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Economic Condition Reporting—Project Plan

Project Description: The overall, long-term objectives of the Economic Condition Reporting project are to map the information that users require to assess a government’s economic condition, to compare these needs with the information users receive under current standards, and to consider whether standards should be set for the remaining information. The principal focus of the third phase is to consider whether any additional economic condition information should be required or encouraged for inclusion in a government’s financial report.

Background: Phase III of the project builds upon research activities of Phase II, which culminated in the issuance of GASB Statement No. 44, Economic Condition Reporting: The Statistical Section. One purpose of the research of Phase II was to develop a more comprehensive understanding of the information that users consider important to understanding the economic condition of a governmental entity. A process of inventorying users’ information needs and comparing those needs with the body of information that currently is provided in governmental financial reports, to be completed in Phase III, is expected to assist the Board in determining the extent to which the information currently provided supports financial report users in assessing economic condition and considering potential ways in which general purpose financial reporting could be enhanced to better address that objective of financial reporting.

Accounting Issues: Three basic issues need to be resolved to complete this project: definition of economic condition; identification of the information necessary to meet user needs; and determination of the preferable methods of communicating the information.

Defining economic condition. Definitions of economic condition and its components are necessary in order to identify the complete set of information needed to assess economic condition. Prior to Phase III, the Economic Condition Reporting project progressed utilizing a tentative definition of economic condition developed in the Communication Methods concepts project.

The first task identified for Phase III was to review the preceding tentative definitions and to develop definitions that could be used in the remainder of the project work.

Identification of the information users need to assess the economic condition of a government. A considerable amount of research has already been conducted to answer this question. A literature review conducted in the first phase of this project produced several major findings. First, it confirmed the notion that users employ a wide range of terms when describing the financial health of a government, including financial position, financial condition, fiscal condition, and fiscal capacity. Furthermore, these terms are often used interchangeably, and individual terms have diverse meanings to different persons. Regardless of the terminology used, however, the review of the literature suggests that there is substantial agreement on the key areas of concern that should be addressed when one is assessing the financial health of a government. Despite considerable variation in the way ratios were calculated from financial report information, there was substantial consensus that assessment requires trend information regarding:

1. Fund balances, equity, or net assets

2. Revenues and expenditures/expenses, as well as surpluses and deficits

3. Changes in revenue bases

4. Spending pressures and expenditure needs

5. Outstanding debts, debt service, and postemployment benefits

6. Liquidity.

There was less widespread, though still notable, agreement on several other types of information, including short-term debt, credit ratings, number of employees, condition of the physical plant, output and outcome measures, and management issues such as the quality of financial reporting, planning and budget processes, and accounting practices.

Panel discussions conducted during phase II with users experienced with and knowledgeable about the assessment of a government’s financial health are the other resource. In general, the user panelists agreed that a CAFR containing the Statement 34 financial reporting model provided a considerable amount of the information needed to assess economic condition. The panelists generally agreed that the CAFR contains most, if not all, of the information needed to assess financial position, some but not enough information about fiscal capacity, and little information about service capacity. The panelists considered information in the statistical section to be particularly useful for assessing fiscal capacity, but identified other necessary information not currently found in the CAFR, such as more detailed revenue and expense trends, comparative and benchmarking information, financial ratios, explanations, and a variety of demographic and economic indicators.

The enhancement of the statistical section by Statement 44 should improve the information that our research has shown is valuable to assessing economic condition, particularly fiscal capacity. For instance, the inclusion of government-wide information will give the users more comprehensive trends in revenues, expenses, financial position, and outstanding debt. Furthermore, the addition of trend information to schedules such as principal revenue payers and debt limitations should make them more meaningful to users. The improved statistical section should be an enhanced resource for the purposes it currently serves. However, with the important exception of providing explanations, it does not address the additional information needs that user participants in our research identified, largely because the scope of the revisions to the statistical section were limited to existing reporting.

