Item 21a Staff Report Public Hearing to Consider Solid Waste Management Issues: a) Refuse Collection Rate BaseCOUNCIL AGENDA
DATE: 1-17-96
ITEM NO. /
TOWN OF LOS GATOS
COUNCIL AGENDA REPORT
DATE: January 12, 1996
TO: MAYOR AND TOWN COUNCIL
FROM: TOWN MANAGER
SUBJECT: PUBLIC HEARING TO CONSIDER SOLID WASTE MANAGEMENT ISSUES:
a) Refuse Collection Rate Base
RECOMMENDATION:
1. Accept public testimony.
2. aose the public hearing.
3. Accept the Rate Review Commttee's (RRC) report and adopt recommended rate base elements listed
in Attachment 1 for rate setting purposes.
BACKGROUND:
Council opened the public hearing to consider the Green Valley Disposal Company performance audit and
the rate base on November 21. An Informational report regarding rate base was presented to Council on
December 5. At its January 3 public hearing, Council heard additional testimony.
The RRC developed two rate base aftematives. These are discussed in its report to the City/Town Managers
Count Report 23a; 1-3-95. Attachment 1 to this report summarizes the action of the other three West Valley
Cities and the recommended action.
Attachment 2 summarizes the Council's position, as of January 3, 1996, in the five primary areas: operating
expenses, disposal costs, profit, taxes, and balance accounts. At that public hearing, Council achieved
consensus on all but three issues: 1.) whether or not to allow profit on franchise fees; 2.) whether or not to
incorporate a balance account deficit, through FY 1992-93 of $778,000 or S910,000; and, 3.) whether or not
to pay interest on the balancing account. Information on tax rate alternatives is provided for information only.
Performance Audit
The West Valley jurisdictions (Campbell, Monte Sereno, Saratoga, the Town of Los Gatos, and Santa Clara
County) entered into a 20-yeer Franchise Agreement (Agreement) for refuse collection and disposal with Green
Valley Disposal Company (GVDC) in 1983. The Agreement requires that a comprehensive performance audit
be conducted every five years by a consulting firm selected by the jurisdictions. The last audit was performed
in 1988. The language in the Agreement is very broad and allows the Town an opportunity to make a complete
analysis of the franchisee's operations, including evaluating its management and operational efficiency and
PREPARED BY: Regina A. Falk
Community S = " ' ; Director
RAF:dr
CS D 19:A: \CNCLRPTS\COLLBAT
Attachments: See page 5 for list of attachments.
Distribution: See page 5 for distribution list.
Reviewed by'
Revised: 1/12/95 2:10 pm
Attorney Clerk Finance reasurer
COUNCIL ACTION/ACTION DIRECTED TO:
PAGE 2
MAYOR AND TOWN COUNCIL
SUBJECT: PUBLIC HEARING TO CONSIDER SOUO WASTE MANAGEMENT ISSUES:
a) Refuse Collection Rate Base
DATE: January 12, 1996
identifying opportunities for Improvements and cost savings. The West Valley jurisdictions and Santa Clara
County jointly participated in the request for proposals and oral interviews process; each agency has the same
provisions in their Agreements concerning an audit. In January 1993, the firm of Hilton Famkopf and Hobson
(HF&H) was selected by the agencies to perform the audit_ HF&H worked with the public agency staffs and
GVDC to accomplish the audit objectives at the most reasonable price. A contract was executed with HF&H
in June 1993. The firm is very experienced in this type of auditing process and contracts exclusively with public
agencies.
Audit completion was delayed for a number of reasons. First, GVDC requested an interim rate increase
effecthre July 1, 1993. However, the Rate Review Committee determined that a rate adjustment would not be
appropriate without a rate review to justify a rate Increase. Second, GVDC was undergoing its financial audit
in the stammer ci 1993 so that GVDC's staff were unable to begin to provide HF&H with copies of documents
until fate August. For these reasons, HF&H was unable to begin work until September 1993. The draft report
was completed in January 1994. HF&H's preliminary findings were based on Information provided to HF&H
at the time In a cooperative effort to resolve findings prior to issuing the final report, GVDC was given a copy
of the draft report. After the draft audit was issued, GVDC staff provided information requested by HF&H. Most
of the original findings were subsequently resolved and the final audit was completed November 1994.
