In the prior blogs we talked about how investments in infrastructure helped to build economies and limit public health risk, and that utilities were not spending the needed amounts. The question was why. Data were analyzed for a set of 40 utilities in Florida. 2016 was used as the model year with the 2017 budget and 2016 CAFR. Census data came from 2000, 2010 and estimates for 2017.
Figure 9 shows that the larger utilities have higher amounts of fund balance, while Figure 10 indicates the relationship – utilities with higher net plant asset to replacement value ratios, have higher fund balance to budget ratios. Hence they invest and are healthier, but why?
Rates, and the issues with cost of service, are another set of factors. For this analysis, the operational and financial issues are generally straightforward. Information on revenues, expenditures, budgets, customer costs, and debt obligations were gathered. Similar comparisons occur with operating factors: reliability, system expansion, maintenance needs, and economies-of-scale are common factors regardless of the delivery mechanism. In updating a study first done in 1997, and updated in 1999, compared cost of delivery. These studies noted that (Bloetscher, 1997, 1999):
- The comparative statistic that provided the best picture of the impact to the customer were the cost per thousand gallons for water treatment, water distribution, sewer collection and wastewater treatment, which clearly demonstrate the economy-of-scale of the larger utility operations versus small scale operations.
- The economy-of-scale arguments for utility operations were realized. The data supports the long-held contention of the USEPA and other regulatory officials that smaller utilities simply do not have the cash flow to operate their systems without higher costs and higher bills.
- The newer systems have a lesser cost than the older systems, as measured in the cost to maintain miles of pipe, but this does not translate to plant operations costs.
- Generally, the rate structures are similar; that being that there is an availability charge and a volumetric charge. Given this fact, the economies-of-scale of the larger systems will permit them to fund more capital projects (or provide higher General Fund subsidies) than the smaller systems, and will permit more debt funding.
- The smaller utilities generally are accumulating enough costs to handle their operating requirements, but insufficient funds to utilize for reinvestment in the system.
- The larger systems raise significant revenues for the construction of improvements on the system (via RRI and bond funds), which is more than the other utilities generally do.
- Debt service appears to drive rates for most of the utilities regardless of the disparity between the size of the system and the cost per thousand gallons to produce, collect, and distribute or treat.
For this study, the same comparative statistic of the impact to the customer were the cost per thousand gallons for water treatment, water distribution, sewer collection and wastewater treatment was undertaken (see Figure 11-14). As shown in the earlier work, the economy-of-scale arguments for utility operations were realized. However the amounts being transferred to the general funds we more (see Figure 15). Figure 16 shows that the smaller systems tend to have a higher percentage of transfers. Note that the rates vary across utility sizes (Figure 17).
The data gathered indicates that utilities are underfunded, and under-invested. To reduce potential health risks, this needs to change. At the same time, trends appear to be a key to assess the potential for at risk utilities. Hence a future project would review data for the past 15-20 years for trends, identify patterns of altered investments. An unanswered question is the lingering impact of the 2008-2011 economic crisis where local governments balanced their general fund budgets via these transfers from the utility funds.
The next step is to undertake the next phase of the study – another 30 Florida utilities, plus utilities in Michigan, Ohio, Colorado and North Carolina – a little geographic diversity to see if the trends hold across states. If your utility, or if you know of a utility interested in participating, please contact me.
In the last blog we asked a question – can we see underinvestment in infrastructure systems at the utility level. Let’s first discuss what we might need to know. These could be things like age of the system, materials used, economic activity trends, income, poverty rate, unemployment rate, utility size, reserves, utility rates, history of rate increases, etc. Many are issues that are difficult to determine without significant work. So maybe a simpler set of data. So let’s think about things like:
- Trend in population – from the 2000 census and 2017 estimates
- Economic trend (% /yr) based on income and population data
- Water production – average daily flows reported by the utilities
- Water production trend (%/yr)
- Income trend – from the 2000 census and 2017 estimates
- Net plant assets from the 2016 CAFR for each utility
- Replacement value of assets – based on asset data
- Capital expenses each year, as derived from the CAFR and budget
- Rates/1000 gallons
- Amount of debt as ratio to operating expenses
- Net plant assets compared to estimated Replacement value
The replacement value is tricky. The determination of investments that should be made in the utility system can be determined by reviewing the historical investments in the system. This requires knowledge of year-by-year additions and retirements to the system by type and size of asset, which is rarely available in any utility organization. Net plant assets (depreciated value of investments) provides the value, but not the infrastructure. However some rough data on plant capacity and pipelines often exists. To wit, to create a replacement value, 40 utility systems were reviewed. What was found was that 62% of their assets were piping. Therefore to provide a measurement of the appropriate amount of investment the following assumptions were made:
- 60 percent of assets were pipe with a life averaging 80 years,
- the remaining assets being “plants” with an average life of 40 years
- Inflation prior was 3% back to 1980, and 5% prior (matching CPI averages)
- All demands are currently met and there are no growth needs.
