AUDITORS REPORT

Memorandum

To:	Director, U.S. Geological Survey
Subject:	Auditors Report on U.S. Geological Survey Financial Report for Fiscal Years 1998 and 1997 (No. 994-404)

In our audit of the U.S. Geological Survey's financial report for fiscal year 1998, we found the following:

• The principal financial statements were fairly presented in all material respects. The Geological Survey's principal financial statements consist of the Consolidated Balance Sheet as of September 30, 1998, and 1997; the Consolidated Statement of Net Costs, Consolidated Statement of Changes in Net Position, and Combined Statement of Budgetary Resources for the fiscal years ended September 30, 1998, and 1997; and the Consolidated Statement of Financing for the fiscal year ended September 30, 1998.

• Our tests identified three internal control weaknesses that we consider to be reportable conditions. These conditions were in the areas of financial integrity, deferred maintenance, and the data processing environment at the Geological Survey's Reston Enterprise Data Services Center.

• Our tests of compliance with laws and regulations identified no instances of noncompliance that are required to be reported.

Our conclusions are detailed in the sections that follow.

OPINION ON FINANCIAL STATEMENTS

Our audit was conducted in accordance with the "Government Auditing Standards," issued by the Comptroller General of the United States, and with Office of management and Budget Bulletin 98-08, "Audit Requirements for Federal Financial Statements," as amended, and was completed on February 16, 1999. These audit standards require that we plan and perform the audit to obtain reasonable assurance as to whether the accompanying principal financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the principal financial statements and the accompanying notes. An audit also includes assessing the accounting principles used and the significant estimates made by management. We believe that our audit work provides a reasonable basis for our opinion.

In our opinion, the principal financial statements, including the accompanying notes, present fairly, in all material respects, the consolidated financial position of the Geological Survey as of September 30, 1998, and 1997, and its consolidated net costs, changes in net position, and combined budgetary resources and outlays for the years then ended, and its consolidated financing for the year ended September 30, 1998, on the basis of accounting described in Note I of the principal financial statements.

Our audit was conducted for the purpose of forming an opinion on the consolidated and combined principal financial statements taken as a whole. The accompanying consolidating and combining information is presented for purposes of additional analysis of the consolidated and combined principal financial statements. The consolidating and combining financial statements for fiscal year 1998 (pages 38-40) were subjected to the auditing procedures applied in the audit of the consolidated and combined principal financial statements and, in our opinion, are fairly stated in all material respects in relation to the consolidated and combined principal financial. statements taken as a whole.

The required supplementary stewardship information is not a required part of the principal financial statements but is supplementary information required by the Financial Accounting Standards Advisory Board. We have applied certain limited procedures, including discussions with management, on the methods of measurement and presentation of the supplemental information. However, we did not audit the information and therefore express no opinion on it.

REPORT ON INTERNAL CONTROLS

• Transactions are properly recorded, processed, and summarized to permit the preparation of the principal financial statements and required supplementary stewardship information in accordance with Federal accounting standards.

• Assets are safeguarded against loss from unauthorized acquisition, use, or disposition.

• Transactions are executed in accordance with (1) laws governing the use of budget' authority and with other laws and regulations that could have a direct and material effect on the principal financial statements or required supplementary stewardship information and (2) any other laws, regulations, and Governmentwide policies identified by the Office of Management and Budget.

Because of inherent limitations in any internal control structure, errors or fraud may occur and not be detected. Also, projections of the internal controls over financial reporting to future periods are subject to the risk that the internal controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.

In planning and performing our audit, we obtained an understanding of the relevant internal control policies and procedures, determined whether these internal controls had been placed into operation, assessed control risks, and performed tests of controls in order to determine our auditing procedures for the purpose of expressing an opinion on the principal financial statements and not to express assurance on the internal controls over financial reporting. Consequently, we do not express an opinion on the internal controls. We also reviewed the Geological Survey's most recent report required by the Federal Managers' Financial Integrity Act of 1982 and compared it with the results of our evaluation of the Geological Survey's internal control structure.

