S&P Global Ratings RatingsDirect Summary: Menahga, Minnesota; General Obligation Primary Credit Analyst: Joseph Voda, Chicago + 1 312 233 7094; joseph vodsiak@spelobel.com ‘Secondary Contact: Emma Drllas, Madison (1) 312-233-7132; emma drilias@spglcbal.com Table Of Contents Credit Highlights Outlook Credit Opinion Related Research WWW. STANDARDENDPOORS.COM/RATINGSDIRECT APRIL 10,2024 1Summary: Menahga, Minnesota; General Obligation Menshga GO tds ong Tem Rating BBr/Stable current Menahga GO imp bnds ser 20198 dtd 08/21/2013 due 02/01/2021 2029 ong Tor Rating BBY/Siable Curent Credit Highlights + S&P Global Ratings' long-term rating on the City of Menahga, Minn.'s general obligation (GO) bonds is ‘BB+’ + ‘The outlook is stable, Security ‘The citys debt is secured by its GO and fullith-and-credit pledge, which benefits from an unlimited ad valorem tax. Several ofthe city’s bonds have addtional revenue pledged, but we rate them all to the GO pledge Credit overview In fiscal 2022, Menahga was able to add to fund balance by selling equipment. Officials report that unaudited fiscal 2028 figures show no change to the city's cash position, However, the city council is looking into potentially making transfers from the water and sewer funds to cover administrative costs that were not included in the budget when the 2028 audit is complete. We understand that Menahga had accumulated a backlog of deferred capital needs and this ‘was a key part of the reason its financial profile deteriorated. Management reports that the city is looking to address ‘additional capital needs but is prioritizing stabilizing staff turnover and improving finances frst. ‘Although the city has been able to find an experienced interim candidate to fill the deputy clerk position and there has been stability, albeit on an interim basis, in the clerk/treasurer position. The current deputy clerk retired from the position in 2019 but has returned to help the city. Both interim members ofthe city's financial management team intend to remain with the city to help train future hires once the city finds qualified staff. However, the city administrator position is vacant. Minnesota does not require a city of Menahge's size to employ a city administrator, ‘but historically the city has had one. Officials report thatthe politcal discord leading to turnover in the past has settled and there is a solid working relationship between council and management. They state that the current labor market is ‘making it difficult to find qualified staff. Until the city has permanent management and financial oversight officials, our negative management adjustments for frequent turnover and lack of relevant skills will be unchanged. We not only ‘want to see permanent staff brought in, but for them to demonstrate the ability to effectively manage the city's finances, before we remove such adjustments, With these adjustments, the rating remains capped at 'BB+' under our GO criteria, ‘The city’s fund balance remains at a very low nominal level and even if all the proposed transfers in fiscal 2023 and the {We STANDARDANOFOORS COM RATINGSDIECT APRIL 10,2024 2Summary: Menahga, Minnesota: General Obligation 2024 budgeted increase to reserves happen, we expect it will remain low on a nominal basis over the medium term. ‘The city has reserves in its utilities funds to cover unexpected expenses; however, we believe the low nominal general fund balance gives Menahga limited ability to address capital needs or other costs should they unexpectedly arise. We also view the city's capacity to cut spending as limited, as we believe most nonessential items have already been cut from the budget; this will continue to place pressure on operations in the medium-to-long term. "The rating further reflects our view of Menahga’s: + Very weak management, with a vulnerable Financial Management Assessment (FMA), reflecting a lack of permanent staff with relevant skills to manage the city's finances due to significant turnover and instability. The city benefits from a strong institutional framework score; + Very weak budgetary performance, with expenditures continuing to exceed revenue net of one-time capital sales, Which have bolstered reserves to strong levels after factoring in our view that the city has limited flexibility to enact additional budgetary cuts. However, it does have very strong liquidity, which remains a key credit strength supporting its ereditworthiness; + Very weak economy, with a stagnant population and low incomes; and + Very weak debt and contingent liability profil that we believe will remain managed, as most ofthe city’s debt