Q: My team and I are still a bit confused regarding the modified accounting presentation of the City of Calistoga Balance Sheet (Government Funds) – on page 18 of the handout.
Specifically, it was said in the presentation that this Governmental Funds accounting was “near cash flow,” or roughly that which was coming due in 60 days. As such, if I look at principal and interest ($136,994 & $205,649, respectively) what do those numbers take into account? Is it only the principal and interest that had “recognition events” with the past 60 days? In addition:
- Would a line of credit (LOC) that is maturing or renewing in ten months be reflected in the interest portion?
- Would a real estate note coming due for renewal in one month be reflected differently in this statement than one coming due in two years?
On a larger scale, how can I attempt to reconcile these numbers with the normal notes to the financial statements, which show debt service obligations broken out by year?
A: In response to your questions, let’s first review 2015 debt service for Governmental and Business-Type Activities for the City of Calistoga, California.
Governmental Activities Observations (using the funds flow statement on Slide 54)
- $3,179,180 cash and near cash available to service debt
- 2015 debt service of $342,643 or $136,994 + $205,649
- $2,836,537 cash and near cash remaining after debt service
- Conclusion: City paid debt service from cash flow
Business-Type Activities Observations (using the cash flow statement on Page 22 of the handout)
- $792,508 cash flow available to service debt
- 2015 debt service of $1,242,351 or $622,782 + $619,569
- $449,843 cash flow shortfall after debt service
- Conclusion: City used existing cash balances and transfers from governmental funds.
The overall 2015 debt service was principle repayments of $759,776 and interest expense of $825.218 for total debt service of $1,584,994.
A reminder or two before responding to each of your questions. A funds flow statement – a Government Funds Statement of Revenues, Expenditures, and Changes in Fund Balances - is a quasi-cash flow statement for the period in question that captures all receipts and expenditures over the period. The funds flow statement will include various expenses that are excluded from the accrual Statement of Activities, such as principal repayments and capital outlays. Under accrual accounting, principal repayments and capital outlays are recorded on the balance sheet.
The principal and interest payments reported on page 18 of the handout represent cash or near-cash principal and interest payments for 2015. The interest payment of $205,649 is slightly greater than the $202,958 accrual interest expense reported on the Statement of Activities on page 16 of the handout. In effect, the City paid more on a funds basis than it recorded as interest expense for the period on an accrual basis. In that $205,649 funds flow amount may be an amount due and payable very shortly after the close of the financial year and, therefore, counted as near cash.
An LOC maturing within 10 months would not be included in the interest portion. A line of credit that did mature and pay down within 2015 would be included in the principal amount reported on the funds flow statement. Further, a real estate note coming due for renewal in one month or in two years would not be reflected in the principal amount since renewal implies no cash outlay. If a principal pay-down amount were scheduled for one month after the end of the financial year, it would likely be included in the reported principal amount for the year, although accountants may differ in their approach to future payments with a specific payment date. Near-cash normally applies to receipts and expenditures that could be received or spent at any point in the near future but have no specified receipt or expenditure date.
With respect to reconciliation, there should be a perfect match between principal and interest payments for business type activities, since those activities are reported on an accrual base. That is, the footnote information about future principal and interest should be reflected in the financial statements exactly, barring any adjustment to existing term debt repayment provisions.
With respect to interest-bearing debt for which government funds is the obligor, footnote information is provided on an accrual basis. But actual payment reported in the Statement of Revenues, Expenditures, and Changes in Fund Balances is on a funds or near-cash basis. Therefore, actual payments of interest and principal may vary from those stated in the footnotes. In general, the differences should not be significant.
In theory, a prior year enterprise wide balance sheet should provide interest-bearing debt due and payable in the present period. In the case of the City of Calistoga, the balance sheet account in question is “Bonds, leases, agreements, notes and certificates due in one year.” The amount recorded for 2014 should be captured in the 2105 financial statements. However, it is usually difficult to precisely reconcile the amounts for two reasons.
- First, future lease payments reported in the footnotes frequently do not break out the interest and principal portions year-by-year.
- Second, the amount of principal repayment reported on the funds flow statement for Governmental Activities may differ from the accrual amount reported as part of interest-bearing amounts do on the enterprise wide accrual balance sheet.
Nonetheless, we recommend reading the footnotes very carefully to identify all interest-bearing debt repayments due in the coming year and years. Further, to actually identify debt payments for a year in question, use the funds flow statement for Governmental Activities and the Statement of Cash Flows for Business-Type Activities.
