Internal Audit Report

Comprehensive Operational Audit
Real Estate Portfolio Department

January 1, 2011  June 30, 2012




Issue Date: November 13, 2012
Report No. 2012-19

Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 


Table of Contents

Transmittal Letter ..................................................................................................................................................... 3 
Executive Summary ................................................................................................................................................. 4 
Background................................................................................................................................................................ 5 
Conclusion ................................................................................................................................................................. 7 
Schedule of Findings and Recommendations .................................................................................................. 8 












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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Transmittal Letter

Audit Committee
Port of Seattle
Seattle, Washington

We have completed an audit of the Real Estate Portfolio Department. We reviewed information
relating to significant department activities from January 1, 2011  June 30, 2012.
We conducted this performance audit in accordance with generally accepted government
auditing standards. Those standards require that we plan and perform the audit to obtain
sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions
based on our audit objectives. We believe that the evidence obtained provides a reasonable
basis for our findings and conclusions based on our audit objectives.
We extend our appreciation to the Real Estate Portfolio Department staff for their assistance
and cooperation during the audit.


Joyce Kirangi, CPA
Internal Audit, Director








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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Executive Summary

Audit Scope and Objective The purpose of the audit was to determine whether the Real
Estate Portfolio Department has sufficient controls to reasonably ensure:
1. Real Estate Division lease agreements comply with the Port's Real Estate Policies 1 and 2.
2. Real Estate and Seaport Division agreements are effectively managed within PROPWorks.
We reviewed information for the period January 1, 2011  June 30, 2012.

Background  The Real Estate Portfolio Department (REP) is a department of 14 FTEs with an
annual operating budget of approximately $1.3 million. REP is responsible for developing
business agreements for the Real Estate Division's properties. This includes lease agreements
for commercial office space, maritime industrial, retail locations, as well as negotiating
preferential use and right-of-way access for business and local governments. REP also
develops and oversees third-party operational agreements to support specialized operations
such as conference facilities and event planning. Further, the Department oversees the day-today
management of its agreements as well as agreements developed externally by the Seaport
Division. To manage these agreements, the Department uses PROPWorks, which is the Port's
system for managing real estate agreements.

Audit Result Summary The Department has effective controls to manage Real Estate and
Seaport Division agreements within PROPWorks. However, in select instances, we noted that
the controls to ensure full compliance in the development of lease agreements weren't
consistently applied.








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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Background
Department Activities:
The Real Estate Portfolio Department (REP) resides within the Port's Real Estate Division. REP
has two primary responsibilities: develop business agreements for the Real Estate Division's
properties and manage those agreements for the extent of the lease terms. REP also manages
agreements developed for the Real Estate and Seaport Division's properties.
The business agreements developed for the Real Estate Division's properties generally include
all non-aviation and non-seaport container properties owned by the Port. The majority of
agreements are business leases to private companies engaged in retail activities, commercial
operations, maritime industries, and freight operations. The department also negotiates
temporary and long-term use of properties through right-of-way agreements with local
governments and utilities. Business development agreements must comply with state laws
governing Washington State Port Districts' leasing activities (Chapter 53.08 RCW), as well as
the Port's policies for real estate development: RE-1 and RE-2.
In order to manage these lease agreements, REP has a staff group, the Lease Administration
Specialists (LAS), who oversee the Port's PROPWorks lease management system. The LAS
support the Real Estate and Seaport property managers by identifying key lease terms and
adding them into PROPWorks. Such information includes rent levels and dates, utility
calculations, and insurance requirements. The LAS use PROPWorks to identify key tenant
obligations, such as insurance expiration dates and/or applying seasonal utility rate
adjustments. The LAS perform these services for both Real Estate managers as well as
Seaport's property managers.
Department Finances:
Although the development of business agreements contribute a significant portion of the Real
Estate Division's $30 million in annual revenues (up to 5% of the Port's total annual operating
revenues), the Department does not collect any revenue directly from its own leases or other
business agreements; revenues are collected by the Port's Accounts Receivable Department.
The majority of the Department's $1.3 million budget supports staff salaries and benefits
(averaging 84% each fiscal year). REP has limited expenses for supplies and services,
including office supplies temporary staffing, and legal services.
Real Estate Portfolio Department Expenses
Expense Category                  2011 Expenditures   % of 2011 Expenditures
Salaries & Benefits                      $1,118,097.00             84.84%
General Expenses                     $100,121.00            7.60%
Outside Services                        $42,367.00             3.21%
Travel & Other Employee Expenses            $17,329.00             1.31%
Wages & Benefits                      $15,835.00             1.20%
Other Expenses                         $24,096            1.83%
Grand Total                       $1,317,844.00           100.00%
Source: PeopleSoft
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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Department Highlights and Accomplishments
During the course of the audit, we observed the following improvements in management
processes related to lease agreement development and management.
Continuing refinement of the Lease Analysis Template, which evaluates several critical
real estate metrics include return-on-investment, prevailing market conditions, and
associated risks.
Launch of a SharePoint site for managing draft agreements for quality assurance.
Implementation of the most significant upgrade to the PROPWorks system.

