A Full Accounting Plate
With packed agendas, both the GASB and the FASB will soon be issuing multiple proposals and statements. Already, public institutions are facing a major implementation on pensions in FY15, while independent institutions are watching for changes in the not-for-profit reporting model.
By Sue Menditto and Karen Craig
In the month that many college and university fiscal years come to a close, a look back at the activities of the accounting standard setters is in order. The good news for FY14 is that neither public nor independent higher education institutions are facing challenging implementation endeavors. However, the agendas of both the Financial Accounting Standards Board (FASB) and the Governmental Accounting Standards Board (GASB) are full.
Public institutions that follow GASB are facing a major implementation in FY15—pensions. Those institutions will also need to keep an eye on GASB's work on OPEB (other post-employment benefits), fair value, leases, charitable remainder trusts, and a re-examination of the landmark Statement 34.
Independent institutions that follow FASB are awaiting final standards on revenue recognition and leases. In addition, they should be alert to FASB discussions and decisions on credit losses, liquidity, disclosures, and private company matters. Of greatest significance, though, are proposals that will likely change the current not-for-profit reporting model.
And, because the standard setters have a full menu of projects, all colleges and universities must continue to monitor activities in the pipeline.
Major Efforts at the GASB
Two areas require immediate attention for public institutions, while several others bear watching.
Imminent Changes in Reporting
Statement No. 65, "Items Previously Reported as Assets and Liabilities," is effective in FY14. This statement is not expected to pose significant implementation difficulties for two reasons. First, many public institutions began examining certain assets and liabilities that are considered deferrals when implementing Statement No. 63, "Financial Reporting of Deferred Outflows of Resources, Deferred Inflows of Resources, and Net Position." Statement 63 outlined the financial reporting format for deferrals. Secondly, Statement 65 provides an inventory of items that are to be considered deferrals rather than assets and liabilities. Institutions must only examine the items in the standard, and are not supposed to contemplate the nature of assets and liabilities not mentioned in the standard.
Financial statement elements addressed in Statement 65 are:
- Refunds related to debt defeasance.
- Capital lease changes.
- Government-mandated nonexchange transactions.
- Voluntary nonexchange transactions.
- Sale leaseback transactions.
- Loan origination fees and costs.
- Fees related to loans held for sale.
The second area of concern is Statement No. 68, "Accounting and Financial Reporting for Pensions-an Amendment of GASB Statement No. 27." Although it is not effective until FY15, the work involved may be considerable and public institutions should be paying attention to its many requirements. The standard replaces the requirements of Statement No. 27, "Accounting for Pensions by State and Local Governmental Employers," and Statement No. 50, "Pension Disclosures," as they relate to pension plans administered as trusts.
The standard classifies employers into three categories—single, agent, or cost-sharing—and transforms the way that pension expense, liabilities, and deferred outflows or inflows of resources are measured, displayed, and disclosed in the external audited financial statements.
Most public institutions' defined benefit pension plans are structured as either agent multiple-employer plans or multiple-employer cost-sharing plans-with the latter being more prevalent. Of great concern for public colleges and universities is the construct of a collective liability that is introduced in the standard: If the pension plan has an unfunded liability, all participating employers in a multiple-employer cost-sharing plan collectively share a portion of the liability. Several public institutions have already indicated that their portion of the unfunded liability in their state will be substantial.
One of the newer projects added to GASB's pre-agenda research activities is the re-examination of Statement 34, now that it has been in place for more than a dozen years.
Statement 68 creates a variety of issues that public institutions must begin thinking about and communicating to trustees and other relevant stakeholders. Because every state is different, public institutions will need to begin understanding how measurement and allocations will work, and their impact on financial statements. Institutions will also need to explore the degree of control they have to alter the types of benefits offered to employees.
Other considerations could include: increased audit time and cost; bond covenant compliance; rating adjustments; or impact on state appropriations. (For helpful hints from the Ohio State University, see sidebar, "10 Ways to Get Ready for GASB 68.")
An Interesting Pipeline
Several projects in the GASB pipeline bear watching. The most significant is OPEB; although the project conceptually parallels the pension standard, unlike pensions, many OPEB plans are "pay as you go" and may not contain a separately funded trust. Consequently, little or no assets are available to offset projected liabilities. In contrast to pensions, however, many governmental employers have greater discretion to alter the plans' benefit parameters and participant eligibility. Public institutions should become familiar with the type of OPEB promises offered to past and current employees and track this project.
