6. Adopted Plan for Going Forward
6.1. General Framework for Formulating a Plan
We hereby adopt a plan for implementation in Phase II(a)(2) of this proceeding to facilitate the logistics and to provide guidance on the negotiating parameters to effect contract revisions to remove DWR from its obligations as supplier of power. In the assigned Commissioner's and ALJ's Ruling dated April 18, 2008, a preliminary procedural plan was adopted for Phase II(a)(2). We elaborate on that plan in prescribing the next steps in this proceeding. We also consider parties suggestions for how to design and coordinate the process.
DWR has expressed its view that it is up to the Commission and the IOUs to take the lead in transferring the legal and financial responsibility for DWR's contracts to the IOUs.33 SCE recommends that DWR work with the Energy Division, the IOUs and interested non-market participants to develop a comprehensive plan for novation/assignment/renegotiation of contracts with a preliminary effort to determine if all of the sellers are willing to novate their contracts without material modification. SCE recommends provisions be adopted for periodic feedback during negotiations so that the Commission can make ongoing assessments of the advisability of continuing to support further efforts, or of making mid-course corrections if negotiations prove easier or more problematic than expected.
Reliant proposes that in any plan for pursuing negotiations, DWR should set as a priority to focus immediately on negotiations with those four counterparties whose contracts lack novation clauses. TURN points more specifically to the Sempra contract as the logical beginning point for prioritizing contracts to be renegotiated. The Sempra contract represents the single largest capacity resource of any DWR contract. TURN argues that it will be extremely difficult for DWR to transfer the Sempra contract to any of the IOUs, noting that renegotiation of the contract's original terms has not been achieved over the last several years, and that the contract has spawned multiple arbitrations and lawsuits that still continue. DRA likewise argues that given that the Commission has sought relief from this same contract for years in federal litigation, negotiations over contract novation would likely take substantial time, even if the material terms are not modified.
CFC likewise argues that, in view of the considerable funds that Sempra has already spent to avoid a change in its contract with DWR, Sempra is unlikely to agree easily to changes in the DWR contract as a result of further negotiations pursuant to this proceeding.
6.2. Formation of Working Group
We hereby authorize the formation of a Working Group as a vehicle for DWR, the IOUs, and Commission staff to plan and implement detailed protocols and strategies for conducting negotiations with the counterparties to the DWR contracts with the goal of removing DWR as a party to the contracts while ensuring that any resulting contract changes are not detrimental to ratepayers.
The assigned Commissioner will issue a procedural ruling to initiate the formation, organization, and operation of this Working Group. That ruling will address the applicable procedural processes, such as the vehicle(s) for communication among members of the Working Group, confidentiality protocols, and initiating mid-course adjustments as negotiations progress. As part of this process, a team coordinator will be designated to facilitate the formulation and implementation of Working Group goals. We expect all Working Group members to work in a collaborative manner to build consensus on a strategic plan for developing and conducting contract negotiations
As directed by the assigned Commissioner, the Working Group will be required to comply with reporting requirements, providing frequent updates on the progress of contract negotiations. Based on those progress reports, the assigned Commissioner will provide periodic guidance to the Working Group on whether to redirect priorities or to revise strategies for conducting further negotiations.
We shall generally delegate to the Working Group the specific administrative processes to carry out its work. We shall, however, adopt certain general guiding principles to govern the strategic plan for negotiations to be developed and implemented by the Working Group.
6.3. Setting Priorities and Contingencies
As a guiding framework for the Working Group's development of a plan, we shall establish certain priorities and contingencies for the focus of negotiations. We establish initial target priorities both in terms of (1) an end date to complete the removal of DWR from its role as supplier of power, and (2) the sequence in which the contract negotiations should be conducted.
