Information in support of the Statement of Assurance

Scope and nature of the audit

14. The aim of the work on the reliability of the accounts of the EDFs is to obtain appropriate sufficient evidence to conclude on the extent to which all revenue, expenditure, assets and liabilities have been properly registered and that the annual accounts faithfully reflect the financial positions at the end of the year. The observations regarding the reliability of the accounts, set out in paragraphs VI and VII of the Statement of Assurance, are based on an audit of the consolidated financial statements (14) and the consolidated report on the financial implementation of the seventh, eighth and ninth EDFs (15). The audit comprised an appropriate range of audit procedures designed to examine, on a test basis, evidence relating to the amounts and disclosures. It included an assessment of the accounting principles used, significant estimates made by management and the overall presentation of the consolidated accounts.

15. The observations regarding the legality and regularity of the underlying transactions, set out in paragraphs VIII to XI of the Statement of Assurance, are based on: (a) an evaluation of the supervisory and control systems at EuropeAid’s central services and in five Delegations (Ghana, Guinea Bissau, Niger, Madagascar and Sudan) covering six countries; (b) an examination in each Delegation visited of a statistically selected sample of transactions covering all domains except budget support. A total of 90 payments and 15 individual legal commitments were audited; (c) for budget support, an examination of 30 payments and 15 financial commitments statistically selected. This selection represents 46,0 % and 62,1 % of total budget support payments and financial commitments respectively. The examination consisted of a desk review and, for 8 payments, a further analysis in four of the countries visited (Ghana, Guinea-Bissau, Niger and Madagascar); (d) an examination of 30 statistically selected payments authorised by EuropeAid’s central services; (e) an examination of 30 statistically selected transactions already checked ex-post by EuropeAid’s central services; (f) an examination of 30 statistically selected financial commitments; (g) an examination of the Annual Activity Report and the declaration by the Director-General of EuropeAid and the procedure for preparing them.

Reliability of the accounts

16. As the Court already noted in its Annual Report on the EDF concerning the financial year 2006 (16), the accounting system used for the EDF does not have all the features necessary for efficient and effective reporting of economic information on an accruals basis. Consequently, the transformation of cash-based data into accrual-based annual accounts for the EDF requires extensive manual processing which increases the risk of error. Moreover, the financial impact of variations in currency exchange rates cannot be identified separately by the accounting system nor can it be extracted manually (17). The integration of the EDF into the accounting system already used by the Commission to account for budgetary expenditure was originally scheduled for 2006 but, due to technical difficulties, has been postponed on several occasions and is now planned for the start of 2009. 16. The introduction of the new accounting system as from 2009 will overcome current limitations. The manual processing is subject to rigorous controls in order to reduce risks. The current accounting system of the EDF does not provide for the identification of the financial impact of variations in currency exchange rates, but nevertheless the net result for the financial year 2007 includes the gains and losses due to exchange rate differences. Moreover only 9 % of payments are executed in currencies subject to exchange rate fluctuations. Therefore, the Commission does not consider these potential exchange differences to be material in relation to the accounts as a whole.

17. The annual accounts contain a provision for the costs incurred in the reporting period but for which no invoices have been received at the year-end. This provision is statistically estimated on a number of assumptions and amounts to 2 087 million euro, or 83 % of total liabilities. As the Court observed in its Annual Report on the EDF concerning the financial year 2006 (18), the validity of the assumption concerning the linearity of project expenditure has not been demonstrated by the Commission. The Court’s analysis (19) indicates that the method used by EuropeAid may lead to an understatement of accrued expenditure. It is however not possible to quantify the impact on the consolidated balance sheet at the end of 2007. 17. In 2007 the Commission further fine-tuned and improved its approach to calculating the provision by applying a specific implementation rate to each type of contract (grants, construction work, services and supplies). An individual analysis of each contract (there are around 8 000 ongoing contracts) would give rise to a disproportionate workload with respect to the mathematical approach currently used. The Commission plans to launch a study in order to reinforce the criteria used in this approach.

18. The amount of guarantees disclosed in note 1.4 to the financial statements was 1 004 million euro as at the end of 2007. The Court found that this amount is overstated by 4,1 %. 18. In 2007 the Commission made significant efforts to reinforce the quality of the information recorded in the accounting system. During the annual closure of accounts, additional verifications and corrections were made in order to establish the annual accounts. As a result, the impact on the annual accounts is very slight and is not considered to be significant.

