1973CITY OF BANGOR
POST AUDIT MANAGEMENT LETTER
for the year ended
DECEMBER 31, 1973
LeEll-i ?... L9:-3
BROOKS & CARTER
Certified Public Accountants
84 HARLOW STREET
BANGOR, MAINE 04401
N
PRANK M. CARTER, CPA
RAYMOND T. ADAMS JR.. CPA
VAUGHN L. HERSEY. CPA
GEORGE W. CHESBA. CPA
KENNETH N. FOSTER. CPA
WAYNE C. INGALLS. CPA
BROOKS & CARTER
Certified Public Accountants
84 'HARLOW STREET
BANGOR, MAINE 04401
TELEPHONE 047-0931
May 24, 1974
Honorable Members
City of Bangor
in Council
Bangor, Maine 04401
Gentlemen:
EDWIN M. BULLARD JR., CPA
10E ACCESS ROAD
CARIBOU. MAINE 04736
We have examined the financial statements of the City of Bangor for the year ended
December 31, 1973 and have issued our report thereon dated May 3, 1974. As a part
of our examination, we reviewed and tested the City's system of internal account-
ing control to the extent we considered necessary to evaluate the system as re-
quired by generally accepted auditing standards. Under these standards the purpose
of such evaluation is to establish a basis for reliance thereon in determining the
nature, timing, and extent of other auditing procedures that are necessary for ex-
pressing an opinion on the financial statements..
The objective of internal accounting control is to provide reasonable,' but not
absolute, assurance as to the safeguarding of assets against loss from unauthor-
ized use or disposition, and the realiability of financial records for preparing
financial statements and maintaining accountability for assets. The concept of
reasonable assurance recognizes that the cost of a system of internal accounting
control should not exceed the benefits derived and also recognizes that the evalua-
tion 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, mis-
takes 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 with
respect either 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.
Our study and evaluation of the City's system of internal accounting control for
the year ended December 31, 1973, whicn was made for the purpose set forth in the
first paragraph above, was not designed for. the purpose of expressing an opinion on
internal accounting control and it would not necessarily disclose all weaknesses in
the system. However, such study and evaluation disclosed the following conditions.
Honorable Members in Council -2- May 24, 1974
that we believe are worthy of comment. Our examination of the City's financial
statements, furthermore, disclosed certain financial matters which we feel should
be brought to your attention. Accordingly we submit our comments thereon for your
consideration.
Certified Public Accountants
a
INTERNAL AUDIT
We noted during our examination that the audit department of the City con-
cerned itself primarily with a detail review of cash receipts and disbursements
which we understand included field examinations of various City departments. We
commend the City on the increased effort in this area, however, we suggest that the
internal audit function to be performed by the audit department is more encompassing
in scope than the aforementioned procedure., We suggest that the internal audit
function should be designed and structured for the purpose of conducting internal
examinations of the City's financial statements. Accordingly, such an examination
would include (in addition to field audits of cash receipts and disbursements of
the various departments) analysis of various revenue, expense, and balance sheet
accounts, review of the underlying system of internal control throughout the City's
accounting system, and review of the City's financial statements for presentation
in accordance with generally accepted accounting principles and compliance with
charter and state law. We recommend, therefore, that the audit department expand
its audit function to include the aforementioned audit procedures.