is payable from a component nursing home that is not subject to Menahga’s financial management limitations and the bond resolutions require the county to levy forthe debt in the event the city does not. Environmental, social, and governance As reflected in our vulnerable FMA, Menahga lacks a culture of risk management and oversight that has led to the deterioration in its finances, reflecting outsize governance risk when compared with that of peers. Ifthe city's actions to improve internal controls are effective and maintained, our view of governance risk could improve from elevated. We also consider social risks marginally elevated, as stagnant regional population trends, an above-average age dependeney ratio, and low incomes could make raising additional revenue difficult. Finally, we view Menahga’s, environmental factors as neutral in our analysis, Outlook ‘The stable outlook is based on our expectation that the city's financial position is unlikely to deteriorate in the near term, considering the decision to transfer money into the general fund to increase reserves. Downside scenario If improved financial reporting and record keeping do not continue when interim staff are replaced, or further deterioration of the city's financial profile occurs, a negative rating action would be warranted, Upside scenario If Menahga sustains effective internal controls demonstrates that its officials have relevant skills and information to ‘manage its finances, leading to improvements to the financial profil, we could raise the rating. \WWwW_STANDARDANDPODRS COM/RATINGSDIRECT APRIL 10, 2024 3Summary: Menabga, Minnesota; General Obligation Credit Opinion Very weak management, reflecting internal control improvements, but it's uncertain if these will persist when interim staff are replaced Menahga has brought in a retired, former deputy clerk, who appears to have helped improve bookkeeping and record ‘management. However, currently the management team is filled primarily with interim officials, We understand that Minnesota statutes do not require a city of Menahga's size to employ a city administrator, however, the city has historically had an administrator and that position is currently vacant. This supports our view that frequent turnover is persistent. We will monitor whether the recent improvements to bookkeeping and record management continue. In the meantime, we view Menahga's management as very weak, based on the vulnerable practices and policies and qualitative negative adjustments for frequent management turnover. In addition to the city's lacking practices and policies we assess under our FMA criteria the auditor has also identified significant deficiencies in the city's internal controls. We understand that the city has implemented some internal controls but with its limited staffing, we expect some internal control deficiencies will persist. ‘The vulnerable FMA reflects the city's recent operating results relying on the sale of equipment to maintain balance. City council is receiving revenue and expenditure reports that we believe are more accurate due to the work the interim staff have done to correct inaccuracies in past reporting and efforts to keep more accurate financial reports. ‘Menahga lacks a long-term financial plan, a debt management policy, an investment policy, and a fund balance. However, council has agreed to a target of $500,000 in reserves. Menahga has policies and practices in place, some of, which are required by its cyber insurance provider, to help mitigate its exposure to cyber security risks. Should tumover stabilize and demonstrate continued improvement to budgetary assumptions and budget monitoring, our view of the city's FMA and overall creditworthiness could improve. Very weak operating results and nominally thin reserves but liquidity remains very strong ‘Operating results in 2023 contained some material changes relative to the budget because of staffing transitions and higher-than-anticipated permit revenue, Officials report that the cash position will be almost unchanged at fiscal year-end 2023 from fiscal year-end 2022. We understand that tight spending controls are in place and that capital expenditures were paid from a combination of federal pandemic aid, enterprise funds, and other funds that were previously set aside as restricted, Officials report that city council is discussing transferring $90,000 to the general fund to make progress on the reserve goal and the 2024 budget has been structured with a $53,000 increase to reserves, However, the fiscal 2022 budget also was adopted with a $60,000 increase in reserves from a