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HomeMy WebLinkAboutResolution No. UB- 08-C066RESOLUTION NO. 08-C66 A RESOLUTION OF THE CITY COUNCIL OF THE CITY OF AZUSA, CALIFORNIA, SETTING CERTAIN RESERVE POLICIES FOR THE UTILITIES DEPARTMENT. WHEREAS, the Utilities Department operates an electric and water utility on an enterprise basis; and WHEREAS, for the Utilities Department enterprises to be managed in a fiscally responsible way, proper financial reserve policies must be set, monitored and updated from time to time; and WHEREAS, on February 27, 2006, the City Council acting in its capacity as the Utility Board, adopted a resolution setting forth reserve policies for the electric and water utilities; and WHEREAS, since February 27, 2006, changes have occurred in the operations, regulatory and legislative environment that have impacted the way the electric utility operates making it necessary to augment existing reserve policy to satisfy anticipated capital needs of the electric utility. NOW, THEREFORE, THE CITY COUNCIL OF THE CITY OF AZUSA, DOES HEREBY RESOLVE AS FOLLOWS: SECTION 1. That the Utilities Department shall maintain the following reserve or fund balance levels for financial planning and risk management purposes as set forth below: Reserve Policy Type Electric Water Operating Reserve 60 days / $6.9 million 60 days / $3.46 million Capital Reserve $3.0 million $20.0 million Contingency Reserve $10.37 million $1.54 million Total $20:27 million $25 million SECTION 2. That the background for the above amounts is set forth in Exhibit A, which is attached to this Resolution and made a part hereof. SECTION 3. That these reserve levels shall be reviewed annually during the budget preparation process, and if warranted, changes will be proposed and made through an updated resolution. 0 SECTION 4. The City Clerk shall certify to the adoption of this Resolution. PASSED, APPROVED AND ADOPTED THIS 28th day of July, 2008. Joseph R. Rocha, Mayor ATTEST: Vera Mendoza, City Clerk STATE OF CALIFORNIA ) COUNTY OF LOS ANGELES ) ss. CITY OF AZUSA ) I HEREBY CERTIFY that the foregoing Resolution 08-C66 was duly adopted by the Utility Board/City Council of the City of Azusa at a regular meeting of the Azusa Light & Water Utility Board on the 28th day of July, 2008. AYES: COUNCILMEMBERS: GONZALES, CARRILLO, MACIAS, HANKS NOES: COUNCILMEMBERS: NONE ABSENT: COUNCILMEMBERS:ROCHA 5A� - - Vera Mendoza, City Clerk 0 0 EXHIBIT A UPDATED ELECTRIC UTILITY'S RESERVES AT FY 07-08 END A. Operating Reserves At 60 days of FY 08-09 electric operating budget = $ 41,897,000/365 x 60 = $6,887,178 Recommendation: Set operating reserves at $6.9 million B. Capital Reserves Recommendation: Increase capital reserves by $0.5 million to $3.0 million to take into account the labor and material cost escalation for electric infrastructure capital projects. C. Contingency Reserves C.1 San Juan Outage Contingency Step 1: Calculate a minimum CONTINGENCY RESERVE for San Juan as follows: Deem a credible San Juan forced outage scenario (45 -day in the summer season which has happened before in summer 2001). Compute the San Juan replacement power cost for this scenario valued at the immediately succeeding summer power prices. Subtract from replacement power cost so determined the amount that can be recovered through the FCA. The application of the above in today's environment will yield: Total replacement power in MWhs = 45 days X 24 hours/day x 30 MW/hour = 32,400 MWhs Summer 2009 power prices (as of July 15, 2008) _ $100/MWh Total replacement power cost = 32,400 x 100 = $3,240,000 Total recoverable from FCA = $750,000/2 = $375,000 ($750,000 is the quarterly FCA cap, 45 - day FCA cap is half) Minimum Contingency Reserve = $3,240,000 -$375,000 = $2,865,000 Step 2: Calculate a maximum CONTINGENCY RESERVE for San Juan as follows: Deem a severe but credible San Juan forced outage scenario (180 -day in the summer season which can happen with 20% probability in the next twenty years based on PNM survey of underground coal mines. The severe scenario can happen if the underground mine catches fire). Compute the San Juan replacement power cost for this scenario valued at the immediately succeeding summer power prices. Subtract from replacement power cost so determined the amount that can be recovered through the FCA. 0 The application of the above in today's environment will yield: Total replacement power in MWhs = 180 days X 24 hours/day x 30 MW/hour = 129,600 MWhs Summer 2009 power prices (as of July 15, 2008) ='$100/MWh Total replacement power cost = 129,600 x 100 = $12,960,000 Total recoverable from FCA = $750,000 x 2 = $1,500,000 ($750,000 is the quarterly FCA cap, 180 -day FCA cap is twice) Maximum Contingency Reserve = $12,960,000 - $1,500,000 = $11,460,000 Step 3: Determine the Appropriate Level of San Juan Contingency Reserve Recommendation 1: Due to the purchase of San Juan forced outage insurance for FY 08- 09, the level of San Juan contingency reserve can be reduced by the amount covered by the maximum insurance payout. Thus, San Juan outage Contingency Reserve will be reduced by $4 million and set at $4 million. Recommendation 2: Due to the completion of major San Juan capital improvement project cycle, the capital project contingency reserve is reduced to