Specified Procedures on Note 3 of the 2011-2012 Departmental Financial Statements

Foreign Affairs and International Trade Canada
Office of the Chief Audit Executive

July 2012

Executive Summary

In their review of previous Departmental Financial Statements, the Departmental Audit Committee (DAC) requested additional information regarding the preparation of Note 3 to the Financial Statements (Parliamentary Authorities). The Office of the Chief Audit Executive (CAE) undertook audit work related to this reconciliation to provide assurance that Note 3 was accurate and complete. The 2009-2010 and 2010-2011 reports presented by the CAE and approved by the DAC indicated that:

• The appropriate process was followed;
• The professional judgment used by management was sound; and,
• The DAC could be assured with respect to the outcome of the reconciliation.

In their discussions on the 2011-2012 financial statements, the DAC requested that the Office of the CAE undertake the same work this year. The auditors performed specified procedures regarding the accuracy and completeness of Note 3 and its preparation in accordance with the requirements of Treasury Board Accounting Standard (TBAS) 1.2.

This report details the results of these specified procedures.

Why is this important?

Departmental Financial Statements are a principal tool for accountability to Parliament. They demonstrate, in a transparent fashion, the use of public funds aligned with priorities. Ensuring the reliability of the information contained within the statements supports sound stewardship.

What did we examine?

The audit approach consisted of:

• Providing a detailed process description of how the reconciliations are performed including internal controls in place to ensure accuracy of the note;
• Describing the methodology used in the reconciliations and performing the following specified procedures regarding the accuracy and completeness of Note 3 and its preparation:
  • Corroborate amounts included in Note 3(a) to amounts disclosed within the Departmental Financial Statements;
  • Corroborate amounts included in Note 3(a) that are not distinctly disclosed within the Departmental Financial Statements to DFAIT’s P12-2 Trial Balance;
  • Corroborate amounts included in Note 3(b) to amounts reported in Public Accounts Submission - Form A (“Form A”);
  • Corroborate amounts included in Note 3(c) to amounts disclosed within the Departmental Financial Statements;
  • Corroborate amounts included in Note 3(c) that are not distinctly disclosed within the Departmental Financial Statements to DFAIT’s P12-2 Trial Balance.

What did we find?

As a result of performing the specified procedures, the auditors noted that all amounts in Note 3 had been corroborated to amounts disclosed within the Departmental Financial Statements, DFAIT’s P12-2 Trial Balance, and/or Form A, except the amount listed below:

• $952,000 “Other adjustments” element in 3(c)

The above amount represents 0.04% of total departmental current year authorities used. Management cannot support the above amount without in-depth analysis and research.

Conclusion

As a result of applying the specified procedures noted, the auditors found only one exception as noted above. These procedures, however, do not constitute an audit of DFAIT’s Note 3 to the Departmental Financial Statements; therefore, the auditors did not express an opinion on this Note.

Statement of Assurance

In my professional judgment as Chief Audit Executive, sufficient and appropriate audit procedures have been conducted and evidence gathered to support the accuracy of the information in this report. The results are based on a comparison of the conditions, as they existed at the time, against pre-established audit criteria that were agreed upon with management. The results are applicable only to the processes examined. The evidence was gathered in compliance with Treasury Board Policy, Directives, and Standards on internal audit for the Government of Canada.

Original signed by:

Yves Vaillancourt, Chief Audit Executive

1.0 Background

Departmental Financial Statements are prepared in accordance with Treasury Board Accounting Standard (TBAS) 1.2: Departmental and Agency Financial Statements. TBAS and Treasury Board Secretariat Information Bulletins require financial statements to be presented on an accrual accounting basis. Accrual accounting aims to ensure that transactions are recorded in the period in which they occur. Revenues are recognized when earned (as opposed to when cash is received) and expenses are recognized when incurred (as opposed to when cash is paid).

Due to the use of accrual accounting, DFAIT’s Statement of Operations, Departmental Net Financial Position, and Statement of Financial Position may recognize items for which Parliamentary authorities were received in prior, current or future fiscal years. As such, the net results of operations presented on a government funding basis versus on an accrual accounting basis, will likely differ. The revised TBAS 1.2 requires that departments and agencies present a note on Parliamentary authorities, divided into the following two sections:

• Reconciliation of net cost of operations to current year authorities used; and,
• Authorities provided and used.

