3. Stipulation

SCWC and ORA filed a motion on July 14, 2003, requesting that the Commission adopt a proposed stipulation (Stipulation) that would resolve many, but not all, of the issues in this case. The following is a summary of the Stipulation.

Region III	SCWC	SCWC	Remaining	ORA	ORA
	Pre-Stipulation	Stipulation	Difference	Stipulation	Pre-Stipulation
2003
At Proposed Rates	$ 86,542,200	$ 80,273,000	$ 6,698,400	$ 73,574,600	$ 69,242,000
At Present Rates	66,717,900	67,156,900	(1,200,200)	68,357,100	68,572,300
Increase	19,824,300	13,116,100	7,898,600	5,217,500	669,700
2004
At Proposed Rates	$ 92,881,300	$ 83,716,200	$ 7,760,900	$ 75,955,300	$ 71,038,500
At Present Rates	66,724,400	67,472,400	(1,204,500)	68,676,900	68,945,700
Increase	26,156,900	16,243,800	8,965,400	7,278,400	2,092,800

The Stipulation is attached to this decision as Appendix I. We have reviewed that document along with the supporting appendices and conclude that the proposal to subject 51 capital projects to advice letter filings should be rejected. Rather than adopting the advice letter proposal, we estimate that $4,643,230 of plant additions will go into service, on average, beginning January 1, 2005. We estimate the revenue requirement effect to be $758,700 and will include that amount in the 2005 attrition year increase. SCWC is also authorized to file a separate application for recovery of the Calipatria treatment plant costs, or in the alternative may include the costs for review in the next GRC. Also, our resolution of issues related to SCWC's Cash Preservation Plan precludes the adoption of the maintenance expense portion of the Stipulation.

3.1. Plant

The following table shows SCWC and ORA estimates of plant additions before and after the Stipulation, as well as the remaining contested differences.⁴

Gross Plant Additions

	2002	2003	2004	3 Year Total
Before Stipulation
SCWC	$16,923,560	$49,075,403	$31,241,380	$97,240,343
ORA	4,163,310	25,802,258	16,117,833	46,083,401
Difference	$12,760,250	$23,273,145	$15,123,547	$51,156,942
Stipulation
GRC Budget	$ 4,390,253	$20,481,233	$15,819,913	$40,691,399
Advice Letter	460,600	14,190,922	7,479,466	22,130,988
Total Stipulation	$ 4,850,853	$34,672,155	$23,299,379	$62,822,387
Contested	$ -	$15,250,193	$ 5,412,500	$20,662,693

The table indicates that much of the original difference between SCWC and ORA was for projects that would, under terms of the Stipulation, be subject to advice letter filings. In its testimony, ORA recommended such treatment for a number of projects, resulting in much of the original revenue requirement difference with SCWC. ORA and SCWC have agreed that while there may be a need to undertake 51 individual projects, the timing, scope or estimates of cost are questionable. The parties would rather subject these projects to advice letter procedures than have these projects included in rates on an estimated test year basis. Fifteen projects relate to conservation expenditures, which ORA asserts are uncertain, due to prior SCWC deferrals in this area. Thirteen other projects relate to water supply items such as wells and reservoirs. Both SCWC and ORA made estimates for the Calipatria treatment plant but now agree to subject the related 23 individual projects to advice letter treatment after actual contractor bids of $13.2 million and $18.9 million far exceeded SCWC's original estimate of approximately $9.2 million. For this GRC, the parties propose advice letter treatment for the Calipatria treatment plant projects to be capped at $10.3 million, with any additional costs to be included in the next GRC.

We are concerned with the implementation of the Stipulation as it relates to the advice letter filings. The number of rate changes that will result from the proposal is not clear. Under Section 2.04 of the Stipulation, "ORA and SCWC agreed that SCWC is authorized to file advice letters seeking authorization to include in rate base, upon completion, the actual costs of the plant additions set forth herein and to receive a corresponding rate adjustment for the additional rate base." It could be interpreted that SCWC would be authorized to make as many as 51 advice letter filings, each with an associated rate change over the remainder of this rate case cycle. Since, as discussed further in this decision, we are maintaining regional rates, consideration of each of those rate changes would have to be given to each of the districts in Region III. Not only would this proposal place a burden on the Commission staff in evaluating and processing the filings, but it would also be extremely confusing to customers

The magnitude of dollars that are to be subject to advice letter filings under the stipulated agreement is substantial. Advice letter projects represent approximately 25% of the total plant additions now being considered for the years 2002- 2004. Depending on the timing of the additions, the $22 million related to advice letter projects could generate a further annual increase of as much as $3 million to $4 million, or approximately another 5% over the rate case cycle.

