AuditorGeneral consideration of alternate funding options

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Auditor-Generalconsideration of alternate
funding options

• SCoAG Presentation
• 12 June 2008
• Internal document - confidential

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Reputation promise

• The Auditor-General has a constitutional mandate
  and, as the Supreme Audit Institution (SAI) of
  South Africa, it exists to strengthen our
  countrys democracy by enabling oversight,
  accountability and governance in the public
  sector, thereby building public confidence.

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Content

• Background
• Issue
• Key financial indicators
• Drivers of funding deficit
• Compounding factors
• Process to date
• Global benchmarking
• Options considered
• Evaluation of options
• Recommendation
• Way forward

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2. Issue

• The AGs funding position is deteriorating for
  the following reasons
• In an effort to minimise the national cost of
  auditing, limitations were placed on tariff
  increases in respect of a range of senior
  staffing bands. This has resulted in the
  capping of certain tariff increases at 4 while
  the current CPIX is 10.4. As salaries are
  adjusted upwards, an increasing portion of
  revenue falls within the capped tariff ranges.
• Difficulties are experienced in collecting fees
  from financially strapped local authorities,
  resulting in an increase in bad debts and a
  growing arrear debtors book.
• The scarcity of appropriately qualified audit
  resources generally, has resulted in
  higher-than-anticipated vacancies and a
  consequent outflow of work to external audit
  firms from which no contribution to fixed costs
  is recovered.
• The surplus margin is insufficient to cover
  ongoing working capital and capital expenditure
  requirements.

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Bottom Line Fixed and variable costs maintained
to 97 of budgetOwn hours performance, led by
vacancies, has driven a deficit variance of R25.5
million.
3. Key financial indicators 2007-08 performance
vs. budget.
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Bottom line The Auditor-Generals funding
position is deteriorating annually and is
expected to worsen in the absence of remedial
action.
3. Key financial indicators movement in cash
cash equivalents.
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4. Drivers capping of tariffs
In the financial year 2008-09, 44 of own hours
income will be subject to a year-on-year increase
of only 4 (CPIX 10.4) due to the application
of tariff capping. This has contributed to the
decline in budgeted surplus margin to 0.6.
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4. Drivers Demonstration of incremental impact
of tariff capping.

• The table below sets out a hypothetical example
  demonstrating the annual impact of the current
  application of the tariff determination
  mechanism. The limitations that were applied are
  as follows
• No new upper levels created
• Tariff increases limited to 4 per annum

All staff on level A increase revenue by only 4.
The impact is cushioned by staff progressing up
levels until such time as the upper level is
reached.
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4. Drivers Negative cash flow profile
50 of working capital outflows occur 84 days
prior to debtor receipts. The extended duration
of debtor collections negatively impacts working
capital.
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5. Compounding factor - Vacancies
Vacancies in the 2007-08 year have exceeded
budget by 280. A vacancy rate of 14 in 2008-09
would equate to a negative bottom line impact of
R21.8 million due to the under-recovery of fixed
overheads. The break-even vacancy rate for
2008-09 is 10.5. In addition, the budgeted
average recovery rate (number of recoverable
hours per annum) for 2007-08 was missed by 1.9.
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5. Compounding factor Bad debts and debtors
In the past year average debtor days increased by
25. This is driven mainly by a deterioration in
collections from local authorities and provincial
government. Provision for bad debts increased by
33 relative to total audit income.
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6. Options Process to date

• The following process has been followed regarding
  the analysis of the problem and the evaluation of
  alternative options
• Brought funding problem to the attention of SCoAG
  on I October 2007 and initiative to evaluate the
  way forward was endorsed.
• Analysed current tariff model and identified
  limitations and compounding factors.
• Identified probable options to resolve the
  funding problem.
• Reviewed options with AG special interest group.
• Minister of Finance and Deputy-General National
  Treasury were briefed in principle as to the
  purpose of the initiative.
• Engaged with selective management of National
  Treasury to understand applicability of options.
• Presented preliminary funding model
  considerations to SCoAG.
• Benchmarked global SAI funding models.
• Finalised document and one-off non-refundable
  grant request.
• Received AG Exco approval.

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7. Global benchmarking
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7. Global benchmarking
Conclusion The analysis highlights a common
theme throughout the majority of democracies
regarding the need to ensure and improve
financial independence. The analysis also
supports the funding model options of obtaining
funding from Parliament, charging auditees
directly and combinations thereof.
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8. Options considered
Four options were considered in detail. These are

• Retain the current method of fee recovery from
  auditees with market-related annual tariff
  increases.
• AG budget included in Parliaments budget vote.
• Recover audit fees from relevant Treasury or
  provincial department of local government.
• Recover direct-cost fees from auditees and fund
  indirect costs via a Parliamentary allocation.

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9. Evaluation of options
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10. Recommendations

• Based on the criteria, it is our opinion that,
  commencing 1 April 2009, Option 1 (Retain the
  current method of fee recovery from auditees)
  should be adopted subject to the following
• Tariffs should be recalculated to
• remove tariff caps
• reintroduce symmetry
• factor in reasonable vacancies
• adjust budgeted recoverable hours.
• 2. Market-related tariff increases should be
  introduced in subsequent years.
• An unconditional grant should be made available
  to relieve the funding position of the AG until
  the introduction of these recommendations.
• The permissible budget surplus should be
  increased from 3 per cent to between 5 and 6 per
  cent.
• Should these principles not be accepted, the
  recommendation would be for Option 2 - AG budget
  included in Parliaments budget vote.

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11. Way forward

• The preferred funding option will be recommended
  after completing the following
• Interaction with National Treasury at DG level
• Interaction with Minister of Finance
• Finalisation of document and presentation to
  SCoAG 12 19 June 2008.