oversight

Financial Audit: Rural Telephone Bank's 1988 Financial Statements

Published by the Government Accountability Office on 1990-05-23.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

         llnit,ttd   Stat,es   General   Accounting   Office


‘GAO   ’ Report to the Congress




         FINANCIAL AUDIT
         Rural Telephone
         Bank’s 1988 Financial
         Statements
 ,


      United States
GAO   General Accounting Office
      Washington, D.C. 20648

      Comptroller General
      of the United States

      B-159292

      May 23,199O

      To the President of the Senate and the
      Speaker of the House of Representatives

      This report presents our opinion on the Rural Telephone Bank’s (RTJ3)
      financial statements for the fiscal year ended September 30, 1988.
      Reports on RTB'S internal accounting controls and on its compliance with
      laws and regulations are also provided.

      The Rural Telephone Bank was established in 1971 to provide supple-
      mental financing for the Rural Electrification Administration’s tele-
      phone program borrowers. The Rural Telephone Bank and the Rural
      Electrification Administration are agencies of the U.S. Department of
      Agriculture.

      We are required to conduct an audit of RTB at least once every 3 years
      under the provisions of the Government Corporation Control Act (31
      U.S.C. 9106). To fulfill our responsibility, we contracted with an inde-
      pendent certified pyblic accounting firm to conduct a financial and com-
      pliance audit of RTB for the year ended September 30,1988. We
      determined the scope of the audit work; monitored its progress at all key
      points; reviewed the working papers of the certified public accountants,
      KPMG Peat Marwick; and performed other procedures as we deemed
      necessary. Our examinations were conducted in accordance with gener-
      ally accepted government auditing standards.

      In our opinion, and consistent with the opinion of KPMG Peat Marwick,
      RTB’sfinancial statements present fairly, in all material respects, its
      financial position as of September 30, 1988, and the results of its opera-
      tions, changes in stockholders’ equity, and cash flows for the year then
      ended, in conformity with generally accepted accounting principles. The
      September 30, 1987, financial statements, which are presented for com-
      parative purposes, were not audited and, thus, no opinion has been
      expressed on them.

      The report by KPMG Peat Marwick on internal accounting controls, with
      which we concur, discloses a reportable condition concerning RTB'S
      methodology for estimating its provision for losses on loans. RTB'S
      method did not consider prevailing economic conditions, the quality and
      quantity of loans, and other relevant factors which could adversely
      affect the accuracy of RTB'S financial information. RTB has responded



      Page1                                     GAO/AFMD-90-69RuralTelephoneBank
                             El58202




                             that it will analyze its reserve balances and evaluate necessary changes
                             to the methodology for estimating its provision for losses on loans.

                             KPMG Peat Marwick’s report on compliance with laws and regulations,
                             with which we also concur, disclosed nothing to indicate that RTB had
                             not complied with applicable laws and regulations that could have mate-
                             rially affected its financial statements, However, KPMG Peat Marwick
                             did report a compliance item that should be highlighted. Specifically, RTB
                             did not obligate at least $177,046,000, the minimum amount of direct
                             loans authorized for fiscal year 1988, pursuant to Public Law 100-202.
                             RTB committed to lend $80,139,000, which was the total amount of loans
                             applied for during the year.

                             During the course of its audit, KPMG Peat Marwick also identified sev-
                             eral matters which, although not material to the financial statements,
                             were communicated to RTB in a separate management letter.


Distribution of Excess RTB   As discussed in section d of note 6 and presented in RTB'B Statement of
Reserve                      Changes in Stockholders’ Equity;Public Law 100-203, the Omnibus
                             Budget Reconciliation Act of 1987, requires that RTB transfer the bal-
                             ance in its reserve for contingencies to a reserve for losses due to inter-
                             est rate fluctuations. At September 30, 1988, the balance in the reserve
                             was $98,267,903. In our March 1989 report, Reserve Accounting: Rural
                             Telephone Bank’s Reserve for Losses Due to Interest Rate Fluctuations
                             (GAO/AFMD-89-E), we concluded that a $10 million reserve for losses due
                             to interest rate fluctuations appeared to be more than reasonable. We
                             recommended that remaining amounts in the reserve in excess of
                             $10 million plus 1988 profits not yet designated for a specific use be
                             distributed as stock dividends to RTB'S borrowers who hold RTB Class B
                             stock. Subsequently, as disclosed in note 9, RTB'S Board of Directors
                             amended the bylaws to provide for a stock distribution of the excess. To
                             comply with the recommendation and the change in the bylaws, RTB dis-
                             tributed approximately $126 million in patronage refunds on its Class B
                             stock during fiscal year 1989.




                             Page 2                                     GAO/APMD-90-69Rural TelephoneBank
\
    B-159292




    We are sending copies of this report to the Director of the Office of Man-
    agement and Budget, the Secretary of the Treasury, the Secretary of
    Agriculture, the Administrator of the Rural Electrification Administra-
    tion, and the Board of Directors of the Rural Telephone Bank.




