Financial Viability and the DEEWR Financial Health Assessment Independent Schools Queensland

1. Financial Viability and the DEEWR Financial Health AssessmentIndependent Schools Queensland ISQ State Conference Novotel Brisbane 27 August 2009 Data Knowledge Innovation © 2002 William Buck All rights reserved.

2. John Somerset Qualifications • Graduate Diploma Company Directors Course • Certificate IV in Workplace Training and Assessment • Graduate Diploma in Applied Finance and Investment • Professional Year Institute of Chartered Accountants • Bachelor of Commerce University of Queensland Accreditations/Memberships • Graduate - Australian Institute of Company Directors • Fellow - Financial Services Institute of Australasia • Member - Institute of Chartered Accountants in Australia • Member - Performance Measurement Association (UK) Core Expertise • Benchmarking schools (14 years). • Strategic planning, evaluation and reporting. • Corporate governance of schools. • Financial management and performance improvement • Budgeting and board reporting models. Appointments • Council and Finance - St Paul’s School (2000 – 2008) • Chairman - St Paul’s School Foundation (2006 to 2008) • Director - St Stephen’s College • Chair Finance Committee – St Stephen’s College • Risk Assurance Committee – St Stephen’s College • Member of Executive –Independent Schools Queensland • Chair Finance Committee –Independent Schools Queensland

3. Focus today Financial Viability Defined Language of Money Measuring Performance Good Governance/Management Practices

4. Financial Viability Defined

5. The “Going Concern” principle • DEEWR Schools Assistance Act 2008 • The minister will be concerned about the financial viability of a school where • Its liabilities exceed its assets • For a substantial period it is unable to pay its debts as and when due or • Auditor expresses concern about financial viability • Australian Government Auditing and Assurance Standard • Auditor would generally express a financial viability concern where • School is unable to pay its debts as and when they fall due; and • It may be necessary to liquidate or otherwise wind up the operations

6. Auditor will consider • Debts due in next 12 months exceed assets available to pay for them • Borrowings approaching maturity without realistic prospects of renewal • Withdrawal of financial support by debtors and creditors • Operating (cash) losses (historical and/or prospective) • Adverse key financial ratios • Inability to pay debts by due dates • Inability to comply with terms of loan agreements

7. In short Financial viability will be in question where there is insufficient cash being generated by the school to meet the obligations of the lenders (banks and creditors) You must make a reasonable operating surplus (profit)

8. Causes of Financial Distress • Over borrow (loans and leases) • Low profit margin or operating losses • Inability to repay debt from fiscal operations • Drop in students (demographics) causing drop in income • Not adjusting expenses (staff) for drop in students • Weak Governance • Not identifying financial distress early • Small financial resource base

9. Causes of Financial Distress • Poor financial monitoring systems • Loss of owner’s support (deep pockets) • Grow too big, too quickly on the back of fee discounts • Non-precise budgeting - long and short term • Non-precise accounting – ignoring auditors management letters • Poor selection of key management personnel

10. Operating Income Operating Expenditure Fee Levels State and Commonwealth Grant Entitlements Miscellaneous Income Available Tuition Administration & Maintenance Miscellaneous Costs Curriculum Student / Teacher Ratios Student Numbers Mission Statement What drives Operating Requirements?

11. Capital Income Capital Expenditure Other Sources of Capital Income Eligibility for Special Grants Non-Core Facilities Desired Facilities Required Curriculum Student / Teacher Ratios Student Numbers Mission Statement What Drives Capital Requirements?

12. From 2009 DEEWR will use benchmarks to test financial viability Schools Assistance Bill 2008 and Administrative Guidelines state The financial viability of a school will be assessed utilising a set of financial indicators, with each indicator being assigned a benchmark… The status of a school’s financial health will be assessed according to the number of benchmarks the school meets… Schools will be assigned to one of three groups

13. DEEWR Financial Viability Status Groups – out of 9 ratios

14. https://schools.dest.gov.au/ssp/help/html/fv/index.htm

15. Group 2 Action Plan Template

16. Language of Money

17. Balance Sheet – A “picture” at a point in time What you OwnAssets Less- What you OweLiabilities (debts) Equals = What you are WorthEquity (Retained Earnings)

