[Senate Hearing 108-660]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 108-660

  THE FEDERAL GOVERNMENT'S FINANCIAL STATEMENT AND ACCOUNTABILITY OF 
  TAXPAYER DOLLARS AT THE DEPARTMENTS OF DEFENSE AND HOMELAND SECURITY

=======================================================================

                                HEARING

                               before the

     FINANCIAL MANAGEMENT, THE BUDGET, AND INTERNATIONAL SECURITY 
                              SUBCOMMITTEE

                                 of the

                              COMMITTEE ON
                          GOVERNMENTAL AFFAIRS
                          UNITED STATES SENATE


                      ONE HUNDRED EIGHTH CONGRESS

                             SECOND SESSION

                               __________

                              JULY 8, 2004

                               __________

      Printed for the use of the Committee on Governmental Affairs



                    U.S. GOVERNMENT PRINTING OFFICE
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                   COMMITTEE ON GOVERNMENTAL AFFAIRS

                   SUSAN M. COLLINS, Maine, Chairman
TED STEVENS, Alaska                  JOSEPH I. LIEBERMAN, Connecticut
GEORGE V. VOINOVICH, Ohio            CARL LEVIN, Michigan
NORM COLEMAN, Minnesota              DANIEL K. AKAKA, Hawaii
ARLEN SPECTER, Pennsylvania          RICHARD J. DURBIN, Illinois
ROBERT F. BENNETT, Utah              THOMAS R. CARPER, Delaware
PETER G. FITZGERALD, Illinois        MARK DAYTON, Minnesota
JOHN E. SUNUNU, New Hampshire        FRANK LAUTENBERG, New Jersey
RICHARD C. SHELBY, Alabama           MARK PRYOR, Arkansas

           Michael D. Bopp, Staff Director and Chief Counsel
      Joyce A. Rechtschaffen, Minority Staff Director and Counsel
                      Amy B. Newhouse, Chief Clerk

                                 ------                                

     FINANCIAL MANAGEMENT, THE BUDGET, AND INTERNATIONAL SECURITY 
                              SUBCOMMITTEE

                PETER G. FITZGERALD, Illinois, Chairman
TED STEVENS, Alaska                  DANIEL K. AKAKA, Hawaii
GEORGE V. VOINOVICH, Ohio            CARL LEVIN, Michigan
ARLEN SPECTER, Pennsylvania          THOMAS R. CARPER, Delaware
ROBERT F. BENNETT, Utah              MARK DAYTON, Minnesota
JOHN E. SUNUNU, New Hampshire        FRANK LAUTENBERG, New Jersey
RICHARD C. SHELBY, Alabama           MARK PRYOR, Arkansas

                   Michael J. Russell, Staff Director
              Richard J. Kessler, Minority Staff Director
            Nanci E. Langley, Minority Deputy Staff Director
                       Tara E. Baird, Chief Clerk


                            C O N T E N T S

                                 ------                                
Opening statements:
                                                                   Page
    Senator Fitzgerald...........................................     1
    Senator Akaka................................................     4

                               WITNESSES
                         Thursday, July 8, 2004

Hon. David M. Walker, Comptroller General, U.S. Government 
  Accountability Office..........................................     6
Linda M. Springer, Controller, Office of Federal Financial 
  Management, U.S. Office of Management and Budget...............     9
Donald V. Hammond, Fiscal Assistant Secretary, U.S. Department of 
  the Treasury...................................................    11
Lawrence J. Lanzillotta, Acting Under Secretary of Defense 
  (Comptroller)..................................................    24
Francis E. Reardon, Deputy Inspector General for Auditing, U.S. 
  Department of Defense..........................................    26
Gregory D. Kutz, Director, Financial Management and Assurance, 
  U.S. Government Accountability Office..........................    28
Andrew B. Maner, Chief Financial Officer, U.S. Department of 
  Homeland Security..............................................    28
Clark Kent Ervin, Inspector General, U.S. Department of Homeland 
  Security.......................................................    30
McCoy Williams, Director, Financial Management and Assurance, 
  U.S. Government Accountability Office..........................    31

                     Alphabetical List of Witnesses

Ervin, Clark Kent:
    Testimony....................................................    30
    Prepared statement...........................................   229
Hammond, Donald V.:
    Testimony....................................................    11
    Prepared statement...........................................    95
Kutz, Gregory D.:
    Testimony....................................................    28
    Prepared statement...........................................   195
Lanzillotta, Lawrence J.:
    Testimony....................................................    24
    Prepared statement with attachments..........................   102
Maner, Andrew B.:
    Testimony....................................................    28
    Prepared statement...........................................   223
Reardon, Francis E.:
    Testimony....................................................    26
    Prepared statement...........................................   176
Springer, Linda M.:
    Testimony....................................................     9
    Prepared statement...........................................    89
Walker, Hon. David M.:
    Testimony....................................................     6
    Prepared statement...........................................    45
Williams, McCoy:
    Testimony....................................................    31
    Prepared statement...........................................   245

                                APPENDIX

Questions and Responses submitted for the Record from:
    Mr. Walker...................................................   260
    Mr. Springer.................................................   269
    Mr. Hammond..................................................   278
    Mr. Reardon..................................................   279
    Mr. Kutz.....................................................   284
    Mr. Maner....................................................   289
    Mr. Ervin....................................................   290
    Mr. Williams.................................................   297
Chart of a Memorandum for Under Secretary of Defense from Paul J. 
  Granetto, CPA, Director, Defense Financial Auditing Service of 
  an Independent Auditor's Report on the Department of Defense 
  Fiscal Year 2003 Agency-Wide Principal Financial Statements....   304
Chart entitled ``DOD Financial Management: Systemic Examples of 
  Waste''........................................................   307
Chart entitled ``DOD Financial Management: Operational and 
  Security Impacts...............................................   308

 
  THE FEDERAL GOVERNMENT'S FINANCIAL STATEMENT AND ACCOUNTABILITY OF 
  TAXPAYER DOLLARS AT THE DEPARTMENTS OF DEFENSE AND HOMELAND SECURITY

                              ----------                              


                         THURSDAY, JULY 8, 2004

                            United States Senate,  
                  Financial Management, the Budget, and    
                     International Security Subcommittee,  
                  of the Committee on Governmental Affairs,
                                                     Washington, DC
    The Subcommittee met, pursuant to notice, at 10:32 a.m., in 
room SD-342, Dirksen Senate Office Building, Hon. Peter G. 
Fitzgerald, Chairman of the Subcommittee, presiding.
    Present: Senators Fitzgerald and Akaka.

            OPENING STATEMENT OF SENATOR FITZGERALD

    Senator Fitzgerald. This Subcommittee hearing will come to 
order. I would like to welcome our witnesses for being here 
today.
    Today, the Subcommittee is conducting a hearing on the 
Financial Report of the United States and the accompanying 
audit of the report conducted by what used to be known as the 
General Accounting Office, but which as of yesterday has 
officially been renamed the Government Accountability Office. 
But it still has the same acronym, GAO. We congratulate the GAO 
on their official name change.
    The hearing also will focus on the financial management of 
two departments: The Department of Defense, which was one of 
three Federal agencies to receive a disclaimer in fiscal year 
2003, and the Department of Homeland Security, which the GAO 
listed on its high-risk list, citing a number of major 
management challenges and program risks.
    This administration and the Federal agencies are making 
significant strides to improve their financial management. In 
testimony before the House earlier this year, Comptroller 
General Walker indicated that agencies made laudable progress 
in expediting the preparation of their annual financial 
statements. Mr. Walker noted that eight agencies submitted 
their fiscal year 2003 financial statements in November, less 
than 2 months after the close of the fiscal year.
    In her House testimony, Ms. Springer indicated that the 
administration's goal of shortening the time for agencies to 
prepare audited financial statements from 5 months to 45 days 
after the end of the fiscal year was achieved by a third of the 
major agencies a year in advance of the new deadline.
    Yet billions of American tax dollars are wasted by fiscal 
mismanagement, fraud, and abuse. A review by the Congressional 
Research Service of selected estimates of Federal Government 
savings indicates that more than $55 billion could be lost each 
year from improper payments paid by the Federal Government, the 
lack of adequate financial and inventory controls at the 
Department of Defense, and waste in other government agencies. 
This staggering amount is greater than the gross national 
product of over 80 countries around the world.
    This is not a trickle of coins. It is a deluge of dollars 
that is costing our government its fiscal integrity. Instead of 
disappearing into the abyss of government balance statements, 
this money should be equipping our troops in the war on terror, 
or securing our homeland from attacks, or being used for any 
other number of very worthy causes, or returned to the 
taxpayers, for that matter.
    For the seventh year in a row, the GAO was unable to audit 
the Federal Government's fiscal year 2003 consolidated 
financial statement for three primary reasons. First, serious 
financial management problems continue to exist at the 
Department of Defense. Second, the Federal Government is unable 
to account for billions of dollars of transactions between 
Federal Government entities. And third, the Federal 
Government's process for preparing the consolidated financial 
statements is ineffective.
    The government's consolidated financial statement fails to 
account for a $24.5 billion shift in net position. The amount 
of this so-called plug in their financial statements is up from 
a plug of $17 billion in fiscal year 2002. Imagine they just 
come up with a number, and plug in $24.5 billion to make the 
balance sheet match. In the private sector, a company with a 
big plug in its financial statements probably couldn't get any 
credit from a bank, nor would the Securities and Exchange 
Commission ever allow such a company to sell its shares to the 
public. Yet we apparently tolerate this kind of plug, amounting 
to billions and billions of dollars every year, with our own 
Federal Government.
    In fiscal year 2003, 20 of the 23 Federal departments 
covered by the Chief Financial Officers Act received an 
unqualified or clean audit opinion on their financial 
statements. The Department of Defense, the Small Business 
Administration, and NASA each received disclaimers. A 
disclaimer is given when an agency's financial records are so 
unreliable that an audit simply cannot be conducted, and for 
that disclaimer of the DOD, we have put up a chart showing the 
inability to conduct an audit at the DOD because the books and 
records are in such disarray that heads or tails cannot be made 
of those statements.\1\
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    \1\ The chart referred to appears in the Appendix on page 304.
---------------------------------------------------------------------------
    I commend Secretary of Defense Donald Rumsfeld for placing 
financial management reform on his list of top ten priorities 
at DOD. In fact, I remember talking to him on the day he was 
sworn in. He is from my home State, and I thought, if anybody 
is tailor made to bang heads together and get this problem 
fixed, it is Secretary Rumsfeld. I know of no one tougher or 
more qualified for that task. I shudder to think that if 
Secretary Rumsfeld is having a hard time getting it done, how 
are we ever going to get this done? It is such a monumental, 
daunting challenge.
    It is daunting because the Department has over 2,200 
financial management systems, many of which are redundant or 
are not integrated, and this has led the GAO to list DOD's 
financial management and business system modernization on its 
high-risk list every year since 1995.
    Today, we will hear from the GAO about specific examples of 
wasteful programs that are linked to DOD's financial 
management, and we have a second chart that should give you an 
idea of what these programs are. For example, the chart at the 
end of the dais--and there are two of them, one so that the 
audience can see over there and one so that Senators can see 
over here--the chart highlights some of these examples.\1\
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    \1\ The chart referred to appears in the Appendix on page 307.
---------------------------------------------------------------------------
    Failed business systems--apparently, DOD spent $179 million 
on two financial accounting systems, and then decided that they 
didn't work and just terminated the projects with no resultant 
benefit to the taxpayers or the government. One-hundred-and-
fifteen million dollars on thousands of unused airline tickets 
valued at up to $9,800 each. One-hundred-million dollars for 
the failure to collect unpaid Federal taxes from DOD 
contractors. Many people with contracts or companies with 
contracts from the DOD were continuing to get payments on their 
contracts even though they weren't paying taxes they owed to 
the Federal Government. And $34 million annually required to 
reconcile contract payments. DOD does not have an integrated 
system, apparently, to reconcile contract payments with 
contracts. Therefore, it is a labor-intensive process to issue 
contracts and record then in the payment system.
    In all, those examples total over $400 million alone.
    In addition to lost dollars, inadequate financial and 
inventory management also undermines DOD's operations and the 
security of our troops, and for that, we have another chart at 
the end of the dais. This chart reflects the GAO's findings of 
pay problems in the Army Guard that impact morale and 
retention; the inability to locate more than 250,000 defective 
chemical and biological safety suits; improper granting of 
security clearances; and the public sale of sensitive biotech 
equipment.\2\
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    \2\ The chart referred to appears in the Appendix on page 308.
---------------------------------------------------------------------------
    And now, beneath that sheet, we have on display an actual 
chem-bio suit from the defective lot that the GAO found DOD had 
distributed to combat soldiers, possibly to soldiers in Iraq, 
as well as local law enforcement agencies. When the suits were 
found to be defective, DOD could not recall all of them due to 
insufficient inventory controls. Additionally, the next 
generation of this chem-bio suit was available for purchase on 
e-Bay for $3 when, at the same time, DOD was purchasing the 
same suit for more than $200. Not only is this wasteful 
spending, but this error places our soldiers and local law 
enforcement officials at risk.
    During the hearing by our full Committee in May of last 
year, I asked Homeland Security Secretary Tom Ridge about his 
plans to ensure sound financial management of his new 
Department and he assured the Subcommittee that this was a top 
priority. Since then, DHS has made significant progress in 
integrating its 22 component agencies and implementing its 
budget of $33 billion. We must, however, work to ensure that 
Homeland Security does not evolve into another DOD, where audit 
disclaimers are the norm and inventory controls are lacking.
    Unfortunately, the first warning flags are waving on the 
homeland security front. The Washington Post reported last 
November that State and local governments had used Federal 
homeland security dollars to fill perceived budget holes, 
including procurement of janitorial services, rather than to 
fund critical homeland security needs.
    The Department of Homeland Security is the only cabinet 
department not yet subject to CFO Act requirements, but is 
required under the Accountability of Tax Dollars Act to prepare 
and have audited financial statements. Last year, Senator Akaka 
and I introduced S. 1567, legislation that would apply the CFO 
Act to the Department of Homeland Security. The Senate passed 
this legislation and the House is expected to pass its version 
in the near future. We look forward to hearing from our 
witnesses on their views regarding the importance of applying 
the CFO Act to DHS.
    Publicly traded companies are held to the highest level of 
scrutiny and financial accountability in order to ensure that 
accurate financial information is presented to shareholders. 
The Federal Government should be held to the same level of 
accountability and provide accurate financial information to 
its shareholders, the American taxpayers.
    This is not an idle exercise in arcane accounting 
procedure. Every dollar lost to waste, fraud, or abuse or 
mismanagement is a dollar that could have been used to fight 
terrorism at home and abroad. Inefficiency makes us all less 
safe.
    Before we hear from our first panel, I would like to 
recognize the Subcommittee's Ranking Member, Senator Akaka, for 
an opening statement. Senator Akaka.

