BILL ANALYSIS �
SENATE GOVERNANCE & FINANCE COMMITTEE
Senator Lois Wolk, Chair
BILL NO: SB 936 HEARING: 4/2/14
AUTHOR: Monning FISCAL: Yes
VERSION: 3/10/14 TAX LEVY: No
CONSULTANT: Weinberger
WATER RATE RELIEF BONDS
Allows the Monterey Peninsula Water Management District and
other financing entities to issue water rate relief bonds
to finance water supply infrastructure.
Background and Existing Law
Created by a special act in 1977 and formed with local
voter approval in 1978, the Monterey Peninsula Water
Management District (MPWMD) covers six cities
(Carmel-by-the-Sea, Del Rey Oaks, Monterey, Pacific Grove,
San City, Seaside) plus unincorporated territory (AB 1329,
Mello, 1977). MPWMD is governed by a seven-member Board of
Directors. Five directors are elected from voter
divisions, one director is a member of the Monterey County
Board of Supervisors, and one director is an elected
official or chief executive officer appointed by a
committee comprised of mayors from cities within the
District boundaries. MPWMD is responsible for augmenting
water supply through integrated management of ground and
surface water resources, promoting water conservation,
water reuse, storm and wastewater reclamation, and
fostering scenic values, environmental quality, native
vegetation, fish and wildlife, and recreation. The
Monterey Peninsula's retail water service comes from the
California-American Water Company (Cal-Am), an investor
owned utility regulated by the California Public Utilities
Commission (CPUC).
In 1995, the State Water Resources Control Board (SWRCB)
ordered Cal-Am to develop an alternative water supply to
replace a significant portion of the water supply that
Cal-Am diverts from the Carmel River system. A 2009 Cease
and Desist Order issued by the SWRCB imposes a deadline on
Cal-Am to sharply reduce its diversion of water from the
Carmel River. To expand alternative water supplies,
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Cal-Am is proposing, through a proceeding that is before
the California Public Utilities Commission (CPUC), to
construct a desalination plant, and possibly invest in
groundwater recharge projects, on the Monterey Peninsula.
A July 31, 2013 settlement agreement among parties to the
CPUC proceeding specifies conditions under which Cal-Am can
develop, construct, operate, and finance its proposed
Monterey Peninsula Water Supply Project (MPWSP). The
settlement agreement provides that a tax-exempt
securitization mechanism will be used to finance part of
the proposed MPWSP.
Rate relief bonds - which are sometimes called rate
reduction bonds - are asset-backed securities that are
structured to minimize borrowing costs by qualifying for
AAA credit ratings. AAA ratings allow a utility to borrow
funds at an interest rate that is well below the rate that
would otherwise apply to that utility's long-term debt. To
qualify for AAA ratings, rate relief bond financing
typically includes:
Statutory authority to impose a dedicated charge on
utility customers to repay the bonds.
A requirement that the bonds must be issued, and
the dedicated charge must be imposed, by a "bankruptcy
remote special purpose entity."
A "true-up" mechanism by which charges collected to
pay debt service are regularly adjusted to ensure that
bonds are paid off at the final maturity date.
A pledge made by the state not to impair the right
to collect charges until bonds are paid in full.
The rate relief bond securitization structure was
introduced in response to electricity market deregulation
in the 1990s to allow investor-owned-utilities in
deregulated markets to recover so-called "stranded" costs
of investments the utilities made before deregulation. For
example, California's investor-owned electric utilities
used rate relief bonds when the state restructured its
energy industry. In that instance, the California
Infrastructure and Development Bank (I-Bank) formed a trust
that issued the bonds on behalf of the utilities. More
recently, other states have adopted statutes allowing
investor owned utilities to use rate relief bond financing
for other purposes.
Public officials from the Monterey region want the
Legislature to authorize MPWMD and Cal-Am to use rate
SB 936 -- 3/10/14 -- Page 3
relief bonds to finance some of the costs of a new
desalination plant and other elements of the proposed
Monterey Peninsula Water Supply Project.
