V. Settlement Overview

The parties' proposed settlement is set forth in Attachments A and B to this decision. These documents, as well as the Joint Comparison Exhibit, Hearing Exhibit No. 25, set forth the original areas of major disagreement and the resolution of these issues. In reviewing the settlement of these major issues, we organize our discussion according to the three major components of cost-based ratemaking: net operating income, rate base, and rate of return.

A. Net Operating Income

Net operating income is gross operating revenue less operating and maintenance expenses, depreciation, income taxes, and other operating taxes. For each of the districts, the parties agreed on the net operating income for test years 2003 and 2004, as set forth in Table 2. More detailed information is provided in Attachment D: Appendix A (Summary of Earnings & Rates of Return). The following were the disputed major issues in calculating net operating income.

Table 2

Settlement Provisions for Net Operating Income

(Thousands of $)

District/TY	ORA	Settlement	CWS
Dominguez:
2003	4,114.6	4,257.5	5,234.2
2004	4,037.6	4,339.8	5,255.8
Oroville:
2003	439.3	466.3	568.1
2004	435.9	467.1	617.8
Palos Verdes:
2003	2,010.7	2,139.1	2,452.6
2004	1,991.7	2,156.0	3,022.5
Selma:
2003	417.6	454.5	504.0
2004	425.4	472.0	635.3

1. Service Connections

Many of the differences between CWS and ORA resulted from different periods of record with ORA having more recent information since its testimony had been prepared later. Projected customer growth is an example of this type of disagreement. The parties resolved most of these "period of record" differences by agreeing to use ORA's data. See Attachment D: Appendices B-E (Adopted Quantities).

2. Water Sales

CWS and ORA originally used different methodology to forecast water sales. Despite these different approaches, the parties worked together to correct erroneous data and consider specific developments in each district to reach agreements on projected water sales in all four districts. See Attachment D: Appendices B-E (Adopted Quantities).

3. Dominguez Water Supply

As discussed later in this decision, Part V(B)(3), CWS has identified five capital projects for the Dominguez District for consideration by advice letter. Two of these projects involve new wells; the other three projects involve water treatment activities at existing wells so as to allow CWS to again use these sources of water.

Once these projects are constructed, they will change both the mix of water sources and the cost of water for the district. Until the projects are constructed, however, the parties agreed that the existing 2003 production mix should be used in 2004 for cost-of-water calculations.

When any of these new or treated wells are put into service, the parties agreed that the advice letter for that project request a change in expenses due to the new aggregate pumping capacity of wells in the system. This change will be based on increased pumping cost, decreased purchased water, and decreased credit for leases of water rights.

4. Operating, Maintenance, Administrative & General Expenses

Once again, many of the differences in the parties' positions concerning these expenses resulted from using different periods of record, and these problems were resolved by using more recent information. Another area of disagreement concerned rent for the Dominguez District office. As a result of the 2000 merger between the CWS Group and the Dominguez Services Corporation, CWS transferred property no longer used in Dominguez operations (Relinquished Properties) with an affiliate which, in turn, exchanged the property with a third party for the construction of a "build-to-suit" office center apparently now rented by CWS. The question is the amount of rent to be paid for the new offices.

To resolve this issue for purposes of this proceeding, the parties agreed that the Dominguez ratepayers should continue to pay the revenue requirement associated with Dominguez's pre-merger headquarters. CWS will report the sales of Relinquished Properties pursuant to D.03-09-021 for a Commission determination of whether the ratepayers share in the sales proceedings. The results of the Commission's decision will be factored into the next Dominguez general rate case.

5. General Office Expenses

The Commission's recent decision (D.03-09-021) addressed CWS's general office expenses and related issues. In this settlement, the parties agreed on how to resolve some of the residual issues. Also, other general office issues were resolved by agreeing to use ORA's more recent financial information. Some of the general office issues included the following:

e. Positions authorized in D.03-09-021. The parties agreed that, for any position authorized in D.03-09-021 and filled during 2002, the base payroll would be annualized. For authorized positions not filled at the time of the settlement, they will be shown as additions to 2004.

f. Manager and analyst positions. The parties agreed that expenses for the following positions, filled during 2002, would be annualized in the base 2002 payroll: QA Manager, DBA Manager, Operations Manager, and Financial Reporting Analyst.

g. Financial analyst. The parties agreed to allocate 90% of the financial analyst's cost to the general office.

