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Water Rate Cost-of-Service Study Section 1. Executive Summary HF&H Consultants, LLC | July 8, 2025 | Page 4 of 53 As shown in Figure 1-3, the projected increases in the revenue requirements are balanced with the City’s existing level of reserves. The City’s reserve policy requires that the target reserve balance is made up of an operating reserve component and a capital reserve component. The operating reserve component is 25% of annual operations and maintenance (O&M) expenses. The capital reserve component is currently $2 million to provide working capital for pay-as-you-go construction projects. The City is proposing to revise the existing policy to escalate the portion of the capital reserve component according to the year-over- year change in the Construction Cost Index for the San Francisco Bay Area, as provided by Engineering News Record.4 The capital reserve component has been escalated in our analysis and is reflected in Figure 1-3. The sum of these components equals the City’s Reserve Target (blue line). The projected fund balance shows the use of reserves through the Recommended Period. The use of reserves compensates for the need to charge larger rate increases to customers. If current rate revenues remain unchanged, the City would require a heavier dependency on Water Enterprise Fund reserves, and reserves would be reduced significantly (dashed green line), falling below a recommended minimum threshold. However, with the proposed rate increases, the projected fund balance (green solid line) remains above the City’s Reserve Target by the end of the Recommended Period. The reserve balance remains above the reserve target at the end of the rate period to ensure adequate funding is available for the significant costs associated with future capital improvements beyond FY 2027-28 as shown in Appendix A, Table 5. Maintaining a strong reserve position during this time allows the City to plan for continued infrastructure investment without requiring sudden, steep rate increases in future years. With these proposed rate increases, debt service coverage remains strong and improves during the five-year period. Figure 1-4 projects debt coverage with the recommended revenue increases, ensuring the City continues to meet the minimum coverage ratio of 1.20. 4 The Water Enterprise Fund has a formal policy of maintaining two million in reserves. The proposed reserve policy will be recommended for adoption via resolution to City Council. ATTY/RESO.0109/CC RESO WATER RATES - EXHIBIT A REV: 11-05-25 MI