Tuesday, January 24, 2012

The California State Auditor's Report on High-Speed Rail


Here are the state government organizations that have issued one or more reports that are highly critical of the management and the agenda of the California High-Speed Rail Authority, since 2008 until now.

1. The State Senate Committee and Sub-Committee on Transportation and Housing
2. The State Legislative Analyst's Office
3. The State Inspector General
4. The State Auditor
5. The Peer Review Group of the California High-Speed Rail Authority

Below please find the latest issuance from the State Auditor, Elaine Howle. We'll have more to say about this in subsequent blog entries.

One comment here, however. The Governor of California, Jerry Brown, will ignore these findings and recommendations just as he has all the prior reports from government agencies.  He is determined to obtain the promised $3.5 billion from the US Department of Transportation and will nothing -- not all the critical reports in the world -- stand in his way. He also has, I believe, strong-armed the Democrats in the State Legislature to concur.
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High-Speed Rail Authority Follow-Up:

Although the Authority Addressed Some of Our Prior Concerns, Its Funding Situation Has Become Increasingly Risky and the Authority's Weak Oversight Persists

HIGHLIGHTS

Our review of the High-Speed Rail Authority's (Authority) progress in addressing issues we raised in our April 2010 report, revealed the following:

•Although it has implemented some of our recommendations, the Authority has not completely addressed others.
•The high-speed rail network's (program) overall financial situation has become increasingly risky.
•The cost estimates for phase one increased to between $98.1 billion and $117.6 billion—of which approximately $12.5 billion has been secured.
•Although the Authority identifies the federal government as its largest potential funding source, the plan provides few details about how it expects to secure this money.
•The cost estimates do not include phase one's operating and maintenance costs, yet based on data in the plan these costs could total approximately $96.8 billion from 2025 through 2060.
•The accuracy of the Authority's estimates of the program's profits depends upon its ridership projections, which are fundamental to private investors' interest.
•An independent assessment of ridership projections was conducted by a handpicked group.
•The ridership review group presented several long-term concerns.
•The Authority continues to struggle to provide an appropriate level of oversight.
•It is significantly understaffed and has struggled to oversee its contractors and subcontractors, who outnumber its employees by about 25 to one.
•It has delegated significant control to its contractors and may not have the information necessary to make critical decisions about the program's future.
•It engaged in inappropriate contracting practices involving information technology (IT) services by splitting IT services totalling $3.1 million into 13 individual contracts with one vendor.

RESULTS IN BRIEF

Since 1996 state law has charged the High-Speed Rail Authority (Authority) with the development and implementation of intercity, high-speed rail service. As a result, when voters approved the Safe, Reliable High-Speed Passenger Train Bond Act for the 21st Century (Proposition 1A) in November 2008, the Authority became responsible for managing the $9 billion provided for the construction of a high-speed rail network (program). In 2009 the Joint Legislative Audit Committee asked the Bureau of State Audits to assess the Authority's readiness to administer these funds, resulting in our April 2010 report titled High-Speed Rail Authority: It Risks Delays or an Incomplete System Because of Inadequate Planning, Weak Oversight, and Lax Contract Management, Report 2009-106.

In the nearly two years since the issuance of that report, the Authority has implemented some of our recommendations but it has still not completely addressed others. Specifically, the Authority fully implemented four recommendations, partially implemented five, and took no action on one. Although the Authority has secured funding for the Initial Construction Section (construction section)—the first portion of the program—the program's overall financial situation has become increasingly risky, in part because the Authority has not provided viable funding alternatives in the event that its planned funding does not materialize. In its 2012 draft business plan, the Authority more than doubles its cost estimates for phase one of the program, to between $98.1 billion and $117.6 billion. Of this amount, the Authority has secured approximately $12.5 billion to date. 

