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FinancialAccountingReporting andAuditingHANDBOOK

I

FIRST EDITION

CENTRAL AND OPERATIONALACCOUNTING DIVISION

THE WORLD BANKJanuary 1995

ACRONYMS AND ABBREVIATIONS

ARCS - Audit Reporting Compliance SystemBP - Best PracticesCAAT - Computer Assisted Audit TechniquesCIS - Computer Information SystemCOD - Country Operations DivisionCPPR - Country Portfolio Performance ReviewEDP - Electronic Data ProcessingFARAH -Financial Accounting Reporting and Auditing HandbookIAPC - International Audit Practice Committee (of IFAC)IAS - lnternational Accounting StandardsIASC - International Accounting Standards CommitteeIBRD - International Bank for Reconstruction and DevelopmentIDA - International Development AssociationIFAC - International Federation of AccountantsINTOSAI - International Organization of Supreme Audit InstitutionsISA - International Standard on AuditingGAAP - Generally Accepted Accounting PrinciplesGAAS - Generally Accepted Auditing StandardsOP - Operational PolicyPFS - Project Financial StatementPSC -Public Sector Committee (of IFAC)RVP - Regional Vice PresidentSA - Special AccountSAI - Supreme Audit InstitutionSAL - Structural Adjustment LoanSAR - Staff Appraisal ReportSECAL - Sector Adjustment LoanSGSA - Second Generation Special AccountSOD - Sector Operations DivisionSOE - Statement of ExpenditureTM - Task ManagerTOR - Terms of ReferenceVAT - Value Added Tax

ii

TABLE OF CONTENTS

Acronyms and Abbreviations ..................... ii

Preface .................... ... v

L Introduction .1

IL Project Appraisal .3

Im Project Impmentation. .13

1V. Financial Reporting .17

V. Audit Compliance. 23

VL Country Review of Financial Accountability. 35

VI.L AnnexesProject Apprisal:Annex I: Accounting Standards ...................................................... 43Annex I-1 Review of Accounting Standards ................ ....................................... 47Annex II: Summary of International Accounting Standards ...................................................... 53Annex m Accounting and Audit Arrangements for Adjustment Operations ................................ 59Annex IV: Reviews of Financial Management and Accounting Systems

for Entities Implementing Revenue Earning Project .61Annex V: Reviews of Financial Management and Accounting Systems

for Entities Implementing Non-Revenue Eaming Projects .71Annex VI: Accounting for Sectors .S e cto 75

Project Implementation:Annex VII: Task Manager Review of Statements of Expenditure .79Annex Vm: Use of Financial Information to Monitor

Physical Project Implementation .81Annex IX: Form Letters:

Annual Reminder to Borrower of Requirement to Appoint Auditors .83Reminder to the Borrower of Requirement for Timely Submission of Report . 84Notice to Borrower of Failure to Receive Audit Report. 85Acknowledgment of Audit Report .87

Annex X: Guidelines for the Desk Review of Audit Report .89

iii

Financial Reporting:Annex X1: The Elements of Financial Statements ........................................................ 93Annex XII: Sample of Parts of Financial Statements of a Project Implementing

Organization (Sample Pages 1-8) .95Annex XIII: Sample of Project Financial Statements with SOE Integrated

(Sample Pages 1-5) ........................................................ 103Annex X1V: Format for Special Account Statement ........................................................ 109

Audit Compliance:Annex XV: International Standards on Auditing Summary and Public Sector Perspectives ....... IIIAnnex XVI: International Organization of Supreme Audit Institutions - Auditing Standards ....... 119Annex XVII: Review of Audit Firms - Questionnaire ........................................................ 123Annex XVII: Guidelines for Auditors -Terms of Reference and Engagement Letter ....................... 127Annex XIX: Sample Terms of Reference for the Audit of Project Financial Statements and

Accompanying Statements of Expenditure and Special Accounts ............................ 133Annex XX: Example of an Audit Engagement Letter ............................................. 137Annex XX: Model Audit Reports:

Unqualified Opinion - Organization .139- Project Financial Statement including SOE .140- Special Account .141

Other than Unqualified .142Annex XXI: Outline of a Management Letter .143Annex XXII Terms of Reference for Review of Government Accounting and Auditing

Arrangements .145

Index.149

i~~~~~~~~i

PREFACE

This Financial Accounting, Reporting, and Auditing Handbook (FARAH) sets out good practices to facili-tate implementation of the operational policies and procedures in OP and BP 10.02 in the Bank's OperationalManual. Its primary purpose is to provide guidance in these areas to the Bank's Task Managers. FARAH willalso be a useful guide to borrowers in the implementation of Bank assisted projects. It provides a minimum levelof understanding of the role of financial management in overall project management and the importance of thevarious elements, from accounting system design, the linkage of financial information to key indicators of projectobjectives and financial reporting, to audits. In a world of scarce financial resources and complex projects, it isimperative that the financial management system of a project or an implementing organization is strong enough toprovide timely, reliable, and useful information for accountability and decision making.

Accounting and auditing are fundamental elements of stewardship--achieving the greatest benefit for thefunds invested. This implies an integration of financial and program disciplines to manage scarce resources toachieve common goals. From the initial project design to project completion, all the elements of good managementwork together to contribute to good govemance and to improve project performance and enhance the benefits de-rived.

The Handbook should be seen as a guide only, as it does not cover all systems, or prescribe specific solu-tions for particular problems. Use of the Handbook should be accompanied by consultations with qualified Bankaccountants and consultants with respect to matters that require professional judgment. It will, however, providenon-accounting professional staff with a framework for an initial view of the financial management capacity of theborrower, make preliminary judgments as to strengths and weaknesses, and more importantly, recognize when pro-fessional assistance is required. This is particularly important for transitional economies unfamiliar with financialtechniques required in market economies, revenue eaming projects, and other complex situations where the finan-cial management system is an issue -- or does not exist.

FARAH has been prepared by the Central and Operational Accounting Division (ACTCO), with the pri-mary author being George Russell (Financial Advisor), with assistance from Margaret Bartel (Consultant). Itdraws from guidelines published by the International Accounting Standards Committee (IASC), the InternationalFederation of Accountants (IFAC), and the International Organization of Supreme Audit Institutions (INTOSAI),whose standards on accounting and auditing are supported by the Bank. It has incorporated guidelines previouslyissued by Country Policy Notes (CPN), Financial Reporting and Auditing of Projects Financed by the World Bankfor the Asian Regions, and work done by Mr. Maurice Mould on Country Assessments. It has also taken intoconsideration comments from a wide body of Bank financial analysts and other staff, of whom Messrs. RandolphAndersen, Jose Collell, and Albert Kennefick were the most involved.

ACTCO is responsible for policy and guidance on accounting and auditing issues.

Michael E. RuddyDirector

Accounting DepartmentJanuary 1995

v

CHAPTER I: INTRODUCTION

1: INTRODUCTION

1.01 The Bank's Articles of Agreement require 1.04 Task Managers (TMs) also require financialthat proceeds of loans' be used economically, effi- information to monitor a project's progress towardciently and only for the purposes for which the achieving its objectives. For both parties -- thefinancing is provided as described in the loan Bank and the borrower -- reliable and timely finan-agreements. Proper execution of this fiduciary cial information assists good decision-making toresponsibility is critical in maintaining the Bank's ensure that project objectives are achieved and theaccess to the capital markets. Therefore, the Bank plans negotiated during project preparation and(i) requires borrowers to ensure that financial man- appraisal are followed. A good financial informa-agement and accounting systems are adequate to tion system is vital for a strong management infor-generate timely and reliable financial information; mation system. Independent audits of financial(ii) requires and reviews periodic financial reports statements provide faith and credibility to the Bank,to be submitted regularly for each lending opera- its stockholders and members and to third partiestion; and (iii) normally requires verification of such including the parliaments, chief executive, and citi-financial reports via regular audits. zens of those national governments which are the

Bank's owners and financiers.1.02 Accountability affects the Bank's relation-ship with external investors and its ability to bor- 1.05 The Bank's ability to fulfill its fiduciaryrow, as well as borrowing countries' credibility with responsibilities and the borrower's ability to imple-the Bank and with internal constituencies. By ac- ment a successful project are fundamentally affectedcountability, we mean: by the quality of the financial management system

used in project implementation. This quality must* every act or action is transparent - open to law, be built in from the very beginning. Once ex-

regulation and prudent judgment; pended, financial resources can rarely be recovered.

Without strong internal controls, there can be noall participants are responsible for their own assurance that financial resources are being usedactions; effectively and efficiently for project purposes.

Without a well-designed accounting system, theprofevery nactl actionsis subjete toudindepndent, right financial data will not be collected and aggre-

results made available to all concerned. gated to provide useful and timely information fordecision-making. Without qualified staff, transac-

1.03 Borrowers need timely and reliable financial tions may be recorded incorrectly, which couldinformation to serve as an early warning system for destroy the usefulness and reliability of financialproblems in project implementation, and to allow reporting. A good financial management systemcorrective action to be taken to resolve difficulties will facilitate the last step of verification and estab-before they become major problems. This enables lish the credibility of the information gained fromborrowers to better meet their own fiduciary re- the audit. On the other hand, if an audit revealssponsibilities to their government, taxpayers, inves- inadequate financial management, it is almost cer-tors, beneficiaries, etc. tain that significant financial resources have already

been lost.

Reference to Bank (IBRD) loans is also a reference toIDA credits throughout this Handbook.

2 FARAH

1.06 A good financial management system pro- 1.09 The financial management system support-duces information/reports with certain key qualities. ing a project should reflect the characteristics of theThe information must be understandable by the project. The financial reporting for a dam con-user, relevant to required decisions, reliable -- i.e. struction project will be different from a rural de-free from material error and bias -- and comparable velopment project -- focusing on different costs andwith previous information. To be comparable, the producing different cost structures. Good financialmeasurement and display of the financial effect of management demands a solid understanding of thelike transactions and events must be treated in a underlying "business."consistent way throughout an entity, within anindustry, and over time. Timeliness is an important Main Features Of The Handbookconstraint on the relevance of information -- unduedelays in reporting information cause it to lose its 1.10. Chapter II -- Project Appraisal -- dis-relevance and consequently, its utility. cusses those aspects to be addressed during the

Project preparation/appraisal cycles.1.07 Project and financial management areclosely linked. The financial management cycle of Chapter III -- Project Implementation --budgeting, execution, accounting, and financial discusses monitoring for performance and summa-reporting mirrors and provides basic support to the rizes the TM's duties with respect to monitoringproject cycle of planning, implementation, recording borrowers' accountability.results, and reporting. Financial management sup-ports project management and helps assure that Chapter IV -- Financial Reporting -- dis-resources go towards the successful completion of cusses the financial statements required and theirthe project and are not wasted. relationship with each other.

1.08 A key element in the financial management Chapter V -- Audit Compliance -- dis-system is budgeting -- the process in which the cusses the audits required and the selection offinancial implications of planned activities or pro- auditors, and provides guidance with respect to thegrams are laid out and resources allocated. Budget- audit producting, to be effective, must be integrated with ac-counting. If it is not, management does not receive Chapter VI -- Country Review of Financialthe feedback necessary to adjust planned activitiesto expected resources. Problems in project imple- aspects of such a review.mentation can go undetected until it is either too 1.11 Users of this Handbook will also find usefullate, or very costly, to fix them. Similarly, if ac- Glossary of Terms Used in Financial Managementcounting is not tied to planned expenditures, the of Bank Projects (GP 10.03).financial information produced is limited in itsusefulness for project management.

CHAPTER II PROJECT APPRAISAL 3

II: PROJECT APPRAISAL

2.01 The Bank's operational objectives require 2.04 It is therefore extremely important that allthat a borrower should have accounting and control project appraisals include, in at least one of the rele-systems capable of reliably recording and reporting vant missions, a competent staff member or consult-all financial transactions. This is not only to fulfill ant to assess the capability and reliability of the fi-the Bank's fiduciary requirements but, more impor- nancial management structures and controls of thetantly, to provide the financial management informa- proposed project implementing organization (whichtion that the borrower requires to measure expecta- may be a separate organization or merely part of thetions of the Project against the actual achievements. responsibilities of a government department). TheThese systems should be operational when project review should cover aspects such as:expenditures begin. The financial reporting require-ments under the project will depend on the needs of * system of budgeting and accounting, includingthe project. accounting standards used;

2.02 In view of its importance, financial manage- * internal control system and procedures,ment should be viewed as one of the fundamentalitems as each project enters the Project Cycle. As * flow of funds to support the project organizationthe general accountability environment in a country and the project (including Bank funds),will affect the financial management of all invest-ment initiatives, it is important that the Bank has an * financial reporting arrangements, including link-understanding of this environment, including related ages to key performance indicators, andlaws and regulations, and of the financial manage-ment and accounting capacity of the country in ' auditingarrangementswhich the Bank assistance is proposed. This infor-mation should be obtained on a country basis and Imade available to all Bank staff as required. Coun- management structure, certain other key considera-trywide assessments are discussed in Chapter VI of tions must be evaluated. These include the project

the Handbook. type (such as revenue or nonrevenue, industry oractivity involved), legal and regulatory environment,

2.03 It is in the background of the country envi- internal controls, and the quality of staffronment that the TM should, as soon as possible, 2.06 This review would be followed, as the probtain a review of the financial management struc- o-ture of the proposed implementing organization. If ect design becomes clearer, by the more specificthestructure oth proposedpimplem thentig oantizatin It designs of the financial management and accountingthe structure is not acceptable, then the entity must structure directly related to the proposed projetbe willing to introduce the necessary revisions to the inclurding ctai Tel a ty and qualitystructure in time for project implementation. Unless auditr shalso be dtrined ath time.this review is carried out early in the preparationcycle, where significant development of the structure Accounting Structureis necessary, it is likely that the project would beappraised and processed without an adequate system 2.07 The accounting structure should be a reflec-being in place. tion of the project itself Where the project is only

4 FARAH

concerned with expenditures and its financing is project funds can be readily matched. This seg-earmarked for specific purposes in the Staff Ap- regation of project costs can be problematicpraisal Report (SAR), then the accounting structure when the project is part of a larger program be-and controls would only be concerned with such ing implemented by the project organization.expenditures and financing. This applies whether or This type of problem is common in nonrevenuenot the project is a part of a larger program or a part producing projects which are managed by theof an operating entity with which the project has no government.concern. Where the project is concerned with thesustainable financial health of the project implement- 4) Interfaces with the government accounting sys-ing organization or has an interest in its institutional tems should be transparent and the impact ofdevelopment, then the focus would also be on the government regulation determined. This is espe-accounting structure and controls of the overall cially important when the project is partially orimplementing organization. Concern with the overall wholly incorporated into a governmentstructure is usual for revenue earning and other agency/department. Where there is no direct cor-commercial type organizations. respondence between government and project

accounting categories, sub-categories under es-2.08 Similar types of projects usually have similar tablished government accounts can be used toaccounting structures, however, projects vary widely establish a linkage. However, in some cases,and an adequate accounting structure for one project parallel accounting will be required.may not be adequate for another. Issues will take ona different level of importance depending on the 5) Recurrent and investment costs should be distin-project and therefore, care should be exercised when guished by establishing separate sub-categories.assessing the adequacy of the accounting structurefor a particular project. There are, however, some 6) The accounting and budgeting system (see Boxkey points to consider for all projects: 2.01) should be the simplest consistent with the

complexity of the project.1) The accounting system should be fully inte-

grated, whenever possible, with all other finan- 7) Periodic financial reports produced from thecial management systems (budget, treasury and accounting system should compare actual todebt management) to assure that it provides a drojected/budgeted costs for the current periodsingle, common database for financial informa- and the total project to date.

tion. 8) The financial data produced by the system

2) There should be a linkage between the cost cate- should be capable of providing some measure-gories used by the accounting system and the in- ment of performance when linked with the out-puts needed to carry out the project as reflected puts of the project. The selection of key per-in the SAR. This linkage should be transparent. formance indicators and accompanying financialImportant costs should be segregated. Cost data must be planned for during the appraisalgroupings should be logical and key inputs ap- period, and should be incorporated into the ac-parent. More important costs should be tracked counting and reporting system design.at a less aggregated level. The correspondencebetween actual cost and budget, as determined in 9) The accounting system should follow clearlythe SAR, should be clear, documented accounting standards. The Bank re-

quires International Accounting Standards as the

3) Project related costs and revenues should be benchmark, with all deviations clearly identifiedgrouped together so that the sources and uses of (paras 2. 15-16).

CHAPTER 11 PROJECT APPRAISAL 5

~~ 201 ~~~~~at operational levels such as project sites is trans-ferred to a central location. Unless these systems

~udgt Prblems M Iop~g Gantiies I are properly designed, fully integrated, and highlycomputerized, delays and loss of data may result,

~ X 2{MMPwhich affect prompt and accurate reporting. Con-it0nt tfrog h iig a Wget; -w8get Sr¢b1~i~ i~ de-:: versely, decentralized systems, which permit local-

~~p~~g ~~~uies r~~~~i~~te t~~~~ ized financial operations, usually require more ex-tensive controls and increased staff

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--~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~OIM -. ]. - i g- r-:

Th~ iiaxtobctv ofe nerhal rente

t-ia pronra - i genci~ may b tS - for a .efne nperio and to present afaiviewf

:) ;~u i,n ~w-errttrtw ; fi-ca -oto -f th entit. Wit a sto ou

potbtY T cmeciU. orentd etities ma

e~ as~kti*torbuge caegris reno ii : *na-es ac*min sy tes wic ca psvd drt-i o2.09 egardls of qe4the tplenn o nf oto; fffnt)f ead project seottr .-.;]ass*jji,n'-- .inanci

performanc o f suchingtanes, it iscant Chnt.

tan that the a pojec organizationmaintaisde; t -r spplemta aystem wo-l not e neesr.

an cleark of ty acnt iniing recrds ofallexpenditur- Te piniy o...tieofg rnn .c.o.ntinis aSupport docume~ntation shouldbe maintained fo o satw.. risfy th.e aicO nailtOd -:aeunt d--

each project for at least a year after the last dis- . respons.:le -br:tie .. nuc enburemn ofmh~i fundsforteproecndutil t as teod concepr..ts .e-:

I" is ellmtb:otgoenetfne mgserc

2.09 Regardless of the type of project,'secudtor bU(cLaty clas.iticetions, which v .e .. moitoe thi

tanttha theproectorgaizaion ainainadeqate proecs agap.instbugentd figre. Althoughs: pr-i;ojecand0 clearacuting rheacordtngstuur of alxedtures ac.pouting and.e thes.. reae:akrqieet rSuppoteocmentin raiation ishould bemantrained for -. Og~dtoesuiiii acutabilty. to . .re,

burementr of fundswl aforc the pfiaci andutlila tol; ~ P9~ management. of enerallyr,t W

been exajened byathe poetstrial auditors. or- -t.e"ntg..y- are not to.p..vide

.. . ..... ... c aenetcpbiiis Ii fe

decentrlized ill afect th finanial maagemen of qured da a,.ate thn "maI Any emabaten hnes

ganizations, governments, or large parastatals may.. ....... ....operate centralized financial management and ac-counting systems, whereby all information generated

6 FARAH

Accounting Standards only when paid and not when incurred. It is veryimportant to understand the accounting methods

2.11 Accounting Standards are formal guidelines used in producing a particular financial report.that specify how certain types of transactions orevents are to be recorded and what disclosures 2.14 International Accounting Standards (IAS)should be made in the notes to the financial state- have been developed by the International Account-ments. Standards are usually issued for the purpose ing Standards Committee (IASC) to resolve differ-of achieving uniformity of accounting treatment and ences in accounting standards adopted by differentcomparability of financial data where a wide variety countries and to harmonize accounting treatments.of possible accounting practices exist. In individual The membership of the International Federation ofcountries the body of accounting standards, policies Accountants (IFAC) and therefore of IASC is cur-and concepts generally or widely adopted by pro- rently comprised of 110 professional accountingfessional accountants, associations of accountants, organizations belonging to more than 80 countries.and other authorities are referred to as GenerallyAccepted Accounting Principles (GAAP). These Acceptable Accounting Standardscomprise published guidance (often in the form ofpublished accounting standards or guides) as well as 2.a15 In the absence of any superior national stan-subjective, accepted practices. The government's dards, the Bank requires the use of IASs in therole in determining accounting policies, standards, preparation of financial statements because their useand disclosure requirements differs among countries, facilitates comparability between projects and coun-often depending on the degree of sophistication of tries, ensures consistent presentation of financialthe country's economy. In some countries, account- statements, and facilitates their interpretation.ing standards are set primarily by government regu- However, the Bank recognizes that local practices,lation or simply based on tax regulations. standards, or legal requirements may not fully reflect

such standards. Government agencies serving as2.12 An integral part of financial reporting is the implementers may be required by their own laws andaccounting standards on which it is based. Account- regulations to use an accounting methodology whiching principles and standards provide basic guidelines does not meet IAS. Where national standards areto determine how and when financial transactions used, the Bank requires financial statements to dis-are recognized, calculated, classified, posted, sum- close any material departures from IAS, and themarized, and ultimately reported. Standards can be impact of such departures on the financial statementsquite specific and may be implemented through a as presented must be stated.variety of accounting policies and methods -- forexample, the accounting principle of matching in- - . .2. .. ..... .......3.... .... .. . . .....come with the expenses required to generate it (see . . . .... ................. ................ . .. ... .....Box 2.03). 2.03). Mat chingt;; titt!.:f-S T: -00- -.;-;0::.:000-;iE-::............ : i:- i0: 0 Et7 0i- S-t:; :i :-it i.. . . . .. i........ ..... ..................

2.13 The accounting method used can have a A stiml examp le0iTs -with invenoy Cah s isdramatic affect on the apparent performance of the | bu:rsed ~iid : incosts0 ldou.r.r ............................................... ed.to by ra. .......... .. -project or organization, even doubling the amount of tpayfor lablr to produce at pr ct. Thse .. .... are. .an expense recognized in a particular year. In the -0not expens,ed, bt reinted aptalized'+, -i.e. trea0tdprivate sector, a difference of accounting methods l -0as:aissets--in th;is Scase invetr. When t he: productused can transform a loss into a profit and vice versa Tis 0sold frlm the inventory the te ii st ofpod(see box 2.04 on Accounting for Leases). In the .in.g.thereated products w b reog e .t..public sector, significant budget overruns can be 000tnlatch" thereveu reeie from the sale.hidden on a short-term basis if costs are recorded .;:.E; .EE.::;;. ::i.-E: i.;i-E.t;.;f ......... f-E....-.......-....

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8 FARAM

Assessing Internal Control prepared to handle more complex transactions forwhich the accounting treatment is not always evident

2.17 The internal control system embodies poli- and understand the importance of audit trails andcies and procedures adopted by the management of internal controls. Extended experience is also im-an organization to assist in achieving management's portant, but sometimes, especially in the public sec-objective of ensuring, as far as practicable, the or- tor, staff with experience are aware of governmentderly and efficient conduct of its business, including regulations, but understand little about the "why" ofadherence to management policies, the safeguarding what they are doing. This may be adequate (thoughof assets, the prevention and detection of fraud and not desirable) at the clerical level, but not at theerror, the accuracy and completeness of the account- professional level. Obviously, larger and moreing records, and the timely preparation of reliable complicated organizations require more staff highlyfinancial information. There are two basic types of skilled in financial management.intemal controls -- administrative and accounting(Annex II, paras. 14-23 discusses some important 2.19 Related to both education and experience isaspects of Internal Control). Administrative con- the quality of on-the-job training, in particular thetrols are broader and concerned with the control use of continuing education to ensure that staffenvironment for the whole organization, including maintain their current skills and learn new ones.the overall efficiency of the operation and adherence Staff should be encouraged to participate in profes-to the policies and procedures of the organization. sional accounting associations and their trainingExamples are personnel procedures for the hiring of programs.staff, quality controls, or operational ratios and otherstatistics such as inventory turnover. Accounting 2.20 Finally, it is important to carefully evaluatecontrols deal more directly with assuring that assets the match between the complexity and responsibilityare protected and that accounting records are com- of the job and the qualifications of the person fillingplete and accurate. Examples are budget reporting, the position. An accounting unit may have goodbank reconciliation's (independent verification), and clerical support, but lack a manager who under-safeguarding checks. A strong control environment stands the significance of the financial informationwith tight budgetary controls and an effective audit being produced and is committed to timely and ac-function complements specific accounting controls curate information. A controllership function shouldand improves accountability over the use of re- have specific staff in the following areas: financialsources. planning and budgetary control; general and cost

accounting systems; financial systems and proce-Quality of Staff dures; and data processing and management infor-

mation systems. Staff for the treasury function2.18 Accounting deals with a myriad of transac- should have skills in cash-flow forecasting, drawingstions, each of which must be properly classified and from cash collection, banking relationships, andrecorded. The quality of the staff, their understand- general cash management.ing of accounting concepts as well as governmentregulations, and their accuracy is very important to Project Types and Sector Characteristicsprevent material misstatements. The TM shouldverifyr that the borrower has an adequate number of 2.21 The Bank mainly supports investment andskilled and experienced accountants and bookkeep- adjustment projects with some projects being a mixers at each project participating organization com- of both--termed hybrid projects. Investment proj-patible with their accounting responsibilities. One ects may be of a revenue earning or a non-revenuekey to staff qualifications is educational background. earning nature. However, in both cases, the Bank isStaff with an accounting education will be better concerned with the security of assets as well as the

CHAPTER II PROJECT APPRAISAL 9

proper and efficient use of all project related funds. identify on a timely basis the need for additionalWithin each project type, there will be important revenues, serious cost leakage, or of potential costdifferences between sectors, such as financial, utili- savings. It should be able to provide signals as toties, industry, and the social sector, particularly in the need for tariff increases as well as the extent ofterms of the financial information required for effi- public sector subsidies. Guidelines for reviewing acient project management. These differences are revenue earning financial management system arediscussed below; adjustment projects are discussed given in Annex IV.inparas 4.32-33.

Non-Revenue Earning EntitiesRevenue-Earning Entities

2.24 Most non-revenue earning projects will be2.22 Revenue earning projects are usually imple- implemented by government agencies. These proj-mented by a commercially-oriented enterprise in the ects may come under government regulations andprivate or public sector, an organization which gen- requirements. Government budgetary and account-erates revenues either by consumer charges or forms ing systems may involve seemingly excessive bu-of local taxation, or both. These enterprises are reaucratic prepayment authorization measures, fundlikely to be autonomous, or nearly so, with powers flow problems, and performance delays caused byto determine financial policies. State-owned entities apparent lack of delegated responsibility. Staff aremay be required to conform to a standardized na- urged to obtain an understanding of governmenttional accounting plan. It will be important to de- budgetary and accounting systems and to seek revi-termine their legal status and the degree of auton- sions or mitigating actions where the above willomy exercised. affect project implementation. However, it is very

important that existing checks and controls in a1.- ..o system are not removed without substitution of

adequate new measures and without the trained staff

. -- Checklt for Assessing Finacial -.teto implement them. Guidelines for reviewing a non-... v:ne-a Pr:e.t revenue earning financial management system are

.:......... . given in Annex V.

r -. tt fi.... . Accounting for Sectors

. :. ety--tautoo us or. und.t o..r.--met- contr.o 2.25 Financial management including accounting

Accontin polciesandpracicesin frcesystems and controls may vary from organization to.c n: tnpo tctes.-and ::rcce.f....................tiorganization and between sectors. Each sector has

Matiagemet ar-id control Iv S-:-- certain key characteristics which should be reflected

Cenralzedor ecentraliz managemn n in the financial management system. For those sec-'.'-,'', - "'ra' '. of": '- ' ehn a:'a..ountin sys:tems tors of a revenue earning nature such as financial,

;.-.. - .-. utilities and industry sectors, the Bank is usuallyFinancial teguia.tKrns ~concerned with their financial management struc--. . : -.... .. . , -., .:

Fnancial mana--metnd n. ..t .: ture, including the accounting system of the overallproject implementing organization.

2.23 In assessing a revenue earning project anunderlying concern is the current and continuing 2.26 However, it is important that TMs approachfinancial viability of the organization. The financial the design of accounting procedures within themanagement system should be strong enough to background of the respective implementation capac-

10 FARAH

ity of the project organization, and examine imagi- Legal and Regulatory Environmentnative and innovative approaches where necessary.Box 2.06 shows such an example; however, such an 2.27. Understanding the legal and regulatory envi-approach requires strong accounting and control ronment in which the implementing organizationsystems at the District and State levels. The specific operates is important in ensuring the best financialfinancial management and accounting issues relating management for the project. The degree of auton-to the individual sectors supported by the Bank omy exercised by the organization will determinewould each warrant their own handbook. However, how readily changes in the financial managementfor this Handbook, some of the main characteristicsof selected sectors are summarized in Annex VI. system can be made. Most countries have a Com-

panies Act which sets up the legal environment inwhich firms must operate. Sometimes the account-ing structure is dictated by law. Some industries willbe more regulated than others and might have an-

::.. .... ... .0 -... ........ .. 6 . .. . . .other.et of.. . reg.ulations in... repl.acemen of. orher ast an reg

0-~~~~i Projets0- 00000g00 40- addition to the basicCmaisAt hr a

I.-n .t.h.e. abv e. pr ..ects. ovrm t .ude. a ...- . Code establishing business law. State-run agenciesn-0X. 1 ... anull hough ...agr .e pa ..... .. ...r .0 may have legally required accounting practices and

!,... . . .. . .. . .. . . . . .. . .. . . . . .. . . ... . . . . . . . .... .S-.... . ....,E t,h ,e .0 S ,t+ ,, ,,.to , .. . .

...th.ousands fll.. ... age..... ools..... that b i f... the... tionproject .Awa.r o n. t... i.. .rv. ..lea:u .b.licl tion:.annoucd .t:heir: }pupose.- ---v -s th cstuci -

ha...nd ... pu..p)is .... i. knowledge n vcommittee: is th curto o: ths ud.T .pb 2.28 The Staff Appraisal Report (SAR) shouldlicly-t pro:v,igded f .,nd,s: are, typically l-ess- thaniV the Sesti- i.mat.. . st .otth m d - vl h 't i; Include a detailed explanation and assessment of the

needned. Detailedprceurl anuasad forms' on requirements for the particular project. It should0''the '-s,imple -proueet a- ontn and repotin address the design of the project accounts, proce-f--pr,,cedu,re,s' , a,r,e ,-;0jp,rovi d'ed'' to the:,0 joint; chir due eurdfo osldtngrprigfo(h' eadmas,ter ;and-village headmn of'; the0 ''villag e'' various sub-projects, the use of SOEs, and any other

,cmmitteEe,,,- wh,,o repior :0to, the:, ;,disrc dcto, atvte eurd oasr conaiiy hswl,:offlce abou,t progres-s,-inludingthe sats of- f-unds---' be especially important when the project involvesA: ;-sta:tusg,Q reot, g,on fi ind,, and; -prores is kept- in a eea gnisadtemehdlg o osldt

board at the;": school- entrance' The 9|leder'w -lO* ing total project expenses is not clear. The SAReludessigne, h,or thub-print,hed vcorldsof omit-o1M, should also outline the format for project reporting,

l pfirocedures .. .E;A. ....- EASAiE0f. 0CCWEE-EE.. EE-E

.. -.-E.. .. -. - -E . .... -..S... ....E.E. . -. E .... .... . -..i.E.. .. .V.i.. . } .. . .. ..... .. ... .. ..

CHAPTER II PROJECT APPRAISAL 11

2.29 In the event that the financial management ability for the use of its funds. The legal agree-system is weak, an action plan for its improvement ments, including the Agreed Minutes of Negotia-should be negotiated with the borrower and incorpo- tion, are the authoritative source of all financialrated into the SAR. As needed, technical assistance reporting and auditing requirements.

can be provided within the context of the project or 2.31 Loan covenants should be used to assureeven as a totally separate financial management compliance with general Bank policy. In consulta-strengthening project. An actual plan should be tion with the legal department, the TM should en-worked out in time to be included in the SAR, and sure that standard audit covenants are appropriateincorporated into the loan agreement as necessary. for every project as well as any special covenantsIn extreme circumstances, it may be necessary to related to financial reporting or independent reviewscontract out the accounting, but this should only be of project progress by experts. Once the Bank'son a temporary basis and within a technical assis- requirement of basic accountability has been met,tance plan to improve the overall financial manage- additional reporting requirements should not be

burdensome on the borrower or on future Bank staffment of the entity.trying to ensure compliance with the covenants..