               OPENING STATEMENT OF SENATOR AKAKA

    Senator Akaka. Thank you very much, Mr. Chairman. I 
appreciate you holding today's hearing to review the recent 
Federal financial audits of the Departments of Defense and 
Homeland Security. I also want to thank our distinguished 
witnesses for their testimony and for the efforts they are 
making in this regard. Mr. Chairman, I want to tell you that I 
admire you for moving into this area and I want you to know I 
am on your side.
    Just a little over 3 months ago, the Armed Services 
Readiness Subcommittee held a similar hearing. As that panel's 
Ranking Member, I had the opportunity to discuss with 
Comptroller General Walker the shortcomings in the financial 
management systems at DOD. The General Accounting Office issued 
its fiscal year 2003 audit of the government's consolidated 
financial statement in February. Although noting progress with 
Federal financial management activities, GAO has also found 
continuing ``significant material weaknesses or deficiencies,'' 
in the government's consolidated statement for the seventh 
consecutive year. Among the three top factors contributing to 
these deficiencies are the serious financial management 
problems in DOD.
    Mr. Chairman, it is disturbing that little has changed at 
DOD. Since 1995, the Department's financial management has been 
on GAO's high-risk list and has failed to develop an enterprise 
architecture blueprint for its business systems even though DOD 
said the blueprint would be in place by March 2003.
    To address these fundamental problems, the National Defense 
Authorization Act of 2003 required DOD to develop and implement 
a new financial management architecture and transition plan by 
early 2004. To date, DOD does not have a blueprint. I am 
hopeful that today's hearing will help the Department of 
Homeland Security avoid the financial management problems and 
resistance to change that plagues the Department of Defense.
    Mr. Chairman, you and I have worked together to increase 
the transparency, timeliness, relevancy, and usefulness of 
financial information in the mutual funds industry to protect 
investors. In a similar fashion, we understand that until the 
agencies get their financial houses in order, the government 
cannot manage effectively.
    Congress and the American taxpayers have the right to know 
how much Federal agencies spend on providing essential 
services, how an agency has spent its appropriated funds, and 
whether there are unspent monies left in the pipeline.
    Capturing accounting data is the easy part. What is hard is 
how to integrate financial data with management systems that 
are flexible enough to adapt to changing goals and priorities. 
You and I share the belief that our focus should be not only on 
what has gone wrong, but on how we can move forward in a 
constructive way to address the underlying problems.
    In fiscal year 2003, the authorization for both the 
Departments of Defense and Homeland Security totaled $487 
billion, or 22 percent of the Federal budget. Given that 
fighting terrorism and the war in Iraq will continue to 
dominate other budget priorities, we must fully understand why 
DOD and DHS are encountering difficulties in reconciling their 
annual statements. Failing to do so will limit our ability to 
make sound budgeting decisions in the future. Moreover, without 
improving financial management systems, there will be further 
incidents such as when the Bureau of Immigration and Customs 
Enforcement at DHS imposed a hiring freeze because its 
financial management system indicated current and projected 
spending would exceed its budget.
    We are faced with enormous financial challenges which 
demand timely and accurate financial data in order to instill 
accountability and ensure Federal programs are executed in the 
most effective manner.
    The establishment of DHS was the largest government 
reorganization since the late 1940's. I commend DHS for meeting 
the challenges of starting a new Department. However, the 
consolidation of the legacy agencies into one Department has 
resulted in a non-integrated financial management system which 
puts the entire Department at risk.
    I support putting DHS under the Chief Financial Officers 
Act, which is why you and I introduced legislation last year to 
do that. Widening the scope of DHS's financial regulations 
would improve the agency's ability to manage effectively and 
efficiently the inherited financial activities of its legacy 
agencies and those unique to its new organization.
    This is what we are looking at at this hearing. I want to 
thank our witnesses and look forward to their testimonies. I 
know you all will be helpful to us. And I want to thank you, 
Mr. Chairman, again for this hearing and for what you are 
doing.
    Senator Fitzgerald. Senator Akaka, thank you very much.
    I would now like to introduce our first panel of witnesses. 
Our first witness on this panel is the Hon. David M. Walker, 
Comptroller General of the United States. Mr. Walker began his 
15-year term as the Nation's Chief Accountability Officer and 
was appointed in 1998 as head of the U.S. General Accounting 
Office, now referred to as the Government Accountability 
Office. Through his role as Comptroller General, Mr. Walker 
oversees the GAO's work to improve the performance and 
accountability of the Federal Government, including measures to 
improve the efficient use of taxpayer dollars.
    Our second witness is the Hon. Linda M. Springer, 
Controller of the Office of Federal Financial Management at the 
Office of Management and Budget, the OMB. Ms. Springer was 
confirmed in this position on March 31, 2003, after having 
joined OMB in September of 2002. In her role as Controller, Ms. 
Springer provides governmentwide leadership for strengthening 
the financial management of the Executive Branch, including the 
Improved Financial Performance Initiative of the President's 
Management Agenda.
    Our third witness is Donald V. Hammond, Fiscal Assistant 
Secretary at the Department of the Treasury. Mr. Hammond has 
served in this capacity since September 27, 1998, after serving 
as the Deputy Fiscal Assistant Secretary since July 1996. In 
his current position, Mr. Hammond is responsible for management 
of the government's cash flow and the operation of 
governmentwide financial accounting and reporting systems, 
including the consolidated financial statements of the United 
States.
    Again, I would like to thank you all for being here today, 
and recognize, please, that your prepared statements will be 
submitted in the Subcommittee's official record of this 
hearing, and please feel free to summarize your remarks off the 
top of your head if you feel able to do that. If you could try 
and keep your remarks to 5 minutes, we would appreciate it.
    Comptroller General Walker, thank you.

TESTIMONY OF HON. DAVID M. WALKER,\1\ COMPTROLLER GENERAL, U.S. 
                GOVERNMENT ACCOUNTABILITY OFFICE

    Mr. Walker. Thank you, Mr. Chairman and Senator Akaka. It 
is a pleasure to be back before you. I would like to thank both 
of you at the outset for your support of the Human Capital 
Reform Act of 2004 for GAO, which was signed by the President 
yesterday. It is really going to help us and I appreciate your 
support.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Walker appears in the Appendix on 
page 45.
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    I also would like to thank you for holding this oversight 
hearing. Candidly, there is not enough oversight being done in 
a number of areas. There is not enough attention being placed 
on the importance of sound Federal financial management 
practices, and I want to commend you and thank both of you for 
taking time out of your very busy schedules to conduct this 
hearing and be here today.
    As you mentioned, Mr. Chairman, as in the six previous 
years, or otherwise for the seventh year in a row, certain 
material weaknesses in internal control and selected accounting 
and reporting practices resulted in conditions that did not 
allow the GAO to express an opinion on the consolidated 
financial statements of the U.S. Government. We did perform a 
number of audit procedures, and fairly extensive audit 
procedures, in conjunction with the auditors of various 
departments and agencies, but certain impediments were there 
that have been there for a number of years that prohibited us 
from being able to express an opinion.
    While the Federal Government has not yet been able to 
prepare auditable financial statements, the requirement imposed 
by the CFO Act and others Acts for there to be annual audits 
has yielded important results to date. We have seen continuous 
improvement and significant progress with regard to the number 
of agencies that have been able to achieve clean opinions on 
their financial statements, but more importantly, we have seen 
a continuous improvement among most Federal agencies in their 
ability to generate timely, accurate, and useful financial 
information to make informed decisions on a day-to-day basis.
    In that regard, in fiscal 2003, as was the case in fiscal 
2002, 20 of the 23 CFO Act agencies were able to obtain an 
unqualified opinion on their financial statements. That is up 
from six agencies in 1996. However, only 3 of those 20 agencies 
met the more substantive definition of success in financial 
management that has been agreed to by the Director of OMB, the 
Secretary of the Treasury, and myself as Comptroller General of 
the United States, namely that not only do you have a clean 
opinion on your financial statements, but you have no material 
control weaknesses, no major compliance problems, and systems 
that provide for timely, accurate, and useful information to 
make sound management decisions on a day-to-day basis. Only the 
Energy Department, the National Science Foundation, and the 
Social Security Administration met that more substantive test, 
and I would like to congratulate and acknowledge the efforts of 
all three of those agencies.
    As you mention, Mr. Chairman, there are three major 
impediments to the ability of the GAO to express an opinion on 
the consolidated financial statements of the U.S. Government. 
First and foremost, serious financial management problems at 
the Department of Defense, which is the largest agency in the 
Federal Government.
    Second, the Federal Government's inability to fully account 
for and reconcile transactions between various Federal 
Government entities. And third, the Federal Government's 
process for preparing the consolidated financial statements, 
which can result in the plug that you referred to.
    The fact of the matter is, significant progress is being 
made on No. 2 and No. 3. Some progress is being made on No. 1. 
But that is the big challenge and we are not going to be in a 
position to express an opinion on consolidated financial 
statements until the DOD issue is dealt with, and that is by 
far the most complex challenge that remains before us.
    Mr. Chairman, irrespective of where we stand on financial 
management with regard to current and past activity engaged by 
the Federal Government with taxpayer money, I think it is also 
important that we start looking from a more strategic 
perspective. There is a problem with regard to how the Federal 
Government currently keeps score, both for accounting and 
reporting standpoint and also from a budgetary perspective. The 
simple fact of the matter is, if you look at the consolidated 
financial statements of the U.S. Government as of September 30, 
2003--and this chart shows various related numbers. There are a 
lot of numbers up here, so I will try to hit the bottom line.
    It will show you that since the beginning of the Republic 
in 1789, we have run up about $7 trillion--that is a ``T'' as 
in trillion, 12 zeros--in total debt, debt held by the public 
as well as debt held by the ``trust funds,'' like Social 
Security and Medicare. And yet what it doesn't show adequately 
is that we have a number of significant commitments and 
contingencies that we have already made that are not shown as 
liabilities for various reasons but yet are very real, for 
example, the difference between the projected cost in 
discounted present value dollar terms of Social Security and 
Medicare and the amount of payroll taxes and other premiums 
that we expect to receive.
    If you look at how much money we would have to have today 
invested at Treasury rates to deliver on the promises that have 
already been made, it is really not $7 trillion, it is more 
like $42 trillion. That is over three-and-a-half times the 
entire economy, about 18 times the current Federal budget, over 
$140,000 for every man, woman, and child in the United States.
    Senator Fitzgerald. Isn't it $32 trillion?
    Mr. Walker. Forty-two trillion plus.
    Senator Fitzgerald. Forty-two?
    Mr. Walker. That includes the $7 trillion. And of that $42 
trillion, roughly $27 to $28 trillion is Medicare, and of that, 
roughly $8 trillion is the new prescription drug benefit.
    So the bottom line is, we have a number of commitments and 
contingencies that already exist that we are going to have to 
come to grips with, and the way that we look at things from a 
budgetary standpoint is problematic because 10-year horizons 
are simply not adequate given the demographic challenges that 
we face. This chart represents the result of the most recent 
long-range budget simulation by GAO, which shows that we face 
large and growing structural deficits due to a number of 
factors, including known demographic trends and rising health 
care costs.
    And in the final analysis, Mr. Chairman, the Congress is 
going to have to review and reform basic entitlement programs, 
look at the base of discretionary and other spending, and look 
at tax policy in order to close this gap. But that is going to 
take a concerted effort by a variety of parties over a number 
of years.
    So in summary, Mr. Chairman, progress clearly has been 
made, in large part due to the acts that Congress took in the 
1990's to legislative important management reforms, not just in 
the financial management area but other areas, to bring good 
management practices, if you will, to the Federal Government. 
Progress has been made. It is continuing to be made. The big 
challenge is the Department of Defense. We are committed to 
doing our part to try to help, not only deal with financial 
management challenges, but also the imbalances that lie before 
us, and I look forward to working with you, Senator Akaka, and 
others to address these challenges.
    Thank you, Mr. Chairman.
    Senator Fitzgerald. Thank you, Mr. Walker. Ms. Springer.

   TESTIMONY OF LINDA M. SPRINGER,\1\ CONTROLLER, OFFICE OF 
  FEDERAL FINANCIAL MANAGEMENT, U.S. OFFICE OF MANAGEMENT AND 
                             BUDGET

