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Budgeting

A water pipe broke on Main Street and your town is
rationing water.  The supply of wastewater treatment
chemicals is low, and there's a delivery problem. What
a day.

You may already be swamped by the day-to-day activi-
ties of keeping your utility's operations afloat. Now you're
asked to become an accountant and develop next year's
budget. This brochure has some information that can
help you accomplish the task.
Expenses and expectations

Many communities are overwhelmed by the high costs
of upgrading or maintaining their water and wastewa-
ter systems to meet state and federal water-quality stan-
dards. The public expects you to provide reliable ser-
vices  even though you might encounter financial and
other  problems along  the way.

                                                 1

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 Your grip on  the issues  can be
 strengthened by applying
 sound business principles. A
 budget is one of the most
 important tools for operat-
 ing water  or wastewater
 systems as self-sufficient
 utilities. A carefully
 crafted budget can
 be very helpful to
 you.
 Financia!  management

A financial management system encompasses all aspects
of operating a self-sufficient utility. It includes all man-
agement policies involving the administration and oper-
ations of water or wastewater  systems from the estab-
lishment of utility rate schedules to the purchase  of
spare parts.

The accounting system and the budget are key compo-
nents of the management system. The accounting sys-
tem controls  spending and furnishes timely financial
reports. The data from the financial reports is  neces-
sary for you to develop a  meaningful budget. A good
understanding of the budget process means you can
better manage your entire utility.

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The  secrets  of budgeting

Developing an annual budget requires detailed knowl-
edge about your water or wastewater system. The bud-
get is a powerful financial management instrument that
both authorizes and restricts spending. It's very impor-
tant  for you to have accurate financial data when you
prepare a budget.

The  budget captures the goals and  objectives of the
local utility in dollars and cents. It's the only document
produced by the water or wastewater system that projects
revenues and expenses for next year. After it's adopted,
you  can use the budget as a blueprint for next year's
entire operation.

Educated estimates

Revenue values are the foundation for budget calcula-
tions. They must be reliable and predictable so  that
adequate money is available to cover operational expen-
ses throughout the year.

One  of the most  dependable ways to project future
revenue comes from tracking previous years' revenue.
Fortunately, customer consumption is usually very pre-
dictable. Individual customer usage will vary from sea-

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 son to season, but these fluctuations will stay about the
 same from year to year. If the rates remain the same,
 you can expect next year's  total user service charge
 revenue to be very similar to last year's.

 Table A on page
 8  can help you
 develop revenue
 trend information
 and the  budget
 amounts. On the
 first line, list the
 annual  revenue
 from user service
 charges for the past
 three years. On the
 second  line, calculate the per-
 cent of change between each year. To determine the
 percent of change, divide this year's revenue value by
 last year's value. This year's revenue value would be
 the most accurate value of either the current year's budget
 number or the annualized value of  the user  service
 charges acquired to date. The EPA publication A Water
 and Wastewater Manager's Guide for Staying  Financially
 Healthy has a discussion of actual vs. budget revenue.
 You can perform these same calculations  on previous
 years to identify the user service charge percentage
 change trend for your utility. (Note that past rate changes
 will affect  trends.)

 Review the trend percentages and determine if an aver-
 age percentage change of the three years is better than
 using this  year's percentage change to estimate  next
 year's revenue. You can also choose an average percen-
 tage based  on your unique knowledge of current condi-
 tions. Multiply the current year's revenue by the best
 percentage change value to arrive at the budget value
 for next year's user service charge revenue.You can fig-
ure out trend information on all items in the same way.

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New revenue
 Don't follow historical trends alone because there may
 be something new in the works that'll cause the num-
 bers to stray from the norm next year. Reflect this knowl-
 edge in  the  budget. For example, maybe a  new 200-
                                  home subdivision
                                      is going  to
                                       spring up in
                                       your town in
                                       the next few
                                      months. This
                                      means you'll
                                     see a surge in
                                     tap  fees  as
                                   people move into
                                  the neighborhood
                                 and then you'll get
                              an increase in user ser-
                            vice charge revenue for
                           water and wastewater ser-
                         vices. The connection-related
 revenue will be short-term so this  item will not make a
 reliable trend. Develop your budget using trends and
 also the new user service charge revenue expected from
 the subdivision.

 Keep in mind the future plans for your community when
 you are working  up a budget.