    Charles A. Bowsher
    Comptroller General
    of the United States




    Page 3                                    GAO/AFMD-904%Rural TelephoneBank
Contents


Letter
Auditors’ Opinion
Auditors’ Report on
Internal Accounting
Controls
Auditors’ Report on                                                                           10
Compliance With
Laws and Regulations
Financial Statements   Statement of Financial Position                                        12
                       Statement of Operations                                                13
                       Statement of Changes in Stockholders’ Equity                           14
                       Statement of Cash Flows                                                16
                       Notes to Financial Statements                                          18




                       Abbreviation

                       RTB       Rural Telephone Bank


                       Page4                                    GAO/AFMD-90-69Rural TelephoneBank
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    Page 6   GAO/AFWD-90-69
                          Rural TelephoneBank
Auditors’ Opinion



        1111              Peat Mat-wick
                          Certified Public Accountsnta

                          2001 M Street. NW.
                          WashlnQton. DC 20036




         The Comptroller  General
         U.S. General Accounting               Office

         The Board of Directors
         Rural Telephone  Bank:

         We have audited       the accompanying       statement       of financial        position           of the Rural
         Telephone     Bank    as of      September     30,     1988,     and the       related           statements     of
         operations,     changes     in stockholders’        equity     and cash flows          for        the year then
         ended.      These    financial      statements       are     the    responsibility               of    the  Rural
         Telephone     Bank’s    management.      Our responsibility           is to express              an opinion     on
         these financial      statements     based on our audit.

         We conducted          our     audit     in     accordance        with      generally      accepted        auditing
         standards      and Gcrvcrnmtnt                                      issued     by the Comptroller          General
         of the United         States.       Those standards          reduire      that    we plan and perform             the
         audit    to obtain       reasonable        essurance       about    whether      the financial        statements
         are free       of material       misstatement.            An  audit     includes      examining,      on    a   test
         basis,      evidence      supporting        the    amounts       and disclosures           in    the    financial
         statements.         An audit      also    includes       assessing      the accounting        principles        used
         and significant           estimates       made by management,               as well      as evaluating            the
         overall     financial      statement       presentation.         We   believe      that  our   audit      provides
         a reasonable       basis    for our opinion.

         In our opinion,       the financial      statements        referred      to above present        fairly,     in
         all    material   respects,      the financial       position       of the Rural Telephone             Bank as
         of September      30, 1988, and the results              of its       operations    and its      cash flows
         for     the year    then     ended in conformity            with     generally     accepted      accounting
         principles.       The   statement    of   financial       position      of    the Rural     Telephone      Bank
         as of September       30. 1987. and the related             rtatsments       of operations,      changes in
         stockholders’      equity,     and cash flows       for    the year then ended were not audited
         and, accordingly,        we do not express       an opinion        on them.

         In addition         to     this      report      on our        audit      of   the   Rural      Telephone    Bank’s
         September      30. 1988 financial               statements,        we are also         reporting      on our study
         and   evaluation        of internal         accounting          controls      and compliance         with laws and
         regulations.          During       our audit,       we identified          matters     that    do not affect     the
         fair     presentation           of     the    financial         statements,        but      nonetheless     warrant
         management’s         attention.           We are        reporting        them separately          to the General
         Accounting      Office      and the Rural Telephone               Bank.




         June    30.   1989




                                   Page 6                                                                     GAO/APMD-9069Rural TelephoneBank
Auditors’ Report on Internd
Accounting Controls


         -Peat                           Marwick

                             2001 M Street. N.W.
                             Wash~naton,DC 20036




         The Comptroller   Goneral
         U.S. General Accounting                Office

         The Board of Directors
         Rural Telaphono  Bank:


         We have audited   the financial                   etatemente    of the          Rural     Telephone   Bank (RTB) a8
         of and for    the year   ended                  September    30. 1988,            and     have ierued    our report
         thereon dated June 30. 1989.

         We conducted        our     audit     in   accordance      with      generally     accepted     auditing
         standards    end p                                             ieaued by the Comptroller         General
         of the United       Starer.       Thoee etandarde      req:ire      that    vo plan and perform         the
         audit     to obtain    reasonable       eeeurance    about     whether     the finencial    statements
         arc free of material         mirrtatement.

         In planning      and performing      our audit      of the financial        etatements      of RTB for
         the year     ended September        30,   1988,     we performed        a study     of the internal
         control    atructura     in   order     to determine        our   auditing      procedureo     for the
         purpor*   of expreesins        our opinion       on the financial          statements      and not   to
         provide  aeeuranco    on the internal       control    rtructura.

