SACRAMENTO COUNTY SPECIAL DISTRICTS - RETAINED EARNINGS

Subject of Investigation

Planned Disposition of Retained Earnings of Selected Independent Special Districts.

Reason for Investigation

1. The Little Hoover Commission Report of May 2000 on independent districts in California stated that they have over $19.4 billion in reserves and many special districts have excess retained earnings (reserves)
2. The Grand Jury has authority to review the management and operations of special districts. (Penal Code §933.5)
3. The Grand Jury wished to determine if special districts in Sacramento County have unnecessarily large retained earnings (reserves).

Method of Investigation

The Grand Jury requested all Sacramento County Independent Districts to provide:
1. District mission and purpose
2. Summary and financial information

a) Budget for the current fiscal year
b) Most recent audited financial statement

3. District policy on the accumulation and use of reserves

a) Reserve funds and their purpose
b) Real estate holdings
c) Plans for the future, including anticipated revenues, expenditures, bonds, reserves and trends in user rates.
d) Copies of board resolutions adopting plans

4. The names of special district board members and their benefits, compensation, salaries, and per diem rates.

The district replies were analyzed in detail. We focused on unreserved and/or undesignated retained earnings in the reported balance sheets and earnings statements for each district. The results of this analysis led us to look primarily at Water Districts and Park and Recreation Districts.

Background

Water Districts are classed as enterprise districts since their primary source of revenue is the fees they charge for services. Park and Recreation Districts are classed as non-enterprise districts since their primary source of revenue is property taxes. The Little Hoover Commission, formally known as the Milton Marks "Little Hoover" Commission on California State Government Organization and Economy is an independent State oversight agency. The Commission is a bipartisan board composed of five members appointed by the Legislature, two State Senators, and two members of the State Assembly. The Commission conducts investigations into the workings of state government by conducting public hearings, employing experts and advisory committees, and visiting government operations in action. It's conclusions, including proposed legislation if appropriate, are submitted to the Governor and Legislature for their consideration.

The Grand Jury received copies of the Little Hoover Commission Report titled Special Districts: Relics of the Past or Resources for the Future? , published in May 2000. This report highlighted a lack of governmental control or oversight of special districts within the state. We used the findings of the Little Hoover Commission as the basis for this investigation and quote liberally from their report.

According to the Report, "California has 58 counties, 474 cities - and more than 3,800 special districts. About two-fifths of those districts are considered `dependent' because they are governed by a larger entity, such as a county board of supervisors. But more than 2,200 of these districts are `independent', governed by their own elected bodies, including park districts, water districts, hospital districts and sanitation districts. Many independent districts also are `enterprise' districts, like water and sewer agencies, which directly charge customers fees for the services they provide. Others, such as library and park districts, are `non-enterprise' districts, which rely mostly on property tax revenues to serve their communities." ¹

TABLE 1 - CALIFORNIA INDEPENDENT SPECIAL DISTRICTS

Independent Special Districts
Air Pollution	7	Maintenance	23
Airport	9	Municipal Improvement	4
Cemetery/Memorial	279	Parking	3
Community Services	283	Pest Abatement	61
Drainage	28	Police Protection	3
Fire Protection	342	Recreation & Park	96
Flood	35	Reclamation	132
Garbage Disposal	1	Resource Conservation	92
Harbor & Port	12	Sanitary/Sanitation	117
Healthcare/Hospital	74	Separation of Grade	1
Highway Lighting	4	Utility	55
Library	14	Water	458
Source: State Controller, 1996-97 financial data, on file. Counts for districts that reported reserves and gross revenue information to the Controller. Does not include transit districts or 86 districts identified by the Controller as inactive. Health district count is from the Association of California Healthcare Districts.2

Statewide, independent special districts, according to the most recent data available from the State Controller's Office, have $19.4 billion in reserves, almost 2-1/2 times their annual gross revenues. In most cases, the Commission found that community leaders and the public did not know the size of these reserves and why they are being held. Statewide, the enterprise districts had $18.2 billion in reserve funds while the non-enterprise districts had $1.2 billion.³

Independent special districts are financially autonomous units of local government with the same governing powers as other local governments. They can enter into contracts, acquire real property and issue debt. Enterprise districts can charge fees for their services. While all districts operate under statutory authority, there are no specific provisions in district laws that govern the accumulation and use of reserves. Furthermore there are no formal guidelines or widely accepted standards to guide special districts in the accumulation and use of reserves."⁴

In its report, the Little Hoover Commission found that only about half of the special districts had formal reserve fund policies. Of those that had formal policies, there was wide variation in what was considered "prudent". The Commission found there was little agreement between district officials as to the principles or accepted standards for establishing reserves by the special districts. The Commission also stated in its report that "financial rules do not require information to be presented in ways that would provide for the public or policy-makers to understand or scrutinize how districts use public funds in general, and reserves in particular.

