Treasure Hunting: Looking for Gold in the Year-End, CPA

Treasure Hunting
Looking for Gold in the Year-End, CPA-Audited Financial Statement
by Bernie Mapili
W
elcome to a beginner’s guide to reading the CPA-audited, yearend financial report prepared by your association’s independent
CPA firm. This is specifically targeting the homeowner, board
member, or CAM that searches for the nuggets of gold but only seems to
find a solution to sleep deprivation. To keep it interesting, I will address
the formality right now but afterwards focus on the operations. Please
drink a cup of Joe and make it through the following four sentences.
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Formal CPA Jargon
All audits are performed
according to GAAS (Generally Accepted Auditing
Standards) to ensure the
financials are in line with
GAAP (Generally Accepted
Accounting Principles). The
end all be all, hopeful goal
of an audited financial statement is to receive an unqualified opinion (aka, a
clean opinion). This clean
opinion gives you a level of
assurance that the financials
are free of material misstatement but not absolutely free
of fraud. In other words, the
board and management company have fulfilled their duty
in operating the association
in the best interests of the
homeowners versus any
one person’s specific agenda.
Okay, wake up! Now let’s
get down to the brass tacks and give you key operational treasures
provided in the financial report.
Gold Nugget One—Accounts Inconceivable!
Despite the turmoil in the economy, such as the stock market, the
overall accounts receivable of certain parts of Florida has dramatically
improved. In years prior there were non-paying members ranging from
15 percent to as high as 40 percent. As of this past year, there has been
a significant improvement where HOA’s non-paying homeowners have
been as low as 10 percent and condominiums below 20 percent. From
a financial statement perspective, that means your accounts receivable
is healthier today. This first literal gold nugget is the potential money
heading to your association’s bank account through the end of this
year and throughout 2012. How much you might be asking? The key
is to look at your Balance Sheet, typically page three of the report,
and see the size of your allowance. Per the example below, the gross
accounts receivable is $400,000 with $275,000 representing good
accounts receivable and $125,000 as bad accounts receivable.
Assets
Member Assessments receivable,
less allowance for doubtful accounts of $125,000
Operating Fund
$275,000
In this example, the $275,000 already has a good chance of being
collected. It represents homeowners that are behind no more than 30
days and the HOA believes they will collect after short sale, etc.
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However, the $125,000 represents dollars that were written off the
books—expensed as hopeless—based on the grim realities upon which
it was calculated. However, if a community assumed non-paying
members at 20 percent for the year but actually performs at 10 percent, that is a 50 percent reduction in future bad debt. That means the
$275,000 chances are even better,
and the hopelessness of $125,000
may be premature after all. The
Assets must equal liabilities
most accurate thing to do is look
plus fund balance. The
at each delinquent homeowner
very word fund does not
account, but overall dollars could
literally mean cash; it
be heading to your association
simply represents the
whether you like it or love it! On
excess amounts derived
top of that, for the rest of 2011 and
from the line items above it.
into 2012, you may have all the bad
debt you need already in the allowance. Therefore, you could reduce
the bad debt expense in your 2012 budget and re-allocate the dollars
to another need or, last but not least, reduce your dues altogether.
Quick tip—Dues: To lower or not to lower?
Lowering dues would be great, but more often than not, this is a
great opportunity to recalculate reserves both in cost and estimated
useful life as well as utilities. Both can really surprise you after a
year of activity.
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Gold Nugget Two—
Fund Balance—Show
Me the Money!
On the balance sheet, the
last line before the total liabilities and fund balance is
the total line for the fund
balances in the separate
fund accounts. Typically,
those numbers are very
large. More often than not,
at a heated Annual Budget
meeting, Finance Committee,
or in a one-on-one homeowner meeting, someone
demands to know what the
association plans to spend
that gigantic fund balance
on? Some go on to say, “we
have two big balances, one
on the operating and one
in the replacement fund.
And, the one in the replacement fund is the exact same
dollar amount as the restricted cash! When are
we going to lower dues
or spend all that money?”
On behalf of the great thinkers of accrual accounting
methodology, we apologize
for the confusion. Accountants live in the world of
dual entry accounting and
the fund balance is really
an equity line item, the net
worth, or a mathematical
remainder to make it
balance, which is why it
is called the Balance Sheet
(aka, the Sheet of Balance).
Assets must equal liabilities plus fund balance.
