introduction to governmental and not-for-profit accounting, 7e › ... › 0 › 48109373 ›...

Copyright ©2013 Pearson Education, Inc. publishing as Prentice Hall 14-*

Introduction to Governmental and

Not-for-Profit Accounting, 7e

Chapter 14: Analysis of

Financial Statements and

Financial Condition


Introduction

• Financial statements is the Primary source

for analysts:

Credit rating agencies, lenders

• Ratios identify changes, deviations from

normal

– Ratios: derived from financial statement

amounts

• No single ratio is comprehensive

Information Content of Financial Statements:

A Financial Analysis Perspective

1- Statement of net position (balance sheet)-

– Provides information about liquidity, financial

flexibility

• Assets/liabilities classified, in order of liquidity

• Net assets classified according to restrictions





2- The statement of activities (or statement

of operations) may indicate:

– Whether resources covered costs

– Sources of revenues (indication of stability)

– Nature of services provided

– Whether unusual factors influenced operating

results

– Limitation: may appear positive without

reporting unmet service needs




3- Notes:

is considered as an integral part of

financial statements

– Property tax calendar: timing affects amounts

– Debt service requirements, pension plan

obligations


An Approach to Financial Statement

and Financial Condition Analysis

• Information analyzed depends on purpose

• The analyst needs to convert data

elements to more useful formats

• Data formats used in financial analysis

include

– Ratios

• Relate one amount to another

– Per capital information

• Divide amounts by population




– Common-size statements

• Convert numbers to percentages of 100

– Percentage change information

• Compare current to prior year(s)




Analysis Types:

• Time-series analysis

– Evaluate one entity over multiple years

• Comparative analysis

– Compare to another entity/set of entities

– Beware of distortions between different

entities


Financial Statement and Financial

Condition Analysis Indicators

• Consider financial indicators

– In groups (not just one indicator)

– Over time

– Compared to similar organizations

• Liquidity indicators

– Ability to meet short-term obligations



Condition Analysis Indicators - Liquidity

– Current ratio = current assets/current liabilities

• 2 is considered safe

– Quick ratio = (cash + equivalents + short-term

investments)/current liabilities

• 1 is considered safe

• Business-type activities: analysts include accounts

receivable

• Governmentals: analysts exclude (but consider)

taxes receivable




• Short-term investments

– CDs, money market, U.S. Treasury bills

• Cash equivalents

– Short-term, liquid investments

– Readily converted to cash

– Original maturity within 3 months




– Number of days’ cash on hand =

(cash + equivalents + short-term investments)/

[(total expenses-bad debts-depreciation)/365]

• Often used for NFP hospitals


Financial Statement and Financial Condition

Analysis Indicators - Efficiency

• Efficiency indicators

– Accounts receivable collection efficiency:

• Days’ revenue in receivables = net patient accounts

receivable/(net patient service revenue/365)

• Property tax collection rate = current-year real

property taxes collected/current year real property

tax levy

– < 95% considered sign of potential distress

• Property tax receivable rate = real property taxes

receivable/real property tax revenues



Analysis Indicators – Efficiency, Solvency

– Total asset turnover = unrestricted revenues,

gains, other support/unrestricted net assets

• Solvency indicators

– Ability to meet recurring expenses + cushion

– Operating margin = excess of revenues over

expenses, expenditures/total revenues, gains,

other support (or other corresponding item)

• OR net change in fund balance/(total revenues +

certain transfers in)



Analysis Indicators - Solvency• General-purpose governments: general fund or

general/debt service/special revenue

• Evaluate for more than 1 year

• Beware of including one-time items

– Budgetary cushion = available fund

balance/total revenues + certain transfers in

• Used for governmentals, 5-10% considered safe

• GFOA recommends General Fund unrestricted

fund balance be no < 2 months of regular general

fund revenues or operating expenditures



Analysis Indicators – Solvency, LT

– Program service ratio =

program expenses/total expenses

• Used for NFPs

• Long-Term (LT) Indicators

– Ability to meet LT debt obligations



Condition Analysis Indicators - LT

– General purpose governments

• Debt burden = outstanding LT debt/population (or

full value of taxable real property* or personal

income*)

– Laws limit debt: usually expressed as a

percentage of full value of taxable real property

– *good measures: they consider community

wealth

– Outstanding LT debt includes overlapping debt

» Government’s share of debt issued by other

governmental units




– May exclude self-support debt

» Debt paid by government’s enterprise

revenues

• Overall debt (direct + overlapping) > 5% is above

average

• Debt service burden = total debt service/total

revenues (or total expenditures)

– >10% above average

– Ideal payback rate for debt principal: 25% in 5

years, 50% in 10 years




– Government enterprises, NFPs

• Focus on leverage: extent of debt

– LT debt to capitalization = LT debt/LT debt +

unrestricted net assets

– LT debt to equity = LT debt/ net assets or

unrestricted net assets




• Focus on coverage: ability to repay

– Debt service coverage = [(excess of revenues

over expenses) + depreciation + interest]/

principal payment + interest expense

– Times interest earned = (excess of revenues

over expenses + interest expense)/

interest expense




– Pension and other obligations

• Funded ratio = trust fund assets available for benefits/

benefit obligation (actuarial accrued liability)

– 80% reasonable

• Payout coverage = trust fund assets available for

benefits/ benefits paid last year


Financial Condition Assessment -

Overview

• Longer time period, broader in scope

• Consider financial statements, economics,

demographics, administration, politics

• Consider an entity’s ability to:• Pay LT debt as it’s due

• Provide services to citizenry

• Maintain activities during economic downturns


Financial Condition Assessment -

Reasons

• Credit-rating agencies determine credit

worthiness

• Credit enhancers insure debt

– Guarantee debt and decrease interest costs

• Fiscal oversight committees

– Assess to detect signs of stress


Financial Condition Assessment –

Other Matters to Consider

• Tax revenue bases

– Tax revenue: primary source of funding

– Increases/decreases to tax bases are critical

• Tax bite = tax revenues/tax base

– Indicates ability to raise taxes

• Economic/demographic trends

Copyright ©2013 Pearson Education, Inc. publishing as Prentice Hall

• Managerial skill and political will

– Are longer-term financial plans in place?

– Are annual budgets routinely balanced?

– Are capital assets partially financed from tax

revenues?

– Does government have strong expenditure

control and policies regarding budgetary

cushion?

– Does government adequately finance its

pensions?14-*

Financial Condition Assessment –

Other Matters to Consider


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