The intent of this section of the Report is to summarize the major technical provisions of the Concession Agreement that may potentially impact LCA during the term of the Concession Agreement.
This review is a technical overview of the major Concession Agreement terms and is not an analysis of legal, actuarial, and financial risk management issues. The Concession Agreement generally outlines the rights and responsibilities of the City and LCA (as the Concessionaire) and requirements related to the Concessioned System. The Concession Agreement outlines the terms and provisions of the lease/concession structure, capital improvements, operating standards, rate/fee structure, reporting, insurance, regulatory compliance, representations and warranties and other legal and risk allocation provisions, including but not limited to indemnification, default/remedies, force majeure, uncontrollable circumstances, cure remedies, among others. Table III-A highlights some of the major provisions of the Concession Agreement and the allocation of risk between the parties. The Concession Agreement is generally consistent with documents of similar nature in the industry with respect to water and wastewater system operations.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Table III-A: Preliminary Responsibility and Risk Matrix
Risk Risk “Ownership” Comments
Capital Improvements
Design
Schedule LCA
LCA is responsible for design and implementation of Capex, with exception of Uncompleted Work, which the City is responsible to complete in a timely manner. LCA is not responsible for capital costs of projects designed to address, or fines and penalties associated with, the Administrative Orders unless they are assessed solely as a result of LCA’s failure to implement the Administrative Order Projects. See Sections 4.02 and 7.03 of this Report for discussion of the Administrative Order Projects.
Design &
Technology Selection
LCA
All risks associated with capital improvement design are borne by LCA with the exception of Uncompleted Work. LCA is to
implement projects related to the remediation of the violations set forth in the Administrative Orders at the sole cost and expense of the City; such Project Costs are Excluded Liabilities.
Existing Environmental Conditions
City
The City is responsible for (i) any Hazardous Substance existing at the time of Closing that has a material adverse effect and (ii) Environmental Law violations related to pre-Closing ownership or operation of the Concessioned System or pre-Closing releases of Hazardous Substances at, on, under or from the Concession System.
Construction
Schedule LCA
LCA is responsible for maintaining the project schedule defined in the Concession Agreement. LCA is responsible for fines or penalties or other costs or liabilities that are imposed as a direct result of the failure of LCA to implement the Administrative Order Project (see Sections 4.02 and 7.03 for a description). All other fines and penalties relating to, and capital costs of projects designed to address, the Administrative Orders are the responsibility of the City. LCA is responsible for Operational Liquidated Damages for annual construction requirements in the Operationing Standards (e.g. water main replacements and sewer cleaning and inspection). Operational Liquidated
Damages consist of assessments ranging from $3,000 to $8,000 per year and $1,000 to $2,000 per quarter.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Risk Risk “Ownership” Comments
Start-Up, Testing and Commissioning
LCA The successful start-up, acceptance testing and commissioning of the Capex will be LCA’s responsibility.
Major Capital Improvements - Bundling
LCA
LCA is entitled to a Capital Recovery Fee or a Capital Cost Recovery Charge for Major Capital Improvements, subject to the terms of the Concession Agreement. Bundling of projects to meet the $1M threshold to be considered a Major Capital Improvement is specifically allowed for the replacement of water mains or sewer lines for which the construction started in the same calendar year. Bundling is not explicitly permitted for treatment plant overhauls, hydrant, water meter or valve replacements, and trenchless pipe and manhole rehabilitation and may result in LCA costs not recoverable through a Capital Cost Recovery Charge.
LCA has assumed in its financial model that trenchless pipe rehabilitation will be eligible for bundling and a Capital Cost Recovery Charge.
LCA is to prepare a First Year Capex Plan and a Five Year Capex Plan, both of which include Major Capital Improvements.
The City shall consider the plan within 30 days, and its approval shall not be unreasonably conditioned or withheld. The
Concession Agreement provides for “good faith” negotiation for any adjustment of the Capital Cost Recovery Charge relative to each project, including any cost overruns, that are mutually acceptable. LCA has assumed that preliminary design, detailed design, re-design, bidding, construction, construction cost overruns, construction inspection, and all costs related to the Major Capital Improvements will be eligible for the Capital Cost Recovery Charge.
