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Fletcher: It might be time to pay up

July 23, 2013
Stephen Fletcher , The Alpena News

The now discredited economist Lord Keynes said something with which we can all agree: "In the long run, we are all dead."

I can certainly agree with this as the planning I do for my company is done on a 50 year time horizon. The length is not so very long when you consider that it is the life expectancy of a new electric overhead power line. Planning out a long temporal distance gives one an appreciation for long term and short term economic phenomena.

All of us are faced with long versus short term economic decisions. The one most familiar to us is the tradeoff between funding our retirement plans and having enough money for day-to-day living expenses. Both are desirable courses of action but the split between them is sometimes hard to juggle.

Likewise is the City of Alpena's quandary about water and sewer rates. When I left the office of mayor, quite abruptly, more than 20 years ago, we had as a city something like $4-5,000,000 combined in the respective sewer and water accounts. My predecessor in the office, Bill Gilmet, was adamant about keeping the balance very robust as he had served on the city council during the separation or the storm and sanitary sewers mandated by the Environmental Protection Agency. He knew that exogenous influences could cause us to need large sums of cash to comply with edicts mandated by outsiders. He was right!

Bill insisted the water and sewer system was operated on a cash "pay as you go" system. He was not eager to raise rates in the short run but he would support such a move if it protected the long term viability of the system. Somewhere between Bill's tenure and the present time the cash balances went from several millions to a couple of hundred thousand dollars. Back 20 years ago several millions would purchase quite a bit of sewer and water improvement but with inflation it just doesn't buy what it used to buy.

Evidently, the sewer and water funds were used, over time, to subsidize the rate structure so that politically difficult rate increases would not have to be faced by the city council. Therein lies the problem.

Long-term economic imperatives are relentless. You can ignore them for a time but after a while you end up with no retirement funds or the city is faced with a consultant's estimate of $40,000,000 to bring the system back up to snuff. That's why I do 50 year time horizons. If I did not use a time frame that acknowledged the useful economic life of the system or which was not funded for the future, then, pretty soon, we would look like the City of Detroit's Public Lighting System. In other words, our physical plant would be decrepit and we would be unable to financially rectify the situation.

That 's almost where the sewer and water properties of the city are now. Nothing is in the savings account and the outside experts say $40,000,000 is needed over the next 20 years. Well, the economics are "pay me now or pay me later."

American Appraisal company did a replacement cost appraisal for the system and came up with $140,000,000. It's a fallacious number because the whole system doesn't and wouldn't be replaced.

A more common way to value a going concern is to look at cash flow. The cash flow is the net income of a business entity plus the amount of depreciation charged annually then multiplied three to five times depending on the outlook for the concern. Since the net income over the past years has apparently been less than zero for the sewer and water facilities, then the value as a going concern is three to five times the imputed number used for depreciation. Maybe this number is $2-4,000,000.

Man! This sounds just like the numbers concerning the now demolished civic center when a local wag opined that the price should be the replacement value at around $6,000,000 and the sales price was actually a few hundred thousand. I believe we need a rate increase for both sewer and water now because we are at the time of "pay me later" because we didn't pay as we went along over the years using up our capital. Bob Gibbons used to tell me: "Pay as you go and you never owe."

 
 

 

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