 New systems

 If you've got a new system, you won't have  trends
 because your system has no history. Typical use pat-
 terns can be  a reliable barometer to forecast what's on
 the horizon for your system.

 The average residential customer uses between 4,000
 and 6,000 gallons of water/wastewater per month. (Check

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 with surrounding utilities to come up with a more accu-
 rate average for your community.) It's important to esti-
 mate usage as accurately as possible to avoid a budget
 deficit the first year and a rate increase the next year.
 You can estimate user service charge revenue by assum-
 ing a value for usage per residence and applying your
 utility rate schedule. Multiply this amount by the num-
 ber of households expected to connect to the system to
 arrive at the monthly user service charge revenue from
 your residential customers.  Multiply this value by  12
 months to find the residential user service charge rev-
 enue for one year.

 Small commercial customers have usage patterns simi-
 lar to residences (about 5,000 gallons per month). Project
 their consumption as you would a residence. However,
 larger commercials and industries can use tremendous
 amounts of water. If you're unfamiliar with new, large
 customers, call  the plant managers and ask  how much
 water  they expect  to use.  Base  an estimate on the
answer and your own experience. Once you've decided
how much water each industry will use, you can calcu-
late user service charge revenue to help build the water
and wastewater budgets.
 6

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Other  revenue sources
Although user service charges probably comprise most
of the annual water or wastewater revenue, there are
other revenue sources to consider.

Taxes/assessments are usually collected separately from
user service charges to  pay off debt  that was under-
taken to provide new capital facilities like treatment
facilities or sewer lines.  This revenue  source generally
remains constant from year to year.

Tap and other connection fees stem from new growth.
When preparing the budget, find out if there are any
new housing permits or annexation  plans that will add
new customers.  Talk to builders about  their plans to
develop within your service area.

Customer late payments should be charged to those
who are tardy with their monthly bills. Generally, this
revenue can be  projected by using an average trend.
However, local economics can change  a utility's collec-
tion pattern.

Interest income from checking accounts and investments
                   has to be used  exclusively for the
                   utility,  regardless of  where  it's
                   invested. Also, utilities will  often
                               have  large,  interest-
                                    generating cash
                                    reserves for emer-
                                    gencies and re-
                                     placing equip-
                                     ment. Ask the
                                    bookkeeper how
                                    much  cash  is
                                    available  each
                                    month from the
                                  investment. Inter-

-------
 est income is easy to project because interest rates are
 fairly constant.
 Additional revenue may be collected by your system.
 Develop the budget for these additional revenue items
 by using trends, individual knowledge, or other meth-
 ods.

 At this point, all of the revenue should be projected for
 the budget year. The bottom line is to have enough
 revenue flowing into the system  to offset the  money
 flowing out — this is the heart of a self-sufficient util-
 ity.
                      Table A
Revenues
User Service
Charges
% of Change
Assessments
% of Change
Connection
Fees
% of Change
Interest
Income
% of Change
Other Income
% of Change
Total
Revenue
Year 3
500,000

1,300

33,000

12,000

3,000

549,300


1.02

1.18

1.00

1.23

1.07

Year 2
510,000

1,530

33,000

14,480

3,200

562,210


1.02

.95

1.00

1.17

1.12

Year 1
520,000

1,450

33,000

17,300

3,600

575,350


1.02

1.03

1.00

1.03

1.03

Budget
530,000

1,500

33,000

19,800

3,600

587,900
There are several revenue sources, and each should be
separately evaluated. Year 1 is the current year, Year 2
is last year, and Year 3 is the year before that. Take the
steps outlined on the next page  to complete the rev-
enue budget.
8

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 1.  Complete the form  with revenue data from prior
    years.

 2.  Divide the revenue in Year 1 by the revenue in Year
    2, and write the amount on the line  between the
    two years (520,000 / 510,000 = 1.02). This gives the
    percent of growth over the prior year.

 3.  Divide the revenue in Year 2 by the revenue in Year
    3, and write the amount on the line  between the
    two years (510,000 / 500,000 = 1.02). This gives the
    percent of growth over the prior year.

 4.  The budget amount is  determined by multiplying
    the current year's revenue by the growth trend per-
    centage (520,000 x 1.02  percent = 530,400).

 Expenses

 Table B on page 13 can help you develop expense trend
 information  and budget amounts for the two kinds of
 expenses — fixed and variable.

