National Capitol Area Conference

1. National Capitol Area Conference Patrick Hetherington, CPA Director Finance and Business Liaison Embassy Of Australia November 14, 2011

2. Creative Accounting …… The good kind.

3. Size: Australia and the contiguous United States are nearly the same size, both measuring about 3000 miles coast to coast

4. Population Distribution: Australia the lowest density of any country, and the most urbanised

5. Defence vs. Defense

6. The Defence Materiel Organisation The DMO’s role is to: To equip and sustain the Australian Defence Force. • The Australian Defence Force (ADF) relies on us to provide its equipment on time, on budget and to the required levels of quality and safety • DMO is involved in many of the largest and most demanding projects in Australia. • About 40 per cent of total Australian 2011-12 Defence budget • 1 per cent of Australian GDP • Capital Acquisition program of $5.1 billion in 2011-12 • More than $5.0 billion on sustainment (through-life support) • 190 current major projects • Over 150 minor projects • Over 7000 employees • Over 40 locations throughout Australia and overseas

7. The Balance Sheet • Land and Buildings - $15 billion • Specialist Military Equipment – $36.4 billion • Infrastructure - $5.2 billion • Plant and Equipment - $1.1 billion • Heritage Assets - $0.9 billion • Intangibles - $0.6 billion • Inventories - $5.2 billion Total - $64.4 billion

8. Regulatory Framework • Relevant Legislation includes: • The Financial Management and Accountability (FMA) Act 1997 • The Auditor-General Act 1997 • The Archives Act 1983

9. FMA Act 1997 • Under the FMA Act, the Minister for Finance produces the Finance Minister’s Orders (FMOs) on an annual basis. • The FMOs outline the requirements for the preparation of Financial Reports of Australian Government Entities • FMOs require that the financial statements of each entity comply with Australian Accounting Standards • FMOs have the force of law under the FMA Act

10. The Australian National Audit Office (ANAO) • The Auditor-General is responsible, under theAuditor-General Act 1997(the Act), for providing auditing services to the Parliament and public sector entities. • The ANAO supports the Auditor-General, who is an independent officer of the Parliament. • The Auditor General provides the Parliament with an independent assessment of selected areas of public administration, and assurance about public sector financial reporting, administration, and accountability.

11. ANAO Continued • The ANAO has extensive powers of access to Commonwealth documents and information • The ANAO’s work is governed by its auditing standards, which adopt the standards applied by the auditing profession in Australia • In accordance with these standards, performance audits, financial statement audits and assurance review reports are designed to provide a reasonable level of assurance.

12. The Archives Act 1983 • The Archives Act details document handling and retention requirements • Requirement to maintain financial records for a period of not less than seven years • Records management and adherence to the Act is one of the single biggest causes of adverse audit opinions for Defence

13. Timeline • 2000-01 Australian Government introduces Accrual Reporting for each Agency. • 2003-04 Australian Government introduces Accrual Budgeting for each Agency. • 2004-05 Defence receives significant Audit qualification on its Accounts. • 2004-05 Defence embarks on Remediation Plan. • 2005-06 DMO separates from Defence as a Prescribed Agency. • 2005-06 Defence Accounts qualified, DMO’s Accounts unqualified. • 2006-07 Defence Accounts qualified, DMO’s Accounts unqualified. • 2007-08 Defence and DMO Accounts unqualified

14. Qualified Financial Statements • Qualified Audit Opinion • In my opinion, because of the existence and pervasiveness of the limitations of scope, outlined above in the qualifications paragraphs, and the effect of any adjustments required had the limitations not existed, I am unable to, and do not express an opinion as to whether the financial statements: • Have been prepared in accordance with Finance Minister’s orders made under the Financial management and Accountability Act 1997; and • Give a true and fair view, in accordance with applicable Accounting Standards and other mandatory financial reporting requirements in Australia and the Finance Minister’s Orders, of the financial position of the Department of Defence as at 30 June 2005 and its financial performance and cash flows for the year then ended (and the respective prior year comparative figures). • Hugs and kisses, Auditor-General

15. Areas of Qualification There were five principle areas leading to qualification of Defence’s accounts: General Stores Inventory (approx $2 billion) Explosive Ordnance (approx $300 million) Repairable items ($2.7 billion) Infrastructure, Plant and Equipment and Intangibles ($5.8 billion) Employee Leave Provisions ($1.6 billion)

16. What did we do? • Embarked on a Project to draw together all components necessary for a best practice accrual financial management environment. • The cornerstone of the project was a number of targeted remediation strategies. 31 in total. • “Tiger Teams” focused on the remediation of Category A audit findings.

