One Local Businessperson's Thoughts on The City's Fiscal Crisis ~ Annapolis Capital Punishment

Wednesday, August 11, 2010

One Local Businessperson's Thoughts on The City's Fiscal Crisis

The following was provided to ACP by a financial/business manager in Annapolis who has been a longtime observer of city politics. The author has asked that I keep his/her identity anonymous and I am okay with that because the person is known to me and there are no offensive remarks in this column. Readers are also asked to see my The Ninth Ward column about this same topic in today's Capital at  under opinion:

Mayor Cohen wrote that "we cut the budget by 13% and achieved a balanced budget for fiscal 2011 without raising property taxes" This remains to be seen. There is a balanced budget on paper,but already we are hearing that expenses are over projections and revenues are down. Presumably the City like every other government and business has a monthly budget and compares actual revenue and expense to budgeted revenue and expense for each month and on a cumulative year to date. It would be very interesting to see if the actual for the first month of FY 2011 even resembles the budget.

The mayor also wrote that "cutting our budget is not a solution to our cash flow problem because those cuts would do nothing to replenish our reserves" This simplistic rationalization will doom the City to he current cycle forever! Unless the City cuts expenses it will NEVER create reserves and will have to rely on bank loans to run the City. If as rumor has it the City is near defaulting on a bond payment, that act along with the City's critical financial situation will undoubtedly catch the attention of the rating agencies and I can't imagine a scenario where the bond rating will not be adversely affected. One can only wonder what a lower bond rating will do the City's ability to raise debt. Certainly if the current real estate taxes which are the repayment source for bonds are insufficient to pay the current debt, it will be quite hard to issue new debt without a tax increase.

Also from the mayor....."the City Council recently adopted a three-year plan to restore our cash reserves to acceptable levels" . I guess I missed this plan, but I can't envision any way to increase reserves without cutting expenses so that revenues exceed expenses thus creating reserve funds at year end. I also note that most government's have both operating reserves and bond reserves. Bond reserves are specifically pledged to repayment of the bonds and the rating agencies usually set the reserves at a percentage of all outstanding bonds. I believe it was revealed during the budget process that the City's bond reserves consist of property not cash. I wonder if the rating agencies were aware of this? I also note that when there are no cash reserves, the City faces situations like the one coming up where bond payments are due but there are no funds to make the payment. I would love to see the trust indenture for the bonds to see what reserve requirements are required by the documents.

Borrowing to meet cash flow needs is highly unusual for governments. In fact most local governments do not secure bank loans. Doing this causes a cycle which is nearly impossible to make without drastic changes in spending practices. We can't pay bills, so we borrow, when the cash comes in we use it to pay off the loan plus interest and then don't have enough cash to pay upcoming bills because we just used it all to pay the loan which covered costs from prior periods, so we need to borrow again for upcoming expenses. Interest on short term debt is very low right now, but that situation will not continue forever and when interest rates increase we get even further behind.

The real disconcerting point in my mind is the fiscal year mis-match. We borrowed $10MM to pay FY 2010 expenses and we are relying on FY 2011 tax revenue to pay off the loan. In other words we ran out of money for the last quarter of last year. If last years budget was balanced that essentially means either revenue was 25% below projections or expenses were 25% over projections. Neither situation bodes well for getting through this year.

The column sum-up points are really scary. The mayor has directed the acting city manager to examine departmental revenues and expense. This is such a basic operating function that the thought the City Manager has to be directed to do it by the mayor is frightening. Even more frightening is the Mayor states this as one his three big action items as if it is a truly enlightened approach to management.

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