26 Sep 2011

Non-profit games

In Chapter 7 of my book, I wrote [p. 145]:
Good managers protect us from ourselves, but bad managers magnify waste and inequity. How can we tell good from bad? How can we tell if they serve the public or themselves? The main barrier is asymmetric information. Managers and politicians know their abilities and actions. They understand the mixture of skill, effort and luck that resulted in success or failure, but outsiders will never know the exact mix.
This paragraph refers to the Principal-Agent problem, i.e., we do not know if managers are serving customers or their own interests.

This problem is particularly acute in the utility sector where customers must buy from a local monopoly and it's difficult to measure performance efficiency.

Some people claim that mangers -- as public servants -- can be trusted; they also assume that "non-profit" status means that managers cannot personally benefit from exploiting customers, but plenty of evidence contradicts these hopeful thoughts:
  • In my PhD dissertation on the Metropolitan Water District of Southern California (MET), I measured "public mindedness" among MET managers, which was average. That means that managers are just as likely to put themselves first as you and me. The key is that they -- as our agents -- have the opportunity to do so.

  • How? The OC Register reports that 70% of the MET's staff make more than $100k per year -- 90% make more than I do! I've visited MET's very nice Los Angeles headquarters and can affirm that those workers are well compensated for their 9 - 4:30 efforts. Managers use MET's $2 billion budget to take care of water AND themselves. But remember kids, they do NOT make a "profit" :)

  • Speaking of MET, one of its member agencies, Central Basin MWD, spent customer money planting fake news stories extolling the virtues of CBMWD. Fleck details his involvement as a journalist and watcher of utility incompetence. Looks like CBMWD also has a little too much money to spend.*

  • In totally-related news, the San Diego County Water Authority (another member agency of MET) is -- again -- suing MET for charging "too much". In my dissertation, I explain how cross-subsidies unequally distribute costs and benefits among member agencies, even as MET "makes no profit."
Can for-profit, investor-owned utilities abuse customers in the same way? Sure, but they are watched much more carefully by regulators (MET is "self-regulated"). I am going to their annual conference next week, and I will ask more questions on IOU performance and transparency.

Bottom Line: Water monopolies CAN put customers first, but they do not automatically do so. That's why I want to increase competition and transparency in water utilities; they can deliver better customer service at the same time as they make "no profits."

* These problems are not limited to Southern California: Japan's TEPCO -- the local monopoly responsible for the Fukushima nuclear meltdown -- spends $340 million/year advertising its virtues and more on lobbying politicians, instead of just cleaning up its act.

H/Ts to CG, DL, AR and NT


Jay said...

Asymmetry of information may be the main factor, but I think the problem of concentrated benfits and diffuse costs must be a related and close second. As you have written elswhere, it is not rational for most people to make the effort to understand the finances and functions of a public utility because they will capture so little of the benefit of a more efficient organization.

You also write, "They (the managers) understand the mixture of skill, effort and luck that resulted in success or failure." I think this gives the managers too much credit. I have met many public servants who seem unaware of their relative skills and efforts (and knowledge) compared to their private sector counterparts. This may be because they live in, and have grown up in such a sheltered culture. Information is passed from one generation to the next often without examination or outside influence.

Jay said...

Profit is another word that we must think about carefully. To understand organizational, and managerial behavior we should not limit our definition of profit to the risidual remainder after costs are subtracted from revenues.

I expect that most sole proprieters may increase deductable costs above the bare minimum to operate the business when those costs benefit them in some way, rather than inflate the income reported for tax purposes on their Schedule C.

Also, managers in a corporation may include costs in benefits, facilities, or something else that will benefit themselves at the expense of stockholders of the company.

Competition is the countering force for sole proprieterships and corporations. Regulated monopolies have regulators, but many non-profits lack the disciplining forces.

ArrrrG! said...

So true. Some of the most profitable organizations that I've worked for were non-profits.

DW said...

FYI. In California private water companies are regulated by the CPUC, but not very effectively. The CPUC pays alot more attention to the energy IOUs than to the private water companies it's supposed to regulate.

AR said...

As always, I am compelled to add Cambria's experience to the mix. The local news did an "investigative report" on salaries for services districts in San Luis Obispo County. Cambria's GM at the time, Tammy Rudock, actually said the following on camera:

"Those of us who are in public service, we just come from a different group of people. We have servants' hearts, and this is what we feel we are good at doing, is being here to provide public service."

She was making $166,000 annual salary (with total compensation adding up to over $230,000) Watch the video and read the story (from 2010) here:


In April 2011, she finally made a mistake too big for the Board to ignore - she fired a very popular fire chief and cited "confidentiality issues" as the reason she would not explain her actions. She was fired two weeks to the day from firing Chief Miller. (If there was no succession plan in place and we didn't have the next GM "waiting in the wings" with the title of Utilities Manager - there may have been a different outcome.) Tammy's 5 year contract was set to expire June 30, 2012.

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