1. What’s Next for the DoD Audit
Office of the Under Secretary of Defense (Comptroller)
What’s Next for the DoD Audit
Mr. Mark Easton, Deputy Chief Financial Officer, OUSD(C)
Ms. Alaleh Jenkins, Director, OUSD(C)/FIAR
Washington-ASMC NCR PDI
March 3, 2015
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2. Agenda
The Requirement: Why Financial Improvement and Audit Readiness (FIAR) Is Important
FIAR Strategy and Audit Strategy: How We Are Meeting the Deadline
Where Are We Now?
FIAR Guidance and Timeline: Less Than Two Years Remain
Your Role: How You Can Help
Final Thoughts

3. The Requirement: Why FIAR is Important

4. It’s the Law
The Chief Financial Officers Act of 1990: Created a CFO position within each cabinet-level agency, required all federal agencies to prepare timely and reliable financial statements for Congress and the Administration to use in managing and evaluating federal programs, and directed OMB to prepare a year Federal Financial Management Improvement Plan
The Government Management Reform Act of 1994: Required annual auditable financial statements
Refined Guidance:
Sec NDAA FY 2012: Requires the plan to include the interim objectives and a schedule of milestones for each Military Department and Defense Agency to support the goal established by the Secretary of Defense that the SBR be validated for audit by not later than September 30, 2014
Sec NDAA FY 2010: requires the Department to develop and maintain a plan that ensures DoD financial statements are validated as ready for audit by not later than September 30, 2017
Continued interest from Congress, GAO, OMB, and the media

5. If DoD were a public company, would you invest?
Stewardship
Stewardship
Reassures the American public and Congress that the Defense Department is a good steward of its funds
Demonstrates accountability
Helps to safeguard assets and is a tool for guarding against fraud, waste, and abuse
The DoD IG was unable to complete an audit and issued a Disclaimer of Opinion:
“ … we could not obtain sufficient appropriate evidence to provide a basis for an audit opinion. Accordingly, we do not express an opinion on the DoD FY 2014 and FY 2013 Basic Financial Statements. Thus, the basic financial statements may have undetected misstatements that are both material and pervasive.”
If DoD were a public company, would you invest?

6. History of Audit Efforts to Date
2017
FY 2017 Statutory Direction
Achieve Full Agency Financial Statement Audit Readiness
The Big Picture…
…and Challenge
2014
FY 2014 Statutory Direction
Achieve Audit Readiness of General Fund Statement of Budgetary Resources (SBR)
2009
Pre-2009
Audit emphasis largely within only the comptroller organizations
Post-2009
Audit efforts involve all functional areas enterprise-wide
Initial Priorities Established
2005
FIAR Office Established
1994
Initial DoD Efforts Began

7. FIAR Strategy and Audit Strategy: How We Are Meeting the Deadline

8. DoD Consolidated Audit Strategy Overview
DoD has developed a strategy to move to full financial statement audit by FY 2018 in accordance with the NDAA for FY 2010
The audit strategy builds on audit readiness momentum and demonstrates interim progress toward the FY 2018 target using a phased approach
Propose that audits of select reporting entities’ financial statements be accelerated
Other reporting entities will undergo progressively more complex examinations
The phased approach will allow for continual growth and expansion of DoD’s audit infrastructure to support the increasing number of audits
Strategy assigns each of DoD’s reporting entities to one of four categories:
Tier 1: Large Caps (OMB Designated Entity Audits)
Tier 2: Mid Caps (DoD Designated Audits)
Tier 3: Small Caps (DoD Designated Examinations)
Tier 4: Micro Caps (Remaining Defense Agencies, Organizations, and Funds (Not Material for Audit))
The Resulting DoD Consolidated Financial Statement Audit Starting in FY Will Likely Be the Largest Financial Statement Audit Ever Performed

