Annotated Guide to Reading Financial Statements

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Financial Statements are a written report that quantitatively describe the financial position of your First Nation, expressed using four categories of information: Assets; Liabilities; Revenues; and Expenses.

Because First Nations are governments, these statements are prepared in accordance with Public Sector GAAP (Generally Accepted Accounting Principles.)

ABC First Nation Audited Consolidated Financial Statements March 31, 2013

Management's Statement of Responsibility for Financial Reporting

• First Nation management prepares a written representation that it is responsible for the integrity of the financial statements.

Independent Auditor's Report

• An independent audit opinion provides additional credibility and notifies users whether or not they can rely on the Financial Statements. Auditors may also include a "Management Letter" to suggest improvements in practices and financial controls.

Consolidated Financial Statements

There are 4 Financial Statements. Each one speaks to essential aspects of the financial position of your First Nation Community.

• Consolidated Statement of Financial Position
• Consolidated Statement of Operations
• Consolidated Statement of Change in Net Debt
• Consolidated Statement of Cash Flows

Notes to the Consolidated Financial Statements

• Notes are an integral part of the Financial Statements. Think of them as end notes to a report with many references. They provide additional detail and often original information. It is often necessary to read the notes to completely understand the financial position of your Community.

Schedules to the Consolidated Financial Statements

• Also attached to the Financial Statements may be a variety of supporting or disclosure schedules, such as the Schedule of Remuneration and Expenses for First Nation elected officials.

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The statement indicates the responsibilities of management and are an assurance to readers that due process and accepted standards and practices were observed in the preparation of the Financial Statements.

They typically elaborate on:

1. Who is responsible for what?
2. How were they prepared?
3. What is assurance based on?
4. How are responsibilities involved discharged?
5. What process is normally followed?
6. Who audited and under what conditions?

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There are four common types of auditor's reports, each one presenting a different situation found during the auditor's work:

When an auditor has reservations, they will detail them in a separate paragraph before the opinion paragraph.

1 - Unqualified Opinion (or "clean opinion") report: This means that your Community's financial condition, position, and operations are fairly presented in the financial statements. This is the best possible report.

2 - Qualified Opinion report: very similar to an unqualified opinion. The two types of situations to cause this opinion over the Unqualified opinion are:

1. single deviation from Canadian Accounting Standards, or
2. limitation of scope. This means the report is mostly good but a few things must be fixed or explored further.

A Qualified Opinion would be indicated with wording similar to "..*except for the effects of the adjustment referred to in the preceding paragraph, these financial statements present fairly*.."

3 - Adverse Opinion report: the auditor determines that the financial statements are materially misstated and, when considered as a whole do not conform to Canadian Accounting Standards. This is not a good report.

An Adverse Opinion would be indicated with "..*these financial statements do not represent fairly*.."

4 - Disclaimer of Opinion report: usually referred to simply as a Disclaimer, it is issued when the auditor could not form, and consequently refuses to present, an opinion on the financial statements. The financial records are incomplete and no opinion can be formed.

A Disclaimer of Opinion would be indicated with "..*we are unable to express an opinion whether these financial statements are presented fairly*.."

It is desirable – and most funders require – that the community maintain an unqualified audit.

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The Statement is composed of two pictures captured at two points in time (at the end of the last and the current fiscal years) of your Community's:

1 - Financial Assets (How much money the community has)

• Cash and other liquid assets that can or will be turned into cash

2 - Liabilities (How money the community owes)

• Deferred revenues and claims from creditors and other obligations that have been incurred, but not paid

3 - Non-Financial Assets (Such as buildings or vehicles)

• Physical assets, property and inventories, as well as expenses that have been prepaid.

4 and 5 - Net financial assets (net debt) and accumulated surplus (deficit) are also important signs as to the financial position of your community.

Large net debt and accumulated deficit numbers may be a sign of current and future problems in paying bills, making investments or paying for day to day community operations or services.

