VI. Ratesetting

A. Developer Contributions

Del Oro has stated that it will pay a total of $165,000 for the Mt. Lassen water system, even though the developer is estimated to have spent approximately $2,537,500 to construct the water system.⁹ Therefore, the developer is contributing $2,372,500 of plant. Contributions are recorded in Account 271 - Contributions in Aid of Construction (CIAC).¹⁰ Dollars recorded in this account do not earn a return, since the utility did not expend the funds.

The difference of $2,372,500 should therefore be recorded in Account 271-Contributions in Aid of Construction, in order to properly record the value of the plant contributed by the developer.

B. Results of Operations and Rate Design

In addition to its request for a CPCN, Del Oro also seeks authority to establish the initial authorized rates for the utility as well as a hook-up fee when a meter is requested. Del Oro has requested that a stand-by rate of $35.67 per month be charged to each lot owner and a flat stand-by rate of $30.46 per month be charged to the developer for each unsold lot, for the first 60 months.¹¹ If lots remain unsold after 60 months, the developer will pay $35.67 per month for each unsold lot.

Once the lots owners request service, Del Oro request that the future customer pay a $750 hook-up fee and pay a monthly flat service fee of $32.88 and $0.96/100 cubic feet of water use.

The utility provided proposed results of operations for the years 2007 through 2012, but since it plans to file a general rate case in 2010 and year 2007 is already past, we will only authorize rates for the period from 2008 through 2010. Because the Commission's policy is for all water service to be metered,¹² we will require that Del Oro file for a general rate case in 2010 for a 2011 test year. This rate request shall be for metered rates.

1. Expenses

Del Oro utilized the results of operations from its Johnson Park and Walnut Ranch districts to estimate the expenses that will be incurred by the new district, as shown in Table 1. Johnson Park was used because it is the nearest Del Oro district to the Mt. Lassen district (58 miles away with 320 customers) and Walnut Ranch was used because it is similar in size to what Mt. Lassen will eventually be (78 customers).

Since there is no existing water distribution system at the Mt. Lassen Subdivision area, a proxy is necessary to estimate applicable costs. Given Johnson Park's proximity to the Mt. Lassen system, Walnut Ranch's similar size, and both districts being part of Del Oro's operations already, these districts are suitable financial data surrogates from which to estimate rates for the Mt. Lassen water system.

Table 1

Del Oro Requested Results of Operations

2. Revenues

Del Oro determined revenues by multiplying the total number of customers of 132 by the total rate of $35.67 and an estimated Consumer Price Index (CPI) rate. This results in requested revenue amounts of $57,914 in 2008, $59,362 in 2009, and $64,405 in 2010, as shown in Table 1. This request, though, is not in compliance with Del Oro's own Purchase Price Terms and Conditions (purchase agreement), which requires Emmerson to pay $30.46 for all unsold lots for the first 60 months (base fee plus 50% of the profit portion), not the full rate of $35.67. ¹³ When gross revenues are calculated based on the purchase agreement, revenues would be $48,874 in 2008, $49,624 in 2009, and $50,749 in 2010, as shown in Table 2.

Table 2

Results of Operations Based on Purchase Agreement

3. Rate Base and Rate of Return

Del Oro based its calculation of the rates of return (ROR) of 7.44%, 7.65% and 10.11% for 2008 - 2010, respectively, by dividing its requested net revenue by its estimated cost of the system of $165,000 (rate base in this case), as shown in Table 1.

Per Del Oro's purchase agreement with Emmerson, it will pay for the system in increments of $1,250 per lot as lots are sold. ¹⁴ Since Del Oro estimates that only 10 lots would be sold in 2008, 22 in 2009, and 40 in 2010, the average rate base figures should be $12,500 in 2008, $20,000 in 2009, and $38,750 in 2010, as shown in Table 2. Based on these rate base figures, as well as the revised gross revenue figures discussed in Section 2, both of which are adjusted to conform with the purchase agreement, the revised RORs would be 61.44%, 34.69%, and 16.20% in 2008-2010, as shown in Table 2.

The ROR's requested by Del Oro are much lower than DWA recommends for a Class D water utility (average 13.25%), and those based on the revised figure per the Purchase Agreement are much higher and vary dramatically over the first three years of operation. ¹⁵

4. Meter Hook-Up Fee

Del Oro has proposed a meter hook-up fee of $750, payable when a meter is requested. This request was not included in the application, but was brought to light as part of a data response.¹⁶ To a subsequent data request, Del Oro responded that authorization of the hook-up fee is being requested in the current case.¹⁷ In that same response, Del Oro states that the hook-up fee represents the cost of a meter ($85), the installation cost of the meter of $150, and "will help the utility service the customers until everyone is on line and using water." No further support for the $750 request was provided.

