Audit of Financial Forecasting Project AU1318

Table of Contents

EXECUTIVE SUMMARY

In the last several years, there has been a heightened focus on value for money whereby public funds are managed with prudence and probity and resources are used effectively, efficiently and economically to achieve departmental and governmental objectives. The federal government instituted related policies and directives for departments to comply with the expectation that spending authority is managed in a manner that maintains effective control and through which financial resources are used appropriately, based on the right authority.Footnote1

NRCan’s Audit of Financial Forecasting was approved by the Deputy Minister as part of the Risk-Based Audit Plan for 2013-2014. The Office of the Comptroller General (OCG) had also identified a Horizontal Audit of Financial Forecasting as part of its multi-year audit plan for which NRCan was one of sixteen departments selected to participate. To minimize duplication of efforts, NRCan and the OCG agreed on a common methodology and scope so that the OCG could use the results from NRCan’s audit to inform the overall results of its horizontal audit.

AUDIT PURPOSE AND OBJECTIVES

The overall purpose of this audit was to assess whether NRCan is forecasting financial information appropriately to inform decision-making. To achieve this objective, the audit assessed the effectiveness of the NRCan’s forecasting processes and its compliance with related requirements in the Policy on Financial Resource Management, Information and Reporting and the Policy on Financial Management Governance.

SCOPE

The scope of this audit included the collective suite of policies, directives and processes that were in place during the fiscal year ended March 31, 2013, to support departmental efforts to effectively forecast, as well as comply with the related requirements of the Policy on Financial Resource Management, Information and Reporting and the Policy on Financial Management Governance.

STRENGTHS

The audit found that a strong governance structure is in place to ensure an appropriate level of review and approval of forecasts and there is monitoring of compliance with policies through periodic audits and other reviews. Expectations of Responsibilities Centre Managers’ (RCMs) responsibilities for forecasting accuracy is established by the Chief Financial Officer (CFO) and Deputy Head (DH) and incorporated in performance agreement guidance. RCMs have effectively implemented forecasting practices to support decision-making. Overall departmental forecasts of Operating and Capital Expenditures for the second and third quarters are within a reasonable percentage of year-end spending. 

AREAS OF IMPROVEMENT

Clarification of the role of the Sector Financial Advisor with respect to forecasting should be finalized. Consistent guidance, procedures and tools to support the forecasting process should be further developed. Situations where business needs and corporate reporting requirements are being met outside of standard SAP reporting capabilities should be identified and solutions for standard reporting should be developed. Provision of more timely feedback on forecasts may reduce funds lapsing and allow for better utilization of funds between sectors to further achieve departmental priorities. 

AUDIT CONCLUSION AND OPINION

Overall, the Audit Branch can provide reasonable assurance that NRCan’s forecasting of financial information is appropriate to support informed decision making. However, improvements in certain areas, such as consistent guidance, procedures and tools, would help improve the forecasting process.

In my opinion, there are opportunities for NRCan to improve the support and guidance provided to the Sectors during the forecasting process.

STATEMENT OF CONFORMANCE

In my professional judgement as Chief Audit Executive, the audit conforms with the Internal Auditing Standards for the Government of Canada, as supported by the results of the internal Quality Assurance and Improvement Program.

Christian Asselin, CPA, CA, CMA, CFE
Chief Audit Executive

ACKNOWLEDGEMENTS

The audit team would like to thank those individuals who contributed to this project and, particularly employees who provided insights and comments as part of this audit.

INTRODUCTION

As outlined in the Financial Administration Act, the deputy head is assigned the role of accounting officerFootnote2 and is ultimately accountable for the management of the department’s resources. To support the deputy head, the chief financial officer is delegated the responsibility to develop an appropriate financial management process. This process is embedded in the Department Resource Allocation Process, which typically includes the following:

  • Priority setting;
  • Operational planning;
  • Budgeting;
  • Management and control (including the forecasting process); and
  • Reporting.

The forecasting processes determine the key tools to manage and control the budget. Financial forecasting describes the process by which departments plan and prepare for the future. It is the process of directing and allocating financial resources to meet strategic goals and objectives while considering risk management, and it assists departments in identifying their asset requirements and needs for funding. Forecasting often relies on past relationships and existing historical information combined with the knowledge of internal and external indicators in order to predict future financial needs.

