The Rockville 2014 CAFR: An Analysis of the Financial State of the City

Isabel Vordzorgbe

7/27/2015

ACCY 6701 – Government and Nonprofit Accounting & Auditing Professors Devine, Lewis, and Thomas

The George Washington UniversitySchool of Business – Master of Accountancy

As we have learned in class, under the GASB No. 34 standard, state

and local governments are required to deliver audited comprehensive

annual reports in accordance with GAAP that provide external users with

important information about the financial state of the government. In this

paper, an analysis will be presented for Rockville’s 2014 Comprehensive

Annual Financial Report. In Chapter 11 of our textbook, a guide is provided

in Table 11-4 for how to conduct an analysis of a government’s CAFR. This

paper will utilize the guide in Table 11-4, the Government Profile and the

Information on Economic Conditions (Letter of Transmittal), as well as the

MD&A section of the report to focus on the key issues faced by Rockville

during the 2014 year. The paper is structured as follows: 1) overview of the

City of Rockville based on the sections listed above, 2) calculation and

analysis of key financial indicators, and 3) forecasting the impact of

financial indicators on city’s future and ability to continue providing

services to constituents.

The City of Rockville operates as a “council-manager government”i,

with the power “to levy a property tax on both real and personal properties

located within its boundaries.”ii Rockville provides “water, sewer, refuse,

parking, streets and stormwater, recreation and parks, police, planning and

zoning, and engineering services”iii to its constituents. The City of Rockville

utilizes a policy where the unassigned portion of the General Fund “is

maintained at a level not less than 15% of annual budgeted General Fund

Revenue.”iv In instances where the unassigned portion is more than what is

stated in the policy, the city utilizes this balance “to provide pay-as-you-go

financing for capital projects and for other one time capital assets.”v

According to the Information on Economic Conditions Section, the

City of Rockville continues to see more constituents entering the labor force

as well as residential and commercial growth. Rockville has also

experienced an increase in its tax revenues and overall 2014 revenues. The

City’s debt has been rated by Standard & Poor’s and Moody’s as AAA and

Aaa, respectively. Given that the City has been rated so highly by the rating

agencies and given its strict management policies, it took on several capital

project initiatives in order to improve the infrastructure and economic

development of the city.

The MD&A section highlights some key financial indicators of the City

of Rockville. However, due to the ability of management to massage

numbers to present their information in a positive light, further analysis will

be provided later on for the indicators highlighted. The City of Rockville

boasts a positive net position of $328,871,859, with a business related

deficit of $10,553,298 due to continued maintenance of the water and

sewage systems. Rockville’s unassigned portion of its General Fund

represents 22.3% of the General Fund revenues, which meets its

management policy of maintaining above 15%. Out of the five separate

General Fund categories, the City of Rockville spends a considerable

amount of money on capital projects, which also accounts for almost all of

the city’s net position. The City of Rockville has realized a 6.3% decrease in

its debt principal outstanding as of the 2014 year end. Overall, Rockville

boasts a positive net position in its governmental and business-related

activities except for two funds, CDBG and Parking Funds.

Given this overview, one can say that everything seems very positive

for the City of Rockville, and it also seems to have the proper management

and accounting practices in place to properly manage its revenues and

expenses and adequately provide services to its constituents. But further

analysis into the liquidity, solvency, and overall ability of the City of

Rockville to continue on this path is necessary. The ability of the city to

continue its activities in the long-term is very important to its constituents,

and therefore an operating deficit would be a sure sign that the city is

heading for trouble in the future. In the Statement of Revenues, Expenses,

and Changes in Fund Balances of Governmental Funds, the city experienced

an operating deficit of $1,096,163. In the prior year, the city had a

$3,580,589 operating deficit. This indicates that in the governmental funds,

the city has managed to implement a strategy that has allowed it to

decrease its operating deficit. For its business-related activities, the City of

Rockville is doing better with excess revenue to cover expenditures.

However, the operating deficit does not truly indicate that the city is in dire

straits in terms of financial condition.

The governmental fund balance sheet for the City of Rockville

presents it short-term assets and resources and its obligations on those

resources. As a result, the City of Rockville’s governmental balance sheet is

a great indicator of whether the city will be able to provide services to meet

those obligations. A positive fund balance clearly shows that the

government has the necessary resources on hand to meet any unexpected

shortfalls in revenue or obligations. In order to measure the adequacy of the

City of Rockville’s fund balance, its unassigned fund balance is divided by

its operating revenue to get 20.5% ($15.7 mill/$76.7 mill). This ratio clearly

shows that the City of Rockville would be able to manage in the event of a

revenue shortfall or new obligation. However, as with the measure for the

operating deficit, this measure of the fund balance is also subject to

limitations.