Communicating the information. The last question for the Economic Condition Reporting is, “How should the information be communicated?” There are several broad, potential alternatives, which are not necessarily mutually exclusive. For example:

• One alternative would be to report within the structure of the general purpose external financial report covered by Concepts Statement No. 3, Communication Methods in General Purpose External Financial Reports that Contain Basic Financial Statements. Concepts Statement 3 provides the Board with criteria for deciding whether particular pieces of information, including information that would be useful in assessing economic condition, should be included in such reports and, if so, whether the information should be reported in financial statements, notes, RSI, or SI.

• Another possible avenue for communication would be by means of a separate general purpose report, for which no standards or recommended practices currently exist, such as an “economic condition report.” In this alternative, the Board would consider how economic condition information should be arranged and communicated in a separate, self-contained document that would be designed to address economic condition assessment in a more comprehensive way.

• Finally, the Board could determine that some economic condition information is not amenable to reporting in any form of general purpose report, and therefore is beyond the Board’s standards-setting purview.

Project History:

In April 2004, the Board reviewed and tentatively approved a staff description of the issues that Phase III of the project should address. In August 2004, the Board approved a staff proposal to conduct a broad user needs study that would support several current agenda projects in addition to providing the research base necessary to conduct deliberations on economic condition reporting. Interviewing for the user needs study began in November 2004 and continued into the third quarter of 2005. By the end of July 2005, approximately 110 interviews were conducted at over 90 firms, organizations, and public entities.

At the July 2005 Board meeting, the Board discussed a staff paper on implications of the user needs study for Phase III of the economic condition reporting project. The Board tentatively concurred with staff recommendations regarding a work plan for Phase III.

At the December 2005 meeting, the Board initiated Phase III issue deliberations with discussion of a staff paper regarding the definitions of economic condition and the components of economic condition. The Board reviewed the definitions tentatively adopted at the January 2002 meeting, as well as two alternative approaches presented by staff to defining economic condition, its components, and the relationship of economic condition information to other information included in general purpose external financial reporting (GPEFR). The Board discussed a number of issues and made a number of tentative decisions, as follows:

• The Board discussed whether the definition of economic condition should include a government’s financial position as well as its fiscal and service capacities (generally, its ongoing ability to meet financial commitments and provide services), as in paragraph 34 of Concepts Statement 1 and the January 2002 tentative definition. Alternatives to that approach discussed by the Board were:

  1)  Defining economic condition as a government’s fiscal and service capacities, based on the view that financial position (as well as other historical information in GPEFR) is decision-useful information for assessing a government’s capacity to meet its financial commitments and sustain service levels on an ongoing basis, rather than a separate objective of economic condition assessment

  2)  Defining economic condition as broadly inclusive of everything reported in GPEFR.

  3)  The discussion focused in part on whether members viewed economic condition primarily as something that can be measured and reported (for example, a compendium of historical data and analytical indicators using historical data) or as an analytical process by users that involves assessments of future capabilities using reported historical information. After discussion, the Board tentatively decided that economic condition should continue to be defined as a government’s financial position and its fiscal and service capacities. Specific wording was not discussed.

• The Board discussed whether the fiscal capacity and service capacity components should be defined in terms of, or aligned with, specific categories of resources. (For example, the definition of service capacity tentatively adopted in January 2002 defined service capacity as a government’s “ongoing ability and willingness to supply the capital and human resources needed to meet its commitments to provide services.”) After discussion, the Board tentatively decided that fiscal capacity and service capacity should be defined in broader terms that reflect users’ analytical objectives without aligning either objective with specific categories of resources.

• The Board discussed whether information about service results would potentially be useful in assessing a government’s ongoing ability to provide services (and secondarily to meet its financial commitments). After discussion, the Board tentatively decided that information about service results potentially could be decision-useful information for assessing a government’s ongoing service capacity, because it would establish the service levels that a government has achieved at historical resource levels and, thereby, would provide a foundation for assessing a government’s ability to provide services on an ongoing basis. (Also, secondarily, information about service results potentially could be useful in assessing fiscal capacity, to the extent that service commitments impact assessment of a government’s fiscal capacity.)

