Independent Community Accountability Network
Following the money – An auditor’s view! (How the Auditor-General’s responsibilities affect you)
Des Pearson AO
11 May 2015
Thank you very much for your interest in attending this evening. I very much welcome your interest in this topic which is central to the level of ongoing trust in our democratic system of government.
It is my pleasure to take this opportunity to raise for your consideration a range of matters impacting the effectiveness and efficiency in the conduct of Parliament’s independent external audit of the public sector.
We now have a legacy system in Victoria, an approach which has served us well in the past, but which has not kept pace with developments in program funding initiatives such as Commonwealth/State and other partnership arrangements; nor with contemporary approaches to program delivery such as contracting out to the private and not for proﬁt (NFP) sectors the delivery of services, and entering into public private partnerships (PPPs).
I relate very much to the guiding principle promoted by the Accountability Roundtable, an organisation to which a number of us here tonight belong, which is for the universal exercise of the ‘public trust principle’. The Accountability Roundtable considers public trust is most likely where there is a high degree of operational transparency, independently assured by an appropriately empowered Auditor-General. This accords with my own induction to the public service many years ago where the ‘greater public interest’ was considered paramount.
A clear foundation for a fully effective independent external audit of the sector is the existence of a contemporary, comprehensive external audit mandate covering the entirety of public sector operations. The audit mandate should apply irrespective of the means of program delivery.
To achieve this, the current mandate for the Auditor-General as set out in the Audit Act 1994 needs to be broadened beyond the current focus on public sector entities to enable adequate audit coverage of all publicly funded programs and operations. In addition there are a number of restrictions and impediments to the efficient operation of the Victorian Auditor-General’s Office that have arisen over time and which need to be addressed.
Appropriately empowering the Auditor-General to undertake independent audits in accordance with transparent standards across the entire public sector would enhance the level of assurance available to the public of Victoria regarding the integrity of public sector operations. This in turn would engender a higher level of public trust in the sector. The opportunity for improper and corrupt conduct would also be reduced in consequence of a more integrated, transparent and cohesive sector wide approach.
While improper and corrupt behaviour is regarded by some as appearing to be at a low level in Victoria, without an appropriately empowered Auditor-General and a fully empowered IBAC there is not an authoritative basis for forming such a view.
Further from a practical point of view, when corruption and improper conduct periodically does become evident, it causes out of proportion damage to public trust. This situation also supports the view that all reasonable measures to minimise the opportunity for corruption and improper conduct to occur are warranted, both in principle and in resource management terms.
In the past Victoria has been an exemplar in promoting the highest standards of public sector accountability. In more recent times however this situation has deteriorated, mostly by changed approaches to program delivery without the corresponding revision of the audit mandate.
The stage has now been reached where the standard of accountability for program performance is primarily determined by the means of program delivery rather than the source of funds, a very fragile basis for maintaining a reliable level of public trust.
In comparative terms Victoria now ranks outside the upper quartile of Australian jurisdictions.
This situation with the audit mandate is further exacerbated by a number of administrative constraints which hinder the efficiency of the audit process.
Accordingly I have distilled, into three categories, the reforms required. Addressing these would re-establish in Victoria a sound, contemporary and comprehensive financial and performance audit framework.
This would reliably underpin and demonstrate the existence and practice of the public trust principle. Victoria would once again be able to claim its position as an exemplar jurisdiction.
The categories of reform required are:
1 Audit Mandate
There is a need to update the audit mandate to align with contemporary program funding and delivery practices which now extend beyond the traditional direct delivery of programs by public sector entities. The mandate should be extended to encompass all public sector funded programs and government controlled entities. This would better assure that public sector accountability principles are being applied consistently across all public sector operations.
2 Providing Appropriate Discretion
There is a need to empower the Auditor-General to be able to acquit his or her statutory responsibilities without fear, favour or affection by providing reasonable discretion about the content and timing of audit reports, and
3 Removal of impediments to efficient delivery of the audit program. There are multiple levels of oversight of the Auditor-General and further, operational constraints on the performance audit process. These are not warranted and should be removed to honour the letter and spirit of the independence provisions set out in the Constitution Act that the Auditor-General be an independent Officer of the Parliament, and not be subject to direction by anyone in the performance of his or her audit duties.
The Public Sector
Before dealing with these reforms though I think it worthwhile to re-visit the nature and purpose of the public sector. I believe this reinforces the need for the application of the public trust principle, the importance of the public sector to the orderly functioning of our society and the central role external audit plays in assuring the financial regularity, and the economy, efficiency and effectiveness in the delivery of public sector programs and operations.
