NOTE: This memorandum is provided as an example of the type of documentation/analysis that must be performed in assessing the impact of the University’s non-GAAP policies. This memo is not meant to be all inclusive and should only be used as an example. The analysis should also be supported by source documentation.
California State University, Example
Documentation of Non-GAAP Policies
Prepared by: ____________, Controller
Updated for Fiscal Year Ended 20XX
The University has adopted three accounting policies, which fall outside of GAAP:
The University records as pledges receivable only those pledges greater than $1,000.
The University records prepaid expenses for individual invoices ≥ $20,000.
The University does not amortize free rent received over the lease term.
The following is an analysis of the impact of each non-GAAP policy:
Pledges Receivable Recording Threshold
The University has established a financial statement recording threshold for pledges receivable of $1,000. While pledges of all amounts are recorded/tracked by the University’s Advancement Division, many pledges consist of annual alumni dues and/or small dollar pledges for as little as $1. The impact of this decision for 20CYXX resulted in the University not recording $2,900,000 in pledges receivable as of 6/30/CY (of which $1,110,000 were new pledges in 20XX).
(To be included on the Summary of Uncorrected Audit Differences)
Debit Pledges receivable $2,900,000
Credit Beginning net assets $ 1,790,000
Credit Gifts, noncapital 1,110,000
(To record pledges receivable as of 6/30/CY for pledges below the $1,000 threshold related to current and prior years)
Prepaid Expenses Threshold
In 20XX, the University adopted the practice of recording prepaid expenses for those individual invoices that:
benefited two or more fiscal years, and
were ≥ $20,000.
This decision resulted from the vast number of small dollar invoices the University typically recorded as prepaid expense. The effect of this change cannot be determined without doing a complete analysis of each accounts payable transaction. However, the University believes, based upon the data during the year of the change (see the table below for number of invoices by dollar category for FY 20CY) that this practice does not materially impact the financial statements as many of the expenses are annual maintenance contracts and insurance premiums. The effect of this change between fiscal year 20CY and 20PY was a total reduction in prepaid expenses of approximately $820,000. The greatest change occurred in the category of insurance and did not relate to the new threshold but rather related to changing insurance carriers and a change in timing of the invoices. The effect of these two items resulted in a reduction to prepaid expenses for insurance in 20CYof approximately $534,000. The remaining $286,000 difference is as follows:
The most significant changes noted in the table above relate primarily to timing of purchases and are possibly expenses of a one-time nature rather than ongoing. These are postage, travel, publications and advertising and marketing. Maintenance contracts, dues and memberships, and annual licenses are generally renewable annually and therefore, the University would be including twelve months of expenses in the financial statements albeit with slight differences due to incremental increases from one year to the next.
An analysis of the individual invoices recorded to prepaid expenses in FY 20CY by amount yields the following data:
(to be included on the Summary of Uncorrected Audit Differences)
Debit Prepaid expenses $ 286,000
Credit Beginning net assets $ 286,000
Credit Operating expenses 0
(To record prepaid expenses as of 6/30/10 for items below the $20,000 threshold related to current and prior years.)
Straight line free rent lease periods
KPMG notes that historically, the University has not recognized lease expense on leases with a free rent period on a straight line basis over the life of the lease. Rather, the University recognized lease expense as the actual amounts are paid each month.
The University’s purpose for adopting this policy is based on the relative insignificant effect to the entity’s financial statements.
Based on the analysis below, there was one lease outstanding which has free lease period at year end. Total current year impact of not recognizing the expense on a straight line basis amounted to $500 (with a balance sheet effect of $1,000). Hence, this amount is posted to summary of uncorrected audit differences for further consideration. See below for further analysis.
Lease XYZ entered into 3/30/PY
Lease term 36 months
Free rent 3 months
Cash payment per month $500 (for the last 33 months)
Total payment over life of the lease:
$500 x 33 months = $16,500
Straight line expense per month:
$16,500 / 36 months = $458.33 month
Expense recorded (the free rent period occurred in PY, so cash payment was required all 12 months in CY):
$500 x 12 months = $6,000
Straight line expense:
$458.33 x 12 months = $5,500
Based upon the above analysis the University should have recorded lease expense and deferred lease of $1,500 (3 months x $500 per month) for the 3 months of free rent in the PY. In the CY, the University should have recorded lease expense of $5,500 versus $6,000 and reduced the deferred lease by $500 to $1,000. Therefore, the following entry was proposed:
Debit Opening net assets 1,500
Credit Deferred lease 1,000
Credit Lease expense 500
(To record the impact of not recording the free lease period).