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Issues of Reporting, Disclosure,and Financial Analysis

Learning Objectives

•Conversion of Fund Statements to Government-wide

•Why the make-up of a government’s or not-for-profit’sreporting entity is an issue

•The criteria that the GASB has established todetermine the units that constitute a government’sreporting entity

•Various ways of reporting component units

•Reports of special-purpose entities

•Elements of a government’s CAFR

•Critical factors to consider in assessing agovernment’s financial condition

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Government Wide Statements

General Approach to preparing government-widestatements from fund statements:

•Start with a year-end trial balance that combines all ofthe governmental funds.

•Eliminate all inter-fund transactions.

•Adjust capital asset-related accounts

•Adjust long-term, debt-related accounts

•Adjust for differences in basis of accounting

•Consolidate the internal service fund

•Complete the government-wide trial balance

•Divide the accounts between Statement of Net Assetsand Statement of Activities and then among thevarious functional accounts.

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Reporting Entity

•Why is the reporting entity an issue?

--An organization’s legal entity differs from its economic entity.

•Composition of reporting entity

-- Primary government and its component units

Primary government: any state government, general purpose localgovernments (counties, cities, towns and villages), or a specialpurpose state or local government (school districts, hospitaldistrict)

•Special purpose government must:

-Have a separately elected governing body

-Be legally separate from other primary governments and befiscally independent of other governments

-Have authority to determine its budget, levy taxes, and issuebonds.

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Criteria for Reporting Entities

GAAP is GASB Statement No. 61, The Financial ReportingEntity, Omnibus, an amendment of GASB Statements No.14 and No. 34 (Nov 2010).

GASB Statement No.14, The Financial Reporting Entity andGASB Statement No. 39, Determining Whether CertainOrganizations are Component Units.

Component units: are legally separate organizations for which theelected officials of the primary government are financiallyaccountable.

Examples of common intergovernmental relationships in the US

 Housing authorities established by cities to provide low costfinancing for residents of the cities

 Turnpike commissions

 Volunteer fire departments

 Universities that receive funding from the state but arecontrolled by Board of Regents

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Flowchart for Evaluation and Presenting Component Units-GASB 61

Criteria for Reporting Entities (Cont’d)

Component Units:

Reporting issue: Why? and How?

- Exclusion of component unit might cause theprimary government’s statements to be misleading.

•Example 1: State of New York establishedMunicipal Assistance Corporation to help the Cityof New York during financial difficulties.

•Example 2 : Houston Zoo, Greater HoustonConvention & Visitors Bureau

For reporting purposes, a governmental entity considersa component unit to be major based upon:

1) the type/kind of service provided by the CU and

2) its relationship with the PG

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Criteria for Reporting Entities (Cont’d)

•Key criteria as to whether a primary government isfinancially accountable for another government thusqualifying the other government as a CU:

-The primary government appoints a voting majority ofthe unit’s governing body (or)

-A majority of the unit’s governing body is composed ofprimary government officials.

•In addition, either one of the following criteria must besatisfied.

-The primary government is able to impose its willupon the potential component unit.

-The component unit is able to provide specificfinancial benefits to, or impose specific financialburdens on, the primary government.

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Criteria for Reporting Entities (Cont’d)

•General Rule:

A component unit is fiscally accountable only if theprimary government controls the appointment of itsgoverning board.

•Exception:

oIf a component unit is fiscally dependent on the primarygovernment, it is fiscally accountable even if its governingbodies are independently elected (not appointed by theprimary government) and thereby outside the influence ofthe PG.

oFiscal dependence: unable to set its own budget, levytaxes, set rates/charges, or issue bonds without the approvalof the PG.

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Reporting Component Units

•Discrete presentation:

o Default means of reporting.

o Reporting units in a single column, separate fromthe data of the primary government.

•Blending:

o Transactions treated as part of the primarygovernment.

o Appropriate when the primary government and thecomponent unit are so closely related and are substantivelythe same.

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Reporting Component Units (Cont’d)

•Major discretely presented component units for the City ofHouston include:

oCultural Arts Council of Houston

oGreater Houston Convention and Visitor’s Bureau

oHouston Downtown Park Corporation

oMidtown Redevelopment Authority

oUptown Redevelopment Authority

oTotal Net Assets of all the discretely presented GovernmentalComponent units (major and nonmajor) for FY 2011 =$151,034,000

•Discretely presented Business type Component units (major andnonmajor) for the City of Houston:

oHouston Convention Center Hotel Corporation

oHouston Housing Finance Corporation

oHouston Zoo Inc.

oThe total net assets for FY 2011 = $120,949,000

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Required Disclosures

Primary government must disclose detailedinformation about each major componentunit in either of the following:

•Government-wide statements (by presenting thecomponent unit in a separate column)

•Notes to the financial statements

•Combining financial statements (one

column for each major component unit)

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Other Types of Units

•Joint Ventures:

oA contractual agreement to carry out a commonactivity, with the participants sharing both risks andrewards.

oEx: Dallas and Fort Worth joining together to construct andoperate an airport.

• Related Organizations: defined by GASB Stmt. #14as an entity to which/that

oThe City appoints board members but for which the City hasno significant financial accountability.

oDoes not qualify as a component unit

oCannot be incorporated into the primary government’sfinancial statements.