Proposed Law
Senate Bill 936 allows the California American Water
Company (Cal-Am) and the Monterey Peninsula Water
Management District (MPWMD) to use water rate relief bonds
to finance the acquisition and construction of
infrastructure and plants, including desalination
facilities, pipelines, and other facilities, to develop new
water supply sources. Specifically, SB 936:
I. Authorizes the recovery of project costs through water
supply charges.
II. Authorizes financing entities, including MPWMD, to
issue rate relief bonds.
III. Creates a statutory lien on property related to rate
relief bonds.
IV. Shields rate reduction bonds from bankruptcy cases.
V. Defines terms used in the bill.
VI. Makes other declarations and conforming changes to
state law.
I. Water supply charges . Senate Bill 936 defines water
supply charges as nonbypassable rates and other charges,
including distribution, connection, disconnection, and
termination charges, authorized by a CPUC financing order
to recover water supply costs and all financing costs
specified in a financing order.
Senate Bill 936 specifies the process by which Cal-Am can
apply to the CPUC for a determination, in a financing
order, that some or all of Cal-Am's water supply costs can
be recovered through water supply charges. Cal-Am's
financing order application must specify how customers may
benefit from reduced rates on a present value basis through
the issuance of water rate relief bonds as compared to the
use of traditional utility financing mechanisms.
Senate Bill 936 allows the CPUC, in response to an
application, to issue a financing order that authorize the
imposition and collection of water supply charges to
facilitate the recovery, financing, or refinancing of water
supply costs. The CPUC must determine, as part of the
SB 936 -- 3/10/14 -- Page 4
financing order, that imposing and collecting the water
supply charges, and issuing water rate relief bonds payable
from those charges, would reduce the rates on a present
value basis that customers within the qualifying water
utility's service territory would pay as compared to the
use of traditional utility financing mechanisms.
SB 936 requires the CPUC, in any financing order, to
provide for a procedure for the expeditious approval by the
commission of periodic adjustments to the water supply
charges that are the subject of the financing order to
ensure the full and timely recovery of all water supply
costs and all financing costs authorized for recovery under
the financing order.
SB 936 requires that any surplus water supply charges in
excess of the necessary amounts to pay the principal
premium, if any, and interest on the water rate relief
bonds and all other financing costs must be credited to
customers through the adjustment mechanism established by a
financing order or used to prepay or defease water rate
relief bonds, as specified.
SB 936 contains provisions that:
Require water supply charges to be non-bypassable
charges.
Require customers to pay water supply charges until
the water rate relief bonds and all financing costs
are paid.
Require timely and complete payment of all water
supply charges and specify collection procedures.
Make water supply charges irrevocable.
Prohibit the reduction, impairment, or adjustment
of water supply charges, with specified exceptions.
Define the conditions under which a water supply
charge constitutes a water supply property.
II. Rate relief bonds . SB 936 defines "water rate relief
bonds" as bonds or other evidences of indebtedness or
ownership issued by either or both of the following:
Cal-Am, or its subsidiary or affiliate, as
authorized by the CPUC to issue water rate relief
bonds, or acquire water supply property, or both,
pursuant to a financing order.
MPWMD, a joint exercise of powers authority in
which MPWMD is a member, or another public agency that
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is authorized to issue water rate relief bonds, or
acquire water supply property, or both, pursuant to a
financing order.
The bill requires that water rate relief bond proceeds must
be used, directly or indirectly, to provide, recover,
finance, or refinance water supply costs and financing
costs, and that the bonds must be directly or indirectly
secured by, or payable from, water supply property. SB
936 allows water rate relief bonds to be issued
simultaneously by two financing entities.
SB 936 allows financing entities to issue water rate relief
bonds upon approval by the CPUC in a financing order. The
bill requires that:
Rate relief bonds must be non-recourse to the
credit or any assets of Cal-Am, other than the water
supply property as specified in the financing order.
Cal-Am must place proceeds from water rate relief
bonds in a separate account and use the proceeds only
for specified purposes.
