Sunday Commentary: Cost Restraints Key to Innovation Park City Revenue Generation

Mace Ranch Innovation Center
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Lost in the shuffle, of one of the busier weeks I can remember where there was no city council meeting, was a story we ran on Monday where Mayor Pro Tem Robb Davis noted that, while the innovation park remains “a huge opportunity for us to diversify our economic base,” in order for this project to pencil out, we have to deal on the cost side as well as the revenue side.

While this falls slightly shy of a game-changing revelation, it is critically important from both a land-use perspective as well as a city fiscal perspective.

There is considerable pushback in the community against the innovation parks, with many people seeing them as unnecessary expansion into farmland. They see the 200-acre sites as huge changes in city policy.

Part of the concern here was that the city was developing these parks as a way to enable them to raise employee compensation. In the last decade, compensation to city employees exploded, led by the firefighters for whom the city used a half-cent sales tax in order to give firefighters a 36-percent pay increase from 2004 to 2009. Other employee groups benefited as well, but most of them got less than half that increase.

The fiscal analysis offered by the mayor pro tem debunks that fear. Right now, the fiscal analysis shows that, while the project has on the conservative side a gross revenue at buildout of $3.75 million, the net revenue is just $2.1 million – with $1.5 million going toward city services.

One of the biggest problems that the city faces is that our current revenue is only increasing by 1.1 percent each year, while the costs are going up by 2 percent.

While I think there are good cases to be made that the net revenue projections are on the low side, what is becoming increasingly clear to me is that the innovation parks will help the city budget projections, but they will not be ongoing game changers – even if the city is able to simultaneously increase the net revenue, hold costs down, and add an assessment.

Ironically, as the city faces a situation where it could be back in the red by 2022, passing additional taxes could actually enable the city to increase employee compensation far more than an innovation park. A parcel tax, at least, has its money directed by the tax, but nothing would preclude the council from shifting other monies to go to employee compensation.

Robb Davis pointed out that there is a bigger picture than simply revenue. The mayor pro tem argues that “we went into this for a whole lot of reasons.” While revenue for the city was one of those reasons, “creating good jobs for the community was another. Diversification of our economic base may be the most important.”

But from our perspective, the most important takeaway here is that, while the city’s fiscal picture has improved mainly from the passage of the sales tax and somewhat from the improvement of the economy, we are far from out of the woods.

As we pointed out last July, we currently have a healthy General Fund reserve. However, the reason we have a healthy general fund reserve is the sales tax. We know from city projections that, if the sales tax sunsets, we go right back into the red in 2020-21. We know that if the city employees get just a 1 percent COLA annually, we go right back into the red around the same time.

The projected budget did not include any increases to the employee compensation or note any possibility that our economy may dip back into recession sometime in the next ten years.

Robb Davis quickly points out that our costs are increasing at nearly twice the rate as our revenues. And yet, as we are about to enter into a new period of MOU negotiations, City Manager Dirk Brazil took the possibility of more employee concessions off the table.

The reality is that this analysis shows that, if we do not control costs, innovation parks will not save us. The revenue generated by the parks will be offset by higher costs for service if we cannot find ways to, at the very least, reduce that 2 percent annual cost inflation.

The city does need to address our shortfall in roads money. One thing that is clear from the back and forth in Sacramento is that we just cannot count on money from Sacramento to repair our local infrastructure.

There are undoubtedly a lot of land-use questions that have to be worked out by the community before the Mace Ranch Innovation Center can be approved, but one thing I do like about the economic analysis is that, in order to derive any benefits from the new development, we have to find a way to cut our employee compensation costs.

The innovation parks will not enable us to increase employee compensation because we would end up cutting off the very revenue stream that would sustain the increase in the first place.

—David M. Greenwald reporting

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About The Author

David Greenwald is the founder, editor, and executive director of the Davis Vanguard. He founded the Vanguard in 2006. David Greenwald moved to Davis in 1996 to attend Graduate School at UC Davis in Political Science. He lives in South Davis with his wife Cecilia Escamilla Greenwald and three children.

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15 thoughts on “Sunday Commentary: Cost Restraints Key to Innovation Park City Revenue Generation”

  1. Jim Frame

    One of the biggest problems that the city faces is that our current revenue is only increasing by 1.1% each year, but the costs are going up by 2 percent.

    Is a a breakdown of costs available that lays out which categories are increasing faster than revenues?

    1. Matt Williams

      Jim, that is something that the Finance and Budget Commission (FBC) has been working very hard to get, but the archaic nature of the City’s management information system does not provide cost information at that kind of practical level. The FBC, in its deliberations of the proposed Budget earlier this year put together 13 recommendations regarding the Budget, and Jeff Miller, the chair of the FBC, delivered those recommendations to Council as part of public comment in Council’s consideration of the Budget. Seven of those 13 recommendations focused on costs and/or better reporting of those costs. Those seven recommendations were as follows:

      — While work has continued on developing a new information technology project we believe the project should be accelerated so that it would, among other things, allow better accounting and management of city spending.

