LAO Analysis of the 1996-97 Budget Bill
State Administration, Part I

Contributions to Judges' Retirement Systems (0390)

The state provides retirement benefits for municipal, superior, appellate, and Supreme Court judges, and their survivors, through either the Judges' Retirement System I (JRS I) or the Judges' Retirement System II (JRS II). Membership in the JRS II is mandatory for all judges taking office on or after November 9, 1994. These systems are administered by the Public Employees' Retirement System (PERS).

Judges' Retirement System I.Most revenue deposited in the JRS I fund comes from the following sources:

Members of the JRS I earn retirement benefits equal to a percentage (up to 75 percent) of the currentsalary of the judicial office last held.

According to the budget, the JRS I will pay a projected $75 million in benefits to 1,298 annuitants in 1996-97.

Judges' Retirement System II. Chapter 879, Statutes of 1994 (SB 65, McCorquodale), created the JRS II. Unlike the JRS I--which is funded on a pay-as-you-go basis--the JRS II is on a prefunded basis. In this respect, the JRS II is like all of the other retirement systems funded by the state. The state and member judges contribute to the JRS II fund each month--8 percent of salary from the judges and 18.8 percent from the General Fund--to create a trust fund that should be adequate to cover future benefit payments.

Overstated Benefit Payments Lead to Overstated Budget Request

We recommend the Legislature reduce the General Fund request for the Judges' Retirement System I by $5 million to correct for over estimates in current-year and budget-year benefit payments. (Reduce Item 0390-001-0001 by $170,000 and Item 0390-101-0001 by $4,830,000.)

The Governor's Budget fund condition statement for the JRS I projects benefit payments to annuitants of $75.2 million in both 1995-96 and 1996-97, compared to actual payments in 1994-95 of $68.2 million. Actual benefit payments in the first six months of 1995-96 have totaled $35.6 million. Assuming a 3 percent annual growth rate in the number of annuitants--the average annual increase over the prior five years was 2.8 percent--we project that 1995-96 benefit payments will total $71.6 million and that 1996-97 payments will total $73.8 million. Our analysis indicates, therefore, that the budget overstates expenditure needs for the current year and budget year by a combined $5 million.

We recommend, therefore, that the Legislature reduce the General Fund appropriations for the JRS I by $5 million to correct for these over-estimated payments. (Reduce Item 0390-001-0001 by $170,000 and Item 0390-101-0001 by $4,830,000.) This corrective action would leave a JRS I fund balance of $8.4 million on June 30, 1997--the same amount shown in the Governor's Budget fund condition statement and more than adequate to meet the fund's cash flow needs. Without the corrective action the fund balance would grow to $13.4 million. This would serve no useful purpose, since the JRS I is a pay-as-you-go system, and would deny $5 million for higher priority state purposes in 1996-97.

Accurate Accounting of Judges' Retirement System II Fund Needed

We recommend that the Department of Finance (DOF) and the Public Employees' Retirement System (PERS) provide the budget committees a corrected fund condition statement for the Judges' Retirement System II (JRS II), with an accurate accounting of contributions to the fund. We further recommend that the DOF and the PERS report to the committees prior to budget hearings on measures to (1) assure accurate future reporting of contributions and (2) restore lost earnings to the JRS II fund.

The Governor's Budget fund condition statement for the JRS II fund is seriously inaccurate. For each of the fiscal years 1994-95 to 1996-97, it shows General Fund contributions into the fund exceeding judges' contributions by a ratio of about 1.3 to 1. Based on the requirements of current law, however, that ratio should be 2.35 to 1. At the time this analysis was prepared, the PERS and the DOF staff were unable to explain the discrepancy or provide correct fund amounts. Moreover, the PERS staff could not verify the true amounts of past or current judges' contributions into the JRS II fund because the Judicial Council and the courts, in their monthly payroll reports to the PERS, have failed to separately identify JRS I and JRS II members. One consequence of this reporting error is that legally required General Fund transfers to the JRS II fund have not been taking place. This reporting error would be a concern under any circumstance, but is of particular significance due to the trust fund nature of the JRS II fund.

In view of the above, we recommend that the DOF and the PERS provide the budget committees a corrected fund condition statement for the JRS II, with an accurate accounting of contributions to the fund. We further recommend that the DOF and the PERS report to the committees prior to budget hearings on measures to (1) assure accurate future reporting of contributions and (2) restore lost earnings to the JRS II fund.

Department of Information Technology (0505)

The Department of Information Technology (DOIT), a new state department established by Ch 508/95 (SB 1, Alquist), is responsible for planning and overseeing the state's uses of information technology. The DOIT is responsible for ensuring that appropriate plans, policies, and procedures are in place to assure the successful implementation of information technology projects.

The budget proposes $2.5 million for support of this new department's operations in 1996-97, exactly twice the amount of estimated current-year expenditures (the department was created effective January 1, 1996). The proposed amount includes $837,000 from the General Fund and $1.7 million from reimbursements.

New Department Has Major Responsibilities

We recommend that the Department of Information Technology advise the Legislature at budget hearings as to its progress in fulfilling its responsibilities, including pending reporting requirements, staffing the new department, and clarifying the respective roles of the department and the Department of Finance regarding state information technology projects. The department should also point out any barriers it believes may impede it from achieving success.

