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Illinois American Water Rates Under Fire

March 30, 2010

The Illinois American Water Co. (subsidiary of much larger American Water Works Co. – AWK) is seeing new scrutiny from the Illinois Commerce Commission on its proposal for 30% increases in water rates for many Chicago-area utilities that it operates.  The rate case has made its way to the ICC where Illinois Attorney General Lisa Madigan has argued that the company’s request is both “unreasonable” and “excessive.”  The full story is reported in TheTelegraph.com.  There is one gem in this story worth a little more time here though…

One of the cost items the company is trying to justify is the cost of a study it commissioned in 2007 to compare its own water and sewer rates with those of surrounding municipalities.  The ICC had commented in the 2007 rate case that American’s rates were two to three times higher than those other cities’ and the company followed up with a study.   It seems that after paying $37,000 for the study, the company concluded that no comparison of water rates or sewer rates was possible due to accounting differences.

Accounting differences?

There are several reasons why comparing rates with other utilities will give you dubious information.  Not all utilities are supported 100% from user charge rates, some use tax dollars making rate comparisons tricky; some utilities do not recover their full costs of service (not good, but it happens); all utilities have different cost structures and different dynamics in their customer bases.  “Accounting differences” is not one of the reasons.

More likely, the real reason is that comparing a privately owned utility like Illinois American with any equally situated utility under public ownership will ALWAYS result in the private company being the one with the higher rates.  Since we’ve made this point before here, we can just direct you to the links to find out why private companies have a hard time comparing. Here are two good ones:

Private Does Not Mean Better Water Rates

Corporate Water Utility Rates – Show Me the Efficiencies

Keep in mind that American Water Works Co. is also attempting to increase its rates by similarly large amounts in many of its other jurisdictions simultaneously.  Rate increases are in the works in Illinois, Indiana, Missouri, Kentucky, and Arizona just to name the ones we’ve been able to follow. Most of our blog posts on these issues is under our Privatization Tag if you want to see everything we have on this topic.

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How Federal Deficits Will Impact Water and Wastewater Utilities

March 29, 2010

Eventually the piper must be paid.  For municipal governments, balancing the budget is these days a constant concern and budget cuts are starting to hit core services as the recession plods along.  In Washington, however, balanced budgets are not a concern, nor it seems is the staggering deficit that comes with massive spending programs that have no tax revenues to support them.  The national deficit will reach 10% of total GDP this year and that deficit is being financed with US Treasury bonds that will be issued to investors in the amount of one-trillion dollars.  While recent conditions have been favorable to national borrowing and lower rates, those conditions are now changing…and not for the better.

Demand for US Treasuries has been strong up to this point in part because of investor concern over fiscal crises in Europe and lack of quality alternative investments in the US economy.  Now, as the EU gets things under control with Greece, and demand for corporate bonds returning, there has been a fall in demand for US Treasuries.  Lack of demand means that if the US wants to sell bonds (a trillion dollars of them), then it will have to offer better yields (rates) to investors.  That means the historically low rates paid by the US on its sovereign debt is expected to increase.  It’s a trend that many see lasting for the foreseeable future as deficit spending continues unabated in Washington (click for WSJ article).

That’s bad news for you and I as US citizens, but it is also bad news for us for other reasons.  When US Treasury rates increase, rates for most other things increase as well.  That’s because US Treasury instruments make up a “floor” called the “risk-free rate” that is the first building block for virtually every other interest rate in the world.  The prime rate, LIBOR, mortgages, corporate bond yields, and even expected returns on the stock market have a tie to the risk-free rate, which is normally indexed to the long-term US Treasury Bond.  If the risk-free rate increases, all other rates increase too.

That includes the rates for municipal bonds, a critical financing vehicle for water and wastewater utilities as they look to fund infrastructure replacement and upgrades to major facilities.  Since the US Treasury rates have been low, so have municipal bond rates.  Highly-rated municipal bonds have enjoyed rates hovering within 50 basis points of 4% for quite a while now, but if interest rates get upward pressure thanks to what’s going on in the treasury markets, then utility managers should expect upward movement in municipal bond rates as well.  Higher borrowing costs translate into higher debt service, which translates into higher water rates and higher wastewater rates.  Eventually, the piper must be paid.

