United States
Environmental Protection
Agency
Office of Municipal
Pollution Control (WH-595)
Municipal Facilities Division
Washington DC 20460
EPA 430/9-86-001
September 1986
&EPA Touching All The Bases
A Financial Management
Handbook For Your
Wastewater Treatment Project
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United States September 1986
Environmental Protection Agency
Touching All The Bases:
A Financial Management Handbook
For Your Waste water Treatment Project
U.S. Environmental Protection Agency
Region V, Library
230 South Dearborn Street
Chicago, Illinois 60604
U.S. Environmental Protection Agency
Office of Municipal Pollution Control
Municipal Facilities Division (WH-595)
Washington, D.C.
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This report has been reviewed by the Environmental Protection
Agency (EPA) and approved for publication. The views,
opinions, conclusions, and recommendations herein do not
necessarily reflect those of the EPA. Mention of trade names or
commercial products does not constitute endorsement or
recommendation for use.
OtS. Environments! Protection Agency
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Foreword
This handbook, developed for EPA's Office of Municipal
Pollution Control, explains how to manage your community' s
finances during the planning and construction of a wastewater
treatment system. Financial management during this period is a
very complex and exacting task, but it is a task that must be
diligently performed in order to protect the considerable
investment you are making in the treatment system. Because
your ability to manage events depends directly on your ability to
anticipate them, this document devotes appropriate attention to
the key events which must precede the commencement of
construction as well as those activities which you must perform
during actual construction and in the period immediately
following.
This handbook is only intended to provide the reader with a
general background of a very complex subject, spanning, as it
does, the planning, design, and construction stages. EPA has
developed various other publications dealing with municipal
finance and treatment technologies that are applicable to specific
stages of treatment plant development and operation. These
publications should be read by those directly responsible for the
success of the treatment project. Two of the publications relating
to finance are listed in the bibliography (Financial Capability
Guidebook and User Charge Guidance Manual}, along with
publications dealing with other wastewater treatment plant
topics. Information on the Guidebook and Guidance Manual,
plus information on other financial management publications,
can be found in the current edition of the Financial Management
Publications Update for Wastewater Treatment Plants. The
Update and most other EPA publications dealing with financial
management are available from the Environmental Quality
Instructional Resource Center, 1200 Chambers Road, Room 310,
Columbus, Ohio 43212. (Telephone: (614) 422-6717).
This publication was written by James C. Joseph, Paul L. Shinn,
and Joseph T. Kelley of the Government Finance Research
Center (GFRC) of the Government Finance Officers Association
(GFOA). Additional assistance was provided by John Peterson
and Arthur Gitajn, also of GFRC. The project was managed for
EPA by Brian C. Rourke.
Note that the statements, conclusions, and recommendations
contained herein should not be construed as setting forth any
legal or regulatory requirements beyond those set forth in the
Clean Water Act, as amended. (33 U.S.C. 1251 et seq.) and
EPA's construction grants regulation, 40 CFR Part 35; general
grant regulation 40 CFR Part 30; and grant procurement
regulation 40 CFR Part 33.
111
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Table of Contents
********
Chapter I. IntroductionTaking The Field
Why this handbook was written; what's in it; how it's organized.
********
Chapter II. The Financial Planning PhaseGetting on Base 5
Understanding the Ground Rules _^____ 5
Everything you should know before you do anything. (If it's not here, at
least you'll know where to look.)
Federal Grant Eligibility: Is your town eligible; who should you ask?
Federal Laws and Regulations: which ones apply to your town if it
receives a Federal grant? Which ones apply even if it doesn't?
State Laws and Regulations: Some typical requirements and how they
can affect your wastewater treatment project.
Local Requirements: Has your town imposed additional requirements on
itself?
Capital Planning _^_______ 7
How your treatment project will fit in with your town's long-range
financial plans.
Facility Inventory and Project Identification: What do you have now
and what will you need in the future?
Priority-Setting: Decisions on the future of your town are going to be
influenced by the Clean Water Act's requirements.
Assessment of Funding Sources: What to look for when deciding where
the money should come from.
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Table of Contents
Borrowing: Should your treatment project debt be supported by taxes
or revenues? Pros and cons of each.
Capital Budgeting: The Capital Improvement Plan is connected to the
capital budget and to the operating budget.
Assembling Your Team
Whoya gonna call (on)?
Project Planning
Estimating Capital Costs: Are the estimates reasonable? Do they
include ALL the costs? How can you tell?
Estimating Operating Costs: Do these estimates seem less imposing than
the capital cost estimates? Look again: mistaken estimates here could be
nine times more costly than mistakes in the capital cost estimates.
Preventing Costly Reexamination of Your Project: Review of
Guidelines for the Planning Phase.
Conclusion
10
15
17
********
Chapter III. The Pre-Construction Phase of Financial
ManagementMoving to Second 21
Short-Term Financing 21
Bridging the gap to long-term financing
Short-Term Financing Alternatives: The uses of BANs and GANs.
Arbitrage Earnings During Construction: How to reduce the debt
service on your short-term borrowing.
Advantages of Short-Term Financing: But the risks involved make the
services of a financial advisor essential.
Designing the Bond Issue
24
What size? How long a term? Competitive sale or negotiated process?
Method of retiring the bonds? Call privileges? Indenture? Insurance?
The Construction Contract 26
What should you consider when hiring a contractor, when advertising for
and evaluating bids? Should your contract contain provisions for
retainage, performance bonds, change orders, and termination? Yes, and a
few others as well!
VI
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Table of Contents
The Project Budget
29
How to figure out where the money is coming from and where it's going.
The Cash-Flow Forecast 31
How to figure out when the money is coming and when it's going.
Planning the Operating Budget and User Charge System 34
Estimating first-year costs and developing the revenues to meet them.
Conclusion 36
********
Chapter IV. Financial Management During the Construction
PhaseRounding Third 39
Establishing Accounting Systems 39
The more money you have to account for, the more important is your
accounting system: How should you account for grant-eligible and
ineligible costs? Who should assume the many accounting tasks? What are
the four most common accounting problems for communities receiving
grants?
Processing and Recording Transactions
41
When to record everything that needs recording.
Investing Construction Funds
Managing the Contract
Conclusion
42
Where to find a safe home for your construction funds and still have
money available to meet the expenses identified in the draw-down schedule.
43
Choosing the one person who will protect the community's interests.
Monitoring Project Progress 45
What sort of financial reports should be made? By whom? To whom? How
often?
48
vn
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Table of Contents
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Chapter V. The Project Completion PhaseCrossing the Plate 51
Implementing the Revenue Plan and User Charge System 51
Public notification and citizen participation should precede actual
adoption of the rate system.
Selling Bonds 52
Timing is critical, so be sure to start the process at least three months
before closing.
Marketing the Issue: Preparing the official statement, notice of sale,
bid form, and indenture (if necessary); getting a bond rating.
Closing the Sale: Awarding the bids, printing the bonds, closing the
bond issue, and establishing payment mechanisms.
Preparing for the Grant Audit 53
What records will be needed?
Conclusion 53
********
Chapter VI. Conclusion-The Post-Game Wrap-Up 57
Recapping the great moments!
Appendix A: Glossary 59
Appendix B: Bibliography 71
vni
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List of Exhibits
Exhibit 1: The Construction Process and the Financial
Management Process
3
Exhibit 2: Roles of Team Members By Activity
11
Exhibit 3: Matrix of Functions Performed in the
Planning Phase
18
Exhibit 4: Construction Draw-Down and Interest
Earning Schedule
23
Exhibit 5: The Bond Sale Process
25
Exhibit 6: Project Budget
30
Exhibit 7: Project Cash-Flow Forecast
32
Exhibit 8: Summary of Cash Balances
35
Exhibit 9: Matrix of Functions Performed in the
Pre-Construction Phase
37
Exhibit 10: Budget Report
46
Exhibit 11: Cash-Flow Report
47
Exhibit 12: Matrix of Functions Performed in the
Construction Phase
49
Exhibit 13: Matrix of Functions Performed in the
Project Completion Phase
54
IX
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A Series of Worldly Tips and Traps
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TIP: A wastcwater treatment facility requires provision
for ongoing operating and maintenance expenses, which
are often higher than the annual debt service obligations.
Special care must be taken to evaluate the potential
operating budget impact of any capital investment.
(Chapter II, p. 10)
TRAP: A community that leaves in-house
responsibilities to outside specialists loses some of its
decision-making power and thereby relinquishes control
of the project. (Chapter II, p. 13)
TIP: The selection of the wrong technology can be one
of the most expensive mistakes a community can make.
You must be sure that the technology being considered
is the most appropriate (and cost-effective) for its
purposes. Alternative treatment and collection
technologies should be carefully considered, especially in
small communities. (Chapter II, p. 15)
TIP: The term of the bonds should never exceed the
expected useful life of the facility. If it does, you may
end up paying debt service on two bond issues for the
same purpose. With this rule in mind, you have some
flexibility in selecting a term that most closely matches
the desired cash-flow pattern. (Chapter HI, p. 24)
TRAP: One common cause of shortfalls during
construction is overly optimistic budgeting.
Communities that have run out of funds in the
construction phase have often been guilty of optimistic
budgeting, particularly in these items:
- interest earnings during construction,
- proceeds from short-term financing,
- items eligible for EPA grant funding,
- costs of issuing debt, and
- construction costs.
(Chapter HI, p. 29)
TIP: It is important to forecast and track the account
balances for every one of the accounts because you must
maintain a positive balance in each one. If the
community overdraws the account for construction, it
will be barred from paying construction bills from other
accounts by legal and investor restrictions. It will in
effect be unable to pay its contractor. (Chapter HI, p. 31)
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TRAP: The five most common accounting problems for
communities receiving grants are:
- failure to separate eligible and ineligible costs;
- failure to segregate costs between different grants;
- failure to develop written procedures for grant
accounting;
- failure to justify and record Federal
reimbursements;
- failure to maintain documentation supporting
payment requests. (Chapter IV, p. 40)
TRAP: One common mistake made by communities
with construction projects is using separate bank
accounts to keep track of different types of money. This
should be avoided at all costs and done only when note
or bond indentures require separate bank accounts to
secure the debt obligations. Multiple accounts are
expensive to maintain and to balance, and they also
promote accounting errors. (Chapter IV, p. 41)
TIP: In a falling interest rate environment, the interest
yields in an investment pool are generally higher than
those available through independent investing. This is
because the interest yield in the pool is determined in
part by securities that were purchased when rates were
high. (Chapter IV, p. 43)
TIP: It is a good practice to develop an updated cash-
How forecast every month. This new forecast should
reflect the actual cash-How up to the date of the forecast,
with a revised monthly forecast of all sources and uses
for the remainder of the project. (Chapter IV, p. 48)
TIP: Long-term self-sufficiency of the treatment plant
can be ensured by writing the rate ordinance so that any
required rate increases are automatically built into the
operating budget approval process. (Chapter V,p. 52)
TIP: Since the time needed to complete a bond sale
varies with the type and complexity of the sale, the
length of time needed should be determined well in
advance of the need to sell the bonds. You should time
the bond sale so that proceeds are available to pay off
any short-term financing and any costs of construction
that will not be paid from cash or short-term financing.
(Chapter V, p. 52)
TIP: The financial advisor should solicit input from
potential underwriters to determine the need for a rating
on small issues. If you have outstanding debt that has
been rated, all subsequent issues with the same security
should also be rated. Failure to request a rating of a new
issue with the same security provisions as currently-
rated debt could result in the withdrawal of the existing
rating. (Chapter V, p. 52)
XI
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CHAPTER I
Introduction:
taking
the
field
Building a new wastewater treatment plant is a major
undertaking even for America's largest cities. For
smaller jurisdictions, the construction project may well
be the largest single public works project ever
undertaken. Besides being costly, building a treatment
facility is both time-consuming and complex. Because of
all of these factors, wastewater facilities construction
requires special management efforts, particularly in the
realm of financial management.
It is easy to overlook the financial aspects of a
construction project, particularly in the planning stages.
When you contemplate building new facilities you tend
to concentrate your efforts on selecting an engineer,
designing the facility, purchasing land, hiring a
contractor, and watching the new plant rise from the
ground. Unfortunately, this approach often leads to
shortcomings in financial management, which can lead
to serious problems as the plant is being built and when
it becomes operational.
Finance should be a major consideration at every step of
the process of building or upgrading facilities, from
design through construction and completion. You must
make special efforts to secure both short-term and long-
term financing; to determine the impact of the project
on operating revenues, expenses, and user fee levels; to
monitor all financial transactions relating to design and
construction; and to protect your community's financial
interest throughout the process.
Failure to establish and follow good financial
management practices can lead to serious problems that
often either delay completion of the facility or stop it
altogether. The pitfalls are many and varied. A few of
the more common problems are:
building a project that is too costly for the
community;
failing to verify that the contractor's bills reflect work
actually completed;
allowing costs to exceed available funds;
failing to maintain cash balances that are adequate to
pay project costs;
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jeopardizing opportunities for Federal and State
grant funds by failing to maintain good records; and
failing to make arrangements for workable long-term
project financing.
The purpose of this handbook is to help local
governments that anticipate building new treatment
facilities minimize the likelihood of falling into these
traps. It is aimed primarily at smaller governments that
are building their facilities with the assistance of a grant
from the U.S. Environmental Protection Agency (EPA),
but it can be of use to any jurisdiction that is
constructing a treatment plant, regardless of size or
funding sources.
This handbook concentrates mainly on the
considerations involved in securing and then managing
short-term and long-term financing for the construction
project. However, it is impossible to look at these topics
in isolation. Your community must also understand the
importance of engineering, planning, controlling and
reporting and how each of these tasks can be designed to
contribute to good financial management. Similarly,
management of finances during construction cannot be
explained without an understanding of what happens
both before construction begins and after it ends.
The handbook is organized chronologically, so that you
can walk through the entire process, from the early
planning stages through actual construction to
arrangement of long-term financing and the final audit
of the project. In Exhibit 1, you will find an
approximate representation of how the financial
management functions discussed in this handbook relate
chronologically to the steps taken toward completion of
the treatment facility.
Like many examples in American life, the construction
financing process can be spoken about in terms of the
game of baseball. The handbook uses a trip around the
bases as a metaphor for the process; you can think of the
planning stage as getting you to first base, pre-
construction getting you to second, construction moving
you around to third, and preparing for an audit and
closing the project as the trip home. This metaphor will
help you keep track of where you are in the process.
In addition to the text, the handbook includes graphic
representations of the major points of the financial
management process. Exhibits show how various types
of financing relate and how the processes begin and end.
Highlighted "tips" and "traps" give an idea of special
opportunities and problems to watch for during the
construction financing process. A glossary of financial
terms is included as an appendix to the handbook.
Terms that are defined in the glossary are highlighted in
bold print the first time they appear in the text.
This handbook is not intended to be your only source of
information on financing during construction. It is,
rather, an overview of the financial events that are
involved in the construction process and illustrates how
these events relate to the construction itself. By taking
this approach, the handbook promotes a broad
understanding of what to watch for in the process and
how best to manage the project financially. It is hoped
that this will help your community achieve its goal of
completing construction within budget and on time.
Additional sources of information can be found in the
bibliography.
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Exhibit 1
Financial planning
should occur during the
same time as facilities
planning for the WWT
project.
The pre-construction
phase of financial
management should
begin as soon as
planning is finished and
should be completed no
later than the time plant
design work is done.
The construction phase
of financial manage-
ment occurs at roughly
the same time as the
construction of the
facility, though it is
wise to begin certain
tasks (establishing
accounting systems) in
the pre-construction
phase, if possible.
The completion phase
of financial manage-
ment occurs during the
last part of plant
construction.
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CHAPTER II
The
financial
planning
phase:
getting
on base
A structured, well-defined planning process can help
your community order its priorities and better respond
to the pressures associated with new capital projects.
In this way, you can evaluate your capital investments
and look at each individual project in the context of your
entire capital and operating program. Once you decide
to begin a capital project, you should establish the policy
and financial and legal bases for the project before
beginning the design phase.
This section describes a process for planning that will
help you put your wastewater treatment facility into the
broader perspective of your community's capital needs
as a whole. The first step in this process is to understand
the ground rules under which you will be operating. The
second step is to prepare a capital plan and budget,
which lists all construction in priority order and
determines the schedule and funding method for each.
The third step is to assemble a team of experts from
both the local government staff and outside consultants
to design the project, develop the financing plan, and
assure that it all works from the legal and administrative
points of view. The fourth step in the planning process
is to develop the plan for the project itself. This phase
includes design (engineering), detailed budgeting and
scheduling, and refining the financing plan. When this
planning process is complete, you can think of yourself
as having reached first base; much of the hard work is
behind you, and you have a much better chance of
scoring a run later in the inning.
UNDERSTANDING THE
GROUND RULES
Because local governments are responsible for their
taxpayers' money, it is not surprising that they face a
wide range of laws and regulations that direct their
actions. It is also reasonable to assume that many of
these laws will govern major construction projects
because of the large dollar amounts involved. The goal
of these constraints is to promote sound financial
management to assure that public funds are kept and
used wisely. Your community should therefore not
resent the level of regulation, but use it as a guide to
developing sound management systems.
It is important to read and understand applicable laws
and regulations early in the process to avert unexpected
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legal problems later. Wherever possible, this handbook
refers to specific legal requirements in the appropriate
sections. It is useful, however, to review all of these
requirements at this point, so that you may stop and
determine the legal constraints you will be facing before
continuing into the pre-construction phase.
Grant Eligibility
The U.S. Environmental Protection Agency (EPA)
currently awards grants to communities for the
construction of treatment facilities, generally for 55
percent of eligible costs. As soon as your community
identifies its wastewater treatment needs you should
determine whether your project will be eligible for an
EPA or a State grant. In most States, an agency is
delegated to work with communities to manage the
grants process. You should locate the appropriate agency
in your State to find answers to these questions:
Is your project presently eligible for a grant?
If not, how could your project become eligible?
What is required for eligible projects to receive a
grant?
Federal Laws and Regulations
The Clean Water Act requires that your community
provide adequate levels of wastewater treatment prior to
discharge into rivers, streams, lakes, and other bodies of
water. You will have to address these clean water
standards whether or not you receive a construction
grant. This requirement will thus influence other
municipal decisions, especially those relating to your
capital improvement program. If a Federal grant is
provided, communities must also satisfy a number of
Federal requirements (summarized in the EPA
publication, Construction Grants1985) as a condition
of such financial assistance. Those requirements that
relate to the financial management aspects of wastewater
plant construction are covered in detail in the
appropriate sections, but are summarized for planning
purposes here as well:
Financial capability: EFA's Financial Capability
Policy requires that grant applicants demonstrate
their capability to finance and manage plant
construction and operation. EPA has prepared the
Financial Capability Guidebook to assist grantees
with this step. Financial capability analysis is a useful
planning tool because it assists the community in
determining all construction and operating costs, in
evaluating the level and impacts of user charges
necessary to support the facility, and in assessing the
community's ability to sell bonds to finance
construction. This process should be integrated into
the project planning phase so that the community
may identify at the earliest possible time any
problems with project impacts or financing.
Financial management and record-keeping: EPA also
requires that grantees maintain a financial
management system that records and reports
accurately all grant-related financial activities and
controls the project budget. Chapters III and IV of
this handbook provide detailed information on
project accounting. EPA has also published the
Financial Management System Manual to provide
assistance in developing an accounting system.
User charges: EPA requires that grantees establish
and maintain user charges throughout the useful life
of the facility at a level sufficient to offset costs of
operating and maintaining the facility and for
replacing components as necessary. This regulation
also requires that charges be in proportion to actual
use by each customer. See Chapter III for a
description of the user charge study process and 40
CFR 35.2140 for the complete requirement.
Additional guidance in developing a user charge
system is offered by EPA in the User Charge
Manual.
If your community sells notes or bonds, it will also be
subject to regulations issued by the U.S. Treasury
Department. These regulations specify steps you must
take to assure that interest on debt is tax-exempt, so
that you may take advantage of the lower interest
available in the municipal market. The regulations are
complex; your bond counsel and financial advisor should
work together to structure the financing to ensure that it
complies with all Treasury requirements and still meets
your needs to the greatest extent possible. (Note: This is
particularly important if changes are made to existing
tax legislation as part of the tax reform effort pending
before the current (1986) Congress.)
State Laws and Regulations
It is impossible to provide in this manual an exhaustive
list of all State laws that might govern the financial
management aspects of treatment facility construction.