• Net financial assets (net debt): Financial Assets – Liabilities. All that the community has minus all that it owes
• Accumulated surplus (deficit): See the Consolidated Statement of Operations – Accumulated surplus (deficit) at the end of year.

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The Consolidated Statement of Operations (known in business as the company's Income Statement) accounts for the difference between the revenues (income) and expenses (spending or cost) in the period as the measure of surplus (extra) or deficit (owing) for the period.

1, 2 and 3 - Where revenues (income) are greater than expenses, a positive number will appear, indicating an annual surplus. Otherwise, a deficit exists.

• Revenues:
  Income received during the fiscal year from a variety of sources.
• Expenses: Expenses (or operating costs) incurred during the fiscal year by function or major program.
• Annual surplus (deficit): Indicates whether revenue was sufficient to cover expenses for the fiscal year.

4 - The accumulated (gathered) total of more than one year will be either an accumulated surplus (a positive number that is the money left after all costs) or an accumulated deficit (a negative number or the amount of money needed to pay for costs that are not paid yet). This amount will also appear at the bottom of your Community's Consolidated Statement of Financial Position.

• Accumulated surplus (deficit) at the end of year:
  The accumulated total of all surpluses and deficits from prior years.

5 - Budget: Operating budget approved at the beginning of the year

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1, 2 and 3 - The Consolidated Statement of Change in Net Debt reports the extent of the annual surplus (or deficit), that represents the degree to which the expenditures (spending) for the year (including spending on tangible capital assets and inventories of supplies) are matched by the revenues – or income – of the period.

• Annual surplus (deficit): Indicates whether revenue was sufficient to cover expenses (excluding expenditures associated with tangible capital assets and inventories of supplies) for the fiscal year.
• Tangible capital assets: Changes in assets or debts (how much we have) on account of transactions involving tangible capital assets . These are non-financial assets having physical substance (e.g., buildings, equipment, water and other utility systems, etc.)
• Supplies and Prepaid Expenses: Acquisition and use of inventories of supplies and prepaid expenses.

4 and 5 - An increase in net debt means more future revenues (income) are required to pay for past transactions (spending).

The Statement also compares actual capital spending with planned (budgeted) capital spending. Large variances (differences) between budgets and actuals (what was actually spent) may also reveal issues for further consideration.

• Change in net financial assets (debt): Net changes in financial assets (debts).
• Budget: Capital budget approved at the beginning of the year.

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The Consolidated Statement of Cash Flows summarizes the sources and uses of cash. Changes are divided into four major categories:

1. Operating transactions – includes net income and changes in most current accounts.
   • These are the nuts-and-bolts of day-to-day operating activities. Financial health is typically associated with positive net cash flows or where more money comes in than goes out.
2. Capital transactions – includes changes from tangible capital asset transactions.
   • Good place to look for the health of infrastructure. Investment in capital less depreciation = investment or use of existing structures. When zero, neither using up nor storing infrastructure.
3. Investing transactions – includes changes from investing transactions.
   • Changes in cash flows on account of transactions associated with managing investments.
4. Financing transactions – includes changes in debt and other financing accounts.
   • Changes in cash flows on account of financing activity.

Each of these changes can tell a story, as could year-over-year variances.

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Notes are important in understanding the Financial Statements. They provide additional material information beyond the numbers in the Statements.

As a minimum, the notes explain the accounting policies used.

In most cases, notes have a lot more to say and should be looked at carefully.

Some notes will be included when conditions warrant (for example, details of debt maturities, capital lease obligations, related party transactions, etc.)

Finally, some notes will appear because management believes that they provide useful insight into the Community's economic prospects (for example, summary of key ratios, financial highlights, etc.)

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The Bill, which received Royal Assent on March 27, 2013, provides a legislative basis for the preparation and public disclosure of First Nations' audited consolidated financial statements and of remuneration, including salaries and expenses, that a First Nation or any entity that it controls pays to its elected officials. It requires that a First Nation publish on the Internet 120 days following the end of the financial year (or provide on request to any of its members) the following:

1. its audited consolidated financial statements;
2. the schedule of remuneration and expenses of its elected officials;
3. the auditor's report on the consolidated financial statements; and
4. the auditor's report on the schedule of remuneration.

