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III. THE RATE REVIEW PROCESS

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III. THE RATE REVIEW PROCESS The franchised residential solid waste, recycling, and composting collection system has been in place since February 1992. The following discussion summarizes critical aspects of the annual rate review process, as established by the Franchise Agreement between the City and franchised haulers. A. Franchise Agreement Requirements Under the terms of Section 8 of the Franchise Agreement, the City shall: “establish a rate schedule for all Service Levels for the residential Solid Waste, Recycling and Compostables collection services … sufficient for Grantees in aggregate to recover Grantees’ projected Allowable Expenses, Operating Margin and Pass-Through Expenses. The rate schedules established by the City shall reasonably reflect the distribution of customer Service Levels … [and] may also include incentives to Residential Customers to reduce their Solid Waste and to reuse and recycle.” Section 9.B of the Franchise Agreement specifies the general requirements that the City must address in making rate adjustments. Significant provisions of Section 9 include the following: • The City must use a customer-weighted random sampling method to select a representative number of residential haulers (sample haulers), “to determine the reasonableness of the Allowable Expenses in the preceding rate period, and the projected Allowable Expenses, Operating Margin and Pass-Through Expenses for the next succeeding rate period.” For the FY 2024-25 rate review, the six sample haulers represented 82.7% of all solid waste and yard debris customers. • The City may − and currently does − contract with an independent CPA to conduct financial reviews of the costs, revenues and income reported by the sample haulers. This independent CPA-reviewed financial information forms the primary basis for calculating rates. B. Key Rate Review Objectives The City of Portland seeks to: • Develop rates that reflect the actual cost of providing service before adding incentives and disincentives. • Develop rates that provide an incentive for customers to increase recycling and reduce solid waste generation. The City of Portland applies incentives to cost-of-service rates to reduce the rates for service levels with lower garbage capacities. Disincentive premiums are applied to the rates for 60- and 90-gallon roll carts and all single family multi-cart service levels. These disincentive premiums increase the rates paid by customers and partially offset the reduction in hauler revenue caused by the incentive discounts. • Develop rates for standardized curbside collection service as well as other levels of service, such as a 35-gallon cart collected every four weeks, recycling-only and on-call service, and service for occasional solid waste and yard debris setouts. June 2024 Residential Curbside Collection Service Rate Study 5

• Develop rates that recover allowable costs and provide haulers with the opportunity to earn an operating margin equivalent to a 9.5% return on revenue. • Ensure that non-curbside solid waste, recycling, and composting service is provided, at no additional charge, to customers in households where no one is physically able to place containers at the curbside. C. Unique Elements of the Rate Review Process In order to comply with the Franchise Agreement and achieve the objectives described above, the City of Portland annual rate review process includes the following unique elements:

  1. Annual Rate Review Process Timing Revised residential solid waste, recycling and composting rates are usually effective on July 1st, at the start of each fiscal year. Rates are based on hauler financial data for the previous twelve-month calendar year ending on December 31st. The six-month lag between the end of the calendar year and the effective date for new rates allows time for the following events to occur: • Preparation and submittal of calendar year financial data by the haulers; • Selection of the sample haulers who will have their financial data reviewed by an independent CPA retained by the City; • Completion of the independent CPA's financial review; • Calculation of recommended rates by an economic consultant retained by the City; • Review of the recommended rates by SW&R staff; • Review of the recommended rates by the Planning and Sustainability Commission; • Review and eventual approval of the recommended rates by City Council. FY 2024-25 rates are based on hauler financial data for the twelve-month calendar year ending on December 31, 2023 (CY 2023).
  2. Hauler Reporting Requirements In early March of each year, all residential franchised haulers are required to file with SW&R a comprehensive financial disclosure known as a Detailed Cost Report (DCR). The DCR requires the haulers to present information regarding their calendar year revenues, costs and income pursuant to extensive City guidelines regarding allowable and non-allowable expenses, Generally Accepted Accounting Principles, accrual basis versus cash basis accounting, depreciation policies, salvage values, cost allocations and a variety of other financial reporting topics. In addition to the annual DCR, SW&R collects a variety of other information used in the rate review process, including quarterly customer counts by service level, and extensive data on labor hours and material weights. SW&R also collects information on "extra" services for use in the rate review process. These services − such as backyard collection services and additional solid waste June 2024 Residential Curbside Collection Service Rate Study 6

