United States
           Environmental Protection
                Office of Water
EPA 832-B-01-003
April 2001
SRF Fund Management
                                  Clean Water
                                  State Revolving Fund


                              TABLE OF CONTENTS

Overview and Use of the Handbook	  ii


    1.1   Principles Of Fund Management 	1-1
    1.2   Fund Management At Work: An Overview Of State Programs		 . 1-3


    2.1   Fund Management Objectives	2-1
    2.2   Fund Management Time Horizon ,	2-1
    2.3   Assessing Environmental Needs 	2-3
    2.4   Assessing SRF Financing Needs	2-3
    2.5   Setting Short & Long Term Financing Goals	2-4
            State Case Study: Ohio Business Plan	2-5


            Use of Cash Flow Modeling/Financial Planning for SRFs	3-1
    3.1   Adjusting Loan Terms	3-2
            State Case Study: Utah State Revolving Fund Financial Assistance Program  .... 3-5
    3.2   Returns on Fund Investments	3-7
            State Case Study: New York's CWSRF Leveraging Program.	3-9
    3.3   Fund Resource Utilization	3-11
            State Case Study: Oregon's Accelerated CWSRF Loan Commitment	3-12
    3.4   Loan Portfolio Management  	.3-14
            State Case Study: Maryland Water Quality Financing Administration .	3-16
    3.5   Availability of Funds	3-17
            State Case Study: Massachusetts Fund Utilization Strategy	3-18
    3.6   Administrative Resources	3-19
    3.7   Leveraging	3-20
            State Case Study: Tennessee Leveraging Decisions	3-22
    3.8   Borrowing for State Match	  3 - 24
    3.9   Set-Asides and Capitalization Fund Transfers  	3-25
            State Case Study: Nevada DWSRF Use of Set-Aside Funds	3-26
    3.10 Sustainable Funding Levels	3-28
            State Case Study: Minnesota WPCRF Capacity Analysis	3-29


    4.1  Cash Flow Modeling and Financial Planning and Projection 	4-2
            Sample Modeling Results	4-3
    4.2  Role of Auditing/Accounting in Financial Management	 4 - 8
    4.3  Today's Dollars or Present Value (Constant Dollars)	  4-10
    4.4  Grant Equivalency	4-11
    4.5  Investment Return  .	4-12
    4.6  Balance Sheet Analysis	<	4-14
    4.7  Loan Portfolio Analysis	4-16
    4.8  Key Financial  Measures	4-17
    4.9  Financial Indicators			4-31

Appendix: Annotated Listing of EPA Guidance Related to Fiscal Fund Management	 . A - 1

SRF Fund Management Handbook
Overview and Use of the Handbook
This handbook discusses a range of SRF fund management issues, with an emphasis on fas fiscal aspects
of fund management.  Fiscal management of an SRF requires understanding and balancing day to day
financial decisions against the long term performance of the fund. The handbook provides relevant case
study examples of state SRF fund management experiences, and identifies useful tools and techniques for
evaluating SRF fund management considerations. The handbook can be used in many ways:

•      As a "how to" handbook for fiscally sound fund management by reading the entire document, or

•      As a resource document to select and focus on specific fund management issues discussed in the

•      The handbook also can and should be used in conjunction with other SRF fund management tools
       and resources such as EPA's SRF Financial Planning Model, program information generated by
       the SRF National Information Management System, Leveraging and State Match Guides,  SRF
       annual reports, and SRF financial statements.

This document is available electronically at http ://www.epa. gov/owm/finan.htm

This handbook does not represent official policy determinations of the U.S. EPA with respect to the
operations of SRFs. The handbook is intended to present management concepts and general good
financial management practices to be considered by SRF fund managers.
April 2001

                                                                            1. Introduction
The Clean Water State Revolving Fund (CWSRF)
program was created by the 1987 amendments of
the Clean Water Act. Prior to the creation of the
CWSRF, the Construction Grants program was
the primary federal funding source for wastewater
infrastructure. A key difference between the two
programs is the revolving nature of the CWSRF.
The available assets in the Construction Grants
program consisted of incoming federal grants and
varying amounts of state match.  Once these assets
were distributed to communities, they left the
program.   Aside  from determining  which
communities receive the grants, state management
of these assets was limited.  In contrast, assets
used to provide  SRF  assistance are  lent to
communities and ultimately return to the fund in
the form of  interest payments and principal
repayments.  States may also obtain additional
funds for their programs through leveraging.
Overall, states have a great deal of control over the
flow of SRF assets and day to day management
decisions can have significant impacts on the

Implementing the SRF has resulted in a critical
shift  from   grant  management to  fund
management, from managing  a static program
that focuses on distributing grants to managing a
complex loan program with diverse and constantly
changing assets. The CWSRF is now reaching a
mature stage  of development  with substantial
principal and interest payments entering the fund.
Continued success of both the  CWSRF and the
recently  established  Drinking  Water  SRF
(DWSRF) will require an emphasis on managing
the dynamic, revolving nature of an SRF.

This handbook is designed to highlight important
fiscal aspects  of SRF fund management and to
provide examples and tools from state experiences
to assist with the ongoing management of SRFs.
The handbook is organized into three sections:
The chapter on strategic management provides
     an overview of program  assessment and goal
     setting in an  SRF.   Following  the  strategic
     management discussion is  a set of chapters
     devoted  to  fund management  issues  that
     represent day to day program management topics
     which have a fiscal impact on the fund. The final
     section groups together a comprehensive set of
     analytical tools and techniques to be used in fund
     management. These include financial planning
     and projection techniques,  the use of  EPA's
     financial  models and an overview of key SRF
     financial  measures. Throughout the handbook,
     case studies of SRF programs have been included
     to show effective fund management at work.


     The SRF program is specifically designed as an
     environmental  financing  program aimed at
     reducing  clean water and drinking water project
     costs. The primary form of assistance is below
     market rate loans for water quality and drinking
     water projects. The financial subsidy aspect of the
     SRF program  does not reduce the need  for
     effective fund management..  Fund management
     in the SRF is unique due to the balance that must
     be struck between environmental and financial

     The seed capital of an SRF is a valuable financial
     resource  that  should  be  utilized effectively.
     Comprehensive  fund  management  should
     maximize an SRF's ability to meet current and
     anticipated  environmental  financing   needs
     through judicious management of all program
     resources. A basic approach to fund management
     should include developing a plan (establishing
     short & long term goals), program management,
     and program  evaluation.   The process is
     illustrated in Figure 1 below.
April 2001

SRF Fund Management Handbook
                                          Figure 1
                              SRF Fund  Management
                                       A Basic Model
                      Strategic Planning
                • Assess short and long-term environmental;
                ^ซ Assess short ancl longปtermifinaneial nlfeS^t?'*'   >.ซ./vt*f"~* ""**"" X-i^I" "  '•'•"<
                • Assess program assets and identify other environmental financing resources.
                • Balance environmental and financial needs to establish short and long-term
                  financing goals'ano^obllecttveSfw^ie'SrtF,/-"^     '       ',~,fJ "*"~$-v'ซฃ   $
                      Program Management
                • Set policies and manage the SRF totjm|et,shor^and long-term environmental
                  financing goals and objectives.   ^1/,*""  ,*..„!'.'-,
                      Program Evaluation
                • Assess progress towards achieving environmental financing goals and
                • Identify adjustments necessary to improve progress.
In  strategic  planning,  program  managers
essentially develop a long-term business plan for
their program. To accomplish this, they should set
out to determine what kinds of environmental and
financial needs the SRF must  address.  This
information should be used to establish short and
long term financing goals for the program. Once
the program's goals are established, the SRF
should be managed to meet these goals. Program
management encompasses the setting or adjusting
of policies and the day-to-day management of the
fund.  Critical issues such as the  level of interest
rate subsidy to offer, selection of projects to
     receive assistance, timely commitment of new and
     recycled funds  to projects, investment of idle
     funds, and decisions to issue  debt  must  be
     evaluated in a financially responsible manner to
     ensure  that   funds  are  used   effectively.
     Collectively, the day-to-day decisions of SRF fund
     managers make up the overall effectiveness with
     which a fund is utilized. These decisions must be
     made in light  of the goals established during the
     business planning process. Continuous program
     evaluation or assessment provides a  check  on
     whether or not current policies are helping to meet
     the SRF's goals.
April 2001

                                                                            1. Introduction

Individually, the SRFs vary greatly in the size and
scope of their operations. Since the start of the
CWSRF program, federal and state capitalization
has accumulated steadily to $20 billion and total
cumulative available funding has  grown to $34
billion (through  June of 2000).  The funds
available now exceeds 168% of the cumulative
seed capital due to leveraging, loan principal
repayment, and net interest earnings.

The financing approaches  used  in the  SRF
program does impact the funds that are available
for projects and the financial management issues
that each program faces. Table 1 below identifies
the breakdown  of the 51 CWSRF  programs
     according to two important dimensions, issuance
     of leverage bonds and issuance of bonds for state

     The use of bonds or borrowing  in the SRF
     program has numerous impacts on a program over
     time. The use of leverage bonds provides an
     increase in available funds for projects over the
     near term and may provide greater cumulative
     financial assistance over the life of a program,
     when adjusted for inflation. The use of bonds for
     state match enables a state to comply with the
     state match funding requirement,  but reduces
     available funding over time as interest earnings
     that could have been used to fund new proj ects are
     instead used to repay match bond principal and
                                          Table 1
™" '""" 0- ^W^^^S^l^aatt S&wtitit.P"- - ---" "?Vr

No SRF Borrowing
for Match
SRF Borrowing for
Direct Loan
(31%) "
April 2001

SRF Fund Management Handbook
                                ซPage intentionally left blank.ป
April 2001

                                                          2. Strategic Financial Management

While there are many differences between SRF
programs  in terms  of total dollars managed,
financial structure, environmental priorities, and
number of loan recipients, there are common
objectives for the program that can serve to guide
all programs in the area of fund management.

The SRF program has several goals.  The first is
that the capital contributed to the program is used
efficiently  and maintained  in  perpetuity.
Ultimately, both the Clean Water and Drinking
Water SRF programs are expected to revolve and
this is reflected in EPA's goal of providing
environmental  assistance far into  the future.
Another goal is that states use SRF funds  to
achieve the greatest environmental results.

Working within these  goals, states have two
focused objectives  in managing  their   SRF
programs.   The first is to ensure that financial
assistance is provided to proj ects that will produce
the most  desirable  environmental  and public
health benefits. The second objective is to achieve
sound financial performance while providing the
financial assistance.

All of these fund management objectives must be
balanced to achieve an SRF's desired results. For
example, loan interest rates shouldn't be  set at
such a low rate that the long-term SRF purchasing
power is unnecessarily eroded by inflation and, at
the same time, the rates should not be set so high
that there is little financial benefit provided by an
SRF loan.  A balance must be struck between
these extremes.

The balancing of objectives for an SRF program
can be thought of as trying to reach an optimal
solution to:
     •    make the most money available, consistent
          with demand for funds;
     •    commit money quickly to meet project
     •    offer attractive financial terms; and
     •    maintain the purchasing power of the funds
          being managed.

     For each SRF program, the optimal solution will
     depend on state  specific factors  such as the
     demand for financial assistance, availability and
     financial benefit of other assistance programs,
     state funding priorities, current market conditions,
     and legislative support.

     All of these factors should be analyzed as part of
     an overall SRF financial plan. Such a plan should
     lay out the basic  operating  assumptions of the
     program over time. What are the expected cash
     inflows and  outflows of the  program,  what
     assistance can be provided, and how valuable is
     the assistance to the borrowers?


     Time is a critical element when considering fund
     management.   SRF financial management is a
     process that takes place over time and consists of
     a series of financial actions and decisions that
     have both short and long term implications. Due
     to the time value of money and the environmental
     benefits of building projects sooner rather than
     later, SRF assistance provided this year is not the
     same as assistance provided next year.  Similarly,
     financial actions taken this year may have little
     impact until several years later. For these reasons,
     fund management must be considered across the
     dimension  of time  to balance what  can be
     accomplished in the present versus the future. The
     time element is illustrated in Figure 2 below.
April 2001

SRF Fund Management Handbook
The figure shows proj ect funding levels under two
scenarios and is similar to the results produced by
many SRF financial planning exercises.  The
dashed line represents a direct loan program and
the solid line represents the same program with
leveraging beginning in 2000. Phase 1 on the
figure is the pre-leveraging period.

Phase 2 of the figure shows that leveraging will
immediately increase the available project funding
in 2000 when leveraging starts. Assuming that
leveraging  continues,  the  funding  level (in
inflation adjusted dollars) will remain higher for
the next 22 years.  However, the funding  level
under a direct loan program will rise relative to a
leveraging scenario (Phase 3). At some point in
the future, a direct loan program with otherwise
identical financial terms will always produce more
nominal annual funding than a leveraged program
(Phase 4).
      In this example, the cumulative funding provided
      over the period illustrated' is  higher for the
      leveraged program, demonstrating a leveraged
      program's potential to provide greater assistance
      overall.   The challenge for fund managers in
      considering leveraging is to determine the value
      of funding projects and achieving environmental
      results sooner in exchange for potentially reduced
      longer-term funding.

      When evaluating SRF programs in the context of
      time and future events, there are many factors that
      will affect the program that cannot be  controlled
      or accurately forecasted. The best that can be
      done is to make reasonable assumptions about
      what is likely to happen in the future and to apply
      those assumptions to evaluate potential  future
                                            Figure 2
                        Annual Disbursements Adjusted to 2000 Dollars
         ง 15
                   Phase 1
                                    Phase 2
                                                          Phase 3
                                                                Leverage $850 million
                                                               Direct Loan $774 million
            1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022 2024 2026 2028 2030

            Key assumptions are: leveraging initiated in 2000, loan rate of 3%, bond yield of 5.5%, 10%
            debt service reserve, 2% bond issuance cost, and investment earnings of 4.5%. Leveraging
            maintained at 50% of program equity. Discount rate of 3%.
April 2001

                                                           2.Strategic Financial .Management
The following are some important factors that may
impact SRF programs. Changes in each could
have varying effects on the financial projection
results illustrated in Figure 2.

•    Interest rates and Federal Reserve policies
•    Short and long-term inflation rates, both
     expected and actual
• '   Congressional actions
     — future appropriations
     — reauthorization of existing legislation
     — passage of new legislation
•    Available funding from other federal and
     state  drinking  water and  water  quality
     financing programs
•    Legislative actions and enforcement
•    National, regional,  and local economic
•    Regional demographic shifts
•    Technology changes
•    Increased understanding of water quality
     and drinking water needs

These factors, both individually and collectively,
will have impacts on SRF funding resources, loan
terms, demand for loan funds, and the long-term
financial position of an SRF.  Of these factors,
general market interest rates and inflation rates
will have the most direct fiscal  impact on  the
program and  must be accounted for in any
financial planning effort.   Market interest rates
will drive the level of loan interest rates that the
program must offer to 'provide  meaningful
subsidies to borrowers and will also directly affect
interest earnings of the SRF. Conversely, inflation
will erode the purchasing power of the SRF over
time.   These two critical factors  need to be
incorporated into long-term.financial planning in
terms of an appropriate discount rate or effective
real rate of interest.   •

The combination of financial and  environmental
factors that have short and long-term implications
provides a complex framework for analyzing fund
management issues.   To help  organize  the
discussion  of these issues in this handbook, a
     number of maj or fund management questions have
     been identified. These questions are introduced
     in Section 3.
     2.3 ASSESSING
     The  pivotal activities  of a water  quality or
     drinking water program are to  identify and
     understand the environmental and public health
     needs of the program.   The basic question to
     answer is, "What activities or projects need to be
     undertaken  to   achieve  the  program's
     environmental/public   health   objectives?"
     Examples include designing and constructing
     wastewater  and   drinking  water  facilities,
     identifying and protecting critical water resources,
     encouraging desirable uses of water resources, and
     discouraging undesirable uses of water resources.

     The  required   information  to   assess
     environmental/public   health  needs   include
     cataloging water resources in the state by location,
     type, use, and current and desired water quality
     objectives. Assessments of water resources are
     typically performed with the aid of geographic
     information systems (GIS). With this information,
     planning can be performed with respect to funding
     desired activities and projects.
     2.4 ASSESSING
     For an SRF, the next step is to identify financing
     needs   within  the  context  of  achieving
     environmental needs  and goals.  The project
     priority setting process  and resulting project
     funding priority list provide a basis for identifying
     SRF financing needs.

     Through the process a state can identify which
     projects have the highest priority, which projects
     are actually slated for receiving funding, what
     level of  assistance  is  required,  and when
     financing  needs  will .actually  be  required.
     Evaluating funding needs can be used to assess the
April 2001

SRF Fund Nlanagement Handbook
demand for SRF funds.

While overall  financing  needs may  exceed
available  resources,  the   demand  for  SRF
assistance may not. Managing demand, through
activities that include marketing and technical
assistance, is important in running an efficient
SRF program. A fund manager must understand
how many dollars will be required and when those
dollars will be required from the fund. Such an
assessment must be conducted in conjunction with
assessments of other funding sources  and the
ability of other financing programs to share in the
financing of desired activities and projects.

The end result is to identify the demand for SRF
funds. This demand for funds is then compared
to the availability of funds to determine the ability
of the SRF to meet funding needs. When SRF
funding demand greatly exceeds the availability
of funding resources, the  SRF  may want to
      consider  techniques  for  increasing  funding
      resources,  such  as  altering  loan  terms  or
      leveraging (see discussion that follows).


      The balancing of environmental and financing
      needs with  financing resources  provides  a
      foundation for establishing short and long-term
      SRF financing goals.  This can then be used to
      establish what projects and financial assistance
      can reasonably be provided  over the near and
      longer terms.  Such goals  should become an
      integral part of an SRF strategic plan.

