Portfolio overview

The Defence portfolio includes a number of entities that together are responsible for the defence of Australia and its national interests. The principal entities within the Defence portfolio are the Department of Defence, the Australian Signals Directorate and Defence Housing Australia.

The Department of Defence, including the Australian Defence Force, is responsible for protecting and advancing Australia’s strategic interests through the promotion of security and stability, the provision of military capabilities to defend Australia and its national interests, and the provision of support for the Australian community and civilian authorities as directed by the Australian Government. In 2019–20, support for the community and civilian authorities included support to state and territory emergency authorities through Operation Bushfire Assist, including through a compulsory call-out of Reserve brigades; and a range of activities to support state and territory authorities during Operation COVID19 Assist and related support provided by the department to other parts of the Australian Public Service. Further information is available from the department’s website.

The portfolio’s entities include a number of statutory offices, trusts and companies that are subject to the Public Governance, Performance and Accountability Act 2013, Defence Force Discipline Act 1982 and Defence Act 1903, and that are independent but reside administratively within the Defence portfolio. They include, among others, Defence Housing Australia and the Australian Signals Directorate, which became a statutory agency on 1 July 2018.

The portfolio also contains the Department of Veterans’ Affairs and associated bodies, including the Australian War Memorial. The Department of Veterans’ Affairs is administered separately to Defence and is discussed separately.

In the 2019–20 Portfolio Budget Statements (PBS) for the Defence portfolio, after accounting for Portfolio Additional Estimates Statements (PAES), the aggregated budgeted expenses for 2019–20 total $47.24 billion. The PAES contain budgets for those entities in the general government sector (GGS) that receive appropriations directly or indirectly through the annual appropriation acts.

The level of budgeted departmental and administered expenses, and the average staffing level for entities in the GGS within this portfolio, are shown in Figure 1. The Department of Defence represents the largest proportion of the portfolio’s expenses, and departmental expenses are the most material component, representing 75 per cent of the entire portfolio’s expenses.

Figure 1: Defence portfolio — total expenses and average staffing level by entity

Source: ANAO analysis of 2019–20 PBS and PAES.

Audit focus

In determining the 2020–21 audit work program, the ANAO considers prior-year audit and other review findings and what these indicate about portfolio risks and areas for improvement, and emerging risks from new investments, reforms or changes in the operating environment. In the Defence portfolio, these considerations predominantly relate to the substantial procurement activity currently underway, the management of existing assets and capabilities, governance and reform of a large organisation, and financial management where the valuation of assets and liabilities is complex.

Governance

The Department of Defence continues to finalise its implementation of the One Defence reform, which has included development of a strong strategic centre to strengthen accountability and top-level decision-making, and reform of the capability development process and systems program offices. Delivery of Defence’s purposes relies on a large and dispersed workforce (comprised of approximately 60,000 Defence personnel, 20,000 reservists and 16,000 public servants) and effective internal management and coordination. Audit work on Defence’s internal administration has indicated that ensuring compliance with requirements and providing management with assurance on compliance can be challenging. The audit of modernising Army command and control in the Land 200 Program observed that unreformed governance and coordination arrangements had affected project delivery.

Defence has developed governance and reporting arrangements to inform senior stakeholders on the progress of key activities, including a largely effective quarterly performance report on acquisition and sustainment and a projects of concern regime. Audit work on the latter indicated that while it is an appropriate mechanism for escalating troubled projects to the attention of senior managers and ministers, Defence is not able to demonstrate its effectiveness in managing the recovery of underperforming projects.

Defence has a significant number of systems that it uses to gather information required to conduct business. A specific risk for Defence is whether its ICT infrastructure is fit for purpose to support its business, including its responsibility to deliver effective security vetting services on behalf of the Australian Government.

Procurement

Defence is undertaking substantial procurement activity to refresh its capability in the land, air and maritime domains. Recent investment has sought to address Defence’s industry policy by supporting more involvement by Australian industry and the delivery of sovereign industrial capability. To enable this policy goal, procurement activities have included developmental acquisition projects, which are historically prone to slippage. Many key projects are dependent on successful mobilisation activity in Australia, including in relation to local workforce, infrastructure, knowledge transfer and enterprise-level management and coordination.

