Part 5: District health boards' financial performance

5.1
In this Part, we describe the 2011/12 financial results for each DHB and aggregated deficit, asset, liability, and debt trends for the past six years.

5.2
We also describe our analysis of DHBs' financial statements from the past six years using a set of indicators as a potential way of understanding and prompting discussion about the financial ability of DHBs to respond to short-, medium-, and long-term financial risks.

Financial results

5.3
DHBs had total revenue of $13.332 billion and total expenditure of $13.354 billion in 2011/12. This represents an increase of just over 3% on both total revenue of $12.963 billion and total expenditure of $12.980 billion in 2010/11.¹¹

5.4
The aggregate deficit for the 20 DHBs for 2011/12 was $22.4 million compared to $16.1 million in 2010/11. The total deficit was less than half the total planned deficit of $55.1 million.

5.5
Figure 16 sets out financial results for each DHB, by region, for 2011/12. Amounts have been rounded, so surpluses or deficits of less than $50,000 will show as 0.0 (nil).

Figure 16
Summary of 2011/12 financial results for district health boards, by region.

District health board	Revenue* $million	Expenditure* $million	Surplus (deficit)** $million	Planned surplus (deficit)** $million	Variance from plan** $million
All DHBs	13,332.0	13,354.2	(22.4)	(55.1)	32.7
Northern Region
Auckland	1,788.9	1,788.1	0.7	0.1	0.6
Counties Manukau	1,352.5	1,347.1	5.4	0.0	5.4
Northland	505.9	505.9	0.0	0.0	0.0
Waitemata	1,375.2	1,370.3	4.8	0.0	4.8
Totals	5,022.5	5,011.4	10.9	0.1	10.8
Midland Region
Bay of Plenty	639.7	639.7	0.0	0.0	0.0
Lakes	305.2	308.3	(3.1)	(3.2)	0.1
Tairawhiti	154.7	155.0	0.0	0.0	0.0
Taranaki	318.9	318.9	0.2	3.2	(3.0)
Waikato	1,145.4	1,135.9	9.4	11.5	(2.1)
Totals	2,563.9	2,557.8	6.5	11.5	(5.0)
Central Region
Capital and Coast	919.3	939.3	(19.9)	(20.0)	0.1
Hutt Valley	434.3	434.2	0.1	0.0	0.1
Wairarapa	129.3	134.0	(5.4)	(4.4)	(1.0)
Hawke's Bay	464.3	462.4	2.0	2.0	0.0
MidCentral	555.2	548.5	6.7	1.0	5.7
Whanganui	217.8	218.0	(0.2)	(4.9)	4.7
Totals	2,720.2	2,736.4	(16.7)	(26.3)	9.6
South Island Region
Canterbury	1,472.3	1,472.4	0.0	(25.0)	25.0
Nelson Marlborough	408.3	413.5	(5.2)	0.1	(5.3)
South Canterbury	174.1	173.8	0.3	(0.5)	0.8
Southern	836.6	849.8	(13.2)	(10.5)	(2.7)
West Coast	134.1	139.1	(5.0)	(4.5)	(0.5)
Totals	3,025.4	3,048.6	(23.1)	(40.4)	17.3

* From DHBs' 2011/12 annual reports.

** The surplus/(deficit) figure does not include revaluations or impairments of asset value. Also, where the surplus/(deficit) figure is affected by profits from joint ventures or associates, it will not be the same as revenue less expenditure. Rounding can lead to some small differences in the total and the variance.

5.6
As Figure 16 shows, the Northern and Midland Regions each reported a cumulative surplus, and the Central and South Island Regions each reported a cumulative deficit. The surplus/deficit trends for the past six years for each region are shown in Figure 17.

5.7
Although the overall deficit in 2011/12 was less than planned, the results range from a surplus of $9.4 million (Waikato DHB) to a deficit of $19.9 million (Capital and Coast). Nine DHBs reported surpluses, seven reported deficits,¹² and four broke even (or were very close to break-even).

