Manage My Budget

“Conserving water won’t necessarily save you money!” Appearing on a local news website last autumn in northern California this headline highlights an interesting situation when water utility customers – after engaging in a successful conservation effort – received the surprising gift of an 8% water rate increase. An inside analysis of how utilities typically must manage costs provides insight into how successful conservation programs may result in an increase to customer’s water rates. For those in Water Rate Consulting, this is nothing new.

Large increases following a successful conservation effort doesn’t seem natural. Customers generally believe that cutting back on their water use should result in a reduced bill for water service. If user’s charges are calculated on a cost per gallon or cost per unit of service, this may be true – at least in the short term. Using less water usually does result in lower customer charges for water service.

Most consumers believe that their water service provider should also see its costs reduced since fewer units, or in this case, gallons, are sold. In the case of an effective conservation program where consumers reduce consumption, the theory holds that the provider should also see its costs reduced as well. And all should be equitable.

When water providers begin to understand and manage their actual costs, this model no longer holds true. Unfortunately, many provider costs can be characterized as “fixed” or set costs. These costs do not change in relation to the number of gallons provided or number of units sold. In the case of water providers, these costs generally include maintenance, insurance, debt service as well as payroll and other costs that won’t be reduced if customers consume fewer gallons of water. In short, fixed costs occur at steady levels without relationship to customer use and are required by the utility to provide ongoing service to existing customers.

Water utilities earn revenue based on the amount of water used or delivered. Revenue to the utility then is a simple function of price times cost per unit (gallons) of service. Users conserving water can trim their charges for service, but these reductions only lower the revenue enjoyed by the provider. And because utilities have significant expense obligations that are not tied to level of customer consumption, these utilities can find themselves struggling to meet existing and ongoing costs. Conservation programs then reduce – sometimes considerably – the revenue needed to continue delivering water service.

Water consumers may enjoy a lower bill for service by cutting back on usage, but the water provider sees its revenue reduced. Because of the provider’s cost structure, the provider cannot remain financially viable in the long term should its expenses be greater than total revenue.

Instances where utility expenses threaten to outpace revenues is usually marked by requests for a rate hike. Increases in rates then erase any gain the customer conservation efforts produced. After all, if fewer units are sold, the rate per unit (gallon) is going to have to be raised to a level that provides enough revenue to support the providers’ ongoing operations. This results in a basic conflict between provider revenue requirements and efforts to reduce customer bills.

Rates can be designed in advance to help offset some of the expected losses, thus stabilizing rates to some degree. Experienced water rate consultants can help design these kinds of rates in advance, and that’s a much better plan than waiting to see what happens after the fact.

Consultant Jason Mumm is a highly respected among Utility Consultants and specializes in water and wastewater utility services. With extensive experience providing finanical and operational guidance to water utility organizations, Jason helps clients attain financial success while managing consumer rates.