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DC SPORTS AND ENTERTAINMENT COMMISSION
2400 EAST CAPITOL STREET, SE, WASHINGTON, DC 20003
TEL: (202) 547-9077, FAX: (202) 547-7460, WWW.DCSEC.COM
June 24, 2003
Mr. Ben Lorigo
Executive Director
Office of Integrity and Oversight
Office of the Chief
Financial Officer
District of Columbia
941 North Capitol Street NE
Suite 840
Washington, D.C. 20002
Re: D.C. Sports and Entertainment Commission's Response
To the Report on Analysis of the Financial Operations Of the D.C. Sports
and Entertainment Commission Issued by the Office of the Chief Financial
Officer
Dear Mr. Lorigo:
This letter is written to provide review and comment on
the "Report on Analysis of the Financial Operations of the D.C.
Sports and Entertainment Commission" ("Report")
Before a discussion of the substance of the Report, we
wish to express the Commission's extreme disappointment that that OIO
issued its Report without giving the Commission opportunity for review
and comment in accordance with the process that we had agreed to.
Further, we were dismayed that this failure to adhere to an agreed upon process essentially repeated a similar action that
happened last year in connection with OIO's report on the Commission's
procurement practices and that we were assured would not happen again. Even more disturbing is that
despite the fact that Report reads "THIS REPORT IS AN INTERNAL DOCUMENT FOR
OFFICIAL PURPOSES ONLY AND MAY NOT BE RELEASED WITHOUT THE PRIOR WRITTEN
APPROVAL OF THE CHIEF FINANCIAL OFFICER" and that it had relatively
small distribution, we were informed the Washington Post had a copy less
than 24 hours after the Commission received a copy of the Report by fax and
before the Commission received its official copy in the mail.
Since OIO failed to provide the Commission with the
opportunity for review and comment prior to the issuance of the Report, this letter
is intended to address the failure of the review and comment process and
substantive issues in both the "Draft Report on Analysis of the
Financial Operations of the D.C. Sports and Entertainment
Commission" ("Draft Report") issued May 29, 2003 and the Report
itself.
1. History of Audit
After more than seven months of review, including a number of
instances over the past several months at which we were informed that
field work had been completed, OIO emailed a Draft Report to the Commission's Chief Financial
Officer, Scott Burrell, on May 29, 2003 and requested a written response
by June 4, 2003, less than a week's time. OIO became aware on May 29 that Mr. Burrell was out of the
country when the Draft report was emailed and would not be available until June
3, 2003. During this period, OIO did not feel compelled to deliver the Draft Report to
or follow up with anyone else at the Commission. While the Commission accepted the Draft
Report's general position taat in the absence of significant reductions in spending
and/or increases in revenue there will be a continuing decline in and possible exhaustion of
the Commission's Unrestricted Net Asset balance, the Draft Report contained numerous
errors, misstatements, and miscalculations. The Commission proposed to meet with
OIO staff to address these issues in order to avoiding commenting on them in a
written response and to develop a more accurate Draft Report.
OIO agreed to this approach and, on June 5, 2003, Mr.
Burrell met with Muhamed Yussef and Michael Hart from OIO. At that meeting,
OIO
staff indicated they would 1) incorporate those issues and. comments
with which they agreed into a revised draft; 2) that they would provide Mr.
Burrell with a copy of the revised draft for review prior to suing that
revised draft report; and 3) that the Commission would have the
opportunity to submit a written response to the revised draft. Although
OIO took the opportunity to remove or change certain errors and misstatements
from the Report, OIO failed to follow through with its commitment to allow
the Commission to review and comment on the Report.
Since OIO failed to honor its commitment to allow the
Commission to comment on the Report, failed to adequately reflect
certain issues raised in the June 5, 2003 meeting, and added certain
information to the Report that was not contained in the Draft Report,
the Commission is taking this opportunity to comment on both the Draft
Report and Report.
