VI. Operating and Administrative Expenses
Unaccounted for water is the amount lost through operations and leakage and is calculated as the difference between the total amount of water produced and the total amount of water recorded for sales. DRA agrees with San Gabriel's proposed 6.2% unaccounted for water factor. It will be adopted.
San Gabriel seeks to develop a capability to supply reclaimed water to satisfy special needs of some customers. A San Gabriel witness described a series of communications between San Gabriel and the City regarding the possible purchase of recycled water from the City, but said the City failed to produce any definite information about the availability or price of recycled water. San Gabriel is very much interested in the City's still-pending Recycled Water Feasibility Study/Master Plan and will meet with City officials upon its completion.
The City took a different view of the recycled water issue. Its witness said San Gabriel has failed to propose a solution that helps reduce rates. The witness said the City generates over 11.5 million gallons per day (mgd) of wastewater and participates in a regional Recycled Water Master Plan to deliver recycled water to participating agencies. He said the City would like to enter into a recycled water agreement with San Gabriel but that San Gabriel has been unclear in its position to develop a suitable recycled water serving arrangement.
This issue generated much acrimony between the City and San Gabriel. The parties seemed to be talking past each other rather than with each other. Recycling wastewater is an important conservation measure.1 We remind the parties that the ALJ Division offers mediation services that may be useful in resolving these issues.
DRA reached an agreement with San Gabriel that San Gabriel's proposed $8,509,500 water costs (177.88/AF) forecast for TY 2006-2007 is reasonable. However, as DRA has recommended an adjustment to increase the company's projected sales to CSI by 650 AF, DRA has also increased the projected purchase water costs by $115,622 (650 AF x $177.88/AF) to $8,625,122.
San Gabriel contends that DRA's adjustment to water costs is inadequate, because DRA's higher cost estimate reflects only its forecast of higher sales to CSI and not its forecast of higher sales to Cemex, reflects only net sales rather than water production requirements (including the agreed upon 6.2% water loss factor), and is improperly based on average cost rather than incremental cost. If the Commission were to accept the higher estimates of sales to CSI and Cemex that DRA proposes, the increase in purchased water costs would be $209,102 rather than $115,622. Although these adjustments may affect purchased water costs, we disagree with San Gabriel about the need to adopt the higher estimate because actual purchased water costs go through a full cost balancing account.
DRA reached an agreement with San Gabriel that its proposed $4,795,500, or $0.094782 per kilowatt hour (kWh), forecast for TY 2006-2007 is reasonable. The actual purchased power costs go through a full cost balancing account.
San Gabriel estimates that its annual chemical expense will increase from the actual 2004 amount of $140,544 to TY 2006-2007 cost of $680,110, an increase of 384%. The forecasted increase is due to the resin replacement at Plant F17 beginning in 2005 and the projected additional cost beginning in 2007 for chemicals associated with the Sandhill treatment plant upgrade.
The treatment facility at Plant F17 is an ion exchange facility used for the removal of perchlorate. DRA concurs with San Gabriel on the amount for chemical costs for Plant F17.
For the Sandhill treatment plant upgrade, San Gabriel included projected chemical expenses for TY 2006-2007 based on 50% of projected 2006 expenses of $148,872 and 50% of the projected 2007 expenses of $404,107. San Gabriel based the projected 2007 increase on a comparison of the estimated chemical costs of operating the upgraded plant with the Cucamonga Valley Water District's costs of operating a similar water treatment plant.
In response to discovery by DRA, San Gabriel indicated that the projected in-service date for the Sandhill plant upgrade is not until August 2007 which is after the end of TY 2006-2007. Therefore, DRA recommends that the chemical costs for the Sandhill plant for TY 2006-2007 be based on San Gabriel's projected 2006 pre-update cost of $148,872, resulting in a $128,000 reduction to San Gabriel's proposed chemical expense.
We agree with both parties. We should avoid including an expense in the test year which will not be incurred in the test year. However, we should not deny the known expense in the escalation year. To resolve the issue, we will amortize the two years of the expenses over the three year period. Therefore, we will reduce San Gabriel's chemical expense by $42,700. ($128,000 ÷ 3 = $42,700 (rounded).) The reasonable expense is $637,410.
