Notes to the Financial Statements

FOR THE YEAR ENDED 30 JUNE 2016

NOTE 1: STATEMENT OF ACCOUNTING POLICIES

Reporting entity

The Department of Corrections (the Department) is a government department as defined by Section 2 of the Public Finance Act 1989 (PFA). It is domiciled and operates in New Zealand. The relevant legislation governing the Department’s operations include the Public Finance Act 1989, the Corrections Act 2004, Corrections Regulations 2005, the State Sector Act 1988, the Sentencing Act 2002, the Parole Act 2002, the Public Safety (Public Protection Orders) Act 2014, the Bail Act 2000 and the Returning Offenders (Management and Information) Act 2015.

The Department is a wholly owned entity of the New Zealand Crown whose primary objective is to administer New Zealand’s corrections system in a way that is designed to improve public safety, reduce re-offending and that contributes to the maintenance of a fair and just society.

Statutory authority

The financial statements for the Department have been prepared in accordance with the requirements of the Public Finance Act 1989. For the purposes of financial reporting the Department is classified as a public benefit entity (PBE).

Reporting period

The reporting period for these financial statements is the year ended 30 June 2016 with comparative figures for the year ended 30 June 2015.

The financial statements were authorised for issue by the Chief Executive of the Department of Corrections on 30 September 2016.

Basis of preparation

The financial statements have been prepared on a going concern basis, and the accounting policies have been consistently applied throughout the period.

Statement of compliance

These financial statements, including comparatives, have been prepared in accordance with Public Sector PBE Accounting Standards (PBE accounting standards) – Tier 1. These standards are based on International Public Sector Accounting Standards (IPSAS).

Measurement base

The financial statements have been prepared on a historical cost basis, modified by the revaluation of certain non-current assets, actuarial valuations of certain liabilities, and the fair value of certain financial liabilities.

Presentation currency and rounding

The financial statements are presented in New Zealand dollars, rounded to the nearest thousand ($000). The functional currency is New Zealand dollars.

Changes in accounting policies

The Department added an accounting policy for its derivative financial instruments in the form of interest rate swaps to manage its exposure to fluctuating market interest rates as a result of its PPP arrangements.

There were no other changes to the Department’s accounting policies during the period.

Standards, amendments and interpretations issued that are not yet effective and have not been early adopted

In 2015, the External Reporting Board issued Disclosure Initiative (Amendments to PBE IPSAS 1), 2015 Omnibus Amendments to PBE Standards, and Amendments to PBE Standards and Authoritative Notice as a Consequence of XRB A1 and Other Amendments. These amendments apply to PBEs with reporting periods beginning on or after 1 January 2016. The Department will apply these amendments in preparing its 30 June 2017 financial statements.

The Department expects there will be minimal or no change in applying these amendments.

Critical judgements and estimates

The preparation of financial statements in conformity with PBE accounting standards requires judgements, estimates and assumptions that affect the application of policies and reported amounts of assets and liabilities, revenue and expenses. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances. 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.

The estimates and assumptions that have a risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial year are discussed below.

Retiring and long service leave

An independent actuarial valuation is undertaken annually to estimate the present value of long service and retiring leave liabilities. The calculations are based on:

• likely future entitlements accruing to staff, based on years of service, years to entitlement, the likelihood that staff will reach the point of entitlement and contractual entitlements information; and
• the present value of the estimated future cash flows.

Note 14 provides an analysis of the exposure and assumptions in relation to estimates and uncertainties surrounding these liabilities.

Revaluation of land and buildings

Critical judgements in determining the remaining life of land and buildings have been made by the Department. Assessing the appropriateness of useful lives and residual values of land and buildings requires consideration of a number of factors such as the physical condition, expected period of use by the Department, and expected proceeds from any disposal.

Any property revaluations are certified by an appropriately qualified valuer.

Budget and forecast figures

The budget figures are for the year ended 30 June 2016 and were published in the 2014/15 annual report. They were included in the Estimates of Appropriations for the Government of New Zealand for the year ending 30 June 2015, which are consistent with the financial information in the Main Estimates. In addition, the financial statements also present the updated budget information from the Supplementary Estimates.

The forecast figures are for the year ending 30 June 2017, and are consistent with the best estimate financial forecast information submitted to Treasury for the Budget Economic and Fiscal Update (BEFU) 2016 for the 2016/17 year.

The forecast financial statements have been prepared as required by the PFA to communicate forecast financial information for accountability purposes.

The budget and forecast figures have been prepared using the accounting policies adopted in preparing these financial statements.

The forecast figures have been prepared in accordance with PBE FRS 42 Prospective Financial Statements.

The forecast financial statements were authorised for issue by the Chief Executive of the Department of Corrections on 12 April 2016. The Chief Executive is responsible for the forecast financial statements, including the appropriateness of the assumptions underlying them and all other required disclosures.

Significant assumptions used in preparing the forecast financials

The forecast figures contained in these financial statements reflect the Department’s purpose and activities and are based on a number of assumptions on what may occur during the 2016/17 year. The forecast figures have been compiled on the basis of existing government policies and ministerial expectations at the time the budget was finalised.

The main assumptions adopted as at 12 April 2016 were as follows:

• the Department’s activities and output expectations will remain substantially the same as the previous year focusing on the Government’s priorities
• personnel costs reflect FTE levels consistent with 2015/16
• remuneration rates are based on current wages and salary costs, adjusted for anticipated remuneration changes
• operating costs are based on historical experience and other factors that are believed to be reasonable in the circumstances and are the Department’s best estimate of future costs that will be incurred
• no impact of the revaluation of land and buildings has been forecast
• capital commitments will realise as planned
• service concession assets nearly fully constructed
• prison population/demand levels are consistent with the Justice Sector Forecast which projects continued growth at rates consistent with 2015/16
• estimated year-end information for 2015/16 was used as the opening position for the 2016/17 forecast.