Another major effort of the GASB involves fair value. This project is a noteworthy example of a technical undertaking that leveraged the efforts and authoritative guidance of the FASB. On April 14, the GASB released Concepts Statement No. 6, "Measurement of Elements of Financial Statements." This particular Concepts Statement is a necessary foundation that will guide the eventual issuance of a fair value standard and establishes two approaches to measuring assets and liabilities in financial statements:
- Initial transaction date measurement, which represents the transaction price or amount assigned when an asset is acquired or a liability is incurred.
- Subsequent measurement, which represents the amount assigned to an asset or liability when the element(s) are remeasured as of the financial statement date.
Earlier in 2013, the GASB issued its Preliminary Views (PV) on fair value, to which NACUBO responded on September 30. NACUBO's comments drew from the extensive experience that many independent institutions have had with FASB's measurement and reporting requirements especially as they relate to alternative investments. Although the 2013 NACUBO-Commonfund Study of Endowments indicates that close to 50 percent of the asset allocations of public institutions include alternative investment strategies, GASB's literature offers no guidance for valuing or explaining these assets. An Exposure Draft (ED) was released for public comment in May.
In April the board tentatively decided that the ED would not pose specific questions to respondents; rather, respondents will be encouraged to comment on all aspects of the proposal. Additionally, based on the due process efforts associated with the PV, the board tentatively agreed that neither a public hearing nor a user roundtable will be held.
Re-examining the Landmark Reporting Model
One of the newer projects added to the board's pre-agenda research activities is the re-examination of GASB Statement No. 34, "Basic Financial Statements—and Management's Discussion and Analysis—for State and Local Governments." Although pre-agenda research is preliminary and doesn't guarantee that a project will be added to GASB's technical agenda, an April update at NACUBO's Higher Education Accounting Forum by GASB Board Chair David Vaudt indicates that this will likely be a long-term project spanning several years.
The financial reporting model has a pervasive influence over the effectiveness of financial reporting by state and local governments, and the ability of that reporting to achieve its objectives. As a result, the GASB decided that it was important, as part of its commitment to maintaining the effectiveness of its standards, to re-examine the current financial reporting model now that it has been in place for more than a dozen years.
Statement 34 was the culmination of 15 years of research, deliberation, and due process. In it, the GASB established the present blueprint for state and local government financial reporting, including special-purpose governments engaged only in business-type activities (BTA). Among its many features, Statement 34 required BTAs, such as public colleges and universities, to present the financial statements required for enterprise funds using the economic resources measurement focus and accrual basis of accounting.
Statement 34 also required a narrative MD&A to precede the financial statements, and added note disclosures related to (1) capital asset and long-term liability activity during the reporting period, and (2) segment information for activities reported in enterprise funds.
The objective of the pre-agenda research is to gather feedback on the following broad questions:
- What financial reporting model requirements are effective or ineffective in providing information that is essential for decision making, and that enhances the ability to assess a government's accountability?
- What concerns exist regarding the application of the standards?
- How do the costs of applying the standards compare with perceptions of the benefits of the resulting information?
In 2013, GASB staff held nearly a dozen roundtables across the country to gather input from users, preparers, and auditors. Three roundtables, which included higher education representatives, were entirely dedicated to BTAs. A common sentiment expressed at those roundtables was the inherent difference between enterprise funds and stand-alone BTAs such as public colleges and universities.
The overwhelming majority of participants expressed dissatisfaction with GASB's prescriptive presentation of operating results on the statement of revenue, expenses, and changes in net position. The feeling was that the focus on governmental support and subsidy makes sense only for a fund of the primary government, but does little to tell the story of legally separate business-type activities that must operate within their means and that generate many diverse revenue streams to support numerous—and sometimes complex—programs.
In addition to the roundtables, the GASB staff is conducting an extensive literature review and archival research with governmental financial reports. The findings of this initial research will serve to inform additional research. GASB is expected to release a survey designed to obtain additional feedback before the end of the second quarter in 2014.
Significant Projects at the FASB
The FASB has a full plate as it continues to work through its convergence projects with the International Accounting Standards Board (IASB) as well as its other ongoing and pre-agenda research projects.