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Other Types of Units (Cont’d)

•Affiliated Organizations:

oProvide assistance (both financial and non-financial) to the associated government

oThe primary government does not appoint thegoverning boards

oThese organizations are not fiscally dependent onthe primary government

•Examples:

oA state university’s development foundation

oA state university’s football booster club

oA public school’s parent-teacher association

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Other Types of Units (Cont’d)

GASB Stmt. # 39: Requires governments to reportcertain organizations as discretely presentedcomponent units if they are

•legally separate

•Tax exempt and meet all of the following conditions:

oEconomic resources held are for the direct benefitof the primary government or its component units.

oThe primary government or its component unitshave direct access to the economic resources

oThe economic resources held or received aresignificant to that primary government.

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Comprehensive Annual Financial Report

Popularly known as the CAFR and is divided into threesections:

•Introductory

•Financial

•Statistical

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CAFR (Cont’d)

Introductory section:

•Table of contents

•Letter of transmittal

Most informative component of the CAFR and comprises of fourmain sections.

•Formal transmittal of the CAFR

•Government profile

•Information on economic conditions

•Awards and acknowledgements

•Other important material deemed appropriate bymanagement such as Government Finance OfficersAssociation’s Certificate of Achievement for Excellence inFinancial Reporting

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CAFR (Cont’d)

Financial Section:

•Auditor’s report

oProvides assurance about the fairness of thefinancial statements.

•Management’s Discussion and Analysis (MD&A)

oBasic financial statements

Government-wide statements

Fund financial statements

•Required supplementary information:

oEx: Budget to actual comparisons

oDetails of pension actuarial valuations

•Combining statements, individual statements, andschedules

oSupplement and support the basic statements

oProvide details of the nonmajor funds

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CAFR (Cont’d)

Statistical section:

•Supplements the financial statements

•Includes five categories of information

oFinancial trends

oRevenue capacity

oDebt capacity

oDemographic and Economic statistics

oOperating data

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Special Purpose Governments

Reporting requirements:

•Must adhere to same reporting and disclosure requirementsas general purpose governments.

•Must prepare both government-wide and fund statements ifengaged in both business- and governmental-type activities.

•If engaged in only a single governmental program,government-wide and fund statements can be combined.

•If engaged only in business-type activities:

oonly the statements required for enterprise funds areneeded

oalso include key elements of the financial section ofCAFR.

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Requirements for Colleges and Universities

•GASB Stmt. # 34: Colleges and universities should besubject to same reporting requirements as special-purpose entities engaging:

oonly in business-type activities

oonly in governmental activities

oor in both

•Public colleges and universities follow GASBpronouncements

•Not-for-profit colleges and universities follow FASBpronouncements

This is discussed in depth in Chapter 13.

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Government’s Fiscal Condition

•Assessing a government’s financial condition is adaunting task.

•CAFR is the single richest source of data in assessingthe financial condition.

oProvides only a raw data of relationships and trends

oBurden of analysis falls upon individual users

•A comprehensive analysis of assessing a city’s fiscalstatus is provided in Chapter 11, Table 11-4.

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Fiscal Condition (Cont’d)

Factors affecting the fiscal condition:

•Demographic

oAge, income distribution, educational level etc.

•Economic

oComposition of taxpayers, industries in which they work etc.

•Political

oGovernment structure, political competition, integrity of theofficials, political climate etc.

•Social

oCrime rates, percentage of residents owning homes etc.

•Other factors include:

oPopulation

oEnterprises

oTechnology

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Budget and Financial Statements

•Budget:

odetailed map of fiscal path

oAnalysts must evaluate the integrity of the budget.

oReported on cash or near cash basis

•Financial Statements:

oReported on GAAP basis

oLess likely to manipulate reported rather thanbudgeted revenues/expenses

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Financial Indicators

•There are no reliable ‘rules of thumb.’

•Governments account for operations in different ways.So, some ratios may not be directly comparable.

•Whether a lower or higher ratio is preferred is notalways clear.

•Higher or lower ratio depends upon the stage ofmaturity.

•Ratios are no better than the underlying numbers.

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Financial Indicators (Cont’d)

•Issue in interpreting financial indicators:

oShould ratios be based on government-wide, general fund,or a combination of both?

oIt depends on why the measure is being calculated and how itwill be interpreted.

•Fiscal effort:

oExtent to which a government is taking advantage of its fiscalcapacity.

oFiscal effort = Per capita revenue from own sources OR

Median family income

Revenue from own sources

Total appraised value of property

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Financial Analysis

Goal of financial analysis:

•Evaluate the ability of a government to provide theservices expected of it in the future.

•Preparing pro forma statements

•Identify key risks and uncertainties

•Examine a number of ‘what if’ situations

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Summary

•Governments typically maintain their accounts on a fund basis. Atyear end they convert the accounts from a fund (modified accrual)basis to a government-wide (full accrual) basis.

•According to GASB, a primary government should include apotential component unit in it’s reporting entity if the unit isfinancially accountable to it.

•The Comprehensive Annual Financial Report (CAFR) has threesections: Introductory, Financial and Statistical.

•The Basic financial statements consist of the two government-wide statements (the statement of net assets and statement ofactivities) and the fund statements for each of the three group offunds.

•Special-Purpose governments must prepare the same financialstatements as general-purpose governments.

•In assessing a city’s fiscal condition, analysts should consider thecurrent environment in which a government operates.

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