The very word fund does
not literally mean cash;
it simply represents the
excess amounts derived
from the line items above
it. If you’re still lost or
confused in the fog of war,
simply stay in the assets
section of the Balance Sheet
to refer to your actual cash
assets. That is where you
can see the actual cash funds.
Quick tip—Fixed Assets:
Where are the fixed assets?
Every once in a blue
moon, a blue chip, 10k investor or other financially
savvy person asks where
are the condomimium
buildings, clubhouse, roads,
or pool on the financials.
Well, before claiming an
asset on the balance sheet,
first check to make sure
your association actually
has title to the maintained
assets of an association.
Maintenance does not
equal ownership. Each
actual owner could very
well own a proportionate
share of each roof or road
and not the actual association charged with keeping
the item in working order. Not to mention depreciation can really
confuse the operational efficiency and cash flow of an association.
Keep it simple.
Gold Nugget Three—Revenue Reality
Here’s a reverse nugget, meaning do not be misled, you may have less
than what you see! For most personal financials, when the cash deposits
into your bank account or your pocket, that is when revenue has been
made. In the community association world, revenue is driven more by
theory than reality. What? Yes, again, accrual accounting strikes in
achieving true business clarity but leaves the non-financial statement
professional confused. Revenue is calculated based on what you should
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collect and not necessarily on what you actually collected. Please see
the example information below:
Revenue
Member Assessments
Interest Income
Late Fee Income
Operating Fund
$850,000
$15,000
$5000
Upon seeing this, someone may be excited to see that the association received $870,000 in actual cash for the year. And you know
full well that your expenses are only $800,000. That means that the
association had an excess of $70,000.
However, let’s insert a basketball referee to blow the whistle and
call a flagrant foul, two shots to be made. Shot One: the confusing
world of accrual accounting is a pervasive, consistent, and oddly
enough comprehensive methodology that affects this analysis. Under
accrual accounting, revenue is recognized when it is realizable and
earned and not when it is actually collected. Accountants everywhere
promise it makes sense taken as a whole and over periods of time.
However, if you do not understand what I just wrote then move to the
next point. Shot Two: there is hope! If you want to know how much
cash revenue you made that year, you can total up all of the deposits
from your bank account for the year. The other option is to go to the
statement of cash flows (typically page five of the report) and solely
68 Nov 2011 FLCAJ
focus on the increase in cash
over the year at the bottom
of the statement. Try not to
decipher the line items above
as 95 percent of cash flows
use the indirect method,
which is a multiple page
article all by itself.
Gold Nugget Four—The
Notes to the Financials
The final big nugget focuses
on the key parts of the notes
to read each year. When you
read these notes, you are looking for the paragraphs with
changes from last year and
not necessarily reading every
paragraph. For the communities over 12 years old, you
might say, “I have not seen a
change in years.” However,
that is typically good news.
More often than not, if there
is a change, it will be in one
of the following places: subsequent events, a legal issue
involving a potential lawsuit,
or an obscure high-level
change in accounting terminology. The last one is for the
sake of financial statement
clarity at the highest level,
which typically means no
operational impact. The first
two on the other hand, you
should read carefully. A subsequent event is something that
has happened between the
close of the fiscal year of the
report to the date the financial
statements was available to
be issued. The auditor felt it
is not only important, but it is
potentially recent. An example
could be a special assessment
being made, a developer adding new property to the community, or unexpected reserve
spending. The second change in the notes is a potential legal issue.
These issues are not as immediate as a subsequent event, but legal
action is generally a critical issue and expensive. Both are a signal to
you to get involved and join the next board meeting or contact your
management company for more information.
Quick Tip—Supplementary Information
The last part of the notes that are a must read every year is the
supplementary information, which are the last few pages of the
report. Now, supplementary information is beyond an auditor’s
scope or expertise, but there is a reason we are required to include
it. The main one is the board approved latest reserve schedule.
At the core of an association’s existence is prevention and execution
of a plan. That reserve schedule is the key essential that shows the
long-term decision that impacts the overall care of the association.
Failure by the board to have a strong and realistic long-term plan
may result in short-term and out-of-nowhere special assessments
or significant dues increases.
Conclusion—Gold or Lump of Coal?
Go ahead and apply this article to your association. These are strong
universal truths that impact nearly all associations. If by chance this
helps you better understand your association, then my friend you have
already struck gold!
Bernie Mapili, CPA, MST, is Partner of Mapili CPAs, LLC located in
Winter Park, Florida. For more information, visit www.MapiliCpas.com.
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