CITY LINK: SURPLUS LAND

4.54 At an estimated total cost of $2 billion, including $1.8 billion financed by a private sector consortium (Transurban) and $266 million of associated works and land financed by the State, the Melbourne City Link project represents one of the largest infrastructure projects ever undertaken in Australia. It comprises some 22 kilometres of road, tunnel and bridge works and involves linking 3 of Melbourne's most important freeways, namely, the Monash, the West Gate and Tullamarine Freeways, together with the upgrading of parts of the Monash and Tullamarine Freeways.

4.55 In previous reports to Parliament we have provided detailed analysis of the arrangements established between the State and Transurban for the financing, construction and operation of the Melbourne City Link. This report examines the finalisation of the project with a particular focus on processes established to identify and deal with land which may be surplus to that required for the ongoing management and operation of the City Link.

4.56 Under arrangements established by the State, Transurban has designed, financed, constructed and is maintaining and operating the City Link project. The freeway linkages and upgrade works were progressively completed and commissioned by the consortium, with the final completion of the project occurring in December 2000. The City Link is constructed on Crown land to be leased from the State as a public tollway for a base period up to January 2034, with toll revenues collected from motorists mainly applied towards its cost of construction, operation and maintenance, with a return on investment available for the investors in the project. At the end of the specified period, ownership of the City Link will revert to the State at no cost and in a fully maintained condition.

4.57 The Melbourne City Link Authority was formed in December 1994 under the auspices of the Melbourne City Link Authority Act 1994, and allocated primary responsibility for overseeing the development and delivery of the project. Following the appointment of the preferred consortium and execution of the agreements between the State and the consortium, the Authority was responsible for co-ordination and consultation with other government agencies involved in the development of the project. The Authority was also responsible for ensuring the obligations of Transurban under the agreements were met and that the project was completed and delivered as planned. The Authority ceased operations on 28 February 2002. The management of the State’s part of the City Link arrangements is now delivered through the Office of the Director, Melbourne City Link, a statutory position, established under the Melbourne City Link Act 1995, within the Department of Infrastructure. For the remainder of this report, references to the “Authority” encompass the activities of both the former Melbourne City Link Authority and the newly established Office of the Director, Melbourne City Link.

4.58 In October 1995, the State and Transurban entered into a Concession Deed, being the primary contractual document setting out the basis on which the project was to proceed. In December 1995, the Melbourne City Link Act 1995, which incorporated the Concession Deed, was passed by Parliament. That Act gave the State certain powers in relation to such matters as the acquisition of land, enforcement and privacy. The Act also enables the relevant corporation (Transurban) to charge and collect tolls on the City Link.

4.59 The State’s facilitation of the project included obtaining and making available to Transurban sufficient land to construct and operate the City Link. Land obtained by the Authority along the corridor of the project is defined in the Melbourne City Link Act 1995 and is referred to as the project area. Within this area, Transurban defined the land it required to construct the Link and this is referred to as project land. More than 500 parcels of land, with a total area of approximately 2.5 million square metres, were acquired for the project. This land was either purchased from private parties (30 per cent) or transferred from other government agencies (70 per cent). Access to certain other areas of land within the project area was also acquired on a temporary basis.

4.60 During the construction phase of the project, the State was required to issue licences to Transurban providing a non-exclusive right of possession over the project land, and to grant powers of entry and occupation of other areas, sufficient for Transurban to perform its obligations under the Concession Deed. Prior to the date of completion of each section of the Link, Transurban had no interest, right or title in the project land or associated areas, other than its ability to use the land to construct the Link sections. The process envisaged by the Act and the Concession Deed was that once completion of a section of the Link had occurred to the State's satisfaction:

• the reservation over the relevant land would be revoked;
• the licences issued to Transurban for construction of that section of the link would be terminated; and
• a lease would be entered into by the State and Transurban at an annual nominal rental amount of $100 for that section.

4.61 Chart 4D depicts the processes and various steps involved in the acquisition and ultimate disposition of the project area land.

CHART 4D
CITY LINK PROJECT LAND - PROCESSES AND STAGES

4.62 To date, all licences issued to Transurban for construction of the Link sections have been terminated and the reservations of the land covered by these licences have been revoked, but no leases have been entered into despite the completion of the project. In 1998, the Melbourne City Link Act 1995 was amended to provide Transurban with a “deemed” lease over land which had been the subject of a licence and reservation, but which had not been formally leased to Transurban at the completion of the Link section. This was done to provide certainty over the status of the land comprising the various completed Link sections during the interim period between completion of the section and finalisation of the lease boundaries for that section.

Acquisition of project land

4.63 The total cost to the State for the acquisition of the project land (including land in respect of which only temporary access was required for construction purposes) was $94.8 million to 30 June 2001. The total land area acquired for the purposes of the project was 2.5 million square metres.

4.64 The Authority acquired 735 000 square metres of land from private parties at a total cost of $60.1 million with an additional 1.7 million square metres transferred from government entities at a total cost of $28.2 million. The Authority paid a further $1.9 million for temporary access to land with an area of 83 075 square metres and incurred costs relating to the land acquisition process and the associated management process. Table 4E provides details of the various categories of land acquired for the purposes of the project and associated costs.

TABLE 4E
DETAILS OF LAND ACQUIRED FOR THE PROJECT AND ACQUISTION COSTS

(a) Land acquired or transferred from government entities is recorded in the Authority’s financial statements at a value of $112.2 million.

(b) Land acquired from private parties is recorded in the Authority’s financial statements at a value of $14.4 million. The difference between the value recorded in the financial statements and the total cost of acquiring the land represents the amount paid by way of compensation.

(c) At least one parcel of land costing $1.9 million was acquired to form part of a compensation package.

4.65 Of the total land area acquired for the project, 2.45 million square metres is controlled by the Authority and is therefore available for lease to Transurban or, if determined to be surplus to requirements, sale or transfer. This land was reported in the financial statements of the Authority at 30 June 2001 at a value of $126.7 million.

Compensation payments

4.66 The total cost of acquiring land for the project of $94.8 million included compensation payments totalling $78.8 million (compensation being the amount paid above the market value of the land acquired in accordance with legislation and normal government processes and payment for the temporary use of land required during the construction phase of the project for the temporary storage of construction materials and access to construction areas). These payments were made to third parties from whom land was permanently or temporarily acquired. The amount paid to third parties for the temporary use of land for the purposes of the project totalled approximately $1.9 million.

4.67 In a number of instances, municipal councils were also paid compensation for the acquisition of land over which they held freehold title. Compensation was also paid to private parties affected by the transfer of land from government entities. For example, this occurred where leases between government entities and private parties had to be terminated prematurely to allow land to be made available for the project. In one such instance, a compensation package costing approximately $18 million was provided, which included the cost of land acquired by the Authority to form part of the compensation package.

4.68 There were approximately 100 compensation claims made in respect of the City Link project land acquisition process. As at 1 March 2002, there were 14 outstanding compensation claims in relation to the State’s acquisition and temporary use of land. The Authority expects the majority of these compensation claims to be settled over the next 12 months.

4.69 The audit review included an examination of the management and settlement of a small sample of compensation claims. The audit review disclosed, that in relation to the sample examined, settlement of these claims was negotiated effectively and the compulsory acquisition process was undertaken in accordance with relevant legislative requirements.

