Paper #17.doc 3/12/03 3:02 PM Measuring Operations: An Analysis of the Financial Statements of U.S. Private Colleges and Universities By Mary Fischer, Teresa P. Gordon, Janet Greenlee, & Elizabeth K. Keating The Hauser Center for Nonprofit Organizations The John F. Kennedy School of Government Harvard University March 2003 Working Paper No. 17 Mary Fischer is a Professor of Accounting at the College of Business Administration at the University of Texas at Tyler. Teresa P. Gordon is a Professor of Accounting at the College of Business & Economics at the University of Idaho. Janet Greenlee is an Associate Professor of Accounting at the University of Dayton. Elizabeth K. Keating is an Assistant Professor of Public Policy at the John F. Kennedy School of Government at Harvard University. Acknowledgements: We wish to thank David Coy for his comments on an early version of this paper.
32
Embed
Measuring Operations: An Analysis of the Financial ... · Measuring Operations: An Analysis of the Financial Statements of U.S. Private Colleges and Universities by Mary Fischer,
This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
Transcript
Paper #17.doc 3/12/03 3:02 PM
Measuring Operations: An Analysis of the Financial Statements of U.S.
Private Colleges and Universities By
Mary Fischer, Teresa P. Gordon, Janet Greenlee, & Elizabeth K. Keating
The Hauser Center for Nonprofit Organizations The John F. Kennedy School of Government
Harvard University March 2003
Working Paper No. 17
Mary Fischer is a Professor of Accounting at the College of Business Administration at the University of Texas at Tyler. Teresa P. Gordon is a Professor of Accounting at the College of Business & Economics at the University of Idaho. Janet Greenlee is an Associate Professor of Accounting at the University of Dayton. Elizabeth K. Keating is an Assistant Professor of Public Policy at the John F. Kennedy School of Government at Harvard University.
Acknowledgements: We wish to thank David Coy for his comments on an early version of this paper.
Abstract
As events in the business sector have highlighted, companies can play by the rules and
yet produce misleading financial statements. This study examines the nongovernmental
organizations that provide a substantial portion of higher education in the United States.
We seek to determine whether private colleges and universities take advantage of the
discretion available to them under accounting and auditing standards by presenting an
operating measure in their statement of activities. We find that nearly 60 percent of
schools report an operating measure but the items included or excluded from operations
vary widely.
Measuring Operations: An Analysis of the Financial Statements of
U.S. Private Colleges and Universities
by
Mary Fischer, Teresa P. Gordon, Janet Greenlee, & Elizabeth K. Keating
Having a choice among several alternatives is usually considered a good thing.
When it comes to financial reporting, however, there is a cost. Flexibility can lead to
diversity in practice that makes comparisons between organizations very difficult. The
organizations we study are part of the vigorous nonprofit sector of the U.S. economy.
The sector is comprised of 1.2 million organizations (Independent Sector 2002), and
contributes 10 percent of gross national product (Avery 2001). The accounting issue we
study is the presentation of operating results in the statement of activities of nonprofit
organizations. In particular, we focus on operating income which is one summary
measure often used to assess the quality of management.
LACK OF DEFINITION
In the U.S., nonprofit organizations have considerable discretion in deciding how
to display the results of operations each year. There are several possible formats for the
statement of activities. Within the formats illustrated in the accounting standards, there
are additional choices to make with respect to the presentation of subtotals. The
Financial Accounting Standards Board (FASB) “neither requires nor precludes a
nonprofit organization from classifying its revenues, expenses, gains and losses as
operating or nonoperating within its statement of activities” (FASB 1993b, ¶163). The
Table 1 – Characteristics of Institutions with and without an Operating Measure
Institutions Presenting an Intermediate
Operating Measure
Institutions without an
Intermediate Operating Measure
Sample (Significance level
for difference in mean)
Number of annual reports 122 85 207 Percentage 58.94% 41.06% 100.00%
Total Assets (in thousands)
Mean $ 1,056,800** $ 265,277 $ 731,779 Median 236,996* 79,606 116,765
Long-term investments (in thousands)
Mean $ 736,593** $ 171,030 $ 504,357 Median 105,549* 34,731 57,571
Permanently restricted net assets (in thousands)
Mean $ 146,847* $ 45,268 $ 105,136 Median 31,220* 14,699 24,927
Total revenues (all sections - in thousands)
Mean $ 344,336* $ 97,613 $ 243,025 Median 76,366* 27,341 43,762
Total expense (all sections - in thousands)
Mean $ 211,885* $ 58,672 $ 148,971 Median 53,324* 21,205 35,634
Fall FTE enrollment
Mean 4,595* 2,587 3,770 Median 2,327* 1,596 1,906
Net tuition per student
Mean $ 11,441* $ 8,643 $ 10,292 Median 9,964* $ 8,008 $ 5,331
Tuition dependency ratio
Mean 79.0%* 83.4% 80.8% Median 84.9%* 86.3% 85.7%
Leverage (available net assets to long-term debt)
Mean 10.948*** 30.3074 18.6319 Median 4.39* 4.87 4.41
Dollar amounts obtained from content analysis of financial statements, enrollment data from 2000 Higher Education Directory. Tuition dependency ratio was computed (in accordance with KPMG technique) as net tuition revenue divided by operating income. Leverage equals (unrestricted net assets + temporarily restricted net assets)/long-term debt. * significance level of 0.01 or less, ** significance level of 0.05 or less, *** significance level of 0.10 or less using two-tailed t-test for comparison of means and Wilcoxon sign rank test for medians.