    Ms. Springer. Thank you, Mr. Chairman and Senator Akaka. I 
am happy to be here today with you to discuss our Financial 
Report of the U.S. Government for Fiscal Year 2003 and other 
related financial management issues. I look forward to sharing 
with you some of the significant progress made by Federal 
agencies during the past year that underlies that report and 
positions it for the future.
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    \1\ The prepared statement of Ms. Springer appears in the Appendix 
on page 89.
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    Financial management extends beyond receiving an 
unqualified audit opinion. Integrity and reliability, the 
things to which a clean audit attests, should be a given. First 
class financial management requires the integration of the 
financial impact of an agency's activities into the 
operational, execution, and senior management decisionmaking at 
an agency, just like it does in the private sector. It is 
accompanied by accountability standard setting, performance 
tracking, and other analyses. These are among the 
characteristics we should seek in the Federal Government, every 
bit as much as we do in the private sector.
    Only a few short years ago, such a standard was not 
prevalent in the Federal Government. Through the President's 
Management Agenda, the Office of Management and Budget has set 
what many view to be very aggressive goals to achieving 
respectability in the government's financial management 
practices. It is not surprising that this results-focused 
approach, while acknowledged to be a positive influence, has 
forced significant and challenging process modifications at 
many agencies. The degree of transformation reflects just how 
far we have had to go to catch up to accepted practices of 
well-run financial management organizations in the private 
sector.
    So the question is, are these efforts that we describe 
paying off? Well, the answer is an indisputable yes. Where it 
took agencies 5 months to prepare audited financial reports in 
the past, it now takes 45 days for many and only 2\1/2\ months 
for most. Agencies are building on momentum from our fiscal 
year 2003 reporting acceleration successes to achieve the 
mandatory November 15 reporting date for fiscal year 2004. 
Interim financial reports were unheard of before 2002 and they 
are now being completed by 21 days after the close of each 
calendar quarter.
    It is often said that these achievements are only achieved 
by--or these accomplishments are only achieved by heroic 
efforts, and hard work is always a factor, but these results 
are really a tribute to detailed planning, to effective 
management, and excellent execution.
    While the acceleration targets are critical, they are not 
our ultimate objective. Rather, the discipline and improved 
control needed to accelerate financial reporting is only the 
foundation for ensuring the availability of useful financial 
information. The incorporation of timely and accurate financial 
information into management decisionmaking and operational 
assessment continues to be our main goal.
    Progress toward this goal during fiscal 2003 was shown by 
the addition of two agencies, the Social Security 
Administration and Environmental Protection Agency, that 
achieved green status under the financial initiative of the 
President's Management Agenda. These agencies were later joined 
by the Department of Education in the first quarter of 2004. 
Today, not only do the managers in these agencies have timely 
and accurate information, but they are using it for their 
program assessment and for their planning.
    I wanted to say here that if you have accurate and timely 
financial information, and you really need to have both, you 
are able to do those things. If you have accurate information 
but it is too late to use it, then it is worthless. If it is on 
time but it is inaccurate, you had better not be using it. So 
you really need to have both accurate and timely information. 
We believe that meeting timely reporting standards and getting 
clean audits is evidence that the agencies will have that 
information for their management and their decisionmaking.
    The mandatory financial reporting date of November 15 will 
require much work from the agencies this year. However, this 
accelerated deadline is an attainable goal, shown by the large 
number of major agencies, over 75 percent, that were able to 
report their financial statements by the end of December last 
year. So they have made significant progress. They have a 
little bit further to go. In those cases, strong agency senior 
leadership, careful planning, innovative thinking, and focused 
efforts were all necessary elements for success.
    This fiscal year, we are meeting regularly with each CFO of 
the agencies as well as their IGs to review plans for hitting 
their November deadlines. Clearly, some agencies have more 
challenges and obstacles than others, but all agencies are 
expected to take necessary steps to meet the accelerated date.
    Some of the best practices that agencies are implementing 
include disciplined processes and audit schedules, aggressive 
tracking and issue resolution in risk areas, reengineering of 
their financial reporting processes and their audit processes, 
early and frequent communication with their auditors from that 
opening conference on day one at the beginning of the year 
right on through, and focused financial management priorities.
    So we will continue to work and we meet with the high risk 
agencies on a monthly basis from now right up through November 
15.
    There are some emerging issues that I would like to share 
with the Subcommittee briefly. Internal control--the internal 
control environment of any entity is an area of focus both for 
management and for the auditor, and the agencies of the Federal 
Government are no exception. There are several existing laws 
that govern agencies in assessing and representing the quality 
of their internal control. However, not all agencies are able 
to provide the positive assurance that goes with those 
requirements. But all continue to make progress in eliminating 
barriers to compliance. Many of these are longstanding system 
issues that will take a period of years to require full 
remediation.
    However, what you should know is that both OMB and the CFO 
Council and the Inspectors General are working together today 
to review the internal control challenges and what the best way 
is to close the gap between where we stand today and a 
Sarbanes-Oxley type of management control environment.
    The other issue I would like to bring to your attention in 
the emerging category is related to unfunded liabilities and 
social insurance scrutiny. As mentioned by Comptroller General 
Walker, this is an area of high concern and FASAB, the Federal 
Accounting Standards Advisory Board, has taken some steps 
already to increase audit scrutiny and the prominence of the 
social insurance statements within the Government's 
Consolidated Financial Report. So in the future, you will see 
that in a more prominent position in the statement. It will 
become one of the basic statements and it will receive full 
audit scrutiny. So that is a step toward having information 
that is certified in a way that we can make the right policy 
decisions about funding.
    So our outlook for the future, to summarize, is that we 
have seen many achievements in the past year, but there remains 
a long way to go. We will continue to set and achieve higher 
standards of performance dealing with issues like asset 
management, elimination of improper payments, and many other 
areas that we believe to be fertile ground. It is our opinion 
that the Federal Government should be held to as high, if not a 
higher, standard than financial management in the private 
sector, and I was happy to hear you, Mr. Chairman, say the same 
thing.
    American citizens don't have the option of taking their 
investment elsewhere. They have to pay their taxes. So we owe 
them the highest level of scrutiny and management of the 
taxpayer dollars that they have entrusted with us. We believe 
it is incumbent on every financial professional in the 
government to execute their duty according to those standards 
of excellence, and that is what we are striving to do. We have 
made some progress and we are going to continue on that path. 
Thank you.
    Senator Fitzgerald. Ms. Springer, thank you very much. Mr. 
Hammond.

