Managerial Cost Accounting Practices: Leadership and Internal	 
Controls Are Key to Successful Implementation (02-SEP-05,	 
GAO-05-1013R).							 
                                                                 
Authoritative bodies have promulgated laws, accounting standards,
information system requirements, and related guidance to	 
emphasize the need for cost information and cost management in	 
the federal government. In particular, the (1) Chief Financial	 
Officers (CFO) Act of 1990, (2) Statement of Federal Accounting  
Standards No. 4: Managerial Cost Accounting Concepts and	 
Standards for the Federal Government, and (3) Joint Financial	 
Management Improvement Program's (JFMIP) Framework for Federal	 
Financial Management System established requirements and	 
accounting standards for managerial cost accounting (MCA)	 
information at federal agencies. The Federal Financial Management
Improvement Act of 1996 (FFMIA) built on this foundation and	 
required, among other things, CFO Act agencies' systems to comply
substantially with federal accounting standards and federal	 
financial management systems requirements. MCA involves the	 
accumulation and analysis of financial and nonfinancial data,	 
resulting in the allocation of costs to organizational pursuits  
such as performance goals, programs, activities, and outputs. The
data analyzed depend on the operations and needs of the 	 
organization. Nonfinancial data measure the occurrences of	 
activities and can include, for example, the number of hours	 
worked, units produced, grants managed, inspections conducted,	 
people trained, or time needed to perform certain functions. In  
light of the requirements for federal agencies to prepare MCA	 
information and your interest in financial management and	 
accountability, you asked us to determine the extent to which	 
federal agencies develop cost information and use it for	 
managerial decision making. The objectives of our review were to 
determine how federal agencies generate managerial cost 	 
accounting information as well as how governmental managers use  
cost information to support managerial decision making and	 
provide accountability. We provided the results of our study of  
the Department of Labor (DOL) and the Department of Veterans	 
Affairs (VA) to your office in the form of a briefing on July 15,
2005. This report summarizes that briefing and adds comments from
VA that we had not received in time to incorporate in our	 
briefing slides.						 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-05-1013R					        
    ACCNO:   A35737						        
  TITLE:     Managerial Cost Accounting Practices: Leadership and     
Internal Controls Are Key to Successful Implementation		 
     DATE:   09/02/2005 
  SUBJECT:   Financial management systems			 
	     Internal controls					 
	     Management information systems			 
	     Information resources management			 
	     Cost analysis					 
	     Systems analysis					 
	     Cost accounting					 
	     Data integrity					 
	     Systems design					 
	     Accountability					 
	     Systems evaluation 				 
	     Accounting standards				 
	     Agency missions					 
	     Data collection					 

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GAO-05-1013R

A

United States Government Accountability Office Washington, D.C. 20548

September 2, 2005

The Honorable Todd R. Platts

Chairman

Subcommittee on Government Management, Finance, and Accountability

Committee on Government Reform

House of Representatives

Managerial Cost Accounting Practices: Leadership and Internal Controls Are
Key to Successful Implementation

Dear Mr. Chairman:

Authoritative bodies have promulgated laws, accounting standards,
information system requirements, and related guidance to emphasize the
need for cost information and cost management in the federal government.
In particular, the (1) Chief Financial Officers (CFO) Act of 1990,1 (2)
Statement of Federal Accounting Standards No. 4: Managerial Cost
Accounting Concepts and Standards for the Federal Government, and (3)
Joint Financial Management Improvement Program's (JFMIP) Framework for
Federal Financial Management Systems2 established requirements and
accounting standards for managerial cost accounting (MCA) information at
federal agencies. The Federal Financial Management Improvement Act of 1996
(FFMIA)3 built on this foundation and required, among other things, CFO
Act agencies' systems to comply substantially with federal accounting
standards and federal financial management systems requirements.

MCA involves the accumulation and analysis of financial and nonfinancial
data, resulting in the allocation of costs to organizational pursuits such
as performance goals, programs, activities, and outputs. The data analyzed
depend on the operations and needs of the organization. Nonfinancial data

1Pub. L. No. 101-576, 104 Stat. 2838 (Nov. 15, 1990).

2In 2005, JFMIP's responsibilities for financial management and policy
oversight were realigned to the Office of Management and Budget, the
Office of Personnel Management, and the Chief Financial Officer's Council.

3Pub. L. 104-208, div. A., S: 101(f), title VIII, 110 Stat. 3009, 3009-389
(Sept. 30, 1996).

measure the occurrences of activities and can include, for example, the
number of hours worked, units produced, grants managed, inspections
conducted, people trained, or time needed to perform certain functions.

In light of the requirements for federal agencies to prepare MCA
information and your interest in financial management and accountability,
you asked us to determine the extent to which federal agencies develop
cost information and use it for managerial decision making. The objectives
of our review were to determine how federal agencies generate managerial
cost accounting information as well as how governmental managers use cost
information to support managerial decision making and provide
accountability. We provided the results of our study of the Department of
Labor (DOL) and the Department of Veterans Affairs (VA) to your office in
the form of a briefing on July 15, 2005. This report summarizes that
briefing and adds comments from VA that we had not received in time to
incorporate in our briefing slides. Copies of those slides are presented
as enclosure I.

Summary of Results	DOL and VA have different strategies to implement MCA
information systems. DOL implemented a departmentwide MCA system upon
which 15 of its 18 component agencies have built MCA models tailored to
their respective needs. At VA, responsibility for MCA implementation
rested with individual component agencies. When we conducted our review,
an MCA system was in operation at one of VA's two largest agency
components. DOL and VA officials cited several existing and planned uses
of MCA information by component agencies including budgeting, resource
allocation, financial reporting, and other managerial decision-making
purposes.

