Tertiary and Further Education Institutes: Results of the 2013 Audits

Conclusion

The quality of financial reporting in the TAFE sector is adequate. However, performance reporting remained underdeveloped and inconsistent, lacked clear direction and did not facilitate comparability across the sector. A new performance reporting framework being introduced in 2014 provides for greater links between strategic directions and key performance indicators, however, it does not address key elements aimed at providing greater comparison of performance across the sector.

The TAFE sector generated a net deficit of $16.2 million—a decrease of $74.8 million from the $58.6 million surplus in 2012. The results were affected by decreased government funding to the TAFE sector, partially offset by an increase in student fee revenue and reduced costs. The results suggest that many TAFEs have yet to adapt sufficiently to changes to the funding model and the new contestable environment.

Quality of financial reporting

Clear audit opinions were issued on the financial reports of 27 TAFE entities. An emphasis of matter paragraph was included in the financial report of Northern Melbourne Institute of TAFE (NMIT), drawing attention to a material uncertainty in its ability to continue as a going concern.

Overall, the financial report preparation processes of TAFEs produced accurate, complete and reliable information. In areas of monthly financial reporting and security over sensitive information better practice was noted. However, further improvement is needed in relation to all other financial report preparation areas. There was no noticeable improvement in financial report preparation in 2013 compared to previous financial years. In our future reports to Parliament, we intend to name the TAFEs that do not take appropriate steps to improve their practices.

Performance reporting

Clear audit opinions were issued on the performance reports required for the 14 TAFEs, four dual-sector universities and one associated entity for 2013. The TAFE sector, however, did not have a framework that mandated relevant and appropriate key performance indicators, nor was there any guidance to entities for establishing suitable targets and analysing performance. Accordingly, the sector's performance reporting was underdeveloped and inconsistent, lacked clear direction and did not facilitate comparability across the sector.

The lack of guidance resulted in:

• entities setting some indicators in isolation, which means they cannot be used to compare their performance against that of other entities
• the use of inconsistent methods for measuring performance against like indicators, resulting in information that cannot be used to compare performance between entities
• the use of measures that focus on pure quantitative inputs or outputs rather than considering performance in the context of the entity's strategic plan, relative size, geographic factors that affect performance, or efficiencies achieved
• failure to set targets for indicators—47percent of audited performance statements included targets for less than half the indicators they reported
• failure to provide performance results for the prior year, removing the ability to compare performance year on year—by eight of the 19 entities.

The Department of Education and Early Childhood Development (DEECD) has recently implemented a strategic planning framework for the TAFE sector. The framework provides guidance and oversight on the development of key performance indicators linked to strategic plans and statements of corporate intent, targets, and analysing performance. While an improvement, the framework does not establish a core suite of indicators against which TAFEs are to report. Nor does it provide guidance to eliminate inconsistency in performance measurement against core indicators, setting targets at a level appropriate to each TAFE's individual circumstances and priorities, or on the development of relevant and appropriate indicators. Without these elements to enable comparison of performance across the sector and between entities, the value of performance reporting is diminished.

The challenge remains for DEECD to assist TAFEs to achieve effective performance reporting, and to put in place and demonstrate an appropriate level of oversight to mitigate the risk of misreporting in the newly competitive environment.

Financial results and sustainability

The 14 TAFEs generated a net deficit of $16.2 million, a decrease of $74.8 million from the $58.6 million surplus in 2012. The results were affected by a decrease of $116.3 million (15 per cent) in government operating and capital grants. The decrease was partially offset by an increase in student fee revenue and reduced costs.

These results suggest that many TAFEs have yet to effectively adapt to changes to the funding model announced in May 2012. The changes were designed to make vocational and education training funding more sustainable with a view to creating a sector characterised by sustainability, high quality and direct industry engagement. So far, the impact has been an increased reliance on student fee revenue in the contestable environment. While a majority of TAFEs reduced their expenditure during the year, the cost reductions and increases in student fee revenue were still not sufficient to offset reductions in the level of operating funds secured from government.

Consequently, there was a significant decline in the financial sustainability of the sector during 2013. We assessed the financial sustainability of five of the TAFEs as being high risk. This means that there are immediate or short-term financial challenges at these TAFEs that need to be addressed.

Eight TAFEs were assessed as medium risk. The remaining TAFE, Chisholm, improved its financial sustainability during the year from medium risk to low, against the trend, and this reflects the effective cost control strategies it implemented.

Against the trend, four TAFEs reported a surplus and improved financial performance in 2013. These were Chisholm, Goulburn Ovens, Kangan and Sunraysia.

NMIT reported a net operating deficit of $31.7 million, and projected substantial cash flow deficits for the next two years. NMIT has identified and commenced implementing various operational initiatives to improve its cash flows for 2014. The initiatives include reductions in staffing levels, increased student fees, changes to campus operations and various other restructuring arrangements. DEECD has also agreed to assist NMIT to secure bridging finance of $16 million to assist with its solvency and restructuring.

NMIT has been flagged as an overall high financial sustainability risk in this report. The combination of risk rating and predicted cash flows means this TAFE requires close monitoring.

Ten TAFEs had no debt at all at 30 June 2013, and the more flexible financing arrangements now open to TAFEs have increased borrowing options. Nevertheless, TAFEs should be cautious and assess their ability to repay associated financing costs, especially if operating results continue to deteriorate.

Internal controls

Controls over procurement across the TAFE sector were generally adequate. Documented policies exist and were comprehensive, and clear financial delegations had been established. Improvements can be made by documenting the key integrity activities that underpin a tender process, and by each TAFE defining high risk and complex procurement to set clear requirements for when probity plans need to be applied.

Probity issue at Box Hill Institute

During 2013, discrepancies were identified between employment entitlements agreed in 2008 between Box Hill Institute's then chief executive officer (CEO) and the board, and the employment agreement lodged with the office of the Minister for Higher Education and Skills as required under Ministerial Directions. The agreement between the CEO and the board provided additional entitlements, detailed in a formal letter of offer from the then board chair to the CEO. The additional entitlements were not standard entitlements under the state government's standard executive contract and were not provided to the minister's office for scrutiny.

Recommendations

1. That, in line with better practice report preparation, and in order to improve the quality of reporting, technical and further education institutes:

• prepare shell financial statements
• improve financial compliance reviews, analytical reviews, materiality assessments and quality assurance practices
• address the competency of staff involved.

2. That the Department of Education and Early Childhood Development works with technical and further education institutes to develop a robust framework that specifies reporting requirements, mandates a core suite of relevant and appropriate key performance indicators, and guides entities in establishing suitable targets and effectively analysing performance.
3. That technical and further education institutes improve the quality of performance statements by including comparative information and explanations of significant variances observed.
4. That the Department of Education and Early Childhood Development acts to mitigate the risk of misstatement of performance by technical and further education institutes by ensuring adequate scrutiny of information reported.
5. That technical and further education institutes document and define high-value, high-risk and complex procurement in the context of their business so that there is clarity on when and where probity should be applied.
6. That technical and further education institutes adopt a schedule for periodic review of all key financial policies to ensure they remain current.

