FINANCIAL STATEMENTS University of South Alabama Year ended September 30, 2002 with Report of Independent Auditors

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1 FINANCIAL STATEMENTS University of South Alabama Year ended September 30, 2002 with Report of Independent Auditors

2 Financial Statements Year ended September 30, 2002 Contents Management s Discussion and Analysis... 1 Report of Independent Auditors Audited Financial Statements Statement of Net Assets Statement of Revenues, Expenses and Changes in Net Assets Statement of Cash Flows Notes to Financial Statements... 19

3 Management s Discussion and Analysis Year ended September 30, 2002 Introduction The following discussion presents an overview of the financial position and financial activities of the University of South Alabama (the University) for the year ended September 30, This discussion was prepared by University management and should be read in conjunction with the financial statements and notes thereto, which follow. Financial Highlights The financial position of the University remains strong at September 30, 2002, with total assets of $380,726,000, total liabilities of $171,405,000 and net assets of $209,321,000. University net assets increased $30,081,000 in the year ended September 30, 2002 to $209,321,000 at September 30, This increase is explained in the section entitled Analysis of Financial Position and Results of Operations. An overview of each statement is presented below along with a financial analysis of the transactions impacting the statement. Since this is the initial fiscal year for the University s implementation of Governmental Accounting Standards Board Statement Nos. 34 and 35, this overview will, for the most part, not include comparisons with prior periods. In future years, comparisons will be provided. Condensed financial statements for the University at and for the year ended September 30, 2002 follow (in thousands): Condensed Statement of Net Assets Assets Current $ 137,246 Capital and other noncurrent assets 243, ,726 Liabilities Current 62,343 Noncurrent 109, ,405 Net Assets Invested in capital assets, net of debt 109,957 Restricted, nonexpendable 5,969 Restricted, expendable 22,931 Unrestricted 70,464 $ 209,321 1

4 Management s Discussion and Analysis (continued) Condensed Statement of Revenues, Expenses and Changes in Net Assets Operating revenues Tuition and fees $ 32,878 Hospital revenues 261,929 Other 81, ,390 Operating expenses Salaries and benefits 256,985 Supplies and other services 95,002 Hospital bad debts 60,265 Other 28, ,755 Operating loss (64,365) Nonoperating revenues (expenses) State appropriations 81,604 Other, net (1,769) Net nonoperating revenues 79,835 Income before other revenues, expenses, gains or losses 15,470 Other revenues 14,611 Increase in net assets 30,081 Beginning net assets, adjusted 179,240 Ending net assets $ 209,321 Condensed Statement of Cash Flows Cash and cash equivalents provided by (used in): Operating activities $ (51,101) Noncapital financing activities 83,642 Capital and related financing activities (26,915) Investing activities 29,525 Net change in cash and cash equivalents 35,151 Cash and cash equivalents, beginning of year 36,604 Cash and cash equivalents, end of year $ 71,755 2

5 Management s Discussion and Analysis (continued) Using the Financial Statements The University s financial statements were prepared in accordance with standards issued by the Governmental Accounting Standards Board (GASB). In June 1999, the GASB issued Statement No. 34, Basic Financial Statements and Management s Discussion and Analysis for State and Local Governments. This was followed in November 1999 by GASB Statement No. 35, Basic Financial Statements and Management s Discussion and Analysis for Public Colleges and Universities an amendment of GASB Statement No. 34; in June 2001 by GASB Statement No. 37, Basic Financial Statements and Management s Discussion and Analysis for State and Local Governments: Omnibus an Amendment of GASB Statements No. 21 and No. 34; and, also in June 2001 by GASB Statement No. 38, Certain Financial Statement Note Disclosures. These statements are effective for the year ended September 30, The financial statement presentation required by GASB Statements No. 34 and 35 provides a comprehensive, entity-wide perspective of the University s assets, liabilities, net assets, revenues, expenses, changes in net assets and cash flows. A significant change required by GASB Statements No. 34 and 35 is that depreciation is now presented as a part of expense and the acquisition of capital assets is not. Previously, the University s financial statements focused on the accountability of individual fund groups rather than on the University as a whole. The financial statements report information about the University as a whole and include the financial results of all University divisions including the University of South Alabama Hospitals. The assets, liabilities, net assets and results of operations for the University of South Alabama Foundation, the University of South Alabama Health Services Foundation, the South Alabama Medical Science Foundation, and the USA Research and Technology Corporation are not included in the financial statements of the University. Analysis of Financial Position and Results of Operations Statement of Net Assets The statement of net assets presents the assets, liabilities and net assets of the University as of the fiscal year ended September 30, The net assets are displayed in three parts, invested in capital assets net of related debt, restricted and unrestricted. Restricted net assets may either be expendable or nonexpendable and are those assets that are restricted by law or by an external donor. Unrestricted net assets, while they are generally designated for specific purposes, are available for use by the University to meet current expenses for any purposes. The statement of net assets, along with all of the 3