Legality and regularity of the underlying transactions

Substantive testing of transactions

Project Commitments

19. The Cotonou Agreement (20) requires that financing agreements between the Commission and the ACP State or States concerned are drawn up within 60 days of the Commission's decision. The Court’s audit revealed that a significant number of financing agreements (eight out of 30 Commission decisions examined) were not signed by the recipient country within this time limit. 19. The Commission and the recipient countries have not breached the 60-day rule laid down in the Cotonou Agreement, since this rule concerns the drawing up and not the signing of the financing agreements. The deadline for signing financing agreements is 31 December of year n + 1, year n being the year in which the Commission's financial commitment was adopted (Article 54(2) of the Financial Regulation applicable to the 9th EDF). The Commission follows the diligent practice of not only drawing up but also signing almost all financing agreements within 60 days of its decision.

20. Frequent errors (five errors affecting four out of the 15 individual legal commitments checked) were found concerning the legally prescribed bank guarantees in support of tenders and contracts. In the case of one individual legal commitment, a derogation to tendering rules was given although the legal condition allowing this was not fulfilled. 20. The Commission considers that there is no financial risk since no payments are made before receipt of the bank guarantee. With regard to the derogation, the Commission considers that it was justified on the grounds of extreme urgency.

Project Payments

21. Out of eleven payments to UN organisations selected, the legality and regularity of two payments could not be fully audited because the Court could not obtain the underlying documentation from the UN organisations concerned (21). Therefore, the Court cannot conclude on the legality and regularity of these transactions. Furthermore, the Court draws attention to the fact that the audit of the other UN transactions was hampered by inadequate cooperation by the UN organisations and was eventually made possible only thanks to timely intervention by the Commission. 21. The Commission fully supports the Court's request for obtaining from UN organisations necessary supporting evidence, and this principle is clearly stipulated in the FAFA. As soon as the Commission was informed by the Court of difficulties encountered in this respect, it approached its counterparts at the UN in order to find a solution and to ensure that the Court received the information required.

22. The Court’s audit of payments authorised by Delegations and EuropeAid’s central services revealed a material level of error (27 errors affecting 24 out of 120 transactions examined) affecting the amount of the underlying transactions audited. Most of these errors are serious (22) and mainly concern: — the eligibility of the expenditure, such as payments made outside the permitted period, payment of VAT, payment in excess of the allowed budget and payment of types of expenditure not provided for by the contract (17 errors affecting 15 out of the 120 transactions examined); — prefinancing cleared although expenditure had not yet been incurred (six errors affecting six out of the 120 transactions examined); — payments of improper sums as a result of calculation errors, payment for quantities declared that did not correspond to reality and technical requirements for works not respected (three errors affecting three out of the 120 transactions examined). 22. The control system established by the Commission to verify the legality and regularity of the expenditure is based on the work of external auditors and supervisors and on internal controls. The Commission is aware that this system entails a certain residual risk of error. However, since it is impossible to verify all the transactions given the costs involved in such control measures, the Commission will continue to improve its system based on a cost/effectiveness ratio providing reasonable assurance.

23. Most of the errors should have been prevented or detected and corrected by the authorising officers before clearances of prefinancing or payments were authorised. Other errors are explained by inadequate controls carried out by supervisors or auditors. This indicates weaknesses in the supervisory and control systems (see paragraphs 32 to 47). While audits planned by the Commission might detect and correct some errors, the level of residual error is likely to remain material (see paragraph 39). 23. Most of the cases referred to relate either to payments made on the basis of an auditors' report and cost statements drawn up by the contracting authority, or clearances of advances that can subsequently be corrected.

24. The Court’s audit also revealed other recurring errors that may have an impact on the amount of the underlying transactions, mainly concerning legally prescribed bank guarantees and tender and contracting requirements (16 errors affecting 15 out of the 120 transactions examined). Errors which do not have an impact on the amount of the underlying transactions have also been identified, such as premature payments, the lack of visibility given to the EDF’s financial support and expenditure allocated to the wrong programme estimate (six errors affecting six out of the 120 transactions examined). 24. Two cases relate to extensions of guarantees covering contracts being performed. There was therefore no residual risk. In all the other cases, the guarantees were provided after the contract had been signed, but no payment was made before receipt of the guarantees. There was therefore no financial risk. In April 2008 the Commission published a manual on the visibility of the EU for external actions.