As was noted in the MD&A section, a considerable portion of the fund

balance (about $19.1 mill) has be restricted for the capital projects fund.

This is a good sign, as it clearly indicates that the city is investing money for

the future capital projects or the acquisition of capital assets. To measure

the liquidity of the City of Rockville, we take into account its cash and short-

term investments as well as its current liabilities. Utilizing the information

presented in its Statement of Net Position, the City of Rockville’s liquidity

ratio is 3.87% (equation on pg.501 of textbook). This is a low, but positive

liquidity ratio that indicates that the city has adequate cash on-hand to meet

the short-term claims on its assets and/or resources.

Since we have considered, the city’s ability to meet its short-term

obligations, it would be also useful to assess its ability to meet its long-term

obligations. Extracting information from the Statement of Revenues and

Expenditures for the Governmental funds regarding the city’s debt service

costs as well as the total expenditures of the general and debt service funds,

the calculation results in a ratio of 74.4%. This ratio is rather high and

indicates that the City of Rockville may not be able to pay the costs of its

debt service when they come due. Looking at the detailed notes on Long-

Term Debt (pg. 48), it is obvious that the city has a considerable number of

general obligation bonds and loans for its business-related activities. This

could present a very hard problem for the city to solve in the event that it is

not able to meet its loan payments. In such an instance, this could lead the

city into financial distress which would begin to swallow up the city’s liquid

resources and/or assets.

As was noted in the MD&A section, the water and sewage funds under

its business-related activities have presented a deficit to the city. If service

charges cannot be adequately received for these activities, the city runs the

risk of not have enough revenue to pay of its expenditures as well as debts,

since its loans received are made on its good faith and credit. Although the

liquidity ratio presents a bad picture, the comparison made between 2013

and 2014 for the city’s long-term obligations, shows that it is making an

effort to decrease its total long-term liabilities through tax revenues and

service charges. Also given the rating of AAA for its debt, one would

surmise that maybe its debt structure would not present an issue.

Overall, the analysis of the City of Rockville’s CAFR presents a

positive picture. The management accurately described the key issues and

financial indicators that affect the city. The city has shown considerable

growth in revenue received from real and personal property, has engaged in

more public works, and has seen a decrease in unemployment comparable

to the national level. The financial statements also support the summary

made in the MD&A section and clearly show that the City of Rockville

management has been employing good management practices and

accounting policies to properly account for resources and obligations in

order service its constituents. Three main factors that the City of Rockville

should take note of is its deficit with the two funds CDBG and Parking Fund,

its increased maintenance expenditures for the water and sewage systems,

and its long-term obligations. Those three items are important, as the city

continues to provide services for its constituents.

In order to address the deficit in the two funds, the City of Rockville

needs to implement a strategy that will help to generate more revenue

through service charges. This might mean an increase in the rate of

services charges in order to recoup for those losses. As for its increase in

maintenance for the water and sewage systems, those costs can be

decreased by the same avenue as would be used for the two funds. In terms

of its long-term debt, the City of Rockville needs to be careful and make

sure that it is making proper payments to meets it long-term liabilities. Any

potential shortfalls in payment would necessitate undue increase in service

charges or taxes in order to meet liability payments. As a result, the City of

Rockville is doing great, but becoming complacent could lead to serious

issues. In the case of this analysis, revenue is a key ingredient to the city

maintaining its healthy financial conditioning and therefore being able to

provide services to its constituents.

i City of Rockville. 2014 Comprehensive Annual Financial Report: Profile of the Government. Rockville: 2014. Accessed July 6, 2015. http://www.rockvillemd.gov/index.aspx?NID=229ii City of Rockville. 2014 Comprehensive Annual Financial Report: Profile of the Government. Rockville: 2014. Accessed July 6, 2015. http://www.rockvillemd.gov/index.aspx?NID=229iii City of Rockville. 2014 Comprehensive Annual Financial Report: Profile of the Government. Rockville: 2014. Accessed July 6, 2015. http://www.rockvillemd.gov/index.aspx?NID=229iv City of Rockville. 2014 Comprehensive Annual Financial Report: Factors Affecting Financial Condition. Rockville: 2014. Accessed July 6, 2015. http://www.rockvillemd.gov/index.aspx?NID=229v City of Rockville. 2014 Comprehensive Annual Financial Report: Factors Affecting Financial Condition. Rockville: 2014. Accessed July 6, 2015. http://www.rockvillemd.gov/index.aspx?NID=229

References

City of Rockville. 2014 Comprehensive Annual Financial Report. Rockville: 2014. Accessed July 6, 2015. http://www.rockvillemd.gov/index.aspx?NID=229

Granof, Michael H., and Saleha B. Khumawala. Government and Not-For-Profit Accounting: Concepts and Practices, 6th ed., Chapter 11. Hoboken: Wiley, 2013.