Recent audits have highlighted emerging risks to the affordability and achievement of the investment program. The audit of the mobilisation of naval construction programs noted Defence’s assessment of high levels of risk and observed changes in key cost assumptions since the publication of the 2016 Defence White Paper. The audit of the sustainment of Anzac class frigates identified benefit in reviewing sustainment cost assumptions. The 2018–19 Major Projects Report reported on cost pressures in the Joint Strike Fighter program, resulting in the transfer of project scope of $1.5 billion to other phases of the program.

Asset management and sustainment

The department maintains assets to support achievement of its purposes. Accurate valuations of assets are an important element in determining ongoing maintenance and sustainment investment required, the cost of future asset replacement, and reporting of the assets’ fair value in the annual financial statements. Valuation of the capability held at a point in time is challenging for specialist military equipment, inventory, infrastructure and land due to the significant judgement and estimation involved.

The department’s expenditure on sustainment activities is substantial. Recent audit work has identified misalignment between the operational use and sustainment plans and budget for Anzac class frigates, which must operate longer than anticipated pending the delivery of new Hunter class frigates. The audit of the introduction into service of the Joint Strike Fighter and associated sustainment planning identified both financial and nonfinancial risks arising from a maturing global support solution for the new fighter fleet.

Pending the introduction into service of replacement platforms, Defence has planned to maintain certain platforms beyond their normal lifetime. Recent audit work on the Anzac class frigates observed limited planning to support the timely transition to new platforms. In the case of the Future Submarine Program, while the risk of a capability gap emerging has been recognised, a key risk mitigation strategy — the Collins class life-of-type extension program — remains in its early stages.

Financial management

Along with the issues discussed above, the military superannuation liabilities associated with Defence personnel are subject to complex assumptions and calculations underpinning the actuarial assessment of these liabilities.

Financial statements and other audit engagements

Overview

Entities within the Defence portfolio, and the risk profile of each entity, are shown in Table 1.

Table 1: Defence portfolio entities and risk profile

 

Type of entity

Risk of material misstatement

Number of higher risks

Number of moderate risks

Material entities 

Department of Defence

Non-corporate

High

2

4

Australian Signals Directorate

Non-corporate

Moderate

2

Defence Housing Australia

Corporate

Moderate

3

1

Non-material entities 

AAF Company

Company

Low

 

Army and Air Force Canteen Service (Frontline Defence Services)

Corporate

Low

Australian Military Forces Relief Trust Fund

Corporate

Low

Australian Strategic Policy Institute Ltd

Company

Low

Royal Australian Air Force Welfare Recreational Company

Company

Low

Royal Australian Air Force Veterans’ Residences Trust Fund

Corporate

Low

Royal Australian Air Force Welfare Trust Fund

Corporate

Low

Royal Australian Navy Central Canteens Board

Corporate

Low

Royal Australian Navy Relief Trust Fund

Corporate

Low

Other audit engagements (including Auditor-General Act 1997 section 20 engagements)

Australian Defence Force Superannuation Scheme (ADF Super)

ADF Super (Australian Prudential Regulation Authority reporting and prudential standards)

Military Superannuation and Benefits Scheme (MSBS)

Military Superannuation and Benefits Scheme (Australian Prudential Regulation Authority reporting and prudential standards)

     

Material entities

Department of Defence

The Department of Defence (Defence) is responsible for protecting and advancing Australia’s strategic interests through the: promotion of security and stability; the provision of military capabilities to defend Australia and its national interests; and the provision of support for the Australian community and civilian authorities as directed by the government.

Defence’s total budgeted expenses for 2019–20 are $45.6 billion, with supplier expenses and employee benefits representing 34 per cent and 27 per cent, respectively, of the total budgeted expenses, as shown in Figure 2.

Figure 2: Department of Defence’s total budgeted expenses by category ($’000)

 

Source: ANAO analysis of 2019–20 PAES.

