Question

Metrosport is a city located in the most populous census district in Canada. Its mayor and council are ambitious and want to attract an NHL team to their community. Although Metrosport's population is only about 200,000 people, about 5 million people live within one hour's drive. The mayor and her staff have done a lot of homework on this project. They have met with several wealthy entrepreneurs who are seeking an expansion team but are in need of an NHL- calibre rink to call home. The market is hockey crazy and the general consensus is that it will not be difficult to attract 13,000 season ticket subscribers, a league requirement. The most significant challenge is financing the construction of a suitable facility.
The business community is supportive, particularly those in the hospitality trade. The mayor considers the team an economic development project as an NHL team would put Metrosport "on the map". Many view Metrosport as just a "bedroom community", a city made up primarily of commuters. For this reason it has been difficult for the city to attract major hotel chains. A major league sports venue would be a destination, leading to the construction of top-notch hotels with conference facilities which could encourage businesses to relocate their head offices.
The city has retained architects who have estimated the cost of the arena to be $1.2 billion. Metrosport has never undertaken a project of this size on its own. When the mayor approached officials of the federal and provincial governments for financial support, she received a cool reception. The Director of Finance has met informally with the agency that rates the city's debt. It was clear that if Metrosport undertook this project on its own there would be adverse con sequences for the city's debt rating.
To overcome these challenges, the mayor has sought partners. The arena would be operated by a partnership.
Any key decisions would be subject to reaching a consensus among the partners. The projected capital cost of the arena would be financed by debt, guaranteed by the partners. Any surplus or deficit would be shared by the partners according to their partnership interest. One option would be to enter into a public-private partnership with Droid Industries in which the city and Droid would be equal partners. A second option would be to partner with the regional municipality and neighboring cities. These communities are anxious for the project to succeed due to the potential for spin-off economic benefits coming their way. Under this alternative, Metrosport retains a 40% interest, the regional municipality 30%, and the neighboring cities divide the remaining 30%.
As a senior financial analyst, you have been meeting with an arena management company to develop a financial projection representative of a normal operating year. The following annual cash flows are anticipated for either partnership:
(in thousands)
Inflows:
Rent from team .............. $17,500
Naming rights ................ 5,000
Rent from concerts and other events ...... 8,500
Concessions and parking .......... 12,000
$43,000
Outflows:
Management fees ............. $1,000
Concession and parking operations ....... 2,500
Building operations and maintenance ..... 3,500
Interest .................. 36,000
$43,000
The mayor views this as a business venture, in keeping with her economic development agenda. Although there is great enthusiasm for the project, the municipal council has asked the Director of Finance to explain how proceeding with the project would affect the finances of Metrosport.
Required:
The Director of Finance has asked you to address the following matters to support a report to Council.
(a) Explain how the city's partnership interest would be accounted in the city's financial statements and your reasoning. Identify any differences that might arise depending on the partner(s) the city selects.
(b) Explain the financial reporting implications of guaranteeing the partnership's debt obligations. Consider the immediate implications and explain what would happen if the projected inflows are too optimistic and the partnership runs into financial difficulties.
(c) Use the information provided and the summarized financial information provided below to prepare pro-forma statements of financial position and operations for the city of Metrosport based on council's acceptance of a partnership with Droid Industries. Pro-forma financial statements are used to show the effects of proposed transactions. Prepare two sets of pro-forma statements, the first based on a government business partnership and the second based on a government partnership. Assume the partners provide the partnership with a working capital advance of $2,000 and the partnership's financial position is: $500 cash, $3,000 in receivables, and $1,500 in accounts payable, in addition to debt obligations to finance the construction and start-up costs for the arena indicated by the architect. Use the arena partnership's inflows and outflows as the basis for the partnership's revenues and expenses. State any other assumptions you make. Comment on the changes in the city's financial position that would arise from adoption of either of the partnership proposals.
The mayor views this as a business venture, in keeping with her economic development agenda. Although there is great enthusiasm for the project, the municipal council has asked the Director of Finance to explain how proceeding with the project would affect the finances of Metrosport.
Required:
The Director of Finance has asked you to address the following matters to support a report to Council.
(a) Explain how the city's partnership interest would be accounted in the city's financial statements and your reasoning. Identify any differences that might arise depending on the partner(s) the city selects.
(b) Explain the financial reporting implications of guaranteeing the partnership's debt obligations. Consider the immediate implications and explain what would happen if the projected inflows are too optimistic and the partnership runs into financial difficulties.
(c) Use the information provided and the summarized financial information provided below to prepare pro-forma statements of financial position and operations for the city of Metrosport based on council's acceptance of a partnership with Droid Industries. Pro-forma financial statements are used to show the effects of proposed transactions. Prepare two sets of pro-forma statements, the first based on a government business partnership and the second based on a government partnership. Assume the partners provide the partnership with a working capital advance of $2,000 and the partnership's financial position is: $500 cash, $3,000 in receivables, and $1,500 in accounts payable, in addition to debt obligations to finance the construction and start-up costs for the arena indicated by the architect. Use the arena partnership's inflows and outflows as the basis for the partnership's revenues and expenses. State any other assumptions you make. Comment on the changes in the city's financial position that would arise from adoption of either of the partnership proposals.
CITY OF METROSPORT
Summarized Statement of Financial Position
Year ended December 31
(in thousands)
Financial assets.................. ___ $___
Cash and cash equivalents ............. 335,550
Tax and other receivables ............. 103,765
Investment in government business enterprise ..... 190,650
629,965
Liabilities
Accounts payable and accrued liabilities ....... 228,634
Pension and employee benefit obligations ....... 18,975
Long-term debt ................ 15,000
262,609
Net financial assets ............... 367,356
Tangible capital assets ............ 3,180,435
Accumulated surplus ............. 3,547,791
Summarized Statement of Operations
Year ended December 31
(in thousands)
Revenues $
Taxes ...................... 113,098
Fees and other revenues ............. 139,120
Contributions from developers ........... 53,867
306,085
Expenses
General government ................ 42,572
Protection to persons and property .......... 33,069
Transportation services ............... 27,514
Environmental services ............. 25,786
Recreation and cultural services .......... 40,278
Other services ................. 7,414
Amortization of capital assets ............ 53,366
229,999
Annual surplus ................ 76,086
Accumulated surplus at beginning of year ...... 3,471,705
Accumulated surplus at end of year ....... 3,547,791


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  • CreatedJune 09, 2015
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