Not-for-Profit Reporting Changes
In 2011, FASB added a project to its agenda to improve financial reporting for not-for-profit (NFP) entities based on areas identified for improvement by the FASB Not-for-Profit Advisory Committee (NAC). These included:
- Revisiting current net asset classifications in the hopes that relabeling or redefining them would improve how liquidity is portrayed and clear up current confusion concerning restrictions and the definition of unrestricted net assets.
- Improving the relationship between the statements of activities and cash flows to more clearly communicate financial performance through these two statements.
Recently, the board has reached a number of tentative decisions that could significantly affect financial reporting by independent institutions. These preliminary decisions will serve as the basis for an exposure document expected to be issued in the second half of 2014. The following is a summary of those decisions. Keep in mind that these recommendations are tentative and subject to change.
Operating measure. One of many drivers behind the proposal to define a measure of operations is the request for comparability among NFPs' financial statements. A measure of operations allows an NFP to better tell its story by clearly presenting amounts available and used for current operations versus those held for longer-term purposes, either through donor or legal restriction, board designation, or other circumstances.
An intermediate operating measure would be defined on the basis of two key dimensions:
- A mission dimension, based on whether resources are related to the NFP's primary mission. Items such as proceeds from investing activities would not be included in operations unless the NFP's primary mission was to generate return on investments.
- An availability dimension, based on whether resources are available for current period activities, reflecting both external limitations and internal actions of an NFP's governing board.
An intermediate measure of operations would be required to be presented by all NFPs (except business-oriented health care entities that are currently required to provide a defined performance indicator). Many independent institutions already provide an intermediate measure of operations in their statement of activities (SoA), which typically follows NACUBO's advisory guidance.
A measure of operations would be presented in a format that would show all legally available mission-related revenues on a gross basis in the SoA. Amounts designated by the governing board for use in future periods would then be shown as reductions. In addition, the presentation would include amounts of previously unavailable resources that the governing board made available for use in the current period and amounts released from donor restriction in the current period.
An exposure draft on financial reporting by not-for-profit entities is expected in the second half of 2014, with a final standard to be issued in 2015.
The requirement to show all revenues and support coming in to operations—and subsequently being transferred to nonoperating for donor restrictions, board designations and nonmission-related activities—would look much different from the current statement of activities.
Net asset classes. The three classes of net assets currently required would be replaced with two classes of net assets: those with donor-imposed restrictions and those without. This would essentially remove the hard-line distinction between temporary restrictions and permanent restrictions.
While no changes are anticipated to the composition of unrestricted net assets, the label would be changed to "Net Assets Without Donor-Imposed Restrictions." The current "unrestricted" label tends to create misconceptions about the availability of those net assets. Many of FASB's constituents have expressed concern and frustration about the need to continually educate NFP boards, management, and other stakeholders about the availability of unrestricted net assets. For example, most higher education institutions have a significant amount of capital assets on their books that are unrestricted but illiquid. Similarly, amounts designated by an NFP's board as quasi-endowments are included in unrestricted but not available for general support of the institution's operations.
To avoid the potential loss of important information, disclosures about the composition of net assets at the end of the reporting period would be required. Disclosure about the use of donor-restricted assets (a roll-forward of activity for the period) would also be required.
The proposed changes to the net asset classes have caused many higher education institutions to question how the rating agencies and the Department of Education would interpret the new presentation—specifically, how they might use the presentation to calculate the numerator, or "expendable net assets," for an institution's primary reserve ratio. Sufficient detail in the notes to the financial statements to facilitate an understanding of when and how net assets with donor-imposed restrictions can be used will be critical.
Institutions will want to highlight net assets with donor-imposed restrictions that are not permanently restricted. This distinction can help explain that, absent a restriction in perpetuity, all net assets are expendable to support mission-related activities over the next reporting period and into the future. NACUBO has developed two possible presentations that explain net assets with donor-imposed restrictions typical in higher education institutions. (See www.nacubo.org/Documents/BusinessPolicyAreas/SampleNACUBONetAssetDisclosures.pdf.)
Statement of cash flows. Cash flows from operating activities would be required to be presented using the direct method in the Statement of Cash Flows (SoCF). The board felt the direct method—already used to present cash flows from investing and financing activities—would improve the usefulness of the SoCF by providing more meaningful information to users of NFP financial statements. The current requirement to provide a reconciliation of the change in net assets to net cash flows from operating activities (the indirect method) would no longer stand.
