Quarterly Financial Report (QFR) for the Quarter Ended June 30, 2018

1. Introduction

This quarterly report has been prepared by management as required by section 65.1 of the Financial Administration Act and in the form and manner prescribed by the Treasury Board. This report should be read in conjunction with the Main Estimates. This report has not been subject to an external audit or review.

On June 7, 2017, the Government of Canada announced Canada’s Defence Policy, Strong, Secure, Engaged (SSE). The policy presents a new strategic vision and approach to defence in which Canada is:

• strong at home, its sovereignty well defended by a Canadian Armed Forces ready to assist in times of natural disaster, other emergencies and search and rescue
• secure in North America, active in a renewed defence partnership in the North American Aerospace Defense Command and with the United States
• engaged in the world, with the Canadian Armed Forces doing its part in Canada’s contributions to a more stable, peaceful world, including through peace support operations and peacekeeping

In fiscal year 2018–2019, the department will carry out its mandate to achieve results related to six Core Responsibilities. A summary description of these Core Responsibilities can be found in the Departmental Plan.

Basis of presentation

This quarterly report has been prepared by management using an expenditure basis of accounting. The accompanying Statement of Authorities includes the department's spending authorities granted by Parliament and used by the department consistent with the Main Estimates for the fiscal year 2018–2019. This quarterly report has been prepared using a special-purpose financial reporting framework designed to meet financial information needs with respect to the use of spending authorities.

The authority of Parliament is required before money can be spent by the government. Approvals are given in the form of annually approved limits through appropriation acts or through legislation in the form of statutory spending authority for specific purposes.

The department uses the full accrual method of accounting to prepare and present its annual Consolidated Departmental Financial Statements, which are part of the departmental results reporting process. However, the spending authorities voted by Parliament remain on an expenditure basis. The main difference between the Quarterly Financial Reports and the Consolidated Departmental Financial Statements is the timing of when revenues and expenses are recognized. The Quarterly Financial Reports report revenues only when the money is received and expenses only when the money is paid out. The Consolidated Departmental Financial Statements reports revenues when they are earned and expenses when they are incurred. In the latter case, revenues are recorded even if cash has not been received and expenses are incurred even if cash has not yet been paid out.

2. Highlights of fiscal-quarter and fiscal-year-to-date results

In the following section on financial highlights, the department provides explanations for differences between the fiscal-quarter and fiscal-year-to-date results for the quarter ended on June 30, 2018 and the results of the same period last year.

2.1 Statement of authorities

When compared to those of the same quarter of the previous year, year-to-date the department’s budgetary authorities available for use increased by $1,719.9 million (from $18,686.1 million in authorities in 2017–2018 to $20,406.0 million in authorities in 2018–2019), as reflected in Table 1: Statement of authorities. Major reasons for the increase are outlined below.

Year-to-date variances in authorities available for use

(in millions of dollars)

The year-to-date net increase of $1,719.9 million over the first quarter in 2017–2018 can be explained by variances in funding for a number of initiatives, as detailed below.

• Operation and sustainment (fleet maintenance) of military capabilities and operating requirements (increase of $569.0 million)

In order to provide ongoing support for operating and capital requirements, the department receives additional funding to offset sustainment growth and the inflationary impact on the Defence budget.

• Pay increase for the Canadian Armed Forces (increase of $241.6 million)

The increase is due to adjustments made to the rates of pay and allowances found in the Compensation and Benefits Instructions for the Canadian Forces, retroactive to 2014–2015.

• Implementation of SSE (increase of $226.5 million)

This funding represents incremental demands required to execute the overall SSE policy commitments, including but not limited to, in-service support funding and the total health strategy.

• Pay increase for the federal public administration (increase of $115.7 million)

The increase is due to adjustments made to terms and conditions of service or employment of the federal public administration in various collective agreements.

• Innovation for Defence Excellence and Security Program (IDEaS) (increase of $44.0 million)

The increase is due to the implementation of the IDEaS program, which will provide new opportunities to support science, technology and innovation for the defence and security of Canada and facilitate the integration and adoption of new solutions and capabilities for Canada’s defence and security.

• Major capital equipment and infrastructure projects (increase of $775.0 million)

The increase in funding is due to net adjustments to the spending profile of major capital equipment and infrastructure projects to align financial resources with project acquisition timelines. This increase in cash requirements is mainly due to the Fixed Wing Search and Rescue Aircraft Replacement Project, the Medium Support Vehicle System Project, and the Canadian Surface Combatant Project.

• Projects at Canadian Armed Forces bases and other Defence properties (decrease of $186.6 million)

The decrease is due to the completion of the majority of projects related to infrastructure investments. The intent of this initiative is to repair and upgrade Canadian Armed Forces facilities in order for the department to deliver a large number of infrastructure projects and upgrades across Canada.

• Miscellaneous departmental requirements (decrease of $65.3 million)

The net decrease is the result of miscellaneous funding variances. It is mainly related to the decrease in the employer's share of the employee benefit plans rate from 15.7% in 2017–2018 to 15.2% in 2018–2019, as directed by the Treasury Board Secretariat.

2.2 Departmental budgetary expenditures by standard object

As presented in Table 2: Departmental budgetary expenditures by standard object, year-to-date total net budgetary expenditures have decreased by $240.5 million compared to those of the same quarter in the previous year (from $4,161.7 million in expenditures in 2017–2018 to $3,921.2 million in expenditures in 2018–2019).

