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Summary of LAO Findings and Recommendations on the 2013-14 Budget

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 Go Back  State Controller Recommend assessment of IT project in addition to reconciliation and legal efforts Recommend that the Legislature require a thorough evaluation of the suspended 21st Century IT Project, in addition to the payroll reconciliation and legal efforts currently proposed. 5-20-13

Detailed Narrative

21st Century Project Update

Human Resources and Payroll Management System. In 2004, the State Controller’s Office (SCO) proposed the 21st Century Project (TFC) Project, the information technology (IT) effort to replace the existing statewide human resources management and payroll systems used to pay approximately 294,000 state employees. The new system, also called MyCalPAYS, was intended to allow the state to improve management processes such as payroll, benefits administration, timekeeping, and include self-services access for employee and managers, among other capabilities. The existing systems, commonly referred to as the “legacy systems,” were developed more than 30 years ago and are inflexible, fragmented, and costly to maintain. In 2005, the Legislature approved the project with an estimated total cost of $130 million with full implementation scheduled for July 2009. Over time the project’s cost ballooned and delays extended completion. The Special Project Report 5, the last approved project plan, increased the estimated total cost to $373 million and extended full implementation to September 2013.

System Errors and Contract Termination. In February 2013, after the project experienced various problems during the pilot stage, the SCO terminated the contract with the project’s primary vendor, SAP Public Services Inc. (SAP). The 1,300 SCO employees participating in the pilot phase experienced various payroll errors during the eight months the MyCalPAYS System was operative (from June, 2012-January, 2013). System errors included under compensation or over compensation of wages, failure to issue payments to retirement accounts, and erroneous deduction related to employee insurance. The system errors had real world impacts in the lives of the affected state employees. At the time of the contract termination, the state had spent over $262 million of the $373 million estimated total project cost. For further information regarding the TFC Project and events leading to the contract termination see our earlier review here.

Update Since Contract Termination.  The SCO’s first objective upon the termination of the SAP contract in February 2013 was to prevent further payroll errors by transitioning the SCO employees back to the legacy system, which was reliably paying other state employees. The SCO also began efforts to run parallel payrolls on MyCalPAYS and the legacy system to identify inaccuracies in the previous eight months of payroll and ensure that no pay or benefit discrepancies were left unresolved, a process referred to as reconciliation. Soon after the termination of the SAP contract, the SCO identified stabilization, reconciliation, and six other priorities in an eight-point strategy to move forward the state’s need for a modernized human resources and payroll system. The SCO’s eight-point  strategy is as follows:

  1. Roll back to the legacy system to stabilize payroll.
  2. Reconcile payroll to ensure all parties are made whole.
  3. Conduct an independent assessment to validate that the SAP software will work for California.
  4. Explore new project models where the California Technology Agency, working through the Office of System Integration (OSI) or the Franchise Tax Board, would provide project management and the SCO would provide business expertise.
  5. Leverage statewide expertise for project planning, procurement models, management, organization structure, contract imperatives, and vendor management.
  6. Leverage Chapter 139, Statutes of 2012 (AB 1498, Buchanan), which directed the administration develop a plan for moving IT procurement authority from DGS to the Department of Technology and the recommendations of the California Task Force on Re-engineering IT Procurement for Success which is charged with identifying best practices and innovative solutions aimed at ensuring the right vendor can be hired at the best price and holding those vendors accountable for their performance.
  7. Review state payroll and human resource processes to conform to best practices.
  8. Develop a communications plan to keep all stakeholders informed.

It was the understanding of our office that SCO would aim to move forward with the eight-point strategy through the 2013-14 budget year and possibly beyond.

The 2013-14 May Revision Proposal

The Governor’s 2013-14 May Revision proposes $14.6 million ($11.9 General Fund) in one-time funding and 40 one-year limited term positions for reconciliation, suspension, and legal activities.

Reconcile SCO Employee Payroll. The Governor proposes 24.2 positions to ensure SCO employees and its payroll vendors—primarily healthcare providers, retirement savings systems, and tax agencies—received accurate payments and other information during the eight months that the new IT system was operative. In particular, the department has begun a systematic comparison between actual payroll outcomes from the MyCalPAYS system and what would have occurred had the existing functional legacy system been operative during those months. This process includes recreating past payroll cycles, a time and resource intensive task that relies on original source documents—including timesheets, employee histories, and other human resource documentation—to reenact past payrolls.

Suspend Failed IT System. Although payrolls for SCO employees reverted to the stable legacy systems beginning in February, 2013, MyCalPAYS remains the state payroll “system of record” for the months it was operative. (The payroll system of record preserves employment history, payroll transactions, and other sensitive data to be available should human resource employees need to verify or compare past information.) Because the MyCalPAYS system remains the system of record for SCO’s 1,300 employees over this period, its data and system architecture must be preserved. The administration’s May Revision proposal includes resources to preserve the MyCalPAYS system as the chronological system of record for this period.

Defend State's Legal Position. The Administration’s proposal includes 9.2 positions—primarily data and systems specialists—to support SCO’s legal office in preparing for contractually mandated mediation and potential legal proceedings with SAP. In addition to these staff, the proposal includes $1 million for outside legal counsel. The terminated contract with SAP requires that the two parties undertake contractual mediation, which is to begin in June, 2013. Should mediation not resolve contractual objections between parties, further legal proceedings likely would commence.

Budget Bill Language. The Governor’s May Revision proposal also includes budget bill language for reconciliation and legal activities, and data center services.