The Concession Agreement identifies Key Employees to be hired by LCA and staffing requirements for existing union employees.
LCA is responsible for filling any vacant positions resulting from existing City staff that elects not to accept employment with LCA.
See Section 6.02 of this Report.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Risk Risk “Ownership” Comments
Operations LCA
LCA is responsible for operating the Concessioned System in accordance with the Operating Standards specified in the Concession Agreement. The Operating Standards are generally consistent with industry norms. The City may modify Operating Standards to comply with any new Law or Change of Law or to conform to standard industry practices. LCA is responsible to perform all work to implement and comply with such modified standards at its cost and expense. LCA is not excused from any compliance. If the change in Operating Standards is due to a new Law or Change of Law, the Schedule of Service Charges may be adjusted. If the change in Operating Standards is to conform to industry standards, the Parties agree to negotiate in good faith to reduce the financial impact on LCA.
Transfer of
Operations City / LCA
The City and LCA will be jointly responsible for successfully transitioning the operation of the Concessioned System to LCA.
See Section 6.02 for transition discussion.
Influent Water
Quality City / LCA
Concession Agreement requires the City to provide raw water that meets the Raw Water Specifications. If raw water does not meet the Raw Water Specifications, and LCA cannot meet performance obligations of the Concession Agreement, it shall be an event of Force Majeure, and no Operational Liquidated Damages will be assessed against LCA. LCA will receive either direct reimbursement from the City, or approval from City for an increase in the Schedule of Service Charges for costs to purchase replacement water. The Concession Agreement indicates that the raw water sources are likely to shift to an increased ratio of surface water to spring water over time due to increased demand. As the ratio of filtered water to unfiltered water increases, LCA will incur additional water treatment costs for chemicals, electricity and sludge disposal.
Water Supply City
City retains the water existing before or ahead of the four water delivery points from which the City will provide raw water to LCA.
The Concession Agreement identifies that City failure to provide sufficient raw water is a Water Shortage, and LCA is allowed to recover costs of securing alternate water supply.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Risk Risk “Ownership” Comments
Sludge
Management LCA
LCA is responsible for compliance with terms of Sludge Agreement related solely to sludge, and the City is responsible for compliance with terms of the Sludge Agreement related to municipal solid waste (MSW). The methodology for allocating (between MSW and Sludge) the cost of payments to Delta Thermal Energy (DTE) and for the receipt of credits from DTE is not defined in the Concession Agreement and will require negotiation between the parties. If the DTE facility is not
completed, LCA’s cost for sludge disposal is expected to stay the same or be reduced. It is assumed that only sludge from
KIWWTP will be delivered to the DTE facility and sludge from the Water Filtration Plant will continue to be disposed in accordance with current practices.
Financial Risks
Project Financing and other
Payments
LCA
LCA is responsible for obtaining adequate financing for Annual City Payments and capital projects (except Administrative Order and Uncompleted Work projects) as well as making all other required payments under the Concession Agreement and paying debt service on the Bonds. In certain instances, LCA may be required to obtain adequate financing for unplanned Major Capital Improvements. Should the need for funding Major Capital Improvements exceed the available cash balance, it is assumed that LCA will make adjustments to its planned schedule for implementation of Major Capital Improvements, will issue additional senior debt as increase in revenues (from additional Capital Cost Recovery Charges) may allow, or issue subordinated debt to fund such Major Capital Improvements.
Major Capital Improvements are eligible for capital cost recovery per the terms of the Concession Agreement.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Risk Risk “Ownership” Comments
Capital Costs LCA/ City
LCA is responsible for capital improvements and may either charge Capital Recovery Fees in addition to regular rates or obtain rate relief from ratepayers via Capital Cost Recovery Charges (for Major Capital Improvements) submitted annually and approved by the City. City is to review and approve Capital Cost Recovery Charges upon substantial completion of design and again after project completion to the extent that adjustment to the Capital Cost Recovery Charge for the project is necessary or appropriate.
Uncompleted Work / Administrative Order Project
City The City is responsible for costs associated with Administrative Order and Uncompleted Work projects.