Measuring Operations at U.S. Universities Page 23
Table 2 – Auditors Associated with Operating Measures
and Characteristics of Auditees
Panel A – Audit Firm and Use of Intermediate Operating Measure
Mean $ 1,116,324* $ 81,544 $ 740,963 Median 297,364* 58,921 119,173
Long-term investments (in thousands) Mean $ 777,697* $ 43,203 $ 511,263 Median 150,648* 22,418 57,719
Permanently restricted net assets (in thousands) Mean $ 156,627* $ 18,654 $ 106,578 Median 47,013* 10,051 25,075
Total revenues (all sections - in thousands) Mean $ 368,987* $ 29,431 $ 245,815 Median 86,220* 22,612 42,889
Total expense (all sections - in thousands) Mean $ 223,073* $ 22,988 $ 150,493 Median 61,486* 18,602 376,933
Fall FTE enrollment Mean 4,921* 1,728 3,763 Median 2,737* 1,357 4,544
* significance level of 0.01 or less, ** significance level of 0.05 or less, *** significance level of 0.10 or less using two-tailed t-test for comparison of means and Wilcoxon sign rank test for medians.
Measuring Operations at U.S. Universities Page 24
Table 3 – Nature of Items Reported as Nonoperating and Related Disclosures
Panel A Frequency n=122
Percentage of Institutions with
an Operating Measure
Investment income, gains or losses 100 82.0% Contributions and bequests 74 60.7% Change in value of split interest agreements including actuarial
gains and losses 19 15.6% Plant expenses* (primarily depreciation and/or interest expense) 11 9.0% Gain/loss on sale of long-lived assets 5 4.1% Revenues from government sources 4 3.3% Cumulative effect of change in accounting principle 3 2.5% Discontinued operations 1 0.8% Extraordinary gain or loss 1 0.8% Investment management fees or fund raising costs 0 0.0% Other items not listed above 15 12.3% *Note that depreciation and interest are to be allocated to program functions according to the audit guide. Accordingly, one would presume that these items would be considered operating expenses.
Panel B
Frequency Percentage of Sample
Expiration of donor-imposed restrictions: Total amount only 117 56.5% Minimum required breakdown between program restrictions and time restrictions 34 16.4% Detailed breakdown as to specific program restrictions met (e.g., capital versus operating)
56 27.1%
207 100.0%
Nature and amount of different types of restrictions on Temporarily restricted net assets 173 83.6% Permanently restricted net assets 176 85.0%
Measuring Operations at U.S. Universities Page 25
Table 4 – Presentation of Change in Split Interest Agreements and Gain/Loss on Disposition of Plant Assets
Institutions Presenting an Intermediate
Operating Measure
Institutions without an
Intermediate Operating Measure
Total
Number of institutions 122 85 207
Changes in value of split interest agreements including actuarial gains and losses Specifically listed as an item in revenue section 12 25 37 Not specifically listed - presumed buried in "other" revenue 6 8 14
18 33 51 14.8% 38.8% 24.6%
Specifically listed as an item in the expense section 8 13 21 Not specifically listed - presumed buried in "other" expense 10 2 12
18 15 33 14.8% 17.6% 15.9%
Listed in nonoperating section 19 19 15.6% 0.0% 9.2%
Totals for change in value of split interest agreements 55 48 103 45.1% 56.5% 49.8%
Institutions Presenting an Intermediate
Operating Measure
Institutions without an
Intermediate Operating Measure
Total
Gains and losses from sale or disposition of long-lived assets Specifically listed as an item in revenue section 2 6 8 Not specifically listed - presumed buried in "other" revenue 16 21 37
18 27 45 14.8% 31.8% 21.7%
Specifically listed as an item in the expense section 3 4 7 Not specifically listed - presumed buried in "other" expense 1 1 2
4 5 9 3.3% 5.9% 4.3%
Listed in nonoperating section 5 5 4.1% 0.0% 2.4%
Totals for gains or losses on disposition of long-lived assets 27 32 59 22.1% 37.6% 28.5%
Page 26
APPENDIX A -- Key Ratios For Evaluating Private Colleges and Universities “X” indicates listing as a “key” ratio.
