__ ____._._ __._ ..-... ._...^ .1--.. .-.-...-. GAO ____,_l_“..,_., .._._..._ .__._..-....-.._...._ l__i _. -__-...--___ ._-- .._ I~ ....,ll_--.-l___-l_l-.-. I .-__- - __________- I+‘c~l,IYl;l I’\’ 1 !l!)O FINANCIAL AUDIT Air Force Does Not Effectively Account for Billions of Dollars of Resources I I , I I / / United States General Accounting Office Washington, D.C. 20648 Comptroller General of the United States B-234326 February 23,199O To the President of the Senate and the Speaker of the House of Representatives This report presents the results of our review of the Air Force’s financial management operations and its efforts to prepare consolidated financial statements. W h ile the financial statements, included as appendix I, purport to show the Air Force’s financial position and results of operations for fiscal year 1988, our audit work demonstrates that the Air Force does not have accurate cost data for almost all of its non-cash assets. Air Force managers are accountable for $276 billion in weapons systems, inventories, and other assets and for annual appropriations of over $90 billion. However, the Air Force’s financial management systems and internal controls are not sufficient to provide adequate and reliable financial information for effective management of the Air Force’s diverse and complex operations. Our report discusses these problems and contains recommendations for corrective actions. W e are sending copies of this report to the Secretaries of the Air Force and Defense, the Director of the Office of Management and Budget, interested congressional committees, and other interested parties. This report was prepared under the direction of David M . Connor, Director, Defense Financial Audits, who may be reached on (202) 27.59406 if you or your staff have any questions. Charles A. Bowsher Comptroller General of the United States Qecutive Summq Through the 1980s there have been mounting concerns over the federal Puipose government’s declining fiscal condition and the ineffective management and control over its financial operations. While various reforms are being considered and others are under way, more urgent and decisive actions are needed to deal effectively with these concerns and problems. Over the last several years, GAO has conducted a number of financial audits of major federal civilian agencies and departments which show that government managers do not adequately (1) control their costs and resources, (2) provide the Congress and the public a true accounting for the assets entrusted to them, and (3) consider financial information in making decisions. There is no better way to gain an understanding of the problems and required corrective actions associated with the financial management operation of an agency than to do a full scale audit of its financial state- ments. To begin to gain a perspective on the quality of the information and systems available in the Department of Defense (DOD), the largest department of government, GAO attempted to conduct a financial audit of the Air Force. The Air Force is the only military service which has tried to prepare a set of financial statements in accordance with gener- ally accepted accounting principles for federal agencies. The Air Force is responsible for weapons systems, inventories, and other Background assets reportedly valued at $275 billion and, as of September 30, 1988, had thousands of outstanding contracts valued at over $250 billion. The Air Force annually receives appropriations of about $90 billion. It oper- ates over 130 bases located throughout the world, representing about 16 percent of the real property held by the government and employs about 900,000 civilian and military personnel. The Air Force dwarfs the largest organizations in the private sector as well as most other federal agencies. Being a government agency, the Air Force is not a profit making organization, but as one of the world’s larg- est organizations, it needs to be concerned about, and should be held accountable for controlling its costs, operating efficiently, and protect- ing its resources. Accountability for its extensive operations can only flow from integrated systems that accurately capture, process, and report day-to-day financial transactions and provide firm control over costs and resources. Page 2 GAO/AFMD-90-23 Air Force Financial Audit ExecutiveSummary The integrity of these data and the systems that process them, as well as the reports used within and outside the organization, are best ensured by regular, periodic independent financial audits, Such audits provide the discipline needed to ensure that bad data, systems, and reports are highlighted for improvement. To its credit, the Air Force attempted to produce a set of financial state- ments for 1988 and submitted them to GAO for audit. The Air Force does not have accurate cost data for almost all of its non- Rehlts in Brief cash assets such as inventory, equipment, aircraft and missiles. Accounts for over 70 percent of the assets on its consolidated statement of financial position were unauditable, and GAO was, therefore, unable to express an opinion on the financial statements for fiscal year 1988. Also, because of these weaknesses, the financial information produced by the Air Force and reported to the Office of Management and Budget and the Department of the Treasury is not reliable. In contrast, the fund control procedures, that is, making sure spending limits are not exceeded, generally operate effectively. There are many reasons why the accounts were unauditable. The Air Force does not have financial systems that produce reliable financial data. A number of large dollar items-aircraft and accounts payable, for example-are not included in its accounting systems. A double-entry set of books with a general ledger system is not maintained to establish full accountability over costs and assets. To balance its accounts, the Air Force made a large number of adjustments-some over $1 billion-but the bases for these adjustments could not be explained by Air Force offi- cials The inventory systems do not provide reliable data to support either the quantities or the values of inventories on hand. There is not an accounting for the full cost of its weapons systems-the cost of the B-l bomber system alone is understated by at least $7.1 billion in the financial statements. The Air Force needs better historical cost data to improve its budgeting and planning processes and it needs better financial systems to establish accountability over the billions of dollars of assets entrusted to it. The Air Force is not unmindful of some of its problems and has taken a number of actions to correct these problems on a case-by-case basis. That it took the initiative to prepare financial statements and have them audited is an important step. The Air Force also has long-term projects Page 3 GAO/AFMD-90-23 Air Force Financial Audit Executive Summary under way that are intended to address several of its financial manage- ment weaknesses. But more needs to be done. It is evident that cost effectiveness and efficiency need to become an Air Force priority and an important part of the organization’s culture if meaningful and lasting improvements in its financial management are to be achieved. Pr&pal Findings Financial Systems Do Not The Air Force accounting and financial management systems can neither Prdvide Reliable Financial provide complete and reliable financial data nor be depended upon to report accurately on the resources entrusted to its managers. Much Data information that is produced is not timely. Financial reports cannot be / developed without extensive, manual, time-consuming efforts to compile data from a variety of sources. These conditions adversely affect finan- cial reporting and management at all levels, ranging from the Air Force consolidated financial statements down to base-level financial reports. The General Accounting and Finance System was to serve as the Air Force’s general ledger, but a number of very significant accounts were not included. Certain data, such as aircraft values ($82 billion) and accounts payable amounts ($18 billion) had to be derived from property systems or from extracts of budgetary data rather than from a properly designed financial management system. Financial reports to the Office of Management and Budget and the Trea- sury are also inaccurate and unreliable. In recent years, some Air Force components failed to submit financial data in time to be included in the year-end Treasury reports. As a result, March 31 data was used in lieu of missing September 30 data. Furthermore, over $25 billion of Air Force assets were not included in financial reports to the Treasury, and an additional $10 billion in transactions were counted twice. Financial information requires constant analysis to ensure its validity. GAO'S analysis of selected accounts revealed obvious problems, such as negative values for certain inventories. As a minimum, these warranted further investigation so that appropriate actions could be taken and cor- rections made. In many instances, Air Force officials simply have allowed obvious erroneous data to remain in the accounting records, and these data are ultimately included in agency financial statements and other financial reports. Page 4 GAO/AFMD-90-23 Air Force Financial Audit Emcutlve Summary As early as November 1983, the Air Force recognized weaknesses in the current systems and reported its general ledger accounting system as deficient to the Secretary of Defense. The Air Force subsequently con- tracted for the development of requirements for a new general ledger accounting system and currently is in the early stages of soliciting con- tracts to develop and implement it. However, this system does not directly cover the major portion of Air Force assets, and the Air Force does not expect it to be operational before 1994. With the current and foreseeable budget constraints and changing mili- tary threat, 1994 is not soon enough to show major improvements. The Air Force will need to make major decisions in the near term and will need accurate data to make them. What the Air Force needs to do now is to take interim steps to improve the quality of data it derives from existing systems as well as undertake steps to upgrade and replace those systems. The choice between upgrading, replacing, or both should be based, in part, on the time it takes to achieve substantial improvement in the available financial management data. Air Force Has Basic The Air Force has significant internal control weaknesses, some of Internal Control which it disclosed in its 1988 Federal Managers’ Financial Integrity Act report, and others which GAO noted in its audit work. The Air Force Weaknesses reported that two of its accounting systems, including the General Accounting and Finance System, did not conform to prescribed princi- ples and standards. GAO identified other material control weaknesses. Unsupported and arbi- trary adjustments totalling billions of dollars were made to account bal- ances and records throughout fiscal year 1988. The Space Systems Division trial balance for March 31, 1988, differed from its subsidiary records by $2.4 billion. In order to get agreement, records were adjusted without support. By not performing reconciliations and by making unsupported adjustments, accountability was lost and the opportunity to determine and address the causes of possible instances of mismanage- ment, fraud, or abuse was missed. Full Costs of Weapons The Air Force financial systems do not provide its managers with com- Systems Not Identified plete and reliable information on either the acquisition or operating costs of its aircraft and missile systems. For example, the procurement cost for each B-l bomber is reported by the Air Force to be $150 million; GAO found that the cost is, in fact, about $219 million. The total reported Page 6 GAO/AFMD-90-23Air ForceFinancialAudit Executive Summary cost of the B-l system- $21 .Q billion-is understated by at least $7.1 billion. Similar understatements exist for the F-16 aircraft ($6.8 billion) and the F-16 aircraft ($6.3 billion). The gaps are even wider if all the government-furnished materials provided to contractors for aircraft production and related research and development are considered. Air Force property systems do not track military hardware in the hands of contractors. For example, $630 million of satellites and $5.7 million of engines for C-20A cargo planes were paid for by the Air Force and held by contractors but not recorded in any Air Force property or accounting system. Selected Acquisition Reports sent to the Congress include more accurate actual costs on weapons systems, but these costs were also not complete. As a result, actual cost information is not available in the accounting systems for reporting to top Air Force and DOD officials, the Congress, and the public, nor are such data available to Air Force managers for decisionmaking at any level. Inventory Systems Do Not The Air Force maintains a reported $63.8 billion in inventories of sup- Provide Accurate Data plies and spare parts, eight times the inventories reported by General Motors, one of the largest corporations in the United States. However, the systems used to provide accountability over these immense invento- ries do not provide reliable data supporting either their quantities or value. GAO'S current audit work, other recent GAO reports, and work by the Air Force all confirm that long-standing Air Force problems in controlling its inventories have not been resolved. Records of quantities on hand at Air Logistics Centers, which reflect about $40 billion in inventory items, are often inaccurate. Recordkeeping deficiencies contribute to $10 billion of unrequired inventory. In addition, over 50 percent of the dollar value of investment-item inventory at the Air Logistics Centers needs repair, overhaul, or extensive maintenance to become serviceable, yet such items are valued the same as usable items. Page 6 GAO/AFMD-90-23 Air Force Financial Audit Executive Summary Los4 of Accountability and When accountability and accurate cost information are not maintained, the following conditions result: Inadcurate Cost Infojrmation l Financial information needed for top management’s or the Congress’ analysis of Air Force trends is unreliable. . Operating costs of air wings, bases, depots, and commands cannot be compared and evaluated. l Losses can occur from fraud, waste, abuse, and mismanagement yet not be identified and their causes dealt with. . Inventories cannot be managed effectively to avoid shortages or exces- sive stocks. . Cost cannot be properly considered when deciding to replace or upgrade existing weapons systems. . The basis for evaluating procurements and budget requests is not as complete as it might be. There is no question that better cost data would improve the manage- ment control, budgeting, and planning processes of the Air Force. Only in cases where funds are unlimited and efficiency can be ignored can costs be considered unimportant, Neither case is true today-if it ever was true. Recommendations improve financial management and bring greater efficiency to Air Force operations, The recommendations focus on utilizing existing financial information and developing more accurate financial information (chap- ter 2), performing reconciliations and documenting adjustments (chapter 3), accounting for costs of weapons systems (chapter 4), achieving financial management of inventories (chapter 6), and developing a new accounting system (chapter 6). DODconcurred or partially concurred with all of GAO'Srecommendations. Agency Comments (See appendix IV.) In commenting on many of the recommendations, DOD cited initiatives, discussed in the July 1989 Defense Management Report sent to the President, as being responsive to GAO'Srecommendations. However, the Defense Management Report describes the efforts to achieve the initiatives’ objectives in broad, general terms. It does not contain detailed plans or milestones of the specific actions that would be required to successfully implement the initiatives. DODstated that it was Page 7 GAO/AFMLl-90-23 Air Force Financial Audit Executive Summary unable to provide a comprehensive response with milestones for correc- tive actions in time for inclusion in GAO'Sreport, It said that a compre- hensive response will be provided on the final report. Overall, DODsaid that it has been providing accurate and reliable data to the Congress on weapons systems, but it is aware that the Air Force accounting systems, including financial controls over inventories and government-furnished materials, need improvement. DODalso said that it will endeavor to make accounting and reporting data more consistent in future reports. Page 8 GAO/AFMD-90-23 Air Force Financial Audit C&dents Ex$cutive Summary The Government’s Financial Information and Control Environment Meaningful Financial Statements and Audits Can 16 Strengthen Federal Financial Management Department of the Air Force 18 Objectives, Scope, and Methodology 18 Chhpter 2 21 Fidancial Management Need for Meaningful, Accurate Financial Statements Unreliable Reporting to Treasury 22 26 Sy$tems Do Not Financial Management Systems Are Not Used Effectively 28 Prdvide Reliable to Manage Resources 33 Financial Information ~~~~~~~~~ations 34 Agency Comments and Our Evaluation 36 Chapter 3 36 Internal Control Accounts Not Routinely Reconciled Account Balances Contain Unsupported, Arbitrary 36 39 WtiaknessesPrevent Adjustments Accurate Financial Other Internal Control Weaknesses 41 46 Reporting and Reduce ~~~~~~~~ations 46 Accountability Over Agency Comments 47 Assets 1 Chapter 4 48 Actual Costs of Actual Cost of Aircraft and Missiles in Production Is 49 Aircraft and Missiles ValueUnknown of Aircraft and Missiles Is Not Based on Cost 60 Are Not Known Government-Furnished Materials Not Included in 53 Valuations Aircraft and Missile Modifications Are Not Capitalized 53 Operating Costs of Aircraft and Missiles Are Not Known 54 Controls Over Contractor-Held Property Are Not in Place 66 Improvements Needed in Weapons Systems Cost 66 Management Page 9 GAO/AFMD-90-23 Air Force FinanciaJ Audit Contents Conclusions 59 Recommendations 60 Agency Comments 60 Ch’pter 5 61 In entory Systems Do Scope of Inventory Management Operations Inaccurate Records of Inventory Quantities 61 63 No i provide Accurate Unreliable Inventory Values 66 Financial Data Change in Cost Accounting System Is Needed 67 Other Inventory Weaknesses 68 Conclusions 70 Recommendations 71 Agency Comments and Our Evaluation 71 Chapter 6 72 Air Force Financial Systems Alternatives for Developing Meaningful Financial Information 73 Management System Plans to Develop a New Base-Level Accounting System 74 Improvement Efforts BLARS Status and Objectives 75 BLARS Requirements 75 Other Comments on the BLARS Development Effort 76 Conclusions 78 Recommendations 78 Agency Comments 79 Appendixes Appendix I: Consolidated Financial Statements of the U.S. Air Force for the Fiscal Year Ending September 30, 1988 Appendix II: Comparisons Between Air Force Financial 97 Statements and Treasury Reports Appendix III: Objectives, Scope, and Methodology 99 Appendix IV: Comments From the Department of Defense 101 Tables Table 2.1: Accounts Developed From Alternative Sources 24 Table 2.2: Examples of AFSC Control Account Balances 30 With Significant Changes Table 2.3: Variances in Divisional Trial Balances From 31 Period to Period Table 2.4: Variances Among Divisional Trial Balances at 31 September 30,1988 Page 10 GAO/AFMD-90-23 Air Force Fhncial Audit Contents Table 2.6: Air Bases With Credit Balances for Medical/ 32 Dental Stock Fund Inventories Table 2.6: Air Bases With Credit Balances in 33 Construction-In-Process Accounts Table 4.1: Procurement Expenditures on Selected Aircraft 52 Programs Calculated by AVISURS and GAO Table 4.2: Expenditures on Selected Aircraft Programs 52 Reported in SARs and Calculated by GAO Table 6.1: Inventory Distribution as of September 30, 63 1988 Table 6.2: Unserviceable Inventory Not Reported as Such 65 in Air Force Records Page 1 I GAO/AFMD40-23 Air Force Financial Audit Abbreviations AFAFC Air Force Accounting and Finance Center AFB Air Force base AFDW Air Force District of Washington AFLC Air Force Logistics Command AFSC Air Force Systems Command ALC air logistics center ANG Air National Guard ASD Aeronautical Systems Division AVISURS Aerospace Vehicle and Equipment Inventory, Status, and Utilization Reporting System BLARS Base Level Accounting and Reporting System CEMS Comprehensive Engine Management System CMD Contract Management Division DLIA Defense Logistics Agency DMS Depot Maintenance Service DOD Department of Defense ElSD Electronics Systems Division FMFIA Federal Managers’ Financial Integrity Act of 1982 GAFS General Accounting and Finance System GAO General Accounting Office GFM government-furnished materials GSA General Services Administration HUD Department of Housing and Urban Development NSN national stock number O&M Operation and Maintenance OMB Office of Management and Budget RADC Rome Air Development Center RFP request for proposal SAR Selected Acquisition Report SSD Space Systems Division Page 12 GAO/AFMD-90-23 Air Force Financial Audit Page 13 GAO/AFMD-90-23 Air Force Financial Audit \ Chadter 1 Inkroduction Throughout the 1980s concern has mounted over the federal govern- ment’s declining fiscal condition and the ineffective ways in which it manages and controls its financial operations. From the beginning of the 1980s to the present, the government has faced the problem of a federal debt which has grown from about $900 billion to almost $3 trillion and which has incurred related interest costs (now about $241 billion, or 27 percent of the general expenses of the government). In addition, the gov- ernment has become saddled with hundreds of billions of dollars in unanticipated liabilities which are not even included in the cash-basis debt figures cited above, but for which the government must ultimately bear the cost. On top of these liabilities are unmet national needs which will also require funding in future years and further add to the deficit. These conditions were not sudden; the events causing them occurred over many years. Yet, the problems and their severity were not fully recognized. In most cases, the government was not tracking the costs of its obligations and needs as they were being incurred; in other cases, information was available to indicate the need for timely action, but this information was not taken into account in decisionmaking. It is time for these problems to be identified and dealt with. In today’s complex economic, political, and social environment, compet- The Government’s ing demands to fund government programs and activities require accu- Financial Information rate and timely financial information for making sound resource and Control allocation decisions, The government also needs to have proper financial control over its costs and assets to ensure that it is operating govern- Environment ment programs in a cost-effective manner. With distressing frequency, however, there are dramatic revelations in the media and elsewhere of financial improprieties by government offi- cials or extremely wasteful practices by federal agencies. The reason these situations were allowed to occur-their root cause-is basically the absence of good internal controls and accounting systems. However, this fact is often overshadowed by the drama of the events themselves. The recent scandal at the Department of Housing and Urban Develop- ment (HUD) is a good example where the lack of good financial controls has seriously impacted several of the nation’s housing programs and the integrity of government. HUD, however, is not alone. The Director of the Office of Management and Budget (OMB)recently testified before the Senate Committee on Governmental Affairs that “The recently-exposed HUD problems are not unique, not merely peculiar to a particular agency Page 14 GAO/AFMD-90-23 Air Force Financial Audit Chapter 1 Introduction under what some have described as absentee management....There are analogous problems in other agencies.” Those involved in such scandals are investigated and sometimes prose- cuted, but the poorly controlled, antiquated, and ineffective financial environments which permitted the events to occur in the first place too often remain the same. Moreover, such environments also contribute to waste and inefficient use of resources, uninformed decisionmaking, and diminished public confidence in the government. Ultimately, these fac- tors may be far more costly than the losses through fraudulent activities that surface from time to time. Our evaluation of federal financial practices clearly shows that the gov- ernment does not adequately control its resources; provide its managers, the Congress, or the public with a true accounting for the financial assets entrusted to it; or effectively use financial information to make decisions. In a 1986 special report, Managing the Cost of Government (GAO~AFMD-8536~), we described six pervasive problems in the manner in which the federal government manages its financial resources and costs. These problems are . poor quality of financial management information; l poor linkages between the budgeting, budget execution, and accounting phases of the financial management process; . inadequate attention paid to monitoring and comparing budgeted activ- ity with actual results; l primary emphasis on fund control, leading to inadequate attention in other areas of federal financial management; . inadequate disclosure of assets, costs, and liabilities; and . antiquated and fragmented financial management systems. In a November 1989 report,’ we cited a number of problems which are illustrative of the situation governmentwide. For example, the federal government continues to rely on antiquated accounting systems that, despite improvement efforts over many years, have serious problems. In other cases, federal agencies are spending billions of dollars developing and acquiring automated systems but are experiencing massive problems in the process, This report also cited the increase of spare parts inventories at the Department of Defense (DOD) and concluded that, while much of this growth resulted from increased costs due to ‘Financial Integrity Act: Inadequate Controls Result in Ineffective Federal Programs and Billions in _ -10, November Z&1989). Losses(GAO/AF'MD90 Page I5 GAO/AFMD-90-23 Air Force Financial Audit Chapter 1 Introduction inflation and support for weapons systems modernization, a sizable por- tion represented unneeded inventories, The amount of unneeded secon- dary items increased from approximately $10 billion in 1980 to about $29 billion 1988. 