18. Balance Sheet – A “picture” at a point in time • Current Assets = Cash or things convertible to cash within 12 months • Current Liabilities = Debts payable within 12 months • Non-Current Assets = longer than 12 months to convert to cash • Non-Current Liabilities = longer than 12 months to pay

19. Profit & Loss – A “picture” over time • Also called an Income Statement Income Sale of services (Fees, grants, other) Less Expenses Costs incurred in operating the school Equals Net Operating surplus (Profit)

20. The “Aim” of the Game • Earn more than you spend • Own more than you owe

21. The “Aim” of the Game Balance Sheet Profit & Loss The Outside World Your School Entity (Internal World) Income in $1,000 Expenses out $900

22. The value of the entity grows by $100 Balance Sheet Profit & Loss The Outside World Extra $100 Cash Income in $1,000 Expenses out $900

23. Reinvest $100 on a building Balance Sheet Just a flow of cash. No increase in wealth. Just A reallocation of assets from cash to building The Outside World Extra $100 Cash Building worth $100 (Entity did not grow) Building supplied Builder paid $100

24. Moral of the Story • Must be able to pay your debts when due • Question 1 Are we solvent (can we pay our debts when due)? • You must make a surplus (profit) with the outside World • Question 2 Are we efficient? • Continue to reinvest in new assets • Question 3 Are we sustainable? • Question 4 How much debt is prudent?

25. Measuring Performance

26. Measuring Performance • Financial statements provide absolute quantities - $ • Convert quantities to ratios (eg. cost per student) for meaningful comparisons • We are better informed by comparing one quantity to another Ratio Analysis Compare your ratios with a defined benchmark or sample average

27. Benchmarks – A Point of Reference • Make INFORMED decisions • A reference point or hurdle • What is a reasonable • Operating surplus (profit)? • Debt? • Staff number? • Benchmarks are your guiding tracks

28. Use Benchmarks to • Assess Financial Health • Viability (viability ratios) • Operations (operational ratios) • Identify Weaknesses • Set Targets • Improve Performance Make INFORMED decisions Your fiduciary duty

29. How to pass your DEEWR test Your Test Your Coach/Tutor • Diagnose • Treat • Improve ASBA/Somerset Financial Performance Survey (FPS) DEEWR Benchmarks

30. DEEWR Financial Health Assessment Benchmarks

31. Comments on the DEEWR Benchmarks for 2009/2010

32. How to Improve your Financial Performance ASBA/Somerset Financial Survey

33. Report Sample

34. Report sample

35. How to use the ASBA/Somerset Benchmarking Survey Characteristics of a Benchmarking Sample • The schools selected for this comparison have the following characteristics: • Geographic: National • Day or Boarding: Boarding • SES: 106 to 112 • Enrolments: 1000 to 1600 • Affiliation: All • Gender Mix: All • Curriculum: P-12

37. Answering the Key Questions – Key Ratios • Are we Solvent? • Cash flow adequacy • Working capital ? – better to predict cash at bank • Are we Profitable? • Net operating margin • Income per student • Expenses per student • Staffing ratios • Are we Sustainable? • Depreciation • Reinvestment • Debt per student • Interest cover

38. Answering the Key Questions – Key Ratios • Are we Solvent? • Cash flow adequacy • Working capital ? – better to predict cash at bank • Are we Profitable? • Net operating margin • Income per student • Expenses per student • Staffing ratios • Are we Sustainable? • Depreciation • Reinvestment • Debt per student • Interest cover

39. Cash Flow Management Cash Flow Adequacy = Net cash from operations Capital and debt expenditure = Ability to generate cash to meet primary cash requirements Rule of thumb = 1.0 times

42. Liquidity Ratios Working Capital ratio = Current assets Current liabilities = number of time that you can pay current creditors (debts) Rule of thumb = at least 1 times

45. Answering the Key Questions – Key Ratios • Are we Solvent? • Cash flow adequacy • Working capital ? – better to predict cash at bank • Are we Profitable? • Net operating margin • Income per student • Expenses per student • Staffing ratios • Are we Sustainable? • Depreciation • Reinvestment • Debt per student • Interest cover

46. Operating Efficiency Net Operating margin (Adj.) = Operating Result* Total Revenue * Before interest, depreciation and amortisation For every dollar in income, how much remains after all expenses 2008 Industry Average 10.7%

49. Profit Trends (Lowest in 12 years)