The approach of this subsection is to give you a list of
typical State requirements so that you may identify and
comply with the specific laws of your State. Common
State requirements are:
Budget laws: Most States require local governments
to prepare an annual budget. The treatment of
construction grants and project expenditures in a
budget varies somewhat. Ask your budget officer to
review State laws to determine how to budget for the
project. Remember that budgets often have long lead
times and that State budget laws need to be
addressed early in the process.
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**************
TIP: Remember that a construction project may have to
be budgeted in more than one annual budget if it takes
more than one fiscal year to complete.
Purchasing laws: States usually limit local
governments' freedom to purchase goods and
services. They typically require that contracts be
awarded on the basis of competitive bidding. Your
State may have very specific requirements on
preparing specifications, advertising the bid, and
deciding how to award the bid. Be sure to review
these laws to understand their impact on costs and
time requirements for the purchasing process.
*~* ***********<
TRAP: Some States exempt contracts for certain
services (e.g., engineering, financial advisor, etc.) from
competitive bidding. Despite this authority, it is both
contrary to EPA regulations and a bad management
practice to select any professional advisor without some
level of competition. (See 40 CFR Part 33.)
Accounting and auditing: Some States specify how
local governments should keep their accounting
records. Also, if your community receives more than
$100,000 in federal funds during a fiscal year, Office
of Management and Budget (OMB) Circular A-128
requires that you obtain an audit of your records
each year. Your finance officer should be aware of
these limitations and should help set up a project
accounting system that both meets State law and
provides needed information about and control over
the project at hand. Note also that some States
require an annual audit that may include an audit of
how grant funds were handled; so your project may
be audited twice. Remember this when storing
records. (See 31 U.S.C. 7501 et seq.)
Investing: States are sensitive to possible loss of
public funds through poor investment decisions,
especially in light of recent failures in the securities
markets. State laws govern how note and bond
proceeds may be invested. Your finance officer
should be very careful to follow these laws because of
the large amount of funds involved.
Selling bonds: Every State limits to some degree a
community's ability to sell bonds. The most common
limitation is on the amount of general obligation
debt that may be issued. Other common State
requirements are that an election be held to approve
a bond issue, that bonds be sold competitively (with
advertising and disclosure requirements) and, in
some States, that a State agency approve the
structure of the bond issue prior to the sale. Some
States will provide bond guarantees or provide
partial payment of qualified debt service, which can
lower interest rates.
**************
TIP: Before beginning to plan this project, ask your in-
house attorney and bond counsel to give you a list of all
State requirements on bonding and what specific steps
you will have to take to comply. Also ask your financial
advisor to calculate whether you have capacity within
your debt limit to issue enough bonds to finance the
project.
Local Requirements
Local governments often impose limits on themselves in
city charters or ordinances. You should ask your
attorney to prepare a list of the applicable local
requirements, which might cover budgeting, the bond
issuance process, public input, and other processes. Be
sure to allow enough time and staff resources to meet
each of these requirements.
CAPITAL PLANNING
The financing arrangements for each facility, whether a
school, highway, or wastewater treatment plant, must be
considered within the context of a community's
comprehensive capital improvement program. The
capital improvement program represents a multi-year
plan (usually covering 5 years) of all spending for capital
projects, encompassing both necessary repair and
replacement of existing infrastructure and a reasonable
level of funding for facilities to accommodate growth.
The first year of the capital improvement program
becomes the community's capital budget. At that time,
a review of the entire capital improvement program
takes place, resulting in the addition and deletion of
projects and the extension of the plan another year into
the future. Appropriations for capital projects usually
extend beyond a single fiscal year. For this reason, a
government must coordinate its efforts to ensure that
past, present, and proposed commitments in the capital
improvement program can be funded with resources that
are expected to be available (current, projected, and
borrowed).
The importance of careful planning and priority-setting
within the capital improvement program cannot be
overstated. Too often governments reduce capital
appropriations in periods of fiscal stress, transferring
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funds for these purposes to more visible operating
programs. This practice only defers needed maintenance
and repair and results in more costly remedial actions in
the future. An effective capital improvement program is
well-documented and based on carefully conceived
funding criteria, giving elected officials adequate
justification for capital spending, even in difficult
financial periods.
The central features of an effective capital improvement
program are: (1) facility inventory and project
identification; (2) priority-setting; (3) assessment of
funding sources; and (4) capital budgeting.
Facility Inventory and Project Identification
The capital planning process begins with a
comprehensive assessment of existing facilities and
equipment. This review includes appraisal of the current
condition of existing infrastructure, identification of the
dates of construction or acquisition of all capital assets,
and estimation of the remaining useful life of each
capital item.
Related to the facility inventory is the development of a
schedule to provide for the regular maintenance, repair,
and replacement of existing infrastructure. It is
necessary to know the replacement costs of wastewater
treatment equipment and facilities in order to determine
budget needs and to develop user charge requirements.
**************
TIP: Operating appropriations for routine maintenance
must be carefully coordinated with the schedule
developed for the capital improvement program, so that
the community docs not waste money maintaining an
item it will soon replace. On the other hand, good
maintenance practices can extend replacement
schedules in the capital improvement program.
Following the inventory of existing facilities and
equipment, the community must identify future
demands for new capital investment. These
determinations are most effective when made against the
backdrop of a comprehensive land use plan that defines
a distinct "urban services boundary" (that region which
will receive urban services). With this clear sense of the
potential demand for services in the future, your
government is in a good position to determine
appropriate levels of funding for growth, as well as for
existing needs.
Priority-setting
You will probably be faced with more projects on your
capital facilities "wish list" than can be funded with
currently available resources. This resource allocation
problem requires an administrative process that ranks
each proposed project in order of priority. It is in this
priority-setting phase that citizen involvement is
solicited to build a level of support for the proposed
capital program. In the case of priority-setting for
wastewater treatment plants, you must also recognize the
clean water requirements of State and Federal
governments, as expressed most commonly in permits
establishing effluent limits for your treated wastewater.
* * *
***********
TRAP: Failure of growing communities to invest in a
wastewater treatment system that keeps pace with their
needs can result in violations of the Clean Water Act,
possibly resulting in monetary penalties and a ban on
any new sewer hook-ups. Note, however, that EPA
grants generally are available only to meet existing
needs.
Your priority-setting process should include the
identification and evaluation of all potential financing
sources for each capital item.
Assessment of Funding Sources
The process of identifying new projects to be funded
must recognize the limits of available resources,
including borrowing. Examples of funding sources are:
grants and intergovernmental transfers;
low interest loan programs and bond banks;
utility and enterprise system revenues;
current general government funds;
capital reserves; and
general obligation and revenue bonds.
A good rule of thumb in the evaluation of financing
sources is to emphasize those which do not deplete the
community's limited resources. For example, the use of
grants is always preferable to draw-downs of capital
reserves. Similarly, low-interest loans from State and
Federal agencies are almost always more desirable than
the direct issuance of bonds by the local government.
**************
TRAP: A community that delays construction of a
needed treatment plant in the hope of obtaining a grant-
or better financing arrangements runs a serious risk of
substantial penalties through court-ordered fines if the
delays result in continued (or new) discharges of
inadequately treated wastewater in violation of the Clet'n
Water Act.
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As you consider the appropriate mix of borrowing and
"pay-as-you-go" financing of capital improvements, you
must recognize the practical (as well as the legal) limits
to each approach. Pay-as-you-go financing allows you to
avoid payment of interest on borrowed funds by
financing capital improvements with available funds
from accumulated user fees and charges, assessments,
capital reserves, and taxes.
A principal disadvantage of pay-as-you-go financing is
the heavy burden you will place on current residents to
fund facilities that have long useful lives. This issue of
intergenerational equity argues that projects should be
paid for by all potential users, both current and future.
In addition, the limited resources available under a full
pay-as-you-go system may force your government either
to forego needed projects because current revenue
sources are inadequate or to raise taxes to unacceptable
levels to meet essential needs.
From a practical standpoint, very few governments rely
exclusively on a pay-as-you-go system, preferring to
implement a balanced system of capital financing from
current and future (projected and borrowed) sources.
Borrowing
Generally speaking, borrowing is necessary to fund
major capital projects. This must be done carefully
since most jurisdictions are subject to either
constitutional or statutory limits on the amount of
bonded debt that may be incurred. Other governments
are constrained by the requirement that voters must
approve issues pledging the general credit and taxing
power of the entity. In addition, there are the very real
perceptions of credit analysts and the investment
community that determine the ease of market access and
the interest rate at which funds will be available. It is
not too early for your community to begin consideration
of financing alternatives at this point in the planning
process.
Tax-supported debt:
There is no certain way of determining an appropriate
level of tax-supported indebtedness known as "general
obligation" or "G.O." debt for a particular local
government. An assessment of general obligation debt
capacity includes a range of credit considerations, such
as financial strength, economic diversity, and stability
and quality of management. There is a point, however,
at which the tax-supported debt of an issuer begins to
raise questions about its capacity to service that debt.
Investors often compare key debt ratios of an issuer to
other similar jurisdictions to determine the relative debt
burden. Among the most important ratios are: (1) net
tax-supported debt as a percentage of personal income;
(2) net tax-supported debt as a percentage of estimated
full cash value of taxable property; and (3) net tax-
supported debt per capita. Your community's relative
position with regard to each of the ratios should be
considered in deciding whether to issue tax-supported
debt.
Moody's Investors Service and Standard & Poor's
Corporation, the nation's two largest municipal bond
rating agencies, use debt statistics from a broad range of
similar issuers to develop high, low, and median figures
for each of these indicators. Serving as the basis for
comparison, these data are useful to municipalities as
they develop their capital financing plans.
**************
TIP: Moody's publishes its "Selected Indicators of
Municipal Performance " each year and many
communities use these ratios as debt affordability
guidelines in the development of their capital
improvement programs.
Tax-supported debt is usually well received in the credit
market, reflecting the ability of the issuer to assess
taxable property to secure the issue. This general
obligation debt offers the additional advantage of
structural flexibility (e.g., the redemption schedule may
provide for level principal payment, level debt service,
or any reasonable variation thereof). Disadvantages
include the need to secure voter approval (in most
cases), the reduction in general borrowing capacity, and
the additional burden on taxable property.
Because general obligation debt typically pledges the
taxable resources of the entire community, such debt
should be used for general-use facilities. Where specific
use groups can be identified, the formation of special
taxing or assessment districts may offer a more
acceptable form of security.
*************lf
TRAP: Failure to recognize that tax-supported debt
must be employed selectively has, in the past, resulted in
citizen concern over the levels of property taxation and
has contributed to the adoption of property tax
limitation measures (e.g., Proposition 13 in California
and Proposition 2 in Massachusetts).
Revenue-supported debt:
Revenue-supported debt represents an alternative to the
use of general obligation debt that has been used much
more frequently by local governments in recent years.
The principal advantages of revenue debt are:
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10
it is secured by fees and charges paid by the users of
the facility;
it preserves general obligation borrowing capacity for
those projects that do not generate revenues; and
it is usually not subject to debt limits.
However, interest rates are usually higher on revenue
debt than on general obligation issues. This is because
the pledge to secure debt service is limited to the
revenue source (charges to users of the wastewater
treatment facility). To provide protection against
fluctuations in the collection of revenues, issuers of
revenue debt must fund a debt service reserve and
pledge to maintain rates and charges at levels that will
ensure coverage of debt service.
Revenue debt capacity is generally fairly easy to
determine, because the limits of the revenue system are
clearly defined with a finite number of quantifiable
variables. Among the central considerations in the
analysis of revenue debt are:
the demand for the service being provided;
the operating history of the utility or enterprise;
the degree of control over rates and charges exercised
by the issuing government; and
the provisions made for unexpected contingencies.
Despite the fact that governments often enjoy a virtual
service monopoly (e.g., water and sewer systems), rates
must be maintained at reasonable levels. Comparisons
with other governments of similar size are useful in the
determination of "market" rates for various services.
previously, this requires a coordinated effort to ensure
that on-going and proposed ventures are within the
government's ability to pay.
**************^
TIP: A wastewater treatment facility requires provisions
for on-going operating and maintenance expenses, which
are often higher than the annual debt service obligations.
Special care must be taken to evaluate the potential
operating budget impact of any capital investment.
In most cases, governments first apply available
resources through the operating budget to maintenance
and repair of existing facilities, with particular emphasis
on those items related to mandated improvements (e.g.,
wastewater treatment), public health, or safety. This
preventive maintenance approach helps ensure that an
existing capital item remains serviceable over its useful
life and avoids the need for extensive rehabilitation or
costly replacement.
The capital budget matches resources (current revenues,
grant, capital reserves, and borrowed funds) with the
spending priorities of the current year. If borrowing is
planned, the debt service obligations in future years
must be assessed vis-a-vis the impact on user fees,
charges, assessments, and tax rates. The on-going nature
of these debt service obligations and the need to
coordinate them with anticipated future capital
borrowings demonstrates the value of the long-term
perspective offered by the capital improvement program.
**************
TIP: Connection charges, fees for extension of a service
area, and other development charges are useful methods
of assessing developers and new users for the burdens
they add to existing systems. This is particularly
important in cases where a new business may represent
an unusually heavy demand on a municipal service. A
chemical plant, for example, places a significant demand
on a wastewater treatment facility.
Capital Budgeting
As is the case with most governmental budgeting, the
development of the capital budget (using the capital
improvement program as a guide) is an exercise in the
allocation of limited resources. Unlike the operating
budget, where appropriations are made for goods and
services to be consumed during the fiscal year, capital
spending is a multi-year commitment. As noted
ASSEMBLING YOUR TEAM
It is important to develop at the outset of the process a
team of both in-house staff and outside consultants who
will be involved in guiding the project through to
completion. This team should include a wide range of
talents and experience, including the disciplines of
engineering, law, planning, finance, and management.
To ensure that the diverse but interrelated tasks which
make up the project are properly coordinated, one
member of the team should have responsibility for
managing the project from start to finish. Exhibit 2
summarizes the responsibilities of each team member. In
many cases, however, a single individual may be able to
cover several areas of responsibility; thus, a large team
may not be required.
The degree to which your in-house team will be able to
cover some or most of these functions will necessarily
vary with the specific organizational structure of your
community; nonetheless, persons with the following
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11
Exhibit 2
Roles of Team Members by Activity
Activity
Roles
All Phases
Planning Phase
Understanding Ground Rules
Capital Planning
Assembling Your Team
Project Planning
Pre-Construction Phase
Short-Term Financing
Designing The Bond Issue
Construction Contract
Project Budget
Cash-Flow Forecast
Setting User Charges
Construction Phase
Accounting Systems
Processing Transactions
Investing Construction Funds
Managing The Contract
Monitoring Project Progress
Completing The Project
Implementing User Charges
Selling Bonds
Preparing For Audit
P
R
R
R
R
R
R
R
R
R
R
R
Legislative Body
P
P
L
P
R
R
R
R
R
R
R
P
Chief Administrator
R
P
P
R
R
R
L
P
R
R
R
R
R
R
R
R
R
R
Project Manager
Finance Officer
P
P
P
P
L
L
L
L
L
L
L
L
R
P
L
L
Purchasing Agent
P
P
P
P
P
Budget Officer
P
L
P
P
Operating Manager
P
P
P
P
P
P
P
Construction Manager
P
P
P
P
P
P
P
L
L
P
Planner
P
P
P
Attorney
L
P
P
P
P
L
P
Bond Counsel
P
P
P
P
P
Financial Advisor
P
P
P
P
P
P
P
P
L
P
P
P
P
P
P
Engineer
Underwriter
P^I»
P
P
In-House
Outside
Legend:
L= The individual performing this function should take the lead role in this activity
R= The individual performing this function should have a review/approval role in this activity
P= The individual performing this function should participate in this activity
-------
12
responsibilities should be involved throughout the
process:
Legislative body: The community's elected body has
ultimate responsibility for the success or failure of
the project and its impact on the community. They
should actively involve themselves and keep
themselves informed throughout the process. In
addition to regular progress reports (quarterly during
the design phase and monthly during construction),
they should take formal action in adopting the capital
budget, hiring outside consultants, approving the
design and financing plans for the project, and
approving the bond sale.
Chief administrative officer: This employee (City
Manager, County Administrator, etc.) should review
and interpret all information being sent to the
legislative body. The chief administrator should
involve himself or herself in the capital planning
process and the user charge setting process to
provide a management point of view and to assess
community impacts of the project.
Project manager: The project manager is responsible
for overall supervision and coordination of the
project for your community. Because the elected
officials of your community are ultimately
responsible for the successful construction and
operation of the project, your community needs a
skillful project manager to oversee all project-related
activities. The manager should be a municipal
employee with experience in dealing with regulatory
agencies, federal grants, and construction projects.
The key concept is that a single person be given first-
line management responsibility for the entire project.
Finance officer: The finance officer should involve
himself or herself in every stage of the process. If
your community has both a treasurer and a finance
director, both should be involved in the facility
construction process. In the planning phase, this
involvement should center around evaluating
financing arrangements and assessing cost estimates.
In the pre-construction and construction phases, this
person should coordinate arrangements for short-
term financing and take the lead in establishing and
operating systems for budgeting, accounting, and
reporting on the financial aspects of the project. If
your community receives an EPA grant, this
employee will be responsible for satisfying the
financial requirements listed in the grant regulations.
As project completion approaches, the finance officer
should assume primary responsibility for structuring
the permanent financing and for audit preparation
and should also take part in the rate-setting process.
Note that while the finance officer has ultimate
responsibility for all of these activities, they will
usually involve employees in the finance office who
perform accounting and bookkeeping duties.
Purchasing agent: The person responsible for
making purchasing and contract decisions has a key
role to play in the construction financing process,
assisting in selecting outside consultants and
managing the process for hiring a construction
contractor.
Budget officer: In communities where the budget is
developed by an official other than the chief
administrator or the finance officer, the person
responsible for this function plays an important role
in construction finance. The budget officer should
take the lead in preparing the capital budget and
should be informed of financial proceedings
throughout the project, since each has an effect on
both current and future budgets.
Treatment system manager and operators: If the
community currently operates a treatment system, it
is essential that those on the staff (often in the Public
Works Department) who are familar with it provide
input into the process of building a new facility. The
need for their participation in designing the plant is
obvious, but they have other roles as well. They may-
be qualified to review engineering designs and
reports and to assist in monitoring financial progress.
The manager may be the employee in the best
position to serve as the construction manager, who
oversees construction and approves all payments (see
Chapter IV for a full description of the construction
manager's duties). The operating personnel should
also play an advisory role in the user charge study
process.
Construction manager: The construction manager
serves as "construction auditor," providing oversight
regarding quality of construction work. His or her
functions include certification of the quality of
materials used and verification that construction
work was properly performed. Additional
information can be found in Chapter IV of this
handbook and in EPA's Management of a
Construction Project: A Guide for Grantees.
Planners: The community officials who are
responsible for forecasting and planning for
community growth play an important role in the
capital planning and project planning steps. Their
input is crucial to determining the capacity
requirements for all future construction projects,
including the waste water treatment facility. They
may also possess demographic and economic
information that is necessary to evaluate community
impacts of the project, ability to repay debt or raise
user charges, and so on. This information will be
needed both in the planning phase and when user
charges are adopted as construction winds down.
Attorney: Whether the community relies on in-
house counsel or contracts for legal services, an
attorney who is familiar with your government's
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13
powers and legal structure, as well as Federal and
State laws, should be an integral part of the planning
and implementation team. Some of the areas where
legal advice is needed are: determining the legality of
various funding sources; reviewing grant agreements
and regulations; drafting and approving contracts
with outside consultants and with the construction
contractor; assisting the bond counsel in preparing
documents relating to debt issuance; and preparing
the ordinance that implements new user charges.
**************
TRAP: A community that leaves in-house
responsibilities to outside specialists loses some of its
decision-making power and thereby relinquishes control
of the project.
- attending the note or bond closing to ensure that all
required documentation is available in proper form.
Bond counsel's role is extensive, but should be
limited to legal considerations. Issues relating to the
sizing and structuring of the bond issue,
determination of bidding constraints, and timing of
the sale should be addressed by the financial advisor
or underwriter in consultation with members of the
issuer's staff.
**************
TIP: There is no substitute for use of recognized bond
counsel in the debt issuance process. There is an
excellent chance that the proposed issue will not be
marketable without the opinion of recognized bond
counsel.
