Thursday, May 25, 2006
Finance Paper on School District Finance Policy
Of the Shawnee Mission, Kansas, School District
I specifically looked at fund balance policy because I naively assumed the district's revenues were likely to fluctuate significantly in the near future. While examining the fund balance policy, I discovered a decision to ignore a credit risk management problem, and also a clever debt restructuring.
In the recent case of Ryan Montoy, et al v. The State of Kansas et al, decided upon remand from the state supreme court, the district court found "...the legislature statutorily found as a fact that the current funding scheme is inadequate and inequitable ..." As a result, the state legislature is considering new funding formulas which will increase funding to Kansas public schools. Since Kansas school funding appears to be headed for major changes, it appears logical to study the financial policy of a Kansas school District. However, according to an e-mail from Tim Rooney, the manager of budget and finance for the Shawnee Mission School District (SMSD), the district will gain only between five to seven million dollars under any of the formulas currently under consideration. This is not a significant increase for this district.
The Shawnee Mission School District serves a suburban population of over 29,000 students. It occupies a geographic area of 72 miles in Johnson County. The district operates 37 elementary, 7 middle and 5 high schools. 
The budget is prepared on a fiscal year basis which runs from July 1 through June 30.  The 2005-2006 budget of about $275 million is funded from a mix of several sources; including state aid granted on a "per-pupil" basis; federal grants; bonds; a mill levy; interest income; fees; and RV and motor vehicle taxes.
Most SMSD financial management policies could serve as a model for other school districts to follow. In general, policies are written, clear and concise and cover many essential aspects of financial management. The district's policies as set by the board of Education (BOE) are posted on the internet. According to a standard text, "GFOA and the NACSLB strongly recommend that a government create and adopt formal financial polices."  The district met this criterion in several categories.
However, according to an e-mail from the district's finance manager, the district fails to meet this criterion on fund balances. He said, "The district doesn't have a written fund balance policy. The fund balance level is considered as part of the budget."
To further confuse the issue of fund balance, the budget is stated using cash accounting but planning, auditing, and any other significant financial management uses a modified accrual accounting under Generally Accepted Accounting Principles (GAAP). The requirement to state the budget on a cash basis is set by state law.  Careful study of all the budget and financial materials available produces confusion, although it appears a certain amount of confusion is beyond the control of the district. The budget book contains a wealth of details; but summary information is not presented there in an easily digested format. This is the book given to citizens who ask. The figures in this document do not match the figures used to plan operations or published on the Kansas Board of Education's internet site. For example, the total district expenditures for the current FY are shown as $328 million in the budget and $275 million on the website.
Transparency in the budget process is considered a key ingredient of sound public financial management. Overwhelming detail without clear explanation provides the appearance of transparency without the substance. A citizen unschooled in accounting who had only the budget document to examine would not be able to reach any meaningful conclusions about the management of district funds. The Comprehensive Annual Financial Report (CAFR), on the other hand, does show useful and meaningful data, as does the online "Budget Profile." One would have to know enough to ask for the CAFR, however. In addition, though I searched for online information, I didn't find it on my own: the finance manager gave me the links.
Given all the above, I conclude that the district's finances are transparent to individuals who are willing to invest the time and effort to understand the available information. I further think the average person who walks into the district office and asks to see the budget would be confused. (The budget document itself does not identify that it is based on cash accounting - maybe it should.)
The budget profile explains the uses of unencumbered fund balances: 1.) support of current budgetary limit; 2.) transfers to various funds as needed; 3.) debt service; 4.) completion of late summer capital projects; 5.) contingency reserve of $5.6 million; and 6.) miscellaneous program purposes not otherwise funded. These statements resemble a formal policy; however, they are not included in the collection of formal policies posted by the Board of Education on the internet.
The district finance manager, in his e-mail to me, said, "Since the legislature doesn't typically tell us what the budget will be until May of each year, we use fund balance as a buffer so the district can make budget decisions earlier." In response to additional questions regarding the size of the fund balance and the unreserved, undesignated money, he said, "On a cash basis, the state tries to maintain a 7.5% balance."
With an operating budget of $275 million, the unreserved, undesignated fund balance would be about $20 million. However, the actual amount held by the district is hard to pin down, since they don't use that terminology to describe fund balances. The $51 million unencumbered fund balance is obviously earmarked as shown above, except for the contingency reserve fund of $5.6 million.
The contingency reserve fund obviously fails to meet the state guidelines of 7.5%. In addition, it seems rather low, at just over 2%. The CAFR showed a revenue increase from 2004 to 2005 of 18.9%. The expenditure increase for the same period, however, was 1.3%.  With such wide swings in revenue but little room to maneuver on the expense side, a larger cash reserve would appear advisable.