Background. In June 1994, we issued Information Technology: An Important Tool for a More Effective Government, which identified a number of major problems in the state's use of information technology. (Please see the Crosscutting Issues section of this chapter for a broader discussion of state information technology). Two subsequent reports, one issued in September 1994 by a task force appointed by the Governor and the other by the Bureau of State Audits (December 1994), reached similar conclusions to those contained in our June 1994 report. Both the Legislature and the Governor took action as the result of these reports. The Governor issued several executive orders relating to information technology, including the temporary establishment of the Governor's Office of Information Technology to take over responsibilities assigned to the Office of Information Technology (OIT) in the Department of Finance (DOF).

The Legislature, through the 1994 and 1995 Budget Acts, placed various conditions on several major information technology projects, and in 1995 enacted Chapter 508, a major information technology reform measure, which eliminated the OIT and established the DOIT. Chapter 508 expanded the scope of responsibilities and authority of the DOIT, as compared to the former OIT, regarding the planning, uses, and management of the state's information technology activities. Figure 13 displays the major responsibilities assigned to the DOIT by Chapter 508.

Figure 13
Department of Information Technology
Major Responsibilities Under Ch 508/95 (SB 1, Alquist)
Oversee the management of information technology in state agencies, with authority to suspend or terminate projects.
Develop and implement a strategy to facilitate information sharing among state computing systems.
Determine which information technology applications should be statewide in scope, and ensure that such applications are not developed independently or duplicated by state agencies.
Develop and maintain a computer-based file, accessible to the Legislature, of all approved information technology projects.
Develop statewide policies and plans that recognize the interrelationships and impact of state activities on local governments, including local school systems, private companies that provide services to state agencies, and the federal government.
Requires the DOIT to submit the following reports (due date):
  • Progress toward compliance with the provisions of the measure (July 1, 1996).
  • A plan for implementing the recommendations of the Governor's Task Force on Government Technology Policy and Procurement (October 1, 1996).
  • A method whereby the public may electronically access nonconfidential information via state telecommunications networks (January 1, 1997).
  • A preliminary assessment of the feasibility of consolidating the state's information technology activities (July 1, 1997).

Much Remains to Be Accomplished.On January 23, 1996 we released a report entitled State Information Technology: An Update, in which we noted that while the administration has taken some constructive actions, there has been relatively little progress in resolving, across state government, the major issues discussed in the three 1994 reports. We pointed out some individual initiatives taken by several departments, suggesting that they could become models for other state projects to the extent they are successful. We also identified a number of current information technology projects that we believe warrant continued oversight by the Legislature. (In this Analysis, we also identify additional information technology issues in our review of other department's budgets.)

Many Positions Remain Unfilled.In September 1995, the Governor appointed a Chief Information Officer (CIO) who became the Director of the DOIT when the new department became effective on January 1, 1996. At the time this Analysiswas prepared, approximately one-half of the 15 positions authorized the DOIT remained unfilled and the department was in the process of recruiting to fill the vacancies.

Clarification of Responsibilities Needed. In transferring state information technology oversight from the DOF to the DOIT, Chapter 508 specified a limited information technology oversight role for the DOF. Chapter 508 states that ". . . the role of the Department of Finance regarding the approval of information technology projects shall be limited to the approval of expenditure of funds on information technology projects." Anticipating this reduced role, the Legislature approved in the 1995 Budget Act a proposal from the DOF to eliminate the OIT, but retain ten of its positions. The purpose of these positions is to ensure that proposed technology projects are a good investment of state resources before project funding is included in the Governor's Budget.

Because the DOF has retained a measure of state information technology oversight due to its budget responsibility, departments are having to send information technology-related documents to both the DOIT and the DOF. The respective roles of the DOIT and the DOF regarding the review and approval of these documents are not clear to many departments. We expect that the two departments' information technology oversight roles will be clarified as the new CIO organizes and staffs the DOIT. Such clarification is important in order to facilitate the implementation of effective information technology systems.

Given the considerable effort on the Legislature's part dealing with information technology issues over the past two years, and the enactment of Chapter 508, we recommend that the CIO advise the Legislature at budget hearings as to the department's progress in fulfilling its responsibilities, including pending reporting requirements, staffing the new department, and clarifying the respective roles of the DOIT and the DOF regarding state information technology projects. In addition, the CIO should point out any barriers which he believes may impede the DOIT from achieving the success both the adminstration and the Legislature desire.

Legislature Not Being Kept Apprised Of Information Technology Projects

We recommend that the Legislature adopt supplemental report language requiring that the Department of Information Technology, in coordination with the Department of Finance, ensure that various notifications to the Legislature regarding information technology projects, which were required prior to the creation of the department, remain in the State Administrative Manual.

Notification Requirements Fall Between the Cracks. The State Administrative Manual (SAM) has for years required that the Legislature receive timely notification regarding new and modified information technology projects. These notifications have served to keep the Legislature apprised of significant developments in the state's uses of information technology. Since the transfer of project oversight authority from the DOF to the DOIT, there have been a number of instances where the Legislature has not been advised of new or modified projects. Part of the problem may be the lack of clarification of the respective roles of the DOIT and the DOF, as discussed above. The problem may also be due to the relative newness of the new oversight authority, and the limited number of positions which have been filled in that organization.

The DOIT has advised us that it is in the process of revising the SAM to reflect the transfer of information technology oversight responsibilities, and will in the meantime ensure that all required notifications are provided to the Legislature. Since it is not clear as to how the SAM will be revised with respect to notifications to the Legislature, we recommend that the Legislature adopt the following supplemental report language:

Challenges and Opportunities

We recommend that in reporting to the Legislature in response to current statutory reporting requirements, the Department of Information Technology specifically address the following activities: (1) the use of independent verification and validation experts to assure the success of information technology projects, (2) conversion of state computer programs to accommodate the year 2000, and (3) the state's use of the Internet.