CASH FLOW
In recent years the City has experienced serious cash flow shortages in
the "Operating Funds" (General, Airport, Sewer, and Hospital) which has necessitated
the borrowing of working capital from the Capital Improvement Fund, the Trust and
Agency Fund, and/or the Municipal Debt. Fund. Schedule 1 attached to a certain letter
submitted to Management on.May 20, 1974, which is included herein as Exhibit 1, shows
that the "Operating Funds" borrowed $540,978 from the Debt Fund at December 31, 1973
while the 1973 Comparative Financial Statements indicate that approximately $2,534,000
was loaned to the "Operating Funds" by the Capital Improvement and Trust and Agency
Funds at December 31, 1972. The Capital Improvement Fund is funded prim-arily by bonds
and notes and, therefore, any borrowings made from the Capital Improvement Fund for
large amounts most likely was funded by debt issues. Since the charter restricts the
issue of public debt to permanent public improvements, charter law was undoubtedly
violated bythe aforementioned working capital loans. Furthermore, state statutes
specifically prohibit the loaning of trust fund monies. It appears, therefore, that
state law was also violated in 1972 when the Trust and Agency Fund loaned at least
$236,000 of Trust Fund monies to the "Operating Funds". This type of interfund
borrowing and more importantly the underlying cause must be eliminated if the City_
is to conduct its operations within the guidelines of the charter. More importantly,
.elimination of this kind of interfund borrowing, of necessity, requires that the
"Operating Funds" generate sufficient working cash since the former results only
when the latter has occured. We offer the following suggestions, therefore, which
we believe will help to provide increased cash flow in the future.
a) Inventory Budgeting and .Control
The City has established a policy of budgeting andrecording inventory
usage in the various operating departments. Since the annual budget,
however, concerns itself with usage and not inventory purchases it may
or may not provide sufficient tax dollars for annual inventory expendi-
tures. Provided that inventory carrying values remain on a constant
level budgeted usage should approximate actual cash outlay for inventory
purchases for the City as a whole. When inventory carrying values show
a growth trend, however, it becomes evident .that usage is not on a par
with actual inventory purchases and there may be a negative effect on
working capital cash. In reviewing the City's inventory accounts from
December 31, 1971 to December 31, 1973, we found that inventories had
increased by approximately $77,000 which suggests to us that inventory
cash requirements during this two-year period have exceeded available
tax dollars by approximately this amount. It would appear, therefore,.
that growth in inventory values has contributed to the City's shortage
of working cash and is a factor to be concerned with in future budgets,
especially in light of prospective increases in Airport inventories as
a consequence of the proposed purchase of the fixed base operation. We
suggest, therefore, that the City consider the following courses of
action. First, and foremost, the City should determine whether inventory
growth, especially in the General Fund (which growth amounted to $76,000
during the two-year period mentioned above), is necessary. We would
seiously question such growth since the inventory consists primarily of
expendable supplies held for the City's consumption. If it is determined
that such growth is unnecessary then the City should establish tighter
control procedures over inventory purchase and usage and attempt to obtain
maximum benefit from existing inventory supplies. Secondly, any prospec-
tive increases in inventory accounts, which are necessary and warranted,
should be budgeted for in the annual budget in order to provide sufficient
tax dollars to cover the anticipated cash application in excess of usage.
b) Accounts and Taxes Receivable - Collection Policies
During the past two years the City has made significant strides toward
collection of outstanding taxes receivable. We commend the effort that
has been made and point out that continued effort to turn taxes into.
cash will serve to improve the City's cash position.
Regarding accounts receivable we would point out that although the City
is generally holding the line there exist'. some serious problems in the
Hospital Fund's accounts receivable. We detected during our examination
an apparent lack of communication between City Hall and the Hospital as
regards a certain large outstanding balance with a Mr. and Mrs. Hamm.
It is our understanding that the Hamims, who had an outstanding bill of
$18,662 at December 31, 1973, qualify for state care except for the fact
that they own a house. While a debate apparently continues as to how
much the house should be sold for the Hamms continue to run up a $1,500
monthly bill. We suggest the case should be settled as expediately as
possible in order that the City can take advantage of the available state
funding.
While the Hamm case deserves attention because of the size of the monthly
charge we are more concerned about the collection procedures in general
at the Hospital. We question whether sufficient infox mat,iolconcerning
the patients. ability to pay is obtained at the time he enters the Hospital.
Furthermore, we question whether the information obtaine is subjected to
a thorough review for the purpose of projecting the means of payment. It
would seem, for instance, that if the above mentioned criteria were
satisfied that the City would not be faced with doubtful accounts of $68,548,
which amount approximates 460 of the total outstanding Hospital receivables.
