Court Opinion

ID: 9789582
Source: CourtListenerOpinion
Date Created: 2023-08-31 01:38:40.915985+00
Date Added: 2024-06-11T07:37:23.299787
License: Public Domain

CLARK, J.
I dissent.
Until today it was settled by statute and case law in California that “ratemaking” could not be retroactive. The Public Utilities Commission order patently constitutes retroactive ratemaking because it provides credits for the difference between lawfully fixed, final rates and those rates which in the commission’s present view should have been collected.
The commission attempts to avoid the rule against retroactive rate-making by claiming there is no retroactivity. However, the measure of the credit remains asserted past “overcollections,” and, as the majority recognize, the credit is retroactive in effect. (Ante, p. 830.)
Rejecting the commission’s attempted distinction, the majority attempt to avoid the rule against retroactive ratemaking on the theory that adjusting rates does not involve ratemaking. (Id) Not only is the majority’s basic premise fallacious, but their holding that adjustments are exempt from the rule against retroactive ratemaking effectively abrogates the rule, establishes a new system which can be manifestly *832unfair, and creates uncertainties which can only result in downgrading all California utility bonds, potentially costing our citizens billions of dollars.
Attempting to establish a need for retroactive ratemaking, the majority speculate that Edison received excessive profits during the periods involved here. The speculation is false and unwarranted. Edison’s return for the period is before us as part of the record. But the majority chooses to ignore the record which shows Edison did not receive excess profits. To the contraiy, Edison’s rate of return fell below 8.2 percent approved by the commission. When those results are adjusted for the credits ordered, it is apparent that Edison’s rate of return will be closer to 4 percent than to 8.
I. The Commission’s Actions
On 18 March 1975 the Public Utilities Commission began to review the electric fuel cost adjustment of the major electric generating corporations. The commission concluded in Decision No. 85731 to abandon the existing method of computing the fuel cost adjustment and to substitute a new method, the energy adjustment clause. The commission also directed that future rates of the corporations be adjusted over a 36-month period, increasing or decreasing the rates by the difference between revenues collected pursuant to the old fuel cost adjustment and actual fuel costs.
In this review proceeding, Edison does not object to switching from the fuel cost adjustment to the energy adjustment clause; rather, it challenges the commission’s order directing rate adjustment on the basis of past revenues and costs, approximating $177 million as of 31 August 1975.
The commission’s general approach in rate proceedings is “to determine with respect to a ‘test period’ (1) the rate base of the utility, i.e., value of the property devoted to public use, (2) gross operating revenues, and (3) costs and expenses allowed for rate-making purposes, resulting in (4) net revenues produced, sometimes termed ‘results of operations.’ Then, by determining the fair and reasonable rate of return to be fixed or allowed the utility upon its rate base, and comparing the net revenue which would be achieved at that rate with the net revenue of the test period, the commission determines whether and how much the utility’s *833rates and charges should be raised or lowered. . . . The test period is chosen with the objective that it present as nearly as possible the operating conditions of the utility which are known or expected to obtain during the future months or years for which the commission proposes to fix rates. The test-period results are ‘adjusted’ to allow for the effect of various known or reasonably anticipated changes in gross revenues, expenses or other conditions, which did not obtain throughout the test period but which are reasonably expected to prevail during the future period for which rates are to be fixed, so that the test-period results of operations as determined by the commission will be as nearly representative of future conditions as possible.” (Pacific Tel. & Tel. Co. v. Public Util. Com. (1965) 62 Cal.2d 634, 644-645 [44 Cal.Rptr. 1, 401 P.2d 353]; City of Los Angeles v. Public Utilities Com. (1972) 7 Cal.3d 331, 336 [102 Cal.Rptr. 313, 497 P.2d 785].)
Among the costs to be recovered by electric utilities are their fuel costs for hydroelectric power, nuclear fuel, and for fossil fuels such as coal, gas, and oil. When Edison’s rates were fixed in 1971, fuel requirements were estimated on the basis of historical average conditions of precipitation and temperature, a method used for many years. Fossil fuel prices were based on historical prices.
