Proposed New Orleans Contract Operations

Summary of proposed project provided by the Bureau of Government Research
http://www.bgr.org
excerpted from report written by Patricia Morris <pemorris@bgr.org>

Background

In 1998, the New Orleans Sewerage and Water Board (S&WB) settled a lawsuit filed by the U.S. Environmental Protection Agency to force the city‘s sewer system to comply with pollution control regulations. The settlement, in the form of an enforceable federal consent decree, started a 13-year process that will require about $455 million to fix New Orleans‘ aging sewer system. Federal grants are possible (but not guaranteed) for up to $100 million of this; the balance must be raised locally.

The strain of funding the consent decree comes at a time when the S&WB is pressured by other financial demands:

  • Day-to-day maintenance of an aging infrastructure buried in unstable soils. Much of the 3,000 miles of New Orleans‘ water and sewer system is more than 50 years old. Drainage pumps and the electrical generating plant that powers them were built at the turn of the century, and are still in service.
  • Major water treatment plant improvements to comply with new drinking water standards.
  • Capital improvements to increase the drainage system capacity.

In October 1998, in response to the consent decree, the S&WB asked the New Orleans City Council to approve a 42% sewer fee increase staged in five annual increments: 17%, 13%, 4%, 4%, and 4%. The fee increase languished for a year and a half with no action by the council, putting the S&WB and the city government in danger of incurring fines as high as $10,000 per day for violating the consent decree. However, on March 2, 2000, and only after intense debate, the City council approved a one-step 30% sewer fee increase.

In a move unrelated to the consent decree, the S&WB also proposed a new drainage fee in October 1998 to generate the local match that would leverage over $300 million in federal funds for drainage capacity improvements. The City Council has not yet acted on that proposal.

Structure of the S&WB

The S&WB‘s ability to satisfy mounting financial demands is hampered by a cumbersome decision-making process that drains executive and managerial resources from the substantive work of the S&WB.

Although the S&WB is ostensibly an independent agency, its operation is tightly entwined with city government. Of the Board‘s 13 members, four are elected city officials, and seven others are appointed by the mayor with council approval. The remaining two are members of the Board of Liquidation, City Debt, appointed by the mayor on that board‘s recommendation. The mayoral appointees serve staggered nine-year terms.

Elected officials dominate the S&WB‘s leadership and committee structure. Currently, one councilman-at-large chairs the Board‘s Sewer and Water Committee; the other chairs the Drainage Committee. A district council member chairs the Finance Committee, and the mayor is the S&WB President. This dominance is amplified by the fact that major S&WB construction contracts must be approved by the City Council.

The S&WB‘s six committees require a large number of staff (up to 20) and consultants at each committee meeting. Disagreements over committee jurisdiction result in month-to-month delays as undecided issues bounce from committee to committee, then to the full Board.

State law requires the S&WB to set user fees, subject to the City Council‘s ratification. With four elected officials on the S&WB, electoral pressures can exert a strong influence to delay action on rate increases. When the S&WB voted in October 1998 to recommend increasing sewer fees by 42%, the three City Council members sitting on the S&WB voted "for," yet the City Council did not act on increasing fees until 18 months later.

The 1998 sewer and drainage fee proposals came at a politically inopportune time. They would have added to the burden of a new property service charge the city was seeking in 1998. The service fee was defeated by the voters.

Another entanglement between the S&WB and the city is a complex agreement governing responsibilities for subsurface drainage. The agreement addresses design and construction of water, sewer, and drainage lines when the city reconstructs a street, and sets up a system to account for the costs involved. The agreement was renewed most recently in July 1992.

Constructing drainage lines over 36" in diameter is the S&WB‘s responsibility while the city is responsible for constructing or reconstructing the balance. Despite this division of construction responsibility, the S&WB agreed to maintain the smaller lines "if the Board has funds available and the legal authority to use same." This maintenance responsibility is a contentious issue. The S&WB staff has recommended discontinuing this work as a cost-saving measure.

