Should McKinney Refund $29,770,931 to Taxpayers from Excessive Taxation? You Make the Call!

McKinneyFB

Municipal budgets are a compilation of tons of numbers. The focus is usually on Revenues & Expenditures. However, not to be overlooked are the resulting Fund Balances, both the incremental addition or drawdown for any particular year as well as  the cumulative Balances.

Fund Balances should be clearly highlighted in a budget. They should also be viewed in light of the overall expenditures in each fund. There are several “funds” such as the General Fund, The McKinney Economic Development Fund, The McKinney Community Development Fund and the Water & Sewer Fund. The largest is the General Fund where most of the property taxes, sales taxes, franchise taxes and building permit revenues can be found. Also, the Police, Fire, Parks & Recreation Departments and most all typical city tax-supported services can be found in the General Fund.

The McKinney General Fund budget indicates a financial policy desired minimum Fund Balance of 90-days of Expenditures or about 25%. That’s pretty healthy. I also wouldn’t consider a 120-day balance or about 33% to be excessive but rather very healthy.

While the Budget documents are of value, I consider them secondary to the Comprehensive Annual Financial Report (CAFR), which are the audited financial statements for a government entity. You will note from my table above that I have recapped some key number from the last 10 years of CAFRs for McKinney. These CAFRs are available at this link. The pages from the CAFRs I am using to compile my table can be found here.

To summarize my table and the CAFR schedules behind it, the City of McKinney has continually under-budgeted Revenues and over-budgeted Expenditures. Sure, there will be a variation out of a 10-year view, but the story is unmistakable.

The supporting schedules also show the changes between the Original Budget, the Revised Budget and the Actual Results. The Revised Budget figures are often shown late in the year about the time the Budget is presented to the City Council. That would be right about now as the City Council Budget Workshop is scheduled for tomorrow August 4th, when there are less then 60 days remaining in the Fiscal Year (October through September).

I would like to think that such a sophisticated staff as McKinney has, with all kinds of software and computing power to slice and dice the financial data, tailor queries and such, could stand flat-footed in August and get a very close estimate of the year-end actual numbers a few weeks away.

As you can see, the Actual results show the General Fund Balances to be well in excess of 120 days or 33% year after year for a decade. As of the end of September 30, 2016, the Fund Balance in the audited financial statements totals $65,606,029. When compared to Expenditures of $108,998,422, the metrics are 220 days or 60.19%.

If you compared to 120-days, the excess would be $29,770,931!

So, what could be done or should be done with that excessive amount? First, you would have to convince the City Manager that it is excessive, because he argues just the opposite. Actually, all you have to do is convince the City Council, the policy makers who adopted at the staff’s recommendation for a General Fund Balance level of 25% at a minimum.

Ah, nobody said anything about a maximum!

Would the City be in dire straits if the Property Tax Revenues had been $29 million less in recent years? Hardly. But you make the call. I want to see somebody stand up and tell me that $25-35 million at 120-days is too skinny.

Could the $29 million have been spent to buy 2-3 downtown garages out of cash and the City still be in sound financial condition? Yes. Or the same spent on a new city hall or on any kind of infrastructure needs? Yes.

Could or should the $29 million be returned to the Taxpayer since the rates could have much much lower in recent years and the City still be fiscal responsible? I think so, but you make the call. The $29 million excess got there because of unneeded taxation, pure and simple.

Has a refund like this ever been done before in the region? Yes, Farmers Branch did so many years back. They called it a dividend to the taxpayers.

Does the City have excessive reserves in other Funds? Yes, download the most recent CAFR and take a look. You will be blown away.

Did the City Council sitting in early 2017 when the FY 2016 CAFR was presented to them and accepted by the Council understand the General Fund had a $65 million balance? Dunno. Ask the three still on board or call up the four still active in the community. What about the current Council members? Dunno either. Ask them.

What is the staff projecting for the contribution to the General Fund Balance (or drawdown) going to be as of the end of the fiscal year in 60 days? I’m told a decrease of $381,105. And for FY 2018? I’m told it will be zero, that Revenues and Expenditures will be exactly the same.

We shall see.

Will Fund Balances even be discussed at tomorrow’s Budget Workshop?