For the majority of the O&M expenses and Administrative & General expenses, other than payroll, San Gabriel forecasted expenses utilizing a five-year average of recorded data from 2000-2004, adjusted to 2004 dollars, and applied escalation factors in determining future amounts. In applying escalation factors for the test year and escalation years, San Gabriel utilized June 30, 2005 publications from the DRA Energy Cost of Service Branch (ECSB). DRA recommended that San Gabriel utilize the more recent ECSB memorandum, dated September 30, 2005 to update the inflation factors, and San Gabriel has agreed.
DRA did not take issue with the projected amount of materials and supplies expense included by San Gabriel, which was based on five-year average expense levels, escalated to test year dollars. Using the updated September 30, 2005 escalation factors, DRA's recommendations for materials and supplies expenses are: $142,300 for operations, $282,900 for maintenance and $40,300 for administrative and general expenses. These amounts are $1,500, $3,100, and $400 higher than San Gabriel's proposed amounts, respectively. San Gabriel does not object; DRA's recommendation is adopted.
San Gabriel's projected TY 2006-2007 O&M expenses include $628,306 for transportation expenses, which include a 1% escalation increase each year from 2005-2007 to adjust for the purchase of additional vehicles. After discussions with company employees, DRA says San Gabriel has not based the 1% on any calculations or studies. Thus, there is no support for the additional 1% increase factor. DRA recommends a TY 2006-2007 expense of $619,323, which is a reduction of $8,983, reflecting the removal of the additional 1% annual increases. DRA's recommendation is adopted.
In projecting TY 2006-2007 postage expense, the company applied non-labor escalation rates as well as the 5.4% postage rate increase. DRA agrees.
The maintenance expense element of outside services varies directly with the amount of physical plant. San Gabriel increased to $187,100 the recorded year 2004 maintenance expense amount to reflect both increases in plant and non-labor escalation rates. DRA recommended reducing maintenance expense by $9,900 to reflect DRA's proposed disallowance of new wells and emergency generators and DRA's application of more recent escalation factors. DRA also disagreed with San Gabriel's justification that the cost of maintaining mains, service connections, and hydrants will increase as the number of units of such plant increases; DRA estimated this cost based on a simple five-year average with no reflection of the increasing number of such facilities.
San Gabriel argues that maintenance expense necessarily varies with the volume of plant to be maintained. As quantities of plant increase over time, it is unrealistic to estimate future maintenance cost solely on a simple five-year average. We agree. As we are not disallowing new wells and generators, San Gabriel's estimate of this expense item is more reasonable than that of DRA, and is adopted.
San Gabriel estimated $287,795 in TY 2006-2007 for non-perchlorate related legal costs, based on a ten-year average expense level, inflated to 2004 dollars, then escalated to TY 2006-2007 utilizing the June 2005 escalation factors.
DRA reviewed the legal costs included in each of the 10 years included in the calculations and determined there was a significant impact from using early year expenses on the going-forward cost estimates. Analysis shows that the escalated cost for the two oldest years, 1995 and 1996, are significantly higher than any of the other years reflected. DRA recommends that non-perchlorate related legal costs be computed on a recent five-year average, inflated to 2004 dollars and escalated to the 2006-2007 test year level using the updated, September 30, 2005 escalation factors. This, it argues, is consistent with the five-year averaging methodology used for other accounts and removes the impact of abnormal cost levels. The result is DRA's recommended non-perchlorate related legal costs of $151,972, which is $135,824 less than the amount proposed by the company.
San Gabriel maintains that it requires outside counsel to assist in the assertion and protection of water rights, the pursuit of claims against those responsible for groundwater pollution and against governmental agencies for service duplication, defense against legal claims brought by others, and complex matters involving real property, easements, franchises, rights of way, company operations, and regulatory issues.
The president of the company testified that the variability of legal issues and of legal fees from year to year justifies San Gabriel's reliance on ten years' activity and legal expenditures, allowing a normalized projection of general legal expenses. He testified that in the first 11 months of 2005, the Fontana Division had incurred legal fees unrelated to groundwater contamination or this GRC that exceeds San Gabriel's test year estimate, and he expects the full-year cost for 2005 to be much higher than that estimate.
Outside legal expense is not as susceptible to forecasting as the more routine forecast of maintenance expense or payroll costs. Legal fees can come in chunks - high in one year, low in the next year. To provide for the possibility of high fees we will adopt San Gabriel's estimate, but to also provide for the possibility of average expense we will require San Gabriel to create a memorandum account to record outside legal expenses, capped at $287,795. Money not reasonably expended shall be returned to the ratepayers.
