Republic of Kenya Country Financial Accountability...

Report No. 25805 - KE

Republic of KenyaCountry Financial Accountability Assessment

November, 2001

Africa RegionOperational Quality & Knowledge Services UnitFinancial ManagementWorld Bank, Washington, D.C.

Document of the World Bank

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Country Financial Accountability Assessment Republic of Kenya

REPUBLIC OF KENYA

COUNTRY FINANCIAL ACCOUNTABILITY ASSESSMENT

Table of Contents

PREFACE ..................................................... v

EXECUTIVE SUMMARY .................................................... VI

PART A: PUBLIC SECTOR ..................................................... 1

Section 1: Government Financial Planning and Budgeting ................................................ . 21.1 Review of the current system .. 2

1.1. 1 Legislative and regulatory environment .. 21.1.2 Transparency and integrity of the budgetary system and mechanism . . 51.1.3 Technical capacity and willingness to implement and promote best practice . 51.1.4 Ongoing reforns .. 6

1.2 Assessment of the current system .. 61.3 Conclusion and recommendations .. 7

Section 2: Government Accounting and Financial Reporting .......................................... . 82.1 Review of the current system .. 8

2.1 1 Legislative and regulatory environment .. 82.1.2 Transparency and integrity .. 92.1.3 Ongoing reforms .. 12

2.2 Assessment of the current system .. 132.3 Conclusion and recommendations .. 14Section 3: Public Sector Internal Control and Records Management . ....................................... 163.1 Review of the current system .. 16

3.1.1 Legislative and regulatory environment .. 163.1.2 Technical capacity and willingness to implement and promote best practice .. 173.1.3 Ongoing reforms .17

3.2 Assessment of the current system .. 183.3 Conclusion and recommendations .. 19Section 4: Public Sector Auditing .......................... 204.1 Office of the Controller and Auditor-General .. 20

4.1.1 Review of the current situatioon .............................................................................. 204.1.1.1 Legisbtive and regulatory environment ............. 204.1.1.2 Capacity and ability to promote best practices ....................... ............... . .204.1.1.3 Ongoing reforms ............. 21

4.1.2 Assessment of the current situation ............. 224.1.3 Recommendations ............. 24

4.2 Internal Audit Department (Treasury) .. 244.2.1 Review of the current situation .. 244.2.2 Assessment of the current situation .. 254.2.3 Conclusion and recommendations .. 26

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Section 5: Legislative Scrutiny, Ethics and Integrity..................................2 75.1 Legislative Scr-utiny......... .......................... ............ 27

5.1.1 Review of the current system................... ........... .......... 275.1.1.1 Regulatory environment, transparency and integrity...................275.1.1.2 Strengths and weaknesses of the oversight mechanisms............. .275.1.1.3 Conformity of local established practice with internationally recognized

benchmarks .............................................. 285 1.1.4 Ongoing reforms ........................................... 28

5.1.2 Assessment of the current system ...... .................. ......... . . 285.1 3 Recommnendations . ........................................... .. . 29

5.2 Ethics and Integrity ...... .......... .......... .............. ........... 295.2 1 Review of the current situation..................................... 29

5.2.1.1 Legislative and regulatory environmient .......................... 295.2.1.2 Capacity and ability to implement and promote best practice ............ 305.2.1.3 Ongoing reforms ......... .............................. 30

5 2.2 Assessment of the current situation . . ..... ........................... 3 15.2.3 Recommendations............................................. .. .32

Section 6: Local Government Financial Accountability.................................33

6.1 Review of the cuirrent situation ....... .... .. ............................ . . 336 1 .1 Legislative and regulatory environment . ..... ... ............... ..... 336.1.2 Transparency and integrity ....... ........ .... ...... .. . . . . 346.1.3 Technical capacity............................................... . . 356.1.4 Ongoing reformns ........................ ..... .......... 35

6 2 Assessment of the current situation......................................... . . 366.3 Conclusions and recommendations .'...... ................................. 38Section 7: Public Access to Information on Public Sector Financial Management ............ 407.1 Review of the current situation.............................................. . . 40

7.1 1 Legislative and regulatory environment....................................407.1.2 International benchmarks .. ................................ ........ . . 407.1.3 Accessing informnation on government planning and spending .. .... .......... 40

7 2 Assessment of the current situation .................................... ...... . . 417.3 Conclusions and recommendations ............ .............. ................ 42

Section 8: Non-Governmental Organizations (NGOs) and Community Based Organizations(CBOs).............................................................43

8.1I Review of the current situation .............................................. . . 438.1.1 Legislative and regulatory environment............... .................. 438.1.2 Transparency and integrity............................................ . . 438.1.3 Capacity and ability to implement and promote best practice ................... 448.1.4 Current initiatives for financial accountability reformns........................ . . 44

8.2 Assessment of the current situation.................... .......................... 448.3 Conclusion and recommendations............................................ . . 46

Section 9: Government Business Enterprises........................................4 79.1 Review of the current situation............................................... . . 47

9.1.1 Legislative and regulatory environment, transparency and integrity................479.1.2 Compliance with established rules, regulations and benchmarks................... 489.1.3 Technical capacity to implement and promote best practice ..................... 48

9.2 Assessment of the current situation............................................ . . 489 3 Conclusion and recommendations ............................................ . . 49

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PART B: PRIVATE SECTOR ..................................................................... 50

Section 10: The Accountancy Profession and Standard Setting ................................................. 5110.1 Review of the current situation ..................................................................... 51

10.1.1 Legislative and regulatory environment .................................................................... 5110.1.2 Professional education and training ..................................................................... 5210.1.3 Established professional rules, regulations and standards ........................................... 5210.1.4 Technical capacity to implement and promote best practice ....................................... 5310.1.5 Ongoing reforms ..................................................................... 53

10.2 Assessment of the current situation ..................................................................... 5410.3 Conclusion and recommendations ..................................................................... 54

Section 11: Corporate Governance and the Corporate Business Environment . . 5611.1 Corporate Governance ..................................................................... 56

11.1.1 Review of the current situation ...................................................................... 5611.11.1. Regulatory environm ent ..................................................................... 5611.1.1.2 Willingness to implement and promote best practice and Ongoing reforms ..58

11.1.2 Assessment of the current situation ............................................. 5811.1.3 Conclusion and recommendations ..................................................................... 59

11.2 Registrar of Companies ...................................................................... 5911.2.1 Review of the current situation ..................................................................... 59

11.2.1.1 Legislative and regulatory environment ..................................................... 5911.2.1.2 Transparency and integrity ..................................................................... 6011.2.1.3 Ongoing reforms ..................................................................... 61

11.2.2 Assessment of the current situation ............................................. 6111.2.3 Conclusion and recommendations ..................................................................... 62

11.3 The Banking Sector ..................................................................... 6211.3.1 Review of the current system ..................................................................... 62

11.3.1.1 Legislative and regulatory environment ..................................................... 6211.3.1.2 Transparency and integrity ..................................................................... 6311.3.1.3 Extent and quality of compliance with established statutory requirements .... 64

11.3.2 Assessment of the current system ..................................................................... 6411.3.3 Conclusion and recommendations ..................................................................... 65

11.4 The Insurance Sector ..................................................................... 6511.4.1 Review of the current situation ..................................................................... 6511.4.2 Assessment of the current situation ..................................................................... 6611.4.3 Conclusion and recommendations ..................................................................... 66

11.5 Capital Markets ..................................................................... 6611.5.1 Review of the current situation and system ............................................................... 66

11.5.1.1 Legislative and regulatory environm ent ..................................................... 6611.5.1.2 Extent and quality of compliance with established rules or regulations ......... 6711.5.1.3 Ongoing reforms ..................................................................... 67

11.5.2 Assessment of the current situation and system ......................................................... 6811.5.3 Conclusion and recommendations ..................................................................... 68

PART C: APPENDICES ..................................................................... 69

Appendix 1: Bibliography ..................................................................... 70

Appendix 2: List of People Met ..................................................................... 74

Appendix 3: Initiating Memorandum ..................................................................... 77

Appendix 4: Sections of the Checklist ..................................................................... 93

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Abbreviations and Acronyms

ACCA Association of Chartered and Certified Accountants (UK)AIE Authority to Incur ExpenditureBMU Budget Monitoring UnitC&AG Controller and Auditor-GeneralCAS Country Assistance StrategyCBK Central Bank of KenyaCBO Community Based OrganizationCCS Commitment Control SystemCFAA Country Financial Accountability AssessmentCMA Capital Markets AuthorityCPAR Country Procurement Assessment ReportECSAFA Eastern, Central and Southern African Federation of AccountantsEMU Efficiency Monitoring UnitFC Finance CommitteeFSP Fiscal Strategy PaperGOK Government of KenyaTAD Internal Audit DepartmentIAS International Accounting StandardsIASC International Accounting Standards CommitteeICPAK InstitLte of Certified Public Accountanits of KenyaIFAC International Federation of Accountants[FMIS Integrated Financial Management Information SystemIMF International Monetary FundINTOSAI International Organization of Supreme Audit InstitutionsIOSCO International Organization of Securities CommissionsISA International Standards on AuditingIT Information TechnologyKACA Kenya Anti-Corruption AuthorityKASNEB Kenya Accountants and Secretaries National Exammations BoardKLGRP Kenya Local Government Reform ProgrammeLA Local AuthoritiesLASC Local Authonty Services ChargeLATF Local Authority Transfer FundLATFR Local Authority Transfer Fund RegulationsLGFR Local Government Financial RegulationsMOFP Ministry of Finance and PlanningMOLG Ministry of Local GovernmentMP Member of ParliamentMTEF Medium Term Expenditure FrameworkNDP National Development PlanNGO Non-Governmental OrganizationNSE Nairobi Stock ExchangePAC Public Accounts CommitteePTC Public Investments CommitteePLGO Provincial Local Government OfficerPRSP Poverty Reduction Strategy PaperPSICG Private Sector Initiative for Corporate GovernanceRAB Registration of Accountants BoardROC Registrar of CompaniesSAS Simplified Accounting SystemSORAAP Statement of Recommended Accounting and Audit Practice

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PREFACE

This Country Financial Accountability Assessment (CFAA) considers the strength of thefinancial accountability framework in Kenya's public and private sectors. It is intended to assistthe Government's own ongoing efforts and reforms to strengthen the financial accountabilityframework and build capacity to carry out financial accountability functions. The reportassesses whether the design and implementation of the framework are adequate to ensure theproper use of Governmeit and donor resources. It also measures the degree of compliance withrules and procedures; identifies areas of risk, especially where the country's formal rules,systems, and procedures fall below international benchmarks, and suggests remedial actions andmitigating measures. In addition, the assessment focuses on progress made in building capacityto perform the duties necessary to ensure financial accountability, with special concern forgovernance issues and the public interest.

A World Bank team conducted the CFAA with support by stakeholders from both the publicand private sectors. The World Bank team comprised: Marius Koen (Team Leader, AFTQK),John Nyaga (AFTQK, Country Office), John Ogallo (AFTQK, Country Office), DonaldMphande (AFTQK, Malawi Office), Margaret Olale (Disbursement Assistant, Country Office),Wanjiku Warui-Njoroge (Team Assistant, Country Office) and Lucy Karanja (DFIDConsultant: Wachira Irungu & Associates). Contributions by Peter Warutere (ExternalRelations Officer, Country Office) is also recognised.

Peer reviewers were Sanjay Vani (ECSCS), David Shand (OPCFM) and Zubaidur Rahman(LOADR). The work was completed under guidance of Brian Falconer (Regional FinancialManagement Advisor) and Melanie Marlett (Country Coordinator).

The study was done between November 2000 and April 2001 and consisted of questionnaires,written submissions, desk reviews and interviews with key personnel of GovernmentDepartments and other organizations that participated. The team would like to express theirsincere gratitude to the Ministry of Finance and Planning, and to those individuals from both thepublic and private sectors that participated and submitted comments. Also, the World Bank isgrateful to the Department for International Development (DFID) for financing the work of theconsultants.

It was envisaged to engage the major stakeholders to consider the salient recommendations ofthe CFAA at a workshop and expand on the development of an action plan that would addressthe key issues. However, by November 2001 no agreement to the proposed workshop, norconsolidated comments from the cross section of the stakeholders had been received, in view ofwhich it was decided to finalize and issue the report.


EXECUTIVE SUMMARY

A Country Financial Accountability Assessment (CFAA) considers the strengths of financialaccountability processes in both the public and private sectors. It is an assessment and not anaudit; its findings cannot therefore provide complete assurance on the status of financialaccountability processes, procedures or systems. A CFAA is a "snapshot" at a particular pomtin time which highlights those issues that are more directly associated with fiduciary risk. Thisreport focuses specifically on institutional arrangements and structural strengths and weaknessesin processes, procedures, and systems.

The CFAA had two key objectives, firstly to facilitate a common understanding by theGovernment of Kenya and development partners of the country's financial managementarrangements in both the public and private sectors, identifying areas for improvement andreaching agreement amongst key stakeholders on how to take this forward. Secondly, toidentify areas where accountability arrangements need to be strengthened and the nisks thatthese may pose in relation to the use of public funds.

Kenya's system of financial management in the public sector has some strengths, notably asound code of financial regulations, the existence of a core of skilled top level managers, anupdated budget framework, the computerization of a number of financial accountabilityfunctions as well as the powers and autonomy of the Controller and Auditor General (C&AG)rooted in the Constitution. In the private sector, the accountancy profession is well establishedand the Government has created an enabling environment for financial accountability through asolid legal framework. Nevertheless, the fiduciary risk in public spending is assessed as high.While a lack of compliance with established financial and procurement regulations havecompletely rendered many initiatives aimed at strengthening the control environmentineffective, issues of limited execution, inadequate monitoring, insufficient capacity and lack ofenforcement also need to be resolved. The country's financial accountability framework, andtherefore financial management, would be considerably more effective and the associatedfiduciary risk mitigated, if these areas were strengthened. Consequently, it is envisaged that anykind of adjustment or programmatic lending in the immediate future would have to go hand inhand with significant improvements in public sector financial management.

Governinient financial planning and budgeting: The budgeting process is underpinned on astrong institutional and elaborate legal framework. However, considerable fiduciary risksremain in the budgeting system in Kenya, particularly with regard to the budget executionwhich has, in practice, not adhered to government procedures, thereby compromising itspurpose for control and accountability of public resources. In this, there are obvious risksattributed to inadequate assurance that allocated resources are used economically and efficientlyfor the intended purposes and beneficiaries (value for money). This position has been cited inthe various reports of the C&AG. Although the potential gains of the Medium TermExpenditure Framework (MTEF) are yet to be fully understood, appreciated and unlocked, it ishoped that greater effort will be made to link budget inputs to outputs and outcomes/impacttaking the efficiency factor into consideration. The existence of poor linkage between policiesand budget process, has made it impossible to measure outputs from activities where resourceshave been used. Finally, falling domestic revenues against projected forecasts is underminingthe ability of government to sustain a reliable and dependable level of service delivery, whichoften tends to exert undue pressure on available resources against many demands.

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Government accounting and financial reporting: A number of reform initiatives are ongoingwith a view to enhancing greater financial accountability and efficiency in the governmentaccountng framework. Examples include a review of the Exchequer and Audit Act, whichseeks to improve the legal and regulatory framework for financial management in the publicsector, proposals to develop an incentive-based scheme of service for accountants ingovernment and putting in place an Integrated Financial Management Inforimtion System(IFMIS) that will help link the different and fragmented operations to form a comprehensiveframework for the accounting practice in government (inclusive of districts). Nevertheless,considerable risks remain as a result of the following weakness:o Compliance with the regulatoryframework. The 1997/8 report of the C&AG consists of

217 pages with over 900 paragraphs documenting a series of unresolved audit queries. Theyinclude instances of inadequate record keeping, non-compliance, irregularities, cases ofincompetent staff, flawed procurement procedures, irrational recruitment, poor managementand weak financial/internal controls. Although these queries do not necessarily equal fraudor corruption, it creates a substantial fiduciary risk in an environment of financial andprocedural confusion. This situation has continued unabated in view of weak capacity atTreasury to monitor compliance with internal regulations, procedures and controls by theministries and departments.

o Completeness, accuracy and reliability of government accounting and reporting: Theseattributes of financial statements are significantly hampered by the numerous examplesreported by the C&AG of expenditures that can not be supported by proper evidence as wellas transactions that are not fully captured in the accounts. In situations like these, the trueand fair view concept in accounting may be uncertain, especially where the items arematerially affecting the accounts, e.g. where state enterprises are so much indebted that theyhave negative working capital, leaving them technically insolvent, yet they continue tooperate with financial support from donors through project funding and governmentsubventions. This situation imply that fiduciary risks for reliability and accuracy of recordsin the public domain contmue to increase unabated.

o Non-attractive compensation terms: Although there is a relatively large number of supportaccounting technicians and semi-qualified accountants in the service, it's highly unlikelythat the scenario will change over the short term, to attract fully qualified accountants in thepublic sector. The poor compensation in the public sector as a whole has been the majorreason why government has often found it difficult to attract and retain some of the bestpeople after having invested so much resources in their training.

Public sector internal control and records management: Although internal control andrecords management requirements are well articulated in the financial regulations andprocedures, there is general laxity to comply with them. Disadvantages noted in the system isthat it is labor intensive and substantially devoid of computerization which makes it grosslyinefficient and laborious. As a result, opportunity for fraud, corruption, theft and pilferage hasbeen freely allowed, undermining the control environment in the government accountingsystem. Various C&AG's annual reports on the Appropriation Accounts and the number ofcases highlighted in the Public Accounts Committee's (PAC) reports demonstrate non-compliance by mimstries and departments. It is also evident that corrective action is notpreferred and supervision by management is weak or lacking.

Public sector auditing: Both the external and internal public sector audit functions are useful inmanaging public sector spending, ensuring financial accountability and curbing corruption by

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reinforcing legal, financial and institutional frameworks and reducing arbitrary application ofrules and laws.* External audit: The Office of the C&AG is perhaps the only known institution in the public

service where meritocracy is upheld. However, it still suffers from a shortage of qualifiedand experienced staff which leads to the application of outdated audit techniques and theinability to keep up with the changing scope and complexities of audit work. Otherweaknesses include the delay in completing audit reports to be submitted to parliament anda lack of adequate momtoring and follow-up of audit findings. Finally the proposedlegislation which is expected to bring about enhanced operational autonomy andindependence from the Executive is long overdue. The legislation will also bring back thefragmented public auditing function under one umbrella practice and control of the NationalAudit Office.

* Internal audit. The current set up of the Internal Audit Department (IAD) is very weak. Itsoperations are not specifically recognized and governed by any legislation. Lack of capacityto monitor the department's operations and follow up of its reports undermines the purposefor which it was established and makes it technically ineffective. There is need to expandthe mandate of the IAD and to have its powers explicitly embedded in legislation.

Legislative scrutinty, ethlics and integrity: The C&AG's annual reports have year after yearcited numerous instances where fraud, wastage and poor accountability and failure to reconcilerelatively huge balances in government accounts, have for many years not been attended to Inaddition, m-discipline has not been punished and suspected corruption in transactions have notbeen brought to conclusion. Although there is a willingness amongst members of PAC and PICto improve their effectiveness, their technical capacity is often low. These committees alsosuffer from a fundamental weakness m that they have no power to force the executive toimplement their recommendations - unwillingness to take corrective measures, slow legalprocess, as well as lack of interest to implement their recommendations have all compromisedand undermined financial accountability principles in government.

The Government has initiated several corruption prevention strategies and major reform effortstowards enhancing financial accountability, including (1) the establishment and strengthening ofthe Kenya Anti-Corruption Authority (KACA), (2) the establishment of the Directorate ofProcurement within the Ministry of Finance, (3) the development of a National Anti-corruptionPlan in collaboration with all the stakeholders, and (4) the tabling of the Public Service (Code ofConduct and Ethics) Bill (2000) as well as the Anti-Corruption and Economic Crimes Bill(2000) in Parliament. Sadly, the proposed legislation, on which these major reforms are based,has been stupended by parliament due to technical issues which have not been resolved by thetime of issuing this report.

Local governient financial accountability: In 1996 the Ministry of Local Government(MOLG) established the Kenya Local Government Reform Programme (KLGRP) secretariatwhich has as one of its main objectives to improve financial accountability of local authorities(LAs). Nevertheless, the public management hierarchy of LAs still allows for duplication andmultiple accountability at the levels where councils are established whereas democraticallyaccountable governance structures are lacking at the village, sub- locational, rural divisional andprovincial levels. Other weaknesses that pose significant fiduciary risk includes the following:* The lega I framework and financial requirements for financial accountability are fairly strong

but the relevant stakeholders do not adhere to them for various reasons. Also, the MOLG


seems unable to fulfill its functions due to insufficient resources and facilitation, but mainlydue to lack of a long tenrn strategy for the sector.

o Unrealistic budgets are enforced on LAs and are therefore, generally, ignored for thepurpose of managing performance. Some are approved long after the beginning of therelevant financial year. Also the budgeting process has not been open to public participationand consultations with other stakeholders.

O Though current rules and structures require LA political and administrative leaders to beaccountable, this is never enforced. Internal checks and balances have proved to be weakand easily ignored while procurement practices are not transparent.

o Institutional capacity is low. This has resulted in the shortage of financial managementstaff, which is expectantly more acute in rural LAs than in urban ones. Accountingdepartments are also not well facilitated with modem processing, communicating, and datamanagement equipment.

o Records are not properly maintained and reconciliations and final accounts are not prepared.Normal book-keeping of primary records, including bank reconciliation statements, is alsoin a backlog position.

o The majority of LAs do not comply with the rules and regulations and some of them havenot submitted final accounts since mception. Also, external audit is not complete as all LAsare in a backlog position.

Public access to information on public sector financial management: Even though theConstitution provides for freedom of information, the provisos to it tends to undermine itseffectiveness to a large extent. The onus has been placed on the seeker of information to showwhy information should be availed to him/her. There is need to carefully consider theincorporation m the Constitution of a specific provision on the Right to Freedom of Informationwith the eye towards maintaining the spirit of the original Constitution and InternationalConventions. Capacity of existing public institutions of financial accountability need to beimproved to enable them to facilitate access to credible and objective public information by thepublic in a timely manner. The Finance, PIC and PAC meetings should be opened up to thepublic and the media unless matters are dealt with where particular evidence needs to be heardin camera. Finally, there is need to raise the awareness of the public about their basic right offreedom to access public information.

Non-government organizations (NGOs) and community based organizations (CBOs): Therole of the fast growing NGO/CBO sector in the socio-economic development in Kenya hasbeen gaining increasing prominence, particularly the crucial contribution towards povertyalleviation. NGOs are required to prepare annual financial estimates, but there is no mechanismto ensure compliance. Accountability and transparency are also weak as a result of lack of aneffective monitoring regime. Most NGOs have low compliance with accounting standards andlimited compliance with established regulations and procedures. CBOs registered under theSocieties Act are required to submit annual returns which may or may not include financialstatements. They are under no obligation to prepare financial statements unless demanded bydonor agencies. In general, there has been little emphasis on good financial management andaccounting practices. Hence, transparency and financial accountability are often not used ascriteria for securing donor funding, thus creating situations of high fiduciary risk.

Government business enterprises: There is urgent need to harmonize the State CorporationsAct with the enabling Acts of Parliament to remove inconsistencies. Compliance with the

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requirements of the Act varies from low to high, depending on the quality of the Board andmanagement of a particular State Corporation. Weak accounting and internal control systemshave been retained by Boards and management of some State Corporations to perpetratefinancial indiscipline. Capacity of regulatory bodies to ensure quality is generally low. There islack of enforcement of fiduciary responsibility even by the PIC of Parliament whose pastrecommendations on punitive measures for financial impropriety have not been implemented.

The accountalicy profession and stantdard setting: Although the accountancy profession iswell established through the Institute of Certified Public Accountants of Kenya (ICPAK) andhas a solid resource base, the following issues of concern need to be addressed to provideftirther impetus to its enhancement: (1) lack of legal backing for the enforcement of Accountingand Auditing Standards, (2) need for a mechanism to monitor the quality of accountancytraining at the various training institutions, (3) the non-existence of a Quality/Peer ReviewScheme and compliance monitoring system and (4) lack of ability and capacity to providetechnical support to members of the accountancy profession. ICPAK does not have thestatutory responsibility and sole mandate to registers members and issue practicing licenses,resulting in high fiduciary nsk. On a national scale there is a need to uplift the entry standardsof students that want to register for professional training as accotntants, set up mechanisms toensure proper quality of training and upgrading education materials and facilities.

Corporate governance and the corporate business environment: In Kenya, the Governmenthas created an enabling environment for financial accountability in the prnvate sector through asolid legal framework.* Corporate governance. Corporate governance is increasingly taking centre stage in the

busmess environment due to the consistent promotion of the concept and its principles bythe Private Sector Initiative for Corporate Governance, with active support by the majorregulatory bodies in the private sector. However, there is a need for a legal frameworkwithm which corporate governance can be enforced It is also essential to raise the aware-ness of all stakeholders in the corporate environment about their right and responsibility todemand good corporate governance and financial accountability from corporate bodies.

* Registrar of companies: The Registrar's office is faced with constraints such as lack ofsufficient number of qualified staff, lack of adequate resources to meet the demands of thework program, and inadequate training opportunities - these shortcomings ncapacitatethe department's ability to fulfill its mandate. Although there is genuine willingness toimplement and promote best practice in the department, the capacity to oversee such a moveis indeed weak. Finally the Companies Act, CAP 486 (1962) needs to be updated to make itresponsive to current business and market conditions.

* Banking sector: In an effort to solve the banking crisis of the nineties, the regulatory andlegal framework for the banking sector had been strengthened in recent years. This includessignificant improvements in financial reporting and auditing compliance. However, thefollowing issues could assist in improving financial accountability in the banking sector: (1)bringing building societies within the ambit of the Central Bank's supervision framework,(2) considering the impact on the auditors' independence when also providing consultancyservices to their clients and (3) the development and implementation of a Code of Conduct

* Insurance sector: While there is adequate financial management capacity in the insuranceindustry, compliance to regulations and norms has been weak mainly because of capacityconstraints in the Insurance Commissioner's office to properly analyse the annual financialreturns and carry out its statutory mandate. Sufficient guidelines for assessing the solvency

Country Financial AccountabilityAssessment Republic of Kenya

of operators does not exist which in itself is a high fiduciary risk that the regulatory bodycould issue renewed licenses to insolvent operators.

O Capital markets: The Capital Markets Authonty is actively and efficiently promoting thedevelopment of transparent capital markets in the country. It enforces compliance by alllisted companies to prepare and present their financial statements in accordance with therequirements of International Accounting Standards. In addition, it plays an active role inthe promotion of the principles of good corporate governance in the business environment.It is worth noting that (1) there is a need for programs that promote key understanding onthe structure of the financial markets and (2) that the absence of credit rating agencies andcredit reference bureaus creates operational difficulties within the capital markets.

The most significant underlying principal of conducting a CFAA is the one of nationalownership of diagnosis and prescriptions by the country's authorities. Accordingly, thedevelopment objectives of the CFAA aims at facilitating a common understanding by the majorstakeholders in the public and private sectors of the borrower, the Bank and developmentpartners of the key issues and recommendations related to the country's financial managementarrangements and challenges. For this reason a forum was envisaged to facilitate a focuseddiscussion and reaching consensus on the findings and recommendations of the draft CFAAreport by all the stakeholders - in particular the emphasis would have been placed onpreparing a development action plan that would address the key challenges and weaknesses.Unfortunately, the workshop never took place and a:nsequently it was decided to prepare a"shadow" schedule of the salient actions that, if implemented, would make a significant impacton improving the financial accountability environment in Kenya. Should the Government ofKenya wish to revive this process in the future we will consider a follow-up workshop at thatstage.

Salient recommendations1 Government Financial Planning and Budgeting

o Improved and realistic cash revenue forecasting is imperative. The system of weekly cash rationingshould be transformed into a proper financial planning process.

o The introduction of the MTEF should be strengthened by ensuring that as far as possible all funds(including extra-budgetary funds) are managed and monitored under this mechanism.

2 Government Accounting and Financial Reportingo Urgent need for putting in place an IFMIS that will enable the integration of the current free

standing and fragmented systems and operations of financial accountmg.o The Financial Management and Accountability Bill, 2000 to be enactd by parliament.o The funds flow mechanism to the districts should be strengthened.

3 Public Sector Internal Control and Records Managemento Punitive actions should be taken to bring into existence a disciplined financial management practice

for internal control and records management in the public sector.o Implementation of recommendations made in the C&AG's reports on the state of both the intemal

control and records management practices should be ensured.4 Public Sector Auditing

o Enactment of the Kenya National Audit Office Bill to consolidate and strengthen the public auditingfunction and bring about enhanced autonomy and independence from the Executive.

o The C&AG's Annual Report on the Government Accounts should be submitted timely - thebacklog should be cleared.

o There is need to expand the mandate of the IAD. It is also suggested that the department should begiven a higher status in law by having its powers fully and explicitly embedded in legislation.

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5 Legislative Scrutiny, Ethics and Integrity* The National Assembly should increase its statutory authority to enforce the implementation by the

executive of the recommendations of PIC and PAC.* The issue of KACA's constitutional status should be resolved. Also, the two suspended Bills

mentioned above should be brought back to Parliament after proper re-drafting and enacted into law.* The anti-corruption bodies envisaged by the proposed new legislation should be empowered to

continuously monitor any corrupt practices and to prosecute cases of mal-practices6 Local Government Financial Accountability

* Generally the systems for budgeting, expenditure control, accounting, reporting and auditing shouldbe strengthened.

7 Public Access to Information on Public Sector Financial Management* There is need to carefully consider the incorporation in the Constitution of a specific provision on

the Right to Freedom of Infonration with the eye towards maintaining the spirit of the originalConstitution and International Conventions.

* Existing public institutions of financial accountability need to be capacitated so as to serve thepurpose of accessing credible and objective public information by the public in a timely manner.

