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Article X, Section 2 of the State Constitution establishes the need to preserve the state's water supplies and to discourage the waste or unreasonable use of water by encouraging conservation. Public agencies are constitutionally mandated to maximize the beneficial use of water,prevent waste, and encourage conservation. In addition, Section 106 of the California Water Code declares that the highest priority use of water is for domestic purposes,with irrigation water secondary. To meet the objectives of Article X, Section 2 and the California Water Code,a water purveyor may utilize its water rate design to incentivize the efficient use of water.The City established tiered water rates(also known as "inclining tier"or"inclining block")water rates to incentivize customers to use water in an efficient manner. The inclining tier rates(as well as rates for uniform rate classes) need to be based on the proportionate costs incurred to provide water to, and within,each customer class to align with Proposition 218. Tiered water rate structures,when properly designed and differentiated by customer class,allow a water utility to send conservation price signals to customers while proportionately allocating the costs of service. Due to a necessity in reducing water waste and increasing efficiency,tiered water rates are ubiquitous,especially in relatively water-scarce regions like California. Tiered rates align with the requirements of Proposition 218 if the tiered rates reflect the proportionate cost of providing service within each tier. 1.6. Cost-Based Rate Setting Methodology To develop water rates that align with Proposition 218, meet industry standards,and accomplish the City's goals for the Study,Raftelis follows the four major steps discussed below. 1.6.1.REVENUE REQUIREMENT CALCULATION The first step in the rate-making process is to determine the adequate and appropriate level of funding for a given utility. This is referred to as determining the"revenue requirement" for the base year,which for this Study is FY 2024 and runs from July 1,2023 to June 30,2024.This analysis considers the short-term and long-term service objectives of the utility over a given planning horizon,including capital facilities,O&M,and financial reserve policies to determine the adequacy of a utility's existing rates to recover its costs. Several factors affect these projections, including the number of customers served,water use trends, non-recurring revenues,conservation,use restrictions,inflation,interest rates,capital financing needs, and other changes in operating and economic conditions,among others. 1.6.2.COST OF SERVICE ANALYSIS The annual cost of providing water service is distributed among customer classes commensurate with their service requirements.A COS analysis involves the following: 1. Categorize Costs into System Functions: Utilizing an agency's approved budget,financial reports, operating data,engineering data,and CIP,a rate study generally categorizes(i.e.,functionalizes)the operating and capital costs of the water system among major system functions. Examples of system functions include but are not limited to water supply,storage,treatment, pumping,and transmission and distribution. 2. Allocate Functionalized Costs to the Appropriate System Cost Components: Cost components represent the major pieces of a water system that the agency incurs specific costs related to, with one or more functions attributable to one or more system components. For example,distribution costs(system function) are allocated to base and maximum hour(cost components)since distribution lines are sized to accommodate maximum day(peak)demands. The City's water system cost components include 4 CITY OF PLEASANTON