FINANCIAL MANAGEMENT OF WATER WORKS.
SUPERINTENDENT KUICHLING, of Rochester, N. Y., has published in No. 4 of vol. xxiii of the Proceedings of the American Society of Civil Engineers a very valuable article on “The Financial Management of Waterworks.” of which an abstract will prove useful.
The publication of the article in pamphlet form would be of infinite service to superintendents and others connected with water works—especially when the plant is owned by the municipality. In the latter case,as Mr. Kuichling points out, the questions involved in the financial management of such a system are often very interesting, even though they may be somewhat complicated, and it is doubtless owing to the difficulties encountered in the analysis of the problem that no generally accepted principles of such management have yet been formulated. Various methods of procedure have been adopted in different places; but rarely has it happened that any one of them received general approbation or was adopted elsewhere without more or less modification. In most places the exercise sound judgment is hampered by considerations of expediency, and hence temporary or superficial plans of financial management are in vogue, which must sooner or later be materially amended . Much confusion is also caused by the careless use of terms in the discussion of the subject, as well as in the classification oflhc various items of income or expense. That which is treated as a maintenance or repair account in one city will often lie charged to construction in another place, and in some cases the cost will be divided arbitrarily between the two accounts. Again, a distinction is sometimes made between the maintenance and the repair accounts, and when renewals or improvements of any part of the works are made, a separate account may be opened.
In dealing with the subject of the annual expenses or charges against a water works system Mr. Kuichling takes the following items into consideration—all of which in the case of successful private corporations influence the amount of rates charged to the consumer. He adds that many ( as he thinks wrongly ) claim the same practice should be followed in the case of municipal water works.
(1) The interest on the bonded debt incurred for construction.
(2) A yearly payment into a sinking fund for the ultimate liquidation of the bonded debt
(3) A yearly payment into a fund for the periodical renewal of the perishable parts of the works.
(4) The yearly ogicrating expenses, including ordinary repairs and minor betterments.
(5) The average cost of the usual yearly extensions or improvements of the distributing system.
(6) A yearly contribution to a fund for the payment of anticipated future extensions of, or additions to the supply system.
(7) The interest on all capital expended for construction over and above the bonded debt.
(8) A profit on the investment In addition to the preceding items.
In the case of successful private corporations, all of these items are taken into account, directly or indirectly, in fixing the rates charged for the service, goods, or product, and it is frequently claimed that the same practice should be followed in the case of municipal water works. Careful reflection, however, will lead to the conclusion that such a course is generally inexpedient, for the reason that a service undertaken by a community for its own exclusive benefit, and through its own government, is essentially a cooperative or mutual enterprise, the product of which is expected to be sold at cost to the participants; also because it is manifestly absurd to demand that one branch of the municipal service shall yield a profit in order that the work involved in another department may ostensibly be performed for less than its true cost
Strictly considered, the expenses of each department of a city’s government should be tabulated separately, and the proper value of any service rendered, or materials furnished, by one department to another should be duly credited and charged in the respective accounts. By this means alone will the real cost of any department, as debt, the sinking fund provision for the ultimate liquidation of this debt, the depreciation fund, provision for the periodical renewal of the perishable parts of the works, and the annual operating expenses. Of these, the second and third arc frequently combined into a single item, and may form a large or small percentage of the total yearly cost, depending upon the proportion of the aggregate amount which is left to posterity to pay. With regard to the first and fourth items, it is obvious that they should be paid in full by the present inhabitants, and that the financial burden of the next generation should not be increased by any ortion of these expenses.
Concerning the provision for sinking and depreciation funds, a considerable diversity of practice is found. In some cities it has been assumed that the generation which incurred a certain bonded debt for a water works system should provide for its payment in full, besides leaving an adequate surplus for the renewal of the perishable parts of the system, so that the succeeding generation shall inherit the works entirely free from debt and with its perishable parts renewed. In other places, however, this plan is regarded as much too generous, and provision is made only for maintaining the works in good order so that posterity shall not have on its hands a worn-out or greatly depreciated plant, in addition to the original debt.
Mr. Kuichling speaks of the usual practice in American cities in providing only for a general form to be used at its maturity either for renewing a part of the works, or for paying oft a portion of the bonded debt—this general fund not being sufficient for both purposes. Its object he says has been merely to keep the finances of the works in tolerable equilibrium from time to time, so as to prevent the present generation from imposing undue liabilities upon its successor, but without leaving it to very good assets or works from which it will derive much benefit except at the expense of more or less reconstruction. By this plan the works never become free from debt; but if they are maintained in good order, their value may be equal to the bonded liability. This condition is essential to solvency, and is accordingly the lowest limit in the financial scale to which the works should be allowed to fall, lie advises as a “ somewhat safer plan ”—that of making provision not only for the renewal of the perishable parts of the work, but also of the original cost of these parts.
The plant will thereby be turned over to posterity partially paid for and in good condition; or with the means for putting it into such condition. To the extent of their capacity the works will then serve the future as they did the past or present, and it is, therefore, proper that the future should bear at least the cost of the permanent portions as well as the subsequent renewals. The burden is thus divided between two or more generations, each paying a reasonable share of the original cost; and at the same time some reasonable consideration is expressed for the greater expenditures of the future,which will assuredly come with increase of population and the constant demands for the improvement of the general welfare.