An effective external audit function provides an overarching system of assurance that the intended checks and balances are in place and operating effectively so there can be a high level of assurance as to the regularity in operations and as to the extent to which intended outcomes are being achieved.
To start, accountability is a term we regularly use, however what does it mean? A simple definition which I am attracted to is that it is ‘reporting back to those who charged you with a responsibility’. This is important in both the public and private sectors, however I suggest it is even more so in the public sector as by and large the public sector provides the services that the private sector is either unable or unwilling to provide. In the private sector participation is largely discretionary. We are able to choose who we deal with and whether or not to invest in an entity. Also there is generally a competitive market place in operation which in addition to providing a form of ‘levelling and normalising’, is over sighted by regulators such as consumer affairs, ASIC and APRA.
For the public sector however we are generally a ‘sole supplier’ using resources extracted from the community in the form of non discretionary taxes and charges. We have an obligation to apply these resources in the public interest and for the common good of society. This is a highly subjective situation and there are undoubted complications in the task.
For a start generally there is a longer term focus, often generational, and the outcomes and achievements are subjective and open to debate. Further every voter has a view and the government of the day is held accountable at the ballot box every four years.
I suggest in these circumstances it is very much in the public interest for the community to be progressively, comprehensively and reliably informed of how well its taxes are being used.
As citizens we have little discretion about our dealings with the public sector. Further public sector programs tend to be monopoly providers of services in a situation of excess demand, rarely a context for simple decision making. The basis for ‘rationing’ the limited resources is also usually quite subjective however for trust in our system it is important that the criteria being applied be understandable and transparent, and that the community be reliably informed of how well the system is operating.
Audit by being in a position to provide independent assurance can make a valuable contribution by adding to the credibility of reports on finances and program performance and thereby engender greater public trust in the operation of the public sector.
The public sector itself is also large and complex. The Victorian public sector comprises around 550 entities such as departments, statutory bodies, local government authorities, etc. Annual revenue exceeds $60b per annum, assets exceed $200b and staff numbers approach 300 000.
The Role of the Auditor-General
The role of the Auditor-General is to provide assurance to the Parliament on the accountability and performance of the Victorian Public Sector. In this role the Auditor-General is deemed an Independent Officer of the Parliament and is not subject to direction by anyone in the performance of his or her audit duties.
The Auditor-General however has no executive authority. The only sanction is to make public his or her opinion as to the financial regularity and the economy, efficiency and effectiveness of program and service delivery.
Importantly the auditor is not entitled to challenge the merits of policy direction, setting these directions is the prerogative of the elected government. The audit focus is on the regularity and effectiveness of policy implementation.
The audit mandate can be broadly summarised as two fold. The Financial audit (assurance) role which is to audit the financial statements and non-financial performance statements prepared annually by each public sector entity and to form and issue an opinion as to whether in all material respects they reliably report the results. This can generally be termed the ‘how much’ dimension of public sector performance.
Compared with the private sector where financial statements can be relied on to, in addition to showing the quantum of funds being used, indicating the level of performance. This is generally not so in the public sector as departments and other budget dependent agencies for example receive their revenue from the Treasury. The financial statements largely provide a stewardship function of reporting on the quantum and categorisation of expenditure.
Accordingly in the public sector the Auditor-General is also responsible for undertaking performance audits to acquit the ‘how well’ dimension. Performance audits are undertaken to determine whether an agency or program is achieving its objectives and the extent to which they are operating economically, efficiently and effectively in the delivery of the services and programs.
As already noted the role of the auditor is not to challenge policy directions, the audit role is focussed on assessing, against per established criteria, the economy, efficiency and effectiveness in the implementation of the policy initiatives.
INTOSAI & Other Australian Jurisdictions
To establish the aspects warranting reform I have compared the situation in Victoria against the eight pillars identified by the International Organisation of Supreme Audit Institutions (INTOSAI) (see Executive Summary ISSAI 10 & complete ISSAI 10 Declaration on SAI Independence) and a comparative analysis of provisions in audit legislation in other jurisdictions across Australia (see Australasian Council of Auditors-General).
For context I think it worth summarising the eight pillars defined by INTOSAI and at a very high level how Victoria measures up:
- I Constitutional status for audit – Met
- II Security of tenure for the auditor – Met
- III Sufficiently broad mandate – an issue due to changed operational environment
- IV Unrestricted access to information – an issue due to changed operational environment
- V Right & Obligation to report audit results – needs attention
- VI Freedom to determine content and timing of report – needs attention
- VII Effective follow-up mechanisms – Met
- VIII Resources & administrative autonomy – needs attention
In the following I will outline areas requiring attention to address these pillar related shortcomings as well as to draw on the advances made in other Australian jurisdictions.
