Audit of Kaipara District Council's 2011 Annual Report

Text of the letter sent by Karen MacKenzie, Director Audit New Zealand, to the Mayor and Councillors of Kaipara District Council is reproduced below.

Audit New Zealand logo.

13 August 2012

File Ref: EN/LCA/03-3318

Kaipara District Council
Private Bag 1001
Dargaville 0310

Dear Mayor and Councillors

As you will be aware, a great deal of effort has been put into preparing and auditing Kaipara District Council’s draft 2011 annual report. We understand that the Council is scheduled to meet on Wednesday 29 August 2012 to adopt the 2011 annual report and the Council’s final Long-Term Plan 2012-22 (LTP). Therefore, we consider that it is important to highlight:

  • our observations of your current operating environment;
  • what needs to be done before the 2011 annual report can be adopted;
  • the outstanding issues related to the 2011 audit; and
  • the nature of our audit report at present.

We have set out in a separate letter (also dated 13 August 2012) the status of our audit of the Council’s LTP.

Our observations of your current operating environment

The Council is under a heightened level of scrutiny at present, not only from ratepayers but also from a Ministerial Review Team and an inquiry you asked the Auditor-General to carry out into management of the Mangawhai Community Wastewater Scheme.

Any one of these matters alone would be significant for a small council such as yours to manage. You have also had many complex issues arising during the past year or so that have required attention. Unfortunately, this has put intense pressure on a few key people within Kaipara District Council to try and resolve. The compounding nature of the issues, and the few key people to deal with them, has contributed to the 2011 annual report remaining incomplete more than nine months after the statutory deadline.

We are concerned that the Council is yet to provide us with an adopted annual report for 2010/11. Without this, we are unable to finalise our audit report and are, therefore, unable to provide assurance about information in the annual report. We remain concerned about whether the Council will be able to deal with the outstanding issues outlined in this letter and be in a position to adopt the 2011 annual report on 29 August 2012.

What needs to be done before the 2011 annual report can be adopted

In our view, the Council needs to give attention to the following matters before it will be in a position to adopt the 2011 annual report:

  • Assess the ability of Kaipara District Council to remain financially viable and, if necessary, update the 2011 annual report to reflect that assessment.
  • Assess the findings and recommendations of the Ministerial Review Team and, if necessary, update the 2011 annual report.
  • Review the matters on which the Council must provide written representations to us – including specific written representations about the Council’s financial viability – and to provide these written representations to us.

Ability of Kaipara District Council to remain financially viable

There are currently a number of conditions that create significant risks to the Council’s ability to remain financially viable. To be able to continue to operate as a going concern, the Council relies on receiving sufficient cash to pay for the services it provides to ratepayers. In that regard, the Council relies heavily on bank loans and the money it collects from ratepayers. The Council needs to urgently focus on reducing risks to both these sources of funding.

The Council needs to take steps to actively manage its bank loan agreements. At present, the Council is potentially in breach of a number of obligations in its various loan agreements which results in some uncertainty. Those potential breaches may give the lenders the right to demand repayment of these loans.

The Council also needs to take steps to manage its rates revenue. The main issues are:

  • ensuring that an LTP is adopted so that the Council can set rates for 2012/13;
  • dealing with the legal issues associated with targeted rates that date back a number of years; and
  • taking appropriate steps to ensure that rates are properly set and invoiced so that the group of ratepayers currently refusing to pay rates pay them.

All of the above matters are critical to the Council remaining financially viable and continuing to operate as a going concern.

We expect the Council to satisfy itself that it can and will take the necessary steps to remain financially viable and continue to operate. We also expect the Council to make the necessary changes to its 2011 annual report to make clear its assessment of financial viability.

Findings and recommendations of the Ministerial Review Team

We understand that the Ministerial Review Team is due to report to the Council on its findings today. It will be important that the Council considers the findings and recommendations of the Ministerial Review Team and determines whether they affect the 2011 annual report, including the need for any further disclosures.

Making written representations to us

You should be aware that we seek written representations about a number of matters from the Council as part of our audit. Based on the current state of affairs, we are required to seek some further specific and separate written representations about the Council’s going-concern status. We will work through these matters with you before the representation letters are finalised and signed. We expect these letters to be co-signed by the Mayor, on behalf of the elected members, and the Chief Executive Officer.

