VII. PG&E's Petition to Modify D.02-10-062

On November 20, 2002, PG&E filed a petition for modification of D.02-10-062, accompanied by a motion to shorten time for responses. PG&E states that four modifications must be granted concurrently with the approval of its updated plan as it is concerned that it will be unable to perform to the standards proposed in the procurement plan. By ALJ ruling on November 22, the time for responses was shortened to December 3 and the time for PG&E to reply was shortened to December 6, 2002.

Several of the issues PG&E raises are also raised by the other respondent utilities in their updated plan, and some of these issues are also the subject of other petitions to modify. We will address the policy arguments here. The same issues are also before the Commission in several applications for rehearing on D.02-10-024, the legal merits of which will be addressed by the Commission in a later decision.

In its petition, PG&E requests that the Commission remove standards of conduct 4, 6, and 7 found in Section XI of D.02-10-062 at pages 49-51, substantially modify standard of conduct 2, and, further, that D.02-10-062 be modified to provide that Electrical Energy Transaction Administration (EETA) costs be established and approved in PG&E's pending general rate case. The EETA issue is handled in an earlier section of this decision. Following are standards of conduct 2, 4, 6, and 7.

"2. Each utility must adopt, actively monitor, and enforce compliance with a comprehensive code of conduct for all employees engaged in the procurement process and ensure all employees with knowledge of its procurement strategies sign and later abide by a noncompetitive agreement covering a one year period after leaving utility's employment.

"4. The utilities shall prudently administer all contracts and generation resources and dispatch the energy in a least-cost manner. Our definitions of prudent contract administration and least cost dispatch is the same as our existing standard.

"6. All contracts must contain substantially the following revision: "in the event of extraordinary circumstances, this contract shall be subject to such changes or modifications by the CPUC as the CPUC may direct.

"7. In order to exercise effective regulatory oversight of the behavior discussed above, all parties to a procurement contract must agree to give the Commission and its staff reasonable access to information within seven working days, unless otherwise practical, regarding compliance with these standards."

PG&E asserts that the standard #2 requirement that employees with knowledge of procurement strategies sign noncompetitive agreements covering a one year period after leaving the utility's employment: 1) may be interpreted as mandating unlawful restrictions on the employment mobility or competitive activities of former employees, in violation of Business and Professions Code § 16600; 2) places such employees on an unequal footing in relation to members of the Procurement Review Group who have equal access to sensitive information but need only sign confidentiality agreements; and 3) limits the utilities' ability to hire the best possible potential employees, who may not wish to constrain their future options by signing such restrictive agreements. PG&E requests that standard #2 be clarified and interpreted only to preclude misuse of trade secrets. PG&E claims it already has a rigorous policy of protecting its trade secrets and that this policy may be enforced longer that the one year period set forth in standard #2.²⁶

PG&E asserts that standard #4 above is based upon a misconception of Pub. Util. Code § 454.5(d)(3) - that pre-approved procurement transactions may be reviewed after the fact for "prudence" and "least cost." Further, according to PG&E, this standard exposes the utility to the unwarranted potential risk of disallowances which may endanger its restoration of an investment grade credit rating. It requests this standard be amended to read: "Compliance with an approved procurement plan shall constitute prudent contract administration and least cost dispatch. Additionally we may verify that each contract was administered in accordance with the terms of the contract, and contract disputes which may arise are reasonably resolved."

PG&E states standard #6 is commercially unfeasible because no major energy supplier will sign a contract with such a clause if at all, without imposing an unacceptable premium. PG&E takes a similar view toward standard #7, stating that this requirement would be unacceptable to many suppliers. PG&E requests both standards #6 and #7 be deleted.

In responses to PG&E's petition, the parties filing comments - California Wind Energy Association (CalWea), Center for Energy Efficiency and Renewable Technologies (CEERT), the California Power Authority (CPA), Consumers Union (CU), Independent Energy Producers (IEP), Sempra Energy Resources (SER), and TURN - all support elimination of standard #6. These parties generally acknowledge the validity of the Commission's concerns but argue that retention of the standard will harm ratepayers because suppliers require certainty in contracts in order to attract capital and make long-term decisions. Because suppliers appear unwilling to accept this provision, these parties contend that it may result in suppressing competition and increasing prices.

For similar reasons, CalWea, CEERT, IEP, and SER also support elimination of standard #7. Parties also state this requirement may require nonjurisdictional entities to give the Commission access to broad areas of information, some of which would be potentially privileged, competitively sensitive data. TURN proposes that the Commission address these concerns by clarifying that the requirement applies only to information demonstrating compliance with the approved behavior standards at the time of contract execution. TURN states that this condition appears limited and reasonable and alleviates the concern of merchant generators that at any time during the course of the contract they would be called upon to provide their latest forward price curves, internal financial statements or other proprietary data.

The only party commenting on PG&E's proposed modification to standard #2 is TURN. TURN supports PG&E's request, stating that extending employee agreements to prohibit certain employment opportunities would be counterproductive, legally problematic and could permanently cripple the pool of expertise available to California's utilities.

