As California’s climate continues to experience prolonged, intense drought years, California water utilities must now balance the need to conserve water against the financial demands required to run a profitable business. In a ruling favorable to equitably maintaining that balance, the California Supreme Court unanimously overturned the California Public Utilities Commission’s (Commission) 2020 Order eliminating a decoupling mechanism known as the Water Revenue Adjustment Mechanism (WRAM) that allows water companies to surcharge customers when water sales fall short of forecasts.
The petitioners, also referred to by the Court as the Water Companies, were a group of water utilities and an association that represents investor-owned water utilities’ interests. The Water Companies sought to set aside a 2020 Order from the Commission eliminating the WRAM based on defects in the proceeding that led to the Order’s issuance. As such, the Court did not focus on the substance of the Commission’s 2020 Order, but instead the procedural defects in the administrative process.
The Water Companies are known as Class A water utilities, which are utilities that serve more than 10,000 service connections. The California Public Utilities Code requires Class A water utilities to seek approval of their water service rates from the Commission through a “general rate case” application process. As discussed above, the Water Companies are required to balance the need to conserve water against the financial incentive to sell more water to customers. In an effort to balance those competing interests, the Commission authorized utilities to implement concepts called the Water Revenue Adjustment Mechanism and the Modified Cost Balancing Account (MCBA).
The WRAM works by tracking the difference between quantity-rate revenues authorized by the Commission and quantity-rate revenues billed by utilities. This benefits the utilities because it allows them to bill a surcharge to customers if the Commission authorizes higher rates than initially billed. In contrast, if the utility bills more than the Commission authorizes, the utility is obliged to provide credit to customers. To determine whether a credit or surcharge is applicable, the MCBA is used to track the difference between authorized and actual water provision costs. When the Commission adopted the WRAM/MCBA mechanisms, they noted that the purpose of this approach was to decouple water sales from revenues to promote conservation.
Over the proceeding years, however, the Commission began to question the efficacy of the WRAM/MCBA model by conducting various administrative proceedings addressing the supposed issues associated with maintaining the WRAM/MCBA approach. The issue of concern in the WRAM/MCBA approach was that the difference between the Water Companies’ actual and authorized revenues were often overestimated and resulted in the under-collection of revenues. This under-collection led to large WRAM surcharges and customer resentment as it appeared to punish customers who conserved water.
In July 2017, the Commission began the rulemaking process that culminated in the 2020 Order eliminating the WRAM/MCBA model. In 2017, the Commission issued an initial scoping memorandum, which is used to describe the issues to be considered in the rulemaking proceeding. In the scoping memorandum, the Commission noted that the issues to be addressed by the rulemaking process related to a review of low-income rate assistance programs, specifically discussing the consolidation of at-risk water systems and forecasting water sales. There was no mention of eliminating the WRAM/MCBA model in the initial scoping memorandum.
In July 2018, the Commission filed an amended scoping memorandum and noted that the rulemaking process would also address potential changes in rate design and whether the Commission should adopt criteria to allow for the sharing of low-income customer data. Once again, the amended scoping memorandum did not consider eliminating the WRAM/MCBA model. Following the amended scoping memorandum, a rate design workshop occurred wherein the Commission prepared a report summarizing the workshop, and an Administrative Law Judge (ALJ) issued a ruling calling for comments on the Commission report. The ALJ also scheduled an additional workshop in August 2019 to discuss several questions, none of which mentioned the WRAM/MCBA. Again, the only mention of eliminating the WRAM/MCBA appeared in comments in response to the ALJ’s ruling.
The Commission held a workshop in August 2019 to discuss consolidation of at-risk systems, forecasting/drought, and rate design. The ALJ ruled on the report prepared for the workshop and noted that the Commission should consider converting to a different WRAM model with an incremental cost balancing approach. The California Water Association (CWA) and the Public Advocates Office (PAO) commented on the ALJ’s question regarding the WRAM/MCBA model, with the PAO advocating for eliminating the WRAM/MCBA model and the CWA arguing that the consideration of eliminating the WRAM/MCBA falls outside the scope of the rulemaking proceeding.
In July 2020, the Commission issued its decision to transition its WRAM model. The new WRAM model, referred to as the Monterey WRAM, adjusts for the difference between revenue collected under a tiered conservation rate structure, thereby imposing higher costs of water for customers exceeding certain thresholds.
The main question in the Court’s purview was not the substance of the 2020 Order, but rather whether the Commission violated procedural due process in the rulemaking that led to the 2020 Order. The Commission argued that the issue of eliminating the WRAM was included in the original scoping memorandum as part of the water sales forecasting issue, and the decision to eliminate the WRAM was supported by record evidence, relying on the PAO’s reply comments. The Court disagreed, holding that the Commission failed to pursue its regulatory authority when it issued the 2020 Order because the scoping memorandum failed to include the WRAM/MCBA elimination issue.
The Court noted that the California Public Utilities Code requires the Commission to issue a scoping memorandum that identifies the issues under consideration in the rulemaking proceedings. This notice allows for informed participation by parties affected by the rulemaking proceedings. Additionally, the Court was not persuaded by the Commission’s argument that the WRAM/MCBA elimination issue was included in the initial scoping memorandum. The forecasting issue did not include the possibility that the Commission would order the Water Companies to stop using the WRAM/MCBA method in their next general rate case applications. Instead, the Court found that the scoping memorandum suggested consideration of issues relevant to the WRAM/MCBA approach but gave no indication of their elimination. The Court held that the connection between questions on improving forecasting methods and elimination of the WRAM/MCBA was too attenuated to have provided parties with fair notice.
The Commission also argued that the parties had notice of the potential WRAM/MCBA model elimination because it is a pilot program and as such, its continuation was always under consideration. Again, the Court was not persuaded by the Commission’s arguments. The Court found that the question central to the case was whether parties had notice of the potential WRAM/MCBA elimination in the 2020 Order proceedings, not whether they had notice that the WRAM/MCBA could be under frequent reconsideration in the future. Furthermore, the Court looked at prior proceedings authorizing the WRAM and found that all relevant information was considered in those rulemaking proceedings. Therefore, the absence of such information in the rulemaking at issue concerned the Court.
Finally, the Commission argued that even if notice were deficient, the Water Companies were not prejudiced. The Court disagreed and held that the lack of notice prejudiced the Water Companies by depriving them of their opportunity to challenge the Commission’s 2020 Order.
The Court unanimously ruled to set aside the Commission’s 2020 Order effectively eliminating the WRAM/MCBA model, but only on the grounds that the 2020 Order violated administrative due process. The Court did not review the substance of the Commission’s 2020 Order and therefore, the Commission could theoretically institute a rulemaking proceeding that would eliminate the WRAM/MCBA model. As long as proper notice is given prior to such a rulemaking proceeding, the Court’s ruling does not prevent the Commission from attempting to eliminate the WRAM/MCBA model.
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