5.8
Fourteen DHBs met or performed better than planned, and six did not meet their surplus/deficit targets.

5.9
Canterbury DHB essentially "broke even" (reporting a net deficit of $43,000) compared with a budgeted deficit of $25 million. Additional government funding of $10 million and insurance proceeds of $24.7 million helped contribute to this result, and offset some of the additional costs incurred because of the earthquakes. The ongoing effects of the earthquakes are expected to continue to affect the DHB's financial results for the next few years.

5.10
DHBs continue to work to improve their financial performance by seeking increased efficiency and productivity in clinical and support services. This work included increased regional collaboration and national shared services and initiatives led by HBL and others, as discussed in Parts 2 and 4.

Surplus/deficit trends

5.11
Figure 17 shows the total deficit, for all DHBs, from 2006/07 to 2011/12, including a breakdown by the four regions.

Figure 17
Surplus/deficit for all district health boards, 2006/07 to 2011/12

5.12
The regional surplus/deficit trends show the increasing deficit levels, for the Central and South Island Regions in particular, until 2008/09, and then overall improvement to 2010/11. The regional trends were positive from 2010/11 to 2011/12, except for the South Island Region, which increased its aggregated deficit from $5.4 million in 2010/11 to $23.1 million in 2011/12.

5.13
Regional planning and collaboration by DHBs to aid clinical and financial sustainability is resulting in changes to clinical service models and increased shared service arrangements to save costs. An example of closer sub-regional collaboration was in response to the draft 2012/13 annual plans of the three Greater Wellington DHBs (Capital and Coast, Hutt Valley, and Wairarapa DHBs) when the Minister of Health requested that they plan to achieve a sub-regional break-even financial result for 2013/14 and the following years.

Monitoring of district health boards

5.14
The Ministry monitors the performance of DHBs and other health Crown entities. It monitors and supports DHBs through its National Health Board business unit, which also monitors each DHB's financial position. The Crown Health Financing Agency (disestablished with effect from 1 July 2012) also had a role in monitoring risks to the financial performance of the DHBs. The Ministry has now taken over the Crown Health Financing Agency's monitoring functions.

5.15
The Ministry's monitoring framework for 2011/12 continued to use three levels of intervention – standard monitoring, performance watch, and intensive monitoring. There is also a Single Event Monitoring regime, introduced to respond to external events such as the Canterbury earthquakes. The Ministry is currently refining its monitoring framework.

5.16
Briefly stated, under the existing framework, standard monitoring is used when a DHB is in a sound financial position, has supported accountability arrangements in place, and is complying with requirements in a timely manner. DHBs are under a performance watch when there is some non-compliance or deterioration in performance. Intensive monitoring occurs when a DHB continues to be non-compliant or deteriorates in the performance watch requirements, or a single event creates a material risk.

5.17
As at 1 March 2013, 11 DHBs were on standard monitoring and nine were being monitored more closely:

• Taranaki, Whanganui, Hutt Valley, and Nelson Marlborough DHBs were on performance watch;
• Capital and Coast, Southern, Wairarapa, and West Coast DHBs were being monitored intensively; and
• Canterbury DHB had been on a Single Event Monitoring regime since the Canterbury earthquakes.

5.18
As well as monitoring, the Minister of Health can change how a DHB is governed, to help improve its performance. To do this, the Minister can appoint one or more Crown monitors to observe the decision-making processes of the DHB board, to help the board understand the policies and wishes of the Government, and to advise the Minister on any matters about the DHB or its board. If seriously dissatisfied, the Minister can dismiss the board and appoint a commissioner.

5.19
As at 1 March 2013, no commissioners were appointed to DHBs. Capital and Coast and Hutt Valley DHBs had a joint Crown monitor, and Southern DHB also had a Crown monitor.

Using financial statements to understand financial risk

5.20
We are exploring ways of using financial statements to better understand financial risk and financial performance in the public sector. The approach we are developing uses indicators based on information in the financial statements of public entities, which we then report on in groups: local authorities, tertiary education institutions, Crown research institutes, government departments, and other Crown entities, as well as DHBs.

