One measure of a utility’s capacity to bring in enough revenue to cover operating costs is the Operating Ratio. Calculated as the total operating revenue divided by total operating expense (excluding depreciation and debt service principal), the minimum target for the Operating Ratio is 1.0.
The two graphics shown below illustrate the 2010 operating ratios calculated, based on data reported by water and wastewater utilities that participated in the 2011 North Central Region Utility Rate Survey. A utility whose operating ratio falls below 1.0 requires financial support from other funding sources to meet operating expenses, while utilities whose ratio lands well above 1.0 are generally in a position to fund reserves and fund capital improvements and/or debt principal payments, in addition to operating expenses.
The average value calculated based on reported 2010 financial data from all water and wastewater respondents to the rate survey was 1.48, and the median was 1.38. As shown in the graphics below, the majority of systems that provided financial data – 90 percent of water systems and 86 percent of wastewater systems – appear to be achieving an operating ratio equal to or greater than 1.0. Of the water systems reporting financial data, 77 percent showed an operating ratio between 1.0 and 2.0, while 71 percent of the wastewater systems showed a ratio in that range.
While an operating ratio less than 1.0 does not necessarily mean financial disaster for a system, it can be one indication of the need to evaluate rates/operating revenue sources in terms of the cost of providing service. And while financial ratios do not tell the whole story when it comes to review by rating agencies, they are one component that comes into play. If your operating ratio is less than 1.0 or is not high enough to enable you to contribute sufficient money annually to capital, whether through debt service principal, cash-funded improvements, or contributions to a reserve, then consider reviewing your utility rate and fee structure for potential changes that would allow you to improve the self-sustainability of your utility.