Recognizing that fossil fuel prices were increasing rapidly and that an expedited method of rate adjustment was required, the commission in 1972 approved a fuel cost adjustment allowing rate adjustments for fossil cost changes without a full rate hearing. The commission pointed out that the expedited proceeding would lessen the frequency of general rate cases and enhance the utility’s position in the financial community. Application for adjustment could be made every three months.
To determine the appropriate adjustment under the fuel clause, Edison first estimated total energy requirements based on a 12-month forecast using average weather conditions. Edison then deducted the portion of the energy requirements to be met by nonfossil fuels. The remainder was the estimated fossil fuel requirement. By estimating current costs of gas, coal and oil and comparing costs of those fuels reflected in the base rates, Edison would fix the increase or decrease in revenue needed during the forecast period.
In years of above average precipitation, more hydroelectric power is generated than is contemplated by the original rates and by the *834adjustment since they are based on average year weather conditions. There is a large difference in cost between hydroelectric power and fuel oil, and in wet years the fuel clause will produce revenue in excess of expense actually incurred. The reverse will be true in dry years. Over an extended period it is not unreasonable to expect excess revenue in wet years to roughly balance against the revenue shortage of dry years. However, because long range weather conditions remain unpredictable, there may be no balance, and over a shorter period, the likelihood is that revenues and expenses will not balance.
In its review the commission found that all filings by the utilities complied with the latter’s fuel clause adjustments, the rates were just and reasonable, and all funds collected as a result of the adjusted tariffs were lawfully collected. Nevertheless, because of above average precipitation and because more natural gas was available than had been anticipated, the fuel adjustment resulted in an increase in actual revenues substantially exceeding any increase in fuel costs actually incurred.
Due to lack of correlation between actual revenues and actual costs under the old fuel adjustment, the commission decided to abandon it, switching to a new fuel adjustment based on actual or recorded costs. The commission also directed Edison to compute the amount of revenue collected and the increased fuel cost experienced under its fuel adjustment clause in the past and to credit against future charges for the next 36 months the amount by which the past revenues exceeded costs.1
Edison claims that the credit requirement is unlawful retroactive ratemaking and that, even if not, the credit requirement was improper because the basic rates plus the adjustment failed to produce the rates of return allowed by general rate proceedings.
II. The Rule Against Retroactive Ratemaking
Public Utilities Code section 728 provides: “Whenever the commission, after a hearing, finds that the rates . . . demanded, observed, charged, or collected by any public utility for or in connection with any service . .. are ... unreasonable . . . the commission shall determine and *835fix, by order, the just, reasonable, or sufficient rates ... to be thereafter observed and in force....”
Section 734 provides: “. . . No order for the payment of reparation upon the ground of unreasonableness shall be made by the commission in any instance wherein the rate in question has, by formal finding, been declared by the commission to be reasonable ....”
In Pacific Tel. & Tel. Co. v. Public Util. Com., supra, 62 Cal.2d 634, 649-656, this court held the Legislature intended that rates be fixed prospectively only. In that case, the commission initiated an investigation of the utility rates, found the rates to be unreasonably high, established new lower rates, and ordered the utility to refund amounts collected in excess of the new rates during the period between the initiation of investigation and its order reducing rates.
Invalidating the refund order, this court reasoned that rate changes are legislative in character and prospective in application, that the language of section 728 is plain and unambiguous in requiring rates to be fixed prospectively, and that numerous courts in other jurisdictions have interpreted similar language as prohibiting retroactive rate reduction. It was also pointed out that Public Utilities Code section 734 prohibits reparations on the ground of unreasonableness of a rate where the commission formally found the rate to be reasonable and the charges had been collected accordingly. The court stated that policy arguments asserted in favor of granting the commission retroactive ratemaking authority should be addressed to the Legislature.
