“GAAP Galore”

Countering an Auditor’s Report, then Reaching
a Settlement

Our Client: The Property Owner

Summary

The property owner leased a 100,000-square-foot building to a single tenant for a term of 10 years. After the sixth year, the tenant engaged a contingency audit firm to audit the escalation charges. The auditor, who was not a CPA, reviewed thousands of invoices paid during the tenant’s entire period of tenancy and, per their interpretation of the lease document, “rebuilt” the Base Year and subsequent years’ escalatable expenses. The audit firm concluded that the base year should have been higher, critiqued every expense in each subsequent year’s escalatable expenses, and wrote an opinion enumerating which should and should not have been passed through to the tenant. The auditor excluded a large share of the expenses as “not permitted by GAAP,” even though GAAP itself is general in nature and expresses no opinion about specific expenses. The audit report was used to justify a $150,000 refund claim by the tenant. The audit firm’s contingency agreement with the tenant said it would get 33 percent of such a claim (surprisingly, the fee was due even if the tenant was unsuccessful in collecting the entire claim from the property owner). When the property owner declined to pay the full claim, the tenant refused to pay normal rent until the dispute was resolved.

Our Contribution

We reviewed the auditor’s recommendations for the Base Year and each subsequent year, and we converted the auditor’s redefined expenses into annual summaries for comparison with the Base Year. We found that the property owner had made some errors, most of which occurred due to inconsistent treatment of certain expenses and capital costs year to year. However, we also found meaningful inconsistencies in the auditor’s report. After using all of the auditor’s expenses to reconstruct each year including the Base Year, expenses in Lease Years 2, 3, 4 and 6 would have been lower than the Base Year. Using the auditor’s opinions, only Year 5’s expenses were high enough to exceed the Base Year. This outcome was a virtual impossibility, since the level of services provided to the tenant, and their associated cost, never declined below that of the Base Year. And like all base-year leases, this one too was designed for the tenant to pay the cost of inflation associated with the services it received.

Conclusion

The property owner acknowledged making errors totaling $50,000 and offered to settle with the tenant for that amount. The tenant subsequently paid all back rent and agreed to the $50,000 settlement, thereby waiving the remaining $100,000 claim.