6 Management s Discussion and Analysis (continued) University s basic financial statements, is prepared under the accrual basis of accounting, whereby revenues are recognized when the service is provided and expenses are recognized when others provide the service to the University, regardless of when cash is exchanged. Assets included in the statement of net assets are classified as current or noncurrent. Current assets consist primarily of cash and cash equivalents, operating investments and hospital patient accounts receivable. Of these amounts, cash and cash equivalents, investments and accounts receivable comprise approximately 52%, 15% and 27%, respectively, of current assets. Approximately 89% of noncurrent assets are capital assets. University cash, cash equivalents and investments increased from $95,300,000 at September 30, 2001 to $102,550,000 at September 30, Accounts receivable, primarily hospital, increased from $31,777,000 to $37,244,000 for the same period. Current liabilities consist primarily of accounts payable and accrued liabilities and increased from $59,469,000 to $62,343,000 between September 30, 2001 and Also included in this category is the current portion of the University s long-term debt. Noncurrent liabilities consist primarily of bonded indebtedness, notes payable and capital lease obligations. Long-term debt decreased from $110,734,000 to $103,512,000 between September 30, 2001 and 2002 as a result of the repayment of principal. Net assets represent the residual interest in the University s assets after liabilities are deducted and are classified into one of four categories as shown on the following illustration: 4

7 Management s Discussion and Analysis (continued) Unrestricted - 34% Net Assets Invested in capital assets, net of related debt - 52% Restricted, expendable - 11% Restricted, non-expendable - 3% Net assets invested in capital assets, net of related debt, $109,957,000, represent the University s capital assets less accumulated depreciation and outstanding principal balances of debt attributable to the acquisition, construction or improvement of those assets. Restricted nonexpendable net assets, $5,969,000, consist primarily of the University s permanent endowment funds. The corpus of these funds may not be expended and must remain with the University in perpetuity. Only the earnings from these funds may be expended. Restricted expendable net assets, $22,931,000, are subject to externally imposed restrictions governing their use. The funds are restricted primarily for debt service, capital projects, student loans and scholarship purposes. Although unrestricted net assets are not subject to externally imposed stipulations, substantially all of the University s unrestricted net assets have been designated for various academic and research programs and initiatives as well as capital projects. 5

8 Management s Discussion and Analysis (continued) Unrestricted net assets consist of the following designations: Designations of Unrestricted Net Assets Undesignated - 22% Other - 8% Capital purposes - 70% Statement of Revenues, Expenses and Changes in Net Assets Changes in total University net assets as presented on the statement of net assets are based on the activity presented in the statement of revenues, expenses and changes in net assets. The purpose of the statement is to present the revenues received by the University, both operating and nonoperating, and the expenses paid by the University, operating and nonoperating, and any other revenues, expenses, gains and losses received or spent by the University. Generally, operating revenues are received for providing goods and services to the various customers and constituencies of the University. Operating expenses are those expenses paid to acquire or produce the goods and services provided in return for the operating revenues, and to carry out the mission of the University. Nonoperating revenues are revenues received for which goods and services are not provided. GASB Statement No. 34 requires that state appropriations be classified as nonoperating. Approximately 70% of the operating revenues of the University are hospital patient care revenues. The remainder consists primarily of tuition and fees, grants and contracts and auxiliary enterprise revenues. 6

9 Management s Discussion and Analysis (continued) The following illustration presents the major sources of University revenues (both operating and nonoperating) for the year ended September 30, 2002: Other - 6% Sources of Revenues Auxiliary enterprises- 3% Grants and contracts - 12% Hospital patient services revenues - 55% Tuition and fees - 7% State appropriations - 17% 7

10 Management s Discussion and Analysis (continued) University expenses are presented using natural expense classifications. Salaries and benefits represent 58% of the University s operating expenses. The following illustration presents the major University operating expenses, including the hospitals, using natural classification for the year ended September 30, 2002: Operating Expenses by Natural Classification Utilities - 2% Salaries and benefits - 58% Supplies and other services - 21% Depreciation - 4% Hospital bad debts - 14% Scholarships - 1% 8

11 Management s Discussion and Analysis (continued) Functional expense classification presents University expenses in the operational categories they benefit. The following illustration presents the major uses of University revenues (both operating and nonoperating) on a functional basis for the year ended September 30, 2002: Expenses by Function Auxiliaries - 3% Instruction - 17% Hospital - 58% Research - 3% Public service - 6% Academic support - 3% Student services - 3% Scholarships - 1% Institutional support - 3% Operation and maintenance of plant - 3% 9