         The management             of RTB ie reeponeible                     for     ertabliahing          and maintaining            an
         internal       control        rtructuro.         l[n fulfilling           thir     reeponribility,          eetimatos        and
         judpent#         by menagement              aro    required         to aeeeee          the expected          benefits        and
         related       eo8U       of      internal       uontrol        structure        policiee        end procedures.              The
         objectivre         of an internal              oantrol       rtructuro         are to provide             management with
         rearonable,          but not abrolute,              aaeurance          that     aeeota       are eafeguardod          against
         lore     from unauthorized               uee OF dirpoeition            , and that         traneactions        are executed
         in accordance           with      managemenCts authorization                   and recorded         properly      to permit
         the preparation             of finencial         statements          in accordance           with   generally       accepted
         accounting          principler.             Because       of      inherent        limitations          in    any    internal
         control      rtructure,           errors     or irregularities              may novorthelosr           ‘occur end not be
         detected.          Alro,        projection        of any evaluation                 of     the structure         to    future
         periods      is subject            to the rink that proceduree                    may become         inadequate       because
         of change         in conditionr            or that      the effectivenear              of the design and operation
         of policies         end procedures           may deteriorate.




                                       Page 7                                                                           GAO/~-9989          Rural TelephoneBank
                                 Auditors’ I&port on Internal                                                                                            ,
                                 Accounting Controls




    For the purpose         of this     report,      we have clsssified         the significant          internal
    control      structure    policies      and procedures        in the following         categories:         loan
    receipts,        loan disbursements,         treasury,     and financial        reporting.         Our study
    included      all    of the control       categories     listed    above and it was more limited
    than      would     be necessary       to   express     an opinion         on tho       internal       control
    structure       taken aa a whole or on any of the control                categories.

    We noted one matter             involving     the internal          control      structure        and its operation
    that we consider            to be a reportable             condition        under standards          established         by
    the American        Institute       of Certified        Public      Accountants.           Reportable       conditions
    involve     mattors       coming to our attention                relating       to significant           deficiencies
    in the deeign           or operation       of the internal               control       structure       that,      in our
    judgment,       could        adversely     affect        the      organization’s            ability       to     record,
    process,     rtnmariso,         and report       financial        data consistent            with    the assertions
    of management         in the financial          statements.           Wo noted one reportable                 condition
    ae follows:

              l    RTB has not             updated       its      methodology             for estimating              the
                   provision         for loss on loam                  rince       the early          1970’s.         The
                   method         presently         used         does        not       consider           prevailing
                   economic        conditions,         the quality            and quantity              of loans        in
                   the portfolio,             or other           relevant         factors.            In addition,
                   RTR relies            on limited           financial           analyeia         and unaudited
                   financial         information        for annual            evaluations           of borrowers’
                   financial          status.       We underrtand                that      historically           there
                   have        been       few      RTB       borrowers            who        have        experienced
                   difficulty           meeting       debt        ret-vice         requirements,             yet      the
                   current       method       incrementally              increaser          the provision             for
                   loss       on loans        each year.             Based on the history                       of the
                   telephone         program,       we recommend RTB consider                         revising        its
                   method       to discontinue             the incremental                 provision        for     loss
                   increase8,             establish           procedures              for        reviewing            the
                   finencial          condition       of all         borrowers          on an annual              basis
                   and annually            determine         the adequacy             of the provision                for
                   lose on loans.

    A matorial      wealmesa is a reportable           condition    in which the design         or operation
    of     the specific     internal      control     structure     elements       does not     reduce   to a
    relatively      low level      the risk     that    errors   or irregularities         in amounts     that
    would be material         in relation       to the financial        statements      being    audited   may
    occur      and not be detected       within      a timely    period    by employees       in the normal
    coursa of performing         their  assigned      functions.

    Our consideration         of    the internal         control      structure       would   not      necessarily
    disclose   all      matters       in   the     internal       control       structure       that      might      be
    reportable     conditions       and,    accordingly,         would     not    necessarily        disclose      all
    reportable   conditions        that    are also       considered        to be material        weaknesses         as
    dof ined above.       However,      we do not believe          the reportable         condition        described
    above is a material        weakness.




Y




                                                                                                                         GAO/AFMD4MM9   Rural Telephone Bauk
                            Auditors’ Report on Internal
                            Accounting controls




                                                        3

    We also noted other     matters    involving   the internal             control   structure    and its
    operation    that we have reported      to the management          of    RTB in   a separate     letter
    dated   June 30, 1989.

    Thie report      is intended      for   the information      of RTB and the General       Accounting
    Office.     This    restriction       in not intended      to limit   the distribution       of this
    report,  which is a matter          of public    record.




    June   30.   1989




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                           Page 9                                                            GAO/AFMD-90-69   Rural Telephone Bank
Auditors’ Report on ComplianceWith Laws
and Regulations


          -Peat                          Marwick
                             Cartitied Publlc Accountants

                             2001 M. Street. N.W.
                             Washlngfon. DC 20036




         The Comptroller     General
         U.S. General    Accounting          Office

         The Board of Directors
         Rural Telephone  Bank:

         We have audited   the financial                statements    of the Rural      Telephone   Bank (RTB) aa
         of and for    the year   ended               September    30, 1988,   and      have issued    our report
         thereon dated June 30, 1989.