Overall, total spending at the end of the quarter represents 19.2% of annual planned expenditures for 2018–2019, compared with 22.3% at the end of the first quarter of 2017–2018.

Year-to-date variances in net budgetary expenditures (presented by standard object)

(in millions of dollars)

The year-to-date net decrease of $240.5 million is attributable mainly to the variances detailed below.

• Acquisition of machinery and equipment (increase of $134.7 million)

The increase in spending on the acquisition of machinery and equipment is mainly due to fluctuations in the timing of cash requirements attributed to aircraft and ship projects and the Arctic and Offshore Patrol Ships Project’s advancement from the design phase to the implementation phase, where design costs were captured in professional and special services, and implementation costs are being captured in acquisition of machinery and equipment.

• Transfer payments (increase of $31.7 million)

The increase in transfer payments is primarily due to the timing of NATO payments.

• Repair and maintenance (increase of $25.5 million)

The increase in spending on repair and maintenance is largely related to higher cash requirements for large repair and maintenance projects related to real property and infrastructure.

• Utilities, materials and supplies (increase of $20.7 million)

The increase in spending on utilities, materials and supplies is due to an increase in the price and timing of aviation fuel payments.

• Personnel (decrease of $366.3 million)

The decrease in personnel costs is due to the one-time lump sum retroactive pay increase for military personnel for the periods of 2014–2015, 2015–2016 and 2016–2017 that was processed in the first quarter of 2017–2018. No similar adjustments occurred in the first quarter of fiscal year 2018–2019.

• Professional and special services (decrease of $129.0 million)

The decrease in spending on professional services is primarily due to fluctuations in the timing of cash requirements attributed to various capital equipment projects. Other decreases were associated with the Arctic and Offshore Patrol Ships Project’s advancement from the design phase to the implementation phase, where design costs were captured in professional and special services, and implementation costs are being captured in acquisition of machinery and equipment.

• Other subsidies and payments (decrease of $25.2 million)

The decrease in other subsidies and payments is primarily due to the timing of payments to other government departments for research projects and a reclassification of expenditures in accordance with new financial coding requirements for interest on capital leases, as per the Receiver General’s direction.

• Revenues netted against expenditures (decrease of $21.4 million)

The decrease in revenues netted against expenditures is primarily due to a difference in the timing of payments received from foreign countries.

3. Risks and uncertainties

To fulfill its mission, the department purchases the goods and services necessary to train military forces, conduct operations at the request of the Government of Canada and acquire related infrastructure and equipment both domestically and internationally.

The department’s financial transactions are exposed to a broad range of external financial and economic risks such as inflation, foreign exchange and commodity price fluctuations. Depending on how these risks unfold, they could lead to higher or lower than anticipated spending. For example, an appreciation of the Canadian dollar or a deterioration of commodity prices (oil in particular) could result in lower spending. Conversely, a depreciation of the Canadian dollar or an increase in commodity prices could result in increased spending.

The department is addressing the financial risks associated with the Phoenix pay issues through the implementation of new controls and strengthening of existing ones. A quality assurance program has been implemented for post-payment verification over pay transactions to ensure the accuracy of payments and pre-payment verification of high-risk pay transactions. Furthermore, the department is strengthening its salary payment verification processes, audit trail requirements and salary forecasting capabilities with the intent of enhancing the department’s Phoenix risk mitigation efforts.

The department’s capital acquisition program includes a number of large multi-year acquisition projects. Delays in contracting and procurement activities or delays in deliveries by suppliers for individual projects can lead to reduced expenditures or budgetary surpluses.

While the department considers key economic and financial risk factors (including defence-specific inflation and foreign exchange) in developing expenditure strategies, these risks are outside of the control of the department.

Additionally, significant unforecasted operational demands can occur at any time, requiring the department to respond anywhere on the globe. Depending on the extent of the operational demand, the cost of unforecasted operations would be mitigated either through internal reallocations or by requesting incremental funding from the government.

4. Significant changes in relation to programs, operations and personnel

SSE puts people at its core and commits to a range of new investments for the Canadian Armed Forces that will deliver the necessary resources and capabilities for a strong and agile military to meet Canada’s defence needs against the backdrop of a complex and constantly evolving global security environment. SSE is the most rigorously costed Canadian defence policy ever developed. The implementation of various SSE initiatives continues to be a priority for the department during 2018–2019.

The Canadian Armed Forces continues its international presence in 2018–2019 with deployments in Ukraine (Operation UNIFIER), Central and Eastern Europe (Operation REASSURANCE) and the Republic of Iraq (Operation IMPACT). In 2018–2019, Operation PRESENCE-Mali was created to support the United Nations Multidimensional Integrated Stabilization Mission in Mali. This is part of the Government of Canada’s overall efforts to help set conditions for durable peace, development and prosperity in Mali.

Furthermore, the department remains concentrated on the process of renewing its major equipment fleets including fighter aircrafts and maritime warships.

Approved by:

Dated: August 22, 2018

Ottawa, Canada

5. Financial tables

• Table 1: Statement of authorities
• Table 2: Departmental budgetary expenditures by standard object