Our consideration of the internal controls over financial reporting and compliance would not necessarily disclose all matters in the internal control structure over financial reporting that might be reportable conditions. Under standards established by the American Institute of Certified Public Accountants and by Office of Management and Budget Bulletin 98-08, reportable conditions are matters coming to our attention relating to significant deficiencies in the design or operation of the internal controls that, in our judgment, could adversely affect the Geological Survey's ability to record, process, summarize, and report financial data consistent with the assertions by management in the financial statements. The reportable conditions we noted were as follows:

• The Geological Survey needs improved controls over financial integrity.

• The Geological Survey needs improved controls over deferred maintenance management and reporting.

• The Geological Survey needs improved controls over the data processing environment at its Reston Enterprise Data Services Center.

A material weakness, as defined by the American Institute of Certified Public Accountants and by Bulletin 98-08, is a reportable condition in which the design or operation of one or more of the internal control components does not reduce to a relatively low level the risk that misstatements in amounts that would be material in relation to the financial statements being audited may occur and not be detected within a timely period by employees in the normal course of performing their assigned functions. We do not consider any of the reportable conditions to be material weaknesses.

Overview of Internal Control Findings

A. Geological Survey Needs to Improve Controls Over Financial Integrity

Accounts Receivable Unbilled and Advances From Others. During our testing of the subsidiary ledger for Accounts Receivable Unbilled at September 30, 1998, we found accounts that had incorrect balances. These errors occurred for the following reasons: - The collection of advances for reimbursable agreements, primarily between the Geological Survey's Working Capital Fund and divisions (intrabureau transactions), was recorded incorrectly as a collection against the Accounts Receivable Unbilled account, thus decreasing this asset account. The collection of advances should have been recorded as an increase in the Advances From Others account (a liability account that is included in the Deferred Revenue line item in.the financial statements). The collection of advances was recorded incorrectly because the accounting documents for the advances did not clearly identify the payments as advances.

• Collections on reimbursable agreements were not consistently posted to the correct customers or to the correct fiscal year. As a result, both the Advances From Others and the Accounts Receivable Unbilled accounts were overstated.

• The Project Cost Accounting System did not adjust amounts in the Advances From Others account when project costs were reallocated to additional project participants. Project participants provide advances of funds that are reduced by the accounting system when costs are incurred. However, when these costs are allocated to new participants of the projects, the System does not adjust for this reallocation by reducing the costs and increasing the advance amounts for the existing participants.

• The Project Cost Accounting System did not always liquidate advances based on earnings, resulting in both the Advances From Others and the Accounts Receivable Unbilled accounts being overstated.

When these issues were brought to management's attention, adjustments totaling $4.8 million were made to both the Accounts Receivable Unbilled and the Advances From Others accounts.

We identified this internal control weakness in our reports based on audits of the financial statements of the Geological Survey for fiscal years 1997 and 1996. As of September 30, 1998, the only recommendation that had not been implemented was Recommendation 5, "[e]stablish an internal control procedure which requires periodic reviews of the subsidiary ledger reports to ensure the financial integrity of the data. " The Geological Survey informed us that they are continuing to work on implementing this recommendation and tho applicable to each of the issues that follow.

Undelivered Orders. During our interim testing of the Undelivered Orders account, we concluded that the reported balance was overstated because orders placed prior to fiscal year 1997 had been received. However, the orders were recorded as undelivered because (1) the vendors had not submitted billing invoices, thus the Geological Survey had not paid for the goods or services, and/or (2) remaining obligated amounts were not always deobligated. These invalid undelivered orders were not identified by the Geological Survey because it did not have a policy requiring periodic aging and analysis of outstanding orders for goods and services. Once we informed management of this condition, the Geological Survey took action to reduce the balance of undelivered orders by $10.6 million.