The assistance of a number of outside specialists is
required to effectively structure and market a municipal
debt offering. Your community's purchasing agent
should direct the effort to select these specialists
competitively from among those individuals or firms
recognized as qualified to perform their respective
services. The key participants and a brief description of
their functions are provided below.
Bond counsel: The importance of retaining
"recognized bond counsel" as soon as a debt offering
is contemplated cannot be overemphasized. An
attorney or firm is considered to be recognized bond
counsel if that person or firm has had extensive
experience in providing legal opinions for municipal
issues. A listing of recognized bond counsel is
provided in The Bond Buyer's "Directory of
Municipal Bond Dealers in the United States." The
legal opinion of recognized bond counsel contributes
to the marketability of a debt offering by giving
investors assurance that the issue meets certain legal
tests.
Bond counsel's principal functions are: (1) to approve
the legal authority of the government to issue the
debt; and (2) to certify that interest income on the
bonds is exempt from taxation. Typically, bond
counsel's role extends well beyond this narrow scope.
Other services frequently include:
- identifying statutory and charter provisions that
dictate the way the debt may be structured;
- drafting original bond resolutions, ordinances, and
trust indentures;
- preparing the notice of bond election (if necessary);
- reviewing and approving the notice of sale;
- approving the form of the note or bond; and
Financial advisor: The principal function of the
financial advisor is to assist the issuer with the
structuring and marketing of the debt offering. You
should retain an advisor prior to or shortly after
selecting a bond counsel. The financial advisor
should be involved in the coordination of the new
issue with outstanding debt and any other offerings
proposed by the capital improvement program.
The following services are among those provided by
the financial advisor:
- assisting in developing the capital improvement
plan, the capital budget and the capital budgeting
process;
- assisting with the decision to issue debt and the
type of security: general obligation or revenue debt;
- determining the structure of the debt and the terms
and conditions of sale (including whether or not the
issue should be sold competitively or through
negotiated sale);
- developing a schedule for the successful issuance of
debt that identifies the individual responsible for
the timely performance of each activity;
- preparing the required disclosure documents;
- securing municipal debt ratings;
- promoting the sale (for competitive issues);
- verifying bids (for competitive issues) and advising
on the acceptability of interest rates bid; and
- providing follow-up information on the results of
the sale.
Just as bond counsel should not be expected to
provide financial advisory services, the financial
advisor should not be called upon to provide legal
advice. The financial advisor will work closely with
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14
bond counsel to ensure that all legal issues are
addressed, but a clear delineation of responsibilities
is important.
**************
TRAP: If the proposed issue is to be sold through
negotiated sale, the firm selected as underwriter should
not also serve as financial advisor. The financial
advisor's worth is in his or her independence from any
financial interest in the underwriting of your debt.
**************
TIP: Additional financial advice is often available from
State agencies and associations of cities or counties.
These sources can be useful during the early planning
stages, but should not be seen as a substitute for a
financial advisor.
Engineering consultant: (Note: the engineering
consultant may also serve as resident engineer and
inspector. See "Construction Management
Evaluation and Project Management Conference
Manual," USEPA, December 1983.) An important
step in your community's effort to develop improved
wastewater treatment facilities is to work with
engineers of the highest caliber, competence, and
professionalism. This does not mean that the choice
of an engineering firm is limited to large, national, or
"big name" companies. Quality engineering
assistance is available from many smaller, regional
firms all across the country. However, you must take
great care in the choice of an engineering firm. The
consequences of poor engineering include excessive
cost (both capital and operating) and, possibly, the
failure of the system to meet pollutant discharge
requirements.
The most significant factor in the choice of an
engineering consultant should be the track record of
the firm. Your purchasing agent should prepare a
Request for Proposals (RFP) (see Construction
Grants 1985("CG 85"), USEPA, July 1984.). A
significant difference between the engineer's
estimated costs and the contractor's actual costs is a
negative indication of the firm's ability to protect the
interests of the community. All engineering firms
responding to the RFP should be obligated to certify
the accuracy of these data at the risk of
disqualification in the RFP process.
Prior relationships with engineering firms should not
determine the selection of an engineering consultant
for a major capital project. The significance of such a
major investment virtually demands competitive
selection of the consulting engineer to protect the
financial interests of the jurisdiction. A century of
public procurement history has demonstrated that
competitive negotiation is the best technique for
choosing the most cost-effective, qualified advisory
services. Competitive negotiation for consultants
should not be confused with competitive bidding for
purchasing goods. In selecting consultants both the
cost and the qualifications of each candidate should
be included in the evaluation criteria. For
information regarding an optional method of
procuring engineering services see "CG 85."
Paying agent and bond registrar: Most communities
that are regular issuers of debt have already retained
the services of a paying agent and registrar, which are
usually provided by banks. The services include
payment of principal and interest when due on
outstanding debt and maintenance of records of
ownership for registered bonds. Most relationships
for such services are multi-year contracts that specify
charges based on the number of transactions
performed. Such transactions include interest
payment, bond payment, the process of transferring
bonds between owners, and related record-keeping.
Many jurisdictions have served as their own paying
agent in the past. Now that Federal law requires the
registration of all municipal debt with a maturity of
over one year, the paying agent and registrar function
is more complex administratively. In order to avoid
the increasingly complex duties of paying agent and
registrar, issuers should leave these functions to the
financial institutions.
Underwriters: The underwriter is the bank or
investment banking firm (or group of same) that
purchases the debt directly from the issuer and
remarkets the debt to the investment public. The
underwriting community consists of firms of varying
size that specialize in the local, regional, or national
debt market. The size of the debt offering being
considered will determine where the issuer should
look for underwriting services.
For competitive sale, the underwriter is chosen by
specifying the terms and conditions of sale (in the
"Notice of Sale") and accepting bids on the issue at a
predetermined place and time. The bids are opened
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15
and the issue is awarded to the underwriter offering
the lowest interest rate. This method is preferable for
nearly all general obligation debt offerings and many
simple revenue bond issues. However, if the issue is
complex, if it is the first offering of a new issuer, or if
it is being sold quickly to take advantage of favorable
market conditions, a negotiated sale may be more
efficient.
The best method of selecting an underwriter for the
negotiated sale of an issue is to develop a Request for
Proposals (RFP) that solicits detailed information
about the experience each firm has had with the
successful marketing of similar issues.
Once chosen, the underwriter will work closely with
bond counsel and the financial advisor to develop a
structure that both meets the issuer's needs and is
attractive to the investment community. (The
financial advisor's principal function at this point is
to ensure that the emphasis is on the former, rather
than on the latter.) Following the structuring of the
issue, the underwriter will consult the firm's sales
force to determine proposed interest rates for each
maturity at which the debt can be sold in the
secondary market. The financial advisor will then
offer advice on the acceptability of these rates.
**************
TIP: Care should be taken in the selection of an
underwriter to ensure that the firm chosen is
experienced in the remarketing of the specific type of
debt being offered and is able to reach the market (local,
State, or national) in which the debt can be sold most
efficiently.
**************
TIP: In all advisory relationships, the contract should
clearly state the scope of services to be provided, the
timetable for completion of principal tasks, the basic
compensation arrangements, and some understanding of
hourly charges for additional work (upon written
authorization by the community).
PROJECT PLANNING
If your community will receive an EPA grant, you must
complete and submit a facility plan, which determines
the facility design that most closely matches your
community's needs. Once your State reviewing agency
approves the facility plan, you may direct your engineer
to begin detailed design work. Even if you will not
receive a grant, you are more likely to get the most cost-
effective facility by carefully considering available
alternatives. The project planning process, whether at
the facilities plan stage or in specific design work,
consists of estimating and evaluating both capital and
operation, maintenance, and replacement (OM&R)
costs.
Estimating Capital Costs
A typical wastewater treatment system involves a
considerable variety of components: sewer pipe, pumps,
wiring, and plant, to name a few. The construction
activity will frequently involve a main (or prime)
contractor and several subcontractors. It is not a simple
matter to estimate the cost of construction, and it is an
extremely important matter. Disaster can occur unless
the actual cost is close to the estimates used to decide
whether or not your community can actually afford to
build and operate the plant.
It is generally the procedure that the engineering
consultant will provide the capital cost estimate.
However, the ultimate responsibility to manage the
process is yours.
When discussing costs with the engineering firm, insist
on cost estimates with an appropriate level of detail.
Each major component (treatment plant, sludge
handling and disposal, pump stations, interceptor
sewers, collection sewers, etc.) should have its own cost
estimate. Compare your cost estimates with comparable
projects using the same technology by using unit
measures such as cost per mile (for sewers), cost per
capita (for total system), etc. EPA publishes assistance
materials to help you determine cost norms for different
types of treatment technologies. The Computer Assisted
Procedure for the Design and Evaluation of Treatment
Systems (CAPDET) and Construction Costs for
Municipal Wastewater Treatment Plants: 1973-1982
may be particularly useful in this effort. Ask for an
explanation of costs that seem out of line (in either
direction: high or low).
**************
TIP: The selection of the wrong technology can be one
of the most expensive mistakes a community can make.
You must be sure that the technology being considered
is the most appropriate (and cost-effective) for its
purposes. Alternative treatment and collection
technologies should be carefully considered, especially in
small communities.
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16
When developing cost estimates and reviewing your
engineer's estimates be sure to consider project-related
expenditures which are frequently ignored but are very
real. Examples include cash-flow financing of Federal,
State, and local shares, interest during construction,
repayment of loans from other funds, the local share of
planning and design costs, legal, financial and other fees
(e.g., the cost of printing the official statement,
printing the bonds, obtaining a credit rating, use of a
signature company, financial advisory services, bond
counsel, and the bond election), and any other fees
which may be applicable in your situation. If you will
receive an EPA grant, your engineer should provide an
estimate of capital costs that are not eligible for EPA
funding.
Estimating Operating Costs
The estimation of the capital cost of a project usually
receives a lot more attention than the estimation of its
operating costs. The planning and building of a new
facility is often viewed by both the community and the
engineer as more of a challenge than the actual operation
of the facility. The capital cost of a treatment facility
generally represents the need to issue debt, which
generally involves the legislative body and frequently a
vote of the populace. The numbers tend to be large and
very impressive; it may be the most costly decision the
governing body of your community ever makes.
Notwithstanding these factors that focus attention on
capital costs, you should insist during planning and
design on an accurate determination of operating costs
and a facility that will be simple and inexpensive to
operate. An error in the calculation of operating cost can
be as much as nine times more costly than the same size
error in the capital cost estimate. The reason for this is
that capital costs are funded from debt proceeds and
repaid over time, as are any errors in capital cost
estimates. With a 20-year bond at 10 percent interest,
the community pays annual debt service equal to about
11 percent (or one-ninth) of capital costs. In addition,
the total capital cost to the community may be reduced
by grants from the State or Federal government. Errors
in operating cost, on the other hand, are paid for every
yearand in full. Thus, an accurate estimate of the
annual cost of operating the entire system may be more
critical than the estimate of capital cost. EPA publishes
Operation and Maintenance Costs for Municipal
Wastewater Facilities to assist you in evaluating
operating cost estimates.
Virtually all your operation, maintenance, and
replacement (O, M&R) costs will be composed of the
following: labor, power, chemicals, sewer maintenance,
and billing. Never assume that the operating cost
indicated in the facility plan is complete and accurate.
Insist on a reevaluation of the operating cost for the
entire system and an updating of costs to reflect current
prices for labor and materials. You can use the Financial
Capability Guidebook produced by EPA to help prepare
complete estimates. This caution is particularly
appropriate for a facility plan which is for a system
expansion, since some engineers will only include cost
estimates for the portion of the system being expanded.
Don't assume; ask for a statement in writing.
Are the Costs Reasonable?
Once you have determined that the cost estimates
provided are complete, you may discover that you are
facing a more expensive project than you anticipated.
Determining whether such costs are reasonable is not a
simple matter, but experience has provided some
indicators of situations that deserve closer scrutiny. Your
State may have other indicators that can also be used as
guidelines.
Size of community: Small jurisdictions (those with
population less than 10,000 and even more
emphatically less than 3,500) usually have higher per
capita costs than large jurisdictions. As a result, there
is less margin for error.
Extent of sewers: If a community is installing sewers
for the first time, that component will generally be a
major cost, if not the single largest cost, of the entire
system. In fact, small communities often cannot
afford both conventional collection and treatment
facilities, even with Federal grants.
Type of technology: For small communities the type
of technology can be a major contributor to high
cost. In particular, certain types of activated sludge
and physical-chemical systems tend to be very
expensive and have high O, M&R costs.
Total capital cost per household (without a grant): If
the residential share of capital cost of the project
divided by the number of households is greater than
$4,000 (for an upgrade or expansion project) or
$6,000 (for a new system), then the capital cost may
warrant reexamination.
Total annual cost per household (includes capital cost
plus O&M): An annual total cost per household
greater than S300 may be a cause for concern.
Annual household cost should also be measured
against annual household income.
Allowance for future flow: An allowance for growth
of greater than 50 percent may be an indication of
over-design, unless the estimate is substantiated by
commensurate growth rates in the recent past. A
realistic appraisal of your community's growth
potential is necessary to determine future flows.
Capital cost of sewers per household: A per
household cost of greater than $4,000 suggests that
the project may have excessive sewering.
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17
Preventing Costly Reexamination of Your Project
The following steps should be considered at the initial
phase of the project. It is important to note that EPA
regulations don't allow for payment of redesign in the
event of erroneous initial judgement. Nor will EPA pay
for replacement costs of an inappropriate facility.
Therefore, the following should be kept in mind in
designing your project:
Review the facility plan and basic design data for
cost-saving measures: Consider reducing or
eliminating items not essential to operation or safety.
Brick-faced buildings, terrazzo floors and paved
roadways may do nothing to improve effluent
quality.
Reduce the scope of the work: Consider limiting the
service area, especially by eliminating unnecessary
sewering through sparsely populated areas. It can be
much more cost-effective to rehabilitate or replace
existing on-site systems and to establish community-
wide management of the systems than to construct
sewers. Where current on-site systems will not work,
consider rehabilitation or the use of innovative or
alternative (I/A) on-site systems.
Reduce facility size and stage construction: Consider
reducing or eliminating the sizing for future growth.
Similar results can be achieved by staging
construction according to need (when revenues will
be available to finance the expansion).
Reconsider less expensive technologies: Take another
look at alternative sewers, cluster systems, trickling
filters, lagoons, sand filters, overland flow, oxidation
ditches, and low load aeration technology.
Share support facilities and operations with
neighboring jurisdictions: Sharing such costs as labs,
maintenance equipment, and supplies can reduce
personnel and other cost as well.
It is important to ensure that all simple, low-cost
alternatives were considered seriously. Since the most
cost-effective alternative may change with time, be
cautious about relying on an old facilities plan. EPA
regulations now require a reexamination of the
environmental impacts of any plan five or more years
old. If you intend to apply for an EPA construction
grant, you should file the formal grant application when
you have completed detailed design work. Once your
application is approved and a grant awarded, you will
need to complete preconstruction activities so that you
can begin construction as soon as possible.
CONCLUSION
Exhibit 3 reviews the functions performed in the
planning process. At this stage, you are standing safely
on first base. You have stepped back to evaluate all of
the legal and regulatory restrictions that you face and
have taken steps to comply with each. You have
completed an analysis of all of your community's capital
needs and the available financing. You have developed
plans for your project, including how it will be built,
whether it is appropriate for your needs, what it will
cost, and how long it will take. You are ready to head for
second by:
1) lining up short-term financing;
2) designing the long-term financing;
3) awarding the construction contract;
4) preparing the project budget;
5) developing the cash-flow forecast; and
6) beginning a user charge study.
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18
Exhibit 3
Matrix of Functions Performed in the Planning Phase
*******
What is Done
Who Does it
When
To and With Whom
UNDERSTANDING
GROUND RULES
CAPITAL
PLANNING
ASSEMBLING
YOUR TEAM
PROJECT
PLANNING
Community's
Attorney
Budget
Officer
Chief
Administrator
Engineer
As soon as
construction is
contemplated
Annually
As soon as
construction is
contemplated
When needs
are identified
All employees
who will be
involved
Department
Heads, Chief
Administrator
Legislative
Body
Operating Manager,
other internal
team members
OVERALL
PROJECT
MANAGEMENT
PLANNING
Project
Manager
Throughout the
project
All team members
involved in
this phase
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CHAPTER III
The
pre-construction
phase of
financial
management:
moving to
second
With the planning process complete, you have made an
important first step toward your goal of successfully
building a treatment system; you now have an
understanding of the legal issues, a capital plan, a team
in place, and a design for the facility underway. Before
you move into scoring position and are ready to build,
however, you must do some more preliminary work in
the pre-construction phase. This work will consist of
selling short-term notes so that you will have adequate
cash to pay the costs of construction, designing the
features of your permanent financing, developing a
construction contract, preparing a project budget and
cash flow forecast, and beginning a study to set new user
charge rates.
SHORT-TERM FINANCING
While it is difficult to make statements applicable to all
situations, it is generally the case that a local government
will finance a capital project with a combination of
short-term and long-term debt. Short-term debt
instruments (typically Bond Anticipation Notes (BANs)
or Grant Anticipation Notes (GANs) are used to
provide cash-flow financing during the construction
period and long-term debt is used to provide permanent
financing once the actual cost of the project has been
established. Alternatively, local governments may issue
long-term debt after accepting bids on construction
contracts and thus avoid the need to secure interim
financing.
This subsection focuses on structuring an interim
financing program that provides funds when needed to
meet construction costs and takes full advantage of
legally authorized reinvestment earnings. The process
for arranging permanent financing is described later in
this Chapter and in Chapter V. You are cautioned to
undertake short-term borrowing only after careful
planning and with the full advice and consent of bond
counsel.
21
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22
Short-Term Financing Alternatives
For wastewater treatment facilities, various forms of
short-term financing methods are available. Your
community may consider the issuance of bond
anticipation notes (BANs), grant anticipation notes
(GANs), or some combination of the two.
BANs are issued in anticipation of permanent financing
of the project which will occur at some later date
through the sale of bonds. Security for the BAN is
provided by the issuer's ability to access funds in the
credit markets by selling general obligation or revenue
bonds. Thus, to ensure a favorable reception by
investors, all legal requirements for the long-term
financing must be satisfied before the BANs are
authorized and marketed. For a general obligation bond
issue, this typically means securing voter approval.
When the permanent financing is to be provided from
revenue bonds, a feasibility study, projections of revenue
flow, and other forecasts of project viability are required.
The investor in the BANs wants to be sure that the
bonds that secure his investment can and will be issued
as scheduled.
As the name implies, GANs are a short-term instrument
secured by the expected receipt of grant funds. Such
notes are a viable financing alternative only when the
issuer has received a firm commitment that the grant
will be made. GANs may be secured either by EPA
grant, State grants, or both.
Because GANs are secured by the receipt of the grant
for wastewater treatment, care must be taken to
accurately estimate grant-eligible costs. A conservative
approach is important in developing this estimate. Once
expenditures have been made for grant-eligible
expenses, you apply to EPA for reimbursement.
Assuming all required procedural steps have been
followed, EPA will usually provide reimbursement
within thirty days.
**************
TIP: It is essential that grant receipts be segregated in a
separate fund or account to provide for redemption of
the GANs upon maturity. Most issuers enter into trust
agreements that give note investors comfort that the
funds will not be diverted to any other purpose. One
community that failed to understand the segregation
requirements of its note indenture placed too little
money in the redemption fund and defaulted on its
notes.
GANs and BANs issued for wastewater treatment
construction financing usually mature within 18 to 36
months of the date of issue. In some cases, governments
will issue notes for a period shorter than is necessary for
completion of construction and then reissue or "roll-
over" the notes at maturity. This approach takes
advantage of the lower interest rates on short
maturities, but exposes the issuer to some risk that
rates will be higher on the roll date (plus the added costs
of multiple issues). Your financial advisor and bond
counsel should be consulted regarding a note structure
that is appropriate to market conditions at the time of
sale.
Arbitrage Earnings During Construction
An appreciation of the financial advantage of interim
financing requires an understanding of the concept of
arbitrage. In the municipal market, arbitrage refers to
the reinvestment, at taxable interest rates, of funds that
were borrowed at lower tax-exempt interest rates.