Audit Scope and Methodology
We reviewed information for the period of January 1, 2011  June 30, 2012. We utilized a riskbased
audit approach from planning through testing. We gathered information through
interviews, observations, and analytical reviews, in order to obtain a complete understanding of
the Real Estate Portfolio Department activity. We conducted an assessment of significant risks
and identified controls established to mitigate those risks. We evaluated whether the established
controls were functioning effectively as intended.
We applied additional detailed audit procedures to areas with the highest likelihood of significant
negative impact as follows:
1. To determine whether the Department has developed lease agreements in compliance with
significant Port real estate leasing policies and guidelines:
We developed a risk-based sample of 15 agreements for testing
We validated the efforts to identify prevailing market conditions for each agreement
We verified that a Tenant Risk Assessment was completed to evaluate the tenants
financial suitability for the lease agreement terms
We verified that the department routed draft agreements to Port legal and received
confirmation of their consent
2. To determine whether the Department has adequate controls in place to effectively manage
multiple Real Estate and Seaport Division agreements in the Port's PROPWorks systems,
we developed separate risk-based samples for the three major periods in an agreement's
lifespan:
New Lease Agreements executed between January 1, 2011  June 30, 2012
We reviewed five Real Estate and five Seaport agreements to determine whether
they were signed by Port management prior to the effective date (i.e., first date of the
agreement)
We determined whether those new agreements were entered into PROPWorks
within two weeks of the effective date

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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Active Lease Agreements from January 1, 2011  June 30, 2012
We reviewed ten Real Estate and ten Seaport agreements against the following:
We verified the Department's use of auto-letters to remind tenants of their obligations
to remit updated insurance policies to the port annually within 30-days of their
expiration
We reviewed to see how many updated insurance agreements were entered into
PROPWorks within 30 days after the policy's effective date
We identified Consumer Price Index (CPI)-adjustment clauses in the agreements
and reviewed how many adjustments were added to PROPWorks within 30 days of
the effective dates
We identified billing rules for seasonal/annual utility rate adjustments and reviewed
how many of these updates were completed within 30 days of the effective date
Leases Terminated between January 1, 2011  June 30, 2012
We reviewed five Real Estate and five Seaport agreements for the following attribute:
We verified that agreements were only designated as 'terminated' after the final rent,
concession, and/or utility payments were received.
Conclusion
The Department has effective controls to manage Real Estate and Seaport Division agreements
within PROPWorks. However, in select instances, we noted that the controls to ensure full
compliance in the development of lease agreements weren't consistently applied.








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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Schedule of Findings and Recommendations

1. The Department's Controls For Its Real Estate Agreement Development Process Were
Inconsistently Applied To Ensure Compliance With The Port's Real Estate 1 Policy 
The Real Estate Portfolio Department (REP) must develop its agreements in accordance
with the requirements of the Port's Real Estate 1 (RE-1) policy. One of the key RE-1
requirements is the following financial analysis of new and potential tenants to determine
acceptable risk to the Port:
G. Financial Analysis:
The User's ability to meet the financial obligations called for by the Agreement
(including rental payments, costs of required improvements, operations, etc.) shall be
analyzed. Among other means this could be done by:
Obtaining and reviewing financial statements;
Making credit checks and inquiries,
Inquiries of bankers and other references.
In two of seven agreements reviewed, REP developed agreements for tenants with no prior
leasing history without developing a Tenant Risk Analysis. The real estate staff used
unverified information in place of the Department's Tenant Risk Analysis process.
Further, this same issue of inconsistent financial analysis was noted as an audit finding (No.
5) in the Washington State Auditor's January 2010 report of Port Real Estate management
and programs:
"The Port's financial analyses of proposed leases or renewals were inconsistent,
incomplete and sometimes inaccurateReal estate managers did not sufficiently
document financial analyses and did not obtain independent third-party review to make
sure they were accurate, complete and consistent. Port real estate policies require the
divisions to prepare financial analyses but they are not specific enough and should be
revised"
REP continued to inconsistently use its financial analysis control during the audit period,
mirroring the same conditions identified by the State Auditor in their 2010 audit report.

Recommendations:
We recommend management:
Continue with improvements to the lease agreement development process, to ensure
that the Tenant Risk Analysis is used and consistently applied in the determination of an
acceptable financial risk.

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Internal Audit Report
Real Estate Portfolio Department
January 1, 2011  June 30, 2012 

Management Response
Portfolio Management agrees that the finding is accurate and also that an appropriate
level of financial risk analysis of new customers should be done on every transaction.
While acknowledging that the two agreements did not have full financial risk analysis, a
review of the relative risk to the Port was done and it was decided at the time that
further review was not necessary due to a combination of characteristics: short lease
terms (one year and five years), minimal or no Port investment (zero in one case, less
than $3000 in the other), amount of surety to be received, and the apparent stability of
both tenants (one was subsidiary of large Port tenant, the other was an Alaska State
agency).
In the future, this level of analysis will be better documented. Portfolio Management is
currently working with Seaport Finance (who supports our financial analytical needs) to
refine the threshold for and depth of financial analyses on all transactions.











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