The DOIT is required to submit specific reports to the Legislature regarding its efforts to implement Chapter 508. The first report, due July 1, 1996, is a report of progress in complying with the provisions of the new law. We assume that the report will identify initiatives undertaken by the DOIT. We discuss below several issues which we encourage the DOIT to address in the July report.

Assuring the Success of Information Technology Projects.Among the recommendations contained in the 1994 reports was the recommendation to establish criteria to determine which information technology projects required outside assistance, and in such cases, hire experts to ensure that proposed information technology solutions are feasible and that the project is ultimately successful. The expertise contracted for in this type of work has been typically referred to as "quality assurance." A specific type of quality assurance--"independent verification and validation (IV&V),"--has received some interest of late because it uses specific methodologies developed to ensure the success of highly critical defense projects. At the state level, the California Department of Corrections (CDC) is currently using an IV&V contractor to assist it and the prime contractor who was hired to develop and implement the CDC's flagship project--the Correctional Management Information System (CMIS). To the extent that the use of such experts results in more effective system implementations, the use should be made mandatory for complex projects or projects initiated by departments with little information technology experience. Given that the costs of information technology projects currently under development easily exceed $1 billion statewide, the DOIT should address specific plans for assuring project success through the use of outside qualified experts.

Converting Programs for the Year 2000. Many public and private sector computer programs were written in such a manner that they are unable to accommodate dates beyond December 31, 1999. Because many of the state's programs must deal with dates in the future, some departments have already had to temporarily modify existing programs in order to perform current work. The conversion cost is high for a number of reasons, primarily because of the complexities of finding the date and date calculations in the millions of lines of code in the state's computer programs, and because of the need for testing corrective changes. We believe the total state cost could exceed $50 million, based on estimates prepared by some of the departments which are addressing this need. Given the complexity of the issue, and the desirability of having some standard approaches and sharing conversion tools and methodologies, it is important that central oversight and guidance be provided. In that regard, we believe that the DOIT has taken positive steps to focus some attention on this matter. How the issue will ultimately be handled and funded remains an open question. The DOIT should address this issue in the July report.

Internet Usage Explodes. Like private corporations and other public organizations, state government has joined the rush to exploit the capability of the Internet to provide access to government information, as well as to access information which will assist government. Most of state government's Internet messages pass through the Stephen P. Teale Data Center, which is the state's link to an outside company providing, for a fee, access to the Internet. Given the increase in Internet traffic, the data center will have to consider upgrading its equipment to accommodate the traffic and maintain an adequate response time. Moreover, the companies which provide the Internet's communications "backbone" and those which provide access (for a fee) to the Internet will also have to upgrade their equipment in order to handle the phenomenal growth which the Internet is experiencing.

Other than paying the fee to gain access to the Internet, there are currently no direct charges for its use; however, given the impending need to upgrade equipment at all layers of the Internet, including the Teale Data Center, there are potential cost implications. For this reason, the DOIT should address Internet usage in its pending report.

Method of Funding the Department of Information Technology Is Inequitable

We recommend that the Department of Information Technology propose to the Legislature at budget hearings a more equitable method of funding the department's operations.

In the current and budget years, the DOIT's funding is being provided on an almost equal share basis by the General Fund, the Stephen P. Teale Data Center and the Health and Welfare Agency Data Center. The rationale for this method of funding appears to be twofold: (1) spread the cost of the services among those departments which use the data centers for information technology services and (2) minimize the use of new funds by redirecting existing funds from within the data centers.

This funding method is, however, inherently inequitable to the data centers and their client departments. This is because it excludes a large number of departments which have major information technology programs, and presumably receive services from the DOIT but make relatively limited use of the two data centers, thereby contributing little or nothing to their support. Figure 14 illustrates this inequity by comparing the approximate information technology expenditures for the two data centers and selected other departments for the 1994-95 fiscal year. As can be seen in this display, many departments with substantial information technology expenditures pay relatively little, or nothing, to the Teale or Health and Welfare data centers.

Figure 14
Information Technology Expenditures
(In Millions)
Department 1994-95
Paid to
Paid to Tealec
Corrections $34 -- $5
Employment Development 102 $36 --
Equalization 23 -- 3
Franchise Tax Board 68 -- --d
Health Services 138 17 --d
Health & Welfare Agency Data Center 101 NA --
Highway Patrol 45 -- --
Justice 33 -- --d
Motor Vehicles 64 -- 17
Social Services 113 2 --d
Stephen P. Teale Data Center 77 -- NA
Transportation 45 -- 12
Water Resources 29 -- --d
a Source: Senate Select Committee on Information Technology in State Governments.
b Health & Welfare Agency Data Center.
c Stephen P. Teale Data Center.
d Less than $100,000.

For this reason, we recommend that the DOIT provide the Legislature, at the time of budget hearings, with a more equitable method of funding the department's operations. For example, the administration could use a pro rata model to fund the department, assessing each agency a share based on its annual information technology expenditures. Another option would be direct billing of departments based on the amount of time DOIT staff expend related to specific departmental projects. Alternatively, the pro rata charge and direct billing methods could be combined to provide a more equitable billing approach.

In our analyses of the Teale and Health and Welfare data centers later in this chapter we also point out that the proposed method is inequitable and recommend that the funds budgeted for support of DOIT be deleted.

Office of Emergency Services (0690)

The Office of Emergency Services (OES) coordinates emergency activities necessary to save lives and reduce losses from disasters. The OES further acts as the state's conduit for federal assistance related to recovery from disasters.