1 In response to mounting concerns of the public, the Congress, the media, Meaningful Financial and executive branch officials over the federal government’s fiscal con- Statements and Audits d’ t’ a number of federal agencies have undertaken major initiatives 1 ion, Can Strengthen to improve and modernize their financial practices, systems, and con- trols. This represents a mammoth and difficult task, given the years of Federal Financial neglect and low priority given to financial management, the size and Mabagement complexity of federal operations, and the magnitude of taxpayers’ dol- lars involved. Yet, these are the very factors which make it so critical that these operations be placed under sound financial control. Decisionmakers who direct federal programs, like their counterparts in private industry, need to know the cost of prior decisions in arriving at the most economical solution to present problems. Air Force and DOD management, the Department of the Treasury, the Office of Manage- ment and Budget, and the Congress also need to regularly review the results of operations and the financial position of the federal agencies they oversee. The data for such accountability reporting should flow from financial management systems that can accurately capture, pro- cess, and report day-to-day transactions involving billions of dollars. The integrity of these data, the systems that process them, and the resultant internal and external reports can only be relied upon when they are produced by the kind of disciplined process that results from annual independent audits. As part of the reform effort for better financial management, several federal agencies have attempted to develop meaningful financial state- ments, along with underlying records and documentation adequate to permit an independent auditor to express an opinion on the statements. The process of generating and accumulating financial information neces- sary to prepare accurate and meaningful statements instills discipline in the system and strengthens accountability. This discipline is further enhanced when the statements and the underlying information are sub- jected to the rigors of an audit. Financial statement audits ensure that accounting transactions, accounting systems, financial statements, and financial reporting to the Congress, Treasury, the Office of Management and Budget, and the public are properly linked and consistent. Such audits also provide the opportunity for an independent evaluation of the Page 16 GAO/APMD-90-23 Air Force Financial Audit Chapter 1 Introduction adequacy and effectiveness of the controls and safeguards for protect- ing the resources entrusted to an agency and for ensuring that the agency fully and fairly discloses its financial condition and operations. The importance of financial statements and independent audits has long been recognized by the private sector and, more recently, in the public sector on the state and local levels. Audited annual financial statements of federal entities, prepared according to generally accounting accepted principles and standards,2 are urgently needed to provide useful, reliable information to the Congress, federal managers, and the public in a readily understood format. Over the past several years, our financial audit work at both the civilian and defense agencies shows similar patterns of shortcomings. Essen- tially, these involve weaknesses in the basic controls over the accuracy of financial data, and the fact that all financial information needed for effective management, accountability, and oversight is not produced and utilized. It is noteworthy that the majority of these entities have received qualified or adverse opinions on their financial statements because of financial weaknesses. We have noted that, typically, improvements are made after initial audits, but many of these entities must make substantial long-term improvements in correcting weak- nesses in internal controls and need to develop sound, integrated accounting systems capable of producing complete, accurate financial information. Having good financial information is particularly important in the Department of Defense, which, in this era of budget constraints and changing world conditions, will likely have to live with no-growth, or even declining, budgets in the foreseeable future. DOD’S &year defense plan contained programs which reportedly would cost about $150 billion more than DOD can expect to receive during the period. This will force difficult choices of which programs to terminate or curtail and how best to finance those that are to be continued. DOD must not only adjust its proposed programs and spending patterns to recognize current fiscal realities, but it must also achieve greater efficiency and more effective management of future appropriations and the resources it already has on hand. To effectively do so, DODmust have complete and accurate data on its costs and resources. These data can only be produced by a fully “These arc contained in Title 2 (“Accounting Principles and Standards for Federal Agencies”) of GAO’s Policy and Procedures Manual for Guidance of Federal Agencies. Page 17 GAO/AFMD-90-23 Air Force Financial Audit Chapter 1 Introduction functional and complete accounting system disciplined by independent audits. To begin to gain a perspective on the quality of the financial information and systems available in DOD,we attempted to conduct a financial audit of the Air Force. The Air Force is the only military service which has attempted to prepare a set of financial statements in accordance with generally accepted accounting principles for federal agencies. A copy of the Air Force’s financial statements, upon which we did not express an opinion, is contained in appendix I. We concluded that the Air Force statements were unauditable. The Department of the Air Force, created in 1947, is responsible for pre- DGpartment of the Air paring aerospace forces to perform offensive and defensive operations Fo)-ce with the purpose of defending the United States, deterring aggression, and being ready to conduct warfare in conjunction with the other armed forces. To fulfill this mission, the Air Force has resources valued at about $275 billion and receives almost $90 billion in annual appropria- tions. The Air Force operates over 130 bases located throughout the world, representing about 16 percent of the real property held by the U.S. government. In addition to these facilities, the Air Force manages a reported $99.1 billion of weapons systems (aircraft, missiles, and engines) and a reported $63.8 billion of inventories of supplies and spare parts, which amounts to about 20 percent of the equipment and almost 30 percent of the inventories held by the U.S. government. The Air Force employs about 900,000 civilian and military personnel. Our review objectives were to (1) work with the Air Force to develop its Objectives, Scope,and first set of consolidated financial statements and establish a baseline for Methodology a full audit of the 1989 financial statements, (2) audit the account bal- ances contained in the financial statements, (3) identify problems in the Air Force’s financial management and accounting systems, and test the effectiveness of significant internal control procedures, and (4) identify opportunities for the Air Force to improve its financial management operations. In pursuing these objectives, we reviewed the accounts com- prising the Air Force’s 1988 financial statements and reviewed the Air Force’s financial management operations, including key internal controls which relate to recording, processing, summarizing, and reporting finan- cial data. This report covers significant internal control, accounting, and financial management issues as well as problems with respect to certain individual accounts. Page 18 GAO/AFMD-90-23 Air Force Finaucial Audit Chapter 1 Introduction This review included coverage of the Air Force’s financial management operations and accountability for the primary resources-personnel, facilities, inventory, and equipment-it uses to accomplish its mission. We reviewed the Air Force’s policies relating to its organization, accountability procedures, and financial management. We also consid- ered previous reports by GAO, Air Force Audit Agency, Defense Audit Service, and Air Force pursuant to the Federal Managers’ Financial Integrity Act of 1982. We discussed financial management operations and accountability procedures, functions, and processes with managers throughout the Air Force. We identified internal controls in the account- ing systems and operations for the primary resources. Our audit tests focused on the key internal controls specifically related to financial management and accountability for resources, Finahcial Management The Air Force Accounting and Finance Center is the focal point for Air Force financial operations for the worldwide network of over 120 Air Force Accounting and Finance Offices and numerous disbursing agent offices. The center is responsible for accounting for all money appropri- ated to the Air Force and for reports to the Congress and financial man- agers throughout the government on the use of these funds. The Air Force’s financial operations are under the overall direction of the Assistant Secretary for Financial Management who functions as the Air Force’s chief financial officer. The Air Force’s financial management structure is decentralized. The Air Force Comptroller is primarily responsible for systems that account for, control, and report on appro- priated funds and cash. Separate logistics and other systems support the Comptroller’s general ledger accounting systems. We worked with the Air Force to develop an inventory of its financial management systems. WeaponsSystems The Air Force Systems Command develops and purchases weapons sys- tems (aircraft, missiles, and uninstalled engines). About $25 billion of Management the Air Force’s fiscal year 1988 budget was designated for weapons sys- tems acquisition. The-Air Force had thousands of outstanding contracts valued at over $250 billion as of September 30, 1988. Accountability for these systems begins during production and extends through their use at air bases. Inventory Management The Air Force manages inventories of over 1.6 million different spare parts and supplies valued at over $60 billion. About $40 billion of the Page 19 GAO/AFMD-90-23 Air Force Financial Audit -7 Chapter 1 Introduction inventory is maintained at air logistics centers and about $20 billion at air bases, Managing the inventory includes not only maintaining physi- cal control and distribution, but also contracting to acquire the items and then using the inventory to maintain operations. Depot maintenance industrial fund activities are collocated with air logistics centers and use their inventories to maintain and repair weapons systems. We conducted our review between July 1987 and January 1990, using data related to fiscal year 1988. Our review was performed in accor- dance with generally accepted government auditing standards. Work was performed at Air Force headquarters in Washington, D.C., and loca- tions worldwide. Chapter 2 discusses financial management systems and procedures in the Air Force, while chapter 3 contains a discussion of weaknesses in basic internal controls which prevent accurate financial reporting and reduce accountability over assets. Chapter 4 identifies problems the Air Force faces in determining the actual costs of military hardware. Con- cerns about the quantities and valuation of Air Force inventories are contained in chapter 5. Chapter 6 discusses Air Force efforts to improve its financial management systems. The Air Force’s consolidated finan- cial statements are included as appendix I, a comparison of the consoli- dated financial statements with Treasury reports as appendix II, and our scope and methodology as appendix III. Comments from the Depart- ment of Defense are included as appendix IV. Page 20 GAO/APMD-99-23 Air Force Financial Audit Chanter 2 l?i$wial ManagementSystemsDo Not Provide Reliable I Financial Information The magnitude of assets and funds for which the Air Force is responsi- ble is matched by only a handful of other organizations worldwide. The Air Force is recognized as a world leader in developing and operating weapons systems on the cutting edge of technology to provide security for the United States and its allies. In contrast, the Air Force financial systems and practices for controlling and managing its immense array of assets and vitally important and complex operations are unquestionably obsolete and incapable of providing the kinds of reliable financial infor- mation every organization needs for effective and efficient management. The poor state of the Air Force’s financial management is clearly indi- cated by the fact that it was not able to produce a set of credible finan- cial statements, something most business entities and many state and local governments do routinely and regularly. The accounting and financial management systems generally do empha- size fund control requirements, that is, making sure spending limits are not exceeded. With some exceptions, we noted that fund control is ade- quate; expenditures did not exceed appropriations. However, the sys- tems do not effectively account for and control the actual costs incurred. The Air Force operates a total of 131 different accounting and financial management systems, many of which are not linked under an integrated general ledger. Moreover, some assets, including the Air Force’s major weapons systems-reportedly valued at $99.1 billion-are not under the control of any accounting system. In short, the Air Force does not provide basic double-entry accounting control over significant portions of its financial operations. The existing financial systems do produce data which could be used to help plan for, manage, and control resources. All too often, however, such data are not considered in the normal course of operations nor used to perform analytical techniques which would disclose operating problems, Similarly, when the financial systems produce information which is obviously wrong or merits investigation, these problems are often ignored This results in unreliable financial reporting both internally and exter- nally. The processes which could not produce acceptable financial state- ments are the same processes providing information to Air Force management at all levels and to outside organizations such as Treasury and the Congress. Page 21 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 Financial Management Syeteme Do Not Provide Reliable Financial Information -Need for Meaningful, and operations of an entity that cannot be obtained elsewhere. Produc- Akurate Financial ing the financial statements requires a discipline throughout the organi- Stptements zation to properly account for the resources entrusted to managers to perform their mission. The financial information produced by this pro- cess can be used by managers to assess the varying, complex operations in an agency and to monitor the performance of subordinates against expectations through the costs and budgeted funds. The Air Force’s efforts to produce consolidated financial statements for fiscal year 1988 represent a substantial commitment to improving its overall financial management. However, these efforts were hindered by the fact that much of the information needed to produce the statements was not maintained on a systematic, consistent basis under basic double- entry accounting control. The Air Force does not have an integrated gen- eral ledger system from which statements can be produced. Also, the information it does record is not as useful as it could be because the Air Force does not follow generally accepted accounting principles in valu- ing its equipment and it does not record depreciation for all of its depre- ciable assets. Air Force Lacks an The Comptroller General’s accounting principles and standards (Title 2) Integrated General Ledger state that an agency’s accounting system must be an integral part of its total financial management structure and must (1) provide sufficient discipline and effective internal control over operations to protect appropriated funds, cash, and other resources from fraud, waste, and mismanagement, and (2) produce reliable and useful financial informa- tion on the results of operations to support decisionmaking. Accord- ingly, a general ledger serves as an integral part of an agency’s financial management system and as an essential control mechanism by summa- rizing all of an activity’s financial data for top management and decisionmakers. The Air Force, however, lacks a double-entry general ledger system to provide a consolidated source of such financial information. To account for its resources, the Air Force operates a large number of financial management systems. Working with the Air Force, we identified 131 systems which it uses: 84 are classified as accounting systems and 47 are systems that feed data to these accounting systems. Taken together, these systems are supposed to (1) account for, control, and report on the Page 22 GAO/AFMD-90-23 Air Force Fhncial Audit Chapter 2 Finandal Management Systems Do Not Provide Reliable Financial Information status of the Air Force’s appropriated funds and cash, (2) maintain sup- porting records and other resources, and (3) accumulate the cost of deci- sions and actions in carrying out the Air Force’s mission and operations. The Air Force’s 47 subsidiary systems were established primarily to support the Air Force’s various program and administrative missions and goals, such as major weapons systems, procurement, and inventory management. These systems also serve as a starting point to authorize and initially record detailed information on the financial effects of its mission operations eventually recorded in the accounting systems. The Air Force’s 1988 annual report prepared pursuant to the Federal Managers’ Financial Integrity Act of 1982 (FMFIA) contained the Air Force’s annual assessment of its accounting systems’ compliance with accounting principles, standards, and related requirements for federal agencies. The Air Force reported that two of its primary accounting sys- tems, the General Accounting and Finance System (GAFS) and the Defense Integrated Financial System, did not substantially conform with the required accounting principles and standards. The Air Force attempts to use GAFS to fulfill the functions of a general ledger system. It was designed to record, process, summarize, and report the financial results for the various Air Force activities. However, according to Air Force officials, GAFSwas not implemented in a manner permitting it to satisfactorily perform these functions. As a result, neither GAFSnor the underlying financial systems provide all the data on accounts needed to prepare financial statements or other financial reports. Information Needed for A general ledger system should serve as the basis for preparing financial Financial Statements Not statements and other financial reports. However, the Air Force’s finan- cial statements did not flow from and are not supported by either a gen- Produced From eral ledger system or subsidiary accounting systems. The Air Force used Accounting Systems alternative sources to obtain the necessary data for its financial state- ments In some instances, the data for the financial statements were developed from budgetary subsystems within GAB. While the budgetary subsystems operated within the financial management structure, the accounting data were not routinely processed into the general ledger accounts and had to be developed based on extract programs written specifically to pull together financial data from budgetary reports for Page 23 GAO/APMDBO-23 Air Force Financial Audit Chapter 2 Financial Management Systems Do Not Provide Reliable Finaucial Information the financial statements. In other instances, the data were developed from property systems that had no accounting function1 The general ledger also should ensure that all transactions are accu- rately processed and recorded. Because the Air Force used a variety of unrelated sources for preparing financial statements, it has no assur- ance that material errors and omissions did not occur. Table 2.1 contains examples of accounts developed from alternative sources for the finan- cial statements. The fact that the Air Force had to derive account bal- ances from other sources is, in our opinion, a matter of concern because these accounts-such as aircraft, missiles, and engines-represent the major line items on Air Force’s financial statements. Table 2.1: Accounts Developed From Alteknative Sources Dollars in billions --- System where data Account description Amount were obtained Aircraft $82 Property Missiles IO Property Uninstalled engines - 7 Property -- Aircraft under construction - 15 Budget Missiles under construction 3 Budget Depreciation expense and accumulated Property -~-depreciation for buildings ..~ IO -___ Accounts receivable 2 - Budget Accounts .~__I- payable___~ .- 18 Budget Expenses 70 Budget Revenue 70 Budget Our audit showed that these various systems cannot be pulled together to produce reliable financial statements. Moreover, the absence of a fully integrated general ledger system to maintain the above accounts means that (1) financial management reports other than financial state- ments cannot be prepared with assurance of reliability and (2) monthly or other periodic financial management reports cannot be prepared on a timely basis. ‘For example, as discussed in chapter 4, the Air Force’s accountability (property) systems used for weapons systems tracks the location of military hardware, but the costs of acquiring the weapons systems are not fully accounted for. Page 24 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 Financial Management Systems Do Not Provlde Reliable Flnanclal Information Title 2 requires equipment to be valued at historical cost, that is, the actual costs expended to acquire the equipment and put it into opera- tion The Air Force, however, values its equipment using a standard cost which is intended to approximate the cost to replace the equipment. The Air Force’s Consolidated Statement of Financial Condition for fiscal year 1988 reported that it had equipment valued at $26.8 billion. This consists of such things as vehicles, machinery, furniture, and computers which it generally purchases from either the General Services Adminis- tration (GSA) or the Defense Logistics Agency (DLA). When the Air Force acquires a new piece of equipment, or DLA or GSAchanges its price for the kinds of equipment items owned by the Air Force, the Air Force revises the recorded values for all like items it holds. This can be extremely misleading for longer-lived assets of these types, when cou- pled with failure to record depreciation. Essentially, under this practice, old pieces of equipment with limited remaining utility are valued as if they were brand new items. Depreciation Accounting Title 2 requires federal agencies to record and report the depreciation for capitalized assets in the financial statements of revolving fund activ- Practices Could Improve ities (such as the Air Force’s industrial funds). The principles further Financial Reporting encourage the reporting of depreciation by all federal functions and activities such as general fund activities. Revolving funds function much like commercial entities which provide goods and services to customers. Accordingly, revolving funds need to recover costs associated with pro- viding goods and services, General funds, on the other hand, are used to fund the day-to-day operations of an entity. While general funds do not operate on a cost-recovery basis, recording depreciation for general fund assets help allocate the assets’cost over their useful life. Our review found that the Air Force did compute, record, and report the required depreciation amounts for its revolving funds and for general fund assets of aircraft and buildings. However, it did not record d.epreci- ation for other general fund assets of equipment which hdported value of $26.8 billion. Further, consideration regarding the application of depreciation concepts to missiles is needed to determine whether it is appropriate to record depreciation on missiles. Although not currently mandatory, we believe that reporting depreciation on all the Air Force’s capital assets would improve its financial reporting. Page 26 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 FInanclal Management Systems Do Not Provide Reliable Financial Information The Department of the Treasury requires federal agencies to prepare Udreliable Reporting and submit to Treasury annual financial statements as part of an effort to /Treasury to upgrade accounting and financial reporting within the federal govern- ment. The reporting requirements also serve to establish a sound finan- cial management foundation for improving the reliability of accounting systems and, therefore, the financial reports they produce. Moreover, Treasury uses the agency reports to prepare consolidated govern- mentwide reports, which provide information to the Congress and the public about overall government performance and stewardship. Incorrect agency financial reports adversely affect Treasury’s and OMB'S ability to evaluate agencies’financial performance because the analyti- cal techniques Treasury is developing use the data in agency financial reports. For example, analysis of turnover and use ratios covering extended periods could help assess whether inventory is being used effi- ciently and could identify emerging trends. However, analysis of such information is only as good as the data being analyzed. If the data are not accurate, the analytical results are at best questionable, if not incor- rect and misleading. The financial information produced by the Air Force and reported to the Department of the Treasury is not reliable. The same accounting sys- tems and practices which produce the financial statements are also used for reporting to other government entities. Accordingly, these reports do not contain accurate cost information for almost all of the Air Force’s non-cash assets-such as inventory, equipment, aircraft, and missiles. In addition, these reports have an additional shortcoming because they are not carefully prepared. In 1986, Treasury issued requirements for agencies to annually report their financial position (SF 220). The SF 220 shows an entity’s assets, liabilities, and equity similar to the consolidated statement of financial position. In 1987, Treasury augmented its reporting requirement to require all agencies to submit a report on their operations (SF 221). The SF 221 shows the annual financial results of an entity’s activities, including expenses, revenues, and other financing sources such as appropriations; the SF 22 1 is similar to a consolidated statement of operations. Each of these Treasury reports is on a fiscal year basis, and Treasury requires them to be submitted by November 15 each year, 46 days after the close of the fiscal year. Air Force officials stated that, prior to our audit, a number of Air Force components failed to submit financial information to the finance center Page 26 GAO/AFMD-90-23 Air Force Financial Audit P Chapter2 Financial Mauagement Systems Do Not Provide Reliable Fhaucia.l Information in sufficient tim e for inclusion in the department’s year-end reports to Treasury. Therefore, finance center personnel routinely used March 31 data for these components in preparing the year-end Treasury financial statements. For fiscal year 1988, all Air Force components submitted their financial data to the finance center in tim e for preparation of the Treasury reports except the Air National Guard (ANG). Finance center personnel used March 31, 1988, data for ANG in lieu of the m issing Sep- tember 30, 1988, data. The March 31 data understated ANG assets by about $634 m illion and liabilities by $29 m illion. Both Title 2 and the Treasury Financial Manual require similar financial statements to be prepared at each year-end. Both require the prepara- tion of financial statements by each major fund type and consolidated statements on the entity. Both require that all intra-agency transactions and balances be eliminated from the consolidated statements. The fiscal year 1988 consolidated financial statements which Air Force prepared contained additional accounts not reported in the Treasury reports. For example, the financial statements recorded depreciation on aircraft and buildings, losses due to aircraft crashes, and appropriations to be provided for accrued annual and m ilitary leave balances to be liq- uidated in future periods. These accounts should have been reflected in the Treasury reports. A detailed comparison of the Treasury reports with the consolidated financial statements is shown in appendix II. Our comparison of the accounts reported in the Treasury reports with the consolidated finan- cial statements shows the following: l The Air Force omitted asset accounts for aircraft and m issiles under construction ($18.2 billion) from the Treasury reports. l Intra-agency balances were not eliminated as required by Treasury reg- ulations, thus double-counting certain accounts. For example, reim- bursements from one Air Force appropriation to another were included as financing sources by both appropriations, thereby overstating total Air Force funding sources. Similarly, Air Force units remitted $3.4 bil- lion to the Depot Maintenance Service and $6.1 billion to the Air Force Stock Fund for maintenance services and supplies. These transactions were not eliminated and resulted in overstatements of revenues and expenses at the Air Force consolidated level, distorting the results of Air Force operations for the year. Page 27 GAO/AFMD-90-23 Air Force Financial Audit chapter 2 Financial Management Systems Do Not Provide Reliable Financial Information To provide meaningful, comparable data, financial reports need to record all the resources the agency is responsible for managing, plus the adjustments necessary to eliminate intra-agency transactions, to more accurately show the costs of operating the agency. Despite their shortcomings, the existing financial systems do produce Financial Management some data which could be used to help plan for, manage, and control S&terns Are Not Used resources. All too often, however, such data are not considered in the Effectively to Manage normal course of operations nor used to perform analytical techniques which would disclose operating problems. Similarly, when the financial R&ources systems produce information which is obviously wrong or merits inves- tigation, these problems are often ignored. The Air Force’s financial management systems primarily operate as fund control systems intended to ensure that budgetary resources are available to meet obligations. However, even with this limitation, these financial management systems can nonetheless provide much useful information on the status of the Air Force’s resources. Air Force manag- ers have not been routinely analyzing available data to identify problems or potential problems within their operations. Analysis of such financial data can point to potential problem areas and equip managers with convincing support for changing the direction of programs. Comparisons can be made of expected (or budgeted) perform- ance with actual results, or performance from one period to another, or performance between one operating unit and another. While minor dif- ferences in performance are expected, significant deviations from man- agement’s established expectations should be investigated. This will result in the early detection of problems occurring in the operation of a program or activity, or in the need to reexamine management’s expectations. Analysis of Financial The Air Force’s financial management systems do produce some finan- Accounts Not Used to cial information which can be used to reveal potential financial manage- ment problems, However, many routine financial reports, such as Identify Potential Errors monthly stock fund trial balances and semiannual general fund trial bal- ances, are produced but apparently are not acted upon by managers. Air Force regulations do not require any such analysis, nor are analytical u reviews of financial data emphasized by Air Force top management. Page 28 GAO/AFMD-90-23 Air Force Financial Audit chapter 2 Financial Management Systems Do Not Provide Reliable Financial Information Comparative reports of operations were generally prepared only for budgetary purposes and not for analysis of financial data from one period to the next, Only the Depot Maintenance Services (DMS), Air Force Industrial Fund, performed a comparative analysis of account balances. DMS managers were working to address some of the problems surfaced by the comparison. We compared account balances reported in fiscal year 1987 with fiscal year 1988 data and found several instances of significant fluctuations in records at all levels of the Air Force. The Air Force had not identified these fluctuations. We found instances at two air bases where Air Force managers could have avoided certain financial problems or, at a mini- mum, contained them more effectively through earlier detection had a comparative analysis been performed. We pointed out the following examples to the Air Force, which subsequently initiated investigations: l At Sembach Air Force Base, suspense accounts2 held significant uncleared balances, and trial balance accounts varied significantly from September 30, 1987, to September 30, 1988. A follow-up of these sus- pense account balances