National Audit Office issues scathing report on Enemalta

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National Audit Office issues scathing report on EnemaltaThe Auditor General has conducted a performance audit addressing the effectiveness of Enemalta Corporation’s fuel procurement. The National Audit Office (NAO) focused on the procurement process as a whole, and the Corporation’s hedging function.

From an essentially strategic perspective, NAO said its primary concern with respect to the operations of the Fuel Procurement Committee (FPC) centres on the fact that no policy framework was in place during the period 2008 up to end 2010. Prior to the formulation of the Corporation’s Fuel Procurement Policy in January 2011, Enemalta’s fuel procurement function was effectively operating in a policy vacuum.

NAO’s “concerns relating to the operations of the FPC intensify with respect to meetings held in 2008 and 2009. Corresponding FPC meeting minutes reviewed by NAO lacked the most rudimentary level of detail and bore no information relating to meeting discussions and decisions taken. Besides being handwritten and mostly undecipherable, these minutes also lacked a basic record of Committee members present.

“The above-discussed implications associated with the systems of poor record-keeping and documentation that characterise and pervade the operations of the FPC prior to May 2011 rendered it impossible for the NAO to effectively audit the decision-making process employed by the Committee in adjudicated tender bids received and evaluated.

“The implications of such severe limitations in the availability of records documenting the FPC’s decision-making process are brought to the fore in those instances when the Committee awarded tenders to bidders who (based on severely limited information at the NAO’s disposal) did not submit the most favourable offer.”

NAO said that although it” has no major concerns relating to the reconciliation of fuel procured in terms of quantity, quality-related concerns have emerged. With specific reference to instances of incongruence between employed standards and test methods, albeit addressing the same parameter, NAO is somewhat concerned with the absence of any documentation indicating equivalency checks. On the other hand, other instances of incongruence between test methods established as per contractual specifications, and those presented in the various analysis reports reviewed by the Office, were not in fact addressing the same parameter.

“It is in this context that NAO’s concern intensifies, as such occurrences are clearly indicative of a system fraught with gaps and weaknesses in terms of quality control, attributable to Enemalta and its various suppliers. NAO is also concerned with whether Enemalta is instituting the necessary corrective action when missing property test results are received, and what corrective action is taken in instances of out-of-spec results.”

NAO said its “principal concern emerging in relation to the transfer of diesel, during the period 2008 up to mid 2011, centres on the poor contract management practices exhibited by Enemalta. Such shortcomings were rendered amply evident through the series of contractual extensions directly conceded to an oil bunkering company, which at best, may be considered as representing an affront to the principles of good governance.

“This already highly tenuous situation is further exacerbated by the considerable increase in the rate payable to the contractor. The revision in rate, irrespective of excuses regarding the cleansing of barges put forward by Enemalta on behalf of Island Bunker Oils Ltd is, in NAO’s view, unacceptable justification for bypassing the most fundamental principles of good practice with respect to procurement.”

NAO said that the second component of this audit focused on hedging, which succinctly put, is the process of removing undesirable risks. Enemalta Corporation undertakes hedging with respect to its fuel and foreign currency (forex) requirements and entrusts this task to the Risk Management Committee (RMC). NAO’s primary concern with respect to Enemalta’s hedging policy essentially relates to the “absence of an appropriate policy framework against which the Corporation may subsequently set its strategic orientation.”

The Office considers the overlap between hedging policy and hedging strategy as counterproductive in terms of the Corporation’s governance structures. In effect, NAO noted “inconsistencies in eliciting who was ultimately responsible for the setting of Enemalta’s hedging policy and strategy, with the apparent overlap between the Ministry’s and Corporation’s input on the matters obfuscating an already complex state of affairs.” NAO’s concern in this respect further intensifies with regard to instances when Ministerial interventions directly impacted on the setting of the RMC’s hedging strategies.

In NAO’s opinion, “Enemalta’s adopted hedging strategy relating to the defence of the set tariff is a contentious position.” The Office supports the notion that working at securing hedges below the established tariff effectively constitutes working towards a false target. NAO said it considers it the ultimate responsibility of the RMC to seek to profit from all market scenarios, irrespective of their relative relation to the established tariff.

NAO said in the report that its main concern with respect to the scheduled frequency of RMC meetings relates to the “prolonged period of inactivity registered in 2009 with no documentation, meeting minute, email or record being provided to the NAO justifying the ten-month lull in RMC activity.” NAO’s concern “further intensifies with respect to a number of forex hedging transactions that were undertaken by Enemalta during this ten-month period of RMC inactivity without any clear indication provided as to who was responsible for authorising such deals.”

The Office’s concern with respect to the “RMC’s governance structure, as well as the mechanisms intended at ensuring its accountability, centres on the absence of key documentation, particularly so in cases of discrepancies arising between hedged volumes and hedged prices vis-à-vis the Committee’s established targets.” An equally important issue of concern identified by NAO with respect to “governance and accountability relates to instances when the RMC was informed of hedging-related decisions as a fait accompli by one of the Committee’s members.”

The Report points out that “attention is also directed towards other instances when the RMC failed to capitalise on favourable market conditions.” NAO’s contention in this regard is with respect to the “rationale employed by the RMC in deciding not to hedge, despite the near ideal market conditions, and further accentuated when seen in light of the respective recommendations put forward by its forex and fuel consultants.”

The Office considers the limited information provided as poor evidence of the actual quotations sourced by the RMC. “With regard to crude oil hedging, quotations that were provided narrowly and exclusively corresponded to Committee activity registered in 2008, with no evidence put forward in relation to the other years under audit review. In its review of the limited information made available by Enemalta in this respect,” NAO noted that the Corporation did not employ a systematic approach in its endeavours at sourcing quotations from investment banks/oil companies. NAO’s concern further intensifies with regard to forex hedging, in which case no quotations were made available by the Corporation for the Office’s review.

NAO said, “concern with respect to the Corporation’s hedge coverage is twofold. Barring 2008, when Enemalta’s hedged volume percentage was adequate and well-aligned with its requirements, the years 2009, 2010 and 2011, provide a somewhat contrasting scenario.”

The Office’s first concern in this respect relates to instances “when the Corporation had a low hedge coverage, most notably in 2009, yet also the case in 2011. NAO considers such periods as inconsistent with Enemalta’s stated risk-averse approach towards hedging, leaving the Corporation exposed to price surges in the crude oil market. The second concern emerging in this regard relates to 2010, in which case Enemalta was effectively over-hedged.”

NAO’s primary concern with regard to forex exposure relates to shortcomings identified in relation to the completeness and organisation of data. NAO considers the noted discrepancies and variations in hedged volume percentages as possibly linked to gaps in coordination between the Corporation’s fuel procurement arm and its hedging function.

“Notwithstanding the above, Enemalta’s crude oil hedging activity with respect to the period 2008 up to 2011 resulted in a net gain of approximately €744,000, while corresponding forex hedging activity similarly resulted in a gain of approximately €18.6 million.” NAO said.

These issues are comprehensively addressed, along with others, in the performance audit report entitled ‘An Analysis of the Effectiveness of Enemalta Corporation’s Fuel Procurement,’ which may be accessed through the NAO website (www.nao.gov.mt) as from tomorrow.

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