Historical Trends

Since 1989, the S&WB‘s revenue (excluding the proceeds of bond issues) has declined over 23% in real dollars. During the same period, inflation adjusted expenditures (including depreciation) have grown by about 13%. In a growing community, an expanding customer base typically yields increasing revenue without increasing rates. In contrast, the S&WB customer base has been stagnant at about 139,000 since 1993.

Service fees fund the sewer and water systems. Adjusted for inflation, the revenue from these fees has steadily declined over the last 10 years. See Figure B. Until the March 2000 fee increase, sewer rates had not changed since 1986. Water rates have remained unchanged since 1990. The Board has in reserve a 12% rate hike for the water system approved by the City Council in the early 1980‘s as the fifth of a five-step increase. The 12% was originally slated to become effective in 1990, but because some capital improvements were postponed, the Board has held the increase in abeyance.

While the public may have the perception that S&WB bills have increased since then, the perception may be due to changes in sanitation/garbage collection charges imposed by the City of New Orleans (currently $11.00 per month). The S&WB merely serves as a collection agent for this fee, which is passed through to the city.

Drainage is funded with property tax, currently at 22.59 mills. The voters rejected an extension of a four mill tax in 1992, reducing drainage revenues by about $6 million per year. The only recent growth in tax revenue for drainage has been through a overall growth in the property tax base.

Current Financial Picture

The S&WB‘s total operating budget for 2000 is $99.3 million. By system, budgeted expenses are:

Sewer: $33.4 million

Water:   46.5 million

Drainage:19.4 million

TOTAL: $99.3 million

Although it is a single entity, state law requires the S&WB’s three main functions to operate as separate cost centers. Sewer, water, and drainage each have dedicated revenue sources that may be used only within that system. For each system, the net revenue after operating expenditures is available for debt service and capital improvements, but only for that particular service.

Sewerage Collection and Treatment

Approximately 76% ($44.1 million) of the 2000 sewer capital budget is to satisfy the consent decree. Another 15% ($8.5 million) is to upgrade the Algiers wastewater treatment plant to comply with an earlier EPA administrative order. The balance of the sewer capital budget is the sewerage systems’ share of general budget items and an emergency reserve.

Total Rehabilitation Capital Costs       $455.8

Encumbered, through 2/9/00                  45.6

New Funding Required through 2010:  $410.2

The S&WB’s original estimate of $250 million for consent decree capital requirements proved far too low. Initial work in the Lakeview Basin indicates more breaks than anticipated, and that an economical trenchless repair technique is not feasible to the extent originally planned. Currently, the S&WB consultants estimate that it will take over $455 million to comply with the consent decree and to perform similar work in Algiers.

The S&WB‘s funding relief from the 30% sewer rate increase will be short-lived. By late 2001, sewer revenues available for capital improvements will be insufficient to meet consent decree commitments. Additional sewer fee increases will be needed in late 2001 and beyond. S&WB consultants estimate that under the status quo, an additional 12% increase each year will be necessary from 2001 through 2004. Cuts in S&WB operating expenditures can offset some of this, but even the most optimistic projections of privatization savings would not offset all of the projected increase.

Water Treatment and Distribution

The S&WB treats 143 million gallons of Mississippi River water daily, but collects fees for only about half of it. By statute, the S&WB must provide free service to a number of public entities. [Endnote 4] The largest single beneficiary of the free water is the office of the Criminal Sheriff ($939,662 in 1999). Firefighting and sewer cleanout operations constitute a significant

portion of the "free" water. The volume is unmetered, and, therefore, the cost is unknown. More troubling are leaks in the system. The S&WB does not have a reliable estimate of the value of water lost through leaks, but it appears to be a substantial share of the "free" water.

Existing revenues are sufficient to support the water system capital needs in 2000. Beginning in 2001, the water system will probably require improvements that its current budget will not support. The existing authority for a 12% water rate increase, even if exercised in the near future, might not be enough to fund future EPA clean water regulations.

