Auditor issues

report on services

from municipalities

Net income from utilities up 46.2 percent in past five years

By RON LARSEN

Journal Staff Writer

ST. PAUL -- Necessary municipal enterprises like public utilities, environmental and public safety enterprises should be managed to only break even financially, State Auditor Patricia Anderson said in a special study of municipal enterprises.

The study, "Municipal Enterprise Activity," was done at the request of a bipartisan group of Minnesota lawmakers during the 2003 Legislative session, Anderson said.

The auditor's study divided municipal enterprises into three groups: necessary, quality of life and for profit enterprises.

"Quality of life enterprises are not as essential as necessary enterprises, but cities may want to provide them as public amenities. These would include such things as facilities and recreation enterprises. Enterprises for profit, like municipal liquor stores, for example, should exist primarily to subsidize other city functions," Anderson said.

The study notes municipal enterprises exist "to provide a service where the costs are recovered by charges to those who use the service. With the exception of enterprises created to earn a profit, funds should be structured financially to break even."

In the study report, Anderson warns against using necessary enterprises as a "for profit" vehicle.

"Necessary enterprises that charge excess user fees in order to subsidize other city functions, are charging taxpayers too much for a service they have no choice but to use."

The auditor's office found that the necessary enterprise funds appear to be fiscally strong.

"Over the past five years, the net income for utility enterprises has increased by 46.2 percent, for environmental enterprises by 82.5 percent and for public safety enterprises by 61.5 percent," Anderson said.

The same cannot be said for the other categories of enterprises, however.

"Facility enterprise funds, transportation funds, recreation funds and miscellaneous enterprises, which include leases and retail operations, have not experienced the same profitability in the last five years. All ... saw significant decreases in operating income, and all required more in subsidies from cities' general funds than was transferred to general funds," Anderson said.

However, Anderson noted that municipal liquor stores, which were examined separately "due to accounting differences," have over the past five years increased their profits and transfers to general funds.

Anderson had five recommendations for improving the operation of city enterprises and to help promote greater public oversight of enterprise activities:

"1. Generally, services paid for primarily by user fees should be accounted for in an enterprise fund to give a better idea of the true costs of services provided.

"2. Enterprises operated for the purpose of earning profit should not lose money.

"3. Necessary enterprises should only break even.

"4. Cities should consider public-private partnerships for potential gains in efficiency.

"5. Cities should set up enterprise transfer policies during the budget process."

While he has no quarrel with most of the state auditor's conclusions, New Ulm City Manager Brian Gramentz said he does have concerns about how a break-even point is determined for public utilities.

"It just depends upon how you define break-even. If break-even means that you also put some money aside for the water tower that we're going to do 10 years from now, then I agree with that. If it means you should only have enough money to pay for your expenses, then I would probably disagree with that."

Gramentz believes it's incumbent upon even the city's necessary enterprises to take in enough money to pay for future projects. He singled out the natural gas supply pipeline as one project where the Public Utilities Commission put money away in reserve funds for the pipeline so that bonding for the $800,000 project wasn't required.

Also, the need to stockpile funds in order to reduce the amount of phosphorus in the wastewater treatment plant's outflow to new low, mandated levels is another good example of the need for reserves, he said.

"That's a policy decision that's typically left up to the local governing body to decide where that line is. Even the state auditor has stated, for utilities, that they should maintain a 50 percent fund balance, and for governments they've said 35-50 percent so right off the bat that with any good budget managing process you want to have some money set aside," Gramentz said.

However, a spokesman for the state auditor's office had a slightly different view on fund balance requirements for utilities and city governments.

"The city general fund gets revenue in May or June through property tax receipts and state aid payments (so) they need that 35-50 percent fund balance to cash-flow expenditures during the first part of the year. That's different than an enterprise fund that receives revenue year-round. They don't have that same need to cash-flow expenditures in the first part of the year," said Jonathan Papik, the state auditor's communications director.

"In the report itself, we say that necessary enterprises should charge fees to cover the cost of provision plus any maintenance, renewal and replacement costs. So, (those) costs would certainly allow for cities to build up reserves that are necessary to maintain, renew and replace equipment for that enterprise."

Final figures for New Ulm's Public Utilities' 2003 operations aren't available yet, but the utility had budgeted for $190,277 in net income. Its budgeted reserve level to total operating expenses was 42 percent of $28.4 million, or $11.9 million, and its targeted reserve level was 50 percent or $14.2 million.

Sleepy Eye's Public Utilities unaudited net profit for 2003 totaled $127,605.75, according to City Manager Mark Kober. The city's liquor store reported an unaudited net profit of $16,155.39.

Kober says he has similar concerns about what constitutes a "break-even" operation for necessary enterprises.

"I agree with Gramentz. When you're talking about a $3 million operation, and of course, the $127,000 in profit that we had this year was due in part to the fact that we removed an old boiler in the plant, and that was an expensive proposition, so generally you'd have a better margin than that," Kober said.

"We also, with the PUC, rarely borrow money for infrastructure needs, and we do most of our construction and so forth with cash. We do fund our depreciation. We do that because we want to be able to do improvements with cash if it's possible, but I don't how she would anticipate you do that in a free-market system," Kober continued.

"However, if profits were excessive, that's a different situation. Our cash balance for the PUC has remained fairly stable over about the last 10 years because we generally are investing in infrastructure that we use to serve people's needs."