Excess Equipment Acquired From the General Services Administration. The Geological Survey acquires excess equipment from the General Services Administration at no cost except for transportation and handling. According to Statement of Federal Financial Accounting Standards No. 6, "Accounting for Property, Plant, and Equipment," which was effective in fiscal year 1998, general property, plant, and equipment transferred from other Federal entities are required to be recorded at the transferring entity's net book value (original cost less accumulated depreciation). However, according to the standard, if the receiving entity cannot reasonably determine the transferring entity's net book value, the cost of the transferred property is to be its fair value at the time of transfer.

The September 30, 1998, subsidiary account for equipment initially reported $28.5 million in excess equipment acquired from the General Services Administration. Based on our testing, we determined that the account was overstated because the amount recorded as the cost of the equipment, which is the amount depreciated, was the original acquisition cost rather than the net book value of the equipment at the time of the transfer. This error occurred because the Geological Survey's Property Manual requires the acquisition cost of excess property to be the acquisition cost incurred by the former owner in accordance with General Services Administration policy and instructions for Standard Form 122, "Transfer Order, Excess Personal Property," which is used to document the transfer of excess equipment from the General Services Administration. However, we found that the General Services Administration's policy and instructions for Standard Form 122 had not been revised to comply with the accounting requirements of the new standard.

Unless the General Services Administration revises its policy and instructions for Standard Form 122 to comply with this accounting requirement, the Geological Survey will have to follow up with the General Services Administration to obtain the net book value on excess equipment, since this information is not provided on Standard Form 122., After informing management of this condition, the Geological Survey reviewed the subsidiary account data and decreased the equipment account by $10.6 million and the accumulated depreciation by $6.2 million.

Deposit Suspense Liability (Federal). The Geological Survey needs to establish an internal control procedure that requires periodic reviews of the Federal Deposit Suspense Liability account. The Geological Survey uses this account for posting payments made for goods and services received that do not have adequate information (such as division, cost center, or object class) at the time of payment to determine how or where to recognize the expenses. At the beginning of fiscal year 1998, this account balance was $5.2 million; however, it increased to $15.9 million by the end of the year. After we inquired about this account, the Geological Survey made adjusting entries to decrease $14.3 million from the account for financial statement purposes; however, the Geological Survey needs to determine where these payments should be posted in the subsidiary ledgers of the accounting system.

Working Capital Fund Investment Plan Accounting. The Geological Survey needs to improve accounting for the investment plan, a component of its Working Capital Fund. Since fiscal year 1995, the Geological Survey has been authorized, by an amendment to Public Law 101-512 (Department of the Interior Appropriation Act), to accumulate monies without fiscal year restraint to be used for specified equipment purchases, improvements, services, or repairs. As a result of this authorization, the Geological Survey established policies which require that (1) eligible participants make deposits of $5,000 or more, (2) the deposited monies be accumulated for at least 2 fiscal years, and (3) acquisitions with deposited funds be made no sooner than the third year of the depositor's participation in the plan.

During our analysis of the account posting models for the investment plan, we determined that an expense and a corresponding revenue were recognized at the time the investing parties (other divisions within the Geological Survey) made deposits to the investment plan. This accounting treatment is not in accordance with the principles of accrual accounting or the basis of accounting described in Note I of the Financial Statements, under which expenses are recognized when goods or services are received and revenues are recognized when earned. At the time the deposit is made, no expense has been incurred because goods or services have not been received. Instead, the investing party has made a prepayment (advance to others). Similarly, no revenue has been earned at the time the deposit is made because work has not been performed. Instead of revenue, a liability (advances from others) should be recognized in the Working Capital Fund.

