1. Begin with the contract requirements

Before evaluating the numbers, determine what the governing agreement required the contractor to submit.

• The required payment-application form
• The billing cutoff date
• The method for measuring progress
• The treatment of stored materials
• The required supporting documentation
• Retainage requirements
• Conditions governing change-order billing
• Lien-waiver requirements
• Certification and review responsibilities
• Grounds for withholding or reducing payment

Standard payment forms provide an organized framework, but the parties may have modified the underlying requirements. The analysis should therefore begin with the executed agreement and incorporated documents, not assumptions about how payment applications are typically handled.

2. Understand what the schedule of values represents

The schedule of values divides the contract amount among the various components of the work. It becomes the basis for reporting prior work, current-period work, stored materials, total completed and the balance remaining.

The allocation of values deserves attention.

A schedule of values may combine several activities into one line item or divide a scope among labor, material and equipment. It may also assign substantial value to mobilization, supervision, general conditions, procurement or other work that is not measured by installed quantities.

The values should add up to the contract amount, but that does not necessarily establish that each individual line accurately reflects the reasonable value of the work assigned to it. An overvalued early activity may accelerate cash flow while leaving an insufficient balance for later work. An undervalued activity may produce a different distortion.

Neither condition should be assumed from the payment application alone. The schedule should be compared with the estimate, buyout, subcontracts, purchase orders and remaining scope.

3. Percentage complete requires support

A contractor may report that a particular activity is 40, 70 or 90 percent complete. The percentage may be reasonable, but the payment
application generally does not show how it was calculated.

Depending on the work, progress may be evaluated using:

• Installed quantities
• Units completed
• Milestones achieved
• Labor expended
• Materials incorporated
• Subcontractor billing
• Field observations
• An estimate of overall completion

These methods do not always produce the same answer.

For example, a subcontractor may have incurred substantial engineering, fabrication or procurement costs before much work is visible in the field. Conversely, an activity may appear nearly complete while significant testing, correction, closeout or commissioning remains.

A visual estimate can be useful, but it should be tested against the nature of the work and the supporting records.

4. The billing cutoff date matters

Payment applications usually cover work through a stated date. Site observations and supporting documents may reflect different dates.

A field report prepared several days before the billing cutoff may not capture work completed later in the period. A photograph taken after the cutoff may show progress that was not yet in place when the contractor submitted the requisition.

The review should identify:

• The application period
• The contractor’s billing cutoff
• The subcontractor billing cutoff
• The date of any site observation
• The date photographs were taken
• When the application was reviewed, revised and approved

Without aligning these dates, apparently conflicting records may simply describe the project at different points in time.

5. Stored materials should be evaluated separately

Stored materials can represent a legitimate component of a payment request, particularly when equipment or long-lead materials are procured before installation.

They also require separate support.

Depending on the contract, relevant records may include:

• Supplier invoices
• Purchase orders
• Proof of payment
• Photographs
• Inventory lists
• Delivery tickets
• Warehouse receipts
• Evidence of insurance
• Identification of the storage location
• Confirmation that materials are allocated to the project
• Documentation concerning title and risk of loss

Materials stored off-site should not automatically be treated the same as materials delivered to the project. The contract may impose specific conditions that must be satisfied before payment is due.

The reviewer should also determine whether the materials remain in storage, were later incorporated into the work or were included again in a subsequent billing line.

6. Approved and pending changes must be distinguished

Payment applications commonly include approved change orders in the adjusted contract amount. Pending or disputed changes may appear elsewhere, remain outside the formal application or be incorporated into existing schedule-of-values lines.

The analysis should distinguish among:

• Executed change orders
• Directed work awaiting pricing
• Pricing under review
• Rejected change requests
• Disputed scope
• Allowance reconciliation
• Credits
• Backcharges
• Work performed under a reservation of rights

The fact that additional work was performed does not resolve whether the contractor was entitled to additional compensation. It also does not establish that the amount requested was reasonably priced.

Entitlement, valuation, authorization and responsibility are related issues, but they should be evaluated separately.