In drawing attention to the areas requiring attention I should also note that while there are many areas where Victoria is ‘behind the game’, there are others where Victoria can still stand proud.
For example the requirement in relation to the annual state budget, for an Estimated Financial Statement to be prepared and reviewed by the Auditor-General remains a very positive initiative. Similarly the level of resourcing of the Victorian Auditor-General’s Office (VAGO) is reasonable and enables a credible ratio of 60% financial statement audits to 40% performance audits, a ratio only achieved by one other Australian jurisdiction. A more common ratio is 80% financial statement audit to 20% performance audit, an adequate but well short of preferred ratio when risks being faced and the opportunity for value adding are considered. I personally would like to see a 50/50 ratio being applied.
Turning now to the areas needing attention.
‘Follow the dollar’ powers – There is an overdue need to recognise contemporary approaches to public sector program delivery to re-establish the standards of accountability which have previously existed. The present ‘entity’ based principle established in the Audit Act 1994 has been rendered redundant by reforms to the means of delivering programs, principally via outsourcing to and partnering with the private and not for profit sectors. The underlying principle of accountability for stewardship and application of public resources has not changed. Accordingly the power to audit any matter relating to public money , and to provide associated access powers to information and assets relevant to program delivery needs to be addressed.
The Australian Capital Territory, Commonwealth, Queensland, Tasmania and Western Australia all have amended their audit legislation in recent years to enable auditing of resources used on behalf of the government.
An important point to be made here is that the object is NOT for the Auditor-General to be able to audit private entities themselves. The object is for the auditor to have access to information and assets relevant to the delivery of public sector services and programs in a comparable form to the present provision for programs delivered by public servants. For example the auditor often has a need for corroborating evidence that can only be obtained from those actually delivering the services to be able to form a conclusion as to the quality of program management by the responsible public sector program manager.
Extend the mandate – Victoria is an outlier jurisdiction in that the audit mandate does not extend to the administrations of the Parliament or of the Courts as generally applies in other jurisdictions. Consistent with the concept of public sector accountability it is not evident why these administrations should not be subject to audit in a manner consistent with the rest of the public sector as they use public resources and have the obligation to routinely demonstrate regularity and prudence in the application of public resources. Clearly parliamentary business and judicial discretion should not be subject to audit, consistent with the approach in the broader public sector where policy directions are not subject to audit.
This is consistent with INTOSAI’s principle III that the auditor should have a sufficiently broad mandate and full discretion on the discharge of the audit function and be free from direction or interference from the Legislature or the Executive.
Another area for attention in this regard is with respect to jointly owned companies where better practice is for the Auditor-General to be appointed auditor wherever the State’s investment entitles it to exercise control. These gaps and anomalies which result in inconsistent coverage of public sector activities should be addressed.
Again INTOSAI principles, Section 22 and 23 of the LIMA Declaration of Guidelines on Auditing Precepts, prescribe that public audit should extend to enterprises established under private law if the government has a ‘substantial participation’ in them, and to ‘subsidised institutions’ where the auditor ‘should be empowered to audit the use of subsidies granted from public funds.
Eliminate Over-ride by Other Legislation – Again better practice is for Audit Act provisions to be afforded precedence over other legislation as it establishes the fundamentals of accountability across the sector. In Victoria however there are instances where other legislative provisions, eg the Public Health and Wellbeing Act 2008, have removed the application of the Audit Act in certain areas and circumstances. This is contrary to INTOSAI principles and indicates inconsistent, if not flawed, logic and erodes the overall standard of accountability across the sector.
Adequacy of Controls – Better practice accountability standard is to recognise the distinctly different nature of public sector operations and to require an opinion on the adequacy of controls as a complement to the annual opinion on the financial statements of public sector entities. This recognises public sector entities generally operate in a non commercial environment and therefore there is a need for them to otherwise demonstrate regularity, probity and prudence in their operations and in their use of public resources. Western Australia is one jurisdiction that has established an explicit legislative requirement for accountable officers to establish reliable control systems and for the Auditor-General to annually issue an opinion on the operation of these controls.
Performance Statements – A further better practice approach which recognises the particular nature of public sector operations and which serves to assist entities better focus their policy implementation and program delivery approaches, is to require entities to parallel the preparation of annual financial statements with the preparation of performance statements providing key performance indicators of their efficiency and effectiveness in program delivery, and for the Auditor-General to issue an opinion on the relevance and appropriateness, and as to whether these indicators fairly represent, the entity’s performance. This regime has been established in some sectors in Victoria however it is applied universally in other jurisdictions such as Western Australia.
Such an approach should in the longer term result in more ‘performance audits’ being of an assurance nature similar to financial statement audits where management prepares the report and the auditor issues an opinion on the reasonableness of the performance being reported. This promises a less challenging approach that the current reliance on direct reporting by the auditor.
