In crisis situations, auditability matters more than ever

The Defense Logistics Agency (DLA) contends with multiple unpredictable factors, including cyber and digital threats, international supply chain and economic disruptions, protracted humanitarian crises, and more. Yet despite all that, the DLA must continue supplying essential supplies and material support to the Department of Defense (DoD) in accordance with its core mission.

The DLA is able to fulfill this mission, in part, by diversifying its supplier base and establishing robust contingency plans. However, strong financial management practices also play a key role.

Because the DLA manages the end-to-end global defense supply chain, financial auditability is a key focus. And while this term can cover many different things, a major part of auditability for the DLA is inventory and vendor management. The DLA needs to have full confidence in its internal controls to understand how much inventory it has, where supplies are at any given moment, and how it plans to get materials to the end destination. Of course, this is just part of the story.

While auditability is essential, it ultimately needs to reflect the rapidly-changing nature of real-world conditions. The DLA should be able to maintain the same level of auditability during emergent situations as it does during standard-issue operations. It takes a deep understanding of process, policy, and technology to make this possible.

What goes into a financial audit?

As with other DoD agencies, the DLA must meet joint general and application-level control requirements identified in the Financial Improvement and Audit Remediation (FIAR) Guidance and the Federal Information System Controls Audit Manual (FISCAM). As the name might imply, FIAR guidance is intended to help federal agencies achieve auditability while FISCAM represents a standardized methodology for performing information system (IS) control audits of federal and other governmental entities.

The DLA prepares corrective action plans (CAPs) to address findings (NFRs) identified by auditors. The auditors verify that internal controls are functional, rather than assessing the content of the CAP. The ultimate objective of the CAP is to enable the DLA to produce auditable financial statements. Financial audits typically consist of four stages: planning and risk assessment, internal control assessment, substantive testing, and reporting. During the second or third audit stage, the independent public accountant (IPA) evaluates the fiscal year-end inventory and tests any submitted DLA compliance assurance process remediation packages. This is done to address deficiencies or material weaknesses that were identified in previous audits.

Each audit phase can take anywhere from one to four months, with the ultimate goal being to identify any shortcomings in the DLA’s process that could hamper auditability moving forward. And because these audits take place on an annual basis, the DLA is constantly working to prepare for the next audit by addressing issues that were identified during previous years.

How can the DLA improve auditability moving forward?

The DoD as a whole has made progress towards a clean financial audit in recent years. During last year’s DOD-wide financial audit, the DLA was able to establish beginning balances and item counts for its stockpile of inventory, ultimately resulting in an inventory accuracy of 98%.

However, there’s also room for improvement. At present, the DLA has 19 material weaknesses across its three financial statements as well as four significant deficiencies and more than 400 audit findings. This represents a challenge during normal times, let alone crisis situations.

When unexpected situations arise, the DLA has to mobilize quickly to deliver necessary supplies. Take Russia’s ongoing war on Ukraine, for example. This conflict has led to a number of challenges for the DLA, including the need to consider cash flow estimates, asset impairments, modification of contracts, payments to contractors, and other issues related to the conflict. If the DLA does not have the proper process controls in place—or if its efforts are impeded by material weaknesses in its supply chain—that interferes with its ability to fulfill its core mission.

Technology drives innovation, but so does human expertise

Technology is one solution. For example, artificial intelligence (AI) can be used to analyze large datasets to identify patterns and trends that inform financial planning decisions. AI also comes into play when developing and managing risk models and contingency plans that can help agencies respond to unexpected financial demands. But there must also be room for human expertise.

Internal controls will continue to be a major focus for auditors in 2023, and agencies like the DLA will need to ensure that their systems of internal controls are robust enough to withstand geopolitical instability, economic uncertainty, supply chain disruptions, and more. Additionally, technological innovation becomes significantly less effective if proper change management processes are not uniformly implemented across the entire agency. Issues can also arise when new technology creates unintended consequences that the DLA didn’t anticipate.

Instead, the DLA needs an experienced financial management partner that can help them navigate audit results while creating a strategic plan for implementing process improvements moving forward. This will allow them to agilely respond to warfighter needs in a scalable and auditable way—during times of peace and times of crisis alike.

Contact us to learn how MDC’s financial accounting and management capabilities can help you create more auditable processes moving forward.

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