This court adhered to the rule against retroactive ratemaking in City of Los Angeles v. Public Utilities Commission (1972) 7 Cal.3d 331, 338, 355-359 [102 Cal.Rptr. 313, 497 P.2d 785]. There the commission granted a substantial rate increase to the utility, and on petition for writ of review, we granted a stay permitting collection of the increased rates subject to refund.
When this court annulled the rate increase and remanded the case for further proceedings, it was held that the entire increase must be refunded—the new rates being annulled, the old rates remaining in effect. We expressly rejected a claim by the utility that the refund should be limited to the difference between the rates collected and the rates to be set in further proceedings. It was not disputed that the preexisting *836rates—reestablished by annulment of the new rates—may have been unreasonable as of the date of the commission’s invalid order setting new rates. Rather, assuming the evidence might warrant a finding of unreasonableness, the court stated: “To permit the commission to redetermine whether the preexisting rates were unreasonable as of the date of its order and to establish new rates for the purpose of refunds would mean that the commission is establishing rates retroactively rather than prospectively.” (7 Cal.3d at p. 357.)
It was noted substantial policy reasons exist both for and against permitting retroactive ratemaking and that it was for the Legislature to determine whether California should repeal its policy against retroactive ratemaking. (7 Cal.3d at p. 357.)
The rule against retroactive ratemaking places upon the utility the risk that in fixing the rate the commission erred in estimating expenses and revenues. If the estimated revenues were too high or the estimated costs too low, the utility will bear the loss and fail to recover the projected rate of return. On the other hand, if the estimated revenues are lower than those that actually occur or the estimated costs higher than actual costs, the utility will benefit. Because so many circumstances exist significantly affecting expense and revenue, it is to be anticipated that estimated costs and revenues will rarely, if ever, equal actual ones and that the utility will realize more or less than the predicted rate of return.
The rule against retroactive ratemaking serves to encourage efficiency because the utility will strive to hold down costs so as to increase profits under the established rate.2 Permitting retroactive ratemaking would shift the risk of error in estimating costs and revenues from the utility to the consumer, reducing the utilities’ incentive for efficiency.
The above cases establish that once a lawfully adopted rate is fixed a subsequent finding that it is either unreasonably high or low does not justify either refunding excess revenues collected pursuant to the rate or retaining revenues collected pursuant to an invalid rate increase. To either refund or retain on the basis of what would have been a reasonable rate constitutes retroactive ratemaking.
*837The use of the credit system in the instant case likewise involves retroactive ratemaking. The credit is substantially equivalent to the refund. The basis of credit calculation is not estimated costs, revenues and rate of return for future activities but rather revenues collected in prior years and the revenues which in retrospect would have constituted a reasonable rate during past periods. There is no substantial difference—from the standpoint of ratepayer or utility—between repayment by way of credit against future billings of the assertedly excess amount collected and repayment by way of refund, the practice condemned in Pacific Tel. & Tel. Co. v. Public Util. Com., supra, 62 Cal.2d 634, 649-656. The commission is establishing a new rate for a past period and in effect requiring refunds for amounts collected in excess of the new rates, the practice condemned in City of Los Angeles v. Public Utilities Commission, supra, 7 Cal.3d 331, 357.
III. The Commission’s Reasoning
Although the commission in the instant case found the old rates reasonable rather than unreasonable, this can furnish no lawful basis for the credit. It would be anomalous to permit the commission to require credits on the basis of reasonable rates while denying it power to grant credit for unreasonable ones.
