Governmental Accounting Standards Board Statement No. 34, Basic Financial Statements—and Management’s Discussion and Analysis—for State and Local Governments.
What is GASB?
The Governmental Accounting Standards Board (GASB) is an independent, private, nonprofit operating body of the Financial Accounting Foundation that was created in 1984. GASB was created for the purpose of establishing and implementing consistent standards of accounting and financial reporting among all state and local governmental entities, including, but not limited to, school districts, public institutions of higher learning, public health organizations and public cultural institutions. GASB’s private sector counterpart is the Financial Accounting Standards Board, known as FASB. GASB is the acknowledged authoritative body in setting generally accepted accounting principles (GAAP) for local and state agencies.
GASB 34 and Its History
In 1987, GASB published GASB Concepts Statement No. 1, Objectives of Financial Reporting. Concepts Statement No. 1 was the original precursor to Statement No. 34 (GASB 34). It was within Statement No. 1 that GASB first identified its goals of making governmental financial reporting more accessible and more useful to the users of financial reports, including the general public, issuers and auditors. The new model is supported by a number of users and professional associations. For example, the National Association of State Auditors, Comptrollers and Treasurers has endorsed the new model, as have the credit rating agencies. Many municipal accounting professionals agree that GASB 34 will result in financial statements which help educate and inform the public, allow them to hold the government more accountable and assess the government’s success in meeting its stated financial goals.
GASB 34 was issued in June 1999, and certain amendments were put out for public comment on December 29, 2000. It represents a fundamental revision of the current financial reporting model, that has been in place since 1979. While the GASB 34 model retains much of the information traditionally offered in governmental financial statements, it restructures the way in which such information is presented and requires a great deal of new and different information to be presented and disclosed. Specifically, GASB 34 establishes three components of the new financial statements: (1) basic financial statements, consisting of governmentwide and fund-based financial statements; (2) management’s discussion and analysis (MD&A); and (3) required supplementary information (RSI), which is to include comparisons of original, final and actual information of the government’s general fund and major special funds. This article addresses each of the new components with an emphasis on MD&A.
The New Financial Reporting Model
Basic Financial Statements Governmentwide Statements
The governmentwide financial statements will set forth information consisting of statements of net assets and of activities, for the entire governmental entity, not on a fund basis. GASB’s position is that these statements will be more useful for the reader since they require separation of the governmental and business-type activities of the governmental entity and distinguish between the overall government and its individual units by presenting each in separate columns. Further, GASB intends that these statements will alleviate concerns that governmental financial reporting focuses only on short-term, current-year, fiscal accountability because GASB 34 requires governmentwide statements to be based on full accrual accounting. Full accrual accounting takes into account not only current assets and liabilities but also capital assets and long-term liabilities (such as infrastructure reporting and retroactive infrastructure capitalization). In addition, the use of full accrual accounting will result in the governmental reporting of all revenues and costs of providing services each year regardless of when payments and receipts actually occur.
GASB 34 requires that all capital assets be reported in the statement of net assets and divided into three categories: invested in capital assets, net of related debt; restricted (use is constrained by law or contract); and unrestricted. The statement of activities will include revenues and expenses presented by function (e.g., public safety, water and sewer, etc.) and depreciation expense related to those capital assets (discussed further below). Expenses (which may include allocated indirect costs) are to show both gross and net of related revenues, such as fees and grants. Special and extraordinary items are to be reported separately from revenues and expenses.
Under the current reporting model, depreciation is not recorded for governmental capital assets, such as those purchased through the general fund. Further, current accounting principles do not require the reporting of infrastructure costs such as roads, bridges, storm drains, street lights and traffic signals as capital assets, not because they aren’t major community investments, but because they are immovable, and of value only to the government. GASB 34 will require an allocation of the cost of all capital assets over their useful lives, thereby requiring depreciation of general fixed assets. Further, it will require that infrastructure be reported at its “historical” (not current) value, then depreciated like other capital assets. Nearly all municipal finance officers across the country vigorously opposed this controversial change as being very expensive with limited practical value.