II. Comments on the Draft Report
Because of the circumstances surrounding the release of
the Report, OIO's failure to provide the Commission an opportunity for review and
comment, and the fact that the errors in the Draft Report serve to
demonstrate OIO's general lack of understanding of the Commission's
operations and its financial statements and analyses, we believe it is
relevant to review some of the errors contained in the Draft Report and
subsequently modified in the final Report.
A. The Draft Report contains a statement that the
Commission's FY2002 net operating loss ("NOL") was influenced
by the "fact that the Sports Commission did not budget funds for
unexpected capital outlays such as the Grand Prix." This statement
demonstrates a lack of understanding by OIO of the Commission's
financial. statements, the role of budgets, and accrual accounting.
Whether the expenditure was budgeted or not has absolutely no impact on
the FY2002 NOL. In addition, as we pointed out to OIO staff on several
occasions, the operating results from the Grand Prix, even after taking
into account depreciation related to parking lot repaving, actually had
a positive impact on the FY2002 bottom line. After addressing this error
in the June 5, 2003 meeting, the statement was removed from the Report.
B. The Draft Report contains a statement that "the
Sports Commission has been using its cash to cover the losses in the
last few years. This caused the cash balance to steadily decline each
year, from FY00 to FY02 and, as expected, in FY03 and FY04." A
cursory review of the Commission's financial statements would reveal
that the decrease of $14.1 million in Unrestricted Net Assets (which
measures unencumbered cash) between FY2000 and FY2002 was attributable
to capital expenditures of $11.4 million and cash operating losses $2.7
million. Although OIO amended this statement in the Report, the Report
does contain the incorrect statement that the "Commission's
Unrestricted Net Assets balance has been declining over the last few
years because of the continued operating losses." It is remarkable
that this statement appeared in the Report after a similar statement was
removed from the Draft Report and after the Commission demonstrated to
OIO staff that the decrease in the Commission's Unrestricted Net Assets
is primarily attributable to investments in capital assets and that only
in FY2002 did the Commission's NOL result in a decrease in Unrestricted
Net Assets. We can only speculate as to whether this was an editing
oversight, a failure to appreciate the difference between Unrestricted
Net Assets and the cash and investment balance, or something else.
C. Attachment A in the Draft Report miscalculated the
Commission's projected Unrestricted Net Assets for FY2003 and FY2004. At
an April 10, 2003 meeting attended by Commission and OCFO staff,
including you and Dr. Gandhi, the Commission pointed out the errors in
this calculation and provided OIO staff with information on how to
correctly perform the calculation. Despite this effort, the calculation
of projected Unrestricted Net Assets in Attachment A was wrong. Due to
this error, OIO calculated that projected Unrestricted Net Assets at the
end of FY2004 would be negative $1,047,452. It then reported
erroneously, both with respect to the correct calculation and to its
incorrect calculation, that ending FY2004 Unrestricted Net Assets would be
positive $1
million. The draft also qualified concern about an FY2004 $1 million
Unrestricted Net Asset balance by asserting that the Commission's cash
and investment position was expected to be $2.8 million at the end of
FY2004. This statement again demonstrates a lack of understanding of the
relationship between Unrestricted Net Assets (measuring unencumbered
cash) and the cash and investment balance (which may or may not be
available to spend). Since Unrestricted Net Assets is one of the primary
measures of the Commission's financial health, OIO's failure to grasp
the concept is disturbing. Attachment A has been amended in the Report
to include only the calculation of PY2002 Unrestricted Net Assets made
by the Commission.
It is apparent that OIO used the June 5, 2003 meeting to
revise the Draft Report to eliminate these potentially embarrassing mistakes. In
return for this demonstration of comity by the Commission, OIO reneged
on its promise to allow the Commission to review and comment on a revised
draft.