  • Reconciliation and Legal Activities. The proposal includes control section language that would appropriate up to $2.6 million for reconciliation and legal activities of the TFC Project.
  • Date Center Services. The proposal includes provisional language that would authorize the Department of Finance to increase expenditure authority by up to $2.3 million for data center services upon notification to the Joint Legislative Budget Committee (JLBC). According to SCO, data center services are required to support the MyCalPAYS System during reconciliation and legal activities. The SCO is working to suspend the MyCalPAYS System and is expected to complete these activities by January 2014, at which time data centers services cost will decrease. The provisional language is requested to allow for augmentation of the SCO budget if it is not possible to complete suspension activities by January, 2014. 

Findings

Reconciliation Rightfully a Priority. Accurate and timely management of pay and other employee compensation activities is critical. Failure to administer these functions due to technical failures of the MyCalPAYS System resulted in economic disruptions for state employees and vendors and could result in financial penalties for the state. The errors of the MyCalPAYS Systems had real world implications for the affected SCO employees. Medical, dental, and vision services were denied due to errors, and employees may have had difficulty meeting their own financial commitments due to underpayment, among other impacts. The affected employees and vendors should be correctly compensated. In addition, if errors remain uncorrected the state could face litigation from harmed state employees or vendors. For these reasons, reconciliation—identifying and correcting inaccuracies that occurred during the eight months the MyCalPAYS System issued payroll—is a crucial activity.

Technology and Processes Assessment Conspicuously Absent. There are numerous functionality and stability issues that justify the continued pursuit of an updated payroll system, including the capabilities to respond quickly to payroll changes, issue reports to other state agencies and stakeholders, and allow employees online access to payroll and tax information. In attempting to use past experience to inform future project direction, components of the SCO’s eight-point strategy include efforts to assess the TFC Project. Specifically, evaluating the SAP software and the work completed by SAP to determine if it can be reused should the state continue the TFC Project in something like its prior form, potential simplification of state payroll practices, and alternative project models. The Governor’s May Revision proposal, however, does not include such an assessment.

According to the SCO, the assessment will be delayed until after legal efforts are resolved, which could take several years, as discussed further below. A delayed evaluation of the TFC Project may be of decreased value because of the difficulty identifying lessons learned after project staff have left the project. A timely project assessment can more accurately identify opportunities for improvement. Furthermore, a timely assessment will move the state towards a modernized payroll system more quickly, reduce the length of time that state must depend on the aged legacy system, and thereby reduce the risk of a significant legacy system disruptions in future years.

The Legislature may wish to weigh the possible benefits of a favorable legal outcome against the importance of capturing lessons learned that might impact other current and future state IT projects. The state currently has approximately 50 approved reportable IT projects. The total cost of completing all currently approved reportable IT projects over a number of fiscal years is estimated to be about $5 billion. Lessons captured from an assessment of the TFC Project may increase the probability of current and future projects’ successes, a value to the state that, while uncertain, is potentially large.

Legal Considerations Appear to Take Precedence. Conversations with project staff and the absence of an inward-looking assessment of MyCalPAYS’ failure in the current proposal indicates to our office that the administration has prioritized its legal efforts over such an assessment. In our view, an assessment is one of the first steps the state must take to modernize its aged payroll systems.

How Much Could the State Lose (or Recover) Through Legal Proceedings? Should the contractually mandated mediation between SCO and its primary vendor, SAP, not resolve each parties’ grievances, legal proceedings likely would commence. Under terms of the original contract, the state could seek to recover from SAP 150 percent of the entire contract value, or approximately $135 million. On the other hand, SAP may claim the SCO terminated its contract for “convenience,” and seek to receive payment from the state for project activities underway at the time the contract was terminated, an amount project staff indicate could be as much as $55 million.

Legacy Payroll Systems Only Option Going Forward. As we noted in our earlier review of the TFC project, these systems—though outdated, inflexible, costly to maintain, and at risk of eventual failure—seem a credible (and, in practice, the only) alternative for the state to use over the next few years. Our review of the TFC Project history and complexity, as well as the state’s experience with similarly large and complex IT system development, suggest that the state must rely on these legacy systems for as many as ten years following the commencement of a thorough project assessment. This assessment, in our view, marks the first step toward reprocurement, development, and implementation of an updated state payroll system. Continued long-term dependence on the already 30-year-old legacy system increases the state's risk of financial penalties should the system fail.

Budget Bill Language. While the provisional language includes a notification requirement to JLBC, the control section language fails to include the notification requirement. Absence of the JLBC notification requirement could diminish legislative oversight.

Recommendation

Recommend Assessment in Addition to Reconciliation and Legal Efforts. The state faces considerable legal uncertainty as its contractual disagreements with SAP are resolved and potentially litigated—a range we estimate between $55 million in losses to $135 million in contract recovery. In our view, however, an immediate and thorough assessment (which we detailed here earlier) is arguably a higher long-term priority for the state. We recommend therefore that the Legislature appropriate additional resources to the SCO (amounts to be determined in consultation with project staff) beyond those included in the current proposal to conduct an assessment of the TFC Project to date. This is because (1) the state’s other ongoing IT projects may prove more successful if they benefit from an analysis of what led to the TFC Project’s failure and (2) development of a re-envisioned statewide payroll system should not commence until a thorough review has concluded. In addition, we question the value of an assessment that does not commence until legal proceedings are finalized (up to three years from now, according to the proposal) because staff familiar with the project may transition to other projects or out of state service and therefore be unavailable to contribute to the assessment.

In keeping with our earlier recommendation, we suggest the Legislature direct the SCO to contract with a non-state entity to undertake the assessment. In addition, we suggest that OSI be charged with managing the assessment contract. Although the OSI currently provides IT project management and oversight for health and human services projects, its success and expertise with large-scale IT systems development might prove beneficial as SCO undergoes assessment of the TFC Project.