Provision for Audit

......- Box :207 2.32 The groundwork for a timely and thorough

.0 ..... . ....... audit should be laid during the project design. The.. Elements of Financial Managm e.t TM will need to be aware of any legal considera-

For lnalusion in Prject Design and SAR tions in the selection of an auditor, including...... -. ::.::::-: . - whether or not the project is to be audited by gov-

| Provision of p dic iten auite emment auditors and their acceptability to the Bank.financial.statements and suggested format The TM should also be aware of the overall status of

| ~ ~ ~ ~ ~ . .. .. .. :.-.:.. ... .. ~~~~the accounting and auditing profession. and its ad-l.Agreement oftheprojet -financial statee nt herence to international standards relating to both-:lining the accou.nts with .........SA :proJectins. and accounting and auditing. In consultatoon with a.provision of information re fson qualified accountant, the TM should determine that.to keyperrman.e indictors . :any auditors proposed by the borrower are qualified

When. morw tha one- Imple tg to perform the audit, are independent, and have been: is involved, proedures for Xo solid-ting ~* provided with terms of reference satisfactory to the.::fromindividual orgaizations---.: :: - Bank. Auditing is discussed in more detail 'n Chap-:.,: ':: Id!'':t: .. of teHn.:Agreemets. regaing the rotinin.,.... support-. .. ,: :..,.: -..-.- . ,. . - . .. --. . : ... :. -. .. . -..-.-.-ing documentation... and. tacVcofshetheretok

Accounting and Auditing Covenant in theLegal Agreement

2.30 The Bank includes in all legal agreementsone or more accounting, financial reporting, andauditing covenants as a means of ensuring account-

12 FARAH

NOTES

CHAITER Im PROJEC IMPLEMENTATION 13

III: PROJECT IMPLEMENTATION

3.01 The Task Manager (TM) is charged with the 3.05 In planning the project budget it is importantphysical and financial oversight of the project. By to structure the financial statements and reporting inintegrating financial management techniques into the such a way as to gather appropriate data for a mean-overall monitoring plan, the TM increases the likeli- ingful linkage between the physical and the financialhood that project implementation will be successful. data. The focus should be on one or two key indica-

tors rather than a myriad of combinations. In select-Monitoring for Performance ing the key indicators, the TM should carefully

evaluate the impact of the measurement on the under-3.02 Monitoring for performance is one of the key lying incentive structures for project performance.outputs of a well-designed and constructed financial However, care must be exercised when using keymanagement and accounting system. The frequency, indicators. While helpful, key indicators are not acontent, and format of reported information should replacement for good project management and over-closely match the needs of the users. Borrowers who sight.are implementing a particular program night needmore frequent reporting and less aggregated financialinformation in order to make the necessary correc- Box3.0Jtions to project implementation and keep activities on Ke Indicatortrack. TMs might be able to use the same informa-tion, but at less frequent intervals (perhaps quarterly A common indicator used in the construction of roads is theinstead of monthly or weekly), and at a more aggre- cost per mile.km of road ciompleted This indicator gives agated level. clear indication of whether or no the financial resources will

be adequate to complete the projected number of uiles, but says3.03 Regardless of the frequency or level of aggre- nothing about the quality of those roads. Nonetheless, the

combinat ion. of physical and financial data is superior. forgation of the report, actual performance should be 'cmiaino lycladfrnil-atisupirfrmonitoring project progress to either of the two taken alone.compared to projected performance. Key perform- Such performance indicators can increase the ability to monitorance indicators, some of which combine physical and a'project for financial accountability as well as physical com-financial data, should be determined and reported on. pletio'.

3.04 Neither financial nor physical data by itself canprovde uffciet inormtio fo theborowe or 3.06 The nature of the project wfll determine theprovide sufficient information for the borrower or itrlybtenfnniladpouto aa

Bank to determine whether or not the project is pro-gressing properly. The project may be achieving its Projects which closely resemble commercial enter-physical goals, but at a rate of cost which will con- prises will lend themselves to the development of keysume financial resources so rapidly that they will not indicators which are heavily "bottom-line" (or finan-be sufficient to finish the project. Similarly, the con- cially) oriented. Comparative values may be availablesumption of financial resources does not imply the from the private sector. In nonrevenue earning proj-accomplishment of physical milestones. When the ects progress toward completing the project objec-two are linked, the TM and borrower can get a much tives may be harder to quantify, but key indicatorsclearer picture of project progress and take appropri- based on throughput can have a beneficial impact onate actions as needed. the overall management of a project.

14 FARAH

3.07 One of the key tools in monitoring for per- during project implementation. In addition, Anniex IXformance is the project financial report showing pro- provides some model Form Letters that will facilitatejected sources and uses of funds, for the period and the monitoring for audit compliance.for the period to date, compared to the percentage of During the Fiscal Year:the project completed in the period and for the periodto date. Sometimes this comparison can be made on 1. Follow up with project management on the com-the basis of financial resources consumed as a per- pleteness and timeliness of the financial recordscentage of the completion of some key indicator, such and reports including periodic unaudited financialas miles of road laid. reports and information required for monitoring

project implementation;3.08 The key question to ask in evaluating a projectfinancial statement/report is whether or not the costs 2. Ensure not only the receipt, but also the re\ iew ofappear to be reasonable given the progress of the the periodic financial information that may he re-project. For example, salary expense on a technical quested for project management. Issues idenitifiedassistance project in the social services sector might should be followed up, in particular audit (uLialifi-

be expected to be fairly evenly disbursed across the cations and internal control weaknesses inCludedlife of the project. If an interim project financial re- in the audit report and management letter respec-port showed the salary line item being disbursed in tively;disproportion to the project life, the Project Manager 3and the TM would focus on this exception and inves- 3 Send out reminders for audit reports (i) close totigate it further. There may be a perfectly reasonable the end of the entities' fiscal year. (ii) shortly be-explanation for the variance, but by highlighting ex- fore they become due in the Bank, and (iii) eachceptions to expected results the project financial re- 30 days thereafter;port points to areas where problems are most likely to 4 Send a brief acknowledgment to the borrower onbe occurring. Annex VIII summarizes the Use of receipt of the reports with a statement that com-Financial Information to Monitor Physical Project ments, if a,i bep s ent laer and

Implementation.~ ~ ~ ~ ~~iec metsf any, will be sent later; andImplementation. mns

5. Ensure that adequate audit arrangements are inplace so that the audited financial statemenits wvill

3.09 There is a very clear and important linkage be available as soon as possible within the -.ra-cebetween interim financial reporting used for perform- period provided in the legal agreements. Ar-ance monitoring and the audit. The audit of the an- rangements should include the agreemiietnt of thenual financial statements would confirm the accuracy TOR for the audit (paras 5.39-41and reliability of the interim financial statements. Any End of Fiscal Year:significant difference between the audited figures for aparticular period and those reported on the interimfinancial statements should be reconciled and ex- I. Ensure the receipt of the audited financial state-plained. ments. These should be received within the unrace

period allowed in the legal covenants. The grace

Monitoring by the Bank period should be no more than six mionitlhs afterthe close of the fiscal year. The usefulness of re-

3.10 The following summarizes some guidelines for ports received much later is reduced.the TM to monitor Financial Reporting (Chapter IVof the Handbook) and Audit Compliance (Chapter V)

CHAPTER m PROJECr IMPLEMENTATION 15

2. Have ail audited financial statements (including should be emphasized. The TM will follow-upSOEs and SAs) reviewed by qualified Bank staff promptly all instances of non-compliance and all un-within 30 days of their receipt to ensure that they satisfactory financial or audit reports submitted.are complete, that they have been properly re-ported upon by the auditors, and that the data 3.12 In the case of non-compliance for the receiptprovided appears reasonable. The liability to the of financial statements, the TM should, within 60 daysBank as shown in the financial statements should of the compliance date. investigate the reasons forbe reconciled with the disbursements shown in the non-compliance and make recommendations to the

Bank records. Annex X provides Guidelines for SOD or COD chief who should notify the borrower ofthe Desk Review of an Audit Report. the need for compliance, the remedial actions required

3. Obtain a report from the reviewer (when the re- to be taken by the Borrower, and the Bank's remediesviewer is not the TM) and ensure that it is copied if such action is not taken. Where compliance is notto the Division Chief. The letter to the borrower achieved within six months from the notice. actionwith any comments relating to earlier reviews and should be taken to exercise the Banks remedies foractions taken or proposed should be attached to that loan, unless the TM is satisfied that acceptablethe report. remedial action is in process to allow compliance

4. Notify the borrower in writing of the findings of within another six months. (For more guidance, seethe review of the financial statements immediately OD 13.40.)after the review. Where issues are identified in thecourse of the review which cannot be addressed 3.13 Where non-compliance relates to SOE proce-through correspondence, these should be followed dures. the borrower should be notified within 30 daysup during subsequent supervision missions. Items of the due date for compliance and the remedies avail-which would be covered in the written review able to the Bank. The borrower should be given noshould include the following, as necessary: more than three months from the date of notice to

come into compliance, after which the Bank will no

significance in the auditor's reporth longer permit disbursements against expenditureseligible for the use of SOE procedures.

• whether all the Bank's financial reporting require- 3.14 Where Bank staff consider it necessary toments have been met; 31 hr aksafcnie tncsayt

allow an extension for the receipt of financial state-. relationship between the results shown in the ments for the project implementing organization and

accounts and financial covenants; for the project (para 3.12), separate SOE and SA

audited financial statements should be required within*aspects of financial performance and internal con-

trol including a comment on the liquidity of the the above three month period. The above timetablesimplementing organization and as appropriate, on and procedures follow OD 10.60 which is currently

any other financial ratios; and under review as OP/BP 10.02. Reference shouldtherefore be made to OP/BP 10.02 to ascertain any

* acceptability of presentation with respect to use of changes.Bank funds.

3.15 Where there is a loan financing several proj-3.11 The importance of timely compliance with the ects, compliance is viewed separately for each projectBank's financial reporting and auditing requirements (see Box 3.02). Thus the Bank may stop SOE dis-

16 FARAH

bursements for one project which is not in compli- * receipt of audit reportsance, while continuing SOE disbursements for anotherproject which is in compliance under the same loan. * assessment of audit reports and follow-up

.. .. i. ........... * monitoring of audit compliance; and

:;A multista te loanis-m.ade. to Gvrxen lh* neig fdt n h RSstaXte governets ea -patcptn Ude te lIn The TM has the primary responsibility for keeping theI.0ff.n¢state si n-cont..ianc ;rthe Subnto$W t data in the ARCS up to date and for obtaining an.- gaudited fiania.etatens -isbus. -endts wou1. assessment of the reports received. Entries into theco .nti. ..... o te.othe. s. a.e t .

*Project effectiveness;

3.16 The principle outlined above may even beextended to cover situations where, for example, the * receipt of an audit report;same Ministry of Government has two separate proj- *ayflo-pato noedeadtrprsects Implemented by different departments or agen-dcies, one in compliance, one not. However, care must andbe exercised to ensure that new departments or agen- .deiinta.eeil cini eurd

.~~~~~~~~~~~~~~ . ........ a rmdalatlnisrqurd

cies are not created under the same Ministry for thepurpose of negating Bank actions for non-compliance Standard ARCS reports and sample report formatsby another department or agency. are provided in the ARCS User 's Guide.

3. 17 Where the implementing organization is in C:ountry Reviewnon-compliance, no new loans to be implemented bythat organization would be made by the Bank until 3.20 Where there is pervasive non-compliance, thecompliance under the current project agreements had TM should propose an assessment of the country'sbeen achieved. This also applies to extensions of loan accounting and auditing capabilities, across both pri-closing dates for ongoing projects. vate and public sectors, examining laws, standards,

training, the independence of auditors, the availability3. 18 TMs are also required to review, during mis- of skilled technicians, etc. These assessments wouldsions, selected SOEs. Annex VII provides a guideline be undertaken under the umbrella of the country

for such review. ~~~~~department, and may form the foundation for a sepa-rate technical assistance project or a component of a

Audit.... Reportin ...... e ysem.

Audit Reporing Complince Systemproject. In addition, country portfolio performance

3.19 Te Audt ReprtingComplance ystem reviews (CPPRs) should routinely include a review of

(ARCS) is a part of the MIS and contains information the borrower's implementing organizations' account-reatn to th adtrprseqid,aes fr thi ing and auditing capabilities. Country Assessment iS

submission to the Bank, details of the auditor and the discussed in Chapter VI of this Handbook.quality of the reports received (see OD 13.10). TheARCS should be used to monitor audit compliance onan on-going basis. Audit reports received and theirstatus are required to be entered into the ARCS on atimely basis. The ARCS cycle consists of:

CHAPTER IV FINANCIAL REPORTING 17

IV. FINANCIAL REPORTING

4.01 The financial reporting requirements will vary they are relevant to the task, but not unnecessarilyfrom project to project, and as embodied in the legal time consuming.covenants of the loan. Financial statements portraythe financial effects of transactions and other events Implementing Organization's Financialby grouping them into broad classes according to their Statementseconomic characteristics. Accounting Standards layout the benchmarks which the accounting and finan- 4.04 In projects where the financial viability of thecial reporting would be expected to follow (para implementing organization is vital to the success of2.15). the project or where one of the objectives of the proj-

ect is to improve the institutional capability of the4.02 The Bank has always required annual financial implementing organization, particularly in financialstatements provided by the borrower showing the management, the Bank requires their full financialproject's performance for each fiscal year. More statements. These will include the balance sheet,recently, however, a strong need is also being felt for income statement, cash flow statement (sources andinterim statements and reports, quarterly and half application of funds), and accompanying notes andyearly, to be designed as a fundamental tool for mon- supplementary information, on the organization as aitoring project implementation and management in whole. Annex XI summarizes the Elements of Finan-general. These interim reports are rarely audited, but cial Statements. Most revenue earning projects falltheir accuracy can be determined by comparison with into this category.the final audited figures for the fiscal year.

Balance Sheet4.03 Financial reporting is based on the underlyingfinancial management structure and accounting sys- 4.05 The balance sheet is a financial snapshot takentem, which should be developed and agreed during at a particular point in time which is used to evaluatethe appraisal process. Financial reports required from the overall financial condition of the organization atborrowers can generally be classified into categories - that date. The elements directly related to the meas-- the implementing organization's financial statements urement of financial position in a balance sheet areproject specific financial statements including those assets, liabilities, and equity The balance sheet pro-for adjustment operations. statements of expenditure. vides information as to what resources are currentlyand special accounts. TMs frequently refer to some, available for the future performance of the organiza-or all of the above, as Project Accounts. It is impor- tion. It also provides information regarding the fund-tant to understand the specific role of each of the ing of those assets, such as whether they are fundedabove financial statements. Each of these financial through debt or net worth.statements should be designed so that they provide 4.06 A balance sheet normally is prepared as of thethe borrower with needed information to manage the 406 Ablnesetorayispprdasfthproject, and to provide the TM with the information close of the reporting period and should provide de-needed to monitor project progress. Efforts should be tails of all assets (fixed, current, and other), liabilitiesmade to consolidate reporting requirements so that (accounts payable, short and long-term debt), and

equity (paid-in capital, accumulated earnings, or

18 FARAH

deficits). Where possible, the balance sheet should be ing treatments, and cash resources and their impact oncompiled to highlight important characteristics such as reported results.the capital structure, the liquidity position, or thereserves, to illustrate the nature and business of the Notes and Supplementary Informationorganization. Presentation of comparable data fromthe previous year is required by IAS. 4.10 The notes should include the main accounting

policies followed, and other important disclosuresIncome Statement including risks and uncertainties affecting the organi-

zation and any resources and obligations not recog-4.07 An income statement reports the results of nized in the financial statements. Information aboutoperations or performance for the period covered. geographical and industry segments and any otherThe elements directly related to the measurement of information such as key indicators required for theperformance in the income statement are income and particular project would be included as supplementaryexpenses. Amounts should be classified in the major information.categories of financial information which may includebut are not limited to: operating revenue by categories 4.11 Additional supplementary schedules or reportsof sales of service; operating expenses by category; may also be required. Reporting requirements shouldincome other than from operations, interest and fi- be kept to the minimum needed to ensure good proj-nancing costs and net income. In nonrevenue earning ect monitoring and management while complying withprojects, financial resources may also come from IAS disclosure requirements (see Box 4.01).other donors or the government itself.

Treatment of the Project Financial Statements4.08 When budget data is utilized, along with per-formance indicators, it is one of the best instruments 4.12 In almost all instances, the Bank-assisted proj-for performance monitoring. It is easy to incorporate ect represents only a part of the overall activities ofbudget data into an Income Statement so long as the organization. Unless separate project financialthere is a solid linkage between budget and account- statements are prepared (see para 4.13), the imple-ing data. Budgets should be developed and account- menting organization financial statement includinging systems improved until there is a close linkage supplementary information should clearly and sepa-between the two. An integrated budgetinz and ac- rately show the expenditures and financing of thecounting system should be used by implementing project. However, for those projects requiring man-agencies. agement information and linkage to physical perform-

ance, a separate project financial statements would bebash Flow Statement more suitable. See Annex XII for a sample of an

Organization's Financial Statement integrating the4.09 A cash flow statement shows the cash pro- project.vided by and used in operating, investing and financ-ing activities for the period covered by the income . .....statement. An alternative "statement of sources andapplications of funds" or "statement of changes in f w 0 ifinancial position" may be prepared in some countries. statements c. ep.inofinvstments; s .ffA cash flow statement is important because it focuses loI:sses, .wr.te oi-h .n eoeis n caie nsaon what happened to an organization's cash and holdRers' equfl ae pxt o tedisclou r5 uie bylSwhere It came from. By removing non-cash transac-tions it helps to reveal the effects of different account-

CIIAPTER IV FINANCIAL REPORTING 19

Box 4.02

Centrality of ProjectFinancial Statements

Schdul o.Noes nteraed ih|Poe iacial atmn

...--'.'.-'l.,..,...,

Project Financial Statements each project. A stand alone project usually requiresthe Project Financial Statements, without the Imple-

4.13 The Bank requires annual audited financial menting Organization's Financial Statements.statements reporting on expenditures and its financingfor each project, in order to monitor its overall finan- 4. 15 The main feature of the Project Financialcial performance, and the effective utilization of the Statement is the Source and Application of Funds forloan. There may be more than one project to a loan, the project during the current financial year, and cu-as in a multi-state project with separate project mulatively since the start of the project. Related com-agreements. Separate financial reporting is required parisons of actual expenditures should be shownto coincide with each project. In addition, many proj- against SAR original or amended projections, andects involve more than one implementing organiza- explanations provided for significant variations. Thetion, each subject to the Bank's requirement for ac- source of funds should be shown separately -- fundscountability. In these instances, it is strongly recoin- received from the Bank, donors, and other main re-mended that the financial information from each im- sources. Funds provided by the Bank should be fur-plementing organization be combined by the umbrella ther separated to show those provided a) throughproject implementing organization to form a single SOE procedures. and b) through other procedures.project financial statement.

4.16 The Bank is interested in the total project,4.14 Project financial statements are central to irrespective of whose funds are used to undertake afinancial reporting. Regardless of type, every Bank particular activity or operation in a project for whichassisted project should submit regular periodic reports it has provided part of the funding. Application ofof receipts and expenditures against the budget for funds should be summarized to show expenditures

20 FARAH

and allocations by main project categories as laid ditional budget information and analysis, and the re-down in the SAR (Bank funds by categories shown in ports are not audited. Reliable interim reports willthe loan agreement for disbursement purposes may facilitate good decision-making. An audit at year-endalso be shown for information.) Where project ex- provides assurance that the interim reports were reli-penditure includes assets required for project imple- able and that future such reports are also likely to bementation (such as motor vehicles and other equip- reliable.ment) these should be categorized separately andsupported by a listing of such assets to enable their 4.19 Where Statement of Expenditure (SOE) pro-control/security. cedures are used for loan disbursement, the SOE

financial statement should be integrated to become a4.17 Where accrual accounting is adopted, a bal- part of the Project Financial Statements (Annex XIII).ance sheet is always required. Accrual accounting isnecessary particularly when there is an income aspect Statements of Expenditureto the project. The summary balance sheet shouldshow the assets and liabilities of the project, and the 4.20 Under the SOE procedure, the borrower peri-net fund created by the project. When liabilities are odically requests withdrawal of loan proceeds throughlarge, a supplementary schedule should disclose sig- submission of a statement indicating expenditures for

nificant creditors and commitments. Depending on the certain items referred to in the loan agreements. Thenature of the project, the notes to the financial state- SOE procedure simplifies and accelerates the Bank'sments should identify the major contracts awarded loan disbursement process by eliminating the require-and being awarded. Where applicable, a comparison ment for Bank staff to review supporting documenta-to the previous year is desirable. Notes to the project tion for many small expenditures prior to authorizingfinancial statement should include a statement of the disbursements. The SOE statements are not accom-basis of accounting followed, and the accounting panied by supporting documentation. Implicit in the

policies under which the financial records were pre- SOE submission by the borrower is the adequacy andpared. However, the majority of projects imple- veracity of documentation, maintained by the bor-mented by government departments are on a cash rower, which supports the disbursements.basis, and frequently financed as a part of the gov- 4.21 During the early stage of the project design,

enmient's own budgetary system and procedures. the TM in consultation with the Loan Department

4.18 The project accounting system provides an would have decided if SOE procedures would beopportunity to use the management accounting dis- used for disbursements under the project. In consider-cipline to develop a linkage between financial account- ing the use of SOEs, the TM must also consider theing information and the key physical indicators re- previous record of the borrower in complying withquired to efficiently manage and monitor project im- SOE requirements, the current timeliness and com-plementation. Interim reports therefore are an impor- pleteness of the accounting records, a clear method-tant aspect of the overall management by the bor- ology linking the SOE to the project financial state-rower of the project, and for monitoring by the Bank. ments, and where more than one organization is in-Program implementation decisions and necessary mid- volved, a means of aggregating the various organiza-

term corrections may be based on the financial and tions' SOEs into one submission without losing the

performance information provided via interim project audit trail. Satisfactory arrangements for externalaccounts. The format of these reports may be very audit of the SOEs must be in place prior to authoriz-

similar to the year-end audited statements except that ing their use.the period involved is shorter, there may be ad-

CILAPTER IV FINANCIAL REPORTINC 21

4.22 Once the Bank and the borrower agree to the Special Accountsuse of SOEs for certain categories or items of ex-penditures, SOE use is always required for these types 4.26 A Special Account (SA) mechanism may beof expenditure. The nominated amount eligible for established to enable more effective project implemen-disbursements against SOE procedures will vary from tation, mainly by assisting the borrower in overcomingproject to project. The TM should provide for pefi- cash flow problems. SAs are revolving account ar-odic reconciliation between disbursements made via rangements under which the Bank advances funds intoSOEs, through direct disbursements, and Special a special bank account (at the central or at a com-Accounts (SAs) if used, and the total disbursements mercial or depository bank). When the Bank adminis-reflected by the Bank's records. This type of recon- ters funds provided by a co-financier, a single SA mayciliation is essential to maintain control over project be established provided the funds are fungible.resources. SOE procedures are fully discussed inOP/BP 12:30, "Statement of Expenditures." 4.27 Under an SA controlled by a central agency,

sub-accounts may be established within the depository4.23 As discussed in para 4.20, disbursements un- bank and operated by agencies that are implementingder SOE procedure do not require the borrower to the project. Although funds are not transferred fromsubmit receipts and other supporting documentation the SA, the accounting records must monitor dis-for expenditures. This poses a greater risk to the bursements against amounts allocated to each of theBank compared to other Bank disbursements which sub-accounts. In exceptional circumstances, the Bankrequire the submission of supporting documents. To may authorize the borrower to draw funds from anmitigate this risk, the Bank strengthened its enforce- SA and use them as an advance into a second-ment for the receipt of SOE related audits. generation special account (SGSA).

4.24 In addition, SOEs are also subject to review 4.28 The SA is usually managed by the respectiveby Bank staff during missions; Annex X provides Ministry of Finance or by the project implementingguidelines for this review (see also para 3.18). As organization. The managers of the SA should main-stated in para 4.19, the SOE Financial Statement tain appropriate records to control and identify theshould be integrated into the Project Financial State- movements in the SA, and are required to submit ament. This will, however, require the Bank to monthly statement summarizing such movements.strengthen its enforcement for the receipt of the inte- The implementing organization must maintain propergrated Project Financial Statement, to bring compli- books of account including all original records ofance in line with that now required for SOEs. receipts and payments, bank statements and recon-

ciliations.4.25 The suggested format for integration would beto separately list, as an Annex to the Project Financial 4.29 Disbursements from SAs are made either forStatement, the individual SOE withdrawal applica- direct project payments or to reimburse for projecttions, with the totals extended under columns show- expenditures already paid by the borrower. The Banking the main project expenditure categories. The total then replenishes the special bank account on the basiswithdrawals should equal the amount shown in the of appropriate withdrawal applications submitted forProject Financial Statement -- see Bank financing these disbursements. Interest earned on the SA be-through SOE procedures (para 4.15). Annex XIII longs to the borrower who will need to decide how itshows a model Project Financial Statement with an will be used -- for the project or otherwise.Annex showing SOE withdrawals.

22 FARAH

4.30 The Special Account (SA) Financial Statement list of such items ("positive list"). Alternatively, the(Annex XIV) is simply a summary of the Source and Bank may provide a list of goods and services againstApplication of funds through the SA during the re- which the disbursement could not relate ("negativeporting period, with the Bank usually being the only list"). Accounting for such projects is merely main-"Source" (para 4.26). Source is usually the Bank's taining a listing of the invoices and supporting cus-initial deposit to the SA plus "replenishments." With- toms certificates applied against the loan. The listingdrawal applications are usually in the form of either should at least cover the amount of the loan dis-direct disbursements from the SA, or reimbursements bursed. However, it is important that the borrower.to the borrower for expenditures already paid for. retain the supporting customs or similar certificatesOther activities in the account would be interest on for at least one year after the submission of the relatedoutstanding balances and bank charges. The manager audit report. It should be noted that other additional-of the SA should maintain appropriate records to procedures relating to procurement may be neces-control and identify the movements in the account, sary. See Annex III.and are required to submit an annual report to theBank summarizing such movements, also showing the Hybrid Operationsfinancial status of the account at the end of each re-porting period. It is important that the SA Financial 4.34 A hybrid loan has elements of both an invest-Sotatement be reconciled withat e Banks records, ment project and an adjustment operation. The ac-taking into consideration items in transit at the end of counting for each component of a hybrid loan follows

the reporting period, and also with the Bank's financ- the specified guidelines for that particular type ofing as shown in the Project Financial Statement. operation. For example, the development of physical

infrastructure included in a hybrid loan would be sub-4.31 In some countries where the banking system ject to the accounting and reporting requirements forhas not yet been developed (such as in the former investment projects, while the funds disbursed in re-Soviet Union countries), project expenditures are turn for policy changes would be subject to the ac-made using the SA as a regular bank account. In counting and reporting requirements for adjustmentthese instances, the SA may be incorporated to form a operations. There would be really two parts to thepart of the Project Financial Statement. SAs are dis- reporting requirements, even when they may be con-cussed in OP/BP 12.20, 'Special Accounts." Audit- solidated into one financial report.ing is discussed in Chapter V of the Handbook.

Emergency OperationsAdjustment Operations

4.35 Accounting for emergency operations should4.32 While most Bank loans finance investment follow the guidelines for non-revenue earning or ad-projects, the Bank also makes Structural Adjustment justment operations discussed above, depending onLoans (SALs) or Sector Adjustment Loans the project design. These operations may cover sev-(SECALs). Adjustment loans generally provide funds eral different sectors, such as human resources andto the borrower for budget support, subject to the infrastructure. One of the main differences may relateborrower's implementation of specified economic to the several different sources of financing, some ofreforms. SALs focus primarily on broad macro- which may require specific identification for thoseeconomic policies while SECALs focus on sector- expenditures financed by individual funds. However, itrelated economic policies. is important that the control system take into account

the rapid delivery of funds required under these op-4.33 Typically, SALs and SECALs provide quick erations.disbursing foreign exchange which would relate to theimport of goods and services from a Bank approved

CHAPTER V AUDIT COMPLIANCE 23

V: AUDIT COMPLIANCE

Types of Audits and Auditors financial statements are unlikely to mislead a pru-dent user, the auditor gives an audit opinion ontheir fair presentation and associates that opinion

5.01 An audit is an ex post review of the imple- with the statements. Although the auditor is not anmenting organization's financial statements, finan- insurer or a guarantor of the fairness of the presen-cial systems, records, transactions, and operations tations in the statements, there is considerable re-performed by professional accountants for the pur- sponsibility for notifying users as to whether thepose of providing assurance of accountability, giv- statements are properly stated. If the auditor be-ing credibility to the financial statements and other lieves the statements are not fairly presented or if amanagement reports, identifying weaknesses in conclusion cannot be reached because of insuffi-internal controls and financial systems, and making cient evidence or prevailing conditions, then theappropriate recommendations for improvements. auditor has the responsibility of notifying the usersAudits can differ considerably, depending on their of the statements through the auditor's report.objectives, the activities for which the audits areemployed, and the products or reports expected 5.03 However, an unqualified opinion on thefrom the audits. In general, audits can be classified fairness of financial statement presentations shouldinto three basic types: financial statement audits, not be construed as an independent auditor's en-compliance audits, and operational audits. For dorsement of an enterprise's policy decision, its usefinancial statement audits, the Bank would be con- of its resources, or the adequacy of its internalcerned with the audit of the financial statements of control structures. Audit conclusions aboutthe implementing organization as a whole and of the whether financial statements are fairly presented arespecific project (see paras 4.04 and 4.13). Compli- not reached in a precisely defined manner. Instead,ance audits are discussed in para 5.18, and opera- evidence is obtained and conclusions are reachedtional audits in para 5.19. throughout the course of an audit. The auditor

starts with relatively little information aboutAudits of Implementing Organization whether the organization's statements are fairlyFinancial Statements presented. Impressions about the integrity and

competence of management and the results of5.02 The overall objective of the typical audit of previous audits are also considered. As the auditan organization's financial statements is for the proceeds, each additional piece of evidence eitherauditor to express an opinion as to whether the confirms or contradicts the initial impression. Atstatements are fairly presented in conformity with the completion of the audit, the auditor should haveinternational accounting standards and generally strong beliefs about the fairness of the presentation,accepted accounting principles applied on a basis which will lead to an opinion.consistent with that of the preceding year. Theauditor evaluates whether the financial statements Understanding the Organizationare fairly presented by gathering audit evidence in a 5.04 Each audit should begin with the auditorthorough and conscientious manner. When, on the obtaining an understanding of the organizationbasis of adequate, sufficient, competent, and perti- being an understanding is generallynent evidence, the conclusion is reached that the being audited This understanding is generally

' ~~~~~~~~~~obtained through consideration of the nature of the

24 FARAH

organization's activities and its background, and tended primarily to determine the extent of testingthrough analytical procedures designed to high-light of actual transactions to be carried out in the subse-significant trends and relationships. In addition, the quent examination of account balances. Therefore,auditor should be familiar with the SAR and any the auditor's report on the financial statementsagreements, including Minutes of Negotiation and should not be considered to be an endorsement ofthe loan covenants, which are pertinent to financial the overall adequacy of the internal control systems.operations.

Testing the Financial Statement BalancesEvaluation of Internal Controls

5.05 As part of an audit of financial statements, 5.08 The year- or period-end balances in thethe auditor normally examines the system of internal balance sheet and the amounts shown on the in-accounting control for the purpose of determining come statement are verified by obtaining variousthe audit tests required in order to form an opinion types of evidence. Examples include physical pres-of the financial statements. If the auditor is con- ence at stocktaking, verification of fixed assets,vinced that the organization has an adequate system direct written communication with third parties forwhich includes controls for providing reliable data confirmation of accounts receivable, bank balances,and for safe-guarding assets and records, the observation of actual inventory, and examination ofamount of audit evidence to be accumulated can be vendor's statements for accounts payable. Inde-significantly less than if the system is not adequate. pendent verification from external sources is one of

the most valuable means of verifying accounting5.06 The degree to which an auditor will evaluate data. These tests of ending balances are essential toan organization's internal controls is largely de- the conduct of the audit because for the most partpendent upon the extent to which reliance will be the evidence is obtained from a source independentplaced on such controls in order to reduce the ex- of the client, and thus is considered to be of hightent of other audit tests. When considering the quality. For example, in the course of conductingsystem of controls, the auditor should first deter- an audit of a project, the auditor should contact themine, at least broadly, how it operates and then Bank to confirm the project balances independentmake a preliminary evaluation of whether the sys- of the implementing organization's records.tem has been designed effectively to accomplish theobjectives of preventing or detecting errors that 5.09 There is a close relationship between themay be significant to the financial statements. general review of the client's circumstances, the

results of the evaluation and testing of the system of5.07 Where the auditor has identified an effective internal control, and the direct tests of the financialcontrol, or a strength in the system, the auditor is statement account balances. If the auditor has ob-entitled (but not required) to rely on this control to tained a reasonable level of confidence about theenhance the reliability of financial information. fair presentation of the financial statements throughHence, there is a reduction in the extent to which the general review of internal control and test of itsthe accuracy of that information must be validated effectiveness, the direct tests can be significantlythrough the accumulation of evidence related di- decreased. In all instances, however, some tests ofrectly to it. To justify this reliance, however, the the financial statement account balances are neces-auditor must test the effectiveness of the controls. saryThe procedures involved in this type of testing arecommonly referred to as "tests of compliance" or"test of transactions." It is important to recognizethat the auditor's review of internal controls is in-

CHAPTER V AUDIT COMPLIANCE 25

Audits of Project Financial Statements submitted to the Bank. The primary objective of ispart of the audit is to ascertain that the individual

5.10 The overall objectives of audits of Project expenditures which comprise the SOE totals areFinancial Statements are to determine whether the fully supported by documentation retained in thestatements, particularly the Sources and Applica- borrower's files, properly authorized and eligibletions of Funds, are fairly presented for the specified under the Loan Agreement, and appropriately ac-period, as well as cumulatively for the project; and counted for (see para 5.54). The Bank will also usethat the reported disbursements were made in ac- the results of the audit to determine whether con-cordance with loan agreements and the SAR. The tinued use by the borrower of the SOE procedure isaudit would also look at the fair presentation of warranted, or if adjustments to disbursements onbalance sheets, with particular attention to the subsequent claims are needed to offset disallowedtreatment of assets. claims.

The Audit Process Audits of Special Accounts

5.11 The process followed for auditing a project 5.14 Where Special Accounts (SAs) are estab-specific financial statement, while generally simpler, lished, annual audits are also required. The primaryis similar in most respects to the process followed objectives of such audits are to verify that SAfor an audit of the financial statements of an execut- statements are fairly presented and that disburse-ing organization, as outlined above. This includes ments from SAs are proper and in accordance withan evaluation of internal controls and tests of the the respective loan agreements. Accordingly, theunderlying transactions. The auditor is, however, auditor should perform procedures to enableexpected to rely heavily on an inspection of valid him/her to conclude that the SA statement fairlysupporting documentation and to perform other reflects the activity of the SA, and that SA fundssteps, such as physical observation of significant are used solely for purposes of the project.items purchased, where practical, to substantiatethe validity of the expenditure in accordance with 5.15 Audits of SA should, by nature, be quitethe loan agreements and the SAR. simple. SA audits consist of a review of the SA

records maintained by the nominated manager of5.12 Where a borrower uses the SOE procedure the SA, along with the statements of the SA ac-in claiming loan withdrawals, the expenditures re- count as provided by the central or commercialported in a project's statement of Sources and Ap- bank in which the SA is maintained. Movements inplication of Funds will also include those expendi- the account will include advances and replenish-tures under SOE procedures. ments from the Bank, and project-related disburse-

ments based on withdrawal requests. (The appro-Audits of Statements of Expenditure priateness of the composition of the withdrawal

requests form a part of the audit required for the5.13 Audits of Statements of Expenditure organization/project financial statements). Special(SOEs) should be considered a part of the overall attention will need to be given to the direct verifi-audit of Project Specific Financial Statements. cation of balances from the Bank, and the trackingHowever, a greater effort of compliance checking is of items in-transit both between the Bank and theusually necessary as, unlike Bank disbursements for SA, and between the SA and project-implementingproject expenditures where the submission of full organizations. The audit should also cover thedocumentation is required, the withdrawal requests treatment and disclosure of interest earned on theare not supported by documentation submitted to SA.the Bank. The primary objective of this

26 FARAH

Audit of Adjustment Loans sional accountants, since their reports ordinarily arenot intended for the use of third parties.