SIGNIFICANT ACCOUNTING POLICIES

Revenue

Revenue – exchange transactions

Revenue – Department and third party

Revenue earned in exchange for the provision of outputs (products or services) to third parties, is recorded as operating revenue.

Revenue from the supply of services is measured at the fair value of consideration received, recognised on a straight-line basis over the specified period for the services unless an alternative method better represents the stage of completion of the transaction.

Revenue from the sale of goods is recognised when the significant risks and rewards of ownership have been transferred to the buyer (usually on delivery of the goods), when the amount of revenue can be measured reliably and it is probable that the economic benefit or service potential associated with the transaction will flow to the entity.

Interest Revenue

Interest revenue is recognised using the effective interest rate method.

Dividend Revenue

Dividend revenue relates to investments arising from the Department’s business dealings with companies in the farming industry. Dividend revenue is recognised when the right to receive payment has been established.

Rental Revenue

Rental revenue arising from residential property leases is accounted for on a straight-line basis over the lease terms and included in revenue.

Revenue – non-exchange transactions

Revenue – Crown

Revenue from the Crown is measured based on the Department’s funding entitlement for the reporting period. The funding entitlement is established by Parliament when it passes the Appropriation Acts for the financial year. The amount of revenue recognised takes into account any amendments to appropriations approved in the Appropriation (Supplementary Estimates) Act for the year and certain other funding adjustments formally approved prior to balance date.

There are no conditions attached to the funding from the Crown. However, the Department can incur expenses only within the scope and limits of its appropriations.

The fair value of Crown revenue has been determined to be equivalent to the funding entitlement.

Donated or subsidised assets

Where a physical asset is acquired for nil or nominal consideration, the fair value of the asset received is recognised as revenue when control of the asset is transferred to the Department.

Insurance proceeds

Insurance proceeds are recognised when a settlement agreement has been reached which establishes the right to receive payment.

Capital charge

The capital charge is recognised as an expense in the period to which the charge relates.

Finance costs

Finance costs are incurred in relation to the repayment of the service concession arrangement assets design and construction costs over the contract term. Finance costs are recognised as an expense in the period in which they are incurred, except to the extent that they are capitalised under the allowed alternative treatment method. Finance costs that are directly attributable to the construction of a service concession arrangement asset are capitalised as part of the cost of the asset during the construction period.

Derivative financial instruments

The Department uses derivative financial instruments in the form of interest rate swaps, entered into with the New Zealand Debt Management Office (NZDMO), to manage its exposure to fluctuating market interest rates as a result of its PPP arrangements.

The Department does not hold or issue derivative financial instruments for trading purposes and has not adopted hedge accounting.

These derivatives are measured at fair value determined on a daily basis using the NZD swap curve, which is made up of OCR, bank bill rates and swap rates. Any changes in fair value are recognised in the Statement of Comprehensive Revenue and Expense in the period in which they arise.

Cash and cash equivalents

Cash includes cash on hand and cash held in bank accounts and deposits with a maturity of no more than three months.

Debtors and other receivables

Debtors and other receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. Receivables are initially recognised at fair value. Receivables with duration of less than 12 months are recognised at their nominal value.

Allowances for estimated irrecoverable amounts are recognised when there is objective evidence that the asset is impaired.

Inventories

Inventories held for resale are measured at the lower of cost (calculated using the weighted average method) and net realisable value. Inventories consumed in providing a service are measured at cost or replacement cost.

Inventories acquired through non-exchange transactions are measured at fair value at the date of acquisition. The amount of any write-down for the loss of service potential or from cost to net realisable value is charged to surplus or deficit in the period of the write-down.

Property, plant and equipment

Items of property, plant and equipment are shown at cost or valuation, less accumulated depreciation and impairment losses.

Land and buildings

Land and buildings are stated at fair value as determined by an independent registered valuer. Fair value is determined using market-based evidence, except for prison buildings, which are valued at optimised depreciated replacement cost. Land and buildings are revalued at least every three years or whenever the carrying amount differs materially to fair value. Additions between revaluations are initially recorded at cost.

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 surplus or deficit for the asset class, the gain is credited to surplus or deficit. 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 Comprehensive Revenue and Expense.

Accumulated depreciation at revaluation date is eliminated against the gross carrying amount so that the carrying amount after revaluation equals the revalued amount.

Other property, plant and equipment

Other property, plant and equipment, which include motor vehicles and furniture and fittings, are recorded at cost less accumulated depreciation and accumulated impairment losses.

Disposals

Realised gains and losses arising from disposal of property, plant and equipment are recognised in the Statement of Comprehensive Revenue and Expense in the period in which the transaction occurs. When revalued assets are sold or derecognised, the amounts included in asset revaluation reserves in respect of those assets are transferred to general funds.

Service concession arrangements

Service concession arrangements are recognised as assets under construction within property, plant and equipment until the in-service date at which time they are recognised as a separate asset class. As such, service concession arrangements are accounted for in accordance with the Department’s policies, which comply with Property, Plant and Equipment PBE IPSAS 17.

For newly constructed assets, the Department recognises the asset and corresponding liability, as the asset is being progressively constructed. Service concession arrangements, whilst under construction, are measured at amortised cost.

Payments made by the Department under a service concession arrangement reduce the value of the liability, pay for interest on the principal, reimburse the operator for the service provided and reimburse any other additional operational costs.