The outstanding issues related to the 2011 audit

In addition to the matters above, there are a number of outstanding issues that we are working through with Council management and staff.

Decisions relating to Baylys Beach sewage disposal costs

We are aware that some property owners at Baylys Beach were not invoiced for the costs of sewage disposal from when the service began in 2007 until 30 June 2011, and that the Council decided not to invoice property owners for these backdated charges. We understand that charging for this service began from 1 July 2011.

We are unclear about the decision-making processes between 2007 and 2011 for not charging the relevant property owners for sewage disposal at Baylys Beach. We are seeking further information about how those decisions were made and by whom.

Underlying records relating to reserves

The Council has reserves relating to funds vested in the Council by the Mangawhai Harbour Board. Further, we would expect the Council to set up reserves for targeted rates to be able to demonstrate that those rates are used appropriately. We are aware that there have been public allegations about funds being used for purposes other than the specific purpose they were collected for.

We need to work through these matters to determine whether appropriate systems and processes are in place and operating effectively to properly account for all Council funds and targeted rates. We also need to work through the adequacy of the disclosure in the financial statements about these matters.

Valuation of infrastructure assets

We need to follow up on an apparent contradiction that relates to the carrying value of infrastructure assets. An independent review of the Council’s 2010 roading infrastructure valuation highlighted some issues in the valuation methodology. Recently, the same reviewer has advised the Council that current carrying values are materially correct. We need to better understand the basis for this advice.

Changes to the financial statements

We expect some changes to be made to the financial statements. One of the contingent liability amounts needs to be updated in note 6. The footnote about a significant reclassification in note 13 needs to explain why the reclassification has been made, and a further related-party transaction disclosure needs to be added to note 19.

We also note that other changes may be required as a result of the decisions the Council still needs to make and other matters arising from the audit.

The nature of our audit report at present

We attach to this letter the current draft audit report based on the audit work we have carried out so far. The nature of the audit report that we ultimately issue will depend on:

  • any changes made to the draft 2011 annual report, including changes that may be made as a result of the financial viability assessment, and the Council’s consideration of the report of the Ministerial Review Team;
  • whether the Council provides us with all of the written representations we require; and
  • any other events that occur before the audit report is signed that need to be taken into account.

You will see that the opinion section of the draft audit report contains four paragraphs under separate sub-headings that draw attention to particular matters in the draft 2011 financial statements. We are satisfied that the draft financial statements adequately explain each of the matters. Nevertheless, in our view, these matters are of such significance that we need to draw readers’ attention to them.

Legal issues associated with targeted rates

The legality of transactions is important for determining whether or not the transactions have been appropriately accounted for in the financial statements. The draft financial statements recognise revenue from several different targeted rates that the Council has acknowledged lacked proper statutory authority, given errors in the way they were set. The financial statements also acknowledge a significant contingent liability that would crystallise if any legal challenge results in rates having to be repaid to ratepayers. Given the uncertainty about this revenue and the size of the possible liability, we intend to draw attention to the issue in our opinion.

Restatement of comparative information relating to the Mangawhai Community Wastewater Scheme

The draft 2011 financial statements contain some large adjustments to past years’ financial information relating to the Mangawhai Community Wastewater Scheme. These adjustments were necessary to restate information presented in past years’ financial statements. We intend to draw attention to these adjustments because of their size.

Auditor-General’s inquiry into management of the Mangawhai Community Wastewater Scheme

After a request from the Council, the Auditor-General agreed to carry out an inquiry into many aspects of the Council’s management of the Mangawhai Community Wastewater Scheme. We intend to draw attention to the inquiry, which is still in progress, because of the significance of the Scheme to the community.

Significant delay to adoption of the annual report

Ratepayers and other users of the annual report should have received it more than nine months ago. Although the Council has disclosed the delay to adopting the annual report in note 29, we intend to draw attention to it. We see the delay as a particularly significant matter, particularly given the issues facing the Council.

Concluding comments

We will continue to work with management and staff of Kaipara District Council and do all that we can so that the Council is in a position to adopt the 2011 annual report on 29 August 2012. I look forward to receiving the annual report and representation letters, which incorporate any changes necessary to reflect the Council’s consideration of the matters set out in this letter. When the Council has adopted the 2011 annual report, I will be in a position to issue our audit report.

Yours sincerely

Karen MacKenzie
Director