5.16 The audit of adjustment loans would focusprimarily on the adequacy of procedures used to Operational Auditsprepare customs or similar certificates. It wouldtherefore be limited to an examination of the certifi- 5.19 Operational audits are more comprehensivecates on which the SOEs have been based, and an examinations of an organization's management,opinion as to the reliability of the procedures ap- techniques, and performance. The objective of suchplied in verifying or issuing such certificates. Be- audits is to measure the extent to which enterprisescause of the nature of adjustment loans there are or government operations are achieving their ob-several issues which will require particular care: (i) jectives. The primary product of an operationalthe TOR must satisfy the financial covenants of the audit is a report recommending improvements toloan agreement, (ii) it must be clear that documen- increase the efficiency and effectiveness of opera-tation for an adjustment loan has not also been used tions. In this sense it is the broadest type of audit into justify another adjustment loan, (iii) the nature of scope, and encompasses all of the major functionsthe claims must be verified to ensure that items are of an organization. Operational audits are per-correctly documented, (iv) negative list items formed by all types of auditors. However, internalshould be verified, and (v) cut-off dates considered. auditors and government audit agencies tend to be

more active in this area than independent profes-Audits of Hybrid Loans sional accountants.

5.17 The audit of a hybrid loan would follow the Standards on Auditingprocedures of a normal audit of an investment proj-ect for the investment component, and of an ad- 5.20 Audits of financial statements are governedjustment loan for the adjustment component. by the standards of auditing, and the Bank requires

adherence to the Internationai Standards on Audit-Compliance Audits ing (ISAs) promulgated by the International Fed-

eration of Accountants (IFAC). In addition, there5.18 Compliance audits encompass review, test- is the International Organization of Supreme Auditing and appraisal of controls and operating proce- Institutions (INTOSAI), which sets similar stan-dures in an organization. In commercially-oriented dards targeted to the work of the Auditor Generalsenterprises these reviews normally involve account- of its member countries. The ISA and INTOSAIing, financial and other operations as a service to standards are summarized in Annexes XV and XVI.management. For government organizations such Important aspects of the auditors' work relate to (i)reviews also cover compliance with regulations, their understanding of the organization and/or proj-contracts and laws to which the organizations are ect being audited, (ii) their evaluation and advice onsubject. Compliance audits of private enterprises, the internal controls and arrangements, and (iii)and many state-owned enterprises, normally are their testing of accounting and supporting docu-performed by internal auditors, who are employees mentation with respect to the financial statementsof the enterprise. Compliance audits of most gov- being audited.ernment operations are performed by governmentauditors, who in a sense serve as the government's The Auditorinternal auditors. In many instances internal andgovernment auditors are not required to meet the 5.21 ISAs require the following of all audits andstandards prescribed for the licensing of profes- related services rendered by practicing accountants:

CHAPTER V AUDIT COMPLIANCE 27

Personnel in the firm should adhere to the prin- tors. Annex XVII is a Preliminary Questionnaireciples of integrity, objectivity, independence and which will assist the TM in reviewing proposedconfidentiality. audit firms.

The audit firm (should also apply to audit body) 5.24 Supreme Audit Institutions (SAIs) are usu-should be staffed by personnel who have at- ally acceptable for the audit of project financialtained and maintain the skills and competence statements including SOEs and for SA audits, but itrequired to enable them to fulfill their respon- is important to assure both their independence andsibilities. their technical competence. Delays in the submis-

sion of audited financial statements of government* Work should be assigned to personnel who have entities are sometimes encountered where the local

the degree of technical training and proficiency law first requires the presentation of an annualrequired in the circumstances. report by the SAI to the parliament before final

clearance for distribution. In these circumstances* There should be sufficient direction and super- the government should be required to submit a copy

vision of work at all levels to provide the firm of the draft-audited financial statements and report,(audit body) reasonable assurance that the work subject to subsequent clearance by the parliament.performed by the firm (audit body) meets ap-propriate standards of quality. Whenever neces- 5.25 In the event of a change of auditors, thesary consultation should be made with those borrower should notify the Bank prior to thewho have appropriate expertise. change. The appointment of the new auditor (paras

5.30-35), which should be acceptable to the Bank,5.22 The basic auditing postulates of dNTOSAI should be expedited to allow sufficient time for thepromotes independence, competence, and due care auditor to become familiar with the project and theField standards are based on planning, supervision implementing organization and to complete theand review, study and evaluation of internal con- audit by the due date. Where the Bank projecttrols, compliance with applicable laws and regula- finances the auditor, there are certain special proce-tions, audit evidence, and analysis of financial dures (paras 5.56-57).statements.

Government AuditorsSelection of Auditors

5.26 The position of the head of a government's5.23 Bank staff should strongly promotevte use SAI normally is established by a country's constitu-of independent audit firms for all revenue earning tion or laws. These precepts should prescribe theand commercial type projects in recognition of the professional qualifications and experience for thelimited experience and training that government person to be appointed, but often do not. Govern-auditors usually have in these areas. Every effort ment auditors are frequently not professionallyshould be made to select auditors who fulfill the qualified accountants -- many are political appoint-criteria required by ISA, and whenever possible, ees, and some are public service administrators.auditors who are members of bodies affiliated with SAIs often do not possess institutional independ-the International Federation of Accountants ence and often are understaffed, under-financed,(IFAC). Where the local law requires government and subject to political pressure. True independ-auditors to audit government entities, then the gov- ence of these auditors is frequently difficult toernment audit institution should be encouraged to prove.sub-contract the audit work to independent audi-

28 FARAH

5.27 Where public sector auditors appear to be Private Sector Auditorsthe best option, their level of independence shouldbe carefully assessed. The level of independence of 5.30 A frequent problem in developing countriesa government auditor may be acceptable if the is the wide range in the quality of private auditauditor does not report to the operational manage- firms. The firms with direct links to foreign majorment of the implementing organization, nor engages audit firms or which maintain full membership inin any approval process for transactions, nor is international professional auditing organizations canotherwise involved in the internal control or finan- usually be relied upon to provide an acceptablecial management systems of the organization. The level of performance. Firms which are merely as-degree of independence can be enhanced to a level sociated by name with international firms and notof acceptability by a form of external supervision subject to their quality controls may not conform tosuch as an audit board, audit examiners, or a similar acceptable standards.

specialized group. 5.31 In order to ascertain satisfactory perform-

5.28 The lack of professional expertise and audit ance, qualified Bank staff should carry out periodicexperience of senior government auditors hinders reviews of the work papers of selected auditors ineffective development of the public sector auditing each country in order to develop a list of acceptableprofession in many countries. This is further aggra- auditors.vated by the relatively low salaries in many publicsectors in the developing countries, when compared B. o . .01 ........ ................. .... :-.-:. -:. .. : ... . -to the salary levels of similar audit professionals in -O -T: 0.--. ; i

the private sector. This lack of experienced leader- p,1y.te Setr AuItos-- :.ship often affects the morale of the few experienced t-t .t--- ;. t; i; . t - .i. | i .. i

and skilled auditors, and results in disillusioned ---The quait .W pdvate etraiiosi eedmanagers, and poor staff recruitment and training. Ott 0

5.29 Country reviews of financial accountability (I) the:.. ..*---..q.uality c :f the cornd t.... .(see Chapter VI) by technically qualified staff laws and00 reg.ulatios.s whi.h Xpeci1t ac nt.. .should be used to make decisions as to the contin- and;. auditing requirementsand the.r..or.ofued acceptability of government auditors. In those th! e !-irfi rmonitorn !n nbreecountries where the competence of the public : -t.: :iC: :C-. - -;Sit0 -- -t..auditor is an issue, the Bank should promote the (2.).0 th--*e.0 mo.ralstrength.f the contin. -.-iolve of prvate auditor whileseeking olv...of partiv.are aitors whilei.-. .se to .ei.n. t- ft..... .upgrade the professional quality of government ...--....i;.-....- fi.mn cod~... .auditors. Bank staff should in these circumstances - - 0t0tt0--00g00l0 g0 seek to develop either free-standing technical assis- (3 heqalt of t.e pr.-si.-- d.m. hgtance projects or components of other projects, fy| -y qUXvt-.t.rgtntng.it trang a t-i.... ..dedicated to the development of the SM and, . t.;-;.-g0-.-rigorou-Iy appld continuing ... eu.where necessary, the accounting professions in .-!0 0i -general. Government audit work should be equalin quality to that of private independent auditingfirms and should be subject to the same type ofreview of working papers as private firms.

CHAPTER V AUDIT COMPLIANCE 29

Appointing the auditor 5.34 In those cases where an auditor is alreadyappointed, including a government auditor, the TM

5.32 The auditor should be appointed well before should be satisfied that the auditor will continue tothe beginning of each fiscal year to allow the audi- be acceptable.tor to become familiar with the objectives of thesystems and operations of the implementing organi- 5.35 For the appointment of auditors, the bor-zation and of the project, and to make whatever rower should provide draft Terms of Referencearrangements are necessary for interim work and (paras 5.39-41) which have been approved by thefor year-end verifications. Bank, to the auditor. The auditor may also provide

an Engagement letter (para 5.42-43). In determin-5.33 It is the responsibilitv of the borrower to ing the Bank's approval, consideration should beadvise the Bank of the proposed auditors for a given to the past experience and references of thelending operation, even when the government selected auditors as a basis for judging the accept-auditor is the statutory auditor. It is thereafter the ability of the firms concerned. If the Bank has ob-responsibility of the TM, backed up by qualified iections, these should be explicitly stated to enableprofessional advice, to determine the acceptability the borrower to understand the Bank's concerns.of that auditor. Acceptability is best determined byhaving a professionally qualified member of staff or Independence of Auditors/Conflict of Interesta consultant meet with the auditor, at which timethey would review working papers of prior audits in 5.36 Auditors should be impartial and independ-connection with projects financed by the Bank and ent of the control of the institution and personsdiscuss among others, the following points: appointing them. In particular, no auditor should

be employed by, or serve as a director of, or have* evidence of independence; any financial or close business relationship with the

institution when engaged as an independent profes-• qualifications and experience of the partner-in- sional auditor. Audit fees should not be contingent

charge, the proposed audit manager and pro- on a given income of the audited organization orposed key audit staff, established in such a way that the auditor's inde-

• experience of the auditor in conducting audits pendence is impaired.of a similar size and scope; 5.37 Auditors should not be appointed to carry

out any duties that may be construed to be those ofestime requirements for the audit in terms of employees or of management for the institution forelapsed time and personnel inputs; which they are appointed auditor. The overriding

... back-up facilities availabletothefipoint is that auditors should play no part in deci-evaku fhatspcialteseavahiable torteq firmeid sion making and management. IFAC's Ethics for

Professional Accountants permits audit firms to

* experience in auditing Bank-financed lending carry out non-audit work, provided that this doesoperations; not impair the auditor's objectivity and independ-

ence. Norrnally, auditors should not be appointed

* experience in the type of operations to be as management consultants responsible for design-audited; and ing accounting and control systems on which they

would be required, as auditors, to comment. This* peer review, quality control, and professional increases the risk that internal control and account-

continuing education policies of the firm. ing failures will not be reported by the auditor sincethey may be indicative of short-comings in the sys-

30 FARAH

tem design or other consulting work provided by give an opinion on the specified financial state-the firm. This risk increases to the degree the work ments. If the auditor will be in a position to obtainperformed represents a significant portion of the a view of much of the workings of the institution,firm's business. management should take advantage of this inde-

pendent view and ask for a Management Letter5.38 Auditors should respect the confidentiality (para 5.55). This letter should not be confused withof information acquired during the course of their the audit report in which the auditor is required towork and should not disclose any such information express an opinion.to a third party without specific authority, or unlessthere is a legal or professional duty to disclose. Contract or Engagement Letter of an

AuditorTerms of Reference

5.42 Where a formal contract is used, it is nor-5.39 For different types of audits, the scope of mally prepared by the client institution or its legalthe audit will vary according to the nature of the counsel; often a simple engagement letter is usedimplementing organization and the type of opera- which is essentially prepared by the auditors. Intion being audited. See Annex XVIII for Guide- either case the contract or letter sets out the re-lines for a TOR and Annex XIX for a model TOR. sponsibilities of the auditor, and in effect, consti-For example, the Terms of Reference (TOR) for the tutes the contract between the auditor and the cli-audit of a financial intermediary will require the ent. Where it is not submitted by the auditor, theauditor to pay particular attention to the loan port- client should provide the letter to the auditor. Seefolio, while the area of greatest emphasis may be Annex (XIX) for sample.different for the auditing of a public utility.

5.43 The contract or engagement letter should5.40 ISA and the standards of most countries' include, but not be limited to:professional auditing organizations suggest that theauditor normally determines the scope of the audit . confirmation of acceptance of the appointmentof financial statements in accordance with require- including reference to the TOR;ments of legislation, regulations, and generallyaccepted auditing standards (GAAS). Therefore, * the client's responsibilities, particularly thethe TORs must not restrict the auditor's obligations preparation of financial information, i.e. the fi-with respect to such requirements. In other words, nancial statements;the auditor should not be allowed to claim in theevent of poor performance that the TORs prevented * access to whatever premises, records, documen-him/her from performing to statutory, regulatory or tation and other information the auditor may re-professional requirements. quest in connection with the audit;

5.41 However, the TOR provides the opportu- * the form of audit reports;nity for drawing special attention to areas of con- .cern that may not be covered or emphasized under *arngmtseadighenvlmntocern that ,- not bemcoveredoremphasizeduninternal auditors and of any other externala normal audit, such as compliance with loan cove- auditors (such as government auditors);nants; for example, the special review of procure-ment documents. When in doubt, the TOR should . the expected date of issuance of the audit re-specifically relate to aspects of the operation and its port, etc.; andaccounts that require special review. The scope ofthe audit should always include the requirement to

CHAPTER V AUDIT COMPLIANCE 31

the basis on which fees are computed, and any following matters, in accordance with the auditor'sbilling arrangements. TOR:

Auditors' Opinions . the financial information has been preparedusing acceptable accounting policies, which

5.44 The audit report should contain a clearly have been consistently applied;written expression of opinion on the financial in-formation. An unqualified opinion indicates the . the financial information complies with relevantauditor's satisfaction in all material respects with the regulations and statutory requirements;matters dealt with in the paragraph above. When aqualified opinion, adverse opinion, or a disclaimer . the view presented by the financial informationof opinion is given, the audit report should state in a as a whole is consistent with the auditor'sclear and informative manner all of the reasons for knowledge of the business of the entity/agency;

such an opinion. . there is adequate disclosure of all material mat-

5.45 ISA provide guidance to auditors on the ters relevant to the proper presentation of theform and content of the auditor's report issued in financial information; andconnection with the independent audit of the finan-cial statements of any organization. Much of the * additional requirements that may have beenguidance provided can be adapted to audit reports requested in the TOR have been met.on financial information other than financial state- 5.50 A qualified opinion is issued when thements.55 ulfe pnini sudwe h

auditor concludes that an unqualified opinion can-5.46 The Bank requires the preparation of re- not be issued, but that the effect of any disagree-ports in accordance with ISA. ISA specifies that all ment, uncertainty or limitation of scope of the auditaudit reports should include: title, addressee, iden- is not so material as to require an adverse opinion

or a disclaimer of opinion. The subject of thetification of the financial information audited, a qualification and its financial effect must be clearlyreference to auditing standards or practices fol- stated in the auditor's report.lowed, and expression or disclaimer of opinion onthe financial inforrnation, signature, the auditor's 5.51 An adverse opinion is issued when the effectaddress and the date of the report. of a disagreement is so pervasive and material to

the financial statements that the auditor concludes5.47 Samples of audit reports which the Bank that a qualification of the report is not adequate toexpects to receive in satisfaction of its audit re- disclose the misleading or incomplete nature of thequirements are included in Annex XXI. Note that financial statements.the examples are indicative of clean or unqualified 5.52 A disclaimer of opinion is issued when theopinions, and should be appropriately altered when possible effect of a limitation on the scope of thethe qualifications or modifications, such as the pe- audit or of an uncertainty is so significant that theriod under audit, are appropriate. auditor is unable to express an opinion on the fi-

nancial statements.5.48 An auditor's opinion may be: unqualified;qualified; adverse; or disclaimer of opinion. 5.53 Some government auditors try to avoid

giving a clear-cut, specific opinion, preferring in-5.49 An unqualified opinion indicates the audi- stead to provide a report covering all the mistakes,tor's satisfaction in all material respects with the misfeasances and malfeasances found by the audi-

32 FARAH

tor, but without confirming their materiality and inclusion in the costs of the project and financedimpact on the financial statements. The TM should from the Bank loan. This could apply particularly ifbe sure that the government auditors understand audit costs are incremental because of the projectthat while the detailed comments will be welcome, nature (if they would not have been incurred oth-an opinion on the accounts in accordance with the erwise to the same extent, if at all, such as whenabove is required for it to be acceptable to the private audit firms are required), or in cases ofBank. countries with limited foreign-exchange resources

that have to engage foreign auditors. The costs of5.54 In addition, where SOE procedures are audits performed by government audit institutionsused, the auditor's opinion to the Project Financial should not be financed by the Bank except in veryStatements is required to include a paragraph certi- unusual circumstances.fying to the eligibility of those expenditures againstwhich SOE disbursements were made. Any excep- 5.57 Where an auditor's services are to be in-tions or disallowed expenses should be referred to. cluded in a project's costs and are to be partly or

wholly financed from a Bank loan, the borrowerManagement Letter would be expected to use the Bank's selection

procedures. The borrower should seek proposals5.55 In the case of the implementing organiza- from a short list of firms based on their ability totion, the scope of the engagement as set out in the audit the lending operation, including the imple-TOR should require the auditor to provide a Man- menting organization, where necessary. For furtheragement Letter. This is a report on the internal information, see 'Guidelines for the Use of Con-controls and operating procedures of the institution, sultants." It is expected that those to be includedcovering all aspects included during the normal on the shortlist should be acceptable to the Bank;course of the audit. This is not a substitute for the price would then carry a larger weighting than forshort form audit report which is always required. the engagement of consultants.Because an auditor is unlikely to cover all activitiesof a client during an annual audit, the Management Timing of Submission of Audit ReportsLetter may address only those specific activitieswhich came to the attention of the auditor during 5.58 During project preparation, the Bank andthe review. The management and the auditor may the borrower agree on the required timing for sub-agree at the commencement of the audit on particu- mission of financial statements and audit reports.lar subjects to be addressed in the Management Where required, all audited financial statementsLetter, but it should still be the prerogative of the should normally be submitted within six monthsauditor to address any matter not agreed upon, but following the fiscal year-end of the project imple-which, in the auditor's opinion, should be drawn to menting organization. In general, longer allow-the management's attention. (See Annex XXI for ances for submission of audited financial reportssample.) should be considered only for borrowers who are

undertaking a time bound program to overcomeFinancing deficiencies in accounting and auditing capabilities,

after which the normal timetable should apply5.56 The Bank normally does not finance the (paras 3.11-15).costs of auditing services where these represent anongoing part of the operating expenditures of a 5.59 It is the responsibility of the TM to ensureborrower, exceptions must be approved by the that the audited financial statements are adequatelyRVP. There may be circumstances, however, when reviewed as they are submitted (see para 3.10).the costs of auditing services may be considered for Where questions arise or the project is high risk, the

CHAPTER V AUDIT COMPLIANCE 33

TM should seek the assistance of a professional Financial Intermediary Operationsaccountant.

5.61 For projects that are conducted throughSubsidiary Audits financial intermediaries for onlending to sub-

borrowers, there may be a requirement for the audit5.60 Where there are several implementing of the subprojects. In these instances, it would beagencies under one project, several separate audits the responsibility of the financial institution to ob-may be necessary. In these circumstances, the um- tain the subproject audit reports and to review thembrella implementing agency of the project should for acceptance. The main auditor would examinecollect these audited financial statements and con- these reviews to the extent considered necessary,solidate them into one set of financial statements, taking this into consideration when giving an opin-which would be reviewed and subject to one audit ion on the overall financial statements of the inter-report. This umbrella report would often need to mediary, including its loan portfolio. Also, a sepa-rely on other auditors and where considered neces- rate comment may be necessary, if required by thesary, the main auditor would review the working legal covenants.papers and procedures of the subsidiary auditors.

34 FARAH

NOTES

CHAPTER VI COUNTRY REVIEW OF FINANCIAL ACCOUNTABILITY 35

VI: COUNTRY REVIEW OF FINANCIAL ACCOUNTABILITY

Overview Country Operations Divisions should ascertain thata satisfactory mechanism is in place in the con-

6.01 Lending operations in each country, cerned Regional Department to:whether conducted in the public or the private sec-tor, are dependent on the capability and capacity of . identify within a country the authority(ies) re-the country's financial services. Therefore, econ- sponsible for the development and administra-omy and efficiency in Bank operations demand that tion of the financial services and, in the absencethere should be a continuing review of the efficacy of clearly identifiable responsible authorities, toof these services, with experience from ongoing agree with the government concerned onprojects available to TMs and other Bank staff mechanisms to provide the government and theconcemed with understanding and using the per- Bank with satisfactory evidence of financial ac-formance of these services in a country. countability with respect to each lending opera-

tion in the country;6.02 The implementing agencies are made re-sponsible by the government concerned for re- . maintain a dialogue with the above authoritiessponding to Bank requirements to provide timely to prepare and implement, where necessary, aand adequate and audited financial statements for development plan for effective financial serviceprojects. Lending operations in a country range within the country;over multiple sectors and usually a central unit(often in a Ministry of Economic Affairs, or in the * ensure that Bank staff, when requiring borrow-Treasury of a Ministry of Finance) acts as a coun- ers to use the financial services available:terpart to the Bank for identifying and managing thelogistics of lending operations. It is left to Bank (i) are frlly informed as to the levels of effi-staff to ensure that the accountability arrangements ciency of financial accountability likely to beagreed to by the borrower are, in practice, dis- available; andcharged in accordance with loan agreements. (ii) institute changes or upgrading of the serv-

ices anste pharte ofr prposedmlnig op h eratio6.03 It is in the borrowers' interests to ensure ices as part of a proposed lending operationthat their resources (including Bank funds) are which are in conformity with the nationaleffectively managed. Many do not appear to do so, development plan outlined above.nor to have any mechanism for providing the neces- 6.05 The levels of efficiency of the financialsary assurances. Bank staff need to emphasize the services in a country are likely to comprise twoimportance of efficient financial and project infor- distinct categories, namely the performances of themation in the management and monitoring of proj- public and private sectors respectively. Proficiencyect implementation. levels may vary extensively between these two

6.04 To ensure that each government meets its sectors, as described below. With each sector pro-responsibilities for financial accountability with ficiency levels may be relatively uniform; and thereregard to its legal agreements with the Bank, may be discrepancies in skill levels between inter-

national and local private sector firms.

36 FARAH

6.06 Country Operations Divisions with the assis- the point of entry into the government accountingtance of qualified financial staff or consultants, system, which may not be obvious in some coun-should establish an information system on the gen- tries; an example might be the question of whicheral proficiency of the financial services in the pub- government agency makes the decisions on ac-lic and private sectors of each country through counting rules and systems and the necessity forCountry Financial Accountability Assessments to: further approvals.

* advise Bank staff on prospects for, and steps 6.10 The review should determine any lawslikely to be necessary to achieve financial ac- which specifically form part of public sector ac-countability; counting. Specific laws relating to sectors and

activities (e.g. power sector, municipalities and* identify or approve inputs of technical assis- urban authorities, water and sanitation authorities,

tance, or other means, by the Bank and other railways) may identify accounting and auditinglenders and donors, to upgrade the services to requirements. Each authority responsible for de-efficient levels; and signing, administering and monitoring accounting

systems in government should be determined.* identify those sectors and key institutions where These details should be obtained for all the primary

it will be to the advantage of the governmentand the Bank to include the costs of auditing systems which are in place, including:services for lending operations as part of ex- . budgeting and budgetary control of expendi-penditures to be financed from the proceeds of tures for routine and development (project) op-the loan. erations;

Public Sector Accounting Services . budgeting for revenues (income taxes, VAT,customs and excise, etc.);

6.07 The responsibility for accounting services inpublic sectors is frequently difficult to identify. In a debt management;some countries, even the concept of a public sectoraccounting service is not readily recognized, nor . accounting and financial reporting;appreciated. Instead it may be a budgetary controloperation under a Director of Budget, with the sole * foreign exchange control and management;objective of reporting expenditures against budgets,while revenues are separately "controlled" outside * public sector enterpises in the various sectors;the budgetary system. These systems rarely provide and

meaningful forms of financial accountability. . consolidated reporting from other levels of

6.08 Each country should be the subject of an government.ongoing analysis in order to enable Bank staff, 6.11 The review should provide a brief descrip-when preparing and appraising lending operations,

tion of each form of accounting system, the ac-to determine the current status and performance of counting standards in use, and who established andthe services, and to recommend the most appropri- updates these (see Annex XXII for model TOR).ate means of achieving the accountability require Linkages between different systems should bements for a particular lending operation. identified, with the manner of operation and reasons

6.09 Assistance from the government's counter- clearly explained. In particular, the ability of man-part to Bank staff may be necessary to determine agers at all levels to make useful changes to a sys-

CHAPTER VI COUNTRY REVIEW OF FINANCIAL ACCOUNTABILITY 37

tem should be established, with brief descriptions of Public Sector Auditingany mechanisms available to achieve modifications.

6.16 Unlike accounting services, public sector6.12 The assessment should offer judgment on auditing in most developing countries has an es-the efficiency of each system, and provide recom- tablished identity, usually in the form of a Suprememendations for possible improvements, together Audit Institution (Auditor-General, Comptroller-with the means by which they could be achieved, General, an Audit Commission, or a Court of Ac-including estimates of time and cost requirements. counts). Many SAIs belong to INTOSAI, whichSuch recommendations may need to include propos- with United Nations and donor support, has pro-ing a detailed study of the governmental system in vided considerable assistance to its members toorder to provide the government and the Bank with upgrade their operations, particularly by developinga detailed picture of system deficiencies and long- auditing standards and other guidelines.term solutions.

6.17 The review should establish the legal6.13 It is important that a review should record authority for government auditing activities, includ-whether existing accounting systems generate ing the role of internal auditors who provide auditmeaningful management information with financial services to ministries, departments and agencies andaccountability. If they do so, the ways in which support the work of SAI. The review should indi-these are achieved should be detailed in the final cate the principal controlling authority(ies) forreport. Failure to generate such information should auditing. In most countries, this is likely to be onebe reported with recommendations for improve- authority, but there are countries which have mul-ments. tiple authorities, of which the majority are forms of

internal auditors. Their responsibilities should be6.14 An assessment should be made of the ca- defined and their independence, ability, and willing-pability and capacity of accounting managers and ness to provide unbiased reports specifically de-staff responsible for designing, operating and termined. In larger countries it will be necessary tomonitoring the systems, including the methods of obtain an audit organization structure chart to as-recruitment, and adequacy of compensation. An certain how the various states or provinces of aidentification of training needs is required including country are covered, and to determine how theapproaches to training, methods, facilities and central management monitors the effectiveness ofbudget adequacy. In addition, an assessment the organization to plan and offer adequate auditshould be made of the overall perception by ac- cover.counting managers of their role in financial ac-countability. 6.18 The auditing standards which the auditor

applies should be determined together with the6.15 Financial reporting should be evaluated at manner in which the audit management ensuresthe organization level, as well as the national level, their application. In the absence of meaningfulincluding timeliness, usefulness, and reliability of audit standards, the principles and methods adoptedthe nation's annual financial report. The review by the audit management to control the quality andshould aim to provide as complete a picture as nature of audit activities should be explained.possible of a government's efforts to achieve finan-cial accountability, not only for Bank lending op- 6.19 A number of government auditors partici-erations but for national resources. The need for pate in the expenditure approval process by con-improvement and possible means of achieving these ducting priori reviews and approvals. This effec-should be detailed in the final report. tively precludes them from providing independent

38 FARAH

opinions, because they are using their staff to per- auditors in professional accountancy organizationsform functions on which they later offer an opinion. should be evaluated.It is difficult for such auditors to be unbiased.Therefore the existence of such practices should be 6.24 Among other things, the country review offuilly researched, and the impact on the auditor's public sector accounting and auditing should ad-independence commented upon. dress the responsibility of the government in fulfill-

ing its role as a borrower, i.e. ensuring that Bank6.20 The budgetary allowances of government loans are used for the purposes intended. The re-auditors frequently may be a constraint. It is port should identify whether any government de-therefore necessary to estimate the extent to which partment or organization is required to take anythe auditor is able to conduct meaningful annual responsibility for ensuring that information providedaudits of all government services (priori reviews to the Bank under legal agreements is satisfactoryshould be excluded). This will require identifying and timely. If these features are not present, rec-the number and qualifications of audit staff, and the ommendations should be included to address mat-availability of non-accounting skills to provide other ters.forms of professional expertise. In particular, theextent of any performance, or "comprehensive"audits should be established by examining samples Private Sector Accounting and Auditingof performance reports.

6.21 The activities of internal auditors who pro- 6.25 The objective of a country review of privatevide reports to ministries, departments and agencies sector accounting and auditing services should beshould be described, including the standards used, to:justification for their role, and its possible effective-ness. The nature, form and typical timing of report- . evaluate corporate accounting, financial report-ing by government auditors should be defined, ing and auditing requirements, capacity and ca-particularly the facility--if any--to provide reports pabilitoes and recommend steps to be under-directly to management of governmental agencies taken to achveve short, medium and long te;a(rather than initially to a legislature). improvements; and

6.22 An appraisal should be made of the profes- provide the Country Operations Division con-sional capability and capacity of audit managers and cerned with an information system to enable itstaff responsible for designing, operating and to advise and guide Bank staff in making ac-monitoring the audit programs and systems, includ- countability arrangements for ongoing and fu-ing the methods of recruitment, and adequacy of ture investments in the private, and where ap-compensation. An identification of training needs is propriate, the public sector of the country.required including approaches to training methods, 6.26 A country review of private sector financialfacilities and budget adequacy. In addition, an services should address certain key conerns, in-assessment should be made of the overall percep- cluding appropriate legislation, regulations andtion by audit managers of their role in financial management of the accounting profession and cor-accountability. porate practices. Each professional accounting

6.23 Finally, it is necessary to determine the organization should be assessed as to its ability toSAI's attitude towards financial accountability, as promote a truly professional approach to account-well as the extent to which it is organized and pro- ing and auditing and the service it provides to itsfessionally qualified. Participation by government members.

CHAPTER VI COUNTRY REVIEW OF FINANCIAL ACCOUNTABILITY 39

6.27 The review should ascertain the ability of 6.29 The following are matters which should bethe profession to provide the requisite high quality addressed as part of the review:services at fee rates which provide an equitablereturn to the firms and which can give reasonable * establishment and regulation of the accountingassurances of independence and impartiality. It professionshould evaluate the adequacy of corporate legisla-tion, including national accounting standards and * a commercial code or corporate law requiringprinciples and regulation of accountants, to encour- appropriate accounting, financial reporting andage investment and to provide investor protection auditingby encouraging the use of accounting services un-der appropriate regulatory approaches. It shouldappraise the complete range of training facilities and Structure and Strength of thestandards accessible to those who would enter the Accounting Professionprofession and to those who continue in the profes-sion, to ensure their continuing professional educa- . Numbers of members in professiontion. Finally, it should address any technical assis-tance requirements to achieve the necessary stan- a Classification of profession by financial account-dards of performance by the accounting profession ing, management/cost accounting, taxation,and the government, as its regulator. auditing, management consultancy, etc. and re-

lated numbers6.28 The review should provide a complete pic-ture of the private sector accounting profession of a . Nature and locations of pre-entry training forcountry, together with the nature and adequacy of accountancy, taxation, auditing, etc.the services which are provided. It should identifythe degree of independence achieved from govern- . Acceptability and quality of professional exami-ment and impartiality from client interference in nationsproviding opinions and reports. The extent towhich foreign links assist, or are allowed to do so, . Licensingshould be ascertained. Linkages with the publicsector from basic education, through regulation, to * Nature of accounting standards and their obser-the provision of services should be identified. The vanceobjective should be to determine whether the pro-fession is competent, independent and thriving, or . Nature of auditing guidelines and their enforce-

otherwi.whether it is in need of support, and if eti continuing professionalotherwise; educationmneaOIspprt naIso, the nature of, and likely sources required to givesuch support; and a possible role for the Bank in Existence and enforcement of a code of ethicsfuture development of private sector accounting in and other disciplinary measuresthe country. Selected accounting firms should beinterviewed and classified according to strengths, . Requirements for third party liability insurancespecialties, degree of professionalism, quality con-trols, and staff training programs. . Existence and quality of peer reviews

* Fee structures

40 FARAH

Quality of Accounting Firms 6.31 Staff or consultants engaged as countryand Individual Practitioners reviewers are encouraged to be explicit about rec-

ommended changes. In doing so, they should spec-• Type of affiliation and degree of support from ify the nature of any local or foreign technical assis-

intemational accounting firms tance which may be required to achieve the desiredmodifications and improvements.

