatemasterplanattheStatelevelorwithintheCapitolComplexarea. Further, there isnostatutoryrequirement thatcapital constructionprojectsalign or comply with master planning documents. By contrast, individual Stateagenciesarerequiredtomaintainfacilitiesmasterplansandnocapitalconstructionmay commence except in accordance with an approved facilities master plan.Similarly,inaccordancewithstatute,theColoradoCommissiononHigherEducationrequires individual institutions to completeupdatedmasterplansevery tenyearsandanyspacedecisionsmustalignwiththeexistingmasterplans.Theotherstatesweevaluated(Washington,Iowa,Virginia,Idaho,NorthDakota,andTexas)appearto use their master plans to support decision‐making around spaceacquisition/constructiondecisions.

Establishing a statutory requirement for a real estate master plan, includingrequiring all capital construction projects to align and comply with the masterplan—similartothestatutoryrequirementsfortheColoradoCommissiononHigherEducation and institutions of higher education—could assist in overcoming theseinherentprocessdeficienciesandreducecoststotaxpayersoverthelongterm.Whydoesthisproblemmatter?Without an effective long‐term real estate planningmechanism, the State lacks astable framework for guiding decision‐making related to maintaining, upgrading,buying, leasing, or selling real estate assets. Additionally, the State is not able tomaximizethevalueofitsrealestateassets,stretchitslimitedfundingavailability,ordecreasethe likelihood forconflictsand isolateddecision‐making. ImplementationofamasterplanningprocesswillallowtheStatetoworktowardsaddressingtheseissues while establishing a process for projects to be evaluated, based on theirmerits,againstanobjectivesetofcriteriawithinanexistingplanningdocument.Thelackofamasterplan,particularlyfortheCapitolComplexarea,couldresultinthedevelopmentofprojectsinisolationwithoutdueconsiderationoftheirlonger‐term impacts. The development of the Capitol Complex Parking Garage is anexampleofsuchaproject. TheCapitolComplexParkingGaragewasdevelopedonprime State‐owned real estate on a high‐profile site located at Lincoln Street andEast14thAvenueintheDenverurbancore.GiventhescarcityofState‐ownedland,the State should have a long‐term view of its real estate development needs toachievehighestandbestuseofitsscarcelandresources.Similarly, absent a master plan, the State lacks a solid framework for makingefficientuseofbothitsownedandleasedspaceorforidentifyingpotentialsitesforco‐locatingagencies in theCapitolComplexarea. TheStatecurrentlyhasover26privatesectorleasescomprising660,870squarefeetandspendsover$11millioninleasecostsannuallyindowntownDenverbuildingslocatedadjacenttotheCapitol

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Complex.Withoutacomprehensiveplanningdocumenttoidentifypotentialsitesforco‐location,opportunitiestoreduceleasecostscannoteasilybeevaluated.RecommendationNo.5:The Office of State Planning and Budgeting (OSPB) and the Office of the StateArchitect should work with the Capital Development Committee to develop aframeworkforcreatingalong‐termrealestatemasterplanfortheStateby:

a. SeekingfundingtocompleteamasterplanfortheCapitolComplexinclusiveofspaceneedsandusagerequirementsaswellasbroaderconceptssuchasland use, parking, security, grounds maintenance and use, pedestriancirculation, sustainability issues, and financing options. The master planshould also address quality standards with respect to proposed buildingrenovations.

b. Considering proposing legislation requiring all real estate‐related capitalrequests be evaluated against an approvedmaster plan, similar to existingstatutory requirements for the Colorado Commission on Higher Educationandinstitutionsofhighereducation.

OfficeofStatePlanningandBudgetingResponse:Agree.Implementationdate:September2013.a. OSPBconcursthattheexistenceofamasterplanfortheCapitolComplex

would lead to better decisions concerning the renovation and potentialconstructionofnewspaceforStateoperations.Inafuturebudgetcycle,OSPB will work with the Office of the State Architect and the CapitalDevelopment Committee to propose funding for such a master plan,contingentonavailablerevenuesfortheproject.

b. OSPBconcursthat,ifamasterplanwerefundedandcompleted,boththeGovernor and the Legislature should evaluate all construction requestsrelatedtorealestateagainstsuchaplan.IntheeventthatOSPBsubmitsarequestforaCapitolComplexmasterplan,itwillworkwiththeOfficeofthe State Architect and the Capital Development Committee to proposecompanion legislation concerning the Plan’s role in the evaluation offundingforrelatedconstructionprojects.


OfficeoftheStateArchitectResponse:Agree.Implementationdate:September2013.a. The Office of the State Architect will work with OSPB and the Capital

DevelopmentCommitteetoevaluatepossiblelegislationforamasterplanfor the Capitol Complex. Contingent upon passage of legislation, themasterplanningwouldcommenceimmediately.

b. The Office of the State Architect will work with OSPB and the CapitalDevelopment Committee to evaluate possible legislation to require allreal estate related capital requests be evaluated against an existingapproved master plan. Contingent upon passage of legislation, policieswouldbeestablished.


MonitoringLeaseOperatingExpenses

Chapter3

DuringCalendarYear2011,theStatepaidtotalrentof$48.9millionfor419in‐placeleases held by 21 State agencies and institutions of higher education.Reimbursement of the landlord’s operating expenses is a key component of theState’srentexpense.Operatingexpensesaretheexpendituresincurred(andpaid)bythelandlordandreimbursedbytheStateagencytenanttomaintainandoperatetheproperty.Operatingexpensestypicallyincludecostsrelatedtoutilities,servicecontracts,maintenance,management,security,andinsurance.

According to statute [Section 24‐30‐1303, C.R.S.], the Office of the State Architectwithin the Department of Personnel & Administration has responsibility foroverseeingandapprovingleasingandrealestatetransactionsforStateagencies.Intheperformanceof theseduties, theOfficeof theStateArchitecthas implementedthe State’s Centralized Leasing Policy, as established through the Governor’sExecutiveOrderD01603.Thispolicy“willensureoptimumuseofState‐ownedandleased space” and requires that Executive Branch departments, with a fewexceptions noted previously, use one of the following three standardized leaseagreementswhenprocuringleasedproperty:

Gross Lease Agreement (“Gross Lease”) – the most basic form ofcommercialrealestateleaseagreement,wherebythetenant’srentpaymentcoversall of thebuilding'soperatingexpenses, includingbutnot limited toutilities, service contracts, maintenance, management, security, andinsurance.

