Steps before tendering

Papakura District Council: Water and wastewater franchise.

Chapter Summary

Expectations

201
We expected that the Council would have:

  • Developed a strategic approach to the delivery of services before considering individual options for particular services.
  • Consulted with the public and considered their feedback during the decision-making process.
  • Developed and published objectives for management and operation of the water and wastewater systems – and that the objectives would protect the long-term interests of ratepayers and water users.
  • Managed the tender process so as to allow sufficient time to maximise the benefits for ratepayers and water users.
  • Completed an Asset Management Plan for the water and wastewater networks, or put in place processes to ensure that an Asset Management Plan would be produced.
  • Considered the advantages and disadvantages of different franchise durations to maximise the long-term benefits to ratepayers and the community.

Findings

202
Since 1989, the Council has had a consistent approach of using the private sector where it can provide a service quicker, better and cheaper. During this period, the Council has debated the advantages and disadvantages of contracting against “in-house” or other alternative methods for the delivery of a range of services.

203
The Council did not formally document its debate on the advantages or disadvantages of the franchise approach to water and wastewater services against other options prior to the December 1996 Council meeting at which the approach was proposed.

204
In our view, the consultation carried out by the Council met the special consultative procedure requirements prescribed by 716A of the Local Government Act 1974 (referred to as “the Act” throughout the rest of this report).

205
The Council decided not to prepare an Asset Management Plan before letting the franchise, but required United Water to prepare a plan by June 1998.

Recommendations

206
We recommend that, when a local authority is preparing to tender its services, it should:

  • Develop and document clearly what it wants to achieve for the delivery of each of the services before considering how they will be delivered.
  • Carry out sufficient consultation to assure itself that it has identified the needs, issues and any concerns the community might have. This process should be clearly recorded and documented, and used in the decision-making process.
  • Develop and publish objectives for the management and operation of the services concerned. The objectives should be designed to include protection of the long-term interests of ratepayers.
  • Invest sufficient time in conducting the tender process to ensure the quality of the ensuing agreement, and to protect the long-term interests of ratepayers and users of the service.
  • Complete an Asset Management Plan for the assets involved, or put in place a process to ensure that an Asset Management Plan is produced before tendering for a management and operational agreement. The Asset Management Plan should have regard to the guidelines set out in the New Zealand Infrastructure Asset Management Manual 19965.
  • Demonstrate, for each service, that (so as to meet the requirements of sections 247D and 122C(c) and any other appropriate sections of the Local Government Act) it has considered the advantages and disadvantages of the proposed approach compared to the alternatives, and how the preferred approach represents value for money.
  • Consider and document the full range of options for different franchise durations, and the benefits that each alternative will provide.

Strategic Approach

Expectation

207
We expected that the Council would have developed a strategic approach to the delivery of services before considering individual options for particular services.

208
Section 247D of the Act enables local authorities to carry out their works and perform their functions in different ways and requires authorities to consider options for doing so. Authorities should be clear about the objectives for their services before assessing the alternative methods by which those objectives might be achieved. Authorities should also be able to demonstrate that the contracting practices which they choose are likely to produce results that represent value for money.

Findings

209
The Council has had a consistent management approach towards the contracting out of services since 1989-90.

210
The services which the Council has contracted out include:

  • Road and footpath construction and maintenance.
  • Parks, reserves and public areas development and maintenance.
  • Rubbish collection and disposal.
  • Maintenance and development of the water, sewerage, and stormwater networks.
  • Maintenance and construction of council buildings.
  • Animal control.
  • Resource management and building consents.

211
During this period, the Council has debated the advantages and disadvantages of a variety of approaches to the delivery of these services, including (in 1993) a joint venture with Watercare to provide water and wastewater services.

212
On 9 December 1996, the Council announced its intention to investigate a franchising approach for the supply of water and wastewater services by calling for expressions of interest.

213
The Council did not document its discussions of the specific advantages and disadvantages of the franchise proposals over the alternatives. Council officers said that these were self-evident to the Council given its experience of contracting out services since 1989.

214
The Council’s 1996 Strategic Plan was available for public input in March 1996. In Section C – Strategic Issues and Directions, the plan included strategies to:

  • Promote options for the ownership and regulation of the bulk water and supply system which could provide competition and better service/customer relationship.
  • Promote options for the ownership and regulation of the bulk sewerage system including treatment plants which could provide competition and better service/customer relationship.

215
Council officers told us that the franchise option was not included in the 1996 Strategic Plan or the 1996-97 Annual Plan because it was not under consideration when those plans were written.