For comparison purposes, I examined the Blue Valley School District. Their current budget is $234 million; unencumbered cash balance is over $83 million. Like the SMSD, they do not have an easily discovered contingency fund. Unlike SMSD, there are no financial policies published on the internet.
While looking for information about fund balances, I found the following statement in the CAFR, "The majority of the district's investments were with three banks which constitutes a concentration of credit risk." Accordingly, I asked the financial manager if the district had any plans to address the concentration of credit risk. His response:
The credit risk is caused by the very limited investment opportunities allowed by a school district. The risk is mitigated by the requirements that securities be held by a 3rd party to back deposits. Therefore, if a bank liquidated, FDIC would pay and then enough remaining securities would be surrendered to the district to satisfy the amount on deposit.
The problem identified in the CAFR is therefore not seen as a problem. The district's written investment policy states:
The investment goals should be ranked in the following order:
1.) Safety of principal
2.) Maintenance of adequate liquidity to fund operations
3.) Maximization of earnings
To provide adequate safety, investment alternatives will be selected in accordance with state law.
The policy goes on to describe, in general terms, the bidding policy for eligible banks and savings and loans.
It may be the case that limited opportunities constrain the investments of the district. However, this is not the question I am trying to answer.
The district's policy does clearly spell out the goals of the district's investments and the process for investment decision making. The policy names the officeholder with responsibility for supervising investments. Thus, the policy meets several of the guidelines of sound financial management policy as explained in a standard text on the subject.
The district has no formal, written debt policy. However, debt policy can be inferred from practices and statements contained the CAFR and elsewhere. The CAFR shows a restructuring of a significant part of the district's debt in January, 2005. The district anticipates interest savings of $1.8 million and realized an immediate gain of $2.1 million from the restructuring. In his e-mail to me, the financial manager said "We do watch the market to see if refunding is possible." This constitutes part of an informal debt policy.
SMSD policies concerning fund balances and debt management give the school district the most amount of freedom for decision making possible to a school district. Policies in that area are unwritten and informal, de facto evolution from past practices.
Written, formal policies offer many advantages that the school district should consider. They are strongly recommended by both the GFOA and NACSLB. They provide stability to the institution as leadership changes; they increase efficiency through standardized operation; they can have a favorable impact on bond ratings; they educate and guide decision makers; and they promote long-term and strategic thinking.
If legal constraints prevent the implementation of the district's formal investment policy, which appears to be the case, that policy should be reviewed. It may be possible to find ways to solve the concentration of credit risk identified in the CAFR and yet still stay within the statutory guidelines.
In conclusion, the district could improve policy in the area of fund balances and debt by adopting formal, written policies.
 http://www.schoolfunding.info/states/ks/Montoy12-3-03.PDF (emphasis in the original.)
 Shawnee Mission School District Budget Profile for 2005-2006, page 1. http://www.ksde.org/budget/d0512bg6.pdf
 Fiscal Management Statement DBB, http://www1.smsd.org/boeweb/dbb.HTM
 Shawnee Mission School District Budget Profile for 2005-2006, table 1, page 1
 Kavanagh, Shayne and Williams, Anderson Wright. Financial Policies: Design and Implementation. p 3.
 Comprehensive Annual Financial Report FY 2005, p 26.
 Ibid p v.
 Shawnee Mission School District Budget 2005-2006, Budget Form USD-B. p 2.
 Shawnee Mission School District Budget Profile for 2005-2006, page 1 of 19 http://www.ksde.org/budget/d0512bg6.pdf.
 Kavanagh and Williams, p71-80.
 Comprehensive Annual Financial Report, Shawnee Mission, Kansas, Unified School District NO 512, p9.
 Ibid p 31.
 Shawnee Mission School District Budget Profile for 2005-2006, note 14, Unencumbered Cash Balance by Fund, page 7 http://www.ksde.org/budget/d0512bg6.pdf
 Comprehensive Annual Financial Report, Shawnee Mission, Kansas, Unified School District NO 512, p7.
 Budget Profile 2005-2006 Blue Valley School District. p 7. http://www.ksde.org/budget/d0229pi6.pdf
 Ibid. p.22.
 Comprehensive Annual Financial Report, Shawnee Mission, Kansas, Unified School District NO 512, p33.
 Fiscal Management Statement DFA, http://www1.smsd.org/boeweb/dfa.HTM
 Kavanagh and Williams, p 125ff.
 C comprehensive Annual Financial Report, Shawnee Mission, Kansas, Unified School District NO 512, p36.
 Kavanagh and Williams. P3.
 Ibid. p 3-4
The professor commented that he would liked to have seen the transparency issue more fully developed.
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