At both agencies, we noted that MCA-related controls needed strengthening.
Certain control weaknesses, such as not validating nonfinancial data and
not documenting policy and MCA procedures, could limit the reliability of
data used by management to analyze costs and to make decisions. We made
recommendations to DOL and VA to address these weaknesses. Both agencies
provided written comments on our briefing. DOL generally agreed with our
report and recommendations. VA, however, generally did not agree with our
overall conclusions and recommendations. After considering VA's comments,
we continue to believe our conclusions and recommendations regarding VA
are wellfounded and our responses are provided. We have incorporated the
comments from both agencies as appropriate. A more detailed discussion

of our findings, conclusions, and recommendations for each agency follows.

Department of Labor	DOL's mission is to foster and promote the welfare of
job seekers, wage earners, and retirees of the United States. For fiscal
year 2005, DOL has a budget of approximately $51 billion. It employs
nearly 17,000 people at 10 mission agencies and 8 support agencies.

DOL's early MCA pilot efforts in 1999 were unsuccessful. Its current
efforts were spurred, in part, by Office of Inspector General (OIG)
findings reported as part of its opinion on the department's 2002 and 2003
financial statements that DOL's accounting system was not in substantial
compliance with FFMIA because it did not meet MCA requirements. OIG
recommended that DOL develop an implementation plan for a comprehensive
departmentwide MCA system. DOL disagreed with the OIG's conclusions that
its accounting system was not in substantial compliance with FFMIA but did
agree to focus more attention on MCA. DOL's Office of the Chief Financial
Officer (OCFO) was assigned responsibility for MCA development. In its
2004 Financial Data Integration Improvement Plan, DOL identified MCA as a
way to address its most pressing management challenges.

DOL's new MCA system, Cost Accounting Manager (CAM), which became
operational during 2004, uses commercial software designed to collect and
analyze agency financial, workload, and labor distribution data. CAM has
the capability to provide management with information and reports
concerning the costs (including substantially all direct and indirect
costs) of performance goals, activities, and outputs. According to DOL
officials, CAM has the capability to provide integrated performance and
financial information, trend analysis, benchmarking data, and "what if"
analysis. Component-specific CAM models were developed by agency and OCFO
personnel. Models are in place at all 10 mission agencies and 5 of the 8
support agencies.4

The CAM system became operational in September 2004. Labor's component
agencies continue to refine the models to meet their needs as they learn
about system capabilities while considering additional

4The three agencies without MCA models represent approximately 0.1 percent
of the department's budget.

applications for CAM. In the meantime, DOL's MCA policy and procedures are
being updated to reflect newly developed systems and processes. DOL
officials told us that component-specific cost model reference manuals
would be disseminated by the end of fiscal year 2005. The manuals are to
combine, in one resource, descriptions of the CAM methodology, cost model
assumptions, output catalogues, and activity dictionaries already provided
for the agencies in various other forms.

Planned systemwide refinements include (1) automating the data extraction
and import process, (2) integrating budget and performance data, and (3)
adding programs, activities, and outputs not included in baseline models.
Though DOL's department-level MCA staff discusses and evaluates MCA
activities in ongoing forums with component staffs, DOL's plans did not
include a post-implementation review (PIR) of the new CAM system. A formal
PIR would document the evaluation of differences between estimated and
actual costs and benefits of the CAM system and document lessons learned
and control process improvements identified to assist in planning and
implementing future projects.

DOL's CAM obtains financial information from its core accounting system,
while nonfinancial information, such as labor distribution and performance
data, is obtained from other sources. Various controls over financial data
are in place. These include (1) annual audits of financial statements,
which are prepared from the same core accounting system data that is used
by CAM and which have had unqualified opinions from 1997 through 2004; (2)
reconciliations of the CAM to the general ledger system; and (3) quarterly
attestations by component agencies' senior officials concerning the
adequacy of internal controls, the accuracy of transaction recording, and
regulatory compliance as they relate to the quarterly financial closing
and reporting practices.

According to DOL, the process of building and updating the MCA models
includes the review of nonfinancial data, such as labor distribution and
performance data, by supervisors, line managers, senior managers, and
program administrators. However, DOL acknowledges that controls over
nonfinancial labor distribution and performance data need further
attention. In its fiscal year 2004 performance plan, DOL identified the
validation of such data as one of its challenges. Nonfinancial data is
equally important as financial data in determining reliable managerial
cost information because it provides the basis for allocating costs to
various programs, activities, or outputs. Unreliable nonfinancial data
will result in unreliable cost allocations. At DOL's largest component
agency, the

Employment and Training Administration, the OIG noted high error rates in
grantee-reported performance data. In 2004, the OIG also raised concerns
about DOL using those data for decision making. DOL officials responded
that they were implementing additional data validation systems to address
these issues. Currently, the OIG is assessing how it will audit CAM data
in the future.

DOL's component agencies are focusing on further refining their respective
models to help manage programs and resources more effectively. Even though
CAM was implemented only recently, DOL agencies identified many uses for
CAM data. For example, DOL officials said they have begun to use CAM data
to identify and analyze (1) program costs across regions; (2) comparative
costs of grant management activities by type of grant; (3) full
administrative costs related to the development of policies, regulations,
and legislative proposals; (4) unit costs of training and employment
programs; and (5) budget justifications and resource allocations.