III. Comments on the Report
A. Costing and Pricing of Events
1. Costing and Pricing. The Report recommends that the
Commission determine an appropriate cost driver to use in allocating
overhead costs to events in determining pricing for the goods and
services provided by the Commission and that doing so would allow the
Commission to "arrive at realistic estimates for its revenue
generating activities." In addition, the Report recommends that the
Commission cease analyzing potential events based on direct revenues and
expenses because it views this as a "short-term remedy." As
discussed in further detail below, pricing the goods and services
offered by the Commission is much more complex that merely basing prices
on the underlying direct and indirect costs and OIO's recommendation
completely disregards the effects of the market on pricing. In addition,
OIO made no inquiry into the accuracy of the Commission's estimates of
revenue generating activities and to suggest that they are somehow not
realistic is unwarranted. Moreover, the analysis and pricing of events
based on direct revenues and expenses is not, as suggested by the
Report, a "short-term remedy." In fact, it is not a remedy at
all but rather an analytical tool for considering individual events. As
we informed OIO on numerous occasions and as discussed further below, we
have a series of financial schedules that merge the direct event related
revenues and expenses with non-event related revenues and expenses to
provide an overall picture of the Commission's financial results. We
believe this information provides a much more comprehensive and clearer
picture than what OIO has recommended.
While we agree that the relationship between net revenues
generated by event activities and Commission overhead expenses is a key
component to analyzing and managing the Commission's financial
performance and, in fact, pointed out the importance of this
relationship to OIO, we do not agree that allocating overhead costs is
the best way to approach this issue.
Currently, the Commission uses an eight-column income
statement, which we provided to OIO, to analyze, forecast, and manage
financial performance. This income statement includes four columns
(Administration, Stadium, Armory, Parking) for overhead and non-event
revenues and expenses and four columns (Stadium, Armory, Parking Lots,
and Outside Events) for event revenues and expenses (the four event
categories are further broken down by type of event and then to
individual event). These statements allow the Commission to determine
the amount of net revenue generated by event activities and analyze
whether that net revenue, along with non-event revenues, is sufficient
to cover overhead expenses. This data is much more comprehensive than
the Commission produced prior to the implementation of its new
accounting system at the end of FY2001 and is more than sufficient to
analyze the relationship between net event revenue and overhead
expenses.
It should be clear that, despite the assertion to the
contrary in the Draft Report, failure to perform this allocation of
indirect expenses to event data did not have any impact on the
Commission's FY2002 loss. The NOL resulted from there being insufficient
net revenues from events to cover the Commission's overhead and
allocating overhead expenses to event analyses would not change that
fact.
OIO began its examination of this issue by asking whether
the Commission contemplated personnel costs when developing event
pricing, a question that highlighted OIO's lack of even. the most basic
knowledge of the event and facility management business. After showing
OIO the detailed event revenue and expenses P&L statements,
explaining the process for estimating expenses and revenues related to a
proposed event, and cautioning that the market ultimately set the price
the Commission could charge, OIO shifted its focus to the overhead
allocation issue.
Despite our repeated requests that OIO indicate how it
believes indirect cost allocation would improve the Commission's
financial management, the Report fails to address the issue at all. The
Report merely states that "losses are being generated because
events are not contributing enough revenue to fully cover indirect
costs. If the indirect costs were allocated to the specific events,
those events would have shown either smaller profits or greater
losses." While this statement is true, it does not address how such
a fully allocated analysis would benefit the Commission or how it could improve the
Commission's decision-making process. Initially, CIO suggested that the
Commission should not undertake events that after the allocation of
overhead appeared to be "unprofitable." The Commission
explained that given that a majority of its overhead is relatively
fixed, it is prudent for the Commission to accept events where the
incremental revenues exceed the direct incremental costs. Relying on a
fully loaded analysis to make decisions regarding events could result in
the Commission turning down events with positive incremental net revenue
that could be used to cover overhead.
In a reversal of the position originally espoused in the
Draft Report, OIO concedes in the Report that in the short term the
Commission should not decline events with direct revenues in excess of
direct costs, but that it should do so in the long term. This statement
again misses the point. The Commission's event analyses are to provide
historic event-specific operating information and to be used as a tool
for both pricing potential events and developing budgets and forecasts.
