Background

The Indian Ocean earthquake and tsunami on 26 December 2004 was one of the worst natural disasters in recent human history. The tsunami devastated many coastal communities in Indonesia, Sri Lanka, Thailand, the Maldives, Seychelles and India.

The greatest impact was on Indonesia, where the number of dead and missing is estimated at about 167 000, with the cost of damage and loss estimated to be about A$7 billion.

By 31 December 2004, the Australian Government had committed $60 million for emergency and humanitarian assistance, primarily to Indonesia, Sri Lanka, the Maldives, and Seychelles, and to a lesser extent, to Thailand and India. Assistance included the deployment of Australian Defence Force personnel. The immediate focus was on the provision of food and water, shelter and clothing, medical care, emergency power and public health measures.

In addition to the immediate emergency and humanitarian assistance, the Australian Government announced the establishment of the Australia-Indonesia Partnership for Reconstruction and Development (AIPRD) on 5 January 2005.

The AIPRD comprises $500 million in grants and $500 million in concessional loans over the period to 30 June 2011¹. It is the largest single aid contribution ever made by Australia, and is on top of ongoing aid to Indonesia (some $1 billion of anticipated expenditure over the period 2004–05 to 2008–09).

At the time of this report, $947 million of the $1 billion AIPRD funding had been committed to programme elements. This includes some $166 million to emergency preparedness and response, with the balance of committed funds promoting broad-based economic growth in the areas of economic and social infrastructure, human resource development, private sector development, and improved governance.

The AIPRD involves a more formal arrangement with the Indonesian Government than is usually the case with Australia's aid programmes. In particular, it involves a Partnership Framework that guides joint decision-making in relation to the identification of priority areas for support, as well as individual activities within priority areas, and various other aspects of programme administration. This has involved the development of oversight and administrative arrangements, from a Joint Ministerial Commission through to on-the-ground cooperation between Australian and Indonesian Government agencies in implementing specific activities.

The AIPRD is being delivered for the Australian Government by the Australian Agency for International Development (AusAID), which is an administratively autonomous agency within the Foreign Affairs and Trade portfolio. AusAID retains overall responsibility for the management of Commonwealth funds appropriated for the AIPRD, consistent with its obligations under the Financial Management and Accountability Act 1997.

The development and delivery of the AIPRD presents significant challenges. This is particularly so given the AIPRD's size, and the long lead times normally involved in identifying, designing and implementing suitable projects.

In addition, Australian bilateral aid has traditionally been provided in the form of non-repayable grants. AusAID's systems are geared to managing contractors delivering that aid on-the-ground in developing countries. In contrast, the AIPRD involves the use of loans for half of the programme.

The loans component requires the development of a formal Partnership Loan Agreement, and supporting administrative processes to manage and monitor the loans. Loans also present new challenges for AusAID in managing the risk of fraud and corruption. This is because, while AusAID retains responsibility for the management of Commonwealth funds appropriated to the AIPRD, it will have less direct involvement in the disbursement of these funds on-the-ground. In particular, procurement processes for loan funds will not be under AusAID's direct control, as they are for grant funds. Instead, Indonesian Government agencies will contract with individuals and companies to supply goods and services funded by the loans.

This approach requires appropriate strategies to facilitate accountability and transparency for the loan funds. The strategy being pursued through the Loan Agreement seeks to balance normal expectations for the borrower to manage tendering arrangements, with Australia's and Indonesia's interests in ensuring that loan funds are used for their stated purposes.

This audit

The objective of the audit was to assess the framework being put in place to manage and account for aid funds provided under the AIPRD. In particular, the audit addressed: structures for oversighting the development and delivery of the AIPRD; planning and risk management (including those relating to fraud and corruption); financial management; and arrangements for ongoing monitoring and reporting.

The audit focussed on the arrangements being established to monitor, evaluate and report on AIPRD implementation, rather than the management of activities and outcomes achieved. This reflects the fact that the long lead times associated with establishing such a large programme of assistance had meant that only limited activities were underway at the time of audit fieldwork.