Budget support commitments

25. The Cotonou Agreement states that direct budgetary assistance (budget support) shall be granted where public expenditure management is sufficiently transparent, accountable and effective (23). The Commission interprets this condition dynamically (24). In its view, the weaknesses affecting public finance management at the time of the financing decision do not preclude the launch of a budget aid programme, provided that the will for reform exists and the reforms planned are deemed to be satisfactory. The European Parliament has questioned the Commission’s ‘dynamic interpretation’ of the eligibility criteria for budget support and stated that budget support should only be undertaken in countries that already meet a minimum standard of credible management of public finances (25). 25. The Commission is aware that the ‘dynamic interpretation’ approach has been questioned by the European Parliament in its review of the follow-up to the 2006 discharge recommendations, as noted in the Court's observations. Nevertheless, the Commission continues to consider that this approach is useful and appropriate on a country-by-country basis as it allows the Commission to better support improvements in Public Finance Management (PFM) systems and in so doing enhances the overall development impact of budget support for the beneficiary. Apart from being methodologically difficult, establishing ex-ante benchmarks applicable to all countries would reduce the Commission's capacity to support PFM reforms both where such benchmarks would not be met as well as where they would be met. The Commission's approach, therefore, focuses on a comprehensive diagnostic review using the Public Expenditure and Financial Accountability (PEFA) methodology, the need for a credible and relevant reform strategy and the monitoring of its satisfactory implementation. Thus, as most other donors (including the Bretton Woods Institutions), the EC uses the initial PFM diagnostic as the baseline against which progress is benchmarked in the implementation of the reform strategy. Whilst the Commission acknowledges that its assessments of PFM reform progress need to be more structured and formalised, it notes that the increasing evidence produced, as more PEFA assessments become available, will allow it to better inform its assessment of a country position and its pace of progress. Finally, the Commission recalls that eligibility is verified throughout all programme phases and that in the particular case of countries in fragile situations, the Commission manages the ensuing risks by typically requiring the existence of an International Monetary Funds (IMF) programme addressing basic issues such as cash management and treasury control.

26. The Court’s audit showed that in five out of the 15 commitments examined (26), budget support is provided to ACP States where the requirements of the Cotonou Agreement for public expenditure management to be sufficiently transparent, accountable and effective are not met. The Court found serious weaknesses in the internal oversight of the budget, accounting systems, public procurement or anti-corruption measures. Important matters of concern are the failure to produce timely audited accounts and the ineffectiveness of external control which, as the Court has already underlined, are essential to demonstrate transparency and accountability. Providing budget support in these conditions implies a very high fiduciary risk. In its Annual Report on the EDF concerning the financial year 2006 (27), the Court recommended that compliance with the Cotonou Agreement should be benchmarked against baseline requirements. This recommendation has not been acted upon. 26. The Commission does not agree with the Court's assessment regarding the four countries in question. As indicated in paragraph 25, all commitments in those States in fragile situations mentioned by the Court were made following an evaluation of sufficient positive progress in PFM systems, backed by IMF assessments. The countries concerned have subsequently continued to show progress in PFM and have remained on track for further budget support. The Commission did not understand the Court's recommendation as a request to set minimum standards applicable to all countries and, as outlined in paragraph 25, does not consider it appropriate. During 2007, the Commission continued to apply the dynamic approach, which it considers the appropriate one. Anti-corruption measures are analysed in the context of Financing Agreements (FAs) and monitored in the framework of Delegations' PFM Annual Reports.

27. In several cases (seven out of 33 financing agreements examined), provisions of the financing agreements for budget support were incomplete or unclear; they did not contain the general conditions for budget support, or ambiguously defined the method for the calculation of the amounts for disbursement; or referred to commitments made by government without defining a due date and the consequences when these commitments are not met. 27. The Commission invokes the legal application of the Cotonou Agreement in all its FAs and assessments of tranche releases. The Commission nevertheless recognises that it is preferable that the eligibility criteria are explicitly mentioned in financing agreements and the general conditions therein, in line with the Guidelines on the Programming, Design and Management of GBS (General Budget Support). The Commission will therefore seek to further improve the quality of financing agreements under the 10th EDF. On the establishment of dates for the assessment of disbursement conditions, the timing included in the FA is only indicative.