12 Management s Discussion and Analysis (continued) Excluding the Hospitals, the expenses by function are as follows: Expenses by Function (excluding hospitals) Operation and maintenance of plant 7% Institutional support 7% Scholarships - 1% Instruction 40% Student services 9% Auxiliary enterprises 7% Academic support 7% Public service 14% Research 8% For the year ended September 30, 2002, the University reported an operating loss of approximately $64,365,000. After adding nonoperating revenue and expenses, primarily state appropriations, the total increase in net assets for the period is approximately $30,081,000. During the year, the University made internal transfers of approximately $2,600,000 in excess of actual depreciation expense to its plant funds for renewals and replacements (funded depreciation) and $7,040,000 to retire outstanding long-term debt principal. These amounts are internal transfers and do not impact the statement of revenues, expenses and changes in net assets. Statement of Cash Flows The statement of cash flows presents information related to cash flows of the University. The statement presents cash flows by category: operating activities, noncapital financing activities, capital and related financing activities and investing activities. The net cash provided to, or used by the University is presented by category. Increases in cash and cash equivalents from noncapital financing activities were due primarily to the receipt of state appropriations and increases in cash and cash equivalents from investing activities resulted from a net sale of investments. Those increases were offset by decreases in cash and cash equivalents from capital and related financing activities and cash used in operating activities. Cash and cash equivalents decreased from 10

13 Management s Discussion and Analysis (continued) capital and related debt activity due primarily to purchases of capital assets and payment of principal and interest on debt. The decrease in cash and cash equivalents from operating activities is consistent with the University s operating loss combined with a decrease in deferred revenue. Capital Assets and Debt Administration Significant capital asset additions during the year ended September 30, 2002 included a Linear Accelerator and PET/CT Scanner for $2,871,000 and $2,126,000, respectively, acquired for use in conjunction with the USA Cancer Research Institute. Also added during the year was real estate contiguous with USA Knollwood Hospital valued at $3,933,000, gifted from the USA Foundation. Several construction and renovation projects at the University and Hospitals were ongoing the most significant of which was the construction of the USA Knollwood Hospital Pavilion and a major addition to the University Library. No new debt was incurred during the year. Debt in the amount of approximately $7,040,000 was retired during the period. Economic Outlook While enrollment and tuition have both increased in recent years, state appropriations have been relatively flat. Additionally, state appropriations were prorated in fiscal year 2001, which was the first year since the 1992 fiscal year that state appropriations were prorated. While appropriations were not prorated in fiscal year 2002, the political environment of the State of Alabama is such that proration is a possibility during the year ending September 30,

14 Management s Discussion and Analysis (continued) State appropriations (actual and adjusted for inflation) for the last ten years are illustrated below: State Appropriations - Ten Year History $100,000,000 $80,000,000 $60,000,000 $40,000,000 $20,000,000 $ Actual Inflation ajusted University administration is not aware of any currently known facts, decisions or conditions that are expected to have a significant effect on the University s financial position or results of operation during fiscal year 2003 beyond those unknown variations having a global effect on virtually all types of business operations. While the University s overall financial position is strong, various factors influence the University s ultimate financial success. 12

15 Report of Independent Auditors The Board of Trustees University of South Alabama We have audited the accompanying statement of net assets of the University of South Alabama (the University) as of September 30, 2002 and the related statements of revenues, expenses and changes in net assets and cash flows for the year then ended. These financial statements are the responsibility of the University s management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the University of South Alabama at September 30, 2002, and the results of its operations and its cash flows for the year then ended in conformity with accounting principles generally accepted in the United States. As disclosed in Note 1 to the financial statements, during the current fiscal year the University adopted the provisions of Governmental Accounting Standards Board (GASB) Statement No. 34, Basic Financial Statements and Management s Discussion and Analysis for State and Local Governments, GASB Statement No. 35, Basic Financial Statements and Management s Discussion and Analysis for Public Colleges and Universities an amendment of GASB Statement No. 34, GASB Statement No. 37, Basic Financial Statements and Management s Discussion and Analysis for State and Local Governments: Omnibus an amendment of GASB Statements No. 21 and No. 34, and GASB Statement No. 38, Certain Financial Statement Note Disclosures. 13

16 The Management s Discussion and Analysis on pages 1-12 is not a required part of the basic financial statements but is supplementary information required by the Governmental Accounting Standards Board. We have applied certain limited procedures, which consisted primarily of inquiries of management regarding the methods of measurement and presentation of the supplemental information. However, we did not audit the information and express no opinion on it. November 8,

17 Statement of Net Assets September 30, 2002 (In thousands) Assets Current assets: Cash and cash equivalents $ 71,015 Investments at fair value 20,018 Accounts receivable (less allowances for contractual adjustments of $9,958 and doubtful accounts of $38,573) 37,244 Notes receivable, net 656 Prepaid expenses, inventories and other 8,313 Total current assets 137,246 Noncurrent assets: Restricted cash and cash equivalents 740 Investments at fair value 10,777 Notes receivable, net 4,751 Deposits with trustees 9,938 Other noncurrent assets 885 Capital assets (net of accumulated depreciation of $221,546) 216,389 Total noncurrent assets 243,480 Total assets 380,726 Liabilities Current liabilities: Accounts payable and accrued liabilities 39,534 Deferred revenue 13,046 Deposits 1,299 Current portion of long-term debt 8,464 Total current liabilities 62,343 Noncurrent liabilities: Long-term debt 103,512 Other long-term liabilities 5,550 Total noncurrent liabilities 109,062 Total liabilities 171,405 Net assets Invested in capital assets, net of related debt 109,957 Restricted, nonexpendable: Scholarships 652 Other 5,317 Restricted, expendable 22,931 Unrestricted 70,464 Total net assets $$ 209,321 See accompanying notes. 16

