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DECISION MEMORANDUM TO: COMMISSIONER KJELLANDER COMMISSIONER SMITH COMMISSIONER HANSEN JEAN JEWELL RANDY LOBB DON HOWELL SCOTT WOODBURY MICHAEL FUSS TERRI CARLOCK MARGE MAXWELL BEVERLY BARKER RON LAW GENE FADNESS TONYA CLARK WORKING FILE FROM: BOB SMITH DATE: MAY 6, 2002 RE: PONDEROSA TERRACE ESTATES WATER (GNR-W-01-1). BACKGROUND The Commission initiated this case by Order No. 28803 on July 31, 2001 in response to numerous customer complaints regarding an increase in rates. The purpose of the case was to first determine if this Company was subject to this Commission's regulatory jurisdiction and if so, to establish a service area and establish rates for water service to customers. The Commission Staff had initiated an informal investigation of this Company in August of 2001. Staff met with Mr. Robaer Cobott and his wife Zaderea Raphael, the owners of the water system, on August 13 and 19, 2001. Staff acquired limited financial data at that time in the form of U.S. Tax Returns. Access to more specific data was denied at that time. The Commission issued Order No. 28845 on September 13, 2001. That Order found that the Company was subject to the Commission's jurisdiction and ordered the Company to submit an Application for a Certificate of Convenience and Necessity. Due to some concern regarding the adequacy of the system to serve existing customers the Order required that there be no new connections to the water system until further order by the Commission. The Order further directed the Company to file proposed tariffs for customer rates and charges together with supporting documentation justifying the reasonableness of said rates and charges. The Order required the Company to adopt and implement the Commission's Consumer Relations Rules, the Commission's Utility Customer Information Rules, and an accounting system consistent with the information required by the Commission's annual report for small water companies. Finally, the Order required the Company to make written Application to the Commission prior to any proposed change in ownership of the water system. The Commission Staff submitted a production request to the Company on September 27, 2001 seeking financial and operating data from the Company. The Company failed to respond to this production request. The Company further failed to respond to Commission Order No. 28845 discussed above. Commission Order No. 28903 (issued November 28, 2001) found that the Company had failed to comply with either the directives of Order No. 28845 or the Staff production request. Order No. 28903 established an interim rate, effective December 1, 2001, of $20 per month based upon the statewide average rate for small flat-rate water systems. The Order required the Company to comply with the requirements of Order No. 28845 and respond to the Staff's production request no later than December 12, 2001. The Order contained a section entitled "Enforcement Powers and Penalties" that set forth the Commission's powers vested by Idaho Code §61-706, §61-707 and §61-709. Commission Order No. 28911, dated December 6, 2001, established a Show Cause Hearing for Monday, December 17, 2001 in Sandpoint, Idaho. The purpose of the hearing was to permit Mr. Cobott to show cause (if any) why the $20 per month flat rate established by Order No. 28903 was not reasonable and to take public comment from customers regarding the water service. The Commission vacated the Show Cause Hearing on December 14, 2001 by Order No. 28917 based upon information that Mr. Cobott most likely was out of town and would not attend the hearing. This Order authorized the issuance of Certificate of Convenience and Necessity Number 393 to the Company and reiterated its findings and directive of prior Orders. In January of 2002, the Commission Staff received copies of a letter dated December 30, 2001 mailed to customers by Mr. Cobott informing them that a water system association was being formed that would take control of the system effective January 1, 2002. Customers had contacted the Staff expressing distrust in the new association as a gimmick to bypass the Commission's jurisdiction while making no change in the control, operation or management. Staff Counsel sent Mr. Cobott a letter dated January 4, 2002 informing him that Orders of the Commission are law until changed by the Commission and reiterating the Commission's language in Order No. 28845 "…to make written petition or application to the Commission prior to any proposed change in ownership of the Ponderosa Terrace Estates Water System Inc." Subsequently, Staff has met personally with the owners of the water system on February 11 and again on March 30, 2002. At the March 30 meeting, Mr. Cobott brought numerous financial documents with him for Staff's review. The final piece of information, a depreciation schedule, was supplied to Staff on April 10, 2002. Staff notes that the most recent entries in the depreciation schedule are for the year 1997. CURRENT DEVELOPMENTS Staff has received numerous phone calls and faxes over the weekend of May 4 and 5, 2002 and several the morning of Monday May 6, 2002 from customers and from Bonner County Commissioner Brian Orr. This correspondence once again addresses a letter sent to customers dated Saturday, May 4, 2002 (Attachment No. 1, 3 pages). The letter informs customers that the Ponderosa Terrace Water System Inc. "…will discontinue doing business as a public water system on May 5, 2002", and further "This public water system will be shut down on [Sunday] May 5, 2002." Customers have informed Staff that this language meant that the on-site water system operator, Larry Fairfax, had been given instructions to physically shut the system pumps off. Apparently this did not occur. The May 4 letter goes on to state that Mr. Cobott is "…going to start a privately owned water system on May 10, 2002." According to the letter the purpose of the new "…business is to provide water service only to lots in Ponderosa Terrace Estates and the surrounding properties owned by Robaer Cobott and Zaderea Raphael." Incorporated in the letter and as an attachment (See Attachment No. 1, pages 2 and 3) is an offer to sell shares of ownership in the new water system. Each lot is entitled to purchase one share for $500 if paid in advance or $560 if paid over a 12-month period. Four hundred