Department of Veterans Affairs

VA's mission is to administer laws that provide health care, financial
assistance, burial benefits, and other services for veterans, their
dependents, and their beneficiaries. For fiscal year 2005, VA's total
budget authorization is about $67 billion. Its two largest component
agencies, in terms of budget and staff size, are the Veterans Health
Administration (VHA) and the Veterans Benefits Administration (VBA). Its
third and smallest agency is the National Cemetery Administration (NCA).
With over 193,000 employees, VHA is VA's largest component. VHA provides a
broad spectrum of medical, surgical, and rehabilitative care to veterans.
VBA has about 13,000 employees who process claims for VA benefits. NCA
employs about 1,500 people and provides direction and oversight for 120
cemeteries.

By design and policy, VA does not have an entitywide MCA model. According
to department officials, each of the VA agencies has independently built a
cost accounting system for identifying, accumulating, and assigning the
costs of its outputs, though VBA discontinued use of its system in 2003.
Officials told us that VA's financial management priority has been the
removal of a material weakness that was identified by independent auditors
and related to the lack of an integrated financial management system at
the department. VA also stated that having a fully operational MCA model
at each component is important to VA's decision making.

VA has published cost accounting policy and guidance that delegate
implementation responsibility to component agencies. The VA officials we
interviewed, however, could not identify examples of proactive
department-level leadership to ensure implementation of MCA at component
agencies. In the absence of effective department-level leadership, the
extent of current MCA implementation and use varied at VHA and VBA.

VHA uses the Decision Support System (DSS) for MCA. According to VHA
officials, DSS models significant VHA cost flows and activities. DSS
facilitates cost and workload analyses of VHA's locations, programs,
activities, and individual patients. It obtains data from 49 feeder
sources, including the VA's Financial Management System general ledger and
VHA's Veteran's Health Information Systems and Technology Architecture
(VistA).5 DSS includes direct and indirect costs for VA hospitals and
supporting organizations.

DSS was used to generate cost information to support internal budgeting;
resource allocation; performance measurement; fee reviews; and cost
findings for programs, activities, and outputs. For example, officials
told us that a chief pharmacist's request for additional funds for
high-cost providers and drugs used at a VA hospital was supported by a DSS
analysis of the local pharmacy costs for that location.

DSS is also used to compare the costs among the hospitals to determine
where services can be provided at the lowest cost. In one case, this kind
of DSS information analysis was used in the decision-making process to
consolidate inpatient psychiatric services. DSS is also used to determine
the costs of services provided for individual customers, as DSS records
allow information to be tracked for individual patients. VHA officials
informed us that the extent and nature of DSS's use for management
decision making varied from one medical facility to the next because of
different levels of training among medical facility staff.

The completeness and accuracy of the data in DSS depend on the quality of
data from the feeder systems. Financial information included in DSS is
subject to controls that help ensure data reliability. VA officials told
us that they periodically reconcile DSS to the general ledger system and
provided an example of such a reconciliation. Audits of VA's annual
financial

5 VistA is VHA's nonfinancial workload information system for hospitals.

statements, which are based on the same financial information that feeds
DSS, have resulted in unqualified opinions for fiscal years 1999 through
2004.

However, both the independent auditor and the OIG have raised concerns
about the quality of data from DSS nonfinancial feeder systems, such as
VistA. In their fiscal year 2004 management letter, the independent
auditors noted an increasing shortage of information technology (IT) staff
supporting VistA applications and related network infrastructures at the
medical centers. The independent auditor concluded that "[t]his loss of
human capital and knowledge in the IT organizational structure places VA's
information and its processing capabilities at risk."

In August 2004, the OIG reported that most of the legacy systems, such as
VistA, at VA's Bay Pines Medical Center contained inaccurate data. The OIG
further stated that this might be a systemic problem throughout VHA.
According to that report, VHA officials concurred with the OIG and agreed
to take corrective action.

Since DSS has 49 feeder sources, including VistA, the independent auditor
and OIG findings raise concerns about the quality of nonfinancial data in
DSS. Inaccurate nonfinancial data could skew cost calculations and any
resulting managerial decisions.

The VHA Decision Support Office was unable to readily produce
documentation of the mechanism used to assign indirect costs to cost
objects in DSS. The lack of readily available system documentation could
inhibit efforts to determine whether such costs are properly assigned and
precludes an opportunity to provide guidance for employees using the
system, especially new employees.

At VBA, use of its Activity Based Costing (ABC) system was discontinued in
March 2003 because of the loss of key personnel and the lack of
credibility among some managers concerning the indirect cost distribution
methodology, a central part of ABC systems. At the time of our review, VBA
was not funding or promoting MCA. During our review, we suggested that VA
implement an appropriate MCA approach at VBA. Subsequently, VBA's CFO
stated that VBA would seek funding in its 2007 budget request to develop
cost accounting capabilities to support measurement goals.

Concerning NCA, VA officials, advised us that NCA uses ABC. However,
because of NCA's relatively small size (less than 1 percent of VA's 2005
budget authority), we did not review its MCA processes.

