THE FOSTER GROUP TFGTFG City of Detroit Water and Sewerage Department Wholesale Customer Rates Meeting Water Supply System Meeting #3 – Allocated FY Revenue Requirements to Customers December 17, 2009

THE FOSTER GROUP TFGTFG 12/17/09 Customer Rate Season Schedule This is the second of a series of meetings This is the second of a series of meetings 10/13 –Capital Improvement Program Presentation 10/13 –Capital Improvement Program Presentation 11/19 – Units of Service, Preliminary SYSTEM Revenue Levels 11/19 – Units of Service, Preliminary SYSTEM Revenue Levels 12/17 – Preliminary Cost Allocations to Customers 12/17 – Preliminary Cost Allocations to Customers 1/21/2010 – Preliminary Individual Rate Proposals 1/21/2010 – Preliminary Individual Rate Proposals 2/24/2010 – BOWC Public Hearing 2/24/2010 – BOWC Public Hearing 3/ /2010 – City Council Public Hearing 3/ /2010 – City Council Public Hearing 7/1/2010 – Effective Date for Rates 7/1/2010 – Effective Date for Rates Parallel meetings of TAC Work Groups Parallel meetings of TAC Work Groups Page 2

THE FOSTER GROUP TFGTFG 12/17/09 Information Portals DWSD web site DWSD web site Customer Information / “Wholesale Customers Season Rate Schedule” Customer Information / “Wholesale Customers Season Rate Schedule” eroom eroom For information contact Teresa Newman For information contact Teresa Newman Page 3

THE FOSTER GROUP TFGTFG 12/17/09 Today’s Agenda Updated Preliminary Revenue Requirements (And System Revenue) for FY Updated Preliminary Revenue Requirements (And System Revenue) for FY Preliminary FY Cost of Service Allocations to Customers Preliminary FY Cost of Service Allocations to Customers Explanation of Rate Model Application to Determine Cost of Service Allocations Explanation of Rate Model Application to Determine Cost of Service Allocations Page 4

THE FOSTER GROUP TFGTFG 12/17/09 The 3 Fundamental Steps in the Water Rate Methodology Revenue Requirement Projections Revenue Requirement Projections How Much Money is Needed? How Much Money is Needed? Cost of Service Analysis Cost of Service Analysis From Whom Should the Money be Collected? From Whom Should the Money be Collected? Design of Recommended Rates Design of Recommended Rates How Should DWSD Services be Priced? How Should DWSD Services be Priced? Page 5

THE FOSTER GROUP TFGTFG 12/17/09 Utility Rate “Equalizer” Utility Capital Financing Strategies Liberal Conservative Utility Revenue Requirement Levels Utility Cost of Service Allocation Approaches Utility Rate Design Methodologies Page 6

THE FOSTER GROUP TFGTFG 12/17/09 Water Rate Methodology – Cost of Service Continuum Equitableness Reasonable Precise Complexity Simple Complex DWSD Rate Fundamental Principle: “Use best available, verifiable information to establish water and sewer rates” DWSD Rate Fundamental Principle: “Use best available, verifiable information to establish water and sewer rates” Page 7

THE FOSTER GROUP TFGTFG FY Water Supply System Revenue Requirement Update

THE FOSTER GROUP TFGTFG 12/17/09 Annual Flow Volumes - Rate Planning Challenge Annual Sales Volumes in new contracts do not reflect recent reduction in in actual sales volumes Annual Sales Volumes in new contracts do not reflect recent reduction in in actual sales volumes Continuing to adhere to contract volumes may necessitate modifications in the rate development process Continuing to adhere to contract volumes may necessitate modifications in the rate development process Page 9

THE FOSTER GROUP TFGTFG 12/17/09 Updated Water Supply System FY Revenue Requirements Projected Revenues have decreased Projected Revenues have decreased Reflects information from recently finalized amendments (6 as of 12/11) Reflects information from recently finalized amendments (6 as of 12/11) Projected Cash Basis Revenue Requirements have been increased Projected Cash Basis Revenue Requirements have been increased Reflects DWSD’s intention to establish working capital in event more amendments produce similar revenue reduction Reflects DWSD’s intention to establish working capital in event more amendments produce similar revenue reduction Budget request finalized – meets target established for planning Budget request finalized – meets target established for planning Page 10

THE FOSTER GROUP TFGTFG 12/17/09 Water Supply System Preliminary Revenue Level – November Version Page 11

THE FOSTER GROUP TFGTFG 12/17/09 Water Supply System Preliminary Revenue Level – Updated Projection Page 12

THE FOSTER GROUP TFGTFG 12/17/09 Preliminary Water Rate Level – Increase Drivers Page 13

THE FOSTER GROUP TFGTFG 12/17/09 DWSD FY Combined Water / Sewer Revenue Req’t Page 14

THE FOSTER GROUP TFGTFG 12/17/09 DWSD Combined Water / Sewer Revenue Req’t Page 15 FY FY

THE FOSTER GROUP TFGTFG 12/17/09 DWSD W&S Rev Req’t / Water Sales Comparison ($ millions / mgd) Page 16 Cost / MGD $1.24 $1.92