There are a number of annual activities that the department performs in order to conduct a detailed internal departmental budget and forecast review against voted authorities for the fiscal year. Throughout the process, plans and forecasts are typically developed and rolled up at various levels within the organization. Forecasts are then aggregated, reviewed, challenged and finally approved.Footnote3

As the year progresses, integrated year-to-date reviews and forecasting packages are prepared, resulting in the identification of specific steps required to meet organizational mandates. These steps may include the development of risk mitigation strategies for forecasted deficits, updates to plans and internal budget reallocations, as well as satisfying external requests for changes to departmental funding based on new initiatives. This process typically occurs quarterly, but the frequency would vary depending on the size and the environment of the organization.Footnote4

In 2012, the NRCan Financial Management Branch (FMB) engaged an external consulting firm to assess the department’s budgeting and forecasting processes. Five key recommendations resulted from the assessment and were presented to the department in February 2013. FMB has since developed a Management Action Plan to implement these recommendations and is currently in process of making improvements.

AUDIT PURPOSE AND OBJECTIVES

The overall purpose of this audit was to assess whether NRCan is forecasting financial information appropriately to inform decision-making. To achieve this objective, the audit assessed the effectiveness of the NRCan’s forecasting processes and its compliance with related requirements in the Policy on Financial Resource Management, Information and Reporting and the Policy on Financial Management Governance.

DEPARTMENTAL RISK

Given the importance of forecasts in planning and reporting for achieving government objectives, failure to appropriately forecast carries many risks. Key underlying risks associated with inaccurate or untimely forecasts that were taken into consideration are information for decision making, financial management, third party, information systems, and human resources.

SCOPE

The scope of this audit included the collective suite of policies, directives and processes that were in place during the fiscal year ended March 31, 2013, to support departmental efforts to effectively forecast, as well as comply with the related requirements of the Policy on Financial Resource Management, Information and Reporting and the Policy on Financial Management Governance.

This audit did not examine compliance with requirements under the Policy on Investment Planning. Although this policy is important to budgeting and planning, it goes beyond the intended scope of this audit. This audit also did not look at compliance with requirements under the Policy on Management, Resources and Results Structures because this policy was recently the subject of a horizontal audit in large and small departments.

The audit examined NRCan’s forecasting processes with a particular emphasis on in-year activities, including supporting analysis, decisions, timeliness and accuracy of results. The scope included forecasting of expenditures, respendable revenues (the base for expenditures in some organizations), transfer payments to provincial governments and grants and contributions. The scope did not include forecasting for non-respendable revenues nor processes related to the preparation of budgets and financial reports for the purpose of external reporting.

APPROACH AND METHODOLOGY

The approach and methodology followed the Internal Auditing Standards for the Government of Canada, which incorporates the Institute of Internal Auditors’ International Standards for the Professional Practice of Internal Auditing. These standards require that the audit be planned and performed in such a way as to obtain reasonable assurance that audit objectives are achieved. 

The audit included various tests, as considered necessary, to provide such assurance. Internal auditors performed the audit with independence and objectivity as defined by the Internal Auditing Standards for the Government of Canada.

The audit methodology was based on internal auditing guidelines and included:

  • Interviews with the key personnel responsible for the forecasting process and its monitoring;
  • Reviewing key documents and relevant background documents;
  • Reviewing the process and practices related to controls in place; and
  • Reporting the results and findings.

CRITERIA

Audit criteria used in the audit were developed from relevant policies by the OCG. The criteria were approved by management prior to the commencement of the audit. These are included in Appendix A.

FINDINGS AND RECOMMENDATIONS

GOVERNANCE

Summary Finding

At the highest level of the organization there is a strong governance structure in place to ensure an appropriate level of review and approval of forecasts. As roles and responsibilities have not been documented, different expectations from the Responsibility Centre Managers (RCMs) of the services provided by Sector Financial Advisors (SFAs) and inconsistencies in how the role is carried out in the forecasting process have resulted in a lack of clarity regarding the SFA’s responsibilities.