With no MCA system at the department level, VA used manual cost-finding
techniques to accumulate cost information used for department-level
external financial reporting and budgeting. While manual cost finding
techniques are useful and appropriate in certain situations, they also
have drawbacks such as the time and effort required to prepare results and
to readjust results for appropriate changes, with the accompanying
inherent risk of errors. Accordingly, they are not recommended as a
surrogate for an automated cost accounting system when one is warranted.
VA's independent financial statement auditor reported control weaknesses
in the agency's manual process to prepare its annual Statement of Net
Costs for fiscal year 2004. VA uses Excel spreadsheets to prepare its
Statement of Net Costs. A consequence of using this process is that
end-of-year auditor adjustments and edits can cause the roll-up process to
be reperformed and thus be burdensome, time-consuming, and error prone.
Also, VA officials told us that the documentation of its Statement of Net
Cost compilation procedures, needed to help ensure the process is
completed as designed, was not current. The Office of Management and
Budget (OMB) requirement to prepare the Statement of Net Cost by
responsibility segment can be satisfied by, and is an effective use of, a
reliable, agencywide cost accounting system.

Conclusions	Leadership and strong internal controls are necessary for the
successful implementation and operation of MCA. We found that DOL's recent
efforts to implement CAM were significantly boosted by its departmental
leadership. At the same time, maximizing CAM's contribution to improved
management will require continuing improvements to system data
reliability, system documentation, and assessments of system
effectiveness.

At VA, implementation and continuation of MCA practices were largely
abandoned at its VBA component. Also, while the DSS system is in place at
VHA, documentation of system processes and controls and other auditors'
concerns about the quality of nonfinancial data require attention in order
to enhance the reliability of information for managerial decision making.
Having a MCA system in place at all of VA's significant component agencies
could facilitate the automation and integration of the agency's Statement
of

Net Cost preparation process with its other financial management systems,
which would reduce the risk of errors and improve efficiency.

Recommendations for Executive Action

We are making recommendations to the Secretaries of the Departments of
Labor and Veterans Affairs.

In order for DOL to develop MCA information sufficiently reliable for
ongoing managerial decision-making, leveraging the substantial efforts
already undertaken by the agency, we recommend that the Secretary of Labor
direct the Chief Financial Officer of the Department of Labor to:

o 	Continue steps to verify the accuracy of nonfinancial data used for MCA
and assess related internal controls over nonfinancial data quality to
help ensure data reliability.

o 	Complete the planned update of MCA policies and procedures to ensure
that department-level guidance is comprehensive and current.

o 	Complete the compilation and dissemination of component-specific CAM
reference materials so that the documentation is in a consolidated
resource that is readily available to system users, managers, and
auditors.

We also recommend that the Secretary of Labor direct appropriate personnel
to perform and document a post-implementation review of CAM to evaluate
whether managerial cost information meets organizational objectives and
users' needs. This review should also determine and document the extent to
which managers use CAM-generated data in managing day-to-day operations.

To help ensure that VA components implement and use reliable MCA
methodologies, we recommend that the Secretary of Veterans Affairs direct
appropriate department-level officials to exercise more effective
leadership and oversight in order to:

o 	Develop, implement, and operate an appropriate MCA system at VBA to
improve managerial decision-making.

o 	Periodically validate the nonfinancial data used by VHA's DSS team for
MCA and assess related internal controls.

o 	Document the DSS processes and controls for assigning indirect costs to
cost objects to help ensure that costs are properly assigned.

o 	Provide adequate numbers of properly trained staff at field locations
to administer DSS to maximize system availability and utilization.

In an effort to reduce the risks of errors and delays inherent with manual
processes, we also recommend that the Secretary of Veterans Affairs direct
appropriate VA officials to:

o  Further automate the Statement of Net Cost preparation process.

o 	Update the Statement of Net Cost compilation procedure documentation.

Agency Comments and Our Evaluation

DOL generally agreed with our findings and recommendations and provided
technical comments. In contrast, VA did not agree with our overall
conclusions and four of our recommendations and provided their rationale
for their positions as well as technical comments. We considered and have
incorporated both agencies' comments, as appropriate.

Although DOL agreed with the thrust of our recommendation to perform a PIR
on its CAM system, it claimed to have already fulfilled the intent of a
PIR by performing various separate evaluative activities in ongoing
forums. While discussions among CAM users and the department-level CAM
team can provide insight about CAM use and its benefits, a PIR has a
formal structure that includes documenting the validation of the estimated
benefits and costs of information systems and the lessons learned to
provide effective management practices for broader use. We believe that a
comprehensive PIR undertaken in accordance with OMB Circular No. A130,
Management of Federal Information Resources, documents the activities
performed and their results in a report that would be available for the
benefit of current and future stakeholders. We modified the language
regarding the form and documentation required for a PIR to be more
explicit but made no change to our recommendation.

VA disagreed with our recommendation that it exercise more effective
departmental leadership to help ensure the implementation of appropriate
MCA methodologies at VA components. VA stated that, by design and policy,
it had not implemented a department-level cost accounting system because
of "broad differences in size, mission, and need" of its constituent

agencies. It said that its MCA system was not meant to be the sole source
in making management decisions but, rather, was to be "used in conjunction
with other factors in determining how resources are utilized."

We agree that entities should design their systems to meet their mission
and operation needs. Our concern is that departmental leadership has not
effectively encouraged VBA to implement an appropriate alternative system
since VBA discontinued using its ABC system. A more proactive
department-level effort is needed to promote effective MCA at VA's
constituent agencies to improve informed managerial decision making and
accountability. Presently, VBA, which provides a broad spectrum of
nonmedical services and benefits to veterans and their families, does not
utilize a MCA system to support decision-making.

VA also disagreed with our recommendation that it periodically validate
the nonfinancial data used for MCA and periodically assess the related
internal controls over nonfinancial data quality. VA stated that it had
established a standardized and comprehensive audit guide identifying the
audits that should be done to address data reliability. While providing
guidance is of significant importance, solely establishing comprehensive
audit guides does not ensure that the guides are followed or that the
procedures are completed. The department should obtain assurance that the
audits are conducted and that the data extracts are reconciled to feeder
systems. Further, to establish MCA data reliability, the department should
have ongoing procedures in place that test and establish the reliability
of the data in the nonfinancial feeder systems.