The six key risks for Defence’s financial statements that the ANAO has highlighted for specific audit coverage in 2019–20, including those that the ANAO considers potential key audit matters (KAMs), are the:

  • accuracy and valuation of specialist military equipment, which includes defence weapons platforms, assets under construction, and associated military support items. The measurement of specialist military equipment at fair value involves a high degree of judgement due to the specialised nature of the assets and the subjectivity of the valuation (KAM — Accuracy and valuation of specialist military equipment);
  • valuation and disclosure of military superannuation balances, due to the complexity of the calculations and high degree of judgement. The calculations require assumptions to be made in respect of matters such as expected benefit claiming patterns, indexation of salaries and retirement payments, future economic conditions, and the amount of lump sum versus recurring payments to be made (KAM — Valuation of employee provisions (administered military superannuation);
  • valuation of general assets, which includes land and buildings, infrastructure, plant and equipment, heritage and cultural assets, and intangibles. These assets include long-term projects and complex cost allocation processes with multiple rollouts that are managed and accounted for by various service groups. The valuation is subjective and based on assumptions and judgements made by the valuers and management. Capitalisation of intangible assets is subject to the judgement involved in classifying project costs as capital or expense in nature (KAM – Accuracy and valuation of general assets);
  • completeness and existence of inventories, due to the decentralisation of holdings and their management by multiple parties, as well as the identification of, and accounting for, obsolete stock and valuation using a complex weighted average cost methodology (KAM – Completeness and existence of inventories);
  • recognition and measurement of leased assets and liabilities, due to the complexity of Defence’s leasing arrangements with Defence Housing Australia relating to property, and with other parties for military equipment such as satellites and naval vessels; and
  • major reform projects in Defence’s complex information technology network, with the continuing work to design and deliver the enterprise resource planning program that underpins the financial management information systems.

Australian Signals Directorate

The purpose of the Australian Signals Directorate (ASD) is to defend Australia from global threats and advance Australia’s national interest through the provision of foreign signals intelligence, cybersecurity and offensive cyber operations, as directed by government. The Australian Cyber Security Centre, which is a part of ASD, provides support to government and the Australian community to improve Australia’s cyber resilience. ASD became a prescribed agency on 1 July 2018. Prior to this, ASD existed within the Department of Defence.

ASD’s total budgeted expenses for 2019–20 are $853 million, with 58 per cent of these expenses attributable to supplier expenses, as shown in Figure 3.

Figure 3: Australian Signals Directorate’s total budgeted expenses by category ($’000)

 

Source: ANAO analysis of 2019–20 PAES.

The two key risks for ASD’s 2019–20 financial statements are the:

  • valuation of assets under construction, as the complex technological nature of the projects makes the judgement about whether costs are capitalised or expensed more difficult; and
  • significant reliance on the Department of Defence for financial services, including payroll, due to the infancy of these arrangements.

Defence Housing Australia

Defence Housing Australia (DHA) is responsible for providing housing and related services to members of the Australian Defence Force and their families, consistent with Defence’s operational requirements. To meet these requirements, DHA is responsible for constructing, purchasing and leasing houses for Australian Defence Force personnel. Each year, DHA sells a portion of its properties through a sale and leaseback program, and those revenues are DHA’s primary source of capital funding to acquire new properties.

DHA’s total budgeted expenses for 2019–20 are $831 million, with 57 per cent attributable to employee benefits and supplier expenses, as shown in Figure 3.

Figure 4: Defence Housing Australia’s total budgeted expenses by category ($’000)

 

Source: ANAO analysis of 2019–20 PAES.

The four key risks for DHA’s 2019–20 financial statements are the:

  • valuation and significant judgements applied in management’s assessment of the net realisable value of DHA’s housing portfolio;
  • assessment of impairment of DHA’s investment properties, given the volume, complexity and judgement applied in calculating the required inputs;
  • accounting for, and reporting of, DHA’s revenue from housing services provided to Defence, the sale of inventories and the proceeds from the sale of investment properties, due to the number of revenue streams, the volume and complexity of transactions, and the impact of the application of Australian accounting standard AASB 15 Revenue from Contracts with Customers on revenue recognition, measurement and disclosure; and
  • assessment of the implications of Australian accounting standard AASB 16 Leases, including relevant disclosure of the first-time adoption of this standard in the financial statements.