Forecasting Revenues in an Uncertain Environment

1. Forecasting Revenues in an Uncertain Environment Kent Olson Assistant City Manager City of Coral Gables May 6, 2012

2. Topics To Discuss “It’s the Economy, Stupid” Legislative Impacts Societal/Technological Impacts Revenue Projections Long Range Forecasts Final Thoughts

3. “It’s the Economy, Stupid” • When did this phrase originate, and by whom or what organization?

4. “It’s the Economy, Stupid” “I feel your pain”

5. An Economist’s Focus

6. An Accountant’s Focus

7. An Economist’s Focus

8. An Accountant’s Focus

9. An Economist’s Focus

10. An Accountant’s Focus

11. Importance of the Business Cycle Recession, Depression, Recovery, Expansion What phase are we in now? Why is that important? Length of the business cycle

12. Macroeconomic Indicators • Gross Domestic Product (GDP) • Retail Sales • Inflation • Consumer Price Index (CPI) • Interest Rates • Bond yields, yield curve, and spreads • Unemployment Rate/Job Growth • Real Estate Market

13. Retail Sales: What to Focus On • Note which segments report improving sales and which are reporting slumps • Gasoline sales – if higher, likely related to price, not volume • Luxury goods • Home improvement • Restaurants • Leisure • Travel

14. Retail Sales: What to Focus On (cont.) • Note which retailers report improving sales and which are reporting declines • Target, Walmart, Kohl’s • Macy’s, Nordstrom’s, Saks, Neiman Marcus • Gap and TJMaxx vs. Talbot’s • Limited Brands • McDonald’s vs. Five Guys • Scandinavian Design vs. IKEA • Home Depot and Lowe’s

15. Probable Leading Indicators • Inverted yield curve • Inflation trend • CPI: Core vs. overall • Commodity prices • Oil vs. Natural Gas • Stock prices • Real Estate Markets

16. Real Estate Markets Residential construction drivers Commercial market (vacancies) Historical price patterns Real estate conditions Up north Locally

17. Sources of Macroeconomic Data Federal Government State Government Business periodicals Newspapers Television programs Radio programs Websites

18. “They’re the Federal Government, They’re Here to Help” • U.S. Department of Labor, Bureau of Labor Statistics (www.bls.gov) • CPI-U • Department of Commerce, Bureau of Economic Analysis (www.bea.gov) • GDP • Retail Sales

19. “They’re the State Government, They’re Here to Help” • Revenue Estimating Conference • Published on Office of Economic and Demographic Research’s website • Typically updates in March, August and November • State-wide estimates of a wide range of revenue sources • Office of Economic and Demographic Research also provides other reports and data(www.edr.state.fl.us)

20. Office of Economic and Demographic Research • Provide monthly actual data • Long-Range Financial Outlook with substantial economic and financial analysis • Under “Economy”, provide county and city economic and demographic data • Census data • Projections as well • Economic Estimating Conferences also provide a wealth of information

21. Revenue Conference Estimates • County Property Tax values • State General Revenues • Sales Tax • Documentary Stamp Tax • Beverage Taxes & Licenses • Communications Services Tax • Transportation Revenues (Fuel Taxes) • Article V Fees & Transfers

22. State Department of Revenue • Revenue estimates • Formerly done by the Legislative Committee on Intergovernmental Relations • Now compiled by the Office of Economic and Demographic Research • Available beginning in mid-June • Covers various revenues • Sales taxes • revenue sharing • fuel taxes • communications services tax

23. Some Free Website Sources Wall Street Journal (wsj.com) MSNBC.com CNN.com Bloomberg.com Reuters.com Foxbusiness.com

24. Microeconomic Factors Local economic conditions New business openings Business expansions Business closings Layoffs Identify Major Industries/Employers Tourism Manufacturing Medical Finance/Banking Government

25. Microeconomic Data Sources • Local newspapers and business periodicals • Planning/Building & Zoning Department • Building permits • Local developments in the planning stages • Local Realtor’s Association • Property Appraiser

