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Honorable Harry P.Burleigh Executive Director Opinion No.M-980

Texas Water Development Board 301West Second Street Austin, Texas 78711

Dear Mr.Burleigh: Re: Does the "cumulative average effective rate" referred to inArticle 8280-9, Section 12(g), V.C.S., have included in its computation the current outstanding interest on long-term federal contracts?

Inyour recent letter you request this Office to render an opinion on the following question:

"Does the 'cumulative average effective rate' referred to inArticle 8280-9, Section 12(g), V.C.S., have included in its computation the current outstanding interest on longterm federal contracts?"

In connection with the above question, you advise that Section 49-d ofArticle III of the Constitution ofTexas authorizes the Texas Water Development Board to enter into long-term contracts with the federal government for theacquisition and development of storage facilities in reservoirs. Such contracts when executed shall constitute general obligations of the State of Texas in the samemanner andwith the same effect as state bonds issued under the authority of Section 49-c ofArticle III of the Constitution ofTexas. The Legislature, pursuant to constitutional authority, has prescribed terms and conditions under which theTexas Water Development Board can sell or transfer its interest in any acquired storage facilities. Article 8280-9, Sec. 12(e), 12(f) and 12(g), Vernon's Civil Statutes. Section 12(g), which prescribes a formula that the Texas Water Development Board is touse indetermining the sales price of the State's interest in aproject acquired under a contract, reads inpart as follows:

,I

. . .theprice shallbe the sum of the 'direct cost of the Board in acquiring same,’

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Honorable Harry P. Burleigh, page 2 (M-980)

. . .,plus an interest charge thereon of onehalf of onepercent (l/2of 1%)per annum from the date of acquisition of such facilities by theBoard, plus interest at the cumulative average effective rate on all Texas Water Development Bonds soldup to the date of the sale of such facilities foreach ofthose vears ornortions ofvears onwhich theBoard paid interest to the other party(ies) to the contract, Elus theBoard's cost of operating andmaintaining the facilities being sold or transferred from thedate of acquisition to thedate of transfer, less anypayments received by theBoard from the lease of such facilities or the sale ofwater therefrom." (Emphasis added.)

Your question isdirected to that portion of the formula which provides that the selling prioe of the facilities is to include "interest at the cumulative average effective rate 'onallTexas Water Development Bonds soldup to thedate of the sale of such facilities."

The term "TexasWater Development Bonds" is referred to in Section 49-c ofArticle III of the Constitution as follows:

"Thebonds authorized herein orpermitted

tobe authorized by the,Legislature shallbe called 'TexasWater Development Bonds,' shall be executed in such form, denominations and upon such terms asmay be prescribed by law,

0,

. . . ., (Emphasissadded.)

It is apparent from this reference that long-term federal contracts were not intended to comewithin themeaning of the term TexasWater Development Bonds.

As further evidence that long-term federal contracts are not tobe included within this portion of the formula we note that the cumulative average effective interest rate is to be determined from the Texas Water Development Bonds sold up to thedate of the sale of the facility.

Oncewe have determined the cumulative average effective interest rate from rates applicable to TexasWater Development Bonds soldup to the time of the sale of the facility, we

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Honorable Harry P.Burleigh, page 3 (M-980)

are facedwith a further difficulty of interpretation in applying this rate to the "direct cost" of the facility for the purpose of arriving at thisportion of the selling price. "Direct cost" isdefined inArticle 8280-9, Sec. 12(f) as II the principal amount theBoard pays or agrees topay for s;ch ;acilities."

If the rate onbonds is applied to the total "direct cost" of the facility, wemight recover an interest charge without regard to the source of the cost element. Ifbond money finances thewhole cost of the facility tobe sold, noproblem exists. On theother hand, if the facility is financed in part bybond money and inpart through long-term federal contracts, then the application of our previously defined cumulative average effective interest rate to thewhole of the "direct cost"might fail to account forall of the interest paid out on the federal contract applicable to the facility inquestion to the extent that the interest rate on federal contracts exceeded the cumulative average effective interest rate onbonds. This procedure would not account for all of the interest costs incurred inpurchase of the facility.