7. Certification and payment are important, but context remains necessary

An architect’s, construction manager’s or owner’s representative’s approval may be significant under the governing agreement. It should be evaluated according to the actual contract language and the scope of the reviewer’s responsibility.

The same caution applies to prior payment.

Payment may indicate that a requisition passed the project’s review process. It does not necessarily establish final acceptance of the work, waive unresolved deficiencies or determine responsibility for conditions identified later. Those questions depend on the contract and the surrounding project record.

Similarly, reducing a payment request does not automatically establish improper billing. The adjustment may result from a timing difference, missing documentation, a disputed change, retainage, incomplete work or a difference in judgment concerning progress.

The reason for the adjustment should be identified from the contemporaneous record rather than assumed.

8. The payment application should reconcile with project accounting

A payment application is an external billing document. Job-cost reports and committed-cost reports provide an internal view of the project.

The two systems serve different purposes, but unexplained differences can be important.

I typically compare:

• The contract amount with the approved budget
• Schedule-of-values lines with internal cost codes
• Approved changes with the change-order log
• Subcontractor billings with amounts billed to the owner
• Stored-material amounts with invoices and inventory
• Costs incurred with amounts reported as complete
• The remaining contract balance with the projected cost to finish

This review may identify reclassifications, duplicate entries, costs carried in unexpected accounts or remaining balances that appear
inconsistent with the work left to perform.

None of those observations necessarily establishes improper conduct. Each requires further investigation and an opportunity for explanation.

9. Work completed is not always work acceptable

A payment application may report that an activity is complete even though punch-list, testing, commissioning or corrective work remains.

That does not necessarily mean the original percentage was unreasonable. The disputed condition may have been discovered later, or the remaining work may be minor compared with the value of the completed installation.

The review should nevertheless distinguish among:

• Work physically installed
• Work inspected or tested
• Work accepted under the contract
• Incomplete work
• Defective or nonconforming work
• Corrective work
• Closeout obligations

These categories should not be combined without understanding the contract requirements and the timing of the observed conditions.

10. Payment history should be reconstructed over time

A single payment application provides a snapshot. The complete series shows how the project’s financial position developed.

When the applications are placed in sequence, the reviewer can evaluate:

• Changes in reported progress
• Adjustments to previously billed amounts
• Movement between schedule-of-values lines
• Stored materials carried over multiple periods
• Retainage changes
• The timing of change-order incorporation
• Reductions or corrections made during review
• Whether the remaining balance kept pace with the remaining work

This history is particularly important when evaluating overbilling, cost overruns or cost-to-complete. A concern that appears obvious in the final application may have developed gradually across several billing periods.

A practical approach to reviewing a payment application

A reliable review should connect the billing record to the project record.

At a minimum, I would want to compare the payment application with:

• The executed contract and payment provisions
• The current schedule of values
• Approved change orders
• Subcontractor payment applications
• Invoices supporting stored materials
• Lien waivers and proof of payment where relevant
• Job-cost and committed-cost reports
• Progress photographs and field reports
• Current project schedules
• Deficiency and punch-list records
• The contractor’s current cost-to-complete forecast

Not every document will be required in every matter. The appropriate review depends on the disputed issues, contract structure and available records.

A payment application can be an important contemporaneous record. It can show what was billed, how progress was allocated and what the project team approved at a particular point in time. It should not be disregarded.

It should also not be asked to establish more than it actually records.

The most supportable conclusions generally emerge when the payment application is tested against the contract, underlying cost information, project chronology and observed field conditions. That analysis can help distinguish a reasonable progress estimate from a timing difference, unsupported billing, accounting error or more significant project-control problem.

ABOUT THE AUTHOR

Robert Hession is the Principal of RFH Partners, LLC and a construction expert witness with more than 30 years of executive and hands-on experience in commercial construction. He assists plaintiff and defense counsel with construction claims, defects and standard of care, delays, change orders, cost overruns, contractor billing and cost-to-complete analysis.

rfhpartnersllc.com  |  [email protected]  |  646-593-1423