Financial Statements of the Government of New Zealand for the Year Ended 30 June 2011

Ministerial Statement#

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The devastating earthquakes in Canterbury have had a significant impact on the Government's fiscal position.

The Financial Statements of the Government for the year ended 30 June 2011 include net costs to the Crown of around $9.1 billion in relation to these tragic events.

In 2010/11, there was modest growth in tax revenue reflecting the economic recovery during the period, while core Crown expenses rose sharply due to large one-off factors (such as the Emissions Trading Scheme and the Weathertight homes financial assistance package), together with the impact of higher debt-financing costs due to rising Crown debt.

The net result of these factors is that the operating deficit before gains and losses weakened markedly to $18.4 billion at 30 June 2011. However, the Government has taken a series of decisions that will significantly reduce the deficit in the current year and set the Crown on a path back to surplus.

The recovery in world markets during the year helped produce gains for Crown investment funds (the New Zealand Superannuation Fund, the Accident Compensation Corporation and the Earthquake Commission). Including these gains, the headline operating deficit was $13.4 billion (compared with $4.5 billion a year earlier).

At 30 June 2011, core Crown net debt stood at $40.1 billion or 20.0% of GDP and the Crown's net worth stood at $80.9 billion, or 40.4% of GDP.

The global financial crisis and the Canterbury earthquakes have demonstrated to New Zealanders and to the Government the importance of the Crown maintaining a strong fiscal position.

Looking forward, the Government is committed to rebuilding the Crown's fiscal position to ensure that New Zealand is well placed to deal with any future unexpected shocks.

 

Hon Bill English
Minister of Finance

30 September 2011

Statement of Responsibility#

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These financial statements have been prepared by the Treasury in accordance with the provisions of the Public Finance Act 1989. The financial statements comply with New Zealand generally accepted accounting practice and with New Zealand equivalents to International Financial Reporting Standards (NZ IFRS) as appropriate for public benefit entities.

The Treasury is responsible for establishing and maintaining a system of internal control designed to provide reasonable assurance that the transactions recorded are within statutory authority and properly record the use of all public financial resources by the Crown. To the best of my knowledge, this system of internal control has operated adequately throughout the reporting period.

 

Gabriel Makhlouf
Secretary to the Treasury

30 September 2011

I accept responsibility for the integrity of these financial statements, the information they contain and their compliance with the Public Finance Act 1989.

In my opinion, these financial statements fairly reflect the financial position of the Crown as at 30 June 2011 and its operations for the year ended on that date.

 

Hon Bill English
Minister of Finance

30 September 2011

Commentary#

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Introduction#

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These financial statements[1] contain the audited results for the financial year ended 30 June 2011. The results are compared against previous years, and against two sets of forecasts:

• the Budget 2010 forecast as published in the 2010 Budget Economic and Fiscal Update, and
• the Budget 2011 forecast as published in the 2011 Budget Economic and Fiscal Update (the “forecast”).

This commentary should be read in conjunction with the financial statements on pages 30 to 180.

At a Glance#

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Summary#

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The economy continues to recover from recession…

Figure 1 - Nominal and Real GDP growth

Source: The Treasury

Despite the Canterbury earthquakes, the economy experienced higher growth in nominal GDP in 2010/11 owing to a recovery in domestic demand as well as higher prices, including for our exports. This translated into higher growth in business profitability and salary and wage earnings.

Figure 2 - Core Crown tax revenue and core Crown expenses

Source: The Treasury

...and tax revenue has grown modestly.

Core Crown tax revenue increased by $0.8 billion over the year, reflecting growth in private consumption and company tax but tax policy changes have largely offset the impact of this growth. Table 4 on page 8 summarises the movements for the year.

But expenses have risen sharply...

Of the total Crown expenses of $100.0 billion, $70.4 billion was for core Crown expenses (ie, incurred by Ministers, Departments, Offices of Parliament, the NZS Fund and the Reserve Bank).

Total Crown expenses have increased by $18.9 billion from the previous year of which $13.6 billion was earthquake-related.

Within core Crown expenses, costs have risen by $6.4 billion (figure 2) of which non-earthquake costs increased by $4.5 billion. Health, education and welfare spending have all contributed to this latest financial year’s increase along with the Emissions Trading Scheme and the weathertight homes financial assistance package. Table 6 on page 11 summarises the increases in core Crown expenses.

Earthquake expenses pushed up core Crown expenses by $1.9 billion, including financial support packages for the Red Zone and AMI and social assistance payments. Most earthquake expenses were, however, captured in the Crown Entity segment of these accounts, with EQC's insurance expenses pushed up by a net $7.5 billion (comprising a hike in insurance expenses of $11.7 billion, of which $4.2 billion was offset by reinsurance recoveries).

Although significant earthquake-related expenses have been recognised this year, more earthquake expenses are still to come. The section on Canterbury earthquakes on page 12 provides further details of the impact of the earthquakes on the Financial Statements of Government.

...resulting in a large operating deficit…

Figure 3 - Components of the operating deficit

Source: The Treasury

The operating deficit before gains and losses (OBEGAL) increased by $12.1 billion from last year to stand at $18.4 billion in the year ended 30 June 2011 (figure 3).

Recovery in investment markets in the first part of the year however, contributed to the Crown making a net gain in its financial portfolio of $5.0 billion (compared to a $1.8 billion gain in the previous year).

Overall, the operating balance inclusive of gains and losses was in deficit by $13.4 billion.

...leading to increased borrowings…

Figure 4 - Cash proceeds from issue of market domestic bonds

Source: The Treasury

Combining the cash impact of the operating results with capital expenditure and advances, the Crown recorded a residual cash deficit for the year of $13.3 billion. This deficit was funded through an increase in borrowings, primarily through the domestic bond programme (figure 4).

...and a reduction in net worth.

Operating deficits have led to a decline in net worth. The Crown's net worth fell $14.1 billion to stand at $80.9 billion at 30 June 2011.

Fiscal Strategy#

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The financial statements of the Government provide a snapshot of the progress the Government has made in implementing its fiscal strategy as set out in its Fiscal Strategy Report.

Table 2 - Financial results against the long-term fiscal objectives outlined in the 2011 Fiscal Strategy Report

 

Revenue#

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Figure 5 - Core Crown tax revenue

Source: The Treasury

Total revenue increased over the year by $6.8 billion to $81.6 billion. Core Crown tax revenue contributed $0.8 billion (1.6%) to this increase (figure 5) and $4.2 billion was due to insurance claims on reinsurers as a result of the Canterbury Earthquakes. The impact of the earthquakes on the financial statements is discussed more fully in a separate section on page 12.

Core Crown Tax Revenue

Source: The Treasury

Core Crown tax revenue was close to forecast at $51.5 billion. Growth in tax has been diluted by policy changes introduced in Budget 2010. These policy changes had the impact of reducing taxes levied by $2.7 billion. Table 4 summarises the movements from last year. Specifically:

• Salary and wages have increased during the year although the impact of personal income tax cuts have more than offset any increases in tax coming from source deductions.
• Business profits (both corporate and individual) have also increased over the year but again the impact of policy changes through tax cuts have seen lower tax takes from corporate and ‘other individuals' compared with a year earlier.
• On 1 October 2010, the GST rate increased from 12.5% to 15%. In addition there was a small increase in consumption over the year resulting in an increase in GST revenue.

Figure 6 - Core Crown tax revenue against forecast

Source: The Treasury

Compared to forecast, core Crown tax revenue was $0.4 billion (0.7%) more than expected. Included in this result were the following items (figure 6):

• Both source deductions tax and GST revenue were higher than expected (by $0.2 billion and $0.5 billion respectively). The source deductions increase was due to stronger wage growth while GST was due to stronger than forecast consumption.
• In contrast, corporate tax and other tax revenue were lower than forecast (by $0.2 billion and $0.1 billion respectively) reflecting weaker than expected business profits and lower than expected customs and excise duties.