Supporting Observations

Accountability and Oversight

The audit found that the Department has demonstrated a positive “tone at the top” in regard to open discussions and accountability for budgets. There are two senior levels of review of forecasts. The highest level of review and approval is the Executive Committee which is chaired by the Deputy Minister and comprised of all the Assistant Deputy Ministers (ADMs) in the Department. The Executive Committee is further supported by the Planning and Reporting Committee, a Director General level advisory committee that oversees the development of key corporate frameworks and documents related to planning and reporting. Monthly Financial Management Reports (FMRs) are prepared for review by the Executive Committee and forecasting is specifically discussed at each quarter.

Expectations for forecasting accuracy are established at the departmental level by the Deputy Head. As a best practice the executive performance agreement guidance identifies that actual annual expenditures reported at year-end must be within a variance of the 5% planned spending at mid-year.

Roles and Responsibilities

To support forecasting activities, each sector of NRCan is assigned a Sector Financial Advisor (SFA) who reports directly to FMB. This channel was established to help escalate issues to the appropriate level when they arise. Currently, SFAs may provide financial advice and assistance to the Sector or Branch heads on strategic and operational planning, budget preparation and management, and other financial issues. However, due to the fact that most Sectors have developed their own internal planning functions, the services provided by SFAs have sometimes been limited to providing and consolidating financial information during the preparation of the monthly FMR.

All Sectors reported that they had developed excellent support for forecasting internally, and relied heavily on these internal resources in the absence of support from Corporate Finance. It was noted that larger Sectors are supported by dedicated SFAs, whereas, smaller Sectors share an SFA. Of the 15 RCMs interviewed, 6 indicated that they did not receive the necessary support or in some cases the timely support needed for the preparation of forecasts.    

The effectiveness of SFAs in advising their clients is sometimes limited due to the following:

  • SFAs are in some instances not always involved in developing forecasts yet they have training and experience in this area that could prove invaluable. In these cases, SFAs could further challenge management forecasts which may be overly optimistic or conservative.
  • SFAs may have limited knowledge of the inputs to forecasts due to limited involvement in Sector activities such as attendance at key management meetings. They may also have limited knowledge of types of expenditures/revenues (i.e. net vote revenue) and may not necessarily have a comprehensive view around assumptions for budget scenarios.
  • SFAs have limited input into budget transfers and reallocations which could be made between Sectors and decrease the lapses occurring at the Departmental level.

MANAGEMENT INITIATIVE

Management is currently in process of consulting with Corporate Finance groups (including the Sector Financial Advisory Office (SFAO)) regarding the roles and responsibilities of SFAO staff. Draft documentation of proposed roles and responsibilities were reviewed during the course of the audit and should be sufficient to clarify the different expectations of RCMs and resolve inconsistencies in how the SFA role is carried out when they have been fully implemented.

RISK AND IMPACT

The effectiveness of SFAs in advising their clients may be reduced because they may have limited knowledge of Sector activities that may impact the budgets and forecasts.

RECOMMENDATIONS

1. a. Financial Management Branch (FMB) should finalize and implement the revised roles and responsibilities of Corporate Finance groups (including Sector Financial Advisors (SFAs)) that are currently in the consultation stage. As part of this process, FMB should also examine the Sector Financial Advisory Office’s (SFAO’s) capacity to provide services to the Sectors.
1. b. Responsibility Centre Managers (RCMs) should provide SFAs with information beyond the summary information currently being provided to support the Financial Management Report (FMR) (in conjunction with recommendation #3).  Furthermore, SFAs should attend management meetings on a regular basis to stay informed of issues that may affect their RCM’s forecasts.

MANAGEMENT RESPONSE, ACTION PLAN AND TIME FRAME

1. a. Management agrees with this recommendation. Work is underway to better define the roles and responsibilities of key players in the budgeting and forecasting process, including the SFAs. The SFAO capacity to deliver will be considered as part of this exercise to define the roles and responsibilities.

Position responsible: Senior Director, Financial Renewal and Capacity Building and Director General, Financial Management Branch

Timing: March 28, 2014

1. b. Management agrees with this recommendation. Formal direction will be provided to RCMs on the information that they should be supplying to SFAs and Corporate Finance as part of the FMR process. The Associate Deputy Minister, Corporate Management and Services Sector (ADM, CMSS) will recommend that all ADMs invite SFAs to regularly attend management meetings.

