Comments on Proposed Decision

The proposed decision of Administrative Law Judge Bennett in this matter was mailed to the parties in accordance with Pub. Util. Code § 311(d) and Rule 77.1 of the Rules of Practice and Procedure. Comments were filed on October 25, 2001 and reply comments were filed on October 30, 2001.

The comments of SCWC and Peerless assert that the merger will result in savings, not costs for ratepayers, and that the initial capital investment program is only $2.64 million, not the $11.5 million identified by SCWC engineers and cited in the proposed decision of the presiding officer. SCWC and Peerless further assert that a valuation of water rights at $3000 per AF is reasonable. In addition, SCWC and Peerless argue that as a matter of policy, the Commission should not exhort Peerless to "break apart its service territory." SCWC and Peerless conclude by urging the Commission to accept the January 26, 2001 ORA, SCWC, and Peerless merger settlement.

ORA asserts that the settlement is fair and reasonable because "Peerless has neither the financial nor the technical ability to make necessary improvements to its system." ORA concludes that the settlement is fair to consumers and that the acquisition of Peerless' water rights "would reduce the expense of purchasing water for customers in SCWC's Metropolitan District."

Bellflower, Lakewood, and Paramount jointly offered opening clarifying comments.

In reply comments, Paramount and Lakewood assert that the "cost saving projections are inherently speculative and insubstantial." Paramount and Lakewood point out that the $2.64 million initial capital investment program is part of an $11.5 million capital improvement program. They note that their "state of the art water systems" could serve those customers of Peerless within their cities with integration requiring only modest investments. Finally, they note that in contrast to speculative costs savings, rate increases are certain and large.

In reply comments, Bellflower points out that under the merger settlement, Peerless' customers are "guaranteed a minimum increase of 62% from existing rates by 2005." Bellflower notes that this increase results in large part from the large investment plan proposed by SCWC. Bellflower characterizes this plan as unnecessary, whether we consider the 5-year $2.64 million plan or the eventual $11.5 million plan. Similarly, Bellflower points out whether water rights are valued at $2700 per AF or $3000 per AF is not material to the reasonableness of the proposed merger plan and the resulting rate increases.

Finally, Bellflower argues the SCWC is simply wrong in its claim that denying the merger is bad public policy. Bellflower points out that despite the allegations of SCWC, the Bellflower-Somerset Mutual Water Company is substantially regulated by federal and state health agencies and by an elected board of directors.

We have weighed the comments of all parties carefully and have revised the decision at various points to insure its conformity with the record and facts of the case. Nevertheless, the central findings of the proposed decision remain unchanged. The findings stand because the merger and proposed investment plan result in an immediate $3.6 million or 857% increase in rate base, and $2.64 million in new investments over 5 years. This requires rate increases of 62% over the next five years. Subsequently, investments will rise another $8.9 million to a post-acquisition total of $11.5 million. With only 2000 customers, the per customer investment resulting from this merger and improvement plan is clearly excessive. The subsequent blending of this costly acquisition into the larger Metropolitan District serves only to disguise the fact that this acquisition plan has costs so high that operations are not sustainable without cross subsidies from other ratepayers. In this context, determining whether $2700 per AF or $3000 per AF is the appropriate assessment of water rights remains immaterial to our analysis of the merger. We conclude that approving this merger leads to unreasonable rates and investments, and is not in the public interest.

Findings of Fact

1. SCWC requests authority to acquire control and ownership of Peerless by a tax-exempt stock exchange for $4,039,851, which includes water rights, land, and infrastructure, less any amount of debt owed by Peerless to the owner, J. William Zastrow, on the closing date.

2. The water rights, valued in the merger agreement at $2,958,000, consist of 986 AF of allocated water pumping rights in the Central Basin in Los Angeles County, pursuant to the Judgment of Los Angeles Superior Court (Case No. 786656, dated October 11, 1965). These water rights are not currently in rate base.

3. The water rights are appraised for $2,700 per AF in December 1996. More recent transactions indicate that a value of $3,000 per AF is not unreasonable.

4. The land being sold is six parcels of real property, on which are located active wells. The total appraised value of these well sites is $226,380. The market value of this land exceeds Peerless' current book value of the parcels, which is $8,693.

5. The remaining assets include 13 wells, 83,670 linear feet of cement and welded steel mains, approximately 2,000 meters, and service connections. They had a net book value of $285,029 at year-end 1999 and a market value that exceeds the appraised value of $855,470. In addition, goodwill is appraised at $190,607.

6. Other major terms of the merger agreement are: $115,000 annual consultant fees to William Zastrow, Peerless' owner, for transition services, plus $75 per hour for any other work; purchase land personally owned by Zastrow for $104,000 not to be used in utility service; within five years perform specified improvements estimated at $2.64 million, with rates increased 10% per year to pay the return on rate base for these improvements; place Peerless on the higher tariff of Metropolitan District upon merger approval. Subsequently, another $8.9 million will raise total post merger investments to $11.5 million to serve only 2000 connections.

7. The Cities of Bellflower, Paramount and Lakewood filed protests to the application. They are ready, willing and able to provide service to the Peerless customers in their cities at rates lower than existing and proposed rates, including needed improvements.

8. The overwhelming majority of Peerless customers oppose the proposed merger.

9. ORA and applicants entered into a settlement agreement and filed a motion to approve it. The settlement agreement modifies the terms of the merger agreement to exclude goodwill, and to record water rights as intangible assets amortized over 40 years. They also agree that: Peerless' rates should be frozen at their current level through 2001; SCWC guarantees it will make specified improvements to Peerless' system over the next five years; SCWC should be allowed to request an increase in Peerless' rates for a maximum of 10% annually, provided scheduled improvements are completed; and Peerless customers will join SCWC's Metropolitan District in 2005, provided the specified improvements have been completed.

10. Bellflower, Paramount and Lakewood oppose the settlement agreement for the same reasons they protested the application.

11. The increase in rate base that would result from the proposed merger is 857%, which is significantly greater than the increases authorized in recent water merger cases.

12. The proposed merger would effectively place Peerless customers in the position of subsidizing water supply to SCWC's Metropolitan District for the years until Peerless is consolidated with the district.

13. Lakewood, Paramount, and Bellflower have demonstrated that the size of the proposed wells is inflated by at least 50%.

14. Peerless received reports from DHS in 1994 and 1999 that the system meets all state requirements for water supply and quality. Therefore, Peerless is not a system intended to qualify for special incentives to acquire.

Conclusions of Law

1. The fair market value of land, facilities, and water rights proposed by applicants approximates reproduction cost new less depreciation.

2. The proposed post-acquisition investment program leads to per connection investment levels that are unreasonable.

3. The proposed merger as proposed and as revised by the settlement agreement is unreasonable, not in the public interest, and contrary to existing law.

4. The proposed merger is injurious to Peerless customers.

5. The motion to approve the settlement agreement between applicants and ORA, which would authorize the proposed merger, should be denied.

6. This order should be made effective immediately, so that Peerless can promptly begin discussions regarding the ultimate disposition of its water system.

ORDER

IT IS ORDERED that:

1. The motion to approve a settlement agreement is denied.

2. The request to approve the proposed merger is denied.

3. This proceeding is closed.

This order is effective today.

Dated November 29, 2001, at San Francisco, California.

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