Figure 7 - Other revenue

Source: The Treasury

Other Revenue

Other revenue includes other sovereign revenue (eg, ACC levies), sales of goods and services, interest income and dividend income.

Other revenue increased by $6.1 billion over the year to $30.4 billion (figure 7). Of this increase in revenue, $4.2 billion relates to EQC's insurance claim on reinsurers and $0.8 billion relates to an increase in sales of goods and services primarily in the SOE and Crown Entity sectors. However, increases in SOE revenue were largely offset by increases in SOE operating expenses. Likewise, revenue from EQC's reinsurers was more than offset by the increase in insurance expenses (refer the Canterbury Earthquakes section on page 12).

The remainder includes $0.9 billion of increases in ACC levies, Emissions Trading Scheme revenues and interest and dividend revenue (primarily due to the increase in Kiwibank mortgages) ($0.3 billion for each).

Expenses#

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Figure 8 - Core Crown expenses

Source: The Treasury

Total Crown expenses increased by $18.9 billion from the previous year to stand at $100.0 billion. Of this increase, $13.6 billion was due to expenses arising from the Canterbury earthquakes; EQC insurance expenses were $11.7 billion higher than last year due to the Canterbury earthquakes and core Crown spending increased by $1.9 billion due to earthquake-related expenditure (the balance relates to other SOE and Crown entities). A more detailed analysis of earthquake expenses is provided in the Canterbury Earthquakes section below.

Core Crown expenses excluding earthquake-related expenses also increased by $4.5 billion compared to last year (figure 8). Increases in other operating expenses were also evident across the SOE and CE sectors but these increases were largely offset by increases in operating revenue.

Core Crown Expenses

Source: The Treasury

Core Crown expenses increased by $6.4 billion compared to the previous year as illustrated in Table 6. The main drivers of the increase included:

• Canterbury earthquake expenditure of $1.9 billion.
• Health expenses increased by $0.6 billion primarily as a result of new spending initiatives.
• Although education expenses decreased by $0.1 billion overall, this is due to a reversal of impairments on student loans of $0.4 billion. Excluding this impairment, education expenditure has increased by $0.3 billion primarily as a result of new spending initiatives.
• Benefit expenses (excluding earthquake-related benefits) increased by $0.6 billion. This increase was primarily attributable to increases in New Zealand Superannuation which rose by $0.5 billion. $0.3 billion of this increase was due to an increase in the number of recipients while indexation of benefits led to an increase of $0.2 billion. Policy changes also increased expenses marginally.
• The establishment of the Crown's weathertight homes financial assistance package has contributed $0.6 billion in expenses this year.
• Treaty settlements have increased in the current year with $0.5 billion of settlements compared to $0.1 billion in 2010.
• The Emissions Trading Scheme (ETS) saw more NZ Units issued compared with the previous year with more sectors entering into the ETS. In 2009/10 only the forestry sector had entered the Scheme.
• Interest expenses have increased compared to last year due to the higher levels of debt held (gross debt has increased from $53.6 billion to $72.4 billion).

Figure 9 - Core Crown expenses by sector

Source: The Treasury

Compared to expectations in Budget 2011, core Crown expenses were $2.3 billion lower than forecast primarily as a result of:

• Lower-than-forecast earthquake expenses primarily due to delays in assessing and measuring damage. This resulted in $1.2 billion lower expenses than forecast. These expenses are now expected to occur in the next financial year.
• Fewer NZ units were issued under the ETS than forecast resulting in $0.4 billion lower expenses.
• The remainder of this underspend in other operating expenses was across a number of departments and expense types.

Canterbury Earthquakes#

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Operating Balance Impact

The operating deficit before gains and losses included a net cost of $9.1 billion in relation to the Canterbury earthquakes (table 7).

1. Classified as "unallocated" for Budget 2011.

Source: The Treasury

The impact on the OBEGAL consists of $13.6 billion of expenses offset by income (mostly insurance proceeds) of $4.5 billion.

These results do not represent the likely final cost to the Crown arising from the earthquakes, as a number of decisions affecting the cost have still to be made (eg, decisions regarding properties in the Orange zone) or, in the case of local infrastructure costs, have yet to be measured. The total cost is expected to emerge over the next few years as future expenses, such as the cost of the Orange zone, become known.

The major components of this result were:

• EQC insurance costs (net of reinsurance) ($7.5 billion)
• the purchase of residential properties in the Red Zone ($0.7 billion), and
• the AMI support package ($0.3 billion).

On 23 June 2011, the Government announced four zones of land damage in Christchurch and the Waimakariri district (Red, Orange, Green, and White) and its intention to purchase residential property in the Red Zone. The estimated cost of this offer (net of insurance proceeds) was $653 million. Offers made after 30 June 2011 to Orange or White Zone residents are not included in this estimate. Therefore any costs associated with these zones will be recorded in subsequent years.

The Government has agreed to provide back-up support to AMI Insurance in order to give policy holders certainty and to ensure an orderly rebuild of Christchurch. The total amount of the support arrangement was $500 million, of which $335 million represents the portion estimated to be non-recoverable in the event that the support is called on.

Note 30 in these financial statements provides a detailed explanation of the fiscal impact of the earthquakes.

Impact on the National Disaster Fund

The most significant expense recognised in the current financial year relates to the insurance of residential properties by the Earthquake Commission (EQC).

EQC has recorded total insurance expenses of $11.7 billion in the current financial year. Some of these expenses ($4.2 billion) will be met by reinsurers. The majority of the remaining costs are likely to be met by the National Disaster Fund which held around $6 billion prior to the September earthquake. Support will be provided by the Government in the event a shortfall arises in the Fund.

EQC's costs were significantly higher than the $3.1 billion (net of reinsurance) forecast in the May 2011 Budget. This increase reflects an increase in damage estimates for both the February and June earthquakes as building and land damage were estimated to be higher than originally thought.

Charges against the Canterbury Earthquake Recovery Fund

In the 2011 Budget the Government established the Canterbury Earthquake Recovery Fund (CERF) to provide for central government's cost of the earthquakes.

Source: The Treasury

A total of $5.5 billion costs were estimated over a six year period; $2.8 billion of this cost was expected in the current year. Actual costs recorded against the fund this year were $1.6 billion (refer table 8) and includes the estimated cost of purchasing residential property in the Red Zone and the non-recoverable portion of the AMI support package.

While costs recorded against CERF in the current financial year were $1.2 billion less than anticipated, this was primarily caused by delays in assessing and measuring damage. It is therefore likely that this variance will reverse in the next financial year as these assessments are made.

Debt Impact

While the operating deficit increased markedly as a result of the earthquakes, the impact on cash (and net core Crown debt) was much smaller with $1.7 billion paid out during the year. The majority of the cash related to claims payments by EQC ($1.2 billion) out of the National Disaster Fund rather than increasing net core Crown debt.

While a number of expenses are recorded which represent obligations of the Government at 30 June 2011, the cash payments associated with those obligations are made over a longer period of time. Therefore, the full impact on debt is expected to be recorded over a number of years as claims are settled or the rebuild takes place.

Future Costs

The cost of the Government's contribution to repairing essential local infrastructure (fresh water, storm water, waste water, and river management systems) requires judgements on the extent and cost of damage in the Canterbury region, on which information remains limited, and judgements on the approach to rebuilding Christchurch, on which decisions have yet to be made. As a result, costs associated with these repairs have not been included in these financial statements. Instead, a contingent liability has been included in the notes to the financial statements (note 32) describing the types and potential range of costs.

In addition, there are still a number of significant decisions to be made regarding the nature of the reconstruction and rebuild. These decisions will likely have fiscal costs associated with them and they include the need to make decisions on the future of the recently announced orange and white zones.

There will also be expenses which will be incurred in the future, such as demolition costs, as the rebuild of Canterbury continues. These costs will be recognised at the time they are incurred.

It is likely that costs will continue to be recognised over the next few years as these decisions are made and the costs are finalised.

Judgements and Estimations

All financial statements include an element of judgement and estimation. The estimation of claims and provisions arising from the Canterbury earthquakes are key areas of judgement in these financial statements.