8 NGO's & CBO's* Capacity of the regulatory bodies (NGO Board and the National Council of NGOs) should be

strengthened to ensure compliance and to promote best practice* Proper guidelines/standards of financial reporting and auditing should be furnished.

9 Government Business Enterprises* Need to harmonize the State Corporations Act with the enabling Acts of Parliament to remove

inconsistencies, reduce the number of govemment agencies to which State Corporations areaccountable, and streamline criteria and procedures for granting exemptions from the Act.

* The strengthening of financial accountability functions should be extended to State Corporationsthat have definite capacity shortcomings.

10 The Accountancy Profession and Standard Setting* ICPAK accounting and auditing pronouncements should have explicit legal backing.* ICPAK should have the statutory responsibility and sole mandate to registers members and issue

practicing licenses.* An effective compliance mechanism should be established through a Quality/Peer Review Scheme.

11 Corporate Governance and the Corporate Business Environment* There is need to support the Pnvate Sector Initiative for Corporate Governance by creating a legal

framework within which corporate governance will be enforceable. Explicit legal backing of theseprnciples by the Companies Act, Banking Act, Insurance Act and other related legislation isrequired to ensure compliance by all corporate entities.

* The capacity of the regulating authorities in the private sector to enforce compliance with rules andregulations should be strengthened through capacity building programs.

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PART A- PUBULC ECTOR

LEGAL FRAMEWORK

Kenya has a fundamentally well established legal framework for publicfinancial management and financial accountability that is underpinnedby existing laws. Specifically, sections 48 and 99- 105 of the Constitutionof Kenya together with the Exchequer and Audit Act, CAP 412 (1955), thePaymaster-General Act, CAP 413 (1960), and the Government FinancialRegulations and Procedures (1989) provide the legal basis for the controland management of government finances in Kenya. In this regard, allrevenues or other moneys raised or received (from any source) for thepurpose of the Government of Kenya, are to be paid into and from theConsolidated Fund, from which no moneys can be withdrawn except asmay be authorized by the Constitution or by an Act of Parliament(including an Appropriation Act) or by a vote on account passed by theNational Assembly. This doctrine lays the basis upon which publicresources are planned for, executed, accounted for and audited, whichare the basic pillars of financial accountability.


SECTION 1: GOVERNMENT FINANCIAL PLANNING AND BUDGETING

1.1 Review of the current system

1.1.1 Legislative and regulatory environment

Public sector budgeting in Kenya is an important element of Public Financial Management. It isin relative terms well established with a strong legal and institutional framework foundation,which is enshrined in Chapter VII, sections 99 to 105 of the Constitution of Kenya. The budgetsystem is fundamentally "cash based" and has over the years been improved gradually to takeinto perspective initiatives such as Commitment Control, Program Based Planning and morerecently, the Medium Term Expenditure Framework (MTEF) and the latest initiative of PovertyReduction Strategy bias in resource allocation.

The Exchequer and Audit Act, CAP 412 (1955), and the Paymaster-General Act, CAP 413(1960), provide the framework for managing the collection, issue and payment of public moneysin the government The government budget and accounting (i.e. financial) penod is annualcycles, running from July 01 to June 30. The general legal framework requires that governmentbudget should provide for the following basic features.

* Revenue/expenditure plans of government ministries/departments.* Provision for both Recurrent and Development votes.* Reflection of political, legal, social-economic policy measures of government

Budget cycle- The government budget cycle in Kenya is marked by three broad phases, i.e.budget preparation, budget execution and buclget review In between, there are a number ofinterfaces of significant importance from a process perspective. The annual estimates areprepared by the spending ministries and departments around March in readiness for submissionto the Treasury for rationalization and compilation before the national budget is presented to theNational Assembly in the month of June. While debate in Parliament over the budget is inprogress, spending ministries/departments are authonzed to implement up to one half (50%) ofthe budgeted allocation for the year ("Vote on Account") and in accordance with the Treasury'sinstructions and guidance.

Budget preparation: One of the core functions of the Ministry of Finance and Planning (MOFP)in public expenditure management is to oversee the preparation process of the budget by thespending ministries and departments. The main features of this function are:

* Initiation of the budget formulation process, giving guidance and setting the framework forthe spending ministries and departments to follow.

* Determination of the budget ceilings for the spending ministries and departments at all levelsof the budget structure.

* Issuance of the budget circular along with various useful indicators such as inflation rate, etc.that would be assist the spending ministries and departments to develop realistic forecasts.

* Facilitate thorough discussions with spending ministries and departments before finalizingeach mmistry's and department's estimates.

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o Consolidation of all the agreed estimates for spending ministries and departments imreadiness for presentation to the National Assembly.

o Oversee and lead the preparation of supplementary and forward estimates by spendingministries and departments.

THE SEQUENCE OF MAIN EVENTS IN THE BUDGET PREPARATION PROCESS

o Preparation of Fiscal Strategy Paper (FSP) on the macroeconomic environment and determination of thekey macroeconomic variables that are likely to influence the revenue inflows for the ensuing year.

o Cabinet approval of the FSP.o The budget pre-planning meetings with stakeholders i.e. private sector representatives and other

interested groups in the wider economy.o Treasury issues to the ministries/departments a budget call circular which deals with ceilings for the

sectors on the basis of the outputs from the FSP.o Consultation with stakeholders follows.o Compilation and presentation of the Government budget to the National Assembly for approval, which must

be done not later than 20t day of June each year.o After parliamentary approval is obtained - Vote on Account approval is secured and issued to

ministries/departments to execute the budget effective lt day of July each year.o Debate on the Appropriation Bill and passing of the Appropriation Act by the National Assembly.o Presidential assent and issuance of General Warrant to Treasury.o Issuance of the Authority to Incur Expenditure (AlEs) by accounting officers of ministries or departments to

executing agencies under their controlOther phases of the budget cycle include the preparation of forward budget which is based on a three year rollover time frame, usually in the months of SeptemberlOctober.

Budget execution and review: The primary tasks of this phase can be summarized as follows:

o In consultation with the budget preparation department, issue the sanctioned spendingallotments to all the spending ministries and departments.

o Advise cash managers of any unexpected cash requirements for all operations.O Monitor the commitments that may have been entered into by spending ministries and

departments.o Review and monitor regularly the expenditure budgetary needs of the spending ministries

and departments with a view to releasing spending warrants (AIEs) to them.o Evaluation of actual expenditure against the sanctioned budgetary provisions (budgetary

control) and oversee the midyear review of all revenue and expenditure data and forecasts.o Review and monitor all proposals for supplementary funding from the exchequer and

updating of the approved final budget.o Monitoring and reviewing the operations of State Enterprises and Statutory Bodies, etc.

especially where they receive subventions from the exchequer.

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The figure above illustrates the budget cycle that runs throughout the government financial year(i.e. July through to June):

There has been recognition by the Kenyan authorities that government budgets were faced withsome systemic problems which compromised their effectiveness in expenditure control. As aresult, MOFP was unable to adequately monitor or control spending in ministries anddepartments. Due to weak public expenditure management and inadequate compliance withfinancial regulations there were persistent spendmg overruns and accumulation of domesticarrears. A study by the International Monetary Fund (IMF) of the public expendituremanagement in Kenya in February, 2000 indicated that unrealistic costing of policies aggravatedthe problem of poor compliance, giving rise to many irregular in-year additions to spending. Inparticular, debt service and wages were almost always crowding out operations and maintenancespendmg. 1 Effort has been made to implement some of the recommendations, geared atimproving present procedures, promote better integration and coordination, and implement morecomprehensive medium-term program of reforms. Some of the short-run actions already put inplace aim at providing a more enablmg institutional framework for public expendituremanagement, which include strengthening of Finance Officers' position in spending agencies andstreamlining operations of the District Treasuries under the purview of MOFP.

Cash based budget has the advantage that funds are only released on the basis of rations madeavailable to areas of expenditure to which the government attaches "high priority". The goodaspect of this is that there is likely to be desired results and impact from well funded activitiesrelative to the outcome of proportional distribution of the available cash thinly across all thevarious approved expenditure items. If w.ed well, this tool has demonstrated its strength forexpenditure control and in keeping creation of pending bills in check, with help from budgetmonitonng feedback. The downside of cash based budgets is that the release of funds isunpredictable and not transparent, often laced with arbitrary allocation of funds, which issometimes politically influenced. Although there is tremendous effort to improve on thepredictability of release of funds, there still remains bottlenecks in the flow of funds mechanismwhich is a major systemic problem faced by both donor supported projects as well asgovernment own funded projects. This contributes substantially to the government's inability toabsorb donor funds within the planned period2 .

One major reform initiative aimed at improving public budget structure in Kenya is theintroduction of the MTEF by the government. In broad terms, MTEF entails establishment of aframework and decision making process that permits budget resource allocation decisions to bebased on outcomes they are expected to produce, e.g. decline in poverty, healthier, better skilledand educated populace, etc. MTEF concept presents a strong tool of ensuring the best possibledelivery of public services and investment decision by the government. Year 2000/2001 budgetwas the first MTEF based budget, which already began to demonstrate the new thinking in themanner in which national priorities as articulated in policies, received adequate attention inresource allocation. Because it is still in its early stages of adoption, much remains to beachieved in both definmg the concept in the Kenya context and the strategy for itsinstitutionalization. During the first year of its adoption, it was evident that spending agencies

l IMF Fiscal Affairs Department July 2000 Report on Kenyas Agenda for Reforming Public ExpenditureManagement by J Diamond, T. Prakash, H S Jung, M Flanagan and G Hansen2 By end of March 2001, over 0.5 billion US dollars remained undisbursed under the IDA supported portfolio inKenya

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had not adequately been prepared for it. In this regard, training of spending agencies all relevantlevels was instituted, the effect of which will be expected to be illustrated in the quality of thenext MTEF based budget. Further gains can be achieved with its continued stewardship byMOFP. Some of the threats that will require some attention are:

o Treatment of pending bills and other commitment.o How new and old policies in budgeting are handled.O Ensuring budget prioritization is fully inclusive of all expenditure, i.e.

D Extra-budgetary fundinga Tax expenditures, etc.

It is envisaged that successive implementation of MTEF (program based budgeting) reforms willamong other things lead to greater transparency, sound and comprehensively based resourceutilization. This however, is underpinned by the need to substantially improve budgetpreparation techniques across the board.

1.1.2 Transparency and integrity of the budgetary system and mechanism

With the introduction of MTEF, government budgeting process is becoming much moreinclusive and transparent that in the past, thus reducing potential risks during budget execution.Transparency and integrity in the preparation of the next MTEF based budget will substantiallybenefit from the recently concluded consultations with stakeholders of the Poverty ReductionStrategy Paper (PRSP) which was fully driven by the government. Workshops and seminarswere held in various major centers in the entire country, where Kenyans at all levels of theeconomy were allowed to articulate their needs and priorities, which would eventually from thebasis for resource allocation at the national level, cascading down to the village level. The roleof the both public as well as private was also particularly important in the dissemination ofpolicies emerging from these prionties at the national level.

1.1.3 Technical capacity and willingness to implement and promote bestpractice

Although the concept of the MTEF has been in the policy discussions within the government forthe last three years, as a rew tool for controlling public expenditure, its fruition has remainedelusive until the year 2000/2001 budget. This is the first time the budget was prepared under theprinciples of MTEF. Even then, it was clear that most of the government agencies did notadequately understand the MTEF conceptual framework. Undoubtedly therefore, it would beacceptable to say that year 2000/2001 was just a first step in the strategy of reforming thebudgetary formulation process in the government. It is trusted that the momentum now alreadyput in place will be pursued with vigor to bring the intended improvement in the publicexpenditure management in Kenya. National priorities will be reflected conspicuously in thegovernment budget allocation, and any inevitable budget cuts will be applied selectively toensure national priorities are only affected as a last resort. Meanwhile, before the MTEFprinciples are perfectly embedded in future budgets a number of strategic areas have beenidentified and will be immediately ring- fenced against any budget cuts. These are expendituresrelated to Kenya Revenue Authority, Local Authority Transfer Fund, Maize Safety Net, CILOR,Fuel Levy and Constitutional Review operations. Other protected areas are projects and

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programs that focus on poverty eradication in HIV/AIDS, Primary and Secondary Education,with special emphasis to girl child, and other social spheres.

1.1.4 Ongoing reforms

Through the Integrated Fmancial Management Information System (IFMIS)3 and with theintroduction of the MTEF it is expected that budgeting process in government will be moretransparent, and thereby enhancing accountability. MTEF will promote the need to have arealistic costing of policies which will culminate into a budget that is not only reliable but alsodependable within the country 's resource limits. In essence therefore, it will be based on nationalpriorities that are articulated by the government policies and are agreed by its people.

1.2 Assessment of the current system

Considerable fiduciary risks remam in the budgeting system in Kenya, particularly with regard tobudget execution. In this, there are obvious risks attributed to inadequate assurance thatallocated resources are used economically and efficiently for the intended purposes andbeneficiaries. There is insufficient comfort that value for money is obtained. This position hasbeen cited in the various reports of the Controller and Auditor General (C&AG). Mechanisms toensure that allocated budget resources are utilized efficiently to lead to the intended outcomes aresubstantially weak. Similarly, institutions of accountability in the public sector that underpin thefoundation financial discipline are also weak and unable to play that role reliably. Lack ofcompliance with established financial and procurement regulations have completely renderedmany initiatives aimed at strengthening the control environment ineffective. Some of the majorfactors attributing to this situation are:

* Weakness in accounting and financial reporting of public expenditures (as illustrated inchapter 2 and 4), which make the diversion of resources to unintended uses possible withoutrapid detection until long after the effect. IFMIS and better skilled internal auditors willsignificantly allow measures to mitigate against this risks to be taken and institutionalized.

* Although the potential gams of the MTEF concept are yet to be fully understood, appreciatedand unlocked, it's hoped that greater effort will be made to link budget inputs to outputs andoutcomes/impact taking the efficiency factor into consideration. This will require workingand reliable monitoring and evaluation instruments which can be complimented by IFMIS toprovide management with information for timely decision making.

* The existence of poor linkage between policies and budget process, has made it impossible tomeasure outputs from activities where resources have been used. MTEF based budgets areexpected to ensure that policies are properly linked to budgets and that outputs can bedetermined and measured.

* With greater mvolvement of stakeholders, for example the recent PRSP consultations, itsvery probable that reality check mechanisms can be built among the public, which will helpto install discipline and positive attitude in public service delivery. This should becomplimented by the institutional strengthening planned at the district level.

* Private sector participation in the public budget management system is a major area ofconcern, which weakens accountability, making it difficult to justify any support from the

3Refer to Section 2 of this report for details about this new initiative.

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public sector. From the recent consultations underlying the PRSP and the last World BankCountry Assistance Strategy (CAS) process, it's evident that private sector is graduallystarting to be attracted into public sector affairs, e.g. sponsorship of social and publicprojects by some multinational and regional business conglomerates especially in theconsumer industry (e.g. tobacco and beverages).

O The budget execution has in practice not adhered to government procedures, therebycompromising its purpose for control and accountability in the management of publicresources.

o Finally, falling domestic revenues agamst projected forecasts is undermining the ability ofgovernment to sustain a reliable and dependable level of service delivery, which often tendsto exert undue pressure on available resources against many demands. Realistic costing ofpolicies and budgets cannot therefore be overemphasized as an important element of publicexpenditure management.

1.3 Conclusion and recommendations

In conclusion, it is not disputable that the budgeting process is underpinned on a stronginstitutional and elaborate legal framework. However, some improvements are still needed toperfect the practice. The government lDpes to put forward in the coming years greater effort tobuild the necessary capacity on the application of the MTEF principles in ministries, departmentsand the Treasury to improve on future budgets. The following are some key recommendationswhich would contribute towards achievmg the desired results in the medium to long term4 :

o The MTEF should be pursued to ensure it's the only frilly adopted formal mechanism ofinstilling discipline at all levels of government.

O Improved and realistic cash revenue forecasting is imperative. Appropriate tools and relevantinformation should be used to help achieve this goal. Furthermore the present system ofweekly cash rationing should be transformed into a proper financial planning process whichis based on improved channels of infornation and operates in a transparent manner.

o The use of extra-budgetary funds should only be allowed when there are strong reasons forretaining the revenues and expenditures separately. The efficient implementation of theMTEF would contribute towards this goal.

o Government Policies and Regulations must be handed down and be seen to be adhered to inaccordance with established implementation guidelines and rules. Any deviation therefromother than as prescribed by the same statutes must be remedied and appropriate actions takento punish the culprits and accomplices of the act.

4A report prepared by staff from the IMF, Fiscal Affairs Department, Kenya. An Agendafor Reforming PublicExpenditure Management contains a detailed action plan with recommendations on reforms which even goesbeyond the scope of the CFAA

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SECTION 2: GOVERNMENT ACCOUNTING AND FINANCIALREPORTING



Government accounting and financial reporting in Kenya is governed by the Exchequer andAudit Act, CAP 412 (1955), and the Paymaster-General Act, CAP 413 (1960). In addition,Sections 48 and 99 to 105 of the Constitution of Kenya provide the broad legal framework forthe management and control of public funds in Kenya. The Constitution grants the Minister forFinance the mandate of managmg and controllmg of government finances into and out of theConsolidated Fund. Subsequent operational guidelines are handed down by Treasury in the formof The Government Financial Regulations and Procedures (1989), which are from time to timeupdated through Treasury Circulars to the Accounting Officers in ministrnes, departments anddistricts. The Accountant General's Department in Treasury s empowered to direct and guidethe accounting function in the government and manage the cash basket, which is ideally a budgetmanagement function. The Accountant General is also responsible for ensuring there issufficient staff capacity in all ministries, departments and districts in consultation with otherrelevant departments of government5.

Historically the process of planmng, executing, accounting and reporting public resources in thegovernment has been the responsibility of the MOFP. There are elaborate and well documentedguidelines and procedures detailing how the process works, with clear separation of rolesbetween various govermnent departments, which illustrates that a high degree of integrity hasbeen in-built in the system. The MOFP is empowered by Parliament through the AppropriationAct to expend sanctioned budgeted allocations, on the basis of a Presidential Warrant (GeneralWarrant) authorizing withdrawal of funds from the Consolidated Fund. The Treasury applies tothe C&AG for Credits on the Exchequer account to meet charges expected to be mcurred by theAccounting Officers, who are the Chief Executives of spending ministries and departments TheCentral Bank of Kenya (CBK), in its role as the govermment's banker, executes its mandate onthe basis of the C&AG authority and transfer funds from the Exchequer account as directed bythe Treasury from time to time for defraying approved government expenditure. In turn, theMinister for Finance will issue Treasury Warrants granting authority to incur expenditure (AIEs)to the Accounting Officers in accordance with their approved budgets. Subsequent releases offunds within the fiscal year are henceforth made available by Treasury to the individual bankaccounts of ministnes/departments. The amounts available depend on the monthly remittance ofrevenue collected by the Kenya Revenue Authority.

5 These are the Public Service Commission of Kenya for recruitment, reward, and discipline of civil servants andthe Directorate of Personnel Management for career development and creation of new positions other than thoseestablished in the civil service Provincial Administration arm in the Office of the President is involved is placementof District Accounting staff in the districts6Kenya Revenue Authority was established in 1995 as a parastatal under the MOFP for mobilizing andconsolidating collection of government revenues

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2.1.2 Transparency and integrity

The historical genesis of government accounting system in Kenya can be traced way back to thepre-independent era when the country was administered by the colonial government of the day.To a large extent, the system has remained substantially the same to the present time, except forminor changes that have been made from time to time. The system is fundamentally cash basedaccounting, and substantially manual and labor intensive. It is basically simple and easy tomaintain. However, it's simplicity has been overwhelmed by the numerous and sometimecomplex transactions and demands of government. As a result, the system is no longer able toproduce reliable and complete financial information and audited accounts in a timely manner.This situation exacerbates the fiduciary risks involved and compromises the country's credibilityand accountability rating in relative terms. Salient features of the government accounting systeminclude those mentioned below.

Cash based government accounting: The budget and accounting systems are primanly cashbased. The release of funds from the Exchequer is based on the budgetary allocation, anddependent on the revenue mobilized from various sources. In practice however, funds are usuallyreleased by rationing the available funds to priority areas as determined by MOFP, and not onthe basis of proportionate distribution across the ministries and departments.

Flow offunds: The flow of funds from the Exchequer to the spending ministries, departmentsand districts, is triggered by quarterly requisition for funds from the spending units. Amountsand timeliness of the releases are incidentally dependent on the availability of revenue fundscollected at the national level by the Kenya Revenue Authority. This applies to both governmentfunds as well as donor funds that are channeled through the budget system. In essence therefore,donor funds advanced to government through the Special Accounts for projects can not beaccessed directly by the projects without being subjected to the exchequer channel. Thisrequirement is legally enshrined in section 99 of the Constitution of Kenya and further elaboratedin section 5 and 11 of the Exchequer and Audit Act. Due to this, flow of funds has for a longtime been a major impediment to timely project implementation. This has posed high fiduciaryrisk to donor assisted projects in Kenya. In view of this, it was imperative that other options hadto be explored with a longer term solution. As a result, the government recently agreed to revisitthe legal aspects that stand on the way to expediting flow of funds to projects to facilitate theirtimely implementation. Unfortunately, the proposed draft "Public Financial Management andAccountability Bill 2000" does not appear to explicitly attended to the problem.

Pending bills: The downside of the cash based system is that projected revenue targts arehardly achieved in aggregate terms. Meanwhile, budget execution on the basis of AlEs isactively ongoing. This system pose a high risk of building up huge pending bills year after year,unless sufficient resources are set aside for defraying backlog of pending bills. The governmentintroduced a Cash Management System in FY 1996/97, which was expected to mitigate againstthe risk of having any pending bills in line ministries. Although this measure initially seemed togive positive results, it was not able to prevent the emergence of pending bills altogether.

Budget monitoring: It is important to recognize and commend the government for establishing aBudget Monitoring Unit (BMU) whose objective is to analyze monthly revenue and expenditurereturns submitted by line ministries and departments. On this basis, BMU monitors and signalsareas where budget management is potentially getting out of control (risk behavior). Although

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BMU has been in place for the last two years now, the unit admits that it's potential has not beenfully exploited to impact notable change in financial disciplme in the Treasury and other lineministries. The unit prepares monthly analytical reports with recommendations for doableactions to the management for consideration Some of the unit's recommendations have beenwell received and put under an implementation plan while others are still under consideration.

Accounting and financial reporting system: Because the entire government operates a cashbased budget and accounting system there are no accruals, receivables (debtors), prepaymentsand payables (liabilities). Inventories of all types of assets are often maintained, but at theministry level which do not form part of the accounting system. Venfication of these records isnot a regular activity, except when auditors would include it in their audit programs for testing.The conventional financial statements are not prepared, making it difficult to determine the networth of individual ministries and the entire government. However, it's important to take notethat Treasury guidelines for the preparation of Appropriation Accounts and other memorandumrecords are adequately followed by ministnes and departments. For many years, accounting forproject expenditures was subsumed in the ministry's appropriation accounts, which madetracking of donor funds used in projects impossible. This posed very high fiduciary nsk,especially to the multilateral donors who did not have any idea whether their funding was bemgused for intended purposes. To mitigate against this risk, various donors have tried to buildaccountability safeguards around the projects of their interest with a view to tracking theirfinancial assistance. The main down side of this approach, is that it mcks coordination andbuilds many small stand alone parallel systems scattered across the ministries, and can nottherefore be sustained beyond the project's life. Recognition of this fact, by both the governmentand development donors prompted them to work together for a mutually acceptable solution.This provided the government with an opportunity to review and modermize its accountingsystem and legislative framework. In 1995/96, the Accountant General in collaboration withdevelopment partners started to set out a strategy to diagnose the problem areas with a view tostrengthening the accounting system to suit the present day's needs. This process, evolved intoan action plan, with three phases, i.e. short tenn, medium term and longer term actions.Meanwhile, non-monetary reform actions began to be implemented almost immediately. Sincethen, useful changes have been undertaken by government which has to some extent improvedsome of the areas of concern, e.g. reduction of steps from 45 to 12 in payment procedures mdonor funded projects, thus reducing the transaction time from 150+ days to about 45-60 days onaverage. The accounting aspects of the problem have also gradually improved, especially withregard to timeliness in the preparation of draft annual accounts for audit. Some major issuessuch as the flow/tracking of funds remains outstanding which still poses some fiduciary risk. Itis envisaged that in the medium to long term, these concerns will be addressed as the governmentembarks on a project to integrate the key functional arms of Treasury through an IntegratedFinancial Management Information System (IFMIS 7).

Basis of financial reporting: In Kenya, government financial reporting and accountmg isprimarily based on the mandated scope as stipulated in the Government Financial Regulationsand Procedures backed legally by the Exchequer and Audit Act. The government preparesappropriation accounts detailing the receipts and issues of public monies from the Exchequer by

7 IFMIS was conceived from a diagnostic analysis of the Kenya Government Financial and Accounting system in1996 following the results of Country Portfolio Performance Review conducted by the World Bank and shared withother development partners In summary, it was evident that Public Expenditure Management and Flow ofBudgeted Funds through the government channels was completely clogged and constrained

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Country FinancialAccountability Assessment Republic of Kenya

each line ministry and department. Although there is an intent to move toward accrual basedaccounting system soon, in reality it will take considerable time and effort to develop anappropriate environment and capacity to a level that will be able to support accrual accounting.

Computerization and the IFMIS: Computerization of the accounting and reporting function ingovernment has been fragmented smce the early ninety's. Until recently there has been twocomputing sections in the MOFP. The Micro Computer Department dealt with the financialrecords such as the Vote Book and pensions and the Government Computer Services wasresponsible for, inter alia, the processing of the payroll system on a main frame system. Thesetwo sections have now been amalgamated. Software is mainly based on COBOL and Novell.Furthermore, accounting and reportmg functions at district level are not fully computenzed.Meanwhile, the IFMIS-project has been undertaken in the Accountant General's department toreplace the current computer systems and to develop an integrated Ledger Management Systemthat will generate more useful information to facilitate informned decision making bymanagement. Although it is estimated to take about 5 years to be completed in all phases and alllocations, installation would be done in an phased manner. This could bring about significantchanges within a two year time frame. The approach is to benefit from purchasing proven off-the-shelf software.

IFMIS aims at brnging together planning and budget preparation, budget execution and controlas well as budget monitoring on one hand with financial accounting and reporting on the otherhand into one system, where data is shared and networked. These will eventually help tointerface all the necessary linkages that are fundamental in a well structured financialmanagement system. It is envisaged that when the system is fully rolled out to encompass allministnes, departments and districts, flow of financial mformation will substantially improve andenhance transparency and mtegnty m government financial management and decision making.IFMIS will enable managers to lmk budgetary inputs to outputs and outcomes, which is presentlyan impossible task. When the system is fully implemented, the Treasury and its Finance Officersbased in line ministries will have the tools and environment to control public expenditure. Thiswould help to prevent the possibility of expenditure centers in ministnes, departments anddistricts from overrunning their budget by entering into commitments which can not be financedwhich give rise to pending bills, currently about Kshs 10 billion (US $132 million).

Human resource management: Staffing in government has been on decline in the last fiveyears since an agreement was reached between the government and the IMF to halt recruitmentand reduce the size of the civil service by about 100,000 in three phases since 1996. One of themost affected sectors is the finance and accounting function in the government. High staffturnover for the professionally qualified accountants is also a source of major concern. In theentire government accounting service, it is noted that there are about 10-15 professionallyqualified accountants, of whom about half are deployed in the Treasury, while the other half isbased in a few ministries and departments. Although there is a relatively large number ofsupport accounting technicians and semi-qualified accountants in the service, it's highly unlikelythat the scenario will change in the short term, unless the existing salary levels are improvedseveral fold upward to relatively match the local market. The poor compensation in governmentas a whole has been the major reason why government has often found it difficult to attract andretain some of the best people after having invested so much in their training.

The government has in addition, implemented the appointment and deployment of FinanceOfficers for large spending ministries to oversee and control budget management in the line

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ministries on behalf of the Treasury. These officers have only been in office for about two years,which is too soon to determine their impact in bringing about fiscal discipline. The appointmentof professionals drawn from private sector and international institutions into the civil service inJuly, 1999 was a clear indication of government's commitment to borrow some of the "bestpractice" and help reform the economy through an "economic recovery strategy". It is yet tosoon to determine whether this agenda will be sustained.

Training: Although there is an administrative policy for public servants trained through use ofpublic resources to serve the public sector for not less than three years after completing theirtraining, this policy has not been enforced in most of the ministries. Capacity building effortstoo have remained uncoordmated and with mixed results. While private trainig institutionshave registered tremendous growth in training for professional accountancy qualification in thecountry, the same can rDt be said of public sector institutions, which have continued to perfonnpoorly. This has also resulted in low quality training by equally less motivated and qualifiedtrainers in the government polytechnics, institutes of admnistration and technical colleges, suchas Nairobi, Mombasa and Eldoret Polytechnics, Kenya Institute of Administration, GovernmentTratinig Institute, etc.


A number of reform initiatives are ongoing with a view to enhancing greater accountability andefficiency in the government accounting framework Examples of these are:

* Review of the Exchequer and Audit Act, which seeks to improve the legal and regulatoryframework for financial management in the public sector - one of the main impediments tosmooth flow of funds through the established government system is the legal framework,which is in dire need of review. A proposed draft bill (The Public Financial Managementand Accountability Bill, 2000) proposes legislation to govern the accounting ftinction ingovernment. The draft is presently under review for technical content before its submitted tocabinet for approval in the near future. When the bill finally becomes law, it will supercedethe present Audit and Exchequer Act as well as the Paymaster General Act. It will providethe accounting system with a suitable and conducive environment for adoption of modernaccounting practices that are comparable to other countries m the region and globally.

* Proposals are being considered to develop an incentive-based scheme of service foraccountants in government. Under this scheme the following is envisaged:a. Recognition of their skills and competencies besides gaining professional qualifications

for the purpose of upward career advancement in the government.b. Development of a specialized curiculum that is tailored to suit the needs of government

accounting for the purpose of training specialized accountants for government to enable itto have a critical mass of aiccountants in the service.

c. Promotion of the curriculum for training government accountants to various institutionsof training that would assist creating the required critical mass of accountants.

