| Front page | | Contents | | Previous | | Next |

Water Prices in CEE and CIS Countries. Volume I: Main Text

Chapter 3
Technical, Service and Expenditure Baseline

3.1 Introduction

The purpose of this chapter is to provide guidance as to how to establish an initial assessment of the supply side, viz.: the current technical profile and operations, the service level targets and the future infrastructure, service level and resulting cost and expenditure. We call this initial assessment of the supply side: A technical, service and expenditure baseline.

The methods and tools presented in the current chapter are relevant for cities in the CEE and CIS countries including small towns. The target group is experts within water utility planning.

However, the text also allows other stakeholders involved in water and wastewater planning to obtain an overview of the suggested level of analysis.

The text is of relevance for the planning of traditional investment projects as well as a publicprivate partnership arrangement such as a concession or a BOT.

The establishment of the technical, service and expenditure baseline is one of the first preparatory steps following problem identification. This applies whether the project is a PPP arrangement or a traditional investment project in a public utility.

3.2 Suggested approach, timing and resources

3.2.1 Approach

Any demand analysis, including the suggested willingness to pay analysis and political acceptability assessments, must take the current technical and service level situation as its entry point.

Text Box 1:
The recommended approach for establishing a technical, service and expenditure baseline

    
The current technical situation should be described - as objectively as possible - with respect to the current service levels provided. For this purpose, the use of the "Technical Profile Summary" containing a number of simple indicators / service characteristics is envisaged, see Appendix 3.

Based on the current service level, condition and operations, an initial set of future service level targets and the deadline for achieving these targets must be specified along with corresponding rough estimates of investment expenditure needs and operational expenditure.

The current technical situation and the service targets (scope and timing) will form the background for:

	the formulation of the questions to be used in the willingness to pay survey;
	the tariff assumptions used in the affordability analysis; and
	the structured interview guide to be used for the political acceptability analysis.

Finally, the results of the willingness to pay, affordability and basic political acceptability analysis provide inputs to the determination of applicable and affordable service levels leading to the identification of priority investment programmes and corresponding financial arrangements (including tariff development). Again, it should be noted that timing of the achievement of future service level may be very important in relation to the cost of investment programmes.

The identification and timing of affordable, acceptable and feasible service levels (in the narrow sense that the customers are willing to pay for them) constitute the first "round" of the iteration. This first round of iteration should take place during the pre-feasibility stage.

In the second round, the priority investment programmes are identified and conceptually designed. At the same time, financial and institutional arrangements are designed. For traditional investment projects, this second round of iteration should take place during the feasibility stage. For PPP arrangements, the tender material and the bidding process will typically either define a service level to be achieved at the best tariff, or request the best service to be offered at a given tariff.

The simultaneous consideration of "acceptable tariffs" and service level offered is - or ought to be - the same whether "the project" is a PPP arrangement, such as a concession contract, or a traditional investment project by a public utility. In both cases, the determination of an acceptable and affordable service level is the key to ensuring both the "optimal" future service level and the revenue stream necessary to pay for the related investments.

3.2.2 Timing of the analysis

The optimal timing of establishing the technical, service and expenditure baseline does not differ depending on whether the project is a PPP arrangement, such as a concession agreement, or a traditional investment project in a public utility. In both cases, this is one of the first preparatory steps following problem identification.

For a traditional investment project in a public utility, the establishment of the technical, service and expenditure baseline should be undertaken during the pre-feasibility stage.

For a PPP agreement, such as a concession, a BOT etc., the optimal timing of the baseline study would be prior to the establishment of a short list of firms who are invited to submit a bid for the concession, BOT etc. and prior to the preparation of the tender documents. In practice, this implies that the technical, service and expenditure baseline should be established during the pre-feasibility stage. The municipality will find the baseline highly useful in defining its service level requirements in a precise manner for the tender documents. Furthermore, the short-listed firms may find it useful to have an indication of the baseline expenditure needs as well as an indicative assessment of the expenditure needs of alternative realistic service levels, although they are likely to make their own assessments hereof.

3.2.3 Resources required

The technical work, as described in Text Box 1, requires that adequate engineering resources be allocated. It is essential that the technical staff is highly experienced in conducting similar assignments in the CEE and / or CIS countries. In that respect, the most critical task is task 3, assessment of the expenditure needs of alternative future service levels.

If investment planning reports are available, for instance in the form of a previous feasibility study or preparations for private sector participation, the assessment of expenditure and expenditure needs will be rather simple. However, this will typically not be the case early in the process.