The commission claims that the credit requirement is not retroactive ratemaking but merely an “adjustment of future” rates based on an incomplete weather cycle. The commission points out that the original adjustment was based on average year weather conditions, and that over the years above average precipitation resulted in revenues exceeding costs. The commission asserts the credit system merely compensates for the balance of the weather cycle—because below average precipitation years may be expected in the future. However, future weather conditions are as unpredictable today as in 1972, 1973, 1974, and 1975. There is nothing in the record to show that three or four wet years will be followed by dry years, that there is a predictable weather cycle, or that Edison, should the average year calculation be continued, would have its so-called “overcollections” balanced by “undercollections” in the future. Moreover, even if a basis exists for concluding there is a predictable weather cycle, nothing indicates that it commenced in 1971 or did not end in 1975. So far as appears, the preceding four years when Edison was charging on the average precipitation basis may have been dry ones, yet *838no adjustment is made. Similarly, the next 10 years are as likely to be wetter than average as drier than average.3
The possibility that a new or different method of accounting practice for ratefixing might be more favorable to a utility, or fairer than an old method, does not warrant reducing rates for the future below those called for by the new method. As mentioned at the outset of this opinion, the basic system of ratemaking is to estimate the rate base, to fix a reasonable rate of return upon the estimated rate base, to estimate the costs of the utility, and to set the rates to provide revenues to cover the estimated return and costs. Adjustments to the estimated rate base or estimated costs used in fixing the rate will not be allowed unless justified by a showing that extraordinary rate base changes or cost or revenue changes may be reasonably anticipated to occur without compensating factors. (City of Los Angeles v. Public Utilities Commission, supra, 7 Cal.3d 331, 345-348, 351.) The credit provision does not reflect an estimated cost to be incurred, a factor to be included in estimated rate base, or an estimated revenue to be received, and thus the change in accounting practices does not justify the credit.
The reliance on weather cycles is a subterfuge—the basis of the credit provision is its measure, the difference between revenues received under the fuel adjustment and the actual costs of the fuel in past years. Requiring return of profits earned under prior lawful rates is the essence of retroactive ratemaking.
The commission attempts to rely upon language in City and County of San Francisco v. Public Utilities Com. (1971) 6 Cal.3d 119 [98 Cal.Rptr. 286, 490 P.2d 798] to the effect that it has the power to prevent utilities from resorting to accounting practices resulting in unreasonably inflated expense figures and may disallow expenditures reflecting unreasonable costs for materials. However, that case was concerned with the calculation of future costs for the purpose of fixing future rates—not for *839calculating past lawful profits for the purpose of refunds or credits against future rates. (6 Cal.3d at pp. 126-129.)
IV. The Majority Holding
The majority hold that adjustments of rates do not constitute ratemaking. This reflects a misunderstanding of the justification, procedure and result of an adjustment.
As pointed out above, rates are fixed on the basis of revenues, costs, the rate base, and the reasonable rate of return to be allowed the utility. Although a test year’s figures are initially used, those figures may be adjusted to reflect reasonably anticipated changes to occur in the future. (Pacific Tel. & Tel. Co. v. Public Util. Com., supra, 62 Cal.2d 634, 644-645.) If the adjustments are to be made, they must be made throughout the equation—it is improper to adjust the expense side or rate base without also adjusting the revenue side, unless the expense or rate base adjustment is extraordinary in comparison to past practice. (City of Los Angeles v. Public Utilities Commission, supra, 7 Cal.3d 331, 345-348.)
In a growing state like ours it is obvious that revenues, expenses, and rate base will not remain constant but will increase. Whether test year results are adjusted for anticipated changes or not, the entire system of ratemaking is based on estimates of what the future will hold, and it is obvious that (he estimates will rarely, if ever, be exactly realized. The basic assumption underlying the fixing of the rates on the basis of historical data is that for future years changes in revenues, expenses, and rate base will vary proportionally so that the utility will receive its authorized rate of return. (City of Los Angeles v. Public Utilities Com. (1975) 15 Cal.3d 680, 692 [125 Cal.Rptr. 779, 542 P.2d 1371].) The utility is required to record the results of its operations, and should it appear that the relationship is not being maintained, the utility or the commission staff may institute proceedings for new rates.