Cost estimates have been based on the information available at the time of preparing these financial statements. The largest and most complex valuations have been carried out by independent professional actuaries and represent a best estimate of the costs to date. However the final costs of the Canterbury earthquakes will not be certain for some time and these estimates may differ from those final costs.

Operating Balance#

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This year's operating deficit of $13.4 billion compares with a deficit of $4.5 billion in the previous financial year (figure 10). While an improvement in financial markets in the first part of the year resulted in the Crown recording large net gains for the full year, the increase in earthquake-related expenditure more than offset those gains so that the Crown's deficit has grown. Excluding the impact of the earthquakes ($9.1 billion), the operating balance deficit would have been similar to last year.

Figure 10 - Operating balance

Source: The Treasury

Operating Balance Before Gains and Losses

The operating deficit before gains and losses (OBEGAL) has increased by $12.1 billion to $18.4 billion, primarily as a result of the Canterbury earthquakes.

The OBEGAL deficit is $1.7 billion larger than forecast in Budget 2011. This increased deficit reflects higher than expected total Crown expenses of $3.1 billion offset by $1.4 billion higher revenue. Total Crown expenses exceeded forecast by $3.1 billion primarily due to increases in EQC's insurance costs arising from the Canterbury earthquakes. Small increases in tax revenue and other revenues have contributed to the $1.4 billion higher than forecast revenue. Refer page 8 for further details of revenue movements.

While total Crown expenses have exceeded forecast, core Crown expenses are lower than forecast by $2.3 billion. Refer page 10 for details of core Crown expenses.

Gains and Losses

The Crown recorded net gains of $5.0 billion this year (compared to net gains of $1.8 billion last year).

The total Crown gain of $5.0 billion was $2.3 billion lower than forecast. Subsequent to the finalisation of Budget 2011 forecasts fluctuations in investment markets have seen a decline in investment returns and some previous gains have reversed.

The ACC actuarial gain of $1.0 billion compares with an actuarial gain of $0.4 billion in the previous year. This improvement from the prior year reflects a reduction in the number of claims and the cost of those claims as well as movements in the discount rate.

Each year the Government Superannuation Fund (GSF) estimates the present value of pension commitments that exist in respect of its defined benefit beneficiaries (former public servants). The GSF scheme recorded an actuarial loss of $0.6 billion in 2011 (compared to a loss of $1.2 billion last year and a forecast gain of $0.3 billion). This loss represents an increase in the liability predominantly as a result of changes in actuarial assumptions (meaning that future benefit payments are estimated to be higher than previously assessed).

The NZS Fund, established to part-fund future New Zealand superannuation costs, recorded a gain of $3.5 billion this year contributing to an operating balance of $3.0 billion for the year (refer table 11 below). The investment return for the year was 25.05% (compared to 15.45% last year). This strong return has resulted in an operating balance that was on track with forecast. Since inception the Fund has returned 7.83% (annualised) or 2.23% more than the rolling yield on 90 day Treasury bills.

Debt#

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Figure 11 - Net debt

Source: The Treasury

Net Debt

Net debt increases as a result of cash deficits and declines as a result of cash surpluses. It also fluctuates in line with valuation movements in the underlying financial assets and liabilities of the Crown and movements in the amounts of currency issued to New Zealand banks.

The $13.4 billion increase in net debt over the year (figure 11) was primarily due to additional borrowings and a run-down of assets to meet the residual cash deficit of $13.3 billion recorded this year (refer table 13).

The residual cash deficit was $1.6 billion lower than forecast and $4.3 billion larger than last year.

Table 14 summarises the movement in residual cash over the year. Specifically:

• Core Crown tax receipts were $0.8 billion higher than last year consistent with the increase in core Crown tax revenue.
• Benefit payments have increased by $0.6 billion in line with the increase in benefit expenses.
• While core Crown expenses have increased by $6.4 billion, other operating cash payments have only increased by $4.5 billion. This is due to a number of these increases not having an immediate cash impact (eg, earthquake related provisions, the weathertight homes financial assistance package and the increase in the ETS provision).
• Offsetting the increase in the residual cash deficit was the reduction in contributions to the NZS Fund.

Source: The Treasury

Figure 12 - Reconciliation of the operating deficit and core Crown residual cash for the year ended 30 June 2011 ($ billion)

Gross Debt

Figure 13 - Gross debt

Source: The Treasury

Gross debt at 30 June 2011 was $18.8 billion higher than a year earlier (figure 13). The majority of this increase came from the issue of $19.5 billion of domestic market bonds (New Zealand Government bonds). No repayments of market domestic bonds were made during the year. When combined with the proceeds from non-market domestic bonds, the net issuance of domestic bonds increased gross debt by $18.9 billion (table 15).

The New Zealand Debt Management Office (NZDMO) increased the 2010/11 domestic bond programme by $1 billion to $13.5 billion in December 2010. The 2011 Budget approved a further $6 billion increase, allowing the issue of bonds up to $20 billion. These increases enabled the NZDMO to continue issuance over the fiscal year in line with market demand and means borrowing requirements in future years will be less than they would have needed to be in the absence of this additional pre-emptive borrowing. Net debt did not increase by the same amount as gross debt because surplus proceeds from these bond issuances were invested in financial assets.

Net Worth#

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Figure 14 - Net worth

Source: The Treasury

While assets increased by $21.9 billion, a $36.0 billion increase in liabilities and the continuation of operating deficits resulted in a decrease in the Crown's net worth for the third consecutive year (figure 14).

Assets grew by just under 10% (compared to 3% in the previous year). Financial assets increased by $19.4 billion while the property, plant and equipment held by the Crown increased by $1.5 billion. Growth in assets was mainly due to the increase in marketable securities from the increase in bond issues during the year.

Growth in liabilities at 28% was mainly due to an increase in gross debt as discussed in the previous section. Earthquake obligations have also contributed to this increase.

The composition of the balance sheet has changed from last year with property, plant and equipment and borrowings now making up 47% of assets and 55% of liabilities respectively (51% and 54% last year).

Assets

Figure 15 - Total Crown assets

Source: The Treasury

Total Crown assets increased by $21.9 billion this year to reach $245.2 billion at 30 June 2011 (figure 15).

Property, plant and equipment increased by $1.5 billion (1.3%) since 2010. Asset purchases of $6.6 billion were offset by depreciation of $3.7 billion and disposals of $0.4 billion. The remaining movements related to asset revaluations and foreign exchange movements.

Significant asset purchases by sector were:

• Transport and communications - including state highways and KiwiRail ($2.8 billion)
• Economic and industrial - including the energy SOE's ($2.0 billion)
• Education - including school property ($0.6 billion)
• Health - including hospitals ($0.6 billion)
• Law and order - including correctional facilities ($0.4 billion).

Asset revaluations across asset classes resulted in downwards revaluations with the exception of the Crown's electricity generation assets. Of these asset classes, State highways and buildings were the largest of the downwards revaluations.

Financial assets (eg, advances) increased by $19.4 billion over the year. The largest contributor to the increase related to ‘other receivables' which increased by $6.9 billion from June 2010 due to insurance claims receivable from reinsurers of $4.2 billion and $0.7 billion estimate of recoveries from receiverships under the deposit guarantee scheme. Cash and marketable securities and derivatives in gain increased by $7.4 billion due to increased borrowings over the year. The value of Kiwibank's mortgage book rose by $1.0 billion while increases in the value of share investments also contributed $2.0 billion to the increase in financial assets.

Other assets (including intangible assets, equity accounted investments and inventory) increased by $0.9 billion. The largest increase was in relation to the Crown's investment in Tertiary Education Institutions which increased $0.2 billion reflecting the increase in the net worth of these entities.

Figure 16 - Total Crown liabilities

Source: The Treasury

Liabilities

Total Crown liabilities increased by $36.0 billion (28.0%) compared to June 2010 (figure 16). The largest driver of the increase related to borrowings (an increase of $20.5 billion or 29.4%).