The only respondent to address standard #4 is TURN. TURN strongly objects to PG&E's request, stating that PG&E confuses the concept of pre-approval with the continuing obligation to prudently administer contracts consistent with the principles of least-cost dispatch. The practice of least-cost dispatch is critical and must be enforced with respect to every portion of a utility's portfolio. TURN states that PG&E's argument that the Commission does not retain any authority to review the operation and integration of various resources once contract prices and terms are pre-approved is dangerous because it suggests that the Commission has no recourse even if a utility mismanages its resources, drives up costs for ratepayers and rejects any coordinated utilization of various power contracts.

No comments were received supporting PG&E's proposed modification to standard #4. However, in their updated plans Edison, PG&E, and SDG&E each propose language or dollar limits that would substantially alter standard #4.

A. Discussion

In general, the arguments made in PG&E's petition and the responses to the petition are ones that the Commission fully considered in adopting D.02-10-062. PG&E provides additional support for its request to modify standard #2, however, and we do so below. We also remove language and limitations from the utilities procurement plans that are contrary to standard #4 and, at the utilities' request provide a specific definition of the terms least-cost dispatch and prudent contract administration. Because standard #6 is of strong concern to many parties, we modify the clause for the 2003 short-term procurement plans and commit to a full discussion and review of the standard in the long-term procurement phase.

Standard #4 provides for the utilities to prudently administer all contracts and generation resources and dispatch the energy in a least-cost manner. TURN clearly points out the dangers of this Commission agreeing to an interpretation of AB 57/SB 1976 that would remove our continuing oversight of utility operational performance and, thereby, remove the Commission's ability to meet its statutory requirement to assure "just and reasonable" rates.

The utilities have operated their systems under a prudent contract administration and least-cost dispatch standard for many decades and fully understand how to do this. We do not adopt PG&E's proposed standard for dispatch, but instead clarify our previously articulated up-front standard of least-cost dispatch. We believe that this up-front standard provides ample guidance to the utilities, while allowing the Commission to review plan compliance as AB 57/SB 1976 contemplates. We also clarify, to the extent that there was any doubt, that in determining whether utilities have dispatched resources in compliance with their plans' requirements, contract terms or prices will not be at issue.

To provide specific guidance in the procurement plans, we add to each utility's confidential appendix the following language:

"Prudent contract administration includes administration of all contracts within the terms and conditions of those contracts, to include dispatching dispatchable contracts when it is most economical to do so. In administering contracts, the utilities have the responsibility to dispose of economic long power and to purchase economic short power in a manner that minimizes ratepayer costs. Least-cost dispatch refers to a situation in which the most cost-effective mix of total resources is used, thereby minimizing the cost of delivering electric services. PG&E's description of least-cost economic dispatch methodology described in its 1992 "Resource: An encyclopedia of energy utility terms," 2d edition, at pages 152-3 is appropriate with the recognition that a pure economic dispatch of resources may need to be constrained to satisfy operational, physical, legal, regulatory, environmental, and safety considerations. The utility bears the burden of proving compliance with the standard set forth in its plan."

We also adopt a limit for potential disallowances. Although the historical disallowance exhibits prepared by each utility show prudent contract administration and least-cost dispatch were not the cause of significant penalties in the past and we do not expect them to be in the future, we believe that setting an upper limit on disallowances gives utilities and the investment community certainty in estimating the magnitude of potential financial risk, in order to support the utilities' quicker return to creditworthiness. PG&E, in comments associated with the DWR operating agreement draft decision, proposes an annual disallowance exposure of no more than the incremental administrative expense incurred to administer the DWR contracts. We find that this concept can be reasonably applied to the utilities' management of their own resources as well. In addition, we believe that the utilities' exposure should reflect some recognition of their duty to act on behalf of ratepayer interests. Therefore, we will set the maximum disallowance risk exposure at twice the utilities' annual procurement administrative expenditures.

Thus, we set each utility's maximum disallowance risk equal to two times their annual administrative expenses for all procurement functions, including those related to DWR contract administration, utility-retained generation, renewables, QFs, demand-side resources, and any other procurement resources. This limit supercedes, to the extent that it is not consistent with, any provisions of our operating agreement decision, also in this docket. The exact dollar amount for the maximum potential disallowance will be based on their procurement-related administrative expenses, as determined in each utility's general rate case.

Therefore, we do impose dollar limits that change standard #4 as described above. We do not, however, approve the portions of the utilities' procurement plans that change standard #4's requirements through changing our existing review standards or by shifting the burden of proof.

Turning to standard #6, the extraordinary circumstances contract clause. As we explained in D.02-10-024, the Commission intends to exercise this authority only under the most extraordinary circumstances; we would undertake this only after there has been a full opportunity for all affected parties to be heard.

Parties cite concern that with this clause suppliers cannot obtain the necessary long-term financing. This concern is premature as the contracts authorized under the interim procurement plans cannot exceed five years.²⁷ In the forthcoming long-term planning phase, the Commission will consider all options for new generation and this issue can be readdressed at that time.