C. Discussion

1. Flat Stand-by Rate Monthly Charge

Pub. Util. Code 727.5(b) states, in part, that "The commission shall consider, and may authorize, a water corporation to assess a fee for future water service, or a reservation charge for future water service, for persons or entities occupying or owning property within the service territory of the water corporation." Therefore, it is reasonable for Del Oro to charge a stand-by fee to owners of lots who have not initiated actual water service yet.

The Commission agrees that use of recent expense data from Del Oro's Johnson Park and Walnut Ranch districts is appropriate to estimate the initial expenses that will be incurred in the Mt. Lassen district, except for taxes, which the utility did not include in its estimates. For purposes of the current case, we have determined income taxes based on the estimated gross revenues discussed below.

Revenues must be sufficient to cover operating expenses, taxes, depreciation, and a reasonable return on investment.¹⁸ Normally, estimated revenues are not based on the rates being charged, as is proposed by Del Oro, but on the expenses and profit portion referenced above.

Del Oro's requested Gross Revenues and rate base are not based on the terms of the purchase agreement, and taxes were not considered in the calculation. The requested rate base should not be used in the results of operations or the determination of a reasonable rate of return for the years under consideration, because Del Oro has not paid the $165,000 yet. However, when using more appropriate estimates based on the terms of the purchase agreement, there is still no consideration for taxes and the resulting percentage RORs vary dramatically over the first three years of operation, as shown in Table 2.

Even though Del Oro has already entered into this purchase agreement and agreed to its terms, the Commission is not bound by these terms in the determination and authorization of reasonable rates to be charged to the customers of the Mt. Lassen system and the amount of profit to be earned by Del Oro. The Commission is responsible for regulating utilities and determining rates and policies based on its own independent analysis. ¹⁹

The estimated expenses are reasonable, when applicable income taxes are included. What is left to determine is a reasonable return on the utility's investment and the resulting gross revenues. Since Del Oro will not pay the total $165,000 for the system for many years to come, it is not be appropriate to use that figure to determine the rate base and resulting ROR earned by Del Oro. It would also not be reasonable to use the rate base figures that comply with the purchase agreement, given how much the resulting percentage ROR and net income varies from year to year. DWA recommends that Del Oro should earn a Rate of Margin (ROM) of 23%, which approximates the ROM recommended in DWA's March 2008 memorandum.²⁰ Use of an ROM is an authorized alternative for Class C and D water utilities.²¹ The ROM of 23% equates, in this case, to a net income of $8,210 in 2008, $8,427 in 2009, and $8,651 in 2010. This provides a reasonable and consistent level of profit that does not vary materially from year to year over the first three years of operations.

The monthly per customer flat rates that result from use of the ROM are $32.87, $34.02, and $35.34, respectively, for the years 2008-2010. Since there is no consideration for attrition years in the current case, it is reasonable to authorize Del Oro to charge the highest year rate of $35.34 per month, to account for any increases that may occur over the three year period. This rate is applicable to both sold and un-sold lots. The level of profit based on these rates is reasonable and remains constant. These rates are reasonable for all customers and the results are shown in Table 3.

In order to have the opportunity to earn the ROM authorized in the current case and recover its expenses, we authorize Del Oro to charge the monthly stand-by rate of $35.34 to both third party lot owners as well as the developer.²²

Once residential customers are metered, Del Oro has proposed that customers be charged a quantity rate of $0.96/100 cubic feet of usage and a service charge of $32.88. The quantity rate proposed by Del Oro for the Mt. Lassen system is less than the average charged in Del Oro's other metered districts, of 1.73/100 cubic feet.²³ The proposed service charge is similar to those charged in the Country Estates ($29.09) and Strawberry ($39.53) districts of Del Oro. Based on the reasonableness of these rates when compared with other existing Del Oro district rates, it is therefore reasonable for Del Oro to charge a quantity rate of $0.96/100 cubic feet and a monthly service charge $32.88, once residential customers are metered.

2. Hook-Up Fee

Del Oro has requested a meter hook-up fee of $750, based on the cost of the meter and its installation ($235) and to help Del Oro service its customers, until all 132 customer are receiving water. General Order 103, Section VI.1.d states that a utility may charge a new customer for the cost of the meter and the cost of installation, but nothing more. This is reiterated in §525 of the California Water Code (Water Code). ²⁴ These regulations supply no support for providing any more funds to the utility to provide service to the customers beyond what is supported by the results of operations and flat monthly rates determined above. Also, as we stated earlier, the Commission is not bound by the terms of the purchase agreement.