Borrowings are a combination of gross debt (discussed earlier), the financial liabilities of Crown entities and SOE's and liabilities associated with the Reserve Bank's settlement cash and bank bills.

Table 18 summarises the increase in borrowings over the year. While gross debt[4] increased by $18.8 billion, a portion of that increase related to debt held by other government reporting entities (which are excluded from total Crown borrowings). In addition, Reserve Bank settlement cash and Reserve Bank bills decreased by $0.4 billion over the year and Kiwibank deposits increased by $1.0 billion (mirroring the increase in their loan book).

Source: The Treasury

The ACC claims liability remained static in comparison to the previous year.

Other liabilities (eg, accounts payable) increased by $15.5 billion. The main increase was in relation to EQC's insurance liability and the AMI financial support package increasing insurance liabilities from $0.1 billion to $12.3 billion. In addition earthquake-related provisions increased other liabilities by $1.2 billion. Other increases in liabilities were offset by a $0.7 billion reduction in the deposit guarantee scheme payment provision arising from payments to guaranteed depositors during the year.

Historical Financial Information#

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Report of the Auditor General#

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To the Readers of the Financial Statements of the Government of New Zealand for the year ended 30 June 2011#

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I have audited the financial statements of the Government of New Zealand for the year ended 30 June 2011 using my staff, resources and appointed auditors and their staff.

The financial statements of the Government of New Zealand on pages 30 to 180 comprise:

• the annual financial statements that include the statement of financial position as at 30 June 2011, the statement of financial performance, analysis of expenses by functional classification, statement of comprehensive income, statement of changes in net worth and statement of cash flows for the year ended on that date, a statement of segments, and the notes to the financial statements that include accounting policies, a statement of borrowings in note 24, and other explanatory information; and
• the statement of unappropriated expenditure, statement of expenses or capital expenditure incurred in emergencies and statement of trust money.

Opinion

In my opinion, the financial statements of the Government of New Zealand on pages 30 to 180:

• comply with generally accepted accounting practice in New Zealand; and
• fairly reflect the Government of New Zealand's:
  • financial position as at 30 June 2011;
  • financial performance and cash flows for the year ended on that date; and
  • the borrowings as at 30 June 2011, and unappropriated expenditure, expenses or capital expenditure incurred in emergencies, and trust money managed by the Government, for the year ended on that date.

Emphasis of matter - uncertainties due to the Canterbury earthquakes

Without modifying my opinion, I draw your attention to note 30 to the financial statements about the effects of the Canterbury earthquakes. The most significant effects of the earthquakes relate to the Earthquake Commission (EQC), the AMI support package, the Canterbury residential red zone support package, and the government's share of local authority costs in response to the earthquakes and its share of costs for restoring local authority infrastructure damaged by the earthquakes.

The note describes:

• the inherent uncertainties involved in estimating EQC's and AMI's earthquake related outstanding claims liabilities and reinsurance receivables, using actuarial assumptions (see notes 30a and 30c);
• the inherent uncertainties involved in estimating the provision resulting from the government's offer to purchase properties in the Canterbury residential red zone, using actuarial assumptions (see note 30b); and
• the high level of uncertainty associated with the government's share of costs for restoring local authority infrastructure damaged by the earthquakes (see note 30d). The uncertainty is such that it is not possible to reliably estimate the costs; therefore a provision has not been recognised for them. Instead, there is disclosure of a contingent liability for these unquantifiable costs.

I consider the disclosures about the uncertainties related to the Canterbury earthquakes to be adequate.

My audit was completed on 30 September 2011. This is the date at which my opinion is expressed.

The basis of my opinion is explained below. In addition, I outline the responsibilities of the Treasury and the Minister of Finance, and my responsibilities, and I explain my independence.

Basis of opinion

Using my staff and appointed auditors and their staff, I have carried out the audit in accordance with the Auditor-General’s Auditing Standards, which incorporate the International Standards on Auditing (New Zealand). Those standards require ethical requirements to be complied with. They also require me to plan and carry out the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.

Material misstatements are differences or omissions of amounts and disclosures that would affect a reader's overall understanding of the financial statements. If material misstatements had been found that were not corrected, I would have referred to them in my opinion.

An audit involves carrying out procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the judgements of my staff and appointed auditors and their staff. Also, the procedures depend on my judgement, including my assessment of risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments I consider internal control relevant to the Treasury’s preparation of the financial statements that fairly reflect the matters to which they relate. I consider internal control in order to design audit procedures that are appropriate in the circumstances but not for the purpose of expressing an opinion on the effectiveness of the Treasury’s internal control.

An audit also involves evaluating:

• the appropriateness of accounting policies used and whether they have been consistently applied;
• the reasonableness of the significant accounting estimates and judgements made;
• the adequacy of all disclosures in the financial statements; and
• the overall presentation of the financial statements.

My staff and appointed auditors and their staff did not examine every transaction. Therefore, I do not guarantee complete accuracy of the financial statements. I have obtained all the information and explanations I have required and I believe I have obtained sufficient and appropriate audit evidence to provide a basis for my audit opinion.

Responsibilities of the Treasury and the Minister of Finance

The Treasury is responsible for preparing financial statements of the Government that:

• comply with generally accepted accounting practice in New Zealand;
• fairly reflect the Government's financial position, financial performance and cash flows; and
• fairly reflect the Government's borrowings, unappropriated expenditure, expenses or capital expenditure incurred in emergencies, and trust money.

The Treasury is also responsible for such internal control as it determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error.

The Minister of Finance is responsible for forming an opinion that the financial statements fairly reflect the financial position and financial performance of the Government.

The responsibilities of the Treasury and the Minister of Finance arise from the Public Finance Act 1989.

Responsibilities of the Auditor

I am responsible for expressing an independent opinion on the financial statements of the Government and reporting that opinion to you based on my audit. My responsibility arises from section 15 of the Public Audit Act 2001 and section 30 of the Public Finance Act 1989.

Independence

As an Officer of Parliament, I am constitutionally and operationally independent of the Government. Prior to commencing my role as Auditor-General on 5 October 2009, I was Deputy Commissioner of the New Zealand Police. Thus the Deputy Auditor-General deals with all matters relating to the New Zealand Police or the Independent Police Conduct Authority. Other than this matter, and in exercising functions and powers under the Public Audit Act 2001 as the auditor of public entities, I have no relationship with or interests in the Government.

 

Lyn Provost
Controller and Auditor-General
Wellington, New Zealand

Audited Financial Statements#

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Statement of Financial Performance#

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for the year ended 30 June 2011

The accompanying notes (including accounting policies) are an integral part of these statements.

Statement of Comprehensive Income#

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for the year ended 30 June 2011

The accompanying notes (including accounting policies) are an integral part of these statements.

Analysis of Expenses by Functional Classification#

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for the year ended 30 June 2011

Below is an analysis of core Crown expenses by functional classification. Core Crown expenses include expenses incurred by Ministers, Departments, Offices of Parliament, the NZS Fund and the Reserve Bank, but not Crown entities and State-owned enterprises.

The accompanying notes (including accounting policies) are an integral part of these statements.

Statement of Cash Flows#

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for the year ended 30 June 2011

The accompanying notes (including accounting policies) are an integral part of these statements.

1. Net issues of Government stock and treasury bills is after elimination of holdings by entities such as NZS Fund, ACC and EQC. Further information on the proceeds and repayments of Government stock ("domestic bonds") is available on page 183.

The accompanying notes (including accounting policies) are an integral part of these statements.

The accompanying notes (including accounting policies) are an integral part of these statements.

Statement of Changes in Net Worth#

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for the year ended 30 June 2011

The accompanying notes (including accounting policies) are an integral part of these statements.

Statement of Financial Position#

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as at 30 June 2011

The accompanying notes (including accounting policies) are an integral part of these statements.

