Background

In Decision (D.) 04-03-069, the Commission found that SCWC violated Public Utilities Code § 851 when it failed to seek the Commission's approval for its 1994 permanent lease of 5,000 acre feet per year (AFY) of water rights in the American River to the City of Folsom (Folsom). For that reason, the lease was voided; a penalty of $1,095,000 was assessed, of which $915,000 was suspended; and SCWC was ordered to credit ratepayers with 70% of the total lease revenues accrued from the inception of the lease through the effective date of the decision, plus 7% interest. The Commission also determined that while Folsom acted in "good faith for value," Folsom was entitled only to retrospective protection of its lease of water rights, pending further record development on the issue of Folsom's prospective rights under the voided lease. Folsom then filed a petition to modify D.04-03-039, indicating that serious and immediate effects had occurred because the Commission did not preserve its prospective rights under the lease.

In D.04-04-069, after a review of new information provided by Folsom, the Commission concluded that § 851 protects Folsom's acquired interest in the water both with respect to the past and to the future, notwithstanding the voiding of the lease as to SCWC. The Commission specifically directed SCWC file a § 851 application in D.04-04-069 and requested that the following three topics be addressed by parties in that application. The three issues are:

On July 8, 2004, SCWC filed this application to obtain § 851 approval for the Folsom transaction and to address these three issues. The Commission's Office of Ratepayer Advocates (ORA) protested the application on July 8, 2004. A prehearing conference was held on October 14, 2004. The Assigned Commissioner issued a scoping memo, which adopted a procedural schedule calling for testimony and evidentiary hearings, and designated the assigned Administrative Law Judge as the principal hearing officer. The scoping memo stated that the Commission had already defined the scope of the proceeding in D.04-04-069 as being the three questions set out above.

Evidentiary hearings were held on June 14, 2005. SCWC presented two witnesses and ORA presented one witness for cross-examination. To accommodate the procedural schedule for SCWC's then-pending general rate case, briefing was delayed to October and November 2005. The proceeding was submitted for consideration by the Commission on November 23, 2005.

Resolution of Issues

SCWC and ORA presented evidence on each of the three issues, which we resolve below, followed by our determination of whether this transaction meets the § 851 statute requirements.

SCWC stated that it serves about 15,027 customers in the Arden-Cordova Service Area, which is comprised of the unconnected Arden and Cordova water systems. The Arden system cannot receive water from the American River system and is therefore not affected by the transfer to Folsom. The Cordova system currently has 13,240 customers, and SCWC predicts that full "build out" of the service area in 2022 will result in about 15,500 customers. SCWC forecasts that water demand will be about 22,200 acre-feet per year, with maximum daily demand about 25,325 gallons per minute.

SCWC states that it has sufficient ground water and surface water to meet this projected demand. SCWC explained that the Cordova system has 13 active wells with a total system design capacity approximately equal to 32,941 acre-feet, more than enough to meet projected 2022 demand. SCWC further states that while groundwater contaminants may threaten up to nine of its wells, it expects that remediation by the polluters, including providing replacement water, will ensure an adequate supply of groundwater. In addition to its groundwater, SCWC stated that it possesses rights to divert up to 5,000 acre-feet of water per year from the American River, and that it has entered into a five-year water transfer agreement with the Sacramento Municipal Utility District for 10,000 acre-feet of water.

ORA countered that SCWC will be relying heavily on the risky strategy of purchases from third parties to meet the needs of its customers. ORA stated that that the 5,000 acre feet of water rights transferred to the Folsom are an important source of good quality water that SCWC controls from the source to the point of delivery. ORA concluded that the Folsom water rights, as compared to potential future purchases, are a superior source of water for SCWC's customers.