Depreciation

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 residual value, over its estimated useful life. Motor vehicles that have been classified as non-heavy duty have a residual value of 20%.

The useful life of buildings is reassessed following any revaluation.

Leasehold improvements are depreciated over the unexpired period of the lease or the estimated remaining useful life of the leasehold improvement, whichever is the shorter.

Intangible assets

Software acquisition and development

Acquired computer software licenses are capitalised, where appropriate, on the basis of the costs incurred to acquire and bring to use the specific software.

Costs associated with maintaining computer software and training staff are recognised as an expense when incurred.

Direct costs that are associated with the development of software for internal use by the Department are recognised as an intangible asset. Direct costs include the software development, employee costs and an appropriate portion of the relevant indirect costs.

Amortisation

The carrying value of an intangible asset with a finite life is amortised on a straight-line basis over its useful life. Amortisation begins when the asset is available for use and ceases at the date that the asset is derecognised. The amortisation charge for each period is recognised in the Statement of Comprehensive Revenue and Expense.

The useful lives and associated amortisation rates of major classes of intangible assets have been estimated as follows:

Biological assets

The Department’s biological assets consist of sheep, beef and dairy cattle and pigs farmed at various locations throughout New Zealand.

Biological assets are recorded at fair value less costs associated with the sale or disposal of those assets. Gains or losses due to changes in the per head value of livestock and changes in livestock numbers, are recognised in the Statement of Comprehensive Revenue and Expense.

Investments

Investments are initially recognised at cost being the fair value of consideration given. All investments are subsequently carried at fair value. Any changes in fair value are recognised in the Statement of Comprehensive Revenue and Expense in the period in which they arise.

Fair value for investments is determined as follows:

• listed shares are valued at the quoted price at the close of business on the balance date
• non-listed shares are recognised at initial cost of investment and adjusted for performance of the business since that date.

Impairment of non-financial assets

Cash-generating assets

The Department does not hold any cash-generating assets. Assets are considered cash-generating where their primary objective is to generate a commercial return. The Department holds some commercial assets with the primary objective of providing employment-training opportunities to prisoners as part of rehabilitation and reintegration programmes.

Non-cash-generating assets

Assets that have an indefinite useful life are not subject to amortisation and are tested annually for impairment. An intangible asset that is not yet available for use at balance date is tested for impairment annually.

Assets held at cost, that have a finite useful life are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognised when the asset’s carrying amount exceeds its recoverable amount. The recoverable amount is the higher of an asset’s fair value less costs to sell or its value in use.

Value in use is the depreciated replacement cost for an asset where the future economic benefits or service potential of the asset is not primarily dependent on the asset’s ability to generate net cash inflows and where the Department would, if deprived of the asset, replace its remaining future economic benefits or service potential.

If an asset’s carrying amount exceeds its recoverable service amount, the asset is regarded as impaired and the carrying amount is written down to the recoverable amount. The total impairment loss is recognised in the surplus or deficit.

The reversal of an impairment loss is recognised in the surplus or deficit.

Employee entitlements

Employee entitlements to salaries and wages, annual leave, long service leave and other similar benefits are recognised in the Statement of Comprehensive Revenue and Expense when they accrue to employees. Employee entitlements that the Department expects to be settled within 12 months of balance date are measured at nominal values based on accrued entitlements at current rates of pay. The liability for long-term employee entitlements is reported as the present value of estimated future cash outflows.

Termination benefits

Termination benefits are recognised in the Statement of Comprehensive Revenue and Expense 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 expected to be settled within 12 months are reported at the amount expected to be paid. Termination benefits not expected to be settled within 12 months are reported as the present value of the estimated future cash outflows.

Defined contribution schemes

Obligations for contributions to KiwiSaver, the Government Superannuation Fund, and other defined contribution superannuation schemes are recognised as an expense in the Statement of Comprehensive Revenue and Expense as they are incurred.

Foreign currency

Transactions in foreign currencies are translated at the foreign exchange rate at the date of the transaction. Foreign exchange gains or losses resulting from the settlement of these transactions are recognised in the Statement of Comprehensive Revenue and Expense.

Monetary assets and liabilities denominated in foreign currencies at balance date are translated to New Zealand dollars at the foreign exchange rate at balance date. Foreign exchange gains or losses arising from translation of monetary assets and liabilities are recognised in the Statement of Comprehensive Revenue and Expense.

Financial instruments

The Department is party to financial instruments as part of its normal operations. These financial instruments consist of cash and cash equivalents, debtors and other receivables, investments, creditors and other payables and other financial liabilities.

All financial instruments are initially measured at fair value plus transaction costs unless they are carried at fair value through the Statement of Comprehensive Revenue and Expense in which case the transaction costs are recognised in surplus or deficit. Financial assets designated at fair value through surplus or deficit are recorded at fair value with any realised and unrealised gains or losses recognised in the Statement of Comprehensive Revenue and Expense.

Service concession arrangement liabilities greater than 12 months are subsequently measured at amortised cost using the effective interest rate method. Financial liabilities entered into with duration less than 12 months are recognised at their nominal value.

Financial instrument derivatives are measured at fair value determined on a daily basis using the NZD swap curve, which is made up of OCR, bank bill rates, and swap rates. Any changes in fair value are recognised in the Statement of Comprehensive Revenue and Expense in the period in which they arise.

Provisions

The Department recognises a provision for future expenditure of an uncertain amount or timing when:

• there is a present obligation (either legal or constructive) as a result of a past event
• it is probable that an outflow of future economic benefits will be required to settle the obligation
• a reliable estimate can be made of the amount of the obligation.