Tune in.

LFM

 

 

Collin County Tax Base is Robust … And Will Put Pressure on Officials to Lower Tax Rates

We are blessed in Collin County. The momentum (momo) is enormous, and there are no signs of slowing down. In fact, it is just the opposite. Our momo is gaining momo!

The market value of my property went up 16.90%. Wow! My investment is paying off. My assessed value is lower due to my Homestead and Over 65 Exemption. Still, that’s quite a rise.

The pressure will be on for local government officials to lower the tax rate in most cases. But just how much? It depends. Each government will have to compute an apples-to-apples comparison in accordance with the State’s Truth-In-Tax laws before tax rates are considered beyond July 25, when the Certified Tax Roll is finalized. A key metric is the Effective Rate. The calculation can get complicated, but it basically boils down to this: what is the tax rate that equals last year’s Operations & Maintenance Tax Revenues + this year’s Debt Service obligations?

Oh, by the way, last year’s O&M Tax Rate can be adjusted to compensate for services needed to cover new growth in our community plus anything we annexed. That’s fair. You don’t add $billions in new subdivisions without needing more staff to patrol and serve same.

That basically leaves us with the Revaluations to scrutinized. I made an attempt to separate that critical number from an official document released yesterday by the Collin County Appraisal District that can be found at http://www.collincad.org/downloads/viewcategory/55-estimated-taxable-values.

Can the O&M Tax Rate be dropped by that Revaluation Percentage, which is 5.93% for McKinney and 5.11% for the County as a whole? Not exactly. There are two things not covered in the T-n-T calculation. One is inflation. Personnel costs and just about everything costs more due to inflation. So, there is a reasonable expectation that a portion of the increased tax valuations should cover property service cost increases due to inflation. Inflation means I am buying the same things for a higher price.

So, what should that inflation factor be? The official number is about 2.00%. My expectation is that local government inflation is more due to a fairly large amount of commodity costs, such as fuel, electricity, road materials and more. Let’s use 2.50%, just for illustration purposes.

That would leave about 3.43% in the O&M Component of the Tax Rate for McKinney. Should we expect that level of tax reduction?

Well, maybe, but there is one more thing, and it is not tiny. There are new things needed and approved all the time. Cameras and better police vests are examples. Not cheap. The list is long, and many if not most are new services and service level increases requested by the citizens and taxpayers themselves.

So we should just suck it up and expect all of the 3.43% to be absorbed by local governments? Not at all. In fact, we are isolating just this one component of budget balancing to better understand it. Below the CCAD table, you can find my diagram of all of the other ways local governments have to balance a budget BEFORE they get to raising the taxes or utility rates.

I started calling this approach Skinny Budgeting way before President Trump started using the term. And virtually every avenue for budget balancing has been part of my sermonettes since the early 1970s. The elements of this approach are exhaustive as you drill down within each selection. When I prioritize these approaches, the very last one is to defer necessary expenditures like infrastructure maintenance. The next to the last one is to raise taxes. The very first one is performance improvement, which should be an everyday exercise and not one saved to balance a budget in case of a crunch.

More on Skinny Budget in a later blog. My point for bringing it up as part of this blog is to keep from getting slammed from John & Jill Obvious that tax revenues aren’t the only balancing solution that should be examined.

Also, and this is very important, these CCAD values are preliminary, before they go through the appeal process – a primary obligation of the property owners. LFM

2017EstimateTaxableValues

 

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McKinney Police & Fire Unions Have No Business Being Involved in Political Influence Peddling

Introduction.

There is nobody in Texas more supportive of police and fire than I am. For over 44 years I have been involved in lifting them up, praising them across the state and letting them know how important they are to us. My wife and I never miss an opportunity to thank them for protecting us. Our biggest joy is when we offer to buy lunch for a table full of first responders at a restaurant. Our prayers frequently include a specific mention for public safety workers to be protected from harm.

But I have also been the budget director or financial planner to many cities and a couple of counties in Texas. I appreciate all local government workers. My wish is for us to be able to do everything we can to support everyone. While I think of those risking their lives, the municipal family is much broader to me. There is nobody I respect more than the water department workers who are called out at 2 am in the freezing rain to dig a hole to climb down in so they can fix a busted water line in order to service to be restored before I wake up.