and variances by managers at the base would have identified that stock fund billings were not being made against operations and maintenance funds, and managers could have limited the losses incurred by the stock fund. The loss sustained by the stock fund was at least $82,000 and, as of September 30, 1988, Sembach’s suspense account still had a balance of over $525,000 in unprocessed and, in cer- tain instances, undocumented and unidentifiable transactions. For a sin- gle air base, these amounts represented major problems. l The Air Force District of Washington failed to receive $15.7 million in reimbursements from other appropriations because billings were not timely. By the time management realized a problem existed with billings for reimbursement, documentation to support the billings was no longer available. If managers at the base had reconciled sales to billings as recorded in the Standard Base Supply System, they could have detected a problem which had existed for over a year. As a result of the billing problems not being detected, records to research the billings and make corrections, which are retained for only 90 days, were no longer avail- able, and the stock fund could not be reimbursed. DMS managers, on the other hand, analyzed the financial data to track time lags in contractor reporting of material on hand and billings. At “Suspense accounts are generally used to hold miscellaneous unidentified transactions of an entity until they can be researched to decide the proper treatment and classification of the transactions. Page 29 GAO/AFMD90-23 Air Force Financial Audit Chapter 2 Financial Management Systems Do Not Provide Reliable Financial Information each of the three DMSactivities we visited, credit (negative) balances for government-furnished materials in-transit to contractors ranged from about $7 million to $12 million. At two DMSactivities, contractor- acquired property showed credit balances of about $3 million and $7 million, respectively. However, management was aware that the credit balances in these asset accounts were improper and monitored the prob- lem until corrective actions could be made. We also found significant variances in Air Force Systems Command account balances from year to year. Although a significant variance may not be the result of an error, such variances should be investigated to verify the.appropriateness of account balances. As shown in table 2.2, at the Air Force Systems Command (AFSC) headquarters, the consoli- dated general funds control accounts had substantial changes that were not questioned and, when we inquired, could not be explained by Air Force officials. Table 2.2: Examples of AFSC Control Acdount Balances With Significant Dollars in billions Changes Account 9/30/07 9/3o/sa Change --1___ Accounts Receivable-Reimbursable $3 $.8 t166% General Expenses 21.6 6.1 -72% sales of Services 1.3 .5 -62% Collections-Transfers Out 1.6 .9 -44% Disbursements-Transfers Out 24.4 a.9 -64% The significant increase in accounts receivable and the decrease in col- lections indicate potential problems developing in the collection of accounts. Also, the drop in general expenses, coupled with a decrease in disbursements, could indicate that information is not being reported to AFSCby the payment centers and/or the rate of progress payments is slowing. This might indicate to management that monitoring the prog- ress of contracts should be given closer attention. These examples illus- trate some of the ways that accounts can be analyzed to identify potential problems in Air Force operations. This type of analysis would also be useful at the level where the individ- ual trial balances are initially prepared. As shown in table 2.3, trial bal- ances prepared annually by the product divisions and other AFSC Page 30 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 FYnancial Management Syeteme Do Not Provide Reliable Financial Information activities” contained variances in account balances from year to year that could not be explained by managers. Table 2.3: Variances in Divisional Trial Balances From Period to Period Dollars in millions Location --- - Account s/30/07 9/30/88 Change SSD Net Investment $2,084 $3,159 +52% - ASD General Exoense 456 237 -48% - ASD Disbursements 504 13 -97% RADC Disbursements 189 245 -F30% The significant decreases in the Aeronautical System Division’s expenses and disbursements should be investigated, particularly since these two accounts normally are closely related, but disbursements decreased substantially more than expenses. In addition to comparing information from period to period, useful anal- ysis can be performed between units with similar missions. We noted a number of differences among various product divisions’ trial balances as of September 30,1988, as shown below: -- Table 2.4: Variances Among Divisional Trial Balances at September 30,1988 Dollars in millions Account ASD ESD SSD General Expense $237 $1,908 $0 Disbursements 13 5,489 0 Net investment 7,731 2 3,159 Management should question why, in the case of ASD, expenses were much greater than disbursements, whereas at the Electronics Systems Division (ESD), disbursements exceeded expenses by almost three times. In any case, it is highly unlikely that an entity would have incurred no expenses nor have made any disbursements for the year, as in the case of the Space Systems Division. ‘3Thesedivisions include the Space Systems Division @SD), the Aeronautical Systems Division @SD), and the Rome Air Development Center (RADC). Page 31 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 Financial Management Systems Do Not Provide Reliable Financial Information Abnormal Account In addition to analyzing data related to significant variances, analysis Ba$ancesNot Followed UP also needs to be made of the reasonableness of stated account balances to ensure the quality of the data. Generally, account balances for spe- cific classes of accounts will carry a normal or predictable balance. For example, asset accounts will generally carry a positive, or debit, bal- ance. We found accounts reported from the base level to the command level and on to the Air Force Accounting and Finance Center (AFAFC) level with abnormal balances, such as negative, or credit, balances in asset accounts. Air Force officials could not explain why there were credit balances. As shown in table 2.5, at six air bases, credit balances were reported for asset accounts in the medical/dental stock fund trial balance as of Sep- tember 30, 1988, Tab!le 2.5: Air Bases With Credit Balences for Medical/Dental Stock Fund lnvintorles .-Dollars in thousands Location Credit balance Air Force District of Washington $54 Columbus AFB ..___ 263 Lowry --~ AFB - __-.-_--- -_ 112 Reese AFB 63 Williams AFB ..__52 Wurtsmith AFB--~~~‘-p~~ 54 The purpose of preparing the trial balances is to provide information to be used to manage the operation of an entity. However, with significant errors found in the trial balances, the stock fund manager could neither use the trial balances to compare the relative performance of the stock fund’s activities at one Air Force activity with another, nor to maintain visibility over resources used in the stock fund’s operations. Table 2.6 shows bases where negative balances were also reported in the construction-in-process accounts. Three air bases under the Strategic Air Command reported negative construction-in-process balances to the command, which is clearly an error for an asset account. This informa- tion was then consolidated and reported to the finance center. Page 32 GAO/APMD-90-23 Air Force Financial Audit Chapter 2 Financial Management Systems Do Not Provide Reliable Financial Information Table 1.6: Air Bases With Credit Balanges in Construction-In-Process Dollars in millions Acco nts Location Credit balance “i Anderson AFB - $5.8 Beale AFB 8.4 Minot AFB 22.7 It is unlikely that the managers at either the base level or at the com- mand level could use the inaccurate information reported in these records to ascertain the status of construction at these bases. Manage- ment needs to determine the cause of these inaccurate balances and make necessary corrections to ensure the quality of the data to be used in decisionmaking at all organizational levels. Management Control We recognize that, in addition to dollar-based reports, there are other important indicators of efficiency and other bases for planning and Reports making strategic decisions. However, accurate dollar-based management reports which-disclose historical cost information are essential in every enterprise concerned with cost-effectiveness. Such reports should deal with such things as inventory and other asset management, base opera- tions, budgetary, and strategic planning alternatives. This chapter illus- trates that historical cost data are not generated in a manner designed to be reliable and timely and that little attention is paid to the data which are generated. Managing any private or public enterprise involves the control of Conclusions resources to produce results. The manager’s job is to achieve goals at the least practicable cost, to make the best possible use of the resources entrusted to him or her, and to stay within spending and other limita- tions. Agency managers and the Congress need reliable, timely, consis- tent financial data as a basis for identifying problems, reaching decisions, and judging whether or not policy decisions have been prop- erly implemented. Now more than ever, agencies need accurate, reliable financial information to make more informed decisions and reap the benefits of financial analysis to identify potential problem areas and inefficient operations as well as to better utilize their scarce assets. Pre- paring annual financial statements provides a discipline to provide accu- rate, reliable financial data so managers can have information to supplement their current decisionmaking process, enabling better, more informed decisions. Page 33 GAO/APMD-W-23 Air Force Financial Audit \ . Chapter 2 Financhl Management Syetema Do Not Provide Reliable Financial Information The Air Force has a long-range plan, as discussed in chapter 6, for a new Rehommendations accounting system to deal, in part, with these problems and those dis- cussed in chapters 3 through 6. However, until the new system is devel- oped, the Air Force needs to use its present financial management systems to its best advantage. The Air Force also needs to work toward producing auditable financial statements in the near future. We plan to continue working with the Air Force on its financial management opera- tions and systems. Accordingly, based on matters discussed in this chap- ter, we recommend that the Secretary of the Air Force develop an overall plan specifying corrective actions and milestones for the Air Force to produce consolidated financial statements in accor- dance with Title 2 that will be submitted for independent audit, give high priority to developing an integrated accounting system capable of generating reliable financial management reports on a timely basis, and l develop management reports designed to assist to achieve cost- effectiveness and efficiency. Until such time that these systems and reports can be developed, we recommend that the Secretary direct his Chief Financial Officer to correct deficiencies identified in existing systems to the fullest extent possible; investigate unusual and abnormal account balances; perform a periodic comparative analysis of account balances from one period to the next and follow up and explain significant variances; perform, to the fullest extent possible in light of existing systems defi- ciencies, comparative analyses of operating units across time periods and of other cost centers to determine efficiency of operations; accumulate and report actual costs of equipment in accordance with Title 2; and generate more reliable and complete financial information for reports to the Department of the Treasury and for annual consolidated financial statements. Additional recommendations relating to the present financial manage- ment systems appear in later chapters. Page 34 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 Financial Management Systems Do Not Provide Reliable Financial Information DODstated in its response that the Air Force will, be required to develop Ag&cy Comments and a plan to adhere to executive branch financial statement requirements. Our/Evaluation We believe this is an important step. The most serious financial weak- nesses discussed in this report, including the lack of a general ledger system (chapter 2), material weaknesses in internal financial controls (chapter 3), incomplete accounting for weapons systems costs (chapter 4), and unreliable records of inventory quantities (chapter 6) all directly affect the financial statements required by the executive branch. How- ever, the Air Force also needs to include in its plan several additional steps, such as developing adequate descriptive footnotes to the state- ments and ensuring adequate accrual for all income and expenses, in order to make them meet Title 2 requirements. The Air Force has already made significant progress in improving its financial manage- ment by developing consolidated financial statements and furnishing them to GAOfor audit. Such reporting and audits are necessary to ensure that systems of internal control are adequate. Further, properly pre- pared, audited financial statements enhance accountability and provide greater discipline for management. DODagreed that the Air Force needs an integrated accounting system, but it did not agree that the Air Force’s financial reports were unreliable and not timely. However, the executive branch financial reports cur- rently produced require extensive manual efforts to prepare and included material errors in fiscal year 1988. We believe that implement- ing an integrated accounting system will enable the Air Force to more quickly and accurately satisfy all of its financial reporting requirements. We agree with DODthat it does produce some management reports that address cost-effectiveness and efficiency. However, we identified oppor- tunities for additional reports and analysis of financial data based on accurate historical cost information that can enhance managers’ ability to more effectively and efficiently monitor and use their limited resources. In discussing its comments, DODasserted that the actual costs of equip- ment could be developed from existing systems. However, in working with Air Force officials during the course of the audit, neither we nor the Air Force identified a system or procedure that would provide the actual costs of equipment. Page 35 GAO/AFMD-99-23 Air Force Financial Audit Internal Control WeaknessesPrevent Accurate lhwial Reporting and ReduceAccountability Over Assets Weaknesses in basic internal controls together with unreliable financial management systems and the resulting billions of dollars of errors in account balances adversely affect the reliability and accuracy of finan- cial statements and other financial management information used by the Air Force. Effective financial management requires strong systems of internal control to help ensure the integrity and reliability of financial information, to safeguard assets, and to promote conformity with proper operating procedures. Air Force management is responsible for establishing and maintaining a system of internal controls, including accounting controls, in accordance with the Accounting and Auditing Act of 1950 and the Federal Manag- ers’ Financial Integrity Act of 1982 (FMFIA). The objectives of a system of internal controls are to help provide management with reasonable, but not absolute, assurance that (1) obligations and costs are in compli- ance with applicable laws, (2) funds, property, and other assets are safeguarded against waste, loss, and unauthorized use or misappropria- tion, and (3) assets, liabilities, revenues, and expenditures applicable to agency operations are properly recorded and accounted for to permit the preparation of accounts and reliable financial and statistical reports and to maintain accountability over agency assets. These objectives are not being met by the Air Force. During our review, we found areas of internal control weaknesses that need to be addressed by the Air Force. Specifically, the Air Force needs to focus on internal control procedures over the preparation of adjust- ments to financial records, the reconciliation of accounts between sub- sidiary/supporting and general ledger records, and other internal control problems which were significant to a particular organizational level within the Air Force but not pervasive to the Air Force as a whole. These matters are covered in this chapter. Other control weaknesses specifically related to inventories and weapons systems are discussed in the following chapters. Title 2 requires that reconciliations between summary and detailed Accounts Not records be periodically performed and documented and that adjust- Routinely Reconciled ments, if necessary, be made promptly to properly bring these records into agreement. If two sets of independently derived records do not agree, management is alerted to a potential problem and can follow up u quickly to determine the reasons for lost assets or failed procedures and correct the errors or system weaknesses. Reconciliation procedures require identifying, investigating, and resolving all discrepancies Page 36 GAO/AFMD90-23 Air Force Fiiancial Audit Chapter 3 Internal Control Weaknesses Prevent Accurate F’inanclal Reporting and Reduce Accountablllty Over Assets between general ledger type control accounts and subsidiary records and, where warranted, making the appropriate adjustments to either the subsidiary records or to the general ledger or control accounts. We found that reconciliations between subsidiary records and the con- trol accounts are not always performed to ensure the accuracy and pro- priety of recorded account balances. In addition, we found instances where the accounting records showed that disbursements had been made that exceeded the corresponding obligation amounts, and the Air Force had not investigated why this occurred. Such occurrences could indicate that disbursement information is being incorrectly recorded, contractors are being overpaid, or the Anti-Deficiency Act is being violated. Con$ml Accounts Not Our audit tests revealed that the control accounts were not regularly Reconciled With reconciled with subsidiary records which provide the detailed support for the summary-level data recorded in the general ledger accounts. This Subsidiary Records occurred at three Air Logistics Centers (ALCS), which maintain the Air Force’s inventories of spare parts and supplies, and at three Depot Main- tenance Service (DMS) activities, which repair and maintain Air Force equipment and weapons systems. We identified and presented the fol- lowing discrepancies to local officials for investigation. At Warner Robins ALC, one account had a negative balance of $2.1 bil- lion, although the account balance should normally be positive or zero. The general ledger accountant said that he had no documentation to support the account balance and that the account had been in error since 1983. At the San Antonio ALC, subsidiary data in the Contractor Repair Inven- tory System, which is used to control parts provided to various contrac- tors for repair, did not agree with control account balances for materials with contractors. During our audit, we found that the general ledger account for materials provided to contractors was overstated by $697 million, while the account for the repair parts was overstated by $169 million. This discrepancy indicates poor control over government-owned materials and equipment with contractors. . The Ogden AX general ledger included $379 million in equipment, an amount which was also included in the DMSgeneral ledger. The Air Force requires reconciliations between these two systems in order to detect duplications and errors, but we found that the prescribed procedures were not followed. For example, some of the data necessary to properly perform the reconciliations were either never considered or were Page 37 GAO/AFMD-90-23 Air Force Financial Audit . -- Chapter 3 Internal Control Weaknesses Prevent Accurate Nnancial Reporting and Reduce Accountability Over Assets recorded twice-once at the Ogden DMS and once at the San Antonio DMS. Since the reconciliations were not properly done, incorrect adjustments to the accounts were made, simply compounding the problem. Similar problems have been recognized in our prior reports on DOD agen- cies. For example, we reported “arbitrary and erroneous reconcilia- tions,“’ and we reported that internal controls over in-transit material at one of the ALCs were inadequate because the Air Force did not reconcile individual payments and receipts.2 Further, at two bases we visited, year-end stock fund account balances for recording sales of inventory items to base units could not be recon- ciled to subsidiary records generated by the supply management system. The base units reimburse the stock fund with Operation and Mainte- nance (O&M) funds, Neither we nor base officials could fully resolve these discrepancies because necessary documentation of transactions between the stock fund and base units had not been retained. Since the stock funds are revolving funds and are reimbursed for sales by custom- ers’ appropriated funds, the failure to be reimbursed in effect supple- ments the customers’ appropriated funds improperly. Congressional intent on use of appropriated funds is circumvented when customers receive items from the stock funds without paying for them. Disbursements Not The Air Force Systems Command did not properly reconcile its disburse- Reconciled W ith Obligation ment transactions with supporting records of obligations as required by Air Force regulations. Systems Command records disclosed that, as of Balances September 30, 1988, almost $7 billion in disbursements was not recon- ciled with obligation records, Reconciliations of disbursement transac- tions to supporting records of obligations are essential to monitoring and controlling contractor payments and ensuring compliance with the Anti- Deficiency Act. The act provides that no officer or employee-of the United States shall make or authorize an expenditure from or create or authorize an obligation under any appropriation or fund in excess of the amount available therein (31 USC. 1341). The act also provides that no officer or employee of the United States shall authorize or create any obligation or make any expenditure in excess of an apportionment or in excess of the amount permitted by regulation (31 USC. 1517). ‘Navy’s Progress in Improving Physical Inventory Controls and the Magnitude, Causes, and Impact of Inventory Record Inaccuracies in the Army, Air Force, and Defense Logistics Agency (GAO/ _ _ , November 4,1983). NSIAD849 “Inventory Management: Receipt Confirmation Problems (GAO/NSIAD-88-79, July 14, 1988). Page 38 GAO/AFMDSO-23 Air Force Financial Audit Chapter 3 Internal Control Weaknesses Prevent Accurate Fln~clal Reporting and Reduce Accountability Over Assets The Systems Command awards contracts while other organizations (for example, the Army, Navy, and Defense Contract Administration Ser- vices) are responsible for making the actual payments to contractors. The organization making the actual payments then provides payment information to the Air Force Accounting and Finance Center, which ver- ifies the information and forwards it to Systems Command. Both the payment office and Systems Command are responsible for ensuring that the payments do not exceed the obligations and that correct appropria- tions are charged. The Systems Command either accepts the transac- tions if they are found to be for proper disbursements or it rejects and returns them to the Finance Center if they are deemed improper. Acceptance requires the Systems Command to match the disbursements with the related obligations and to notify the Finance Center that the transactions are accurate and proper. Reconciliations are a key control in ensuring that payments do not exceed obligations on contracts and that funds are properly spent. When payments exceed obligations (also referred to as negative unliquidated obligations), management needs to initiate immediate corrective action. These issues are discussed in our recent report,3 which recommended that negative unliquidated obligations already recorded be resolved and that quarterly reports on the amount and age of the negative unliqui- dated obligations be submitted to management. Title 2 requires that documentation of transactions and other significant Account Balances events, including adjustments to accounting records, be complete and Cohtain Unsupported, accurate so that transactions and related information can be traced from Arbitrary their initiation, through their processing, to their completion. Compli- ance with this standard requires that documentation be purposeful and Adjustments useful to managers and auditors involved in analyzing operations. Air Force regulations also require that adjustments be adequately documented. We found that adjustments totaling billions of dollars were made to account balances and records throughout fiscal year 1988. We did not find records to adequately document the purpose of many of these adjustments, and Air Force officials could not provide a reasonable explanation for them. 3Financial Management: Air Force Records Contain $612 Million in Negative Unliquidated Obligations (GAO/AFMD _89 - 78 , June 30,198Q). Page 39 GAO/AFMD-90-23 Alr Force Financial Audit Chapter 3 Int.emal Control Weaknesses Prevent Accurate Financial Reporting and Reduce Accountability Over Assets There are legitimate and necessary reasons for making adjustments to accounting records, such as correcting errors, posting accruals to recog- nize expenses and related liabilities, or writing off assets which are no longer of value. However, without adequate safeguards, adjustments to accounting records could also be used for any number of illegitimate or improper purposes, such as covering up defalcations, hiding losses of assets, or masking errors. Accordingly, from an internal control stand- point, it is essential to establish internal controls which ensure that only legitimate, authorized adjustments are made and that clear documenta- tion is maintained to explain their basis and purpose. Such documenta- tion allows for detection and systematic correction of errors and establishes that adjustments were made for a valid purpose and were authorized and executed by personnel acting within the scope of their authority. Our audit work revealed that many significant adjustments to account- ing records appeared incorrect, were of questionable purpose, and were not documented. Because of the lack of documentation, we could not determine whether these adjustments were appropriate or whether the affected account balances were accurately stated. Air Force officials could not explain these adjustments. Our audit tests of adjustments revealed that certain undocumented adjustments were made to force control accounts and subsidiary records to agree, as shown in the following examples: . The control accounts in the Space Systems Division’s trial balance for March 31, 1988, differed from its subsidiary records by $2.4 billion. To get the two systems to agree, an adjustment was made which charged the difference to the subsidiary system. The effect of this adjustment was to reduce assets and decrease the Other Operating Gains and Losses account. However, Space Systems Division officials could not provide documentation to support the adjustment, nor could they explain how the difference between the trial balance and subsidiary records arose. Simply masking discrepancies is not a proper use of adjustments. l At Sembach Air Force Base, we found over $214,000 in undocumented adjustments that were apparently made to force the control accounts to agree with subsidiary records. These adjustments were charged to a sus- pense account designed to identify transactions which need to be reviewed. When management uses suspense accounts (accounts with transactions that have not yet been classified for posting to their proper accounts), it should also institute controls over the transactions entered into these accounts to ensure that they are promptly classified and Page 40 GAO/AFMLI-90-23 @ Force Financial Audit Chapter 3 Int4wnal Control Weaknesses Prevent Accurate Fbmncial Reporting and Reduce Accountability Over Assets removed from the suspense accounts on a timely basis. However, we noted several examples where suspense accounts were not being prop- erly used at Sembach. For example, an unsupported adjustment of $82,000 was made during fiscal year 1988 to force the fuels inventory control account to agree with subsidiary records. Some of the unsup- ported adjustments were attributed to the actions of a disgruntled employee in the finance office who failed to properly process transac- tions, entered erroneous data into the materiel accounting system, and destroyed source documents. An investigation is under way to determine if any fraud occurred. . At the Systems Command, our audit tests disclosed unsupported adjust- ments of $600,000 that were made to obligation and expenditure accounts for Operations and Maintenance appropriations in September 1988. Officials could not explain the adjustments, nor could they find any documentation to show why they were made. l At the three Au3 we reviewed, the interfaces between the perpetual inventory tracking systems and inventory accounting system did not function properly. As a result, the two systems reported different amounts on hand for the same items. To compensate, either each month or each quarter, the accounting and finance office adjusted the accounts in the inventory accounting system to force them to agree with the per- petual inventory tracking system’s balances. However, the discrepancies between the systems were not researched to determine their causes. The net effect of such adjustments for fiscal year 1988 decreased the inven- tory accounts by about $361 million. At our