Compared to the "standard approach", we suggest that much less engineering work should be carried out at this early stage. Only very rough expenditure needs assessments are carried out, matching the requirements of establishing broad future tariff levels. Based on the experience gained during the field testing of the toolkit, it is assessed that a highly skilled engineering input of about two to three person weeks is required, of course depending on the level of data readily available. In this chapter, we have defined minimum but adequate and sufficient levels of technical inputs for an initial assessment of future expenditure needs. However, the need for full-fledged technical assessments during the feasibility stage remains unaltered.

The suggested steps in the analysis are outlined in the following sections.

3.3 Assessment of current service level, conditions and operations

The first step will be to collect technical data to serve as indicators of service and (to a lesser degree) efficiency. This collection of technical data for the analysis of willingness to pay, affordability and political acceptability will take place at a stage where the technical assessments are typically not yet very detailed. Therefore, it is suggested to operate with a limited set of data, which is used to identify the technical options and expenditure needs at a level corresponding to the requirements of the above-mentioned analysis.

The data sources will be existing reports, where available, supplemented with data collected from the water utilities through a simple questionnaire and/or discussions.

The data is compiled into a "Technical Profile Summary", see Appendix 3.

All data presented in the Technical Profile Summary should reflect the actual situation rather than a design/norm situation. The actual data is not necessarily equal to the design data. Where discrepancies are identified, specific notes should be prepared.

The current water and wastewater systems, their condition and the overall service level should be described on the basis of the collection and assessment of the above data and benchmarked to international service levels in general, supplemented with discussions and selected sample visits to a limited number of facilities.

3.4 Specified targets for future service

Based on the assessment of the current situation, realistic scenarios for future service levels should be made. These scenarios should, as a minimum, include a "without the project" and a "with the project" scenario.

It is important to consider the "without the project" scenario. The future service level of the "without the project" scenario is unlikely to be similar to the current service level. This will only be the case if operation/maintenance and re-investment are adequate to maintain the current service. Otherwise, the future service level in the "without the project" scenario will most likely be worse than the current service level. The timing of improvement is an important issue to be considered in both scenarios. For the technical analysis, but in particular for the willingness to pay analysis, it is crucial to describe the "without the project" scenario properly. In some cases, the willingness to pay analysis should focus on the willingness to pay to avoid deterioration in service level, rather than the willingness to pay for improvements¹⁰.

The sections below provide an indication of the considerations that are likely to be relevant in the CEE and the CIS countries, respectively.

3.4.1 Service objectives - CEE Countries

Generalising the current service level situation in urban areas of the CEE countries, one could say that, today, the level of services provided is, in many aspects, approaching West-European service levels.

The coverage of water and wastewater networks is high (90 - 100%) within the urban areas, and most utilities provide 24 hours of continuous water supply. In many cases, the water production facilities appear to be of a reasonably high standard (have recently been upgraded in several places). The main bottlenecks are the water and wastewater networks, which, in many cases, are old (or very old - some parts being up to 100 years old). Rehabilitation of the networks has been and is being carried out at a certain level, but further rehabilitation will be required to sustain the current service levels.

The case studies revealed that service level problems typically relate to water quality and reliability of supply (number of breakdowns). As regards water quality, the extent of the problems must, however, be characterised as minor; typically the failure rate of the samples taken was less than 1%.

Wastewater treatment is partly provided, although not to the level of the standards required by the EU. As many CEE countries are acceding to the EU, large investments in improved wastewater treatment (notably nutrient removal and sludge treatment) are being made in response to the requirement to fulfil the environmental acquis.

Water sector investments in the CEE countries typically have two key objectives. First, to achieve compliance with EU standards, and second, to sustain the existing service level, perhaps with improvement in quality and reliability.

3.4.2 Service objectives - CIS Countries

In most municipalities in the CIS countries, the current water sector service levels are considerably below those in the CEE countries. Many water utilities are not able to provide a 24-hour continuous supply. In some cases, utilities are not even able to supply water every day. The water quality is often not consistently adequate and deteriorates over time. The water and wastewater networks appear to be in a very poor condition as a result of a backlog of investment in maintenance and repair. High investments are required even to maintain the current service level.

Experience from the CIS countries has revealed that the establishment of service objectives equal to the service levels applied in Western Europe will often require substantial investments, far beyond the affordability of the population and the financial capacity of water enterprises and other sector institutions. Instead, most water sector investment projects in the CIS countries focus on priority rehabilitation of facilities followed by priority investments to sustain the achieved service level. The rationale behind this priority rehabilitation philosophy is, of course, to achieve the required benefits from already made investments in physical infrastructure (the existing facilities) through upgrading (rehabilitation), before investing in new infrastructure (expansion of the systems).