Classification of land as required for lease or surplus to requirements

4.70 The Melbourne City Link Act 1995 contains provisions which facilitate the establishment of leases between the State and Transurban for land required for the operation of the City Link and the transfer or sale of surplus land to third parties.

4.71 In simple terms, the final disposition of the City Link project land requires agreement to be reached between the State and Transurban on the boundaries of the land to be leased to Transurban. The Authority has been involved in discussions with Transurban on the lease boundaries for more than 2 years. Agreement “in-principle” has been reached on around 95 per cent of the project area in terms of whether it should be included within the lease boundaries or categorised as surplus to requirements.

4.72 The total area of land acquired for the project, after eliminating land acquired temporarily, was 2.45 million square metres. The total area of land available to be either leased to Transurban or disposed of as surplus is, however, greater than the total area initially acquired. This is because at some locations on the Link road, such as the elevated structures, the land is effectively available for distribution twice. Firstly, the area of the aboveground structure (a lease stratum) and secondly, the area of land underneath the elevated structure (a surplus stratum). The impact of this capacity to distribute the same area twice is that the total area available for distribution as either leased or surplus land is increased from 2.45 million square metres to 2.67 million square metres.

4.73 As at 1 March 2002, it is estimated that 1.64 million square metres (61 per cent) of the project land available for disposition is to be leased to Transurban. This area comprises surface land of 1.23 million square metres, strata land such as the elevated road on the Western Link of 220 000 square metres and land deeper than 10 metres from the surface (primarily tunnels) of 190 000 square metres. The remaining 1.03 million square metres (39 per cent) of the project land available for disposition is surplus and comprises surface land of 600 000 square metres (around 96 000 square metres of this land is considered to have commercial value), strata land such as the land underneath the elevated road on the Western Link of 220 000 square metres and land deeper than 10 metres from the surface (primarily land either side of tunnels) of 210 000 square metres.

4.74 The process of reviewing project area land and agreeing lease boundaries with Transurban is continuing. The Authority advised that it expects the leases to be finalised by the end of 2002.

4.75 Under section 60A of the Melbourne City Link Act 1995, Transurban currently has a “deemed lease”, which provides it with the right to operate and toll the Link, over all the land that was licensed to it during the construction phase of the project. The creation of the “deemed lease” was necessary because when the Link achieved completion, the parties could not execute formal leases as the lease boundaries and terms of the lease had not been finalised. Section 60A will be repealed by the proclamation of the Melbourne City Link (Miscellaneous Amendments) Act 2000 on 31 December 2002. If the “deemed lease” has not been superseded by formal leases by 31 December 2002 it will cease on that date. This further highlights the need for the Authority to agree on the lease boundaries and finalise the leases by that date. Failure to do so could result in Transurban operating the Link without authority. This outcome could only be avoided by further legislative amendments to extend the period of operation of the “deemed lease”.

4.76 In May 1996, in response to concerns raised by various public sector entities, the then Minister for Finance gave in-principle approval for land or an interest in land surrendered by public authorities for the project, which on the completion of the City Link project is determined to be not required for the operation of the City Link, to be returned to the public authorities free of charge. In February 1997, the Minister for Finance extended the ambit of this policy to include municipalities.

Surplus Land Working Group

4.77 In September 2001, Land Victoria (a division within the Department of Natural Resources and Environment) recommended to the Authority that a working group be established to identify and evaluate surplus land and develop a process for the future management and/or disposal of such land. The Authority subsequently established such a working group with the following terms of reference:

• to identify, on a whole-of-government basis, the most appropriate future use of all City Link surplus land, and to identify the appropriate land managers; and
• to provide relevant support for the smooth transfer of land from the Authority to the new land manager.

4.78 The working group consists of representatives from the former Melbourne City Link Authority, Department of Natural Resources and Environment, Department of Infrastructure and the Victorian Government Property Group from the Department of Treasury and Finance. As at 1 March 2002, the working group has met on 4 occasions.

4.79 The working group has been primarily focused on clearly defining the processes to be adopted in assessing whether land is surplus to requirements, determining the appropriate land manager (which could be a private party) and effecting the transfer of land to the identified manager or new owner. The working group has recommended that where land is not commercially attractive and is not required or wanted by a public body or council, it will be transferred to the Department of Natural Resources and Environment to manage.

4.80 The working group has also focused on identifying and examining a number of commercially attractive sites within the project area which Transurban has acknowledged will not be required for the operation of the City Link. An estimated 96 000 square metres (or 3.5 per cent) of the total project area has been identified as potentially commercially attractive. The 21 parcels of land comprising this total area were recorded at a value of $7.5 million in the financial statements of the Authority as at 30 June 2001.

Land located at Thackery Road, Port Melbourne.
Identified as surplus and commercially attractive.

4.81 As at 1 March 2002, two properties have been sold and a further 4 sites have been targeted for priority sale. The Victorian Government Property Group within the Department of Treasury and Finance was assigned responsibility for the sale of these sites. The process established by the working group is that, for each of the commercially attractive sites, prior to the sale process commencing Transurban will be requested to sign a formal agreement acknowledging that it does not require the particular area of land nor any interest or right over it (such as an easement) and that the land can be removed from the project area and the operation of the deemed lease under the Melbourne City Link Act 1995. The remaining 15 sites designated as commercially attractive are currently being assessed prior to consideration for sale.

4.82 In terms of the 2 properties sold to date, the Authority did not obtain formal agreement and acknowledgement from Transurban that they were not required to be included in the lease area. In one case, Transurban’s agreement was not required as the land while acquired for the purposes of the project, and included in the project area, had not been included in any licence to Transurban due to design changes during the construction process. In the other case, the Authority advised that Transurban has agreed that the land will not be required for the operation of the Link.

4.83 In addition, as at 1 March 2002 the Authority had transferred 129 parcels of surplus land comprising 110 340 square metres for no consideration to the Roads Corporation (VicRoads). This surplus area, including air space, was originally transferred into the project area from VicRoads for no consideration. The vast majority of this surplus area is either underneath or above the western section of the City Link road, or consists of strips of land adjacent to that section of the City Link. Transurban has provided formal acknowledgement that these areas are surplus to its requirements for the operation of the City Link.

4.84 It is important that future sales of surplus land and transfers of land to other government bodies do not proceed until Transurban has specifically agreed that it does not require the individually identified parcels of land for the operation of the Link

4.85 In addition to the activities of the working group, the Department of Infrastructure is preparing a document setting out the general principles and processes that should be followed in identifying the “best use” for surplus land and addressing a range of issues associated with the transfer of land from the project area to government agencies. In general terms, land acquired from government bodies and deemed to be surplus will be offered back to the government body from which it was transferred. This is consistent with the Government Policy and Instructions for the Purchase, Compulsory Acquisition of Land and Sale of Land and the commitments made in 1996 and 1997 by the Minister for Finance.

4.86 It is recommended that the Authority continue to pursue the finalisation of the lease boundaries with Transurban with a view to ensuring that the leases are finalised as soon as possible so as to facilitate the transfer or sale of surplus land.