The bill declares that Cal-Am's failure to apply the
proceeds of water rate relief bonds in a reasonable,
prudent, and appropriate manner or otherwise comply with
the bill's provisions does not invalidate, impair, or
affect any financing order, water supply property, water
supply charges, or water rate relief bonds. SB 936
contains several reporting, audit, and accountability
provisions related to Cal-Am's use of water rate relief
bond proceeds.
SB 936 specifies the conditions under which Cal-Am is
authorized to sell or assign its interest in water supply
property to an affiliate or other financing entities.
SB 936 declares that neither financing orders nor water
rate relief bonds issued under its provisions constitute a
debt or liability of the state or of any political
subdivision of the state except a public financing entity,
nor do they constitute a pledge of the full faith and
credit of the state or any of its political subdivisions,
but are payable solely from the funds provided for under
the bill's provisions. The bill requires a water rate
relief bond to contain, on the face of the bond, a
statement to the following effect: "Neither the full faith
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and credit nor the taxing power of the State of California
is pledged to the payment of the principal of, or interest
on, this bond."
SB 936 declares that the issuance of water rate relief
bonds under its provisions does not directly, indirectly,
or contingently obligate the state or any political
subdivision of the state to levy or to pledge any form of
taxation or to make any appropriation for their payment.
SB 936 allows MPWMD to issue water rate relief bonds for
the purpose of purchasing water rate relief bonds issued by
another financing entity pursuant to a CPUC financing order
authorized by the bill, to fund any necessary reserves and
to pay the costs of issuance of the water rate relief
bonds. The bill prohibits MPWMD from issuing the bonds
unless the CPUC finds in the financing order that the
issuance, due to the availability of a federal or state
income tax exemption, will provide savings to water
customers on the Monterey Peninsula. The bonds issued by
MPWMD must:
Be denominated "Monterey Peninsula Water Management
District Water Rate Relief Bonds," and
Have designations, details, and terms, be payable
at times and places, and be sold in a manner
determined by the board.
SB 936 directs that the bonds must be special limited
obligations of MPWMD, payable solely from payments made on
the water rate relief bonds purchased with the proceeds of
the MPWMD bonds and any reserve funded from the proceeds of
those bonds. The bonds are not be payable from any other
MPWMD funds or assets, and neither the full faith and
credit nor taxing power of MPWMD can be pledged to or
exercised for the payment of the bonds.
III. Statutory lien . SB 936 declares that upon the
effective date of the CPUC's financing order, a first
priority statutory lien exists on all water supply property
to secure the payment of the water rate relief bonds. The
lien arises pursuant to state law automatically, without
any action on the part of Cal-Am, any affiliate, the
issuing entity, or any other person. Senate Bill 936
details conditions that apply to the sale, transfer, or
assignment of water supply property and contains additional
provisions relating to property secured by the lien and the
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lien's validity and enforceability.
IV. Bankruptcy . SB 936 prohibits MPWMD, or a JPA that
issues water rate relief bonds, from filing for bankruptcy
as long as rate relief bonds issued by the district or JPA
and related financing costs are outstanding and remain
unpaid. The bill directs that MPWMD, or a JPA, must remain
ineligible to file for bankruptcy for one year and one day
after bonds and costs have been fully paid.
V. Definitions . SB 936 defines several terms that are
used throughout the bill, including:
"Financing costs" means the costs to issue, service, repay,
or refinance water rate relief bonds, whether incurred or
paid upon issuance of the bonds or over the life of the
bonds, and approved for recovery by the CPUC in a financing
order.
"Financing costs" may include:
Principal, interest, and redemption premiums that
are payable on water rate relief bonds.
A payment required under an ancillary agreement and
an amount required to fund or replenish a reserve
account or other account established under an
indenture, ancillary agreement, or other financing
document relating to the water rate relief bonds.
Costs of retiring or funding an existing debt and
equity security of Cal-Am in connection with the
issuance of water rate relief bonds to the extent the
securities were issued for the purpose of financing
water supply costs.
