1. Chapter 4 Finance and Budgeting

2. Chapter Objectives 1.Define capital projects and explain why both for-profit and nonprofit organizations undertake them 2.Identify equity and debt funding sources available for a sport organization’s capital projects 3.Distinguish between general obligation, revenue, and special tax bonds 4.Compare line-item and program budgets 5.Discuss advantages and disadvantages of zero-based versus incremental budgeting 6.Explain what variance analysis is and how it is used by managers 7.Describe the role of fundraising in charity athletic events

3. Capital Projects Capital refers to the funds needed to finance an organization’s assets. A capital project is a long-term investment project that will increase the organization’s assets. If an organization wants to build a new facility (or renovate an existing facility), there are many upfront costs, including costs associated with land acquisition, construction, and infrastructure development. – A capital project typically requires large up-front cash outlays.

4. Is the Capital Project Worth it? Managers need to determine whether the project will increase the value of the organization. In for-profit sport organizations, managers can estimate the present value of all revenues that are expected to be generated by the facility (cash inflows) and the present value of all expenses expected to be incurred by the facility (cash outflows). – As a simple decision rule, if the present value of the cash inflows is greater than the present value of the cash outflows, then undertaking the facility project will increase the value of the firm. In nonprofit and public sector sport organizations, decision-making about capital projects is complicated by the public service orientation of these organizations.

5. Equity Finance Equity is ownership interest in an organization, and sport facilities may pursue several different forms of equity financing for capital projects, including: – Sale of stock – Retained earnings – Gifts

6. Debt Finance In order to procure the capital necessary for facility projects, an organization will increase either its liabilities or equity. Forms of debt finance include: – Loans – Bonds (including municipal bonds)

7. Municipal Bonds Municipal bonds are a special type of bond that may be available for sport organizations that need to raise funds. Municipal bonds can only be issued by state and local government, and they are usually issued for the purpose of financing capital projects. Municipal bonds are an attractive means of debt finance because they are tax-exempt.

8. Security for Municipal Bonds Once the bond is issued, the sport organization must raise sufficient funds to cover the amount owed to the bondholder. While there are numerous municipal bond arrangements, we will focus on three types of municipal bonds commonly used for sport facility projects: – General obligation bonds – Revenue bonds – Special tax bonds

9. Facility Budgeting An organization’s budget is a key component of its financial management. The operating budget refers to those activities that are ongoing and necessary to maintain the current capabilities of the organization to produce, sell, and service its core products and services provided to the customer base. An operational budget authorizes the funds necessary for the day-to-day operations of the facility or event. The specific categories of expenses vary depending on the type of facility or event.

10. Formatting Facility Budget Financial Information The first option is a line-item budget. In a line-item budget, revenues and expenses are broken down into specific categories. – Revenues are estimated for each category, and expense limits are established for each category. The second format for an operating budget is a program budget. In a program budget, funds are allocated for specific programs or projects. – Whereas the operating budget is focused on what the organization buys, the program budget is focused on programs that meet the organization’s strategic goals.

11. Budgeting Approaches An organization’s budget should be aligned with the company’s strategic plan. Budgeting decisions can be made using a variety of budgeting approaches, of which the most commonly used are incremental budgeting and zero-based budgeting (ZBB). In incremental budgeting, management makes an allocation decision based on the previous year’s allocation. In ZBB, managers must evaluate all spending decisions on a regular basis, with the intent of adapting to a changing business environment and maximizing efficiency.

12. Variance Analysis An organization’s budget is set at the beginning of the fiscal year and is based on estimates of revenues and expenses. An organization may realize unexpected savings or encounter unexpected increases in expenses. Because estimates are likely to deviate from actual revenues and expenses, it is important that organizations periodically compare budgeted figures with actual figures.

13. Financial Issues in Charity Athletic Events The idea behind charity athletic events is that nonprofits outsource fundraising to individuals who either (1) have a personal connection to the nonprofit’s mission, (2) have an interest in the athletic activity, or (3) have some combination of the two. The event organizer, which is typically the nonprofit organization, produces the event, and participants raise awareness and money for the nonprofit organizations through a combination of their own contribution and peer-to-peer fundraising. The financial commitment required of participants varies depending on the event.