Condition of land

4.87 Under the project agreements, the State made no representation or warranty as to the condition of the project land, any structures thereon or associated areas. However, the State had indemnified Transurban for costs incurred for compliance with clean-up notices issued by the Environment Protection Agency within these areas where the State, a Victorian Government agency or occupants of the polluted land, caused or permitted the pollution to occur prior to Transurban taking possession of the land or the State granting a licence for the use of the land. This indemnity did not apply if the existence of the pollution was known or should have been reasonably known by Transurban prior to entering into the arrangements.

4.88 Under the Concession Deed, Transurban must leave land which is surplus to its requirements for the operation of the City Link and, therefore, not to be included within the lease boundaries, as nearly as possible, in the condition in which it was immediately before that land was occupied. In short, the Concession Deed requires Transurban to hand back surplus land to the State in “no worse a condition” than the land was when initially provided to Transurban.

4.89 Transurban carried out environmental investigations on land it received during the construction phase of the project and has undertaken similar investigations subsequent to the completion of the City Link to determine any changes in the levels of contamination on the land. These investigations have been performed by specialists on behalf of Transurban. The Authority has engaged its own specialist environmental auditors to review the quality and reasonableness of the analysis performed on Transurban’s behalf. The conclusion reached by the Authority was that Transurban has been able to meet its obligations under the Concession Deed in terms of handing back surplus land in no worse condition than when it was provided to Transurban.

Sub-leasing of leased land by Transurban

4.90 In April 2002, the Melbourne City Link Act 1995 was amended to allow the granting of a lease over land to Transurban for purposes other than managing the City Link roadway and ancillary works.

4.91 The Authority advised that this legislative change facilitates Concession Deed amendments to allow Transurban to sub-lease particular areas to third parties for community or related purposes and which would not involve the generation of revenue for Transurban. For example, it is envisaged that the land area of approximately 4 000 square metres under the Link road immediately east of Glenferrie Road will be included in a lease to Transurban as the company will require access to this land to maintain the pylons supporting the road at that point. The inclusion of this area in a lease to Transurban would have effectively prevented the use of the area by other parties prior to the legislative amendment. Transurban has been approached by an organisation currently utilising adjacent land with a proposal to establish a car park underneath the Link road.

4.92 Prior to the amendment, the legislation did not allow the State to lease land to Transurban for purposes other than for the management of the roadway and ancillary works or other related purposes. On this basis, amendment of the Act was required to facilitate the proposed use of the land referred to above for the purpose of a car park. The Authority envisages that there may be other instances where land leased to Transurban may be able to be made available to adjacent land users for various purposes which would not be inconsistent with the effective management and maintenance of the City Link.

4.93 The City Link project was completed in December 2000. However, leases between the State and Transurban over the various sections of the Link road are yet to be finalised and, therefore, the process of disposing of surplus land acquired to facilitate construction of the Link has not progressed significantly. Of the 21 sites identified as commercially attractive, only 2 have been sold as at 1 March 2002, a further 4 sites have been targeted for priority sale and the remaining 15 sites are being assessed. In accordance with the legislation, the Authority needs to finalise the lease boundaries by the end of 2002.

RESPONSE provided by Director, Melbourne City Link, Department of Infrastructure

I have examined the report closely and note in particular your emphasis on the need for this Office to finalise lease boundaries by the end of 2002. I fully support your timely reminder. This Office remains committed to achieving this objective and recognises the importance of meeting responsibilities in this area.

I doubt that there has been another project of the scale and complexity of City Link in Victoria that has posed so many challenges for government in acquisition, licensing and leasing of land. It is important that this work is documented.

COUNCIL MONITORING OF BUSINESS VENTURES AND COMMUNITY SUPPORT ARRANGEMENTS

4.94 Councils, in seeking to carry out their responsibilities and achieve their objectives, establish relationships with a range of associated entities. The spectrum of relationships include ownership of stand-alone incorporated trading enterprises, joint venture arrangements with other councils for library or waste management services, and assistance to associated bodies such as community based organisations through the provision of grants, loans and loan guarantees. Our audit review focused on councils’ relationships with associated bodies.

4.95 Councils can be exposed to financial and other risks as a result of these relationships. Councils therefore need to have processes in place to ensure that:

• Councils’ objectives are being met;
• legal obligations are met; and
• proper assessment, approval, reporting and accountability mechanisms are in place.

4.96 On this basis, councils should establish appropriate risk management and governance arrangements for their involvement with all associated entities. The nature of these arrangements will necessarily vary according to the circumstances of the relationship and the nature of the associated entity.

4.97 Our November 2001 Report on Public Sector Agencies: Results of 30 June 2001 financial statement audits included a review of the City of Greater Geelong’s involvement in the Geelong Business and Trade Centre Limited. In the conclusion to that review, we signalled an intention to examine the quality of governance arrangements for similar ventures across a number of local government entities and prepare guidance material to assist the sector to avoid or minimise the risk of adverse outcomes such as those highlighted in that Report.

4.98 For the purposes of this report we have focussed on risk management and governance arrangements established by a number of councils for relationships with associated entities where the councils have some form of financial or other exposure resulting from the provision of loans, loan guarantees and/or ongoing grants.

4.99 Based on a review of the audited financial statements within the sector for the year ended 30 June 2001, it is estimated that Victorian councils have a total exposure of approximately $35 million arising from relationships with associated entities (excluding regional library corporations and regional waste management groups) made up of loans and loan guarantees totalling approximately $8.5 million and $25.6 million respectively.

4.100 Our review included an examination 5 councils which have exposures to associated entities through loans and loan guarantees. Our examination of each council focused on the following 5 areas considered to be critical to the effective management of relationships with associated entities:

• existence of an overall policy framework to promote an effective and consistent approach to the management of such relationships;
• quality of initial analysis underlying reports and recommendations to councils regarding proposals to involve councils in relationships with external entities involving some element of risk;
• endorsement by councils for the establishment of the relationship;
• establishment of effective risk management and governance arrangements at the commencement of the relationship using formal agreements and reporting and accountability mechanisms; and
• actual operation of, and compliance with, on-going risk management and governance arrangements during the period of the relationship.

4.101 The results and common themes arising from the review in each of these areas are reported below, along with guidance material which is considered to have relevance for all councils.

Overall policy framework

4.102 Council’s are approached regularly by community and sporting groups seeking financial or other support in order to continue or expand the provision of services and facilities to the community. These groups typically operate from council controlled properties.

4.103 The majority of councils examined had not formally endorsed policies specifically addressing the provision of loans and/or loan guarantees to such groups or other external entities. In addition, where formal policies did exist, they were not comprehensive as they failed to address issues such as the criteria to be used in determining whether support would be provided and the requirement for formal agreements to be established to outline the relationship between the council and the associated entity.

4.104 There was also variability in the formal and informal policies of the councils examined in terms of whether or not they would provide loans and or loan guarantees. It is the policy of 2 of the councils examined to not provide loan guarantees under any circumstances while the other 3 councils examined provide loan guarantees to a wide range of community and sporting groups.

4.105 It is recommended that councils establish and formally endorse a policy which addresses the provision of loans and/or loan guarantees to associated and other external entities. The policy should be focussed on risk management and governance and include a statement summarising the council’s position on whether or not it will provide loans and or loan guarantees or other financial or “in-kind” support to community and sporting organisations.

