Brands at risk: The OIG looks at the USPS-CBRE contract

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The USPS Office of Inspector General has just issued an audit report about the Postal Service’s contract with CB Richard Ellis.  CBRE became the Postal Service's exclusive real estate agent in June 2011.  Considering that the Postal Service leases 24,000 properties and owns 9,000, that's a big portfolio to manage, and outsourcing to CBRE was a big step.  

The OIG's report, “Contracting of Real Estate Management Services,” identifies three areas of concern in the relationship with CBRE: conflicts of interest, no maximum contract value, and a lack of oversight.  “As a result,” writes the OIG, “it is difficult for the Postal Service to determine whether the outsourcing effort has been or will be effective in reducing costs.” And it's not just about costs.  “Ineffective contract oversight," says the OIG, "poses an increased risk to the Postal Service’s finances, brand, and reputation.”

(The OIG also issued a report recommending that the Postal Service stop contracting work to Accenture, an information technology and consulting firm that's one of the Postal Service's largest contractors, because of the risk of fraud.  More on that another day.)

The Postal Service’s contract with CBRE has become the subject of considerable controversy.  Postal lessors — the people who own the 24,000 properties housing post offices — have complained about various aspects of the new arrangement, including the commission they must pay CBRE when leases are renewed.  CBRE is also the Postal Service’s real estate agent for the sale of postal facilities, so it’s been targeted by critics for its role in the sale of historic post office buildings.  The fact that the Chairman of CBRE’s Board of Directors is Richard Blum, husband of California Senator Dianne Feinstein, has fueled the controversy.

The OIG report is fairly critical of the USPS-CBRE contract, but the Postal Service and CBRE get off easy.  The OIG doesn’t get into the lessors’ complaints, the sale of historic post offices, or the Blum-Feinstein connection.  The report could have been a lot worse.  Here’s a summary of what’s in it — and what’s not.

 

The wrong incentive

The OIG identifies two aspects to the conflict-of-interest issue.  The first is the fact that CBRE gets a commission when it negotiates a lease renewal on behalf of the Postal Service.  The commission is a percentage of the amount of the lease, so CBRE has an incentive to negotiate a higher rent — good for the lessor, bad for the Postal Service. 

Because of the Postal Service’s financial situation and the changing landscape in the commercial real estate market over the past few years, the Postal Service has been pushing for lower rents.  The OIG notes that the Postal Service established a target for reduced lease rates, but in the first year of the contract CBRE did not meet the target.  The implication is that CBRE had little incentive to meet the target because it benefited by higher rents.

It’s hard to know what to make of this criticism.  The lessors have been complaining that the Postal Service has been pushing too hard for lower rents when negotiating lease renewals.  Sometimes the Postal Service wants a reduction of 20 or 30 percent or even more, and there are often other demands, like an early termination clause or making the lessor responsible for maintenance costs or building improvements that the Postal Service had previously paid for. 

In response to a draft of the OIG report, Mr. Tom Samra, USPS Vice President of Facilities, explains that there’s nothing to this conflict-of-interest criticism.  CBRE provides the market data used to determine the value of the rental property, and Postal Service real estate specialists review the data.

The OIG’s point is still valid, and one wonders why the Postal Service thought it was a good idea to turn lease negotiations over to an outside contractor who benefits from having the Postal Service pay higher rents.  Mr. Samra’s letter does not respond directly to this concern.

 

Dual agency

A second aspect of the conflict-of-interest problem is that in some cases CBRE represented both the Postal Service and the lessor in the lease negotiations.  Mr. Samra says that “dual agency” is a type of “commercially acceptable real estate transaction,” and besides, from June 2011 to December 2012, there were only twelve cases where CBRE represented both the Postal Service and the lessor.

Acceptable or not, dual agency represents a conflict of interest that, in the OIG’s words, gives “the appearance of impropriety.”  It’s not hard to see why.  An Internet search quickly turns up a number of articles about the problems associated with dual agency. One article by a real estate expert is entitled “‘Dual Agency’ is Just Plain Old-Fashioned Conflict of Interest.”  New York State’s Office of General Council has a page entitled “Be wary of dual agency.”  And the Consumer Advocates in American Real Estate (CAARA) has an article too: “Dual Agency is the Ultimate "Bait and Switch." 

