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TABLE OF CONTENTS (Continued)
IV. RESULTS OF THE COST MODEL FOR CLOSURE AND POST-CLOSURE
REQUIREMENTS IV-1
A. Direct Public and Private Costs IV-1
B. Sensitivity Analysis IV-7
C. Analysis of the $10 Million in Net Worth Requirement IV-15
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I. GENERAL APPROACH
The purpose of this section is to orovide a non-technical and non-
mathematical summary of the approach used in determining costs. It is
divided into three sections. Section A defines the costs to be
analyzed. Section B presents an overview of the structure of the cost
model. Section C sets forth the costing conventions used in this
Aopendix.
A. Types of Costs Analyzed
Two types of costs are examined by the Agency: direct public costs
and private costs.
1. Direct Public Costs
Direct public costs are defined as those costs of closure and post-
closure that must be borne by someone other than the owner or operator
of a hazardous waste TSDF. Thus, if the funds available from a
financial mechanism at the time of need were inadequate, but funds could
be recovered from the firm through legal proceedings, the Agency did not
count such recovered funds as part of the direct public costs. Any
costs of litigation associated with the recovery of funds from bankrupt^-
firms were not included in direct public costs. Costs that did not
differ with respect to the choice of financial mechanisms were also not
counted as direct public costs. Thus, costs of facility cleanup and
repair, liability judgments and costs to the Agency of administering the
regulation and processing reports were not included.
In this Appendix, the terms bankruptcy and business failure are used
interchangeably to connote an economic rather than a legal condition.
1-1
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Within the broad category of direct public costs associated with
closure and post-closure financial responsibility, the Agency considered
two sources of direct public costs:
(1) Direct public costs due to failure of firms using a letter of
credit. These are all costs of closure and post-closure that cannot be
adequately funded from the letter of credit or from any other funds
recovered from the firm.
(2) Direct public costs due to the failure of firms using a finan-
cial test. These are all costs of closure and post-closure that cannot
be recovered through legal proceedings for firms that pass the financial
test and later enter bankruptcy without oroviding other mechanisms of
financial assurance.
2. Private Costs
Private costs were defined as the costs to the regulated community
of obtaining financial mechanisms to serve as assurances of financial
responsibility. Such costs include fees for letters of credit, fees for
surety bonds, trustee fees, and costs of financial reports. Because the
function of the cost analysis was to compare the costs of the financial
mechanisms used to satisfy the closure and post-closure requirements,
only the differential costs of mechanisms were measured. Costs that all
financial mechanisms have in common, such as the costs to the owner or
r
operator of preparing and revising cost estimates, time spent on
decision-making with respect to choice of financial mechanism, and other
routine management costs associated with maintaining any financial
mechanism, were not included in private costs.
1-2
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For the analysis of financial tests providing financial assurance
for closure and post-closure care, two types of private costs were
considered:
(1) The private costs of a letter of credit. This cost includes
the fees for the letters of credit but does not include the fees, which
were assumed to be minimal, for the accompanying standby trust funds. A
letter of credit's effect on future borrowing costs is not included as a
cost of a letter of credit, because it would be extremely difficult to
distinguish this effect from the more general effect of having a certain
future obligation (i.e., to perform closure or post-closure care) for
which the letter of credit only provides a type of third-party
guarantee. Borrowing costs for all owners or operators without regard
to which financial assurance mechanism is provided may be affected by
closure and post-closure financial assurance obligations.
The letter of credit was chosen as the instrument whose costs would
be analyzed in comparison to the costs of a financial test because it is
the instrument most likely to be used by firms of greater than $10
million in net worth that are independently audited, and because it will
probably be the least expensive instrument. Both the letter of credit
and the surety bond will be less expensive than the trust fund; the
letter of credit will be more readily available, particularly to firms
that can supply collateral or which have established credit, and will
probably be slightly less expensive than the surety bond.
(2) The private costs of a financial test. This cost includes the
annual preparation of auditors' special reports. Since only firms that
1-3
-------
are independently audited are eligible for a 'financial test, the private
costs of the financial test include only the preparation of the audi-
tor's special report and not the cost of the audit itself.
One limitation of this analysis is that it assumes that firms which
are not reauired by SEC regulations to be independently audited will not
do so for the sole purpose of satisfying a financial test rather than
providing one of the alternate forms of financial responsibility. It is
possible, however, that a privately-held company, or any other company
not required by the SEC to be independently audited, might choose to
undergo annual independent audits if otherwise faced with having to set
up a trust fund.
A small CPA firm estimated the following costs for full, high
quality audits assuming that the firms to be audited exhibited good
internal controls, bookkeeping systems, and procedures:
o For firms with sales of approximately 3250,000 and one
location, audits could range between $2,500 and 33,000.
o For firms with sales of approximately $500,000 and one
location, audits could range between $3,000 and $6,000.
o For firms with sales of approximately $1,000,000 and one
location, an audit could range between $5,000 and $8,000.
o For firms with sales of approximately $10,000,000 and one
location, an audit could range between $10,000 and
$20,000. At two locations, it could range between $15,000
and $25,000. At three locations, it could range between
$20,000 and $30,000.
The average annual cost of a letter of credit, per facility, is
approximately $745. Therefore, only firms which own an unusually large
number of facilities or an unusually large facility, or which exhibit
financial characteristics which would allow them to satisfy a financial
1-4
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test but not get a letter of credit (leaving only the trust fund option)
would probably choose the option of getting an independent audit.
B. Overview of the Cost Model
In Appendix A, over 300 possible financial tests were examined with
respect to their accuracy in classifying non-bankrupt firms (A^jg) and
the number of firms per 10,000 that pass them and later enter bankruptcy
without providing alternate financial assurance (E). Ajjg represents the
percentage of non-bankrupt firms that pass a given test; since the
number of bankrupt firms per 10,000 firms is so small, ANB effectively
represents the percentage of all firms that pass a given test. This
Appendix will examine the costs of the tests on the performance curves
described in Appendix,A using the primary sample of bankrupt and non-
bankrupt firms and the most probable estimates for the number of firms
per 10,000 that pass the financial tests and then go bankrupt without
providing alternate financial assurance (Ep). The primary sample of
bankrupt and non-bankrupt firms did not include any public utilities.
Although no data are available on the share of all hazardous waste
management facilities owned by public utilities, it is believed to be
relatively small.
All of the tests examined in Appendix A have in common the follow-
ing two reauirements for firms wishing to pass the test:
(1) The firm must have a minimum net worth of $10 million: and
(2) The firm must have net worth and net working capital of at
least six times the estimated closure and cost-closure costs and 6 times
the liability requirements. An analysis of the effects of dropoing the
1-5
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$10 million in net worth requirement from the proposed test is examined
for closure and post-closure financial responsibility in Section IV.C of
this Appendix. Since little or no data are available on the precise
distribution of the number of facilities and their closure and post-
closure costs by size of firm, the analysis is unable to take into
account the effect of multiple requirements on Ajjg and E.
The structure of the model for examining the direct public costs
and private costs of financial tests for closure and post-closure finan-
cial assurance is shown in Figure 1-1. The basis of the model is that a
firm with $10 million in net worth and independently audited will either
pass or fail any given financial test. The costs for firms with less
than $10 million in net worth or for those that are not independently
audited are not included. All firms that pass the test will incur the
private costs of a financial test, i.e., the costs of obtaining
auditors' special reports. If a firm which passes the test enters
bankruptcy without establishing an alternative financial mechanism prior
to bankruptcy, the direct public costs which are incurred are attributed
to the use of a financial test. In determining the amount of these
direct public costs the Agency assumed that 60 percent of the funds
needed for closure and post-closure care would be recovered in a
bankruptcy proceeding (for derivation of this recovery rate, see Section
III.E.). It was further assumed that the recovered funds would be
placed in a trust fund.
It is assumed that firms which fail a financial test will use a
letter of credit to provide financial assurance. The private costs
1-6
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FIGURE 1-1 .
STRUCTURE OF THE COST MODEL
FIRMS POTENTIALLY ABLE
TO USE SOME FINANCIAL TEST
PASS TEST
(PAY PRIVATE COSTS
OF FINANCIAL TEST)
FAIL TEST
(USE LETTER OF CREDIT)
(PAY FEES FOR LETTER
OF CREDIT)
DOES NOT
FAIL
BUSINESS FAILURE
(DIRECT PUBLIC
COSTS: 60% OF
FUNDS RECOVERED,
PLACED IN TRUST
FUND)
DOES NOT
FAIL
BUSINESS FAILURE
(DIRECT PUBLIC
COSTS: 60% OF
FUNDS NOT IN
LETTER OF CREDIT
RECOVERED, ALL
FUNDS PLACED IN
TRUST FUND)
1-7
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incurred by these firms are the fees for the letter of credit. For a'
firm using a letter of credit, two events may occur. First, the firm
may continue to be a non-bankrupt firm. In such a case, no public costs
will be incurred. Alternatively, the firm may enter bankruptcy. In
that case, direct public costs will be incurred. Again, the Agency
assumed that 60 percent of the closure and post-closure care costs not
covered by the letter of credit could ultimately be recovered from
bankruptcy, and the recovered funds would be placed in a trust fund (see
Section III.E.).
For any given financial test, the total private costs are computed
as the sum of the private costs of the financial test for those firms
able to pass that test and the fees associated with the letter of credit
for those firms unable to pass that test. The direct public costs of
that test are then computed as the sum of direct oublic costs due to
using a financial test for those firms able to pass the test that later
enter bankruptcy and direct public costs due to using a letter of credit
for those firms that fail a financial test and later enter bankruptcy.
C. Costing Conventions
All costs in this Appendix are presented as annual costs in real
1980 dollars. The annual costs presented are not equivalent to the
total expenditures required in any given year: rather these annual costs
include costs and the present value of all costs incurred for post-
closure care. In deriving private costs, post-closure costs are annual-
ized over the life of the facility. For direct public costs, the
present value expenditures that will be required over the entire post-
1-8
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closure period are presented as annual costs in the year the firm enters
bankruptcy and firm failures occurring in the post-closure period are
annualized back over the life of the facility. All costs are calculated
assuming a facility life of 20 years and a 30-year post-closure period.
The convention used in measuring private costs is the change in
revenue necessary to leave the profits of a firm unchanged, which is the
convention, usually employed in EPA regulatory analysis. The most
commonly used alternative convention is that of decline in profits to
the firm if it cannot increase revenues. The disadvantage to this
approach is that it would then require a third category of costs to be
calculated — costs to States and the Federal government due to losses
in corporate profits tax.
1-9
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II. STRUCTURE AND VARIABLES ~ THE COST ESTIMATING MODEL
This section includes a discussion of the equations used to
estimate public and private costs, the definitions of the variables
employed, and the values of the variables used in the estimates. It is
divided into three parts: Part A presents the summary equations for
computing the costs of any given financial test. Part B presents the
supporting equations used to compute the value of certain variables used
in Part A, and Part C presents the values of variables employed in the
equations and provides brief discussions of why these values were
assumed. (Section III presents more detailed support for the values of
many of the more important variables.)
A. Summary Equations for Computing total Annualized Costs of Alter-
native Financial Tests for Closure and Post-Closure Financial
Responsibility
Table II-l presents the formulae used to calculate total annualized
costs of direct public costs and private costs for any given financial
test for firms of greater than $10 million in net worth and
independently audited. Table II-2 presents the definitions of the
variables used in the equations. The constant term of the equation for
public costs due to failure of firms using a letter of credit ($142,000)
represents the public costs if all firms considered were to use a letter
of credit and go bankrupt at the failure rate for all large firms, i.e.,
22 per 10,000 (F). The constant term for public costs due to failure of
firms using a financial test represents the costs if all firms
considered were to use a financial test and go bankrupt at the failure
II-l
-------
TAItl.E II-I
I-OKMULAE FOR CALCULATING TOTAL ANNUALIZED COSTS OF DIRECT PUBLIC COSTS
AND PRIVATE COSTS OF CLOSURE AND POST-CLOSURE FOR ALL FIRMS WITH
GREATER THAN $1.0 MILLION IN NET WORTH AND INDEPENDENTLY AUDITED
Type of Cost
Formula
Value ol!" Constant Term
Public Costs due to
Failure of Firms using
a Letter of Credit
Public Costs due to
Failure of Firms Using
a Financial Test
Private Costs of Using
a Letter of Credit
Private Costs of Using
a Financial Test
142,000
/ P-A^E \
527,000
3,334,000
251,000 (A||B)
N C
i 1 Li
c
i i Fi
Sum of Public Costs if all
facilities use a letter of
Credit and fail at a rate
of .0022
Sum of Public Costs if all
facilities use a Financial
Test and fail at a rate of
.0022
Sum of Private Costs if all
facilities use a Letter of
Credit
Sum of Private Costs if all
facilities use a Financial
Test
Note: For definition of variables, see Table 11-2.