Sixty percent of the water system’s five-year capital program is earmarked for advanced water treatment facilities in 2001 and 2002. Improvements are scheduled at both the Eastbank and Westbank plants in response to increasingly stringent EPA requirements to remove pathogens (disease-causing organisms) as well as carcinogens. The regulations are still in flux, so further treatment changes (and capital expenditures) may be required.

Drainage

With the distinction of being the only U.S. city below sea level, New Orleans could not have developed without an extensive drainage collection and pumping system. The existing system can remove roughly one inch of rainfall in the first hour, and an additional half-inch per hour after that.

Several so-called one-hundred-year floods in the past decade exceeded the system‘s capacity and inflicted hundreds of millions of dollars in property damage. Responding to this problem in 1996, Congress authorized the multi-year Southeastern Louisiana Urban Flood Control Program (SELA) to provide 75% federal funding through the Army Corps of Engineers, but only for projects that increase drainage capacity.

When combined with federal SELA money, the S&WB has $127.3 million available to fund the drainage capital projects in 2000, which is more than adequate. It is in 2001 and beyond that existing drainage revenues will be insufficient to match available federal funds to up-grade drainage capacity. The drainage service fee proposed by the S&WB in 1998 was designed to close this gap.

The S&WB is not required to carry out the SELA projects. However, the SELA program is an opportunity to be seized: for the 25% match, New Orleans will reap 100% of the benefits.

Closing the Capital Funding Gap

Increasing User Fees

Existing water and sewer rates in New Orleans are moderate compared with other large jurisdictions. For example, Houston residents pay 24% more, while Birmingham users get a bill more than twice as high. Other jurisdictions—including some in the New Orleans area—have lower rates. But those jurisdictions are unlike New Orleans in a major respect: they subsidize

user fees with other sources of revenue, and their user fees therefore do not reflect the true cost of service. For example, a half-cent sales tax and the city general fund subsidize the Baton Rouge sewer system. Jefferson Parish subsidizes its sewer and water rates with property taxes. St. Bernard Parish has a dedicated one-half-cent sales tax for sewer service.

In lieu of the five-step 42% sewer fee increase proposed in 1998, the S&WB and the City Council considered several stop-gap proposals in early 2000 and ultimately approved a one-step 30% increase. This is enough to satisfy the consent decree requirements for 2000 and most of 2001, but not beyond.

Even though the S&WB is currently on schedule under the consent decree, the 18 month delay in approving the fee increase seriously impacted the funds available for capital projects. Higher revenue does not immediately increase bonding capacity, which is limited by formulas tied to past and future net revenues. State law establishes two financial requirements: calendar year debt service may not exceed 77% of average net revenue for the two years before bonds are authorized, and rates must generate enough net revenue to cover at least 130% of future debt service.

The S&WB can work around these constraints to some extent, but will incur additional financing costs in the process. Because the 30% rate increase has not been in place for the requisite period, the S&WB must resort to issuing bond anticipation notes in 2000 and 2001, to be repaid by the sale of future bonds. This puts the S&WB in the position of borrowing today to finance more borrowing tomorrow.

Privatizaton

Reductions in S&WB operating costs can offset some of the fee increases projected to support capital projects. The S&WB has commissioned several studies to identify potential savings, either through internal reorganization and work efficiency improvement, or through privatization.

In February 1999, the S&WB hired the national firm of EMA Service, Inc. to recommend efficiency improvements for the Networks Division, which performs minor and emergency repairs for all three systems. (Private contractors currently perform most major repairs.) EMA‘s November 1999 analysis found significant inefficiencies, including:

  • The top-heavy organizational structure has one supervisor for every three workers.
  • Most of the work is reactive and 40% more costly than preventative work.
  • There are too many specialty crews.
  • Equipment repairs take too long, and responsibility is split among departments.
  • Poorly scheduled support activities (such as equipment maintenance and parts stocking) reduce the time work crews have available to spend on the repair jobs.