Rates/Service
Charge LCA / City
LCA prepared and City approved a schedule of rates, fees and other charges (Article 7), subject to Permitted Annual Rate Adjustment for each calendar year. The initial schedule of rates, fees and other charges are included in the Concession
Agreement.
Excluded
Liabilities City
In addition to costs associated with the Administrative Orders and Uncompleted Work projects, Excluded Liabilities consist of any of the City’s debts, liabilities or obligations: (i) with respect to the City’s obligations under the Concession Agreement; (ii) arising out of Concessioned System Operations prior to Closing; (iii) relating to the City’s Bonds or any other City debt or City obligations related to the Concessioned System or the
defeasance thereof; (iv) any Hazardous Substance existing at the Time of Closing that during the Term has a Material Adverse Effect on System Operations or System Concession Value; and (v) violations arising under any Environmental Law related to the ownership, operation or condition of the Concessioned System prior to Closing or Hazardous Substance containment that was released at, on, under or from the System at any time prior to the Time of Closing.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Risk Risk “Ownership” Comments
Revenues LCA
LCA is entitled to all Revenues from the Concessioned System except those that are not derived from the operation of the Concessioned System or the provision of utility services such as naming rights, advertising revenues, rental income and other revenues from the utilization of the Concessioned System by Persons for communications equipment and other attachments to properties of the Concessioned System.
Surplus Water LCA / City City retains the right to the Surplus Water. LCA may charge reasonable fee for treatment and transmission of Surplus Water.
Concession
Compensation City
Amounts paid to LCA by the City to restore LCA to the same economic position LCA would have enjoyed if such
Compensation Event had not occurred. Compensation Events include LCA’s compliance with any City Directive or a modified Operating Standard, the failure of the City to adequately maintain the Administrative Order Fund, the occurrence of an Adverse Action, or the occurrence of any other event in the Concession Agreement that requires the payment of Concession
Compensation.
Operational Liquidated Damages
LCA
LCA is subject to Operational Liquidated Damages for failure to comply with provisions of the Operating Standards. The extent to which operational liquidated damages are included in contracts of similar nature to the Concession Agreement varies widely in the industry. The dollar amounts of the individual Operational Liquidated Damages are consistent with the liquidated damages found in some contracts for providing similar types of services.
Damage and
Destruction LCA
LCA is responsible for reconstruction costs not covered by insurance. Insurance requirements are specified in the Concession Agreement.
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
Risk Risk “Ownership” Comments
Business/Institutional Risks
Existence of
LCA LCA
LCA term in accordance with Authorities Act is June 9, 2049.
LCA is obligated to extend its life beyond the end of the Concession term, and if it does not do so, the agreement will terminate on May 10, 2049.
Letter of Credit LCA
LCA is responsible for delivering a Letter of Credit or cash (not to exceed $25M) as adjusted for inflation at least 5 years prior to final lease year as surety for payment of Capex for the remainder of the term of the Concession.
Environmental/Regulatory Risks Change in
NPDES Permit Limits
LCA/
City
LCA must comply with any future NPDES permit limits.
Modification of a permitting requirement is a “Change of Law” for which costs are recoverable under the Concession Agreement.
Construction Permitting Delays
LCA Delay in obtaining any required construction permits is borne solely by LCA.
Section 3.02 Sludge Agreement
The City entered into an agreement on March 29, 2012 (Sludge Agreement), with Delta Thermal Energy (DTE) to lease 3.1 acres adjacent to the KIWWTP for the construction of a waste-to-energy facility (DTE Facility). DTE will operate the DTE Facility and the City will deliver sludge and MSW. DTE will own the DTE Facility; at the conclusion of the 35-year agreement term, the Sludge Agreement may be renewed, DTE may continue to own the facility, or DTE may remove the facility. The Sludge Agreement is subject to renewal at the option of the parties for an additional ten year term, and may be renewed for up to a total of two ten-year terms. Under the Concession Agreement, LCA is required to deliver sludge from the KIWWTP to the DTE Facility for processing and disposal.