The CAARA article begins like this: “Dual agency occurs when real estate agents claim to represent both the buyer and the seller on the same transaction, creating an impossible conflict of interest. It is branded (even marketed) and legalized under different names depending on the state. It is often misnamed designated agency or facilitator. Despite attempts to distinguish these terms, they all end up meaning the same thing — legalized fraud.”

 

The amount of the contract

Another problem that the OIG identifies in the CBRE contract is the absence of a maximum amount, which creates the risk of escalating costs.  In fact, postal officials increased contract funding from $2 million to $6 million and, as of February 2013, contract payments exceeded $3 million.  As the OIG report states, "Without establishing a maximum contract value the Postal Service is at risk of escalating uncontrolled future contract costs."

The OIG report does not explain what services the Postal Service received from CBRE for that $3 million, but we learn a little more in Mr. Samra’s letter.  He explains that there is no base contract fee.  Rather, CBRE is compensated in three ways.  One is the commission the lessor pays CBRE on lease renewals.  The other two involve payments from the Postal Service to CBRE. 

Mr. Samra explains that the Postal Service pays CBRE a commission for “a completed disposal/outlease transaction tied to a contractually agreed to fee structure.”  What this means goes unexplained, but it apparently refers to the commission CBRE earns when it disposes of a USPS property — like selling a post office building — or when it arranges to lease space within a USPS facility to a tenant (an “outlease transaction”). 

According to its FY 2012 financial statement, the Postal Service brought in $148 million from the sale of property and equipment.  Some portion of that would have been facilities sales for which CBRE earned a commission. 

In another OIG report, we learn that the commission rate was 4 percent.  It’s likely, then, that a large portion of the $3 million that the Postal Service paid CBRE was as commission on the sale of postal real estate, including the sale of historic post office buildings like those in Greenwich, ConnecticutPinehurst, North Carolina; and Venice, California.

As for outleasing, the Postal Service sometimes leases out space in buildings it owns.  For example, the Postal Service leases some space in the Lautenberg Post Office to the GSA. CBRE was apparently paid for negotiating leases in these cases.  But there probably aren't very many cases like this, and outleasing fees probably aren't a big part of the $3 million the Postal Service paid CBRE.

In addition to the commission on sales and outleasing, the Postal Service pays CBRE what Mr. Samra describes as a “due diligence management fee for coordination/tracking of 3rd party vendor reports, when needed.”  In Mr. Samra’s letter, the amount of the fee is redacted.  Not that the percentage would reveal much, considering there’s no information about how large the contracts were.

It’s not likely a third-party vendor would need to be involved with renewing leases on post offices, so those fees are probably associated with the sale of postal facilities.  For example, when the Postal Service wants to sell a historic post office, there must be an environmental study, a building structure report, and so on.  CBRE contracts this work to third parties, and then gets a due diligence fee from the Postal Service for overseeing the work. 

The OIG report doesn’t get into it, but there’s another potential for conflict of interests in this regard as well.  When CBRE needed a building structures report for the sale of the Berkeley post office, it hired a company called Tetra Tech, a consulting firm that just happened to have had prior business relations with Mr. Blum and CBRE involving engineering projects in Iraq and Afghanistan.  There’s more on that conflict-of-interest issue here.

 

Lessor-paid commissions

Since it’s the lessor and not the Postal Service who pays the commission on lease renewals, the OIG did not look into how much money CBRE might be earning from managing leases and what issues might arise, but it’s an interesting question. 

The Postal Service says that there are over 5,000 lease renewals each year.  According to the USPS facilities report, the leases on about 4,500 postal facilities expired during fiscal year 2012, and the total rent on those properties came to about $130 million.  Since CBRE and the Postal Service have been asking for rent reductions, the value on the new leases was probably less than that.  Let's say $100 million.  Nearly all of the leases negotiated in 2012 were for a base term of five years (and renewable beyond that), which would bring the total value of the leases renewed in FY 2012 to around a half billion dollars.

The OIG’s report doesn’t say how much commission CBRE earned on lease renewals, but another OIG report indicates that lessors pay a commission of 2 percent of the total value of the lease.  CBRE may not have been involved with every lease renewal, but a 2 percent commission on $500 million would have yielded $10 million for CBRE. 