"Districts report reserves in different ways, depending on whether they are enterprise or non-enterprise districts. Because district financial information is not widely disclosed or easily understood, the public and policy-makers are largely unaware of the existence and purposes of the reserves held by special districts.

"In financial statements and reports to the State Controller, enterprise districts report the difference between revenues and expenditures as fund equity. Fund equity, in turn, is divided into contributed capital and retained earnings. A district's retained earnings represent the equity that it derives through fees and charges from the provision of services. Contributed capital is equity obtained from other sources, such as facilities developers have built and contributed to a special district.
"Retained earnings can include funds that districts designate as `restricted,' for example, to bond debt service; funds restricted by the board for capital projects; and funds otherwise restricted, sometimes legally committed, for a specific purpose.

"Non-enterprise districts report the difference between revenues and expenditures as fund balances. In governmental accounting, the fund balance includes the broad categories 'reserved' and `unreserved' -with some subcategories within each. `Reserved' funds are set aside because the district has entered into a commitment in which it is obligated to make payment once a vendor or contractor delivers a product. `Unreserved' fund balances are not obligated and include `designated' and `undesignated' funds."⁵

The Little Hoover Commission also stated in its report: "Special districts are not required to participate in the development of county or city general plans or to cooperate and coordinate their activities with neighboring governments. (California Government Code, Section 65350)⁶ We found this to be equally true in Sacramento County with little evidence presented of cooperative planning between the districts and/or county government.

In our investigation, we did find board members' benefits, compensation and per diem payments to be within the guidelines set by state statutes. Therefore we focused our investigation on retained earnings that either can be designated or undesignated. We decided to focus on undesignated retained earnings because, in the initial data we reviewed, there were no plans for their future use.

The Grand Jury found that significant undesignated retained earnings are held by enterprise districts (primarily water) and by non-enterprise districts (primarily park and recreation) in Sacramento County. We found that enterprise districts tended to hold far greater undesignated retained earnings than the non-enterprise districts. As shown in Table 2, the enterprise districts have undesignated retained earnings of almost $125 million. This total equals almost three times their annual operating revenue. This data is consistent with the findings of the Little Hoover Commission for the entire State of California. See Table 2 below:

TABLE 2 - ENTERPRISE DISTRICTS

DISTRICT	Fiscal Year Ended	Annual Operating Revenue	Retained Earnings (a)	% of Operating Revenue
Arcade Water	8/31/99	6,403,585	32,601,792	509%
Carmichael Water	6/30/00	6,259,348	18,148,129	290%
Citrus Heights Water	12/31/99	4,488,293	19,737,203	440%
Del Paso Manor Water	6/30/99	345,136	908,395	263%
Fair Oaks Water	12/31/99	4,375,221	8,647,230	198%
Florin County Water	6/30/00	471,500	1,265,186	268%
Northridge Water (b)	2/29/00	6,634,438	8,888,531	134%
Rancho Murieta Community Services (c)	6/30/00	2,075,483	2,413,292	116%
Rio Linda/Elverta Community Water	6/30/00	738,561	2,776,671	376%
San Juan Water	6/30/00	7,844,752	32,048,846	409%
			Average	300%
TOTALS		$39, 636.317	$127,435,275

Notes:

(a) Unreserved (undesignated) funds if broken out in financial report provided.
(b) Northridge is taking over water service at McClellan AFB.
(c) Includes Water, Sewer, Drainage and Security.

In contrast, the non-enterprise districts average undesignated retained earnings of over one-half their annual revenues. Non-enterprise districts still accumulated significant sized undesignated reserve funds. The non-enterprise districts shown in Table 3 have accumulated over $34 million in retained earnings that are undesignated. See Table 3 below:

TABLE 3 - Non-ENTERPRISE DISTRICTS

DISTRICT	Fiscal Year Ended	Annual Operating Revenue	Retained Earnings (a)	% of Operating Revenue
Arden Park P & R	12/31/99	590,137	371,775	63%
Cordova P & R	6/30/00	3,634,861	2,013,127	55%
Elk Grove Community Services (b)	6/30/99	21,859,529	19,451,085	89%
Fair Oaks P & R	12/31/99	1,368,214	555,866	41%
Orangevale P & R	6/30/99	1,607,837	1,614,957	100%
Rio Linda-Elverta P & R	6/30/99	475,836	208,943	44%
Southgate P & R	6/30/99	4,994,471	3,098,005	62%
			Average	65%
TOTALS		$34,530,885	$27,313,758

Notes:

(a) Unreserved (undesignated) funds if broken out in financial report provided.
(b) Includes Fire, Emergency Medical and Park and Recreation.

Members of the Grand Jury were concerned by the lack of definitive policies on the accumulation and use of these undesignated retained earnings. In the data submitted to the Grand Jury, only the Fair Oaks Water District submitted a comprehensive, well-constructed policy on reserve funds.⁷ However, it still maintains undesignated retained earnings of almost $9 million, or about twice its annual operating revenues.

