“Apparently, 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.
In most cases, water customers are charged on a cost per unit, or in this case, a cost per gallon basis. In the short term, a reduction in customer usage does result in a lower water service charge. Many utilities provide water and sewer service to their customers using this cost per unit of consumption standard. To the customer in the immediate term, there is a direct relationship between consumption levels and charges for service.
By extension, the argument goes, the utility saves money as well because it has to provide fewer “units of product” or in this case, fewer gallons of water to the end consumer. Common belief seems to hold then that the water provider will enjoy lower costs in direct proportion to reduced production. And all should be good, right?
This model falls apart though, when water providers begin to understand and manage their actual costs. Unfortunately for them, many provider costs can be classified 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 providers receive revenue from consumers 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.
In summary, customers benefit from their conservation efforts by paying less overall, but the utility loses money. However, because of their fixed cost structure, utilities cannot survive for very long with expenses greater than revenues.
What typically occurs at the point where expenses threaten to overrun income is that the utility requests a rate increase to make up for lost revenues. In the end, these rate increases eliminate any short-term savings generated by customers’ conservation efforts by way of higher per-unit rates. In other words: if there are fewer units being sold, then the rate per unit is going to be higher to achieve the same level of revenues as before (when there were more units being sold).
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.
The Water Utility Consultants at StepWise assist water and wastewater utilities nationwide improve business processes, improve cash flow management as well as manage consumer rates in a challenging business environment. Contact the Water Utility and Wastewater Consulting Experts at StepWise now!