h. LIMS administrator. The parties agreed to allocate 75% of the LIMS administrator's cost to the general office.

i. Main-flushing program. The parties agreed to the cost of establishing a 5-person main-flushing team during 2004 to undertake a proactive main line flushing program to maintain water quality, especially when the composition of water varies due to changing sources.

j. Additional payroll. The parties agreed on an additional $125,000 for payroll during 2004 to be used for personnel best meeting CWS's needs in fulfilling its obligations to its customers.

k. Savings from previously approved projects. After initial disagreement, the parties eventually agreed on savings or reductions in general office payroll to offset any rate increase due to the completion of a series of previously approved general office projects (7270, 7873, 7519, 7553, and 7556). The total of these reductions is $100,600, to be deducted from the 2004 general office payroll.

l. Water quality services. Due to accounting changes, the parties agreed that 2002 was the only year that could be used to estimate unregulated credits for water quality services for test years 2003 and 2004.

m. Regulatory expenses. The parties agreed to use $191,000 (2002) as the base for regulatory commission expenses; this figure escalates for inflation in the test years.

n. Insurance. The parties agreed to a correction concerning merger-related savings in property insurance.

6. General Office Allocation

The parties initially disagreed about the allocation of general office expenses and rate base to the Dominguez District. Subsequent to the filings in this proceeding, the Commission adopted D.03-10-005 (CWS/Antelope Valley & Kern River Valley Districts) approving a modified four-factor analysis for allocating general office expenses in other CWS districts. D.03-10-005 approved the allocation of general office expenses to the districts involved in this proceeding as follows: Dominguez (9.85%), Palos Verdes (7.06%), Oroville (1.15%), and Selma (1.11%). The parties agreed, that to be consistent with D.03-10-005, they would use the same method, which results in a 9.85% allocation of general office expenses to the Dominguez District. See also ¶ 4.0, Addendum to Settlement ¶ 4.0, Attachment B.

B. Rate Base

1. General Office Rate Base

CWS had sought $7.2 million for general office capital budget improvements during 2003 (including some deferrals from 2002). ORA had countered with a recommendation of $3.9 million. Because the settlement was reached so late in 2003, the parties agreed to capital expenditures of $4.5 million for that year ($2.7 million of which had been expended on capital projects through August). The parties also agreed on general office capital budget improvements during 2004 of $4,966,000 (including $1.3 million for the PeopleSoft CIS project 9561).

The parties also agreed to use the same allocation formula discussed in Part V(A)(6), above, for allocation general office rate base among the four districts involved in this proceeding.

2. District Rate Base

The parties disagreed about certain capital expenses, especially those involving the preparation of water supply and facilities master plans (WSMP) for each of the four districts. The parties agreed that WSMP are more critical for some districts than others and that some of the plans can be prepared by CWS's in-house personnel. Specifically, the parties agreed on the recovery of costs for the preparation of the Dominguez WSMP. CWS, however, will prepare in-house WSMPs for Selma and Oroville without adding to the cost to the test year budgets.

ORA had initially opposed several capital projects in the Selma District, some of which were built during 2002. After receiving additional information during the negotiations, ORA agreed to the recovery of expenditures for water mains (Project 7011; a 2003 project; capped at $290,000), meter replacement, 12" main replacement (completed in 2002), and an additional main replacement (Project 7045; a 2004 project of $69,000).

The parties also agreed that certain capital improvements ($50,000 for each district) in the Dominguez and Palos Verdes Districts are necessary as the result of vulnerability assessments conducted pursuant to the Public Health Security and Bioterrorism Preparedness and Response Act of 2002. Vulnerability assessments have not been completed for Selma and Orville, and capital projects associated with those reviews will be considered in a future general rate case.

3. Capital Projects Deferred to Advice Letter Filings

CWS and ORA agreed that because of engineering and cost uncertainties for other capital projects, it is appropriate to authorize 15 of them now but defer decisions about cost-recovery to advice letter filings. These 15 projects are described in sections 2.40 to 2.48 of the Settlement, Attachment A; and they are summarized in Table 3.