Statement of Segments#

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Notes to the Financial Statements#

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Note 1: Summary of Accounting Policies

These financial statements are prepared in accordance with the Public Finance Act 1989 and with New Zealand generally accepted accounting practice (NZ GAAP). For this purpose, the Government reporting entity is designated as a public benefit entity. These financial statements comply with New Zealand equivalents to International Financial Reporting Standards (NZ IFRS) as appropriate for public benefit entities.

These financial statements were authorised for issue by the Minister of Finance on 30 September 2011.

Reporting Entity

The consolidated financial statements for the Government reporting entity (financial statements of the Government of New Zealand), as defined in section 2(1) of the Public Finance Act 1989, means:

• the Sovereign in right of New Zealand, and
• the legislative, executive, and judicial branches of the Government of New Zealand.

The description “consolidated financial statements for the Government reporting entity” and the description “financial statements of the Government” have the same meaning and can be used interchangeably.

Basis of Preparation

The financial statements have been prepared on the basis of historic cost modified by the revaluation of certain assets and liabilities.

The financial statements are prepared on an accrual basis.

The financial statements are presented in New Zealand dollars rounded to the nearest million, unless separately identified.

Judgements and Estimations

The preparation of these financial statements requires judgements, estimates and assumptions that affect the application of policies and reported amounts of assets and liabilities, income and expenses. For example, the present value of large cash flows that are predicted to occur a long time into the future, as with the settlement of ACC outstanding claim obligations and Government Superannuation retirement benefits, depends critically on judgements regarding future cash flows, including inflation assumptions and the risk free discount rate used to calculate present values. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates.

A second area of uncertainty relates to the immature nature of the claims experience available to assist in estimating the claims and provisions arising from the Canterbury earthquakes. Actuarial valuations of these liabilities using the best available information have been used, however it is common in such cases for adjustments to be required as the claims experience develops.

The estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised, if the revision affects only that period, or in the period of the revision and future periods if the revision affects both current and future periods.

Where these judgements significantly affect the amounts recognised in the financial statements they are described below and in the following notes.

Early Adoption Standards and Interpretations

The Government has elected to early-adopt all NZ IFRSs and Interpretations applicable to public benefit entities that had been approved by the New Zealand Accounting Standards Review Board as at 30 June 2011 but that are not yet effective, with the exception of NZ IFRS 9: Financial Instruments. The first of three phases of this new standard (which is incomplete as at 30 June 2011) were approved by the Accounting Standards Review Board in November 2009 and November 2010. The standard addresses the issues of classification and measurement of financial assets and financial liabilities and becomes effective for annual reporting periods commencing on or after 1 January 2013.

An initial assessment of standards approved since 30 June 2010 do not indicate any issues which would have a material impact on these financial statements.

Significant Accounting Policies

Reporting and Forecast Period

The reporting and forecast period for the financial statements of the Government of New Zealand is the financial year from 1 July to 30 June.

Where necessary the financial information for State-owned enterprises and Crown entities that have a balance date other than 30 June has been adjusted for any transactions or events that have occurred since their most recent balance date and that are significant for the Government's financial statements. Such entities are primarily in the education sector.

Basis of Combination

These financial statements combine the following entities using the acquisition method of combination:

Core Crown entities

• Ministers of the Crown
• Government departments
• Offices of Parliament
• the Reserve Bank of New Zealand
• New Zealand Superannuation Fund

Other entities

• State-owned enterprises
• Crown entities (excluding Tertiary Education Institutions)
• Air New Zealand Limited
• AMI Insurance Limited
• Organisations listed in Schedule 4 of the Public Finance Act 1989

Corresponding assets, liabilities, income and expenses, are added together line by line. Transactions and balances between these sub-entities are eliminated on combination. Where necessary, adjustments are made to the financial statements of subsidiaries to bring the accounting policies into line with those used by the Government reporting entity.

Tertiary education institutions are equity accounted for the reasons explained in the notes to the financial statements. This treatment recognises these entities' net assets, including asset revaluation movements, surpluses and deficits.

The basis of combination for joint ventures depends on the form of the joint venture.

• Jointly controlled operations: The Government reporting entity recognises the assets it controls, the liabilities and expenses that it incurs, and its share of the jointly controlled operations' income.
• Jointly controlled assets: The Government reporting entity recognises its share of the jointly controlled assets, its share of any liabilities and expenses incurred jointly, any other liabilities and expenses it has incurred in respect of the jointly controlled asset, and income from the sale or use of its share of the output of the jointly controlled asset.
• Jointly controlled entities: Jointly controlled entities are equity accounted, whereby the Government reporting entity initially recognises its share of interest in these entities' net assets at cost and subsequently adjusts the cost for changes in net assets. The Government reporting entity's share of the jointly controlled entities' surpluses and deficits are recognised in the statement of financial performance.

Income

Taxation revenue levied through the Crown's sovereign power

The Government provides many services and benefits that do not give rise to revenue. Further, payment of tax does not of itself entitle a taxpayer to an equivalent value of services or benefits, since there is no relationship between paying tax and receiving Crown services and transfers. Such revenue is received through the exercise of the sovereign power of the Crown in Parliament.

Where possible, taxation revenue is recognised at the time the debt to the Crown arises.

Revenue earned through operations

Revenue from the supply of goods and services to third parties is measured at the fair value of consideration received. Revenue from the supply of goods is recognised when the significant risks and rewards of ownership have been transferred to the buyer. Revenue from the supply of services is recognised on a straight-line basis over the specified period of the services unless an alternative method better represents the stage of completion of the transaction.

Interest income

Interest income is accrued using the effective interest rate method.

The effective interest rate exactly discounts estimated future cash receipts through the expected life of the financial asset to that asset's net carrying amount. The method applies this rate to the principal outstanding to determine interest income each period.

Dividend income

Dividend income from investments is recognised when the Government's rights as a shareholder to receive payment have been established.

Rental income

Rental income is recognised in the statement of financial performance on a straight-line basis over the term of the lease. Lease incentives granted are recognised evenly over the term of the lease as a reduction in total rental income.

Donated or subsidised assets

Where an asset is acquired for nil or nominal consideration, the fair value of the asset received is recognised as income in the statement of financial performance.

 

Expenses

General

Expenses are recognised in the period to which they relate.

Welfare benefits and entitlements

Welfare benefits and entitlements, including New Zealand Superannuation, are recognised in the period when an application for a benefit has been received and the eligibility criteria met.

Grants and subsidies

Where grants and subsidies are discretionary until payment, the expense is recognised when the payment is made. Otherwise, the expense is recognised when the specified criteria have been fulfilled and notice has been given to the Crown.

Interest expense

Interest expense is accrued using the effective interest rate method.

The effective interest rate exactly discounts estimated future cash payments through the expected life of the financial liability to that liability's net carrying amount. The method applies this rate to the principal outstanding to determine interest expense each period.

Foreign Currency

Transactions in foreign currencies are initially translated at the foreign exchange rate at the date of the transaction. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year-end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the statement of financial performance, except when recognised in the statement of comprehensive income when hedge accounting is applied.

Non-monetary assets and liabilities measured at historical cost in a foreign currency are translated using the exchange rate at the date of the transaction. Non-monetary assets and liabilities denominated in foreign currencies and measured at fair value are translated into New Zealand dollars at the exchange rate applicable at the fair value date. The associated foreign exchange gains or losses follow the fair value gains or losses to either the statement of financial performance or the statement of comprehensive income.

Foreign exchange gains and losses arising from translating monetary items that form part of the net investment in a foreign operation are reported in a translation reserve in net worth and recognised in the statement of comprehensive income.

Sovereign Receivables and Taxes Repayable#

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Receivables from taxes, levies and fines (and any penalties associated with these activities) as well as social benefit receivables which do not arise out of a contract are collectively referred to as sovereign receivables.

Sovereign receivables are initially assessed at nominal amount or face value; that is, the receivable reflects the amount of tax owed, levy, fine charged, or social benefit debt payable. These receivables are subsequently adjusted for penalties and interest as they are charged, and tested for impairment. Interest and penalties charged on tax receivables are presented as tax revenue in the statement of financial performance.