Available on the internet or by request no later than 120 days after the end of the Financial Year of your First Nation (by July 1 of the year)

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No. Financial Statements are just one source for information describing how your community has performed financially during the past fiscal year. Other performance information – both financial and non-financial is also available. Your community's annual budget and the Annual Report are two additional sources for useful performance information.

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First, keep in mind that the Financial Statements only present numbers or information that is believed useful and meaningful to the reader. That does not mean that what you see is all there is.

Review the Auditors Report. You want it to be unqualified.

Look for unusual things on the Statement of Financial Position. Read associated Notes, that is often where the details are. Examine the assets section to understand what the situation is.

Review of revenue and expenses summary in the Statement of Operations – look for surprises and ask questions about what you find.

The cash flow – look for hidden problems. Review the cash flow and assess how the Nation is doing with maintaining infrastructure.

Ultimately, financial reporting is more than just the numbers. These numbers are tied to work plans – what Council has committed to do for you during the year. You do want to make sure that even if the budget was met, the money spent was used for the things it was supposed to be used for. Many of these details will be in Notes; some will be in the attached Schedules, such as the Schedule of Remuneration and Expenses.

So, most importantly, ask questions, learn, teach others, and act on what you find.

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Your Community's Financial Statements give you:

1. Consolidated Statement of Financial Position
   An accounting of the full nature and extent of the financial affairs and resources which it controls, including those related to the activities of its agencies and enterprises.
2. Consolidated Statement of Operations
   Information on the difference between the revenues and expenses in the period.
3. Consolidated Statement of Change in Net Debt
   Information to describe the changes in its financial position in the accounting period.
4. Consolidated Statement of Cash Flows
   Information on the sources and uses of cash in the period.

These different objectives for reporting call for four financial statements.

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Your Community's Financial Statements give you five key messages about your community's financial health:

1 and 2 - Consolidated Statement of Financial Position

• Net debt (net financial assets) is the amount remaining after all liabilities are subtracted from total financial assets. This indicates the amount of future revenues needed to pay for past transactions.
• Net assets, also known as accumulated surplus (or accumulated deficit) indicates the ability of the Community to provide future services to members.

3- Consolidated Statement of Operations

• Whether revenues were greater than expenses (surplus or deficit) in the fiscal year and what the total amount of the debts or surpluses have been for the community from prior years.

4 - Consolidated Statement of Change in Net Debt

• Whether there have been aby significant variance between the original budget for the community and what was actually spent.

5 - Consolidated Statement of Cash Flows

• Cash flow information, shown in the Statement of Cash Flows, indicates the change in the amount of cash held from the beginning of the year to the end of the year.

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For instance, the Statement of Financial Position is a snapshot in time of the financial position of the Community. It shows the financial condition at a point in time – usually at the start and end of the fiscal year.

It needs to be accompanied by other accounts that provide a useful outlook on changes in financial position over a period of time. That is the role of the other primary financial statements: to present summaries of the changes between the two snapshots.

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Financial Statements are prepared by the management of your Community on the basis of receipts, invoices and other documents related to each financial transaction.

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 "Have an annual general meeting and make the audited financial statements report available to membership;"

Five things. Management and Chief and Council:

1. Hire an independent and professional auditor to review the financial statements and provide an audit opinion;
2. Review audited draft year end financial statements and then approve adjusted year end audited financial statements;
3. Submit year end audited statements to funders (including AANDC) as required;
4. Have an Annual General Meeting and make audit available to membership; and
5. Review auditors' management letter and make plans to proceed with suggested internal control improvements.

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Management letters are addenda to the Auditor's Report intended for the First Nation management and for the Council. Accounting standards require the auditor to communicate significant weaknesses in internal control identified during the course of the financial statement audit. Examples may include:

1. Recording weaknesses
2. Oversight weaknesses
3. Authorization weaknesses.

Information and the recommendations contained in Management Letters are valuable management tools for management and Council to strengthen financial management and controls.

