Full Text
© 2014 HDR, all rights reserved. August 12, 2019 Setting Cost-Based Utility Rates and Fees Water and Wastewater Rate Study City Council Study Session ---PAGE BREAK--- Purpose of the Presentation Provide an overview of the rate study process Provide an understanding of the rate setting process, terms, and definitions Discussion of financial policies Discuss common rate design goals and objectives Provide an overview and understanding of impact fees 2 ---PAGE BREAK--- Overview of the Presentation Overview of Financial / Rate Setting Policies Introduction to the Rate Setting Process • Establishing revenue (rate) needs • Equitably allocating costs of service • Rate designs to meet policy direction Overview of Impact Fees • Methodology • Legal requirements 3 ---PAGE BREAK--- Based on Generally Accepted Methodologies Defining What is “Generally Accepted”? 4 ---PAGE BREAK--- Policy and Analytical Components in the Development of Cost-Based Rates 5 Rate Design Design cost-based rates for each class of service to meet the revenue needs of the utility, along with any other rate design goals and objectives Cost of Service Analysis Equitably (proportionally) allocates the revenue requirement between the various customer classes of service Revenue Requirement Analysis Compares the revenue of the utility to the expenses to evaluate the level of overall rates Financial/Rate Policies Policies are guidelines to the rate setting process 5 ---PAGE BREAK--- Developing Financial/Rate Setting Policies 6 ---PAGE BREAK--- Financial/Rate Setting Policies • Provides management with clear direction • Provides consistent and logical financial/rate decisions • Provides future Council/staff with the basis or reasoning behind past decisions (documentation) • Helps the City’s customers to better understand the Council’s philosophy • Provides a strong message to the outside financial community (bond ratings) Why Establishing Financial Polices Are An Important Tool • Policy on capital improvement funding from rates • Policy on funding renewal and replacements from rates • Policy on minimum target reserve levels Typical Financial/Rate Setting Policies • Provides financial framework for decision making • Maintains financial viability if followed • Utilize as a capital planning tool • Use as a strategic planning tool • Use as a basis to develop and minimize rates Role of Financial Polices 7 ---PAGE BREAK--- Policy on Capital Improvement Funding From Rates Issue • Types of Capital Improvement Projects (CIP) • Renewal and Replacement, Growth Related, Legally Mandated • City cannot financially fund all CIP from reserves (i.e. savings) • Annual renewal and replacement-type capital projects are generally funded from rates • Growth related projects are funded from impact fees (cash flow timing problem) • Addition of CIP component in the rates improves debt service coverage Policy Recommendation • Establish a clear, financial policy on the rate component to fund CIP from rates • When capital plan has too large of an impact on rates, identify and use alternative funding long-term debt) • Renewal and replacement projects funded from rates on annual basis 8 ---PAGE BREAK--- Policy on Funding Renewal and Replacements from Rates Issue • Renewal and replacement projects are of an on-going nature • A utility should fund from rates an amount for renewal and replacement capital projects; • A simple financial rule is to fund, at a minimum, an amount at least equal to annual depreciation expense • Issue of depreciation expense vs. replacement cost • If possible, targeting an amount greater than annual depreciation expense (e.g. 1.5 times annual depreciation expenses) Policy Recommendation • Establish a policy for on-going (annual) funding of renewal and replacement projects • On-going funding of R&R adequately funded from rates should be, at a minimum, equal to, or greater than, annual depreciation expense 9 ---PAGE BREAK--- Policy on Minimum Target Reserve Levels Issue • City’s current reserve minimum targets are: • Operating Reserves = 30 Days of O&M expenses • Impact Fee Reserves = no required