* Local facilities to provide back-up support forresearches and training 6.32 Technical assistance toward strengthening

the financial management in both the public and*Independence and impartiality piaescosmyicueprivate sectors may include:

* Work availability from private sector and publicsectors . drafting new or revised legislation and regula-

tions for all primary purposes, systems reviews,* Availability (admissibility to country) of expa- design of modified or new accounting, financial

triates reporting, and auditing systems

* Oversupply or undersupply of accountants development of accounting standards and

auditing guidelines

Bank Experience of Working . design of new or modified educational programswith Firms and Practitioners at secondary schools, university, qualifying or

post-qualifying levels

, Possible legislative requirements to improve training of trainers at all levels

independence and performances 6.33 Recommendations in a final report on a

• Possible technical assistance requirements country review for technical assistance should in-clude, wherever possible, the nature and form of

Technical Assistance required inputs, the reasons for their inclusion,estimates of time requirements and cost, and gov-

6.30 he Cunty evie and ssesment iill ernmental reactions to any such proposals. In someidentify steps which may be needed to supportimprovements and changes to financial services in cases it may not be possible to estimate the finalthe public and private sectors. These steps may costs, particularly in those cases where further in-range from simple organizational and management depth investigations are recommended. In suchchanges in institutions and firms to major investiga- cases, an estimate of the investigatory costs onlytions and the construction of completely new sys- should be included.tems.

FARAHs ANNEXES 41

ANNEXES

42 FARAH ANNEXES

NOTES

ANNEX I 43

ACCOUNTING STANDARDS

1. Accounting standards address issues such 5. Under the Cash Basis system receipts andas accrual and cost basis accounting; qualities of good payments (as differentiated from income and expense)financial information; balance and reasonableness; and are recognized only when cash is received or paid.internal control. The cash basis of accounting is often used in the

preparation of financial statements for governmentfunded entities. This is because the primary objective

Accrual vs. Cash Basis of government accounting is to identify the objects and

2. One of the most basic aspects of account- purposes for which funds have been received and paiding which must be understood in order to properly out during a particular period and to maintain budget-evaluate financial information is the timing of the rec- ary control over such activity. Cash basis is also usedognition of revenue and expenses. Under Accrual when the accounting system lacks enough sophistica-Basis accounting, the financial effects of transactions tion to implement accrual accounting and benefits ofand events are recognized in the periods in which they major changes do not justify the cost. However, inoccur, irrespective of whether or not cash has been both of these cases, if trade credit is used in any sig-received or paid. This allows transactions to be re- nificant way, a cash basis treatment can result in seri-corded in the accounting records and reported in the ous off-budget/book liabilities being incurred but notfinancial statements of the period in which the service recorded against the current budget because paymentwas received (expense) or rendered (revenue). There is delayed.occurs a matching of the revenue and the expenses 6. Under some circumstances, especially inrequired to generate that revenue. central government operations and municipalities, the

3. Financial statements prepared on the ac- most appropriate method of recording transactionscrual basis inform users not only of past transactions may be a combination of the cash and accrual basis.involving payment and receipt of cash, but also of Under this Modified Accrual Basis, revenue is re-obligations to pay cash in the future and of resourcesthat represent cash to be received in the future. Budget Management Under the Cash BasisHence, they provide the type of information about past

Many govemnments operate under a cash basis oftransactions and other events that is most useful to

. . ~~~~~~accounting--record- cash receipts and expenses asusers in making econoniic decisions. they are received or disbursed. Bills are accounted4. Accrual accounting is generally the most for when they are paid. So long as bills are paid asaccepted method for recogrizing income and expense they are received, such a system can effectivelyin the private sector. It is increasingly seen and en- monitor costs. In countries where there is a strongcouraged in the public sector, but remains relatively encumbrance system, i.e. charges are made againstrare. Occasionally, a cash basis is used where the budgets when purchase orders are issued, this systemrecording of cash receipts and payments is the primary works fairly well in keeping the organization withininterest or where there is a legal requirement. Many its budget. However, where countries are underassociations which fund-raise for a specific purpose severe budget constraints, where the encurnbranceoperate on a cash basis. They may be required to system is weak or non-existent and budgets oftendistribute all the funds raised within a specified period unrealistic, a common occurrence is for payments onof time. Another example of a cash basis system is bills to be delayed often from one budget period totax systems which allow cash basis accounting to help another. As a result, budget controls break downensure that taxpayers have adequate liquidity to pay and unpaid bills accumulate, sometimes in excess ofthe taxes involved in the period. next year's budget allocation for the same sub-head

or line item.

44 ANNEx I

corded only when cash is received, while expenses and 8. To be useful, financial reports must berelated liabilities are recorded when incurred, irre- both relevant and reliable. The relevancy of financialspective of the time of cash disbursements. The reports will be largely dependent on the degree tomodified accrual basis generally is followed in cases which the underlying accounting system reflects thewhere revenues cannot be measured until they are demands of implementing the project, i.e. the way inactually received (e.g. certain types of taxes, fines and which it segregates, classifies, and aggregates account-fees), or where the timing and amounts to be collected ing data.on customer accounts receivable may be highly uncer- Peraing any accounting system are cer-tain. tain elements which affect the quality and quantity ofMd-fiedi accrual Basis information produced by an accounting system.

IModified.Acc rua Basis Timeliness is a key element of any financial report. IflA modified accrual basis can sometimes be a more there is undue delay in the reporting of information itconservative approach to financial .statement presenta-- may lose its relevance.ftion. Thisis itrue inthe recognition of interest incomel. .. i. i.. ...... : Balance and ReasonablenessI forlendingorganizatons. In some countnes iterest isaccrued forallperformiing loans as it is due from the 10. Balance is a very important concept toborrower. Only: when .a loan is classified i as non- bear in mind in analyzing the adequacy of a financialperforming(uually payments in arrears for 90 to 120 management system for full accountability and man-days);is interet tincome recorded on a cash basis. All agement usefulness. For example, management mayexpenses are accrued as incurred. need to balance the relative merits of timely reportingSome countries use a modified cash basis in : w Ech and the provision of reliable information. The;:one: coun tres. use .a modified cash ~basis 'm whkch achievement of total accuracy and absolute controlpcexpnses: are accrued: as -mourred butimterest incme isexpenses arecaccrued a e d ls incaurred but interestinacme is might delay the release of the information so long as to

recored a recived Thi caues sme msmathing make it irrelevant for decision-miaking. The fiancialof income-and expense. However, the result is a morectservative income statement because the iability to; losses of poor management may outweigh the re-

collect any intere,t income recognized is absolutEly sources conserved via accuracy and micro controls.:coledtatiy etees:incomeirVecogtuod~ IS: asltely

However, failure to establish an adequate control envi-assura.fbecause: its.:ealreidy:ee b o1ce. neasue b iE s .alE .been collEcted. Une a ronment may result in a high rate of leakage of finan-full: accrual method,interest income could be Vaccrued cial resources and may render the information so inac-that would never be collected and would have. to be

curate as to also make it irrelevant for decision-wiftten :off.at. a later date when the loan was: declared.at a e .d e E s making. In achieving a balance between relevance andnon-performing.Wi :t;;i; E;; f: ;iR ;> :S: ;; f ; ;;; ;;reliability, the overriding consideration is how best to

Oualities of Good Financial Information satisfy the economic decision-making needs of userswho need to make the best use of the financial re-

7. Qualitative characteristics of a financial sources available.management system require that the information it II. Reasonableness is another key concept inprovides be useful for decision-makers. For Bank asbess a an ot kem andept inprojects, this means useful to the Project Manager assessing a financial management system and its data.(borrower) and the TM (Bank). The purpose of a There must be a reasonable relationship between theBank project is to bring a concrete benefit to the proj- cost of obtaining accounting information and theect beneficiaries and to the country in general. Finan- benefit obtained. The benefits of a basic accountingcial information generated for project implementation system which controls and reports on costs can bemust support the project purpose. To know how much enormous and the outlay relatively low. The level ofhas been spent is of limited use unless one also knows aggregation of data in an accounting system will affecthow much of the project has been completed and what the cost of gathering and reporting it, as will the num-additional resources it will take to achieve the project ber and type of cost classifications. Both the level ofaditonals aggregation and the number of cost classifications andgoals. centers should be carefully designed to focus on areas

where costs are significantly controllable, material in

ANNEX I 45

their impact on the project, and useful in both planning * Degree of independence of the civil service fromand monitoring project performance. A system which politics;is too complex for an organization or project will rap * Position of the accounting and auditing professionidly incur costs with little marginal benefit. Its com- within the andplexity may result in a total break-down of the system within the culture; andbecause of inadequate personnel and materials to * Technical development of the accounting andmaintain it. auditing profession in the country.

12. Reasonableness also affects the design of 15. Organizational Risk There are someintemal controls. These controls should be designed basic characteristics of a good control environmentso there is a reasonable expectation that material within an organization. Of primary importance is thelosses of financial resources will not occur either presence of honest and capable employees. This canthrough error or theft and that the accounting records be assessed by considering compensation, education,reflect in all material aspects a true and fair presenta- and experience levels. Where compensation is inade-tion of the financial transactions which transpired. quate there may be strong incentives for the misappro-The controls required to achieve absolute assurance of priation of funds; this diversion. may be relativelythe above may hamper if not prevent the implementa- minor, such as the use of an official car for personaltion of the project. business or may involve more serious losses such as

13. Hence a balancing, or trade-off, between the diversion of cash, the loss of other tangible assets,qualitative characteristics is often necessary. Gener- or the sale of patronage for goods and services.ally the aim is to achieve an appropriate balance 16. The education and experience levels ofamong the characteristics in order to meet the objec- staff will have a major impact on the accuracy andtive of financial statements. The relative importance of completeness of the accounting records. Both shouldthe characteristics in different cases is a matter for the be strongly represented on the staff. Education with-professional judgment of a qualified accountant. out experience may result in confusion especially

Internal Controls when dealing with unusual transactions. An experi-enced person may have no problem with routine trans-

14. Country Risk Country risk deals with actions, but be unable to think through the correctthe overall environment for internal controls and accounting treatment for unusual transactions or newauditing within the country. Factors affecting country circumstances.risk are:

17. Another fundamental aspect of organiza-• Support of sound financial management and inter- tional control is clear delegation and segregation of

nal controls at the highest level of government; duties. No one person should have control over the

* Salary structure within the public sector and be- entire processing of any given transaction (segregationtween the public and private sectors. Public sec- of responsibilities). Authorizing a particular transac-tor salaries which are below a reasonable standard tion, such as the procurement of a fixed asset, shouldof living for the country often contribute to the ac- be kept separate from recording the transaction, whichceptance of corrupt practices as a means of sup- in turn should be kept separate from maintainingplementing income. Additionally, wide discrep- physical custody of the asset. If all three functions areancies between private and public sector salary fulfilled by three separate individuals then the diver-scales contributes to a migration of trained and sion of financial resources requires collusion betweenqualified staff to the private sector; two or more persons--making it more unlikely and

riskier. However, executive override and/or collusion* Historical and cultural support for a strong civil can circumvent even the strongest internal control.

service ethic; This is why internal and independent audit is impor-tant.

46 ANNEx I

is one of the best and simplest internal control mecha-nisms.

.Sampk. Internal C:ontrolstit; : t ti;ti:0000000;21. Physical control over assets is another

Authoriation of Epenses: Expense should 1be basic interal control principle. A limi,ted number oftauthoized by:-a* desiated peron in:aa tdepartment- persons should have access to the assets, and respon-

generally the hiad of the department. :Accounting sibility for their protection should be clearly indicated.personnel: should not authonrze expense except for Most funds should be in a bank account but someaccountilg, operating cash may be kept in a locked safe. In bothfPre-numbered f lDocuients.$ 0Pre-nbe:ring- Xcon*oli cases a minimum number of persons should be able todocument. (especially.checks,.purchase : . sign checks and have access to the safe. Inventorycash; receipts)and helps; :-assure that unau.ized should be secured under the custody of one person attransactions do not take place.t; For Xexamtple, by: usingt any given time. Blank checks should be locked safelypre-ered.cash receipts and by informing the pub-00 away. All of these techniques are designed to protectlic that they should ;get a treceipt, it makes it harderbfor the organization's assets against unauthorized use.a cashier to pocket money; received from customers. 22. Independent verification is the final prin-

.. EE EEV:. ciple of good internal control. This means that theperson charged with reconciling the monthly bank

18. Financial regulations setting authority statement should be someone who is not involved withlimits, and clear procedures for the processing of the receipt of disbursement of cash. By reconciling thetransactions are other important aspects of a good accounting records to the bank's records any discrep-internal control environment. Documented procedures ancy can be investigated. Because the person has nohelp assure a consistency in recording and classifying access to cash it is doubtful that there will be anythe financial transactions. A Chart of Accounts is the incentive to cover up any discrepancies which mightprimary tool for achieving consistency in account be evidence of theft. In regard to fixed assets, periodicclassification. Written procedural manuals help as- physical counting of assets on hand and then compar-sure that new employees follow the same guidelines. ing the results with the accounting records provides anManuals should not be unduly detailed nor cumber- independent verification. Again the person doing thesome or they will be ignored. Many computer-based inventory cannot also be responsible for either theaccounting systems also enhance consistent accounting physical custody of the inventory or recording inven-treatrnent. tory transactions in the accounting records.

19. Accounting documents filed in logical 23. One of the key indicators of a good inter-sequence which support financial reports help estab- nal control environment is accounting records whichlish a clear audit trail and provide feedback from other are both accurate and up-to-date. Where accounting isparties regarding the accuracy of the financial reports. in arrears, internal controls are often weak if only

because there is no feedback on the utilization of fi-20. A key concept in financial reporting is that nancial resources through financial reporting. Addi-of responsibility reporting, where a manager can be tionally, under pressure to catch up, internal controlscalled upon to explain a particular cost and attest to its may be cast aside or circumvented. A summary ma-validity and relate it to physical performance. A trix of some important areas to be considered whenbudget report comparing actual to projected expenses, reviewing Accounting Standards is shown asreviewed by the manager in charge (as well as others) Annex I -1.

ANNEX I-1 47

REVIEW OF ACCOUNTING STANDARDS

WHAT HOW TO ASSESS ISSUES

Accounting Standards

Guidelines which specify the account- 1. Determine standards used, par- 1. Standards used by govem-ing treatment for particular financial ticularly in regards to important ment or quasi-governmenttransactions Used to ensure compa- costs or financial areas. entities may be dictated byrability, consistency, and complete- 2. ComparetoIASCstandards. law. Needed changes forness for the financial records. 2 good management of the

3. Deternine the impact of differ- project may require changesences on project reporting. in the law which can be a

lengthy process.

2. Deviations from L4SCStandards must be disclosedin project financial reportsand/or audits.

Quality of Financial Information

Good financial information is timely, Determine if financial information 1. If part of larger agency, itrelevant, and reliable. currently produced by organization may be difficult to segregate

is timely (When were the last finan- the financial informationcial reports issued?), relevant (Do pertaining to the implement-the Accounts correspond to budget ing organization.accounts? Does the information 2. Entity accounts may haveprovided relate to project activities?) very little correspondence toand reliable (Has information been the cost structure of theindependently audited, and what was project and hence financialthe result?). infornation would have lit-

tle value.

3. Centralized accounting maycause delays in financial re-porting and informnation tobe less relevant.

48 ANNEX I-1

REVIEW OF ACCOUNTING STANDARDS

WJL4T HOW TO ASSESS ISSUES

Internal Control

Internal control helps ensure Determine control systems. Micro-controls focused onthe resources are safeguarded .Who does fance f r to? form and not substanee canand financial information is lead to loss of control be-complete and accurate. * Is that person independent of manage- cause agency has insufficient

ment or is there other means of inde- resources to maintain thependent verification of records such as system and those resourcesan audit? used do not focus on the

* What steps are required to process reasonability of the costs,payment? only their allowability.

* Is one person in charge of generatingthe invoice, recording it, and paying it?

Country Risk Review country assessment if available. Problems associated with

. What is reputation of civil service country risk will probablywithin country? Are salaries sufficient? require longer-term solutions

which probably cannot be* Contact professional groups. How addressed within the scope of

strong is accounting/auditing profession the project. Project-specificwithin country? controls such as special units

and outside consultants maybe required to ensure ade-quate control over resources.

ANNEX I-1 49

REVIEW OF ACCOUNTING STANDARDS

WHAT HOW TO ASSESS ISSUES

Organizational Risk 1) Review staffing levels, filled and unfilled posi- Restrictions on civil-- Honest and capa- tions. service compensation,ble employees .I t at least one ma d enough recruitment, and firing

. .. , . . . . ~~~~may adversely affect staffcredentials and experience in accounting to make quality.good judgments on the production of financial in-formation?

* Are there skilled staff for each of the primaryfunctions of the financial management system?

2) Review staff retention, recruitment, and trainingopportunities.

* What is the staff turnover rate?

* Does the recruitment process attract and screenfor qualified applications?

* What are the training opportunities and howfrequently are staff trained?

* Is there an adequate performnance review proc-ess?

50 ANNEX I-1

REVIEW OF ACCOUNTING STANDARDS

WHA T HOW TO ASSESS ISSUES

Organizational * Review financial procedures. Organizations which are smallRisk - Segrega- may not have sufficient em-tion and delegation a Would collusion be required between two or ployees to provide for ade-of duties more employees for theft to occur unde- quate segregation of duties.

tected?

* Are duties rotated either because of vaca-tions or as a part of a general staffing pat-tem?

Organizational Review written procedures. Procedures within governmentRisk -- Clear pro- organizations are often out-of-ceduTes * Are there writtcedures and do they date with modem financial

match actual procedures? management. However, their

* Do the prescribed account classifications replacement may not be asprovide adequate control over expenses es- practical within the scope ofpecially in relation to the project? the project. Damage to inter-

nal controls can occur if oldprocedures are discarded be-fore new ones are thought outand developed.

Organizational Review physical control.Risk -- Physical * Is an annual inventory conducted of equip-

control ment and other physical assets?

* Who has access to cash, equipment andother assets?

ANNEX I-1 51

REVIEW OF ACCOUNTING STANDARDS

WHAT HOW TO ASSESS ISSUES

Organizational Risk 1) Review prior audits, external or internal. 1) When accounting records are-- Independent veri- . . . . . behind, independent verifica-fication * Was thea uie tion is often pushed aside and

any way adverse? either done late or not at all.2) Review internal documents such as bank 2) Statements from outside or-

statements, inventories, etc. ganizations can also be late,

* Does a separate entity (bank or government especially if they originateagency) report on cash transactions inde- from a centralized agency.pendent of the records of the organization?

* Are these reports reconciled to the entity'srecords by a staff person not directly asso-ciated with the transactions?

Project Types

There are three basic 1) Revenue earning projects: 1) The implementing organiza-project types, reve- Dte . viability . tion may have non-revenuenue earming, non- .le oanalyvia of pndeproa mandates which interfere withrevenue earming, and aewhol through anal o s d financial decisions and mayadjustment opera- lack sufficient autonomy fromtions. * Determine independence of entity via exami- the public sector to tailor fi-

nation of legal documents and enquiries. nancial systems to its needs.

2) Non-revenue earning projects: 2) In transitional economies, it

* Determine how financial management of may be difficult to determineproject will fit into the overall management boundaries of enterprise.of the implementing agency. 3) Sector differences will affect

emphasis of financial man-3) Adjustment operations - See Annex III. emntassessment.

agement assessment.* Determine means by which borrower will

ensure that disbursements are made only foritems on the positive list or conversely, thatno disbursements are made for items on thenegative.

52 ANNEX 1-1

REVIEW OF ACCOUNTING STANDARDS

WHA T HOW TO ASSESS ISSUES

Availability and Quality ofAuditors

Audits are required for Bank Groundwork for selection of I) Auditing expertise maycompliance with regulations auditors should be done prior to be scarce and requireand also provide independ- project implementation. significant resources toent verification of reason- find satisfactory solution.ableness of interim financial 2) Public sector auditorsreports. may have jurisdiction.

may lack expertise.

ANNEX II 53

SUMMARY OF INTERNATIONAL ACCOUNTING STANDARDSOF IASC

L4S I - Disclosure ofAccounting Policies value, the profit or loss for the period should be

All significant accounting policies which have been charged with the difference. Disclosure is required foradopted in the preparation and presentation of finan- the main categories of inventories.cial statements need to be disclosed as an integral part LAS 3 - Consolidated Financial Statementsof the finacial statements. Superseded by IAS 27 and IAS 28.

Exception: following fundamental accounting as- S 4- Depreciation Accountingsumptions of going concern, consistency, and accrualneed not be disclosed, but if a fundamental accounting The depreciable amount of a depreciable asset shouldassumption is not followed, the fact should be dis- be allocated by using a systematic depreciation methodclosed, together with reasons. to each accounting period during the useful life of theChanges in accounting policy which have a material asset. The depreciation method selected should not be

changed from period to period. If depreciation methodshould be disclosed, together with reasons. changed, the reason and quantified effect of the change

should be disclosed in the period of adoption ofLAS2 - Valuation and Presentation of Inventories in change. Factors to be considered for estimating thethe context of the Historical Cost System useful life of period are expected physical wear and

Inventories should be valued at the lower of historical tear, obsolescence, and legal or other limits on use ofcost and net realizable value. Such valuation should be the assets. Useful life estimates for each asset ordone itern by item or by group of similar items. group of assets should be periodically reviewed, and

any sigrificant change should be disclosed. For eachGenerally FIFO or weighted cost approach should be class of assets the depreciation method, the useful livesused to ascertain historical costs of inventories. Ex- or the depreciation rates, the total depreciation alloca-ception: tion for the period, the gross amount of depreciable

1) Inventories which are specifically identifiable or asset, and accumulated depreciation should be dis-not ordinarily interchangeable may be valued by closed.specific identification of individual costs, and L4S 5 - Information to be Disclosed in the Financial

2) LIFO may be used, provided that the difference Statementsbetween such valuation and Minimum disclosure requirements set out. Divided into

(a) the lower of FIFO (or weighted cost approach) and general and specific disclosures as follows:net realizable value, or * all material information, and

(b) the lower of current costs and net realizable value, * corresponding figures for preceding period.is disclosed.

Major categories of specific disclosures for BalanceEstimates of net realizable value should be based on Sheet are:general market prices rather than on temporary fluc-tuations in prices. Exception : Net realizable value of * Long Term Assets,: Separate disclosure requiredfirmn sales should be based on contract value. When for property, plant, and equipment, and other long-inventories are written down to their net realizable term assets.

54 ANNEX II

* Current Assets: Separate disclosure required for Flow Statement is detailed in the statement. The maincash, marketable securities and other short term in- categories under which movements of cash needs to bevestments, receivables, and inventories. shown are cash flow from:

* Long-Term Liabilities (net of portion repayable * Operating Activitieswithin one year) : Separate disclosure required for n a F secured loans, unsecured loans, intercompany loans, * Investmg and Fmancmg Activities,and loans from associated companies. * Foreign Currency,

* Current Liabilities : Separate disclosure required * Extraordinary items,for Bank loans & overdrafts, current portion of long- .Interest and Dividends,term liabilities, payables, and other liabilities andprovisions. * Taxes on Income,

* Shareholders' Interest : Separate disclosure re- * Acquisitions and Disposal of Subsidiaries andquired for Share Capital and other equity. Other business units, and

Disclosures should also be made for restriction on * Non-cash transactions.asset titles, security given against liabilities, method Further components of cash and cash equivalentsfor provision for pension and other liabilities, contin- ute opnnso ahadcs qiaetgent assets and liabilities, and amounts committed for should be disclosed and reconciliation presented be-futures cap expenditue. tween the amounts in the cash flow statement and

equivalent items reported in the balance sheet.Major categories of specific disclosures for Income AS 8 - Unusual and Prior Period Items andStatement are : Changes in Accounting Policies

Sales or other operating revenue, Any prior period items and adjustments resulting from* depreciation, changes in accounting policies should either be re-

interest income, ported by adjusting the opening balance of retainedinmterest mcome,earnings in the financial statements (and amending the

* income from investments, comparative prior year information presented) or ad-justed against current income with separate disclosure.

- interest expense,GCorrections resulting out of a change in the accounting* taxes on income, estimate should be adjusted against current income as

an ordinary item in the period of change and in future* unusual charges, periods if the change effects those periods. Any mate-

* unusual credits, rial effect should be quantified and disclosed sepa-

* significant intercompany transactions, and rately.uS 9 - Accounting for Research and Development

* net income. Costs

Guidance given on identifying Research and Develop-LAS 6 - Accounting Responses to Changing Prices ment costs incurred in house or contracted from others.

Research and Development costs should be expensedSuperseded by IAS 15. unless all of the following criteria are satisfied, then

they should be deferred:

uAS 7- Cash Flow Statements * the product or process is clearly defined and the

Requires preparation of Cash Flow Statement for all associated costs are clearly identifiable,enterprises and including it as part of the financial * the technical feasibility of the product or processstatements. Procedure for preparation of the Cash has been demonstrated,

ANNEX II 55

* the enterprise will produce and market or use the MS 13 - Presentation of Current Assets and Cur-product or process, rent Liabilities

* clear indication exists of the future market poten- If an enterprise presents current assets and currenttial or usefulness to the enterprise, and liabilities separately from other assets and liabilities,

then the standard is applicable. The standard sets out* resources available to complete the project. items to be considered as current assets and current

Allocation of deferred Research and Development liabilities, and sets out presentation and disclosurecosts to future periods should be done on a systematic requirements for such assets and liabilities.basis. The total Research and Development costs, MS 14 - Reporting Financial Information by Seg-including any movement, along with amortization of mentthe costs should be disclosed together with the basis ofallocation. This standard requires segment information disclosure

for publicly traded enterprises and economically sig-4S 10 - Contingencies and Events Occurring after nificant industries, including subsidiaries. Disclosures

the Balance Sheet Date required include bifurcation by industry and geo-

Guidance given to identify contingencies and events graphical segments.occurring after the Balance Sheet date. MS 15 - Information Reflecting the Effects of

The existence of contingent loss should be disclosed in Changing Pricesthe financial statements unless it is remote; contingent The statement applies to enterprises whose revenues,gains should be disclosed if it is probable that gain will profits, assets or employment are significant in thebe realized. The value of assets and liabilities should economic environment in which they operate. Thebe adjusted for events after balance sheet date that standards detail two acceptable methods, viz., Generaleffect the values as of the balance sheet date. Other Purchasing Power and Current Cost Approach. Theevents after balance sheet date that are significant disclosures required should be as a supplemental in-should be disclosed for the user to make proper formation to the financial statements.evaluations. The nature of the event or contingencywith its estimated financial effect should be disclosed. MS 16 - Accounting for Property, Plant andFor contingencies the uncertain factors should also be Equipmentdisclosed. The definition of property, plant and equipment has

MS 11 - Accountingfor Construction Contracts been set out under the standard. The purchase price,any improvement costs, and any costs directly attrib-

The percentage of completion method or the completed utable to bringing the costs to its working condition,contract method should be used in accounting for con- but excluding any general repair and maintenancestruction contracts. The standard gives guidelines for costs, should be included in the cost of the asset. Costs(i) usage of both the methods and (ii) disclosures re- of self-constructed property, plant and equipmentquired for such contracts. should include specific costs directly related to the

MS 12 - Accountingfor Taxes on Income specific asset and should not include any cost ineffi-ciencies. Property, plant and equipment acquired on

The expense on tax should be determined by tax effect exchange should be priced at book value of similaraccounting, using either deferral or liability methods. assets, or at fair value, when similar assets is notTax effect accounting considers taxes as an expense to owned by the enterprise. If their is a permanent im-accrue income, and thus taxes should be accrued mi the pairment to any item or group of items, so that thesame period as the revenue and expenses to which they recoverable amount falls below the net carrying value,relate to. The standard has laid down disclosure re- then the net carrying value should be reduced to the netquirements for tax accounting. recoverable amount.

56 ANNEX II

For revalued property, plant and equipment, any up- IAS 21 - Accounting for the Effects of Changes inward revaluation should be credited to shareholders Foreign Exchange Ratesinterest directly and not credited to income statement. Transactions in foreign currencies should be recordedAny decrease due to downward revaluation of prop- at the reporting currency of the enterprise, and reval-erty, plant and equipment, should be charged to - ued at the closing exchange rate for reporting purposescome, except the amount of downward revaluation (exception being forward exchange contracts, whererelated to any earlier revaluation should be charged to special accounting treatment is given). Exchange dif-shareholders interest. ferences arising out of such treatment should be rec-Disclosure required over and above LAS 4 & 5 are ognized in the income for the period (exception beingmethods used for determining gross value of property, in case of certain long-term items, exchange differ-plant and equipment, and revaluation method used for ences can be recognized to income of current and fu-any revaluations. ture periods on a systematic basis).Procedures have

S 1 7 - Accounting for Leases been laid out for translation of financial statements ofa foreign entity and for financial statements of foreign

The standard discuses lease accounting under two sub operations of an enterprise. Disclosure requirementscategories: finance leases and operational leases, and has been specified.included are discussions on sale and leaseback trans- AS 22 - Accountingfor Business Combinationsactions. Disclosure requirements have been set outfor both the lessor and lessee. Business combinations should generally be accountedrS 18- Revenue Recognition for under the purchase method, exception in rare cases

being the pooling of interests method. Both theseRevenue should be recognized if it meets certain stan- methods are discussed in the standard. Disclosuredards of transfer of ownership, uncertainty, collecti- requirements have also been set out.bility, and measurability criterions, as set out in thestandard. Disclosure requirements include disclosuresas to any postponement of any revenue recognition. IAS 23 - Capitalization of Borrowing Costs

L4S 19 - Accounting for Retirement Benefits in the Circumstances when borrowing costs can be capital-Financial Statements of Employers ized when they meet certain criteria, has been dis-The standard sets accounting requirements for retire- cussed. Generally, during the time an asset is being

. > > . - . . . . ~~~made ready for use or sale, any borrowing costs in-ment benefits for defined benefit plans and defined y y gcontribution plans. Minimum disclosure requirements curred can be capitalized. Borrowing costs capitalizedhave also been set out. should be disclosed.

I4S 20 - Accounting for Government Grants and lS 24-Related Party DisclosuresDisclosures of Government Assistance Disclosure required for related party transactions if

Government grants related to assets, including fair they meet certain criteria. Related party transactionsvalue of non monetary grants, should be disclosed in have been defined.the financial statements either as a deduction from the LMS 25 - Accountingfor Investmentscarrying value of the assets, or, as a deferred income. Investments can either be accounted for as short-termOther goverment grants related to assets, including (current) or long-term. For short-term investments, thefair value of non monetary grants, should be recog-

nized over the periods in which the related costs occur carr vl sheor market value. For long-term rvest-and are accounted in the income statement of the en- ments, the carrying value should either be cost, reval-terprise. Disclosures required for accounting policy, ued amounts, or, in case of marketable equity securi-nature and extent of grant, and any unfulfilled condi- ties the lower of costs or market value.tions for the grant.

ANNEX II 57

Investment properties can either be accounted for in IAS 29 - Financial Reporting in Hyperinflationaccordance with IAS 16, with depreciation, in accor- Economies

dance with IAS 4, being charged to the income state- The financial statements should be restated at measur-ment, or, investmnent properties can be accounted forIaent, or, investmentm ing unuts as applicable on the balance sheet date. The

resulting gain and loss in the net monetary positionAccounting for changes in carrying value of invest- should be included in net income and separately dis-ments, transfers and disposals has been discussed. closed. Disclosures are required for restatement of theDisclosure requirements has been set out in the stan- financial statement figures, the basis of measuringdard. applied to the financial statements, and the identity of

L4S 26 - Accounting and Reporting by Retirement the current measuring unit or price index.Benefit Plans lAS 30 - Disclosures in the Financial Statements of

This standard sets out reporting requirements for the Banks and Similar Financial Institutionsplans, and should be distinguished from LAS 19, which The disclosure requirements set out in this standarddiscusses reporting requirements in the financial are in addition to those set out in other standards. Re-statements of employers having such plans. quired disclosure has been discussed under (i) Income

U4S 27 - Consolidated Financial Statements and Statement, (ii) Balance Sheet, (iii) Contingencies andAccountingfor Investments in Subsidiaries Commitments including Off Balance Sheet Items, (iv)

Maturities of Assets and Liabilities, (v) Concentra-Preparation and presentation of consolidated financial tions of Assets and Liabilities, (vi) Losses on Loansstatements for a group of enterprises under the control and Advances, (vii) General Banking Risks, and (viii)of a parent is discussed in the standard. Assets Pledged as Security.

MAS 28- Accountingfor Investments in Associates IAS 31 - Financial Reporting of Interest in Joint

Investment in associated companies should be ac- Venturescounted for by using the equity method; exceptions are Disclosure requirements for interest in joint venturesnoted in the standard. Disclosure requirements have has been discussed separately for jointly controlledalso been set out. operations, and jointly controlled assets. Reporting

requirements for an enterprise have also been dis-cussed as a venturer and as an investor.

58 ANNEX II

NOTES

ANN1X III 59

ACCOUNTING AND AUDIT ARRANGEMENTS FORADJUSTMENT OPERATIONS

Arrangements Required1. Ensure that the Borrower introduces arrangements to record the Customs Certificates, relat-ing to the underlying import documents, to be used to support Bank disbursements under the loan. (TheCustoms Certificate will include the supplier name, supplying country, value, description of goods, theimporter and the date of importation.)

2. The arrangements should ensure that:

a. the goods are eligible based on a positive or negative list.

b. the goods are supplied by a member country.

c. the date of importation is available to determine eligibility.

3. Ensure that arrangements are in place to retain, with easy access, the Customs Certificatesfor at least one year after the submission of the related audit report.

Audit Required and Opinion1. Ascertain the adequacy of the procedures used to prepare customs or similar certificates.

2. Examine the customs certificates on which the Bank's disbursements have been used.

3. Issue an opinion as to the reliability of the procedures applying in verifying or issuing thecustoms certificates in support of the Bank's disbursements.

