THE POTENTIAL IMPACT OF FASB’S PROPOSED CHANGES TO THE STATEMENT OF CASH FLOWS Roberta Cable, Patricia Healy and Claudia Li Pace University, Pleasantville, NY

Introduction FASB issued exposure draft, Proposed Accounting Standards Update (2015), changing the presentation of financial statements for not-for-profit entities as required by SFAS No Among other things, this draft dealt with changes in the Statement of Cash Flows: (1) Direct method for Operating Activities (2) Reclassification of certain items Our research examined the reclassification of purchases and sales of long lived assets to operating activities (from investment activities) for charities and hospitals.

Statement of Cash Flows – Three Part Classification Operating Activities – producing and delivering goods and providing services. Many analysts use cash flow from operations (versus net income) and free cash flow to analyze the the financial health of an organization. Investing Activities – acquiring and disposing of plant and other productive assets and making loans and collecting loans from entities. Financing Activities – obtaining resources from owners, providing a return on their investments, obtaining and paying for resources from creditors for long-term credit. SFAS No. 117 for Not-for-Profit organizations is similar to SFAS No. 95 for Profit organizations.

Arbitrariness of Statement of Cash Flows Classifications SFAS No. 95 and SFAS No. 117 have many reporting issues due to their complexity and ambiguity. Little has been done to strengthen both standards since they were issued. Nurnberg (2009) said that a major problem of the statement is the inherent arbitrariness of the three way classification of cash flow. Examples include: (1) Classification of dividends and interest (2) Classification of different marketable securities (3) Classification and sale of plant assets

FASB’s Proposed Standards Update Proposal included a change in presentation of financial statements, specifically the Statement of Cash Flows, updating SFAS #117. Use of direct method for Cash Flows from Operating Activities. Reclassify items – purchase and sale PPE; cash dividends and interest income; and cash payment of interest expense. Kroeher (2015) said that the change in presentation for not-for-profit entities, especially cash flow classifications, serves as a preview of what might be in store for public companies down the line.

Research Design The purpose of our research was to study the impact of FASB’s new proposal on the Statement of Cash Flows for not-for-profit entities. Our research focused on the impact of reclassifying PPE purchase and sale from Investing to Operating Activities. Not-for-profit entities are heterogeneous – chose to study charities (revenue from private contributions) and hospitals (revenue from private payments, most like corporations). Our sample consisted of the 50 largest U.S. charities and 50 largest U.S. hospitals. Collected information from Comprehensive Annual Reports from 2010 to 2014.

Research Design Terms – Cash Flow from Operating Activities (OFC); Property, Plant and Equipment (PPE); Net PPE (PPE Purchases minus PPE Sales); Old OFC (original OFC as on Statement); New OFC (Old OFC plus or minus Net PPE). Hypothesis I – Net PPE transactions would be a large percent of Old OFC (Net PPE/ Old OCF). Hypothesis II – Significant differences in measure of Old OCF to New OCF. Hypothesis III – FASB’s proposal would have different impacts on different types of not-for-profit entities.

Research Findings – 2010 Charity Data Table 1(a)Charities Old OCFPPE purchasePPE salesNew OCFChange % Average11,021,284(18,226,733)655,056(6,411,863)135% t-test

Research Findings – 2010 Hospital Data Table 1(b)Hospitals (thousands) Old OCFPPE purchasePPE salesNew OCFChange % Average253,506(199,728) 53,87989% t-test

Research Findings – 2011 Charity Data Table 2(a)Charities Old OCFPPE purchasePPE salesNew OCFChange % Average10,516,792(16,135,328)1,247,006(3,577,287)107% t-test

Research Findings – 2011 Hospital Data Table 2(b)Hospitals (thousands) Old OCFPPE purchasePPE salesNew OCFChange % Average263,388(235,036) 28,782133% t-test

Research Findings – 2012 Charity Data Table 3(a)Charities Old OCFPPE purchasePPE salesNew OCFChange % Average21,952,566(30,378,809)1,368,950(6,609,249)70% t-test

Research Findings – 2012 Hospital Data Table 3(b)Hospitals (thousands) Old OCFPPE purchasePPE salesNew OCFChange % Average281,209(230,613) % t-test

Research Findings – 2013 Charity Data Table 4(a)Charities Old OCFPPE purchasePPE salesNew OCFChange % Average33,091,919(29,882,770)10,649,1088,086,97588% t-test

Research Findings – 2013 Hospital Data Table 4(b)Hospitals (thousands) Old OCFPPE purchasePPE salesNew OCFChange % Average259,461(218,903) 40,96998% t-test

Research Findings – 2014 Charity Data Table 5(a)Charities Old OCFPPE purchasePPE salesNew OCFChange % Average41,230,978(22,464,054)353,67021,079,30466% t-test

Research Findings – 2014 Hospital Data Table 5(b)Hospitals (thousands) Old OCFPPE purchasePPE salesNew OCFChange % Average289,167(255,358) 64,363118% t-test

Research Findings – Comparison between Charities (C) and Hospitals (H) Table 6Comparison between Charities (C) and Hospitals (H) >100% change50-100% change20-49% changeTotal >20% CHCHCHCH %24%20%48%27%26%63%98% %27%20%49%11%24%49%100% %36%13%52%15%12%51%100% %41%12%49%14%10%50%100% %29%11%54%19%17%51%100%

Research Findings - Summary Tables 1 to 5 provide evidence that, in each of the five years, hospitals will have incurred much larger changes to their operating cash flow than charities. Table 6 compares the differential classification impacts for charities and hospitals. More hospitals experienced an over 100% change in OCF than charities; almost half of hospitals experienced 50% - 100% change compared to 11% to 20% of charities. In general, hospitals had larger and less volatile Old OCF than charities that was significantly impacted (more than charities) with the reclassification of purchases and sales of PPE to cash flows from operating activities.

Conclusions Reclassification affects different not-for-profit entities differently – hospitals more significantly impacted than charities. Cash flows from operating activities commonly used to predict an organizations financial health. However, this measure may become more volatile and less predictable, and not as useful for with this new classification. FASB update to SFAS No. 117 may influence similar changes to SFAS No. 95 (for corporations). Hospitals, with their reliance on private payments, are the type of not-for-profit entities most like for for-profit organizations. Our research provides valuable insights to the possible effects of reclassification purchases and sales of PPE to Cash Flows from Operating Activities.