By Laurence E. Johnson andDavid R. Bean

Two perspectives are better than one.

The GASB has issued a preliminary views document that proposes a dual-perspective reporting model under which core financial statements for governments would include two distinct types of financial information. One would retain a fund perspective and the other would have an entity-wide perspective. The latter is not merely a summary of the former.

The Governmental Accounting Standards Board (GASB) recently issued a Preliminary Views (PV) document articulating proposed changes to the governmental financial reporting model. The PV, Governmental Financial Reporting Model: Core Financial Statements, represents a major step forward in the GASB's financial reporting project. The PV advocates a reporting model significantly different from either of the alternatives (Models 1 and 2) proposed in the GASB's 1994 Invitation to Comment (ITC).

Overview

The proposed reporting model is based on the premise that a single perspective for financial statements is inadequate to meet the information needs of the diverse groups to whom governments are accountable. For the past 11 years, the GASB has struggled with model alternatives that ranged from retaining the current model without change to the adoption of the commercial model, with dozens of alternatives considered between these extremes. After analyzing hundreds of responses to various due process documents and conducting numerous research studies, the GASB developed a dual-perspective reporting model under which governments would issue annual "core" financial statements that provide two distinctly different views of accounting information. The GASB identifies these as the fund perspective and the entity-wide perspective financial statements.

GASB Concepts Statement No. 1, Objectives of Financial Reporting, identifies three groups as the primary users of external state and local government financial reports. These groups are a) those to whom government is primarily accountable (the citizenry), b) those who directly represent the citizens (legislative and oversight bodies), and c) those who lend or who participate in the lending process (investors and creditors). Although the GASB clearly had the citizenry in mind during the development of the entity-wide perspective, members of this group often have a specific interest in the elements provided in the fund perspective. Likewise, lenders, who are noted for their attention to detail, also have been found to want a broad overview of governments. Depending on the information needed to make decisions or assess accountability, legislative bodies may want either or both perspectives.

The dual-perspective reporting model recognizes that accountability--described in Concepts Statement 1 as the cornerstone of governmental financial reporting--has two components: current financial resources accountability and operational accountability.

The fund perspective statements are intended to allow governmental funds to retain a close relationship with the budget, while providing a means of benchmarking the basis of accounting chosen by the government for the budgetary process. Accordingly, the governmental fund financial statements incorporate 1) the current (available, spendable) financial resources measurement focus and 2) the modified accrual accounting basis that characterize the current reporting model. The PV emphasizes that "the fund perspective preserves the nature of traditional fund accounting and, to a large extent, the display characteristics of the current model." The fund perspective financial statements for proprietary activities retain the economic resources measurement focus and accrual basis of accounting used in the present model.

In contrast, the role of the entity-wide statements is to demonstrate the longer-term operational accountability of the government as a whole. Entity-wide statements are prepared for the governmental unit (without specific regard to fund structure), incorporating the economic (financial and capital) resources measurement focus and accrual basis of accounting. Significantly, the GASB views both perspectives as peers, stating that "neither perspective is intended to stand on its own" and that "both perspectives are required and neither is considered to be a fair presentation in a 'liftable' form."

The dual-perspective nature of the proposed reporting model stands in sharp contrast to the current pyramid reporting model. Under the pyramid model, a government's individual fund data are aggregated into combined fund-type totals to provide a financial overview. In that model, though, the perspective presented at the combined level is the same as the individual-fund perspective­that is, current financial resources for governmental funds and economic resources for proprietary funds.

In the current model, the basic financial statements are the combined financial statements. The core financial statements proposed by the GASB will replace those combined financial statements.

The Fund Perspective Financial Statements

The GASB has concluded the current reporting model accomplishes its traditional objectives well. It provides separate accountability for governmental and business-type activities, provides control over current financial resources, and demonstrates that resources raised for specified purposes are used accordingly. Thus, the proposed fund perspective financial statements are similar in content and format to current-model financial statements for both governmental activities and business-type activities. However, the proposed model­

• eliminates the entity-wide balance sheet,
• emphasizes major funds for governmental, proprietary, and fiduciary activities,
• revises the format of the budget--actual comparison statements,
• redefines enterprise funds,
• redefines fiduciary funds, and
• revises financial statement formats for fiduciary funds.

