RD201 - Annual Report on the Operating and Financial Statements of the Corporation for the year ending June 30, 2005


Executive Summary:
MANAGEMENT’S DISCUSSION AND ANALYSIS (Unaudited)

This section of the annual financial report of the Virginia Tobacco Settlement Financing Corporation (“the Corporation”) presents an analysis of the Corporation’s financial performance during the fiscal year that ended on June 30, 2005. This information should be considered in conjunction with the information contained in the financial statements, which follow this section.

Corporation Activities and Highlights

The Corporation is a public body corporate and an independent instrumentality of the state created by the Tobacco Settlement Financing Corporation Act, Chapters 482 and 488 of the 2002 Virginia Acts of the General Assembly (the “Act”). The Corporation is authorized under the Act to purchase up to fifty percent of the annual amount received by the Commonwealth of Virginia (the “Commonwealth”) under the Master Settlement Agreement (MSA) between cigarette manufacturers and 46 states and other United States jurisdictions (the “Tobacco Assets”).

On May 16, 2005, the Corporation issued $448,260,000 of its Tobacco Settlement Asset-Backed Bonds, Series 2005 (the “Bonds”) to finance the purchase the Commonwealth’s future right, title and interest to twenty-five percent of the Commonwealth’s allocation under the MSA. The Bonds are secured solely by those future payments. These financial statements reflect the Corporation’s financial activity from the date of issuance of the Bonds through the end of the fiscal year on June 30, 2005.

Overview of the Financial Statements

This discussion and analysis is an introduction to the Authority’s basic financial statements, which are comprised of two components: 1) combined government-wide and fund financial statements and 2) notes to the financial statements. This report also contains other supplementary information in addition to the basic financial statements.

Government-wide Financial Statements
The Statement of Net Assets and the Statement of Activities are two basic financial statements that report information about the Corporation as a whole. These statements are prepared using the economic resources measurement focus and the accrual basis of accounting, similar to the accounting used by most private-sector companies. Revenues are recorded when earned and expenses are recorded when a liability is incurred, regardless of the timing of the related cash flows. The Statement of Net Assets presents all of the Authority’s assets and liabilities, with the difference between the two reported as “net assets.” Over time, increases and decreases in net assets measure whether the Authority’s financial position is improving or deteriorating.

The Statement of Activities presents information showing how the Authority’s net assets changed during the most recent fiscal year. Changes in net assets are reported as soon as the underlying events giving rise to the change occur, regardless of the timing of related cash flows. Therefore, revenues and expenses are reported in these statements for some items that will only result in cash flows in future fiscal periods.

Fund Financial Statements
The fund financial statements provide detailed information about the Corporation as a debt service fund. A fund is a fiscal and accounting entity with a self-balancing set of accounts that the Authority uses to keep track of specific sources of funding and spending for a particular purpose.

All of the Authority’s activity is reported in Governmental Funds Financial Statements. Governmental funds are used to account for essentially the same functions reported as governmental activities in the government-wide financial statements. However, unlike the government-wide financial statements, the governmental funds financial statements focus on near-term inflows and outflows of spendable resources. This approach is known as using the flow of current financial resources measurement focus and the modified accrual basis of accounting. These statements provide a detailed short-term view of the Corporation’s finances that assists in determining whether there will be adequate financial resources available to meet the current needs of the Corporation.

The focus of the governmental fund financial statements is narrower than that of the government-wide financial statements. Therefore it is useful to compare the information presented for governmental funds with similar information presented for governmental activities in the government-wide financial statements. By doing so, readers may better understand the long-term impact of the government’s near-term financing decisions. Both the governmental fund balance sheet and the governmental fund statement of revenues, expenditures and changes in fund balances provide a reconciliation to facilitate this comparison between governmental funds and the governmental activities. These reconciliations are presented in the adjustment column in each of the financial statements.

Notes to the Financial Statements

The notes provide additional information that is essential to a full understanding of the data provided in the government-wide and the fund financial statements.

Government-wide Financial Analysis of the Authority

The Corporation was formed to purchase Tobacco Assets from the Commonwealth. The purchase was financed with the issuance of bonds. The Department of the Treasury provides staff support for the Corporation. Operating costs of the Corporation were initially funded with bond proceeds and will be funded in future years from corporation investment income. Current assets of the Corporation are bond proceeds held to pay costs of issuance on the Bonds and to pay operating costs of the Corporation over the next year. Noncurrent assets are primarily bond proceeds held in the capitalized interest and liquidity reserved accounts and restricted to the payment of debt service on the Bonds. The Corporation owns no capital assets.