In the case of forecasts and budgets, overhead is analyzed adequately
and separately from event revenues and expenses. In the case of events,
the relevant question is "do we do this event or not" and the
accompanying relevant analysis is whether the direct revenues exceed the
direct costs.
In addition, there are certain functional problems with
the recommendation to allocate overhead expenses to events. Since the
overhead component and the size, number and mix of events have
historically been quite variable, it would take substantial effort to
devise, monitor, and mange an overhead allocation scheme. Moreover, any
allocation scheme would be arbitrary and artificial. Based on these
considerations and the negligible usefulness of allocating overhead
costs to event data discussed above, we believe that performing direct
costing would be an inefficient use of the Commission's limited
resources.
2. Managing Overhead Costs. We do agree, and in fact
pointed OIO in this direction, that one of the key components of any
analysis of the Commission's financial operations is the relationship
between net event revenue and overhead. We also agree that part of that
analysis in the medium-to-long term should include analysis of the
Commission's mission, how that mission is to be funded and if there is a
business model to generate that funding. In addition, we believe that in
the near term a more prudent course of action than developing an
artificial overhead allocation scheme would be to focus on OIO's other
suggested courses of action, including:
- Cutting redundant costs to reduce
overall expenses;
- Holding more events to earn
additional incremental revenues;
- Negotiating higher prices to help
cover more indirect costs;
- Re-evaluate and possibly reduce
event-staffing levels;
- Raise ticket prices, parking rates,
and/or concession prices for events.
These are all good suggestions and the Commission has and
continues to consider and implement these and other measures. For
instance, at the end of FY2001, the Commission had 72 full-time
employees. It currently has 52 full-time employees. While the reduction
in staff has made many tasks more difficult and has limited the
Commission's agility, these reductions were actions the Commission was
compelled to do in a responsible, business-like manner based on revenue
projections. We also have performed several reviews of the Commission's
operating expenses in an effort to make targeted reductions in overhead.
While we did not discover any redundant costs, we did identify certain
items that are being reduced or eliminated in light of our current
revenue projections.
It should go without saying that the Commission attempts
to maximize revenue on every event. We attempt to rent the facilities
and provide services at the highest rates that we can without losing the
opportunity or damaging the long-term financial viability of tenants and
promoters. In addition, we are constantly looking for new and better
events, but it should be noted that both the Armory and Stadium are each
only useable eight-to-nine months per year and the priority is for
weekend dates. While we have focused on trying to attract and develop
more mid-week events, especially at the Armory, weekends, which are
almost fully booked, are much more desirable.
Although the Commission typically does not control ticket
revenue or ticket prices, the Commission did raise parking rates in
2001, again in 2003, and is currently reassessing parking rates in
cooperation with its new parking operator. Prior to each season, the
Commission engages in in-depth analysis and reviews pricing with its
food and beverage concessionaire, Aramark, and has adopted reasonable
increases and operational improvements each year. As with promoter
pricing, these activities are designed to maximize revenue and raising
prices too steeply will result in a decrease in overall revenue.
B. Going Concern
The Report suggests that, if the financial results do not
improve, the Commission could be in a state of financial risk and that
various stakeholders should review the Commission's mission in light of
the current state of its facilities and the marketplace. While we agree with both of these
conclusions, there are certain issues in this section of the Report that
need to be addressed.