The success or failure of the program consequently depends upon the Authority's ability to obtain between $85.6 billion and $105.1 billion by 2033. In its 2012 draft business plan, the Authority identifies the federal government as by far the largest potential funding source for the program, yet the plan provides few details indicating how the Authority expects to secure this money. Further, the plan does not present viable alternatives in the event that it does not receive significant federal funds. In fact, one of the funding options the Authority characterizes as an alternative is not yet approved for use on high-speed rail projects. Although it is possible that the Authority may obtain the necessary funding to move forward with the program, it risks significant delays or the inability to proceed if it does not.

Further, the Authority's 2012 draft business plan still lacks some key details about the program's costs and revenues. In particular, only within the business plan's chapter about funding—more than 100 pages into the plan—does the Authority mention that phase one could cost as much as $117.6 billion, whereas it uses one of its lower cost estimates of $98.5 billion throughout the plan. Moreover, neither of these cost estimates includes phase one's operating and maintenance costs, yet based on data included in the 2012 draft business plan, we estimate that these costs could total approximately $96.9 billion from 2025 through 2060. The Authority projects that the program's revenues will cover these costs but it does not include any alternatives if the program does not generate significant profits beginning in its first year of operation. Further, the plan assumes, but does not explicitly articulate, that the State will not receive any profits between 2024 and 2060, because private sector investors will receive all of the program's net operating profits during these years in return for their investment.

The accuracy of the Authority's estimates of the program's profits depends upon its ridership projections, which are thus fundamental to private investors' interest. The ridership model the Authority presents in its 2012 draft business plan assumes an average ticket price of $81 and projects that passengers will take a total of 29 to 43 million annual trips by the completion of phase one. However, when the Authority's chief executive officer commissioned a ridership review group to independently assess the ridership projections, he handpicked the group's members, which may call into question the independent nature of their assessment.

Further, although the ridership review group determined that the ridership model was suitable for use in the 2012 draft business plan, the group presented several long-term concerns, such as potential biases in the survey data used in the model's development. The ridership review group's August 2011 report implied that if the Authority does not address these long-term concerns, the model may only be useful for projecting ridership for the operating section and not for the program's remaining sections.

In addition to our concerns related to the Authority's 2012 draft business plan, we also identified a number of critical, ongoing problems involving its oversight of the program. Specifically, in our prior report, we concluded that the Authority's processes for monitoring the performance and accountability of its contractors—especially the entity that manages the program (Program Manager)—were inadequate. During our follow-up review, we found that the Authority has continued to struggle to provide an appropriate level of oversight, in part because it is significantly understaffed. As of August 2011 the Authority had 21.5 filled positions to oversee the multibillion-dollar program. Without sufficient staffing, the Authority has struggled to oversee its contractors and subcontractors, who outnumber its employees by about 25 to one.

Our follow-up also revealed that the Authority has failed to ensure that it and the public is aware of its contractors' and subcontractors' potential conflicts of interest. Although the Authority's conflict-of-interest code requires its contractors to file statements of economic interest that help to identify any potential conflicts of interest that they may have, our review found that some of the contractors had failed to file their statements. Further, the Authority does not require any of its subcontractors to file statements of economic interest. As a result, the Authority has no way to verify that subcontractors do not have real or perceived conflicts of interest.

In part because the Authority has so few staff, it has delegated significant control to its contractors. As a result, it may not have the information necessary to make critical decisions about the program's future. For example, when we reviewed three of the monthly progress reports that the Program Manager submitted to the Authority to inform it of the program's progress, we found over 50 errors or inconsistencies of various types. Most significantly, we noted differences between what was reported in the regional contractors' reports and what the Program Manager summarized and reported to the Authority, thus demonstrating that the Program Manager had provided the Authority with misleading information. Additionally, the Authority has been minimally involved in the risk-management process, instead relying almost completely on its Program Manager to both identify and mitigate potential problems. According to the chief deputy director, the Program Manager is currently more engaged than the Authority in risk management because the Authority has not been able to hire a risk manager. 