9. The DoD Agency-Wide Audit Will Involve
Presenting Our Complete Portfolio
Categories as Percentage of Total Budgetary Resources
0.9 % Not Material for Audit
Tier 4
Tier 3
3.6% DoD Designated Examinations
Micro
Caps
Small
Caps
WHS (Pentagon admin)
DoDEA (education)
MDA (missile defense)
DARPA (R&D)
DSCA (security cooperation)
Many others
Selected Activities in the Fourth Estate are participating in mock audits
Tier 2
21.9% DoD Designated Audits
Mid
Caps
Defense Logistics Agency
DHA (healthcare)
USTRANSCOM (transport)
USSOCOM (special ops)
DISA (IT / communication)
Others already under audit
Tier 1
73.6% OMB Designated Entity Audits
Large
Caps
Department of the Army (GF and WCF)
Department of the Navy (GF and WCF) (includes Marine Corps GF and WCF)
Department of the Air Force (GF and WCF)
Military Retirement Fund (MRF) Trust Fund
U.S. Army Corps of Engineers (USACE)– Civil Works
Entities in red are under audit

10. Audit Readiness Deal-Breakers
Fourth Estate reporting entities must be able to address a handful of “critical elements” or deal-breakers to support the proposed audit and examination schedule:
Collect a universe of accounting transaction details reconciling the TI-97 accounting systems to the DoD financial statements
Conduct reconciliations from source feeder systems where transactions occur and the DoD’s accounting systems and reconcile TI-97 Fund Balance with Treasury account to U.S. Treasury
Complete IT controls discovery and corrective action for material financial systems
Identify root causes for journal vouchers, eliminate unnecessary journal vouchers, and ensure all remaining journal vouchers are reviewed, approved, and supported by documentation
Validate corrective action plans have been effectively implemented for critical internal controls processes
Much of the effort related to addressing these deal-breakers requires strong participation from DFAS for success.

11. Where Are We Now?

12. Significant Progress Made
Although the Department did not achieve the September 30, 2014, Statement of Budgetary Resources deadline, significant progress was made.
Military Departments asserted audit readiness on their services’ General Fund Schedules of Budgetary Activity
Audit contracts awarded December 2-4, 2014
Audits began in January 2015
Audits will include financial transactions related to appropriation received in FY2015 and will not include financial transactions related to appropriations received in prior fiscal years
DoD OIG oversees the IPA-conducted SBA audits
Other Defense Organizations (ODOs)
By June 30, 2014, each of the other Defense organizations asserted audit readiness of their applicable assessable units or of specific SBR line-items
In FY 2015, the ODOs material to the DoD Consolidated Financial Statements will undergo with SBA mock audits or IPA examinations
Over 90 percent of the Department’s FY 2015 General Funds will be under audit. Funds under audit represent most of the financial information reported in the SBR.

13. FY 2015 General Funds Planned for Audit
Over 90 % Currently Planned for Audit, but Remainder Involves Fourth Estate Organizations
4th Estate (TI-97) $132.21B (13.6%)
Full Financial Statements
General Fund (GF) Planned Under Audit in FY 2015 – $883.08B
Military Retirement Fund (TI-97) $54.67B (5.6%)
Full Financial Statements
Payments to MRF
DoD Component Level Accounts
DHA, Contract Resource Management
MERHCF (healthcare entitlement)
Payment to MERHCF (healthcare)
DCAA
DeCA, General Fund
Army (TI-21) $266.48B (27.3%)
GF (SBA)
4th Estate (TI-97) $91.15B (9.4%)
Not Under Audit
Funds Provided by OSD to MilDeps
DHA
USSOCOM
Foreign Allies Burden Sharing
Defense Agencies (e.g., DLA, MDA, DCMA, DISA)
DoD Field Activities (e.g., DHRA, DMA, DPMO, DTIC, DTSA, OEA)
Other Defense Organizations (e.g., DAU, DOT&E, NDU, OIG)
Military Housing Privatization Initiative
Other Trust Funds
U.S. Army Corps of Engineers- Civil Works (TI-96) $30.28B (3.1%)
Full Financial
Statements
Air Force (TI-57) $187.77B (19.3%)
GF (SBA)
Navy (TI-17) $181.86B (18.7%)
GF (SBA)
Marine Corps (TI-17) $29.81B (3.0%)
GF (SBR)
FY 2013 Total Budgetary Resources

14. FIAR Guidance and Timeline: Less than Two Years Remain

15. Expanded Priorities and Guidance
With less than three years remaining, the Department has expanded its priorities from budgetary data to all financial transactions including:
Valuing and reporting over $1 trillion in assets
Accurately reporting environmental and other liabilities
Preparing Working Capital Fund financial statements for audit
Revised FIAR Guidance soon to be issued and will include:
Requirements that apply to General Fund and Working Capital Fund statements
Critical interim requirements, such as opening balances
MilDeps and ODOs will update financial improvement plans accordingly
Leadership and Governance
Former Secretary Hagel and recently confirmed Secretary Carter, who previously served as Deputy Secretary, have continued to stress accountability, sound business and management systems, and audit readiness
Deputy Secretary Work launched the DEXCOM and addressed leaders of the Fourth Estate
Mike McCord sworn in as USD(C) and CFO
Leadership is confident this expanded focus will keep the Department on the right path to full audit readiness.