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TABLE I1-2
DEFINITIONS OF VARIABLES USED IN TABLE II-l
ANB = Percentage of viable firms that pass a given financial test
Cp = Annualized private costs of auditor's special report/
facility/year of facility life
C^ = Annualized private costs of fees for a letter of credit/
facility/year of facility life
E = Number of firms per 10,000 that pass a given financial test
that will go bankrupt without prividing alternate financial
assurance
F = Failure rate for all firms to which analysis is applied
i = Subscript for facility class (storage, incinerator, surface
impoundment, land disposal)
N = Number of facilities owned by firms with $10 million in net
worth and independently audited
PU_ = Direct public costs due to failure of firms using a financial
test/facility
PU = Direct public costs due to failure of firms using a letter of
credit/facility
II-3
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rate, F. The constants In the equations used to calculate the private
costs are the costs if all firms were either to use a letter of credit
or a financial test.
To determine the costs associated with any given financial test,
these constants must be proportionately adjusted to reflect the actual
numbers of firms which pass a given test but later go bankrupt without
providing other financial assurance.
B. Supporting Equations of the Model
1. Derivation of PUT (Direct public costs due to failure of firms using
" a letter of credit/facility)
Using a letter of credit to cover closure and post-closure could
incur direct public costs for the following reasons.
a. A letter of credit need only be annually adjusted for inflation
during the operating life of the facility.
The amount of funds guaranteed by a letter of credit will not
increase until and unless the letter of credit is adjusted. Only just
after it is adjusted will it sufficiently cover a cost estimate. It is
assumed that when the funds guaranteed by a letter of credit must actu-
Since all firms will either pass a financial test or fail the test and
use a letter of credit under the assumptions of this model, Ajjg repre-
sents for any given test the percentage of firms passing the test and
1-Aflg represents the percentage of firms which must use a letter of
credit. E represents for any given test the number of firms per 10,000
that pass the test but will later go bankrupt without providing alter-
native financial assurance. Therefore, A^gE equals the total number of
viable firms per 10,000 that pass any given test that will actually go
bankrupt. The term E enters into the variables PU^ and PUFi in a non-
linear manner during the post-closure oeriod. As a result, the approach
used here is an approximation of true direct public costs. However,
computations of the actual values showed that this approximation results
in errors of less than two percent given the very low values of E.
II-4
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ally be used, the letter of credit will be approximately 8 percent short
of the necessary coverage (due to failures to increase it and tine lags
even if it is increased).
b. A letter of credit need not be adjusted for inflation during the
post-closure period.
If inflation continues during the post-closure period, a letter of
credit will not sufficiently cover a post-closure cost estimate at most
points in time during post-closure. Assuming a constant annual infla-
tion rate of 8 percent and equal annual expenditures for post-closure
care, the amount of funds actually required to carry out post-closure
care would increase in any year in which the inflation rate (8 percent)
exceeds the fraction, one over the number of years remaining in the
post-closure period.
In order to entirely cover the post-closure cost estimate, the
letter of credit would have to increase until the 17th year of the oost-
closure period, i.e.,
30-18 (8.33%) > 8% > 30-!? (7.69%)
c. The funds guaranteed by a letter of credit will be deposited into a
trust fund if EPA has to direct closure or post-closure activities.
In the event that the funds guaranteed by a letter of credit for
oost-closure are deposited into a post-closure trust fund, it is neces-
sary to examine the real rate of return of a trust fund. Assuming a
-1.5 percent real rate of return, the real purchasing power of the trust
fund will decrease by 1.5 percent a year.
II-5
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d. A letter of credit may voluntarily be converted to a trust fund.
Firms which voluntarily switch from letters of credit to trust
funds need only deposit that portion of the cost estimate which the
trust fund would have contained if it had been established by the effec-
tive date of the regulation or before the initial receipt of hazardous
waste. This would be equal to the cost estimate times the number of
years since the effective date of the regulation or since the permit was
granted divided by the total estimated active life of the facility or
the term of the permit. Firms realizing that their letters of credit
might be cancelled could voluntarily switch to trust funds thereby
switching from a mechanism which guaranteed almost the entire cost
estimate to one which guaranteed only a portion of it. To analyze this
effect, it was assumed that the average build-up period for trust funds
would be 10 years and 20 percent of all firms which would ultimately go
bankrupt would convert their letters of credit to a trust fund volun-
tarily at some point prior to bankruptcy.
The formulae accounting for all of these direct public costs
incurred by letters of credit are given in Table II-3. This Table also
includes definitions of the variables employed.
2. Derivation of PUF (Direct public costs/facility due to failure of
firms using a financial test)
If a firm passes the financial test near the time of actual bank-
ruptcy, it is unlikely that there will be sufficient time for an alter-
native financial mechanism to be established. Consequently, all closure
^•Although this assumption oversimplifies the regulation, regardless of
the specific life of the facility or the term of the permit, switching
from a letter of credit to a trust fund may reduce the amount of funds
required to be deposited in a trust fund.
II-6
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M
i
TABLE II- 3
FORMULAE FOR PUL (DIRECT PUBLIC COSTS DUE TO FAILURE
OF FIIU4S USING A LETTER OF CREDIT/FACILITY)
Facility Life:
Closure
Facility Life:
Post-Closure
Post-Closure Period
10
l-d+r)
(Iff)
KCI)K
-JU
JO
.i£«L_ - n.,\ w: + WKC|.I -—
10-
10
(itf)
l-(Hr)
-To RCHPC
c
I'
h
PC
r
Kc
t
Closure costs
Failure rate for all firms to which analysis is applied
Rate of inflation
Average loss from a letter of credit due to failure to adjust tor
Inflation during facility life
Post-closure costs
Real interest rate
Share of closure and post-closure costs not recovered by bankruptcy proceedings
Time
Length of post-closure period
Rate at which firms which will luter go bankrupt voluntarily shift from a letter of
credit to a trust fund
-------
and post-closure costs must be collected from a bankrupt firm. However,
because all funds collected for post-closure must be placed in a trust
fund, further losses must be accounted for since the rate of return on
this trust fund will be inadequate to maintain the required real pur-
chasing power for post-closure care (see Section II.B.I.)•
The formulae for accounting for all these potential losses and thus
for deriving PUF are given in Table II-4. This Table also includes the
definitions of the variables employed.
3. Derivation of Cr (Annualized private costs of fees for a letter of
Cr (Ann
y/year)
credit/facility/year) and C? (Annualized private costs or auditor's
special report/facility/year
Once the costs of a letter of credit and a financial test have been
determined, they must be computed over the operating life of the facil-
ity and during post-closure. During facility life, the annual costs per
facility are simply the private costs given. For facilities requiring
oost-closure care, the present value of the cost of maintaining a letter
of credit or financial test through post-closure must be computed, and
then annualized over the life of the facility (which is assumed to be 20
years). Because the auditor's fee for a special report supporting the
financial test will increase with inflation while the fee for a letter
of credit will not, different formulae for determining the present value
of costs are necessary. These formulae are presented in Table II-5.
This Table also includes the definitions of the variables employed.
C. Values of Variables Used in the Model
Tables II-6 and II-7 present the values of variables used in esti-
mating the costs discussed in this model. Table II-6 describes the
II-8
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TABLE II-4
FORMULAE FOR PUp (DIRECT PUBLIC COSTS DUE TO FAILURE
OF FIRMS USINC A FINANCIAL TEST/FACILITY)
Facility Life:
Closure
RcpFC
Facility Life:
Post-Closurti
Period
R K l-(I+r)
(s f
-30
30
30r
30
I-*)1* l-d+r)30^ V
r\ . * -J\J
(H-r) *" r R PC \
30r
I' -
PC =
i =
R ,., =
t -
ft; costs
Failure rate for ail firms to which aualysia is applied
Post-closure costs
Real interest rate
Stiare of closure and post-closure costs not recovered from bankruptcy proceedings
Ti me
Length of post-closure period
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TABLE II-5
FORMULAE FOR DERIVING PER FACILITY PRIVATE COSTS
OF A LETTER OF CREDIT AND A FINANCIAL TEST
Financial
Assurance
Mechanism
Letter of Credit
Financial Test
Coverage Period
Facilitv-Life
CLS
CA
Post-Closure
-20 -30
l-(l+r)-20 <**> ^
(l+r)-20r l-(l+r)-30 .
l-(l+r)"20 r A
"LP
'LS
h
r
Private costs of auditor's special report/facility/year
Fees for letters of credit during post-closure/facility/year
Fees for letters of credit during facility life/facility/year
Rate of inflation
Real interest rate
II- 10
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TABLE II- 6
VALUES FOR VARIABLES THAT DO NOT VARY BY FACILITY TYPE
*Private costs (thousands of dollars) of auditor's special
report/facility/year (CA) = .075
Failure rate for all firms to which analysis is applied (F) - .0022
Rate of inflation (h) • .08
Average loss from a letter of credit due to failure to adjust
for inflation during facility life (L^) » .08
Real interest rate (r) = .03
Real rate of return on trust (rfc) = -.015
*Share of closure and post-closure costs not recovered
from bankruptcy proceedings
Rate at which firms which will later go bankrupt voluntarily
shift from a letter of credit to a trust fund (v)
*More detailed discussions on the values of these variables may be found
in Section III of this Appendix.
11-11
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TABLE II-7
ASSUMPTIONS WHICH VARY ACCORDING TO TYPE OF FACILITY
(costs measured in thousands of 1980 dollars per year)
1
Assumptions
1) Number of facilities (N)
(17% of total
facilities)*
2) Closure costs (C)
(per facility)*
3) Post-closure costs (PC)
(per facility) (equal
to 30 times the annual
post-closure costs)*
4) Fees for letter of
credit (during facility
life/ facility /year)
(.5% of face value of
closure costs) *
5) Fees for letter of
credit during post-
closure period/.facility/
^ear (CLP) (.5% of face
value of post-closure
Facility Type
Storage
1.292
15
0
.075
0
Incinerators
.153
50
0
.25
0
Surface
Impoundments
.680
60
300
1.8
1.5
Land
Disposal
.425
100
500
3
2.5
jn caa values of these variables may be
--•md in Section III of this Appendix.
11-12
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variables that do not vary by type of hazardous waste facility consid-
ered, and Table II-7 shows the variables that do change according to the
type of facility. (More detailed discussions on the values of the
variables marked by an asterisk may be found in Section III of this
Appendix).
A real interest rate (long-term interest rate discounted for infla-
tion) of 3 percent is used throughout the model's calculations. This
real interest rate is used to discount public and private costs that
occur during the post-closure period, and to annualize these costs over
the ooerating life of the facility. The long-term inflation rate is
assumed to be 8 percent: this 8 percent figure is also assumed to be the
rate of loss on letters of credit resulting from inflation-related
coverage inadeauacies.
The real rate of return on trust funds is assumed to be -1.5
percent per year. The effects of taxes and trustee fees result in a.
rate of return less than the zero percent implicitly assumed in the
regulation establishing the required size of the trust fund. This
negative rate of return has two important effects: (1) the amount of
funds in a post-closure trust fund would not be sufficient for 30 years
of post-closure care, and (2) regular inflation adjustments would have
to be made to the trust fund.
It is assumed that 60 percent of the funds needed for closure and
post-closure can be recovered from bankrupt firms. This means that 40
percent will not be recovered and thus be left as direct costs to the
public. This factor is applied to bankrupt firms that used either a
11-13
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financial test or a letter of credit as a financial assurance mechanism.
The basis for this estimate is given in Section III.E.
A failure rate for the kinds of large firms that could pass the
ability-to-pay portion of the financial test is assumed to be 22 per
10,000 (or 17 failures per year among the 7,500 firms considered in this
analysis). The total number of bankruptcies among this group of firms
is assumed to be constant, regardless of the financial test used: thus,
if the failure rate for a given financial test falls below 22 per
10,000, the failure rate for firms which fail the financial test will
become higher to maintain the same overall result.
The rate at which firms that will later go bankrupt voluntarily
switch from letters of credit to trust funds to provide financial assur-
ance is assumed to be 0.2 (i.e., 2 out of 10 firms).
Based on interviews with auditors, the costs of a special report
(required annually for firms applying for the financial test) is esti-
mated at $300 per year. Assuming that the average firm has four facil-
ities, as discussed in Section III.A., the per-facility annual cost is
$75.
It has been conservatively assumed that firms large enough to meet
the Ability to Pay Test outlined in Section III.A. own 50 percent of all
hazardous waste facilities. Of the 50 percent of all facilities owned
by firms of greater than $10 million in net worth, 34 percent are inde-
pendently audited. Thus, the total population of facilities evaluated
in this cost analysis is assumed to be 2,550, composed of 1,292 storage
facilities, 153 incinerators, 680 surface impoundments, and 425
landfills.
11-14
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Costs for each type of facility are developed separately for the
following variables:
1. Closure and post-closure costs; The cost estimates are based on
well-run, snail facilities that will not need remedial measures or other
special kinds of activities during closure or post-closure. Given the
scanty data both on the average size of facilities and costs of closure
and post-closure, these estimates are not definitive.