• The Board discussed the limitations of GPEFR as a potential source of information that is useful for assessing a government’s economic condition. Board members generally agreed that GPEFR can provide much useful information needed to support users’ assessment of economic condition, including potentially raw data and analytical tools such as ratios, but that users also may employ relevant information and analytical tools in addition to what is presented in GPEFR. After discussion, the Board tentatively affirmed that relevant limitations on GPEFR as a potential source of useful information should include the characteristics of information in financial reporting (understandability, reliability, relevance, timeliness, consistency, and comparability), as discussed in Concepts Statement 1 and referred to in Concepts Statement 3, and the limitations of financial reporting, including consideration of the relative costs and benefits of providing information through GPEFR, as discussed in Concepts Statement 1. Board members also generally agreed that in considering whether a potential piece of information useful for assessment of economic condition should be included in GPEFR, consideration should be given to the relationship of that information to other information in GPEFR. Differing views were expressed as to whether that relationship should be to the objectives of financial reporting or to information in basic financial statements.

• The Board discussed potential ways in which the components of economic condition information could be classified, including, for example, by broad categories of relevant information, by one of a number of available systems of analytical factors, or by a system devised by the Board. No decision was made pending further project research and discussion.

At the January 2006 Board meeting, the Board continued discussions regarding the definition of economic condition and its components with a review of key points tentatively agreed on at the December 2005 meeting. The following additional tentative conclusions were reached on issues related to definitions:

• Economic condition should be defined as including a government’s current financial position and its fiscal capacity and service capacity. Information about historical changes in financial position is not included as part of the definition of economic condition but nevertheless is understood to be useful for assessing economic condition.

• The definitions of the fiscal capacity and service capacity components of economic condition should include a government’s willingness, as well as its ability, to meet financial obligations and service commitments on an ongoing basis. Willingness is expressed in the choices a government makes with regard to raising resources and providing services and, thus, is reflected in its historical record. For that reason, general purpose external financial reporting potentially can provide significant relevant information to assist users in assessing the element of a government’s willingness within the framework of reporting of objective, historical information.

The Board also discussed proposed definitions and tentatively agreed on the following definitions, incorporating wording revisions tentatively agreed on at the meeting:

• A government’s economic condition is a composite of its financial position and its ability and willingness to meet its financial obligations and service commitments on an ongoing basis.

• Economic condition includes three components: financial position, fiscal capacity, and service capacity.

• A government’s financial position is the status of its assets, liabilities, and net assets, as displayed in its basic financial statements.

• A government’s fiscal capacity is its ability and willingness to meet its financial obligations as they come due on an ongoing basis.

• A government’s service capacity is its ability and willingness to meet its commitments to provide services on an ongoing basis.

In a separate discussion regarding the prioritization of current and potential or planned projects on the GASB Technical Plan at the January 2006 meeting, the Board decided to move the Economic Condition Reporting—Phase III project from the active agenda to the research agenda.

Work Plan:

Staff has developed the following research work plan for the remainder of Phase III:

1. Confirm scope of Phase III research. The objective of this step is to clarify expectations regarding the scope and objectives of Phase III in relation to the scope and objectives of the Economic Condition Reporting project as a whole. There are a number of ways in which the scope and objectives to be accomplished in Phase III of the project could be envisioned. Possibilities (ranging from incremental improvement within the existing CAFR/statistical section framework to a variety of ways in which economic condition reporting may be envisioned as developing ultimately) include the following:
   • Within the existing context of a general purpose external financial report that contains a statistical section, amend existing standards to enhance the ability of general purpose external financial reports to support users’ assessment of economic condition by augmenting the information presented or enhancing the presentation of information (for example, by requiring the inclusion of additional ratios or a defined set of basic, standardized ratios) in the statistical section (that is, in supplementary information) or elsewhere.

   • Within the existing context of a general purpose external financial report that contains a statistical section, amend existing standards by augmenting the information presented or enhancing its presentation, and by reclassifying some or all information now reported as supplementary information to RSI.

