The CFO Act requirements have served as an important catalyst for focusing attention on the financial problems facing the Department. The regular preparation of financial statements and independent audit opinions, in particular, is bringing greater clarity to the scope and depth of DOD’s financial management problems and needed solutions. These annual public report cards also are generating increased pressure on DOD management to fix its long-standing problems. GAO performed the initial financial audit of the Army general fund operations under the CFO Act pilot program, as well as an early assessment of the Air Force’s ability to meet the act’s requirements. Also, we will soon release the results of our review of the Navy’s financial reporting. Throughout our audit work, we developed and maintained a close working relationship with the DOD Inspector General (IG) and the military services’ audit agencies. They have assumed responsibility for the audits of the Air Force and Army general funds over the past few years and have had responsibility for audits of the Department’s $80 billion Defense Business Operations Fund (DBOF) operations since 1992. I want to commend the DOD audit community for its continuing strong support of the CFO Act. We are particularly encouraged that the DOD Inspector General and the military services’ audit organizations recently pledged substantial resources to meet the expanded requirement for an audit of DOD’s fiscal year 1996 consolidated financial statements resulting from passage of the Government Management Reform Act of 1994 (GMRA). Since 1990, we and the DOD auditors have made over 350 recommendations to help resolve the financial management weaknesses identified throughout the Department. These audits have consistently identified fundamental deficiencies in the Department’s financial operations. A brief recap of the recurring issues identified by these audits follows. Serious problems in accounting for billions of dollars in annual disbursements. Without the proper matching of disbursements with obligations there is substantial risk that (1) fraudulent or erroneous payments may be made without being detected and (2) cumulative amounts of disbursements may exceed appropriated amounts and other legal limits. CFO Act audits have shown that DOD has paid billions of dollars without being able to determine exactly what was purchased. Also, financial audits of the Air Force and Army have shown that existing controls could not be relied on to ensure that DOD did not spend more than it was authorized—a basic fund control responsibility. Similar problems were disclosed in our recent review of the Navy. As of August 1995, DOD reported that its problem disbursements totaled about $28 billion. Of this amount, $16 billion, or 58 percent, of the problem disbursements had remained unresolved for at least 180 days. As we discuss later in this statement, DOD is taking steps to begin to address this issue. Also, we recently reported that DOD could not rely on its own financial data to detect errors in payments made to contractors. For example, in one case, a $7.5 million overpayment was outstanding for 8 years and might not have been recovered if the contractor had not notified DOD of the overpayment. When such overpayments were identified, DOD did not always properly try to recover those overpayments, costing the government millions of dollars in additional interest. Not identifying and disclosing future government costs. Financial audits have reported that DOD has not properly reported billions of dollars in potential future liabilities. Most of these future costs are associated with outstanding legal obligations, or with environmental cleanup costs at military installations, including bases that have been or will be closed. This problem was found in both the Army’s and Air Force’s financial statements. For example, a fiscal year 1994 Army Audit Agency report disclosed that the Army did not properly report an estimated $21 billion in potential future costs the government may incur for the cost of environmental cleanup. The Air Force Audit Agency’s fiscal year 1994 financial audit of the Air Force also identified almost $28 billion of previously undisclosed contingent liabilities for items such as contract appeals and civil law and litigation claims. Breakdowns in the Department’s ability to protect its assets from fraud, waste, and abuse. CFO Act audits have highlighted continuing problems in overseeing DOD’s multibillion dollar investment in government furnished property and equipment in the hands of contractors, real property, and inventory and equipment. For example, our report on Army real property disclosed instances in which real property maintenance requirements for some installations were understated, while other installations’ requirements were overstated. In March 1995, the Army Audit Agency continued to report on breakdowns in the process to ensure the accuracy of accounting for the Army’s reported $30 billion investment in real property. The same report indicated that the Army did not have accurate records for its reported $8.5 billion investment in government