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2018 Monticello Auditor's Management Letter Management Report for City of Monticello, Minnesota December 31, 2018 THIS PAGE INTENTIONALLY LEFT BLANK To the City Council and Management City of Monticello, Minnesota We have prepared this management report in conjunction with our audit of the City of Monticello, Minnesota’s (the City) financial statements for the year ended December 31, 2018. We have organized this report into the following sections: •Audit Summary •Governmental Funds Overview •Enterprise Funds Overview •Government-Wide Financial Statements •Legislative Updates •Accounting and Auditing Updates We would be pleased to further discuss any of the information contained in this report or any other concerns that you would like us to address. We would also like to express our thanks for the courtesy and assistance extended to us during the course of our audit. The purpose of this report is solely to provide those charged with governance of the City, management, and those who have responsibility for oversight of the financial reporting process comments resulting from our audit process and information relevant to city finances in Minnesota. Accordingly, this report is not suitable for any other purpose. Minneapolis, Minnesota May 22, 2019 C E R T I F I E D A C C O U N T A N T S P UBLIC PRINCIPALS Thomas A. Karnowski, CPA Paul A. Radosevich, CPA William J. Lauer, CPA James H. Eichten, CPA Aaron J. Nielsen, CPA Victoria L. Holinka, CPA/CMA Jaclyn M. Huegel, CPA Malloy, Montague, Karnowski, Radosevich & Co., P.A. 5353 Wayzata Boulevard • Suite 410 • Minneapolis, MN 55416 • Phone: 952-545-0424 • Fax: 952-545-0569 • www.mmkr.com Standard Letterhead-r2.qxp_167639 Letterhead-RV1 9/7/18 6:34 PM Page 1 THIS PAGE INTENTIONALLY LEFT BLANK -1- AUDIT SUMMARY The following is a summary of our audit work, key conclusions, and other information that we consider important or that is required to be communicated to the City Council, administration, or those charged with governance of the City. OUR RESPONSIBILITY UNDER AUDITING STANDARDS GENERALLY ACCEPTED IN THE UNITED STATES OF AMERICA, GOVERNMENT AUDITING STANDARDS, AND TITLE 2 U.S. CODE OF FEDERAL REGULATIONS PART 200, UNIFORM ADMINISTRATIVE REQUIREMENTS, COST PRINCIPLES, AND AUDIT REQUIREMENTS FOR FEDERAL AWARDS (UNIFORM GUIDANCE) We have audited the financial statements of the governmental activities, the business -type activities, each major fund, and the aggregate remaining fund information of the City as of and for the year ended December 31, 2018. Professional standards require that we provide you with information about our responsibilities under auditing standards generally accepted in the United States of America, Government Auditing Standards, and the Uniform Guidance, as well as certain information related to the planned scope and timing of our audit. We have communicated such information to you verbally and in our audit engagement letter. Professional standards also require that we communicate the following information related to our audit. PLANNED SCOPE AND TIMING OF THE AUDIT We performed the audit according to the planned scope and timing previously discussed and coordinated in order to obtain sufficient audit evidence and complete an effective audit. AUDIT OPINION AND FINDINGS Based on our audit of the City’s financial statements for the year ended December 31, 2018: • We have issued an unmodified opinion on the City’s basic financial statements. Our report included a paragraph emphasizing the City’s implementation of Governmental Accounting Standards Board (GASB) Statement No. 75, Accounting and Financial Reporting for Postemployment Benefits Other Than Pensions during the year ended December 31, 2018. Our opinion was not modified with respect to this matter. • We reported no deficiencies in the City’s internal control over financial reporting that we considered to be material weaknesses. • The results of our testing disclosed no instances of noncompliance required to be reported under Government Auditing Standards. • We reported that the Schedule of Expenditures of Federal Awards is fairly stated, in all material respects, in relation to the basic financial statements. • The results of our tests indicate that the City has complied, in all material respects, with the types of compliance requirements that could have a direct and material effect on each of its major federal programs. • We reported no deficiencies in the City’s internal controls over compliance that we considered to be material weaknesses with the types of compliance requirements that could have a direct and material effect on each of its major federal programs. -2- • We reported one finding based on our testing of the City’s compliance with Minnesota laws and regulations as follows: o Minnesota Statutes § 69.031 and § 423A.022, Subd. 2 states that annually, the commissioner of revenue shall allocate police and firefighter retirement supplemental state aid. Of the total amount appropriated as supplemental state aid, a percentage is paid to the executive director of the Public Employees Retirement Association for deposit in the Public Employees Police and Fire Retirement Fund. A percentage is then paid to municipalities that qualify to receive fire state aid in that calendar year. For municipalities that are allocated amounts for fire departments participating in th e voluntary state-wide lump sum volunteer firefighter retirement plans, this balance is required to be paid to the treasurer of each municipality for transmittal within 30 days of receipt to the treasurer of the applicable volunteer firefighter relief asso ciation for deposit in its Special Fund. For the 2018 allocation of this aid to the City, the City did not pay the fire relief association prior to the 30-day period set by Minnesota Statutes. The payment of the balance required to be paid was made 37 days after receipt, 7 days beyond the 30-day requirement. SIGNIFICANT ACCOUNTING POLICIES Management is responsible for the selection and use of appropriate accounting policies. The significant accounting policies used by the City are described in Note 1 of the notes to basic financial statements. No new accounting policies were adopted and the application of existing policies was not changed during the year ended December 31, 2018; however, the City implemented the following governmental accounting standards during the fiscal year: • GASB Statement No. 75, Accounting and Financial Reporting for Postemployment Benefits Other Than Pensions, which established new accounting and financial reporting requirements for governments whose employees are provided with other post-employment benefits (OPEB). • GASB Statement No. 85, Omnibus 2017, which addresses issues that have been identified during implementation and application of certain GASB statements. We noted no transactions entered into by the City during the year for which there is a lack of authoritative guidance or consensus. All significant transactions have been recognized in the financial statements in the proper period. ACCOUNTING ESTIMATES AND MANAGEMENT JUDGMENTS Accounting estimates are an integral part of the financial statements prepared by management and are based on management’s knowledge and experience about past and current events and assumptions