The Morning Report
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Monday, March 24, 2008 | The city of San Diego’s audit department — its in-house watchdog — is woefully understaffed and capable of handling only a fraction of the so-called “high risk” audits that need to be done each year, according to a recently completed review by an outside consulting firm.
Appointed auditor Eduardo Luna and a staff of four are all the city has internally to watch over a 10,500-person bureaucracy and hundreds of programs. A city of San Diego’s size and complexity should have 24 internal auditors to be operating under accepted standards, according to the March 6 review prepared for the City Council’s audit committee by Milwaukee-based Jefferson Wells.
Even significantly smaller cities like Denver and Austin have audit staffs that are four and five times larger than San Diego’s, according to Jefferson Wells, which has a $225,000 contract with the audit committee to perform this and other reviews of city financial controls.
To keep an adequate eye on its operations, the city needs to complete 46 high risk audits over the next year, say the consultants. However, with current staffing levels the city would only be able to do three such audits. A department or program is considered high risk if it has a large amount of money flowing through it, or if its failure would have a significant impact on the public trust.
The city’s pension system and the functioning of its water and sewer department, the sources of its financial debacle, are examples of the high-risk areas.
Officials with the Mayor’s Office say they have long been aware of the need for more auditors, and are proposing to double the staff in fiscal year 2009. The proposed staff increase is in addition to a myriad of reforms the city has been moving toward implementing since Sanders took office following the pension system meltdown.
“Jefferson Wells is a little late to the party — they are memorializing something we have known for a long time,” said Fred Sainz, Mayor Jerry Sanders’ spokesman. “We inherited resources the way they were.”
What they inherited, said Sainz and Jay Goldstone, the city’s chief operating officer, was a system with no checks and balances. Sanders, since his 2005 swearing in, has made fiscal reform the main theme of his administration.
The administration says, for example, that it has addressed 92 of the 121 reforms suggested by the Kroll report, the definitive document on the fraud and mismanagement that caused the city’s $1.4 billion pension deficit.
Additionally, amendments to the city charter slated for the June ballot would have the internal auditor responsible for his or her own budget, and answerable to an audit committee comprised of both council members and private residents with a financial background. The mayor, however, would nominate the auditor. A steering committee, which would include the mayor’s chief financial officer, would nominate the members of the public who would sit on the audit committee.
Yet even if the proposed staff increases are implemented and the charter amendments pass, the city’s audit department will still be half of what it should be, according to the best practice standards set by the Institute of Internal Auditors. The staff is also lacking auditors certified to review computer systems at a time when the city is in the process of implementing a massive system that will handle all of the city’s fiscal control functions.
Such deficits are especially glaring in San Diego where financial fraud investigations have become the norm in recent years and officialdom continues to fight against its “Enron by the Sea” image. In a 2006 settlement, the Securities and Exchange Commission sanctioned the city for securities fraud stemming from its failure to disclose the depths of its financial troubles to investors. The fallout from those troubles has left the city without a credit rating for more than three years and cost the city tens of millions of dollars in consultant and financing fees.
A robust internal auditing operation is “absolutely important” for San Diego considering its current situation, said David Sundstrom, the elected auditor and controller of Orange County, which preceded San Diego as Southern California’s poster child for fiscal fraud and mismanagement. The county filed for bankruptcy in 1994 after its treasurer made a series of risky derivative investments tied to interest rates. The county lost more than $1 billion after interest rates shot up that fall.
Orange County now has an internal auditing staff of 21 and is considered a “best practices” organization by the auditors’ institute. Sundstrom, who joined the county after the bankruptcy, said now more than ever governments need people to keep watch over financial transactions that increase in complexity by the day.
“Everyone needs a method to get in and review its systems to make sure management are doing what they think they are doing,” Sundstrom said, adding that San Diego’s lack of information technology auditors are particularly troubling.
“Depending on how things are set up, you could be automating fraud.”
In addition to Orange County, Jefferson Wells compared San Diego to three cities considered to by operating under best practices: Phoenix, Denver and Austin. All three had at least 20-person audit staffs, and Phoenix, the city closest in size to San Diego, has a 38-person staff.
Sanders administration officials say the auditing staff will eventually reach the level of best practices, but not as quickly as many might expect given the deep financial hole dug by previous administrations. So much reform is needed, they say, that it can’t be done all at once.
In his response to the Jefferson Wells review, Luna, the city’s auditor, outlined scenarios that would increase his auditing staff by 17 over the next three to five years. The additions would raise the payroll for the office to an estimated $3.7 million annually.
“The city does not have unlimited cash lying around, it cannot become everything everyone wants it to be overnight,” Sainz said.
(Correction: The original version of this story incorrectly identified who will nominate the three public members of the audit committee. We regret the error.)