minimum • Capital Improvement Reserve = no required minimum • Emergency Reserve = 30 Days of O&M expenses • Bond Reserves = Based on legal requirements (bond covenants) • Equipment Replacement Plan = City budgets with the five-year equipment replacement plan • There is not currently a written policy on equipment replacement plan reserve Policy Recommendation •Establish a equipment replacement plan reserve based on the average annual replacement plan •Establish the capital improvement reserve to have a target minimum equal to one year’s annual depreciation 10 ---PAGE BREAK--- Financial/Rate Policy Summary Policies are designed to be in the long-term best interests of the City and its customers • Capital improvement funding from rates • Adequate funding of renewal and replacement capital projects (Existing facilities) • Target debt service coverage ratio of 1.30 • Maintaining minimum cash reserves levels Agreement from the Council on the use of the policies as starting point for developing the rate analysis Analysis provides the Council with a full understanding of the potential impacts of these policies 11 ---PAGE BREAK--- Developing the Revenue Requirement Analysis 12 ---PAGE BREAK--- Overview of the Revenue Requirement Analysis • Determines the level of revenue (rate) adjustment necessary Compares the revenues to the expenses to determine the overall adequacy of rates • Typically a five to ten year period Reviews a specific time period • Enterprise fund; must be self supporting • No subsidies between the utilities • Rates need to fully support operational needs Utility is analyzed on a “stand alone” basis • “Generally accepted” method for municipal utilities • The methodology historically used by the City Utilizes the “cash basis” methodology 13 ---PAGE BREAK--- Details of the “Cash Basis” Methodology 14 + Total Capital Projects – Revenue Bonds (Bond Proceeds) – Grants – Customer Contributions (e.g. Impact Fees) = Capital Projects Funded from Rates + O&M Expenses + Taxes/Transfer Payments + Debt Service (P&I) + Capital Projects Funded from Rates = Total Revenue Requirements – Miscellaneous Revenues = Balance Required from Rates (i + Term) Annual Deprec. Exp.) ---PAGE BREAK--- Revenue Requirement Analysis – Key Financial Policy Inputs 15 Meeting Debt Service Coverage Ratios • Bond covenants • Benchmark targets Prudent Funding of Annual Renewal and Replacements • Equal or greater than annual depreciation expense Meeting Ending Reserve Fund Targets • O&M = Number of days • Capital = Avg. Annual Depreciation Proper Use of Growth Related Revenues (Impact Fees) • Growth-related projects or annual debt service Long-Term Financial Sustainability ---PAGE BREAK--- Summary of the Revenue Requirement Developed based on overall utility financial objectives Should be developed and based on “prudent” financial planning criteria Revenue requirement analysis determines adequate funding for the utility to operate on a financially stable basis Reviewed more frequently budget process) to establish appropriate revenue levels 16 ---PAGE BREAK--- Developing the Cost of Service Analysis 17 ---PAGE BREAK--- Cost of Service Analysis – Policy Discussion Equitable allocation of costs • Reflects customer usage and facility requirements Average unit costs • Provides cost-basis for rate structure policy decisions Cost-based rates • Cost-based and equitable rates to meet contracts for service 18 ---PAGE BREAK--- Overview of Cost of Service What is cost of service? • Analysis to equitably allocate the revenue requirement to the various customer classes of service Why cost of service? • Generally accepted as “fair and equitable” • Avoids subsidies • Revenues track costs • Provides an accurate price signal Objectives of cost of service • Determine if subsidies exist • Develop average unit costs 19 ---PAGE BREAK--- Overview of a Water Cost of Service Analysis Commodity Related Capacity Related Customer Related Residential Customers Commercial Customers Residential Commercial - Operations - Billing - Etc. ALLOCATION DISTRIBUTION Total Expenses FUNCTIONALIZATION Residential Residential Commercial