BaseYearLeaseAgreement(“BaseLease”)–amodifiedformofthegrossleaseagreement,whereby thetenant’s rentpayment includesanadditionalamounttocovertheoperatingexpensesthelandlordexpectstoincurinthebase year (typically the first year) of the lease. After the first year, thetenantpays for any increases in operating expenses over the amountincluded in the base year. The landlordperforms andprovides the tenantwithoperatingexpensereconciliationsannuallytodocumenttheincreaseordecreaseinoperatingexpensesineachsubsequentyearafterthebaseyear.

TripleNetLeaseAgreement(“NNNLease”)–a leaseagreementwhereby

thetenantpaysforall(oritsproportionateshareof)theoperatingexpensesof the property each year. Similar to the base year lease, the landlordprovides the tenant with operating expense reconciliations annually to

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determineiftheoperatingexpensespaidbythetenantduringtheprioryearequaltheoperatingexpensesactuallyincurredbythelandlord.

In accordancewith theCentralizedLeasingPolicy, theOffice of the StateArchitecthas contracted with a real estate contract broker to assist State agencies inidentifyingleasedspaceandnegotiatingrentalterms.Oncetheagencyexecutestheleaseagreementwiththelandlord,theagencyisresponsibleformanagingthelease,makingrentpayments,reviewingoperatingexpensereconciliationstatements,andworkingwith the landlord to resolve issues thatmayariseduring the termof thelease.AspartofourperformanceevaluationandatthesuggestionoftheOfficeoftheStateArchitect,weanalyzedtheState’sleaseadministrationpractices,including(1)Stateagencyoversightofoperatingexpenses,(2)themanagementofleaseadministrationservices provided by the State’s contract broker, (3) a comparison of thestandardized lease provisions with recognized industry practices, and (4) thetechnical assistance provided by the Office of the State Architect to assist Stateagencieswithmanagingtheleaseobligations.

TheOfficeoftheStateArchitect’suseofanoutsidecontractbrokertoidentifyandnegotiate leased space for State agencies appears consistent with our experiencewith industry practice. We identified areas, however,where lease administrationpracticesandcontractprovisionscouldbestrengthenedtomitigatetheriskofleasepaymenterrors,asdiscussedbelow.

LeaseAdministrationOncethecontractbrokerhasassistedStateagencytenantswith identifying leasedspace and negotiating lease agreements, State leases are administered through adecentralizedprocess. Asnotedabove,agenciesareresponsibleforadministeringtheir own leases once the lease agreements are executed. Lease administrationduties include monitoring and reviewing the operating expenses charged by thelandlordtoensureStateagencytenantsdonotpaymoreinoperatingexpensesthanrequired.UndertheprovisionsoftwooftheState’sstandardizedleaseforms—theBase Lease and the NNN Lease—State agencies are required to reimburse thelandlordforalloraportion(dependingontheagencies’percentageofoccupancy)oftheoperatingexpensesincurredatthepropertyaspartofthetotalrentpaid.Eachyear,thelandlordsendsthetenantastatementthatdetailstheoperatingexpensesincurred during the prior year, reconciles the operating expenses paid with theoperatingexpensesactuallyincurred,andspecifiestheamountduefromthetenantin the subsequent year to cover any operating expense increase. If the tenantwishes to question the operating expenses outlined in the statement, the tenantmustnotifythelandlordofitsinteresttocontesttheoperatingexpenseincreaseand


triggeran independent inspectionwithin the “leaseauditwindow”outlined in thelease.The“leaseauditwindow”undertheState’sBaseandNNNLeaseislimitedto30days.Whatworkwasperformedandwhatwasthepurpose?We analyzed certain operating expense rental obligations and administrativeoversightprocedures toassist theStatewith itsefforts to reduce the riskof leaseoverpayments. We performed lease inspections of the operating expense rentalobligations incurred during Calendar Year 2011. For this sample, operatingexpenses totaled $908,100. To complete our work we performed the followingprocedures:DesktopInspections‐Weperformedhigh‐levelinspectionsonCalendarYear2011operatingexpenses for the following sampleof eight leaseholdswithin theState’sleaseportfolio:

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Table6‐ DeskInspection SampleStateAgenciesandInstitutionsofHigherEducation

forActiveLeasesduringCalendarYear2011

Agency

Address

BaseYear2

LeaseType

LeaseSquareFootage

TotalRentExpenses

CalendarYear2011

OperatingExpensesCalendarYear20111

DepartmentofRegulatoryAgencies

1560BroadwayinDenver,CO

2006

Multiple(BaseYear,Gross,andNNN) 160,325 $2,664,329 $135,905

DepartmentofLaborandEmployment

63317thStreetinDenver,CO

2005

BaseYear 172,240 $2,841,960 $345,324

FrontRangeCommunityCollege

2121and2190MillerDriveinLongmont,CO

n/a

NNN 117,106 $1,210,876 $144,007

Governor’sOfficeofInformationTechnology

601E.18thAve.inDenver,CO

2009

BaseYear 59,220 $886,787 $16,443

DepartmentofRevenue,TaxAuditandComplianceDivision,FieldAuditUnit

720S.ColoradoBlvd.inDenver,CO

2009

BaseYear 16,339 $293,122 $1,964DepartmentofCorrections(DivisionofAdultParole,CommunityCorrections,andYouthfulOffenderSystem)

940BroadwayinDenver,CO

2010

BaseYear 28,600 $461,675 $129,517ColoradoStateUniversitySystem(CSUOnlinePlus)2


2010and2012

BaseYear

22,007 $297,558 $5,997

DepartmentofPersonnel&Administration


2005

BaseYear 64,310 $1,036,999 $128,943

TOTAL 640,147 $9,693,306 $908,100Source:OfficeoftheStateArchitectAnnualReport datedDecember2011.Notes:1DeloitteFASanalysisof2011operatingexpensestatementsforrespectiveleaseholds.2TwobaseyearsaretheresultoftwoseparatelyexecutedleasesforCSUOnlinePlus.