The budget proposes $893 million in total expenditures in 1996-97. This is an increase of $34.3 million, or 4 percent, over estimated current-year expenditures.

Support Budget.Of the OES's total $893 million budget, $75.3 million is for direct support of the office. This includes $28.8 million from the General Fund, $38.7 million from federal funds, and the remainder ($7.8 million) from various other funds and reimbursements. The amount proposed for support is approximately $14.7 million, or 24 percent, more than estimated current-year expenditures. When compared to actual 1993-94 expenditures of $35 million, the proposed support budget reflects an increase of $40 million, or 114 percent, over the course of three fiscal years.

Local Assistance Budget.In addition to support costs, the budget includes $818 million for local assistance to pay claims from previous disasters. This is $19.6 million, or 2.5 percent, more than estimated current-year expenditures for local assistance. The proposed local assistance expenditures for the budget year include $729 million from federal funds, $86.9 million from the General Fund, and $1.8 million from the Nuclear Planning Assessment Special Account.

Proposed Budget Should Be Viewed as Very Rough Estimate.In recent years, actual expenditures by the OES have differed substantially from the amounts originally proposed in the Governor's Budget, as shown in Figure 15. This variation between proposed and actual expenditures largely has been due to the costs of unanticipated major disasters. Because the state's practice has not been to budget in advance for unanticipated disasters, some of the variation in Figure 15 is due to budgeting funds for disaster assistance aftera disaster has occurred. However, part of the variation is also the result of the inability to project with reasonable accuracy the number of claims that the OES will process following a disaster, and the amount which will be awarded for approved claims. Consequently, the level of funding requested for the OES in the budget year should be viewed as a very rough estimate which may bear little resemblance to what the OES will actually spend in 1996-97.

Audit Report May Facilitate Budget Assessment

We withhold recommendation on $50.7 million and 558 personnel-years for departmental operations, and $51.9 million proposed for the state's share of local agency recovery costs associated with past disasters, pending review of an audit of the Office of Emergency Services by the Bureau of State Audits, as well as additional information from the office justifying the proposed budget.

In our Analysis of the 1995-96 Budget Bill, we noted that the OES was experiencing difficulties coping with the substantial growth in its organization which had occurred as the result of a rapid series of major state disasters. We cited a number of concerns, including a lack of adequate information with which to evaluate the department's annual budget request. To help correct this situation, we recommended a comprehensive fiscal and performance review of the OES. The review was to be conducted by the Bureau of State Audits (BSA) in order to develop recommendations which, if implemented, would improve the office's administrative effectiveness.

Legislature Reduces Budget, Orders Audit.In response to this recommendation, the Legislature provided only nine-month funding for 340 requested positions, and adopted supplemental report language requiring the recommended audit. The audit report was released on January 31, 1996; however, we did not have sufficient time to review it in preparing this analysis.

Budget Includes Major Outlays for Positions and Disaster Payments.The proposed budget includes $50.7 million and 558 personnel-years for six specific areas of activity. According to the budget, the bulk of these funds and positions (approximately $48 million and 512 personnel-years) are justified on the basis of workload related to the 1995 winter storms and other recent disasters. Although the proposed funding level is identified in the Governor's Budget as an increasein the budget year, many of the positions are, in fact, current limited-term positions which are proposed for continuation in the budget year. In addition to this staffing request, the budget also proposes $51.9 million to pay local agencies the state's share of the cost of recovery from various disasters.

Lack of Information.At the time this analysis was prepared, the OES had presented the Legislature with information supporting only relatively minor budget changes. Thus, the budget, as presented, was not accompanied with sufficient detail to justify major portions of the proposed spending. Due to this lack of information and because the findings and recommendations of the BSA's audit may have a bearing on the proposed budget, we withhold recommendation on $50.7 million and 558 personnel-years for departmental operations, and $51.9 million proposed for the state's share of various local disaster recovery efforts, pending our review of the audit report and additional budget justification from the OES.

Legislature Should Review Method of Allocating Hazard Mitigation Funds

We recommend that the Office of Emergency Services advise the Legislature, during budget hearings, as to its proposal for allocating funds available for seismic hazard mitigation to public agencies, its plans to expand the number of public agencies receiving such funds, and its state statutory authority for allocating these funds. We further recommend that the Legislature specifically insure that the allocations made by the office are consistent with the Legislature's priorities.

Funds for Mitigation of Seismic Hazards.The OES, through the Hazard Mitigation Grant Program (HMGP), allocates funds for the mitigation of seismic hazards in public facilities. Funding is provided on a matching funds basis, with the federal government providing 75 percent and applicants providing 25 percent. According to the OES, federal funds available through the HMGP as the result of the 1994 Northridge earthquake could be approximately $650 million. These funds can be used for mitigation projects in Los Angeles, Orange, and Ventura Counties. The OES established the following priorities for allocating these funds:

According to the OES, requests from 63 school districts to retrofit or replace ceilings and light fixtures, at a total cost of $142 million, have been recommended for approval by the Federal Emergency Management Authority (FEMA). In addition, the OES has recommended $9.5 million to relocate a school to a safer school site, and $29.7 million for seismic studies and mapping, of which $12.5 million has already been approved by the FEMA.

Current Practice Precludes Legislature's Involvement in Priority Setting. According to the OES, it decides how to allocate federal HMGP funds because under federal regulations the state has the authority to make such allocations, and in turn the state's administrative plan delegates these decisions to the Director of the OES. This process does not, however, provide the Legislature an opportunity to ensure that the allocations made by the OES are consistent with the Legislature'spriorities regarding hazard mitigation. Moreover, the OES did not identify a state statutory authority for making the HMGP allocations.

