The Role of Indemnification in the Total Cost of Infrastructure Failure

By: Mark Reiner, PhD, PE; Steve Fisher, PhD, PE; and Andrew Fang, PhD

Is it too much for citizens to expect completely reliable infrastructure systems? If we remain stuck in the status quo of infrastructure management, the answer is “yes.” We are slowly allowing our ‘normal’ to accept an increasing number of expensive reactionary repairs of failed infrastructure rather than proactive replacements and infrastructure planning. This is similar to the frog in boiling water parable [1].

As our infrastructure systems age, it will be interesting to see if the AWWA best practice key performance indicator (KPI) of 15 breaks/100 miles pipe/year (from Parts 1a and b) will increase to match reality (i.e. will 20 breaks be best practices by 2025?). If this KPI moves upward, when will city leadership understand that this poses a threat to urban resilience and are they prepared to engage as a utility stakeholder? As a means of minimizing risk, many cities are actively explor­ing public private partnerships (PPPs) [2], which pair the public need for upgraded systems with private investor capital. However, the same calculus of not having to pay for indirect costs (from Part 1b) is often a feature of PPP and contracts can backfire for both the city and its concessionaire. Consider this statement from the Mayor of Hoboken, New Jersey during the summer of 2018:

Good morning, I am here today to brief the public on the unacceptable rash of water main breaks that have occurred in Hoboken since June 23rd. In total we have experienced 14 major water main breaks over a 64-day period, with two breaks occurring as recently as yesterday. Never before have we seen such a string of major breaks in our City; particularly during the summer months. In our view, there can only be one explanation: Suez has mismanaged our system. First, in order to expedite our ability to thoroughly investigate, and permanently resolve, the threat to the health, safety and welfare of our residents caused by these breaks, the City is declaring an emergency under Section 60-11 of the City Code.

As more infrastructure assets fail, public opinion can be detrimentally affected and directed towards city-leadership, regardless of which entity is to blame. Without quantifying the indirect costs of asset failures, how can cities really discuss the ‘true cost’ that the citizens are paying for infrastructure? The first step in understanding indirect costs requires a look at indemnification.

Government Immunity’s Role in Hiding the True Cost of Failed Infrastructure

Sovereign immunity is a legal doctrine by which the state cannot commit a legal wrong and is immune from civil suit or criminal prosecution. By default, municipalities are liable for their actions unless a state law shields them – known as “governmental immunity.” Among the 50 states, the spectrum of immunity ranges from no liability limit (Hawaii) to full immunity from any tort and a mere $500 cap on property damage (Wyoming). Some states have legislated that water utilities are not responsible to pay the costs related to failures unless they were negligent. While municipal utilities may be more customer-friendly, many utilities have been given legal advice that they should claim “No Notice” which means that they had no prior knowledge of the condition of the water main and therefore they could not be held responsible for its failure and any public health effects [3]. This helps explain why infrastructure maintenance and capital improvement planning are guided by limited financial risks of liability, unlike businesses in the private sector. From a utility perspective, this level of protection explains why utilities artificially set boundaries on their asset management budgets. Costs that fall outside of these boundaries are considered as ‘indirect costs’ (or, ‘societal costs’ as defined in Table 1, below), i.e. paid by taxpayers and the residents directly impacted by any failure, not by the utility. Without including indirect costs, the total cost of infrastructure failure is not quantified, and city resilience is threatened. This blog is not attacking the doctrine of sovereign immunity, but is pointing out that cities need to quantify these indirect costs to better engage as a key utility end-user stakeholder.

Current Approaches in Calculating the Total Cost of Failed Infrastructure

An original approach at determining the ‘total costs’ of failure came from an AWWA Research Foundation report entitled “Costs of Infrastructure Failure” [4]. The report defined ‘total costs’ of infrastructure failure as the sum of ‘direct’ costs to the water utility in addition to the ‘societal costs’ (aka, indirect – see Table 1) to the city and property owners. The report was accompanied by an Excel-based spreadsheet program called the Grand Central Model (GCM) that provided a methodology for calculating the total cost. However, the GCM was found to be overwhelmingly extensive and complicated. It was concluded that water utility managers were not willing to learn how to use the GCM as the indirect costs were not a required part of the utility’s budget calculus. In 2007, another study attempted to simplify the approach to determining the total costs (i.e. sum of direct and societal costs) [3]. The changes can be compared in Table 1, below. More recent attempts to simplify the GCM have led to the Consequences of Water Main Break (COWMB) Model [5]. The report presented 11 case studies of large-diameter water main (24” or greater) breaks, and used COWMB to estimate that the average indirect costs for the case studies equaled 67%. In other words, 2/3 of the total cost of failed infrastructure are not remunerated by the utility and are being absorbed acutely by those directly affected due to indemnification – a socially unequitable situation.

While there is common agreement in the research as to the utility’s direct costs [3,4,5], there were differences in the externalities [6] assigned to the city (i.e. societal or indirect costs). To illustrate these definitions and calculations, four shaded cost categories in Table 1 represent the common denominators between the GCM [4] and the subsequent studies [3 and 5]. The unshaded rows are additional societal cost categories considered by Gaewski & Blaha.

Table 1: Societal and Indirect Costs for Failed Water Mains

Whether ‘societal’ or ‘indirect’, these costs are being paid by individual residents, businesses, and city taxpayers for the repurposed city staff (fire and police). The key point is that these costs are not included in the utility’s calculus for determining when an asset should be repaired or replaced. GCM and COWMB are planning tools specific to water utilities but are not a means to calculate actual damage (this will be discussed in Part 3). Also, there is a need to change two perspectives: 1) indirect/social costs paid by the city and impacted residents/businesses are NOT ‘indirect’ to them, there is need of a new name for these costs to better define; and 2) property damage in a city can be experienced by the failure of ANY sector of infrastructure (e.g. a bridge, gas main, sewer, etc.). The inequity of failed infrastructure is exacerbated by any socioeconomic and demographic differences within the area impacted. Failures are indiscriminate and may affect marginalized communities as well as wealthy ones, but the ability to respond to the damage will be vastly different by neighborhood. Cities should use a methodology for determining the economic impact to a particular geographic area of a city to better work with utilities for understanding the true, or total cost, of infrastructure failures. This is presented in the conclusion to this blog series, Part 3.

Other Parts to this Blog

Part 1a: Communication Breakdown – City vs Asset Management Perspectives

Part 1b: The Repair vs Replace Debate

Part 3: Defining the Total Economic Disruption of Failed Infrastructure for a City

Footnotes

[1] https://en.wikipedia.org/wiki/Boiling_frog

[2] A recommended defini­tion of a PPP is that of a delivery model that joins the need of public infrastruc­ture with the capital, risk transfer, life-cycle asset management, optimization of life-cycle costs, and flexibility pro­vided by private investors.

[3] Gaewski & Blaha, 2007

[4] Cromwell, 2002

[5] Piratla et al., 2015

[6] This blog has avoided the term ‘externalities’ when referring to those costs not directly considered the utility’s responsibility, because as the key point to this blog, these costs are actually very direct from a city’s point of view. Also, the terms indirect and societal, from previous research, are already being discussed in this blog.