2. Cost of letter of credit; The cost of a letter of credit is esti-
mated to be .5 percent of the face value of the costs to be covered
(i.e., the costs of closure and post-closure). This estimate was
derived from interviews with banks currently providing letters of
credit.
11-15
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III. VALUES OF MAJOR MODEL VARIABLES
A. Value for N (Number of facilities by facility type owned by firms
of over $10 million in net worth that are independently audited)
The total number of TSDFs is based upon the number of permit
applications. The division of this total into facility types is based
upon the distribution of total facilities by type estimated by EPA prior
to the receipt of permit applications:
Storage 7,600
Surface Impoundments 4,000
Land Disposal 2,500
Incinerators 900
Total 15,000
No data were provided for treatment facilities other than
incinerators.
It is assumed that 50 percent of all facilities are owned by firms
with greater than $10 million in net worth. This assumption is based on
the following data:
(1) If hazardous waste production in an industry is roughly
proportional to revenues (a common assumption in many studies), the
figures below imply that, with the exception of electroplating, the vast
bulk of hazardous waste is produced and disposed of by large firms.
Putnam, Hayes and Bartlett (Hazardous Waste Generation and Disposal
Estimates 1980) lists the following industries as the four largest
sources of hazardous waste:
II I-1
-------
SIC 28 Chemicals and Allied Products 62%
SIC 29 Petroleum and Coal Products 5%
SIC 33 Primary Metals 10%
SIC 34 Fabricated Metals (including
job shoo olating) 5%
Total 82%
For_ _similar industries, L. Troy, in The Almanac of Business and
Industrial Financial Ratios (1979), lists the following percentages of
revenues in these industries from firms of over $25 million in assets:
Industrial Chemicals, Plastics and Synthetics t 90%+
Petroleum Refining 95%+
Primary Metals 80%+
Coating, Engraving and Allied Services 0
(2) A correlation exists between the size of the firm and the
number of plants that it owns. To determine the relationship between
the size of a firm and the number of plants it might own, a sample list
of 46 chemical companies and their plant holdings was compiled from the
1978 Directory of Chemical Producers and sumraarized_ in Table III-1.
Based on this sample, the average number of plants per firm is 9.34 and
the percentage of all plants owned by firms that own at least 10 plants
is 84.6 percent.
For the kinds of industries being considered here, the ratio of total
liabilities to net worth is on the average 1 to 1. Since the sura of
total liabilities and net worth is equal to total assets, it is assumed
that these firms with over $25 million in assets also have over $10
million in net worth.
III-2
-------
TABLE III-l
PLANT HOLDINGS FOR THE SAMPLE OF 46 FIRMS
Number of Firms
26
12
3
0
5
Number of Plants Owned
1
2-20
10-20
20-45
45-80
TOTAL
46
430J
The share of all facilities owned by firms with greater than S10
million in net worth is conservatively estimated as only 50 percent
(compared to the 80 to 90 percent implied by chemical industry data) to
adjust for industries such as electroplating which produce a large share
of hazardous wastes but are made up of smaller firms.
The second step in deriving N is to determine what percentage of
the facilities owned by firms of over $10 million in net worth are also
firms which are independently audited. A firm which is not already
independently audited for other regulatory reasons will normally find
the costs of an audit high enough to make the use of a financial test
more expensive than other financial mechanisms. In general, a firm will
*Although the number of plants is given with a range, the actual total
number of plants is 430.
III-3
-------
not be independently audited unless it is required to file a Form 10K
under SEC rules. According to Sections 12B and 12G of the Securities
Exchange Act of 1934, 10K Reports must be filed annually by:
(1) Any firm traded on a national stock exchange (e.g., NYSE,
AMEX, Pacific Exchange); and
(2) Any firm with $1 million in assets and 500 shareholders.
Ideally, to determine N, the percentage of firms filing lOK's by
size should be applied to the distribution of facilities by size of
firms. As noted above, data on the distribution of facility ownership
by firm size are not available. In addition, the data available for
determining the percentage of firms in a given size class which file
lOK's also have serious limitations. An estimate of 34 percent used in
this Appendix was derived from the following data:
(1) Distribution of firms filing lOK's in 1980 by asset size: The
SEC data base on the distribution of firms filing lOK's by asset size
onits 2,400 firms (29 percent of all firms filing lOK's) which are
traded as over-the-counter stocks. All New York and American Stock
Exchange firms are included, as well as an estimated 3,600 firms which
are traded over the counter and in minor exchanges.
(2) . Distribution of corporations by asset size for all active
corporations in 1975: These data are provided by the Internal Revenue
Service based on the number of corporations that pay corporate income
taxes. Unfortunately, 1975 is the most recent year of available data.
In addition, because this data base lists all firms which pay taxes, it
will include the subsidiaries of each parent corporation, thus overesti-
mating the total number of corporations.
III-4
-------
Tables III-2a and III-2b show the estimated percentages of firms
filing lOK's by asset size using the two data bases described above.
Twenty-five million dollars in assets are approximately equal to $10
million in net worth. The number of firms filing lOK's in Table III-2a
are based on the SEC data described above. Since the SEC data omit
2,400 firms, Table III-2b presents revised estimates of the total number
of firms filing lOK's by size including these 2,400 firms by assuming
that all of them have less than $50 million in assets and have the same
distribution within the size ranges as the firms already included in the
data base.
For purposes of the cost estimates, the value derived in Table III-
2b for the percentage of total corporations with greater than $10
million in net worth that file lOK's is used as the oercentage of facil-
ities owned by firms that are independently audited (i.e., 34 percent).
In the analysis of the effect of the $10 million in net worth reauire-
ment in Section IV.C., 2.7 percent of firms with less than $10 million
in net worth are assumed to be independently audited. These assumptions
may underestimate the true percentages to the extent that using 1975
data on active corporations underestimates the actual number of active
corporations by size class. However, these assumptions may be overesti-
mates to the extent that the majority of facilities are owned by the
largest firms in each size class and many subsidiaries whose parent
firms file lOK's are included in the number of active corporations.
Table III-3 shows a more complete distributional breakdown of the data
presented in Table III-2a. As shown in this Table, the percentage of
III-5
-------
TABLE III-2
ESTIMATED PERCENTAGE OF FIRMS FILING lOK'S BY ASSET SIZE
TABLE III-2a
ESTIMATED PERCENTAGE OF FIRMS FILING lOK'S BY
ASSET SIZE WITHOUT ADJUSTMENT FOR MISSING DATA
Total Assets
(Million Dollars)
Less than 1
i-25
25+
Number of 1 ,
lOK's FilecF'
271
1,833
3,791
Total Number
of Active 2/
Corporations—
1,882,347
128,639
12,661
Percentage of
Total Corporations
That File lOK's
-
1.4
30
TABLE III-2b
ESTIMATED PERCENTAGE OF FIRMS FILING lOK'S BY
ASSET SIZE WITH ADJUSTMENT FOR MISSING DATA
Total Assets
; (Million Dollars)
Less than 1
1-25
25+
!
Revised
Number of , ,
lOK's Filed^'
509
3,439
4,349
Total Number
of Active 2 ,
Corporations—
•
1,882,347
128,639
12,661
Revised
Percentage of
Total Corporations
That File 10K' s
-
2.7
34
— Source: Disclosure Inc.
2/
— Source: U.S. Internal Revenue Service, Statistics of Income, Corporation
Income Tax Returns, 1975.
3/
— The 2400 firms missing from the Disclosure Inc. data have been included
assuming they all have less than $50 million in assets and have the
same distribution within the size ranges as listed in the SEC data.
III-6
-------
TABLE III-3
DETAILED DISTRIBUTION OF ESTIMATED PERCENTAGE
OF FIRMS FILING lOK'S BY ASSET SIZE
Total Assets
(Million Dollars)
Less than 1
1-5
5-10
10-25
25-50
50-100
100-250*
250+
Number of ,
lOK's Filed^7
271
667
450
716
634
690
767
1,700
Total Number
of Active ,, ,
Corporations—
1,882,347
101,333
15,091
12,215
5,567
3,068
2,144
1,882
Percentage of
Total Corporations
That File lOK's
.7
3.0
5.9
11.4
22.5
35.3
90.3
_!/ Source: Disclosure Inc.
— Source: U.S. Internal Revenue Service, Statistics of Income, Corporation
Income Tax Returns, 1975.
— The original data source sorted firms filing lOK's in the following
categories: $100-200 million, $200-300 million and $300 million and
up. To make the categories consistent with the data on the number of
active corporations, 50 percent of the firms with assets between $200
and $300 million were included in the $100-250 million category and
50 percent were included in the $250+ million category.
Ill-7
-------
firms filing lOK's greatly increases as the size of firms increases.
Therefore, if a majority of facilities are owned by firms with greater
than S250 million in total assets, the estimate of 34 percent as the
percentage of firms that are independently audited would be a gross
underestimate.
Table III-4 shows the resulting values of N for firms with greater
than $10 million in net worth which are independently audited. These
numbers are derived as 34 percent of the number of facilities estimated
to be owned by firms with greater than $10 million in net worth (i.e.,
50 percent of all facilities) as discussed above.
TABLE II1-4
NUMBER OF FACILITIES BY TYPE OWNED BY FIRMS OF OVER
$10 MILLION IN NET WORTH AND INDEPENDENTLY AUDITED
Storage 1,292
v
Surface Impoundments 680
Land Disposal 425
Incinerators 153
Total 2,550
B. Values for C (Closure Costs) and PC (Post-Closure Costs)
Table III-5 provides EPA's best estimates and appropriate ranges
for costs of closure and post-closure for four types of hazardous waste
facilities. These estimates are uncertain because the costs are, to a
great extent, dependent uoon the size of the facility, and to date, no
III-7
-------
TABLE III-5
AVERAGE CLOSURE AND POST-CLOSURE
COST ESTIMATES BY FACILITY CLASS
(in thousands of 1980 dollars)
Average
Low
Storage 7
Surface Impoundments 30
Land Disposal 50
Incinerators 25
Average
Low
Closure Cost
Best
Estimate
15
60
100
50
Post-Closure
Best
Estimate
Estimates
High
22
120
150
75
Cost Estimates" j
High
Storage
Surface Impoundments
Land Disposal
Incinerators
0
150
250
0
0
300
500
0
0 !
600 I
j
1,500 |
o !
1
—' Cost estimates are equal to 30 times the annual post-closure
costs.
SOURCE: Derivation from IR&T, 1980b.
III-8
-------
data exist on the average size of TSDFs. The estimates shown here were
derived from sample cost estimates of closure and post-closure provided
in the draft guidance manual for complying with Subparts G and H of
these regulations. To determine the costs of closure and post-closure
for the average-size facility, the sample estimates in the guidance
manual were reduced 50 to 80 percent to account for the fact that the
sample estimates were based on large facilities, and the costs per unit
disposed were greater than average in order to ensure that all necessary
activities could be carried out for the cost indicated.
C. Values for CT9 (Fees for letter of credit during facility life/
facility/year) and CT p (Fees for letter of credit during post~
closure/facility/year)
The per-facility costs of a letter of credit.are a function of the
fees associated with a letter of credit and the costs of closure and/or
post-closure. The annual fee of a letter of credit is estimated to be
.5 percent of its face value (i.e., the costs of closure and/or post-
closure) with a range of .25 to 2 percent of the face value of the
letter of credit. Bank representatives and other sources^ contacted by
EPA provided estimates of fees for standby letters of credit of between
.5 and 2 percent of the value of the letter of credit. A low estimate
of .25 percent of the face value of the letter of credit is possible
given the possibility that market pressure by large customers could
result in lower fees than banks were willing to discuss publicly.
Letters of credit given in return for specific business commitments
e.g., see Paul R. Verkuil, "Bank Solvency and Guarantee Letters of
Credit," Stanford Law Review, Volume 25, May 1973, p. 721, footnote 29.
III-9
-------
(e.g., commitment to purchase bank certificates of deposit beyond what
would normally be held) would also probably be less expensive than the
estimated .5 percent fee. The fact that banks generally do charge a fee
for standby letters of credit is suggested by the extremely large share
of all letters of credit outstanding issued by CitiBank, which has
aggressively pursued letters of credit as a major line of business.
Table III-6 provides estimates of the annual cost of a letter of credit
by type of facility for both closure and post-closure and for only post-
closure.
D. Value for CA (Private costs of auditor's special report/facility/
year)
The per-facility costs of a financial test are a function of the
fees of the auditor's special report and the number of facilities owned
oer firm. EPA's best estimate of the auditor's fee is $300, with a range
of $150 to $500. An independent auditor confirmed that the average fee
for an auditor's special report describing the financial position of a
firm for which an audit has already been performed ranges between $150-
400. It is extremely unusual for auditors to be held liable for their
opinions except in cases of fraud or negligence. However, to account
for fears of nuisance suits in connection with hazardous waste, the fee
range is estimated as $150-500.