VA disagreed with our recommendation that it document the DSS processes
and controls for assigning indirect costs to cost objects. VA said that it
documents processes and controls for assigning direct and indirect costs
to cost objects and that its guidance for assigning direct and indirect
costs is updated yearly. This is not what we found when we visited
officials with the VHA Decision Support Office. During our audit, VA
officials were unable to produce documentation of its processes used to
assign costs to cost objects.

VA also disagreed with our recommendation that it take steps to ensure
that enough IT staff are onboard in field locations to administer DSS.
Their response was that such an approach was unnecessary, since very few,
if any, IT staff are involved in the hands-on operation of DSS. They
believe that providing written and on-the-job technical training for its
financial and clinical personnel on the technical portions of DSS is
sufficient. However,

the lack of IT staff with appropriate skills increases the risk that
information systems and processing capabilities will fail or will be
unreliable. We believe it is essential that sufficient well-trained IT
staff be available for the administration and maintenance of all systems
from which financial and nonfinancial data are derived for use in DSS
throughout VHA.

Lastly, VA agreed with our recommendation that it further automate its
Statement of Net Cost preparation process and update its compilation
procedure documentation. VA said that it would continue to look at and
implement, where appropriate, mechanisms to streamline these processes. To
this end VA indicated that it had an initiative under way to automate the
preparation of its consolidated financial statements. This is also to
include the establishment of a financial data warehouse. We applaud these
efforts. If successfully implemented and linked to the financial reporting
compilation processes, the financial data warehouse and automated
compilation procedures should reduce the time, burden, and risk of errors
inherent in VA's current compilation efforts.

Scope and Methodology

To enhance our understanding of how MCA systems at DOL and VA generate
cost information, we interviewed officials and reviewed documentation on
the status of MCA system implementation and the related obstacles to
managerial costing. We also examined departmental guidance and looked for
evidence of the DOL and VA leadership and commitment to the implementation
of entitywide cost management practices. Using the Standards for Internal
Control in the Federal Government6 as a guide, we examined DOL and VA
internal controls over the reliability of financial and nonfinancial
information used in MCA. To determine how DOL and VA managers use cost
information to support managerial decision making and provide
accountability, we obtained an understanding of how DOL and VA use cost
accounting data for budgeting, costing services or products, preparation
of the Statement of Net Cost, and other managerial uses through interviews
of agency officials and a review of documentation provided by the
departments.

During our review, we visited DOL and VA headquarters in Washington, D.C.
We interviewed officials about their MCA activities at the departmental
level, at selected DOL component agencies, and at VA's two

6GAO, Standards for Internal Control in the Federal Government,
GAO/AIMD-00-21.3.1 (Washington, D.C.: November 1999).

largest component agencies - VHA and VBA. When possible, we corroborated
information obtained in interviews with agency documents such as policies,
procedures, system descriptions, and flowcharts. We also reviewed prior
OIG and GAO reports regarding MCA activities, systems, and data. We
requested comments on a draft of our briefing presentation from the
Secretaries of Labor and Veteran's Affairs or their designees. We received
written comments from the Chief Financial Officer of the Department of
Labor and the Deputy Secretary of Veterans Affairs and incorporated their
comments as appropriate. Their comments are reprinted as enclosures II and
III, respectively. We performed this work in accordance with U. S.
generally accepted government auditing standards from March through June
2005.

We are sending this report to the Secretaries of Labor and Veterans
Affairs;
Director, OMB; and other interested parties. Should you or your staff have
any questions on the matters discussed in this correspondence, please
contact me on (202) 512-6131 or by e-mail at [email protected]. Contact
points for our Offices of Congressional Relations and Public Affairs can
be
found on the last page of this report. Key contributors to this assignment
were Jack Warner, Paul Begnaud, Lisa Crye, Dan Egan, Barbara House,
Jerrica Kahle, Paul Kinney, Lisa Knight, Miguel Lujan, James Moses, Lori
Ryza, Glenn Slocum, and Bill Wright.

Sincerely yours,

Robert E. Martin
Director, Financial Management and Assurance

Enclosures - 3

Enclosure 1

                      Managerial Cost Accounting Practices

Department of Veterans Affairs

Leadership and Internal Controls Are Key to Successful Implementation

Briefing to the Subcommittee on Government Management, Finance, and
Accountability, Committee on Government Reform, House of Representatives

July 15, 2005

                                       1

o  Introduction and Objectives

o  Scope and Methodology

o  Results in Brief  o  Background  o   o  Background  o  MCA Systems in
Place  o  Uses of MCA Information  o  Department of Veterans Affairs  o 
Background  o  MCA Systems in Place  o  Uses of MCA Information  o 
Conclusions  o  Recommendations for Executive Action  o  Agency Comments
and Our Evaluation

                                       2

o 	Authoritative bodies have promulgated laws, accounting standards,
system requirements, and related guidance to emphasize the need for cost
information and cost

o  Congress

o  Federal Accounting Standards Advisory Board (FASAB)

o 	Joint Financial Management Improvement Program (JFMIP)

o  Office of Management and Budget (OMB)

o 	In light of these requirements, you asked us to determine the extent to
which federal agencies develop cost information and use it for managerial
decision making.

