An enterprise fund is a proprietary fund used to report an activity for which a fee is charged to external users for goods or services. Water and sewer utilities owned by cities and districts are the standard example.
When one is required
Governmental accounting standards require enterprise fund reporting when any one of three conditions holds: the activity is financed with debt secured solely by a pledge of the activity’s own net revenues; laws or regulations require that the activity’s costs, including capital costs, be recovered from fees and charges; or the pricing policy establishes fees designed to recover those costs.
The first condition is the one that matters most in a rate study, because it is also the condition that produces a rate covenant.
Why it is the unit a rate study works in
An enterprise fund reports on the full accrual basis, with depreciation and long-term debt on its own statement of net position. That means the audited statements already carry most of what a revenue requirement is built from: operating expense by function, debt service, capital assets and their accumulated depreciation, and the fund’s own net position.
It also means transfers between the utility and the general fund are visible. A payment in lieu of taxes, an administrative charge from the city to the utility, or a transfer out to the general fund is a real cost the rates are recovering, and a study that does not state it is understating the revenue requirement or overstating what the operating cost is.
Sources
Governmental Accounting Standards Board, Statement No. 34, Basic Financial Statements and Management’s Discussion and Analysis for State and Local Governments (1999), on the required use of enterprise funds and the three criteria.