 Fixed expenses, like contracts and debt service, don't
 change during the year. They're easy to project simply
 because they're constant, and  you generally know the
 amounts in  advance. For instance,  if  the utility  con-
 tracts out mowing, it's easy to  complete the budget
 amount by looking  at the contract.

 Variable expenses fluctuate with changes in treatment
volume or consumption. Costs of water and wastewa-
 ter  treatment, such as chemicals and electricity, vary
with the volume that's treated. For example, water use
dips in cold wet weather and soars  in hot dry seasons
when people  water lawns and wash cars.  You  can
expect a jump in water chemical expenses if weather
forecasters predict an unusually hot  dry summer. Also,
don't forget that most wastewater systems have pipes

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 that leak. Periods of above-normal rain mean water seeps
 into pipes  and runs to the treatment plant, swelling the
 influent volume, and boosting treatment costs. Remem-
 ber these relationships when budgeting because these
 expenses will change in proportion to user service charge
 revenue.

 Variable expenses will also increase if more customers
 are added. Ask employees, managers, and other knowl-
 edgeable people about customer growth expectations.
 This would include new  subdivisions, shopping malls,
 businesses, or industries. The  rule of thumb is to add
 more variable costs to the expense budget if you add
 new user service charge  revenue to  the revenue bud-
 get.

 Still other expenses, such as wages, could contain both
 a fixed portion (40 hours) and a variable portion (over-
 time). Developing trend information and applying your
 knowledge of the local situation is probably the best
 way to develop the budget for these costs.

 Typical  expenses

Starting  on the  next page are  some common budget
expense items and ways to project their costs:

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Administration expenses occur when another depart-
ment manages something, like billing, for the water or
wastewater operation. This is common with cities that
have centralized administration. These expenses should
be consistent and easy to calculate from year to year
even though you have little control over the amount of
administrative charges. Develop the budget amount from
growth trends and discussions with staff members.

Wages may be easy to  project  from  trends. If you're
not going to hire additional people, then the fixed 40-
hour wage amount can be computed (use projected wage
rate).  The overtime portion is difficult to know. Your
best estimate would be based on prior years and con-
versations with management.

Benefits  include things like insurance,  vacation, and
retirement plans. These are fixed expenses that are usually
based on the number of employees and their pay. Develop
this budget item from trends, unless  there is a signifi-
cant change in the number of employees.

Utilities  include water, fuel,  and telephone expenses.
These are generally fixed and easily projected from trends.

Equipment replacement is a fixed amount. This money,
set aside each year to replace  major equipment compo-
nents, assures optimal operation of the water or waste-
water system. The amount is frequently determined by
local officials  with help from you and your engineer.
Budget the fixed amount.

Debt repayment is a fixed expense made up of princi-
pal repayment and interest expense. If your utility has
issued bonds, there's an amortization schedule that lists
every payment broken down  by principal and interest
(much like a home mortgage). Use this list for the bud-
get amount. If this is unavailable, use the amount pro-
jected by  trends.

                                                11

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 Electricity and chemicals are variable expenses based
 on production, treatment, or pumping. A budget based
 on trends is best for each of these categories. Be aware
 of new growth in user service charges that trends won't
 reveal, like those from a new subdivision or mall. Be
 sure to call the electric company about pending rate
 changes. Discuss  chemical  usage and projected  costs
 with staff and manufacturers.

 Parts, plus  repairs and maintenance expenses, depend
 on the condition of your equipment. This can change
 greatly from year to year in a utility. Still, your best
 estimate for parts  expenses comes from your knowl-
 edge and trends based  on prior years.

 Other expenses are budgeted by developing a trend
 amount or talking to knowledgeable people and pro-
 jecting a value based on your informed estimate. An
 item in this category is an estimate for unforeseen expen-
 ses. This contingency expense item can be as large as 5
 percent of the total budget.
                                              tin
12

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                      Table B
Expenses
Administration
% of Change
Wages
% of Change
Benefits
% of Change
Electricity and
Chemicals
% of Change
Utilities
% of Change
Equipment
Replacement
% of Change
Debt
Repayment
% of Change
Parts
% of Change
Other
Expenses
% of Change
Total
Expenses
Year 3
75,000

