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Frank Crawford
Financial condition assessments of state and local governments

Ratio analysis helps put accounting statements in understandable form for officials and citizens.

November 12, 2012
By Frank Crawford, CPA

It all changed back in June 1999. That's when GASB issued its now well-known accounting standard GASB 34, Basic Financial Statements—and Management’s Discussion and Analysis—for State and Local Governments, which altered significantly the format and content of state and local governments’ annual financial statements, and made financial condition assessments of these governments much easier and more commonplace. 

Up until that time, determining the financial health and success of state and local governments from a look at their annual financial statements was not easy. Difficulties in analyzing abounded. As for a basis of accounting, these governments could use up to three methods (accrual, modified accrual, and budgetary). Their activities could be reported in one of up to 10 kinds of funds, with up to two measurement focuses. The lack of a true governmentwide total column, with intergovernmental activities and transactions eliminated and unified with a single basis of accounting, was the kicker. It made a financial condition assessment of these governments a challenge.

Then, in summer of 1999, the state and local government accounting community got what it didn't know it had been looking for—an external financial statement reporting model that retained and refined much of the previous model, but also added a set of governmentwide statements, reporting on a single basis of accounting and a single measurement focus, and with true total columns that eliminated most of the intergovernmental activities. 

At that point, the information in these governments’ annual financial statements began to speak in a language easily understood by most accountants, the language of ratio analysis. This information in a government’s annual financial statement now provides useful information for users on the government’s financial health and success. However, the financial statements do not readily volunteer answers to fiscal questions without financial analysis.

I had the opportunity to speak about financial condition assessments of state and local governments at the AICPA National Governmental Accounting and Auditing Update Conference (GAAC East), held in August in Washington. In the session, we revisited the world of financial statement ratios, and their use in analyzing the financial health and success of state and local governments. For many participants, the world of using financial statement ratios to make financial condition assessments had long come and gone because of the uniqueness of the previous state and local government reporting model briefly described in the second paragraph above. In general, this session focused on revisiting the use of financial statement ratios and communicating the results of ratio analysis to governing body members and the public in an efficient and understandable manner. 

During our session, the discussion centered on the use of various financial statement ratios, such as common-size ratios, liquidity ratios, solvency ratios, and funding ratios. At our firm, we decided to take a proactive role in both designing an analytical, ratio-based review of a government’s financial health and success and preparing a method of communicating that information in an easily readable, understandable format. Our target audience was not the sophisticated user of the financial statements such as creditors and grantors, but the less sophisticated, non-accountant user, i.e., most governing body members and the citizens.

Recognizing ratio analysis “truisms” of such as “no ratio is an island” and “an analyst does not live by one ratio alone,” our methodology led to our firm’s development of The Performeter, a copyrighted and trademarked analysis that features the use of a number of financial statement ratios and the development of an overall financial health and success rating based on the assessment and consultation in connection with the use of the analysis and rating. The overall rating is based on a scale of 1–10, with an overall score of a 1 representing poor financial health and success, an overall score of a 10 representing excellent financial health and success, and an overall score of 5 representing satisfactory financial health and success.

In summary, this methodology results in only one manner in which financial condition assessments of state and local government financial statements can be performed and communicated. The participants of this session were encouraged to use the ideas presented to assist in the development of their own financial condition assessment to ultimately develop some form of communicating these results to the decision-makers within state and local government entities. 

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Frank Crawford is president of Crawford & Associates P.C. For more information on The Performeter visit www.crawfordcpas.com, or email the author.