   • Establish more comprehensive standards (or alternatively, recommended practices) for economic condition reporting within the context of, or in conjunction with the development of standards or other guidance regarding, one or more of the following:
     • Popular reporting

     • Electronic reporting

     • A multiple general-purpose report framework,

     • Differential reporting (for example, providing raw data to users who would prefer to apply their own analytical tools to assess economic condition, but providing a standard set of ratios for use by other users)

     • Service efforts and accomplishments reporting.

The following additional work plan steps reflect staff’s recommended scope and objectives for Phase III:

2. Form an advisory committee and engage committee members in the process of identifying and organizing the inventory of economic condition information.

3. Assess results of Phase II user interviews and other research to date:
   • The identification of indicators, measures, and ratios will be accomplished as part of a broader study of the activities and needs of users. This study has sought to describe the activities of different types of users of governmental financial information—the analytical processes they engage in, the decisions they make, and the issues they are concerned with. The study also has attempted to determine how the information in an annual financial report is utilized in those analyses and decisions, as well as the additional information that users need. Finally, the study has sought to identify how the various kinds of information is processed by users into decision-useful ratios and indicators and how those ratios and indicators are perceived and judged.

   • Staff also has monitored print and Internet reporting of economic condition information by governments, on an ongoing basis, to obtain a comprehensive understanding of what kinds of relevant information governments are publicly reporting through reports other than the annual financial report.

4. Design broader user survey:
   • Determine desired timing of survey.

   • Identify users to be surveyed.

   • Identify survey methods, including communication, distribution, and collection of results.

   • Identify the information desired from respondents

     The research conducted thus far provides a solid foundation for asserting what basic matters (such as liquidity, financial position, revenues and expenses, and so on) users consider when assessing a government’s economic condition. A next step is to seek to develop an agreed-upon set of information, indicators, or ratios that are needed to make judgments about each of those pertinent matters, for general purpose external financial reporting purposes.

   • Develop survey instrument.

   • Conduct survey.

   • Analyze survey results.

   • Develop recommendations for consideration by the Board.

   • During this period, GASB staff will be monitor sponsored research in this area.

Economic Condition Reporting—Recent Developments

Minutes of Meeting, January 24-26, 2006

The Board continued discussions regarding the definition of economic condition and its components with a review of key points tentatively agreed on at the December 2005 meeting. The following additional tentative conclusions were reached on issues related to definitions:

• Economic condition should be defined as including a government’s current financial position and its fiscal capacity and service capacity. Information about historical changes in financial position is not included as part of the definition of economic condition but nevertheless is understood to be useful for assessing economic condition.

• The definitions of the fiscal capacity and service capacity components of economic condition should include a government’s willingness, as well as its ability, to meet financial obligations and service commitments on an ongoing basis. Willingness is expressed in the choices a government makes with regard to raising resources and providing services and, thus, is reflected in its historical record. For that reason, general purpose external financial reporting potentially can provide significant relevant information to assist users in assessing the element of a government’s willingness within the framework of reporting of objective, historical information.

The Board also discussed proposed definitions and tentatively agreed on the following definitions, incorporating wording revisions tentatively agreed on at the meeting:

• A government’s economic condition is a composite of its financial position and its ability and willingness to meet its financial obligations and service commitments on an ongoing basis.

• Economic condition includes three components: financial position, fiscal capacity, and service capacity.

• A government’s financial position is the status of its assets, liabilities, and net assets, as displayed in its basic financial statements.

• A government’s fiscal capacity is its ability and willingness to meet its financial obligations as they come due on an ongoing basis.

• A government’s service capacity is its ability and willingness to meet its commitments to provide services on an ongoing basis.