This difficulty may be overcome by adding the entire interest on the federal contracts applicable to aparticular facility to the cost of its operation andmaintenance asprovided in the fourth item of Section 12(g). However, thiswould create an additional interest charge not authorized. This isbecause the cumulative average effective interest rate onbonds sold applied to the "direct cost" of the facility will automatically account for all the interest cost connected with aparticular facility, except where the interest rate on the federal contract exceeds the cumulative average effective interest rate on bonds. There isno necessity at thisdate based upon the existing federal contracts, to require a separate collection of the interest cost on long-term federal contracts under maintenance and operating costs.

The only circumstance where recovery of such interest as a component ofmaintenance and operation expense is justifiable would occur in the event the cumulative average effective interest rate'were applied against that portion of the direct cost of the facility which couldbe attributable solely tobond money. If thatwere done, then the interest on the cost applicable to long-term federal contracts, if any, could be recovered as an itemunder maintenance and operation. Thismethod of cost recovery would avoid the afosesaid difficulties ofdouble or additional interest charges inherent in the other suggested

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Honorable Harry P.Burleigh, page 4 (M-980)

methods, andwould permit total cost recovery in compliance with the constitutional and statutory requirements. We are, of course, aware that nothing in this opinion should be understood
aspreventing the State from securing thehighest possible price for the sale of these facilities. We are only concerned herein with interpreting the statutory requirements for establishing aminimum selling price which accounts for all the cost elements.

As aresult of the foregoing analysis; we are of the opinion that thephrase "cumulative average effective rate", referred to in Section 12(g) ofArticle 8280-9, Vernon's Civil Statutes, does not have included inits computation the current rate of interest being charged the State on long-term federal contracts, but that any attemptstodetermine selling price of aparticular facility must consider that the rate of interest on such federal contracts might exceed the cumulative average effective rate. To the extent itdoes, care should be taken to fully recover the excess, without at the same time requiring collection ofwhat would amount to adouble or additional interest charge not authorized by the statute. To this end, we are of the further opinion that the cumulative average effective rate should be applied only to that portion of the "direct cost" of the facility attributable tomonies from the sale of Texas Water Development Bonds, and that the interest paid on long-term federal contracts connected with the development of the facility be collected under maintenance and operating expenses. Inno event, however, should the selling price of the facility, determined in thismanner, be less than the actual total cost of the facility. To illustrate our holding: assume a $100,000 facility which was financed partly ($50,000)by Texas Water Development Bonds andpartly ($50,000)by longterm federal contracts. The cumulative average effective rate on Texas Water Development Bonds sold todate is 5%. The rate of interest paid on the federal contracts is 6%. The selling price encompassing only the items with which we are here concerned would be determined as follows:

Direct cost of the facility $100,000

Plus: (1)5%of $50,000 (bondmoney)

(2)6%of $50,000 (federal contract money) set out as maintenance and operation expense 2,500

3,000

TOTAL SELLING PRICE $105,500

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Honorable Harry P.Burleigh, page 5(M-980)

In this example, application of the 5%to the entire $100,000 of "direct cost"would result in only $5,000 added to the selling price, leaving us $500 short of the total cost. If itwere permissible to add in the $5,000 and still add the 6%on federal contracts tomaintenance and operation expense, wewould sanction an interest charge of $8,000 ($5,000+ $3,000)which would materially exceed the total expense. Our opinion is that thiswould not be aproper interpretation of what the Legislature intended inArticle 8280-9, Sec. 12(g), supra.

SUMMARY

The phrase "cumulative average effective rate", referred to in Section 12(g) ofArticle 8280-9,Vernon's Civil Statutes, does not include in its computation the current rate of interest being charged the State on long-term federal contracts. The computation of actual interest expense incurred and tabe recovered
as an item of selling price shall bemade by applying the cumulative average effective rate to only that portion of the "direct cost" of the facility which isattributable tomonies from the Texas Water Development Fund, andby including the actual interest paid on longterm federal contracts connected with the development of the facility in the category ofmaintenance and operat'ng expenses. A

Prepared by James H. Quick Assistant Attorney General

APPROVED: OPINION COMMITTEE:

Kerns Taylor, Chairman W. E.Allen, Co-Chairman

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Roger Tyler Marietta Payne Jack Goodman John Reeves

SAM MCDANIEL Staff Legal Assistant

ALFRED WALKER Executive 'Assistant

NOLA WHITE FirstAssistant

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