      The Ohio CWSRF conducted a strategic planning
      exercise to  determine the funding needs  and
      resources of the CWSRF.  The following case
      study describes their efforts.
April 2001

                                                                    2. Strategic Financial .Management
       Case Study of Ohio Water Pollution  Control Loan Fund's (WPCLF)
                        Assessment of Fund  Management Options
 Vital Statistics as of June 30, 2000

 First Loan Issued in October 1989
 Leveraging Initiated in 1996
 Extensive Borrowing for State Match
 Average Loan Interest Rate:        4.0%
    Federal Capitalization Grants:
    Total Funds Available:
    Total Assistance Provided:
    Number of Loans:
$920 million
$1.8 billion
        $1.6 billion
 In March, 1997 the Ohio WPCLF initiated a strategic planning process to develop a long-term business plan to use as the
 "blueprint" to shape and direct the WPCLF through the year 2001. The purpose of the plan was to describe how the resources
 of the WPCLF would be directed beginning in 1998. The development of the plan was divided into three major steps:

       1.     Assessing environmental needs and priorities;
       2. .    Evaluating funds available for assistance; and
       3.     Combining steps 1 and 2 into a business plan.

 This case study focuses on the evaluation of funds portion of the planning process, and draws on a WPCLF funding
 analysis report. The WPCLF's Report on Fund Management Options begins with the fund objectives of:

 •     Providing financing for priority wastewater and NFS projects; and
 •     Maintaining the fund in perpetuity.

 To begin evaluating approaches for achieving the objectives, various fund management options were considered.  These
 options included combinations of altering loan  interest rates and repayment periods, undertaking different leveraging
 approaches, and altering capitalization scenarios. The most suitable options were retained and analyzed in detail.

 The options analysis consisted of financial modeling of the program through the year 2051 to project all program sources
 and uses of funds  using the different assumptions associated with each option. For each option analyzed, annual and
 cumulative funding capacity was projected in nominal and inflation adjusted terms.  Inflation adjustments were based on
 the average annual change in the consumer price index from 1952-1995, which was calculated to be 4.12 percent.

 For purposes of the analysis, the WPCLF utilized a target funding level of $200 million per year, which is slightly more
 than the average funding level achieved by the program in the previous five years. The funding levels achieved with each
 option were then compared to the target funding level in nominal and inflation adjusted terms.  Total cumulative funding
 capacity achieved  by each option was also calculated and presented for comparison purposes.

 The results of the analysis showed that a combination of fund management steps will be required to meet the funding target.
 Leveraging will be an integral part of meeting funding needs, but must be used carefully to minimize the loss of annual
 funding capacity over time. Increasing loan interest rates and augmenting capitalization provided the greatest impact on
 the WPCLF's overall capacity.

 The conclusion reached in the report is that the WPCLF has the capacity for meeting a significant amount of Ohio's present
 and future financing needs for water pollution control and water resource improvement projects. However, four essential
 factors need to be  managed to do this:

        1.     The amount and timing of fund leveraging;
       2.     The costs of bond issuance;
       3.     The interest rates charged borrowers; and
       4.     Future strategic fund capitalization.

 A public advisory  group meeting was held to review the findings. Comments received from individuals  supported funding
 immediate needs through leveraging with a possible trade-off in long-term capacity, increasing loan interest rates to increase
 capacity, and requesting additional state capitalization. A shorter 20 to 30 year time horizon was recommended for future
 fund planning.
                        For additional information contact:
       Ohio Water Development Authority
       88 East Broad Street
April 2001

SRIF Fund Management Handbook
                                              Columbus, OH 43215
April 2001

                                                          2. Strategic Financial Management

                                                           3. SRF Fund Management Questions
Effective SRF fund management is not the result
of a single action or decision that results in a
successful program.  Instead, program success
depends on how a series of fund management
questions are identified, answered, and revisited
overtime. Important questions include:

•     Should loan terms be adjusted?
•     Does the fund receive adequate returns on
      cash and reserve fund investments?
•     Are   fund   resources  being  utilized
•     Does the fund have a sound loan portfolio?
•     Is sufficient project assistance being made
•     Does the fund have sufficient administrative
•     Should  the  fund  leverage/continue  to
•     What impact will borrowing for state match
      have on the fund?
•     What impact will set-asides or capitalization
      transfers have on the program?
•     What is the sustainable funding level from
      the program?

This handbook is designed to take a three pronged
approach to discussing fund management issues.
First, the handbook addresses each of these fund
management  issues  individually.    Second,
recognizing there is considerable overlap in the
issues, the conclusion of each individual issue
discussion identifies the relationship between the
current fund management issue and other related
fund management issues. Third, as each issue is
addressed, the  discussion is accompanied by
pertinent case studies of how states have faced and
answered these fund management issues.

Analytical tools and techniques that are referred
to in the discussion are identified in italics and are
explained in more detail with illustrative examples
at the end of the handbook.
     Use of Cash  Flow Modeling/Finaneial\
     Planning for SRFs
     Each of the fond management topics require a certain I
     level of financial analysis to understand the financial
     implications of any particular SRF financial policy I
     iholee, Cashflowmodetingifinancial planning is tlie I
     principal technique for analyzing the financial impact I
     of decisions over time, given, the financial complexity I
     Of revolving loan funds.   This  type of financial [
     analysis consists of systematically identifying all cash I
     flows associated with an SRF over time, including I
     capitalization, loan disbursements and repayments,!
     earnings on  investments, and bond  issuance and|

     Computerized .cash flow modeling tools  have been |
     developed by underwriters, financial advisors, EPA,
     and infernally by states to support SRF financial I
     management activities.  These types of tools use!
     historical financial activity of an SRF, anticipated I
     near-term financial activity, as well as the longer-term I
     projected future financial activity.  Changes in key!
     assumptions requiredto make financial projections are
     used to identify the impact of potential policy choices. I
     Cash flow analyses should also consider the impactof I
     time and the cost of money by evaluating financial I
     scenarios in terms of today's dollars, or present I
     value/constantdollars^(dollafs stated m terms of equal \
     purchasing power).

     Many of the analyses presented in this handbook are I
     based on results from EPA's new SRF Financial
     Planning Model  This model allows program level)
     analysis of CW and DW SRFs, capturing the most!
     important  financial assumptions that impact the!
     financial condition of SRFs. The model is an Excel f
     based tool available from the SRF branch at EPA|

     In the discussion that follQws, modeling tips and
     comments are provided in text boxes like this one for I
 April 2001

 SRF Fund Management Handbook
 the EPA SRF Financial Planning Model
                                              Cor iparison of SRF and Market Interest Rates
                                                  9  1991  1993  1995  1997   1999

 The discussion of tools and techniques provides
 a comprehensive list of key financial measures
 that have been applied to SRF programs, along
 with a matrix that relates the application of each
 measure to the financial management questions.

 An underlying requirement of any discussion of
 fund management is the availability of reliable
 financial information, confirmed through the audit
 process, to provide the basis for financial analysis
 of a fund.  The  use of independent audits of
 program  funds provides  assurance  to SRF
 management that policy decisions are based on
 reliable financial information.


 There are a number of situations that may cause
 SRF management  to  consider  whether loan
 interest rates and other loan terms should be
 adjusted. These include overall changes inmarket
 interest rates, low demand for program assistance,
 complicated interest rate formulas, and/or a desire
 to stretch SRF funds further. Regardless of the
 reason for reviewing loan terms, all SRFs are
 continually faced with the question of what loan
 interest rates and repayment terms to use for their
      Figure 3 presents a comparison between average
      CWSRF interest rates and comparable market
      rates over the past ten years. After an initial start-
      up phase, the CWSRF  rates are  a relatively
      uniform proportion of market rates. The constant
      change in average CWSRF rates suggests that
      interest rate review and revision is an ongoing

      Given that the purpose of SRF programs is to
      reduce the costs of environmentally beneficial
      projects, the interest rate charged and repayment
      terms  for loans are critical factors to the entire
      program.  The loan interest rate and repayment
      terms establish the subsidy or benefit provided by
      the program to borrowers. At the same time, loan
      interest earnings and principal repayment are the
      main source (after capitalization and leveraging)
      of cash inflows for the program, allowing it to
      maintain its capital base and revolve  into the

      Loan interest rates may be set anywhere between
      zero percent and market rates (the DWSRF does
      have a provision allowing negative interest rates
      for hardship loans), as determined by the states.
      As loan interest rates are reduced below market
      rates a benefit is provided to the borrower in terms
April 2001

                                                          3. SRF Fund Management Questions
                   Figure 4

g Direct Loan
rj Leveraged
      <1%   1 to   2 to   2.5 to  3 to  3.5 to   4 to
            2%  2.5%   3%   3.5%   4%    5%
                  Loan Yield Rates
of reduced  borrowing cost.   The greater the
For  the  borrower,  delaying  loan principal
repayments  has a similar effect  to reducing
interest rates. As principal repayment is delayed,
more financial benefit is provided to the borrower.
However, principal repayment terms also have a
direct impact on an SRF.  Delayed principal
repayment translates into a direct  delay in the
recycling of those funds. The desire to maximize
SRF earnings and principal repayment must be
balanced  with the  desire to provide greater
assistance to borrowers, in the form of lower
interest rates and preferential repayment terms.

Loan principal repayment can be structured to
shift principal repayment into the future, as long
as some level of principal repayment  begins
within one  year of project completion.  The
following principal repayment structures generally
represent the spectrum from less to more shifting
of principal into the future.

•    level principal — periodic equal payments
     of  principal over the  loan amortization
     period, while interest included in  total
     payments declines over time.
loan interest rate reduction, the greater the
benefit. The reduction of loan interest rates
does have a negative consequence on the fund
of reducing future loan interest earnings for the

In 2000, CWSRF loan interest rates ranged
from a low .of zero percent to a high of 4.3
percent, with a median of 2.7 percent. Figure
4 provides a categorization of CWSRF interest
rates for each of the 51 programs in 2000,
broken  out  for  direct loan and  leveraged
programs. The most common interest rates are
in the 2.5 to 4.0-percent range. The leveraged
programs tend to have higher loan interest
rates, to help support the interest expense on
the bonds.
          •    level debt service — periodic equal total
               payments of principal and interest, results
               in lower principal payments early and larger
               payments later, like a home mortgage.

          •    gradual  ramp-up - periodic payment of
               principal and interest increases over time,
               the resulting principal payment in early
               years is even lower than level debt service.

          •    balloon payment - maj ority of principal is
               paid at the end of the loan  amortization
               period, interest (if charged) is paid on the
               outstanding loan balance until the balloon
               payment  is made.

          Each of these  general approaches to principal
          repayment can be designed with unique variations;
          however, the exact impact for the borrower and
          SRF will depend on the specific structure of the
          loan. Naturally, longer loan repayment periods
          delay  the repayment of principal resulting in
          potential financial benefit for the borrower and
          reduced fund recycling for the SRF.
April 2001

SRF Fund Management Handbook
The Massachusetts CWSRF recently initiated an
extended bond purchase program that allows
borrowers to refinance bonds with a term of
greater than 20 years.  This allows the borrower
to reduce debt  service payments by extending
principal repayment.   This is allowed in the
CWSRF program because the term of refinanced
debt is not limited at 20 years. Additionally, the
state plans to reduce the SRF debt service reserves
     associated with these bond purchases to ensure
     that the overall financial ability of the SRF is not
     significantly affected.

     Reviewing loan terms requires a balanced analysis
     of the effect  on borrowers and  the SRF.  The
     results of each analysis can be reconciled to reach
     a final answer on appropriate loan terms.
April 2001

                                                          3. SRF Fund Management: Questions
          SRF Planning Model Tip
     Select  Loan  Repayment  under   the!
     Projections tab.
     Select "Enter Loan Portfolio "
     Enter the terms (interestrate,, maturity,, and I
     amortization type) that you wantto analyze)
     for your program,
     Enter up to 7 different combinations of loan |
3.1.1 Loan Terms from the Borrower's

A potential SRF borrower will look to the SRF as
one of several financing options for proceeding
with a project.  The highest cost option for a
potential borrower is financing the project on their
own by borrowing funds at the current market
interest rates that the borrower faces (market rates
vary for different borrowers based on their credit
condition). The SRF program should provide
lower cost alternatives to borrowing  at market

An evaluation of appropriate  SRF loan terms
(interest rates, repayment, and loan fees) requires
an understanding of what  the other  financing
options are for potential borrowers. Questions

•    What is the cost of borrowing  at market
     rates for a borrower?
•    What other sources of funding exist?
•    How available is the funding?
•    What are the financing terms?

Understanding the range of options will help to
gauge the financing role the SRF should play in
the state and the appropriate  interest rates or
subsidy levels that the SRF  program should

Comparing current and potential SRF loan terms
to a borrower's market rates and other programs
      requires a common basis of comparison.  For
      different programs that involve borrowing funds
      over similar time periods, it may be sufficient to
      compare interest rates directly to other rates. Such
      comparisons take the form of differences in basis
      points (hundredths of a percentage point) or
      interest rates as a percent of market rates. Thus
      an SRF loan with a five percent interest rate when
      compared to a six percent market rate would be
      100 basis points below market or 83  percent of
      market rates.

      When financing options differ substantially in
      terms  of the time period of financing, varying
      interest rates over the life of a loan, construction
      period interest, balloon payments, loan fees, or the
      form of assistance provided (e.g.,  grants versus
      loans), a more rigorous approach is required to
      compare the options.  A useful technique for
      comparing financing approaches is to calculate a
      grant equivalency of each option.

      Financing a project using traditional borrowing at
      market rates would have no subsidy and would
      have a grant equivalency of zero percent. A two
      percent SRF loan for 20 years when market
      interest rates are six percent would be equivalent
      to a 30  percent grant.   Grant equivalency is
      calculated as the reduction in present  value cost
      of a financing option compared to assistance at
      market rates. This technique will allow analysis
      of a wide range  of assistance  programs  in
      comparison to current and potential  SRF loan
      rates to determine the appropriate interest rates for
      an SRF program. Section 4.4 provides additional
      information and example calculations of grant

      As alternative loan terms are being considered,
      it may be useful to calculate hypothetical loan
      amortization schedules  (projected  principal,
      interest, loan fees, total payment, and loan
      balance  for  each payment  period) to  help
      understand the magnitude of different changes in
      loan terms. This type of analysis can provide a
      realistic  context for  the  differences between
April 2001

SRF Fund Management Handbook
potential loan terms for the same loan amounts.
                   Case Study of the Utah State Revolving Fund
                              Financial Assistance Program
  Vital Statistics as of June 30,2000

  Federal Capitalization Grants: $102 million
  Appropriated State Match:        $20 million
  Total Funds Available:           $154 million
  Total Assistance Provided:       $126 million
   First Loan Issued in 1989
   Direct Loan Program
          Number of Loans:
          Loan Interest Rate:
  Since 1983, Utah has operated a state administered grant and loan program for wastewater projects to supplement
  the Construction Grants Program, initially, and now the State Revolving Fund Program.  The focus of their
  program is matchingthe level of financial assistance provided with the financial need of each borrower. Financial
  need is based primarily on estimated annual residential sewer user charges as a percentage of median adjusted
  gross household income (MAGHI). Estimated user charges are based on projected O&M costs, plus existing
  debt service, plus the resulting debt service from the proposed loan (potentially combined with a grant). The
  MAGHI is determined from the most recently available  State Tax Commission records.

  When potential borrowers have projected costs that exceed 1.4 percent of MAGHI, they will be considered for
  a hardship grant to bring their cost below 1.4 percent of MAGHI. To be considered for a loan, the user charges
  cannot exceed 1.4 percent of MAGHI. The interest rate recommendation for the loan portion of assistance can
  fall between zero percent and market rates to ultimately achieve a cost burden on the residential users that falls
  in the 1.1 percent to 1.4 percent range relative to MAGHI. (The staff has developed a cost of service spreadsheet
  model to evaluate the potential cost burden under alternative scenarios.)

  Other factors that the staff considers when evaluating assistance terms include:

       • comparing project costs relative to MAGHI to other recently completed projects in the state;
       • optimizing the return on the security account while allowing the project to proceed;
       • local political and economic conditions;
       • cost-effectiveness of financing alternatives;
       • availability of funds; and
       • environmental need.

  The results of the staff evaluation of the specific criteria and other factors are presented as recommendations
  to their Board for consideration.

                      For additional information contact:   Utah Department of Environmental Quality
April 2001

                                                         3. SRF Fund Management Questions
                                                 288 North 1460 West
                                                 Salt Lake City, UT 84114
To the extent that borrowers consider or perceive
the federal requirements that accompany SRF
funding as increasing project costs, this higher
cost- should be factored into the analysis.  For
example, when comparing financing options for
a project, the SRF funded approach may increase
project costs by some percentage to account for
the cost to comply with Federal requirements.
The bottom line comparison can then be made in
terms of grant equivalency or another basis of

3.1.2 Loan   Terms   from   the   SRF

The interest rates charged on loans and other
terms will have a direct financial impact on an
SRF over the entire life of each loan. During each
loan amortization period, loan
interest, principal repayment, and
fees will be received by the SRF
according to the loan terms. This
stream of payments over time
should be  analyzed as part of any
review of current or potential
loan interest rates.  A. financial
plan  should be  prepared  that
incorporates basic capitalization
and loan assistance information
into projections  that  estimate
year-by-year   inflows   and
outflows  of funds. The major
inflows for direct loan programs
will  be  capitalization,  loan
interest and principal repayments,
and  investment earnings while
the major outflows will be new
loan  disbursements   and
administrative costs.
                                                 •financial plan. Increases in interest rates will
                                                 increase interest earnings from loans and produce
                                                 more funds for future loans. Decreases ininterest
                                                 rates on new loans will decrease interest earnings
                                                 and reduce the amount of funds available for
                                                 future loans.