CEERT in its response states that since RPS implementation will include defining standard terms, the Commission should not prejudge the issue by requiring standard #6, but rather should leave any final determination of contract terms until after that work has been completed, as the RPS process may result in better ways to offer the protection the Commission seeks through contract terms that will not chill renewable development in the first instance.²⁸

The Commission remains committed to retaining the regulatory oversight and jurisdiction necessary to ensure adequate and reliable utility service at just and reasonable rates. However, we recognize the utilities' need to begin procurement within less than two weeks and that they face a marketplace where suppliers are demanding we remove standard #6. Therefore, as an interim measure for the 2003 short-term procurement plans only, we lift the standard for transactions of less than one year and for those 12 months to 60 months, we substitute the following standard #6:

"For all contracts with terms between 12 and 60 months, all contracts must contain the following revision: "In the event of statutory or federal regulatory changes, this contract shall be subject to such changes or modifications as the CPUC may direct."

The concerns of parties regarding standard #7 are based on a misunderstanding of the requirement. We do not seek unlimited discovery but rather seek only information demonstrating compliance with the approved behavior standards at the time of contract execution.

We now turn to standard #2. Although PG&E somewhat overstates the limitations imposed by the Business and Professions Code, the utility does properly note California's laws and policies favoring employment mobility and restricting the options for employers to limit subsequent employment or competitive activities of former employees. The precise scope of employer options varies with the circumstances. For example, Business and Professions Code § 16601 makes enforceable reasonable noncompetition covenants executed by any shareholder of a corporation selling or otherwise disposing of all his or her shares in the corporation. Thus, where a business acquires business interests of individuals who subsequently work for the acquiring business, individuals who disposed of all their shares of the business may enter covenants not to compete with their new employer. Such covenants allow buyers to protect themselves against competition from the seller which would reduce the value of the property right that was acquired. (See, e.g., Hilb, Rogal and Hamilton Insurance Services of Orange County, Inc. v. Robb (1995) 33 Cal. App. 4^th 1812, 1824-1825.) Similarly, agreements restricting a former employee's employment by a competitor or solicitation of the former employer's customers may be appropriate where necessary to protect trade secrets. (See, e.g., Muggill v. Reuben H. Donnelly Corp. (1965) 62 Cal. 2d 239, 242; Metro Traffic Control, Inc. v. Shadow Traffic Network (1994) 22 Cal. App. 4^th 853, 859; and Morlife v. Perry (1997) 56 Cal. App. 4^th 1514.)

As a general rule, however, employers may not require employees to sign agreements precluding their subsequent employment by a competitor, or their own independent competitive efforts. (See, e.g., D'sa v. Playhut, Inc. (2002) 85 Cal. App. 4th 927; and Metro Traffic Control, Inc., supra, 22 Cal. App. 4^th at 859.) Laws prohibiting misappropriation of trade secrets and similar abusive conduct are intended to limit the danger of the misuse of information by former employees. (See, e.g., Schlage Lock Company v. Whyte (2002) 101 Cal. App. 4^th 1443.) There is "a delicate balance between promoting unfettered competition and protecting businesses from unfair conduct." (Morlife v. Perry, supra, 56 Cal. App. 4^th at 1519, citing Continental Car-Na-Var Corp. v. Moseley (1944) 24 Cal. 2d 104.) Employer options are currently under consideration by the California Supreme Court, which recently granted review in Advanced Bionics Corporation v. Medtronics, Inc. (2001) 87 Cal. App.4^th 1235 (petition for review granted June 13, 2001: 2001 Daily Journal DAR 6021; 2001 Cal. LEXIS 3764); and Walia v. Aetna, Incorporated (2001) 93 Cal. App.4^th 1213, not citable, (petition for review granted February 27, 2002: 2002 Daily Journal DAR 2332, 2002 Cal. LEXIS 1306).

Rather than require utilities to dance through the minefield of permissible restrictions on subsequent employment or competition, we will modify standard #2 to more closely focus on the primary concern underlying that standard: our desire to ensure that former employees do not misuse confidential trade secrets and other information acquired during employment with the utility to the utility's subsequent detriment. Standard #2 will now read as follows:

"2. Each utility must adopt, actively monitor, and enforce compliance with a comprehensive code of conduct for all employees engaged in the procurement process that: 1) identifies trade secrets and other confidential information; 2) specifies procedures for ensuring that such information retains its trade secret and/or confidential status [e.g., limiting access to such information to individuals with a need to know, limiting locations at which such information may be accessed, etc.]; 3) discusses employee actions that may inadvertently waive or jeopardize trade secret and other privileges; 4) discusses employee or former employee activities that may involve misappropriation of trade secrets or other confidential information, unlawful solicitation of former clients or customers of the utility, or otherwise constitute unlawful conduct; 5) requires or encourages negotiation of covenants not to compete to the extent such covenants are lawful under the circumstances [e.g., where a business acquires business interests of individuals who subsequently work for the acquiring business, the individuals disposing of their business interests may enter covenants not to compete with their new employer.] All employees with knowledge of its procurement strategies should be required to sign and abide by an agreement to comply with the comprehensive code of conduct and to refrain from disclosing, misappropriating, or utilizing the utility's trade secrets and other confidential information during or subsequent to their employment by the utility."