Table 3

Advice Letter Projects

Project	Description	Estimated Cost
Dominguez:
New well at Station 203	Drill, develop, and equip a new well to enable district to better utilize its groundwater rights in the central and west basins. Project includes well drilling, pumps, structures, electrical, and water treatment equipment. Pumped water will reduce cost to ratepayers.	$725,000, minus cost savings due to the change from purchased water to groundwater pumping.
New well on a new site	Acquire land, drill, develop, and equip a new well to enable district to better utilize its groundwater rights in the central and west basins. Project includes land acquisition, well drilling, pumps, structures, electrical, and water treatment equipment.	$1,025,000, minus cost savings due to the change from purchased water to groundwater pumping.
Treatment at Station 279-01 (Project 7801)	Study and implement water treatment at this station. Historical water quality data have shown relatively high iron and color concentrations in the water. Successful treatment will enable district to better utilize its groundwater rights.	$330,000, minus cost savings due to the change from purchased water to groundwater.
Treatment at Station 294-01 (Project 7801)	Study and implement water treatment at this station. Historical water quality data have shown relatively high iron and color concentrations in the water. Successful treatment will enable district to better utilize its groundwater rights.	$330,000, minus cost savings due to the change from purchased water to groundwater.
Treatment at Station 298-01 (Project 7803)	Study and implement water treatment at this station. Historical water quality data have shown relatively high iron and color concentrations in the water. Successful treatment will enable district to better utilize its groundwater rights.	$330,000, minus cost savings due to the change from purchased water to groundwater.
Oroville:
Treatment Plant Enhancements	Study and implement water treatment to remove or deactivate cryptosporidium at district surface water treatment plant. Also, install backup generator.	$712,400 for the study, treatment equipment, and backup generator.
Palos Verde:s
Phase 1 reliability project	Project to provide second source of storage and new pumps and water mains for district. This phase consists of design and construction of 14,100 feet of 24" pipeline to connect to the D-500 zone.	$2,700,000 estimate in planning study.
Phase 2 reliability project	Project to provide second source of storage and new pumps and water mains for district. This phase consists of design and construction of 15,500 feet of 27" pipeline and 4,300 feet of 24" pipeline to the Crenshaw Reservoir and from there to Crest Road.	$3,400,000 estimate in planning study.
Phase 3 reliability project	Project to provide second source of storage and new pumps and water mains for district. This phase consists of design and construction of Crenshaw Storage Reservoir, a four million gallon facility.	$4,700,000 estimate in planning study.
Phase 4 reliability project	Construct Crenshaw booster station, a major booster station at the Crenshaw tank site.	$3,000,000 estimate in planning study.
SCADA remote station replacement program	Replace ten remote terminal units over next two years. The existing units require phone connections and the phone company lacks the expertise to maintain connections to this type of equipment. The replacement units are wireless and programmable.	$200,000
Digital mapping conversion (Project 2353)	Contract to convert the district's hand-prepared maps into a digital format. Initially budgeted at $196,000, this project has already been completed at a reduced cost.	$157,400
Selma:
Main replacement	Replace 3,900 feet of a 6" backyard main with a larger 8" main in the street. Replacement main is needed because of access problems and the need for more flow.	$277,000 plus a 5% contingency. The advice letter would be capped at $290,000.
Pumped storage facility	Design and construct a ground-level tank with booster pumps to improve fire flow and peak hour capacity. Also install a backup generator.	$962,500 for the tank, booster, and generator.
Well and backup generator	Construct a groundwater well with a backup generator to improve water supply. Project includes land acquisition, well drilling, pumps, structures, electrical, and water treatment equipment.	$792,000.

At the request of the ALJ, CWS provided a supplemental exhibit following the evidentiary hearing setting forth more detailed information on the description, rationale, feasibility, and projected cost of these 15 projects. See Hearing Exhibit No. 36. All of these projects are to improve reliability and service, improve water quality, make repairs or replacements, or otherwise improve water management and service within existing water system boundaries.

Five projects, totaling an estimated $2,740,000, are proposed for the Dominguez District. Two of these projects involve new wells to allow the district to better utilize its existing groundwater rights that, in turn, will lower costs to ratepayers and enhance water supply reliability. The remaining three projects are water treatment investigations and treatment, likely by a wellhead facility, of existing poor quality wells. The ability to use water from these wells will also lower costs and improve reliability.

One project, estimated at $745,000, is planned for Oroville where the concern is water quality and reliability. CWS plans to study and install equipment to remove or deactivate cryptosporidium in the district's surface water sources. The project includes the cost of a back-up generator at the treatment plant for use in the case of outages.