Taxes repayable represent refunds due to taxpayers and are recognised at their nominal value. They are subsequently adjusted for interest once account and refund reviews are complete.

Financial instruments#

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Financial assets

Financial assets are designated into the following categories: loans and receivables, financial assets available-for-sale, financial assets held-for-trading, and financial assets designated as fair value through profit and loss. This designation is made by reference to the purpose of the financial instruments, policies and practices for their management, their relationship with other instruments and the reporting costs and benefits associated with each designation.

The maximum loss due to default on any financial asset is the carrying value reported in the statement of financial position.

Loans and receivables are recognised initially at fair value plus transaction costs and subsequently measured at amortised cost using the effective interest rate method (refer interest income policy). Loans and receivables issued with a duration of less than 12 months are recognised at their nominal value, unless the effect of discounting is material. Allowances for estimated irrecoverable amounts are recognised when there is objective evidence that the asset is impaired. Interest, impairment losses and foreign exchange gains and losses are recognised in the statement of financial performance.

Financial assets held-for-trading and financial assets designated as fair value through profit or loss are recorded at fair value with any realised and unrealised gains or losses recognised in the statement of financial performance.

A financial asset is designated as fair value through profit and loss if acquired principally for the purpose of trading in the short term. It may also be designated into this category if the accounting treatment results in more relevant information because it either significantly reduces an accounting mismatch with related liabilities or is part of a group of financial assets that is managed and evaluated on a fair value basis, such as with the NZ Superannuation Fund. Gains or losses from interest, foreign exchange and other fair value movements are separately reported in the statement of financial performance. Transaction costs are expensed as they are incurred.

Available-for-sale financial assets are initially recorded at fair value plus transaction costs. They are subsequently recorded at fair value with any resultant fair value gains or losses recognised in the statement of comprehensive income with some exceptions. Those exceptions are for impairment losses, any interest calculated using the effective interest method and, in the case of monetary items (such as debt securities), foreign exchange gains and losses resulting from translation differences due to changes in amortised cost of the asset. These latter items are recognised in the statement of financial performance. For non-monetary available-for-sale financial assets (eg, some unlisted equity instruments) the fair value movements recognised in the statement of comprehensive income include any related foreign exchange component. At derecognition, the cumulative fair value gain or loss previously recognised in the statement of comprehensive income, is recognised in the statement of financial performance.

Cash and cash equivalents include cash on hand, cash in transit, bank accounts and deposits with an original maturity of no more than three months.

Fair values of quoted investments are based on current bid prices. Regular way purchases and sales of all financial assets are accounted for at trade date. If the market for a financial asset is not active, fair values for initial recognition and, where appropriate, subsequent measurement are established by using valuation techniques, as set out in the notes to the financial statements. At each balance date an assessment is made whether there is objective evidence that a financial asset or group of financial assets is impaired.

Financial liabilities

Financial liabilities held for trading and financial liabilities designated as fair value through profit and loss are recorded at fair value with any realised and unrealised gains or losses recognised in the statement of financial performance. A financial liability is designated as fair value through profit and loss if acquired principally for the purpose of trading in the short term. It may also be designated into this category if the accounting treatment results in more relevant information because it either eliminates or significantly reduces an accounting mismatch with related assets or is part of a group of financial liabilities that is managed and evaluated on a fair value basis. Gains or losses from interest, foreign exchange and other fair value movements are separately reported in the statement of financial performance. Transaction costs are expensed as they are incurred.

Other financial liabilities are recognised initially at fair value less transaction costs and subsequently measured at amortised cost using the effective interest rate method. Financial liabilities entered into with durations of less than 12 months are recognised at their nominal value. Amortisation and, in the case of monetary items, foreign exchange gains and losses, are recognised in the statement of financial performance as is any gain or loss when the liability is derecognised.

Currency issued for circulation, including demonetised currency after 1 July 2004, is recognised at face value. Currency issued represents a liability in favour of the holder.

Derivatives

Derivative financial instruments are recognised both initially and subsequently at fair value. They are reported as either assets or liabilities depending on whether the derivative is in a net gain or net loss position respectively. Recognition of the movements in the value of derivatives depends on whether the derivative is designated as a hedging instrument and, if so, the nature of the item being hedged (see Hedging section below).

Derivatives that are not designated for hedge accounting are classified as held-for-trading financial instruments with fair value gains or losses recognised in the statement of financial performance. Such derivatives may be entered into for risk management purposes, although not formally designated for hedge accounting, or for tactical trading.

Hedging

Individual entities consolidated within the Government reporting entity apply hedge accounting after considering the costs and benefits of adopting hedge accounting, including:

• whether an economic hedge exists and the effectiveness of that hedge
• whether the hedge accounting qualifications could be met, and
• the extent to which it would improve the relevance of reported results.

Transactions between entities within the Government reporting entity do not qualify for hedge accounting in the financial statements of the Government (although they may qualify for hedge accounting in the separate financial statements of the individual entities). Where a derivative is used to hedge the foreign exchange exposure of a monetary asset or liability, the effects of the hedge relationship are automatically reflected in the statement of financial performance so hedge accounting is not necessary.

(a) Cash flow hedge

Where a derivative qualifies as a hedge of variability in asset or liability cash flows (cash flow hedge), the effective portion of any gain or loss on the derivative is recognised in the statement of comprehensive income and the ineffective portion is recognised in the statement of financial performance. Where the hedge of a forecast transaction subsequently results in the recognition of a non-financial asset or non-financial liability (eg, where the hedge relates to the purchase of an asset in a foreign currency), the amount recognised in the statement of comprehensive income is included in the initial cost of the asset or liability. Otherwise, gains or losses recognised in the statement of comprehensive income transfer to the statement of financial performance in the same period as when the hedged item affects the statement of financial performance (eg, when the forecast sale occurs). Effective portions of the hedge are recognised in the same area of the statement of financial performance as the hedged item.

When a hedging instrument expires or is sold, or when a hedge no longer meets the criteria for hedge accounting, any cumulative gain or loss existing in net worth at that time remains in net worth and is recognised when the forecast transaction is ultimately recognised in the statement of financial performance. When a forecast transaction is no longer expected to occur, the cumulative gain or loss that was reported in the statement of comprehensive income is transferred to the statement of financial performance.

(b) Fair value hedge

Where a derivative qualifies as a hedge of the exposure to changes in fair value of an asset or liability (fair value hedge) any gain or loss on the derivative is recognised in the statement of financial performance together with any changes in the fair value of the hedged asset or liability.

The carrying amount of the hedged item is adjusted by the fair value gain or loss on the hedged item in respect of the risk being hedged. Effective parts of the hedge are recognised in the same area of the statement of financial performance as the hedged item.

Note 1: Summary of Accounting Policies (continued)#

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Inventories#

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Inventories are recorded at the lower of cost (calculated using a weighted average method) and net realisable value. Inventories held for distribution for public benefit purposes are recorded at cost, adjusted where applicable for any loss of service potential. Where inventories are acquired at no cost, or for nominal consideration, the cost is deemed to be the current replacement cost at the date of acquisition.

Inventories include unissued currency and harvested agricultural produce (eg, logs and wool).

The cost of harvested agricultural produce is measured at fair value less estimated costs to sell at the point of harvest.

Property, Plant and Equipment (PPE)#

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Items of property, plant and equipment are initially recorded at cost. Cost may include transfers from net worth of any gains or losses on qualifying cash flow hedges of foreign currency purchases of property, plant and equipment. Where an asset is acquired for nil or nominal consideration the asset is recognised initially at fair value, where fair value can be reliably determined, and as income in the statement of financial performance.

Revaluations are carried out for a number of classes of property, plant and equipment to reflect the service potential or economic benefit obtained through control of the asset. Revaluation is based on the fair value of the asset, with changes reported by class of asset.

Subsequent to initial recognition, classes of property, plant and equipment are accounted for as set out below.

Classes of property, plant and equipment that are revalued, are revalued at least every five years or whenever the carrying amount differs materially to fair value.