We performed the high level inspections to analyze the general accuracy of theoperatingexpenseschargedbya landlord to the tenantataproperty.Weappliedour industry experience andunderstandingof commercial real estatepractices toanalyze the lease documents and landlord‐provided annual summary operatingexpense invoices and compared the analysis with the lease requirements andmarketbenchmarkingdata.Field Inspections – We performed a field inspection on Calendar Year 2011operatingexpensesfortwoleaseholdsat63317thStreetinDenver,Colorado.The


two leaseholds included the Department of Labor and Employment’s leasedpremisestotaling172,240rentablesquarefeetandtheDepartmentofPersonnel&Administration’s leased premises totaling 64,310 rentable square feet. Theseleaseholds were selected because (1) the agencies had an unexpired contractualright to inspect the landlord’s books and records, and (2) the agencies’ operatingexpense rental obligations totaled $474,267, or 52 percent of the total operatingexpensesinoursample.Afieldinspectioninvolvesanin‐depthonsiteinspectionofthe books and records of the operating expenses of the property. Typically, thisincludesadetailedinspectionofthegeneralledgers,supportinginvoicesandworkorders, and landlord building vendor contracts, as well as an evaluation andvalidation of significant calculations and estimates used by the landlord indeterminingthefinaloperatingexpenserentalobligationchargedtothetenantsoftheproperty.Interviews‐Weconductedinterviewswith:(1)leaseadministrationstaffatfiveoftheeightsampledagencies (theDepartmentsofLaborandEmployment,Revenue,and Personnel & Administration, CSU Online Plus, and Front Range CommunityCollege); (2) the State’s real estate contract broker; and (3) personnel from theOfficeoftheStateArchitect. WeconductedtheseinterviewstoanalyzetheState’slease administration practices, including oversight of operating expense rentalobligations,managementanduseofservicesprovidedbytheState’scontractbrokeras they relate to maintaining files and controls over operating expenses, andassistanceandoversightofoperatingexpensemanagementprovidedbytheOfficeoftheStateArchitect.ThepurposeofourworkwastoevaluatewhethertheState’spracticesconformtocommercial real estate industry practices andwhether the practices identify andcorrectpotentialoverpaymentandunderpaymentofleaseoperatingexpenses.Howweretheresultsoftheworkmeasured?In accordance with our experience with commercial real estate industry leaseadministrationpractices, tenantagenciesshouldperformtimelyannualreviewsoftheiroperatingexpensereconciliationstatementsandfollowupwiththeirlandlordon any expenses that appear questionable, unsubstantiated, or inappropriate.Specifically,tenantagenciesshould:

Performreviewsoftheiroperatingexpensedetailannually,well inadvanceoftheexpirationofthe“leaseauditwindow.”Thepurposeofthesereviewsis to ensure that: (1) the operating expense obligation generally complieswiththerequirementsinleaseprovisions;(2)thecalculationsprovidedareaccurate;and(3)increasesinoperatingexpensecomponentsareconsistentwith historical trends. Historical trends are year‐to‐year and line item‐to‐

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lineitemcomparisonsagainstprioryearexpensesandexternalbenchmarks.Additionally,reviewsshouldincludeinspectionofthebaseyearexpensesofanysizablelease,whichisestablishedbythelandlordattheconclusionofthefirstyear, toensurethecomparabilityandconsistencyof theseexpenses infutureyears.

Follow‐up with the landlord to obtain additional documentation whenexpenses appear in question, significant, or potentially noncompliant withtheState’s leaseprovisions. Significant changes in expenses from thebaseyear should be brought to the attention of, and explained by, the landlordover the remainder of the lease term. If the landlord is unable to provideadequatedocumentationtoresolvesignificant,questionable,andunresolvedoperating expense issues, the tenant should request an independent leaseauditofthelandlord’sdocumentation,onthelandlord’spremises.Asnotedpreviously, State agencies must perform their operating expense reviewsand, if an independent lease audit is needed, notify the landlord of theirintent to audit and then perform the audit within the 30‐day “lease auditwindow”outlinedinthelease.

Requestandmaintainadequateandcompletedocumentationrelatedtotheirlease and annual operating expense obligations over the full term of theirlease.

Whatproblemdidtheworkidentify?TheState lacksadequatepracticestoconsistently identify, investigate,andcorrectpotential overpayment and underpayment of lease operating expenses. Ouranalysis of the eight leaseholds during the field and desk inspections identifiedoverpayments totaling $78,082 (8 percent) and underpayments totaling about$28,605 (3 percent) of the $908,100 in operating expenses inspected, for a netoverpaymentof$49,477(5percent).

According to our experience, the averagepercent overpayment identified throughan inspection of operating expenses typically ranges between 3 percent and5percent.Theoverpaymentidentifiedduringourinspectionisconsistentwiththispercentageoverpaymentrate. Someof theoverpaymentsandunderpaymentsweidentified may have occurred in prior years. The “lease audit window” for prioryearshasexpired,whichmeansthatwecouldnotconfirmwhetherotherover‐orunderpayments have occurred. We identified the following over‐ andunderpayments,whichmaypotentiallyaffectpayments in futureyears if theStateagencytenantdoesnottakeappropriateactiontocorrecttheseobservations:

Overpayments. We identified three overpayments for operating expensereimbursements that were erroneous or did not comply with the leaseprovisions.


o We identified an overpayment totaling $28,369 ($7,711 related to theDepartmentofPersonnel&Administration’sleaseand$20,658relatedtothe Department of Labor and Employment’s lease) for reimbursing thelandlord’s costs for replacing a sewer ejection pump. Under generallyacceptedaccountingprinciples,asewerejectionpumpinstallationshouldbeclassifiedasacapitalexpenditure.However,thelandlordcategorizedthe expenditure as an operating expense for “normalmaintenance andrepair.” The State’s standard lease contracts preclude capitalexpendituresaspartofoperatingexpensesunlesstheexpenditureresultsinacostsavingsorismandatedbylaw.Iftheexpendituremeetseitherofthese exceptions, the capital expense can only be included in operatingexpenses if amortized over the asset’s useful life. Although the sewerejection pump met one of the exceptions (i.e., mandated by law), theexpenditure was not amortized over its useful life. Instead, the totalamount was included in operating expenses, in violation of the leaseterms.

o We identified an overpayment of $49,142 ($13,268 related to the

DepartmentofPersonnel&Administration’sleaseand$35,874relatedtotheDepartmentofLaborandEmployment’slease)forassetmanagementfees not permitted by the lease and also not included in operatingexpensesinthebaseyear.

o Weidentifiedanoverpaymentof$571madebytheGovernor’sOfficeof

Information Technology for the landlord’s personal property taxes.Personal property taxes are not an includable operating expenseundertheGovernor’sOfficeofInformationTechnology’slease.