In several instances, the Report questions the
Commission's ability to operate as a going concern. While we agree that
the FY2002 and projected FY2003 operating results are contributing to a
deteriorating financial position, we are not sure that this raises a
going concern issue and we want to make certain that OIO's use of this
term of art is not misplaced. A going concern issue is typically raised
when an entity's losses result in a negative equity situation. While it
is true that the Commission has experienced several years of net
operating losses and a substantial reduction in its Unrestricted Net
Assets due to both these operating loses and capital outlays, it has
relatively few fixed costs that need must be covered (for instance the,
Commission has no debt or significant lease obligations) and still has
substantial capital assets (net book value of $15.2 million as of
9/30/02). Accordingly, the Commission could avoid a going concern issue
by downsizing, selling its assets or borrowing against them. To be sure,
a drastic reduction in size would involve difficult choices and a
reduction in the scope of its mission and selling assets or borrowing
against them would also present a difficult situation. This is to say
that we agree that the Commission's recent operating results are a cause
for concern,. but that they do not necessarily represent a going concern
issue as indicated in the Report.
The Report also suggests that the Commission's
"mission cannot be sustained on the basis of its historic operating
record." As pointed out. to OIO staff
and as is demonstrated for FY2001 in Report Table 1, with the exception
of FY2002, the Commission's operations have produced a positive cash
flow in each year of its existence. Given the cash loss in FY2002 and
expected in FY2003 along with the investment in capital improvements
over the last several years, there has been a reduction in the
Commission's Unrestricted Net Assets. This reduction does not, however,
support the conclusion that the Commission's mission is not supportable
on a forward going basis. We do agree that the Commission needs to
improve on the operating results of the past two years, but also believe
that it is not unreasonable to conclude that the Commission's current
mission is sustainable.
The Report also notes that "[t]he basic assumption
underlying the Sports Commission's forecasts for FY03 and FY04 is that
the Agency will pay its outstanding bills and collect receivables
shortly after the end of the fiscal year (that is within Month 13 of the
closing period)." It appears that CIO has misconstrued a statement
made by Commission staff in yet another failed attempt to explain the
concept of Unrestricted Net Assets and the relationship to cash
balances. Commission staff explained that one way to think about the
difference between Unrestricted Net Asset balance and the cash and
investment balance was to assume that all receivables were collected and all
debts were paid. We never suggested that we would actually do this but
rather, given the short-term nature of both the Commission's non capital
assets and liabilities, this was a way to conceptualize both measures and how to reconcile them.
As a final and most important note, the Commission's
management, Budget and Finance Committee and Board of Directors have for
some time been well aware of the financial challenges facing the
Commission. Both the Board and the Committee have reviewed a number of
budget revisions, cost saving plans, and new revenue goals recommended
by management. As a member of the Commission's Board of Directors, the
District's Chief Financial Officer is well aware of these activities.
Again, we agree with the Report's conclusion that the Commission faces a
number of financial challenges and that significant decreases in
expenses and/or increases in revenues are warranted. We want to make
clear, however, that these are issues that the Commission had been
focused on well before OIO began, let alone concluded, its review.
C. Grand Prix Paving
While it is true that the minutes of the June 27, 2002
Board meeting, at which the Board considered the increases in the scope
and cost of the Lots 6 and 7 repair and resurfacing project, do not
reflect the amount of those increases, the materials reviewed by CIO
include the schedules distributed to the Board prior to that meeting
that show an estimated final cost of $5,064,000. It should be noted that
the initial paving agreement was not a fixed price contract but a time
and materials contract and when, as noted in the Report, the scope of
the project expanded due to additional storm drainage and environmental
work and the unsuitability in many areas of the sub-grade, the project's
costs necessarily and understandably increased. While we do not dispute
that the documentation of the Board's action could have been better, it
is clear from the materials that the Board was well aware of the scope
of the cost increases beyond the price included in its initial review
and approval of the project.