TESTIMONY OF DONALD V. HAMMOND,\1\ FISCAL ASSISTANT SECRETARY, 
                U.S. DEPARTMENT OF THE TREASURY

    Mr. Hammond. Mr. Chairman, it is my pleasure today to 
represent the Treasury Department to discuss the status of the 
Federal Government's financial reporting, and in particular the 
Financial Report of the U.S. Government. We have come a long 
way in the 7 years that we have prepared this report, but we 
face some significant challenges, and as such, the financial 
report is indeed a work in progress. My written testimony today 
explains more fully the challenges we face.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Hammond appears in the Appendix 
on page 95.
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    The Committee's interest today, however, is very important 
because this is an area, as the Comptroller General has pointed 
out, that needs continuing scrutiny. The Treasury Department 
has a longstanding responsibility and commitment to report 
accurate and useful information about the Nation's finances. 
Our objective in preparing the consolidated financial 
statements is to provide the Congress and the public with a 
reliable, consistent, timely, and useful report about the costs 
of the government's operations, the sources used to fund them, 
and the implications of its financial commitments.
    I am pleased that last year, we were able to release the 
report a month earlier than in prior years. That accomplishment 
is due in large measure to the progress that the agencies have 
made in accelerating their financial reporting. For the 2004 
statements, as you have already heard, OMB has requested that 
the agencies prepare statements by November 15 and the 
governmentwide statements will be issued by December 15, based 
on those agencies' submissions. This more timely preparation of 
the Consolidated Report means that the financial information 
will be available prior to the release of the President's 
budget and providing actual data on an accrual basis for 
reference in those discussions.
    The financial report is an important addition to Federal 
financial reporting. It provides an across-the-board look at 
the Federal Government, computed in accordance with accrual 
accounting standards established by independent Generally 
Accepted Accounting Principles, or GAAP. The report goes beyond 
simple reporting of results, as it displays the effects of all 
significant assets, liabilities, stewardship responsibilities, 
and other commitments and responsibilities. The considerable 
financial implications of the government's social insurance 
programs--Social Security and Medicare in particular--are 
reported in the stewardship accounting.
    The report is subject to audit by the GAO, and although the 
report has improved over the years as we have strived to make 
it more useful, the GAO has been unable to render an opinion on 
the financial statements. For the 2003 report, as has been 
noted today, GAO cited three principal reasons for the 
disclaimer. As the next panel will no doubt discuss, the DOD 
has displayed a strong commitment to correct its extensive 
financial management problems through a comprehensive financial 
management modernization program. Therefore, I will focus my 
remarks on the two other material weaknesses.
    We have a number of initiatives underway to resolve the 
material weaknesses and to improve the government's management 
and accountability. The Financial Management Service, 
Treasury's bureau responsible for governmentwide accounting 
operations, is making real progress. We have been focusing on 
the problem of intergovernmental activity and balances and are 
devoting much attention to help agencies fully reconcile these 
areas through the development of a new analytical tool and 
increased reporting frequency. I am optimistic that the 
reporting for the quarter ended June 30 will show significant 
further improvement.
    However, I must note, there is not a single centralized 
system solution to the problem of intergovernmental balances. 
Each agency's management must make it a priority to improve the 
agency's data quality, reconcile amounts with their trading 
partners, and adhere to the standard business rules issued by 
OMB for processing intergovernmental transactions. This is 
basic to accurate and consistent financial reporting.
    With regard to the report preparation weakness, we are 
addressing each of the three aspects. For the unexplained 
transactions that affect the change in net position and that 
require us to use a reconciling entry, or plug, in the 
financial statements, we believe the larger problem has its 
roots in the intergovernmental balances, but we are also 
employing other analytical techniques because we believe that 
there may be some activity related to custodial revenues 
reported by the agencies.
    As a result, we are taking those various components apart 
and hoping to be able to understand more fully the causes of 
that issue as we understand the intergovernmental balances, as 
well as how certain custodial revenue may be reported.
    As to the need to directly link agencies' audited financial 
statements with the data used for compiling the governmentwide 
reports, FMS is completing the implementation of a new closing 
package system. This new system will provide a clear audit 
trail that will facilitate the audit of the financial report 
and demonstrate that it is consistent with the underlying 
information in agencies' audited financial statements. We are 
also addressing the process to ensure that the notes or 
disclosures in our report are in compliance with GAAP.
    In summary, I look forward to meeting the new due dates 
this year, but I recognize the difficulties involved. We are 
dealing with a new central reporting process and are working 
with agencies whose financial reporting is not yet where it 
needs to be to meet these dates. That being said, I visualize 
the day when we have fully achieved more timely reporting and 
can obtain the full value of financial reporting by having 
reports that are truly useful. Usefulness is the final element 
of effective financial reporting. Financial reports should 
provide relevant financial and performance information that not 
only supports management decisionmaking, but also informs the 
public. Herein lies the greatest challenge and potentially the 
greatest benefit from our financial reporting.
    We have come a long way. Our upcoming challenges are 
significant, but manageable, and I am confident that we will 
continue to see real progress. Thank you, Mr. Chairman, and 
that concludes my remarks.
    Senator Fitzgerald. Thank you. I want to start with a 
question that takes a little bit of heat off of the Executive 
Branch of Government. Mr. Walker, right now, there are no 
audits of the Legislative or Judicial Branches of Government, 
are there?
    Mr. Walker. Well, there are audits of many Legislative 
Branch entities. For example, GAO has an audit. Several of the 
other Legislative Branch agencies also have audits.
    Senator Fitzgerald. Does the Senate or the House have an 
audit?
    Mr. Walker. It is my understanding that the House does have 
an audit. The Senate does not have an audit. However, the 
Senate is trying to take steps right now to explore the 
possibility of voluntarily doing an audit, even though they are 
not required to by law.
    Senator Fitzgerald. How about the court system?
    Mr. Walker. No. They are not required, and I think the 
Administrative Conference of the Courts is obviously the entity 
that is the most logical one to take a look at, if Congress 
decides to pursue such a requirement.
    Senator Fitzgerald. Since nobody is auditing that co-equal 
branch of government called the Judicial Branch, it is just not 
being audited?
    Mr. Walker. That is my understanding, Mr. Chairman.
    Senator Fitzgerald. And the Senate and the House, the House 
is maybe auditing itself? Do you get to review those audits or 
comment on those?
    Mr. Walker. They are not material to the consolidated 
financial statements. I mean, we have the ability to do it. We 
do not perform that audit ourself, and for a variety of 
reasons, I don't think it would be appropriate for us to do 
that.
    Senator Fitzgerald. Maybe because we control you. 
[Laughter.]
    Mr. Walker. It would be challenging to audit individual 
offices of Senators and Members of Congress. Let us just say 
that would be something we would prefer not to have to do 
directly ourselves.
    Senator Fitzgerald. I understand. Let me ask you this about 
the consolidated financial statements of the U.S. Government. 
Do you put figures in there representing the Legislative and 
Judicial Branches of Government?
    Mr. Walker. That is correct. We do, Mr. Chairman.
    Senator Fitzgerald. And where do you get those figures?
    Mr. Walker. We get them based on information that they 
report. I mean, many entities will report information, but that 
information may not be audited.
    Senator Fitzgerald. OK.
    Mr. Walker. And Don may want to comment, since he is 
responsible for the consolidated financial statements.
    Mr. Hammond. What we use is primarily the budgetary 
information for those three entities, combined with the audited 
financial reports for the components of the Legislative Branch 
that do prepare statements, such as the General Accounting 
Office, or, I am sorry, the Government Accountability Office--
it will take me a little while to get used to that one--as well 
as the Library of Congress.
    The Administrative Office of the U.S. Courts for the 
Judicial Branch is a particular challenge, because even there, 
the extent of the budgetary information is even more limited 
than what we receive from the Legislative Branch. We don't 
believe that those are particularly material balances. That 
being said, we would like the report to be complete and we 
would also like to be able to establish the significance of 
those amounts.
    Senator Fitzgerald. At future hearings, perhaps, this 
Subcommittee, I hope, will take up that issue.
    Are you putting accrual figures in this consolidated report 
for unfunded liabilities? Is it appropriate to say that this 
report is prepared in conformity with accrual accounting?
    Mr. Walker. It is based upon accrual concepts, and I think 
it is important to note that substantial progress has been made 
over the last several years to enhance the transparency and 
also the accountability associated with some big numbers, for 
example, Social Security and Medicare commitments. I am pleased 
to say that several years ago, the Federal Accounting Standards 
Advisory Board created a separate statement that included 
discounted present value numbers for these programs for the 
first time. They subsequently made it a primary financial 
statement, or basic financial statement, and it is now going to 
be subject to audit. So that is tremendous progress, if you 
will, and it is using accrual concepts, which I think is 
important.
    Senator Fitzgerald. And are you looking at the assumptions 
used in coming up with those accrual numbers and checking them 
to make sure that they are reasonable?
    Mr. Walker. We look at the methodology that is employed, 
whether or not that methodology is generally accepted. We look 
at the reasonableness of the assumptions. And as you know, Mr. 
Chairman, in the case of Social Security, Social Security 
Administration is audited, I believe, by 
PriceWaterhouseCoopers, and in the case of CMS, which is 
responsible for Medicare, I believe they are also audited by 
PriceWaterhouseCoopers.
    Senator Fitzgerald. That is where those unfunded 
liabilities are--it is PriceWaterhouseCoopers for the Social 
Security unfunded liability. Are they coming up with that 
number?
    Mr. Walker. They are working with the actuaries for the 
Social Security Administration as well as the actuaries for the 
Center for Medicare and Medicaid Services.
    Senator Fitzgerald. OK.
    Mr. Walker. They need to satisfy themselves, and we 
obviously have to satisfy ourselves to the extent that we are 
going to be in a position to express an opinion. But as I 
mentioned before, unless and until the Department of Defense 
gets its act together, and they are working hard to try to do 
that, we are not going to be in a position to express an 
opinion on the consolidated financial statements.
    Senator Fitzgerald. OK, and I will get to the Department of 
Defense in a moment, but in your consolidated financial 
statement, I think there is some point at which you discuss the 
explicit debt per American, our national debt per American, and 
I think it is some $7,000. But then when you factor in the 
unfunded liabilities, the debt per American citizen is really 
closer to $100,000.
    Mr. Walker. Well, it depends on how you look at it, Mr. 
Chairman. Using the most up-to-date numbers, if you look at the 
per capita burden, if you will, and that is what I would call 
it, a burden, per American based upon the total debt, which is 
around $7 trillion as of this point in time, that is about 
$24,000 for every man, woman, and child in the United States. 
If you add on top of that not just the results of historical 
activity but also what the difference is between how much we 
have promised and the revenues that we have dedicated to meet 
those promises for things like Social Security and Medicare and 
you calculate the gap today, the burden goes from about $24,000 
per person to over $140,000 per person.
    Senator Fitzgerald. Over $140,000?
    Mr. Walker. That is correct.
    Senator Fitzgerald. OK. And you are not talking per family, 
you are talking per person?
    Mr. Walker. Including the newest newborn.
    Senator Fitzgerald. So that is a big number. Now, with 
respect to the DOD, what are we going to do about the DOD? This 
is apparently just a humongous problem that we are having a 
hard time getting our arms around. I remember Secretary 
Rumsfeld when he first inquired about this issue when he first 
took over, even before he was sworn in. I think he had talked 
to the accounting people at DOD, and they had told him that 
their accounting system was designed not really to do financial 
accounting, but it was more designed so that they could tell 
Members of Congress what projects they were doing in each of 
their districts. It was a whole mess, and the whole system 
needs to be revamped.
    Ms. Springer, in your judgment, are we making progress 
there, and how long will it take? This has been going on a very 
long time now, since the requirement of audited financials was 
put in place. Was that 1995?
    Ms. Springer. Ninety-six.
    Senator Fitzgerald. Ninety-six. So we are talking 8 years 
or so. We still can't get it right. When do you think we will 
be able to get it right at DOD?
    Ms. Springer. I don't know what the date is, and I would be 
interested in what your next panel tells you the date is, and I 
hope you ask them that same question----
    Senator Fitzgerald. They are going to be asked, yes.
    Ms. Springer. But what I believe is going on there at DOD 
and where I think they should head next is the following. There 
is a huge effort, their overall business modernization program 
that I am sure they will tell you more about. But what doesn't 
get much publicity is some of the smaller issues and efforts 
that deal with specific line items, for example, on their 
balance sheet.
    One area--88 percent of their liabilities, I believe, or 
somewhere in that range--deals with post-retirement benefit 
liabilities. They have gotten, I think, roughly half of that to 
the point where it would get a clean opinion, if it were 
subject to an audit today. That kind of thing doesn't make the 
headlines, post-retirement benefit liabilities and the opinion 
on that. But they are working through various line items on 
their balance sheet at the same time that they are doing this 
huge, mammoth, overall reengineering process.
    We believe that filling the under secretary position, CFO 
position, comptroller position at the Department of Defense is 
critical for that effort to get back on track, in my view, and 
continue to make progress.
    Senator Fitzgerald. That position is vacant now?
    Ms. Springer. There is a nominee that has not been 
confirmed, and we believe there is a leadership issue. They can 
have all the project managers in the world on this project----
    Senator Fitzgerald. How long have they had that situation?
    Ms. Springer. Since Dr. Zakheim left, I think, roughly in 
the spring. And I don't know what the prospects are, but I 
believe that when you have a leadership void, if you will, or 
an empty slot in a very key position, and Dr. Zakheim gave very 
significant motivation and leadership there, forcefulness, I 
think that the project suffers, frankly.
    Senator Fitzgerald. So right now, they are without a 
general in their war on cleaning up their accounting mess.
    Ms. Springer. You can ask them if they feel that way----
    Senator Fitzgerald. OK.
    Ms. Springer [continuing]. But I believe that it has an 
impact.
    Senator Fitzgerald. OK.
    Ms. Springer. I also believe that the Department needs to 
take a step back and carve out some pieces of that effort, 
maybe certain components or certain projects or certain issues 
to work at in a more concentrated way with their auditor and 
their Inspector General to try and make progress on those 
smaller pieces. It is a huge mountain to move and I think that 
is why it is difficult to show progress. I think it would be 
helpful to pick certain components where you can maybe get some 
hits.
    Senator Fitzgerald. Does OMB lean on the DOD in this area?
    Ms. Springer. I am working right now with other parts of 
OMB, the ``B'' side of the house, if you will, to come up with 
some recommendations and we plan to meet with DOD shortly. This 
would be news to your second panel that we are starting to 
think this way.
    Senator Fitzgerald. OK.
    Ms. Springer. It is not to take any emphasis off their 
existing project, but we believe that maybe some sub-segments 
of that might be helpful to address.
    Senator Fitzgerald. Now, Mr. Walker, if DOD were at least 
able to get a qualified opinion, would that enable you to do a 
consolidated financial statement that would be auditable?
    Mr. Walker. Depending upon the nature of the qualification. 
If they could get to a qualified opinion and we could get 
comfortable as to the basis for that qualified opinion, that 
could put us in a position to issue a qualified opinion on the 
financial statements as a whole. I doubt very seriously that if 
they have got a qualified opinion that we would get to the 
point of being able to issue an unqualified opinion on the 
overall financial statements.
    I would say, if I can, Mr. Chairman, I think this is very 
important, since DOD is really the biggest challenge that we 
face, several comments for your consideration and Senator 
Akaka's. I think it is going to take several things to get them 
to where they need to be.
    First, they have to have commitment from the top and it has 
got to be a priority----
    Senator Fitzgerald. Do you think that commitment is there 
at the Secretary's level?
    Mr. Walker. Yes. I do believe it is there and I want to 
note that for the record. I do believe the Secretary is 
committed. I do believe that the key players who are in place 
are committed. There are, however, some critically vacant 
positions right now. For example, the Under Secretary and 
Comptroller position is vacant. Without the person who is on 
the point, responsible and accountable, you are not going to 
make much progress, quite frankly.
    Second, I think they are going to need some additional 
resources. They are going to need some new talent within DOD. 
They are also going to need some contractor assistance to be 
able to get this done. They also need to complete a plan for 
how they are going to get from where they are today----
    Senator Fitzgerald. Couldn't they have just contracted out 
this whole thing to fix this?
    Mr. Walker. Well, in theory, you could, but there are a 
number of major challenges there. There are independence 
issues. There are so many of the major firms that have done 
work in the Department of Defense in the financial management 
area that they may not be deemed to be independent under 
Generally Accepted Government Auditing Standards, and we are 
working in a constructive way with the Inspector General, who 
is assuming responsibility for this audit and who will have 
significant contractor assistance, to help sort through those 
issues.
    There is no way that the IG can do it by themselves, and 
quite frankly, it would be difficult for any one firm to do it 
by themselves because the DOD is one of the largest and most 
complex entities on the face of the earth, if you looked at it 
as a separate enterprise by itself. But they have to have a 
plan, and on that plan to recognize that they are going to go 