Position responsible: Director, Financial Planning and Corporate Resources Management, Director General, Financial Management Branch, and Associate Deputy Minister, Corporate Management and Services Sector

Timing: March 28, 2014

FORECASTING PROCESS

Summary Finding

FMB provides forecast due dates and templates with respect to forecasting. Responsibility Centre Managers (RCMs) have effectively implemented forecasting practices to support decision-making. However consistent guidance, procedures and tools should be further developed to support and strengthen the forecasting process. 

Supporting Observations

Guidance and Support

The Financial Management Report (FMR) is a high level document prepared for senior management that contains forecasted data, actual expenditures, and explanations for variances in planned expenditures. A standard template has been established for data input into the monthly FMR which is emailed monthly at the initiation of the FMR process. The email provides basic guidance to the Sectors on what information is required to be included in the FMR. Outside of the FMR call-letter, the process/set of procedures to support documentation of departmental forecasts is not currently documented, particularly with respect to the type and level of analysis that should be completed to support the Sector’s analysis.

Budget Transfers and Reallocations

Budget transfers and reallocations are used by the department to move budgeted funds where they are most needed in order to better deliver against governmental priorities. In accordance with the Treasury Board Policy on Financial Resource Management, Information and Reporting (PFRM) the process must be appropriately authorized, depending on the nature of the transaction. During interviews with various SFAs and RCMs it was apparent that roles and responsibilities for initiating, transacting and authorizing budget transfers and reallocations are generally understood. However, the process and required authority for approvals of transfers at the various budgetary levels is not formally documented which could increase the risk of unauthorized and invalid adjustments to budget data.  

Tools for Forecasting

The Audit team walked through the forecasting process with the 15 RCMs and noted that all follow the department prescribed procedures to complete the monthly FMR, but also go above and beyond the minimal requirements to develop detailed forecasts that are used at the Branch/Division level. All Sectors have developed internal resources to perform the detailed forecasting and act as a liaison with FMB and SFAO. Regular management meetings (weekly and monthly) are held in which forecasting is included as a standing item.

The SAP Financial Management System (FMS) contains a Financial Management module that can be used to generate data for the monthly FMR. The FMS is used as the book of record for budgets, actual expenditures, and commitments. Various databases and spreadsheets are created outside of the FMS to track forecasting. The FMS is updated with the required information when necessary.   

Mandatory training relating to the use of FMS and the government wide budgeting process is currently provided by the Canada School of Public Service (CSPS) to all financial officers and RCMs with less than five years of experience with the Government of Canada. However, the training is not specific to NRCan forecasting techniques and tools and there is no formal strategy in place to address the changing needs for training among NRCan’s SAP users. As a result, NRCan staff may not be using the SAP system to its full capacity which could reduce the day to day effort of NRCan personnel and improve decision making.

Monitoring and Reporting

There is monitoring of compliance with policies through periodic audits and other reviews. An external assessment was most recently completed in fiscal 2011-2012 which resulted in five key recommendations which are currently in process of being implemented. The most recent internal audit of the forecasting process was completed in 2009.

Deputy heads and their delegates ensure that all the reporting requirements of the Policy on Financial Resource Management, Information and Reporting (PFRM) and the Policy on Financial Management Governance (PFMG) are respected. No significant reporting issues have been noted by either Internal Audit or management.

The audit noted that forecasts are monitored and updated at different levels on a regular basis by an appropriate level of Sector management. Each Sector is responsible for tracking commitments and expenditures and for providing a forecast to FMB on the required data. FMB is responsible for providing functional guidance, directions and advice to managers.

MANAGEMENT INITIATIVE

Management has drafted a directive on the Budget Reallocation and Budget Transfers which is currently circulating for consultation. 

Management is currently identifying the business needs and corporate reporting requirements to address issues with reporting in SAP. 

RISK AND IMPACT

There is an increased risk of unauthorized budget reallocations, and a limitation of visibility to the movement of funds in and out of budgets. The FMR may present an incomplete financial picture if the same process is not used across sectors; this also makes it difficult to make comparisons and identify trends to support decision-making. Furthermore, the manual consolidation of information outside of SAP may result in inefficiencies and increase the risk of errors and omissions. Time may be spent compiling data rather than on analyzing and challenging.