request, Ogden ALC officials researched $241 million of its September 30, 1988, adjustment and found that $114 million was the result of inventory system errors, while $127 million resulted from coding and timing errors. These errors had been masked by the improper adjustments and would not likely have been detected had we not asked base officials to investigate. Air Force regulations require that supervisors and managers review and approve all adjustments. However, many of the adjustments discussed above were not provided to higher levels of management for their review and approval. Not submitting adjustments for review and approval circumvents essential internal controls and could allow adjust- ments to be used to hide errors, fraud, or misuse of assets. Our review disclosed several other internal control weaknesses that Other InterQal Control were significant to particular organizational levels within the Air Weaknesses Force’s management structure but not pervasive to the Air Force. We Page 41 GAO/AFMD-90-23 Air Force Financial Audit Chapter 3 Inted Control Weaknesses Prevent Accurate Financial Reporting and Reduce Accountability Over Assets discuss these problems in more detail and make recommendations to cor- rect the problems in separate reports evaluating the internal controls at (1) base-level operations, (2) Systems Command operations, (3) Air Logistics Centers, and (4) Depot Maintenance Services, Air Force Indus- trial Fund. -’ WeabnessesFound in Internal control weaknesses contributed to the inaccuracy of financial BashLevel Operations reporting by the base-level general accounting and finance system. We found the following conditions during our review of base-level operations. . Reconciliation of civilian payroll and personnel master records is not performed. At the Air Force District of Washington, the payroll office had not reconciled its records to personnel records since May 1986. This reconciliation is the primary control to ensure that civilian employees are paid as authorized by the base personnel office, This comparison serves to identify any errors or irregularities such as improper pay rates or fictitious employees. . Discrepancies in shipments of materials are not always researched. Internal controls to ensure proper recording of goods shipped to bases are not always performed. Follow-up listings which are used to prompt follow-up for missing or damaged goods are not always prepared. Addi- tionally, when the follow-up listings are prepared, required reports which document resolution of the discrepancy are not always produced. Weak controls over shipments could result in the Air Force’s paying for defective items or goods it does not receive. We determined that the Air Force bases do not consistently report con- struction-in-process. During construction of, or improvement to, base facilities, the bases should periodically recognize as assets the construc- tion performed or improvements made. This is accomplished by record- ing the appropriate amounts as “construction-in-process.” At three of nine bases tested, construction-in-process was not properly recorded. At one base, the construction of a new aircraft hangar was not recorded in the base property records. According to the real property officer, the base does not routinely account for costs associated with construction- in-process unless the Air Force acts as the construction agent. According to a contracting officer, failure to record construction-in-process in the accounts caused an understatement of assets of at least $39 million. Page 42 GAO/AFMD-90-23 Air Force Financial Audit Chapter 3 Intemal Control Weaknesses Prevent Accurate! Flnanclal Reporting and Reduce Accountability Over Assets Conversely, recording unfinished construction, or improvements, in the completed building account overstates building cost and depreciation before the useful life of the building commences. One of the bases tested had seven facilities under construction as of September 30, 1988, with a cost at that time of $8.6 million. The base prematurely recorded these facilities in the completed buildings account at an estimated completion cost of $16.4 million, thus overstating assets by about $7.9 million. Once construction has been completed, the associated costs should be moved from the construction-in-process account to the completed facili- ties account. At one base, we found that a completed project for $79,960 had been recorded in the completed building account. However, the cost of the project had not been removed from the construction-in-process account, thus causing an overstatement of that amount. WeaknessesFound at Our tests of the authorization, approval, and financial reporting for con- Systems Command tracts to acquire major weapons systems showed that budget authority and obligation and expenditure transactions were not recorded promptly. When these transactions are not recorded in a timely manner, managers receive incomplete financial information. This same informa- tion is then used to determine if funds are available for other procure- ment actions, The result is that managers are then more likely to commit, obligate, and expend more funds than were authorized for a program or contract. . Budget authority: The Electronic Systems Division (ESD) requires budget authority to be recorded in GAFSwithin 3 days of receipt of the source documents. We found that 362 of the 657 budget authority entries were not recorded within 3 days, and 262 of the transactions were not recorded within 7 days. . Obligations: ESDrequires obligations to be recorded within 5 calendar days of receipt. We found 100 of 165 obligations we tested were not recorded within 5 days. Further, 30 of the obligations were posted between 11 and 20 days after receipt, and 24 were recorded over 21 days after receipt. Similarly, the Space Systems Division requires obliga- tions to be recorded within 7 days, and we found that 71 of the 202 obligations we tested were not recorded within the 7 days. . Expenditures: Neither the Air Force Systems Command nor the Air Force had criteria for the number of days it should take for expendi- tures to be recorded. We reviewed a total of 278 expenditures at three product divisions and the Rome Air Development Center and found that 214 were not posted within 10 days. Page 43 GAO/AFMD-90-23 Air Force Financial Audit Chapter 3 Intemal Control Weaknesses Prevent Accurate F’luauclal Reportlug and Reduce Accountability Over Assets The late posting of commitments and obligations affects the accuracy of Air Force Systems Command’s financial reports-available funding could be overstated. To the extent that program managers rely on these financial reports to commit and obligate funds for procurements, the inaccurate reports would cause them to misinterpret the amount of funds available and exceed a contract’s obligational authority. WedknessesFound at Air Based on audit work performed, we found the following weaknesses at Logistics Centers the ALCS: . Inventory adjustments are not timely. The Air Force Logistics Command regulations require that any adjustment or correction to inventory records be made within 21 days. However, we noted at the Ogden ALC that over 10 percent of the adjustments we reviewed exceeded the crite- ria, with processing times ranging from 23 to 113 days. Accurate records of inventory quantities on hand are critical for maintaining readiness. Good internal control would alert management to any adjust- ments which were not promptly made. . Disbursements are not recorded on a timely basis by ALCS.Financial reports issued and used by the ALCSmisstated the status of central pro- curement funds by hundreds of millions of dollars. We found time lags of up to 492 days from the date that contract administrators paid a con- tractor until the ALCS,which are responsible for contract funding, learned of the disbursement. The significant overstatement of unliqui- dated obligations in these reports is potentially misleading for those Air Force managers who use the data in making decisions on resource allo- cation. At the San Antonio ALC, we studied 75 disbursements reported from the Army, Navy, or another Air Force base. We found that it took from 96 to 230 days for San Antonio to receive data on 63 of the trans- actions. It took from 303 to 492 days before San Antonio was notified of the other 12. There were similar occurrences at the Ogden ALC, with time lags ranging from 118 to 385 days. WeaknessesFound at Managers must strengthen controls relating to the issuing and account- Depot Maintenance ing for materials and for the accountability, depreciation, and disposal of equipment used in the repair of items at depots. Current controls do Services not ensure proper safeguarding of these materials and equipment or the proper reporting of the results of the Depot Maintenance Services’ operations. J Page 44 GAO/AFMD-90-23 Air Force Financial Audit Chapter 3 Internal Control Weaknesses Prevent Accurate Financial Reporting and Reduce Accountablllty Over Assets l Controls over material costs. Controls over the $613 million of material costs incurred by DMSduring fiscal year 1988 did not (1) ensure that material was charged to the correct job or (2) limit material quantity issues to actual job requirements. As a result, the DMScould be issuing materials in excess of those needed for its repair functions, and material costs for specific jobs may not be correctly reported. For good internal control, the DMSshould know how much material each type of job requires. The Air Force reported the failure to limit material quantities to actual job requirements as a control weakness in its FMFLAreport for fiscal year 1988. . Controls over equipment. Our testing over the acquisition, transfer, depreciation, and disposal of industrial equipment disclosed (1) errone- ous posting to equipment accounts, (2) incorrect adjusting entries, (3) unrecorded equipment, and (4) facility costs misclassified as equipment costs. As a result, the financial data and reports are not accurate or reli- able, and accountability for equipment is not effectively maintained. In addition, as of February 20, 1990, we were still awaiting the Air Force’s response to our December 21, 1989, inquiry concerning several issues identified during our audit. Specifically, we have asked the Air Force to explain its authority to transfer $76.5 million of fiscal year 1988 Operations and Maintenance appropriated funds to DMSand to fund certain military construction work with DMSfunds. On November 12, 1984, a building at the Oklahoma City AX was exten- sively damaged by fire. On August 27, 1985, about $76.5 million of fiscal year 1985 O&M funds were “passed through” to DMSfor fire costs. The transfer converted $76.5 million of O&M funds available for fiscal year 1985 to DMSfunds with no fiscal year constraints. The Air Force may transfer funds between O&M and DMSunder statutory authority included in each Defense Appropriations Act if certain prescribed procedures are followed. Since we are not aware that the Air Force followed the proce- dures for transfer when the $76.5 million was transferred to DMS,the transfer may have been improper. Our audit also identified about $24.5 million of DMSfunds which were used to finance six line-items in a contract to restore the DMSfacilities damaged by the fire. These items ranged in estimated prices from $400,000 to $10.6 million. The work represented by these items may have been a military construction project which had to be financed from military construction appropriations rather than from DMS.A military construction project consists of all military construction work necessary to produce a complete and usable facility or an improvement to an Page 46 GAO/AFMD-90-23 Air Force Financial Audit Chapter 3 Internal Control Weaknesses Prevent Accurate Fiuancial Reporting and Reduce Accountability Over Assets existing facility (10 USC. 2801). A military construction project which costs more than $1 million generally must be specifically authorized by law (10 USC. 2802). Such projects may also be carried out by the Air Force under statutory authorities to conduct emergency construction (10 USC. 2803) or to restore facilities which are lost or damaged (10 U.S.C. 2854). However, emergency and restoration projects under these authorities which cost more than $1 million must be financed out of the military construction appropriation. Our review of the work financed by the $24.5 million in DMS funds indicates that restoration may have been a military construction project costing more than $1 million. If so, the Air Force may have carried out an unauthorized military construction project and may have improperly funded the project with DMS funds. I I Effective financial management requires strong systems of internal con- Cocclusions trols to help ensure the integrity and reliability of financial information, to safeguard assets, and to promote conformity with proper operating procedures. Although Air Force management is responsible for main- taining a system of internal controls, including accounting controls, our review identified pervasive control weaknesses, such as not routinely reconciling account balances and adjusting account balances without adequate support or documentation. We also identified a number of con- trol weaknesses that were significant to specific organizational levels within the Air Force. In many cases, these weaknesses resulted from noncompliance with Air Force regulations. The Air Force is not alone, however, in its failure to attain a sound inter- nal control environment. Our recent report illustrates the seriousness of the internal control and accounting system problems encountered in the federal government in recent years and the need for a vigorous program to correct these problems.4 We recommend that the Secretary of the Air Force direct the Chief Recommendations Financial Officer to l report the internal control problems with reconciliations and documen- tation for adjustments in FMFIA reports to the Secretary of Defense; l reconcile subsidiary records periodically to the control accounts and cor- rect errors and weaknesses; Page 46 GAO/AFMD-90-23 Air Force Financial Audit Chapter 2 Wmnal Control Weaknesses Prevent Accurate Financial Reporting and Reduce Accountability Over Assets . reconcile disbursements with obligations and promptly correct errors; . document all adjustments to subsidiary records and control accounts; l enforce Air Force’s requirement that supervisors and managers review and approve all significant adjustments; and . report unsupported adjustments and reconciliation internal control problems, if applicable, in future FMFIA reports. DOD concurred with the recommendations presented above. Agdncy Comments Page 47 GAO/AJ?MD-90-22 Air Force Financial Audit Chapter 4 Actual Costsof Aircraft and MissilesAre Not Known Federal financial management systems should provide for both fund control to monitor spending authority within appropriation limits and the accumulation of actual cost data to account for and manage avail- able resources. Information provided by a financial management system should complement other program information and enable deci- sionmakers to more effectively fulfill an agency’s mission. The Air Force accounting systems, however, do not provide reliable information on Air Force weapons systems-which include aircraft, missiles, engines, satel- lites, and other major components. This information is needed for over- sight and funding decisions, such as evaluating alternative weapons systems or modifications to existing weapons systems, for the Air Force’s multibillion dollar programs. Air Force accounting systems do not record the billions of dollars invested in aircraft, missiles, and engines. During production of weapons systems, program managers know whether appropriations are available to purchase these systems but do not have timely and accurate informa- tion on their cost. Furthermore, Air Force financial systems do not rou- tinely provide managers with accurate, reliable information on the operating costs of these weapons once they have been purchased. More specifically, the reported cost of aircraft and missiles is not based on the actual cost of production and usually does not include the costs of gov- ernment-furnished materials (GFM). Furthermore, the subsequent costs associated with aircraft and missile modifications are not capitalized. Instead, military hardware is valued using an estimated unit cost that is determined at the time of initial delivery. That cost is not subsequently adjusted for actual cost information. Accordingly, the reported costs of all military hardware are grossly understated and the actual costs could not be determined at September 30, 1988. This was one of the factors preventing us from expressing an opinion on the Air Force’s fiscal year 1988 consolidated financial statements. The decisions to purchase weapons systems are based on many factors, such as the ability to respond to military threats. However, it is impor- tant that managers consider the actual operating and capital costs of existing weapons systems before deciding to request appropriations to upgrade or replace these systems. Such information is also relevant to other decisions and to cost-effectiveness. Moreover, actual cost informa- tion is needed for meaningful reporting to the Congress and the public, and it instills the discipline needed to control resources and to maintain accountability. Page 49 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costa of Aircraft and Missiles Are Not Known Air Force financial management systems focus on maintaining fund con- Actual Cost of trol to ensure that current expenditures do not exceed available appro- Aircfaft and Missiles priations, but not on accounting for resources used and costs incurred. in Prjoduction Is As a result, program managers do not get timely and accurate informa- tion on the cost of military hardware in production. This diminishes the Unknown Air Force managers’ ability to manage procurement effectively and ulti- mately to accurately assess the value of completed military hardware. In fiscal year 1988, approximately $25 billion was appropriated to the Air Force to procure military hardware. At October 1988, the Air Force had contracts valued at $256 billion to procure aircraft, missiles, engines, and other military hardware. Air Force military hardware pro- curement, which is managed by the Air Force Systems Command, includes highly technical, state-of-the-art weapons systems. A single piece of military hardware, such as a B-1B bomber or an MX missile, can cost several hundred million dollars. Financial controls are established at the point of purchase or when orders are placed to ensure that funds will be available to procure items. Program managers monitor military hardware in production by tracking the number of items produced under the contract to ensure that funds are available to continue production. However, useful cost information on individual weapons is not maintained under systematic accounting control, and all costs associated with the production of a weapons sys- tem are not accumulated. It is virtually impossible to monitor the cost of a specific system in development as compared with the estimated cost to produce it. In addition, this leads to inaccurate reporting of costs to the Congress in Selected Acquisition Reports (SAR). (Inaccurate reporting to the Congress is discussed in greater detail later in this chapter.) Delays in Reporting Our audit disclosed that the Air Force’s standard General Accounting and Finance System (GAFS)does not provide timely financial data to pro- Expenditures for Weapons gram managers responsible for acquiring military hardware. The organi- zational structure for procuring military hardware in the Air Force is complex and decentralized, involving several organizations within and outside the Air Force which fulfill such functions as administering con- tracts, approving payments, making disbursements, and recording and reporting disbursements. To effectively manage programs, timely and accurate financial information must be communicated among these orga- nizations and be made available to program managers. Page 49 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costs of Aircraft and Missiles Are Not Known For example, contract disbursements made by the Contract Management Division (CMD) are recorded in the Acquisition Management Information System. However, this system does not interface with GAS. Instead, dis- bursement data are routed from CMDthrough the Air Force Accounting and Finance Center to the accountable stations,’ thereby creating sub- stantial delays in recording that information. In addition, we found that the accountable stations did not record the disbursements in a timely manner once they had received them. While the Air Force had no crite- ria for the number of calendar days it should take to record the dis- bursements, we felt 10 days was a reasonable criterion. We tested 278 transactions and found that 214 took over 10 days. In addition to delays in recording disbursement data from payment sta- tion to accountable station, we found a lack of reconciliation between the two. Due to the lack of reconciliations, Air Force managers cannot be assured that financial transactions are recorded correctly for aircraft and missiles in production. Reconciliations need to be performed regu- larly to detect and correct errors within Air Force Systems Command records. (See chapter 3 for a discussion on reconciliations of disburse- ments with obligation balances.) The Air Force systems do not accumulate, account for, and report the Value of Aircraft and actual costs of aircraft and missiles, nor is the value of completed mili- Missiles Is Not Based tary hardware based on the actual procurement cost. Title 2 requires on Cost that all property and equipment with an initial acquisition cost of $5,000 or more and an estimated service life of at least 2 years be accounted for at cost. After the Air Force procures a weapons system, the Air Force’s accountability system is updated to show the location of the military hardware but not its full acquisition cost. The Air Force Logistics Command (AFLC) is responsible for valuing mili- tary hardware and tracking its location, readiness, and status. AFLC uses an automated accountability system, the Aerospace Vehicle and Equip- ment Inventory, Status, and Utilization Reporting System (AVISURS), to track the location of Air Force weapons systems. This system was neither designed nor intended to serve as an accounting system. Never- theless, the Air Force used AVISURSas the source for the weapons sys- tems account balances included in the financial statements even though more accurate information on the costs was available in annual Selected ‘An accountablestation is the accountingand financeoffice relatedto the programoffice responsible for the weaponsystemfor which the paymentoffice madethe disbursement. Page 60 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costa of Aircraft and Missiles Are Not Known Acquisition Reports sent to the Congress for recent weapons systems programs. AVISURSgenerates asset valuations for Air Force aircraft and missiles based on the unit cost and the number of aircraft and missiles for each of the 263 specific classes/types of aerospace vehicles, such as the B-1B bomber or the B-52 bomber. Until May 1983, the unit costs which were input to AVEURS were provided by a manual containing information on the Air Force’s various types of aerospace vehicles. The Air Force reportedly calculated these costs by dividing the total procurement costs by the total units acquired for each type of aircraft, an approach we believe to be valid conceptually. However, the Air Force stopped updat- ing this manual in May 1983. Consequently, only 147 of its current fleet of 253 specific classes of aircraft and missiles have unit costs computed in this manner. For the 147, we compared the costs in the AVISURSsystem with those in the manual and found the two did not agree in 86 cases. Air Force officials could not explain the differences or show us how the costs had been developed for the 86 types of aerospace weapons. The manual has not been kept up to date since May 1983. The unit costs for the remaining 106 of the 253 types of aircraft and missiles procured since 1983 were recorded in AVISURSbased on telephone conversations with representatives of the Systems Program Office responsible for pro- curing the aircraft and missiles. Air Force officials stated that these unit costs were “initial fly-away costs”-the estimated average costs at the time the first aircraft or missile is delivered by the contractor. This approach is not an adequate substitute for actual costs. Aircraft and missiles generally are delivered under many separate contracts at varying costs over several years and frequently include different elec- tronics or payload capabilities which would affect the costs. However, once a unit cost is entered in AVISURS,it is not updated or revised regard- less of actual costs. For example, we computed $219 million as an aver- age cost for the B-1B bombers, based on the total procurement expenditures, while AVISUHSreported a unit cost of approximately $150 million. To determine whether the reported valuations for aircraft and missiles approximated the actual procurement expenditures or costs incurred, we analyzed the total procurement expenditures for several aircraft from 1973 through 1988 and found, as shown in table 4.1, that the AVISURScosts reported to the Finance Center were significantly under- stated. We consider our estimates to be conservative because we did not Page 61 GAO/AFMDSO-23 Air Force Financial Audit Chapter 4 Actual Coats of Aircraft and Mtesiles Are Not Known include research, development, test, and evaluation costs associated with each type of aircraft, and the estimates are incomplete because they do not include the cost of government-furnished materials. TabI/ 4.1: Procurement Expenditures on Selekted Aircraft Programs Calculated Dollars in billions by A~ISURS and GAO Costs reported by Type/class of aircraft AVISURS GAO Difference B-1B $14.8 $21.9 $7.1 B-52 2.8 4.0 1.2 F-15 11.1 17.9 6.8 F-16 12.0 18.3 6.3 These few examples show that the total understatement of aircraft pro- curement costs may be on the order of tens of billions of dollars. We have not attempted to determine research, development, test, and evalu- ation costs. Additionally, we compared our estimated costs for the B-lB, F-16, and F-15 with procurement expenditures reported in the respective SARS dated December 31,1988. As shown below, the SARS'expenditures more closely approximated the costs we estimated. Table 4.2: Expenditures on Selected Aircraft Programs Reported in SARs and Dollars in billions--.