                                                 Leveraged programs and programs with match
                                                 bonds add to the complexity of financial planning
                                                 by adding bond fund  cash inflows  and bond
                                                 interest  and  principal  repayments  as  cash
                                                 outflows. However, the fundamental concept that
                                                 changes in loan terms will impact the overall
                                                 financial resources of an SRF and future project
                                                 funding from an SRF remains the same.

                                                 Financial planning to assess interest rate impacts
                                                 should  begin with a  common baseline  that
                                        Annual Disbursements Adjusted to 2000 Dollars
                                    I  10
                                                                         	Increase Rates to 4%
                                                                        ,- -•. Maintain Rates at 3%
Changes in interest rates on new
loans will  directly  affect the
                                    Key assumptions: Direct loan program, initial loan rate of 3%, loan rate
                                    increased to 4% for loans made beginning in 2000, investment earnings
                                    of 4.5%, discount rate of 3%.
April 2001

 SRF Fund Management Handbook
 identifies funding levels over time using current
 program assumptions.  Changes to interest rates
 or other assumptions can then be compared to this
 baseline to identify the magnitude and direction
 of each potential change.  This type of analysis is
 presented in Figure 5 for an interest rate change
 in a program.

 In this example, a program is currently charging
 an average loan interest rate of three percent. The
 dashed line presents the year by year funding
 (adjusted to 2000 dollars using a three percent
 discount rate) that this program can provide. The
 solid line presents a phased increase in loan
 interest rates to four percent. The impact of a rate
 change is not seen right away as all existing loans
 still yield three percent, but over time the return
 from new loans  at  four percent begins  to
 dramatically increase project funding levels.  By
 the  year 2020, the  funding level  could  be
 increased from $22 million per year to $27 million
 per year with a one percent change in loan rates.
 As the chart indicates the difference in funding
 levels will continue to increase over time.

 Selecting an appropriate loan interest rate requires
 a judgement call to reach the right compromise
 between funding projects today at a meaningful
 subsidy level and  preserving capital  to fund
 projects into the future. No one answer is right for
 all states. Each SRF fund manager is responsible
 for determining what is appropriate for their state.

 3.1.3 The  Issue  "Adjusting  Loan
       Terms" Directly Relates to:

 •    Ability  to make loans and  market the
 •    Fund utilization
 •    Composition of the loan portfolio
 •    Ability to leverage or borrow for match
 •    Long term sustainable funding levels
                        Figure 5
April 2001

                                                         3. SRF Fund Management Questions

After loan interest rates and other loan terms, the
next most important area of SRF earnings comes
from the interest earnings on cash and investments
held by the SRF.  Frequently, this area of the
program is controlled by state investment policies
and decisions are under the  control of the State
Treasurer's  office.    Cash  investment   and
management is one of many financial functions
that a Treasurer's office  must perform  and
frequently SRF funds are invested along with
other state funds in this manner. When bonds are
held  by  the program,  reserve  investment
requirements are specified in the bond indenture.
However, periodic review of investment earnings
should be  a part  of ongoing SRF financial
management to ensure that investment earnings
meet expectations and are being properly credited
to the SRF.

Figure 6 shows the distribution of investment
returns for CWSRF programs in 2000 (returns are
estimated based on average cash and investment
balances held for 2000). The figure shows that
many of the programs had investment yields in the
four to six percent range. About an equal number
had slightly higher  or lower yields. At the lower
end of the scale, six programs had yields below
three  percent.  The figure does  not  show  a
significant difference between investment yield
for  direct loan programs  as  compared to
leveraged programs.

The yields presented are based on estimates to
provide a basis of yield comparisons. A more
precise  calculation of investment yield is
required  to  assess  this  aspect  of  fund
management in more depth.  Specific analysis
requires detailed data on investments and their

SRF programs that  issue tax-exempt bonds to
leverage their program and/or raise state match
are  subject  to a complex  set of arbitrage
earnings restrictions and rebate requirements.
      These rules, defined in section 148 of the Internal
      Revenue Code, are designed to prevent issuers of
      tax-exempt bonds  from retaining  any interest
      earnings that exceed the interest cost of the bonds
      (i.e., arbitrage earnings).  Arbitrage restrictions
      add  an additional  dimension to investment
      earnings for programs using tax-exempt bonds.
               SRF Planning Model Tip
           Investment earnings are controlled in thel
           Use  of  Funds  section  of Projection!
           Set anticipated interest earning rates on|
           short-term investments and reserves.
           Generally,  interest rates  on longer-terml
           reserve investments will  be higher  thanf
           short-term investments.
      3.2.1  Evaluation of Investment Yield

      Investment earnings should be monitored on a
      routine basis, typically monthly. The information
      required to review investment earnings usually
      takes the form of monthly investment reports.
      Such reports should provide basic transactional
      information  on the investment accounts  and
      periodic posting of interest earnings and gains and
      losses on investments.

                      Figure 6
           CWSRF Investment Returns






                                          S Direct Loan
                                          D Leveraged
           <2%  2 to  3 to  4 to  5 to >6%
                3%  4%  5%  6%

                   2000 Yield
April 2001

 SRF Fund Management Handbook
 Using the information supplied in each report, a
 simple investment yield calculation should be
 computed  for each  major investment account
 group, categorized by the length of investment
 maturity, and collectively for all fund investments.
 This will provide an indication of the average
 return over the period for each account group and
 in total. The results can then be  compared to
 typical market rates for similar investments as
 reported in financial publications.

 When significant deviations are found between
 actual investment returns and market rates for
 comparable investments, the differences should
 be investigated.  Low investment  returns for a
 particular type of investment could indicate:
 •    investment  earnings  not being properly
     posted to an SRF account;
 •    excessive trading losses on investments;
 •    investment  in inappropriate investment
     vehicles; or
       •     time  lapses on investment deposits (un-
            invested funds).

       While higher than expected investment returns are
       immediately appealing, such instances should also
       be evaluated because they may indicate:

       •     a lack of understanding of the investment
       •     inappropriate (e.g., high risk) investments
            that could cause problems in the future;
       •     misstated financial information; or
       •     higher than expected cash balances due to
            project delays.

       Any potential investment problems usually can be
       corrected quickly.  However, they must first be
       identified as problems by conducting routine
       investment reviews. Corrective action steps can
       then be taken to correct the situation.

       Ideally, the investment portion of an SRF should
       provide a rate of return that  is comparable to
       similar low risk investments in the market place,
       such as, investments in U.S. government bonds
       and bank issued certificates of deposit.
April 2001

                                                              3. SRF Fund Management Questions
                  Case Study of the New York State Clean Water SRF
 Vital Statistics as of June 30,2000

 Federal Capitalization Grants: $1,671 million
 Funds Available for Loans    $5,104 million
 Total Assistance Provided:    $4,550 million
 First Loan Issued in 1990
 Average Loan Interest Rate:   2.4%
     Leveraged and Direct Loan Program
     Appropriated Match Provided
     Total Number of Loans:      641
     Leveraged:                 322
     Direct Short Term:          23 8
     Direct Long Term:           81
 The New York State Clean Water SRF offers leveraged and direct loans at below market rates. Both types of
 loans are offered to strike a balance among the need (a) to maximize the delivery of program benefits, (b) to
 protect the credit quality of the leveraged loan portfolio, and (c) to maximize  benefits to disadvantaged
 communities.  (New York also offers a short term zero interest rate planning, design, and/or initial construction
 loan that can be rolled into these long term loans.)

 Initially, program resources were "leveraged" at a ratio of 3:1. For every $150 in loans, New York State would
 commit $50 from federal capitalization and state match funds to borrower (debt) reserve accounts. Earnings on
 borrower reserve accounts are applied as an offset to each borrower's loan interest cost. Three times leveraging
 corresponds to approximately a one-third interest rate subsidy. In June of 1992, the leveraging ratio was reduced
 to 2:1 for the purpose of increasing the subsidy provided to borrowers (from approximately one-third to one-half).

 The reduction in the leveraging ratio to increase the borrower subsidy was accomplished by an amendment to
 the New  York State statute governing the CWSRF. The amendment is scheduled to sunset on September 30,
 2003.  New York has not made a commitment to permanently reduce the leveraging ratio to two times. Such
 a decision would depend on anticipated future federal grants and a decision by the State of New York that offering
 greater financial subsidies to high scoring projects on the Intended Use Plan will yield greater environmental
 results than maximizing the number of projects that receive funding, but with lower financial subsidies.

 Bond Financing and Investment of Federal Capitalization and State Match Funds Deposited in Leveraged
 Borrower Reserve Accounts

 Leveraged loans are funded from the proceeds of CWSRF bonds. Because the New York City Municipal Water
 Finance Authority (NYW) is the dominant leveraged loan borrower, CWSRF bond financing activity is undertaken
 under two separate indentures; one that serves NYW and one which serves all other local governments. Operating
 out of two indentures allows New York to isolate the NYW credit and maximize the program credit rating. NYW
 financings are marketed on the basis of Aal/AA+/AA+ ratings and the pool financing indenture is marketed to
 investors on the basis of Aaa/AAA/AAA ratings.  With this structure, participating local governments benefit
 from  the New York Environmental Facilities Corporation's (EFC) ability to borrow on the basis  of the
 Aaa/AAA/AAA ratings while being assured that any deterioration in NYW's credit would have no detrimental
 impact on program borrowing costs. This arrangement also works to the benefit of NYW as it allows New York
 State to respond specifically to the funding timetable of NYW.

 Capitalization dollars deposited in borrower reserve accounts are invested in U.S. Treasuries (State and Local
 Government Series (SLGS) or long dated repurchase agreements which are collateralized with U.S. Treasuries
 or U.S. government guaranteed securities. Collateralized repurchase agreements have been entered into with
 domestic and foreign banks, broker dealers, and insurance companies each meeting certain statutory rating
 requirements.  NYS currently requires funds deposited under these repurchase agreements to be collateralized
 110% with U.S. Treasuries or  113% with U.S. government guaranteed securities. NYS must have a perfected
April 2001

SRF Fund Management Handbook
  security interest in the collateral and it must be marked to market weekly with any shortfall cured within one
  business day.  Agreement providers must pay interest one day in advance of the SRF bond payment date.
  Agreements are bid on the basis of market interest rates.

  The objective of the program is to secure a market bid that will enable the program to deliver interest subsidy
  payments that accounts for a percentage of the borrower's annual interest cost that at  least matches the corpus
  allocation percentage. Since the inception of the program, NYS has succeeded in meeting this objective.

  Arbitrage and Reserve Model Leveraging: Capturing Equivalent Refunding Savings for the Benefit of
  CWSRF Borrowers

  New York uses the interest earnings  on reserve funds to provide subsidy benefits to borrowers. In accordance
  with Section 148(f) of the Internal Service Code and Section 1.148-5(c) of U.S. Treasury Regulations, arbitrage
  rebate and yield reduction payments, respectively, are made to the U.S. Treasury  on certain  reserve fund
  investment (other than tax-exempt bonds) earnings in excess of the bond arbitrage yield to the U.S. Treasury.

  Bond debt service can be reduced by refunding bonds in a lower interest rate environment.  When doing an
  advance refunding (where bonds are refunded by more than 90 days in advance of the first call date), it is
  necessary to issue refunding bonds in an amount that exceeds the amount of bonds  to be refunded. This is.
  necessary to generate the bond proceeds needed  to fund an investment escrow that will produce the future
  cashflow requirements needed to pay the debt service of the refunded bonds. For state SRFs that rely on the
  reserve model, the net SRF subsidy benefit to SRF borrowers is diminished by the necessary increase in bonds
  outstanding and the requirement that earnings exceeding the arbitrage rate on the new bonds (the refunding bonds)
  be returned  to the U.S. Treasury. This decrease can only be offset by increasing the allocation of SRF equity
  to borrower reserve accounts, which would restore the loan to borrower reserve ratio and preserves the interest
  rate subsidy. New York has found this option to be untenable as it would require that previously financed SRF
  projects be relisted on the IUP and compete with new projects for funding.

  In September 1997, New York initiated an advance refunding of SRF bonds issued for the purpose of funding
  SRF projects for NY W. Because federal tax law and regulations would restrict the borrower reserve fund earnings
  to the new, lower arbitrage yield of the refunding bonds, New York undertook a partial refunding. The partial
  refunding was done without the benefit of an SRF  reserve as part of the bondholder security pledge. In effect,
  the unrefunded bonds retained the SRF reserve pursuant to the outstanding bond indenture (the "Senior Bonds")
  and the refunding bonds were issued on a subordinate basis (the "Subordinate Bonds"). In accord with federal
  tax regulations, New York (a) refunded only those pre-1993 bonds for which debt service could not be covered
  by SRF debt service reserve fund earnings and (b) refunded post-1993 bonds as defined by the difference between
  the outstanding bond  balance and outstanding reserve fund balance.  The arrangement resulted in the SRF
  borrower receiving the equivalent of an interest free loan for their post-1993 unrefunded bonds and a market
  rate loan for the balance as set by the interest  rate of the refunding bonds. Although New York would have
  preferred a traditional refunding, yield restrictions limited the refunding options available to them that would
  produce a meaningful present value savings.                                                          i

  The development of this Senior/Subordinate Refunding approach has enabled New York's reserve fund leveraging j
  program to achieve meaningful present value savings on behalf of local borrowers. Unfortunately, New York!
  found this refunding approach to be suboptimal in that it only maximizes PV savings for the bonds that are j
  refunded. Absent, tax law and tax regulatory constraints, a traditional high to low refunding of all callable bonds,
  would offer much greater savings to SRF borrowers.  So long as its SRF reserve fund investments are subject
  to rebate and yield reduction payments, New York has found that a traditional high to low refunding can not
  consistently compete with the senior/subordinate refunding approach.
April 2001

                                                            3. SRF Fund Management Questions
                      For additional information contact:
      Environmental Facilities Corporation
      50 Wolf Road, Room 502
      Albany, NY  12205-2603
April 2001

 SRF Fund.
 3.2.2 The  Issue  "Returns  on  Fund
       Investments" Directly Relates to:

 •    Total funds available for loans
 •    Ability to leverage or borrow for match
 •    Long-term sustainable funding levels


 Regardless of the level of capitalization or the
 availability  of  additional   capital  through
 leveraging or other sources, each SRF has a pool
 of  financial  resources  at its disposal.   An
 important question to ask is, "Are those resources
 being used as efficiently as possible?"

 This question is best examined by analyzing the
 SRF balance  sheet assets to see  how SRF
 resources are being utilized. SRF assets consist
 of five main components:

 •    Cash  and   Short-Term  Investments,
     including loan repayments
 •    Debt Service Reserve Investments
 •    Loans Outstanding
 •    Undrawn  Federal  Grants,  less  amounts
     designated for set-asides (may show up in
     financials as a footnote)
 •    Undrawn State Match Amounts

 The sum of these asset components comprise the
 total assets or financial resources of an SRF.- All
 of these assets except debt service reserves
 make up the total assets  available for loans.
 Therefore, a simple measure of the efficiency
 with which funds are utilized is a calculation of
 loan commitments as a percent of available
 assets (total assets less debt service reserves).

 In the most efficiently managed SRF, this
 measure approaches 100 percent, which means
 almost all available assets are being committed
 as loans.  From a practical standpoint, loan
 commitments must be less than available assets
 to account for the need to  maintain cash
 balances that accommodate the tune lag from
 receiving loan repayments, interest earnings,
      new capital, or bond proceeds and  actually
      disbursing the funds. Converting available assets
      to loans will also take time for programs as they
      go through their start-up phase.  However, it is
      reasonable  to expect that over time most  SRF
      available assets should be committed as loans and
      this measure will approach 100 percent. Due to
      the  timing   of  loan  commitments   and
      disbursements, most programs will not actually
      reach the 100 percent level.

      Figure  7  presents  the national  average  of
      cumulative CWSRF loan commitments as a
      percentage  of cumulative available funds  over
      time.   The graph shows steady  progress  in
      increasing the use of available funds. In 2000, the
      average for the program had reached 89 percent,
      which was up from 86 percent in 1999. This trend
      is expected to continue as  loan commitments
      continue to catch up to the available funds.

      Individual  CWSRF programs have naturally
      performed above and below the national average
      of cumulative loan commitments as a percentage
      of available funds.  Some programs have even
      exceeded 100 percent, indicating that they are
      making loan commitments  in anticipation of
      future availability of funds (e.g., repayments and
      interest earnings).
                     Figure 7
     Cumulative CWSRF Loans as a % of Available
     100 .
1988   1990   1992   1994   1996  1998   2000
April 2001

           case btuay or tne uregon s Accelerated Loan commii:ment
                                  in the Clean Water SRF
 Vital Statistics as of June 30, 2000

 Federal Capitalization Grants: $191 million
 Total Funds Available:       $301 million
 Total Assistance Provided:   $327 million
 Match Provided from State Appropriations
 and GO bonds outside SRF
     First Loan Issued in          1991
     Direct Loan Program
     Number of Loans:           129
     Average Loan Interest Rate:   3.8%
 Oregon's Clean Water SRF is a direct loan program that is taking an innovative approach to making loan
 commitments. Initially, like all CWSRFs, Oregon only made loan commitments for funds that were actually on
 hand. However, with delays in project start-up and long disbursement schedules, Oregon's Department of
 Environmental Quality (DEQ) found itself with long lag times from the time when funds were initially available
 to actual project disbursements. This resulted in relatively large cash balances and undrawn grant amounts.