After enumerating the eight items already set down above, Mr. Kuichling eliminates the first, so far as municipal water works are concerned. The fifth item also he would omit, inasmuch as the increase of population and development of urban property are variable quantities; wherefore, no limit can be placed to the annual provision to be assigned. This must vary from year to year; and. besides, all such extensions and improvements are set off—so far as their “ expense is concerned “
are presumed to involve immediate benefits fuliv commensurate with the outlay; anti the tax on the additional valuation of property ensuing therefrom will ultimately repay the investment.
As to the first item —the interest on the bonded debt incurred for construction and the fourth, the yearly operating expenses, including ordinary repairs and minor betterments Mr. Kuichling considers they should be “paid in full by the present inhabitants.”
With respect to the provision for sinking and depreciation funds (items second and third) he thinks the best plan is for the present generation to provide for the payment of so much of the bonded debt as relates to the perishable parts of the works,leaving the remainder to be taken care of by posterity, and also to provide for the proper maintenance of the plant so as to leave it in good condition.
In this way the plant (as already observed) will be turned over to posterity, “ partially paid for and in good condition or with the means of putting it into such condition ”—future generations being rightfully called upon to bear their share of the cost of the permanent portions as well as the subsequent renewals.
In relation to the life of the perishable parts of a water works system (says Mr. Kuichling), little definite knowledge is yet available Pipes and their appurtenances may last from twenty to fifty years according to circumstances, while steam boilers and pumping machinery may have to be renewed more frequently; but in general it may be assumed that, with the changes rendered necessary in a growing city by the gradual development of residential into commercial districts, the costs involved in maintaining a proper standard of efficiency for the works are practically equivalent to a renewal of the perishable parts of the plant every thirty years. The same period of time has also been generally adopted as the duration of the sinking fund for liquidating the bonded debt of the works; and until better statistics have been gathered, this limit may be accordingly adopted for the maturity of both funds.
To exhibit the English practice in regard to the repayment of loans for the construction of public works, it may be mentioned that out of 223 loans, amounting in the aggregate to nearly $5,000,000 made by tht Local Government Board to various communities in 1874, about sixty-one per centof both the number and the amount of money was for a period of thirty years; 5.8 per cent of the number and 15.5 per cent, of the amount was for periods from thirty-one to fifty-seven years; while the remainder of both number and amount was for periods less than thirty years; and similarly in 1893, out of 1,122 loans sanctioned by the same board to urban and rural sanitary districts. 41.5 per cent was for thirty years, 10.6 per cent, for from thirty-one to fifty years, and 47.9 percent, for less than thirty years. Furthermore, out of the 104 loans made in the latter year for a period of fifty years, eighty-nine were specifically mentioned as being for the purchase of land, thus recognizing the principle that the payment of the cost of the permanent parts of public improvements may fairly be transmitted to posterity in some degree.
As the gradual formation of a fund by a series of annual payments is generally understood only in a vague manner outside of financial circles, Mr. Kuichling adds a few words on this subject.
Each annual payment is to be invested so as to yield a good rate of interest, which is to be added to the said payment or principal every succeeding year, the interest for such year then being computed on the sum. Compound interest is thus had on each of the annual payments, and the sum of these payments with accrued compound interest constitutes the fund * * * In general, t erefore, it may be said that the yearly charge against the works for the production of a fund sufficient to pay off the original cost of the perishable parts, or to renew them after a period of thirty years, should be about two per cent of such cost, and if both items are considered, the yearly charge should be four percent, of this cost * * * [This] leads to the conclusion that the proper annual chargesor expenses of a municipal water works system should embrace the interest on the bonded debt for construction, a contribution to a thirtyyear sinking and renewal fund for the perishable parts of the plant alone, and the operating expenses, including ordinary repairs and betterments. All extensions and material improvements of the system should be regarded as new construction work, to be paid for by general taxation; but a certain percentage of such cost, sufficient to furnish the amount necesary for renewal, as aforesaid, should be charged to the works, since it may fairly be presumed that a corresponding revenue will be derived from such extensions. On the other hand, the works should not be charged with interest on past cash payments for extensions,or for a sinking fund for the same, or for a profit.
Mr. Kuichling next enters upon the consideration of the question how the revenue of a municipal water works should be obtained. This revenue should be equal in amount to the yearly charges or expenses, and must be deiived either by assessment upon all taxable property, or by assessment upon only that real estate which is served, or by direct charge for the water actually or presumably consumed by each consumer, or by a combination of these charges—the last being the method generally adopted, inasmuch as a considerable percentage of the water is used for a great variety of general public purposes, for which all taxable property should be proportionately taxed. General taxation, however, should pay a certain proportion of the yearly cost for the necessary enlargement of the capacity of the pipes, reservoir, pumping machinery, etc., for the suppression of fires and to provide for the future growth of the community.