         We conducted        our     audit      in     accordance      with     generally     accepted    auditing
         standards    and Governmsnt                                      issued    by the Comptroller      General
         of the United       States.       Those standards         ra&re       that    we plan and perform        the
         audit     to obtain    reasonable         assurance     about    whether     the financial    statements
         are free of material         q iaatatement.

         Compliance    with      law; and regulations          applicable        to RTB is the responsibility
         of RTB’s manageaurnt.           Aa part     of obtaining       reasonable      assurance        about whether
         the financial       statements     are free of material            misetatemant,      we performed       tests
         of RTB’s compliance          with   csrtein     provisions        of the Rural       Electrification        Act
         of 1936. ‘a8 mended            (7  U.S.C.     901-95Ob):       the Anti-Deficiency            Act    (31 U.5.C
         1341. 1342. 1511 - 1517) and the Continuing                      Appropriation      Act for fiscal         year
         1988 (Public        Law 100-202).          However,     our     objective      was not        to provide      an
         opinion    on overall      compliance     with such laws.

         The results      of our teets    indicate      that,    with    respect      to the itemo tested,           RTB
         complied,      in all   material      respects,       with     certain        provirions      of    the   laws
         referred     to in the preceding          paragraph      of this       report,       and with     respect    to
         itemr    not terted,   nothing    came to our attention             that caused ua to believe             that
         RTB had not complied,         in all   material      respects,       with     those laws.        Kowever.    we
         noted the following       item we believe        should be highlighted.




                                  Page     10                                                            GAO/AFMD80-69      Rural   Telephone   Bank
                          Auditors’ Report on Compliance With Laws
                          and Regulations




                                                          2


         The continuing          resolution        for    fiscal         year       1988 (Public       Law
         100-202)      provided       that     the principal              amount of direct             RTP
         loans    shall      not    be less         than     $177,045,000              nor more than
         $210,540,000       during      fiscal    year 1988.             Eowever,         RTB coeraitted
         to lending        only     $80.139,000         during        fiscal         year    1988.     Our
         audit      test&l      determined           that      of         the       amount      of     RTB
         telephone-insured          loans applied           for during            fiscal     year 1988,
         no smounte were denied.                 Thus, RTB was not able to obligate
         the minimum         amount available             to it          for      direct      RTE loans
         because     the demand for such loans                   fell       short      of the minimum
         requirement.

This report    is intended  for the information                        of     RTE and the General        Accounting
Office.     The restriction    is not intended                    to        limit   the distribution        of this
report,  which is a matter    of public  record.




June   30.   1989




                          Page 11                                                                        GAO/AFhID-90-69   Rural Telephone Bank
Financid Statements


Statement of Financial Pocrition

                                                                             September 30, 1988
                                                             (with        comparative  balances for               1987)



                                                                                                                    m.8
                                                                                                                                    (una%ed)

                           Funds    with  U.S. Treasury                                                    $      188,376,434         81,224,991
                           Investment     sccurttier       (note 3)                                                    805,151            805,155
                           Loans, net of allowance             for loan losses
                               of $5,512,000         in 1988 and $5,295.000
                               in 1987 (note 4)                                                                1,407,898,557       1,441,307,857
                           Accrued   interest       receivable                                                     10.709.251           9,867,701
                           Other aeeete                                                                                      402                 450

                                                                                                           $1.607.789.7951.533.206.154



                           Liabilities:
                               Account8   payable                                                                       683,947             8,015
                               Loans payable     to the U.S.                 Treasury     (note       5)           758.762.000       758.762.000
                               Accrued  interest    payable                                                    -.-u&am-

                                              Total        liabilities                                         -777.895.606

                           Stockholders’       equity      (note 6):
                               Investment      of U.S. government         - Class A
                                  stock,     $1 par value;       600,000.000     shares
                                  authorized                                                                      505.950,000        477,240,OOO
                               Investment      of others:
                                  Claes B stock,          $1 par value                                            181.402,657        165,320,340
                                  Clasr C stock,          $1,000 par value                                          6,787,OOO          2,949,OOO
                                  Patronage      capital:
                                     Designated       for contingencies                                                                76,781,352
                                     Reserve for interest           rate fluctuations
                                         (note 9)                                                                  98.267.903
                                     Patronage     capital      earned                                             36.810.697          33.0;9.856

                                              Total        stockholders’             equity                      829,218,257         755,310,548

                           Commitments      (note     8)


                                                                                                           $1.607.789.7951.533.206.154


                           See accompanying         notes       to       financial      statements.




                                                      Page 12                                                                            GAO/AFMD-9089   Rural Telephone   Bank
   .