It is assumed that, on the average, each firm owns four TSDFs. As
discussed in Section III.A., most hazardous waste is probably produced
by large firms. It was also noted that for a sample of chemical firms,
the average number of plants owned was 9.34. However, since all firms
may not have hazardous waste at all plants and many single-olant firms
111-10
-------
TABLE III - 6
ADMINISTRATIVE COSTS OF LETTERS OF CREDIT
TO PRIVATE SECTOR
(in thousands of 1980 dollars per year)
TYPE OF FACILITY
Storage*
Surface Impoundments
Land Disposal
Incinerators
Total of above.
BEST ESTIMATE
Per Facility
Closure &
Post-Closure
.075
1.8
3.0
.25
N/A
Post-
Closure
Only
N/A
1.5
2.5
N/A
N/A
Total Facilities
Closure &
Post-Closure
285
3,600
3,750
112
7,748
Post-
Closure
Only
N/A
3,000
3,125
N/A
6,125
III-ll
-------
will not qualify for a financial test, an average of four facilities per
firm is assumed.
Assuming four facilities per firm and a S300 fee for an auditor's
scecial report, the value for C^ (the private costs of an auditor's
special report per facility per year) is $75.
E. Values for RPP (Share of closure and post-closure costs not
Tecovered from bankruptcy proceedings)
The Agency has conducted a study of the legal steps involved in the
two major bankruptcy procedures — liquidation and reorganization —
likely to be undertaken by an owner or operator of a hazardous waste
TSDF, and of the main legal issues that could arise in such proceedings.
The following section, based on that material, and on assumptions
derived from it, generates estimates of the rate of recovery likely for
EPA claims in bankruptcy proceedings and an estimate of the approximate
length of time such recovery might take. Figure III-l presents an
overview of the assumptions used.
1. Value for Rrp _
The following assumptions were used to estimate the share of
closure and post-closure costs not recovered from bankruptcy proceedings
(Rcp):
(1) The Agency concluded that the clear emphasis in the new
Bankruptcy Act is toward reorganization if it is at all possible,
particularly for firms with extensive assets or potentially profitable
business activities. Reorganization is frequently combined with a sale
of the firm, or profitable portions of the firm, to another corporation.
Because of the probable size and activities of firms able to pass the
111-12
-------
EPA CLAIM
20%
I
Liquidation
80%
i
Reorganization
80%
I
Low
Priority
Claim
20%
I
Avoid Stay or
Obtain As
Business Cost
10%
I
Avoid Stay
70%-20%
I
Obtain As
Business
Cost
Recover 20%
Recover 100%
(If funds
are present)
Recover 100%
20%-70%
I
Participate
In Plan
As Low
Priority
Claim
Recover 50%
Recover 100%
FIGURE III-l
OVERVIEW OF ASSUMPTIONS USED
IN RECOVERY OF CLAIMS
111-13
-------
financial test, and the potential market for their facilities, the
Agency assumed that 80 percent will reorganize and only 20 percent will
liquidate.
(2) An automatic stay of almost all legal actions against a debtor
is ordinarily effective upon the filing of a bankruptcy petition. Such
a stay could prevent collection efforts against an owner or operator
outside the bankruptcy proceeding. The Agency investigated ways in
which it could avoid the automatic stay and obtain immediate access to
funds for closure or post-closure care. In addition, the Agency inves-
tigated the question of whether the costs of financial responsibility
would qualify as operating costs incurred in the ordinary course of
business which could be paid without resort to the procedures and
priorities of liquidation or reorganization. The Agency estimated that
in those cases in which firms are forced to liauidate, the automatic
stay will be avoided or recovery of the EPA claim will come as a cost of
continuing the business in operation in only about 20 percent of the
cases. Although ordinarily the estate of the debtor will not be able to
satisfy claims entirely, such recoveries by the EPA will be based, when
they occur, on injunctions issued to alleviate severe environmental
dangers. In those situations, it was estimated that EPA will recover
100 percent of its claim. In the balance (80 percent) of the liquida-
tion cases, the EPA claim will probably be treated as a low-priority
unsecured claim of a general creditor. The estimated recovery rate on
such claims was $.20 per $1.00.
111-14
-------
Thus, recovery in liquidation will occur at a combined rate of
approximately .36.
(1.0 x .20) + (.20 x .80) = .36
(3) In reorganization cases, it is expected that the automatic
stay will be avoided and EPA will recover 100 percent of its claim
before distribution in about 10 .percent of the cases. Once again, such
recoveries will be based on injunctive relief issued to alleviate severe
environmental dangers.
In reorganization, however, because the ultimate goal of the
process is to provide the debtor with an opportunity to continue in
business, there is a strong possibility that in certain circumstances
the EPA claim will be treated as a cost of maintaining the business. If
the EPA claim is treated as an equivalent to an insurance premium, for
example, the Agency should obtain 100 percent of the funds it requires.
An uncertain variable is the frequency that the hazardous waste portion
of the business will be integral to the continued operation of the
business as a whole. In general, payment of the expenses of business
operations in reorganization cases depends on: (a) whether the payments
are critical to the continued operation of the business, (b) whether the
risk that the payments are intended to alleviate is imminent, and (c)
whether the payments would drastically reduce the estate of the debtor.
If such payments would severely reduce their recovery, creditors might
force a shift to liquidation. Thus, it has been estimated that payment
of the EPA claims as expenses of the continued operation of the business
could occur in from 20 percent to 70 percent of the cases.
111-15
-------
If such claims are not paid as costs of continuing the business,
they will be included in the reorganization plan. Thus, the Agency can
expect to participate in such plans in from 20 percent to 70 percent of
the reorganization cases. A review of several of such plans indicates
that recovery by creditors occurs at a rate of approximately 50 percent.
Thus, recovery in reorganization proceedings will be expected to
occur in a range of .65 to .90, as shown below.
(1 x .10) + (1 x .20) + (.70 x .50) = .65
(1 x .10) + (1 x .70) + (.20 x .50) = .90
(4) Adopting the lower estimate of the rate of recovery in reor-
ganization cases, 'weighting it by the frequency of such cases, and
adding to it the estimated rate of recovery in liquidation cases
weighted by their frequency, the estimated general rate of recovery in
bankruptcy equals approximately .60, as shown below.
(.36 x .20) + (.65 x .80) = .59
Therefore, assuming a general rate of recovery of approximately .6,
the value for R^p (the share of closure and post-closure costs not
recovered from bankruptcy proceedings) is equal to .4.
2. Estimated Elapsed Time of a Bankruptcy Proceeding
The Bankruptcy Act does not include limits on the length of time a
proceeding can take. There are, however, limits on certain aspects of
the proceeding, either explicit or implicit.
In both liquidation and reorganization, for example, a creditor can
obtain a decision on whether or not an automatic stay will be lifted
within approximately 60 days. A court would probably also determine
111-16
-------
whether certain payments could be made as costs of the continued opera-
tion of the business within a relatively short time.
If the debtor begins a reorganization proceeding with a plan
already worked out, confirmation of the plan could also take place
within about 60 days. If the debtor desires to delay, however, and the
creditors do not force prompt action, the debtor will have at least 180
days to develop a plan and obtain confirmation. If the debtor's plan is
not accepted, the creditors are entitled to an indefinite time to work
out their own plan and obtain confirmation of it, but they will probably
have a strong tendency toward relatively swift action.
Liquidation proceedings frequently require more time than reorgani-
zations, but the major variable is not so much the type of proceeding as
the degree of its complication. An average of about two years may be
needed to complete relatively uncomplicated business bankruptcies.
Other complicated and more long-lasting cases, such as Penn Central,
however, are well known.
F. Private Costs of Trust Funds: How Costs of Closure Trust Funds
Vary with the Length of the Pay-In Period"
To analyze the sensitivity of the results to the assumptions of the
cost estimates on the model, it is necessary to determine how the costs
of trust funds used by firms that fail a given test and cannot get a
letter of credit will affect the costs of using a financial test.
Private costs of a trust fund were computed based on the following
assumptions.
111-17
-------
1. Assumptions of the Model
The following assumptions were used with respect to the tax treat-
ment of the trust fund.
(1) The trust fund earns a zero real rate of return.
(2) The trust fund is a grantor trust. This means that
taxes on the income of trust are paid by the grantor at
his marginal income tax rate.
(3) Contributions to the trust fund are not tax deductible.
(4) The firm has revenues against which to deduct business
expenditures at all times.
(5) Closure costs are a tax deductible operating expense.
2. The Model
Definitions of all variables are given in Table III-7. The measure
of costs used here will be the revenue recovery method, i.e., costs are
the revenues necessary to restore profits to their original level. The
profits of the firm in the absence of a trust fund are given by:
(1) TT = V (1 - x) -5—-2 - (1 - x) C (1 + r)'
(1 + r)t
With a trust fund the orofits become:
(2) i, -£(1 - x) R- % -£ C/N (1 + 1)-
(1 + r)C (i + r)c (i + i)c
T
C/N (i + i). - xi c
. t ,. . .. t — r
O d + i) (1 + r)11
-(• C (1 + r)-i - (1 - x) c (1 + r)
111-18
-------
TABLE III-7
DEFINITIONS AND VALUES OF SYMBOLS
(ALL DOLLAR VALUES IN REAL DOLLARS OF YEAR ZERO)
C - Closure Costs
N - Length of pay-in period to the trust fund (1-10 yrs., 15 yrs., 20 yrs.)
0 - All costs other than closure
R - Revenues
T - Active life of the site (10,20, or 30 yrs.)
i - Rate of inflation (.08 per year)
r - Real after tax rate of return (.02, .03, or .04)
x - Marginal corporate profits tax rate (.5)
ir - Present value after tax of corporate profits
T N
P or P - Present value operator for interest rate r and period T or N.
T 1 - (1 + r)"T
III- 19
-------
The first terra and last terras are as above. The second term represents
the costs of payments to the trust fund. The third term is the cost of
taxes on the income of the trust fund during the pay-in period. The
fourth term is the cost of taxes on the income of the trust fund once
pay-in is completed. The fifth term is the payment from the trust fund
for the purposes of closure.
To apply the revenue recovery measure of costs, we must determine
the AR that sets profits with the trust fund ( rr (w)) eaual to profits
without (TT (wo)),i.e.,
"(wo) = V) *^ (1 - x) AR
Substituting approoriate values from equations (1) and (2) and solving
for R sives:
(4)
AR
(1 + r)1
(1 - x)
ZC/N (1 + i)"
t- r
xit C/N (1 + i)£ +
(l+r)L (1 +
N + 1 (1 + r)
i)C
- C (1 + r)
Solving or approximating for the sunmations then gives:
^ (AR) =
(1 - x)
(P
N
Mote that the second two terms provide an aooroximation to the true
(jsummation of the taxes paid. However, for the low interest rates
involved here, this approximation is reasonably accurate.
111-20
-------
In order to produce a dimensionless meaasure not dependent on closure
costs, Tables III-8 through 111-13 present values for various r, N, and
T of T '
100x L£_-
which may be termed the present net worth of real costs to the firm as a
percentage of the closure cost estimate.
If this measure were calculated for post-closure, it would be
significantly higher but would change in the same way with changes in
the pay-in period, interest rate, and life of the facility. The formula
would be:
100 x
A
S,
(1 + r)
PC
100
1 - x
P (xi) -
r a
r)
~T
(1/30)
where PC is the post-closure cost estimate for 30 years of oost-closure
care.
111-21
-------
TABLE III- 8
PRESENT VALUE OF REAL COSTS OF TRUST FUND AS A PERCENTAGE OF CLOSURE
COST ESTIMATE (10 YEAR SITE LIFE (T), 0% INFLATION)
\^ r=interest
NV rate
Nv
N=pay in \^
period >y
1
2
3
4
5
6
7
8
9
10
2%
32.008
30.0858
28.1886
26.3161
24.468
22.6439
20.8436
19.0667
17.3127
15.5814
3%
45.3556
42.528
39.7552
37.036
34.3693
31.7541
29.1891 .
26.6733
24.2057
21.7851
4S
57.1943
53.4961
49.8927
46.3814
42.9595
39.6245
36.3739
33.2053
30 . 1163
27.1047
111-22
-------
TABLE III-9
PRESENT VALUE OF REAL COSTS OF TRUST FUND AS A PERCENTAGE OF CLOSURE
COST ESTIMATE (10 YEAR SITE-LIFE (T), 8% INFLATION)
\. r=incerest
NV rate
\.