Budget support payments

28. The Court’s audit of budget support payments revealed a material level of error (four errors affecting four out of 30 payments examined) affecting the amount of the underlying transactions audited. The cases identified concern calculations of amounts for disbursement based on a positive conclusion as regards progress in public finance management which is not consistent with the underlying assessment of the situation and the use of a calculation method not provided for by the Financing Agreement. In three other cases, payments were made without up-to-date reports concerning public finance management being available. This implies a risk that eligibility conditions were not met. 28. In each of the four cases cited by the Court, the Commission sought to arrive at an informed decision based on a reasoned interpretation of the provisions of the respective Financing Agreements. In two out of the three cases (Botswana and Namibia) reports concerning the PFM situation were available in accordance with the guidelines on GBS, and eligibility was demonstrated. In the case of New Caledonia (2007BS-EE16) the commitments referred to by the Court are accompanying measures and not conditions for disbursement.

29. In a significant number of cases (six out of 30 payments examined), the Commission did not demonstrate in a structured and formalised way whether the payment conditions relating to public finance management were respected. Situations encountered include assessments of progress being unreasonably optimistic or based on outdated or inappropriate information, conclusions not supported by the underlying information, reliance put on future occurrences rather than on events that had taken place and the inaccurate appraisal of indicators. 29. The Commission agrees that it is necessary to demonstrate in a structured and formalised way that payment conditions related to PFM are respected. The primary tool used by the Commission to assess a PFM system is the PEFA assessment, which is complemented by other information on the most recent progress in PFM reforms (often in concert with other development partners). When making a payment, the Commission will base the decision on all the available information. In addition, Delegations are required to submit an Annual PFM Report, providing information on recent and planned reforms. Nevertheless, the Commission agrees that for some of the payments cited, Delegations could have been more explicit about the information they used to make their assessments. As regards the observation related to being unreasonably optimistic in making assessments, the Commission takes into account PFM progress being made, the credible and relevant commitment to future reforms, the results of dialogue with partner countries and development partners, and the provision of complementary assistance. Thus, the Commission balances the progress made, the political commitment to reform and the remaining areas of concern to arrive at an informed decision.

Activity Report by the Director-General of EuropeAid

30. The activity report by the Director-General of EuropeAid presents the policy achievements, the management performance of the services and the main results of the controls. The report also reflects the Commission’s follow-up of recommendations made by the Court of Auditors, the Internal Audit Service (IAS) and the Internal Audit Capability (IAC) of EuropeAid.

31. The activity report includes specific indicators concerning legality and regularity (28). The indicators do not however include financial information such as coverage of audits, error rates detected by the various controls, the amount of recovery orders issued and the amounts actually recovered. It is therefore unclear on what basis the Director-General of EuropeAid declared that he had obtained reasonable assurance that the control procedures put in place gave the necessary guarantees concerning the legality and regularity of the underlying transactions. The Court’s audit revealed a material level of error and weaknesses in the supervisory and control systems. 31. EuropeAid's AAR 2007 and its annexes included legality and regularity indicators as for instance the results of ex-post controls and the implementation of the Annual Audit Plans. Results of recovery activities carried out by EuropeAid services as well as of other controls were available to the Director General. The reasonable assurance of the Director General is not derived in a mechanical way from one single indicator. The declaration is based on the appreciation of a number of elements, including: regular management supervision activities, results of regular assessments of the functioning of the internal controls, regular reporting from the Authorising Officers by sub-delegation, implementation of the action plans stemming from the recommendations of the different control bodies, results of ex-post controls.

Supervisory and control systems

Overall control strategy

32. Following the Commission's Action Plan towards an Integrated Internal Control Framework and the Court’s recommendation (29) regarding the establishment of EuropeAid’s overall control strategy, the description of the key management and control systems has been developed in internal control templates included in the activity report by the Director-General of EuropeAid. Whilst this constitutes significant progress, it does not contain yet important elements such as key indicators supporting the level of assurance to be obtained, the coverage of some controls and the coordination between ex-ante and ex-post controls. 32. EuropeAid is committed to improve the presentation of these elements of its control strategy.

33. The number of Commission staff compared to the funds committed is decreasing (30). In addition, no significant increase of staff is foreseen despite the forecasted substantial increase of commitments under the 10th EDF. Whilst it is, of course, legitimate to assure an efficient use of human resources, there is a risk that shortage or inadequate distribution of staff or unavailability of specific skills and knowledge has an impact on the quality of the controls, verifications and monitoring. Concerns in this respect have been expressed by the European Parliament (31). In addition, the increase of budget support within the EDF creates the need for specific skills and knowledge, and the Court notes that EuropeAid’s Internal Audit Capability (IAC) has recommended that a human resources policy in relation to budget support is developed to incorporate objectives on numbers, skills and knowledge of budget support staff. 33. The Commission agrees with the Court that adequate staffing, both in terms of number and skills, represents a challenge.