- - Calculated by GAO Costs/expenditures reported by Type/class of aircraft SAR GAO Difference B-16 $21.5 $21.9 ----.. ~$( .4) F-15 18.5 17.8 .7 F-16 19.7 18.3 1.4 Due to the lack of detailed information, we were unable to reconcile the difference between our estimates and the expenditures reported in the SARS.While the SARS'amounts were more accurate than the costs reported in AVISURS,as discussed later in this report, the SARS'costs were also not complete. Cost systems that can track the accumulation of costs applicable to a project’s development are crucial to effectively manage and control the cost of a project. Y Page 62 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costs of Aircraft and Missiles Are Not Known I The costs of weapons systems are also understated because the Air Gov$mment- Force does not incorporate in them the value of government-furnished Fur ished Materials materials. GFMincludes parts, components, assemblies, and raw and Not 1 ncluded in processed materials. During the procurement of certain military hard- ware, the Air Force furnishes contractors these materials, which either Valqations become part of the end item or are consumed in the production of the end item. With few exceptions, GFMis provided without cost to contrac- I tors and thus is not included in the contract prices. The Air Force values aircraft at initial fly-away cost and missiles and engines at average acquisition cost. Since government-furnished materi- als are not usually included, this substantially understates the cost of these assets. We were unable to ascertain the amount of understatement because data and records made available to us were incomplete. As a result, the real cost of producing an aircraft or missile is not known and, accordingly, cannot be reported to the Congress or other decisionmakers. The Air Force’s valuation of military hardware does not include appro- Aircraft and Missile priate portions of about $25 billion incurred since 1973 for modifica- Modifications Are Not tions made after acquisition. The Air Force often modifies existing Capitalized military hardware to improve or enhance its capability and extend its serviceable life. Engineering and modification costs incurred after approval of the basic procurement contracts are only added to hardware costs when such changes result in a new category of weapons system. This practice significantly understates the investment in weapons systems. Based on our review of the historical data contained in appropriation expenditure reports, we estimated that the Air Force incurred modifica- tion costs of $25.2 billion ($24 billion for aircraft and $1.2 billion for missiles) from fiscal years 1973 through 1988. These costs were not reflected in the asset valuations as of September 30, 1988, because the expenditures were processed through fund control systems and not cap- tured in the property accounting records. The Air Force needs to include the modification costs when it evaluates the total cost of maintaining and operating weapons systems. We were unable to determine how much of the $25.2 billion should have been capitalized or, in fact, was capitalized because relevant historical data were unavailable. Page 53 GAO/APMD-90-23 Air Force Financial Audit Chapter 4 Actual Costa of Aircraft and Missiles Are Not Known i As with acquisition costs, the costs of operating and supporting weap- Oljerating Costs of ons systems are not accounted for or included in the budget in a way Aikcraft and Missiles that would allow the costs to be identified with a specific type of weap- Ape Not Known ons system. In its 1987 report on the Department of Defense’s appropri- ations bill for fiscal year 1988, the Senate Committee on Appropriations expressed its concern over the long-term implications of procuring weapons systems which have increasingly expensive operating and sup- port costs. We initiated a separate review of the costs but had to termi- nate it in February 1987 because operating and support cost data were unavailable. DODhas initiated several initiatives designed to improve the quality of information on operating and support costs. In an internal document, however, the Air Force has identified several concerns about reporting operating and support costs for its major weapons systems to the Con- gress. These concerns are stated as follows: . “While every attempt was made to make the data reflect budget fund- ing, not every cost element could be tracked directly to the budget. Some cost elements had to be modeled, i.e., estimated.” . “Fixed overhead items, such as system management and engineering, were allocated and were not variable with respect to a specific weapon system’s activity or the number on hand.” . “The preparation of the data for the reports is very labor intensive. To make the data more precise and to accommodate accumulation of the data on a routine basis for annual budgets would require major changes to the DODbudget process.” The Air Force document also stated that because of the limitations in its ability to track costs for specific weapons programs, the operating and support cost data reported in the budget were not consistent with simi- lar data reported by program offices for Selected Acquisition Reports. The Congress cannot provide oversight of the total costs associated with major weapons systems, planned or on hand, without accurate, complete operating and support costs for the weapons systems. An adequate cost accounting system would provide reliable data on each and every weapon in the Air Force’s inventory and such information should be routinely available to the Congress. Also, from the Air Force manage- ment’s perspective, it would appear extremely difficult to take meaning- ful actions to control costs if precise records of actual costs remain unavailable. Page 54 GAO/AFMD-99-23 Air Force Financial Audit Chapter 4 Actual Costs of Aim& and Missiles Are Not Known I The Air Force does not have a system or procedure to track and monitor Controls Over property owned by the Air Force but held by contractors. We found that Contractor-Held (1) some satellites and engines paid for and accepted by the Air Force Propierty Are Not in and held by contractors and (2) government-furnished materials which have been issued to contractors were not recorded in any Air Force Plach property or accounting system. When functions or controls are delegated to third parties, such as con- tractors, the government has a greater exposure to fraud, waste, and abuse. Even when a federal agency determines that delegating control of assets like GFMis the best course of action, that agency has a fiduciary responsibility to establish accountability and to exercise appropriate oversight and control. Satel4itesand Engines Held We found that almost $630 million worth of satellites and about $5.7 million worth of engines for C-20A cargo planes that were paid for and by Contractors Are Not owned by the Air Force and held by contractors were not recorded in Accounted for or Tracked any Air Force property or accounting system. The Air Force has prop- erty systems that effectively track the location of most of its equipment from the time it is received. Aircraft and missiles are tracked by AVISURS and engines by the Comprehensive Engine Management System (CEMS). The C-20A engines should have been recorded in CEMSbut were not. The Air Force, however, has no system to track and account for satellites. While local managers had documents identifying the satellites and engines held by the contractors, higher-level managers had no access to these documents and were not informed of the costs associated with maintaining the assets at the contractors’ facilities. More specifically, we found the following: l Seven communications satellites costing over $630 million were stored for the Air Force at the production contractor’s facilities. The seven satellites plus four more in production were scheduled for launch through 1992. In addition to the acquisition costs, the Air Force had incurred costs totaling $18 million for the contractor to store the satel- lites. Had the costs associated with storing these satellites been recorded and reported, Air Force managers would have been better able to evalu- ate whether the production should continue or be slowed to reduce the storage costs. l At one air base, about $5.7 million in C-20A cargo aircraft engines were at the contractor for maintenance but were not recorded in the account- ing system as being owned by the Air Force. Page 65 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costs of Ahcraft and Missilea Are Not Kuown Government-Furnished Since 1967, we and DOD internal audit organizations have issued numer- Materials Are Not ous reports on the management, use, and accountability of GFM. How- ever, the Air Force has not developed a system or procedures to track or AcTounted for or Tracked monitor GFM once it has been issued to contractors. Once issued, GFM is dropped from the Air Force’s inventory records, leaving the contractor to account for the material in its possession. As a result, the Air Force does not usually include the cost of furnished items in the unit cost of military hardware. We previously reported2 that the Air Force procedures and practices for reviewing, validating, and approving GFM requisitions did not ensure that contractors would requisition and receive only needed items and quantities of GFM. Furthermore, weaknesses in both the contractor con- trols and government oversight over GFM provided to contractors have contributed to the accumulation of excess material. Since 1967, both we and congressional committees have criticized DOD and the Air Force for not establishing property accountability and financial accounting con- trols over GFM. We recommended in two reports3 that accounting systems be established to adequately account for (1) the quantity and value of GFM authorized and provided to contractors and (2) the contractors’ receipt and use of this material. The long-standing problems with the management, control, and account- ability for GFM continue. As a result, there is no assurance that (1) the government’s sizeable investment in such property has been adequately protected and (2) the potential for waste, fraud, and abuse has been minimized. The Air Force’s current financial reporting practices do not disclose the Improvements Needed costs of investment decisions for weapons systems. Neither DOD and the in Weapons Systems Air Force nor the Congress and other decisionmakers have complete and Cost Management reliable historical data on the costs of existing weapons. Moreover, deci- sionmakers do not have good historical cost information, some of which may be useful in evaluating the costs of proposed new weapons systems, although usefulness may vary depending on the degree of technological ‘Government Property: DOD’s Management of the Property It Furnishes to Contractors (GAO/ - 8 _161, May 26,198S). “Internal Controls: Air Force Can Improve Controls Over Contractor Access to DOD Supply System c-D -88_QQ, March l&1988) and Government Property: DOD’s Management of the Prop erty It Furnishes to Contractors (GAO/NSIAD-88-151, May 26,1988). Page 66 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual C!~sta of Aircraft and Miseilee Are Not Known i change being made. As a result, decisions are made based on incomplete and inaccurate data. As it becomes necessary to look for ways to contain and even reduce the cost of defense, it is evident that the budget cannot finance all the weap- ons systems now being planned and developed. Even assuming that the defense budget were to grow 2 percent faster than inflation, the pro- grams included in DOD'Smost recent 5-year plan will reportedly cost at least $150 billion more than the amount which will probably be avail- able. While cost will not be the only factor in the difficult decisions on cuts and reductions, complete and reliable cost data will be needed to make informed decisions. Inaccurate Reporting of Since 1969, Selected Acquisition Reports have been the primary means Costs to the Congress by which DODinforms the Congress of the status of major weapons sys- tem acquisitions. SARS summarize estimates of technical, schedule, quan- tity, and cost information. However, they do not include actual contractor costs incurred to date or compare funded quantities to planned and actual contractor deliveries. The Congress has repeatedly expressed dissatisfaction with the lack of timely and complete data in SIRS. In 1982, the House Committee on Armed Services Special Panel report on Defense Procurement Proce- dures noted that “the SAR is inadequate in its reporting on major weapon systems to the Congress, thus inhibiting proper oversight.” In previous reports, we have suggested changes to improve SARS. Our February 1985 report4 discussed a revised SAR format that would com- pare planned costs with actual costs and include estimates of the time needed to complete a project. The actual cost data should come directly from the Air Force accounting system. However, as previously dis- cussed, the Air Force accounting system does not generate the actual cost of the weapons systems. Instead, the Air Force must resort to using the costs obtained from the various contractors’ accounting systems. Accountability demands that Air Force management have its own cost information for control purposes. Dependence on contractors is a glaring symptom of the poor condition of the Air Force’s financial management systems. the Cost of Government: Building an Effective Financial Management Structure (GAO/ 35 and 85-35A, February 1985). Page 6’7 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costa of Aircraft and Missiles Are Not Known -/ + We also reported6 that the presentation of SARreports has not been mod- ernized to take advantage of computer technology that would improve timing and provide helpful graphics and data analysis. More recently, ~ we reported” on how DOD could substantially improve the quality, timeli- I ness, and presentation of data it provides to the Congress. Co& Management of Both historical and future costs should be considered in decisions WciaponsSystems related to funding and selections of alternatives among weapons sys- tems. However, as discussed in this report, the Air Force does not have reliable, complete information on costs, and important decisions are based on incomplete and inaccurate data. The following are examples of cost considerations: l Comparison of costs among alternative weapons systems. The Air Force proposed that its close ground support aircraft (the A-7) be upgraded to help meet the air support needs of ground forces in the 1990s and beyond. The Congress was concerned about the aircraft’s cost- effectiveness in meeting this needq7 The total cost of the proposed A-7 PLUS was not known because (1) the Air Force had not decided on avionics and engine options, (2) studies on radar improvements, aircraft rewiring, and aircraft vulnerability could lead to additional aircraft modifications, and (3) the production sched- ule was uncertain. However, once these costs have been determined, the Air Force still would not have the total cost of the A-7 PLUS because the actual costs of the weapons systems, the GFM, and subsequent modifications are not properly captured in the accounting system. Moreover, because of the previously discussed weaknesses in how the Air Force assigns costs to its aircraft, it would not be in a position to compare the cost- effectiveness of the existing A-7 with that of the proposed A-7 PLUS. . Weapons systems cost growth. In 1983, the Air Force analyzed alterna- tives for solving its long-term airlift capability shortfall. The alterna- tives were to buy additional C-5 aircraft or develop the C-17 aircraft. %elected Acquisition Report: SuggestedApproaches for Improvement (GAO/NSIAD-86-118, July 17, 1%36). “Weapon Acquisition: Improving DOD’s Weapon Systems Acquisition Reporting (GAO/NSIADQOQO, November 14,1989). ‘Close Air Support: Upgraded A-7 Aircraft’s Mission Effectiveness and Total Cost Unknown (GAO/ NSIAD-88-210, September 2, 1988). Page 68 GAO/AFMD-90-23 Air Force Financial Audit . Chapter 4 Actual Costs of Aircraft and Missfles Are Not Known Even though Air Force systems did not have complete, accurate costs for existing aircraft, which would have been helpful in estimating costs for additional C-5 aircraft, they concluded that the C-17 was the cost- effective alternative. While complete, reliable financial data may not have affected the ulti- mate decisions made in these situations, the decisions were made with- out such data. Com$ehensive Cost While costs are considered to a limited extent by managers and deci- Infor$ation Would sionmakers, there are opportunities to better or more efficiently and effectively use costs in managing weapons systems. During the planning Improve the Air Force’s and budget development stages for weapons systems, actual costs of Ability to Manage existing systems can be used to provide a baseline for many components Weapons of similar or upgraded weapons systems. During the procurement period and throughout the life of a weapons system, managers at all levels need to more closely monitor planned costs and actual costs. Such costs need to be carefully considered when decisions are made with respect to new acquisitions, modifications or upgrades, maintenance programs, and even operations, Knowledge of weapons systems costs, combined with good operating and other cost information, will provide a basis for ensuring cost-effectiveness in the Air Force. Conclusions control to monitor spending authority within appropriation limits and the accumulation of actual cost data to account for and manage avail- able resources. Information provided by a financial management system should complement other program information and enable deci- sionmakers to be more effective in fulfilling an agency’s mission. Actual cost information can help provide (1) a basis for accountability for man- agers, (2) a fundamental basis to serve as a measure against budgeted costs and forecasts, and (3) historical data to assist in estimating budget requirements and evaluating alternatives. However, the Air Force has no systems to accurately account for billions of dollars invested in aircraft, missiles, and engines. Furthermore, Air Force accounting systems cannot produce the operating and support costs for weapons systems. While the decisions related to weapons sys- tems acquisition are based on other factors in addition to cost, such as the ability to respond to military threats, managers at every level must consider accurate data on the costs of alternatives when making funding Page 69 GAO/AFMD-90-23 Air Force Financial Audit Chapter 4 Actual Costs of Aircraft and Missiles Are Not Known decisions. Moreover, actual cost information is not available for report- ing to the Congress and the public. This kind of information is clearly needed for effective congressional oversight. We recommend that the Secretary of the Air Force direct the Chief R&commendations Financial Officer to . accumulate and report actual costs of weapons systems, which include acquisition costs, GFM,operating and maintenance costs, and modifications; I . report actual and planned cost data to the Congress so better decisions can be made on program funding; . account and report on satellites through either revisions to existing sys- tems or a new system to provide oversight of these assets; and . establish and implement procedures to identify and record in the accounting records equipment paid for and accepted by the Air Force but held by contractors. DODconcurred with all the recommendations presented above. Agency Comments Page 60 GAO/AFMD-90-23 Air Force Financial Audit Inventory SystemsDo Not Provide Accurate Firbncial Data The systems that are supposed to provide accountability and financial control over the $63.8 billion invested in inventories of spare parts and supplies do not provide accurate, reliable data supporting either the quantities or the value of these inventories. Using inaccurate informa- tion for purchase decisions can result in unnecessary procurement and excess inventories in some instances and shortages in others. Building inventories in excess of requirements wastes tax revenues that are sorely needed elsewhere. Conversely, inadequate inventories inhibit the Air Force’s ability to fulfill its mission. Air Force managers cannot be sure they have accurate information to use in determining when to procure items unless a physical count of sup- plies and spare parts is made. Serious inaccuracies in the pricing data for inventories compound the problem. Even if reliable data can be obtained, their usefulness is limited if the systems are not constructed to generate good cost accumulations. Accumulation of cost information in the accounting records can also provide information on cost trends use- ful for budgeting as well as information to help control operations. Accordingly, an inventory system which will satisfy such needs should be capable of l assigning a cost to each stock item in the inventory; . tracking the movement of inventory; e maintaining records of input, usage, and quantities on hand; l being reconcilable with physical counts; . assigning a value to usage (such as average cost) identified by program or other classifications; and . making comparisons with requirements. The Air Force systems do not provide this information; therefore, it is not available for purchasing new inventory items in the most cost- effective manner, analyzing cost trends, or controlling material usage and repair costs. Scope of Inventory plies and spare parts, eight times the inventories reported by General Management Motors, one of the largest corporations in the United States. These Operations inventories are maintained at over 130 bases located throughout the world. Air Force inventory management is an extremely complex task * due to the size of its operations, frequent technological obsolescence of Page 61 GAO/AFMD-90-23 Air Force Financial Audit Chapter 5 Inventory System Do Not Provide Accurate FimnciEll Data inventory items, and the need to decentralize storage for national secur- ity reasons. To maintain and support its operations and weapons sys- tems, the Air Force manages about 1.6 million different types of spare parts and supply items. The Air Force Logistics Command (AFLC) and five Air Logistics Centers (ALCS) use a number of highly complex finan- cial and logistics systems and subsystems to compute requirements, fill orders, track inventory quantities, and value inventory. ALCS procure items on the basis of requirements computations, which in turn are determined by a variety of factors, including quantities of inventory items on hand, in transit, and in the repair process; projected usage rates; and procurement lead times. In recent years, we have issued several reports’ relating to problems found in the requirements determi- nation process. Among the problem areas reported are inaccurate sys- tems and procedures for determining inventory requirements and identification of inventory inaccuracies and their causes. The items purchased as a result of the requirements determination pro- cess are received at warehouses, stored, and issued to customers world- wide. During this process, perpetual inventory systems monitor the quantities of each item to provide accountability over the items (that is, where the items are and how many are at each location throughout the Air Force). Perpetual inventory systems are designed to track invento- ries on an item-by-item basis, increasing recorded quantities for each unit received and reducing them for each unit issued. This type of sys- tem can provide managers with up-to-date, detailed information on which to base decisions. However, periodic physical inventory counts are also needed to substantiate the information maintained in the per- petual system to ensure that all transactions were recorded properly and to account for any theft or spoilage. Each inventory item maintained by Air Force has a unique national stock number (NSN) by which it is classified and recorded in the perpet- ual inventory system. For each NSN,hundreds or even thousands of indi- vidual units may be in stock at (1) one or more of the ALCs, where central inventories are maintained, (2) Base Supply units, where Air Force operating units have ready access to them, or (3) the Depot Main- tenance Service, Air Force Industrial Fund operations (depots), where ‘Air Force Budget: Potential for Reducing Requirements and Funding for Aircraft Spares (GAO/ - - 90BR, February 18,1988), DOD Inventory Management: Revised Policies Needed (GAO/ NSIAD-88-76, January 14, 1988), Military Logistics: Buying Spares Too Early Increases Air Force Costs and Budget Outlays (GAO/mD-86-149, August 1, 1986), and Procurement: Spare Parts Ini- tiatives Air Force Implementation (GAO/NSIAD-87-28, February 13,1987). Page 62 GAO/AFMD-90-23 Air Force Financial Audit Chapter 5 Inventory Systems Do Not Provide Accurate Fiuancial Data --- they are used to repair and maintain aircraft, engines, missiles, and related components. While ALCSare responsible for maintaining the bulk of the inventory, the air bases and the depots also maintain inventories to fulfill their respec- tive missions. Table 5.1 shows the inventories at these activities. Table 5 1: Inventory Distribution as of Septe ber 30,1986 Dollars in billions Activity/location -~ Value 1 ALCs $40.4 ~- ___- Depots 1.1 _.-- bases Air -___-- 22.3 Total $63.6 Maintaining accurate records over inventories has been a long-standing Inaccurate Records of problem for the Air Force. The inventory accountability systems which Inventory Quantities the ALCSuse to track the location and quantities of inventory items do not provide reliable, accurate inventory data to managers. Inaccurate inventory records can cause critical supply shortages, prolonged delays in filling requisitions, or unnecessary procurements resulting in excess inventory. Although the Air Force has recently improved the accuracy of its data in automated perpetual inventory systems and generally takes accurate physical inventory counts, we believe the perpetual records are still too unreliable to be used in making effective and effi- cient decisions. A perpetual inventory system should be capable of pro- viding data to answer the following questions: . What inventory items were acquired and how much did they cost? . Where did the inventory items go? (Data should be available both in terms of quantities and values.) . How much inventory has been used? . How much inventory is on hand? (Data should provide quantity, value, and location of inventory items.) . How much inventory is needed or not needed? (Data should provide both quantities and locations.) Problems with inventory accuracy have been the subject of congres- sional hearings and GAOand Air Force Audit Agency reports for many years, Some improvements have been made as a result of a number of programs the Air Force initiated to improve inventory accuracy. Since Page 63 GAO/AFMD-90-23 Air Force Fiuaucial Audit Chapter 6 Inventory System Do Not Provide Accurate Financial Data 1983, the AFLC has required random sampling of physical inventories at ALCS to obtain an objective measure of inventory accuracy. Data from these inventory observations showed that inventory accuracy in fiscal years 1987 and 1988 had improved over previous years. However, the data also showed that the perpetual inventory systems have not yet achieved a high degree of reliability. u Inventory Accuracy Is Still To assess the accuracy of inventory records, we selected random sam- a Ihoblem at ALCs ples of inventory items at two ALCS, Ogden and Warner Robins. Further, to assess inventory procedures and controls, we observed and tested physical inventories performed by Air Force personnel. We made test counts during these inventories and compared the results with Air Force counts. On the basis of our samples at the two ALCS, we estimate that (1) the counts for about 100,000 NSNS, with a value of about $5.7 billion, exceeded those in the perpetual inventory records, (2) the counts for about 82,000 NSNS, with a value of about $1.1 billion, were less than those in the perpetual inventory records, and (3) about 786,000 NSNS were correct. While many of the differences were not material, about 112,586 NSNS differed by 10 percent or more between the counts and the perpetual inventory records. The volume of errors Air Force inventory teams detected also shows that records still need to improve with regard to quantity accuracy; the inventory management systems at ALCS still have not achieved reliabil- ity. During fiscal year 1989, some of the quarterly counts of 500 items have shown the perpetual records to differ by less than 10 percent, other counts have shown significant differences. For example, the San Antonio ALC’S second-quarter inventory had initial unit accuracy of only 49 percent, and the Warner Robins ALC’S third-quarter counts showed only 58 percent accuracy. These significant differences show the ALCS’ inventory records to be unreliable, Inaccurate inventory balances recorded in these perpetual inventory systems can lead to improper requirements determinations and, subsequently, to inappropriate procurement decisions. Page 64 GAO/AFMD90-23 Air Force Financial Audit Chapter 6 Inventory System8 Do Not Provide Accurate Ftnancial Data Rec@rdsof Inventory We also tested the reliability of inventory records at 10 air bases. Using NSNS,we selected a sample of 2,341 supply items which comprised a Quahtities at Bases Appear quantity of 369,076 units valued at $24.8 million from a universe of $1.1 ReaSonable billion. Based on this sample, we found total overages of 239 units, or I $175,445 (1 percent), and total shortages of 4,810 units, or $451,508 (2 percent). These differences, while of concern, show that air base inven- tory records are much more accurate than ALC records, The Air Force does not accurately record and report the value of its Unleliable Inventory inventories. Yet, such information is important to assess the cost of pro- Va]lues viding a service or doing a job (such as constructing a system or simply providing maintenance) and to maintain cost control as well as physical control. Air Force policy requires only that its inventories be valued at a price based on an item’s most recent acquisition cost. However, the Air Force does not consider the condition or “serviceability” of inventory items when valuing them. Underviceable Inventory Inventory values are not adjusted for the condition of the items in the inventory. Although about $7 billion (over 50 percent) of the Reported at Full Value investment-item inventory at three ALcs-Ogden, San Antonio, and Warner Robins-was unserviceable, it was valued the same as new inventory items. This practice significantly overstates inventory values and is misleading because the true inventory value is less than the amount shown and because there is a substantial additional cost to bring unserviceable items to a usable condition. Table 5.2 shows the values of unserviceable inventory, according to Air Force records. Table 5.2: Unserviceable Inventory Not Reported aa Such in Air Force Records Dollars in billions Total investment- Unserviceable Percent ALC item inventory inventory unserviceable Ogden $3.4 $2.1 61.8 -___ San Antonio 3.0 2.0 52.6 Warner Robins 5.0 2.9 -_____ 58.0 Total $12.2 $7.0 57.4 The military services maintain a large number of unserviceable items in their inventories for a variety of reasons. For example, a good argument can be made that it is more efficient to maintain components that are very expensive to repair and not in high demand under normal inven- tory control and repair them only when needed. Although this approach Page 65 GAO/AFMD-90-23 Air Force Financial Audit Chapter 6 Inventory Syetems Do Not Provide Accurate Financial Data may provide effective inventory management, failure to consider and report the cost of repair is not acceptable for financial management. To show these items at the same value as fully serviceable items, when many require the investment of significant dollars before they can be used, significantly distorts the total value of the inventory and the financial statements. Because of indications that over 50 percent of the $12.2 billion investment-item inventory at the three ALCSwas unserviceable, we believe that it is important to know the repair costs and use that infor- mation in conjunction with new purchasing in order to properly decide whether or not it is cheaper to buy a new item or to repair an unservice- able one. Unless the records reflect estimates of repair costs, it is likely that the potentially lower cost of repairing such items versus the cost of purchasing new items will not be carefully considered. This can lead to decisions to purchase rather than repair, which could result in substan- tial overinvestment in inventories. The Air Force needs to develop a methodology which regularly adjusts the unserviceable portion of its inventory to reflect the costs associated with repairing these items. Valuation Policy Is Title 2 requires inventories to be valued at the lower of cost or market. Acceptable but Not Since cost information is not readily available, we believe market valua- tion is an acceptable alternative. Market valuation involves application Consistently Applied of either (1) current replacement cost (by purchase or reproduction) or (2) net realizable value (by sale or contemplation of sale), where comple- tion and disposal costs and normal profit margin are considered. How- ever, since the Air Force