SECTION: FINANCIAL ANALYSIS SUBJECT: OPERATIONS ANALYSIS EOP-101-2 III. EXAMINATION OBJECTIVES H. conflict-of-interest transactions which have or could have an adverse impact on operating results, (Refer to EOP-125.) 1. lack of adequate internal controls over income and expense which could result in (1) misuse of funds through intentional duplication of expenses and diversion of subsequent refunds and (2) diversion of income items for personal benefit, J. maintenance of overstaffed departments resulting in excessive overlapping of duties and inactive or non-productive employees, K. temporary cures for an essentially permanent earnings problem such as sales of fixed assets, changes in methods of accounting for deferred credits and charges, etc., and L. failure to recognize material losses when: 1. participating interests in loans are sold at par to yield more than the contract rate. (In effect the economic loss realized is deferred and amortized over future periods when such sales are recorded as having been made at par.) Refer to Memorandum No. R 26(a). 2. real estate owned is sold, based on the market value of the consideration received, where the price is inflated because of the favorable terms provided in a loan or contract to facilitate the sale. Refer to Memorandum No. R 23. 3. real estate owned is held due to inability of the market to absorb the property, the necessity for additional funding in order to complete, or management's reluctance to recognize a loss on the sale of REO. In such instances the impact of holding costs must be ascertained. The examination objectives governing analysis of operating performance are: *A. to review, understand, and explain the genesis of all significant matters disclosed by the financial statements, *B. to obtain satisfactory explanations for all material variances of the current financial statements from those of prior periods and from class averages, *C. to isolate apparent problem areas and give proper weight to them in establishing the scope of the examination, *Primary examination objectives of financial analysis (see EOP-101-1). July 1, 1976 SECTION: FINANCIAL ANALYSIS SUBJECT: OPERATIONS ANALYSIS EOP-101-2 IV. EXAMINATION D. to evaluate and project future operational trends via the use of historical data, financial management plans and financial analysis techniques, E. to determine whether accounting policies and procedures comply with applicable charter and bylaw requirements, Federal and state regulations and statements of policy, and generally accepted accounting principles, F. to determine the accuracy and adequacy of periodic reports to the Board, and G. to determine whether there are any conflict-of-interest situations which have or could adversely affect operating results. A. review policy statements, manuals, and board of director's minutes and interview management personnel, and 1. determine whether objectives have been established concerning alternative methods of generating income and controlling expenses, 2. determine whether objectives are related to association objectives and policies concerning: branching and branch operations; utilization of FHLB advances; and sales of loans and participation interests, 3. determine whether objectives are periodically evaluated and 4. determine whether policies and procedures have been 6. determine whether policies and procedures adequately serve 10 July 1, 1976 SECTION: FINANCIAL ANALYSIS SUBJECT: OPERATIONS ANALYSIS July 1, 1976 ZOP-101-2 7. determine whether significant changes in objectives, policies and procedures have taken place during the review period. B. review all information contained in the scope memorandum which is applicable to financial analysis together with FES output and other statistical data provided from outside sources such as the regional banks or state supervisory authorities, and 1. compare ratios and trends with class averages, 2. review all apparent variances and unusual items, and 3. evaluate the adequacy of the yield margin. C. review the most recent independent audit report, applicable management letters, and related correspondence together with internal audit reports, and 1. note any qualifying statements contained in the auditor's opinion, 2. scan the comparative statements for any apparent or unusual variances among the various line items, 3. note any apparent trends whether favorable or unfavorable, and 4. review all notes to the financial statements. Determine the current status of all exceptions cited. D. obtain or prepare trial balances of asset, liability, net worth, income and expense accounts for each semiannual period covered by the current examination and for the stub period from the most recent semiannual closing date to the month end corresponding to the report date, and 1. note and check any unusual variances among the individual line items, and 2. note any apparent trends. E. review the individual asset, liability, net worth, income and expense accounts for content and propriety, 1. scan for entries which are not self-explanatory or which appear to be unusual, 2. make appropriate reclassifications where necessary, 11 SECTION: FINANCIAL ANALYSIS SUBJECT: OPERATIONS ANALYSIS 127 MCR-01-2 3. in particular, "catch-all" accounts such as other operating income, other operating expense, other assets, other liabilities and the like, should be carefully scrutinized. F. review the most recent semiannual and monthly reports to the 1. ascertain that all line items are correct and that all items 2. if material discrepancies and/or omissions are noted, the scope of review should be expanded to include prior periodic reports. Material omissions and/or oversights should be brought to the attention of the Supervisory Agent via examination report comment. G. review general accounting policies and procedures to determine whether compliance has been maintained with applicable Federal and state regulations and policies, charter and bylaw requirements and generally accepted accounting principles. Where applicable, utilize present value theory and applications in your annalysis (see EOP-101-3). The following items, as a minimum, should be reviewed (applicable regulatory references noted): 1. basis of accounting (Insurance Regulation 563c.2), 2. deferred credits and charges arising from the acquisition or purchase of loans, loan participations or loan commitments (Insurance Regulation 563.23-1), 3. profits and losses on the sale of loans, loan participations and loan commitments (Memorandum No. R 26(a)), 4. profits and losses on the sale of mortgage-backed securities and commitments therefor, 5. profits and losses on the sale of investment securities (Insurance Regulation 563.23-2), 6. profits and losses on the sale of real estate owned (Insurance Regulation 563.23-1 and Memorandum No. R 23), 7. sale/leaseback transactions involving office quarters, 8. profits and sales on miscellaneous assets (re fixed and other), July 1, 1976 SECTION: FINANCIAL ANALYSIS SUBJECT: OPERATIONS ANALYSIS July 1, 1976 EOP-101-2 9. goodwill arising from the acquisition of another business entity (Memorandum No. R 31(a)), 10. adequacy of valuation reserves (Insurance Regulation 563.17-2), 11. recoveries of losses previously charged off (Insurance Regulation 563.17-2), 12. investment in service corporation and other subsidiaries (Memorandum No. T 59-1), 13. uncollected income (Insurance Regulation 563c.3), 14. capitalization of expenses on real estate owned, 15. Federal and state income tax receivables, 16. amortization of discounts or premiums on investment securities, 17. prepaid or deferred expenses and their amortization, 18. contingent liabilities for which no provision has been made on the financial statements (i.e. litigation matters, pension and pledge agreements, etc.), and 19. remittances and receipts on participations purchased and sold (where effective yield differs from contract rate). H. complete the variance analysis worksheet for the three most recent semiannual periods covered insuring that all applicable items have been annualized in order to avoid distortions. Correlate your findings from this phase with findings obtained from other examination procedures relating to analysis of operations. I. review the association's financial management plan, and 1. determine the soundness and validity to the assumptions used, and whether they were used on a consistent basis, 2. determine whether the plan is effectively meeting both current and long-range objectives, 3. determine the degree of correlation between budgeted and actual results and whether natural variances have been incorporated into subsequent revisions and modifications to the plan, and 4. ascertain and project the future operational trend of the association. 13 |