60 ANNEX III

NOTES

ANNEX IV 61

REVIEWS OF FINANCIAL MANAGEMENT ANDACCOUNTING SYSTEMS FOR ENTITIES IMPLEMENTING

REVENUE EARNING PROJECTS

1. Most revenue earning entities are autono- * Financial staff: management, competence andmous, or have a high degree of autonomy, with powers trainingto determine financial policies and the design and op- The extent of the review required for each of the aboveeration of financial management and accounting sys- is discussed in the following paragraphs. In general,tems. Some state-owned enterprises, on the other band, staff should ensure that each review is adequate tomay be required to confomi to a national accounting advise the Bank prior to negotiations for a loan on theplan. The following is a checklist of items to be con- adequacy of financial management and accountingsidered when reviewing these arrangements. The re-views should take place early as possible in the project iformation.cycle of identification, preparation, preappraisal orappraisal. Statutory or General Legal Requirements

2. Laws, government regulations and/or rules* Statutory requirements for accounting and finan- under which an entity operates should be examined,

cial reporting and the entity's observance or nonobservance of themshould be identified, so as to determine any possible

enSt o ntity effects on the project early in the project cycle, becauseerinment control ..introducing new legislation or amending any existing

• Accounting policies and practices in force laws may require considerable time. Legal Depart-ment's advice should be sought if it appears that legis-

- Management and control systemslaiecngsmybrqued lative changes may be required.* Centralized or decentralized management and ac-

counting systems3. Statutory powers or requirements may

* Financial regulations relate directly to the entity's operations (e.g., power to

* Financial management and accounting fix tariffs and levy charges for products or services) orthey may define criteria within which an entity may

(i) Management accounting operate (e.g., banking laws which define borrow-

(ii) Corporate planning, budgeting and budget- ing/lending limits). Detailed financial or accountingary control requirements may not be part of specific legislation

...i) F.Mancial accounting relating to the entity or in the entity's "charter" butmay be addressed in general laws to which the

(iv) Cost accounting "charter" may refer. Particular attention should bepaid to concession agreements, which are generallyfound in utilities in some French-speaking countries.

(vi) Data processing Under this system, which requires special accountingtreatment, a government may give an entity the right,

62 ANNEx IV

for a fixed term, to operate, manage and develop the Accounting Policies and Practices in Force in theservice and to recover its investments at the end of the Entityconcession. If existing statutory requirements may The acceptability of the accounting poli-inhibit normal reporting of project performance, this cies, including standards of financial reporting andshould be discussed with the government and the bor- general accounting practices in force in the projectrower, so as either to obtain changes in the statutes or entity, should be examined against the background of

to redesign the project's reporting requirements. the related chapter in the handbook on financial report-

mg and budgeting compliance. If the policies do not

Status of an Entity conforn to accepted international or national standardsand practices, the borrower should be informed of any

4. In order to determine a borrower's author- required modifications and the latest date for their in-ity and ability to formulate and implement financial troduction, e.g., before project implementation com-policy, and to design and install financial management mences, or by a date to be specified in a covenant. Onsystems, and thereby indirectly to determine how much the other hand, if only minor items are in dispute (e.g.,time may be needed for making changes, it may be methods of apportionment of overheads or valuation ofnecessary to establish the extent of its autonomy and/or inventories), as long as these variances are revealed incontrol by higher authorities. The following questions the annual financial statements and the auditor's re-should be resolved: port, their continued use may be acceptable.

(a) Is it fully autonomous (for example, can it legally Management and Controlexist in its own right by the laws of the country 6. To judge the effectiveness of an organiza-

without government control)? tional structure, the following should be reviewed to

(b) Can it contract, and sue and be sued in its own judge their suitability to support project implementa-name? tion and operation and the extent of their observance in

(c) Can it determine its own financial policies? practice:

(d) Is it government-controlled? If so, what is theextent of that control and influence on financial * By-laws of the entitypolicies and accounting requirements? * Executive orders (if any)

(e) Is there a specified code or chart of accounts?-- Statements of objectives and policies

(f) Is it a government agency? If so, does the entity'smanagement have any powers to decide financial * Organizational structure, including the reportingpolicy and accounting systems, or are these pre- level of the chief financial officerscribed by government? For example, there could * Intemal control and internal auditingbe separate accounting rules for parastatals.

* The need to furnish financial information on an(g) Is the project to be executed by a part only of an entity's performance to concemed parties within,

entity? and external to, the entity, and the extent of the

(h) Is it necessary or desirable to require a separation achievement of such dissemination.of accounts and/or funds for that part only, andwould such a step be feasible?

ANNEX IV 63

7. The impact of management and control systems with regard to the efficiency of centralized orsystems on the operation of the financial management decentralized operations. Key factors to be consideredand accounting systems should be examined by seeking are the competence of management, security, commu-answers to the following: nications, and the availability of trained staff.

(a) What is the background and experience of thosewho represent the finance function on the Board of FinancialRegulationsManagement?

9. These regulations are usually designed to(b) Who in management reports on financial perform- 9. Ths reuain ar sal eindt

(b) eWho ie m eenti' rneportso define the objectives of, and responsibilities within, afinancial management and accounting system. They

(c) Who reports on finance to the management? What may form part of Standing Orders or Operating Rulesis the status of this official? or be a preface or annex to a Manual of Accounting, or

(d) In what form and how frequently does management they may be restricted to limited definitions of budget-require and receive information about financial ary, accounting or interal auditing responsibilityperformance -- type of reports and distribution of within an entity. They may range from statutorysuch to various levels of management? Is it ade- regulations to financial managers' informal rules with

quate? no legal status, and should facilitate the examination ofthe financial management systems by defining their

(e) What are the control systems and linkages between structure and subsystems, and by designating respon-top management and financial management, and sibilities. Regulations, if any, should be reviewed forbetween other managers and the financial manag- their form and context, and for their observance. Nor-ers? mally, at the time of appraisal, the extent to which

(f) Do the answers to questions (a) through (e) above Financial Regulations satisfactorily address the follow-add up to a system acceptable to the Bank for ing should be examined:project implementation? If not, can they be (a) Basic financial policy with regard to revenues andamended in a timely manner to achieve project expenses

implementation? (b) Appropriation of surpluses/treatment of deficits

(c) Programming and budgeting, including me-Centralized and Decentralized Accounting Systems diumtlong-term investment planning

8. Large industrial and commercial organiza- (d) Budgetary controltions, governments, or large parastatals may operatecentralized financial management and accounting sys- tems, whereby all information generated at operational (f) Recording of assets and inventorieslevels (e.g., project sites) is transferred to a centrallocation for making payment to contractors, etc.; fordata processing; and for compilation of accounting (h) Depreciation rulesrecords. Delays and loss of data may result, which (i) Debt managementaffect, inter alia, prompt and accurate reporting. Con-versely, decentralized systems, which permit local fi- (j) Billing and collectionnancial operations, usually require more extensive (k) Write-offscontrols and more staff. Therefore, before recommend-ing changes to a borrower on project (and, where ap- (1) Bidding proceduresplicable, project entity) financial management and (m) Payment proceduresaccounting systems, it would be prudent to examine theadvantages and disadvantages of existing and proposed (n) Form and timing of financial statements and bal-

ance sheets

64 ANNEx IV

(o) Internal checks and controls Financial accounting

(p) Internal audit Payments

(q) External audit Costing, etc.

Banking operations

10. Regulations should also clearly define who Billingis responsible for their implementation. The provision Debt managementof new regulations or the improvement of existingregulations should preferably be sought before loan Inventoriesnegotiations. Technical assistance to help introduce or Finally, it should show established posts/salary levels,improve regulations and systems should be encour- and posts occupied and vacant.aged, where necessary, through the use of a freestanding project or a project component.

13. The borrower should be notified of anyconcerns about inadequacies, or changes required inthe management accounting system to achieve satisfac-

Management Accounting System tory to project implementation.

11. A management accounting system shouldcollect and promptly report financial and related statis- Corporate Planning, Budgeting and Budgetarytical information about an entity's operations to the Cvarious management levels, supplying each level with ontrolthe necessary details at the appropriate times. It 14. Long-, medium- and short-term planningshould incorporate procedures for budgeting and fi- should be primary elements in financial management.nancial planning, record-keeping and reports, and cost Long- and medium-term plans are usually referred toaccounting (including cost control and analysis) for as corporate planning and require different planningrecording costs. Such a system, which is often best approaches, often characterized by "irolling program"illustrated in chart form, should also provide for ade- techniques, or 'indicative planning" only, compared toquate internal checks, controls and, if appropriate, the short-term budgeting and budgetary control proce-internal auditing. dures, which are normally based on annual plans. In

addition, examination of corporate planning andbudgeting systems adopted by an entity should focus

12. In the absence of a chart of a management on the emphasis placed on profit maximization com-accounting system, an organization chart of the entity's pared to routine expenditure and revenue control. An-structure should be obtained or drawn up. It should be swers to the following groups of questions may providesuitably amended to illustrate the areas of management an adequate overview of the corporate planning andserved, or to be served, by the management accounting budgetary systems:system. The chart should show, inter alia, the linkagesbetween the system and the management centers of theentity, and to a central organization, if the entity or (a) Characteristics of Planningsystem is a decentralized unit. The chart should also (i) is there overall corporate planning?show the main and subordinate activity areas, e.g.:

(ii) what is the time span of corporate plans?Controllership function

(iii) how are corporate plans expressed?Treasury function

(iv) are corporate plans summarized in financialProgramming and budgeting terms (pro forma annual financial statements

Cash collection and balance sheets)?

ANNEX IV 65

(v) are overall financial plans supported by ap- (ii) how does the accounting system serve con-propriate subsidiary budgets (revenues and trol in (i)?operating expenditures, capital expenditures, (iii) who prepares fiancial reports relating todebt-equity proposals)? performance, corporate plans and annual

(vi) what are the critical monitoring indicators in budgets?corporate plans? (iv) does the reporting system allow control and

variation of corporate plan execution by

(b) Responsibilitv for Planning functional managers? On a timely basis?With adequate information?

(i) who prepares and approves corporate plans (v) are adequate corrections made to corporateand annual budgets? ()aeaeut orcln aet oprt

plans and annual budgets on a timely basis?(ii) is there a review system for tariffs, prices By whom?

and changing mechanisms? (vi) what controls exist over contingencies?(iii) is there a review system for capital expendi-

tures?

(iv) do the corporate plans and annual budgets (e) Structure and Contents of Budgetsidentify specific managerial responsibilities (i) what is the analytical structure and degree offor implementation and review? detail of the annual budget?

(ii) is there a physical budget in addition to a fi-

(c) Timetables for Planning and Budgets nancial budget?

(i) what is the timetable for preparation and ap- (iii) what identification and form of presentationproval of corporate plans and annual budg- of capital and recurrent expenditures andets? revenues are in use?

(ii) does the timetable allow sufficient time for (iv) are line-item classifications objective orgeneration of all inputs and management re- subjective? .views of corporate plans and annual budgets (v) is a cash or accrual accounting system in(consider the extent of centraliza- use?tion/decentralization of the entity)? (vi) what period(s) of forecasting (month, year,

multiyear) are in use?

(iii) who prepares and controls these timetables?

(iv) are there sufficient time allowances and ar- (f) Bases for Forecastingrangements for preparation and incorpora- (i) what controls exist over contingencies?tion of revisions in corporate plans and an-nual budgets? (ii) are analytical supporting data used

(statistical analysis, financial ratios)?

(d) Control of Plans. Budgets and Performance 3 Objective classification is analysis by operational units(i) what is the system of control of actual per- or by output (e.g., for a power utility, generation,

formance vis-a-vis corporate plans and an- transmission, distribution, etc.). Subjective classifica-foralncudetvis?~-vs corporate plans and an-tion is analysis by basic inputs (e.g., salaries, wages,nual budgets? fuel, supplies).

66 ANNEx IV

(iii) are corresponding results or data for previ- mine the effectiveness of the accounting system withous and current years available? regard to (a) sound design and ability to respond to

(g) Cash Flow Budget project, and, where applicable, entity requirements and(b) the extent of compliance in practice with the

(i) how is the cash flow budget operated? manuals and codes. Updating of manuals or redevel-

(ii) who approves and executes it? opment of an ill-structured code system may need to beaddressed before or during project implementation.

(iii) how frequently is it prepared (daily, weekly,monthly, annually)?

(iv) who relates forecasts to actual position and 17. A financial accounting system should con-how regularly? sist of at least the following:

(v) can the cash flow budget override the mainbudget(s) (e.g., by stopping payments or by (a) a system of records or accounts of individualstopping excessive short-term borrowing)? transactions, sometimes referred to as books of

"prime entry," e.g., cash books;

15. The foregoing review should be used to (b) a self-balancing system of '"ontrol and total ac-judge the effectiveness of corporate planning and counts" derived from the totals of accounts in thebudgetary processes, and the degree to which changes books of prime entry, sometimes referred to as theshould be sought to improve their efficiency. In par- "general ledger;"ticular, it should be used to determine the borrower's (c) a system for making transfers and adjustmentsability to achieve controlled implementation of the between accounts, sometimes referred to as theproject and covenanted financial performance (e.g., "joumal."levying of taxes and charges), after taking account ofany constraints which may be imposed by superiorauthorities. Where possible, the borrower should be The individual transactions may be grouped into sepa-asked to remedy any deficiencies before the project rate accounts (or account books) for each category,begins. If extensive modifications are required, agree- such as cash, salaries and wages, purchases, loansment should be sought during negotiations, on what is received, etc. The general ledger should be the princi-to be done, the timetable for implementation, external pal source of information for financial statements andassistance requirements, and whether the improvements financial reporting. The foregoing is oversimplified,should form a project component (for example, a new but a preparation or appraisal mission should satisfybudgeting system). itself that in an existing entity these records at least can

be traced in some form. Many systems will use dataprocessing with possible difficulties in tracing the flow

Financial Accounting of entries. Reviews may require the use of specialists;

16. A borrower may use an Accounting Man- alternatively it may be sufficient to discuss the systemsual or a Procedures Manual, or both to prescribe flow with the internal and/or external auditors. On theregulations and responsibility for operating the ac- basis ofthese discussions, it should be possibleto de-counting system. The system flow, record keeping and ternine the suitability and quality of the system.authorization procedures for making amendments orcorrections are normally described in the latter manual, 18. The principle by which accounting entriestogether with machine accounting or computing proce- 18. she princinedb ich the booksdures, where applicable. A system may be based either are made should be determined. Ideally, the books ofan autonomous revenue earnig entity should beon an internally constructed coding system or on a a n a ordance with entry ahculnational Chart or Code of Accounts. Such a chart, or mamtained in accordance with double-enty accrualinternal coding system, and the manuals mentioned principles. A government entity's accounting systemabove, where available, should be reviewed to deter- that operates on a double-entry cash basis may be ac-

ANNEX IV 67

4~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

cepted, however, as long as the entity maintains sub- operations both in determining costs of services as wellsidiary records that make it possible to determine as costs of products, by providing early and measur-capital and current expenditure transactions, a cash able comparisons of performance against determinedflow and an analysis of commitments and receivables standards. It is preferable if the cost accounting is anwhere necessary, at the beginning and end of each fis- integral part of the financial accounting system so thatcal year. all inputs each system are mutually consistent. Costing

systems separate from the accounting system may ex-ist; in such cases, however, confirmation should be

19. In the absence of confirmatory evidence, obtained that adequate controls are used in each systeme.g., auditors' reports, limited checks should be made to reconcile the data.to establish that accounting records are kept up-to-date, with regular balancing (monthly, quarterly) andprovision of financial reports on predetermined dates, 21. A costing process may require a consider-by requesting and examining trial balances,5 the dates able degree of analysis to enable managers to controlon which they are taken, and the period covered by the all inputs to a production process. Staff should ensuretransactions. As a guide, a trial balance taken later that: (a) the entity is using its costing system to pro-than one month after the close of an accounting period6 vide valuable management information, (b) costs andmay be unsatisfactory. Selected items may be traced benefits are evaluated before recommending such afrom the annual financial statements through the ap- system and (c) the entity is capable of operation apropriate books of account (e.g., fixed assets to the costing system.assets register) (a) to confirm the statement entries and(b) to understand the information assembly and low inthe system. Internal Control and Internal Auditing

22. One of management's more important

Cost Accounting functions is the design and maintenance of internalcontrols to achieve accountability at all levels in an

20. Cost accounting systems may not be avail- entity. Typical elements of internal control shouldable or necessary in many project entities. Specialized include:costing systems may, however, offer substantial bene-fits to some projects or specified parts of some entities'

(a) enabling legislation

4 Simply defined, cash accounting records transactions (b) by-laws, standing ordersonly as cash is paid or received; in accrual accounting, (c) policies, objectivestransactions are recorded at the time expenses are in- (d) systems and procedurescurred or income earned.

In this context, a trial balance is a listing of all debit (e) organization structures providing for segregationand credit balances in a ledger system, used as an ini- of dutiestial test only to determine if a double entry system is (f) job descriptionsin balance. It is not a verification, because it cannotreveal certain types of errors. (g) planning and budgeting

6 An accounting period in this context is a period (one (h) accountingweek, one month, three months, etc.) chosen to allow (i) financial and physical performance reportsregular accounting control. It should not be confusedwith a fiscal year, which is usually a legal accounting (j) internal auditingperiod.

68 ANNEX IV

23. Sound management and effective internal (d) methods of remedying weak controls or creatingcontrol require the organizational independence of the them where there are none;operating, custodial and accounting departments. Op (e) verification of assets and liabilities.erating departments should not have any principal ac-counting or custodial functions, even though they maybe responsible for producing and recording initial or 26. An interal auditor should work within abasic data. Initiation and authorization of a transac- well-defined framework of programs and reportingtion, its recording and custody of the resulting asset requirements. If there Is a data processing installation,should be separated. Thus, receipts and disbursement tof funds should be divorced from accounting. A mate- computer pror change aamedmensare con-rials department should not have access to the principal sisten monret prevent iregularits. Toe -accounting records used for checking storekeeping in tent and effectvene internal eandintegrity and a production department should not com- cnt their associatedicosts may becreiewdpute its own costs. Normally, duties and responsibili- aanttose the extea audt; wto te rer,ties should be so segregated that no one person will a the exteamay be overlytepen on-hadl a trnato copetl frmbgnin.oed the external system may be overly expensive; con-

handle a trnato.opeeyfo einn oed versely the costs of an internal audit by permanent staffIf that division is not feasible, other protective prac- may be ch he at teoal audit or.

tices ust b devisd. Thse nea hcshls may be much higher that those of an extemal auditor.tices must be devised. These internal checks help es-tablish the reliability and integrity of the accountingrecords and information. Data Processing Systems

27. Two main features of the systems may24. While small entities have to rely on internal require examination:checks and controls, larger organizations should have (a) the effectiveness and security of existing systemssome form of internal audit. Internal auditing's unique and related equipment; androle consists of assessing how well the other controlelements work and the extent to which thev are relevant (b) any proposals by a borrower to install new equip-to the systems. In most entities, the internal auditor is ment and/or systems as part of a project. Complexalso expected to propose remedial action when called systems, may require the advice of a specialist.for. An internal audit unit consists of a person or a The first feature will require examination for thegroup reporting to the management -- if possible, inde- compatibility of the data processing system withpendently of the financial managers. Ideally, the inter- other elements of the financial accounting process,nal auditor should have as much freedom to decide on and any directly related activities of the borrower,his role and operations as the external auditor; other- e.g., inventory and experienced managerial, su-wise, his position may become untenable and be of pervisory accounting, bookkeeping, clerical andlittle use for assuring accountability. data processing staff. Well-run organizations have

professionals who specialize in staff selection andtraining arrangements. In a revenue earning entity,

25. Typical matters which intemal audit should there should be at least one senior manager in theappraise and report on to management include: system with financial experience and an accounting

background sufficient to enable him to make ade-quate judgments about staffing matters in the ac-

erational controls, and any needs for revision; cs > ~~~~~~~~~~counting/finance department(s).(b) the extent of compliance with prescribed policies,

plans and procedures;.c the reliability ofaccountingsystems,dataan28. Appraisal should include a review of staff

(c)itheeiabliy r of numbers and quality to ensure that these are appropri-financial reports; ate for the kinds of activity and output required. For

example: cash management (i.e., the treasury function)

ANNEX IV 69

should have staff who specialize in cash-flow forecast- review to judge whether employees are performinging, drawings from cash collection, bank deposit ar- satisfactorily. These programs may involve formalrangements and general cash stewardship. A control- training given before the position is occupied or on-the-lership function should have specific staff to address, job training or some combination of both. it may alsointer alia, financial planning and budgetary control be necessary to examine the quality of internal andgeneral and cost accounting' financial systems and external training programs to advise the borrowerprocedures; and data processing and management in- and/or the entity on the need for improvement or ex-formnation systems. pansion. Judgments on the effectiveness of hiring pro-

29. Recruitment procedures should be exam- cedures, the quality of existing staff, and on the qualityined for their suitability. There should be an adequate of training programs should be reflected in a mission'semployee training program and periodic personnel report on the financial management system.

70 ANNEX IV

NOTES

ANNEX V 71

REVIEWS OF FINANCIAL MANAGEMENT ANDACCOUNTING SYSTEMS FOR ENTITIES IMPLEMENTING

NON-REVENUE EARNING PROJECTS

1. Most non-revenue earning projects will be ary and accounting only when they, and the govern-implemented by government agencies. The following ment, are fully satisfied that the new procedures will atchecklist is therefore designed mainly to promote ex- least maintain and, wherever possible, improve ac-amination of typical government budgeting, accounting countability and facilitate project implementation.and internal control systems, and should be read in Dismantling existing checks and controls in systems,conjunction with Annex IV, which contains detailed without substituting adequate new measures and with-recommendations for reviews which are common to out the trained staff to irnplement them, can have seri-both revenue earning and non-revenue earning projects. ous consequences.

* Government accounting 3. Governments undertake a wide range of• Status of entity services, often as the largest collectors and users of

funds in a country. This requires sound financial sys-- Financial regulations tems within government, with mandated methods of

budgeting and accounting. These are usually estab-* Financial management and accounting: lished on a "cash" basis, however, in contrast to the

accruals system usually adopted in commercial prac-tice. When a project entity forms part of a governmentadministration; a government's financial management

(ii) Financial systems and procedures and accounting practices would normally apply to it,

(ill) Financial accounting and costing unless agreement can be reached on specialized ac-counting arrangements for a project, and, where appli-

(iv) Internal control cable, the project entity.

Basic systems to establish and maintain accountabil- 4. The location of responsibility of govem-ity ment accounting services varies among countries. In

Government Accounting some, an accountant-general or comptroller may beresponsible; in others, the Ministry of Finance may

2. Many non-revenue earning projects will be assume jurisdiction; in others, it may be difficult toexecuted by entities that are part of a government, identify responsibility -- the systems having been es-government-controlled, or government-sponsored. A tablished under earlier regimes, with no continuity offull understanding of the principles and operation of responsibility. Determination of this responsibilityeach budgetary and accounting system involved in such may be necessary if accounting changes are required tocases should be obtained before a project is imple- implement a project, or to improve a project entity'smented. Government budgetary and accounting sys- operations.tems may include seemingly excessive bureaucraticpre-payment measures, repetitive bookkeeping main-tained at different level or locations. performance de- 5. The senior financial staff of a recognizedlays caused by apparent lack of delegated responsibil- government accounting service may hold responsibleity, and "old-fashioned" rules and regulations. Staff roles (e.g., accountants-general), from which they canare urged to seek improvements in government budget- influence the development and maintenance of sound

72 ANNEX V

accounting practices. The existence of these services FinancialRegulationscannot, however, be taken to imply that government 8. Any existing regulations on the operation ofpractices are automatically sound and acceptable for financial management and accounting systems (Annexprospective project entities. Prescribed government IV, para 9) should be reviewed to ensure their com-practices may have been unofficially modified at the . ,local level because they are too detailed, misunderstood pati th thBns requireme Any amend-or, ilsprie.' ments to regulations should be made only to strengthenor ill-supervised.I an entity's internal systems, in addition to supporting

the project.

6. Staff should familiarize themselves with theprecise roles which responsible officials play in con- Financial Management and Accountingtrolling and monitoring the performance of accountingin government before seeking their assistance on spe-cific project matters. The term "accountant" in gov- Budgeting and Budgetary Controlemmnent often has a very different meaning or interpre-tation from "public accountant" in the private sector. 9. The reviews relating to annual budgets andAn accountant-general may be a designation for an budgetary control recommended in Annex IV are alsoofficial post, whose incumbent may have little or no appropriate as far as they apply to a non-revenueknowledge of finance and accounting. earning project. Experience with these projects, how-

ever, emphasizes the importance of determining thebudgetary system that will apply during the project

Status of the Entity period. At appraisal, staff should be satisfied that theyfully understand the system and that they have obtained7. The status of an entity should be estab- (o ca obana.eoitos gemn n

lished to detenmine, in particular, its ability to:

(a) budget for and obtain budget approvals for re-quired funds; (a) The budget procedures to be used by an entity and

by controlling institutions giving higher level ap-(b) furnish funds promptly for project implementation provals which ill ensure timely and adequate

and operation and maintenance; p c l aproject implementation;

(c) institute, operate or amend financial accounting (b) the timing of all budget framing and approval op-systems to respond to Bank requirements; erations to ensure annual allocation and release of

(d) provide the necessary staff, with requisite skills, funds; andfor project implementation; (c) the timing of release of counterpart funds provided

(e) institute satisfactory internal and external controls in budgets.and audit arrangements.

To the extent that any of the above requirements is 10. If a borrower's fiscal year in which theoutside the entity's jurisdiction, staff should conduct project is due to begin starts before the date of loanthe examination with the responsible institution(s) to effectiveness, it is essential to ensure that the budgetensure either their agreement to fulfill the requirements for project start-up (including the costs of operating thepromptly or to delegate to the entity the right(s) to project entity and its accounting system, and of engag-implement them during the project period. ing auditors) is available for the initial fiscal year. The

availability of such funds should be mentioned in theSAR. If there are no budget provisions the SARshould describe how the project will be funded pendingbudget authorization.

ANNEX V 73

Financial Accounting and Costing

(c) the basis for all types of claims for disbursement

I1. It is preferable that an entity maintain at of loans.least the records specified in Annex IV, para. 16, but in Item (a) is particularly important in government ac-some accounting systems (particularly those of gov- counting, where asset records covering a period ofermnents) many such records -- particularly control years are not often maintained.accounts - may not be maintained. Typical govern-ment accounts may reflect only budget heads for serv-ices. A project or project component may utilize only 14. The Bank may agree to finance incrementalone line in an expenditure "block," or it may even be recurrent expenditures, i.e., expenditures above a par-contained with other items in a one-line entry. Unless ticular level established at an agreed time with a bor-staff make early requests for more detailed reporting, rower. Government accounting systems may not dis-project subcomponent expenditures may be impossible tinguish between base and incremental expenditures,to control when the project starts. particularly in the case of salaries, wages and related

overheads. It is therefore necessary to agree with aborrower on adequate means of identifying both budg-

12. When a government budgetary and ac- etary provisions and accounting data that can providecounting system is to be used, it is useful to decide the for and report on these expenditures. The followingdetails of project expenditures for which regular report- steps could be taken: establishing appropriate account-ing will be required, and whether these can be intro- ing for special heads of expenditure, subcodes, subsys-duced into the accounting or costing system without tems and special reports; agreeing on accounting fordifficulty. If they cannot, then the borrower and/or the only the main heads of expenditure concerned and de-entity should be asked to establish a subsystem to meet veloping a formula for periodic application to totalthe Bank's accounting and financial reporting require- expenditures under those budget heads to obtain a rea-ments. An entity should be encouraged to use the re- sonable apportionment of incremental expenditures;sultant totals of a subsystem to support or reconcile the and continuously revising base and incremental costs.data in the standard system; i.e. the subsystem shouldbecome an integral costing system of the main account-ing system. Internal Control

15. Any system to support a project shouldinclude the basic control measures mentioned in Annex

13.leo chevr systie ans nyuses t ms e ' IV. If the intemal checks and control systems are notsatisfactory, and the effectiveness of the external audit

(a) project costs by components agreed on between is not established, then the project should not be al-staff and the entity for each project; lowed to proceed until the borrower and/or entity has

(b) operating costs by budget heads analyzed in agreed to strengthen the internal control systems.enough detail to provide control of incrementalcurrent expenditures; and

74 ANNX V

NOTES

ANNEX VI 75

ACCOUNTING FOR SECTORS

1. The following are some key features affect- non-loan sources of income such as a direct sub-ing the accounting for selected sectors. sidy payment for operating expenses;

* Separate categories for each major source of

Financial Sector funding. Many DFIs receive subsidies via belowmarket interest rates. To calculate the subsidy,

2. The success of a financial sector program concessional loans funds must be segregated in thedepends on the preservation of capital and the intro- books.duction of control and tracking mechanisms whichmonitor the quality of the portfolio and the financial * Ability to generate key performnance indicatorsreturns accruing to it. Many Bank projects will be such as return on equity, average interest income toinvolved with Development Finance Institutions (DFI) the portfolio, operating expenses to income, loanwhose credit activities and financial health are required losses to income, arrears to amount collectible, av-to be self-sustainable. To be self-sustainable, it is erage cost of funds, average return on equity; per-important that the financial institution earns sufficient cent performing loans, portfolio at-risk, etc.net income to maintain its equity in real economicterms ( i.e. after allowing for inflation). To achieve thisposition, interest income which will be influenced by Infrastructurethe market rates should be sufficient to cover the costs 3. Infrastructure activities relate to almost allof financing, operating expenses and any reasonable sectors, for example, the construction of irrigationloss on its portfolio. However, in some instances the dams, schools, roads, etc. These are usually largegovernment may wish to finance an element of subsidy investments over a period of time that require carefulto cover abnormal operating costs and portfolio losses monitoring for implementation against the plan. Somearising from lending to targeted groups and areas. It is specific aspects requiring attention include:important that revenues and costs are properly segre- agated to provide the information needed to calculate the * the management of large contracts wlth possiblesubsidy necessary to cover the impact of the targeted cost overruns compared to orginal plans, includingoperation, and the performance indicators used in the estimation of costs to completion;finance sector to measure efficiency. Some key con- * the effects of foreign exchange movements in localcerns which should be addressed in evaluating a finan- currency on costs of imported equipment and for-cial management system in this sector are: eign denominated aspects of contracts;

* Degree of independence of the finance institution * capitalization of construction costs; andfrom government policies and interventions. * delays caused by a delay of early securing of land

* Conservative principles regarding the recognition and other rights; the need for a large amount ofof interest income; counterpart financing which may pose a problem

* Clear accounting policies on the classification of for borrowers.performing and non-performing loans and provi-sion for bad debts; Utility and Transportation Sectors

* Separate income categories for interest, non- The utility sector is usually comprised ofinterest charges associated with the loan, and other energy, water, and telecommunications projects. The

transportation sector includes ports, railways and pub-

76 ANNEX VI

lic road transportation. Associated issues could in- * Degree of independence ( where controlled by gov-clude: ernments) on price setting.

* Management of large contracts with possible cost Human Resource and Agriculture Sectorsoverus compared to original plan; 6. For those sectors of a non-revenue earning

* Foreign exchange movements in local currency nature, such as human resources which covers health,which could have a significant impact on indebted- education, population, etc.; and agriculture, whichness, and on operating costs (fuel and spare parts); covers research, farmers' technical assistance including

extension; and irrigation--the projects are usually im-. Hyper inltonio neurnheplemented by the government through one of its de-

tionfofnassets; partments or agencies. These projects are, therefore,heavily affected by the condition and sophistication of

* Projects usually require a large amount of counter- the government's financial management structure ofpart financing which may pose a problem on li- which they may become a part. On occasion, they mayquidity; be accounted for entirely separately from the govern-

ment accounts. For these projects, the Bank wouldtig,food monncialinformageatnd tarliff,for rates- usually be concerned with the structure and controlstion, for month ori age andi b g for affecting the project. Because the government does not

tosanotepromne ts; measure performance via profitability, performance* Separation of production and costs of key monitor- indicators have to be carefully constructed using both

able areas such as power generation, transmission, physical and financial data. Some common items to beand distribution in the energy sectors and similar considered in providing for the financial accountabilityprocess functions in the water sector. of the above projects are:

* Clear segregation of project expenditures withinIndustry and Agri-Business Sectors the government accounting system;

5. These sectors would include many of the * Establishment of linkages between project expendi-features of the utility sector; associated issues include: tures and the government's accounting system;

• Foreign exchange movements in local currency * Identification and linkage of projects expenditureswhich could have significant effect on indebted- and physical r nforsation required for perfo;manceness, and on operating costs for raw materials, indicators;fuel, spare parts, and other inputs, and on export * Clear identification of how the projects are fi-prices particularly for the agri-business sector. nanced whether through government budget and

* Hyper inflation environment requiring the revalua- expenditure system or whether separately financed,tion of assets which affect operating costs, and on including the identification of counterpart and/orexport oriented activities which would affect in- donorfinancing;come; * The consolidation of sub-project accounts where

* Separation of manufacturing and other production there are several sub-implementing agencies;costs from overhead costs, and of fixed assets from * Accounting treatment of assets utilized by the proj-production assets. ect:

The recording and valuation of inventories taking * The requirements of co-financing and /or donors,into consideration net realizable value of invento- where applicable;ries (perishability in agri-business);

ries (prihailtyinagiusn* The segregation of recurring cost from investment* The production cycle, particularly in agri-business cost; and

e.g. tree faruming.

ANNEx VI 77

* Any other additional issues which relate to the projects would have similar characteristics to thosespecific sectors. discussed under the financial sector. Some specific

characteristics of agriculture are:

Agriculture * A long operating or production cycle. Operatingcycles may range from a low of 6 months (where

7. The agricultural sector is composed of both there are two growing seasons a year) to 6 yearsrevenue and nonrevenue earning entities. The revenue and more in the case of tree fiuming (citrus fruits,earning entities are covered in the discussion on Indus- for example).try and Agri-Business (para 5). Among nonrevenueprojects, such as research, technical assistance and * Agricultural projects use net realizable worth orextension projects, accounting requirements would be lower of cost to value agricultural products.similar to those discussed above. Agricultural credit * Seasonal aspects and perishability of production.

78 ANNEX VI

NOTES

ANNEX VII 79

TM REVIEW OF STATEMENTS OF EXPENDITURE

T.he TM should use the following as a guide and may 4. For each expenditure, perform the following:omnit some procedures he/she considers unnecessary (a) Evaluate the adequacy of the supporting documen-after consultation with an Accountig and Auditmg tation wich should normally iclude one or moreProfessional. of the following:

1. Through discussion with borrower staff, ob-1. Though iscusion wth borowerstaff ob- * procurement docurnents (bid documents, invitation,tain an understandmg and document (or update pervi- eapro n adoous documentation of) the process and related controls evaluation, awardby which expenditures are committed, reviewed, ap- * purchase conractproved, paid, and identified for inclusion in loan with- a purchase orderdrawal applications.