Scope of HF&H Contract
Several subject areas were addressed in the Audit, as required by the Agreement, including GVDC's financial
management practices; procedures for the acquisition, maintenance, and replacement of equipment; staffing
per; and comparison of business practices of businesses deemed similar to GVDC. In addition, staff from
each jurisdiction agreed to retain HF&H to:
1. determine the reasonable and necessary costs of GVDC's operations;
2. determine each jurisdiction's cost of service through a time and motion study to establish
appropriate collection rates; and
3. develop a standard rate application and review process to use for future rate reviews. When
the draft Rate Review Manual is completed, a copy will be provided to GVDC for discussion
pub
The third item was induded to address Green Valley's concerns regarding profit calculation. After rates were
adopted in 1992, GVDC representatives indicated to the Town Managers that they were not satisfied with the
1992-93 budgeted profits. The audk's recommendation to disallow any profit on franchise and disposal fees
continues a policy begun in FY 1990-91 when four Jurisdictions' Councils approved disallowing any profit on
the Increase In disposal fees. In FY 1992-93, the jurisdictions applied the average percent profit earned by
GVDC from Fiscal years 1966-1982 to operating expenses, excluding franchise and disposal base fees and
surcharges, so that GVDC would not eam windfall profits on large increases in disposal fees.
DISCUSSION:
1. Profit on Franchise Fees
Incorporate profit on franchise fees into rate base?
In FY 1993-94, profit on the franchise fee was approximate $64,000. Los Gatos' share is approximately
$22,000. Staff recommends that the Town imposed franchise fees continue to be treated as an
expense. This will cortk ue the historical practice of allowing franchise fees as an
profits are calculated. This practice has been In effect since 1983. expense upon which
As per Council's direction, rate base calculations do not include franchise fees as part of gross
revenues. When calculating actual fees to be paid to the Town. This eliminates "franchise fees on
franchise fees?
PAGE 3
MAYOR AND TOWN COUNCIL
SUBJECT: PUBUC HEARING TO CONSIDER SOLID WASTE MANAGEMENT ISSUES:
a) Refuse Collection Rate Base
DATE: January 12, 1995
2. Balancing Accounts
Incorporate balance account deficit of $778,000 or $910,000 through FY 1992-93 into rate base?
Staff recommends that Cotes incorporate a balance account deficit of $778,000 (pre-tax for the West
Valley agencies) through FY 1992-93 Into the rate base. This is a compromise in that Council could
elect not to pay past profits. If Council agrees to incorporate the deficit into the rate base, it should
do so on the basis that any deficits prior to FY 1993-94 not be revisited.
According to HF&H, the West Valley Cities owe GVDC $778,000 (pre-tax) through FY 1992-93. The
deficit exists because rates did not cover expenses plus profits in those years. Since about 1986,
GVDC has been maintaining a spread sheet showing each cities revenues in expenses. The spread
sheet identifies each Jurisdictions surplus revenue or deficit. This accounting procedure has
traditionally been called a balance account. It is however, not a balance account In the formal sense
in part because a separate account has not been established and the balancing is not reflected in
GVDC's financial statements.
The performance audit calculated this figure at $910,000. The number was corrected last November
to $778,000 to restrict profits in FY 1992-93 to the West Valley Cities approved 13.6 percent profit ratio.
(13.6 percent profit was calculated as the average percent earned on general operating expenses).
GVDC would like the profit increased to provide a full five percent profit on all costs. Staff
recommends that Council incorporate the $778,000 deficit to be consistent with previous Council
action, the performance audit, and other West Valley City actions. Los Gatos' share is $155,105.
Deficits also exist for FY 1993-94 and 1994-95. Incremental deficits are $258,430 and $274,370,
respectively, assuming a 41 month amortization. This is due to Increases In refuse collection costs
but no increase In fees. Based on the proposed rate increases, the Town's balance account is
estimated to realize a minimal surplus of approximately $11,600 by the end of FY 1997-98.
Rather than increase the rates to cover the entire deficit In one year, staff recommends amortizing the
Increase over three years. This approach results In a 24.1 percent increase February 1, and a 8.9
percent increase July 1, 1996, including recycling services, yard waste collection, and other AB 939
related projects.
Staff will work with the RRC and GVDC to formally establish the balance account and establish a basis
for calculating Its balance. A report will be presented to Council by June.
3. Balance Account Interest
Should the interest charged by GVDC be incorporated into the rate base as an allowed expense?
Staff recommends that the Town not pay interest on the balance account. Interest GVDC pays on
money borrowed for working capital needs and purchases of fixed assets are already included in its
rate base expenses. Ratepayers should not pay twice. Further, under its contract, GVDC is not
required to Include interest Income on Invested earnings in its rate base revenue.
