Understanding the two utility models

All water and wastewater utilities, whether private or government-owned (public), are subject to numerous federal and state regulations with respect to water quality. Where the business models differ however, is in how customers’ rates are set.

The rates and service quality of private utilities are under the jurisdiction of the New Jersey Board of Public Utilities (BPU). Having been involved in many rate proceedings over my career, I know firsthand that this is an extraordinarily rigorous process and companies like mine are held to full account in justifying the need to raise customers’ rates. New Jersey also has a very strong consumer advocate in the Division of Rate Counsel which intervenes in all rate proceedings and advocates rigorously on behalf of customers. The rate-setting process can be time-consuming and sometimes painful, but it works, and customers’ needs are well represented.

The rates and service quality of public systems are governed either by municipal ordinance or by a public authority. Decisions regarding customers’ rates and service quality are made by a governing body of either elected officials or others appointed by them.

Private or public?

I do not believe one business model is inherently better than the other. They are just different. I network routinely across the country with leaders of utilities of all sizes under both models. Their systems are staffed by very talented people who make appropriate upgrades, provide great customer service, achieve compliance, appropriately maintain assets and charge reasonable rates to customers. I take offense however, at the unfair and irresponsible portrayal of the private water industry simply because we are just that — private. There are groups who relentlessly spew the distorted narrative that — regardless of the circumstance — public is good and private is bad. Activist groups will cite operating revenues, executive compensation, dividends and other small bits of information, all taken out of context, to distract municipal officials and inflame public opinion by creating a caricature of uncaring companies and their shareholders. Besides being inherently dishonest, this narrative does nothing to actually solve the pressing problems concerning infrastructure needs.

How private utilities make money

Perhaps part of the misperception stems from the public not having a full understanding as to how private utilities make money for shareholders. We earn a return for shareholders on the capital investments we make in infrastructure and other utility assets. That’s it!

The private regulatory model provides dollar-for-dollar recovery in customers’ rates for our operations, maintenance, interest, taxes and other prudently incurred costs — the total cost of running the system. We obtain no benefit for shareholders relative to these costs. Our operating revenues are established by the BPU, designed to recover prudently incurred costs and provide a fair opportunity (not a guarantee) to earn an appropriate return on the capital we invest. That appropriate return is ultimately determined in a rigorous rate proceeding based on expert testimony provided independently by the company, the Division of Rate Counsel and the BPU.

Inherent conflicts of interest

In the private model, we need to meet the needs of both customers and shareholders. In theory, the more my company invests in infrastructure projects, the more profit we can deliver for shareholders. The staffs of the BPU and the Division of Rate Counsel wade through voluminous project details to determine which expenditures are prudent and necessary and which they believe are not. All expenditures must be fully justified.

The public model has its own inherent conflict in the form of politics. A public utility sets its own rates. There is no return to shareholders in the rate structure. When these systems require capital improvements, they raise debt capital and sometimes raise rates to fund capital and operating expenditures. It is no secret that raising customers’ rates or increasing property taxes does not make government leaders popular or help them win elections. Sometimes maintenance gets deferred, pipe is not replaced, needed staff is not hired and assets are not adequately maintained — all to avoid rate increases.

Decisions regarding utility rates made for political reasons over many election cycles can have a long-term detrimental effect on the condition of the infrastructure, staff morale and the quality of service. Many of the problems reported in the media were years in the making through inadequate stewardship or outright neglect. Often the standard response from activists and some political leaders is that the solution lies in the need for more taxpayer money. These factors provide a glimpse into what can contribute to a disparity in customers’ rates between private and public utilities. Activists will often cite these rate differences as a reason to shun private involvement of any form in water utility operations. But are they comparing investment levels, regulatory compliance, asset management effectiveness and operational efficiencies and do they know all customers are charged the full cost of providing the service?

No need to privatize well-run systems

Often the question arises, might a public system be better run by a private company? My observation is that well-run, well-capitalized public water or wastewater utilities never need to sell their systems or partner with private companies like mine to operate them. I see private companies involved only when public entities are either unable or unwilling to solve the problems themselves. I believe every entity, public or private, should stand on its own to solve problems that are self-imposed, and those who are the recipients of the services should be paying the bill, not the taxpayer at-large who had no role in creating the problems and who is not a recipient of the service. I believe giving taxpayer dollars to those who have let their systems fall into disrepair or out of compliance is in effect a reward for possibly years of irresponsible management. The practical reality, however, is that in some cases the infrastructure needs run so deep that many public systems cannot adequately address them without some form of outside assistance.

In my view, the operational issues may now have become a social issue that needs to be solved regardless of the funding source or broader customer base needed to make the rates affordable. Regardless of your political or business views, water and wastewater services are a critical aspect of public health and safety and all those served by either private or public systems are entitled to receive quality services at an appropriate cost.

When acquisitions, public-private partnerships make sense

What I often see is a well-meaning governing body faced with the sobering reality of their significant infrastructure challenges, but they no longer have the technical or financial capacity to solve the problems on their own. So they reach out to a private provider for assistance. That is when activists seem to step in and further contribute to the uncertainty, convincing local officials and the public that private involvement should not be considered. The standard talking points are that service quality will suffer and rates will increase uncontrolled, all while lining the pockets of the private service providers’ owners. Furthermore, they fail to have any technical or operational expertise needed to solve the problems and their only solution is more taxpayer subsidies.

The hard truth in some circumstances is that an outright sale of a public utility to a private company or, a public-private partnership through a contract operation or a concession–type contract, is the only viable option to address the many infrastructure challenges. A “public-public partnership,” although a potentially viable solution, is significantly more difficult to accomplish based on individual circumstances.

Many are not aware that should they enter into a contract operation or concession-type agreement, the rates charged to customers are still often within control of the governing body. However, those rates need to be adequate to compensate the contract partner under the terms of their negotiated contract for their costs and their profit, to which they are fully entitled. The longer the contract period, the greater the ability to mitigate near-term rate shock to customers. To the extent there is subsequent public backlash regarding these arrangements I say simply, it’s all in the contract that was negotiated by two parties presumably negotiating in good faith. Everything else is just noise that further confuses and infuriates the public.

Customers and/or taxpayers are picking up the tab

When faced with large upgrade or replacement costs, the goal of public systems is often to obtain as much taxpayer-subsidized funding as possible. The financial burden is then borne largely by others who are not their constituents — federal and/or state taxpayers, you and me.

Under the private utility model, customers bear all costs for the operation. Under the contract operations and concession models, it is up to the governing body and the contract partner to decide the financial terms, how risk and reward is shared and what information is shared with the public about what is included in these often incredibly complex agreements.

Legislation can be good, enforcement is better

Customers of both private and public systems are entitled to receive comparable quality service at appropriate cost and their owners should be held appropriately accountable. That may seem obvious but in New Jersey it has taken enactment of the Water Quality Accountability Act to make that statement law. Although in and of itself not a solution, this law has the potential to address the detailed causes of the problems, system-by-system. Both public and private officials must certify, in writing, their compliance with drinking water standards and other requirements. This law is becoming commonly viewed as a model for other states. However, its ultimate success or failure lies completely in the quality of enforcement. If enforcement is lacking — or the quality of enforcement varies between or within public and private utilities — then this legislation will be all for naught.

All of us, whether public or private, need to sign on to a culture of transparency and accountability when it comes to management of our utilities. We all need to commit to dealing honestly and in good faith in addressing these issues and carve out politics, greed and personal agendas. We should do better and we can do better. Our customers deserve it.


Dennis W. Doll is chairman, president and CEO of the Middlesex Water Company.

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