Implementing organisations

34. The Court found that small entities which manage programme estimates (32), and beneficiaries of grant agreements are often characterised by weak internal control systems. These entities, for instance, often have no appropriate accounting system to record project expenditure. In addition, the audits mandated by implementing organisations often fail to detect issues affecting the legality and regularity of transactions. 34. To improve the quality of the internal control systems of the management units, the Commission has produced guides for them and provides regular training (in 22 countries in 2007). It is also studying the possibility of creating accounting and financial management tools for all users. Since February 2006, Terms of Reference concerning verification of expenditure have formed an integral part of grant agreements (Annex VII). The Terms of Reference strictly define the scope and methodology to be applied by the auditor authorised by the recipient organisation, and contribute to improving controls.

Supervisors

35. For important works, supply or service contracts, an external supervisor is designated to direct and/or monitor the execution of the contract. In some cases, the Court’s audit has shown that the quality of the controls carried out by supervisors was inadequate which affected the legality and regularity of transactions. 35. The Commission has asked its Delegations to reinforce control of the work carried out by supervisors. It will examine the possibility of introducing a mechanism designed to ensure that the quality of the controls carried out by the supervisors meets the requirements concerning the legality and regularity of transactions, and to increase the effectiveness of the supervisory tasks.

ACP States

36. The Commission continued its efforts to increase the capacity of the National Authorising Officer (NAO) administrations by providing technical assistance, equipment and training in order to enable effective control of EDF expenditure by NAO administrations. Nevertheless, the lack of involvement by the ACP States in many cases means that Delegations can place only limited reliance on the controls performed by the NAO administrations, resulting in a heavier workload for Delegation staff to ensure the adequacy of controls. 36. The Commission is continuing its assistance and training drive. In 2007, 1 430 participants from 22 ACP countries received full training on the EDF's financial and contractual procedures.

Authorising officers in Delegations and central services of EuropeAid

37. The Court found weaknesses in the quality of some of the checks made by authorising officers, notably in relation to the authorisation of clearances of prefinancing and the scrutiny of documentation justifying expenditure, including the work and results of auditors, as well as in the follow-up of audit findings. There is also an insufficient presence of Delegation staff in the field, for instance to monitor supervisors. 37. To ensure compliance with the provisions of the Financial Regulation relating to the validation of expenditure by the authorising officer, the Commission uses standard financial circuits and control lists for each transaction performed, thereby contributing to the standardisation and quality of the transactions. The Commission will remind authorising officers of the principles of clearance of advances. With regard to the monitoring of audits, the authorising officers are careful to issue recovery orders whenever necessary.

38. Audits of expenditure which are initiated by Delegations and EuropeAid’s central services and entrusted to private audit firms are a key component of the Commission's supervisory and control systems and are designed to contribute to the provision of assurance over EDF expenditure.

39. The annual audit plan contains mandatory and risk based audits. Due to insufficient documentation on the risk analysis, there is a lack of clarity over the process by which the risk analysis is performed and whether this process is consistently performed by Delegations. The overall level of implementation of the annual audit plan, specifically at Delegations, is low, at 55 % of all audits planned being started within the year, the others being postponed or sometimes cancelled. This is partly due to the Delegations’ limited capacity to organise and follow up audits. Furthermore, even when audits were launched, the cycle is a lengthy one with final reports being produced a significant amount of time after the expenditure has been incurred. Such weaknesses in the system may be to the detriment of the overall level of assurance available as compared with that which was planned. 39. The process by which risk analysis is to be performed is clearly indicated in the Operational Guidelines for the Annual Audit Plan and Risk Analysis. The Commission agrees that the process of the documentation of the risk analysis should be reinforced. The Annual Audit Plan identifies the audits to be launched, which are generally linked to the verification of project expenditure. Some of these audits will be launched and received in the same year (n + 1) while some others in the following year (n + 2), depending on the pace of implementation of the project/programme and the audit process itself. This results in adjustments to the initial plan, and each audit cancelled or postponed requires proper justification. This does not automatically imply that all the audits not started during the year are postponed. The implementation rate of the 2007 audit plan as results from such adjustments is 77 %. This is in line with previous years' plans, which have a life-cycle of 2 years. Assurance is guaranteed by the fact that no payment subject to an audit is executed before receiving and taking into account the results of such an audit.