Violation of Council-Manager Form of Government.

For the City Council (or candidate) to reach out for direct support and sponsorship by the Police and Fire Unions (or any city government employee group) is just flat wrong. In essence, it is saying my boss is the Chief, and his/her boss is the City Manager and his/her boss is the City Council and their bosses are the Citizens. So, to hell with the legal structure the Citizens adopted in the Charter. Let’s gang up and try to influence the last two echelons of the City’s intentionally selected form of proper governance.

It’s the most basic form political manipulation in McKinney. The common phrase is “count to four.” That means if you can get four votes, you can do or get just about anything you want in McKinney. That is why developers and real estate people are such prominent financial contributors in local races. But the most dastardly maneuvers by that particular group pale in comparison to an employee group trying to pick their boss’s boss two or three levels up.

McKinney Citizens Are Being Duped.

Here is where the Fire & Police Unions laugh all the way to the voting booth. Citizens are under the impression that there is a massive amount of support for a candidate. However, do this math:

  • How many people are in these two departments?
  • How many of the employees of these two departments belong to the Union?
  • How many of those employees actually live in McKinney and are eligible to vote?
  • How many of those voting are doing their own thinking or just following the Union leadership?

Wouldn’t it be funny if having the Police & Fire Union blatant support isn’t really generating that much political favor if the rank and file, not to mention the other city employees, quietly vote the opposite? I don’t know the exact numbers, but I’m guessing there are a small handful of actual employees making it appear has if the entire forces are championing a candidate. Politically brilliant, I suppose, but a charade.

Conclusion.

Citizens, be suspicious of this aspect of McKinney’s Underground Government. It’s real, and the only way it is ever going to change is by new blood. 1-2-3-4.

I will continue to be a cheerleader for all employees in local government. But I will always see a red flag when an employee Union is deliberately trying to manipulate an election! LFM.

Is McKinney Sandbagging Revenue Estimates?

McKinney is asking for citizen input for the upcoming budget at tonight’s meeting. Since most citizen comments are limited to only three minutes, I am opting to blog my observations on sales tax revenue assumptions.

I monitor sales tax revenues for every city, county, transit authority and special district in Texas every month. That would be over 1,600 local governments. Due to the beating levied on the oil patch regions in Texas, the total collections have been relative flat for about 18 months. But the total $8 billion annual local government base has been stable and is now growing again.

However, while many regions have suffered, that is not the case for others such as in North Texas. The collections have been robust in the DFW area. Let’s look at McKinney in particular. On a Rolling 12-month (R12) basis, there has been constant growth at an impressive rate since the Great Recession. As of April 2017, the City has collected $48,852,787 in the last 12 months, the highest ever. Just about every month is another record breaker.

The annualized growth rate is 11.34%! The R12% is the most telling and sensitive indicator of growth. It will announce slowing, peaking, bottoming and recovering points way before you can grasp the changes in dollars. The R12% is an incredibly robust metric for McKinney. Double-digit growth is difficult to sustain. But half that amount isn’t.

April 2017’s check was $216,062 higher than April 2016 or 6.57% more.

By the way, you can see the anomalies such as the positive $5 million + Audit Adjustment McKinney received back in 2011. The R12 spiked for exactly 12 months and then returned to its strong growth trend.

But let’s shift our attention to the Sales Tax Per Capita calculation. On a statewide level, Texas local governments are receiving $161.86 per capita on a 1-cent basis. McKinney is collecting $139.32 on that same basis. That can be translated into $3,951,225 below average or twice that amount since McKinney collects the full 2-cents allowed for local governments. But we knew that even before the City spent money to have a “leakage” study done in recent years.

McKinneySalesTaxChart

But let’s put $139.32 per capita into perspective. I prepared the chart below a few months ago and have not updated it. However, the value remains. It is instructive to look at McKinney’s Sales Tax Per Capita when you can see several years of history and adjust the calculations for inflation (CPI).

