Saying he had “serious concerns about the reliability and accuracy” of information in financial reports issued by the city and its redevelopment agency, state Controller John Chiang has informed city officials that a team of auditors will soon begin poring over Hercules’ financial records.
In a to Interim City Manager Liz Warmerdam and City Council members released Thursday, Chiang said a recent review of financial reports had identified several areas that led him to conclude “there is reason to believe that the Annual Report of Financial Transactions by the City of Hercules and the Hercules Redevelopment Agency are incomplete and/or inaccurate.”
Under state law, if financial reports are filed late or there is reason to believe a financial report is “false, incomplete or incorrect,” the Controller is empowered to conduct an investigation. The city must pay for the cost of that investigation.
Chiang’s action comes just five months after his office reviewed 18 redevelopment agencies across the state — including Hercules. In a issued in March, the state controller noted concerns over the financial dealings of several former officials, saying “it is understood that these issues are being investigated at several levels.” That report noted the redevelopment agency was in serious financial trouble, yet had made questionable payments, including $38,400 to a lobbyist, some of which had been taken from affordable housing funds.
Chiang said a number of factors influenced his decision to order the audit, including inconsistencies in how the city reported using millions of dollars in redevelopment and other funds, two Contra Costa County , a police investigation into and a report issued in December 2010 by then-Interim City Manager Charlie Long, who warned the city its finances were seriously troubled. Long was fired soon after his report was issued.
Initially the state audit will focus on the financial reports for the 2009-2010 fiscal year, but Chiang told city officials that depending upon what auditors uncover, the state may review transactions in prior years. Auditors also will review city programs that received funding —including federal money — passed through a state agency to the city or the redevelopment agency.
One area auditors will examine is the “prior period adjustments” on the city’s financial statements. These adjustments are generally used to correct accounting errors and other irregularities, whether they were accidental or not. At least 16 of these adjustments totaling millions of dollars appeared on city financial reports between 2007 and 2010.
Each year Hercules produces separate financial statements for the general city government, the redevelopment agency and the Public Financing Authority. Although the state controller cited several areas of concern on city-wide financial statements, it was the seriously troubled redevelopment agency reports that appear to have raised the most red flags.
Other specific areas outlined by Chiang in justifying the audit:
- Negative amounts reported in the general fund, debt service fund and enterprise funds — such as the Hercules Municipal Utility — during the 2008-2009 fiscal year.
- About $37.8 million in liabilities that may not have been properly reported on the city’s financial statements for last year.
- A conclusion by the city’s auditor that it was doubtful the redevelopment agency could continue as a “going concern” because of its severe financial problems, which included substantial deficits in its operating fund and affordable housing fund and the fact that tax revenue was insufficient to cover debt service on more than $100 million in bonds.
- The redevelopment agency's failure to adopt a new five-year implementation plan as required by state law.
Another area of concern centered upon a 2009-2010 “Management Letter” submitted by Moss, Levy & Hartzheim, a Southern California accounting firm that has audited city books for the past four years. Management Letters are separate reports accompanying annual financial statements that address shortcomings in financial management and outline deficiencies in a city’s financial internal controls.
The state controller noted that the city’s management letter for the 2009-2010 fiscal year listed 23 findings of significant shortcomings in Hercules’ financial reporting and compliance with accounting standards. A state review, according to Chiang, found deficiencies reported in previous letters had apparently not been addressed and there was no way to know whether they had been corrected.
In 2008 the Management Letter found 13 deficiencies, which the city said it would correct, including the city’s failure to obtain supporting documentation for purchase orders and incorrect billing rates at the city’s municipal utility.