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You will want to look at the Consolidated Statement of Financial Position.

To find out, look at the net financial assets (net debt)(1). If this number is positive, cash is likely to be available to pay the bills. If negative, there may be problems paying bills on time.

1. Net financial assets (net debt): Financial Assets – Liabilities.

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Administrative staff in your Community should be able to explain differences between expected (budgeted) and the actual amounts that appear in the Consolidated Statement of Operations. Small differences are not unusual, but it is a good idea to question larger variances.

It is also a good idea to question large changes in a revenue or expense category from one year to the next. This is also something that the administrative staff should be able to explain.

1. Current year budget: Revenue and expense amounts expected at the start of the fiscal year.
2. Current year actuals: Revenue and expense amounts actually incurred for the current fiscal year.
3. Last year actuals: Indicates Revenue and expense amounts actually incurred in the previous fiscal year.

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There are three places where you should be able to get a good sense of how – and how much – your First Nation spends on administration:

1. First, the Consolidated Statement of Operations is a source for consolidated numbers (see items 1 and 2 explained), and for examining if there are any significant variances from one year to the next. Large totals (relative to other expenses) of significant variances, may be a source of questions to First Nation administrators.
   • Band government: Indicates how much your community pays to run the First Nation government. It includes the compensation and expenses paid to elected representatives.
2. Second, schedules attached to the financial statements – for instance, the Schedule of Remuneration and Expenses – give you more details on how (and on what) the First Nation government spends.
   • Administration fees and technical services: Indicate additional administrative expenses your community incurs in its operations.
3. Third, Notes to the financial statements might contain specifics related to administration costs that you may wish to examine and pursue further with your First Nation administrators.

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Under Bill C-27: First Nations Financial Transparency Act, a separate annual Schedule of Remuneration and Expenses that details the remuneration (salaries, wages, commissions, bonuses, fees, honoraria, dividends and expenses – including transportation, accommodation, meals, hospitality and incidentals) paid by the First Nation and any entity controlled by the First Nation to its Chief and each of its Councillors in their professional and personal capacities.

Starting with the release of statements for fiscal Year 2013-2014, you should be able to find out this information by examining the schedule of remuneration and expenses that should be attached to your community's audited consolidated financial statements.

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Governments use fund accounting to increase accountability for moneys that are meant for special or restricted uses.

Trust funds arise from First Nation monies from a variety of sources associated with: lands and natural resource activity; oil and gas activity; settlement funds; and fines.

First Nations are increasingly receiving significant sums of money owed to them from treaty land entitlement, settlement agreements, compensation type agreements and specific claim settlements. They provide potentially significant economic opportunities for your Community.

These funds are held in trust on behalf of each First Nation by the Government of Canada. The management of these funds is primarily governed by Sections 63 to 69 of the Indian Act. Any use of the funds must be approved by the FN membership and AANDC.

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Tangible Capital Assets (or TCAs) are non-financial assets having physical substance that:

• are used to supply goods and services, are for rental to others, are for administrative purposes or for the development, construction, maintenance or repair of other tangible capital assets;
• have useful economic lives extending beyond an accounting period;
• are to be used on a continuing basis; and
• are not for sale in the ordinary course of operations.

They include buildings, equipment, land that is purchased, water and other utility systems. TCAs are a big part of your Community's potential. As such, they need to be managed and accounted for.

Your First Nation provides a range of services to its members. For management reporting purposes, operations and activities are typically organized and reported by some form of segmentation by service lines, by function, by department providing the services, or by some other organizing principle.

For each segment separately reported (e.g., social services, education, First Nation government, housing, etc.), the segment revenue and expenses represent both amounts that are directly attributable to the segment and amounts that are allocated on a reasonable basis.

The segment disclosure gives you a good sense as to the sustainability and health of the key services available to you and your family members, and on how closely the budgeted amounts are reflected in the actuals. Variances are often a source of questions.