The ANAO anticipates undertaking an audit in the future of the management of activities and outcomes achieved, when more funds have been expended.

It was not the purpose of this audit to examine Australia's immediate emergency and humanitarian response to the tsunami crisis.

Key findings

Oversight arrangements (Chapter 2)

A Joint Commission of Australian and Indonesian Ministers is the peak decision-making body of the Australia-Indonesia Partnership for Reconstruction and Development (AIPRD^)2. It sets the broad strategic directions for the Partnership and agrees major activities for funding under the AIPRD. The Commission is overseen by the Prime Minister of Australia and the President of Indonesia.

The two Australian Ministers represented on the Commission are supported by a Secretaries Committee. The Secretaries Committee's primary role is the provision of strategic advice to Australian Ministers, and oversight of the AIPRD programme.

A Secretariat, mainly comprising AusAID staff, has been established to support both Australian Ministers and Secretaries³. The ANAO found that the arrangement supported timely, high-level consideration of issues by the Secretaries Committee and the provision of advice to Australian Ministers on key AIPRD issues.

The risk of duplication between the AIPRD and the ongoing Indonesian aid programme has been addressed by AusAID. It has rationalised the working arrangements between the two programmes for activities where there were synergies. In addition, the AIPRD management teams in Canberra and Jakarta are senior and experienced. The ANAO found that AusAID's internal administrative arrangements were working well.

Planning (Chapter 3)

The development and delivery of the AIPRD over a relatively short timeframe presents a substantial challenge. This is particularly so given the lead times normally involved in identifying, designing and implementing suitable projects. Key planning considerations for the AIPRD were:

• establishing and obtaining agreement to a Partnership Framework. This included the primary objective of the AIPRD, its programme structure of activities along with funding commitments;
• strategies to deliver the objective in a relatively short timeframe, particularly the development of a $500 million loan programme to target a relatively small number of large infrastructure projects; and
• coordination arrangements with Indonesian agencies and other donors.

AusAID advised that a particular challenge in progressing the AIPRD was pressure on Indonesia's planning agencies in the aftermath of the disaster. To address this, AusAID has facilitated progress by taking a leading role in important areas. For example, it led the development of the Partnership Framework.

The Partnership Framework to guide the joint identification of priority areas for funding was endorsed by Joint Commission Ministers on 7 December 2005. AusAID used a draft to guide the joint identification of programme activities and associated funding commitments.

The Partnership Framework recognises the tight timeframe for AIPRD implementation. It has a strategy of focussing on a small number of areas that will have a substantial development impact.

A number of proposals to the Secretaries Committee for commitment of grant funds had less rationale in support of them than others. This reflected limited knowledge of development needs at the time. It will be important to review the continuing appropriateness of commitments, as more information becomes available on development needs. The ANAO has recommended that AusAID review, at regular intervals, AIPRD programme funding commitments, to ensure they remain appropriate as implementation proceeds.

The $500 million loans component of the AIPRD requires the development of a formal Partnership Loan Agreement and supporting administrative processes to manage and monitor the loans. A statement of key principles for AIPRD loans has been agreed by the Joint Commission, including zero interest for up to 40 years. However, the formal Partnership Loan Agreement supporting these principles has yet to be agreed with Indonesia.

To reduce the risk of delays, AusAID has, therefore, proceeded with the identification and development of individual loan projects in parallel. The AIPRD will fund two loan projects—$200 million for education and $300 million for roads.

The disbursement of all $500 million of loan funds by the initial AIPRD timetable (30 June 2009) would have been particularly challenging, as disbursement depends on the design, alignment and agreement of detailed annual work programmes, as well as programme management arrangements with the Indonesian Government, in accordance with their budgetary timetables. In addition, the amount drawn down will ultimately be determined by the Indonesian Government. It is anticipated that the first education project funds will not be drawn down until mid-2006 (by which time the formal agreement is expected to be signed) and the first roads funds not until 2007–08.