Advice letter filings for capital projects are appropriate for large projects that do not occur regularly and where the timing is at issue. The necessity, scope and cost of the project would be defined and an advice letter review would have specific parameters to verify before the implementation of a rate change. In total the Calipatria treatment plant project is a large project and timing is certainly an issue. However, the cost and subsequently the scope of the project are uncertain due to the disparate cost estimates as described above. Advice letter verification of reasonable costs is therefore problematical. We note that a similar project was considered in the test year 2000 GRC⁵ and was afforded advice letter treatment. We stated:

"For the Calipatria-Niland District, major plant additions are required to meet the Enhanced Surface Water Treatment Rules as determined by EPA and DHS. These rules are currently in effect. SCWC proposes that the $ 2.6 million cost be spread over the years 2000, 2001, and 2002. Because the costs of plant additions to comply with these rules are certain, rather than require SCWC to file a separate application as required for the proposed radon and arsenic facilities, we will adopt the recommendation of the stipulation that these costs be recovered through an Advice Letter. In the meantime, these costs should be accrued in a memorandum account, with carrying costs computed using the authorized rate of return, without gross-up for taxes."⁶

This project was apparently not done and the current treatment plant project is being proposed. However in the current case, the costs of plant additions are not certain. It is therefore reasonable to consider cost recovery for the project in a separate application, rather than through advice letter. In the alternative, SCWC can include the recorded costs in the next GRC. In either case, the company must justify the recorded expenditures and, given the disparate cost estimates, address its consideration of alternatives to the proposed project, or aspects of the project, in order to mitigate the financial impacts. As before, we will allow SCWC to accrue the costs in a memorandum account, with carrying costs computed using the authorized rate of return, without gross-up for taxes.

The proposed advice letter proposal results in after-the-fact cost recovery for capital projects on a recorded cost basis, which conflicts with the idea of test year ratemaking where reasoned estimates are the basis for rate recovery and where, at least for the rate case period, certain shareholder/ratepayer risks are associated with potential over-spending or under-spending of adopted test year amounts. From this standpoint it is not appropriate to include normal projects that should be handled on an estimated test year basis, through advice letter filings. SCWC's conservation, well replacement, reservoir and "manganese filter, crooks" projects fall into this category. Rather than subject these projects to the proposed advice letter process, we will include appropriate costs in the estimates for this GRC, based on the record of this proceeding. Testimony and rebuttal testimony by all parties were prepared and received into evidence during evidentiary hearings. The need for the "manganese filters, crooks", for the Barstow CSA, was not discussed or justified by either SCWC or ORA; and we will not authorize recovery in this GRC. Estimates for replacement well, reservoir and conservation projects are discussed below.

Well replacement projects total $6,172,146. Many of the wells are nearing the end of their useful life and in order to minimize purchases of imported water, SCWC planned to begin a program to construct replacement wells.

For the San Gabriel well, ORA indicates that with no action the total remaining capacity of all the wells in this CSA would still be 98% of current capacity, the loss of only 2% of well capacity would not impact SCWC's operation adversely. The immediate need for this well is therefore at issue. The record does not substantiate such need, and we will not authorize cost recovery in this GRC cycle.

For the Lucerne Valley well, ORA indicates that SCWC is scheduled to build a reservoir in 2004 to assist the Lucerne Valley area in meeting fire flow requirements and maximum peak demand and there is no urgency to build this well in the same year. ORA recommends that it be deferred to 2005. SCWC did not rebut this recommendation.

For the remaining 7 wells, the issue is mainly one of cost. For the San Dimas well, two Orange County wells and two Claremont wells, ORA indicates that the estimates were considerably higher than similar projects completed recently and that SCWC did not have firm contractor quotes or bids to support the estimates. ORA did not provide an estimate of the costs but recommended advice letter treatment. For the two Barstow wells, ORA's testimony states that SCWC's increase is high especially since SCWC presented no evidence to justify its 2003 estimate. Based on its analysis, ORA estimated well replacement costs of $217,317 for 2003 and $225,676 for 2004 (in total, 63.7% of SCWC's estimate) but recommended the advice letter process due to future uncertainties. SCWC did not rebut ORA's criticism of the cost estimates. Also, the record does not include any justification by SCWC for its cost estimates. With no better information on which to rely, we will apply an adjustment factor of 63.7%, based on ORA's adjustments to the Barstow wells, to SCWC's estimate for each of the 8 well projects, including the Lucerne Valley well, resulting in plant additions totaling $3,517,230. We assume, on average, the wells will be operational at the beginning of 2005 and will include the revenue requirement in the attrition year allowance.