 To reduce the lag time in fund utilization, Oregon is now committing more project assistance than it has funds
 immediately available because of its experience in projecting program cash flows and project disbursements.
 By examining the inflows and outflows of CWSRF funds, DEQ discovered that the program could commit to
 loans in anticipation of future cash inflows as long as it closely monitored the fund's projected cash balance.
 The table below presents a simplified illustration  of this approach.
Cash and Grants
Available - Beginning
of the Quarter

Cash In-
Cash and Grants
Available - End of
the Quarter
 In this illustration, if the program waited until the full $20,000,000 was "available" the loan commitment could
 not be made until the end of the fourth period when funds available would exceed the $20,000,000 project amount.

 To monitor the fund's cash balance and to predict the fund's ability to commit to new projects, Oregon created
 an Excel based cash balance model to track the inflows and outflows of cash in the fund. With the spreadsheet,
 DEQ can predict the amount pf new loans that the fund can originate and the effects the proposed disbursements
 would have on the fundVeash balance.

 Program data quantifying all major projected cash inflows and outflows are entered into the spreadsheet on a
 quarterly basis. The current cash balance of the fund and the grants available to the fund are entered as the starting
 point for funds available. Then future inflows and outflows are added. The major cash flows consist of projected:

 •       grant payments;
 •       state match;
 •       loan principal and interest repayments;
 •       administrative expenses;	
April 2001

  •       disbursements for existing loan commitments; and
  •       investment earnings.

  These cash flows are used to project future cash balances and the ability to commit to additional loans on a
  quarterly basis. Because the intent of the spreadsheet is to monitor the fund's future cash balance, only future
  activities of the fund need to be included for the spreadsheet to operate.

  Once the anticipated financial activity has been included in the spreadsheet, the impact of committing to additional
  projects on the fund's cash balance can be evaluated based on the projected project schedules and disbursement
  schedules submitted by the borrower. This becomes one factor before loan commitments are made. This does
  not supplant either the calculation of funds available that determines the total amount of loans that will be
  committed each year, or the priority system that determines the order in which projects will be funded.

  The cash balance projection spreadsheet does use a conservative estimate for potential investment interest and
  a rapid escalation of administrative expenses to build in a cushion against any unforeseen changes in the projected
  ability to commit funds. As the state gains more experience in projecting cash flows and committing funds in
  anticipation of funds becoming available, they will be better able to judge the need for conservative assumptions.

  The use of accelerated loan origination has allowed Oregon to commit to $37.7 million more in projects through
  fiscal year 1999 than they would have using the traditional funds on hand approach to loan origination. By
  completing the loan agreements earlier, projects are able to meet schedules rather than be delayed until the funds
  are available. The bottom line is thatthe program cash is used more efficiently. Additional benefits include being
  able to more accurately project the loan funds that will be available in future years. With this information, long-
  term forecasts are prepared for project management and administration.  In addition, the state has been able to
  commit to four different short-term loans, providing construction period financing for projects that will receive
  USDA Rural Development funding. These projects, totally over $15 million, have kept the cash in use for
  communities while other projects, higher on the priority list, are getting ready for construction.

  After several years of "leveraging" future cash inflows, the low point on the cash flow model has moved from
  being several years out to being only 18 months ahead of us.  While the nature of project schedules  and the
  conservative assumptions will probably keep moving the mark out further, the program should be close to drawing
  down all available federal funds and using the cash on hand by that time (maintaining an appropriate cash reserve).

  Other calculations are used to be sure that funds remain available for the highest priority projects when they are
  ready to constructratherthanjustgoingtoaproject whose disbursement projections fit the cash flow gaps. More
  short-term construction period loans will probably not be added unless unusual construction schedules create
  significant periods of time that cash is idle. The cash flow model  is most useful in modeling disbursements before
  a loan is signed to be sure that the cash will be on hand when needed.

  A prudent reserve amount will be maintained to allow for project schedule changes, and loan increases on on-
  going projects. In addition, allowing for the accumulation of cash to fund large, high priority projects will create
  on-going cash balances.

  Oregon's cash balance computer model has become a useful tool in the direct loan program, maximizing the use
  of cash for the benefit of the communities and, essentially, "leveraging" our own cash flow.  While it does not
  give the total picture, it provides an important piece in using the CWSRF to make the greatest impact possible
  on water quality problems in Oregon.                                                                 i
                       For additional information contact:
      Oregon Department of Environmental Quality
      811 S.W. Sixth Avenue
      Portland, OR 97204-1390
April 2001

3.3.1 Assessing the Use of SRF Funds

The ability of an SRF to convert available assets
to loans is a use of funds issue. An evaluation of
the use of fund resources should begin with an
identification of available  assets or resources
beginning  at  the start of the program and
continuing out into  the future.  This  pool of
available assets can be compared against the use
of the assets to make loans.  From the start of the
program, the increase in loan funds outstanding
as a proportion of available assets should  be
climbing.  If the program is lagging behind in
converting available assets to loans,  then the
program may  want  to  develop  a plan  for
increasing  loan commitments and accelerating
loan disbursements over the near-term.
          SRF Planning Model Tip
     Fund  utilization  rates t are  critical to I
     modeling SRF Programs and are controlled |
     under the Use of Funds tab.
     Fund use  is  controlled relative to  the|
     availability of funds to make new loans.
     Constraints  may  be  imposed to ensure j
     minimum cash balances are maintained.
     The model  can perform trial and  error I
     calculation to solve for your fund utilization
     goals — check "Optimize Cash Balance" to [
     use this method.
For SRFs that are lagging in using available assets
as loans (slow program pace), the anticipated
increase in fund utilization should be reflected in
subsequent intended use plans to identify how
available assets, which include loan repayments
and interest earnings, will be utilized  in the
coming year.   The utilization  of funds  and
commitments to new projects should account for
a program's need to maintain reasonable working
capital in the program and to account for large
scale projects that will require disbursements over
a relatively long time  frame (i.e., three or. more
years). Programs that are experiencing low xisag6
rates of available assets (z'.e., maintaining excess
cash balances and undrawn grant/match amounts)
should move aggressively to ensure that funds are
put to their intended use over the near-term.
      3.3.2 The   Issue   "Fund   Resource
             Utilization" Directly Relates to:

      •    Loan terms
      •    Availability of funds for investment
      • .   Use of funds produced by leveraging
      •    Ability to leverage or borrow for match
      •    Long-term sustainable funding levels


      The purpose of an SRF is to make below market
      interest rate loans to projects that can achieve
      desired environmental and public health results.
      The ability of the loan recipients to repay loan
      principal and interest could have a major impact
      on  the financial condition  of the  SRF.  The
      financial ability of  potential  SRF borrowers
      should be assessed as part of the loan application
      review to determine loan affordability, ability to
      repay the loan, and loan security provisions that
      may be required such as reserve requirements and

      The question, "Does the fund have a sound loan
      pbrtfolio?" refers to the financial condition and
      ability of the loan recipients to repay the loans on
      an ongoing basis. A simple test of the soundness
      of the loan portfolio is to see if all scheduled loan
      principal and interest payments have been paid on
      time.  Have there been any late payments or  the
      need to restructure payments? If all payments are
      not being paid currently, this may be a sign of
      problems with the loan portfolio. Such difficulties
      should be investigated to determine the magnitude
      of  the  problem  and  identify any  overall
      weaknesses in the loan portfolio.

      The presence of weak segments or credits within
      the  loan portfolio is not an inherent flaw in  the
      management of an SRF.  An integral part of a
      program may be to loan funds to financially weak
      borrowers to support proj ects that achieve desired
      environmental results.  However, the financial
      condition or strength of the loan portfolio must be
      monitored to assess uncertainty over future loan
      repayments and to establish loan loss reserves (or
      prepare for losses) when appropriate.
April 2001

gjFtFfund Manjagement Han^gok
3.4.1 Loan Portfolio Analysis

Loanportfolio analysis requires an under standing
of the financial condition of each borrower.  If
most of the borrowers have a bond rating, then
their bond ratings could be used to  assess the
financial condition of the portfolio. For example,
the loans  outstanding could be categorized by
bond rating such as 44 percent of the loans are A
rated or higher, 34 percent are investment grade
with B ratings, and 32 percent are not rated.  A
similar type of breakdown could be provided
using the results of financial capability reviews
performed by the SRF on the borrowers during the
loan application process.   The  results  of each
review can be categorized into strong, medium,
and  weak financial condition.  As with bond
ratings, these categories  can be used to  break
down the composition of the loan portfolio.

For SRF programs with loan portfolios that have
a  large  proportion of  financially  weaker
borrowers, there may be off-setting factors that
should be taken into consideration that increase
the assurance of repayment. Such factors include
loan provisions that provide additional security for
loan repayment beyond pledges of the revenues
from user charges, such as, pledging the full faith
and credit of the community, asset pledges, and
state aid intercept. Additional pledges provide
greater assurance of repayment and  should be
taken into consideration  when evaluating the
condition of an SRF loan portfolio.

Loans to  individuals, non profit groups, and
private  businesses  for  nonpoint  source and
drinking water projects add complexity to loan
portfolio analysis. Frequently, such loans are
structured differently from loans to traditional
governments. The source of revenue to repay the
loan may be unique to the project and borrower's
circumstances. Collateral to secure the loan may
play a larger role in the loan structure because the
borrower does not have broad taxing authority.
Nonetheless, loan  portfolio analysis  should
attempt to evaluate the credit risk of these loans
using techniques such as those outlined in Credit
      Considerations  for Reaching Nonpoint Source
      SRF Borrowers. GIF A. April 1999.

      Loan portfolios should also be evaluated with
      respect to loan terms that may strain the ability of
      borrowers to make repayments in the future.
      Examples are loans that have increasing interest
      rates/payments  in the later years and loans with
      balloon repayments.  In both cases, a borrower
      may be  able to  meet current obligations, but be
      unable to make higher payments later in the loan
      term.  Assessments of loan portfolios should
      consider these factors when reviewing the overall
      ability of the borrowers to make all loan principal
      and interest payments.

      The end result of assessing the financial condition
      of the SRF loan portfolio can serve a number  of
      purposes.  The first is to evaluate the likelihood
      that all outstanding loans will be repaid on time.
      If there is risk or uncertainty over repayment from
      a segment of the loan portfolio, this knowledge
      should  be  applied  to  financial planning  by
      factoring in potential default rates  on certain
      loans.   It may also be desirable to establish
      accounting loan loss reserves to recognize the loss
      potential in financial statements.

      Assessing the loan portfolio can also be used  to
      provide  feedback  on  a  program's  credit
      review/financial capability analysis process by
      determining  if the  process is  adequate   to
      categorize  the  financial  condition   of  the
      borrowers.   Secondly, any defaults and/or late
      payments can be linked back to the assessment  of
      financial capability to ensure that borrowers that
      ultimately experience repayment difficulty were
      properly identified as higher credit risk.

      3.4.2 The   Issue   "Loan   Portfolio
             Management'" Directly Relates to:
           Loan terms
           Fund utilization
           Ability to leverage or borrow for match
           Long-term sustainable funding levels
April 2001


        case study of Maryland Water Quality Financing Administration (WQFA)
                                  Loan Portfolio Evaluation Process
   Vital Statistics as of June 30,2000

   Federal Capitalization Grants:   $367 million
   Appropriated Match:          $ 69 million
   Leveraging Initiated:          1990
   First Loan Issued:             1990
                       Total Funds Available:           $687 million
                       Total Assistance Provided:       $533 million
                       Number of Loans:               160
                       Average Loan Interest Rate:      2.5%
   As one of the first SRF programs to begin using a blended rate approach to leveraging, the credit quality of WQFA's loan
   portfolio was extremely important. Many of the early borrowers were well established communities that had debt issuance
   experience and had corresponding ratings on their debt from bond rating agencies. This situation provided a straightforward
   means of tracking the financial condition of the WQFA borrowers by tracking the bond ratings of these same entities for
   independently issued debt. This level of analysis is conducted annually to produce summary tables characterizing the
   financial condition of the loan portfolio.

   The table below provides the summary as of June 30, 1997.
               Not Rated
Loan Volume
Percent of Total
   .   4%
  The table shows a very strong portfolio with 92% of the loans with borrowers having a A rating or higher. However, the
  category of borrowers listed as "Not Rated" required additional review since no rating information is available on these
  borrowers on an ongoing basis. (The not rated borrowers do go through an initial credit reviewprior to loan commitment.)

  To track "not rated" borrowers on an ongoing basis, Maryland developed a systematic approach for collecting and analyzing
  financial and other data on each of these borrowers. Financial statements are collected annually for both the enterprise
  and general funds and the information is entered (using a standard approach) into a financial analysis spreadsheet.

  The spreadsheet is used to calculate standard industry ratios, including:
        current ratio
        cash/current liabilities
        total assets/total  liabilities
        net debt/(fixed assets + working capital)
        O&M expenses/total operating revenues          ;
        fund balance (retained earnings)/revenues
        interest and debt service coverage; and
        debt service safety margin                                                                       .    '

 I The ratios are compared to industry standards'developed by Moody's and also compared to prior year's data for trend
 | analysis. The results of the evaluation along with analysis of other economic and demographic information is used to
 I identify potential weak credits in the loan portfolio and update a watch list of borrowers with potential financial problems.
  This information allows Maryland to actively oversee all aspects of their loan portfolio and to maintain a high degree
  of confidence for loan repayment. This oversight and evaluation process will become increasingly important in the program
 | as a larger share of the loan volume for the CWSRF and DWSRF goes to unrated borrowers.
                        For additional information contact:
                         Maryland Water Quality Financing Administration
                         2500 Broening Highway
                         Baltimore, MD 21224
April 2001

SRF Fund Management Handbook

States may be asked if their SRF programs are
providing sufficient levels of project assistance to
the right mix of borrowers. The question may
arise because there is not enough SRF funding
available for'all of the eligible projects that wish
to receive assistance. Excess demand for the SRF
will manifest itself in several ways.  The first is
the general interest level in the program for
traditional and other types of projects. Indicators
include high numbers of inquiries  about the
program, requests for program information, strong
attendance at SRF public meetings, and large
numbers of assistance applications.  A second
indication is a low dropout rate for applicants
approved for assistance. The proj ects that receive
assistance commitments usually proceed with the
project to avoid losing  the funding.  A third
measure  of demand is the diversity of potential
applicants interested in the program.  Is there
strong interest in the program across community
sizes and financial capability?
          SRF Planning Model Tip
•   Enter modeling assumptions for your state.
•   Go to See Results - Single Graph.
•   Viewresultsfor fund resources to assess how |
    well your program is using available funds,
•   Adjust fund utilization assumptions to see I
    how demand must change to meet  yourj
    supply of funds.
Collectively, high demand for the program can be
attributed to many factors, including: strong
enforcement, favorable SRF loan terms, lack of
alternative  programs,  or  general  economic
conditions. The causes of the high demand may
help direct the appropriate response to make more
SRF funds available.
     3.5.1  Factors to Consider When There
             Is Excess Demand for Funds

     The consideration of making more funds available
     would lead to three of the other fund management

     •   Should loan terms be adjusted?
     •   Are   available  resources   being   used
     •   Should  the  fund  leverage/continue  to

     Responses to each of these questions could make
     more funds available by increasing loan interest
     rates,  increasing the  utilization of  existing
     resources, or providing additional funds through
     leveraging. Any action must be considered in the
     short and long term. Changes in interest terms
     and improved fund utilization will take time to
     translate into increased funding levels.   An
     increase in interest rates may also have a negative
     impact on loan demand making it more difficult
     to utilize all funds.  Leveraging decisions could
     have a much more immediate effect on funds
     available for projects.

     In addition to expanding the reach of the current
     SRF, the level of demand may warrant an appeal
     by the SRF and  its  constituents to request
     additional state contributions or the development
     of other state programs to complement the SRF.

     3.5.2  The Issue "Availability of Funds"
             Directly Relates to:

     •   Loan terms
     •   Investment results
     ซ   Need for leveraging
     •   Impact of borrowing for match
     •   Long term sustainable funding
April 2001

                                                              3. SRF Fund ManaffementjQuestipns^
        Case Study of Massachusetts State Revolving Fund (MASRF)
                                 Fund Utilization Strategy
  Vital Statistics as of June 30, 2000

  Federal Capitalization Grants: $643 million
  Match from GO Bonds outside the SRF
  Leveraging Initiated: 1993
  First Loan Issued: October 1991
     Total Funds Available:         $1.8 billion
     Total Assistance Provided:     $1.9 billion
     Number of Loans:             787
     Average Loan Interest Rate:    0%
  For the past several years Massachusetts has been working to implement its Watershed Initiative, a comprehensive
  watershed approach to water quality protection] The Watershed Initiative divides the Commonwealth into 27
  separate watersheds and assigns "basin teams" to manage water quality issues within the watersheds.  The
  underlying concept of the watershed approach is to look at overall water quality within each watershed and allow
  experts familiar with the watershed to participate in developing water quality strategies.

  In an effort to support the watershed initiative and  achieve the highest  level of water quality for the
  Commonwealth, the Department of Environmental Protection (DEP) began rethinking their MASRF utilization
  strategy in the spring of 1996. Like many states, the bulk of the MASRF funds had traditionally gone to large
  wastewater treatment and collection projects. DEP began developing a strategy that would allocate a certain
  amount of funding forNPS and other non-traditional projects. Initially DEP was leaning towards allocating five
  percent of funds to NFS projects in the first year and increasing it thereafter.