cannot readily sell its inventories because no market exists, current replacement cost by purchase or reproduction is a viable alternative. In applying this alternative, the Air Force inventory valuation policy generally considers the last acquisition cost plus a surcharge for government-furnished materials and transportation to be the value assigned to inventory on an item-by-item basis. We found, however, that the Air Force did not consistently apply its inventory pricing policies, which results in erroneous and misleading inventory valuations. Under the Air Force policy, after the Air Force assigns values to inventories of spare parts and supplies based on the item’s latest acquisition cost, it then multiplies this cost by the number of units in stock to arrive at the total inventory value. Therefore, all items of a particular stock number are valued at the same price, and the resulting value of the inventory is essentially the cost to replace the Page 66 GAO/AFMD-90-23 Air Force Financial Audit Chapter 5 Inventory Syetems Do Not Provlde Accurate Fiuancial Data items. The Air Force believes that such a standard pricing policy pro- vides the most useful information to Air Force managers because cur- rent costs are more pertinent for decisionmaking than historical costs. To evaluate the implementation of this policy, we randomly selected a sample of 113 items from stock numbers at the three ALCS we visited. We found that Air Force inventory values often did not represent replace- ment costs as outlined in Air Force policy. Only 47 of the 113 items were priced in accordance with the policy. Of the 66 remaining items, the Air Force priced 22 too high and 44 too low. These variations were caused by numerous factors, including the frequency of recent procurement activity, the extent of price inflation for the items, the age and quantity of inventory on hand, and how well the inventory pricing history system was maintained. Two examples highlight the magnitude of errors possi- ble under the present system: l A capacitor for aerospace and ground equipment was valued at $10,446. The most recenq acquisition costs for this item were $953 and $1,492. Air Force officials were unable to explain this discrepancy. l A control panel for an F-15 aircraft was valued at $298,075, but the latest acquisition price was $210,342. The item manager said that the system had not been updated to reflect the new price and promised to correct the oversight. Air Force officials told us that inventory pricing was not a high priority and that our tests confirmed that the Air Force has not effectively implemented its inventory valuation methodology. While the Air Force’s use of replacement cost valuation in its cost Change in Cost accounting system has some advantages, the present system does not Accounting System Is consider historical costs. As a result, the misleading effects of replace- Needed ment cost valuations are not considered and the full advantages of a cost system based on replacement costs are not being obtained. At present, changes in replacement costs distort inventory trend infor- mation Real inventory growth can occur a~ a result of the increase in the quantities of units of a particular NSNor the procurement of spares for a new weapons system. If replacement costs are used, however, much of the growth in the value of the inventory is due to inflation in the replacement cost of inventories held in stock; this distorts the real picture of inventory growth. It is impossible for users of inventory information to ascertain real growth versus inflation adjustments in the Page 67 GAO/AFMD-90-23 Air Force Financial Audit Chapter 5 Inventory Systems Do Not Provide Accurate Financial Data -i value of existing stock. We believe all gains or losses in inventory values caused by fluctuations in the valuation process should be reflected sepa- rately in the statement of operations and in inventory management reports to isolate this element of inventory change. To more effectively manage inventory, the Air Force systems need to include the cost of the inventory as well as the cost to replace inventory. Top management needs to have a system which produces information useful in communicating to managers the expectations against which they will be evaluated and held accountable. Such a system should include the following: . establishing cost centers, such as air wings or air bases, which corre- spond to activities for which individual managers have responsibility; . setting of standards against which performance is to be measured, such as budgets, forecasts, cost per unit of measure (aircraft, person, base, etc.); . accumulating costs at the cost center level; . reporting systematically the performance against the established stan- dards; and . consolidating and providing these performance reports to each suc- ceeding level of management. The effective operation of such a system should provide the capability to manage more effectively by identifying expectations and persons responsible for meeting them. This should result in the ability to con- trast performance of managers, more effective budgeting, and more effi- cient expenditure of the tax dollar. Other Inventory weaknesses. In addition to problems with the accuracy of inventory Weaknesses records and the valuation of the inventories noted above, the Air Force has problems with (1) the effectiveness of research to identify the causes of inventory discrepancies, (2) the physical protection of inven- tories, and (3) the determination of inventory requirements. While the Air Force has taken steps to improve its inventory control, further improvements are needed, especially in view of the continued inventory growth which is exacerbating the problems in managing inventory. Some of the long-standing problems that we have reported on in recent years are discussed below. Page 68 GAO/AFMD-90-23 Air Force Financial Audit Chapter 5 Inventory Systems Do Not Provide Accurate Financial Data . Inappropriate reversals of high-dollar transactions were made to inven- tory records in order to avoid management’s attention. We found two cases where physical inventories showed differences of $3.8 million and $797,000, respectively, between the perpetual records and the quanti- ties on hand. Subsequent research showed that issue documents caused quantities to be reduced in the records, but the items involved were never shipped. Rather than processing inventory adjustments with appropriate explanations, the issue transactions were removed from the system. While this corrected the quantities in the records, it violated Air Force policy, which states that reversals will not be processed to increase or decrease asset balances in order to correct inventory inaccu- racy. More importantly, management was not notified of the corrections and was not aware of this type of problem. We have reported that inap- propriate reversals are a long-standing problem at ALCS.~ . In cooperation with the Air Force, the Federal Bureau of Investigation has completed an investigation which resulted in indictments against military and civilian personnel for stealing military goods. Stolen equip- ment, including F-16 engines, sleeping bags, munitions, and firearms, were purchased by FBI agents in a “sting operation” near military bases in the western and southwestern United States. l The Air Force’s statistical sampling and evaluation methodology over- stated inventory accuracy because items with zero balances and items with no-location designation were included as correct. We recommended that the Secretary of Defense, in requiring annual statistical samples as the basis for measuring and reporting inventory accuracy, provide that these samples exclude zero-balance items where there is no record of a storage location.:3 However, we observed that the Air Force is continuing this practice. l Another report4 disclosed that the Air Force did not adequately consider the cost-effectiveness of terminating contracts for excess on-order mate- rial. We found that terminations should be increased, thereby reducing the government’s procurement and inventory holding costs and provid- ing a basis for reduced Air Force spare part funding. Recommendations were made to require an emphasis on an effective program, including appropriate management guidance and oversight, for terminating procurements of excess on-order spares when termination is in the best interest of the government. zInventory Management: Air Force Inventory Accuracy Problems (GAO/NSLAD-88-133, May 12, 1988). “See footnote 2 above. 4Military Procurement: Air Force Should Terminate More Contracts for On-Order Excess Spare Parts (GAOINSIAD _87 _141 , August 12,1987). Page 69 GAO/AFMD-90-23 Air Force Financial Audit -___ .~-. chapt4x5 Inventory Systm~ Do Not Provide Accurate Financial Data l We reviewed the Air Force’s practices for purchasing recoverable spare parts (spare parts that can be repaired after becoming unserviceable) to determine whether it was buying them at the appropriate time. We reported” that, at two of the Air Force’s five air logistics centers, recov- erable spare parts were regularly bought up to 14 months earlier than necessary. Recommendations were made to the Air Force to require compliance with existing regulations precluding early procurement and to review in-process recoverable spares purchases for opportunities to cancel or delay the purchase. . We reported” the Air Force’s price growth and the inadequacy of price analysis in relation to purchases of spare parts. After receiving a draft of the report, Air Force officials issued a letter outlining price analyses pitfalls and citing examples of inadequate price analyses. The letter requested appropriate officials to remind buyers of these pitfalls and to ask buyers to examine their use of price analyses. . We also have ongoing work addressing the problems causing growth in unrequired inventory not related to increased military capability. The most common causes for this growth are overestimated use rates and modifications of aircraft and equipment. Other causes included faster than expected phase-outs of older aircraft, fluctuating war reserve and safety level requirements, improved item reliability, and items being reclassified as repairable. Also, orders for items in excess of require- ments were not terminated and procurement lead times were overesti- mated. As a result, materials were received sooner than required. Of the total $29 billion of DOD unrequired inventory, the Air Force part was estimated at $10 billion. This audit confirms that inaccurate records contribute to this condition. We currently have ongoing work which will address matters related to inventory on a DOD-wide basis. While the problems in effectively managing the Air Force’s huge inven- Conclusions tories seem overwhelming, the Air Force has made headway in dealing with some of these long-standing problems. Continued progress is even more critical at present as complex issues arise from budget reductions, the probable reduction of forces overseas, and the related redeployment of large quantities of inventory. fiMilitary Logistics: Buying Spares Too Early Increases Air Force Costs and Budget Outlays (GAO/ I%IAD _86 - 149, August 1, 19SS). “Procurement: Spare Parts Initiatives Air ForceImplementation(GAO/NSIAD-87-28,February 13, 1987). Page 70 GAO/AFMD-90.23 Air Force Financial Audit chapter 6 Inventory Systems Do Not Provide Accurate Financial Data The Air Force can more effectively manage inventories by improving the reliability of data used to make managerial decisions. Inaccurate inventory balances can lead to the waste of limited resources. This unnecessary investment in inventories leads to very substantial costs related to stock maintenance, deterioration, and obsolescence. The man- agement benefits from maintaining accurate inventory balances include the abilities to (1) forecast requirements, (2) manage inventories between locations, (3) locate items when needed, (4) identify excess stocks, (5) establish accountability for custody and efficient use of items, and (6) produce reliable inventory valuations for financial reporting. The sheer magnitude of the inventory not only makes it a challenge to manage but also requires that good inventory management be achieved to promote efficient and effective operations and support the mission of the Air Force. We recommend that the Secretary of the Air Force emphasize the need Recommendations to improve the accuracy of perpetual inventory records. In this regard, we are recommending that the Secretary require the Chief Financial Officer to . establish a policy to value unserviceable items to reflect the estimated costs of repair; adopt an improved standard cost accounting system integrated with the l general ledger which provides for accurate determination of standard costs based on replacement costs, identification of inflation growth, and variance analysis with respect to purchase prices, material usage, and repair costs; and . initiate a special effort to reduce the $10 billion of unrequired inventory and deal with the root causes of this problem. Agency Comments and Our Evaluation DOD concurred with the recommendations presented above except it is still considering how to value unserviceable items, and it plans to develop a cost accounting system based on its specific needs. This sys- Y tern may be a job order cost system rather than a standard cost system. Page 71 GAO/AFMD-90-23 Air Force Finaucial Audit Chapter 6 Air Force Financid ManagementSystem Improvement Efforts The previous chapters have discussed financial and accounting deficien- cies occurring throughout most aspects of the Air Force’s operations. The existing accounting practices and systems do not provide the kinds of financial information needed to manage in a cost-effective manner. Generally, federal agencies and private sector firms have demonstrated the ability to develop, manage, and operate complex technology success- fully, when top management clearly articulates its priorities and com- mits the resources needed to successfully fulfill the priority. The Air Force has committed resources in developing sophisticated, complex weapons systems, yet its financial management operations are clearly antiquated and even lack one of the most fundamental controls-a gen- eral ledger accounting system. Since the Air Force’s financial manage- ment practices and systems have been deficient over many years, it appears that this area has not been a high priority for either DODor Air Force leadership. The effort and resources required to deal with these issues in a first-class manner, though formidable, are small when com- pared to those devoted to achieving the organization’s other accomplishments. More importantly, the potential efficiencies to be gained through effec- tive financial management would allow the Air Force to better accom- plish its primary mission. To illustrate, if one were to consider other uses that could have been made of the $10 billion invested in unrequired inventories in terms of additional flying time for aircraft, the lost benefits resulting from waste and inefficiency become readily apparent. From another perspective, even as expensive as moderen military hardware is, $10 billion translates into many fighters, bombers, or missiles. Clearly, neither DODnor the public can any longer afford the luxury of ignoring the consequences of weak financial management of defense operations. If cost-effectiveness and efficiency become a priority of Air Force finan- cial management, and thus an important part of the organization’s cul- ture, improvements in operations and program management can and will be accomplished. Good financial management and accounting sys- tems provide the foundation for cost-effectiveness and efficiency. The need for improvement in this area has been demonstrated in many GAOreports, including this one, and is manifested by the poor state of accounting practices and systems in the Air Force. Tens of billions of dollars of costs are not entered into the accounting system and brought under accounting control. The existing financial management systems Page 72 GAO/AFMD-90-23 Air Force Financial Audit Chapter 0 Air Force Financial Management SyHem Improvement Efforts are not designed to provide the accountability needed. Chapter 2 points out that the accounting systems do not capture costs aa they are incurred. Chapter 3 indicates that controls over costs are weak. Chap- ters 4 and 6 illustrate major dollar impacts of these conditions on weap- ons systems and inventories. When accountability and accurate cost information are not obtained, the following conditions result: l Financial information needed for management and analysis of Air Force trends is unreliable. l Operating costs of air wings, bases, depots, and commands cannot be compared and evaluated. . Losses can occur from fraud, waste, abuse, and mismanagement, yet not be identified and their causes dealt with. . Inventories cannot be effectively managed to avoid shortages and exces- sive stocks. l Cost factors cannot be properly considered when deciding to replace or upgrade existing weapons systems. . The basis for evaluating procurements and budget requests is not as complete as it might be. The scope of our audit did not include a detailed technical analysis of Systems Alternatives the Air Force’s numerous financial management systems and it is for Developing unclear to us whether it would be better to try to upgrade existing sys- Meaningful Financial terns and develop them as originally intended to achieve an integrated general ledger system or whether it would be better to develop an Information entirely new system, The poor quality of the present data being gener- ated by or drawn from the existing systems and potentially serious sys- tems interface problems-the exchange of data among related systems-suggest that an entirely new system might be a better alterna- tive. However, developing an entirely new system might take longer to achieve even a reasonable level of improvement than would correcting the present systems. The probable multibillion dollar costs and losses that result from the current lack of accountability and accurate cost information suggest that the decisionmakers should consider, among other factors, the time required to upgrade versus the time required to replace present systems with entirely new ones. It is well beyond the scope of a financial audit to answer this question. Page 73 GAO/AFMD-90-23 Air Force Financial Audit Chapter 6 Air Force Fhnclal Management System Improvement Efforts Nonetheless, it is a decision that should be made as quickly as possible by the Secretaries of Defense and the Air Force with the advice of sys- tem experts and with a knowledge of Air Force capabilities to execute the decision. This decision should be made in the context of a plan to develop and maintain an integrated Air Force accounting and financial management system, including financial reporting and internal controls, which l comply with the accounting and financial reporting principles, stan- dards, and requirements, and the internal control standards established by the Comptroller General and with policies and requirements pre- scribed by the Office of Management and Budget and the Department of the Treasury; l include complete, reliable, consistent, and timely information which is prepared on a uniform basis and which is responsive to the financial information needs of DODand Air Force management, including the development and reporting of cost information; l integrate accounting and budgeting information; and . provide for the systematic measurement of performance. The Air Force has a project underway to develop a completely new gen- Plans to Develop a era1 ledger accounting system for use at its 120 bases. This new system New Base-Level will produce 120 base-level general ledger trial balances, which must Accounting System then be manually consolidated to obtain an Air Force-wide trial balance. The Air Force expects this system, known as the Base Level Accounting and Reporting System (BLARS),will be operational by 1994. The Air Force’s consultant for this project has advised us that because the General Accounting and Finance System (GAFS) has not been imple- mented to function effectively as a general ledger accounting system and has interface problems with supporting systems, a completely new general ledger accounting system is preferable to attempting to upgrade GAFS.However, BLARSis dependent on other systems at the bases, such as the supply transactions processed through the Standard Base Supply System, for information on many of the resources. Efforts to improve the other Air Force systems that need to interface with BLAHSwill be affected by the decisions on BLARS'development. The BLARSproject is not being approached in the context of an overall Air Force plan, nor does it consider overall DODneeds. Action to change the culture and make cost- effectiveness the priority of those who will implement and use the BLARS system has not yet occurred. The BLARSrequirement and other aspects of the BLARSdevelopment may need further review. Page 74 GAO/AFMD-90-23 Air Force Financial Audit Chapter 6 Air Force Financial Management System Improvement Efforts As concerned as we are with the need for a quick response to improve the Air Force’s financial management system, we believe that these con- cerns need to be addressed in order for any systems changes to produce meaningful, long-term benefits. Accounting and financial management systems development and major modification efforts require substantial commitments of human and financial resources. The decisions made when these efforts are being planned and carried out will significantly affect the system’s future efficiency, its effectiveness in providing the information needed to manage the agency’s operations, and its useful life. Historically throughout the federal government, system develop- ment efforts have been flawed, suffering from significant cost increases, schedule slippages, performance shortfalls, redirected development and acquisition strategies, and, all too frequently, have failed completely. Thus, careful, effective planning throughout the entire development process is extremely important. Accordingly, a structured approach to developing new or to modifying existing systems can be viewed as con- sisting of five major stages: (1) initiation, (2) definition, (3) design, (4) development and testing, and (5) installation. The Air Force has just completed the system’s requirement definition BLARS Status and phase of the BLARSproject. The ultimate success of the project will Objectives depend upon the adequacy of the defined requirements and the success- ful completion of the other stages of the systems development effort. At present, the system requirements have been identified and a draft request for proposal has been distributed to various Air Force officials for comment. In March 1990, the Air Force plans to request proposals to design, develop, and implernent BLARS.Defining the system requirements is only the second step in a long process. Equally difficult and critical stages are yet to come. In short, much remains to be done before the present systems can be replaced or improved. Full implementation by 1994 will be difficult and only possible sooner if it becomes a very high priority for the Air Force. We have not made a thorough systems analysis, nor have we reviewed BLARS Requirements the system requirements in detail. Therefore, we express no opinion on the adequacy of the systems requirements. However, some new features included in the BLARSrequirements appear to represent significant Y improvements over the Air Force’s present accounting operations. Examples of some of the new features follow: Page 76 GAO/AFMD-90-23 Air Force Financial Audit Chapter 6 Air Force Nnanclal Management System Improvement Efforts . A general ledger function at the base level that maintains a chart of accounts, performs automated general ledger posting, and provides sum- mary data for reporting. (See chapter 2.) A series of reports comparing actual expenditures to those planned. (See chapter 2 .) A property accounting subsystem to maintain and update property accounts, including aircraft and missiles, which reflects actual costs. (See chapter 4.) . The capability to provide payment data directly to the accounting sta- tion, bypassing the finance center. At the accounting station, BLARSwill verify whether payments have been made correctly. (See chapters 3 and 4.) The system requirements do not specifically call for a cost accounting system that meets the objectives discussed in chapter 5, a very impor- tant requirement in our opinion, nor do they cover program financial systems that carry out unique program and operating functions as well as financial management. Except for a cost accounting system, the sys- tems requirements appear to incorporate existing governmental require- ments included in the (1) U.S. Government Standard General Ledger. (2) Core Financial System’Requirements and (3) Title 2 of GAO'SPolici and’ Procedures Manual for Guidance of Federal Agencies. BLARSis intended to be a base level financial accounting and information system. With proper interfaces, it could provide information needed by successively higher levels of command and exchange information with related systems, such as those operated by the Logistics Command. However, the present scope of its requirements only identifies the sys- tems with which such interfaces would be needed, but developing those interfaces and making the changes to the related systems would be required to ensure that internal controls are effectively strengthened and financial management improved. Accordingly, BLARSshould not be viewed as fully responsive to the Air Force’s need for an integrated, ser- vicewide general ledger system. The Air Force has prepared a draft of the request for proposal (RFP), Other Comments on which will be used to solicit bids for the design and implementation of the BLARS BLARS.The draft identifies some elements that may help avoid design Developmeqt Effort and development delays during the implementation of BLARS,including incorporating existing off-the-shelf systems or software and adopting an incremental approach to implementation. Incorporating existing systems or software could reduce design and development costs, and more Page 76 GAO/AFMD-90-23 Air Force Financial Audit Chapter 6 Air Force Financial Management System Improvement Efforts importantly, the Air Force could get processes already proven to work. An incremental approach can minimize the risks inherent in implement- ing all modules of the new system at the same time. Moreover, under this approach, users will be able to benefit from individual modules as they become operational. This approach may permit the Air Force to obtain some improvements from BLARS in certain systems before 1994. In recent years, we have reviewed a number of major federal systems development efforts, including several undertaken by DOD organiza- tions.’ This work has revealed a disturbing pattern of cost growth, delays, performance shortfalls, and outright failures. These reviews identified similar development efforts that fell short of their objectives. In order to avoid such problems, we believe the planning for BLARS needs to address several additional concerns not specifically addressed in the requirements definition, including . Direction of the development effort: The Air Force’s chief financial officer should be directly responsible for the project. In addition to outside consultants, the chief financial officer should consult with a panel of recognized experts drawn from both the private and public sec- tor, some of whom should have major systems development expertise and others with experience in operating the kinds of systems which might be borrowed by the Air Force. Data integrity: As discussed in previous chapters, much of the data cur- rently used by the Air Force are inaccurate and unreliable. Before BLARS is implemented, the historical data will need to be corrected for entry into the system. Interface problems: BLARS is designed to rely heavily on many other existing Air Force systems (such as supply, contracting, personnel, and inventory) and on systems external to the Air Force (such as those oper- ated by the Defense Logistics Agency) as a source of data. The Air Force must ensure that the data exchanged between and among these systems are compatible and accurate and enhance financial management. . Systems changes: A common tendency during the design and develop- ment of new systems is to add additional capabilities to the system sim- ply to accommodate user requests to gain their acceptance of the system. The Air Force needs to be certain that requirements are com- plete and reasonably satisfy the users so that the requirements can be ‘See our reports entitled, ADP Acquisition: Air Force Logistics System Modernization Projects (GAO/ IMTEC-89-42, April 21, 1989) and Automated Information Systems: Schedule Delays and Cost Over- runs Plague DOD Systems (GAO/ImC-89-36, May 10, 1989). Page 77 GAO/AFMD-90-23 Air Force Financial Audit Chapter 0 Atr Force Financial Management System Improvement Efforts finalized and serious delays which result from systems changes can be avoided. . Adequacy of personnel and funds: The common problem of underesti- mating the total cost of development must be avoided. Realistic esti- mates should be communicated to DOD and, through the budget process, to the Office of Management and Budget and to the Congress. Since we did not make a systems needs study nor review the require- ments and RFP documents in detail, these comments are not all-inclusive. Throughout the report, we have made recommendations that will help Coficlusions improve financial management and control over the Air Force’s opera- tions. While these measures should improve management control over the next few years, without an effective integrated accounting and financial management system, the Air Force will continue to have incomplete financial data and will not be able to effectively perform financial management. Although BLARS does not represent an effective overall solution to the Air Force’s financial systems needs, we believe that the BLARS initiative represents a significant first step for establish- ing a foundation for ultimately developing a sound financial manage- ment system to correct the Air Force’s lack of accurate and reliable financial data. We recommend that the Secretary of the Air Force Recommendations l make improving accounting practices and financial management sys- tems an Air Force-wide priority effort, supported by adequate resources; l direct the chief financial officer to develop a comprehensive plan for improving and integrating the Air Force’s financial management and accounting systems; l review the systems requirements of BLARS and all related systems to ensure that they are complete and that they address all the Air Force’s concerns about its operations and the problems addressed in this report; and . ensure that a project management structure and plan are in place to avoid the potential pitfalls that have caused problems in past systems development efforts. This structure must include adequate representa- tion and participation by top management and functional users in all phases of the development effort. Page 78 GAO/AFMD-90-23 Air Force Financial Audit Chapter 6 Air Force Financial Management System Improvement Efforts DOD concurred with all the recommendations presented above. Agqncy Comments Y Page 79 GAO/AFMINW23 Air Force Financial Audit CdnsolidatedFinancial Statementsof the U.S. Aik Force for the Fiscal Year Ending September30,1988 We attempted to audit the accompanying consolidated statement of financial position of the Department of the Air Force, an agency of the Department of Defense, as of September 30, 1988, and the related con- solidated statement of operations for the fiscal year then ended. These financial statements are the responsibility of Air Force management. GAOis not expressing an opinion on the Air Force’s financial statements because of the conditions discussed in this report. . The Air Force accounting systems do not support a consolidated general ledger. A significant amount of transactions included in the financial statements are not under basic double entry accounting control (chapter 2). Material weaknesses in internal controls over the accumulation of finan- cial data ultimately reported in the financial statements prevent reliance on the amounts reported therein (chapter 3). The actual cost of military hardware could not be determined. The Air Force reported $117 billion for these assets based on a standard cost rather than a historical cost basis and did not capitalize any modifica- tion costs (chapter 4). . The extent of the overstatement of the $63.8 billion inventories could not be determined. The inventories were valued at standard cost rather than at the lower of cost or market. Also, nearly one third of the inven- tory was unserviceable but was valued the same as new items (chapter 5). Page 80 GAO/AFMD-90.23 Air Force J?inmciai Audit Appendix I cOmolidatedFinancial Statement8oftheU.S. Air Force for the Fiscal Year Ending September 30,1988 Consolidated Statement of Financial Position I AS OF SEPTEMBER 30, 1988 (in millions1 (Unaudited) Assets: Funds with U.S. Treasury (note 1-C) $ 79,674 Appropriations to be provided (note 1-B) 2,143 Accounts receivable, net (note 31 Governmental 967 Public 65i Inventories (note 1-D) 63,762 Property and equipment (notes l-E, 4): Equipment 26,770 Buildings 19,666 Aircraft 82,344 Less accumulated depreciation Land Other real property 8,832 Missiles 9,921 Construction in progress 1,685 Aircraft under construction 14,925 Missiles under construction 3,276 Uninstalled propulsion units 6,853 Other assets 143 Total Assets $274.774 Liabilities: Accounts payable Governmental 8 892 Public 17,518 Personnel accruals (note 1-F) Annual leave 673 Military leave 1,554 Separation allowance 200 Deposit and trust fund 106 other 2,299 Total Liabilities TF75i-J Equity (note 1-I): Invested capital 182,975 Cumulative results of operations 4,772 Unexpended appropriations Unobligated balances 15,791 Undelivered orders 49,137 Unfilled orders (1,145) Total Equity Total Liabilities and Equity The accompanying notes are an integral part of these financial statements. The supplemental schedules in note 10 provide additional details by fund type for the consolidated financial statements. Page 81 GAO/AFMD-90-23 Air Force Financial Audit Appendix I Conwltdated FinancSal Statements of the U.S. Air Force for the Fiscal Year Ending September 30,1988 Con/solidated Statement of Operations FOR THE YEAR ENDING SEPTEMBER 30, 1988 (in millions) r (Unaudited) Operating Revenues and Financing Sources (note 1-B): Appropriations realized $64,001 Appropriation reimbursements 2,128 Airlift services 993 Depot maintenance 97 Real property maintenance and other revenue 254 Stock fund sales 2,366 Total Operating Revenues and Financing Sources $69,839 Operating Expenses: Military personnel $19,990 Civilian and foreign national personnel 9,108 Travel and transportation 1,626 Utilities, rents, and communications 1,769 Equipment maintenance 1,104 Purchased services 8,598 Supplies and fuels 717 Research and development (note 1-H) 13,675 Depreciation (note 1-E) 3,593 Aircraft crashes (note 8) 152 Other 1,054 Stock fund cost of sales and expenses 8; 693 Total Operating Expenses $70,079 Excess of Operating Expenses Over Revenues and Financing Sources $ (240) The accompanying notes are an integral part of these financial statements. The supplemental schedules in note 10 provide additional details by fund type for the consolidated financial statements. * - Page 82 GAO/AFMD-90-23 Air Force Financial Audit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Fiscal Year Endlng September 30,1999 Notes td Financial Statements NOTES TO FINANCIAL STATEMENTS Note 1: Summary of Significant Accounting Policies A. Entity and Basis of Consolidation The United States Air Force was created on September 18, 1947 by the National Security Act of 1947. The National Security Act Amendments of 1949 established the Department of Defense (DOD) and made the Air Force a department within DOD. The overall mission of the Air Force is to organize, train, and equip aerospace forces to deter aggression and, if necessary, defeat aggressors of the United States and its allies, Fiscal year 1988 represents the first year that the Air Force has prepared consolidated financial statements as required by Title 2 of GAO’s Policy and Procedures Manual for Guidance of Federal Agencies Ihereinafter referred to as Title 2). Title 2 requires executive agencies to annually issue four consolidated financial statements: (1) statement of financial position, (21 statement of operations, (31 statement of changes in financial position, and (4) statement of reconciliation to budget. As a result of first-year efforts to comply with Title 2 reporting requirements, the Air Force prepared the consolidated statements of financial position and operations for the year ended September 30, 1988. The accompanying consolidated financial statements account for all funds for which the Air Force is responsible except that information relative to classified assets, programs, and operations has been excluded from the statements or otherwise aggregated and reported in such a manner that it is no longer classified. The consolidated financial statements are presented on the accrual basis of accounting as required by Title 2. A discussion of these funds is included in note 9. The supplemental schedules in note 10 present financial data by fund type. All significant intra-agency transactions and balances have been eliminated in consolidation. As shown in the following table, significant portions of revenue and expenses, which resulted from intra-agency activities within the Air Force, have been eliminated, including $1,482 million of eliminations within the general funds not shown in the supplemental schedules (note 10). (in millions1 Appropriation reimbursements $ 1,789 Airlift services 691 Depot maintenance 3,448 Stock funds activities 6,129 Total eliminations $12.05; Page 83 GAO/APMD-90-23 Air Force Financial Audit Appendix I Consolidated Financial Statements of the U.S. Air Focw for the Fbcal Year Ending September SO, 1988 B. Recognition of Revenue and Financing Sources Financing sources for general funds are provided through congressional appropriations which are received on both annual and multi-year bases. Currently, the congressional budgetary process under which the Air Force operates does not distinguish between capital and operating expenditures. For budgetary purposes, both are recognized as a use of resources (outlays). For financial reporting purposes under accrual accounting, operating expenses for general fund activities are recognized in the period incurred. Expenditures for capital and other long-term assets are not recognized as expenses until consumed in the Air Force's operations. Unexpended appropriations are recorded as equity of the U.S. government. Certain expenses, such as annual and military leave earned but not taken, are not funded when accrued. Such expenses are financed in the period in which payment is required, Therefore, for Air Force general funds, an amount due from future financing sources (appropriations to be provided) is recognized as an asset in the consolidated statement of financial position which is comprised of the accrued amount of such expenses at year-end. The Air Force operates two types of revolving funds, industrial and stock, for the purpose of distributing services and inventories to Air Force and DOD activities. Revenue for industrial fund activities is recognized at the point the rendered service is completed and on a percentage of physical completion basis. Revenue for stock fund activities is recognized at the point the inventory items are sold. The Air Force performs certain services for other governmental and public entities. These services are initially financed through general funds and subsequently reimbursed by the recipients. Reimbursements are recognized as revenue at the time the services are rendered. C. Funds with U.S. Treasury Air Force fund resources are maintained in Treasury accounts. Its cash receipts and disbursements are processed by the Treasury, and the balance with the Treasury represents the aggregate of all unexpended balances. As of September 30, 1988, the Air Force had $49,137 million in funds with the Treasury which were available to pay outstanding obligations. D. Inventories Inventories, including operating supplies and non-consumable items, are valued at standard prices established by the Air Force or the Defense Logistics Agency as required by DOD Page 84 GAO/AFMD-90-23Air ForceFinancialAudit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Fiscal Year Endlng September 30,1938 - , / accounting directives. Generally, these prices are based on prices paid for recently acquired items plus appropriate surcharges. Gains and losses that result from standard price changes for stock fund items are recognized and reported in the statement of operations as miscellaneous revenues or expenses. In 1988, the stock funds recorded a net loss of $59.7 million, while the industrial funds recorded a loss of $2.4 million due to changes in standard prices. No gains or losses are recognized in the consolidated statement of operations as a result of changes in standard prices for general fund inventories. Such changes are reflected in the asset valuations and related invested capital as reported in the statement of financial position. E. Property, Plant, and Equipment Valuations for equipment, aircraft, missiles, and engines are not based on historical procurement costs. These assets are valued and reported at standard or average procurement costs in conformance with DOD accounting directives. Equipment is valued at standard costs which the Air Force establishes using federal stock categories. While no gains or losses are recognized in the statement of operations for changes in standard costs of equipment, such changes are reflected in asset valuations and related invested capital. Aerospace vehicles (aircraft and missiles) are valued at average procurement costs. Engineering and modification costs incurred subsequent to approval of the basic procurement contracts are not capitalized unless such modifications and engineering changes result in a new category of weapon system commonly referred to as "mission, design, series," or MDS. Land and facilities are valued at cost. Buildings are capitalized when constructed or at the date of acquisition and are assigned useful lives of 40 years. Building improvements costing more than $5,000 are capitalized and depreciated over the remaining useful life of the building. Routine maintenance and repair costs are expensed when incurred. Depreciation of property and equipment is calculated on a straight-line basis. Industrial funds record depreciation on buildings and equipment as required by Title 2 for revolving fund activities. While Title 2 does not specifically require depreciation on general fund assets, depreciation is recorded on Air Force's aircraft and buildings. No depreciation has been recorded for other general fund equipment and missiles (see note 4). * --_ Page 86 GAO/AFMD-90-23 Air Force Financial Audit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Fiscal Year Ending &ptember 30,1988 -/ F. Accrued Leave Civilian annual leave and military leave are accrued as earned and the accrued amounts are reduced as leave is taken. The balances for annual and military leave at the end of the fiscal year reflect current pay rates for the leave that is earned but not taken. Sick and other types of leave are expensed as taken. G. Foreign Currency Transactions The Air Force conducts a significant portion of its operations overseas. Gains and losses from foreign currency transactions for four general fund appropriations (Air Force operation and maintenance, Air Force construction, family housing operation and maintenance, and family housing construction) are recognized and reported in the statement of operations. The gains or losses are computed as the variance between the current exchange rate at the date of payment and a standard exchange rate established at the beginning of the fiscal year. In fiscal year 1988, the Air Force recognized a net loss of $477 million due to foreign currency transactions for the four appropriations. Similar gains and losses for other appropriations are not recognized in the statement of operations. They are absorbed by budgetary transactions in which obligations are increased or decreased to reflect foreign currency fluctuations. H. Research, Development, Testing, and Evaluation Costs The Air Force conducts and contracts for research, development, testing, and evaluation (RDThE) of advanced aerospace systems. RDT&E costs are expensed as incurred. In fiscal year 1988, the Air Force incurred RDT&E costs of $13,675 million , of which $962 million was for reimbursable work performed for other entities. RDT&E programs support modernization of weapon systems through military research, exploratory development, and the development and testing of prototypes and full-scale preproduction of hardware. The Air Force contracts for and procures its weapons systems considering the technological advances achieved through RDThE programs. I. Equity Equity consists of invested capital , cumulative results of operations, and unexpended appropriations. Invested capital, as presented in the consolidated statement of financial position, represents the value of the Air Force's capital assets as reported at standard prices/costs, except for land and buildings. The portion of invested capital attributable to land and buildings represents their undepreciated cost. Page 86 GAO/AFMD-W-23 Air Force Financial Audit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Mscal Year Ending September 30,19fM Increases to invested capital are recorded when capital assets are acquired or constructed or when asset valuations increase as a result of increases in standard prices/costs. Decreases occur as capital assets are depreciated or consumed in operations, or when standard prices/costs are decreased. Donated capital and trust fund balances, while immaterial to the Air Force’s overall financial position, have been included in invested capital. Cumulative results of operations for working capital funds represents the excess of revenues over expenses since fund inception, less refunds to customers and returns to the U.S. Treasury. Unexpended appropriations represent amounts of authority which are unobligated and have not been rescinded or withdrawn, and amounts obligated but for which neither legal liabilities for payments have been incurred nor actual payments made. Note 2. Accounting for Intragovernmental Activities The Department of the Air Force, as an agency of the Department of Defense and the federal government, interacts with and is dependent upon the financial activities of the federal government as a whole. Therefore, these financial statements do not reflect the results of all financial decisions applicable to the Air Force as though the agency were a stand-alone entity. A. The Air Force’s proportionate share of public debt and related expenses of the federal government are not included. Debt issued by the federal government and the related interest costs are not apportioned to federal agencies. The Air Force’s financial statements, therefore, do not report any portion of the public debt or interest thereon, nor do the statements report the source of public financing whether from issuance of debt or tax revenues. B. Financing for the construction of Air Force facilities was obtained through budget appropriations. To the extent this financing may have been ultimately obtained through the issuance of public debt, no interest costs, thereon, have been capitalized since the Treasury does not allocate such borrowings to the benefitting agencies. C. The Air Force’s civilian employees participate in the Civil Service Retirement System (CSRS) and Federal Employees Retirement System (FERS) while military personnel are covered by the Military Retirement System (MRS). Additionally, employees and personnel covered by FERS and MRS are also covered by Social Security. The Air Force funds a portion of pension benefits under these retirement systems but does not disclose the assets or actuarial data on the accumulated plan benefits or unfunded pension liabilities of its employees. Y Page 87 GAO/AFMD-90-23 Air Force Financial Audit - Appendix I Cbneolldated Financial Statements of the U.S. Air Force for the Fiscal Year Ending September 30,1988 Reporting such amounts is the responsibility of the Office of Personnel Management for CSRS and FERS and the Department of Defense for MRS. In fiscal year 1988, the Air Force contributed the following amounts to the retirement plans and Social Security. (in miili;;;) CSRS FERS 158 MRS 5,287 Social Security 1,085 mE The Air Force also contributed $30 million to the FERS Thrift Savings Plan on behalf of its participating employees. D. Certain legal actions to which the Air Force may be a named party are administered and, in some instances litigated, by other federal agencies. Legal actions to which the Air Force is a litigant are covered by the Federal Tort Claims Act and Chapter 163 (military claims) of Title 10, United States Code. Air Force contingent liabilities under the Tort Claims Act and Chapter 163, 10 U.S.C, are $2,500 and $100,000, respectively, per occurrence. Settlements in excess of these amounts are paid from the Treasury's Claims , Judgments and Relief Acts Fund. Thus, moat contingent liabilities arising from legal actions against the Air Force will not materially affect its operations or financial condition. (See note 7.) E. In fiscal year 1988, the Air Force sold assets to foreign governments under the provisions of the Arms Export Control Act of 1976. Under the provisions of the act, DOD has authority to sell defense articles and services to foreign countries, generally at no profit or loss to the U.S. government. Customers are required to make payments in advance to a trust fund maintained by the Department of the Treasury from which the military services are reimbursed for the cost of administering and executing the sales. In fiscal year 1988, the Air Force received reimbursements of $565 million for assets and services sold under the Foreign Military Sales program. F. Certain Air Force contracts are administered by other DOD entities. Generally, the Air Force administers its high- dollar-value prime contracts for acquisitions of weapon systems. Other contracts are administered by the Defense Contract Administration Services (DCAS), Army, or Navy. Under the provisions of inter-service agreements, these entities make disbursements of Air Force funds to contractors in accordance with contract terms and provide financial data to the Air Force. Additionally, the State Department disbursed over $1,024 million of Air Force funds in fiscal year 1988, primarily to reimburse foreign governments for the cost of Page 88 GAO/AFMD-90-23 Air Force Financial Audit ‘, Appendix I Consolidated Flnanclal Statements of the U.S. Air Force for the Fiscal Year Ending September 30,1988 fuels provided for Air Force aircraft. The following amounts of disbursements of Air Force funds were made by these entities in fiscal year 1988. (in millions) DCAS $13,569 Army 11,686 Navy 1,559 State 1,024 Sm< Note 3. Accounts Receivable As presented in the consolidated statement of financial position, accounts receivable include accounts, claims, and refunds receivable and advance payments to other entities. Allowances for uncollectible accounts are based upon analysis of collection experience by fund type. Total Amount Allowance net (in millions) - Accounts receivable Government $ 824 $2 $ 822 Pub1 ic 144 8 136 Refunds 258 0 258 Claims 33 0 33 Advance payments 369 369 Total Sl.azs $1,-618 During fiscal year 1988, the Air Force wrote off approximately $24 million in uncollectible receivables. Note 4. Property and Equipment Depreciation is recorded for industrial fund equipment and buildings whereas depreciation is recorded only for aircraft and buildings within the general funds. Buildings are assigned useful lives of 40 years, and depreciation is calculated by the straight- line method. Aircraft are assigned useful lives of 20 years and also depreciated on a straight-line basis exclusive of 5 percent residual values. Depreciation of aircraft is based on the vehicles' recorded values using average procurement costs (see note 1-E). Page 99 GAO/AFMD-90-23 Air Force Financial Audit Appendix I ComwMated Financial Statements of the U.S. Air Force for the Fiscal Yeax Ending September 30,1888 Book values for the Air Force’s depreciated assets are shown below. Recorded Accumulated Book value depreciation value 7in millions) - Equipment, industrial funds $ 1,834 $ 721 $ 1,113 Buildings 19,666 10,295 9,371 Aircraft 82,344 36,074 $103 $sr;sim St&g Under provisions of the Intermediate-Range Nuclear Forces Treaty (INF Treaty) signed by the United States and the Union of Soviet Socialist Republics in December 1987, the Air Force’s inventory of ground launched cruise missiles is to be destroyed by May 31, 1991. Total value of these missiles is $658 million. Note 5. Treaties for Use of Foreign Bases The Air Force has the use of land, buildings, and other facilities which are located overseas and have been obtained through various international treaties and agreements negotiated by the Department of State. Generally, treaty terms allow the Air Force continued use of these properties until the treaties expire. Capital investments in buildings and other facilities (for example, runways) located on the overseas bases are capitalized as stipulated in note 1-E. The fiscal year 1988 consolidated statement of financial position includes $3,701 million of buildings and facilities located in foreign countries. These fixed assets are subject to loss in the event treaties are not renewed or other agreements are not reached which allow for the continued use by the Air Force. Therefore, in the event treaties or other agreements are terminated whereby use of foreign bases is no longer allowed, losses will be recorded for the value of any non- retrievable capital assets. As of September 30, 1988, two overseas bases, Torrejon, Spain, and Hellinikon, Greece, are planned to be closed within 3 years. Negotiations are anticipated within the year with the cognizant governments regarding possible closure of the bases. Funding for closing and relocation costs will be provided through future Air Force appropriations and North Atlantic Treaty Organization (NATO) funding. As of September 30, 1988, the Air Force had not finalized cost estimates regarding closing these bases and relocating their activities to other bases. Operating expenses for overseas bases are included in the consolidated statement of operations. Note 6. Leases As of September 30, 1988, the Air Force was committed to numerous operating leases and rental agreements. Generally, these leases * Page 80 GAO/AFMD-90-23 Air Force Financial Audit Appendix I ConsoUdated Financial Statements of the U.S. Air Force for the Fiscal Year Ending September 30,1888 and agreements were for rental of equipment, space, and operating facilities. The Air Force owns substantially all of the facilities and real property used in its domestic operations, and capital assets overseas are capitalized similar to domestic assets. Since most of the leases entered into by the Air Force are operating in nature, rather than capital, no capital leases are recognized in the consolidated statement of financial position. Note 7. Obligations and Contingencies The Air Force is obligated for goods and services which have been ordered but not yet received (undelivered orders) as of September 30, 1988. Aggregate undelivered orders amounted to $49,137 million at September 30, 1988. Of this amount, $28,184 million relates to contracts for the construction and delivery of aerospace vehicles. The Air Force is a party to various legal and administrative actions and claims brought against it. These relate primarily to tort claims resulting from aircraft and vehicle accidents, medical malpractice, property and environmental damages resulting from Air Force activities, and contract disputes. Legal claims against the Air Force are adjudicated under two federal statutes, the Federal Tort Claims Act and 10 U.S.C., Chapter 163 (for military claims). As discussed under note 2-D, the Air Force's liability for claims made under the Federal Tort Claims Act is limited to $2,500. Settlements and awards in excess of $2,500 are paid from the Claims, Judgments and Relief Acts fund maintained by the Department of Treasury. Under 10 U.S.C., Chapter 163, the Air Force is liable for payment of awards and settlements up to $100,000 resulting from damages to real and personal property and personal injury or death caused by Air Force activities within the United States and its territories. The Air Force is liable for similar awards and settlements in certain foreign countries resulting from DOD activities. Awards and settlements in excess of $100,000, foreign and domestic, are paid from the Claims, Judgments and Relief Acts fund. Air Force payments during fiscal year 1988 for awards, compromises, and settlements resulting from such legal actions amounted to $14 million. General Counsel estimates that payments arising from legal and administrative claims outstanding at September 30, 1988, will approximate $22 million in fiscal year 1989. In the opinion of Air Force management and legal counsel, the ultimate resolution of legal actions still pending will not materially affect the agency's operations or financial position. Therefore, no contingent liabilities have been recognized in the consolidated statement of financial position. Page 81 GAO/AFMD-BO-23AirForceFinancialAudit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Nscal Year Ending September 30,1988 As of January 1989, the Air Force was a party to 558 contract appeals before the Armed Services Board of Contract Appeals. Total value of these appeals was $469 million. According to management, approximately 80 percent of appeals are successfully defended by the Air Force. In fiscal year 1988, contractors recovered about $38 million from resolved claims. Such claims are funded primarily from Air Force appropriations. Additionally, the Air Force is a defendant in a patent infringement lawsuit filed by an aircraft manufacturer. The Air Force’s general counsel expects that the suit will be decided in favor of the manufacturer and that the Air Force will eventually pay for damages. Funding for these damages is expected to be derived through future appropriations. Note 8. Aircraft Crashes An operating loss of $152 million has been recognized in fiscal year 1988 for aircraft which were either destroyed or damaged beyond repair due to aviation mishaps. The loss represents the book value at unit costs (see note 1-E) of those aircraft either destroyed or damaged. No loss has been separately recognized for aircraft which were damaged by accidents but were reparable. Costs associated with repair of such aircraft are recorded as operating expenses and generally funded from operation and maintenance appropriations. Note 9. Major Activities/Funds The Air Force’s major activities consist of general, working capital (stock and industrial), trust, special, and deposit funds. General funds are used to record financial transactions arising under congressional appropriations. Air Force manages 15 general fund accounts: 7 are funded by current year appropriations and 8 by multi-year appropriations. These 15 funds received budget authority of $95,137 million in fiscal year 1988, of which the current year appropriations received $64,876 million. The Air Force’s working capital funds finance industrial and commercial type transactions. The stock fund is composed of six divisions: fuels, commissary, general support, systems support, medical/dental , and the Academy store. The stock fund provides supplies and inventories to Air Force organizations on a commercial basis. Receipts derived from stock fund operations are