Underpayments.Weidentifiedanunderpaymentof$28,605($7,198related

totheDepartmentofPersonnel&Administration’sleaseand$21,407relatedtotheDepartmentofLaborandEmployment’s lease)causedbyanerror inthe base year operating expense calculation, which inflated the applicablebaseyearexpenses.

In addition, we found that the agencies’ operating expense rental obligations for2011 appeared generally compliant with the agencies’ leases and that thecalculations, as presented within the reconciliation statements prepared by theagencies’ respective landlords, were mathematically correct. We identified leaseadministration practices and controls at the eight agencies that could expose theStatetopotentialoverpaymentofoperatingexpensesinthefuture.Specifically,weidentifiedthefollowingproblems:

OperatingExpenseReviews.Weidentifiedpotentialconcernsorquestionswith prior year and/or base year operating expense billings for six of the

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eight sampled leaseholds (the Departments of Regulatory Agencies, Laborand Employment, Corrections, and Personnel & Administration; theGovernor’s Office of Information Technology; and CSU OnLine Plus).Although some of these agencies performed certain levels of diligence intheir review, none of the six agencies pursued these potential concerns orfollowedupwiththeirrespectivelandlordstosatisfythepotentialconcernsorquestions.Forexample:

o CertainoperatingexpenseschargedbytheDepartmentofRegulatoryAgencies’ landlord had increased notably from the 2006 base year.Although staff within the agency maintained records of caps oncertain expenses, trended operating expenses, and observed certainincreases or decreases, there was no evidence indicating that theDepartment of Regulatory Agencies had challenged the potentiallyunderstated base year operating expenses which could result inincreasedfuturerentalliabilities.

o The Department of Corrections was charged property managementfees thatweremore than twice the amount charged by comparablebuildings on the market. We found no information indicating thatDepartment of Corrections had identified or investigated thisdifference.

o Three agencies (the Departments of Regulatory Agencies andCorrections, as well as the Governor’s Office of InformationTechnology) could not provide information showing they hadinvestigated thepotential anomaliesorovercharges.The leaseauditwindows had expired, however, and the agencies could no longerchallengethelandlordaboutthesecharges.

Finally, we found that although five of the agencies we interviewed (theDepartments of Labor and Employment, Revenue, and Personnel &Administration; CSU Online Plus; and Front Range Community College)reported conducting some limited review of the operating expensestatements received, only one agency (the Department of Revenue), hadconducted the type of formalized, detailed analysis we recommendperformingroutinely.

Supportingdocumentation. We found that three of the eight agencies inoursample(theDepartmentofRevenue,theGovernor’sOfficeofInformationTechnology, and CSU Online Plus), had not requested adequatedocumentation from the landlord to perform sufficient operating expensereview and analysis to determine if chargeswere appropriate. In addition,noneoftheeightagenciesinoursamplemaintainedcompletelease‐related


documentation for the entire term of the lease, a recognized industrypractice. Complete lease‐related documentation is essential for evaluatingoperatingexpensetrendsovertimeandtoidentifypotentialoutlierexpensesthatrequirefollowupandinvestigation.

Whydidtheproblemoccur?

Our evaluation identified several areas where the State’s lease administrationpractices,includingpolicies,training,andtechnicalassistance,couldbeimproved:

Standardizing lease administration procedures. Procedures for

performingoperatingexpensereviewsandconducting leaseadministrationactivitiesatboththeStateandagencylevelwouldbenefitbystandardization.AlthoughtheOfficeoftheStateArchitecthaspromulgatedleasepoliciesforStateagencies, thesepoliciesdonotaddressanyagencyresponsibilities forreviewingtheirleaseoperatingexpenses.Forexample,policiesoutliningthebasic steps agencies should follow to evaluate operating expense trends,compare operating expenses against the base year expenses and leaseprovisions, or assess expenses to external benchmarks do not exist. Inaddition,guidanceoutlining the typesofdocumentation thatStateagenciesshould require their landlords to provide when issuing their operatingexpensereconciliationstatementsislacking.Accordingtoourinterpretationof recognized commercial real estate practices, the minimum level ofoperatingexpensedetaillandlordsshouldprovideincludes:

o Major expense category breakouts, including utilities, janitorialservices, security, maintenance, management, insurance, and abatedpropertytaxes.

o Insurance invoices and policy coverage details to ensure alignmentwithleaseparameters.

o Calculationsdemonstratingthatthelandlordisincompliancewiththeoperatingexpensecaprequiredbythelease(e.g.,nottoexceed105%overprioryearexpenses).

o A trend or variance analysis, bymajor expense category, comparingthe year‐over‐year change from the prior year’s operating expensesandbaseyearamounts,whenapplicable.

o Schedules of occupancy adjustments that affect the amount ofoperatingexpenseschargedtotheStatetenant.

Formalized policies and centralized support from the Office of the StateArchitect are particularly important since most of the agency personnelmanaging leasesor reviewingoperatingexpenseshavenothistoricallyhadspecificrealestateexpertise.Additionally,theagencystafftypicallycharged

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withmanaging leases and reviewing operating expenses are not the sameindividuals who were involved in negotiating and executing the agency’slease. Further, the real estate lease administrationdutiesoften represent arelativelyminorportionoftheircentraljobresponsibilities.

Utilizingbenchmarkingandsoftwarereview tools. On the basis of the

leasesanalyzed,Stateagencieswouldbenefitbyamorerigorousprocesstocompare their operating expense reconciliation statements to standardbenchmarking databases, such as the databases developed by the BuildingOwners and Managers Association (“BOMA”), which are widely used forbenchmarkingintherealestateprofession.Additionally,Stateagenciesarenot consistently utilizing the available software tools in the ProLeasedatabase—adatabaseandreportingsystemintendedtoholdinformationonalloftheState’sleases—toassistthemwithreviewingtheirleaseoperatingexpenses.

Increasingtrainingandtechnicalassistance.Ingeneral,Stateagencystaffassigned to specific lease administration tasks lack relevant training. Forexample,basictrainingontheleaseadministrationprocess,suchastrainingon performing operating expense reviews, maintaining adequate leaseadministration files, tracking critical dates such as renewal dates or earlytermination options, working with landlords to resolve questionableexpenses, or activating the tenant’s contractual right to contest operatingexpenseincreases,isnotprovidedbytheOfficeoftheStateArchitectorthecontract broker. Further, we found that when specific training has beenoffered,Stateagenciesdidnotalwaysattendthetraining.Forexample,whentheOfficeoftheStateArchitect’scontractbrokerhostedtrainingonitsnewlease administration system ProLease, only 11 of the 21 State agenciesservedbythecontractbrokerparticipatedinthetraining.