5.21
We describe our approach in the following section and set out observations from applying it to information in DHBs' financial statements over the past six years, from 2006/07 to 2011/12.

5.22
The set of indicators we use is not an "audit test" and is just one possible way of looking at a DHB's financial performance and position, to indicate potential risk to financial sustainability. Financial performance needs to be considered in the broader context and, in particular, alongside non-financial performance information.

5.23
We will work with DHBs, and the Ministry as the monitor of DHB performance, on the applicability and usefulness of this approach for DHBs. We welcome feedback and discussion as we refine it further over time.

Explanation of our approach

5.24
Our approach uses financial statements to assess financial risk or uncertainty in a standardised and comparable way throughout the public sector.¹³ We recognise that the Government funds and supports DHBs in the delivery of essential health services. Our analysis is intended to provide an indication of the financial ability of DHBs to respond to short-, medium-, and long-term financial risks.

5.25
Financial statements are important in assessing performance. Although they say little about the non-financial objectives of DHBs and other public entities, they reflect and summarise many of the financial risks faced by a DHB in achieving its objectives.

5.26
Risks for DHBs can arise from many different sources, including economic, political, societal, and structural changes inside and outside a DHB. Our approach does not seek to identify or understand the root causes of risk. Instead, we use the financial statements to help assess the overall effect on three areas that relate to a DHB's financial ability to deliver on its objectives. For DHBs, we have looked at the following three areas:

• The accuracy and consistency of DHB budgeting for its use of financial resources. We have called this stability. To assess it, we compare actual performance with budget/forecast information.
• The DHB's financial ability to respond to medium-term unanticipated events, or how well the DHB can "bounce back", without major structural or organisational change. We have called this resilience. We look at operating cash flow costs, whether current assets cover current liabilities, and interest costs.
• The financial preparedness of a DHB for long-term uncertainty and to maintain itself in the longer-term. We have called this sustainability. We focus on balance sheet items such as assets, liabilities and debt, with related items such as capital expenditure and depreciation.

5.27
To assess the potential financial risks involved in delivering sector objectives we consider:

• whether the average values of the selected indicators are within a reasonable range;
• how they are trending over time – for example, improving, declining, or constant; and
• the distribution of DHBs that lie outside what we consider "typical" for the sector, the extent of variability, and what this might mean for the sector.

5.28
Figure 18 sets out the indicators we used.

Figure 18
Financial statement assessment framework – indicators for district health boards

Accuracy of budgeting (stability)	Resilience	Sustainability
Budget to actual operational expenditure	Current assets to operating cash flows	Capital expenditure to depreciation (and amortisation)
Budget to actual capital expenditure	Current assets to current liabilities	Retained earnings to total equity
	Interest costs	Debt to total assets

5.29
We have used a traffic light system to summarise the results of our analysis of DHBs, as described in Figure 19.

Figure 19
Traffic light assessment of district health boards' financial performance

5.30
As with all analysis of financial performance, there are limitations to what can be inferred. Our approach does not provide a comprehensive assessment of a sector or entity's performance but focuses on potential financial risk. DHBs outside what is typical for all DHBs are also not necessarily more at risk – they may simply warrant further investigation.

5.31
In this report, we present overall observations for DHBs. We intend to do further analysis to understand which indicators are most useful for understanding the financial risks faced by DHBs, the reasons why some DHBs are outside the typical range, and where further investigation may be needed.

What we found

5.32
Overall, our findings reflect the challenging operating environment and expectations for DHBs. These include increasing demand for services and the continued focus on providing high-quality health care and improving health outcomes. The health sector is also working to ensure that the health system is sustainable. For example, DHBs are expected to reduce deficits and improve their financial performance each year. They are also developing new models of care and more integrated services, both within their districts (for example, with primary care providers) and in their regions (with other DHBs). And, as discussed earlier in this report, there is also increased regional collaboration and national shared service initiatives to increase efficiency and reduce costs.