16. Timeline to Move to Stand-Alone Audit
The five TI-97 reporting entities below will move towards stand-alone financial statement audits.
Tier 2: Mid Cap
Reporting Entities
FY 2015
FY 2016
FY 2017
FY 2018
FY 2019 Forward
DLA
Examination – SBA (General Funds)
Annual Audits – Full Financial Statements
Defense Health
Examination – SBA
USSOCOM
DISA
Undergoing Internal Validation
USTRANSCOM
Continuing Audit Readiness Activities
Examination – Full Financial Statements
The Defense Agencies already under audit are not included in this list. The Defense Agencies already undergoing financial statement audit will continue to receive annual full financial statement audits.

17. Timeline to Move to Stand-Alone Examination
The 10 TI-97 reporting entities below will move towards stand-alone audit readiness examinations of their financial statements.
Tier 3: Small Cap
Reporting Entities
FY 2015
FY 2016
FY 2017
FY 2018
FY 2019 Forward
WHS
Examination – SBA
Annual Examinations – Full Financial Statements
MDA
DSCA
Mock Audit
DoDEA
Other TI-97 Funds Provided to the Army
DARPA
ChemBio
DTRA
DCMA
JCS

18. DoD Designated Audits – Tier 2:
Critical Path Audit Readiness Milestones
Critical Path Audit Readiness Milestones
Present assertion strategy for critical financial statement line items to FIAR Directorate (2/20/2015):
Critical Line Items: Fund Balance with Treasury; General Property, Plant, and Equipment, including Real Property, General Equipment, and Internal Use Software; Inventory and Related Property, including Inventory and Operating Materials and Supplies; Environmental and Disposal Liabilities; and Other Line Items Material
FIAR Directorate obtains DoD OIG/GAO approval on assertion strategy/methodology for critical line items (3/31/2015)
Implement corrective action plans to address critical line items (4/30/2015)
Undergo FIAR audit readiness validation (5/1/2015 – 5/31/2015)
Implement corrective action plans to address deficiencies (6/30/2015)
Undergo IPA financial statement audit (10/1/2015 – 11/15/2016)

19. DoD Designated Examinations – Tier 3:
Critical Path Audit Readiness Milestones
Critical Path Audit Readiness Milestones
Present assertion strategy for critical financial statement line items to FIAR Directorate (2/20/2015):
Critical Line Items: Fund Balance with Treasury; General Property, Plant, and Equipment, including Real Property, General Equipment, and Internal Use Software; Inventory and Related Property, including Inventory and Operating Materials and Supplies; Environmental and Disposal Liabilities; and Other Line Items Material
FIAR Directorate obtains DoD OIG/GAO approval on assertion strategy/methodology for critical line items (3/31/2015)
Implement corrective action plans to address critical line items (9/30/2015)
Undergo IPA examination (10/1/2015 – 3/31/2016)
Implement corrective action plans to address deficiencies (9/30/2016)
Undergo IPA examination (10/1/2016 – 3/31/2017)
Implement corrective action plans to address deficiencies (6/30/2017)

20. Overview of Working Groups
Five Working Groups for Critical Balance Sheet Line Items:
Real Property
General Equipment
Internal Use Software
Inventory and Related Property
Environmental and Disposal Liabilities
The OSD Working Groups Were Established to:
Address DoD-wide policy and process challenges to audit readiness
Provide implementation guidance
Review progress toward achieving audit readiness milestones
Expectations:
Address issues quickly to expedite solutions, and elevate issues where needed
Estimating beginning balances
Developing systems and process agreements to sustain asset and liability valuations
OSD will vet decisions with the DoD OIG and GAO over the next 3 months; decisions targeted for June to allow for implementation