Costs incurred by, on behalf of, or allocated to,
Cal-Am to modify or amend specified security
agreements or costs incurred by or allocated to Cal-Am
to obtain the consent, release, waiver, or approval
from the holder of the obligation, that are necessary
to permit Cal-Am to issue water rate relief bonds.
Taxes, franchise fees, or license fees imposed on
water supply charges.
Costs related to issuing and servicing water rate
relief bonds or the application for a financing order
Other costs authorized by a financing order.
"Financing order" means a CPUC order adopted in accordance
with the bill, which must include, without limitation, a
procedure to require the expeditious approval by the
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commission of periodic adjustments to water supply charges
to ensure the full and timely recovery of all water supply
costs and all financing costs authorized for recovery under
the financing order.
"Water supply activity" means an activity or activities by
or on behalf of a qualifying water utility in connection
with the acquisition and construction of infrastructure,
plants, including, without limitation, desalination
facilities, pipelines, and other facilities, to develop new
sources of supply.
"Water supply costs" means any reasonable and necessary
costs, including capitalized interest costs relating to
regulatory assets and capitalized costs associated with
permitting, design, and engineering work, approved in a
financing order, incurred or expected to be incurred by
Cal-Am in undertaking water supply activities. Water
supply costs include expenses and investments associated
with water supply activities that are incurred before the
CPUC issues a financing order and that are to be reimbursed
from water rate relief bond proceeds.
"Water supply property" means the property right created
pursuant to this article, including, without limitation,
the specified right, title, and interest:
In and to the water supply charges established
pursuant to a financing order, including all rights to
obtain adjustments to the water supply charges in
accordance with a specified statute and the financing
order.
To be paid the amount that is determined in a
financing order to be the amount that the qualifying
water utility or its transferee is lawfully entitled
to receive pursuant to the provisions of this article
and the proceeds thereof, and in and to all revenues,
collections, claims, payments, money, or proceeds of
or arising from the water supply charges that are the
subject of a financing order.
VI. Other provisions . Senate Bill 936 requires a
successor to Cal-AM, to perform and satisfy all of Cal-Am's
obligations pursuant to the bill's provisions in the same
manner and to the same extent as Cal-Am, including,
collecting and paying to the holders of water rate relief
bonds or any financing entities or their pledgees revenues
SB 936 -- 3/10/14 -- Page 9
arising with respect to the water supply property sold to
the applicable financing entity or pledged to secure water
rate relief bonds.
Senate Bill 936 exempts security interests created pursuant
to the bill from Civil Code provisions regarding the
transfer or assignment of security interests as to third
parties/creditors and Commercial Code provisions related to
security interests.
Senate Bill 936 provides for expedited and limited
rehearing and judicial review of CPUC decisions pursuant to
the bill. A request for rehearing must be filed within 10
days after the CPUC issues an order or decision. The CPUC
must act on the request within 20 days. Petitions for
judicial review are limited to the Supreme Court and must
be filed within 30 days after specified CPUC actions.
SB 936 makes additional conforming and clarifying changes
to state law. The bill contains extensive legislative
findings and declarations regarding the need to finance new
water supply infrastructure on the Monterey Peninsula. SB
936 directs that its provisions are severable.
State Revenue Impact
No estimate.
Comments
1. Purpose of the bill . Various regulatory and legal
constraints on Cal-Am's ability to obtain water from its
current sources are creating an urgent need to develop new
sources of water for the Monterey Peninsula. In response,
Cal-Am is proposing to construct a desalination plant and
additional conveyance and storage facilities, which may
cost nearly $400 million. Financing water infrastructure
projects with rate relief bonds will produce lower
borrowing costs for these vitally-needed water supply
infrastructure projects. Rate relief bonds are tax-exempt
public debt instruments and are structured to obtain a high
credit rating. As a result, financing project costs with
the bonds will reduce the rates that water customers will
pay compared to the rates they would pay if the water
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infrastructure had been financed using more traditional
financing mechanisms. SB 936's provisions are nearly
identical to the rate reduction bond statutes that
legislators enacted for investor-owned electric utilities
(AB 1890, Brulte, 1996; SB 477, Peace, 1997; and SB 772,
Bowen, 2004). The bill is also similar to legislation
enacted last year authorizing specified public water
agencies to use rate reduction bond financing (AB 850,
Nazarian, 2013). SB 936 relies on this established
financing method to help reduce the charges that Monterey
businesses and residents will pay to cover the costs of
extensive water infrastructure improvements.
