Gold Canyon Sewer Co. v. Ariz. Corp. Comm'n
| Decision Date | 20 May 2010 |
| Docket Number | 1 CA-CC 09-0001,1 CA-CC 09-0002 |
| Parties | GOLD CANYON SEWER COMPANY, an Arizona corporation, Appellant, v. ARIZONA CORPORATION COMMISSION, an agency of the State of Arizona, Appellee, and RESIDENTIAL UTILITY CONSUMER OFFICE, Intervenor/Appellee. |
| Court | Court of Appeals of Arizona |
GOLD CANYON SEWER COMPANY, an Arizona corporation, Appellant,
v.
ARIZONA CORPORATION COMMISSION, an agency of the State of Arizona, Appellee,
and
RESIDENTIAL UTILITY CONSUMER OFFICE, Intervenor/Appellee.
1 CA-CC 09-0001
1 CA-CC 09-0002
COURT OF APPEALS STATE OF ARIZONA DIVISION ONE DEPARTMENT D
FILED: May 20, 2010
NOTICE: THIS DECISION DOES NOT CREATE LEGAL PRECEDENT AND MAY NOT BE CITED EXCEPT AS AUTHORIZED BY APPLICABLE RULES. See Ariz. R. Supreme Court 111(c); ARCAP 28(c); Ariz. R. Crim. P. 31.24
(Consolidated)
(Not for Publication-Rule 28, Arizona Rules of Civil Appellate Procedure)
ACC No. SW-02519A-06-0015
Fennemore Craig
By Norman D. James
and Jay L. Shapiro
Attorneys for Appellant
Phoenix
Arizona Corporation Commission
By Robin R. Mitchell
and Ayesha Vohra
Attorneys for Appellee
Phoenix
Page 2
Residential Utility Consumer Office
By Daniel W. Pozefsky
and Michelle L. Wood
Attorneys for Intervenor/Appellee
Phoenix
THOMPSON , Judge
¶1 In this consolidated appeal, Gold Canyon Sewer Company ("Gold Canyon") appeals from decision numbers 70624 and 70662 of the Arizona Corporation Commission ("the Commission"). For the following reasons, we affirm.
¶2 In January 2006, Gold Canyon filed an application with the Commission for an increase in its rates for wastewater utility service provided to customers in Pinal County. In setting rates, the Commission generally determines the original cost rate base ("OCRB")1 and the reconstructed cost new ("RCND")2 rate base and then takes the average of the two to determine the fair value rate base ("FVRB"). See Litchfield Park Serv. Co. v.
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Ariz. Corp. Comm'n, 178 Ariz. 431, 434-35, 874 P.2d 988, 991-92 (App. 1994). In this case, Gold Canyon did not request an RCND, so the Commission adopted the OCRB as Gold Canyon's FVRB. In addition to the FVRB, the Commission also finds the weighted average cost of capital ("WACC"). It first determines the capital structure of the company, which is the percentage of debt and the percentage of equity. It multiplies the percentage of debt with the cost of debt to find the weighted average cost of debt and multiplies the percentage of equity with the cost of equity to find the weighted average cost of equity. It then adds these two products to determine the WACC, which is used as the rate of return. The rate of return represents the income earned by a utility after operating expenses. Turner Ranches Water & Sanitation Co. v. Ariz. Corp. Comm'n, 195 Ariz. 574, 576 n.2, 991 P.2d 804, 806 n.2 (App. 1999). The rate of return is then applied to the rate base to establish rates. Scates v. Ariz. Corp. Comm'n, 118 Ariz. 531, 534, 578 P.2d 612, 615 (App. 1978).
¶3 Prior to filing the application for a rate increase, Gold Canyon had been expanded and upgraded from a capacity of 1 million gallons per day (mgd) to 1.9 mgd. In the test year ending October 31, 2005, Gold Canyon had an FVRB/OCRB of $15,742,719. Intervenor-appellee Residential Utility Consumer
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Office ("RUCO")3 argued that the FVRB/OCRB rate base should be adjusted downward because the treatment plant upgrade resulted in excess capacity--specifically that available plant capacity that exceeded the amount necessary to serve its existing customers. While agreeing that Gold Canyon's decision to expand the plant to 1.9 mgd was prudent and appropriate based on growth projections at the time, RUCO contended that that portion of the plant that was not used and useful should not be included in the rate base for ratemaking purposes. RUCO sought a reduction of $2,789,016 of the FVRB/OCRB rate base to $13,983,602.