Provisions are not recognised for net deficits from future operating activities. Provisions are measured at the present value of the expenditure expected to be required to settle the obligation using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the obligation. Any increases in the provision due to the passage of time would be recognised as a finance cost.

Accident Compensation Corporation (ACC) Partnership Programme

The Department belongs to the ACC Partnership Programme whereby the Department accepts the management and financial responsibility of work-related illnesses and accidents of employees.

Under the programme, the Department is liable for the costs of all claims for a period of five years. At the end of the five year period, the Department pays a premium to ACC for the value of residual claims, and the liability for ongoing claims passes to ACC from that point.

The liability for the programme is measured at the present value of expected future payments to be made in respect of the employee injuries and claims up to the reporting date using actuarial techniques. Consideration is given to expected future wage and salary levels and experience of employee claims and injuries. Expected future payments are discounted using market yields at the reporting date on government bonds with terms to maturity that match, as closely as possible, the estimated future cash outflows.

Onerous contracts

Where the benefits to be derived from a contract are lower than the unavoidable costs of meeting the obligation under the contract, a provision is recognised. The provision is stated at the present value of the future net cash outflows expected to be incurred in respect of the contract.

Taxation

Income tax

Government departments are exempt from income tax as public authorities. Accordingly, no charge for income tax has been provided for.

Goods and services tax (GST)

All statements are GST exclusive, except for creditors and other payables and debtors and other receivables within the Statement of Financial Position. These amounts are shown as GST inclusive.

The net amount of GST payable to, or recoverable from, Inland Revenue at balance date is included in creditors or debtors as appropriate. The net amount of GST paid to, or received from Inland Revenue including GST relating to investing and financing activities is classified as an operating cash flow in the Statement of Cash Flows.

Operating leases

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.

Commitments

Future expenses and liabilities to be incurred on capital contracts and non-cancellable operating leases that have been entered into at balance date are disclosed as commitments to the extent they represent unperformed obligations.

Contingent liabilities

Contingent liabilities are disclosed in the Statement of Contingent Liabilities at the point at which the contingency is evident. Contingent liabilities are not disclosed if the possibility of an outflow of resources embodying economic resources is remote.

Contingent assets

Contingent assets are disclosed in the Statement of Contingent Assets at the point at which an inflow of economic benefits or service potential is probable.

Cost allocation accounting policies

The Department has determined the costs of outputs using the cost allocation system outlined below.

Costs that are driven by prisoner or offender related activities are recognised as direct costs and assigned to outputs. Direct costs are charged to outputs based on actual consumption or activity analysis. Pre-established ratios have been used in some instances, which are reviewed at regular intervals.

Indirect costs are driven by organisational support functions and are not directly related to prisoner or offender activities. Indirect costs are allocated to outputs based on appropriate resource consumption and/or activity analysis.

Changes in cost allocation accounting policies

There have been no changes in cost allocation accounting policies during the period

NOTE 2: OTHER REVENUE

Sale of goods mainly comprises revenue from offender employment activities such as farming, distribution and other industries.

Insurance proceeds relate to the settlement of claims for the 2013 Spring Hill Corrections Facility riot (2015: Christchurch earthquake ($3.3 million) and Spring Hill Corrections Facility riot ($1.2 million)).

Revenue other includes revenue received from Serco in full settlement of costs incurred by the Department due to the Step-In clause in the management contract with Serco being activated at MECF.

NOTE 3: PERSONNEL COSTS

* _{Forecast financial statements have been prepared using Budget Economic Fiscal Update (BEFU) 2016.}

NOTE 4: OPERATING COSTS

^{* Forecast financial statements have been prepared using Budget Economic Fiscal Update (BEFU) 2016.}

NOTE 5: CAPITAL CHARGE

The Department pays a capital charge to the Crown on its taxpayers’ funds as at 30 June and 31 December each year. The capital charge rate for the year ended 30 June 2016 was 8% per annum (2015: 8% per annum).

NOTE 6: CASH AND CASH EQUIVALENTS

The Department is required by the Treasury to maintain a positive balance in its bank accounts at all times. The Department has two bank accounts with Westpac New Zealand Limited.

NOTE 7: DEBTORS AND OTHER RECEIVABLES

The carrying value of trade debtors approximates their fair value.

The debtor Crown of $263.1 million (2015: $337.8 million) consists of operating funding (GST inclusive) not drawn down as a result of the timing of cash requirements.

There is minimal credit risk with respect to external receivables. The Department’s standard terms of credit are that payment is due on the 20th of the month following the date of invoice. No further extension of credit is permitted.

All debtors are expected to be realised within 12 months and therefore classified as current. The Department classifies debtor Crown as current because it can be realised in cash within three working days.

The ageing profile of debtors and other receivables at year-end is detailed below:

As at 30 June 2016 (and 30 June 2015), all overdue receivables were assessed for impairment and appropriate provisions applied. Movements in the provision for impairment of debtors and other receivables are as follows:

The provision for impairment of debtors has been calculated based on expected losses for the Department’s pool of debtors. Expected losses have been determined based on analysis of the Department’s losses in previous periods, and review of specific debtors.

Those specific debtors that are insolvent are fully provided for. As at 30 June 2016 the Department had no debtors that were insolvent (2015: Nil).

NOTE 8: INVENTORIES

The Department’s inventory consists of supplies that are available for prisoner purchases, operational supplies and inventory held for sale or use in prisoner employment. No inventories are pledged as security for liabilities.

All inventories are expected to be realised within 12 months and are therefore classified as current.

NOTE 9: INVESTMENTS

Investments arise from the Department’s business dealings with companies in the farming industry, mainly shares in Fonterra Co-operative Group Limited. These investments are classified as financial instruments and valued at fair value through the Statement of Comprehensive Revenue and Expense.