                                                           Nnancial        Statements




Statement of Operation8

                                                            For the year ended September 30, 1988
                                                             (with comparative balances for 1987)



                                                                                                                  1988             l3.z
                                                                                                                               (unaudited)

                          Interest      income:
                               Interest     on loans                                                        $ 114,363,003      112,199,642
                               Interest     on U.S. Treasury  securities                                             57.075          58.058
                               Interest     on Eunds with U.S. Treasury                                       9.617.8645.722.9)4

                                                 Total      interest        income                            124,037,942      117,980,634

                          Interest       expense                                                              76.502.36776.502.367

                                                 Net     interest        income                                47,535,575       41,478,267

                          Provision       for    loan     losseo        (note      4)                         217.ono391.ooo

                                                 Net      interest        income        after   provieion
                                                        for loan        losees                                47.318.525-

                          Other      operating      income                                                    2.5281.442.352

                          Other operating    expenses:
                              Directors’  fees                                                                      12,600            17,600
                              Directors’  travel                                                                    39,890            48,532
                              Other                                                                           8.17444.890

                                                 Total      other      operating           expensea           60.664t11.022

                                                 Net     income                                             $47.260.43942.418.597




                          See accompanying             notes        to financial           statements.




                    Y




                                                            Page 13                                                                  GAO/AFMD-90-69   Rural Telephone Rank
                                                      Financial   Statement8




Stetament of Chsnges in Stockholders’ Equity

                                                                                           For the year ended September 30, 1988
                                                                                            (with comparative balances for 1987)




                                                                                             Class A         Class B         xass   c
                                                                                              stock           stock           stock

                 Fiscal    year 1987 balances    and transactions,     (unaudited):
                     Balance,    September 30, 1986                                    $ 448,530,OOO       149,451,815      1,730,000
                     Net income for the year ended September 30, 1987
                      Issuance   of Class A stock                                           28,710,OOO           -
                      Cash dividends    on Class A stock     ($.02 per share)
                      Issuance   of Class B stock    (net of rescissions)                                    2,777,OlO
                      Stock dividends    on Class B stock                                                   13,091,515
                      Cash dividends    on Class C stock ($85 per share)
                      Issuance   of Class C stock                                                                           1,219,OOO
                      Amount designated    for contingencies                                                                ---

                     Balance,    September     30,    1987                                 477,240,OOO     165,320,340      2,949,000

                  Fiscal    year 19S8 balances     and transactions:
                      Amount designated      for contingencies
                      Transfer    to reserve    for interest      rate fluctuations,
                          January 1, 1988
                      Net income for the year ended September 30, 198S
                      issuance    of Class A stock                                          28,710,OOO           -
                      Cash dividends     on Class A stock        CL.02 per share)
                       Issuance   of Class B stock      (net of rescissions)                                 4,799,677
                      Stock dividends      on Class B stock                                                 11,295,117
                       Issuance   of Class C stock
                       Cash dividends     on Class C stock       ($85 per share)
                      Class C stock cash dividends           declared   but not paid
                          ($85 per share)
                      Adjustment     to Class B stock dividends                                                  (12,477)         -

                      Balance,   September     30,    1988                             t                   181.402.657      LZ&C&&


                                                                                                       .

                  See accompanying     notes     to   financial    statements.




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                                                         Page 14                                                GAO/AFMD-99-69          Rural Telephone Bank
         .

~.                                                                                                                           -
     I

                                                        Flnanclal Statements




                                 Reserve for interest
             Designated    for    rate fluctuations      Patronage
             contingencies              (note 9)             cepital          -Total


               64,706,937                                25,312,980        689,731,732
                                                         42,418,597         42,418,597
                                                                            28.710.000
                                                         (9,398,741)        (9;398;741)
                                                                             2,777,OlO
                                                        (13,091,515)              -
                                                            (147,050)          (147,050)
                                                                             1.219,OOO
               12,074,415                               (12,074,415)              -

                76,781,352                               33,019,856        755,310,548


               21,474,074                               G?1,474,074)             -

              (98,255,426)            98,255,426
                                                         47,260,439         47,260,439
                                                                            28,710,OOO
                                                         (9,872,847)        (9,872,847)
                                                                             4,799,677
                                                        (11,295,117)             -
                                                                             3,838,OOO
                                                               1250,665)       (250,665)

                                                               C576.895)       (576,895)
                                           12,477       --




                                                         Page 1K                           GAO/APMD-9989   Rural Telephone Bank
                                                                       Financial      Statementa




Statement of Cash Flows




                                                                              For the year ended September    30, 1988
                                                                               (with comparative balances  for 1987)



                                                                                                                                       1588             l!az
                                                                                                                                                  (unaudited)

                                         Funds from operating          activities:
                                             Intereet     received                                                          $ 123.196.392         117,018,565
                                             Interest     paid                                                                   (76,502,367)     (76,502,367)
                                            Administrative         expenses paid              and other,              net                40.953        1.&W

                                                                 Net    funds provided            from        operating
                                                                       activities                                                 46.734.978