Commentary

216
From 1 July 1998, section 122C(c) of the Act will apply to the financial management of all local authorities. This section outlines a principle of financial management that requires the benefits and costs of different options to be assessed:

  • in determining any long-term financial strategy, funding policy, investment policy or borrowing management policy; and
  • in making any decision with significant financial consequences (including a decision to take no action).

Complying with section 122C(c) would require an assessment of each activity that an authority is considering at the time when it is being proposed.

Public Consultation

Expectation

217
We expected that the Council would have consulted with the public and considered their feedback during the decision-making process.

218
Proposals to change the way in which essential services – such as water and wastewater – are delivered entail redefining the relationship between the service deliverer and the customer. A local authority should carry out sufficient consultation to:

  • assure itself that the views of the local community have been considered in the decision-making process; and
  • satisfy itself that it has met the requirements of the Act.

Findings

219
Although there is no clear legal requirement to consult over a franchise or contract agreement, the Council resolved that this case was of such significance that public feedback was important and necessary. In order to achieve this feedback, it adopted the special consultative procedure prescribed by section 716A of the Act.

220
Briefly, the consultation involved:

  • placing public notices in local and national newspapers;
  • a six-week submissions period;
  • wide coverage, both national and local, in all news media; and
  • presentation of submissions back to the Council.

221
The Council received eight submissions during the six weeks allowed – four in support of the proposal and four others suggesting that the Council should go further and sell the assets.

222
After the deadline for submissions had closed, the Council received 25 further submissions complaining that the submission period was too short and included the Christmas and New Year holiday period. Most of these submissions came from people who lived outside the Papakura District.

223
Council officers told us that retaining the water and wastewater networks in public ownership was a key factor in providing assurance to Councillors that ratepayers’ long-term interests were protected.

Conclusion

224
In our view, the consultation which the Council carried out met the special consultative procedure requirements prescribed by the Act.

Commentary

225
Water and wastewater services are significant activities of local authorities, and any proposal for an alternative form of delivery is likely to be of strong interest to the public. In our view — notwithstanding the lack of a statutory requirement – public consultation is essential and would represent good management practice.

226
A local authority should carry out sufficient consultation to assure itself that it has identified the needs, issues and any concerns the community might have. This process should be clearly recorded and documented and used in the decision-making process. This will strengthen the authority’s case that it has considered the advantages and disadvantages of its proposal and the alternatives available.

Objectives

Expectation

227
We expected that the Council would have developed and published objectives for management and operation of the water and wastewater systems – and that the objectives would protect the long-term interests of ratepayers and water users.

228
Section 247D of the Act enables local authorities to carry out their works and perform their functions in different ways, and requires authorities to consider options for doing so.

229
Section 247E requires every local authority to consider putting out to tender any contract that is likely to involve an authority in significant expenditure or financial commitment.

230
Local authorities should be able to demonstrate that they have developed clear objectives for the service and performance standards for service delivery. They should also be able to demonstrate how their chosen approach is likely to meet those objectives and standards and produce results that represent value for money.

Findings

231
The franchise approach was decided by the Change Management Group of the Council. This was an informal group – comprising the four committee chairpersons, the Mayor, the Chief Executive and Council officers – which met to develop further options for restructuring and improvements to service delivery. The group first met in November 1996.

232
Council officers told us that the options of service delivery by LATEs and/or Council Business Units were debated and rejected by the Change Management Group. The Council believed that the advantages of the franchising approach were evident from the results of contracting out its water and wastewater maintenance services. These services were assessed in the LEK independent report to be 35% more efficient than those of other local authorities in the Auckland region.

233
No minutes of the Change Management Group’s discussions were taken; nor were the advantages or disadvantages of the franchise approach presented to, or debated or recorded by, any committee of the Council before 9 December 1996.

234
The Mayor presented the Council with a report on the franchise option and the reasons for pursuing that option at the Council meeting of 9 December 1996. The Mayor recommended that the Council immediately commence the section 716A special consultative procedure to consider the franchise proposal, and immediately call for expressions of interest. The Council adopted the Mayor’s recommendation.

235
The Council’s objectives for investigating the franchise option, as stated in the Mayor’s report and in subsequent press releases, can be summarised as follows:

  • Protect the interests of its ratepayers by locking in the current low-cost regime. The Mayor’s report stated that the Council needed to act urgently, as Watercare had detailed a 310% increase in wastewater charges over the next 10 years. He said that the Council must ACT NOW to protect the interests of ratepayers by locking in the current low cost regime.
  • Retain the assets in public ownership. The Mayor’s report outlined his belief that it is important to act now to protect the interest of our ratepayers and retain the remaining water and sewerage assets in public ownership.
  • Gain the technical resources and experience of a large specialised company to run the system. A small local authority could never attract or afford the type of experts that a large company would have.
  • Control price through the franchise agreement. The Mayor’s report also outlined his belief that keeping charges to a minimum was a key objective.
  • Move to a user-pays basis for water usage.
  • Be the first such franchise in New Zealand and reap a financial premium for the Council.
  • Provide a better service.
  • Produce further restructuring and savings in the Council’s operational costs.

