oversight

FAA Financial Management: Further Actions Needed to Achieve Asset Accountability

Published by the Government Accountability Office on 1999-07-30.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                  United States General Accounting Office

GAO               Report to the Chairman, Committee on
                  the Budget, House of Representatives



July 1999
                  FAA FINANCIAL
                  MANAGEMENT

                  Further Actions
                  Needed to Achieve
                  Asset Accountability




GAO/AIMD-99-212
United States General Accounting Office                                             Accounting and Information
Washington, D.C. 20548                                                                   Management Division



                                    B-282977                                                                 Letter

                                    July 30, 1999

                                    The Honorable John R. Kasich
                                    Chairman, Committee on the Budget
                                    House of Representatives

                                    Dear Mr. Chairman:

                                    In January 1999, we designated the Federal Aviation Administration’s (FAA)
                                    financial management as a high-risk area because of serious and
                                    long-standing accounting and financial reporting weaknesses. These
                                    weaknesses render FAA vulnerable to waste, fraud, and abuse; undermine
                                    its ability to manage operations; and limit the reliability of financial
                                    information provided to the Congress. These weaknesses included an
                                    inability to determine the accuracy of certain amounts reported in FAA’s
                                    fiscal year 1998 financial statements, including $11.9 billion in major assets
                                    and $9 billion of program costs.

                                    This letter responds to your request that we provide an assessment of FAA’s
                                    property, plant and equipment (PP&E) and inventory asset accountability
                                    problems, which were major factors in our designation of FAA financial
                                    management as a high-risk area. Specifically, you asked us to determine
                                    (1) the key issues FAA must resolve in order to achieve accountability over
                                    its PP&E and inventory and (2) whether FAA is taking appropriate actions
                                    to resolve these issues in a timely manner.



Results in Brief                    FAA’s lack of accountability for PP&E and inventory generally stems from

                                    • an historical lack of attention to basic recordkeeping,
                                    • the continuing use of outdated systems that were not designed for
                                      financial management, and
                                    • poor systems of internal controls to prevent and detect errors in
                                      accounting for these assets.

                                    In order to address these issues for PP&E, FAA needs to determine what
                                    assets it has and then reconstruct its records to establish an historical cost
                                    baseline for those assets. Next it needs to establish adequate systems and
                                    controls to account for the assets on an ongoing basis.




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        With regard to inventory, FAA has made improvements in its Logistics
        Center (warehouse) inventory accounting, but still needs to strengthen its
        procedures and controls. It has made less progress with its field spares
        (spare parts) inventory. An accurate baseline of inventory quantities and
        costs needs to be established for field spares, and new procedures and
        controls implemented in order to maintain accountability on an on-going
        basis.

        FAA has taken several actions that are likely to lead to or already have
        resulted in improved accountability. However, as discussed below, major
        issues remain unresolved.

        During fiscal year 1999, FAA undertook an extensive effort to identify and
        record the baseline cost of unrecorded PP&E assets and to adjust its
        detailed records. This effort is still in process. Also, in fiscal year 1999,
        FAA began to comprehensively address its systems needs; however, it does
        not expect full implementation of these new systems until 2001. Without
        systems capable of maintaining PP&E accountability on an ongoing basis,
        accounting for the acquisition of these assets will continue to require
        costly, time-consuming manual processes. Because these manual
        processes are inherently prone to error, strong internal controls are needed
        to ensure accurate accounting. While some improvements have been
        made, FAA has not implemented such a system of controls. The accuracy
        of FAA’s reported PP&E assets will remain uncertain until FAA establishes
        baseline costs for previously acquired PP&E and establishes effective
        systems and controls to properly account for ongoing PP&E activity.

        As of September 30, 1997, FAA had completed a comprehensive physical
        inventory of its Logistics Center’s operating materials and supplies, and
        established a baseline of the inventory quantities. In addition, as of
        September 30, 1998, we had assessed the system used to track Logistics
        Center inventory quantities on an ongoing basis and determined that it was
        generally reliable. A 1998 test of inventory quantities confirmed the results
        of this assessment.

        However, an accurate baseline of FAA’s field spares inventory has not been
        established through a comprehensive physical count that has been verified
        by independent audit testing. Although procedures to improve
        accountability for field spares inventory have been established, they have
        not been fully implemented. Until an accurate comprehensive physical
        inventory of field spares is taken and verified and effective inventory




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             accountability procedures and controls are implemented, the reliability of
             FAA’s field spares inventory quantities will be uncertain.

             Overall, FAA’s lack of management and accountability over physical assets
             means that these assets continue to be exposed to waste, fraud, abuse, and
             mismanagement. It also means that the Congress has no assurance that it
             has accurate financial management information to help make informed
             decisions about future funding and oversight of FAA activities. The lack of
             accountability is of particular concern in light of the billions of dollars of
             taxpayer funds being spent to acquire assets in connection with the
             $42 billion air traffic control (ATC) modernization program.

             We make several recommendations regarding FAA’s need to

             • establish accountability for billions of dollars expended for PP&E in the
               past and institute upgraded systems, procedures, and controls to ensure
               that accountability is maintained on an ongoing basis and
             • complete improvements over its inventory accountability, particularly
               those related to field spares.

             FAA officials generally concurred with our findings and conclusions. They
             did not concur with two of our seven recommendations. As discussed in
             the “Agency Comments and Our Evaluation” section of this report, we
             believe that our recommendations are valid.



Background   FAA's primary mission is to promote safe, orderly, and efficient air travel
             throughout the United States. Among other activities, FAA is responsible
             for the operation of the nation’s air traffic control system. To fulfill its
             mission, FAA depends on the adequacy and reliability of the ATC system, a
             vast network of computer hardware, software, and communications
             equipment and related inventory.