The Legislature may well agree that funding for K-14 schools should be the highest priority, but may not agree with other priorities established by the administration, or with the definition of categories eligible for the HMGP funds. For example, the 1996-97 Governor's Budget includes $21.8 million to fund four seismic retrofit projects at the University of California, Los Angeles, from proposed general obligation bonds. The Legislature could decide that these projects should be considered for the HGMP funding, thus reducing the state's need for bond funds.

In our judgment, it is important that funds available to the state for hazard mitigation, a portion of which are state matching funds, be allocated in a manner that is consistent with the Legislature's priorities. For this reason, we recommend that the OES advise the Legislature, during the budget hearings, as to its methodology for allocating hazard mitigation grant funds to public agencies, its plans for expanding the number of public agencies receiving such funds, and its state statutory authority for allocating these funds. We will be prepared to advise the Legislature as to courses of action it may wish to consider to make its preferences known for the expenditure of the HMGP funds, depending on the explanation and plans provided at the time by the OES. Such actions may include appropriating the HMGP funds in the Budget Bill, or modifying provisions of law to provide specific legislative direction regarding use of the funds.

State Controller (0840)

The State Controller is responsible for (1) the receipt and disbursement of public funds, (2) reporting on the financial condition of the state and local governments, (3) administering certain tax laws and collecting amounts due the state, and (4) enforcing unclaimed property laws. The Controller is also a member of various boards and commissions, including the Board of Equalization, the Franchise Tax Board, the Board of Control, the Commission on State Mandates, the State Lands Commission, the Pooled Money Investment Board, and assorted bond finance committees.

The Governor's Budget proposes expenditures of $104 million ($61.9 million from the General Fund) to support the activities of the State Controller in 1996-97. This amount is virtually the same level as estimated current-year expenditures.

Implementing the Performance Audit

We recommend that the State Controller advise the Legislature, during budget hearings, as to the savings and performance improvements which have occurred to date, as well as the lessons learned, from the performance audit of her office which was reported in May 1995.

In early 1995, the Controller awarded a $394,000 contract to a private consulting firm to conduct a comprehensive performance audit of the operations of the State Controller's Office. According to the consultant's final report, which was issued in May 1995, the audit was intended to " . . . provide a bold and innovative assessment, with findings and recommendations that would immediately improve the performance of the office, and thus of California state government." The report identifies a number of significant deficiencies in the office, ranging from organizational structure to obsolete computer applications, and makes numerous specific recommendations to remedy the deficiencies and improve the office's effectiveness. According to the report, implementation of 13 specific recommendations would allow the Controller to eliminate 154 positions and save $27 million over a five-year period. The report identified specific achievable savings for each of the five years.

Immediate Budget Reduction Taken.The Controller, in response to the consultant's report, requested during the budget hearings last year that the Legislature reduce the 1995-96 proposed budget by $2.9 million, the amount recommended by the consultant as first-year achievable savings. The Controller also requested the elimination of 24.5 positions from the baseline budget, a little less than half the positions the consultant advised could be eliminated in the first year. These requests were approved by the Legislature and the Governor in the 1995 Budget Act.

Of the initial year savings of $2.9 million, $2 million reflects a one-time savings in postage. The remainder was achieved by eliminating 24.5 positions. According to the Controller's Office, savings of $4.5 million--the second-year amount recommended by the consultant--will be achieved in 1996-97 primarily through the elimination of additional positions that will be proposed in a Department of Finance (DOF) letter. This would result in a total reduction of 98.6 positions over the years 1995-96 and 1996-97. This reduction would be approximately two-thirds of the 154 position reduction the consultant believed achievable by the end of a two-year period.

Value of Performance Reviews.We believe that the Controller's actions to identify ways to improve the performance of the office through the use of a performance audit are commendable, and that many other departments would benefit from a comprehensive review of their performance. The Legislature has already indicated its interest in such reviews through passage of the Strategic Planning and Performance Review Act (Ch 779/94 [AB 2711, V. Brown]). That measure requires the DOF to recommend, by March 1 of each year, beginning in 1996, a plan for conducting performance reviews of state agencies that have completed strategic plans. We believe that performance reviews, properly conducted, can result in both savings and improved performance; however, we believe it is important to understand the limitations of such reviews and also the risks inherent in their use. In that regard, the Controller's recent performance audit can serve as a useful case study.

Not All Reductions Tied to Performance Improvement. While reductions to the Controller's budget have been made consistent with the auditor's recommendations, (with the exception of the total recommended position reduction), such reductions do not in of themselves ensure performance improvement. Our analysis of the reductions made in the current year and those proposed for the budget year indicates that several of the reductions are not tied to improving the performance of the Controller's operations. For example, in the current year the $2 million of postage savings is a one-time savings, and we have been advised that the Controller will request the restoration of these funds for 1996-97. (The Controller indicates that a like amount of savings will be identified in others parts of her budget for 1996-97.) In addition, $501,000 counted toward meeting the cost reduction goal is in fact a budget change proposal made for 1995-96 which was subsequently withdrawn by the Controller after the Governor's Budget had been introduced. Consequently, a budget proposal which was not pursued is being counted as a savings. In the budget year, $321,000 of the reductions reflect payments no longer made to the Stephen P. Teale Data Center on behalf of certain users of the Controller's personnel and payroll systems because the data center is now billing the users directly. Thus, these savings are not directly attributable to the Controller's operations.