furnished property in the hands of contractors. As a result, relying on contractors’ reporting of government furnished property in their possession, the Army increased its accounting records by $5.6 billion for fiscal year 1994. Continuing problems in reliably reporting on the cost of its operations. Reliable cost information is necessary for the Congress to make sound budget decisions and is a key to achieving the Department’s goal of reducing the cost of its operations. However, financial audits have demonstrated DOD’s inability to accurately record and report costs. For example, we reported that the life cycle support costs reported to decisionmakers in DOD and the Congress for modifications to the Blackhawk and Chinook helicopters were understated by at least $3.6 billion. Reliable cost information is also vital for DBOF to operate as intended on a break-even basis. However, the amount of DBOF’s net operating results for fiscal year 1994 differed by an estimated $4.4 billion between its financial and budgetary reports. As a result, it was unclear if DBOF operated at a gain or a loss, or whether it “broke even.” Beginning in fiscal year 1996, the Navy’s general fund operations, for the first time, will be subject to audit under the expansion of the CFO Act requirements enacted by GMRA. We reviewed the Navy’s fiscal year 1994 financial reports as a measure of the Navy’s current ability to prepare reliable financial statements. In our soon-to-be-issued report, we conclude that, to an even greater extent than the other military services, the Navy is plagued by troublesome financial management deficiencies involving billions of dollars. We found that the Navy’s financial reports were of little value in assessing its operations or the execution of its stewardship responsibilities. We identified substantial misstatements in almost all of the Navy’s major accounts and $225 billion in errors in the Navy’s fiscal year 1994 financial reports. For example, our findings included the following. As of August 31, 1995, the Navy’s problem disbursements had grown to $18.6 billion and accounted for 67 percent of DOD’s total problem disbursements. DOD has reported to the Congress and the President that from October 1992 through July 1995, the Navy had 15 violations of the Antideficiency Act totaling about $87 million. Navy and DOD managers did not have sufficiently reliable information to know whether, in fiscal year 1994, Navy’s DBOF activities operated at a gain or a loss, or whether they broke even as intended. Of the $80 billion in revenue for fiscal year 1994, the Navy’s DBOF activities accounted for $23 billion. Further, since the inception of DBOF in fiscal year 1992, the DOD Inspector General has not been able to render a favorable audit opinion on DBOF’s financial statements. Navy managers did not consider all excess inventory in their budgetary and procurement decision-making. For example, not all of Navy’s excess inventories of about $400 million accumulated from the overhaul and decommissioning of ships and submarines were considered in developing its fiscal year 1996 budget request. As a result, we reported that the Navy’s fiscal year 1996 budget request could be reduced by $38 million. We found the Navy’s financial reporting problems could be attributed in part to the long-standing failure to instill discipline in its financial operations and follow basic procedures. For example, rudimentary controls, such as ensuring the conduct of periodic physical inventories, reconciling related accounts and records, documenting adjustments, and reviewing abnormal account balances, were not routinely carried out. We also found flaws in Navy and DOD controls relied on to secure their vast automated data processing operations. For example, we identified weaknesses in restricting access to sensitive data and in ensuring continuity of computer operations in the event of a catastrophe or other emergency. Such deficiencies increase DOD’s exposure to security breaches that could result in the loss of assets or leaks of sensitive information, such as payroll data. The Navy, along with DOD, has not taken full advantage of the 5 years since the CFO Act’s passage, or the lessons learned from the experiences of the other services in preparing financial statements. They must now “play catch up” and earnestly counteract these serious problems through measures that will lead to successfully preparing reliable financial statements on the Navy’s operations within the next year. Our planned reporting on our Navy work will detail recommendations to the Secretaries of Defense and the Navy to help correct the problems we identified. In laying out his “Blueprint” for reforming the Department’s financial management operations in February 1995, Secretary Perry took a first step towards resolving the Department’s long-standing problems. The following five areas were key elements of that blueprint: (1) consolidate finance and accounting operations, (2) consolidate finance and accounting systems, (3) establish pre-validation for disbursements, (4) reengineer DOD business practices, and (5) strengthen internal controls.