City books in order; city finances in trouble

The financial ledgers of the city of Fort Smith received a clean bill of health from BKD during a recent audit, but City Finance Director Kara Bushkuhl reported four key financial problems the city board needs to address before the end of 2010.

Bushkuhl and Ken Pyle, chairman of of the city’s audit advisory committee, said during the board’s Tuesday (July 6) regular meeting that the biggest issue is the violation of covenant agreements related to water and sewer bonds. Water and sewer system revenue in 2009 was 104% of the current year debt service, below the required 110% under the bond covenants.

Not that it will help the bond covenant issue, but Fort Smith Mayor Ray Baker said Tuesday he wants half ($46,000) of his “219 account” frozen for the rest of the year. The $92,000 account funds money for flowers, plaques and other awards and honors from the Mayor’s office. Baker also said if employee pay is cut, he wants to see a cut in his $10,000 annual salary.

COVENANT BREACH
Bushkuhl told the board that the city notified bond authorities of the covenant breach, and that bondholders were then sent a “material event notice.” Technically, bondholders could seek a court order requiring the city to raise revenue — likely through a rate increase — until the 110% mandate is met. Bushkuhl said that is unlikely if the board pursues a plan to raise rates or take other action to raise revenue.

“The City’s bond counsel has advised that as long as rates are increased during 2010, the bond covenant non-compliance may be treated as a material event rather than a default,” Bushkuhl noted in a memo.

Water and sewer revenue declines are primarily the result of recent moderate summers causing water usage to fall. Also, more individuals and businesses found more resourceful ways to limit water use, Bushkuhl said. Pyle said the board should not subsidize true water service costs with sales tax revenue. He said it is clear from the audit that water and sewer rates are “not sufficient,” and “rates should not be that weather dependent.”

Not aggressively addressing the bond covenant issue could also result in the city losing its high credit ratings from Standard & Poor’s rating service, Bushkuhl said in an interview after her board presentation. A reduced rating would lead to higher interest rates on the city’s debt service and other higher costs related to the issuance of bonds for water, sewer and other infrastructure work.

“If the board does not take some type of action, we could see the rating decline and that would be a problem,” Bushkuhl said. “And I think that (downward rating adjustment) is likely to happen before the end of this year if the revenue model is not changed.”

GENERAL FUND BALANCE
The other financial issue is a $2.2 million decline in the General Fund balance between 2008 and 2009. The city has attempted to maintain a reserve balance of 15% of the general fund. The balance in 2009 was $5.722 million, or 13.7% of the General Fund. The balance at the end of 2008 was roughly $7.4 million.

The decline in the city’s general fund resulted in a recent move by City Administrator Dennis Kelly to seek budget cutting ideas from city employees. The move was criticized by several directors.

On June 23, Kelly issued a memo to all city employees letting them know the city faces a $412,117 shortfall in the general budget. The memo set out a series of meetings between June 28 and July 8 to seek their input on how to cut the budget. Budget-cutting choices outlined in Kelly’s memo include having the city make up the shortfall by reducing employee benefits, requiring employees to take unpaid days off, taking a pay cut or eliminating positions through layoffs.

Bushkuhl explained Tuesday that declines are the result of a 9.4% year-to-date dip in county sales tax revenue and an 18.7% dip in franchise fees. The sales tax collection declines reflects recession-induced slowdown in consumer spending, and the franchise fee dip results from lower rates and usage of natural gas and electricity.

“With these two revenue sources continuing to decline in 2010, the concern is the ability to continue to provide services and what alternatives are available to cut expenditures even further and/or increase revenue in the fund,” Bushkuhl noted in her memo.

Kelly’s cost-cutting ideas are scheduled for the July 13 city board study session.

OTHER ISSUES
The other pending financial issues are deficiencies in how much the city funds an employee benefit fund. The fund liabilities grew from $2.3 million in 2008 to $3.5 million in 2009. The city’s advisory committee plans to submit a more detailed report on the board on options to address the growing liability.

Also, the city is facing potential shortfalls in funding the police and fire retirement plans. Bushkuhl noted in a memo that benefit increases approved by the Arkansas Legislature have created part of the funding problem.

“The AAC (audit advisory committee) will meet in August 2010 to continue to discuss this matter. The AAC plans to provide a report to the Board about this issue so the City may be proactive in addressing it in the future,” Bushkuhl noted.