Submissions and comments received

In addition to progressive engagement during the course of the audit, in accordance with section 16(3) of the Audit Act 1994 a copy of this report, or relevant extracts from the report, was provided to DEECD, the Department of Treasury and Finance and each of the 14 TAFEs with a request for submissions or comments.

Agency views have been considered in reaching our audit conclusions and are represented to the extent relevant and warranted in preparing this report. Their full section 16(3) submissions and comments are included in Appendix F.

1.1 Introduction

Historically the results of audits of universities and technical and further education (TAFE) institutes were presented in one report, the Tertiary Education and Other Entities: Results of Audits report. However, this year for the first time the results are presented in separate reports—Technical and Further Education Institutes: Results of the 2013 Audits and Universities: Results of the 2013 Audits.

This approach recognises the significant changes over recent years in the higher education and vocational education sectors. There have been changes to the market settings in both sectors, changes to legislation for both TAFEs and universities, and increased competition between public and private sector providers and between higher education and vocational training providers—with further changes signalled in the higher education sector. This means that TAFEs and universities are operating in increasingly disparate environments. The entities in each sector are subject to different pressures on their operations. By reporting separately, we aim to provide the reader with greater clarity about the performance of entities in the two sectors.

1.1.1 This report

This report covers the 2013 results of 27 entities, comprising 14 TAFEs and the 13 entities they control. It is one of a suite of Parliamentary reports on the results of 2012–13 financial audits conducted by VAGO. The full list of reports can be found in Appendix A of this report.

A breakdown of the 27 entities covered by this report is set out in Figure 1A.

Figure 1A

TAFEs and controlled entities

^(a)Entities controlled by TAFEs generally comprise subsidiary companies.

Source: Victorian Auditor-General's Office.

Details of the entities covered in this report are set out in Appendix B.

The report informs Parliament about significant issues arising from the financial audits in addition to the assurance provided through audit opinions on financial reports and performance reports included in the respective entities' annual reports.

The report comments on the quality of financial reporting and the financial sustainability of TAFEs. It also comments on the effectiveness of controls over procurement, financial policies and financial delegations across the TAFE sector.

1.2 Recent changes to the TAFE sector

Over recent years, the Department of Education and Early Childhood Development has acted to improve aspects of the accountability and oversight framework relating to the TAFE sector, in particular, by:

• reconstituting TAFE institutes in April 2013
• working to strengthen financial expertise and commercial acumen on TAFE institute boards progressively since April 2013
• removing chief executive officers (CEO) from TAFE institute boards in 2013 to clarify the relationship between governance and management, and reduce the potential for conflicts of interest, including relating to the remuneration and performance monitoring of the CEO
• making of Commercial Guidelines in April 2013 to provide accountabilities and parameters for TAFE commercial activities
• making of Strategic Planning Guidelines in April 2013 to establish a financial objective for TAFEs and set out a planning and reporting framework
• development of a performance monitoring framework to provide key stakeholders and the TAFE institutes with information on financial and non‑financial performance, and benchmarking data
• introducing an annual Minister's Statement of Expectations to TAFE institutes, which is a legislative requirement, as a mechanism for communicating additional expectations—including improved financial reporting—of government as owner, as opposed to funder.

Changes to the legislative framework and funding model, announced by the government in May 2012 became a catalyst for greater reliance by the sector on student tuition and other fees rather than on government grants.

During 2013, the government reiterated its commitment to competitive neutrality in the vocational training sector, and required TAFE institutes to demonstrate the capacity to operate commercially. In future, TAFEs will be required to maintain a specified return on non-current assets and cover their depreciation costs through their operations.

A rollout of $200 million in contestable funding over four years, referred to as the TAFE Structural Adjustment Fund, was announced in 2013, including $100 million in infrastructure funding. On 16 April 2014, it was announced that $40 million of this funding would be used to facilitate a merger between Advance and Central Gippsland TAFEs. It is intended that Federation University will then integrate the amalgamated institute into its operations from January 2016.

In a further restructuring arrangement, it was announced by the Minister for Higher Education and Skills on 23 May 2014 that $64 million of the contestable funding would be provided to support the amalgamation of Bendigo TAFE and Kangan Institute. The government has also announced $8.98 million for Sunraysia TAFE and $7.7 million for South West TAFE to undertake a number of projects to improve their financial sustainability.

1.3 Structure of this report

Figure 1B outlines the structure of this report.

Figure 1B

Report structure

Source: Victorian Auditor-General's Office.

1.4 Audit of financial reports

An annual financial audit has two aims:

• to give an opinion consistent with section 9 of the Audit Act 1994, on whether the financial statements present fairly in all material respects in accordance with the Australian Accounting Standards and the Financial Management Act 1994
• to consider whether there has been wastage of public resources or a lack of probity or financial prudence in the management or application of public resources, consistent with section 3A(2) of the Audit Act 1994.

The financial audit framework applied in the conduct of the audits is set out in Appendix C.

1.4.1 Audit of internal controls relevant to the preparation of the financial report

Internal controls are systems, policies and procedures that help an entity reliably and cost effectively meet its objectives. Sound internal controls enable the delivery of reliable, accurate and timely internal and external reporting.

Integral to the annual financial audit is an assessment of the adequacy of the internal control framework, and the governance processes, related to an entity's financial reporting. In making this assessment, consideration is given to the internal controls relevant to the entity's preparation and fair presentation of the financial report. This assessment is not used for the purpose of expressing an opinion on the effectiveness of the entity's internal controls.

An explanation of the internal control framework, and its main components, is set out in Appendix C. An entity's governing body is responsible for developing and maintaining its internal control framework.

Internal control weaknesses we identify during an audit do not usually result in a 'qualified' audit opinion because often an entity will have compensating controls in place that mitigate the risk of a material error in the financial report. A qualification is warranted only if weaknesses cause significant uncertainty about the accuracy, completeness and reliability of the financial information being reported.

Weaknesses in internal controls found during the audit of an entity are reported to its CEO and audit committee in a management letter.

Our reports to Parliament raise systemic or common weaknesses identified during our assessments of internal controls over financial reporting, across a sector.

1.5 Conduct of TAFE audits

The audits of the 14 TAFEs and 13 controlled entities were undertaken in accordance with the Australian Auditing Standards.

Pursuant to section 20(3) of the Audit Act 1994, unless otherwise indicated any persons named in this report are not the subject of adverse comment or opinion.

The total cost of this report was $170 000.

1.6 Audit of performance reports

Under section 8(3) of the Audit Act 1994, the Auditor-General is authorised to audit performance indicators of a public sector entity to determine whether they fairly represent the entity's actual performance. The Auditor-General uses this authority to audit the performance reports that are required to be prepared by the TAFE sector.

1.7 Subsequent events

1.7.1 Changes to reporting by dual-sector universities

Until 31 December 2013, four 'dual-sector' universities operated in Victoria, namely, Federation University (formerly University of Ballarat), RMIT University, Swinburne University of Technology and Victoria University. In addition to its higher education courses, a dual-sector university includes a TAFE component that delivers vocational education and training.

The Education and Training Reform Amendment (Dual Sector Universities) Act 2013 was enacted from 1 January 2014 and removed the requirement for dual-sector universities to make separate disclosure of their TAFE activities in their financial reports, or to include audited performance statements in their annual reports.