When an asset is acquired or a service provided, the investing party should recognize the asset or expense and liquidate the advance, and the Working Capital Fund should reduce its cash for an asset acquisition or recognize revenue for a service provided and liquidate the prepayment liability. After we notified the Geological Survey of this deficiency, it made adjustments to establish $28.2 million in Advances From Others in the Working Capital Fund and establish $28.2 million in Advances to Others in the investing fund, as well as making additional adjusting entries to correct expenses, revenues, and budgetary accounts.

While the Geological Survey has corrected the financial errors identified by our testing,. we believe that procedures for monitoring, analyzing, and reviewing the accounts need to be developed and implemented to ensure the integrity of the financial data. Periodic reviews of the subsidiary ledger reports are essential to ensure the financial integrity of the data in the Geological Survey's accounting system.

Recommendations

In addition to the unimplemented prior recommendation related to the Accounts Receivable Unbilled and the Advances From Others accounts made in our reports from fiscal years 1997 and 1996, we recommend that. the Director, U.S. Geological Survey, direct the Chief Financial Officer to:

1. Establish a policy requiring periodic aging and analysis of outstanding orders for goods and services to ensure their validity and establish policies for when unliquidated obligations should be deobligated.

2. Modify the Property Manual to comply with Statement of Federal Financial Accounting Standards No. 6.

3. Establish policies and procedures for clearing amounts posted to the Federal Deposit Suspense Liability account in a timely manner.

4. Modify the account posting models to correctly account for deposits made to the Working Capital Fund's investment plan and develop and implement procedures to properly and accurately account for the deposits to the investment plan.

U.S. Geological Survey Response and Office of Inspector General Comments

In the March 25, 1999, response to our draft audit report from the Associate Director for Operations, U.S. Geological Survey, the Geological Survey indicated concurrence with Recommendations 1 and 3, partial concurrence with Recommendation 4, and nonconcurrence with Recommendation 2. The Geological Survey's specific responses and our comments are in the paragraphs that follow.

Accounts Receivable UnbilIed and Advances From Others (Prior report recommendation). The Geological Survey said that it "agree[d] that more stringent review of... accounts receivable and advance reports would act as a compensating control for some of the system deficiencies" related to advances and unbilled accounts receivable. It further stated that it will "institute a policy for bureauwide review of this data and institute procedures to ensure this is done."

Undelivered Orders (Recommendation 1). The Geological Survey said that it "believe[d] a large part of this problem may be related to intergovernmental billings," that it has "initiated an inter-divisional effort" to address this problem, and that it will "issue guidance" to its field offices for reviewing unliquidated obligations. We are requesting that the Geological Survey provide a target date and the title of the official responsible for implementing this recommendation.

Excess Equipment Acquired From the General Services Administration (Recommendation 2). The Geological Survey said that although it could revise its policy that ("'the acquisition cost of excess/available property shall be the value identified as the acquisition cost by the former owning agency/bureau"'), compliance with this policy "would be nearly impossible until a governmentwide policy is developed and issued that requires net book value, or at least the age of excess/available property, to be provided to the receiving entity." The Geological Survey "suggest[ed] that [we] withdraw this finding at the bureau level and reissue it at the Department of the Interior level."

Although we agree that the most efficient process for implementing this accounting requirement would require the cooperation of the General Services Administration, the Geological Survey is responsible for complying with applicable laws, regulations, and Federal accounting standards and compliance is possible with adequate followup on the part of the Geological Survey to obtain the necessary information from the General Services Administration. We request that the Geological Survey reconsider this recommendation to modify the Property Manual to comply with the accounting requirements of Standard No. 6.

Deposit Suspense Liability (Recommendation 3). The Geological Survey agreed that it needs "to implement a workable procedure that satisfies general ledger requirements and the needs of the Department of the Treasury." It further stated that it has "initiated an effort to address these needs and requirements." We are requesting that the Geological Survey provide a target date and the title of the official responsible for implementing this recommendation.