* Ietter of credit

2. Consider the effectiveness of the following * supplier's invoice and certificate of origincontrols and document any instances where controls * shipping or import documents and inspection cer-are lacking or are considered in need of strengthening: tificates

* Appropriate levels of review and approval are in * contractor's invoices or certificatesplace and are followed for each stage of the ex-penditure process. * other evidence of receipt of goods or services

* Procedures and responsibilitics are clearly defined * force account recordsand are adequately documented. * recurrent cost records

* Adequate segregation of duties exists between the * authorization for paymentinitiation, authorization, disbursement, and record-ing functions. * evidence of payment/bank statements

* Authorization and approval is obtained prior to * accounting records of approvals, disbursements,incurring of the expenditure. and balances available

* Documentation is maintained for an adequate pe- * evidence that refunds have been mnade by suppliersriod of time for purposes of fulfilling audit ro and corresponding adjustments made in subsequentquirements as well as review by Bank staff. applications in instances where goods have been

returned.* Commitmnents are made after applicable proce-

dures have been followed.(b) Ascertain that the expenditure was properly

authorized and approved.3. Obtain a listing of all SOEs submitted duringthe period under review and for selected SOEs fromthis listing, and have borrower staff retrieve the sup- (c) Verify that the expenditure is eligible for Bankporting documentation for the expenditures. disbursement under the loan agreements. Ineligi-

ble expenditures would include:

80 ANNEx VII

* duplicate invoices; payments for items on the negative list or not

* payments made in advance of receipt of good or on the positive list (for adjustment operationdelivery of services, unless these payments are lending).consistent with contract provisions and are estab-lished commercial practice; (d) Verify the mathematical accuracy of the SOE.

* payments that should have been made under nor- (e) Agree the percentage used to determine the Bank'smal disbursement procedures with full documenta- share of the total disbursements to the loantion (eg payments against contracts subject to the agreements. Verify that the proper amount wasBank's prior review, or payments against contracts requested for reimbursement.with values exceeding defined SOE limuts; and

(f) Summarize the results of the work performed on a* payments for items that are not procured in accor- summary form.

dance with the legal agreements, such as:(g) Notify borrower of all instances of negative find-

0 payments for items from countries that are ingsnot eligible under the Bank's ProcurementGuidelines;

0 payments for items not specified in the pro- 5. Where appropriate and practical, considercurement; physically observing significant items purchased on a

test basis to confirm their existence.0 payments made prior to loan signing or be-

fore the eligible date specified for retroactivefinancing;

ANNEX VIII 81

USE OF FINANCIAL INFORMATION TO MONITOR PHYSICALPROJECT IMPLEMENTATION

Need for Financial Information Major methods to monitor project performance

Project Managers need to have accurate, timely and * Key Factor monitoringreliable financial information not only to evaluate per- .Vanc Analysisformance but more importantly to help dynamic prob-lem solving by anticipating the latent problems and * Financial Analysis and Projectionrisks at different steps of project implementation in a Key Factor Analysisdynamic social, economic, and financial environment.

Financial information on project implementation be- Key Factor analysis is an inexpensive way of providingcomes of prime importance when there exists an en- a simple indicator of project health and of potential anddemic inadequacy of managerial information systems actual problems. The majority of projects have a fewin the borrowing developing country factors whose performance is a very sensitive indicator

of overall project performance. Such factors are des-Use Financial information to: ignated as key factors. Key factor variance ranges

Ongoingprojects may be set up for each project for every step of projectimplementation and at the time of commitment to the

* Evaluate project implementation status project; and key factor variance analysis is regularly

* Analyze the variance of projects costs against carried out by the project manager to monitor projectbudget and by sector implementation performance. Any major variance

from key factor tolerance limits is an indicator of ac-• Identify end-use of resources used tual or potential problems and should be investigated.

* Identify and anticipate problems and risks If major variance is a reason for unavoidable circum-stances, and cannot be corrected, key factor variance

* Decide necessary modifications to project design tolerance limit for future project implementation stages

- Reassess project objectives in light of experience should be changed accordingly.and new developments Examnples of Kea Factors

* Reallocate resources At the project implementation stage:

Ex-post * In the Energy Sector, key factors may be - for an

* Analyze project objectives variance hydro-electric project - percentage of completionper dollar of resource input, which may vary ac-

* Identify project features that should be replicated cording to the stage of completion of the project.and pitfalls to be avoided * In the Agricultural Sector - for an irrigation proj-

* Identify potential for improvement through hind- ect - S cost incurred per canal mile may be the keysight factor.

* In the Education Sector - for a primary educationproject - cost incurred per 1,000 pupils at educa-tion facility may be the key indicator.

82 ANNEX VIII

At the ex-post performance evaluation: * electrical systems

In the Energy Sector, key factors may be: * soil analysis

* kilowatt-hour per dollar of resource input, where * dredging expensesresource input can be;

*education of farmers* replacement price of a non-renewable resource

(like crude oil); * relocation cost of displaced farmers

* socio-economic cost of displacement of people;and/or Financial Analysis and Projection

* environmental damage resulting from the con- This is the most extensive and forward-looking methodstruction of a hydro-electrical generation station in monitoring projects, and should be used as a com-

Variance Analysi-s plement to the other methods. The aim is to analyzethe current performance data of project implementation

Variance analysis with plan is the most widely used and forecast the expected next steps to complete themethod of using financial information to measure proj- project. Potential problems become more evident, andect implementation and ex-post project performance; it optional solutions surface.requires a more extensive monitoring system than the Sources of Financial Informationkey factor analysis method. Actual expense and per-formance is compared with the plan, to identify actual * cost accounting data of the projectand potential problems by expense category. Any * balance sheet, income statement, and sources andvariance is investigated, and if it is justified, the plan is useshet inds statement, and sources atarevised to take the variance into account for futureanalysis. * financial analysis carried out during projectFor an irrigation project, for example, the expense analysis at the time of commitmentcategories may be: * social, financial and economic date from the bor-

* canal building rower/country

* instllation of pump sets

ANNEX IX 83

FORM LETTER

Annual Reminder to Borrower of Requirement to Appoint Auditors

(for audits by prvate firms only)

Send before end of each year

re: Loan/Credit

Dear

This is to remind you that the Bank's Guidelines regarding independent auditsrecommend that the auditor be appointed before the beginning of each year.

Please notify us of the name of the firm and whether the same firm,, has been appointed to perform the annual audit for

If not, please furnish names of firms being considered and the other information set out inGuidelines, paragraphs , so that this may be reviewed and communication madeto you regarding acceptability in time to appoint the auditor before the start of the new year.

Sincerely yours,

84 ANNEX IX

FORM LETTER

Reminder to the Borrower of Requirement for Timely Submission of Report

Send before end of each year

re: Loan/Credit

Dear :

This is to remind you that the annual audit of pur-suant to the above indicated Loan Agreement is required to be submitted to the Bank nolater than according to Section of the Loan/Credit Agree-ment.

We appreciate very much your reminding the auditors of their need to begin theplanning interim and year-end audit work in such a way as to ensure compliance with thisrequirement. Please advise us directly if you contemplate any difficulty in compliance.

Thank you for your cooperation,

Sincerely yours,

ANNEX IX 85

Notice to Borrower of Failure to Receive Audit Report

Send 1st day after deadline has passed

AUDIT REPORT REQUIRED BY SECTIONLOAN/CREDIT AGREEMENT NO HAS NOT BEENRECEIVED AS AT . PLEASE ADVISE STATUSBY RETURN TELEX. REGARDS

(Note: If not answered or answered unsatisfactorily subsequent telex should be moreforceful and should be sent at least every 15 days.)

86 ANNEX IX

NOTES

ANNEX IX 87

Acknowledgment of Audit Report

Send to the borrower immediately upon receipt of auditedfinancial statements

re: Loan/Credit_

Dear

We acknowledge the receipt of the audited financial statements ofas required under the above indicated

Loan/Credit Agreement.

We will review it within the next few days and if we have any comments orquestions, we will communicate accordingly.

Thank you for your cooperation.

Sincerely yours,

or

Dear

We acknowledge the receipt of the audited financial statements offor the fiscal year end December, l9xx.

We will review it and if we have any comments, we will communicate withyou accordingly as soon as possible.

Sincerely yours,

88 ANNEX IX

NOTES

ANNEX X 89

GUIDELINES FOR THE DESK REVIEW OFAUDIT REPORT

1. The following Guidelines are for the Desk Review of the audit report (financial statements and auditopinion) received by the Bank. However, it is important to understand that these guidelines will not coverall the scenarios and that the TM should seek the assistance of a professional accountant whenever consid-ered necessary. For example, the review of the financial statements of a revenue earning organization ismuch more involved than the review of a simple project financial statement involving the Receipt and Ex-penditure of funds only.

Background

2. Obtain from LOALA the Loan balance of the project as at the report date, with a printout of dis-bursernents a month before and after the report date of the financial statements (e.g December 31 for theyear ended on that date).

3. Note date of the receipt of the report and ensure that an acknowledgment is sent to the borrower.

4. Compare the name of the auditor with that agreed by the Bank. The acceptability of the auditor in-cluding qualifications, independence and competence should have been agreed from the time of appoint-ment.

5. Ascertain that the report received compares with that required by the Loan covenants i.e organiza-tion (entity) financial statements; project financial statements; separate SOE financial statements; specialaccount financial statements.

6. Ascertin from the Loan Agreement and the Terms of Reference (TOR), which should have beengiven to the auditor, those financial covenants that should be covered under the audit, and any special re-quirement such as those that may require verification for compliance.

90 ANNEx X

Review of The Audit

7. The audit opinion should be signed by the auditor and dated on the letter head of the audit firm oron paper showing the name and address of the auditor.

8. The audit report should be addressed to the borrower (implementing agency).

9. Ascertain if the audit opinion is unqualified, qualified, adverse or is a disclaimer (see Annex XX).

10. The audit opinion should show what accounting principles have been applied in the presentation ofthe financial statements (usually generally accepted accounting principles or it may say international ac-counting standards). The Bank's Country Department should have already been aware of what are thegenerally accepted accounting principles of the borrower and their acceptability to the Bank.

11. The audit opinion should show the auditing standards applied (the Bank requires international stan-dards on auditing or its equivalent).

12. Ensure that there is a definite opinion given by the auditor. In many audit reports (particularly gov-ernment audits), there is a long discussion of issues without a clear conclusion or opinion on the financialstatements. Recommend the use of a management letter (representation letter) for issues that are not suf-ficiently important to affect the true and fair view of the fls.

13. Review the notes to the financial statements and the management letter (where available) to ascer-tain that there are no important issues that would require a change in the opinion given. For example, thenotes and the management letter may indicate circumstances that would require that an unqualified opinionbe changed to that of a qualified opinion.

14. Where SOE procedures are used, the opinion should have a separate reference to the use of SOEs(see Annex XX).

15. Where Special Accounts are integrated in the Project f/s, the opinion should have a separate refer-ence to the use of the Special Account.

16. Where the TOR required compliance testing, ensure that the audit has addressed these in the opin-ion, possibly through a separate reference to the verification requested.

17. Generally, conclude whether or not the auditor has performed reasonable.

ANNEX X 91

Review of The Financial Statements

18. The auditor may have done a good job but the report does not have an unqualified opinion. In theseinstances it is important to identify the main reasons for the qualifications, adverse or disclaimer opinionand to require explanations and follow up action, as necessary, from the borrower.

19. In reviewing the report the Reviewer should:

* ensure that the audit report was presented bound with all its sections identified (opinion, balance sheet,income statement, cash flow statement, notes to financial statements).

* identify the project where the project fls are an integrated part of the entity fls.

* identify the SOE Bank withdrawals where the SOE fls is integrated in the project fls (as recommendedby the guidelines).

- identify the linkage with the Special Account fls (usually a separate audit report but may be integratedin the project account).

20. Reconcile the Bank's financing with the audit report (using the Bank's printouts (from LOALA)and the movements through the special account where applicable). The cash flow statement (sources andapplication of fund statement) will be useful in this review.

21. Where interim unaudited fls were received - compare the report to identify any significant differ-ences in trends between the unaudited and audited reports and request from the borrower an explanation ofsignificant changes.

22. Review the contents of the financial statement in total to ascertain the performance of the organiza-tion and/ or the project and compare it with the SAR or budget for the period under review. The notes andmanagement letter usually provides a wealth of information. The borrower should be asked to explain anysignificant variations to the results expected.

23. The receipt of the report and the results of the review should be entered into the ARCS.

92 ANNEx X

NOTES

ANNX XI 93

THE ELEMENTS OF FINANCIAL STATEMENTS(Summarized from IASC's Framework for the Preparation

and Presentation of Financial Statements)

Financial statements portray the financial * current liabilities might include bank loans andeffects of transactions and other events by grouping overdrafts, the short-term portion of long-term li-them into broad classes according to their economic abilities, and payablescharacteristics. These broad classes are termed theelements offinancial statements. The presentation ofthese elements in the balance sheet and the income * long-term liabilities might include the long-termstatement involves a process of sub-classification. portion of loans, provisions, deferred taxes, andElements may be classified by their nature or function deferred incomein the business of the enterprise in order to display i ht include the various classes of shareinformation in the manner most useful to users for a equity pid inncapt revalaions clsps, o re-purposes ofmaking economic decisions. capital, paid in capital, revaluation surplus, re-

serves, and retained earnings.

Cash Flow StatementFinancial Position--The Balance Sheet Information about the cash flows of an

The elements directly related to the meas- enterprise is useful in providing users of financialurements of financial positions are assets, liabilities, statements with a basis to asses the ability of the enter-and equity. These are defined as follows: prise to generate cash and cash equivalents and the

* An asset is a resource controlled by the enterprise needs of the enterprise to utilize those cash flows. Itas a result of past events and from which future also enhances the comparability of the reporting ofeconomic benefits are expected to flow to the en- operating performance by different enterprises becauseterprise. it eliminates the effects of using different accounting

treatments for the same transactions and events.* A liability is a present obligation of the enterprise The cash flow statement should report cash

arising from past events, the settlement of which is flows during the period classified by operating invest-expected to result in an outflow from the enterprise ing and financing activities. Further discussion ofof resources embodying economic benefits. each of these classes of cash flows appears below:

* Equity is the residual interest in the assets of theenterprise after deducting all its liabilities.

Classification of items in the balance sheet 1. Operating Activities The amount of cash flowsshould be made in such a way as to be meaningful to ansing from operating activities is a key indicator ofthe users of the financial statements. The following the extent to which the operations of the enterpriserepresent some typical items which should be consid- have generated sufficient cash flows to repay loans,ered for separate disclosure in the balance sheet: maintain the operating capability of the enterprise, pay

dividends and make new investments without recourse* segregation of current assets and current liabilities to extemal sources of financing. Examples of cash

from long-term assets and long-term liabilities flows from operating activities are:

* current assets might include cash, marketable se- * cash receipts from the sale of goods and the render-curities, receivable, and inventories ing of services

94 ANNEX XI

* cash receipts from royalties, fees, commissions, * cash proceeds from issuing debentures, loans,and other revenues cash payments to suppliers for notes, bonds, mortgages, or other short or long-goods and services term borrowing

* cash payments to and on behalf of employees * cash repayments of amounts borrowed

* cash receipts and cash payments of an insurance * cash payments by a lessee for the reduction of theenterprise for premiums and claims, annuities, and outstanding liability relating to a finance leaseother policy benefits Financial Performance-Tlhe Income Statement

* cash payments or refunds of income taxes unless Profit is frequently used as a measure ofthey can be specifically identified with financing perforrnance or as a basis for other measures, such asand investing activities return on investment or earning per share. The ele-

* cash receipts and payments from contract held for ments directly related to the measurement of profit aredealing or trading purposes income and expenses: these are defined as follows:

2. Investing Activities The separate disclosure of * Income is increases in economic benefits during thecash flows arising from investing activities is important accounting period in the form of inflows or en-because the cash flow represents the extent to which hancements of assets or decreases of liabilities thatexpenditures have been made for resources intended to result in increases in equity, other than those relat-generate future income and cash flows. Examples of ing to contributions from equity participants.cash flows arising from investing activities are: Expenses are decreases in economic benefits dur-

* cash payments to acquire and cash receipts from ing the accounting period in the form of outflowssales of property, plant and equipment, intangibles, or depletion of assets or incurrences of liabilitiesand other long-term assets that result in decreases in equity, other than those

* cash payments to acquire and cash receipts from relating to distribution to equity participants.sales of equity or debt instruments of other enter- Income and expenses may be presented in the incomeprises and interest in joint ventures statement in different ways so as to provide informa-

tion that is relevant for economic decision-making. For-- cash advances and loans made to other parties example, it is common practice to distinguish between

* cash receipts from the repayment of advances and those items that arise in the course of the ordinary ac-loans made to other parties tivities of the enterprise and those that do not. Items

which should be disclosed in the income statement* cash payments and cash receipts from futures con-

tracts, forward contracts, option contracts, and iclude, but are not limited to:swap contracts. * sales or other operating revenue

3. Financing Activities The separate dis- * depreciationclosure of cash flows arising from financing activities interest incomeis important because it is useful in predicting claims onfuture cash flows by providers of capital to the enter- * income from investmentsprise. Examples of cash flows arising from financing * taxes on incomeactivities are:

* cash proceeds from issuing shares or other equity * unusual chargesinstruments * significant intercompany transactions

* cash payments to owners to acquire or redeem the * net incomeenterprise shares

ANNEX XII 95

SAMPLE OF PARTS OF FINANCIAL STATEMENTSOF A PROJECT IMPLEMENTING ORGANIZATION

1. This sample is to demonstrate the integration of a World Bank-assisted Project's Financial Statement intothat of an Implementing Organization's Financial Statement.

2. The sample (pages 2-6) is based on a set of financial statements prepared by a borrower/country followingthe UK style presentation. A Sample Balance Sheet and Income Statement of the same entity following the US style isalso attached on pages 7-8.

3. Note 13 to the financial statement summarizes the fixed assets of the organization:

a) Version 1 (Page 4) of this note shows separately the Bank-assisted project (called the Project). From thisversion, it is possible to see how much has been spent to date. The amount financed by the Bank would beagreed by the Auditor in the reconciliation of the loan (note 12 would summarize the loans, showing thatdue to the Bank). In this version, no separate Project Financial Statement may be necessary. However,other expenses, such as Financial Assistance, would need separate identification in the Notes to the Finan-cial Statement.

b) Version 2 (Page 5) does not separately show those assets of the Bank-assisted Project. In this version, aseparate Annex (which would need to be referred to in the Auditor's Report) would be necessary.

4. Where a separate Project Financial Statement is required - See page 6 for the Sample. This FinancialStatement would require a separate audit report.

5. It is also suggested that, where practicable, the financial statements be presented for submission to theBank in both US$ and the local currency.

96 AN XEX XII

ABC Power Company, Ltd. SAMPLEBALANCE SHEET Page 2 of 8

As of June 30, 19XX and June 30, 19XY(Indicate type of currency.)

Notes 19XX 19XY

SHARE CAPITAL 10 218,800 218,800RESERVES 8 1.240.L0 955.8L0

SHAREHOLDERS' FUNDS 1,458.800 1,174,600DEFERRED LIABILMES 11 50.000 76,600LOAN 12 1.286,000 1.264.000

CAPITAL EMPLOYED 2,794,800 2,515,200

Represented by:

FIXED ASSETS 13 2,965,000 2,556,700

CURRENT ASSETSStocks 14 889,200 738,900Debtors 15 776,000 595,900Short term investments 85,700 2,000Bank and cash balances 16 64.300 56.300

Subtotal: Current Assets 1,815,200 1,393,100

CURRENT LIABILITIESCreditors 17 1,786.000 998,600Taxation 6 10,800 50,800Dividends - payable 4.000 3,200

- proposed 22,900 22,900Loans repayable within one year 12 53,400 142,300Deferred liabilities due within one year 11 26,800 26,800Bank Overdraft 16 81.500 190,000

Subtotal: Current Liabilities 1.985.4 1.434.6

NET CURRENT LIABILITIES (170,2001 (41L500)

NET ASSETS 2,794,800 2,515,200

The accounts on this page and the pages to follow were approved by the Boardof Directors and were signed on its behalf by:

. Directors

ANNEX XII 97

,SamTple

ABC Power Company, Ltd Page 3 of 8REVENUE ACCOUNT AND STATENIENT OF RETAINED

EARNINGSFor the Years Ended June 30,19XX and 19XY

(Indicate type or currency.)

June 30, June 30,Notes 19XX 19XY

REVENUE 2.629,700 2,434,600

OPERATING EXPENSES 2 2.532,700 2,213.300

OPERATING INCOME 97,000 221.300

EXCHANGE LOSS 3 14,690 41,100

NET OPERATING INCOME 82,310 180,200

NET INTEREST EXPENSE 4 34.500 18.100

PROFIT BEFORE EXCEPTIONAL ITEM 47.810 162.100

EXCEPTIONAL ITEM 5 266.650 0

PROFIT BEFORE TAXATION 314,460 162.100

TAXATION 6 5,175 69.100

PROFIT AFTER TAXATION 309,285 93.000

RETAINED PROFITS

Prior year balance 479,040 438,840Retained profit for the year 309.285 93,000

788,325 531,840

Less: Dividends declaired 7 24.800 24,800Taxation equalization reserve 8 30,000 28,000

54,800 52,800

Retained profit carried forward (see Note below) 8 733.525 479,040

Note: Retained profit-carried-forward is part of Reserves that would be detailed in Note 8.

ABC Powver Company. Ltd.

NOTES TO THE ACCOUNTS -Version I-As of June 30, 19XX(Indicate type of currency.)

13, FIXED ASSETS

Furniture,Land and Buildings Transmission Lines Plant and Machinery Motor Equipment,

WB Project Other WB Project Other WB Project Other Vehicles and others Total

Cost

July 1, 19XY 30,000 709,000 127,000 1,511,800 32,500 478,600 206,600 314,950 3,410,450Prior year adjustment 0 435 0 (680) 0 191 (1,235) (1,289)Additions 10,000 105,327 50,410 36.190 17,500 48,200 75,100 81,500 424.227Disposals - - - (865) - - (3,340) - (4,205)

June 30, 19XX 40,000 814,762 177,410 1,546,445 50,000 526,991 278,360 395,215 3,829,183

Depreciation

July 1, 19XY 2,500 88,170 27,500 355,760 5,500 198,300 128,150 138,300 944,180Charge for the year 1.000 9,700 10.0W 50,400 2,200 16,000 24,600 23.700 137,600On disposals - - (25) (775) - - (2,825) - (3,625)

June 30, 19XX 3,500 97,870 37,475 405,385 7,700 214,300 149,925 162,000 1,078,155

Net Book Value

June 30, 19XX 36,500 716,892 139,935 1,141,060 42,300 312,691 128,435 233,215 2,751,028

Add: Construction inProgress l(o,0o0 15,0U0 37,500 94,000 0 57,472 0 0 213,972

TOTAL FIXED ASSEib 46.500 731,892 177,435 1,235.060 42,300 370,163 128,435 233,215 2,965,000

June 30, 19XY 27,500 620,830 99,500 1,156,040 27,000 280,300 78,450 176,650 2,466,270

Add: Construction in Progress 90,430 X

(1

00

Total at June 30, 19XX 2,556,700

* World Bank Project expenditures are summarized on Page 6.

ALtI I'nwj1i % Ciwir,myi. -t1.

NOT lS Tr 'IoIIE ACC(OUN'rS - Vcrsioni 2 -As of Juie 30, 19XX(Indicatc type (if curre:ncy.)

13. FIXED ASSETS Furniture,Land anld Transmission Plant and Motor Equipment,Buildings Lines Machincry Vehicles an(d others Total

CostJuly 1, 19XY 739,000 1,638,800 511,100 206,600 314,950 3,410,450Prior year adjustment 435 (680) 191 - (1,235) (1,289)Additions 115,327 86,600 65,700 75,100 81,500 424,227Disposals - (865) - (3,340) - (4,205)

June30, 19XX 854,762 1,723,855 576,991 278,360 395,215 3,829,183

Depreciation

July 1. 19XY 90.670 383.260 203,800 128,150 138,300 944,180Charge for lhe year 10,70(0 60,400 18,200 24,600 23,700 137,600On disposals - (800) - _(2,825) - (3,625)

June 30, 19XX 101,370 442,860 222,000 149,925 162,000 1,078,155

Net Book Value

June 30, 19XX 753,392 1,280,995 354,991 128,435 233,215 2,751,028

Add: Construction in Progress 25,000 131,500 57,472 _ - 213,972

TOTAL FIXED ASSETS 778,392 1,412,495 412,463 128,435 233,215 2,965,000

June 30, 19XY 648,330 1.255,540 307,300 78,450 176,650 2,466,270

nX

Add: Construction in Progress 90,430

Total at June 30, I')XX 2,556,700 vo

01

100 ANNEX XII

SamplePage 6of 8

ABC Power Company, Ltd.Expansion Project - World Bank Loan No. 99999

Project Expenditures and Financing as of .Tune 30. 19XX(Indicate type of currency.)

Current Period CumulativeActual Budget Actual Budget

EXPENDITURES

Civil Works:*

Loodney Power House 35,000 42,000 133,000 152,500Glasney Power House 25,410 21,000 84,410 89,000

Subtotal: Civil Works <Page 4> 60,410 63,000 217,410 241,500

Plant and Machinery:

Loodney Power House 10,000 10.000 28,000 39.500Glasney Power House 7,500 7.500 22,000 26,500

Subtotal: Plant & Mach. <Page 4> 17.500 17,500 50,000 66.000

Technical Assistance:

Consultants - Institutional Dev 9,500 10.000 19,500 29,000

TOTAL EXPENDITURES 87,410 90,500 283,910 336,500

FINANCING55,600 54,300 180,000 201,900

World Bank 17,700 18,100 60,000 67,300Central Govt. Loan 14,110 18,100 43,910 67,300Company Resources

TOTAL FINANCING 87,410 90,500 283,910 336,500

I lncludes land, buildings, and transmission lines <World Bank Project on Page 4>.

Land & Buildings 10,000 40.000Transmission Lines 50.410 177.410

60,410 217,410

This Annex, Project Financial Statement, is required as an annex to the organization's financial statements whereproject cannot be identified (version 2). In version 1, this may not be needed.

ANNEX XII 101

U.S. ModelABC Power Company, Ltd.

BALANCE SHEET SampleAs of June 30, 19XX and June 30, 19XW (preceding year) Page 7 of. 8

(Indicate type of currency)

June 30 June 30Notes 19XX 1 9XW

ASSETSCurrent Assets (A)

Cash 1 6 64,300 56,300Stocks 1 4 889,200 738,900Short term investments 85,700 2,000Accounts Receivable (net of allowances) 1 776,000 595,900Total Current Assets 1,815,200 1,393,100

Fixed Assets (net of depreciation) 1 3 2,965,000 2,556,700

TOTAL ASSETS 4,780,200 3,949,800

LIABILITIES AND STOCKHOLDER'S EQUITYCurrent Liabilities (A)

Accounts Payable 17 1,786,000 998,600Taxes Payable 6 10,800 50,800Dividends - Payable 4,000 3,200

- Proposed 22,900 22,900Loans Payable 1 2 53,400 142,300Deterred Liabilities 11 26,800 26,800Bank Overdraft 1 6 81,500 190,000Total Current Liabilities 1,985,400 1,434,600

Long-term Debt (A)Loans Payable 1,286,000 1,264,000Deferred Liabilities 50,000 76,600

TOTAL LIABILITIES 3,321,400 2,775,200

Stockholder's EquityCommon Stock 1 8 218,800 218,800

Retained Earnings 733,525 479,040Reserves 3 506,475 476,760

Subtotal 1,240,000 955,800

TOTAL STOCKHOLDER'S EQUITY 1,458,800 1,174,600

TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY 4,780,200 3,949,800

102 ANNEX XII

U.S. ModelABC Power Company, Ltd.

STATEMENT OF INCOME AND RETAINED EARNINGS SampleFor the years ended June 30, 19XX and June 30, 19XW (preceding year) Page 8 of 8

(Indicate type of currency)

June 30 June 30Notes 19XX 19XW

STATEMENT OF INCOME:Revenue 2,629,700 2,434,600Operating expenses 2 2,532,700 2,213,300

Income from operations 97,000 221,300

Other income/(expense):Exchange gain/(loss) 3 (14,690) (41,100)Interest expense 4 (34,500) (18,100)Total other income/(expense) (49,190) (59,200)

Income from operations before income taxes 47,810 162,100

Income Taxes 6 5,175 69,100Income before extraordinary item 42,635 93,000

Extraordinary item - gain/(loss) net of tax 5 266,650 0Net income 309,285 93,000

STATEMENT OF RETAINED EARNINGS:Retained earnings at beginning of year 479,040 438,840

Add:Net income 309,285 93,000Subtotal 788,325 531,840

Less appropriations:Dividends declared 24,800 24,800Taxes 30,000 28,000Total appropriations 54,800 52,800

Retained earnings at end of year 733,525 479,040

ANNEX XIII 103

SAMPLE OF PROJECT FINANCIAL STATEMENTwith SOE integrated

1. This sample summarizes Project expenditures by main disbursement categories with sub-headings. It mayalso be summarized by Project Activities, as per the SAR, whichever may be preferred. To demonstrate:-

Land Development heading

Civil works sub-heading

Earth works sub-heading

Structure and building sub-sub-heading

Land costs sub-heading

Equipment sub-heading

2. In addition, the financing of the Project is summarized to agree with the total Project costs.

3. Expenditures and Financing are summarized by:

* Budget or Plan for the period and accumulated to date;

* Actual for the period and accumulated to date;

* Variance between Budget or Plan and Actual for the period and accumulated to date.

4. Investment costs are separated from recurrent expenditures.

5. Balance Sheet This is required where there are assets and liabilities. However, in most government proj-ects, expenditures are financed through the budget and operate on a cash basis. Where accrual accounting is followed,a balance sheet is essential. Whether the cash or accrual basis of accounting is followed, a record should be kept of allthe fixed assets (vehicles and equipment) required for project implementation. This may form a listing to be added tothe Summary Project Expenditures.

6. SOEs The SOE expenditures should be integrated in the Project Financial Statements. Total financingwill show "Loan from Bank/IDA -- via SOE procedures", and the expenditures would be incorporated into the head-ings/sub-headings as necessary. An Annex summarizing withdrawal applications as in Page 3 would facilitate agree-ment with the Bank's record.

7. Where the TM considers it necessary, or where the SOE (for some exceptional reason) is separately pre-sented, then the withdrawals should be extended to show the categories of expenditures; see Page 3.

8. Special Account Where the SA is used to directly pay project expenditures, the SA may also be integratedinto the Project Financial Statements. In these instances, the SA Financial Statement would be attached as an Annex.The amount shown in the Project Financial Statement as being financed by the Bank would correspond with that pro-vided through the SA, with a reconciliation provided where necessary.

9. The Audit Report would also include a sentence to cover the audit of the SA (see Chapter V of Handbook).

104 ANNEX XIII

XYZ Project Financial Statement SampleSummary of Sources and Uses of Funds Page2of5

as of June 30, 19XX(Indicate type of currency)

Actual Budget (SAR) VarianceYTD Cumulative YTD Cumulative YTD Cumulative

FINANCING:Loan from Bank/IDA

Direct Payment 10,000.00 15,597.84 13,000.00 19,500.00 (3,000.00) (3,902.16)(A) SOE Procedures 5,000.00 10,900.00 3,000.00 8,000.00 2,000.00 2,900.00

Central Government 6,007.60 7,500.00 3,500.00 8,000.00 2,507.60 (500.00)Provinces 3,300.00 5,360.00 2,500.00 8,000.00 800.00 (2,640.00)Prefectures and Counties 3,000.00 5,500.00 1,000.00 10,850.00 2,000.00 (5,350.00)Farmers (cash or labor) 2,500.00 4,440.00 800.00 6,000.00 1,700.00 (1,560.00)

TOTALFINANCING 29,807.60 49,297.84 23,800.00 60,350.00 6,007.60 (11,052.16)

PROJECT EXPENDITURES (B):Land Development 11,303.34 19,603.34 13,200.00 23,050.00 (1,896.66) (3,446.66)Conservation Engineering 5,407.21 9,707.21 2,775.00 10,400.00 2,632.21 (692.79)Forest Development 9,640.70 13,940.70 4,500.00 20,500.00 5,140.70 (6,559.30)Processing 833.13 1,613.68 600.00 1,550.00 233.13 63.68Support Services 854.22 1,603.68 800.00 1,550.00 54.22 53.68Institutional Development 1,276.99 1,829.23 1,450.00 2,300.00 (173.01) (470.77)Recurrent Costs 492.01 1,000.00 475.00 1,000.00 17.01 0.00

TOTAL PROJECT EXPENDITURES 29,807.60 49,297.84 23,800.00 60,350.00 6,007.60 (11,052.16)

Notes:(A) Refer to Annex XilI, page 5 for SOE withdrawal schedule format.(B) Expenditure breakdowns represent main disbursement categories as identified in the SAR.

Refer to Annex Xill, page 3 for a detailed breakdown of each category.