Items of property are revalued to fair value for the highest and best use of the item on the basis of the market value of the item, or on the basis of market evidence, such as discounted cash flow calculations. If no market evidence of fair value exists, an optimised depreciated replacement cost approach is used as the best proxy for fair value. Where an item of property is recorded at its optimised depreciated replacement cost, this cost is based on the estimated present cost of constructing the existing item of property by the most appropriate method of construction, less allowances for physical deterioration and optimisation for obsolescence and relevant surplus capacity. Where an item of property is recorded at its optimised depreciated replacement cost, the cost does not include any borrowing costs.

Unrealised gains and losses arising from changes in the value of property, plant and equipment are recognised as at balance date. To the extent that a gain reverses a loss previously charged to the statement of financial performance for the asset class, the gain is credited to the statement of financial performance. Otherwise, gains are credited to an asset revaluation reserve for that class of asset. To the extent that there is a balance in the asset revaluation reserve for the asset class any loss is debited to the reserve. Otherwise, losses are reported in the statement of financial performance.

Realised gains and losses arising from disposal of property, plant and equipment are recognised in the statement of financial performance in the period in which the transaction occurs. Any balance attributable to the disposed asset in the asset revaluation reserve is transferred to taxpayer funds.

Generally, Government borrowings are not directly attributable to individual assets. Therefore, any borrowing costs incurred during the period required to complete and prepare assets for their intended use are expensed rather than capitalised.

Where an asset's recoverable amount is less than its carrying amount, it is reported at its recoverable amount and an impairment loss is recognised. The main reason for holding some assets (for example, electricity generation assets) is to generate cash. For these assets the recoverable amount is the higher of the amount that could be recovered by sale (after deducting the costs of sale) or the amount that will be generated by using the asset through its useful life. Some assets do not generate cash (for example, state highways) and for those assets, depreciated replacement cost is used. Losses resulting from impairment are reported in the statement of financial performance, unless the asset is carried at a revalued amount in which case any impairment loss is treated as a revaluation decrease.

Depreciation is charged on a straight-line basis at rates calculated to allocate the cost or valuation of an item of property, plant and equipment, less any estimated residual value, over its remaining useful life.

Typically, the estimated useful lives of different classes of property, plant and equipment are as follows:

Specified heritage and cultural assets are generally not depreciated.

Equity Accounted Investments#

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The applicable financial reporting standards that determine the basis of combination of entities that make up the Government reporting entity are NZ IAS 27: Consolidated and Separate Financial Statements and NZ IAS 28: Investments in Associates. NZ IAS 27 refers to guidance provided in IPSAS 6: Consolidated and Separate Financial Statements and FRS 37: Consolidating Investments in Subsidiaries which shall be used by public benefit entities in determining whether they control another entity.

These standards are, however, not clear about how the definitions of control and significant influence should be applied in some circumstances in the public sector, particularly where legislation provides public sector entities with statutory autonomy and independence, in particular with Tertiary Education Institutions. Treasury's view is that because the Government cannot determine its operating and financing policies, but does have a number of powers in relation to these entities, it is appropriate to treat them as associates.

Biological Assets#

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Biological assets (eg, trees and sheep) managed for harvesting into agricultural produce (eg, logs and wool) or for transforming into additional biological assets are measured at fair value less estimated costs to sell, with any realised and unrealised gains or losses reported in the statement of financial performance. Where fair value cannot be reliably determined, the asset is recorded at cost less accumulated depreciation and accumulated impairment losses. For commercial forests, fair value takes into account age, quality of timber and the forest management plan.

Biological assets not managed for harvesting into agricultural produce, or being transformed into additional biological assets are reported as property, plant and equipment in accordance with the policies for property, plant and equipment.

Intangible Assets#

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Intangible assets are initially recorded at cost. Where an intangible asset is created for nil or nominal consideration it is also initially carried at cost, which by definition is nil/nominal.

The cost of an internally generated intangible asset represents expenditure incurred in the development phase of the asset only. The development phase occurs after the following can be demonstrated: technical feasibility; ability to complete the asset; intention and ability to sell or use; and development expenditure can be reliably measured. Research is “original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding”. Expenditure incurred on the research phase of an internally generated intangible asset is expensed when it is incurred. Where the research phase cannot be distinguished from the development phase, the expenditure is expensed when it is incurred.

The Government's holdings of assigned amount units arising from the Kyoto protocol are reported at fair value. Other intangible assets with finite lives are subsequently recorded at cost less any amortisation and impairment losses. Amortisation is charged to the statement of financial performance on a straight-line basis over the useful life of the asset. Typically, the estimated useful life of computer software is three to five years.

Intangible assets with indefinite useful lives are not amortised, but are tested at least annually for impairment.

Realised gains and losses arising from disposal of intangible assets are recognised in the statement of financial performance in the period in which the transaction occurs.

Intangible assets with finite lives are reviewed at least annually to determine if there is any indication of impairment. Where an intangible asset's recoverable amount is less than its carrying amount, it is reported at its recoverable amount and an impairment loss is recognised. Losses resulting from impairment are reported in the statement of financial performance.

Goodwill is tested for impairment annually.

Note 1: Summary of Accounting Policies (continued)#

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Non-current Assets Held for Sale and Discontinued Operations#

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Non-current assets or disposal groups are separately classified where their carrying amount will be recovered through a sale transaction rather than continuing use; that is, where such assets are available for immediate sale and where sale is highly probable. Non-current assets or disposal groups are recorded at the lower of their carrying amount and fair value less costs to sell.

Investment Property#

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Investment property is property held primarily to earn rentals or for capital appreciation or both. It does not include property held primarily for strategic purposes or to provide a social service (eg, affordable housing) even though such property may earn rentals or appreciate in value - such property is reported as property, plant and equipment.

Investment properties are measured at fair value. Gains or losses arising from fair value changes are included in the statement of financial performance. Valuations are undertaken in accordance with standards issued by the New Zealand Property Institute.

Employee Benefits#

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Pension liabilities

Obligations for contributions to defined contribution retirement plans are recognised in the statement of financial performance as they fall due. Obligations for defined benefit retirement plans are recorded at the latest actuarial value of the Crown liability. All movements in these liabilities, including actuarial gains and losses, are recognised in full in the statement of financial performance in the period in which they occur.

Other employee entitlements

Employee entitlements to salaries and wages, annual leave, long service leave, retiring leave and other similar benefits are recognised in the statement of financial performance when they accrue to employees. Employee entitlements to be settled within 12 months are reported at the amount expected to be paid. The liability for long-term employee entitlements is reported as the present value of the estimated future cash outflows.

Termination benefits

Termination benefits are recognised in the statement of financial performance only when there is a demonstrable commitment to either terminate employment prior to normal retirement date or to provide such benefits as a result of an offer to encourage voluntary redundancy. Termination benefits settled within 12 months are reported at the amount expected to be paid, otherwise they are reported as the present value of the estimated future cash outflows.

Insurance Contracts#

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The future cost of outstanding insurance claims liabilities are valued annually based on the latest actuarial information. The estimate includes estimated payments associated with claims reported and accepted, claims incurred but not reported, claims that may be re-opened, and the costs of managing these claims. Movements of the claims liabilities are reflected in the statement of financial performance. Financial assets backing these liabilities are designated at fair value through profit and loss.

Reinsurance

Premiums paid to reinsurers are recognised as reinsurance expense in the statement of financial performance from the attachment date over the period of indemnity of the reinsurance contract, in accordance with the expected pattern of the incidence of risk. Prepaid reinsurance premiums are included in prepayments in the Statement of Financial Position.

Reinsurance and other recoveries receivable

Reinsurance and other recoveries receivable on paid claims, reported claims not yet paid, and unexpired risk liabilities are recognised as income in the statement of financial performance.

Recoveries receivable are assessed in a manner similar to the assessment of outstanding claims and are measured as the present value of the expected future receipts.