  Further analysis of their fund utilization strategy led DEP to decide that the type of project, whether it was a new
  treatment plant or funding the repair of septic systems, was somewhat irrelevant since the real goal of the SRF
  is to protect and improve overall water quality. This thinking led DEP to conclude that financing NFS projects
  to a fixed level of five percent made little sense since DEP estimated that NFS's were responsible for 80 percent
  of water pollution.

  Subsequently, DEP revised its project category allocation approach for financing water quality projects. In
  October of 1997 the Commonwealth promulgated regulations that leveled the funding playing field between
  traditional and non-traditional projects. Funding criteria in the new regulations gives priority to the most desirable
  projects to fund within each watershed. Further no applicant can receive more than 33 percent of available funding
  in any one year. Under the new regulations, watershed teams review and rank projects within their watershed.
  Regional DEP staff (there are four regions in Massachusetts) then review and rank the projects within their region.
  As a final ranking step, DEP headquarters takes the regional rankings and compiles a final Project Priority List
  (PPL). The end result is a PPL that ensures the most desirable water quality projects receive funding, "regardless
  of project category." The MASRF trend of utilizing funds to achieve the greatest water quality benefit is reflected
  in their funding levels. Before the new funding regulations were in place, the MASRF obligated $1.7 million
  in NFS loans (through 1997), mostly to communities to assist with the repair of failing septic systems. This
  funding level increased dramatically in 1998, to $39 million, the first year the watershed-based ranking criteria
  and regulations were employed. Once the watershed assessment period ends, it is expected that the NFS funding
  level will be 50 to 60 percent of all SRF funding.
             For additional information contact:
            Massachusetts Department of Environmental
1 Winter Street
Boston, MA 02108
April 2001

SRF Fund Management Handbook
April 2001

                                                          3. SRF Fund Management Questions

 "Does  the fund have sufficient administrative
 resources?" is a common question posed to SRFs
 to determine if a  fund can not only revolve
 financially  in perpetuity,  but that it has the
 administrative resources to provide for operating
 the program in perpetuity. The use of SRF funds
 for administrative costs is capped at four percent
 of the capitalization grant amount, which means
 that at some point each SRF will require outside
 sources of SRF administrative funding.

 Determining  the   administrative   resource
 requirements of an SRF is a long-term budgeting
 exercise.    The   historical   and  projected
 administrative costs of the program must first be
 calculated to understand the funding requirement
 over time.   The   funding  requirement  on a
 sustainable basis should be calculated as an
 average annual administrative  cost m today's

 Currently  available  administrative  resources
 should  be matched  year-to-year with estimated
 administrative  costs.   This will provide an
 indication  of  how long  currently  available
 resources will be sufficient to pay these costs. The
 short-fall between available funds and projected
 costs is the amount  of additional administrative
 funding that will be required.  Opportunities to
 reduce operating costs, while not diminishing the
 effectiveness of the program, should be considered
 along with any review of projected administrative

 Sources of additional funding include ongoing
 state program funding or fees generated as part of
 the SRF program as  a cost to the borrowers.  The
 political appeal of either approach may dictate the
 direction that administrative funding will follow.

 Meeting administrative funding needs with SR^F
 generated  reyenue  requires  charging   an
 administrative fee to borrowers. The fee should
 be set to meet the administrative funding need of
       the SRF over the near-term and the estimated
       average  annual  cost  over  the  long-term.
       Administrative fees usually take the form of an
       application fee, a loan closing fee as a percent of
       the loan amount (points), and/or a loan servicing
       fee charged as a percentage of the debt service
       payment or principal balance outstanding on the
       loan. Various fee systems should be evaluated to
       project the revenue generated by each system or
       combination of systems  and its  sufficiency for
       meeting administrative costs. Systems to generate
       fees should also be evaluated with respect to
       fairness across segments of borrowers.
                SRF Planning Model Tip
            A separate section allows the user to model j
            alternative fee scenarios.
            Fees   work   in   combination   withl
            administrative set-aside amounts and user|
            entered funding requirements.
            Immediate feedback iง available on  the
            ability of fee levels to meet  anticipated j
      For a number of states, the  imposition of an
      administrative fee has been accompanied by an
      off-setting reduction in the loan interest rate to
      avoid increasing the  total loan  cost  for the
      borrower.  This reduction of interest earnings
      reduces the amount of funds available for future
      loans, affecting fund  growth.   The cost of
      administrative fees should be  factored  into
      subsequent analyses of SRF loan interest rates to
      ensure that the fees are reasonable.

      3.6.1  The   Issue    "Administrative
              Resources" Directly Relates to:

      •    Administrative fee portion of loan terms and
           total cost to the borrower
      •    Ability to manage leveraging or borrowing
           for match
      •    Achieving sustainable funding levels
April 2001

SRF Fund Management Handbook

Leveraging can be an effective tool to provide
greater  project assistance  than a direct  loan
program for near-term needs. Additional monies
to provide assistance are obtained through the
issuance of bonds secured  by the assets of the

In general terms, there are two types of leveraging
used by SRF programs, reserve-fund and cash-
flow leveraging.  The key  differences between
these methods are related  to the debt service
reserves set aside to secure the bonds. In reserve
fund leveraging, the reserve is "oversized" and
often is 40 to 60 percent of the bonds outstanding.
These reserves provide enhanced security for the
bonds and are invested to produce sizeable interest
earnings which help to pay off the bond debt
service.   Cash  flow leveraging  uses  a more
traditional  reserve fund of approximately  10
percent of the bonds outstanding. This allows the
use of smaller bond issues to fund an equivalent
amount of projects.  The net result  of  each
leveraging approach produces similar levels of
funding and subsidy for the SRF borrowers.

If two programs are the same in all aspects, except
that one leverages and the other does not, then the
leveraged program should be able to provide more
assistance sooner than the non-leveraged program.
Over time, the  non-leveraged or  direct-loan
program will build program equity faster than the
leveraged program.  In the leveraged program,
earnings generated from loan  and investment
interest are applied to debt service payments and
may not build as much equity over time. At some
point in time, the amount  of annual assistance
provided under the non-leveraged program will
exceed that of the leveraged program. How many
years this takes is based on a number of factors,
the most important of which are:

•     rate of inflation
•     loan interest rates
•     bond interest rates
      •     rate of return on investments

      Figure 8 illustrates this concept by comparing a
      leveraged  program to  an otherwise identical
      direct-loan program. As the graph demonstrates,
      even though a direct-loan program will eventually
      provide more annual assistance than a leveraged
      program (phase 4), the  leveraged program still
      provides  more cumulative  assistance.   By
      providing greater assistance sooner than the direct-
      loan program (phase 2), the leveraged program is
      able to buy more "bricks and mortar" over time
      due to the erosive effect inflation has on the
      purchasing  power  of the fund.   A  detailed
      discussion of Figure  8  is provided in the next

      The question of whether a fund should leverage
      or continue to leverage should carefully consider
      two of the fund management issues discussed in
      earlier chapters. The first question is "Are the
      fund resources being used efficiently?"  If the
      answer is no, the SRF has existing fund resources
      that could be used to fund projects.  The existing
      resources  should  be   fully  utilized  before
      leveraging or additional leveraging is undertaken.

      The  second question is  "Is sufficient project
      assistance being made available?" If the answer
      to this question is no, then there may be sufficient
      demand for leveraging, provided that all existing
      resources are being fully utilized. In other words,
      the first two criteria for a program to leverage or
      continue to leverage are:

      •     strong sustained demand for additional loans
           from the program
      •     efficient utilization of existing financial

      For  SRFs that are in this  situation  and  are
      administratively capable of managing leveraging,
      new or continued leveraging should be pursued.
April 2001

                                                          3. SRF Fund[.Managjameiit Questing
 3.7.1      Using  Financial Planning to
            Evaluate Leveraging

 Evaluating new or additional leveraging requires
 detailedfinancialplanning with the assistance of
 a financial  advisor and/or  underwriter.  This
 process should begin by establishing a reasonable
 baseline plan.  The plan  should  project the
 financial future of the SRF using all of the relevant
 operating assumptions  for the  program, but
                           Figure 8
       Annual Disbursements Adjusted to 2000 Dollars
                                          Leverage $850 million
                                          Direct Loan $774 million
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022 2024 2026 2028 2030
Key assumptions are: leveraging initiated in 2000, loan rate of 3%, bond yield of
5.5%, 10% debt service reserve, 2% bond issuance cost, and investment earnings
of 4.5%. Leveraging maintained at 50% of program equity. Discount rate of 3%.
      scenario. The scenarios should be compared to the
      baseline to assess the desirability of leveraging
      and the preferred scenario.  The  comparison
      between the baseline and leveraging should be
      comparable where possible. For example, the
      interest rate on new loans should be the same in
      the baseline as in a leveraging scenario.

      The  fundamental  trade-off to  consider  with
      leveraging   is    the   benefit   of
                   financing   projects  over
                   the short-term versus potentially .
                   reduced    annual
                   project funding in the longer-term.
                   The environmental benefit alone of
                   supporting projects sooner rather
                   than later may favor leveraging.
                   When the time value of money is
                   considered, there may also be  a net
                   economic benefit from leveraging
                   by funding projects sooner rather
                   than  later.     Therefore,  a
                   fundamental  requirement  to
                   consider leveraging is adequacy of
                   demand for the leveraged funds.
                   Analyzing  leveraging  scenarios
                   should include the calculation and
                   assessment  of   key  financial
                   measures  that  demonstrate the
                   financial viability of leveraging
                   proposals.   Common  measures
                   include debt service coverage, net
                   interest margin, and debt to equity.
 without any new or additional leveraging. This
 will provide a basis for comparing each leveraging
 scenario.  Key parameters to understand are total
 project funding that can be achieved over the next
 three years, average project funding over the next
 twenty years, and average proj ect funding in years
 twenty-one to thirty, all in today's dollars. These
 parameters will establish a baseline for evaluating
 the  near-term,  medium-term, and long-term
 impacts of leveraging.

 The next step is to add one or more leveraging
 scenarios to the financial projections. The same
 three parameters should be tabulated for each
                                     e c t i  o n
           SRF Planning Model Tip
Leveraging   parameters   are   set!
on  a   single   leveraging   pagej
under     Proj
First select the level of leveraging you want!
to achieve relative to grant dollars or total j
program capital,
Then set key assumption on bond yield, |
term, size  of debt service  reserve, andj
issuance expense.
The earning rate for the reserves is set under j
Use of Funds.
 April 2001

 SRF Fund Management Handbook
                 Case Study of State of Tennessee Clean Water
      State Revolving Fund's Assessment of the Need for Leveraging

  Vital Statistics as of June 30,2000
  Federal Capitalization Grants:      $279 million
  Appropriated Match:              $ 59 million
  First Loan Issued:                January 1989
         Total Funds Available:       $464 million
         Total Assistance Provided:    $440 million
         Number of Loans:            124
  Tennessee, as a financially conservative state, strongly considered the federal language that the intent
  of the CWSRF is to provide funding in perpetuity for wastewater facility construction. At the inception
  of the CWSRF, many discussions were held regarding the viability of leveraging.  It was determined
  that leveraging as a concept was viable and could greatly increase project funding over the near term;
  however, neither the need (demand) for leveraging nor the administrative coordination to leverage was
  resolved. Consequently, the State decided to not leverage and as a result all repayment of principal and
  interest is returned to the fund and revolved into new loans.

  Tennessee received its first CWSRF capitalization grant on March 30,1988. The first three loans were
  awarded on January 30,1989. In 1993, the State's Department of Finance and Administration conducted
  a study to consider leveraging the CWSRF. The study focused on:

       •      demand for CWSRF funding;
       •      authorizing legislation;
       •      CWSRF operating procedures;
       •      program administration; and
       •      activity nationally and in other southeastern states.

  [n addition, they evaluated the flow of funds required for leveraging and, while they identified the
  potential benefits of leveraging, they identified three critical concerns. The first concern was that the
  Federal laws governing the use of tax-exempt bond proceeds would necessitate a relatively rapid
  disbursement of funds for projects. Historically, the State's experience with disbursements for these!
  types of projects had been slower; hence, creating a risk relative to rebate requirements.  The second!
  concern was that the relatively low interest payments from borrowers may not be sufficient to repay the!
  leverage debt and that supplemental state appropriations may be required to sustain the  CWSRF.  The!
  third concern was that leveraging may adversely affect the State's bond ratings for general obligation!
  and revenue bonds.                                                                        !
April 2001

                                                           3. SRF Fund Management Questions
 Given these concerns and an overall assessment that leveraging was not required to meet demand, the
 state decided to not pursue leveraging at that time.  However, they did institute the use of a cash flow I
 tracking spreadsheet to assess on an ongoing basis the availability of funds and ability to commit to new|
 loans. Based on this analysis, the State continues to believe that they have sufficient funding resources!
 to not require leveraging.

 The spreadsheet tracks actual and projected:

       •      capitalization grants;
       •      state match;
       •      loan principal and interest;
       •      interest on investments; and
       •      administrative expenses.

 The flow of funds in each category are used to record past available loan dollars, loan awards, and cash
 balances and to project future loan awards based on using 90 percent of available funds in each year.
 This analysis shows that annual loan awards will climb in nominal dollars from $40 million currently
 to over  $100 million in the next 20 years ($55 million per year in 1998 dollars using a three percent
 inflation rate).

 So far, a project has not been denied access to the CWSRF because of the lack of available funds. This
 does not imply that the CWSRF has met all the wastewater project needs in Tennessee. It is important
 to recognize the multiple funding options available for these projects, the driving forces behind project
 initiation, and the expediency in which funds are required.  During the past few years Tennessee has
 limited  the maximum loan amount to  one recipient within a fiscal year to 10 million dollars. Again,
 conservatism translates in Tennessee  that the intent of the program is to primarily assist financially
 distressed systems rather than merely subsidize large cities which have more opportunities to alternative
 financing with lower bond interest rates.
              For additional information contact:
Tennessee Department of Environmental Conservation
Division of Community Assistance
401 Church Street
Nashville, TN 37243
April 2001

SRF Fund Management Handbook
3.7.3 The   "Leveraging"
       Directly Relates to:
                                         Figure 10
     Loan terms
     Investment earnings
     Fund utilization
     Loan portfolio management
     Ability  to   increase   available
     Adequacy   of   administrative
     Long-term funding and sustainable
     funding levels
                                               Annual Disbursements Adjusted to 2000 Dollars
With limited state financial resources,
most SRFs at one time or another are
faced with the question of what impact
borrowing for state match will have  on the
program.   The most preferable approach for
receiving match is through a state appropriation
or  other  mechanism that does  not require
repayment by the SRF. However, in certain cases
or at certain times this form of match may not be
available.   This leads to consideration of SRF
borrowing for the state match.

When an SRF borrows for state match, interest
earnings from the program are used to repay
principal and interest on the match bonds.  This
reduces the financial resources of  the  SRF
because interest earnings that could have been
used to fund new projects are used to  pay bond
interest and principal. The loss of project funding
is compounded by the additional loss of interest
that would have  been earned on the loans that
could have been made from the funds. Figure 10
illustrates the impact of borrowing for state match
for  a  single $5 million  grant.   Continued
borrowing for match for multiple  grants will
increase the financial impact illustrated.

Evaluating the net impact of borrowing for state
match requites financial planning analysis over
the  life of the bond issue(s). As with the analysis
                                            Key assumptions are: Loan rate of 3%, bond yield of 5.5%, 10% debt
                                            service reserve, 2% bond issuance cost, and investment earnings of
                                            4.5%. Discount rate of 3%.
                                                 for leveraging, a baseline scenario should first be
                                                 developed that estimates near, medium, and long-
                                                 term funding. A scenario in which state match is
                                                 borrowed can then be applied to the financial
                                                 projection to calculate comparable results.  The
                                                 difference between the two scenarios is the cost
                                                 of borrowing for state match. Understanding the
                                                 magnitude of the impact from borrowing for state
                                                 match is valuable information for presenting the
                                                 case to request direct match contribution from the
                                                          SRF Planning Model Tip
                                                      Match contribution levels and sources are I
                                                      set under the Match Data tab.
                                                      The  first  entry  just  sets match  as  a I
                                                      percentage of grants regardless of the source |
                                                      of the match.
                                                      Remaining entries allow specification of J
                                                      borrowed match assumptions.
                                                      Borrowing for match has similar modeling)
                                                      control parameter as leveraging.

                                                 In simplistic terms, borrowing for state match can
                                                 be thought of as providing "temporary" matching
April 2001

                                                          3. SRF Fund Management Questions
funds.   At the time the match funds  are
borrowed, the state has the full 20 percent
match available for projects.  Over time, as
interest earnings are used to repay the match
bonds, the  interest earnings  that would have
otherwise remained with the SRF are lost to the
SRF to repay the bonds. At the end of the bond
repayment period, there are no matching funds
remaining from the match bonds since they have
been repaid.  The program is left  with  the
original grant amount that was being matched,
plus accumulated net earnings after repaying the

3.8.1 The   "Borrowing  for  State
       Match" Issue Directly Relates
     Loan terms
     Investment earnings
     Future ability to provide needed assistance
     Use of leveraging
     Long-term funding and sustainable funding
One of the most significant factors affecting the
financial resources  of an  SRF is the level of
capitalization. Steps that can be taken to increase
the capitalization of an SRF will have immediate
positive impacts on the availability  of funds.
Increases in capitalization beyond new federal
grant awards can take the form of additional state
contributions or transfers from the state's other
SRF  program  (subject  to  transfer,  rules).
Reductions in capitalization, primarily caused by
the use of set-asides or transfers out of the SRF,
have an opposite impact  on SRF funding by
immediately reducing available funding resources
by the dollar amount of the set-aside or transfer.