normally available in their entirety for use without further congressional action. In fiscal year 1988, the stock fund recorded an operating deficit of $207 million. Page 92 GAO/AFMD-90-23 Air Force Financial Audit Appendix I Consolidated Financial Statementa of the U.S. Air Force for the Fiscal Year Ending September 80,leSS Stock fund sales, costs of sales and expenses, and net operating results by divlsron Cost of sales Net operating Division Sales results - ?m) Fuels $2,894 $2,937 $(43) Commissary 2,460 2,457 3 General support 2,091 2,069 Systems support 714 909 (1% Medical/dental 329 324 Academy store : Total sd $8.70: (SZ) Amounts shown are before intra-agency eliminations (see supplemental schedules in note 10). The industrial fund is composed of four divisions: airlift services, depot maintenance, laundry/dry cleaning, and real property. These divisions provide services to other Air Force entities through buyer-seller relationships. Airlift and depot maintenance comprise the most significant portion of industrial fund activity accounting for 95 percent of total industrial fund revenues in fiscal year 1988. The industrial fund recorded an operating deficit of $93 million in fiscal year 1988. Industrial fund revenues, expenses, and net operating results by divlslon Net operating Division Revenues $x;f;;;~~~, results Real property maintenance, laundry/dry cleaning $ 254 $ 243 $11 Airlift services 1,684 1,773 (89) Depot maintenance 3,553 3,568 (15) Total $5.492 $5,584# (SE) Amounts shown are before intra-agency eliminations (see supplemental schedules in note 10). Special funds account for receipts of the government that are earmarked for a specific purpose. The Air Force manages two special funds, the Wildlife Conservation Fund and the Military Assistance Program. Deposit fund accounts are generally used to (1) hold assets for which the Air Force is acting as agent or custodian or whose distribution awaits legal determination or (2) account for unidentified remittances. The Air Force maintains 31 deposit funds. Page 98 GAO/AFMDBO-28 Air Force Financial Audit Appendix I Consolidated Financial Statemente of the U.S. Air Force for the Fiscal Year Ending September 80,19?38 Air Force trust funds account for gifts and bequests limited to specific purposes by the donor and/or assets held for particular purposes. The Air Force Revolving Trust Fund, Commissary Stores Surcharge Collections, is the most significant of these and was established to reimburse appropriations for payments made on behalf of commissary stores for operating equipment and supplies, utilities, laundry services, and inventory losses. Surcharges provide revenue which is used to construct commissaries. Note 10. Supplemental Schedules The supplemental schedules present the financial position and results of operations by funds. Descriptions of these funds are presented in note 9. Page 94 GAO/AFMD-90-28 Air Force Financial Audit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Nscal Year Ending September 39,198S -1 Schduls of Assets. Llabl I Itles, ad Eqult~ by Fund Two Cd 1~s In ml I I Ions) General Stock Industrlsl Trust speclsl oqlxlt I ntrsqplcy Consol ldoted fVldS funds fmds turds turds 01 Imln~lmr alI funds s 33, s 4; I'8 s'? s 8 hzmwts racdvable, nut oovamumtal 692 7% 458 3 0 0 (932) 967 Plbl Ic 482 54 106 9 0 0 0 651 lnventcrIss 54,41 I 10,279 1,072 0 0 0 0 63.762 Fvoperty and aquipmnt W pnent 24,801 0 1,834 135 0 0 0 26,770 &I Idlrgs 19,249 0 417 0 0 0 0 19,645 Ofhw real prop-ty 8,820 0 I2 0 0 0 0 8,832 AIKl-aft m,w 0 0 0 0 0 0 82.w Mlssl lea 9.921 0 0 0 0 0 0 9.921 LESS sccunulated Qpraclatlrn M6.139~ 0 (%I 1 0 0 0 0 (47,090) Lad 292 0 0 0 0 0 0 252 cmstrlctlm In prcg-es?i 1,423 0 13 249 0 0 0 1,685 Alraatt under amsll-uttlm 14,925 0 0 0 0 0 0 14,925 Mlssl lea undw cmstructlm 3,276 0 0 0 0 0 0 3,276 Unlnstal led propulslm units 6,853 0 0 0 0 0 0 6,853 Other f&$&s 2 141 0 0 9 0 - 0 145 Total Assets $266 'Q& '3& '4A $16 SlOe S(QZ) s2m Llabllltles kmults pay&le GoveXflMltSl I 1,477 s I83 s 160 s 1 $3 s 0 S(932) I 892 Pital Ic 16,729 713 69 2 5 0 0 17,518 Fwslxlnel .x0-UOIS Annual Iewe 1588 0 85 0 0 0 0 673 Mllltsy lee+2 1,554 0 0 0 0 0 0 1,554 Sepaatlm al loranca I89 0 II 0 0 0 0 200 L?qmslt and trust fund 0 0 0 0 0 ICB 0 Ice other 637 22 !,rjso 0 0 0 - 0 2.299 Total Ll~llltles S 21,174 s 978 Sl,sof, s 3 $8 IloB S(932) S 23,244 Equity Invested caplta1 $177,248 54,xa $1,361 s (2) SO s 0 s 0 $182.975 C~lutl~e results of opwatlms 0 4,318 28 426 0 0 0 4.772 Unapsnded qyx-oprlatlms Lk4llgsted balmms 15,716 0 0 14 I 0 0 15,791 undal Ivered crde-s 49,lJo 0 0 0 7 0 0 49,137 Unfilled cam-s (1.145) 0 0 0 0 0 4 (1.145) Total Equity s241.a)9 sm 11.589 s4w - S/L $0 $2. sa Total Ll~llltlss ad Equity $262,183 SQ& $32 1444 $12 SlOe S(QA, $274,774 Page 95 GAO/AFMD-90-28 Air Force Financial Audit Appendix I Consolidated Financial Statements of the U.S. Air Force for the Fiscal Year Ending September 30,1999 Qrsd 9tak lndbhlal Trust gdal cqdt lnhaagency orvplict3kd flnta --- fulds fwds flr& ----- furds fud5 el Imlmtlms all fln& cpsetlq rmmlll5 m-d flnacll-g - t(lprqlaflcw naIlid ss,m I 0 s 8 I1 $16 so I 0 %4,0x ~latlal relllb~s 2,271 0 0 164 0 0 037) 2,123 AIrlIft srvlms 0 0 1.684 0 0 0 WI) 9x5 thmt ml- 0 0 3,545 0 0 0 0.440) ¶ hBlEFcFstylmlntsran,mdonprrerexa 0 0 254 0 0 0 0 2% 9kxk fti salee Oe.4sj - 0 0 9 0 (4129, 2&i btsl @ntlrg FWmta sd Flnmclrq Sames St%,241 $a,43 5,491 II65 $16 so WO,5is) rQm Q=eJ ecpl*res Mllltrypsnnel $19,993 s 0 s 0 I 0 SO so I 0 119,933 Clvl Ilm rd “relp natimoI prnmsl 6.53 0 u97 0 0 0 (52) 9,103 Tryel ad trmqx~+atlm 2,as 0 64 0 0 0 (691) 1,626 WI I ItIes, mk, conmnlcatlms 1,645 0 1% 0 0 0 112) 1,m EqJlpltmt ndliwwa se- 0 1.050 0 0 0 (3,555) 1,100 Rrctrrrrd sn4o?s em 0 0 0 0 0 0 8.m LFpl IQ sld fudr 5,024 0 1948 0 0 0 (5,713) n7 RmarrhWddWlapnnt 13,5?4 0 0 0 0 0 (149) 13,675 Dg9latlm 3,483 0 113 0 0 0 0 3.593 AIrwatt a-ashes 152 0 0 0 0 0 0 152 oltw 1,109 0 a0 lcs 16 0 wm 1.a stok flndmstOf salasudqelres Os,7m - 0 0 0 0 (9) 8.69J Tim optrating EqTumes 566% $00 19.584 ng $2 ro_ St= c!m?. fitnss (mflclt) of cpratlq %#sws sdFlnarlngSamasO.wEq~~~ s2 SE) $2’ $2 $2) $2 3 $2 w Page 96 GAO/AFMD-90-23 Air Force Financial Audit Appendix II C@mparisons BetweenAir Force Financial St$ttementsand Treasury Reports ------- U.S. AIR FORCE COMPARISONBETWEEN CONSOLIDATEDSTATEMENTOF FINANCIAL POSITION AND TREASURY REPORT ON FINANCIAL POSITION AS OF SEPTEMBER30, 1988 Consolidated Treasury statement (Dollars Assets: Funds With u. S. Treasury $ 79.7 Appropriations to be provided 2.1 Accounts receivable, neta Governmental 1.0 2.2 Public .7 .8 Inventories 63.8 74.2 Property and Equipment: Equipment 26.8 25.5 Buildings 19.7 27.3 Aircraft and Missiles 92.2 97.1 Less accumulated depreciation (47.1) Land .3 .2 Other real property Construction in progress !*I: 1.6 Aircraft under construction 14:9 Missiles under construction 3.3 Uninstalled propulsion units 6.9 Other assets Total Assets $308 Liabilities: Accounts payable Governmental $ .9 $ 13.9 Public 17.5 5.0 Personnel accruals Annual leave .7 .6 Military leave 1.6 Accrued payroll 0 .9 Separation allowance .2 Deposit and trust fund .l .l Other Total Liabilities -43 7k-k Equity: Invested capital 183.0 221.1 Cumulative results of operations 4.8 4.3 Unexpended appropriations 63.8 61.6 Total Equity 251.6 287.0 TOTAL Liabilities and Equity $274.9 $308.5 aThese amounts include advances and prepayments which are shown as separate line items in the Treasury Report. Page97 GAO/~-90-23AirForceFinancialAudit Appendix II comparisons Between Air Force Financial Statementi and Treasury Reports -, U.S. AIR FORCE CONSOLIDATED STATEMENT OF OPERATIONS AND TREASURY REPORT ON OPERATIONS FOR THE YEAR ENDING SEPTEMBER 30, 1988 Consolidated Treasury statement (Dollars in billions 9 Operating Revenues and Financing Sources: Appropriations realized $ 64.0 $ 94.4 Appropriation reimbursements 2.1 Airlift services 1.0 Depot maintenance 0.1 5.5a Real property maintenance and other revenue 0.2 0.2 Stock fund sales 2.4 9.0 Total Operating Revenues and Financing Sources 69.8 $109.1 Operating Expenses: 80.2 Military personnel $ 20.0 Civilian and foreign national personnel 9.1 Travel and transportation 1.6 Utilities, rents, and communications 1.8 Equipment maintenance 1.1 Purchased services 8.6 5.6 Supplies and fuels 0.7 Research and development 13.7 Depreciation 3.6 Aircraft crashes 0.1 Other Stock fund cost of sales and expenses z Total Operating Expenses $70.0 S&s Net Operating Results STbTz) $(14.6) Less: Capital Expenditure 0.0 18.6 Excess of Operating Expenses Over Revenues and Financing sources $(0.2) $_ ( 4.4) aThis amount represents total industrial funds (i.e., airlift services, depot maintenance, real property maintenance and other). Y Page 98 GAO/AFMDSO-23 Air Force Financial Audit Appcrdix III Objectives,Scope,and Methodology During fiscal year 1988, the Air Force developed its first set of consoli- dated financial statements for external use. We coordinated with the Air Force throughout this effort by providing technical assistance in devel- oping the statements and footnote disclosures. We also reviewed the accounts that comprise the financial statements and reviewed the Air Force’s financial management operations. As a result of our review, we identified issues that need to be resolved not only to enable the Air Force to prepare accurate financial statements but also to improve its accountability and financial management. This was the first comprehen- sive assessment of the Air Force’s financial management operations and, without a doubt, the largest, and arguably, the most complex audit ever undertaken. Our specific objectives for this review were to: develop an understanding of the Air Force’s internal control environment; identify and document the internal controls, both manual and auto- mated, that relate to recording, processing, summarizing, and reporting financial data; identify and document the information streams of financial transactions from inception of a transaction to the reporting of the information to the Finance Center; evaluate the adequacy and effectiveness of significant internal account- ing controls; and test events, transactions, or account balances to substantiate their accu- racy, completeness, and propriety. This review included coverage of the Air Force’s financial management operations and accountability for the primary resources-personnel, facilities, inventory, and equipment-it uses to accomplish its mission. We reviewed the Air Force’s policies relating to its organization, accountability procedures, and financial management. We also consid- ered previous reports by GAO,Air Force Audit Agency, Department of Defense Office of the Inspector General, and Air Force pursuant to the Federal Managers’ Financial Integrity Act. We discussed financial man- agement operations and accountability procedures, functions, and processes with managers throughout the Air Force. We identified inter- nal controls in the accounting systems and operations for the primary resources. Our audit tests focused on the key internal controls specifi- cally related to financial management and accountability for resources. Field work was performed at the following locations: Page 99 GAO/AFMD-SO-23 Air Force Financial Audit Appendix III Objectives, Scope, and Methodology . Air Force headquarters, Washington, D.C.; l Air Force Accounting and Finance Center, Lowry Air Force Base, Den- ver, Colorado; l Air Force Systems Command Headquarters, Andrews Air Force Base, Maryland; 9 Aeronautical Systems Division, Wright-Patterson Air Force Base, Ohio; . Space Systems Division, Los Angeles Air Force Station, California; l Electronic Systems Division, Hanscom Air Force Base, Massachusetts; 9 Contract Management Division, Kirtland Air Force Base, New Mexico; . Air Force Wright Research and Development Center, Wright-Patterson Air Force Base, Ohio; l Rome Air Development Center, Griffiss Air Force Base, New York; . 4960th Test Wing, Wright-Patterson Air Force Base, Ohio; l Air Force Office of Scientific Research, Bolling Air Force Base, Washing- ton, D.C.; . Air Force Logistics Command Headquarters, Wright-Patterson Air Force Base, Ohio; 9 Ogden Air Logistics Center, Hill Air Force Base, Utah; . San Antonio Air Logistics Center, Kelly Air Force Base, Texas; l Warner Robins Air Logistics Center, Robins Air Force Base, Georgia; . Oklahoma City Air Logistics Center, Oklahoma; . Randolph Air Force Base, Texas; l Wurtsmith Air Force Base, Michigan; . Nellis Air Force Base, Nevada; l MacDill Air Force Base, Florida; l Langley Air Force Base, Virginia; l Griffiss Air Force Base, New York; . Sembach Air Base, West Germany; l Royal Air Force Lakenheath, England; . Hickam Air Force Base, Hawaii; . Kadena Air Base, Japan; l Andrews Air Force Base, Maryland; . Air Force District of Washington, Bolling Air Force Base, Washington, D.C.; l Tactical Air Command Headquarters, Langley Air Force Base, Virginia; . Strategic Air Command Headquarters, Offutt Air Force Base, Nebraska; 9 Air Training Command Headquarters, Randolph Air Force Base, Texas; l United States Air Forces in Europe, Ramstein Air Base, West Germany; l Pacific Air Forces, Hickam Air Force Base, Hawaii; l Military Airlift Command Headquarters, Scott Air Force Base, Illinois; l Dover Air Force Base, Delaware; l Travis Air Force Base, California; and . Rhein-Main Air Base, West Germany. Page 100 GAO/AFMD-90-23 Air Force Fiuancial Audit ‘Appendix IV Qmments From the Departmentof Defense Note: GAO comments supplepenting those in the report text appear at the end of this appendix. COMPTROLLER OF THE DEPARTMENT OF DEFENSE WASHINGTON. DC 20301-1100 Mr. Donald H. Chapin Assistant Comptroller General Accounting and Financial Management Division U.S. General Accounting Office Washington, DC 29548-0001 Dear Mr. Chapin: See ccimment 1, This is the Department of Defense (DOD) response to the GAO draft report “FINANCIAL MANAGEMENT: Billion-dollar Decisions Made Using Inaccurate and Unreliable Air Force Data,” dated February 1, 1990 (GAO Code 917118/OSD Case 8193-A). The Department is concerned that the report may mislead some readers into thinking that the Air Force has misstated the cost of its aircraft or other programs to the Congress. Accurate costs are reported to the Congress for weapon systems through the Selected Acquisition Report data, as well as See comment 2 annually in the Procurement, Research and Development, and Construction appendices to the President’s Budget. The DOD is aware that the Air Force accounting system, including financial controls over inventories and Government furnished property provided to contractors, needs improvement. The Defense Management Report embodies several major initiatives that specifically address the problems identified in the report. These initiatives include major effort8 to improve See comment 3 accounting and material management systems and operations. In addition, the Department has recently made several major policy changes to improve the management of inventories and equipment. Several of these initiatives are incorporated in the FY 1991 budget request recently submitted to the Congress. Implementation of these policy changes and initiatives will resolve the problems cited in the report. The Department emphasizes that the Air Force has demonstrated its interest in enhancing ixs accounting efforts by its willingness to prepare the prototype reports solicited by the GAO. Notwithstanding the draft report contents, the Air Force continues to seek appropriate improvements, where warranted. The DOD will endeavor to make accounting and reporting data more consistent in future reports. Y Page 101 GAO/AFMD-90-23 Air Force Financial Audit comment* From the Department of Defense 2 The DOD responses to the recommendations are enclosed. Unfortunately, due to the short time available for providing comments, the Department was unable to provide its Usual comprehensive response, including the milestone/completion dates for the corrective actions. A comprehensive response will be provided on the final report. The DOD appreciates the opportunity to comment on this draft report. Cordially, Enclosure Page 102 GAO/AFMD-90-23 Air Force Financial Audit Appendix IV Commenta From the Department of Defense GAO DRAFT REPORT - DATED FEBRUARY 1, 1990 (GAO CODE 917118) OSD CASE 8193-A "FINANCIAL MANAGEMENT: BILLION-DOLLAR DECISIONS MADE USING INACCURATE AND UNRELIABLE AIR FORCE DATA" DEPARTMENTOF DEFENSE COMMENTS RX.OMMNDATIONS * l * * * 0 Recommendation No. 1: The GAO recommended that the Secretary of the Air Force develop an overall plan specifying corrective actions and milestones for the Air Force to produce consolidated financial statements in accordance with Title 2 See comment 4 that will be submitted to us for audit. DoD Response: Partially Concur. The Air Force will be required to develop a plan for taking appropriate corrective actions needed to adhere to required Executive Branch financial statement requirements. 0 Recommendation No. 2: The GAO recommended that the Secretary of the Air Force give high priority to developing an integrated accounting system capable of generating reliable See comment 4. financial management reports on a timely basis. DoD Response: Partially Concur. A Defense Management Report initiative provides for the development of DOD-wide financial management functional requirements. This initiative enjoys a high DOD priority. 0 Recommendation No. 3: The GAO recommended that the Secretary of the Air Force develop management reports designed to assist See comment 4. to achieve cost-effectiveness and efficiency. DoD ResDonse: Partially Concur. A Defense Management Report initiative provides for the development of DOD-wide financial management functional requirements. o Recommendation No. 4: The GAO recommended that the Secretary of the Air Force direct his Chief Financial Officer to correct deficiencies identified in existing systems to the fullest extent possible. Page 103 GAO/AFMD-90-23 Air Force Financial Audit I Appendix W C o m m e n t s F r o m the Department of Defense Q o D R e m o n s ~ r Concur. Requirements currently exist in the Air F o r c e requiring correction of these deficiencies. T h e Air F o r c e will r e e m p h a s i z e these requirements. 0 R e c o m a k e n d a t i o n No. 5 T h e G A O r e c o m m e n d e d that the Secretary of the Air F o r c e dir&t his Chief Financial O fficer to investigate u n u s u a l a n d a b n o r m a l account balances. D o 0 R e a w n s e a Concur. Requirements currently exist in the Air Force for the investigation of u n u s u a l a n d a b n o r m a l account balances. T h e Air Force will r e e m p h a s i z e these requirements. 0 R e c o m m e n d a t i o n No. 4: T h e G A O r e c o m m e n d e d that the Secretary of the Air Force direct his Chief Financial O fficer to perform a periodic comparative analysis of account balances from o n e p e r i o d to the next a n d follow u p a n d explain significant variances. D o D Reswnse: Concur. Requirements currently exist in the Air Force requiring periodic comparative analysis of account balances. T h e Air Force will r e e m p h a s i z e these requirements. o R e c o m m e n d a t i o n No. 7: T h e G A O r e c o m m e n d e d that the Secretary of the Air F o r c e direct his Chief Financial O fficer to perform, to the fullest extent possible in light of existing systems deficiencies, comparative analyses of operating units across tim e periods a n d of other cost centers to determine efficiency of operations. D o 0 Response: Concur. Requirements currently exist in the Air Force requiring comparative analyses to determine efficiency of operations. T h e Air Force will r e e m p h a s i z e these requirements. o R e c o m m e n d a t i o n No. 8. T h e G A O r e c o m m e n d e d that the Secretary of the Air Force direct his Chief Financial O fficer to accumulate a n d report actual costs of e q u i p m e n t in a c c o r d a n c e with Title 2. S e e c o m m e n t 4. D o D R e s D o n s e r Partially Concur. A Defense M a n a g e m e n t Report initiative provides for the d e v e l o p m e n t of D O D - w i d e financial m a n a g e m e n t functional requirements. 0 R e c o m m e n d a t i o n No. 9. T h e G A O r e c o m m e n d e d that the Secretary of the Air Force dir&t his Chief Financial O fficer to g e n e r a t e m o r e reliable a n d complete financial information for reports to the Department of the Treasury a n d for a n n u a l consolidated financial statements. D o 0 Reswnset Concur. Appropriate action will b e initiated consistent with Executive B r a n c h requirements. Page 104 G A O /A F M D - S O - 2 3 A i r Force Financial Audit . Appendix IV Comments From the Department of Defense o Recommendation No. 10: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to report the internal control problems with reconciliations and documentation for adjustments in Federal Managers’ Financial Integrity Act reports to the Secretary of Defense. y Resoonse: Concyr. Appropriate material weaknesses in nternal controls will be identified in future Air Force Federal Managers’ Financial Integrity Act reports. 0 Recommendation No. 11: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to reconcile subsidiary records periodically to the control accounts and correct errors and weaknesses. DoD Response: Concur. Current DOD accounting policies require periodic reconciliations. Incidents cited by the GAO represent instances of noncompliance with these policies. Appropriate corrective action will be directed. o m: The GAO recommended that the Secretary of the Air Force direct the Chief Financial dfficer to reconcile disbursements with obligations and promptly correct errors. DOD Response: Concur. The most significant problems exist when payments are made for the Air Force by others. Solutions to these problems are being aggressively pursued as a result of the Defense Management Report initiatives. o Recommendation No. 13: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to document all adjustments to subsidiary records and control accounts. DoD Response. Concur. Air Force directives currently require documentation for adjustments to subsidiary records and control accounts. These requirements are not being followed in all cases. This results in a compliance problem requiring increased management attention. The Defense Management Report initiatives are also expected to help resolve such problems. o Recommendation No. 14: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to enforce Air Force’s requirement that supervisors and managers review and approve all significant adjustments. DoD Response: Concur. The need for adjustments to be reviewed and approved will receive greater emphasis. Page 106 GAO/AFMD-90-23 Air Force Financial Audit AppendixIV Comments From the Department of Defense o Pecoumendation No. 15r The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to report unsupported adjustments and reconciliation internal control problems, if applicable, in future Federal Managers’ Financial Integrity Act reports. Do0 Reswnsea Concur. Appropriate material weaknesses in internal controls will be identified in future Air Force Federal Managers’ Financial Integrity Act reports. 0 Recommendation No. 16: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to accumulate and report actual costs of weapons systems, which include acquisition costs, Government furnished material, operating and maintenance costs, and modifications. DoD Reawnse: Concur. Appropriate action will be initiated consistent with Executive Branch requirements. It should be noted, however, that the cost data required to meet congressional requirements for Air Force weapons systems is currently being obtained from sources other than the asset accounts in the Air Force accounting system. 0 Recommendation No. 17: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to report actual and planned cost data to the Congress so better decisions can be made on program funding. DOD Response: Concur . All data required by the Congress will be provided. As noted in response to Recommendation 16, however, applicable data from sources other than the Air Force asset accounts are being used to provide the Congress with required . data. o Recommendation No. 18: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to account and report on satellites through either revisions to existing systems or a new system to provide oversight of these assets. DOD Reswnsex Concur. The Department is taking steps, as part of the Defense Management Report initiatives, to develop a DOD-wide standard accounting module to record the cost of Government property. o Recommendation No. 19: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to establish and implement procedures to identify and record in the accounting records equipment paid for and accepted by the Air Force but held by contractors. Do0 Resuonse : Concur. The Department is taking steps, as part of the Defense Management Report, to correct this Air Page106 GAO/AFMD-90-23 Air Force Fiiancial Audit . Appendix IV CommentsF’rom the Department of Defense Force deficiency. One of the Department’s initiatives involves developing a DOD-wide standard accounting module to record the cost of Government property in the hands of DOD contractors. 0 Recommendation No. 20: The GAO recommended that the Secretary of the Air Force require the Chief Financial Officer to establish a policy to value unserviceable items to reflect the estimated costs of repair. See comment 5. DoD Resoonse: Partially Concur. As a part of the Defense Management Report initiatives, a revised policy will be considered. 0 Recommendation NO. 21: GAO recommended that the Secretary of the Air Force require the Chief Financial Officer to adopt an improved standard cost accounting system integrated with the general ledger which provides for accurate determination of standard costs based on replacement costs, identification of inflation growth, and variance analysis with respect to purchase prices, material usage, and repair costs. See comment 5. DoD Response: Partially Concur. A Defense Management Report initiative to develop a standard financial management requirements is expected to meet the Department’s needs in this area. o Recommendation No. 22: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to initiate a special effort to deal with the root causes and reduce the $18 billion of inventory in excess of strategic requirements. See comment 6 DOD Remonee x Partially Concur. The Department does not agree that the $18 billion referred to by the GAO is excess to strategic requirements. The Department has recognized that the large value of inventories requires appropriate action. The DOD acquisition officials have initiated actions to improve inventory management through the Defense Management Report initiatives. o Recommendation No. 23: The GAO recommended that the Secretary of the Air Force make improving accounting practices and systems an Air Force-wide priority effort, supported by adequate resources. LIoD Reswnse: Concur. The Defense Management Report initiatives have been established to develop standard DOD-wide functional requirements for accounting practices and systems. This effort enjoys a high DOD priority. o Recommendation No. 24: The GAO recommended that the Secretary of the Air Force direct the Chief Financial Officer to develop Page 107 GAO/AFMD90-23 Air Force Financial Audit Appendix Iv CkmunentsFrom the Department of Defense a comprehensive plan for improving and integrating the Air Force'8 financial management and accounting systems. Do0 ReSTWiser Concur. A Defense Management Report initiative is expected to provide for such improvement and integration. 0 Recommendation No. 25: The GAO recommended that the Secretary of the Air Force review the systems requirements of Base Level Accounting and Report System and all related systems to ensure that they are complete and that they address all the Air Force’s concerns about its operations and the problems addressed in this report. DoD Reswnse: Concur. A Defense Management Report initiative provides for DOD-wide accounting functional requirements and systems. This initiative, which would alleviate the need for the Air Force to pursue development of the Base Level Accounting and Reporting System, can be expected to address the conditions identified in this draft report. 0 Recommendation No. 26: The GAO recommended that the Secretary of the Air Force ensure that a project management structure and plan are in place to avoid the potential pitfalls that have caused problems in past systems development efforts. This structure must include adequate representation and participation by top management and functional users in all phases of the development effort. DoD Resvoneer Concur. A Defense Management Report initiative, to develop standard DOD-wide requirements and systems is being established. This effort, which is fully supported by the Secretary of Defense, will have both “top management” and “functional user” involvement, including adequate structure, plan, and personnel and financial resources. Page 108 GAO/AFMD-99-23 Air Force Financial Audit Appendix IV CommentaF’rom the Department of Defense The following are GAO’S comments on the Department of Defense’s letter dated February 21,199O. Force Does Not Effectively Account for Billions of Dollars of Resources. 2. We have modified the report to specifically discuss the Selected Acquisition Reports sent to the Congress and recognize that the costs they report are more accurate than the costs provided by the Air Force’s financial management systems. 3. The Defense Management Report is addressed under Agency Com- ments at the end of the executive summary. 4. The DOD response is discussed under Agency Comments and Our Eval- uation at the end of chapter 2. 5. The DOD response is discussed under Agency Comments and Our Eval- uation at the end of chapter 5. 6. We corrected the report to show $10 billion as unrequired inventory. (917119) Page 109 GAO/AFMD-90-23 Air Force Nnancial Audit -..
Financial Audit: Air Force Does Not Effectively Account for Billions of Dollars of Resources
Published by the Government Accountability Office on 1990-02-23.
Below is a raw (and likely hideous) rendition of the original report. (PDF)