4. Overview

4.1. Context of Proceeding from the OIR

It is helpful to repeat some of the context discussed in the OIR initiating this proceeding.

The OIR provided a sample set of rules for affiliate transactions (attached as Appendix A to the OIR) and a sample set of rules for the use of regulated assets and personnel for non-tariffed utility products and services (Appendix B to the OIR) to start the discussion. The OIR also asked a series of questions regarding issues that it stated may be addressed in the final rules.

Given the inconsistent and/or non-existent rules for water and sewer utilities, it is timely and appropriate to review, consolidate, and update the current rules in order to provide standard rules applicable to regulated water and sewer utilities, their provision of non-tariffed services, and their transactions with affiliated companies. We see great benefit in clarifying and standardizing the existing rules.

In the OIR, we identified the following issues to consider for affiliate transaction rules:

· The proper goals and objectives for affiliate transaction rules.

· Identification of all laws, policies, practices, rules, and procedures that presently govern transactions between regulated water and sewer utilities and their parent and affiliates.

· Whether and, if so, how, existing affiliate transaction rules for individual water utilities should be updated and/or revised for purposes of standardizing the rules.

· Whether any of the affiliate transaction rules applicable to large energy utilities should be included in affiliate transaction rules for water and sewer utilities.

· Development of a standard set of rules to govern the relationship between regulated water and sewer utilities and their parent and affiliates, if appropriate.

· Whether the affiliate transaction rules adopted in this proceeding should apply equally to all water and sewer utilities or should vary depending, e.g., on the size of the utility.

The rules we adopt in Appendix A respond to each of these issues.

4.2. Overview of Party Positions on Affiliate Transaction Rules

CWA contends that there is no factual basis establishing a need to impose "extensive, complex and burdensome affiliate transaction rules on water utilities."¹⁶ CWA argues that there is a "complete absence of facts"¹⁷ to justify the need for affiliate transaction rules similar to energy affiliate rules. CWA contrasts this to the Commission's decisions adopting energy affiliate transaction rules, whereby the Commission recounted specific problems and specific incidents among energy utilities and their affiliates.

CWA contends the draft affiliate transaction rules in the Workshop Report are unnecessary, inappropriate, unwarranted and unduly burdensome for water utilities, particularly for those smaller than Class A. CWA argues that the starting point for the Staff Proposed Rules should not be the affiliate transaction rules for energy utilities. It notes that gross revenues of the energy utilities are far larger than any water or sewer utility and argues, as a result, that the energy rules are inappropriate for water and sewer utilities.¹⁸ CWA also contends that the energy utility affiliate transaction rules were developed in light of competitive circumstances - such as energy utility affiliates competing with other energy utilities in California - which do not exist in the California water industry.¹⁹ In particular, CWA contends that the energy industry rules in D.97-12-088 were adopted in the context of restructuring of the energy industry in California, which included significant new competitive opportunities for energy utilities and new entrants.²⁰ On these bases, CWA proposes to delete a number of rules as set forth in the Workshop Report.

CFC objects to the proposed deletion by CWA of a number of the Staff Proposed Rules pertaining to the relationship between the utility and its various types of affiliates.²¹ CFC argues that these rules are consistent with previous rules adopted by the Commission and should be adopted for the purposes of this Rulemaking. For example, CFC points to D.04-01-051²² as the basis for rules in the water industry requiring safeguarding utility resources, separation of utility and affiliate resources, precise accounting for transactions, the requirement that a holding company fully fund the utility to maintain a reasonable capital structure, and access to affiliate books and records.