As to the appropriate target for an end date, we recognize that there is a trade-off between the magnitude of expected customer benefits and the risks of achieving those benefits. The range of possible outcomes is a function of several assumptions, including whether novation or renegotiation of all outstanding DWR contracts is assumed or only some subset thereof. Another relevant assumption affecting the potential benefits is whether the goal is to target only those outstanding DWR contracts expiring after a designated date in the future. The number of contracts requiring novation or renegotiation could be reduced simply by limiting efforts only on contracts that expire after a selected time. In that way, any remaining implementation difficulties involved in negotiation of certain problematic contracts may be reduced or avoided entirely. On the other hand, waiting until certain contracts expire would reduce the expected ratepayer savings from novation, and would also impact the earliest date that Direct Access could possibly be reinstituted.
A threshold question, therefore, is whether to set as a goal the successful novation or renegotiation of all remaining DWR contracts in effect as of a certain date, or only of a subset of contracts. The related risks of not succeeding are also greater, resulting in the expenditure of efforts and resources that might ultimately not result in any net benefits to customers.
We shall adopt an approach which is aimed at maximizing the potential for ratepayer benefits while mitigating the potential for downside risk. Thus, we shall adopt as our initial target goal the removal of DWR from all of its outstanding contracts by January 1, 2010. The targeting of this date will maximize the potential benefits that may be realized by customers, as discussed previously in Section 4. The Working Group will be responsible for proceeding with contract negotiations with the goal of removing DWR from all of its remaining contract obligations by January 1, 2010.
The Working Group shall develop more specific priorities for scheduling the contracts to be negotiated in order to meet the January 1, 2010 goal. We do not expect, however, that negotiations of all contracts necessarily must be completed on the same exact date.
We recognize that by setting a goal of January 1, 2010, the risks of delay and of additional costs are also higher than if a later date were set. To mitigate such risks, we shall adopt measures for the Working Group to prioritize its activities, with contingency plans for mid-course adjustments depending on the course of negotiations. As a result, the target date for completion, and the specific contracts to be renegotiated may be subject to revision depending upon the course of negotiations
In Phase II(a)(2), a process will be established for periodic progress reports on negotiation efforts by the Working Group and for assessing the prospects for agreement on acceptable new contracts. We support continued negotiations as long as the prospects for success justify continued efforts. On the other hand, if the contract negotiations prove unfruitful or are not in ratepayers' interests, the Working Group will be instructed to discontinue such attempts, and to redirect priorities. The role of the Working Group is to develop protocols and strategies to be applied in the negotiation of replacement contracts. The working group, itself, will not be involved in all of the specific contract negotiations. Each IOU (along with DWR) will responsible for the negotiation of replacement agreements only for those specific DWR contracts that have been allocated to that respective IOU.
We decline to adopt the proposal of the "California Peakers," for DWR to file a public solicitation inviting each supplier under a DWR contract voluntarily to submit a confidential offer of a replacement contract. Under this proposal, the working group would have 60 days within which to determine if such an offer was acceptable, and if so, to direct the successor IOU to enter into negotiations to finalize the new contract for Commission approval pursuant to the "just and reasonable" determinations of Section 451.
We find the California Peakers' proposal unacceptable for a variety of reasons. First, the proposal is untimely since it was not presented during the workshop/comment phase of this proceeding. The proposed 60-day window is also unsupported, and will not necessarily provide adequate time for the review and consideration of contract offers. The proposal is also one-sided in its unequal treatment of generators versus utilities in terms of negotiating flexibility. The proposal also inappropriately assigns contract negotiating authority to the working group instead of to the utility that will take over the contract. While we do not approve the California Peakers' proposal for a mandatory solicitation and other requirements for the working group, we invite DWR suppliers to voluntarily submit proposals for replacement contracts, if they so choose.
Although certain parties want more specific requirements to be imposed now governing the reporting process by the working group, we will consider more specific requirements as a priority in Phase II (a)(2) after opportunity for input from all parties. Specific procedures will be adopted in Phase II (a)(2) as to the timing, frequency, and contents of the working group's periodic reports of its progress in negotiating replacement agreements. The assigned Commissioner shall provide further guidance on this process in Phase II(a)(2) of this proceeding. In this manner, our goal is to curtail unproductive negotiation efforts before they result in the expenditure of unnecessary costs or time.
Consistent with the recommendation of various parties, we set as an initial priority the goal of negotiating replacement agreements for the existing contracts without novation clauses. For these four DWR contracts, the goal will be to negotiate provisions to remove DWR and substitute one of the IOUs for subsequent power purchased from the respective supplier.