N=pay in N^
period \v
i
1
2
3
4
5
6
7
8
9
10
2%
96.0254
90.297
84.6684
79.138
73.704
68.3645
63.1179
57.9626
52.8967
47.9186
3%
105.83
99.2887
92.9108
86.692
80.6282
74.7155
68.9494
63.3263
57.8424
52.4938
4%
114.389
107.067
99.9793
93.119
86.4779
80.0484
73.8231
67.7951
61.9576
56.3038
III- 23
-------
TABLE III- 10
PRESENT VALUE OF REAL COSTS OF TRUST FUND AS A PERCENTAGE OF CLOSURE
COST ESTIMATE (20 YEAR SITE LIFE (T), 0% INFLATION)
\^ r=incerest
\^ rate
\^
N=pay in\.
period N^^
1
2
3
4
5
6
7 .
8
9
10
15
20
2%
61.4834
59.5612
57.6639
55.7915
53.9434
52.1193
50.3189
48.542
46.7881
45.0567
36.7286
28.9195
3%
83.4392
80.6116
77.8388
75.1196
72.4529
69.8377
67.2728
64.757
62.2893
59.8687
48.4371
38.0394
4%
101.03
. 97.3315
93.7281
90.2168
86.7949
83.4599
80.2094
77.0408
73.9517
70.9401
56.9674
44.6256
III-. 24
-------
TABLE III-ll
PRESENT VALUE OF REAL COSTS OF TRUST FUND AS A PERCENTAGE OF CLOSURE
COST ESTIMATE (20 YEAR SITE LIFE (T), 8% INFLATION) •
1
2
3
4
5
6
7
8
9
10
15
20
2%
184.451
178.723
173.094
167.564
162.13
156.791
151.544
146.389
141.323
136.345
112.716
91.0548
3%
194.692
188.151
181.773
175.554
169.49
163.49
157.811
152.188
146.704
141.356
116.522
94.5738
1
4%
202.06
194.738.
187.65
180.79
174.149
167.719
161.494
155.466
149.628
143.975
118.252
96.2688
III- 25
-------
TABLE III-12
PRESENT VALUE OF REAL COSTS OF TRUST FUND AS A PERCENTAGE OF CLOSURE
COST ESTIMATE (30 YEAR SITE LIFE (T), 0% INFLATION)
1
2
3
4
5
6
7
8
9
10
15
20
2%
85.6634
83.7412
81.844
79.9715
78.1234
76.2993
74.499
72.7221
70.9681
69.2368
60.9087
53.0996
3%
111.777
108.949
106.177
103.457
100.791
98.1755
95.6105
93.0947
90.6271
88.2065
76.7749
66.3772
4%
130.643
126.945
123.342
119.83
116.409
113.074
109.823
106.654
103.565
100.554
86.581
74.2392
III- 26
-------
TABLE III- .13
PRESENT VALUE OF REAL COSTS OF TRUST FUND AS A PERCENTAGE OF CLOSURE
COST ESTIMATE (30 YEAR SITE LIFE (T), 8% INFLATION)
1
2
3
4
5
6
7
8
9
10
15
20
2%
256.992
251.263
245.635
240.104
234.67
229.331
224.084
218.929
213.863
208.885
185.257
163.595
3%
260.814
. 254.272
247.894
241.675
235.612
229.699
223.933
218.31
212.826
207.477
182.643
160.695
4%
261.287
253.965
246.877
240.017
233.376
226.946
220.721
214.693
208.856
203.202
177.479
155.496
III-27
-------
IV; RESULTS OF THE COST MODEL FOR CLOSURE AND POST-CLOSURE REQUIREMENTS
A. Direct Public and Private Costs
1. Results of the Analysis
Table IV-1 lists the direct public and private costs of selected
financial tests for closure and post-closure derived by applying the
values of the variables to the cost model described in Sections II and
III. These results were based on the assumption that all firms being
considered have a minimum of $10 million in net worth and are indepen-
dently audited. The results reflect all costs for all firms considered;
that is, either a firm passes a given test and thus uses a financial
test as evidence of financial assurance or fails the test and uses a
letter of credit.
The tests are initially divided into two groups, those measuring
costs of tests with a one-year eligibility period and those with a
three-year eligibility period. The eligibility period is the number of
consecutive years that a firm must satisfy the criteria of a specific
test before the firm may use the test to provide assurance of financial
responsibility.
All the tests considered include a requirement of at least 310
million in net worth, and net worth and net working capital at least six
times closure and post-closure costs. A full description of the compo-
nents of each of the tests is provided in Appendix A. Several tests
employ a non-numerical identification. They are defined as follows:
"Ability to Pay" is a test which requires $10 million in net worth and
net worth and net working capital each greater than six times closure
IV-1
-------
TABLE IV-1
PUBLIC AND PRIVATE COSTS OF SELECTED FINANCIAL TESTS FOR CLOSURE AND POST-CLOSURE
(in thousands of 1980 dollars per year)
to
'll-SI
Ii. s»:ri |.| inn
Y'--">
139
123
138
127
118
151
134
136
1 15
I', 9
136
137
98
1 '-.<•
!'.(,
\:-i ! i : -. to
! .1 • .'. st
Al- i 1 i i v i o
I'iiV 'l.-St
::.,v 19, i <)SO
":• -;. t
Kl ii'ilii 1 liy
Kv«|iii |-<-l.il:lll
I I-IIL- y, --tr or
NA
1
3
3
3
1
1
1
3
1
1
1
1
1
1
1
3
1
J j
nil.-, i I'ut.-iu
('.»:;! i. I'IIL- 1 o
r.ill.in.- of
.1 riii.-jiu i.-.i
list
0
0
19
31
24
51
68
87
106
1 12
\ '.'. 5
i«,y
j(ii
207
::23
.-•3;
4 19
-'.84
'«,«.
liii.-il r.il-ii.
(:••!-.! :. Hill.- 1 :-
l".i i 1 u I't: of
Kir.l:.--- I'iiilll:
a 1,1 I ii
..1 Cr.-.lit
.142
142
137
1)4
I3h
129
124
1 19
1 14
1 12
109
97
88
Hi,
H2
b(,
24
12
/, z,
1 :.il
1 :.| i;
1 •'. 2
1 4 2
1 r»t)
K.S
U,0
180
192
20h
22(1
22i
234
26(.
2H9
29'1
3d;
( 1 -'.
.'.i.'l
-'.'If.
•Mil
1
111 ri-ct
;• C.;sus
-
I,
S
0
0
2
h
(1
i
4
(,
9
'1
"i
if.
11
I'r i v.il e ('lists
i.f a Ktna'n-
ri.jl '!,:!, I
0
123
141
168
161
191
193
199
206
208
I'. 1 9
224
231
234
2.19
i 24 1
|
i 249
231
244
1.1 f a l.i-l Icr
of ClL-lllt
3,334
1,701
1,467
1,100
1,201
800
767
700
600
567
434
367
267
233
167
133
33
0
10(1
To i. ill •
Pr i i-.il u Costs
•1,31.4
1 , 608
1 , 2(>b
1 , 3f,2
991
•JdO -
899
b(lf>
773
6 3!l
591
.'.'.iB
4d7
/.(It.
374
JH2
25,
344
' Sinn of |)i ,, ,:l
I'uli) i c ;iiid
1'rivato Costs
3.476
1, •-•!>(>
1 , 7" '
, 1,433
| 1.522
i 1,171
i 1,151'
t
1,105
1 ,02(,
! yij9
M87
857
! /87
Vfid
713
(-.38
i
745
! 747
745
-------
and post-closure costs: "No Financial Test" precludes any firm from
using a financial test and assumes that all firms will use a letter of
credit: and the "May 19, I960 Test" is the reproposed financial test
issued on that date requiring at least $10 million in net worth in the
United States, a total liabilities to net worth ratio of not greater
than three, and net working capital in the United States equal to at
least twice the estimated closure and post-closure obligations of the
owner or operator.
The Agency considered two major categories of costs: direct public
costs and private costs. From the standpoint of direct public costs,
the lowest direct public costs will result from either allowing no
financial test or choosing the most stringent test, Test 139 (one-year).
Because Test 139 (one-year) passes no firms which will later enter
bankruptcy without providing alternative financial assurance, the direct
public costs of this test are the same as allowing no financial test.
The direct public costs will increase as the tests become less strin-
gent. The direct public costs of the most restrictive Test 139 (one-
year) are $142,000, compared with $496,000, the direct public costs of
the least restrictive Ability to Pay Test (one-year).
The private costs of the alternative financial tests, on the other
hand, decrease dramatically with less stringent tests, because more
firms are allowed to use a financial test as evidence of financial
responsibility and are not required to obtain one of the more expensive
financial mechanisms. If no financial test is allowed, the private
costs are $3,334,000. The most restrictive Test 139 (one-year) incurs
IV-3
-------
private costs of 31,824,000, which are significantly higher than those
of the least stringent Ability to Pay Test (one-year) with private costs
of only $251,000.
In addition to identifying those financial tests which provided the
lowest direct public costs and the lowest private costs to the regulated
community, the Agency also considered which financial test minimizes the
sum of those costs.
Test 100 (one-year) minimizes the sum of direct public and private
costs. This test results in a total of direct public and private costs
of 3688,000, which is $59,000 less than the total annual direct public
and private costs associated with the Ability to Pay Test (one-year
eligibility).1 The total of direct public and private costs of not
allowing a financial test is five times greater than the costs of Test
100 (one-year). The sum of direct public costs and private costs for
the May 19, 1980 Test (one-year) is $745,000, which is 357,000 per year
hieher than Test 100 (one-year). A comparison of Test 139 (one-year),
which minimizes direct public costs, and Test 100 (one-year), which
minimizes the sum of direct public and private costs, shows that the
savings of $172,000 oer year in direct public costs from adopting Test
139 (one-year) would cost the regulated community an additional
$1,278,000 in private costs per year.
The difference in costs between the Ability to Pay Test with a one-year
eligibility requirement and the Test with a three-year eligibility
reauirement is minimal: for the sum of public and private costs, there
is only a difference of $2,000.
IV-4
-------
2. Other Factors
The costs of various tests presented in Section IV.A.I. show that
Test 100 with a one-year eligibility requirement is the test which
minimizes the sum of direct public and private costs. However, factors
other than costs, such as administrative concerns and the number of
bankruptcy proceedings potentially resulting from the use of a partic-
ular test, may need to be considered in determining which test to adopt.
Also, as shown in the next Section (Section IV.B.), the superiority of
Test 100 (one-year) to the Ability to Pay Test (one-year) is very sensi-
tive to uncertainties in the cost model assumptions. As a result, it is
useful to compare aspects of these two tests in addition to the question
of which test minimizes the sum of direct public and private costs.
The chief non-cost advantage of the Ability to Pay Test (one-year)
is that of greater simplicity. By excluding all ratio components, this
test would result in much shorter reporting forms, and simpler reporting
requirements. The chief disadvantage of this test is that extremely
high failure rates are associated with the additional firms which pass
this test but do not pass Test 100 (one-year). Table IV-2 compares the
number and characteristics of firms which pass Test 100 (one-year) and
those which pass the less stringent Ability to Pay Test (one-year) but
do not pass Test 100 (one-year). The Ability to Pay Test (one-year)
allows only 102 more facilities to be covered by a financial test than
were included by Test 100 (one-year). These additional firms, however,
are extremely failure-prone. The failure rate of these 102 firms which
pass the test and later entering bankruptcy without establishing an
IV-5
-------
TABLE IV-2
CHARACTERISTICS OF FIRMS THAT PASS TEST 100 (ONE-YEAR)
AND OF FIRMS T11AT PASS THE LESS STRINGENT ABILITY TO PAY TEST (ONE-YEAR)
Firms That Pass an Ability
to Pay Test (One-Year)
Firms That Pass Test 100 That Would Not Pass
(One-.Year) Test 100 (One-Year)
Number of facilities affected 2,448 102
Number of firms per 10,000 per year that 10.1 252
pass the test and will go bankrupt
without providing alternative financial
assurance
Number of facilities failing per year 2.5 2.6
Number of bankruptcy proceedings per year .6 .7
-------
alternative financial mechanism is about 252 per 10,000 per year (2.5
percent per year). As a result of this high failure rate, the total
number of facilities owned by bankrupt firms doubles, even though only
102 additional firms (a 4 percent increase) were added to the set of
firms able to pass the test. The Agency will also have to enter into
twice as many bankruotcy proceedings each year using the Ability to Pay
Test (one-year). The estimates of the number of bankruptcy proceedings
per year are based on the assumption that the average firm with over $10
million in net worth will own four facilities. Thus, the number of
bankruptcy proceedings per year is equal to one-fourth of the number of
facilities that fail per year.
B. Sensitivity Analysis
The purpose of the sensitivity analysis is to determine how sensi-
tive the results of the analysis are to the assumptions emoloyed. The
purnose of this analysis is not to determine in absolute terms how
changes in assumptions will change the costs of specific tests but
rather whether changes in assumptions will affect the choice of test.