ANNEX XIII 105

XYZ Project SampleExpenditure Detail Page 3 of 5

as of June 30, 19XX(Indicate type of currency)

Actual Budget (SAR) VarianceYTD Cumulative YTO Cumulative YTO Cumuiative

INVESTMENT COSTS (AlLand Development(B1 Civil Works 8,730.14 14,230.14 10,000.00 17,050.00 11,269.86) (2,819.86)

Equipment 1,056.23 1,856.23 1,200.00 2,000.00 (143.77) (143.77)Materials 1,516.97 3.516.97 2,000.00 4,000.00 (483.03) (483.031Subtotal 11,303.34 19,603.34 13,200.00 23,050.00 (1.896.66i (3.446.66)

Conservation EngineeringCivil Works 2,563.23 4,563.23 300.00 4,400.00 2,263.23 163.23Equipment 1,628.35 3,128.35 1,275.00 4,000.00 353.35 (871.65iMaintenance 1,215.63 2,015.63 1,200.00 2,000.00 15.63 15.63Subtotal 5,407.21 9,707.21 2,775.00 10,400.00 2,632.21 (692.79i

Forest DevelopmentEquipment 5,632.98 7,632.98 2,000.00 11,000.00 3,632.98 (3.367.02)Materials 2,649.31 4,149.31 1,500.00 4,500.00 1,149.31 (350.691Training 1,358.41 2.158.41 1,000.00 5,000.00 358.41 (2,841.591Subtotal 9,640.70 13,940.70 4,500.00 20,500.00 5,140.70 (6.559.30;

ProcessingEquipment 415.23 638.95 300.00 600.00 115.23 38.95Materials 105.32 268.48 100.00 250.00 5.32 18.48Training 312.58 706.25 200.00 700.00 112.58 6.25Subtotal 833.13 1,613.68 600.00 1,550.00 233.13 63.68

Support ServicesEquipment 212.35 314.23 100.00 350.00 112.35 (35.77)Technical Assistance 641.87 1,289.45 700.00 1,200.00 (58.13) 89.45Subtotal 854.22 1,603.68 800.00 1,550.00 54.22 53.68

Institutional DevelopmentEquipment 312.78 516.78 500.00 800.00 (187.221 (283.22iTechnical Assistance 964.21 1,312.45 950.00 1,500.00 14.21 (187.551Subtotal 1,276.99 1,829.23 1,450.00 2,300.00 1173.011 (470.77)

TOTAL INVESTMENT COSTS 29.315.59 48,297.84 23.325.00 59,350.00 5,990.59 (11.052.16)

RECURRENT COSTSSalaries and Wages 278.56 500.00 275.00 500.00 3.56 0.00Repairs and Maintenance 213.45 500.00 200.00 500.00 13.45 0.00

TOTAL RECURRENT COSTS 492.01 1,000.00 475.00 1,000.00 17.01 0.00

TOTAL PROJECT EXPENDITURES 29.807.60 49,297.84 23,800.00 60,350.00 6,007.60 (11,052.16)

SUMMARY BY SUB-CATEGORY (8):INVESTMENT COSTS

Civil Works 11,293.37 18,793.37 10,300.00 21,450.00 993.37 12.656.63)Equipment 9,257.92 14,087.52 5,375.00 18,750.00 3,882.92 (4.662.48iMaintenance 1,215.63 2,015.63 1,200.00 2,000.00 15.63 15.63Materials 4,271.60 7,934.76 3,600.00 8,750.00 671.60 (815.24)Technical Assistance 1,606.08 2,601.90 1,650.00 2,700.00 143,921 198.101Training 1,670.99 2,864.66 1,200.00 5,700.00 470.99 (2.835.341

TOTAL INVESTMENT COSTS 29,315.59 48,297.84 23,325.00 59,350.00 5.990.59 (11,052.161

RECURRENT COSTSSalaries and Wages 278.56 500.00 275.00 500.00 3.56 0.00Repairs and Maintenance 213.45 500.00 200.00 500.00 13.45 0.00

TOTAL RECURRENT COSTS 492.01 1,000.00 475.00 1,000.00 17.01 0.00

TOTAL PROJECT EXPENDITURES 29,807.60 49.297.84 23,800.00 60,350.00 6,007.60 11,052.16)

Notes:(A) Investment cost categories are broken down based on main disbursement categories identified in the SAR.(fB May be further detailed in subsequent schedules (see Annex XIII, page 41.

106 ANNEX XIII

XYZ Project SampleExpenditure Detail - By Subcategory Page 4 of 5

as ot June 30, 19XX(Indicate type of currency)

Actual Budget (SAR) VarianceYTD Cumulative YTD Cumulative YTD Cumulative

CIVIL WORKS (A):

Earth Works 2,348.96 3,568.97 3,500.00 4,500.00 (1,151.04) (931.03)Structure and Building 5,680.00 6,512.38 4,600.00 8,000.00 1,080.00 (1,487.62)Land Costs 3,264.41 8,712.02 2,200.00 8,950.00 1,064.41 (237.98)

TOTALCIVILWORKS 11,293.37 18,793.37 10,300.00 21,450.00 993.37 (2,656.63)

Notes:(A) This one category is shown for example purposes only.

ANNEx XIII 107

EXAMPLE OF SOE WrTHDRAWAL SCHEDULE Sample

Page 5 of 5

XYZ Project

SOE Withdrawal Schedule

For the current year through: June 30, 19XX

U.S. Dollars (may also show local currency)

Disbursement Category (A)W/D Technical

Number Civil Works Equipment Assistance Materials Total1 6 534.87 0.00 0.00 524.89 1,059.76

1 7 0.00 0.00 250.00 0.00 250.00

1 8 0.00 498.32 0.00 0.00 498.32

1 9 542.31 0.00 250.00 0.00 792.31

20 234.57 0.00 0.00 0.00 234.57

21 547.52 85.32 0.00 0.00 632.84

22 0.00 298.32 0.00 0.00 298.32

23 0.00 0.00 0.00 400.00 400.00

24 0.00 0.00 250.00 0.00 250.00

25 0.00 583.88 0.00 0.00 583.88

TOTAL 1,859.27 1,465.84 750.00 924.89 5,000.00

Note:(A) Disbursement category as defined by loan/credit agreement.

108 ANNEx XIII

NOTES

ANNEx XIV 109

FORMAT FOR SPECIAL ACCOUNT STATEMENT

For year ending 31 December, 19xx

Account No

Depository Bank [Foreign Commercial Bank]

Address

Related loan/credit LN

Currency US$

Initial deposit (mnm/dd/yy)

Add:

World Bank replenishments $

Total interest earnings (if deposited in account)

Deduct:

Direct payments for goods and $

SOE reimbursements -- to borrowers

Total service charges if not included above inamount withdrawn

Ending balance (mm/dd/yy) $

Note: 1. Project payments (both direct and SOE reimbursements) should be compared and agreed to "Bank Financing," asshown in the Project Financial Statement.

2. Special account financial statement is usually a separate report. However it is sometimes treated as a part of theproject financial statements, particularly where the special account acts as the bank account of the project.

110 ANNEX XIV

NOTES

ANNEXXV 111

INTERNATIONAL STANDARDS ON AUDITING (ISA)

SUMMARY AND PUBLIC SECTOR PERSPECTIVES

(Prepared as of July 1994)

This Appendix is a summary of IFAC/IAPC ISAs I to ISA 2: Audit Engagement Letters

31 (July 1994). It should be noted that the summary Summary. An auditor's engagement letter to the clientof each ISA is not a substitute for the ISA itself is designed to document and confirm the auditor'sReference should always be made to the text of acceptance of the appointment, the scope of theStandards when seeking guidance. (Paragraph auditor's work, the extent of the auditor'sreferences pertain to those contained in the responsibilities and the form of any reports. Theapplicable ISA.) Where no public sector perspective Standard describes the principal contents of anis provided after the Summary of the ISA then the ISA engagement letter, and the appendix contains anhas the same applicability in the public sector as it example of a letter.has for the private sector.

ISA 1: Objective and Scope of the Audit of ISA 3: Basic Principles Governing an AuditFinancial Statements Summary. This Guideline describes the basic

Summary. The Guideline describes management's principles governing an auditor's professionalSummary. The .Guideline describes management's responsibilities which should be exercised whenever an

repsb'lhty for financial statements and the overall resonsresponsibility for financial statements and the overall audit is carried out. The basic principles identifiedobjective and scope of the audit of financial statements involve: integrity, objectivity and independence,of an entity by an independent auditor. confidentiality, skills and competence, work performedPublic Sector Perspective. The objective and scope of by others, documentation, planning, obtaining auditan audit, whether in the private or public sector, are evidence, reviewing accounting systems and internaldetem-ined by the audit mandate. The audit mandate is control, reviewing conclusions reached, and reporting.usually based on the law, professional standards and These basic principles are the comerstone of allauditee requirements. Audit mandates in the public succeeding International Standards on Auditing.sector may be more specific than those in the private

secto, andofte encopass widr rane of Public Sector Perspective. Irrespective of whetheran audit is being conducted in the private or public

objectives and a broader scope than is usually sector, the basic principles of auditing remain theapplicable for the audit of private sector financial 'n. W

statements. ~~~~~~~~same. What may differ for audits carried out in thepublic sector is the audit objective and scope, and

Paragraph 11 or ISA I deals with the action a private certain judgments criteria for risk and materiality.sector auditor may take when there are attempts to These differences are often attributable to differencesrestrict the scope of the audit. In the public sector a in the audit mandate and legal requirements of the formdifferent approach may be needed. Specific of financial reporting; for example, audit mandates inrequirements may exist within the legislation governing the public sector may be more specific than in thethe audit mandate; for example, the auditor may be private sector and public sector entities may be re-required to report directly to a minister or the quired to prepare additional financial reports. Dif-legislature if management (including the department ferences in audit approach and style may also exist.head) attempts to limit the scope of the audit. However, these differences would not constitute a

difference in the basic auditing principles.

112 ANNEX XV

ISA 4: Planning procedures" in this Standard refer to tests adopted toSummary. The guidance applies to the plannmng evaluate and determine whether the internal controls onprocess of the audit of both financial statements and which reliance is to be placed are operating effectively.other financial information. It is framed in the context These procedures should not be confused withof recurring audits, identifies key elements in the compliance audits undertaken with the public sector forplanning process and provides practical examples of the purpose of establishing the compliance by the entityitems which should be considered when planning an rwith legislation, ordinances, regulations and ministerialaudit. Adequate audit planning helps to ensure that directives, including the probity of those dealing withappropriate attention is devoted to important areas of public funds.the audit, that potential problems are promptly ISA 7: Control of the Quality of Audit Workidentified, and that the work is completed Summary. Controlling the quality of audit work isexpeditiously. Planning also assists in proper essential in maintaining the high standards of theutilization of assistants and in coordination of work profession. This Standard distinguishes betweendone by other auditors and experts. controls on individual audits and general quality

ISA 5: Using the Work of Another Auditor controls adopted by an audit firm. While recognizing

Summary. The auditor's consideration to be made the interrelationship of the two types of controls,intending to use the work of another auditor are generally quality controls "augment and facilitate"described. The guidance applies when an independent controls on individual audits but do not replace them.

Controls over delegation of work to assistance on anauditor reporting on the financial statements of an idvda ui nodrt opywt h aientity uses the work of another independent auditor individual audit i order to comply with the basicwith respect to the financial statements of one or more auditing principles are addressed, and practicaldivisions, branches, subsidiaries or associated assistance is provided to an audit firm in controllingcompanies included in the financial statements of the the general quality of their practice.entity. ISA 8: Audit Evidence

ISA 6: Study and Evaluation of the Accounting Summary: Audit evidence is information obtained bySystem and Related Internal Controls in Connection the auditor in arriving at the conclusions upon whichwith an Audit an opinion on the financial information is based. TheSummary. Management is responsible for maintaining nature and sources of audit evidence are described asan adequate accounting system incorporating various well as the sufficiency and appropriateness of auditinternal controls to the extent appropriate to the size evidence and the methodsbywhich it isobtained bytheand nature of the business. However, the auditor needs auditor m the performance of compliance andreasonable assurance that the accounting system is substantive procedures.adequate and that all the accounting information which Public Sector Perspective. When carrying out auditsshould be recorded has, in fact, been recorded. Internal of public sector entities, the auditor will need to takecontrols normally contribute to such assurance. This into account the legislative framework and any otherStandard describes accounting systems, elements, relevant regulations, ordinances or ministerialobjectives and limitations of internal control and the directives which affect the audit mandate and anyaudit procedures for the study and evaluation of special auditing requirements. Such requirementsinternal control. might affect, for example, the extent of the auditor'sPublic Sector Perspective. In respect of paragraph discretion is establishing materiality and judgments on4 of ISA 6, the auditor should be aware that the the nature and scope of audit procedures to be applies."Management objectives" of public sector entities may Paragrph 9 of this ISA has to be applied only aferbe influenced by concerns regarding public ac- giving consideration to such restrictions on thecountability and may include objectives which have auditor's judgment.their source in legislation, regulations, governmentordinances, and ministerial directives. "Compliance

ANNEX XV 113

ISA 8: Addendum 1, Additional Guidance on is provided as to the procedures that should beObservation of Inventory, Confirmation of considered by the independent auditor in assessing theAccounts Receivable and Inquiry Regarding work of the internal auditor.Litigation and Claims ISA 11: Fraud and Error

Summary. Guidance is provided on the application of Summary. The Standard defines fraud and error, andaudit evidence gathering procedures (attendance at indicates that the responsibility for the prevention of

stocktaking, direct confirmation of accounts receivable fraud and error rests with management. The auditorand direct communication with a client's lawyers) that should plan the audit so that there is a reasonableare generally accepted as providing the most reliable expectation of detecting material misstatementsaudit evidence in relation to certain assertions. The esultin of derror. mate stepedes

Addenum oulinesthe crcumsanceswhen hese resulting from fraud and error. Suggested proceduresare provided which should be considered when the

procedures should be applied and the matters to be auditor has an indication that fraud or error may exist.

considered in their implementation. Observation of An appendix sets out examples of conditions or eventsinventory is required (unless impracticable) when * *inventories are matenral to the financial statements inorder to secure evidence of the physical existence and ISA 12: Analytical Procedurescondition of inventory. Confirmation of accounts Summary. A description of the nature of analyticalreceivable is required when accounts receivable arematerial, and provides evidence of the existence of te obeties im andex of reliance obdebtors and the accuracy of recorded balances. aed on such po duresn pforminanc auditGuidance is given on the selection of accounts to be plso on such procedures in perfostig g an audnt.

confirmned, the use of positive and negative fluctuations.confirmations and the use of alternative procedureswhen confirmation is inappropriate or replies to ISA 13: The Auditor's Report on Financialconfirmations contain exceptions. Direct Statementscommunication with the entity's lawyer is required Summary. Guidance is provided to auditors on thewhen litigation or claims have been identified or are form and content of the auditor's report issued inbelieved may exist. Guidance is given on the form and connection with the independent audit of the financialcontent of the communication, and the need for the statements of an entitv. The Standard includesauditor to consider meetings with the lawyer if matters suggested wording to express an unqualified opinionare complex or there is a disagreement. and discusses circumstances that may result in other

ISA 9: Documentation than an unqualified opinion. An appendix sets forthexamples of an unqualified, and adverse auditor's

Summary. Guidance is provided on the general form rexpors an an dnialofoinion.and content of working papers as well as specificexamples of working papers normally prepared or Public Sector Perspective. While the basic principlesobtained by the auditor. Ownership and custody of contained in this Standard apply to the audit ofworking papers is also discussed. financial statements in the public sector, the legislation

giving rise to the audit mandate may specify the nature,content and form of the audit report. Readers should

Summary. The internal audit function constitutes a note that the ISA does not address is the form andseparate component of internal control undertaken by content of the auditor's report in circumstances wherespecially assigned staff within an entity. An objective financial statements are prepared in conformity with aof the internal auditor is to determine whether internal disclosed basis of accounting, whether mandated bycontrols are well-designed and properly operated. legislation or ministerial ( or other) directive.Much of the work of the internal audit department maybe useful to the independent auditor for the purpose ofhis examination of the financial information. Guidance

114 ANNEX XV

ISA 14: Other Information in Documents relationships and transactions with such parties inContaining Audited Financial Statements accordance with the provisions of IAS 24.

Summary. This Standard defines "other information" Public Sector Perspective. In applying the auditas financial and non-financial information included in a principles in this Standard auditors should makedocument which contains an entity's audited financial reference to legislative requirements which arestatements together with the auditor's report thereon. applicable to public sector entities and employees inAn entity usually issues such a document on an annual respect of related party transactions. Such legislationbasis which is frequently referred to as the "annual may prohibit entities and employees from entering intoreport." In circumstances, the auditor has statutory transactions with related parties. There may be also aobligation to report on other information and in other requirement for public sector employees to declarecircumstances he has no such obligation. This their interests in entities with which they transact on aguidance discusses the auditor's consideration of other professional and/or commercial basis. Where suchinformation on which he has no obligation to report legislative requirements exist, the audit proceduresand the actions he should undertake if a material would need to be expanded to detect instances of non-inconsistency or material misstatement of fact is compliance with these requirements.discovered. Readers should note that while PSC Guideline 1

ISA 15: Auditing in a Computer Information indicates that all IASs apply to business enterprises inSystems (CIS) Environment the public sector, IAS 24 does not require thatS2.ummary. Guidance is provided to auditors on the transactions between state controlled enterprises beduditional procedures necessary to comply with ISA 3 disclosed. Readers should also note that definitions of

"Basic Principles Governing an Audit," when auditing related parties included in IAS 24 and ISA 17 do notin a CIS environment. The skills and competence address all circumstances relevant to public sectorrequired of the auditor are described as well as his entities. For example, the status for purposes ofresponsibility when he delegates such work to application of ISA 17, of the relationship betweenassistants or uses work performed by others. ministers and departments of state and departments of

state and statutory authorities of govermment agenciesISA 16: Computer-Assisted Audit Techniques is not discussed.

Summary. This Standard provides guidance to the ISA 18: Using the Work of an Expertauditor when using computer-assisted audit techniques SuThIs Stdd provides guidance to the(CAATs) --particularly audit software and test data. auditor in instances when using the work of an expertThe ISA outlines instances when CAATs may be used, (specialist) engaged or employed by the client orfactors to consider in determining whether to use a auditor. The ISA outlines examples of cases when anCAAT and the major steps to be performed in CAAT auditor may need to use the work of an expert anapplication. In addition, special considerations when provides guidance on considerations relating to theusing CAATs ei a small business computer expert's skills, competence and objectivity. ISA 18environment are highlighted, outlines considerations that should be made by theISA 17: Related Parties auditor for communicating with the expert and offers

Summary. Discussed are procedures to be considered specific guidance on evaluating the work of an expert.in obtaining sufficient appropriate audit evidence ISA 19: Audit Samplingconceming the existence of, and transactions with, Summary. The factors that an auditor should considerrelated parties. This Standard is premised on the when designing and selecting an audit sample anddefinition and disclosure requirements set out in evaluating the results of audit procedures areIntemational Accounting Standard (IAS) 24, "Related identified. The ISA applies to both statistical and non-Party Disclosures." ISA 17 provides guidance toassist auditors in determining whether management of statistical sampling methods and provides fundamentalan entity has properly disclosed related party yet practical guidance on such matters as sampling,

ANNEX XV 115

risk, stratification, selection methods and projection of representations for reasonableness and consistencyerrors. with other evidence and other representations, and

'osder whether the individual making theISA 20: The Effects of an EDP Environment on the consiStudy and Evaluation of the Accounting System and representation can be expected to be well-informed.Related Internal Controls ISA 23: Going Concern

Summary. This Standard addresses the study and Summary. Guidance is provided to auditors inevaluation of the accounting system and related discharging their responsibilities in situations in whichinternal controls in an EDP environment and is an the appropriateness of the going concem assumption asextension of the guidance contained in ISA 6, "Study a basis for the presentation of financial statements is inand Evaluation of the Accounting System and Related question. The Standard notes that an entity'sIntemal Controls in Connection with an Audit" and continuance as a going concem is assumed in theISA 15, "Auditing in an EDP Environment." It absence of information to the contrary. If thisdescribes the common characteristics of an EDP assumption is unjustified, an entity may not be able toenvironment, including the factors that affect the realize its assets at the recorded amounts and there mayorganization and structure, nature of processing and be changes in the amount and dates of maturity ofdesign and procedural aspects of the system of liabilities resulting in the need for financial statementsaccounting and intemal control and differentiates and to be adjusted.explains the interrelationship of general EDP controls Public Sector Perspective. The appropriateness of(those that affect the EDP environment) and EDP the going concer assumption is generally not inapplication controls (those that affect accounting question when auditing either a central governent orapplications). those public sector entities having fundingISA 21: Date of the Auditor's Report; Events After arrangements backed by a central government.the Balance Sheet Date; Discovery of Facts After However, where such arrangements do not exist, orthe Financial Statements Have Been Issued where central government funding of the entity may beSummary .Guidance is provided on dating of the withdrawn and the existence of the entity may be atSummary. Guidance is provided on dating of theauditor's report; the auditor's responsibility in relation nsk, the ISA will provided useful guidance.to subsequent events, which are significant events ISA 24: Special Purpose Auditor's Reportsoccurring after the balance sheet date; and the auditor's Summary This Standard provides guidance toresponsibility in connection w"ith the discovery of facts auditors that issue audit reports that are other thanafter the financial statements have been issued. The those covered by ISA 13, notably, (A) fancialStandard describes steps the auditor generally performs statements prepared in accordance with ato identify subsequent events, responsibilities into 1 1 ~~~~~~~~~comprehensive basis of accounting other tharelation to events after the date of the auditor's report interational accounting standards or relevant nationalbut before the financial statements are issued, and standards, (b) specific accounts, elements of accounts,discovery of facts after the financial statements are or items of financial statements, (c) compliance withadisrsu A nappendix setsthmanem contractual agreements, and (d) summarized financial

statements. Appendices contain illustrations of specialISA 22: Representation by Management purpose auditor's reports.

Summary. This Standard provides guidance to the ISA 25: Materiality and Audit Riskauditor on using management representations as audit Summary. This Standard defines the concepts ofevidence, procedures the auditor should apply in materiality and audit risk, their interrelationship andevaluating and documenting them, and circumstances tin which written representations should be obtained. It plninand conducting an audit and evaluating theindicates that wth regard to representations for results of his procedures. Materiality is defined as thematerial financil statement matters, the auditor shouldseek corroborative evidence, evaluate the magnitude or nature of a misstatement including an

116 ANNEX XV

omission of financial information either individually or ISA 28: First Year Audit Engagements--Openingin the aggregate that, in the light of surrounding Balancescircumstances, makes it probable that, as a result of Summary. This Standard provides guidance as to thethe isstatement, the judgment of a reasonable person uditor's responsblities for opening balances when therelying on the information would have been influenced anciastae arepbeiingladite for thef tieor his decision affected. The assessment of materiality Iis a matter of the auditor's professional judgment and or were audited by another auditor in the prior year.

Isamatteredat bofthe anoverall level Judg t and iThe ISA outlines the audit procedures by whichis considered at both an overall level and in relat o sufficent appropate audit evidence may be obtainedthe individual account balances and disclosures. in bot cicustnce t dene weh te opening

in both circumstances to deterrnine whether the openingPublic Sector Perspective. In assessing materiality balances were misstated, correctly brought forward orthe public sector auditor must, in addition to exercising restated and appropriate accounting policiesprofessional judgment, consider any legislation or consistently applied. The auditor's reportingregulation which may impact on that assessment. considerations are set out where the auditor is unable

ISA 26: Audit of Accounting Estimates to obtain sufficient appropriate audit evidence andwhere the prior year audit report was other than

Summary. Guidance is provided to auditors on the unqualified. Appendices contain illustrations of otheraudit procedures that should be performed in order to than unqualified reports.obtain reasonable assurance as to the appropriatenessof accounting estimates contained in financial ISA 29: Inherent and Control Risk Assessments andof acountng etimaes cotaind infinacial Their Impact on Substantive Proceduresinformation. An accounting estimate is defined as anapproximation of the amount of an item in the absence Summary. Guidance is provided to the auditor inof a precise means of measurement. It is noted that assessing inherent and control risk and using suchmanagement is responsible for making accounting assessments to determine the nature, timing and extentestimates based upon its judgment of the uncertain of substantive procedures so as to restrict detectionoutcome of events that have occurred or are likely to risk to an acceptable level.occur and that the auditor is responsible for evaluating ISA 30: Knowledge of the Businessthe reasonableness of such estimates.

ISA 27: The Examination of Prospective Financial Summary: This Standard provides guidance on whatInformation is meant by a knowledge of the business, why it isimportant to the auditor and to members of the audit

Summary. This Standard deals with the examination staff working on an engagement, why it is relevant toand reporting procedures where an auditor is asked to all phases of an audit, and how the auditor obtains andreport on prospective financial information being either uses that knowledge. In performing an audit ofa forecast, based on best-estimate assumptions, or a financial statements, the auditor should have or obtainprojection based on hypothetical assumptions. a knowledge of the business sufficient to enable theRecognizing the future oriented nature of the auditor to identify and understand the events,engagement, the examination procedures recognize the transactions, and practices that, in the auditor'sspeculative nature of the evidence available to the judgment, may have a significant effect on the financialauditor, and while acknowledging a consistent audit statements or on the examination or audit report. Theobjective, differentiates between the evidence auditor's level of knowledge for an engagement wouldrequirements and process for best-estimate as distinct include a general knowledge of the economy and thefrom hypothetical assumptions. Emphasis is given to industry within which the entity operates, and a morethe importance of adequate disclosure of significant particular knowledge of how the entity operates. A listassumptions to an understanding of prospective of matters to consider in a specific engagement is setfinancial information and the auditor's role in ensuring out in the appendix to this ISA.this occurs.

ANNEX XV 117

ISA 31: Consideration of Laws and Regulations in should then perform procedures to help identifyan Audit of Financial Statements instances of noncompliance with those laws andSummary: This Standard provides guidance on the regulations to be considered when preparing financialauditor's responsibility to consider laws and statements and should obtain sufficient appropriateregulations in an audit of financial statements. When audit evidence about compliance with those laws andplanning and performing audit procedures and in regulations generally recognized by the auditor to haveevaluating and reporting the results thereof, the auditor an effect on the determination of material amounts andshould recognize that noncompliance by the ent itrh disclosures in financial statements. The appendix tolaws and regulations may materially affect the financial the ISA sets out examples of the type of information

statment. Hoeve, anaudi canot e execte to that might come to the auditor's attention that maystatements. However, an audit cannot be expected to indicate noncompliance. The Standard also outlinesdetect noncompliance with all laws and regulations. rocedures to follow when noncompliance isDetection of noncompliance, regardless of materiality, provered and when noncompliance isTequires consideration of the implications for the discovered and when noncompliance is reported tointegrity of management or employees and the possible management, to the users of the auditor's report on theeffect on other aspects of the audit. financial statements, and to regulatory and enforcement

effect ~~~~~~~~~~~~~~authorities.The Standard also defines management's responsibility Public Service Perspective. Many public sectorto ensure that the entity's operations are conducted in Public incluce additive. any publicisaccordance with laws and regulations. The engagements include additional audit responsibilitiesresponsibility for the prevention and detection of with respect to consideration of laws and regulations.rsoncompliance rests with the management. Even if the auditor's responsibilities do not extend

beyond those of the private sector auditor, reportingThe Standard also provides guidance on procedures for responsibilities may be different as the public sectorthe author's consideration of compliance with laws and auditor may be obliged to report on instances ofregulations. The auditor should obtain a general noncompliance to governing authorities or to reportunderstanding of the legal and regulatory framework them in the audit report. (In respect of public sectorapplicable to the entity and the industry and how the entities, the Public Sector Committee intends toentity is complying with that framework. The auditor supplement the guidance included in this ISA with a

Study.)

118 ANNEX XV

NOTES

ANNEX XVI 119

INTERNATIONAL ORGANIZATION OFSUPREME AUDIT INSTITUTIONS (INTOSAI)

Auditing Standards

The INTOSAI auditing standards consist of four parts: government will facilitate the accountabilityprocess. Management is responsible forcorrectness and sufficiency of the form and content

(a) Basic postulates of the financial reports and their information.

(b) General standards

(c) Field standards 5) Appropriate authorities should ensure the

(d) Reporting standards promulgation of acceptable accounting standardsfor financial reporting and disclosure relevant tothe needs of the government, and audited entities

a) Basic Postulates should develop specific and measurable objectivesand performance targets.

The basic auditing postulates stipulate that:6) Consistent application of acceptable accounting

1) The Supreme Audit Institution should consider standards should result in the fair presentation ofcompliance with the INTOSAI standards in all the financial position and the results of operations.matters that are defined material. Certain may notbe applicable to some of the work done by SAIsthose organized as Courts of Account, nor to the 7) The existence of an adequate system of internalnon-audit conducted by the SAI. The SAI should control minimizes the risk of errors ordetermine the appropriate standards for such work irregularities.to ensure that it is of consistent quality.

8) Legislative enactments would facilitate the co-2) The SAI should apply its own judgment to the operation of audited entities in maintaining and

diverse situations that arise in the course of providing access to all relevant data necessary forgovernment auditing. a comprehensive assessment of the activities under

audit.

3) With increased public consciousness, the demandfor public accountability of persons or entities 9) All audit activities should be within the SAls auditmanaging public resources has become mandate.increasingly evident so that there is a greater needfor the accountability process to be in place andoperating effectively. 10) SAls should work towards improving techniques

for auditing the validity of performance measures.

4) Development of adequate information, control,evaluation and reporting systems within the

120 ANNEX XVI

11) SAIs should avoid conflict of interest between the 2) The work of the audit staff at each level and auditauditor and the entity under audit. phase should be properly supervised during the

audit and documented work should be reviewed bya senior member of the audit staff.

b) General Standards

1) The auditor and the SAI must be independent. 3) The auditor in determrining the extent and scope of

the audit, should study and evaluate the reliability2) The auditor and the SAI must possess the required of internal control.

competence.

4) In conducting regularity (financial) audits, a test3) The auditor and the SAI must exercise due care should be made of compliance with applicable

and concern in complying with INTOSAI auditing laws and regulations.standards.

5) In conducting regularity (financial) audits, a test4) The SAI should adopt policies and procedures to should be made of compliance with applicable

recruit personnel with suitable qualifications. laws and regulations. The auditor should designaudit steps and procedures to provide reasonableassurance of detecting errors, irregularities, and

5) The SAI should adopt policies and procedures to illegal acts that could have a direct and materialdevelop and train SAI employees to enable them to effect on the financial statement amounts or theperform their task effectively. results of regularity audits. In conducting

performance audits, an assessment should be madeof compliance with applicable laws and regulations

6) The SAI should adopt policies and procedures to when necessary to satisfy the audit objectives. Theprepare materials and offer written guidance and auditor should design the audit to provideinstructions concerning the conduct of audits. reasonable assurance of detecting illegal acts that

could significantly affect audit objectives. Theauditor also should be alert to situations or

7) The SAM should adopt policies and procedures to transactions that could be indicative of illegal actssupport the skills and experience available within that may have an indirect effect on the audit resultsthe SAI and identify those skills which are absent. The regularity audit is an essential aspect of

government auditing. One important objectivewhich this type of audit assigns to the SAI is to

8) The SAI should adopt policies and procedures to make sure, by all the means put at its disposal, thatreview the efficiency and effectiveness of the SAIs the State budget and accounts are complete andinternal standards and procedures. valid. This will provide Parliamnent and other users

of the audit report with assurance about the sizeand development of the financial obligations of theState. To achieve this objective the SAI will

c) Field Standards examine the accounts and financial statements ofthe administration with a view to assuring that all

1) The auditor should plan the audit in a manner operations have been correctly undertaken,which ensures that an audit of high quality is completed, passed, paid and registered. The auditcarried out in an economic, efficient and effective procedure normally results, in the absence ofway in a timely manner. irregularity, in the granting of a "discharge."

ANNEX XVI 121

6) Competent, relevant and reasonable evidence out the findings in an appropriate form; its contentshould be obtained to support the auditor's should be easy to understand and free fromAnalysis of financial statements should be vagueness or ambiguity, include only informationperformed to such a degree that a rational basis is which is supported by competent and relevantobtained to express an opinion on financial audit evidence, and be independent, objective, fairmatters, judgment and conclusions regarding the and constructive.organization, program, activity or function underaudit.

2) It is for the SAI to which they belong to decidefinally on the action to be taken in relation to

7) In regularity (financial) audit, and in other types of fraudulent practices or serious irregularitiesaudit when applicable, auditors should analyze the discovered by the auditors. With regard tofinancial statements to establish whether regularity audits, the auditor should prepare aacceptable accounting standards for financial written report, which may either be a part of thereporting and disclosure are complied with. report on the financial statements or a separateAnalysis of financial statements should be report, on the tests of compliance with applicableperformed to such a degree that a rational basis is laws and regulations. The report should contain aobtained to express an opinion on financial statement of positive assurance on those itemsmatters. tested for compliance and negative on those

items not tested. With regard to performanceaudits, the report should include all significant

d) Reporting Standards instances of non-compliance that are pertinent to1) At the end of each audit the auditor should prepare the audit objectives.

a written opinion or report, as appropriate, setting

122 ANNEX XVI

NOTES

ANNEX XVII 123

REVIEW OF AUDIT FIRMS -- PRELIMINARY QUESTIONNAIRE(mainly for Private Auditors7)

Basic Information

Legal name of Auditor or Audit Firmn(s):

Audit Law Registration Number:

Date of comunencing Audit Practice:

Street Address:

Postal Address:

Telephone (with area code):

Telefax/Telex Number:

Address and Telephones of

Branches (if any):

Name/Address of Foreign

Affiliations (if any:

7 The acceptability of government auditors would normally be reviewed on a country basis and this annex would onlyapply for limited aspects.

124 ANNEX XVII

OUTLINE OF THE AUDIT FIRM

1. State the legal nature of the Audit Firm (sole proprietor, partnership etc.)

2. State the total number of auditors (excluding support staff) who are owners or employees of the Firnn.Indicate how many of these are licensed auditors.

3. Indicate which of the following services are provided by the Firm and show approximate share ofeach service to the Firn's total Fee Income.

% of Total

Fee Income

AuditingAccountingOther share

TOTAL I 0Q

4. For EACH licensed auditor who is an owner/employee, provide a separate attachment with theirnames and a brief summary of their qualifications and experience, including

* academic education and qualifications

* memberships of professional audit or accounting associations

* details of audit and accounting work experience, including any work experience outside the Country

* written and spoken fluency in English or other languages

5. Does the firm have any association or affiliation with any other professional firm such as auditors,accountants, consultants or lawyers, either in the Country or abroad? If so, please supply details.

INDEPENDENCE

6. Are any of the individuals listed above (or spouses or close relatives) employed by any level ofGovernment or Legislative Body or Public Agency? If so, please supply details.