You can see the fluctuations that come from a mix of population growth and economic peaks and valleys.  You can see clearly where McKinney has been in recent years. This metric was $133.26 at the end of the fiscal year 2016. I had projected that it would rise to at least $137.81 at the end of the current fiscal year and then up to $139.61 at the end of FY 2018, the budget year for which input is being requested. I was intentionally slightly conservative. I used an inflation rate of 1.75% when it is likely to be above 2.00%.

This estimate translates into the following, again, on a 1-cent basis:

  • FY 2016 $23,594,961 Actual without any audit adjustments.
  • FY 2017 $24,917,139 or 5.60% higher than FY 2016.
  • FY 2018 $26,367,347 or 5.81% higher than FY 2017.

So, there’s my input.

PerCapita

In looking at the agenda packet for tonight, I find a presentation that indicates a sales tax growth rate of 2.06%! It does not say whether the growth rate is going to be applied to the 2017 Budget, the 2017 Revised Budget or any other base. That’s important. It appears to be scientific in that it is the composite of the Fed Median GDP Projection; the 10-Year Dallas Fed PCE; the 10-Year Rolling Average; and the Low 5-Year Average.

Hold on a second. I’m not sure any those are logical linkages. Here is what I do know. I have prepared some very sophisticated sales tax modeling algorithms in my career. And no matter the degree of complexity or academic statistical excellence I worked into the model, my last step had to include dividing the numerator by the denominator (residential population and employment) to come up with a Sales Tax Per Capita value.

Questions Abound

On the surface, the concept of making conservative estimates sounds noble and smart. But here is the problem. Actually, there are several problems. If you are too conservative (lowering revenue estimates and raising expenditure assumptions), then what is there to manage?

One can brag about how the spending came in under budget. Big deal. Not to hard to do with enough padding.

One might even brag about how money has been “found” mid-year to come in and save the day for new need, especially a political need. In my career, I have seen how eventually nobody needs to fight for resources during the budget. Just know that the real budget “tightening” will come when the budget is revised mid-year in face of the true income and spending levels. Except “tightening” can turn into new-found money (oh how I hate that phrase).

The net result of being overly conservative, other than the kudos for rescue funding mid-year, is that reserves get boosted. But then that argument gets abused. If you have 60 days of operating reserves, wouldn’t 90 be better? Well, if big is better, then why not build reserves up to 180 days. Where do you stop?

Next, comes the most insincere and most abused argument of them all: “the bond rating agencies want big reserves or else they will drop the bond rating.”

Rage sets in on me. I’ve watched the McKinney finance staff shut down a legitimate question asked by a councilmember by simply invoking the “Bond Rating Agency Threat.” Grounds for dismissal in my book. Especially the Deputy City Manager who directs the financial staff. He knows the game, and recent abuses have been on his watch.

But here’s the deal. The bond rating agencies place a high degree of emphasis on fiscal management, including controls and planning. They will even hang with you if you are in trouble. They mainly want to know a couple of things: 1) do you know you are in trouble; and 2) do you know how to get out of trouble?

Want to know how the bond rating agencies will react to something? Go ask them! They are approachable. Plus you pay them a big fee to be rated.

Here’s something else I know. McKinney is flush with reserves after years of overly conservative budgeting. I won’t be handing out a badge of honor for big reserves when there are legitimate needs for spending – or to cut the tax rate.

And I know this. Overly conservative sales tax budgeting boosts the need for property tax revenues. It works like this. A penny on the tax rate produces about $1,700,000. A one percent change in the sales tax revenue equals about $260,000. Low ball the sales tax revenue by 4% and you need the property tax rate equivalent of $1,400,000 or a TRE of about 6/10 of a penny. ($260,000 x 4) / $1,700,000.

So, do this at the McKinney meeting tonight: ask for the Budget vs Actual for Sales Tax Revenues for the past five years. Ask what the revised FY 2017 sales tax revenue estimate is expected to be now that nearly half the year has gone by. LFM

BTW, if you want to see the first chart for every entity in Texas, you can download my charts I prepare monthly. It’s a big PDF file.

You can view “StatewideCharts201704.pdf” at: https://files.acrobat.com/a/preview/8bd7f399-4e3a-48e0-a717-50b9b92e7125

Distractions

The reason I went dark from November 11, 2016, until now is that I have been distracted.