DTE Facility Status: In accordance with the Sludge Agreement, construction on the DTE Facility was to have started by March 31, 2013, with site testing by June 1, 2014, and the DTE Facility was to be operational by January 1, 2015. The DTE Facility construction has been delayed. DTE has until July 31st to obtain financing
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
for the project. Financing is required prior to the start of construction. Based on the current delay, it is likely that if the DTE Facility is constructed the site testing would not occur until late 2014.
Sludge and MSW: Sludge and MSW are required to be delivered to the DTE Facility, with transportation cost borne by the City (or in the case of sludge, born by LCA under the terms of the Concession Agreement). Per the Sludge Agreement, the Required Commercial Operations Sludge Tonnage is 242 to 308 tons per week, presumably measured as wet tons (i.e. “as-delivered”). There are no stated quality requirements in the Sludge Agreement for sludge or MSW; however the Concession Agreement requires that the sludge contain at minimum 15% solids. Over the period of 2010 through 2012, the KIWWTP generated an average of 270 tons per week of sludge with an average solids content of greater than 18%.4
Financial Terms: The land will be leased to DTE by the City in exchange for an annual lease payment of $10. The City will pay the $5,885,000 annual Operating Fee in exchange for services provided by DTE (i.e. sludge and MSW processing and disposal). Although the Concession Agreement does not set forth the allocation between sludge and MSW, LCA will presumably pay a portion of this fee subject to negotiation with the City. The operating fee is to be paid in equal monthly installments. Beginning on the first anniversary of the DTE Commercial Operations Date and for each year after, the Operating Fee shall increase by 2.21%. DTE has agreed to provide a credit to the City for power generated via an Electricity Credit.
The Electricity Credit shall be equal to $0.12/KWh or such higher rate as DTE may receive through power purchase agreements, multiplied by 833,050 kWh. The credit will be applied to the Operating Fee on a monthly basis. If excess tonnage of MSW and sludge is delivered to the DTE facility, the City will be charged a fee of
$68/excess ton. If DTE obtains third party sludge or MSW, 45% of net revenues received by DTE shall be credited to the City. 5
Section 3.03 Sludge Agreement Review
The City will provide MSW to the DTE Facility and the Concession Agreement requires LCA to deliver sludge from the KIWWTP to the DTE Facility. The Concession Agreement requires LCA to meet the sludge obligations under the Sludge Agreement. The KIWWTP has been generating (a) a volume of sludge to meet the Required Commercial Operations Sludge Tonnage and (b) sufficiently
4 2010 – 2012 Wastewater Treatment Plant Annual Reports, provided by the City.
5 Sludge Agreement – Section 5.0.1 – DELTA THERMO ENERGY 03-20-12
Independent Engineer’s Report for the Allentown Water and Sewer Utility System Concession
dewatered sludge to meet the 15% solids requirement in the Concession Agreement.
LCA will cover all costs of transporting sludge to the DTE Facility; however, as the facility is adjacent to the KIWWTP, transportation costs should be minimal.
The Concession Agreement does not provide guidance as to how payments to DTE will be divided between the City, as the provider of MSW, and LCA, as the provider of the sludge. The Concession Agreement is also unclear regarding who the beneficiary of the Electrical Credit will be, or how the benefits will be divided between LCA and the City. Based on LCA’s analysis of costs under the Sludge Agreement compared to alternate disposal methods, LCA’s financial model indicates LCA will incur “excess costs of DTE Contract” in an amount of $750,000 per year starting in 2014 and escalated at 2.21% annually. LCA assumes that it will share in the annual operating fee due to DTE based on the ratio of sludge tonnage to total tonnage (28%) and be responsible for $1,636,000 of the annual fee. In addition, LCA assumes it will share in the estimated $1,200,000 in Electricity Credits based on the ratio of sludge tonnage to total tonnage and receive an annual credit of
$334,000. The net cost to LCA will be $1,302,000 to deliver 14,300 tons of sludge to DTE, or $91 a ton. Currently, LCA estimates that it costs the City $40 a ton to dispose of sludge with its own trucks and a third party contractor, or a total of
$334,000. The net cost to LCA will be $1,302,000 to deliver 14,300 tons of sludge to DTE, or $91 a ton. Currently, LCA estimates that it costs the City $40 a ton to dispose of sludge with its own trucks and a third party contractor, or a total of