Cashflow modeling and financial planning will
be required to evaluate the effect of changes in
capitalization levels. The analysis should begin
with reasonable baseline  capitalization levels
                                                             Figure 11
                                                       Lipact of Borrowing State Mitch
                                                      Appropriated IVfeteh
                              Borrowed IVfetch
                                           Fund - Initial Value
                                           Interest Earning
                                           Fund-Value in 20
$100 Grant
$20 Mitch
                                                 Impact is loss of full amount of Mrtch plus interest cost In Ihis example $30

                                            before increases or decreases to those levels.  This
                                            baseline can then be used to compare the relative
                                            impact of using funds for set-asides, transfers, or
                                            anticipated other capitalization impacts.  The
                                            appropriate  point  of comparison  will  be the
                                            resulting  impact  on  annual funding levels
                                            immediately and over the long term.
         SRF Planning Model Tip
     Grants data allows the entry of various j
     future grant funding scenarios.
     Options are available  to  specify use of J
     grants for set-asides.
     Transfers may be specified separately from]
     the initial grant data.

The results of analyses of capitalization levels
should be used to frame the policy discussion of
using funds for set-asides,  transferring funds
between programs, and making the  case  for
increasing state capitalization.

3.9.1 The   Issue   "Set-Asides   and
       Capitalization  Fund Transfers"
       Directly Relates to:

•    Availability of funds
April 2001

SRF Fund Management Handbook
     Ability to leverage or borrow for match
                      Long-term sustainable funding levels
     Case Study of the Nevada Drinking Water State Revolving Fund
                              Use of Set-Aside Funds
 Vital Statistics as of June 30,2000:
 Federal Capitalization Grants:
 State Match:
$27.1 million
$5.4 million
Total Funds Available:
First Loan Issued:
$27.0 million
Spring of 1999
 As the Nevada Bureau of Health Protection Services (BHPS) began planning for the implementation
 of a DWSRF, it evaluated many aspects of the new program including the potential use of set-aside funds. \
 Key issues considered included determining which set-asides to use and what funding level to plan for. j
 By working with the Nevada Division of Environmental Protection, who has the authority to administer!
 wellhead protection and underground injection programs, the BHPS was able to develop an estimate!
 for set-aside funding.

 The proposed budget for set-asides was incorporated into work plans and a draft Intended Use Plan, which
 were then presented at four workshops to solicit public review and comment The initial dollar amounts
 presented in the IUP consisted of educated guesses that were later refined based on responses to a
 comprehensive request for proposals (RFP) to support many of the set-aside activities. The revised work
 plans and budget were submitted to EPA for review and ultimately received approval.

 Nevada's decisions concerning the set-asides resulted in the following use of funds:

 Administration —  Full  four percent ($502,352) was set aside.

 State Program Management — The State is eligible for a $509,758 set-aside, based on the 1:1 state
 expenditure credit; plus  appropriated funds. Nevada is also providing an additional $100,000 for the
 1:1 match to utilize an additional $ 100,000 set-aside.  In total, $709,75 8 was made available for this State
 Program Management set-aside, used as follows:

      Public Water System Supervision Program                   $146,000
      Technical Assistance and Education                         $201,338
      Underground Injection Control Program                     $227,618
      Develop and Implement Capacity Development Strategy        $43,262
      Operator Certification                                       $91,540

                                Total                            $709,758
April 2001

                                                           3. SRF Fund Managarcientjguestiong
 The State has an additional $650,000 of available state funds that could be applied to this set-aside to
 further increase the funding of these activities with state and federal money. However, any unused
 amounts will revert to the state general fund.
 Technical.Assistance for Small Water Systems - Full two percent ($251,176) was set aside.

 Local Assistance and Other State Programs - This set-aside allows up to 15 percent of the grant!
 amount to support several programs, with no more than 10 percent used on any one activity. Nevada;
 allocated almost 12 percent ($1,465,147) of the grant to these programs. The full  10 percent amount;
 or $1,255,880 was allocated to the source water assessment program (which would not be available in;
 future years).   Smaller additional amounts  were allocated to capacity development and wellhead:
 protection. No funds were  allocated to source water protection loans.                            !

 In total, Nevada is setting aside $2.8 million of their $12.6 million capitalization grant. The remaining!
 grant amount of $9.8 million coupled with the 20 percent state match amount of $2.5 million will result
 in a revolving fund balance available for loans of $12.3  million. This is 81 percent of the total funds!
 available from the 1997 allotment plus match.                                                  !

 In addition to planning for set-aside activity as it applies to the current grant, Nevada also extended its!
 set-aside budgeting exercise to include annual and quarterly set-aside budgeting through the year 2003 .|
                       For additional information contact:
       Nevada State Health Division
       Drinking Water State Revolving Fund
       1179 Fairview Drive
       Carson City, NV 89701
April 2001

SRF Fund Management Handbook

A valuable benchmark  for  an SRF  is  the
sustainable funding level that the program can
achieve. This information is frequently expressed
as an average dollar amount of funding that the
program can provide each year. Usingfinancial
planning, fund managers can estimate what the
sustainable funding level will be over time based
on current and anticipated operating assumptions.
Funding levels are usually expressed in today's
dollars to account for inflation.

The sustainable  funding for  a  program is
frequently used in conjunction with promoting the
program and appealing for additional investment
in the program.  It can also be used as a point of
reference to identify how additional funding for
the program or other program changes will impact
annual funding levels. For example, an additional
state contribution of $X million now will increase
average annual funding from the program by $Y
million through the life of the program.
      An. important aspect of evaluating sustainable
      funding levels is to reconcile funding levels with
      the current demand or need for funds.  The goal
      should be to develop an approach for achieving
      sustainable funding levels that match the demand
      for funds. Funding strategies should attempt to
      overcome funding shortfalls and at the same time
      avoid creating excess funds beyond the current
      demand  for funds.  Cash flow modeling is  a
      valuable tool for evaluating potential sustainable
      funding  levels that can be achieved and then
      comparing funding levels to funding need.

      3.10.1  The Issue "Sustainable Funding
              Levels" Directly Relates to:

      •     Loan terms
      •     Investment earnings
      •     Availability of funds
      •     Loan portfolio management
      •     Availability of administrative resources
      •     Ability to leverage or borrow for match
      •     Use of set-asides and transfers
April 2001

                                                        3. SRF Fund Management Questions
    Case Study of the Minnesota Clean Water SRF Capacity Analysis
 Vital Statistics as of June 30,2000

 Federal Capitalization Grants:  $291 million
 Total Funds Available:         $849 million
 Total Assistance Provided:     $823 million
 Match Provided from GO bonds outside SRF
                First Loan Issued in    1989
                Leveraging Initiated in  1990
                Number of Loans:      665
                Loan Interest Rate:     1 -4%
 Minnesota's Clean Water SRF is a leveraged program where most of the capitalization grant funds from
 1989 through 1994 were put into a debt service reserve. Beginning in 1995 when Minnesota's nonpoint
 source loan programs were initiated, the majority of capitalization grant funds were used to make direct
 loans for nonpoint source projects.  (Due to the nature of the nonpoint source projects, they cannot be
 .funded from bond proceeds.) From 1995 through 1998, 60 percent of capitalization grant funds went
 to the nonpoint source programs.

 To keep up with the loan demand from point source projects, the Public Facilities Authority (PFA) issued
 five series of bonds from 1995 through 1998 that raised $283 million in net proceeds for new projects,
 while adding only $27.5 million to the debt service reserve. This rate of leveraging is not sustainable
 over the long-term based on the PFA's analysis of the Fund's future lending capacity. In 1997, the PFA
 initiated discussions with the Minnesota Pollution Control Agency (MPCA)  and the Minnesota
 Department of Agriculture (MDA), the agencies that administer the nonpoint source SRF programs,
 regarding overall point and nonpoint source needs and how to manage the Fund to best address those

 The PFA's capacity  analysis looks at the annual lending level for point  source projects that the Fund
 could sustain in perpetuity, based on the assumption that capitalization grants would continue at declining
 levels through 2003  and then end.  The PFA uses the capacity analysis to guide policy decisions by
 examining annual lending levels and their impact on future lending capacity.

 The model tested annual  lending capacity based on two variables: the loan subsidy level and the
 percentage of capitalization grants provided for nonpoint source programs. The table below summarizes
 the results of the capacity analysis  at two different subsidy levels, 1.5 percent and 2.0 percent below
 market rate. (The actual weighted average interest rate on all loans to date is between these two levels.)
Percent of
Capitalization Grants
Used For
NPS Programs
f f
t •- f ss tt w.v.y'", ^
Rate Spread = 2% below
ling Capacity (m mtHio
Rate. Spread = 1 .5%
n&F \

April 2001

SRF Fund Management Handbook

 If the 1995-98 nonpoint source funding level of 60% of capitalization grants were to continue, the annual
 lending level for point source projects would be less than $50 million. The PFA has determined this
 is not an acceptable level, given that the annual point source loan demand is in excess of $200 million, j
 Based on this analysis, a decision was made that the MFC A and MD A would submit separate legislative 1
 requests for state funding for their nonpoint source programs, to be provided as SRF overmatch. Through I
 future rule revisions, the PFA will also consider reducing the interest rate subsidy for point source
 proj ects. Another possible step would be to reduce or eliminate the interest free period provided for point |
 source projects. Currently interest does not begin to accrue for most projects for 12-18 months afterf
 the loan is made.

 In the near future, the PFA intends to continue to leverage the Fund to finance as many point sources
 projects as financially feasible. With municipal contracting costs inflating nationally at twice the overall \
 inflation rate (and beginning to approach double digits in Minnesota) and borrowing costs below five j
 percent, it is prudent to finance as much as possible as soon as projects are ready to go.
                     For additional information contact:
      Minnesota Public Facilities Authority
      500 Metro Square
      121 7th Place East
      Saint Paul, MN 55101
April 2001

                                                         4. Analytic Tools and Techniques
 This section of the handbook provides a discussion of the analytical tools and techniques that were identified
 earlier in italics and are commonly used in support of SRF fund management. The tools and techniques
 consist of:

       •   Cash Flow Modeling and Financial Planning/Projection

       •   Role of Auditing/Accounting in Financial Management

       •   Today's Dollars or Present Value (Constant Dollars)

       •   Grant Equivalency

       •   Investment Return

       •   Balance Sheet Analysis

       8   Loan Portfolio Analysis

       •   Key Financial Measures

       •    Financial Indicators
April 2001

jSRF Fund Management Handbook
Illustrative Usage:
Prospective or projected financial activity of an SRF require key assumptions about
capitalization, the use of funds, investments, loan interest rates and repayment terms,
use of debt, and retained earnings.  Typically presented as year by year financial
projections over a reasonable time horizon of up to 3 0 years. It may consist of short-
term or long-term planning. Cash flow modeling/financial planning is an ongoing
process that requires periodic updating to reflect actual program operations and
current market conditions.

    The SRF financial plan projects average annual project funding of $42 million
    over the next 20 years in today's (2000) dollars.  The SRF financial plan
    projects average annual equity growth in excess of the rate of inflation,
    indicating that the SRF will be able to continue to increase funding levels in
    today's dollars in perpetuity.
Calculation Approach:
Calculation Method:
    SRF financial projections require year by year calculation of the inflows and
    outflows of funds.   The accounting financial  statement model (income
    statement, statement of cash flows, and balance sheet) provides a common
    structure for making financial projections. The primary inflows of funds are
    federal and state capital, bond proceeds, interest income from loans and
    investments, and loan principal repayment. The primary outflows of funds are
    loan disbursements, administrative expense, interest expense, bond issuance
    cost, and principal repayment on bonds.

    Requires year-by-year construction of fund inflows and outflows (actual data
    to the present and estimated results in the future). Critical assumptions beyond
    capitalization and debt issuance are future interest earnings on loans and
    investments, interest expense on bonds, use of debt  service reserves, and
    commitment of available funds for loans. For each year of a financial plan,
    a key calculation is the estimation of funds available for projects and the use
    of those funds for new projects. The results of the calculation of each year's
    new loan disbursements will affect all future period cash flows (i.e., interest
    earnings on loans and investments and future loan principal repayment). The
    calculations proceed from year to year as new funds  become available for
    projects  and are then committed to new projects. This iterative  process
    continues through the relevant financial planning period.

    Illustrative financial modeling results from the new EPA  SRF Financial
    Planning Model are presented on the following pages.
April 2001

                                                                    4. Analytic Toots and Techniques
                         Home Screen of the SRF Financial Planning Model
 i^f . ManageSjnaos
 4.  JS ""-ซฃ- *  S-  f~- tฃ  '***** iS** V^-'  > 1 1 *ST  ~* 	CMMMM^tSW^ti
 if,jjH*SRf Being.Anatyzed^fซfonat dean Water Sfif xSt-1
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                                                                              jecpons;; J 2001
                                                                              '1' "*1*"*-' ~    ~
                               FjxsjgctgPfmntag Ptoc^Fflvpt)0,xIsL,;
April 2001

SRFFund ManagementHandbook
                    Sample Output from the SRF Financial Planning Model
                      Annual Disbursements Adjusted to 2000 Dollars
       =5  2S
       g  15
          5 .
                  Phase 1
                                   Phase 2
                  Leverage $850 million
                 Direct Loan $774 million
           1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022 2024 2026 2028 2030
                   Annual Disbursements Adjusted to 2000 Dollars
                                                            Increase Rates to 4%
                                                           . Maintain Rates at 3%
April 2001

April 2001

SRF Fund Management Handbook
April 2001

April 2001

 SRF Fund Management Handbook

 To effectively monitor the financial side of the SRF program, SRF managers must have timely and reliable
 financial information available that thoroughly covers the essential areas of their program.  Meaningful
 financial information is necessary to conduct financial analyses, track the progress of achieving financial
 goals and objectives, and develop future financial management decisions that will ultimately affect an SRF
 program. Through adherence to standard accounting guidelines and the conducting of annual independent
 audits, the SRF program has a way to monitor the financial information needed to manage this program.

 The importance and usefulness of governmental accounting and financial reporting has been previously
 noted in the statement of goals provided by the National Council of Governmental Accounting (NCGA)
 in their Concepts Statement Number 1:                                          -

       / -  provide financial information useful for making economic, political, and social decisions,
           and demonstrating accountability and stewardship; and

       2 -  provide information useful for evaluating managerial and organizational performance.

 To have effective financial control, management should  utilize information obtained from the normal
 accounting and auditing process which is also an integral part of the above goals.  It is essential that quality
 and objectivity be a part of the audit phase so that the final audit results will be credible and timely. By
 having reliable financial information, management can make improved financial decisions that will affect
 the entire SRF program as a whole.

 Another major point of consideration is what type of fund to use for accounting purposes. The two major
 fund types are (1) proprietary fund or (2) special revenue fund. A proprietary fund treats the SRF financial
 activity like a business  or commercial activity to show profit and loss and the accumulation and use of
 capital. A special revenue fund, however, is established to account for the proceeds of a specific revenue
 source.  It treats an SRF like a checkbook with an emphasis on the current period inflows and outflows of
 funds.  The special revenue fund is useful for tracking current financial activity, but quickly loses track of
the longer-term financial position of an SRF as a separate entity.

To have sound SRF financial management, it is necessary for the SRF to be regarded as a stand alone entity
 that is designed to exist in perpetuity. Therefore, the proprietary fund is the preferred approach for an SRF.
 When a state maintains an SRF as a special revenue fund, financial statements should still be prepared and
the overall financial structure of the SRF should still be thought of as a proprietary fund. This is similar
to treating the SRF like a bank or some other lending institution, which are the types of financial entities
that the SRF most closely resembles.

Financial reporting for  proprietary funds consists of preparing three financial statements along with
 supporting notes to the financial statements for the current period of activity, which is usually one year.
These statements are:

     Statement of Revenues, Expenses, and Change in Retained Earnings —This statement is like an
     income statement and shows the current period revenues  (from interest earnings on loans and
     investments) minus expenses (e.g., interest expense, bond issuance costs, and administrative expense).
     The annual excess/(deficit) of revenues over expenses are added to the accumulated retained
     earnings/fund balance reported on the balance sheet and increase the total equity or capital available
April 2001

                                                              4. Analytic Tools and Techniques
      to the program. For governmental purposes, retained earnings may also be referred to as "fund
      balance," which is the accumulated net earnings of the program.

      Statement of Cash Flows - This statement shows the additions and subtractions from cash for the
      current period. The statement begins with the change in retained earnings or fund balance for the
      current period, reconciles accounts receivable and payable, and then identifies the major sources and
      uses of cash. Major cash inflows consist of such items as ACH cash draws, loan principal repayment,
      bond proceeds, and withdrawals from debt service reserves. Major cash outflows consist of such items
      as loan disbursements, bond principal repayments, and deposits to debt service reserves. The net result
      is the current period change in cash, which is added to the accumulated cash balance on the balance

      Balance Sheet - This statement shows the SRF's ending balances for a specific period of time.
      Financial resources (assets) are equal to obligations (liabilities) plus equity (Assets = Liabilities +
      Equity). The primary components of an SRF Balance sheet consist of:


       Cash and cash equivalents
       Debt service reserves (if debt has been issued)
       Loans outstanding
       Undrawn federal grants (may be identified in a footnote only)


       State match bonds outstanding
       Leverage bonds outstanding
       Federal contributions
       State contributions
       Retained earnings or fund balance

This structure for financial reporting using the proprietary fund reporting model provides a simplified
approach for understanding how the financial activity of an SRF could be reported like a business. Annual
independent audits should provide additional assurance that the financial information is fairly presented
and for decision making. The Environmental Protection Agency Clean Water State Revolving Fund Audit
Guide, June 1998, provides additional information about auditing standards while outlining key issues to
be considered in SRF programs.

