Financial Audit Readiness:

The Big Picture

What’s it mean for

your organization?

Mark Easton, Deputy Chief Financial Officer

Office of the Under Secretary of Defense (Comptroller)

May 30, 2014

v7

• FIAR Overview

• Where We Are

• Wave 2: SBR Audit Readiness by Sept 30, 2014

• Challenges

• Wave 3: Existence and Completeness by June 30, 2016

• Wave 4: Full Audit Readiness by Sept 30, 2017

• Final Thoughts

Agenda

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FIAR Overview

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“ We need auditable statements,

both to improve the quality of our

financial information and to reassure

the public, and the Congress, that we

are good stewards of public funds.

We have a focused plan and are

making progress.”

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“ I strongly support this initiative and will do everything I can to

fulfill this commitment.”

– Secretary Hagel, HASC Testimony, April 11, 2013

Secretary’s View on Auditability

• Statement of Budgetary Resources (SBR) All budget data, current and past years

• Schedule of Budgetary Activity (SBA) Current year budget data of SBR (current year and successive years build to SBR)

• Audit Ready Systems, Processes and Controls improved enough to justify audit

– Validation of audit readiness:

o Management validation

o Independent assessment by independent public accountant (IPA)

• Audit Opinion Opinion on whether the information presented is correct and can be relied upon

(CPAs say, “free from material misstatements”)

– Unqualified / Unmodified (“Clean”): Financial statements can be relied upon

– Qualified: Financial statements are reliable with certain exceptions

– Disclaimer: Auditor could not complete the work and cannot issue an opinion

– Adverse: Financial statements are misleading and cannot be relied upon

• Audit Review performed by DoD IG using Federal financial audit standards. DoD IG may oversee

an IPA and sign the opinion, or the opinion can be signed by the IPA. 5

Terms We Will Use

• Law: SBR must be validated as audit ready by Sep 30, 2014

• Management assertion of audit readiness

– Service Secretaries (USD(C) for Defense agencies) will assert audit readiness

based on FIAR criteria

• Independent validation of audit readiness

– IPAs examine data and processes to validate audit readiness

• Begin audit in cost-effective manner

– Focus initially on current year of budget

– Audit led by IPA if independent validation not complete

– Audit conducted by DoD IG supported by an IPA if independent validation

complete

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Near-Term Goals

Focus on Budget Statement and Asset Accountability

• Doing the day-to-day job right is the starting point

• Verify that each transaction is recorded and supported

– Invoice

– Proof of receipt, issuance, transfer, or disposal of goods / services

– Contract

• Verify “checkbook” balances with transaction-level detail

• Strong, consistent financial systems and management controls

reassure auditors and allow limited sample sizes

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What Successful Audit Requires

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2017

FY 2014 Statutory Direction

Achieve Audit Readiness

of General Fund Statement of

Budgetary Resources (SBR)

Key Interim Milestones:

• Appropriations Received

• Reconciliation of FBWT

• Audit Readiness of Material “Spending

Streams”

Key Building Blocks:

• Senior Leadership Engagement

• Effective Governance

• Resource Commitment

• Accountability

FY 2017 Statutory Direction

Achieve Full

Agency Financial Statement

Audit Readiness

2014

The Big Picture…

…and Challenge

Financial Improvement and Audit Readiness

Original Statutory Requirement

1990 – CFO Act

1994 – Government Management

Reform Act

• Complies with Laws

– Financial Statement Audits Required

• Verifies Correct Allocation of Funds

– All resources allocated to approved mission-priorities and in a

legal manner

• Makes Better Use of Resources

– Better information for timely, informed decision-making and

unused funds identified

• Increases Public Trust

– Public and Congress reassured DoD is a good steward

Importance of FIAR

DoD Is the Only Federal Agency Without a Positive Audit Opinion 9

10

Audit Opinion /

Ready for Audit

22%

Preparing for Audit

78%

Source: FY 2013 DoD Statement of Budgetary Resources

DoD’s Current SBR Status

Where We Are

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• USMC is the first Service to achieve an unmodified (or “clean”) opinion on

current year budgetary activity (FY 2012)

• Secretary Hagel committed to SBR audit readiness by 09/30/2014 and full

audit readiness by 09/30/2017

• Senior leadership remains engaged

• Current emphasis is on the 2014 SBR goal, since only 4 months are left and

much remains to be done

• All Components will either be under SBA audit or examination in FY 2015

• Established an interim milestone to achieve audit readiness for Wave 3

(existence and completeness of mission critical assets) by 6/30/2016

• Guidance issued to accomplish remaining elements of full audit readiness

(e.g., Balance Sheet, Working Capital Fund)

Where We Are Today

We Have Everyone Aware …

Now the Hard Work Begins 12

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Audit Readiness Timeline by FIAR Strategy Wave

Where We Are by Wave

• Wave 1 Appropriations Received complete

• Begin Schedule of Budgetary Activity audits in FY 2015

consistent with NDAA requirements

• Follow Wave 2 goal with SBA audits in FY 2015, leading

to full financial statement audits in FY 2018

Wave 2:

SBR Audit Readiness

by September 30,2014

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• Achieve audit ready processes and controls supporting current-year

budgetary activities (obligations and expenditures) by the end of FY 2014,

in compliance with NDAA

• Begin audits of FY 2015 appropriations and budgetary activity in a Schedule

of Budgetary Activity (SBA)

• Each year thereafter, build upon ability to support the SBA and sustain audit

results

• Scope of FY 2015 SBA audits:

– Shaped by USMC lessons learned

– Validates improvements to processes, controls, and systems environment

– Focuses on information used by management for decision-making, comparing budgets,

and identifying the availability of funds

• By September 2017, have an audit-ready environment supporting all financial

statements

Wave 2: SBR Audit Readiness Strategy

Sensible Path to Full SBR Audit Readiness

Aligned to National Defense Authorization Act 15

• USMC

– Unmodified (clean) opinion on FY12 Statement of Budgetary Activities (SBA)

– FY 2013 SBA opinion pending / FY 2014 SBA audit planned

• Army

– Comprehensive examination of all business processes complete

– Unmodified opinion on Real Property (Quick Win – 23 installations), and a modified

(qualified) opinion on OM&S – 3 Missile Types

• Navy

– Unmodified opinion on audit readiness examination of Civilian Pay and Transportation of

People

– Examination underway for assertions of Reimbursable Orders, Military Pay, and Fund

Balance with Treasury

• Air Force

– Examination complete for Civilian Pay and Funds Distribution to Base

– Unmodified opinion on OM&S–Missile Motors, and a modified opinion on OM&S–Spare

Engines

Recent Successes: Military Services

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• DFAS (Service Provider)

– Positive opinions on controls for major systems and processes handling

Civilian Pay and Military Pay, providing assurance for the processing of over

$197 billion in payroll dollars

– Unmodified opinion on controls for $226 billion in funding for Standard

Disbursing Service, covering over half of the Department’s total disbursement

activity

– Examination of controls for $183 billion in contract pay underway

• DHRA (Service Provider)

– Positive opinion on controls for Civilian Personnel Records System

• Other Defense Organizations (ODOs) / Audit Progress

– Unmodified opinion on Recording the Appropriations Received

Recent Successes: 4th Estate

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• Army

– Correct deficiencies and weaknesses found during Army-wide IPA examination

– Audit readiness validation of fund balance with treasury by the IG

• Navy

– Complete corrective actions, assert audit readiness, and validate audit readiness for

Supply Requisition, Contract/Vendor Pay, and Financial Statement Reporting

• Air Force

– Complete discovery, corrective actions, and assert audit readiness for Military Pay,

Reimbursement Budget Authority, Net Outlays, Contracts, Supply Requisition, and

Financial Reporting

– Management audit readiness validation

• ODOs

– Complete corrective actions and assert (assessable units vary by ODO)

What Remains to Be Done

Complete Audit Readiness Activity in FY 2014 and

Prepare to Support SBA Audits in FY 2015 18

Challenges

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• Ability to produce a complete population of transactions to the

auditors:

– Reconcile all feeder systems to the accounting system

• Ability to support the Journal Vouchers & adjustments

– Financial reporting compilation and Fund Balance with Treasury reconciliation

• Ability to store and retrieve supporting documentation in a timely

manner

• Ability to sustain internal controls (follow policies and procedures

consistently)

• Identify complete end to end processes to include service providers

controls and processes

• Reliance on IT general and business process controls

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Technical Challenges a Concern, However …

• Maintaining accountability for results

• Overcoming the experience gap

• Assuring sustainability of process controls

• Establishing audit infrastructure

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… Organizational Challenges More Difficult

America’s Top 10 Largest Companies*

# Company Revenues

Department of Defense** $645.5 B

1 Wal-Mart Stores $469.2 B

2 Exxon Mobil $449.9 B

3 Chevron $233.9 B

4 Phillips 66 $169.6 B

5 Berkshire Hathaway $162.5 B

6 Apple $156.5 B

7 General Motors $152.3 B

8 General Electric $146.9 B

9 Valero Energy $138.3 B

10 Ford Motor $134.3 B

** FY 2012 revenues from the Fortune 500 2013 ranking

** FY 2012 DoD Topline from the FY 2015 Budget Request Overview

• In the private sector, achieving a

“clean” opinion is considered a

normal business imperative

• If DoD was a Fortune 500 Company, it

would be #1

• DoD is the only Cabinet-level

department still without some kind of

an acceptable audit opinion

We apply rigor and discipline

to operational missions

(e.g., nuclear power, flight safety)

Our goal is to apply similar

discipline to business operations,

but size, complexity, and culture

are challenges

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DoD Size and Complexity

Wave 3:

Existence and Completeness

by June 30, 2016

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• Audit readiness of existence and completeness of mission-critical assets by

June 30, 2016

• Mission-critical assets include:

– Personal Property (e.g., Ships, Aircraft, Combat Vehicles)