                                       3

o  The objectives of our review were to determine how

o 	federal agencies generate managerial cost accounting (MCA) information
and

o 	government managers use cost information to support managerial decision
making and provide accountability.

o 	This briefing covers the results of our review at the Department of
Labor (DOL) and the Department of Veterans Affairs (VA).

o 	This is the first in a series of briefings concerning the status of MCA
activities at large government agencies.

                                       4

o 	To determine how MCA systems at DOL and VA generate cost information,
we interviewed officials and obtained documentation on

o  the status of MCA system implementation;

o  the implementation of cost management practices entitywide;

o 	departmental internal controls ensuring the reliability of financial
and nonfinancial information used in MCA; and

o  obstacles to managerial costing.

o

                                       5

o 	To determine how DOL and VA managers use cost information to support
managerial decision making and provide accountability, we interviewed
officials and obtained documentation on

o 	the use of cost accounting data for budgeting andcosting services or
products,

o  preparing the Statement of Net Cost, and

o  any other uses.

                                       6

o 	During our review, we visited DOL and VA headquarters in Washington,
D.C., and interviewed officials about their MCA activities at the
department level, at selected DOL component agencies, and at VA's two
largest components.

o 	When possible, we corroborated information obtained in interviews with
agency documents such as policies, procedures, system descriptions, and
flowcharts. We also reviewed prior Office of Inspector General (OIG) and
GAO reports regarding MCA activities, systems, and data.

o 	We performed this work from March through June 2005 in accordance with
U.S. generally accepted government auditing standards.

                                       7

o 	DOL and VA adopted different strategies to implement MCA.

o  which 15 of 18 component agencies have built MCA models tailored to
their respective needs.

o 	At VA, responsibility for MCA implementation rested with individual
component agencies, and at the time of our review an MCA system was in
operation at one of VA's two largest agency components.

                                       8

o 	DOL and VA officials cited existing and planned uses of MCA information
by component agencies for budgeting, resource allocation, financial
reporting, and other

o 	MCA-related internal controls need strengthening at both DOL and VA.
Certain control weaknesses, such as not validating nonfinancial data and
documenting policy and procedures, could limit the reliability of data
used by management to analyze costs and make decisions.

o 	We received and incorporated comments from DOL, as appropriate. We did
not receive comments from VA in time to evaluate and present them in this
briefing. We made recommendations to both agencies to address our
findings.

                                       9

o 	The Chief Financial Officers (CFO) Act of 1990, Statement of Federal
Financial Accounting Standards No. 4:

Managerial Cost Accounting Concepts and Standards for

requirements and accounting standards for managerial cost accounting
information at federal agencies.1

o 	The Federal Financial Management Improvement Act of 1996 (FFMIA) builds
on the foundation provided by the CFO Act and requires CFO Act agencies'
systems to comply substantially with federal accounting standards and
federal financial management systems requirements.

1 In 2005, JFMIP's responsibilities for financial management and oversight
were transferred to OMB, OPM, and the Chief Financial Officer's Council.

                                       10

o 	MCA is the accumulation and analysis of financial and nonfinancial data
resulting in the allocation of costs to units of activity, outputs, or
programs.

o 	Nonfinancial data measure the occurrences of activities and outputs to
which costs are assigned.

o 	Nonfinancial data could include, for example, information on the number
of hours worked; units produced; grants managed; inspections conducted;
people trained; or time needed to perform certain functions - depending on
the program, agency, or both.

                                       11

o 	DOL's mission is to foster and promote the welfare of jobseekers, wage
earners, and retirees of the United States.

o 	For FY 2005, DOL has a budget of approximately $57 billionand employs
approximately 15,000 people.

o 	DOL consists of 10 mission agencies and 8 supportagencies.

                                       12

o 	Early MCA pilot efforts in1999 were unsuccessful. DOL's currentefforts
were spurred, in part, by 2002 and 2003 OIG findings thatDOL's accounting
system was not in substantial compliance withFFMIA due to not meeting
managerial cost accountingrequirements. OIG recommended that DOL develop a

o 	DOL disagreed and the Secretary attested that the systems werefully
compliant. DOL did agree to focus more attention on MCA.

o 	DOL's Office of the Chief Financial Officer (OCFO) was
assignedresponsibility for MCA development.

o 	In its 2004 Financial Data Integration Improvement Plan, DOLidentified
managerial cost accounting as a way to address itsmost pressing management
challenges.

                                       13

o 	According to DOL officials, their new MCA system, Cost Analysis Manager
(CAM), has the capability to identify, accumulate, and assign costs
(including substantially all direct and indirect costs) to outputs.

o 	Component-specific CAM models were developed by agency and OCFO
personnel. Models are in place at all 10 mission agencies and 5 of the 8
support agencies.2

o 	DOL officials told us that they had invested approximately $2.6 million
to date in CAM.

o 	The Secretary of Labor discussed CAM in meetings with agency heads,
according to DOL officials.

According to DOL, the three agencies without MCA models represent
approximately 0.1 percent of the department's budget.

                                       14

                              MCA Systems in Place

o 	CAM uses commercial software designed to collect financial, agency
workload, and labor distribution data and

o 	According to DOL officials, CAM has the capability to provide
management with

o 	information/reports concerning the costs of performance goals,
activities, and outputs and

o 	integrated performance and financial information, trend analysis,
benchmarking data, and "what if" analysis.

                                       15

o 	DOL declared the CAM system operational in September 2004.

o  Components continue to refine the models to meet their

o 	DOL's MCA policy and procedures are being updated toreflect newly
developed systems and processes.

o 	DOL officials told us that component-specific cost modelreference
manuals would be disseminated by the end offiscal year 2005. The manuals
will combine, in oneresource, descriptions of the CAM methodology,
costmodel assumptions, output catalogs and activitydictionaries already
provided for the agencies in variousother forms.

