Middleton Railway Trust Ltd. (MRT) Policy Directive

Reference: FIN/4 (4/11)

Subject: Financial Reserves

For the attention of: All Council Members.

This Directive does not form part of the Safety Management System.

Revision History

Previous versions of this Directive were as follows.

Reference 4/11/1 was the initial version (but referred to earlier statements of the relevant policy in other forms). This version implemented the revised numbering scheme for directives, but made no other changes to the content.

Content Summary

This Directive contains the following sections: Introduction

Fluctuations of Income Funding Major Projects

Introduction

1. As a charity the MRT is required by the Charity Commission to have a policy for financial reserves. The previous policy was created early in 2002 but was simply written into the formal reports in the annual accounts, and was never formally documented as a Policy Directive. Since then the railway’s activities have developed significantly, and as a result a new and more comprehensive policy is required.

• A policy for financial reserves has two purposes, as follows.
  • In the short term it provides a basis for the Council’s monthly monitoring of the railway’s financial position, by defining a minimum level for the cash that needs to be available for the railway to meet expenditure commitments.
  • In the longer term it provides a basis for assessing the overall outcome of each financial year, by defining both the levels of cash that would need to be available to meet possible interruptions of the railway’s income stream, and the extent to which the railway may need to build up cash in order to finance major projects.

• A policy for financial reserves must also consider two issues, related to both of these purposes, as follows.
  • The first issue is that the pattern of income fluctuates across the financial year, since the MRT is closed to passengers during the first quarter, and then operates passenger trains (which directly or indirectly provide a large part of its income) during the remaining three quarters. Furthermore, even during the operating season there are fluctuations in the level of income, particularly because of the importance of the income from the Santa Special trains in December. Also, the possibility of interruptions to the normal operations and the associated income must be considered. Reserves are therefore needed to cover both these normal fluctuations and the possibility of such interruptions, and their magnitudes determine the minimum levels of reserves that should be maintained.
  • The second issue is that some of the projects that the MRT undertakes are sufficiently large that it may be necessary to build up funds to pay for them before they can be started. Where such funds are built up in one financial year in order to be spent in a subsequent year, they will appear in the accounts for any financial year before they are spent as part of the reserves, and so the reserves policy also needs to define the possible levels for such accumulated funds.

Fluctuations of Income

• The normal pattern for the fluctuations in income is that somewhere between 10% and 15% of the MRT’s income is generated during the first quarter of the year, and the remaining 85% to 90% is generated during the operating season in the remaining three quarters of the year. In particular, over 25% of the income arises during November and December, mainly from the Santa Special trains.

• By contrast, much of the general expenditure is spread reasonably evenly over the year, although locomotive repairs and other maintenance projects often involve relatively infrequent expenditure of quite large sums, which normally amount to about £20,000 per year.  The remaining general expenditure typically amounts to about

£15,000 per quarter, and then there are two major items of expenditure that normally occur entirely in the first half of the year, as follows.

• Just under half of the various insurance premiums (about £5,400) are payable at the beginning of the year or during the first quarter of it, while the rest (about £7,600) are payable in July.
  • If any major permanent way work has to be done then it will be carried out during the first quarter of the year, while the railway is closed to traffic, and if there is any expenditure associated with this then it will occur in the first quarter of the year. The sums involved can vary significantly from year to year, but around £5,000 would be a representative figure.

• The overall effects of this are that in the first quarter of the year there may well be anywhere between £20,000 and £30,000 of expenditure, but it is unlikely that more than somewhere between £10,000 and £15,000 of this will be covered by income generated during the quarter. In each of the second and third quarters, both income and expenditure are likely to be around £20,000 to £25,000, but which will exceed the other will depend on how the normal pattern of fluctuations in both works out. Finally, in the fourth quarter income should comfortably exceed expenditure, although there are significant risks to the income stream from the possibility of severe weather that need to be borne in mind.