Of the four contracts without novation clauses, the first priority shall be to focus on the Sempra contract. As second in priority, we set the goal of negotiating to replace the existing Coral contract. Prioritizing these two contracts is appropriate, particularly given the uncertainties as to whether a successful revised Sempra or Coral contract can be negotiated, the potential time required for negotiations, and the magnitude of benefits to ratepayers that depend upon the successful negotiation of these contracts.
Certain parties argue that, in order to conclude contract negotiations most expeditiously, replacement contracts for the remaining 22 DWR contracts should be negotiated on a parallel track with the four contracts lacking novation clauses. We decline to modify the sequence of priorities for conducting contract negotiations. We conclude that focusing first priority on the four contracts without novation clauses will offer the most efficient results. Prioritization, however, does not rule out the possibility of overlap in time lines where negotiations may begin on certain contracts before others have been entirely finalized. Moreover, the sequencing of negotiations should take into account any interrelationships that may exist among the contracts. More specific timing and sequencing issues shall be address in Phase II (a)(2).
As discussed in further detail below, the Commission is still involved in litigation as to whether the terms and prices of the existing Sempra and Coral contracts are "just and reasonable." In authorizing a process to facilitate negotiations for replacement contracts with Sempra and Coral to which DWR will not be a party, the pending litigation over the existing contracts may have a bearing on negotiations for a new replacement contract. We do not prejudge at this time how negotiations for a replacement contract should be conducted, however, or whether the negotiated terms of the new contract would be found "just and reasonable" under Section 451. We observe, however, that the setting in which any replacement contract would be negotiated and reviewed would be in reference to the conditions, including market conditions, at the time of negotiation, and based on expectations of market conditions in effect during the period that such replacement contract would be in effect. In that regard, the setting for the negotiation and Commission review of any new replacement contract would be separate and distinct from the historic market conditions applicable to any pending litigation over the existing contracts.
The Coral contract currently has provisions stating that it cannot be transferred unless all other contracts have been transferred.34 The contract permits assignment or transfer only if the transaction is "in connection with DWR's transfer of title to the bond, the Fund, and all power purchase agreements" into which it entered pursuant to AB 1X. Thus, in order to prioritize transferring the Coral contract, the negotiations will need to consider seeking agreement on revisions in this contract limitation.35
While our goal is to maximize the potential for successful outcomes, it is prudent to provide contingency plans in the event that Sempra and/or Coral negotiations ultimately prove unproductive. After a reasonable period of time, to be determined in the next phase of this proceeding, if parties do not make reasonable progress toward negotiating new contracts with Sempra and/or Coral, the assigned Commissioner may direct the Working Group to discontinue such negotiations, and redirect priorities to negotiations of other DWR contracts.
If negotiations for new contracts with Sempra and/or Coral were not successful, their existing contracts would continue in effect until they expire. It would then become necessary to revise the target date for completing negotiation of the remaining DWR contracts. We would then consider revising the target date to October 1, 2011, the expiration date of the Sempra contract, with negotiations focused on DWR contracts that expire after that date. Moreover, it would still benefit ratepayers to novate and replace as many of the other DWR contracts as possible, even those expiring before the Sempra and Coral contracts, assuming net savings would result.
Based on the net benefits that parties have estimated, we conclude that continued efforts to implement novation or renegotiation of the remaining contracts would still be justified. For example, the IOUs estimate that while net savings would decline if the Sempra contract is not terminated early, net savings of $56 million could still be realized, assuming novation or renegotiation of only those DWR contracts expiring after September 30, 2011, the Sempra contract expiration date.
Even if the Sempra contract negotiations were discontinued, renegotiation of the Coral contract should continue to be pursued. Assuming that negotiations with Coral were also subsequently unsuccessful, however, we would further revise the target completion date to June 30, 2012, the expiration date of the Coral contract. At that point, only about 500 MW would remain under contract with DWR. The IOUs' estimate of net benefits under this assumption is still positive, but declines to only $30.5 million. Our goal would then be to complete novation or renegotiation of those few remaining DWR contracts expiring after June 30, 2012. The SFO Peakers contract has the longest term (expiring in 2015), and does not have a novation clause. Accordingly, the SFO Peakers contract should be next in priority for renegotiation after Coral.