Also, GVDC is provided working capital in advance because customers pey in advance. Residential
customers pay up to three months in advance. Commercial customers are baled monthly and also
pay In advance.
4. Taxes
A 40.138 percent tax rate is recommended for 1993 and 1994 and Include C-Corp tax rates for the
PAGE 4
MAYOR AND TOWN COUNCIL
SUBJECT: PUBUC HEARING TO CONSIDER SOIJD WASTE MANAGEMENT ISSUES:
a) Refuse Collection Rate Base
DATE: January 12, 1996
balance of the contract. This is arrived at by combining a 34 percent Federal rate and a 9.3 percent
State rate, with a reduction in the Federal rate for savings from deducting the State tax from Federal
taxable Income.
Prior to 1987, GVDC wed the C-Corp tax applicable to Its income, and allocated the tax to each
jurisdiction based on the average rate paid by the Company. In 1987, for the benefit of its
shareholders, GVDC elected S-Corp status. At the time, S-Corp (personal) rates were Tower than C-
Corp rates, and GVDC began calculating tax expense at the highest personal marginal tax rate (now
49.5 percent) rather than the average. These S-Corp (personal) rates, benefited ratepayers, even
though marginal rather than average rates were used.
Now, C-Corp rates are lower than S-Corp rates and GVDC can elect to be taxed at these lower rates.
The fact that they have not made such an election should not be a detriment to ratepayers. Thus, for
all future years, ratepayers should be charged the lower of C-Corp or S-Corp rates, using averages
where appropriate.
Staff has contacted the State Public Utilities Commission (PUC) regarding taxes. According to PUC
representatives, it does not recognize the S-corp status in setting rates and treats all businesses as
corporations. The rates set by the PUC are on an individual corporate rate taxable income basis. The
PUC uses the Federal and State corporate tax rate tables.
HF&H recommends using a tax rate of 35 percent. In its original proposal, GVDC argued for a 49.5
percent tax rate. HF&H arrives at its recommendation by taking the profit, dMding it by four (assuming
each shareholder receives an equal share) and determines a 35 percent state and federal tax rate.
GVDC assumes that shareholders are taxed at the highest rates because they have revenues from
other sources.
Staff has requested GVDC to provide copies of shareholders tax returns to determine actual taxes
paid. GVDC has denied this request In its letter dated December 20.
CONCLUSION:
Staffs recommendation for establishing the rate base is summarized in Attachment 1 and Attachment 2, Option
1. A report regarding a formalized balance account will be presented to Council within the fiscal year.
ENVIRONMENTAL ASSESSMENTS:
This is not a pro}oc t as defined under CEQA, and no further action is required.
FISCAL IMPACT:
Franchise fee revenues to the Town are expected to decrease by about $40,000. This loss will be offset by the
admiration fee collected through the recycling agreement. The rate base changes included in this report
result in a net decrease in the FY 1994-95 revenue requirement of about $20,000. (From $4,999,748 to
$4,979,552.) Increasing the tax rate Increased the revenue requirement by about $20,000. Eliminating the
'franchise fee on franchise fee' reduced the requirement by $40,200.
PAGE 5
MAYOR AND TOWN COUNCIL
SUBJECT: PUBLIC HEARING TO CONSIDER SOUD WASTE MANAGEMENT ISSUES:
a) Refuse Collection Rate Base
DATE: January 12, 1995
DISTRIBUTION:
Jean Cushman, 16123 Loretta Lane, Los Gatos 95032
Dan Williams, 304 Harding, Los Gatos 95032
Margaret Woosley, 18 Fulmer, Los Gatos 95032
Gene Humphlett, 18400 Overlook Road, Box 39, Los Gatos 95030
Rate Review Committee
Green Valley Disposal Company, Gerard Wen, P.O. Box 1227, Los Gatos 95031
John Snelham, 248 Old Adobe Road, Los Gatos 95030
Ron O'Neill, 509 Monterey Avenue, Los Gatos 95030
ATTACHMENTS:
1. Rate Base Elements: West Valley Actions
2. Rate Base Options
3. Balance Account Three -Year Amortization Table
4. Correspondence to and from GVDC Regarding C or S-Corp Status and Balancing Account
Attachment 1
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Items outstanding from January 3, 1995, Los Gatos Council public hearing
RBE95/96.WB1
RATE BASE OPTIONS
Attachment 2
A. Operating Expenses
1) Use operating expenses reviewed and approved by HF&H for FY 1993-94 for both
Alternatives A & B.
