How Utilities Can Change Investment Priorities to Improve their Finances

How Utilities Can Change Investment Priorities to Improve their Finances

Utilities reside in a heavily regulated world and these regulations have a strong influence on the way utility managers run their businesses. Whether through guidelines, best practices, or incentives and penalties in the programs they oversee, regulators shape the way utilities operate and spend their capital budgets. Understanding how this influence can lead to less than optimal capital investments will reveal opportunities for utilities to improve their cash flow and financial performance significantly.

One example is the uniform drive to reduce infiltration and inflow (I/I) at wastewater utilities. There are lots of good reasons for utilities to reduce I/I, but “it’s popular with the regulators” should not be the reason it is prioritized in capital plans. Smart capital planning begins with an in-depth understanding of a utility’s fiscal characteristics and is targeted at reducing long-term operating costs.

In a world with limited money for improvements, using the traditional planning approach can result in years of delay before the utility has the funds available to address the issues that make the biggest difference to their bottom line. Asking the questions, “How does the utility earn its revenue?” and “Where does it disproportionately spend its budget?” are critical to framing the question of how to intelligently target capital plans.

Prioritizing investments that improve finances

Woodard & Curran worked with two large utilities, each serving more than 100,000 customers, where differences in the way they spent their budgets resulted in vastly different investment priorities.

In the first case, a municipality with independently regulated water and sewer utilities, the city owned and operated a treatment plant. The plant had plenty of dry-weather excess capacity and, with the exception of debt service costs for past capital improvements, a preponderance of their operating budget was spent on staffing requirements. At the time of the analysis, the utility was completing capital upgrades at the plant and investing to reduce I/I, but was not actively attempting to reduce operating costs. In other words, it was spending its capital budget without a benefit to its fiscal operating position.

After looking at how it spent its budget and evaluating alternatives, the utility reprioritized investment plans to focus on upgrades to the automation of its pumping stations and treatment plants. These upgrades allowed the utility to significantly reduce its staffing requirements, shrink its overtime budgets, and instantly improve its operating economics.

In the second case, the community was a consecutive customer of the regional wastewater utility. Although staffing was a significant cost factor for the utility, the majority of its operating budget consisted of the annual levy from volumetric charges to the regional utility. The review of their operations identified that, in spite of the limited investment returns offered, a majority of their capital dollars were being spent on replacement of aged pipe under streets scheduled for repaving/redevelopment.

By reprioritizing investments on a “pay-back” basis, the city identified the reduction/removal of I/I as the single most cost-effective way to improve their operating economics. Additionally, it was the only effective way to reduce their annual levy to the regional utility. By specifically targeting I/I as the most important factor in their wastewater operations and directing its investment dollars where they could do the most good, the city reduced its costs of operation, reduced sewer rates, and allowed for more capital investment in other long-term priorities.

Both of these cases illustrate how entrenched patterns of capital planning lead to mistargeted investments. By putting capital investment strategy in context with economic considerations, and by crafting a plan that creates cost savings or revenue generation, utilities can substantially improve their fiscal situation without rate increases or impacts to service.

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