* Putting in place an IFMIS that will help link the different and fragmented operations to forma comprehensive framework for the accounting practice in government (inclusive of districts)for better and more informed decision making. This initiative started in 1997 and issupported by the Department for International Development of The United Kingdom (DFID);SIDA-Sweden and World Bank, through the Institutional Development and Civil Service andupcoming Public Sector Management Technical Assistance Credits (appraised recently).

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o Public procurement in Kenya is also undergoing major reform. The initiative arose from the1997 Country Procurement Assessment Report (CPAR) which demonstrated theinefficiencies in the existing system in the public sector.

THE FOLLOWING ARE THE KEY FINDINGS OF THE REVIEW AND THE SUGGESTEDREMEDIES, WHICH ARE CURRENTLY BEING PURSUED FOR IMPLEMENTATION

At request of the Government of Kenya (GOK), a World Bank grant i.e Intemational DevelopmentFund (IDF) was provided to fund the undertaking of an in-depth analysis of the systems and therelevant set of legislation and procedures that were already fragmented across the public sector.Due to the inefficient procurement system, it was also established that government procurementwas extremely costly in view of the high risk business and private sector attributed to the system.

*: There were numerous fragmented legislation across the public sector guiding the procurementfunction which in some ways had different provisions that were not synchronized, e.g. LocalGovemment Act, CAP 265 (1986) and Central Government Supplies Regulations and those inState Corporations. The solution has been drafting of a comprehensive Bill that is awaitingenactment by Pariament in the next few months. Meanwhile, Public Procurement Regulations havebeen finalized and will soon be published in the Gazette for use in the entire public sector.

*> There was no central oversight body that could provide a regulatory framework to ensure thatpublic procurement was administered competitively, objectively, efficiently and as devoid of anyabuse and corrupt practices. Due to this weakness, there was rampant failure to observe theregulations, and there was no explicit mechanism for checking and reprimanding the guilty persons.Remedy to this problem has been suggested and accepted by the government, to establish aPublic Procurement Directorate (PPD) to develop and put in place best practice in publicprocurement across the public sector.Poor capacity in ministries and departments to perform the procurement in a professional anddiligent manner in a timely way, thereby saving the government from large financial loss, throughcorruption and mismanagement. To bring this under control, the PPD will implement the capacitybuilding strategy that has been recommended and accepted by government.In view of the may flaws that characterized procurement in the public bodies, especially CentralGovemment and Local Authorities, there were many complainants amongst the suppliers, who hadno window for presenting their grievances for fair remedial action. As a result of the just ended IDFfinanced project, a semi-autonomous Public Procurement Review and Appeals Board was in factestablished more than a year ago, under the chair of a private sector based Kenyan of repute andhigh integrity. The legal backing of the Board has also been earnestly provided for in the proposednew legislation. The benefits of this initial step taken by government on it's own accord has bornfruit, and helped to ensured prudent practice in the ministries and departments in view of theshrinking numbeB of cases being presented to the Board.


Main fiduciary risks: The C&AG's annual reports have year after year cited numerous instanceswhere fraud, wastage and poor accountability and failure to reconcile relatively huge balances ingovernment accounts, have for many years not been attended to. In addition, in-discipline hasnot been punished and suspected corruption in transactions (the famous Goldenberg case in courtof law) have not been brought to conclusion.

Completeness, accuracy and reliability of government accounting and reporting: Certaintythat government accounts fulfill these tenets of financial statements can not be taken for granted.Many a time, the auditors allege to have failed to obtain evidence to support expenditure reportedin the accounts, only to realize that the evidence was in fact available, or in some cases, certaintransactions are not fully captured in the accounts, hence the incompleteness. In situations like

8 Drop in cases of complaints from 350 to 125 in 1998 and 2000 respectively

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these, the trtue andJlair view concept in accounting may be uncertain, especially where the itemsare materially affecting the accounts, e.g. where state enterprises are so much indebted that theyhave negative working capital, leaving them techmcally msolvent, yet they continue to operatewith financial support from both bilateral and multilateral donors through project funding.

Basis offi nancial reporting Financial reporting in the government substantially departs fromcompliance with the recent developments in International Public Sector Accountmg Standards(IPSAS)9 promulgated by the International Federation of Accountants - Public SectorCommittee (IFAC-PSC) in matters of Financial Reporting in the public sectors.

Non-attractive compensation terms: There is a perennial problem in the civil service, which isparticularly evident in certain professional disciplines. Accountants happen to be one of these,where the salaries and benefits obtaining in the civil service is completely disconnected from thereality in the job market place. Base pay for qualified accountants in the civil service are onaverage 40-60% poorer in relative terms than their counterparts in the private sector. In the past,goverminent jobs were considered more secure and beneficial especially with regard to housing atnominal rent and in affluent locations This is however gradually being abandoned and its beingreplaced with scaled down monetary compensation.

Compliance with the regulatory framework: The system and mechanisms descnbed inparagraph 2.1.1 above are derived from the provisions of the section 48 of The Constitution andsection 13 of the Exchequer and Audit Act They are binding and can not be sidelined.However, compliance with some of them has in one or two instances not been followed' 0. Thesewere the only well known most significant divergence, committed by the Executive which wenton record setting a wrong precedent in the country. In practice, numerous minor divergences areregularly reported in the C&AG's reports. These range from flawed procurement procedures,irrational recruitment, abuse to financial procedures, etc. all of which have undennined financialaccountability and enhanced exposure to risks. This situation has continued unabated in view ofweak capacity at Treasury to monitor compliance with internal regulations, procedures andcontrols by the ministries and departments. In this regard the IMF" has reported a number offindings which, inter alla, includes the following:

* Many items in the suspense accounts represent spending which was nDt initially budgeted.* The reconciliation of the cash book, bank statement and the vote book is often not performed.


The government has been undertaking genuine review of the accounting system but this has beenrather too slow, due to reluctance from within to accept the reality of change. Some of the major

9 The IFAC-PSC is developing a set of recommended accounting standards for public sector entities referred to asIntemational Public Sector Accounting Standards (IPSASs). These standards are structured around financialaccounting and reporting under the cash and accrual bases only However, the PSC recognizes that governmentsmay in practice adopt modified versions of these bases and that they may follow different transition paths as theymove along the spectrum from cash to accrual accounting. Also refer to the 2d last footnote of this section10 Extra-budgetary expenditure attributed to purchase of Presidential Jet and construction of a third internationalairport were not authorized in the normal way by Parliament and C&AG in the 1 990s1 Diamond, J, Prakash, T, Jung, H -S, Flanagan, M & Hansen, G Kenya An Agenda for Reforming PublicExpenditiure Management July 2000 International Monetary Fund, Fiscal Affairs Department, Washington, D C

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changes that have been carried out already include the revised flow of funds mechanism whichhas been under implementation for the last year, improved reporting formats for donor assistedprojects which will be used for the first time in the FY 1999/2000 Financial Statements and thereview of the Exchequer and Audit Act which has given rise to two proposed bills i e. one forregulating public audit function and the other one for the Exchequer and financial managementin government. Meanwhile, computer hardware and servers have been put in place for theIFMIS, for which the software is being procured.

However, for complete reforms to be in place, government will need a period of 5-7 years to putin place systems that will efficiently provide all the required information for decision making,improve transparency and integrity and also link all the various arms of financial management inan integrated manner. It is proposed that government consider the following short to mediumterm recommendations:

o Pursue the development and implementation of the IFMIS that will not only introduce anaccounting system based on principles of best practice, but also drive the financialmanagement reforms for improved financial accountability and transparency in the publicsector.

o Develop a credible staffing strategy for accountants in government who will have therequired professional skills and competency to support the IFMIS and sustain the system.

O Develop suitable measurable performance indicators and benchmarks for which staff can beheld accountable. These should be linked to reward and punishment to be used in theirperformance evaluation

o There is need for a mechanism that provides for the measuring and validating of the stock ofpending bills and, in addition, a strategy to settle all long outstanding arrears should beconsidered.

o Promote better and closer collaboration with the private sector and the professionalaccounting practitioners in an effort to share information, best practices and developments inthe profession.

o The government should consider moving towards the adoption of IPSASs. The adoption ofIPSASs by governments will improve both the quality and comparability of financialinformation reported by public sector entities around the world. The IFAC-PSC recognizesthe right of governments and national standard setters to establish guidelines and accountingstandards for financial reporting by the public sector in their jurisdictions'3 .

O Finalize preparation of the final draft of "The Financial Management and Accountability Bill,2000". It is imperative that the impediments' 4 contained in the Exchequer and Audit Act arecompletely removed from the draft bill before it is submitted for cabinet approval andenactment by Parliament.

12Attractive compensation scheme and reward policy, with explicit merit based recruitment and career developmentpolicy with suitable incentives mix in-built accordingly in the scheme of service for government accountants, besidesimilar strategy for other professionals in the government service elsewhere.13 The PSC issued an exposure draft, ED 9 - Financial Reporting under the Cash Basis ofAccounting during May2000 in recognition of the fact that the majority of governments all over the world still apply the cash basis ofaccounting for reporting purposes The purpose of this Standard is to prescribe the manner in which the generalpurpose cash flow financial statements should be presented in the public sector.14 Provisions in the Constitution and the Exchequer and Audit Act, that prohibits line ministries and projects fromtransacting foreign currency denominated bank accounts directly with notification to Treasury and Central Bank ofKenya This is extremely important matter that must be fully tackled now that there is a window of opportunity.

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SECTION 3: PUBLIC SECTOR INTERNAL CONTROL AND RECORDSMANAGEMENT



Government accounting systems in Kenya are invariably linked to expenditure control. All thesesystems concentrate their main focus on instituting a tight control environment with regard topublic resources. For example, Government Financial Regulations and Procedures are inthemselves a set of intemal controls which prescribe how, when, by whom and for what, anyfinancial transaction can be effected' 5 .

The primary legal framework for internal controls and records management in the governmentaccounting system has been based on the Exchequer and Audit Act, CAP 412 (1955), and asarticulated in various subsidiary Regulations and Treasury Circulars issued from time to time.The same regulations have derived their authority from the act with regard to details of themanner in which financial transactions should be recorded and managed and preserved. In thegovernment for example, there are institutional structures established for this purpose. Internallyalso, ministries and departments, should have organizational structures that aim at achieving thesame objective. Similarly, accounting internal controls are illustrated in the way responsibilitiesm the accounting function are shared between units or/and individuals. The governmentaccounting system in Kenya has perfectly embraced this principle which has resulted into a verytight and rigid control environment, so much that these controls now work to it's own detriment.

The internal control environment in the government system of accountability has been inexistence for many years. Although the landscape has changed substantially over the years, thesystem has almost been static, with minor piecemeal occasional changes here and there, throughcirculars issued by Treasury, which is the custodian of the financial internal controls except asthey relate to management of the human resource in government. Division of labor ingovernment accounting systems is perhaps the most pronounced structure that one can hope tosee in Kenya. This has the merit of ensuring that separation of duties is ascertained to thehighest level.

Provisions for the management of government records, especially as they relate to accountabledocuments, are articulated in the Government Financial Regulations and Procedures whichprovides for how accountable documents both as stores and used documents should becontrolled, managed and preserved. In addition, the CBK has its own system for controlling theissue of checques (checks) and CBK overseas payment authority forms, while all otherdocuments are printed and issued by the Government Pnnter. Salient provisions of the financialregulations include the following:

1 The Minister for Finance, in issuing these regulations and procedures stated "The Financial Regulations andProcedures contained in this volume shall be applied without exception to all Government financial transactionsAll persons concerned with finances therefore, whether directly or indirectly, and in any manner whatsoever, musttake cognizance and strictly abide by them "

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o New records: All new records, especially with regard to accountable documents, mustreceive the authorization of the Treasury before such documents can be created and put intouse.

o Storage: The accounting officers of ministries and departments are vested with theresponsibility of ensuring there is adequate storage space for the custody of governmentstores, records and books. These should be maintained in government premises as theaccounting officer or Treasury may direct. Government records are also expected to bestored in specified locations, depending on their nature. Any confidential material andrecords must be safeguarded from unauthorized access, stored in secrecy registries, strongrooms of other facilities of equal standing that are protected from the effects of water and fireand their movement must be monitored and registered by designated persons.

O Destruction: These instructions provide guidance on how the destruction of documents,books and records in government should be managed.

Use of computers is also low although growing at an impressive rate. Unfortunately, thepotential in most of these self standing computers is not fully exploited due to lack of anInformation Technology (IT) strategy in government. Progress in some areas are nonethelesspromising, in view of the ongoing reforms, which aim at developmg an IFMIS which is alreadyunderway The government recently hired an IT specialist to help in develop an IT strategy andoversee its implementation.

3.1.2 Technical capacity and willingness to implement and promote bestpractice

The public sector in Kenya, and indeed the civil service is depicted to have the best humanresource capacity in the East Africa Region. Yet it exhibits reluctance to observe it's own rules,and promote 'best practice' in management of public resources. However, recently, Kenya hasshown signs of goodwill. This is being exploited to bring about reforms in many areas. Ihe"Change Team"16 has made tremendous progress in promoting best practice in various publicresource management affairs in government. Private sector skilled experts are being allowed towork along with civil servant counterparts in an effort to help build better skilled capacity in the

17government and to bring about transparency and integrity in the public sector'


A good number of reforms initiatives have been undertaken in internal control and recordsmanagement. Specifically, the creation of a Public Procurement Department to oversee theprocurement function in the public sector is a major step, and perhaps the first in Sub-SaharaAfrica. The Accounting Officers in spending ministries and departments will be full accountablefor all procurement decisions reached for the expenditure of resources under their ministries anddepartments. Vetting of ministries' procurement decisions previously performed by the CentralTender Board in Treasury, which created an accountability confusion, has now beendiscontmued, with the publication of Legal Notice No. 51 of March 30, 2001. Also, substantial

16 It is a designated team of 8 Kenyan experts (appointed in July 1999) drawn from international, public and privatesector enterprises to steer ahead the turn-around of the economy of the country.17 For example leadership in the Central Tender Body of government is chaired by a private sector based Kenyan ofgood repute Several other bodies are now having a mix of representation from the public sector, civil society andprivate sector

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work has already been commissioned for the reform of the public financial management functionas well as the audit function in government. All these actions coupled with the introduction of anIFMIS will provide the synergy required to put accountability in the public sector to anacceptable level.

THE ESSENCE OF INTERNAL CONTROL

It is the creation of a system of checks and balances that assures all actions occurrng within an institution arein accord with the organizational objectives and have the general approval of top management. In terms offinancial accountability, accounting controls are important because they help maximize efficiency and at thesame time assist to minimize waste, unintentional errors, abuse, fraud and other irregularities. Internal controlsextend beyond prevention of theft and the desire to maximize profits/returns. All human structures, evenprisons, churches, schools, mosques and temples embrace internal controls for good order The five maintenets of internal accounting control are -

Authorization Transactions must be executed within a known specific or general frameworkRecording. All authorized transaction should be recorded correctly in all respects.Safeguarding. Appropnate procedure and precaution employed to protect unauthorized access to assets.Reconciliation: Records are periodically compared to other independent records and physical counts to

ascertain that other control objectives are securedValuation Recorded amounts are reviewed from time to time for impairment of their real value and

possible wnte-offs


Level of efficiency: Disadvantages noted in the system is that it is labor intensive and grosslyinefficient. It is also substantially devoid of computerization which can help moderate theinefficiency and improve transparency of the system. It is difficult to understand why a well-trained and informed civil service, especially the technocrats managing the accounting system,have not taken advantage of available technology and save huge costs of runnig an inefficientsystem.

The Internal Audit wing of government is also senously incapacitated to play it's role ofassisting the management to strengthen the mternal control environment. This has only helped toenhance the accountability risks manifested in the government accounting system.

Compliance and enforcement mechanisms: Although the financial regulations and proceduresrequire urgent review, it is noted that there is a reluctance to comply with them. Enforcementmechanisms has also not been applied for lack of interest by the bodies carrying thisresponsibility. Lack of sufficient supervision ard willingness to take remedial measures have toa large extent undermined accountability in the public sector institutions. This has promoted aculture of insensitiveness, as a result of which procedures have been flawed, abused and evencompletely ignored. Various C&AG's annual reports on the Appropriation Accounts and thenumber of cases highlighted in the Public Accounts Committee's (PAC) reports demonstratehow ministries and departments have failed to comply with established financial regulations andprocedures. As a result, opportunity for fraud, corruption, theft and pilferage has been freelyallowed, undermining the control environment m the government accounting system.Unwillmgness to take corrective measures, slow legal process as well as lack of interest toimplement the PAC recommendations have all compromised and undermined financial

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accountability principles in government. This situation imply that fiduciary nsks for reliabilityand accuracy of records in the public domain continue to increase unabated.

Records managemient: In practice, the manner in which records are managed deviatessignificantly from the essence of the financial regulations, for example:

o Space and other storage facilities are often far from meeting the physical specifications. Thisis also a major constraint at the district level. Evidence of this is well presented m most ofthe C&AG's reports to donor funded projects where propriety of expenditure is often notsupported by relevant documentation.

o In practice, there is almost full compliance with the provisions that relate to safeguardingagainst unauthorized access, especially as they relate to secrets and confidential material.There is less degree of compliance with regard to all other material and records, especiallywith regard to their movement between offices and locations. Observation has also beenmade that record keeping and maintenance has been neglected.

o Lack of adequate backup arrangement for both hard copy records as well as soft (electronic)records in the government. The on-going reformns have given this matter high priority as partof the IFMIS framework. Some of the accountmg information processed through the centralcomputer services is backed up at the CBK, but there is limited capacity at CBK, whichdictates the type of information and the length of time the CBK backup facility canaccommodate.


The important conclusion that can be drawn from the above is that though the internal controland records management requirements are well articulated in the financial regulations andprocedures, there is general laxity to follow them. It is also evident that corrective action is notpreferred and supervision by management is lacking or weak. The following recommendationsare advanced as a way forward for strengthened financial accountability in the public sector.

o The IFMIS, now being developed, should be implemented at the earliest opportunity to helpbring about standardization of internal controls and records management requirements infinancial management and to enforce compliance. The approval process will be built in thedesign of the system under the IFMIS, with adequate security arrangements using passwordsat various levels. Data verification and validation for example will also be systematicallycontrolled by networking of various units under the IFMIS.

o Punitive actions should be designed and institutionalized to bring into existence a disciplinedfinancial management practice for internal control and records management in the publicsector, and especially the Central Government sub-sector.

O Implementation of recommendations made in the C&AG's reports on the state of both theinternal control and records management practices should be ensured and regularlymonitored for compliance.

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SECTION 4: PUBLIC SECTOR AUDITING

4.1 Office of the Controller and Auditor-General

4.1.1 Review of the current situation

4.1.1.1 Legislative and regulatory environment

Until 1985 when the Exchequer and Audit Act, CAP 412 (1955), was amended to bring intocreation the Office of the Auditor General (Corporations), there has always been one Office ofthe Controller and Auditor General (C&AG) in Kenya, as established by Section 105 of theConstitution of Kenya. The duties of the C&AG are articulated in the Exchequer and Audit Act.Functions of the Office are not subject to any control, instruction or direction of any other personor authornty other than the Parliament to which the Office is accountable. The C&AG enjoystenure of office and can only be removed from office within the provisions of the Constitution'8 .

The C&AG in Kenya is a well-respected professional among his counterparts in the global bodyof the International Supreme Audit Institutions (INTOSAI). The C&AG's annual report dealswith the Consolidated Fund which includes (1) the Appropnation Accounts, (2) other PublicAccounts and (3) the Accounts of Funds across all Ministries, Departments and Offices. In thisreport the C&AG has maintained his independence as much as possible The report has alwaysbeen instrumental in documenting wrong-doing on the part of the executive and the body politicthat come to his notice. The report should be submitted to the Minister for Finance within sevenmonths following the end of the financial year to which they relate' 9 The Mmister is required tolay before the National Assembly this report within 14 days on receipt of the same. TheC&AG's report is usually deliberated upon in detail by a parliamentary select committee, i.e., thePAC, in the case of Central Government Appropriation Accounts. Similarly, the PublicInvestments Committee (PIC) concerns itself with review of audit reports of State Enterprisesthat are not exempted from the provisions of the State Corporation Act. In addition, the entirereports are also made available for general public consumption at the Government Press andBookshop. Public interest in the affairs of the C&AG has grown several folds in the last 10years in view of the increased openness of his reports and also when the two scrutinyCommittees are in session.

4.1.1.2 Capacity and ability to promote best practices

In the recent past, the Office of C&AG has also started to succumb to the effect of unprecedentedstaff shortfall. The number of qualified (certified) accountants in the service has continued todwindle to a small number of 5 in view of the existing terms and conditions of service in theCivil Service which do not attract and help retain young and up-coming accountants/auditors inthe service. The current situation is illustrated in the following Tables I & 2. One of the

18 This arrangement had temporarily been upset by amendmcnts caused to the Constitution, which removed theprivilege of tenure of office for the C&AG and his officers This position was however rescinded as a result ofinternal and external pressure by the progressive groups and the donor community in the country During that shortspell, the staff strength of the office was upset by deliberate redeployment of the some of the senior and experiencedofficers of this office to other departments of Government However, the situation has since been restored

The latest report issued by the C&AG in the second semester of 2000 was for the year ended 30 June 1998

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problems that has discouraged many.of the staff from pursuing professional studies with a viewto qualifying is the time it takes and sacrifice the staff have to face, yet it is generally perceivedthat the professional examinations are extremely difficult and in any case the jobs they have donot necessarily demand such knowledge.

As a result, operations of the Office have tended to remain at about the same form and style.Computer aided auditing techniques and other modem methodologies have not permeated in thepublic audit function as a result of this stagnation. The C&AG has endeavored to maintainrelatively high standards in his operations by his measure. It is also evident that application ofauditing promulgated by INTOSAI is already institutionalized in the department. However, itmust be emphasized that compliance with International Standards on Auditing has not drawnmuch attention in the department in hght of other more pressing priorities. It is envisaged thatthese standards will be adopted gradually in the near future.

Table 1: Analysis by job grade (auditors and audit examiner trainees)

POSITION CENTRAL GOVT LOCAL GOVT TOTALController & Auditor General 1 1Deputy Auditor General 2 2Directors Of Audit _ _ _ _

Deputy Directors Of Audit 5 1 6Assistant Directors Of Audit 2 1 3Principal Auditors 18 2 20Senior Auditors 13 3 16Auditors Is 40 4 44Auditors lls 99 7 106Senior Audit Examiner Is _ __ _ _

Senior Audit Examiner lls 26 2 28Audit Examiner Is 73 13 86Audit Examiner Ils 26 11 37

Audit Examiner Ills 27 3 30Audit Examiner Trainees 91 22 113TOTAL 423 69 492

Table 2: Analysis by qualifications

POSITION GENTRAL GOVT LOCAL GOVT TOTALProfessional Qualifications(i) Certfied Public Accountants of Kenya

(CPA): Part I 92 10 102Part II 25 _ _25

Part III 5(ii) ACCA: Level I 1 1

Level II 1 1

Masters Degree 4 __4

Primary Degree _ 157 15 172Diplomas_I 10 2 12School Leavers 1 128 42 170TOTAL 423 69 492

4.1.1.3 Ongoing reforms

There are also advance arrangements to enhance the independence of the Office and merge thetwo Auditor Generals by having the legislative framework amended accordingly. This isexpected to culminate with formation of a National Audit Office borrowing from the Republic of

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South Afnca and British Government models A draft Bill, which will supercede the Exchequerand Audit Act, has already been prepared and submitted to review and drafting by the AttorneyGeneral. It is expected that the Bill will be presented to Parliament sometime this year. Thesections in the Exchequer and Audit Act that deals with audit issues are being reviewed and willbe replaced by a separate act20, which seeks to establish the Kenya National Audit Office. Itwill, amongst other things, provide for the merger and strengthemng of the offices of C&AG andthe Auditor-General Corporations as well as the enhancement of independence and autonomy ofthe merged Office. Other main objectives of the new act includes the following:

* Procedures for the appointment of the C&AG and staff of the Kenya National Audit Office,including the powers to detenmne the terms of service and levels of remuneration.

* The establishment of the Kenya National Audit Commission which will oversee andstrengthen the legal and operational autonomy of the new Office.

* Separate budget for the Office and the power to raise audit fees for certain work performed.* Provisions for the audit of all public accounts and protection of public property.* New provisions for the promotion of economy, efficiency and effectiveness (value for money

auditing).

4.1.2 Assessment of the current situation

Institutional limitationzs: The Office of the C&AG is perhaps the only known institution in thepublic service where meritocracy is upheld. However, due to its structure there is no verticalprogression opportLnities, leaving little hope for the younger well trained officers, who opt out tothe more accommodating private sector. Also, the work culture of the institution does not haveany room for initiative and innovative minds who often seek to bring in change andmodermization in work place. Another weakness is associated with motivation because there arelittle challenges in the manner the fmnctions of the institution are carried out. As such fatiguecreeps in due to the routine nature of work and this is even exacerbated by the fact that there areno role models to mspire the younger staff It is also evident that the institution has only startedto do too little too late with regard to seeking better terms of service for the auditors as aprofessional sub-set of the Public Service outside the Civil Service (Public Service Commission)proper. Stagnation of development in the Office of the C&AG to a large extent has been self-imposed. There has been clear reluctance to enhance capacity of the staff through the manyopportunities available to Government from various friendly countries and supporters. Searchfor greater autonomy can only be useful if the Office begin to reach out for greater support andcollaboration with other auditing outfits in the private sector and even across boarders.

Proposed legislation: The envisaged initiatives is expected to bring about enhanced operationalautonomy and independence from the Executive and will be a major gain in strengthening thisimportant pillar of the institution of accountability in the public domain. In addition, theintroduction of the concept of value for money audits would strengthening financialaccountability and reduce the level of fiduciary risk.

Timeliness and standard of reporting: Although the C&AG's annual report on theAppropriation Accounts of the Government should be submitted to the Minister for Fmance

20 The draft Kenya National Audit Office Bill is already under the attention of the Attorney-General

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within seven months following the end of the financial year to which they relate, the latest1997/8 report, for the year ended 30 June 1998, was issued in July 2000. In addition, the formand content of the audit opinion and report did not ftilly comply with Auditing Standards ofINTOSAI. The extent of compliance is shown in the following table.

Table 3: Compliance with INTOSAI Reporting Standards

GENERAL REPORTING PRINCIPLES COMPL Y?

Title: The opinion or report should be preceded by a suitable title or heading, helping 4the reader to distinguish it from statements and information issued by others.

Signature and date: The opinion or report should be properly signed. The inclusion of a 6(signature)date informs the reader that consideration has been given to the effect of events ortransactions about which the auditor became aware up to that date. 4(date)

Objectives and scope: The opinion or report should include reference to the objectivesand scope of the audit. This information establishes the purpose and boundanes of the 6audit.

Completeness Opinions should be appended to and published with the financialstatements to which they relate, but performance reports may be free standing. The 4auditor's opinions and reports should be presented as prepared by the auditor.

Addressee- The opinion or report should identify those to whom it is addressed, asrequired by the circumstances of the audit engagement and local regulations or practice. 4This may be unnecessary where formal procedures exist for its delivery

Identification of subject matter The opinion or report should identify the financialstatements (in the case of regularity (financial) audits) or area (in the case ofperformance audits) to which it relates. This includes information such as the name of 4the audited entity, the date and period covered by the financial statements and thesubject matter that has been audited.

Legal basis Audit opinions and reports should identify the legislation or other authority 4providing for the audit

Compliance with standards Audit opinions and reports should indicate the auditingstandards or practices followed in conducting the audit, thus providing the reader withan assurance that the audit has been carried out in accordance with generally accepted 6procedures.

Timeliness The audit opinion or report should be available promptly to be of greatest 6use to readers and users, particularly those who have to take necessary action.

Fiduciary risks: The 1997/8 report consists of 217 pages with over 900 paragraphs documentinga series of unresolved audit queries. They include instances of inadequate record keeping, non-compliance, irregularities, incompetence of staff, poor management and weak financial/internalcontrols. Although these queries do not necessarily equal fraud or corruption, it creates asubstantial fiduciary risk in an environment of financial and procedural confusion.

Project audit reports: A satisfactory level of the receipt of project audit reports have beenobserved over the past number of years, e.g. the number of audit reports received on time by theWorld Bank has improved from 84% in 1998 to 92% in 2000.

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4.1.3 Recommendations

The following are complementary actions that would add to the betterment of functioral Officeof the Government Auditor, i.e. Kenya National Audit Office:

* Encourage collaboration at operation level with private sector auditing finns, who will helpbring mto perspective modem and best practices in auditing in the public sector. Attachpublic sector auditors to selected audit firms for several months as a way of traimng them andadding better values to their working ethics for enriched productivity in their performance.

* Promote cross boarder exposure of work practices with counterpart Supreme AuditInstitutions in the regional countries.

* Provide training in non-professional aspects of better working methods eg. Computer aidedauditing techniques, Record management techniques, Soft control environment values etc.

* Explore the possibility of enhancing accountability practices at the client end by encouragingformation of audit committees and corporate governance refonns in mmistries/departments.

* Explore the possibility of greater internal control initiatives e.g. by having peer reviewarrangements with private sector auditing firrns and others in practice. Also, auditors fromother countries might be invited to perform assessment and review of practices.

* Initiative joint audit teams for complex assignment involving parastatals, with private sectorauditors to broaden exposure and provide a window for challenging tasks to the officers.

* Enactment and implementation of The Kenya National Audit Office Bill in good time.* Measures should be taken to catch up with the backlog in performing the annual audit.* In addition, the quality of compliance with INTOSAI Auditing Standards should be

addressed with regard to both performing the work as well as the reporting formnat.