shares will be issued with Robaer Cobott and Zaderea Raphael retaining 300 shares. There are only 87 properties within the subdivision. Of those lots, the water system owners directly own 17 lots. Ownership of a couple of other lots is questionable. Therefore it appears to Staff that only 70 shares could possibly be sold to unrelated property owners. The offer to sell shares at the $500 price is only valid until June 15, 2002. After that date the price of a share increases to $2,500. Property owners in the subdivision must be a shareowner in order to receive water service. Also attached to this memorandum (Attachment No. 2) is a copy of a letter received by the Commission from Mr. Cobott on May 6, 2002 by facsimile transmission. In this letter, Mr. Cobott states that the Ponderosa Terrace Estates Water Company is going to have to go out of business because of the rates set by this Commission. He states that revenues are down 90 to 95%. Staff notes that several customers have contacted the Commission Staff concerned that the Company was not billing them. They have indicated that they will not make payments unless they receive a bill. Staff has verified by telephone conversation with Mr. Cobott that indeed this is the case. He has not and will not mail bills to customers with the $20 per month charge approved by the Commission. He does not agree with that rate and will not send a bill that makes it appear he accepts the Commission's authorized rates. Customers have indicated to Staff that they are aware that they owe the Company for their water service and will pay when they receive a proper bill. Staff believes these letters are inappropriate and in violation of prior Commission Orders directing the Company to first file an application with the Commission before taking any action to change ownership of the system. The utility is attempting to withhold water service from the customers unless they purchase a minority interest in the system while control remains with the current owners. It appears the Company is also trying to manipulate and circumvent the authority of the Idaho Public Utilities Commission. FINANCIAL POSITION Staff has completed a cursory review of the financial position of the Company based upon the material submitted by Mr. Cobott. Attachment No. 3 is one-page schedule that calculates the revenue requirement for this system. Staff refers to this analysis as cursory due to the large amount of data that appears to be somewhat arbitrary. Staff has adjusted some of the data for what appears to be unreasonable costs charged to the water system. Staff eliminated a one time non-recurring charge of $1,417.20 for refinancing costs on the owners' home. Staff eliminated $271.70 as a non-recurring charge for computer memory upgrade. Staff reduced the Company's proposed $3,600 home office rent allowance to $1,200 based upon commercial office rental in the Sandpoint area as posted on the web site of "Sandpoint Property Management". These rental prices include utilities; therefore Staff has eliminated the Company's proposed office heat allowance of $340.55 and Office electricity of $402. The Company assigned $5,520 as the water company's share of payments on the owners' home mortgage. Staff eliminated this item. The water company's share of this cost is covered by Staff's allowed return at 12%, assuming 100% equity, on the cost of the new well placed in service with proceeds from the refinance. Staff reduced the Company's proposed $9,000 allowance for Mr. Cobott's management fee to $4,160. The proposed Staff allowance is based upon an average of 4 hours per week at a rate of $20 per hour. Staff believes this allowance is quite generous based upon its experience trying to contact Mr. Cobott and similar experiences reported to Staff by customers. Staff eliminated a line item entitled "Monthly Profit" proposed by the Company in the amount of $3,600. This item appears to be completely arbitrary. Profit is covered by Staff's allowed return at 12% on the cost of the new well placed in service. Staff has added a depreciation expense of $963.87 for the new well that was not included in the data the Company provided. Staff advanced the Company provided depreciation schedule for the missing years 1998 through 2001 and determined that all investments other than the new well have been fully depreciated. Staff does recommend the acceptance of the Company's proposed $200 per month maintenance reserve fee. The Company should be on notice that this needs to be a funded reserve placed in a bank account and not drawn for a purpose other than maintenance of the water system. Staff's calculations, after review of the Company data, produce a total annual revenue requirement for this Company of $25,282.41. RATE DESIGN Staff appreciates the position the Company is in when finding a way to distribute the total revenue requirement equitably among its customers. Traditional ratemaking procedures and policies assume that an individual (household) should not pay for a commodity they do not receive. When electric service, gas service and telephone service is disconnected, billing stops. The same holds true for water companies. However, more small water systems (like Ponderosa Terrace Estates) are coming to the Commission's attention that were constructed to serve a second vacation home style development. The majority of these systems are maintained by a homeowners association through monthly dues to pay for them along with roads, recreational facilities and other common areas. Designing rates for a regulated stand-alone water system to recover the cost of operating and maintaining the system involves what appear to be two diametrically opposing inequities. The traditional approach, where a customer does not pay for a commodity during a period of disconnection, shifts the burden of supporting the entire system onto those customers who are connected to the system the most. This is not a problem on a large system with a diverse population. When this occurs on a small customer base system, the cost shift can be burdensome. Ponderosa Terrace Estates was constructed in the late 1960's to serve 87 properties. Now, thirty years later, only 28 properties are developed and utilized full time. Some properties are used for a week or a month a year and are not occupied the remainder of the year. Ponderosa Terrace Estates Water Company is