from no opinion to a qualified opinion to an unqualified 
opinion. In that regard, they should do it in a matrix fashion. 
By that I mean, recognize that they need to look at various 
entities or units, and try to get clean opinions on certain 
units, and then they need to look horizontally on functional 
activities and line items, as was mentioned, to try to get them 
to where they need to be.
    Senator Fitzgerald. Would you be able to suggest what parts 
of DOD are particular problems in this regard, or do you have 
an idea?
    Mr. Walker. Well, frankly, their problems are pervasive. 
They have problems from the standpoint of the asset side. They 
have problems from the standpoint of the liability side. 
Controller Springer just noted the fact that they are making 
progress with regard to post-employment obligations. That is a 
huge number on the balance sheet. But we need to make some 
progress on the asset side.
    Two other things real quickly, Mr. Chairman, and that is 
they have to have the resources. Congress is working to provide 
those resources, but they have got to have the plan to 
effectively use those resources to make sure there is not waste 
and that they get real results. They need to modify their 
performance management systems to link the ratings of the key 
people with the results that we are trying to achieve.
    And lastly, there needs to be ongoing and effective 
oversight. Frankly, this, until recently, has not been a 
priority for the Department but it is now. As you know, DOD has 
9 of GAO's 25 high risk areas.
    And the last thing I want to mention on this, I believe 
very strongly if we are going to solve the basic management 
problems at DOD, we need a Chief Management Officer at DOD who 
is a level two official, who is a pro, who has a proven track 
record for success, a term appointment, a performance contract, 
who will take a more strategic integrated and innovative 
approach not just to financial management but to the enterprise 
architecture, the logistics systems and things of that nature. 
The absence of having a pro who has got a proven track record, 
who is going to be there long enough to get it done, at the 
right level, has been a huge impediment and I question whether 
we are going to be successful without it.
    Senator Fitzgerald. And maybe we need to pay that person an 
extraordinary amount--I am thinking, why is somebody who is 
qualified to do that actually going to want to come in and take 
over that headache?
    Mr. Walker. I actually believe that there are persons who 
would do it for their country because it would be a huge 
challenge. And it may be somebody, for example, that retired 
early out of the private sector, hopefully with some prior 
public sector experience, who has made money and wants to do 
something for their country.
    The problem is that without that person who is responsible 
and accountable, who has got a proven track record, who is 
going to be there long enough and is at the right level to get 
the job done, I question whether we are ultimately going to 
effectively address not just this area, but frankly, a whole 
range of high risk areas within DOD.
    Senator Fitzgerald. Thank you. Senator Akaka.
    Senator Akaka. Thank you, Mr. Chairman.
    Mr. Walker, as always, I have enjoyed working with you and 
talking with you.
    Over the years, you have made an impressive case for 
financial transparency and accountability in the Federal 
Government and you have just given us some idea as to what 
needs to be considered to begin this kind of change which 
should start from the top level. Unless we do that, then we 
can't begin to make changes.
    You have long stated that the key to breaking down 
parochial interests and stovepipe approaches would be 
establishing mechanisms to reward organizations and individuals 
for behaviors that comply with DOD-wide and Congressional 
goals. Unfortunately, we continue to see a lack of progress in 
this area.
    Let me follow up on Senator Fitzgerald's question. Has the 
Department set up the necessary mechanisms to reward 
organizations and individuals for working toward overall 
financial management goals in a coordinated manner, and if not, 
what can we do to move DOD in that direction?
    Mr. Walker. Well, Senator, first, they have taken some 
steps, but they need to take many more. As you know, DOD 
achieved enactment of the National Security Personnel System 
Reform Act, which will give DOD the ability to modernize and 
design new human capital policies and performance management 
systems in ways that they have not been able to in the past.
    I think it is important that we recognize that this is a 
challenge not only at the senior executive level, not just for 
the political appointees, but also for the career civil 
servants and that key changes need to be cascaded down through 
all levels of the organization. We need to define what we are 
trying to achieve, what are the measures of success, what are 
the key milestones, and then to be able to link institutional, 
unit, and individual performance measurement reward systems 
with those desired outcomes and key milestones.
    If you do that, it will have a powerful impact. But in 
order to be able to do it, you also have to have not only the 
plan and the infrastructure in place, you have got to have the 
leader who is going to be there long enough to get the job 
done. And from a practical standpoint, historically, there is 
frequent turnover in key leadership positions and this is a 
multi-year task, there is no doubt about it.
    Senator Akaka. Ms. Springer, let me follow up on my 
question to Mr. Walker. Since linking goals and performance 
measures are key components of the President's Management 
Agenda, would you please comment on Mr. Walker's response and 
discuss how OMB is working with the DOD on this problem.
    Ms. Springer. From a general standpoint of linking 
performance and results to budget, for example, we have, as you 
know, our PART process at OMB that now is working through--has 
been generally accepted, I think, by all of the agencies to 
align our budget requests and the strategies of the agencies to 
performance of programs so that the demonstration of results 
has really become the ultimate test in whether or not taxpayer 
dollars should be reinvested in programs. Are they succeeding? 
Are they getting the benefits that were expected and promised?
    To the extent that we are talking about human capital 
issues, which I think was your specific question, I believe 
that also comes within that scope of the PART and also is a 
part of the President's initiative with respect to human 
capital, one of the five initiatives under his management 
agenda. But there is an overall support by the administration 
for results-based compensation. The Human Capital Performance 
Fund, I think, was an initiative of the administration, 
certainly in that area, and we remain committed to that.
    Senator Akaka. Mr. Walker.
    Mr. Walker. As you probably know, the Office of Personnel 
Management has the lead on human capital issues under the 
President's Management Agenda. In that regard, they just hired 
one of our senior executives to try to help work with DOD on 
some of these issues and we at GAO are trying to work in a 
constructive fashion with Navy Secretary England, who Secretary 
Rumsfeld has designated as a point person on the NSPS design 
and implementation, to try to share knowledge and best 
practices in a constructive way without compromising our 
independence.
    Senator Akaka. Thank you, Mr. Walker. Mr. Hammond, I would 
like to thank you for your attention to improving the financial 
reporting of Federal agencies. I am also interested in the 
governmentwide Accounting Modernization Project, which is, I 
understand, now underway. I understand that GWA enables 
agencies to process certain transfers and transactions without 
having to complete burdensome paperwork.
    My question to you is, since GAO has identified intra-
agency transfers as one of three impediments to consolidated 
financial statements, what safeguards are built into GWA to 
ensure that the convenience of this project does not compromise 
the security of financial information and become a mechanism 
for waste, fraud, and abuse?
    Mr. Hammond. The GWA project is really an exciting 
opportunity to totally change the way we are going to do 
budgetary accounting. It is the capability and the long-term 
vision to build a web-based system so that agency financial 
information from the budgetary operations will flow 
automatically into the central accounting systems. It is the 
primary way of solving a number of the issues that today we are 
trying to clean up after the fact as they deal with budget 
authority, budget transfers, and that level of 
intergovernmental activity.
    What it is going to do is, and certainly the phases that 
have been implemented already have effectively done, is allow 
an agency to enter a transaction once, not only complete the 
transaction but carry out the accounting related to that 
transaction at the same time, thereby posting the balance 
consistent with the transaction itself, eliminating the need 
for clean-up activity after the fact, removing the potential 
for mispostings or misclassification after the fact as someone 
is trying to do the accounting subsequent to the transaction.
    It really will, once fully enforced, provide us with an 
opportunity to get rid of amazing numbers of reconciliation 
activities across the agencies. It is, though, however, that 
level of fundamental change that is going to take some time, 
because the agencies, in fact, have to be prepared to provide 
the feeder data into the system at the same time.
    As for the security of the system, we have built it around 
a fairly robust Internet IP platform. Because these are not 
actual financial transactions in the traditional sense--there 
is not money leaving the government--the level of security is 
consistent with the risk involved. This doesn't trigger 
spending. This is reporting on moving budget authority from 
pocket A to pocket B, for example, with regard to transfer 
activity.
    Senator Akaka. Mr. Walker, as you know, the Department of 
Homeland Security is not subject to the Chief Financial 
Officers Act and, therefore, is not required to implement and 
to maintain financial management systems that comply with the 
governmentwide standards. Also, its Chief Financial Officer is 
not confirmed by the Senate. As an original cosponsor of the 
1990 CFO Act, I believe this law continues to offer a firm 
foundation on which agencies should build their financial 
management practices.
    My question to you is, what impact do you believe the 
exemption from the CFO Act has had on the financial situation 
at DHS?
    Mr. Walker. Well, as you know, while they are not covered 
by the CFO Act, they are covered by certain other acts which 
require them to have audited financial statements.
    I think to a great extent, this is a philosophical issue. 
The Department of Homeland Security is one of the largest 
Department in the Federal Government. It is on our high-risk 
list as it relates to the integration and transformation of 
that Department. It has significant responsibilities that are 
of importance to all Americans, and it has a tremendous amount 
of financial resources. From an intellectual standpoint, it is 
hard to see why the Department of Homeland Security would not 
be covered under the CFO Act.
    With regard to the confirmation issue, if I might add, 
Senator Akaka, GAO and I myself as Comptroller General have 
testified, are there certain agencies that I believe could 
benefit from this chief management official--chief operating 
officer, whatever you want to refer to the title--and I think 
to the extent that position is in place, Congress needs to 
consider whether and to what extent the positions that would 
support to this chief management official should be Senate 
confirmed.
    I think it is very important that there be statutory 
qualification requirements for these persons and that they be 
presidential appointees, but I think that if we can get the 
right type of person at the level two level, as the chief 
management official with a term appointment and a performance 
contract, with a proven track record, you might want to 
reconsider which positions below that level should have Senate 
confirmation. That doesn't mean they wouldn't have visibility. 
That doesn't mean they wouldn't be presidential appointments. 
That doesn't mean they wouldn't have statutory qualification 
requirements. Those things, I think, are important. But you 
have a lot of work to do on confirmations and I think you 
should always be looking at how many positions should be 
confirmed versus not.
    Senator Akaka. Thank you for your response.
    Senator Fitzgerald. Would Ms. Springer have a response on 
that----
    Senator Akaka. Yes.
    Senator Fitzgerald [continuing]. What she thinks about 
applying the CFO Act to DHS? It is the only cabinet agency that 
doesn't have that requirement.
    Senator Akaka. I certainly would like to hear from Ms. 
Springer.
    Ms. Springer. Thank you, Mr. Chairman. I share some of Mr. 
Walker's comments from the standpoint that I believe that DHS 
has acted and carried out its duties very much as it would if 
it were a CFO Act agency. I don't think you would see much 
difference in the sense that they have embraced the audit 
requirement. They didn't seek the waiver that they could have 
under the Accountability for Tax Dollars Act. And they have 
worked very diligently to do all the things that a CFO Act 
agency would do. So in our minds, there is no distinction.
    I would like to comment in particular on the confirmation 
aspect, the requirement. Certainly, the administration has put 
forward a model at DHS for management, the management 
structure, and it is a little different than what was 
envisioned under the CFO Act. The thing that I think concerns 
me, though, particularly about putting DHS under the CFO Act 
would be that the CFO would be required to go through that 
confirmation process, which has cost the administration, just 
this administration, somewhere in the neighborhood of 5 to 6 
years of lost time of nominees in that waiting position where 
they have been--this is after the--in addition to, I should 
say, all of the clearance that the White House Personnel Office 
does.
    So from the time when that person is first identified, all 
of the White House clearance, FBI checks and all of that, and 
then the Senate confirmation process, just from that point has 
been about 6 years of lost time. With CFOs that have already 
served, even just as recently as within this administration 
moving to other departments, in one case, 6 months for that one 
individual that already had a track record, who was already 
confirmed by this Senate.
    So it becomes very frustrating for me to try and get them 
to make these management improvements that we are all 
interested in when they are in that holding pattern. So that is 
the thing that I have the strongest reservation about 
personally. But to answer your question, I think that the 
agency has acted in every respect as it would if it were under 
the CFO Act.
    Senator Akaka. Mr. Walker.
    Mr. Walker. If I can, Senator, and I have never said this 
before, I am just thinking out loud here, if the Congress were 
to move in selected departments and agencies, such as DOD, DHS, 
to the model that I talked about, where you have a level two, 
that means deputy secretary level or principal under secretary 
level, a person focused on management issues which are 
inherently good government, and nonpartisan issues, with a 
proven track record, statutory qualification requirements, 
performance contract, term appointment, if you did that, I 
think you should consider whether or not the CFO, the CIO, and 
some of these other positions should be Senate confirmation. 
But there may be another way to make sure that you are getting 
qualified people.
    For example, there could be a notification requirement and 
a period of time before the appointment would take effect such 
that if there was concern in the Senate or elsewhere with 
regard to whether or not the person met the statutory 
qualification requirements, those concerns could be expressed. 
I think we need to look for ways that, for the good government 
positions, they can be filled by qualified people at an 
appropriate level in a timely manner with Congress having 
appropriate input, but yet not having undue delays. Just a 
thought.
    Senator Akaka. Thank you. Thank you for giving me all the 
time I need, Mr. Chairman. I thank our witnesses so much for 
their responses. For me, it has been helpful. Thank you.
    Senator Fitzgerald. You have been a terrific panel, and I 
want to thank you very much for your time.
    I just want to say on the CFO Act for the Department of 
Homeland Security, I think the current administration, at the 
OMB, you guys are doing a great job and I love your performance 
management requirements. I have talked to Clay Johnson 
extensively about OMB doing a great job. My concern, though, is 
about future administrations that may not have the same 
financial accountability concerns that this administration has 
demonstrated. So I think that is something we need to consider, 
whether we want to allow Homeland Security out there to just be 
exempt from an act that other cabinet departments have to 
follow.
    But you are certainly right about the Senate confirmation 
process. We are hearing the other branch of government's 
feelings on that issue.
    But thank you all. You have been terrific witnesses and we 
thank you. We will try and keep up our oversight in this area. 
Keep up the good work. Thank you all very much.
    I would invite the second panel to please come up. Now I 
would like to introduce the witnesses on the second panel.
    Our first witness on this panel is Lawrence J. Lanzillotta. 
Mr. Lanzillotta is the Acting Under Secretary of Defense 
(Comptroller) at the DOD. We were just wondering what sort of 
person would undertake that kind of a job. Mr. Lanzillotta is 
responsible for the initiation of reforms within the Office of 
the Department of Defense Comptroller.
    Our second witness is Francis E. Reardon, Deputy Inspector 
General for Auditing at the Department of Defense. Mr. Reardon 
has served as Deputy Inspector General since 2003, after 
serving since 1992 as Auditor General of the Army. In his 
current position, he is responsible for all financial and 
performance audits of the DOD, defense agencies, and joint 
commands.
    Third on this panel is Gregory D. Kutz, Director of 
Financial Management and Assurance at the Government 
Accountability Office. In his role as Director, Mr. Kutz is 
responsible for financial management issues relating to the 
Departments of Defense and State, as well as NASA and the 
Agency for International Development.
    Our fourth witness on this panel is Andrew B. Maner, the 
Chief Financial Officer for the Department of Homeland 
Security. Mr. Maner has served in this capacity since January 
of this year, when he was appointed by President Bush. In his 
role as CFO, Mr. Maner is responsible for department-wide 
financial management, including all budget, finance and 
accounting, and strategic planning and evaluation systems. You 
spent the past 8 years in Illinois before you came out here, is 
that correct?
    Mr. Maner. Indeed.
    Senator Fitzgerald. Well, welcome. Our next witness is the 
Hon. Clark Kent Ervin, Inspector General for the Department of 
Homeland Security. Mr. Ervin began his service at the 
Department in January 2003 as Acting Inspector General and has 
subsequently served as Inspector General since December 2003. 
In this position, Mr. Ervin is responsible for independent and 
objective audits, inspections, and investigations of the 
Department's operations, including its efforts to consolidate 
legacy components.
    Our sixth and final witness is McCoy Williams, Director of 
Financial Management and Assurance at the Government 
Accountability Office. In this position, he is responsible for 
the GAO's financial management work at eight CFO Act agencies, 
as well as the Department of Homeland Security. He is also 
responsible for GAO's work regarding governmentwide improper 
payments, internal control standards, and single audit reviews.
    Again, I would like to thank all of you for being here 
today. In the interest of time, I would ask that you not read 
your prepared statements. Those will all be submitted and made 
part of the permanent record of this hearing. I would ask that 
you limit your opening remarks to no more than 5 minutes. If 
you can be briefer than that, we would welcome it because this 
is a very large panel, with six witnesses.
    With that, we will begin with Mr. Lanzillotta. You may 
begin. Thank you.

