Determination of Revenue Requirements for Municipal Utilities

Transcription

1 Determination of Revenue Requirements for Municipal Utilities Mark Beauchamp, CPA President Utility Financial Solutions Determination of Revenue Requirements 1. Cash Reserve Policy 2. Debt Coverage Ratio 3. Target Operating Income 4. Development of Long-Term Financial Plan and Rate Track Bond Rating Agencies How rating agencies determine your future ability to pay bonds principle and interest and continue to invest in system Review historical performance, current performance, policies, Competitive with surrounding utilities 1-3

2 Historical Performance Do you have a history of small periodic rate adjustments Willingness to increase rates Revenue requirements determined on appropriate methods Not Cash Basis History of financial performance Debt Coverage Ratios Times Interest Earned Ratio 1-4 Historical Performance History of reinvestment in system Pay as you go capital improvement program History of recording capital assets and depreciation expense Violation of past debt coverage ratios 1-5 Current Performance What do they want to see today Cash Reserve Policy Utility Planning Overall Cost Structure Relative to Industry Power Cost Adjustment Contributions to city within normal range 1-6

3 Future Performance Five Ten year financial model Identifies Rate Track Capital Improvement Plan Future Debt Coverage Ratios 1-7 Bond Rating Agencies Relative Values of Best Practices in Ratings By Fitch Best Practices Fund balance reserve policy/working capital reserves Muti-Year financial forecasting Quarterly financial reporting & monitoring Contingency planning policies Policies regarding nonrecurring revenue Depreciation of general fixed assets Debt affordability reviews & policies Pay as you go capital funding policies Rapids debt retirement policies of more than 65% in 10 years Five year capital improvement plan integrating operating costs Financial reporting award (GFOA) Budgeting award (GFOA) Value Very Significant Significant Significant Very Significant Significant Significant GFOA - Governmental Finance Officers Association 1-8 Bond Rating Agencies Worst Practices Worst Practices Having Significant Rating Concerns for Fitch Cash accounting basis Qualified audit opinion for material weaknesses Deficit financing for two of last five years Slow debt retirement (less than 35% in 10 years) Unfunded accrued pension liability Over reliance on non-recurring revenue Aggressive investment policy for operation funds Pension contribution deferral in the current budget year Lack of capital improvement plan Excess interfund borrowing, with no capacity to repay in near future 1-9

4 Two Methods to Determine Revenue Requirements Cash Basis Utility Revenue Requirements defined on cash outflows and debt service Sum of the following is the Revenue Requirements of the utility Operation and Maintenance Expense Debt Service Payments Normalized Capital Improvements Two Methods Exist to Determine Revenue Requirements Utility Basis Utility Revenue Requirements defined similar to accrual accounting concepts: Operation and Maintenance Expense Depreciation Expense Rate of Return Interest Expense Inflation Cash Basis Advantages Understood by City Councils Attempts to match cash inflows and outflows on a yearly basis Disadvantages Conceals major rate problems and revenue deficiencies Tends to result in unexpected and large rate adjustments

5 Utility Basis Advantages Leads to more stable and consistent rate adjustments Typically leads to a more financially stable and healthy Utility Disadvantages City Councils may not understand Have to justify cash reserves Explain funding non-cash expenses - Depreciation Explain importance of rate of return Three Factors to Help Determine if Rate Adjustments Debt Coverage Ratio Minimum Cash Reserves Optimal Operating Income Target Debt Coverage Ratio Minimum Increase Compares cash generated by operations to cover debt service Normally defined in Bond Ordinance 1.2 plus 0.2 safety = 1.4 Target Violate Bond Coverage - Long-term implications Lower bond rating Higher interest rate Higher Insurance Costs

6 Cash Reserve Policy Develops minimum cash to keep in reserve - not target Helps to ensure cash is available to pay for normal capital improvements, catastrophic events, FEMA Reimbursement Development of Cash Reserve Policy - Considerations Timing differences; expenses incurred, revenues received Investment in assets Annual debt service payment Future capital improvement program Range for Minimum Cash Reserve Calculations Percent Allocated Range Operation & Maintenance Less Depreciation Expense 25% 15% - 25% Historical Rate Base 1% 1% - 3% Current Portion of Debt Service Reserve 100% 50% - 100% Next Years Capital Improvements - Net of bond proceeds 15% 15% Five Year Capital Improvements - Net of bond proceeds 15% 15%

7 Should a Public Power System Have a Rate of Return? Covers interest expense on debt Cover Inflation on Assets to fund replacement Avoids subsidization: Customers today vs. future customers Target Operating Income Assets Rate Rate of Return Net Book Value 61,699,536 Principal on Debt 30,000, % $ 1,200,000 Financed through rates 31,699, % $ 2,218,968 System NBV 61,699, % $ 3,418,968 Financial Planning and Long-term Rate Track Identify Rate Adjustments to Meet Targets Minimize Impact on Customers Maintain Appropriate Cash Balances Achieve Target Operating Income Minimize complaints Re-Elect Officials

8 Financial Projection Base Case Fiscal Year Rate Adjustments Projected Revenues Projected Expenses Adjusted Projected Cash Operating Income Balances Capital Improvements Bond Issues Debt Coverage Ratio % $ 7,720,048 $ 6,728,371 $ 98,792 $ 3,516,223 $ 1,100,000 $ % 7,758,648 7,156,404 (626,713) 2,752,299 5,000,000 5,000, % 7,797,442 7,395,710 (1,077,182) 44,976 3,475,000 2,000,000 (0.18) % 7,836,429 7,741,523 (1,470,416) (3,059,457) 1,475,000 - (0.57) % 7,875,611 7,966,695 (1,867,986) (5,346,620) 3,000,000 3,000,000 (0.81) % 7,914,989 8,328,089 (2,270,488) (9,047,772) 1,000,000 - (1.14) Recommended Target in 2008 $ 686,678 $ 3,480, Recommended Target in 2012 $ 1,157,956 $ 4,629, Recommended & Approved Rate Track Rate Projected Projected Adjusted Projected Cash Capital Debt Coverage Fiscal Year Adjustments Revenues Expenses Operating Income Balances Improvements Bond Issues Ratio % $ 8,308,223 $ 6,728,371 $ 686,968 $ 4,104,398 $ 1,100,000 $ % 8,986,988 7,156, ,626 4,592,341 5,000,000 5,000, % 9,722,284 7,395, ,660 3,883,462 3,475,000 2,000, % 10,518,826 7,741,523 1,211,981 3,614,965 1,475, % 10,935,016 7,966,695 1,191,419 4,654,184 3,000,000 3,000, % 11,367,895 8,328,089 1,182,418 4,805,971 1,000, Recommended Target in 2008 $ 686,678 $ 3,480, Recommended Target in 2012 $ 1,157,956 $ 4,629,