”s” indicates listing but not as a “key” ratio Standard & Poor’s Moody’s Fitch Dept.
of Ed. KPMG
Primary Reserve Ratio:a
Expendable Net Assetsb Total (or Operating) Expensesc
X X X X
Other Resources-to-Operations Ratios:
Unrestricted Resourcesd Total (or Operating) Expenses
Xe Xf
Face Value of Cash and Investments Operating Expenses X
Available (or Unrestricted) Cash and Investments Total Unrestricted (or Operating) Expenses Xg Xh
Net Income Ratio:i
Change in Unrestricted Net Assets Total Unrestricted Revenue
X X
Adjusted Total Unrestricted Revenues - Unrestricted Expenses Adjusted Total Unrestricted Revenues Xj Xk
Change in Unrestricted Oper. Revenues Over Unrestricted Oper. Expenses Total Unrestricted Operating Income X
a Only KPMG and the U.S. Dept. of Education describe this ratio as the “primary reserve ratio” although all of the rating agencies except Fitch list it as a key ratio.
b For S&P, Moody and KPMG, expendableexpendable net assets = total net assets – permanently restricted net assets – (property, plant, and equipment – long-term debt). The Dept. of Education formula includes more adjustments: expendable net assets = (unrestricted net assets) + (temporarily restricted net assets) – (annuities, term endowments, and life income funds that are temporarily restricted) – (intangible assets) – (net property, plant and equipment) + (post-employment and retirement liabilities) + (all debt obtained for long-term purposes). Note that Fitch specifically says that they do not use net assets over expenses as a measure of liquidity due to the uncertainties regarding the liquidity of certain assets included in the computation of expendable net assets.
c Only Standard and Poor’s indicates use of total operating expenses rather than total expenses in the denominator of this ratio. d Unrestricted resources = unrestricted net assets – (net property, plant and equipment) – outstanding long-term debt (S&P) e S&P uses operating expenses in the denominator. f Moody uses total expenses in the denominator. g Standard and Poor’s uses “total operating expenses” instead of “total unrestricted expenses.” h Fritch uses unrestricted and temporarily restricted cash and investments in the numerator. They call this figure “available funds.” The
denominator is total unrestricted expensesexpense although the discussion hints that adjustments might be made. i Net income ratio is the terminology used by KPMG and the Dept. of Education. Variations on this ratio are referred to as operating
margin (Moody’s and Fitch). j Moody adjusts unrestricted revenues by limiting investment income to 4.5% of previous year’s ending value of cash and investments
and subtracting net assets released from restrictions for construction and acquisition of fixed assets. Moody computes an alternate version of the ratio that excludes contributions and gifts from both the numerator and the denominator.
k Fitch adjusts the change in unrestricted net assets for net assets released from restrictions related to non-operating purposes such as capital needs. Fitch says variations of the ratio may be calculated which exclude unrealized gains and loss and nonrecurring items to more accurately assess the institution’s core operations. Fitch also computes a smoothed version of the ratio using 3-year averages.
Page 27
Appendix A, continued “X” indicates listing as a “key” ratio.
”s” indicates listing but not as a “key” ratio Standard & Poor’s Moody’s Fitch Dept.
of Ed. KPMG
Return on Net Assets Ratio:
Change in Total Net Assets Total Net Assets
Xa X
Equity Ratio:
Modified Net Assets Modified Assets
Xb s
Viability Ratio:
Expendable Net Assets1 Long-Term Debt
X
Other Resources-to-Debt Ratios:
Available (or Unrestricted) Cash and Investments Total Debt
Xc
Xd
Face Value of Cash and Investments Total Debt X
Expendable Unrestricted Net Assets Direct (or Comprehensive) Debt Xe
a Moody uses average net assets in the denominator. Moody also lists a variation of this ratio called “return on financial assets.” It is the change in total financial resources divided by the average total financial resources. Financial resources are defined as total net assets less (plant, property and equipment – related debt).
b Dept. of Education modifies equity and assets by subtracting intangible assets and unsecured related party receivables: Modified Net Assets = (total net assets) – (intangible assets) – (unsecured related-party receivables). Modified Assets = (total assets) – (intangible assets) – (unsecured related-party receivables).
c S&P apparently uses the face value of all cash and investments in the numerator rather than omitting restricted cash and investments as is done to one degree or another by the other rating agencies.
d Fitch uses unrestricted cash and investments which they refer to as “available funds.” e Moody calls this ratio “unrestricted financial resources-to-debt” and computes two versions. The first uses “direct debt” in the
denominator and the second uses “comprehensive debt” which includes certain off-balance sheet instruments such as private developer-financed borrowings for projects, operating leases, etc. Direct debt is the debt upon which principal and interest payments are due. Unrestricted financial resources are defined as total unrestricted net assets less (investment in plant less related debt).
f Available Net Assets (as compared to expendable net assets) includes equity in plant, property and equipment. That is what makes this ratio different from the viability ratio.
g Moody’s also computes this ratio based on direct debt only. Direct debt includes all debt for which an institution is legally obligated
to pay debt service, such as bonds, notes, and capital leases.