2. Shifting risk . SB 936's use of a bankruptcy-remote
special purpose entity to issue rate reduction bonds
insulates bondholders from potential insolvency of Cal-Am.
This structure allows for higher bond ratings and lower
costs of debt issuance. However, by protecting rate
reduction bondholders from becoming creditors if Cal-Am
files for bankruptcy protection, the bill may increase the
risks borne by vendors, employees, investors holding other
forms of debt, and other potential creditors in a
bankruptcy proceeding. It is unlikely that SB 936's
bankruptcy-remoteness provisions will be necessary to
shield bondholders from a bankruptcy case. However, in the
event that Cal-Am does become insolvent, it is unclear
whether state law should shield some potential creditors,
leaving a smaller pool of remaining creditors to bear the
costs of restructuring.
By requiring ratepayers to cover a share of the costs of a
desalination plant and other water supply facilities
through a separate, irrevocable, non-bypassable charge, SB
936 increases ratepayers' exposure to risks associated with
the construction and operation of that water supply
infrastructure. The bill requires ratepayers to pay the
water supply charge that secures the rate relief bonds even
if the infrastructure that is financed fails to function
properly or is unusable because of design flaws,
construction failures, or operational problems. It is
unclear whether the potential - but not guaranteed - lower
rates that securitization may generate justify shifting a
greater share of project risks to ratepayers.
3. Additional oversight . Recent experiences in the
financial markets demonstrate that complex
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structured-financing mechanisms that receive AAA ratings
don't always work as expected and can harbor unanticipated
risks. The type of securitization financing SB 936
authorizes has never been used to finance the types of
water supply projects described in the bill. Fundamental
assumptions underlying MPWMD's decision to issue rate
reduction bonds may prove to be flawed. A CPUC finding
that ratepayers will pay lower overall rates as a result of
rate relief bond financing is no guarantee that ratepayers
will actually realize those savings. Allowing Cal-Am to
use off balance-sheet accounting for assets involved in
rate relief bond financing may distort measures of the
utility's fiscal condition. Last year, AB 850 (Nazarian)
imposed additional oversight and accountability
requirements on some public water agencies that apply to
use rate reduction bond financing. Specifically, AB 850
required:
The California Pollution Control Financing
Authority in the State Treasurer's Office to review
and approve the use of rate reduction bond financing
proposals pursuant to specified procedures.
The California Debt and Advisory Commission to
evaluate the results of the financing used for the
authorized projects.
The Committee may wish to consider amending SB 936 to add
the same approval and reporting requirements that were
included in AB 850.
4. Measuring savings . SB 936 requires the CPUC, as part
of a financing order authorizing the imposition of a water
supply charge to secure water rate relief bonds, to
determine that "the imposition and collection of the water
supply charges, and the issuance of water rate relief bonds
payable from those charges, would reduce the rates on a
present value basis that customers within the qualifying
water utility's service territory would pay as compared to
the use of traditional utility financing mechanisms." This
language does not clearly require that a water supply
charge must be included in calculations to determine
whether future rates paid by customers will be reduced. SB
936 also does not define what "traditional utility
financing mechanisms" the CPUC should consider when
determining whether rate relief bond financing will result
in lower rates. The Committee may wish to consider
amending SB 936 to:
Specify that the CPUC must determine that the total
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payments for which ratepayers will be responsible,
including water supply charges, will be lower, on a
present value basis, than rates customers would pay if
the project was financed using "traditional utility
financing mechanisms," and
Clarify what alternative "traditional" financing
tools should serve as a basis for comparison when the
CPUC determines savings to ratepayers.