structurally balanced ‘budget and the increase to reserves was instead driven by transfers and the sale of equipment, While the city has updated equipment in the past few years and addressed other capital needs, we still believe the possibilty of unforeseen capital expenditures arising is above average, given the lack of continuity in staffing and history of unforeseen capital costs arising in recent years. On the other hand, officials report that the past lawsuits facing the city ended favorably forthe city and that there are no lawsuits or other contingent liabilities ongoing at this time. In fiscal 2022, the city ended with a deficit general fund result but was able to add to fund balance by selling some used vehicles and a grader. The general fund also had some interfund borrowing from the capital projects fund; in addition, 1 debt service fund for retired debt was closed and the excess money was transferred to the general fund, With the {WWW STANDARDENOPOORS COM /RATINGSDIECT APRIL 10, 2024 4Sumunary: Menahga, Minnesota; General Obligation transfer and the sale of equipment, Menahga was able to add to its unassigned fund balance. The interim deputy clerk reviewed and corrected misstatements in the financial records back to 2021 and these adjustments were reflected in the 2022 audit. Considering the clerk's experience, we expect fewer material restatements to audited figures going. forward. Following the sale of equipment and transfers in 2022, available reserves increased to $251,000 from $60,000 at fiscal year-end 2020 when including the available cash in the liquor store fund. This improved our assessment of flexibility to sttong from very weak, The flexibility assessment also reflects our view thatthe city has limited capacity to cut spending because it has already cut most nonessential budget items. Although available reserves are thin on a nominal basis, Menahga had 2.3 million in cash and investments as of Dec. 31, 2022, which results in a very strong liquidity profile, and isa key positive credit factor. If liquidity weakens, it would further pressure the citys general creditworthiness Very weak economy, reflecting a stagnant population with low incomes ‘The city’s tax base is primarily residential with some commercial/industral properties. Many residents commute north to Park Rapids or south to Wadena for employment. Menahga's largest employers include the local school district (169 employees); Greenwood Connections nursing home (110); and Blueberry Pines Golf Club (60). The unemployment rate for Wadena County has historically had some cyclicality, with spikes in the winter, and annual unemployment rates typically are slightly above US. and state rates. In the past 10 years, the population in Wadena County has been relatively stagnant, and available projections indicate this will continue over the next 10. In addition, the county has a slightly elevated age dependency ratio of 45%. Officials report that the city has recently seen some population growth and that the median age of Menahga is slightly lower than that of Wadena, We will continue to monitor such developments for signs of improving demographics. However, we currently believe the combination of an above-average percentage of the population not being of prime working age and stagnant population growth limits the county's economic growth prospects, although the demographic figures are not weak enough to warrant a negative adjustment under our criteria. The county's demographic trends are not favorable, and we believe Menahga's lack of capital planning and maintenance of infrastructure and service reductions increase the probability of exacerbating these trends at the local level. We expect overall economic indicators will remain very weak in the near-to-medium term. ‘Very weak debt profile stemming from high carrying charges ‘The debt profile has been adjusted to exclude GO debt that is partially self-supporting from the city's water and sewer ‘enterprise funds and GO debt issued for the component unit, Greenwood Connections nursing home. Net of the self-supported debt, Menahga has $2.0 million in debt obligations outstanding. The nursing home's audited financial statements show that before depreciation and debt service, debt service coverage was more than 3.0x in the past three years. ‘The 2023 debt service payments were made. If the nursing home were unable to cover the debt service, the city would be obligated to make the payments, Maximum annual debt service on the GO nursing home debt occurs in 2026 and is ‘an estimated $398,000, which would be more than 15% of the city's total governmental