EMA‘s recommendations include eliminating the division of repair crews by system, assigning multi-skilled workers to smaller crews, and assigning work on a zone basis to foster a sense of worker ownership of each service areas. Some of these recommendations have already been implemented, and the S&WB staff indicates that the efficiency improvements have helped reduce the repair backlog.

Implementing EMA‘s recommendations would cost $1.2 million. EMA estimates that the resulting efficiency improvements would be equivalent to $4 million a year. EMA‘s study was designed to improve efficiency rather than cut costs. Efficiency improvements per se will not translate into cost savings unless the workforce is reduced or other expenses are trimmed.

Assuming these occur, EMA‘s recommendations have the potential for shaving three to five percentage points off user charges in the long term.

In March 2000, the Board voted to implement a revised version of EMA‘s proposal. One reason for the four month delay following EMA‘s recommendations in November 1999 was the time it took to present the proposal to five S&WB committees.

Separate from EMA‘s work, the S&WB staff has recommended additional cost cutting/cost-shifting measures. S&WB management recommended staff reductions and eliminating standby and overtime pay, with savings of over $1.5 million. As a practical matter, some of these savings are being realized through attrition. Other proposals (along with the staff‘s estimated annual savings) include:

  • Have the pension fund absorb its expenses ($600,000).
  • Repeal statutory prevailing wage requirement for construction contracts ($1.5 million). [Endnote 6] The S&WB is the
  • only agency to which this applies. A similar requirement previously imposed on the city has long since been repealed.
  • Purchase natural gas for the power plant on the open market ($3 million). The S&WB attempted this in 1995, but was
  • rebuffed in court on the grounds that open market purchase would violate NOPSI’s exclusive gas franchise.
  • Rebid the wastewater treatment plant operating contract ($750,000 to $1.0 million).
  • Discontinue free service ($4.3 million).
  • Shift catch basin cleaning to the city‘s work force ($3.9 million).

The Board has already rejected some of the recommendations, some require legislative approval, and some have legal problems. Further, the last two proposals would only shift expenses to other public entities rather than save money in the aggregate. The ratepayers/taxpayers of Orleans Parish would ultimately foot the bill.

Role of Privatization

Privatization is not new to the S&WB. Wastewater treatment plant operations have been privatized since 1992. Computer operations in the central office, security, and janitorial services are contracted. Street repairs necessitated by utility work are generally let out to private companies. The S&WB plans to invite proposals to privatize a new power plant.

It was only recently that the S&WB began to consider privatizing the sewer and water collection and distribution network, which includes the thousands of miles of pipe under the streets of New Orleans. Privatizing this network activity is totally new to the S&WB, and is largely new to other parts of the country. Although there are many examples of privatized water and sewer treatment plants, privatized network operations are unusual.

On June 8, 1999, the S&WB engaged Verner Liipfert (a Washington, D.C. law firm which also advises the City Council‘s Utility Committee), teamed with Camp Dresser & McKee, Inc., Deloitte & Touche LLP, and Essential Environmental Engineering, Inc. Verner Liipfert engaged a local attorney, William Broadhurst, to assist in the effort. This team, collectively called the "financial advisor," was selected without a competitive procurement process. The S&WB asked the financial advisor to provide "an accurate analysis of the factors affecting the Systems‘ user fees . . . if SWB adopts any of the alternatives available for operating the Systems." The contract does not include the drainage system or the power plant and electrical transmission system.

The original financial advisors‘ contract had a maximum price tag of $100,000 plus expenses. The contract was amended twice. In July 1999, it was extended and increased by $75,000; in February 2000, it was extended and increased again by $150,000 to its current amount of $325,000 plus expenses.

The financial advisor has produced two reports thus far. Both reports describe the experiences of utility privatization contracts in other areas of the country, but neither report analyzes how those experiences apply to New Orleans. The second (the more comprehensive of the reports) consists largely of news clippings about systems in other communities depicted as privatized success stories.