Based on the assumptions noted above, the resulting for the appropriate amount of investment percentage was 45.6 percent to be current, with a minimum average of 1.75% percent spent annually.
So the next question was: Does anyone meet these goals? Figure 1 shows the results. Only 3 exceeded the amount although two others were close. More than half were less than the 45.6% which does not bode well for long-term protection of the community. It should be noted that the three above 45.6% all had recent ongoing, large construction projects.
Figure 2 shows that 13% of the utilities had no capital investments during 2016, and 37% had invested less than the 1.75%. Over 20% of the utilities had major capital projects going on and large percentages devoted to capital. When comparing these two factors, there was limited correlation (see Figure 3), so the conclusion was that investments were made in large blocks as opposed to more pay-as-you-go methods. To determine which communities, an analysis of the utility (population) versus net plant assets (NPA)/replacement value ratio. Figure 4 shows a degree of correlation that smaller communities have invested less as a percentage compared to larger utilities.
So far the results are not good. So the next question is why…..Part 3
A public water and sewer utility is created to develop safe, reliable and financially self-supporting potable water and sanitary sewage systems which will meet the water and sewerage needs of the areas served by the utility; to ensure that existing and future utility facilities are constructed, operated and managed at the least possible cost to the users without outside subsidies; and to develop a system that is compatible with the area’s future growth. To gain efficiencies in operation, these new facilities must be developed in accordance with the latest technical and professional standards to protect the health, safety, and welfare of the citizens served now or in the future.
Hence a utility must construct new pipelines, pump stations and other infrastructure, whether that infrastructure is for growth, to improve existing service, or to replace infrastructure that has reached the end of its useful, economic, and/or physical life. In established or stable communities, the replacement of existing infrastructure, where it is no longer economical to operate, is deteriorated to a point where replacement is more cost effective than repairs due to wear, neglect or environmental conditions, or where the infrastructure no longer serves its intended purpose or meets regulatory standards, must be pursued. As a result, many established utilities have capital plans that contain many such replacement projects.
One reason we need to invest is to keep the infrastructure up-to-date and operating properly because numerous studies confirm that infrastructure investment spurs economic growth. Cohen et al (2010) estimated that a dollar spent on infrastructure construction produces roughly double the initial spending in ultimate economic output in the short-term, primarily in the manufacturing and business services sectors. Economic theory and practice also suggests that public sector spending, primarily in infrastructure, can stimulate of the economy in difficult times. The most notable examples are the Works Progress Administration (WPA; renamed in 1939 as the Work Projects Administration) projects of the Great Depression and the American Recovery and Reinvestment Act of 2009 (ARRA) legislation of the Great Recession. Both are credited with putting people to work, and preventing further economic hardship on the country (Krugman, 2014; Kavoussi, 2011). By putting people to work, there was more income that could be spent, and therefore the greater potential for economic growth (Krugman, 2014). Similarly, Eberts, (1991) and Munnell and Cook (1990) suggest underinvestment in public capital may ultimately retard our economic growth.
So the question is: Do local utilities invest enough? We should ask that question given that ASCE claimed that additional spending of $1.6 trillion, in 2010 dollars, is needed by 2020 to bring the quality of the country’s infrastructure up from “poor” to “good” and that the US could lose $18 trillion in GDP in the next 10 years due to infrastructure deficiencies. The American Water Works Association (2012) estimated $1 trillion in for just water systems and the USEPA estimated a $500 billion need for infrastructure investment by 2025.
Underinvestment leads to public health risk in addition to economic risk. Much of the recent news is about the lead and legionella issues associated with potable water with the Flint, Michigan water system. There have been at least six indictments, a Congressional hearing and numerous lawsuits filed. The fallout will continue as all utilities will be re-evaluating water quality issues associated with piping. One of the major discussions was the issues with lead service lines in Flint. Many utilities are now fielding questions about and dealing with lead in their services lines, research that will come for lead, and regulatory requirements for upgrades. Money drives decisions. There is a utility system in Florida that contracted its operations to save money (and pension costs). Flint’s decision to change water sources was driven by money, not public health. Other risks come from increasing incidents to failure – there are utilities all over the country have increasing incidents of breaks, and age-related problems, and impacts of the 2008 financial crisis likely delayed capital improvements and diverted water and sewer revenues to hemorrhaging general funds. So not enough funds are being spent on infrastructure it would seem. But can we see this at the utility level? Stay tuned for Part 2.