26. Legislative Impacts - State • State targets • Property taxes • Communications services tax • Business taxes (occupational licenses) • Red light cameras • Fire assessment fees

27. Legislative Impacts - Federal • Ban on Internet taxation • Deficit closing efforts • Elimination of deductibility of state and local taxes • Loss of grant funding • Location of Armed Forces bases and personnel

28. Societal/Technological Changes - Telecommunications • Impact of cell phones • More households giving up land line phones • Watching TV on the computer • Cable and Satellite services losing customers • Prevalence of wireless access • Fewer customers need cable lines to access Internet • iPhones

29. Other Societal/Technological Changes • Higher Savings Rate • Is this a short-term or long-term phenomenon? • Greater Fuel Efficiency of Vehicles • Economic growth of China and India • E-commerce • It’s not just sales tax; think property values

30. About Projections Past performance is not an indicator of future performance All projections are wrong – the only question is by how much Use previous projections versus actual to fine-tune future projections

31. A Tale of Two Forecasters

32. Selected Projection Methods Historical averages Historical growth rates Average Compound Annual Growth Rate (CAGR) Regression analysis Flat

33. Data Example Revenues % Change • 2005 749,500 • 2006 797,700 6.43% • 2007 856,000 7.31% • 2008 838,200 -2.08% • 2009 902,400 7.66% • 2010 937,300 3.87% • 2011 971,400 3.64%

34. Assessing Growth Rates Methods • Revenues went from $749,500 in 2005 to $971,400 in 2011 • Average of the growth rates = 26.82/6 = 4.47% • Average growth = (971.4/749.5)=1.296 1.296-1=.296; .296/6 = .0493 = 4.93% • CAGR = (971.4/749.5)^(1/6) = 1.04417; 1.04417 – 1 = .04417 = 4.42% • Regression – six data points is not going to yield a valid result; need at least 20, preferably closer to 40 or 50

35. Average of the Growth Rates Fault Revenues % Change • 2005 749,500 • 2006 797,700 6.43% • 2007 856,000 7.31% • 2008 795,000 -7.13% • 2009 902,400 13.51% • 2010 937,300 3.87% • 2011 971,400 3.64% • Total 27.63% • Annual Average goes from 4.47% to 4.60% • Greater variation causes greater inaccuracy

36. Revenues Property Taxes Elastic Revenues Fluctuate more with the economy Inelastic Revenues Barely affected by changes in economic conditions

37. Property Taxes Need to duplicate the DR420 Estimate changes in assessed value Save Our Homes Nonresidential 10% cap Local real estate market conditions Willingness to change tax rate Project maximum millage calculation also (Form DR420MM or DR420MM-P) need to update numbers

38. DR420, p. 1

39. DR420, p. 2

40. Form DR420MM, p. 1

41. Form DR420MM, p. 2

42. Revenue Projection Methods Historical averages Historical growth rates Average Compound Annual Growth Rate (CAGR) Regression analysis Flat

43. Elastic Revenues Sales tax Utility tax/franchise fees State Revenue Sharing

44. Best Possible Methods – Elastic CAGR Average growth rates Regression analysis Caveats Be sure to temper these methods Be sure to factor the business cycle into projections Factor in local conditions

45. Inelastic Revenues Gasoline tax Cigarette tax Ambulance fees

46. Best Methods - Inelastic Historical averages Flat Factor in local conditions

47. Long Range Forecasting “In the long run, we’re all dead.” John Maynard Keynes, 1883-1946

48. Long Range Forecasts Methods identified earlier work for short and long-term projections Fallacy of using a consistent percentage to project over several years

49. Transparency Assumptions accompany the numbers All projections are based upon certain assumptions – spell them out Allows reviewers to revise assumptions Allows for development of alternative scenarios Future Millage Rates Let elected officials see what’s coming Are these politically palatable?

50. The Fudge Factor