Staff also appear to be unaware of the contract broker’s role in providingleaseadministrationandothertechnicalassistanceservicestoStateagenciesbecause staff at only one of the five State agencies we interviewed wereawareoftheextentofthebroker’srole.Inaddition,baselineonlinetrainingand lease administration forms,bestpractices, andother technical supportarenotavailableontheOfficeoftheStateArchitect’swebsite.Acentralized,web‐based real estate resource, including training materials, forms, and a“listserv,” could be helpful for publicizing training, communicating policychanges,andprovidingtechnicalassistanceresourcestoassistStateagencystaffseekingadditionalsupportrelatedtomanagingtheirleases.

Clarifyingcontractbrokerresponsibilities.Currently,thecontractserviceagreementbetweenthecontractbrokerandtheDepartmentofPersonnel&Administrationlacksspecificityabouttheexpectationsfordeliverablestobe


provided by the contract broker. According to the contract serviceagreement, the State’s contract broker is responsible for providing leaseadministration services for the State’s leaseholds located in the contractservice area (City and County of Denver, City and County of Broomfield,Adams,Arapahoe,Boulder,Douglas,Jefferson,ElPaso,andPuebloCounties).According to theagreement, the contractbroker is toassist theStatewith:(1) lease administration services including the “organization andmaintenance of lease files, assistance/ organization/maintenance and allcostsassociatedinmaintainingsoftwarefortheOfficeoftheStateArchitect’sLeased Property Inventory database (ProLease); (2) operating cost audits;(3) periodic review of space standards; (4) escalation (CPI) calculations;(5)marketcomparisons;and(6)otherservicesasneededfromtimetotime.

Stateagency leaseadministrationpersonnel fromonlyoneof the fiveStateagenciesweinterviewedwasawareofthecontractbroker’sresponsibilitiesforassistingwithleaseadministrationsupport,includingconductingdesktopinspections and providing assistance to State agencies in analyzing andcontesting their operating expense rental obligations. Interviews withcontractbrokerstaffalsorevealedthatthecontractbrokerhasprovidedonlyalimitednumberofdeskauditsandnofieldauditsrelatedtochallengingtheState’soperatingcostswithitslandlords.

Contract broker staff reported that they typically become involved whennotified by agencies of disputes, rather than providing proactive, ongoingleaseadministrationservicesandanalysis.Aproactiveapproachtoanalyzingand monitoring operating expense obligations on behalf of the contractbroker’s clients is the industry standard, and should be the standardexpectedoftheState’scontractbroker.

Increasing the use of the lease administration database. IndividualagenciesandtheStateasawholeshouldhavetheabilitytotrackthevariouscomponents (or lease attributes) of their rental obligations for their realestateportfolio(by individual lease, typesof lease,byagency,andintotal).The State agencies in our sample are not using the State’s leaseadministration database, ProLease, to administer, manage, and report ontheir leases. Components of rental obligations include items such as baserent, operating expenses, and additional rent (i.e., charges for above‐standardservicessuchasparking),andcriticaldates,amongothers.Trackingthese expenses helps individual agencies and the State as a whole, assesstrendsandmanagetheirrentalobligations.UsingProLeasecouldassist theStatetrackbasicmetrics,suchasthespecificdollarsspentonaportionofthe$48.9 million of lease payments in Calendar Year 2011 expended onoperatingexpenses.

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State agencies also do not use ProLease as the single repository for all oftheir lease administration files. As required by the contract, the State’scontract broker uploads lease contract files negotiated on behalf of Statetenant agencies into the ProLease lease administration system and retainsthe files for the term of the lease contract, plus seven years following itsexpiration. Instead of using this database to warehouse all lease‐relateddocuments, agencies are maintaining their own lease administration files,andinmanycases,thesefilesdonotappearcomplete.Asnotedpreviously,four of the eight sampled agencies did not have complete leaseadministrationfilesandthefiveagenciesweinterviewedweregenerallynotaware thatmaintaining complete lease administration files for the term oftheleaseisarecognizedindustrypractice.

The ProLease software has functionality and tools, such as automatednotifications of critical dates or specific, and lease‐related managementreports, thatcouldhelpagencieswiththeirday‐to‐day leaseadministrationtasks (i.e., sending timely notifications to the landlord or reconcilingpayments).OnlyoneofthefiveStateagenciesweinterviewedwasawareofits ability to use the ProLease lease administration database as the singlerepository for all State agency leases to assist in administering,managing,andreportingonitslease.

Contestingleaseoperatingexpensesandthetimingofleaseinspection

requests. TheOfficeof the StateArchitect and the State’s contract brokerwerenotawareofanyinstancewhereaStateagencyhastriggeredanauditof the landlord’sbooksandrecords. Further,noneof theeightagencies inoursamplehadcontestedtheiroperatingexpensesoractivatedtheirrighttoinspectthelandlord’sbooksandrecordsforanyyearduringtheleaseterm.When agencies identify questionable operating expense obligations thatcannot be adequately resolved with the landlord through normalcommunications,theagencyhasimbeddedinitsleaseacontractualrighttoaudit the landlord’s documentation and records through an independentinspectionatthelandlord’spremises.Inthecommercialrealestateindustry,operatingexpenseaudits,or fieldaudits,are typicallyconductedona fixedfee, contingent fee, or combination fixed/contingent fee basis. Agenciescould arrange for lease audits on their individual leases, or contact thecontractbrokerforassistancewithperformingaleaseaudit,whenagenciesbecomeawareofsignificantpotentialproblemswiththeiroperatingexpensereconciliationsthatwouldwarrantfurtherinspection.

TheOfficeoftheStateArchitectshouldconsidermitigatingtheriskofoverpaymentsbycontractingwithanoutsidevendorforcentralizedoperatingexpensereviewandlease audit services. This approach could reduce the administrative burden,including reducing the expense of providing training and technical assistance to


staffat21Stateagencieswithleaseadministrationduties,forbothStateagencyandOffice of the State Architect staff while increasing opportunities for recoveries.Specifically,theOfficeoftheStateArchitectcouldcontractwithaleaseauditfirmona contingent fee or combination feebasis toperformannual reviewsof operatingexpense reconciliation statements, perform desk audits, and when indicated,conductleaseauditsontheState’sentireleaseportfolio.