We strongly suggest, therefore, that the City review the entire collection
procedure at the Hospital for the purpose of strengthening credit .policy.
c) Capital Expenditure and Related Financing - Sewer Fund
During 1973 the Sewer Fund generated cash from operations of $249,334 as re-
flected on the City.'s 1973 financial statements (statement of changes in
financial position). This cash was in turn applied to retirement of general
obligation bond principal in the amount of $162,521 and deposits for construc-
tion with the Capital Improvement Fund of approximately $87,000. Since the
Sewer Fund has on deposit with the Capital Improvement Fund $235,420 of bond
monies reserved for future construction it would seem that 1974 Sewer Fund
operations would not be required to fund Capital expenditures. Provided
1974 operations are comparable to 1973 it would then seem fair to expect a
net 1974 cash generation in the Sewer Fund in the range of $75,000 to
$100,000: We suggest that this excess cash generation could then be used
where needed by the other "Operating Funds" via interfund borrowing or
used to retire the indebtedness owed the Capital Improvement Fund of
$114,600. We emphasize, however, that these funds would only be avail=
able if the Sewer Fund operations improved or remained comparable to 1973.
We suggest that, in any event, the bond reserves currently on hand in the
Capital Improvement Fund should be used for any 1974 Sewer Fund Capital
outlay in order to reduce the drain on operating cash.
We would also point out to you that the Sewer Fund has, as of December 31,
1973, $148,242 of deferred sewer assessments which represent sewer assess-
ments to be recognized in future years. Since it is our understanding
that a majority of these assessments relate to projects completed and paid
for by the City,these assessments technically represent designated monies
for future sewer construction and should be used or such when they are re-
ceive e suggest that the City should review the status of these assess-
ments and levy those whichare due for"the purpose of providing additional
working cash for Sewer Construction.
1974 BUDGET - APPROPRIATION TO SURPLUS
Under separate letter to Management dated May 20, 1974, which is included
herein as Exhibit 1, we pointed out that in our opinion the City needed an appropria-
tion to surplus of approximately $930,000 in 1974. At this time we would like to
comment further on the data contained in Schedules 1 and 2 of that letter.
Schedule 2 of the aforementioned letter presents three deficiencies in
cash which existed at December 31, 1973. Those deficiencies were; loans made by
the Debt Fund to the "Operating Funds" of $540,978; customer deposits on the Airport
Fund in the amount of $110,000 which are designated for the International Arrivals
Building Fund; and designated reserves on the General Fund in the amount of
$108,159. In all three cases at year end the "Operating Funds" did not have suffi-
cient cash to meet these committments. In addition, Schedule 2 identified two pros-
pective cash requirements in 1974, the nature of which has not heretofore been con-
sidered in annual budgets. It is our understanding that the sixth element - contracts
payable - of $22,077 will be considered in the 1974 budget. We, therefore, will not
comment on this element.
. The three elements which we have defined as cash deficiencies at year
end are in our opinion most critical. Unless the operations of the General, Sewer,
Airport, and Hospital Funds are extremely profitable in 1974, it is difficult to
see where the cash will be generated to meet these necessary cash committments
which total $759,137. It seems essential therefore that the General Fund appro-
priate to surplus an amount necessary to meet these requirements. The General
Fund could then loan the Airport and Sewer Funds the amounts necessary to meet
their cash deficiencies. As explained in the preceding paragraph entitled
"Capital Expenditures and Related Financing - Sewer Fund" the Sewer Fund may
generate $100,000 of working cash in 1974 which could be used to meet its cash
deficiency at December 31, 1973. It seems sound municipal finance, however, to
take care of the 1973 cash deficiencies by an appropriation to surplus and thereby
place the "Operating Funds" in a position which would allow them to generate some
cash to serve as an operating cushion. It is difficult at this time to project how
much of an operating cash cushion could be generated. However, if the $759,000
were appropriated to surplus and provided 1974 operations in the Sewer and Airport
Funds were at least comparable to 1973, and furthermore, provided 1974 Sewer and
Airport Capital projects were financed by contributions or bond monies, it is con-
ceivable that the Airport and Sewer Funds could generate in the range of $200,000
to $2501000 of working cash to be used by the "Operating Funds". This estimate is
based on the following:
(A) The loans payable to the Capital Improvement Fund by the Airport and
Sewer Funds would be repaid by tax dollars generated by the appropria-
tion to General Fund surplus and loaned to the Airport and Sewer Funds.