2) Disallow, as operating expenses, any fees incurred by GVDC for the services of Barakat
and Chamberlin, Inc. (BCI), to assist in the 1993-94/1994-95 rate review process.
3) Disallow GVDC's request to increase salaries by $80,000.
B. Disposal Costs
1) Use a disposal fee of $42.96/ton, rather than the $46.83/ton requested by Guadalupe
Rubbish Disposal Company (GRDC).
2) Reduce projected tons disposed to 108,568 tons in FY 1994-95 for the five West Valley
jurisdictions, rather than the 119,075 tons proposed by GVDC, In order to account for the
reduced tonnage disposed as a result of the new recycling and yard waste services, and
the current allocation of disposed tonnage among each jurisdiction's residential,
commercial and Industrial sectors.
C. Profit
1) General Operating Expense Allow profit on general operating expenses.
2) Disposal Base Fees Allow profit on disposal base fees.
3) Disposal Surcharges Disallow profit on Disposal surcharges starting FY 1993-94.
4) Franchise Fees
Option 1: Allow profit on franchise fees.
Option 2: Disallow profit on franchise loos.
5) Provide for a five percent after-tax return on allowed expenses.
D. Taxes
Option 1: Use the estimated effective tax rate of 35 percent , as proposed by HF&H in the
Final Audit Report
Option 2: Use the estimated tax rate of 43.3 percent proposed by GVDC.
Option 3: Use the estimated tax rate of 40.138 percent
E. Balance Accounts
Balance accounts will be used through FY 1995-96; balance accounts wit be then reevaluated.
Option 1: incorporate a balance account deficit of $788,000 through FY 1992-931nto the rate
base.
Option 2: Incorporate a balance account deficit of $910,000 Into the rate base.
Note: Option 1 is recommended by Staff.
CS D 19: Aaacfrpra Wtachmet
81/11/95
18:37 2 518 713 3234
P.89
Attachment 3
Town of Los Gatos
Balancing Account 3-Year Amortization Schedule
1994-95 1995-96 1996-97 1997-98
Revenue from 4,176,365 5,622,069 5,622,069 6,122,433
Current Rates (b)
Revenue 4,979,552 5,558,262 5,752,801 5,954,149
Requirement
Current (803,187) 63,807 (130,732) 168,284
Surplus/(Deficit)
Beginning (394,870) (595,680) (531,873) (162,242)
Surplus/(Deficit)
Interest on BA
Ending Surplus/ (1,198,057) (531,873) (662,606) ' 6,042
(Deficit) before rate adj.
Amortized Portion (a) 602,377 0 500,3454 0
Ending Surplus/ (595,680) (531,873) (162,242) 6,042
(Deficit)
Required Rate 24.10% 0.00% 8.90% 0.00%
Adjustment
Assumptions:
Operating Ratio 5.00% after-tax profit on op. exp. excl. disposal surcharges
inflation Rate 3.50%
Interest Rate 8.75%
1994-95 rate adjustment effective 2/ 1 /95
No rate adjustment on 7/1/95
1996-97 rate adjustment effective 7/1/96
1994-95 revenue requirement includes 5 months of g/w and recycling
1995-96 revenue requirement and beyond includes 12 months of g/w and recycling
(a) 1994-95 amortization includes an additional $183,000 generated from residential rates
(b) 1995-96 revenues and beyond include an additional $439,200 from residential revenues
1 ./
5 ' _3C r►1
TOWN OF Los GATOS
COMMUNITY SERVICES DEPARTMENT
(408) 354-6820
FAX: (408) 395-8640
Attachment 4
January 11, 1995
Green Valley Disposal Company
Attention: Gerard Wen
583 University Avenue
Los Gatos CA 95030
Dear Gerard:
Crnc Ce,rrEs
110E. MSr
P.O. Box
Los GArc , CA 9503i
As I indicated in the voice mail I left for you at your office this morning, I have received your
response regarding GVDC's position on the balance account.
I am sincerely surprised by your response regarding amortizing the balance account deficit. In a
previous telephone conversation you indicated that amortizing the deficit was "no big deal." In fact
the council reports prepared for the January 3, 1995, public hearing are based on that discussion and
amortize the deficit over the next three years.
Neither you, your sta$ nor your consultants testified at the hearing to argue against the amortization
at the public hearing. Furthermore, I had not received any indication that amortizing the deficit was
not acceptable until I asked for written confirmation regarding particulars.
i
If you wish to discuss this matter with me, I can be reached at 354-6820.