4.2 Internal Audit Department (Treasury)


Internal Audit functions in the government financial management system are mdirectly governedby the Exchequer and Audit Act, CAP 412 (1955). The act does not make any specific referencethe establishment and role of the internal audit outfit. The Treasury is mandated undersubsection 221 and 3 of section 4 of the act, to establish structures such as the Internal Audit, toassist in delivering its mandate. The objective of the Internal Audit function is hencefortharticulated in the Government Financial Regulations and Procedures (1989) and circulars. TheTreasury circular of March 6, 1997 re-establishing 2 2 the Internal Audit Department (IAD) alsoassigned to the accounting officers of ministries and departments the responsibility to supervise,control, direct and monitor compliance and ensure that various financial regulations, instructionsand accounting procedures are complied with as required by the Treasury.

21 The Permanent Secretary to the Treasury or any other officer in the Treasury authorized by him/her, shall beentitled to inspect all offices and have access to all official books, documents and other records as may be necessaryfor the exercise of the powers and duties of the Treasury and the Exchequer and Audit Act22 The IAD had been disbanded by Presidential decree in 1994 and replaced by an Inspection Department attachedto the C&AG, which was soon transferred back to the Treasury in view of the inherent conflict of roles Thisdecision was rescinded as a result of complaints from the National Assembly and others, such as the professionalsand the Institute of Certified Public Accountants of Kenya Following this, government decided to restore the IADand assigned it a fresh mandate

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In practice, the functional role of the IAD has been centered on pre-audit activities of financialtransactions at the expense of almost everything else the department is mandated to do, e.g.review of internal control systems, policy implementation in ministnes, etc. As a result, it hasfailed to de- link its role from the mainstream approval process to that of operating as a watchdogfor the management, thereby compromising it's justification to question decisions it hasparticipated in their making. The apparent conflict of interest has cast doubt to the effectivenessof the department in the delivery of its mandated responsibilities.


Present capacity level constraint: Currently, the department has only six staff in theprofessional rank, which is barely enough to form a critical mass for it to be well adapted to faceits challenge. Other than for the staff who are members of the Institute of Certified PublicAccountants of Kenya, there is no mechanism or body for regulating internal auditors in thecountry which enhances the risk associated to quality of their work and their recognition as wellas a specialized group of professionals that add value to country financial accountability as awhole. The fiduciary nsks are further exacerbated by the fact that the IAD has an inadequatestaff complement, majority of whom do not hold professional accounting qualifications.

Compliance with best practice: The IAD has not been applying the internal audit standards andguidelines promulgated by the Institute of Internal Auditors of the East, Central and SouthernAfrica regional group of internal auditors. The absence of a local chapter of the Institute ofInternal Auditors holds back the adoption of internal audit standards due to lack of any pressure.The department has also failed to fully adhere to the guidelines issued by Treasury as articulated

23in the circular re-establishing it, e.g. failure to observe reporting guidelines

Quality control and Reporting: The absence of an internal quality control mechanism and peerreview system for the internal audit work compromises the quality of the department's service.In view of this quality control deficiency, the internal audit reports do reflect the kind of qualityand substance that would otherwise help management to take actions that would mitigate againstrisks and improve financial accountability. This has the danger that important issues of concernto management may be overlooked as result of poor reporting. Furthermore, because internalaudit reports are not well recognized, there is tendency to ignore them and yet they may beraising important financial accountability matters to ministries and departments

Computer aided auditing techniques: The department has neither the skills nor the exposure inthis area, which poses a major disadvantage for the staff as they state to be confronted bycomputer based financial systems in the ministries and departments shortly.

Financial backing: Inadequate resource allocation that is insufficient to meet both itsoperational costs and developmental needs as well as capital costs.

23 The Internal Auditor General shall submit his/her reports of findings to the Permanent Secretary to the Treasuryand avail copies of his reports to the Accounting Officer of the ministry and departments being reported upon Acopy of the report shall at the same time als o be sent to the Accountant General and the C&AG

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Training and career development: Lack of training strategy as an incentive, has discouragedgood and competent staff to stay in the department while the more difficult problem of poorsalaries is tackled at a macro level.

Recently, the IMF assisted the department with services of a consultant to help it review itsoperations and pnonties with a view to redefining its vision for the next 10 to 15 years formeeting its mandated responsibility. In view of the difference the IAD can make in strengtheningfinancial accountability in government, it has been recognized that it will require furtherassistance both in the form of resources and knowledge to help it achieve its desired objective.The government has requested one of the development partners for assistance through one of theforthcoming projects24.

One of the main strengths the IAD has at its disposal, is the is the ability to bring about change mthe financial management and control framework in the public sector as a whole if only it couldexploit its comparative advantage by realigning its priorities to focus on substance. However,this ideal may be unachievable in the short to medium term in view of the above reasons.

4.2.3 Conclusion and recommendations

The current set up m internal audit work is very weak. Its operations are not specificallyrecognized and governed by any legislation. Lack of capacity to monitor the department'soperations and follow up of its reports undermnines the purpose for which it was established andmakes it technically ineffective. This brings into doubt the seriousness with which the IAD issupported by the government it is deemed to serve. The following recommendations are aimedat the restoration of competence, effect and professionalism in the IAD:

* There is need to expand2 5 the mandate of the IAD. It is also suggested that the departmentshould be given a higher status in law by having its obligation and powers fully and explicitlyembedded m legislation.

* The IAD to establish a local Charter of the Institute of Internal Auditors that will govern itsoperations and compliance with it's standards. The department should also formulate amission statement that will guide it as a specialized service in the public sector, i.e. cover theCentral Government, Local Authorities and other State Enterprises and Agencies.

* Development of skills that will bring into the department professionalism with modernauditing techniques to match the challenges posed by the fast evolving technology basedfinancial mana gement systems.

* Quality control and assurance mechanism should be established to ensure that ministries anddepartments have added advantage from the department. Use of peer reviewers would helpensure quality and give the reports credence.

* Mimnstnes and departments to establish audit committees which should review internal auditreports and mitiate timely action plans to implement the suggested recommendations.

24 A Public Sector Management Technical Assistance Credit that has recently been appraised, now awaitingapproval by the World Bank's Board of Executive Directors, has the strengthening of Internal Audit function ingovernment as one if its components25 Audit of payroll, contracts, pending bills, audit of government assets, cost sharing facilities-especially in healthfacilities, value for money audits, procurement audits, accounting systems review and other functions as may bedeemed necessary

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SECTDMN 5: LEGGSLAT WE SCRUTWMY, ETHDCS AND DMTEGRDTY

5.1 Legislative Scrutiny

5.1.1 Review of the current system

5.1.1.1 Regulatory environment, transparency and integrity

Within Kenya's parliamentary system there are two select committees of Parliament thatexamine, scrutinize and report on public expenditure. The PAC examines reports emanatingfrom the C&AG on the annual Appropriation Accounts and other public accounts, while the PICscrutinizes and deliberates on reports emanating from the Auditor-General (Corporations) onannual financial statements of State Corporations. PIC and PAC are the traditional watchdogcommittees overseeing public expenditures, and have been functioning even during the singleparty parliamentary system. The establishment of departmental commttees at the beginning ofthe Eighth Parliament is a major step towards enhancing the traditional legislative role ofMembers of Parliament (MPs) while increasing their ability to scrutinze government operations.

The PAC is chaired by a member of the Opposition, thus ensuring its independence from theruling party. Representation in these oversight committees is based on party strength inParliament, except that there are parties whose representation in Parliament is quite negligibleand are, therefore, not represented in either PAC or PIC. The two committees, whosemembership is rotational, are held in high esteem as they are deemed to be independent, and theirreports are made public, thus enhancing transparency. Policies and decisions are under constantcheck and scrutiny by PAC and PIC, as well as departmental committees which cover all aspectsof government operations. The legislature receives and discusses the recommendations of thetwo committees, which are either accepted or rejected, and where the recommendations are of alegal nature the Attorney General is required to pursue and/or prosecute as appropriate.

Reports from the C&AG and the Auditor-General Corporations are scrutinized annually,recommendations made for remedy and responses by the executive are further scrutmized toensure actions by the executive conform with the law. However, these reports are oftensubmitted late26 contrary to statutory provisions. Late submission of the reports has underminedthe effectiveness of the two committees, whose efforts have been rendered futile by lack of clearand transparent legal process that punishes persons involved in financial malpractices. Forexample, past recommendations of these committees for prosecution of persons implicated infinancial impropriety have been ignored by the Attorney General, who has often argued thataudit reports come out 2-3 years late and may not provide sufficient evidence to sustainprosecution in a court of law.

5.1.1.2 Strengths and weaknesses of the oversight mechanisms

Government ministries, departments and State Corporations go through a rigorous annualbudgetary process which culminates with approval by Parliament. All public expenditures must

26 For example, the report of the C&AG for the financial year ended 30 June 1998 was issued in the secondsemester of 2000.

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be within the approved Annual Esthmates. There is a well recognized oversight role ofParliament over government expenditures, and the two watchdog committees (PAC/PIC)continue to function albeit with some constraints. These include:

* Membership in the two committees is not based on any technical skills, such as expertise onfinancial management and law. Most of them lack an in-depth knowledge of the policy areawith which their committees are concerned.

* The committees have little or no financial resources to support their work. In the past this hascreated considerable friction between committee members. For example, there have beeninstances where the Clerk has reallocated unused funds for PIC and PAC to severaldepartmental committees, thereby stifling the functions of PAC/PIC.

* The national Assembly as a whole lacks an adequate library or an appropriately staff researchresource center to facilitate the work of the committees.

5.1.1.3 Conformity of local established practice with internationally recognizedbenchmarks

The parliamentary practice of having the two watchdog committees, in addition to departmentalcommittees that look into various aspects of government operations is in line with parliamentarypractice within the Commonwealth. What the committees lack, is the statutory clout to not onlyensure compliance, but act as a deterrence to financial mal-practice The committees should notdo postmortem work, but should be able to prevent repetition of mal-practices.


Legislation has been passed establishing the Parliament Service Commission that is expected toeliminate or reduce some of the constraints faced by the committees or individual MPs. Forexample, through this Commission, MPs have recently awarded themselves hefty salaryincreases which, it is hoped, will increase the amount of time they spend on parliamentarycommittee work rather than spending time on private income-enhancmng activities. The passageof the legislation will also increase the MPs independence by de-lmkmg the National Assemblyfrom the Office of the President, and provide them with adequate professional staff who areaccountable b them (rather than to the Office of the President), adequate office space andsufficient operating expenses to do their work. The challenge now is for individual MPs toimprove their skills as legislators and their knowledge of various aspects of public policy.

5.1.2 Assessment of the current system

With the advent of a multi-party parliamentary system PAC and PIC have attained high levels ofindependence, which has contributed to mcreased public financial discipline. The twocommittees have not spared even some of the most powerful names that previously would havegone unpublished; which by itself has acted as a deterrence to financial malpractice in the publicsector. However, the following weaknesses remains as part of the system:

* Although PIC and PAC continue to function fairly well, their technical capacity is low. Theyalso do not have adequate technical support from the parliamentary staff. These haveimplications for the quality of the work of the committees. There is definitely a willingness

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amongst members of PAC and PIC to improve their effectiveness in the discharge of theirstatutory obligations. This is evidenced by attempts to nominate comnittees members whoare knowledgeable and reform minded.

o The PAC and PIC also suffer from a fundamental weakness in that they have no power toforce the executive to implement their recommendations to prevent the repetition of mal-practices that have already occurred. They consider government operations after the factrather than set government policy or practice, e.g. they scrutmize government expendituresonly when audit reports are tabled in parliament, which is often 2-3 years after the eventshave taken place. Also, their recommendations for disciplinary action have often not beenimplemented by the executive.

O According to the press, the Attorney General is seen to be less than enthusiastic m followingup recommendations of the two committees, particularly cases involving well politically-connected persons; and this has dented the credibility of the legislative and legal processes.

O Risks include loss of credibility, and worsening accountability environment that results intowastage of public resources with adverse impact on economic growth. This may result in anegative view by the international donor community (that emphasize good financialaccountability), thereby limiting access to their funds.


o The National Assembly should increase its statutory authonty to enforce the implementationby the executive of the recommendations of PIC and PAC.

o Legislators need specialized traming in areas such as budgetary processes, macroeconomicreform, revenue generation and control, and exposure to effective legislative practices andparliamentary procedures in other political systems. Committee members would also bemore effective if they obtained appropriate training on the issues with which they deal on acommittee by committee basis.

O Parliamentary staff also need specialized training to enhance their capacity in the areas of IT,research, legal affairs, information and library management, etc.

5.2 Ethics and Integrity



The Kenya AntiCorruption Authority (KACA) was established in December 1997 by anamendment to CAP 65 7 of the Laws of Kenya. It has been given sufficient autonomy andauthority to carry out its mandate with three main functions, namely (1) promotion of goodgovernance through enforcement of the law, (2) prevention of corruption and (3) publiceducation. This is in addition to several government initiatives and efforts aimed at improving

27 A startling Constitutional Court ruling on 22 December 2000 declared the manner in which KACA has beenestablished unconstitutional. This created pandemonium amongst a number of stakeholders as well as theinternational donor community Steps are being taken to have the constitution changed to legalize KACA.

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transparency and accountability in the use of public resources as a way of stirring economicgrowth.

KACA collaborates with vanous other institutions such as the Efficiency Monitoring Unit(EMU) in the Office of the President, the C&AG, the Attorney General and the Police, amongothers, to focus on elLmmation of corruption and to promote ethical standards and systems ofintegrity. KACA relies on recommendations of the parliamentary PAC, the PIC and othermformation gathering mechanisms, including information from members of the public, toinvestigate cases of corruption and unethical behavior. KACA is able to prosecute cases withoutreference to the Attorney General, although there is a close working relationship with that office.

As far as ethics and integnty are concerned there are currently no established national rules orregulations I-lowever, there are now in place mechanisms to monitor and take action in theevent of abuse of power by public servants. Indeed the parliamentary Anti-corruption SelectCommittee has fulfilled its role tremendously well in exposing public servants implicated inabuse of power, and KACA is currently prosecuting such cases, some involving high profilepersonalities.

Through the support of donors, KACA is embracing international best practice, and a number ofKACA officials have visited other countries with strong accountability institutLions.

5.2.1.2 Capacity and ability to implement and promote best practice.

Although the authority faced initial teething problems, including non-transparent appointment ofits first Director, it now has adequate resources to carry its duties and is frilly operational under arespected high court judge, assisted by a team of highly- qualified and competent managers andstaff.

There exists now a more vigorous approach to combating corruption, and the fight againstcorruption and other fonns of abuse of office is now more structured than ever before. TheGovernment has embarked on a multi-pronged program of recruiting, retaining and retrainingfinancial officers in all government ministries in order to build technical capacity for financialmanagement. The hiring of technocrats, with experience in the private sector, to head keygovernment ministries is seen as a sign of willingness to promote best practice.


The Government has initiated several corruption prevention strategies and major reform effortstowards enhancing financial accountability, mcluding:

* The establishment and strengthening of KACA.* The establishment of the Directorate of Procurement within the Ministry of Finance.* The development of a National Anti-corruption Plan in collaboration with all the

stakeholders.

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o The tabling of the Public Service (Code of Conduct and Ethics) Bill (2000)28 in Parliament.o The tabling of the Anti-Corruption and Economic Cnmes Bill (2000)29 in Parliament.

The newly drafted and published Anti-Corruption and Economic CGimes Bill seeks to, inter alia, increasethe powers of investigation and prosecution enjoyed by KACA which is perceived to be a vastimprovement over the existing anti-corruption arrangements. The Bill establishes an institutionalframework to fight corruption that has 3 components, i.e.:

KACAThe Kenya Anti-Corruption and Economic Cnmes Board

The Ethics and lntegnty Committee (a parliamentary committee)


The current institutional and legislative framework: The elaborate institutional frameworkenvisaged by the proposed legislation mentioned above is a vast improvement over the existingarrangements. Nevertheless it still raises questions that have been posed with regard to theexisting arrangement, namely:

o First, there are other institutions in the public sphere that are charged with the task of fightingcorruption. The Office of the C&AG for instance, retains its constitutional mandate to auditpublic finances. Parliament, still has the traditional oversight oommittees alongside otherdepartmental committees. The police department with its slew of specialized squads stillretain power to investigate criminal offences There is no effort to harmonize the functionsof these institutions towards a single unified anti-corruption strategy. Evidently, territorialoverlaps may lead to unnecessary wars or excuse for inaction.

o More importantly, the well established inertia against decisive action to fight corruption bythe existing institutions is not addressed. The Bill assumes that a new body by virtue of itsrecent establishment will perform better than the old institutions. This is misguided.

In addition, there are no comprehensive statutes on areas relating to public finance. There is aneed to broaden corruption offences and penalties to such offences.

Capacity of regulatory bodies to ensure quality: KACA, the Anti-Corruption Select Committeeof Parliament and EMU in the Office of the President have greatly improved accountabilityculture in Kenya over the past year. There is, however, some ground to cover as the public arestill skeptical since, for example, KACA has yet to secure any successful prosecutions. Whereascapacity in KACA has received significant boost, thanks to donor support, the Parliament andEMU1 have yet to stamp their mark.

28 The proposed legislation that was intended to set standards of conduct for public servants, has been suspended byParliament on 30 November 2000, because Members of Parliament (MPs) believed it to be unconstitutional,claiming it contravened the principle of the separation of powers of the Executive, Judiciary and Legislature. Also,it Is widely believed that MPs felt there would be difficulty in complying with this legislation, particularly on theprovision that requires public servants, including members of parliament, to declare their wealth. The Attorney-General has subsequently been ordered by President Moi to embark on re-drafting of the Bill29 This Bill, which parliament rejected last December for, among others, breaching the personal right to privacy, hasalso been referred back to the Attorney-General by President Moi for re-drafting to ensure that it is consistent withthe Laws of Kenya.

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Integrity of the financial accountability cycle: The legislature relies on information that isgenerated late, and there are no mechanisms, for example, to impose penalties for latesubmission of reports. There is, therefore, delayed response by the legislature and other agenciesinvolved in ensuring financial discipline. In addition, failure to implement promptly therecommendations of parliamentary watchdog committees has created passive mentality amongcitizens, who then fail to report cases of corruption.

Risks related to poor accountability practices: Risks include loss of credibility and a worseningaccountability environment that results into wastage of public resources with adverse impact oneconomic growth.


* The two suspended Bills mentioned above should be brought back to Parliament after properre-draftmg and enacted into law to strengthen the financial accountability environment in thepublic sector.

* The anti-corruption bodies envisaged by the proposed new legislation should be empoweredto continuously monitor any corrupt practices and to prosecute cases of mal-practicesemanating from the reports of the C&AG, the recommendations of PIC and PAC andinformation provided by the public.

* In addition, there should be an effort to harmonize the functions of all the participatinginstitutions towards a single unified anti-corruption strategy.

* A number of capacity building programs have been proposed, including training on financialmanagenmnt and procurement, specialized skills in prevention and fighting corruption,development and implementation of sustainable public anti-corruption programs.

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SECTGON 6: LOCAL GOVERENMENT MFANCAL ACCOUN1TAB3LDTY

6.1 Review of the current situation


The local government system in Kenya is established by the Local Government Act, CAP 265(1986). Local authorities (LAs) are responsible for the provision of a host of services specifiedin the Act. The Rating Act of 1963 empowers them to finance service provision by raising landbased taxes. The Local Authority Services Charge (LASC) Act, CAP 274 (1989) allows LAs toimpose a services charge on businesses and workers.

Insignificant amounts in terms of national budget allocations are transferred to LAs for theContribution in Lieu of Rates (CILOR) and Road Maintenance Levy. This was not always thecase. Soon after independence LAs received grants from the Government for provision ofprimary education, road infrastructure and public health services. These grants becameinadequate due to urban population explosion and the reduction in the level of the GraduatedPersonal Tax.

In 1969 the Government enacted the Transfer of Functions Act which provided for the transfer ofthe above major services and the discontinuation of the grant system. LAs have therefore largelybeen self- financing for the last 30 years though they also received loans for capital projects fromthe Local Government Loans Authority which had unfortunately ground to a halt due to nonrepayment of loans by LAs.

Total local government expenditure is reported to be less than 5% of total public expenditure.Provisional figures for 1997/1998 indicate that local government expenditure was approximatelyKshs.14.5 billion for the provision of the following main services: Administration 31%; LocalRoads Maintenance and Construction 19%; Water and Sewage 18%; Sanitation 11%; Health 6%;Housing 5%; Education 4%; and 6% for other services which include markets, abattoirs, busparks, off-street parking, traffic control, street lighting, cemeteries, fire protection etc. LAs raiserevenue from the provision of some of these services. However, a significant proportion of theirrevenues comes from land based taxes and business licenses.

The Local Authority Transfer Fund Act, No. 8 of 1998 established a fund (LATF) to facilitatethe disbursement of certain funds from the Government to LAs to supplement the financing ofservices and facilities. The fund is administered by the Permanent Secretary to the Treasury inthe MOFP. Under the LATF Act, LAs were allocated 2% in 1999/2000 and 5% in 2000/2001 ofthe total Income Taxes collected by the government. For the financial year 2000/2001 thisamounted to over Kshs.2.2 billion which is equivalent to 1% of the national budget.

The affairs of each LA are overseen by predominantly elected councillors who form a council,the intention being to facilitate elected local representation in governance and management oflocal resources and development prioritisation. The council appoints committees to assist it in itswork. The Fmance Committee (FC) is responsible for regulating and controlling the finances ofthe LA. The responsibility of executing financial policy and maintaining proper books of

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account is vested in a treasurer who is appointed by the Public Service Commission or by theMinister for Local Government.

Local Government Financial Regulations (LGFR) were issued in 1986 and should be adopted byall LAs. The LGFR prescribe the financial responsibilities and functions of various officials andorgans of the council. The Ministry of Local Government (MOLG) issues circulars advising orrequiring LAs to follow new procedures and to implement new legislation.


The LG Act and the LGFR require LAs to prepare budgets for the services provided and toindicate the sources of funds to finance them. The Treasurer submits the budgets to the FCwhich then lays them before the full council. Each of 174 (or more) LAs, headed by an electedcouncil, is individually accountable to the Minister for Local Government. Assisting theMinister, is the Finance Department at the MOLG Headquarters and the Provincial LocalGovernment Officer (PLGO) at Provincial Headquarters. The LG Act requires that the Ministershall approve all LA budgets. Delays along the process mean that LAs sometimes operatewithout approved budgets.

The LG Act requires that LAs prepare annual accounts for each year and submit them to theC&AG or an auditor appointed by him for audit within six months of the financial year-end.LATF Regulations (LATFR) specify the forms that LAs are required to submit. The LATFRrequire the C&AG to audit all accounts submitted by the LAs. Under the LG Act the C&AGsends the audit report to the LA and to the Minister for Local Government. LAs are required tolay copies of the C&AG's report on the accounts before the council. Copies should be madeavailable to any mihabitant of the area who makes an application for the report. It is notmandatory for the C&AG to make special reports to the Minister in case of irregulanties. TheMinister is required to lay the reports before the National Assembly. The Minister may order foran Extraordinary Inspection of a LA. Recent ministerial direction has introduced an InterimOversight Board for Nairobi City Council based on the findings of an Extraordinary Inspection.

In 1996 the MOLG established the Kenya Local Govermnent Reform Programme (KLGRP)secretariat. The KLGRP intends to use the LATF as the main tool for improving financialaccountability in LAs. LATFR require LAs to submit budgets, data and narrative statements thatwill be fed into a computer database at the KLGRP Secretariat. Only those that submit therequired documents will access the money. The introduction of LATF has invigorated thetreasurers' departments and serious attempts to update the accounting records are being made inorder to access the funds. However, in most LAs, LATF money has not been properly appliedwith most rural authorities using it to pay salary arrears.

Ultimately, the various systems, procedures and records in LAs are supposed to be a basis for thepreparation of financial statements which will be used by various stakeholders to make decisions.Unfortunately, the current requirements of the LG Act result in the preparation of final accountsthat are sometimes not comprehensible to the user. The accounts do not provide sufficientdisclosure about the financial condition of LAs. Furthermore, the preparation of these accountsis based on archaic terms and methodologies. While there have been great strides inmodernizing the accounts of LAs in Britain, (where the system in Kenya was inhented from), theKenyan system is still based on the 1950's British model.

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The KLGRP developed a Simplified Accounting System (SAS) as a pilot project to introducemeaningful and readily understandable financial statements. The set of financial statements ofone of these LAs was entered in the annual Award of Best Presented Accounts conducted by theInstitute of Certified Public Accountants of Kenya (ICPAK). It was awarded the Best PresentedAccounts for the LA category with a special commendation for depth and clarity of disclosure.

6.1.3 Technical capacity

Many LAs do not have properly qualified staff in senior accounting positions. Some staffmembers holding accountant positions do not even have a basic accounting qualification. MostLAs need to computerise accounting processes but do not have the financial and humanresources. At the policy making level, most councillors do not have the vision to strategize fortheir LAs.

The KLGRP experience is that the local authority staff respond to training, recognition andmotivation. The performing local authorities visited during this assignment also have verymotivated personnel. However, more work needs to be done and discussions should be held withICPAK and the Kenya Accountants and Secretaries Examinations Board (KASNEB) to train itsmembers on international practices related to Local Government accounting and auditing. It isalso necessary to prepare the amendments to the LG Act and issue circulars and proceduresmanuals to LAs and to train accountants in the C&AG's office, MOLG and LAs.


In 1995 a Commission of Inquiry was appointed by the President to enquire into the futurestructure, powers, legal framework, functions, financing and staffing of local authoritiescountrywide. The Commission was also to recommend a system that would significantlyincrease active local community participation in the designing and implementation ofdevelopment plans of the LAs. The findings were never implemented. Also, in 1995 the MOLGcommissioned a study and report under the Municipal Reform Programme on the reasons whylocal authorities do not prepare final accounts.

Building on the findings of this study, the KLGRP was commissioned to look into key areas,such as simplified accounting systems, resource mobilization and fiscal management, budgetpreparation support, intergovernmental fiscal relations and stakeholder participation andinfrastructure needs assessment. KLGRP supported several LAs in budget preparation and theseare now well placed to prepare realistic budgets. Budget preparation reform has been spurred bythe fact that compliance with the requirements means access to allocated LATF funds.

Most of the above reforms did not proceed to full implementation and replication phase. Onlythe fiscal relations and resource mobilisation component has moved along, culminating in theSingle Business Permit, the LATF and Road Maintenance Levy regulations. These reforms havebeen welcomed by LAs mainly because of the monetary benefits attached to them.

The LATF may be used to contract private accountants and consultants to help LAs address thebacklog problem. Many LAs have taken advantage of their irnproved cash flow to contractprivate firms of accountants to assist them update their accounting records and prepare their finalaccounts for audit.

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A computer based system (the IFMIS) that analyses data for the various revenue and expendituretransactions is to be introduced in LAs. Implementation of SAS provides the platform forassured and rapid implementation of an IFMIS for local authorities that can be easily managedby private sector trained accountants and accounting technicians.

KASNEB is currently in the process of undertaking a major syllabus review to take into accountthe demands of globalized economy and the revolutionary advances in infonnation technologyand communication. ICPAK has also relaunched the Public Sector Committee in order tomainstream public sector accounting and financial administration needs.

In 1999, KLGRP issued a report on how to improve audit m LAs. In May, 2000 a circular wasissued by the MOLG requiring LAs to appoint internal auditors and proposing the amendment ofLG Act in order to grant the auditor more independence. Rich urban LAs may not haveproblems complymg but some LAs may be unable to do so due to lack of adequate resources.The C&AG's office has recruited more university graduates and appointed them in seniorexaminers positions. A new Assistant Director of Audit m charge of LAs has been appointed.Many LAs are now submitting their statements of expenditure and income to the C&AG asrequired by LATFR. Improvement of audit procedures is hampered by the lack of proper recordsin some LAs. The C&AG's office is in the process of preparing a special report on LAs to theMinister for Local Govermment for tabling in Parliament.

Monitoring and controlling is to be boosted by the establishrnent of a Financial and ManagementControl Board. However, the Interim Oversight Board appointed for Nairobi City Council hasnot been accepted by the councilors and needs to be strengthened. Regularity and efficiencyexaminations are carried out by the EMNU in the Office of the President. It is hoped that with allthe financial information now in the hands of MOFP, MOLG, EMU the KLGRP secretariat, andthe wider public through the publication of the allocations, more, questions will be asked of LAs.However, monitonng and inspection needs to be coordinated by a body such as a LocalGovernment Audit Commission otherwise too many mspection/oversight bodies end upduplicating efforts.

6.2 Assessment of the current situation

Financial accountability, transparency and integrity* The weak local government financial management and accounting enviromnent poses a

serious fiduciary risk. The LG Act and LGFR requirements for financial accountability arefairly strong but the relevant stakeholders do not adhere to them for various reasons. Also,the MOLG seems unable to fulfill its functions due to insufficient resources and facilitation,but mainly due to lack of a long term strategy for the sector.

* Unrealistic budgets are enforced on LAs and are therefore, generally, ignored for the purposeof managing performance. In some cases, they are approved long after the beginning of therelevant financial year Also the budgeting process has not been open to public participationand consultations with other stakeholders such as NGOs and the private sector.Conditionalities of LATF do not include requirements to have the budgets discussed and readto the mhabitants or that the preparation of final accounts and their audit by the C&AG beprecedent to funds being disbursed.

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o The critena set out in the LATFR is considerably lenient on the LAs with regard to financialaccountability. A review of the required formats and schedules reveals many gaps whichmake them unreliable as a basis for forming an opinion on the financial position andperformance of the LAs. Internal checks and balances have proved to be weak and easilyignored. Procurement practices are not transparent and it is important that these be openedup to all, especially the media. The LATFR do not specify any improvement in checks andbalances within the LA to ensure that funds are used for the intended purposes and to holdofficials accountable. The required formats and statements are not signed by the Treasurerand are merely forwarded to the stated bodies with a covenng letter.