Identifying Permanent and Real Savings.If more performance reviews of state agencies are conducted, we believe that it is important that the Legislature understand how much of the proposed savings are in fact permanent and real. Otherwise, the true efficacy of performance reviews in identifying savings opportunities will be clouded. One-time savings should be clearly identified, and one-time savings that will require reinstatement in a subsequent fiscal year should also be clearly identified. Similarly, budget reductions which result from the elimination of pass-through funds should not be counted as savings. Additionally, it is important that reductions made pursuant to a performance review clearly distinguish between the elimination of excess positions which are vacant and those which can be reduced because of organizational consolidation, workload realignment, or some other efficiency that will in fact improve performance of the organization.

Determining the Feasibility of Performance Audit Recommendations.One of the recommendations made by the initial consultant hired by the Controller was to assess the office's role in maintaining the state's personnel and payroll systems. The consultant advised the Controller that the systems were obsolete and needed to be replaced, which would be a very costly endeavor. Soon after the consultant's report had been made public, the Controller announced her intention to transfer responsibility for these systems to the state personnel agency.

However, a subsequent report by another consultant concluded that transferring the responsibility for the state's personnel and payroll systems to another state agency would not be feasible, and the Controller has since decided to retain responsibility for these systems. We believe this illustrates the value of assessing the feasibility of major recommendations made in performance reviews, particularly where the fiscal and programmatic stakes are high.

How Will Improved Performance Be Validated? While it is important to identify and achieve budget and staffing reductions wherever possible, it is equally important to measure the impact of those reductions on the organization's operations, because that is how performance will ultimately be determined. Validation of performance improvement is difficult given the absence of performance objectives and the means to measure performance. It is not clear the Controller has a mechanism in place to validate the performance improvements.

Analyst's Recommendation.We believe that the Controller deserves credit for initiating a performance review of her office, and for taking steps to implement recommendations made in the consultant's report. We also believe that the experience gained from this effort can be useful to other departments contemplating similar reviews, by helping them to ensure that the reviews are maximally effective. For example, the effort to implement the consultant's report has already demonstrated the importance of validating the feasibility of major recommendations contained in performance reviews.

Both the administration and the Legislature would benefit by understanding clearly the types of savings realized as the result of performance reviews, and the extent to which a department's performance is actually improved. For all these reasons, we recommend that the Controller report to the Legislature, at the budget hearings, on the savings and performance improvements which have occurred to date, as well as the lessons learned from the performance review conducted of her office. Specifically, she should identify:

State Board of Equalization (0860)

The Board of Equalization (BOE) is one of the state's major tax collection agencies. It collects state and local sales and use taxes and a wide variety of business and excise taxes and fees, including those levied on gasoline, diesel fuel, cigarettes, and hazardous wastes. The BOE also oversees the administration of the property tax by county assessors and assesses property owned by public utilities. The BOE is also the final administrative appellate body for personal income and bank and corporate taxes, as well as for the taxes it administers.

The budget proposes expenditures of $297.8 million ($181.6 million General Fund) for the BOE in 1996-97. This total is $10.3 million, or 3.6 percent, more than estimated current-year expenditures. The majority of this increase is attributable to implementation costs of a new computer system for delinquent tax collection ($2.5 million), computer purchases for the audit program ($1.6 million) and merit salary adjustments ($2.2 million).

Augmentation Should Not Be Made for Prior Commitment

We recommend that the Legislature delete the $2.5 million augmentation associated with a contractual obligation the board made in prior years because the board should pay this cost from existing resources. (Reduce Item 0860-001-001 by $1.8 million and Item 0860-501-995 by $700,000.)

The board is requesting an augmentation of $1.8 million from the General Fund and $700,000 from local government reimbursements to make the final payment on an external consultant services contract it entered into in 1994.

Background. The BOE is in the process of moving its data processing systems from an in-house operation to the Stephen P. Teale Data Center. The justification for this effort is that the board would (1) administer its tax programs more effectively, (2) absorb increases in workload more efficiently, and (3) eliminate the costs associated with managing its own mainframe computer. The BOE expects the project to be completed at the end of 1996-97.

In September 1993, the BOE indicated that in-house staff lacked the expertise to complete the migration. It maintained that unless the project cost was increased by $6.2 million to bring in outside consultants, the scope of the project would have to be curtailed and the timetable for completion would have to be pushed back by at least a year. Consequently, the 1994-95 Governor's Budget increased the project cost to keep it within scope and on schedule.

The Legislature approved the $6.2 million General Fund augmentation and added budget language directing the BOE to (1) contract with a private consultant to provide project management expertise and (2) contract for any services the BOE deemed necessary to oversee the management contract to assure a successful project. The BOE received one bid totaling $15.8 million--$9.6 million (155 percent) over the BOE's estimate. The BOE awarded the contract on October 13, 1994, and the consultant began work on November 1, 1994. By awarding this contract, the board committed to an expenditure for which it did not have funding approval.

The BOE had a number of options available to it when the high bid was received. The BOE could have: (1) rebid the proposal with the intent of meeting competitive bidding requirements, thereby reducing the amount of the contract through competition; (2) rebid the proposal after advising the Legislature of the need for an augmentation and why the original cost estimates were significantly underestimated; (3) accept the bid and absorb the cost differential; or (4) delay accepting the bid until the necessary funding was approved by the Legislature. The BOE, however, chose to accept the bid in 1994, redirect funds to pay for $6.4 million of the overrun and seek a $2.5 million augmentation from the Legislature in 1996-97.