Governmental Funds. The governmental fund financial statements proposed by the GASB are a balance sheet; a statement of revenue, expenditures, and changes in fund balances; and a budgetary comparison statement. The balance sheet presents data for each "major" fund (see Exhibit 1) and aggregate totals of nonmajor funds by type (or fund-type totals in the absence of major funds), but includes no "total" columns. For conceptual consistency with the current financial resources measurement focus, the governmental funds balance sheet does not present general capital (fixed) assets or general long-term liabilities, since capital assets are not financial assets and long-term liabilities do not represent claims that normally would be liquidated with current fund resources.

The activities or operating statement for governmental funds is the existing statement of revenue, expenditures, and changes in fund balances with certain modifications. Like the balance sheet, this statement presents data for each major fund and aggregate totals for nonmajor funds by type (or fund-type totals in the absence of major funds). Consistent with the current model, this statement should present revenues by source and expenditures by character and function. However, the GASB tentatively concluded that a single, standard format should be required in the interest of intergovernmental comparability. Current standards allow a government to choose among three format alternatives--the GASB is proposing a format that presents a subtotal for excess or deficiency of revenues over (under) expenditures (sometimes called "Format A").

The PV identifies two other changes from current practice: The proposal eliminates the distinction between residual equity and operating transfers. All transfers will be presented as other financing sources (uses). Also, transactions that are both unusual in nature and infrequent in occurrence should be presented as extraordinary items following the other financing sources (uses) section of this statement.

A Budgetary Comparison Statement is required for the general fund and for each other annually budgeted major governmental fund. The format of this statement should parallel the format of the government's budget document rather than being a near-duplicate of the Statement of Revenue, Expenditures, and Changes in Fund Balances, as is often the case today. The PV requires the Budgetary Comparison Statement to present the originally adopted annual budget. This requirement was first proposed in the ITC and has received significant backing from financial statement users. Requirements continue for the presentation of the budget as finally amended--with budget-basis actual results compared with the final budget amounts. This statement must present budgetary information generally at a level of detail no more summarized than the legal level of control.

Business-Type Activities. Under the proposed reporting model, governments will continue to present their business-type activities as proprietary (enterprise and internal service) funds. As with the governmental fund statements, the business-type fund statements focus on major funds and present nonmajor funds in the aggregate by fund type. The PV contains a "tightened" definition of the activities for which the enterprise fund classification is appropriate. A government may employ enterprise fund accounting for any activity that involves a fee charged to users for the services provided by that activity. However, under the new definition, a government must use an enterprise fund if any one of the following applies:

• The activity issues bonds secured by a pledge of net revenue from fees or charges,
• There is a legal requirement that user fees or charges be adequate to recover costs (including a capital use charge or debt service), or
• The government's policy is designed so that user fees or charges are adequate to recover costs.

The fund perspective financial statements required for business-type activities are the same as those required in the current model: a balance sheet (separate from the governmental funds balance sheet); a statement of revenue, expenses, and changes in equity; and a statement of cash flows. One significant proposed change is that the traditional equity accounts distinguishing between contributed capital and retained earnings would be replaced with three separate accounts: capital equity, noncapital restricted equity (if applicable), and noncapital unrestricted equity.

Accompanying this change in equity reporting on the balance sheet is a requirement that all resource inflows (except debt proceeds and the principal portion of asset sales) be reported in proprietary fund-operating statements. For example, if a water utility received a developer's contribution, that contribution would be reported as nonoperating revenue instead of contributed capital. The proposed reporting model provides that the operating statement would present resource inflows/outflows that are unusual in nature and infrequent in occurrence as extraordinary items.

Under the proposed model, the Statement of Cash Flows must be prepared on the direct method, which financial statement users find more useful than the indirect method. To streamline the Statement of Cash Flows, the current requirement to reconcile operating income with net cash flows from operating activities is discontinued.