Rather than require a full rate proceeding each time that it appears .the anticipated results are not being obtained, in recent years the commission has provided for adjustments when there has been an extraordinary change of substantial magnitude in cost item or rate base. In the adjustment proceeding it is assumed that—except for the extraordinary item—revenues, expenses, and rate base have remained constant or have *840varied proportionately to each other. Thus the extraordinary change may be isolated, and a new rate fixed on the basis of calculations from the old one. As pointed out in City of Los Angeles v. Public Utilities Com., supra, 15 Cal.3d 680, 691, in discussing an annual adjustment for a tax reserve reducing rate base: “The effect of annual adjustment in some respects resembles that which would occur if the commission each year conducted a new rate proceeding in which all factors except that of tax reserve held constant.”
The abbreviated adjusted rate proceedings will always reach the same result as if the commission had undertaken a general rate proceeding and used the same test year as it did in fixing the original rate, adjusting estimated revenues, expenses, and rate base for the extraordinary item. Rather than repeat all of the arithmetic, the commission merely adjusts for the extraordinary item.
It is clear from the foregoing that, contrary to the majority, the adjustment proceeding is ratemaking. It is the fixing of rates based on the assumption that—except for the estimate of the extraordinary item and the estimate of revenue needed to offset the extraordinary item—all revenue, expense, and rate base estimates shall be fixed on the basis of the original test year. Moreover, once the adjusted rate becomes final it is the only rate which the ratepayers pay and the utility collects. There is no two-part system, an old rate and an adjustment; the old rates no longer exist.
The process used in fixing the adjusted rate is the same as the original rate proceeding, the commission not bothering to repeat its old estimates. The result of the adjustment is a new rate. Ratemaking procedures being followed and a new rate being established, we should recognize that the adjustment is ratemaking.
The majority’s decision effectively abrogates the rule against retroactive ratemaking because the commission may avoid the rule whenever it chooses simply by denominating its rate-changing proceeding as an adjustment proceeding rather than a ratemaking proceeding. If we are to permit the commission to engage in retroactive ratemaking, we should require it to do the full job rather than permit it to choose its spots. The undisputed evidence in the record is that during the relevant period herein, Edison’s total revenues—including those attributable to the fuel clause adjustment—were not sufficient to produce the rate of return *841authorized by the commission. Instead of credits against future rates, Edison would be entitled to surcharges. While true retroactive ratemaking is fair to the utility and the ratepayers, the commission’s selective retroactive ratemaking approved by the majority may be and in this case is manifestly unfair.
It must also be pointed out that the majority is not loyal to its tenets. In approving the credits, because they are products of the adjustment proceedings, the majority fail to recognize that the basis of the adjustments—changes in the price of oil—did in fact occur. The credits—according to the commission and the majority—are proper because the estimates of quantity of oil to be used proved to be erroneous. But the quantity estimates were fixed in the original rate proceedings—so far as I can determine they were not adjusted in the adjustment proceedings. Thus, the credits are not designed to correct an error in the adjustment proceedings but an error in the original proceedings which was merely carried forward into the adjusted proceedings on the theory that all other matters remained constant.
We must also recognize the practical consequences of today’s decision.4 While it may seem inappropriate to invoke the characterization of penny wise and pound foolish in a case that directly involves over a hundred million dollars, the saying properly reflects the consequences of the majority holding. The uncertainties resulting from today’s decision can only result in downgrading the securities of all California utilities. Today’s decision means that investors contemplating purchase of bonds issued by California utilities may put only very limited reliance on the balance sheets and profit and loss statements. The investor looking at those documents must be aware that they are suspect because the commission—through an adjustment not subject to the rule against retroactive ratemaking—may refix the rates, thus requiring refunds or credits. Under the new California system the investor also will be denied the certainty of rate of return which would be guaranteed in a jurisdiction establishing full retroactivity, i.e., the rates will be refixed *842allowing surcharges or credits to assure that the utility obtains its promised rate of return and no more.