TESTIMONY OF LAWRENCE J. LANZILLOTTA,\1\ ACTING UNDER SECRETARY 
                    OF DEFENSE (CONPTROLLER)

    Mr. Lanzillotta. Thank you, Mr. Chairman and Members of the 
Committee. I want to thank you for this opportunity to discuss 
the Department of Defense business management. This will be one 
of my last hearings before leaving the Department and so I want 
to give you my observations from three-plus years of working on 
DOD management challenges.
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    \1\ The prepared statement of Mr. Lanzillotta with attachments 
appears in the Appendix on page 102.
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    My message today is the Department has undertaken an 
unprecedented comprehensive and visionary transformation to 
achieve this aim. We are making progress to correct weaknesses 
and control business system investment. Strong and consistent 
Congressional support of this transformation is vital to 
sustaining our progress.
    To transform DOD's management, the Department must succeed 
with three interdependent pillars of its strategy: Overhaul and 
integration of DOD business processes and systems throughout 
the Department's Business Management Modernization Program; 
refine and advance financial management improvement plans of 
the military services and defense agencies to enable them to 
produce auditable financial statements, resulting in a clean, 
auditable opinion; and audit items on the financial statements 
as they become ready for audit by developing the capability to 
do so. This transformation not only will be dramatically 
improved, DOD's business and financial management, but it will 
also enable DOD leaders to make resource decisions based on the 
best management information available. And it will enable the 
Department to meet the Chief Financial Officers Act and other 
legal requirements, including satisfactory statements.
    Briefly, over the last 3 years, we have been able to 
establish a comprehensive inventory of business management 
systems. We began to build a blueprint or architecture to guide 
our transformation efforts. We designed an incremental strategy 
to achieve our transformational goals. We developed a 
governance process to provide strategic direction and oversee 
our transformation of business processes and systems. We have 
organized all major DOD business activities into six areas or 
domains and designated an Under Secretary of Defense as a 
domain owner to oversee each business area. We established a 
portfolio management process, an industry standard for managing 
IT systems. We established the DOD Audit Committee to provide 
concerted senior leadership focus and produce an auditable 
financial statement resulting in clean opinions. We developed 
individual reporting entity improvement plans that show planned 
improvements and milestones. And we implemented additional 
discipline to our quarterly reporting process, accelerating our 
preparation of financial reports and elevated our commitment to 
quality.
    It is important to note that domain owners are responsible 
for overseeing the transformation of business activities 
managed by the military services and other DOD components. This 
governance plan has already demonstrated that it can work. We 
are continuing to strengthen and expand it. Some observers do 
not believe we are moving fast enough, yet acknowledging that 
DOD is one of the world's largest and most complex 
organization, with a huge business transformational challenge.
    The Department of Defense is in the business transformation 
for the long term. It will take years to fix our systematic 
problems, which evolved over several decades.
    The last observation I would like to make, we set out on a 
course of transformation, outlining this course with domains 
and our governance process to control our IT investment and the 
direction for the Department. I would ask that the Congress not 
change our direction. Both bills of the National Defense 
Authorization bill significantly cut the funding for this 
effort and dramatically change the direction of this effort. 
Changing course right now would delay an untold number of years 
in our effort to correct this problem.
    In closing, I urge you and other Congressional leaders to 
continue to support the Department of Defense in its efforts to 
transform DOD's business management. Congress and the 
Department must continue to partner in this unprecedented 
undertaking. Our business transformation progress is consistent 
with U.S. industry standards and it is all the more remarkable 
that our accomplishments have occurred while we are fighting 
the global war on terrorism, advancing bold initiatives to 
transform America's military capability.
    This is a critical time for us to ensure that DOD's 
management and business systems become just as superlative as 
the military forces they support. We, in the Department of 
Defense, appreciate and continue to need the Congressional 
support to achieve this vital priority. Thank you, Mr. 
Chairman.
    Senator Fitzgerald. Thank you. Mr. Reardon.

 TESTIMONY OF FRANCIS E. REARDON,\1\ DEPUTY INSPECTOR GENERAL 
            FOR AUDITING, U.S. DEPARTMENT OF DEFENSE

    Mr. Reardon. Mr. Chairman and Members of the Committee, the 
Department of Defense Inspector General, Hon. Joseph Schmitz, 
regrets that he is unable to attend this hearing.
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    \1\ The prepared statement of Mr. Reardon appears in the Appendix 
on page 176.
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    In addition, I would like to thank you for the opportunity 
to discuss first the status and progress in achieving an 
unqualified audit opinion for the Department of Defense, and 
second, other areas of financial management within the 
Department.
    The Department's financial statements are the most 
extensive, complex, and diverse in the government. The 
Department faces financial management problems that are 
longstanding, pervasive, and deeply rooted. These problems have 
impeded the Department's ability to provide reliable, timely, 
and useful financial and managerial data to support operating, 
budgeting, and policy decisions.
    To address these issues, the Department has undertaken the 
ambitious task of overhauling its financial management systems 
and business processes, and we are encouraged by the many 
current initiatives led by the Office of the Under Secretary of 
Defense/Comptroller and senior financial managers within the 
DOD components to correct longstanding problems. Given these 
initiatives, we believe there is a chance of the Department of 
Defense reaching the goal of a favorable audit opinion for 
fiscal year 2007. However, what is most encouraging is the 
effort being expended to correct the Department's problems.
    In order to adequately support the Department's goals of a 
clean fiscal year 2007 audit opinion, we in the Office of the 
Inspector General are putting in place plans and actions to 
increase our financial auditing capability during the next 3 
years. Our efforts are directly related to the Department of 
Defense plan to assert that its financial data is reliable and 
ready for audit between now and 2007. During this time period, 
there could be more than 100 assertions on financial 
statements, systems, or line items. As those assertions occur, 
we must be ready to audit as required by the CFO Act.
    We also strongly support Section 1008 of the fiscal year 
2002 National Defense Authorization Act, which directs us to 
perform only minimal audit procedures required by auditing 
standards until management asserts that the financial 
statements are reliable.
    We are, therefore, working with the Department to ensure 
that we do not expend taxpayer dollars for extensive audit work 
until we believe that favorable opinions are probable. However, 
if the funding for our planned build-up and contracting efforts 
is delayed until the Department asserts that all DOD-wide 
financial statements are reliable and ready for audit, it will 
be impossible to complete the necessary audit work in a timely 
manner, thus further delaying a favorable audit opinion on the 
U.S. Government Annual Financial Report.
    The Department has readily acknowledged that many of its 
financial management and feeder systems do not produce adequate 
data to support various material amounts on the financial 
statements. The Department of Defense established the Business 
Management Modernization Plan to transform and modernize the 
Department's business and financial processes and systems to 
optimize efficiency and effectiveness. We are monitoring 
progress in achieving the plan's goals and have made 
recommendations for improvements in the business enterprise 
architecture as part of the overall modernization plan. 
However, our efforts on the Business Management Modernization 
Plan have been primarily limited to coordination with the 
Government Accountability Office, which is doing extensive work 
in this area, as evidenced by their recent reports being 
discussed during this hearing.
    The weaknesses that affect the auditability of the 
financial statement also impact other DOD programs and 
operations and contribute to waste, mismanagement, and 
inefficient use of DOD resources. For example, we testified 
before the Senate Committee on Governmental Affairs on April 
28, 2004, and reported that purchase cards accounted for 25 
percent of the purchase actions made in the Department in 
fiscal year 2003. We presented the results of three recent OIG-
DOD audit reports that identified management control problems 
with the use of purchase cards.
    Subsequent to that hearing, our office issued an additional 
report on purchase cards which discussed further internal 
control weaknesses. We are working with both the Purchase and 
Travel Card Program Management Offices to improve these 
programs by reducing financial risk to the government and 
offering recommendations to improve the Federal Managers 
Financial Integrity Act Controls.
    Thank you for considering the views of the Office of the 
Inspector General. We have provided additional details on our 
efforts in the written testimony provided to you for this 
hearing and I would be happy to address further questions as we 
go along. This concludes my testimony.
    Senator Fitzgerald. Thank you, Mr. Reardon. Mr. Kutz.

