It found Defence's planning and implementation of the Collins-class extension project did not match "its complexity, risk profile and strategic purpose".
"As a result, substantial further expenditure has been incurred, delays have accumulated and capability risks have remained," the report reads.
The 1980s-designed Collins would have begun retiring from service in 2026 but cancelling the $90 billion French submarine program for the AUKUS deal means Australia won't get new submarines until the early 2030s, if the program runs on time.
The report found that since the system and detailed design contract was awarded in February 2022, it had changed 53 times, increasing by $688 million to more than five times its original value.
As of February, $693 million had been spent on life-extending design-related work.
As of May, Defence was not on track to install the planned upgrades on the first submarine in June as planned.
Defence proposed a different extension strategy in May, changing the project's direction after 10 years of planning and design activity.
Defence agreed to the auditor-general's five recommendations, including reassessing all risks and delivery approaches following significant changes.
"Defence's primary focus has been to maintain continuity of capability and avoid a capability gap, which has, in practice, constrained the extent to which comprehensive reassessment of underlying assumptions, risks and alternative options could be undertaken," the response reads.
Defence Minister Richard Marles announced the $11 billion change in approach to the submarines on Tuesday.
Opposition defence spokesman James Paterson said Labor had failed to make timely decisions to save the planned extension program.
"Australia's ageing Collins-class submarine fleet is now expected to continue operational service until the late 2040s without materially upgrading its capabilities, allowing regional navies to surpass it until AUKUS submarines arrive," he said.
Greens defence spokesman David Shoebridge slammed the project as a "farce".
"The minister and the senior defence chiefs knew this audit was coming and have been desperately trying to spin their way out of the mess," he said.
Under the change, each of the six Collins-class submarines will be individually assessed and fixed in the hope they last into the late 2030s and 2040s.