Considering that renewing leases is an ongoing activity, that’s $10 million annually for the life of the contract — not bad for just renewing leases.  Plus, the Postal Service doesn’t have to pay it.  Those millions are coming out of the pockets of the people who own post office buildings — many of them regular folks who own a building or two as a retirement investment.

 

Lack of oversight

Another problem identified by the OIG involves oversight of the CBRE contract.  The OIG reviewed 239 CBRE invoices (valued at $1.9 million), and found 227 (totaling 
$1.7 million) in which the Postal Service’s facilities employee approving the invoice was not someone authorized to approve them, i.e., the Contracting Operator (CO) or an appointed Contracting Operator Representative (COR). 

Even more problematic, the OIG discovered that 124 of the invoices (totaling $1.1 million) were approved and certified by the same USPS Facilities employee who requested the work order.  Normally, of course, the employee who requests a work order is not the same person who approves it.  The OIG said that this practice “presents an increased risk of fraud,” and “ineffective contract oversight poses an increased risk to the Postal Service’s finances, brand, and reputation.”

Mr. Samra commented on this concern in the OIG report.  He says that the authority to certify invoices has been properly delegated to USPS real estate specialists, and the individual invoices are considered “low risk” so there’s not much danger in having the same person request and certify them.  Nonetheless, says Mr. Samra, in order to avoid “an appearance of risk,” the Postal Service will be changing its practices in the future.

Although the OIG doesn’t get into it, part of the oversight problem may have to do with the fact that there are fewer real estate specialists at the Postal Service these days.  Mr. Samra points to the declining numbers (the real estate staff “continues to attrite at increasing rates”) as one of the reasons that the Postal Service contracted with CBRE, but that probably puts things backwards.  More likely, the attrition was a consequence of outsourcing work to CBRE, not a cause for it.

 

What the OIG left out

The OIG report leaves a lot out.  It doesn’t provide details about what CBRE did to earn that $3 million, it doesn’t get into the conflict of interest associated with the companies CBRE hires on behalf of the Postal Service, and it doesn’t have much to say about the commission lessors must pay CBRE under this new arrangement.  But there’s a lot more that the OIG doesn’t cover in this report.

Coercing lessors: There have been many cases where CBRE played hardball in lease negotiations and threatened the lessor with an ultimatum.  In so many words, explicit or implicit, the message was clear: If you don’t accept the terms we’ve offered, the Postal Service will close the post office as an emergency suspension, and you’ll get the blame. 

That even happened to the President of the Association of United States Postal Lessors (AUSPL).  He owned a small post office in Climax, Georgia, and the Postal Service closed it for an emergency suspension because the lease negotiations broke down — over a matter of a few dollars.  

When the OIG announced last year that it was doing a report about the CBRE contract and invited comments on the topic, it’s likely that at least a few people submitted comments on this topic, but there’s not even a reference to it in the OIG’s report.

Sell-and-lease deals: The OIG report discusses dual agency in the context of lease renewals, but there’s another form of double dipping going on.  When the Postal Service decides to sell a post office, it often opens a new retail facility in another location, typically a leased space.  (That's what happened in Palm Beach, Florida, and Westport, Connecticut, for example.)  In these cases, CBRE earns a commission as an agent for the sale of the building and then it gets another commission for setting up the lease on the new space.  Since it profits twice from each deal, CBRE has an increased incentive to push for selling more post offices. 

It’s worth noting that the Postal Service has provided contradictory information about the role of CBRE on these sales.  In one news article about the controversial sale of the Berkeley post office, both the Postal Service and CBRE told the reporter that “when CBRE handles the transactions, it does not advise the Postal Service which facilities to put on the market.”  But another news article describes CBRE “as an advisor on which properties should be sold.” Dismissing any possible conflict of interest CBRE may have in performing its services, a USPS spokesperson said, “They’re just giving advice, it’s up to us if we want to take it.”

Disposal of excess property: There are many other questions about how the Postal Service is disposing of its properties.  A host of laws and regulations govern how the Postal Service “relocates” retail services from buildings it wants to sell and how it disposes of property, particularly historic structures.  There’s evidence that the Postal Service may not always be following these regulations. 