At December 31-, 1973 these loans amounted to $114,000 and $114,600 for
the Airport and Sewer Funds respectively.
(B) The cash committed for customer deposits on the Airport Fund of $110,000
would be loaned to that fund by the General Fund from tax dollars
generated by the appropriation to General Fund surplus.
(C) The loans payable to the General Fund as created by (A) and (B) would
not be repaid by the Airport and Sewer Funds during 1974.
(D) Capital outlay by the Airport and Sewer Funds would be funded by contri-
butions or bond monies.
(E) Based upon the above and assuming the following, estimated cash
generation would be approximately $250,000.
Airport Fund Sewer Fund
Estimated cash to be provided from operations
based upon 1973 results (see 1973 financial
statements - Statement of Changes in
Financial Position) $251,000 $ 249,000
Debt retirement (79,000) (168,000)
Estimated Net Cash Generated $172,000 $ 81.,000
Estimated Total Cash Generated $253,000
The two prospective cash requirements for 1974 which are identified as
estimated increases in inventories and accounts receivable have been dealt with in
preceding paragraphs. We would add, however, to our earlier comments on accounts
receivable that if management concludes that it cannot hold the line on receivables
then it should provide some cushion in its annual budget to cover any projected in-
crease's in these accounts. Schedule 2 of our May 20, 1974 letter estimates that
these increases might be as high as $65,000, based upon a comparison of 1973 balances
to 1972. . We would also reiterate our comments in our earlier paragraph on inventory
budgeting; that prospective increases in inventory accounts should be budgeted for
in the annual budget.
OTHER MATTERS
Borrowing From the Capital Improvement Fund
We have mentioned in preceding paragraphs that borrowing money from the
Capital Improvement Fund for use in the "Operating Funds" generally would be con-
sidered a violation of the charter since the Capital Improvement Fund is funded
primarily by bond issues. We would point out, however, that the Capital Improve-
ment Fund may from time to time have cash on deposit for construction which was
generated by an "Operating Fund". We see no reason why this cash could not be loaned
to the "Operating Funds" as required.
Cash - Control Over Receipts and Unused Checks
At the present time, cash received via mail is received directly from
the mail room by a cashier in the treasurer's department who also prepares the
deposit slip and occasionally takes the deposit to the bank. We feel internal
control would be greatly improved if the person opening the mail ran an adding
machine tape on these checks and restrictively endorsed all checks before they
are forwarded to the treasurer's department., This person would then forward the
items to the cashier and the tape to the treasurer who would attach the bank de-
posit receipt to the tape and compare for agreement.
We also noted that unused checks were left on open shelves in the com-
puter room. We feel that access to unused checks should be limited to computer
processing personnel and therefore recommend that they be kept in locked cabinets.
Tax Acquired Property
During our review, we noted that sales of tax acquired properties.for.
1972 and 1973 were not reflected as reductions in the tax acquired property
account of the Fixed Asset Fund. We feel that the treasurer's department should
give this matter some attention and prepare the necessary journal entries when
the cash from the sale is received.