Although no longer mandatory under the revised TBAS 1.2, the Departmental Audit Committee requested that management prepare Note 3 (c) – the reconciliation of net cash provided by Government to current year authorities used. To meet this request, DFAIT disclosed this note to ensure transparency of its use of authorities. The 2012 total authorities used (as reported in Note 3 to the financial statements) were $2,482,466,000 and reconciled to DFAIT’s authorities’ disclosures in the 2011-2012 Public Accounts of Canada.

2.0 Objective

The mandate of this audit was to perform specified procedures regarding the accuracy and completeness of Note 3 and its preparation in accordance with the requirements of TBAS 1.2. The objective is to provide information on the following key components:

• detailed process description of how the reconciliations are performed including internal controls in place to ensure accuracy of the note;
• methodology used in the reconciliations and perform the following specified procedures regarding the accuracy and completeness of Note 3 and its preparation:
  • Corroborate amounts included in Note 3(a) to amounts disclosed within the Departmental Financial Statements;
  • Corroborate amounts included in Note 3(a) that are not distinctly disclosed within the Departmental Financial Statements to DFAIT’s P12-2 Trial Balance;
  • Corroborate amounts included in Note 3(b) to amounts reported in Public Accounts Submission - Form A (“Form A”);
  • Corroborate amounts included in Note 3(c) to amounts disclosed within the Departmental Financial Statements;
  • Corroborate amounts included in Note 3(c) that are not distinctly disclosed within the Departmental Financial Statements to DFAIT’s P12-2 Trial Balance.

3.0 Process Description

The auditors reviewed the process followed in the preparation of the Note 3 reconciliations for 2011-2012 with DFAIT’s Corporate Accounting (SMOQ) staff. The auditors’ understanding is based primarily on interviews with DFAIT representatives and a review of selected documentation. The auditors did not test the design and implementation of internal controls and did not audit the underlying data supporting the amounts reported in Note 3 to the Departmental Financial Statements.

Preparation Process

In 2012, Note 3 information was compiled from the following documents:

• The unaudited financial statements: statements of operations and departmental net financial position, changes in departmental net debt, financial position and cash flow;
• SMOQ prepared Excel worksheets: trial balance details, segregated by Fund number and Financial Reporting Account (“FRA”) number;
• Public Accounts Submission - Form A - Summary of Source and Disposition of Authorities (Budgetary information);
• Allotment reports provided by the Treasury Board Secretariat;
• Integrated Management System (“IMS”) reports: authorities’ expenditures during the year; and,
• Intra-departmental e-mail correspondence.

The financial statements, including the notes, are prepared using an Excel worksheet designed by SMOQ. The Excel template was upgraded during the year to a more sophisticated (i.e. automated) version. This template enables SMOQ to import the P12-2 trial balance text file into Excel, which then automatically organizes the information by Financial Reporting Account. Note 3(a) was populated using these linked worksheets.

Note 3(b) was populated using an “input sheet” that is prepared by SMOQ. The input sheet is an Excel worksheet containing those items which do not appear in DFAIT’s trial balance (for example, authorities provided and lapsed authorities). Relevant items on the input sheet are recorded from Public Accounts Submission - Form A.

Note 3(c) was manually entered in the Excel schedule. The balances were extracted from the Financial Statements or, in some cases, directly from Integrated Management System (IMS).

Note 3 was prepared by an SMOQ financial analyst and reviewed by SMOQ’s Deputy Director, Corporate Accounting. The review included examining the underlying trial balance information as well as the presented reconciliation figures. The lapsed authorities’ figures were based on Treasury Board reports and internal information and were reviewed by the Planning and Resource Management Division’s (SWE) Deputy Director.

3.1 Internal Controls

The auditors reviewed the updated Note 3 preparation and review process, the following internal controls were identified.

• Segregation of duties: Note 3 to the Financial Statements is prepared by a financial analyst and reviewed by the Deputy Director.
• Compilation of supporting documentation and record keeping (year-end documentation binder): the year-end binder contains extensive support for financial statement line items and disclosures.
• Management refers to DFAIT’s accounting policies and procedures in preparing Note 3 to the financial statements.
• Controls incorporated within IMS, such as passwords.
• Limited access to financial statements: only SMOQ staff has Financial Statement access – 7 people in total.

Internal controls implemented by management do not include a password on the financial statement worksheet. No DFAIT employee outside of the SMOQ group (7 individuals), however, is able to access the Financial Statements while in draft format. In addition, unauthorized changes would be discovered in the review process (e.g. comparison of prior draft with updated draft) and followed up on by reviewing file back-ups which are done whenever a change is made.