40. The Commission has made an important step forward in the area of audits by issuing in October 2007 new terms of reference applicable to all audits. Though the effects of these have yet to be seen due to such recent implementation, there are positive signs that they should enable more consistent reporting from auditors, in particular with regard to the form of the audit opinion given and the materiality threshold which is applied.

Monitoring by the central services of EuropeAid

41. The main tool for monitoring the Delegations is the External Assistance Management Reports (EAMRs), six-monthly management reports prepared by the Delegations. They are a periodic information source which enables the devolved Delegations to send EuropeAid’s central services the most important items of information on internal organisation, project implementation and external audits. Subsequently, EuropeAid’s central services provide feedback to the Delegations. Issues regularly reported by Delegations concern the lack of capacity and resources at NAO administrations (see paragraph 36) and staff constraints (see paragraph 33).

42. There has been no centralised management information relating to the coverage and results of the audits initiated in 2007 by the Delegations. This means that the level of assurance that can be derived from these audits is much reduced compared with what could be obtained if a robust management information system were in place. An existing computerised tool, CRIS audit, has been modified in order to facilitate its use, which was made mandatory in January 2008. This recent implementation has not yet allowed for an assessment of its effectiveness but the signs that it will prove useful as a system for monitoring progress are positive. Certain refinements still need to be made to allow for the assessment of audit coverage of expenditure and the use of this system in collating, analysing and acting upon audit findings and recommendations to enable ongoing assessment of issues and to ensure that prompt and timely action is taken where necessary. 42. EuropeAid has developed appropriate tools to conduct audits while several mechanisms contribute to their quality control as well as to the consolidation and use of the systemic audit findings. The planning and follow-up of audit results are both ensured by the Delegations and Headquarters. No payment subject to an audit is authorised before receiving and taking into account the results of such audit. Results of previous audits are taken into account when establishing the Annual Audit Plan. EuropeAid follows the implementation of the AAP at central level and, since 2005, has been performing a review of audit reports issued during the year. The objective of this review is to contribute to the monitoring of audit activity at Headquarters and in the Delegations and to further improve the audit system based, inter alia, on an analysis of the typology of audit findings.

43. For years, audits mandated by EuropeAid’s central services have been subject to rigorous control and a synthesis report is produced annually to collate information from these with a view to putting in place improvements to systems where necessary. A similar exercise was undertaken during 2007 to address the audits mandated by Delegations which represent the majority of audits. The approach to this is methodical and covers main areas of interest, such as adherence to the terms of reference. The report produced contained much factual information on numbers and classification of findings.

Verification by the central services of EuropeAid

44. Verifications by EuropeAid’s central services include missions to verify the functioning of the Delegations’ internal control systems, transactional ex-post controls and audits initiated by EuropeAid’s central services.

45. In 2007, EuropeAid’s central services carried out one monitoring mission to a Delegation consisting of an examination of the set-up and functioning of the supervisory and control systems. The mission was well designed and provided practical recommendations for improvements to control systems but this is the only mission of this kind that has taken place. In 2007 EuropeAid was developing a standardised methodology for these missions. In this process, two pilot missions were carried out during which priority was given to operational issues rather than the functioning of the supervisory and control systems. 45. EuropeAid adopted a standardised methodology for these missions in March 2008.

46. EuropeAid’s transactional ex-post control system provides an effective mechanism for the identification of errors affecting formal aspects of transactions but is less effective at identifying errors which have an impact upon the amount of the payment. As mentioned in the Annual Report concerning the financial year 2006, the transactional ex-post control can therefore make only a limited contribution to the overall assurance on systems and procedures, and the legality and regularity of the underlying transactions. The Court’s review of a sample of transactions checked ex-post also revealed that these checks had in some cases not been appropriately documented, that some errors had not been detected and that findings were not always followed up in as timely a manner as they could have been. 46. Setting up a transactional ex-post control system and defining its characteristics are both based on an appreciation of residual risk and of the interaction with the other components of the control system. Ex-post transactional controls provide an additional layer of assurance for the appreciation of the elements which are subject to such control. This covers payments, recoveries and clearance of pre-financing transactions carried out by the Commission. The study of each transaction entails a systematic checking of the applicable contractual conditions. The documentation requested for each type of transaction selected is clearly set out in the ex-post transactional control manual.