O Though current rules and structures require LA political and administrative leaders to beaccountable, this is never enforced. In response, local people especially in urban areas havestarted forming neighbourhood associations to provide services which they need such as solidwaste disposal, security services, construction of police posts, access roads, rural watersupply, health centres and schools. These services are arranged and paid for in a democratic,transparent and accountable manner by the officials of the associations. This makes the LAsand their leaders appear irrelevant as LAs have become inward- looking entities moreconcerned with raising revenues to pay the salaries of their employees and councillors, ratherthan institutions serving the needs of the local people.

Institutional capacityo LAs are unable to attract, retain and train appropriately qualified personnel. This has resulted

in the shortage of financial management staff which is more acute in rural LAs than in urbanones. Standard remuneration scales and establishment structures do not take into account theindividual circumstances of each LA leading to inappropriate and excess staff. This systemdoes not allow for merit promotions and annual increments are given across the board. Theremoval of revenues such as the Graduated Personal Tax and now the LASC without firmpolicies on what to do with the excess staff has led to over establishment.

o Currently the more successful programs are those that require LAs to open separate bankaccounts which are then closely monitored. These are the Road Maintenance Levy under theKenya Urban Transport Infrastructure Project and the micro-projects under the KLGRP.Even so, LAs show poor compliance with financial management requirements of theseprograms. Supervision of staff is often non-existent and for LAs that cover large physicalareas, inspection is minimal due to lack of facilitation. The low level of education of mostcouncillors is also a serious draw-back especially in formulation and articulation of policies.

O Accounting departments are also not well facilitated with modem processing,communicating, and data management equipment. LAs have seriously lagged behind othersectors and the piloting of the IFMIS and its successful replication in 20 local authorities willbe a commendable move. However computerisation needs to be approached with caution assome LAs that were misled into buying computers and software later found that they werenot useful to them. To a very large extent, IT has been ignored by LAs mainly due to lack offunds but also due to a fear of rendering most of the staff redundant.

Complianceo Records are not properly maintained and reconciliations and final accounts are not prepared.

Normal book-keeping of primary records is also in a backlog position including bankreconciliation statements. Procurements do not follow hid down procedures mainly becauseof the depreciation of the Kenya shilling over the last 35 years. Internal auditors have notbeen appointed in all LAs and the new requirement for internal auditors to report directly to

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the FC is not widely in place. Also, because of lack of proper qualifications, internal auditorsdo not have the necessary experience and independence to conduct value for money audits.The majority of LAs do not comply with the rules and regulations and some of them have notsubmitted final accounts since inception. Also, external audit is not complete as all LAs arein a backlog position. The LG Act does not lay down punitive measures for non complianceand it does not set a date by which LAs should have audited accounts in place. Many yearshave elapsed since any report on the final accounts of any LA was laid before Parliament.LAs take too long to respond to audit queries thus delaying the issuance of the audit reports.

6.3 Conclusions and recommendations

An effective system of local government facilitates democratic, effective, economic and efficientdevelopment -up to the lowest level of society. The public management hierarchy of LAs allowsfor duplication and multiple accountability at the levels where councils are established whereasdemocratically accountable governance structures are lacking at the village, sub-locational, ruraldivisional and provincial levels. The provision of services and entitlement to revenues weretransferred from local authorities and have been re-assigned to the non-elective administrationstructures thereby reducing democratic linkages with the citizen. The principle areas wherefinancial accountability might be improved are as follows:

* The institutional framework for the establishment, planning, financing, operationalising,monitoring and inspecting of LAs should be reviewed urgently to make them transparent andaccotmtable to the inhabitants. The government should introduce a decentralisation policythat will deliberately require LAs to run the financial and other affairs of their areas in atransparent manner. LAs should be required to formulate strategies for the implementationof reform policies in consultation with the local people.

* The Government is acutely aware that the LAs are not yet in a position to have more fundsand functions devolved to them due to lack of accountability and transparency. Yet it isimportant to have service delivery localised in order to alleviate poverty. The governmentand its development partners must devise a programme which will address the issues ofcapacity building at the local level. Under this programme the MOLG must undertakevarious measures to assist local governments to clear their backlog of unsubmitted accounts.These efforts include the hiring of private firms of accountants and auditors to prepare andaudit the accounts, and the provision of training and guidelines manuals on financial matters.

* New financial rules and regulations must be put in place urgently. For example, LAs shouldbe made to produce financial statements before they can access funds from the centralgovertunent or be allowed to raise more revenue locally. Their plans and budgets should bedeveloped m consultation with the local people. The SAS should be implemented for thepreparation of final accounts which should be prepared and audited in a timely manner.These accounts should be published in national newspapers.

* Audit committees made up of independent members of the council and the local commnumtyshould scrutmize internal and external audit reports and make recommendations to thecouncil and the government on the action to take. The LAs should respond to all queriesraised by the C&AG. The C&AG should submit audit reports to Parliament and these shouldbe laid before the council in a public meeting and published.

* LAs should be able to attract the right calibre of finance and audit personnel by improvingthe terms and conditions of accounting personnel and empowering them to carry out their

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duties. Computenzation should be introduced and LAs should be allowed to retrenchredundant staff.

o A system of performance based grants for community-based and managed programmes suchas schools, hospitals, cattle dips, bridges, village polytechnics etc should be developed. TheLATF reforms are not based on consultations with LAs and local people. In particular, thecapital projects are not required to have an input from the local people. The local peoplemust be put nght at the heart of local government because as the users and payers for localservices, they should have a greater say in how those services are delivered. Consultationwith the local people and other stakeholders should improve accountability.

o Government should further plan to address some of the capacity constraints in localgovernment through arrangements with the ICPAK and the KASNEB aimed atmainstreaming the appropriate local government accounting and financial administrationmodel into the regular accounting syllabus at both the technician and professional level.

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SECTION 7: PUBLIC ACCESS TO INFORMATION ON PUBLICSECTOR FINANCIAL MANAGEMENT



In analyzing the legal framework regulating freedom of infonnation in Kenya, it is important tofocus on three tiers of laws. These are International Law, The Constitution of Kenya and Acts ofParliament. Kenya currently has a number of legal barriers that hinders access to some officialinformation Chapter V of The Constitution of Kenya (Sections 70-86), contains generalprovisions for the protection of fundamental rights and freedoms of the individual. In particularSection 70(b) and 7930 deals with the protection of freedom of expression.

Sections 79 [2(a), (b), (c)] however, proceed b outline many exceptions to this fundamentalright Many of these are ambiguous and leave room for manipulation, undermining, abuse anddenial of this right. The provisions allow for the enactment of laws, which could supersede theright to freedom of information and in effect undermine the supremacy of the Constitution. Theexceptions create loopholes, which may be misused to infnnge on citizens' nght to infornation

The Official Secrets Act, CAP 187 was enacted in 1968 to "provide for the preservation of statesecrets and state secunty". It is the only act in Kenya addressing solely the issue of information.

7.1.2 International benchmarks

International law clearly promulgates the nght to freedom of information. The most significantstatutes in this regard are:

* The UNCharter, Preamble (1945);* The Universal Declaration of Htman Rights, (Article 19) (1948); and* The International Covenant on Civil and Political Rights, drafted by the UN Commission on

Human Rights (1976).

The provision in Section 79(1) of the Constitution is a replica and an elaboration of theequivalent articles of the statutes and as such comply with these international benchmarks.

7.1.3 Accessing information on government planning and spending

The Kenya Government produces a National Development Plan (NDP), normally for a five-yearperiod, which involves direct or indirect interaction of officers at the national and several sub-national levels. Unfortunately, this intricate process is all internal to the government system, andshrouded in secrecy until the final document is released for public consumption. There is no

30 Section 79(1) provides that "Except with his own consent, no person shall be hindered in the enjoyment of hisfreedom of expression, that is to say, freedom to hold opinions without interference, freedom to receive ideas andinformation without interference, freedom to communicate ideas and information without interference (whether thecommunication be to the public generally or to any person or class of persons) and freedom from interference withhis correspondence "

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proactive policy on public information, for purposes of inputting or monitoring this process. Atthe stage of debates by Parliament, little can be changed substantially. Information is onlyavailed after the fact, when the NDP is published and is serialized or commented on in themedia, or can be bought at the Government Printer.

Fortunately, the environment for public involvement in the planning, investment and spending ofpublic funds is changing through the introduction of both the PRSP and the associated MTEF.Consultations at the local level on the PRSP were initiated by the Government in early 2001.Also, Kenya has a sufficient set of facilities to monitor public expenditure, for example:

o District Development Committees must use the media to maintain a program of publicinformation to explain the District Focus Strategy to the general population.

o Information such as the annual Report of the C&AG on the Accounts and Statements as wellas the Printed Estimates of Development and Recurrent Expenditures are public documentswhich are available for sale from the Government Printer.

Apart from the general provision in the Constitution, there is no specific law that regulates theright of the public and the media to information on the management of public finances. Also, themeetings of parliamentary committees that fulfil an oversight role in the financial accountabilityframework, i.e. the Finance Committee, PIC and PAC, are not open to the public and the media.Unfortunately, most of the current government financial regulations and mechanisms emphasizemonitoring the spending of money, to the exclusion of such important factors as efficiency ofcollection and allocation of government revenues, or the impact of such spending. They shouldhave avenues of availing the public, the information gathered by them easily in order to enablethem to monitor government performance.


Even though the Constitution provides for freedom of information, the provisos to it tends toundermine its effectiveness to a large extent. The onus has been placed on the seeker ofinformation to show why information should be availed to him/her.

Since there is no other legislation regulating the access of information from the government, theOfficial Secrets Act has become the default for the management of the dissemination of publicinformation. Consequently, the overemphasis is on government interest as opposed to theinterest of the public. Whereas there are indisputable merits for government secrecy, it shouldnot override the constitutional right to information.

According to a report3 ' published in 1999 by the International Commission of Jurists - KenyaSection (ICJ-K), many Kenyans seek public information from Government everyday but withlittle success. Furthermore, there is adequate demand for public information but it has not beendirected constructively towards the creation of an environment for public access. The reportidentifies the following weaknesses in the oversight function of the financial accountabilitycycle:

31 The State of Freedom of Information in Kenya A report published in 1999 by the International Commission ofJurists - Kenya Section (ICJ-K), sponsored by CIDA and the Royal Netherlands Embassy - Kenya

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* Interviews with the chairpersons of the PAC and PIC revealed that the committees need toinvestigate some matters raised in the reports of the C&AG where the information therein isnot clear or is inadequate. The PAC indicated that to a large extent they have receivedcooperation from relevant government departments. However, the fact that the proceedingsare not public and do not involve media coverage means that the public does not getsufficient information about inquiries mto public mstitutions. The right of the public toreceive pertment information is therefore impaired by the legislative limitation of the PAC.

* The PAC and PIC also face the structural weakness of not being able to summon MPs beforethem in their official capacities, yet this may be necessary for the work of the Committees.Further, the committees can only investigate the C&AG's report, but cannot do anythingbeyond raising questions. These committees also cannot investigate certain parastatals whichare exempted from their scrutiny under the State Corporation Act.

* It is the responsibility of the Attorney General to investigate anomalies in governmentexpenditure and investment. However, there seems to be an inherent inability to bring casesagainst officials named in the C&AG's reports as being responsible for the mismanagementof public funds. This is an indication of the fact that freedom of information must beaccompanied by institutional and organizational means and will to sanction public servantswhen they fall short of what is acceptable.

7.3 Conclusions and recommendations

The report of the ICJ-K identifies a number of findings and recommendations for theimprovement of accountability. It points to some possible actions that relate to the following:

* Constitutional and legal reforms: There is need to carefully consider the incorporation inthe Constitution of a specific provision on the Right to Freedom of Information with the eyetowards maintaining the spirit of the original Constitution and International Conventions.This would be well-timed especially at this pomt of constitutional reform in Kenya. Theright to freedom of information and privacy must be clearly, distinctly and boldly spelt outand not as part of another right. Also, the Official Secrets Act, may need to be reviewed torender it more specific on criteria, procedure, and time- frame of classification,declassification of government secrets and the protection of those secrets from leakage.There is also need to reform other related laws.

* Institutional development and strengtlhening: Capacity of existing public institutions offinancial accountability such as the Parliament (PAC & PIC among others), Office of theC&AG, the Mminstry of Information, the media, and others need to be improved to enablethem to facilitate access to credible and objective public information by the public in a timelymanner.

* Transparency of parliamentary committee meetings: The Finance, PIC and PAC meetingsshould be opened up to the public and the media unless matters are dealt with whereparticular evidence needs to be heard in camera.

* Public awareness: There is need to raise the awaieness of the public about their basic rightof freedom to access public information. There is need to assist people to make theconnection between people's life situations, the activities of government and information.This will create an effective demand for reform and for public mformation.

The current constitutional reform process should clearly create an opportunity for expanding thepublic's awareness of the related issues and would undoubtedly stimulate a healthy debate.

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SECTDON 8: NON-GOVERNMENTAL ORGANDWATDONS (NGOs) ANDCOMMUNDTY BASED ORGAHUATDONS (CBOs)



Registration and establishment of NGOs in Kenya is through the Non-GovernmentalOrganizations Coordination Act, No. 19 of 1990. CBOs are registered either under the Ministryof Culture and Social Services or under the Societies Act, CAP .108 (1970). The NGOsCoordination Board and the National Council of NGOs have the statutory responsibility for theenforcement of the law with regard to compliance with the legal requirements. The NGO Rulesand Regulations of 1992 regulate the activities and conduct of the NGOs presently registered mthe country.

The role of the fast growing NGO/CBO sector in the socio-economic development in Kenya hasbeen gaimng increasing prominence, particularly the crucial contribution towards povertyalleviation. NGOs' and CBOs' operations have complemented government development effortsthrough their ability to mobilize resources locally and mternationally. Recent estimates(1999/2000) indicate that over KES 67.5 billion has been channeled through some 1 600registered NGOs and over 10 000 CBOs32 . This level of financial outlay is expected to grow asmore and more international development assistance continues to be channeled through theNGO/CBO sector, away from the traditional public sector. It is evident that proper coordinationand monitormg, and greater transparency and accountability are required to ensure that funds areutilized for the intended purpose.

NGOs are required to prepare annual financial estimates, but there is no mechanism to ensurethat they comply with this requirement. Since these estimates also form the basis of computingannual subscriptions to the NGO Council there is the risk of underestimates by individual NGOsto avoid high subscription fees. NGOs not willing to pay their subscriptions tend to avoidpreparation of annual estimates altogether.


The NGO Coordination Board and the National Council of NGOs are expected to ensurecompliance with statutory requirements although this is not specified in the Act. NGOs, asregistered organizations, are expected to maintain the same standards of accounting practice asother corporate bodies operatmg in the country, and comply with the financial reportingrequirements set by the local accounting profession (ICPAK). Financial reporting and auditingrequirements for NGOs are specified by the NGO Coordination Act, Form 14. It lays out theformat in which both their financial statements and annual reports for the preceding financialyear should be presented. The quality of financial reporting varies from one organization to theother, and depends on the size, origin, and management structure, etc. Although the NGOCoordination Board and the Income Tax Act require organizations to keep accounting recordsthere are no such statutory requirements under the NGO Coordination Act.

32 Position Paper, NGO Coordination Board, November 2000

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Studies done by the NGOs Council have revealed that most NGOs have low compliance withaccounting standards and limited compliance with established regulations and procedures.Further, there has been little emphasis on good financial management and accounting practice.Whereas a draft guideline has been issued on accounting and audit practices among NGOs, as away of ensuring self financial regulation, this document has not been ratified by the NGO Board,making it difficult for wider acceptability, and compliance with its provisions.

CBOs registered under the Societies Act are required to submit annual returns which may or maynot include financial statements. They are under no obligation to prepare financial statementsunless demanded by donor agencies. In addition, they have no guidelines for financial reportingand auditmg at all and do not operate under the ambit of the NGOs Council. This poses afiduciary risk that funds channeled through these organizations may not be properly accountedfor.

8.1.3 Capacity and ability to implement and promote best practice

The greatest impediment to implementation of best practice is the inadequate technical capacityamongst NGOs and CBOs, most of which are rLin as family outfits with no managementstructures. It has also been observed that, due to intense competition for donor funding amongNGOs and CBOs, there is a general unwillingness to produce financial statements that woulddisclose information considered crucial to the wellbeing of the NGO/CBO, such as source offunding.

8.1.4 Current initiatives for financial accountability reforms

The National Council of NGOs, through joint efforts between them and UNDP, and supported bya leading international accounting and auditing firm, has developed a Statements ofRecommended Accounting and Audit Practice (SORAAPs) for NGOs The primary aim ofSORAAPs is to strengthen NGOs capacity to account for their funds in a more transparentmanner, and to provide a set of uniform accounting and auditing practices to these organizations.At the same time it is geared towards harmonization of different NGO financial reportingformats with requirements of donors and other stakeholders. The NGO Council has beenrunning a number of training workshops for accountmg personnel in various NGOs country-wide. However, the coverage has been limited due to funding constraints. These efforts areexpected to ameliorate the fiduciary risks associated with the NGO sector.

The NGO sector has operated within a legal framework, but with no policy guidelines. There isnow a move towards formulation of the National NGOs Policy which is being spearheaded bythe National Council of NGOs. The Council is also in the process of amending the rules andregulations guiding NGO operations by providing for mandatory compliance with SORAAPsonce it is ratified by the NGO Board.


The capacity of regulatory bodies to ensure quality: Capacity of the regulatory bodies (NGOBoard and the national Council of NGOs) is very low and ineffective, and cannot ensure quality.As a result there is little effort to promote best practice among the NGOs. The facilitation role of

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the NGOs Board is also hampered by capacity and resource limitations, and the Board's ability todischarge its mandate is seriously compromised. Accountability and transparency are also weakas a result of lack of an effective monitoring regime. The NGO Coordination Bureau does not,for example, have the machinery under the act to penalize NGOs that fail to submit returnsbecause the NGO Coordination Act does not stipulate penalties for such instances.

Integrity offinancial information generation: The regulatory environment in place has failedto remove the inherent uncertainty among NGOs and CBOs as to the preferred treatment ofvarious accountmg items and the format of financial reportmg. For example, international NGOsfeel that their accounts and financial reports must conform and comply with requirements of theirhead offices rather than the local requirements. Also, only NGOs that are active members of theCouncil are required to prepare their financial reports early to ensure the reports are audited andready by the time of the annual general meeting.

Financial reporting, particularly among local NGOs/CBOs, is not demand driven, but influencedby the specific objective to be met, for example, for funding purposes. There is little evidencethat these reports are used for decision-making purposes, except by some international NGOs. Anumber of NGOs have been identified with the following problems:

o Lack of support in establishing good financial management and accounting systems.O Lack of clear statutory requirements for financial reporting.O Too much emphasis on meeting specific donor requirements instead of developing good

financial management systems that meet the wider interests of all stakeholders. As suchNGOs and CBOs have been obsessed with keeping records only to satisfy donor needs orrequirements, but not to fulfill greater accountability to all stakeholders

o Lack of accounting guidelines to harmonize the different financial reporting regimes in theNGO/CBO environment.

The regulatory framework has also not enhanced transparency and financial accountability thatwould, for example, enable the public to access financial information easily. This has led to lackof trust from the public and politicians about the operations of NGOs and CBOs3 3. Due tointense competition for resources there is very little sharing of information and there isinadequate collaboration and cooperation among NGOs, as well as inadequate coordination bythe Government (through the NGO Board).

Risks related to poor financial management practices: Risks include errors, omissions, fraud,failure to meet development objectives due to inefficient and uneconomical use of resources, andlack of trust by stakeholders. Accountability is low and as a result NGOs and CBOs find itdifficult to access funding from local sources. This problem has been exasperated by donors thatdo not link their support with conditionalities of good fmancial and accounting systems. Hence,transparency and financial accountability are often not used as a criteria for securing donorfunding, thus creating situations of high fiduciary risk.

33 In this regard the Daily Nation of 29 January 2001 reports as follows While heads of such NGOs c6ntinue toshout themselves hoarse at the public forums about accountability and transparency, they have never made publictheir financial statements. It is time the government and the NGO Council put their feet down and scrutinised theactivities of these organisations.

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The principle areas where financial accountability for NGOs and CBOs might be improved areas follows.

* The NGO Council's initiative of issuing the SORAAP should be backed by greater emphasison three areas aimed at improving financial accountability within the sector, namely:

a. allocation of adequate financial resources for the strengthening of accountingsystems, including staffing;

b. ensuring that adequate resources allocated for appointment of qualified andcompetent auditors to report on the annual financial reports; and

c. the need to develop controls structures within these organizations to enable them tocarry out their operations in a systematic manner.

Given the work that has already been done a 2-3 years action plan would probably berequired to implement the desired improvements.

* There is an urgent need for both technical and financial assistance to NGOs who have limitedresources to enable them to employ competent accountants and train them on the provisionsand requirements under SORAAP 34. Those NGOs that are endowed with financial resourcesalso require training to enhance their capacity to maintain good accounting systemsTraining to enhance capacity should be on an on-going basis, and initial training can becompleted within 1-2 years.

* There is also need to strengthen the capacities of key organizations such as the NGO Counciland the NGO Board to facilitate enforcement of regulations and standards.

* Donors need to appreciate the principle of uniformity of financial reporting among NGOsand CBOs by accepting the SORAAP format.

* A mechanism should be established for informmg the NGO Board about donor finding toNGOs. This would facilitate verification and coordination of activities.

* As a way of encouragmg good financial management practices there should be a link(condition) between good financial reportmg and securing donor funding, with greateremphasis on transparency and financial accountability.

34 The NGO Council carried out a pilot training for its members to sensitize them on the provisions andrequirements under SORAAP There was an overwhelming response from the members as well as the wider civilsociety in general, but due to scarcity of resources further training has been suspended

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Country FinancialAccountabilityAssessment Republic of Kenya

SECTUON 9: GOVERNMENT BUSHESS ENTERPRISES


9.1.1 Legislative and regulatory environment, transparency and integrity

Government Enterprises or State Corporations (Parastatals) are registered and established interms of their specific enabling Acts of Parliament, the State Corporations Act, CAP 446 (1986),and the Companies Act, CAP 486 (1962). The legislative and regulatory environment underwhich these business enterprises operate, depends to a large extent on the level of controlexercised by the Government3 s. Those organizations where there is little or no governnentcontrol tend to have better tools of ensunng compliance with legislative and regulatoryprovisions.

THERE ARE ABOUT 150 ORGANIZATIONS IN WHICH THE GOVERNMENT HASSOME INTEREST AND WHICH FALL WITHIN THE FOLLOWING CATEGORIES:

Regulatory organizations Research InstitutesEducational/Professional organizations Development & Promotional AgenciesCultural/Social Service Institutions Revenue Collection AgenciesBusiness Enterprises (performning commeroal activities)

For government enterprises that are not exempted from the State Corporations Act, and thosewhere the government has no controlling interest, there is mandatory budgetary approval byParliament (Annual Estimates) through the parent ministries and Treasury, before expenditurecan be incurred. The respective Boards of the State Corporations approve the execution of thebudgets according to their work plans, provided that no expenditure may be incurred that was notpreviously included in the annual estimnates. State Corporations that generate own revenue havemore flexibility in budget execution than those that wholly depend on Government subventionsm form of grants. The latter also have less flexibility in setting remuneration levels for theirstaff, and follow procurement guidelines approved by the parent ministries and Treasury. Thelatter are usually classified as category C or D corporations.

Each Board of a State Corporation is accountable for the financial business and management ofthat corporation. State Corporations that have not been granted exemption are required to followstatutory provisions with regard to keeping of books of accounts and records, asset managementand audits. The act makes it mandatory for the accounts of State Corporations to be audited inaccordance with the provisions of section 29 of the Exchequer and Audit Act. The Auditor-General (Corporations) has the obligation to report to the shareholders (mainly government),through the PIC, who examines the annual financial statements and then submits its reports toParliament.

There are concerns that exemption of certain State Corporations from the Act has not been donein a transparent manner. In most cases such exemptions have posed financial accountability

35 Apart from business enterprises, in which government interest ranges from minority shareholding, with nogovernment control, to majority shareholding and control, organizations falling under the rest of the categories arewholly owned and controlled by the government.

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nsks as a result of decisions of the Boards that have not been subject to government approval andscrutiny. There have been concerns about expenditure control, rendering many of the StateCorporations technically insolvent while others have frequent unwarranted upward review ofremuneration for staff and Board members, causmg unjustified dispanties among StateCorporations and lack of transparency in the appointment and retention of auditors.

9.1.2 Compliance with established rules, regulations and benchmarks

Most State Corporations are not able to attract qualified accountants due to low remunerationlevels. Such Corporations have accounting systems that are not well developed, and are contentwith meeting minimum financial reporting requirements As a result, financial reportingconformity with internationally recognized benchmarks varies. The capacity problem has alsoaffected the quality and standard of auditing in the office of the Auditor-General (Corporations).There are, however, a few State Corporations3 6 that are able to attract qualified accountants andhave proper accounting systems, and prepare their financial statements in accordance with theInternational Accounting Standards They are also able to appoint competent auditing firms thatconduct their audit in accordance with International Standards on Auditing.

9.1.3 Technical capacity to implement and promote best practice

Under the State Corporations Act, the Inspectorate of State Corporations is mandated to advisethe government on matters pertaining to the running of State Corporations, including compliancewith statutory and legal provisions, effectiveness of management practices and financialperformance of orgamzations falling under the purview of the Act. However, the supervisory,monitonng and performance appraisal roles of the Inspectorate have been compromised by lackof qualified and skilled personnel. It also lacks capacity to enforce surcharges in cases wherefinancial impropnety have been established. In addition, the State Corporations AdvisoryCommittee, which is charged with the responsibility of reviewing the affairs of StateCorporations, has remained moribund since 1991 with adverse implications for the managementand control of these corporations. The dormancy of the committee raises questions abouttransparency and accountability in the management of State Corporations, particularly withregards to new equity investments, award of contracts for consultancy services, acquisition ofinterest in businesses, joint ventures, expansion of scope of activities, etc.


Legislative framework: Whereas the Companies Act, the State Corporations Act, and therespective enabling Acts of Parliament have served the organizations well, they have not beenrevised in line with changes that have taken place over the years. In some cases inconsistencieshave been detected between the enabling Acts and the State Corporations Act, for example, withregard to appointment of auditors, remuneration of members of the Board, etc. There is, thus,urgent need to review the vanous acts in order to harmonize the conflicting statutory provisions.

Integrity of the components of the financial accountability cycle Compliance with therequirements of the Act varies from low to high, depending on the quality of the Board and

36 Particularly those engaged in commercial activities, mainly in categories A and B

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management of a particular State Corporation. Most Boards have not fully discharged theirobligations under the Act, as reflected in the many qualified audit reports. In many casesfinancial statements are submitted late for audit, and sometimes there is no demand for them bythe Boards and management, who ignore to fulfill their statutory obligations. This ultimatelydelays the tabling of audited financial statements in Parliament. Often there is lack of attentionto audit reports, with little attempt made to resolve audit issues or implement recommendationsmade by auditors for systems improvement. This is made worse by the fact that there are nospecific penalties for late submission of audit reports. However, the PIC of Parliament has beenconsistent in dealing with financial accountability problems highlighted in the audit reports ofState Corporations.

The capacity of regulatory bodies: Capacity of regulatory bodies to ensure quality is generallylow. There is lack of enforcement of fiduciary responsibility even by the PIC of Parliamentwhose past recommendations on punitive measures for financial impropriety have not beenimplemented. The Inspectorate of State Corporations also lacks capacity to impose measuresthat would discourage financial malpractice among State Corporations. There are too manyinstitutions - parent ministries, Office of the President, Ministry of Finance, to which StateCorporations are accountable, with attendant risk of weakening financial accountability.

Risks related to poor accountability practices: Weak accountmg and internal control systemshave been retained by Boards and management of some State Corporations to perpetratefinancial indiscipline. As a result, funds have been misappropnated with impunity, resulting intocollapse or near-collapse of hitherto profitable enterprises, such as Kenya National Assurance,Nyayo Tea Zones, Nyayo Bus Service, National Bank of Kenya, to name but a few. Some of thecorporations have even been still-born, never to start operating due to tlh manner in which theywere created without adequate feasibility studies to ascertain their economic and financialviability, e.g. Nyayo Motor Corporation.


Enhancement of the legal framework: There is urgent need to harmonize the StateCorporations Act with the enabling Acts of Parliament to remove inconsistencies, reduce thenumber of government agencies to which State Corporations are accountable, and streamlineprocedures for granting exemptions from the State Corporations Act. Provisions should be madefor enforceable penalties for non-compliance with established rules and regulations. The StateCorporations Advisory Committee should be revived and strengthened and its mandate clarified.Also, harmonization of terms of service for staff in State Corporations should be achieved.

Strengthening offinancial accountability mechanisms: Strengthening of Government Financeand Accounting functions should be extended to State Corporations that have definite capacityshortcomings 37 . Capacity building in the Inspectorate of State Corporations to strengthen itsmonitoring role, is also required.

37 This can be achieved through inclusion of accounting personnel of State Corporations in the training programsunder the proposed Public Sector Management Technical Assistance Project of the World Bank

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PART Ba IPRIVATE SECTOR

LEGAL FRAMEWORK

In Kenya, the Government has created an enabling environment forfinancial accountabilitj in the private sector through a legalframework which is primarily supported by two statutes, viz. theCompanies Act, CAP 486 (1962) and the Business Names Act, CAP499 (199o). The former regulates the operation of private corporateenterprises, while the latter governs the registration of business namesfor other private sector business entities.

Financial accountability is further strengthened by relevant laws suchas the Accountants Act (CAP 531), Central Bank of Kenya Act(CAP 491), Banking Act (CAP 488), Insurance Act (CAP 487) and theCapital Markets Authority Act (CAP 485A).

Furthermore, corporate governance is increasingly taking centrestage in Kenya owing to the consistent promotion of the concept andits principles by the Private Sector Initiative for CorporateGovernance, with active support by the major regulatory bodies in theprivate sector.