RECOMMENDATIONS

2. Financial Management Branch (FMB) should finalize the directive (currently in the consultation stage) that will clarify the process and approvals required for Budget transfers and reallocations.
3. FMB should finalize the departmental forecasting processes and procedures, which include risk analysis, mitigation strategies, and decisions related to the centrally managed budget pressures.

The issue regarding utilization of tools such as SAP was also identified during the Audit of SAP Functionality. As such the related recommendation will be issued as part of that audit.

MANAGEMENT RESPONSE, ACTION PLAN AND TIME FRAME

2. Management agrees and the directive currently in the consultation stage will be finalized and approved.

Position responsible: Director, Financial Planning and Corporate Resources Management and Director General, Financial Management Branch

Timing: March 28, 2014

3. Management agrees with this recommendation. Formal direction on forecasting processes and procedures will be developed and communicated to Responsibilities Centre Managers (RCMs). SAP functionality will be utilized in the development of the formal direction and, where SAP functionality is not sufficient, a common alternative will be developed.

Position responsible: Director, Financial Planning and Corporate Resources Management and Director General, Financial Management Branch

Timing: March 28, 2014

FORECASTING ANALYSIS

Summary Finding

Overall departmental forecasts of Operating and Capital Expenditures for the second and third quarters are within a reasonable percentage of year-end spending, however an earlier challenge function of forecasts and a more robust analysis may further reduce funds lapsing and allow for better utilization of funding from one Sector to another to achieve departmental priorities.

Supporting Observations

Forecasting Analysis

Strong forecasting processes are foundational to discharge the requirement of “ensuring effective oversight of the department’s financial plan, budget and related allocations of its resources and making decisions based on sound analysis of reliable information.”Footnote5 Some budget pressures or risks may require requests for adjustments to departmental funding such as the re-profiling of funds between fiscal years, transfer of funds between votes, etc. The development of forecasting usually includes consultations and validation with key stakeholders. 

Overall departmental forecasts, excluding Statutory Payments, for the second and third quarters are within a reasonable percentage of year-end spending. Forecasting Statutory Payments has its own unique challenges due to external factors such as market volatility and industry. Comparing actual expenditures to forecasts, excluding Statutory Payments, the audit team identified the following (refer to Appendix B for details):

  • Year-end actual spending represented 95% of the Departmental Forecast at the second quarter; and
  • Year-end actual spending represented 97% of the Departmental Forecast at the third quarter.

Variances for Operating and Capital Expenditures were reasonable; however opportunities to improve forecasting still exist as RCMs have more control over these types of expenditures. As per interviews with RCMs, the SFA challenge function is generally exercised more frequently towards year-end, i.e. from December onwards. It was noted that if surpluses were identified earlier in the year, these could be transferred to other sectors in order to achieve Department objectives.

Significant changes are made to forecasts in the last quarter of the year (e.g. re-profiling requests), when the SFA challenge function is generally exercised more frequently. Normally, the process would be completed on a quarterly basis at a minimum, and possibly more frequently as required by the type of transactions occurring.

The audit team identified that the most significant variances between forecasted and actual expenditures were in the funding categories for Grants and Contributions and Transfer Payments which are inherently challenging to accurately forecast due to external factors. Whether transfer payments will all be spent during the year depends on other factors such as market volatility and industry; and the timing of grants and contributions relies heavily on recipients meeting milestones during the year. During interviews with RCMs responsible for G&C programs it was noted that the approved funding levels are flat and do not accurately reflect actual expenditure trends (which tend to start out slowly, peak, and then fall); the ability to re-profile funds from one year to the next is one tool relied on by RCMs to achieve Program objectives.

MANAGEMENT INITIATIVE

Management has initiated a project to document the FMR process and to clarify the roles and responsibilities of the SFAO.

RISK AND IMPACT

Not re-profiling in a timely manner may result in missed opportunities to better utilize funding.

