Critique of consultant’s study report
By GARY HURST
The August issues of the Sentinel have been filled with information about the Ramona Municipal Water District, water fee and rate increases, and the decision-making processes at the district.
Articles written by Karen Brainard of the Sentinel; a guest commentary by Sharon Lynch; and Letters to the Editor from Jared Cupp, N.M. Dohrer and Gaye Miller have all contributed to the public knowledge of how the district operates. I hope the comments and questions continue, and that other readers will add their contributions.
Several critical issues have been raised that all deserve further scrutiny, but at least one critical issue has gone without significant comment.
District senior staff and directors consistently cite a 2011 “Water Rate Study Report” and 2015 “Update” prepared by Raftelis Financial Consultants, Inc. (RFC) as the basis for water fee and rate increases over the last five years. According to the RFC report, the engagement was “to conduct a long-term financial plan to ensure financial sustainability and sufficiency for its water enterprise. The objectives of this study include: Developing a water rate structure which generates enough revenue to ensure the financial stability of the enterprise; Establishing rates that are perceived to be fair and equitable; Maintaining adequate reserves (sic) levels; Developing a cost of service which fairly and equitably allocates costs to customer classes in compliance with proposition 218; and In addition to the objectives above, the study aims to establish a rate structure which promotes conservation in compliance with recently passed legislation Sbx7.7, which requires the District to reduce consumption by 20 percent by 2020.”
Regarding “Assumptions and Data Summary,” RFC states that it “compiled historical as well as current data from the district including total number of accounts, billable water usage, CWA’s [County Water Authority] water supply allocation and rates, operating budgets, capital improvement projects, and information regarding existing debt service. In addition, current budget estimates provided the starting place for the financial plan development, and historical data provided a basis for establishing appropriate escalation factors.” This statement makes clear that RFC gathered this information from the district from such sources as the Flo Data Spread Sheet (as pointed out by a retired district employee).
What were the “escalation factors” applied by RFC? Mostly a calculation most of us learned in elementary school. The RFC “study report” accomplishes none of its stated objectives, and never should have been accepted by either senior staff or the board, yet the consultants invoice was paid (estimated to be $12,000 by N. M. Dohrer).
What should a “fair and equitable” person expect from such a “study report?” The most basic missing element is an attempt to match sources of revenue with uses of funds, so those who benefit from an expense pay for the benefit (“in compliance with proposition 218”). The “study” fails to segregate direct costs (variable costs such as cost of supply from CWA and cost of pumping) from fixed costs. Direct costs should be the costs that are “passed through” to customers by Rates (usually charged per hundred cubic feet of water used). The direct costs for treated and untreated water are different, so the rates should be different – but the district revenue from rate-paying customers in a “Customer Class” should be equal to the direct costs of the water or pumping provided by the district to that “Customer Class.”
Fees should pay for fixed costs that do not vary directly with the amount of water used by a customer. Fixed costs (such as the cost of 300 acre-feet of untreated agricultural water due to the “Malone account” at no charge each year) should be allocated to a “Customer Class” (i.e. single-family residence or untreated agricultural water) based upon some factor that has a causal effect upon, or demonstrates a close correlation to, the particular cost.
The fixed costs of each Customer Class should be billed to individual customers as a fee that is the individual customer’s share of the fixed costs allocated to their Customer Class.
Not only is this method of matching costs and revenues the only “fair and equitable” system, it eliminates the need for an accurate forecast of usage volume when “ensur(ing) financial sustainability and sufficiency.” It ensures that revenue matches costs, no matter the usage volume. There is no more using usage forecast uncertainty as an excuse for a late budget adoption. There is no need to predict where the cost and revenue curves will intersect – revenues equal costs for all usage levels. This strategic revenue policy also eliminates the need for numerous, large operating reserves that are required only to provide cash to pay for the water usage forecast error that is inherent in any forecast. There would be no more shifting of the fixed costs allocated to one Customer Class onto the backs of another Customer Class (payable as rates that are too high).
A recently-resigned director asked senior staff to change the format of some financial reports. The ability to categorize and report cost and revenue data is an elementary requirement of an accounting system (just as elementary as collecting the data). Computer-based accounting systems like the district uses provide the capability to easily re-categorize financial data (even if the software is 50 years old), so senior staff’s contention that it could not meet the director’s request is surely an admission of their inept use of the district’s computer system, or worse.
Besides failing to provide reasonable financial reports, senior staff (not “the IT system”) must also be held accountable for its failure to recommend a strategic revenue policy that meets the objectives clearly stated in the RFC “study report.”
RFC recommends operating reserves based upon spending levels. There is no consideration of the uncertainty of fixed costs in the case of operating reserves, just an unstated assumption that such reserves are required because budget projections of fixed costs are wildly unpredictable. This is absurd.
RFC also recommends Capital Replacement Reserves based upon short-term out-of-pocket spending projections, not on the value of water-related assets that depreciate economically at a predictable rate. RFC ignores economic depreciation, apparently because it is not a “current cash” expense. This is a fatal financial error.
Our dam, pipes, pumps, valves, etc. are not going to last forever, and users need to pay for their decline in value as the asset’s value is used up. Failure to treat depreciation as a “real” expense results in having to pay all of the tens of millions of dollars replacement cost at the end of life (with a special assessment, borrowing, or bankruptcy).
Wouldn’t district finances be in much better shape if the millions of dollars of unjustified operating reserves were transferred to Capital Replacement Reserves to “seed” this woefully inadequate fund?
Surely the RFC “study report” invoice should never have been paid. Far more importantly, senior staff and the board majority should never have “drunk the Kool-Aid” from the “study report.”
Unless the people of Ramona are willing to “clean house” as suggested by one writer, we will have to wait until next year’s elections to find out if a majority of district directors develops a sense of fiduciary duty and restores the public trust.
Gary Hurst is a Ramona resident.