Consequently, the Authority cannot be certain that it is aware of and addressing those risks that could significantly delay or even halt the program.

The largest part of the Authority's role in administering the program is managing contracts; however, during the course of our work, we discovered that the Authority had engaged in inappropriate contracting practices involving information technology (IT) services. Specifically, the Authority split its IT services totalling $3.1 million into 13 individual contracts with one vendor over a 15-month period and awarded the contracts before obtaining the proper bids. The State Contracting Manual expressly prohibits agencies from splitting contracts to avoid competitive bidding requirements and purchasing thresholds for any series of related services that would normally be combined and bid as one job. As a result of the Authority's actions, we believe that it violated the prohibitions set forth in the State Contracting Manual. Further, the nature of the problems we discovered suggests that the Authority needs to significantly improve its internal controls to ensure that it effectively manages its contracts.

Finally, in our April 2010 report, we concluded that the Authority did not have a system in place to track its expenditures in order to ensure the program's compliance with Proposition 1A's limitations on administrative and preconstruction task costs. During our follow-up review, we found that although the Authority has made some improvements to its process, it still has not completed its expenditure tracking system. According to state law, the Authority can use only 2.5 percent ($225 million) of its portion of bond funds from Proposition 1A for administration and only 10 percent ($900 million) for planning, environmental review, and preliminary engineering (preconstruction tasks). According to the chief deputy director, the Authority had been developing a system to track its expenditures but paused further development in November 2011 due to staff vacancies as well as a lack of clarity on how to categorize its program costs. Despite the lack of a system, we observed that the Authority is making attempts to categorize its expenditures; however, until it has a system in place for tracking its expenditures, it cannot ensure compliance with Proposition 1A and risks running out of the bond funds available for administration and preconstruction task costs.

RECOMMENDATIONS
-To ensure that it has adequately addressed all of the concerns outlined in our April 2010 report, as indicated in Appendix B, the Authority should fully implement the recommendations of that report. We have made the following additional recommendations based on our follow-up review:

-To ensure that the public and the Legislature are aware of the full cost of the program, the Authority should clearly report total costs, including projected operating and maintenance for the program. Additionally, the Authority should clearly disclose that the 2012 draft business plan assumes that the State will only be receiving profits for the first two years of operation in 2022 and 2023, and will potentially not receive profits again until 2060 in exchange for the almost $11 billion it assumes it will receive from the private sector.

-To assure independence and instill public confidence in the process regarding the Authority's ridership model, the Legislature should draft legislation that establishes an independent ridership review group.

-To ensure that it has adequate staff to effectively oversee the program, the Authority should continue to fill its vacant positions.

-To comply with the Political Reform Act of 1974, the Authority should establish written policies and procedures for tracking whether all designated employees and consultants have completed and filed their statements of economic interests on time, thereby identifying any potential conflicts of interest.

-To increase transparency and to ensure that it is aware of any financial interest that a subcontractor may have in the program, the Authority should require subcontractors to file statements of economic interest.

-To ensure that the Program Manager's progress reports are accurate, consistent, and useful, the Authority should conduct monthly comparisons of the Program Manager's and regional contractors' progress reports to verify consistency.

-To be aware of and respond effectively to circumstances that could significantly delay or halt the program, the Authority should hire a risk manager as soon as possible. Until then it should designate and require Authority staff to attend risk-management meetings and workshops. Finally, the Authority should monitor the Program Manager's risk-management practices to ensure that either it or the Program Manager identifies and promptly and appropriately addresses risks.

-To effectively manage its contracts, the Authority should develop procedures to detect and prevent contract splitting.

AGENCY COMMENTS
Although the Authority generally agreed with our conclusions and stated that it will take steps to implement our recommendations, it disagreed with our assessment that the Authority's funding situation is risky. The Authority also disagreed with some of our conclusions and recommendations regarding the Program Manager's monthly progress reports.

View this entire report in Adobe Portable Document Format (PDF)
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