Not all distractions are attached to bad reasons. But they are distractions just the same.

Maybe it started with the presidential elections. The person I voted for won the election. I was surprised and ecstatic. I predicted if he won that he would be a train wreck. If so, let ‘er rip! I’m tired of talk, talk, talk. Dumb Republicans had eight years to groom a candidate but let an Independent steal their party. They got what they deserved.

But after I suffered for eight years and never complained publicly, I’ll not spend a second listening to the whiners who want to protest at sufficiently loud levels as if the more noise will rewind history. Rally all you want. I can’t hear you!

I equally despise Republicans and Democrats. And most of all, the Tea Party. But I do have one good thing to say about the TP (and only one), which I will save for a future blog.

For a long time, I have cherished silence. That need is growing. I opted to send my sister-in-law in my place on a family cruise at the last minute in early March. I spent a week in silence, just working. I watched zero on TV, and still have not turned on my office TV. I deactivated my FaceBook account and still have not reactivated. Same thing for LinkedIn. And Twitter. I do get plenty of news alerts that I read since news is one of my primary businesses. Silence is golden to me.

I am distracted by McKinney politics. Well, until I checked out a few months ago. McKinney is run by an underground that key people in the know will not deny. They also won’t do anything about it. In fact, they have winked for so many years that newbies know no difference and aren’t about to mess up the favoritism playpen. That might change with this upcoming election. Hope so. But it’s going to take some major changes on the Council and inside City Hall.

It bothers me that AG Ken Paxton is abusing the legal system to save his hide. I’m sitting in the middle of Collin County, his Mother Ship, and his nature of doing business up here is legendary. He is bad, but his worshippers won’t admit it.

It got distracted by Bruce Springsteen standing up in a foreign country and telling the world he came to them as an embarrassed American. I was okay with his rants and others before the presidential election, but I was ready to puke when he (and others in the entertainment industry) wouldn’t give it up after the election. After listening to him every single day for decades and giving my family instructions to bury me in one of my Springsteen shirts, he is dead to me. He does not exist. But, honestly, I am grieving. You would have to know what his music and performances meant to me to understand.

Perhaps distractions are affecting me differently since I am turning 70 this year. I don’t feel THAT old. My mind says I am much, much younger. Or so it seems. But my preferences are to stay in my cockpit of two computers and ten monitors to work, think, analyze. And maybe even start writing again.

I’ve sworn off going to conferences. The last one I attended included me falling off the back of the stage just before I spoke. The one before that I forgot my conference clothes and came back from Houston before it even started. The one before that I had to return just before the conference started due to my mother’s impending death. I think the message is clear: stay in your cockpit, Lewis!

I have had some health distractions. Nothing serious, yet, but true distractions.

When I said that not all distractions have been bad, I was particularly thinking about a project I am working on with a client under new city management leadership. It is a multi-year contract to provide an entire series of budgeting, long-range planning, utility rate studies and more. I am considering it to be my final exam regarding just about everything I have done in my 44-year career. I am having a blast.

I started part of this approach years ago, but now I have a real application. I am calling it McLain’s All-In, Top-Down, Visual Skinny Budgeting or Skinny Budgeting (I was using the term before Trump picked it up). If I could work “No Stone Left Unturned” into the title, I would do it. More on that subject over the next few months. It is a dream project for an analyst like me.

Related, I have closed my Confidential Sales Tax Reporting & Analysis work to only current clients until 2018 so I can focus on just them as well as my new project. I have a great client base of 15 cities plus DART that includes 13 cities.

In my career, I have done hundreds of workshops, presentations, and analyses for no compensation. Willingly. To serve the entire municipal family is an honor. I am changing that slightly. I won’t be doing any presentations in the future. Too many rude people in the audience checking their phones for messages or talking.

The exception will be a workshop I am going to do in a few months to promote Skinny Budgeting. I won’t be seeking new clients for anything other than fee-based training. I just want to see the approach used in governance and fiscal policy decisions.

On the other hand, I love one-on-one conversation. I am happy to meet with anyone willing to come to McKinney to chat over a cup of coffee. I also will usually respond quickly to an emailed question on just about anything within my knowledge base, which is narrowing. I treasure my pen pals.

