Charter Schools

1. Charter Schools 2012 School Districts Conference

2. Presenters Wade McMullen, CPA Partner Vicenti, Lloyd & Stutzman LLP (626) 857-7300 x242 wmcmullen@vlsllp.com Kristin Dietz – Southern California Founder Charterworks (818) 358-3463 kdietz@cacharterworks.com Karl Yoder – Northern California Chief Financial Officer Delta Managed Solutions, LLC (916) 649-6461 karl@charteradmin.com

3. Agenda • Basic Information • GAAP for Reporting Purposes • The Charter School Environment • Conflict of Interest Opportunities • Going Concern from the Charter Perspective • Impact charter schools have on their chartering district/counties • Compliance Auditing Issues • Selling receivables, third party service organizations, facility issues

4. Definitions and Fact per CDE Public schools that may provide instruction in any of grades K-12 that are created or organized by a group of teachers, parents, community leaders or a community-based organization. Currently, about 982 active charter schools and eight all-charter districts are operating in California. Of the individual active charter schools: Approximately 85 percent are start-up schools, and the remainder are conversions of pre-existing public schools. Approximately 77 percent are classroom- or site-based, and the remainder are either partially or exclusively nonclassroom-based (independent study). Approximately 71 percent are directly funded (i.e., have a separate account in the county treasury), and the remainder are locally funded (i.e., are included in the budget of the chartering authority).

5. Revenue • State Funding • ADA funding: General Purpose & Categorical Block • State Categorical Programs • Federal Funding • Title I, II, and III • Title V – Public Charter School Grant Program • Special Education • Local Revenue • Property Tax Revenue (In Lieu) • Grants • Fundraising

6. Expenses • Majority of Expenses for Salaries and Benefits • Many participate in STRS and PERS • Additional retirement plans • Materials • Educational Consultants • Financial Consultants • Facility costs • Special Education Encroachment • Borrowing Costs

7. GAAP for Reporting Purposes Charter schools that operate as or are operated by a nonprofit public benefit corporation pursuant to Section 501(c) (3) of the Internal Revenue Code typically use the not-for-profit accounting model (FASB) and the accrual basis of accounting. The vast majority of charter schools use the FASB reporting model. Charter schools that are deemed governmental use the same basis of accounting as K-12 Schools (GASB). Corporate versus charter school reporting issues has been evolving over the last few years. If the corporation (all charters included) have over $500,000 in federal expenditures a federal A-133 Single Audit is required.

8. GAAP for Reporting Purposes Recently, the Financial Accounting Standards Board (FASB) Not-for-Profit Advisory Committee met to discuss goals for improving the financial reporting model for not-for-profit organizations. The committee is exploring changes that would enable exempt organizations to better report and explain their finances to donors and other interested parties by: Using net asset classifications and determining how liquidity is portrayed within the financial statements Providing a framework for management and the board to provide commentary and analysis on organization operating results and related fiscal health, not unlike a management’s discussion and analysis section

9. GAAP for Reporting Purposes Even though most charter schools are using FASB, they are still reporting “Unaudited Actuals” (UA) to their authorizer using GASB, and include a reconciliation page in the audit showing not only any audit adjustments, but also the differential when going from GASB to FASB (fixed assets, depreciation, and loan proceeds/principal repayment). The CDE will want to tie in the balance in the UA with the audited balance.

10. Charter School Environment Charter schools challenge the traditional power and funding arrangements in public education. Charter schools can often be “grass roots” movements born out of dissatisfaction with the local school district. In some cases, the result is often tension between the sponsoring school district and the charter school. The "Mega-Waiver" provisions of the charter school act exempts charter schools from most laws governing school districts but the meaning of that phrase is often in dispute. MOUs (Memorandums of Understanding) are often used to address issues between charters and the counties and sponsors. However, the broad oversight authority given to county offices of education and sponsors have seen charters subject to increased informational demands.

11. Charter School Environment • Over the years charter schools have been hit with scandals, most involving misappropriations of funds. Obviously, public schools have their scandals, too. • Charter School Scandals is an on-line blog that is extremely well organized. It easy to find the Charter School Scandals by state, year, management company, and type of scandal. While every scandal posted may not be true, it can be a valuable starting point for auditors of charter schools. • Some of the main reasons these have occurred are: • The rapid expansion and immaturity of the charter school industry and the nature of small operations • Lack of fiscal and operational experience. • Lack of fiduciary responsibility at the management and/or board level • Conflicts of interest

12. Conflicts of Interest According to FCMAT, there appears to be no consensus of opinion among school lawyers or educational agencies on the question whether section 1090 (Conflict of Interest) of the Government Code applies to officers and employees of charter schools. They also point out that the “Mega-Waiver” exempts charter schools from the application of some laws, but does not include a similar waiver for charter school officers and employees. Nearly all parties agree that charter board members and employees must disclose conflicts and related party transactions. However, Government Code 1090 prohibits ANY related party transactions, whether disclosed or not.”

13. Conflicts of Interest Since many charter schools are founded by a small group of parents, teachers and community members with prior relationships and connections, potential conflicts are common for new charter schools as they designate the initial officers and staff. This issue seems to be the greatest single source for ongoing disputes between charter schools and chartering agencies in application of law.

14. Other Conflicts of Interest Many charter schools have developed Charter Support Organizations and single member title holding LLCs, at significant additional cost, to hold facilities that are leased by the charter under the Charter School Facilities Program (“SB740”) The leases must be “arms length” and the method of determining fair value rent established, increasing State scrutiny. Some charter schools have had SB740 funding held up because State does not understand the relationship between the title holding LLC and charter school.