4.106 Where a council is prepared to consider the provision of such support to associated entities, the policy should include the elements outlined in the guidance that follows.

Quality of analysis and reports to council

4.107 Before establishing relationships or becoming involved with external entities councils should undertake adequate due diligence and other investigations to ensure that the relationship is consistent with the council’s functions and objectives and that council decisions are soundly based. This is particularly the case where councils propose to expose ratepayers to financial or other risks through the establishment of such relationships.

4.108 As part of the review, we examined the content of reports and supporting analysis presented to councils by council management as the basis for decision making on the nature and extent of financial or other support to be provided to associated entities. There was considerable variability in the quality of reports provided to councils both within and across the councils examined. Even the more comprehensive reports were usually focussed on the immediate decision point and did not adequately address the future implications of the proposed involvement.

4.109 The audit review focused on reports to council recommending the provision of a loan or loan guarantee to an associated entity. Very few of the reports examined were considered to be comprehensive in that they often failed to address critical matters such as the alignment between council objectives and those of the entity seeking support, councils actual and potential financial contributions and exposures beyond the initial support, the adequacy of the associated entities management and governance structures, and the mechanisms to be established to enable council to monitor and manage its exposure to the associated entity.

4.110 It is recommended that reports to council from council management which form the basis for decision-making on the nature and extent of council involvement with associated entities should contain an analysis of the matters outlined in the guidance that follows.

Council endorsement for establishment of relationship

4.111 It is important that the establishment of a relationship between a council and an external entity be formally endorsed by council. This is particularly critical in circumstances where the relationship involves the assumption of financial or other risks by council.

4.112 It was pleasing to observe that all councils examined were able to provide evidence of formal council approval or endorsement for the establishment of relationships and provision of financial and other support to external entities. As outlined in the guidance that follows, council resolutions approving the establishment of such relationships should contain any conditions considered necessary.

Establishment of effective risk management and governance arrangements

4.113 If council endorses the establishment of a relationship and provision of financial or other support to an associated entity, it is essential that effective risk management and governance arrangements are put in place to protect the council’s interests. The most effective way to achieve this aim is to establish an agreement between the council and the associated entity which assigns clear roles and responsibilities to the parties and provides the council with the capacity to hold the associated entity to account.

4.114 The vast majority of relationships between councils and associated entities examined as part of this review involved the provision of loan guarantees by councils over borrowings taken out by the associated entities. While there was invariably an agreement established between councils and the relevant financial institutions to evidence the provision of loan guarantees, it was rare for councils to establish an agreement with the associated entity in respect of the guarantee.

4.115 The failure of councils to establish appropriate agreements with entities for whom a loan guarantee has been provided can limit the capacity of councils to require such entities to provide them with sufficient information to enable monitoring of their on-going financial viability and operational performance, and their actual performance in meeting loan repayment commitments.

4.116 A number of councils used representation by councillors or council officers on the governing body of associated entities as one of the primary means of monitoring the performance of these entities. The November 2001 Report to Parliament referred to earlier, which included a review of the City of Greater Geelong’s involvement in the Geelong Business and Trade Centre Limited, raised questions regarding the legal responsibilities of council officers and councillors who accept directorships of associated incorporated entities and the appropriateness of council placing reliance on such directors to keep them informed about the performance of the entity. The directors’ responsibilities are to the company under Corporations Law and on this basis councils should establish other mechanisms to ensure that they are kept them informed of the financial and operational performance of associated entities.

4.117 In one instance observed during this review, a councillor was also chairperson of an associated entity. That councillor in the capacity as chairperson of the associated entity formally sought the provision of a loan guarantee from the council and then in the capacity as a councillor moved the motion recommending the granting of such a loan guarantee to the associated entity. The motion was carried and the loan guarantee provided. Such events highlight the potential for suggestions of conflicts of interest between the roles of individuals as councillors and/or council officers and their roles as members of the boards of governing bodies of associated entities.

4.118 While councils may seek to ensure they are represented on the governing bodies of associated entities as a means of providing assistance and expertise to the entities, they should not use this as the mechanism to ensure that they are kept informed of the entity’s financial and operational performance.

4.119 Councils should formalise the establishment of a relationship with an external entity involving some risk or exposure to council arising from the provision of financial or other assistance by requiring the establishment of an agreement which incorporates adequate performance monitoring and reporting mechanisms. The agreement should seek to protect the interests of council by ensuring it is provided with credible and timely information.

4.120 As outlined in the guidance that follows, councils should ensure that agreements are put in place with associated entities where the nature of the relationship involves some risk or exposure to council.

Implementation of risk management and governance arrangements

4.121 While each of the areas dealt with in the above paragraphs are vital to the effective management of exposures arising from relationships with associated entities, they are of little consequence if there is ineffective implementation of risk management and governance arrangements.

4.122 The audit review identified weaknesses in the practices adopted by some councils to manage the exposures arising from relationships with associated entities. The primary weakness related to the lack of evidence of timely monitoring of the financial and operational performance of entities for whom councils had provided loan guarantees. In many cases, the evidence of monitoring activity did not extend beyond the receipt of annual financial statements from the associated entity and/or the receipt of advice from the relevant financial institution regarding the loan balance outstanding at a point in time. There was generally little evidence of forward looking analysis contained in periodic formal advice provided to councils on the status of associated entities or reassessments by councils of their risk exposures.

4.123 The audit review also identified a number of instances where associated entities provided with some form of financial or other assistance, typically a loan guarantee, subsequently approached councils seeking additional assistance in the form of grants, loans or further loan guarantees as a means of ensuring their continued operation and existence or to fund an expansion in their services and facilities. Councils generally agreed to provide additional assistance. Such situations present councils with difficult choices and may indicate weaknesses in the up front analysis supporting initial council decisions to provide support and the quality of the associated entities management and governance arrangements. These situations also illustrate the potential danger of councils becoming “locked in” to the on-going support of an associated entity.

4.124 The quality of reports and financial statements provided by associated entities to councils to fulfil their accountability obligations was highly variable in terms of their content and the degree to which their credibility was enhanced by management and external audit certification. The audit review identified numerous errors and inaccuracies in the reports and financial statements submitted by such entities and there was little evidence of any formal review and analysis of this information by council officers.

4.125 In a number of instances, it was clear that the associated entities had experienced liquidity difficulties associated with the repayment of debts owed to, or guaranteed by, councils. As indicated previously, the vast majority of associated entities provided with financial support in the form of loans or loan guarantees by the councils examined were community and sporting groups occupying council controlled land, and in some cases facilities. To ensure continued access for the community to the facilities, in the event of such entities failing to meet their obligations, councils are called upon to honour their loan guarantees, forgive debts or extend the existing facilities, and in some cases the councils assume control of the facilities.

4.126 The councils examined as part of this review generally provided an adequate level of public accountability for their relationships with associated entities through the inclusion of information in their annual reports and, where appropriate, the disclosure of details of loan guarantees in the notes to the financial statements.

4.127 As outlined in the guidance that follows, councils need to ensure the effective implementation of risk management and governance arrangements established for relationships with associated entities. Such arrangements need to be established by councils to ensure they have access to sufficient information and capability to:

• monitor the financial and operational performance of the entities;
• periodically assess the status of councils’ risk exposure;
• promote councils interests; and
• influence the direction of the entities, where considered appropriate.