and yard debris setouts − are provided to customers upon request for an additional fee. Forecasted revenues from extra services are netted against total hauler costs and thus reduce the rates for primary curbside collection services. In a similar fashion, the incremental cost of providing service in the Westside Terrain Area is subtracted from total hauler costs to calculate the standard rates and the Terrain Differential (applies to rates in areas of Portland’s hillier west side where low street connectivity, larger lots, and narrow, winding roads increase the costs to collect garbage, recycling, and composting). 3. Independent CPA Review of Sample Hauler Financial Data The primary purpose of the independent CPA review of sample financial data is to verify − in line item detail − the cost of providing solid waste, recycling and composting services to the City’s residential customers. This reviewed cost data, after adjustments for forecast inflation, provides the primary basis for calculating all solid waste, recycling, and composting rates. The independent CPA financial review also verifies sample hauler financial performance during the previous calendar year, especially as it relates to the calculation of the haulers’ operating margins. During the course of its financial review, the independent CPA often makes a variety of recommended adjustments to hauler reported financial data. Some of these adjustments may accrue to the benefit of customers by lowering sample hauler and recycling district allowable costs. Others may increase the amount of allowable costs. Upon review, the economist usually incorporates all of the independent CPA's recommended adjustments for the calculation of rates. For the FY 2024-25 rate review, nine of the ten residential haulers filed their CY 2023 DCRs by March 15, 2024. A tenth hauler had recently been sold and was excused from filing their DCR. Six haulers were selected via a customer-weighted random draw to have their submitted financial data reviewed by the CPA. By April 16, 2024, the independent CPA delivered the results of her financial review, including her recommended adjustments, to the economist. This information was subsequently used as the basis for the FY 2024-25 rate calculation. 4. Application of Inflation Adjustments to Calendar Year Cost Data Portland's residential solid waste, recycling and composting rates are designed to be forward looking. This means that currently effective rates have been designed with the intention of providing franchised haulers with adequate compensation for their current costs of providing service. As discussed above, there is a six-month time lag between the end of the calendar year for which cost data is collected and the start of the fiscal year when rates become effective. Once in effect, 2024-25 rates are expected to remain unchanged until July 1, 2025. This produces an 18- month offset between the middle of the calendar year in which costs are measured and the middle of the 12-month period when the resulting rates are in effect. For example, FY 2024-25 rates are based on costs incurred by haulers during the calendar year ending December 31, 2023. The eighteen-month period between July 1, 2023 (the middle of the calendar year for which cost data was reported), and January 1, 2025 (the middle of the twelve- month span that the rates are expected to be in place), presents a risk that inflationary pressures will erode hauler profitability. For this reason, the actual calendar year costs underlying all solid waste, recycling and composting rates are adjusted by an eighteen-month inflation factor. Section IV contains a discussion of specific inflation rates used in the calculation of FY 2024-25 rates. June 2024 Residential Curbside Collection Service Rate Study 7

  1. Certain Costs Not Based on Reported Calendar Year Financial Data A limited number of cost and revenue inputs used in the rate review process are not fully based on hauler reported financial data for the previous calendar year. Recyclable material sales revenue and solid waste disposal costs are the two most notable exceptions. The treatment of recyclable materials sales revenues and, more recently, processing costs, has changed over the years. Through FY 2012-13 rates, recyclable material sales revenue added an offset that was netted from rates. This recyclable materials revenue offset was entirely forward- looking, using a forecast of recyclable materials revenue for the rate year. This tended to add year- to-year volatility to the rates paid by customers. To help moderate these rate swings, the methodology was changed, beginning with FY 2013-14 rates, to use an equally weighted average of actual recycling revenue for each of the two prior calendar years and a forecast of recycling revenue for the rate year. This methodology was used for five years and was discontinued when changes in China’s acceptance of recyclable materials led to a sharp decline in the prices paid for processed recyclable materials from material recovery facilities (MRFs). Today, in what appears to be a new normal, haulers are charged a processing fee for the materials they deliver to MRFs. Within the rate components, recyclable materials no longer produce a revenue offset and are added to other costs prior to the calculation of the operating margin. The methodology used to determine the processing cost included in the rates has varied. From FY2018-19 through FY 2022-23 rates, the processing cost included in the rates relied heavily on haulers’ reported processing costs, but with an eye towards trends that may increase or decrease those costs. Since FY2023-24, haulers’ reported processing costs in one calendar year (e.g., 2023) are rolled forward into the subsequent rate year (e.g., 2024-25 rates). Solid waste disposal costs are a second major rate input not based on the costs reported by haulers. In CY 2023, solid waste disposal costs totaled approximately 53.0% of the sample haulers’ total solid waste collection costs. Due to their large magnitude, care is taken to ensure that the solid waste disposal costs included in rates are as accurate as possible. Towards this end, SW&R retains the services of Portland State University (PSU), which has conducted a comprehensive longitudinal study of Portland residential garbage container weights since 1992. Average net container weights calculated from the PSU data are further trued-up via a tonnage reconciliation, whereby haulers' reported tonnage is compared to expected tonnage, based on customer counts by service level and container weights. See Section IV for final can weights for FY 2024-25. The rates for multiplexes (duplexes, triplexes and four-plexes) are based on adding an “extra unit recycling cost” to the base rate for the same size solid waste can/cart used at a single-family home. This extra unit recycling cost includes additional labor and collection costs, a recycling revenue offset, and costs for additional recycling roll carts. The extra unit charge is $10.90 per extra unit for FY 2024-25. The multiplex rates are shown in the rate chart in Appendix A.
  2. Operating Margin Methodology Per the Franchise Agreement, rates are designed to allow haulers to recover legitimate costs of providing service and to provide them the opportunity to reach an operating margin equal to a June 2024 Residential Curbside Collection Service Rate Study 8