SECTMON 10: THE ACCOUNTANCY PROFESSON AND STANDARD

SETTDWG



The Institute of Certified Public Accountants of Kenya (ICPAK) was incorporated under theAccountants Act, CAP 531 (1977), and inaugurated in November 1978 as the professionalaccountancy regulatory body in Kenya. It has self-regulating powers for governing theaccountancy profession in Kenya and to grant certificates of accreditation. ICPAK is governedby a Council comprising of 11 members of which 10 are elected by its members and 1 nominatedby Treasury. The Minister for Finance oversees the discharge of the Council's responsibilities interms of the Accountants Act.

ICPAK became a member of the International Federation of Accountants (IFAC) in the earlyeighties and also serves as a member of the regional Eastern, Central and Southern AfricanFederation of Accountants (ECSAFA)38 . There are reciprocal recognition agreements with otheraccountancy insttutes in Eastern Africa and the exchange of technical and other information,including resource persons, is part of the benefits flowing from these relationships.

Membership of the institute is open to everyone who passes the Certified Public Accountants(CPA) Examination, which is administered by the Kenya Accountants and Secretaries NationalExaminations Board (KASNEB). Persons who qualify as chartered accountants through theAssociation of Chartered Certified Accountants (ACCA) and from other foreign accountingbodies are required to pass an accreditation examination in Taxation and Companies Law beforethey are allowed to register as members of ICPAK. Practical experience is not a prerequisite forregistration with ICPAK. The institute does not control registration of those who passes the CPAexams and wish to become members. This is done by the Registration of Accountants Board(RAB) which is an autonomous department at the Treasury, but which is provided for under theAccountants Act.

There are currently about 2 500 professional members registered with ICPAK. The distributionof the membership in the economy is as follows:

SECTOR OF THE ECONOMY PERCENTAGE

Public practice-" 40Commerce & Industry 50Other, including Public Sector & Academics, 10TOTAL 100

38 ICPAK was instrumental in the establishment of ECSAFA and indeed provided its first chairperson in 1989.39 A minimum of two years relevant practical expenence under the supervision of a qualified CPA is requiredbefore a member is allowed to obtain a license as a public practitioner - who may then perform the attest function asan auditor. The issuing of these licenses is currently also done by the RAB. All of the "Big 5" intemationalauditing firms are currently represented through offices or branches in Kenya.

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There are about 20,000 qualified a6counting techmcian40 in the country, which includes thepredecessor category previously known as accountancy clerks. Although this designation isobtained through passing technician level examinations, these accountants are not allowed asmembers of ICPAK. They have recently set up a voluntary body, the Association of AccountingTechnicians. Proposals currently being worked on, may see a change in the Accountants Act toallow ICPAK to broaden its membership to include and regulate this cadre and other emerginggroups within a system based on tiers of membership.

10.1.2 Professional education and training

KASNEB is the national examination body that runs training programmes and examinationschemes for professional and technician tramee accountants as well as professional secretanes.The body was established in July 1969 and was recogmsed retroactively by the Accountants Actin 1977. By June 2000 there were almost 86,000 students registered for the KASNEBprofessional courses. About 130 educational institutions providing full and part time courses inthe accountancy disciplines include both public and private universities4 land colleges. Based onthe cumcula followed by certain accredited universities, their graduates may be exempted fromPart I of the CPA Examination. The averag pass rate for the last three sittings of Part III of theexamination is 20 %42

The examination syllabus has last been updated in 1999 and it includes an InformationTechnology module.

ICPAK has also established the Kenya College of Accoumtancy as an subsidiary institution in1989. It was found with financial support of the members as a contribution to enhance thequality in training of accountants in the country

The institute organises an ongoing program of post-qualification education and training for itsmembers. Continuing professional education (CPE) is mandatory to all members who arerequired to undertake a minimum of 20 hours per annum of such training through seminars andworkshops relevant to their work.

10.1.3 Established professional rules, regulations and standards

Until 1999 ICPAK has issued its own "country specific" accounting and auditing standards.These standards have primarily been based on international standards, but adopted for so-calledlocal requirements. However, as from 1 January 1999 a new approach, approved by the Councilof ICPAK, has been followed whereby henceforth all the International Accounting Standards(IAS's) issued by the International Accounting Standards Committee (IASC) as well as theInternational Standards of Auditing (ISA's) issued by IFAC are adopted. All entities are nowrequired to comply with the requirements of IAS's43 and public practitioners (auditors) have toconduct their work in accordance with the complete set of ISA's.

40 Students who do not achieve a C-Grade for "O" levels at school are not allowed to register for professionaltraining as an accountant They have to undergo training as accounting technicians and may then only pursue theprofessional route

1 Only about 5% of students who sit for the CPA examinations are university graduates42 The examination panel consists of both members from public practice as well as academics from the varioustraining institutions43 Entities issuing financial statements on or aftler 31 December 1999 had to comply with the requirements of IAS's

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ICPAK maintains a Code of Ethics which is fundamentally similar to the IFAC Code and it onlydiffers to the extent that local statutory requirements are different. All known violations of theCode are investigated through a disciplinary mechanism of the Council and when proven,sanctions provided under the Accountants Act are enforced.

There is no legal backing for neither the Accounting nor the Auditing Standards. ICPAK isresponsible for the enforcement of these standards and it basically relies on its Code of Ethicsand inquiries by its Disciplinary Committee to discharge this responsibility.

10.1.4 Technical capacity to implement and promote best practice

ICPAK does not receive any subsidies from government and is financially fully self-sufficient.Its annual income is primarily derived from subscriptions, seminar fees and interest revenue. Thesecretariat of the institute compnses of 12 staff members of which 4 are professionally qualified.

The institute organises much of its work around 12 committees that focus on particular areas ofinterest, e.g., public sector, taxation, education, ethics, etc. Members of the four internationalfirms are very active on these sub-committees in promoting international best practices withmthe profession as well as sharing technical expertise. However, members from smaller practicesare also very much involved in these committees. It also issues a handbook to members thatcontains (1) by-laws (the constitution) and (2) ethical guidelines of professional conduct.Technical standards are available for purchase at members' cost.


ICPAK has been one of the leading organisations responsible for an initiative that has lead to theformation of the Private Sector Initiative for Corporate Governance (PSICG) in Kenya during1999. It currently serves as one of the members of PSICG and is very active in promoting theapplication of the principles of corporate governance amongst its members and their clients.4 4

ICPAK has been empowered by its Council as early as 1998 to initiate a Peer Review Scheme.Although the mechanisms for implementation are currently under consideration, insufficientfunds hamper the process to set- up and maintain such a scheme on a sustainable bases.

Other significant initiatives include the following:

o The development of an Audit Practice Manual as a guide for small practitioners.o Making available a model set of financial statement to assist members and their clients to

comply with IAS's.o Enhancement of information dissemination through enrichment of the web-site.O Improvement in the technical support capacity at the Secretariat (one-stop shop).O Provision of a library data base on all aspects relevant to the profession.O The creation of a high- value Continuous Professional Education programme.o Ensuring the adoption of a CPA qualification framework that is relevant to modern day

demands.

44 For more details on these initiatives, refer to the separate section on Corporate Governance elsewhere in thisReport

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Although the accountancy profession is well established and has a solid resource base, thefollowing issues of concern need to be addressed to provide further impetus to its enhancement

* While the use of international Accounting and Auditing Standards provide an opportunity forpractice enhancement, the enforcement thereof is hampered by the fact that it is not legallybacked by any statute of the country.

* There is no differentiation in the financial reporting requirements for small and medium sizedbusinesses (SME's). All enterprises have to comply with the complete set of requirements ofthe Accounting Standards - this could lead to imbalances in the cost vs. benefit trade-off ofproviding useful financial information for decision-making purposes. At the same time it isrecognized that there are currently no generally accepted international benchmarks fordifferentiated financial reporting.

* The non-existence of a Quality/Peer Review Scheme and the lack of capacity within thesecretariat of ICPAK to create an effective compliance mechanism pose a potential danger tothe maintenance of high technical standards amongst the members of the profession.

* The fact that practical experience is not a prerequisite for registration with ICPAK, is amatter of serious concern. It impairs on ICPAK's ability to more effectively addressprofession-related issues.

The following issues relate to the education and training of students entering the profession

* ICPAK does not currently have a mechanism to monitor the quality of accountancy trainingat the various training mstitutions - a proposal to this effect has been under considerationfor some time. Registration modalities of training institutions in accountancy should also bereviewed and regulated in consultation with ICPAK.

* The low pass rate for the CPA Examination raises the question whether entry requirementsset by KASNEB are too low. While the growth rate of studentship is understood to bearound 60-70%, the exit rate of about 20% is alarmingly low. Students who qualify for entryshould have a fair expectation of obtaining the CPA qualification in a reasonable time frame.

* Although KASNEB is undertaking the setting up of a company to publish manuals andtextbooks for its exammations, this has been long overdue.

* Poor training facilities, both physical and technological, as well as an insufficient number ofqualified teachers are some of the major constraints for expanding the education and trainingcapacity in the profession.


The two major areas in need of improvement or development are as follows:

Technical capacity within ICPAK* The enforcement of Accounting and Auditing Standards by ICPAK through its Code of

Ethics and inquines by its Disciplinary Committee helps to a great extent. However, this onits own impairs on ICPAK's effectiveness to discharge its responsibility. A more rigorousprocess is iequired, perhaps through legal backing of these standards. Current proposed

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changes to the Accountants Act include an amendment to give ICPAK pronouncementsexplicit legal backing.

o ICPAK should have the statutory responsibility and sole mandate to registers members andissue practicing licenses. It is understood that steps have been taken m this regard and thatTreasury has already agreed to such a proposal and amendments to change the act arecurrently being drafted jointly by the Attorney General's department with the help of a taskforce45 constituted by the Treasury.

o There is a need to build an effective management structure that would be responsible for thedevelopment and maintenance of an effective compliance mechanism through a Quality/PeerReview Scheme. This would involve (1) recruiting a program coordinator and technical staffwho will man this component, (2) development of assessment and evaluation materials and(3) initial financial support of the scheme until it can be self-sufficient.

o ICPAK needs to strengthen its ability and build its capacity to provide technical support to itsmembers through investment in information management for more effective informationdissemination.

Education and trainingo There is a need to uplift the entry standards of students that want to register for professional

training as accountants. The current entry level is C-Grade at 'O' level education but ICPAKfinds this to be too low an entry standard. Their proposal is to make the CPA a graduateentry qualification with openings for non-graduates through an alternative route that wouldrequire completion of a prescribed programme equLivalent to a university level businessmanagement course.

o KASNEB should set up a mechamsm to monitor the quality of accountancy training at thevarious training institutions through a quality review scheme, sooner rather than later. Inaddition, ICPAK could also be involved in the review of registration applications submittedby training institutions in accountancy.

o Momentum should be given to an undertaking of KASNEB to set up a company that wouldpublish manuals and textbooks for its examinations. Mechanisms for ensuring proper qualityof these materials should be designed and implemented.

o Organize training programs to enable all the practicing auditors to gain exposures to thepractical aspects of implementing [ASs and ISAs - this recommendation is based on thefindings of a ROSC4 6 assessment conducted in early 2001.

O All the stakeholders in the profession should address the factors that are crippling progress ineducation and training (mentioned above) in an overarching manner.

45 The task force consisting of members form ICPAK, KASNEB, RAB and Treasury was mandated to propose thenecessary changes.46 An assessment of Kenya's observance of international accounting and auditing standards was undertaken underthe auspices of the Bank-Fund joint initiative on the Reports on the Observance of Standards and Codes (ROSC)

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SECTION 11: CORPORATE GOVERNANCE AND THE CORPORATEBUSINESS ENVIRONMENT

11.1 Corporate Governance


11.1.1.1 Regulatory environment

The notion of Corporate Governance4 7 is currently not embeded in any legislation of Kenya.However, during 1998 a private sector led initiative48 has given rise to the setting up of a PrivateSector Corporate Governance Trust which now operates as the Private Sector Initiative forCorporate Governance (PSICG). One of its major milestones was to produce a Code of BestPractice for Corporate Governance in Kenya (the Code). The Code is based on and it endorsesthe international benchmarks of good corporate governance. The purpose of the Code is toencourage every corporate entity in Kenya to examine its own corporate governance practiceswith the view of continuous improvement of these practices Unfortunately the PSICG does nothave the legal mandate to carry out enforcement of the Code.

Apart from the conventional Companies Act requirements to submit audited annual financialstatements, there are no other statutory requirements that compliment the financial accountabilitydimension of corporate governance Corporate entities, both public and private, are for instancenot required by statute to establish an internal audit function or audit corrunittees. However, therecently introduced Code encourages, inter alia:

* The establishment of a separate internal audit function.* The establishment of an audit committee of the board of directors. The membership of the

audit committee should include both executive and nor-executive 'independent' directors.The committee should review the half year and annual financial statements beforesubmission to the board, focusmg on changes m accounting policies, significant adjustmentsarising from the audit, major judgmental areas, compliance with International AccountingStandards, disclosure and legal requirements as well as reviewing major findings on internalaudit and investigations.

The Capital Markets Authonty (CMA) in Kenya now also enforces the principles of corporategovernance on public listed companies. It requires extensive disclosures by these companies,which includes disclosure in the directors' report about (1) the extent of compliance withInternational Accounting Standards as well as (2) the extent to which a company observes togood corporate governance practices.

47 It refers to the manner in which power of a corporation is exercised in the stewardship of the corporation's totalportfolio of assets and resources with the objectivc of maintaining and increasing shareholder value with thesatisfaction of other stakeholders in the context of its corporate mission48 Leading organisations who participated in this initiative included the Nairobi Stock Exchange, Capital MarketsAuthority, the Institute of Certified Public Accountants of Kenya and the Kcnya Chapter of the Association ofChartered Certified Accountants Refer to the text box on the next page for further details about this initiative.

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Country FinancialAccountability Assessment Republic of Kenya

OVERVIEW OF DEVELOPMENTS IN CORPORATE GOVERNANCE IN AFRICA

The Continent

o The King's Committee Report and Code of Practice for Corporate Govemance in South Africa published in-1994 continues to stimulate corporate governance in Africa.

o Zimbabwe, Ghana, Uganda and South Africa have put in place national institutional mechanisms topromote good corporate governance.

o Training, technical and awareness raising support has been extended by the World Bank and theCommonwealth Secretariat to various Afncan countries such as Botswana, Senegal, Tunisia, Mali,Mauritania, Cameroon, Gambia, Mozambique, Mauritius, Sierra Leone and Zambia to help them put inplace appropriate mechanisms to promote good corporate govemance.

o The Africa Capital Markets Forum is undertaking a study on the state of Corporate Govemance in Africa

East Africa

o Regional conferences were held in Kampala, Uganda, in June 1998 and September 1999 to createawareness and promote regional co-operation in matters of corporate govemance.

At the June 1998 conference, it was resolved that each member state be encouraged to develop both aframework and a code of best practice to promote national corporate governance, and that efforts be madeto harmonize corporate govemance in the East African Region under the auspices of the East African Co-operation, and through the establishment of a regional apex body to promote corporate govemance.

At the September 1999 Conference, the earlier resolutions were re-affirmed and recommendations made,encouraging the member states to collaborate with other African initiatives in promoting good corporategovernance.

o Uganda has established the Institute of Corporate Govemance of Uganda, and is formulating a nationalcode of best practice for corporate governance.

o Tanzania organized an East African Regional Workshop on corporate governance early in the year 2000.o In Kenya, the Private Sector Initiative for Corporate Governance continues to liaise with Uganda and

Tanzania towards the establishment of a Regional Centre of Excellence in Corporate Governance.

Kenya

o Consultative Corporate Sector seminars held in November 1998 and March 1999 resolved that the PSICGbe established to:- Formulate and develop a code of best practice for corporate govemance in Kenya4;- Explore ways and means of facilitating the establishment of a national apex body [the National

Corporate Sector Foundation] to promote corporate governance in Kenya;- Co-ordinate developments in corporate governance in Kenya with other initiatives in East Africa, Africa,

the Commonwealth and globally.o On October 8,1999 the Corporate Sector at a seminar organized by the PSICG formally adopted a

national code of best practice for Corporate Govemance to guide corporate govemance in Kenya, andmandated the PSICG to establish the Corporate Sector Foundation, and collaborate with the GlobalCorporate Govemance Forum, the Commonwealth Association for Corporate Governance, the AfricanCapital Markets Forum, Uganda and Tanzania in promoting good corporate govemance.

49 The principles of good corporate governance are neither prescriphve nor mandatory They are designed as a basisto assist individual companies to formulate their own specific and detailed codes of best practice

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11.1.1.2 Willingness to implement and promote best practice and Ongoing reforms

The formulation of a Corporate Governance Code for Kenya which comply with internationallyrecognized best practices is evidence of the private sector's willingness to address governanceissues. The PSICG is now initiating efforts to convince the Parliament to enact laws that would

50promote good corporate governance . Other significant initiatives, in addition to thosementioned in the above table, include the following:

* The PSICG is currently working on capacity building programs on corporate governance forcompanies within the country.

. It is also advocating that companies establish monitoring and evaluation mechanisms toreward, recognize and certify performance. It envisages to reward comparnes that endorseand implement good corporate governance practices.

* Programs have been developed that will appeal to the public that they advocate and demandgood corporate governance and financial accountability not only from corporate bodies butalso from government.

. In addition, it is encouragmg the GOK to establish performance contracts betweenParliament and ministries for outputs expected from them as a measure of accountability toParliament.

. It has already affiliated or is in communication with all major corporate governanceorganisations across the globe and is building a library of knowledge and ideas that should beamply sufficient for the needs of the country's corporate entities.

* Together with other stakeholders in the private sector, it is currently being instrumental in theformation of the Institute of Directors and the Shareholders Association to promote goodcorporate governance.

The CMA's new extensive listing disclosure requirements also provides an impetus to reformswhich aims to bring about greater financial accountability and good corporate governancepractices.


The major role players in the above-mentioned n'itiatives agree that as yet, it is too early tomeasure significant progress in tie implementation of good corporate governance practicesamongst corporate entities in the country. Further, the PSICG does not have adequate capacityor the legal status to enforce compliance with the Code. Also, the linkages established with theCMA to ensure that public listed companies comply with good governance practices, takes careof a small group of corporate entities in the pnvate sector only. Presently, there is no system inplace to generate information on companies which endorse and enhance good corporategovernance practices. The following are the risks associated with the current reality:

* There is no mechanism that ensures reporting of insider dealing and take overs on the capitalmarket m absence of extensive reporting.

50 In its Principles of Good Governance, par 2 1, the PSICG states that "Go od Corporate Governance requires thatthe State puts in place an enabling environment in which efficient and well-managed companies can thrive"

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o Enforcement to comply with good corporate governance is not possible in the absence of alegal framework and therefore the extent of accountability to shareholders and otherstakeholders is not optimized.

O The absence of good corporate governance practices in most companies does not provideadequate protection to shareholders and other stakeholders.


It is too soon to make a reliable assessment of the level of compliance to corporate governance inthe country. However, the establishment of the PSICG and the drive by the CMA to demandextensive disclosures will help establish a legacy of good corporate governance and financialaccountability if such practice can be legalized and enforced by all stakeholders.

The following steps may strengthen the observance of good corporate governance in Kenya:

o Initiatives taken by the PSICG, should be supported by involving key businesses andexecutives of leading public companies. Appropriate twinning arrangements with the CMA,CBK, Nairobi Stock Exchange (NSE), ICPAK, Kenya Revenue Authority and otherinterested stakeholders should ensure that the principles of good corporate governance areenforced.

o There is need to support this initiative by creating a legal framework within which corporategovernance will be enforceable. Explicit legal backing of these principles by the CompaniesAct, Banking Act, Insurance Act and other related legislation is required to ensurecompliance by all corporate entities in the business environment.

o There is need to raise the awareness of the public and other stakeholders in the corporateenvironment about their basic nght and responsibility to advocate and demand goodcorporate governance and financial accountability from corporate bodies.

11.2 Registrar of Companies



In Kenya, the statutes governing the incorporation of entities other than state enterprises andsocieties are contained in the Companies Act, CAP 486 (1962) and the Business Names Act,CAP 499 (1990). The function of incorporating companies and other businesses is vested in theRegistrar of Companies (ROC) in the office of the Attorney-General. The ROC is also mandatedto have an oversight role on matters of registered companies especially with regard to fulfillmentof certain statutory obligations in accordance with their Articles and Memorandum ofAssociation. From a financial accountability perspective, companies have varied statutoryrequirements depending on the type of incorporation applicable to them. Entities incorporatedunder the Business Names Act for example, are not required to file elaborate annual statutoryreturns with the ROC nor are they required to hold meetings of the investing parties.Corporations governed by the Companies Act on the other hand, have to observe a set of rules

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with regard to filing their annual returns. The depth and scope of these returns vary, and isdetermined by the type of incorporation applicable to the company.

COMPANIES ACT, CAP 486 OF 1962

Governs the legislation and regulatory framework for the following type of incorporated entities in Kenya.

* Public Companies Limited by shares* Private Companies Limited by shares* Companies Limited by guarantee with no share capital* Companies Limited by guarantee with share capital* Unlimited Companies with share capital* Foreign Incorporated Companies

Other legal entities are governed by separate legislation for example, the Cooperative SocietiesAct, CAP 490 (1997), while Govemment Business Entities are governed by the StateCorporations Act, CAP 446 (1986) as the primary legislation and the mdlvidual Acts ofParliament as its enablmg legislation. Apparently, there a small number of compames with duallegislation, which creates some ambiguity as to which law govern their operations. For example,the utility company5 ' for distributing and retailing electricity in Kenya is both a company as perCompanies Act and a State Corporation where the Government has partial ownership. Similarly,

52-a coffee milling company is registered both as a company under the Companies Act as well asa Cooperative Society under the Cooperative Societies Act.

11.2.1.2 Transparency and integrity

The Companies Act governs the manner in which different types of companies, as categorized mthe act, should prepare and submit their audited annual financial statements5 3 to the shareholdersat the annual general meeting in the case of public listed companies. The obligation to deliver onthis mandate is squarely placed m the Board, which usually is assisted by the management.

The Act lays emphasis on the obligation of the companies to be accountable to the investors, by settingout a time by when copies of audited financial statements should also be forwarded to the Registrar ofCompanies for review and scrutiny in public's interest Ideally, this provision gives the Registrar anopportunity raise any issues of misstatement of fact or error in the audited financial reports that in hisview may be misleading to the publice. This outside spotlight is meant to enhance the company'saccountability not only to its shareholders but also to the public at large who in one way or the other maybe consumers of it's products and services

5 Kenya Power and Lighting Company Limited, is listed on the Nairobi Stock Exchange and operates as a publiccompany and yet still as a Government Business Enterprise52 Kenya Planters Cooperative Union, is both a company and a cooperative society in the coffee industry53 Audited annual financial statements of some companies are presented to the shareholders in the form of publishedAnnual Reports at the annual general meeting - it is mandatory for those listed on the Nairobi Stock Exchange.54 The statutory requirement is that companies shall lay a balance sheet before the shareholders. However, in mostcases the balance sheet does not reflect the actual financial status of the organizations, as the directors sometimesconnive with the chief executives/chairmen of the organizations to conceal crucial information that would enableshareholders and prospective buyers to make informed decisions regarding their investment

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The level to which the ROC comply with the provisions of the law in exercising the duties of hisoffice is of a fair standard. A major issue of concern is the pace of service delivery, whichrelates to capacity constraints. In addition the department has not consistently performed itsoversight role. Statistics obtained from the department show that between 1997 and 1999 acumulative number of 1,699 companies were de-registered under section 339(5) of theCompanies Act. However, not a single company was de-registered during the period for beinginsolvent, yet many companies are on record having either gone under or being voluntarilyliquidated5 which is very unlikely that none was ever permitted to do so by the High Court.This shows that rules have not been consistently applied, thereby raising the question ofreliability.

There was no indication that the department ever tried to maintain either its own performancestandard or any other such standard that may be practiced elsewhere. This clearly explains whyperformance of the department is mixed and erratic, which can only be attributed to lack ofprofessionalism and aspirations.

Like most other ministries and departments of government, the ROC is faced with constraintssuch as lack of sufficient number of qualified staff which is linked to unattractive remuneration,lack of adequate resources to meet the demands of the work program, and inadequate trainingopportunities to enhance staff development. All these shortcomings incapacitate thedepartment's ability to fulfill its mandate. Although there is genuine willingness to implementand promote best practice in the department, the capacity to oversee such a move is indeed weak.


There is an indication that the department is in the process of considering some reform agendawhich has not been confirmed as yet in terms of scope. However, there are advance plans tocomputerize record management operations to safe guard the safety of the registration record andinformation of thousands of companies556 registered to date.


The following are the major issues and weaknesses that undermine the department's ability toprovide professional service that is important to ensure a low risk and a high level ofaccountability:

o The efficiency level with regard to registration of companies is very low, which discouragesgrowth of business enterprises and keeps potential domestic and foreign investors out of themarket place. This could negatively impact on the country's economic growth.

o The filing system is manual, and in poor physical condition, especially in case of compamesregistered more than 20 years ago. Use of computers is almost completely foreign to thedepartment with only few staff members who are skilled to work with computers.

55 Notices in the local press of companies seeking High Court approval to execute voluntary liquidation as perprovisions of the Companies Act.6 Statistics obtained from the Registrar of Companies showed the following registrations by end of year 2000

4000-5000 Public Companies; 92,007 Private Companies and 327,600 Entities registered as Business Names.

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* Linked to the above, is the fact of poor records management, i.e. basic company files are inextremely poor condition. This poses the potential nsk that information about companies andtheir directors can not be retrieved at any given time.

* The department lacks capacity and facilities for managing their records and although it willbe computerized soon, the issue of the last three years' backlog5 7 is a serious matter mdeed,with the possibility that information may even have been lost.

* Security for the files is cntical, and apart from its creation, since it does not exist as of now,the staff working in the entire department are not subjected to any sort of security vetting forintegrity assurance.

* Professionalism and expediency is of the essence in the department. This is conspicuouslylacking at the present time.

The Companies Act was first published in 1962 (ust before independence) and was based on theBritish Companies Act of 1948. It was later revised in 1978 but it has not been updated sincethen. Under the Kenya Law Reform Commission a task force was formed m 1995/6 to reviewthe corporate legislation. The task force has published a report expected to be discussed at astakeholders' workshop in March or April 2001 with a view to making recommnendations to theAttorney General for necessary changes to the legislation.


There is every reason to believe that the department's architecture, functions and methodologiesof work would benefit enormously if the departments was to undergo some reform. Thefollowing actions are recommended for consideration and implementation in the short to mediumterm to help the department develop acceptable capacity levels:

* Urgent need for reformn and assistance from experts in the tasks of the department to help itredefine itself to be in a position to deliver on its mandate in an effective and efficientmanner for it to be credible and reliable.

* Extremely urgent action is needed to expedite the computerization process of the records andfiles of registered companies. Even then, reliable backup arrangement for the informationmust as a matter of necessity be put in place.

* Professional staff with relevant skills should be deployed and subjected through a thoroughsecurity vettmg process for their integrity. Pay structure for the staff should also be reviewedupward to relatively match the market.

* Training and career development of the staff should be a priority of the department as a non-monetary incentive to staff.

11.3 The Banking Sector

11.3.1 Review of the current system


57 Number of companies registered between 1997 and 1999: 56 Public Companies, 8,969 Private Companies and170 Foreign Companies

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Apart from a few multinational banks that have been operating in the country for a number ofyears, a large number of small indigenous banks started to do business in the country betweenthe 1970's and 1990's. The economy has been going through a banking crisis since 1989 - fivebanks and one non-bank financial institution failed since 1998. Out of these, three banks havebeen restructured and re-opened. A lack of proper reporting requirements, mismanagement andweak lending practices lead to this crisis. Fortunately in the recent years the regulatory and legalframework have been strengthened. Banking institutions are regulated by the following statutes:

O Central Bank of Kenya Act, CAP 491;o Banking Act, CAP 488;o Building Societies Act, CAP 489;o Prudential Regulations for Banking Institutions; ando Circulars issued by the Supervision Department under the above Statutes.

The Bankers Association serves a secretariat for commercial banks. It owns the clearing houseand oversees the daily operational running of these banks. The following number of bankinginstitutions, i.e. banks, financial institutions and mortgage finance compames, are regulated bythe CBK5 8:

TYPE OF FINANCIAL INSTITUTION NUMBERCommercial banks 50Non-Banking Financial Institutions 7Mortgage Finance Companies 2Building Societies 4Forex Bureaus 48TOTAL 111

11.3.1.2 Transparency and integrity

At height of the crisis the banking sector's non-performing loans was estimated to be equivalentto approximately 36% of gross loans as a result of poor lending practices and weaknesses in thejudiciary. This has partly contributed to high operating costs leading to high interest rates thatbanks charge on their loans and services. In an effort to solve the crisis the following measureshave been taken in the past two years:

o The Banking Act has recently been revised to strengthen CBK's ability to issue bankinglicenses and to ensure compliance with the regulatory framework.

o CBK may veto the appointment of executive and non-executive directors of bankinginstitutions.

o CBK is now empowered to levy monetary penalties to banks that do not comply with the laiddown regulations.

o Banks have been required to make proper provisioning for bad and doubtful debts in terms ofgenerally accepted accounting practice for non-performing loans.

o With respect to on-site inspection and off-site surveillance, it is important to note that overthe last two years, the Banking Act has been extensively revised with a view to enhancing thepowers of CBK to supervise banks and also ensure compliance with Prudential Regulations.

58 Information as at 30 September 2000 provided by the Supervision Department of the Central Bank.

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* The principles of Corporate Governance have been introduced in the relevant statutes.

The following issues needs to be addressed in order to improve the effectiveness of this sector:

* Building societies are regulated in tenns of its own act and are currently not subject to the strictrequirements laid down by the Banking Act and the Prudential Regulations. The SupervisionDepartment of CBK plans to harmonize the requirements of building societies with otherbanking institutions in order to achieve standardized compliance for the whole sector.