5.33
Our findings indicate that the potential financial risks are generally moderate to high and that some aspects might warrant further consideration. Of particular note are:

• the negative levels of retained earnings as a result of deficits incurred in previous years, and whether the recent signs of improvement in DHBs' surplus/deficit performance can be maintained;
• the (apparent) limited financial ability for some DHBs to respond to unexpected events in the medium term using their own financial resources – for example, with current assets on average covering only 59% of current liabilities; and
• the consistent under-spending against budget for asset expenditure requirements.

5.34
The reasonably high variability throughout the sector also suggests inconsistency in the financial ability of some DHBs to manage potential short-, medium-, and longer-term financial risks.

The accuracy of district health board budgeting (stability)

5.35
We looked at the accuracy of DHBs' budgeting against actual cash flows for both operational and capital expenditure (on assets and other investing activities).

5.36
Overall, DHBs' accuracy in planning, budgeting for, and delivering their financial resources is mixed, with good accuracy for operating expenses but a consistent under-spending against budget for their capital expenditure needs. Most DHBs are within the typical range. This lower variability could reflect a consistency in management approaches and more uniformity in how financial resources are used.

Budget to actual operational expenditure
DHBs' planning and budgeting for operational activities were closely aligned to actual spending throughout the six-year period. A ratio of 1.0 indicates accurate budgeting. The DHB average is consistent at around 0.98.	Average value		Good accuracy with sector average at 0.98
	Direction		Consistent
	Variability		Low to moderate
Budget to actual capital expenditure
A ratio of 1.0 indicates capital expenditure in line with budget. The DHB average is consistent at around 1.32, which indicates sizable and consistent under-spending against budget.	Average value		Sizeable over-budgeting, with sector average at 1.32
	Direction		Consistently high
	Variability		Low

The resilience of district health boards

5.37
Overall, DHBs' financial ability to respond to unanticipated events warrants further consideration. Although DHBs' resilience is supported by low interest costs of around 1% of total operating expenditure, their current assets are not enough to cover current liabilities, and would cover operating costs for about only one month. One possible reason for this is that DHBs are largely funded by the Government on a monthly basis, at the beginning of each month, which could explain low cash levels (a part of current assets) at the end of the month.

5.38
There are also quite a few DHBs outside the typical range. This variability could reflect a variety of management approaches and less uniformity in understanding and responding to some of these potential medium-term risks.

Current assets to operating cash flows
This indicator shows how long the operational cash flows of a DHB could be supported using only current assets as funding. A ratio above 1.0 indicates current assets would cover cash flows applied to operations for one year. The DHB average indicates current assets range between 0.08 and 0.11. This suggests that, on average, DHBs could support operating cash flow costs for about one month. One possible reason for this is that DHBs are predominantly funded by the Government on a monthly basis, which means that low cash levels (part of current assets) at the end of each month would not be unexpected.	Average value		Current assets cover operating cash flows for one month on average
	Direction		Consistent low
	Variability		Moderate to high
Current assets to current liabilities
This indicator shows whether the DHBs' current assets could cover their current liabilities in the event of an unexpected change or event. A ratio above 1.0 indicates that current assets are larger than current liabilities. The DHB average indicates that current assets would cover about 59% of current liabilities (a ratio of 0.59), but there are signs of some improvement in current asset coverage in later years.	Average value		Current assets do not cover current liabilities
	Direction		Improving in recent years
	Variability		Moderate to high
Interest costs
This indicator shows the level of interest costs that cannot be easily changed in response to unexpected events. A ratio close to zero indicates that interest costs represent a small proportion of the costs of operating the DHB. Interest costs are, on average, low for DHBs, representing about 1% (a ratio of 0.01) of total operating expenditure.	Average value		Low interest costs relative to operating expenditures
	Direction		Consistent
	Variability		Low to moderate

The sustainability of district health boards

5.39
Overall, DHBs' financial ability to deal with long-term financial risk is also mixed. Positively, DHBs spending on their assets appears encouraging, but the split between renewing existing assets and new asset spend is unknown. Debt levels have steadily increased from 25% of total assets in 2007 to 31% in 2012, which are within a reasonable range and are supported by low interest costs of around 1% of total operating expenditure, as discussed above. However, the level of retained earnings remains highly negative because of past deficits (see Figure 17).