The Department classifies investments that are expected to be realised within 12 months as current.

NOTE 10: PROPERTY, PLANT AND EQUIPMENT

An independent valuer, Beca Group, performed the most recent valuation of freehold land and buildings and the valuation was effective as at 30 June 2014. Nigel Hoskin B.B.S (VPM), ANZIV certified this valuation. The total fair value of freehold land and buildings valued by Beca Group at 30 June 2014 was $1,998 million. In line with the Department’s accounting policy, the next valuation will be effective as at 30 June 2017, until this time the valuation undertaken in 2014 is deemed to be fair and reasonable.

The Department has land holdings that are subject to Treaty of Waitangi claims and therefore there may be restrictions on disposal unless under Treaty claim procedures. No adjustment has been made to the value of the Department land holdings to reflect these restrictions.

The Department classifies property, plant and equipment expected to be sold in the next 12 months as assets held for sale. There were no assets held for sale as at 30 June 2016 (2015: Nil).

The Department constructs prison buildings, which are classified as assets under construction. Assets under construction are capitalised at the in-service date. Assets under construction includes buildings $131.7 million (2015: $134.4 million), leasehold improvements $10.0 million (2015: $6.3 million) and service concession arrangements $142.1 million (2015: Nil).

The Department currently holds residential properties that were purchased in the 1960s. The Department holds these properties so that it is able to provide accommodation to staff working in prisons located in rural areas or for future operational purposes. The rental revenue that is received from these properties is incidental, as opposed to being held for investment purposes. The net carrying amount of these properties is $0.4 million (2015: $1.5 million).

The Department holds the old prison at Mt Eden Corrections Facility as a heritage asset. The Department does not recognise heritage assets within property, plant and equipment. However, it is insured under the Department’s material damage policy for an estimated total reinstatement value of $102.1 million (2015: $102.1 million).

There are no other restrictions over the title of the Department’s property, plant and equipment, nor are any property, plant and equipment pledged as security for liabilities.

Service concession arrangements

Auckland South Corrections Facility

Operations at the new 960 bed Auckland South Corrections Facility (ASCF) commenced in May 2015. The facility was designed, financed and built through a PPP with SecureFuture Wiri Limited (contractor). Under the agreement, the Department provided existing department owned land, adjacent to the Auckland Region Women’s Corrections Facility to the contractor on which to build the prison. The contractor will continue to operate and maintain the prison for a period of 25 years, after which responsibility for on-going maintenance and operations will revert to the Department. The Chief Executive of the Department of Corrections will be responsible for the safe, secure and humane containment of prisoners on that site.

The service concession arrangements asset relating to ASCF comprises land $8.7 million (2015: $8.7 million), buildings $293.6 million (2015: $300.5 million) and plant and equipment $15.9 million (2015: $19.3 million).

No further finance costs were capitalised during the year due to construction being completed in the previous 2014/15 financial year (2015: $18.0 million).

Under this agreement the Department pays a monthly unitary charge to the contractor from service commencement. This charge covers, and is allocated between:

• The construction of the prison – these costs are not repriced and are recognised as a reduction against the service concession arrangement liability. Repayment of the service concession arrangement liability will be over a term of 25 years from service commencement at an effective interest rate of 8.79% per annum. Certain major capital expenditure incurred (such as re-roofing, replacement of heating units) during the term of the agreement is paid for by the Department at the time it is provided by the contractor, and the unitary charge is adjusted at this time for these amounts.
• The finance costs – finance costs are repriced every five years and the amount the Department pays to the contractor is adjusted. Finance charges are recognised as an expense using the effective interest rate method.
• The service costs – these costs cover operation of the prison as well as routine repairs and maintenance required to keep the prison operational and in good condition. A portion of these costs is indexed to Consumer Price Index and Labour Cost Index. This portion can be reset at year five and year 15 of the agreement. Any change in these service costs will result in a change to the amount the Department pays to the contractor. Service costs are recognised as an expense in the period incurred.

Termination clauses and penalties are outlined in the Department’s base agreement and there is no right of renewal after the 25 years.

Auckland Prison

Construction commenced in October 2015 on the new maximum security facility at Auckland Prison. The facility will be designed, financed, built and maintained through a PPP with Next Step Partners Limited (contractor). Under the agreement, custodial operations will continue to be carried out by the Department. While the total maximum prisoner capacity will remain unchanged, the new modern facility will continue to ensure the safe containment of prisoners and allow prisoners who have high and complex needs to receive care in an environment that supports them and the delivery of high quality rehabilitative and reintegrative services.

The land under the new maximum security facility was provided by the Department. The contractor will maintain the prison for a period of 25 years following construction, which is on target for completion in late 2017, after which responsibility for on-going maintenance will revert to the Department. The contractor will also maintain the Auckland West facility which is being integrated with the new facilities via secure links as part of the construction.

The service concession arrangements asset relating to Auckland Prison is comprised of buildings within assets under construction of $142.1 million (2015: Nil).

During the construction period in 2016, $8.2 million of finance costs were capitalised.

Under this agreement the Department pays a monthly unitary charge to the contractor from service commencement. This charge covers, and is allocated between:

• The construction of the facility – these costs are not repriced and are recognised as a reduction against the service concession liability. Repayment of the service concession liability will be over a term of 25 years from service commencement at an effective interest rate of 7.37% per annum. Certain major capital expenditure incurred (such as re-roofing, replacement of heating units) during the term of the agreement is paid for by the Department at the time it is provided by the contractor, and the unitary charge is adjusted at this time for these amounts.
• The finance costs – finance costs are repriced every five years and the amount the Department pays to the contractor is adjusted. Finance charges are recognised as an expense using the effective interest rate method.
• The service costs – these costs cover operation of the facility as well as routine repairs and maintenance required to keep the facility operational and in good condition. A portion of these costs is indexed to Consumer Price Index and Labour Cost Index. Any change in these service costs will result in a change to the amount the Department pays to the contractor. Service costs are recognised as an expense in the period incurred.