– Real Property

– Operating Materials and Supplies (OM&S)

– Inventory

– Internal Use Software

• 69 percent of mission critical assets reported on the Balance Sheet as

General Property, Plant, and Equipment have been asserted as audit ready

• 26 percent of mission critical assets reported as Inventory and Related

Property have been asserted as audit ready

Wave 3: Existence and Completeness

Physical Control and Visibility Will Be the Key to Asset Valuation /

Depends on Functional (Non-FM) Communities 24

Wave 4:

Full Audit Readiness

by September 30,2017

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• Although focused on SBR goal in FY 2014, action is being taken to

prepare for full audit readiness by September 30, 2017

– Issued policy memorandum pertaining to valuation and capitalization

thresholds for assets (e.g., equipment and real property).

– Issued revision to FIAR Guidance addressing:

o Detailed guidance for valuing and reporting assets

o Financial reporting objectives for additional Balance Sheet line items (e.g.,

Inventory and Related Property, Investments, Environmental Liabilities, Loan

Guarantee Liabilities)

o Working Capital Fund financial statements

• Components will be developing and/or expanding their financial

improvement plans later in FY 2014 to address Wave 4, Full Financial

Statement Audit Readiness

Wave 4: Full Audit Readiness

Full Financial Statement Audit Readiness

Planning and Work Is Beginning 26

Final Thoughts

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2014 Goal – Budgetary Business Processes Are “Audit Ready” Audit of complete SBR built from successive audits of annual schedules of budgetary activity (SBA)

2017 Goal – All Financial Statement Business Processes Are “Audit Ready” Built from budgetary transactions in SBR

An auditable statement like the statement of budgetary resources (SBR) is produced from a business

environment (processes, systems, and controls) that has been validated as “audit ready”

Complete Final SBA Audit Preparations and Validate SBA Processes as “audit ready”

FY14 FY15 FY16

FY17 FY18 FY19

Conduct Audit of New FY15 Appropriation (SBA)

Conduct Audit of FY15 and New FY 16 Appropriation (SBA)

Conduct Initial Audit of Complete SBR

Conduct Audit of All Financial Statements for FY18

Conduct Audit of All Financial Statements for FY19 Complete Final Financial

Statement Audit Preparations

By becoming audit ready we will have achieved better processes and information.

The audit itself is an affirmation, but “audit readiness” strengthens the business environment. 28

= “Audit Ready”

FIAR Timelines

FFMIA

Compliant

Flight Safety

No Control

(Anything Goes!)

Negative

Assurance

GAP

No Assurance

Qualified

Assurance

Reasonable

Assurance

Absolute

Assurance

Positive

Assurance

Complete Control

“Playground Rules”

Financial

Auditability

Current

State

Business Control Continuum

Goal is to Improve the Quality of Information

Used for Decision Making 29

“Closing the Gap”

Will Mean:

• More standard processes

• Implementing more capable systems

• Controls that are in place and tested

Represents Opportunities for:

• Improved operational efficiency

• Reduced vulnerability to fraud/waste

• Sustained public trust/confidence

Physiological Breathing, Food, Water

Safety Secure Well Being

Love / Belonging Friendship, Family

Esteem Confidence, Respect

Self-Actualization Realize Full Potential

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Individually, We Strive to Realize Our Full Potential

Maslow’s Hierarchy of Needs

The Basics (Status Quo)

Use funds where intended and

support the mission

Positive Assurance (Audit Ready)

Well-documented and well-controlled

system processes

Taxpayer Esteem (Clean Audit)

Reinforce public confidence in stewardship /

clean audit / escape GAO High-Risk List

Sustained Assurance (Clean Audit Forever)

Strong business processes sustained by compliant

financial systems and a well-trained workforce

Program Actualization (Decisions based on timely, accurate financial info)

Realize Full Potential by Getting More out of

Programs to Support Mission

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Organizationally, We Need to

Progressively Improve Our Business and

Financial Management

Especially When Resources

Are Limited

FIAR’s Hierarchy of Value

• People …

– Must understand what auditors expect

– Must begin to use accounting information for decision making

• Processes Used …

– Must be well-documented

– Must include controls that are tested and effective

• Systems Used …

– Must give auditors confidence

– Are key to sustainability and cost-effective audits

People, Processes, Systems May Need to Change

Everyone Needs to Know What Role They Play 32

Stay Connected

Visit the FIAR website http://comptroller.defense.gov/fiar/

Connect with the FIAR Group on milBook Join the discussion as a member of the FIAR Group on milBook by going to

https://www.milsuite.mil/book/groups/fiar

Subscribe to the DCFO’s ‘Defense Audit Readiness News’ Join the distribution list by emailing

AuditReadiness@osd.mil

Access the FIAR Planning Tool to better manage your FIP Request access to the FIAR Planning Tool by emailing

FIARSupport@osd.mil

Attend FIAR Training Request a training schedule or register for a session by emailing

FIAR-Training-Requests@osd.mil

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