about future events. Certain accounting estimates are particularly sensit ive because of their significance to the financial statements and because of the possibility that future events affecting them may differ significantly from those expected. The most sensitive estimates affecting the financial statements were: • Depreciation – Management’s estimates of depreciation expense are based on the estimated useful lives of the assets. • Other Post-Employment Benefit (OPEB) and Pension Liabilities – The City has recorded liabilities and activity for pension benefits and OPEB. These obligations are calculated using actuarial methodologies described in GASB Statement Nos. 68 and 75. These actuarial calculations include significant assumptions, including projected changes, healthcare insurance costs, investment returns, retirement ages, proportionate share, and employee turnover. -3- • Land Held for Resale – These assets are stated at the lower of cost or acquisition value based on management’s estimates. • Compensated Absences – Management’s estimate is based on current rates of pay, and vacation, sick, paid time off, and compensation time balances. We evaluated the key factors and assumptions used by management to develop these estimates in determining that they are reasonable in relation to the basic financial statements taken as a whole. The financial statement disclosures are neutral, consistent, and clear. DIFFICULTIES ENCOUNTERED IN PERFORMING THE AUDIT We encountered no significant difficulties in dealing with management in performing and completing our audit. CORRECTED AND UNCORRECTED MISSTATEMENTS Professional standards require us to accumulate all known and likely misstatements identified during the audit, other than those that are clearly trivial, and communicate them to the appropriate level of management. There were no misstatements detected as a result of audit procedures that were material, either individually or in the aggregate, to each opinion unit’s financial statements taken as a whole. DISAGREEMENTS WITH MANAGEMENT For purposes of this report, a disagreement with management is a financial accounting, reporting, or auditing matter, whether or not resolved to our satisfaction, that could be significant to the financial statements or the auditor’s report. We are pleased to report that no such disagreements arose during the course of our audit. MANAGEMENT REPRESENTATIONS We have requested certain representations from management that are included in the management representation letter dated May 22, 2019. MANAGEMENT CONSULTATIONS WITH OTHER INDEPENDENT ACCOUNTANTS In some cases, management may decide to consult with other accountants about auditing and accounting matters, similar to obtaining a “second opinion” on certain situations. If a consultation involves application of an accounting principle to the City’s financial statements or a determination of the type of auditor’s opinion that may be expressed on those statements, our professional standards require the consulting accountant to check with us to determine that the consultant has all the relevant facts. To our knowledge, there were no such consultations with other accountants. OTHER AUDIT FINDINGS OR ISSUES We generally discuss a variety of matters, including the application of accounting principles and auditing standards, with management each year prior to retention as the City’s auditors. However, these discussions occurred in the normal course of our professional relationship and our responses were not a condition to our retention. -4- OTHER MATTERS We applied certain limited procedures to the management’s discussion and analysis (MD&A), the budgetary comparison schedules, and the pension and OPEB-related required supplementary information (RSI) that supplements the basic financial statements. Our procedures consisted of inquiries of management regarding the methods of preparing the information and comparing the information for consistency with management’s responses to our inquiries, the basic financial statements, and other knowledge we obtained during our audit of the basic financial statements. We did not audit the RSI and do not express an opinion or provide any assurance on the RSI. We were engaged to report on the combining and individual fund financial statements and schedules accompanying the financial statements, and the separately issued Schedule of Expenditures of Federal Awards, which are not RSI. With respect to this supplementary i nformation, we made certain inquiries of management and evaluated the form, content, and methods of preparing the information to determine that the information complies with accounting principles generally accepted in the United States of America, the method of preparing it has not changed from the prior period, and the information is appropriate and complete in relation to our audit of the financial statements. We compared and reconciled the supplementary information to the underlying accounting records used to prepare the financial statements or to the financial statements themselves. We were not engaged to report on the introductory and statistical sections, which accompany the financial statements, but are not RSI. Such information has not been subjected to the auditing procedures applied in the audit of the basic financial statements and, accordingly, we do not express an opinion or provide any assurance on it. -5- GOVERNMENTAL FUNDS OVERVIEW This section of the report provides you with an overview of the financial trends and activities of the City’s governmental funds, which include the General, special revenue, debt service, and capital project funds. These funds are used to account for the basic services the City provides to all of its citizens, which are financed primarily with property taxes. The governmental fund information in the City’s financial statements focuses on budgetary compliance, and the sufficiency of each governmental fund’s current assets to finance its current liabilities. PROPERTY TAXES Minnesota cities rely heavily on local property tax levies to support their governmental fund activities. For the 2017 fiscal year, local ad valorem property tax levies provided 41.1 percent of the total governmental fund revenues for cities over 2,500 in population, and 37.4 percent for cities under 2,500 in population. Total property taxes levied by all Minnesota cities for taxes payable in 2018 increased 6.2 percent from the prior year, and total certified levies payable in 2019 are projected to increase by 5.6 percent. The total market value of property in Minnesota cities increased about 5.6 percent for the 2017 levy year (state-wide market value information for the 2018 levy year was not available at the time this report was issued). The market values used for levying property taxes are based on the previous fiscal year (e.g., market values for taxes levied in 2018 were based on assessed values as of January 1, 2017), so the trend of change in these market values lags somewhat behind the housing market and economy in general. The City’s taxable market value increased 6.8 percent for taxes payable in 2017 and 7.3 percent for taxes payable in 2018. The following graph shows the City’s changes in taxable market value over the past 10 years: $– $200,000,000 $400,000,000 $600,000,000 $800,000,000 $1,000,000,000 $1,200,000,000 $1,400,000,000 $1,600,000,000 $1,800,000,000 $2,000,000,000 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Total Market Value -6- Tax capacity is considered the actual base available for taxation. It is calculated by applying the state’s property classification system to each property’s market value. Each property classification, such as commercial or residential, has a different calculation and uses different rates. Consequently, a city’s total tax capacity will change at a different rate than its total market value, as tax capacity is affected by the proportion of its tax base that is in each property classification from year -to-year, as well as legislative changes to tax rates. The City’s tax capacity increased 6.5 percent and 6.9 percent for taxes payable in 2017 and 2018, respectively. The following graph shows the City’s change in tax capacities over the past 10 years: $– $5,000,000 $10,000,000 $15,000,000 $20,000,000 $25,000,000 $30,000,000 $35,000,000 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Net Tax Capacity The following table presents the average tax rates applied to city residents for each of the last three levy years: 2016 2017 2018 Average tax rate City 34.5 33.2 32.3 County 40.0 39.6 40.0 School 20.9 16.2 15.6 Special taxing 1.1 1.0 1.1 Total 96.5 90.0 89.0 City of Monticello Rates Expressed as a Percentage of Net Tax Capacity -7- GOVERNMENTAL FUND BALANCES The following table summarizes the changes in the fund balances of the City’s governmental funds during the year ended December 31, 2018, presented both by fund balance classification and by major fund: Increase 2017 2018 (Decrease) Fund balances of governmental funds Total by classification Nonspendable 134,357$ 172,264$ 37,907$ Restricted 7,924,461 5,867,997 (2,056,464) Assigned 16,910,080 17,145,463 235,383 Unassigned 6,918,224 6,984,828 66,604 Total governmental funds 31,887,122$ 30,170,552$ (1,716,570)$ Total by fund Major funds General 7,029,093$ 7,109,478$ 80,385$ Community Center 580,513 606,795 26,282 Economic Development Authority 7,468,105 7,240,465 (227,640) Debt Service 2,800,980 2,391,544 (409,436) Capital Projects 8,473,508 7,527,500 (946,008) Nonmajor funds 5,534,923 5,294,770 (240,153) Total governmental funds 31,887,122$ 30,170,552$ (1,716,570)$ Governmental Fund Changes in Fund Balance Fund Balance as of December 31, In total, the fund balances of the City’s governmental funds decreased by $1,716,570 during the year ended December 31, 2018. The majority of the decrease was due to capital expenditures for the Fallon Avenue overpass project. -8- GOVERNMENTAL FUNDS REVENUE AND EXPENDITURES The following table presents the per capita revenue of the City’s governmental funds for the past three years, along with state-wide averages. We have included the most recent comparative state-wide averages available from the Office of the State Auditor to provide a benchmark for interpreting the City’s data. The amounts received from the typical major sources of governmental fund revenue will naturally vary between cities based on factors such as a city’s stage of development, location, size and density of its population, property values, services it provides, and other attributes. It will also differ from year-to-year, due to the effect of inflation and changes in its operation. Also, certain data in these tables may be classified differently than how they appear in the City’s financial statements in order to be more comparable to the state-wide information, particularly in separating capital expenditures from current expenditures. We have designed this section of our management report using per capita data in order to better identify unique or unusual trends and activities of the City. We intend for this type of comparative and trend information to complement, rather than duplicate, information in the MD&A. An inherent difficulty in presenting per capita information is the accuracy of the population count, which for most years is based on estimates. 2016 2017 2018 2,500–10,000 10,000–20,000 20,000–100,000 13,299 13,409 13,553 474$ 451$ 475$ 699$ 715$ 735$ 26 27 38 50 48 47 38 43 48 31 33 29 57 48 59 74 71 52 39 34 49 50 45 37 322 276 147 153 100 67 108 103 103 167 142 155 68 53 48 73 55 52 1,132$ 1,035$ 967$ 1,297$ 1,209$ 1,174$ Total revenue Year Population Property taxes Tax increments Franchise fees and other taxes Special assessments Licenses and permits Intergovernmental revenues Charges for services Other December 31, 2017 City of Monticello Governmental Funds Revenue per Capita With State-Wide Averages by Population Class State-Wide The City has generated more property tax revenue from its governmental funds compared to the average Minnesota city. The City’s per capita governmental funds revenue for 2018 was $1,174, a decrease of about 2.9 percent from the prior year. Intergovernmental revenue decreased $33 per capita, mainly due to a portion of the City’s intergovernmental grants and aid not being recognized as revenue until available in calendar 2021. -9- The expenditures of governmental funds will also vary from state-wide averages and from year-to-year, based on the City’s circumstances. Expenditures are classified into three types as follows: • Current – These are typically the general operating type expenditures occurring on an annual basis, and are primarily funded by general sources, such as taxes and intergovernmental revenues. • Capital Outlay and Construction – These expenditures do not occur on a consistent basis, more typically fluctuating significantly from year-to-year. Many of these expenditures are project-oriented, and are often funded by specific sources that have benefited from the expenditure, such as special assessment improvement projects. • Debt Service – Although the expenditures for debt service may be relatively consistent over the term of the respective debt, the funding source is the important factor. Some debt may be repaid through specific sources, such as special assessments or redevelopment funding, while other debt may be repaid with general property taxes. The City’s expenditures per capita of its governmental funds for the past three years, together with comparative state-wide averages, are presented in the following table: 2016 2017 2018 2,500–10,000 10,000–20,000 20,000–100,000 13,299 13,409 13,553 Current 147$ 120$ 101$ 112$ 121$ 122$ 270 259 287 153 162 174 128 127 101 146 150 153 96 112 99 207 219 224 76 64 77 88 82 136 717 682 665 706 734 809 403 319 263 469 405 716 228 147 121 427 292 169 44 35 32 48 42 45 272 182 153 475 334 214 1,392$ 1,183$ 1,081$ 1,650$ 1,473$ 1,739$ Total expenditures Capital outlay and construction Population Year Debt service Interest and fiscal charges Governmental Funds Expenditures per Capita With State-Wide Averages by Population Class City of Monticello Principal December 31, 2017 State-Wide General government Public safety Street maintenance and lighting Recreation and culture All other The City’s governmental funds current per capita expenditures are higher than state-wide averages for cities in the same population class. The City’s per capita expenditures for capital outlay and construction increased significantly from the prior year and will vary on a yearly basis depending on current and ongoing capital projects. Debt service costs have been significantly higher than other cities state-wide, due to the stage of development of the City. -10- GENERAL FUND The City’s General Fund accounts for the financial activity of the basic services provided to the community. The primary services included within this fund are the administration of the municipal operation, police and fire protection, building inspection, streets and highway maintenance, and parks and recreation. The graph below illustrates the change in the General Fund financial position over the last five years. We have also included a line representing annual expenditures to reflect the change in the size of the General Fund operation over the same period. 