Reservoir projects total $2,503,810. The Orange County reservoir site is needed to comply with MWD regulations requiring water agencies to purchase water at a constant rate each 24 hours. Two reservoir projects in Barstow are recommended as part of a master plan for the Barstow system.

For the Orange County reservoir, ORA indicates that the purchase of the land has not been finalized and that SCWC indicated that the project might be delayed to 2006. The immediate need for this reservoir is therefore at issue. The record does not substantiate such need, and we will not authorize cost recovery in this GRC cycle.

For the two Barstow reservoirs, ORA's testimony stated that SCWC's estimates are high especially since SCWC did not present ORA with cost breakdowns of its estimates. Based on its analysis, ORA estimated reservoir costs of $521,000 for 2003 and $605,000 for 2004 but recommended the advice letter process due to future uncertainties. SCWC did not rebut ORA's criticism of its cost estimates. We will use ORA's cost estimate in 2004 dollars as an estimate for the Barstow reservoirs, resulting in plant additions totaling $1,130,000. We assume, on average, the reservoirs will be operational at the beginning of 2005 and will include a full year's revenue requirement in the attrition year allowance.

Conservation projects total $2,763,042. The Urban Water Management Plan identified water conservation, as a cost effective element of meeting water supply requirements, and this budget item is intended to carry out the conservation projects identified in that plan. However, there is no indication of what the individual projects and associated costs are or of any cost effectiveness analysis being performed. ORA indicates that SCWC had budgeted but not spent any money on conservation projects in 2002 and the timing and costs of the projects for 2003 and 2004 were uncertain. There is insufficient information to determine the reasonableness of a conservation project budget and we will not authorize cost recovery in this GRC cycle.

3.2. Sales

Section 3.00 of the Stipulation deals with sales to customers and addresses estimates of the number of customer connections as well as sales per customer. Estimates for each were made on an individual district basis, by customer class. In total, SCWC estimated the number of Region III customer connections to be 95,675 for 2003 and 96,118 for 2004, while ORA estimated 95,936 for 2003 and 96,476 for 2004. The stipulated amounts, which total 95,776 for 2003 and 96,237 for 2004, are a reasonable resolution of the differences between the two parties.

The estimates of sales per customer for the largest customer class, commercial, remain contested in this proceeding. The Stipulation does address the sales/customer differences for the other customer classes on a district basis. For those items, we find that the stipulated values, which are a mixture of the utility estimates, the staff estimates and values in between, reasonably resolve the differences.

3.3. Labor

Section 4.00 of the Stipulation resolves differences in the estimates of district labor, while general office labor remains a contested issue. The estimates of district labor were made on an individual district basis and include district O&M, allocated district office and allocated regional office labor costs. For 2003, SCWC estimated total district labor to be $7,536,800, while ORA estimated the amount to be $6,313,100. The stipulated expense total is $6,941,300. Similarly, for 2004, SCWC estimated $7,878,200, ORA estimated $6,485,200 and the stipulated total amount is $7,100,900. A portion of the district labor costs relates to maintenance expense, which we modify later in this decision when resolving issues related to SCWC's Cash Preservation Plan. For the remainder of district labor costs, the stipulated amounts appear reasonable and will be adopted.

3.4. Administrative and General (A&G) Expenses

As detailed in the Stipulation, Section 5.00, agreement was reached in the areas of office supplies, property insurance, injuries and damages (general office), injuries and damages (Region III CSAs), pensions and benefits (Region III CSAs), meals, regulatory commission expense, outside services, miscellaneous expenses, other maintenance of general plant, rent and capitalized A&G expenses. Based on the record in this proceeding, the stipulations related to A&G expenses appear reasonable and will be adopted. Also, for the allocation of costs related to the general office, common customer accounts and the region and district offices, the ORA and SCWC agree to use the updated "Revised Four-Factor" proposed by SCWC. The allocation percentages contained in the Stipulation will be adopted. Pensions and benefits for the general office was not resolved as part of the Stipulation and is discussed later.

3.5. Operation and Maintenance

From information shown in Section 6.02 of the Stipulation, for 2003, SCWC estimated total other operations expense for the Region III districts, district offices and region office to be $1,543,000, while ORA estimated the amount to $1,248,300. The stipulated expenses for this category total $1,413,300. Similarly, for 2004, SCWC estimated $1,578,600, ORA estimated $1,278,700 and the stipulated amount is $1,542,800. For 2004, the fact that SCWC and ORA agree that an additional $100,000 should be added for uranium removal costs explains why the 2004 stipulated amount is much closer to SCWC's original estimate as opposed to that of ORA. In that light, the stipulations related to other operations expense appear reasonable and will be adopted.