As noted previously, our experience shows that inspections of an entity’s entirelease portfolio typically identify recoveries ranging from 3 to 5 percent of totaloperatingcosts,whichwastherecoverypercentageidentifiedduringourdeskandfield inspections of the eight sampled agencies. Currently it is not possible toestimate the dollars the State might recover from centralized reviews andinspections of its entire lease portfolio, since as noted previously, total operatingexpensesarenotavailableintheProLeasedatabase.TheDepartmentofPersonnel& Administration, through House Bill 10‐1176, received authority to hire one ormoreconsultantstoconductcontingent‐feerecoveryauditstoidentifyandrecoveroverpayments made during Fiscal Years 2008 through 2010. The Departmentshould consider requesting similar authority, if needed, to conduct centralizedreviews and lease audits for the State’s entire lease portfolio on a contingent‐feebasisorcombinationfeebasisinthefuture.Whydoesthisproblemmatter?During Calendar Year 2011, State agencies spent $48.9 million on their rentalobligations,aportionofwhichwasspentonreimbursing the landlord’soperatingexpenses. Without strong lease administration practices State agencies couldoverpaytheirrespectiveoperatingexpenses.

RecommendationNo.6:TheOfficeoftheStateArchitectshouldworkwithStateagenciestostrengthenleaseadministrationpracticesandreducetheriskofoperatingexpensepaymenterrors.Specifically,theOfficeoftheStateArchitectshould:

a. Promulgateguidancetoagenciesoutliningtheirresponsibilitiesforannuallyreviewing their operating expense rental obligations and work with thecontractbroker toestablishstandardizedprocedures foragencies to followwhenperformingtheirreviews.Ataminimum,theguidanceshouldaddressthelevelofdetailandsupporttobeobtainedfromlandlordstodocumenttheoperatingexpenseobligationsandrequireyear‐to‐yearcomparisonsagainstthebaseyear,annualcostlineitem‐by‐lineitemtrendanalysis,confirmation

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of the mathematical accuracy of the landlord’s billing statement, andconfirmationthatallexpensesincludedconformtotheleaseprovisions.

b. Developbase‐line trainingsand trainingmaterials for lease administration,inconjunctionwiththecontractbroker,thatassistagencieswithreviewingtheiroperatingexpenses,trackingcriticalleasedates,maintainingcompleteleasefiles,andworkingwithlandlordstoresolveanyissuesidentified.Thisshould include developing a listserv and other centralized web‐basedresources to support the State’s real estate community, such as leaseadministrationforms,reviewprocedures,policies,andbestpractices.

c. WorkwiththecontractbrokerandtheAttorneyGeneral’sOfficetorevisethe

contract service agreement and better define the responsibilities,expectations, anddeliverables tobeprovidedby the contract brokerwhenassisting State agencies with lease administration services. This shouldinclude requiring the contract broker to perform analytics on the datamaintained in the ProLease database to identify trends and potentialanomaliesandassistStateagencieswithreviewing theiroperatingexpenserental obligations, performing desktop audits when requested, andconductingorarrangingforleaseauditsinatimelymannerconsistentwithlease‐specifiedleaseauditwindows.TheOfficeoftheStateArchitectshouldmonitorthecontractbroker’sactivitiestoensurethecontractprovisionsarefulfilled.

d. WorkwithStateagenciesand the contractbroker to improveutilizationof

theexistingfunctionalityintheProLeaseleaseadministrationsystem. Thisshould includerecommendingthatagenciesuseProLeaseas therepositoryforalllease‐relateddocuments;activatingtoolssuchascriticaldatetrackingand notification, trending, and other analytic functions; entering andmaintainingkeydatafortheState’sentireleaseportfolio;andtestingfordatareliability periodically within the database. Agencies should also beencouraged to enter and maintain data on the basic components of theirleaseobligations,suchasbaserent,operatingexpenses,andadditionalrent,by leasehold, in the ProLease database. Information should be used foranalysisandreportingontheState’sentireleaseportfolio.

e. Considercontractingwithanoutsidevendor toperformcentralizedreview

of operating expense reconciliation statements and to conduct lease auditson the State’s entire leaseportfolio on a contingent fee or combination feebasis,requestingauthorityfromtheGeneralAssemblyifneeded.


OfficeoftheStateArchitect’sResponse:a. Agree.Implementationdate:May2013.

TheOfficeoftheStateArchitectwillestablishguidelinesoutliningagencyresponsibilities to review landlord statements including operatingexpense reconciliations annually. Guidelines will specify needed datafrom landlords to enable agency personnel to make year‐to‐yearcomparisons. The Office of the State Architect will also work with thecontract broker to develop standardized procedures for agencies tofollowwhenperformingtheannualreconciliations.

b. Agree.Implementationdate:May2013.

TheOffice of the State Architectwill continue to offer training to leaseadministrators to assist agencies with the review, tracking andmaintainingofcompleteleasefiles,aswellashowtoworkwithlandlordstoresolveissues.TheOfficeoftheStateArchitectwillalsoaddresourcestotheOfficeoftheStateArchitectwebsitespecificallydesignedtoaidinannualoperatingleasereconciliations.

c. Agree.Implementationdate:July2013.

The Office of the State Architect will work to clarify contract brokerresponsibilities relating to lease administration services. The Office oftheStateArchitectwillseektoaddlanguagetosubsequentcontractswithcontractbrokerstobetterdefineresponsibilities.TheOfficeoftheStateArchitect will continue to work with State agencies to monitor thecontractbrokerandensurethatcontractprovisionsarefulfilled.

d. Agree.Implementationdate:March2013.

TheOfficeoftheStateArchitectwillcontinuetorecommendthatallStateagenciesutilizeProLeaseasthepreferreddatabaseforleasetransactions.

e. Agree.Implementationdate:March2013.TheOfficeoftheStateArchitectwillexploreopportunitiestoutilizebothinternal subject matter experts as well as outside vendors to assist inconducting reviews of annual operating expense reconciliationstatements.

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RecommendationNo.7:TheDepartmentsofPersonnel&AdministrationandLaborandEmploymentshouldreviewtheiroperatingexpensesfromprioryearsandtheoverpaymentsidentifiedin this evaluation and work with their landlord to recover all overpaymentsidentified. The Departments should seek assistance from the contract broker inperformingreviewsandresolvingissueswiththelandlord,asneeded. DepartmentofPersonnel&Administration’sResponse: Agree.Implementationdate:June2013.