RESPONSE provided by Executive Director, Local Government Division

The Local Government Division (LGD) supports the general thrust of the Report and the recommendations made.

The recommendations in the Report will provide valuable encouragement to councils in the establishment of appropriate policies and frameworks on governance arrangements and risk analysis and management. With appropriate policies and frameworks in place, the risk to ratepayers of councils providing loans or loan guarantees to local community groups can be reduced. The LGD will bring these recommendations to the attention of all councils once your report is tabled in Parliament.

REVIEW OF MUNICIPAL BUSINESS UNITS

4.128 As part of a review of the implementation of the then State Government’s policy for compulsory competitive tendering within local government, my Office’s 1998 Report on Ministerial Portfolios included the following key findings from a review of the management of business units by municipal councils:

• Twelve municipal councils with contract expenditure in excess of $68 million were unable to identify the surpluses or losses generated during the 1996-97 financial year from their business unit operations. This management deficiency may have exposed ratepayers' funds to risk, particularly where such units provide services external to the council;
• Fifty per cent of municipal councils who responded to an audit survey indicated that profits of council business units were shared with employees;
• A council had awarded a contract relating to road maintenance services valued at $5.2 million to the business unit of another council, however, the terms and conditions of the contract had been subjected to differing interpretations due to a lack of clarity of the contractual obligations of both parties, especially the expected type and standard of service to be provided. Subsequently, during February 1998, a Deed of Amendment was entered into by the parties clarifying various provisions of the initial contract and incorporating a variation to the contract totalling $620 000 to enhance the level of service provided for unsealed roads; and
• Councillors of another council resolved to award a contract to its in-house service provider notwithstanding that the tender evaluation panel's recommendation was to award the contract to an external provider. In December 1997, a writ was lodged in the Victorian Supreme Court on behalf of the external provider seeking damages against the council in excess of $1.5 million. However, a settlement was reached during April 1999 in which the council agreed to pay $100 000 to the external tenderer.

4.129 My subsequent reports to Parliament have also commented on the activities of municipal council business units, including:

• The overall cost to ratepayers of the Colac-Otway Shire Council for the acquisition and operation of an abattoir until its closure, and contributions to the owners of the new facility, totalled around $2.4 million, with a further $250 000 provided by the State; and
• In view of the differing risks for municipal councils involved in the creation and operation of entrepreneurial arrangements, such as companies created under section 193 of the Local Government Act 1989, including the potential exposure to public funds, the legislative responsibilities and accountability requirements of these arrangements required further clarification. In particular, some entities created under section 193 did not have any external reporting obligations under that Act unless the relevant Ministers created an expressed external reporting obligation as part of the approval to create the entity pursuant to the Act.

4.130 A further review of municipal council business unit activities was considered warranted given the significance of the previous audit findings and the replacement of the previous policy for compulsory competitive tendering with the Government’s Best Value policy during 1999.

4.131 The objective of this audit review was to identify the extent of business unit activities undertaken outside the “parent” council and assess the effectiveness with which these activities were being managed. Specifically, the review assessed the number of councils undertaking external work, that is undertaking work for other councils or other entities.

4.132 For the purposes of this report, a business unit has been defined as any division, unit, section or other entity of council which provides or intends to provide goods or services (generally under contract or written agreement) to external clients, or to both external clients and the parent council. External clients include other councils and other entities in the private or public sectors. External clients do not, for example, include ratepayers who are in receipt of normal municipal services, such as garbage collection.

Trends in the incidence of business units

4.133 The Local Government Act 1989 enables councils to create business units pursuant to their objectives, functions and purpose under the Act, and also provides councils with entrepreneurial powers. Further, the functions of a council under the Act are wide-ranging and include encouraging employment, commerce, industry and agriculture.

4.134 Consistent with the approach adopted during my Office’s 1998 review, a survey of councils was undertaken early in 2002 to ascertain the nature and extent of business unit activities. The 2002 survey revealed that municipal business units are currently undertaking the following types of activities:

• civil works, including road maintenance and construction;
• garbage collection;
• building approvals;
• food and cleaning services; and
• management of:
• tourist attractions;
• leisure centers and pools, including gymnasiums;
• aged care hostels;
• golf courses;
• museums and galleries;
• reception/conference centers;
• car parks;
• childcare centers;
• sale yards;
• caravan parks;
• parks and gardens;
• markets; and
• landfills and quarries.

4.135 Table 4F sets out a comparison of the number of councils operating business units between 1998 and 2002.

TABLE 4F
MUNICIPAL BUSINESS UNITS – COMPARISON OF THE NUMBER OF
COUNCILS OPERATING BUSINESS UNITS, 1998 AND 2002

4.136 Table 4F indicates a 28 per cent reduction between 1998 and 2002 in the number of councils operating business units, and a significant reduction in the number of business units per council. This is, in part, a response to the 1999 repeal of the former legislative obligations for compulsory competitive tendering by councils, which had encouraged the creation and maintenance of business units by councils. Nevertheless, the incidence of business units within the local government sector is still significant given that 44 of a total of 78 municipalities still operate business units.

4.137 The 2002 audit survey also revealed that the significance of the dollar value of work undertaken by business units, when compared with their parent council’s turnover, varied substantially between councils. While for many councils, business unit turnover was not significant, for others it was a major activity (case study examples of such business units are discussed later in this section of the report). It is acknowledged that the level of business unit turnover may not necessarily be reflective of the resultant level of risk posed to the parent council by the operation of business units.

Risk management framework

4.138 In accordance with contemporary management practices, councils have a responsibility to maintain adequate risk management strategies across all of their activities. The need for the adoption and management of effective risk management strategies is increased when councils elect to undertake work for external clients or engage in other entrepreneurial activities using business units.

4.139 Approximately 88 per cent of councils which responded to our 2002 audit survey question on risk management strategies indicated that they did not have a risk management strategy. Nevertheless, of those councils which did not have a strategy, 61 per cent indicated they were in the process of developing such a strategy and/or that they already had a risk management policy in place which provided the framework for development of risk management strategies and plans.

4.140 Councils, which elect to engage in work for external clients, or engage in other entrepreneurial activities, can change existing risks, or create new risks in several respects, including:

• public liability;
• occupational health and safety;
• financial losses, which may cause other municipal services to be curtailed or stopped;
• fraud and break down in internal control;
• professional negligence in the management of entrepreneurial ventures and business activities;
• diversion of council resources into non-core activities;
• environmental threats;
• redundancy risks, including unemployment;
• business continuity threats;
• legislative and regulative compliance matters; and
• privacy and information management issues.

4.141 Nevertheless, councils may also potentially derive some significant benefits for their municipalities from the operation of business units, such as:

• an increase in local employment and economic development;
• creation of additional revenue streams for council;
• creation of economies of scale and cost reductions for council;
• creation of competition; and
• achievement of other environmental and social objectives.

4.142 Risk management is an ongoing responsibility of councils. All councils should ensure that an effective and responsive strategy is in place and that it remains relevant to council’s changing risk environment. In particular, attention should be given to the specific risks arising from the operation of business units in the development and maintenance of municipal risk management strategies.