Termination clauses and penalties are outlined in the Department’s base agreement and there is no right of renewal after the 25 years.

^{* The total balance against transfers relates to the transfer of computer hardware assets under construction from intangible assets to property, plant and equipment upon capitalisation.}

NOTE 11: INTANGIBLE ASSETS

^{* The total balance against transfers relates to the transfer of computer hardware assets under construction from intangible assets to property, plant and equipment upon capitalisation.}

The Department develops and maintains internally generated software, which are classified as assets under construction and capitalised at the in-service date.

There are no restrictions over the title of the Department’s intangible assets, nor are any intangible assets pledged as security for liabilities.

NOTE 12: BIOLOGICAL ASSETS

The Department farms sheep, beef and dairy cattle and pigs at various locations throughout New Zealand.

The valuation of livestock is based on the active market price and was undertaken by various independent livestock valuers. The overall quantity of livestock decreased during the year primarily due to the continued de-stocking of the Tongariro farm as a result of the sale of land at 30 June 2015.

There are no restrictions over the title of the Department’s biological assets, nor are any biological assets pledged as security for liabilities.

Financial risk management strategies

The Department is exposed to financial risks arising from changes in commodity prices, in particular the price of milk solids. The Department reviews its outlook for livestock and milk prices regularly in considering the need for active financial risk management.

NOTE 13: CREDITORS AND OTHER PAYABLES

Creditors and other payables are non-interest bearing and are normally settled on 30 day terms. Therefore the carrying value of creditors and payables approximates their fair value.

The Department classifies creditors and other payables that are expected to be settled within 12 months as current.

NOTE 14: EMPLOYEE ENTITLEMENTS

Employee entitlements, expected to be settled within 12 months of balance date, are measured at nominal values based on accrued entitlements at current rates of pay. These include annual leave earned, but not taken at balance date, retiring and long service leave entitlements expected to be settled within 12 months and sick leave.

The Department classifies employee entitlements as current that:

• are expected to be settled within 12 months after the balance date; and
• the Department does not have an unconditional right to defer settlement of the liability for at least 12 months after the balance date.

The present value of the retiring and long service leave obligations depend on multiple factors that are determined on an actuarial basis using a number of assumptions. Two key assumptions used in calculating this liability are the discount rates and the salary inflation factor. Any changes in these assumptions will impact on the carrying amount of the liability.

Independent valuer Marcelo Lardies, a member of the New Zealand Society of Actuaries, from Aon Hewitt, valued retiring and long service leave as at 30 June 2016 and 30 June 2015.

The major assumptions used in the 30 June 2016 valuation are that future salary growth rates are 3.00% (2015: 3.00%) per annum and discount rates ranged from 1.94% to 3.82% (2015: 3.18% to 5.50%) per annum.

In determining the appropriate discount rates, the valuer used the weighted averages of returns on government stock of different terms to maturity that match, as closely as possible, the estimated future cash outflows. The salary growth assumption is consistent with the results of the Aon Economists’ Survey.

NOTE 15: PROVISIONS

Restructuring

The 2016 and 2015 provisions primarily relate to the Lifting Productivity and Performance in New Zealand’s Prisons restructure announced in May 2015. The restructure is centred on unifying the prison resources and closing individual facilities at Waikeria, Tongariro and Rimutaka prisons which are no longer fit for purpose.

Employee accidents

The provision relates to the estimation of the Department’s outstanding claims liability under the ACC Partnership Programme. An external independent actuarial valuer, Mark Weaver (Fellow of the New Zealand Society of Actuaries) from Melville Jessup Weaver provided an estimate of the outstanding claims liability as at 30 June 2016 and 30 June 2015.

Key assumptions

The key assumptions used in determining the value of outstanding claims are:

• the development pattern of claims payments is the same for all loss periods. That is, the future claims pattern will reflect that which occurred in the past
• the assumed loss ratios were determined by considering the observed loss ratios for developed loss quarters
• the discount rates were based on government bond yields published by the Reserve Bank of New Zealand
• the Department will remain in the ACC Accredited NZ Employers Programme (ACCEP) for the foreseeable future. If the Department were to exit immediately, a risk margin of 12.8% (2015: 12.8%) per annum would be added by ACC.

The estimated ACCEP outstanding claims liability as at 30 June 2016 included a provision for future claims handling expenses of 9.9% (2015: 10.8%) per annum of expected future claims costs.

The Department manages its exposure arising from the programme by promoting a safe and healthy working environment by:

• implementing and monitoring health and safety policies
• induction training on health and safety
• actively managing work place injuries to ensure employees return to work as soon as practical
• recording and monitoring work place injuries and near misses to identify risk areas and implementing mitigating actions
• identification of work place hazards and implementation of appropriate safety procedures.

Other provisions

Parental leave

The Department provides an ex-gratia payment to employees (approximating six weeks pay) who return to Corrections for a period of time (as specified in contracts typically three to six months) after being on parental leave. The Department anticipates that this provision will be realised within 12 months.

Onerous leases

The provision for onerous contracts arises from a non-cancellable lease where the unavoidable costs of meeting the lease contract exceed the economic benefits to be received from it. The Department has a number of operating lease contracts. This provision represents the future estimated irrecoverable expenses for vacant leased premises. The Department has between one to three years remaining on these leases.