San Gabriel's witness testified that San Gabriel has spent considerable sums on legal representation to pursue its claims against groundwater polluters, including $939,000 in legal fees and expenses in 2003, $755,000 in 2004, and $558,000 in the first six months of 2005. He expects such legal fees to increase sharply due to complex litigation against polluters in the Fontana-Rialto area. San Gabriel has been a very active participant in the Inland Empire Perchlorate Task Force, which includes three other affected water purveyors in the Fontana, Rialto, and Colton area, state agencies, and specialized legal counsel, engineers, and consultants. He testified that much remains to be done to require the polluters to implement a clean-up of groundwater supplies contaminated with perchlorate. San Gabriel proposes to apply future recoveries in the WQMA and account for the investments as contributions for the benefit of ratepayers. Perchlorate related legal expenses are currently accounted for through the Water Quality Litigation Balancing Account and are not factored into base rates. DRA recommends that this methodology continue, and that amounts recorded in the Water Quality Litigation Balancing Account continue to be deferred until the outcome of the associated legal expenditures and litigation are known.
The methodology should continue but may be amortized in the next rate case.
San Gabriel's O&M expenses for TY 2006-2007 include $88,200 for Utilities and Rents, based on the actual 2004 amount, escalated to the test year level. Replacing the actual 2004 amount with the five-year average level (inflated to 2004 dollars) and escalated to TY 2006-2007 while using San Gabriel's proposed escalation factors results in a Utilities and Rents expense of $88,892. DRA's recommended amount for Utilities and Rents is $89,100. The difference between DRA's recommended amount and that proposed by San Gabriel is due to DRA's use of more recent escalation factors. San Gabriel agrees with DRA, as do we; it will be adopted.
San Gabriel's filing included payroll expense for TY 2006-2007 of $5,061,200. In projecting payroll expense, San Gabriel began with the actual employee monthly salaries as of June 1, 2005. It added all vacant positions as of that date as though they were completely filled and added proposed new employee positions. The resulting amounts were escalated to TY 2006-2007 by applying the June 1, 2005 ECSB Compensation per Hour Index; many positions were also increased by step increases.
DRA's recommended payroll expense for TY 2006-2007 is $4,516,000, a reduction of $545,200 from the company's filing. DRA made the following revisions to San Gabriel's calculations: (1) removed 11 vacant positions; (2) replaced the Compensation per Hour Index with ECSB's labor inflation rates published in September 2005; (3) removed the step increases; (4) replaced wages for newly filled positions with the actual salary amounts; (5) removed five of the 12 proposed new positions; and (6) removed four additional proposed new Water Treatment Operator IIIs and recommended advice letter recovery for these four new positions.
In D.05-07-044, issued in San Gabriel's Los Angeles County division GRC, the Commission adopted DRA's preference for ECSB's labor inflation rates rather than ECSB's Compensation per Hour Index to forecast in-house labor expense. In that light, San Gabriel has agreed to use the ECSB labor inflation rates, thereby reducing its proposed revenue requirement for TY 2006-2007 by about $94,800, while also agreeing to apply the September 2005 version of the ECSB escalation factors. Consequently, the proposed DRA disallowance is $450,000.
The payroll calculation used by San Gabriel in projecting the TY 2006-2007 payroll expense assumed that all existing vacant positions were filled. As of the date of the filing was prepared, San Gabriel had 13 vacant positions. As of November 14, 2005, 12 of the existing positions included in the filing were vacant. DRA recommends that the 12 positions that were vacant as of November 14, 2005 be removed in determining TY 2006-2007 payroll expense as it is normal to have some level of vacancies in any given period. In addition, for new employees that had been hired from the date of the company's filing through November 14, 2005, DRA replaced the projected salary included in the filing with the actual amount.
DRA's recommendation to remove the vacant positions is adopted. It is consistent with our decision in the recent Los Angeles Division rate case, D.05-07-044. In that decision, we did not include the vacant positions, indicating that adjustments should not be made for temporary vacancies absent a showing of extraordinary circumstances. The decision also indicated that most utilities will have vacancies and "to the extent there were vacancies in the recorded year, we should assume there will also be comparable vacancy savings in the test year and escalation years. (D.05-07-044 at p. 10.)
In addition to assuming that all vacant positions would be filled by the start of the test year, the company has also included costs associated with 12 new positions. The new positions, along with the projected hire by dates included in the filing, are as follows:
· Safety Specialist (July 2006);
· Customer Serviceman (January 2007);
· Meter Reader (January 2007);
· Water Treatment Supervisor (July 2006);
· Six Water Treatment Operator IIIs (July 2006);
· Plant Maintenance Man A (January 2007); and
· Water Treatment Operator (July 2006).