             Sustained growth in air traffic and aging equipment has strained the ATC
             system, limiting the efficiency of ATC operations. To combat these trends,
             in 1981 FAA embarked on its multibillion-dollar, mission-critical Capital
             Investment Plan (CIP) aimed at modernizing its aging ATC infrastructure.
             FAA’s modernization program currently consists of over 200 separate
             projects estimated to cost over $42 billion during the 23-year period
             through fiscal year 2004. It includes acquisition of new radar and




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automated data processing, navigation, and communications equipment as
well as computer software, facilities, and support equipment.1

During fiscal years 1982 through 1998, FAA reported that it had obligated
approximately $26 billion on its ATC modernization programs. As of
September 30, 1998, the agency had reported less than $12 billion in gross
PP&E in its fiscal year 1998 financial statements, including $7.4 billion of
property and equipment (such as land, buildings, and air traffic control
equipment) and $4.5 billion of work-in-process (which consists of facilities
and equipment acquired but not commissioned). While some of these costs
were appropriately expensed, OIG audits have shown that a significant
amount of costs was improperly excluded from the PP&E asset total
reported by FAA. In addition, $820 million of spare parts inventory was
reported in the financial statements.

 The modernization costs that have gone towards the acquisition of
significant amounts of PP&E and spare parts inventory are to be recorded
as assets because of the long-term benefits they are expected to provide.
FAA is accountable for these assets from the time they are acquired until
their ultimate disposition. It is important to keep adequate records of
assets that are acquired for two primary reasons. First, detailed asset
records are necessary to help provide for their physical accountability.
Second, the cost of these assets is charged to operating expenses over the
time that they provide services- -PP&E through depreciation after it is
placed in service and inventory when it is consumed. 2 The matching of
costs to the time periods when services are actually provided is an
important part of measuring the cost of operations on an ongoing basis.
For example, costs incurred this year for a new radar system that will be in
use for 10 years should not be charged to a current year expense account.
That would distort current year information about the cost of FAA
operations. Rather, the cost should be charged to an asset account and,
when the asset is placed in service, its cost would then be spread over the
future periods that it provides service benefits. Conversely, costs incurred
in the current year that only have a benefit to the current year should be
charged to a current year expense account. For example, administrative
salary costs are charged to operating expense when incurred.


1
 See Air Traffic Control: Status of FAA’s Modernization Program (GAO/RCED-99-25, December 3, 1998)
for details about the program and its status.
2
 Depreciation is the process used to spread the cost of PP&E over the time that the asset services are
provided.




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                                            Proper asset accountability requires that detailed records of the full cost of
                                            assets acquired be maintained, and that these assets be properly reported
                                            in the agencies’ financial management records and financial reports.3 The
                                            full cost of assets includes all direct and indirect costs required to acquire
                                            the asset and to place it in service. In the case of FAA, the full cost of many
                                            projects includes such direct costs as contractor hardware and software,
                                            installation costs, FAA direct labor costs, as well as FAA indirect labor and
                                            related overhead. Since many FAA expenditures for modernization project
                                            assets are incurred before the assets are placed in service, these costs
                                            should be “captured” in temporary accounts, called “work-in-process”
                                            (WIP) accounts. When assets are placed in service, a process that FAA
                                            calls “commissioning,” the related costs should be removed from the WIP
                                            accounts and placed either in a PP&E account (such as personal property),
                                            or in an inventory account.

                                            The flow of costs in such circumstances is depicted in figure 1.


Figure 1: Flow of Project Costs


                                                                                    Assets placed               Expense
        Costs incurred            Costs accumulated                                   in service                accounts
                                                                                          PP&E                 Depreciation
       Contract costs    For asset                             When                   detailed records          expense
                                           Work in
        FAA labor        acquisition              a         commissioned
                                          process
       FAA overhead
        Other costs                                                                     Inventory              Inventory
                                                                                      detailed records         consumed

                           Not for                                                                              Operating
                      asset acquisition                                                                         expense


                                            a
                                                Some acquired assets that are immediately placed in service do not need to flow through WIP.




                                            3
                                             These requirements permit assets that have a cost below a defined materiality threshold to be charged
                                            to expense accounts and not be recorded as an asset. This reduces the costs of recordkeeping.




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Objectives, Scope, and   Our objectives were to determine (1) the key issues FAA must resolve in
                         order to achieve accountability over its PP&E and inventory and
Methodology              (2) whether FAA is taking appropriate actions to resolve these issues in a
                         timely manner.

                         To fulfill our objectives, we interviewed relevant FAA staff and reviewed
                         and analyzed FAA reports and records concerning PP&E and inventory. We
                         attended monthly meetings to monitor the status of FAA’s efforts to correct
                         identified PP&E financial management deficiencies. We also obtained and
                         reviewed information from the FAA Office of the Chief Financial Officer
                         (OCFO) about the current status of corrective actions on PP&E and
                         inventory.

                         We reviewed OIG program reports on PP&E and inventory, as well as
                         financial statement audit reports for fiscal years 1992 through 1998. We also
                         reviewed selected OIG workpapers related to the fiscal year 1998 audit,
                         including the results of various test counts. In order to help facilitate the
                         fiscal year 1998 FAA financial statement audit, we conducted, with OIG
                         assistance, an audit of inventory quantities at the Logistics Center in
                         Oklahoma City, Oklahoma. To accomplish this, we selected a statistical
                         sample of items recorded in the inventory database and performed test
                         counts at the Logistics Center.4 However, we did not address valuation of
                         inventory. We also visited FAA field sites in connection with the OIG’s audit
                         work for PP&E and inventory to better understand the OIG’s audit
                         procedures and their results.

                         We conducted our work primarily in Washington, D.C., and at the OIG
                         office in Baltimore, Maryland, and also obtained information through field
                         visits to Chicago, Atlanta, New York, Atlantic City, and Oklahoma City. We
                         performed our work from July 1998 through June 1999 in accordance with
                         generally accepted government auditing standards.

                         We requested comments on a draft of this report from the Secretary of
                         Transportation, or his designee. On July 6, 1999, FAA officials provided us
                         with oral comments, which are summarized in the “Agency Comments and
                         Our Evaluation” section of this report.



                         4
                         Physical counts and evaluation of count results of inventory and related assets were performed from
                         August 1998 through January 1999 at FAA's Mike Monroney Aeronautical Center in Oklahoma City,
                         Oklahoma.