My blog will provide a considerable amount of my thoughts and analyses for those who sign up through http://www.citybaseblog.net. I feel called to write, but the time competes with everything else I do.

Otherwise, I plan to take care of my CityBase subscribers, my Confidential Sales Tax Clients and my one Skinny Budgeting client.

I’m not sure about where I might head blogging about McKinney politics. If the governance and culture do not change, McKinney politics will be dead to me. Not worth it. Life is too short. But I am hopeful that some will leave and go crawl in a hole somewhere. And that some staff who are part of the underground will be run off. We’ll see. LFM

Captain Obvious To The Country of Oblivious: The Math Won’t Compute Forever!

I am approaching my ten-year anniversary of writing about a subject that causes me to feel like Captain Obvious speaking to the Country of Oblivious. Some of us are numbers people, some picture people and others word people. I like all three and try to use every tool to communicate. There are five charts below. Let me see if I can summarize them succinctly.

Chart I shows the US outstanding debt from the early 1980s through September 30, 2016. Think Presidents Reagan through Obama. We now owe $19,573,444,713,936.79 in debts. To place $19.6 trillion into a proper perspective,  I have shown this mountain of debt on a per household basis and then adjusted for inflation. The load has risen from $33,017 to $164,695 per household for 4.99x over the relatively short chart period.

This does not include the present value of Social Security and Medicare, which have estimates of over $100 trillion according to the Dallas Federal Reserve. This does not include your personal debt, nor any state, county, city, ISD or special district debt, including the present value of retirement benefits.

Chart II looks like a portion of Texas. It’s the cumulative amount of debt attributable to operating deficits. Here is a recap (in $millions).

               The Total Deficit as of 9/30/1980              $     907,707.
               Deficit Spending Since                                  $11,822,278.
               Debt Sub-total                                                $12,729,985.
               Debt Outstanding at 9/30/2016                 $19,873,445.
               Difference (Off Books???)                            $  7,143,460.

Yes, the debt has soared. By every President and every sitting Congressional Member no matter the party in control since 1980. Chart II also shows the percentage of overspending on the disclosed operating budget. Right now we are at about 17.98% and have averaged about 20% over the chart period. One way this metric could be interpreted is to say that revenues would need to be raised or expenditures cut (or a combination thereof) by 20% to just breakeven on the disclosed budget and probably about another 10-15% to cover the Off-Books spending. That might stop debt from growing but not pay off a penny of the $19 trillion. Raise your hand if you believe either will happen.

I’m pretty sure my 8th grade granddaughter is working story problems more difficult than this one to figure out where things are heading.

 Charts III and IV give us an idea about how we are pushing the limits on what we can expect to be milked from the overall potential revenue base. All you have to know is that every dollar of our annual Gross National Product totals about $19 trillion. And the US government revenue base is $3.3 trillion. Logic would say that if the federal government is taking in 17.20% of the GNP, that’s big no matter how you measure it. Again, layer the state, county, ISDs and other special districts and … you just have to appreciate reasonable limits.

 Chart V is just one of the fabricated and dangerous aspects to the reason we haven’t collapsed since I started predicting so ten years ago. The inflation and interest rates can be manipulated by the Federal Reserve. It has now been so long that many of the newer families and employees don’t realize what has happened. To control rising Social Security costs and to lower the amount the US government pays on interest toward this staggering amount of debt, Chart V shines the light on the gimmick.

Interest rates on US Debt have been lowered from 8.23% in 1988 to 2.21% in 2016. The eye can figure out quite quickly the impact if we were dealing with true interest rates, rates that took real inflation and real risk into consideration. With an expenditure base of about $3.856 trillion, the interest expense of $0.433 trillion is about 11.22%. What would the 2016 disclosed budget operating deficit of about $0.588 trillion have looked like if interest costs were in the 5% range? Close to double. See the motivation our leaders have to manipulate the numbers?

There is another big issue here. Retired people hoping to make it on their 401k and Social Security benefits are getting shafted. The tendency at that age and stage is to be conservative and safe. And for the last several years that kind of thinking will earn retirees very close to zero. I never thought I would  hear serious discussions and see real actions to drive interest rates below zero. But here we are.