Our goal is to ensure that negotiations with a given counterparty continue only so long as reasonable prospects remain of reaching an agreement that is in ratepayers' interests. We shall provide a reasonable period of time to give negotiations with each supplier a chance to succeed, while pursuing the goal to relieve DWR of its remaining supply obligations at the earliest feasible date. We will not hesitate, however, to redirect contract negotiation efforts if necessary to avoid wasting time or resources on unproductive discussions. Through close monitoring and frequent feedback, we shall keep negotiation efforts focused so as to maximize benefits for ratepayers while avoiding protracted negotiations that are not productive.
6.4. Negotiating Replacement Agreements to Retain Existing Terms "As Is" Versus Concurrent Revisions to Existing Terms
Parties disagree as to whether novation should be executed, thus continuing all existing contract terms and prices "as is," except for substituting DWR with one of the IOUs as the contract party. Alternatively, certain parties believe that the contracts should be concurrently negotiated to seek broader amendments in other terms or prices of any replacement agreements.
DWR argues that to facilitate the exercise of novation rights, as a general rule, replacement agreements should be as nearly identical as possible to the existing contracts, with only such changes as are necessitated by the change in parties. The DWR contracts define a "replacement agreement" as "any agreement identical to" the contract being replaced "with such additional changes as the Seller and Qualified Electric Corporation may mutually agree."
DWR advocates proceeding with novation as quickly as reasonably possible while allowing the IOUs to renegotiate the terms and schedules under the contracts with counterparties to provide retail customers with benefits that only the IOUs can obtain.
DWR argues that limiting the terms subject to negotiation in the replacement agreements will eliminate any basis for counterparty objections to the novation provisions. DWR's counterparties to contracts with novation provisions are legally obligated to accept novation if the stated conditions specified in the contract are met. DWR believes that "a single-focus negotiation and just dealing with a novation provision shouldn't be that time consuming, all encompassing."36 Following the novation, the IOUs as new counterparties could then enter into a subsequent amendment, or other agreement, to restructure the replacement agreement.
Reliant agrees with DWR that the appropriate starting point for a replacement agreement is that it be identical to the original agreement that it is replacing. Reliant proposes that the IOUs be directed to take the contracts "as is" (or subject to a narrow set of predetermined changes as made necessary by the change in parties.) Consequently, Sellers will have notice that negotiating "mutually" agreed-to changes will not be possible. Reliant believes that novating the DWR contracts will not be complex or time consuming. Reliant disputes claims that counterparties will be able to hold out for contract modifications that deprive customers of benefits or increases their costs. AReM/CACES likewise argues that, where possible, the contracts should be novated "as is" with no changes to terms and conditions other than those required to effectuate novation, leaving the new counterparties free to negotiate whatever changes to the contracts they want.37 AReM/CACES acknowledges, however, that "at least some of the contracts will require some level of renegotiation.38 AReM/CACES reasons that this approach would "simplify the novation process."
The IOUs disagree, however, that novation merely involves signing over the existing DWR contracts to the IOUs. They argue that several of the novation clauses include unique requirements and all of the novation clauses provide for a "replacement agreement" that provides Sellers with the opportunity to seek additional modification. SCE argues that Sellers may also dispute that the novation conditions have been satisfied which will require time and potentially litigation to resolve.
DRA argues that it is not in the best interests of ratepayers to have these contracts novated to the utilities without concurrently negotiating the best terms and conditions possible for the replacement contracts. DRA argues that the IOUs should not agree to become counterparties to any contracts containing terms that are unjust and unreasonable. DRA argues that negotiation of improved terms (from a ratepayer standpoint) must be a precondition for assignment or novation of at least some of the DWR contracts. Accordingly, DRA argues that replacement contracts between sellers and the utilities should be negotiated before DWR contracts are novated, not after.
