In Search For Budget Fix, Upland To Consider Privatizing H2O Department

(December 11)  An option cash-strapped Upland may be gravitating toward in its effort to stave off a potential deficit in the upcoming fiscal years consists of what has been termed the “privatization” of its municipal water and sewer divisions.
In October, Upland City Manager Stephen Dunn said his city was on the verge of bankruptcy and after having engaged in a series of fiscal gymnastics to balance the current 2013-14 budget, the city will require at least $3.5 million in additional revenue annually to continue to provide city residents and businesses with the same level of service the city is currently providing.
As of last month, Dunn said, the city’s general fund is hard-stretched to cover Upland’s bare operating expenses. Funding for street repairs, equipment and vehicle maintenance, post-employment benefits, equipment replacement, economic development and solutions to the city’s growing homeless problem has been entirely depleted.
The general fund accounts for most of the city’s services. It funds 73 activities related to the basic function of municipal government.  Dunn said.
In October, Dunn said that the only alternative to drastic service cutbacks consisted of revenue enhancement, most specifically a tax that would need to be approved by a majority of the city’s voters. To emphasize his point and support his case, Dunn referenced a 2012 auditor’s opinion from the certified public accounting firm Mayer Hoffman and McCann and Standard and Poor’s intended downgrading of the city’s credit rating. Mayer Hoffman and McCann said there are serious questions with regard to the city’s solvency to the point that in a short while “it will be unable to continue as a going concern.” According to Standard and Poor’s, the city, which has already been downgraded from an AA credit rating to an A+, is in danger of seeing its credit rating eroding even further. A municipality’s credit rating directly impacts the interest rate it must pay when borrowing money.
To balance the city’s current $39 million budget, Dunn said Upland’s entire municipal operation is borrowing heavily from rapidly evaporating reserves, while relying on income from two of the city’s enterprise funds which remain in the black, its water and sewer service funds.
Last month, the city formed a budget balancing task force consisting of ten members – two appointed by each member of the city council. That committee is examining a panoply of means by which the city is to come to terms with its fiscal crisis. Already, even before the committee has begun an examination of the alternatives or moved toward any recommendations, the second-guessing has begun. Many Upland residents sitting on the sidelines have begun to weigh in on what path the city should take out of the financial abyss.
While one group of citizens is calling for the city to embark on cost cutting efforts including streamlining and making more efficient its processes and functions and eliminating services and redundant or nonproductive personnel, others are advocating that the city generate revenue to sustain the current level of service. The two most likely methods of revenue generation are raising taxes and selling off city assets.
What appears to be the city’s biggest potential cash cow is its water and sewer division.
Dunn, in passing, in October mentioned “privatizing” the water and sewer division.  No specifics were given at that time. Indeed, councilman Brendan Brandt vociferously signaled his reluctance to even consider such an option without first being provided with more in-depth information. It was that daunting task – considering this depth of information – that in large part led to the formation of the budget balancing task force committee, which is charged with making those examinations and evaluations and then providing a recommendation to the council after having done so.
Privatization could take many forms.
At one extreme, the entire system, lock, stock, and barrel – that is wells, treatment facilities, pipe, pump stations and meters – could be sold to the highest bidder. Once the water and the means of delivering it were in the hands of a private entity, there would be no local governance on the rates customers would pay for the precious commodity of water or the wastewater service they receive.
There is also the possibility of semi-privatization.  A model for this would be what occurred in Rialto.
Historically, roughly half of the city of Rialto’s residents received their water from the municipal water system. The other half  were customers of Western Water, a private company.
As early as 2008, former Rialto City Manager Henry Garcia opened up a dialogue with New Jersey-based American Water about that company taking over the city’s water utility. Garcia never closed that deal, though after having laid the basis for it, his successors, interim city manager Mark Kling and then Mike Story, progressed toward what evolved into a semi-privatization deal.  Story, aggressively examining and addressing the city’s infrastructure and service needs, concluding as had Garcia, that the city did not have the financial wherewithal to undertake needed water system upgrades on its own. He recommitted to making a deal with American Water and in March 2012, the city council approved by a 4-1 vote entering into the 30-year lease of the municipal water system with the company.  As part of the arrangement, the city agreed to a 114.8 percent increase in water and wastewater rates by 2016, such that the average water bill of Rialto households utilizing 17,000 gallons per month was to jump from $26.27 per month to $64.14 monthly and increase the wastewater treatment fee from $25.97 to $61.46 as of January 1, 2016.
That move immediately provoked a response in the form of a petition drive by members of the Utility Workers of America, the union representing city water division employees, to force a city-wide referendum on the takeover. In less than seven weeks, over 6,400 signatures were gathered to meet the threshold of 3,800 valid signatures of registered voters needed to force the matter to a vote. The petitions created an opportunity for city residents to reject the takeover by means of a mail vote to be conducted by the city. If more than 50 percent of the ratepayers returned the mail-in ballots rejecting the takeover, it would not go into effect.
But in a crafty piece of sleight-of-hand, Rialto officials short-circuited that challenge when they quietly took action to find another company to manage Rialto’s water operations. With two swipes of a pen, the city of Rialto in July 2012 substituted American Water out of the picture and entered into a contract with San Francisco-based Table Rock Capitol to take on the role of water service operator.
Table Rock, doing business as Rialto Water Services LP, supplanted American Water Works Co. Inc. as the city’s water and wastewater service provider, and then farmed out the operation to entities expert at water and sewer operations. Eventually, it worked out a deal with Veolia North American to run the city’s wastewater plant.