      — Although tracking of capital projects in the new budget presentation has improved, there are concerns that monies for the actual implementation of the project has not been budgeted or reflected in the five year fiscal forecast. As part of our continuing efforts to implement our new mission statement we believe we need a reporting system that can map the percentage of a particular capital project that is complete against the monies spent to that point on that project. The reporting should also include information on a completed projects adopted budget versus actual total dollars spent on the project, and a comparison of the project timeline for each project versus its actual timeline.

      — The commission requested information on salary cost by employee in the Department of Public Works to determine why some of these costs seem high.

      — The commission expressed interest in the potential for implementing “lean management” principles to reduce budgeted costs. (By one definition, lean management seeks to eliminate any waste of time, effort or money by identifying each step in a business process and then revising or cutting out steps that do not create value.) For example, costs for purchases of printers and copying might be reduced by new work rules and procedures.

      — The commission inquired about what the city’s goals are in the pending negotiations with employee associations, and whether under current trends average compensation costs are being contained.

      — The commission expressed interest in moving toward fuller use of scenario analysis in the consideration of the budget plan. For example, scenarios could be developed to spell out what additional spending items would be prioritized in the event that revenues were better than expected, as well as what reductions should be implemented in the event of an unanticipated downturn in city finances.

      — The commission expressed interest in modifying the budget projections in the future to display information pertaining to long term unfunded/accrued liabilities, such as personnel or deferred maintenance costs not covered within budgeted expenditures.

    2. Robb Davis

      A few corrections/precisions here.  I am basing the following on information provided by staff in the lead-up to last year’s budget development.  I do not have an electronic version.  The projections included are for the period FY15/16 through FY 20/21–a five-year period. A key assumption in total compensation is that are zero staff changes and zero COLA or other raises assumed–i.e. base salaries of staff are assumed to remain flat in this five-year period.

      Note the much more rapid increase in pension and retiree medical.  Recent indications from CALPERS suggest that because of risk reduction strategies they are about to undertake, these increases may be greater.  Note also the change in total compensation as a percent of total general fund expenditures.  Thus, GF expenditures are growing more slowly than revenue in this period but compensation is taking up an increasing share of total expenditures and pensions and retiree medical will require $3 million extra dollars in FY20/21 compared to this year (with no base salary increases assumed).

      1. Robb Davis

        Apologies… I tried to insert a table but it did not show up.  Not sure how to do that and I don’t have permission to upload pictures.  If someone can help I will get it inserted…

         

         

         

         

         

         

      2. Robb Davis

        Columns do not line up but this is the best I can do as I head out the door. Will send a picture to Don…

        FY15/16             FY20/21 Annual Percent Increase  Absolute Change

        Revenue                              $52,109,371       $55,540,426         1.28%                   $3,431,055

        Total Comp                        $32,083,607      $35,673,473         2.12%                   $3,589,866

        Pension                                  $4,745,111        $6,842,185          7.32%                   $2,097,074

        Retiree Health                     $3,582,759        $4,520,871          4.65%                       $938,112

        Total GF Expenditures     $51,429,715     $53,603,382         0.83%                    $2,173,667

         

        Total Comp % of Total Expenditures   FY 15/16: 62.38%                 FY 20/21: 66.55%

    3. Doby Fleeman

       
      Jim & Matt,
       
      The fact of the matter remains that the principal “industry” of Davis – from the 1960s though the 1990’s – was new homebuilding to support the expanding university (the Ford Motor Company of our town).   Fundamentally, it was this industrial activity which led to construction of our roads, our neighborhood parks and playfields, our schools, and our network of bike trails – enabling the city to “spend ahead on key infrastructure and amenities” with the certain knowledge that a growing pool of net, new taxpayers would be around to help pick up the tab.
       
      Today, we are still very fortunate.  The motor of our local economy, the University, has continued to grow.  This past decade, however, has witness the virtual evaporation of our former “homebuilding industry” (which had formerly grown at 25-35% per decade) and with it the sustained influx of new homeowners, new customers, new students for our schools, and new taxes to support municipal services.
       
      As evidenced over this past decade, and looking ahead to the future, we face very different growth and revenue prospects. Absent major tourism revenues, absent a large and growing daytime workforce population, absent the long list of major national retailers (both their jobs and the taxes they generate), we are left to rely upon our local, steady-state spending, augmented by a vibrant and growing restaurant and entertainment sector.
       
      Of itself, will that model prove sufficient to keep pace with the anticipated 2% growth in municipal services? And when one looks at that rate in perspective, it’s really not unreasonable to project a 2% growth in operating expenses.  At that rate, we wouldn’t see a doubling of expenses for 36 years.
       
      But what is to be our answer to keep pace with that highly likely scenario of expenditure creep – keeping in mind that such projections don’t likely include any major set asides for significant new infrastructure investment, building replacement or major renovations, ongoing infrastructure investment needs for basic utilities.
       
      All of which gets me back to one of my fundamental, unanswered “asks” with respect to the Fiscal Analysis being conducted for the Innovation Centers.  What will our fiscal budget and programming needs look like 25 year into the future?  What will our likely Davis GDP look like, and how will it compare to our likely program expenditure demands in 2040 – with and without the advent of these Innovation Centers?
       