18 Statement of Revenues, Expenses and Changes in Net Assets Year ended September 30, 2002 (In thousands) Revenues Operating revenues: Tuition and fees (net of scholarship allowances of $10,510) See note 7 $ 32,878 Net hospital patient services and other See note 7 261,929 Federal grants and contracts 31,530 State grants and contracts 2,656 Private grants and contracts 25,183 Auxiliary enterprises (net of scholarship allowances of $202) See note 7 14,189 Other operating revenues 8,025 Total operating revenues 376,390 Expenses Operating expenses: Salaries and benefits 256,985 Supplies and other services 95,002 Scholarships and fellowships 3,583 Utilities 8,756 Depreciation 16,164 Provision for hospital bad debts 60,265 Total operating expenses 440,755 Operating loss (64,365) Nonoperating revenues (expenses): State appropriations 81,604 Investment income and gains (losses) on investments 1,650 Interest on indebtedness (5,433) Other nonoperating revenues 2,120 Other nonoperating expenses (106) Net nonoperating revenues 79,835 Income before other revenues, expenses, gains or losses 15,470 Capital appropriations 3,497 Capital gifts and grants 10,796 Additions to permanent endowment 318 Increase in net assets 30,081 Net assets Beginning of year 388,399 Cumulative effect of change in accounting principle adoption of depreciation for capital assets See note 1 (209,159) End of year $ 209,321 See accompanying notes. 17

19 Statement of Cash Flows Year ended September 30, 2002 (In thousands) Cash flows from operating activities Tuition and fees $ 33,048 Hospital patient service revenues 196,012 Grants and contracts 60,072 Auxiliary enterprises 13,252 Payments to suppliers and vendors (101,348) Payments to employees (256,941) Payments for scholarships and fellowships (3,583) New loans issued to students (787) Student loan repayments 1,016 Other operating revenues 8,158 Net cash used in operating activities (51,101) Cash flows from noncapital financing activities State appropriations 81,610 Endowment gifts 318 Agency funds received 699 Agency funds disbursed (644) Stafford and PLUS loans received 41,170 Stafford and PLUS loans disbursed (41,202) Other nonoperating revenues 1,797 Other nonoperating expenses (106) Net cash provided by noncapital financing activities 83,642 Cash flows from capital and related financing activities Capital appropriations 3,497 Capital gifts and grants 6,769 Purchases of capital assets (26,152) Proceeds from sale or lease of capital assets 323 Principal paid on capital debt (7,040) Interest paid on capital debt (4,312) Net cash used in capital and related financing activities (26,915) 18

20 Statement of Cash Flows (continued) Year ended September 30, 2002 (In thousands) Cash flows from investing activities Interest on investments $ 1,625 Purchase of investments (154,558) Sale of investments 182,458 Net cash provided by investing activities 29,525 Net change in cash and cash equivalents 35,151 Cash and cash equivalents: Beginning of period 36,604 End of period $ 71,755 Reconciliation of net operating revenues (expenses) to net cash used in operating activities Operating loss $ (64,365) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation expense 16,164 Changes in assets and liabilities, net: Student receivables (384) Hospital receivables (5,591) Grants and contracts receivables 501 Student loan program receivables 229 Other receivables (279) Prepaid expenses, inventories and other (365) Accounts payable and accrued liabilities 2,343 Accrued salaries and wages 727 Deferred revenue (81) Net cash used in operating activities $ (51,101) Noncash investing, noncapital financing, and capital and related financing transactions Decrease in fair value of investments recognized as a component of interest income $ 411 Additional maturity on bonds payable recorded as interest expense $ 1,145 Gift of capital assets reducing proceeds from capital gifts and grants $ (4,027) See accompanying notes. 19

21 1. Significant Accounting Policies Reporting Entity and Basis of Presentation University of South Alabama Notes to Financial Statements September 30, 2002 The accompanying financial statements present the financial position and activity of the University of South Alabama (the University). The financial statements of the University do not include the assets, liabilities and results of operations of the University of South Alabama Foundation, the University of South Alabama Health Services Foundation, the South Alabama Medical Science Foundation or the University of South Alabama Research and Technology Corporation. The University is not financially accountable for these organizations; therefore, they do not constitute component units under the provisions of Governmental Accounting Standards Board (GASB) Statement No. 14, The Financial Reporting Entity. The primary purpose of these organizations is to operate for the benefit of the University. The University is a component unit of the State of Alabama and is included in the general purpose financial statements of the State of Alabama. The financial statements include the Statement of Net Assets, the Statement of Revenues, Expenses and Changes in Net Assets and the Statement of Cash Flows. A more complete description of the financial statements can be found in Management s Discussion and Analysis. Financial Statement Presentation In June 1999, the GASB issued Statement No. 34, Basic Financial Statements and Management s Discussion and Analysis for State and Local Governments. This was followed in November 1999 by GASB Statement No. 35, Basic Financial Statements and Management s Discussion and Analysis for Public Colleges and Universities an amendment of GASB Statement No. 34; in June 2001 by GASB Statement No. 37, Basic Financial Statements and Management s Discussion and Analysis for State and Local Governments: Omnibus an Amendment of GASB Statements No. 21 and No. 34; and, also in June 2001 by GASB Statement No. 38, Certain Financial Statement Note Disclosures. These statements are effective for the year ended September 30, The financial statement presentation required by GASB Statement Nos. 34, 35, 37 and 38 provides a comprehensive, entity-wide perspective of the University s assets, liabilities, net assets, revenues, expenses, changes in net assets and cash flows and replaces the fund group perspective previously required. 20