NOTE 16: PROVISION FOR REPAYMENT OF SURPLUS TO THE CROWN

Remeasurements that are reported in the Statement of Comprehensive Revenue and Expense mainly relate to unrealised changes in fair value as a result of revaluation. Under the Public Finance Act 1989 all remeasurements are exempted from the requirement for appropriation on the basis of a lack of control. Similarly, unrealised remeasurements are not intended to affect the surplus repayable to the Crown.

The return of surplus to the Crown is required to be paid by 31 October of each year.

NOTE 17: OTHER FINANCIAL LIABILITIES

Service concession arrangements

Other financial liabilities include the Department’s liabilities under service concession arrangements, recognised as the asset is being progressively constructed.

Repayment of the liability will be over a term of 25 years from service commencement. Service concession arrangement liabilities that the Department expects to be settled within 12 months of balance date are classified as current.

The Department has no securities against other financial liabilities.

Derivative financial instruments

The Department uses derivative financial instruments in the form of interest rate swaps entered into with the NZDMO to manage its exposure to fluctuating market interest rates as a result of its PPP arrangements.

At 30 June 2016 the total notional principal amount outstanding for the Department’s interest rate swaps derivatives was $245.5 million (2015: Nil).

The Department’s interest rate swaps derivatives are classified as non-current as the maturity dates range from 2022 to 2041, and are fixed at the rate of 4.8% per annum.

NOTE 18: TAXPAYERS' FUNDS

Taxpayers' finds comprise general funds and revaluation reserves.

The Department has no restricted reserves.

The transfer from fair value through equity reserve to general funds in 2015 related to an asset disposed of in a prior period.

NOTE 19: RECONCILIATION OF NET SURPLUS TO NET CASH FLOWS FROM OPERATING ACTIVITIES

NOTE 20: RELATED PARTY DISCLOSURE

The Department is a wholly owned entity of the New Zealand Crown. The Government significantly influences the strategic direction, operating intentions and business operations of the Department as well as being its major source of revenue.

Related party disclosures have not been made for transactions with related parties that are within a normal supplier or client/recipient relationship on terms and conditions no more or less favourable than those that it is reasonable to expect the Department would have adopted in dealing with the party at arms’ length in the same circumstances. Further, transactions with other government agencies (for example, Government Departments and Crown Entities) are not disclosed as related party transactions when they are consistent with the normal operating arrangements between government agencies and undertaken on the normal terms and conditions for such transactions.

The Department has determined key management personnel as the Chief Executive and the individual members of the Executive Leadership Team. Remuneration applicable to key management personnel is disclosed under Note 21.

There were no related party transactions or commitments to disclose (2015: Nil).

The Treasury advises that responsible Minister Hon Judith Collins (effective 14 December 2015) and previously Minister Hon Peseta Sam Lotu-Iiga have certified that they have no related party transactions for the year ended 30 June 2016 (2015: Ministers Hon Peseta Sam Lotu-Iiga and Hon Anne Tolley – Nil).

NOTE 21: KEY MANAGEMENT PERSONNEL COMPENSATION

The Department’s key management personnel are the six members of the Executive Leadership Team (2015: six), which include the Chief Executive, four Deputy Chief Executives and the National Commissioner.

NOTE 22: POST-BALANCE DATE EVENTS

On the 22nd September 2016 the Supreme Court of New Zealand ruled that the Department had incorrectly calculated the period of detention for a claimant offender. Under the Parole Act 2002 the Department is required to calculate the period of detention, taking into consideration the period of time a prisoner spends on pre-sentence detention. The Supreme Court ruling made no direction as to compensation in respect of the period of unlawful detention for the claimant, nor was any sought.

As the Supreme Court ruling affects the Department’s method of calculating the period of detention served by prisoners, and notwithstanding the fact that the Department’s existing practice had been supported as lawful by previous Courts, it is likely that other current and past prisoners will have had their period of detention incorrectly calculated.

As at the date these financial statements were approved for issue, no complete assessment of the number of prisoners potentially affected by the ruling had been possible. In addition, as no direction or determination has been made on compensation, or claims filed and served on the Department for compensation, no adjustment to the financial statements or performance information for the period ended 30 June 2016 has been made, or considered appropriate.

There are no other post-balance date events that require consideration or adjustment to the Department’s financial statements.

NOTE 23: FINANCIAL INSTRUMENTS

The Department is party to financial instrument arrangements as part of its everyday operations. These include instruments such as cash and cash equivalents, investments, debtors and other receivables, creditors and other payables and other financial liabilities.

Fair value

The Department uses various methods in estimating the fair value of a financial instrument. Fair values are determined according to the following hierarchy:

• quoted market price – financial instruments with quoted market prices for identical instruments in active markets
• valuation technique using market observable inputs – financial instruments with quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in inactive markets and financial instruments valued using models where all significant inputs are observable
• valuation technique with significant non-market observable inputs – financial instruments valued using models where one or more significant inputs are not observable.

Market risk

Price risk

Price risk is the risk that the fair value of future cashflows of a financial instrument will fluctuate as a result of changes in market prices. The Department is exposed to price risk on its investments. The price risk is nominal as the investments are held by the Department as a result of business dealings with the farming industry and, as such, are not expected to be traded and are not used to support cashflows.

Currency risk

Currency risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate due to changes in foreign exchange rates.

The Department does not enter into forward foreign exchange contracts, as it engages in few overseas transactions, and is therefore only nominally susceptible to foreign exchange risks.

The Department has no assets or liabilities that are denominated in foreign currency at balance date (2015: Nil).

Interest rate risk

Fair value interest rate risk is the risk that the value of a financial instrument, or the cash flows from a financial instrument, will fluctuate, due to changes in market interest rates.

