Amortization on Capital Assets?
by John Vegt, SCSBC Director of Finance ◊
Spring marks the time school boards are preparing their budgets for the upcoming school year. Undoubtedly, administrators and treasurers are busy reviewing enrolment projections, staffing ratios, expected government grants revenues, tuition fees, professional development costs, and tuition assistance applications. However, is charging amortization on major capital assets on your radar screen or, better still, on your budget spreadsheet?
Many of our Christian schools look at cash flow from operations as the main yardstick to make ends meet. However, budgets for operations are only of limited use if non-cash items such as amortization of capital assets are ignored. Schools need to build up appropriate cash reserves in order to pay for replacement of capital assets such as buildings, buses and computers.
As part of the capital budget, all capital costs and debt principal repayment should be provided for on an annual basis. Schools then need to know how budgeted capital costs are funded. They generally come from three sources: donations, debt, and transfer from the operating budget surplus.
If amortization charges are properly provided for in the operating budget using the appropriate amortization percentage to be used for building, equipment and other depreciable assets, then as these assets are replaced, sufficient funds will have been set aside to replace them when their useful life is over. Land, however, is not amortized since the useful life of land is normally into perpetuity. Therefore, land is usually financed from donations and debt. As most are aware, our government does not fund for any capital assets; it only funds 50% of the operating expenses.
In reviewing the financial statements of all SCSBC schools, I discovered there are four schools that do not charge amortization at all. There are also a number of schools that charge amortization, but only for accounting purposes, looking to simply balance the cash flow operating budget. Following this practice will then require schools to finance all capital replacement costs from donations and debt.
In order to avoid future cash flow problems, tuition fees and government grants should fund all operations including amortization. In reality, for all SCSBC schools to balance their operating budgets including amortization, $4 million of donations and fundraising, and $2.5 million of other revenues were needed.
In the 2010-11 fiscal year, SCSBC schools recorded amortization of $4.4 million ($4.1 million for 2009/2010). In the same fiscal year, capital costs additions totaled $5.3 million ($7 million for 2009/2010). This indicates that total replacement costs over the last two years were larger than the amortization charged by $900,000 in 2010/11 ($2.9 million in 2000/2010). Replacement costs for schools can vary significantly depending on whether a new school addition is being built or major renovation undertaken. As the average shortfall of revenues over expenses including amortization for the last three years was about $400,000, new debt of between $1.3 and $3.3 million needed to be incurred to fund capital costs.
Amortization is an accounting tool and a method of providing for replacement of capital assets. This should be funded from operations so that when the time comes to replace capital assets, funds have been set aside to make that happen. If schools grow beyond their current capacity and new facilities are needed to be build, those costs would only be funded from donations and debt.
In your budgeting for the 2012/2013 school year, ensure that amortization is provided for, and that the cash generated by amortization is used only for building up reserves for the replacement of assets. A break even operating cash flow budget is not sufficient. Each generation of parents and other supporters should fund capital asset replacements equally. Not only is this the wise and stewardly thing to do, it is also adds to the long-term viability of our Christian schools for future generations.
Please consider these important questions in your current budget process. Is our school charging amortization? Does our school ensure that the surplus created by the charge is set aside for future capital asset replacement? The long term financial sustainability of our Christian schools depends on it.