In the context of the 2006–07 Budget, Australian Ministers agreed to extend the timetable for disbursement of AIPRD funds from 30 June 2009 to 30 June 2011.

An important aspect of effective planning for both the grants and loans programmes is to be aware of the activities of other aid donors in Indonesia. This helps avoid duplication of aid effort and competition for projects. The ANAO found in this regard that AusAID has coordinated with other major aid donors in Indonesia regarding their activities, to inform its planning.

Risk management (Chapter 4)

Risk management for a large aid programme such as the AIPRD is complex and requires consideration of both strategic and operational risks for the AIPRD as a whole, and the risks to the effective implementation of specific AIPRD aid activities.

Strategic risks for the AIPRD were not formally identified until August 2005, and not underpinned by a systematic risk assessment. AusAID advised that the design of the AIPRD was informed by a risk assessment, although not explicitly articulated until August 2005. By the time the risk management plan had been completed, significant decisions had been made, and some risks had already materialised. For example, delays in reaching agreement on the details of the loan programme.

An operational risk management plan for 2005–06 was not completed until February 2006, more than one year after the announcement of the AIPRD, and did not include a number of recognised elements of good risk management. These include identifying the likelihood and consequence of a particular risk occurring, to assist the future review of the overall risk rating.

Risk management is most effective, and of most value in contributing to decision-making, when it is more timely, systematic and structured than in this case. That is, when it is part of the planning process, rather than confirming actions already undertaken.

The ANAO also found that there was a variable approach to risk identification for specific activities. Not all proposals to the Secretaries Committee for new activities explicitly identified risks. A more structured approach to briefing on risks would provide greater assurance that risks are being identified and assessed.

The variability in approach was also reflected in the development of detailed risk management matrices for activities. To some degree this reflects differences in progress in scoping the activities. However, AusAID could usefully draw on its more systematic approaches to improve risk management across activities. As well, incorporating residual risk, after taking into account treatments, would better inform management about the acceptability of risk.

A key risk for activities is that of fraud and corruption. This is a recognised risk in Indonesia, which the Indonesian Government has declared a commitment to tackle⁴. AusAID is addressing this risk in a number of ways.

Key processes for the $500 million of grant funding, such as procurement and the disbursal of funds, are under its direct control. In this regard, AusAID's contracts for grant funding have standard clauses aimed at preventing contractors and subcontractors from engaging in fraudulent activity. For example, contractors must comply with Australian and partner government laws relating to corrupt practices, including those relating to the bribery of Commonwealth and foreign public officials. The ANAO suggests that, in light of the risk of corruption in procurement in Indonesia, AusAID give consideration to requiring major contractors to formally affirm, at appropriate intervals, their compliance with those contract clauses.

AusAID's operational risk management plan identifies only a limited range of fraud and corruption risks. More in-depth consideration of fraud and corruption risks would provide greater assurance that appropriate mitigation measures will be put in place.

Proposed arrangements for the draft $500 million loan agreement with Indonesia also provide a focus on mitigation of the risk of fraud and corruption. The proposals have yet to be agreed with Indonesia, but include: an Anti-Corruption Action Plan for each project loan agreement; the right to terminate future loan advances for corrupt activities; Commonwealth audit access to relevant material in Indonesian Government agency or contractors' possession or control; and the involvement of independent experts as observers in all procurement processes.

As with all risk management, the key challenge for AusAID will be to ensure that risk management plans and mitigation measures are implemented. This includes regular review of the effectiveness of risk mitigation measures, as well as monitoring any changes to risks over the life of the AIPRD.