The proposed model redefines fiduciary funds such that only resources held for the benefit of other entities--and thus not available to support the government's programs--will be accounted for in fiduciary funds. Under the new definition, only pension trust funds and agency funds typically will be considered fiduciary funds. Funds reported as fiduciary funds in the current model but not meeting the revised fiduciary fund definition should be reported as special revenue funds or business-type funds, as appropriate. The financial statement formats for fiduciary funds will generally follow the financial statement formats set forth in the new pension plan standards. All fiduciary funds will use the economic resources measurement focus and the accrual basis of accounting.

Component Units. Combined totals of discretely presented component units are to be displayed in the fund category statements consistent with the nature of the component unit. That is, governmental-type component units should be displayed in the governmental fund perspective financial statements; business-type component units should be displayed in the business-type fund perspective financial statements. Major component units should be presented in separate columns on the face of the appropriate financial statement.

Entity-Wide Perspective Financial Statements

The entity-wide perspective presents the "big picture" of a government's financial position, results of operations, and changes in capital assets and long-term liabilities. The entity-wide perspective employs the economic resources measurement focus to measure the costs of the government's programs and provide financial statement users with information to assist them in determining whether a government is better or worse off as a result of the current-period activities. The financial statements of this perspective should--

• include the activities and component units reported at the fund perspective as governmental and proprietary funds
  (and colleges and universities, as applicable), but
• exclude fiduciary funds (as redefined) and component units that are fiduciary
  in nature.

As noted earlier, the entity-wide perspective reports distinctly different information from that of the fund perspective and is much more than a mere "roll-up" of fund perspective data.

The core financial statements at the entity-wide perspective are a--

• statement of net assets,
• statement of activities, and
• statement(s) of changes in capital assets and long-term liabilities (this information may be presented on one page or on separate pages).

Amounts reported in each statement should be net of the effect of interfund transactions (including quasi-external transactions) because interfund transactions normally are not relevant to the operating results or the financial position of a governmental entity as a whole. The statement of net assets and statement of activities should be presented on a comparative basis. (This is the first time that the GASB has set forth a requirement for comparative financial statements.

Statement of Net Assets. As its name suggests, the statement of net assets should be formatted to present net assets as the difference between total assets and total liabilities rather than presenting total assets as equal to total liabilities and equity. This format will draw users' attention to a government's economic residual equity and further differentiates the statement of net assets from the traditional balance sheets presented at the fund perspective.

The statement of net assets should report assets and liabilities in liquidity order and should present information for the primary government and appropriate component units. If the component units are not considered material, a single-column presentation is acceptable. Governments may, at their option, present primary government information in separate columns for their governmental and business-type activities.

The net assets account should be reported in two components, capital and noncapital. Capital net assets are defined as 1) capital assets less 2) an accumulated capital use charge plus 3) assets restricted for capital acquisitions/capital debt repayment less 4) net capital debt outstanding. The difference between total net assets and capital net assets is noncapital net assets. Detailed information about the composition of noncapital net assets is to be presented in the fund
perspective.

Statement of Activities. Just as the statement of net assets differs markedly in format from the traditional balance sheet, the multicolumn format of the statement of activities is very different from the fund perspective operating statements. The statement of activities presents total government expenses by program in one column (see Exhibit 2). However, governments have an option to present certain expenses that may be allocated to various programs (for example, capital use charges) in separate columns. Three additional columns present categories of direct program revenue (fees and charges, intergovernmental, and dedicated taxes). If the reporting entity has no component units, the resulting net program costs (or revenue) are reported, by program, in another column. If the reporting entity has component units, the appropriate amounts of net program costs are reported in separate columns for the primary government and aggregate component units. Nonprogram revenue and extraordinary items are reported in the net program costs columns (below the program-specific information) to arrive at the entity-wide change in net assets amounts.

The PV observes that the statement of activities "provides a truly different perspective from the fund-oriented approach at the fund perspective." Indeed, the statement of activities will provide information about 1) whether current-year revenues were adequate to pay for current-year services and 2) how the government financed its activities. Because it is an entity-wide financial statement, the statement of activities distinguishes between programs without regard to the underlying fund structure. The statement of activities also should report a capital use charge to properly measure the cost of asset usage during the fiscal year.