The costs of downgrading cannot be minimized. As pointed out by the Wall Street Journal on 12 January 1978, page 19; with regard to a January 1978 bond issue of Pacific Telephone: “Pacific Telephone has the poorest credit rating among the 21 Bell System operating companies. Its obligations are classified double-A-minus by Standard & Poor’s and double-A by Moody’s, which lowered its rating from triple-A prior to yesterday’s new sale. [1Í] That downgrading by Moody’s will raise Pacific Telephone’s interest cost by ‘approximately $35 million over the 40-year life of the $300 million issue,’ an official estimated recently. Two earlier such rating reductions by Standard & Poor’s effectively boosted the interest payments by about $55 million, he added. [If] Moreover, Pacific Telephone’s 61,000 bondholders ‘suffer a loss in the market value of their securities of some $75 million,’ Arthur C. Latno Jr., vice president for external affairs, said. ‘When our debentures are downgraded for the third time in five years due to California’s regulatory climate, it has to be a matter of grave concern to us and to every telephone user in the state,’ he added.”
Today’s decision will no doubt require downgrading of Edison’s debt securities because of the amount of money credited. More importantly, the uncertainties of selective retroactive ratemaking authorized by the majority will affect the credit-worthiness of all California utilities, and the potential cost will run into billions. As dissenting commissioners Symons, Jr., and Sturgeon pointed out: “It would be ironic that the fuel cost adjustment clause, legitimately introduced to enhance the position of the utilities in the financial community and to guard that their ability to function be not impaired, be turned around like a boomerang to cause these very deteriorations it was supposed to prevent.”
Even assuming that Edison did obtain excess profits or a so-called “windfall” during the period of the original fuel adjustment, the price that will be ultimately exacted from the ratepayers in order to permit the credits is too great. It may easily be in the billions. Moreover, the evidence in the record directed to the profit issue shows that Edison did not obtain the rate of return authorized by the commission during the period at issue. Although the adjustments viewed alone might be said to create a “windfall,” other matters created a shortfall, and Edison’s activities as a whole did not result in excess profits or a windfall.
*843The majority claim City of Los Angeles v. Public Utilities Com., supra, 15 Cal.3d 680, shows the credit does not involve retroactive ratemaking. However, the case did not involve a refund or credit of rates fixed, final, and lawfully collected, but merely a provision for adjusting rates to be collected after the adjustment became final.
I would adhere to the rule against retroactive ratemaking and annul Decision No. 85731 insofar as it provides for the credit.
Richardson, J., and Rouse, J.,* concurred.
Petitioner’s application for a rehearing was denied May 25, 1978. Tobriner, J., did not participate therein. Clark, J., and Richardson, J., were of the opinion that the application should be granted.

The amounts to be credited are characterized by the commission as “overcollections.” Edison challenges the characterization on the ground the funds were collected pursuant to final rates lawfully fixed by the commission. The label placed on the amounts to be credited is not determinative. Rather, we must look to the basis of the credit.

The utility will be the immediate beneficiary of cost savings due to increased efficiency. However, when rates are adjusted, the adjustments will be based on historical costs, including savings due to increased efficiency. In this manner the ratepayer will ultimately benefit from increases in efficiency.

While California experienced drought in 1976 and 1977, the drought mainly affected the northern and central parts of the state rather than the southern part—Edison’s main area of operation. The water storage levels on the south coast were average and Colorado River storage above average as of 1 October 1976. While as of 1 May 1977 the south coast had dropped to 75 percent of average, Colorado River storage was at 130 percent of average on that date. (Water Conditions in California, Dept. Water Resources Bull. No. 120-77, Rep. No. 4 (1 May, 1977) p. 5; The California Drought—1977: An Update, Dept. Water Resources (15 Feb., 1977) p. 5.)

These consequences would not follow from the commission’s decision, but they do follow from the majority’s decision which is much broader. The commission’s decision is predicated in part on the theory that the utility may avoid detriments—which would otherwise occur—by the change from the old fuel adjustment clause to the new one. This is a situation which would rarely occur. The majority’s decision is much broader, holding rate adjustments are not subject to the rale against retroactivity. This decision may affect every utility rate in the state.

 Assigned by the Chairperson of the Judicial Council.