**************
TRAP: In most cases arbitrage earnings are subject to
strict limitation by regulations of the Internal Revenue
Service. Because violation of these regulations can result
in the loss of tax-exempt status, it is important that bond
counsel be involved in the sizing and structuring of any
note or bond offering (as well as the proposed
reinvestment schedule).
If the issuer is to take full advantage of the arbitrage
earnings short-term borrowing allows, accurate estimates
of total project costs and the construction disbursement
schedule are essential. The engineering consultant, in
conjunction with the prime contractor, should provide a
detailed (at least monthly) statement of expected cash
flow and estimates of Federal (and, if appropriate, State)
reimbursements. These statements should be examined
with great care to guarantee that funds will always be
available to make required paymentsincluding those
for BAN interest should the term of the financing be less
than the duration of the construction phase.
**************
TRAP: The grant funds must be available by the stated
maturity date of the GANs. To ensure their availability,
the issuer must take into account the delays between
approval of a construction expense and receipt of funds
from the EPA.
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Exhibit 4
Construction Draw-Down
and Interest Earning Schedule
for a $5,000,000 Project
Over a 12-Month Construction Period
23
Construction Fund
Month
0
I
2
3
4
5
6
7
8
9
10
11
12
Balance
$5,000,000
5,000,000
4,900,000
4,700,000
4,300,000
3,800,000
3,100,000
2,200,000
1,300,000
700,000
400,000
200,000
100,000
Expenses
$ 0
100,000
200,000
400,000
500,000
700,000
900,000
900,000
600,000
300,000
200,000
100,000
100,000
Debt
Service
At 6%
$ 0
0
0
0
0
0
0
0
0
0
0
0
300,000
Earnings
on Const.
Fund at 7.5%
$ 0
0
30,625
29,375
26,875
23,750
19,375
13,750
8,125
4,375
2,500
1,250
625
Net
Debt
Service
$ 0
0
0
0
0
0
0
0
0
0
0
0
139,375
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24
The disbursement schedule shown in Exhibit 4 is fairly
typical for a major capital construction project. In this
case a 12-month construction period is assumed.
Assuming the net interest cost of the one-year note
issue is 6.00 percent, the total interest payments are
$300,000. By reinvesting the note proceeds in taxable
securities (at an assumed average rate of 7.5 percent)
until needed to meet construction expenses, the issuer is
able to off set its interest costs and reduce the effective
rate of the borrowing. The net effect in the example
shown is to reduce debt service from $300,000 to
$139,375.
Advantages of Short-Term Financing
Using temporary financing during the construction
phase of a project followed by permanent financing
offers several advantages. Since BANs are usually paid
for by either the sale of a new issue of notes or by the
sale of long-term debt, their use allows the deferral of
principal payment. If a new system is being constructed,
this matches the greatest burden of debt service with the
revenue flow from benefiting users.
During periods of high interest rates, BANs (which have
low interest cost relative to long-term debt) can be used
to defer the long-term financing until rates have
declined. Unfortunately, there is no guarantee that rates
will decline, so the use of BANs for this purpose
constitutes a risk as well as an opportunity.
Issuing BANs also allows the amount which must be
permanently financed to be determined exactly. Long-
term financing before completion of construction may
result in additional financing later if cost estimates were
not accurate. This can be both embarassing and costly.
If a wastewater system is being constructed with revenue
debt, the community may need to defer debt service
payments until the new plant is operational. Under these
circumstances, an interim borrowing, in the form of
BANs and GANs, is appropriate. A second option
would be to sell bonds that are structured to defer the
first principal payment until after project completion. In
this case, enough money is borrowed to pay interest on
the bonds during construction. This amount is known as
capitalized interest.
The process outlined above is complicated and
extremely important. In general, it is highly advisable
that the community employ the services of an
independent financial advisor (an expert who has no
financial involvement in the way the interim borrowing
is structured) to coordinate the various steps and offer
objective advice about the method of funding which is in
the best interest of the community.
DESIGNING THE BOND ISSUE
As noted above, you must make some decisions about
how you will finance the project in the long-term before
you can arrange short-term financing. Once you have
received the proceeds from short-term financing, you
can complete the design for your long-term issue.
Exhibit 5 shows that the design phase is just one of the
three distinct parts of the bond sales process. It is also
the only one that usually takes place before construction.
The other phases, marketing and closing, are discussed
in Chapter V.
Designing the Issue
The first decision in designing the bond issue is the type
of bond (general obligation or revenue). In a well-
managed agency, this decision will be made in the
capital planning process, well before construction is
underway. (See Chapter II for an outline of factors that
should be considered in determining bond types.) No
interim or construction financing can be marketed
effectively until the form of the long-term or permanent
financing has been determined.
One of the most important activities, undertaken early in
the process, is the sizing of the bond issue. The simplest
method is to borrow the amount of construction costs,
less grants from EPA and the State, upfront cash, and
other funding sources. Municipalities may also choose to
capitalize, or include in the amount to be borrowed, the
costs of issuing bonds (bond counsel, printing,
insurance, etc.) and the interest on short-term financing.
A financial advisor can help determine what costs should
be capitalized, if any.
The term of the bonds, or numbers of years until they
mature, must also be determined.
**************
TIP: The term of the bonds should never exceed the
expected useful life of the facility. If it does, you may
end up paying debt service on two bond issues for the
same purpose. This is a particular concern where 40-
year loans are used. With this in mind, you have some
flexibility in selecting a term that closely matches the
desired cash-flow pattern.
You should keep in mind that while shorter terms
generate lower interest rates and total interest payments,
they result in higher annual payments. Ten- and twenty-
year bonds are most common for treatment facilities, but
thirty-year bonds may be considered where the annual
debt service costs of shorter term bonds are too high for
the community to bear.
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25
Exhibit 5
The Bond Sale Process
w
PC
o
w
G
Determine
Security
Method of Sale
Maturity Structure
Denomination
Registration
Call Privileges
Interest Structure
Bond Indenture
Insurance
w
8
O
g
H
W
Ptf
Prepare
Official Statement
Notice of Sale
Bid Form
Indenture
ffi
OH
O
g
s?
o
Award Bids
Print Bonds
Close The Issue
Establish Payment
Mechanisms
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26
You must also determine the method by which the
bonds will be sold. Virtually all debt is sold through
either competitive or negotiated processes. In a
competitive sale, the issuer selects a sale date and solicits
sealed bids. Bids are opened on the specified date and
the bonds are sold to the bidder who offers the lowest
total interest cost. In a negotiated sale, the issuer selects
one bank or investment banking firm and then
negotiates the interest rate and other terms of the sale.
State laws usually govern which method may be used,
with most States requiring that G.O. bonds be sold
competitively. Generally, competitive sales are more
advantageous to the issuer.
Once the basic structure of the issue is determined, the
finance officer and financial advisor must determine the
other aspects of the sale:
Method of retirement (maturity structure): Most
bonds issued by local governments are serial bonds.
In this type of bond structure, a portion of the
principal is retired each year, along with the regular
interest payment. The structure that is most
appropriate for revenue-supported debt is serial
bonds with equal debt service payments. The
principal payment increases each year and interest
declines so that annual principal and interest
payments are approximately equal, not unlike a
mortgage on a private home (with the significant
difference that bond payments are made semi-
annually, with the principal component usually being
paid on only one of the semi-annual dates). Many
municipalities prefer this schedule because the taxes
or fees levied to repay them can be held constant
each year. Unlike serial bonds, term bonds are
retired at a single, future maturity (or at specific
dates during their life) from sinking funds
accumulated during the life of the bonds.
Denomination: This is the face amount (or par value)
of each bond that the issuer promises to pay on the
date the bond matures. It is common for bonds to be
issued in multiples of $5,000.
Registration: Current Federal law requires that issues
with a maturity of longer than one year be registered.
The owner's name is listed in the books of the bond
paying agent and registrar (and the issuer, if the
issuer is acting as co-registrar). Interest payments are
sent automatically to all registered owners when due.
Prior to 1983, most municipal bonds were issued in
bearer form. Under this system, there was no record
of bond ownership; payments were made only when
bonds and interest coupons were presented to the
paying agent by the owner.
Call privileges: A bond that is callable may be retired
before the maturity date at the option of the issuer.
Usually this feature is considered when interest rates
are high. For the issuer, it has the advantage of
reducing debt levels if revenues are higher than
predicted at the time the bonds were sold.
Interest structure: Interest payments are usually
made twice a year until the bond matures, as
specified on the successful bid for the bonds. The
rates may vary (if State law permits) depending on
length of maturity. The issuer may wish to restrict
the number of different interest rates and the
maximum range of rates to permit on bids; this
decision should be made following consultation with
the financial advisor.
Bond indenture (for revenue bonds only): Because
they rely on restricted funds rather than a general
pledge of the issuing government, nearly all revenue
bonds are subject to special agreement between the
investor and the issuer. This agreement (known as an
indenture) often includes a requirement that bond
funds be held in a special fund to guarantee that the
funds are kept separate from operating funds. The
manner in which the bond funds may be used,
requirements to build cash reserves, and how
operating income from the facility should be
handled are spelled out in the trust indenture in great
detail. A financial advisor and a bond counsel will be
needed in this part of the design process.
**************
TIP: Bond indentures frequently require that funds be
reserved in separate accounts throughout the life of the
bonds in order to provide additional protection for the
bondholder. Excessive segregation of funds may lead to
significant inllexibihtv, possibh resulting /n an inabilit"
to legal!v pa\ legitimately incurred costs despite the
availability t>l cash in other accounts. An appropriate
minimum number of funds is two. one for operating and
maintenance expenses and one for debt redemption.
Insurance: An increasing number of municipal bond
issues are insured. In this arrangement, the issuing
agency pays a fee (generally one-half to one and one-
half percent of the total debt service on the issue) to
purchase insurance to pay off the bonds should the
issuer be unable to do so. The presence of insurance
results in a better bond rating and lower interest
costs. Bond insurance is often difficult to obtain for
revenue bond issues.
THE
CONSTRUCTION CONTRACT
The construction contract is your best chance to
guarantee that the job will be done right. Your
purchasing agent, engineer, and attorney should work to
ensure that it includes adequate protections. Much of
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27
the contract will focus on the physical aspects of the job.
These most important items must be incorporated into a
Statement of Work that describes in detail what is
expected of the contractor, and a schedule that sets out
in objective (measurable) form what will be done by
what date.
**************
TRAP: Too often, construction schedules are vague,
containing deadlines for amorphous events such as "25
percent completion." These schedules are open to
interpretation and leave the community with little hope
for enforcement. Schedules should relate to specific,
measurable events, such as "complete excavation as
described in Section 4.15 of the specifications," "install
and test sewer lines on Main Street," and the like.
In addition to these "physical" contract provisions, the
contract must have some financial provisions as well.
The most important are:
Payment provisions: The contract should state how
often the contractor will be paid and how the
payment will be measured. It is to the community's
advantage for the purposes of cash-flow forecasting
to state a specific, monthly date for the contractor to
submit bills and a minimum time for the community
to review the submission before payment. (Ten days
is probably an appropriate review period, but you
should agree on a period with your engineer.) The
contract should specify that monthly payments will
be based on the contractor's claim of progress toward
completing the construction schedule (on a
percentage basis) and that payment will not be made
until both the engineer and the construction manager
certify that the contractor's estimate is accurate. The
contract should also state that payment requests must
be accompanied by written progress reports that
support the request.
Retainage: Since every construction project requires
some modifications and correction in the period
between completing the project as scheduled and
final acceptance, the community should incorporate
in the contract a provision to retain from each
payment a percentage to be held until final
acceptance. Retainages commonly run from five to
ten percent of each payment. Once the contractor
submits a final bill, the retainage should be held until
the finance officer receives written certifications from
the engineer and the construction manager that the
project is acceptable and that retainage may be
released. It is important to note that EPA grant
recipients may only request payment from EPA for
costs actually incurred. Therefore, until the retainage
has been paid to the contractor, the grant recipient
should not seek reimbursement from EPA for that
amount.
Performance bond: The contractor is required to post
a performance bond at its own expense in the amount
of the contract. A performance bond is an insurance
policy that guarantees completion of the job. If the
contractor fails to complete the contract, the
community may demand that the insurance company
either find another acceptable contractor or pay the
community the value of the uncompleted part of the
project. Do not allow any work to be done by the
contractor until a performance bond is presented.
*********
* * * * *
TIP: Keeping good records is absolutely essential to a
successful project. Both you and your contractor are
required to maintain proper records. Millions of dollars
of project costs have been disallowed by EPA due to
poor or incomplete record keeping on the part of project
managers or contractors, or both. See "EPA Office of
Inspector General Report to Congress," US EPA, Fiscal
1985.
EPA requires that every contract contain certain
fundamental clauses. Refer to the model clauses in 40
CFR 1030, or use your own equivalent clauses to cover
the required contract clauses. Some of the matters
covered include:
Change orders: The dollar value of the contract will
initially be for the competitively established price of
the contract awarded to the low bidder. During the
actual construction period, however, it may be
necessary to make changes that result in a higher
price. Your contract should specify a routine for
dealing with change orders. You should require that
the engineer describe and justify each change order
and that the construction manager and the legislative
body approve it. (See Management of Construction
Change Orders, USEPA, March 1983.)
Termination: The contract should clearly state how
the community may terminate the contract. You
should reserve termination rights both in the event
that the contractor fails to meet the provisions of the
contract (see "default" below) or simply for the
convenience of the community. This last provision is
most commonly used when there is a problem with
continued financing for the project. The termination
provision should clearly state how the community
will notify the contractor of termination and how the
work to date will be measured for the purpose of
payment.
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28
Default: The contract should clearly define the
conditions under which it may find the contractor
"in default" for the purposes of withholding
payments or terminating the contract. Common
causes of default are failure to deliver materials or
services on schedule, delivering materials that do not
meet the specifications, or failing to meet reporting
requirements.
Audit; access to records: The contract must contain a
provision requiring your contractor to maintain
books, records and other evidence pertinent to
performance on EPA funded works. The prime
contractor must, in turn, make this provision
applicable to all subagreements he awards in excess
of $10,000. The right of access clause applies to
financial records pertaining to all subagreements,
except formally advertised, fixed-price
subagreements, and to all subsequent change orders
and subagreement amendments.
It is crucial for EPA grant recipients to be aware of and
refer frequently to the EPA regulations governing
construction contracts. In addition to Construction
Grants 1985, you should obtain copies of the Audit
Access to Records: 40 CFR 33.1030 (9); Prevention and
Resolution of Contractor Claims: EPA Construction
Grant Program Guidance for Municipal Grants,
USEPA, March 1985; Construction Grants Program for
Municipal Wastewater Treatment Works: Handbook of
Procedures, USEPA, October 1984; and Management of
Construction Change Orders: A Guide for Grantees,
USEPA, March 1983. EPA regulations and most State
laws require that the construction contract be let
through the process of competitive bidding. This process
consists of these major steps:
Preparing bid documents: EPA procurement
regulations (40 CFR Part 33) require that bid
documents include a complete statement of the work
to be performed, including design drawings,
specifications, and performance schedule. They
should also include the terms and conditions of the
contract to be awarded, including payment and
delivery schedules, and a clear explanation of the
bidding procedures and evaluation process. The
statement of work and detailed plans and
specifications represent your order for work to the
contractor. They must be carefully crafted to tell all
potential bidders the complete story of what you will
be expecting from them.
The financial and administrative aspects of the bid
documents should be carefully reviewed. The
contract must specify the method and procedure for
payment. You can avoid the potential for contractor
claims by stating clearly in the contract documents
how often and through which means the contractor
will be paid.
* * * ******** *~* *
TIP: Contract specifications should be of a performance
nature, stating what is to be done, but not how it is to be
done. This leaves the potential contractors the freedom
to plan the day-to-day operation in whatever way they
feel is best, while you still have a control over the exact
character of the final product.
Advertising for bids: In addition to the EPA
regulations, State laws may specify some minimum
requirements for advertising the bid. You should
meet this minimum, and it is generally to your
advantage to exceed it. Advertisements should be
placed in the local newspaper, any newspaper that
serves nearby cities, and any newspaper that is
known to be read by construction contractors (e.g., a
journal of commerce). Bid documents should be
provided to any potential bidder who responds to the
advertisement.
******* * * * * *~* *
TIP: You should hold a pre-bid conference two or three
weeks after the advertisements have appeared in order to
answer questions about the bid documents. Attendance
at this conference is recommended for anyone who
wishes to submit a bid, so that all bidders receive the
same information. The minutes of the conference should
be made available to all bidders. Similarly, if you or your
engineer answer questions about the bid documents over
the telephone, you should send letters summarizing all
questions and .answers to all potential bidders.
Evaluating bids and awarding the contract: Your bid
documents and advertisement must state a specific
date, time, and place for bids to be delivered. You
should open them at the advertised time and place
and read the bids to all present. This should be your
last public statement until you are ready to award the
contract. Your next task is to work with your
engineer to determine the "lowest responsive and
responsible bidder." "Responsive" bidders are those
who bid the job in conformance with the bid
documents, meeting the specified schedule,
indicating acceptance of contract provisions, stating a
firm price, accepting responsibility for project
quality, and so forth. "Responsible" bidders are
those who indicate that they have adequate staffing,
equipment, and experience to complete the job
correctly and on time. Your bid documents should
-------
29
state clearly any definitive criteria you will use to
judge responsibility, using measures such as years of
experience in similar jobs of the person who will be
primarily responsible for the job, references from
other communities for which the contractor has done
work, and equipment owned or leased by the
contractor. Once you have determined each bidder's
responsibility and responsiveness, you award the
contract to the bidder who submits the lowest total
price of all those who meet both standards.
THE PROJECT BUDGET
Once the construction contract is awarded, the
community is able to prepare a final project budget for
the construction period. (A preliminary estimate should
have been developed in your facility plan or annual
capital budget.) It should cover all project-related
resources and outlays from the time the construction
contract is signed until permanent financing is secured.
A project budget is a plan of how the community will
raise funds for the project and how it will spend them to
reach the goal of a completed facility. It is, therefore, the
key planning and control document for the rest of the
process. The chief administrator and finance director
will prepare two budget breakdowns one for inflows,
or "sources," of funds and one for outlays, or
"uses." Note that the terms sources and uses include
more than the traditional budget classifications of
"revenues" and "expenditures;" they also include
proceeds from debt financing and repayment of debt
principal. This approach gives a more complete picture
of the financial transactions relating to the project and
assists in cash-flow planning. The sources and uses
budgets should each be further broken down into
budgets for those items that are eligible for EPA grant
funding and those that are not. For example, EPA may
not pay for solutions to aesthetic problems that raise the
cost of the project, costs of furnishings, bond issuance
costs, and so forth. Exhibit 6 is a sample project budget.
The sources budget should list a forecast of revenue
from all sources that will be used to pay for the
construction cost of the project as well as items that are
not technically revenue, such as proceeds from short-
term notes. Note that Exhibit 6 separates true revenues
from other sources of funds. Typical sources include
connection fees, EPA and State grants, proceeds from
notes, proceeds from permanent financing, interest on
cash balances, and contributions from capital reserve
funds. For some sources, you will be able to budget very
accurately (e.g., EPA grants and capital reserve
contributions). For others, such as interest earnings and
connection fees, a very conservative "best-guess"
estimate will be required. Note that many communities
are authorized to sell both notes and bonds at a discount
from their face value so the community may receive less
in proceeds than expected. One community relied on its
engineer's estimate of the note discount and received
considerably less than it budgeted. Your financial
advisor should help estimate all sources and uses relating
to debt issuance.
**************
TRAP: One common came of shortfalls during
construction is overly optimistic budgeting. This is
particularly true in the sources side, where you must
anticipate future developments (i.e., number of
connections, interest earnings, etc.). Communities that
have run out of funds in the construction phase have
often been guilty of optimistic budgeting, particularly in
these items:
- interest earnings during construction,
- proceeds from short-term financing,
- items eligible for EPA grant funding,
- costs of issuing debt, and
- construction costs.
Once total sources of funds are identified, each source
should be divided between funds to be used for EPA
eligible costs and funds for ineligible costs. Eligible
costs are those that may be paid for in part with an EPA
grant. Ineligible costs must be paid from local resources.
If your community is not receiving an EPA grant, there
is no need to make a distinction between eligible and
ineligible costs. At the end of this exercise, you will have
a detailed breakdown of total sources of funds and of
sources for eligible and ineligible costs.
Budgeting for uses of funds is often more difficult and
time-consuming than budgeting for sources. Many costs
of construction and financing may be overlooked and
they are often difficult to estimate or control.