(Ex. 45, pp. 3-7; 3-8.)
DRA recommends that five of the proposed 12 new positions be removed, consisting of: two of the six proposed new Water Treatment Operator III positions; new meter reading position; new customer serviceman; and new Water Treatment Superintendent. For the remaining four Water Treatment Operator III positions that DRA recommends allowing, DRA recommends the associated costs be removed from the determination of the TY 2006-2007 costs and be allowed for recovery via advice letter after (and if) the Sandhill treatment plant upgrade is up and running and the positions are actually filled.
As of November 14, 2005, San Gabriel employed four Water Treatment Operator IIIs, plus it had two vacant Water Treatment Operator III positions. The California Department of Health Services (CDHS) requires the company to staff the Sandhill plant, after upgrades are complete, with two Water Treatment Operators with Grade III certification or above for 24 hours a day, seven days a week. The Sandhill plant currently is not staffed from 12:00 p.m., to 7:00 a.m., and on Saturdays and Sundays only one individual is employed for 8 hours each day. The Company explained that it needed the equivalent of 8.4 water treatment operators to maintain adequate staffing, in compliance with CDHS requirements on a "24/7" basis. To account for sick leave and vacation time, it requires ten operator positions for full staffing. DRA recommends that the costs associated with new Operator III positions be removed from base rates and recovered via advice letter after the Sandhill plant is in operation and the positions are actually filled. The Company has included these positions as though they were hired before July 2006, the start of TY 2006-2007. The company has indicated that the Sandhill plant upgrade will not be in service until August 2007, outside of TY 2006-2007. Consequently, DRA argues the associated payroll costs should not be included in the TY 2006-2007. San Gabriel responds that the new water treatment operators are absolutely essential, and must be hired before the upgrades are completed in order to undergo necessary training.
If the Sandhill plant is running by August 2007, it is necessary to employ, train, and qualify all the operators prior to start-up. That training is expected to take three to six months. We see no reason to require an advice letter filing to recover these costs, but because the new employees will be working less than half a year in the test year we will disallow one position. Five additional Water Treatment Operator IIIs will be authorized.
DRA would disallow one meter reader position, one customer service position, and one water treatment superintendent because labor cost escalation should cover the increased payroll costs. Customer service and needed supervision are day to day questions particularly within the relationship of the company to its customers. We are not in the business of micro-managing Class A water utilities. DRA's recommendation is rejected.
In addition to applying the ESCB's Compensation per Hour Index to the June 1, 2005 salaries, San Gabriel has included step increases for numerous positions. This results in a overstatement of labor expense. In the recent Los Angeles Division GRC (D.05-07-044 at p. 10.), the Commission determined that step increases should be removed. We will follow D.05-07-044 and eliminate step increases.
DRA reduced projected payroll expense for both existing and new employees by substituting ECSB's September 2005 Labor Inflation Rates for San Gabriel's use of ECSB's June 2005 Compensation per Hour Index. San Gabriel agreed to apply the more recent escalation factors, which we adopt.
San Gabriel proposed $828,000 for payroll expenses related to vacation, holiday, and sick leave. After applying DRA's recommended revisions, vacation, holiday, and sick leave expenses are reduced by $90,000. The company agrees with DRA that this cost element should be adjusted to match any disallowance of staffing increase. We will adjust this category to reflect our adopted revisions to payroll.
San Gabriel calculated $301,639 for 401(k) expenses for TY 2006-2007. The amount was calculated based on the estimated 2005 company contribution rate of 7.34%. DRA agrees San Gabriel's use of the 7.34% contribution factor is reasonable. We will change the escalation factor from the Compensation per Hour Index to the Labor Inflation Rate and recalculate the expense based on our adopted revisions to payroll.
For health insurance expenses, San Gabriel inflated the 2005 premiums by an assumed increase of 14.19%; and for dental insurance expenses by inflating the 2005 premiums by an assumed increase of 6%. DRA agrees with San Gabriel's forecasts and methodology. We will modify the health and dental insurance expense to reflect the impact of our revisions to payroll.
San Gabriel's projected TY 2006-2007 injuries and damages and property insurance expense is $626,600. This includes costs for an umbrella insurance policy covering general liability, automobile liability and property damages, and workers' compensation premiums. Of the total $626,600, $12,300 is for property insurance, $390,000 is for workers' compensation insurance, and the remainder is for liability.