Certain elements in the cash flow statement would be realigned as follows:
- Interest and dividends received would be investing, rather than operating cash flows.
- Interest paid would be a financing, rather than an operating cash flow.
- Gifts for, and purchases of, fixed assets would be operating, rather than financing/investing cash flows.
The proposed treatment of the acquisition of property, plant, and equipment (PP&E) in the SoCF and the statement of activities has raised concern. Specifically, the receipt and disbursement of cash for PP&E-including contributions for such purchases-would be included as operating activities in the SoCF. Those amounts would also be included in the operating metric in the statement of activities. That differs from how those activities are currently reflected in the statement of activities. While NAC members and others (such as NACUBO's Accounting Principles Council) have expressed a strong desire for articulation between the operating statement and direct operating cash flows, they are generally not in favor of the proposed treatment of PP&E.
Because public colleges and universities are required to prepare the SoCF using the direct method, the FASB's proposed changes would be a step toward comparability across all of higher education. Public institutions say that although the initial preparation of a direct method SoCF requires some additional effort, on an ongoing basis the effort is not significantly different from that of using the indirect method. The preparation is largely a mapping exercise within existing systems to appropriately identify the various operating activities.
Also, institutions currently using the direct method say they spend considerably less time educating management, board members, and other stakeholders about how the SoCF works, and more time analyzing the data presented in the statement.
Presentation of expenses. NFPs would be required to present expenses by both functional and natural classifications within their financial statements. Currently, all NFPs must present expenses by function, but not by natural classification.
The proposed guidance would require an analysis of the relationship between natural and functional expenses within the financial statements. The format of that analysis would not be prescriptive. Rather, NFPs could choose to present the information on the face of the statement of activities, in a separate statement of functional expenses, or in the footnotes either in a matrix format or as a narrative discussion. While no specific format would be required, a matrix that contains natural expenses by function will likely prove the easiest and most straightforward approach.
In addition, all expenses—both operating and nonoperating—would be required to appear in the analysis. Nonoperating expenses such as interest expense, however, would not be required to be functionalized.
While some independent colleges and universities present expenses by natural class on the face of the statement of activities, the majority of institutions still present expenses by function. Therefore, the requirement to provide an analysis of functional and natural expenses would require additional effort. That effort, however, is not expected to be significant because most institutions manage their operations by natural expense. In addition to the natural and functional expense analysis (using, for example, a matrix presentation), institutions should include a discussion of the methods for allocating overhead amounts to the various functions.
Next steps. Areas still to be decided by the FASB board are:
- Reporting of investment expenses.
- Liquidity and financial flexibility.
- Improvement of certain NFP-specific note disclosures.
- Expiration of capital restrictions and other display issues concerning capital transactions.
An exposure draft is expected in the second half of 2014 with a final standard to be issued in 2015.
Update on Convergence
A final standard on revenue recognition is expected to be issued by the end of May. It excludes contributions and collaborative arrangements such as many sponsored research arrangements, so it is not likely to have a significant impact on independent institutions. The standard will be effective for most institutions in FY18.
Redeliberations on the leasing project are ongoing. FASB has received feedback on the proposals through comment letters on the revised exposure draft, public roundtables, and additional staff outreach. Based on that feedback, FASB has tentatively decided that all leases will be recorded as a right-to-use asset and a corresponding liability, but recognizes that not all leases are the same in substance. As a result, the model now being deliberated closely resembles the guidance in FASB Statement No. 13. Redeliberations are expected to continue for quite some time, so no date has been projected for a final standard to be issued.
Developing a Framework for Disclosures
One final project that is likely to affect independent colleges and universities relates to development of a framework for disclosures. The project's objective is to improve the overall effectiveness of note disclosures by clearly communicating only that information that is material and relevant to an entity's financial statement users. That doesn't necessarily mean a reduction in the number of disclosures, but rather disclosures that are relevant to the entity and relate to balances that are material to the entity's overall financial position.
During 2013, the FASB conducted field studies to better understand the use of discretion in the notes. Of the 23 field testers, six were colleges and universities. All of the higher education participants felt that application of the proposed framework would improve the effectiveness of their note disclosures.
With so much in the pipelines of both the GASB and the FASB, NACUBO will be actively monitoring and communicating with the standard setting boards to ensure that the unique needs of higher education institutions are being considered.