Regardless, the general approach is quite similar. It is
important to develop an estimate of each cost item and
then determine whether it is eligible for EPA grant
assistance. This budget can be compared to the budget
for sources. These two budgets must balance, both for
total and for eligible costs. If uses exceed sources, either
the project must be reduced in cost or the community
must borrow more money.
Individual expenses, or uses, of funds are commonly
called "line-items." Some of the line-items that must be
included in the project budget are obvious; payments to
the engineer and to the construction contractor are
usually two of the largest. There may also be other line-
items relating to construction; for example, purchase of
land and payment of salaries of community employees
-------
30
Exhibit 6
Project Budget
Sources
Permanent Financing
EPA Grant
State Grant
Capital Reserves
Interest Earnings
Bonds
Total Perm. Financing
Proceeds from Notes
Grant Antic. Notes
Bond Antic. Notes
Total Proceeds
Total Sources
Uses
Permanent Outlays
Engineering
Construction
Proj. Mgmt.: In-house
Short-term Interest
Issuance Costs- Notes
Issuance Costs- Bonds
Contingency
Total Permanent Outlays
Repayment of Notes
Bond Antic. Notes
Grant Antic. Notes
Total Repayment
Eligible
$ 3,500,000
300,000
75,000
345,000
2,495,000
$ 6,715,000
$ 3,500,000
2,300,000
$ 5,800,000
$12,515,000
_
Eligible
$ 445,000
5,295,000
24,000
360,000
12,100
36,900
542,000
$ 6,715,000
$ 2,300,000
3,500,000
$ 5,800,000
Ineligible
$ 0
38,500
75,000
22,300
98,000
$233,800
$ 0
78,000
$ 78,000
$311,800
Ineligible
$ 12,300
185,100
3,000
9,700
3,200
1,300
19,200
$233,800
$ 78,000
0
$ 78,000
Total
$ 3,500,000
338,500
150,000
367,300
2,593,000
$ 6,948,800
$ 3,500,000
2,378,000
$ 5,878,000
$12,826,800
__JMHH^B_
Total
$ 457,300
5,480,100
27,000
369,700
15,300
38,200
561,200
$ 6,948,800
$ 2,378,000
3,500,000
$ 5,878,000
Total Uses
$12,515,000
$311,800
$12,826,800
-------
31
who will perform work. There are some related costs
that are frequently overlooked: building and other
permits, staff costs for project supervision, costs relating
to issuance of short- and long-term debt, such as charges
for bond counsel, financial advisor, interest expense,
bond ratings, and the like. The engineer and
construction manager should work together to develop a
comprehensive list of construction uses, while the
financial advisor can provide a list of budget estimates
for uses relating to financing. As in the case of sources of
funds, the budget for uses should be conservative. On
the uses side, this means estimating those costs that are
not known exactly a little higher than you expect.
**************
TIP: Always include a "contingency" line-item in your
budget of uses of funds. There are likely to be change
orders in the construction process and other costs that
vou either underestimated or failed to consider at all. At
the time of preparing a budget and cash flow forecasts, a
common contingency for construction projects is ten
percent.
THE CASH-FLOW FORECAST
Once the budget is completed, the community has a plan
and a means of controlling both incoming and outgoing
funds during the construction process. The budget will
be used during construction to give an idea of whether
the project is heading for trouble, with spending
exceeding the budgeted amount or revenues falling
short. A cash-flow forecast is another essential control
tool. Its purpose is to forecast the cash balances during
the project, helping to determine whether the project
funds and bank accounts will have adequate balances to
pay bills during the construction period. It also provides
a guide for investing fund balances during
construction.
Exhibit 7 represents a cash-flow forecast based on the
budget developed in Exhibit 6. It demonstrates how
available funds (sources) may be drawn down during a
typical construction project (uses). For each month, uses
are deducted from sources to demonstrate the
community's cash position.
The cash-flow forecasting process is best thought of as
breaking the detailed budget down further into a budget
for shorter time periods within the process. The major
difference is that the budget will not be in balance for
each time period; however, with good project and
financial planning, the balance will be positive until the
project is complete.
When preparing the budget, each source or use of funds
was broken down only into categories of eligible and
ineligible costs, to ensure that each category had a
balanced budget. In preparing the cash-flow forecast, it
may be necessary to break the sources and uses down
further by determining which project account or fund
they will affect. Without short-term financing, the
project may only require one account for all activities.
Short-term financing frequently complicates matters
further. Note indentures frequently require additional
accounts for items such as note interest payment,
payment of issuance costs, and so forth. Exhibit 7 shows
a simple fund breakdown in which construction is
accounted for in one fund and transactions relating to
the short-term notes in a second fund. The town's note
indenture requires that the EPA grant payments and
payments and proceeds from bonds be placed in the note
redemption fund, which may only be used to pay note
interest and principal. Note that this forecast assumes
the "contingency" item is spent uniformly over time.
While this is rarely the case, this method is more
conservative than assuming that the contingency will
either not be used at all or will not be used until the end
of construction.
**************
TIP: It is important to forecast and track the account
balances for every one of the accounts because you must
maintain a positive balance in each one. If the
community overdraws the account for construction, it
will be barred from paying construction bills from other
accounts by legal and investor restrictions. It will, in
effect, be unable to pay its contractor.
Once each source or use of funds is assigned to a specific
fund or account, it must also be broken down by time
period. Tracking cash flow by monthly periods is
generally adequate, particularly if most payments of
construction costs and interest costs are made regularly
each month. You should determine the total time the
project will take and lay out a worksheet that lists every
month until completion. Next, estimate when each
source of funds will be received. For some, such as
proceeds from notes, there will only be one receipt and
for others (e.g., interest earnings, grant payments) there.
will be more than one. Once again, conservatism is
important; it is best to assume that grant payments and
other sources will be delayed beyond the bare minimum,
thus leaving a margin for error. Uses of funds are also
broken down by time period. Payments to the engineer
and contractor may be estimated from the construction
schedule, payments of interest will be known once notes
are sold, and the financial advisor can help estimate the
timing of issuance costs.
-------
32
Exhibit 7
Project Cash-Flow Forecast
Construction
Fund
Beginning Balance
Sources
State Grant
Capital Reserves
Interest Earnings
Grant Antic. Notes
Bond Antic. Notes
Total Sources
Uses
Engineering
Construction
Proj. Mgmt.: In-house
Issuance Costs Notes
Issuance Costs Bonds
Contingency
Total Uses
Ending Balances
Note Redemption
Fund
Beginning Balance
Sources
EPA Grant
Interest Earnings
Bonds
Total Sources
Uses
Short-term Interest
Bond Antic. Notes
Grant Antic. Notes
Total Uses
Ending Balance
Month 1
$ 0
0
150,000
1,000
3,500,000
2,378,000
$6,029,000
$ 125,000
235,000
2,000
15,300
0
45,000
422,300
$5,606, 700
Month 1
$ 0
0
0
0
$ 0
0
0
0
0
$ 0
Month 2
$5,606,700
21,000
0
43,000
0
0
$ 64,000
$ 38,000
577,000
2,000
0
0
46,000
663,000
$5,007,700
Month 2
$ 0
205,000
1,000
0
$ 206,000
0
0
0
0
$ 206,000
Month 3
$5,007,700
24,000
0
40,000
0
0
$ 64,000
$ 35,000
595,000
2,300
0
0
47,000
679,300
$4,392,400
Month 3
$ 206,000
395,000
1,200
0
$ 396,200
0
0
0
0
$ 602,200
Month 4
$4,392,400
30,000
0
35,000
0
0
$ 65,000
$ 37,000
688,000
2,300
0
0
65,000
792,300
$3,665,100
Month 4
$ 602,200
414,000
3,600
$ 417,600
0
0
0
0
$1,019,800
MonthS
$3,665,100
33,000
0
29,000
0
0
$ 62,000
$ 32,000
651,000
2,300
0
0
65,000
750,300
$2,976,800
Month 5
$1,019,800
445,000
8,000
0
$ 453,000
0
0
0
0
$1,472,800
Month 6
$2,976,800
35,000
0
22,000
0
0
$ 57,000
$ 30,000
876,100
2,300
0
0
65,000
973,400
$2,060,400
Month 6
$1,472,800
390,000
11,700
$ 401,700
184,850
0
0
184,850
$1,689,650
-------
Exhibit 7
Project Cash-Flow Forecast (Continued)
33
Construction Fund
Beginning Balance
Sources
State Grant
Capital Reserves
Interest Earnings
Grant Antic. Notes
Bond Antic. Notes
Total Sources
Uses
Engineering
Construction
Proj. Mgmt.: In-house
Issuance Costs Notes
Issuance Costs Bonds
Contingency
Total Uses
^
Ending Balances
Note Redemption
Fund
Beginning Balance
Sources
EPA Grant
Interest Earnings
Bonds
Total Sources
Uses
Short-term Interest
Bond Antic. Notes
Grant Antic. Notes
Total Uses
Ending Balance
Month 7
$2,060,400
35,000
0
18,000
0
0
$ 53,000
$ 30,000
621,000
2,300
0
0
65,000
718,300
^^^^^^^^^H
^
$1,395,100
Month 7
£7,689,650
476,000
13,200
0
$ 489,200
0
0
0
0
$2,178,850
Month 8
$1,395,100
37,500
0
10,100
0
0
$ 47,600
$ 35,000
425,000
2,300
0
0
55,000
517,300
t^^^^^^^^^m
__HH!^
$ 925,400
Month 8
$2,178,850
321,000
21,000
0
$ 342,000
0
0
0
0
$2,520,850
Month 9
^
$ 925,400
35,000
0
7,100
0
0
$ 42,100
$ 32,000
389,000
2,300
0
0
45,000
468,300
^^^^^^^^^H
__^^^^^^^^H__
$ 499,200
Month 9
$2, 520, 850
258,000
22,300
0
$ 280,300
0
0
0
0
$2,801,150
Month 10
H^^^MI
$ 499,200
35,000
0
4,000
0
0
$ 39,000
$ 33,300
214,000
2,300
0
0
35,000
284,600
^^HH^^H
^
$ 253,600
Month 10
$2,801,150
234,000
24,100
0
$ 258,100
0
0
0
0
$3,059,250
Month 11
^
$ 253,600
35,000
0
1,800
0
0
$ 36,800
$ 18,000
123,000
2,300
0
0
14,500
157,800
m^^^^^^m
^
$ 132,600
Month 11
$3,059,250
217,000
25,300
0
$ 242,300
0
0
0
0
$3,301,550
Month 12
$ 132,600
18,000
0
1,600
0
0
$ 19,600
$ 12,000
86,000
2,300
0
38,200
13, 700
152,200
^^B
^
$ 0
Month 12
$3,301,550
145,000
23,300
2,593,000
$2,761,300
184,850
2,378,000
3,500,000
6,062,850
$ 0
Total
m^^mm
$ N/A
$ 338,500
150,000
212,600
3,500,000
2,378,000
$6,579,100
$ 457,300
5,480,100
27,000
15,300
38,200
561,200
6,579,100
mmm^^m
^^^^^^^^H^^H
$ N/A
Total
N/A
3,500,000
154,700
2,593,000
$6,247,700
369,700
2,378,000
3,500,000
6,247,700
N/A
-------
34
Once each source and use has been forecast by time
period, it is a relatively simple matter to forecast a cash
balance for each account at the end of each time period.
Simply add the beginning balance for the period to all
sources to be received during the period, then subtract
the uses for the period. It will be helpful in monitoring
cash flow to develop a summary table of the forecast that
only shows the forecast balance of each account at the
end of each month. Exhibit 8 is the summary table for
the forecast shown in Exhibit 7.
It is important to stop at this point to verify that the
cash-flow forecast shows positive balances in each
required fund until project completion. If not, the
community will have to locate additional resources.
PLANNING THE
OPERATING BUDGET AND
USER CHARGE SYSTEM
The basic techniques used to set up the project budget
and cash-flow forecast will also be useful in structuring
the operating budget for the completed facility. For
communities upgrading or expanding an existing system,
the rate increases or other sources of operating revenue
needed to cover the additional operating expenses and
added debt service costs can be considered during an
annual review of the existing operating budget. For new
systems, however, the operating budget for the
wastewater treatment enterprise fund will have to be
built from scratch. It is important that key elements of
the first year's operating budget be completed in the
pre-construction phase. With a good operating plan in
hand, changes in the cost and design of the project that
occur during construction can be monitored for their
effect on budgeted revenues and expenses, with ample
time to take corrective actions, if needed.
**************
TIP: For existing systems, an increase in rates prior to
starting construction can allow the community to
develop capital reserves, which can, in turn, be used to
reduce the amount of long-term borrowing. If
construction of your project is expected to span several
years, you should plan a series of rate increases so that
new charges arc phased in gradually.
The first step in setting up an operating budget,
estimating expenses, can be prepared from work
completed earlier. The major expenses for the first year
of operation can be estimated from: (1) the expected
operation, maintenance, and replacement costs provided
by your engineer (see Chapter II) and (2) the expected
debt service for the bond issue estimated in the project
budget. All other expense items (e.g., contractual
services, administrative costs, interdepartmental service
accounts, training, payments in lieu of taxes, etc.) should
also be identified and included in the operating budget.
The second step consists of developing reliable sources
of revenue that will match or exceed expected expenses.
The revenue plan should be flexible enough to meet the
requirements of users, local and State governments,
bond holders, and EPA (if grant-funded), while ensuring
self-sustaining operations of the completed facilities.
Typically, the chief source of operating revenue will be
from the collection of user fees. Other revenue sources
in common use include property taxes, connection fees,
inspection fees, system development charges, and
dedication of special utility or sales taxes to the
wastewater treatment fund.
**************
TIP: Development of a revenue plan should begin at
least one year prior to project start-up to ensure that a
rate structure is in place before bonds are sold. Potential
investors and bond rating agencies will be favorably
impressed by this indication that the community has
provided for an adequate revenue base.
As a prerequisite to receiving an EPA grant, EPA
regulations specify that you must develop a user charge
system designed to produce adequate revenues to pay all
costs of operation and maintenance (including
replacement). Although the revenue plan must include
collections for covering expected capital outlays and
debt service of outstanding bonds and notes, EPA
regulations do not require you to use any particular
method or basis for assessing charges to recover the cost
of capital items.
An EPA-approved system of user charges must provide
that each user or user class pay its proportionate share of
the operating costs, based on the quantity and quality of
the wastes discharged to the sewer system. EPA
regulations further provide that you establish an
adequate financial management system that will
accurately account for revenues and expenses, based on
an annual operating budget. (See Chapter IV for further
discussion on establishing accounting systems.) The
regulations also require that you inform each user
annually, in conjunction with a regular bill, of the rates
established for the year and the portion that is
attributable to operating expenses. You will have to
adopt the user charge system through passage of an
ordinance or other legislative enactment.
-------
Exhibit 8
Summary of Cash Balances
Forecast of Ending Cash Balance
35
Month
1
2
3
4
5
6
7
8
9
10
11
12
Construction
Fund
$5,606,700
5,007,700
4,392,400
3,665,100
2,976,800
2,060,400
1,395,100
925,400
499,200
253,600
132,600
0
Note
Red. Fund
1 0
206,000
602,200
1,019,800
1,472,800
1,689,650
1,178,850
2,520,000
2,801,150
3,059,250
3,301,550
0
Total
$5,606,700
5,213,700
4,994,600
4,684,900
4,449,600
3,750,050
3,573,950
3,446,250
3,300,350
3,312,850
3,434,150
0
-------
36
In order to meet the EPA requirements for user charge
systems and to develop a revenue plan, you will need to
undertake a comprehensive rate study. The study should
consist of the following steps:
Establish a rate study team. This group should
include representatives from the agency's
management., operation, planning, and finance
functions, as well as in-house or outside legal
counsel. An engineering or financial consultant
should be involved in the process along with in-
house staff.
Establish billing collection processes. In an agency
that presently charges customers for water or sewer
services, this step will be limited to ensuring that the
existing process will handle the new user charge
structure. In a new agency, or one with no
experience with user charges, at least two additional
months should be allowed to establish accounting
records, print bills, and develop a collection system.
Determine the annual costs of the system. The goal
of this step is to determine how much revenue must
be generated through charges. The costs are in two
distinct areas. One is the annual cost of operating and
maintaining the facility (e.g., salaries, chemicals,
parts, and electricity). The second area is the cost of
annual principal and interest on the borrowing for
the treatment plant, as well as the costs related to any
prior bonds or loans.
Allocate the total amount of revenue to be raised
from user charges for various user classes. This step
requires an estimate of system loadings in terms of
both flow and strength. From these estimates, unit
charges can be developed and the charge to each user
class established.
award and enacted before the facilities are placed in
operation. (See Chapter V for a description of this task.)
A source of guidance on setting user charges is EPA's
User Charge Guidance Manual for Publicly-Owned
Treatment Works.
CONCLUSION
Exhibit 9 reviews the major financial activities in the
pre-construction phase. With adequate short-term
financing, a plan for long-term financing, a strong
construction contract, a project budget and a cash-flow
forecast, an operating budget, and a user charge system
all in place, you are ready to proceed with building the
facility itself. You have already laid the foundation with
careful planning and have built a strong framework with
the pre-construction financing steps. You have now
moved into scoring position and have an excellent
chance to score a run.
*********"*****
TIP: Throughout the process of developing a revenue
plan and user charge system, you should hold public
hearings, establish advisory groups, seek out newspaper
or television coverage and use other appropriate methods
of public involvement to keep your community well-
informed. Citizens who arc convinced about the
importance of adequately financing \vastcwater
treatment can be a positive force in mitigating any
adverse public reaction to rate increases.
The user charge study may take a year or longer to
complete, especially if new revenue collection systems
must be incorporated. EPA regulations require that the
user charge system be approved by EPA prior to grant
-------
37
Exhibit 9
Matrix of Functions Performed in
the Pre-Construction Phase
*******
What is Done
mmm^m^^m
SHORT-TERM
FINANCING
Who Does it
Finance
Officer
When
While selecting
a construction
contractor
To and With Whom
Bond Counsel
Financial Advisor
DESIGNING
BOND ISSUE
Finance
Officer
When short-term
financing proceeds
are received
Bond Counsel
Financial Advisor
CONSTRUCTION
CONTRACT
Purchasing
Agent
When project
design is
complete
Engineer
Contractors
PROJECT
BUDGET
Finance
Officer
When construction
contract is
signed and short-
term financing is
complete
Financial Advisor
CASH-FLOW
FORECAST
PLANNING THE
OPERATING
BUDGET
OVERALL
PROJECT
MANAGEMENT
Finance
Officer
User charge
study team
Project
Manager
When project
budget is
completed
Begin prior to
initiation of
construction
finish prior
to facility
operation
Throughout the
project
Financial Advisor
Submit
recommendation
to legislative
body
All team members
involved in this
phase
-------
CHAPTER IV
Financial
management
during the
construction
phase:
advancing
to third
Your community is now ready to begin construction,
having completed the important preliminary steps. Good
financial management is just as important during
construction as in the previous stages. If you allow
financial control to slip now, you will be left stranded at
second base at the end of the inning.
During construction, there are five major financial
activities that make up the subparts of this chapter:
establishing accounting systems, recording transactions,
investing construction funds, managing the contract, and
monitoring project progress. While most of these
functions are ongoing, they are listed in the order of
likely precedence.
ESTABLISHING
ACCOUNTING SYSTEMS
Establishing and maintaining adequate accounting
systems is important in any local government, but a
community must be particularly careful to do so when
managing a large construction project, due to the
potential for loss of funds or a poor product.
The most important element of an accounting system is
a set of controls. Financial controls exist for four
important reasons. First, they assist in error detection
and correction. Second, they help ensure that resources
are conserved and used only for the construction
process. Third, they help the community meet Federal
and State requirements for careful stewardship of grant
monies. Fourth, they play an important part in
documenting the project for purposes of auditing.
A system of internal controls is based on premises that
are simple, but often difficult to carry out, particularly
in a small community. The premises are:
responsibility for initiating, recording and reporting
financial transactions should be centralized in one
department in order to strengthen control over
resources;
accounting information should be contained in a
unified record-keeping system that allows for easy
access to information;
consistent procedures and standards should govern
all financial records and reporting;
accounting duties should be assigned so that no one
person is responsible for one transaction from
beginning to end;
operational employees should not have any
accounting duties;
39
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40
important accounting documents should require the
signature of a responsible financial official; and
records should be regularly reconciled and corrected
as necessary.