Q: What information should be included in a credit proposal for a new loan? Spread of both District wide statement and general fund? Cash flow for both or just one?
A: We recommend beginning with the Enterprise Wide Statement, based on accrual accounting, to obtain an overview of performance in general and by individual units within the district or municipality.
Then focus on the fund or business-type activity that represents the source of cash to service debt for the credit request in question. Examine especially the funds flow statement, if the repayment source is a fund, and adjust it to approximate a UCA cash flow statement that identifies Business or Net Cash Income and Cash after Debt Repayment.
There may be material differences between the performance of the enterprise and a specific fund, e.g. the enterprise may appear robust with sufficient cash flow while the fund may reflect cash flow problems. Or, vice versa. If the specific fund has problems, then the enterprise may be compelled to provide financial support via loans or allocations in order for the fund to meet its debt service.
Q: What are the differences in looking at financials for a city versus a school?
A: The financial statements of a municipality are similar in respect to format and terminology to those of a school district. However, there are numerous differences in terms of sources of revenue and array of expenses.
Similar to a municipality, the annual report of a school district consists of three parts: Management’s Discussion and Analysis (MD&A), the basic financial statements, and required supplementary information.
The basic financial statements include two kinds of statements that present different views of the district:
- The first two statements are government-wide financial statements that provide both short-term and long-term information about the District’s overall financial status.
- The remaining statements are fund financial statements that focus on individual parts of the District, reporting the District’s operations in more detail than the government-wide statements.
A municipality usually has a greater array of revenue sources and a greater array of expenses while a school district is largely dependent on shared municipal, county, and state tax revenues as well as operating grants and charges for services. Expenses for a district usually consist of instruction, pupil transportation, and school lunch programs.
The key in every instance is to carefully identify revenue sources and assess their sustainability and sufficiency going forward, in addition to controlling expenses to match that revenue.
Q: With regards to what should be analyzed and included in a credit proposal, is there a certain part of the analysis that could be excluded for a small commercial loan and, if so, what part (maybe analyzing the general fund since it only makes up a portion of the district wide)?
A: It is possible to exclude broader analysis but it is usually important to avoid skipping any portion of the financial statements.
One may find, for example, going back to Question 1, that the district as a whole is facing financial and cash flow problems while the school, for example, is not. Yet, in the sense of global cash flow, the district's problems may divert cash from the school's fund to meet its general debt service needs. As a result, the specific fund in question may come up short.
Q: When looking at the Enterprise Wide Statements, do you include Component Units? The statements I am looking at include Governmental Activities, Business Type Activities, and then a Total and another column for Component Units.
A: GASB 14 provides guidance about whether Component Units should or should not be included in enterprise wide statements.
GASB Statement No. 14 states that the financial reporting entity consists of (a) the primary government; (b) organizations for which the primary government is financially accountable; and (c) other organizations for which the nature and significance of their relationship with the primary government are such that exclusion would cause the reporting entity's financial statements to be misleading or incomplete.
Further, as defined in GASB Statement No. 14, component units are legally separate organizations for which the elected officials of the primary government are financially accountable. They may be a governmental organization (except those that meet the definition of a primary government), a nonprofit corporation, or a for-profit corporation.
A primary government is financially accountable for a component unit if:
- The primary government appoints a voting majority of the organization's governing body.
- The primary government is able to impose its will on that organization.
- There is a potential for the organization to provide specific financial benefits to, or impose specific financial burdens on, the primary government.
In the event the component unit is excluded, then you'll need to assess the component unit separately using their set of financial statements that should be separated from the enterprise wide statements.
Q: Would I determine debt service obligations (annual P&I) for the government wide entity by looking at the government wide statement of net positon only? Am I missing something by ignoring the Statement of Revenues (government funds on page 18)?
A: The enterprise wide statements will normally provide interest-bearing amounts due in the next period for both governmental and business-type activities. But check the footnotes, if available, since some amounts due in the next period might be short-term lines of credit so classified by the accountant.
In addition, footnote information may spell out more precisely both next period debt repayment and associated interest expense.
Q: We are in the process of spreading a governmental agency and our financial spreading software does not have a template for government accounting (fund accounting). Do you have a template we can use to compose the UCA or can you direct us as to where we might be able to find one?
A: We don't, unfortunately, have a fund accounting template. On Slide 54 in today's slide deck was an example of how to approximate a UCA cash flow statement by adjusting a funds flow statement. Perhaps that illustration or example could be helpful. You might also review the written solutions for the exercise. The illustration about using a funds flow statement to approximate a UCA cash flow statement begins on page 8.