Page 28
Appendix A, continued “X” indicates listing as a “key” ratio.
”s” indicates listing but not as a “key” ratio Standard & Poor’s Moody’s Fitch Dept.
of Ed. KPMG
Debt Service Burden Ratios:
Maximum Annual Debt Service Total Unrestricted Revenues
X
Maximum Annual Debt Service Total (Operating) Expenses Xa Xb
Actual Debt Service Total Expenses X s
Debt Service Coverage:
Adjusted Change in Net Assets Maximum Annual Debt Service
Xc
Net Revenues (or Adjusted Change in Net Assets) Actual Annual Debt Service Xd Xe s
Adjusted change in net assets Maximum Future Annual Debt Service Xf Xg
Available (or Unrestricted) Cash and Investments Maximum Annual Debt Service Xh
a Standard & Poors includes proforma debt service costs for proposed new issues of debt in the numerator and uses total operating expenses rather than total expenses in the denominator.
b Moody’s calls this the “peak debt service-to-operations” ratio and divides by total expenses instead of total operating expenses. c Moody’s also computes a smoothed version by taking a three-year average of (the change in net assets + depreciation + interest paid)
divided by the maximum principal and interest payment during the period. d Moody also computes a smoothed version of this ratio using 3-year averages. e Fitch’s “annual net revenues” is the change in unrestricted net assets with noncash items like depreciation being added back along
with interest that was expensed during the year. It is probably equivalent to S&P’s “adjusted change in net assets.” Fitch says that they also compute this ratio using “existing fund balance” but did not explain this term.
f S&P does not define “adjusted change in net assets” but presumably the adjustments would be to add back depreciation expense and interest paid.
g Moody only lists “Average peak debt service coverage” which is a smoothed version of this ratio (using 3-year averages). h Fitch uses unrestricted cash and investments which they refer to as “available funds.”
Page 29
END NOTES
1 In Fall 1999, only 6 percent of private institutions (as compared to 44 percent of publics) had 5,000 or more
students, and the majority of private schools (61 percent) had fewer than 1,000 students enrolled. For the
2000-2001 school year, the tuition at private institutions was, on average, 4.43 times higher than what state
residents paid to attend the public institutions in their state. Only about seven percent of undergraduate
students are not U.S. citizens but twelve percent of all master’s degrees and 26.7 percent of all doctoral
degrees in 1994 were granted to foreign students. The percentage of science and engineering degrees
earned by foreign students was substantially higher--nearly a third of the master’s degrees and over 40
percent of the doctorates. These statistics are derived information compiled by the U.S. Department of
Education at http://nces.ed.gov/.
2 The recommendations become more detailed when the computational details of ratios are examined. For
certain ratios, contributions are not considered operating revenue: KPMG defines operating income as “the
sum of all self-generated income other than investment income, contributions, and net assets released from
restrictions” (KPMG 1999, p. 43). In the accompanying illustrations, KPMG also subtracts auxiliary
enterprise expenses.
3 The DOE rating system is based on the KPMG study. The specific rules are available through
http://www.ifap.ed.gov as Appendix G to 34 CFR Part 668.
4
5 If some revenues (or expenses) are segregated in a nonoperating section on the statement of activities, the
total unrestricted revenues (or total expenses) figures will be different from the comparable totals had the
statement been prepared without the nonoperating section.
Page 30
6 In the U.S., financial statements of nonprofit entities is not public information. Instead, most large
nonprofits (other than churches) are required to file an annual information return (Form 990) which
includes financial information presumably consistent with the audited financial statements. However, the
reliability of Form 990 data as a substitute for the complete set of financial statements has been shown to be
problematic (Fischer, Gordon & Kraut 2002).
7 Since five schools reported all investment-related income in the nonoperating section, and another four
schools did not provide prior year balance sheet information, this computation is based on 113 schools.
The standard deviation was 5.66 percent.
8 All nonprofits should report separately certain special items -- extraordinary gains or losses, discontinued
operations and effect of change in accounting principle. None of the institutions in our sample had a
nonoperating section that only included one of the special items; rather they always reported at least one