                                         Funds from investing       activities:
                                            Collections      on loans                                                            152.680.668       39.307,039
                                            Advances      on loans - including                    Class        B
                                               stock    issued                                                                  (119-488.368)     -1

                                                                 Net    funds provided            from        investing
                                                                       activities                                                                 (12.667..899)

                                         Funds from financing      activities:
                                             Proceeds  from issuance        of            stock                                    37,347,677      32,706,OlO
                                            Cash dividends    paid                                                               (10.123.512)      (9.545.791)

                                                                 Net    funds provided            from        financing
                                                                       activities

                                         Net   increase      in funds          with    U.S.   Treasury                           107,151,443       S2,420,753

                                         Funds   with     U.S.     Treasury,          beginning          of    year

                                         Funds   with     U.S.     Treasury,          end of year                           $    U.8.376.434       81.224.991




                                    il




L-
 ___   “I-   _..._   -.-_-   .-.-




                                                                       Page    16                                                                 GAO/AFMD-9049   Rural Telephone Bank
                                                          2




                                                                                               A!%!
                                                                                          (unaudited)

    Reconciliation        of net income to net funds provided
        from operating         activities:
           Net income                                                   $ 47,260,439       42‘418,597
           Adjustments       to reconcile        net income to net
              funds provided          from operating     activities:
                 Provision      for loeoee on insured           loans         217,000          391,000
                 Changes in anocts and liabilities:
                    Increaec      (decrease)      in accrued
                       in&rent        receivable                             (841,550)        (962,069)
                   Decreaee in other aeeete                                          52        127.980
                    Increaee      (decrease)      in account8
                       payable                                                675,932          (47,075)
                   Dividends        declared     but not paid             (576.895)

                      Net    funds provided        from   operating
                            activities                                  $&L?d!Bl          &928.43J



    See accompanying        notee   to financial      statements.




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                             Page 17                                                      GAO/AFMD-9049   Rural Telephone Rank
                                                  Flnaucial    Statements




Notes to Financial Statements

                                                                 September        30.     1988




                                   The Rural Telephone          Bank (the Bank) was established          on May 7. 1971, to
                                   provide     a supplemental        source    of financing       for   the Rural   Electri-
                                   fication      Administration’s        (MA)     telephone    program.      The RRA is       a
                                   credit     agency    of    the U.S.     Department     of Agriculture      which   assists
                                   organizations      with financing       of electric     or telephone    service  in rural
                                   are*s.

                             (b)   Conversion

                                   According        to authorizing       legislation      and amendments,      the Bank will     be
                                   converted        to independent       status      when 51 percent      of the Class A stock
                                   issued      to     the U.S.     govenuncnt         and outstanding       at any time      since
                                   September         30, 1985 has been fully             redeemed and retired.        When such
                                   conversion         occurs 1 the Bank will           no longer   be an agency of the U.S.
                                   Department         of Agriculture        and the President         will    cease to appoint
                                   board      members.          However,       Congress      may    continue      its  oversight
                                   responsibilities          for the Bank’s operations.



                                   Section       403(b)    of the Rural     Electrification         Act of 1936, as amended,
                                   (the      Act),     the Bank’s    enabling      legislation,       authorizes    the Bank to
                                   partially        or jointly    use the facilities            and services     of employees    of
                                   REA, or of any other             agency of the U.S. Department                of Agriculture,
                                   without       cost.

                                   The Bank’s       operations       are conducted    by RRA employees     who carry   out
                                   similar     responsibilities        under RRA’s Rural Telephone     program.   REA and
                                   the U.S. Department           of Agriculture’s    Office of General Counsel provide
                                   administrative            and    facilities     support    to   the     Bank   without
                                   reimbursement.

                         (2) h5Atmlav of SfPnificant
                             The following       is    a susssary of        the     significant        accounting     and     reporting
                             policies   followed      by the Bank.



                                   Investment securities         are stated         at     cost , adjusted     for amortization      of
                                   premium and accretion         of discount            to maturity.       Securities    are written
                                   down to market      only      when there             has been a permanent          impairment     of
                                   value.


                                                                                                                            (Continued)




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 --__--




                                                  Page 18                                                                     GAO/AFMD-9049   Rural Telephone Bank
.


                                         Flnanclal Statements




              (b) Lpana
                    Loene are stated at unpaid principal     amount net of the allowance for
                    loen loeeee.   Interest on loans is accrued at a level rate of return
                    over the term of the loan.   Origination   fees are not charged on loans
                    issued.




                    The allowance for loan losses is management’s current estimate of the
                    anticipated   loeeee in the present loan portfolio.      The allowance is
                    increased by provisions    charged to operating expenses end decreased by
                    loan charge-offs   net of recoveriee.



                    The    Bank    ir   en instrumentality      of the United     States   and is not subject
                    to income       texet3.