22 1. Significant Accounting Policies (continued) Financial Statement Presentation (continued) The University has elected not to restate its 2001 financial statements to conform with the new financial statement presentation, therefore comparative financial statements are not presented. Significant accounting changes made in order to comply with the new requirements include the adoption of depreciation of capital assets, reporting tuition and fee revenue net of certain scholarship allowances and reporting revenue from auxiliary enterprises net of cost of goods sold and scholarships and allowances. Measurement Focus and Basis of Accounting For financial reporting purposes, the University is considered a special purpose governmental agency engaged only in business type activities, as defined by GASB Statement No. 34. Accordingly, the University s financial statements have been presented using the economic resources measurement focus and the accrual basis of accounting. Under the accrual basis, revenues are recognized when earned, and expenses are recorded when an obligation has been incurred. All significant transactions related to internal service activities such as publications, telecommunications and institutional computing have been eliminated where appropriate. The University has the option to apply all Financial Accounting Standards Board (FASB) pronouncements issued after November 30, 1989, unless FASB pronouncements conflicts with GASB pronouncements. The University has elected to not apply FASB pronouncements issued after the applicable date. Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenditures during the reporting period. Actual results could differ from those estimates. 21

23 1. Significant Accounting Policies (continued) Cash and Cash Equivalents Cash and cash equivalents are defined as petty cash, demand accounts and any short-term investments that take on the character of cash. These investments generally have maturities of less than three months and include repurchase agreements and money market accounts. Investment in Pooled Funds Investments are maintained and administered in a common pool and are stated at market value. Investments received by gift are recorded at fair market value at the date of receipt. Accounts Receivable Accounts receivable are primarily from patient care services. Accounts receivable also include amounts due from the federal government, state and local governments, or private sources in connection with reimbursement of allowable expenditures made pursuant to the University s grants and contracts. Accounts receivable are recorded net of estimated uncollectible amounts. Inventories The University s inventories primarily consist of bookstore and hospital inventories. Bookstore inventories are valued at cost, on a moving average basis. Hospital inventories are stated at the lower of average cost or market, on a first-in, first-out basis. Funds on Deposit with Trustees Funds on deposit with trustees are held and invested by the trustees pursuant to University bond trust indentures. The use of principal and earnings thereon is restricted by the terms of the indentures or agreements. 22

24 1. Significant Accounting Policies (continued) Capital Assets All capital expenditures of $5,000 or more and having a useful life of two or more years are capitalized at cost at the date of acquisition. Depreciation is recorded using the straight-line method over the estimated useful lives of the assets, generally 40 to 50 years for buildings and infrastructure, 10 to 20 years for fixed equipment, 8 to 20 years for land improvements, 10 years for library materials and 4 to 15 years for other equipment. Renovations to buildings and other assets that significantly increase the value or extend the useful life of the asset and are over $100,000 are capitalized. Routine repairs and maintenance are charged to operating expense in the year in which the expense was incurred. Deferred Revenues Student tuition, fees and dormitory rentals are deferred and recognized over the applicable portion of each school term. Classification of Net Assets The University s net assets are classified as follows: Invested in capital assets, net of related debt represents the University s total investment in capital assets, net of outstanding debt obligations related to those capital assets. To the extent debt has been incurred but not yet expended for capital assets, such amounts are not included as a component of invested in capital assets, net of related debt. Restricted, nonexpendable net assets consist of endowment and similar type funds which donors or other outside sources have stipulated, as a condition of the gift instrument, that the principal is to be maintained inviolate and in perpetuity, and invested for the purpose of producing present and future income, which may either be expended or added to principal. Restricted, expendable net assets include resources that the University is legally or contractually obligated to spend in accordance with restrictions imposed by external third parties. 23