To be fair, many Social Security recipients and almost all Medicare beneficiaries are receiving much more out of the system than they ever put into the system – another faulty math problem that has led to the big deficits and debt.

 Conclusion.

The perfect storm is coming as it relates to the sustainability of gimmicks and outright massive spending to keep things afloat. One of the ways the Federal Government has taken advantage of low rates is to move to shorter term instruments. The problem with that is like having a 6-month mortgage instead of 15+ years. You and the lender come face to face frequently, always with the possibility that the lender doesn’t want to reinvest.

The lenders of the $19 trillion are first the government itself. The Social Security funds temporally on hand, for instance, have been used by the Federal Government to pay for operations. Those funds held by foreign countries are not a small part of the lender base. Yes, we are viewed as a safe haven, but that’s mostly because other countries are worse.

 And isn’t that a sound footing to be on? Especially as we want it all, we want it now, and we want somebody else to pay for everything. Good luck, Country of Obvious. That arithmetic is eventually going to catch up with us! LFM

 Chart I.

charti 

Chart II.

 chartii

Chart III.

chartiiiChart IV.

chartiv

Chart V.

chartv

Looking at Accounting Fundamentals for a Company Called CopSync

Introduction.

There is an Addison-based company called CopSync (NASDAQ: COYN) that has had my attention for the last couple of years. I first got interested because of their connection to AG Ken Paxton. While his world was falling to pieces over securities violations related to a company called Servergy, which appears to finally be going to trial, I got interested in CopSync. Paxton owns or at least owned a sufficient number of shares in CopSync for him to be one of the handful of stockholders disclosed in financial filings. My curiosity was whether AG Paxton was the recipient of shares of CopSync for the same reason he was for Servergy, and that was to be compensated for promoting the firm.

I’m still curious about the Paxton connection, but my attention has drifted to other aspects of CopSync. One has to do with service. However, I cannot find anything derogatory in the public domain regarding their product or services. And I’m glad. That would be my concern if so since CopSync serves local governments, which I do consider to be my bailiwick. CopSync serves a number of local governments, almost all very small.

For instance, a recent press release for CopSync states that the City of Helotes has joined their network of customers. The number of customers appears to be quite large, 530 agencies in fact. That would include thousands of police officers in 15 states across the US. I believe I have seen numbers in previous press releases of approximately 670, so I’ve got some questions about the customer base. However, 530 agencies would be an impressive number.

Yellow Flags.

I have seen some caution signs. The public relations firm for CopSync must be very effective in that I receive a Google Alert multiple times each week. One example states CopSync’s network “is the nation’s only system connecting law enforcement officers and agencies nationwide, and provides access to a national database of non-adjudicated law enforcement information and real-time communication capability to connected agencies, even those thousands of miles apart.” That just seems strange to be the ”only” system in the nation, but I could let that pass my filter. I always watch for words like “best,” but I guess that would be redundant if you are the only one out there.

My curiosity expanded when the news alerts for CopSync included highlights like “The Company is conducting pilot programs with the San Antonio PD and with the Sheriff’s Office for Bexar County.” Whoa, Baby! In my 42 years of working with local governments, the one thing I have grown to appreciate is that tricky little thing called scale. It’s the garden hose vs fire hydrant kind of scale. Nevertheless, I wish CopSync well and hope it all works out.

Although advertising hype is absorbed and discounted in most of our daily lives, that’s not the case when it comes to publicly traded companies. So then came another announcement from CopSync that caught my eye and caused me more worry. The headline in caps said “FIRST MAJOR TEXAS METROPOLITIAN AREA POLICE DEPARTMENT JOINS COPSYNC NETWORK.” Dang! Who might that be?

The subheading said “CITY OF LANCASTER, SCHOOL DISTRICT POLICE DEPARTMENT BEGAN USING COPSYNC THIS SCHOOL YEAR.”

