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1978LE TT E R'19�- 8 CITY OF BANGOR, MAINE Management Letter March 21, 1978 PEAT, MARWICX, MITCHELL 8c CO. CERTIFIED PUBLIC ACCOUNTANTS P. O. BOX 507 TWO CANAL PLAZA PORTLAND, MAINE 04111 March 21,. 1978' CONFIDENTIAL Honorable Chairman and Members of the City Council City Hall City of Bangor, Maine 04401. Gentlemen: We have examined the financial. statements of the City of Bangor, Maine for the year ended December 31, 1977 and have issued.our report thereon dated March 21, 1978. As a part of our examination, we made a study and evaluation of the City's system of internal accounting control to the extent we considered necessary to evaluate the system as required by generally accepted. auditing standards. Under these standards,. the purposes of such evalu- ation are to establish a basis for reliance on the system of internal accounting control in determining the nature, timing and extent of other auditing procedures that are necessary for expressing an opinion on the financial statements and to assist us in planning and performing our examination of the financial statements. Our examination of the financial statements made in accordance with generally accepted auditing standards, including the study and evalu- ation of the City's system of internal accounting control for the year ended December 31, 1977, that was made for the purposes set forth in the paragraph above, would not necessarily disclose all weaknesses in the system because it was based on selective tests of accounting records and related data. Such study and evaluation did not disclose any conditions that we believe to be material weaknesses; however, we noted the follow- ing conditions which we believe to be worthy of your consideration upon which we are presenting our comments and recommendations for improvement. Cash Receipts Batch Total Reconciliation Cash receipts are entered into the City's computer system using a terminal with the daily cash sheet as a source document. Input made to the system is verified upon preparation -of the monthly bank reconcilia- tions. Such a procedure may permit errors or irregularities to remain undetected for as long as a month. We propose that consideration be given to producing a batch printout of cash receipts input to the Honorable Chairman and Members of the City Council March 21, 1978. Page 2. computer and reconciling such printout to daily cash sheets on a.weekly basis. Bangor City Nursing and.Health Center We noted several weaknesses in internal controls at the Hospital. Cash receipts are not, in all cases, deposited in a timely manner.. We suggest that all cash received be delivered to City Hall for dep.osit.on a daily basis. We also observed that cash received is not being promptly posted to account receivable cards. We stress the importance of. timely posting to ensure accurate records and rapid discovery of errors or irregularities. Additionally,_ the City's records are not being reconciled to the Hospital's records. This results in subsidiary records which become meaningless when not in agreement with the City's general ledger. Our recommendation,. therefore, is to provide regular reconciliations of Hospital and City records. Finally, it appears that many patients are notaware that the Hospital maintains personal cash accounts on their behalf. We urge that all patients be periodically informed of the balance in such accounts and that these accounts are reviewed by independent officials periodically. WIC Program - Our review of the Women, Infant and Children (WIC) Program indicated that check vouchers, invoices and other supporting documents are filed separately. .Verification of amounts paid is most practical when all documents are cancelled and filed together. We understand that steps have.been'taken to implement such a system and urge that all documents be included in this system of filing. General Fixed Assets The purpose of the general fixed asset group of accounts is to provide a complete and accurate accounting for fixed assets, essential to the protective custody of governmental property. Present practice is to capitalize only major fixed asset additions and to expense lesser valued assets, motor vehicles, for instance. We recommend that all property acquisitions of a tangible nature, having a life longer than the current fiscal year and are of a significant value (perhaps $1,000), be capitalized. Prepaid Expenses The modified accrual method of accounting is used in the General Fund. Under this method, expenditures are not. normally divided between years by the recording of prepaid expenses. The City is presently recording such prepaid expenses in the General Fund and we suggest that this practice be changed to conform with the modified accrual method of accounting. ON Honorable -Chairman and Members of the City Council March 21, 1978 Page 3 Encumbrances and Carryforward Balances - Enterprise Funds Since enterprise funds are primarily self=supporting, accounting methods should be similar in nature to those of commercial entities. At year end we noted that the enterprise funds recorded both encumbrances and carryforward.balances. While use of these accounts is essential for good financial management of' General Fund, they should.not be used in accounting for enterprise activities. Expenses in these funds should be recorded only as goods are received or as services are rendered, and unlike budgetary funds, should not be recorded as unexpended appropria- tions (carryforwards) or amounts merely committed by purchase orders (encumbrances). We, therefore,. recommend that the City consider eliminat- ing the use of encumbrances, and carryforward balances in its enterprise funds. Receiving Reports The City uses one copy of the purchase order, with quantities indicated, as the receiving report. This procedure has the effect of partially negating the purpose of receiving reports by disclosing the quantity ordered and thereby eliminating the requirement for an actual count by the person receiving the order. We recommend that if a copy of the purchase order is to be used as a receiving report, such copy should not show the quantity ordered. In addition,. we noted that the receiving report isthe only document forwarded to the purchasing department. Verification of actual goods received can be strengthened if all shipping documents are forwarded to the purchasing departmentand we suggest that this procedure be implemented. Cancellation of Invoices We noted that invoices are not always cancelled in a manner that would prevent them from being resubmitted for payment. Such invoices are cancelled by stapling check vouchers and purchase orders to the invoice. Should an invoice become separated from the voucher, it could potentially be paid again. Although such an invoice would have to be returned to the originating department for approval, internal controls would be improved if original invoices were effectively cancelled upon payment, perhaps by use of a paid stamp. Accounts Payable and Encumbrances Our test work indicated that numerous accounts payable were included as encumbrances outstanding at year end. To more accurately reflect the financial position of the City, we suggest a procedure whereby all encumbrances outstanding at year end be reviewed and a proper reclassi- fication to accounts payable be made. .Honorable Chairman and Members of the. City