Municipalities could fund infrastructure projects through property portfolios

Disclaimer: Please note that this article is at least 12 months old.
Any information herein was accurate when published on 9 March 2009

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As the credit crunch has amply demonstrated, some of the biggest risks are also some of the most obvious.

In SA, the risk posed by public sector mismanagement is well-known but seldom addressed with any intensity.

Allen Smith, CEO of ContinuitySA, says only 5% of its business volume is with the public sector, despite the fact that the public sector constitutes about 40% of the total economy. The risks associated with this have the sort of repercussions as recently seen, when the UK government began requiring all SA citizens to obtain a visa before visiting the UK, citing the high incidence of forged passports.

The same mismanagement is replicated across many other government departments.

Speaking after the announcement of the 2009 National Budget, Kemp Munnik, director of the tax division at BDO Spencer Steward, described the major failing of the Budget as its over-emphasis on raising additional revenue rather than greater control over expenditure.

"Huge inefficiency and lack of accountability is built into government expenditure – and this is worsening by the day rather than getting better. For instance, part of the fuel levy is destined for municipal coffers to replace their lost RSC levy. That's a mistake as most local authorities utterly lack the capacity to manage their finances."

"I would suggest that no new money be allocated to municipalities until they acquire the skills and capacity to manage their finances, as demonstrated by a clean audit report – from a reputable audit firm," said Munnik.

Mpume of Eclipse has recently returned from a visit to 22 municipalities in the Western Cape, from which he derived a combination of hope and despair.

"Of the 22, 10 were willing to test our asset management software. But despite the fact that most municipalities have no idea of what assets they own, and consequently struggle to plan projects and deliver services to residents, the other 12 were either unwilling to look at it, or unable for budget reasons to consider such a system," said Mpume.

"Many of these municipalities are so far behind with their control systems, that they have too many other priorities. But the risks are that people can steal their assets because they don't even know they exist; they don't know when computer hardware and software is outdated, and maintenance starts to costs a great deal more than it should. Often, they cannot even get computers serviced because they have no asset register and do not know where it was bought," he says.

However, he found a willingness to address this issue. A major challenge is that the private sector is rarely willing to visit remote municipalities.

"They warmly welcome us – but their biggest problem is they don't even know what they don't know."

One of the biggest risks associated with municipalities is the fact that they do not have a complete property register.

Hundreds of millions – if not billions – of rands are being lost each year to municipal coffers, due to mismanagement of their massive property portfolios.

National government is applying increasing pressure on local government to raise its effectiveness. For instance, from June this year municipalities will be required to comply with the best international standards of accounting contained in GRAP (Generally Recognised Accounting Practice), but this seems highly unlikely at present, given the Auditor-General's recent statement that 60% of all qualified municipal audits were a result of failure to account for their immoveable property.

Alex Croote, CEO of Lamacs Solutions, which has developed a solution aimed at establishing control by the public sector over its immoveable assets, explains: "Land is the single most important national strategic asset, but it is likely that hundreds of thousands of parcels of land are not part of the public accounting system. Municipalities simply do not effectively administer and manage revenue streams associated with property portfolios, and also cannot appropriately account for maintenance spend."

Finance Minister Trevor Manuel announced in his 2009 Budget speech that total public sector borrowing – including borrowing by municipalities and state-owned enterprises – would rise from R90 billion this year to R186 billion, or 7,5% of gross domestic product next year. This money will be raised to build infrastructure, often at local government level.

Before this happens, the capacity of municipalities needs to be improved, or much of the capital expenditure may be wasted. "At the moment, few municipalities have an unqualified audit report, and the must learn to account for what they have before getting more" says Mark Willimott from BDO Spencer Steward.

Croote believes municipalities will be able to strengthen their balance sheets by bringing onto their books their property portfolios, thereby facilitating accelerated delivery of integrated development plans (IDP) – while the recovery of rentable property will bring in more revenue.

The substantial property portfolios owned by government could stand as collateral for them to raise substantial capital for infrastructure, without having to sell off a strategic asset.

Croote says its experience in implementing its solution among individual municipalities has been the recovery of “thousands of parcels of land” that individual local authorities did not even know they owned. He knows of one municipality that thought it had three pieces of land valued at R2 million, only to find it had 1,400 valued at R40 million. In one medium sized council Lamacs identified an annual loss of R7 million a year, attributable to poor lease management.

Croote says this quantum, multiplied across the 282 other municipalities, as well as national government and state-owned enterprises' portfolios, could amount to hundreds of millions in lost revenue.

Corruption and mismanagement lie at the heart of this problem, a fact realised by national government when it set itself the goal for this year of placing municipal mismanagement at the top of its agenda.

Historically, municipal property registers were never particularly complete, but the municipal demarcation process of 1999 resulted in a rapid deterioration. They have since steadily worsened: a property register is a dynamic document and continuous sales, purchases, leases, sub-divisions and consolidations have meant such registers are "chaotic" says Croote.

"The sorts of things that are commonplace include: not collecting rents at all or not escalating rents in terms of the lease over many years. There are cases where tenants vacate a house and sub-let it for their own account, or tenants pay R300 rent when it should be R3,000. There are properties missing from the register, which municipal employees are using for their own benefit.

"Because this is not their core revenue stream, it does not get followed up with the same doggedness as water & lights or rates & taxes."

Even more opaque from an accounting perspective is expenditure on maintenance of these properties. Croote claims what maintenance is taking place cannot be accounted for. He says there is "wholesale corruption" in this area.

"In response to the situation BDO and Lamacs have formed an alliance that amongst others addresses the significant audit risks associated with property portfolio" says Willimott.

"We use our intellectual property (IP) to track down what immoveable assets a municipality owns, an IP which has been refined over eleven years. In an ideal world, the solution should sell itself to municipalities, but we come up against apathy, lack of understanding and lack of capacity. It is not a quick process, as it often means starting from scratch – it is a process that addresses the root problem and not the symptom," says Croote.

Disclaimer: Please note that this article is at least 12 months old.
Any information herein was accurate when published on 9 March 2009