Conclusions

236
The franchise agreement signed with United Water provides mechanisms or controls that are designed to meet the majority of the agreed objectives.

237
However, we note that when the franchise agreement was first proposed in December 1996 the Council accepted that the matter was urgent because of possible significant increases in Watercare costs (310%) over the next 10 years.

238
We are concerned that the manner in which the proposal was presented may have led people to believe that the franchise approach would provide some protection from Watercare price rises. The agreement allows all bulk supply price increases to be passed directly on to consumers according to current legislation.6

239
The Council’s objective – to protect the interests of its ratepayers by locking in the current low-cost regime – is achieved by the two-year price freeze in the agreement. However, it is uncertain whether the objective will continue to be achieved after July 1999 when United Water can increase charges up to the Auckland Average Price. As part of our follow-up audit we will reassess our concern that such a price movement could fail – in the longer term – to meet the objective.

Commentary

240
Section 247D of the Act requires local authorities to set out and record their objectives and the specific advantages and disadvantages of a proposal such as franchising water and wastewater services. Authorities need to be clear about what they are trying to achieve, what the community’s expectations are, and how each method will produce the required result. See Figure 2 on the next page.

Figure 2
Setting and Monitoring Objectives

Figre 2.

Time for Preparing to Tender

Expectation

241
We expected that the Council would have managed the tender process so as to allow sufficient time to maximise the benefits for ratepayers and water users.

242
Decisions on the timing of a tender affect the risk to a local authority as the purchaser. Sufficient time should be invested in conducting the tender process to ensure the quality of the franchise agreement and to protect the long-term interests of ratepayers and users of the service. A quick process may result in certain benefits being obtained, but may unduly restrict the consideration of options.

Findings

243
Council officers told us that, in their opinion, being the first local authority in New Zealand to adopt the franchise delivery option attracted a premium in excess of $3 million within the total franchise fee obtained ($13 million).

244
Council officers also told us that the decision on 9 December 1996 to call for expressions of interest for a franchise proposal was prompted by:

  • The decision by Watercare to proceed with an upgrade of its Mangere sewage treatment plant. The Council believed that, based on the expert advice it had received, the estimated $360 million cost was approximately twice the necessary cost for this plant.
  • The result of the Change Management Group’s debate of further restructuring of the Council and alternative ways of service delivery by the Council.

245
Council officers further told us that the adopted timetable for setting up the franchise was influenced by the desire to:

  • minimise disruption to Council staff;
  • start the franchise at the beginning of the following financial year (1997/98);
  • attract only franchisees capable of demonstrating commitment to the franchise and able to respond in a short time; and
  • be the first, and thus gain the financial benefits of market interest.

246
Franchising was raised as an option on 9 December 1996, and the franchise agreement was signed on 23 April 1997. The events leading to the start of the franchise are set out in Figure 3 below.

Figure 3
Sequence of Events

9 December 1996 The Council announced that it would investigate the possibility of franchising its water and wastewater services.
14 December 1996 Public Notices inviting submissions from the public appeared in the press.
18 December 1996 Notices calling for registration of interest from water companies were published.
10 January 1997 Registrations of interest closed.
24 January 1997 Public consultation submissions closed.
29 January 1997 Public submissions received were presented to the Council.
10 February 1997 The franchise agreement and tender documents were presented to and approved by the Council.
Councillors voted to call for tenders for the franchise.
14 March 1997 Tenders closed.
19 March 1997 Four tenderers briefed the Council.
24 March 1997 The Council decided to accept United Water’s tender.
23 April 1997 The Council and United Water signed the franchise agreement.
1 July 1997 United Water commenced delivery of water and wastewater services.

247
According to Council officers, a benefit of completing the franchise during the 1996- 97 financial year, rather than later, was the ability to attract a higher premium component in the franchise fee.

Commentary

248
Local authorities should be aware that, in the future or in different circumstances, tenderers might be less willing to pay a premium for such franchise arrangements. Consequently, the focus should be on taking sufficient time to ensure maximisation of all of the other benefits which franchising can provide.

249
It is advisable for local authorities to invest time in the development of clear expectations about what they hope to achieve in setting up an alternative method for delivery of their services. Issues to be carefully considered include:

  • required levels of service delivery;
  • expectations about service delivery;
  • expectations as to which generation pays for what; and
  • how assets are to be maintained.