Council March 21, 1978 Page 4 Dating of Payroll Checks Although mentioned.in our previous management letter-, we payroll checks issued on Thursday continue to be.dated as We reiterate our recommendation that all checks be dated date of issue. Payroll Withholding Authorizations noted that of Saturday. with the actual During our examination of the payroll system, it became apparent that in many cases tax withholding authorizations (Form W -4's) are not current. We suggest that a program be instituted whereby employees update all withholding authorizations annually. Bank Reconciliations The City Treasurer is responsible for all-cash, cash receipts and cash disbursements. He also prepares bank reconciliations. While cash balances may not be material in relation to the overall financial statements, because of the volume of transactions processed through the cash accountsand the susceptibility of. the asset to misappropriation, preparation of bank reconciliations should be performed by individuals having no cash receipts or disbursements functions. While we recognize the staffing problems of the City, we nevertheless urge that considera- tion be given to segregating the bank reconciliation responsibility from cash receipts and disbursements functions. Alternatively, we suggest that monthly bank reconciliations be reviewed and approved by indepen- dent, responsible officials.. Outstanding Checks Controlling checks that have been outstanding for extended periods of time become burdensome and with the passage -of time the likelihood of cancellation is reduced. Checks issued and outstanding for more than twelve months are presently being restored to cash. We believe that after a reasonable period, perhaps 180 days from issue date, and after attempting to contact payees, all checks should be voided and restored to cash. Capital Projects Records The City presently maintains detail accounting records of current year activity of all capital projects, but does not maintain records showing cumulative revenues and expenditures of each capital project from inception. We believe such information might improve financial manage- ment of such projects and suggest that consideration be given to establishment of such records. Data Processing Controls Internal controls within the data processing department are strengthened under a.plan of organization which provides sufficient segregation of Honorable Chairman and.' Members of the City Council March 21, 1978 Page S duties. At a minimum, the functions of system design and programming should be separated from computer operations. We noted that the EDP manager and his assistant perform both programming and operating duties. Although we realize that the City's organization does not easily allow for the segregation of duties necessary for strongest controls, we. mention this weakness to point out the potential for perpetration of errors or irregularities without independent control and review of data processing functions. Intragovernmental Service Fund In our previous letter to management we recommended that the City consider the establishment of an intragovernmental service fund for the motor pool operations. We repeat that suggestion and reiterate herein the advantages that such fund would provide: 1 By separately indentifying the operations and net income of the motor pool, the City could analyze billings to other departments to ascertain their sufficiency to cover costs incurred.. Depreciation would be provided on each asset annually. Accumulated depreciation could.then be easily determined for each vehicle. • Fixed assets would be recorded on the balance sheet of the. intra - governmental service fund. Although the buildings involved are currently capitalized, on the. General Fixed Assets Group of Accounts, motor vehicles are not. Internal Audit Department In view of the size and number of the City's operating components, we recommend that consideration be given to the establishment of an inter- nal audit department of one or more employees. While we recognize the budgetary limitations inherent in any municipality, we believe that the benefits derived from such a department would justify any additional appropriation. As mentioned in our previous management letter, the objective of an internal audit department would be to carry out a program of tests, in depth, of the financial transactions of the City to ensure that the accounting controls are operating effectively, and to perform procedural audits to determine that the various components are operating efficiently. Maximum benefits are derived from an internal audit department under a program whereby the Internal Audit Department: • reports directly to the City Manager/City Council and written reports are prepared summarizing the results of work performed. is completely independent of the accounting/finance department. covers all areas of. City operations in the scope of its work. utilizes from written audit.programs. Honorable Chairman and Members of the City Council March 21, 1978 Page 6 We are available -to provide any assistance required to develop a sound program of internal audit. The objective of internal accounting control. is to provide reasonable, but not absolute, assurance as to the safeguarding of assets against loss from unauthorized use or disposition, and the reliability of financial records for preparing financial statements and maintaining accountability for assets. The concept of reasonable assurance recog- nizes that the cost of a system of internal accounting control should not exceed the benefits derived and also recognizes that the evaluation of these factors necessarily requires estimates and judgments -by management. There are inherent limitations that should be recognized in considering the potential effectiveness of any system of internal accounting control. In the performance of most.control procedures, errors can result from misunderstanding of instructions, mistakes of judgment, carelessness, or other personal factors. Control procedures whose effectiveness depends upon segregation of duties can be circumvented by collusion.. Similarly, control procedures can be circumvented intentionally by management either with respect to the execution and recording of transactions or with respect to the estimates and judgments required in the preparation of financial statements. Further, projection of any evaluation of internal accounting control. to future periods is subject to the risk that the procedures may become inadequate because of changes in conditions and.that the degree of compliance with the procedures may deteriorate. The foregoing conditions were considered in determining.the nature, timing and extent of audit tests to be applied in our examination of the financial statements, and this report of such conditions does not modify our report dated March 21, 1978 on such financial statements. It should be noted that this letter, by its nature, is critical in that it contains only our comments and recommendations on deficiencies observed in the course of our examination. It does not include our observations on any strong features of the City's systems of internal control.that were observed. We wish to thank you for the cooperation we received from your employees during our stay and to advise you that we are available to provide any assistance required. to implement the above suggestions. Very truly yours,