21. Your Role: How You Can Help

22. Roles and Responsibilities
Planning Phase
Internal Control Phase
Test Phase
Report Phase
Auditors
Submit Document Requests to gain an understanding of operations and perform data analytics while planning the audit procedures
Assess control risk and determine the nature, timing, and extent of control, compliance, and substantive testing
Identify control weaknesses and, if appropriate, form an opinion and report on internal controls over financial reporting
Plan the nature, timing, and extent of procedures to be performed on budgetary transactions and effectiveness of controls
Perform substantive, control and compliance tests
Issue Notices of Findings and Recommendations (NFRs) to outline problem areas within accounting, internal controls, IT systems, and business processes
FM HQ Organizations
Provide strategic guidance and technical expertise to consolidate and coordinate the audit response and communication across the organization
Provide coordination and communication to facilitate a close working relationship between auditors, Commands, and functional owners
Direct, oversee, and provide quality control and quality assurance for all audit response activity before delivery to the Independent Public Accountant (IPA)
Communicate outcomes of the audit and coordinate NFR remediation and Corrective Action Plans (CAPs) implementation with assigned stakeholders
Financial and Functional Owners
Respond to Document requests – a function that will continue throughout the audit cycle
Facilitate the review of internal controls and processes to include MICP and system access & segregation of duties, etc.
Respond to sample data requests from the auditor in a timely manner and provide insight into the quality of line item supporting documentation
Assigned stakeholders develop CAPs

23. Critical Success Factors
Tone from the Top
Stress importance
Emphasize deadlines
Strong Audit Infrastructure
Well organized audit support team
Continual and effective communication
Access to Supporting Documentation
Correct, clear, and timely
Auditor must be able to follow (plain English)

24. Setting Expectations Be Prepared Own Your Information Communicate
Auditor will interview personnel and observe operations
Auditor will test account balances and trace to source
All organizations, locations, processes, and systems may be subject to audit
Assign point personnel for supporting documentation
Expect large sample sizes for testing
Own Your Information
Provide correct audit evidence in a timely manner
Be able to respond to an auditor’s questions
Communicate
Continually communicate with audit liaisons and your organizations
Don’t assume auditors know your business…clear communication is key
Embrace feedback

25. Final Thoughts

26. Final Thoughts
This is a massive enterprise change management effort
The scale of DoD’s consolidated financial statement audit is unprecedented
DoD is much more like a country than a corporation
There is significant value in moving into an audit regimen
Until audit opinions become routine, sustained emphasis will be needed from:
DoD senior leadership
Congress
Oversight organizations
Budget stability is critical to our success
This will be a multi-year effort
Federal Government experience indicates this is a 3-5 year process once audits begin
We plan to do better, but need to manage expectations
The Department is Fully Committed to Improving the Quality of Our Financial Information and Achieving Audit Readiness

27. Stay Connected Visit the FIAR website Read the FIAR Plan Status Report
Read the FIAR Plan Status Report
Subscribe to DCFO mailings by ing
The Department is Fully Committed to Improving the Quality of Our Financial Information and Achieving Audit Readiness

28. Backup

29. Example Issues and Solutions in Development Solutions in Development
Real Property
Example Issues and Solutions in Development
Example Issues
Solutions in Development
Policy Issue – Unclear Financial Reporting Responsibilities
The Department has struggled for years to develop a GAAP-compliant real property reporting policy that is also doable in a practical sense. Preponderance of use, operational control, and Title X have all been considered at various times.
The group looked at options from GAAP compliance, audit risk, and operational perspectives.
The pending solution focuses on the funding Component and Components that have exclusive use of a space.
Implementation Issue – Valuation of Existing RP Assets
Following significant Wave 3 (existence and completeness) work, a significant amount of the Department’s real property still lacks documentation to support historical costs.
Leveraging SFFAS 35 (Estimating the Cost of PP&E), a methodology was developed by the group to use a deflated plant replacement value for existing real property. The methodology uses information already included in property systems, and can be quickly and consistently deployed across the Department. The result will be an auditable value for approximately 65% of the Department’s real property assets.