* A large number of Kenyans dernve their livelihood from micro and informal businessenterpnses. In the last two decades or so, co-operative banking sections, and other micro-finance institutions set up within the NGOs framework, have been important sources of creditfor a large number of small-scale producers and business operators in the rural and urbanareas. These micro-finance institutions have however operated without an appropriatepolicy and legal framework. There is therefore need to reinforce focus on these institutionsto enhance their effectiveness as catalysts, and conduits in the provision of credit to the poor.

* There is a need for a Code of Conduct that regulates the operational behaviors of commercialbanks. The Bankers Association is currently developing such a Code which will be self-regulatory. The Code will be based on best international practices.

11.3.1.3 Extent and quality of compliance with established statutory requirements

The major statutory financial accountability requirements for banking institutions are as follows:

* Audited financial statements shall be submitted to CBK not later than three months after theend of the financial year.

* Financial statements are required to comply with generally accepted accounting practice, i.e.IAS's as from January 1, 1999.

* The Chief Executive Officer is responsible to establish and maintain efficient and adequateinternal control systems.

* While the Banking Act stipulates the form in which accounting records should be kept, CBKis empowered to issue directives to banking institutions to maintain such books, records orinformation in addition to that already maintained.

* Bankmg institutions are required to formulate policies coverng internal audit and operations.The internal auditor should report directly to the board of directors (or to its appointee at thelocal head office in cases where the institutions has no local board).

* Both the Banking Act and the Prudential Regulations contain minimum requirements thatdeals with a number of external auditing issues.

* Banking institutions should set up an audit committee and prepare a charter mdicatmg thecommittee's composition, authority, duties and mode of reportmg to the board of directors.

11.3.2 Assessment of the current system

The Supervision Department of CBK has been strengthened over the past few years which isevidenced by the following measures that have been introduced:

* On-site inspections have been intensified to at least one visit to each commercial bank perannum. The team from the CBK work closely together with the external auditors.

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o While the reports of these inspections have not been acted on properly in the past, theposition has now been rewrsed. The reports are being presented to the boards of directors byCBK officials themselves. This visibility has contributed to a significant follow-up of issues.

o Off-site surveillance, which is now able to provide reliable early warmng signals on thestatus of institutions, has also been intensified.

O A small unit has been set-up within the department to develop an appropriate policy and legalframework for the regulation of micro- finance institutions and to harmonize its activities.

O The department arranges trilateral meetings with the management and external auditors todiscuss and review the draft financial statements before they are being published.

The adoption of IAS's by ICPAK for financial reporting, backed by CBK's endorsement of thesestandards and the effective implementation through the process of trilateral meetings on draftfinancial statements is a significant step ahead.

The high standards applicable to auditors also adds too the reliability of information furnished inthe annual financial statements. Furthermore, the Supervision Department is focussing itsattention in increased disclosures on banking rnsks to boost financial accountability, competitionand good governance.


o Building societies should be brought within the ambit of the Central Bank's supervisionframework.

o Reconsider the right of a banking institution's auditors to also provide consultancy servicesin order to ensure their complete independence when performing the attest function.

O The Code of Conduct for banking institutions should be developed and implemented.O The following capacity building needs have been identified:

o Training for members of Audit Committees in their authority, duties and responsibilities;o Technical assistance withthe development of an ultra modern BSD Data Base;o Training in forex busmess;o Training in derivatives;o Training in internet/excel banking and supervision;o Multilateral netting (some banks have requested this and there is a need for CBK to

understand the concepts and its mechanisms before granting approval); ando Supervision of banks which form part of a consolidated group of entities.

11.4 The Insurance Sector


The Insurance Act, CAP 487 (1984), governs the registration of insurance operations and itsrelated activities. It establishes the Insurance Commission to administer, supervise, regulate andcontrol the business of insurance in Kenya59 . The act requires each operator to keep separate

59 Currently, the act governs 39 registered companies, 165 insurance brokers, 177 loss assessors, 5 risk managers,17 loss adjusters and 28 claim settling agents.

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accounts of receipts and payments in respect of each prescribed class of insurance, keepaccounting records and to ensure that such accounts are audited by an approved auditor. The actgives the Commissioner of Insurance powers to disqualify an auditor from office and ask thecompany affected to appoint another auditing firm agreeable to him.

An misurance operator is required to submit to the Commissioner's office an annual financial returnwhich includes the audited financial statements. These are used to determine each operator'sfinancial soumdness and it serves as a basis for renewal of the operator's license for the ensuingyear. Only four companies have been penalized since 1998 for late submission of returns.


While there is adequate financial management capacity in the insurance mdustry, compliance toregulations and norms has been weak mainly because of capacity constraints in theCommissioner's office to properly analyse the annual financial returns and carry out its statutorymandate. It is therefore difficult to impose fines and penalties on those defaulting by way offalse statements made in financial statements, late submission thereof and maintenance ofimproper accounting and financial records. Sufficient guidelines for assessing the solvency ofoperators does not exist which in itself is a high fiduciary risk that the regulatory body couldissue renewed licenses to insolvent operators

Currently, the sector is closely working with ICPAK to improve the sector's inadequate financialreporting compliance as a result of the adoption of IAS's as late as 1999.


* The capacity of the regulating authority to enforce compliance with rules and regulations ofthe insurance industry should be strengthened through capacity building programs.

* The Cormnission should work with financial managers of insurance companies, most ofwhom are members of ICPAK, to improve the quality of disclosure of financial informationin accordance with IAS's. Particular attention is required for the reporting of investmentswhich constitute the major business assets on the balance sheets of long term insurers.

* A proper guideline needs to be issued for assessing the solvency of insurance companies.This will control the potential of issumg renewed licenses to insolvent companies.

11.5 Capital Markets

11.5.1 Review of the current situation and system


The Capital Markets Authority Act, CAP 485A (1989), is the statute governing the capitalmarkets in Kenya. The act establishes the CMA as a regulatory body whose mandate is to ensurethat there is a strong system of market oversight to safeguard the integrity of the market TheCMA is a member of the International Organization of Secunties Commissions (IOSCO). The

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NSE is the main investment market that deals in the exchange of securities issued by publiclyquoted companies and the Government. Fifty four companies have been listed on the NSE as ofDecember 8, 2000.

The mission of the CMA is to promote the development of orderly, fair, efficient, secure, transparent anddynamic capital markets in Kenya within a framework which facilitates innovation through an effective butflexible system of regulation for the maintenance of investor confidence and safeguards the interest of all

market participants.

11.5.1.2 Extent and quality of compliance with established rules or regulations

All listed companies are required to prepare and present its annual financial statements incompliance with the requirements of IAS's. The CMA enforces compliance with the support ofICPAK although it does not impose sanctions on companies for non-compliance. However, itcan deny licensing or renewal of a license for a company. In addition, a statutory audit at theexpense of the defaulter may be conducted at the expense of the defaulter. So far there havebeen four companies de-registered by the NSE for not complying with established rules andregulations which include not preparing their annual financial statements in accordance withaccounting standards issued by ICPAK.

In addition, the CMA requires compliance with its Guidelines on Corporate Governance whichforms part of the listing requirements. One of the major outputs of this initiative has beenGuidelines on Audit Committees which became effective m January 1999.


The following ongoing reforms could to some extent improve financial accountability:

o An electronic trading system by the NSE is bemg developed to be in place by February 2001.o The implementation of fundamental changes in the market infrastructure through adoption of

a central depository trading and clearing system aimed at facilitating easy access by investorsto the market through a modern electronic order routing system that uses the power of theinternet. This system enables the holding and transfer of securities without the need forphysical movement. This will reduce the probability for incidences of fraud.

o Active participation as a member of the Eastern African Securities Regulatory Authorities.CMA takes seriously the challenge to harmonize capital market policies within the EastAfrica region on cross border listings, foreign portfolio investors, taxation of capital markettransactions, accounting, auditing and financial reporting standards and the regulatory andlegislative structures.

o The CMA has supported the establishment of the PSICG which has now developed a Code ofBest Practice for Corporate Governance.

o The Capital Markets Authority (Amendment) Act, 2000 has widened the regulatory andoversight powers of the Authority.

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11.5.2 Assessment of the current situation and system

The following has been noted as some of the major weaknesses affecting financial accountabilityin the capital market environment:

* The absence of credit rating agencies and credit reference bureaus.* Lack of practical and effective strategies on the part of companies m the financial markets.* Lack of effective capital budgeting policies, and poor working capital systems on the part of

companies wanting to be listed on the NSE.

Despite these weaknesses, there are a number of strengths worth mentioning, namely:

* The greater awareness of good corporate governance pnnciples as propagated by the CMAamongst market operators, listed companies, financial institutions and investors.

* CMA has recently issued its rules on Public Offer of Securities, which prescribes thedisclosure requirements for prospectuses and continuous obligations on the part of the listedcompany, which to some extent go beyond the requirements of IAS's.


The current financial accountability arrangements are deemed to be sufficient and may bestrengthened by the following actions:

* The actual broad implementation of the Corporate Governance Guidelines by all listedcompanies. Apart from using the CMA's own staff to enforce compliance with financialaccountability measures, there is need to use auditors who should report on extent ofcompliance.

* There should be a requirement for all advisers and professionals appointed by listedcompanies to report matters of non-compliance to the CMA.

* Since the CMA is already a catalyst for the formation of an Institute of Directors, it shouldmake a similar effort to initiate formation of an association for institutional investors. Thisgroup is currently significant on the securities exchange but very indifferent as far asfinancial accountability matters are concerned.

* The CMA and NSE should make a deliberate attempt to mtroduce programs that promote keyunderstanding on the structure of the financial markets and the roles of the key institutionaloperators including their roles to promote the principles of financial accountability.

- ? ---

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PART C APPENME(S


APPENDIX 1: BIBLIOGRAPHY

A. Books, Reports, Statutes and Articles

I Afncan Development Bank/Afncan Development Fund Kenya 1999 - 2001 CountrY Strategy Paper (CSP). July 2000Country Dcp artment - East

2 Altinger, L P Expenditu(re on Education - A Case Studly of Kenya June 1997 Study prepared for the Kenya PublicExpenditure Review 1997

3 Barkan, J D Strelgthenuig the Kenya Assembly7 April 29, 1999 University of Iowa4 Borge, M The Role of Supremie Audit Institutions (SAls) in Conibating Corruption October 1999 Paper prepared for a

Workshop on "Public Sector Financial Transparency and Accountability The Emerging Global Architecture and CaseStudies" glh International Anti-Corruption Conference, Durban, 10 - 15 October 1999

5 Cadbury, A Report of tie Cominmttee on Financial Aspects of Corporate Govenzance (Cadbury Report). December 1992London The Committee on Financial Aspects of Corporate Governance and Gee & Co Ltd

6 Capital Markets Authority (Kenya) Anmical Report - 1999

7 Central Bank of Kenya Prudential Regulationsfor Banking Imistitutions. September 2000

8 Daily Nation Finance officers picked to meet donor clemands Nairobi Tuesday, October 24, 2000

9 Daily Nation Tax chief Msafari goes in shiffle Nairobi Saturday, November 11,2000

10 Daily Nation NowvMPsthrowbackBillonEthics Nairobi Friday,Decemberl,2000

11 Daily Nation IMF Team expected this weekend Nairobi Tuesday, January 9, 2001

12 Daily Nation Re-draft Bills, AG told Nairobi Tuesday, January 23, 2001

13 Daily Nation Donors demand action on Kaca Nairobi Tuesday, January 23, 2001

14 Daily Nation Wako blames IMF over Kaca Nairobi Wednesday, January 24, 2001

15 Daily Nation NGOs should be held to accoiit Nairobi Monday, January 29, 2001

16 Daily Nation How the Govt lost Shi470b Nairobi Tuesday, Apnl 10, 2001

17 Daily Nation Tough regulationsfor NSE listed com?panies Nairobi Tuesday, April 10, 2001

18 Diamond, J, Prakash, T, Jung, H -S, Flanagan, M & Hansen, G Kenya An Agenda for Reforming Public ExpenditureManagement July 2000 Ilnternational Monetary Fund, Fiscal Affairs Department, Washingtoni, D C

19 Dye, K M & Stapenhurst, R Pillars of Integrity The Importance of Supreme Audit Institutions in Curbing Corruption1998 The World Bank Institute WBI Working Papers, Report No 19684.

20 EA Standard IMF turns spotihght on Kenya Nairobi Tuesday, January, 16, 2001

21 EA Standard IMF, WBfirm omi aid comiditiotis Nairobi Thursday, January, 18, 2001

22 EA Standard Thlreat IMF and WB must thitik again Nairobi Monday, January, 22, 2001

23 Government of Kenya. Thie Exchequer a,id Audit Ac, 1955 (CAP 412) Revised edition 1987 Government Pnnter,Nairobi

24 Government of Kenya The Non-Goverminiental Organizations Co-ordinatio,i Act, No 19 of 1990 Government Pnnter,Nairobi

25 Government of Kenya The Constitution of Kenya. Revised edition, 1992 Government Printer, Nairobi

26 Govemment of Kenya (Kenya Local Govemment Reform Program) Inception amid Fmiual Reports Simplified AccountingSystems 1996 Prepared by Wachira Irungu & Associates.

27 Government of Kenya Report on Strengthening Government Finance and Accounting Functions (Volume 3 - Appemidices)June 1997 Accountant General's Department assisted by KPMG.

28 Govemnment of Kenya 1997 Public Expenditure Review Report of the Public Expenditure Revieiv Secretariat October1997

29. Government of Kenya (Kenya Local Government Reform Program). IFMS Discussion Document 1998. Prepared byHIID

30 Government of Kenya (Ministry of Finance) Strengthening of Govenutneimt Finance atid Accoumiting Functionis Report onFinancial Managemnent Information anid Iifortnation Systems March 1998

31 Government of Kenya (Ministiy of Finance) Strengthiemiiig of Government Finance and Accountitig Functions Report onStrengthening Governtment Finance, Accoumititng and Auidit Functions Apnl 1998

32. Government of Kenya (Ministry of Finance) Strengthenimng of Government Finance and Accounting Functions Report ofthe Task Force on People Management atid Organizatioti June 1998

33 Government of Kenya and The Department for Intemational Development Financial Managenient Information SystemsStrategy February 1999 Prepared by International Management Consultants Limited, Colchester, UK

34. Government of Kenya (Kenya Local Government Reform Program) Improving Internal & External Auidit in LocalAuthorities. May 1999 Prepared by Wachira Irungu & Associates

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35. Govemment of Kenya The Banking Act of 1991 as amended (CAP 488) December 31, 1999 Government Pnnter,Nairobi

36 Government of Kenya The Antn-Comiption and Economic Crimes Bill, 200037 Government of Kenya The Kenya NationalAudit Office Bill, 2000

38 Government of Kenya and Funding Partners The Department for International Development, The Swedish InternationalDevelopment Co-operation Agency and The World Bank ) Strengthening Government Finance and Accounting Functions- Phase 3 - Stage 1 (Comprehensive Project Memorandum). March 2000.

39 Government of Kenya (Ministry of Finance and Planning). Interim Poverty Reduction Strategy Paper for the Period 2000 -2003 June 2000

40 Government of Kenya (Accountant General's Department, Ministry of Finance and Planning). Strengthening GovernmentFinance and Accounting Functions - Inception Report June 30, 2000. Prepared by Paul Seeds, FMIS Consultant underassignment from DFID

41 Government of Kenya (Accountant General's Department, Ministry of Finance and Planning) Strengthening GovernmentFinance and Accounting Functions - Quarterly Progress Report September 30, 2000. Prepared by Paul Seeds, FMISConsultant under assignment from DFID

42 Institute of Policy Analysis & Research. Policy Quarterly Budgeting for Poverty Reduction in Kenya: IPAR'sContribution on Kenya's Poverty Reduction Strategy Paper Issue No 4, May 2000

43 International Commission of Junsts - Kenya Section (ICJ-K) The State of Freedom of Information in Kenya 1999 Aresearch report compiled by C. Ngondi-Houghton, G Ndirangu & W Muigai and sponsored by the Canadian InternationalDevelopment Agency (CIDA) and the Royal Netherlands Embassy - Kenya.

44 Karanja, L Re-inventing Local Government in Kenya February 2000

45 Kelly, R & Devas, N Revenue Collection Theory and Application to Kenya November 14, 1996 Paper prepared as partof the Intergovemmental Fiscal Relations Project by the Harvard Institute for International Development and the KenyaLocal Government Reform Program by the World Bank

46 Kenya Commercial Bank Annual Report & Accounts - 31 Deceniber 1999

47 KIM (The Kenya Institute of Management) Annual Report and Accounts for the year ended 315 December 1999

48 KIM (The Kenya Institute of Management) Management 2000 The Yearbook of the Kenya Institute of Managenient

49 KIM (The Kenya Institute of Management) The Company of the Year Aivards (COYA) 2001 - Rules and Guidelines forParticipation

50 King, M Tle Kiiig Report oi Corporate Governance November 1994 Institute of Directors (South Afnca)51 Kobb, D Corruptlon i Keniya How is it addressed by the Vorld Bank? (Version One - Draft) December 2000

Prepared for the World Bank, Washington, D.C

52 Loots, J A.J Die Onaflianklikheid van die Ouditeur-Generaal en sy Kantoor in die Republiek van Suid-Afrika Suld-Afnkaanse Tydsknf vir Ekonomiese en Bestuurswetenskappe, Vol 1, November 1988 pp.7 0 -8 3

53 Nairobi Stock Exchange Limited Market Factfile 2000

54 Nairobi Stock Exchange Limited Management and Membership (Draft I) June 5, 2000

55. NORAD Publc Financial Managenient in SPA Countries -Issues Paper on Key Challenges, Assessment Mechanismsand Role of SPA (Draft) January 2001. Commissioned by NORAD, Oslo.

56. Odera, A.O Local Authorities Struggle with Poverty. June 2000

57 Potter, B H & Diamond, J. Guidelnes for Public Expenditure Management. 1999 Intenational Monetary Fund,Washington, D C

58. Pnvate Sector Initiative for Corporate Governance (PSICG). Principles for Corporate Governance and A Sample Code ofBest Practice for Corporate Governance. November 1999 Nairobi. Private Sector Corporate Govemance Trust

59. Republic of Kenya (Working Party on Government Expenditures). Report and Recommendations of the Working PartyAppointed by His Excellency the President. June 1982. Govemment Pnnter, Nairobi

60. Republic of Kenya Government Financial Regulations and Procedures September 1989 (as amended). GovernmentPnnter, Nairobi.

61. Republic of Kenya (Ministry of Local Government). Local Government Budget Guidelnes Prepared by GTZ. 1995

62. Republic of Kenya (Ministry of Finance - The Treasury) Treasury Circular No. 18/98 - Processing of Payments andReimbursement Claims in respect of Pre-financed Donor Funded Projects. February 22, 1999

63. Republic of Kenya (Ministry of Finance - The Treasury) Treasury Circular No 3/2000 - Procedure for ProcessingPaymentsforDonorFunded Projects with Special OffshoreBankAccounts March I, 2000.

64 Republic of Kenya (Ministry of Finance). Consiiltancy oi the Study of Budget Flow to Districts - Draft Final ReportJune 26, 2000 Prepared by Almaco Management Consultants Ltd., Nairobi.

65. Republic of Kenya (Ministry of Finance - The Treasury). Existing Fiduciary Framework in Kenya 2000 Letter from theAccountant General, Mr J M. Oyula (dated June 15, 2000) to the Acting Head of the Kenya Office of the World Bank

66 Republic of Kenya The Report of The Controller and Auditor-General together with The Appropriation Accounts, OtherPublic Accounts and The Accounts of the Funds for the Year Ended 1997/98. 20 July 2000. Government Pnnter, Nairobi.

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67 Sahgal, V The Chtanging Role of Pubhc Auidit (Draft) July 2000 Notes for the Conference on Parliamentary Control ofthe Public Purse Lucknow, UP, India

68 Sahgal, V & Chakrapani, D Clean Government and Putblic Finanicial Accountability Summer 2000 World BankOperations Evaluation Department OED Working Paper Series No 17

69 Short, J Public Expenditure Management in Kenya, and related Technical assistance 2000 Consultant report preparedunder assignment from DFID

70 Short, J The Government Expendituie Cycle in Kenya. 2000 Consultant report prepared Linder assignment from DFID

71 Sunday Nation A kuidosfor the Aiditor-General Nairobi Sunday, November 12, 2000 pp 16

72 Wamugo, E The Limnits of Lai,i n Figlititig Corrtiption A Preliminary Evaluation of the Anti-Corruption and EconomicCrimes Bill, 2000 and The Public Service (Code of Conduct and Ethics) Bill, 2000 2000 Consultant's report toTransparency International - Kenya

73 West, G P Ministry of Healtih A Review of Operations anid Maintenance Expenditure May 1997 Study prepared for theMinistry of Finance as part of the Public Expenditure Review 1997

74 World Bank Kenya - Country Profile of Financial Accountability(cPFA) 1997

75 World Bank Public Expenditure Management Handbook June 1998 Issued by the PREM (Poverty Reduction andEconomic Management) Network

76 World Bank KENYA Aide Menioire Inmplenmentation Completion Report Mission - institltional Development and CivilSe,vice Reform Project (Credit 2671-KE) June-July 2000 AFMKE, Country Department 5, Afnca Region

77 World Bank Countty Financial Accountability Assessment Guildelines to Staff September 28, 2000 Issued by theFinalcial Management Sector Board

78 World Bank Draft Project Appraisal Document Goverunuent of Kenya - Public Sector Managenient Technical AssistaniceProject October 2000 AFMKE, Country Department 5, Afnca Region

79 World Bank CAS/PRSP Missio,i - October 2-12, 2000 Aide-Memoire Attachment to an Office Memorandum (datedNovember 15, 2000) issued by Robert Johann Utz, AFTM2

80 World Bank Republic of Uganda - Country Financial Accountability Assessment (CFAA) January 10, 2001

81 World Bank Institutc Ternis of Reference OVERSIGHT AND ACCOUNTABILITY - Strengtheniug Finwance and PiblicAccotuts Committees ,in East Africa 2000

B. Responses on CFAA Checklists and Position Papers by Stakeholders

82 Capital Markets Authonty Response to Section P-CChecklistfor Preparing a CFAA in Kenya November 2000

83 Capital Markets Authonty CFAA Position Paper November 2000

84 Central Bank of Kenya Response to Section N-CChecklistfor Preparing a CFAA in Kenya November 2000

85 Government of Kenya (Treasury, Ministry of Finance and Planning). Response to Section A - Checklistfor Preparing aCFAA in Keuiya November 2000

86 Government of Kcnya (Accountant General's Department, Ministry of Finance and Planning) Respontse to Sectionis B,D F& K-Checklistfor Preparitg a CFAA in Kenya November 2000

87 Government of Kenya (Office of the Controller and Auditor-General) Response to Sections C & D - Checkihst forPreparing a CFAA in Kenya November 2000

88 Government of Kenya (Internal Audit Department, Miiistry of Finance and Planning) Response to Section E-Checklistfor Preparing a CFAA in Kenya. November 2000

89 Government of Kenya (DGIPE, Ministry of Finance and Planning). Response to Section G - Checklistfor Preparing aCFAA in Kenya November 2000

90 Government of Kenya (Inspectorate of State Corporations, Office of the President) Response to Section G- ChecklistforPreparing a CFAA in Kenya November 2000.

91 Government of Kenya (Inspectorate of State Corporations, Office of the President) CFAA Position Paper by theInspectorate of State Corporations presented to the World Bank Mission to Kenya November 2000

92 Government of Kenya (Attorney-General's Chambers - Solicitor General) Response to Section H - CheckihstforPreparing a CFAA in Kenya November 2000

93 Government of Kenya (Attorney-General's Chambers) Response to Section K - Checklist for Preparing a CFAA inKenya. November 2000

94 ICPAK (Institute of Certified Public Accountants of Kenya) & KASNEB (Kenya Accountants and Secretanes NationalExaminations Board) Response to Sections L & M-Checklistfor Preparing a CFAA in Kenya November 2000.

95 Insurance Commission (Kenya) Respotise to Section O-Checklistfor Preparing a CFAA in Kenya November 2000

96 Kenya Anti-Corruption Authonty (KACA) CFAA Position Paper prepared by the Directorate of Finance and OperationsNovember 2000.

97 National Assembly (Parliament) Response to Section K-CChecklistfor Preparing a CFAA i Kentya November 2000.

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98 National Council of NGOs Response to Section J-Checklist for P-eparing a CFAA in Kenya November 2000

99 National Council of NGOs. CFAA Position Paper. November 2000.

100 NGOs Coordination Board Response to Section J-Checklist for Preparing a CFAA in Kenya November 2000

101 NGOsCoordinationBoard CFAAPositionPaper November2000.

102 Registrar of Companies (Kenya) Response to Section l-Checklist for Preparing a CFAA in Kenya November 2000.

C. Web Resources

103 Auditor-General (South Afnca). General Report of the Auditor-General on the Accounts of the National Government for1998-99 Online Available URL address http llwww agsa co za/Reports/gencral/RP201 1 999.pdf

104 European Corporate Governance Network Corporate Governance Codes, Principles and Recommendations. OnlineAvailable URL address http llwww ecen ulb.ac be/ecgn/codes htm.

105 INTOSAI (International Organization of Supreme Audit Institutions) Auditing Standards. 1992 (revised 1995) OnlineAvailable URL address: http H/www intosal orel3 AUDSTe html

106 Organisation for Economic Co-operation and Development (OECD). OECD onlne - Corporate Affairs. OnlineAvailable URL address htto //www oecd ore/daf/coroorate-affairs/izovenance

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APPENDIX 2: LIST OF PEOPLE MET

PUBLIC SECTOR

Ministry of Finance and PlanningMr. M.L. Oduor Otieno Permanent Secretary - Ministry of Finance & PlanningMr. M. Mwachofi Financial Secretary - TreasuryMr P. Gakunu Economic Secretary/ Director of PlanningMr G N. Gicheru Director of Budget - TreasuryMr. C.I. Shakaba Deputy Secretary: Extemal Resources Dept. - TreasuryMr L Okwinr Deputy Accountant General - TreasuryMrs. S.L. Bobotti Deputy Accountant General - TreasuryMr. P. Wachira Senior Accountant - TreasuryMr A Kilele Budget Monitonng OfficerMr. K. Mbathi Secretary for Govemment InvestmentsMr S Kitungu Principle EconomistMr. A 0. Mallowah Intemal Auditor Gen Dept Intemal Auditor GeneralMr. I.P. Singh IMF-Consultant to Internal Audit Department (Deputy Controller and Auditor

GeneralIndia)

Ministry of EducationMr. M M Gatimu Senior Principal Accounts Controller

Directorate of Personnel ManagementMr. J.R. Wheeler Advisor. Public Sector Reform Coordination Unit

Ministry of Local Govt.Dr. R. Kelly Kenya Local Govemment Reform Programme - ConsultantMr. A. Apidi Kisumu Municipal Council - Town TreasurerMr. S.G. Oloo Kisumu Municipal Council - Principal Intemal AuditorMr. K Momanyi Kisumu Municipal Council - Acting Accountant IIMr. Otieno Kisumu Municipal Council - Acting Principal Revenue OfficerMr. D. Rotich Nakuru County Council - AccountantMr. Katiku Mavoko Municipal Council - Town TreasurerMr. L. Kiume Mavoko Municipal Council - CO IMr. C. Muoka Mavoko Municipal Council - CO IIMr J. Mwanthi Mavoko Municipal Council - Accounts AssistantMr. R. Kisiimi Mavoko Municipal Council - CO IMr. J.M. Mbugua Naivasha Municipal Council - Town ClerkMr. I N Githui Naivasha Municipal Council - Town TreasurerMr. B.G. Kinyagia Maragua Town Council - Ag. Town ClerkMr. P. Mburu Maragua Town Council - AccountantMr. S. Njoroge Maragua Town Council - Internal AuditorMr. G. Maina Nyeri Municipal Council - TreasurerMr. Gaku Nyeri Municipal Council - Chief AccountantMr. Wainaina Karatina Town Council - ClerkMr. Waigochi Karatina Town Council - Ag. TreasurerMr. Karuri Karatina Town Council - Building SuperintendentMr. Mucheru Nyeri County Council - ClerkMr. Ndichu Nyeri County Council - Treasurer

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Controller & Auditor GeneralMr. D. Njoroge Controller and Auditor GeneralMr. W. Orege Deputy Auditor GeneralMrs. P. Komora Deputy Auditor GeneralMr. F. Maluki Assistant Director of Audit

Office of the Attorney GeneralMr. P. Asele Principal Economist: Administration & FinanceMs. A.N. Mukoma Economist: Administration & FinanceMs. A.J. Kangi Senior Finance Officer. Administration & Finance

Office of the PresidentMr. J. Otenyo Inspector of Statutory Boards

National AssemblyMr. J. Ndindin ClerkMr. M Werunga Deputy Clerk

Kenya Anti-Corruption Authority (KACA)Dr. J T. Rotich Assistant Director: Finance and Operations

Registrar of CompaniesMr. W.K. Richu Registrar of Companies

National Council of NGOsMr. 0. Ongwen ChairmanMr. M. Matengo Finance OfficerMr. M. Rabudi Liaison Officer

NGOs Coordination BoardMr. I. Lukalo Chief Executive OfficerMr. Z.N. Silatei Deputy CEOMr. S. N. Nyadiero Research OfficerMr. D. Njane Accountant

Kenya Revenue AuthorityMr. J. Munge Commissioner General: Kenya Revenue Authority

?PRfVATE SECTOR

Institute of Certified Public Accountants of Kenya (ICPAK)Mr. J.K. Njiraini Chief Executive

Kenya Accountants & Secretaries National Examinations Board (KASNEB)Mr. E.K. Gitau Secretary & Chief Executive

Partners from Audit PracticesMr. P. Kinisu Partner: PriceWaterhouseCoopersMr. C.M. Chege Senior Partner: BDO Githongo & CompanyMr. M.M. Mwendwa Director: BDO Githongo & Associates Ltd.Mr. P. Githongo Consultant: BDO Githongo & Associates Ltd.