Working Capital Fund Investment Plan Accounting (Recommendation 4). The Geological Survey said that it did "not totally agree" with our position on the accounting treatment of the Working Capital Fund investments. The Geological Survey agreed that deposits to the investment plan "could be recognized as an advance from others instead of revenue" and agreed to change the account posting models "to correctly account for deposits." However, the Geological Survey disagreed with recognizing an advance to the Working Capital Fund instead of an expense at the time a deposit is made to the investment plan. According to the Geological Survey, "Systematically, it will be nearly impossible to identify the year in which to liquidate the advance from the annual appropriation." The Geological Survey also proposed changing the procedures for accounting for the investment component by having the Working Capital Fund retain ownership of equipment purchased by the investment component rather than the investing party retaining ownership.

Although we agree that it may be difficult to accurately account for the deposits to the investment component under the Geological Survey's current financial accounting system, we believe that recognizing an expense when a deposit is made is not consistent with the accrual method for recording accounting transactions described in Note 1, which states that revenues are recognized when earned and expenses are recognized when goods or services are received, without regard to receipt or disbursement of cash." We request that the Geological Survey reconsider this recommendation.

B. Geological Survey Needs Improved Controls Over Deferred Maintenance Management and Reporting

Recommendation

We recommend that the Director, U.S. Geological Survey, establish policies and procedures for conducting periodic condition assessment surveys and estimating the deferred maintenance needs of the Geological Survey, including the requirement that the data and methodologies used to compute the estimates should be documented and reviewed and approved by supervisors.

U.S. Geological Survey Response and Office of Inspector General Comments

The Geological Survey said that it has "initiated an effort to address" the needs and requirements to implement the recommendation and is "pursuing the development of a maintenance management system" after receiving final guidance from the Department. Based on the response, we request that the Geological Survey provide a target date and the title of the official responsible for implementing the recommendation.

C. Geological Survey Needs Improved Controls Over the Data Processing Environment at the Geological Survey's Reston Enterprise Data Services Center

The report "Additional Controls Needed Over the Data Processing Environment at the U.S. Geological Survey, Reston Enterprise Data Services Center" (No. 98-CAO-13), issued by the Office of Inspector General, U.S. House of Representatives, in November 1998, was the second report issued by the House's Office of Inspector General on the Data Services Center. That review found that the Geological Survey had made significant progress in addressing the weaknesses and problems identified in the 1996 report. The report stated that corrective actions had been completed for 39 of the 72 recommendations, 2 recommendations were otherwise resolved, and 7 recommendations were superseded by new recommendations. For the remaining 24 recommendations, substantial progress had been made on 2 recommendations, some progress was made on 8 recommendations, limited progress was made on 6 recommendations, and no actions were taken on 8 recommendations.

The report identified additional weaknesses in the general control areas of Data Center management and operations; mainframe computer system physical and logical security; telecommunications security; and contingency planning, including backup procedures for preventing data loss and for the recovery of data in case of a disaster. According to the report, the identified weaknesses increased the risk of unauthorized access and modifications to, and disclosure of, information processed on the Data Center's mainframe computer. Also, the report noted that the weaknesses increased the potential for operational errors, which could adversely affect service continuity. Based on the Geological Survey's October 15, 1998, response, 2 of the 24 new recommendations were considered resolved and implemented and 22 recommendations were considered resolved but not implemented.

The report stated that the Geological Survey had notably improved controls over its mainframe operations, system software, and telecommunications security. However, the report identified 46 recommendations (24 from the prior report and 22 from the current report) that had not been implemented. We believe that the actions planned by the Geological Survey should be sufficient to correct the deficiencies identified; therefore, we did not make any further recommendations.

U.S. Geological Survey Response

In its March 25, 1999, response, the Geological Survey stated that it had "aggressively initiated an effort to implement all recommendations noted."

Stewardship and Performance Measures

With respect to the internal controls related to the reported performance measures, we did not obtain an understanding of the design of significant internal controls related to the existence and completeness assertions. Accordingly, we do not provide assurance on such controls.

