AICPA's Health Care Organizations Audit Guide
Are Realized Gains Applicable to Not-For-Profit Entities?

Open Letter Addressed to the Chairman of the Audit Guide Committee

Re:  Health Care Organizations Audit Guide, of May 1, 2001
         Performance Indicator and Realized Gains for Not-For-Profit Entities

The purpose of this memo is to provide you our reasons for disagreeing with the concept and definition of the "performance indicator" as described in paragraphs 10.17-19, 4.07-11 and samples on pages 162 and 163 of the above audit guide. We noticed that FASB recently added this topic to their agenda for for-profit entities.

We disagree with the entire concept of the "performance indicator" for the following reasons:

1. First and foremost, CPAs are frustrated with the burdens of standards which remove professional judgment from our craft and with those in our own trade association that regulate such indirectly on our behalf.  Your audit guide has created this defacto standard.

2. Paragraph 4.07 introduces FAS #115 definition of trading securities.  FAS # 115 does not apply to not-for-profits.  Refer to the scope paragraphs of FAS # 115 as well as FAS # 124 regarding such.  It appears that the audit guide committee has taken the "allows" language of FAS # 124, Appendix B, paragraph 49, and created a defacto standard by omitting in the AAG the minor detail that FAS # 115 treatment is not part of the FAS # 124 opinion.  We believe the committee is in violation of FAS # 115 and has not justified why the FASB was wrong in this regard, refer to page iii, last sentence of that paragraph.

3. The inclusion of investment income within revenues (and also as a part of the committee’s performance indicator) is the first item analysts take out when comparing hospitals, for-profit and not-for-profit.  For casual readers, like boards of trustees, its inclusion really should be discouraged, but not regulated.  Displaying such prominently in published examples is clearly inappropriate, refer to page 162.  In my opinion, relying upon a significant amount of interest income to prop up results from operation of a hospital is an economic dependency requiring disclosure; what if interest rates fall from 8% to 2%, i.e. calendar year 2001?  There are a number of hospitals that have failed in New England of late, we wonder how many comforted their boards by reporting investment return as part of operating revenues.

4. Sample on pages 162 and 163 show duplicate information regarding non operating income items.  Its simply ugly, redundant and unnecessary.

5. The audit guide has changed FAS # 124 paragraph 49 word "allows" to "shall" by mandating a distinction between realized and unrealized gains; This is contrary to FAS #124 which attempted to remove the ability of entities from marking up (or not marking down as the case may be) their income statements by selling an investment.  The committee, on the other hand, thinks that a sold investment has more value to income recognition in spite of FAS #124.

6. The performance indicator, if one is needed at all, should be "income from operations" without any investment results except maybe certain items of interest income which by their nature may offset interest expense, for example unexpended bond construction funds and may be xx days of working capital.  Non operating income is just that, items making up the remaining changes in unrestricted net assets.  Under FAS 124 there is no need to introduce the concept of double net income, i.e. "comprehensive income" that exist in the for-profit world (FAS #130, Comprehensive Income does not apply to not-for-profit organization, paragraph 6, in any form).  To do so adds significant accounting burdens to not-for-profits due to the fact they have to then account for realized gains, a concept which is foreign under "mark to market" accounting.  Treating realized investment gains differently from unrealized investment gains is of no analytical value; why attempt to distinguish such?  The economic reality, which we thought was our objective, is "fair market value".  What additional meaning is added by creating an adjustment located after some performance indicator for realized gains and loss?  It amounts to nothing but an adjustment necessary to reach the goal of FMV.  Unless, that is, if one considers that it also overstates operating cash flow by the amount of your FAS #115 sales of trading securities.

7. Until FAS rules on this issue, it is our opinion that your performance indicator is nothing but a "hack."   That is, representation on a committee of the purpose of stealing a standard needed to boost a client's bottom line.  The concept does not exist anywhere else, like a FAS.

Thank you for listening to our frustrations with the committee's published deliberations.  In general, we have historically respected and admired the publication.  However, our firm will not follow your guidance on this issue for the reasons explained above.

Very Truly Yours,

Scott Beane, CPA




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