Funding Asset Replacement:One Agency’s Experience

WEFTEC 2000Anaheim, CaliforniaOctober 18, 2000

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SRP’s Purpose

SRP: “System Replacement Planning

Help water/wastewater utility management formulate financial policy for long-term system replacement needs

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Why?

CMOM “long-term spill mitigation”

GASB 34 “modified approach” compliance

Establish effective reserve policy

Defend existing reserves (“Little Hoover” issues)

Maintain integrity of infrastructure (WIN Report)

Position for upcoming federal funding

Key component of good asset management!

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Who?

Irvine Ranch Water District

Orange County Sanitation District

Orange County Water District

Maui Board of Water Supply

Roseville Water and Sewer

City of Oxnard

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Elements of an SRP

SystemReplacement

Plan

Pipe inventory

Replacement costs

Plant inventory

Useful lives

Earnings rate

Inflation rate

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Orange County Water District

Major groundwater management agencyManages groundwater for 2.2 million people in Orange CountySignificant infrastructure assets (pipes, reclamation plants, wells, etc.)Planning (with Orange County Sanitation District) a very large reclamation/recharge project, “GWRS”Asset management considered a key issue

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Inventories in General

Need to inventory assets: Plant Pipe Equipment

Each asset needs: Useful life in years Current replacement cost

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Useful Life

Remaining useful life can be based on assessed condition plus engineering judgment

If there is no assessment, it can also be based on year in service and “typical” useful life for the type of asset

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Replacement Cost

What would it cost to replace now?

This may be higher than original cost,

especially pipe (right-of-way issues)

Changes in standards and technology

can also affect replacement cost

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Refurbishments

Each asset class can have several types of capital refurbishment – for instance: Painting Electrical rehab Mechanical rehab New pumps

Each needs a cost and an interval

Cost can be a percentage of replacement cost

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Tying Assets to the Fund

Replacement Fund is the fundamental tool for accumulating replacement money

Need: Starting balance, earnings rate Annual replenishment amount(s) Percent of replacements funded Annual “miscellaneous” costs

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Other Funding Sources

Rate surcharges

Special bond issues

Misc. cash flows

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Replacement Planning Model

The RPM takes the inventories and

financial data and creates reports

Calculates future replacement costs and

facilitates replacement fund analysis

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RPM Reports

Fund expenditures by yearFund balances by yearCash flow from bond issuancesReplacement needs (various categories)System replacement value, in aggregate or by sub-systemOthers

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RPM’s “Control Panel”

Pattern of Future Costs

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Expected Fund Performance

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Value of System Assets

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Making policy

Replacement policy will be a mix of: Establishing the initial fund balance Setting annual transfers from operations Issuing bonds (as needed) Assessing user surcharges (as needed)

Best mix of these four will have smoothest rate impact and will avoid accumulation of large fund balances

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OCWD’s Experience

OCWD established an asset replacement fund (balance and replenishment amount)

To control fund expenditures, procedures were needed and questions had to be answered

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Typical Questions (1)

“We need to replace meters and pump impellors as they are drawn from stock for routine maintenance. Should these be funded from the Replacement Fund?”

“We’re replacing a pickup, but want the new one to be four-wheel drive with an extended cab. It will cost 50 percent more. How do we handle this?”

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Typical Questions (2)

“We’re replacing several desktop computers. The new computers will be far more powerful than the old ones, but the costs will be about the same. Which fund should we charge to?”

“Some of our analytical equipment is obsolete, even though it’s only three years old. It cannot detect contaminants at the levels required by new regulations. Does this qualify as a Replacement Fund expenditure?”

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Typical Questions (3)

“One of our injection wells is failing. We want to replace it with a new one, but to leave the old well in place with limited capacity. Is this a replacement?”

“We want to extend the lives of some of our pipes by interior coating. Is this a qualifying cost?”

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Responding to the Questions

Clear policies were needed for expenditures qualifying for the replacement fund

These policies were built around definitions of key terms: Replacements Refurbishments Upgrades Additions

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Replacement Criteria

“A qualifying investment will replace the functionality of an existing asset, and the existing asset will be taken out of service or remain in a state of severely impaired functionality.”

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Refurbishment Criteria

“A qualifying investment will maintain an existing asset’s functionality, will have a value of greater that $3,000, and will extend the asset’s life by three years or more.”

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Upgrade Criteria

An upgrade will qualify for funding if:

The functionality of the new asset includes the functionality of the asset being replaced

Management agrees that the added functionality is required or desirable; and

The cost of the new asset does not exceed 130% of the original cost of the asset being replaced on an inflation-adjusted basis.

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Asset additions

“An addition is the placing in service of an asset that does not replace the functionality of an existing asset being taken out of service or extend the life of an existing asset. The Replacement Fund does not pay for additions.”

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Accounting Effects of Funding

Separate funds were set up to account for replacement and refurbishment expenses

Because of OCWD’s fund structure, this became somewhat complex

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Assignment of Expendituresto Funds

Purchase item orservice

Is it a project?

Is it a newproject?

PROJECT(system asset or

infrastructure)

901 CapitalFund

60-01 account70-01 account

991 ReplacementFund

60-01 account70-01 account

A NEW PROJECT

Is it replacing aretired asset?

NOT A PROJECT(fixed asset or

service & supply)

REPLACING AFIXED ASSET

Is it a Replacementor a refurbishment?

NOT A NEW PROJECT

A NEWFIXED ASSET

991 RefurbishmentFund

60-02 account

REFURBISHMENT(on-going repairs)

REPLACEMENT(one-time)

881 GeneralFund

Service & Supplies14-01 to 39-99

accounts

901 CapitalFund

40-01 account40-02 account

991 ReplacementFund

40-01 account40-02 account

Is it less than$1,000?

LESS THAN $1,000service or supply

GREATER THANOR EQUAL TO

$1,000

Amount aboveoriginal operational

level?

Amount aboveoriginal operational

level?

AMOUNT ABOVEORIGINAL

OPERATINGVALUE

AMOUNT OFORIGINAL

OPERATINGVALUE

AMOUNT OFORIGINAL

OPERATINGVALUE

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RPM Calibration

Finally, the RPM needed to be “calibrated” against real-life replacement costs

For two years, replacement costs have been somewhat lower than RPM forecasts

Staff is considering adjusting (lengthening) some useful lives to increase forecast accuracy

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Summary

Orange County Water District has established a replacement fund based on its actual infrastructure inventory

Policies required for this fund and its use have been put into place

Staff is dealing with replacement funding programmatically, measuring results, and adjusting policies on an ongoing basis

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An Unexpected Benefit

OCWD’s bond rating, already high, was upgraded last year

The rating firm stated that the replacement fund, and staff’s seriousness about its application, contributed to this upgrade

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Questions/Discussion

Andrew V. CzornyAssociate General Manager/CFOOrange County Water DistrictFountain Valley, CA(714) 378-3271aczorny@ocwd.com

V. Kenneth HarlowDirector of Management ServicesBrown and CaldwellIrvine, CA(949) 260-6152kharlow@brwncald.com