EPA regulations require that communities receiving
Federal grants maintain adequate systems of financial
control as a condition of grant receipt. Specific
requirements include accurate, current and complete
disclosure of all grant-related transactions; complete
records; control over property and funds; comparison of
budgets to actual results; and procedures to determine
allowability of costs. In addition, the accounting system
must be designed to provide adequate financial
management of the facility once the project is complete.
**************
TRAP: The five most common accounting problems for
communities receiving grants are:
- failure to separate eligible and ineligible costs;
- failure to segregate costs between different grants;
- failure to develop written procedures for grant
accounting;
- failure to justify and record Federal
reimbursements;
- failure to maintain documentation supporting
payment requests.
While it is beyond the scope of this handbook to
prescribe a complete accounting system, it is possible to
recommend some steps that a community may take to
improve its ability to account for an EPA grant. Good
grant accounting procedures include the following:
The finance officer should establish a separate ledger
account for the project in the community's books.
Your accounting system probably already divides
revenues and expenditures by fund, department, or
other organizational division. The finance officer
should determine how best to establish a set of
accounts so that project transactions are recorded and
reported separately from other transactions. This will
allow your community to track revenue by source
and expenditures by line item for the project.
The finance officer should assign specific individuals
to account for all project-related transactions. One
person might be responsible for requesting EPA
reimbursements, another for making payments to
contractors, and so forth. You should also assign one
person to sign all project-related forms, including
checks, reimbursement requests and the like.
The finance officer, in conjunction with the public
works director, should develop written procedures
for the project. Procedures should cover the
following topics:
- what documentation and approval are required
before paying the contractor;
- how retainage will be handled;
- when requests to EPA for reimbursement will be
made and by whom; and
- what reports must be prepared and how often.
The finance officer should develop forms and reports
to account for grant activites, including comparisons
between budget and actual performance, cash-flow
tracking, authorization to make payments, etc.
The finance officer should establish a system within
the community's payroll structure to ensure that any
staff time that is to be charged to the project is
adequately documented. This generally requires a
timesheet on which an employee breaks down his or
her daily activity by hours spent on the project
versus hours on other activities. For project-related
activities, the employee should also state briefly what
he or she did during the charged time. You should
also set up a system to charge a pro-rated share of
employee benefits and payroll taxes to the project. If
work done by employees (often called "force account
work") is expected to exceed $25,000, the State
reviewing agency must approve it as a condition of
receiving an EPA grant.
The finance officer should make sure that everybody
who will be working on accounting for the project
understands what costs are not eligible for EPA
reimbursement, then set up a separate sub-account in
the project accounting system to record all ineligible
costs.
The finance officer should establish project files and
make sure that all documents relating to the project
are filed by document type and then chronologically
within each type of document. This will be necessary
if there are questions about reports generated when
the EPA auditors arrive.
The finance officer should establish an inventory of
all property and equipment purchased as part of the
project.
For additional information, refer to the EPA brochure
entitled, "What to do Before and After the Auditors
Arrive." There are a number of other steps you can take
at the outset of a project to make it easier to account for
and control the project. The finance officer should take
responsibility for determining what steps are necessary,
assisted by an outside auditor if necessary.
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41
**************
TRAP: One common mistake made by communities
with construction projects is using separate bank
accounts to keep track of different types of money (e.g.,
grant funds vs. local funds, eligible vs. ineligible items,
etc.). This should be avoided at all costs and done only
when note or bond indentures require separate bank
accounts to secure the debt obligations. Multiple
accounts are expensive to maintain and to balance and
they also promote accounting errors. You should
develop an accounting system that ensures that money is
tracked and credited to the right ledger account instead
of opening new bank accounts.
PROCESSING AND
RECORDING TRANSACTIONS
With the accounting system in place and construction
underway, the finance office will settle into a routine of
accounting for the project along with its other duties. As
financial events take place, the finance office will use the
accounting system to ensure that all financial
transactions are processed, recorded in the books and
summarized in reports. This discussion will summarize
the processing and recording functions by describing
how some of the more common financial events should
be handled.
When notes are sold:
The accounting system must account for the receipt of
proceeds. First, the note indenture should be read
carefully by the finance department so that proceeds are
deposited properly. Then the proceeds should be placed
in the appropriate bank account quickly; interest
earnings for a day or two on a deposit of this size can be
significant. The deposit should be recorded in the cash
receipts journal, properly divided between the sub-
accounts of eligible costs. The cash receipts entry should
be backed up by the community's standard form for
receipts, along with a copy of the note indenture and a
statement from the underwriter of how the proceeds
were calculated.
When employees charge time to the project:
Each employee working on the project, whether as
construction laborer or construction manager, must
enter project-related hours on a timesheet and turn it in
at the time specified by payroll policies. The timesheet
should be signed by the employee's immediate
supervisor; the construction manager should also sign to
verify time spent on the project. When paychecks are
written, the total amount charged by all employees (both
in direct labor and in benefits and payroll costs) should
be entered in the payroll ledger for the project, once
again split between eligible and ineligible items. All
timesheets that charge time to the project should be filed
chronologically along with calculations of benefits
expenses, for review by EPA's auditors.
When the contractor requests partial payment:
You should develop a form that the contractor uses to
request payment. When the request is received, it should
be verified by both the engineer and the construction
manager. The payment request should reflect the
retainage allowed by the contract. You may wish to issue
a check to the contractor as soon as payment is
approved, since contractors frequently experience cash-
flow difficulties. The check should be recorded in the
check register in the project account, broken down into
eligible and ineligible costs. You should also maintain a
log that keeps a running balance on each construction
contract, listing the original amount, additions due to
change orders, subtractions due to payments, and the
current balance.
When the community purchases equipment:
When an invoice arrives for equipment to be used in the
project, the engineer and construction manager should
both verify the necessity of the equipment, that it
arrived, and that the invoice is correct. A check may
then be written and recorded in the check register. You
should also establish an inventory card for the
equipment, listing its purchase price and date, location,
equipment identification number, and expected useful
life (for calculating depreciation). All inventory cards
should be filed for audit. Once a year, the card should be
used to conduct a physical inventory to see if all
equipment is still in use.
When users pay connection fees:
It is not normally necessary to physically segregate
connection fee payments from other monies. Instead,
they must be recorded in the project account in the cash
receipts journal on a separate revenue line. Revenue and
expenditure sub-accounts in the project accounting
records should match those in the project budget for
easy budget control. Receipts should be issued for all fee
payments and, if connections are mandatory, you should
maintain a list of all customers who must pay fees, to be
marked "paid" when money is received. You should also
be able to determine that connection fees are used for
proper purposes. For example, if connection fees are
limited to building one sewer line, you must be able to
show that you spent at least as much on that line as you
received in connection fees.
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42
When the community invests excess construction funds
(coming from its own sources not federal sources):
Investments should be made only after soliciting quotes
by telephone from more than one bank or institution.
You should invest with the institution that pays the
highest rates and provides a completely secure
investment. A record should be kept of the rate quoted
by each institution. An entry should be made in bank
account records to reflect movement of cash from the
checking account to an investment instrument. When
the investment matures, the payment of interest must be
verified against the quoted rate. An entry should be
made to return the principal and interest to the checking
account. The interest should be recorded as revenue in
the cash receipts journal.
TIP: Note indentures and good financial management
practices both require that interest be credited to the
account from which the principal was drawn. If an
investment is made from funds restricted to repayment
of notes, the interest revenues should also be credited to
that account.
When the community requests reimbursement
from EPA:
It is in your best interest for cash-flow purposes to
request payment from EPA on a monthly basis for costs
actually incurred. An employee, perhaps the
construction manager, should be assigned the
responsibility of initiating this process at the same time
every month. The first step is to determine total costs
during the month that are eligible for reimbursement.
The best way to accomplish this is to record in the
eligible costs sub-account in the check register all those
incurred costs that have already been paid by EPA. It is
then a relatively simple matter of requesting
reimbursement for those incurred costs that are not
marked as paid. These should be totalled and EPA's
standard form for reimbursement (EPA Form 271) filled
out and signed by either the finance officer or the chief
administrative officer.
Copies should be filed and sent to the construction
manager. Once the reimbursement is received, it should
be entered in the cash receipts journal and all
reimbursed expenditures so marked in the check
register. You must also maintain a log of reimbursement
requests, listing the date and amount of each request, as
well as the date the reimbursement is received.
To summarize, project transactions should be recorded
just as any community with a good accounting system
records all transactions. As long as you maintain a
complete set of accounting records (general ledger, cash
receipts journal, check register, payroll system, chart of
accounts and so on), make sure that all project-related
events are recorded in the proper accounts separate from
all other activities, maintain records on the accrual
basis of accounting, and regularly generate and review
reports, you should not have any great difficulty with
project accounting.
INVESTING
CONSTRUCTION FUNDS
Note proceeds should be invested by the finance officer
in a manner that: (1) recognizes the need to meet
expenses identified by the construction draw-down
schedule; (2) provides a good (current market) return on
the investment; and (3) ensures preservation of the
principal amount invested. A conservative approach to
the funding demands identified in the draw-down
schedule is needed to permit earlier disbursements to
cover unanticipated expenses or to pay contractors if
construction is running ahead of schedule.
Speculative investments, which place the principal
amount at some risk, have no place in municipal finance
generally and are particularly inappropriate when it
comes to investment of borrowed funds. The challenge
facing the issuing government is to identify a strategy
that both protects the principal of the borrowed funds
and offers a fair market return on investment.
Remember that your goal is to build a wastewater
treatment facility, not to chase every last dollar of
interest earnings.
A variety of investment alternatives are available that
satisfy the needs identified above. The section below
provides a comparison of some of the most common
investment alternatives and indicates the advantages and
disadvantages of each. State statutes and local charter
provisions vary concerning authorized use of note
proceeds, so consultation with bond counsel is important
before any investment decisions are made.
U.S. Treasury Securities:
Backed by the full faith and credit of the United
States government, these securities represent the most
secure investment option for communities. Treasury
bills are available in maturities of up to one year; notes,
in maturities of up to 7 years; and bonds, in maturities
of up to 30 years. Because Treasuries are secured by the
absolute pledge of payment by the U.S. government,
these investments carry lower interest yields than many
other securities. A loss is possible if you are forced to sell
Treasury investments prior to the stated maturity date.
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In general, you should avoid investments that may have
to be sold prior to maturity.
U.S. Government Agency Issues:
A variety of U.S. government agency issues are available
that have characteristics similar to Treasury securities.
The yield on agency issues is generally higher than on
Treasury securities because they are not backed by the
full faith and credit of the U.S. government. Again, the
potential for market loss is possible if these securities are
sold prior to maturity. The market for agency issues is
occasionally volatile and unpredictable.
Certificates of Deposit:
Certificates of Deposit, or CDs, are receipts that
represent a deposit of funds at a commercial bank or
savings institution. The CD specifies a maturity date
and interest rate to be paid. Security is provided by the
quality and extent of collateralization, which is the
cash and securities that the institution pledges as
security against the community's investment.
Uncollateralized CDs are secured by the
creditworthiness of the depository institution. (Most
States require that CDs be collateralized.) As with
Treasury securities, a market loss may result if sold prior
to maturity.
Repurchase Agreements:
A repurchase agreement is an agreement between a
community and a bank wherein the community buys a
security from the bank at a specified price and the bank
simultaneously agrees to repurchase the security at a
future date and price. Since security of a government's
investments is a dominant consideration, all investments
in repurchase agreements should be conducted in such a
way that: (1) the community takes physical custody of
the instrument; and (2) the investment be more than
100% collateralized to guarantee the security of the
principal invested. The difference between the price the
community pays for the security and the price it receives
for re-sale of the security to the bank represents its
return on investment. Security is provided by the
creditworthiness of the bank in the transaction.
Repurchase agreements offer the advantage of
considerable flexibility, but you should require a
contract that protects your interests (as indicated above)
in the event of interest rate fluctuations.
Savings and Checking Accounts:
Communities may open bank accounts with note
proceeds in much the same way individuals handle their
own funds. This option provides maximum liquidity
(ability to convert the investment to cash) and is insured
up to the limits of the Federal Deposit Insurance
Corporation (FDIC). The Federal Savings and Loan
Insurance Corporation (FSLIC), a division of the
Federal Home Loan Bank Board, provides insurance for
deposits made in Federal Savings and Loans Banks. The
interest yield is typically lower than what is available
from other investment alternatives. Where possible, you
should write checks on an insured, interest-bearing
checking account such as a "NOW" account, so that all
construction funds earn some interest.
Pooled Investment Programs:
Many counties and States have pooled investment
programs that offer communities immediate liquidity
and a better interest yield than is available from savings
or checking accounts. The security provisions of local
government investment pools (LGIPs) vary
considerably. Most LGIPs invest in U.S. government
securities, CDs, and repurchase agreements. The finance
officer is advised to exercise caution in the choice of this
investment alternative for the investment of construction
funds.
**************
TIP: In a falling interest rate environment, the interest
yields in an investment pool are generally higher than
those available through independent investing. This is
because the interest yield in the pool is determined in
part by securities that were purchased when rates were
high.
MANAGING THE CONTRACT
Having developed a complete construction contract in
the pre-construction phase, you must devote your efforts
during the construction phase to making sure that the
contract is followed. Three essential techniques available
to assist in this process are appointing a construction
manager, establishing strong reporting requirements for
the engineer, and maintaining control over change
orders.
The construction manager and project manager should
be employees of the community. For smaller
jurisdictions which do not already employ individuals
with a range of construction and engineering experience,
the construction manager will probably be a contract
employee whose relationship with the community will
cease with the formal acceptance of the construction
work. Whatever the case, the employee who does this
job must be allowed to devote enough time to do it
properly. A major construction project may require at
least one-half, if not all, of the construction manager's
working time.
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Ideally, the construction manager should have a good
understanding of both construction techniques in
general and of wastewater treatment systems in
particular. If the community currently has an operating
treatment system, a plant manager or public works
director would be the ideal choice for this job.
**************
TIP: If your treatment system employees are unionized
and a supervisor has negotiating experience, appoint that
person as the construction manager; the talents required
are strikingly similar.
You must give the construction manager explicit
authority to represent your community in all dealings
with the prime contractor and the engineer; a formal
action by the legislative body is a good idea. If the
manager does a good job, he or she will occasionally
ruffle the feathers of both the engineer and the
contractor, who may be tempted to find a more
sympathetic ear elsewhere on the staff. The governing
body should state when appointing the manager that all
communication between the community and the
contractor is to be through the manager and that all
employees should follow this rule. It will help ensure
that the contractor does not receive conflicting
instructions.
The construction manager's task is to monitor progress
toward completion. This person must therefore be
familiar with the facility design, the construction
contract, and the schedule, as well as EPA regulations
that govern construction. The manager should meet
regularly (at least every two weeks) with the engineer to
discuss progress and problems and should regularly
inspect the work and keep in touch with the contractor.
It is a temptation to leave this responsibility to the
engineer, but remember that the community, not the
engineer, has to live with the final product and pay debt
service and all operation costs.
When either the engineer or contractor submits requests
for partial payment, the construction manager should
review and approve them before they are paid. The same
procedure applies to recommendations from the
engineer that the community buy a piece of equipment
for the project. The manager should also review and
approve any community employees' timesheets that
show they worked on the project. Any recommendations
for change orders received from the engineer should be
routed through the construction manager for his or her
recommendation before they are approved by the
legislative body.
The construction manager should approve the quantities
and progress on the contract for payment but should not
be involved directly in the payment to the contractor
because this would violate an important rule of internal
controls, as described later in this section. Second, the
manager should be required to make progress reports to
the community's appointed and elected officials. As a
general rule, the manager should be expected to report
routinely to the chief administrative officer and to the
legislative body on a monthly basis.
Good reporting from the engineer is the second tool
available to the community to ensure successful
construction. The engineer should regularly inspect the
construction site and keep apprised of developments to
the greatest extent possible. The engineer should also
report by telephone or in person to the construction
manager at least weekly. The engineer should prepare a
written report on the project at least monthly. That
report should summarize all progress to date, especially
that accomplished in the past month. The engineer
should also report on what is expected to be
accomplished in the next month, with particular
attention to any possible problems or potential requests
for change orders. The report should also provide an
update on progress as measured against the original
construction schedule.
For each event on the schedule that is completed, the
actual completion date should be entered next to the
scheduled date. For future events, the engineer should
report on any items that are not expected to be
completed on schedule, giving a reason and a new
estimate of the completion date. The engineer's report
should be forwarded to the construction manager for
written comment and then reviewed by the chief
administrative official and the legislative body.
As mentioned in Chapter III, some change orders may
be necessary during construction. This could occur
when a specified component is not available in a
reasonable time frame, or when bedrock is uncovered in
digging the foundation for the new trickling filter
(although you should still ask the engineer why the
specifications required an unprocurable part and why a
soil sample didn't show the bedrock). Other change
orders may be necessary, and may represent a chance to
save money or make an improvement to the original
design. You must carefully consider all change orders,
particularly those which represent increased costs.
The key element in deciding if a change order is needed
is whether a significant change in conditions has
occurred (and could not have been reasonably
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45
anticipated by an experienced engineer and contractor).
If so, you should accept the change order and carefully
negotiate a price; change orders can be used by
contractors to increase their profit margin. All change
orders should be justified in writing by the contractor,
approved by the engineer and construction manager, and
formally approved by the legislative body. If your
community receives an EPA grant, some change orders
may require State or EPA approval. EPA provides
detailed information on change orders in its publication
Management of Construction Change Orders: A Guide
for Grantees.
MONITORING
PROJECT PROGRESS
The finance officer should generate a complete set of
project financial reports on a monthly basis. The goal
should be to have all reports completed by the tenth day
of the following month. The reports should include:
a project balance sheet;
a report of contract status;
a report of reimbursement status;
a report of budgeted and actual sources and uses; and
a report of forecast and actual cash balances.
The balance sheet compares the assets and liabilities of
the project accounts. Assets are things of value that
belong to the project, typically cash and investments,
grants receivable, and the value of construction in
progress. Liabilities are amounts owed by the project,
including repayment of notes, payroll, invoices payable,
and so forth. The balance sheet simply compares assets
and liabilities and tells whether the project is solvent.
The report of contract status should simply summarize
financial transactions (change orders, payments, etc.)
regarding the construction contract for the previous
month along with a summary of all previous contract
payments and the balance remaining on the contract.
**************
TIP: It is a good idea to compare this report with the
engineer's monthly progress report to determine if
payments are closely related to actual progress. If not,
future requests for payment should be more carefully
reviewed.
The report of reimbursement status shows all grant
reimbursement activities for the previous month and
should show for the entire project the total of eligible
work completed, grant reimbursements requested, and
grant reimbursements received. It may also be useful for
cash-flow planning purposes to calculate the average
delay from request to receipt of reimbursement. If
reimbursements are behind schedule, you must learn the
cause of the delay and address the problem. Check the
activities of your staff in completing and submitting the
forms to EPA. Only after you have established that your
requests have been timely and accurate should you seek
information from EPA on the status of your
reimbursements.
The report of budget and actual sources and uses is of
critical importance to good project management. It
indicates whether the project is headed for trouble
before it is completed. Exhibit 10 is a sample budget
report based on the budget shown in Chapter III. It is
useful to point out that while the "project-to-date
actual" ($6,797,075 in the fourth column) is below the
project-to-date forecast ($7,241,800 in the next column)
by approximately $450,000, the corresponding uses of
funds "actual" is below the forecast by approximately
$900,000. Thus, the situation is under control for the
moment, but vigilence must never cease.
If the project-to-date actual expenditures are greater
than the forecast expenditures, you must take immediate
action to identify and remedy the problem. Regular
monitoring of these figures should identify areas of
concern before the excess expenditures become serious
cash-flow problems. Options to remedy this situation are
described below.
Note that Exhibit 10 uses the same categories of sources
and uses as the budget and is laid out in the same basic
format. It shows the original budget for each item, the
amount received or spent in the current month, the
amount received or spent for the project to date, and the
amount still to be received or spent. When the
community has done a monthly cash-flow forecast, it can
also include a comparison of the amount actually
received or spent through the report date to the amount
that was expected to be received or spent. This gives a
better picture of the budget status than the rest of the
budget report because it recognizes that many sources
and uses do not flow uniformly throughout the project.