PG&E supports an initial novation of the agreements, with any subsequent renegotiation to occur between the IOU and counterparty. PG&E observes that concurrent renegotiation would be more complex, as it would involve three parties (DWR, the IOU, and the counterparty) and could result in the counterparty refusing to agree to novation if it could not prevail on other concessions.
We conclude that the choice of whether to execute novation by replacing the contract "as is," or to seek more extensive revisions at the same time is best evaluated on a contract-by-contract basis, rather than simply requiring a one-size-fits-all approach. The relative trade-off of advantages and disadvantages between these negotiating strategies may be different for each contract depending on a number of variables including the relative bargaining strength of the counterparty, the specific terms of the existing contract, and the potential to arrive at a bargaining result that is mutually beneficial both to the counterparty and to the IOU and its customers.
We reject the proposal of certain parties to require categorically that all contracts be novated "as is" without first considering the merits of concurrently negotiating other amendments for any specific contract. It would be premature to make a categorical judgment on this issue for all contracts at this point. Likewise, appropriate procedures will be adopted in Phase II (a)(2) to make an early determination of those contracts where novation is the appropriate course. In this manner, we shall avoid any undue expenditure of time and effort on protracted negotiations for substantive amendments beyond an "as is" novation.
During the workshops, DWR declined to disclose specific details regarding the status of pending negotiations for contract modifications with contract suppliers, citing the commercial sensitivity of such discussions.39 Moreover, except for one supplier who attended the workshop, none of the counterparties to the DWR contracts have provided any indication as to their willingness to negotiate revisions to existing contracts.
Without further information, it would therefore be premature at this point to prejudge the specific bargaining strategy that may be appropriate for every single contract. Instead, as part of the strategic plan for pursuing negotiations, we shall instruct the Working Group to assess the progress of initial discussions with the counterparty to each contract on its own merits, as to whether it is productive to pursue simultaneous renegotiation of substantive terms concurrently with executing a novation, or instead, to limit the negotiations only to novation of the existing contract, continuing existing terms "as is." This evaluation of alternative negotiating strategies should apply both to contracts that already have novation clauses, as well as to the four contracts that currently lack novation clauses. In the latter case, the choice would be between negotiating simply to add a novation clause, thereby retaining all existing terms, versus exploring a broader renegotiation of other terms and prices.
If the results of initial discussions with a counterparty indicates that seeking expanded modifications in contracts terms or prices is likely to result in protracted delays or disputes, then a determination will be made to focus only on a novation of the existing contract "as is," without seeking revisions beyond the minimum changes required for novation. On the other hand, if initial discussions indicate that all parties to the negotiations believe that more expansive revisions are feasible which provide mutual benefits, parties should be provided the flexibility to pursue such negotiations within a single replacement contract.
We view the provisions of the novation clauses as a potential source of bargaining strength for DWR and the IOUs by giving the DWR the unilateral option to require the counterparty to accept a "Replacement Contract" under essentially the same substantive terms, while preserving the flexibility to consider-but not be required to accept-additional terms that the counterparty may seek to negotiate on a concurrent basis. Accordingly, the resulting "Replacement Agreement" must, at a minimum be at least as beneficial for ratepayers as the existing contract. The potential also exists for parties to mutually negotiate a new agreement that is more beneficial to ratepayers compared to the existing agreement. At the same time, if negotiations with a particular supplier are to include making revisions beyond an "as is" novation, the risk of additional delay and uncertainty must be weighed against any potential ratepayer benefits that may be possible. Under no circumstances, however, is DWR obligated to effect a novation with a "Replacement Agreement" that is less beneficial to customers than the current contract. Given the uncertainty of the amount of benefits from novating the DWR contracts, we do not expect to see any "Replacement Agreements" that reduce customer benefits.
6.5. Novation to Third Parties other than IOUs
AReM/CACES argues that the Commission should consider the potential for novating or assigning the contracts to third parties other than the utilities, as an option if obstacles arise with respect to transferring the contracts to the utilities. AReM/CACES sees no need to presume that DWR contracts can or should be novated or assigned only to the IOUs.
