WATER UTILITY PRIVATIZATION UPDATE

An article in the current issue of Water Environment & Technology magazine asserts that public-private partnerships between municipal-owned water utilities and investor-owned water utilities continue to increase.*

According to the report,the trend is being driven by the municipal utilities' need to upgrade infrastructure and a corresponding lack of sufficient financing resources to get the job done. Cities seem to be recognizing that they cannot afford the necessary capital investments in their water systems, particularly with competing other needs within the cities.

In addition, according to the article, municipal utilities are turning to privatization to achieve more cost-effective management of capital improvements as well as of daily system operations.

The article also points out that privatization can provide access to expertise, new technologies and operational best practices in addition to financial resources.

The key issue in any privatization arrangement, in my experience, is the CONTRACT -- the agreement that structures the deal, including the relationships and the responsibilities. This is true whether the privatization may be as simple as an outright sale of the entire system, or a more complex design/build arrangement, or a concession, or an operation management concept.

When privatization is distilled to its essence, it boils down to a shift of risk from municipal ownership to investor ownership of the local utility. That shifting of risk, when effected through a fair and adequately structured contractual arrangement, benefits both the local government as well as its customers. However, as the article states, the parties to privatization should focus on the long term and on performance standards more than design standards. Of course, performance standards must come with consequences if they are not met.

A recent Illinois SupremeCourt decision adds an interesting twist to the privatization discussion.** A a town entered into what in essence was a public-private partnership with a contractor, whose responsibility was to maintain and repair portions of the municipality's water and wastewater infrastructure and to operate its treatment facility. The Court held that the contractor was subject to the Illinois Prevailing Wage Act because the contractor was not a regulated public utility company considered as such by the state utilities commission or other state agency. Even though the contractor performed utility functions, the court said, it did not fall within the public utility exemption from the Prevailing Wage Act.

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* "When Public Goes Private", LaShell Stratton-Childers,
Water Environment & Technology, January, 2014, p.13

** People v. E.R.H. Enterprises, 2013 IL 115106

PRIVATE LIVES FOR PUBLIC BODIES--PART 2

Some in the media have implied that the purpose for privatization of municipal-owned water and wastewater systems is to raise needed money for other municipal activities. Some critics have asserted that privatization of these systems could result in higher rates for service.

However, in reality, there can be many different reasons for privatization beyond the raising of capital. I will cite two examples from my experience. A small town sold its water system to an investor-owned water utility company because the town leaders could no longer endure the prospect of disconnecting service to their neighbors who were not paying their water bills.

In another example, a larger town sold its water system to the same water company because its wells were going dry and the distribution system needed a costly upgrade. The water company was able to extend a long pipeline from its source of supply and treatment facilities to provide the town with a reliable supply and had the resources needed to upgrade the distribution system.

Therefore, while some privatization transactions may have the objective of providing funds to a municipality, privatizations may be pursued for other reasons such as:

1. Management issues (the headache factor). Operation of water and wastewater systems in compliance with all the multiplying and complex regulations under the Safe Drinking water Act, Clean Water Act and other rules requires a technical expertise that may be beyond a town's capability or endurance.

2. Cost factors. Utilities are experiencing increasing costs for staff and other operating expenses such as power and chemicals; increasing costs for security measures; and increasing capital costs for upgrades and replacements of infrastructure.

3. Source of supply factors. Wells may be reducing in productivity, necessitating searches for alternative and likely more expensive supplies.

Speculation that privatization necessarily will result in higher rates may be misplaced. In the first place, the rates of a municipal system may be unreasonably low due to subsidies from municipal funds other than rate revenue or due to deferrals of maintenance or upgrades that would have caused rate increases. Beyond that, acquisition or operation of a municipal-owned system by an investor-owned utility under some form of privatization can result in mitigation of any rate increase that would result from operational improvements or facility upgrades.

For example, a regional investor-owned water utility can offer economies of scale and efficiencies not available to a stand-alone town. Such a utility will have staff and expertise to handle regulatory compliance and monitoring requirements, security enhancements and management matters. If revenue requirements increase due to upgrades in operation or facilities, proposed rate increases most likely will require approval from a state utility commission. In addition, there may be regulation by contract. The privatization agreement may contain conditions and undertakings related to performance and rates. Indeed, customers may find that they have more rate protection after privatization than under prior municipal ownership.

PRIVATE LIVES FOR PUBLIC BODIES

The Wall Street Journal, in its August 12, 2010 print edition, discussed cities which are considering proposals to privatize their municipal-owned water and/or wastewater systems. The article suggests that a motivation for such privatization measures is the need to produce money for cash-strapped municipalities.

There is no inherent reason why water and wastewater utilities should be government owned. In the case of water, general caselaw is that municipalities which own water utilities do so in their proprietary capacity, not in their governmental capacity. There are no apparent natural efficiencies with governmental ownership. Further, there is caselaw that municipal systems can earn a profit.

Provision of water and/or wastewater service by investor-owned utilities is not a new idea. Many cities in the United States receive such service from such investor-owned utilities as American Water Works Co., Aqua America Inc., American States Water Co., California Water Service, Connecticut Water Service Co., and Middlesex Water Co. In Illinois, for example, cities such as Champaign, Urbana, Streator, Sterling, Pontiac, Peoria, and Kankakee have been served by investor-owned water companies for well over one hundred years. In addition, there are many small communities across the country there are served by small, local water and/or wasterwater public utility companies.

In a way, privatization is a misnomer. Most regional water and wastewater utility companies are owned by investors in the general public. All of the companies named above are listed on stock exchanges. Further, they are "public" utilities, affected with the public interest and regulated accordingly.

What is driving privatization today? It appears that the drivers include the following:

1. Evolving more stringent USEPA environmental standards are imposing capital requirements to enhance treatment facilities.

2. Infrastructure is becoming old, obsolete and worn out, imposing replacement costs.

3. There are increased risks of standards violations and civil liability for water-borne disease or polluted discharge.

4. For some, there is a need to find new water sources if supply.

5. For some, managing the systems is a headache and stressful to administrative resources.

6. Privatization can produce capital or free up capital for other municipal purposes.

7 Rate increases caused by increased costs to upgrade and operate systems are politically unattractive.

8. Regional public utilities can achieve economies of scale, which can mitigate rate increases.

9. Regional public utilities generally have expertise regarding management, compliance, and operations issues.

In most states, government-owned water and wastewater utilities are not subject to regulatory commission jurisdiction. Therefore, customers who have issues as to quality of service or reasonableness of rates are limited to litigation in the courts.
However, public utility companies generally are subject to regulatory commission jurisdiction in the states in which they operate. Customers, in such cases, can participate in rate and other proceedings before such agencies.

It should be kept in mind that privatization is not a singular concept. It can take several different forms: for example, out right sale of system assets, lease of assets, management contract, public-private partnership, etc.