2014 2015 2016 2017 2018 Fund Balance $4,331,058 $4,986,796 $6,276,720 $7,029,093 $7,109,478 Cash Balance $4,639,206 $5,649,254 $7,091,381 $8,130,998 $7,513,518 Expenditures $6,409,507 $6,715,369 $6,992,812 $7,442,697 $7,924,408 $– $1,000,000 $2,000,000 $3,000,000 $4,000,000 $5,000,000 $6,000,000 $7,000,000 $8,000,000 $9,000,000 General Fund Financial Position Year Ended December 31, The City’s General Fund cash and investments balance at December 31, 2018 was $7,513,518, which decreased $617,480 from 2017 as escrow deposits declined in calendar 2018. Total fund balance at December 31, 2018 was $7,109,478, up $80,385 from the prior year. This fund balance level represents 89.7 percent of the City’s annual General Fund expenditures, based on 2018 expenditure levels. The City’s adopted fund balance policy requires that the City set aside fund balance to represent 75.0 percent of expenditures for working capital and contingencies. Having an appropriate fund balance is an important factor because a government, like any organization, requires a certain amount of equity to operate. Generally, the amount of equity required typically increases as the size of the operation increases. A healthy financial position also allows the City to avoid volatility in tax rates; helps minimize the impact of state funding changes; allows for the adequate and consistent funding of services, repairs, and unexpected costs; and can be a factor in determining the City’s bond rating and resulting interest costs. -11- The following graph reflects the City’s General Fund revenue sources for 2018 compared to budget: Other Charges for Services Intergovernmental Licenses and Permits Property Taxes General Fund Revenue Budget and Actual Budget Actual Total General Fund revenues for 2018 were $8,689,793, which was $402,793 (4.9 percent) over the final budget. As reflected in the table above, charges for services were over budget by $111,064, which was due to an established residential garbage charge and an increase in rates at the community center. Other revenue also exceeded budgeted amounts by $106,243, due to conservative budgeting for contributions and reimbursements. The following graph presents the City’s General Fund revenues by source for the last five years. The graph reflects the City’s reliance on property taxes and other local sources of revenue. Taxes Intergovernmental Other 2014 $5,527,958 $320,691 $1,270,353 2015 $5,906,255 $354,679 $1,376,712 2016 $6,204,429 $389,005 $1,678,122 2017 $6,384,444 $429,697 $1,679,204 2018 $6,634,769 $428,443 $1,626,581 $– $500,000 $1,000,000 $1,500,000 $2,000,000 $2,500,000 $3,000,000 $3,500,000 $4,000,000 $4,500,000 $5,000,000 $5,500,000 $6,000,000 $6,500,000 $7,000,000 General Fund Revenue by Source Year Ended December 31, The graph reflects the City’s increasing reliance on taxes to finance its General Fund operations. Overall, General Fund revenues increased $196,448 (2.3 percent) from the previous year. Property taxes increased $250,325, due to an increase in the General Fund tax levy. -12- The following graphs illustrate the components of General Fund spending for 2018 compared to budget: Other Recreation and Culture Public Works Public Safety General Government General Fund Expenditures Budget and Actual Budget Actual Total General Fund expenditures for 2018 were $7,924,408, which was $362,592 (4.4 percent) under budget. The public works area was under budget by $290,100, mainly due to a partial-year position vacancy, savings from hiring an internal engineer, and overall conscious spending. The following graph presents the City’s General Fund expenditures by function for the last five years: General Governmental Public Safety Public Works Recreation and Culture Other 2014 $1,450,930 $1,845,073 $1,792,870 $802,678 $517,956 2015 $1,465,458 $1,972,986 $1,709,063 $964,385 $603,477 2016 $1,489,892 $2,036,777 $1,802,884 $1,021,709 $641,550 2017 $1,617,680 $2,178,728 $1,904,391 $1,124,379 $617,519 2018 $1,656,557 $2,354,453 $2,079,091 $1,200,388 $633,919 $– $250,000 $500,000 $750,000 $1,000,000 $1,250,000 $1,500,000 $1,750,000 $2,000,000 $2,250,000 $2,500,000 General Fund Expenditures by Function Year Ended December 31, Overall, General Fund expenditures increased $481,711 (6.5 percent) from the prior year. All General Fund expenditure functions increased in 2018, with the largest change in public safety ($175,725), due to an increase in police hours and contract rates, in addition to a new fire marshal position. Public works increased $174,700 for costs related to streets, and snow and ice removal. -13- ENTERPRISE FUNDS OVERVIEW The City maintains several enterprise funds to account for services the City provides that are financed primarily through fees charged to those utilizing the service. This section of the report provides you with an overview of the financial trends and activities of the City’s enterprise funds, which includes the Water Utility, Sewage Utility, Liquor Operations, Fiber Optics, and Deputy Registrar Funds. ENTERPRISE FUNDS FINANCIAL POSITION The following table summarizes the changes in the financial position of the City’s enterprise funds during the year ended December 31, 2018, presented both by classification and by fund: Increase 2017 2018 (Decrease) Net position of enterprise funds Total by classification Net investment in capital assets 39,944,797$ 39,250,211$ (694,586)$ Unrestricted 11,832,010 13,166,083 1,334,073 Total enterprise funds 51,776,807$ 52,416,294$ 639,487$ Total by fund Water 14,823,165$ 14,782,772$ (40,393)$ Sewage 21,436,849 22,110,771 673,922 Liquor 1,626,362 1,776,378 150,016 Fiber Optics 13,050,807 12,643,701 (407,106) Deputy Registrar 839,624 1,102,672 263,048 Total enterprise funds 51,776,807$ 52,416,294$ 639,487$ Enterprise Funds Change in Financial Position Net Position as of December 31, In total, the net position of the City’s enterprise funds increased by $639,487 during the year ended December 31, 2018, which includes a change in accounting principle which decreased net position by $79,984. The decline in the net investment in capital assets relates to depreciation expense being higher than the payments on the related debt. The increase in unrestricted net position is a result of positive operations in these funds. -14- WATER ENTERPRISE FUND The following graph presents five years of comparative operating results for the City’s Water Enterprise Fund: 2014 2015 2016 2017 2018 Oper Rev $1,117,226 $1,126,718 $1,172,258 $1,415,441 $1,432,194 Oper Exp $1,086,006 $1,105,230 $1,172,236 $1,160,339 $1,238,586 Oper Inc Before Dep $545,930 $535,302 $502,469 $778,909 $712,808 $– $100,000 $200,000 $300,000 $400,000 $500,000 $600,000 $700,000 $800,000 $900,000 $1,000,000 $1,100,000 $1,200,000 $1,300,000 $1,400,000 $1,500,000 Water Enterprise Fund Year Ended December 31, At December 31, 2018, the Water Enterprise Fund had a cash balance of $5,114,048 and a net position of $14,782,772. Net position consisted of $9,422,914 in net investment in capital assets and $5,359,858 in unrestricted net position. Operating revenue in the Water Enterprise Fund is $1,432,194, an increase of $16,753 from the prior year. Operating expenses for 2018 were $1,238,586, an increase of $78,247, due to higher material, supply, and other service costs. It is important that this fund continue to have positive operating results so as not to place an additional burden on other city funds. It is also important that the City continue to monitor water rates so that they are designed to also provide for future repairs and replacement of the infrastructure assets. -15- SEWAGE ENTERPRISE FUND The following graph presents five years of comparative operating results for the City’s Sewage Enterprise Fund: 2014 2015 2016 2017 2018 Oper Rev $2,081,660 $2,083,122 $2,223,252 $2,472,774 $2,581,833 Oper Exp $2,676,729 $2,582,554 $2,554,310 $2,644,096 $2,857,968 Oper Inc Before Dep $511,463 $603,965 $811,421 $920,157 $907,405 $– $250,000 $500,000 $750,000 $1,000,000 $1,250,000 $1,500,000 $1,750,000 $2,000,000 $2,250,000 $2,500,000 $2,750,000 $3,000,000 Sewage Enterprise Fund Year Ended December 31, At December 31, 2018, the Sewage Enterprise Fund had a cash balance of $5,010,271 and a net position balance of $22,110,771. Net position consisted of $17,387,264 in net investment in capital assets and $4,723,507 of unrestricted net position. Sewage Enterprise Fund operating revenues for 2018 were $2,581,833, which is $109,059 more than the previous year, due to increased rates and usage. Operating expenses for 2018 were $2,857,968, which increased $213,872 from 2017 mainly from increased materials, supplies, and depreciation on capital assets. It is important that this fund continue to have positive operating results so as not to place an additional burden on other city funds. It is also important that the City continue to monitor sewage rates so they are designed to also provide for future repairs and replacement of infrastructure assets. -16- LIQUOR ENTERPRISE FUND The following graph presents five years of comparative operating results for the Liquor Enterprise Fund: 2014 2015 2016 2017 2018 Sales $5,165,737 $5,489,430 $5,448,584 $5,751,197 $6,086,293 Cost of Sales $3,876,697 $3,969,587 $4,041,224 $4,230,016 $4,546,747 Operating Expenses $694,567 $801,545 $836,048 $880,415 $854,218 Operating Income (Loss)$594,802 $722,793 $573,358 $644,735 $690,016 $– $400,000 $800,000 $1,200,000 $1,600,000 $2,000,000 $2,400,000 $2,800,000 $3,200,000 $3,600,000 $4,000,000 $4,400,000 $4,800,000 $5,200,000 $5,600,000 $6,000,000 $6,400,000 Liquor Enterprise Fund Year Ended December 31, The Liquor Enterprise Fund ended 2018 with a net position balance of $1,776,378, an increase of $150,016 from the prior year, which includes a change in accounting principle. Of the net position balance, $139,210 represents the investment in liquor capital assets, leaving $1,637,168 of unrestricted net position. Liquor sales for 2018 were $6,086,293, an increase of $335,096 from last year. The Liquor Enterprise Fund generated a gross profit of $1,539,546 in 2018, or about 25.3 percent of gross sales, a slight decrease from 26.4 percent in 2017. Operating expenses for 2018 were $854,218, a decrease of $26,197 from last year. -17- FIBER OPTICS ENTERPRISE FUND The following graph presents five years of comparative operating results for the Fiber Optics Enterprise Fund: 2014 2015 2016 2017 2018 Oper Rev $1,761,978 $1,642,403 $1,739,566 $1,757,134 $1,736,243 Oper Exp $2,811,084 $2,429,792 $2,490,920 $2,252,287 $2,276,565 Oper Inc (Loss) Before Dep $(606,176)$(367,607)$(331,799)$(82,234)$(141,524) $(1,000,000) $(500,000) $– $500,000 $1,000,000 $1,500,000 $2,000,000 $2,500,000 $3,000,000 Fiber Optics Enterprise Fund Year Ended December 31, At December 31, 2018, the Fiber Optics Enterprise Fund had a cash balance of $334,807 and a net position balance of $12,643,701. Net position consisted of $12,243,839 in net investment in capital assets and $399,862 of unrestricted net position. Operating revenue in this fund was $1,736,243, a decrease of $20,891, or 1.2 percent, in 2018. Operating expenses for 2018 were $2,276,565, an increase of $24,278 from last year. In 2018, the operating loss in this fund before depreciation was $141,524. This operating loss was higher by $59,290 in the current year, mostly related to increased operating expenses. We recommend the City continue to monitor the financial results of this fund. The continued monitoring of this fund would include a discussion on how the current financial results compare to the future strategic plan for this fund. -18- DEPUTY REGISTRAR ENTERPRISE FUND The following graph presents five years of comparative operating results for the City’s Deputy Registrar Enterprise Fund: 2014 2015 2016 2017 2018 Oper Rev $497,798 $535,931 $562,891 $594,777 $694,263 Oper Exp $302,709 $318,686 $352,117 $398,054 $429,683 Oper Inc (Loss) Before Dep $198,274 $220,430 $213,959 $201,132 $268,985 $– $50,000 $100,000 $150,000 $200,000 $250,000 $300,000 $350,000 $400,000 $450,000 $500,000 $550,000 $600,000 $650,000 $700,000 $750,000 Deputy Registrar Fund Year Ended December 31, At December 31, 2018, the Deputy Registrar Enterprise Fund had a cash balance of $1,338,676 and a net position balance of $1,102,672. Net position consisted of $56,984 in net investment in capital assets and $1,045,688 of unrestricted net position. Deputy Registrar Enterprise Fund operating revenues for 2018 were $694,263, which is $99,486 more than the previous year, mostly due to an increase in charges for services. Operating expenses for 2018 were $429,683, which is $31,629 higher than 2017, due to increased personal services. -19- GOVERNMENT-WIDE FINANCIAL STATEMENTS In addition to fund-based information, the current reporting model for governmental entities also requires the inclusion of two government -wide financial statements designed to present a clear picture of the City as a single, unified entity. These government-wide financial statements provide information on the total cost of delivering services, including capital assets and long-term liabilities. STATEMENT OF NET POSITION The Statement of Net Position essentially tells you what the City owns and owes at a given point in time, the last day of the fiscal year. Theoretically, net position represents the resources the City has leftover to use for providing services after its debts are settled. However, those resources are not always in spendable form, or there may be restrictions on how some of those resources can be used. Therefore, net position is divided into three components: net investment in capital assets, restricted, and unrestricted. The following table presents the components of the City’s net position as of December 31, 2018 and 2017, for governmental activities and business-type activities: Increase 2017 2018 (Decrease) Net position Governmental activities Net investment in capital assets 41,535,637$ 43,517,983$ 1,982,346$ Restricted 11,599,951 9,649,085 (1,950,866) Unrestricted 