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FAA Lacks             Starting with the first audit of FAA’s financial statements for fiscal year
                      1992 and continuing through the fiscal year 1998 audit, the OIG has
Accountability for    reported that FAA has not been able to provide the basic records necessary
Billions of Dollars   to demonstrate accountability for assets totaling billions of dollars that it
                      has acquired.5 During these audits, the OIG found that FAA had improperly
Invested in PP&E      charged billions of dollars of capitalizable costs to expense accounts
                      instead of to asset accounts. Under the system that FAA had in place, this
                      meant that there were no detailed records of these assets, which resulted in
                      incomplete asset accountability. In many cases, FAA was also unable to
                      provide the OIG supporting documents necessary to verify the valuation of
                      assets that were recorded.6 Finally, the OIG reported that FAA continued to
                      include assets that had been placed in service as work-in-process. From a
                      financial accounting and reporting perspective, these problems in
                      aggregate would have understated assets on the balance sheet and
                      overstated expenses, thus distorting FAA’s reported operating results.

                      Early in fiscal year 1999, FAA started an extensive effort to reconstruct the
                      detailed records necessary to support prior PP&E costs that should have
                      been reported as assets on its financial statements. With a significant effort
                      and commitment of resources, real progress has been made for the first
                      time. However, FAA lacks the necessary systems, procedures, and controls
                      to properly account for the full cost of additional assets as they are
                      acquired on an ongoing basis. FAA began to comprehensively address its
                      systems needs in early 1999; however, complete systems improvements are
                      not expected until 2001. Thus, absent strong controls over manual efforts
                      to maintain these records on a current basis, these PP&E accountability
                      deficiencies limit FAA’s ability to prepare reliable, auditable financial
                      statements; expose it to waste, fraud, and abuse; and may prevent it from
                      being able to accurately determine the cost of its operations.




                      5
                       The OIG undertook audits of FAA’s financial statements starting in 1992. As required by the Chief
                      Financial Officers Act of 1990, the initial financial statements audited by the OIG were limited to certain
                      trust and revolving funds. In subsequent years, as the financial activities subject to audit became more
                      comprehensive, the scope of the OIG’s audits increased. By 1994, the financial statements subject to
                      audit covered all FAA’s activities.
                      6
                        According to FAA officials, in the past the Department of Transportation did not have a centralized
                      policy for retaining asset documentation. In December 1998, FAA established a policy to retain asset
                      documentation as long as the asset is in service.




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Basic Accountability       The OIG has reported that billions of dollars of FAA’s modernization
Records for PP&E Costs     program capital costs have been improperly charged to expense accounts
                           instead of being recorded as assets and that FAA’s historical records
Have Not Been Maintained   necessary to support and permit the verification of PP&E balances have
                           been incomplete and inaccurate. Some examples of these problems follow:

                           • In its report on FAA’s fiscal year 1998 financial statements, the OIG
                             stated that FAA’s personal property reported at $4.1 billion was
                             understated by at least $1 billion due to FAA’s long-standing practice of
                             expensing rather than capitalizing material portions of major equipment
                             systems. For example, voice switching control systems installed at
                             23 locations were recorded at a total cost of $234 million, instead of the
                             actual cost of $1.1 billion.
                           • During its test of FAA’s fiscal year 1998 work-in-process account
                             reported at $2.1 billion, the OIG stated that it was unable to trace
                             recorded amounts to invoices or other supporting documentation on
                             34 percent of the 185 projects selected for testing because it was unable
                             to obtain transaction summaries for those projects. Transaction
                             summaries provide the link between amounts recorded in FAA’s records
                             and underlying supporting documentation. For example, FAA recorded
                             costs of $1.2 million for a flight service station during fiscal year 1998,
                             but could only provide transaction summaries for costs of $123,000,
                             leaving $1.1 million unsupported.
                           • During its test of FAA’s fiscal year 1998 real property reported at
                             $2.5 billion, the OIG tested a sample of 117 items with a recorded value
                             of $790 million and determined that the cost for 34 of the sample items,
                             recorded at $141 million, could not be supported. For example, for a
                             power system installed in 1992, FAA was able to provide contracts,
                             purchase orders, payment records, and other support for only
                             $3.6 million of the recorded $20 million cost.
                           • During its fiscal year 1998 test of real property, the OIG concluded that
                             four items valued at $50 million should be removed from the property
                             records because they no longer existed. For example, the property
                             records continued to include a building recorded at $1 million that had
                             been demolished over 10 years earlier.

                           In addition to these weaknesses, FAA does not move project costs from its
                           work-in-process account to appropriate asset accounts in a timely manner.
                           The OIG identified and reported that costs were not being transferred from
                           the WIP account to other appropriate accounts in its report on FAA’s fiscal
                           year 1993 financial statements. In its report on FAA’s fiscal year 1998
                           financial statements, the OIG reported that FAA had estimated that



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                           approximately $1.3 billion in completed projects were improperly retained
                           in the WIP account rather than being transferred to the appropriate real or
                           personal property accounts. For example, FAA completed construction of
                           an air navigation facility in 1995 at a cost of $746,000. As of December 31,
                           1998, the facility remained in the WIP account. In addition, since these
                           assets were not moved to the appropriate accounts, depreciation expense
                           was not calculated. The OIG estimated that unrecorded depreciation
                           expense related to these projects amounted to at least $62 million.

                           FAA’s lack of basic accountability over PP&E is the result of numerous
                           factors, including the lack of financial accounting oriented systems,
                           inadequate or outdated policies and procedures, inconsistent
                           implementation of existing policies and procedures, and the low priority
                           placed on maintaining adequate records.

                           The lack of accurate PP&E information:

                           • Limits FAA’s ability to accurately determine its costs, an essential
                             requirement if FAA moves to funding its operations through the use of
                             cost-based user fees. For example, when PP&E costs are improperly
                             charged to expense accounts, operating costs for that year and future
                             years are distorted.
                           • Impedes proper management of these assets and gives rise to possible
                             operational inefficiencies. For example, the ability to plan for
                             long-range facilities needs may be impaired.
                           • May impair the ability of managers to provide appropriate stewardship
                             over FAA assets. For example, asset theft could go undetected and
                             funds could be spent unnecessarily to acquire equipment that is already
                             on hand.
                           • Impairs FAA’s ability to properly maintain these assets, including
                             estimating future maintenance and deferred maintenance funding
                             needs.