zero. Total San Juan Contingency Reserve is recommended to be $4 million C.2 Electric Utility "Net Short" Power Procurement Contingency The electric utility may have energy needs which are beyond the current level of energy supply. This is a situation referred to as a "Net Short" power resource condition. In this case, the Electric Utility needs to procure power at near term prices, which may not be supported by the current retail rates. Thus it is recommended that the following methodology be used to establish a CONTINGENCY RESERVE amount for "Net Short" Power Procurement as follows: Step 1: Calculate the Annual Net Short Requirements for the Immediately Three Years: In our case, we are almost fully covered for 2008 from the energy requirement perspective; we are not covered from the energy requirement for summer 2009 and 2011, thus: Net short 2009 = 32,000 MWhs (20 MW on -peak power for June through September) Net short 2010 = 32,640 MWhs (assume 2% growth for summer consumption) Net short 2011 = 33,300 MWhs (assume 2% growth for summer consumption) Choose the highest Net Short of the three years, i.e., 33,300 MWhs Step 2: Calculate the Power Cost That Can Support Net Short Procurement within Existing Revenue Structure This step can simply be accomplished by computing the average wholesale power cost of Azusa's existing resource portfolio, which is about $55/MWh. Step 3: Calculate the Cost above that can be supported by Azusa's retail rate for the Net Short Procurement This can be accomplished by computing: Total Net Short procurement Cost at the Summer Prices in 2009 (as of July 15, 2008) = 33,300 MWhs x $100/MWh = $3,330,000 Cost that can supported by retail rates for Net Short = 33,300 MWhs x $55/MWh = $1,831,500 Cost not supported by existing retail rate for Net Short Procurement = 3,330,000 — 1,831,500 = $1,498,500 Recommendation: Set Net Short Procurement Reserve at $1.5 million C.3 Electric Utility Legal and Regulatory Risk Contingencv Global Warming and GHG Exposure: California legislature enacted AB32 in 2006 to regulate the greenhouse gas emissions with the goal of achieving GHG reduction of about 25% by 2020 from the current GHG level. There is a reasonable expectation that some type of carbon "tax" in the form of direct tax on sources of GHG emissions or in the form of emission allowances that sources of GHG will need to procure. While the cost of carbon tax is unknown at this time, but it is expected to be costly if 25% reduction goal is to be achieved by 2020. Based on some realistic estimates by industry experts, the cost of carbon tax could range from $5 to $50 per ton of CO2. Thus it translates into about. $5/MWh to $50/MWh cost adders in the electricity production cost from coal resources. Staff recommends reserving some money to hedge against such carbon tax for two years at the mid range of cost estimates, e.g., $20/MWh adder to the electricity production from San Juan. Two year electricity production from San Juan = 30 x 8760 x 0.85 x 2 = 446,760 MWh Total targeted reserve = 446,760 x 20 = $8,935,200 Staff recommends that the targeted reserve be achieved in three years, thus reserving $3,000,000 each year for the next three years. This is the second year of the implementation and thus $6 million should be set aside. 0 0 Accelerated Renewable Resource Procurement: The City's current Renewable Portfolio Standard (RPS) approved in 2003 established a goal of 20% of retail energy consumption coming from renewable resources by year 2017. The RPS also calls for retail rate increase of no more than 5% in achieving this goal. We currently have 7% in renewable energy and are fortunate to procure it at below market prices. However, since 2003 the state has accelerated the timeline in meeting the RPS goal of 20% from 2017 to 2010, seven years earlier than the previous legislation. There are also serious ongoing discussions in the current legislative sessions to increase the RPS to 33% by year 2020. The accelerated timeframe to comply with the state RPS goal and the potential increase in the procurement target from 20% to 33% will pose financial challenges for the City to keep its rate increases for renewable energy procurement under 7%. Thus a reserve for accelerated renewable resource procurement is warranted as follows: Step 1— Calculate the Remaining Amount of Renewable Resource to Meet the Target at 20%. and 33% RPS at Current Energy Consumption Level FY 05-06 Retail Energy Consumption = 259,000 MWh 20% RPS requires 51,800 MWh and 33% RPS requires 85,470 MWh. Existing renewable resources provide 16,500 MWh. Remaining renewable energy to be procured to meet 20% RPS = 51,800 — 16,500 = 35,300 MWh Remaining renewable energy to be procured to meet 33% RPS = 85,470 — 16,500 = 68,970 MWh Step 2 — Compute the Cost Above City's Average Power Procurement Cost City's average power procurement cost = $55/MWh Current renewable resource costs (CPUC Market Referent Price) = $105/MWh Cost above City's average power procurement cost @ 20% RPS = (105-55) x 35,300 = $1,765,000 Cost above City's average power procurement cost @ 33% RPS = (105-55) x 68,970 = $3,448,500 Step 3 — Compute the Required Reserves Above 7% Retail Rate Increase 7% retail rate increase translates into about $1,820,000, thus Reserves at 20% RPS = 1,765,000 —1,820,000 = ($55,000) Reserves at 33% RPS = 3,448,500 —1,820,000 = $1,628,500 LI Staff recommends setting aside $800,000 (the medium of the high and low) in reserves explicitly at this time to account for additional accelerated RPS requirement. , SUMMARY: Staff recommends the Reserve targets to be updated to as follows: Operating Reserve Account = $ 6,900,000 Capital Reserve Account = $ 3,000,000 San Juan Contingency Reserve= $ 4,000,000 Net Short Procurement Reserve = $ 1,500,000 Renewable Procur. Reserve = $ 800,000 Legal and Regulatory Contingency= $ 6,000,000 Total $22,200,000 Projected Cash Reserves at FY End= $26,570,000 Unencumbered Reserves= $ 4,370,000 However, certain recent loans and anticipated interest transfers to the General Fund will reduce the unencumbered reserves to ZERO and cause under funding of reserves. The transfers are as follow: Arrow Hwy/Azusa Ave property $5,300,000 Prior -year interest earnings transfer $1,000,000 $6,300,000 Revised Projected Cash Reser. At FY End = $20,270,000 Reserves under funded = $1,930,000 Staff suggests to under fund San Juan Contingency Reserve by $1,930,000 to balance the reserve funding, thus San Juan Contingency Reserve will be funded at $2,070,000 instead of $4,000,000. F�-I UPDATED WATER UTILITY'S RESERVES AT FY 07-08 END A. Operating Reserves It is recommended that the Water Utility keep sufficient liquidity in reserves to cover 60 days of operating expenses plus annual debt service payment at all.times. At present time, the Water Utility's annual gross operating expense (including GF transfers as "operating" expenses) as budgeted is about $20.8 million and thus 60 days of operating expenses translate into about $3.46 million. B. Capital Reserves It is recommended that Water Utility keep sufficient reserves to equity fund well defined capital projects that are not intended to be debt funded or only partially debt funded. At present time, the Water Utility internally funds between $1.5 to $2.5 million per year in capital projects out of its operating revenues and such funding is anticipated to increase to $4-5 million per year in the foreseeable future. It is recommended that CAPITAL RESERVE ACCOUNT be created and be funded with $20 million as the target reserve level (approximate amount to internally fund 4 -years of expenses for capital projects). The target cash reserve level should be reviewed and reevaluated annually and adjusted accordingly. The Water Utility will prepare a list of capital projects with sufficient details as part of the annual review process to enable the Utility Board to make informed decision to adjust the target level of capital reserves the Water Utility should retain. The Water Utility will also prepare a report detailing the level of funding that might be required as part of the support services it receives from other divisions or departments of the City. C. Contingenev Reserves Last year's severe drought condition caused the water utility to purchase substantial amount of water from outside sources (Metropolitan Water District) at a considerable cost. While the added purchased water costs were recovered through bi-monthly billing adjustments to the replacement water cost adjustment factor, the loss of revenue from water conservation, estimated to be about $1.6 million in Fiscal Year 2007-2008, was not recovered. This fact highlights the unanticipated cost exposure the water utility faces during severe drought conditions. Although water utility was able to sustain an operating loss this year, it is prudent to set aside some reserve for this type of extraordinary loss in the future. Thus, it is recommended that the Water Utility keep sufficient reserves on hand to provide a contingency reserve for unanticipated losses that result from water conservation and possibly to offset higher purchased water costs. It is recommended that $1.54 million be set aside and used to cover operating budget deficits in the event revenues decline due to water conservation or it become necessary to use additional resources for higher purchased water costs. 0 SUMMARY: Staff recommends the initial Reserve targets for the Water Utility as follows: Operating Reserve Account $ 3,460,000 Capital Reserve Account $20,000,000 Contingency Reserve $ 1,540,000 Minimum Total Reserve $25,000,000 Cash or cash equivalents on hand at the beginning of this fiscal year are adequate to fulfill the above Reserve requirement. See below estimates: Cash at Beginning of FY 2007-08(') $26,400,000 Est'd Operating Loss in FY 2007-08t�1 -$ 1,400,000 Est'd Cash at FY Ending 2007-2008 $25,000,000 Due to the large amount of capital expenditures expected over this next year, the existing Reserve levels will require closer monitoring during Fiscal Year 2008-2009. The target Reserve levels are to be maintained and updated every fiscal year during the approval processes for the following fiscal year's budget. Any adjustment, including operating cost reduction and/or retail rate increase, should be considered in order to maintain the reserve level for each component described above. Notes: (')Excludes Cash with Fiscal Agents. See page 26 of FY 2006-07 Comprehensive Annual Financial Report (CAFR). (2) Includes $2.2 million in capital improvement project spending during FY 2007-2008 based on budget reports.