25 1. Significant Accounting Policies (continued) Classification of Net Assets (continued) Unrestricted net assets represent resources derived from student tuition and fees, state appropriations, hospital revenues, sales and services of educational activities and auxiliary enterprises. Auxiliary enterprises are substantially self-supporting activities that provide services for students, faculty and staff. While unrestricted net assets may be designated for specific purposes by action of management or the Board of Trustees, they are available for use, at the discretion of the governing board, to meet current expenses for any purpose. Substantially all unrestricted net assets are designated for academic and research programs and initiatives, and capital programs. When an expense is incurred that can be paid using either restricted or unrestricted resources, the University addresses each situation on a case-by-case basis prior to determining the resources to be used to satisfy the obligation. Scholarship Allowances and Student Financial Aid Student tuition and fees, and certain other revenues from students, are reported net of scholarship discounts and allowances in the statement of revenues, expenses and changes in net assets. Scholarship discounts and allowances are the difference between the stated charge for goods and services provided by the University and the amount that is paid by students and/or third parties making payments on the students behalf. Certain governmental grants, such as Pell grants and other federal, state or nongovernmental programs, are recorded as either operating or nonoperating revenues in the University s financial statements. To the extent that revenues from such programs are used to satisfy tuition and fees and certain other student charges, the University has recorded a scholarship discount and allowance. Donor Restricted Endowments The University is subject to the Uniform Management of Institutional Funds Act of the Code of Alabama. This law allows the University, unless otherwise restricted by the donor, to spend net appreciation, realized and unrealized, on the endowment. The University s endowment spending policy provides that five percent of the three-year 24

26 1. Significant Accounting Policies (continued) Donor Restricted Endowments (continued) invested net asset moving average value (inclusive of net realized and unrealized gains and losses), as measured at September 30, is available annually for spending. The University s policy is to retain the endowment net interest and dividend income and net realized and unrealized appreciation with the endowment after distributions allowed by the spending policy have been made. Classification of Revenues The University has classified its revenues as either operating or nonoperating revenues. Operating revenues include activities that have the characteristics of exchange transactions such as student tuition and fees, net of scholarship discounts and allowances; sales and services of auxiliary enterprises, net of scholarship allowances; most federal, state and local grants and contracts; and, hospital patient service revenues, net of allowances for contractual adjustments and doubtful accounts. Nonoperating revenues include activities that have the characteristics of nonexchange transactions, such as gifts and contributions, and other revenue sources that are defined as nonoperating revenues by GASB Statement No. 9, Reporting Cash Flows of Proprietary and Nonexpendable Trust Funds and Governmental Entities That Use Proprietary Fund Accounting, and GASB Statement No. 34, such as state appropriations, investment income and gifts. Gifts to the endowment fund are classified as other nonoperating revenues. Gifts and Pledges Pledges of financial support from organizations and individuals representing an unconditional promise to give are recognized in the financial statements once all eligibility requirements, including time requirements, have been met. In the absence of such promise, revenue is recognized when the gift is received. Endowment pledges generally do not meet eligibility requirements, as defined by GASB Statement No. 33, Accounting and Financial Reporting for Nonexchange Transactions, and are not recorded as assets until the related gift has been received. 25

27 1. Significant Accounting Policies (continued) Gifts and Pledges (continued) Unconditional promises that are expected to be collected in future years are recorded at the present value of the estimated future cash flows. Grants and Contracts The University has been awarded grants and contracts for which the funds have not been received or expenditures made for the purpose specified in the award. These awards have not been reflected in the financial statements, but represent commitments of sponsors to provide funds for specific research or training projects. For grants that have allowable cost provisions, the revenue will be recognized as the related expenditures are made. For grants with work completion requirements, the revenue is recognized as the work is completed and for grants without either of the above requirements, the revenue is recognized as it is received. Net Patient Service Revenue Net patient service revenue is reported at the estimated net realizable amounts from thirdparty payers and others for healthcare services rendered, including estimated retroactive adjustments under reimbursement agreements with third-party payers. Retroactive adjustments are accrued on an estimated basis in the period the related services are rendered and adjusted in future periods, as final settlements are determined. Third-Party Reimbursement The University of South Alabama Hospitals (the Hospitals) participate in various programs, both governmental and commercial (Medicare, Medicaid and Blue Cross), which provide reimbursement at rates lower than established billing rates. The difference between these contracted rates and established billing rates are accounted for as a reduction of patient service revenue. The amount of reimbursement has been estimated for services rendered to Medicare patients during the year by applying cost reimbursement principles established by the United States Department of Health and 26

28 1. Significant Accounting Policies (continued) Third-Party Reimbursement (continued) Human Services. Medicaid reimbursement is based on a per diem and fee schedule set by the Alabama Medicaid Agency. Blue Cross of Alabama reimbursement has been estimated by utilizing the reimbursement principles established by Blue Cross. Medicare and Blue Cross reimbursements are subject to audit and retroactive adjustment. Although there is a possibility that recorded amounts may change materially, management believes that adequate recognition has been made in the financial statements for net amounts received or receivable under these programs. 2. Income Taxes The University is classified as both a governmental entity under the laws of the State of Alabama and as a tax-exempt entity under Section 501(a) of the Internal Revenue Code as an organization described in Section 501(c)(3). Accordingly, no provision for income taxes has been made in the accompanying financial statements. 3. Cash Pursuant to the Security for Alabama Funds Enhancement Act, funds on deposit may be placed in an institution designated as a qualified public depository (QPD) by the State of Alabama. QPD institutions pledge securities to a statewide collateral pool administered by the State Treasurer s office. Such financial institutions contribute to this collateral pool in amounts proportionate to the total amount of public fund deposits at their respective institutions. The securities are held at the Federal Reserve Bank and are designated for the State of Alabama. Additional collateral was not required for University funds on deposit with QPD institutions. At September 30, 2002, the net public deposits subject to collateral requirements for all institutions participating in the pool totaled approximately $4,722,663,000. Given the nature of the State of Alabama requirement, deposits held in QPD institutions are not subject to categorization by risk. 27