The legislative amendment reduces the reporting workload for the four universities and eliminates difficulties associated with separately reporting their TAFE and higher education activities given that administrative support and course delivery has been largely integrated over time.

From 1 January 2014, TAFE results of the four dual-sector universities will no longer be included in the Victorian whole-of-government consolidated financial statements.

2.1 Introduction

This Part covers the results of the 2013 audits of the 14 technical and further education (TAFE) institutes and the 13 entities they control.

The quality of an entity's financial reporting can be measured in part by the timeliness and accuracy of the preparation and finalisation of its financial report, as well as against better practice criteria.

Appendix B categorises the respective reporting frameworks and the completion time lines for the 27 entities.

2.2 Audit opinions issued

Independent audit opinions add credibility to financial reports by providing reasonable assurance that the information reported is reliable and accurate. A clear audit opinion confirms that the financial statements present fairly the transactions and balances for the reporting period, in accordance with the requirements of relevant accounting standards and legislation.

Clear audit opinions were issued on the financial reports of 27 entities for the year.

Emphasis of matter paragraph

In certain circumstances an audit opinion may draw attention to, or emphasise, a matter that is relevant to the users of an entity's financial report but does not warrant a qualification. Unqualified opinions can include an emphasis of matter (EOM) paragraph.

Northern Melbourne Institute of TAFE received an EOM opinion in 2013, which drew attention to the material uncertainty regarding its ability to continue as a going concern.

2.3 Quality of reporting

The quality of an entity's financial reporting can be measured in part by the timeliness and accuracy of the preparation and finalisation of its financial report, as well as against better practice criteria.

2.3.1 Accuracy

The frequency and size of errors in the draft financial reports submitted to audit are direct measures of the accuracy of those reports. Ideally, there should be no errors or adjustments required as a result of an audit.

Our expectation is that all entities will adjust any errors identified during an audit, other than those errors that are clearly trivial or clearly inconsequential to the financial report, as defined under the auditing standards.

The public is entitled to expect that any financial reports that bear the Auditor‑General's opinion are accurate and of the highest possible quality. Therefore, all errors identified during an audit should be adjusted, other than those that are clearly trivial.

Material adjustments

When we detect errors in the draft financial reports they are raised with management. Material errors need to be corrected before an unqualified audit opinion can be issued.

The entity itself may also change its draft financial reports after submitting them to audit if their quality assurance procedures identify that the draft information is incorrect or incomplete.

In relation to the 2013 audits, 25 material financial balance adjustments were made compared to 18 in the prior year. The adjustments related mainly to accrual accounting items associated with the preparation of the financial report. Adjustments were also required in respect of a number of one-off transactions, including the transfer of the student management system from the Department of Education and Early Childhood Development, and accounting treatment of grant funding. The adjustments resulted in changes to the net result and/or the net asset position of entities.

In addition to the financial balance adjustments, there were two disclosure errors that required adjustment in 2013 (two in 2012). Other disclosure adjustments in 2013 related to the completeness of accounting policies and executive officer remuneration disclosures, as well as the classification of cash and short-term investments.

All material errors were adjusted prior to the completion of the financial reports.

2.3.2 Timeliness

Timely financial reporting is key to providing accountability to stakeholders, and enables informed decision-making. The later reports are produced and published after year end, the less useful they are.

The Financial Management Act 1994 requires an entity to submit its audited annual report to its minister within 12 weeks of the end of financial year. Its annual report should be tabled in Parliament within four months of the end of financial year.

In 2013, 22 entities completed their financial reports within their mandated time frames. The remaining five entities failed to finalise their financial reports within 12 weeks of their applicable balance date, although three of these entities were only one day late. The remaining two were late due to additional work they undertook relating to going concern issues.

Appendix B sets out the dates the 2013 financial reports were finalised.

2.3.3 Better practice

An assessment of the quality of financial reporting processes of the TAFEs was conducted against better practice criteria—detailed in Appendix C—using the following scale:

• no existence—process not conducted by the entity
• developing—partially encompassed in the entity's financial reporting process
• developed—entity has implemented the process, however, it is not fully effective or efficient
• better practice—entity has implemented efficient and effective processes.

The results are summarised in Figure 2A.

Figure 2A

Results of assessment of report preparation processes against better practice elements

Source: Victorian Auditor-General's Office.

Monthly financial reporting and security over sensitive information were assessed as the strongest areas, with a significant majority of entities' processes assessed as either 'better practice' or 'developed'. Further improvement is needed in relation to all other areas, particularly:

• preparation of shell statements
• materiality assessments
• rigorous analytical reviews
• quality assurance.

It was disappointing that there was no noticeable improvement in 2013, while some areas deteriorated in comparison to 2012.

Assessments against better practice elements have been reported over a number of years. Nevertheless, some entities have not acted to take up the range of elements which are designed to improve the efficiency and effectiveness of their financial report preparation. In our future reports to Parliament, we intend to name the TAFEs that do not take appropriate steps to improve their practices.

Recommendation

1. That, in line with better practice report preparation, and in order to improve the quality of reporting, technical and further education institutes:

• prepare shell financial statements
• improve financial compliance reviews, analytical reviews, materiality assessments and quality assurance practices
• address the competency of staff involved.

3.1 Introduction

Victoria's 14 technical and further education (TAFE) institutes, the Centre for Adult Education and the TAFE components of:

• Ballarat University (known as Federation University from 1 January 2014)
• RMIT University
• Swinburne University of Technology
• Victoria University

are required to present audited performance statements in their annual reports.

The requirement to prepare performance statements was established by a November 2008 executive memorandum from the former Department of Innovation, Industry and Regional Development.

The Audit Act 1994 empowers the Auditor-General to audit any performance indicators in the report of operations of an audited entity to determine whether they:

• are relevant to any stated objectives of the entity
• are appropriate for the assessment of the entity's actual performance
• fairly represent the entity's actual performance.

This Part comments on the results of our 2013 audits of performance reports of 19 entities, and the progress made by the sector in regards to quality performance reporting.

3.2 Audit opinions issued

Our audits of performance statements produce opinions on whether the results reported are presented fairly and whether they have been prepared in accordance with the Financial Management Act 1994. The opinions do not conclude on the relevance or appropriateness of the performance information reported.

Clear audit opinions were issued on all 19 performance reports audited for 2013.

3.3 Quality of reporting

Mandated performance indicators that are relevant and appropriate, with suitable targets and adequate guidance, had not been established. In the absence of such direction, performance reporting in the TAFE sector remained underdeveloped and inconsistent, lacked clear direction and did not enable comparison of performance across the sector.

In 2013, this lack of guidance resulted in:

• entities setting some indicators in isolation, which means they cannot be used to compare their performance against that of other entities
• the use of inconsistent methods for measuring performance against like indicators, resulting in information that cannot be used to compare performance between entities
• the use of measures that focus on pure quantitative inputs or outputs rather than considering performance in the context of the entity's strategic plan, relative size, geographic factors that affect performance, or efficiencies achieved
• failure to set targets for indicators—47percent of performance statements audited included targets for less than half the indicators they reported
• failure to provide performance results for the prior year, removing the ability to compare performance year on year—for eight of the 19 entities.