250
Time invested at the pre-tender stage should be rewarded with a sound franchise agreement and monitoring and management mechanisms which will be of benefit to ratepayers and the community.

Asset Management Plan

Expectation

251
We expected that the Council would have completed an Asset Management Plan for the water and wastewater networks, or put in place processes to ensure that an Asset Management Plan would be produced.7

252
Three ways in which an Asset Management Plan plays a central role in a successful contractual relationship are:

  • To assess the benefits of each tender, it is necessary to know the quality, quantity and condition of the current services. An inventory of the assets, the current level of service provided and the condition of the networks will aid in the assessment of a suitable franchise.
  • To monitor whether the franchisee is managing and maintaining the assets and supplying expected levels of service, it is necessary to have a benchmark record of the condition of the assets and the level of service which was being provided before the franchise.
  • To make sure that the assets are returned in a suitable condition, it is necessary to have an assessment of the assets prior to the franchise.

253
The Act and generally accepted accounting practice require the production of clear objectives for each of a local authority’s activities and policies. We see this as a requirement to produce management plans. In any case, it is good practice to prepare such plans before franchising the service.

Findings

254
The Council chose not to produce an Asset Management Plan before the franchise agreement was in place. The Council had an asset register and maintenance history records which it felt were sufficient for tenderers to carry out due diligence. In the Council’s opinion, the skills and expertise which a specialist water company could apply to development of an Asset Management Plan would produce a better quality plan. We were told that this approach also saved the Council time and money. Council officers told us that the assets were assessed as part of due diligence by all tenderers, and that the assets were found to be “in a median condition for a system of its age and type”.

255
The Council included a clause in the franchise agreement requiring United Water to produce an Asset Management Plan to a specified methodology within one year of the start of the franchise (i.e. by June 1998). The plan will then be independently audited by the Council’s chosen representative.

Commentary

256
The success or failure of a franchise agreement will depend upon the confidence the local authority has that the franchisee is making sufficient investment in the assets to: deliver the required levels of service; and maintain and add to the network as necessary over the period of the agreement.

257
The benefits of preparing an Asset Management Plan are:

  • An assessment of the true condition of the assets and current levels of service delivery. This information reduces the risk for both parties and allows the specification of appropriate terms and conditions for the franchise agreement, as well as appropriate asset quality benchmarks and service delivery standards for the management and monitoring of the contract.
  • Sufficient information for potential franchisees to determine a realistic planning and pricing structure with less contingency for risk. Asset Management Plans improve the level of available information and reduce the risk for both parties. Where insufficient information is available, the franchisee will expect greater returns for the additional business risk which it must bear.

258
Asset Management Plans should meet the standards set out in the New Zealand Infrastructure Asset Management Manual 1996.

259
Water industry standards and technological innovations are continually evolving. All franchise agreements should ensure that the franchisee uses appropriate future techniques and technology.

Duration of the Agreement

Expectation

260
We expected that the Council would have considered the advantages and disadvantages of different franchise durations to maximise the long-term benefits to ratepayers and the community.

261
Local authorities should consider and document the advantages and disadvantages of different lengths of franchise agreement and how each fits with the objectives for service delivery.

Findings

262
Council officers told us that the Council believed that a franchisee would pay a greater fee for an agreement of longer duration. In this context, the Council decided on a 30-year plus 20-year option.

Commentary

263
Local authorities need to balance a number of related issues when considering the duration of a franchise agreement. For example:

  • The willingness of the franchisee to invest sufficient capital for the required level of development and maintenance of the assets for the duration of the agreement.
  • The options for a retail price structure will be affected by the duration of the contract and thus the period within which the franchisee can earn a return.
  • Where a local authority requests a franchise fee, the duration of the franchise will reflect the potential revenue stream for the franchisee. The longer the duration the greater the potential fee.
  • A long franchise period runs the risk of the franchisee being able to exploit a monopolistic control of the assets – particularly if a local authority does not ensure that it obtains sufficient information and a power of audit over the franchise agreement.
  • If the franchise term is too long, alternative companies may simply be unable or uninterested in tendering for the service when it comes up for renewal.
  • The longer the franchise period the more important it is to identify small differences between tender proposals because the differences will compound significantly over a long-duration contract.

5: Published by the National Asset Management Steering Group, ISBN 0-473-04149-9.

6: Section 707ZF of the Local Government Act 1974 lays down extensive provisions governing financial and other aspects of the operations of Watercare Services Limited.

7: We would expect all local authorities, as normal management practice, to prepare an Asset Management Plan before entering into a contract of this nature.

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