By accepting the bid and signing the contract, however, the BOE in effect certified that funds were available to pay for the contract. We do not believe it is a desirable precedent or prudent policy to allow departments to enter into contracts that obligate the Legislature to future appropriations. Consequently, we believe the Legislature should not approve the $2.5 million augmentation to the BOE in the budget year. Instead, the BOE should redirect resources to pay this cost as it did to pay for the other $6.4 million of the cost overrun. Therefore, we recommend that the Legislature reduce Item 0860-001-001 by $1.8 million and Item 0860-501-995 by $700,000.

Facility Plan Requires Further Review

We recommend that the Legislature delete a $411,000 augmentation requested for this project because the board has revised its plan and the augmentation is not needed. (Reduce Item 0860-001-001 by $291,000 and Item 0860-501-995 by $120,000.) In addition, we withhold recommendation on the board's plan to spend $1.4 million for equipment purchases associated with an office consolidation project until the board substantiates the revenue benefits of this level of spending.

The board is proposing to spend $1.8 million in the budget year on a field office consolidation project. The majority of these expenditures are for one-time costs related to new communications systems and modular furniture. Of this amount, $1.4 million is to come from the board's base budget. The budget requests an augmentation of $411,000 for the remainder.

Background. The BOE began implementation of a project during the current year to consolidate and/or relocate about 30 field offices over the next five years at an implementation cost of $7 million. The board indicates that it will pay for half of this cost from within existing resources and anticipated personnel savings from the elimination of supervisory positions, and request future-year General Fund augmentations for the remainder. Over 70 percent ($5 million) of the project cost is for expenditures on modular furniture. The board justifies this level of spending on the basis of tax revenues to be gained.

Modular Furniture in San Francisco Not Needed. After discussions with our office, the board reevaluated its plan and reduced its modular furniture needs for the existing San Francisco office. This office is scheduled to close in two and one-half years--after the board relocates to the new San Francisco State Service Center. As a result, the board has informed us that it will withdraw its request for the $411,000 augmentation in 1996-97. Accordingly, we recommend that the Legislature reduce Item 0860-001-001 by $291,000 and Item 0860-501-995 by $120,000.

Justification for Level of Spending. The board justifies spending $1.4 million from its base budget on the field office project on the basis of revenues to be gained from operational efficiencies and redirection of supervisory staff to audit positions. It is not clear to us, however, what direct revenue gain can be achieved from expenditures on modular furniture and telephone systems. Therefore, we withhold recommendation on the expenditure of $1.4 million from the board's base budget until the board provides further explanation of how the proposed spending is needed to increase revenues.

Museum of Science and Industry (1100)

The California Museum of Science and Industry (CMSI) is an educational, civic, and recreational center located in Los Angeles. The museum also has 26 acres of public parking, which are available for museum visitors as well as patrons of the adjacent coliseum, sports arena, and swimming stadium. These facilities are all located in Exposition Park, which is owned by the state and maintained through the museum.

Associated with the CMSI is the California African-American Museum, established by the Legislature to preserve, collect, and display artifacts of African-American contributions in a wide variety of disciplines.

The budget proposes total expenditures of $7.5 million for the museum for 1996-97. This is about the same amount of expenditures budgeted for the current year. The total includes $5.6 million from the General Fund, $1.7 million from the Exposition Park Improvement Fund, and $232,000 in reimbursements.

Parking Revenue Shortfall TriggersSignificant Cutbacks in Operations

We withhold recommendation on the museum's 1996-97 budget pending receipt and review of revised estimates of revenues to the Exposition Park Improvement Fund, and the museum's plans for layoffs and reductions of operating expenditures in the current and budget year to cover projected revenue losses. We further recommend that the museum report at budget hearings on its recommendations for restructuring the museum to stabilize its finances and possibly reduce its future dependence on the state General Fund.

Parking Fees a Major Revenue Source.Parking lots at Exposition Park have historically been a major source of revenue for the museum. For example, state expenditures for the CMSI totaled about $7.8 million in 1994-95, with $2 million, or about one-fourth, of the total expenditures supported from the Exposition Park Improvement Fund, which is funded primarily with parking lot receipts. A large portion of the parking lot revenues have ordinarily been paid by persons attending sporting events at the adjacent coliseum.

According to museum officials, the relocation of the National Football League Los Angeles Raiders to Oakland, and the subsequent loss of parking fees from football fans, has severely eroded the museum's funding base.

The Governor's Budget assumes that the parking revenues received in the current year will be $480,000 below the amount included in the 1995 Budget Act. The Governor's Budget assumes the $480,000 shortfall would continue during 1996-97.

However, museum officials have advised us that, depending on the results of a recent increase imposed for some museum parking rates, the budget presented to the Legislature may significantly understatethe revenue loss because the rate changes may affect museum attendance and other revenue sources, such as the gift shop and the theater. The shortfall could be revised to as much as $1 million annually. Because museum parking rates changed only recently, museum officials believe they need several more months of actual experience before revising their revenue projections for 1996-97.

Cutbacks in Museum Operations. The Governor's Budget indicates that the museum has responded to the current-year revenue shortfall with a $1.3 million, or 62 percent, reduction in spending for operational expenses and equipment (OE&E). The OE&E cutbacks include reductions in funding for maintenance of museum buildings and facilities, utilities, communications, and other support operations.

The museum has also responded to the shortfall by holding vacant a significant number of its budgeted positions. As of December 1995, more than 30 of the museum's 142 state-funded positions--more than 20 percent of the total--were unfilled. We have been advised that as many as 20 additional staff members could be laid off during the current year to help cover the museum's funding shortfall.