The GASB believes the statement of activities will enhance intergovernment comparability because the statement is comprehensive--it represents all the entity's activities except fiduciary funds. Consider, for example, a case where one government accounts for its water operations in a governmental fund (or several governmental funds) while another government does so in an enterprise fund. Comparing the two governments' water operations is not possible at the fund perspective; comparisons are enhanced at the entity-wide perspective.

Statement of Changes in Capital Assets and Long-Term Liabilities. The statement(s) of changes in capital assets and long-term liabilities can be either a combination of statements or separate statements for capital assets and long-term liabilities. (The PV illustrates changes in capital assets and changes in long-term liabilities separately but notes that the two statements can be presented on a single page, space permitting.)

The statement of changes in capital assets should reconcile beginning and ending balances of capital assets by class. Capital asset information should be presented separately for the governmental and business-type activities of the primary government. This statement presents ending capital asset balances net of the accumulated capital use charge recognized in the statement of activities under the flow of economic resources measurement focus.

The statement of changes in long-term liabilities should reconcile beginning balances, increases, decreases, and ending balances of long-term liabilities, by class of 1) debt, such as bonds and capital leases payable, and 2) accrued liabilities, including compensated absences, claims and judgments, and pension liabilities. Moreover, these amounts also should be presented separately for governmental and business-type activities. The statement should report summarized amounts--for example, total debt and total accrued liabilities--for aggregate component units.

It is important to note that, consistent with the current financial resources measurement focus, long-term liabilities are not reported in the fund-perspective financial statements. Thus, a government's long-term liabilities will be presented only in the statement of net assets (in summary totals) and in the statement of changes in long-term liabilities (in detail).

The need to convert fund perspective information to the entity-wide perspective notwithstanding, the GASB concluded that reconciliations between the two perspectives should not be a required disclosure. The GASB questioned the decision usefulness of such a reconciliation; however, the GASB did not prohibit such a reconciliation if the government believes it will improve the understanding of the two perspectives. The PV includes a fund-to-entity reconciliation, but only to illustrate the differences in measurements and display formats at the two reporting perspectives.

Management's Discussion and Analysis

The proposed reporting model includes a feature new to governmental financial reporting: a management's discussion and analysis of financial condition and results of operations (MD&A). Designated as required supplemental information, the MD&A will review the government's financial results primarily for the benefit of citizens and other financial statement users who may not be well-versed in accounting. This overview may also prove useful for more sophisticated financial statement users.

The MD&A is intended to provide objective historical and prospective information to help users assess the government's financial position, financial condition, and operating results. The PV states: "The MD&A should address the two-year period covered by the entity-wide financial statements, emphasizing current-year activity. It should be directed to the average citizen and be brief, objective, and easily readable."

The PV also indicates that the MD&A is supposed to supplement, not replace, the transmittal letter that accompanies governmental financial reports in current practice. The GASB wants the MD&A to provide meaningful information and not degenerate into "boilerplate" text. Thus, the requirements for the content of the MD&A provided in the PV are intentionally general. The MD&A should, at a minimum--

• explain the objectives of each reporting perspective,
• discuss significant changes in financial statement amounts from the prior year to the current year,
• discuss significant deviations of revenue and expenditures from budget,
• describe the government's debt-related activity,
• indicate whether the government's financial position has improved or deteriorated as a result of the year's activities, and
• identify events and influences that are expected to impact the financial results of the upcoming year.

Audit Implications

The proposed financial reporting model has implications for auditors, also. The GASB intends that neither perspective will constitute fair presentation in the absence of the other. So, auditors will be responsible for expressing an opinion that addresses both perspectives.

One Size Does Not Fit All

Those that expected a trimmed-down, simplified, corporate-style model will be disappointed. In government, "one size fits all" very poorly. The multiple objectives of governmental financial reporting cannot be met adequately by a reporting model that addresses current financial resources accountability but not operational accountability, or vice-versa. The GASB's new financial reporting model proposal explicitly recognizes that governments will best serve their several financial reporting constituencies by preparing their core financial statements according to the dual-perspective reporting model.