In regard to the proportion of the total yearly cost which should be paid by general taxation on account of the initial enlargement of the works for fire, public, and future purposes (Mr. Kuichling points out) much diversity of opinion exists. Some contend that this charge should be borne entirely by the present consumers, while others claim that it should be paid by assessment upon all taxable property, in order to make the water rates as low as possible.
By the latter class of advocates a sharp distinction is made between taxpayers and water consumers, or, as it may otherwise be expressed, between the taxable property of a coramunity. The latter method—that of assessment upon all taxable property, so as to make the water rates as low as possible, is certainly the fairest, and is generally recognized in one forn or another. A rental, for instance, is paid to private water companies or the payment of a portion of the yearly interest account where the works are owned by the community. Mr. Kuichling considers this as just, since
it is obvious that the provision for adequate fire protection and future growth of the community materially increases the cost of construction over that which would be required to furnish only the quantity of water needed for domestic and manufacturing purposes. While the aggregate amount of water used per year for suppressing fires may be but a small percentage of the total supply, yet it must be delivered in large volume during short periods of time and without causing appreciable interference with all other uses. As a consequence, nearly every part of the works must have considerably greater capacity than is required for the service of individual consumers alone ; and the same is manifestly true when provision is made for future growth. A number of estimates of the increased cost of construction to afford fire protection alone have been made by several experienced engineers, from which it appears that such increase is at least sixty per cent., or that over one-third of the entire cost is expended for meeting this requirement; and, it may also be added, that a recent analysis of the cost of the works with which the author is connected has le f to practically the same conclusion.
With reference to the provision for future growth of the community, the proportional costs of construction vary from year to year as the expectations of increase are being realized. Ordinarily the main features of the water works of a large city are designed so as to require no enlargement lor a period of from twenty to forty years, during which time the population will probably be doubled. The cost of this provision may, in general, he taken at fully thirty per cent, of the total original fire insurance premiums paid by the property-owners, after the introduction of an efficient system of water works, over that which would be required if the city had no public water supply, and as the loss by fires is never fully compensated by the insurance, there is also the average annual saving in such uncompensated loss to the community in consequence of the operation of the water works. Even a very superficial investigation of the statistics relating to insurance and fire cosses in large cities brings to light the fact that these two savings are of great magnitude, and a close analysis demonItrates that they are often larger than the annual interest sharges oil the entire cost of the works. Manifestly the benefit thus gained applies mainly to property, although some advantage also results to persons by reason of the greater chance for continuous employment in a city where fires are quickly suppressed. [ These facts] also lead to the further fact that the requirements of modern civilization render the development of a large city arid the resulting great increase in the value of real estate impossible without an adequate system of water supply or fire protection. In nearly all cases, the appreciation in the value of such property soon after the introduction of water works becomes much larger than the cost of the plant, and its market price continues to advance steadily with the subsequent growth in population. This rise in value and the reduction in rates of insurance and fire loss areclearly benefits which accrue only to property, as opposed to persons or water consumers, and it, therefore, follows that an equitable division of the yearly charges should be made between these two elements. Each detail of expenditure is intended to invite permanent residents and permanent industries to the city and thus to increase its wealth; wherefore,the investment partakes of the nature of a public speculation, and should for that reason be chargeable to the entire taxable property. In the case of the increase of population, however,
the yearly consumption of water gradually becomes larger, rnd, if the price is based on the quantity used, the annual contribution to the necessary revenue from general taxation will gradually diminish, and will cease entirely in this respect after the original provision for future growth is exhausted.
It it urged, however, that the entire yearly cost of such provision should be
included in the water rents, on the ground that the taxable property of the community is sufficiently burdened with the other charges previously mentioned. If this plan were adopt ed, the rates for the use of the water would necessarily be very high in the outset, but might be reduced from year to year as the consumption increases.
Mr. Kuichling regards such a policy as “ unwise,” since low and unfluctuating water rates offer a strong inducement to the establishment of new industrial enterprises which will tend to increase the value of real estate and build up a city much more rapidly than the slower growth of the residential population alone. Wherefore,
the presence of such industries in the community abundantly compensates the owners thereof for their slightly higher taxation, whereas, if the same amount were to be added in the water rents the burden would fall heavily upon the propr’etors of industrial establishments, on whose enterprise the prosperity of the public is principally dependent*** While much more might be said upon the question.it seems to be generally conceded that the water rates of a large city should be as low as possible, and that a considerable proportion of the annual expenses of the works should be paid by general taxation. Erom the foregoing it has been shown that, on an average, fully one-third of the yearly interest on the bonded debt for a public water supply is incurred for fire protection, and about the same amount for the provision for future growth. The whole of the former and, perhaps, about one-half of the latter should fairly be paid by general taxation, and in addition thereto compensation should also be allowed at the established rates for the water which is used for general public purposes; the remainder of the revenue required to pay the annual expenses may then be obtained by charges for the use of the water by all the classes of private consumers. Under such conditions and with the understanding that the interest account includes an adequate sum for sinking fund and depreciation, the works may be regarded as conducted on proper business principles, without discrimination in favor of either taxpayer or consumer.
( To be continued.)