From a financial management standpoint, audited financial statements following the proprietary fund
reporting model, summarize financial activity to date in a useful format and can also provide a structure
for projecting future financial activity using cash flow modeling techniques. Cash flow modeling seeks
to quantify financial activity that has already taken place and projects future financial activity using
reasonable assumptions about how a program will be managed in the future. The projected financial activity
can be characterized as the potential financial impact of decisions on a program's revenues/expenses, cash
flows, and its resulting balance sheet.
April 2001

 SRJFFund Management Handbook^
Illustrative Usage:
Dollars received today have a different monetary value than dollars received in the
future or the past.  This is due to two factors, inflation and the time preference of
money or risk associated with receiving money now versus at another point in time.
In order to perform valid analyses, a dollar received in the past or future must be
adjusted to reflect its value in today' s dollars. This adjustment is commonly referred
to as calculating the present value of past or future dollars.

    A payment received today of $100 is worth $100 or has a present value of
    $ 100. If the cost of capital or borrowing rate is 8 percent per year, a payment
    of $100 received one year from now has a present value of $92.59 and a
    payment received a year ago has a present value of $ 108.
Calculation Approach:
Calculation Method:
Example 1:
Example 2:
    Today's dollars or present value is calculated by first identifying the dollar
    amount of each payment and the date when the payment will be made. The
    payment amount is then discounted over the time period from the date of the
    payment to the present using the cost of capital or borrowing rate for the entity
    receiving the payment. (The use of the borrowing rate as the discount rate is
    an appropriate simplification of a complex financial topic.) Multiple future
    and/or past payments can each be discounted to their present value and added
    together to compute the total present value of a series of payments or cash
    flows received in the past or the future.

    Present Value = Pmt,/(l-Hi)nl +Pmt2/(l+i)n2 + Pmt3/(l+i)n3 +	
    Pmt, = future or past value of the first identified payment
    i =     periodic discount rate or cost of capital, usually current borrowing
           interest rate
    n =    number of compounding periods from the present at interest rate i (time
           periods must be consistent with periodic interest rate). Positive values
           of n represent future periods and negative values represent past periods

    Payment of $ 1,000 in 2 years
    Current borrowing rate of 6.5% per year

    Present Value = $1,000/(1+0.065)2 = $1,000/1.1342 = $881.66

    Payments of $1,000  in 2 years  and $500 received 3 years ago
    Current borrowing rate of 5% per year

    Present Value = $1,000/(1+0.05)2 +  $500/(1+0.05)'3
           = $907.03+$578.81 =$1,485.84
April 2001


Illustrative Usage:
The equivalent value of SRF or other subsidized financial assistance as if it is
received as a direct grant. The grant equivalency is the benefit received by a
borrower resulting from financing project costs at a below-market interest rate.
Calculation Approach:
    With current borrowing rates at 6.5 percent, a three percent loan has a grant
    equivalency of 26 percent.

    Grant equivalency is calculated by computing the present value cost (see
    present value discussion) of each financing option using the current market
    cost of borrowing as the discount rate. The percentage difference between the
    present value of each option is then calculated which is the grant equivalent
Calculation Method:
Reference Table:
    Grant Equivalency = 100 x (PV of Option A - PV of Option B)/PV of
                        Option A

    Project cost of $ 1,000,000

    Financing Option A - Borrowing at Current Market Rates
    Current borrowing rate of 6.5%
    Annual level debt service over 20 years is $90,756
    Present value cost @ 6.5% is $ 1,000,000

    Financing Option B  - Borrowing from an SRF
    SRF loan rate of 3%
    Annual level debt service over 20 years is $67,216
    Present value cost @ 6.5% is $740,617

    Grant Equivalency = 100 x ($l,000,000-$740,617)/$ 1,000,000  =25.9%

    The table below presents grant equivalency percentages for various loan
    interest rates and market rates.


Market Rates

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SRF Loan

Interest Rates



April 2001

SR.JFJjJnd Management Hanjdbpolk
Investment return is the total return received on an investment over a finite period
of time. The calculation must account for all earnings, gains, losses, and expenses
that are directly attributable to the investment. Investment returns must account
for new investments and withdrawals from accounts that are independent of
investment returns.
Illustrative Usage:

Calculation Approach:
     The total investment return from the guaranteed investment contract is 4.9
     percent per year.

     Investment return is the net change in the value of an investment from the start
     of a period to the end of a period, accounting for all financial activity
     attributable to the investment.  The investment return is expressed  as a
     percentage of the investment value at the start of the period.
Calculation Method:     Investment Return = 100 x (EV-BV+E-X)/BV
Example 1:
Example 2:
    EV =  ending value  of .the investment or  group of  investments that
           corresponds directly to the investment(s) at the start of the period (z. e.,
           proper adjustments for deposits and withdrawals)
    B V =  beginning value of the investment or group of investments at the start
           of the period
    E =    all earnings properly allocated to  an investment(s)  that are not
           reinvested (not included in EV)
    X =   all expenses  properly allocated to an investment(s)  that are not
           deducted directly from the investment(s) (not included in EV)

    Investment of $ 1,000 at the start of the year
    Investment is worth $990 at the end of the year
    Interest earned from the investment for the year, but not reinvested, is $79
    Investment advisory fees allocated to the investment, but not deducted from
    the investment, for the year is $24

    Annual Investment Return = 100 x ($990-$l,000+$79-$24)/$ 1,000
                             =  100 x $457$ 1,000
                             =  4.5%

    Investment A of $1,000 at the start of the year
    Investment A is worth $1,075 at the end of the year
    Interest earned from Investment A for the year, but not reinvested, is $42
    Investment advisory  fees allocated to Investment A, but not deducted from
    the investment, for the year is $14

    Investment B of $2,000 at the start of the year
    Investment B is worth $1,920 at the end of the year
    Interest earned from Investment B for the year, but not reinvested, is $84
April 2001

                                                            4. Analytic; Tools and Techniques
                          Investment advisory fees allocated to Investment A, but not deducted from
                          the investment, for the year is $ 12

 Annual Investment Return  = 100 x (T$1.075-$1.0QQ+$42-$14VK$1.920-$2.QOO+$84-$12Vl

                          = 100 xf$103-$8V

                          = 3.2%
April 2001

SRF Fund Management Handbook
Illustrative Usage:
Use of an SRF's balance sheet to calculate the use of financial resources, claims
on the resources, and sources of capital. Ratio calculations that compare balance
sheet items are an integral part of any meaningful balance sheet analysis.
Calculation Approach:
Calculation Method:
Typical measures:
     An SRF has 80 percent of its assets in use as loans outstanding. An SRF has
     a debt to equity ratio of 62 percent.

     A balance sheet represents the year end (or end of period) snapshot of the
     balances of both the financial resources of an SRF (assets) and the source of
     those resources (liabilities and equity).  All balance sheet analyses are based
     on same period percentage comparisons of relevant balance sheet items. Year
     by year trends in balance sheet ratios can provide useful insight into fund

     Balance Sheet Ratio = 100 x (Balance Sheet Item I/Balance Sheet Item 2)

     Cash as a Percent of Total Assets - proportion of available and currently
     unused assets
     Debt Service Reserve as a Percent of Total Assets  - proportion of assets
     dedicated as reserves for bonds and unavailable to make loans
     Loans as a Percent of Total Assets - proportion of assets that are outstanding
     loans from the SRF
     Debt as a Percent of Total Equity - indicates degree of leveraging
     Debt Service Reserve as a Percent of Debt - measure  of leveraging structure
     and security behind SRF leverage bonds
     EPA Contribution as a Percent of Total Equity - proportion of capital from
     State Contribution as a Percent of Total Equity - proportion of capital from
     Retained Earnings as a Percent of Total Equity - proportion of capital
     generated or lost through net earnings or losses
 April 2001

                                                             4. Analytic Tools and Techniques
SRF Balance Sheet as of June 30. 2000 fthousands^

Assets     Cash and Investments         $500
           Debt Service Reserve         1,000
           Loans Outstanding            5.800
                  Total Assets        $7,300

Liabilities  Accounts Payable            $250
           Debt Outstanding            2.700
                  Total Liabilities     $2,950

Equity     EPA Contribution          $3,000
           State Contribution             600
           Retained Earnings             750
                  Total Equity        $4,350
           Total Liabilities and Equity  $7,3 00
       Cash as a Percent of Total Assets = 100 x (500/7,300) = 6.9%
       Debt Service Reserve as a Percent of Total Assets = 100 x (1,000/7,300) = 13.7%
       Loans as a Percent of Total Assets = 100 x (5,800/7,300) = 79.5%

       Debt as a Percent of Total Equity = 100 x (2,700/4,350) = 62.1%
       Debt Service Reserve as a Percent of Debt = 100 x (1,000/2,700) = 37.0%

       EPA Contribution as a Percent of Total Equity = 100 x (3,000/4,350) = 69.0%
       State Contribution as a Percent of Total Equity = 100 x (600/4,350) = 13.8%
       Retained Earnings as a Percent of Total Equity = 100 x (750/4,350) = 17.2%
April 2001

Loan portfolio analysis consists of segmenting an SRF's loan portfolio by the credit
quality of the borrowers. Such analysis is used to evaluate the credit quality of a
loan portfolio and, hence, the financial risk an SRF faces for loan repayment.
Illustrative Usage:

Calculation Approach:
Calculation Method:
    Over 65 percent of the outstanding loans have been made to communities with
    above average or higher credit ratings.

    Each loan recipient must be categorized by credit condition or financial
    capability. The dollar amount of loans outstanding are then grouped by the
    available categories to calculate the proportion of loan dollars in each category.
    Bond ratings provide a convenient set of categories  to measure credit
    condition. However, many SRF loan recipients may be unrated.  SRFs that
    perform financial capability analyses on loan applicants may be able to
    categorize loan recipients into ranges of financial capability from strongest
    to weakest. Other SRFs may want to rank loan recipient financial capability
    based on secondary sources of financial and socio-economic data on their loan
    recipients, such as, debt per  capita,  median  household income,  and
    unemployment rates.

    Percentage breakdown of the loan portfolio by appropriate measures of
    financial capability.
    Total SRF loans outstanding of $5,800
                          Financial Capability
                          Above Average
                          Below Average
                               Loan Amount
Percent of Total
                          Over 65 percent of the loan portfolio is rated above average or higher and
                          almost 90 percent is average or above, indicating a financially strong loan
April 2001


 The following measures can be used to evaluate various aspects of SRF programs. The measures are based
 on commonly used financial analysis techniques used to assess the financial performance of self supporting
 entities. The application and use of these measures is most appropriate for evaluating the current status
 and year-to-year trends of individual SRF programs.  It also may be useful to assess certain measures in
 conjunction with other measures to obtain a more complete picture of an SRF. Care must be taken when
 attempting to compare measures across SRF programs due to the unique aspects of many program structures.
 Table 2 cross references the potential application of the financial measures to the fund management issues
 discussed earlier.

 This introduction to financial measures is followed by an example set of SRF financial statements.  The
 sets of equations that are included with each measure below refer to these statements.  The first equation
 in each set uses references for individual line items on the statements, while the second equation uses the
 numbers that correlate to each reference. Where years are not specified, the most recent year is used.

 Utilizing the C WSRF NIMS data, a number of these measures were calculated for reference purposes. Table
 3 at the end of this section presents upper quartile, median, and lower quartile values. This data is based
 on NIMS data for all 51 CWSRF programs and then segmented into programs that use bonds in their
 program and those that don't. These values are intended to provide a gauge for the typical values that may
 be found in SRF programs.

 Measures that Apply to All SRF Programs

 Binding Commitments as a Percent of Federal Contributions -

      This measure shows the percentage of SRF funds committed to projects as a percentage of federal
      capitalization grants. It is calculated by dividing cumulative binding commitments by cumulative
      federal capitalization grant awards. Cumulative binding commitments is the total amount of money
      that has been committed as loans. Binding commitments may or may not be closed loans, depending
      upon a state's definition of a binding commitment. Cumulative federal capitalization grant awards
      is the total amount of federal capitalization grant funds that have been awarded.
              = (cumulative binding commitments / federal grant contributions) * 100
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     At a minimum, this value should equal or exceed 120 percent to satisfy the statutory requirements
     (within one year). However, with commitment of repayments and leveraging, this measure will exceed
     120 percent and continue to grow into the future. Year-to-year increases in this measure will indicate
     continued growth in the projects funded relative to the initial federal seed capital.
April 2001

SRF Fund Management Handbook
Undisbursed Binding Commitment Liability -

     Measures the ability of the fund to meet major off-balance sheet potential liability. This is calculated
     by dividing cumulative undisbursed binding commitments by total current assets (including undrawn
     federal grant and state match amounts).

              = (cumulative undisbursed binding commitments / ta^^urrentjissets) * 100

              = ((S2 - S3) / (B1 + B4 + B5)) * 100
     When this measure is 100 percent, it indicates that the fund has outstanding commitments that exactly
     equal currently available resources.  Values below 100 percent indicate that all currently available
     resources are not committed to new loans. Values over 100 percent will indicate that the program
     is making loan commitments in advance of the receipt of funds, particularly repayments and new bond

Project Completion Ratio (Dollars) —

     Reflects the proportion of project  funding resulting in project completions.  It is equal to the
     cumulative dollar amount of completed projects divided by the cumulative dollar amount of projects

             _= (completed projects / projects^funded) * JOO

                   ifil ^*-- •• •' • -'
     A relatively high percentage for this measure will indicate an effective pace of having proj ects proceed
     to completion. Over time this measure should continue to rise at an ever slower rate as it approaches
     100 percent. A declining trend hi this measure over several years could indicate a slowing of project
     start-up and/or construction progress.
April 2001





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1 . Should loan terms be



2. Does the fund receive
adequate return on fund

3. Are fund resources being
utilized effectively?



4. Does the fund have
a sound loan portfolio?


5. Is sufficient project
assistance being made



6. Does the fund have
sufficient administrative


7. Should the fund leverage
/continue to leverage?


8. What impact will
borrowing for state match
have on the fund?



9. What impact will set-asides
or capitalization fund transfers
have on the program?




10. What is the sustainable
funding level from the


SRF Fund Management Handbook
Project Completion Ratio (Number of Projects) -

Reflects the proportion of project completions in relation to the total number of projects funded. It is equal
to the cumulative number of completed projects divided by the cumulative number of projects funded.
              = (completedprojects /projects funded) * 100
              = (S10/S9)*100               ^  ,,^'  /
              (47 / $9)
       A relatively high percentage for this measure will indicate an effective pace of having projects
       proceed to completion. Over time this measure should continue to rise at an ever slower rate as it
       approaches 100 percent.  A declining trend in this measure over several years could indicate a
       slowing of project start-up and/or construction progress.

Loans as a Percent of Total Available Assets —

       Measures the proportion of available fund resources utilized as loans. This is determined by dividing
       total loans receivable by total assets less debt service reserves.
              = (total loans receivable / (total assets - debt service requirements) * 100
                S ---------------------------------- ' ---- ........... ------------ >.-.._.-,-,„ ....... ,-,_,. ............ , ----------- ..................... -JS&XSl?;" ..... •>•-'— r-vyr-r,,.—-,:.,-
       As a program with a sole purpose of providing financial assistance, SRF programs should be utilizing
       a substantial portion of their financial assets to make loans. This measure will indicate the degree
       to which available assets are being converted into loans.  A high percentage, approaching 100
       percent, should indicate that virtually all available resources are being converted into loans.  A
       relatively low percentage or a downward trend could indicate underutilization of fund resources.
April 2001

 Loan Principal Repaid as a Percent of Loans Outstanding -

        Shows the rate at which loan principal is being repaid and, thus, being made available to revolve.
        The measure reflects the average maturity of loan principal outstanding. This value is determined
        by dividing the amount of current year principal that has been repaid on loans by the average loans
       A mature loan portfolio with 20 year loans that are repaid in level payments will have loan principal
       repayment of nine to ten percent of the outstanding loan balance every year.  Programs that offer
       level debt service payments will have a lower percentage of principal repayment initially (less than
       five percent), but that percentage will rise over time to greater than 8 percent. The length of maturity
       of the loans will also directly affect this measure, with shorter loan maturities increasing the
       percentage of principal repaid each year. For mature programs, a rate that approaches eight to ten
       percent will be typical (reflecting average repayment across a diverse loan portfolio) and higher
       percentages will indicate a more rapidly revolving fund.
Delinquincv Ratio —
       Identifies potential risk and liquidity problems that could be caused by delinquincies in the loan
       portfolio. It is equal to the dollar amount of loans that are delinquint by more than 30 days divided
       by total loans receivable.
              = (delinquent loans / average loans receivable) * 100
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April 2001

SRF Fund Management Handbook
Loan Yield -
       This measure calculates the rate of return on the loan portfolio from interest. It is useful for assessing
       total returns, as well as the reasonableness of loan interest earnings. It is calculated by dividing loan
       interest earnings for a year by average loans outstanding.
              = (loan interest earnings /average ^ |Q^s gutstandmg) * 100
             ' -== (12 / ((B3be9innln90(year
       Interest earnings from loans is a primary source of revenue for SRF programs anil this measure will
       present the average interest earnings yield from loans. The interest rate charged by SRPs is at the
       discretion of the state, within allowable boundaries. Individual loan yield values must be evaluated
       in the context of individual program objectives and market/alternative rates for borrowers.  May
       wish to include administrative fees in the calculation of total loan yield.

Reported Loan Rates -

       Weighted average loan rates reported by the state. Use these amounts to assess the reasonableness
       of the Loan Yield.

               = 3,0%
Interest Rate Spread (Estimated Subsidy) -

       The difference between the interest rate charged on SRF loans and market rates.  The market rate
       should be a comparable cost of borrowing for communities such as the Bond Buyer 20 Year GO
       bond index.