fund revenue. Ifthe city is required to support the nursing home debt service, we believe there is a high probability that its liquidity and overall, \WeW STANDARDANDFOOS COM ATINGSDIRECT APRIL 10, 2024 5Summary: Menabga, Minnesota; General Obligation credit profile would weaken. We expect the nursing home will continue to service this debt and considering the financial figures reported in its audits showing strong coverage in the past three years, we believe the city's debt liabilities are affordable Pension and other postemployment benefits (OPEB) liabilities: ‘Menahga’s pension contributions are manageable, and the city has routinely made its full statutorily required pension contributions. However, given its very weak financial profile, we believe that Menahga's pension liabilities represent a medium-term credit pressure that is higher than that of peers in the state because the city has less capacity to absorb higher costs without pressuring operations, ‘Menahga participates in the following plans: ‘+ General Employees Retirement Fund (GERF): 87.0% funded (as of June 30, 2022) using a 6.5% assumed rate of return, with an estimated proportionate share of the plan's net pension liability (NPL) of $428,000. ‘+ Minnesota Police and Fire Fund (PEPFF): 70.5% funded (June 30, 2022) using a §.4% discount rate, with a proportionate share of the plan's NPL. of $2.5 million. + The city also participates in the Menahga Firefighters Relief Assn. plan, a single-employer pension plan. It received $17,256 in on-behalf payments from the State of Minnesota in fiscal 2022 for the plan. The plan was fully funded with a net pension asset of $201,872 as of Dec. 31, 2021. ‘The city does not have any direct OPEB costs, but it does pay a premium for health insurance as a result of retirees being able to remain on the active health care plan. This results in an implicit rate subsidy, as retirees are responsible for paying their full premiums. The implicit liability was minimal and not included in the audit. In 2022, total contributions to GERF and PEPFF were 80% and 66% of our minimum funding progress metric, respectively. For more information regarding our views on these plans, see "Pension Spotlight: Minnesota" published ‘Aug. 10, 2023, on RatingsDirect. Costs are currently only a modest share of total spending, However, we believe the city would have more difficulty than Minnesota peers incorporating an increase ino its budget. aioe Most recent Very weak economy Projected per capita BBI% of US @ Marit value per capt (9) 39308 Population 14138? __—1406 ‘County unemroymen ae) ai Markt va (50) wa07 Th 7086 “Ten largest taxpayers % of taxable vue 166 Very Weak budgetary performance Operating nd esl % of expenditures 9) a2) Teal goveramentl nd rel of expenditures ea ao) (tay WWW STANDAROANDPOORS COMVRATINGSDIECT APRIL 10, 2024 6Summary: Menabga, Minnesota; General Obligation oe ‘Mostrecent Historical information 202220212020 Strong budgetary flexibility “aallable reserves h of operating expenditures 198 ar aT "Total avaiable reserves ($000) - 252 oo Very strong liquidity ‘Total government cash of governmental fund expenditures a8 ee “Total government cash ¥ af governmental fund debt sevice sai ‘Very weak management ‘Financial Management Assessment Valnerable Very weak debt & long-term liabilities ‘Debt service % of governmental fund expenditures 345 ut 290 [Net direct debt % of governmental fund revenue 11570 ‘Overall net debt of market valve Tat ikea debt 10-year amortization (4) 70 ‘Required pension contbution% of gaveramental fund expenditures 32 ‘OPEB actual contribution 96 of governmental and expenditares| m Strong institutional framework "EBE-Eflecive buying Income. OPEB-Other postemplayment benefits. Datapoints and ratios may reflect analytical adjustments Related Research + Credit Conditions North America Q2 2024: Soft Landing, Lurking Risks, March 27, 2024 + ‘Through The ESG Lens 3.0: The Intersection Of ESG Credit Factors And US. Public Finance Credit Factors, March 2, 2022 + Criteria Guidance: Assessing US, Public Finance Pension And Other Postemployment Obligations For GO Debt, Local Government GO Ratings, And State Ratings, Oct. 7, 2019 ‘+ S&P Public Finance Local GO Criteria: How We Adjust Data For Analytic Consistency, Sept. 12, 2013 ‘This report does not constitute a rating action. Certain terms used in this report, particularly certain adjectives used to express our View on rating rlovant factors have specific meanings sserbed to them in our entra, and should therefore be readin conjunction with such criteria. 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