somewhat unique. Each lot in the subdivision is equipped with a customer service line and most (if not all) also have a frost-free water hydrant installed on the property. Any property owner has the ability to connect a recreational vehicle to the water hydrant and begin consuming water in a matter of minutes without any contact with the Company. Several of the property owners have reported owning one or more lots purchased years ago either on speculation (an investment) or for future use as a retirement property. Staff's 3 page Attachment No. 4, presents three possible rate design scenarios. Staff has determined that to recover the entire revenue requirement from the permanent customers would produce a monthly flat rate of $75.25. (Option 1) In this case the permanent customers are bearing all the cost of the system and those property owners who are not utilizing the system are not paying any of the fixed costs of maintaining the system even though it is available for service when they desire. An approach similar to the homeowner association structure (Option 2) would charge all property owners a pro-rata share of the cost of maintaining the system. Staff has discussed converting this system to a homeowner association structure but neither the owners nor the customers are receptive of the idea. In lieu of a conversion to an association, Staff has calculated a surrogate rate design approach to emulate an association. Note that an association would in most cases operate at a lower cost with volunteer labor (management) and no return requirement once a reserve for contingencies were established. Staff's approach was to allocate all fixed costs (not subject to fluctuation with volume consumed) to all 87 properties and allocate variable costs (subject to fluctuation with volume consumed) to the 28 connected customers. This approach produces a fixed rate to all customers of $21.95 per month and an additional $7.04 per month variable cost charge to the connected customers or $28.99 per month. Staff rate Option 3 addresses the water system's inability to provide sufficient water supply to serve all 87 properties on a full-time basis. Staff has reviewed the Tucker Engineering Water Disinfection System Report and the supply well logs for the development. These documents indicate that current system supply capacity is approximately 25 gallons per minute. Staff calculates that the maximum number of full-time customers that could be served by the existing system is 37 customers. Staff Option 3 provides rates reflective of the limited water supply. Option 3 rates are determined in three steps. First the variable costs associated with water consumption are distributed to the full-time customers similar to Option 2. Second the fixed costs are allocated to the maximum number of full-time customers (37) that could be connected to the existing water supplies. Since the existing 28 full-time customers are in this category, steps one and two establish the rates for the full-time customer class ($58.50/month). Staff is unaware if any of the remaining properties will convert to full-time customers in the near future. Therefore, the third step equally allocates the revenue requirement not collected by the full-time customers to the remaining 59 properties, which amounts to $8.00/month. Staff believes the Option 3 rate design appropriately allocates the cost to customers based upon the impact the class of customer has on the system. Since the system will not be able to serve the remaining 59 customers on a full-time basis, they are not fully allocated the fixed costs. This option also provides a price signal regarding the system capacity limitations and further emphasizes the current Commission restriction on new full-time hookups. DECISION 1. Staff recommends that the Commission initiate whatever action is necessary to make the owners of this water system heed the authority and Orders of the Commission. Given the past experience with this Company, Staff believes Option c below is merited. What direction does the Commission wish to take? a. Initiate a civil complaint against the Company and its owners individually? b. Issue a Notice of Hearing and direct the Owners to show cause why this Commission should not initiate a civil complaint as in a. above. c. Issue an Order directing the owners to comply with all previous orders of the Commission? d. Something else? 2. Given the unique physical construction of this company and the ability of any property owner to take water at any time, Staff recommends the Commission adopt rate design Option 3 below. Staff proposes a rate design for this system that appropriately allocates the cost to customers based upon the limited system supply and the impact the class of customer has on the system. Option 3 also provides a price signal regarding the system capacity limitations and further emphasizes the current Commission restriction on new full-time hookups. Which rate design option does the Commission prefer for this company? Option 1. Allocate all cost only to permanent connected customers at $75.25 per month? Option 2. Allocate all fixed costs to all property owners and allocate variable costs only to connected customers? Property owners not taking service $22.00 Per month Property owners connected and taking service $29.00 Per Month Option 3. Allocates all costs based on the impact the customer has on the system. Property owners not taking service $ 8.00 Per month Property owners connected and taking service $58.50 Per Month 3. Staff recommends that the rates approved by the Commission be made effective on an interim bases for service on and after June 1, 2002. Staff further recommends that the Company and the customers be given an opportunity to comment on the reasonableness of the rates which would be made permanent or modified by the Commission after review of any Comments received. a. Does the Commission agree with this proposal? b. Should the rates be made permanent only subject to change by a rate review request by the Company or Complaint by the Customers? 4. Staff recommends that the Company be directed to mail statements of accounts to all customers reflecting charges approved by the Commission of $20 per month for the period December 2001 through May 2002. Does the Commission agree with this recommendation? ______________________________ Bob Smith udmemos/may 6 02 decision memo