THE FOSTER GROUP TFGTFG Preliminary Allocation of FY Water Supply System Revenue Requirements to Customers

THE FOSTER GROUP TFGTFG 12/17/09 Preliminary Revenue Requirements to Customers Costs have been allocated to customers in the rate model following existing methodologies and protocol Costs have been allocated to customers in the rate model following existing methodologies and protocol Utility Basis Allocation Utility Basis Allocation Consistent Application of “Contract Method” Water Rate Method Consistent Application of “Contract Method” Water Rate Method Reflects modification to units of service for Deduct Meter Customers Reflects modification to units of service for Deduct Meter Customers RESULTS ARE PRELIMINARY AND ARE MAY CHANGE RESULTS ARE PRELIMINARY AND ARE MAY CHANGE Page 18

THE FOSTER GROUP TFGTFG 12/17/09 Utility Basis Characteristics Required by Michigan Public Act 89 Required by Michigan Public Act 89 More reliable and stable source for capital cost allocation More reliable and stable source for capital cost allocation Better “generational equity” alignment with cost recovery and use of assets over their useful life Better “generational equity” alignment with cost recovery and use of assets over their useful life Provides fair return on investment to Owner customers of utility Provides fair return on investment to Owner customers of utility Protects Non-Owner Customers from potentially irresponsible financing decisions made by Owner Protects Non-Owner Customers from potentially irresponsible financing decisions made by Owner Page 19

THE FOSTER GROUP TFGTFG 12/17/09 Utility Basis Fundamentals Revenue Requirements Allocated to Customers Consist of: Revenue Requirements Allocated to Customers Consist of: Operation and Maintenance Expense Operation and Maintenance Expense Depreciation Expense Depreciation Expense Return on Rate Base Return on Rate Base O&M & Depreciation Proportionally (based on use of system) Allocated to Customers Irrespective of Ownership Status O&M & Depreciation Proportionally (based on use of system) Allocated to Customers Irrespective of Ownership Status Rate Base (Investment in Facilities) also Proportionally Allocated Rate Base (Investment in Facilities) also Proportionally Allocated Rate of Return for Non-Owners must be “reasonable” Rate of Return for Non-Owners must be “reasonable” Owner Customers pay balance Owner Customers pay balance Page 20

THE FOSTER GROUP TFGTFG 12/17/09 Sample Capital Cost Recovery for DWSD Infrastructure Investment Page 21

THE FOSTER GROUP TFGTFG 12/17/09 Application of Rate of Return – DWSD 2011 (All $ figures in millions) Net Plant Investment = $2,309.0 Detroit Retail $682.8 Suburban Wholesale $1,626.2 Total Return $132.0 $ 19.0 $682.8 = 2.79% System Rate of Return $132.0 / $2,309.0 = 5.72% x 6.95% ROR $ Page 22

THE FOSTER GROUP TFGTFG Water Supply System Rate of Return History 12/17/09 Page 23

THE FOSTER GROUP TFGTFG Rate of Return Margin Over Average Cost of Debt 12/17/09 Page 24

THE FOSTER GROUP TFGTFG 12/17/09 Preliminary FY Cost of Service Allocation to Customers Average Suburban Wholesale Increase = 9.9% Average Suburban Wholesale Increase = 9.9% Average Detroit Retail Increase = 8.3% Average Detroit Retail Increase = 8.3% Page 25

THE FOSTER GROUP TFGTFG Preliminary Cost of Service Allocations – Impact Analysis Most indicated changes clustered around average Most indicated changes clustered around average Somewhat more volatility than FY Somewhat more volatility than FY New Contract Demands from Amended Contracts New Contract Demands from Amended Contracts Impact of Change in Reflecting Deduct Meters Impact of Change in Reflecting Deduct Meters 12/17/09 Page 26

THE FOSTER GROUP TFGTFG 12/17/09 FY Cost of Service Allocations Impacts to Suburban Wholesale Customers Page 27

THE FOSTER GROUP TFGTFG 12/17/09 Next Steps Ongoing review of cost allocations Ongoing review of cost allocations Design of water rate schedules, including implementation of fixed monthly cost recovery Design of water rate schedules, including implementation of fixed monthly cost recovery Next meetings Next meetings January 21, 2010 – Preliminary Proposed FY Water Rates January 21, 2010 – Preliminary Proposed FY Water Rates Page 28

THE FOSTER GROUP TFGTFG 12/17/09 Takeaways DWSD announces an increased preliminary estimate of Overall SYSTEM Revenue Increase from 8.4% to 9.5% DWSD announces an increased preliminary estimate of Overall SYSTEM Revenue Increase from 8.4% to 9.5% Preliminary impacts on individual customers have been shared Preliminary impacts on individual customers have been shared Variances primarily attributable to changes in contract demands Variances primarily attributable to changes in contract demands Contract Negotiation “Deadlines” Contract Negotiation “Deadlines” Jan 15 for Jan 21 Proposals Jan 15 for Jan 21 Proposals Page 29

THE FOSTER GROUP TFGTFG 12/17/09

THE FOSTER GROUP TFGTFG 12/17/09 Illustration of Rate “Unbundling”

THE FOSTER GROUP TFGTFG 12/17/09 Illustration of Rate “Unbundling”