      In essence, and as a community, when will we return to the task of Designing a Sustainable and Innovative Davis Economy for the Davis of 2040?  In other words, what steps should be driving our decision making now, in 2015, to help insure a future, healthy and sustainable Davis economy when our children arrive?
       
      I do have trouble understanding how we can talk intelligently about our future needs without such a community-wide conversation.  To date, I don’t even see the recognition that such a discussion and debate is a necessary pre-condition to imagining and outlining our future needs.  And, yet, without an inventory of our future service demands and investment needs, how can we effectively project our realistic operating expenditures into the future?
       
      In my view, Robb Davis sees the problem for what it is – both the need and the merits to accommodate the arrival of that missing “technology employment component” in this world-class research university host community.  Hopefully, our upcoming discussions, centered around the Innovation Center applications, can provide the necessary context for this long overdue conversation.

  2. Frankly

    CalPERS will continue to lower the estimated rate of return from the pension funds and pass on the costs to cities.   This will cause our 2% per year growth in costs to move upward significantly.

    We know the elephant in the room.  It is city-paid employee benefits.  And at the top of the list are city employee retirement benefits.

    Cutting spending will require we reduce city employee retirement benefits to meet general labor market standards.  For example, the number of days of paid vacation, sick and holidays we give to city employees is an order of magnitude greater than general labor market standards.  That costs the city because we have to hire more workers to fill in for all the days off given to other employees.

    But only when we “get it” and move to convert all city employee defined benefit retirement benefits to a defined contribution (401-k) style retirement plan, will we effectively solve this problem.

    I have heard an estimate of $30 million for the city to buy out CalPERs and sufficiently fund a change from the defined benefit pension plan into a 401k-style plan.  First, this number should alarm everyone to understand how much CalPERS is under-funded for meeting the long-term liabilities of pension pay-outs.   Costs are going to constantly incrementally increase to deal with this gap.  And 7.5% returns are no longer realistic projections.

    Municipal bond financing rates are still very low.  One idea is for Davis to consider floating a bond to buy out the CapPERS contract and fund the conversion to a defined contribution plan for city employees.   The payment on the bond could be backed by a tax measure.  At first this will increase costs, but over-time we would see our over-all costs decline to what they would otherwise be.

    Reforming away from the million-dollar pensions is the primary solution we should be pursuing.  Unfortunately it is not being discussed because Davis is a public-sector-union-Democrat stronghold filled with a high percentage or residents directly benefiting from these unsustainable retirement benefits.  However, with our unsustainable spending trajectory, as the City of Stockton demonstrated, even retirees will be at risk once we run out of money.  At some point the reality of unsustainable city employee benefits should sink in.

    1. Jim Frame

      I agree that the cost of supporting a defined-benefit retirement plan too easily slips out of control, either through political manipulation (active or passive) or as a result of inaccurate investment forecasting.  The city manager’s decision not to seek further staff concessions means de facto raises in total compensation as a result of CalPERS cost increases.  I support the idea of a CalPERS buyout, but acknowledge that it may not be politically feasible.

      1. Jim Frame

        Cost increases for retiree medical are even more confounding, because they can’t accurately be predicted during an employee’s tenure. Has there been any discussion of cost-capping language for retiree medical in the bargaining agreements?

        1. hpierce

          Quick answer is “yes”.  For years, employees have paid into Medicare.  Once they are eligible, employer pays for “supplement to Medicare”.  Some current retirees would not be eligible for Medicare, except, perhaps, on their spouse’s eligibility.  Years ago, instead of full medical, employees could only get 50% coverage until 60.  A few years ago, it became a sliding scale for new employees where there will be no contribution to retired employees until they had 10 years of service, then in gradations between 50 – 100 percent when they achieved 20 years of service.

          There was no retiree medical for those who worked for the City 10-30 years, left City service, and only retired from another entity, public or private.

  3. Anon

    “There is considerable pushback in the community against the innovation parks, with many people seeing them as unnecessary expansion into farmland. They see the 200-acre sites as huge changes in city policy.”

    Considerable pushback in the community against innovation parks?  From HOW MANY citizens relative to the entire population of Davis?  Let’s keep the “considerable pushback against innovation parks” in perspective.  My guess is that most people in Davis would be supportive of a WELL PLANNED innovation park(s) that generate SUBSTANTIAL tax revenue for the city.

    “The reality is that this analysis shows that, if we do not control costs, innovation parks will not save us. The revenue generated by the parks will be offset by higher costs for service if we cannot find ways to, at the very least, reduce that 2 percent annual cost inflation.”

    I don’t think anyone ever thought innovation parks were going to be the panacea for all the city’s fiscal problems, not the least of which is the ever-growing benefit costs of its city employees.  However, think how much worse it will be if the City of Davis doesn’t diversify its economic development beyond just car dealerships, Target and the downtown.

    1. Davis Progressive

      “Considerable pushback in the community against innovation parks?”

      you aware of this: https://www.davisvanguard.org/2015/09/the-dollars-and-sense-of-development-in-davis/

      that’s the tip of the iceberg.  from what i have seen this group is mobilizing and broad.

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