Financial management (Chapter 5)

AusAID is responsible for financial management of the AIPRD, in accordance with the provisions of the Financial Management and Accountability Act 1997 (FMA Act) and associated Regulations and Orders.⁵

Administered (programme) funds were credited to two Special Accounts of $500 million each, the:

• Australia-Indonesia Partnership for Reconstruction and Development (Grants) Special Account; and
• Australia-Indonesia Partnership for Reconstruction and Development (Loans) Special Account. ⁶

Special Accounts are subject to particular reporting requirements. Agencies are required to disclose, among other things, opening balances, receipts, payments, adjustments and closing balances for each Special Account in the Portfolio Budget Statements. AusAID reported this information for 2005–06.

AusAID's 2004–05 Financial Statements also met the requirements to disclose total receipts, payments and balances for each Special Account. The ANAO found that the Statements gave a true and fair view of its financial position at 30 June 2005.

Some AusAID salary and administrative costs are being funded out of grant funding. It is not clear that this was envisaged at the time funding arrangements were originally developed—the Australian Government's stated aim was that the full $1 billion of AIPRD funds be available for reconstruction and development. In this context, more explicit arrangements are warranted for these salary and administrative costs.

Disbursement of funds is anticipated to occur later than initially estimated. At the time of this report, $947 million of the $1 billion AIPRD funding had been committed by the Joint Commission (although only some $70 million, all grants, had been expended at 31 March 2006).

The Secretaries Committee has been advised of lower expenditure estimates. However, these briefs have not clearly contrasted these lower estimates with the original Budget estimates. Clearer comparison of revised estimates to original estimates would enhance accountability, and assist in monitoring of progress, particularly as expenditure progresses. The ANAO has recommended that the AIPRD Secretariat regularly brief the Secretaries Committee of variations to overall AIPRD expenditure estimates, and the reasons for those variations.

Eligibility criteria for contracts have been modified from usual AusAID practice, to emphasise the bilateral partnership approach. For example, rather than the usual practice of unrestricted international competitive bidding for construction contracts, under the AIPRD construction contracts are restricted to Australian, New Zealand and Indonesian companies. ⁷

At the request of the Australian Government, bids are being monitored for any impact of the modified arrangements on costs and quality. AusAID has identified ‘warning signs' that this may be resulting in limited competition, although it is not yet able to reach a definitive conclusion. Monitoring is continuing.

The AIPRD $300 million loan for the roads project is to be made available in parallel with a similar World Bank project. This also provides an opportunity to monitor/benchmark the competitiveness of the different eligibility criteria used for the AIPRD, to inform consideration of future arrangements. The ANAO has recommended that AusAID monitor/benchmark the cost of AIPRD works and outcomes for this project against those obtained through the international competitive bidding approach used by the World Bank.

The ANAO found that stronger management of certain aspects of contractual arrangements is required to protect the Australian Government's interests and provide greater assurance of value for money. A number of contracts were signed after the provision of services had commenced, including ones delivering aid after the emergency period had passed.

The ANAO noted that direct sourcing of contracts (i.e. without open tender) was used well after the emergency response phase, sometimes driven by timetable pressures. This reduces assurance of value for money, and is contrary to the principle of open and competitive tendering set out in the Partnership Framework. The ANAO has recommended that AusAID facilitate transparency and accountability in procurement of goods and services by centrally monitoring and reporting to senior management the incidence of, and rationale for, direct sourcing. This would facilitate a more considered view of its use in the context of the Partnership Framework, and would help keep its use to a minimum.

The ANAO also found that direct sourced contracts were being incorrectly reported in AusTender as being procured through ‘open tender'. The ANAO has recommended that AusAID establish systems to reliably report on contract procurement in AusTender, to meet its procurement reporting obligations. AusAID advised this should be achieved by a new contract management system, recently implemented.

With regard to procurement arrangements for loan funding, AusAID is seeking to agree with Indonesia means of mitigating risk associated with procurement in Indonesia, as well as facilitating accountability and transparency. For example, standard international practice is for tendering and other arrangements for project loans to be managed by the borrowing country. However, AusAID is seeking the involvement of Australian or independent experts as participants or observers in procurement and activity monitoring processes. These arrangements have been proposed to Indonesia for inclusion in the Partnership Loan Agreement, but have not yet been finalised.

