Financial Warning Signs for Small Cities and Towns

2009 NCLM Annual ConferenceOctober 26, 2009

Presented byGregory S. Allison, CPA

UNC School of Government

Sharon Edmundson, CPALocal Government Commission

Our Ambitious Agenda• Why do we have an Annual

Audit?– Purpose– Responsibilities of elected officials– Audit concepts

• Oversight responsibilities of the LGC– Audit review process– Potential warning signs and how

to avoid problems

Why do we have an Annual Audit?• Required by G.S. 159-34– Performed by an independent certified public

accountant– Audited financial statements are to be completed

by October 31 – “Auditor shall be selected by and report directly

to the governing board.”• RFPs are encouraged but not required

Purposes of the Annual Audit• NC governments and public authorities are

required to follow generally accepted accounting principles (GAAP)

• Auditors render an opinion to determine compliance with– GAAP– other regulatory items such as budgets, grants,

and debt covenants

Purposes of the Annual Audit (continued)

AUDIT OPINIONS DO NOT ADDRESS FINANCIAL CONDITION

What should elected officials know?

• Auditors should be given the opportunity to present directly to the Board, or a subset of the Board, each year.

• Board members should have access to the management letter each year.

What should elected officials know?

• Board members should inquire as to any communication that may have occurred between the Local Government Commission and the manager, mayor, etc.

The Audit Opinion

In our opinion, the financial statements...present fairly, in all material respects, the financial position of the governmental activities, each major fund, and the aggregate remaining information...as of 6/30/09...for the year then ended in conformity with accounting principles generally accepted in the United States of America.

Key Audit Concepts/Terms To Know

• Unqualified audit opinion• Materiality• Evaluation of internal controls• Sampling• Single audit• Generally accepted government audit

standards

LGC Goals For Audit Review Process

– Determine financial standing of unit– Determine if report in compliance with generally

accepted accounting principles– Determine if unit in compliance with General

Statutes, particularly GS 159– Determine if unit complies with grant

requirements (single audit)

Results of Audit Review Process

• Concerns about finances and internal controls communicated in writing to elected officials – “unit letter”

• If unit is seeking debt approval, copy of our unit letter and the unit’s written response go to the Commission– Looking for action by council to address

concerns

Results of Audit Review Process

• Troubled units– Assigned to individual staff members to monitor– Units with more severe troubles are more closely

monitored– Unit visits– Follow up reporting

What Causes Us (And You) Concern?• General Fund– Fund balance below ½ population group average– Fund balance declining over multiple years– Over-appropriations of fund balance– Fund balance propped up by large transfers from

Electric, Water and/or Sewer Funds– Revenue estimates that materially miss the mark– Low tax collection rates

What Causes Us (And You) Concern?

• Other governmental funds– Look for large deficits that may require funds from

the General Fund to eliminate– Statutory issues such as expenditures directly from

Capital Reserve

What Causes Us (And You) Concern?

• Enterprise Funds – Big Three– Water, Sewer, Electric

– Low liquidity ratio <1.0 (liquid assets/current liabilities)• Liquid assets = cash and investments + accounts

receivable + due from other funds/governments• Current liabilities = all liabilities due within the next

year

What Causes Us (And You) Concern?

• Net loss– Before capital contributions– Full and modified accrual

• Cash flow from operations– Consider this if nothing else!– If cash flow from operations is negative then

operation is not sustainable• Large transfers in to support operations

What Causes Us (And You) Concern?• Statutory issues– Over-expending budget at legal level of control• Budget ordinance

– Lack of budget for a fund– Deposits and Investments not in compliance with G.S. 159-30– Debt not approved by LGC that should have been– Adequate bonding of finance officer and tax

collector

What Causes Us (And You) Concern?

• Statutory issues (cont.)– Daily deposits– Dual appointment of finance officer/tax collector

without annual approval by LGC– Issues with pre-audit certificate

What Causes Us (And You) Concern?

• Internal control weaknesses– Material weaknesses and significant deficiencies– Questioned costs on grant funds– Segregation of duties– Limited technical ability in area of financial

statement preparation