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Kenya Institute for Management (KIMI)Mr. M Mwangi Executive DirectorMr. B.O. Orwa Deputy-Executive DirectorMr. A.M. Muchai Manager: Company of the Year Awards

Private Sector Corporate Governance Trust (Private Sector Initiative for Corporate Governance)Mr. K. Gatamah Executive Director

Insurance CommissionMr. S.M. Makove Deputy Commissioner of InsuranceMrs. A.G. Ndirangu Assistant Commissioner of Insurance

BanksMr J K Murugu Director Bank Supervision Dept - Central Bank of KenyaMr F.P.K. Pere Snr. Manager: Bank Supervision Dept. - Central Bank of KenyaMr. W. Nyagaka Manager. Bank Supervision Dept - Central Bank of KenyaMr. A. Nandi Snr. Assistant Manager: Bank Supervision Dept. - Central Bank of KenyaMr. J K. Wanyela Executive Director- Kenya Bankers AssociationMr A.J. Owiro Deputy Executive Director Kenya Bankers AssociationMr. K.M. Mwendia Director: Finance & Planning: Kenya Commercial BankMr. S.N. Kimani Financial Controller: Kenya Commercial Bank

Capital Markets AuthorityMr. P.K. Melly Chief Executive OfficerMr S.P. Ole Nkeri Manager: Compliance and FinanceMs. S. Hussein Manager: Enforcement and Legal Affairs

Nairobi Stock ExchangeMr. K. Kariithi Chief Executive Officer

Other members of the publicMr. K. M'Inoti Kamau, Kuria & Kiraitu Advocates

PONOR COMMNITY __ ____ ____

Department for International Development (DFID)Mr. Nick Dyer Senior economic AdviserMr. P. Seeds FMIS Consultant (under assignment of DFID)

SidaMr. P Magnusson First Secretary (Senior Economist)

International Monetary Fund (IMIF)Mr. J Diamond Fiscal Affairs DepartmentMr. M. Flanagan Fiscal Affairs Department

CONSULTANTS -- l

Ms. L.N. Karanja Principal Consultant: Wachira Irungu & Associates (Certified PublicAccountants)

Ms. F.S. Jaoko World Bank (Nairobi Office), Consultant on Legal & Judicial Reformns

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APPENDIX 3: GNHTIAT NG MEMORANDUM

IKENYA

ENETIAT7NG MEMORANDUM

IFOR A

COUNTRY FINANCIIAL AcCOUNTABILrTY ASSESSMENT(CFAA)

FY 2000/2001

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KENYA

INITIATING MEMORANDUM FOR CONDUCTING A COUNTRYFINANCIAL ACCOUNTABILITY ASSESSMENT (CFAA)

1 BACKGROUND

1.1 Country background

The 1998 Country Assistance Strategy (CAS) for Kenya, entitled "Improving EconomicGovernance for Sustamable Development", represented an important turning point in thedialogue with Kenya. Poor economic governance has been noted in past CASes as one of thekey issues hampering development and leading to poor implementation of projects However,the 1998 CAS made economic governance the exclusive focus and drew the conclusion thatunless there are significant improvements, it made little sense to lend more. Kenya was placed inthe "low case" scenario with sharply reduced levels of new lending. Other donors followed suitand few new external aid commitments were made

The withholding of external aid, combined with low and declining economic growth, exertedsignificant pressure on the Government of Kenya (GOK) to improve economic governance. Themost significanit signal that the GOK was serious about change, was the appointment of a team ofwidely respected technocrats from the private sector and international organizations to key postsin the civil service in 1999 This was followed by a revamping of the budgeting process and theintroduction of a Medium Term Expenditure Framework, strengthening of the Kenya AntiCorruption Authority and the Office of the Controller and Auditor General, and various othermeasures.

Significant reforms undertaken by the GOK over the past year have provided the basis formoving from the low to the base case lending program. These were judged to fulfill the base casetriggers for expanded Bank support. During FY00 the Government also prepared an interimPoverty Reduction Strategy Paper (PRSP), which was endorsed by the Boards of the World Bankand the IMF as providing a sufficient basis for concessional external aid by both institutionsOther key donors to Kenya share this assessment and intend to increase their aid levels,contingent on the continuation of refonns. In addition, the GOK is expected to publish the fullPRSP in May 2001.

Despite these measures, one still observes a declining trend in economic growth and varioussocial indicators. This is partly a reflection of how deeply entrenched many problems are,especially in the area of public service delivery. Deep seated skepticism by the private sectorabout the Govermment's commitment to maintaining the momentum of reforms has not yet beenovercome and investment levels remain low. In addition, external shocks in the form of excessrains and droughts as well as the deepening of the HIV/AIDS cnsis represent new obstacles toKenya's efforts in returning to the path of sustainable human development.

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1.2 The Nature and Role of a CFAA

Financial Accountability-is the obligation to demonstrate and take responsibility for the results offinancial decisions in light of agreed expectations. In general, from the perspective of financialgovernance, these expectations are that funds are used economically, efficiently and effectivelyfor purposes intended. Good governance calls for stewardship of all public resources,irrespective of sectors - public or private. The capacity and quality of the stewardshipfunction, it is argued, are important determinants of performance, development effectiveness andpoverty reduction.

A CFAA is a diagnostic tool designed to enhance the Bank's knowledge of financialaccountability arrangements in the public and private sectors m client countries. It supports boththe exercise of the Bank's fiduciary responsibilities and the achievement of its developmentobjectives- fiduciary responsibilities, by identifying the strengths and weakness of accountabilityarrangements in the public sector and the nsks that these may pose to the use of Bank funds;development objectives, by facilitating a common understanding by the borrower, the Bank andwhere possible development partners of the country's financial management arrangements inboth the public and private sectors, thus facilitating the design and implementation of capacitybuilding programs. The CFAA is not an audit and it is carned out jointly by Bank staff and ateam. of the country concerned. The most significant underlying principal of conducting aCFAA is the one of national ownership of diagnosis and prescriptions by the country'sauthorities.

1.3 Objectives of the proposed CFAA

The CFAA is performed as a diagnosis of a country's financial management systems for twoleading purposes, namely:

o Fiduciary Risk Management: To provide reasonable assurance to both the Borrower andthe World Bank that proper checks and balances exist in the country's financialaccountability framework, as designed and as practiced, for ensuring intended use of publicfunds (country's own money as well as the money that the Bank and other institutionsprovide to the country). A CFAA aims to identify risks and risk mitigation responses up tothe point that the incremental cost of information equals its incremental value.

o Development Strategy: To assist a client country in designing and implementing a strongfinancial accountability framework (in conformity with internationally recognized bestpractices) for supporting national financial stability and economic development, as well asfor strengthening the international financial architecture. For the process of the CFAAfeeding into the CAS the developrnental objectives becomes even more prominent.

In short: the CFAA enhances the Bank's knowledge of financial accountability arrangements,helps assess risks to the use of Bank funds, and supports the design and implementation ofcapacity building programs in financial accountability. It is not intended to, and does not,provide assurance on the specific uses to which Bank funds have been or may be applied.

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1.4 Relationship to other bank policies and operations

Changes in the Bank's business over the years - the introduction of adjustment lending, debtrelief, increased lending to social sectors, the shift to PMR-based disbursement in investmentlending, and the growth of sector programs-have reduced the relative importance of trackingindividual borrower transactions as a source of fiduciary assurance and increased the importanceof the performance of borrower mstitutions that' manage these transactions. A strategic shifttowards more flexible financing in the Bank's strategy would be contingent on a parallel processestablishmg the preconditions for more transparency and accountability. There would be need inthe early phase for a significant scaling up of complementary ESW, PERs and technicalassistance to support implementation of the chosen process actions.

The time table for the preparation of the new CAS (scheduled for Board presentation in May2001) is driven by the timetable of the PRSP process. Prior to this, the CAS work will focus ondefining and reaching consensus on key strategic issues with respect to future Bank interventionssuch as the mode of delivering lending and non- lending services. Other critical inputs to theCAS process will be provided through a detailed Portfolio Review, the Bank's PublicExpenditure Review, the CFAA, and work on defining overall lending scenarios and triggers.

On the ongoing lending program in Kenya the CFAA will need to address specific issues ofconcern which have been on the economic governance agenda of the ongoing policy dialoguebetween the GOK, World Bank and IMF in order to strengthen financial accountability. Theyinclude (i) introducing an Integrated Financial Management System in all ministries, departmentsand districts, (ii) ongoing changes in the flow of funds initiatives, (iii) review of relevant sets oflegislation to increase effective and transparent flow of public funds to bene ficiary communitiesat the grass root level, and (iv) strengthenig and streamlining the functions of Public SectorAudit.

2 SCOPE OF THE CFAA

2.1 Areas to be covered

Financial accountability is meaningful only if actual practice is in accordance with theframework as designed. Therefore, an exercise to assess the strength of a country's financialaccountability framework needs to include empirical evidence on actual practice (compliancewith established rules and regulations in the country). The CFAA will provide comprehensivecoverage of the following areas/sectors:

PUBLIC SECTOR* Transparent and Accountable Budgeting* Accounting and Financial Reporting (including systematic issues related to Donor Funds)* Internal Control System (including Records mana gement and use of IT)* Auditing (both internal and external functions)* Legislative Scrutiny of the Public Sector Financial Management* Non-Governmnental Organizations (NGOs)/Community Based Organizations (CBOs)[NOTE Financial management arrangements at both the central and decentralised levels (refer to paragraph 3 3)of Governmnent will be assessed]

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PRIVATE SECTORo Financial Accounting and Auditing Practiceso The organised Accounting Professiono Accounting Education and Trainingo Regulatory bodieso Corporate Go vernance and Financial Accountabilityo Public Access to Information in upholding Public Financial Accountability[NOTE The scope of private sector is provided in Annex 1]

2.2 Specific issues

The major issues to be addressed in the CFAA include:

o "Rules Vs Reality" checks on formal rules and laws.o The flow of funds issue (to the district level and even further).O Opacity of budget resources availability at district level.O Budget accuracy (usefulness as a management tool).O The strength of the audit function in both the public and private sectors (Quality &

Timeliness).o Capacity of the Internal Audit service in Government.O Timeliness and quality of Financial Reporting in the public sector.O Review of the Audit and Exchequer Act by a Task Force.o Developmental component to incorporate an action plan for the way forward.o Financial accountability assurance (public and private) should establish reasonable assurance.

Details of the specific issues deserving attention and comprehensive coverage, include thosementioned in Annex 4.

2.3 Methodology / Research design

(i) FIELD WORK: Information will be gathered primarily through the following methods:o Initial desk research - Collecting information from World Bank Reports, IMF Reports

and other relevant and reliable resources, such as web sites of internationallyrecognised bodies. (Also refer to 3.4 in this regard).

o Specific position papers and questionnaires - Major stakeholders (see Annex 1) willbe requested to prepare for the purposes of the mission a position paper that sets outtheir organisation's views of the current financial management and regulatoryenvironment, its weaknesses and strengths, and any suggestions for improvement. Inaddition, they will be requested to complete a questionnaire.

o Interviews - Interviews will be conducted with representatives of the majorstakeholders mentioned above.

(ii) ANALYSIS: Assessment of gathered information by the assignment team would focuson identification and evaluation of the risks related to the discharge of fiduciaryresponsibilities by the various stakeholders. Concluding from this assessment an actionplan will be devised to mitigate risk.

(iii) VALIDATION: The above-mentioned analysis and recommendations will be validatedthrough:o discussion with the various stakeholders at a forum/workshop in the country;

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* continuous guidance from the RFMA; and* peer review by a quality assurance team.

3 PROCESS

3.1 Basic approach

The CFAA will be performed through the following approach:

* REVIEW: Chart and describe the architecture, landscape and ongoing reforms aboutfinancial accountability m both the public and private sector.

* ASSESSMENT Identify and evaluate the risks related to the discharge of fiduciaryresponsibilities by the various stakeholders.

* CONCLUSION: Devise an action plan to mitigate risk, as an input to countrydevelopment programming as well as the CAS and PRSP dialogue.

3.2 Role, Identity and Contributions of Country Stakeholders

In planning for the process, we shall require strong guidance and stewardship of the Government,to help bring together the entire public sector and most of private financial accountabilityframework into perspective. In view of this, we have requested the Ministry of Finance andPlanning to nominate a team of counterparts with whom the donors will work to produce qualityCFAA in a timely manner (refer to Annex 2).

Other stakeholders in the private sector would be required to make their initial contributionsthrough specific position papers and questionnaires (refer to 2.3(i) above).

These contributions will be followed up with interviews.

3.3 Role, Identity and Contributions of Development Partners (DPs)

The World Bank, SIDA (Sweden) and DFID of United Kingdom have for the past few yearsjointly collaborated with the GOK to assist them with putting in place an efficient and effectivefinancial management system in the line ministries and districts to facilitate for better delivery ofpublic services. As part of this ongoing process a meeting of the three DPs was convened on 31August to discuss collaboration at two levels, namely:* Drawing as much as possible from any documentation/studies/reviews that SIDA and DFID

would be willing to share with us in order to minimize duplication of work; and* Possible direct involvemert by DFID through financial support of an assessment of the

Decentralized Financial Management arrangements in the Public Sector (District Level --District Administration, Local Government as well as Line Minmstry (Sector) Offices.

Collaboration with the IMF has been initiated through provisional discussions with staff of theFiscal Affairs Department. This will be followed up with a formal meeting at a later stagetogether with a desk review of the related IMF Reports.

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The AfDB has also indicated interest in the CFAA process and will be contacted to discusspossible involvement.

3.4 Relationship to other Bank diagnostic ESW

The increased emphasis on understanding overall borrower financial accountability arrangementsand the risks that they may pose to Bank operations have created an expectation that the level ofcoverage of borrower countries by CFAAs and other related Bank diagnostic Economic andSector Work (ESW) products will increase. The concept of fiduciary ESW is emerging as partof the core "due diligence" ESW that the Bank needs to have in place to do business in acountry.60 The CFAA is the primary ESW product of the Financial Management group.61 Theproposed CFAA for Kenya will draw from and build on the Country Profile of FinancialAccountability (CPFA) that has been conducted in 1997 by the FMS's at the Country Office.

Deciding on the relationship and possible coordination with other significant ESW the followingissues were considered:

o Although a PER is part of the proposed work to be done for the FY 2001, the GOK has notmade a commitment yet to what the process and scope of the PER will be. This issue iscurrently under discussion with the GOK. The PER will, parallel with the CFAA, providethe analytical basis for preparing the CAS to support the country's development -- thus, boththe PER and CFAA are viewed as necessary building blocks of the CAS as well as for sectorprograms and budget support operations.62

o A Country Procurement Assessment Report (CPAR) was done in 1997 which led into anumber of Procurement Reforms which are currently in the phase of being implemented. Itis too early for a revision of a CPAR.

o An Institutional and Governance Review is scheduled to for FY 2001 -- although a ConceptPaper has been prepared, the responsible person is being transferred back to HQ and thiswork is thus on hold for the foreseeable future.

3.5 Timetable

Refer to the attached Annex 3.

4 REPORTING

The product of this work would be a CFAA Report that contains the following:

60 Fixing ESW Where Are We? Ref CODE 2000-76, July 11, 2000 For this purpose, fiduciary ESW

comprises the CFAA and the CPAR61 With effect from July 1, 2000, CFAAs are formally treated as an ESW product.62 While the PER focuses on issues such as expenditure and revenue trends, sector balance of expenditures,

allocation, implementation and monitoring mechanisms, etc., the CFAA deals with issues related to theaccountability of the institutional systems m order to report on what happens with budget-allocations

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* A description of Kenya's financial accountability profile (public and private sectors) and acomparison of that profile with internationally recognized benchmarks;

* An identification and description of the key issues facing Kenya in pursuing an upgrade of itsoverall financial accountability environment;

* Recommendations/strategy to be integrated into the CAS; and* A time-bound Country Action Plan for improving the financial accountability processes, with

particular emphasis on the public sector, including key issues that may need to be included mthe PRSP dialogue.

The CFAA report will be shared in draft with the country authorities and any participatingpartners at a forum workshop to be held in the country prior to being finalized. It will also bediscussed in a review meeting chaired by the Country Director at which its implications for theBank's program will be assessed. Once complete, the assignment team will prepare an ActivityCompletion Summary.

5 TEAM COMPOSITION AND QUALITY ASSURANCE

5.1 The Assignment Team

The assignment team draws on the experience of staff at the Country Office, but also providesopportunity for cross country work (Donald Mphande) and internal learnig (Margaret Olale).Names of the team are provided in Annex 1.

5.2 Quality Assurance

The Country Director has final sign-off authority and the Regional Financial ManagementAdviser (RFMAj ensures that appropriate quality assurance arrangements are in place. TheInitiating Memorandum (quality at entry) as well as the Draft CFAA Report will be subject toreview by a Quality Peer Review Committee consisting of the following members and chaired bythe RFMA, Mr. Brian Falconer:

* FM Group anchor - Zubaidur Rahman* Snr FMS from ECA-Region (external reviewer) - Sanjay Vani* Snr Pub. Sector Management Spec. (PREM reviewer) - David Shand.

6 BUDGET

The budget of $125,000 was secured by the Country Coordinator and approved by the CountryDirector. This amount is sufficient to cover the depth and quality of the work to be performed.

Prepared by: Marnus Koen 23 October 2000WORLD BANK HQ

CFAA\PLANNINGINITIAT-MEM03 DOC

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Annex 1

KENYA: COUNTRY FINANCIAL ACCOUNTABILITY ASSESSMENTSUB-SECTOR COUNTERPARTY CONTACTPERSON CONTACT TEL# CON- TEAM MEMBER

AND TTLE TACT RESPONSIBLE1. Public Sectoro Ministry of Finance and Planning - # MK & JN

Official Coordinator (Financial Secr.)o Ministry of Local Govt. Consultant & JNo Accountant General JNo Controller & Auditor General JNo Internal Audit Department DM& JNo Inspector of Statutory Boards * JO

(Parastatals)o Secretary for Government Investments * JOo Budget Office/ MTEF unit LOo Public Accounts Committee JN & MKo Public Investments Committee MK & JNo Kenya Anti-Corruption Authority * JO

(KACA)o Registrar of Companies L DMo Registrar of Societies DMo NGO Council (operating within Civil * JO

Society & regulating activities of NGOs)o NGO Coordination Board (Govt. body * JO

dealing with registr. of NGOs, & ensu-ring compliance with the provisions ofthe NGO Coordination Act of 1990)

o Revenue Authority * DM

2. Donor Communityo World Bank Teamo DFIDo SIDAo AfDB _0 IMF

Country FinancialAccountabilityAssessment Republic of Kenya

3. Organized Accounting Profession* Institute of Certified Public Accountants MY,

of Kenya (ICPAK) MK* Kenya Accountants & Secretanes MK

National Examinations Board(KASNEB)

- LmtLA of Intc-l Auditors* Partners from both a big and small Audit # JN & MK

Practice* Kenya Institute for Management (KIM) JO & DM* Corporate Governance Oversight Body, .? . U9?

i.e. Institute of Directors

4. Other Agencies and Bodies* Insurance Commission JO & DM

* Central Bank JN & MK* Stock Exchange/Capital Markets * DM & JO

Authonty

5. Members of the press (Business Desk) # MK & Peter Warutere

1. Participants (Name mentioned first on the schedule above has final responsibility for contribution to the report)MK = Marius KoenJN John NyagaJO John OgalloMO = Margaret Olale (Join team as part of her internal learning -- wVill hoivever also provide inputsforfinal report)LO = Lucas OjiamboDM = Donald Mphande

2. Communication with parties* = Will receive aformal letter requesting position paper & questionnaire to be completed (Target date of 10 October 2000)

# = WWill be visited only

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Annex 2

The World Bank World Bank - Kenya Tel . (254-2) 260300, 260400INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT Hill Park, Upper Hill Road Fax (254-2) 260380, 260381INTERNATIONAL DEVELOPMENT ASSOCIATION P 0. Box 30577

Nairobi, Kenya

September 5, 2000

Mr. Mwaghazi MwachofiFinancial SecretaryMinistry of Finance and PlanningTreasury BuildingNairobi.

Dear Mr. Mwachofi,

Kenya: Country Financial Accountability Assessment (CFAA)

We would like to thank you for allowing us to meet with you and discuss the World Banksintention to perform a CFAA later this year. We are also writing to you to reach an agreementon how we might collaborate in future to deliver a useful product and achieve the desired output.

A letter to the Permanent Secretary, Ministry of Finance and Planning, dated August 21,2000 describes the nature, objectives and scope of the proposed CFAA. We understand that acopy has been forwarded to you. Following our discussion between yourself and us on August31, 2000 we would like to request for the following information from you in order to proceedwith our planning:

o Suitable dates to perform the CFAA - we understand that the second half of November andfirst week of December 2000 is currently under consideration.

o The names of about five senior officials to serve as functional coordinators of thegovernment counterpart team under your leadership. It is envisaged that these persons wouldassist in the following aspects:

> Provide advice on the scope of the proposed assessment to be performed at central anddecentralized levels of Government.

> Act as peer reviewers for the CFAA by performing quality reviews both at the planningand reporting phases of the process.

> Participate in a workshop for all stakeholders where the Draft CFAA Report would bediscussed for final publication.

> Assist in liaison with other government stakeholders.

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We would suggest that the team compose of members with experience related to budgeting,accounting, reporting and auditing. Furthermore it would be advantageous to have one of themembers to represent the Ministry for Local Government on financial management issues.

In view of their interest and envisaged participation, we are copying this letter to the heads ofthe Institutions/Units (see attached list) whose names we shared with you during our meeting.We shall make the necessary follow-up with the respective Institutions/Units in this regard.

We are looking forward to hear from you.

Sincerely,

Marius Koen John NyagaSr. Financial Management Specialist Financial Management SpecialistWorld Bank Headquarters - Washington DC World Bank - Kenya

Mkoen/Jnyaga ek (cfaa Itrl)World Bank User\\StreetTalk \Pnvate0 I @KEFIles0 I AAFRlCA\WB23 l 7U\cfaa ItrI doc09/05/00 10 19AM

List of Recipients:

Permanent SecretaryMinistry of Local GovernmentJogoo 'A' House.

Mr. J. OyulaAccountant GeneralMinistry of Finance and PlanningTreasury.

Mr. D.G. NjorogeController and Auditor GeneralOffice of the Controller and Auditor GeneralKENCOM House.

Mr. A. MallowaInternal Audit DepartmentMinistry of Finance and PlanningAnniversary Towers.

Mr. J.M. OtenyoInspector of Statutory Boards (Parastatals)

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Office of the PresidentHarambee House.

Mr. K. MbathiSecretary, Government Investments DepartmentMinistry of Finance and PlanningTreasury.

Mr A. KileleBudget Office/MTEF UnitMinistry of Finance and PlanningTreasury.

Public Accounts CommitteeThru'Mr. S.W. Ndindiri, Clerk, National AssemblyParliament Building.

Mr. Joseph NgokExecutive ChairmanPublic Investments CommitteeNational Bank Building

Justice A. RingeraDirectorKenya Anti-Corruption Authority (KACA)Integnty House.

Mr. 0. MbagoRegistrar of CompaniesAttorney General's ChambersSheria House.

Mr. J.G. MsafiriCommissioner GeneralKenya Revenue AuthorityNyayo House

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Annex 3

PROPOSED KENYA CFAA - FY 01

TIMETABLE

ACTIVITY OR ACTION RESPONSIBLE TIMING OR INDICATOR OR OUTCOMEPERSON TARGET DATE

1 PREPARATIONPrepare a Framework for MK & JN May '00 Imtial Planning Schedulethe work to be doneSecure a budget with MK Jun/Jul '00 Approved budget of $125,000Country Director &Program CoordinatorRegister as ESW on MK & NA Mid Sep '00 Authorised registration on SAPSAP2 PLANNINGInform GOK of MK & JN 21 Aug '00 Letter to PS of Finance & Planningproposed CFAA assisted by MM signed by Country DirectorEstablish a Committee MK & JN Sep/Oct '00 (a) Letter to Financial Secretary to(Govt Counterpart requestTeam) (b) Reply that lists the team

members and confirm dates for con-ducting mission

Initial contact with MK & JN 25 Aug '00 Memo to DFID and SIDADonor Partners (DPs) assisted by LA 5 Sep '00 Discussions with IMFstaffFact finding mission MK & JN 31 Aug to (a) Meet with officials of GOK and

5 Sep '00 Development Partners(b) Planning of CFAA:* Budget* Stakeholders identify* Composition of team* Need for consultants* Scope of work(c) Agree on next steps for comingmonths

Prepare Initiating MK I" week of Initiating Memorandum cleared byMemorandum ito WB Oct '00 RFMA and Country DirectorguidelinesCountry review meeting AFCTKEALL 17 Oct '00 Revised Initiating Memorandumto discuss the Initiatmg Tele-conf. drawing from the comments andMemorandum contributions by the teamPrepare TOR's for IN 15' week of Oct TOR's coverng the objective, scopeconsultant(s) to '00 & nature of the work, methodologyparticipate and required outcomes/

contributions

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Develop questionnaires MK Mid Oct '00 Completed questionnaires that willfor various stakeholders capture the significant Fmancial

Accountability issuesCloser liaison with DPs MK & JN Oct/Nov '00 (a) Reach agreement on level and

extent of collaboration(b) Try to secure counter- fundmg toaugment available budget

Requests to major MK (Draft) Last week in (a) Letters to all stakeholdersstakeholders to prepare JO (Final) Oct '00 identified in Annex Iposition papers and inaddition, complete a 20 Nov '00 (b) Receipt of Position Papers thatquestionnaire. sets out the organisation's views of

the current Fim. Management andregulatory environment, itsweaknesses and strengths, and anysuggestions for improvement, aswell as completed Questionnaires

Desk review MK Oct/Nov '00 (a) Data collection(b) Preliminary analysis

Appointment of JO & JN Nov '00 (a) Request for proposalsconsultant(s) (b) Selection

._____________________ _ _____________ .. _____ .(c) Letter of appointm ent

3 MISSION EXECUTIONPrepare TOR's for each MK 1st week of TOR's covermg the scope & naturemember of the team Nov '00 of the work and required outcomes/

contributions expected from eachteam member

In-country mission Team as per 20 Nov to (a) Contribution from each teamAnnex 1 8 Dec '00 member, i.e. writing up of research

results as preliminary input to report(b) Contnbution from consultant(s)

.__________________ ______________ ____________ (c) Debriefing with GOK4 REPORTINGPrepare draft report MK & JN 15 Jan '01 Draft CFAA ReportQuality review Peer reviewers 22 Jan '01 Reviewed Draft CFAA ReportPayment of consultant MK ASAP ChequeIn-country workshop All stakeholders 31 Jan '00 Discuss and get final inputPrepare final report MK 15 Feb '00 Printed report to StakeholdersPrepare Activity MK 15 Feb '00 ACS ito WB guidanceCompletion Summary

lKey to names (alphabetically)DM = Donald Mphande MK = Marius KoenLA = Ladipo Adamolekun MM = Melanie MarlettLO = Lucas Ojiambo MO = Margaret OlaleJN = John Nyaga NA = Norma AngelesJO = John Ogallo

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Annex 4

PROPOSED KENYA CFAA - FY 01

DETAILED SCOPE OF THE CFAA

(i) REVIEW: Chart and describe the architecture, landscape and ongoing reforms aboutfinancial accountability in both the public and private sector, including -* Transparency and integrity of the related legislative and regulatory environment

(considerations such as effectiveness, appropriateness, compliance, access toinformation, etc.);

* Strengths and weaknesses of financial accountability systems and mechanisms,including legitimization of public expenditure, budgeting (includmg planning,preparation, execution, integrated FMIS) procurement, payroll, disbursements,accounting, financial reporting, internal control, records management, auditing,evaluation and follow-up;

* Extent and quality of compliance with established rules/regulations/standards toidentify divergences between the designed rules/regulations/standards and actualpractice (Rules vs Reality check),

* Confonnity of local established rules/regulations/standards with internationallyrecognised benchmarks; and

* Technical capacity and willingness to implement and promote best practice.

(n) ASSESSMENT: Identify and evaluate the risks related to the discharge of fiduciaryresponsibilities by the various stakeholders, including -* The capacity of regulatory bodies to ensure quality;* Integnty of the components of the financial accountability cycle, i.e. Information

generation =* Demand of actions =* Response elicited from decision-makers;* Risks related to the reality checks of formal rules/regulations/standards; and* Impact of gaps identified between local established rules/regulations/ standards with

internationally recognised benchmarks;

(iii) CONCLUSION: Devise an action plan to mitigate risk, as an input to countrydevelopment programming as well as the CAS and PRSP dialogue.* Recommendations for the enhancement of public sector financial management at the

central and decentralized levels of Government including strengthening of financialaccountability systems and mechanisms;

* Steps for the development/enhancement of accounting/auditing standards as well asestablishing and strengthening monitoring/compliance mechanisms;

* Identification of technical assistance/capacity building requirements in both the publicand private sector.

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APPENDDX 4: SECTMONS OF THE CHECKLUST

The Checklist is intended to be used as a tool to gather information on the financial

accountability aspects of Kenya's public and private sectors for the purpose of developing a

Country Financial Accountability Assessment (CFAA). The Checklist is organized in different

sections as follows:

Public SectorA. BudgetsB. Public Sector Accounting and Financial ReportingC. The Auditor GeneralD. Staffing of Public Sector Financial Management DepartmentsE. Internal AuditF. Internal Control and Records ManagementG. Government Business EnterprisesH. LegislationI. Registrar of Companies & Corporate GovernanceJ. Non-Governmental Organizations (NGO's) & Community Based Organizations (CBO's)

K. Legislative Scrutiny, Ethics and Integnty

Private SectorL. The Accountancy ProfessionM. Accounting and Auditing StandardsN. Banking Sector0. Insurance SectorP. Secunties Exchange & Corporate Governance

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