Introduction and Procedural History

Hillview is an investor-owned water company serving rural areas in and around the community of Oakhurst in Madera County with approximately 1,370 customers, and thus designated a Class C water utility. Hillview was first organized in 1961, and was incorporated in 1978, giving the company a separate corporate existence from its owners. Respondent Forrester is currently a 50.5% equity holder; his sister is the holder of the remaining 49.5% equity interest.

Forrester and his sister received ownership of the company in December 1981 from their father, Linton Forrester (Linton). At that time respondent Forrester, who had previously been a hospital administrator for 18 years, also assumed responsibility for managing the company. He testified that he has been president of the corporation since 1983, and that he had no training in managing a water company before he began managing Hillview. For some time, Judith Forrester (Judith), now his ex-wife, assisted with office responsibilities for the company.

In 1984, Hillview interconnected four of its service areas to create a single operating system. We also combined all of Hillview's districts for ratemaking purposes in that year. (Decision (D.) 84-11-089 (November 21, 1984).) Consequently, all of its accounts after that date reflect the system as a whole.

At some point in the early 1990s, Forrester began to experience domestic difficulties with Judith, ultimately resulting in the couple's divorce. (See Transcript (Tr.) 1055: 1-7.) The associated problems appear to account for a number of material bookkeeping omissions relating to a Safe Drinking Water Bond Act (SDWBA) loan, as well as the handling of a shareholder loan transaction discussed in detail below. These events contributed to our decision to institute this investigation.

Hillview did not utilize accounting or legal professionals in its operations until 1996. At that time, Hillview first engaged the services of Matt A. Peasley (Peasley), a Certified Public Accountant with small utility regulatory accounting experience, to perform a review of its 1994 and 1995 financial statements. Hillview has continued to retain Peasley to provide accounting services, and also utilizes regulatory legal counsel.

Starting in 1994, and continuing until 1996, irregularities in the company's regulatory compliance came to the attention of the Commission's Water Division (WD) through customer complaints. Following an audit and review of Hillview's operations, the WD asked the Commission's Consumer Services Division (Staff) to pursue formal enforcement action.² In response to Staff's request, we issued this OII to determine whether the respondents had violated Sections 491, 581, or 825 of the California Public Utilities Code,³ or Rule 1.

Staff alleges that Hillview and/or Forrester had, prior to the July 16, 1997, the date of the OII's issuance, committed the following acts contrary to these statutory and regulatory strictures:

1. Violated Commission orders on extension of service to new customers;

2. Submitted falsified contracts or information in response to a request from the Commission;

3. Required customers to pay unauthorized fees for the connection of service and in turn rebated amounts in contravention of tariff and service extension requirements to shopping center developers;

4. Diverted revenue collected expressly to repay a SDWBA loan from a special account, and applied the funds to other purposes, including personal business use by Forrester;

5. Submitted Advice Letter (AL) 53 for additional authority to expand facilities and increase indebtedness, and in it misstated the level of the special fund account due to diversion of funds in a manner prohibited by Commission rules or orders;

6. Overstated long-term debt and Hillview's plant account by showing loans secured by Forrester for personal business as utility purpose indebtedness and for expenditure on plant used by Hillview; and

7. Secured a personal loan of $350,000 from a developer, then asked the Commission for authority to repay it without acknowledging that the loan was used, or intended for use, for a personal or non-utility purpose.

The OII "initiate[d] an investigatory proceeding and place[d] the [r]espondents on notice" of the alleged violations, and contemplated that we would impose sanctions, order refunds, and establish a reduced revenue requirement and adjusted rates in the event that customers were overcharged because of the use of an excessive revenue requirement to set Hillview's rates. (OII, pp. 2, 4.) We directed Staff to serve a copy of its audit or investigatory report on the respondents and any other interested parties not later than 10 days before a prehearing conference (PHC), which we directed to be held before an administrative law judge (ALJ). (OII, p. 4.)

The OII noted that we were aware the California Department of Justice was concurrently investigating whether the same conduct alleged in the OII constituted possible criminal behavior. (OII, p. 2.) Before we issued the OII, the Attorney General had seized investigative materials from our San Francisco and Los Angeles offices for this purpose pursuant to a search warrant. The criminal investigation was in progress for more than two years, but was ultimately discontinued. While in progress, however, essential documents and records were effectively unavailable to the parties, and the ALJ held our investigation in abeyance after the respondents requested a stay until the documents were released.⁴

Staff issued the investigatory (or audit) report November 20, 1997.⁵ On December 4, 1997, the ALJ conducted the initial PHC, one of several concerning the resolution of the enforcement issues raised in the OII.⁶

The parties attempted to negotiate a resolution of the issues under investigation, and on April 17, 2001, Staff and the respondents jointly filed a motion asking us to adopt a settlement agreement to conclude this proceeding. In D.02-01-041 (January 9, 2002), we concluded that the proposed settlement did not satisfy our criteria for adoption, and encouraged the parties to renegotiate certain features to address our concerns. The parties were unable to do so, however, and the investigation progressed to a formal evidentiary hearing (EH) following discovery. In a Ruling issued September 10, 2002, the ALJ identified the issues summarized above as those on which he would receive evidence at the EH. He also rejected consideration of certain issues proposed by Staff that were beyond the scope of the OII, including those relating to events that allegedly occurred after the OII was issued.

A six-day EH began on October 21, 2002, and concluded on December 19. The parties filed briefs in accordance with a briefing schedule established at the conclusion of the EH, and the proceeding was submitted on January 31, 2003.