TheDepartmentofPersonnel&AdministrationwillworkwiththeOfficeoftheStateArchitectandthecontractbroker,asappropriate,toreviewprior‐yearoperatingexpensesandtopursuerecoveryofidentifiedoverpayments.

DepartmentofLaborandEmployment’sResponse:

Agree.Implementationdate:June2013.TheColoradoDepartment of Labor andEmploymentwill reviewoperatingexpenses billed by the landlord for years that fallwithin theDepartment’scontractual rights to inspect the landlord’s records. After this review,Department staffwill seekassistance fromthecontractbroker inresolvingconcernswiththelandlord.

LeaseProvisionsTheState’sCentralizedLeasingPolicy requires thatExecutiveBranchdepartments,withafewexceptionsoutlinedpreviously,useoneoftheState’sthreestandardizedlease agreementswhen leasing property. TheOffice of the StateArchitectworkswiththeAttorneyGeneral’sOfficetodevelopthestandardizedleaseagreementsandthe Attorney General’s Office approves the provisions to ensure the agreementsadequately protect the State. According to the Office of the State Architect, thestandardizedleaseagreementrequiredbytheCentralizedLeasingPolicyallowsforamoreexpeditiousapprovalprocess, limits legalcostsrelatedto leasedrafting,andcontrolsrisk.


Whatworkwasperformedandwhatwasthepurpose?WecomparedtheprovisionsintheState’sthreestandardizedleaseagreementsandapplied our experience reading commercial leases and providing lease advisoryservices in the public, private, and not‐for‐profit sectors. We also compared thelease provisions for each of the agencies in our sample with the appropriatestandardizedleaseagreementtoidentifywhetherthestandardizedprovisionswereconsistentlyapplied.ThepurposeofourworkwastoanalyzetheprovisionsintheState’sstandardizedleaseagreementstounderstandwhethertheygenerallyconformtorecognizedrealestateleasingpractices.Howweretheresultsoftheworkmeasured?We evaluatedwhether the lease language in the State’s standardized agreementsconform to our experience with practices used in the real estate industry.Specifically,weevaluatedwhethertheState’sstandardizedagreementsaddressthefollowingareas:

Establishanadequate leaseauditwindow. In our experience, the timeframeatenanthasforanalyzingthelandlord’sreconciliationandexecutingthe tenant’s audit right should range between six and twelvemonths. Forlargeleaseholds(i.e.,greaterthan30,000rentablesquarefeet),thedurationof the audit right time frame may extend beyond one year or longer,particularly if the tenantStateagencyhasgood leveragewithahigh creditratingandoccupiesasignificantportionofthebuilding’sleasedspace.

Excludecapitalreservesandunrelatedoperatingcosts.Capitalreserves,usedbythelandlordtomakecapitalimprovementstotheproperty,arenotcustomarily a component of operating expenses and should be excluded.Additionally, costs unrelated to operating expenses, such as the costs foroperating a parking facility in the building, should be specifically excludedfromoperatingexpensesinthelease.

Limit and define management fees. In our experience, propertymanagement fees should have a stated limit (for example 3 percent of thebuilding’s gross rental receipts). Additionally,management fees should beestablished using a clearly defined standard, such as a comparison withmarketratesforspecificallyidentifiedpropertiesinthearea.

Accountforoperatingexpenses.GenerallyAcceptedAccountingPrinciples(GAAP) is a standard framework for financial accounting and reporting

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commonlyused inaccounting forrealestateoperatingexpenseswithin theUnitedStates.IncludingaGAAPrequirementisaleadingleasingpracticeandensuresconsistencyfromonereportingperiodtoanother.

Adequatelydefinekeyleasetermsandmethodologies.Keyleaseterms,such as “Term,” “Building,” “Project,” “Premises,” and “Additional Rent”should be fully defined to ensure transparency and avoidmanipulation ofterms.Inourexperience,definingsuchtermsalsohelpsinallocatingcoststothepropertycostcenters. Inaddition,keymethodologiesinthelease,suchas methodologies for reconciling and monitoring the State property taxexemption, should be defined so that both the landlord and tenant canunderstandandapplythemethodologycorrectly.Statute[Section39‐3‐124(1)(b)(I)(E),C.R.S.]providesthatneitherthelandlordnortheStateagencyshall receive an unfair financial benefit from the property tax exemption.Clearlydefining the termsandmethodologieshelps to lessenerrorson thepartofbothlandlordsandStateagencytenants.

Whatproblemdidtheworkidentify?Overall,weconcludedthattheState’sthreestandardizedleaseagreementsmeetthebasic needs of the State’s departments and agencies. We also concluded that theprovisions in the eight leases reviewed generally conform to the State’sstandardized lease provisions. We found, however, that certain provisions in theState’s standardized lease agreements could be enhanced to better align theagreementswith recognized real estate leasing practices. This could help preventState agencies from paying more in lease costs than they should. We identifiedopportunitiesforimprovementinthefollowingareas:

Expanded “lease audit window.” The State’s standardized leaseagreementsincludea30‐day“leaseauditwindow”togiveaStateagencytheopportunity to analyze the landlord’s operating expense reconciliation. Inourexperience,theindustrystandard“leaseauditwindow”typicallyrangesfrom six to twelve months. Therefore, we concluded that the State’sstandardized lease agreements do not provide sufficient time for Stateagency tenants to analyze the operating expense reconciliation statementsprovidedbylandlords.

The reconciliation statement compares the estimated operating expensespaid by the State for the prior year with the actual operating expensesincurredbythelandlord.Ifactualoperatingexpensesexceededorwerelessthantheestimatedoperatingexpenses,thetenantorthelandlordwouldberesponsibleforpayingorcreditingtothetenantthedifferenceandtheStateagencytenant’sleasepaymentwouldbeadjusted.Asnotedpreviously,three


of the agencies that had potential anomalies or overcharges identifiedthrough our desk audit (the Departments of Regulatory Agencies andCorrections and the Governor’s Office of Information Technology), wereunable to contractually challenge their landlords todeterminewhether thecharges complied with the lease provisions because their lease auditwindowshadexpired.

Specificallyexcludingcertaincostsfromoperatingexpenses.TheState’sstandardized leases have no exclusions for certain costs not customarilyincluded within operating expenses. For example, capital reserves arecustomarily excluded from operating expenses because these expenses aretypically included in the tenant’s base rent. However, the State’sstandardized leases define “operating expenses” to include “a reasonableannualreserve forallothercapital improvementsand structuralrepairsandreplacements.. .”IfStateagencytenantsarereimbursingtheirlandlordsforcapital reserve contributions through their operating expenses, the Stateagencytenantsmaybefundingthelandlord’scapitalinvestmenttwice:oncethrough the net base rent and once by reimbursing capital investmentreserveschargedtooperatingexpenses.