20,899,110 23,422,548 2,523,438 Total governmental activities 74,034,698 76,589,616 2,554,918 Business-type activities Net investment in capital assets 39,944,797 39,250,211 (694,586) Unrestricted 11,905,058 13,261,505 1,356,447 Total business-type activities 51,849,855 52,511,716 661,861 Total net position 125,884,553$ 129,101,332$ 3,216,779$ December 31, The City’s total net position at December 31, 2018 was $3,216,779 higher than the prior year. Of the increase, $2,554,918 came from governmental activities and $661,861 from business-type activities. The increase in net investment in capital assets and decrease in restricted net position in the governmental activities is mostly from the use of restricted assets for capital improvements. The changes in business-type activities net position were discussed earlier in this report. At the end of the current fiscal year, the City is able to present positive balances in all three categories of net position, both for the government as a whole, as well as for its separate governmental and business-type activities. The same situation held true for the prior year. -20- STATEMENT OF ACTIVITIES The Statement of Activities tracks the City’s yearly revenues and expenses, as well as any other transactions that increase or reduce total net position. These amounts represent the full cost of providing services. The Statement of Activities provides a more comprehensive measure than just the amount of cash that changed hands, as reflected in the fund-based financial statements. This statement includes the cost of supplies used, depreciation of long-lived capital assets, and other accrual-based expenses. The following table presents the change in the net position of the City for the years ended December 31, 2018 and 2017: 2017 Program Expenses Revenues Net Change Net Change Net (expense) revenue Governmental activities General government 1,614,613$ 214,651$ (1,399,962)$ (1,225,784)$ Public safety 2,377,661 995,275 (1,382,386) (1,150,500) Public works 5,548,199 2,436,532 (3,111,667) (3,035,831) Sanitation 615,586 189,315 (426,271) (479,673) Transit 18,333 – (18,333) (3,191) Recreation and culture 3,460,887 1,643,333 (1,817,554) (2,028,105) Economic development 1,206,067 2,832 (1,203,235) (474,534) Interest and fiscal charges 617,344 – (617,344) (514,558) Business-type activities Water 1,235,055 1,757,834 522,779 374,033 Sewage 2,932,413 3,181,388 248,975 348,524 Liquor 848,221 1,544,234 696,013 650,229 Fiber Optics 2,276,015 1,736,243 (539,772) (495,153) Deputy Registrar 421,662 694,263 272,601 204,119 Total net (expense) revenue 23,172,056$ 14,395,900$ (8,776,156) (7,830,424) General revenues Property taxes and tax increments 10,610,444 10,208,513 Investment earnings 526,367 530,233 Other revenues 780,868 437,973 Total general revenues 11,917,679 11,176,719 Change in net position 3,141,523$ 3,346,295$ 2018 Not reflected in the table above is a change in accounting principle totaling $75,256, increasing the beginning net position of this statement. One of the goals of this statement is to provide a side-by-side comparison to illustrate the difference in the way the City’s governmental and business-type operations are financed. The table clearly illustrates the dependence of the City’s governmental operations on general revenues, such as property taxes and unrestricted grants. It also shows that the City’s business-type activities are, for the most part, generating sufficient program revenues (service charges and program-specific grants) to cover expenses. This is critical given the current downward pressures on the general revenue sources. -21- LEGISLATIVE UPDATES The 2018 legislative session, falling in the second half of the state’s fiscal biennium, was a short session in which only two major finance-related bills were passed, omnibus bonding bills related to bonding, and pensions. The following is a brief summary of specific legislative changes from the 2018 session or previous legislative sessions potentially impacting Minnesota cities. Omnibus Bonding Bill – The omnibus bonding bill authorized financing for over $1.5 billion in capital improvements. Included in the approved funding was $542 million for various transportation infrastructure, $99 million for local city-related economic development projects, and appropriations for a number of different utility (water, sewer, wastewater, etc.) infrastructure improvement programs. Wastewater Investment Protection – Effective retroactively back to August 1, 2017, when a city builds a new wastewater treatment facility or upgrades one to meet current standards that exceed its previous performance, the investment in that facility would be considered adequate for a period of 16 years before a city could be required to upgrade the facility again to meet updated state wastewater facility standards. Competitive Bidding Threshold – Effective for contracts awarded on or after August 1, 2018, the dollar threshold at which Minnesota Statutes require the use of a sealed bidding process was raised from $100,000 to $175,000. This extends the dollar range for which contracts may be awarded using direct negotiation (obtaining two quotations) to contracts between $25,000 and $175,000. By reference, this change also increased the dollar threshold at which public contractors’ performance and payment bonds are required for contracts over $175,000. Water Tank Maintenance Contracts – Effective for contracts awarded on or after September 1, 2018, multi-year service contracts for water tank maintenance work that were previously allowed to be awarded through direct negotiation, are required to be awarded through a sealed bid or best value bid procurement process when the total cost of the contract for the services and supplies is expected to exceed the competitive bid threshold of $175,000. Minnesota Licensing and Registration System (MNLARS) – The Legislature established the MNLARS steering committee, and a one-time appropriation of $9.65 million was approved for fiscal year 2018 to fund costs related to the continued development, improvement, operation, and deployment of the MNLARS. However, a bill to provide an additional proposed appropriation of $9 million to partially compensate deputy registrars throughout the state for financial losses related to the flawed rollout of the MNLARS was vetoed by the Governor. Pension Benefit Reforms – The 2018 pension bill included a number of reforms to the various defined benefit pension plans across the state, including the plans administered by the Public Employees Retirement Association (PERA). • Reforms impacting the PERA General Employees Retirement Fund (GERF) plan included: o Post-retirement cost of living adjustments (COLAs) will be equal to 50.0 percent of the annual increase for Social Security, but not less than 0.5 percent , and not more than 1.5 percent. o For early retirees that retire on or after January 1, 2024, COLAs are deferred until the retiree reaches the normal retirement age. o Phases in actuarial reduction factors over five year on early retirement benefits payable beginning July 1, 2019. o The rate of interest paid on refunds of employee contributions to former public employees was reduced from an annual rate of 4.0 percent to 3.0 percent. -22- • Reforms impacting the PERA Public Employees Police and Fire Fund (PEPFF) plan included: o Post-retirement COLAs were permanently set at 1.00 percent. o Employer contribution rates increase from the current 16.20 percent of covered salaries to 16.95 percent beginning January 1, 2019, and 17.70 percent beginning January 1, 2020. o Employee contribution rates increase from the current 10.80 percent of covered salaries to 11.30 percent beginning January 1, 2019, and 11.80 percent beginning January 1, 2020. o To reduce the need for additional contribution increases, the state will contribute an additional $4.5 million to the plan annually for fiscal years 2019 and 2020, increasing to $9.0 million annually thereafter through fiscal 2048, or until the plan is fully funded. o The rate of interest paid on refunds of employee contributions to former public employees was reduced from an annual rate of 4.00 percent to 3.00 percent. • Reforms impacting the volunteer firefighter relief associations plan included: o Added a requirement that the fire chief annually certify each firefighter’s service credit to the relief association and the related municipality effective January 1, 2019. -23- ACCOUNTING AND AUDITING UPDATES GASB STATEMENT NO. 83, CERTAIN ASSET RETIREMENT OBLIGATIONS This statement addresses accounting and financial reporting for certain asset retirement obligations (ARO), which are legally enforceable liabilities associated with the retirement of a tangible capital asset. This statement establishes criteria for determining the timing and pattern of recognition of a liability and a corresponding deferred outflow of resources for ARO. A government that has legal obligations to perform future asset retirement activities related to its tangible capital assets should recognize a liability when it is both incurred and reasonably estimable. The measurement of an ARO is required to be based on the best estimate of the current value of outlays expected to be incurred, and a deferred outflow of resources associated with an ARO is required to be measured at the amount of the corresponding liability upon initial measurement. This statement requires the current value of a government’s AROs to be adjusted for the effects of general inflation or deflation at least annually, and a government to evaluate all relevant factors at least annually to determine whether the effects of one or more of the factors are expected to significantly change the estimated asset retirement outlays. A government should remeasure an ARO only when the resul t of the evaluation indicates there is a significant change in the estimated outlays. Deferred outflows of resources should be reduced and recognized as outflows of resources in a systematic and rational manner over the estimated useful life of the tangible capital asset. If a government owns a minority interest in a jointly owned tangible asset where a nongovernmental entity is the majority owner or has operational responsibility for the jointly owned asset, the government’s minority share of an ARO should be reported using the measurement produced by the nongovernmental majority owner or the nongovernmental minority owner that has operational responsibility, without adjustment to conform to the liability measurement and recognition requirements of this statement. The statement also requires disclosures of any funding or financial assurance requirements a government has related to the performance of asset retirement activities, along with any assets restricted for the payment of the government’s AROs. This statement also requires disclosure of information about the nature of a government’s AROs, the methods and assumptions used for the estimates of the liabilities, and the estimated remaining useful life of the associated tangible capital assets. If an ARO (or portions thereof) has been incurred by a government but is not yet recognized because it is not reasonably estimable, the government is required to disclose that fact and the reasons therefor. This statement requires similar disclosures for a government’s minority shares of AROs. The requirements of this statement are effective for reporting periods beginning after June 15, 2018. Earlier application is encouraged. GASB STATEMENT NO. 84, FIDUCIARY ACTIVITIES This statement establishes criteria for identifying fiduciary activities of all state and local governments. The focus of the criteria generally is on (1) whether a government is controlling the assets of the fiduciary activity, and (2) the beneficiaries with whom a fiduciary relationship exists. Separate criteria are included to identify fiduciary component units and post-employment benefit arrangements that are fiduciary activities. -24- An activity meeting the criteria should be reported in a fiduciary fund in the basic financial statements, which should present a statement of fiduciary net position and a statement of changes in fiduciary net position. This statement describes four fiduciary funds that should be reported, if applicable: (1) pension (and other employee benefit) trust funds, (2) investment trust funds, (3) private -purpose trust funds, and (4) custodial funds. Custodial funds generally should report fiduciary activities that are not held in a trust or equivalent arrangement that meets specific criteria. A fiduciary component unit, when reported in the fiduciary fund financial statements of a primary government, should combine its information with its component units that are fiduciary component units and aggregate that combined information with the primary government’s fiduciary funds. This statement also provides for recognition of a liability to the beneficiaries in a fiduciary fund when an event has occurred that compels the government to disburse fiduciary resources, defined as when a demand for the resources has been made or when no further action, approval, or condition is required to be taken or met by the beneficiary to release the assets. The requirements of this statement are effective for reporting periods beginning after December 15, 2018. Earlier application is encouraged. GASB STATEMENT NO. 87, LEASES A lease is a contract that transfers control of the right to use another entity’s nonfinancial asset as specified in the contract for a period of time in an exchange or exchange -like transaction. Examples of nonfinancial assets include buildings, land, vehicles, and equipment. Any contract that meets this definition should be accounted for under the leases guidance, unless specifically excluded in this statement. Governments enter into leases for many types of assets. Under the previous guidance, leases were classified as either capital or operating depending on whether the lease met any of the four tests. In many cases, the previous guidance resulted in reporting lease transactions differently than similar nonlease financing transactions. The goal of this statement is to better meet the information needs of users by improving accounting and financial reporting for leases by governments. It establishes a single model for lease accounting based on the principle that leases are financings of the right-to-use an underlying asset. This statement increases the usefulness of financial statements by requiring recognition of certain lease assets and liabilities for leases that previously were classified as operating leases and recognized as inflows of