47. Risk-based audits initiated by EuropeAid’s central services identify a high level of error. The documentation of the risk analysis is not sufficient to demonstrate that EuropeAid has selected all high risk subjects for audit. 47. The Commission agrees that the process of the documentation of the risk analysis should be reinforced.

Internal audit

48. The principal objective of EuropeAid’s IAC is to assess and evaluate the internal control system. The IAC performs its function effectively. The Court observes nevertheless that the risk analysis of the IAC does not sufficiently take account of EuropeAid’s risk register and that the audit programme is not sufficiently flexible to adapt to modifications over time of the perceived risk. In 2007, the IAC completed audits on budget support, pool and trust funds; the identification process; selected internal control standards in selected Delegations and risk management in Delegations as well as a number of follow-up audits. The conclusions of the IAC are generally consistent with the Court’s findings. 48. The IAC risk analysis forms the basis for its own annual audit plan. In addition, the risks in EuropeAid's risk register are considered in relation to the impact they have on the area to be audited. While the IAC risk register might consider an area to be high risk that area might not appear in the audit plan for a particular year because the business process is not yet within the working practice of the DG or the management cycle for certain programmes. The IAC risk register is updated several times a year to take into account any evidence of changes to the risk environment of EuropeAid.

49. The Commission's Internal Audit Service (IAS) carried out an audit on ex-post control activities (33) in EuropeAid. Its conclusions corroborate the Court’s findings regarding the overall control strategy (see paragraph 32) and the planning and monitoring of audits (see paragraphs 38 and 42). 49. The IAS audit was carried out at a time when the control strategy was being prepared for formalisation. Its conclusions could not take into account the developments that occurred afterwards.

50. The IAS also performed a final follow-up audit on NGOs funding in EuropeAid and an audit of the eligibility of costs under the financial and administrative framework agreement (FAFA) with the United Nations. The latter confirmed that the design of the FAFA is appropriate, but also that the control mechanisms still need to be effectively and further implemented at both project and partner levels, for instance by strengthening controls on payments and ensuring an appropriate coverage of verification missions (34). 50. Significant progress has been made by EuropeAid since completion of the IAS audits carried out in 2006 and the beginning of 2007 on the FAFA: — the formal analysis of the compliance of the UN agencies with the internationally recognised standards was conducted (97 % coverage), — in line with the increase in the Commission's contributions to the UN, there was a significant increase in the number of UN verification missions (39 in 2007 compared with 7 in 2005-2006), — the planning of these verifications is carried out annually, — their results are consolidated, — the Commission and the UN have signed common guidelines aimed at improving the quality of reporting.

Conclusions and recommendations

51. Based on its audit work, the Court concludes that EDF accounts for the financial year ending 31 December 2007 are, in all material respects, reliable but the Court draws attention to the observation in paragraph 17 concerning the provision for costs incurred.

52. Based on its audit work, the Court concludes that: (a) except for the effects of the matter described in paragraphs 19, 20 and 27, the transactions underlying the revenue and commitments of the EDFs are free from material error. Furthermore, the Court draws attention to the high fiduciary risk for the cases mentioned in paragraphs 25 and 26; (b) the transactions underlying the payments of the EDFs are affected by a material level of error.

53. The Court’s assessment of the supervisory and control systems for the European Development Funds is that they are partially effective. Table 3 gives an overview of the Court’s assessment of EuropeAid’s supervisory and control systems (35). 53. Given the financial and human resources available to it, the Commission considers that it has set up control systems which provide reasonable assurance.

54. EuropeAid has continued to remedy some shortcomings mentioned by the Court in its previous Annual Reports. EuropeAid has developed new terms of reference for audits and implemented a management information system, CRIS audit, relating to the coverage and results of the audits. The Court welcomes the efforts made by EuropeAid to develop a control strategy but there remains a lack of clarity as to the certain important elements, in particular concerning the coverage of some controls, the coordination between ex-ante and ex-post controls and key indicators supporting the overall assurance to be given by the Director General. 54. The Commission welcomes the Court’s recognition of the continuous progress made during the previous years.

55. There is a need to continue to pursue efforts to improve the design and/or implementation of some systems The following recommendations should be considered in this context: 55.

(a) EuropeAid’s control strategy should include key indicators supporting the level of assurance to be given by the Director-General, the coverage of some controls, the coordination between ex-ante and ex-post controls, as well as the human resources required; (a) EuropeAid is committed to improve the presentation of these elements of its control strategy.