FAA Lacks Systems and      While FAA is making a concerted effort to properly account for prior PP&E
Controls to Account for    costs, existing FAA systems and controls are not adequate to account for
                           PP&E in an efficient and effective manner on an ongoing basis. As a result,
PP&E on an Ongoing Basis   FAA faces the prospect of a continuing need to manually adjust its records
                           for ongoing costs until its systems and controls are upgraded to account for
                           PP&E automatically. Among other capabilities, effective and efficient
                           PP&E systems provide an automated means to capture the full cost of
                           PP&E when incurred, transfer data among integrated systems components



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                                        with minimal manual processes, record complete PP&E information, and
                                        calculate depreciation. FAA’s current systems and controls do not meet
                                        these needs in a number of respects.

                                        FAA’s practices and identified weaknesses in those practices are depicted
                                        in figure 2.


Figure 2: Weaknesses in FAA’s PP&E Systems


                                                                                    Systems placed
   Costs incurred               Costs recorded                                        in service
                              PP&E costs improperly expensed
                                                                              Expenses identified
                                                                                                                  Expenses
                 Contract costs                               a                      PP&E
  Cost                                               DAFIS
                   FAA labor                                                        Records
  flows          FAA overhead
                                                 WIP Module
                  Other costs

  Weak-           • Full costs not captured       • WIP lacks adequate          • Manual processes           • Includes PP&E
  nesses          • Some PP&E expensed            detail                        required to sort out         costs improperly
                                                  • WIP includes some           PP&E                         expensed
                                                  expenses                      • Significant PP&E
                                                                                cost omitted


                                        a
                                            Department Accounting and Financial Information System.


                                        First, FAA’s systems do not capture the full cost of PP&E. Full costs means
                                        all costs, including internal labor and overhead, necessary to acquire and
                                        place property in service. Such costs are typically identified and recorded
                                        through a cost accounting system. We have reported the lack of an
                                        adequate FAA cost accounting system as a weakness that prevents FAA
                                        from reliably determining full project and other costs.7 This can result in a



                                        7
                                         Air Traffic Control: Improved Cost Information Needed to Make Billion Dollar Modernization
                                        Investment Decisions (GAO/AIMD-97-20, January 22, 1997).




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lack of reliable project cost information, which is needed to accurately
estimate future project costs and to make sound investment decisions. In
addition, this can result in the misstatement of PP&E assets and related
depreciation expense, as well as the misstatement of overall expenses.

Another issue is that FAA’s PP&E systems do not capture identifiable PP&E
costs as they are incurred. For example, when contractor CIP invoices are
paid, the invoice amounts are recorded in a subsidiary module of FAA’s
Department Accounting and Financial Information System (DAFIS) general
ledger accounting system. This subsidiary module constitutes the details
for the WIP account. In some cases, individual decisions are necessary to
determine which costs should be recorded in the subsidiary module, and to
what specific job order number. Job order numbers are used to
differentiate individual systems projects in the WIP account. This manual
process is imprecise, resulting in some valid CIP costs being omitted, some
invalid CIP costs being included, and costs being assigned to incorrect job
orders.

In addition, at the time costs are initially recorded, they are not identified
or identifiable as PP&E costs. Rather, they are identified as CIP costs
related to a specific CIP project. However, contractor CIP costs may
include PP&E costs, spare parts inventory costs, or costs that are
appropriately classified as expenses. Later, when the specific project is
completed and commissioned, FAA must perform a tedious manual
analysis of documentation related to each of the costs included in the
details of the WIP job orders to determine how much should be recorded in
the PP&E, spare parts inventory, and expense accounts.

A third systems issue is that FAA is unable to transfer cost and other
information to and among systems components in an efficient manner. For
example, when the manual review and classification of costs charged to
WIP job orders is complete, accounting entries must be manually prepared
to remove the costs from the WIP account and to record them in other
appropriate accounts. In addition, manual entries must be prepared and
input to the property system to add individual PP&E items to the detailed
property records. Each of these manual entries and processes is
time-consuming and, if adequate controls are not in place, may introduce
errors into the detailed records.

Furthermore, FAA property systems are unable to calculate depreciation
for property because the detailed property record systems do not have this
capability. Rather, in order to calculate depreciation, information about the



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                            cost and acquisition date of individual property records must be
                            downloaded into a spreadsheet database to perform the depreciation
                            calculation. The results of the calculation must then be manually input to
                            the DAFIS general ledger system in order to record the amount of
                            depreciation expense for the year.

                            The lack of adequate integrated systems to account for PP&E costs has
                            resulted in the need for FAA to undertake a time-consuming reconstruction
                            of its PP&E accounting records, as discussed below. The chronic lack of
                            effective systems capabilities results in a continuing need to perform
                            manual processes to provide sufficient accountability. Due to the number
                            of manual processes and decisions required, such accountability can be
                            achieved only if strong controls are in place to prevent and detect errors.
                            Based on the poor condition of FAA’s PP&E records, it is evident that such
                            controls have not existed in the past.

                            The conditions described above result from the adaptation of systems,
                            which were acquired for a specific purpose, to satisfy other purposes for
                            which they were not designed. For example, the DAFIS general ledger
                            system, which was created for the Department of Transportation (DOT) in
                            1976, was designed to account for FAA financial activities from a budgetary
                            perspective. As a result, many of the accounting needs of a financial
                            statement accounting system were not and continue not to be available in
                            the system that FAA uses.

                            Until FAA acquires adequate and integrated accounting systems’
                            capabilities, its ability to account for PP&E as well as other costs on an
                            on-going basis will be severely limited. The lack of systems integration and
                            the ability to appropriately accumulate and transfer data among systems
                            components will continue to require time-consuming and error-prone
                            manual processes. If these manual processes do not have the proper
                            controls to prevent and detect errors, FAA will continue to lack assurance
                            that it has accountability over PP&E.


FAA Has Initiated an        On September 30, 1998, the Secretary of Transportation submitted a plan to
Extensive Effort to         the Office of Management and Budget for resolving major material findings
                            and management deficiencies in the FAA financial statement audits. In
Establish Historical PP&E   December 1998, the FAA Administrator approved the formation of an Audit
Costs                       Correction Program to resolve audit concerns identified by the OIG and to
                            put in place improved systems and processes to prevent these issues from
                            recurring. The Audit Correction Program included the formation of three



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teams to address WIP, real property, and personal property issues. As
described by FAA, these teams are primarily focused on regaining
accountability over PP&E by establishing baseline costs for existing assets.
FAA expects that the work of the three teams will conclude in fiscal year
1999, and described the effort as “pivotal to accomplishing an unqualified
audit opinion for FY 1999.”