Minutes of Meetings, December 13-15, 2005

The Board initiated work on Phase III of the Economic Condition project with discussion of a staff paper regarding the definitions of economic condition and the components of economic condition. The Board reviewed definitions tentatively adopted at the January 2002 meeting, as well as two alternative approaches presented by staff to defining economic condition, its components, and the relationship of economic condition information to other information included in general purpose external financial reporting (GPEFR). Definitions adopted will be used as a frame of reference as staff continues researching users’ needs for information useful in assessing a government’s economic condition and as staff considers ways in which the information presented in the statistical section of a CAFR or elsewhere could be enhanced to better support that objective. The Board discussed a number of issues and made a number of tentative decisions, as follows:

• The Board discussed whether the definition of economic condition should include a government’s financial position as well as its fiscal and service capacities (generally, its ongoing ability to meet financial commitments and provide services), as in paragraph 34 of Concepts Statement 1 and the January 2002 tentative definition. Alternatives to that approach discussed by the Board were:

  (1)  Defining economic condition as a government’s fiscal and service capacities, based on the view that financial position (as well as other historical information in GPEFR) is decision-useful information for assessing a government’s capacity to meet its financial commitments and sustain service levels on an ongoing basis, rather than a separate objective of economic condition assessment

  (2)  Defining economic condition as broadly inclusive of everything reported in GPEFR.

  The discussion focused in part on whether members view economic condition primarily as something that can be measured and reported (for example, a compendium of historical data and analytical indicators using historical data) or as an analytical process by users that involves assessments of future capabilities using reported historical information. After discussion, the Board tentatively decided that economic condition should continue to be defined as a government’s financial position and its fiscal and service capacities. Specific wording was not discussed.

• The Board discussed whether the fiscal capacity and service capacity components should be defined in terms of, or aligned with, specific categories of resources. (For example, the definition of service capacity tentatively adopted in January 2002 defined service capacity as a government’s “ongoing ability and willingness to supply the capital and human resources needed to meet its commitments to provide services.”) After discussion, the Board tentatively decided that fiscal capacity and service capacity should be defined in broader terms that reflect users’ analytical objectives without aligning either objective with specific categories of resources.

• The Board discussed whether information about service results would potentially be useful in assessing a government’s ongoing ability to provide services (and secondarily to meet its financial commitments). After discussion, the Board tentatively decided that information about service results potentially could be decision-useful information for assessing a government’s ongoing service capacity, because it would establish the service levels that a government has achieved at historical resource levels and, thereby, would provide a foundation for assessing a government’s ability to provide services on an ongoing basis. (Also, secondarily, information about service results potentially could be useful in assessing fiscal capacity, to the extent that service commitments impact assessment of a government’s fiscal capacity.)

• The Board discussed the limitations of GPEFR as a potential source of information that is useful for assessing a government’s economic condition. Board members generally agreed that GPEFR can provide much useful information needed to support users’ assessment of economic condition, including potentially raw data and analytical tools such as ratios, but that users also may employ relevant information and analytical tools in addition to what is presented in GPEFR. After discussion, the Board tentatively affirmed that relevant limitations on GPEFR as a potential source of useful information should include the characteristics of information in financial reporting (understandability, reliability, relevance, timeliness, consistency, and comparability), as discussed in Concepts Statement 1 and referred to in Concepts Statement 3, and the limitations of financial reporting, including consideration of the relative costs and benefits of providing information through GPEFR, as discussed in Concepts Statement 1. Board members also generally agreed that in considering whether a potential piece of information useful for assessment of economic condition should be included in GPEFR, consideration should be given to the relationship of that information to other information in GPEFR. Differing views were expressed as to whether that relationship should be to the objectives of financial reporting or to information in basic financial statements.

• The Board discussed potential ways in which the components of economic condition information could be classified, including, for example, by broad categories of relevant information,by one of a number of available systems of analytical factors, or by a system devised by the Board. No decision was made pending further project research and discussion.

At the conclusion of the discussion, the Board asked staff to prepare a follow-up paper for the January 2006 Board meeting regarding the definitional matters discussed at this meeting.

Minutes of Meetings, August 9–11, 2005

The Board reviewed a staff proposal to conduct additional research prior to beginning deliberations on the third phase of this project. The new research would build on the findings of the GASB’s user needs study and would seek to refine the Board’s understanding of the specific information and ratios that users require to assess the financial health of governments. The Board agreed to the staff proposal with the addition of a discussion of the definition of economic condition scheduled for the December meeting.

Economic Condition Reporting—Relevant Links