For example, 41 CFR 102-73.20 says that federal agencies with space needs are supposed to give “priority consideration” to space in postal facilities.  The Postal Service does not seem to have made any effort to lease out excess space in post offices before deciding to sell them.  There's also an issue about whether the Postal Service is following the proper procedures on relocating retail services from a historic post office it wants to sell, as discussed in this previous post.  According to the National Trust, the Postal Service is also failing to follow Section 106 of the National Historic Preservation Act, which governs the disposal of historic properties.  

CBRE plays several roles in the sale of historic post offices — finding a buyer, helping to negotiate a price, contracting consulting firms to do environmental studies and structure reports, etc. — and it's making a lot of money for providing these services.  While following federal regulations on the disposal of postal properties is ultimately the responsibility of the Postal Service, CBRE is the Postal Service's partner on the sales, so it must share some of that responsibility.

 

Reputations at risk

One of the main concerns of the OIG’s report is that improprieties associated with the CBRE contract will do harm to the Postal Service’s brand. “Ineffective contract oversight,” writes the OIG, “poses an increased risk to the Postal Service’s finances, brand, and reputation.” 

In his comments on the OIG report, Mr. Samra replies to that concern:  “We do not believe that such outsourcing has tarnished the Postal Service’s reputation.  It has only reinforced that the Postal Service continues to seek opportunities and strategies that ultimately result in favorable outcomes that are determined to be in the best interest of the Postal Service, economically and operationally.”

There are a lot of postal lessors out there who would probably take exception to Mr. Samra’s comments.  Many have complained that the Postal Service waits to the last minute before starting the negotiation, and then the lessor doesn't don't even know if he's dealing with a USPS employee or CBRE.  Then there are complaints about commissions, the hardball tactics, the insistence on an early termination clause, the threat of an emergency suspension, and all the rest.  The new relationship with CBRE has not gone over well. 

Then there's all the controversy over the sale of historic post offices.  Communities across the country — Ukiah, Venice, La JollaSanta Monica, Berkeley, and Northfield — have put up a huge fight to save their landmark post office, and in the process discovered that the Postal Service isn't listening, doesn't care, and can't be trusted.  That can't be good for the Postal Service brand.

CBRE's role in these sales has inevitably put the company and Mr. Blum, the chairman of the board, at the center of the controversies.  And that's leading to negative publicity.  There have been several news items about the connections between the Postal Service, CBRE, Blum, and Feinstein, including one just a couple of days ago entitled “Feinstein’s Husband and the Postal Service” on Annenberg’s FactCheck.org

The story is getting extra mileage because it appeals to Feinstein’s critics on both the left and the right.  A few months ago, there was a piece in the left-leaning DailyKos, and last week a piece on Snopes.com led to articles in the New American (a publication of the John Birch Society) and Light from the Right. The Postal Service and Senator Feinstein’s office have had to issue statements to the media saying there’s nothing to the allegations of misconduct or a conflict of interest.  That may or may not be true, but the publicity is definitely bad.

The Postal Service says that outsourcing real estate management work to a private contractor is just good business.  “Capitalizing on the expertise of a nationally recognized leader in its industry is viewed as a strategic strength,” writes Mr. Samra.  “It indicates to the world that the Postal Service has a solid understanding of real estate markets and what it needs to do to maximize the value of its owned assets and reduce the expense associated with its leased portfolio.”

Selling off the country's legacy of historic post offices is a strange way to maximize the value of the Postal Service's assets, and outsourcing doesn't always reduce expenses.  As the OIG says in the report, "it is difficult to determine" if the Postal Service is really saving anything.  As usual, the Postal Service says it is just trying to “act like a business,” but it seems to be forgetting that it's also a government entity that’s supposed to be operating for the public good. 

There are still a lot of outstanding questions about the CBRE contract, and it’s not likely we’ve heard the last on this topic.  At this point, though, one thing seems clear: When it comes to the issue of reputation, brand, and good will, neither the Postal Service nor CBRE is coming out ahead on this deal.


(Photo credits: Norwich, CT post office for sale (sold); Mr. Tom Samra, USPS VP, Facilities; dual agency cartoonNorwich, MN post office for saleCBRE's LA headquarters;  Villa Park, IL post office (for sale); former post office in Climax, GAKingston, PA post office for saleCBRE's Richard Blum and Senator Dianne Feinstein)

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