Balancing Conservation and Revenue Streams

1. Balancing Conservation and Revenue Streams Carol Malesky, Red Oak Consulting JTAC Presentation, February 22nd, 2007

2. Rate Making Standards • American Water Works Association • Environmental Protection Agency • Water Environment Federation • Public Utility Commissions

3. Cost-of-Service and Rates

4. Water Utility Cost Structure • Fixed costs are high • Fixed costs are typically 80-95% of total annual costs • E.g., labor, debt service, etc. • Variable costs are low • E.g., power, chemicals, etc.

5. Impact of Curtailment and Conservation on Finances • You may lose revenues • Mix of customers and other factors affect reductions in water sales • Revenue losses depend on structure of charges (i.e., fixed charges vs. volume charges) • You may experience increased costs • Curtailment programs • Enforcement of water use restrictions • Cost of alternative sources

6. Common Conservation/Curtailment Tools • Water restrictions • Public education/awareness • Xeriscaping • Fixture replacement/credits • “Water police” • Surcharges • Rates

7. Rates As a Tool in the Conservation Arsenal • Rates as a price signal • Price elasticity of demand • Volume rates vs. fixed charges

8. Customers React to Perceived Price • Water bill • Highest block rate • Clarity of bill is important

9. Changes in Demand Partially Depend on Perceived Price • Customers rarely know the marginal price • Literature suggests that people respond to a mixture of both marginal and average price • Peoples’ perceived prices can be altered • Other factors influence changes in demand

10. Impact of Price on Customers • Price elasticity of demand • Measures change in demand from a change in price • Price elastic—Demand decreases more than increases in price (e.g. e = -1.25) • Price inelastic—Demand decreases less than increases in price (e.g. e = -0.25)

11. Price Elasticity Demonstrated

12. Price Elasticity Concepts • Water is relatively inelastic • Elasticity in residential demand varies: • Outdoor use is more elastic than indoor use • Peak use is more elastic than off-peak use • Factors other than price affect elasticity (e.g. public information, values, geography, climate) • Commercial/industrial elasticity is generally higher than residential

13. Price Elasticity Applied • Residential elasticity falls between–0.1 and –0.3 nationally (AWWA) • 5% increase in price could reduce demand by 0.5% to 1.5% • Commercial/industrial elasticity can be as high as –0.8 (AWWA) • 5% increase in price could reduce demand by as much as 4%

14. Choosing a Rate Design • Often a distinct effort, separate from finance planning and cost-of-service study • Links cost of service to one or more alternative rate structures • Matches community needs with rate structure • Follow a correct processto evaluate rate structures

15. Rate Design Selection Process

16. Examples of Alternative Rate Structures • Flat rate • Declining block • Uniform rates • Inclining block • Excess-use • Seasonal

17. Common Conservation Rate Structures • Seasonal rates • Inclining block rates • Excess-use rates • Water budget-based rates

18. Seasonal Rates • Lower rates in off-peak months (e.g. October – May) • Higher rates in the summer, or peak months • Price signals are seasonal

19. Inclining Block Rates • Rates increase at increasing levels of water use • Blocks are established at various levels • Block thresholds • By Class • By Meter Size • Common rate structure with flexibility to send various price signals

20. Excess-Use Rates • Lower rate charged for average level of use (e.g. average winter use) • Higher rates charged for use over the established average winter water use • Price consistent throughout the year

21. Water Budget-Based Rates • Each account is given a monthly water budget based on landscaped area • Monthly budget = indoor allotment and irrigation allotment • Blocks are often based on percentage of use over budget • Rates are often based on multiples of a Base rate

22. Conservation Pricing - Issues/Concerns • Lost Revenue – Plan Accordingly • Budget and financial objectives based on “normal” year, plan minimum against “worst case” year • Revenue effects of drought curtailment predictable • Plan for customer response • Fund long-term conservation programs • Implementation Issues • Avoid rate shock • Phase-in rate increases • Better customer communication gives customers time to adapt their consumption

23. Conservation Pricing - Issues/Concerns, cont’d • Once Size Does Not Fit All • A single rate structure may not work for all classes of service • One class may have large variations in size and uses • Conservation rate structures are potentially viewed by customers as punitive • Customer’s ability to modify behavior/usage may vary

24. Case Study Tualatin Valley Water District 2005 Water Rate Study

25. TVWD

26. Steps in Developing Board Consensus • Overview of rate making and conservation rates • Develop rate design goals and objectives • Develop Board evaluation criteria • Narrow list of alternatives for further analysis using pros and cons • Detailed evaluations using Board criteria (first use of quantitative evaluations) • Final recommendation

27. Board’s Goals and Objectives • Encourage conservation by establishing blocks that are more relevant to customer use • Ensure interclass equity by providing adequate distinction among customer classes • Reduce peak-season and peak-day use • Insulate TVWD from wholesale rate spikes • Ensure weather-sensitive financial stability • Maintain customer acceptance • Provide a low-cost, entry-level block that is based on cost of service • Keep it simple