The Grand Jury also found that districts' financial data is not reported in any uniform manner. While the reports are prepared according to principles and standards developed by and for professional accountants, the financial information is difficult to understand for persons lacking training in public finance. Each district appears to adopt its own specific terminology for the naming of accounts and the distribution of expenses and revenues. Thus it is very difficult for the average citizen to understand what is being presented in the financial reports.

Grand Jurors could find no evidence that any of the districts have any plans for integrating their undesignated retained earnings into countywide infrastructure planning.

Statewide, according to the Little Hoover Report, water districts reported $11.8 billion in retained earnings in 1996-97. This represented 65% of the retained earnings of all enterprise districts in the state. California voters passed the "Safe, Clean, Reliable Water Supply Act, Proposition 204, in 1996. The "Safe Drinking Water, Clean Water, Watershed Protection and Flood Bond Act was passed by voters in March 2000. Neither measure considers the resources already available to water districts. Neither measure prevents districts with large reserves from tapping these funds. Some projects funded by the bond measures will benefit districts with large retained earnings or the capacity to raise their own infrastructure funds.⁸

Conclusions

1. Many enterprise districts have undesignated retained earnings in amounts that closely agree with the data in the Little Hoover Commission report.
2. Several of the enterprise districts reviewed have undesignated retained earnings that appear to be unreasonably large.
3. Few of the enterprise districts have an easily understood, board-approved and documented plan describing the development and use of undesignated retained earnings.
4. Non-enterprise districts appear to have undesignated retained earnings more in keeping with their potential needs than the enterprise districts.
5. Districts do not provide easily understood financial statements to the public.
6. We endorse the recommendation of the Little Hoover Commission that the Governor and the Legislature should enact policies that will ensure prudent management of special district reserve funds and incorporate those resources into regional and statewide infrastructure planning.

Findings and Recommendations

Finding #1. With the exception of the Fair Oaks Water District, we could find little evidence that district boards have a policy on accumulation and use of undesignated retained earnings.
Recommendation #1. Each of the independent special districts listed in Tables 2 and 3 should:

1. Develop and publish guidelines governing accumulation of retained earnings and to justify to its constituency the amount of retained earnings maintained which is prudent.
   
2. Develop and publish a plan for effective utilization of its surplus retained earnings in order to reduce the surplus to prudent levels.

1. Arcade Water District: $33 million, five times annual operating revenue.
2. Carmichael Water District: over $18 million, three times its operating revenue.
3. Citrus Heights Water District: almost $20 million, four and one-half times its annual operating revenues.
4. San Juan Water District: over $32 million or about four times its annual operating revenues.

Finding #3: Special district financial statements cannot be evaluated effectively without consistent terminology and formats.
Recommendation #3: The County Executive and County Counsel should evaluate the County's authority to mandate consistent and clear terminology and formats for special district financial reports. As an alternative, mandate additional reports by each special district with consistent and clear terminology and formats for use by the public and other interested parties when evaluating special district financial reports.

Finding #4. Special district funds and county general funds could be used more effectively and efficiently if special district plans for use of their general and surplus funds were integrated with countywide infrastructure planning.
Recommendation #4. The County Executive and County Counsel should evaluate the authority of the Board of Supervisors' through the General Plan Law or other means and the Local Agency Formation Commission (LAFCO) should evaluate its authority to mandate special district plans for use of their general and surplus funds in a manner which is integrated with countywide infrastructure planning.

Response Required:

Penal Code Section 933.05 requires that specifici responses to both the findings and recommendations contained in this report be submitted to the Presiding Judge of the Sacramento Superior Court by September 30, 2001 from:
Recommendations 1 thru 4:

· Arcade Water District
· Carmichael Water District
· Citrus Heights Water District
· Del Paso Manor Water District
· Fair Oaks Water District
· Florin County Water District
· Northridge Water District
· Rancho Murieta Community Services District
· Rio Linda/Elverta Community Water
· San Juan Water District
· Arden Manor Park and Recreation District
· Cordova Park and Recreation District
· Elk Grove Community Services District
· Fair Oaks Park and Recreation District
· Orangevale Park and Recreation District
· Rio Linda - Elverta Park and Recreation District
· Southgate Park and Recreation District

Recommendatons 3 and 4 only:

· County Executive and County Counsel

Recommendation 4:

· LAFCO

 

 

1 Little Hoover Commission, p. pp i & ii

2 Little Hoover Commission, Table from p. 7

3 Little Hoover Commission, p. 56

4 Little Hoover Commisssion, p. 53

5 Little Hoover Commission p. 54

6 Little Hoover Commission, p. 56

7 Fair Oaks Water District, Policy Number 5050 adopted April, 1988 and revised November, 2000

8 Little Hoover Commission, p. 57