Accounting experts from outside the Defense Department say getting the Pentagon ready to undergo an audit by a 2017 deadline is going to be a huge challenge. Challenging, but doable, as long as there’s continued pressure from the highest levels of the department.

DoD is one of only two cabinet-level agencies that hasn’t been able to get a clean audit opinion so far. Under current law, the Pentagon has to get its financial statements sufficiently squared away to withstand the scrutiny of outside auditors by fiscal year 2017.

And an even tighter deadline was put in place last month by Defense Secretary Leon Panetta, who came into office pronouncing his personal commitment to the issue. He’s told the department to be ready for a partial audit by 2014.

Need for leadership

On Thursday, a special panel of the House Armed Services Committee heard from three of the firms who are likely to participate in that audit. They all agreed that a DoD audit is achievable, as long as there’s sustained leadership commitment, and as long as auditability is something that people across the department are held accountable for rather than just the department’s financial managers.

“Cross-functional ownership at the senior levels cannot be forced by the chief financial officer,” said JoAnn Boutelle, a partner in the audit practice at Deloitte. “He’s a peer to many of the business leaders. This is a job for the secretary and the deputy secretary with tangible and measurable objectives. Secretary Panetta’s recent announcement that he is now personally involved in driving the department to audit readiness is a major signal that this is a top priority. But sustained participation is critical to reinforcing the message.”

Boutelle said there’s evidence, even within DoD itself, that leadership commitment can make a big difference.

“The Defense Information Systems Agency (DISA) started on a journey in 2005 to obtain an audit opinion on its financial statements. The DISA director became personally involved and drove those efforts. They successfully completed an audit of their working capital fund, and the ongoing involvement of the director was a major factor in their success,” she said.

There are other examples across the department of individual components coming up with clean audit opinions. Among them are the Army Corps of Engineers, the Defense Contract Audit Agency and the Defense Finance and Accounting Service.

Rocky road ahead?

But producing a clean audit on the scale of an enterprise the size of the Defense Department as a whole is a far different exercise, said Tracy Porter, a partner at Grant Thornton.

“Like almost every action DoD takes, its audit will be the largest audit ever undertaken,” she said. “In addition to large, the audit will be complex, because DoD’s operations span our nation’s history, while the focus on audit readiness is relatively recent. Unlike most companies undergoing an audit for the first time, DoD isn’t audit ready. The difference is the drive for profit. The profit drive engrains in private-sector personnel that without financial managers’ input to key business decisions, they don’t have adequate understanding of the availability of resources to carry out their operations. That way of thinking hasn’t been the government’s way of doing business. They just assume the funding will come.”

Porter said the road between now and 2017 will be rocky. That’s in part due to the fact that a lot of large enterprises enter into the audit process with unrealistic expectations about how easy the process might be. It’s important to temper those expectations, she said.

“Some of the expectations may derive from the term ‘audit-readiness,'” she said. “When laymen hear the term, they may assume it means an organization can obtain an unqualified opinion on its financial statements. But it often means the organization simply has enough evidence ready to submit to auditors’ scrutiny, even though the result may be a qualified opinion or a disclaimer. The past has shown that receiving a qualified opinion or a disclaimer is often the first step most federal agencies need to take before they really understand where the focus of their audit remediation efforts needs to be.”

Porter’s firm has been working for the Marine Corps in its effort to gain a clean opinion of its statement of budgetary resources, an accounting of available funds. She said it’s been a learning process for both sides. Her firm has learned a lot about how the Marine Corps does business, and the Marines, she said, have learned a lot about what professional auditors are looking for when they examine financial systems and processes — lessons they’re sharing with the other military services.

Mark Keeley, a partner at PricewaterhouseCoopers, said the current state of DoD’s financial systems isn’t a result of malice or apathy inside the Pentagon. It boils down to the fact that auditability is a relatively new idea in DoD, and it’s not what the military’s financial systems were designed for, he said.

“DoD did not intend to create the audit readiness challenges it has today,” he said. “DoD implemented processes and systems tailored for its overall functional mission. Audit readiness became an imperative after the fact. They need a new kind of thinking to address the requirements of an audit-ready organization.”

New way of thinking

That new thinking, he said, includes making sure that functional leaders across the department understand that audit readiness is their responsibility too, bringing in more trained CPAs with experience in financial statement audits, and a lot of hard work to reconfigure DoD’s financial systems so that they adhere to generally accepted accounting principles.

DoD currently has a mix of legacy accounting systems together with an estimated 2,200 enterprise resource planning systems across the various services and DoD agencies. The Department is trying to consolidate those systems, but Keeley said the sheer number of ERPs isn’t the problem. For accountants, it’s the fact that they often contain duplicative and inconsistent information.

“An auditor doesn’t know which one to choose,” he said. “If the business folks have data in a legacy system and an ERP system, it’s difficult to reconcile that information and then to nail down a population. We spend a great deal of time identifying the absolute population against which we can test. Less may be more, so I applaud the consolidation effort. But that’s a business decision. I don’t want an audit to impede the warfighting mission. If you really need 2,000 systems to conduct the mission, I can audit it.”

All three audit pros said they’re encouraged by the commitment they’re seeing in the department, especially at the leadership level, and that the DoD comptroller’s Financial Improvement and Audit Readiness plan is the right approach.

Despite the challenges, Porter said she thinks the current deadlines are achievable.

“I do think the goals are there, but I think the sustainment across the department at the lower levels so that it doesn’t go away when the secretary changes is critical,” she said. “Once you take the pressure of the audits off, they will immediately fall off to their old way of doing business. The way things are working right now isn’t yet engrained in the services.”

Keeley agrees DoD can pull it off, but he said the department will have to make sure it has the right workforce, one made up of CPAs who understand audits.

“There’s a strong work ethic throughout DoD,” he said. “But it comes down to pure judgment, and that only comes from experience. Judgment is critical to being able to test and execute and achieve the deadlines.”

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