DRA is largely supportive of the Staff Proposed Rules. DRA contends that rules designed to prevent anti-competitive behavior are necessary even if some utilities are not engaged in providing products and services in competitive markets. DRA contends this may occur because it is still possible for affiliate operations to affect other competitive markets (or would-be competitive markets) by using the inherent advantages incumbent utilities have to offer a related product or service at lower costs than competitors can. DRA points to billing services, meter reading, customer service, and operations and maintenance of water and wastewater services as areas where competitive markets exist.²³

DRA agrees with CWA that there are significant differences between water and energy utilities. DRA asserts that it agreed in workshops to various revisions to the Staff Proposed Rules - such as with Staff Proposed Rule IV related to shared officers and services - in order to take such differences into account. However, DRA contends the need for energy affiliate transaction rules arose not out of energy restructuring, but in response to issues in the relationship between energy utilities and their parents or holding companies. DRA contends the same concerns apply in the water industry. Further, DRA points out that concerns about competition (in terms of protecting the ratepayer against cross-subsidization to unfairly benefit unregulated affiliates) were expressly mentioned in the OIR as a goal of this Rulemaking.

Several water utilities provided separate comments from CWA. In many cases, their positions are the same as or similar to those of CWA. In this section and throughout this decision, we reference specific water utility comments when they add meaningful contentions beyond those articulated by CWA.

Park Water is a regulated water utility in California, and is the parent company of Commission-regulated Apple Valley Ranchos Water Company (as well as the Montana-regulated Mountain Water Company). As both a regulated utility and the parent of a California regulated utility, Park Water contends that the rules should consider its unique corporate structure (and those of others). For example, Park Water provides a number of specific recommended edits to distinguish between "parent" and "holding company."²⁴

Cal Water references Commission decisions which provide different affiliate transaction rules for Cal Water as compared to other water utilities, and calls for uniform rules for all Class A water companies. Cal Water calls for affiliate rules to specifically allow the use of excess capacity accounting where a good or service is being provided to an affiliate consistent with the proposed rules. Cal Water views the prices of non-tariffed goods and services as regulated by the Commission, thereby allowing for their provision to any entity regardless of identity (i.e., affiliate or not). Regarding competition, Cal Water references Commission decisions (e.g., D.91-04-024) and case law and contends that they essentially hold that our policy should be to protect competition as a whole, not to protect every competitor. Absent evidence of the exercise of market power, Cal Water contends there is no basis for additional regulation over and above existing state and federal antitrust laws.

Cal-Am states that it receives essential services from its affiliates, including access to cost effective capital from American Water Capital Corp. and services it now receives on a shared basis from American Water Service Company. It states that both of these are not-for-profit organizations. Cal-Am argues that the affiliate transaction rules should not apply in cases of affiliates providing shared services operating to serve regulated companies on a not-for-profit basis, because the proposed rules would be incompatible with the provision of water utility service under its current structure and have adverse impacts on customer cost and service. Cal-Am contends that rules meant to prevent utility affiliates from leveraging utility assets in a competitive market are not applicable to not for profit affiliates. As an example, Cal-Am cites that it must routinely exchange proprietary and/or other non-public information in order to participate in American Water Capital Corp. and secure advantageous funding. Otherwise, Cal-Am claims it would need to secure its own financing and would have a lower credit rating.²⁵

SCE owns and operates a Class C water utility on Catalina Island. SCE argues that it should not be subject to the affiliate transaction rules because all of SCE's activities (including its water utility activities) are already subject to the affiliate transaction rules in D.06-12-029. SCE states that it is also subject to the Commission-approved Gross Revenue Sharing Mechanism in D.99-09-070. SCE argue that these rules should take precedence over the rules developed in this proceeding.

¹⁶ CWA May 7, 2010 Comments at 7.

¹⁷ Id.

¹⁸ In 2008, Cal Water, the largest water utility in California, had gross revenues of $390 million.

¹⁹ CWA Comments at 2.

²⁰ CWA Comments at 4.

²¹ CFC specifically objects to CWA's proposed deletion of proposed rules III.A, IV.A, IV.B, IV.C, VI, VII.A, VII.C and VII.B.

²² D.04-01-051 conditionally approved the transfer of indirect control of Valencia from Newhall Land and Farming Company to Lennar Corporation and LNR Property Corporation. Appendix B to that decision adopted affiliate transaction rules applicable to the transfer.

²³ DRA Comments at 1-2.

²⁴ Park Water Comments at 11-12.

²⁵ Cal-Am Comments at 8.