Departmental Initiatives

4.143 In response to my Office’s parliamentary reports into business units and entrepreneurial undertakings within local government, the Department of Infrastructure has undertaken a number of initiatives. In particular during November 2002, the Department released a discussion paper entitled Risky Business – Improving Council’s Management of Entrepreneurial Risk.

4.144 Further, the Minister for Local Government announced in November 2000 that the Local Government Act 1989 would be updated to correct anomalies and ensure that the Act reflected contemporary thinking about the role of local government, its accountability to its constituents and its relationship with the State. During February 2001, a report on Consultation with Councils on the Discussion Paper which included suggested revisions to the Local Government Act 1989 was released. The legislative provisions related to entrepreneurial undertakings of municipal councils and the Report on Consultation with Councils on the Discussion Paper have been considered as part of the legislative update process.

4.145 It is anticipated by the Department that the new legislation will be presented to Parliament in the autumn session of 2002.

4.146 The Act currently places certain obligations on councils where they elect to establish their business units as separate entities, such as companies, joint ventures, trusts or partnerships. Those obligations include requiring the approval of the Minister for Local Government for the establishment of such entities and subjecting those bodies to audit by the Auditor-General. Further, the Minister, when approving the creation of such entities, had required those entities to provide regular reports to the Department.

4.147 The Department has proposed as part of the current review of the Act that councils be required under the legislation to obtain a risk assessment report for some of these entities and the Department’s proposals would create a legislative power for the Minister to publish guidelines on risk assessment reports.

4.148 Our 2002 survey has revealed that most business units have been created as an internal unit of council rather than as a separate entity under the Act. However, there is currently no existing legislative obligation requiring Ministerial approval for councils to provide significant services to external clients (other than for arrangements established under section 193 of the Local Government Act 1989) nor is it proposed to require the preparation of a risk assessment report for the provision of such services.

Accountability to the council and community

4.149 The 2002 audit survey results indicated that councils have established similar internal reporting and accountability procedures for their internal business units, as exists for other activities of council. Common features include financial and performance-based reporting against budgets and sometimes service agreements. These internal reports are generally initially presented to line management and then to the Chief Executive Officer, a Committee of Council and ultimately to council.

4.150 The frequency of reporting varied between each level of recipient and between councils. The reporting to council varied from monthly to annual reporting, which was accompanied by more frequent reporting to the Chief Executive Officer and Committees of Councils.

4.151 Externally-reported information on the operation of business units varied significantly. Generally, council business units did not have a regular external reporting regime in place. However, audit did note instances where some information on some business units was available from council annual reports, council minutes and internet websites.

4.152 Detailed publicly available information on the existence, operation and performance of business units was generally not available or very limited. As noted earlier, there are no specific legislative external reporting obligations for business units arising from the Local Government Act 1989.

4.153 The need for regular, publicly available audited information on the operation and performance of business units is heightened not only by the different risk profile created by the operation of business units that provide significant services to external clients but also by the fact that 20 per cent of business units still have profit sharing arrangements with employees.

4.154 The adoption of a segment reporting regime within council annual financial reports for internal business units that provide significant external services could alleviate this deficiency. Information provided in council annual financial reports under such a regime could not only include revenue, expenditure, assets and liability information for each significant internal business unit, but could also provide information on the financial performance of internal and external work undertaken by business units.

Case studies

4.155 During the audit review, a number of business units were selected for a closer inspection, the results of which are set out below. These business units were selected on the basis that they may be illustrative of some of the issues faced by councils in the operation of business units which undertake work for external bodies.

4.156 Key overall observations from the review of the case studies include:

• all of the business units reviewed represented a substantial operation when compared with the value of their parent councils’ turnover, and all had a significant proportion of external work;
• the parent councils sometimes provided certain guarantees relating to the timeliness and quality of their business units’ works for external bodies;
• all of the business units examined were in-house business units, nevertheless, one of these business units had also established a separate corporate identity and operated “independently” of its parent council;
• the business units contributed to their parent councils’ objectives, which included promoting employment, growth and business development opportunities;
• the operations of the majority of the business units examined were monitored by a special committee of council, established pursuant to the Local Government Act 1989, which acted as defacto Boards of Management;
• the complexity of managing these business units was increased by the conduct of a combination of municipal and commercial/entrepreneurial activities, and that they sometimes endeavoured to deliver a large range of diverse services; and
• only some of the business units examined had positive corporate governance features in the form of internal reporting and shorter-term planning arrangements, and voluntary annual external reporting practices together with risk management strategies.

4.157 In summary, the review of the business units covered by the case studies reinforces the need for improved governance arrangements over these activities within the local government sector.

Case study A

4.158 The council created an in-house business unit during 1997 and established a Special Committee of Council, pursuant to the Local Government Act 1989, to act as a governing board for the business unit. The council delegated certain powers to the Special Committee of Council to incur expenditure and enter into contracts below certain prescribed limits.

4.159 The business unit’s mission is to

• provide a range of high quality programs and services under contract to the council, and other customers from within and external to the municipality; and
• trade as a separate entity to the council, paying all its own expenses, and achieve a surplus.

4.160 The business unit has established its own corporate identity, its own accounting system, internet web page and bank accounts, and operates independently from council. However, it remains an internal unit of council reporting to a Special Committee of Council acting as a Board of Management.

4.161 The business unit employs approximately 300 people, has a significant turnover (which represents 55 per cent of its parent council’s 2000-01 turnover) and 37 per cent of the Unit’s turnover was sourced from external clients. The business unit which operates on a full cost recovery basis, had a positive net asset position and working capital position, and achieved a very small profit for the 2000-01 financial year, based on the unit’s management accounts. These accounts, which do not separately report the financial result arising from work undertaken for external clients, were reviewed by an internal auditor engaged by the unit.

4.162 Profits are generally shared on a 50/50 basis between the business unit and the council. The unit retains its share of the profits to guard against any future losses and as a fund to pursue future business opportunities and operational refinements. Council is currently considering expanding the business activities of the unit through a partnership arrangement. Some parts of the business unit had profit sharing arrangements with employees, however, these arrangements have now ceased for most staff.

4.163 The business unit’s non-current assets have been debt financed by the council. This borrowing is secured by mortgage over the council’s general rates. The council also provides guarantees for the business unit’s external works contracts.

Corporate governance

4.164 The business unit’s Board of Management meets monthly to monitor the operations of the unit and comprises 2 councillors, the Chief Executive Officer of the council, 2 independent representatives appointed by council, a staff representative and the General Manager of the business unit. The independent representatives have been appointed by the council on the basis that they have suitable service contract management experience. The General Manager and the staff representative are non-voting members. Lastly, the council’s Mayor holds a seat on the Board of Management in an ex-officio capacity.

4.165 The composition and structure of the Board of Management highlights the hybrid nature of the arrangement chosen by council to establish its business unit. On the one hand, the Board of Management is strongly representative and very much a part of council, but at the same time acts as a commercial undertaking.