FAA’s strategy for implementing the secretary’s plan is to perform a
top-down analysis of the $25.7 billion of CIP appropriations for fiscal years
1982 through 1998 to determine what costs FAA should record in its asset
accounts and in what asset categories as compared to the approximately
$12 billion currently reflected on the books. As FAA completes segments
of its work, an OIG audit verification of the results is performed. Initially
FAA classified the $25.7 billion of appropriated CIP costs into major
categories by project type as shown in table 1.



Table 1: FAA Classification of Appropriated CIP Costs

Dollars in billions


Capital systems projects                                                                        $11.4
Terminated projects                                                                                2.5
Real property                                                                                      5.0
Other                                                                                              6.8
Total                                                                                           $25.7
Note: Other includes projects that have not been placed in service ($2.1 billion); expensed projects
($3.7 billion); and fully depreciated projects ($0.9 billion).


The FAA cost classification process results are also subject to OIG
verification.

FAA initially selected 44 systems from the capital systems projects
category with reported costs totaling $10.31 billion as of June 30, 1999, for
which detailed supporting documentation packages will be prepared to
establish baseline costs. Generally, these 44 systems were chosen because
they represent the higher cost systems. This initial selection came from a
population of 123 systems for which $11.4 billion was appropriated.

As of June 30, 1999, FAA had completed detailed documentation packages
for the 44 systems initially identified for review. The OIG reviewed and
analyzed 32 of these packages and, in the process, identified at least



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                             $4.5 billion of additional costs, the majority of which should be included in
                             the PP&E accounts.8 This amount may increase depending upon the
                             outcome of a number of unresolved questions related to those 32 packages.
                             As the verification of the initial 44 systems is completed, and as unresolved
                             questions are answered, FAA will determine, in consultation with the OIG,
                             the nature and extent of additional work that may be required to identify
                             additional unrecorded assets. Once FAA has successfully completed its
                             reviews and the OIG has validated them, FAA will have a reasonable
                             beginning baseline for its PP&E costs.

                             Starting in June 1999, the OIG began visiting selected field sites to verify
                             real property, using a variety of means, including cost per square foot
                             models.


FAA Has Only Just Begun to   As previously discussed, FAA’s ability to maintain accountability over its
Comprehensively Address      PP&E on an ongoing basis hinges on implementing systems that can
                             efficiently and effectively account for these assets. However, FAA has only
its Systems Issues           recently developed a plan to address this issue comprehensively.

                             As a part of the Audit Correction Program described above, on May 20,
                             1999, FAA issued its Clean Audit Program Process Improvement Plan. The
                             plan responded to a request from FAA senior management to begin
                             working on modifying FAA’s practices to ensure that progress achieved by
                             the Audit Correction Program can be sustained over the long term.
                             Basically, the plan is divided into three separate sets of activities termed
                             “tiers” by FAA.

                             Tier 1 includes making minor systems enhancements during fiscal year
                             1999 to help achieve immediate improvements in FAA’s recordkeeping. Tier
                             2 consists of revisions during fiscal year 2000 in organizational
                             responsibilities related to work-in-process and the implementation of
                             additional minor systems enhancements. Both tiers 1 and 2 are interim
                             actions to strengthen FAA’s systems and processes until existing systems
                             are replaced. However, FAA has not yet comprehensively reviewed




                             8
                              According to FAA officials, based on their analysis, eventual adjustments to the PP&E amount reported
                             in the FAA financial statements will be significantly less than the $4.5 billion because some of these
                             costs have already been recorded as assets.




                             Page 14                                           GAO/AIMD-99-212 FAA Financial Management
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internal controls to ensure that all existing systems weaknesses are
identified and corrected. 9

Tier 3 includes longer-term systems changes related to the following two
systems initiatives:

• DOT is replacing its DAFIS general ledger system with a commercial
  based system, which it has enhanced and refers to as DELPHI.
• FAA is defining its needs for a system that will account for PP&E once it
  has been placed in service.10 FAA describes this system as an “in
  service” system.

FAA describes the planned DOT-wide DELPHI system as an integrated
suite of financial software. FAA has stated that the implementation of this
system will, if properly configured and utilized, eliminate many of the
processing issues presently constraining the identification, classification,
processing, and accumulation of FAA’s PP&E costs. DELPHI has a June
2001 target date for implementation at FAA.

According to FAA, the planned in-service system provides for all financial
accounting requirements for PP&E that has been placed in service and
includes interfaces to the DELPHI system for tracking the costs of projects
under development. This system has a planned implementation date of
September 30, 2001.

An overview of FAA’s planned systems functions is shown in figure 3.




9
 According to FAA officials, in the last 2 years, significant improvements have been made to the internal
controls over recording of PP&E . For instance, a system for monitoring the WIP backlog has been
instituted to prevent backlogs from occurring. This is accomplished through matching commissioning
dates from a separate system with the WIP report and identifying the backlog at 6 months past
commissioning. While these improvements are positive steps, they are not comprehensive and neither
we nor the OIG have verified them.
10
   In this regard, the Institute of Electrical and Electronic Engineers (IEEE) has developed a nine step
process for acquiring software as described in its IEEE Recommended Practices for Software
Acquisition, IEEE Std 1062, 1998. The nine steps start with planning an organizational strategy to define
organizational objectives and a software strategy in step 1, through conducting a follow-up analysis of
the process used to acquire the software and lessons learned in step nine.