29 4. Investments Investments at market consisted of the following at September 30, 2002 (in thousands): U. S. agency notes $ 21,272 Pooled bond funds 4,783 Pooled equity funds 3,481 Other 1,259 Total $ 30,795 At September 30, 2002, $424,000 in net realized and unrealized losses on investments of donor-restricted endowments has been recognized. The amounts are included in restricted expendable net assets on the accompanying statement of net assets. There are three categories or levels of credit risk associated with investments, for which the related descriptions are: (1) insured or registered, or securities held by the University or its agent in the University s name; (2) uninsured and unregistered, with securities held by a party other than the University or its agent, but in the University s name; and (3) uninsured and unregistered, with securities held by a counterparty, or by its trust department or agent, but not in the University s name. Investments in the first category include repurchase agreements, U. S. Treasury and agency obligations, and pooled bond and equity funds. All investments owned by the University at September 30, 2002, and shown in the preceding schedule, are in the first category. 28

30 5. Capital Assets Changes in capital assets for the year ended September 30, 2002 are as follows (in thousands): Beginning Balance Additions Transfers Reductions Ending Balance Capital assets not being depreciated: Land $ 21,751 $ 1,600 $ 7 $ $ 23,358 Construction-in-progress 6,203 8,384 (8,398) 6,189 27,954 9,984 (8,391) 29,547 Other capital assets: Land improvements 9, ,147 (7) 11,014 Buildings, fixed equipment and infrastructure 265,746 3,072 8,324 (385) 276,757 Other equipment 80,573 15,398 (1,080) (3,463) 91,428 Library materials 26,961 2,228 29, ,670 21,182 8,391 (3,855) 408,388 Less accumulated depreciation for: Land improvements (6,352) (489) 7 (6,834) Buildings, fixed equipment and infrastructure (130,767) (6,920) (114) 528 (137,273) Other equipment (52,292) (7,341) 114 3,242 (56,277) Library materials (19,748) (1,414) (21,162) (209,159) (16,164) 3,777 (221,546) Other capital assets, net 173,511 5,018 8,391 (78) 186,842 Capital assets, net $ 201,465 $ 15,002 $ $ (78) $ 216,389 29

31 6. Non-current Liabilities Changes in non-current liabilities for the year ended September 30, 2002 are as follows (in thousands): Less Beginning Ending Amounts Due Within Noncurrent Balance Additions Reductions Balance One Year Liabilities Long-term debt Notes payable $ 10,373 $ $ (1,381) $ 8,992 $ 1,443 $ 7,549 Bonds payable 101,976 1,145 (3,862) 99,259 5,125 94,134 Capital lease obligations 5,522 (1,797) 3,725 1,896 1,829 Total long-term debt 117,871 1,145 (7,040) 111,976 8, ,512 Other long-term liabilities Compensated absences 7,582 11,073 (8,172) 10,483 4,933 5,550 Total non-current liabilities $ 125,453 $ 12,218 $ (15,212) $ 122,459 $ 13,397 $ 109,062 Notes and bonds payable and capital lease obligations are further disclosed below in Notes 7 and 8, respectively. 30

32 7. Notes and Bonds Payable Notes Payable Notes payable consisted of the following at September 30, 2002 (in thousands): Alabama Higher Education Equipment Loan Authority, Series , 3.85%, payable through October 2008 $ 5,396 Alabama Higher Education Equipment Loan Authority, Series , 4.37%, payable through October ,599 IBM Credit Corporation, 6.00%, payable through June $ 8,992 Alabama Higher Education Equipment Loan Authority Notes, Series and are secured by a subordinate pledge of tuition revenues. Certain computer equipment is pledged as security for the IBM Credit Corporation note. Bonds Payable The University defeased certain indebtedness during 1978 and 1984 by depositing funds in escrow trust accounts sufficient to provide for the subsequent payment of principal and interest on the defeased indebtedness. Neither the assets of the escrow trust accounts nor the defeased indebtedness is included in the accompanying statement of net assets. The principal outstanding on all defeased issues was $10,765,000 at September 30,