Commercial Multi-Family Customers Multi-Family Multi-Family Multi-Family 20 ---PAGE BREAK--- Overview of a Wastewater Cost of Service Analysis Volume Related Strength Related Customer Related Residential Customers Commercial Customers Residential - Operations - Treatment - Laboratory - Billing - Etc. ALLOCATION DISTRIBUTION Total Expenses FUNCTIONALIZATION Residential Residential Commercial Commercial Commercial Multi-Family Multi-Family Multi-Family Multi-Family Customers 21 ---PAGE BREAK--- Summary of the Cost of Service Analysis Reflects customer usage and facility requirements Results in cost-based and equitable rates Provides the City with information for rate structure policy decisions Should be reviewed periodically to establish rate structure/cost relationships 22 ---PAGE BREAK--- Development of Rate Designs 23 ---PAGE BREAK--- Rate Design Analysis – Policy Discussion Rate design goals and objectives Produce sufficient revenues to meet the target revenues of the utility, and each class of service Are cost-based and equitable • Structure vs level • Fixed vs. Variable 24 ---PAGE BREAK--- Rate Structure Goals and Objectives (Adapted from Principles of Public Utility Rates [James Bonbright]) Revenue Attributes • Rates should meet (yield) the total revenue needs (total revenue requirements) • Revenues are stable and predictable (City perspective) • Rates themselves are stable and predictable (Customer perspective) Cost Attributes • Discouraging wasteful use • Rate structure should reflect all costs the City incurs • Rates are fair and equitable between customers • Rates are non- discriminatory and avoid subsidies • Rates structure is flexible to respond to supply and demand Practical Attributes • Rate structure should be simple to understand (customer perspective) • Rate structure should be simple to explain, interpret and administer 25 ---PAGE BREAK--- Rate Structure Terms Defined Structure vs. Level Rate structure is how the customer is charged Rate level is how much revenue is collected Fixed charges Not based on usage a meter charge) Often varies by meter size May include multiple “fixed” charges Variable charges Based on metered consumption Rate can vary based on consumption Commonly charged per CCF or kGal Block/tiered rates A type of variable charge rate structure Rate charged varies over levels of consumption Incentive for conservation or increased usage Block/tier thresholds Level at which different rates apply May vary by class and meter size Send appropriate price signals for usage level 26 ---PAGE BREAK--- Utility Cost Structure - Fixed • Does not vary with sales • Debt service, salaries, etc. • Typically 80-95% of costs - Variable • Varies with water sales • Power, chemicals, etc. • Typically 5 -20% of costs 27 ---PAGE BREAK--- Rate Structure Components – Fixed Charges Fixed Charges • Various names; meter charge, customer charge, minimum charge, etc. • Promotes revenue stability • Recovers customer related costs, plus other “fixed” costs of the system 28 ---PAGE BREAK--- Rate Structure Components – Variable Charges (Continued) Variable Charges Generally based on metered water consumption Typically preferred by customers Four basic types of variable rate structures 29 ---PAGE BREAK--- Variable Rate Structures – The Four Types 0 10 20 30 40 50 60 $/CCF Quantity (CCF) $2.50 $3.60 $3.00 $4.25 0 10 20 30 40 50 60 $/CCF Quantity (CCF) $2.50 $3.60 $3.00 $4.25 Quantity (CCF) $3.00 J F M A M J J A S O N D $/CCF Months $2.50 $3.60 0 10 20 30 40 50 60 $/CCF Quantity (CCF) $3.00 30 Uniform Rate Structure Increasing Block/Tier Rate Structure Seasonal Rate Structure Decreasing Block/Tier Rate Structure ---PAGE BREAK--- What Do Other Utilities Do? Survey of Water Rate Structures Source: AWWA & Raftelis Consultants, Inc. 2016 Water and Wastewater Rate Survey 290 water utilities responding from 44 States and the District of Columbia 31 ---PAGE BREAK--- Overview of the City’s Current Water Rate Structures 32 Residential & Commercial Present Rate Meter charge (per billing cycle) 3/4" $0.80 1" 1.38 1 1/2" 2.68 2" 3.75 3" 14.10 4" 19.88 Administrative charge (per account) $7.50 All Consumption ($/1,000 Gal.) $2.43 > 4" determined at time of connection based upon 15 year replacement life Irrigation Present Rate All Consumption ($/1,000 Gal.) $1.55 No Meter or Admin. Charge Nov. to Apr. Sprinkling All Consumption ($/1,000 Gal.) $1.55 Private Fire Protection Service Connection 2" $24.80 3" 29.25 4" 32.50 6" 40.10 8" 51.00 10" 70.35 ---PAGE BREAK--- Current Water Industry Trends • Impacts of drought and water efficiency • Is this the new level of consumption? Declining Per Capita Consumption • Increases utility’s revenue stability • Minimizes variances in consumption Financial Pressure to Move Towards Higher Fixed Charges • Meet conservation goals • Maintain efficient water use/supply Maintaining a Conservation-Based Rate Structure • Balancing customer impacts through rate design, tiers and pricing Customer Bill Impacts 33 ---PAGE BREAK--- What Do Other Utilities Do? Survey of Wastewater Rate Structures Source: AWWA & Raftelis Consultants, Inc. 2016 Water and Wastewater Rate Survey 214 wastewater utilities responding from 44 States and the District of Columbia 34 ---PAGE BREAK--- Overview of the City’s Current Wastewater Rate Structure * Residential customers are billed based on winter water average (November - February) 35 Present Rates RESIDENTIAL Administrative Charge / Acct $8.44 Volume Charge / 1,000 gallons) $4.78 COMMERCIAL Administrative Charge / Acct $8.44 Volume Charge / 1,000 gallons) $4.78 ---PAGE BREAK--- Current Wastewater Industry Trends • Impacts to wastewater revenues based on water consumption declines Declining per capita consumption • City already bills on a consumption basis • Winter water average for residential • Irrigation meter may be installed Pressure to move towards volumetric billing • Required level of treatment • Aging infrastructure Rate impacts due to regulations and mandates 36 ---PAGE BREAK--- Summary of the Rate Design Process Reflect the findings and conclusions of the revenue requirement and cost of service analyses Meet the goals and objectives of the City Produce sufficient revenues to meet the target revenues of the utility, and each class of service Are cost- based and equitable 37 ---PAGE BREAK--- Development of Impact Fees 38 ---PAGE BREAK--- Overview of Utility Impact Fees 39 Establish the reasonable relationship between system capacity and needs of development and the fee to be imposed Fee required of all new customers desiring water or sewer service or existing customers requesting increased service capacity Cannot exceed the calculated maximum cost Based on System Planning Criteria and cost of existing and future infrastructure • Improvements must be useful life of ten years or more • Improvements be the proportional share of the costs • Can include 5% of total impact fee collected for administration fee • Fee must go through Advisory Committee process Montana Code Annotated Title 7 ---PAGE BREAK--- Impact Fee Calculation 40 • Current assets, bringing them into current day dollars (replacement/cost indices) • Plus the share of future capital related to growth The fee is determined by: Basic Formula: Value of Existing Plant (RC) Growth Related CIP Maximum Allowable Existing and Future ERUs Future ERUs *RC = Existing assets are to current day by ENR-CCI + = Impact Fee ---PAGE BREAK--- Questions/Discussion 41 Financial/Rate Policies Comprehensive Rate Study Impact Fees ---PAGE BREAK--- Schedule for Rate and Impact Fee Update Sept 2019 • Update Rev Requirement/Cost of Service • Review Rate Study with Evergreen • Water/Wastewater Impact Fee Meeting Advisory Committee Kickoff Meeting October 2019 • Impact Fee Advisory Committee Meeting (IFAC) November 2019 • Council Work session- Rate Study Outcome and Rate Design Review • IFAC Meeting January 2020 • Council Work session-Updated Rate Proposal and Impact Fee Update • Public education, advertisements, meetings and participation • IFAC Meeting (if needed) February 2020 • Council Meeting Public Hearings • Rates • Water Impact Fee • Sewer Impact Fee March 2020 • Council Meeting-Proposal of adoption for Rates and Impact Fees