3.3.1 Setting targets

While target setting was still poor in 2013, it had at least improved—in 2013 seven entities set targets for each of their performance indicators, compared with four in 2012.

Figure 3A shows the performance of entities in 2013 in relation to target setting.

Figure 3A

Target setting by TAFEs

Source: Victorian Auditor-General's Office.

However, where targets were set, there was significant variation across entities. Figure 3B shows the range of targets set across the sector for four commonly reported indicators.

Figure 3B

Range in targets set for selected indicators

Note: 'FTE' refers to full-time equivalent positions.

Source: Victorian Auditor-General's Office.

Targets can legitimately vary between entities if priorities of entities differ, or if entities have different maturity levels. However, in many instances targets reflected the expected results, rather than a stretch target. To operate as drivers of performance, targets should be aspirational—neither too low as to be too easily achieved, nor too high as to be impossible to achieve.

3.3.2 Analysing performance

Performance reporting should be accompanied by commentary analysing variances from year to year and why prior year performance was exceeded or not. Such commentary provides users and the broader community with a clearer picture of the challenges faced or achievements made during the current year.

In 2013, 14 entities provided explanations of significant variances between actual and target or prior year results. However, in many cases the 'analysis' simply stated that there was a variance without explaining why.

3.4 Developments and challenges in performance reporting

Our 2013 audits show that the sector needs to improve significantly before it achieves a satisfactory standard of performance reporting.

On 17 April 2013, the Minister for Higher Education and Skills approved Strategic Planning Guidelines that require TAFEs to develop a strategic plan and include key performance indicators clearly linked to their key strategies. It acknowledged that the measures may vary across TAFEs based on the strategic goals set by their governing boards. Accordingly, TAFEs developed strategic plans in 2013 in consultation with the Department of Education and Early Childhood Development (DEECD). The plans are to be implemented in 2014.

The framework provides guidance and oversight on the development of key performance indicators (KPI) linked to strategic plans and statements of corporate intent, suitable targets, and analysing performance.

While an improvement, the framework does not establish a core suite of indicators against which TAFEs are to report. Further, it does not provide guidance to eliminate inconsistency in performance measurement against core indicators, setting targets at a level appropriate to each TAFE's individual circumstances and priorities, or on the development of relevant and appropriate indicators.

The Victorian TAFE sector is diverse and ranges from organisations with revenues of $20 million to $170 million, from rural institutes to metropolitan institutes, and from niche providers to full service providers. It is entirely appropriate for a TAFE to develop a range of KPIs specific to its own circumstances, including size, geographic factors that affect performance and specific priorities.

Nevertheless, VAGO considers that TAFEs should also be required to report against a core suite of KPIs that are comparable across the sector and between TAFEs regardless of the size, geographic factors and specific priorities of individual TAFEs. This would enable comparison of operating and financial performance of TAFEs on some level despite their differences. Without the ability to compare performance across the sector and between entities, the value of performance reporting is diminished.

DEECD should work with TAFEs to develop a robust framework that specifies appropriate reporting requirements. This framework should enable entities to establish and report on suitable targets in a manner which facilitates comparison of performance across the sector.

3.4.1 Potential impact of performance reporting due to competition

Unlike other public sector entities subject to performance reporting, TAFEs operate in direct competition with each other and private sector operators. In addition, as government funding to the sector has reduced, TAFEs have become increasingly reliant on other revenue streams—principally student fees—to ensure their sustainability. In this context, attracting students has become even more critical.

Increased competition increases the risk that performance will be misrepresented in order to seek an advantage in the market. With the development of performance reporting, potential students, the public and other report users can use these reports to compare performance and guide decision-making.

To mitigate the risk of misstatement of performance and to ensure the quality and consistency of performance information reported by TAFEs, DEECD will need to establish and demonstrate an appropriate level of oversight.

3.5 Future audit approach

In our report Tertiary Education and Other Entities: Results of the 2012 Audits, we announced our intention to expand our audit of performance indicators for the TAFE sector in future periods. In our 2014 audit report, we intend to continue to express an opinion on the fair presentation of performance indicators and compliance with requirements, but provide entities with comments on the relevance and appropriateness of performance indicators through management letters.

From 2015, our audit opinion will also address the relevance and appropriateness of the indicators and whether they fairly present performance. Where these standards are not met, a qualified audit opinion may be issued on performance statements.

This approach will require the support of DEECD to achieve more transparent and meaningful reporting on TAFE performance to the community. Without this guidance, performance information will continue to be arbitrarily reported and results will be incomparable across the sector.

Recommendations

1. That the Department of Education and Early Childhood Development works with technical and further education institutes to develop a robust framework that specifies reporting requirements, mandates a core suite of relevant and appropriate key performance indicators, and guides entities in establishing suitable targets and effectively analysing performance.
2. That technical and further education institutes improve the quality of performance statements by including comparative information and explanations of significant variances observed.
3. That the Department of Education and Early Childhood Development acts to mitigate the risk of misstatement of performance by technical and further education institutes by ensuring adequate scrutiny of information reported.

4.1 Introduction

Accrual-based financial statements enable assessment of whether entities are generating sufficient surpluses from operations to maintain services, fund asset maintenance and retire debt. The ability to generate surpluses is subject to the regulatory environment in which entities operate, and their ability to minimise costs and maximise revenue.

4.2 Financial results

4.2.1 Financial performance

The 14 technical and further education (TAFE) institutes generated a collective deficit of $16.2 million in 2013. This was a decrease of $74.8 million from the collective surplus of $58.6 million in 2012. Ten TAFEs reported a reduced financial result in 2013, with seven reporting an operating deficit in 2013—compared with four in 2012.

The lower results largely reflected a 15 per cent—$102.9 million—decrease in state government operating grants during 2013.

These results suggest that many TAFEs have yet to effectively adapt to changes to the funding model, announced in May 2012. The changes were designed to make vocational and employment training funding arrangements more sustainable, with a view to creating a sector characterised by sustainability, high quality and direct industry engagement. To date, the impact has been an increase in the sector's reliance on other funding streams, including student fee revenue, in the new more contestable environment.

Figure 4A shows that while a majority of TAFEs reduced their expenditure during 2013, the cost reductions and increases in student fee revenue were not sufficient to offset the reductions in operating grants secured from government.

Figure 4A

Net surplus/deficit by TAFE and changes in funding sources from 2012 to 2013

Note: Government operating grants include Commonwealth and state funding.

Note: Figures in blue indicate a deficit. Figures in brackets indicate a decrease.

Source: Victorian Auditor-General's Office.

Northern Melbourne Institute of TAFE (NMIT) recognised a net operating deficit of $31.7 million and negative cash outflows from operating activities of $23.3 million in its 2013 financial report. This was predominantly driven by a $28.7 million—or 41 per cent—decrease in contestable government operating grants for TAFE students. NMIT has projected further cash flow deficits for the next two years. As a result, NMIT is implementing operational initiatives to improve its cash flows for 2014, and the Department of Education and Early Childhood Development has agreed to support NMIT in securing bridging finance of $16 million to assist with the entity's solvency and restructuring arrangements.