5.40
Quite a few DHBs are outside the typical range, which could reflect a variety of management approaches and less uniformity in understanding and responding to some of the potential longer-term risks.

Capital expenditure to depreciation
This indicator shows the level of investment in assets. This indicator assumes that depreciation and amortisation is a reasonable estimate of the amount of expenditure required to maintain the existing tangible and intangible asset base. Therefore, if capital expenditure is above depreciation, this is positive. However, as capital expenditure also includes spending on new assets, we would expect the ratio to be above 1.0, and possibly well above 1.0 in a sector like the health sector, which has high capital needs. In 2006/07, DHBs' average capital expenditure was around 1.28 times depreciation and amortisation levels, with an increase to 1.57 in 2010/11, and a slight drop to 1.55 in 2011/12.	Average value		Capital expenditure ranges from 1.28 to 1.57 times depreciation and amortisation
	Direction		Consistent
	Variability		Low
Retained earnings to total equity
Retained earnings represent the accumulated surpluses and deficits of DHBs over time. A positive and increasing ratio of retained earnings to equity can indicate long-term profitability and/or an increasing proportion of surpluses being retained in the entities. We compared the level of retained earnings to total equity for each DHB from 2006/07 to 2011/12. From 2007 to 2011, DHBs' retained earnings as a percentage of total equity were consistently negative, ranging between -39% and -59%.	Average value		Sizeable negative retained earnings
	Direction		Improving in recent years
	Variability		Moderate to high
Debt to total assets
We compared total debt to total assets for each DHB from 2006/07 to 2011/12. The ratio shows the proportion of the DHB that is funded by debt providers and, while many assets are not easily realisable, the higher the proportion of debt the more important the debt provider's interests become in managing future uncertainties. From 2006/07 to 2011/12, the sector average indicates total debt starts at 25% and increases steadily to 31% of total assets.	Average value		Sector average between 25% and 31%
	Direction		Steadily increasing
	Variability		Moderate to high

5.41
The Crown both owns the equity of DHBs and is the primary provider/holder of DHB debt. This means that the residual risk for both debt and equity lie with the Crown. The Ministry and the Treasury are reviewing the use of debt and equity within DHBs.

5.42
Figure 20 shows trends in total assets, total liabilities, and total debt for the past six years.

Figure 20
Total assets, total liabilities, and total debt, 2006/07 to 2011/12

5.43
Figure 20 shows steadily increasing trends for all three balance sheet aspects (aggregated for all DHBs), with a 28% increase in total assets, a 39% increase in total liabilities, and a 48% increase in total debt. This aligns with the steadily increasing debt to asset ratio discussed above.

Future focus

5.44
We intend to further refine our approach, including assessing which indicators are most useful for better understanding the financial ability of DHBs to respond to financial risk, the reasons why some DHBs lie outside what is considered typical, and where further analysis might be warranted.

5.45
As we refine our approach, it will also be used to inform our audit teams about sector risks and to investigate further any DHBs that are consistently and/or materially outside of what is typical for the sector.

5.46
We welcome feedback and discussion on our approach and our initial findings.

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11: Office of the Auditor-General (2012), Health sector: Results of the 2010/11 audits, page 9. Amounts are rounded.

12: Four of these obtained a letter from the Minister that supported their continuing viability (going concern status, see Part 2).

13: The terms "risk" and "uncertainty" can have different meanings. In this approach, we use the terms inter-changeably to mean the potential for variation from what is expected or considered to be "typical" for the sector.

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