33 7. Notes and Bonds Payable (continued) Bonds Payable (continued) Bonds payable consisted of the following at September 30, 2002 (in thousands): Hospital and Auxiliary Revenue Refunding Bonds, Series 1993, 2.8% to 4.55%, payable through May 2010 $ 24,350 University Tuition Revenue Refunding Bonds, Series 1996, 3.8% to 4.9%, payable through November ,115 University Tuition Revenue Refunding Bonds, Series 1996B, 3.8% to 4.6%, payable through November University Tuition Revenue Bonds, Series 1999 Current Interest, 3.7% to 4.35%, payable through November ,320 University Tuition Revenue Bonds, Series 1999 Capital Appreciation, 4.7% to 5.25%, payable November 2011 through November , ,204 Less unamortized bond discount (945) $ 99,259 Substantially all student tuition and fee revenues secure University Tuition Revenue Refunding Bonds. Series 1996 Bonds began maturing November 15, 2000, and are redeemable beginning May 2006, at varying premiums. Series 1999 Current Interest Bonds mature beginning November 15, 2002, and Capital Appreciation Bonds mature beginning November 15, 2011; Series 1999 Bonds are not 32

34 7. Notes and Bonds Payable (continued) Bonds Payable (continued) redeemable prior to maturity. During the year ended September 30, 2002, the maturity value of the Capital Appreciation Bonds increased by $1,145,000 over the original principal amount of $19,810,000, reflecting accretion of interest. Hospital and Auxiliary Revenue Refunding Bonds Series 1993 are redeemable beginning May 2004 at varying premiums, and are secured by a lien on and a pledge of certain Hospital revenues and University auxiliary revenues. Debt Service on Long-Term Obligations Total debt service by fiscal year is as follows (in thousands): Principal Debt Service on Bonds Interest Debt Service on Notes Additional Maturity Principal Interest Total 2003 $ 5,125 $ 4,687 $ (1,203) $ 1,443 $ 361 $ 10, ,450 4,515 (1,265) 1, , ,965 4,327 (1,329) 1, , ,655 4,112 (1,397) 1, , ,265 3,870 (1,469) 1, , ,045 14,871 (8,371) 2, , ,285 7,334 (6,166) 38, , (476) 15,090 Subtotal $ 121,880 $ 44,192 $ (21,676) $ 8,992 $ 1,257 $ 154,645 Less: Additional maturity (21,676) Unamortized bond discount (945) Total $ 99,259 33

35 7. Notes and Bonds Payable (continued) Debt Service on Long-Term Obligations (continued) Fair value of notes payable and bonds payable is higher than the carrying value at September 30, 2002 due to decreases in interest rates below the more favorable interest rates on the University s debt. The principal amount of debt service on bonds includes $21,676,000 additional maturity value on Series 1999 Capital Appreciation Bonds (noninterest bearing) maturing 2011 through Although this additional maturity is presented as principal on the debt service schedule above, it is also recognized as interest expense on an annual basis in the University s financial statements as it accretes. 8. Capital Lease Obligations On July 21, 1997, the University signed a seven-year Lease Purchase Agreement as a method of financing the purchase of designated radiology equipment and a clinical information system for the Hospitals. Assets totaling $11,915,500 have been obtained through the Lease Purchase Agreement as of September 30, The University may terminate the lease through the exercise of purchase options on a semi-annual basis. Future minimum capital lease payments at September 30, 2002 are as follows (in thousands): Year ending September 30: 2003 $ 2, ,879 Total 3,929 Less amount representing interest (204) Net minimum lease payments $ 3, Employee Benefits Retirement and Pension Plans Employees of the University are covered by two pension plans: a cost sharing multipleemployer defined benefit pension plan administered by the Teachers Retirement System of the State of Alabama (TRS), and a defined contribution pension plan. 34

36 9. Employee Benefits (continued) Retirement and Pension Plans (continued) Permanent employees of the University participate in TRS, a public retirement system created by an act of the State Legislature, with benefit provisions established by the Code of Alabama. Responsibility for general administration and operation of the TRS is vested in the Board of Control (currently 14 members). Benefits fully vest after 10 years of fulltime, permanent employment. Vested employees may retire with full benefits at age 60 or after 25 years of service. Participating retirees may elect the maximum benefit, or may choose among four other monthly benefit options. Under the maximum benefit, participants are allowed % of their average final salary (average of three highest years of annual compensation during the last ten years of service) for each year of service. The TRS issues a publicly available financial report that includes financial statements and required supplementary information. That report may be obtained by writing to Retirement Systems of Alabama, P. O. Box , Montgomery, Alabama , or by calling (334) All employees covered by this retirement plan must contribute 5% of their eligible earnings to TRS. An actuary employed by the TRS Board of Control establishes the employer-matching amount annually. The pension benefit obligation is a standardized disclosure measure of the present value of pension benefits, adjusted for the effects of projected salary increases and step-rate benefits, estimated to be payable in the future as a result of employee service to date. During 2002, the University made total contributions of $11,385,000 to TRS on behalf of participants, which represents 5.96% of each participant s gross earnings. Total contributions were $11,893,000 and $11,467,000 in 2001 and 2000, respectively. The University s payroll for all employees was approximately $212,559,000 in Total payroll for University employees participating in the Teachers Retirement System of Alabama was approximately $191,030,000 in The defined contribution pension plan covers certain academic and administrative employees, and participation by eligible employees is optional. Under this plan, administered by Teachers Insurance and Annuity Association College Retirement Equities Fund (TIAA-CREF), contributions by eligible employees are matched equally 35