Monitoring and reporting (Chapter 6)

The ANAO examined the arrangements being put in place to monitor progress and manage contractor performance for two early activities under the Aceh Rehabilitation Program, the first major programme to be implemented.

Both contracts had a degree of flexibility, allowing contractors to progressively identify, scope and design activities. This reflects the realities of post-crisis aid, but does require a sound approach to performance management. One contract had performance incentives, and a reasonably well developed performance management framework. However, this framework was weakened because the means of verifying performance was not well developed or defined.

The other contract lacked specificity in relation to approval processes, controls and performance indicators. This was a contributing factor to performance difficulties encountered with this contract. Nevertheless, AusAID did monitor progress and address performance issues when they arose.

The strengths and weaknesses in the performance management frameworks for these contracts provide an opportunity for lessons to be learned and applied to future contracts. Particular issues involve strengthening the clarity and focus of performance measures.

Implementation progress is reported to the Secretaries Committee. However, reporting would be enhanced by identifying whether progress is behind schedule/previous expectations, and whether there are any significant project/contractor concerns.

The AIPRD was required to report to the Cabinet Implementation Unit (CIU) on progress. However, an Implementation Plan was not finalised until one year after announcement of the AIPRD, undermining the Plan's usefulness as a means of assessing progress. By this time, key decisions had been taken and $947 million of the $1 billion had been committed by the Joint Commission⁸. Sound practice for such a large and complex programme involves completing the Plan at the start of the project, and then reviewing and updating it as required, to improve the quality of monitoring in the early stages of implementation.

The Department of the Prime Minister and Cabinet advised that it will examine management of the CIU processes in the light of these audit findings.

At the time of audit, AusAID had prepared three public reports on Australia's response to the tsunami and the implementation of the AIPRD. However, consistent with the stated intention of a high degree of public accountability and transparency⁹, public reporting could be strengthened. For example, reports have contained little information on the expected timing of activities, including progress against expectations. Under-expenditure in 2004–05 was not identified. The ANAO has recommended that AusAID enhance various aspects of future public reports in this regard.

A new outcome has been created for the AIPRD—Australia's national interest [is] advanced by implementing a partnership between Australia and Indonesia for reconstruction and development. An associated performance framework identifies performance indicators. The key quality indicator—that 75 per cent of activities receive quality ratings of satisfactory or higher—incorporates a target. ¹⁰

However, other quality and quantity indicators do not incorporate benchmarks, targets or activity levels. The development of such comparators, where possible, would assist AusAID in assessing performance, and strengthen transparency and accountability to the Parliament and stakeholders. The ANAO has recommended that AusAID include targets, benchmarks or activity levels in performance indicators for the AIPRD, where possible.

Overall audit conclusion

The Australia-Indonesia Partnership for Reconstruction and Development (AIPRD) is the largest single aid contribution ever made by Australia. The partnership nature of the programme, relatively short timeframe, and the use of loans for half of the programme, present substantial administrative challenges.

Notwithstanding these challenges, AusAID has made progress in a number of important areas. This includes establishing high level overview arrangements, in particular the formal Partnership Framework with Indonesia. More generally, AusAID has sought to facilitate the AIPRD through means such as regular coordination meetings and involving Indonesian agencies in developing and implementing activities.

Most AIPRD funds have now been committed to programme elements. This includes some $166 million to emergency preparedness and response, with the balance of committed funds promoting broad-based economic growth in the areas of economic and social infrastructure, human resource development, private sector development, and improved governance.

The formal and systematic identification of risks at the strategic and operational levels has not been timely or sufficiently systematic and structured. By the time risk management plans had been put in place, some risks had already materialised, particularly the pressures on the timely and effective delivery of aid.

The actual disbursement of funds committed has been slower than originally expected ($70 million to 31 March 2006) reflecting, among other things, uncertainty at the time of original estimates and practical considerations in reaching agreement with Indonesian Government agencies.