Fund-based Statements
The basic financial statements will also include fund-based financial statements. These statements will serve to report information about governmental, proprietary and fiduciary funds. Under GASB 34, governmental fund financial statements are required to have a balance sheet and statement of revenues that would include the general fund, special revenue funds, debt service, capital projects and permanent funds. Proprietary fund financial statements include enterprise funds (where a fee is charged to an external user) and internal service funds (where goods and services are provided to other parts of the government). GASB 34 requires a statement of net assets, a statement of revenues, expenses and changes in fund net assets and a cash flow statement. Fiduciary funds are those that report assets held for others and that cannot support the government’s own programs, such as pension funds, investment trust funds and agency or custodial funds. Required for fiduciary funds are statements of fiduciary net assets and changes in fiduciary net assets.
Finally, GASB 34 will require notes to the basic financial statements where an explanation is required with respect to a user’s understanding. While there are particular note disclosures required by GASB 34, the requirements are not all inclusive, and governmental finance officials should include any disclosures in the notes of material items that they deem essential for providing a full picture of the governmental entity’s financial position and that will prevent the financial statements from being misleading.
MD&A
Aside from the new information required within the basic financial statements, GASB 34 also mandates the inclusion of MD&A into the statements. While MD&A is viewed as RSI, MD&A is to be presented separately from the other RSI and must be physically placed before the basic financial statements. The purpose of the finance officers’ MD&A in the context of the financial statements is to introduce and analyze the governmental entity’s financial activities, to make the financial statements more easily understandable to the reader and to pinpoint issues in the statements that the reader may not otherwise discover. The MD&A must be presented in plain English, and the analysis offered in it is to be based on information known to the management. The MD&A should include the following:
- Financial Highlights. The MD&A should begin with a brief summary of the basic financial position of the governmental entity (net assets, expenses, revenues, costs, deficits, etc.)
- Overview of Financial Statements. This narrative overview should include a discussion of how the governmentwide financial statements relate to the fund financial statements. The discussion should help the users reconcile the bottom lines of the two statements and may contain explanatory charts and graphs.
- Financial Analysis of the Governmental Entity as a Whole. This section of the MD&A should discuss and explain whether and in what way the governmental entity’s financial position has improved or deteriorated during the year and what the factors were that led to such a change in position. The section should analyze the governmental and business-type activities separately. In addition, this section should address governmental funds and provide budgetary highlights of those funds. As with the other sections of the MD&A, illustrative charts and graphs are acceptable.
- Comparative Financial Information. This section should take information from the government-wide statements and present it with comparisons to prior years. Again, as with other sections of the MD&A, charts and graphs are acceptable.
- Analysis of any Significant Change in Individual Funds. Any significant change from one period to another (year-to-year or stub period-to-stub period) appearing in the basic financial statements should be explained.
- Analysis of any Significant Changes between (a) the original and final budgets and (b) the final budget and the actual budgetary results for the year. The reasons for such changes should be discussed.
- Description of Capital Assets and Long Term Debt Activity. This section should include information about the kinds of capital assets the governmental entity owns, the dollar amounts of those assets and how the dollar amounts of the assets changed from the prior year. With respect to long-term liabilities, the section should describe the amounts and types of debts owed, how the debts changed from the prior year, any significant amounts borrowed during the year (and repayments of other liabilities) and any other events or changes that affect or might affect any liabilities that the governmental entity might incur.
- Description of the Infrastructure. The way in which the infrastructure assets are treated in the governmentwide statements as well as how the infrastructure assets themselves are maintained and preserved should be discussed.(While infrastructure disclosure is to be made in the back part of the financial statements in the RSI, it may also be discussed in the MD&A).
- Description of Facts, Decisions or Conditions. This section of the MD&A should address any facts, decisions or conditions known to management that may have or are expected to have a significant impact on the governmental entity’s financial position going forward.