By examining the results of the various tests in Table IV-I, it is clear
that if the direct public costs of Test 100 (one-year) were increased by
$60,000 and the costs of all of the other tests remained unchanged, Test
100 (one-year) would become significantly inferior to Test 146 (one-
year), the Ability to Pay Test (both one- and three-year), and the May
19, 1980 Test. However, there are no cost assumptions in the model
which will affect only the costs of Test 100 (one-year) and not the
costs of all of the other tests. In fact, the values used to calculate
IV-7
-------
the costs apply equally to all tests, and because the model is linear,
changes in assumptions will affect the results of all tests proportion-
ally. Therefore, this sensitivity analysis will focus on the percentage
changes in costs required for all tests to change the choice of test
which minimizes the sura of direct public and private costs. For
example, if different assumptions about direct public costs resulted in
all direct public costs for all tests being increased 100 times the
current estimates but the private costs remained unchanged, a more
stringent test would be chosen if the goal is to minimize the sum of
oublic and private costs.
a. Sensitivity of the Cost Estimation Assumptions _ _
This sensitivity analysis evaluates how sensitive Test 100 (one-
year) is to the specific assumptions of the cost model. In this Sec-
tion, the analysis retains the $10 million in net worth requirement: the
effect of deleting this requirement is discussed,in Section IV.C. The
results cited in Section IV.A. are sensitive to two different types of
uncertainties: (1) uncertainty as to the accuracy of the cost esti-
mation assumptions, and (2) uncertainty with respect to the measurements
used to predict the performances of a given test.
This analysis tests the sensitivity of the cost estimation assump-
tions assuming that the values of Ep and A^g remain unchanged.
The results of this sensitivity analysis are shown in Table IV-3.
This Table records for each major cost element and for the totals of
direct public and private costs the oercentage change in costs required
to make the test in the Table dominant over Test 100 (one-year), that
IV-8
-------
TABLE IV-3
SENSITIVITY OF TEST 100 (ONE-YEAR) AS THE TEST THAT MINIMIZES
THE SUM OF DIRECT PUBLIC AND PRIVATE COSTS OF CLOSURE AND
POST-CLOSURE TO ASSUMPTIONS OF THE COST MODEL
Test
Desc r i pi ion
No Financial Test
139 (one— year
el igibi 1 Jty
requirement)
I4fc (one-year
e 11 1: i b i I i t y
I equi rente-lit )
Ability to Pay
Test (one-year
eligibility
r equ i [eliient )
Percentage Change-
Required in Direct
Public Costs Due
to Fai 1 tire of
Finns Using a
Financial Test
1, 191
54fj
278
-24
Percentage Change
Requi red in Direct
Public Costs Due
to Fa i 1 u re of
Firms Using a
Letter ol Credi I
Completely
Insensi ti vi>
Comp 1 e t e 1 y
1 nsens i t i ve
Completely
1 nsens i t i ve
KM
Percentage Change
Ri-qul red in Total
l)i rect Public
Costs
1,621
'
-
743
357
02
Percentage Change
Required in
Private Costs of
a Financial Test
1,157
1,083
1 1,250
1
Compl etel y
Insens i t i ve
/
Percentage Change
Required in
Private Costs ol'
a Letter of Credit
-87
-82
-74
44
Percentage Change
Keqili red In Total
Private Costs
-«>/,
-88
-78
48
pur cunt age change rtujui rud 1 ur any given cost <; 1 uiiumt i't:pi u son is the percentage change in costs reqni rtrtJ tor .'ill tests to
iigt.- the cho i t:u of t et»t wli 1 cl» mi n i Hii zeb itu- sum of il i i i-t/l piihl i c and pr 1 vatt costs .
-------
is, making it the test that minimizes the sum of direct public and
private costs. The tests chosen to compare with Test 100 (one-year),
the test which minimizes the sum of direct public and private costs,
were the following;: No Financial Test: Test 139 (one-year), the test
with the lowest direct public costs: and Test 146 (one-year) and the
Ability to Pay Test (one-year), the two tests closest in costs to Test
100 (one-year). (The costs of the one-year and three-year Ability to
Pay Tests are nearly identical: for this analysis, the one-year test is
used.)
As shown in the Table, for No Financial Test to become the test
which minimizes the sum of direct public and private costs, the direct
public costs due to failure of firms using a financial test would have
to increase 1191 percent for all tests. For the Ability to Pay Test
(one-year) to be the test that minimizes the sum of direct public and
private costs, direct public costs due to failure of firms using a
financial test would have to decrease 24 percent for all tests. The
entries which are listed as completely insensitive indicate that it is
impossible to change the costs of that cost element enough to make the
sum of direct public and private costs less than those of Test 100 (one-
year) .
The results of Test 100 (one-year) are relatively insensitive to
uncertainties in the assumptions of the major cost elements. As shown
in the Table, most of the cost elements would require percentage changes
in the values of the underlying variables beyond the reasonable ranges
of uncertainty. The exception to this is the Ability to Pay Test (one-
IV-10
-------
year). If direct public costs due to failure of firms using a financial
test are 24 percent lower for all tests than originally estimated, or
the total direct public costs are 32 percent lower for all tests, then
the sum of direct public and private costs of the Ability to Pay Test
(one-year) would be less than those of Test 100 (one-year). Errors of
this size are possible to the extent that the failure rate for firms of
over $10 million in net worth that are independently audited has been
overestimated and to the extent that significantly higher recovery rates
than assumed here are possible. The Ability to Pay Test (one-year)
would also become the test which minimizes the sum of direct public and
private costs if the private costs associated with letters of credit
were 44 percent higher for all tests, a figure well within the 'range
discussed in Section III.
Firms which fail a financial test may be unable to. obtain a letter
of credit and would be forced to use a trust fund, a more expensive
instrument. In order to determine how the use of trust funds would
affect the costs, the Agency performed an analysis assuming that firms
which failed the financial test would use trust funds rather than
letters of credit. The direct public and private costs of a letter of
credit remain the same as in the original analysis. The direct public
costs of a trust fund are similar to those for a letter of credit; while
the trust fund poses a greater potential for direct public costs during
the build-up period of the fund, it will result in lower direct public
costs after the fund is fully paid than the letter of credit. (The size
of the trust fund may be adjusted for inflation; therefore, delayed
IV-11
-------
payments and failure to adjust the amount of available funds for infla-
tion during post-closure, which are major sources of direct public costs
for a letter of credit, are not sienificant sources of direct public
costs for trust funds.) Based on the analysis described. in Section
III.F., the average costs of a trust fund will be 7.8 percent of closure
and post-closure costs annually over the life of the facility.
If all firms that cannot pass Test 100 (one-year) with a $10 rail-
lion in net worth requirement must use a trust fund, then the private
costs for firms that fail this test will increase from $133,000 per year
to $1,448,000 per year, and the sum of direct public and private costs
will increase to $2,003,000. The private costs, and the sum of direct
public and private costs, for the Ability to Pay Test (one-year) with a
$10 million in net worth requirement remain unchanged, since all firms
pass this test and none are forced to use trust funds. As a result, the
sum of direct public and private costs of the Ability to Pay Test (one-
year) with a $10 million in net worth requirement are $1,256,000 per
year lower than the total costs of Test 100 (one-year) with a $10 mil-
lion in net worth requirement. If even 4.5 percent of the firms which
fail Test 100 (one-year) without a $10 million in net worth requirement
use a trust fund, then the Ability to Pay Test (one-year) without a $10
million in net worth requirement will be the test that minimizes the sum
of direct public and private costs.
It should be noted, however, that most of these additional private
costs of trust funds are not costs to the economy as a whole, as are the
costs of the other financial mechanisms, but are transfer payments. All
IV-12
-------
costs except trustee fees result from either (1) costs due to a lower
rate of return on the trust fund than the average corporate rate of
return, and (2) federal taxes on the trust fund. The need to use low
rate of return securities ultimately provides investment funds for other
t
firms, either directly through purchase of corporate stocks and bonds or
indirectly by reducing the amount of funds to the private sector
diverted by government bonds. The increased taxes due to the use of a
trust fund are a transfer payment to the Federal government. As a
result, the purchasing power is not lost to the economy.
The decision to select a test which minimizes the sum of direct
public and private costs is justified in part by the argument that the
public will ultimately pay both forms of costs. This argument, however,
does not apply to the transfer payment portion of the trust fund costs.
While the costs of a trust fund will be passed on to the public, the
public will receive most of these costs back in the form of increased
federal tax collections and lower cost availability of investment for
other purposes. As a result, if the purpose of minimizing the sum of
direct public and private costs is to minimize the costs ultimately
bo-rne by the public, then most of the private costs associated with
trust funds should not be included. This is not true of the costs of a
letter of credit, however. The Agency has stated in the Regulatory
Impact Analysis of the financial responsibility regulations that only 6
percent of the private costs of a letter of credit represent transfer
pavraents.
IV-13
-------
If only the costs of trustee fees are included as private costs,
then the private costs of a trust fund are approximately the same as
private costs of a letter of credit. Therefore, the sura of direct
public and private costs of Test 100 (one-year) with a $10 million in
net worth requirement are lower than those of the Ability to Pay Test
(one-year) with a $10 million in net worth requirement.
b. Sensitivity of the Measurements of Test Performance
As noted in Appendix A, the differences between the performances of
several of the tests, particularly Tests 100, 146, 98, and 137, all as
one-year tests, are extremely small with respect to both Ep and A^.
For example, if the values of Ep and Afjg of the tests were applied only
to the holdout sample, Test 137 (one-year) would dominate Test 100 (one-
year). The basic problem is that there are not statistically signif-
icant differences between the performances of these tests. However,
Test 100 (one-year) is the test which minimizes the sum of public costs
using the values of Ep and Ajjg for both the primary sample and the
average of the combined primary and holdout samples. Thus, it is
reasonable to conclude that Test 100 (one-year), among all of the tests
examined, is the test which minimizes the sum of public and private
costs.
As noted in Section I.B., the effect of the multiple portion of the
test is not included in the measurement of either ANB or Ep. Failure to
include these multiples in the measurement of AJJB results in an over-
estimation of costs associated with firms passing a financial test.
This results because at least a few firms that are counted as passing
IV-14
-------
the test would be firms with relatively small net worth and very high
closure and post-closure costs which in fact fail the multiple portion
of the test. Ep would be somewhat underestimated because it does not
include the ability of the multiples to discriminate against potentially
bankrupt firms. The combined effect of "this is that total direct public
costs are somewhat overestimated and private costs are consistently
somewhat underestimated.
c. Alternative Assumptions About the Percentage of Firms that are
Independently Audited
The cost analysis discussed in the previous sections only includes
the costs to facilities that are owned by firms that are independently
audited. The accuracy of these estimates will depend on the accuracy of
the assumptions about the percentage of firms of over $10 million in net
worth that are independently audited and the percentage of firms with
less than $10 million in net worth that are guaranteed by firms of
greater than $10 million in net worth and independently audited. An
analysis of the sensitivity of these assumptions is included in Section
IV.C.5.
C. Analysis of the $10 Million in Net Worth Requirement
The initial goal of the analysis presented in Appendices A and B
was to determine which financial tests would correctly identify firms
which would later go bankrupt. A $10 million in net worth requirement
is an important element of a test with that goal. As a result of a
suggestion that a test that minimized the sum of public and private
costs might be as important as a test's ability correctly to predict
future bankruptcy, the Agency reexamined the $10 million in net worth
IV-15
-------
requirement and the effect that its elimination would have on the direct
public costs and private costs of alternative financial tests. A new
set of financial tests was introduced which eliminated the $10 million
in net worth requirement. These new tests were composed of all of the
same ratios as the tests with the $10 million in net worth requirement.
They also included the requirement that net worth and net working
capital each exceed six times closure and post-closure costs. This
analysis of financial tests without a $10 million in net worth require-
ment is divided into five sections: (1) Analytic Approach: (2) Changes
in the Values of Variables: (3) Direct Public and Private Costs: (4)
Other Factors: and (5) Sensitivity Analysis.
1. Analytic Approach
In order to determine the direct public costs and private costs of
the financial tests without a $10 million in net worth requirement, the
Agency had to expand the set of firms analyzed to include all firms
regardless of their size. The values of the variables in the supporting
equations in Section II had to be altered to reflect the fact that a $10
million in net worth requirement was no longer present. The direct
public and private costs of a given test including a $10 million in net
worth requirement are the sum of the costs reported in Section IV.A. for
all firms with greater than $10 million in net worth and independently
audited and the costs assuming no financial test is allowed for firms
with less than $10 million in net worth. The direct public and private
costs of a given financial test without a $10 million in net worth
requirement are the sum of the costs reported in Table IV-1 for firms
IV-16
-------
with greater than $10 million in net worth and independently audited and
the costs of the given test using the summary and supporting equations
of Section II with altered variables (see Section IV.C.2.) for firms
with less than S10 million in net worth.
The steps used to compute costs for firms with less. Chan $10 mil-
lion in net worth are as follows:
(1) Revise the value of E (number of firms per 10,000 that pass a
given financial test that will go bankrupt without providing alternative
financial assurance) for each test considered, to reflect the higher
bankruptcy rate for firms with less than $10 million dollars in net
worth.