Inventories
. In a preceding paragraph, we stated that the City should establish
tighter control procedures over inventory purchase and usage and attempt to
obtain maximum benefit from existing inventory supplies. It was noted during
our audit, for example, that a portion of motor pool inventory appeared to be un-
usable and/or obsolete and that, for the most part, items needed currently were
being ordered currently. Although we feel that any potential write off would be
immaterial to the City's financial statements taken as a whole, we believe it is
a matter for consideration and that a complete objective review and physical count
would be'a worthy project for the internal audit department. This review should
also encompass a critical review of the procedures as they relate to maintaining
the perpetual inventory cards since we noted that in both the motor pool and
electrical stock rooms items were taken from stock and not properly removed from
inventory when the stock clerks were off duty or busy with other functions. We
feel access to inventories should be limited to as few individuals as possible and
that stock requisitions should be utilized for all items leaving the stock rooms.
The stock requisitions should then be used as a source of relieving the perpetual
inventory cards.
Another area where we. noticed deficiencies was in the returning of goods
to vendors by the motor pool. When the stock clerk feels that certain parts will
not be used, he can, in some instances, return them for credit. At present, no
communication is made with the purchasing department informing them that a credit
memo should be forthcoming. Thus, if the vendor fails to issue the credit memo
to the City, there is no.means of follow up and the general ledger.inventory
account is never credited. We suggest that an internal three-part credit memo be
utilized which would flow through the system much like a purchase order. Distri-
bution might be as follows:
Copy 1 - To vendor with goods
Copy 2 - Stock room files
Copy 3 To purchasing
When the vendor's credit memo is received, the purchasing department merely matches
it with the open internal credit memo and forwards it to auditing for processing in
the general ledger.
Workmen's Compensation Receivable
The City now has in a Trust and Agency account a receivable for workmen's
compensation in the amount of approximately $18,000. This receivable arose as a
result of the City paying a few individuals weekly workmen's compensation checks..
No claims have been made against Lloyds of London (the insurance carrier at the time
payments began) for several years. We cannot emphasize strongly enough, the need to.
take immediate action on this matter particularly since indications are that the
City need only submit a claim.
Engineering Cost Allocations
The engineering department periodically bills the Sewer Fund for services
rendered. We noted, however, that these costs were being absorbed by the Sewer Fund
in its maintenance accounts even though they were applicable to projects under con-
struction in the Capital Improvement Fund. Since engineering costs are a valid cost
of construction, we recommend that they be allocated accordingly and charged to the
project.
Bangor City Nursing and Health Center
We recommend that consideration be given to establishing the Hospital as
a separate enterprise fund instead of the present practice of including its opera-
ting results with the General Fund operations. By identifying this service on a
continuing basis, fiscal responsibility could be fixed; the annual losses or gains
would accumulate to further identify the fiscal problem instead of the present
method of annually closing out the losses to General Fund Surplus and starting fresh
each year; and plant assets and accumulated depreciation would become part of the
separate fund account with depreciation being recorded monthly consistent with
Medicare regulations.
Whether or not the Hospital remains part of the General Fund or is set up
as a separate enterprise fund, there is amore important area which should be re-
viewed to help reduce the perennial and mounting losses. That area concerns the
space rented or not used for Hospital care. There are presently some six different
agencies using space in the Hospital complex. The Bangor City Health Department
presently occupies 3,362 square feet of space at no cost. We suggest that the City
Health Department be charged - through.an inter -account transfer voucher - for the
reasonable cost of the space it uses. Although this procedure wouldn't. involve any
money, it would more accurately reflect the space costs of the respective departments
instead of the present policy of the Hospital subsidizing the Health Department. The
nominal rate paid by the present tenants also. contributes to the substantial losses
experienced by the Hsopital. Some perspective of the magnitude of foregone revenues
of which we are spe7aMing can be illustrated by what must be done in order to file
.proper Medicare and Medicaid cost reports. For calendar 1973, $77,510 of space
costs had to be eliminated from Hsopital costs as they didn't relate to patient
a
care. There areas were either being used by the Bangor City Health Department
at no charge or by the tenants at a greatly reduced charge. The tenants paid
$11,678 in 1973. The difference between this figure and the $77,510 of eliminated
costs prominently identifies the seriousness of the situation and the magnitude of
foregone Hospital revenues.