              (a)   Donatad

                    As   previously    stated, the R8A and the Department of Agriculture’s
                    Office     of   General Counsel provide    administrative      end facilities
                    support to the Bank without        charge.   Because there is no clearly
                    q eaeurable and objective     basis for determining        the value of euch
                    rervicer ‘I donated services     are not reflected       in the accompanying
                    financial     statements.   However, amuagament estimates        the value of
                    there rervicee at approximately     $L,OOO,OOOper year.

    (3)       Invcrtmant

              The Bank’s          investment    eecuritiee      at   September   30,   1988 and 1987 are as
              followe:

                                                                 19881987
                                                                                         (unaudited)
                                                                 Book        Market    Book      Market
                                                                 yaluci!calwiyalve~
                 U.S. government bonds due
                     in 1993 (rates ranging
                     from 6.75% to 7.50%)                    $805.151760.388805.155727.573




                                                                                                   (Continued)




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                                          Page 19                                                GAO/AFMD9O89    Rural Telephone Rank
                             E%uuwial Statements




      The composition              of     loans     outstanding         at   September       30.      1988 and 1987         is    as
      follows:

                                                                                     I.288                        J.sz
                                                                                                              (unaudited)

         Loans                                                               $ 1,322,423.814              1,360,403.314
         Class B stock       (note 6)                                               90,906,743                869199,543
         L.-z-se - allowance     for loan                 losses               (5.51Looo)                 (5.295.ooo)

                     Total                                                   $ -                         J-441.307a

      Interest      rates,         all     of     which      are   fixed,    on loans        range      from     4 percent        to
      12 l/4     percent.

      Transactions           in  the  allowance                  for  loan         losses       for     the      years       ended
      September 30.          1988 and 1987 are                 shown below:

                                                                                            u..eR            l.Bz
                                                                                                         (unaudited)

         Balance     at   beginning              of year                            $ 5,295,OOO           4,904,OOO

               Provision charged to operations                                              217,000            391,000
               Loam charged off/recoveries                                             A                  A

         Balance     at   end of          year                                      J5.512.001)-

(5)   Loanr.                  to    the     U.S.    Tremurx

      On July       26, 1973,        the Bank executed          an open end note               payable     to the
      Secretary      of the Treasury          to fund loans       to be obtained           under Section         406
      of the Rural Electrification               Act of 1936, as amended (7 U.S.C.                   948).     Each
      year’s    advances       are to be repaid        in a lump sum on or before                50 years      from
      the    year-end        following      the    date     of   advance        at     a rate      of    intereat
      entablfshed        by the Secretary          of the Treasury          for      the calendar       month in
      which     each advance          is made.       The first       principal         payment     to the U.S.
      Treasury      will    be due in 2023.            As of September             30, 1968 and 1987, the
      Bank’s      cumulative        debenture     borrowings       from      the      Treasury      amounted      to
      S758,762,000,        at interest      rates    ranging   from 7.25 to 14.625 percent.

      Total    outstanding      borrowings     from the U.S. Treasury    may not exceed twenty
      times    the Bank’s      equity.       As of September   30, 1988 and 1987. the Bank’s
      cumulative      borrowing      authority     totaled $16.6 billion    and 115.1 billion.
      respectively.

                                                                                                                    (Continued)




                             Page 20                                                                               GAO/AFMD-9049       Rural Telephone Bank
.


                            Financial     Statements




    (6) Stoclrholderr’


             Claw      A stock      is owned by the REA on behalf                     of the United         States    and
             is nonvoting         stock.      The Bank is authoriaed               to issue up to $30,000,000
             par     value     of     this     stock       annually,       until       such     stock     issued      and
             outstandinS       equals       $600,000,000.          Class A stock           is to be redeemed and
             retirad     by the Bank as soon as practicable                         after     September       30, 1995,
             but not       to the axtent             that     the Bank’s         Board determines            that    such
             retiramant        will        impair       the     operations         of     the     Bank.        Class     A
             stockholders        receive      cash dividends,          payable      from income,        at a rate of
             2 psrcant       per annum.           As of September          30, 1988 and 1987, 505.950,OOO
             and 677,240,OOO shares,                respectively,        of Class A stock were issued and
             outstanding.

        (b

             Claw     B stock      ie issued    only    to loan customers       of the Bank and is
             voting     stock.    Each customer      ia raqulrsd    to purchase     such stock     in the
             amountof 5 percent of the approved loan for construction                         purpoeea.
             Tha Bank may not pay cash dividendr               on Class B stock,      but holders     ace
             entitled      to patronage    refunds     in the form of Claes B stock           dividends
             calculated        at e specified     percentage     of interest     income on loans        to
             Cla#e B rtockholdsra,         approved      each year by the Board (10 percent             in
             1988 and 12 percent        in 1987).

             Claw      B rtock      i# nontransferable,         except     in    connection    with  the
             anaumption     by the tranrferae      with    tha approval       of the Bank governor    of
             all    or part of the tranrferor’r          loan from the Bank.          A borrower,   upon
             retiring     debt with     the Bank , may exchange         Claw     B stock    for Class C
             stock.      Otherwise,    the borrower     retains    possession.       Class B stock   can
             be redeemed only after         all  shares of Class A stock            have been redeemed
             or retired.

