RISKS FACING THE CITY OF MONTEBELLO
This audit report concludes that the city of Montebello (Montebello) is a high‑risk local government agency because of several risk factors related to the city's financial and organizational management. These risk factors include the following concerns:
- Montebello's ongoing revenues are not sufficient to meet its expenditures without using funds from one-time sources.
- The city's current plans for its municipal golf course, water system, and hotels do not sufficiently address significant financial risks to the city's general fund associated with those enterprise activities.
- The city's weak financial processes, noncompetitive contracting practices, and lack of adequate staff expose the city to significant risks for fraud, waste, abuse, and mismanagement.
To help Montebello address these risks in a reasonable amount of time, we recommend several actions the city can take, including selling its water utility, exploring alternatives for its golf course, and strengthening its financial processes and contracting practices. By implementing our recommendations, Montebello would take steps toward eliminating its structural deficit and reducing the city's risk for fraud, waste, abuse, and mismanagement.
For much of the past decade, Montebello has struggled to generate sufficient revenues from ongoing sources—such as property taxes, sales taxes, and fees for services—to meet its expenses and as a result, the city suffers from a structural deficit. Figure 1 shows the difference between ongoing revenues and expenditures. To balance its budget, the city has relied on one-time revenues. For example, for the past five fiscal years, Montebello has traded restricted transportation funds to another city for a smaller amount of unrestricted funds. From these one-time revenues, Montebello has managed to preserve—and, in some cases, increase—the reserve in its general fund. However, if the city is unable to raise sufficient one-time revenues, it will see its reserve shrink or even disappear. For example, in fiscal year 2016–17 Montebello added $4.7 million in restricted redevelopment funds to its general fund balance. Had it not done so, the city would have ended the fiscal year with a slight operating deficit.
Difference Between Montebello's Ongoing General Fund Revenues and Expenditures
Source: Analysis of Montebello's financial reports and most recent budget.
* Based on its unaudited financial information, Montebello estimates that it will receive sufficient revenues from its ongoing revenue sources to meet its needs in fiscal year 2017–18. However, Montebello's fiscal year 2017–18 budget originally projected a $2.7 million budget deficit.
Montebello's enterprise activities, including a municipal golf course, water utility, and two hotels, place further pressure on the city's general fund. The golf course and water utility have relied on loans from the general fund to cover operating deficits in recent years. The bonds issued to construct the hotels, meanwhile, continue to expose the city's general fund to significant financial risks. As we discuss in this report, if hotel revenues are insufficient to cover hotel‑related costs, which include bond debt payments, Montebello's general fund may be required to make these payments.
The city's water system has been a drain on the city's finances because it has not been self‑supporting, and it does not have the resources to address its own infrastructure needs. This water system serves less than 3 percent of the city's population, but the city has subsidized it with general fund loans in recent years. As a result of recent rate increases, the city expects that its water system will operate with a slight budget surplus beginning in fiscal year 2017–18. The city plans to pay $100,000 per year toward the $800,000 the water system owes Montebello's general fund. Nevertheless, the city has yet to address nearly $50 million in needed capital improvements to its water system, which may burden the general fund in the future. In 2016 the city attempted to sell its water system and voters rejected the move. However, in September 2018, the Governor signed legislation that allows Montebello and two other cities to try to sell their water systems without first obtaining voter approval.
Montebello's hotel enterprises, meanwhile, may pose ongoing risks to the general fund and they have not yet generated revenue to the city's general fund. Montebello financed its first city-owned hotel in 2001, and it began constructing a second hotel in 2016. As Figure 2 shows, the city's hotels and an event center called Quiet Cannon (event center) are located near the city's municipal golf course. So far the city's original hotel has yet to generate any revenue for the general fund. When deciding to construct a second hotel in 2016, city leaders assumed that the new hotel would provide revenue to the city's general fund soon after opening. However, the new hotel may not meet that goal because of construction delays. The city is currently scheduled to pay up to $3.7 million annually for its 2001 and 2016 hotel construction bonds, which expire in 2033 and 2046, respectively. The city has pledged hotel and occupancy tax revenues to pay for the bonds, but if hotel revenues fall short, the city may have to use general fund revenues to cover the bond payments to avoid default.
Montebello's Event Center and Hotels Are Located Next to the Municipal Golf Course
Source: Map data from Google.
We also found that Montebello engaged in poor contracting practices related to construction of the second hotel and that the city did not take adequate steps to ensure that it received the best value from closely related businesses that operate the two hotels and the event center. The city gave bidders for the city's second hotel construction contract in 2016 only 10 days to develop and submit proposals for the $36 million project, an amount of time insufficient for projects of this magnitude. The city received only one bid. Furthermore, one individual—the hotel operator—holds the franchise rights to both hotels and owns or co‑owns the companies that manage both hotels and the event center. In November 2017, the city council voted to extend the hotel operator's management agreement without attempting to competitively bid for the services because an existing agreement with another of the hotel operator's companies would have made it difficult to do so.
Further, Montebello's lack of controls over its operations put the city at greater risk for waste, fraud, and abuse. For example, we reviewed a contract that the city manager on leave1 appears to have signed for an amount that would eventually exceed her signature authority. Specifically, she approved hourly services for a consultant to assist the city's planning department, and the contract did not include a maximum dollar amount. The city ultimately spent over $149,000, and a contract of this magnitude should have received city council approval.
In 2011 the State Controller's Office (State Controller) conducted an audit of Montebello's operational and accounting processes and in its report made a number of recommendations to correct deficiencies. We reviewed 21 of these deficiencies and found that Montebello has yet to fully address nine of them. Finally, Montebello has had difficulty maintaining senior-level staff, which can make it difficult to implement consistent processes for its finances and operations. For example, since February 2017, the city has not had a permanent director of finance.
The Local High Risk Program
In October 2017, the California State Auditor (State Auditor) informed Montebello that it had selected the city for review under its high‑risk local government agency audit program (local high risk program). This program authorizes the State Auditor to identify local government agencies that are at high risk for potential waste, fraud, abuse, or mismanagement, or that have major challenges associated with their economy, efficiency, or effectiveness. We initially identified Montebello as a possible high‑risk local government entity based on publicly available information. We completed our initial assessment of Montebello in January 2018, identifying concerns related to the city's enterprise fund deficits, projected general fund budget shortfall, unmet water system infrastructure needs, and lack of progress toward implementing the State Controller's recommendations from a 2011 audit.
In January 2018, Montebello provided us with an update on its progress in addressing the risk factors we identified. The city's response highlighted its $9.3 million general fund reserve, one-time revenues, and plans for a future housing development. However, based on our continuing concerns over the challenges we highlighted above and that we discuss in more detail in this report, we recommended an audit of Montebello, which the Joint Legislative Audit Committee approved in May 2018.
Agency's Proposed Corrective Action
Montebello stated that it supports many of the conclusions reached in the report and is working on its corrective action plan, but did not address the report's recommendations specifically in its response.
1 In November 2017, the city council placed its city manager on a leave of absence. We refer to her as city manager on leave throughout this report. The city has hired another individual to act as city manager while she is on leave. Go back to text