Section 6.03 addresses other operating expenses in the general office, excluding those related to the contested issue of SCWC's proposed Security Plan. We will adopt the stipulated portions of the forecasts, which are very close to ORA's estimates.

From information shown in Section 6.04 of the Stipulation, for 2003, SCWC estimated total other maintenance expense for the Region III districts to be $3,452,400, while ORA estimated the amount to be $2,081,600. The stipulated expenses for this category total $2,550,100. Similarly, for 2004, SCWC estimated $3,581,600, ORA estimated $2,134,900 and the stipulated amount is $2,603,200. Other maintenance expense relates to our resolution of the Cash Preservation Plan issue discussed later. We will therefore not adopt the stipulated amounts for other maintenance expense.

Sections 6.05 and 6.06 of the Stipulation resolve general office common customer account expense estimates (excluding labor) and general office postage reasonably. There was little difference in the ORA and SCWC estimates of common customer account expense and the stipulation for postage appears to reflect SCWC's zero-based budget and therefore the most recent postage rates.

Sections 6.01, 6.07, 6.08 and 6.09 of the Stipulation include percentage factors that ORA and SCWC have agreed to use for uncollectibles, property taxes, payroll taxes and local taxes. Based on the record, those factors appear reasonable and will be adopted.

3.6. Supply

Section 7.00 of the Stipulation relates to water supply issues, with Section 7.01 specifically addressing source issues. The percentage of water supply derived from wells and from purchases was disputed in five of the eight districts. ORA and SCWC stipulate to supply mix ratios for four of those districts with only that for the Claremont District remaining contested. The stipulations related to sources of supply appear reasonable and will be adopted.

Section 7.02 of the Stipulation itemizes stipulated and contested supply volumes by customer class for each of the CSAs. Supply volumes are a direct result of the number of customer connections and sales per customer. As discussed above, the issue of sales per customer for the commercial class remains contested. Therefore, the Stipulation leaves the supply volume for that class unresolved. For the other classes, the numbers of customer connections and the sales per customer have been agreed to in Section 3.00 of the Stipulation, which we adopt. We therefore adopt the resultant supply volumes as shown in Section 7.02.

Supply volumes, unaccounted for water and supply mix ratios affect the supply issues described in Section 7.03 of the Stipulation. For expenses related to purchased water, purchased energy and pump taxes, ORA and SCWC agree on a procedure that uses the latest available rates prior to producing the final decision tables for 2003, as referenced in Section 8.03 of the Stipulation. We adopt the stipulated procedures for 2003. A procedure for 2004 remains unresolved by the Stipulation, since SCWC proposes to inflate the latest available rates to 2004 levels, while ORA proposes to exclude such inflation.

In Section 7.05 of the Stipulation, ORA and SCWC agree on a procedure to use SCWC's chemical unit cost per KCcf, to forecast chemical costs. Differences between their estimates of such costs are attributable to differences in estimates of sales and supply mix. We will incorporate the stipulated procedure in calculating adopted chemical costs in this decision.

In Section 7.05 of the Stipulation, ORA and SCWC agree to a procedure for determining unaccounted for water and water used in operations. For determining those quantities in this decision, we will incorporate the stipulated percentages.

3.7. Common Issues

Besides the procedure for determining rates charged for purchased water, purchased energy and pump tax, as discussed above, Section 8.00 relates to inflation factors. The use of the latest available information and a 60/40 split between the non-labor index and the compensation per hour index are reasonable and will be incorporated in determining inflation for this decision.

3.8. Audit

Section 9.00 of the Stipulation resolves issues identified in ORA's audit of SCWC, as described in Exhibit 12. SCWC agrees with ORA recommendations regarding overhead construction costs, annual financial reporting and revenue from rental of water property, and ORA revises its recommendation regarding legal costs to reflect the end of litigation related to Barstow water rights. ORA and SCWC agree that $818,074 is properly accounted for in this GRC's rate base. Based on ORA's criticism of SCWC's determination of a construction overhead rate, ORA and SCWC have agreed on a rate of 22.5% to be applied to the general office and Region III capital budget components for the test year. These stipulations appear reasonable and will be adopted.

3.9. Other Issues

Section 10.00 of the Stipulation discusses the Water Quality OII expense amortization sought by SCWC. ORA has not stipulated to the amortization of these costs; however, so we will not consider this issue to be resolved by the Stipulation and will discuss it later.

3.10. Tariff Rules

Section 11.00 of the Stipulation addresses SCWC's proposed changes to the tariff rules. ORA agrees with proposals to modify the tariff conditions for the customer deposit level, interest paid on customer deposits and the minimum diameter for private fire protection service. We will adopt those changes. One tariff issue related to reconnection fees remains contested.

POLICY ISSUES