(2) Assume that Aj^ is the same for both firms of greater than $10
million in net worth and less than $10 million in net worth. This
assumption ignores the likelihood that a higher percentage of small
firms will fail the multiples portion of the test.
(3) Revise the value of N (the number of facilities by facility
type owned by firms of over $10 million in net worth that are indepen-
dently audited) to reflect the estimate in Section III that only 2.7
percent of firms with less than $10 million in net worth are indepen-
dently audited.
(4) Revise the value of R^p (share of closure and post-closure
costs not recovered from bankruptcy proceedings), revise the value of C^
(private costs of auditor's special report/facility/year), and incorpo-
rate a revised fee structure for a letter of credit into the calculation
of CL (annualized private costs of fees for a letter of credit/facility/
IV-17
-------
year of facility life). It is still assumed that firms which fail the
financial test will use a letter of credit, although this is less true
for firms without $10 million in net worth than it is for firms having
$10 million in net worth.
(5) Recompute the direct public costs and orivate costs of a given
financial test using the equations of Section II with the revised vari-
able values discussed in steps 1 and 3 above.
2. Changes in the Values of Variables
Table IV-4 presents the revised values of variables used to compute
the direct public costs and private costs of tests excluding the $10
million in net worth requirement.
The failure rate for firms with less than $10 million in net worth
was assumed to be 62 per 10,000. The average long-term business failure
rate for all firms is 44 per 10,000 according to Dun and Bradstreet data
(see Appendix A). Small firms owning TSDFs, however, are likely to have
a much higher rate of business failure because of the unusual risks and
potential costly expenditures such as cleanup expenditures, liability
judgments and premature closure of a facility which may occur over the
life of the facility. Although the estimate of 62 per 10,000 is highly
uncertain, the Agency felt that it was necessary to take the effect of
unexpected large expenditures into account when considering the failure
rate of small firms owning TSDFs.
Rpp, the share of closure and post-closure costs not recovered from
bankruptcy proceedings, was increased from .4 to .75 for firms with less
than $10 million in net worth. This reflects the fact that smaller
IV-18
-------
TABLE IV-4
VALUES OF VARIABLES USED IN ESTIMATING DIRECT PUBLIC AND PRIVATE
COSTS FOR FIRMS WITH LESS THAN $10 MILLION IN NET WORTH
Failure rate for all firms to which
analysis is applied (F) 62/10,000
Share of closure and post-closure costs
not recovered from bankruptcy proceedings
-------
firms are much more likely to liquidate rather than reorganize, and that
even when they do reorganize it will be more difficult to collect neces-
sary funds.
The value of C^ was assumed to equal $300 per year to reflect the
elimination of the net worth requirement. Although the cost of a
special report will not vary with the size of the firm, it represents a
fee that must be distributed on a per facility basis. The cost of C^
per facility therefore increases as the number of facilities owned by a
firm decreases. Unfortunately, there are little or no data concerning
the average number of facilities owned by smaller firms. For the pur-
pose of this analysis, it was assumed that firms with a minimum of $10
million in net worth own or operate an average of four facilities while
firms without $10 million in net worth own or operate an average of one
facility. It was still assumed that 34 percent of all firms with
greater than $10 million in net worth and 2.7 percent of all firms with
less than $10 million in net worth are independently audited.
The fees for a letter of credit were considered to be 1.5 percent
of the face value of the credit for firms not having $10 million in net
worth. In addition to higher costs, issuing institutions may require
collateral from smaller firms for the letter of credit. It is also
possible that some firms passing a test without a $10 million in net
worth requirement would otherwise have had to use a trust fund. Because
both of these possibilities would require complete reanalysis of the
public and private costs of alternative financial tests, they were not
taken into account.
IV-20
-------
3. Results of This Analysis
Table IV-5 compares the costs of alternate tests with and without
the $10 million in net worth requirement. It should be noted that
results here, particularly for the tests with the $10 million in net
worth requirement, are different from those reported elsewhere in this
report because the costs of all firms that are independently audited and
not just those with greater than $10 million in net worth and indepen-
dently audited are included. To derive the costs of tests that have a
$10 million in net worth requirement, it is assumed that all firms which
cannot meet this criterion use a letter of credit.
In this analysis, the Test which minimizes the sum of public and
private costs is Test 100 (one-year) without the $10 million in net
worth requirement. This test has total public and private costs of
$929,000 per year. The total direct public costs for this test are
$446,000 per year and the total private costs are $483,000 per year. By
comparison, Test 100 (one-year) with the $10 million in net worth
requirement has a. sum of public and private costs of $1,807,000 per
year, with $374,000 in direct public costs and $1,433,000 per year in
private costs.
Test 100 (one-year) without the $10 million in net worth require-
ment dominates the Ability to Pay Test (one-year). It also has the
advantage of having significantly lower direct public costs. Test 146
(one-year) is, however, extremely close in performance to Test 100 (one-
year) without the $10 million in net worth requirement. The direct
public costs of Test 146 are $11,000 lower than Test 100 (one-year) but
IV-21
-------
TABLE IV-5
to
PERFORMANCE AND DIRECT PUBLIC AND PRIVATE COSTS OF '
ALTERNATIVE FINANCIAL TESTS FOR CLOSURE AND POST-CLOSURE
(in thousands of 1980 dollars per year)
Tuiil
lit-st:rl pi ion
|! a
FJ nanc ial
1f.HI
0
11
2:i4
3(,(,
0
119
112
(,b7
b2j
Uirett
I'.llll 1.
Cos IS Due
ol Finos
Usliif! a
tetter of
Credit
202
2O 2
140
104
2112
lib
.14
17
•14
Total
Ui reel
Puhllc
Costs
202
20:-
174
470
2112
43b
441,
7114
-
li5V
Pri vate
Costs of a
Test
0
123
241
244
162
31 i
118
111
:i2«
Private
Cotits of it
Letter of
Credit
4.393
2./60
1,192
1.159
2 . lOb
207
lu'.
O
41
Total
Private
Cos t :i
4,:i9l
2.B8I
1 .4)1
1,4113
2.2C.H
"i22
4H 1
HI
•JI.V
Slltlt U (
I'uhl ic and
I'ri vale
Cost b
4,59i
l.OB'i
1.80V
I,B7'I
2, 4 7(1
'Ji7
929
1,0'l.S
1
j
I
1,1126
Th<-- May 19. 19HO
-------
the total of direct public and private costs of Test 146 (one-year)
exceed Test 100 (one-year) by $28,000.
4. Other Factors
The previous Section demonstrated that a $10 million in net worth
requirement will not result in a test that minimizes the sum of direct
public and private costs. The next section will show that the results
of Test 100 (one-year), the test that minimizes the sum of public and
private costs, are very sensitive to alternative assumptions in the cost
model, and that under a variety of possible cost assumptions, an Ability
to Pay Test (one-year) would minimize the sum of public and private
costs. The purpose of this section is to examine certain non-cost
factors which might influence the choice of tests and the decision to
include or exclude a $10 million in net worth reauirement.
Table IV-6 compares the non-cost factors of three tests which are
characterized by different degrees of stringency. The purpose of this
Table is to compare the characteristics of firms which pass Test 100
(one-year) with a $10 million in net worth requirement to the character-
istics of firms which pass two successively less stringent tests, Test
100 (one-year) without a $10 million in net worth requirement and the
Ability to Pay Test (one-year).
Eliminating the $10 million in net worth requirement from Test 100
(one-year) allows an additional 194 facilities to be covered by a finan-
cial test (an increase of 8 percent over the use of Test 100 (one-year)
with a $10 million in net worth requirement). However, as a result of
the higher failure rate (28.5 per 10,000 firms versus 10.1 per 10,000),
IV-23
-------
TABLE IV-6
CHARACTERISTICS OF FIRMS THAT PASS SUCCESSIVELY LESS STRINGENT TESTS
Firms That Pass
Test 100 (One-Year)
With a $10 Million
Net Worth Requl rerocnt
Firms That
Puss Test 100
(One-Year) Without a
$10 Million Net Worth
Requirement That Would
Not Pass Test 100
With a $10 Million
Net Worth Requirement
Finns That
Pass an Ability to
Pay Test (One-Year)
Without a $10 Million
Net Worth Require-
ment That Would Not
Pass Test 100 With-
out a $10 Million
Ni L"'Worth Requirement
7
I/
Number of facilities affected
Number of firms per 10,000 per year
that pass the test and will go
bankrupt without providing alter-
native financial assurance
Number of facilities failing per yea
Number of bankruptcy proceedings per
year.2'
Percentage of closure and post-closure
costs not recovered in bankruptcy
proceedings
2,448
10. 1
2.5
.6
40X
194
28.5
.6
.6
75%
110
285
3.1
1.2
46%
—
The number of facilities failing per year is derived by applying the failure rate li.sted above for the
number of facilities affected.
given test to the
2/
— The number of bankruptcy proceedings Is based on the assumption that firms of greater than $10 million in net worth own an
average of four facilities and firms of less than $10 million in net worth own an average of one.
-------
adding 194 facilities will also result in a 24 percent increase in the
number of facilities that will fail per year; that is, an additional .6
facilities over the baseline 2.5 failures will fail as a result of
eliminating the S10 million in net worth requirement from Test 100 (one-
year). The number of bankruptcy proceedings, which is a function of the
number of facilities failing per year and the number of facilities owned
per firm, will increase by 100 percent if the $10 million in net worth
requirement is eliminated from Test 100 (one-year). (It is assumed that
the average firm of greater than $10 million in net worth will own four
facilities and the average firm with less than $10 million in net worth
will own one facility.) The recovery rate in bankruptcy proceedings for
these additional facilities which will fail is also significantly lower
if the $10 million in net worth requirement is eliminated.
The analysis of non-cost factors relevant to a comparison of the
characteristics of firms which oass Test 100 (one-year) with and without
a $10 million in net worth requirement assumes that no firms will obtain
an indeoendent audit for the sole purpose of being eligible for the
financial test. Two groups of firms, however, that might find it in
their interest to obtain an independent audit in order to be able to use
a financial test are: (1) firms that would otherwise have to use a
trust fund rather than a financial test, and (2) firms purposely
attempting to avoid financial responsibility requirements by fraudulent
means. Both of these groups can be expected to have somewhat higher
failure rates than the typical small firm.
IV-25
-------
As noted in Section I, most firms of under $10 million in net worth
would find it less expensive to use a letter of credit than obtain an
independent audit. For firms that own large facilities but cannot
obtain a letter of credit, however, the costs of an audit would be lower
than the costs of a trust, fund. To the extent that this is the case,
firms with higher than average failure rates would be added to the set
of firms using a financial test. If the worst 10 percent of firms with
under $10 million in net worth obtained audits for the purpose of using
a financial test, the average failure rate of firms using a financial
test would rise to 1.1 percent,^ with a proportionate increase in the
number of facility failures and bankruptcies. These events are less
likely for firms of over $10 million in tangible net worth because of
the increasing costs of an independent audit.
Firms wishing fraudulently to avoid financial responsibility
requirements might purposely set UP their books to meet the financial
test requirements and obtain an independent audit. Such an approach
might work to the extent that an auditor was obtained who was willing to
accept these books, or to the extent that the fraud deceived an indepen-
dent auditor. This would be less likely with a $10 million in tangible
net worth requirement, because such a value can be easily checked by
either an independent auditor or by the EPA. Sensitivity analysis shows
that if as few as three such frauds were successful per year, however, a
test without a $10 million in net worth requirement would no longer be
'•Based upon the failure rate of small firms which pass Test 100 but fail
Test 149.
IV-26
-------
the test that minimized the sum of public and private costs. Because
fraudulent abandonments are more likely to lead to excessive closure
costs, an even lower number of fraudulent abandonments per year would
change this result.
Selection of the least stringent Ability to Pay Test (one-year)
rather than Test 100 (one-year) without the $10 million in net worth
requirement allows an even more failure-prone group of firms to use a
financial test. The Ability to Pay Test (one-year) only includes 110
more facilities than Test 100 (one-year) without the $10 million in net
worth requirement: however, these firms will fail at a rate of 285 per
10,000 (2.85 percent failure rate). In addition, the number of facil-
ities which will fail and the number of bankruptcy proceedings per year
will double as a result of using the Ability to Pay Test (one-year)
(i.e., 3.1 facilities will fail as a result of the Ability to Pay Test
(one-year) in addition to the 3.1 facilities that will fail under the
two more stringent tests). The estimated recovery rate in these addi-
tional bankruptcy proceedings is 54 percent. This estimate assumes that
a weighted combination of large and small firms will be represented in
the bankruptcy proceedings. Since the additional firms included by the
Ability to Pay Test will be firms that fail the financial ratio compo-
nents of Test 100 (one-year) and not ones that were excluded solely
because of the $10 million in net worth requirement (these firms would
have already been included in the number of additional firms admitted by
Test 100 (one-year) without a net worth requirement), the additional
firms included with the Ability to Pay Test (one-year) will likely be
weighted towards large firms.