Palos Verdes has six planned projects, totaling an estimated $14 million. Four of these involve a phased reliability project to construct an additional transmission pipeline and storage facility. This project will provide a second source of storage and a second main transmission line-both of which will provide more flexibility and reliability in the event of a disruption. The remaining projects, both minor, involve the replacement of difficult-to-maintain remote sensing units and the conversion of district maps into a digital format.

CWS proposed three projects for Selma totaling $2,031,500. The largest of these is the construction of the district's first pumped storage facility. This will allow the company to meet peak flow demands, including fire emergencies, without bringing additional wells on-line. A second project is a new well plus associated pumping and electrical equipment to address increased supply in the district. The third project involves the relocation and replacement of 3,900 feet of water mains. The project will provide easier access for maintenance and repair, as the existing main is located in a backyard utility easement. More flow capacity will be provided through a larger pipe.

The parties agreed that advice letter processing would be appropriate for these projects because they are larger than typical repair and maintenance activities and involve uncertainty over cost or timing. As a result of that uncertainty, advice letter processing protects the company and its ratepayers from inaccurate cost or schedule predictions. The scope of each project, the estimated cost, and the cost cap on each project are sufficiently described to allow the Water Division to review these projects by advice letter

C. Rate of Return

In its applications, CWS asked for rates of return of 9.36% (2003), 9.33% (2004), 9.34% (2005), and 9.38% (2006). After adjustment, ORA recommended rates of 8.17% (2003), 8.15% (2004), 8.15% (2005), and 8.15% (2006). The parties agreed on 8.6% for all years 2003 through 2006. The parties' agreed rate of return is reasonable based on recent Commission experience.

The settlement also recognizes that, as a result of the merger between CWS and the Dominguez Water Company, the cost of capital for the Dominguez District has been lowered by 1.53% (including taxes). See discussion at Part VI(B), infra.

D. Revenue Requirement

Table 4 compares applicant's and ORA's initial positions on revenue requirement increases for test years 2003 and 2004 and attrition years 2005 and 2006 with what they propose in the settlements.

Table 4

Revenue Requirement Increases

($ thousands)

District/Year	Utility Requested		ORA Recommended		Settlement/ Adopted
	$	%	$	%	$	%
Dominguez:
2003	4,632.0	17.23	1,270.2	4.33	2,541.1	9.09
2004	-686.4	-2.18	-1,122.2	-3.65	231.6	0.75
2005 AY	81.0	0.3	n/c	n/c	230.6	0.7
2006 AY	82.3	0.3	n/c	n/c	230.6	0.7
Oroville :
2003	411.4	16.78	-132.6	-5.31	-154.4	-6.12
2004	217.7	7.59	18.3	0.77	49.1	2.07
2005 AY	81.0	2.6	n/c	n/c	41.3	1.7
2006 AY	82.3	2.6	n/c	n/c	41.3	1.7
Palos Verdes:
2003	2,833.7	12.12	583.6	2.41	1,179.9	5.04
2004	1,066.9	4.04	35.8	0.14	97.3	0.39
2005 AY	81.0	0.3	n/c	n/c	92.8	0.4
2006 AY	82.3	0.3	n/c	n/c	92.8	0.4
Selma:
2003	259.8	12.22	-109.8	-4.88	6.4	0.28
2004	243.8	10.16	32.0	1.49	26.4	1.15
2005 AY	81.0	3.1	n/c	n/c	18.4	0.8
2006 AY	82.3	3.0	n/c	n/c	18.4	0.8
AY=Attrition year; n/c=Not calculated

Applicant and ORA propose that the Commission adopt their agreement on each of the district's revenue requirements based on the calculations set forth in their Joint Comparison Exhibit, Hearing Exhibit No. 25: Tables A-1 to D-4. See also Attachment D: Appendix A (Summary of Earnings & Rates of Return).

E. Attrition

The parties agreed that the Commission should authorize step and attrition increases for the four districts in this proceeding using a "recorded earnings" methodology set forth in paragraph 3.0 of their Addendum to Settlement, Attachment B. The parties agreed that the Commission should make these attrition adjustments based on recorded earnings for the latest 12-month period ending September 30^th of each year. A table of weather coefficients, used in the attrition calculations, is set forth as Attachment C: Table F.

The parties further agreed that, in accordance with Commission policy, should CWS's earnings, based on the "recorded earnings" methodology, exceed its authorized return, the requested step or attrition increase will be reduced to offset the earnings in excess of CWS's authorized return in this proceeding or in any other future CWS proceeding, whichever is lower.