Page 15                                            GAO/AIMD-99-212 FAA Financial Management
                                          B-282977




Figure 3: FAA Planned Systems Functions



                                      DELPHI
    Contract costs                                                         Work in
                                                                                                        In service
      FAA labor                                                            process
                                                                                                          PP&E
    FAA overhead                                                            (WIP)
     Other costs                       Cost
                                    accounting


         Cost                     • Costs classified,                • Costs recorded in             • Detailed
        flows                     assigned, and                      WIP                             property records
                                  processed




                                          In addition to these recent initiatives, FAA is developing a cost accounting
                                          system. The inadequacy of FAA’s cost accounting system has been
                                          identified by GAO, 11 the OIG, and others as a weakness that prevents the
                                          agency from having reliable and timely information about the full cost of
                                          projects and program activities. The objective of a cost accounting system
                                          is to accurately assign basic financial cost data, such as contractor costs
                                          and agency direct labor and overhead costs, to individual project and
                                          program activities. Although FAA originally expected a cost accounting
                                          system to be fully implemented by October 1, 1998, this objective was not
                                          met. It subsequently revised this goal to implementation of a partially
                                          operational system by December 31, 1998, and a fully operational system by
                                          March 31, 1999. FAA now projects full implementation of its cost
                                          accounting system by March 31, 2001.12




                                          11
                                           Air Traffic Control: Improved Cost Information Needed to Make Billion Dollar Modernization
                                          Investment Decisions (GAO/AIMD-97-20, January 22, 1997).
                                          12
                                           Statement of Federal Financial Accounting Standards No. 4, Managerial Cost Accounting Standards
                                          (SFFAS No. 4), effective in fiscal year 1998, requires agencies to accumulate and report the full costs of
                                          their activities. FAA officials told us that the cost accounting system they are implementing goes well
                                          beyond the requirements of SFFAS No. 4 and that they believe they will be in compliance with SFFAS
                                          No. 4 for fiscal year 1999.




                                          Page 16                                             GAO/AIMD-99-212 FAA Financial Management
                      B-282977




Inventory             FAA maintains its inventory at its Logistics Center, the central warehouse
                      for operating materials and supplies, and at approximately 34,000 field
Accountability Has    spares locations.13 Inventory accountability has improved at the Logistics
Improved, but Field   Center, and, as of September 30, 1998, inventory quantities were reasonably
                      stated in the accounting records.14 Also, Logistics Center inventory system
Spares Accuracy       controls provide a reasonable basis for the ongoing tracking and
Remains Uncertain     controlling of inventory.15 Although we found some weaknesses in data
                      entry, receipts and issuances, and other processing-type procedures at the
                      Logistics Center, these weaknesses did not significantly impact overall
                      accountability.

                      The accuracy of FAA’s accounting for field spares quantities, however,
                      remains uncertain because an accurate baseline has not been established.
                      Field spares are mission-critical parts that support the National Airspace
                      System (NAS)16 and are maintained at locations near the facilities they
                      support. Although FAA is acting to improve field spares inventory
                      accountability, until these action plans are fully implemented, FAA has no
                      assurance that it is accurately accounting for field spares.



Logistics Center      Beginning with the OIG’s audit of FAA’s financial statements for fiscal year
Accountability Has    1992, the OIG could not validate the Logistics Center inventory quantity
                      balances because of the lack of accurate records and documentation. This
Improved              problem continued through fiscal year 1996 because of limited Logistics
                      Center inventory counts by FAA. In fiscal year 1996, the OIG could not
                      verify the FAA inventory balance because of numerous errors and
                      omissions in the inventory records. In fiscal year 1997, FAA conducted,
                      and the OIG tested, a comprehensive wall-to-wall count of Logistics Center
                      inventory and made necessary adjustments to correct its inventory records.




                      13
                       Some of the 34,000 locations may be in the same geographic location and even in the same building.
                      14
                        The OIG tested inventory values as of March 31, 1998, and needed adjustments were made as
                      identified. Neither the OIG nor we validated the reported inventory values as of September 30, 1998.
                      15
                         The Logistics Center inventory system is designed to operate as a perpetual inventory system and
                      updates inventory quantities at various points in time. Among other capabilities, it tracks receipts,
                      issuances, adjustments, and locations of inventory.
                      16
                         The National Airspace System is the FAA system that provides for the safe, orderly, and expeditious
                      flow of air traffic in the United States. NAS’s principal component is the nation’s air traffic control
                      system.




                      Page 17                                            GAO/AIMD-99-212 FAA Financial Management
                              B-282977




                              In fiscal year 1998, GAO, with OIG assistance, performed test counts of
                              inventory quantities at the Logistics Center. Based on the results of our
                              tests, we concluded that the Logistics Center inventory quantities were
                              materially correct as of September 30, 1998, and the system for tracking
                              quantities was generally reliable. However, we identified minor differences
                              in quantities caused by factors such as data entry errors, untimely
                              processing of recording receipts and issuances, commingling of similar
                              items, and prior erroneous inventory adjustments. Cumulatively, these
                              differences, when statistically projected, did not result in material
                              variances in recorded inventory quantity balances. While these differences
                              were not material to inventory balances at the time of our review, the
                              weaknesses that caused these differences could lead to significant
                              problems in inventory balances in the future if not addressed by FAA
                              management.


Accurate Baseline for Field   Until fiscal year 1997, FAA recorded the cost of field spares as expenses in
Spares Has Not Been           its financial statements regardless of whether they had been used or
                              remained available in inventory for use in future years. In fiscal year 1997,
Established                   FAA first reported field spares inventory as an asset. However, the amount
                              was estimated because a comprehensive physical inventory count had not
                              been performed, even though FAA’s policy, contained in order 4250.9B,
                              “Field Material Management and Control,” dated January 24, 1992,
                              mandates a 100-percent annual count of field spares. According to FAA, it
                              completed a full field spares physical inventory in fiscal year 1998;
                              however, as discussed below, our review of the results of the OIG tests
                              shows that the accuracy of field spares records remains in question.

                              As of September 30, 1998, the reported value of field spares inventory was
                              $338 million. Figure 4 shows the reported amount of field spares in each
                              FAA region and center.




                              Page 18                              GAO/AIMD-99-212 FAA Financial Management
                                           B-282977




Figure 4: Reported Value of Field Spares in FAA Regions and Centers




                      Northwest Mountain
                      Region                                                                             Eastern
                      $34 million                        Great Lakes                                                        New England
                                                                                                         Region
                                                         Region                                                             Region
                                                                                                         $44 million
                                                         $46 million                                                        $19 million


                                                                                                                         William J. Hughes
                                                                                                                         Technical Center
              Western                                                                                                    $7 million
                                                                Central
              Pacific                                           Region
              Region                                            $23 million
              $38 million



                                                              FAA Aeronautical
                                                              Center
                                                              $9 million
                                                                                              Southern
                                                                                              Region
                                                                                              $62 million
                                                         Southwest
                                                         Region
                                                         $49 million

                            Alaska
                            Region
                            $7 million


                                                                       • 9 regions and 2 centers

                                                                       • Over 800 sites

                                                                       • Over 34,000 storage locations

                                                                       • 185,000 units totalling $338 million




                                           Source: FAA


                                           FAA tracks field spares through an automated Field Spares Inventory
                                           system (FSI). This system is maintained by about 1,000 FAA personnel
                                           who are individually responsible for managing field spares at each of
                                           34,000 different locations, but whose primary responsibility is to keep the
                                           NAS systems operational.