The legislative body and the chief administrative official
should expect some explanation of the budget report,
covering the major variances between budget and actual,
the reasons for the variances, and the anticipated impact
of each. The chief financial official should prepare this
report, usually after discussing each item with the
construction manager. The project manager should also
recommend any changes that will be necessary to finish
the project within budget or, if this is impossible, he
should ask the finance officer to locate additional
resources.
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Exhibit 10
Budget Report
As of End of Month 4: Total Project
Sources
^
Permanent Financing
EPA Grant
State Grant
Capital Reserves
Interest Earnings
Bonds
Total Perm. Financing
Proceeds from Notes
Grant Antic. Notes
Bond Antic. Notes
Total Proceeds
Total Sources
1^
Uses
^
Permanent Outlays
Engineering
Construction
Project Mgt.: In-house
Short Term Interest
Issuance Costs Notes
Issuance Costs Bonds
Contingency
Total Permanent Outlays
Repayment of Notes
Bond Antic. Notes
Grant Antic. Notes
Total Repayments
Budget
~l^
$ 3,500,000
338,500
150,000
367,300
2,593,000
$ 6,948,800
$ 3,500,000
2,378,000
$ 5,878,000
$12,826,800
^^^^m.
Budget
^
^^^^^^^^^H
$ 457,300
5,480,100
27,000
369,700
15,300
38,200
561,200
$ 6,948,800
$ 2,378,000
3,500,000
$ 5,878,000
Month
Four
Actual
^
^iH^^^H
$312,455
61,000
0
28,067
0
$401,522
$ 0
0
$ 0
$401,522
_^^HH__
Month
Four
Actual
_^
^^^^^^^B
$ 41,320
235,690
2,346
0
0
0
0
$279,356
$ 0
0
$ 0
Project-
to-Date
Actual
^
^^^H
$ 543,000
91,000
150,000
106,209
0
$ 890,209
$3,527,000
2,379,866
$5,906,866
$6,797,075
JBH^^B__
Project-
to-Date
Actual
^
^^^^^^i
$ 268,000
1,356,799
9,105
0
12,466
0
0
$1,646,370
$ 0
0
$ 0
Project-
to-Date
Forecast
^
^
$1,014,000
75,000
150,000
124,800
0
$1,363,800
$3,500,000
2,378,000
$5,878,000
$7,241,800
_m_^__
^^^^^^L
Project-
to-Date
Forecast
^
^^H
$ 235,000
2,095,000
8,600
0
15,300
0
203,000
$2,556,900
$ 0
0
$ 0
Forecast
vs. Actual
Favorable/
(Unfavorable)
^
^i
($471,000)
(16,000)
0
18,591
0
($468,409)
$ 27,000
1,866
$ 28,866
($439,543)
m^^^^^^m
^
Forecast
vs. Actual
Favorable/
(Unfavorable)
^i
($ 33,000)
738,201
( 505)
0
2,834
0
203,000
$910,530
$ 0
0
$ 0
Remaining
Balance
1^
$ 2,486,000
263,500
0
242,500
2,593,000
$ 5,585,000
$ 0
0
$ 0
$ 5,585,000
^^^^^^^^^^H
^H
Remaining
Balance
$ 222,300
3,385,100
18,400
369,700
0
38,200
358,200
$ 4,391,900
$ 2,378,000
3,500,000
$ 5,878,000
Percent
Remaining
to be
Received
tHfm~
71.03%
77.84
0.00
66.02
100.00
80.37%
0.00%
0.00
0.00%
43.54%
§
Percent
Remaining
to be
Received
"^^~
48.61%
61.77
68.15
100.00
0.00
100.00
63.83
63.20%
100.00%
100.00
100.00%
Total Uses
$12,826,800 $279,356 $1,646,370 $2,556,900 $910,530 $10,269,900
80.07%
-------
47
Exhibit 11
Cash-Flow Report
End of Month 4
Construction Fund
Month
7
2
3
4
Forecast
Ending
Balance
£5,606,700
5,007,700
4,392,400
$3,665,100
Actual
Ending
Balance
$5,547,098
5,436,791
5,343,670
$4,605,598
Over (Under)
Forecast
($ 59,602)
429,091
951,270
$940,498
Note Redemption Fund
Month
Forecast
Ending
Balance
Actual
Ending
Balance
Over (Under)
Forecast
0
$
$
0
206,000
( 206,000)
602,200
0
( 341,000)
$1,019,800
$ 545,107
($474,693)
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48
Exhibit 11 is a sample of a cash-flow report. Note that,
once again, this report is based on the original cash-flow
forecast, using the same format. This report should
simply state the originally forecast cash balance at the
end of each month and compare it to the actual balance
for the same month. When this comparison is
completed, the finance officer should review it carefully
for significant differences between the forecast and
actual figures. If actual cash balances are higher than
forecast, you may wish to invest a large share of the
construction funds, bearing in mind the need to leave a
continuous margin for unexpected outlays. If balances
are lower than forecast, closer scrutiny is needed. The
finance officer must determine if the forecast was
incorrect or if the lower balances are an indication of
future cash-flow problems. If the balances are lower,
you may have to take one of the following corrective
steps:
seek other revenue;
reduce the scope of the project to meet available
revenue; or
if total revenues are still expected to meet or exceed
total expenditures, but there is a timing problem,
either (1) borrow the difference needed to assure a
positive cash balance throughout the project, or (2)
restructure construction to delay some expenditures
until revenues are available. Costs of the delay,
however, are not allowable costs under the EPA
grant program.
While a project budget is generally permanent,
remaining the same throughout the life of the project,
the cash-flow forecast must be updated regularly
throughout the process.
**************
TIP: It is a good practice to develop an updated cash-
flow forecast every month, after reviewing the cash
balance report. This new forecast should reflect the
actual cash-flow up to the date of the forecast, with a
revised monthly forecast of all sources and uses for the
remainder of the project.
CONCLUSION
Exhibit 12 reviews the steps entailed in managing
finances during the construction phase. Financial
management during the construction phase is basically a
matter of putting the systems developed earlier in the
process to work. It is also a matter of investing
construction funds wisely to secure the maximum
interest earnings without ever risking the funds. If you
invest carefully, manage your contracts, establish an
adequate accounting system, account for all transactions,
maintain adequate cash balances and stay within your
budget, you will be virtually certain of sucessfully
completing construction. You will be standing on third
base, with the bulk of the work completed, but still
needing one more hit to score a run. If you fail to
manage your finances properly, the result could be
extremely costly, possibly causing a stoppage of work on
the project.
The approach recommended in the tip above allows you
to keep a continuous eye on the cash position, adjusting
both forecasts and operations to changing conditions.
Like the budget report, the cash-flow report should
include some interpretation by the chief finance officer
and should be circulated to the construction manager,
the chief administrative officer, and the legislative body.
-------
49
Exhibit 12
Matrix of Functions Performed in
the Construction Phase
*******
What is Done
Who Does it
When
To and With Whom
ESTABLISHING
ACCOUNTING
SYSTEMS
RECORDING
TRANSACTIONS
INVESTING
CONSTRUCTION
FUNDS
MANAGING
THE
CONTRACT
MONITORING
PROJECT
PROGRESS
OVERALL
PROJECT
Finance
Officer
Finance
Officer
Finance
Officer or
Treasurer
Purchasing
Agent, Construction
Manager, Chief
Executive
Community
Finance
Officer
Project
Manager
Once
Daily
At least
once a year
Daily
At least
monthly
Throughout the
project
Internal
staff
Internal
staff
With banks
and brokers
With the Prime
Contractor and
the Engineer
To Chief
Executive
and Governing
Body
All team members
involved in this
MANAGEMENT
phase
-------
CHAPTER V
The
project
completion
phase:
crossing
the plate
Once construction is underway, you must make final
plans for the financial actions that will be necessary to
finance and operate the facility and to complete the
grants process. For EPA-funded construction projects,
there are three major actions to be completed once the
construction costs are known:
implementing the user charge system and rates;
selling the bond issue; and
preparing for EPA's audit of the project.
If your community has followed the steps listed in the
three previous chapters, the tasks described in this
chapter will simply be the logical conclusion to processes
that are already well underway. In the pre-construction
process, for instance, you began development of a
revenue plan and an adequate user charge system. Now
you must adopt and implement the new rate structure.
You also determined the type of bond issue and are now
ready to sell the bonds. During construction, you
established and maintained project records and reports.
Now you should prepare them for the EPA grant audit.
IMPLEMENTING
THE REVENUE PLAN
AND USER CHARGE SYSTEM
Before beginning construction, you also completed
development of a revenue plan, including the system of
new user charges. (The study process is described in
Chapter III.) Since the purpose of user charges is to
provide enough revenue to operate and maintain the new
treatment facility, you must now take the actions
necessary to enact the rates before finishing the project.
If your community receives an EPA grant, Federal
regulations require that an approved user charge system
be enacted before the facility begins operating.
Your governing body should take the final action by
adopting an ordinance implementing the rates. This
process should involve public notification and citizen
participation in the rate-setting process. An ordinance
should specify the rates (distinguishing between user
charges and debt service charges), collection method,
penalties for late payment, and other administrative
features. Once the ordinance is adopted, all customers
should be given advance notice of the new rates. You
should also establish a system to review and update rates
annually, so that user charge revenue keeps up with
increases in costs. This review can best be done in the
process of developing and adopting the annual operating
budget for wastewater treatment.
51
-------
52
**************
TIP: Long-term self-sufficiency of The treatment plant
can be ensured by writing the rate ordinance so that any
required rate increases are automatically built into the
operating budget approval process.
SELLING BONDS
Issuing bonds is a complex process that involves many
players and legal restrictions. This area may be new to
many small jurisdictions. It is important to allow enough
time to complete the process and to carefully plan and
manage each step in order to assure that long-term
financing is secured in a reasonable time frame.
**************
TIP: Since the time needed to complete a bond sale
varies with the type and complexity of the sale, the
length of time needed should be determined well in
advance of the need to sell the bonds. You should time
the bond sale so that proceeds are available to pay off
any short-term financing and any costs of construction
that will not be paid from cash or short-term financing.
The process for issuing bonds varies widely depending
on State laws and on the characteristics of the particular
bond issue. You must determine the type of long-term
financing (general obligation or revenue) very early in
the process before notes are sold to provide for interim
financing. As a rule of thumb, you should begin
preparing for the bond issue (as described below) no less
than three months before the desired closing date
(assuming that a bond election, if required, took place
prior to construction). You must work closely with bond
counsel and the financial advisor to set a realistic bond
sale schedule.
Issuing bonds consists of three major phases: design,
marketing, and closing. As indicated in Chapter III, the
selection and design of the permanent financing
arrangement must occur prior to the issuance of short-
term debt to fund construction. BANs are secured by
the ability of the community to sell its long-term debt.
All steps necessary to allow the community to issue its
long-term debt, whether it be general obligation or
revenue debt, must be completed before BANs are
issued. The decision on the form that the permanent
financing will take, therefore, is made very early in the
planning process. The actual marketing, sale, and closing
of the long-term financing are accomplished in the
project completion phase. These processes are described
below.
Marketing the Issue
Once the structure of the issue is decided, you must
begin the marketing process. The first task is to prepare
the following necessary bond sale documents:
An official statement. It presents the terms by which
the bonds are to be offered, as well as financial and
economic information on the issuing agency and the
community as a whole. It is crucial that the financial
advisor coordinate the preparation and distribution
of the official statement to ensure its completeness
and accuracy.
A notice of sale. Prepared by bond counsel, this
notice is published as required by State or local law.
It summarizes the structure of the issue and the
terms of the sale.
An official bid form. Prepared by the financial
advisor and bond counsel, it is used to present the
bids. This form serves as the preliminary agreement
between the issuer and the underwriter who
purchases the bonds.
An indenture (see the discussion of the design phase
in Chapter III). This will be prepared by bond
counsel and the financial advisor. As when short-
term financing is chosen, the issuer's finance officer
and attorney should carefully review the agreement
to ensure understanding of its relationship to future
system operation.
The second task is to obtain a bond rating on the
proposed issue. Bonds may be sold without a rating, but
investors sometimes expect higher interest rates in
exchange for the lack of an independent appraisal of the
creditworthiness of the issue. A small issue that will be
sold mainly to local investors, however, does not usually
need to be rated.
**************
TIP: The financial advisor should solicit input from
potential underwriters to determine the need for a rating
on small issues. If you have outstanding debt that has
been rated, all subsequent issues with the same security
should also be rated. Failure to request a rating of a new
issue with the same security provisions as currently
rated debt could result in the withdrawal of the existing
rating.
Bond issues can be rated for a fee by one of the major
rating agencies located in New York City. The rating is
then periodically reviewed until the bond is paid off. A
rating expresses the quality of a bond and its credit risk.
The four principal factors evaluated to rate a general
obligation bond are the issuer's current and planned
debt burden, financial strength, administrative abilities,
and the community's economic condition. For revenue
-------
53
bonds, the revenue-producing potential of the project is
of primary importance. The financial advisor will
normally assist in securing a rating. It is extremely
important that all information requested by the rating
agency be submitted well before the sale. The rating will
normally be assigned and released to the investment
community several days before the sale.
If the issue is to be competitively sold, a third task in
marketing is to advertise the bonds for prospective
investors. Advertisements should be placed in
nationally recognized sources of information on the
municipal bond market, such as The Bond Buyer, and in
local newspapers. Official statements should be sent to
banks and underwriters identified by the financial
advisor and to any other potential purchasers who
express interest.
Closing the Sale
The issue is completed with the following steps:
Award the bids. The award is made in conjunction
with bond counsel and financial advisor after all bids
have been received, verified, and tabulated. The
formal award is usually made by the governing body.
Print the bonds. Bonds are usually printed by
financial printers. Timing the printing of the bonds
to be completed shortly after the sale of the bonds is
important because the paying agent and registrar
must have several days to prepare the bonds for
delivery at closing.
Close the bond issue. At closing, the financial advisor
will verify final closing figures (the amount the
purchaser owes the municipality). Closing documents
prepared by bond counsel and the issuer are
provided as a formal record of the transaction to the
paying agent/registrar and the underwriter.
Establish payment mechanisms. The paying
agent/registrar will formally adopt systems for
making interest and principal payments and for
transferring bonds between owners. The issuer
should also establish a schedule of payments to assist
in cash-flow planning throughout the life of the
bonds.
PREPARING FOR
THE GRANT AUDIT
All construction projects that are funded by EPA grants
may be subject to an audit by the Agency's Office of the
Inspector General before the grant is formally closed.
For additional information, refer to the EPA brochure
entitled, "What to Do Before and After the Auditors
Arrive." The purpose of the audit is to verify that all
expenditures to be reimbursed by the grant are properly
authorized, documented, and eligible for grant funding.
You and your contractor must maintain complete and
orderly records. When you are notified that an audit will
take place, staff should assemble the following records
that will be needed by the auditor:
grant applications, agreements, amendments, and
contracts;
accounting records that document receipt and
disbursement of funds, payroll expenses, travel,
payments to contractors, purchases of equipment and
supplies related to the project, and documentation of
in-kind (non-cash) payments;
project bank account statements and cancelled
checks;
copies of all reports required under the grant (e.g.,
progress reports, facility plans, user fees, and
industrial cost recovery reports);
copies of financial status reports (budgets, budget
reports, cash-flow reports, etc.) and copies of outlay
reports and requests for reimbursement;
copies of plans, specifications, change orders, and
"as-built" drawings;
copies of public notices of property acquisition and
relocation actions; and
Copies of audits conducted under OMB Circular A-
128. (EPA auditors will build on the work of the A-
128 audit to the extent possible.)
An audit will be a less difficult process if you have
developed a logical system for retaining records.
Auditors will work with your staff to discuss the
scope of the audit and will also discuss the findings
of the audit before a final report is issued. You will
be given an opportunity to respond to all audit
findings and exceptions.
CONCLUSION:
SAFE AT HOME
Exhibit 13 shows the efforts required of your
community to complete the project. The common
element in the three processes covered in this section is
the need to plan ahead for completing the project. The
community that "gets a jump" on this process is likely
to have its new charges adopted well in advance of their
implementation, complete the bond sale successfully,
and have no trouble with the audit. You will have
reached home plate because you looked ahead to the
next base, planned your route, and minimized the risk of
getting tagged out.
-------
54
Exhibit 13
Matrix of Functions Performed in
the Project Completion Phase
*******
What is Done
mommmm^m
IMPLEMENTING
USER
CHARGES
SELLING
BONDS
PREPARING
FOR
AUDIT
MANAGING
THE
PROJECT
Who Does it
^^H-
Attorney
Finance
Officer
Finance
Officer
Project
Manager
When
HHI^
Before facility
is operational
Before short-term
financing matures
When all receipts
have been collected
and all
disbursements have
been made
Throughout
the project
To and With Wh
^^^^
Chief Administrator
Legislative Body
Bond Counsel
Financial Advisor
Finance Staff
Purchasing Agent
All team members
involved in this
phase
-------
CHAPTER VI
Conclusion:
the post-game
wrap-up
By following the handbook's approach to financial
management, you can score a run by successfully
completing your waste water treatment facility. The feat
is made possible by an approach to the problem that
realizes the necessity of rounding the diamond just one
base at a time. You reach first base with a
comprehensive capital plan, a well-rounded team of
employees and consultants and a well thought out
project design. You proceed to second with sound
interim financing, a good construction contract, and
careful budgeting and cash-flow planning. Once on
second, you advance to third by building the facility,
backing up construction with conservative investment
practices, strong contract management, well-
documented accounting, and regular financial reporting.
The circuit is completed by setting user charges,
arranging permanent financing, and preparing records
for the grant audit.
The importance of this incremental, one-base-at-a-time
approach cannot be emphasized strongly enough. You
simply cannot expect to build a facility successfully
without laying out the groundwork in the previous
phases. Examples of the foolishness of any other
approach abound. You may put yourself in a real bind if
you cannot sell bonds because you failed to understand
the legal restrictions on bonding early in the process;
you cannot arrange correct interim financing without
understanding the total budget, the cash-flow patterns,
and arbitrage restrictions; you cannot use the
construction contract to force adequate performance if
you did not develop a sound contract in the first place.
All of these problems can and do happen in facility
construction projects where the community fails to
manage the project properly. You can be sure to avoid
them by carefully following the steps, in the right order,
as recommended in this handbook.
As noted in Chapter I, this handbook cannot cover every
detail of managing finances during construction.
Appendix A contains a glossary of terms that are
common in project financing, and Appendix B contains
a bibliography of additional reference materials. While
the handbook provides a good introduction and overview
of the process, you will need to refer frequently to the
EPA regulations as well as to more detailed materials in
order to ensure success. By using these sources, and by
carefully planning, controlling, and managing the
process, you will ensure that your community gets its
new treatment facility with no financial problems.
57
-------
59
Appendix A: Glossary
Accounting System
The total set of records and procedures which are used to record,
classify, and report information on the financial status and operation
of an entity, (p. 6)
Accrual Basis of Accounting
The method of accounting under which revenues are recorded when
they are earned (whether or not cash is received at that time) and
expenses are recorded when goods and services are received or
incurred (whether cash disbursements are made at that time or not).
(See also "Modified Accrual Basis of Accounting" and "Cash Basis
of Accounting.") (p. 42)
Appropriation
An authorization made by the legislative body of a government
which permits officials to incur obligations against and to make
expenditures of governmental resources. Appropriations are usually
made for fixed amounts and are typically granted for a one-year
period, (p. 7)
Arbitrage
Borrowing money in the tax-exempt market (through issuing notes
or bonds) and then reinvesting that money at higher, taxable
interest rates, (p. 22)
Audit
A systematic examination of resource utilization concluding in a
written report. It is a test of management's internal accounting
controls and is intended to:
ascertain whether financial statements fairly present the financial
position of the community and results of operations;
test whether transactions have been legally performed;
identify areas for possible improvements in accounting practices
and procedures;
ascertain whether transactions have been recorded accurately
and consistently; and
ascertain how faithfully officials performed their responsibilites.