The Governor's Budget proposes essentially to carry forward the reductions in OE&E expenditures into the budget year. However, the budget proposal presented to the Legislature assumes no change in staffing levels and thus does not reflect the significant number of vacancies or the expected layoffs.

1996-97 Budget Plan Needs Revision.Given the loss of football-generated parking revenues, we believe that the museum is taking significant and appropriate steps to ensure that its expenditures remain within its available revenues during the current fiscal year. We believe, however, that these changes and the potential for more reductions in revenues to the Exposition Park Improvement Fund should be factored into the proposed 1996-97 budget. Thus, we withhold recommendation on the proposal, pending revised parking revenue estimates and expenditure levels for staffing and OE&E that the museum could support within its available funding.

Museum Could Be Restructured.Because of the ongoing and severe revenue shortfall, museum officials are reexamining the museum's structure as a state agency and its relationship with the California Museum Foundation. The foundation, an auxiliary nonprofit organization funded with private donations, has been providing an ever-increasing share of financial and staff support for museum operations. The $9 million provided by the foundation in 1995-96 is expected to almost double to $16.8 million in 1996-97. The expansion of the foundation's role is closely tied to a plan to open a new exhibit hall, to be known as the California Science Center, in spring 1997.

Accordingly, we recommend that the museum also report at the time of budget hearings on its recommendations for restructuring the museum, perhaps through its association with the foundation, to stabilize museum finances and possibly reduce its future dependence on the state General Fund.

Franchise Tax Board (1730)

The Franchise Tax Board (FTB) is one of the state's major tax collecting agencies. The FTB's primary responsibility is to administer California's Personal Income Tax and Bank and Corporation Tax. The FTB also administers the Homeowners' and Renters' Assistance programs and the Political Reform Act audit program. In addition, the FTB collects child support and motor vehicle registration delinquencies. The FTB consists of the Director of Finance, the Chair of the State Board of Equalization, and the State Controller. An executive officer is charged with administering the FTB's day-to-day operations, subject to the supervision and direction from the board.

The budget proposes expenditures of $340 million ($325 million General Fund) in the budget year, an increase of $4.3 million, or 1.3 percent, over estimated current-year expenditures. The increase is largely attributable to (1) merit salary increases and price increases ($7.7 million) and (2) legislative changes to employer wage and withholding reporting ($5 million), partially offset by a net reduction in expenditures for the Bank and Corporation Tax computer system ($6.3 million) and the elimination of 31 positions due to the automation of Department of Motor Vehicles bad debt collection ($900,000).

Proposed Contract Amendments Obligate State Funds Without Legislative Authorization

We recommend that the Franchise Tax Board not proceed with proposed amendments to a computer system contract that would obligate the state to pay an additional $5.7 million until the Legislature has reviewed and approved the proposal.

The FTB is entering the fourth year of a six-year project to purchase a new computing system for collection of bank and corporation taxes. When the FTB initiated the project, total expenditures to complete the system were estimated to be $113 million. The FTB, however, has requested the Department of Finance (DOF) to approve an additional $5.7 million in the current year for the project. The Governor's Budget does not include this proposal because the funds to pay for this added cost will not be needed until a future year.

Background. The new system has three components: (1) the Business Entities Tax System (BETS), which is the primary data base for the program; (2) the Collection Account Process System (CAPS) to help increase the FTB 's collection of outstanding assessments; and (3) the Pass-Through-Entity Automated Screening and Support System (PASS) to enhance the FTB's audit and enforcement capabilities.

The payment plan for this project differs from traditional state procurements. The vendors for this system finance all up-front project costs. The FTB repays the vendors as additional tax revenues are realized. Under this plan the vendor for each component receives 75 percent of projected additional annual tax revenues attributable to the new system subject to an overall "cap" on payments. If additional annual tax dollars come in slower than projected, the vendor is paid 75 percent of the actualadditional amount collected, with the unpaid principal plus approximately 9 percent interest carrying over for payment in a subsequent fiscal year. The repayment schedule and cash flow projections show that the project will be paid for by 1998-99. If, however, actual revenues fall below the projected amounts, the plan calls for payments to be extended beyond the projected repayment schedule (up to four years longer) to pay the vendor for any unpaid principal plus interest.

The second and third elements of the project, the CAPS and the PASS, are progressing on schedule and are not anticipated to have any cost overruns. Under the BETS component, however, the FTB is proposing (outside the budget process) an amendment to increase the cost and capabilities beyond the scope of the original BETS contract. Most of these additional costs and capabilities appear to be for enhancements that may be desirable but are not necessary to complete the project as originally approved.

Proposed Amendment. In September 1995 the FTB submitted a Special Project Report addendum to the DOF proposing a $6.2 million amendment to the BETS contract. The FTB subsequently withdrew a $500,000 element of this amendment. The DOF has approved $3.9 million of the requested amount and deferred action on the remaining $1.8 million pending receipt of a separate feasibility study report.

At the time this Analysis was written, the FTB had not signed the $3.9 million contract amendment. It is not clear to us how the FTB can sign an amendment obligating state funds for which there is no expenditure authority. Therefore, we recommend that, prior to signing any contract amendments, the FTB present to the Legislature, at budget hearings, the proposal along with necessary data to clearly delineate the need for and expected annual revenues from each of the requested additional capabilities. To proceed otherwise places the state in the untenable position of having signed a contract and having the vendor undertake the agreed to work without first receiving the Legislature's approval to spend the state's money. This represents a highly undesirable administrative procedure that undermines the Legislature's constitutional responsibility to appropriate state revenues.

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