                                           Based on our analysis of the OIG’s workpapers related to its testing of
                                           FAA’s fiscal year 1998 field spares inventory count, we were unable to
                                           satisfy ourselves about the accuracy of the field spares inventory



                                           Page 19                                                 GAO/AIMD-99-212 FAA Financial Management
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quantities. In its review of the fiscal year 1998 field spares physical
inventory, the OIG tested data for 14 sites with a recorded value of
$14 million. The sites were judgmentally selected based in part on
locations where the OIG expected there might be problems. The OIG
found numerous errors in inventory recordkeeping and a lack of physical
controls over inventory on hand for 9 of the 14 sites. Some examples
follow:

• At one site, FAA had not recorded $106,000 of communication
  equipment spares for newly commissioned systems.
• At another site, 11 items valued at over $39,000 that support new
  systems were not included in the records, while 21 items valued at about
  $67,000 could not be located.
• At a third site, numerous errors resulting from inaccurate or incomplete
  record keeping totaled $380,000. These included items related to newly
  commissioned systems, decommissioned systems, and other items that
  had not been recorded.

OIG workpapers stated that the field spares quantity errors identified by
the OIG staff were subsequently corrected in the FSI. However, these
errors were identified in a test of only 14 of 834 sites. In addition, while the
OIG report referred to internal FAA analyses that suggested accountability
issues for a number of other sites, quantifiable information does not exist
to determine the extent or severity of the problems for the other 820 sites.

According to an FAA commissioned fiscal year 1998 study of NAS Field
Spares Inventory,17 several factors could have affected the accuracy of field
spares records. First, prior to 1998, the field spares program lacked
procedures for

• updating the field spares inventory system for adding field spares to the
  inventory records when systems are commissioned,
• deleting field spares from inventory records when systems are
  decommissioned, and
• taking field spares physical inventories.




17
  “Federal Aviation Administration FY 98 Study of NAS Field Spares Inventory, Report of the Field
Spares Environment” prepared by DOT Research & Special Programs Administration, Volpe National
Transportation Systems Center and Coopers & Lybrand L.L.P., dated June 5, 1998.




Page 20                                         GAO/AIMD-99-212 FAA Financial Management
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                            The FAA study provided procedures to perform the above functions.
                            However, according to OIG workpapers, when these procedures were
                            issued in 1998, they were not provided to all FAA staff responsible for
                            accounting for inventory transactions and physical inventories. As a result,
                            field spares records were not maintained consistently.

                            Second, the FAA study stated that FAA order 4250.9B stipulates that the
                            System Management Office (SMO) managers have property accountability
                            for field spares in a geographical area within a specific FAA region. The
                            order also provides that this responsibility can be delegated. However,
                            different interpretations of this responsibility by field personnel have
                            caused them to be uncertain as to who has ultimate responsibility for field
                            spares, including ensuring that inventory counts are complete, accurate,
                            and timely.

                            Third, the FAA study states that although limited training was provided,
                            additional training is needed on how to take physical inventory and how to
                            use the FSI module, which contains field spares quantity and location
                            information. OIG workpapers stated that testing of the fiscal year 1998
                            physical inventory process showed that lack of training continued to be a
                            problem contributing to field spares record errors.

                            The errors and lack of procedures noted above imply serious weaknesses
                            in physical controls and accountability over inventory and field spares.
                            These conditions increase the risk that theft18or loss could go undetected.
                            Also, inaccurate field spares information could result in unexpected
                            shortages of critical parts, or unnecessary ordering of parts already on
                            hand, thus requiring the use of additional funds to purchase unneeded
                            spares. The latter situation may lead to excess or obsolete stock requiring
                            storage, control, and other activities that consume operating resources.



Procedures Established to   FAA senior management has indicated that it recognizes the urgency of
Improve Inventory           correcting inventory accountability deficiencies. To address these
                            deficiencies, FAA has established procedures in its Inventory Integrity
Accountability, but Full    Guide and is in the process of implementing the procedures at the Logistics
Implementation Needed       Center. These procedures include performing periodic inventory counts to


                            18
                              According to FAA, in early 1998, a theft of aircraft parts was detected at the Logistics Center and is
                            currently under investigation. The value and extent of the missing inventory parts have not been
                            conclusively determined.




                            Page 21                                             GAO/AIMD-99-212 FAA Financial Management
              B-282977




              substantiate inventory balances on an ongoing basis. The Guide should
              also provide useful guidance to FAA staff in correcting the control
              weaknesses identified at the Logistics Center and improving accountability
              over operating materials and supplies. In addition, FAA personnel are
              developing a bar coding system to improve tracking of inventory from the
              time it arrives at the Logistics Center warehouse until it is issued. When
              implemented, this system should help improve controls over the inventory
              in the warehouse.

              For field spares, FAA has recently distributed new procedures for
              managing them. Among other topics, these procedures include guidance
              on

              • adding field spares to the automated inventory system when NAS
                systems are commissioned,
              • deleting field spares from the automated inventory system when NAS
                systems are decommissioned, and
              • taking and recording physical inventory.

              When fully implemented, these procedures should help improve the
              accountability and control over field spares by requiring verification of
              both physical counts and also data entered into the FSI. These procedures
              should also help to effectively utilize FAA’s perpetual inventory system,
              thus providing up-to-date and accurate information on field spare
              quantities and locations. In addition, FAA advised us that it is conducting a
              100-percent count of field spares inventory for fiscal year 1999.

              FAA is also separately developing a bar coding system for field spares that
              is expected to provide more accurate and reliable identification of and
              physical control over these items. Under the system, the manufacturer and
              FAA would install bar codes on field spares. According to FAA officials,
              this system is expected to be implemented as funds are budgeted, possibly
              by installing bar coding on a NAS system-by-system basis. This would be
              done by providing bar coding for one specific system and its related field
              spares at all FAA locations. Once fully developed and implemented, the use
              of this bar coding system should help provide more accurate identification
              and control over inventory.