The Department’s other financial liabilities mainly relate to its service concession arrangements which are interest bearing.

The service concession arrangement entered into with SecureFuture Wiri Limited is calculated at the effective interest rate of 8.79% per annum and there is no interest rate risk exposure at balance date as the interest rate is fixed until August 2019.

For the arrangement with Next Step Partners Limited, the Department has entered into interest rate swaps derivatives to limit its interest rate exposure. These derivatives are calculated at a fixed rate of 4.8% per annum.

The Department has obtained ministerial approval for borrowing in relation to its service concession arrangements and to enter into its interest rate swaps derivatives with the NZDMO.

Sensitivity Analysis

The following sensitivity analysis is based on the interest rate risk exposures in existence at balance date.

The table below sets out the difference in net (deficit)/surplus had interest rates been 1% higher or lower than the year-end market rate, with all other variables remaining constant.

Any change in the net (deficit) / surplus for the period would result in a corresponding movement in the financial liability at balance date.

Credit risk

Credit risk is the risk that a third party will default on its obligations to the Department, causing the Department to incur a loss. In the normal course of business, the Department is exposed to credit risk from trade debtors, transactions with financial institutions and the NZDMO.

The Department is only permitted to deposit funds with Westpac New Zealand Limited, or with the NZDMO, as these entities have high credit ratings. For other financial instruments, the Department does not have significant concentrations of credit risk.

The Department’s maximum credit risk exposure for each class of financial instrument is represented by the total carrying amount of cash and cash equivalents and debtors and other receivables presented in the Statement of Financial Position. There is no collateral held as security against these financial instruments, including those instruments that are overdue or impaired.

Credit quality of financial assets

The credit quality of financial assets that are neither past due nor impaired can be assessed by reference to Standard and Poor’s credit ratings (if available) or to historical information about counterparty default rates.

Debtors and other receivables

Debtors and other receivables are mainly comprised of debtor Crown and receivables from other government entities. The Department does not rate its remaining individual debtors as it has a large number of customers with minimal debtor balance.

There is minimal credit risk with respect to external receivables and the incidence of default is insignificant.

Liquidity risk

Liquidity risk is the risk that the Department will encounter difficulty raising liquid funds to meet commitments as they fall due.

In meeting its liquidity requirements, the Department closely monitors its forecast cash requirements with expected cash draw downs from the NZDMO. The Department maintains a target level of available cash to meet liquidity requirements.

Contractual maturity analysis of financial liabilities

The table below shows the Department’s financial liabilities that will be settled based on the remaining period at the balance date to the contractual maturity date. The amounts disclosed are the contractual undiscounted cash flows.

The liability for the repayment of surplus to the Crown is not a financial liability as defined by PBE IPSAS 28 Financial Instruments: Presentation, as the obligation to pay arises from statute.

NOTE 24: CAPITAL MANAGEMENT

The Department’s capital is its taxpayers’ funds, which comprise general funds and revaluation reserves. Taxpayers’ funds are represented by net assets.

In accordance with the Public Finance Act 1989 (PFA) the Department manages its revenue, expenses, assets, liabilities, investments and general financial dealings prudently and in a manner that promotes the current and future interests of the New Zealand public.

The Department has in place asset management plans for major classes of assets detailing renewal and maintenance programmes.

The PFA requires the Department to make adequate and effective provision in its long-term capital expenditure plans and that the Department acts in accordance with financial delegations from Cabinet to the Chief Executive through the Responsible Minister. The PFA also requires that the Department complies with the requirements of the State Sector Act 1988, Treasury Instructions and any other legislation governing its operations, when incurring any capital expenditure.

The objective of managing taxpayers’ funds is to ensure the Department effectively achieves its goals and objectives for which it has been established, while remaining a going concern.

NOTE: 25: EXPLANATION OF SIGNIFICANT VARIANCES AGAINST BUDGET

Explanations for significant variances from the Department’s budget are as follows:

Statement of Comprehensive Revenue and Expense

Crown revenue was higher than budget by $15.1 million mainly due to the additional funding the Department received to continue to manage the rising prison population.

Personnel costs were higher than budget by $19.1 million mainly due to the impact of the Step-In at MECF and increasing prison population including higher overtime costs and increased annual leave liability.

Other operating costs were higher than budget by $10.6 million including costs driven by increased prison population, offenders returning to NZ and electronic monitoring enhancements.

Statement of Financial Position

Cash and cash equivalents were lower than budget by $10.1 million due to the timing of vendor payments.

Debtors and other receivables were higher than budget by $131.2 million mainly due to an increase in debtor Crown, as a consequence of the Department requiring less cash.

Property, plant and equipment and intangible assets were $83.0 million and $16.3 million lower than budget respectively mainly due to the sale of the Tongariro/Rangipö land at 30 June 2015 and the reprioritisation and deferral of planned expenditure.

Biological assets were lower than budget by $45.9 million due to the sale of the Tongariro/Rangipō forest crop at 30 June 2015 and the associated de-stocking of livestock.

Creditors and other payables were $16.3 million lower than budget due to the timing of accruals.

Employee entitlements were higher than budget by $16.6 million due to changes in actuarial valuations and higher rates of remuneration.

Other financial liabilities were higher than budget by $141.2 million. This mainly relates to the Department’s service concession arrangement liability with Next Step Partners Limited that was signed in July 2015 and the interest rate swaps derivatives entered into with the NZDMO in September 2015 to manage the Department’s interest rate risk under our service concession arrangement.

General funds were lower than budget by $155.8 million mainly due to capital withdrawals and re-measurement losses.

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