              = (interest rate charged on SRF^ loans - market rates)
              = S7 - S5
                   3.0 ซ kasC"
       The interest rate spread indicates the amount of subsidy being offered by the program. A larger
       interest rate spread indicates a greater benefit being given to the borrower and a lower return for
       the SRF.
April 2001

                                                               4.Analytic: Tools'.and Techniques
Investment Yield —
       This measure calculates the rate of return on investments. It is useful for assessing total returns and
       the reasonableness of investment earnings. It is calculated by dividing investment interest revenue
       by average investment assets.
       Investment yields should approach current short term interest rates for low risk investments, such
       as U.S. treasury bills and money market funds. Low investment yields may indicate inappropriate
       investments or interest earnings not being properly credited to the SRF.  Ideally investment yields
       should be calculated and evaluated by type of investment.

Net Interest Margin —

       Indicates the net positive or net negative interest return relative to total average assets. It is equal
       to the yearly total interest revenue minus total interest expense for an SRF, divided by total assets
       over the year.
                                                                         assets) * 100
       This measure indicates the net earning potential of an SRF. A positive value indicates a program
       that has positive earnings from its basic operations.  The size of net interest margin will directly
       impact the earnings and growth of an SRF.
April 2001

SRF Fund Management Handbook
Return on Equity -
       Measures the overall net return on contributed capital plus retained earnings. It is the excess (deficit)
       of total revenues minus total expenses or change in fund balance/retained earnings, divided by
       average equity.
= ((total revenues - total expenses) / average total ejguilyjL* 100
 = ((19 - 114) / ((B14be3inningofyear +• B14etldofyear) / 2)) * 100
 ((13.6 - 2.0) t {{m,$ + 393.7) / 2})* 1 00 * &
       This measure shows the overall return that is being earned on the equity of an SRF . A positive return
       on equity will indicate thatthe fund is earning apositive return and growing as aresult of the positive

Internal Capital Formation -

       Measures the rate of growth of internally generated equity. It is determined by dividing current
       period change in fund balance/retained earnings by prior period total fund balance/ retained earnings.

              = (current change in fund balance/retained earnings / total fund balance/retained earnings)
              * 100
              = (115 / B14beainntngofyear)i* 100
              (1 1 v.6 / 327.8} * 100 - 3.5%

       This measure focuses on the return being generated by the SRF from internal net earnings. A
       positive value means that the SRF is generating capital from ongoing operations, thus expanding
       its capital base to make future loans.
April 2001

                                                              4.Analytic Tools; and
 Measures That Apply to Programs That Use Debt

 Debt to Equity -

       Expresses the degree to which the fund is leveraged and the amount of financial risk associated with
       leveraging.  It is calculated as total outstanding debt divided by total equity.
       This is a common measure used to evaluate the financial structure of an entity. The higher the value
       the more a program is leveraged, which simultaneously increases the near term funds available for
       projects and the financial risk of the SRF.

Debt to Performing Assets -

       Measures the amount of performing assets derived from borrowed funds. It is calculated by dividing
       total outstanding debt by total assets that are earning interest (i,e., loans and investments). Total
       outstanding debt is the combination of current year leveraged bond proceeds minus the state and
       leveraged bond principal repayments, in addition to this value from the prior year. Total assets that
       are earning interest include: cash, investments, loans receivable, and the debt service reserve fund.
       This measure identifies the proportion of available funds that were generated from bonds.  Highly
       leveraged programs will have a relatively large proportion of performing assets generated from
April 2001

SRF Fund Management Handbook
Debt Service Reserve Fund as Percent of Bonds Outstanding -

       Identifies the level of security provided by the Debt Service Reserve Fund to meet current debt
       service requirements. It is determined by dividing the cumulative end of period Debt Service
       Reserve Fund balance by end of period outstanding debt.
              = (cumulative debt service reserve fund balance / outstanding debt) * 100
             „ _ _ -- -—-- -- — —— - ---  -
       A reserve fund leveraging structure will result in a relatively high percentage for this measure. Cash
       flow leveraged programs will have approximately 10 percent of the debt outstanding in reserves.

Debt Service Coverage fFixed Charge Coverage Ratio) -

       Reflects the SRF's ability to meet both interest and principal payments on outstanding debt with
       available net earnings. It is equal to loan principal repayments plus revenues minus expenses
       (excluding interest expense), divided by total interest expense plus debt maturities paid in the last
       year.  Total revenues include investment interest plus interest on loans.  Expenses include
       administrative and bond issuance costs. Interest expense is interest paid on bonds issued by the SRF.
       Debt maturities paid in the last year consist of the bond principal repayment for leveraged and match

              = ((loan principal repayments + revenues  - expenses) / (total interest expense + debt
             t- (115 + 14 + C4) /04
       Typical coverage ratios exceed 1.2 as an appropriate degree of financial safety.
April 2001

                                                                4. Analytic Tools and Techniques
Interest Coverage Ratio -

       Identifies the SRF's ability to cover at least interest expense with available net earnings. It is equal
       to total revenues minus non-interest expenses, divided by total interest expense.  Total revenues
       include investment interest plus interest on loans.  Expenses include administrative and bond
       issuance costs.  Interest expense is interest paid on bonds issued by the SRF.

                ((revenues - expenses) / total interest expense)
       Typical coverage ratios exceed 1.2 as an appropriate degree of financial safety.

Debt Rating -

       Indicates the relative financial risk associated with an SRF Program's bonds. It is a measure of the
       most recent ratings for debt issued by the SRF, if any.  This is provided by debt rating agencies such
       as Moody's or Standard & Poor's.
April 2001

 SRF Fund Management Handbook
                                                            4. Analytic Tools and Techniques
Example Financial Statements
B 1
B 2
B 3
B 4
B 5
& 6
B 7
                                          Balance Sheet
                                     Year Ended June 30, 2000
                                            ($ millions)
                 Cash and Equivalents
                 Debt Service Reserve
                 Loans Receivable
                 Undrawn ACH (may only be a footnote)
                 Accounts Receivable
                 Other Assets
                      Total Assets
     B 8     .     Accounts Payable
     B $          Bonds Outstanding
    B 10              Total Liabilities

             Federal Contribution
             State Contribution
             Retained Earnings
                 Total Equity

             Total Liabilities and Equity
April 2001

                                                                4. Analytic Tools and Techniques

     1 6
     1 10' '
    J 11
     1 14
    'I 18
     1 17
                   Statement of Revenue, Expenses, and Changes in Retained Earnings
                                     Year Ended June 30, 2000
                                            ($ millions)
Interest Revenue
    Cash and Investments
    Loans Receivable
       Total Interest Revenue

Interest Expense - Bonds
    Net Interest Revenue

Other Revenue
    Administrative Fee
         Total Other Revenue
         Net Revenue

Other Expense
    Administrative Costs
    Bond Issuance Cost
    Bad Debts Expense
         Total Other Expense

Net Income (change in retained earnings)

Retained Earnings - Beginning of Year
Retained Earnings - End of Year

                   ^=' ,!-!ii:a

                $   49.2



                                                                         $  37.6
April 2001




' 012
~ C14
Statement of Cash Flows
Year Ended June 30, 2000
($ millions)
Cash Flow from Operating Income
Net Income
Adjustment to reconcile net income to net cash
from operating activities
Net cash provided by operating activities
•- Cash Flows from Noncapital Financing Activities
Cash Flows from Capital and Related Financing
Loan Disbursements
Loan Principal Repayments
Bond Proceeds
"- Bond Principal Repayments
ACH Cash Draws
State Match Deposits
Net Cash provided by capital and related
financing activity
Cash Flows from Investing Activities
Net (increase) decrease in debt service reserve
Net Cash provided by investing activities
Net Increase (Decrease) in Cash and Equivalents
^ Cash and Equivalents - Beginning of Year
Cash and Equivalents - End of Year


$ 11.6

202.6 .



$ 10.2


$ (12.2)
Increases to ACH
April 2001

                                                              4. Analytic Tools and
                                     Supplemental Data Sheet
                                    Year ended June 30, 2000
                                           ($ millions)
Binding Commitments
Cumulative Binding Commitments
Cumulative Project Disbursement
Cumulative Project Completions
Reported Average Loan Rate
Debt Rating
Bond Buyer 20 Year GO Bond Index
Loan Delinquencies Over 30 days
Cumulative Assistance Agreements
Cumulative Project Completions
April 2001

SRF Fund Management Handbook
4.9 CWSRF Financial Indicators

Like the measures included in Section 4.8, the following suite of indicators can be useful in assessing various
aspects of the SRF program. The suite of financial indicators in this section were developed through the
State/EPA Workgroup.  They are currently used by EPA to report to Congress under the Government
Performance and Results Act (GPRA) on the performance of the national CWSRF program. For GPRA
they are only calculated on a national, aggregate level. See Table 3 for a summary of calculated financial

The indicators were developed as a complete suite in order to provide a balanced approach to understanding
SRF performance. They reflect the different financial objectives of the SRF and provide broad indicators
of how the SRF is meeting them. The overall CWSRF goal these indicators intend to address is: To balance
the sometimes conflicting objectives of funding over time  the  largest dollar amount  of the most
environmentally beneficial eligible projects as timely as possible, yet at the same time  providing a
meaningful financial subsidy to borrowers while, maintaining the fund's contributed capital into

    The indicators are:

    •  federal return on investment
    •  percentage of executed loans to funds available
    •  percentage of funds disbursed to executed loans
    •  estimated additional SRF loans made due to leveraging
    •  perpetuity (retained earnings or sustainability of fund)
    •  estimated subsidy (subjective indicator only)

Each of these indicators are discussed below along with the formula required to compute the indicator.
The specific data assumptions required for each formula are presented at the conclusion of this section along
with calculated values for CWSRF programs.

Return on Federal Investment —

       This indicator is designed to show how  many dollars of assistance were disbursed to eligible
       borrowers for each federal dollar spent. It is computed by dividing cumulative CWSRF assistance
       disbursed by cumulative federal outlays (including those for administrative expenses).

       = cumulative CWSRF assistance disbursed / cumulative federal outlays

       When comparing the results of this indicator among the state CWSRF programs care needs to be
       taken in drawing conclusions. A CWSRF program with a higher value is not necessarily better run
       than a CWSRF program  with a lower value. This is because there are several good reasons why
       significant differences exist among the state CWSRF programs.  For example, CWSRFs that issue
       bonds (leveraging) tend to have higher returns on federal investment than CWSRFs that do not issue
       bonds. This is because CWSRFs that leverage have more loanable funds available relative to the
       amount of federal funding than those that do not leverage.
 April 2001

       Other factors that can affect this indicator include the type of loans made, types of projects funded,
       and the timing of when loan funds are disbursed. For instance, if state A issues loans for shorter
       periods of time than state B then state A will have a higher federal return on investment than state
       B, all other factors being equal. This is because the shorter-term loans will get repaid sooner, which
       makes more money available for additional loans.

Percentage of Executed Loans to Funds Available for Loans —

       This indicator measures the cumulative dollar amount of executed loan agreements relative to the
       cumulative dollar amount of funds available for loans. It is one indicator of how quickly funds are
       made available to finance CWSRF eligible projects.

       = (cumulative executed loan agreements / cumulative funds available for loans) * 100

       The methodology used to compute funds available for loans takes into account the varying CWSRF
       financial structures in place, so that only funds truly available for loans are counted as being
       available, thus permitting valid comparisons between the various CWSRFs.

Percentage of CWSRF Loan Disbursement to Executed Loans -

       This indicator attempts to measure the speed at which projects are proceeding toward completion.
       It does this by comparing the cumulative dollar amount of CWSRF loan disbursements to the
       cumulative dollar amount of executed loan agreements, and expressing this as a percentage. A key
       assumption underlying this methodology is that there is a strong correlation between the amount
       of loan disbursements and the amount of construction progress. While this assumption generally
       appears to bear out actual experience, there are two notable exceptions - - refinancing and
       disbursement of loans at the time they are executed.

       = (cumulative CWSRF loan disbursements / cumulative executed loan agreements) * 100

Estimated Additional CWSRF Loans Made Due to Leveraging -

       This indicator tries to estimate the dollar amount of additional projects that have been funded due
       to leveraging (i.e., projects that otherwise might not have been funded, had leveraged bonds not
       been issued). This is done by comparing the cumulative amount of CWSRF executed loans to the
       cumulative amount of funds available after subtracting out the net funds provided by issuing bonds.
       The difference by which the cumulative amount of CWSRF executed loans exceeds the cumulative
       amount of funds available, after subtracting out the net funds provided by issuing bonds, represents
       the estimated dollar amount of additional projects that have been funded as a result of leveraging.
       This indicator only  applies to states that have issued leveraged bonds.

       = cumulative SRF Assistance - Cumulative SRF Funds Available w/o Leveraged Bonds

       One critical assumption underlying this methodology is that states are only able to enter into loan
       agreements to the extent that they have loanable funds available within  the current year.  It is
       important to note that there are states that have adopted a cash flow approach to making loans that
April 2001

SRFJFund Management^Handbopk
       allows them to enter into loan agreements in excess of loanable funds available in the current year.
       There are two major reasons they are able to do this. The first is that there is a lag between when
       loan agreements are signed and when funds need to be disbursed. Thus, the signing of a loan
       agreement does not represent cash immediately going out the door. Second, states that have adopted
       a cash flow approach do not limit themselves to funds available in the current year. They also take
       into consideration funds that are expected to become available in future years.

Perpetuity of Fund -

       This indicator seeks to gauge how well CWSRFs are maintaining their invested or contributed
       capital, without making adjustments for loss of purchasing power due to inflation. For purposes
       of this indicator only, contributed capital is defined as the federal capitalization grant less the four
       percent allowed to cover CWSRF administrative expenses, plus the required 20 percent state match
       whether borrowed or unborrowed.

       = (Interest revenues from Loans and Investments - Bond Interest Expenses and State Match Bonds
       Principal Repayments)

       For those states that do not borrow for state match, if the amount of retained earnings of a CWSRP
       is greater than or equal to zero, then the CWSRF is deemed to be maintaining its contributed capital,
       and therefore, the perpetuity of the fund.  If a state borrows for the required state match, then a
       CWSRF will be deemed to be maintaining its contributed or invested capital if the  amount of
       retained earnings after subtracting out cumulative match bonds repaid equals or exceeds zero. This
       approach puts states that borrow for state match and  those that do not on an equal  footing by
       requiring that fund equity (assets minus liabilities) be equal to 96 percent of the federal capitalization
       grant plus the 20-percent state match.

Estimated Subsidy Provided -

       This indicator provides a narrative, rather than quantitative description, of the subsidy provided by
       the various CWSRF programs. A quantitative indicator was not developed because of the difficulty
       in estimating what value or values should be used to establish a market interest rate proxy or proxies,
       and also to  compute the true effective interest rate charged to borrowers.

       However, because information about  the subsidy being provided to borrowers   is  vital to
       understanding the structure and operation of a state's CWSRF program, EPA will request a brief
       narrative from States about the amount of subsidy being provided to borrowers. This narrative would
       include the folio whig elements:

       •      the  estimated market interest rate or rates used, and how they  are determined;
       •      the estimated range of effective interest rates charged to borrowers, taking into account fees
              charged and other loan conditions and requirements; and
       •      the  estimated average effective interest rate charged on loans.
April 2001

          Data Assumptions Used to Compute CWSRF Financial Indicators

       Net Federal Capitalization Grants -Total Federal Capitalization Grants - 4% Administrative Set-
       Aside (Total Federal Capitalization Grants * 0.04)

       Net Funds from Bonds = Net Leveraged Bonds Issued - Debt Service Reserve - Funds Used to
       Refund Bonds

       Earnings from Operations = Interest on Loans + Investment Interest - Net Bond Interest Expense

       Net Bond Interest Expense=Total Bond Interest Expense - Capitalized Bond Interest Expense Paid

       Cumulative Funds Available=Net Federal Capitalization Grants + Total State Match+Net Funds
       From Bonds + Earnings From Operations -Leverage Bonds Repaid - Match Bonds Repaid + Loan
       Principal Repaid + Net Transfers

       Federal Return on Investment = Cumulative SRF Assistance Disbursed/Cumulative Federal ACH

       Cumulative SRF Funds Available Without Leveraged Bonds = Cumulative SRF Funds Available -
       Net Funds Provided By Bonds

       Additional SRF Closed Loans Due to Leveraged Bonds = Cumulative SRF Assistance Provided -
       Cumulative SRF Funds Available Without Leveraged Bonds
April 2001

gRj? .FundManagement
                                     Table 3
Unweighted State
Average: Non-
Leveraged States
Unweighted State
Leveraged States
Return on
SRF Executed
Loans as a % of
SRF Loan
Disbursements as a
% of Executed
Additional CWSRF
Executed Loans Due
to Leveraged Bonds
$6.8 Billion
Retained Earnings
Less State Match Bond
Principal Repayments
$2.8 Billion
April 2001

Annotated Listing of EPA Guidance Related to Fiscal Fund Management

 Guide to Using EPA's Automated Clearing House for the Drinking Water State Revolving Fund
    Program, September 1998

 The Clean Water State Revolving Fund Funding Framework, October 1996

 The Clean Water State Revolving Fund - Financing America's Environmental Infrastructure
    — A Report of Progress, January 1995

 The Clean Water State Revolving Fund - Practical Approaches to Improving Pace, September 1997

 State Match Options for the State Revolving Fund Program, February 1997

 Report on Leveraging in the State Revolving Fund Program, July 1995

 EPA Clean Water State Revolving Fund Audit Guide, June 1998
April 2001