Deferred Acquisition Costs#

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Accident compensation and earthquake commission levies are imposed through regulation and do not attract acquisition costs. Costs incurred in obtaining other insurance contracts are deferred and recognised as assets where they can be reliably measured and where it is probable that they will give rise to premium revenue that will be recognised in the Statement of Comprehensive Income in subsequent reporting periods.

Deferred acquisition costs are amortised systematically in accordance with the expected pattern of the incidence of risk under the insurance contracts to which they relate. This pattern of amortisation corresponds to the earning pattern of the corresponding premium revenue. Risks under the Group's general insurance contracts cover a period of up to 12 months, therefore, deferred acquisition costs are amortised within 1 year.

Leases#

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Finance leases transfer, to the Crown as lessee, substantially all the risks and rewards incident on the ownership of a leased asset. Initial recognition of a finance lease results in an asset and liability being recognised at amounts equal to the lower of the fair value of the leased property or the present value of the minimum lease payments. The capitalised values are amortised over the period in which the Crown expects to receive benefits from their use.

Operating leases, where the lessor substantially retains the risks and rewards of ownership, are recognised in a systematic manner over the term of the lease. Leasehold improvements are capitalised and the cost is amortised over the unexpired period of the lease or the estimated useful life of the improvements, whichever is shorter. Lease incentives received are recognised evenly over the term of the lease as a reduction in rental expense.

Other Liabilities and Provisions#

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Other liabilities and provisions are recorded at the best estimate of the expenditure required to settle the obligation. Liabilities and provisions to be settled beyond 12 months are recorded at the present value of their estimated future cash outflows.

Contingent Liabilities and Contingent Assets#

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Contingent liabilities and contingent assets are reported at the point at which the contingency is evident or when a present liability is unable to be measured with sufficient reliability to be recorded in the financial statements (unquantifiable liability). Contingent liabilities, including unquantifiable liabilities, are disclosed if the possibility that they will crystallise is not remote. Contingent assets are disclosed if it is probable that the benefits will be realised.

Commitments#

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Commitments are future expenses and liabilities to be incurred on contracts that have been entered into at balance date.

Cancellable commitments that have penalty or exit costs explicit in the agreement on exercising the option to cancel are reported at the value of that penalty or exit cost (ie, the minimum future payments).

Commitments are classified as:

• capital commitments: aggregate amount of capital expenditure contracted for but not recognised as paid or provided for at balance date
• non-cancellable operating leases with a lease term of more than one year, and
• other non-cancellable commitments (these may include consulting contracts, cleaning contracts and ship charters).

Interest commitments on debts and commitments relating to employment contracts are not included in the Statement of Commitments.

Comparatives#

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When presentation or classification of items in the financial statements is amended or accounting policies are changed voluntarily, comparative figures have been restated to ensure consistency with the current period unless it is impracticable to do so.

Comparatives referred to as Budget 10 were forecasts published in the 2010 Budget Economic and Fiscal Update while Budget 11 were forecasts published in the 2011 Budget Economic and Fiscal Update. These forecasts include budget adjustments for new unallocated spending during the year (both operating and capital) and top-down adjustments which reduce the bias for forecast expenditure by departments to reflect maximum spending limits instead of mid-point estimates.

Segment Analysis#

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The Government reporting entity is not required to provide segment reporting as it is a public benefit entity. Nevertheless, information is presented for material institutional components and major economic activities within or undertaken by the Government reporting entity. The three major institutional components of the Crown are:

• Core Crown: This group, which includes Ministers, Departments, Offices of Parliament, the Reserve Bank of New Zealand and the New Zealand Superannuation Fund most closely represents the budget sector and provides information that is useful for fiscal analysis purposes.
• State-owned enterprises: This group includes entities governed by the State-owned Enterprises Act 1986, and for the purposes of these statements also includes Air New Zealand Limited and AMI Insurance. This group represents entities that undertake commercial activity.
• Crown entities: This group includes entities governed by the Crown Entities Act 2004. These entities have separate legal form and specified governance frameworks (including the degree to which each Crown entity is required to give effect to, or be independent of, government policy).

Functional analysis is also provided of a number of financial statement items. This functional analysis is drawn from the Classification of the Functions of Government as developed by the Organization for Economic Co-operation and Development (OECD).

Related Parties#

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Related parties of the Government include key management personnel, and their close family members. Key management personnel are Ministers of the Crown, and their close family members are their spouses, children and dependants. Transactions between these related parties and a Government entity are disclosed in these financial statements only if they have taken place within a Minister's portfolio and they are not transactions entered into in the same capacity as an ordinary citizen.

Tertiary Education Institutions, joint ventures and the Government Superannuation Fund are also related parties of the Government due to the Government's influence over these entities. Transactions between these entities and Government entities are separately disclosed where material.

There are no other related parties as no other parties control the Government, and no other parties are controlled by the Government, other than those that are consolidated into the Government's financial statements.

The Government comprises a large number of commonly controlled entities. Transactions between these entities are eliminated in these financial statements and therefore not separately disclosed.

Transactions where the financial results may have been affected by the existence of a related party relationship are disclosed in the financial statements.

Note 2: Tax and Levies Collected through the Crown's Sovereign Power (Accrual)#

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1. Customs excise-equivalent duty.

Note 3: Sales of Goods and Services#

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Note 4: Interest Revenue and Dividends#

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Note 5: Other Revenue#

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Note 6: Transfer Payments and Subsidies#

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Note 7: Personnel Expenses#

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Key management personnel are the 27 Ministers of the Crown who are members of the Executive Council.

Note 8: Depreciation and Amortisation#

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Note 9: Other Operating Expenses#

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Operating expenses relate to those expenses incurred in the course of undertaking the functions and activities of entities included in the financial statements of the Government, excluding those expenses separately identified in the statement of financial performance and other notes. Items disclosed separately are those required by financial reporting standards.

Other operating expenses is the large residual item. Most of these costs represent payments made for services provided by third parties (road maintenance for example) or for raw materials (fuel, medicines or inventory for example). They also include other day-to-day operating costs.

1. The audit of financial statements are those of the Government reporting entity and its sub-entities. Audit fees are eliminated because the Office of the Auditor-General is consolidated into these financial statements.

2. External auditing firms carry out other work for entities that they audit on behalf of the Auditor-General.

Note 10: Interest Expenses#

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Note 11: Insurance Expenses#

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Insurance expenses include costs associated with the Canterbury earthquakes. Refer to note 30 for further discussion. These expenses do not include any proceeds from reinsurance. These proceeds are included as “other revenue” in the statement of financial performance.

AMI insurance expenses only include costs incurred after 7 April 2011 (the date that AMI Insurance became controlled by the government and combined as part of the government reporting entity). As a result, the insurance expenses of AMI are not included in the 2010 comparatives.

Claims expense is the sum of claims incurred and claims management expenses relating to claims incurred plus the movement in the outstanding claims liability.

Total claims and other expenses are those related to claims that have occurred prior to reporting date. Within these expenses are expenses relating to actuarial gains/(losses) and operating costs (eg, costs for processing claims and injury prevention promotion) that due to their nature are reported elsewhere in the statement of financial performance (eg, under gains and losses or personnel expenses).

Insurance expenses represents underwriting expenses less those expenses reported elsewhere (ie, insurance expenses largely comprise direct settlement of claims and expected movements in the outstanding liability and unexpired risk liability).

Given the uncertainty over insurance claims, it is likely that the final cost will be different from the original liability established. Claims development refers to the adjustment in the liability arising from claims incurred in the current financial year and reassessment of claims incurred in previous years. This reassessment results from new information on these claims (including new claims relating to incidents incurred in previous years) and changes in assumptions.

Historical Analysis#

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The underwriting surplus/(deficit) represents the net effect on the statement of financial performance from claims incurred prior to reporting date. It includes actuarial gains/(losses).

Underwriting revenue is reported separately in the financial statements under other sovereign revenue.

Prior to the Canterbury earthquakes EQC insurance expenses were immaterial. As a result, an historical analysis of the EQC claims expense has not been provided.

Analysis of the insurance liabilities is provided in note 25.