Another two TAFEs failed to achieve significant cost savings and consequently their operating results deteriorated. Advance and Holmesglen reported increases in expenses, while South West achieved a marginal reduction in costs only.

This suggests that these TAFEs, along with NMIT, have not responded sufficiently to the changed funding and operating conditions.

In 2013, Wodonga amalgamated with Driver Education Centre of Australia, leading to increased costs for the period.

Four TAFEs went against the downward trend and improved their financial performance in 2013. These TAFEs—Chisholm, Goulburn Ovens, Kangan and Sunraysia—are to be commended on their response to the changed operating environment. Restructuring arrangements undertaken by these TAFEs included:

• Goulburn Ovens and Sunraysia increased the number of courses provided by third parties rather than by their own employees. This service provision model enabled them to secure increases of $40.4 million and $11.3million in government grants, respectively, to cover the costs of the third party providers.
• Chisholm and Kangan embarked early on a program of staff redundancies in 2012 in order to reduce expenditure to address announced funding cuts.
• Kangan substantially reduced its operating costs.

Revenue

TAFEs generate their revenue from government grants, student fee revenue, investment revenue and various fees and charges.

In 2013, TAFEs collectively generated revenue of $1.08 billion, $89.4 million less than in 2012. The decrease was mainly due to a net reduction of $95.0 million in government operating grants—that is, a $102.9 million reduction in state operating grants offset by a $7.8 million increase in Commonwealth operating grants.

Despite the net decrease, government grants remained the largest component of operating revenue for TAFEs, representing 59 per cent of total revenue in 2013 (65 per cent in 2012), as shown in Figure 4B.

Figure 4B

Revenue composition, 2013

Source: Victorian Auditor-General's Office.

TAFEs also received reduced state capital grants ($14.5 million) and Commonwealth capital grants ($6.7 million) during 2013. When added to the reductions in operating grants, this resulted in an overall decrease in government grants of $116.3 million for the year.

Trends in student fee revenue

Recent policy changes were designed to increase competition between private and public sector training providers. As a result, it is important that TAFEs proactively target students and adjust their marketing activities and course design to attract enrolments in the domestic and international student markets.

Over the past five years, revenue from student fees has increased by 14.2 per cent, mainly driven by domestic student fee revenue. Total student fee revenue increased by 7.8 per cent to $195.3 million in 2013.

International students

International student fee revenue has fluctuated year on year, but overall has decreased by 26.4 per cent over the five-year period. However, this revenue stream continued to be important to TAFEs. In 2013 it generated $92.2 million ($105.5 million in 2012), or 47.2 per cent of total student fee revenue for the year. Student fees from offshore operations comprised $33.7 million, or 36.6 per cent of international student fee revenue ($40.7 million in 2012).

Although they represent only around 5 per cent of total student numbers, international students generate substantially higher revenue per student than do domestic students, and are an important factor in the ongoing viability of individual TAFEs and the sector.

New international student enrolments increased to 7 400 in 2013 (6 500 in 2012).

Domestic students

Between 2009 and 2013, total fees from domestic students increased by 125.2 per cent. The increase was due to increased TAFE fees for some courses, partially offset by a decrease in domestic student numbers.

New enrolments for domestic students decreased in 2013 to 196 500 (208 400 in 2012).

Expenses

In 2013, the 14 TAFEs collectively incurred operating expenses of $1.1 billion, a decrease of $19.4 million or 1.8 per cent from 2012. Although the decline in TAFE spending was much less than the decline in revenue during the year, the full effect of reduced employee numbers should impact on costs over the next two years.

Figure 4C shows the composition of TAFE expenditure for 2013.

Figure 4C

Expenditure composition, 2013

Source: Victorian Auditor-General's Office.

Employee-related costs remained the most significant expenditure item, representing 67 per cent of total expenses in 2013 (67 per cent in 2012). Expenditure composition for the TAFE sector was consistent with 2012.

4.3 Financial position

TAFEs carried land and buildings representing 76.8 per cent of their total assets on their balance sheets at 31 December 2013. However, their revenue base is not tied to the value of their assets and most of their assets cannot be readily sold to obtain funds.

The financial objective for an entity should be to maintain and improve its asset base and related service provision, while managing its levels of debt. Capital expenditure has declined over the past three years, and an increase in government loans provided in 2013 indicates that the financial position of TAFEs is deteriorating. However, total debt for the sector remains low compared to equity.

4.3.1 Assets

The total value of TAFE assets increased by $38.2 million to $2.43 billion at 31 December 2013, mainly as a result of:

• a $73.9million increase in intangible assets due to the transfer of the student management system asset from the state government to the TAFE sector upon its completion, offset by
• a $33.9million decrease in property, plant and equipment that was mainly due to the annual depreciation charge.

Valuations of land and buildings during 2013 resulted in asset write-downs at the following TAFEs:

• Advance—an impairment to capital works in progress of $2.0 million due to significant doubt over whether the project will proceed
• NMIT—a revaluation decrement to buildings of $14.3 million due to revaluation of certain buildings held for sale to market value, rather than carried at depreciated replacement cost
• Sunraysia—a revaluation decrement of $12.2 million to land, due to a decrease in the assessed valuation since the last revaluation in 2009.

4.3.2 Liabilities

At 31 December 2013, TAFEs had total liabilities of $238.9 million. Debt increased by $16.4 million in 2013 to 7 per cent of total TAFE liabilities (less than 1 per cent in 2012). The increase was due to loans made to Central Gippsland, Gordon, Kangan, South West and William Angliss Institute. Ten TAFEs had no debt at all at 30 June 2013. However, total debt for those entities, and the sector as a whole, remained low compared to equity. Nevertheless, TAFEs should be cautious and assess their ability to repay associated financing costs, especially if operating results continue to deteriorate.

An increase of $18 million in payables was partially offset by a $9.3 million decrease in employee benefit provisions. The decrease was due to staff reductions resulting from structured redundancy programs across the sector.

Provisions (42.8 per cent) and payables (46.0 per cent) continued to be the major components of total TAFE liabilities.

5.1 Introduction

To be financially sustainable, entities need to be able to meet their current and future expenditure as it falls due. They also need to absorb foreseeable changes and risks, and adapt their revenue and expenditure policies to address changes in their operating environment.

This Part examines the financial sustainability of the 14 technical and further education (TAFE) institutes through analysis of five financial sustainability indicators over a five‑year period. Appendix D describes the sustainability indicators and risk assessment criteria used in this report.

To form a definitive view of any entity's financial sustainability, a holistic analysis that moves beyond financial indicators would be required, including an assessment of the entity's operations and the regulatory environment in which the entity operates. These additional considerations are not examined in this report.

5.2 Financial sustainability risk assessment

5.2.1 Overall assessment

Overall the financial sustainability risk assessment for the TAFE sector deteriorated in 2013.

Figure 5A shows that the number of TAFEs with a high financial sustainability risk increased from none in 2012 to six in 2013.

Figure 5A

Two-year financial sustainability risk assessment

Source: Victorian Auditor-General's Office.