Conclusions   While FAA has taken steps that are likely to lead to or already have resulted
              in improved accountability for PP&E and inventory, much still remains to
              be done. Until such time as full accountability is achieved, these assets will



              Page 22                               GAO/AIMD-99-212 FAA Financial Management
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                  continue to be exposed to waste, fraud, abuse, and mismanagement. In
                  addition, the Congress will have no assurance of receiving accurate
                  financial management information to help make informed decisions about
                  future funding and oversight of FAA activities. The continued lack of
                  accountability is of particular concern in light of the billions of dollars of
                  taxpayer funds being spent to acquire assets in connection with the
                  $42 billion Air Traffic Control modernization program.



Recommendations   We recommend that the Secretary of Transportation direct the FAA
                  Administrator to take the following actions:

                  • Ensure timely completion of current efforts to identify, record, and
                    provide support for all PP&E owned by FAA in order to establish a
                    baseline of PP&E costs.
                  • Perform a comprehensive internal control assessment of current PP&E
                    accounting practices and identify and implement new PP&E controls
                    where necessary to ensure ongoing accountability.
                  • Prioritize the acquisition of systems that are capable of accurately
                    accounting for PP&E efficiently and effectively on an ongoing basis.
                  • Ensure timely implementation of planned procedures to improve
                    inventory accountability, including
                    • performing periodic cycle counts at the Logistics Center to
                       substantiate inventory quantities on an ongoing basis;
                    • conducting a comprehensive field spares inventory by September 30,
                       1999, resolving count differences, and making appropriate
                       adjustments to establish a field spares inventory baseline; and
                    • implementing the planned bar coding system for the Logistics Center
                       and for field spares to capture inventory information from the time of
                       receipt and through subsequent movements and ultimate disposition.
                  • Perform an internal control assessment of field spares accountability
                    practices and implement new field spares controls where necessary to
                    ensure ongoing accountability.
                  • Implement a program of periodic field spares cycle counts to
                    substantiate inventory quantities on an ongoing basis.
                  • Revise FAA order 4250.9B, “Field Material Management and Control,” to
                    clearly indicate the official who has ultimate responsibility for the
                    accountability of field spares and the procedures required to carry out
                    this responsibility.




                  Page 23                               GAO/AIMD-99-212 FAA Financial Management
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Agency Comments and   FAA officials consisting of the Acting Director of the Office of Financial
                      Management, and the Program Director of the Resource Management
Our Evaluation        Program and their staffs, provided oral comments on a draft of this report.
                      The officials generally concurred with our findings and conclusions. They
                      did not concur with two of our seven recommendations. As discussed
                      below, we believe that our recommendations are still valid.

                      In regard to our recommendation that FAA perform a comprehensive
                      internal control review of current PP&E accounting practices, FAA officials
                      stated that a study of PP&E controls has already been performed and a
                      report has been issued by an independent Certified Public Accounting firm
                      and the DOT VOLPE National Transportation System Center. The scope of
                      the study was limited, focusing on fixed asset capitalization processes,
                      which represents only one of the activities related to PP&E accountability.
                      A comprehensive internal control assessment would include other
                      significant activities such as determining what controls are needed to
                      ensure that all owned property is recorded, all recorded property actually
                      exists, all property is properly valued, and all recorded property balances
                      are substantiated. Therefore, we continue to recommend that FAA perform
                      a comprehensive PP&E internal control assessment.

                      In regard to our recommendation that FAA revise its order 4250.9B, “Field
                      Material Management and Control,” to clearly indicate who has ultimate
                      responsibility and is accountable for field spares, FAA officials stated that
                      such a change had been issued. Subsequently, FAA personnel provided us a
                      draft change order, which has not yet been issued, and which continues to
                      give primary responsibility for the accountability for field spares to
                      Systems Management Office managers, while also allowing the
                      responsibility to be delegated. Therefore, we continue to affirm our
                      recommendation that FAA order 4250.9B be revised to clearly state which
                      official has ultimate responsibility for field spares accountability.

                      While FAA officials did not disagree with our recommendation that FAA
                      implement procedures to conduct a comprehensive field spares inventory
                      count during fiscal year 1999 and establish a field spares inventory baseline
                      by September 30, 1999, they stated that they had previously established a
                      field spares inventory baseline. They added that the baseline was
                      established in fiscal year 1998 through a 100-percent wall-to-wall inventory.
                      As discussed in our report, the OIG performed limited tests of the fiscal
                      year 1998 field spares inventory and found numerous errors in FAA’s
                      inventory records, thus indicating that an accurate baseline for field spares




                      Page 24                               GAO/AIMD-99-212 FAA Financial Management
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has not been established. FAA officials further stated that they plan to
perform a complete field spares inventory by September 30, 1999.

In addition, FAA provided us a number of suggested technical changes to
our report. We have reviewed these proposed changes and incorporated
them where appropriate.

We are sending copies of this letter to Representative John M. Spratt, the
Ranking Minority Member of your committee; the Honorable Rodney E.
Slater, Secretary of Transportation; the Honorable Carl B. Schellenberg,
Chief Financial Officer of the Federal Aviation Administration; the
Honorable Jane F. Garvey, Administrator of the Federal Aviation
Administration; the Honorable Jacob Lew, Director of the Office of
Management and Budget; the Honorable Kenneth M. Mead, Department of
Transportation Inspector General; and other interested parties. Copies will
also be made available to others on request.

If you have any questions concerning this letter, please call me at (202)
512-9508 or John C. Fretwell at (202) 512-9382. Key contributors to this
letter are included in appendix I.

Sincerely yours,




Linda M. Calbom
Director, Resources, Community,
  and Economic Development, Accounting
  and Financial Management Issues




Page 25                              GAO/AIMD-99-212 FAA Financial Management
Appendix I

GAO Staff Acknowledgements                                                                      Appenx
                                                                                                     Idi




Acknowledgments     Leo Blas, Donald Campbell, Rick Kusman, Mary Merrill, Meg Mills, Charles
                    Norfleet, and Frank Synowiec, Jr., made key contributions to this report.




(913848)     Lte
               rt   Page 26                             GAO/AIMD-99-212 FAA Financial Management
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