Environment – International, notably Canadian, and the Australian Capital Territory jurisdictions have added a fourth ‘e’ to the Auditor-Generals ‘economy, efficiency and effectiveness’ mandates reflecting the growing importance of sustainability considerations.
Information Sharing – The current secrecy provisions of the Audit Act 1994 unduly restrict the capacity of the Auditor-General to effectively engage with and participate in the Victorian integrity system. There is also the need to be able to participate with other audit offices recognising contemporary approaches to Commonwealth/State funding arrangements. There is an obvious need to provide the Auditor-General with adequate discretion so he or she is able to operate within the broader bounds of professional confidentiality, rather than being constrained by the highly restrictive secrecy provisions of the Audit Act 1994. Audit legislation in Queensland, the Australian Capital Territory and Tasmania provide examples of such provisions which are working effectively.
Persons with Special Interest – With the greater involvement of the private and not for profit sectors in program delivery there is a need for more discretion for the Auditor-General to engage as he or she sees fit with any person in relation to an audit. There are already adequate safeguards in place to both guide and oversee the Auditor-General in doing this. To be able to adequately serve the public interest, the Auditor-General needs improved operational discretion to engage with those contributing to public sector program delivery and these people need to be required to adhere to public sector accountability and confidentiality standards. There is precedent in Victoria for appropriate legislative provisions, most specifically the Victoria (Taxation Administration) Act 1997 which apply in comparable circumstances.
Accounting and Auditing Standards – While Australia is well served by comprehensive sector neutral standards they are primarily derived from the private sector. There remain therefore a range of areas where the public sector is not well served. Accordingly it is proposed the Audit Act should require the Auditor-General to ‘have regard’ to the standards rather than to restrict the Auditor-General to the standards. Provision should also be made for the Auditor-General to apply additional standards by reference or specification, and report against them.
Tabling of Reports – To provide the Auditor-General with reasonable operational and professional discretion the Audit Act should be amended to allow the tabling of reports when Parliament is not sitting. Another dimension of contemporary practice warranting attention is the need to provide for electronic versions of reports to be tabled. The Commonwealth and Queensland provisions are currently regarded as better practice and consistent with INTOSAI principles.
Education Function – There would be merit in explicitly empowering the Auditor-General undertaking a broader education function to promote better practice approaches. There are a range of areas including fraud prevention/detection, better practice internal controls and resource management which are not currently being actively or systemically promoted across the sector.
Removing Impediments to Efficient Audits
Standards for Agency Responses – The Audit Act 1994 currently requires the Auditor-General to include in his or her reports the response by the audited entity. Without a requirement for accountable officers to have regard to the same standards in preparing their responses to draft reports as the Auditor-General is required to observe, comments can be made which unduly detract from the audit conclusion. The Auditor-General is already required to observe procedural fairness and remains accountable for demonstrating observance of this requirement in practice. This principle works well in practice in relation to financial audits however remains an area of avoidable contention in relation to performance audits.
Audit Specifications – The current Audit Act 1994 requirement for consultation with the Public Accounts and Estimates Committee on individual Audit Specifications should be dispensed with as it represents an unnecessary operational step which is not consistent with the Committee’s broad oversight role. The Act already provides for the appropriate strategic level of consultation with the Committee as part of the preparation of each Annual Plan. Further the Act already also provides for the appropriate consultation with the subject entity in the course of preparation of each individual Audit Specification.
Oversight Arrangements – The inclusion of the Victorian Inspectorate in the oversight mechanism for the Auditor-General represents a level of duplication and outweighs the arrangements for other integrity bodies in Victoria and audit oversight in other jurisdictions. The Auditor-General and the Office are already subject to a triennial performance audit commissioned by the Public Accounts and Estimates Committee. A review of the design integrity for the Integrity System in Victoria is required to address the current ad hoc approach to oversight which does not appear to have an underlying cohesion or clarity of purpose.
As will be appreciated from the forgoing the scale of revision required is such that while it would be very desirable for an immediate and comprehensive revision of the Audit Act to be effected, the reality may be that a two staged approach might be more practicable. A two stage approach could serve to remove in the very short term the immediate impediments to the discharge of a comprehensive audit mandate, consistent with contemporary approaches to program delivery. Issues such as ‘Follow the dollar’, information sharing, persons with special interest, audit specifications and oversight by the Victorian Inspectorate could be appropriately addressed before embarking on a more systematic review of the Act. In this way Victoria could be re-established as a pre eminent jurisdiction within the term of this current Parliament.
Thank you for your attention and I would now be happy to take questions.