9.5% return on revenue. A simplified version of the operating margin calculation is presented below: Gross Residential Revenues

  • Revenues from the Sale of Recyclable Materials
  • Allowable Expenses
  • Pass Through Expenses = Operating Margin Although forecast inflation and fluctuations in the recyclable materials market can have a dramatic effect on the need for rate increases, there is generally an inverse relationship between the operating margin earned by haulers in a calendar year and the level of rate increases necessary in the upcoming fiscal year. This occurs because the actual costs experienced by haulers during the previous calendar year serve as the underlying cost basis for the upcoming fiscal year rate revenue requirement. The use of a fixed operating margin target, coupled with the fact that allowable costs are reset every year, provides haulers with an ongoing incentive to increase operational efficiencies and control costs. This incentive occurs because haulers are allowed to retain all profits in excess of the target 9.5% operating margin used to calculate rates. Conversely, haulers who earn an operating margin below 9.5% have no recourse but to accept this outcome. Therefore, regardless of their individual profitability in past years, all haulers have an incentive to control costs in order to maximize profitability in the current calendar year.
  1. Use of Composite Weighted Averages With the exception of the Terrain Differential in the Westside Terrain Area, residential customers in the City of Portland pay a uniform citywide rate for each level of service. This occurs despite that fact that residential customers are currently served by one of ten franchised haulers, each with unique operational and cost characteristics. Citywide rate uniformity is achieved by calculating composite weighted average costs using the financial information contained in hauler DCRs. For example, in CY 2023, wages for recycling route drivers totaled $4,611,067 for the six haulers included in the hauler composite. This is equivalent to an annual weighted average cost per customer of $34.53. Netting out the incremental cost of providing service in hilly terrain reduced the cost per customer to $33.25. Making adjustments for forecast inflation brought the final cost for recycling route drivers to $35.08 per customer per year. As illustrated in Appendix B, this same process is followed on a line item-by-line item basis for all of the 138 cost categories listed in the DCRs. The total amount of these costs, after adjustments for forecast inflation, operating margins and franchise fees, defines the composite weighted average per customer revenue requirement that must be recovered through rates. In addition to rate uniformity, the use of a composite weighted average methodology achieves two other critical objectives. First, it allows for the equitable blending of costs from haulers with often- disparate operational and financial characteristics. In effect, highly efficient operators with low unit costs dampen or offset the upward rate pressures caused by inefficient operators with high unit costs. The reverse is also true. June 2024 Residential Curbside Collection Service Rate Study 9

Second, the use of a composite weighted average methodology allows the financial results of a small number of haulers to serve as a proxy for the entire residential franchise system. For 2024-25, the DCRs of the six haulers in the customer-weighted random sample served as a proxy for all ten haulers in the system. These five haulers accounted for 82.7% of all solid waste and compost customers in the City. This significantly reduces administrative costs for the franchise review process, especially as it relates to the annual independent CPA review of the DCRs, while still including at least 75% of Portland customers in the sample. IV. KEY FACTORS AFFECTING FY 2024-25 RATES A. Recyclable Material Processing Costs China’s ‘Green Fence’ and ‘National Sword’ policies continue to affect west coast recycling markets, with haulers having to pay material recovery facilities (MRFs) to accept recyclable materials. The rates in place during CY2023 included $0.60/month for the first six months, and $1.29/month for the last six months, for an average of $0.95/month. Haulers’ reported costs for CY2023 were $1.69/month per customer. The rates for FY2024-25 uses this $1.69/month, which represents a $0.40 increase from FY2023-24 rates. B. Forecast Inflation Adjustments Table 3 shows the inflation adjustments applied to CY 2023 composite costs. These inflation adjustments are applied to all cost line items impacted by inflation, including wages and benefits, vehicle maintenance and repair, fuel, and general and administrative expenses. In aggregate, these inflators are estimated to add an average of $1.58 per month to a residential bill compared to a zero inflation scenario. June 2024 Residential Curbside Collection Service Rate Study 10

Parent: Community---Economic-Development---Fee-Study · PDF: pp. 861-866