INTRODUCTORY SECTION

Letter of Transmittal (continued)

Independent Auditors and Actuary

The Office of the Auditor General (OAG), independent auditors, conducted an annual audit of the System. The independent
auditor’s report on the System’s financial statements is included in the Financial Section of this report.

Statute requires that an annual actuarial valuation be conducted. The purpose of the valuation is to evaluate the mortality,
service, compensation and other financial experience of the System and to recommend employer-funding rates for the
subsequent year. The annual actuarial valuation was completed by Gabriel Roeder Smith & Company for the fiscal year
ended September 30, 2008. Actuarial certification and supporting statistics are included in the Actuarial Section of this
report.

Management’s Discussion and Analysis (MD&A)

Generally Accepted Accounting Principles (GAAP) require that management provide a narrative introduction, overview,
and analysis to accompany the Basic Financial Statements in the form of MD&A. This letter of transmittal is intended to
complement MD&A and should be read in conjunction with it. The MD&A can be found immediately following the
Independent Auditor’s Report.

PROFILE OF THE GOVERNMENT

In accordance with Public Act 300 of 1980, on October 31, 1980, the Public School Employees’ Chapter I Retirement Fund
merged with the Public School Employees’ Chapter II Retirement Fund to establish the Public School Employees’
Retirement System. Public Acts 136 of 1945 and 259 of 1974, respectively, created the two original funds. A twelve-
member board governs administrative policy.

Employer contributions and investment earnings provide financing for the System. Under Public Act 91 of 1985, employees
may contribute additional amounts into a “member investment plan.”

ECONOMIC CONDITIONS AND OUTLOOK

Despite challenging economic times, the System continues to show steady performance over the long-term.

Investments

The State Treasurer is the investment fiduciary and custodian of all investments of the System pursuant to State law. The
primary investment objective is to maximize the rate of return on the total investment portfolio, consistent with a high
degree of prudence and sufficient diversity to eliminate inordinate risks and to meet the actuarial assumption for the
investment return rate. The investment activity for the year produced a total rate of return on the portfolio of (6.1)%. For
the last five years, the System has experienced an annualized rate of return of 4.2%. A summary of asset allocation and rates
of return can be found in the Investment Section of this report.

Accounting System

Transactions of the System are reported on the accrual basis of accounting. Revenues are recorded when earned, and
expenses are recorded when incurred. Participants’ benefits are recorded when payable by law. We believe that the
accounting and administrative internal controls established by the System provide reasonable assurance the System is
carrying out its responsibilities in safeguarding its assets, in maintaining the reliability of the financial records for preparing
financial statements, and in maintaining accountability for its assets.

Funding

Funds are derived from the excess of additions to plan net assets over deductions from plan net assets. Funds are
accumulated by the System to meet future benefit obligations to retirees and beneficiaries. The percentage computed by
dividing the actuarial value of assets by the actuarial accrued liability is referred to as the “funded ratio.” This ratio
provides an indication of the funding status of the System and generally, the greater this percentage, the stronger

MICHIGAN PUBLIC SCHOOL EMPLOYEES’ RETIREMENT SYSTEM • 7