3.2 Description of Reconciliation Methodology

The Note 3 reconciliation prepared by management was compared with the relevant TBAS 1.2 guidance in order to review the methodology applied in the preparation of the reconciliations.
Management prepared Note 3 using the wording suggested in TBAS 1.2 and following the format of the TBAS sample for parts (a) and (b) except as follows:

• TBAS 1.2 suggests including a brief introductory paragraph explaining the purpose of the reconciliations. DFAIT includes this paragraph along with an additional paragraph detailing the causes of the variances in Note 3(a) and Note 3(b).

For the preparation of Note 3(c), management followed the presentation format that was outlined in the previous version of TBAS 1.2, as the revised TBAS1.2 does not include Note 3(c) in the Illustrative Financial Statement Package.

3.3 Description of Estimates and Professional Judgement Used in Reconciliation

The auditors identified the following significant estimates, where professional judgment was used in preparing the estimates that are included in Note 3 and in the Financial Statements:

Financial Statement Item: Allowance for Bad Debt Expense

Finding

DFAIT is unable to set out a general formula that would be applicable to accounts receivable as a whole due to the various categories of receivable balances held. Therefore, management performs an assessment of each class of customers and develops an allowance based on the following criteria:

• age of receivables;
• answers received from customer queries;
• status reports from the Collection Agency;
• country of customer, etc.

Financial Statement Item: Employee Severance Benefits

Finding

Canada-Based Staff (CBS) severance benefits are calculated as total salary expense multiplied by an annual fixed ratio provided by the Treasury Board Secretariat.

Locally Engaged Staff (LES) severance benefits are calculated based on the number of eligible employees, average severance cost and a layoff/payout rate. The rate used in the LES calculation is assessed on an annual basis by the LES Pensions and Insurance Team.

Financial Statement Item: Amortization of Tangible Capital Assets

Finding

Tangible capital assets are amortized on a straight line basis over the estimated useful life of the asset. TBAS 3.1 provides a guideline of asset life spans for each class of asset. TBAS 3.1 allows departments to estimate the expected useful life of a tangible capital asset.

Estimates are based on management’s assumptions and historical data prepared by SMOQ. Professional judgment used in the calculation of the allowance for bad debts is based on the analysis of the receivable balances. Professional judgment used in the calculation of severance benefits is based on the ratio provided by the Treasury Board Secretariat, as well as historical trends in Locally Engaged Staff data (e.g. layoff/payout rate). Professional judgment used in the amortization of tangible capital assets is limited as the accounting system automatically selects a useful life based on the asset class chosen when posting a capital asset acquisition. Useful lives selected by DFAIT are consistent with TBAS 3.1 (Tangible Capital Assets) guidelines.

4.0 Specified Procedures

The auditors performed the following five specified procedures in relation to the content of Note 3 to DFAIT’s 2012 Departmental Financial Statements:

1. Corroborate amounts included in Note 3(a) to amounts disclosed within the Departmental Financial Statements;
2. Corroborate amounts included in Note 3(a) that are not distinctly disclosed within the Departmental Financial Statements to DFAIT’s P12-2 Trial Balance; and
3. Corroborate amounts included in Note 3(b) to amounts reported in Form A.
4. Corroborate amounts included in Note 3(c) to amounts disclosed within the Departmental financial statements.
5. Corroborate amounts included in Note 3(c) that are not distinctly disclosed within the Departmental Financial Statements to DFAIT’s P12-2 trial balance.

Appendix B identifies these elements and their respective amounts for which specific procedures were performed, as presented in Note 3.

4.1 Corroborate Amounts Included in Note 3(A) to Amounts Disclosed Within the Departmental Financial Statements

The auditors corroborated amounts included in Note 3(a) to other amounts that are disclosed separately within the Departmental financial statements, such as the Consolidated Statement of Financial Position, the Consolidated Statement of Operations and Departmental Net Financial Position, the Consolidated Statement of Cash Flow, and the note on tangible capital assets. The elements of the Note corroborated include:

• Net cost of operations: $2,548,990,000
• Services provided without charge by other government departments: ($79,709,000)
• Amortization of tangible capital assets: ($91,511,000)
• Gain (loss) on disposal of tangible capital assets – net: $44,003,000
• Bad debt expense: ($330,000)
• Termination benefits – workforce adjustment costs: ($37,600,000)
• Decrease (increase) in vacation pay and compensatory leave: $3,239,000
• Decrease (increase) in accrued employee benefits: $15,881,000
• Acquisition of tangible capital assets: $132,478,000
• Decrease in prepaid expenses: ($17,618,000)
• Increase (decrease) in inventory held for re-sale: ($1,779,000)
• Increase (decrease) in consumable inventory: ($3,047,000).