Discussion

SCWC has demonstrated that it currently has sufficient water supplies to meet the present and future needs of its customers. SCWC has taken prudent steps to secure replacement water for the water rights that it leased to Folsom. SCWC has an adequate water supply to meet its customers' needs at full build-out of its Cordova system. While ORA has raised concerns about SCWC's ability to economically meet its customers' needs in the future, we find that SCWC has enough water to meet its customers' needs. Therefore, we conclude that the 5,000 acre feet of water leased to Folsom is no longer useful in the provision of water utility service.

SCWC argues that no dollar value for the water rights was recorded in SCWC's rate base, and thus ratepayers have no claim to the water rights or proceeds from the sale thereof. SCWC provided accounting documentation showing that all costs of the acquisition were allocated among the other assets transferred and recorded in SCWC's rate base plant accounts. At no time were the water rights included in rate base. SCWC also cited to D.00-07-018 as supporting an allocation to shareholders of 70% of the proceeds. (D.00-07-018 set forth revenue sharing percentages for non-tariffed utility offerings. For passive activities, 70% of the revenues are allocated to shareholders.)

ORA pointed to D.04-03-039 as dispelling SCWC's contention that the water rights were not included in rate base. ORA reads that decision as concluding that the cost of the acquisition, including the water rights, was included in rate base. Consequently, the ratepayers are entitled to all revenue from the sale. ORA recommended that all revenues for the lease of water rights to Folsom which were not addressed by D.04-03-039 be credited to regulated account No. 607, Sales to Government Agencies by Contracts.

SCWC opposed ORA's allocation of all revenues to ratepayers and contended that ORA provided no justification of such an allocation. SCWC stated that ORA did not draw any analogy to the Commission's precedent on gain on sale or allocation of revenues from excess capacity.

Discussion

In D.04-03-039, we thoroughly reviewed all aspects of the SCWC's 1964 acquisition of the Natomas Water Company and the subsequent lease to Folsom of 5,000 AFY. We found SCWC had recorded the lease revenues in a non-operating below-the-line account to benefit its shareholders only. The decision further determined that the retrospective revenue from the lease be split between the ratepayers and shareholders, 70/30, respectively. To arrive at this sharing, we first noted that ratepayers had paid the costs associated with acquiring the water rights, and that shareholders had not borne any costs whatsoever. We then observed that the water rights would probably have been underutilized and that the shareholders should be rewarded for leasing this asset to a third party.

Today's decision addresses the prospective revenues.

We have previously concluded that the 5,000 acre feet of water leased to Folsom is no longer useful in the provision of water utility service. As such, § 789 and § 790 of the Public Utilities Code apply. § 790 in relevant part states:

790. (a) Whenever a water corporation sells any real property that

was at any time, but is no longer, necessary or useful in the

performance of the water corporation's duties to the public, the

water corporation shall invest the net proceeds, if any, including

interest at the rate that the commission prescribes for memorandum

accounts, from the sale in water system infrastructure, plant,

facilities, and properties that are necessary or useful in the

performance of its duties to the public. ...The amount of the net proceeds

shall be a water corporation's primary source of capital for

investment in utility infrastructure, plant, facilities, and

properties that are necessary or useful in the performance of the

water corporation's duties in providing water utility service to the

public.

§ 790 requires that SCWC invest the proceeds from its Folsom water lease into water system infrastructure that are "necessary or useful in the performance of its duties to the public." § 790 (c) further requires that proceeds not invested be returned to ratepayers.

790. (c) This article shall apply to the investment of the net proceeds

referred to in subdivision (a) for a period of 8 years from the end

of the calendar year in which the water corporation receives the net

proceeds. The balance of any net proceeds and interest thereon that

is not invested after the eight-year period shall be allocated solely

to ratepayers.

Hence, the proper accounting and ratemaking treatment with regard to the Folsom lease is covered by statute. We direct SCWC to establish a memorandum account to which Folsom lease revenue shall be recorded. Interest shall accrue on this account at the 3-month commercial paper rate. Any proceeds not used for water utility infrastructure or plant within an 8-year period, shall be allocated solely to ratepayers. This memorandum account shall be subject to audit.

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