AReM/CACES makes a proposal that would allow the DWR contracts to be transferred to non-IOUs by means of auctions in which both IOUs and non-IOUs could offer to accept novation of the DWR contracts.40 AReM/CACES does not address what categories of non-IOUs it has in mind - Electric Service Providers, energy traders, or other categories of market participants.
DRA believes that novating/assigning DWR contracts to Electric Service Providers appears to be barred by the terms of the DWR contracts, most of which require that a replacement agreement be with a "Qualified Electrical Corporation" (in some cases specifying "as defined by AB1X"). Under AB1X, an "Electrical Corporation" does not include Electric Service Providers.41 Reliant does not believe that novation to parties other than IOUs is expressly barred by the terms of every DWR contract, but argues that even for contracts where it is not expressly barred, there are various reasons why novation to non-IOUs is not practical.
We reject the proposal of AReM/CACES to incorporate a provision for a competitive auction whereby non-IOUs could bid to acquire ownership rights for power that is currently supplied by DWR. We agree with the concerns raised by various parties that the practical difficulties and potential delays resulting from such a program would not be in the best interests of ratepayers.
As a practical matter, only a limited number of DWR contracts could be made available to a non-IOU as a "Qualified Electric Corporation". The remainder of the contracts expressly require that an IOU must take over the "Replacement Contract." Even for this limited number of contracts, however, novation to a non-IOU presents a number of practical difficulties. For example, such a novation could adversely affect the IOUs' ability to serve load. Power supplied under the DWR contracts has been incorporated into the IOUs' respective portfolios for long-term planning purposes. If a non-IOU took over the contract, there is no assurance as to where the power would ultimately be delivered, and the IOU would face the uncertainties associated with replacing the power that may no longer be available to serve retail IOU load.
Novation to a non-IOU would also unnecessarily complicate the inter-IOU allocation process, as adopted in D.05-06-060, which intended that a fixed percentage of DWR contract costs be allocated among IOUs over the life of the contracts. If a non-IOU took over certain contracts, it is uncertain how the applicable allocation of costs under D.05-06-060 would be affected.
Novation to a non-IOU would also unnecessarily complicate the process for conducting a "just and reasonable" review of the "Replacement Contract" as called for under the novation provisions.
As noted by DRA, novation involving Electric Service Providers might also violate AB1X, since the purpose of the DWR contracts is to procure energy for "retail end use customers served by electrical corporations."42
As noted by both DRA and Reliant, novation or assignment to non-IOUs would impact long-term procurement planning objectives mandated by Pub. Util. Code § 454.5. Reliant also argues that novation to non-utilities could negatively impact the IOUs ability to serve load and would unnecessarily complicate the process of inter-utility allocation of contract costs. Finally, we note DRA's argument that novation or assignment to a non-IOU may be barred by the terms of the contract.
6.6. "Just and Reasonable" Review Approval of Replacement Agreements before the California Public Utilities Commission (CPUC)
Phase II(a)(2) also will establish procedures for the review and approval process for any Replacement Agreements consistent with the just-and-reasonable standards of Pub. Util. Code § 451.
Many of the DWR contracts require, as a condition of transfer, that the Commission first conduct a review and issue findings that the terms of the "Replacement Agreement" are "just and reasonable" under Section 451 of the Public Utilities Code. We believe that the more explicit guidance that we can provide to parties early during the negotiation process as to how the "just and reasonable" standard will be applied, the more likely it is that any proposed "Replacement Agreements" will be able to meet this standard once the review process is undertaken.
CFC argues that the transfer of contracts could be delayed while the reasonableness of their terms was being litigated. Reliant argues, however, that assuming that a DWR contract is novated "as is," and solely to the IOUs, the requisite "just and reasonable" review under Section 451 has already been completed through past Commission decisions under which the DWR power charges have been allocated to the IOUs and recovered in retail rates.