No errors or discrepancies were noted.

4.2 Corroborate Amounts Included in Note 3(A) That Are Not Distinctly Disclosed Within the Departmental Financial Statements to DFAIT’s P12-2 Trial Balance

The following elements included in the Note 3(a) reconciliation could not be traced to the Financial Statements and, therefore, additional supporting information was obtained from DFAIT staff:

• Refunds of prior years’ expenditures: $20,759,000
• Gain on sale of real property: ($52,729,000)
• Spending of proceeds from the disposal of surplus assets: $1,209,000
• Other: $230,000.

No errors or discrepancies were noted.

4.3 Corroborate Amounts Included in Note 3(B) to Amounts Reported in Public Accounts Submission Form A

Note 3 (b) reconciles the authorities provided and used by DFAIT; DFAIT reports on their authorities to the Receiver General in Form A, which is pre-populated by Treasury Board Secretariat. As such, it was necessary to examine Form A and Note 3(b) simultaneously to ensure that both the Financial Statements and the Receiver General submission contained identical information. DFAIT reported the following authorities in 2012:

• Vote   1 – Operating Expenditures: $1,455,482,000
• Vote   5 – Capital Expenditures: $227,740,000
• Vote 10 – Grants and Contributions: $899,459,000
• Vote 17 – Payments, in respect of pension, insurance and social security program or other arrangements for LES: $70,140,000
• Statutory – Passport Canada: $158,349,000
• Other Statutory: $96,675,000
• Total lapsed authorities: $424,379,000, broken down as follows:
  • Authorities available for future years: $138,982,000
  • Lapsed authorities: Operating: $97,031,000
  • Lapsed authorities: Capital: $60,458,000
  • Lapsed authorities: Grants and Contributions: $117,609,000
  • Lapsed authorities: Payments, in respect of pension, insurance and social security program or other arrangements for LES: $10,299,000
  • Lapsed authorities: Passport Canada Capital expenditures: NIL

No errors or discrepancies were noted.

4.4 Corroborate Amounts Included in Note 3(C) to Amounts Disclosed Within the Departmental Financial Statements

The auditors corroborated amounts included in Note 3(c) to other amounts that are disclosed separately within the Departmental Financial Statements, such as the Consolidated Statement of Financial Position, the Consolidated Statement of Operations, the Departmental Net Financial Position, the Consolidated Statement of Cash Flow, and the note on tangible capital assets. The elements of the Note corroborated include:

• Net cash provided by Government: $2,475,899,000
• Decrease (increase) in accounts receivable and advances: ($6,737,000)
• Increase (decrease) in accounts payable and accrued liabilities: $23,995,000
• Liabilities transferred to other government departments: $2,098,000
• Accrued termination benefits included in the accounts payable and accrued liabilities: ($37,600,000)
• Increase (decrease) in deferred revenue: ($309,000)

No errors or discrepancies were noted.

4.5 Corroborate Amounts Included in Note 3(C) that are Not Distinctly Disclosed Within the Departmental Financial Statements to DFAIT’S P12-2 Trial Balance

The following elements included in the Note 3(c) reconciliation could not be traced to the Departmental Financial Statements and, therefore, additional supporting information was obtained from DFAIT staff:

• Refunds of prior years’ expenditures: $20,759,000
• Proceeds from disposal of tangible capital assets: $56,138,000
• Gain on sale of real property: ($52,729,000)
• Other adjustments: $952,000

No errors or discrepancies were noted. Management, however, was not able to provide supporting documents for other adjustments: $952,000. This amount represents 0.04% of the Department’s current year authorities used.

Recommendation:

Corporate Accounting (SMOQ) should consider improving its current reconciliation process of Note 3c to the Financial Statements to ensure that “other” amounts reported can be clearly identified and supported.

5.0 Conclusion

As a result of applying the specified procedures noted, the auditors found only one exception as noted above. These procedures, however, do not constitute an audit of DFAIT’s Note 3 to the Departmental Financial Statements and, therefore, the auditors did not express an opinion on this Note.

Appendix A – Note 3 to the Financial Statements

3. Parliamentary Authorities