Based on the General Order and Water Code, we cannot authorize a $750 hook-up fee in the current case. We are able to authorize a meter hook-up fee based on the cost of the meter and installation only of $235, which is supported by both Commission General Orders and the California Water Code.

Table 3

Authorized Results of Operations

D. Metering

Section 525 of the Water Code requires all new construction to use water meters unless the utility serves fewer than 15 service connections used by yearlong residents or regularly serves fewer than 25 year-long residents. ²⁵ Del Oro estimates that it will not serve sufficient customers to require meters until 2010 (10 customers in 2008, 22 customers in 2009, and 40 customers in 2010). Per its application, Del Oro plans to begin installing meters in 2009. Therefore, based on the proposed number of customers and scheduled meter installation, Del Oro will be in compliance with the above referenced Water Code.

⁹ Responses to Data Request A0801019-001, dated March 21 and 24, 2008.

¹⁰ In part, Account 271 states "All non-refundable contributions of cash, land, or other property received by the utility in connection with the construction or extension of its water system."

¹¹ Residential Customer Rate = $35.67 = $25.25 + 10.42: Developer Rate = $30.46 = $25.25 + (50% $10.42) = $25.25 + $5.21.

¹² CPUC Water Action Plan, December 2005, p.7: ftp://ftp.cpuc.ca.gov/PUC/hottopics/3water/water_action_plan_final_12_27_05.pdf .

¹³ In response to Data Request A0801019-001 (03/21/08 & 03/24/08), Question 2, Del Oro provided Exhibit A-3 - Purchase Price Terms and Conditions. In particular, Item 1.3 states "The Profit Component added to the Base Monthly Fee would be $10.42 per parcel per month applying only to the third party purchases; fifty percent (50%) of that number would be added to the Seller's unsold inventory monthly per lot Flat Rate Standby Charge."

¹⁴ In response to Data Request A0801019-001 (03/21/08 & 03/24/08), Question 2, Del Oro provided Exhibit A-3 - Purchase Price Terms and Conditions. In particular, Item 1.1 states "The purchase price of $165,000 for the 132 lot subdivision will be advanced by Buyer at the rate of $1,250 per connection at such time as a third party purchase commences payment of the established Flat Rate Standby Charge for the specific parcel."

¹⁵ DWA Memorandum entitled Rates of Return and Rates of Margin for Class C and D Water Utilities, dated March 10, 2008.

¹⁶ In response to Data Request A0801019-001 (03/21/08 & 03/24/08), Question 2, Del Oro provided Exhibit A-3 - Purchase Price Terms and Conditions. In particular, Item 1.6 states "There will be a hook-up fee of $750 per lot payable when a meter is requested to be set."

¹⁷ Response to Data Request A0801019-005 (05/06/08).

¹⁸ Standard Practice U-46-W.

¹⁹ Pub.Util. Code §701- "The commission may supervise and regulate every public utility in the State and may do all things, whether specifically designated in this part or in addition thereto, which are necessary and convenient in the exercise of such power and jurisdiction." Also see Pub.Util. Code § 216, 241, and 2701, as well as Article XII, Sections 3 and 5 of the California Constitution.

²⁰ DWA Memorandum titled Rates of Return and Rates of Margin for Class C and D Water Utilities, dated March 10, 2008.

²¹ D.93-03-093.

²² Until such time as the lots are sold, the developer is the owner of the lot and therefore responsible for water service.

²³ Del Oro's metered districts include Country Estates, Ferndale, Johnson Park, Lime Saddle, Magalia, Paradise Pines, River Island, Strawberry, and Stirling Bluffs.

²⁴ 525. (a) Notwithstanding any other provision of law, every water purveyor who sells, leases, rents, furnishes, or delivers water service to any person shall require, as a condition of new water service on and after January 1, 1992, that a suitable water meter to measure the water service shall be installed on the water service facilities in accordance with this chapter. The cost of installation of the meter shall be paid by the user of the water, and any water purveyor may impose and collect charges for those costs. (b) Subdivision (a) applies only to potable water. (c) Subdivision (a) does not apply to a community water system which serves fewer than 15 service connections used by yearlong residents or regularly serves fewer than 25 yearlong residents, or a single well that services the water supply of a single-family residential home.

²⁵ Ibid.