RECOMMENDATIONS

4. Financial Management Branch (FMB) should finalize the forecasting template and instructions to include key forecasting analysis, provide training specific on the Department’s forecasting processes and tools, and request Sectors to update significant budgetary changes as early as possible. This should also include an integrated financial planning process with the capability to run ‘what if’ scenarios (e.g. Grants & Contributions (G&Cs)).

MANAGEMENT RESPONSE, ACTION PLAN AND TIME FRAME

4. Management generally agrees with the recommendation. FMB will finalize the forecasting template and instructions.

Position responsible: Director, Financial Planning and Corporate Resources Management and Director General, Financial Management Branch

Timing: March 28, 2014

APPENDIX A – AUDIT CRITERIA

The audit criteria were derived from widely recognized control models (e.g. Management Accountability Framework, CICA Criteria of Control - CoCo) and relevant policies, acts and legislation. Actual performance was assessed against the audit criteria resulting in either a positive finding or the identification of an area of improvement. The following audit criteria were used to conduct the audit.

The purpose of this audit was to provide reasonable assurance that the NRCan’s forecasting processes and its compliance with related requirements in the Policy on Financial Resource Management, Information and Reporting and the Policy on Financial Management Governance are effective.

Audit Criteria Used to Conduct the Audit
Audit Sub-Objectives Audit Criteria
Sub-Objective 1: Governance
NRCan has put in place clear accountability, roles, and responsibilities and has the tools to support effective financial forecasting.
1.1    NRCan has established clear accountability and oversight for the review and approval of financial forecasts by senior management.

1.2    NRCan has established clear roles and responsibilities for the review and approval of financial forecasts for responsibility centre owners.

1.3    NRCan has established tools to support the forecasting process.
Sub-Objective 2: Forecasting Process
NRCan informs decision making with the results of sound-in-year forecasting processes reinforced by adequate guidance and support.
2.1    NRCan has established guidance (i.e. policies, directives or guides) and provides support to enable the responsibility centres to perform financial forecasts, as well as related activities such as costing.

2.2    NRCan has effective forecasting practices in place to provide timely and accurate financial information for decision making at the departmental level.

2.3    NRCan has implemented effective forecasting practices to provide timely and accurate financial information for decision-making at the responsibility centre level.
Sub-Objective 3: Monitoring and Reporting
NRCan has adequate procedures in place to ensure consistent monitoring and reporting on the administration of the requirements under the Policy on Financial Resource Management, Information and Reporting (PFRM) and Policy on Financial Governance Management (PFMG).
3.1    The Deputy head or his/her delegates ensure that monitoring of compliance with PFRM and PFMG is performed.

3.2    The Deputy head or his/her delegates ensure that all of the reporting requirements in the PFRM and PFMG are respected.

 

APPENDIX B – PERIOD 6 AND PERIOD 9 VARIANCE ANALYSIS FOR FY 2012-2013

   Vote 1
Operating &
Maintenance
 Vote 5
Capital Assets
 Vote 10
Grants and
Contributions
 Department
Sub-Total
(excludes
Transfer
Payments to
Provinces)
 Statutory
Payments
(including
Transfer
Payments to
Provinces)*
 Department
Total
(including Transfer
Payments to
Provinces)
(A) End-of-year actuals $738,134,884 $29,045,488 $423,456,774 $1,190,637,146 $748,547,299 $1,939,184,445
(B) P6 forecast $761,223,383 $31,305,127 $458,239,173 $1,250,767,683 $993,382,448 $2,244,150,131
Variance from actual expenditure (A-B) -$23,088,499 -$2,259,639 -$34,782,399 -$60,130,537 -$244,835,149 -$304,965,686
Variance % -3.13% -7.78% -8.21% -5.05% -32.71% -15.73%
(C) P9 forecast $754,578,604 $30,362,728 $445,784,739 $1,230,726,071 $860,466,823 $2,091,192,894
Variance from actual expenditure (A-C) -$16,443,720 -$1,317,240 -$22,327,965 -$40,088,925 -$111,919,524 -$152,008,449
Variance % -2.23% -4.54% -5.27% -3.37% -14.95% -7.84%

*   Note that Statutory Payments (including Transfer Payments to Provinces) have been shown separately considering the significant impact these figures have on the overall totals. Forecasting these expenditures has its own unique challenges due to external factors such as market volatility and industry.