Outsourcing: What Makes a Private Water Contract Work?

Peter Kenter
Municipal Sewer and Water

What ingredients go into making a successful private water operation contract? When such a contract proceeds smoothly, neither side is likely to discuss a contract in detail. When conflict arises, the contract is largely defined only by points of disagreement.

We asked three proponents of privatized water services what they believed to be the features of a well-designed and executed private water contract.

“The most important feature of contracting out water services is an open process,” says David Stokes, a policy analyst with Missouri’s Show-Me Institute, an organization supporting policies based in free markets and individual liberty. “The public needs to know what’s happening at every stage of the process, from introducing the concept to various stages of negotiations and the division of responsibilities. Utility employees also need to understand the process and how the agreement will affect their jobs. If the contract won’t affect jobs, then formally state that in a no lay-off pledge.”

Stokes says the range of the contract is also critical. An overly long contract might commit the two parties to an arrangement that outlives its usefulness. A contract that’s too short may not allow either party to experience the intended benefits for which the contract was designed.

“Shared risk is another key,” Stokes says. “If you’re bringing the private sector into a public utility, then you need to have the private sector share some of the risks inherent in providing the services. If they don’t take on some risk, then you’re losing the benefit of private expertise.”

While negotiators are often allergic to extremely detailed contracts, Stokes recommends that the contract needs to be detailed enough so that all of the important questions are answered ahead of time, avoiding the possibilities of negotiations, arbitration and antagonism in the middle of the agreement.

“Both sides should get into a room and go through all of the minutia and not come out until they know who is responsible for the fire hydrants,” he says. “A fair process for settling disagreements during the contract should be established before the contract is signed.”

Stokes notes that negative reactions to a recent $250,000 water consulting contract between French consortium Veolia and the city of St. Louis represents a misguided suspicion of private water system management.

“This was only a consulting contract,” Stokes says. “If the city decides to act on their recommendations, Veolia would be paid more to implement those ideas. What’s interesting is that about a million St. Louis County residents neighboring the city are served by private water companies, and those relationships have been in place for a century without any major scandal. The scenarios presented about what might happen under this consulting contract have not happened next door.”

Private water support

Environment Probe, a Canadian public interest organization that promotes property rights and market mechanisms to protect the environment also favors the option of private water contracts.

A successful contract begins with an accurate assessment of the state of the water system, its performance, and capital requirements, says Elizabeth Brubaker, executive director of Environment Probe.

“Municipalities and bidders need this information from the earliest stages in the contracting process,” she says. “A private water contract in Atlanta failed in part because such information was lacking.”

She notes that contracts must also be competitive, because only competition can ensure a municipality is getting the best deal. Sole source contracts are entered into at the utility’s peril.

Full disclosure

Brubaker agrees that public confidence can be enhanced by transparency. Contract negotiations must be part of an open process in which bids, the contract, performance data, and payment information must be available for public scrutiny.

The contract should also be based on full-cost pricing, since water revenues must be sufficient to support a well functioning system.

“I also believe in a long-term and comprehensive contract,” she says. “Making a service provider responsible not only for operations and maintenance, but also for capital improvements clarifies accountability and limits opportunities for buck-passing. The contract should also be performance-based, including financial penalties for non-compliance and bonuses for superior performance to give service providers incentives to perform well.”

Brubaker notes one feature of a private water contract that she believes makes it superior to public provision.

“The possible inherent advantage of private provision is that regulation is less conflicted and gives municipalities incentives to demand the most from their service providers,” she says. “Separating the ‘gamekeeper’ from the ‘poacher’ was a big factor in the privatization of water and wastewater in England and Wales. One of the few unambiguous benefits of contracting out in Hamilton, Ontario, was greatly improved regulation. The provincial government, the union, and the public all held the private operator to higher standards than they had held its public predecessor.”

Open process

Leonard Gilroy, director of government reform with the Reason Foundation, a public policy think tank promoting choice, competition, and a market economy agrees that private water contracts need to be negotiated in an open, competitive process with clear performance-based benchmarks.

“You need to be very honest with yourself here,” he says. “One of the big problems with water systems is deferred maintenance that leads to a lower quality of assets. That exact situation is often why municipalities consider a private contract. That information must be fully shared with private companies bidding on the contract.”

Gilroy notes that identifying the right benchmarks is also critical.

“You need to assess the current performance baseline before you can go on to negotiate the contract,” he says. “That ensures that both successes and failures in executing the contract are out in the open.”

Performance benchmarks, however, often merely pit private service levels against public service levels, which may not provide adequate comparisons.

“That may be short-sighted,” he says. “You also need to compare private performance against private performance benchmarks in other cities in the same space.”

Some of those benchmarks may include very specific factors, such as how quickly water meters are being upgraded, or how quickly customer service calls are processed — each contract will be different.

“The public client also needs to consistently monitor the contract to ensure it’s receiving value for money,” he says. “Private contracts don’t allow the public partner to walk away once a government deputy signs on the bottom line.”

Gilroy also stresses that water issues often invoke more deeply felt responses than those involving other services, such as trash pickup or infrastructure, such as roads.

“There’s nothing inherently different between a private water contract, and a contract which provides a public client with private fleet maintenance services,” he says. “Aside from the technical details about the services performed, the ingredients of a successful private contract should be the same.”


1 thought on “Outsourcing: What Makes a Private Water Contract Work?

  1. … Placing water delivery in private hands is strongly supported by the World Bank. They have a strong belief that private industry manages best. Consider the Harris Waterworks built by public money, the Bloor Viaduct, again public money. It is only when conservatives like Mike Harris act to sell public resources such as the 407 Hwy that we have serious problems. The Burlington Skyway was paid for out of tolls. The Cocohalla Hwy in BC had a toll until it was paid for. It is now public access. Things like water, electrical service and transportation are too valuable to place in private hands. Water is too precious a resource to let private industry maximise the bottom line

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