Including a management fee limit and standards for market rate

comparisons. The State’s standardized lease provisions do not include alimit (e.g., 3 percent of the building’s gross rental receipts) to restrict theamount of management fees the landlord may charge. Additionally, thestandardized lease provisions do not clearly define the standard bywhichmanagement fees may be determined. For example, the provisions allowlandlordstochargeStateagencytenantsprofessionalbuildingmanagementfees “providedthatsuchfeesarecomparabletofeeschargedbyothersimilaroffice buildings in the area.” The standardized lease, however, does notdefine the term “comparable office buildings” or identify the specific officebuildingsthatshouldbeincludedforcomparisonpurposes.

Without adefinition of the comparablemarket or the inclusion of a cap tolimit the amountofmanagement fees landlords can charge, there are risksthat State agency tenantsmaybepayingmanagement fees that exceed themarket rate. Further if the landlord and property manager are relatedparties, there is an increased risk that the management fees could be setabove market. Therefore, management fees should be evaluated andbenchmarkedagainstthemarketonaregularbasis.

Specifying required accounting principles. The State’s standardized

leases currently require landlords to apply generally accepted accountingprinciples (“GAAP”) to capital expenses, but the leases do not require thatGAAP apply to all operating expense categories. GAAP accounting is

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generally more favorable to tenants not only in its application of capitalamortization, but alsowith respect tomanagement fees in base years andaccruals because of its “principle of regularity,” meaning conformity toenforced rules or standards. GAAP also incorporates its “principle ofconsistency,” which mandates that there is a constant method for theaccounting treatment year‐over‐year, most notably for “base year” leaseapplication.

Definingkey lease terms andmethodologies. The State’s standardizedleasesdonot include cleardefinitions for key lease terms such as: “Term,”“Building,”“Project,”and“Premises.”Forexample,theterm“Premises”onlyidentifiesthespecificpropertyareaforwhichtheStateagencytenantmustreimburse operating expenses. If “Premises” is not clearly defined in thelease,andtheStateagencytenantandthelandlorddonotagreeontheareaincluded in “premises,”or the relatedallocatedcosts, theStateagencymaybechargedforexpensesitdidnotintendtoincur.

The standardized leases also do not include an unambiguousmethodologyfor State agency tenants or their landlords to reconcile and monitor theallocationofpropertytaxes.Statute[Section39‐3‐124,C.R.S.]exemptsStateagencies from paying property taxes when leasing property; therefore,propertytaxesmustbeallocatedamongthenon‐Stateagencytenants. Thelease methodology for this reconciliation and allocation is complex and isintended to prevent the payment of property taxes that are not theresponsibilityofthelandlord,theStateagency,oranyotherbuildingtenants.

WeidentifiedinstanceswherebothStateagencystaffandlandlordstaffhadapparentlymisinterpretedproperty taxprovisions. Wealsonotedpossibleerrors in applying the property tax exemption but these errors did notappeartoaffecttheStateagencytenantsinoursample.

Whydidtheproblemoccur?The State’s standardized lease agreements have been revised several times sinceCalendarYear2008.Asweunderstand, theserevisionsoccurredwhensubstantialmodificationsweremadeinpreparationfortheenactmentofthenewrealpropertytax laws. An outside real estate lease expertwas not engaged to assistwith andadvisetheStateontheserevisions.

TheState’sstandardizedleasesareintendedtoapplytoabroadrangeofrealestatepropertytypes,uses,locations,andtenant/landlordexperiences.Asaresult,iftheleasetermsaretoospecific,thestandardizedleasesmaynotapplytothevarietyofleasing situations that State agenciesmay face.Whennegotiating lease terms, theStatehas limitations thatprivate tenantsdonothave.Forexample,Stateagencies


cannot indemnify their landlordsandStateagenciesarenotboundby their leasesbeyondthecurrentyeariffundingformakingleasepaymentsisnotappropriated.Webelievethereareopportunitiestoimprovetheleaseprovisionstobetterprotectthe State’s interest and align with recognized real estate leasing practices whileallowing for the use of standardized leases for a wide variety of properties andsituations. Therefore, the Office of the State Architect should involve the State’scontractbrokerinworkingwiththeAttorneyGeneral’sOfficetoreviseandupdatethe standardized leases. These revisions and updates should specifically addresstheissuesdiscussedinthisevaluation.Whydoesthisproblemmatter?TheStatemaybepayingmorethanitshouldbeforcertainlease‐relatedexpensesbecause from our experience, the State’s standardized lease provisions vary fromrecognized real estate leasing practices. Further, the current standardized leaseagreementsmaynotprovideadequateprotectionagainstotherlease‐relatedrisks.For example, the standardized lease provision limiting the time the State has toreview the landlord’s operating expenses is 30days. In our experience, a 30‐daytimeframelimitsanentity’sabilitytoanalyzethelandlord’sreconciliations,requestadditional information, conduct a desktop inspection to compare the operatingexpenses with historical data and external benchmarks, or arrange for a fieldinspection of the landlord’s records when the State agency tenant has concernsabouttheaccuracyofthelandlord’soperatingexpensereconciliation.Byaddressingtheconcernsraisedrelatedtothestandardizedleases,theStatecouldimprove its economic protections and position related to its leased rentalobligations.

RecommendationNo.8:The Office of the State Architect should engage the advice and assistance of itscontractbrokerandworkwith theAttorneyGeneral’sOffice toupdateand revisethe State’s StandardizedLeaseAgreements to better protect the State and reducetheriskofoverpayingcertainrentalobligations.Specifically,theOfficeoftheStateArchitectshould,buildingonourcomments,usetheexpertiseofitscontractbrokerandthecommentstomakeimprovementstoaddresstheissuesidentifiedabove.

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OfficeoftheStateArchitectResponse:Agree.Implementationdate:March2013.The Office of the State Architect will continue its practice of updating theleaseform(s)asneededtoreflectchangesinlaworpractice.TheOfficeoftheAttorneys General, the Office of the State Controller, and the contractedbrokerwillbeinvolvedinthereviewandapprovalprocessofthesuggestedcontractlanguagemodificationsinRecommendationNo.8.

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