Five TAFEs were assessed as having a high risk to their financial sustainability due to significant operating deficits. A further eight TAFEs were assessed as medium risk due to their poor self‑financing and capital replacement indicators.

Only Chisholm Institute was assessed as having a low risk to its financial sustainability. The improvement in its risk rating in 2013 was due to the substantial changes made to its staffing and operating arrangements over the past two years, the cost savings from which were realised in 2013.

5.2.2 Summary of trends in risk assessments over the five-year period

To further understand the results, we analysed data for the five indicators from the previous five years. The relevant data, and the basis for calculating the indicators, is reproduced in Appendix D.

The five-year data shows that TAFEs are finding it increasingly difficult to generate surpluses and replace assets from operations. On the positive side, debt levels remain low and more flexible financing arrangements were approved for the sector during 2013. This provides opportunities for TAFEs. However, they need to carefully assess their ability to repay associated financing costs should their operating results continue to deteriorate.

When the risk assessments for each of the five sustainability indicators are analysed for the sector they show that over the five years to 2013:

• Underlying result—the number of TAFEs in the medium- and high-risk categories has risen significantly. The decline commenced in 2011, following a deterioration in student numbers, and fell at a greater rate in 2013.
• Liquidity—all TAFEs had low liquidity risk over the five-year period.
• Self-financing—the number of TAFEs in the high-risk category has increased from five to 11, showing a steady deterioration over the past three years.
• Capital replacement—the position has deteriorated significantly from 2011 onwards. Eleven of the 14 TAFEs (79 per cent) now have a risk assessment of medium or high. This means that their ability to fund asset replacement using funds generated from operating activities is restricted, and as a consequence, the condition of TAFE assets may start to deteriorate.
• Debt-to-equity—all TAFEs have had low debt-to-equity risk over the five‑year period.

Impact of changes in legislation and funding model on sustainability

Changes to the legislative framework and funding model, announced in May 2012, became a catalyst for greater reliance by the sector on student tuition and other fees rather than on government grants. The changes have had a significant impact on TAFEs, specifically:

• From 1 January 2013 the full impact of the previously announced changes to the funding model came into effect and most TAFEs took action to alleviate expected revenue shortfalls. As a result, the cost to students undertaking some vocational education and training courses increased, contributing to a decline in student participation. New student commencements were down in 2013 compared to 2012, while total student numbers also declined. TAFEs also reacted by reducing or changing course offerings.
• The sector also focused on reducing costs through staff redundancies. The full impact of action taken to reduce employee numbers should be realised over the next two years.
• Four TAFEs closed campuses between 2012 and 2013.
• Government capital funding declined by 36percent, and most TAFEs reduced 'non-essential' capital expenditure, resulting in substantially reduced capital expenditure across the sector in 2013.

Cost savings for the sector as a whole, however, were limited and inconsistent.

During 2013, the government reiterated its commitment to competitive neutrality in the vocational training sector, and required TAFE institutes to demonstrate the capacity to operate commercially. In future, TAFEs will be required to maintain a specified return on non-current assets and cover their depreciation costs through their operations.

A rollout of $200 million in contestable funding over four years, referred to as the TAFE Structural Adjustment Fund, was announced in 2013, including $100 million in infrastructure funding. On 16 April 2014 it was announced that $40 million of this funding would be used to facilitate a merger between Advance and Central Gippsland TAFEs. It is intended that Federation University will then integrate the amalgamated institute into its operations from January 2016.

In a further restructuring arrangement, it was announced by the Minister for Higher Education and Skills on 23 May 2014 that $64 million of the contestable funding would be provided to support the amalgamation of Bendigo TAFE and Kangan Institute. The government has also announced $8.98 million for Sunraysia TAFE and $7.7 million for South West TAFE to undertake a number of projects to improve their financial sustainability.

5.3 Five-year trend analysis

This section provides analysis and commentary on each indicator's trend for the past five years.

5.3.1 Underlying result

The average underlying result for TAFEs has declined over the five-year period, with 12 of the 14 TAFEs recording a lower result in 2013 than in 2009. The decline highlights the difficulties faced by the sector during a period of reduced enrolments following changes to the funding model.

Figure 5B shows a sharp deterioration in the underlying result indicator, with the number of TAFEs moving into either the high- or medium-risk category substantially increasing in 2013.

Figure 5B

Underlying result risk assessment

Source: Victorian Auditor-General's Office.

Seven of 14 TAFEs generated an operating deficit in 2013 (four in 2012), with only three TAFEs reporting an improved underlying result. The deteriorating position indicates that cost savings are not being realised at the same rate as revenue is declining.

Advance TAFE was assessed as high risk in 2013, with an underlying result of negative 50.9 per cent. This means that the operating deficit was half of total revenue in 2013, indicating that this TAFE is in dire financial trouble.

Funding will be provided through the TAFE Structural Adjustment Fund to support Advance TAFE and its amalgamation with Central Gippsland and eventually, Federation University.

5.3.2 Liquidity

The liquidity indicator is a measure of whether an entity has sufficient cash to meet its liabilities when they become due. All 14 TAFEs were assessed as having low risk for the liquidity indicator. Across the sector, however, performance against this measure has declined over the five-year period for 11 of 14 TAFEs, mainly due to a reduction in cash holdings and the overall level of trade creditors increasing by $55.6 million (106 per cent) since 2009.

While Northern Melbourne Institute of TAFE (NMIT) was assessed as having low liquidity risk, this rating is based on historical information. NMIT's future projections indicated cash flow deficits for the next two years, meaning that budgeted expenses were expected to be substantially more than expected revenue.

NMIT has identified and commenced the implementation of various operational initiatives to improve its cash flows for 2014. These initiatives include a reduction in staffing levels, increased student fees, ceasing operations at the Greensborough campus, the finalisation of partnering and access arrangements with La Trobe University and Swinburne University respectively, and various other restructuring arrangements.

To assist with its solvency and restructuring arrangements, the Department of Education and Early Childhood Development (DEECD) has agreed to support NMIT in securing bridging finance of $16 million.

Notwithstanding DEECD's support for NMIT, our audit opinion on its 2013 financial statements contained an emphasis of matter paragraph. This highlighted the risk that NMIT may be unable to meet expenditure commitments when they fall due, thereby putting at risk its continuation as a going concern.

5.3.3 Self-financing

Figure 5C shows the weakening of self-financing indicator results for the TAFE sector over the past five years. TAFE self-financing results have deteriorated since 2009, particularly over the past three years. The average result for the sector decreased from 10.6 per cent in 2012 to negative 0.8 per cent in 2013.

Figure 5C

Self-financing risk assessment

Source: Victorian Auditor-General's Office.

The majority of TAFEs (11 of 14) now have a self-financing risk of high, with just one TAFE in the low-risk category. This indicates that where TAFEs have not responded sufficiently to policy changes, and where they require net capital investment in the short term, they are finding it increasingly difficult to generate sufficient cash to fund asset replacement from their operating activities.

5.3.4 Debt-to-equity

All TAFEs were in the low-risk category for the debt-to-equity ratio for the past five years. Historically, TAFEs have been unable to incur debt. However, more flexible financing arrangements for the sector were approved by the government in 2013 and TAFEs are now able to incur borrowings, subject to approval by the Treasurer.