             Subrcriptionr        receivable      for Claw           B stock     are not reflected      in the
             accaapenying       financial       statements.             When the Bank makes the first
             advance under each loan,              it issuee         the stock      applicable   to the total
             loan and charges           loan8     receivable          for   full    amount of the Class       B
             stock.       In the event        of rssciasion             of part     of the loan commitment
             subsequent      to issuance      of the stock,             the Bank rescinds      the applicable
             portion     of Class B stock and reduces                 loans receivable.




                                                                                                         (Continued)




                           Page 21                                                                       GAO/APMD-90-69      Rural Telephone Bank
                                                                                                                            I




                        Financial    Statements




    Class     B stock     at   September         30,    1988 and 1987 is     as follows:

                                                                              lm               u&7
                                                                                           (unaudited)

            Class B stock     issued       and committed
                for issuance                                            $ 109,022,940      112,655,168
            Less - subscriptions           not     recognized             n-625

                     Stock issued        based         on loans
                         originated                                        90.986.743        86,199,543

            Cumulative    patronage        refunds   (stock
               dividends)     issued       and outstanding                -79.120297

                     Total  Class B stock               issued
                         and outstanding                                $ lliULiZ          ULJ20.34Q
Cc) Clams
    Class     C stock        is issued         only  to borrowers,            or to corporations          and
    public     entities       eligible       to borrow      from the Bank under Section              408 of
    the     Act,        or     by      organizations          controlled        by      such    borrowers,
    corporations          and public       entities,      and is voting          stock.      The Bank may
    pay dividends           on Class C stock           (8.5     percent      in 1988 and 1987).           The
    number of shares            of Class C stock           issued     and outstanding        at September
    30. 1988 and 1987 was 6,787 and 2,949,                       respectively.

(d )Patronane
    Patronage       capital     is   distributed          as follows:

                      ad    for    ContingnnPiPs        and -forInterest                         Rate
            s                - Prior     to the passage of the Cminibus           Reconciliation
            Act of 1987. passed on December 22. 1987, an amount determined                          by
            the Board of Directors             (not  lees    than     10 percent    of patronage
            capital)    for    each fiscal       year was designated         for  contingencies.
            The amount so designated           at September     30, 1987 did not include           the
            smount designated       from 1987 operations.            The new law required        that
            the reserve      for   contingencies      be transferred        to the reserve         for
            losses   due to interest       rate fluctuations        (see note 9).




                                                                                              (Continued)




                        Page 22                                                                 GAO/AFMJMJ%9    Rural Telephone Bank
         .
    I,


.
                                         Flnanchl Statements




                               Patronanc-                       Net income after dividends on Claes A
                               stock is reflected     as patronage capital   earned.    This balance will
                               be partially     reeerved for interest      rate fluctuationa     with the
                               remainder distributed     to Class B and C shareholders.

                 (7) hlaivd   Penalrv           on Loan
                     Public Law 100-203, enacted December 22, 1987, allowed borrowers of the
                     Bank to prepay loans (or any part thereof)     until September 30, 1988, by
                     paying the loen face amount without prepayment penaltiee.      Total waived
                     pcnaltiee approximated $9,700,000 during 1988.

                 (8) Conmi
                     A reconciliation of the Bank’s unadvenced loen commitmentr          from September
                     30, 1987 to September 30, 1988 follows:
                       Unadvanced loan commitmanta September 30, 1987                    $ 792,257,249
                       Loan approval6 during fiecal year 1988                               80,139,150
                       Loan advances including Class B stock during
                          fiscal year 1988                                                 (119,488,367)
                       Reciseion of loan comitmento during fiscal
                          year 1988                                                        (64.734.190)
                                   Unadvenced loan commitments September 30, 1988        $ &&J&&&

                     Interest   rates on unadvanced loan commitments made prior        to October 1,
                     1987 range from 6.5 percent to 11.5 percent.       Interest ratee on unadvanced
                     loan commitments made on or after October 31, 1987 will be the “coat of
                     money rate” ae defined in Section 408 of the Act, determined at the end of
                     the fiscal   year in which the initial    advance is made, but not less than 5
                     percent.    Loan conssitmente are generally extended for 6 years.    Unadvanced
                     loan commitments at September 30, 1988 will expire through 1994.

                 (9) Subsccluenr
                     On March 30, 1989, the Board of Directors   amended the Bylaws of the Bank
                     regarding  the allocation of patronage capital     for    fiscal years after
                     1987. Any amounts in the reeerve for interest  rate fluctuations    in excess
                     of $10,000,000 shall be allocated   as Class B rtock dividends       to those
                     borrowers holding Class B stock during the fiscal      year the amounts were
                     earned.




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(9leos8)                                 Page 23                                          GAO/AFMD-8089 Rural Telephone Bank
-   -




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