So, which one is it? The City of Lancaster? The Lancaster ISD? Both? It would appear to be both. Until you read deeper where after a confusing “The City of Lancaster Independent School District,” paragraph (an animal that does not exist) speaks only about LISD. I contacted the City of Lancaster Police Chief to confirm it is LISD but not the City. Honest mistake? Maybe. But strange for a company born in Texas and is being raised in Texas by Texans.

Red Flag.

Being a numbers person is both a blessing and a curse. When a stock price gets too high for some investors, it is not unusual to have a 2:1 or 3:1 split. The reverse is also true. You have to be a certain size stock price to be traded on the primary exchanges or be eligible for the big institutional buyers. However, on October 13, 2015, CopSync announced a 1-for-50 reverse stock split. Wow! Now, that will get your attention.

However, all did not go well apparently. This penny-stock only reached a high of $9.55 between when the CopSync shareholders approved the reverse split and when it became effective. But what happened after the peak of $9.55? As you can see from the chart below, the CopSync stock has steadily declined to a low or $0.70 on October 6, 2016. Since then it closed at $0.7780 last Friday. That doesn’t look very promising.

copsync

Bigger Red Flag.

What do the stockholders know that most people do not know, including the purchaser of CopSync’s goods and services? I was also puzzled by the CopSync news alerts that appeared to be nothing but good news. I saw a headline that said CopSync’s Gross Profit Margin was 29.00%. That’s when I started doing some digging. In fact, I went back to the beginning and started comparing financial statements and SEC filings for the last ten years. I was more than a little shocked. It is not at all unusual for a start-up company to have a few years of losses.

To be sustainable (a “going concern” in accounting vernacular), a business must eventually make a profit unless two things happen: 1) somebody loans them money from a bottomless well and/or 2) stockholders keep putting money in the company in hopes that they will not only get their money back but make a profit.

Since 2008, CopSync has had revenues of $28,989,455 and Cost of Revenues (mostly hardware and software costs) of $21,256,922 for a Gross Profit of $7,732,533. But that is just the first line of value on the Income Statement. Yep, if you are going to choose one number to highlight, there you go.

But wait, as the late night Veggie-Matic commercial goes, there’s more. There are three big other expenses for General & Administrative, Research & Development and Sales & Marketing. These three big guys have totaled $36,292,758 since 2008.

That means the Loss From Operations totaled $28,560,225 since 2008! Another deduction for Other Expenses such as Interest Expense totals $4,139,400 for a total loss since 2008 of $32,699,525.

How does a company that has a Net Loss of $32,699,525 since 2008 stay in business? Especially when the losses from 2012 through 2015 are -$4,287,930; -$3,839,856; -$4,328,467; and -$6,505,422. And then it gets worse as the first six months of 2016 show a loss of -$5,314,063.

The answer to that question is a variety of loans from vendors, owners and spouses of owners. There is even a footnote about a big loan from the Pharr, TX EDC that was later hoped to be turned into a grant. Vendors have apparently been paid in stock.  There is a much larger part of cash that has come from additional stock issues and the stock Uplist, presumably from the reverse split.

Conclusion.

My concern is not about CopSync. I hope they make it, but I personally don’t see how the financial arithmetic is going to work out. If their plan is to sell their base of customers to an outside firm, it would seem to me that income from the sale of equipment and services is going to have to double to break even.

If CopSync is hoping to land the big one – as their PR suggests – then two questions come to mind. Are they planning to price their incremental services to subsidize the current base of small guys? Also, there are absolutely tons of stories in the business world of companies that are doing well (making a profit) at a certain level that then collapse when they jump to a higher scale of business. Are they geared to make that happen? If it happens?

My concern is for the 530 (or whatever the number is) of agencies, mostly in Texas if CopSync can’t continue to get funding. If fact, I can’t imagine what group of knowledgeable stockholders would put $30+ million into a company that is losing money big time – and with losses that are growing.

I actually don’t understand how CopSync has withstood the eye of the SEC and even the NASDAQ? And even the securities’ analysts that supposedly rate CopSync. Are they independent? I read the transcript of a recent earnings conference call and the questions seemed like softballs considering a company that is losing so much money.

In any case, for any of my readers considering CopSync products, kick the tires on their products and services to be satisfied there is a good fit. But also ask about how they are going to turn around multi-million dollar losses year after year. LFM