IV-27
-------
5. Sensitivity Analysis
A sensitivity analysis of the type discussed in Section IV.B. was
also conducted to determine how sensitive the results of Test 100 (one-
year) , the test that minimizes the sum of public and private costs
without a S10 million in net worth requirement, are to the assumptions
in the model. This analysis does not take into account the effect of
non-cost factors discussed in Section IV.C.4. The results of this
analysis are shown in Table IV-7. This Table records for each major
cost element and for total direct public and private costs of various
tests the percentage change in costs required to make that test dominant
over Test 100 (one-year) without a 310 million in net worth requirement,
that is, to make it the test that minimizes the sum of direct public
and private costs. The tests chosen to compare to Test 100 (one-year)
without the $10 million in net worth requirement are: Ability to Pay
Test (one-year) without the $10 million in net worth requirement, No
Financial Test, Test 146 (one-year) without the $10 million in net worth
requirement, and Test 100 (one-year) with a $10 million in net worth
requirement.
a. Sensitivity of the Cost Estimation Assumptions _ _
This analysis indicates that it is unlikely that a test more
stringent than Test 100 (one-year) without a $10 million in net worth
requirement would minimize the sum of direct public and private costs.
The more stringent Test 146 (one-year) without a $10 million in net
worth requirement requires a relatively small percentage change in the
private costs of a letter of credit to make it the test which minimizes
IV-28
-------
TABLE IV-7
SENSITIVITY OF TEST 100 (ONE-YEAR) WITHOUT A $10 MILLION IN NET WORTH
REQUIREMENT THAT MINIMIZES THE StfM OF DIRECT PUBLIC AND PRIVATE COSTS
OF CLOSURE AND POST-CLOSURE TO ASSUMPTIONS OF THE COST MODEL
f
M
vO
Test
Description
Ability to Pay
Test (one-year
eligibility
requi reinent ;
without $|Q
million nut
wo r tli
requi reinent)
No Financial Test
'Ic-sl 146 (one-
yeur eligibility
requi reuient ;
without $10
uiillion net
uurth
requirement)
Test 100 (one-
year eligibility
requi remunt ;
with S\0
mi 1 1 ion net
worth
requi I'ement )
erccntage Changtr-
equired In Direct
ublic Costs Due
o Failure of
irms Us iny a
:inanclal Test
-30
1, 104
215
896
Percentage Change
Required in Direct
Public Costs Due
to Failure of
Firms Using a
Letter of Credit
109
Completely
1 nsi-ns i t i ve
(Jompl ete ly
In.scnsi t ive
Ciilllplelely
1 nsensi t i vu
'ercentage Change
Kequlred in Total
Direct Public
:osts
-Al
1,502
25.S
1 . 1' 1 9
Percentage Change
Required in
Private Costs of
a Financial Test
Completely
Insensitive
1,153
933 ...
1 , I-'.O
Percentage Change
Required in
Private Coses of
a Letter of Credit
64
-87
-67
-85
Percentage Change
Required in Total
Private Costs
70
-94
-Ti
-92
I/
I'll. |.i:ii:i-nl.-i(;e change required lor iiny yiveii cusi i-l.-iiK-nl n:|>re.si:nt s the jiercent ;ige change in costs required for all lusts u
ch.iii^'e the i:hoicu of (t.-ut which iiii itl mi zes the Hunt of iljreci public and private costs.
-------
Che sum of direct public and private costs: however, this test would
require that the average cost of a letter of credit be reduced to 0.2
percent of the value of closure and post-closure costs for it to be the
test which minimizes the sum of direct public and private costs. Such a
reduction in the cost of a letter of credit is unlikely, since the firms
which fail the financial test and are forced to use a letter of credit
tend to be firms that are relatively weak financially.
The choice between Test 100 (one-year) without a $10 million in net
worth requirement and the Ability to Pay Test (one-year) without a $10
million in net worth requirement is, however, highly sensitive to a
number of cost assumptions. The Ability to Pay Test (one-year) without
a $10 million in net worth requirement is the test which minimizes the
sum of direct public and private costs if, for example, underestimates
of recovery rates or overestimates of failure rates result in small
percentage changes in direct public costs. The choice between these two
tests is also strongly influenced by the private costs of a letter of
credit. An increase of 64 percent in the costs of a letter of credit
makes the Ability to Pay Test (one-year) without a $10 million in net
worth requirement the test which minimizes the sum of direct public and
private costs. As noted in Section III, this higher estimate is within
the range of uncertainty associated with costs of letters of credit.
Costs of letters of credit may be higher than average for the set of
firms that fail Test 100 (one-year) with a $10 million in net worth
requirement but pass the Ability to Pay Test (one-year) without a $10
million in net worth requirement because they are weaker financially.
IV-30
-------
As discussed in Section IV.B., firms which fail a financial test
may be unable to obtain a letter of credit and would be forced to use a
trust fund, a more expensive instrument. In order to determine how the
use of trust funds would affect the costs, the Agency performed a
similar analysis to that in Section IV.B. assuming that firms which
failed the financial test would use trust funds rather than letters of
credit. The direct public and private costs of a letter of credit
remain the same as in the original analysis. Based on the analysis
described in Section III.F., the average costs of a trust fund will be
7.8 percent of closure and post-closure costs annually over the life of
the facility.
If all firms that cannot pass Test 100 (one-year) without a $10
million in net worth requirement must use a trust fund, then the private
costs for firms that fail this test will increase from $165,000 per year
to $1,797,000 per year, and the sum of direct public and private costs
will increase to $2,565,000. The private costs, and the sum of direct
public and private costs, for the Ability to Pay Test (one-year) without
a $10 million in net worth requirement remain unchanged, since all firms
pass this test and none are forced to use trust funds. As a result, the
sura of direct public and private costs of the Ability to Pay Test (one-
year) without a $10 million in net worth requirement are $1,530,000 per
year lower than the total costs of Test 100 (one-year) without a $10
million in net worth requirement. If even 7 percent of the firms which
fail Test 100 (one-year) without a $10 million in net worth requirement
use a trust fund, then the Ability to Pay Test (one-year) without a $10
IV-31
-------
million in net worth requirement will be the test that minimizes the sum
of direct public and private costs.
As discussed in Section IV.B., most of these additional private
costs of trust funds are not costs to the economy as a whole, as are the
costs of the other financial mechanisms, but are transfer payments and
should not be included as private costs. If only the costs of trustee
fees are included as private costs, then the private costs of a trust
fund are approximately the same as private costs of letters of credit.
Therefore, the sum of direct public and private costs of Test 100 (one-
year) without a $10 million in net worth requirement is lower than the
sum of those costs of the Ability to Pay Test (one-year) without a $10
million in net worth requirement.
b. Sensitivity of the Measurements of test Performance
The results of the analysis of Test 100 (one-year) without a $10
million in net worth requirement are sensitive to the same uncertainties
with respect to the measurements used to predict test performance as are
the Results for Test 100 (one-year) (see Section IV.B.). As noted in
Appendix A, the differences between performances of several of the
tests, particularly Tests 100, 146, and 137, all as one-year tests, are
extremely small with respect to both Ep and A^. For example, if the
values of Ep and Ajjg of the tests were applied to the holdout sample,
Test 137 (one-year) would dominate Test 100 (one-year). The basic
problem is that there are no statistically significant differences
between the performances of these tests. However, Test 100 (one-year)
is the test which minimizes the sum of direct public costs using the
IV-32
-------
values of Ep and A^ for both the primary samples and the average of the
combined primary and holdout samples. Thus, it is reasonable to con-
clude that Test 100 (one-year), among, all of the tests examined, is the
test that minimizes the sum of direct public and private costs.
As noted in Section I.B., the effect of the multiple portion of the
test is not included in the measurement of either ANB and Ep. Failure
to include these multiples in the measurement of Ajjg results in an
overestimation of costs associated with firms passing a financial
test. This results because at least a few firms that are counted as
passing the test would be firms with relatively small net worth and very
high closure and post-closure costs which in fact fail the multiple
oortion of the test. Ep would be somewhat underestimated because it
does not include the ability of the multiples to discriminate against
bankruot firms. The combined effect of this is that total direct public
costs are somewhat overestimated and private costs are somewhat
underestimated.
c. Alternative Assumptions about the Percentage of Firms that are
Independently Audited
Table IV-8 compares the costs of Test 100 (one-year) for all firms
using different assumptions as to the percentage of firms that are
independently audited. The cost analysis discussed in all of the
previous Sections includes only the costs to facilities owned by firms
that are independently audited. The base assumption is that 34 percent
of firms of greater than 310 million in net worth and 2.7 percent of
firms of less than $10 million in net worth are independently audited.
This Table presents the costs of Test 100 (one-year) to all firms,
IV-3 3
-------
TABLE IV-8
COSTS FOR ALL FACILITIES OF TEST 100 (ONE-YEAR) USING ALTERNATIVE
ASSUMPTIONS AS TO THE PERCENTAGE OF FIRMS INDEPENDENTLY AUDITED
(ASSUMING ALL FIRMS NOT INDEPENDENTLY AUDITED USE A LETTER OF CREDIT)
f
CO
Percentage ol
li..le|>i:udeniJ\
Over $10
Million in
Net Worth
34
i4
100
Kit,
i;
Firms
Audited
I.est, Than
$10 Mill ion
in Net WorLli
0
2.7
100.0
0
1.35
i
tl-'/
10.1
11.4
19. 3
10. 1
11.4
Percentage of
All Facilities
Dial Pass
Test 100
(one year)
17
If,
9t-
i 4K
9
)i reel Puli 1 ic
"ostb hue 1 o
Fai lure ul
r'i rins lisi m;
a F i naiit' i ii 1
lest
234
332
4,331
702
I6(.
Direct Pulillc
Cuslb Due CD
Fa i 1 nre of
Ki ruis ll.siiij;
a Letter
ol Credit
2.5B6
2,if,l,
1,4'J^
'- . • * ti '^
2 , til.'.
Total Direct
Public C.UKIS
2,820
2,H"2
S.blO
3.1fi4
2,770
Private Costs
of a Financial
Teal
241
Jib
4,3h>
723
' 160
Private Costs
ot a l.ei ler
of Credit
«,,023
44,99.,
l,6r.b
39,621
47. 1 HI
Total
4ft , 264
45,314
6,010
40,344
47,27(1
Sum of Direct
Pub lie and
Private Costs
49.0B4
48,206
1 1 . K40
i A3, 508
:'° '"•''"
— t = iltc i:u'SL ijruli.'jb Ic: i-tit Jiuat c of tin/ ni itul JUT of f i i tiii j-ui H) .OUO L li.n i>iit.^ o • \: \ vcit 1 i ii.iuc i a 1 i urit that will £o bank r up t wi thout prttvid i\\\
a 11 L: i li.i 11 vi: t iiiaiu i a i .jssiii aiK'.L ,
i.n i mi; |i:,.:s .-i»:,i uio.it: 1 t>l hui't h>n 1 V.C. I . .'iiitl L' . . inn .1 ! i -Jis K . i ,• i n,: I U.K.- .Mi I a> I I i l i i-s. T.-ii' i 1 i lieb. not t>wm-.l l>> ;ui i ii,lc|H-inK:ut J y
and i Led 1 i r 11. ;n u as.iaiuiui» lo IISL- u !,«•) i L i i'l (!i« J i l .
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including those not independently audited. All firms that are not
independently audited are assumed to use a letter of credit. The per-
centage of facilities that pass Test 100 (one-year) represents the
percentage of firms that meet the criteria of Test 100 (one-year) and
are independently audited. Therefore, if all firms are independently
audited, 96 percent of all facilities will be included by Test 100 (one-
year). The percentage of all facilities included by Test 100 (one-year)
is then adjusted downward to reflect the different assumptions as to the
actual percentage of firms that are independently audited.
As shown in the Table, the sum of direct public and private costs
of Test 100 (one-year), assuming that 34 percent of firms with greater
than $10 million in net worth and 2.7 percent of firms with less than
$10 million in net worth are indeoendently audited, is $38 million.
Because only 18 percent of all facilities are included by Test 100 (one-
year) under this assumption, the costs are significantly higher than the
sum of direct public and private costs if all firms were independently
audited (or if this requirement were eliminated).
Assuming that all firms are not independently audited, the accuracy
of the percentages used is not very sensitive. If 100 percent of firms
of greater than $10 million in net worth and no smaller firms are inde-
pendently audited, the sum of direct public and private costs is only 12
percent lower than the base estimate. Similarly, if the base estimates
are both overestimated by 50 percent, the total costs will only be
increased by 5 percent.
IV-35
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The assumptions used for the percentage of firms that are indepen-
dently audited greatly affect the costs associated with a given test;
however, because these changes will affect the cost of all tests
equally, changes in these assumptions will not affect the choice of the
test which minimizes the sum of direct public and private costs.
IV-3 6
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