Global Policy Forum

By James Glanz

The State Department agency in charge of $1.4 billion in reconstruction money in Iraq used an accounting shell game to hide ballooning cost overruns on its projects there and knowingly withheld information on schedule delays from Congress, a federal audit released late Friday has found. The agency hid construction overruns by listing them as overhead or administrative costs, according to the audit, written by the Special Inspector General for Iraq Reconstruction, an independent office that reports to Congress, the Pentagon and the State Department. Called the United States Agency for International Development, or A.I.D., the agency administers foreign aid projects around the world. It has been working in Iraq on reconstruction since shortly after the 2003 invasion.

The report by the inspector general's office does not give a full accounting of all projects financed by the agency's $1.4 billion budget, but cites several examples. The findings appeared in an audit of a children's hospital in Basra, but they referred to the wider reconstruction activities of the development agency in Iraq. American and Iraqi officials reported this week that the State Department planned to drop Bechtel, its contractor on that project, as signs of budget and scheduling problems began to surface. The United States Embassy in Baghdad referred questions about the audit to the State Department in Washington, where a spokesman, Justin Higgins, said Saturday, "We have not yet had a chance to fully review this report, but certainly will consider it carefully, as we do all the findings of the inspector general." Bechtel has said that because of the deteriorating security in Basra, the hospital project could not be completed as envisioned. But Mr. Higgins said: "Despite the challenges, we are committed to completing this project so that sick children in Basra can receive the medical help they need. The necessary funding is now in place to ensure that will happen."

In March 2005, A.I.D. asked the Iraq Reconstruction and Management Office at the United States Embassy in Baghdad for permission to downsize some projects to ease widespread financing problems. In its request, it said that it had to "absorb greatly increased construction costs" at the Basra hospital and that it would make a modest shift of priorities and reduce "contractor overhead" on the project. The embassy office approved the request. But the audit found that the agency interpreted the document as permission to change reporting of costs across its program. Referring to the embassy office's approval, the inspector general wrote, "The memorandum was not intended to give U.S.A.I.D. blanket permission to change the reporting of all indirect costs."

The hospital's construction budget was $50 million. By April of this year, Bechtel had told the aid agency that because of escalating costs for security and other problems, the project would actually cost $98 million to complete. But in an official report to Congress that month, the agency "was reporting the hospital project cost as $50 million," the inspector general wrote in his report. The rest was reclassified as overhead, or "indirect costs." According to a contracting officer at the agency who was cited in the report, the agency "did not report these costs so it could stay within the $50 million authorization." "We find the entire agreement unclear," the inspector general wrote of the A.I.D. request approved by the embassy. "The document states that hospital project cost increases would be offset by reducing contractor overhead allocated to the project, but project reports for the period show no effort to reduce overhead." The report said it suspected that other unreported costs on the hospital could drive the tab even higher.

In another case cited in the report, a power station project in Musayyib, the direct construction cost cited by the development agency was $6.6 million, while the overhead cost was $27.6 million.One result is that the project's overhead, a figure that normally runs to a maximum of 30 percent, was a stunning 418 percent.

The figures were even adjusted in the opposite direction when that helped the agency balance its books, the inspector general found. On an electricity project at the Baghdad South power station, direct construction costs were reported by the agency as $164.3 million and indirect or overhead costs as $1.4 million. That is just 0.8 percent overhead in a country where security costs are often staggering. A contracting officer told the inspector general that the agency adjusted the figures "to stay within the authorization for each project." The overall effect, the report said, was a "serious misstatement of hospital project costs." The true cost could rise as high as $169.5 million, even after accounting for at least $30 million pledged for medical equipment by a charitable organization.

The inspector general also found that the agency had not reported known schedule delays to Congress. On March 26, 2006, Bechtel informed the agency that the hospital project was 273 days behind, the inspector general wrote. But in its April report to Congress on the status of all projects, "U.S.A.I.D. reported no problems with the project schedule." In a letter responding to the inspector general's findings, Joseph A. Saloom, the newly appointed director of the reconstruction office at the United States Embassy, said he would take steps to improve the reporting of the costs of reconstruction projects in Iraq. Mr. Saloom took little exception to the main findings. In the letter, Mr. Saloom said his office had been given new powers by the American ambassador in Baghdad, Zalmay Khalilzad, to request clear financing information on American reconstruction projects. Mr. Saloom wrote that he agreed with the inspector general's conclusion that this shift would help "preclude surprises such as occurred on the Basra hospital project." "The U.S. Mission agrees that accurate monitoring of projects requires allocating indirect costs in a systematic way that reflects accurately the true indirect costs attributable to specific activities and projects, such as a Basra children's hospital," Mr. Saloom wrote.