122,000

40,000

57,000

25,000

50,000

110,000

35,000

24,000

538,000


1.04

1.04

1.04

1.07

1.05

1.00

1.00

1.07

1.08

Year 2
78,000

127,000

41,600

61,000

26,250

50,000

110,000

37,000

26,000

556,850


1.04

1.04

1.04

1.03

1.06

1.00

1.00

1.05

1,12

Year 1
81,000

132,000

43,300

63,000

27,800

50,000

110,000

39,000

29,000

575,100


1.04

1.04

1.04

1.04

1.06

1.00

1.00

1.05

1.08

Budget
84,000

137,000

45,000

64,000

29,500

50,000

110,000

41,000

31,000

591,500
 There are several expenses and each should be sepa-
rately evaluated. Year 1 is the current year, Year 2 is
last year,  and Year 3 is the year before that.  Take the
steps outlined below to complete the expense budget.

1.  Complete the form with expense data  from prior
   years.

                                                13

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2.  Divide  the expenses in Year 1 by the expenses in
    Year 2, and write the amount on the line between
    the two years (81,000 / 78,000 = 1.04). This gives
    the percent of growth over the prior year.

3.  Divide  the expenses in Year 2 by the expenses in
    Year 3, and write the amount on the line between
    the two years (78,000 / 75,000 = 1.04). This gives
    the percent of growth over the prior year.

4.  The  budget amount is  determined by multiplying
    the current year's  expenses by the  growth  trend
    percentage (81,000 x 1.04% = 84,240).

Selling  the budget

The budget is complete and now ready for marketing.
It's time to develop your sales pitch because you'll be
selling your product at the budget presentation and
public hearings. You may have to use personal persua-
sion, especially when you're seeking political support
                                 for a general rate in-
                                 crease, new equip-
                                 ment, or expensive
                                maintenance  items.
                                The EPA publication
                                Building Support for
                                Increasing User Fees
                               may be helpful with
                               this effort.
                               Check  with depart-
                               ment heads, manage-
                               ment, and other key
                                 players to  make
                                  sure you've really
                                   reached  a con-
                                  €sensus and that
                                 yj .your budget pro-
                                        jections are

-------
accurate. If you had an open dialogue throughout the
budget development and preparation process, you will
have a good base for your selling efforts.

Now, it's time to discuss your budget's costs and ben-
efits with  elected officials. The  main political rule to
remember  is not to surprise anyone. Keep in mind that
politicians have  many items  under consideration  —
paramount among them is re-election. They're  inter-
ested in how your proposed budget affects their ward
or district.

Whenever  possible, talk personally with each elected
official before the public budget hearings. As individu-
als, they are interested in different aspects of the bud-
get. They're sure to ask what's in it for them, so  care-
fully shape your  message  and highlight the benefits
they'll receive. Take the time to assure them that their
constituents are treated equitably in the budget.

Even though you  expect to break  even this year, you
may need  to consider a rate increase  because you
expect expenses to exceed revenue for the new budget
year. You will need to fully explain to everyone why
you  expect higher expenses. This can be touchy. You
can't sway  people to your side just by reciting each line
item. You need to provide details so they can under-
stand that  they are getting their money's worth. You
must convince  both constituents and elected officials
that your budget is in their best interests.

Public hearings

A good public education program is the key to success
at  a  public hearing.  People need  to know about the
benefits of their  water and wastewater systems. An
ongoing public education program is very helpful when
you are proposing a rate increase. The EPA publication
Building Support for Increasing User Fees has an excellent

                                                15

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section on conducting a public edu-
cation campaign.
The public hearing can be a platform for you to discuss
the benefits that a rate increase is buying. Reassure the
public that rate increases are necessary to maintain the
quality of the water and/or waste water treatment sys-
tem. A rule of thumb is that small, annual rate increases
are more palatable than large, irregular rate increases.

You should be enthusiastic and organized when pre-
senting the budget to elected officials and the public. You
need to talk intelligently about the budget and the utility's
operations. You should also be prepared to field politi-
cally motivated questions about revenue and expense
projections. Your credibility is on the line, so there's a
real need to communicate honestly and convincingly.
16

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Measure  efficiency

Don't let  the bud-
get gather dust on
a dark shelf after it's
been  approved by
the governing body.
Use it to assess  ef-
ficiency  and gauge
success. This can be
determined by com-	—
paring what you thought would happen to what really
is happening. The EPA publication A Water and Waste-
water  Manager's Guide for Staying Financially Healthy can
be helpful to you.