TESTIMONY OF GREGORY D. KUTZ,\1\ DIRECTOR, FINANCIAL MANAGEMENT 
      AND ASSURANCE, U.S. GOVERNMENT ACCOUNTABILITY OFFICE

    Mr. Kutz. Mr. Chairman, thank you for the opportunity to 
discuss financial management at the Department of Defense.
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    \1\ The prepared statement of Mr. Kutz appears in the Appendix on 
page 195.
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    The following two examples show the importance of 
successful financial management and business reform at DOD. 
First, 94 percent of mobilized Army National Guard soldiers 
that we investigated had pay problems. These problems 
distracted these special forces and military police from their 
missions, imposed financial hardships on their families, and 
has had a negative impact on retention. Our soldiers deserve 
better.
    Second, DOD was unable to effectively recall 250,000 
defective chemical and biological protective suits from its 
inventory. As a result, many Congressional Members were 
concerned that our forces in Iraq were issued these defective 
suits. Thousands of these defective suits were sold to the 
public on the Internet, including 379 that we purchased in an 
undercover operation, and you showed one of those 379 in your 
opening statement. It is the exhibit to my left. And thousands 
of these suits were improperly issued, as you mentioned, to 
local law enforcement officials.
    DOD's stovepiped, duplicative systems contribute to these 
and many other problems and will cost taxpayers $19 billion in 
2004. That is $52 million a day. Attempts to modernize DOD's 
business systems routinely cost more than planned, miss their 
schedules by years, and deliver only marginal improvements or 
are terminated with no benefits at all.
    DOD's superior warfighting capabilities were clearly 
demonstrated in Iraq and Afghanistan. However, that excellence 
is often achieved despite the enormous problems with DOD's 
business systems and processes.
    DOD's senior leadership is committed to transform the 
Department's business operations and financial management. With 
waste and inefficiency costing $20 billion or more a year, the 
success of their efforts is critical.
    Mr. Chairman, this ends my statement. I would be happy to 
answer your questions.
    Senator Fitzgerald. Thank you very much, Mr. Kutz. Mr. 
Maner.

TESTIMONY OF ANDREW B. MANER,\2\ CHIEF FINANCIAL OFFICER, U.S. 
                DEPARTMENT OF HOMELAND SECURITY

    Mr. Maner. Thank you, Mr. Chairman, for the opportunity to 
be here and discuss progress that DHS has made in the area of 
financial management and thank you for your personal support 
that you have provided DHS since our creation.
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    \2\ The prepared statement of Mr. Maner appears in the Appendix on 
page 223.
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    All of us at the Department are proud of the progress we 
have made since the Department's inception in March 2003 while 
dealing with the enormous challenges involved in starting up 
the third largest department in the Federal Government. With 
Secretary Ridge's support, we have made tremendous headway in 
unifying and strengthening the Department's financial 
management, accounting, budgeting, strategic planning, and 
performance measurement process and systems. We have vastly 
streamlined the number of financial management service 
providers. We have consolidated bank card programs.
    Two months after our creation, we subjected ourselves to 
the rigors of a consolidated financial statement audit and 
obtained a qualified opinion on our September 30 balance sheet. 
We submitted our first strategic plan and continue to perfect 
our investment review process. We completed and will soon 
submit our first future years' Homeland Security program, known 
as the FYHSP. We have made great strides in building an 
integrated financial system for the Department and have begun 
developing department-wide standard operating procedures for 
financial management.
    With these accomplishments under our belt, we continue to 
forge ahead towards our goal of making DHS the model of 21st 
Century financial management excellence.
    Progress in our endeavor to further define and consolidate 
these functions within the Department is made every day. We 
continue to look at the most efficient and effective way to 
deliver financial management services to the Department long-
term. We continue to utilize best practice capabilities within 
the Department and work diligently on the weaknesses that 
exist.
    Essential to consolidated management functions is an 
integrated department-wide resource management system. E-
Merge\2\ is the Department's initiative that will consolidate 
and integrate our budget, accounting, cost management, 
acquisition, grants, and asset management functions. As e-
Merge\2\ is implemented over the next few years, not only will 
it enable consolidation of these functions, but it will greatly 
enhance our visibility, oversight, and accountability of 
component operations and financial management.
    Financial management excellence also requires 
accountability, oversight, and significant attention to 
developing a strong internal control environment, which I 
remain committed to. For example, in order to correct the 
material weaknesses identified in our 2003 audit, corrective 
action plans have been developed by each organization and I 
hold monthly meetings with these organizations to ensure 
progress is being made on these weaknesses. We are also 
addressing other important issues, such as elimination of 
improper payments and ensuring that the funds made available to 
State and local governments and other non-Federal recipients 
are awarded in a timely and proper manner.
    In closing, I would like to thank the Subcommittee again 
for the opportunity to be here. DHS has accomplished much under 
challenging circumstances and I am confident we will realize 
even greater progress in the coming years. Thank you, Mr. 
Chairman.
    Senator Fitzgerald. Thank you, Mr. Maner. Mr. Ervin.

   TESTIMONY OF CLARK KENT ERVIN,\1\ INSPECTOR GENERAL, U.S. 
                DEPARTMENT OF HOMELAND SECURITY

    Mr. Ervin. Thank you, Mr. Chairman. As you noted, I have 
submitted a longer statement for the record, and in the 
interest of time, I will truncate my oral remarks, as well.
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    \1\ The prepared statement of Mr. Ervin appears in the Appendix on 
page 229.
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    The Office of Inspector General engaged KPMG to complete an 
audit of DHS's financial statements as of September 30, 2003, 
and for the 7 months then ended as required by the 
Accountability of Tax Dollars of 2002. KPMG gave a qualified 
opinion on the consolidated balance sheet and the statement of 
custodial activity, meaning that except for three areas, these 
statements were presented fairly and free of material 
misstatements.
    The three areas were, one, a lack of documentation related 
to the Coast Guard's property, plant, and equipment, valued at 
$2.9 billion; two, KPMG's inability to observe a sufficient 
number of the physical counts of operating materials and 
supplies at the Coast Guard, or otherwise to verify $497 
million of such assets; and three, the lack of sufficient 
actuarial documentation provided prior to the completion of 
KPMG's audit procedures to support retirement benefits recorded 
at $3.3 billion at the Secret Service and post-employment 
benefits reported at $201 million at the Coast Guard.
    This was not unexpected in a first-year audit. The Coast 
Guard's financial statements had never been audited at the 
level of detail required at DHS, where the Coast Guard became a 
larger bureau relative to its parent Department. Since the 
audit, the Secret Service has obtained an actuarial report on 
its retirement benefits liability and believes it has recorded 
the correct amount. And likewise, the Coast Guard has done the 
same with regard to the post-employment benefits liability 
issue.
    KPMG was unable to provide an opinion on the other 
statements, which we collectively call the cost activity 
statements, and I will be happy to explain the reasons if there 
are questions about that.
    Let me turn now to just a word about the audit challenges 
for 2004. As you know, the reporting deadline has been 
accelerated to November 15, 2\1/2\ months earlier than last 
year's deadline. Meeting that date will be a considerable 
challenge for DHS.
    As well, one of the greatest challenges that the Department 
has faced this year is the realignment of back office functions 
at the ICE Bureau, Immigration and Customs Enforce, Customs and 
Border Protection Bureau, and the Citizenship and Immigration 
Services Bureau that took place at the start of fiscal year 
2004. Nine months into the fiscal year, many agreements 
regarding intra-bureau services that are being provided between 
and among the bureaus are not in place, leaving many accounting 
issues open. The CFO has recently reported progress in this 
area, and we are pleased to hear that, but time is short to 
clear up any accounting issues that remain this year.
    Because the performance and accountability report was 
issued in February, DHS has had little time to take corrective 
action on the material weaknesses and reportable conditions, 
about which I can speak in greater detail later, reported last 
year before they entered into this year's audit cycle. To the 
extent that these weaknesses remain, they, too, will continue 
to make the preparation of the financial statements and the 
auditing of them more difficult.
    That concludes my short statement, and again, I will be 
happy to answer questions. Thank you very much.
    Senator Fitzgerald. Thank you, Mr. Ervin. Mr. Williams.

TESTIMONY OF McCOY WILLIAMS,\1\ DIRECTOR, FINANCIAL MANAGEMENT 
      AND ASSURANCE, U.S. GOVERNMENT ACCOUNTABILITY OFFICE

    Mr. Williams. Thank you, Mr. Chairman. I am pleased to be 
here today to discuss financial management challenges facing 
the Department of Homeland Security.
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    \1\ The prepared statement of Mr. Williams appears in the Appendix 
on page 245.
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    First, DHS faces the challenge of obtaining an unqualified 
financial statement audit opinion and fixing the previously 
identified internal control weaknesses it inherited from its 
component agencies. As of September 30, 2003, DHS had 14 
reportable conditions, seven of which are material weaknesses.
    Like other Federal agencies, DHS has a stewardship 
obligation to prevent fraud, waste, and abuse, to use 
taxpayers' dollars appropriately, and to ensure financial 
accountability. DHS management must establish effective 
internal controls to safeguard assets, protect revenue, and 
make authorized payments. Improper payments, which are a 
governmentwide problem, occur for many reasons, but the root 
cause can typically be traced to a breakdown in internal 
control.
    While DHS was not required to report improper payments for 
2003, several of its inherited control weaknesses suggest risk 
of improper payments and loss of revenue. As it addresses 
inherited control weaknesses and integrates its business 
management functions, DHS should pay close attention to 
implementing strong internal controls.
    Mr. Chairman, another significant challenge for DHS is 
developing a financial management architecture with integrated 
systems and business processes. According to DHS officials, the 
Department is in the early stages of acquiring a financial 
enterprise solution to consolidate and integrate its financial 
accounting and reporting systems. Similar projects have proven 
challenging and costly for other Federal agencies. For example, 
efforts at NASA failed to meet the needs of users and key 
stakeholders. To avoid similar problems, DHS must ensure 
commitment and extensive involvement from top management and 
users in the financial system development and integration.
    Mr. Chairman, DHS is the only cabinet-level department in 
the Federal Government today that is not subject to the CFO 
Act. With a fiscal year 2004 budget of nearly $40 billion and 
more than 180,000 employees, the Department does not have a 
presidentially-appointed CFO subject to Senate confirmation and 
is not required to comply with FFMIA. DHS should not be the 
only cabinet-level department not covered by what is the 
cornerstone for pursuing and achieving the requisite financial 
management systems and capabilities in the Federal Government. 
We believe enactment of S. 1567 will increase the likelihood 
that financial management challenges at DHS will be overcome.
    In closing, Mr. Chairman, I want to emphasize that the 
American people have increasingly demanded accountability from 
government and the private sector. We know that many of the 
larger agencies transferred to DHS have a history of poor 
financial management systems and significant internal control 
weaknesses, providing further evidence that DHS should be 
subject to the CFO Act and thus FFMIA.
    Mr. Chairman, this concludes my statement. I would be happy 
to answer any questions that you may have.
    Senator Fitzgerald. Thank you. I want to hone in on this 
issue about DHS not being subject to the CFO Act. We do have a 
CFO, Mr. Maner, who is here today, but he is not presidentially 
appointed. He is not confirmed by the Senate. As a practical 
matter, other than Mr. Maner is not confirmed by the Senate and 
appointed by the President technically, what are the other 
things specifically--you mentioned that the Department is not 
subject to the FFMIA. What requirements do we impose on other 
departments that aren't being imposed on the Department of 
Homeland Security? Maybe Mr. Williams would like to go into 
that.
    Mr. Williams. Well, within the requirements of FFMIA, that 
would be a report that would talk about the various systems, 
whether they are in compliance with JFMIP requirements. I think 
the bottom line is that you hit on a key point on the first 
panel, and that is that while this administration has 
demonstrated strong support for the intent of the legislation, 
the issue--when this particular act was passed, I was involved 
in working with this Subcommittee's counterpart on the House 
side, and the concern then and the concern that you raised this 
morning that still exists is that you want to make sure that 
you have a structure in place that will make sure that whether 
it is this administration or the next administration or ten 
administrations from now, that you have individuals in this 
position that are qualified to carry out the various financial 
management functions, that you have policies or laws in place 
that will make sure that agencies are striving to have systems 
that can produce information in a timely manner, because it is 
not just a matter of producing the information once a year in 
which you get a clean opinion and then the next day you have 
got to start back over again. You want to have that information 
throughout the year.
    So I think these requirements for having good systems in 
place, making sure that the individual in the position is 
qualified and that the structure is in place, not just for one 
administration but for any administration that is in office.
    Senator Fitzgerald. Mr. Maner, I don't know that it is your 
role to comment on whether your Department should be subject to 
the CFO Act. Do you have any thoughts you want to offer?
    Mr. Maner. Well, just two quick thoughts, just for the 
record, just to make sure that it is stated correctly. I am 
presidentially appointed and not Senate confirmed, just so we 
are all on the same page there.
    Senator Fitzgerald. OK.
    Mr. Maner. Again, my thoughts are that the Homeland 
Security Act set up DHS less than 2 years ago. My broad thought 
is that the structure that was put in place in the Homeland 
Security Act should be given a chance to work.
    In terms of the CFO Act and FFMIA, certainly those, and for 
everyone in the government, those are beacons of how to manage. 
And so we certainly use those to manage. One example of that is 
as we----
    Senator Fitzgerald. Even though they don't apply to you?
    Mr. Maner. That is right. One example of that is as we went 
out for our----
    Senator Fitzgerald. But wouldn't you agree that we have no 
assurance that some successor of yours in a future 
administration would voluntarily decide to comply with those 
acts?
    Mr. Maner. Yes. It would be hard to dispute that.
    Senator Fitzgerald. OK.
    Mr. Maner. But one point I would want to make is in the 
spirit of FFMIA, for example, when we go out, or when we went 
out with our e-Merge\2\ solicitation, in that RFP was the 
requirement that the provider be compliant with those 
standards. So we have tried to integrate it as best we can. And 
also, other parts of the CFO Act, slightly less known, such as 
being a member of the OMB CFO Council, those things we are 
doing today, so I would leave it at that.
    Senator Fitzgerald. OK. Now, I mentioned in my opening 
remarks that several news reports, particularly in the 
Washington Post, have criticized homeland security spending by 
State and local governments, citing the use of Federal homeland 
security funds to plug perceived budget holes or to fund 
purchases that do not appear critical to homeland security 
needs. I think there was one news report that cited spending on 
janitorial services by some local unit of government.
    While such reports may be due in part to the lack of 
Federal guidelines or restrictions on the use of Federal funds, 
they raise concerns regarding the Department's efforts to 
ensure that taxpayer dollars are being spent wisely. Mr. Maner, 
how are you working with State and local officials to ensure 
the proper use of Homeland Security funds?
    Mr. Maner. I will talk for a second a bit about structure 
and then a bit about systems, because I think they are both 
important. One of the items that the Department has done is to 
consolidate this year. Secretary Ridge has consolidated all the 
grants management functions, or the policy for grants 
management, in one office in Homeland Security. That is taking 
effect this next fiscal year. So part of it is to get all of 
the grants in one location, which I think will prove to be 
effective.
    The second is to create a systems environment that allows 
for information visibility, allows for perfect visibility into 
the grants management process and such. And one of the things 
that I have found very important and am very committed to is 
including grants management in our e-Merge\2\ project so that 
we are, as part of our financial system rollout, including 
grants management, because at the end of the day, I do believe 
very strongly that having visibility, a wide swath of 
visibility to all the money that is put out to State and 
locals----
    Senator Fitzgerald. Do you know how much money we are 
talking about that is issued in grants? Would you know roughly?
    Mr. Maner. I know that in, really in the last three grant 
cycles, we have put out about $8 billion, but if you don't 
mind, I will get back to you with specifics for the record.