                                       16

                              MCA Systems in Place

o  Planned systemwide refinements include

o  automating the data extraction/import process,

o  integrating budget and performance data, and

o  models.

o 	DOL's action plans did not include post-implementation review (PIR) of
the new CAM system. A formal PIR would document

o  evaluation of differences between estimated and actual costs and
benefits and

o  opportunities for management to extract "lessons learned" and improve
control processes.

                                       17

                              MCA Systems in Place

o 	CAM incorporates financial information from DOL's core accounting
system. Nonfinancial information, such as labor distribution and
workloads, is obtained from other sources.

o

o 	Annual audits of financial statements have resulted in unqualified
opinions from 1997 through 2004.

o 	DOL officials provided an example of a reconciliation ofCAM to the
general ledger system.

o 	Senior component officials attest in writing to theadequacy of internal
controls, accuracy of transactionrecording, and regulatory compliance on a
quarterlybasis.

                                       18

                              MCA Systems in Place

o 	According to DOL, in the process of building and updating the MCA
models, nonfinancial data such as labor distribution and performance data
are reviewed by supervisors, line managers, senior managers, and program
administrators.

o 	Controls over nonfinancial workload and performance data, however, need
further attention.

o 	In its fiscal year 2004 Performance Plan, DOL identified validation of
data as one of its challenges.

o 	At DOL's largest component agency, the OIG noted high error rates in
grantee-reported performance data, and raised concerns about DOL using
those data for decision making.

o 	DOL officials said they are implementing additional data validation
systems to address these issues.

o  The OIG is assessing how it will audit CAM data in the future.

                                       19

o 	Components are focusing on further refining their respective models to
help manage programs and resources more effectively.

o  Even though CAM was only recently implemented, DOL

of which are expected to lead to more sound managerial decisions. For
example, DOL officials said they have begun to use CAM data to identify
and analyze

o  program costs across regions;

o 	comparative costs of grant management activities, bytype of grant;

o 	full administrative costs related to the development ofpolicies,
regulations, and legislative proposals;

o  unit costs of training and employment programs; and

o  budget justifications and resource allocations.

                                       20

o 	VA's mission is to administer laws that provide health care,financial
assistance, burial benefits, and other services toveterans, their
dependents, and their beneficiaries.

o

staff size, are the Veterans Health Administration (VHA) and the Veterans
Benefits Administration (VBA). Its third andsmallest agency is the
National Cemetery Administration(NCA).

o 	VHA has over 193,000 employees and is the largest VAcomponent agency.
VHA health care facilities provide abroad spectrum of medical, surgical,
and rehabilitative care.VBA has about 13,000 employees who receive and
processclaims for VA benefits. NCA provides direction andoversight for 120
cemeteries.

                                       21

o 	By design and policy, VA does not have an entitywide MCA model. Each
administration has built a cost accounting system for identifying,
accumulating, and assigning the costs of its outputs. However, VBA had

2003.

o 	According to department officials, VA's financial management priority
has been the removal of a material weakness that was identified by
independent auditors and related to the lack of an integrated financial
management system at the department.

o 	VA stated that having a fully operational MCA model at each component
was important to VA decision making.

                                       22

o 	VA has published cost accounting policy and guidance that delegate
implementation responsibility to component agencies.

o 	VA officials we interviewed, however, could not identify examples of
proactive department-level leadership or coordination to implement MCA at
all components or to foster an organizational culture conducive to MCA.

o 	In the absence of effective department-level leadership, the extent of
current MCA implementation and use varied at VHA and VBA.

                                       23

o  VHA uses the Decision Support System (DSS) for MCA.

o 	According to VHA officials, DSS is intended to be a comprehensive model
of significant VHA cost flows and

o 	enables cost and workload analyses of locations, programs, activities,
and individual patients;

o 	gets data from 49 feeder sources, including VA's Financial Management
System (FMS) general ledger and VHA's Veteran's Health Information Systems
and Technology Architecture (VistA); and

o 	includes direct and indirect costs for VA hospitals and supporting
organizations.

                                       24

o 	In March 2003, VBA discontinued its use of its Activity Based Costing
(ABC) system due to loss of key personnel and the indirect cost
distribution methodology's lack of credibility with some managers.

o

o 	During our review, we suggested that VA implement an appropriate MCA
approach at VBA.

o 	Subsequently, VBA's CFO stated that VBA would seek funding in its 2007
budget request to develop cost accounting capabilities to support
performance measurement goals.

o 	According to VA officials, NCA uses ABC. Because of NCA's relatively
small size, we did not review its MCA processes.

                                       25

o 	The independent auditor reported control weaknesses in VA's manual
process to prepare its annual Statement of Net Costs (SNC). VA uses Excel
spreadsheets to prepare the SNC.

o  roll-up process to be reperformed and thus be burdensome,
time-consuming, and error-prone.

o 	VA officials told us the documentation of its SNC compilation
procedures was not current.

o 	The VHA Decision Support Office was unable to readily produce
documentation of the mechanisms used to assign indirect costs to cost
objects in DSS. Lack of readily available system documentation could
inhibit efforts to determine whether such costs are properly assigned.

                                       26

o 	Financial information included in DSS is subject to controls that help
ensure data reliability.

o  to the general ledger system, and they provided an example of a
reconciliation.

o 	Annual audits of financial statements have resulted in unqualified
opinions for fiscal years 1999 through 2004.