Because revenue  and  expenses can differ from month
to  month  for a variety of reasons, it's difficult to make
monthly  comparisons to a budget  stated in yearly
amounts.  One  easy review is comparing  the actual
percentage results of  this year to last year. Generally
speaking,  if expenses this year are lower than last year,
or the percentage spent year-to-date is lower this year
than last year, then the budget is probably on course.

However, a utility must respond to customer demand
even  if it  means that certain expenses exceed the bud-
get. If rates are reasonably adequate, then revenue will
equal or slightly  exceed expenses.

When there's high demand or usage, revenue  will
increase along with certain expenses, such as chemical
treatment. If those situations continue,  then it's likely
that expenses would  exceed  the budget. This doesn't
necessarily mean trouble, because  more  volume is
being treated  than expected.  Revenue would  also
exceed the budget. Compare  revenue and expenses in
total.  In the final analysis, it's good for revenue to slightly
exceed expenses regardless of any budgeted amounts.
                                                17

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 Sharpen your  budget skills

 Now that you've finished developing next year's bud-
 get, try to enhance the process in future years by fol-
 lowing the suggestions outlined below.
    No matter when you started budget preparations
    this year, get started even earlier next year. This
    will give you more time for everything — both the
    expected and the unexpected. The EPA publication
    A Water and Wastewater Manager's Guide for  Staying
    Financially Healthy will help you with your entire
    financial management system.

    You probably discovered  that records maintained
    by one department may be useful to others — share
    these.  Eliminate  duplicate efforts and records that
    are no longer necessary. Create new  records, such
    as complaint  logs, that may point out operational
    problems.

    Data is often captured in a way that makes retrieval
    difficult, especially when different departments use
    incompatible computers. You may need to switch to
    a more user-friendly method or a centralized com-
    puter system.  Now that you know what you need,
    make sure the information is recorded and avail-
    able.
   . It might save you time to update records through-
   out the year rather than creating them at budget
   time. Remind department heads of the type of data
   you need so they can maintain those records during
   the year.

X Chart long-range strategies  that go beyond a single
   budget year to deal with irregular, expensive main-
   tenance without a rate hike. Planning early lets you
   build  a cash reserve.  This  cushion allows  you to

18

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weigh alternative, less costly solutions to emergen-
cies, rather than merely reacting to the unexpected.
Remember, proper planning prevents poor perfor-
mance.

Ask your co-workers for input — constructive sug-
gestions can enrich your department and help oth-
ers do better next year.

Experience is often the best teacher. Use the knowl-
edge you gained from this year's budget exercise to
improve  next year's budget process.

A  carefully constructed budget can help turn your
future into a pleasant experience. Your efforts should
be smoother in the coming year, and the planning
experience you gained will be extremely helpful when
budget time rolls around again.

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 Where to  get  help

 This booklet can't solve all your financial problems. It
 only presents some  basic financial concepts and gives
 you some  suggestions for possible improvements.

 You do not have to solve all your utility's financial
 problems  alone. You can turn to organizations and
 professionals who have faced similar problems and solved
 them.

 One group that was set up just to help managers of
 small sewer utilities is  the U.S. EPA National Small
 Flows Clearinghouse. It has books  and pamphlets on
 all aspects  of small community operations. You can call
 the clearinghouse  toll-free at 1-800-624-8301 or write:

 U.S. EPA National Small  Flows Clearinghouse
 P.O. Box 6064
 Morgantown, W. Va. 26506-6064

 There are organizations  that offer low-cost books, pam-
 phlets, conferences, and courses on local financial
 issues. Call any of these groups. Ask for a publications
 catalog and a list of course offerings.

 American Public Works Association
 (312) 667-2200

 American Water Works Association
 (303) 794-7711

Government  Finance Officers Association
 (312) 977-9700

International City/County Management  Association
(202) 626-4620
20

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Water Environment Federation
(703) 684-2400                        .

Many states and universities have special training courses
and on-site assistance programs for solving small com-
munities' financial problems. Give them a call and see
how they can help you.
                                                 21

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Acknowledgments

This booklet was prepared by Haig Farmer of the U.S. Environ-
mental Protection Agency and  Alan Major of the University of
Tennessee's Municipal Technical Advisory Service. The UT team
also included Mary Beatty, Sharon Fitzgerald, and Sharon Rollins.

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