The report offers four examples of privatized management, operations, and maintenance: Atlanta (water only), Indianapolis, Milwaukee, and New Haven (sewer only). The reports do not provide data on how the 20 to 40% savings claimed for privatization in other communities was calculated. BGR‘s review indicates that none of the privatizations highlighted in the report provide a solid basis to estimate potential savings here. The examples of privatization savings

presented in the reports do not present situations easily transferable to New Orleans. The "comparables" are not comparable.

Neither report analyzes where S&WB privatization savings would occur, nor does either estimate what the savings might be. Instead, the analyses simply assume the S&WB would save 20 to 40% of operating and maintenance costs, and calculate the fee impact of this assumed savings.

One of the problems with applying a 20 to 40% rate savings to New Orleans is that the savings illustrated by the financial advisor have not been achieved in comparable situations. Such savings have been reported where treatment plants—not networks—dominated the privatized scope of work. Here, the wastewater treatment plants are already privatized.

Self-contained treatment plants lend themselves to privatization. They are clearly defined, readily inspected facilities with well-known operating parameters that a contractor can directly control. They can be automated. The scope of work is largely determinable. In contrast, network operations involve facilities that are almost totally underground and subject to deterioration and damage from largely uncontrollable forces such as unstable soils, heavy bus and truck traffic, and adjacent construction activities.

The Verner Liipfert team has recommended packaging all sewer and water functions together in a "global" privatization. As a result, the S&WB has postponed rebidding private operation of its sewerage treatment plants. Since 1992, a private contractor has been operating the sewerage treatment plants, originally under a five-year contract, now extended on a year-to-year basis. The S&WB staff estimates probable annual savings of $750,000 to $1 million on the $7 million contract if it were rebid.

The financial advisor‘s recommendation to proceed with privatization did not address the specific steps necessary to get there, nor did the reports analyze the legal constraints (such as state purchasing laws and civil service requirements) on privatizing.

On the basis of the first two reports, the S&WB decided to have the financial advisor develop a plan for a managed competition procurement. Managed competition is a variant of privatization in which private companies and the existing S&WB staff would bid against each other. While privately managed utilities have some advantages, staff-managed systems also have some, such as the advantage of not having to pay taxes or produce a profit for shareholders. Public workers tend to win bids when service is labor-intensive, and private contractors tend to win when the service is technological or capital-intensive.

The contract amendment to develop a managed competition procurement plan directs the financial advisor to "present options and recommendations for a scope for the procurement, outline criteria for a RFP/RFQ and proposed contract…determine a time line… outline the S&WB‘s responsibilities… and develop a cost budget for the process." The report is due in mid-May.

Impact of Civil Service

All but five of the S&WB‘s 1,375 employees are classified civil servants. The constitutionally independent New Orleans Civil Service Commission has considerable power over privatizing or restructuring the S&WB. The commission‘s regulations prohibit privatization without the commission‘s prior approval. [Endnote 8] (The Commission approved the privatization of the S&WB‘s wastewater treatment plants in 1992.)

Thus far, civil service has not been addressed in the financial advisor‘s analyses; and EMA has only begun to evaluate the role of civil service in implementing efficiency improvement recommendations. How civil service reacts will affect how well the S&WB staff can compete with private contractors in a managed competition procurement.

 Job Retention

For the cities used as examples of privatization savings, the financial advisor noted "a significant amount of the savings were the result of sizable employee reductions…." Some members of the S&WB have indicated publicly that they favor a "no layoff" provision in a privatization contract, a common clause in the transfer of public utilities to private, for-profit management.

Approximately 57% of the S&WB budget is devoted either directly or indirectly to personnel costs. To the extent that this is "off limits" in the privatization process, the potential for savings through privatization will be reduced. Additionally, the city‘s own workforce may be disrupted if S&WB employees are protected by "bumping" less senior employees in other civil service jobs with the city—a right afforded them under civil service rules.

Planned attrition can ease the impact of privatization on the existing workforce. Attrition at the S&WB historically occurs disproportionately among the low skill laborer positions, which does little to thin out the overpopulated supervisory ranks. However, the EMA study noted that the higher skilled employees are in the supervisory levels, and that redeploying these workers to field operations could improve performance.