We also identified other internal control conditions that, in our judgment, were not required to be included in this audit report but should be communicated to management. We will report these issues in a management letter to be issued separately.

REPORT ON COMPLIANCE WITH LAWS AND REGULATIONS

The results of our tests of compliance with laws and regulations discussed in the preceding paragraph, exclusive of the Federal Financial Management Improvement Act, disclosed no instances of noncompliance that are required to be reported under the "Government Auditing Standards" or Bulletin 98-08.

Under the Federal Financial Management Improvement Act, we are required to report whether the Geological Survey's financial management systems are in substantial compliance with requirements for Federal financial management systems, Federal accounting standards, and the U.S. Government Standard General Ledger at the transaction level. To meet these requirements, we performed tests of compliance using the implementation guidance for the Federal Financial Management Improvement Act included in Appendix D of Bulletin 98-08. The results of our tests disclosed no instances in which the Geological Survey's financial management system was not in substantial compliance with these three requirements.

CONSISTENCY OF OTHER INFORMATION

PRIOR AUDIT COVERAGE

OBJECTIVE, SCOPE, AND METHODOLOGY

• Preparing the principal financial statements and the required supplementary information referred to in the Consistency of Other Information section of this report in conformity with the basis of accounting described in Note I to the principal financial statements and for preparing the other information contained in the "1998 Annual Report."

• Establishing and maintaining an internal control structure over financial reporting. In fulfilling this responsibility, estimates and judgments are required to assess the expected benefits and related costs of internal control structure policies and procedures.

• Complying with applicable laws and regulations.

We are responsible for the following:

• Expressing an opinion on the Geological Survey's principal financial statements.

• Obtaining an understanding of the internal controls over financial reporting and compliance and reporting the results of this review based on the internal control objectives in Bulletin 98-08, which requires that transactions be properly recorded, processed, and summarized to permit the preparation of the principal financial statements and the required supplementary information in accordance with Federal accounting standards and that assets be safeguarded against loss from unauthorized acquisition, use, or disposal.

• Testing the Geological Survey's compliance with selected provisions of laws and regulations that could materially affect the principal financial statements or the required supplementary information.

To fulfill these responsibilities, we took the following actions:

• Examined, on a test basis, evidence supporting the amounts disclosed in the principal financial statements.

• Assessed the accounting principles used and the significant estimates made by management.

• Evaluated the overall presentation of the principal financial statements.

• Obtained an understanding of the internal control structure related to safeguarding assets; compliance with laws and regulations, including the execution of transactions in accordance with budget authority; and financial reporting.

• Tested relevant internal controls over the safeguarding of assets, compliance with laws and regulations, and financial reporting and evaluated management's assertion about the effectiveness of internal controls.

• Tested compliance with selected provisions of laws and regulations.

We did not evaluate all of the internal controls related to the operating objectives as broadly defined by the Federal Managers' Financial Integrity Act, such as those controls related to preparing statistical reports and ensuring efficient operations. We limited our internal control testing to those controls needed to achieve the objectives outlined in our report on internal controls.

In accordance with the Departmental Manual (360 DM 5.3), we are requesting a written response to this report by May 14, 1999. In that regard, target dates and titles of the officials responsible for implementation of Recommendations A. 1, A.3, and B. I should be provided. Also, the Geological Survey should reconsider its responses to Recommendations A.2 and A.4, which are unresolved. If concurrence is indicated, action plans that include target dates and titles of officials responsible for implementation should be provided.

The legislation, as amended, creating the Office of Inspector General requires semiannual reporting to the Congress on all audit reports issued, actions taken to implement audit recommendations, and identification of each significant recommendation on which corrective action has not been taken.

This report is intended for the information of management of the Geological Survey, the Office of Management and Budget, and the Congress. However, this report is a matter of public record, and its distribution is not limited.

Robert J. Williams
Assistant Inspector General for Audits