15. Going Concern During the budget crisis charter schools need to plan to address going concern issues with their auditors and oversight agencies. A specific management plan will be necessary to avoid a qualified report or to explain the auditor’s report if it is qualified due to a going concern. The charter school’s finance team (or person) should be preparing monthly cash flow forecasts to support management’s plan and auditors should be reviewing. Make sure there is strong communication between the auditors, the finance staff, the finance committee and the board of directors.

16. Going Concern Is a deficit fund balance or net asset balance automatically a going concern issue? - It depends… CDE Loans often are used for operating expenses and can often create a deficit. This is most often seen in new charter schools. Depreciation expense can result in a overall deficit. It may be helpful to segregate fund balances/net assets to gain greater visibility on operating results.

17. Charter Impact on Districts and Counties The charter authorizing entity is responsible for ensuring the charter school operates in compliance with all applicable laws and the terms of its charter. The sponsor is to ensure each charter school under its authority complies with all reports required of charter schools by law as well as monitor the fiscal condition of each charter school under its authority. A charter school may opt to contract with its charter authorizing entity or other sources to provide additional services such as administrative, insurance, maintenance, payroll, etc., on a fee-for-service basis. An MOU is often established to help with the logistics.

18. Charter Impact on Districts and Counties Charters do have a financial impact on local districts. Most of the research that has been done on this subject accepts the need for some resources directly related to the authorizing functions. Some research suggests that there is a financial impact on school districts related to the loss of student funding because of the loss of students. Districts say that overhead costs do not change with the loss of dispersed students. Small school districts with stagnant or declining enrollments feel the greatest financial impact.

19. Charter Impact on Districts and Counties Facilities is one of the most contentious issues. Proposition 39, introduced in the November 2000 ballot, amended California Education Code(EC) Section 47614, with the intent that public school facilities should be shared fairly among all public school pupils, including those in charter schools. EC Section 47614 requires that school districts make available, to all charter schools operating in their school district with projections of at least 80 units of average daily attendance (ADA), facilities that will sufficiently accommodate all of the charter’s in-district students, and that facilities be “reasonably equivalent” to other classrooms, buildings, or facilities in the district. EC Section 47614(b)(1) states that school districts may charge a charter school a pro-rata share of the facilities costs which the school district pays for with unrestricted general fund revenues. The pro-rata share is based on the ratio of space allocated by the school district to the charter school divided by the total space of the district. Charter schools shall not be otherwise charged for use of the facilities.

20. Compliance Auditing Issues A charter school is generally exempt from most laws governing school districts, including the competitive bidding rules, except where specifically noted in the law. Several years ago those specific laws were written into the State Audit Guide. Charter School Average Daily Attendance – Vaccinations Instructional Minutes Class-size Reduction After School Education and Safety Programs Independent Study SB740 Funding Determination While most accept that charter schools are exempt from most provisions of the Education Code, it is generally acknowledged that a State law cannot exempt an agency from the application of federal law.

21. Compliance Auditing Issues Other areas of interest not specifically in the audit guide include laws and regulations related to: Charter School Facilities Closure Procedures Payroll Reporting – STRS and PERS Tax Reporting

22. Compliance Auditing Issues A-133 Single Audit Requirements Laundry List: Federal expenditures indentified in the accounting system at the transaction level. All Programs - Time reporting requirements established for multi-funded and single cost objective employees. Title I - NCLB Highly Qualified Teacher/Paraprofessional documentation requirements. Title I - The Consolidated Application supported by auditable records. Various Programs - Maintenance of Effort Calculations performed to check for compliance. Tracking of interest earned on federal funds not expended. National School Lunch Program - Cafeteria claims supported by auditable records. National School Lunch Program - Income verification for free and reduced lunch requirements.

23. Selling Receivables 63% of State Aid in the spring is deferred to July and August. Deferrals appear to be long-term and have forced many charter schools to factor their State Aid accounts receivable. Charters are also using factoring to expand their programs and deal time sensitive facility issues.

24. Facilities Proposition 39 Facilities SB 740 Funding Facilities Incentive Grant Program Private lending Prop 55 and Prop 1D

25. Third Party Service Organizations California law permits education service providers to operate charter schools. The law does not explicitly require a clear, substantive performance contract between the school and service provider. More commonly, many charter schools use service providers to address specific needs such as: • Charter Petitions • Strategic Planning • Budgeting and Cash Flows • Accounting and/or payroll • Grant writing • Special Education Services • Compliance reporting • Facilitating financing – lenders prefer charters working with reputable service providers • Board and staff training

26. Third Party Service Organizations Key benefits of using a Service Organization: Immediate expertise in charter school finance, nuances of the district/county (every authorizer has different requirements and oversight processes for its charters) Access to resources – knowledge of vendors, service providers Time, time, time – frees school management up to focus on instructional program Cost – typically far less expensive than hiring a full time controller and related accounting staff

27. Third Party Service Organizations Unfortunately, some charter schools mistakenly attempt to outsource their fiduciary duties to the outside service provider. Contract should clearly delineate the responsibilities of charter vs. service provider School cannot relinquish all ownership of accounting and compliance functions. Common processes that stay with the school: Approving transactions Attendance and food program– daily counts Human resources – hiring/coaching/terminations Overall financial decision-making

28. Third Party Service Organizations While charter schools can outsource a variety of administrative functions, they cannot outsource their fiduciary responsibility to monitor the activities of third parties in connection with the maintenance of accounting and finances.

29. Thank you