28. Evaluation Criteria Used

29. Previous Rate Structure • Single-family residential and irrigation: 2 blocks • Blocks vary by meter size • Large commercial (i.e., Production) • 1 block for all consumption • Priced at block 1 rate • Multifamily and commercial • 2 block excess-use rate • Block thresholds at 140 percent of annual average water consumption • Moving average of annual consumption • Average winter consumption more common for excess-use rates

30. Preliminary Observations of TVWD’s Previous Rate Structure • Block thresholds were too high • Volume charges were too low • Fixed charges were too high • Irrigation customers appeared to pay less than the current cost of service • Annual average consumption less effective than average winter consumption

31. Rate Design Alternatives • Status Quo: Existing rate structure • Scenario A: Reduced thresholds • Single-family residential: Inclining 2 block • Others: Excess-use 2 block • Scenario B: Excess-use rates • Single-family residential: Excess-use 3 block • Others: Excess-use 2 block • Scenario C: Three blocks • Single-family residential: Inclining 3 block • Multifamily and commercial: Excess-use 3 block • Irrigation: Uniform • Scenario D: Three block SFR, 2 blocks other • Single-family residential: Inclining 3 block • Multifamily and commercial: Excess-use 2 block • Irrigation: Uniform

32. Pros and Cons Screening of Alternatives

33. Simulation Model Provides Many Quantitative Measures

34. Scenario A: Rate Shock

35. Conservation Savings

36. Customer Impact Criteria

37. Recommendation • Board selected Scenario A • Closely monitor revenues as customers adjust to new rates • Make annual adjustments as necessary • Integrate rate design with other conservation efforts • Review conservation objectives and rate design in 3 years

38. Other Considerations • Changing too many elements at once • Allowing sufficient time to see how new rate structure will play out • Monitor revenues • Communication plan • Bill stuffers and direct mailings • Bill re-design • Website info • Public meetings • Cross-price elasticity with wastewater

39. Case Study Albuquerque Bernalillo County Water Utility Authority 2004 Water Rate Study

40. Albuquerque Bernalillo County Water Utility Authority • Authority created by State of New Mexico from City water and wastewater utilities to serve both City and Bernalillo County • Board consists of City Councilors and County Commissioners with Board Chairman • Rate study authorized in 2003 by City included a request to review water rate structure

41. ABCWUA’s Goals and Objectives • Encourage water conservation to help meet goal of 40 percent reduction by 2014 • Ensure financial stability of ABCWUA • Follow cost-of-service principles • Maintain implementation and administrative ease • Maintain customer and political acceptance • Minimize impact on customers

42. Steps in the Process • Identify community goals • Develop evaluation criteria based on goals • List rate structure alternatives • Conduct preliminary evaluation (qualitative) to narrow alternatives to three for further analysis • Quantitatively analyze alternatives with cost-of-service and conservation impact models • Fully evaluate rate structure alternatives (qualitative and quantitative)

43. Evaluation Criteria

44. Rate Structure Alternatives Analyzed • Scenario A: Existing seasonal excess-use rate structure that incorporates updated COS rates; residential customers with smaller meters are assigned average winter water consumption (AWC) of meter size • Scenario B: Similar to current structure; individual AWC for each account • Scenario B2: Individual AWC with fixed monthly charge that recovers annual debt service and customer service & meter costs • Scenario C: Lifeline block for all residential customers with low income subsidy for qualifying accounts • Scenario D: Water budget-based usage thresholds; fixed monthly charge recovers customers service & meter costs

45. Tool for Rate Structure Evaluation • Conservation Impact Model • Allows quantitative analysis of rate structures • Characterizes monthly water consumption by meter size and customer classification • Allows changes in rates, block thresholds, and revenue requirements • Provides estimates of water conservation • Assumptions used • Price elasticity of demand • Statistical distributions of customer demand • Rate structure characteristics

46. Conservation Impact Model

47. Committee Input • Technical Advisory Committee (TAC) • Comprised of Authority Staff and County representative • Involved in evaluation process from beginning • Assisted in improving final rate structure recommended for adoption • Water Resource Advisory Committee (WRAC) • Resolution for formation authorized its involvement in rate structure selection • Analysis had been completed before its first meeting • WRAC involvement became educational process

48. Moving Toward an Acceptable Rate Structure • Conservation Goals • More revenues collected through commodity rates • Steeper blocks/rate tiers to penalize higher water use • Revenue stability goals • More revenues collected through the fixed monthly charge • Blocks/tiers that target higher consumption

49. Final Rate Structure • Implemented rate structure alternative that balanced conservation with revenue stability • Recovers debt service, customer service & billing costs through fixed monthly charge • Targets excess consumption through seasonal excess-use surcharges

50. Conclusions • Follow a formal evaluation process • Involve advisory committees early in process • Select evaluation criteria that balance community goals • Ultimately, selection of most appropriate rate structure lies with policy makers