¶4 In Decision No. 69664, the Commission rejected RUCO's proposal, finding that, if the decision to upgrade to 1.9 mgd was prudent, Gold Canyon should not be subject to the decrease. The Commission noted that the minimum expansion that Gold Canyon could have implemented was 0.5 mgd to a total capacity of 1.5 mgd and that adding the additional 0.4 mgd was more economical than incremental upgrades, with the 0.4 mgd costing less than $1,000,000. The Commission further observed that, had Gold Canyon expanded the plant in smaller increments to avoid the excess capacity disallowance, it would have needed to start planning another incremental expansion almost immediately to
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meet ongoing demand increases, which would have resulted in higher costs to customers and the inconvenience to customers of ongoing construction activity.
¶5 The Commission adopted the recommendation of the Commission Utilities Division ("Staff") of a somewhat reduced rate base of $15,725, 787. With respect to the cost of capital determination, Staff and Gold Canyon proposed a 100 percent equity capital structure based on Gold Canyon's actual capital structure. RUCO proposed a hypothetical capital structure of forty percent debt and sixty percent equity. RUCO expert William Rigsby testified that the adoption of the hypothetical capital structure was appropriate because Gold Canyon's actual capital structure resulted in a lower level of risk. Rigsby derived an estimated return on equity of 8.6 percent based on a sample group of companies with a capital structure of approximately fifty percent debt and fifty percent equity. The Commission adopted the 100 percent equity capital structure proposed by Gold Canyon and Staff. The Commission noted, "[Gold Canyon's] actual capital structure is comprised of 100 percent paid in capital. In fact, the plant in Gold Canyon's rate base is financed entirely by equity. Although RUCO's proposed hypothetical capital structure would result in lower rates to customers, that fact does not justify adoption of RUCO's recommendation."
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¶6 Staff recommended a cost of equity of 9.2 percent. Staff derived that number by applying two financial models to six sample water companies for an average of 10.2 percent. Staff then adjusted the number down 100 basis points to account for Gold Canyon's "financial risk being less than that of the sample companies," resulting in a proposed cost of equity of 9.2 percent.
¶7 Gold Canyon sought a cost of equity of 10.5 percent using six proxy companies. RUCO advocated a cost of equity of 8.6, also based on a sample group of companies. RUCO argued that the lower rate was reasonable because of the lower risk associated with Gold Canyon's proposed 100 percent equity capital structure, which would require a lower expected return on common equity.
¶8 The Commission adopted the Staff's recommendation of a cost of equity of 9.2 percent, which, because of the 100 percent equity capital structure, also represented a 9.2 percent cost of capital. The Commission found Staff's approach to be reasonable and consistent with prior Commission decisions, noting that the methodologies used by Staff had been used for many years by the Commission. The Commission's finding of a rate base of $15,725,787 and return of 9.2 percent resulted in a gross revenue increase for Gold Canyon of $1,798,999.
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¶9 Decision No. 69664 was adopted by a vote of three commissioners in favor and two dissenting. RUCO filed an application for rehearing. RUCO argued that the rates approved by the Commission resulted in a 72.02 percent revenue increase, which was unfair to ratepayers. RUCO asserted that the Commission's decision favored Gold Canyon's interest over the interest of ratepayers, and pointed out that Gold Canyon's former president had assured ratepayers that the improvements to the plant would not cause an increase in rates. RUCO argued that the Commission should reconsider RUCO's position that the plant had excess capacity that should be excluded from the rate base. RUCO contended that the question was whether current or future ratepayers should pay for the additional capacity, arguing that under the Commission's decision, current ratepayers would be required to pay for the additional capacity whether it was used or not, burdening current ratepayers with the risk of future growth. RUCO also argued that its proposed hypothetical capital structure would bring Gold Canyon's capital structure in line with the industry average and would result in lower rates for ratepayers. Because Gold Canyon had a capital structure of 100 percent equity, RUCO argued, it had extremely low to no financial risk and would therefore also have a lower expected return on common equity, making adoption of the proposed hypothetical capital structure appropriate. RUCO asserted that
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Gold Canyon's and Staff's claim that using a hypothetical capital structure would not allow Gold Canyon an adequate level of income tax expense was disingenuous because the expense typically falls on the ratepayers.
¶10 At an open meeting, the Commission discussed RUCO's application for rehearing and the scope of that rehearing. The Commission granted RUCO's application for rehearing on RUCO's proposed rate base reduction for excess capacity and its proposed hypothetical capital structure including cost of equity. The Commission accepted additional filed testimony and conducted a rehearing.
¶11 The administrative law judge issued a Recommended Opinion and Order ("ROO") affirming Decision No. 69664. One commissioner offered two...
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