It’s Not Rocket Science.
Often, community members are surprised when the media reports that their local city government is in financial trouble. They shouldn’t be – there are early indicators of a city’s financial health that are available to all interested parties who look for them. There are four strong indicators of the financial health of our local communities:
- A defensible and dynamic Ten-Year Financial Plan
- An understandable and logical approach to cash management and cash reserves
- A realistic, balanced budget
- A performance management system
Long-term Financial Planning — An organization needs a ten-year plan — the solid footing of the first five years and the intelligent prediction of the second five years to see and anticipate trends. A quality Plan includes an honest assessment of unfunded liabilities and needs; and defined strategic actions to resolve the liabilities and meet the needs. What should you look for in the presentation of the long-term financial plan?
- What is the quality and reliability of the underlying assumptions used to develop the Plan? Developing good assumptions with the widest possible input from inside and outside of the organization takes an immense amount of work; however, the process and the logic employed in developing the assumptions is the very backbone of any quality financial plan. Assumptions must be reviewed and updated at least twice a year and upon the occurrence of any major event within the timeframe of the assumptions (e.g., the unexpected closing of a major retailer, the unanticipated sale of a major industrial location, or a market collapse.)
- Are there long-term financial plans for every major fund in the organization (e.g., utility funds as well as the general government operating fund)? All funds depend on revenue either from taxes, usage rates, or fees. Tax payers and rate payers are often the same people. Therefore, they have a right to know the status of each fund and the basis of the taxes or utility rates they are asked to pay. In return, they have a responsibility to understand the complicated split between local, State, and special districts, and to be clear about what portion of their taxes, rates, and fees flow to their local city.
- Do each of the plans identify the depth and breadth of all unfunded liabilities within the fund like retirement obligations; and unfunded needs like major technology updates or replacement of large, expensive equipment?
- Are the actions and decisions of the Policy Body and the staff consistent with the Plan? If something occurs during the year that appears to require deviation from the Plan, are city leaders clear what it is, why it is necessary, and why it deviates from the Plan; and do that present that understanding in a public forum. Does staff simultaneously present an update of the Plan reflecting the financial and operational impact of the recommended course of action?
Cash Management and Cash Reserves. Like any household budget, public jurisdictions need “reserves” – an amount of easily available cash they can use to meet an emergency or to take advantage of an opportunity; an amount that can be spent without jeopardizing normal operations, usually in addition to the approved annual budget. Most do have some reserves, but the basis of calculating the reserve level varies tremendously among cities.
- Reserves should be based on a logical, well-thought out target. Historically, reserves were based on an arbitrary percent of the target fund (i.e., the General Fund). Certainly, the General Fund is critical, but so are infrastructure/enterprise funds like water, sewer, storm water, and other funds. Basing reserves on an arbitrary percent is outdated, although many organizations still use it.
- A more logical and protective approach is to base reserves on a calculated amount of funding needed to operate the organization at a critical level for a specified number of months in the case of a natural regional disaster or a crashing economic collapse (e.g., regarding a major regional earthquake, how much money is needed and for how long to allow essential governmental operations to conduct response, clean-up, and recovery; how long before government begins to operate normally; and how long will it take for revenue such as sales tax or business license tax to start flowing again to the governmental body? What are the “critical” or “essential” services needed/desired by the community during difficult times and how much do they cost?)
- Reserve policies are inextricably linked to prudent cash management. The city needs to know how much cash to keep on hand, where it is kept, and on what basis it is to be used. Once policies are adopted, the Policy Body must adhere to them when making financial decisions; or, have very good public reasons for deviating from them.
A Balanced Budget. Every city must have a balanced budget to guide it on a day-to-day basis. The budget must be realistic, not rely on smoke and mirrors or one-time funds to achieve balance; and be tied into a usable and used performance measurement and reporting system. If a city is consistently budgeting more than projected revenue and/or using one-time funds to close the gap, there is a structural problem within the city’s finances and the community is headed toward financial trouble.
- A thoughtful balanced budget requires complete analysis of organizational needs by staff (funded and unfunded, short and long-term), tough priority-setting by the Policy Body, and transparent and frequent communication throughout the organization and the community all through the year.
- Financial Plans should include clear policies about how the city intends to use any one-time funds. This should rarely, if ever, be for on-going operational needs (i.e., it should not be used regularly to balance the budget.) Rather, it should be utilized for capital or other one-time events, projects, unforeseen crisis, or immediate opportunities. There must be a rational structure within which to occasionally utilize one-time funds to meet a short-term need. The structure should be composed of well-vetted policies, which are communicated clearly; and the organization must have clear and adopted operational priorities.
- All governmental organizations in California (and probably most everywhere else) have unfunded needs and liabilities. The Ten-year Plan and the budget document should clearly identify the major unfunded items along with their projected costs and demand timelines; and a strategy for resolving the liabilities and meeting the needs. If they can’t be met, that is another indicator that a city has structural financial trouble.
Managing and Measuring Performance. A strong signal that an organization is well-run and funded accordingly is that the adopted budget includes clear priorities, both short and long-term. These priorities need to be simply presented, limited in quantity, easy for all stakeholders to understand; and they must be easily measurable. They must be manageable and achievable within a defined time frame. The priorities have to be supported by a usable and used measurement and reporting system, the results of which are captured and publicly reported throughout the year; and which are summarized in the adopted budget. Using the data constructively means receiving constant feedback and using the feedback to make necessary course corrections and process improvements on a continual basis.