PG&E disagrees, however, that the Commission has "already completed" a review as to whether a novated DWR contract is "just and reasonable. PG&E contends that the opposite is true, and that the Commission has asserted before the FERC and in court that many of the DWR contracts are unjust and unreasonable. For example, the Commission is currently challenging the justness and reasonableness of the Sempra contract at the Ninth Circuit Court of Appeals. PG&E argues that merely because the Commission has allowed DWR costs to be passed through in retail rates, the Commission has not reviewed the DWR contracts to determine that they are "just and reasonable." PG&E argues that if the DWR contracts are novated "as is," the Commission would be required by statute and by DWR contract provisions to conduct a review and determine that the novated contracts are "just and reasonable" in accordance with Pub. Util. Code § 451.
DRA likewise notes that AB1X requires the Commission to pass through to ratepayers the costs of the DWR contracts.43 AB1X makes an express exception to the Section 451 requirement that the Commission review the reasonableness of all charges included in rates. DWR, rather than the Commission, is responsible for the Section 451 review of the contracts entered into pursuant to the temporary authority bestowed on DWR by AB1X.44
Accordingly, DWR, not the Commission, reviews and determines the reasonableness of the revenue requirements established to recover the costs of the existing DWR contracts. The Commission has never made a finding that the DWR contracts are just and reasonable. Even though it was required by AB1X to pass through the costs of those contracts to ratepayers in retail rates, the Commission simultaneously challenged the wholesale contracts as unjust and unreasonable under the Federal Power Act. The Commission's legal challenge to DWR's contracts with Sempra, Coral, and PacifiCorp (as well as the contract with Dynegy, which has now expired) is still being litigated. That litigation has gone to the United States Supreme Court, and is currently before the United States Court of Appeals for the Ninth Circuit, which has been directed by the Supreme Court to further consider the case in light of the Supreme Court's recent Morgan-Stanley decision.45 We therefore reject Reliant's argument that the Commission has implicitly determined that the DWR contract costs are just and reasonable because it has allowed those costs to be included in rates.46
Reliant asks the Commission to require the utilities to accept novation of the contracts "as is." The replacement contracts may well include modifications to the existing contracts. In any event, the Commission will not have reviewed the replacement contracts. The replacement agreements would not fall within the AB1X exception for the DWR contracts discussed above, because they are new contracts between sellers and utilities. And any replacement agreement that would extend the term of a contract should also be reviewed by the Commission for consistency with long-term procurement planning criteria, pursuant to Section 454.5.
We cannot declare that the replacement contracts will be deemed just and reasonable before they have been negotiated and presented to us for review.
Certain parties argue that there are potential legal impediments relating to the Commission's rendering "just and reasonable" findings of a novation or assignment in view of pending federal actions relevant to the certain DWR contracts. Various parties expressed concerns as to the impact of the recent United States Supreme Court decision in Morgan Stanley. CARE, for example, has argued that the Commission has not addressed the issue that the DWR contracts may not be valid pursuant to pending legal challenges, and as a result, the Commission has no basis to be ordering steps to finalize the removal of its role as supplier of power.
PG&E argues that Morgan Stanley directly affects the DWR contracts, and in particular, the DWR/ Sempra contract. The Supreme Court remanded the Sempra contract dispute back to the Ninth Circuit, which in turn, could remand the case back to FERC. If FERC and the courts ultimately determine that the Sempra contract is not entitled to Mobile-Sierra protections, and decide to abrogate the agreement, PG&E argues that such an action would have a significant impact on novation or assignment. PG&E argues that the Commission cannot approve the novation or assignment of a DWR contract that may ultimately determined not to be just and reasonable and abrogated by FERC.
DRA believes that it will be some time, however, before the question of whether the DWR contracts are unjust and unreasonable is remanded to FERC. The Commission has requested that the Court of Appeals first address an issue that was reserved and not addressed in the Court's earlier opinion: whether the Commission, as a non-party to the contracts, must meet the "public interest" standard.47 DRA states that this issue should be decided by the Court of Appeals before it remands the case to FERC. Thus, DRA argues that it could be a long time before the question of whether DWR's contracts with Sempra, Coral, and PacifiCorp are unjust and unreasonable, is sent back to FERC. The Commission, meanwhile, maintains its challenge to those contracts. DRA questions how the Commission could be expected to find the contracts that are the subject of this litigation "just and reasonable" under Section 451.