In some municipalities, even rehabilitation is not affordable. This is typically the case in cities (other than the capital) in countries such as Georgia and Moldova where the GDP has fallen drastically since the dissolution of the Soviet Union, at which time the infrastructure in these cities was relatively well developed. In such municipalities, it may be relevant to think in terms of strategic dis-investments in municipal infrastructure. This way, the scarce resources for operation and maintenance and for rehabilitation could be channelled to key infrastructure segments, and non-essential segments could be left to deteriorate and/or be replaced by infrastructure designed for a lower service level.

3.5 Investments, operation and maintenance and resulting expenditure need

The assessment of expenditure needs is normally the most difficult part of establishing the technical, service and expenditure baseline. In case no concrete and complete data is available, the estimates have to be based on sound engineering judgement.

There are two components: The assessment of costs and related expenditure needs resulting from investments and their funding, and the assessment of costs and related expenditure needs arising from operation and maintenance.

3.5.1 Investment expenditure needs

The sources of data for the costing of investments required to achieve the targets will be existing reports, where available, existing investment plans provided by the water utility, etc.

In most cases, the water utilities will have investment plans for required rehabilitation and expansion. It is, however, important to assess such (existing) plans carefully in relation to the (revised) target.

In cases where no (reliable) investment plans are available, the technical team will have to assess investment levels based on sound engineering practice and taking the Technical Profile Summary as the entry point. Rough rules of thumb and reference to generic cost functions will do, at this stage.

3.5.2 Operation and maintenance

In the CEE, the expenditure need arising from daily operations can typically be assessed on the basis of information given in the accounts. Operation expenditures are typically paid cash or with normal trade credits, and the plants are typically operated as their design prescribes.

In the CIS, it may be difficult to obtain a good estimate of the proper expenditure needs arising from daily operations. Accounting information may be of very little value if expenditures are not paid in cash but via barter or another non-cash arrangement, or if the plants are not operated as their design prescribes, e.g. because cash constraints make it impossible to buy the necessary chemicals. In these cases, the estimated expenditure need has to be based on sound engineering judgement. Such engineering judgement may be supported by information from published benchmarking surveys¹¹.

The appropriate annual maintenance expenditure is typically calculated as a percentage share of the value of assets. At a stage during the preparation of this Toolkit, it was envisaged to include the asset value as an indicator to be used in the assessment of the maintenance expenditure requirements. Based on book and depreciated asset values, it was anticipated that the assessments of maintenance and possibly even repair costs could be estimated.

The key problem experienced - both in the CEE and CIS case studies - was, however, that neither the book value nor the depreciated values are reliable indicators of new or replacement asset values. There are many reasons for this state of affair, but the bottom line is that it makes no sense to base estimates of maintenance expenditure on the asset values provided in the accounts.

Care should also be exercised when relying on water utility maintenance and rehabilitation plans. It should be checked whether the indicated maintenance expenditure needs reflect the actual maintenance requirements, or rather the availability of maintenance funds.

Again, the estimated maintenance expenditure needs have to be based on sound engineering judgement. Such engineering judgement may be supported by information from published benchmarking surveys or from studies, e.g. feasibility studies from other utilities.

3.5.3 Cost considerations in determining tariff revenue needs

The tariff revenue needs depend on the O&M cost and the cost of the investment. With respect to O&M cost, it seems reasonable to assume that the annual costs will materialise as annual expenditure.

Regarding investment cost, the crudest method is to use an estimated annualised cost and assume that tariff revenues should finance the annual cost. One way of doing this is to use the actual outlays to service the loan repayment. If information on financing is available, it may be possible to establish a realistic profile of the expenditure which needs to be financed by tariff revenues.

At this stage - for use in the willingness to pay surveys - it is sufficiently accurate to state the expected tariff increases in intervals of, say +25%, +50% etc.

In some cases, existing reports provide easy conversion of investment levels to tariff increases, see example from Poznan in Figure 3.1 below.

Figure 3.1:
Relationship between medium-term investments and resulting tariff increases, Poznan 1998 - 2005.

Source: Booz-Allen and Hamilton

A similar figure can be used in many situations. The figure will need some accompanying text describing the relationship between different investment levels and the service that can be achieved. Such a relationship may support the design of a proper willingness to pay survey.

In the case of the city of Poznan, a technical review has assessed that an investment level of approximately 50 million USD over the period 1998 - 2005 is required to maintain the current (1998) service level. An additional 40 - 50 million USD would be required to improve the effluent quality through the completion of a wastewater treatment plant. See appendix 13 for more details.

| Front page | | Contents | | Previous | | Next | | Top |