5. Consistency . SB 936's provisions generally appear to
be consistent with the terms of the "securitization" that
is described in the settlement agreement among parties to
the CPUC proceeding for Cal-Am's proposed Monterey
Peninsula Water Supply Project. However, some specific
provisions of the settlement agreement do not appear in the
bill. For example, the settlement agreement requires that
Cal-Am must have a fixed equity investment of at least
27.0% of the project's total costs, but the bill would
allow Cal-Am to finance all of its costs through water
supply charges. The settlement agreement also specifies
that the securitization will be for a period of 20 to 30
years, but SB 936 does not limit the terms of rate
reduction bonds. To avoid any legal uncertainty that may
be created by differences between the settlement agreement
and the bill, the Committee may wish to consider amending
SB 936 to make the bill's provisions consistent with the
terms of the settlement agreement among parties to Cal-Am's
CPUC proceeding.
6. Public ownership . In response to a voter initiative
petition, MPWMD's Board of Directors placed a measure on
the June 3, 2014 ballot asking voters within the District's
boundaries to adopt or reject a policy of pursuing public
ownership of the Monterey Peninsula water system. If
approved, the ballot measure would require MPWMD's General
Manager to complete a Feasibility Analysis and Acquisition
Plan for the District's acquisition, long-term ownership,
and management of Cal-Am's assets. If the plan concludes
that acquisition is feasible, the District would be
required, as soon as practicable, to take all necessary and
proper actions consistent with its powers under state law
to acquire Cal-Am's water system assets. If Monterey-area
voters approve the June ballot measure, legislators may
wish to consider whether the securitization financing
mechanism authorized by SB 936 would be compatible with, or
an impediment to, efforts to pursue public ownership of
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Cal-Am's water system.
7. Investment grade . State law prohibits a local
publicly-owned utility from financing costs of a utility
project with the proceeds of rate reduction bonds unless
bonds payable from revenues of the utility are, or upon
issuance would be, rated investment-grade by a nationally
recognized rating agency (AB 850, Nazarian, 2013). By
contrast, SB 936 does not apply a similar minimum rating
requirement to debt issued by Cal-Am. Because bonds issued
by Cal-Am might not meet the investment-grade standard,
adding that requirement to SB 936 could prevent Cal-Am from
use the bill's financing mechanism. Legislators should be
aware that SB 936 departs from AB 850' precedent by
allowing rate relief bond financing for a utility that may
not otherwise be able to issue investment-grade debt.
8. Local mandate . Because existing law makes any public
utility that violates the Public Utilities Act guilty of a
crime, Legislative Counsel has determined that SB 936 would
create a new crime. By creating a new crime, the bill
imposes a new state-mandated program. But the bill
disclaims the state's responsibility for reimbursing local
governments for enforcing the new crime. That's consistent
with the California Constitution, which says that the state
does not have to reimburse local governments for the costs
of new crimes (Article XIIIB, 6[a] [2]).
9. Special legislation . The California Constitution
prohibits special legislation when a general law can apply
(Article IV, �16). SB 936 contains findings and
declarations explaining the need for legislation that
applies only to the Monterey Peninsula, Cal-Am, and MPWMD.
10. Double-referral . The Senate Rules Committee has
ordered a double-referral of SB 936, first to the Senate
Governance & Finance Committee, which has policy
jurisdiction over bills relating to local government bonds,
and then to the Senate Energy, Utilities, and
Communications Committee, which has jurisdiction over bills
relating to regulated water utilities and the Public
Utilities Commission.
SB 936 -- 3/10/14 -- Page 14
Support and Opposition (3/27/14)
Support : Monterey Peninsula Water Management District;
California Water Association; Cities of Carmel-by-the-Sea,
Monterey, Pacific Grove, Sand City, and Seaside; Coalition
of Peninsula Businesses; Monterey County Board of
Supervisors; Monterey Peninsula Chamber of Commerce;
Monterey Peninsula Regional Water Authority.
Opposition : WaterPlus.