                  INFORMATION PROVIDED FOR THE RECORD

    In FY 2003, the Department awarded $8.0 billion in non-
disaster grants and $5.9 billion in disaster grants.

    Senator Fitzgerald. OK. Mr. Ervin.
    Mr. Ervin. Yes. If I could just add something on that, Mr. 
Chairman, a couple of things. First of all, the Washington Post 
article that you are referring to, we ourselves were asked 
about that by Congressman Sensenbrenner and it turns out that 
particular article was based on a Justice Department grant as 
opposed to a Department of Homeland Security one.
    Having said that, certainly this kind of thing could be 
happening in the Department of Homeland Security, and that 
being so, we are going to start auditing the expenditure of 
these first responder funds. We will be doing that later this 
year. As you may know, we have issued a report already about 
the flow of funds from the Department to State and local 
governments and first responders, and actually that was a good 
news story for the Department. But we haven't, as I said, begun 
to look at exactly how those funds were being spent at the 
State and local and first responder level. We will do that.
    If I could talk more generally just for a second about 
grants. As Mr. Maner says, the Department is to be applauded 
for moving toward consolidating the grant process in the 
Department, and also e-Merge\2\ will include, we are told, a 
grants component, and that is to be applauded, as well.
    There are certain structural issues, as well, that are 
important here, and that is true for the Office of CFO and for 
the Office of the Chief Information Officer, as well, and that 
is with regard to the Chief Procurement Officer. Right now, 
there are only seven procurement shops that came into the 
Department of Homeland Security to date. Fifteen other 
components of the Department are still being serviced by 
entities outside the Department, and you can see the problem 
there in terms of consistency and control.
    Further, with regard to the seven procurement shops that 
are in the Department of Homeland Security, the Chief 
Procurement Officer does not have operational control over 
those shops and cannot impose consistency among those shops. So 
there are certain structural issues that must be attended to.
    Senator Fitzgerald. Does the Government Purchasing Act--the 
traditional government procurement laws apply to all those 
procurements?
    Mr. Ervin. I believe, so, yes. That is right.
    Senator Fitzgerald. OK. Once a grant leaves Homeland 
Security and goes to a unit of local government, does your 
office have the ability to go audit that unit of local 
government to see how it is spending the money? I hope all 
local governments are concerned that somebody may come in and 
audit how they use this money.
    Mr. Ervin. Yes, sir, the answer is yes, and we do that. For 
example, since the Department has been operational, March 1, 
2003, we audited 121 FEMA disaster grants to State and local 
communities and questioned $68 million in costs. One of the 
things that we found during the course of those audits were 
recurring problems, and this is another issue. More attention 
on the Department's part to working with State and local 
governments to make sure that these recurring problems don't 
occur is called for.
    For example, with regard to the $68 million, we frequently 
found that the State and local governments did not, as they are 
required to do, seek FEMA's written permission to either 
continue the project past the expiration of the time allotted 
for it or to continue to run up costs after the ceiling had 
been reached. And then at the conclusion, FEMA would give a 
retroactive waiver or permission for that having been done. 
Obviously, that conduces to waste, fraud, and abuse. So there 
needs to be attention paid on FEMA's part and the part of other 
components to making sure that the terms of these grants are 
complied with, and when they are not, there need to be 
consequences to the State and local awardees or sub-grantees.
    Senator Fitzgerald. Mr. Lanzillotta, you mentioned that 
bills moving through Congress may cut funding for the effort 
that includes the accountability or the accounting at the DOD. 
Could you elaborate on that? What bills are you referring to?
    Mr. Lanzillotta. I am referring to, Mr. Chairman, the House 
and Senate version of the authorization bill that is in 
conference right now. Each bill took reductions to each part of 
our strategy, to the IG, to our audit ability.
    Senator Fitzgerald. How about the actual DOD appropriations 
bill that passed the Senate?
    Mr. Lanzillotta. Both of those bills also took reductions.
    Senator Fitzgerald. How big were the reductions?
    Mr. Lanzillotta. Ranging from $45 million to $150 million.
    Senator Fitzgerald. Out of how much total is spent----
    Mr. Lanzillotta. Against these three programs where they 
took the reduction, of about $500 million.
    Senator Fitzgerald. So that is an enormous percentage if 
you are looking at the $140 million reduction.
    Mr. Lanzillotta. Correct.
    Senator Fitzgerald. OK. That is something I am glad you--if 
your office could work with my staff on that, it might not be 
too late to write a letter to Senator Warner or somebody on 
that conference committee to talk about the importance of 
continuing the efforts to improve the financial accounting in 
DOD.
    Mr. Lanzillotta. We would be happy to, Mr. Chairman.
    Senator Fitzgerald. I hope the Armed Services Committee is 
aware of the importance of this issue and it is not just the 
Governmental Affairs Committee.
    Mr. Lanzillotta. They are my next stop right after this 
hearing.
    Senator Fitzgerald. OK. I am glad you are making your views 
known.
    Mr. Reardon, you believe that by fiscal year 2007, there is 
a chance that DOD could be in a position to merit a qualified 
opinion, but only a chance, I guess you said. I know Mr. 
Lanzillotta mentioned that he is leaving, is that correct? You 
are leaving the DOD?
    Mr. Lanzillotta. Yes, Mr. Chairman. This will be, 
hopefully, my last hearing. [Laughter.]
    Senator Fitzgerald. This will be your last hearing? Oh, 
gosh. [Laughter.]
    And it has probably been a very difficult and frustrating 
job. I kind of wondered out loud why anybody would want to take 
up this task. It is like Hercules trying to clean up the Agean 
stables. That is what it sounds like to me. It is kind of a 
thankless task.
    We are now missing a--we don't have a Comptroller position 
filled. That is pending for appointment right now. How much do 
you think, Mr. Reardon, we are being held back by turnover in 
personnel and just the lack of appeal that positions such as 
Mr. Lanzillotta has in trying to clean up this mess at DOD? How 
big of a factor is that?
    Mr. Reardon. Obviously, it is a factor and leadership does 
chart the way. I don't know how to put a percentage on it, but 
with turnover, there is the factor of lost leadership and 
direction.
    But what I have seen in the Department in the year that I 
have been there is that there are a number of career civil 
servants that are working these issues, working the committees, 
working the various sort of audit committees that we attend, as 
well as the Comptroller's shop. People like Joanne Boutelle and 
Terry McKay are trying to work with each of the components of 
each of the services to get improvements done.
    And when I said ``chance,'' I mean, it is a limited chance 
to get a qualified opinion. But every year we see coming up, 
based on the progress that has been made, improvements.
    Ms. Springer talked about focusing on certain segments. We 
see for fiscal year 2005 that the fund balance at Treasury may, 
in fact, be able to have us do audit work on it and attest to 
whether it is reliable or not. The Air Force is working on its 
statement of budgetary resources, again, with the idea that in 
2005, that they will assert that they are ready. The Corps of 
Engineers is doing the same sort of thing.
    So I think there is some delay, some halting, going back 
and forth, but what I do see underneath it is a number of 
people working to try in the different departments to at least 
show improvement, and we are seeing improvement with the 
systems, some of the legacy systems, and we are seeing 
improvement in the processes and stuff. I think that is 
important, and having an overall leader there for a sustained 
period of time is good. Dr. Zakheim was there just 3 years and 
made some good progress. I just think it helps.
    Senator Fitzgerald. Mr. Lanzillotta.
    Mr. Lanzillotta. Mr. Chairman, if you don't mind, could I 
make an observation from my 3 years of working on this?
    Senator Fitzgerald. Yes.
    Mr. Lanzillotta. For the Department to continue to make 
progress, I would like to emphasize Mr. Reardon's comment, it 
is a culture that has to be created for change. And once this 
culture is created, the political leadership that comes and 
goes is important, and I don't want to belittle that. But if 
the change in the culture is there, then progress will be 
continually made and it won't be based on one individual, 
because if we base any of this on one individual, whether it 
was Dr. Zakheim, myself, or the future Comptroller, this 
initiative will fail.
    I think that some of the examples that Mr. Reardon talked 
about from the career side is a change in culture as to where 
we are making progress on how this should go. I would like to 
make a plea that part of this culture change is Congressional. 
We need the Congressional support, and since I am leaving, we 
need the Congressional pressure to continue this program. We 
need chairmen like yourself to call us up here and make us 
accountable for how this works, because that is part of the 
change in the culture. We have that.
    When I first started this 3 years ago, 3-plus year ago, I 
would try to come over here, because I did work on the Senate 
staff side, and try to brief as to what we were doing, and that 
worked for a while because some of my friends would take 
briefings. Now, nobody takes briefings. I need to go to the 
Defense committees. I know the Government Reform Committee. I 
need to be able to get Congressional support because that all 
adds to it.
    And it is the culture, because once the Department changes 
its culture, which I believe they have, but if we can maintain 
that, you see the things that the Department has done in Iraq 
and Desert Storm and Afghanistan. I mean, we can make 
remarkable progress. Two-thousand-seven is achievable, 
aggressive, heroic to get there. It is achievable as long as we 
can maintain the momentum.
    Senator Fitzgerald. When you say the culture needs to 
change there, are you talking about the rank-and-file civilian 
employees? Career employees who, when a political appointee who 
may be in charge of their work comes in, they look at this 
person and say, well, we have always done things this way, and 
we are used to doing it this way. They are resistant to the 
change, and they look at their politically-appointed superiors 
as only here temporarily and we are just going to continue 
doing things the way we have always been doing them, or----
    Mr. Lanzillotta. It has to start--they know--I don't say 
that they do this--that a political appointee stays about 18 
months, maybe 2 years, and they know that the political 
leadership changes. They know that as the leadership changes, 
sometimes they change direction. They know that you could wait 
out political leadership. But what is more important, not that 
they will because I think some of the examples that Mr. Reardon 
talked about, these are all advances that were made by the 
career force.
    And what has got to change and what has changed is when we 
have 4,000 business systems of some type, which is a remarkable 
number, we have 42 or 43--I forget the number now exactly--
travel systems that do exactly the same thing. That started 
with the culture that everybody stovepiped. Everybody was 
worried about their problem. Everybody said, this is how I am 
going to fix my problem, by getting this system to do this for 
me. Nobody worried as to how that fit into the overall 
financial systems, the inventory systems, the asset visibility 
systems. Nobody worried about the end-to-end process.
    What we have done in the Department is at the lowest levels 
at every staff agency, we have decided to build the 
architecture, and the architecture to outline and map out what 
our activities and processes are. Now, there were two values to 
that. The first value is we needed to find out how many systems 
we had and we needed to put down on a piece of paper on how we 
do business, and we needed everybody to see it. So when we say 
we need to design an end-to-end system, it wasn't up to Larry 
Lanzillotta to decide what that end-to-end system was. It was 
in the architecture that it went from this point to this point 
as to what that end-to-end system was.
    The reason why some of our systems have failed in the past 
is the same reason why they fail in private industry. They 
haven't mapped it out, they haven't done the planning, and they 
don't know what it affects. They don't know where the 
interfaces are, so when they put their new system on, it 
doesn't work, or a system that was depending on it all of a 
sudden doesn't work.
    We are changing that culture now. We have outlined our 
business systems. We have divided up our business areas. We put 
our business systems underneath these business areas. We have 
made people responsible for looking at investment in these 
business systems, approving investment in these business 
systems, and more importantly, when we field the new system, 
instead of just fielding a new system as to what systems get 
turned off to make it work.
    So back to the example of the defense travel, the defense 
travel system has had a checkered past. The one thing that 
defense travel did, it reengineered the business process. It 
checked with all the interfaces to the financial systems and it 
goes from the traveler all the way through his trip, through 
the financial statements, all the way up and back down to pay 
him his check. It is untouched by human hands.
    The examples you had, or the IG or Mr. Kutz talked about 
the JSLIST suits, it all goes back to the same problem. It is 
asset visibility, and the asset visibility, you don't get until 
you do an end-to-end process which shows the interfaces between 
these systems, and that is the course we are on.
    Now, it is kind of like, in my fleeting moments here in the 
Department, I am just imploring the Congress to stay the 
course. I just feel in my heart of hearts that we are at the 
point where we are going to make great progress, and it has 
been slow. It has been slow and it has been tedious. When we 
went out and mapped out for the architecture, there are 180,000 
statutory or regulatory requirements that had to be considered, 
180,000. In the finance and accounting systems alone, I had 
5,000 statutory or regulatory rules that had to be verified and 
checked or challenged. At the end of the day, we are going to 
come back to the Congress with a package of, ``these rules 
don't make sense.''
    Senator Fitzgerald. You are still working on that, aren't 
you? I think I have asked the Secretary to give us a list. I 
know he cited some 750 reports, or maybe it was less than that, 
for example, that DOD had to submit every year to Congress. 
Many of these were obsolete reports, and you just have people 
complying with these ancient laws of Congress forever and ever 
producing reports that nobody is even reading. That was just 
one example that the Secretary gave us.
    Mr. Lanzillotta. We can provide you, Mr. Chairman, a 
binder. Last time we took this effort, we put in a six-inch 
binder a one-page description of every report that the 
Department was required to do. I need to update that because 
that binder is about 2 years old, and every year we add about 
500, 600 reports to it.\1\
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    \1\ The list of active CMRs submitted for the record appears in the 
Appendix on page 105.
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    Senator Fitzgerald. OK. Well, please give that list to us 
and we will see what we can do before I leave Congress. I 
didn't tell you, I am retiring in January, too. But there will 
be others like Senator Akaka here to keep supporting the DOD in 
changing their accounting system.
    Mr. Kutz, I want to get to you. You talked about the suits 
and you mentioned, I think, a figure of $19 billion a year lost 
through waste, mismanagement, and you said that came out to $55 
million a day.
    Mr. Kutz. The $19 billion is the amount they spent on 
business systems annually, including modernization and legacy 
systems.
    Senator Fitzgerald. On business systems alone?
    Mr. Kutz. That would be on logistics, on finance systems, 
acquisition systems. It would be the business side, excluding 
intelligence-related and weapons systems. The total Department 
budget may be $30 billion or a little bit more. That would be 
maintaining and operating the current, what Mr. Lanzillotta 
testified yesterday and just mentioned, the current inventory 
of about 4,000-plus business systems. So that is the cost of 
having the stovepiped, non-integrated systems that don't work.
    Senator Fitzgerald. Unbelievable.
    Mr. Kutz. So it is an enormous amount of money, and that is 
one of the places where when I mentioned the $20 billion or 
more that could be saved through improvements in accounting----
    Senator Fitzgerald. Are they all custom-made business 
systems, too?
    Mr. Kutz. Some are, some aren't. I mean, they have evolved 
over time. There was no plan that Mr. Lanzillotta is talking 
about now that they are trying to develop so there is an 
architecture. They were developed in stovepipes because each 
service had their own money. They decided they wanted to do 
their own type of system. And now you have hundreds of 
logistics systems, dozens of travel systems, hundreds of 
personnel systems, etc.
    I want to go back to the culture issue, because----
    Senator Fitzgerald. Who is responsible for cleaning that 
up, for example, the business system? Mr. Lanzillotta, is there 
somebody in the DOD who is responsible for getting common 
business systems, where we are not spending $19 billion a year, 
$55 million a day, just on maintaining the existing business 
systems?
    Mr. Lanzillotta. Mr. Chairman, to go back to one of your 
earlier comments about the CFO Act, yes. I am. And we have done 
several things to do away with that. I disagree with Greg as to 
what that number is, but it doesn't do away with the point that 
Greg is trying to make, that we have a lot of money in these 
stovepiped systems.
    The two examples that you have here that you mentioned 
earlier in your statement about the two failed systems, we had 
to play the cards of where we were at. When we came in 3 years 
ago and said, this is what we are going to do. We are going to 
develop a common architecture. We were going to see where 
everything fit. We were going to know our interfaces and what 
we needed to do the end-to-end process.
    We stopped or slowed investment into legacy, what we call 
legacy systems, and the systems that you mentioned, the reason 
we killed them is that they weren't ever going to meet our 
needs. They were COD systems, in some cases, that we had so 
many bolt-ons that they didn't work right and they were never 
going to be financially compliant or give us the type of 
information or do the end-to-end process that we wanted to 
have.
    Business systems in the private sector fail because the 
ERPs fail. In fact, a majority of ERPs fail in the private 
sector and they fail because they haven't done the proper 
planning. What we have done with these systems, we had another 
example--I will give you two examples. These are two failed 
systems. They didn't work. We didn't have our requirements 
right. When we came in and we started building our 
architecture, we looked at these systems and we said they were 
never going to fit in and it was better to terminate these 
systems now than try to go through the life-cycle cost of these 
systems and go 10 years from now and say they don't work.
    I have a problem with my pay systems. My pay systems, 
military pay systems are written in a language called COBALT, 
and when I was in college, that is a language that I studied. I 
can't find a COBALT programmer right now. They are very hard to 
find. I haven't been able to make a change to this program 
since 1997. I maintain 500 people to hand-jam pay changes into 
my military pay systems since 1997. That is all they do.
    We went to PeopleSoft--that is part of Deimer's--and I 
said, I have a problem. I can't continue to do this. My 
military pay systems are going to fail. If I don't do something 
now, I run the risk of not being able to make a payroll, and 
that would be disastrous. Can you help me? And I got, umm, get 
out of the way. Let me get the next vendor in here. They said, 
I think we can help you if you work with us.
    I wouldn't let the people change one business practice that 
wasn't already in that system, and in 6 months, it ran the Army 
payroll in 2 hours. When I compared it to my current payroll 
system that takes me a week to run the military payroll--I 
believe it is a week, I will have to correct that for the 
record if it is wrong--the PeopleSoft system for compatible pay 
was more accurate in every case.
    So I was able to buy it. We already had the license. I 
didn't have to buy it. I was able to use an existing license 
for COD software, change our business practices to match the 
leading industry business practices in the software. I had to 
work with PeopleSoft to get the tax package in it, because it 
wasn't ready to go. And in 6 months, I was able to do a proof 
of concept and run the military payroll in 2 hours more 
correctly than I can do it right now.
    I will pay for this system after I fully field it in 18 
months. But that is the type of progress we can make if we stay 
the course.
    Senator Fitzgerald. So you are making progress in discrete 
areas like that. What about like on inventory control, which 
was the problem that gave rise to the defective suits not being 
recallable?
    Mr. Kutz. We issued a report yesterday on a system that 
Defense Logistics Agency developed, and again, it was a 
stovepiped solution. It was represented at hearings over the 
last several years before the National Security Subcommittee on 
the House side that this BSM systems project would fix the 
JSLIST suit problem. So if we had defective suits again, we 
would be able to recall them, or if there was an emergency and 
suits needed to be identified to be shipped to a certain part 
of the world, that they would be able to be done.
    That system is being implemented. It is going to cost 
probably $1 billion or more and it doesn't fix that problem. It 
is a stovepiped solution. It will fix issues within DLA, but it 
does not provide the end-to-end visibility of the JSLIST suits 
from the time that they are shipped from a DLA warehouse to the 
Army, Navy, or whoever else gets them so that, again, if you 
wanted to find them, you couldn't. You would have to do a data 
call. So that is an example of today, a system that is being 
developed right now that isn't going to solve corporate 
problems.
    I think, when Mr. Lanzillotta was talking about the 
culture, they are in the infancy stages of dealing with the 
culture. They are going right now from uncontrolled 
proliferation of business systems to trying to develop some 
semblance of control and management oversight over the enormous 
amount of money being spent on these business systems and I 
think they are at the very early stages of getting control of 
this and making it work the right way.
    Senator Fitzgerald. Mr. Kutz, what should Congress be doing 
about it?
    Mr. Kutz. Well, I think one of the reasons, if you go back 
to Mr. Lanzillotta talking about the budget cut, and I can only 
speculate here, but the armed services put in a provision last 
year that said all systems that have obligations over $1 
million should go through a certain procedure and be approved 
by the Comptroller before the obligation is made.
    I have testified several times now that we identified $863 
million of systems that were obligated that did not go through 
that process. I think, quite honestly, they are a bit disturbed 
that they passed a law and the Defense Department did not 
follow it. And that gets back to the culture, because some of 
the people that have even called us have said they don't even 
know what the business enterprise architecture is, and these 
are people working at the Chief Information Officers of some of 
the services. They may be being clever in saying that, but it 
may also be true that they don't know what it is. But whatever 
the point is, there is probably billions of dollars of these 
systems that are still being invested in that aren't 
necessarily corporate solutions or consistent with the plan 
that Mr. Lanzillotta is talking about for the architecture for 
the Department.
    Senator Fitzgerald. Is DOD just too big to ever get our 
arms around it?
    Mr. Kutz. No, I don't think so, and again, Mr. Walker 
talked about something like the Chief Management Official that 
we believe is an important aspect of this. And again, I would 
agree that person alone cannot solve the problem, but that is 
going to be someone who is a high-caliber person coming in to 
lead an effort. It is a monumental challenge, but the level of 
complexity is so much more difficult than anything you would 
see in the Federal Government or private sector. If it was 
easy, it would have been done decades alone.
    Senator Fitzgerald. Mr. Lanzillotta.
    Mr. Lanzillotta. Mr. Chairman, I agree with Mr. Kutz. I 
sometimes disagree with the way he would implement it, 
different recommendations. He is correct when we were 
legislated to certify every system over $1 million.
    Legislative change alone doesn't always make it possible 
for us to get our arms around it. We had to develop databases. 
We had to develop an inventory. We had to develop, to know what 
those million-dollar systems are. We are in the process of 
doing that.
    We went out to industry, brought in a leading practice or 
portfolio management, but one of the culture changes that had 
to occur is we had to teach our domains. We had to teach the 
people what portfolio management was. We had to go through. We 
had to bring in people and say, this is how you do portfolio 
management. We had to run everybody through on concepts on how 
to develop portfolio management. And this year when they 
deliver the POMS, the future year's program in the budgets in 
August, we are set for everybody to go through and certify 
their systems.
    Now, one thing that we found out when we developed these 
systems, and we are in the process of developing a database, in 
the finance and accounting arena, I only have about--how many 
systems is it, I think about, like, 20 systems that account for 
about 85 percent of my dollars.
    The first time, it is going to be ugly. We are going to go 
through and we are going to look at this, but each year we are 
going to get better at doing this. I don't believe we are at 
the infancy stage--I would say maybe the adolescent stage of 
doing this--but we have some maturing to go and I don't want to 
miss Mr. Kutz's point. We still have some maturing to go on how 
we do this.
    But that is why I say, a legislative provision that says 
you are going to certify 4,000 systems and review 4,000 systems 
right now, we are trying. But I told the writers of that 
legislation, fine, do that. We need you to do that. We need you 
to give us the power to do that. But you also understand that 
the first year, we are not going to be able to get it done. 
There isn't enough staffing in the world, enough IT people in 
the world that I could get to make this work.
    Mr. Kutz. But one of the points I would make with that is 
that Mr. Lanzillotta and the Comptroller sent out a policy memo 
that said you are supposed to submit these systems to the 
Comptroller, and the fact of the matter is, people did not 
submit them. So there was a policy and a memo in place that 
directed the services and everyone with the systems to do it. 
They just didn't follow it. So it wasn't like the guidance 
wasn't out there and people didn't know. And it is a separate 
issue, is if those systems had all come in for approval, 
whether they had the infrastructure to actually review them all 
in a substantive way, but they didn't even come in.
    Senator Fitzgerald. OK. We are getting close to one o'clock 
and we are going to have to terminate this hearing. It has been 
a wonderful hearing. I have one final question. I know, Mr. 
Kutz, your office did a lot of research into the situation with 
the unused plane tickets, for example, at DOD. I have a 
somewhat related question.
    I bumped into someone who owns a charter private jet 
service, and he told me one of his biggest customers was the 
Department of Defense and he was under the impression--he asked 
me how he could get in and fly Senators around. I told him, 
well, Senators fly commercial. And he said, ``They do?'' He 
said, ``The officers at the Pentagon, they take private jets.'' 
And I said, well, like where? And he said, ``Well, between 
Washington and St. Louis and other big cities.''
    Is it true that officers fly private jets and charter 
private jets at enormous expense to the taxpayers instead of 
flying commercially?
    Mr. Kutz. We have not investigated that issue before.
    Senator Fitzgerald. Mr. Lanzillotta.
    Mr. Lanzillotta. Mr. Chairman, I am going to have to say 
you have got me. I know we own aircraft that we use for certain 
levels of officers. They are usually four-star officers, combat 
and commanders, service chiefs, to fly. We own those aircraft, 
and those aircraft, we own them because of security needs, 
because of communications gear that has to go in there, and 
normal aircraft would not make that work. We also have certain 
VIP aircraft and we use the VIP for several VIPs and different 
types of VIPs to make trips. This is true. I was unaware that 
we chartered. I will have to go back and investigate----
    Senator Fitzgerald. Would you look into that and let me 
know? I would be interested. Maybe it is that a jet wasn't 
available, a military jet wasn't available for generals, and 
then they chartered one. I would be interested, and I hope you 
are able to get that information. I would appreciate that.
    Mr. Lanzillotta. Mr. Chairman, for troop movements, we 
charter aircraft all the time.
    Senator Fitzgerald. Oh, I understand that. This guy rents 
private jets for corporate executives, typically, and said some 
of his best business was with the DOD and that kind of shocked 
me. I just wanted to check into that.
    All of you, thank you very much. You have been terrific 
witnesses. I appreciate your time.
    Mr. Lanzillotta, thank you for your service to the 
government. I know it is a thankless job. I certainly would 
never want to undertake cleaning up all of those systems over 
at the Pentagon, and so thank you for your service. I thank all 
of you for your service to the public. Thank you.
    The record will remain open for additional statements until 
the close of business next Wednesday, July 14. We appreciate 
your being here.
    This hearing is adjourned.
    [Whereupon, at 1:01 p.m., the Subcommittee was adjourned.]


                            A P P E N D I X

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