San Gabriel's filing includes $236,600 for non-workers' compensation ($626,600 total amount - $390,000 for workers' compensation) related injuries and damage costs, consisting of business, property, and liability insurance. In determining the costs associated with the umbrella insurance policy covering general liability, automobile liability, and property damages, San Gabriel's TY 2006-2007 estimate was based on the actual 2005 invoiced amount, escalated by 10% for 2006 and 2007. The 10% escalation rate is consistent with insurance cost escalations DRA's consultants have seen in recent years, and DRA finds the factor to be reasonable. DRA accepts San Gabriel's projected insurance costs.
San Gabriel projects workers' compensation insurance premiums for its Fontana Division of $390,000 in TY 2006-2007, an amount which includes increases due to two factors: increased payroll and assumptions regarding its experience modification factor (Ex Mod).
The Ex Mod is a percentage factor applied to the determined premiums, which either raises or lowers the premium for individual companies. According to San Gabriel, its insurance broker calculated that San Gabriel's Ex Mod will increase from 83% to 92% effective July 1, 2005. This is an increase of 10.8%, which will increase the company's workers compensation insurance premium by the same percentage. In its calculations for the following plan year, the year beginning July 1, 2006, San Gabriel increased the Ex Mod factor to the full 100%. DRA claims that the 100% Ex Mod factor is inconsistent with actual experience for San Gabriel.
DRA recalculated the projected workers' compensation insurance expense. First, DRA replaced the company's projected percentage increase in overall costs with the overall percentage of payroll cost increase recommended by DRA based on its payroll adjustments previously discussed. Second, DRA removed the company's projected Ex Mod factor of 100%, to reinstate the most recent Ex Mod factor of 92%. The result is a recommended TY 2006-2007 workers' compensation insurance expense of $333, 600, which is $56,400 less than the amount proposed by San Gabriel.
Additionally, over each of the last three years, San Gabriel has received refunds of its workers compensation expense payments. These refunds have been flowed by San Gabriel to retained earnings and are not factored into the workers' compensation expense calculation. The annual refunds for each of the last three years for the Fontana Division were $1,754 in 2005, $51,150 in 2004 and $17,988 in 2003. As ratepayers pay the costs of workers' compensation insurance in rates, they should also receive the benefit of the refunds received by San Gabriel for such insurance costs. DRA recommends that the workers' compensation expense be offset by the three-year average of refunds received, or $24,000.
A San Gabriel witness testified that for seven of the past ten years San Gabriel's Ex Mod factor has exceeded 100%. Because a 100% factor represents the statewide, industry-specific average loss rate in a given year, using a 100% Ex Mod is equivalent to normalizing workers' compensation insurance expense - an appropriate approach for estimating test year costs.
We will modify San Gabriel's workers' compensation expense by adjusting for the payroll increase which we have adopted and by offsetting the expense by the three-year average of refunds received, $24,000. We will not adjust the Ex Mod factor as requested by DRA. For seven of the past ten years it has exceeded 100% for San Gabriel. Refunds should ameliorate the expense.
San Gabriel's filing includes TY 2006-2007 regulatory commission expenses of $191,400. Included is $187,333 for the amortization over three years of San Gabriel's projected $562,000 cost for this rate case. The $562,000 cost includes $390,000 for outside legal fees. DRA agrees with this expense and its amortization. It is adopted.
San Gabriel projects uncollectible expenses based on a five-year average uncollectible rate of 0.2850%. Considering the consistent annual decline in the uncollectible rate, DRA recommends the last two-year average be used in for determining uncollectible expense. DRA and San Gabriel have agreed to the use of a two-year average rate of 0.1951%. San Gabriel's originally proposed uncollectible expense was $123,600. DRA's recommended uncollectible expense, based on the DRA projected 2006-2007 revenues at present rates and DRA's proposed uncollectible factor of 0.1951%, is $85,800. DRA's recommendation is adopted, modified to reflect our projected revenue.
San Gabriel incorporated franchise fee expenses based on a five-year recorded average franchise fee rate of 0.8091%. DRA and San Gabriel have agreed that this rate is reasonable. It is adopted.
1 On October 2, 2006, San Gabriel mailed a letter to Commissioner Bohn informing him of a successful recycled water project in the company's Los Angeles County divisions. A copy of the letter has been placed in the correspondence file.