                                       27

o 	Both the independent auditor and OIG raised concerns about the quality
of data from DSS nonfinancial feeder systems, such as VistA.

o  independent auditors noted an increasing shortage of information
technology (IT) staff supporting VistA applications and related network
infrastructures at the medical centers and concluded that "This loss of
human capital and knowledge in the IT organizational structure places VA's
information and its processing capabilities at risk."

                                       28

o 	In August 2004, the OIG found that most of the legacy systems at Bay
Pines Medical Center contained inaccurate data. The OIG further stated
that this may be

o 	According to the report, VHA officials concurred with the OIG's
recommendation and agreed to take corrective actions.

o 	Since DSS has 49 feeder sources, including VistA, the above findings
from the OIG and the independent auditor raise concerns about the quality
of nonfinancial data in DSS.

o 	Inaccurate nonfinancial data could skew cost calculations and any
resulting managerial decisions.

                                       29

o 	With no MCA system at the department level, VA used manual cost-finding
techniques for external financial reporting, and budgeting.

o  budgeting; resource allocation; performance measurement; fee reviews;
and cost finding for programs, activities, and outputs. For example, VA
officials told us:

o 	A chief pharmacist's request for additional funds at a VA hospital was
supported by a DSS analysis of the local pharmacy's costs, showing that
high-cost providers and drugs had to be used at that location.

                                       30

o 	DSS is used to compare the costs among hospitals to determine where
services can be provided at the lowest cost. In one case, DSS information
was used in the decision process to consolidate inpatient psychiatric
services.

o 	DSS is used to determine the costs of services provided to individual
customers. DSS records allow information to be tracked for individual
patients.

o 	Officials informed us that the extent and nature of DSS use for
management decision making varied from one medical facility to the next
because of different levels of training among medical facility staff.

                                       31

o 	Leadership and strong internal controls are necessary for successful
implementation and operation of MCA.

o  significantly boosted by its departmental leadership, maximizing CAM's
contribution to improved management will require continuing improvements
to system data reliability, system documentation, and assessments of
system effectiveness.

                                       32

o 	VA's department level leadership has been ineffective concerning the
implementation and continuation of MCA

documentation of system processes and controls and other auditors'
concerns about the quality of nonfinancial data require attention in order
to enhance the reliability of information for managerial decision-making.
Lack of a MCA system at all components departmentwide could inhibit
integration of VA's SNC preparation process with its other financial
management systems, a process which could reduce the risk of error.

                                       33

Recommendations to the Secretary of Labor

1.

data validation as one of its 2004 challenges, DOL should continue steps
to verify the accuracy of nonfinancial data used for MCA and assess
related internal controls over nonfinancial data quality to help ensure
data reliability.

2.	DOL should complete the update of MCA policies and procedures to ensure
department level guidance is comprehensive and current.

                                       34

3.

documentation is in a consolidated resource that is readily available to
system users, managers, and auditors.

4.	DOL should perform and document a post-implementation review of CAM to
evaluate whether managerial cost information meets organizational
objectives and users' needs. This review should also determine the extent
to which managers use CAM-generated data in managing day-to-day
operations.

                                       35

Recommendations to the Secretary of Veterans Affairs

1.	VA should exercise more effective department-level leadership to help
ensure the implementation and

2.	To enhance the reliability of data, VA should periodically validate the
nonfinancial data used for MCA and assess related internal controls.

3.	To help ensure that costs are being properly assigned, VHA should
document the DSS processes and controls for assigning indirect costs to
cost objects.

                                       36

4. In order to help maximize the utilization of DSS, VHA

numbers of properly trained staff at field locations to administer DSS.

5.	To reduce the risks of errors and delays from manual efforts, VA should
further automate the SNC preparation process and update SNC compilation
procedure documentation.

                                       37

o 	We received written comments from DOL on a draft of this briefing. DOL
generally agreed with our findings, providing a number of technical and
substantive comments that we have considered and incorporated, as
appropriate.

o  models on its departmentwide MCA system. We clarified our briefing to
more fully recognize the implementation progress DOL has made.

o 	DOL highlighted that the three agencies without MCA models represent
approximately 0.1 percent of the department's total budget. To better
indicate the relative significance of DOL components that have no MCA
model, we added that information in a footnote.

                                       38

o 	DOL agreed with our recommendation about verifying nonfinancial data
and assessing related controls. DOL also stated that it recognizes the
importance of data quality and that it will continue to implement
additional procedures as necessary, while describing some of the steps it
is taking to

and our recommendation by recognizing DOL's ongoing efforts to improve
those data.

o 	Agreeing with our recommendation on distributing component-specific
cost model reference manuals, DOL also commented that the agencies have
already received, in various forms, information to be included in the
manuals. We clarified our briefing by acknowledging the information DOL
previously provided to agencies. We also described the breadth of the
information included in these manuals and incorporated in our
recommendation, the importance of providing that information in a
consolidated resource.

                                       39

o 	Although DOL agreed with the thrust of our recommendation to perform a
PIR of its CAM system, it claimed to have already fulfilled the intent of
a PIR by performing various

validation of estimated benefits and costs of information systems and the
lessons learned to provide effective management practices for broader use.
We believe that a comprehensive PIR undertaken in accordance with OMB
Circular No. A-130 documents the activities performed and their results in
a report that would be available for the benefit of current and future
stakeholders. We clarified our briefing regarding the form and
documentation required for a PIR but made no change to our recommendation.

                                       40

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