Contrary to DRA's premise, as specified in the DWR contract novation clauses, the Commission will not be making any findings as to the justness and reasonableness of any existing DWR contracts as a result of the novation process. Instead, the contracts that will be subject to Commission review and approval under the "just and reasonable" standards of Section 451 will be new replacement contracts entered into between an IOU and each of the counterparties to the existing DWR contracts. The "just-and-reasonable" review of replacement contracts will be scheduled to occur promptly for each replacement contract as negotiation is completed, but before the replacement contract becomes effective. The "just and reasonable" review will not be delayed while waiting for all contract negotiations to be completed. The specific procedural processes for the "just and reasonable" review of contracts will be determined in Phase II (a)(2).
The extent to which the replacement contracts contain prices and other terms that are similar to those under the previously existing DWR contracts will depend upon the manner in which the replacement contracts are negotiated. As stated previously, we will not prejudge how those contract negotiations will proceed. In any event, the replacement contracts will be reviewed in the context of the conditions, including market conditions, at the time of negotiation, and based on expectations of market conditions for the period that the replacement contract will be in effect. As such, the review of those contracts will be separate and distinct from the setting in which the previously executed DWR contracts were negotiated and subsequently litigated. Similarly, we find no basis in the arguments of CARE that pending federal litigation relating to existing wholesale power contracts provides any basis to halt progress in this proceeding toward securing ratepayer benefits through replacement contracts through the process outlined herein.
33 DWR Memorandum dated June 9, 2008 at p. 2.
34 Similar provisions appear in the Calpine contract.
35 Even assuming that efforts to amend this limitation in the Coral and CalPine contracts was unsuccessful, and those two contracts were not replaced, novation of the remaining contracts could still be potentially pursued independently.
36 July 1, 2008 Workshop Tr. at 180.
37 Comments of the California Alliance for Competitive Energy Solutions and the Alliance for Retail Energy Markets Regarding Inter-Utility Cost Allocation Issues (July 28, 2008), pp. 4-5, 8.
38 Id., p. 5.
39 See Workshop Transcript dated July 1, 2008, at pp. 178-179.
40 Final Summary Comments of CACES and AReM (August 25, 2008), pp 12-16.
41 See California Water Code Section 80010 (c) (giving "electrical corporation" same definition as that found in Public Utilities Code Section 218); Public Utilities Code Section 218.3 (electric service providers are not "electrical corporations" as defined in Section 218). See also Overview of DWR Power Contracts presented at workshop on June 2, 2008, Slides 22, 23, 27;
42 Water Code Section 80002.5.
43 Water Code Section 80110 provides in relevant part: The department [DWR] shall be entitled to recover, as a revenue requirement, amounts and at the times necessary to enable it to comply with Section 80134, and shall advise the commission as the department determines to be appropriate." Section 80134 directs DWR to "establish and revise" revenue requirements sufficient to cover the costs of the contracts, including bond costs, power purchase costs, and operating reserves.
44 Section 80110 provides in relevant part: "For purposes of this Division and except as provided in this section, the Public Utilities Commission's authority as set forth in Section 451 of the Public Utilities Code shall apply, except any just and reasonable review under Section 451 shall be conducted and determined by the department [DWR]." (Emphasis added.)
45 Public Utilities Commission of Cal. v. FERC, 474 F.3d 587 (9th Cir. 2006) ("CPUC v. FERC"), vacated and remanded on June 27, 2008 by Dynegy Power Marketing v. Public Utils. Comm., 2008 Lexis 5272 for consideration in light of the Supreme Court's opinion in Morgan Stanley Capital Group Inc. v. Public Utility District No. 1 of Snohomish County and American Electric Power Service Corp. et al. v. Public Utility District No. 1 of Snohomish County, 554 U. S.____ (2008); 128 S. Ct. 2733.
46 The Commission challenged the DWR contracts as unjust and unreasonable under federal law.
47 See Letter from CPUC General Counsel Frank Lindh to the Ninth Circuit Court of Appeals re CPUC v. FERC, dated July 29, 2008 (copy attached as Attachment 1).