Although GASB 34 allows some flexibility in terms of how the MD&A is presented, encouraging management to report only on relevant information and to avoid boilerplate discussion, the requirement of providing the MD&A in and of itself puts a much greater disclosure burden on the governmental entity than has ever before existed. The GASB 34 MD&A requirements bring governmental entities more into line in respect of disclosure with their private sector counterparts.
A number of issues are raised with respect to the MD&A. Although GASB 34 encourages that the MD&A be placed preceding the financial statements, when used in an offering document, some issuers may wish to place the MD&A outside the financial statements and closer to the front. We would encourage issuers to formally comply with GASB 34 and place the MD&A in the front of the financial statements with appropriate cross references in the main part of the offering document. Also, although GASB provides guidance on the format for the MD&A, some issuers may also look to the rules and regulations of the Securities and Exchange Commission with respect to prospectuses prepared in compliance to the Securities Act of 1933 (the 1933 Act). Rule 303 of Regulation S-K (Rule 303) sets forth the elements of management discussion and analysis required for issuers of securities that are not exempt from the 1933 Act. We would encourage issuers that Rule 303 may prove instructive, but the recent proposed amendments to GASB 34 indicate that the MD&A should be limited to the items listed in paragraph 11 (a) through (h) of GASB 34.
RSI
RSI is the third component of the new financial statements. RSI is included in the financial statements to help the user comprehend the information provided within the statements taken as a whole. RSI is often presented in more detail than the notes and may cover more fiscal years than information provided in the notes section to the financial statements. While the MD&A is considered RSI and will include a discussion of budgetary comparison, RSI requires that an actual budgetary schedule be produced (if such a comparison schedule has not already been included within the basic financial statements). In addition, RSI should contain other data as required periodically through prior GASB pronouncements. Finally, RSI should also include special infrastructure information for those governments that utilize the modified approach to reporting infrastructure (which is quite complicated and outside the context of this article).
Presumably, information contained in RSI, including the MD&A, that is included in offering documents for municipal securities and that is not otherwise within the basic financial statements will be annual financial information subject to Rule 15c2-12 of the Securities Exchange Act of 1934.
Implementation
The implementation of GASB 34 will occur in three phases based on the governmental entity’s total annual revenues:
- Governments with total annual revenues of $100 million or more will apply GASB 34 beginning with fiscal years after June 15, 2002;
- Governments with total annual revenues of $10 million or more but less than $100 million, will apply GASB 34 beginning with fiscal years ending after June 15, 2003; and
- Governments with total annual revenues below $10 million will apply GASB 34 beginning with fiscal years ending after June 15, 2004.
Conclusion
Some commentators believe that, under GASB 34, local and state government basic financial statements will become longer and more complex and thus more difficult to prepare and audit. This increased difficulty and complexity translate directly into increased costs, both one-time during implementation and ongoing thereafter, for staff resources, as well as audit fees and consultant services. All governmental entities should plan well in advance to comply with GASB 34. A governmental entity will not be in compliance with GAAP if it is subject to and does not comply with GASB 34. Any governmental entity planning to issue municipal securities should also consider the impact that GASB 34 will have on in its offering document, especially the MD&A, and should expect that underwriters will require an undertaking under Rule 15c2-12 with respect to the full audited financial statements together with RSI, including the MD&A.
Several local government financial reports have already been prepared in accordance with GASB 34: City of Guymon, Oklahoma; City of Orlando, Florida; City of Corona, California, Town of Davie, Florida; Village of Wilson, Louisiana; City of Wooster, Ohio; BEREA City School District, Ohio; various school districts in Louisiana; Albany County Airport Authority, New York; and Douglasville-Douglas County Water and Sewer Authority, Georgia. Some of the foregoing entities financial statements are available in PDF format online.
There are a great many online resources available to those interested in the application and implementation of GASB 34 from a financial reporting and accounting perspective. Among these are GASB’s own Web site,which provides links to various other resources (and which includes the December 2000, Exposure Draft of GASB 34), the Web site of the California Society of Municipal Finance Officers,and the GASB 34 Forum of the Government Finance Officers Association’s Web site.
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