Under the terms of a 1,600-page concession agreement signed by all parties, the city kept title to the facilities but leased them to Table Rock for a period of 30 years, Rialto was given roughly $35 million, Table Rock committed to making $41 million in water and wastewater system improvements, Veolia was given a subcontract to run the sewer system and all of the city’s water and wastewater department employees were moved off the public payroll and hired by, variously, Table Rock or Veolia. In this way, further city pension costs for those employees were reduced, though the city is still committed to making good on what they are due for the years they did work for Rialto as municipal employees.
Other privatization permutations are possible. In the city of Needles, for example, the city created its own public utilities authority and sold the water and sewer divisions to that entity. In that way, the city can convert revenue into the water division – which is by law supposed to be maintained in a sequestered account to be used strictly for maintaining the system, making improvements to it, or obtaining water – and put it into its general fund to support other city operations without having to pay it back.
And while all of these approaches may have an upside for the city, i.e., City Hall, the municipal operation, there is a potential downside to the residents of the city.
In this way, referring to the water division as a “cash cow” becomes something of a misnomer. Perhaps more appropriate would be “sacrificial lamb” or “golden egg-laying goose.”
Upland residents need not look far to see the result of private ownership – corporate control – of a municipality’s water supply. Westward across the city limits and county line in Claremont, Golden State Water Company is charging residential users there four times what Upland citizens pay for their water.
If the water/wastewater system is sold or leased to a private entity, Dunn said, there is a reasonable expectation that would result in increased rates for residents.
“If they were to capitalize the water system, they will have to borrow money,” Dunn said. “If they have to borrow money, they will have to make payments to service that debt and the bondholders are going to make sure you have enough revenue to at least cover the debt plus all overhead.  Debt service ratio, also known as the debt service coverage, is the ratio of cash available for debt servicing to interest, principal and lease payments. A debt service ratio of at least 1.25 is standard in the lending industry. Thus, ratepayers are likely to see rate increases of at least 25 percent in the initial stages of the takeover of a public utility by a private company. Future increases could be expected as well.
The selling of a city-controlled asset such as a utility presents the city with at least a temporary cash flow advantage, Dunn said.  “Our utilities are accounted for as an enterprise,” Dunn said, which requires that all of the funds pertaining to it be kept in a sequestered account. “We can’t move that money into the general fund without a basis for doing so. By leasing the system and converting that asset into the possession of a private company, the company pays the city for the privilege of running the system and that money goes into the general fund.”
Dunn told the Sentinel this week that no decision to sell Upland’s water division has been made. Nor has the budget task force committee yet considered it. Nevertheless, he said, privatization of the city’s water and sewer divisions is “third” on the list of options he said he wants the committee to consider when it begins its deliberations.
“We are not committed to this,” he said. ‘We haven’t got close to that. It is one of the top three things I would consider. If the committee recommends it, it still has to be approved by the city council. Just because the committee recommends it, it is not necessarily going to be accepted by the council. The only reason this is out there is because when it comes to raising revenue, we can talk about taxes  but getting residents to approve it is going to be difficult. So, at the same time we are looking at what assets we have. When we use the term privatization we are not necessarily talking about selling the  water division, but more like changing from public sector to private sector employees.”
The idea was sparked, Dunn said, at least partially by the circumstance in Rialto.
“When we heard of the Rialto deal, I talked to the company about it,” he said. “I wanted to know what it entailed. After they [Table Rock] did the Rialto deal, they were obviously reaching out to other cities. They reached out to us. They threw out $30 million plus a potential $4 million per year. That was not firm and they said they would  have to study it to come up with a hard set of numbers. It is hard to say right now how they would make it result in system capitalization, which would exist in the form of them borrowing against the system using the rates paid by customers as a form of debt service. Obviously that would require an increase in rates.”
“We haven’t pulled the trigger on this,” Dunn said. “It is definitely an option, just as it was an option in 2001.”
Dunn’s reference was to a fiscal crisis that faced the city a dozen years ago that resulted in the consideration of a host of cost-cutting and revenue-enhancing moves. “What the city would  consider is a transfer of the water asset and its accompanying sewer service,” Dunn said. “It is an option available and I am testing to see if it is up for consideration with the committee and the council, as I don’t want to waste my time if I don’t have support for it from the council. If they don’t even want to consider it, I don’t want to spend effort on this if they have no interest in dealing with it. I could see it happening if everything lines up and there is support. I could live with a lease arrangement, personally, but I am not advocating selling our water department outright, by any means.”
Dunn said the public should not blur the distinction between the city’s water department and the local purveyors of water, which include the San Antonio Water Company, Western Water, an entity known as the Water Facility Authority, which is a consortium of five water agencies, and Metropolitan Water. The city owns 68 percent of the San Antonio Water Company and owns a few wells independently. A privatization move would not involve sales of any of those entities, he said.
One option available to the city with regard to its water division does not involve privatization, Dunn said. The city could, he said, simply up its water rates. Dunn said the city council can essentially act on its own to raise water rates, subject only to the restriction of Proposition 218, which provides customers/rate payers with the opportunity to protest the rate increase. If more than 50 percent of those subject to the rate increases file written protests, the rate increase cannot be effectuated, under Proposition 218. But the Proposition 218 restriction, Dunn said, is a mere formality, since without a highly organized rate increase opposition campaign, the prospect that a majority of residents will lodge protests is virtually nonexistent he said.
Councilman Gino Filippi this week told the Sentinel, “No one to my knowledge is advocating selling of any water/sewer assets. I am interested in the discussion of possible options regarding contracting out of water/sewer operations.”

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