resources or outflows of resources based on the payment provisions of the contract. Under this statement, a lessee is required to recognize a lease liability and an intangible right -to-use lease asset, and a lessor is required to recognize a lease receivable and a deferred inflow of resources, thereby enhancing the relevance and consistency of information about governments’ leasing activities. To reduce the cost of implementation, this statement includes an exception for short -term leases, defined as a lease that, at the commencement of the lease term, has a maximum possible term under the lease contract of 12 months (or less), including any options to extend, regardless of their probability of being exercised. Lessees and lessors should recognize short-term lease payments as outflows of resources or inflows of resources, respectively, based on the payment provisions of the lease contract. The requirements of this statement are effective for reporting periods beginning after December 15, 2019. -25- GASB STATEMENT NO. 88, CERTAIN DISCLOSURES RELATED TO DEBT, INCLUDING DIRECT BORROWINGS AND DIRECT PLACEMENTS The primary objective of this statement is to improve the information that is disclosed in notes to government financial statements related to debt, including direct borrowings and direct placements. It also clarifies which liabilities governments should include when disclosing information related to debt. The requirements of this statement will improve financial reporting by providing users of financial statements with essential information that currently is not consistently provided. In addition, information about resources to liquidate debt and the risks associated with changes in terms associated with debt will be disclosed. As a result, users will have better information to understand the effects of debt on a government’s future resource flows. This statement defines debt for purposes of disclosure in notes to financial statements as a liability that arises from a contractual obligation to pay cash (or other assets that may be used in lieu of cash) in one or more payments to settle an amount that is fixed at the date the contractual obligation is established. The statement requires that additional essential information related to debt be disclosed in notes to financial statements, including unused lines of credit; assets pledged as collateral for the debt; and terms specified in debt agreements related to significant events of default with finance -related consequences, significant termination events with finance-related consequences, and significant subjective acceleration clauses. It also requires that existing and additional information be provided for direct borrowings and direct placements of debt separately from other debt. The requirements of this statement are effective for reporting periods beginning after June 15, 2018. GASB STATEMENT NO. 89, ACCOUNTING FOR INTEREST COST INCURRED BEFORE THE END OF A CONSTRUCTION PERIOD The objectives of this statement are to enhance the relevance and comparability of information about capital assets and the cost of borrowing for a reporting period and to simplify accounting for interest cost incurred before the end of a construction period. This statement requires that interest cost incurred before the end of a construction period be recognized as an expense in the period in which the cost is incurred for financial statements prepared using the economic resources measurement focus. As a result, interest cost incurred before the end of a construction period will no longer be included in the historical cost of a capital asset reported in a business-type activity or enterprise fund. This statement also reiterates that in financial statements prepared using the current financial resources measurement focus, interest cost incurred before the end of a construction period should continue to be recognized as an expenditure on a basis consistent with governmental fund accounting principles. The requirements of this statement are effective for reporting periods beginning after December 15, 2019. Earlier application is encouraged. The requirements of this statement should be applied prospectively. -26- GASB STATEMENT NO. 90, MAJORITY EQUITY INTEREST—AN AMENDMENT OF GASB STATEMENTS NO. 14 AND NO. 61 The primary objectives of this statement are to improve the consistency and comparability of reporting a government’s majority equity interest in a legally separate organization and to improve the rel evance of financial statement information for certain component units. It specifies that a majority equity interest in a legally separate organization should be reported as an investment if a government’s holding of the equity interest meets the definition of an investment. It further specifies that such investments should generally be measured using the equity method, unless it is held by a special-purpose government engaged only in fiduciary activities, a fiduciary fund, or an endowment (including permanent and term endowments) or permanent fund, in which case the majority equity interest should be measured at fair value. All other holdings of a majority equity interest in a legally separate organization that do not meet the definition of an investment result in the government being financially accountable for the legally separate organization and, therefore, the government should report that organization as a component unit, and should report an asset related to the majority equity interest using the equity method. This statement also requires that a component unit in which a government has a 100 percent equity interest account for its assets, deferred outflows of resources, liabilities, and deferred inflows of resources at acquisition value at the date the government acquired a 100 percent equity interest in the component unit. Transactions presented in flows statements of the component unit in that circumstance should include only transactions that occurred subsequent to the acquisition. The requirements of this statement are effective for reporting periods beginning after December 15, 2018. Earlier application is encouraged. The requirements should be applied retroactively, except for the provisions related to reporting a majority equity interest in a component unit and reporting a component unit if the government acquires a 100 percent equity interest, which should be applied prospectively. UNIFORM GUIDANCE, MICRO-PURCHASE THRESHOLD Under the Uniform Guidance for federal programs, a micro-purchase is one for goods or services that, due to its relatively low value, does not require the government to abide by many of its ordinary competitive procedures, including small business set-asides. Because the contract is theoretically such a low amount, the contracting officer can pick virtually whatever company and product he or she wants to satisfy the procurement, so long as the price is reasonable. The standard micro-purchase threshold has been amended to increase the threshold to $10,000, effective June 20, 2018. Entities are not required to increase the micro-purchase and simplified acquisition thresholds but, if they wish to do so, they must update their procurement policies and procedures to reflect the change in thresholds. They cannot retroactively make these changes effective prior to June 20, 2018.