As at 31 December 2013, 10 TAFEs had no debt at all and more flexible financing arrangements now open to TAFEs provide opportunities. Nevertheless, TAFEs should be cautious and assess their ability to repay associated financing costs, especially if operating results continue to deteriorate.

5.3.5 Capital replacement

Figure 5D shows that over the five-year period there has been a substantial decline in the ability of TAFEs to fund asset renewals, specifically highlighting a significant increase in the number of entities in the high-risk category.

Figure 5D

Capital replacement risk assessment

Source: Victorian Auditor-General's Office.

In 2013, government capital funding to the TAFE sector decreased by 36 per cent to $37.9 million. The decline in the capital replacement results highlights the dependence of TAFEs on government funding for their capital programs. Nevertheless, TAFEs are now able to fund capital expenditure from their cash reserves, by borrowing, or by the disposal of surplus assets. The data illustrate that spending on capital works is not sufficient to maintain and upgrade existing infrastructure and equipment.

Eleven of the 14 TAFEs (79 per cent) are now in either the medium- or high-risk category for this indicator. If greater investment does not occur, assets will deteriorate at a greater rate than they are replaced or renewed. This presents a risk to the long‑term financial sustainability of TAFEs as their buildings and other infrastructure assets progressively become less functional.

Capital grants have historically been strategically allocated across the sector, with funds for asset replacement not provided until the government considered replacement to be appropriate.

Under the government's competitive neutrality policy, all vocational training providers receive funding based on student contact hours and not for specific types of expenditure such as the depreciation of their assets.

TAFEs are faced with a new commercial and autonomous operating environment in which state government capital funding will be allocated on a contestable basis. In light of this, TAFEs will need to take advantage of any announced contestable capital funding that becomes available, more flexible financing arrangements and cash reserves in order to fund asset replacement.

6.1 Introduction

Comprehensive internal controls help entities reliably and cost-effectively meet their objectives. Reliable internal controls are a prerequisite for the delivery of reliable, accurate and timely external and internal financial reports.

In our annual audits we focus on the internal controls relating to financial reporting and assess whether entities have managed the risk that the financial statements may not be complete and accurate. Poor internal controls diminish management's ability to achieve their entity's objectives and comply with relevant legislation. They also increase the risk of fraud and error.

The governing body of each technical and further education (TAFE) institute is responsible for developing and maintaining internal controls that enable:

• preparation of accurate financial reports and other supporting information
• timely and reliable external and internal reporting
• appropriate safeguarding of assets
• the prevention and detection of errors and irregularities.

The Education and Training Reform Act 2006 and the Financial Management Act 1994 (FMA) require management of TAFE institutes to implement effective internal control structures.

In this Part we report on aspects of internal controls in the state's 14 TAFEs covering procurement, and financial policies and delegations.

6.2 Procurement

The TAFE sector spent $275 million on the procurement of goods and services and had capital expenditure of $79 million in 2013. Poor procurement practices give rise to the risk of:

• the procurement process being unfair or not transparent
• inadequate supplier competition resulting in reduced value for money
• suppliers and TAFEs facing unnecessary transaction costs
• TAFEs purchasing inferior goods, services or assets that do not meet their operating objectives.

TAFEs are required to implement and maintain an effective internal control framework for procurement. The internal control framework should ensure that procurement satisfies an entity's business needs, is suitably authorised, is in line with policies and procedures, and is consistent with the principles of value for money, open and fair competition, accountability, risk management, probity and transparency.

6.2.1 Procurement management framework

The key elements of an effective procurement management framework are detailed in Figure 6A. The framework draws upon the:

• Victorian Auditor-General's Office Public Sector Procurement: Turning Principles into Practice guidelines
• Standing Directions of the Minister for Finance under the FMA
• Victorian Government Purchasing Board policies.

Figure 6A

Key elements of an effective procurement framework

Source: Victorian Auditor-General's Office.

The above elements were considered in our assessment of the procurement function at each of the 14 TAFEs.

Controls over procurement across the TAFE sector were generally adequate. Policies were well established and comprehensive, and periodic review of procurement arrangements occurs. Improvements can be made by documenting the key integrity activities that underpin a tender process.

6.2.2 Policies

All TAFEs had detailed policies and procedures relating to procurement that complied with government policies and guidelines and generally included:

• an objective
• preferred suppliers
• arrangements for purchases on corporate cards
• probity provisions and the requirement to avoid any actual or perceived bias
• open tender, selective tender, limited tender and quotation requirements
• arrangements for obtaining quotations.

Procurement and tendering policies at all but two TAFEs were current and approved by the governing body—or management where approval had been delegated.

6.2.3 Management practices

Management oversight of procurement activities could be improved in the TAFE sector.

Better practice involves the preparation of probity plans for procurement with a value in excess of $10 million. Not all TAFEs undertake procurement of this size. However, a monetary threshold is not the only factor to consider when deciding if probity auditors should be engaged. Complex or high-risk procurement should also be subject to independent review to give comfort over purchasing propriety. We identified that in 29 per cent of TAFEs there was no requirement for probity plans to be in place for high-risk, complex or high-value procurement.

Where tenders are conducted, each of the 14 TAFEs require tender evaluation criteria to be set, provide guidance material for evaluators and require staff involved in the tender process to declare any conflicts of interest. Almost half of the TAFEs (43 per cent) did not require post-tender evaluations to be done, thereby missing the opportunity to identify areas for improvement.

Management monitoring over procurement is sound, with most TAFEs periodically assessing long-term purchasing arrangements, and reports on tendering and procurement provided to both senior management and boards.

6.2.4 Governance and oversight

The governing board is responsible for an entity's overall procurement framework, including risk identification, monitoring and oversight. The board typically reviews and signs off on key decisions made by management, particularly in relation to procurement activities with high risk, complexity or value.

The entity's audit committee may be used to review an entity's compliance with regulatory requirements and established policies and procedures, and to provide assurance on the integrity of the tender process.

Oversight of procurement at board and senior management level was generally sound, with procurement policies routinely approved, compliance monitored and results of significant tender outcomes reported.

During the past three years the procurement policies, procedures and internal controls had been subject to internal audit scrutiny at 79 per cent of TAFEs.

6.2.5 Procurement testing

To confirm the operating effectiveness of procurement controls we selected one contract from 11 of the TAFEs that had entered into a contract worth more than $200 000 during the financial year. The total value of contracts tested was $29.2 million.

We found that good practice was applied in procurement plans, tender evaluation plans and contractor performance management in the 11 tender processes reviewed. Specifically, a procurement plan had been developed for each tender and included:

• clear specifications
• a business case
• internal organisational requirements
• tender assessment criteria
• performance measures by which the successful application would be assessed.

The tender evaluation plans that we reviewed were generally comprehensive, detailing the tenders received, the assessment process, criteria, scoring and a rationale for selecting the preferred tender.

Contractor performance was also being monitored where required post completion of the 11 tender processes reviewed.

We observed that documentation evidencing the integrity of the tender process can be improved. Probity plans should be required when TAFEs undertake high-value, high‑risk or complex procurement. TAFEs should consider and document what constitutes high-risk and complex procurement for them individually based on their organisational expertise, experience and risk appetite. Defining high-risk and complex procurement would set clear requirements for when probity plans need to be applied.