17. General Stores Inventory(GSI) • Two areas of qualification - Price and Quantity • Over 500,000 stock codes • Millions of items, some more than 50 years old • Disbursed Nationwide • Approximately $2 Billion

18. The Sampling Approach • The data was split into two initial broad categories • Pre -2000 Items; and • Post 2000 Items. • The Pre 2000 items would be the subject of a valuation methodology. • The Post 2000 items would be subject to an evidence collection methodology.

19. Pre 2000 GSI • Little expectation that source documentation could be located. • Employed the Australian Valuation Office to validate the recorded prices of sampled items. • Where items could not be validated, they were valued at current price and discounted using Indexes. • The sample design allowed for the calculation of an adjustment factor.

20. Post 2000 GSI • This segment of inventory holdings represented the greatest value in dollar terms. • Significant effort in designing an intelligent, efficient sampling plan. • Collection of documentation used to validate inventory prices. • Sample allowed for an adjustment factor.

21. Post 2000 GSI Continued

22. Post 2000 GSI Continued • The sample design enable targeted process improvement as well as determining an adjustment factor for our financial statements. • The design also enabled us to make partial adjustments reducing the risk of completion. • Design is the creative, intelligent part - implementation is time to roll up your sleeves.

23. Financial Controls Framework • An Agency as large as Defence cannot continue to rely on substantive tests of transactions! • Establishing the elements of the financial controls framework • Assigning responsibility to Group Heads to implement the financial controls framework • Implementing standardised processes and practices • Establishing business skilling and competency assessment.

24. Quantities • Conducting 100 per cent stock takes at our Warehouses • Correcting errors in stores record quantities in logistics management systems • Promulgating and ensuring compliance with stocktaking policy to improve stocktaking practices and reporting. • Disposal Program.

25. Happy Days Audit Opinion 2007-08 In my opinion, the financial statements of the Department of Defence: • Have been prepared in accordance with Finance Minister’s orders made under the Financial management and Accountability Act 1997, including the Australian Accounting Standards; and • Give a true and fair view of the matters required by the Finance Minister’s Orders including the Department of Defence financial position as at 30 June 2008 and its financial performance and cash flows for the year then ended.

26. Lessons Learned

27. Senior leadership • Buy in from Senior Leadership is CRUCIAL • Defence priorities 2007-08 • Support to Military Operations • Clean Financial Statements • Some other stuff…

28. Get Good Help • Accounting Advice – the only way to test the limits of accounting standards is to understand them intimately – Its worth the money! • Statistical Advice – An undertaking as big as this warrants the best advice. In my view, worth even more than the accounting advice • Valuation Experts • Temper academia with pragmatism • Understand the requirements of relying on the work of experts

29. Appropriate Resourcing • Remediation projects of this nature are expensive: • Professional advice • Personnel costs • Costs associated with implementing reform • Equipment, memberships and other costs

30. Don’t be scared of your Auditor.. • Audit should be seen as a positive – it is quite often the catalyst for significant change/improvement • Engage early and bring auditors on the journey • Have a defined process for engaging Auditors • You know more about your business than they do!

31. Have an agreed process for interaction with the Auditor • Single point of contact supported by subject matter experts. • Negotiating an engagement plan • Agreeing to a consistent approach for terminology, quality and format of responses • Establishing comprehensive procedures for quality assurance and clearing audit findings

32. Make the most of the data • Collection of documentary evidence is a long and difficult process – get the most out of the data! • Opportunity to dissect and understand the business • Identification of process deficiencies

33. FIX THE UNDERLYING PROBLEM

34. The Benefits • Credibility • Morale • Opportunity to understand and improve the business • Forging better working relationships with Auditors and other stakeholders • The Strategic Reform Program • Clean financial statements is not an unrealistic expectation.

35. QUESTIONS?