D. Other Matters
The Report completely mischaracterizes nearly all the
issues related to OIO's request for documents relating to expenditures
referenced in the media. Based on newspaper reports, OIO made an
extremely unfocused and broad request for a number of unrelated
documents. Given that responding to that request would take a
significant commitment of resources by the Commission's small accounting
staff, the Commission suggested that, rather than a broad request for a
number of random and unrelated documents, OIO choose a more methodical
and accepted approach, such as auditing a particular account for a
particular period. In the alternative, the Commission offered to provide OIO with
the box of documents provided to the Washington Post with both the
caution that the documents would be difficult to review in that context
and the offer to review each document with OIO staff OIO decided to
review the box of documents, bun declined the Commission's offer to
assist in the review. Accordingly, OIO's inability to draw any
conclusions from ins review of these materials is due no the nature of
ins unfocused approach and its refusal to review the documents with
Commission staff.
The Commission's reluctance no provide the requested
documents in no way reflects any shortcoming in record keeping, bun
rather the conclusion than the financial challenges faced by the
Commission cannot be men when Commission staff are required to spend
significant amounts of time on tasks that have no positive impact on the
Commission's business. In an effort to avoid devoting significant
resources to hunting for documents that might be relevant no OIO's
unfocused request, we proposed providing a set of documents that had
already been segregated and copied. Until we received the Draft Report,
there was no indication by OIO that such a proposal was inadequate.
In addition Attachment C Part Two was not included in the
Draft Report and appears only in the Report. With respect no the
"Description" column, it is not surprising that so many items
are labeled "Purpose cannon be determined" given that OIO
staff declined the Commission's offer to review the materials with OIO
staff and answer any questions regarding the materials. The inclusion of
this list at this juncture and the thinly veiled editorializing in the
description column is, unfortunately, consistent with the rest of OIO's
questionable and indefensible practices in this process.
IV. Conclusion
While we do not disagree with OIO's ultimate conclusion
that in the absence of an increase in revenue and/or a decrease in expenditures
there is a concern regarding the Commission's mission's declining
Unrestricted Net Asset balance, the process and the recommendations
included in the Report leave much no be desired. Why this process required over seven months and the commitment of significant
Commission staff time, not to mention OIO staff time, to reach a conclusion that is
clear from even a most cursory review of the Commission's financial statements
is difficult to understand, as was the unexplained explained sudden
urgency to complete and distribute the Report. Furthermore, in is e
remarkable that after all this time and effort, OIO's recommendations
essentially urge the Commission, on the one hand, to raise revenues and
cut expenses yet simultaneously to engage in a time-consuming overhead
allocation of little real value and also include a complaint that the Commission was reluctant to spend
numerous hours of staff time responding to a fishing expedition for a
collection of unrelated documents.
As a member of the Commission's Board of Directors, the
Chief Financial Officer's Office has participated in developing and approving the
Commission's budget, including recent revisions, and in approving the Commission's new
financial reporting processes. Since all of the materials that OIO staff
requested and reviewed had already been provided to or were available
through the CFO's office, the scope and need for this "analysis of the financial operations" of the
Commission is a matter that should be addressed in an appropriate forum.
As we have indicated, much of the Report's content came
directly from the Commission itself in an effort to give OIO a full picture not only of
the Commission's finances and operations, but of the challenges it
faces. Despite OIO's poor job of synthesizing and presenting that information in the Draft Report, the
Commission continued to cooperate with OIO only to be disappointed that OIO reneged on its
promise and deliberately chose to provide the most reasonable of
standard courtesies that would have allowed the Commission an
opportunity to review and comment on the Report. Further, it is apparent
there was an intentional or unintentional leak of the
Report to the media similar to last year, an action for which the
Commission will ask for an appropriate inquiry regarding the motivation, timing and distribution for the
release of the Report. We were hopeful that this process would yield
some concrete benefits yet it appears that this exercise was not
necessarily undertaken solely to perform a thorough and substantive analysis of the Commission. In any event, we continue to
welcome constructive insights, guidance, and recommendations from the
Chief Financial Officer's office.
Sincerely,
Robert D. Goldwater
President and Executive Director
D.C. Sports and Entertainment Commission
cc: John L. Richardson, Chairman, Board of Directors
Dr.
Natwar M. Gandhi, Chief Financial Officer
John Ross
Scott Burrell
Board of Directors
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