The disbursement of $500 million of loan funds has proven to be particularly difficult, reflecting delays in establishing a Partnership Loan Agreement with Indonesia.

AusAID has adopted a number of approaches to provide a focus and urgency to addressing the risk to the timely disbursement of funds. These include focussing aid on a few areas that will have a substantial development impact, and leveraging off existing aid activities in Indonesia. Also, to hasten initiatives on-the-ground, funds have been committed to some projects with limited supporting rationale, reflecting incomplete knowledge of development needs at the time. In these circumstances it will be important to regularly review the continuing appropriateness of these commitments, as more information becomes available on development needs.

The 2006–07 Budget has extended the timeframe for disbursement of loans to June 2011.

AusAID has identified fraud and corruption risks in its operational risk management plan, but these need to be addressed in more detail, to provide assurance that appropriate mitigation measures will be put in place. It will be important for AusAID to actively pursue, and monitor the effectiveness of, proposed fraud mitigation measures over the life of the AIPRD.

Stronger management of procurement and contractual arrangements is required to protect the Australian Government's interests. This includes better management of the use of direct sourcing of contracts; more consistent attention to performance management in contracts; and greater attention to signing contracts before services commence.

The challenges of implementing the AIPRD emphasise the importance of sound monitoring and reporting arrangements. In this regard, there are opportunities to improve briefings to the Secretaries Committee, to better inform it about risks of proposed actions and slippage in program implementation.

In addition, reporting of progress to the Cabinet Implementation Unit had deficiencies, which reduced the effectiveness of monitoring in the early stages of implementation.

Consistent with the stated intention of a high degree of public accountability and transparency, future public reports on the AIPRD would be strengthened by the inclusion of more information on: the expected yearly disbursement of grant and loan funds; significant milestones in activity implementation; and performance indicators covering effectiveness, quality and quantity.

In addition, the development of benchmarks for those quality and quantity indicators that are identified in AusAID's Annual Report would assist AusAID in assessing its performance, and strengthen transparency and accountability to the Parliament and stakeholders.

Recommendations and AusAID's response

The ANAO made seven recommendations aimed at improving the framework for the development and implementation of the AIPRD.

AusAID's response to the ANAO's report is as follows:

AusAID is satisfied with the outcomes and conduct of the performance audit and has agreed to act upon all of its recommendations.

Footnotes

1 The Prime Minister's 5 January 2005 announcement of the AIPRD anticipated a five year programme of expenditure (that is, to 30 June 2009). In the context of the May 2006 Budget, this period was extended to 30 June 2011.

2 The Joint Commission comprises Australia's Minister for Foreign Affairs and Treasurer; and Indonesia's Minister for Foreign Affairs, Minister for Finance, and State Minister of National Development Planning and Chair of the National Planning Board (BAPPENAS).

3 The Secretariat was initially established within the Department of Foreign Affairs and Trade (DFAT). In March 2006 it was relocated to the Australian Agency for International Development (AusAID).

4 Keynote Speech by the President of the Republic of Indonesia to the International Conference on Promoting Financial Accountability in Managing Funds Related to Tsunami, Conflict and Other Disasters, Jakarta, 25-27 April 2005.

5 The Treasurer's Second Reading Speech for the Appropriation (Tsunami Financial Assistance and Australia-Indonesia Partnership) Bill 2004–2005, p3, 9 March 2005.

6 See http://www.comlaw.gov.au/

7 Procurement for the purposes of providing foreign aid is exempt from the application of Australia's bilateral free trade agreements.

8 While funding commitments had been made, only a small part had been expended.

9 The Treasurer's Second Reading Speech for the Appropriation (Tsunami Financial Assistance and Australia-Indonesia Partnership) Bill 2004–2005, p2, 9 March 2005.

10 A similar performance rating system, using the same quality rating target of 75 per cent, has been used by other donors. See ANAO Report No.59 2001–2002, AusAID Contract Management.