• The effect of this pattern on the need to maintain reserves is as follows, on a quarter by quarter basis.
  • At the beginning of the year there needs to be enough cash available to cover an excess of expenditure over income during the first quarter that could be up to £20,000, and further excesses during the second and third quarters that in the worst case could total up to £10,000. There must also be some working cash available for the start of the fourth quarter.
  • At the beginning of each of the second and third quarters there needs to be enough cash available to cover the excesses that could arise in these quarters, so that these figures can be estimated as £10,000 and £5,000 respectively, and again there must be some working cash available for the start of the fourth quarter.
  • At the beginning of the fourth quarter there should not be any expected excesses that would need to be covered, but there does need to be some working cash available for the expenditure involved in preparing for the Santa Special trains, and £5,000 is a reasonable estimate for this figure.

• The reserves policy also has to allow for the risk that circumstances could arise which would prevent the MRT from being able to operate passenger traffic for some period of time. In this case most of the income stream would cease, and the MRT would need to be able to survive such a situation, even if the circumstances of the interruption to the MRT’s services were such that eventually compensation of some form would be payable for the loss of income.

• The worst case of such a situation that reasonably needs to be planned for would be if the MRT had to delay opening for traffic by one quarter of the year, from the beginning of the second quarter to the beginning of the third quarter. In this case the reserves would also need to cover the expected level of expenditure during the second quarter, less the income that could be expected to arise from sources other than the operation of trains. Under these circumstances it is realistic to assume that the expected level of expenditure in the second quarter would be the lower figure of the two given in clause 6 above, ie £20,000, since in such a situation action would be taken to defer as much expenditure as possible, apart from any that was required to help restore the train services. Estimates of the income from other sources should be conservative, since this might also be affected by whatever circumstances were preventing the operation of trains, but a figure of somewhere around £4,000 for the quarter seems reasonable. Hence, in this case the total that the reserves would have to be able to cover would be £20,000 for the first quarter, £20,000 less £4,000 for the second quarter, at least £5,000 for the third quarter (as in clause 7 above), and they would still have to ensure that there was some cash available at the start of the fourth quarter, so that as in clause 7 above another £5,000 should be allowed for this.

1. Hence, the minimum levels of reserves that should if possible be maintained for the short term purpose are as follows.
   1. There should be at least £35,000 available at the start of the first quarter.
   1. There should be at least £15,000 available at the start of the second quarter.
   1. There should be at least £10,000 available at the start of the third quarter.
   1. There should be at least £5,000 available at the start of the fourth quarter.

1. For the long term purpose, allowing for the need to manage the risk of a prolonged interruption to the normal passenger services, the minimum levels of reserves that should if possible be maintained are as follows.
   1. There should be at least £46,000 available at the start of the first quarter (compared with the figure of

£41,000 specified in the previous policy).

• There should be at least £26,000 available at the start of the second quarter.
  • There should be at least £10,000 available at the start of the third quarter.
  • There should be at least £5,000 available at the start of the fourth quarter.

Funding Major Projects

1. Projects that the MRT undertakes can be loosely divided into three categories.
   1. Minor projects, such as many of the repairs that need to be carried out to locomotives and other rolling stock, and many permanent way projects. These typically involve expenditure that may be less than £5,000, and will certainly be less than £10,00, and so for the purposes of the reserves policy they do not need to be considered separately from the normal pattern of general expenditure.
   1. Major projects, which typically are those that involve significant boiler repairs to steam locomotives, and indeed could go up to the scale of building (or having built) a complete new boiler for a steam locomotive, or a civil engineering project such as the construction of a building. Such projects will typically last for several years, not least because they could involve total expenditure of up to £50,000 or so, and hence would need money to be saved up, possibly also for several years, in order to pay for them.
   1. Exceptional projects, such as an extension of the railway to Middleton Park. By their nature, these would require the setting up of special designated funds, and so could not be covered by a normal reserves policy such as this, and would have to treated separately.

1. Typically there will only be one or two major projects under way at any given time, but a situation could arise where the funds needed to pay for three such projects were being accumulated at the same time. In such a situation, the levels of reserves specified in clauses 10 and 11 above could acceptably rise by as much as

£150,000 (compared with the figure of £140,000 specified in the previous policy).

Drafted by A. J. Cowling (Company Secretary) and S. H. Holdsworth (Treasurer) and approved on 20th April 2011.