Thursday, September 01, 2011

Austin Water’s bond rating may look better if Water Treatment Plant 4 delayed

In the wake of a breathtakingly high estimate from city staff on the cost to shut down construction of Water Treatment Plant 4 (WTP4), the temptation for city council to just build the project out as planned may be overwhelming. Some have even claimed that the city’s bond rating might go down if the project isn’t completed immediately.  But city staff estimates throughout this process have been notoriously unreliable and always directed towards getting a “yes” vote to build out the plant.
A more realistic review of the utility’s finances reveals a strong argument for delaying WTP4  as perhaps the only fiscally prudent decision. Weather patterns and individual conservation have combined to reduce water use so much that the plant simply can’t be paid for without massive, politically unsustainable rate hikes that punish the poor and those who conserve most.
But first, a little context. Austin Water’s bond rating (AA-) is already lower than the city’s general revenue bonds because their income flow long-term appears not to match their increased spending and debt load. Truth be told, I suspect any ratings agency that looked too closely at the Austin Water Utility’s future water sales projections in their bond prospectus might consider downgrading the debt further if the plant goes forward.
The entirely predictable effects of a half-billion in new debt are starting to kick in: Before the City Council’s vote last year to begin construction of WTP4, the water utility told the council and the public that water rates for the average residential customer would go up 34 percent over six years if the project went through. The SOS Alliance hired me to separately analyze rate projections and in a report (pdf) titled “The Perfect Storm,” I projected rates would rise 74% over six years (including last year’s rate hike).
After construction of  WTP4 was underway, the city quietly admitted that predictions of much-higher residential rates were accurate, and then some. In the current proposed budget, not only will the city raise residential rates by 66% in the next five years, city staff wants to tack on immediately an Orwellian-named $6 per meter monthly “sustainability fee.”
 I say “Orwellian” because the fee really pays for an unsustainable business model that depends on the city selling far more water over the next decade than appears remotely likely. The “sustainability” fee is both front-loaded and heavily regressive; including it results in immediate rate hikes of 26% for the "average" residential customer and 66% for those using the least amount of water, according to city estimates.  Residents using the most water would see only a 7% increase. That’s a dramatic shift from the focus in recent years on “conservation pricing,“ which raised prices most on the most profligate water users.
Which brings us to the issue of the credibility of city estimates. If I could tell last year that rates must rise that much to pay for all this debt (as could, by the way, any kid with an A or B in 9th grade algebra), why couldn’t Austin Water? City staff projections have erred consistently and dramatically throughout the long debate over WTP4, but were always biased in one direction: favoring the plant’s immediate construction. So I don’t know what the cost of mothballing WTP4 would be, but the $138 million figure seems incredible and unlikely considering city estimates that just 15% of the work is done.
The far bigger problem is that the city has told bondholders that their water sales – especially peak use in the hottest days, which is all even proponents say the plant is needed for – are on a steadily rising trend that will generate enough revenue to pay for the bonds. In reality, though, conservation measures have reduced per-capita consumption. So, for example, even on the hottest day this summer Austin’s peak use hasn’t topped 221 million gallons (Aug. 28), while in its bond prospectus, the city estimated to purchasers of its debt that peak use would reach 254 mgd in 2011, a number we’ve virtually no chance of hitting.
Indeed, somewhat confusingly, in that same prospectus, sworn truthful as of November 1, 2010, the city told bondholders that FY 2010’s “projected” peak day was 249 mgd. In fact, the fiscal year had already ended by that time and the peak day (of a quite rainy year) was just 193 mgd (Aug. 29). Similar, the actual total annual water pumpage in FY 2010 was 21.6% below what was told to those purchasing the city’s debt.  Especially considering about 8% of that was leakage that never actually reached the customers (or their meters), the city is simply not selling the quantities of water bondholders were told would be necessary to pay off the debt. Notably, the bond prospectus estimates fail entirely to take into account the effects of higher rates and recently adopted conservation goals to reduce per capita consumption to 140 gallons per capita per day by 2020.
The confluence of all these factors leaves the utility one, predictable option and we’re now seeing it: Raise rates even higher, and preferably (from the standpoint of selling the most water) in a way that deemphasizes conservation and encourages more water sales. That’s not in the city’s long-term best interest. Given low levels in the Highland Lakes it may not even be physically possible to sell as much water as the city has projected in representations to bondholders. This plant won’t produce more water, it only treats water we already have. Conservation remains our most effective approach to drought conditions, and should be reinforced, not undermined, by pricing decisions.
Even if it cost millions to mothball WTP4, launching such a high-dollar project without sufficient demand to justify the expense was just a bad management decision. If they chose to pause construction because the plant’s not needed, the City of Austin would be no more likely punished by the bond raters than was the Intel Corporation after they stopped construction of a large new building mid-stream just two blocks from Austin’s city hall. The company did so because their changing economic situation couldn’t support it and they were flexible enough to recognize it and make a decision in their long-term fiscal best interest.
The question is whether a majority on the Austin City Council will do the same, injecting some fiscal sanity into management of the water utility? Or will Austin just raise rates ad infinitum to secure promised revenues to bondholders from increased water sales that it’s obvious won’t be forthcoming? Will the city council protect ratepayers before this self-inflicted debt bubble bursts or just soak them afterward and pretend they had no choice? When you find yourself trapped in a hole, the saying goes, the first thing to do is stop digging.

The author is a consultant for the Save Our Springs Alliance hired to analyze Austin Water Utility finances and their effects on residential water rates, though this article was not pre-vetted by SOS or any other group.