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US Conference of Mayors Foresees Major Spending on Water and Sewer Utilities

March 19, 2010

In a report published in February, the US Conference of Mayors is predicting that spending on water and wastewater systems will increase by by as much as four times.  Depending on how fast the country’s population grows, spending could double, triple, or quadruple, according to the report.  We’ve posted the full report here, which is an interesting read at just 56 pages.  Toward the end of the report, the author cites the Congressional Budget Office’s so-called best management practices for utilities to reduce costs thereby, presumably, opening up financial resources to pay for the identified infrastructure needs pointed out earlier in the report.  Among these best management practices:

  • Demand management – conservation and the like.
  • Labor productivity – automation and cross-training are mentioned
  • Consolidation of systems - this sometimes goes by the name of “regionalization” and is probably one of the best recommendations to come from Washington in a long time.  Physical consolidation of small systems, where possible, is a money saver.
  • Asset management planning – a topic to itself, but the CBO cites increased equipment life, reduced O&M, and elimination of redundant assets as benefits to be gained.
  • Innovative construction contracting - alternative contracting like design-build-operate (DBO) offer some cost savings over traditional contracting approaches.

In all, the US Conference of Mayors’ report is more on point with the issue than most reports we’ve seen.  The report correctly identifies the need for increased water and wastewater utility infrastructure, estimates the annual spending at reasonable assumptions for growth, addresses the existing gap in infrastructure (between functional infrastructure and dilapidation), and correctly characterizes the funding issue as primarily a local one with a limited role in funding from federal and state sources.

Local utility rates will be the battleground where the funding issue get sorted out.  Firms  like StepWise, are already immersed in these issues.  Understanding the need is one thing, but getting local communities to get into a “willing to pay” mode is easier said than done.  Water and wastewater rate consultants know that even small increases to utility rates can lead to big problems for communities on a political and even an affordability level.  We see affordability as a major issue for most utilities going forward.  Making sure your water and sewer rates meet the actual costs of service, are transparent , and are clearly equitable to rate payers are principles that will be core strengths for utility managers in an era where spending is predicted to quadruple.

Click to Download “Trends in Local Government Expenditures on Public Water and Wastewater Services and Infrastrcuture: Past, Present and   Future”

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Indianapolis Mayor a Believer in Efficiencies of Public vs. Private Water

March 18, 2010

The City of Indianapolis, whose privately operated water system (Veolia has been the private owner/operator for several years)  was ever so recently facing a 35% increase in water rates just 6 months after an 11% increase, has even more recently decided to scrap their private ownership model.

“With this agreement, I am rejecting private ownership of our water and wastewater system while embracing the benefits that come from private sector efficiency and expertise, and putting water and wastewater utilities under a public trust.”  – Mayor Greg Ballard.

We can’t be sure if Mayor Ballard and other city leaders are regular readers of this blog, but the quotation is very much in line with several blog entries we’ve made here, including “Corporate Water Utility Rates – Show Me the Efficiencies” published in October 2009.  The Indianapolis case was and is one of the great examples of how private water utilities are challenged to produce long-run efficiencies above those of public-sector owners.  We have argued here before (and probably will again) that private owners would have to produce major long-run reductions in costs just to break even with the same utility operation under public ownership. Indianapolis now knows this to be true: funny how 46% water rate increases can change your mind so quickly.

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NYT Story on Water Infrastructure is Telling

March 16, 2010

The latest NY Times article on water infrastructure does a good job of demonstrating the seemingly impossible issues between the great need for reinvestment in water and sewer infrastructure, the reluctance of the government owners of those systems to actually pay for that investment, and the increasing consequences of infrastructure failure.  The article focuses on Mr. George Hawkins, whom the author describes as a well-educated environmental activist who wound up as the general manager for one of the largest utilities in the US in Washington DC.  The article shows how Hawkins has done much to point out the obvious to the city’s leaders: that our capitol city’s water and sewer infrastructure built over 100 years ago is decaying to a point where line failures are a daily routine causing everything from loss of water service to raw sewage spilling into the Potomac River.

Yet, there in Washington DC, one of the most affluent cities in the US, the push back from local politicians and citizens has been as severe as anything we’ve ever described on this blog.  That nobody wants to pay for the infrastructure issues even when it affects their own community is the major point that readers should take away from this article.  As we’ve said before right here at the StepWise blog, the cost of addressing the infrastructure issue is enormous.  In many cases, communities are relying for critical water and sewer services from a set of pipelines installed between 50 and 100 years ago.  There is a $335 billion price tag out there just for our drinking water systems, it’s a bigger price tag when you factor in the sewer systems.

The cost may be “federally-sized” when added up, but the reality is that the total cost is the summation of those for thousands of communities across the country.  Water and sewer infrastructure is a local issue requiring local responsibility and local funding.  It is not a federal issue, nor should it be seen as such.  To those communities who address their infrastructure issues smartly – like not waiting until the entire system is in cataclysmic failure – the reward is manageable costs over the long run.  To those who are less prepared, the consequences are potentially large.  Flooded homes and businesses, insurance losses, sewage backups, service losses, sinkholes, etc.  Every community has a choice to make with respect to infrastructure investment.   Waiting for the end is probably not the best option.

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