Sincerely,
Reg, Fal Cher
Co pity Services Director
RAF:dr
cc: David W. Knapp
Vera Dahle-Lacaze
INCORPORATED AUGUST 10, 1887
To: Falkner, Regan&
From: Gerard een 1-11-95 1:111a. p. : of 2
Regina Falkner
110 E. Main St.
P.O. Box 949
Los Gatos, CA 95031
FAX
January 11, 1995
Dear Regina:
This fax responds to an item in your fax letter of January 9, 1995.
In the fiscal year 86/87, the Rate Review Committee and Green Valley Disposal
met to discuss various agenda items.
Under "other matters", we brought up three items to the Committee:
l . Change from a C-corp to an S-corp using comparison of marginal tax rates
since Green Valley Disposal was in the C-corp marginal tax rate brackets.
The Committee gave their approval.
2. Change from one CPA firm to another CPA firm. The Committee said this
is a private matter between the Company and the CPA firms. The
Committee said the proposed change does not require Committee approval.
3. Proposal to go to a Consumer Price Index (CPI) on operating costs to
minimize staff time at both the Committee and the Company. The
Committee wanted to explore this matter further. Each jurisdiction
responded on an individual basis to the Company. The response was they
wanted to be able to continue to scrutinize each cost item instead of having
the cost item just adjust by the change in the CPI.
To: Falkrar, Regina
Fro.: Gerard Wen 1-11-95 1:01am p. 2 of 2
The following 87/88 fiscal year, the changes outlined in items I and 2 above were
implemented. This is reflected in the audited financial statements for 87-88. There
is no further written information other than the easel sheets 1 found (and presented
at the Town Council meeting on January 3, 1995) while I was digging through our
old records.
if you have other questions or comments, please contact me.
Sincerely,
)JQ/UJJ1XL
Gerard Wen
2
'a: Falkner, Regiru
From: Gerard yen 1-11-95 8:38a• p. 1 of 2
Regina Falkner
110E.Main St.
P.O. Box 949
,Los Gatos, CA 95031
FAX
January 10, 1995
Dear Regina:
This fax responds to an item in your January 9, 1995 letter:
Amortization of balancing account
In your proposed rates, the Town is planning to amortize three(3) items, not
just the disputed balancing account of the fiscal years 92/93 and prior of
$910,000 (amount is for all West Valley jurisdictions):
1. The balancing account amount of $910,000 for the fiscal years 92/93
and prior. The Rate Review Committee and Green Valley have
previously discussed this matter being amortized, in the context of the
satisfactory resolution of other matters. This has not occurred yet.
2. The shortfalls for fiscal years 93/94, 94/95, and 95/96. The
amortization of these shortfalls over 94/95, 95/96, 96/97, and 97/98
(41 months) have never been discussed with Green Valley by the Rate
Review Committee and/or Jurisdictions.
3. The new curbside recycling, yard waste recycling, etc. charges. The
amortization of these charges over 94/95, 95/96, 96/97, and 97/98 (41
months) have never been discussed with Green Valley by the Rate
Review Committee and/or Jurisdictions.
1
At this point in time, we expect to receive
1) the Los Gatos portion of the $910,000,
2) the shortfall for 93/94, 94/95 and 95/96, and
3) the recycling program fees for 94/95 and 95/96
in full during the fiscal period of 2/1/95 through 6/30/96.
As always, we are available to meet and discuss these and other matters.
Sincerely,
i
2
,,bvt,svui
Gerard Wen
TowN OF Los GATOS
COMMUNITY SERVICES DEPARTMENT
(408) 354-6820
FAX: (408) 395-8640
January 9, 1995
Green Valley Disposal Company
Attention: Gerard Wen
583 University Avenue
Los Gatos CA 95030
Dear Gerard:
CMc CENTER
110 E. MAN STREET
P.O. Box 949
Los GATOS, CA 95031
To make my files complete, please mail me any correspondence you may have indicating that the Rate
Review Committee or the Town approved GVDC's change from a C-corp to an S-corp. I have
looked through my files and am unable to find any such correspondence.
Your response by the end of the week will be helpful.
Also, please confirm GVDC's willingness to amortize the balance account through FY 1997-98;
include any conditions. Your response by tomorrow is necessary for timely completion of the report.
Thanks for your assistance.
Sin ly,
Re
Co i unity Services Director
RAF:dr
r
A. Falkner
cc: David W. Knapp
Vera Dahle-Lacaze
CSD 19:Auattarsk ocxp.wm
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t