12. Applicants' Discounted Cash Flow Analysis

12.1. San Jose

San Jose used a single stage constant growth discounted cash flow model because its witness believed it to be the most widely used method, and San Jose is not a company transitioning between stages. San Jose notes we should not rely on a single financial model because each has weaknesses and in particular the discounted cash flow model is susceptible to distortion when book value and market value differ. (San Jose Opening Brief at 13-16.)

12.2. Valencia

Valencia argues that the Discounted Cash Flow model "requires estimates of growth that investors expect in the future, rather than past estimates of growth that already has occurred" and therefore its witness Bourassa "relied on analysts forecasts of growth and gave no weight to historical measures of growth," and that it is "logical to presume that financial institutions and analysts have taken into account all relevant historical information on a company, so that analysts' forecasts will incorporate useful indications of future growth indicated by past results." (Valencia Opening Brief at 8.) Valencia therefore argues the Discounted Cash Flow model for its proxy group of six publicly traded water utilities results in a range from 10.8% to 13.3%, with a midpoint of 12.0%. (Ex. VWC-11 at 43 and Tables 10-12.) Valencia disputes DRA's position that analysts' results are overly optimistic and argues instead that investors rely on analysts' forecasts and therefore they should be included on our determination of a reasonable return. (Valencia Opening Brief at 10.)

12.3. Park/Apple

Park/Apple calculated a Discounted Cash Flow range of 13.0% to 14.30% after adding a 90 basis point premium for risk. (Park Opening Brief at 11.) Thus its modeling actually yields a range of 12.1% to 13.4%, still substantially higher than DRA's calculation or any recently adopted return on equity for a California Class A water utility.

As discussed elsewhere, we find each of the Applicants' determinations of risk premiums to be unpersuasive. Thus, looking only at the company's own data inputs for Discounted Cash Flow, the unadjusted Park/Apple return range would be 12.10% to 13.40%. This forecast is higher than DRA's in part because of the company's use of an arithmetic annual average for past growth whereas DRA used geometric annual averages which Park/Apple argues biases the forecast downwards. The company also argues that DRA under-weighted the value of analysts' forecasts (down from 50% to 20%) again resulting in a downward bias. (Park Opening Brief at 11-13.)

After making the above and various other adjustments to DRA's analysis, Park/Apple calculated a "corrected" DRA Discounted Cash Flow forecast of 11.7%. (Park Opening Brief at 16 citing Ex. PWAV-3 Rebuttal Table 3.) Park/Apple would add its 90 point risk premium to this "corrected" DRA forecast resulting in a 12.6% return on equity which is still below its own modeling results plus premium.

12.4. San Gabriel

For San Gabriel, Dr. Zepp generated Discounted Cash Flow return on equity estimates for his proxy group of 13.3% to 13.4%. (Ex. SG-1 at 17.) Dr. Zepp also appeared on behalf of Park/Apple and offered similar testimony for both companies, with some distinctions.

12.5. Suburban

Suburban acknowledges that it, as well as DRA, used the constant growth form of the Discounted Cash Flow model, but points to several examples where it believes that DRA's witness Dr. Woolridge was using data and assumptions which biased his results downwards. (Suburban Opening Brief at 5-6.) Instead, Suburban's modeling resulted in a return of 11.15% (id. at 10).