(b) a review should be carried out to assess whether EuropeAid’s central services and the Delegations have the level and type of human resources required to ensure the quality of controls; (b) The Commission agrees with the Court that adequate staffing, both in terms of number and skills, represents a challenge and is ready to carry out the review.

(c) the management of implementing organisations should be better supported. This should involve greater presence of Delegation staff in the field, supporting accounting systems and training especially for projects implemented by programme estimates; (c) EuropeAid will develop several tools in order to improve the management of implementing organisations and will introduce new terms of reference for audits of new programme estimates.

(d) checks performed by the Delegations before authorising payments should better scrutinise the payment requests and intensify the focus on the reality, eligibility and accuracy of the expenditure. The quality of the work performed by supervisors and auditors should be better monitored; (d) To ensure compliance with the provisions of the Financial Regulation relating to the validation of expenditure by the authorising officer, the Commission uses standard financial circuits and control lists for each transaction performed, thereby contributing to the standardisation and quality of the transactions.

(e) the implementation of CRIS Audit should allow monitoring of the audit coverage and the audit results. Qualitative information as to the recommendations made and the improvements which should be put in place to address the findings is vital to ensure that the ultimate objectives of commissioning audits are met; (e) The entry into force of the new CRIS-Audit module on the 1 January 2008, by linking the amount of the contract to be audited to the audited amount, will facilitate the calculation of the audit coverage, as well as the analysis of audit findings, as per their typology. The Commission agrees with the Court's recommendation and yearly collates and analyses audit results with a view to learning lessons and to introducing appropriate improvements.

(f) transactional ex-post controls should include a better examination of supporting documentation to ensure that transactions are not affected by errors of eligibility and occurrence as well as to verify whether checks performed before the payment was authorised were adequate; (f) The Commission is continuously working to further improve its system and will pay specific attention to the issue of the detail of supporting documentation on programme estimates.

(g) the standardised methodology for monitoring missions should be finalised and the number of such missions increased. The new methodology should maintain the focus on the examination of the set-up and functioning of the supervisory and control systems. (g) EuropeAid adopted a standardised methodology for these missions in March 2008 and the number of monitoring missions is planned to be increased.

56. As regards budget support, the following recommendations should be considered: 56.

(a) compliance with the Cotonou Agreement should be benchmarked against baseline requirements, such as the availability of timely published and audited accounts, to be met before budget support is granted; (a) As stated in paragraph 25, as part of the dynamic approach, the Commission uses the initial PFM diagnostic and the programme of reform as the baseline against which progress is benchmarked on a country-by-country basis and considers the setting of common minimum standards to be uniformly applied for all countries as inappropriate.

(b) the performance indicators used should permit clear evidence of progress in public finance management to emerge where appropriate. This could be achieved by strengthening indicators which measure progress of results over time in combination with process indicators on the performance of one-off events; (b) Compared to other sectors, it is more difficult and complex to define result indicators for PFM. The Commission nevertheless favours the use of result indicators, where available, that measures the effect of reforms, but also uses process indicators and measures to monitor the progress in the implementation of reform programme.

(c) in order to set out its conclusions as regards progress in public finance management in a structured manner, the Commission should ensure that the data used as a basis for disbursement decisions is reliable and should rely more on measurements of events that have already taken place than on predictions of future occurrences; (c) When assessing eligibility, the Commission takes into account a balance between past performance and future commitments. At the same time, the Commission agrees that when assessing disbursements the emphasis should be placed on demonstrating achievements.

(d) EuropeAid should ensure, before the start of a budget support programme, that there is a clear and complete assessment of the public finance management and that the recipient country has a credible and relevant reform programme to address all significant weaknesses over a foreseeable timetable; (d) The Commission agrees that PFM systems need to be assessed before the provision of BS and the Commission prefers to carry out such an assessment within the PEFA framework. It is expected that in all countries receiving BS from the EDF, PEFA assessments will have taken place before the end of 2008. In most of cases, governments already have PFM reform programs in place which may have to be adapted according to the findings. In case new programs need to be drawn up, the Commission has to be convinced of the government's commitment to develop and implement required PFM reform measures, before BS is provided.

(e) the quality of Financing Agreements should be improved by including general conditions in all cases, unambiguous stipulations and clear requirements for progress of public finance management; (e) The Commission will seek to ensure that FAs will include General Conditions and that the assessment of PFM eligibility will be carried out in a structured and formalised manner. Specific PFM performance indicators within variable tranches need to be clear and precise allowing to measure progress over time.