4.166 The complexities of managing this partly commercial business undertaking, which operates from within council, is also highlighted by the diversity and large number of services provided by the Unit. Those services include:

• domestic services, including driveway maintenance and installation, house levelling, maintenance and cleaning, and septic tank installation;
• youth support and advice, home care, immunisations, and maternal and child health services;
• payroll and administrative support;
• planning mediation and conflict resolution;
• commercial cleaning;
• plant hire and road maintenance;
• swimming pool management;
• grounds maintenance of parks and reserves, and tree planting;
• animal control; and
• waste management and recycling.

4.167 The business unit is required to prepare an annual business plan which is approved by its Board of Management and the council. The plan sets out the unit’s role, objectives and activities for the coming year and detailed budgets. The business unit does not prepare a longer-term strategic plan for approval by its Board of Management or council.

4.168 Council has elected to include unaudited information on the operation of the business unit within its annual report. That information includes the business unit’s mission, aims and objectives, Board of Management structure and financial performance. The business unit also provides its Board of Management and the council with regular reports, including annual plans, budgets, and monthly and quarterly performance reports.

Risk management

4.169 While the council has a number of insurance arrangements and other policies in place which address certain risks, both the council and the business unit have not formally documented a risk management strategy. Further, while the council’s existing risk management arrangements do not specifically address the business unit, the unit does undertake a risk-based analysis of each tender it prepares.

4.170 While the council has an internal auditor, to date there have been no internal audit reviews undertaken into the activities of the business unit, nor have any external parties been engaged to review the activities of the unit on behalf of the Council. Reviews of the financial regularity, legislative compliance, risk management, efficiency, effectiveness and economy of the business unit’s operations should be of assistance to the unit’s Board of Management and the council.

Case study B

4.171 The council established this in-house business unit in order to maintain local employment and create additional income for the council. In common with case study A, this business unit is overseen by a special committee of council, acting as a Board of Management with certain delegated powers from council.

4.172 The mission of the Board of Management is to “… promote and market the business to create and take advantage of business opportunities that will enhance the position of the Business Unit as a provider of a range of quality infrastructure maintenance and construction services”.

4.173 This business unit competes for in-house work and has not sought to establish its own corporate identity. The services provided by the business unit include:

• road maintenance and construction;
• bridge and land fill maintenance;
• plant maintenance;
• maintenance of parks, gardens and public conveniences; and
• quarry management.

4.174 The business unit has a significant turnover, which represents 43 per cent of its parent council’s 2000-01 turnover, and 15 per cent of the unit’s turnover is from external clients. In relation to the unit’s work for external bodies, the council provides certain guarantees relating to the timeliness and quality of such works.

4.175 The business unit, which operates on a full cost recovery basis, reported a profit for the 2000-01 financial year, based on unaudited management accounts. These accounts do not separately disclose the financial result arising from work undertaken for external clients. In addition, the business unit does not separately account for any assets or liabilities it controls or creates.

Corporate governance

4.176 The business unit’s Board of Management meets monthly to oversee the development of the unit and comprises 2 councillors, the Chief Executive Officer of the council, 2 other senior council officers, a nominated staff representative and an independent person appointed by council. The independent person has been appointed to add an external business focus to the operations of the unit.

4.177 The structure of the Board of Management is strongly representative of council and in light of the unit’s significant commercial focus the Board of Management may need to consider if it has a commensurate level of business skills and experience.

4.178 The business unit provides its Board of Management with monthly activity and financial reports, and budget and performance reports. The unit also prepares an annual business plan (which includes a component with a longer-term view) and an annual report but does not prepare a longer-term strategic plan. Limited information from the unit’s annual report to its Board of Management is incorporated into the council’s annual report.

Risk management

4.179 While the council has developed risk management policies from a whole-of-organisation perspective, they do not specifically address the activities of the business unit. Council is currently developing a risk register across the organisation with an intention to formally document a risk management strategy for the business unit and council as a whole.

4.180 While the Council has an internal audit function, which has identified risks associated with the operations of the business unit, there have been no reviews of the unit’s activity.

Case study C

4.181 The council maintains 5 business units, only one of which is overseen by a Special Committee of council. The business units use some of council’s non-current assets to undertake their activities and one business unit is generating revenue to fund council’s previous acquisition of a building and land for its activities. Council does not provide any guarantees for the business units’ works contracts.

4.182 The services provided by the business units include:

• operation of a tourism complex;
• road construction and maintenance;
• parks and gardens maintenance;
• fire hazard maintenance; and
• management of caravan park facilities, saleyard facilities and quarry facilities.

4.183 Overall, the business units’ turnover for the 2000-01 financial year represented 29 per cent of their parent council’s turnover, while 37.5 per cent of business units’ turnover is generated externally. Three of the business units provide all their services to external clients, while the other 2 have a mix of internal and external clients. The business units operate on a full cost recovery basis and reported surpluses for 2000-01, however, the management accounts were not subject to review by the council’s internal auditors and one of the business units did not separately disclose the operating result of its external operations.

Corporate governance

4.184 The Council’s business units do not prepare separate business or annual plans, nor do they have their own mission statements. However, as previously indicated, one business unit is overseen by a Special Committee of Council which provides direction and sets objectives for the unit. That Committee is comprised of 12 people including one councillor and other members of the community appointed on a merit basis. The existing community members possess a variety of relevant skills, including legal, accounting and commercial skills.

4.185 The business units prepare monthly reports which include both data on operational and financial performance as compared with budget for submission to the council’s Chief Executive Officer. In addition, the Special Committee of Council meets monthly and reviews the financial and performance reports of one of the business units, which are then submitted to council.

4.186 The business unit overseen by the Special Committee of Council also presents an annual report to council.

4.187 The activities of the business units are deemed to be integral to the activities of the council and separate information on their operations are not included in the council’s annual report.

Risk management

4.188 Council has a number of risk management policies and strategies in place which do not specifically address the activities associated with the operation of the various business units.

4.189 While the council has an internal audit function, to date there has not been any internal audit reviews into the business unit’s activities.

Case study D

4.190 The council has created an in-house business unit for the maintenance and construction of roads, drains and footpaths. The business unit has a significant externally generated turnover, which represented 15 per cent of council’s 2000-01 turnover. The business unit operates on a full cost recovery basis and reported a surplus for 2000-01 for its external clients, however, the management accounts were not subject to review by the council’s internal auditors.

Corporate governance

4.191 The business unit operates as an internal department within the council and, therefore, does not have its own corporate identity. The unit also does not have a mission statement or prepare an annual business plan.

4.192 The business unit is governed by a Special Committee of Council, which acts as a governing board and has certain delegated powers from council. The Committee which meets monthly, is comprised of councillors and executive management of council. The introduction of independent members could strengthen the commercial and business expertise of this Committee.

4.193 The business unit is subject to the same financial and performance-based controls, as are all other council programs, including monthly reports, to council and annual and mid-year budgets. The unit provides monthly financial reports to its governing board, which compares its performance against its budget.

Risk management

4.194 While council has implemented risk management policies, it has not prepared a risk management strategy which identifies, documents and assesses risks for the council or more specifically its business unit activities. However, council using its internal auditors does undertake an evaluation of risks and the correctness of calculations made for each tender prepared by the business unit. The Council’s audit committee also reviews the operations of the business unit by monitoring financial and budget information.