Chisholm Institute conducted a tender process in 2013 to award a $17.3 million contract for the construction of the Berwick Trade Careers Centre. The institute, acting on advice provided by the Higher Education and Skills Group, employed a contractor to manage the delivery of the project and make decisions on scope, cost, expenditure and fulfilment of the approved project brief and user needs. Based on this advice, a probity auditor was not appointed, even though the contract was in excess of $10 million. Appointment of a probity auditor enables scrutiny of the process and assessment of compliance with all legal and statutory requirements.

The integrity of a procurement process is underpinned by the independence and impartiality of all members of the tender assessment panel. A conflict of interest declaration provides evidence that no conflict of interest exists, either real or perceived. Or if a conflict is declared, it is transparent and can be managed so as not to adversely impact the tender process. We observed a need for TAFEs to reinforce the requirement for conflict of interest declarations to be prepared by all members of a tender panel in all procurement processes.

A formal post-tender evaluation had not been completed for all 11 tender processes reviewed, although a limited number were undertaken on an ad hoc basis. TAFEs could be missing opportunities to identify lessons learnt and improve tender processes and procedures where post-tender evaluations are not conducted.

6.3 Financial policies and delegations

Financial policies and delegations set the framework for the internal control environment. Without these, the risk of unauthorised and inappropriate transactions increases.

TAFEs are required by the FMA to establish effective financial policies and delegations. These policies should cover core financial activities, including revenue and debtor management, expenditure and creditor management, asset management, and payroll. A register of financial delegations is required to be established that sets out which staff are authorised to incur expenditure on behalf of the entity, and to what amount.

6.3.1 Financial policies and delegations framework

The key elements of an effective financial policies and delegations framework are detailed in Figure 6B. The framework draws upon the Standing Directions of the Minister for Finance under the FMA.

Figure 6B

Key elements of an effective financial policies and delegations framework

Source: Victorian Auditor-General's Office.

We assessed the financial policies and delegation frameworks of the 14 TAFEs against the above elements. Overall we found that documented policies exist across the TAFE sector and clear financial delegations had been established.

6.3.2 Policies

TAFE institutes had documented policies and or procedures for the key financial activities defined in the FMA—revenue and debtor management, expenditure and creditor management, asset management and payroll activities.

The policies were observed to accord with the requirements of the FMA. However, the currency of policies is an issue that needs to be addressed. We observed that only six of the 14 TAFE institutes had reviewed and updated all key financial policies in the past three years. There were some significant time lapses since policies had been last updated, including:

• one TAFE, whose revenue and debtor management policy had been in place since 2000
• one TAFE, whose asset management policy was last approved in August 2008.

Policies that are out of date may not reflect current best practice control activities, thereby increasing the risk that transactions processed may not be complete, accurate or valid.

Documented controls over payroll activities can be improved. There is a divergence of practice in TAFE institutes adopting either payroll policies or payroll procedures or a combination of both. This in itself is not an issue, as long as all key risk and control areas are addressed in some way. However we identified consistent shortcomings in internal controls relating to:

• segregation of duties between key payroll functions
• review of any manual adjustments made by payroll staff
• managingexcessive leave balances.

These represent an opportunity for TAFEs to improve internal controls and documentation in relation to payroll.

6.3.3 Financial delegations

Nearly all TAFE institutes have a register of financial delegations that lists all staff and positions holding financial authority, along with delegation limits for specific transaction/authorisation types. One TAFE is currently working to develop such a register.

For the register to be effective it needs to remain current. In all TAFEs we observed that there were mechanisms in place to deal with staff absences or changes in positions. Further, with one exception, all TAFEs that had a register had updated it within the past 12 months. Box Hill has not updated its register since 2011.

6.3.4 Management practices

Monitoring of policy compliance was undertaken by management at each of the 14 TAFEs. This generally involved follow up of internal audit recommendations, spot checks and periodic management-initiated reviews.

Management at all TAFEs had developed detailed work instructions for their financial management functions. These documents incorporated aspects of the overarching policy in a logical, structured approach for day-to-day use. Where policies did not exist, these work instructions were substituted as the principal guidance document for staff.

All TAFEs maintained their register of financial delegations centrally, to ensure version control and that changes were only made in accordance with the instrument of delegation. Eleven TAFEs demonstrated better practice by establishing information technology (IT) security controls that set financial delegation limits in their electronic payment systems.

Appropriate measures were in place at all TAFEs to deal with any conflicts of interest or where a delegate would benefit from the exercise of their financial delegation.

6.3.5 Governance and oversight

Oversight and monitoring of policy compliance and financial delegation registers is generally conducted at the management level.

Internal audit had been engaged at 86 per cent of TAFEs to review compliance with financial policies within the past three years. This indicates that TAFE boards recognise the importance of gaining assurance over the operating effectiveness of financial policy frameworks and delegation controls.

6.4 Probity issue at Box Hill Institute

6.4.1 Provision of generous employment entitlements and noncompliance with Ministerial Directions

Ministerial Directions to TAFEs regarding the employment of executive staff require a copy of the employment agreement between a TAFE and its chief executive officer (CEO) to be provided to the Minister for Higher Education and Skills. This requirement aims to promote transparency and provide the opportunity for the arrangements to be scrutinised.

In 2008, Box Hill employed a new CEO under a five-year employment agreement. The employment agreement was lodged with the minister's office, as required. In November 2012, the board resolved to enter into a new employment agreement with the CEO. Responsibility for finalising the CEO's new agreement was delegated to the chair appointed to the Box Hill board in 2013.

The chair's subsequent enquiries into the CEO's employment agreement revealed significant discrepancies between the entitlements in the employment agreement lodged with the minister's office, and those agreed in 2008 between the CEO and the board. The agreement between the CEO and the board provided additional entitlements, detailed in a formal letter of offer from the then board chair to the CEO. The letter of offer was signed by the chair of the board, in December 2008.

The additional agreed entitlements included:

• additional four weeks of paid leave of absence per annum after two years of service
• one fully paid overseas trip per year for self-directed professional development
• access to purchasing Box Hill-supplied home office equipment at market value after five years of service
• in the event of the CEO's retirement, retention of his motor vehicle as a retirement gift
• access to Box Hill's IT systems and networks for a further five years beyond the contract term and subject to the Institute's network policy.

Though agreed, additional entitlements were not standard under the state government standard executive contract. They were not provided to the minister's office, and were, therefore, unable to be scrutinised.

Once identified, the CEO's additional entitlements were brought to the attention of the board in July 2013. A new employment agreement to be effective from 8 December 2013 was signed by the board in mid-2013 and forwarded to the minister's office. The new agreement excluded the entitlements specified in the 2008 letter of offer.

Box Hill has advised that all senior executive contracts have been amended to reflect only standard state government terms and conditions.

Recommendations

That technical and further education institutes:

1. document and define high-value, high-risk and complex procurement in the context of their business so that there is clarity on when and where probity should be applied.
2. adopt a schedule for periodic review of all key financial policies to ensure they remain current.