30. Example Issues and Solutions in Development Solutions in Development
General Equipment
Example Issues and Solutions in Development
Example Issues
Solutions in Development
Implementation Issue – Valuation of Existing Assets (Baseline)
The Department lacks an auditable valuation methodology that can consistently be deployed across all Components.
Using SFFAS 35, the group is developing an estimating methodology that includes the use of budget and contract documentation. The methodology will focus on identifying and allocating capitalized costs to end items using contract and budget data.
Policy Issue – Contracts Do Not Differentiate Capital vs. Expense
Major Defense Acquisition Programs include a significant percentage of DoD equipment value. Current program structures don’t isolate capital costs or associate them to specific end items.
Major Defense Acquisition Programs will likely require some estimates to value equipment but should be minimized to the extent possible. This includes differentiating between capital and expense costs and liquidating construction in progress accounts as end items are delivered. New CLIN structures are being embedded in future acquisition contracts to map capital costs to end items.

31. Environmental and Disposal Liabilities
Example Issues and Solutions in Development
Example Issues
Solutions in Development
Policy Issue – Required Support for Cost Models
Cost models are used to estimate cost to complete. However, a recent audit of DLA E/L CTC highlighted the need for additional clarification to determine how models should be supported during an audit.
The Group is reviewing RACER and NORM to determine appropriate procedures for validating and documenting model data sources, inputs, table updates, and supporting documentation, as well as responsibilities for supporting the audit.
Implementation Issues – E&DL Completeness Challenge
Environmental liabilities can be associated with DoD assets but can also exist outside fence lines or even in locations where the Department has not operated in 100 years.
The group has developed a point of view on establishing a complete universe of E&DL that included several approaches. Establishing a complete universe may require more than one approach.
Reconciling to APSRs
Fence-to-fence survey
Historical study
Reconciling to other authoritative listings (e.g. EPA listings)

32. Example Issues and Solutions in Development Solutions in Development
Internal Use Software
Example Issues and Solutions in Development
Example Issues
Solutions in Development
Policy Issue – Terminology and Conceptual Gap Between FM and CIO
Component FM and CIO organizations interpret SFFAS 10 and FMR IUS definitions in a variety of ways. Further guidance is needed for consistent application of the standards and financial reporting.
The working group is collecting areas of misunderstanding or areas that lack clarity. For example, the SFFAS 10 IUS definition includes the term “operating system programs,” which CIO and FM personnel understand differently. This causes a significant disconnect in what IUS is reported and how. The group is also working with FASAB to help improve future guidance.
Implementation Issue – Lack of a Complete IUS Universe
IUS is dramatically underreported in many Components (e.g. Navy reports $5M in IUS on its GF balance sheet). To establish a baseline, a methodology is needed to identify the complete universe of IUS.
A methodology is being developed to identify a complete universe of software by reviewing multiple software record repositories, such as electronic discovery reports, APSRs, contracts, and budget documents. Following the accumulation of a potential IUS universe, functional and FM personnel, reduce the list to potentially capital IUS. Lessons learned from Components that have completed this milestone will be briefed at the WG meetings.

33. Inventory and Related Property
Example Issues and Solutions in Development
Example Issues
Solutions in Development
Policy Issue – Valuing existing OM&S
Much of the Department’s OM&S predates the requirement for historical cost supporting documentation. As a result, an initial moving average cost cannot be supported without significant manual effort to estimate values.
The group is working with the Federal Accounting Standards Advisory Board (FASAB) to consider other potential options. One option under consideration is the establishment of a baseline at latest acquisition cost (LAC) and using moving average cost (MAC) on a go-forward basis.
𝑀𝐴𝐶= 𝑆𝑡𝑎𝑟𝑡𝑖𝑛𝑔 𝐵𝑎𝑙𝑎𝑛𝑐𝑒+𝐻𝑖𝑠𝑡. 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑁𝑒𝑤 𝐴𝑐𝑞𝑢𝑖𝑠𝑖𝑡𝑖𝑜𝑛𝑠 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦
Implementation Issue – Defining the “End User” for OM&S
Components struggle to determine whether the purchases or consumption method is appropriate for OM&S. A significant contributor to this indecision is that there is no established criteria to define the “end user” of OM&S.
The group is developing more specific criteria to help Components evaluate whether OM&S stored in locations such as on ships or field units can be expensed because they are in the hands of the end user or must be capitalized.
Purchases Method “The purchases method provides that operating materials and supplies be expensed when purchased.”
(i.e., no dollar amount reported on the Balance Sheet)
Consumption Method “The cost of goods shall be removed from operating materials and supplies (i.e., the asset account) and reported as an operating expense in the period they are issued to an end user for consumption in normal operations.” (i.e., dollar amount of items held for issue is reported on Balance Sheet)