Overall conclusion

4.195 Councils could improve corporate governance arrangements over the operations of their business units by:

• ensuring councils prepare risk management strategies, which include specific reference to risks arising from business units, and longer-term strategic business plans for these units (that is, over periods greater than one year);
• utilising internal audit to review business unit operations with such reviews covering financial regularity, legislative compliance, risk management, efficiency, effectiveness and economy of the operation of business units;
• ensuring all business units have a clear mission supported by a separate annual business plan together with longer-term strategic planning;
• ensuring that all business units’ operations are monitored by a Board of Management or equivalent committee structure with an appropriate mix of municipal and commercial/entrepreneurial expertise; and
• adopting a segment reporting regime within council annual financial reports, for internal business units that provide significant services to external clients, which sets out the units’ revenue, expenditure, assets and liabilities, together with information on the financial performance of internal and external work undertaken by business units.

RESPONSE provided by Executive Director Local Government Division, Department of Infrastructure

The Department supports the general thrust of these recommendations, and will continue to work with the sector to improve corporate governance arrangements.

PROPERTY MANAGEMENT PRACTICES AT LATROBE CITY COUNCIL

4.196 The Latrobe City Council (the Council) was formed on 29 July 1994 as a result of the merger of the former Cities of Moe, Morwell and Traralgon, and the former Shire of Traralgon. The amalgamation process left the Council with a property portfolio that included multiple buildings that had previously been utilised for similar purposes, such as municipal chambers, customer service centres, and depots. A challenge for the Council was to effectively manage the portfolio and to identify and sell those properties that were no longer required in the context of the Council’s objectives and service delivery obligations to its community.

4.197 It is clearly desirable for councils to have in place documented property management strategies to facilitate the effective management of their property portfolios in the best interests of ratepayers. The audit review disclosed that the Council has not established or approved a property management strategy or supporting policies and procedures.

4.198 We recommend that the Council and others facing similar circumstances establish a documented property management strategy which:

• identifies in broad terms the nature and extent of the property portfolio;
• outlines the current and planned usage of specific properties, including planned actions for properties considered surplus to requirements;
• reflects consideration of both current and projected community needs;
• addresses financial issues associated with the management of the portfolio including
  on-going insurance, maintenance and capital upgrade and replacement costs;
• is supported by detailed policies and procedures addressing:
• property management and operational issues such as access arrangements, safety, security, heritage considerations, energy usage, cleaning and maintenance;
• property acquisition and disposal processes which address issues such as obtaining valuations, negotiation and approval guidelines, tendering requirements and handling of actual or potential conflict of interest issues; and
• requirements to ensure compliance with relevant provisions in the Local Government Act 1989 and other legislation.

4.199 The audit included a review of documentation relating to the sale by the Council of 3 properties that had been identified as surplus to requirements to determine whether the Council had complied with relevant provisions of the Local Government Act 1989. We found that while the Council complied with legislative requirements in the sale of 2 of these properties, it did not meet all statutory obligations in respect of the sale of the third property. Further comment on the disposal of this latter property is provided below.

Sale of former Moe City Offices

4.200 Under Section 189 of the Local Government Act 1989, a council is required to give at least 4 weeks public notice of its intention to sell or exchange land.

4.201 The Council advertised its intention to sell the former Moe City Offices property located at 46-48 Albert Street, Moe by way of public notice in a local newspaper in August 1996. After seeking expressions of interest for the purchase of the property, on 19 May 1997, the Council authorised its Chief Executive Officer to enter into negotiations with prospective purchasers. A decision was subsequently reached to sell the property to a local company.

4.202 In September 1997, the Council obtained an independent valuation of $600 000 for the former Moe City Office property. This compared to the Council’s municipal valuation of the property for rating purposes of $750 000.

4.203 Following protracted negotiations between the Council and the company, a number of agreements were executed by the parties in August and December 1998 to give effect to the sale of the property for a total consideration of $575 000 (made up of $300 000 in cash and $275 000 in “in-kind” commitments over 10 years). The primary features of these agreements were:

• A cash payment by the company of $300 000 for the purchase of the former Moe City Offices;
• The company providing the Council with access (through a lease agreement) to the company’s premises in Newborough for a 10 year period for an up-front payment by the Council to the company of $25 000 (the estimated value of the area acquired for the 10 year period was $200 000);
• The Council agreed to reduce the sale price of the property by:
• $50 000 in return for a written commitment by the company to construct a nursing mothers facility within the former Moe City Offices and ensure its public availability for a period of 10 years; and
• a further $50 000 in lieu of providing a development and relocation incentive to the company; and
• A commitment by the company to ensure the provision of certain medical services within the local area.

4.204 The council has subsequently sub-leased 85 per cent of the premises leased from the company to another entity for a nominal rental of $1 per year and the remaining 15 per cent of the premises back to the company for an annual rental of $2 145 over a term of 10 years ($21 450 for the total period of the lease).

4.205 Our review of the sale arrangement revealed that:

• Under State legislation, stamp duty for land transactions is payable on the higher of the unencumbered market value of the property or the consideration for the sale (which includes the monetary consideration and the value of non-monetary consideration). In relation to the sale of the former Moe City Offices property, the Transfer of Land document forwarded to the Land Titles Office and the State Revenue Office stated that the consideration for the sale of the property was $300 000. This document was signed and sealed by the Council and the company. Given that the consideration for the sale as determined by the parties was $575 000 and its market value was $600 000, the company’s liability for stamp duty was understated. The Council has advised that the State Revenue Office is in the process of recovering the full amount of stamp duty payable on the transaction, with this amount calculated by reference to the market value of the property; and
• The Local Government Act 1989 requires a council to have the land valued by a registered valuer not more than 6 months prior to the sale or exchange of the land. The Council contravened this requirement, as the contract of sale for the former Moe City Offices was not entered into until 11 months after the date of valuation.

4.206 The Council should review, and if necessary amend, its processes to ensure that it fully complies with all legislative requirements relating to land sale transactions.

RESPONSE provided by Chief Executive Officer, Latrobe City Council

Whilst Council might not have any current property management strategies, policies or procedures, the large majority of assets sold since amalgamation were the result of a detailed audit of Council-owned properties which identified surplus properties. The majority were sold over a three-year timeframe, mainly during the period of Commissioner-governed Council. Since this time, there has until recently, been minimal sales of Council’s assets.

Council accepts that its valuation was 5 months older than required under the Act, however, it suggests that this was a minor oversight resulting from the time taken to finalise the protracted negotiations with the purchaser. Council has sold in excess of 50 (Council-owned) properties since 1994, and is extremely confident that it has complied with the Local Government Act in all other instances.

In relation to the Stamp Duty issue, there was no intention by Council, nor any benefit derived, in the understating of the sale price. It is noted that this matter has now been addressed by the State Revenue Office.

Council stands by its position that the sale to the company was to the benefit of the community. The building was vacant and in a high profile position in the CBD of Moe. Council’s decision to sell the property has been vindicated by the growth of the business environment to the point where two further significant vacant CBD properties are now occupied by the company.

Council assures the Auditor-General that its processes for land sale transactions are closely monitored and compliance with legislative requirements is strictly enforced. It is noted that minor oversights on Council’s behalf in respect to the sale of the former City of Moe offices occurred, however, Council believes that this is an isolated incident in over 50 sales of property.