Audit Report On The Compliance Of MDO Development Corporation With Its Lease Agreement

This audit determined whether MDO Development Corporation (MDO) properly reported its gross receipts, correctly calculated and paid its rent due the City, and complied with certain non-revenue terms of the lease agreement.

On October 4, 1979, the City of New York (City), entered into a 25-year lease agreement with MDO to construct and operate a restaurant located along the East River between 30th Street and 32nd Street in Manhattan. On December 30, 2001, the City, through the Department of Small Business Services (DSBS), amended the lease agreement with MDO and extended the term to August 31, 2030. The Economic Development Corporation (EDC) administers the terms of the agreement with MDO on behalf of DSBS.

Under the amended lease agreement, MDO is required to pay the greater of an annual fixed rent or percentage rent. For calendar year 2009, annual fixed rent was $495,000 and the percentage rent was 6 percent of $10,500,000 or less in gross receipts, plus 7 percent of gross receipts in excess of $10,500,000. The agreement allows certain exclusions (e.g., commissions paid to third parties) from the gross receipts.

In addition, MDO is to maintain a security deposit of $50,000 with the City, pay all utilities charges, maintain proper insurance coverage, expend $450,000 on tenant improvements within two years of the amended lease’s commencement date, and submit quarterly income statements and a certified annual income statement with a reconciliation of income reported to the City.

For calendar year 2009, MDO reported $6,190,181 in gross receipts and paid the City $495,000 in fixed rent and $4,142 in late charges.

Audit Findings and Conclusions

MDO maintained the required insurance coverage that named the City and EDC as additional insured parties, maintained the required security deposit, and paid all utilities charges.

However, weaknesses in MDO’s control procedures prevented us from determining whether MDO accurately reported all of its gross receipts from its restaurant and banquet operations and whether it paid the appropriate fees to the City. Although MDO has sufficient controls over the recording of revenue from food and beverages purchased within the dining room, its controls over the bar operation and the Crow’s Nest (the outdoor dining area) need to be enhanced to ensure that all gross receipts derived from beverage sales are properly recorded and reported to the City. We found that MDO staff circumvented its procedures by entering an excessive number of ‘No-Sale’ transactions and by cancelling orders entered in their point of sale (POS) system. Since bar and Crow’s Nest revenue is reported as sales from its restaurant operation, it is reasonable to conclude that gross receipts were not accurately reported, and thus we could not determine if any additional rent is due the City. In addition, we were not able to determine whether MDO expended at least $450,000 on tenant improvements because MDO did not provide sufficient documentation to support the expenditures.

Audit Recommendations

We make eight recommendations—three to MDO concerning the operation of the restaurant and five to EDC concerning the oversight of this concession. Below are some of the recommendations.

MDO should:

• Take immediate action to strengthen its financial controls.
• Complete all required tenant improvements as required under Article 18 of the lease agreement.
• Submit to EDC complete documentation supporting the completion of specific tenant improvements and the actual amount spent.

EDC should:

• Ensure that MDO implements the proper controls necessary to address the deficiencies cited in this report.
• Periodically monitor MDO to ensure that MDO maintains proper financial controls, that all receipts are recorded on MDO’s books and records and on reports submitted to EDC. If MDO refuses to implement or maintain the proper controls, EDC should immediately inform the Department of Small Business Services so that it may consider terminating its lease agreement with MDO.
• Perform a thorough review of the documentation and improvements to ensure that the improvements and associated costs meet the requirements of the contract.

Discussion of Audit Results

MDO and EDC officials generally agreed with the audit’s findings and recommendations. However, MDO chose not to implement certain recommendations because it believes that several of its existing controls are sufficient. The full texts of the responses received from MDO and EDC are included as addenda to this report.