ANNEX XVII 125

7. If a potential client -- the agency executing a World Bank-financed project -- proposed your firm forconsideration as auditors for the project, would you be prepared to provide written confimnation (at that time) thatthe Firm has no conflict of interest or lack of independence in accepting appointment as an auditor.

YES/NO

8. Confirm that, should your Firmn be appointed auditor to a World Bank-financed project, you wouldallow World Bank staff to carry out a quality assurance review of the audit working papers supporting any AuditReport issued.

YESINO

AUDIT PRACTICE

9. Attach (separately) a list of the Firm's major current and past clients (particularly any international orjoint venture clients) and state the type of service (audit, consulting advice, accountancy) provided to each client.

10. Have you perforned any audits jointly with intemational audit firms? If so, please provide details.

11. Are you willing to conduct audits jointly, under the general direction of an intemational audit andaccounting firm?

YESINO

12. State briefly the basis on which you deternine fees charged to clients for professional services that youprovide.

AUDIT STANDARDS AND PROCEDURES

13. State whether the Firm is aware of internationally accepted auditing and accounting standards, and oflocal accounting rules?

YESINO

126 ANNEX XVII

14. How do the Firm's audit procedures and methods ensure that these auditing and accounting standardsare complied with? State briefly.

15. Are the Firm's audit procedures and methods recorded in a manual or similar document?

YESINO

If not, how are audit staff trained in auditing and accounting concepts? Also, how is day-to-dayguidance in audit techniques provided to them?

16. State briefly how the work of employees is supervised.

17. State briefly the internal procedures you employ to assure intemal quality of work and service, such asa second review (for quality assurance) within the Firm, consultation with experts, or review of work by extemalparties.

18. Should the World Bank wish to consider you for selection as auditor to World Bank-financed projects,would you permit World Bank representatives to review the Firm's audit procedures and method?

YES/NO

GENERAL

19. Attach copies of any references from clients, any brochures, or other promotional material describingyour Firm.

List below the headings and number of pages of any attachments that you have enclosed with this questionnaire.

ANNEX XVIII 127

GUIDELINES FOR AUDITORSTERMS OF REFERENCE AND ENGAGEMENT LETTER

1. Normally, the Bank approves the terms of reference (TOR) of the auditor to be engaged by aborrower or project entity. Preferably staff should not be involved in the drafting of the TOR, though thereis no objection to staff members giving advice to the borrower based on these guidelines.

2. The guidelines should not be regarded as universally applicable to audits of Bank projects orproject entities. Staff should select those components they consider appropriate for a particular auditengagement and add relevant matters that are not in the guidelines. This relates only to the appointment ofauditors to carry out an audit of an organization's financial statements, project financial statements,adjustment operations, statements of expenditure (SOEs), and special accounts (SAs). It is not intendedfor any special reviews, investigation, or consulting work.

3. Terms of reference for an AuditorThe form and content of the TOR may vary for each project, and some aspects may be included in

an engagement latter. In general, it should include the points outlined below.

4. Summary of Contents of TOR/Engagement Letter

a) Description of the employing authority or entity,

b) Delivery of audit report,

c) Description and timing of the financial statements and other material to be provided by themanagement for the audit,

d) the fact that the audit should be carried out in accordance with international standards onauditing,

e) "management letter,"

128 ANNEX XVIII

f) statement of access to records and personnel available to the auditor,

g) submission of proposal and work plan by the auditor.

5. Detailed Contents to be Included in the TOR/Engagement Letter

a) The TOR should describe the institution engaging the auditor and whether it is acting onbehalf of, or is a constituent part of, a larger deterrnining his/her independence and thescope of work.

b) Both a legal and a general description of the entity should be provided in sufficient detail toenable the auditor to understand fully the nature and objective of the entity. The followingadditional information would be helpful:

(i) organizational charts;

(ii) names of senior managers;

(iii) name and qualification of the person(s) responsible for financial management,accounting, and internal audit;

(iv) name and address of any existing external auditor;

(v) data processing facilities in use; and

(vi) a copy of the latest financial statements (where available).

c) The auditor should be invited to:

(i) submit a proposal for the audit of the financial statements

(i.e., financial statements of the executing entity, adjustment operations, projectfinancial statements, SOEs, SAs, or a combination of the above);

(ii) deliver an opinion based on the scope and detail of the audit of such statements; and

ArNNEx XVIII 129

(iii) provide a "management letter" describing the improvements needed, if any, in theaccounting and internal control systems of the entity and the proper use ofresources.

The TOR/Engagement Letter should specify whether the engagement is for more fiscalyears (or for another specified period).

d) While the auditor is responsible for forming and expressing opinions on the financialstatements, the responsibility for their preparation lies with the management of the entity.Therefore, the form of the annual financial statements and supporting documentation thatwill be supplied to the auditor should be specified. The estimated time for the provision ofthese documents to the auditor should be given (e.g., two months after the close of thefiscal year).

e) The scope and detail of the audit should be clearly explained so an auditor can determine ifthere are requirements beyond those of a routine audit. Below are examples of typicalrequirements:

(i) The audit should be carried out in accordance with international standards onauditing. The auditor should indicate the extent (if any) to which the examinationwould not conform to those standards.

(ii) The auditor should comment on and confirm the extent to which generally acceptedaccounting principles have been and are being consistently applied. The auditorshould indicate any material differences from international accounting standards,where relevant, and their effect on the annual financial statements.

(iii) Statement of Expenditures (SOEs)

The auditor should be required to verify SOEs with accounting records, supportingdocumentation, and physical inspection of work done, or goods and services

130 ANNEx XVIII

acquired. He/she should also establish (with reference to the disbursement letter)that expenditures claimed for reimbursement are eligible for financing under theLoan Agreement.

(iv) Special Account (SA)

The auditor should be required to verify the correctness of SA financial transactions,including the reconciliation of receipts with payments by the Bank, the findbalances, and the operation and use of SAs in accordance with the Loan Agreement.

Management Lefter

The management letter should include comments and recommendations for improvements to theborrower's financial and administrative systems and controls, as well as remarks on other matters towhich the management's attention should be drawn. To supplement the management letter, theauditor may be asked to conduct a special review of one or more of the following8 :

A. economy, efficiency, and effectiveness in the use of resources;

B. achievement of the planned results of the project;

C. legal/financial obligations and commitments of the entity and extentof compliance or noncompliance;

D. specific systems (e.g., improvements in accounting and dataprocessing operations that may be under development) on which theauditor's comments are necessary to ensure accuracy, efficiency, andproper controls; and

E. any other activities on which an auditor may report.9

Provided these matters are within the scope of the auditor's professional competence.The foregoing list is not exhaustive, nor should all matters be addressed in every project. The scope and detail of anaudit are likely to be unique to each project or project entity.

ANNEx XVIII 131.

6. Other Aspects Related to the Audit Engagement

a) The selected auditor should be asked to prepare an engagement letter (see Annex X>). Incountries where an auditor's specific obligations are provided for by law, this step may notbe necessary, but such a letter would still be informative for the borrower. To help avoidmisunderstandings, it is in the interest of both the auditor and the borrower that the auditorsend the engagement letter before the engagement commences. The form and content ofthe audit engagement letter may vary for each client, but it should generally includereference to the matters addressed in this annex. In addition, it should:

(i) State management's responsibility for specifying the timing and nature of financialstatements, and disclosing requirements or other information that is expected to beprovided under the audit arrangements.

(ii) Establish a timetable for providing the audit opinion and reports.

(iii) Estimate staff time and audit fees as an indication of the intensity of the audit effortand the level of staff engaged on the assignment.

b) On recurring audits, the auditor should not be asked to issue a new engagement letter eachyear. However, the following factors could call for a new letter:

(i) any indication that the client misunderstands the objective and scope of the audit,

(ii) any revised or special terms of the engagement,

(iii) a recent change of management,

(iv) a significant change in the nature or size of the client's business, and

(v) legal requirements.

132 ANNEX XVIII

7. The reporting package to be provided by the auditor would normally comprise

a) the annual financial statement of the implementing organization (where required), of theproject including SOEs and the SA;

b) an opinion by the auditor acceptable to the Bank on (i) the required financial statements, (ii)a separate reference in the above opinion on the audit of the special account in accordancewith the stipulations of the legal documents, and (iii) a separate reference in the aboveopinion on withdrawals from the loan account on the basis of SOEs in accordance with theLegal Agreements:

c) a management letter; and

d) where required in the TOR, the status of compliance with the legal covenants.

ANNEX XIX 133

SAMPLE TERMS OF REFERENCE FOR THEAUDIT OF PROJECT FINANCIAL STATEMENTS

(and Accompanying SOE and SA Where Applicable)

Objective

The objective of the audit of the Project Financial Statement (PFS) is to enable the auditor to express aprofessional opinion on the financial position of I project at the end of each fiscal year and of the fundsreceived and expenditures for the accounting period ended mm/dd/yy, as reported by the PFS, [as well as an opinionon the Statement of Expenditures].

The project accounts (books of account) provide the basis for preparation of the PFS and are established toreflect the financial transactions in respect of the project, as maintained by the project implementing agencyI I.

Scope

The audit will be carried out in accordance with International Standards of Auditing, and will include suchtests and controls as the auditor considers necessary under the circumstances. In conducting the audit, specialattention should be paid to the following:

(a) All external funds have been used in accordance with the conditions of the relevant financing agreements,with due attention to economy and efficiency, and only for the purposes for which the financing was provided.Relevant financing agreements are (--------name of loan agreement);

(b) Counterpart funds have been provided and used in accordance with the relevant financing agreements, withdue attention to economy and efficiency, and only for the purposes for which they were provided;

(c) Goods and services financed have been procured in accordanc with the relevant financing agreement;

(d) All necessary supporting documents, records, and accounts have been kept in respect of all project ventures[including expenditures reported via SOEs or SAsl. Clear linkages should exist between the books of account andreports presented to the Bank.

(e) Where Special Accounts have been used, they have been maintained in accordance with the provisions of therelevant financing agreement

134 ANNEX XIX

(f) The project accounts have been prepared in accordance with consistently applied International AccounfingStandards and give a true and fair view of the financial situation of the project at nmu/dd/yy and of resources andexpenditures for the year ended on that date.

Project Financial Statements

The Project Financial Statements should include

(a) a Summary of Funds received, showing the World Bank, project funds from other donors, and counterpartfunds separately;

(b) a Summary of Expenditures shown under the main project headings and by main categories of expenditures,both for the current fiscal year and accumulated to date; and

(c) a Balance Sheet showing Accumulated Funds of the Project, bank balances, other assets of the project, andliabilities, if any.

As an annex to the Project Financial Statements, the auditor should prepare a reconciliation between theamounts shown as "received by the project from the World Bank" and that shown as being disbursed by the Bank.As part of that reconciliation, the auditor should indicate the mechanism for the disbursement, i.e. Special Accounts,Statements of Expenditures, or direct reimbursement,

Statements of Expenditures

In addition to the audit of the PFS, the auditor is required to audit all SOEs used as the basis for thesubmission of withdrawal applications. The auditor should apply such tests and controls as the auditor considersnecessary under the circumstances. These expenditures should be carefully compared for project eligibility with therelevant financing agreements, and with reference to the Staff Appraisal Report for guidance when considerednecessary. Where ineligible expenditures are identified as having been included in withdrawal applications andreimbursed against, these should be separately noted by the auditor. Annexed to the Project Financial Statementsshould be a schedule listing individual SOE withdrawal applications by specific reference number and amount. Thetotal withdrawals under the SOE procedure should be part of the overall reconciliation of Bank disbursementsdescribed above.

Special Accounts

In conjunction with the audit of the Project Financial Statements, the auditor is also required to audit theactivities of the Special Accounts associated with the Project. The Special Accounts usually comprise

* deposits and replenishments received from the Bank

* payments substantiated by withdrawal applications

* interest that may be eamed from the balances and which belong to the borrower; and

* the remaining balances at the end of each fiscal year.

The auditor must form an opinion as to the degree of compliance with the Bank's procedures and the balanceof the Special Account at year-end. The audit should examine the eligibility and correctness of financial transactionsduring the period under review and fund balances at the end of such a period, the operation and use of the SA in

ANNEX XIX 135

accordance with the financing agreement, and the adequacy of internal controls for this type of disbursementmechanism.

For this project, the Special Accounts are referred to in [cite references] of the relevant financingagreements. Special Accounts statements and the auditor's report should with the Project Financial Statements.

Audit Opinion

Besides a primary opinion on the Project Financial Statements, the annual audit report of the ProjectAccounts should include a separate paragraph commenting on the accuracy and propriety of expenditures withdrawnunder SOE procedures and the extent to which the Bank can rely on SOEs as a basis for loan disbursement. Thefinancial statements, including the audit report, should be received by the Bank no later than [three to six] monthsafter the end of the accounting period to which the audit refers. The auditor should submit the report to theborrower's designated agent rather than to any staff member of the project entity. The agent should then promptlyforward two copies of the audited accounts and report to the Bank.

Management Letter

In addition to the audit reports, the auditor will prepare a "management letter," in which the auditor will:

(a) give comments and observations on the accounting records, systems, and controls that were examined duringthe course of the audit;

(b) identify specific deficiencies and areas of weakness in systems and controls and make recommendation fortheir improvement;

(c) report on the degree of compliance of each of the financial covenants on the financing agreement and givecomments, if any, on internal and external matters affecting such compliance;

(d) communicate matters that have come to attention during the audit which might have a significant impact onthe implementation of the project; and

(e) bring to the borrower's attention any other matters that the auditors considers pertinent.

General

The auditor should be given access to all legal documents, correspondence, and any other informationassociated with the project and deemed necessary by the auditor. Confirmation should also be obtained of amountsdisbursed and outstanding at the Bank [and of amounts disbursed under [specify other donor, loan or grant, if any].Bank Task Managers can assist in obtaining these confirmations.

It is highly desirable that the auditor become familiar with a copy of the Bank's Guidelines on FinancialReporting and Auditing of Projects Financed by the World Bank, which summarizes the Bank's financial reportingand auditing requirements. The auditor should also be familiar with the Bank's Disbursement Manual. Bothdocuments will be provided by the Task Manager.

136 ANNEx XIX

NOTES

ANNEx XX 137

EXAMPLE OF AN AUDIT ENGAGEMENT LETTER

(usually prepared by the auditor)

To the Board of Directors or the appropriate representative of senior management:

You have requested that we audit (insert names of financial statements) as of and for the yearending .. We are pleased to confirm our acceptance and our understanding in thisengagement by means of this letter. Our audit will be made in accordance with applicable authoritativepronouncements in [name of country] with the objective of our expressing an opinion on the financial statements.

In forming our opinion on the financial statements, we will perform sufficient tests to obtain reasonableassurance as to whether the information contained in the underlying accounting records and other source data isreliable and sufficient as the basis for the preparation of the financial statements. We will also decide whether theinformation is properly communicated in the financial statements.

Because of the test nature and other inherent limitation of an audit, together with the inherent limitations ofany system of intemal control, there is an unavoidable risk that even some material misstatements may remainundiscovered.

In addition to our report on the financial statements, we expect to provide you with a separate letterconcerning any material weaknesses in internal control which come to our notice.

May we remind you that the responsibility for the preparation of financial statements including adequatedisclosure is that of management. This includes the maintenance of adequate accounting records and intemalcontrols, the selection and application of accounting policies, and the safeguarding of the assets. As part of our auditprocess, we will request from management written confirmation conceming representations made to us in connectionwith the audit.

We look forward to full cooperation with your staff and we trust that they will make available to us whateverrecords, documentation and other information are requested in connection with our audit.

Our fees, which will be billed as work progresses, are based on the time required by the individuals assignedto the engagement plus direct out-of-pocket expenses. Individual hourly rates vary according to the degree ofresponsibility involved and the experience and skill required.

This letter will be effective for future years unless it is terminated, amended or superseded.

Please sign and return the attached copy of this letter to indicate that it is in accordance with yourunderstanding of the arrangements for our audit of the financial statements.

XYZ & Co.

Note: Additional items may be included in accordance with the Guidelines for TOR and Engagement Letters --Annex XVIII.

138 ANNEX XX

NOTES

ANNEX XXI 139

MODEL AUDIT REPORTUnqualified Opinion

(For an Organization)

Addressee'0

Introductory Paragraph

We have audited the accompanying [indicate names of each financial statement] of the XYZ Company as ofDecember 31, 19XX [indicate any other additional years necessary] for the year(s) then ended. These financialstatements are the responsibility of [identify Borrower]. Our responsibility is to express an opinion on these financialstatements based on our audit.

Scope Paragraph

We conducted our audit in accordance with International Standards on Auditing. Those Standards require thatwe plan and perform the audit to obtain reasonable assurance about whether the financial statements are free ofmaterial misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosuresin the financial statements. An audit also includes assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statement presentation. We believe that our auditprovides a reasonable basis for our opinion.

Opinion Paragraph

In our opinion, the financial statements give a true and fair view of the financial position of the XYZ Companyas of December 31, 19XX, and of the results of its operations and its cash flows for the year then ended in accordancewith [indicate International Accounting Standards or relevant national standards].

[Name and Address of Audit Firm]

[Date - Completion Date of Audit]

10 The auditor's report should be appropriately addressed as required by the circumstances of the engagement and localregulations.

140 ANNEX XXI

MODEL AUDIT REPORTUnqualified Opinion

(for Project Financial Statement including SOE)

Addressee"

Introductory Paragraph

We have audited the accompanying financial statements of the f [ Project [financed under WorldBank Loan No. /IDA as of December 31, 19XX [indicate any other additional years necessary] for the year(s)then ended. Our responsibility is to express an opinion on these financial statements based on our audit.

Scope Paragraph

We conducted our audit in accordance with International Standards on Auditing [or relevant national standardsor practices, and/or World Bank guidelines]. Those Standards and/or World Bank guidelines require that we plan andperform the audit to obtain reasonable assurance about whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in thefinancial statements. An audit also includes assessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation. We believe that our audit provides areasonable basis for our opinion.

Opinion Paragraph

In our opinion, the financial statements give a true and fair view of the Sources and Application of Funds'2 of_Project for the year ended December 31, 19XX, in accordance with [indicate International

Accounting Standards or relevant national standards. Add "financial position" at December 31, l9XX where abalance sheet is required.]

In addition, (a) with respect to SOEs, adequate supporting documentation has been maintained to supportclaims to the World Bank for reimbursements of expenditures incurred; and (b) which expenditures are eligible forfinancing under the Loan/Credit Agreement [Ln/Cr. Il.

[Name and Address of Audit Firm]

[Date - Completion Date of Audit]

The auditor's report should be appropriately addressed as required by the circumstances of the engagement and localregulations.

12 A "Source and Application of Funds" statement is always required for each project. A balance sheet is also requiredwhere the project has assets and liabilities.

ANNEX XXI 141

MODEL AUDIT REPORTUnqualified Opinion

(Special Account)

Addressee"3

Introductory Paragraph

We have audited the accompanying [Sources and Application of Funds] of the 'Special Account" of theProject (Loan/Cr. No. ) for the year ended December 31, 19XX. Our responsibility is to

express an opinion on the financial statements of the Special Account based on our audit.

Scope Paragraph

We conducted our audit in accordance with International Standards on Auditing [or relevant national standardsor practices, and/or World Bank guidelines for Special Accounts]. Those Standards and World Bank guidelinesrequire that we plan and perform the audit to obtain reasonable assurance that the Special Account financial statementis free of material misstatement. We believe that our audit provides a reasonable basis for our opinion.

Opinion Paragraph

In our opinion, the financial statements of the Special Account give a true and fair view of the financialposition of the Special Account as of the Project (Loan/Cr. No. ) December 31, 19XX, forthe year then ended in accordance with International Accounting Standards [or relevant national standards and WorldBank guidelines], and of the Sources and Application of Funds..

[Name and Address of Audit Firm]

[Date - Completion Date of Audit]

13 The auditor's report should be appropriately addressed as required by the circumstances of the engagement andlocal regulations.

142 AMNEX XXI

EXAMPLES OF AUDIT REPORTSOTHER THAN UNQUALIFIED14

Qualified Opinion:

Exception: (Separate paragraph required after Scope paragraph)

The company is defendant in a lawsuit which alleges that the company has infiinged patent rightsamounting to $30 million. Directors and counsel believe that the company has a reasonable prevailing,but the ultimate outcome of the lawsuit cannot presently be determined, and no provision for anyliability that may result has been made in the financial statements.

(Revised Opinion paragraph)

In our opinion, subject to the effect, if any, on the financial statements of the matter discussed in thepreceding paragraph, the financial statements.

Adverse: (Separate paragraphs required after Scope paragraph)

Note X to the Financial statements of the company states that value of shares in ZZZ Company, asubsidiary of the XYZ company, at cost, to be $2 million. The accounts of the company as ofDecember 31, 1 9XX report significant losses on operations for the period ended as of that date.

The value of the investment recorded in the ZZZ Company exceeds the market value by $1.5 million.In our opinion the investment should have been written down by $1.5 million and a charge of $1.5million should have been made to the income statement. Such a charge would result in the net income ofthe company to be reduced from $2.3 million to $0.8 million.

(Revised Opinion paragraph)

In our opinion, subject to the matter discussed in the preceding paragraph, the financial statements. donot give a true and fair view .

Disclaimer: (Revised Introductory paragraph)

We were engaged to audit the accompanying ... for the years then ended. These financial statements arethe responsibility of [borrower]. (Omit the sentence stating the responsibility of the auditor.)

(Scope paragraph would either be omitted or amended according to the circumstances.)

(Separate paragraph required after Scope paragraph, if any.)

In the value of the year-end inventory, as shown in the balance sheet, an amount of $50 million has beenincluded as the estimated margins on sales. The XYZ Company has not conducted a physicalverification of its inventory since the end of the previous reporting period. The company's records donot permit the application of alternative audit procedures to determine the existence of such inventories.

(Revised Opinion paragraph)

Because of the significance of the matters discussed in the preceding paragraph, we do not express anopinion on the financial statements.

14 An auditor may not be able to express an unqualified opinion when there is a limitation on the scope of the auditor's work; or thereis a disagreement with management regarding the acceptability of the accounting policies selected, the method of their applicationor the adequacy of financial statement disclosures.

ANNEx XXII 143

OUTLINE OF A MANAGEMENT LETTER

Dear:

We have audited the financial statements of the (company name) for the year ending mm/yy and have issuedour report date mmn/yy. In planning and performing our audit of (company name), we considered its internalaccounting control structure in order to determine our auditing procedures for the purpose of expressing our opinion onthe financial statements and not to provide assurance on the internal accounting control structure. We noted nomatters involving the internal accounting control structure and its operation that we consider to be material weaknessesin accordance with the standards referred to above.

This report is comprised of three sections. Section I contains recommendations related to certainimprovements in the existing systems and procedures noted in the current year. Section II contains prior yearrecommendations which have not yet been fully implemented. Section III contains prior year recommendations whichhave been fully resolved (managements' comments would be noted following each recommendation).

This report is intended solely for the information and use of management and others within the organizationand should not be used for any other purpose.

During this year's audit we note that the (company name) has addressed most of the recommendations included in ourprior year report. With respect to our current and carryover recommendations, we suggest that an implementationtimetable continue to be prepared and approved by appropriate management.

Yours very truly,

144 ANNEX XXII

NOTES

ANNEX XXIII 145

[name of country]

TERMS OF REFERENCE FOR REVIEW OF GOVERNMENTACCOUNTING AND AUDITING ARRANGEMENTS

(Part of Country Assessment)

(This TOR does not cover the Public Sector management issues of laws, regulations, staffing and training.)

1. The objective of this assignment is to assess the status of accounting, financial reporting and auditing forall spending units financed by funds from the Government of . (Approximately two thirds of the timeallocated for the assignment will be spent on accounting and financial reporting aspects and about one third on auditingarrangements.)

2. Accountability Background -- managing public programs rests on an elaborate structure of relationshipsamong all levels of government. Officials and employees, who manage these programs, need to render an account oftheir activities to the public. While not always specified by law, this accountability concept is inherent in thegoverning processes of most countries. While the present review is fact finding, the consultant will inevitably observesituation where organizations, programs and services are not being operated economically and efficiently; these shouldbe noted.

3. Accounting and Financial Reporting.

3.1. A government accounting system must make it possible both (1) to present fairly and with full disclosurethe financial position and results of financial operations of the funds and account groups (or spending units) of thegovernmental unit in conformity with the generally accepted accounting principles, and (2) to determine anddemonstrate compliance with finance related legal and contractual provisions. With this in mind, the consultant willcarry out an assessment of

(a) the financial systems, procedures and regulations manuals of Government for use by spending units.

(b) the accounting standards (Generally Accepted Government Accounting Standards) that are required byGovernment to be used by the spending units and the extent to which they relate to accounting standards in the privatesector, to international accounting standards of IASC or reconmnendations of the public sector committee of theInternational Federation of Accountants, and

(c) prepare an evaluation of the appropriateness of the systems, procedures, regulations and standards and theextent to which they reflect modern practice.

3.2. Review with each Spending Unit (or Ministry, Departnent or Agency for several spending units) the statusof their accounting and financial reporting by determining:

146 ANNEx XXIII

* the type of financial reporting required

* last period for which reports are available

* applicable accounting standards

* basic of accounting (cash, modified cash, modified accrual or full accrual)

* last period audited

* date of audit certificate

* Auditor's Opinion (clean, qualified, adverse, or disclaimed)

* Name of Auditor (Government/Private)

4. Auditing Arrangements

4.1 Auditing of annual financial statements of spending units will generally be undertaken by the Auditor-General. However, in certain circumstances, especially for revenue earning/commercially oriented enterprises, the auditmay be carried out by an independent audit firm from the private sector. The Consultant will assess the generalcompetency of such audit firms to carry out such audits and note any cases where impartiality may be questionable(for example, where more than about 30% of the firm's fee income may come from a single client). Compliance withIntemational Standards on Auditing of IFAC or national audit standards should be noted.

4.2 Where the audits are carried out by the Auditor-General there is a general obligation on him/her forensuring that:

a) the audit is conducted by personnel who collectively have the necessary skills;

b) the Auditor-General is independent;

c) applicable standards (IFAC/IAPC, INTOSAI, Govermments own standard etc.) are followed in planning andconducting audits and reporting the results;

d) the Auditor-General has an appropriate internal quality control system in place; and

e) the Auditor-General's office periodically undergoes an external quality control review.

These matters will need to be discussed with the Auditor-General to assess the extent of his own compliance with theabove obligations.

4.3 Similarly the types of audits carried out should be reviewed to determine that in the case of financial audits,(including financial statement audits)-

(a) they provide reasonable assurance about whether the financial statements of an audited spending unit presentfairly the financial position, results of operations, and cash flows in conformity with generally acceptedaccounting principles;

(b) they determine whether (1) financial information is presented in accordance with established or states criteria,(2) the spending unit has adhered to specific financial compliance requirements, or (3) the spending unit'sintenal control structure over financial reporting and/or safeguarding assets is suitably designed andimplemented to achieve the control objectives.

(c) they may also include audits of:

ANNEX XXIII 147

* budget requests and variances between estimated and actual financial performance

* internal controls over compliance with laws and regulations, such as those governing the bidding for,accounting for, and reporting on grants and contracts (including proposals, amounts billed, amounts dueon termination claims, and so for the)

* internal controls over financial reporting and/or safeguarding assets, including controls using computer-based systems

* compliance with laws and regulations and allegations of fraud.

The consultant should comment on the general extent and scope of financial audits.

4.4. The consultant should also comment on the extent to which performance audits have been carried out byeither private sector or government auditors. A performance audit is an objective and systematic examination ofevidence for the purpose of providing an independent assessment of the performance of a government organization,program, activity, or function in order to provide information to improve public accountability and facilitate decision-making by parties with responsibility to oversee or initiate corrective action. Performance audits include economy andefficiency and program audits.

(a) Economy and efficiency audits include determiining (1) whether the entity is acquiring, protecting and usingits resources (such as personnel, property, and space) economically and efficiently, (2) causes ofinefficiencies or uneconomical practices, and (3) whether the entity has complied with laws and regulations onmatters of economy and efficiency. Questions and issues to be raised by the consultant in this area wouldinclude the extent to which the spending unit is:

* following sound procurement practices;

* acquiring the appropriate type, quality, and amount of resources at an appropriate cost;

* properly protecting and maintaining its resources;

* avoiding duplication of effort by employees and work that serves little or no purpose;

* avoiding idleness and overstaffing;

* using efficient operating procedures;

* using the optimum amount of resources (staff, equipment and facilities) in producing or delivering theappropriate quantity and quality of goods or services in a timely manner.

* complying with requirements of laws and regulations that could significantly affect the acquisition,protection, and use of the spending unit's resources;

* has an adequate management control system for measuring, reporting, and monitoring a program'seconomy and efficiency; and

* has reported measures of economy and efficiency that are valid and reliable.

b) Program audits include determining (1) the extent to which the desired results or benefits established by thelegislature or other authorizing body are being achieved, (2) the effectiveness of organizations, programs,activities, or functions, and (3) whether the entity has complied with significant laws and regulationsapplicable to the prograrn. The consultant may be able to determine from specimen program audits whetherthe following matters have been addressed to give credibility to such reports for scope and depth:

148 ANNEX XXIII

* assess whether the objectives of a new, or ongoing program are proper, suitable, or relevant;

* detem-ine the extent to which a program achieves a desired level of program results;

* assess the effectiveness of the program and/or of individual program components;

* identify factors inhibiting satisfactory performance;

* determine whether management has considered altematives for carrying out the program that might yield desiredresults more effectively or at a lower cost;

* determine whether the prograrn complements, duplicates, overlaps, or conflicts with other related programs;

* identify ways of making programs work better;

* assess compliance with laws and regulations applicable to the program;

* assess the adequacy of the management control system for measuring, reporting and monitoring a program'seffectiveness; and

* determine whether management has reported measures of program effectiveness that are valid and reliable.

The consultant will report his findings in writing within 4 weeks of the completion of his field visit. Such report shallalso include a suggested action plan to indicate how improvements can be made in both financial reporting/accountingarrangements as well as for the annual or other periodic audit reports.

INDEX 149

INDEX

accountability 1, 35 financial statement 1, 127, 134financial 35, 36, 37, 38 implementing agencyfinancial

management letter 32, 143accounting public sector 28-29, 37

accrual vs. cash 43 statement 23educanon 8 provision 11for leases 7 report 14, 15, 32, 89, 135, 139-142public sector 36,37 review ofauditfirms 123sectors 9, 36, 75 terms of reference 14, 30, 127-137structure 3-4 timing of audit report 32

accounting and auditing covenant 11, 15 auditing standards 26, 37, 39, 111, 119

accounting profossion 39 auditorgovernment 27, 38

accounting standards 4, 6, 17, 36, 43 independence 29development of 40 private sector 28international 6, 46,47,53,90,162 questionnaire 123-126national 39 selection of 27

reminder to borrower of require-accounting systens 3, 4, 13, 36 ment to appoint auditors 83

accrual vs. cash 43commercially oriented vs. government 5 Auditor General 37decentralized vs. centralized 5for entities implementing revenue auditor's opinion

earningprojects 61-69 qualified, adverse, dis-non-revenue earning projects 71-73 claimer of 31, 142,review 145 unqualified, 23, 31-32, 139-141

accrual basis accounting 4, 43 balance sheet 17

application of funds 17, 19, 22 bank reconciliation 8

ARCS 16 budgetbudgetary control, system 36

Articles of Agreement (Bank) 1 budgeting system 4management 43

audit problems in developing countries 5arrangements 3, 14, 139commission 37 BP 21,22compliance 4-16, 23, 26financial 32 CAAT 114type of:adjustment ops. 51, 59, 80 cash basis accounting 7, 43compliance, operational, subsidiary 23engagement letter 30, 111, 127-137 cash flow statement 17-18

150 INDEX

chart of accounts 46, 62 fixed assets 46, 67, 95

CIS 114 GAAP 6

COD 15 GAAS 30

Controler Geneal 37 goverment acunting 43

Country Financial Accountability govermnent aounig system 4-5, 36, 145Assessments 16, 35, 145

government auditors 27countzy review 16, 35, 40

grace period 14Court of Accounts 37

IFAC 6, 111covenants 11

IAPC 111, 146CPPR 16

lASC 6, 47, 93disclosure requirements 6

IAS 6EDP 115

income statement 18, 24finncial information 4, 81, 112-113

qualifties ofgoodfinancial informa- independence 29, 39tion 1, 13

interim reports 17financial management 44

checklist for assessing revenue-earning intemnal auditors 38projects 9

environment, information, structure 3 internal control 7-8, 54for sectors 9 risk 45, 55

reviews 61-69, 71 - 73 structure 3system 1-2, 9, 10, 13 system 3

weaknesses 14financial reporting

arrangement 3linkage to performance monitoring 14 INTOSAI 37, 119requirement 3, 38the Bank's requirements 15, 17 inventory 46,50,63,68

finncial services ISA 26-27, 111-117private sector 3840

leases 7, 56financial statnents

elements offinancial statements 93 legalfor project 19 enironment 10of implementingorganizations 17, 95 covenants 11specimen 96 - 106

INDEX 151

lending operations PSC 114adjustment, emergency,hybrid 22,26 public sector accounting 36-37

public sector audifing 37, 111management letter 14, 32, 135, 143

regulatory environment 10matching 6

revenue-eaning entities 9, 61-69modified accrual basis 43-44

SA 17, 21, 109monitoring for performance 13, 14 audit of 25, 135

multi-state loan 16 SAI 27, 37, 119

nonrevenue-mning entities 4, 9, 71-73 SAL 22

note and supplementary information 17 SAR 10

OP 21, 22 SECAL 22

opinions SGSA 21auditor 31

SOD 15performance indicators 3, 4, 13

SOE 15- 16, 19-22, 25, 103private sector accounting 28, 38 auditof 25, 134

procedures 15project TMreview of 79

accounting structure 3 withdrawal schedule 107accounts 17appraisal 3, 68 source of fuids 17, 19, 22cycle 3budget 13 subsidiary audits 33financial information 83for schools 10 technical assistance 40implementation 1, 13-14, 83management 13-14 TORS- Auditors 127, 133monitoring 14 Government Accounting andorganization 5 Auditing 145types 8

VAT 36

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