(p. 7)
Balance Sheet
A statement purporting to present the financial position of an entity
by disclosing the value of its assets, liabilities, and equities as of a
specified date. (p. 45)
Bond
A written promise to pay (debt) a specified sum of money (called
principal or face value) at a specified future date (called the
maturity date) along with periodic interest paid at a specified
percentage of the principal (interest rate). Bonds are typically used
for long-term debt. (p. 6)
Bond Anticipation Notes
Short-term interest bearing notes issued in anticipation of bonds to
be issued at a later date. The notes are retired from proceeds of the
bond issue to which they are related, (p. 22)
Bond Indentures
A legal document that spells out the obligations of a community in
connection with the issuance of debt. (p. 26)
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60
Glossary Budget (Capital)
A plan of proposed capital expenditures and the means of financing
them. The capital budget is usually enacted as part of the complete
annual budget which includes both operating and capital outlays.
The capital budget should be based on a capital improvement
program, (p. 7)
Budget (Operating)
Plans of current expenditures and the proposed means of financing
them. The annual operating budget (or, in the case of some State
governments, the biennial operating budget) is the primary means
by which most of the financing acquisition, spending, and service
delivery activities of a government are controlled. The use of annual
operating budgets is usually required by law. Even where not
required by law, however, annual operating budgets are essential to
sound financial management and should be adopted by every
government, (p. 10)
Capital Assets
Assets of significant value and having a useful life of several years.
Capital assets are also called fixed assets, (p. 8)
Capital Improvement Program
A plan for capital expenditures to be incurred each year over a fixed
period of several future years setting forth each capital project,
identifying the expected beginning and ending date for each project,
the amount to be expended in each year, and the method of
financing those expenditures, (p. 6)
Capital Outlays
Expenditures which result in the acquisition of, or addition to, fixed
assets, (p. 34)
Capital Projects
Projects which purchase or construct capital assets. Typically, a
capital project encompasses a purchase of land and the construction
of a building or facility, (p. 5)
Cash Basis of Accounting
A basis of accounting under which transactions are recognized only
when cash changes hands. (See also "Accrual Basis of Accounting"
and "Modified Accrual Basis of Accounting.")
Cash-Flow Forecast
A projection of the cash receipts and disbursements anticipated
during a given time period. Typically, this projection covers a year
and is broken down into separate projections for each month, week,
and day during the year.
Certificate of Deposit
A negotiable or non-negotiable receipt for monies deposited in a
bank or other financial institution for a specified period at a
specified rate of interest, (p. 43)
Collateralization
The process of providing additional security for an investment by
setting aside other securities that will be available to the investor in
the event of a loss on the original investment, (p. 43)
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61
Cost Accounting
The method of accounting which provides for assembling and
recording all the elements of cost incurred to accomplish a purpose,
to carry on an activity or operation, or to complete a unit of work or
a specific job.
Debt
An obligation resulting from the borrowing of money or from the
purchase of goods and services. Debts of governments include
bonds, time warrants, and floating debt. (p. 6)
Debt Limit
The maximum amount of gross or net debt which is legally
permitted, (p. 7)
Debt Service
Payment of interest and repayment of principal to holders of a
government's debt instruments, (p. 7)
Debt Service Fund
A fund established to provide for the payment of principal and
interest on long-term debt. Also called a sinking fund.
Debt Service Reserve
Funds set aside (usually from issue proceeds) to provide additional
security for a debt obligation. The amount is usually equal to either
average annual debt service or maximum annual debt service.
(p. 10)
Deficit
(1) The excess of the liabilities of a fund over its assets. (2) The
excess of expenditures over revenues during an accounting period,
or in the case of proprietary funds, the excess of expense over
income during an accounting period.
Demand Deposit
A deposit of monies where the monies are payable by the bank upon
demand.
Depreciation
The decline in value of a fixed asset over time as a result of wear
and tear, deterioration, action of the physical elements, inadequacy,
and obsolescence, (p. 41)
Direct Net Debt
Gross direct debt less debt that is self-supporting (revenue bonds)
and double-barreled bonds (general obligation bonds secured by
earmarked revenues which flow outside the general fund).
Double-Barreled Bonds
General obligation bonds that are initially secured by a stream of
revenues or special assessments.
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62
Encumbrances
Obligations in the form of purchase orders, contracts, or salary
commitments which are chargeable to an appropriation and for
which a part of the appropriation is reserved.
Enterprise Fund
A fund established to account for operations (a) that are financed
and operated in a manner similar to private business enterprises,
where the intent of the governing body is that the costs (expenses,
including depreciation) of providing goods or services to the general
public on a continuing basis be financed or recovered primarily
through user charges, or (b) where the governing body has decided
that periodic determination of revenues earned, expenses incurred,
and net income is appropriate for capital maintenance, public
policy, management control, accountability, or other purposes.
Examples of enterprise funds are those for wastewater treatment
systems, water, gas, electric utilities, swimming pools, airports,
parking garages, and transit systems, (p. 34)
Enterprise Fund Accounting
Accounting used for government operations that are financed and
operated in a manner similar to business enterprises, and for which
preparation of an income statement is desirable. Unlike
governmental-type funds which are accounted for on the modified
accrual basis, enterprise-type funds are accounted for on an accrual
basis.
Expenditures
Decreases in net financial resources. Expenditures include current
operating expenses which require the current or future use of net
current assets, debt service, and capital outlays, (p. 6)
Expenses
Decreases in net total assets. Expenses represent the total cost of
operations during a period regardless of the timing of related
expenditures, (p. 22)
Fixed Assets
Assets of a long-term character which are intended to continue to be
held or used, such as land, buildings, improvements other than
buildings, machinery, and equipment.
Floating Debt
Obligations that are payable either on demand or with very short
maturities, such as accounts payable, bank loans, or warrants.
Full Faith and Credit
A pledge of the general taxing power for the payment of debt
obligations. Bonds carrying such pledges are referred to as general
obligation bonds or full faith and credit bonds, (p. 42)
Fund
A fiscal and accounting entity with a self-balancing set of accounts
recording cash and other financial resources, together with all
related liabilities and residual equities or balances, and changes
therein, which are segregated for the purpose of carrying on specific
activities or attaining certain objectives in accordance with special
regulations, restrictions, or limitations.
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63
Fund Balance
The excess of an entity's assets over its liabilities. A negative fund
balance is called a deficit, (p. 31)
General Fund
The fund used to account for all financial resources except those
required to be accounted for in another fund.
General Obligation Bonds
When a government pledges its full faith and credit to the
repayment of the bonds it issues, then those bonds are general
obligation (GO) bonds. Sometimes the term is also used to refer to
bonds which are to be repaid from taxes and other general revenues.
(P-7)
Generally Accepted Accounting Principles (GAAP)
Uniform minimum standards of and guidelines to financial
accounting and reporting. They govern the form and content of the
basic financial statements of an entity. GAAP encompass the
conventions, rules, and procedures necessary to define accepted
accounting practice at a particular time. They include not only
broad guidelines of general application, but also detailed practices
and procedures. GAAP provide a standard by which to measure
financial presentations. The primary authoritative statement on the
application of GAAP to State and local governments is the National
Council on Governmental Accounting's Statement 1. Every
government should prepare and publish financial statements in
conformity with GAAP. The objectives of governmental GAAP
financial reports are different from, and much broader than, the
objectives of business enterprise GAAP financial reports.
Generally Accepted Auditing Standards (GAAS)
Measures of the quality of the performance of auditing procedures
and the objectives to be attained through their use. They are
concerned with the auditor's professional qualities and with the
judgment exercised in the performance of an audit. Generally
accepted auditing standards have been prescribed by (1) the
American Insititute of Certified Public Accountants (AICPA) and
(2) the U.S. General Accounting Office (GAO) in Standards for
Audit of Governmental Organizations, Programs, Activities, &
Functions (the "yellow" book).
Gross Direct Debt
The total amount of bonded debt of a government (general
obligation bonds plus revenue bonds).
Industrial Development Bonds
State and local government bonds issued to finance private projects
that are usually only backed by revenues from the facility being
financed (industrial revenue bond). They are almost always tax-
exempt, but only because they satisfy numerous legal requirements
regarding the size of issue, use of proceeds, and degree of private-
sector involvement. For an explanation of exemptions and
restrictions see Section 103(b) of the Internal Revenue Code. (Also
called industrial revenue bonds.)
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Glossary Internal Control
A plan of organization under which employees' duties are so
arranged and records and procedures so designed as to make it
possible to exercise effective accounting control over assets,
liabilities, revenues, and expenditures. Under such a system, the
work of employees is subdivided so that no single employee
performs a complete cycle of operations. Thus, for example, an
employee handling cash would not post the accounts receivable
records. Moreover, under such a system, the procedures to be
followed are definitely laid down and require proper authorizations
by designated officials for all actions to be taken, (p. 39)
Investment
Securities purchased and held for the production of income in the
form of interest or dividends, (p. 7)
Key Debt Ratios
Figures compiled from a broad cross-section of debt issuers that
provide a basis of comparison to determine municipal
creditworthiness. (p. 9)
Levy
(Verb) To impose taxes, special assessments, or service charges for
the support of governmental activities. (Noun) The total amount of
taxes, special assessments, or service charges imposed by a
governmental unit.
Liability
Debt or other legal obligation arising out of transactions in the past
which must be liquidated, renewed, or refunded at some future
date. This term does not include encumbrances.
Limited Liability Bonds
When a government issues bonds which do not pledge full faith and
credit of the jurisdiction, it issues limited liability bonds. Typically,
pledges are made to dedicate one specific revenue source to repay
these bonds, or some other special repayment arrangements are
made.
Line Item Budget
A budget prepared along departmental lines that focuses on what is
to be bought.
Liquidity (of Investments)
The ability to convert an investment to cash promptly with
minimum risk to principal or accrued interest, (p. 43)
Maturities
The dates on which the principal or stated values of investments or
debt obligations mature and may be reclaimed, (p. 22)
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3 Modified Accrual Basis of Accounting
The accrual basis of accounting adapted to the governmental fund
type. Revenues are recognized when they become both
"measurable" and "available to finance expenditures of the current
period." Expenditures are recognized when the related fund liability
is incurred except for: (1) inventories of materials and supplies
which may be considered expenditures either when purchased or
when used; (2) prepaid insurance and similar items which need not
be reported; (3) accumulated unpaid vacation, sick pay, and other
employee benefit amounts which need not be recognized in the
current period, but for which larger-than-normal accumulations
must be disclosed in the notes to the financial statements; (4)
interest on special assessment indebtedness which may be recorded
when due rather than accrued, if approximately offset by interest
earnings on special assessment levies; and (5) principal and interest
on long-term debt which are generally recognized when due. All
governmental funds and expendable trust funds are accounted for
using the modified accrual basis of accounting.
Net Income
The excess of operating revenues, nonoperating revenues, and
operating transfers-in over operating expenses, nonoperating
expenses, and operating transfers-out.
Net Interest Cost (NIC)
The average interest rate on a bond issue, used as an equivalent of
simple interest and the amount of the issue, (p. 24)
Objects of Expenditure
Expenditure classifications based upon the types or categories of
goods and services purchased. Typical objects of expenditure
include:
personal services (salaries and wages);
contracted services (utilities, maintenance contracts, travel);
supplies and materials; and
capital outlays.
Official Statement
A legal document which summarizes all the salient features of the
underlying documents and agreements which support a municipal
bond offering. It is considered the disclosure document which
presents information that is "material" to the offering. The official
statement should contain everything a reasonable investor would
need to know in making a decision about the issue. Thus this
document will usually include a description of the issuer, a
description of the security of the bond, a summary of the principal
financing documents, any feasibility studies which relate to the
security, and any other "key information." (p. 16)
Operating Budget
Plans for current expenditures and the proposed means of financing
them. The annual operating budget (or, in the case of some State
governments, the biennial operating budget) is the primary means
by which most of the financing acquisition, spending, and service
delivery activities of a government are controlled. The use of annual
operating budgets is usually required by law. Even where not
required by law, however, annual operating budgets are essential to
sound financial management and should be adopted by every
government, (p. 10)
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Glossary .
" Operating Expenses
Proprietary fund expenses which are directly related to the fund's
primary service activities, (p. 34)
Operating Income
The excess of proprietary fund operating revenues over operating
expenses, (p. 26)
Operating Revenues
Proprietary fund revenues which are directly related to the fund's
primary service activities. They consist primarily of user charges for
services.
Operation, Maintenance and Replacement
Activities required to assure the dependable and economical
function of treatment works. (1) Maintenance: Preservation of
functional integrity and efficiency of equipment and structures.
This includes preventive maintenance, corrective maintenance, and
replacement of equipment. (2) Operation: Control of the unit
processes and equipment which make up the treatment works. This
includes financial and personnel management records, laboratory
control, process control, safety, and emergency operation planning.
(p. 16)
Opportunity Cost
The return in benefit that would have been received if an alternative
course of action had been pursued.
Overall Net Debt
The sum of direct net debt and overlapping debt.
Overlapping Debt
The proportionate share of the debt of local governments located
wholly or in part within the limits of the reporting government
which must be borne by property within the reporting government.
Purchase Order
A document which authorizes the delivery of specified merchandise
or the rendering of certain services and the making of a charge for
them.
Quarterly Expenditure Plan
The annual budget for a governmental activity can be subdivided
into four three-month budgets, called quarterly expenditure plans.
They can be used to monitor actual expenditures more closely and
to identify problems more quickly than can be done with the annual
budget.
Replacement
Obtaining and installing equipment or accessories which are
necessary during the useful life of the treatment works to maintain
the capacity and performance for which such works were designed
and constructed, (p. 8)
Replacement Cost
The cost as of a certain date of a property which can render similar
service (but which need not be of the same structural form) as the
property to be replaced, (p. 8)
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Glossary
" Requisition
A written demand or request, usually from one department to the
purchasing officer or to another department, for specified articles or
services.
Reserve
An account used to indicate that a portion of fund equity is legally
restricted for a specific purpose or not available for appropriation
and subsequent spending, (p. 8)
Revenue
The term designates an increase to a fund's assets from sources
other than refunds, capital contributions, residual equity transfers,
loan proceeds, or transfers-in. (p. 8)
Revenue Bonds
Bonds whose principal and interest are payable exclusively from
earnings of an enterprise fund. In addition to a pledge of revenues,
such bonds sometimes contain a mortgage on the enterprise fund's
property, (p. 8)
Revenue Debt Capacity
The amount of revenue debt that can be secured by the stream of
revenue pledged to redeem that debt. (p. 10)
Revenue Estimate
A formal estimate of how much revenue will be earned from a
specific revenue source for some future period; typically, a future
fiscal year.
"Rolling" the Notes
The reissuance of short-term debt at maturity to provide additional
time to either complete construction of the facility being financed or
to redeem the debt.
Serial Bonds
Bonds whose principal is repaid in periodic installments over the
life of the issue, (p. 26)
Sewer Service Charge
The total system charge for wastewater treatment services,
including user charges and debt service charges.
Sinking Fund
A fund established to account for the accumulation of resources for,
and the payment of, the principal and interest of general long-term
debt. (p. 26)
Special Assessment
A compulsory levy made against certain properties to defray part or
all of the cost of a specific improvement or service deemed to
primarily benefit those properties.
Special Assessment Bonds
Bonds payable from the proceeds of special assessments. If the
bonds are payable only from the collections of special assessments,
they are known as special assessment bonds. If, in addition to the
assessments, the full faith and credit of the government are pledged,
they are known as general obligation special assessment bonds or
double-barreled bonds.
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Glossary ., ^. .
* Special Assessment District
A legally established area for the express purpose of levying a
special fee for public improvements that are of a special rather than
general benefit, (p. 9)
Special Assessment Fund
A fund used to account for the financing of public improvements or
services deemed to benefit primarily the properties against which
special assessments are levied.
Special District Bonds
Bonds issued by a special district.
Tax Rate Limit
The maximum legal rate at which a municipality may levy a tax.
The limit may apply to taxes raised for a particular purpose or for
general purposes.
Term Bonds
Bonds which mature in a single, large block on some future date
(usually 10-20 years). Redemption is usually made from funds
deposited into a sinking fund each year. (p. 26)
Transfer
The movement of monies from one fund to another, (p. 8)
Unit Cost
A term used in cost accounting to denote the cost of producing a
unit of product or rendering a unit of service; for example, the cost
of treating 1,000 gallons of sewage.
User Charge or User Charge System
A charge or system of charges levied on users of a treatment works
for the user's proportionate share of the cost of operation and
maintenance (including replacement) of such works under sections
204(b)(l)(A) and 201(h)(2) of the Clean Water Act. (p. 6)
Variable Cost
A cost that increases or decreases with increases or decreases in the
amount of service provided, such as the payment of a salary.
Voucher
A written document which is evidence of the propriety of a
particular transaction and typically indicates the amounts to be
affected by the transaction.
Warrant
(1) A certificate enabling the bearer to purchase additional bonds of
a particular entity within a limited time period at a pre-specified
coupon rate. (2) A short-term security that represents a liability of
the issuer to be paid on a certain date, often placed directly with a
vendor or a bank.
Yield
The rate earned on an investment based on the price paid for the
investment, the interest earned during the period held, and the
selling price or redemption value of the investment, (p. 43)
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Appendix B: Bibliography
Environmental Protection Agency. Accounting Guide for
Construction Grants. Washington, DC: EPA, 1977 (29pp).
Environmental Protection Agency. Construction Grants 1985.
Washington, DC: EPA, 1984 (300pp).
Environmental Protection Agency. Construction Grants Program
for Municipal Wastewater Treatment Works: Handbook of
Procedures. Washington, DC: EPA, October 1, 1984 (962pp).
Environmental Protection Agency. Financial Capability Guidebook.
Washington, DC: EPA, 1984 (68pp).
Environmental Protection Agency. Management of a Construction
Project: A Guide for Grantees. Washington, DC: EPA, 1986.
Environmental Protection Agency. Management of Construction
Change Orders: A Guide for Grantees. Washington, DC: EPA,
March 1983.
Environmental Protection Agency. Office of Inspector General
Report to Congress. Washington, DC: EPA, 1985 (lOpp).
Environmental Protection Agency. Prevention and Resolution of
Contractor Claims: EPA Construction Grant Program Guidance for
Municipal Grants. Washington, DC: EPA, March 1985 (llpp).
Environmental Protection Agency. User Charge Guidance Manual
for Publicly-Owned Treatment Works. Washington, DC: EPA,
1984 (25pp).
Graves, Ralph E. Manual of Procurement Codes and Practices for
Local Government. Washington, DC: Urban Management
Curriculum and Development Project (lOOpp).
Korbitz, William E. Urban Public Works Administration.
Washington, DC: International City Management Association, 1976
(563 pp).
Matzer, John Jr. Capital Financing Strategies for Local
Governments. Washington, DC: International City Management
Association, 1983 (208pp).
Miller, Girard. Capital Budgeting: Blueprints for Change. Chicago,
IL: Government Finance Officers Association, 1984 (313pp).
Moak, Lennox L. and Hillhouse, Albert M. Concepts and Practices
in Local Governmental Finance. Chicago, IL: Municipal Finance
Officers Association, 1975 (454pp).
Moak, Lennox L. Municipal Bonds: Planning., Sale and
Administration. Chicago, IL: Municipal Finance Officers
Association, 1982 (405pp).
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Bibliography
Moak, Lennox L. and Killian, Kathryn W. Operating Budget
Manual. Chicago, IL: Municipal Finance Officers Association, 1983
(347pp).
Moody's Investors Service. Pitfalls In Issuing Municipal Securities.
New York, NY: MIS, 1963 (83pp).
National Institute of Governmental Purchasing. Basic Public
Purchasing and Materials Management. Arlington, VA: National
Institute of Government Purchasing, 1977 (193pp).
Petersen, John E. and Hough, Wesley C. Creative Capital
Financing for State and Local Government. Chicago, IL:
Municipal Finance Officers Association, 1983 (256pp).
Public Securities Association. Fundamentals of Municipal Bonds.
New York, NY: PSA, 1981 (208pp).
Rosenberg, Philip. A Treatment Management Handbook for Small
Cities and Other Governmental Units. Chicago, IL: Municipal
Finance Officers Association, 1978 (98pp).
Rosenberg, Philip. A Treatment Management Handbook for Small
Cities and Other Governmental Units. Second Printing. Chicago,
IL: Municipal Finance Officers Association, 1979 (76pp).
Standard and Poor's. Credit Overview: Municipal Ratings. New
York, NY: Standard and Poor's, 1983 (104pp).
West Virginia Water Development Authority. Financial Tracking
Manual Dunbar, WV: WDA, 1985 (70pp).
U.S. Environmental Protection Agency
Region V, [Jbrzry
230 South Dearborn Street -'~'
Chicago, Illinois 60604
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